BÀI BÁO CÁO NHÓM i FRANCHISING THEORETICAL BACKGROUND AND CASE STUDY WHY FRANCHISING MAY BE CONSIDERED AS a NON EQUITY MODE OF FDI

ĐẠI HỌC QUỐC GIA HÀ NỘI TRƯỜNG ĐẠI HỌC KINH TẾ BÀI BÁO CÁO NHÓM I FRANCHISING: THEORETICAL BACKGROUND AND CASE STUDY WHY FRANCHISING MAY BE CONSIDERED AS A NON-EQUITY MODE OF FDI Giáo viên hướng dẫn: PGS TS Nguyễn Thị Kim Anh Lớp: QH-2019-E KTQT CLC2 Sinh viên thực hiện: Vũ Huy Lâm Nguyễn Trường Giang Hoàng Xuân Trường Đỗ Đăng Khải Hà Nội, 04/2022 Table of Contents Theoretical background .1 1.1 Definition 1.2 Main types of franchises 1.3 Advantages and disadvantages of franchising 1.3.1 Advantages 1.3.2 Disadvantages Case study: McDonald's Franchise .6 2.1 Overview of McDonald 2.2 McDonald's Franchise .6 2.3 The Cost of Buying a McDonald's Franchise 2.3.1 Existing Franchise 2.3.2 New Franchise 2.3.3 Ongoing Costs .10 2.4 How McDonald's Makes Money through franchising 10 2.5 Markets & Business Segments 11 Why franchising may be considered as a non-equity mode of FDI? .11 REFERENCE .12 Theoretical background 1.1 Definition A franchise (or franchising) is a method of distributing products or services involving a franchisor, who establishes the brand’s trademark or trade name and a business system, and a franchisee, who pays a royalty and often an initial fee for the right to business under the franchisor's name and system Technically, the contract binding the two parties is the “franchise,” but that term more commonly refers to the actual business that the franchisee operates The practice of creating and distributing the brand and franchise system is most often referred to as franchising In franchising, a company licenses its trademarks and proven business methods to others in exchange for a recurring payment, a percentage of gross sales or a fixed fee A company that licenses its trademarks and methods is called a franchisor An individual who pays to use a franchisor’s trademarks and methods is called a franchisee Franchisees open clones of the franchisor’s business, and run them with the continual assistance of the franchisor for a pre-determined period The relationship between a franchisor and a franchisee is governed by a contract called the Franchise Agreement This agreement outlines the privileges, terms, conditions, restrictions and other details of the arrangement The business operated under a Franchise Agreement is often called a franchise outlet or franchise location The Franchise Agreement typically entitles the franchisee to initial training, an Operations Manual, a start-up package, a delineated area of operation (the ‘territory’), ongoing support, national and/or regional marketing support, and the trademark licence The Agreement entitles the franchisor to various payments and fees, and asserts their control over the trademark(s), the way in which the products and services are marketed and sold, and the quality and standards of the business as a whole Franchising allows previously untrained people to own and operate a tried and proven business, and provides companies a profitable means of expanding The benefits to both parties and to the economy as a whole are significant 1.2 Main types of franchises There are types of franchises: The business format franchise, Product distribution franchise and Management franchise ❖ Business Format Franchise This type of franchise is perhaps what most people refer to as a typical franchise This type of franchise is when the franchisor gives the rights to trademarks, trade names, business process and the system in order for the franchisee to sell the product, for a fee Further details of this type of franchise is listed below: ▪ The franchisor is heavily involved in terms of how the service is provided and the business is run This kind of franchise relationship comes with guidelines and expectations from the franchisor which the franchisee has to adhere to ▪ There is a binding contract/agreement between the two parties to bind the two for a certain period of time ▪ The great thing for franchisees is that ongoing support, advice and training is given by experienced franchisors Advice and good training can make a huge difference in the success of a business, therefore this is a great benefit The business format franchise is the most popular type of franchise system that is chosen by franchisees Some of the biggest brands that adhere to this type of franchising are McDonald’s, Dunkin’ Donuts, Starbucks and KFC You can tell how closely the franchisor and franchisee work with each other from these big brands by the similarity of the product and service in each branch you visit For example, if you order a Big Mac from London, you can get the exact same burger in Manchester Some of the most popular industries for business format franchises are fast food, fitness and restaurants ❖ Product Distribution Franchise This franchise concept is similar to a supplier-distributor relationship The franchisor is responsible for providing the product and the distributor is then able to sell the product on Further details on this type of franchise is listed below: ▪ The main thing that is given by the franchisor is the product whereas with the business format it includes training, support etc ▪ The franchisee can be much more independent in terms of not having the restriction and guidelines that a business format franchisee has ▪ Product distribution franchisee still have to follow certain guidelines such as selling the products on an exclusive or a semi-exclusive