What is a franchise Royalty Fee? It is a most common question among aspiring franchise owners. To make it easier for an investor to understand this fee and how the franchisor calculates it, we will outline all facts regarding royalties in the franchising industry.
Key Takeaways
- The Royalty Fee is the main source of income for the owner (franchisor) of the brand’s Trademarks.
- The Royalty Fee is usually charged according to the Gross Sales that the location/unit makes per month.
- The fast-food industry has the lowest royalties, and service franchises usually have the highest royalty fee.
- The Royalty and Ad/Marketing Fees are ongoing fees that franchisees need to pay on a monthly basis.
What is Franchise Royalty Fee
Franchise Royalty Fee is a payment that the franchise owner is obligated to pay to the franchisor every month/week regularly during the whole duration of the Franchise Agreement.
The royalty fee is the franchisor’s primary source of the profit, and the franchisee pays it in return for the assistance that the owner of the Trademarks provides to him in every business segment.
Although this fee may seem like a disadvantage of buying a franchise, this can be beneficial in the long run for the investor who owns the franchised business.
A good franchisor will always calculate its royalty fee percentage in an amount that will not burden too much on overall business profitability. It means that franchisees will still have plenty of room to extract good profit margins from their franchised businesses.
However, not all franchising opportunities are good ones. Some franchisors want to extract for themselves as much as they can profit from their franchisees. Because of it, investors must research how the franchisor conducts its business operations before signing the franchise agreement.
How Franchisors Calculate Franchise Royalties
The franchisors usually calculate royalty fees according to the gross sales that franchised location has made per month or week. This fee can be from 4% to 12% of the gross sales; the percentage fluctuates highly from industry to industry.
Sometimes the royalties are calculated from the net sales, which can be beneficial because the franchisee will not pay the franchisor fee for operational expenses that his business has.
Also, some franchising companies charge a fixed royalty fee. That means that the franchise unit owner will pay the same amount to the franchisor every month/week no matter how much its business makes gross sales.
It is not soo uncommon that franchisors reward franchisees who have better results. Some franchisors charge reduced royalties for those business owners who made more annual gross sales.
So before signing a franchise agreement, every investor must do their due diligence and understand how their potential franchisor calculates royalties.
What Is The Average Royalty Fee For a Franchise Industry
The average royalty fee for a franchise industry on a national level is between 4% to 5% of the gross sales.
However, this is average if we combine all franchising companies in every industry!
Aspiring franchise owners must be aware that most franchised businesses are operating in the fast-food sector and because of that average royalty fee on the national level is almost the same as one that we can find in the fast-food industry.
Also, some franchisors charge fixed royalties, and some charge this fee according to the revenue that franchised locations make.
Types of Franchise Fees
Royalty isn’t the only fee the franchise buyer needs to pay to the franchisor. So we will outline other expenses that investors can find in the franchising industry.
1. Initial Fee
The initial fee is a one-time cost that all franchise buyers must pay immediately after signing a franchise agreement with the franchisor. By paying it, the franchisee gets the right to use the Trademarks of the franchisor.
This fee is usually between $10,000 and $50,000, the exact cost can vary significantly, and it depends on the industry in which franchised businesses operate.
2. Renewal Fee
Franchise agreements usually are signed for a period of 5 to 10 years. After that period franchisee must pay the franchisor Renewal Fee to retain rights to use franchisor trademarks.
Usually, this fee is 50% of the Initial Fee cost. So if some brand charges an Initial $50,000, the Renewal Fee will cost $25,000.
3. Ad/Marketing Fee
Te owner of the trademarks(franchisor) has certain marketing costs on the national and local levels. To be able to invest more money in ad campaigns, more than 90% of the franchisors charge ongoing marketing fees.
This fee is usually charged 1% to 4% of the Gross Sales that franchised locations make. So every potential franchise buyer must be aware that the marketing royalties must be paid to the franchisor every month/week during the whole duration of the agreement.
What Buyer of The Franchise Gets in Return for Paying Royalties
By paying royalties, the franchised business owner gets the franchisor’s full help, guidance, and service in every aspect of the business operations.
Although the royalties can seem like an unnecessary expense, investors must be aware that by buying a franchise, they get insight into the proven business model and franchisors operating manuals which can be very handy in everyday onsite work.
The franchised business has less failure rate than independent ones; this is due to the fact that franchisors share with their franchisees knowledge. So, giving a few percent from gross sales will not be too much of a burden on overall business profitability.
Summary
It is very easy to understand what is royalty fee in a franchise and why it is necessary to pay it. However, every potential franchise owner must due his due diligence and research the franchisor’s reputation among current and former franchisees.
A good franchisor will calculate royalties in percentages that will leave enuff space for the profit of the investor/buyer of the franchise. So, to operate a successful franchised business location, it is necessary to choose the right franchisor, and that will take time and effort.
So take time, and do your homework in the right way!