June 23, 2015
It’s not unheard of to have a prospective franchisor disheartened at the volume of work needed to franchise property. I’ve had a few come through my office over the years.
That is typically when they bring up the idea of licensing.
I see their frustration. And, from that perspective, I can understand their desire to sidestep the extensive franchising process in favor of licensing. It seems like an easy fix. It’s less expensive, doesn’t require operations or processes in place and the financials don’t need to be cleaned up.
But when it comes to choosing between licensing and franchising, proceed with caution. Licensing works better for products or intellectual property. A perfect example is software. When it comes to monetizing a business model, stick to franchising.
There are just too many pitfalls for licensing a business model.
To demonstrate, let’s say you have an established vegan restaurant that has been trademarked. An up and coming entrepreneur, Tom, wants to license your trademark to open his own place.
For you, this sounds great! He will pay you a monthly fee. You sidestep the formalities of an extensive franchising process. Win-win, right?
Before popping open the Champaign, let’s do a quick rundown of possible scenarios you can run into:
Funny thing about licensing, you’re not really allowed to go in and train them. This predominately pertains to how they operate the business. If you do start going in and training them, speaking to how they should run the business, you become a De Facto Franchisor. That lands you in serious legal trouble.
In the software world, they have training modules that teach you how to use their product. The difference is that they don’t mandate that you use the product in a certain way. Additionally, they don’t offer insight on how you run your business. It’s strictly how to use their product.
Point blank: Tom is on his own, operating under your vegan banner. Without guidance, Tom’s business starts struggling.
Turns out that Tom doesn’t have your same dedication to quality. Especially without your business guidance, he starts looking for other opportunities monetize while treading water. His new establishment is price gauging, offering subpar products, and the venue is kept in constant disarray.
In addition to that, he starts tainting your vegan brand with meat products. No longer does your brand represent the quality high-end vegan establishment it once was.
This is perhaps the largest downfall of licensing a business model. You are unable to maintain the integrity of your brand. There are several constraints on what you can require through a licensing agreement. One of the most fundamental is that you’re not able to limit how they use your product or trademark.
For a business model built around reputation, this could be devastating.
The biggest risk is being labeled a De Facto Franchise. Especially in registration states that have greater regulations for franchises, such as California, this is taken very seriously. Licensing a business model also leaves you more exposed. You may find yourself looking at a law suit demanding all of their money back. The Attorney General or some other governing state body may require you to cease and desist all activity, not to mention potential fines and criminal ramifications. Franchise Disclosure Document and regulations are there to help protect you, and the franchisee, by creating a concrete foundation.
As mentioned, licensing is a fantastic model for products and intellectual property. It is particularly common in technological products such as software.
When looking to license something, ask these questions:
This will help you see if licensing is a fit, or if you should explore other avenues to monetize your product.