Considering franchising as a business opportunity? Like most industries, franchising has its own language. Familiarizing yourself with the lingo before beginning your search for the perfect franchise can help ease the research process.
Absentee Ownership: An absentee owner uses a manager-run model where they hire someone to manage day-to-day operations. This allows an absentee owner to focus on top-level growth.
Acknowledgment of Receipt: Item 23 or the final page of a Franchise Disclosure Document (FDD), which once signed and returned, confirms to the franchisor the date you received the document.
Advertising Fee: The monies that a franchisee is required to contribute to the advertising fund or the advertising co‐op. These funds are used to pay for system‐wide advertising and promotional expenses.
Area Developer: The franchisor awards a single franchisee the right to operate more than one unit within a defined area, under a development agreement and based on an agreed‐upon development schedule.
Area Representative: A type of franchisee that can own and operate franchise outlets, represent the franchisor in selling new franchises, and provide ongoing local support to existing franchisees in a designated market. The area representative normally receives a portion of the royalty fees (and possibly the up‐front franchise fee) payable by the franchisees to the franchisor.
Broker: An intermediary who manages the sale and/or purchase of an existing franchised business. Brokers can represent either sellers, buyers, or both. A business broker commonly, but not always, has a fiduciary duty within the relationship.
Business Plan: A business plan is a formal statement of a set of business goals, the reasons why they are believed attainable, and the plan for reaching those goals. It may also contain background information about the organization or team attempting to reach those goals.
Capital: A term for financial assets or their financial value (such as funds held in deposit accounts).
Company-Owned Location: A location that is owned and operated by the franchisor. They are usually identical in appearance and operations to those of the system’s franchises. Most company-owned locations contribute to the system’s advertising fund (not always required).
Discovery Day: An event set up by the franchisor so that potential franchisees may learn more about becoming a franchisee. A discovery day typically takes place at the franchisor’s headquarters and is often the final step in the due diligence process. It provides the opportunity to meet the management team, support team, and trainers face‐to‐face.
Distributorship: This is the right granted by a manufacturer or wholesaler to sell their products.
Due Diligence: Usually undertaken by investors (prospective franchisees), but also customers, due diligence refers to the process of making sure that someone is what they say they are and can do what they claim; i.e., investigation of a business or franchise.
Exclusive Territory: A territory assigned to a franchisee within which a franchisor agrees not to operate a facility (or grant a license to another party to operate a facility) that is the same as the franchised business, under the same marks, and under the same system. Not all franchisors offer exclusive territories.
Franchise: A license that describes the relationship between the franchisor and franchisee. Franchising is a strategy for expanding a business. The franchisor grants the right to sell their products and/or services using their proven methods, operations, systems, brand and other intellectual property. In order for the model to succeed, the franchisor must also provide training and support for each franchisee they recruit.
Franchise Agreement: The legal document that sets forth the rights and obligations of the franchisee and the franchisor. Commonly included is information about territory, location, training, management, renewal, termination, dispute resolution, suppliers, quality control, product standards, advertising, etc.
Franchise Consultant: An independent agent or middleman who acts as an intermediary between the franchisor and a prospective franchisee. Franchise consultants are commonly paid on a success basis by the franchisor. As agents of the franchisor, franchise consultants are required to act in accordance with all laws and regulations governing the sale of franchises.
Franchise Disclosure Document (FDD): The Franchise Disclosure Document, or FDD, provides extensive information about the franchisor and the franchise organization in a uniform format, which a prospective franchisee can use to compare different franchise offerings. Commonly comprised of 23 “Items” or sections, the FDD is meant to give a potential franchisee certain specified information to help make educated decisions about their potential investments.
Franchisee: The individual or individuals who own and operate a business under a licensing agreement granted by a parent company known as the franchisor. Franchisees can also be called “Franchise Owners.”
Franchise Fee: The franchise fee is the nonrefundable, one-time price to operate a franchise using the franchisor’s model. Franchisees usually have the choice to pay it in one lump sum or installments, and it typically costs tens of thousands of dollars.
Franchisor: The person or company that grants the franchisee the right to do business under their trademark or trade name.
Initial Investment: A detailed listing of all fees and expenses expected to incur when starting a franchised business. This listing represents the total amount that a franchisee would need to pay or get financed, including fees paid to the franchisor and goods/services purchased from third parties. This estimate can be found in Item 7 of the FDD.
In-House Financing: Franchisors sometimes offer in-house financing options that can cover the franchise fee, start-up costs or other expenses, such as inventory and equipment.
International Franchise Association (IFA): The International Franchise Association is the world’s oldest and largest organization representing franchising worldwide. The IFA protects, enhances, and promotes franchising through government relations, public relations, and educational programs. IFA members include franchise companies in over 90 different business format categories, individual franchisees, and companies that support the industry in marketing, law, and business development.
Item 7: Outlines the total initial investment, including start-up costs and fees.
Item 19: Provides information about a unit’s average financial performance.
Liquid Capital: Assets held in cash or in something that can be readily turned into cash, also known as liquid assets.
Master Franchisee: A system whereby a franchisor grants to a party the right to operate franchised businesses and grant sub‐franchises to third parties, within an agreed‐upon geographic area. The Master Franchisee serves as if it were the “franchisor” within the sub‐franchise territory, providing localized support services within the territory. The Master Franchisee typically retains a portion of the royalty as compensation for its services.
Multi-Concept Franchisee: A franchisee who owns units of multiple franchise systems. Some franchise brands prohibit multi-concept franchising for their franchisees, while others sometimes seek franchisees who already own other brands.
Multi-Unit Franchisee: A franchisee that owns and operates more than one franchised location.
Net Worth: An individual’s total assets minus their total liabilities.
Owner-operator: Owner-operators take a more hands-on approach to business and expect to be involved with day-to-day operations. Owner-operators often have to get their hands dirty, but it means they don’t need as much capital to grow their business.
Registration States: Fifteen states require franchisors to register their FDDs with a state agency before they are legally allowed to sell franchises within that state. Find a list at www.FTC.gov.
Refranchising: When existing locations that may or may not have ever been franchised, and are currently operated by the franchisor, are offered for sale to prospects.
Royalty Fee: Royalties are ongoing fees paid to the franchisor to continue operation of a franchise business. On average, they range from five to six percent of gross revenue. However, that percentage varies depending on the franchisor.
Semi-Absentee Ownership: Semi-absentee ownership doesn’t require a full-time commitment. While semi-absentee owners may serve as a part-time manager, they usually need working capital to hire another manager or employees to provide the end service. This option is best for people who want to keep their job but want an additional income stream.
Single-Unit Franchisee: A franchisee who owns and operates one single location.
Successor Agreement: A legal document detailing a franchisee’s ability to continue in the business for additional terms following successful completion of their initial term.
Third-Party Financing: This is when financing is provided by a source other than the franchisor. Many franchisors have relationships with banks or are registered with the SBA in order to expedite the loan process for their franchisees.
Validation: Consider this part of due diligence when buying a franchise; when a prospective franchise candidate speaks with existing franchisees in an attempt to validate the virtues of the franchise opportunity. Typically, the prospective franchisee will contact several franchisees from the list provided in the company’s FDD.
This glossary of franchise terms is sourced from reputable franchise- or business-related outlets, including the following websites: