Is your business profitable enough to franchise?

In Part 1 of our series "Can I Franchise my Business?" I covered foundational factors such as branding, consistent business systems and maintaining uniformity.

In addition to these foundational elements,  when considering whether franchising is the right growth option for your business, you must consider whether the business is profitable enough for a franchisee after payment of royalties, marketing levies and operating costs.

What Makes a Business Profitable Enough to Franchise?

A business is generally more suitable for franchising when it generates sufficient profit to:

• provide a reasonable return to the franchisee;

• support royalty payments to the franchisor; and

• cover marketing and operating costs.

A business that only works because of your personal involvement as the business owner may not be suitable for franchising.

Does the Business Depend on You?

A business is better suited to franchising when its success depends on documented systems and processes rather than your personal involvement as the business owner.

A franchisee cannot usually replicate a business that is only profitable because of your time, effort and energy. You may work excessive hours and the key relationships of the business may be with you (rather than the brand). 

In addition, in our experience, franchisees are often looking for work-life balance and flexibility (which is why they want to be their own boss). A franchisee may not be willing to put the same time, effort and energy into the business as you have as a business owner.

In short, in franchising, the business needs to generate sufficient profit, through the brand, business systems and supplier arrangements.

Can Your Business Model Support Franchising?

Before franchising your business, take an objective look at your business model.

• How do you generate revenue?
• What are your costs?
• What are your profit margins?
• What is your unique selling proposition?
• Do you have good supplier relationships?
• What is the demand for your product or service?

Understanding the strengths and weaknesses of your business model can help with your decision to either franchise your business or explore other growth opportunities, such as organic growth or licensing. [Business growth methods]

Strengths

Your business may be well suited to franchising if it has:

• strong and consistent profit margins,
• sufficient profitability to support franchise royalties while allowing franchisees to achieve a reasonable return on investment,
• products or services with ongoing customer demand,
• a unique selling proposition that differentiates the business from competitors,
• a reputable brand,
• systems and processes that reduce reliance on the business owner.

Weaknesses

A business may require further development before franchising if it:

• generates inconsistent financial results,
• operates on narrow profit margins,
• would leave little profit for franchisees after payment of operating costs, royalties and marketing contributions,
• relies heavily on the owner's personal knowledge, skills or relationships,
• has limited growth potential outside its existing market,
• lacks documented systems and procedures.

Remember that identifying weaknesses does not necessarily mean that your business cannot be franchised. Instead, it helps to identify areas that can be strengthened before expanding your business through franchising.

Operating from a number of locations (if your business is site based), or operating a number of vehicles (if your business is mobile) may provide you with valuable information about where the strengths and weaknesses in the business model lie.

Both Boost Juice and Guzman y Gomez had three company-owned outlets before they started franchising.

While there is no fixed number of outlets that you need to have before franchising, operating multiple successful locations can provide valuable evidence that your business model is profitable, replicable and capable of succeeding in different markets.  

Is There Enough Demand to Support Franchise Growth?

An important consideration when you are evaluating your business model is whether there is enough customer demand to support business growth.

Your business may be profitable in its current location because of local conditions, relationships or demographics (this may be the case even if you are operating numerous outlets or vehicles in a certain area). Before franchising you should consider whether similar demand exists in other areas.

Analysing demand involves analysing factors such as the local economy, competition, demographics, and consumer behaviours.

Useful indicators may include:

• customer enquiries from other locations,

• strong online demand,

• repeat business, and

• proven performance across multiple sites.

Is the Demand for Your Product or Service Sustainable?

Businesses built around short-term trends may struggle to support long-term franchise growth.

There is no guarantee that the initial demand for a product or a brand will be sustained. The life cycles of products and services may be shortened by technological advances, new competitors may enter the market and the popularity of your product or service may quickly wane.

Understanding your target market's needs, preferences, and behaviours will help you assess the long-term viability of your business.

By conducting market research and analysing your target market, you can gain valuable insights into purchasing habits and determine if there is a sustainable demand for your product or service. 

However, it is important to note that sustainability is not solely dependent on your target market. Economic factors such as the local economy and competition play significant roles as well. 

Can a Franchisee Make Money From Your Business Model?

Your business model needs enough profitability to:

• support franchisee returns,
• support franchisor returns, and
• fund the growth of the network.

Without sufficient margins, the franchise model may not be sustainable.

Conducting thorough financial modelling and working closely with your accountant or business adviser can help you determine if the financials make sense for all parties involved.

[10 Steps to Start a Franchise Business]

Franchisee Return

A prospective franchisee will typically expect the business to generate sufficient profit after:

• wages,
• rent and occupancy costs,
• marketing expenses,
• royalty payments, and
• other operating costs.

To get a basic idea of whether your business could work as a franchise outlet, it is essential to prepare a financial model based on the profit and loss statements of your existing business. This profit and loss statement will serve as a foundation for evaluating the potential success of a franchise outlet.

