Franchising vs. Licensing Business Model

Franchising is an agreement between two parties where a franchisor collects a fee from a franchisee for the privilege of setting up a business with the former’s brand name, technology, or established marketing systems.

Licensing is an agreement between two parties in which a licensor grants a licensee permission to use something without owning it. These agreements tend to involve intellectual property such as brands, trademarks, or logos.

Aspect	Franchising	Licensing
Definition	Franchising is a business model where a franchisor grants a franchisee the right to operate a business using the franchisor’s brand, systems, and support in exchange for fees and royalties.	Licensing is a contractual agreement in which a licensor grants a licensee the right to use its intellectual property, such as trademarks, patents, or copyrights, for a fee or royalty.
Type of Business	Franchising often involves businesses like restaurants, retail stores, and service providers where standardization and consistent customer experience are crucial.	Licensing is commonly used for intellectual property-driven businesses like software, entertainment, and merchandise, where branding and IP utilization are essential.
Ownership and Control	Franchisors retain a significant level of control over franchisees, including business operations, branding, and quality standards, to ensure consistency.	Licensors typically have less control over licensees, primarily concerning the use of licensed intellectual property, allowing more independence in other aspects of the business.
Brand Usage	Franchisees use the franchisor’s established brand, including trademarks, logos, and trade dress, to attract customers and benefit from brand recognition.	Licensees use the licensor’s intellectual property, such as brand names, characters, or technology, to enhance their products or services.
Business Model Purpose	Franchising aims to replicate successful business models across multiple locations or regions while maintaining a consistent brand and customer experience.	Licensing aims to generate revenue by allowing others to use and commercialize the licensor’s intellectual property while expanding its reach.
Investment	Franchisees typically make a substantial upfront investment to establish and operate the business, including franchise fees, equipment, and leasehold improvements.	Licensees usually have a lower initial investment because they are not required to set up an entire business but pay licensing fees or royalties.
Royalties and Fees	Franchisees pay ongoing royalties and fees to the franchisor, which may include a percentage of sales revenue and contributions to national marketing efforts.	Licensees pay licensing fees and royalties to the licensor, often based on sales or usage of the licensed intellectual property.
Support and Training	Franchisors provide extensive support and training to franchisees, including initial training, ongoing assistance, and access to marketing resources.	Licensors may offer some support and guidance, primarily related to using licensed intellectual property, but typically provide less comprehensive training.
Operational Independence	Franchisees have a degree of independence in daily operations, but they must adhere to the franchisor’s operational standards, systems, and branding.	Licensees have more freedom in operational decisions, as long as they do not violate the terms of the licensing agreement regarding the use of intellectual property.
Risk and Reward	Franchisees share both business risks and rewards with the franchisor, with the potential for profitability but also the obligation to follow the franchise system.	Licensees face less business risk related to operations and market demand but also have limited control over the licensed intellectual property’s success.
Examples	– McDonald’s: Franchisees operate McDonald’s restaurants globally, using the brand, menu, and operational systems. – Subway: Subway franchises use the Subway brand and menu to operate sandwich shops.	– Disney: Disney licenses its characters and content to toy manufacturers, allowing them to create and sell Disney-themed merchandise. – Microsoft: Microsoft licenses its software products to other businesses for distribution and use.
Legal Agreements	Franchising involves complex legal agreements, including Franchise Disclosure Documents (FDDs) and franchise agreements, to govern the relationship between franchisor and franchisee.	Licensing also involves legal agreements, such as licensing agreements and intellectual property contracts, specifying the terms of IP usage, fees, and restrictions.
Global Expansion	Franchising is often used for global expansion, allowing franchisors to enter new markets through local franchise partners.	Licensing can facilitate global expansion by allowing international companies to use licensed IP in various regions.
Marketing and Advertising	Franchisors typically coordinate national or global marketing campaigns, with franchisees contributing to marketing funds for brand promotion.	Licensors often rely on licensees to conduct local marketing efforts while maintaining control over branding and messaging.
Competition	Franchisees often face competition from other franchisees within the same brand, emphasizing the need for consistent quality and customer experience.	Licensees may face competition from other businesses using similar licensed intellectual property, but the licensor retains control over IP integrity.
Exit Strategy	Exiting a franchise typically involves selling the franchise to another party approved by the franchisor or returning it to the franchisor.	Exiting a licensing agreement may involve discontinuing the use of licensed intellectual property or transferring the license to another entity, subject to licensor approval.

