Business Principles

For the person with an entrepreneurial spirit, a popular way to launch a small business is through a franchise. A franchise is a legal agreement in which an individual or small group of investors purchases the right to sell a company’s product or service under the company’s name and trademark. Wireless Zone, Supercuts, and Bruegger’s Bagels are examples of franchises operated by small-business owners under such agreements. The two parties to a franchise agreement are the franchisor, the parent company of a franchise agreement that provides the product or service, and the franchisee, the distributor of a franchised product or service.

In a typical franchise agreement, the franchisee pays an initial fee-often $100,000 or more-o the franchisor, and a percentage-usually 3 to 8 percent-of sales. In return, the franchisee gets assistance in selecting a location for the store or building and exclusive rights to sell the franchised product or service in a specified geographic area. The franchisor also provides tested policies and procedures to follow as well as special training and advice in how to operate the franchise efficiently. These services are particularly valuable to inexperienced business owners. They give a franchise business a far greater chance of success than a firm starting on its own has. Although 5 to 10 percent of franchised businesses fail, the failure rate is far lower than the failure rate of nonfranchised new businesses.

Prospective franchisees should carefully check out the franchisor. Fraudulent dealers have deceived many innocent people. Franchise agreements may require franchisees to buy all items needed to operate the business from the franchisor, often at a price substantially higher than available elsewhere. Some franchisors
have been charged with allowing other franchisees to open businesses too close to each other, reducing the amount of possible revenues. To avoid these problems, some states have passed laws to protect franchisees.

Potential franchisees should seek the help of lawyers and accountants and even experienced business-people before signing franchising agreements.


In spite of the possible dangers, the number of franchises has grown steadily. Although they make up fewer than 5 percent of all businesses, there are more than 500,000 franchise businesses in the United States. Figure 1-3 lists the variety of businesses operating under franchise agreements. Franchising is especially popular in the retail and service industries. Franchise businesses account for over 35 percent of all retail and service revenues each year.