Sofia wants a Lena's Bakery in Riverton: Sofia runs a small café in Riverton, sixty kilometres away. She wants to open a Lena's Bakery there.
Sofia's idea
Her customers ask
Every Saturday she drives over to buy Lena's sourdough, and her customers ask where it comes from.
She pays
She will find the shop, pay for the ovens and hire the bakers herself.
Lena's name and bread
In return, she wants to call it Lena's Bakery and bake Lena's bread the way Lena does.
A fourth shop for Lena's
Lena's Bakery Ltd has three shops, nine bakers and counter staff, and no money for a fourth. Sofia's offer means a fourth shop that somebody else pays for.
This arrangement is called a franchise. One business has built a product and a name people trust. It sells other businesses the right to use that name and its way of working, in return for money and a promise to follow its rules (franchising).
The four words that come with a franchise
The franchisor
The business that owns the name, the recipes and the way of working, and sells the right to use them. Here, Lena's Bakery Ltd. (It is also spelled franchiser.)
The franchisee
The business that buys that right and runs the shop. Here, Sofia. She owns her shop, pays her own bakers and keeps what is left after the bills.
The initial fee
A one-off payment to join. Sofia pays Lena's Bakery Ltd $20,000 before the shop opens, for the name, the recipes and two weeks of training in Lena's first shop.
The royalty
A regular payment for as long as the shop trades, usually a percentage of its sales. Sofia pays 6% of every month's sales to Lena's Bakery Ltd.
| Lena's Bakery Ltd (franchisor) | Sofia (franchisee) | |
|---|---|---|
| Owns the name and the recipes | Yes | No: she has the right to use them |
| Pays for the new shop | No | Yes: $120,000 for ovens, counter and fit-out |
| Hires and pays the staff | No | Yes |
| Sets the rules | Yes: recipes, flour, price, look of the shop | Follows them |
| Is paid | $20,000 once, then 6% of the shop's sales | What is left after costs and the royalty |
Sofia is not a manager at Lena's: Sofia's shop is her own business. Lena's Bakery Ltd does not own it, does not pay her a wage, and does not take its profit. If the shop fails, Sofia loses her $120,000, not Lena.
Franchise or own shop?: That is the difference between a franchise and a fourth shop of Lena's own, which Lena's would have paid for and a manager would have run.
The rules live in a contract both sides sign (the franchise agreement). Sofia's says what she pays, how long the deal lasts (ten years), which town is hers alone, and what she must do: bake to Lena's recipes with flour from the mill that Valley Grain supplies, sell the loaf at $3, fit the shop out in Lena's colours, and give the unsold bread each evening to Second Helpings, as Lena's own shops do.
Free preview
This is the free notes preview
You're reading the free notes. Aimnova Pro unlocks the full study experience — and you can try it with your first topic free to keep:
- FlashcardsLock in vocabulary and key terms with spaced repetition.
- Practice questionsAnswer exam-style questions and get instant AI marking.
- Mock exams & past-paper vaultSit full mocks and see exactly how examiners award marks.
- Personalised study planA daily plan built around your exam date and weak areas.
Start on Lena's side of the deal. Lena and Marco compare two ways to get a fourth shop: open it themselves, or let Sofia open it as a franchise. The numbers are for the first year.
| First year | A fourth shop of their own | Sofia's franchise |
|---|---|---|
| Money Lena's Bakery Ltd puts in | $120,000 for the ovens and fit-out | Nothing: Sofia pays the $120,000 |
| Money it gets back | All the shop's profit, after paying a manager: about $36,000 | $20,000 fee + 6% of $300,000 sales = $38,000 |
| If the shop fails | Lena's loses the $120,000 | Lena's loses the royalty; Sofia loses the $120,000 |
| Who runs it day to day | A manager Lena's hires and checks on | Sofia, who has her own savings at stake |
Why the franchise looks so good to Lena: Lena's gets about the same money back without spending a cent on the shop.
Sofia finds the premises, hires the bakers and watches the ovens, so the everyday supervision falls on her, and she works hard because it is her money on the line. Every Riverton customer who tries the bread learns the name Lena's Bakery.
What Lena's Bakery Ltd gains (advantages)
- Needs far less capital: each franchisee pays for her own shop
- Grows quickly and simply: ten franchisees can open ten shops in a year
- Less risk: if a franchised shop fails, the franchisee loses most
- A steady income from fees and royalties
- Most of the supervision falls on the franchisee
- The name becomes known in towns it has never traded in
What it risks (disadvantages)
- Loss of complete control of the brand: a franchisee can let quality slip
- Costs of choosing franchisees: every applicant is checked, most are refused
- More chances of legal disputes with franchisees over the agreement
- Laws that differ in each country, if it franchises abroad
- Only a slice of each shop's sales, not the whole profit
The Hillcrest problem: Two years in, the franchisee in Hillcrest starts buying cheaper flour to cut her costs. The loaves come out flat. Customers post photos online under the name Lena's Bakery, and some of them live near Lena's own shops.
