Why do fast food companies usually franchise their restaurants instead of operating the locations themselves?
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They expect franchises to buy branded products from specific vendors with price markups. The corporation offers advertising and brand recognition while independent owners assume the risk/cost of managing a location. It’s about residual profit.
Way more profit. They’re essentially leasing their name and trademark, etc. The franchise owner has to run the business because he invested his own money in it. The franchise owner also has to pay yearly fees to corporate *and* in some circumstances (if not all) corporate gets a percentage of the sales.
It’s easier and way more profitable to collect rent, put together marketing materials, and sometimes do inspections then it is to actually run a store day in and day out.
It’s a lot less risky/financially intensive to franchise vs. having to spend all the costs of building, setting up, hiring, etc. to get a location off the ground. Those costs fall on the franchisee, who then kicks up franchise fees and percentage of sales to corporate.
Operating locations themselves increases their liabilities. More resources are required not just at the on-site location but at HQ in the planning and development stages and on an organizational level.
There’s also a saying, cash is king and being able to open up more locations simultaneously than you would’ve been personally handling every new location and acquiring a large upfront franchising fee increases immediate cash flow.
There are drawbacks to moving to a franchise heavy business model – franchise owners are now external stakeholders and have their own collective power against corporate. There’s also risks of low or inconsistent quality control which can be a key feature for fast food. But overall, franchising on some level tends to be hugely practical for large scale fast food operations.
It’s generally considered less risky and allows for faster expansion.
The actually logistics of opening a new location fall onto the franchise owner, who is presumably more familiar with the local business climate. This saves corporate the time of having to familiarize themselves with each individual local area that they want to expand into. Saved time = faster expansion
In addition, if the expansion is too fast or not well thought-out, then a lot of stores will have to close. With a franchising business model, that risk falls onto the franchise owner rather than corporate.
Companies that do not franchise also tend to expand slower and take fewer risks as a result. For example, Chick Fil A stores are all owned by corporate, so they only expand when the risk is low enough. They also heavily recruit store managers from the local area that are very familiar with the local business climate, so they don’t have to learn themselves, and offer store managers a cut of the store profits as incentive to run the store well.
Franchising ensures competent and highly-motivated local management. A top-down corporate model would mean appointing executives to run locations or clusters of locations. These executives may not know the local area very well, and there is less at stake for them. If an executive runs their restaurant poorly, the worst that can happen is that they get fired. If a franchisee runs their restaurant poorly, they can lose their initial investment of millions. On the flipside, franchisees stand to directly benefit from running a highly profitable restaurant. They collect all the money that doesn’t go to costs or franchise fees. An executive just earns their salary either way.
To add to what everyone else has said, I’ll add another wrinkle – McDonald’s owns the land their restaurants are on. On top of the money they make from franchise fees, they also make money by leasing the land. McDonald’s is one of the largest commercial real estate owners in the world.
Because franchisees pay the franchisor anywhere from 5% to 10% of their gross or net sales. It is a great way for the parent company to have consistent cash flow and expand quickly, without taking on the capital costs themselves. It is brilliant.
Everything costs money and expanding any business takes money. For smaller businesses you can get a loan to expand operations. But when you’re looking at a really big restaurant chain you’ll more likely need to find investors to make it happen… and investors want equity. And perhaps you don’t want to give up any equity because… you could just lose your business (like the McDonald’s brothers did to Ray Kroc).
Franchising your business allows you to find investors to help you expand your business without having to give up equity and without having to take on so much risk.
Now all of the risk is saddled on the side of the franchisee who has limited recourse if his business isn’t doing very well.
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