When you go through your Franchise Disclosure Document (FDD) research, the ongoing royalty fee can often feel like the villain. Royalties are typically a percentage of gross sales that is paid weekly or monthly. Though, in some franchise systems, royalties are collected as a flat fee.
It's human nature to gravitate toward the system with the lowest fees—in the hope of keeping more of your hard-earned money—but what if that low royalty rate is actually a hidden cost? What if chasing the cheapest fee could lead to issues down the road?
Let’s explore this concept in more detail to help you make the best long-term decision for your franchise ownership path.
Why A Higher Royalty Fee Might Not Be An Instant Red Flag - Royalties are a percentage of sales (usually) or a fixed fee that is paid to a franchisor on a regular basis. - Higher royalties aren't necessarily bad. It depends on how the funds are used to maintain and evolve the franchise system. - Three ways royalties can be used to support the infrastructure of a franchise system are: (1) human operational support, (2) maintaining and enhancing brand equity and market position, and (3) evolving the franchise system for the future through R&D and technology investment. - It's valuable to view the royalty fee as an investment and discover during your due diligence process how your potential franchisor uses these funds. |
How Franchise Royalties Are Structured
The type of royalty structure tells you everything about the long-term economic partnership you’re entering.
Flat-Fee Structure
A flat-fee (or fixed royalty) structure requires that you pay the same amount on a regular schedule, regardless of how much revenue you generate. For example, your franchise might owe $5,000 per month in royalties, regardless of whether your sales are $50,000 or $122,000 per month.
This model offers significant benefits to successful unit owners, as it allows them to retain the highest proportion of profit when sales are higher. To keep pace with franchise needs and market shifts, many flat-fee franchisors periodically adjust their fixed rate to ensure the fee remains competitive.
Percentage Royalty Structure
The percentage royalty (often averaging 6% but ranging from 4% to 12% in some industries) is widely considered the most strategically advantageous model. Because the franchisor’s income grows directly and proportionally with your sales, they are financially compelled to provide superior support, training, and resources that drive sustained growth across the entire network.
This creates incentive alignment. Your success is their success. The more you make, the more they make through your royalty. The percentage model is an engine for shared scalability, designed to maximize franchisor resources during expansion, enabling them to dedicate capital to enhancing the profitability and competitive position of their units.
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The Potential Benefits of Seemingly Higher Fees
A higher royalty fee often funds the support and infrastructure needed to future-proof your business.
1. Operational Support and Human Capital
Continuous support requires specialized human capital, and that costs money. Low-royalty models cannot sustainably finance the necessary expertise.
Higher royalties support the salaries of dedicated field operations staff, specialized consultants, and experts in complex areas such as HR compliance, supply chain optimization, and financial analysis. This system ensures standardization and provides the expertise required to navigate complex economic or regulatory shifts, acting as operational insurance for every unit.
2. Maintaining and Enhancing Brand Equity and Market Position
The royalty pool directly funds your brand’s market presence, perceived quality, and brand equity. If the brand falters, your individual unit will likely falter as well.
Royalty fees sustain the franchise system by funding extensive national advertising efforts that individual franchisees cannot afford on their own. While local marketing is your job, national campaigns, often financed by a percentage-based advertising fee (charged by 72% of brands), ensure the brand remains competitive and drives sales system-wide. The high royalty payment is, in effect, a premium for guaranteed market access and lead generation, insulating your unit from local competitive pressures.
3. Future-proofing Through R&D and Technology Investment
In competitive industries, standing still is the fastest way to lose. High royalty fees are the critical revenue stream that supports continuous capital reinvestment in Research and Development (R&D) and technology.
Centralized, well-funded technology creates a powerful competitive edge through data leverage. By collecting aggregated operational data across thousands of locations, the franchisor gains proprietary, non-public strategic information that informs system-wide decisions, optimizes marketing, and accelerates product development cycles. This strategic advantage is a potential challenge for fixed-fee systems unless the flat rate is consistently and proactively adjusted to fund necessary technology initiatives.
Summary
It's valuable to view the royalty fee as an investment in the future stability and competitive edge of the system, regardless of if it’s percentage or flat fee.
When utilized properly, a higher royalty is often the necessary capital injection that provides a solid foundation for scalability and future-proofing, transforming a perceived cost into your most powerful strategic investment.
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Kimberly Crossland is a copywriter, content strategist, and creator. Her goal is to inspire meaningful change through a strategic and thoughtful approach to life and business. In her free time, you can find her homeschooling her kids or on the road looking for a new adventure together with her boys.