A franchise can seem like a safe way to buy your own business. However, in reality, it comes with specific risks and challenges that you should understand and investigate before signing a contract.
Starting any business can be expensive. In franchising, on top of regular operating costs, you also have franchise fees, marketing fees, and possibly expensive supplier agreements. You will need to pay all of these before you can pay yourself a wage.
Some franchise systems offer an 'income guarantee'. These often come with conditions that may make it hard to earn the promised income. You should be very wary of any guarantees or promises about income.
In franchising, if you can’t pay your expenses, the franchisor may be able to end the agreement early (termination).
- Talk to current and former franchisees. Select these yourself – don’t be pressured by the franchisor to only speak to the best performing franchisees. Ask how long it took them to earn an income from the business. Also make sure you ask former franchisees why they left the business.
- Do a business course before you sign up. Franchising, like any business, requires business skills to be successful. You’ll need to understand costs, turnover, profit, cash flow and all the financial aspects of running a business. Use these skills to do your own business plan and test things for yourself.
- Get advice from an accountant or business advisor. This needs to be someone who specialises in franchising, not your regular accountant.
Franchisee case study
“I’d always wanted to work for myself, but I couldn’t take the leap without knowing I could still support my family financially.
I saw the franchisor’s ad on an employment website, with an income ‘guarantee’. It seemed perfect because it had a safety net.
But here’s what I didn’t realise at the time - the income guarantee could be cancelled. It said this in the franchise agreement that I signed, but I didn’t realise.
The income guarantee was cancelled because I did not meet all of its conditions. After costs, my actual profits in the first twelve months of operating were next to nothing. I couldn’t pay myself much with what was left over.
I had to work in the franchise full-time, seven days a week for a whole year without drawing any real wages. My family ended up supporting me - it was supposed to be the other way around.”
Franchise agreements give more power to the franchisor than the franchisee, and this can have a big impact on your business.
Normally you will have restrictions on suppliers, where you can operate, and what you can sell. The franchisor can usually make you pay for important supplies at higher prices that you might find elsewhere. The franchisor may also be able to make changes to the way you run your business without your approval.
- Talk to current franchisees. They can give you practical examples of when they are their own boss and when they are not. They can also tell you if any changes have been made by the franchisor and how the changes impacted their business.
- Get legal advice. Hire a franchising lawyer to go over your franchise agreement and disclosure document. Know what restrictions are placed on your business and what changes the franchisor can make without your approval. This may seem expensive but could save you a lot of money later on.
Franchisee case study
“I thought that by buying a franchise, I would be my own boss. I wasn’t afraid to put in the hard work to be successful. But I didn’t realise that I would have very little say in how the business was run - the franchisor controlled almost every aspect of the business.
I was unhappy when the franchisor decided to run “specials” and “promotions” to get more customers, forcing franchisees to sell our most popular products at a much lower price. Participating in these promotions killed my profit margins, but I couldn’t opt out.
The franchisor justified it by saying they had done market research and that it will pay off - but I just can’t afford it! Unfortunately, I have no choice but to go along with it because the franchisor always has the final say on the important decisions – that’s the reality of being a franchisee.”
In many franchise systems, ongoing fees are calculated based on money paid to you by customers (turnover), not profit. So if you buy a franchise that doesn’t make a profit, you still have to pay fees, even if you are losing money. Owning an unprofitable franchise mainly impacts you, not the franchisor, because the franchisor still collects their regular fees.
If your franchise keeps being unprofitable and ultimately fails, the franchisor may still be able to make money by reselling your business to a new franchisee after your agreement ends.
When selecting a franchise, it’s important to choose one where the franchisor has a financial interest in you being successful.
- Request financial history and information about the franchise and franchise system you are buying. Take this to an independent accountant or business advisor. If the seller or franchisor won’t give you up to date and accurate financial information - walk away.
- Understand what’s in your franchise agreement. Read the agreement and get advice from an independent lawyer on what fees and payments you must pay.
