Multi-unit franchising is an established and effective way for brands to scale across multiple locations but also requires careful consideration. Babette Marzheuser-Wood is a founding partner at Global Franchise Group Dentons and managing director at Dentons Franchise Advisory. Here, she talks us through the benefits and potential challenges of these models, and shares her top negotiation tips.

When franchising is correctly understood, it is a highly sophisticated business tool. Franchising is not confined to quick-serve restaurants and budget hotels. In the last 25 years, franchising has become the structure of choice for international expansion for many global brands. One strategy that has gained particular traction is multi-unit franchising, which leverages a single partner to develop multiple locations.

Unpacking the multi-unit franchising model

The benefits
Under the multi-unit franchising model, the franchisee has the right and obligation to open a number of franchise units in their territory. This model facilitates rapid market penetration by encouraging the franchisee to develop several outlets during an agreed time frame. Often this is five years. For the franchisor, this model creates efficiencies by leveraging the investment and expertise of a single partner. For the franchisee, benefits include exclusive rights to the development territory during the period and a preferential fee structure.

The risks
For the franchisor, these include backing the wrong partner. The success of multi-unit franchising depends on the performance of a single partner. If the franchisee fails to meet expansion targets, the franchisor’s expansion plans may be delayed, resulting in financial losses. Risks for the franchisee include committing to overly ambitious targets. Consequently, they may face financial penalties for failing to open the agreed number of outlets on time. Therefore, it is essential that both parties align on a realistic market assessment.

Negotiation strategy

The desire to align on the growth
plan should drive negotiation strategy. From the perspective of the multi-unit franchisee, it is essential to ensure that contractual targets are realistic. Importantly, this should allow margin for error. Achieving the best-case business plan should not be a legal obligation of the franchisee. Understandably, the franchisor will expect a minimum growth commitment. However, this should be lower than the expected best case. According to a study by Cornell University, 80 percent of all franchise expansion plans are overly ambitious.

The parties need to factor in economic recession and changes in legislation, for example, the new U.K. sugar tax. Additionally, both should allow for other factors beyond their control that can delay expansion. Overall, the parties should consider minimum targets that must be met and stretch targets. The franchisee may feel that reaching a stretch target should be incentivized via reduced fees.

Key points to consider

1. Prepayment: The franchisor may look for 50 percent of the unit fee for each outlet to be prepaid. This payment is generally non-refundable. The franchisee may feel that loss of deposit should be the only financial penalty for failing to open the outlet.
2. Royalty ramp-up: The franchisee may look for support during the ramp-up period, particularly when bringing a new brand to the market. This could take the form of a royalty discount.
3. Marketing: Most large franchisors operate a global marketing fund. Others may look to the franchisee to manage marketing. A famous brand will typically expect a significant marketing contribution
from its franchisee.
4. Supply chain: The parties need to consider if the franchisor’s existing supply chain is appropriate for the territory. A large multi-unit franchisee may be better placed to source products locally than a foreign franchisor. The parties should ensure core products can be imported into the territory and consider the impact of taxation on price.
5. Termination: The franchisor will look for termination rights if targets are not met. Consider if extra time should be agreed to open missing units or whether a shortfall payment can be made to prevent termination. Franchisors will look for a payment to compensate for loss of revenue on early termination. It is best to agree on an amount or a formula.
6. Exclusivity: The franchisor may wish to withdraw territorial protection if agreed targets are not met. The franchisee may wish to protect against losing exclusivity early in the relationship by asking for a lock-in period.
7. Renewal: Some franchisors do not offer renewal rights. In these cases, the relationship may end or become nonexclusive at the end of the development period. The parties will need to agree on the fate of the individual outlets at that juncture. The franchisee will want to ensure that successful units remain open. A compromise should protect the franchisee’s investment while respecting the franchisor’s interest in further growth with a new partner.
8. Fee model: A well-structured franchise creates a win-win business model, offering benefits for all concerned. The franchisor will look for unit-opening fees to cover costs of supporting the franchisee. For example, these could include site selection, training and fit-out, as well as a recurring royalty fee. These fees should allow both parties to make a fair profit. Beware of overly rich deals, as they may hinder growth and burden the franchisee
profit and loss (P&L). Punitive late-opening fees should equally be avoided, as they may deplete the franchisee’s capital and hinder further expansion.

Market research and fee benchmarking

It is important to benchmark the franchise fee model against industry competitors, taking into account standards in the market. A deal that is too rich or too poor can result in disappointment. Dentons Franchise Advisory offers a benchmarking service that helps the parties develop a successful financial model.

Legal structure

From a legal perspective, the multi-unit franchise model has the attraction of simplicity. A single contract, the multi-unit franchise agreement (MUFA), can be used to regulate the relationship.
A MUFA requires strategic negotiation initially. However, it offers administrative efficiencies in the future by eliminating the execution of multiple individual franchise agreements for each outlet. Multi-unit franchisees should seek support from specialist franchise lawyers to negotiate the MUFA.

To summarize, multi-unit franchising is a tried-and-tested business model used by many major global brands. These include Burger King, Starbucks and KFC. Provided the parties are aligned on risk sharing, it can be a rewarding business model.