Franchise Terminology: Key Terms Explained
A
Acknowledgement of Receipt: Document confirming the franchisee's receipt of the Franchise Disclosure Document (FDD).
Advertising Fee: An annual fee, typically ranging from 1% to 3% of the franchisee’s annual sales, paid by the franchisee to the franchisor for corporate advertising. This fee supports the franchisor's marketing efforts and brand awareness initiatives. Not all franchisors charge advertising fees, and the specific percentage may vary.
Agent: Individual authorized to act on behalf of another, such as a franchisee or franchisor.
Agreement: Legal contract outlining terms and conditions between franchisor and franchisee.
Anchor Tenant: A prominent retail or commercial establishment, often a large national or regional chain like a department store or supermarket, strategically located in a shopping center or mall. Known as the "anchor," these tenants attract customers to the shopping center, benefiting smaller businesses by driving foot traffic and contributing to overall success.
Approved Products: Proprietary products required to be purchased from the franchisor or designated suppliers, ensuring uniform quality among franchisees.
Arbitration: A dispute resolution process where a neutral third party hears both sides and renders a decision, offering an alternative to costly and time-consuming legal proceedings.
Area Developer: A type of multi-unit franchise where the developer, known as the area developer, is granted exclusive rights to develop and sub-franchise within a specific geographic area. Area developers are responsible for both developing new units and recruiting franchisees to operate them. They typically have certain development obligations and may also enjoy exclusivity rights within their designated region.
Asset Purchase: A type of franchise acquisition where the buyer purchases specific assets of an existing franchise business rather than buying the entire business entity.
Audit: A review conducted by the franchisor to ensure compliance with the terms of the franchise agreement and operating standards.
B
Broker: An intermediary facilitating the sale and purchase process, representing either sellers or buyers, or both, in franchise transactions.
Business Format Franchising: A franchising model where the franchisor licenses the franchisee to use its products, services, and trademark, along with providing comprehensive business format training and support.
Business Plan: A strategic document outlining the objectives and steps necessary to achieve success in a franchise business. Beyond strategic planning, a business plan serves as a crucial tool for obtaining financing and guiding day-to-day operations, including marketing, financial management, and personnel recruitment.
Buy-Sell Agreement: A legal document detailing the conditions under which a business may be sold, often addressing ownership changes, valuation, and transfer terms.
C
Capital: Liquid assets, including cash, stocks, and bonds, used for investment or operational purposes within a franchise business.
Company-owned Outlet: Stores or offices established and operated by the franchisor, often serving as benchmarks for franchisee operations.
Conversion Franchise: A franchise model allowing existing independent businesses to join a franchise system, leveraging the brand, systems, and support of the franchisor.
Copyright: Legal protection granting exclusive rights to use and license intellectual property, such as published materials, within a franchise system.
D
Default: Failure to fulfill obligations as outlined in a contract, such as a franchise agreement, leading to potential consequences or legal action.
Designated Supplier: Supplier approved by the franchisor for purchasing approved products, ensuring consistency and quality across franchise locations.
Disclosure: Providing information, either positive or negative, to prospective franchisees about the franchisor or franchise opportunity, typically outlined in the Franchise Disclosure Document (FDD).
Disclosure Document: A legal document mandated by the Federal Trade Commission (FTC), providing prospective franchisees with detailed information about the franchisor, its history, financial performance, fees, and obligations. This document also includes information about any litigation involving the franchisor or its key personnel, which is critical for prospective franchisees to assess potential risks.
Discovery Day: Also known as a "Franchise Discovery Day," this is an event hosted by the franchisor for prospective franchisees to learn more about the franchise opportunity, meet with key personnel, tour facilities, and ask questions.
Distributorship: Right granted by a manufacturer or wholesaler to sell products to others, similar to a franchise but typically not as comprehensive in terms of business format and support.
E
Earnings Claims: Information provided by the franchisor regarding the past performance of franchisees or the potential financial performance of a franchise, typically disclosed in the Franchise Disclosure Document (FDD).
F
Federal Trade Commission (FTC): The U.S. government agency responsible for regulating franchising, ensuring compliance with federal laws and regulations.
