There are many franchise business models and opportunities that prospective buyers can select. Achieving profitability is the primary focus for any business person and that’s why your business’s return on investment (Returns on Investment).
The Return on investment (ROI) financial ratio indicates what an investor receives from the cost of their investment. However, many factors can impact the performance of your business and that’s why it’s important to contact a franchise law attorney and other professionals for the best outcome.
Franchising ROI Explained
ROI is an acronym for return on investment and it’s typically calculated by dividing net income and capital (Net income/Capital cost). Additionally, this ratio represents:
- The profits that are likely to be achieved under normal business conditions;
- Net profit expressed in the percentage of the invested capital;
- The value the investor is gaining or losing from their investment.
A higher ROI means greater benefit earned by an investor and the best part of franchising is that it has soft benefits unlike other forms of business models. However, achieving a high ROI in franchising involves time, effort, risk, and money.
What to Expect from Your Franchise Investment
1. Inconsistent Return on Investment in Franchising
Research shows that most franchisees do not have a consistent ROI and that there’s little correlation between capital or investments and returns in most cases. That said, you might be wondering whether there’s a rule of thumb when it comes to ROI in franchising. Yes, fluctuating annual returns of 10% to 15% are considered very okay. Such businesses are considered to have good returns hence, lucrative.
2. The Type of Franchise
There are several types of franchises but we’ll focus on the major 2–– Product distribution franchises and Business format franchises. Product distribution franchises involve supplier (franchisor) – dealer (franchisee) relationships. These types of franchises are ideal for businesses that deal with massive production, such as vehicle parts, appliances, vending machines, and beverages manufacturers.
On the other hand, business formats are typically governed by a franchise agreement––meaning that the franchisee acquires the rights to operate a business under the franchisor’s instruments of trade, such as name, trademark, and more.
In the above-mentioned types of franchises, the return on investment is still at work. That said, never forget the other factors that can impact your investment, such as:
This refers to the act of investing your own money and preparing yourself for the inevitable––gaining or losing.
In addition to monetary value, there’s what is known as time value and therefore, you might need to put in work to achieve your target net profit. In other words, you must be willing to sacrifice time to achieve desired results.
Let’s cut the chase–you should be aware that investing in a franchise will be ongoing –it’s not a one-time thing.
You might be enjoying a good ROI presently but this may change or fluctuate. So, it’s wise to note the profitable and not so profitable seasons to make informed choices in the future.
3. Potential Return on your Investment
“Spend more, expect more” is a business rule that most investors intuitively understand. Unfortunately, this “principle” isn’t always true in franchising. Why? Franchising experts argue that the flaw in this rule is that investment is not a passive compensation to the business owner.
In franchising, returns can vary depending on the size of the investment. In simple terms, your passive investment depends on your leverage. As a general rule of thumb only invest in a franchise with an annual ROI of at least 30-50%. This total investment in this case includes debt and working capital reserves required to start the franchise.
4. Estimating the ROI
As standard practice, investors (franchisees) should investigate their estimated earnings before the third year of operation. Consequently, a serious franchisee must keep checking their passive investment and compare it to their earnings (returns). However, ensure you know the average performance of the business and not just what the marketing materials can achieve.
Do not give up even if the business is not yet performing as you expect or making the returns by the third year. Keep shopping because many opportunities of achieving your goals in a shorter time frame are out there waiting for you. Your investment in terms of money, efforts, and time are worth waiting for.
5. Market Demands can Impact ROI in Franchising
A good franchise business idea attracts compelling soft benefits, particularly in terms of attracting and retaining customers. A franchise should strive to attract more clients to increase sales and its return on investment. This can only be possible if the franchise offers something that consumers like.
Return on investment can be influenced by many factors and it can also vary by industry. That said, the advice of a franchising professional can help you as you start.
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