One of the first and most significant financial decisions an entrepreneur must make prior to starting a preschool is selecting the appropriate model that they wish to use for their business. The two popular models that are often heard are zero royalty franchise and royalty based franchise.
It might seem obvious on the surface, and the numbers may indicate it, but if a franchise doesn't require a monthly royalty, it should be more affordable. However, this is not always the case.
Often, a zero-royalty franchise has a higher investment while a royalty-based franchise may be cheaper upfront and then charge a percentage off of every dollar of sales that is made. Recurring charges may include marketing, technology, renewals, training or other costs.
So, which model is actually cheaper?
The answer will vary based on initial investment, amount of revenue your preschool produces, duration of operation and other fees covered in the agreement.
In this guide, he will discuss the difference between the two types of models, give some examples about how to compare the profit of both models in the context of a franchise, and go over what prospective preschool owners should look for before signing a franchise agreement.
What Is A Zero-Royalty Franchise?
Zero royalty franchise, is a type of a franchise where as per the agreement, the franchisee is not required to pay any recurring royalty to the franchisor based on the revenue or sales generated by the franchise.
Rather, the franchisee is usually required to make an initial franchise/setup fee and then pay no percentage of profits.
For instance, Makoons is currently advertising the zero-royalty business model when it comes to preschool units. According to its published franchise information, the total investment for the preschool is equal to the franchise fee, which is in the range of ₹12-25 lakh.
But “zero royalty” does not mean “zero” on-going expenses. A prospective franchisee should also inquire about technology fees, marketing fees, renewal fees, learning materials, or other fees.
Potential advantages
No royalties based on a percentage of any sales or reproductions.
As the number of students increases, more money is saved.
Benefits of easier long term revenue forecasting
Moderately stronger results at higher revenues
The more people that attend the more they will benefit.
Possible drawback
The start-up costs are likely to be more significant.
There may still be some other recurring or required expenses.
What Is A Royalty Based Franchise?
A royalty based franchise is a franchise where the franchisee pays the franchisor an ongoing fee to keep using the brand, systems, curriculum, support or any other franchise benefits.
The fee can be set as:
A share of the revenue.
A predetermined set amount of money
A combination of fees
A percentage plus marketing / technology fee
Suppose the agreed royalty is 5% of the gross revenue per month and the gross revenue of preschool is ₹3 lakh per month, then the royalty will be:
₹3,00,000 × 5% = ₹15,000 per month
That equates to ₹1.8 lakh per annum, on the same revenue.
The percentage and how it is calculated are dependent on each individual franchise agreement and no two agreements are alike; investors should never assume that a single franchise agreement applies throughout the industry.
Zero Royalty Vs Royalty-Based Franchise: The Basic Difference
It's easiest to see the two models by considering when you pay.
Zero-Royalty Model
Pay premium up-front but not a percentage of revenue as a royalty later on.
More upfront cost → may have lower recurring royalty payments.
Royalty-Based Model
You might have a cheaper entrance price but still give up a portion of your profits to the franchisor.
Less or alternative initial price → ongoing royalties expense
There is no one correct model.
It is based on the number that is chosen.
How Preschool Franchise Royalty Can Affect Your Profit
Suppose that a hypothetical preschool makes ₹ 2.5 lakh in revenues every month.
If the franchise percentage is 5%:
₹2,50,000 × 5% = ₹12,500/month
Annual royalty:
₹12,500 × 12 = ₹1.5 lakh
Suppose that the revenue of the preschool increases to ₹4 lakh per month.
₹4,00,000 × 5% = ₹20,000/month
Annual royalty:
₹2.4 lakh
If the monthly income is ₹5 lakh, then the tax liability drops to:
₹5,00,000 × 5% = ₹25,000/month
Annual royalty:
₹3 lakh
The following is a valuable piece of information:
The larger the preschool's success, the larger the absolute royalty payment can be with a revenue-based fee.