Franchise: An agreement where a person (franchisee) is granted the right to distribute goods or services under the franchisor's trademark, service mark, or trade name, while the franchisor retains control or offers significant assistance.
Franchise Agreement: A legally binding contract outlining the rights and obligations of both the franchisor and franchisee, including terms related to territorial rights, location requirements, fees, and general obligations.
Franchise Consultant: A professional who provides guidance and expertise to individuals or companies interested in franchising, offering services such as franchise selection, evaluation, and development. Franchise consultants may assist both franchisors in expanding their brands and potential franchisees in finding suitable opportunities that align with their goals and resources.
Franchise Disclosure Document (FDD): A document mandated by the FTC, providing prospective franchisees with detailed information about the franchisor, its history, financial performance, fees, and obligations.
Franchise Feasibility Studies: Comprehensive evaluations conducted to determine the practicality and potential success of a franchising opportunity. In addition to assessing market demand, competition, and financial projections, these studies evaluate the franchisor's support systems and the compatibility of the franchise model with potential franchisees' skills and resources.
Franchise Fee: A one-time fee paid by the franchisee to the franchisor for the right to operate a franchise. This fee is typically outlined in the franchise disclosure document (FDD) and covers expenses related to initial training, support, and the use of the franchisor's brand and business model. Franchise fees can vary widely depending on the franchise concept, industry, and brand recognition, but they often fall within the range of $10,000 to $50,000.
Franchise Renewal: The process by which a franchisee extends their agreement with the franchisor after the initial term expires. This may involve negotiating new terms and conditions.
Franchisee: An individual or entity granted the right to operate a franchise business by the franchisor.
Franchising: A business method where a franchisor licenses its business model and brand to a franchisee in exchange for ongoing fees and compliance with franchise standards.
Franchisor: An individual or entity that grants a franchise to a franchisee, allowing them to operate a business using the franchisor's brand and business model.
Furniture, Fixtures, and Equipment (FF&E): Movable assets used in the operation of a franchise business, including furniture, display fixtures, and equipment.
G
Gross Sales: The total revenue generated by a franchise unit before deducting any expenses. Gross sales represent the sum of all money earned from sales transactions, typically measured over a specific period, such as a month or year.
H
Housemark: A trademark used by a company to identify its commercial operations. This trademark may also be the company's name and is often utilized to distinguish the company's products or services. The housemark may be used in conjunction with other trademarks or trade names and plays a vital role in brand identification and recognition.
I
Identify Items: Items that prominently display the registered trademarks or branding of the franchisor. These items, such as signage, uniforms, packaging, or marketing materials, are typically required to be used by franchisees to maintain brand consistency and enhance brand recognition among customers.
Initial Investment: The total amount of capital required to establish and begin operating a franchise unit. The initial investment typically includes various costs such as the franchise fee, equipment purchases, leasehold improvements, initial inventory, and working capital. It represents the financial commitment needed from a franchisee before the franchise business becomes operational.
International Franchise Association (IFA): A leading trade association representing franchisors, franchisees, and suppliers in the franchising industry. The IFA provides various resources, advocacy, education, and networking opportunities to its members, promoting the growth and success of franchising both domestically and internationally.
L
Licensing: Licensing refers to the process by which a franchisor grants permission to a licensee to use its trademarks, brand name, or proprietary systems for a fee or royalty.
M
Marketing Plan: A marketing plan in franchising is a strategic document that outlines the specific tactics and activities franchisees will use to promote and sell the franchise's products or services within their designated territories. It includes market analysis, target audience identification, advertising strategies, promotional campaigns, and sales projections. The marketing plan serves as a roadmap for franchisees to effectively reach and engage their target customers, ultimately driving business growth and profitability.
Master Franchisee: A master franchisee is an individual or entity granted the rights to develop and sub-franchise within a specific geographic territory. As a master franchisee, their responsibilities include overseeing the sale and operation of individual franchises within their designated area.
Master Region: The master region refers to the specific geographic territory that a master franchisee is granted the exclusive rights to develop and operate franchises within. It could encompass a city, state, country, or even an entire continent, depending on the agreement between the franchisor and the master franchisee.