Related Frameworks, Models, or Concepts	Description	When to Apply
Franchising	– Franchising is a business model in which an individual or entity (franchisee) is granted the right to operate a business using the trademarks, branding, and business model of another company (franchisor). – The franchisee pays initial fees and ongoing royalties to the franchisor in exchange for the right to use their business system, support, and brand recognition. – Franchising allows for rapid expansion and market penetration while leveraging the local expertise and investment of franchisees.	– When seeking to expand a business rapidly with limited capital investment. – To leverage the entrepreneurial spirit and local knowledge of franchisees for market penetration. – To maintain brand consistency and quality standards across multiple locations.
Licensing Business Model	– The Licensing Business Model involves granting permission to another party (licensee) to use intellectual property, such as trademarks, patents, copyrights, or trade secrets, in exchange for fees or royalties. – Licensing agreements specify the terms and conditions of use, including the scope, duration, and geographical limitations. – Licensing allows companies to monetize their intellectual property, expand into new markets, and generate revenue streams without the need for significant investment or operational involvement.	– When seeking to monetize intellectual property assets, such as patents, trademarks, or copyrights. – To expand into new markets or product categories through partnerships with licensees. – To generate passive income streams and leverage the value of intellectual property without the need for direct operational involvement.
Business Expansion	– Business Expansion involves scaling operations and entering new markets to increase revenue and profitability. – It can include strategies such as organic growth, franchising, licensing, mergers and acquisitions, or strategic partnerships. – Business Expansion aims to capitalize on market opportunities, gain market share, and achieve economies of scale.	– When seeking to grow revenue and market share. – To capitalize on market opportunities and expand into new geographic regions or product categories. – To achieve economies of scale, improve competitiveness, and increase profitability.
Business Model Innovation	– Business Model Innovation involves redesigning or reimagining the way a company creates, delivers, and captures value. – It can include changes to revenue streams, customer segments, distribution channels, or cost structures. – Business Model Innovation aims to create new sources of competitive advantage, drive growth, and adapt to changing market conditions.	– When seeking to differentiate from competitors and create new revenue streams. – To adapt to changes in customer preferences, technology, or industry dynamics. – To unlock new opportunities for growth and improve the company’s long-term viability.
Strategic Alliances	– Strategic Alliances involve partnerships between two or more companies to achieve shared objectives or mutual benefits. – It can include collaborations in areas such as research and development, distribution, marketing, or production. – Strategic Alliances allow companies to leverage complementary strengths, resources, and capabilities to pursue opportunities that may be beyond their individual reach.	– When seeking to access new markets, technologies, or resources. – To share risks, costs, and expertise with partners. – To capitalize on synergies and create competitive advantages through collaboration.
Brand Management	– Brand Management involves the strategic oversight and development of a company’s brand to create value and build customer loyalty. – It includes activities such as brand positioning, identity design, communication, and brand equity management. – Brand Management aims to create positive perceptions, emotional connections, and competitive differentiation in the minds of consumers.	– When seeking to build brand awareness, equity, and loyalty. – To maintain brand consistency and relevance across different markets or channels. – To differentiate from competitors and create meaningful relationships with customers.
Intellectual Property Strategy	– Intellectual Property (IP) Strategy involves identifying, protecting, and leveraging intellectual property assets to create value and competitive advantage. – It includes patents, trademarks, copyrights, and trade secrets. – IP Strategy aims to safeguard innovation, prevent infringement, and monetize IP assets through licensing, partnerships, or litigation.	– When seeking to protect and monetize intellectual property assets. – To deter competitors, secure market exclusivity, and generate revenue streams from IP assets. – To support innovation, technology transfer, and business growth.
Market Entry Strategy	– Market Entry Strategy involves the planning and execution of activities to enter a new market successfully. – It includes market research, competitive analysis, distribution channel selection, and marketing tactics. – Market Entry Strategy aims to minimize risks, maximize opportunities, and establish a foothold in the target market.	– When seeking to expand into new geographic regions or customer segments. – To assess market attractiveness, competitive dynamics, and entry barriers. – To develop strategies for market penetration, product localization, and customer acquisition.
International Expansion	– International Expansion involves entering foreign markets to pursue growth opportunities beyond domestic borders. – It can include strategies such as exporting, licensing, franchising, joint ventures, or wholly-owned subsidiaries. – International Expansion aims to access new markets, diversify revenue streams, and capitalize on global demand.	– When seeking to tap into international markets for growth and expansion. – To leverage competitive advantages, such as economies of scale, technological expertise, or brand recognition, in foreign markets. – To navigate regulatory, cultural, and logistical challenges associated with global expansion.
Ecosystem Development	– Ecosystem Development involves nurturing a network of partners, suppliers, customers, and stakeholders to create value for all participants. – It can include platform development, API integration, co-creation initiatives, and community engagement. – Ecosystem Development aims to foster collaboration, innovation, and mutual success within the ecosystem.	– When seeking to create network effects, scale operations, and drive innovation. – To leverage the collective strengths and resources of ecosystem partners. – To create a sustainable competitive advantage and adapt to changing market dynamics.

