A Lucrative Financial Model

Although providing incentives to managers and enhancing growth are important objectives for entrepreneurs and senior managers at many companies, the ultimate goal of these individuals is to enhance the profitability of their firms. Franchising is a valuable business model for companies because it is financially lucrative, providing a mechanism for reducing a company's risk while enhancing its returns on invested capital.

Risk Sharing

Franchising is a useful tool for passing off risk to another party. When a company franchises, its franchisees bear some of the financial risk that comes from adding outlets in new locations that might or might not be successful. If the capital that a firm uses to establish the new outlets belongs to franchisees, the risk of expansion is borne by the franchisees. Therefore, one way for a firm to manage risk is to franchise outlets in new locations and have the franchisees bear the risk of figuring out whether the new locations will be successful. When the value of particular locations is known, the franchisor can buy back the successful locations and leave the unsuccessful ones franchised. In fact, most franchisors tend to do just this, retaining the highest-performing outlets and franchising the lower-performing ones.