A franchise and a chain may look the same at first glance, but they are actually completely different kinds of business models. A chain begins as a single location. Jack might own a bookstore or a restaurant or a gym, and finds it so successful and satisfying that he decides to open a second. He owns both locations and makes his own decisions about them, and he owns the profits (or the losses) for both locations.
Jill also has a bookstore or a restaurant or a gym. She wants to open a second location, but she decides not to open that location herself. She works out her system perfectly and decides to allow someone else to buy the system and put it into operation at a new location.
In both cases, it’s possible for other people to be involved in the business, but not in the same ways. For example, Jack might have an investor for the second location who puts in money and gets a return determined by Jack and the investor. There will be a contract, and the investor probably takes on some of the risk along with Jack along with partial ownership.
Or Jack might hire a manager for the second location. The manager will typically be an employee and will not put in money or accept any risk (apart from the risk of losing the job if the second location doesn’t do well). Jack owns the store, and accepts the risk and the responsibility for making decisions about the second location and conveying those decisions to the manager.
Jill, on the other hand, is selling her system and support and the right to use her company’s name and trademarks to a franchisee. The franchisee invests money and accepts the risk, and also accepts Jill’s terms. Those terms will probably include a responsibility to maintain a consistent experience at the second location and at all the future locations as well.
You could approach Jack and see whether he would be willing to let you be the investor or the manager at the second location. You could even see whether he’d be willing to sell you the second location — but chances are good that you would not be able to keep the name of the company, the trademark, or any of the other branding elements if Jack’s first location is still in business.
While you might make special arrangements of one kind or another with Jack, you would have a private deal that would not be covered by Federal Trade Commission rules regarding franchising.
Approaching Jill would be completely different. She is looking for franchisees and she will allow you to own the second location if you meet her criteria. You will have a franchise agreement with her, you’ll support her brand, and you will probably pay both a franchise fee and regular fees called royalties.
Royalties are usually a percentage of the revenue of the franchise location, and 4-6% is typical. The royalties are generally a percentage of the entire revenue, not of the profit, and they should be considered as a normal cost of doing business. Profits are what’s left after the royalty fee is paid, along with rent, utilities, labor costs, and all the other normal costs of doing business. The royalties cover Jill’s ongoing support and also allow Jill to make a profit from her business.
