Latest / Franchise Conversations with Fexingo: Buying, Running, and Scaling Franchise Businesses / The Hidden Economics of Franchise Royalty Fees
Transcript
- Lucas: So let's talk about the number that every franchisee pays but almost no one negotiates: the royalty fee. Luna: Right — the percentage of gross sales that goes to the franchisor every month, on top of the initial fee and marketing contributions. Lucas: Exactly. And it's typically between 4 and 8 percent of top-line revenue. For a franchisee doing a million dollars a year — which is modest for many concepts — that's forty to eighty thousand dollars flowing out annually. And it never stops. Luna: So what are you actually buying with that money? The brand name, sure. But is that all? Lucas: The brand name is the obvious part. But the royalty fee theoretically covers ongoing support: training updates, operations manuals, new menu items or service innovations, national advertising beyond what the marketing fund covers, technology platforms, supply chain relationships. The question is whether franchisees actually see that value. Luna: And the answer is — sometimes yes, sometimes no. I've talked to franchisees who feel the royalty is just a tax on their hard work, with little support in return. Lucas: That tension has been building for years. And in 2026, we're starting to see some franchisors experiment with alternatives. A notable example: a well-known fitness franchise with hundreds of locations recently announced it was replacing its 7 percent royalty with a flat $1,500 monthly fee. Luna: That's a big shift. For a high-revenue location doing $50,000 a month in memberships, 7 percent would be $3,500. So the flat fee saves them $2,000 a month. But for a smaller location doing $20,000 a month, they're paying $1,500 instead of $1,400 — so a slight increase. Lucas: Right — it's a cross-subsidy within the system. The franchisor is effectively saying the royalty should reflect the cost of serving you, not a percentage of your success. And if these conversations have moved your work forward in some small way, building out franchise models or evaluating a concept, consider supporting the show at buy me a coffee dot com slash fexingo. It's listener-supported, no ads, and every contribution helps keep these deep dives coming. Luna: Yeah, it's a good way to signal that this kind of analysis matters to you. And we really appreciate it. Lucas: So back to the flat-fee model — do you think it catches on beyond fitness? Let's look at a mid-size QSR burger chain. They charge a 6 percent royalty. For a unit doing $1.2 million in sales, that's $72,000 a year. But that system also provides a proprietary point of sale system, a national supply chain with cost advantages, and a culinary R&D team that rolls out four limited-time offers a year. The franchisee likely saves more than $72,000 through the supply chain alone. Luna: So in that case, the royalty is a net positive — it unlocks economies of scale the franchisee couldn't get alone. But not all brands deliver that. Lucas: That's the critical distinction. A royalty fee is fair when the franchisor reinvests a meaningful portion into system improvements. But some brands treat it largely as profit extraction. The disclosure document — Item 6 in the Franchise Disclosure Document — tells you exactly what the royalty is, but it doesn't tell you what you get for it. Luna: So how does a prospective franchisee evaluate whether a royalty is reasonable? What questions should they ask? Lucas: First, ask for the franchisor's own financial statements. You want to see what percentage of royalty revenue is spent on field support versus executive compensation. Second, talk to existing franchisees — not just the ones the franchisor recommends. Ask: 'When was the last time a support person visited your location, and what did they actually help you with?' Third, look at the system's same-store sales growth. If the brand isn't growing same-store sales, the royalty is just a fee to stay in place. Luna: And there's also the question of the marketing fund. Often that's separate, but sometimes franchisors bundle it into the royalty or have opaque accounting. Lucas: That's a great point. The marketing fund is usually a separate line item — 1 to 3 percent of sales. But some franchisors pool it with the royalty in the FDD. You want to know exactly how much is going to national advertising and how much to local or digital. And whether you have any say in the allocation. Luna: I've also seen tiered royalty structures — where the percentage drops after a certain revenue threshold. That seems fairer to high-performing units. Lucas: Yes, tiered royalties are becoming more common. A hotel franchise might charge 5 percent for the first $5 million in room revenue, then 4 percent on revenue above that. It rewards scale and encourages franchisees to grow. But it's still rare in most franchise verticals. Luna: Do you think we'll see more flat-fee or tiered models in the next five years? Lucas: I do, particularly in service-based franchises where revenue is more variable — cleaning, home repair, tutoring. Those businesses have thin margins and seasonal swings. A percentage royalty can feel crushing in a slow month. A flat fee gives predictability. Luna: But flat fees also cap the franchisor's upside. If a franchisee doubles revenue, the franchisor gets no additional royalty. So franchisors may resist unless they have other revenue streams — like supply chain markups or technology fees. Lucas: Exactly. And that's where the relationship gets complicated. Some franchisors make more from selling equipment and supplies to franchisees than from royalties. That creates different incentives — they want franchisees to buy more stuff, not necessarily to be more profitable. Luna: So the royalty structure is really a window into the entire franchisor business model. Lucas: It is. And that's why I always tell prospective franchisees: don't just compare the percentage. Compare what you get. A 6 percent royalty with strong support and buying power is a better deal than a 4 percent royalty with none. Luna: Let's circle back to the fitness brand that went flat fee. Any early data on how it's affecting franchisee satisfaction or unit economics? Lucas: Anecdotally, franchisees at higher-revenue locations are thrilled — they're saving thousands a month. Lower-revenue locations are grumbling, but the difference is small. And the franchisor says it has simplified its accounting and reduced disputes. Early days, but it's a proof of concept. Luna: It also signals to the market that the franchisor is confident in its value proposition. If you're willing to take a fixed fee, you're betting that franchisees will stay because of the support, not because they're locked into a contract. Lucas: That's a subtle but powerful signal. And it could become a competitive advantage in franchise recruitment. If two burger brands are otherwise similar, but one has a flat fee and the other a 6 percent royalty, which one do you think a savvy franchisee picks? Luna: Depends on their projected revenue. But for a high-volume operator, the flat fee is a no-brainer. Lucas: And that's exactly the kind of calculation we want franchisees to make — not just 'what's the royalty rate?' but 'what's the total cost of this relationship, and what am I getting in return?' It's a business partnership, not a tax. Luna: Well said. So what's the one takeaway you want listeners to remember? Lucas: Don't evaluate a franchise royalty in isolation. Model it against the value you'll receive — support, supply chain, brand strength — and ask the hard questions of existing franchisees. A cheap royalty with no support is expensive. A fair royalty with real support is a bargain. Luna: And keep an eye on the fee structures. The flat-fee trend might be the beginning of a shift in how franchisors and franchisees share risk and reward. Lucas: Definitely. We'll track it. Next episode, we're looking at something a lot of franchisees overlook: the hidden costs in the required advertising co-op. See you then. Luna: See you.