This is not a bad idea for a royalty model. The franchisor may be bringing a significant amount of brand, curriculum, marketing, training and operational benefits.
The issue here is whether or not the support is worth the cost.
The Break-Even Point Between The Two Models
This is where the comparison is more helpful.
Suppose:
The cost of a zero-royalty franchise is ₹15 lakh.
Royalty fee for the franchise is ₹12 lakh.
Difference = ₹3 lakh
Royalty = 5%
How much should the revenue of the royalty based model be to make up the ₹3 lakh gap?
₹3,00,000 ÷ 5% = ₹60 lakh cumulative revenue
Given the cumulative revenue of ₹60 lakh, the royalty payments would be equal to the difference of initial payment of ₹3 crore.
In case of preschool with a monthly revenue of ₹3 lakh:
₹60 lakh ÷ ₹3 lakh = 20 months
In this simplified case, the cumulative cost of the two models would be the same after about 20 months.
From then on, the zero-royalty model would be financially superior, if all other costs are equal.
However, there is a caveat:
If the franchise is successful in generating much more admissions due to the brand support, then the calculation changes.
That is why, it is always better to compare franchise profits with the percentage of royalties than to do it on just that basis.
Also Read: FOFO vs FOCO Preschool Franchise Models Explained Simply
What Does A Royalty Actually Pay For?
The term "royalty" doesn't always mean "logo fee.
It can be used for:
Brand recognition
Curriculum development
Teacher training
Academic support
Marketing systems
Operational guidance
Research and development
Technology platforms
Quality management
Franchise management
New teaching resources
If value is added to the product by the franchisor enough to warrant the royalty then it is a good one.
A zero-royalty franchise with less support might, for instance, be more profitable than a royalty-based franchise that can better help you attract significantly more students.
Profit is dependent on the whole business model, not one fee.
What Does A Zero-Royalty Franchise Actually Mean?
That's where potential franchisees must be careful.
“Zero royalty” typically implies no ongoing royalty payments as per the given agreement.
It does NOT imply:
No annual fees
No technology fees
No marketing contribution
No renewal charges
No material purchases
No training charges
For instance, Makoons currently claims to have a zero-royalty model and the franchise information published by the company also includes support in the areas of curriculum, branding, pre-launch marketing, staff training and admissions assistance.
When Does A Zero-Royalty Franchise Make More Sense?
A zero royalty franchise can be a good choice if:
Enrollment is expected to be good.
Your preschool can create a lot of revenue that you can count on coming back.
Your plan is to run for a number of years.
Capital investment is not too high.
It's a decent brand without any royalties.
Other recurrent charges are normal.
This is most apparent as revenue increases since you're not paying a percentage of that additional revenue as a royalty fee to the franchisor.
When Can A Royalty-Based Franchise Be Better?
It may be appropriate to use a royalty based model when:
This initial investment is much cheaper.
The franchisor is prepared to give extensive support.
The brand has a solid lead generation for admissions.
The curriculum is constantly enhanced, as is teacher training.
Marketing systems really work.
The royalty amount is fair in comparison with the value obtained.
Imagine two franchises:
Franchise A: 0 royalty and 60 students.Franchise A: 0% royalty and 60 students.
Franchise B: 5% royalty and 100 students.
Despite the royalty payments required with Franchise B, it could still produce much more income.
This is why a penny stock analysis based on only the royalty percentage can be a bad investment.
A Better Way to Compare Franchise Models
Make 5 year forecasts for each franchise.
Include:
Initial Costs:
Franchise fee
Interiors
Furniture
Equipment
Branding
Security deposit
Pre-launch marketing
Monthly Costs:
Rent
Salaries
Utilities
Marketing
Technology
Royalty
Maintenance
Consumables
Annual Costs:
Renewals
Training
Learning materials
Repairs
Insurance, where applicable
Other contractual fees
Then estimate:
Revenue – Total Operating Costs = Operating Profit
This is the way to get a whole lot clearer franchise profit comparison.
