Chapter 6 Franchising and the Entrepreneur

Multiple Choice Questions

1. A franchise is a system of distribution in which semi-independent business owners

pay ____________ and ____________ to a parent company in return for the right to
become identified with its trademark, to sell its product or services, and often to use
its business format and system.
a. a percentage of sales; royalties
b. upfront costs; incremental costs
c. royalties; monthly consulting charges
d. fees; royalties

d. – Medium, Page 189

2. Franchises account for _____ percent of U.S. retail sales.

a. 24
b. 34
c. 44
d. 54

c. – Difficult, Page 189

3. _______________ franchising involves providing the franchisee with a complete

business system, with an established name, the building layout and design,
accounting systems, and other elements while ______________ franchising allows
the franchisee to use the franchiser’s trade name without distributing the products
exclusively under the franchiser’s name.
a. Product distribution; trade name
b. Trade name; pure
c. Pure; trade name
d. Pure; product distribution

c. – Easy, Pages 190-191

4. McDonald’s is an example of a ___________ franchise.

a. conversion forms
b. trade name
c. product distribution
d. pure

d. – Easy, Pages 190-191

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5. Benefits of involvement in a franchise experience include:
a. management training and support.
b. brand name appeal and standardization of goods and services.
c. national advertising exposure and financial assistance.
d. all of the above.

d. – Easy, Pages 191-193

6. Which of the following is not a potential advantage of franchising for the

franchisee?
a. Management training and assistance
b. National advertising program
c. Centralized buying power
d. Limited product line

d. – Easy, Pages 197-198

7. Franchisers generally do which of the following regarding financial assistance to

franchisees?
a. Provide direct financing
b. Assist in finding financing and occasionally provide direct assistance in a
specific area
c. Waive royalty fees for franchisees not making an adequate profit
d. Generally do nothing, as having or finding financing is a requirement for
qualifying for a franchise.

b. – Medium, Pages 193-194

7. The failure rate for franchises is:

a. higher than the rate for all new businesses.
b. no different from the rate for all new businesses.
c. lower than the rate for all new businesses.
d. indeterminable because of the Right to Privacy Act.

c. – Medium, Page 195

8. Franchise royalty fees typically range from _____ to _____ percent of a

franchisee’s continuing sales.
a. 1; 3
b. 5; 9
c. 3; 7
d. 7; 12

c. – Difficult, Page 196

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9. After a 10-year period, the success rate of individual franchise business that survive
is about ______________ than that of independent businesses.
a. twice as great
b. three times greater
c. no different
d. about half

b. – Difficult, Page 196

10. When it comes to purchasing products, equipment, and incurring other expenses,
the franchiser:
a. cannot require the franchisees to buy from the franchise company.
b. can set prices franchisees pay for the products but cannot set the retail price the
franchisees charge.
c. is permitted to set the retail price for the franchisee.
d. cannot require franchisees to buy from an "approved" supplier.

b. – Medium, Page 123

11. Which of the following is not a potential disadvantage of a franchise?

a. Unsatisfactory training program
b. Limited product line
c. Less freedom
d. Actually, all of the above are potential disadvantages of a franchise.

d. – Easy, Pages 196-199

12. The FTC’s philosophy regarding the UFOC focuses on:

a. catching and prosecuting abusers of franchise laws.
b. verifying the accuracy of UFOC information.
c. providing information to prospective franchisees and helping them make wise
decisions.
d. licensing prospective franchisers.

c. – Difficult, Page 202

13. Which of the following is an indication of a dishonest franchiser?

a. A high-pressure sale
b. A "get-rich-quick" scheme
c. Attempts to discourage you from getting an attorney to review the contract
d. All of the above

d. – Easy, Page 205

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14. Which of the following should make a potential franchisee suspicious about a
franchiser’s honesty?
a. Claims that the franchise contract is a standard agreement and that there is no
need to read it or have an attorney look it over
b. An offer of direct financing of a specific element of the franchise package
c. Not providing detailed operational information until 10 days before signing the
contract
d. Requiring franchisees to spend a certain percentage of profits on advertising

a. – Medium, Page 205

15. In addition to reading the franchiser’s UFOC, it would be wise for the potential
franchisee to seek a franchise that offers which of the following?
a. A unique concept or marketing approach
b. A registered trademark
c. A positive relationship with franchisees
d. All of the above

d. – Easy, Pages 206-209

16. The primary market for U.S. franchisers is __________, followed by __________.
a. Japan; Mexico, Canada, and Europe
b. Australia; Mexico, Canada, and Europe
c. Mexico; Canada, Europe, and Australia
d. Canada; Mexico, Japan, and Europe

d. – Medium, Page 212

17. A method of franchising in which a franchise opens more than one unit in a broad
territory within a specific time period is referred to as:
a. multiple-unit franchising (MUF).
b. master franchising.
c. product distribution franchising.
d. conversion franchising.

