Legal Blog

Franchise Facts: Franchise Fees – I Have to Pay What? | Part 1

Most new franchisees know that franchisors charge fees for the privilege of buying and owning a franchise. But many do not understand their total fee obligations until they have already embarked on the journey. It is important for franchisees to fully understand the fees currently in place, as well as any fees that may be imposed in the future. In the next two posts, I will reveal some of these fees, as well as some common issues that arise with respect to franchise fees.

Initial Franchise Fee.  The initial fee is the “up front” fee charged to the franchisee. This fee is typically paid at the beginning of the relationship, and most franchisees are aware of this fee early on. Initial franchise fees are typically around $20,000.00 – $60,000.00 for a single franchise, but this amount can be higher or lower depending on the concept. The initial fee is not always paid up front. Due to regulations in certain states, some franchisors are required to wait until a franchise is opened before the fee is collected. Franchisees should also be aware that where a franchise broker or consultant is involved, a portion of the initial fee is typically shared with that professional. So, the entire fee does not always reach the franchisor.

Royalties. Royalty fees are commonly-known fees and most franchisees understand the concept. These fees typically range from 4% – 8% of a franchisee’s “Gross Sales” or “Net Sales.” In order to fully assess their exposure to the royalty fee, franchisees must understand the definition of “Gross Sales,” “Net Sales” or whatever term is used to calculate the royalty fee. Does “Gross Sales” include amounts collected for sales and other taxes?  How are discounted items treated? Are there any exclusions? If the franchisee sells other products or services unrelated to the franchise, are those services effectively carved out?  It is also important for franchisees to know whether the royalty rate can change over time.  Does the franchisor reserve the right to modify the royalty rate? When? Is the royalty rate increase tied to any particular variable, such as the Consumer Price Index?  If the royalty rate goes up, does it remain at that level, or can it be reduced later?  For franchises faced with flat fee royalties, instead of percentage royalties, there are other questions that arise.  For example, does the royalty figure change based on income/performance levels or years of operation?  Does the royalty go up or down with these changes? Is there a grace period to allow the business to ramp up?  These questions must be asked because even a small variation in royalties can have a marked effect over time.

National Marketing Fee.  Most National franchisors charge a national marketing fee or some similar fee to defray the cost of marketing and development of the brand. This fee is typically anywhere from .5% to .3%.  But again, these rates vary by system. As with royalties, franchisees must know how these fees are calculated and whether these rates are subject to change. Franchisees should also understand the purposes for which the funds can be used. Are they strictly for marketing the brand? Can they be used for creating FDDs and selling franchises? Also, most franchisees do not guarantee that marketing fees will be used in any particular manner or region of the country.  Franchisees who are far from other franchisees or in sparsely populated areas may not receive any benefit from the fees paid for national marketing.

Local Advertising Fees.  Many franchisors also require fees for local advertising. Most frequently, these fees are not collected by the franchisor, but must be spent by the franchisee in his or her local area. Franchisors typically require proof that these expenditures are made. Because these fees are expended by the franchisees themselves, they can be more easily controlled and targeted for maximum results.

In my next post, I will discuss some other types of fees, including coop fees and other miscellaneous fees. If you have any questions about this article, please feel free to call me.

 

If you have any questions about this topic or any other franchise law issue, please contact Brian Loffredo at bloffredo@offitkurman.com.

 

ABOUT BRIAN LOFFREDO

bloffredo@offitkurman.com | 301.575.0345

Brian is a commercial litigator with more than seventeen years of experience representing clients in the franchise industry. Brian routinely assists clients during the licensing and franchise/FDD review process, as well as with the resolution of franchise-related disputes, including those involving terminations, territorial disputes, fraud, disclosure/relationship law violations and breaches of contract.

In addition, Brian represents and counsels clients in the construction industry on matters involving litigation, construction defects, licensing and compliance, collections, mechanic’s liens, payment bond and Miller Act claims, contract drafting, and compliance with home improvement laws and other construction industry laws.

Brian also has extensive experience representing financial institutions with workouts, collections and residential / commercial foreclosures.

 

 

 

ABOUT OFFIT KURMAN

Offit Kurman is one of the fastest-growing, full-service law firms in the Mid-Atlantic region. With over 170 attorneys offering a comprehensive range of services in virtually every legal category, the firm is well positioned to meet the needs of dynamic businesses and the people who own and operate them. Our twelve offices serve individual and corporate clients in the Virginia, Washington, DC, Maryland, Delaware, Pennsylvania, New Jersey, and New York City regions. At Offit Kurman, we are our clients’ most trusted legal advisors, professionals who help maximize and protect business value and personal wealth. In every interaction, we consistently maintain our clients’ confidence by remaining focused on furthering their objectives and achieving their goals in an efficient manner. Trust, knowledge, confidence—in a partner, that’s perfect.

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