Remember that if you (as the business owner) work excessive hours or are paid at below-market rates, you will need to adjust the profit and loss statement to take this into account.

Once you have a clear understanding of your current business's performance, you can start incorporating the financial aspects of a franchise model.

Begin by including royalties, which are ongoing fees paid by franchisees to the franchisor for the use of the brand and intellectual property. You can initially calculate these royalties based on industry standards. Royalties can either be a percentage or a fixed fee.

A consultant we have worked with closely over the years has repeatedly commented that if you remove the royalties from the financials of a failing franchise business, the business will often be profitable. Consequently, you need to ensure that your current business makes enough profit to sustain the royalties that you want to charge. 

Next, include advertising fees (note: not all franchisors charge an advertising fee). These are ongoing fees paid by franchisees to the franchisor for group advertising and related expenses. If the franchisee is going to pay an advertising fee, it is important to remove from the financial model any advertising costs incurred by the business in its current form. 

Additionally, identify any other regular fees that may be included in the franchise model. These could include training fees, technology fees, or support fees. Include these fees in the financial model and evaluate the necessity and potential impact of these fees on both you as the franchisor and franchisees.

(Tip: use the Franchise Disclosure Register as a resource to see what fees other franchisors are charging for similar franchise opportunities).

As you incorporate these aspects into your financial model, ensure that they align with your overall business goals and objectives. The financial viability of the franchise should be carefully considered to ensure a mutually beneficial partnership between you as the franchisor and potential franchisees.

To enhance the credibility of your financial modelling, we recommend that you get advice from professionals like accountants or business advisers. They can provide valuable insights and expertise to help you accurately assess the potential profitability of franchising your business.

Opportunity for a Franchisee to Make a Return on Investment

The Franchising Code of Conduct now includes a requirement that a franchisee have a reasonable opportunity to make a return on investment.

That does not mean that you as the franchisor guarantee the success of the franchise business. However, you need to have exercised proper due diligence to ensure that any potential franchisee has a fair shot at making their franchise business work. If you enter into a franchise agreement that does not give the franchisee a reasonable opportunity to make a return on investment, you may be fined up to 600 penalty units ($218,400 as of 1 July 2026).

To that end, it is important to analyse financial viability of a franchise business from the perspective of a potential franchisee, not just your own perspective as the franchisor. This analysis, which should be based on a detailed profit and loss statement from your existing business, should be the foundation of the fees you choose to charge. You should always be able to refer back to this analysis to justify the fees you charge and the amount of working capital you require a franchisee to have.

Can You as the Franchisor 

Make Money From Your Business Model?

In addition to forecasting whether the current business can work as a franchise outlet, it is crucial to prepare a projected profit and loss statement for your franchisor business. 

When preparing the profit and loss statement, it is important to consider all sources of revenue for the franchisor.

These include:

• upfront franchise fees, which are the initial fees paid by franchisees to join the franchise system. These fees should be carefully calculated to ensure they cover any initial investments;
• ongoing franchise royalties, as explained in the previous section; 
• advertising fees, which are paid by franchisees to the franchisor for group advertising and related expenses. These fees must be deposited to a specific purpose fund, which should operate in accordance with the Franchising Code of Conduct. As the franchisor, it is your responsibility to contribute to the specific purpose fund at the same rate as each of your franchisees if you continue to operate your business.

At this stage, you should also consider how you will deal with any rebates that you receive from suppliers. When I first became involved in franchising in the 1990's, franchisors often passed on rebates to franchisees. The benefits of greater buying power was at that time viewed as one of the benefits of buying a franchise. Fast forward to the 2020's and rebates are often retained by the franchisor. In larger systems rebates are substantial.

Remember, you can retain some rebates and pass other rebates on to your franchisees. There is no one size fits all model.

Again, to accurately forecast the financials of your franchisor business, I recommend that you work closely with your accountant or business advisor. 

A good way to begin a franchise for a business that already has multiple locations is to sell one of those businesses to a franchisee. This sets the franchisee up right away with a business that has an established customer-base, suppliers and employees to ensure they have the best chance of succeeding. Because of your familiarity with the business, growing pains can be identified early and systems put in place to address issues so they don't happen again. Once the franchisee is on their feet, you can let those systems work for themselves. This way, if your first foray into franchising is a success, you can pass on those systems to franchisees starting new franchise businesses, with proven strategies and financial statements to support your decisions.

Key Takeaways

Franchising can be a valuable tool for business owners to expand their reach, but there are key components that you should consider before making the move.

By taking the necessary steps, such as analysing your current business model, understanding your financials, conducting market research and understanding associated franchise fees you can more easily decide whether or not franchising is right for you.

Also keep in mind that you should bring any questions you may have during the process to professionals that have experience in franchising so that you can feel confident you are making an informed decision.

Disclaimer

The information in this article is general in nature and is not intended to address the circumstances of any person or other entity. Although we do our best to provide timely and accurate information, we do not guarantee that the information in this article is accurate or that it will continue to be accurate in the future.