Also Know: Top 10 Preschool Franchise Brands in India
Should You Choose Zero Royalty Just Because It Sounds Better?
No.
This is likely the most significant of the findings in the article.
While zero royalty may seem like a sweet offer, it's not necessarily a good franchise fit.
Imagine:
Zero-Royalty Franchise
₹15 lakh investment
₹2.5 lakh monthly revenue
0% royalty
Royalty-Based Franchise
₹12 lakh investment
₹4 lakh monthly revenue
5% royalty
The second franchise has ₹20,000 per month royalty fees but the revenue also increases by ₹1.5 lakh per month.
With this example, the cost of the royalty could be worth it.
The correct question isn't:
Which franchise doesn't have a royalty?
It is:
Which franchise can I run profitably on a sustainable basis while covering all costs?
Final Verdict: Zero Royalty Vs Royalty-Based Franchise
So, which one saves more money?
A zero-royalty franchise will cost less in the long run if:
Revenue becomes strong.
The starting capital disparity is not too great.
No significant hidden regular costs.
Brand and operational support still continue to be good.
You are going to be around for a number of years.
When dealing with a royalty-based franchise, the best time to purchase it may be when:
Initial costs are considerably less.
The brand has a significantly higher volume of admissions.
Support is really important.
The rate of royalties is fair.
The overall profit will be increased after accounting for royalties.
The best education franchise model is therefore not defined by the word "zero".
It is based on the total investment, total recurring cost, the potential for return on investment, the quality of support that can be provided, and the potential for long-term profitability.
For instance, Makoons presently has an overall investment range of ₹12–25 lakh with a zero-royalty preschool franchise model, and it provides assistance in site selection, infrastructure, curriculum, training, marketing, and admissions. The above is a handy illustration of a zero-royalty arrangement that a franchisor can offer a potential franchisee, but before investing, the franchisee should read and understand the entire commercial agreement and confirm all recurring obligations.
Ultimately, don't select a franchise simply because it has zero royalty or because its initial fee is low. Make a long-term (3 to 5 years) total economics comparison, consult with current franchisees, know the agreement, and create your own conservative financial estimate.
That's how you can see if you are really saving money.
Frequently Asked Questions
1. What is a zero royalty franchise?
A zero royalty franchise is one that does not involve any ongoing payment, or royalty, from the “franchisee” to the “franchisor” under the agreement. Some other charges, including marketing, technology, renewal or material charges however, may still apply and should be checked.
2. What is the meaning of the term "Franchise Royalty Fees"?
Franchisee regular payments to the franchisor for the right to use the franchise trademark. These can be determined as a percentage of revenue or as a fixed, recurring fee. It will depend on the franchise agreement for the precise calculation.
3. Is a zero-royalty preschool franchise always more profitable?
No. While a zero-royalty concept will lower the recurring costs, profitability is also tied to investment, admission, fees, rent, staffing, marketing, and other operating costs. If the brand and support is generating substantially more revenue, a royalty-based franchise might be more profitable.
4. How to compare a zero royalty and royalty based franchise?
Create a 3-5 year financial forecast for both models. Look at initial costs, royalties, marketing costs, technology costs, renewal fees, operating costs, expected enrolments, revenue and operating profit.
5. Does zero royalty mean there are no recurring franchise costs?
Not necessarily. The zero royalty usually only applies to the absence of a recurrent royalty. Additional costs for marketing, technology, training, renewal or mandatory materials may still apply. Never accept an incomplete fee schedule.
6. Which franchise model is better for a preschool business?
Which is the better model is dependent on one's situation. The zero-royalty option may work well for an entrepreneur who has a huge expectation of the revenue to be high in the long term, whereas the royalty option might be appropriate if the ongoing support is very high and the entry cost is low. The best preschool business model is the one that is profitable in the long run, meaning that all costs have been considered and not just the royalty.
