Understand Restaurant Franchise Costs to Help Maximize Profitability
A restaurant franchise can be an efficient way for entrepreneurs to start a restaurant business. Franchise operators are able to benefit from an established brand name's reputation and support.
Of course, franchise opportunities have a price. Franchise costs vary depending on the corporate policy and business model.
In this article, you’ll learn all you need to know about franchise costs, including the different types of franchise fees and startup costs, how to calculate franchise costs, and tips to manage franchise costs.
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Types of franchise costs
There are numerous fees that franchisors charge to franchisees in the restaurant industry. These fees can vary depending on the franchisor, the franchisee’s net worth, and tons of other factors.
Here are four common types of franchise fees that contribute to startup and ongoing franchise costs:
Franchise fee: This is the initial franchise fee payable to the franchisor when signing the franchise agreement. The franchise fee usually ranges from $10,000 to $50,000, but some franchises can reach as high as $1 million. The franchise fee gives the franchisee the right to use the franchisor's brand, systems, and support.
Royalty fee: This is an ongoing fee paid by the franchisee to the franchisor, typically calculated as a percentage of revenue. For example, a franchise may require a 5% royalty fee of gross revenue each year.
Advertising fee or marketing fee: Many franchisors require franchisees to pay for advertising and marketing support costs. This fee is usually calculated as a percentage of the franchisee's gross sales or as a fixed sum payable monthly or annually based on ongoing support.
Renewal fee or transfer fee: A renewal fee is payable when the franchise comes up for renewal, while a transfer fee is payable when the franchise location changes hands or is sold.
Calculating franchise costs for your new restaurant
The total cost of a franchise can be challenging to calculate, as it depends on the franchise's industry, size, location, and the type of franchise fee structure.
These costs are typically all agreed upon in a franchise disclosure document or similar such paperwork. Franchise owners should never be surprised with these costs — though the total investment may be surprising.
Here are some of the costs associated with buying a franchise:
Franchise fee: The franchise fee is an initial investment that can range from $10,000 to over $1 million, depending on the brand and industry. This initial fee is usually non-refundable, one-time franchise cost and must be paid upfront by the franchisee.
Real estate and leasehold improvements: In addition to the franchise fee, a franchisee will need to pay for the rental space, build-out costs, and leasehold improvements. These costs can range from a few thousand dollars to hundreds of thousands of dollars, depending on the size and location of the franchise.
Equipment and inventory: A new franchisee will need to purchase equipment, inventory, and supplies to start the business. These costs can be significant, between $50,000 to $300,000, depending on the franchise's industry.
Working capital and operational costs: Financial requirements such as a minimum net worth requirement are common thresholds for starting a franchise business. Franchisees must have enough liquid assets and working capital to cover initial operating expenses, salaries, and other operational costs until the business begins generating revenue. The working capital required can range from $25,000 to $150,000, depending on the franchise's size and location.
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Tips to reduce franchise costs
Here are a few tips that franchise owners can implement to potentially help reduce restaurant franchise costs and streamline long-term profit margins.
Research potential franchises carefully: Whether it’s a quick-service restaurant or a fast food franchise, do your research on potential franchises and compare franchise fees from different franchisors. Analyze what you're getting with the franchise fee and balance that against what it will cost to start up the business.
Understand all fees and payment structures: Make sure you fully understand all the fees and payment structures, including royalty fees and advertising fees. Know when payments are due and what services you're getting in return.
Consider the franchise's operating costs: Look at the franchise's operating costs, including labor costs and inventory costs, and compare these with other franchises. Ensure that the franchise's operating costs are profitable in comparison to other franchises in the same industry.
Negotiate with the franchisor: It's not uncommon for franchisors to negotiate the franchise fee or other fees with the franchisee. Always try to negotiate when possible and find out if the franchisor has any discounts or promotions.
Look for financing options: Many franchises can help you access financing through partnerships with lenders. Check with the franchisor to see if they offer any financial assistance programs.
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From fast food chains to regional quick-service restaurants, restaurant franchises can work
Franchising can be a profitable business opportunity, but it's essential to research and understand the various restaurant franchise costs before making a decision. The franchise route is very different than starting a small business.
The franchise fee is typically the most substantial upfront cost, but ongoing fees such as royalty fees and advertising fees must be factored in when considering the net costs. Franchisees should carefully evaluate all the costs associated with a franchise before committing to a purchase.
By doing the research, negotiating with the franchisor, and finding financing options to ease the financial burden, franchising can be a successful business investment.
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Where do you go from here?
The greatest takeaway from this article is the importance of ongoing, consistent restaurant cost breakdowns — for franchise costs and beyond.
This cost analysis doesn’t exist in a vacuum. As a restaurant operator, you’ve bought the ticket. Now it’s time to take the ride. The first best action you can take is to assess your current costing process and the systems you can employ for conducting a cost breakdown — especially for more controllable variable costs like food and labor.
While something is better than nothing, and manual calculations are something, your ability to accurately, consistently breakdown costs at scale is dependent on proper technology.
At the end of the day, profitability is the name of this game — not sales or revenue. A laser-focus on profitability requires a laser-focus on your costs — and a laser-focus on costs requires actionable, pinpoint accurate restaurant cost breakdowns.
Combining Toast and xtraCHEF can help all types of restaurants access reports on daily sales, costs, and how they’re impacting profitability.
xtraCHEF by Toast empowers you to drill into line-item level detail for every ingredient on each of your supplier invoices.
Together, these tools can automate and simplify the process of creating restaurant cost breakdowns.
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