MBE (Minority-Owned Business Enterprise): An MBE is a business entity that is at least 51% owned, operated, and controlled by one or more individuals who are members of a minority group.
MSA (Metropolitan Statistical Area): An MSA is a geographical region defined by the U.S. Census Bureau that includes at least one urbanized area with a population of 50,000 or more, along with adjacent areas that have a high degree of social and economic integration with the core city.
Multi-Unit Franchise: A multi-unit franchise agreement allows a franchisee to operate more than one unit or location under the same franchise brand. This arrangement enables franchisees to expand their business presence within a particular market or geographic area.
N
NAF (National Alliance of Franchisees): A national organization formed in 1977 to advocate for and protect the interests of franchisees nationwide.
Neighborhood Shopping Center: This type of shopping center is strategically designed to cater to the needs of local residents. It typically includes essential services such as supermarkets, drugstores, as well as various specialty shops and service providers, making it a convenient shopping destination for nearby communities.
Net Worth: Net worth represents the total value of an individual's or entity's assets minus liabilities. Franchisors often require potential franchisees to meet a minimum net worth threshold to ensure they have sufficient financial resources to operate the franchise successfully.
Non-compete Clause: A contractual provision that prohibits individuals from engaging in similar business activities within a specified time period and geographic area after leaving employment or terminating a franchise agreement.
O
Offer: An invitation extended by the franchisor, either verbally or in writing, to a prospective franchisee outlining the terms and conditions under which they may acquire a franchise. This includes details such as the franchise concept, territory rights, initial investment requirements, and ongoing support provided by the franchisor. The concept of an offer in franchising encompasses a broader scope than traditional contract law definitions, often serving as the initial step in the franchise sales process.
Operating Manual: A comprehensive set of guidelines provided by the franchisor to the franchisee, detailing the operational procedures and standards necessary to run the franchise successfully. Covering various aspects of the business, including day-to-day operations, marketing, and customer service, the operating manual serves as a reference guide for franchisees throughout their business journey.
P
Personal Guaranty: A legal arrangement where the owner(s) of a corporation personally guarantees the corporation's debt. This means that in the event of default by the corporation, the guarantors become personally liable for the debt obligations.
PMSA (Primary Metropolitan Statistical Area): A geographical area consisting of one or more largely urbanized counties with a significant population of 1 million or more. PMSAs are defined based on criteria such as population density, commuting patterns, and economic ties.
Pro Forma: Financial statements, including balance sheets, profit and loss statements, or cash flow projections, that estimate income and expenses for a future period. Pro forma statements are based on assumptions and forecasts and are often used for planning and decision-making purposes.
Product Format Franchise: A franchise model where the franchisee sells a specific company's products but retains flexibility to offer additional products or services beyond those provided by the franchisor. This format allows for a degree of independence while still benefiting from the franchisor's brand and support.
Protected Continent: A designated geographic area granted to a franchisee under a franchise agreement, where the franchisor agrees not to establish additional franchises or company-owned outlets offering similar products or services.
Q
Qualification Questionnaire: A document prepared by the franchisor to be completed by prospective franchisees. It serves as an initial assessment tool for the franchisor to determine the capability and motivation of potential franchisees.
Quality Control: The process implemented by the franchisor to ensure that franchisees adhere to the operational standards and procedures outlined in the franchise agreement and operating manuals. Quality control measures may include regular inspections, training sessions, and ongoing support to maintain consistency and uphold brand standards across all franchise locations.
R
Real Property: Refers to land and any permanent structures or improvements attached to it.
Regional Development Agreement: A type of franchise agreement where the franchisee, known as the regional developer, is granted exclusive rights to develop and sell franchises within a specific geographic region. The regional developer is responsible for meeting a predetermined development schedule for their designated territory, often requiring the establishment of a certain number of franchise units within a specified timeframe.
Registration: In several states, franchisors are required to submit specific information and documentation to state regulatory authorities before offering franchises for sale in that state.
