What Is a Franchisee?

A franchisee is an independent business owner who operates a third-party retail outlet called a franchise. In doing so, the franchisee has purchased the right to use an existing business's trademarks, associated brands, and proprietary knowledge to market and sell the same brand and uphold the same standards as the first business.

Understanding Franchises

Franchises are an extremely common way of doing business in the U.S. It is hard to drive more than a few blocks in most cities without seeing a franchise business. Examples of well-known franchise business models include McDonald's (NYSE: MCD), Subway, United Parcel Service (NYSE: UPS), and H&R Block (NYSE: HRB).

When a business wants to garner more market share or increase its geographical presence at a low cost, one solution is to create a franchise using its product and brand name. The franchisor is the original or existing business that sells the right to use its name and idea. The franchisee is the individual who purchases the right to sell the franchisor’s goods or services using its existing business model and trademark.

The Franchisee/Franchisor Relationship

The relationship between a franchisee and a franchisor is inherently one of advisee and advisor. The franchisor provides guidance and support on hiring and training staff, setting up shop, advertising its products or services, sourcing its supply, and so on.

In return for the franchisor's advisory role, use of intellectual property, and experience, the franchisee generally pays a startup fee plus an ongoing percentage of gross revenues to the franchisor.

At the start, the franchisor assigns the franchisee an exclusive location far enough from its other franchises to avoid competition.

Franchisee Benefits

Operating a franchise can be an ideal venture for an entrepreneur with little direct experience in business management because:

1. The costs of opening a franchise can be lower compared to starting a company from the ground up.
2. The business has immediate brand recognition, a ready-built supply system, and a professional marketing campaign already in place.
3. Franchisees adopt the business practices of their franchisors rather than create them from scratch.
4. The franchisor is invested in the success of its franchisees and will take an active advisory role.
   

Franchisee Responsibilities

A franchisee must follow the proven business model that is already in place, down to its choice of location, furnishings, products, and decor. Franchisors require this to maintain consistent quality among all of the locations using its brand name.

The franchisee is responsible for growing the franchise via the usual means of advertising and marketing within its exclusive area of operation. However, all marketing campaigns must be approved by the original establishment before their release.

As the manager of the franchise, the franchisee is expected to protect the brand name by offering only approved products and services that are created by or sourced by the original company.

Franchise Example: McDonald's

A company that notably grew a global presence using the franchise model is the fast-food behemoth McDonald’s.

McDonald’s was founded in 1940 by the McDonald brothers in San Bernardino, California. However, it was their business associate Ray Kroc who opened the first official franchise for the McDonald’s System, Inc.—a predecessor of today's McDonald’s Corp. (MCD)—in 1955 in Des Plaines, Illinois, a suburb of Chicago. Kroc later bought the business from the brothers.

As of 2023, there were more than 38,000 McDonald's restaurants in more than 100 countries, and 93% of them are owned and operated by local business people.

McDonald’s either owns the land and buildings used by the franchisees or secures long-term leases for the franchised sites. As part of the contractual agreement with the company, the franchisee pays a portion of the cost of seating, décor, and signs in the location that the company provides. The legendary success of the McDonald's franchise story is partly a result of the company's commitment to maintaining consistent standards in its food. A Big Mac in Los Angeles should and does have the same quality as one in London. Franchisees manage their own pricing decisions and staffing matters while benefiting from the brand equity and global experience of McDonald’s.

The Bottom Line

The franchise model is expanding in new directions. The classic is the McDonald's model in which a business person adopts the entire product line and merchandising model of a franchisor. Other companies such as Dunkin', Domino's Pizza, Burger King, Subway, Jiffy Lube, UPS Stores, and RE/MAX also offer well-known franchise opportunities.

Still, newer franchising models are emerging, particularly in services businesses such as home health care and tax preparation. There also is growth in business distribution franchises. This is a supplier/dealer relationship in which the dealer acquires exclusive rights to sell a supplier's goods within a certain area. A franchise business is best suited to an individual who wants to buy into a proven business model and not invent one from scratch.