- Talk to current and former franchisees. Ask them about franchise profitability and their franchise’s financial performance over time.
Franchisee case study
"When I bought my franchise a few years ago, I thought I was buying a solid business. The franchise network had been around for a while and was well-known. It was a popular brand, with lots of stores, and good quality products for sale.
It wasn’t until after a few months that I realised the franchise system had serious problems. I learned that many franchisees had been operating on paper-thin profit margins for a long time and quite a few were fighting with the franchisor. The franchisor seemed to just ignore the problems and kept opening new stores, or reselling the ones that failed.
I am still running the franchise, but it hasn’t been smooth sailing. I regret not doing more research and looking for a better franchise."
The ACCC receives reports from franchisees about poor business outcomes and difficult relationships with franchisors. You may be surprised to know that this can happen without any laws being broken.
The laws in Australia don’t stop bad business deals from being made – including when someone buys a franchise. Franchisors do have an obligation to act in good faith, but this doesn’t mean that the franchisor can’t act in their own commercial interest. If you sign a franchise agreement, even if it ends up being a bad deal for you, you might still have to do what the agreement says.
- Seek expert legal advice. Ask a franchising lawyer to explain the conditions of the contract, the Franchising Code of Conduct and your rights under Australian law before you sign a franchising contract.
- Talk to current and former franchisees. Ask them about their experiences owning a franchise, what happened when there was a dispute with the franchisor, and what they would do differently.
Franchisee case study
“I had always thought of franchising as a safe bet, at least compared to running an ordinary small business. I’d heard about the Franchising Code and I felt the laws in Australia were fair compared to my home country.
After operating for a year, my franchise wasn’t doing so well. My wife had been sick, so I couldn’t spend much time chasing new clients. But when the franchisor terminated my agreement only twelve months into my five year term, I was completely shocked, because it seemed so unfair.
I was devastated when I found out nothing could be done about it. In my case, or so I was told, the franchisor was within their rights to terminate me. They hadn’t broken any laws or breached the agreement and had just acted in their own commercial interests, so the Franchising Code couldn’t help me, and the government people couldn’t help me.
I ended up leaving the business, with nothing but debt.”
Franchise agreements are for a specific time period, usually a limited number of years (fixed term). Even after years of operating a franchise, some franchisees still have business debts or loans to pay off when the franchise term ends.
Being able to operate the franchise for longer than the fixed term depends on getting an extension or renewal of your agreement. The franchisor usually has the power to decide this. You may not get an extension or renewal, even if you want one.
If the franchisor doesn’t renew, you might be left with debts to pay. Or if you are able to renew, you may need to pay renewal fees and additional investment costs to continue with the business.
- Get specialised legal advice to understand what happens when your term ends, or if your franchise is terminated. Can you renew the agreement if you want? What will it cost you? Can you sell the business to anyone? Will you get any money back if you’ve paid for an upgrade to the premises but get terminated a month later? Are there limits on where you can work after the franchise ends?
- Get accounting or business advice to understand if you can break even before the end of the first term. Breaking even means you make enough money to pay back the money you paid to start the business and daily operating costs. If you don’t think you’ll break even, talk to your accountant or business advisor about whether or not you should buy the franchise.
Franchisee case study
“I used my savings and also borrowed from family to buy my franchise.
I knew I wasn’t going to make a return on my investment in the first year or two, but I wasn’t too worried. I had a really good relationship with my franchisor and was confident about where the business was headed. I knew I would grow the profits over time.
I was stunned when the franchisor didn’t renew my franchise agreement. Apparently the franchisor had decided to “go in a different direction”. I told them that I needed a few more years to earn a return on the money I had invested in the business, but they didn’t seem to care – they said they were allowed to act in their own commercial interests. My lawyer told me the same thing.
The worst part was telling my family I wouldn’t be able to pay back what I had borrowed.”
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Note: Franchisee case studies are based on one or more reports to ACCC. The resources and information on this page are not a complete guide. You should also get your own independent legal, accounting and business advice before you buy a franchise.