Table of Contents

Understanding franchising

Franchising is an agreement involving the payment of a fee from the franchisee to the franchisor in exchange for use of the former’s brand, business systems, or trademarks.

In some agreements, the franchisee may also be required to pay the franchisor a percentage of their revenue in royalties.

Unlike license agreements where two independent businesses share a common brand element or technology for a period of time, a franchise agreement duplicates an existing brand and business model.

Since both entities act less independently, the franchisee has limited control over how the business is operated.

McDonald’s is undoubtedly the best example of a franchise business and is known for its strict application criteria.

Franchisees are expected to meet certain net worth and liquidity thresholds and are also responsible for obtaining supplies, paying salaries, and meeting rent or mortgage expenses.

The upfront investment might shoot up to $2 million plus and 4% of earnings paid in royalties.

While these costs may seem exorbitant, it’s worth noting that a McDonald’s franchise is as close to guaranteed returns as one can get in business.

Franchise owners have access to the company’s brand equity, streamlined training and operational procedures, and margins that can be as high as 40% on some items.

Understanding licensing

License agreements set forth the terms of shared use of a trademark, technology, or IP asset. In exchange for the legal right to use the licensor’s asset, the licensee pays a license fee.

This fee may be exclusive or non-exclusive and one-time or continuous depending on the nature of the asset and agreement.

Licensing examples include:

Limited and specific purpose – when McDonald’s wants to co-brand its Happy Meals with Disney characters, it must obtain a license from Disney to do so.
Exclusive use of technology – examples include Apple licensing users to use its operating system and Spotify handing out licenses for users to listen to music on its network.
Patent or technology licensing – this is commonly used by pharmaceutical companies that award licenses to manufacturers to use their patented formulas.

Key Similarities between Franchising and Licensing:

Agreements: Both franchising and licensing involve agreements between two parties – a franchisor and a franchisee in franchising, and a licensor and a licensee in licensing.
Use of IP: Both models grant the right to use intellectual property, such as trademarks, logos, or technology, from one party (franchisor/licensor) to another (franchisee/licensee).
Fee Payment: In both cases, the party using the intellectual property pays a fee to the owner of the IP for the right to use it.

