Franchising in Spain: checking the franchisee’s profit margin

An owner-operated business can make money yet leave little profit for someone running it as a franchisee. The difference often lies in costs that the original outlet does not bear, does not record separately or covers using the founder’s own resources. Before bringing other business owners into your franchise network, assess the business’s profitability from their perspective: what revenue it generates, how much work it requires and what remains after paying for all the resources needed.

1. Start with actual financial performance, not the bank balance

The purpose of this review is not to calculate start-up costs or promise future sales. It is to check whether the existing business generates a profit margin that can be replicated when its costs are properly accounted for.

Gather accounts, invoices, payroll records, stock records and sales data for a period that captures normal fluctuations in trading. An exceptionally successful sales campaign does not necessarily reflect the business’s usual performance.

Treat income and expenses consistently. For example, do not compare sales including VAT with purchases recorded excluding VAT. Also distinguish the cost of goods used or sold from purchases: building up stock is not the same as selling it.

Separate three areas:

• Operating profit: what the business generates after its operating costs.
• Investment and replacement: the resources needed to acquire and maintain equipment, with depreciation reflected in the accounting analysis.
• Cash flow: when money comes in and goes out, including financing and payment due dates.

Money in the bank does not prove profitability, just as a profit does not guarantee sufficient liquidity. Ask your accountant to review how items have been classified before using the analysis to decide whether to franchise.

2. Adjust for advantages specific to the original business

The founder’s outlet often benefits from arrangements that do not automatically carry over to other locations. It may occupy premises the founder owns, receive free administrative support from another company or rely on working hours for which the owner’s remuneration is not recorded.

Prepare a second profit and loss account for internal analysis, incorporating a reasonable cost for replacing those contributions. Keep the historical accounts alongside it and explain each adjustment; do not alter the original accounting records.

Pay particular attention to:

• The owner’s work: identify their duties and the cost of covering them, even if the future franchisee will perform those duties personally.
• Premises: distinguish the actual cost of owner-occupied premises from the rent a comparable outlet might pay.
• Shared services: allocate the costs of administration, technology or storage currently paid by another part of the business.
• Exceptional terms: identify personal discounts, one-off grants or free supplies that will not be available to new outlets.

Pay for work and a return on investment are not the same thing. If the entire surplus disappears once reasonable remuneration for managing the outlet is included, you have not yet demonstrated an additional return on the capital invested.

3. Include the franchisee’s specific costs

To that adjusted profit and loss account, add only the obligations the franchisee will actually face that have not already been included: ongoing fees payable to the franchisor, advertising contributions, mandatory software or external services required by the franchise model.

Avoid double-counting. If a service covered by the fees paid to the franchisor replaces an existing expense, explain the substitution rather than automatically adding both. If it covers only part of the service, retain the remaining cost.

You can organise the review in a table with four columns: item, historical cost, adjustment and justification. Each difference should be supported by a contractual requirement, a quotation or identifiable operational evidence.

Then test adverse scenarios as an internal exercise: lower trading volumes, higher staffing costs or more expensive supplies. Do not present these assumptions as facts or guaranteed outcomes. They help identify which changes would wipe out the margin and what measures would be feasible without compromising service.

If a profit appears only when mandatory expenses are omitted or the franchisee is assumed to work without pay, review the model before marketing it.

4. Distinguish internal validation from a sales promise

In Spain, Article 62 of Law 7/1996 on the Regulation of Retail Trade and Royal Decree 201/2010 govern specific aspects of franchising. Article 2 of the Royal Decree links the model to a business activity previously carried out with sufficient experience and success. It does not set a minimum profit margin that would establish compliance with that condition.

Article 3 also requires written pre-contractual information that is truthful and not misleading, provided at least twenty working days before the prospective franchisee signs a contract or preliminary agreement, or makes any payment. Where sales or earnings forecasts are supplied, they must be based on sufficiently substantiated experience or studies.

If you share your analysis, therefore, clearly distinguish historical results, adjustments and assumptions. A profit and loss account reconstructed to assess costs is not the same as results achieved by an actual franchisee.

Practical conclusion: before recruiting prospective franchisees, prepare a historical profit and loss account, an adjusted version and a documented explanation of the differences. If the margin depends on personal advantages you cannot pass on, address that dependency before expanding.