Buying a franchise: review purchasing requirements and margins

When you buy a franchise, you join a network with a shared business concept and coordinated ways of working. Centralised purchasing can deliver consistent quality, simpler operations and better terms. But having to buy from specified suppliers can also limit your flexibility. You therefore need to scrutinise purchasing requirements just as carefully as the franchise fee — and understand how they affect both profitability and cash flow.

1. Map out everything you must buy or rent

Start by requesting a complete list of mandatory purchases and rental arrangements. Look beyond the goods you will sell. Point-of-sale systems, workwear, packaging, fixtures and fittings, software and service contracts may also be tied to particular suppliers.

Ask the franchisor to distinguish between three categories:

• Mandatory supplier: you must buy from a specified company.
• Approved supplier: you may choose from a defined group.
• Quality requirements: you may choose your own supplier, provided the product or service meets the franchise concept’s requirements.

Then check where these obligations are set out: in the franchise agreement, schedules, operations manual or separate supplier agreements. Ask which documents take precedence if the information differs, and who can change the product range or supplier list.

Create a simple purchasing matrix with columns for product, supplier, pricing basis, minimum order, payment terms and scope for alternatives. Flag anything for which you do not yet have a written answer. The matrix will provide a shared reference for you, your accountant and your lawyer.

Also ask what happens if supplies run short. A purchasing requirement without a workable fallback could leave you unable to sell, even when customers are ready to buy.

2. Use your right to written information

Sweden’s Act (2006:484) on Franchisors’ Duty to Disclose Information requires franchisors to provide clear, understandable written information well before the franchise agreement is signed. This must explain the implications of the agreement and any other matters that need to be disclosed in the circumstances.

The information must include the goods or services you are required to buy or rent. Payments to the franchisor and other financial terms must also be disclosed. Purchasing obligations should therefore not be something you discover only when the business opens.

The Act does not specify a fixed number of days for providing information ‘well before’ signing. Request the material early enough to give yourself a genuine opportunity to analyse it and seek advice before signing. Record when you receive the documents and what additional information you request.

At the same time, distinguish between the statutory disclosure requirements and your own due diligence. It is worth requesting historical price lists, sample invoices and delivery performance data, but do not assume the Act expressly entitles you to every such document.

Sweden has no comprehensive franchise law governing the entire relationship. The Swedish Contracts Act and Competition Act are also relevant. The duty to disclose information does not mean that prices are reasonable or that the business will be profitable. Purchasing restrictions that appear particularly extensive should be assessed by a lawyer; they are not automatically unlawful simply because they limit your choice.

3. Calculate your actual margin and the cash tied up in stock

A price list alone is not enough to assess purchasing costs. Calculate the total cost of getting a saleable product to your business: purchase price, freight, handling, any import costs and expected wastage. Use comparable figures and account for VAT separately, based on the business’s entitlement to recover it.

In particular, check:

• Whether discounts depend on purchasing volumes that a new outlet can reasonably achieve.
• Whether rebates are paid to you or to the franchisor.
• Whether free delivery requires large orders.
• Whether promotions require you to hold stock or fund discounts yourself.
• Whether the franchise fee is calculated on turnover even when product margins are squeezed.

First, calculate the gross margin after the cost of goods. Then deduct the relevant variable fees to see how much sales contribute towards rent, wages and other fixed costs. Do not confuse this contribution with the business’s final profit.

Next, run a stress test: what happens if purchase prices rise, deliveries become more frequent and expensive, or sales are slower than planned? Separately, check what the agreement allows if you want to change your selling prices.

Your cash flow forecast needs to show when suppliers must be paid, not just when you expect to sell the goods. Large minimum orders and advance payments can create a need for finance even in a business that shows a profit on paper. Use this forecast in discussions with your bank.

4. Check day-to-day performance and secure the terms

Speak to several existing franchisees, ideally with businesses of different sizes and varying lengths of experience in the network. Ask how the purchasing system works in practice: do deliveries arrive on time, are invoices accurate, and are complaints dealt with promptly? Ask for concrete examples rather than just general opinions about the relationship.

Compare their answers with your financial projections and the written terms. A centrally negotiated discount, for example, is worth less if the supplier frequently runs out of the most popular products.

Above all, negotiate for clarity: how price changes are communicated, how alternative suppliers are approved, and who bears the cost of incorrect deliveries. Ask for important promises to be included in the agreement or a binding schedule. Have a lawyer with franchise expertise check how the purchasing terms fit with the other documents.

Practical takeaway: Do not sign until you know what you must buy, how the terms can change, and how purchasing will affect your margins and cash flow. A clear purchasing system puts both your business and the franchise network on a stronger footing.