a. – Medium, Page 211

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18. Chris Jaffe, the owner of a small independent doughnut shop, is worried that a large
doughnut franchise will open an outlet near her location and take away much of her
business. Taking a proactive approach, Jaffe contacts the franchise, and after a few
months of negotiations, becomes a franchisee. Jaffe is an example of which trend
in franchising?
a. Piggyback
b. Conversion
c. Master
d. Subfranchising

b. – Medium, Page 214

19. McDonald’s recently set up several small franchises in nontraditional locations such
as a hospital, a college campus, an airport, a subway station, and a sports arena.
These locations are based on the principle of:
a. conversion franchising.
b. intercept marketing.
c. multi-unit franchising
d. piggyback franchising.

b. – Medium, Page 214

20. When the franchiser has the right to establish a semi-independent organization in a
particular territory to recruit, sell, and support other franchises, it is known as a
_____________ franchise.
a. multi-unit
b. piggyback
c. conversion
d. master

d. – Easy, Page 215

21. Establishing a Baskin-Robbins franchise inside a Blimpee’s franchise is an example

of _____________ franchising.
a. multi-unit
b. master
c. piggyback
d. diversionary

c. – Easy, Page 215

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True/False Questions

22. A franchise is an arrangement in which semi-independent business owners pay fees

and royalties to a parent company in return for the right to sell its products or
services and often to use its business format and system.

True – Easy, Page 189

23. Before entering a franchise contract, a potential investor should ask, "What can a
franchise do for me that I cannot do for myself?"

True – Easy, Page 189

24. Quality is so important in franchising that most franchisers retain the right to
terminate the franchise contract and to repurchase the outlet if a franchisee fails to
maintain quality standards.

True – Medium, Page 189

25. When a franchisee buys a franchise, he or she is purchasing the expertise and the
business of the franchiser.

True – Easy, Page 189

26. Pure franchising involves the right to use all the elements of a fully integrated
business operation.

True – Easy, Page 191

27. Examples of some benefits franchise systems offer include management training,
brand appeal, standardization of goods and services, national advertising, proven
business formats, centralized buying power, and site selection assistance.

True – Medium, Pages 191-195

28. Most franchisers provide extensive financial help such as loans and low-rate
financing for their franchises.

False – Medium, Pages 193-194

29. The failure rate for franchises is below that for other types of new businesses.

True – Medium, Page 195

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30. In addition to other fees, franchisees must also pay royalties but only on net profits;
in other words, no profits, and no royalties.

False – Medium, Page 196

31. A major advantage of a franchise contract is the national advertising campaign that
most franchisers provide free of charge for their franchisees.

False – Medium, Page 196

32. By signing the franchise contract, a franchisee typically surrenders some freedom
and autonomy in operating his business.

True – Easy, Page 197

33. It is illegal for a franchiser to require franchisees to purchase products only from
"approved suppliers."

False – Medium, Page 197

34. Having an attorney review and evaluate a franchise contract is unnecessary since
the FTC requires all franchisers to offer a "standard" franchise contract.

False – Medium, Page 198

35. The franchise contract defines the rights and the obligations of both parties and sets
the guidelines that govern the franchise relationship.

True – Easy, Page 198

36. A Uniform Franchise Offering Circular (UFOC) is a document that every franchiser
is required by law to give prospective franchisees before any offer or date of a
franchise.

True – Medium, Page 202

37. If a franchiser encourages you to sign without reading the agreement, or

discourages you from "spending the money on an attorney," this is a warning sign
that the franchiser might be dishonest.

True – Easy, Page 205

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38. A good method for evaluating a franchiser’s reputation is to interview existing
franchise owners about the operation.

True – Easy, Page 208

39. A multi-unit franchise gives the franchisee the right to open more than one
franchise outlet in a territory within a specific time frame.

True – Easy, Page 211

40. The primary market for U.S. franchisers is Mexico, with Japan and Europe next.

False – Medium, Page 212

41. A master franchise gives a franchisee the right to create a semi-independent

organization in a particular territory to recruit, sell, and support other franchisees.

True – Easy, Page 215

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Essay Questions

42. Define franchising. Explain the three types of franchising. Which is the fastest-
growing segment?

A system of distribution in which semi-independent business owners (franchisees)

pay fees and royalties to a parent company (franchiser) in return for the right to
become identified with its trademark, to sell its products or services, and often use
its business format and system. The three types of franchising are:
1. Tradename
2. Product distribution
3. Pure (business format)

Pure franchising outlets’ sales are growing at a faster rate.

Page 189

43. Outline the benefits and drawbacks of buying a franchise.

Some of the primary benefits of franchising include:

Management and training support
• Brand name appeal
Standardized quality of goods and services
• National advertising programs
• Financial assistance
• Proven products and business formats
• Centralized buying power
• Site selection and territorial protection
• Greater chance for success

The drawbacks of franchising include:

Franchise fees and profit sharing
• Strict adherence to standardized operations
• Restrictions on purchasing
• Limited product line
• Unsatisfactory training programs
• Market saturation
• Less freedom

Pages 191-199

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44. What is a Uniform Franchise Offering Circular? How can it help a potential
franchisee?

