Franchise Definitions and Terminology
Franchise Definitions and Terminology
Franchising 101 Franchise Terms Franchise Terms Overview (Consultants, 2014) As you head down the path of your franchise journey, you will need to know some basic terminology. Listed below are several franchise terms and their definitions.
1. Ad Fund Fees: A percentage of the franchisee’s gross revenues which are paid monthly to the franchisor to promote the brand in the franchisee’s territory. The Ad Fund typically includes: The National Ad Fund fee and The Local Ad Fund fee. Their costs are outlined in Item 6 of the FDD.
2. Advisory Board: A steering group of experienced franchisees who provide the franchisor with valuable input from other franchisees. They are elected by other franchisees to serve a specific time frame.
3. Annual Conventions: A yearly gathering of franchisees, facilitated by the franchisor, designed to inspire, motivate and educate the franchisees to build their businesses.
4. Area Developer: A franchise investor who buys a large territory and is responsible for growth by recruiting and training single-unit owners. They benefit in this role by receiving a portion of the franchisee’s fees and royalty payments. They act as a “mini franchisor” and typically contribute a substantial capital investment.
5. B2B: Business to Business sales.
6. Cash Investment: The amount of liquid cash required to purchase a franchise. It can also include investments that are easily converted to cash.
7. Discovery Day: A pre-purchase meeting between the candidate and the franchisor’s leadership and support staff. This is often completed towards the latter part of the due diligence process.
8. Due Diligence: The steps involved in determining if the franchise is a profitable opportunity. Reviewing the FDD, analyzing financial data, conducting interviews and consulting with industry experts are all a part of due diligence.
9. EBITDA: Earnings before Interest, Taxes, Depreciation and Amortization. This figure is used to determine the profitability between companies in the same industry.
10. Franchise Agreement (FA): A separate exhibit in the Franchise Disclosure Document that outlines the relationship between the franchisor and the franchisee.
11. Franchise Disclosure Document (FDD): Also referred to as, “the offering.”
12. Franchise: An agreement that grants the franchisee certain rights to be able operate under the franchisor’s marks and systems. Simply put, it is an agreement to use another company’s business model, basically a “business in a box.”
13. Franchise Consultant: A franchise industry expert who partners with you every step of the way of the franchise-buying process. By providing clarity and direction, their guidance gives their client’s confidence in knowing they are making the right franchise choice. They typically do not charge a fee to the client and are compensated by the franchisor.
14. Franchise Fee: The one-time fee paid to the franchisor, which allows for the use of franchisor’s trademark, proprietary systems and training.
15. Franchisee: The person or entity buying the franchise.
16. Franchisor: The company selling the franchise.
17. Federal Trade Commission (FTC): This governmental agency regulates the franchise industry. If there is a violation in trade practices, the FTC will provide assistance to franchisees.
18. Gross Profit: Revenues minus Cost of Goods Sold = Gross Profit. Excluded from this equation are taxes and depreciation.
19. International Franchise Association (IFA): A non-profit organization that lobbies for the franchise industry.
20. Item 19: Financial Performance Representation, also known as an, “earnings claim.” Franchisors are not required to provide this information in their offering. Located in FDD.
21. Item 23: This is a receipt acknowledgment that must be signed once the offering has been discussed. Located in FDD.
22. Multiple Units: More than one franchise territory.
23. National Ad Fund Fee: The franchisor has a budget set aside for national advertising and the monies are used to market their brand. The franchisees are usually charged a percentage of gross revenues.
24. Net Profit: Gross Profit less all expenses have been paid, including taxes. Also referred to as, “Net profit back to the owner.”
25. Net Worth: A calculation of all assets, which include home equity and all investments, less all liabilities, which include your mortgage, auto and consumer debt. The higher the Net Worth, the more likely to be able to secure funding and buying a franchise.
26. Pro Forma: This is a future earnings projection of the franchise. Projections are based on previous business financial data. Used to predict profitability and break-even date.
27. Franchise Registration States: Federal and state-specific laws that require franchises and business opportunities to be formally documented. There are 14 states that have laws that require a franchisor to be specifically licensed in their respective states. These laws are designed to protect the consumer.
28. Return on Investment (ROI): The length of time it takes for an investor to earn back their initial investment from the profits.
29. Royalty: A monthly percentage paid from the gross sales of the franchisee’s earnings. This fee is paid for on-going support, information and training.
30. Small Business Administration (SBA): A federal government agency that oversees small business affairs, including funding programs.
31. Single Unit: One territory.
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