basis ▪ The franchisee has to pay fees for using the trademark name and trademarks and the products that they are wanting to sell The product distribution franchise method is used often for larger products, such as vending machines and cars Some of the big brands which use this concept are Coca-Cola and the Ford Company Although the business format franchise is the most popular, the product distribution franchise actually represents the highest percentage of total retail sales ❖ Management Franchise This franchise focuses on the franchisee managing the franchise The manager does not really need to part take in the day to day running of the business Further details of this type of franchise is listed below: ▪ This type of franchise would be ideal for somebody with previous managing experience as it allows individuals with transferable skills to really take ownership of a business and lead it to success ▪ Business-related skills such as having an entrepreneurial flair, preferably from experience, will only help you in the journey to success ▪ For this type of franchise, you will also be required to pay fees for the ability to use the trademarks of a franchise, and your focus is on business development, overseeing the business and managing the team Management franchising is great for resale franchises, which are franchises that are bought from an existing franchisee, as all the operational day-to-day tasks and activities are in place including the existing staff It may seem like you don’t need to make changes and it’s easy to run an existing franchise, however, there are certain things you need to consider If your chosen franchise has not been performing well, then you may have to implement serious changes to the staff or the day to day operations 1.3 Advantages and disadvantages of franchising 1.3.1 Advantages ▪ Expansion can be faster because franchisees provide the labor and their sales provide the growth ▪ A franchise is a readymade and well established business that needs expansion It is a ready form of business seeking expansion in new market areas with the help of a local representative ▪ Franchises are less risky than independent businesses ▪ Buying power: a network of franchises has the opportunity to purchase goods at a deep discount by buying in bulk The parent company can use the size of the network to negotiate deals that every franchisee benefits from A lower cost of goods lowers the overall operation costs of the franchise ▪ Franchisees are responsible for their company’s success so they are more motivated ▪ The franchisor puts relatively little money into new locations as this comes from the franchisee ▪ Successful locations can return high royalties ▪ Consistent operations across the business generally means improved efficiency and higher quality levels ▪ It’s easier to get advice about a franchise 1.3.2 Disadvantages ▪ Franchise recruitment can be slower and less efficient than employee recruitment ▪ Franchises can come with high start-up costs ▪ Creativity Can be Limited Because franchises already have a predetermined brand, there are creative limitations for franchisees who are looking to explore, alter or make additions to their company’s business model or brand There are also restrictions placed on where you can operate, what products you can sell, and the suppliers you can use because of the predetermined business model ▪ The upfront investment (time and money) required can be huge – a pilot operation may need to be tested ▪ Selecting one wrong franchisee can ruin the reputation of the whole franchise ▪ Sharing confidential information with franchisees is risky if they are not fully committed to the business Case study: McDonald's Franchise 2.1 Overview of McDonald Almost 80 years later, McDonald's has grown to about 39,000 restaurants globally that serve close to 70 million customers — roughly 1% of the world's population — per day, all wanting a burger, fries, and/or chicken nuggets as quickly as possible It has, effectively, morphed into the most popular family restaurant that appeals to children and adults alike and emerged as the dominant force in the "Quick Service Restaurant (QSR)" end of the market In 2019, McDonald's emerged as the most valuable QSR (i.e., fast-food) chain with a brand value nearing 130.36 billion USD and total assets worth 47.5 billion USD  Year Business Began: 1955  Franchising Since: 1955  Headquarters: Chicago, Illinois  Estimated Number of Units: 39,000 2.2 McDonald's Franchise McDonald’s USA, LLC is the franchisor The franchisor is a wholly-owned subsidiary of its parent and predecessor, McDonald’s Corporation The franchisor develops, operates, franchises, and services a system of restaurants that prepare, assemble, package, and sell a limited menu of value-priced foods under the “McDonald's System.” A grant of a McDonald’s franchise authorizes franchisees to operate a McDonald’s restaurant business at a specific location and to use the McDonald’s System in the operation of that restaurant business for a specific period of time The franchisor offers types of franchises:  Traditional Restaurant: franchise offered is located in freestanding buildings, storefronts, food courts, and other locations The franchisee operates a full-menu restaurant, offering the public a high standard of quality and uniformity in food and service  Satellite Locations: The franchisee is granted the right to operate the franchise in a retail store, strip center, airport, universities, hospitals, and