Franchising Overseas

International Franchising – How to Do It
 

International franchising can be an extremely efficient and profitable way of expanding your business overseas. Manzoor Ishani outlines some of the different ways to expand internationally and the advantages and pitfalls.

There are a number of different ways in which an international franchise arrangement can be structured. Each has its advantages and drawbacks.

Direct Franchising
Direct franchising involves the grant of franchise rights by a franchisor directly to a franchisee in another country. Much depends on the size of the territory into which the franchisor is thinking of franchising. If the territory is capable of sustaining only one outlet (for example Jersey in the Channel Islands), the franchisor will usually grant a franchise agreement direct to the prospective franchisee. If the territory is capable of sustaining a number of outlets, there will usually be a two tier arrangement, i.e. a development agreement between franchisor and franchisee which will require the franchisee to open a number of outlets within a given time and a franchise agreement for each individual outlet from franchisor to the same franchisee.

For the franchisor, there is no sharing of fees with anyone else, i.e the master franchisee. The franchisor gets the whole amount of the initial and the ongoing franchise fees, and has greater control over its franchisee because there is a direct relationship between franchisor and franchisee.

On the other hand, it requires the franchisor to expend greater financial and manpower resources, time and commitment; the franchisor may suffer from a lack of local market knowledge; will incur higher costs (travelling, etc.) and it may take longer for the franchisor to penetrate the local market. The franchisor will also have to overcome language and cultural difficulties and will incur obligations to the franchisee under the various franchise agreements in the same way as it would for its UK franchisees. 

Option 2 – Subsidiary
This involves the establishment by a franchisor of a subsidiary in another country. The subsidiary would then grant individual franchises in that country. The difference between Direct Franchising and going the Subsidiary route is that in Direct Franchising the franchisor remains abroad whereas in this case the franchisor has a local presence.

As with direct franchising, the franchisor will have a personal relationship with the franchisee and will retain total and direct control of the franchise system. In the long run, this is probably the most profitable route.

However, it will be more costly for the franchisor, as it will have to comply with corporate and other local laws and there may be adverse tax consequences for the franchisor.

Option 3 – Master Franchise
This is the most common, and in my opinion, the least successful. It involves the franchisor granting franchise rights for the whole or a part of a country to a local business entity (a master franchisee). These rights then allow the master franchisee to operate its own outlets and to grant franchisees to other local business entities within that country or a specified region. Under this arrangement the person who is granted the master franchise will become the national franchisor with its own franchisees.

The main advantages to the franchisor are that this method makes efficient use of someone else’s financial and manpower resources and reduces the risk to the franchisor. It should also be possible to achieve quicker penetration of the local market, as it gives the franchisor immediate access to local know-how. Also, in theory there should be a higher degree of success in adapting the franchisor’s system to the local market due to the input of the master franchisee.

The disadvantages to the franchisor are that it has less control over the franchisees and it has to share revenues. The ongoing franchise fee (and possibly also the initial franchise fee) will have to be shared between the franchisor and the master franchisee. Additionally, there are potentially greater risks to the franchisor’s intellectual property from lax control or misuse by the master franchisee. It is also a more complicated transaction and can pose problems at the termination stage, e.g. what will happen to the franchisees of the national franchisor?
Finally, it is not easy to select the right local partner.

Option 4 – Joint Venture
In this scenario, a franchisor establishes a joint venture with a local business entity and a master franchise is then granted to the joint venture, which becomes the national franchisor.

There is a closer working relationship with the local partner; a steeper learning curve about the local partner is revealed during the negotiation process and there will possibly be a higher return to the franchisor because it shares the profit from the joint venture operations as well as from the franchise.

The downside is that this will require an initial capital outlay from the franchisor and the franchisor runs the risk of financial losses. Whatever the legal arrangements, in all probability, the de facto control will be with the local partner and any termination will be more complicated and problematic because not only the franchise arrangement but the joint venture may also have to be unravelled.

Option 5 -Turn Key Franchising
Under this system, a franchisor establishes a local subsidiary and this subsidiary opens its own outlets. The franchisor later sells the whole subsidiary, including the outlets, to a local business entity and grants a master franchise to it. The local business entity then becomes the national franchisor of an already established network and can expand it further by increasing the number of company owned outlets and/or by selling franchises.

The principal disadvantages of turn key franchising is that it will take much longer for the franchisor to penetrate the local market and will require considerably greater resources. Also the future partner may be more difficult to find because it will require a much high level of investment than with other methods.

Exporting your franchise overseas can be hugely profitable and an excellent way of expanding your business however it can be a minefield for the inexperienced and should not to be embarked on lightly.