Buying a Franchise in India: How to Check Royalty Calculations

A low royalty rate may look attractive when choosing a franchise, but the actual payment depends on the amount to which that rate applies. Before joining a franchise network, understand the full calculation, not just the percentage. If the definition of sales, payment dates and correction process are unclear, recurring fees may differ from your estimates.

1. Identify the basis for calculating royalties

A royalty can be a recurring fee for using a brand and its business system. It may be a fixed amount, a percentage of sales or a combination of both. The proposal and the contract should set out the same arrangement.

Do not assume you know what ‘gross sales’, ‘net sales’ or ‘total revenue’ means simply because the term appears in the contract. Read the definition and ask the franchisor for a sample monthly statement. In particular, ask:

• Is goods and services tax (GST) collected from customers included in the calculation or excluded?
• How are cancelled orders, customer refunds and failed payments deducted?
• When does a customer’s advance payment count as a sale?
• Could gift vouchers be counted twice: once when sold and again when redeemed?
• How are delivery charges and voluntary tips for staff treated?

The answers must be set out in a written definition, not merely explained by a sales representative. If a deduction is allowed, also agree on the evidence required and the deadline for recording it.

2. Reconcile discounts and online sales

The amount an online platform pays into your bank account may differ from the sales figure used to calculate royalties. Even if the platform deducts its commission before paying you, the contract may charge royalties on the customer’s full purchase amount. Do not automatically assume this is wrong; first assess whether your business can afford the cost.

Consider a hypothetical example: excluding tax and other adjustments, a customer makes a purchase of ₹1,000, and the platform deducts ₹200 before paying you ₹800. Using a royalty rate of 6 per cent purely for illustration, the fee would be ₹60 on ₹1,000, compared with ₹48 on ₹800. These figures illustrate the calculation; they do not represent prevailing market rates.

Ask about the rules for discounts separately. Discounts announced by the brand, discounts funded by you and discounts funded by the platform are not the same. Clarify whether royalties apply to the list price, the amount collected from the customer or another figure.

If you have to refund a sale from an earlier month, will you receive an adjustment in the next statement? This small provision can prevent repeated overpayments.

3. Check minimum fees and payment dates

Some contracts require a minimum royalty even when sales are low. Others make the higher of a minimum amount and a percentage-based amount payable. These arrangements differ, so a brief fee schedule in the proposal is not enough.

Ask for written calculations covering these situations:

• If the outlet’s opening is delayed, when do royalties start to accrue?
• Will minimum fees continue during refurbishment or a temporary closure?
• How will fees increase each year, and is there a cap?
• How will interest and other charges apply to late payments?

Work with your accountant to prepare three cash-flow budgets: normal sales, weak sales and temporary closure. Include any tax applicable to royalties and the payment dates. If royalties fall due before customers or online platforms pay you, you will need additional working capital. Do not budget on the assumption that available tax benefits will deliver immediate cash savings.

4. Understand India’s legal framework and your safeguards

India has no separate, comprehensive central franchise law, mandatory nationwide pre-sale disclosure regime or dedicated franchise registration system. You should therefore not expect to receive a standardised royalty breakdown automatically. General business registrations and applicable permits are separate matters.

The Indian Contract Act, 1872 provides the main framework for contract formation, performance and the consequences of breach. Where fraud or misrepresentation affects consent, remedies such as rescission of the contract may be available, depending on the circumstances; compensation is not automatic in every case.

For tax applicable to royalties, the Central Goods and Services Tax Act, 2017, the relevant state laws and, where applicable, the Integrated Goods and Services Tax Act, 2017 are relevant. For payments to a foreign brand, also check the Foreign Exchange Management Act, 1999 and the associated rules. Have a local accountant and lawyer review your arrangement.

5. Test the calculation before signing

Ask the franchisor to prepare a full royalty statement for a hypothetical month. It should include in-store sales, online orders, discounts, refunds, tax and minimum fees. Then have your accountant prepare the same statement independently. If the results differ, revise the wording of the contract.

Ensure the contract or a signed addendum records the calculation formula, permitted deductions, the date by which statements must be provided and the process for correcting errors. It should also clarify your access to sales records, the franchisor’s audit rights and who pays for any audit. Pay particular attention to any power to change fees or definitions unilaterally.

Practical takeaway: Accept a royalty rate only when you can independently reproduce a month’s fee calculation. Do not choose a brand on the percentage alone without a clear formula, a sample statement and a written adjustment process.