Royalty Fee: A recurring payment made by the franchisee to the franchisor, usually calculated as a percentage of sales, for the continued use of the franchise system, brand, and ongoing support. A typical royalty fee ranges from 4% to 8% of gross sales, varying by industry and specific franchisor requirements.
Rules of Operation: Also known as operating manuals, these are comprehensive guidelines provided by the franchisor to franchisees outlining the standards, procedures, and requirements for operating the franchised business.
S
SBC (Small Business Centers): General Services Administration (GSA) offices that assist small businesses in acquiring federal contracts for goods and services.
Service Mark: A mark used in the sale of advertising of services of one person and distinguishes them from the services of others.
Sherman Antitrust Act: Legislation that prohibits certain business activities that federal government regulators deem to be anticompetitive.
Site Selection: The process of identifying and evaluating potential locations for a franchise unit, considering factors such as demographics, foot traffic, competition, and lease terms.
Slick: Refers to professionally designed advertising materials or promotional collateral created by the franchisor for distribution and use by franchisees in local marketing efforts. Slicks are typically high-quality, visually appealing materials such as flyers, brochures, posters, or digital graphics that feature the franchisor's branding, product offerings, and promotional messages.
Strip Center: A retail center comprising several small stores arranged in a lineal design, typically without a large anchor tenant.
Subfranchisor: A type of multi-unit franchise where franchisees act as independent selling organizations responsible for recruiting and supporting franchisees within their region.
T
Territory: A defined geographic area in which a franchisee operates and has exclusive rights to offer the franchisor's products or services.
Territory Exclusivity: A provision in the franchise agreement that grants the franchisee exclusive rights to operate within a defined geographic area, protecting them from competition from other franchisees of the same brand.
Territory Fee: A fee paid by a franchisee to secure exclusive rights to operate within a specified geographic area.
Total Investment: The total amount of capital required to establish and operate a franchise business, including initial franchise fees, equipment costs, inventory, leasehold improvements, and working capital.
Trade Area: The geographic region from which a business draws its customers.
Trademark: A distinctive symbol, logo, word, phrase, or design that identifies and distinguishes the products or services of a franchise from those of competitors. It serves as a valuable asset to the franchise brand and is legally protected against unauthorized use by others.
Transfer Fee: A fee paid by a franchisee to the franchisor upon the transfer of ownership or control of the franchise business to a new owner or entity.
Turnkey: Referring to a franchise arrangement in which the franchisor provides everything needed to start and operate the business, including equipment, supplies, training, and ongoing support, allowing the franchisee to begin operations immediately upon receiving the franchise.
Tying: Requiring a franchisee to buy one product as a condition for purchasing another. While tying arrangements can be beneficial, they are subject to antitrust regulations and could potentially lead to legal issues if not carefully structured to ensure compliance with relevant laws and regulations.
U
Unit Franchise: A type of franchise arrangement where the franchisee operates a single unit or outlet under the franchisor's brand and business system. This is in contrast to multi-unit franchising, where a franchisee operates multiple units or locations.
V
Variable Cost: Expenses that change in direct proportion to the level of production or sales. In franchising, variable costs may include expenses such as inventory, labor, utilities, and royalties that vary with the level of business activity.
Vendor: A supplier or manufacturer from whom the franchisor or franchisees purchase goods, products, or services necessary for operating the franchise business.
Vertical and Horizontal Competition: Vertical Competition concerns buyer-seller relationships like franchisor-franchisee ties, often leading to price-fixing or tying arrangements. Horizontal Competition involves firms offering similar products or services within the same market, including franchises and company-owned outlets. Both types are regulated to prevent antitrust issues, with price-fixing illegal at any organizational level.
W
WBE (Women’s Business Enterprise): Denoting a business owned, controlled, and operated by one or more women.
Working Capital: The amount of money required to run a franchise on a day-to-day basis, calculated by subtracting current liabilities from current assets.
Wholesaler: An intermediary entity in the distribution channel that purchases goods in bulk from manufacturers and sells them to retailers or other businesses.
Y
Yield: The return on investment generated by a franchise opportunity, measuring the profitability of the investment by comparing the income generated from the franchise to the initial investment or ongoing costs.