Key Differences between Franchising and Licensing:

Business Model:
- Franchising: Franchising involves a complete business model, where the franchisee sets up a business using the franchisor’s brand, business systems, and established marketing strategies.
- Licensing: Licensing grants permission to use intellectual property without providing a full business model. The licensee may use the licensed IP to create and operate their own business.
Level of Control:
- Franchising: In franchising, the franchisor exercises significant control over the franchisee’s business operations, including product/service offerings, pricing, and other aspects.
- Licensing: In licensing, the licensor generally has less control over how the licensee operates their business. The focus is on the use of the licensed IP rather than day-to-day business operations.
Duplication vs. Sharing:
- Franchising: Franchising involves the duplication of an existing brand and business model. The franchisee replicates the franchisor’s business in a new location or territory.
- Licensing: Licensing involves the sharing of intellectual property, where the licensor allows the licensee to use certain aspects of their IP, such as a trademark, for specific purposes.
Revenue Sharing:
- Franchising: In franchising, the franchisee typically pays both an upfront fee (franchise fee) and ongoing royalties to the franchisor based on a percentage of revenue.
- Licensing: In licensing, the fee structure may vary, and the licensee may pay a one-time fee, ongoing royalties, or a combination of both.

Key takeaways:

Franchising is an agreement involving the payment of a fee from the franchisee to the franchisor in exchange for use of the former’s brand, business systems, or trademarks. License agreements set forth the terms of shared use of a trademark, technology, or IP asset between a licensor and licensee.
The primary differences between franchising and licensing arise from the level of control, business objectives, and regulation. While franchisees have less control over business operations, this is offset in many instances by access to the franchisor’s brand, expertise, and other valuable IP or assets.
McDonald’s is one of the best examples of a franchise business and is known for its strict application criteria and high initial investment.

Franchising Examples:

McDonald’s: A global fast-food chain where individual franchisees run locations.
Subway: Franchisees run sandwich shops under the Subway brand and follow their set guidelines.
Starbucks: Although primarily company-owned, they’ve started franchising in some markets.
7-Eleven: A convenience store model where store owners operate under the 7-Eleven brand.
Holiday Inn: A hotel brand that franchises its name to individual hotel owners.
Anytime Fitness: A gym franchise that allows franchisees to run locations under the brand’s guidelines.
Domino’s Pizza: Franchisees operate pizza delivery and carry-out restaurants under the Domino’s brand.

Licensing Examples:

Disney Characters: Disney licenses its characters for toys, clothing, and other merchandise.
Star Wars Merchandise: Disney (which owns Star Wars) licenses the rights to produce Star Wars-themed products to various manufacturers.
Microsoft Windows: Microsoft licenses its operating system to computer manufacturers who install it on their machines.
NFL Team Logos: The NFL licenses team logos to manufacturers for jerseys, hats, and other merchandise.
Harry Potter: Warner Bros. licenses the rights to produce Harry Potter-themed products, such as toys and clothing.
Band T-Shirts: Bands often license their logos and album covers to manufacturers for apparel.
University Logos: Colleges and universities license their logos for use on apparel and merchandise.

Key highlights:

Franchising:
- Agreement between a franchisor (owner) and franchisee (dealer).
- Franchisee pays a royalty to use the franchisor’s brand, process, and products.
- Involves a complete business model duplication.
- Franchisor exercises significant control over operations.
- Franchisee pays both an upfront fee and ongoing royalties.
- Example: McDonald’s, known for its strict criteria and potential high returns.
Licensing:
- Agreement between a licensor (IP owner) and a licensee (user).
- Licensee pays a fee to use the licensor’s intellectual property (trademarks, technology, etc.).
- Grants permission to use IP without a full business model.
- Licensor has less control over licensee’s business operations.
- Revenue structure varies: one-time fee, ongoing royalties, or a combination.
- Examples: McDonald’s co-branding Happy Meals with Disney characters; Apple OS and Spotify music licenses.
Similarities:
- Both involve agreements granting rights to use intellectual property.
- Both involve the payment of fees from one party to another.
- Both models leverage established brands or technology for business expansion.
Differences:
- Business Model: Franchising provides a full business model, while licensing does not.
- Control: Franchisors have more control over franchisees than licensors over licensees.
- Objective: Franchising replicates an existing business; licensing shares IP for specific purposes.
- Revenue: Franchisees pay upfront and ongoing royalties; license agreements vary in fee structure.
Takeaway:
- Franchising and licensing are distinct ways to expand business using established IP or assets.
- McDonald’s serves as a prime example of franchising with its strict criteria and potential returns.