other diverse locations These restaurants serve a scaled-down menu of a traditional McDonald’s restaurant and, in some cases, may also serve non-McDonald’s trademarked products  STO and STR Locations: ‘Small Town Oil’ locations are situated in fuel stations/convenience stores, and operate a full-menu McDonald’s restaurant within the shared space ‘Small Town Retail’ locations that anchor a small retail center in rural communities  BFL Franchises: “Business Facilities Lease” franchises grant franchises with leases that include the business facilities To be a franchisor, firm need to acquire and understand this terms like:  Training Overview: The franchisor operates Hamburger University (HU), the international training center for the McDonald's system The content and duration of all operations courses, which are offered at HU and various local sites, are revised and reconsidered from time to time to meet the needs of the franchisees All courses and learning events are offered at frequent intervals and are designed to give franchisees specific skill sets in the various facets of the conduct of a McDonald's restaurant  Territory Granted: McDonald’s franchises contain a limited grant of authority to use the McDonald’s system in the operation of the specific restaurant developed by McDonald’s at that address The Franchise Agreement does not contain any exclusive grant, exclusive area, exclusive territorial rights, protected territory, or any right to exclude, control, or impose conditions on the location or development of future McDonald's restaurants at any time Franchisees may face competition from other franchisees, from outlets that the franchisor owns, or from other channels of distribution or competitive brands that the franchisor controls  Obligations and Restrictions: Franchisees are required to provide full time and best efforts to and personal on-premises supervision of, the day-to-day operation of their McDonald’s restaurant business Franchisees may sell only products authorized by the franchisor and use the premises only as a McDonald’s restaurant In the dispensing and sale of these products, franchisees may use only packaging, paper goods, ingredients, and handling and preparation methods that meet the McDonald’s system specifications and quality standards which the franchisor may designate and modify  Term of Agreement and Renewal: The length of the initial traditional franchise term is generally 20 years The Satellite term varies, and the length of the franchise term for STO and STR locations are generally 10 years BFL term length is generally three years Franchisees are given no right to renew or extend the franchise after the term of the contract A rewrite (new term) policy is not part of the previous Franchise Agreement  Financial Assistance: Typically, no financing arrangements are offered by the franchisor The franchisor issues an Operator's Lease for each site owned or leased by McDonald's The Operator's Lease is a standard commercial lease under which the franchisee pays rent to the franchisor for use of the premises The Operator's Lease does not contain any financing terms For BFL franchises, the Operator’s Lease provides for the lease of the restaurant’s business facilities as well as the premises The franchisor’s predecessor may, at its discretion, guarantee loans made by a third party lender, Bank of America, N.A., a National Banking Association, to franchisees for remodeling existing restaurants, working capital, refinancing existing restaurant loans, acquiring restaurant businesses, purchasing restaurant assets by exercising the option under a BFL Rider, and for other reasons approved by McDonald’s 2.3 The Cost of Buying a McDonald's Franchise The vast majority of entrepreneurs wanting to get into the restaurant franchise business buy existing franchises rather than launch new ones Existing franchises typically come with trained staff and built-in customers, so in that sense, these are true turnkey businesses However, all applicants are required to have a minimum of $500,000 available in liquid assets, which is essentially cash to be used for investing in a McDonald’s restaurant 2.3.1 Existing Franchise The cost of buying an existing franchise is based on the location’s profitability, renovation needs, and sales volume In short, franchise prices vary and can be upwards of $1 million or more Some existing franchises come on the market as a result of poor performance, and, as such, the price includes McDonald’s planned marketing costs to breathe life back into the location The amount of competition in an area, including other McDonald’s franchises and competitor restaurants, also plays a role in an existing franchise's price McDonald’s requires prospective buyers to have 25% of the purchase price of an existing franchise in cash Buyers can borrow the remaining money–or 75%–of the purchase price from lending institutions McDonald's does not offer any financing or lending Also, the new owner must pay down the debt over seven years In rare cases, McDonald's adjusts prospective owner qualifying standards for franchises in urban and rural areas 2.3.2 New Franchise To launch a new McDonald’s franchise can expect to shell out between $1,314,500 and $2,306,500 to get the restaurants up and running Owners pay an initial franchise fee of $45,000 The costs can vary depending on the region of the country and store type as well as the restaurant's size Some of the costs involved include:  Inventory  