Why it hurts every shop: Lena's does not run the Hillcrest shop, so it finds out late and can only act through the agreement. One franchisee cutting corners damages the name that every shop, including Lena's own, trades on.
Choosing franchisees costs money too. Twelve people apply after Sofia opens. For each one, Lena's checks the savings, visits the town and interviews the applicant, and it approves three. The other nine cost time and money and bring in nothing.
Learn what examiners really want
See exactly what to write to score full marks. Our AI shows you model answers and the key phrases examiners look for.
Now Sofia's side. She could open her own bakery under her own name instead.
Think back: why new businesses struggle
- Customers already buy their bread elsewhere.
- Nobody knows the name.
- The bank has no record to lend against.
The franchise answers most of that on day one, at a price.
What Sofia gets (advantages)
- A name people already trust, so customers come in from the first morning
- Recipes and a way of working that already succeed in three shops
- Two weeks of training, and help whenever something goes wrong
- Flour and supplies bought for all the shops together, at a lower price
- Less risk of failing than a new independent bakery, so a bank lends more readily
What she pays (costs)
- $20,000 to join, before a single loaf is sold
- 6% of her sales every month, for ten years
- The royalty is on sales, so she pays it in a month when she makes a loss
What she gives up (disadvantages)
- Freedom: she cannot change the recipe, the price or the flour supplier
- Her reputation is tied to every other shop: the Hillcrest loaves hurt her too
- The agreement ends after ten years, on terms Lena's sets
- She cannot sell the shop to whoever she likes without Lena's agreement
Sofia's first year in numbers: Her shop sells $300,000 of bread. Flour, wages and rent cost $252,000, which leaves $48,000.
The royalty is 6% of $300,000 = $18,000, so she keeps $30,000, and the $20,000 fee went before she opened. Under her own name she would keep all $48,000, if the customers came. The royalty is the price of customers who already know the name.
Buying together is the same saving a large business gets from its size. The mill charges less a bag when it delivers to five shops than to one, so every shop under the Lena's name, Sofia's included, pays less for its flour than a single independent bakery would.
Whose side are you on?: Every advantage of franchising has an owner. "Grows with less capital" is the franchisor's. "Starts with a known name" is the franchisee's.
The royalty is income to one and a cost to the other. Before you write, check which side the question puts you on, and stay there.
Growing by opening your own shops with your own money is internal growth. Growing with or through other businesses is external growth. Franchising is external: Lena's Bakery Ltd grows through Sofia's business, her money and her staff, not its own.
| Open its own shops (internal) | Franchise the name (external) | Buy another bakery (external) | |
|---|---|---|---|
| Money Lena's needs | The full cost of every shop | Almost none | The price of the business, all at once |
| How fast it grows | One shop at a time, as profit allows | As fast as good franchisees apply | Overnight, shops and customers included |
| Control of quality | Full: its own managers | Only through the agreement | Full once bought, but a new team to bring in |
| Share of each shop's money | All the profit | A fee and a royalty | All the profit |
| If a shop fails | Lena's bears the loss | The franchisee bears most of it | Lena's bears the loss |
Goldcrust grows the other way: Goldcrust plc owns every one of its 400 bakeries, and a manager it employs runs each one. It controls every loaf, and it keeps every shop's profit, but it paid for every oven.
Growing like a large business: Lena's could never find the money to grow like that. Franchising lets a small business with a strong name grow like a large one, as long as it lets go of some control.
When franchising suits a business
- A name customers trust. Nobody pays $20,000 to borrow a name nobody knows.
- A way of working that can be taught. Lena's recipes and methods fit in a manual and two weeks of training.
- A product that works in other towns. Sourdough sells in Riverton as well as it sells at home.
- A way to check quality. Visits, mystery shoppers and a rule on flour, so Hillcrest is caught early.
- Owners willing to share. Lena and Marco accept a slice of each shop's sales instead of the whole profit.
The trade in one line: The franchisor grows fast on other people's money and gives up some control. The franchisee starts with a known name and a tested way of working, and pays for both with a fee, a royalty and the rules.
Never wonder what to study next
Get a personalized daily plan based on your exam date, progress, and weak areas. We'll tell you exactly what to review each day.
How this comes up: A case describes a business that sells through franchises, and the questions are about the franchisor.
How it is asked
- State one advantage and one disadvantage to a franchisor of retailing through franchises, for two marks.
- Define the term franchising.
- Explain one advantage and one disadvantage, where each point is shown in the case.
State means a few words: State means a few words for each: no description and no example.
The two-mark pattern
- Find the franchisor. The business that owns the name and sells the right to use it.
- One advantage to it. Less capital needed, since each franchisee pays for her own shop.
- One disadvantage to it. Loss of complete control of the brand, so quality can slip.
- Stop there. One of each, a few words each.
The wrong side of the counter: "A known brand" and "training and support" are advantages to the franchisee. "Royalties to pay" is a disadvantage to the franchisee. None of them answers a question about the franchisor.
Before you write, circle the word franchisor or franchisee in the question.
State one advantage and one disadvantage to a franchisor of retailing through franchises.
Model answer plan
See the answer broken into clear points, with guidance on how each point earns marks.