The law requires franchisers to register and deliver a copy to perspective

franchisees before any offer or sale of a franchise. The Uniform Franchise Offering
Circular, or UFOC, establishes full disclosure guidelines for any company selling
franchises. It can help potential franchisees avoid being defrauded by requiring that
the franchiser disclose detailed information on their operation at the first personal
meeting, or at least ten days before a franchise contract is signed, or before any
money is paid.

Page 202

45. Outline the recommended procedure for buying a franchise.

The most effective step to buying a franchise are:

• Evaluate yourself
• Research your market
• Consider your franchise options
• Get a copy of the franchiser’s UFOC
• Talk to existing franchisees
• Ask the franchiser some tough questions
• Make your choice

Pages 205-209

46. What are some indicators that a potential franchisee might be dealing with a
dishonest franchise? What steps can a potential franchisee take to avoid becoming
a victim of a dishonest franchise?

Indicators of a potentially dishonest franchise may include:

• Claims that contract is standard and “you don’t need to read it”
• Failure to provide disclosure information
• Marginally successful or no prototype
• Oral promises of future earnings with no documentation
• High turnover rate
• Poor manual or none at all
• Unusual amount of litigation
• Attempt to discourage attorney advice
• High pressure sales
• Claiming to be exempt from federal laws

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 • Get-rich-quick schemes
• Reluctance to provide references
• Evasive or vague answers

Steps to take may be to:

• Do your research
• Ask for UFOC
• Investigate thoroughly
• Preparation, common sense, and patience

Pages 205-209

47. Explain the following franchise concepts and give an example of each: intercept
marketing, conversion franchising, multi-unit franchising, and master franchising.

Intercept marketing is the principle of putting a franchise’s products or services

directly in the paths of potential customers, wherever they may be.
Example: Putting a scaled-down version of a Subway sandwich shop in a gas
station convenience store.
Conversion franchising is a trend in which owners of independent businesses
become franchisees to gain the advantage of name recognition.
Example: An Italian restaurant owner buys a franchise like the Olive Garden
restaurant.
Multi-unit franchising is a method whereby a franchisee opens more than one unit
within a specific time frame.
Example: An individual or family owning all the local McDonald’s.
Master franchising is a method of franchising that gives the franchisee the right to
create a semi-independent organization in a particular territory to recruit, sell, and
support other franchisees.
Example: An individual fluent in Spanish works to recruit as many franchisees as
possible in Spain.

Page 132

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48. Explain three trends currently shaping the franchising industry.

Three current trends can be included from the following list:

• Franchisees are better educated and more financially secure
• Internationalism of American franchise system
• Smaller, nontraditional locations
• Conversion franchising
• Multiple-unit franchising
• Master franchising
• Serving aging baby boomers

Pages 211-215

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Franchising and the Entrepreneur

Mini-Case 6-1: Pipe Dreams

Ralph Emerson thought he’d been a librarian long enough, and when the
opportunity arose to open a small tobacco, pipe, and cigar shop in the newly
renovated downtown business district, he was ready to act. Pipe Dreams is a
franchiser of smoke shops, and was founded eight years ago by a noted tobacconist
in New York City. The concept for the shops is simple, yet sophisticated. It is
simple in the sense that the shops sell only tobacco-related products, but
sophisticated in the breadth and quality of the inventory they carry. Each franchise,
depending on size, is stocked with inventory selected by the company’s founder.
The franchiser finances the shop’s initial inventory. The franchisee is expected to
create a decor within predetermined standards that Pipe Dreams establishes. Each
franchisee must attend a three-day workshop, outlining the fundamentals of tobacco
blending, the merchandising of pipes and cigars, and the techniques of successful
business operation.
The franchise contract requires the franchisee to contribute 1.5 percent of gross
revenue to a national advertising campaign. According to the contract, Pipe Dreams
will finance the required fixtures for the store for ten years. In addition, the
franchiser supplies all inventory at very favorable prices because it purchases in
large quantities.
Ralph knows he can buy tobacco products from a variety of wholesalers. He also
has some ideas on what would make a tobacco shop successful in this town. Ralph
knows that Pipe Dreams franchisees have had a high success rate in the past.

Questions

49. Help Ralph make a decision by outlining the advantages and the disadvantages of a
franchise arrangement.

Chapter 6 outlines the advantages and disadvantages of franchise arrangements. The

case suggests that the Pipe Dreams franchise (like many franchises) offers the
entrepreneur a greater chance of success than "starting from scratch."

50. Assuming that Ralph has adequate capital, would you recommend that he invest in
the franchise or open his own tobacco shop? Why?

Given Ralph’s lack of experience in business, generally, and in managing a tobacco

shop, specifically, it probably is wise for him to take the franchise option. Once he
learns the business and gets established, he could explore the possibility of
terminating the franchise relationship.

Chapter 6 186