Kitchen equipment  Construction expenses  Interior decor and exterior landscaping  Signage  Hiring and training New franchise owners also must pay 40% of the total cost of building the restaurant upfront but can finance the remaining costs through various financial services firms that McDonald's has established relationships 2.3.3 Ongoing Costs Franchise owners also pay McDonald’s fees on an ongoing basis They must pay a 4% monthly fee, which is based on their restaurants' sales performance Owners also pay the monthly rent to McDonald’s based on a percentage of sales 2.4 How McDonald's Makes Money through franchising Essentially, McDonald's makes money by leveraging its product, fast food, to franchisees who have to lease properties, often at large markups, that are owned by McDonald's As reported in their Report 2019, 36,059 of the 38,695 restaurants were franchised with McDonald's operating the remaining 2,636 restaurants So, approximately 93% of total capacity are franchises, which is still below McDonald's long-term goal of 95% The advantage of this model is that the revenue stream (rent and royalty income received from franchisees) is far more stable and, most importantly, predictable, while the operating costs are measurably lower, allowing for an easier path to profitability McDonald's, because it has control over the land and long-term leases, can leverage its market position to negotiate deals As has been noted by analysts, this is akin to a subscription, where the subscriber (the franchisee) pays a fixed amount each month 10 According to industry analysts, McDonald's keeps about 82% of the revenue generated by franchisees, compared with only about 16% of the revenue from its company-operated locations, which is further trimmed by the costs incurred in operating these units This would explain their pursuit of getting to the 95% franchise mark 2.5 Markets & Business Segments In their recent annual report of 2019, McDonald's is operating with the following global business segments: U.S., International Operated Markets, and International Developmental Licensed Markets and Corporate Each sector accounts for 37.2%, 54%, and 8.7% of revenues, respectively, as of the company's most recent annual report  U.S.: The largest segment, with revenues of $7.843 billion in 2019  International Operated Markets: Markets including Australia, Canada, France, Germany, Italy, the Netherlands, Russia, Spain, and the U.K This segment had $11.398 billion in revenues in 2019  International Developmental Licensed Markets & Corporate: Comprised of developmental licensee and affiliate markets, plus corporate activities This segment had $1.836 billion in revenues in 2019 Why franchising may be considered as a non-equity mode of FDI? Franchising may be considered as a non-equity mode of FDI as it is a middle ground between FDI and Trade Franchising is when a TNC externalizes part of its operations to a host-country-based partner firm in which it has no ownership stake, while maintaining a level of control over the operation by contractually specifying the way it is to be conducted Specifications may relate to, for example, the design and quality of the product or service to be delivered, the process and standards of production, or the business model that the partner firm must adhere to In distinction to purely arm’s-length transactions they have a material impact on the conduct of the business, requiring the host-country partner firm to, 11 for example, make capital expenditure change processes, adopt new procedures, improve working conditions, use specified suppliers, and so forth Franchisor has the ability to control a business entity in the host country by means other than equity holding This control is demonstrated by the obligations placed on the franchisee conditioning the use of the intellectual property and the running of the business TNC acquires this control through some of TNC's Bargaining Powers as follows:  Access to the TNC supply and business support network  Market strength of established brand names REFERENCE Sally Lauckner (2020), Advantages and Disadvantages of Franchising Available: https://www.nerdwallet.com/article/small-business/advantages-of-franchising Companybug (2020), Types of Franchises Available: https://www.companybug.com/types-of-franchises/ Lisa Goetz (2021) The Cost of Buying a McDonald's Franchise (MCD) Investopedia Retrieved April 04, 2022 from: https://www.investopedia.com/articles/insights/072516/cost-buying-mcdonaldsfranchise-mcd.asp 12 Akhilesh Ganti (2021) How McDonald's Makes Money Investopedia Retrieved April 04, 2022 from: https://www.investopedia.com/articles/markets/032015/how-mcdonalds-makes-itsmoney-mcd.asp#toc-business-model UNCTAD (2011) Non-Equity modes of international production and development In World investment report https://unctad.org/system/files/official-document/wir2011ch4_en.pdf 13 ... $1.836 billion in revenues in 2019 Why franchising may be considered as a non- equity mode of FDI? Franchising may be considered as a non- equity mode of FDI as it is a middle ground between FDI and. .. discretion, guarantee loans made by a third party lender, Bank of America, N .A. , a National Banking Association, to franchisees for remodeling existing restaurants, working capital, refinancing... the actual business that the franchisee operates The practice of creating and distributing the brand and franchise system is most often referred to as franchising In franchising, a company licenses