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    Best Spatial Issues of Franchise Contracts

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    Niña Adorable
    1) Two unexplained observations are frequently seen in franchise industries: the breakdown between corporate-owned and franchised outlets within an organization, and the variability of economic rents earned across outlets despite relatively fixed franchise fees. 2) A possible explanation is that incentive compatibility constraints determine how much economic rent a parent company can capture from individual outlets. If opportunity costs are similar, the rent required to ensure compliance should be the same across franchises. However, rents vary across outlets so franchise fees should also vary based on local market conditions. 3) Aspects of production and distribution in franchise industries are carried out by many small, geographically dispersed outlets. Monitoring these outlets requires considerable travel. Therefore, the remoteness of an

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    Best Spatial Issues of Franchise Contracts

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    Niña Adorable
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    1) Two unexplained observations are frequently seen in franchise industries: the breakdown between corporate-owned and franchised outlets within an organization, and the variability of economic rents earned across outlets despite relatively fixed franchise fees. 2) A possible explanation is that incentive compatibility constraints determine how much economic rent a parent company can capture from individual outlets. If opportunity costs are similar, the rent required to ensure compliance should be the same across franchises. However, rents vary across outlets so franchise fees should also vary based on local market conditions. 3) Aspects of production and distribution in franchise industries are carried out by many small, geographically dispersed outlets. Monitoring these outlets requires considerable travel. Therefore, the remoteness of an

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    BEST SPATIAL ISSUES OF FRANCHISE CONTRACTS

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    1) Two unexplained observations are frequently seen in franchise industries: the breakdown between corporate-owned and franchised outlets within an organization, and the variability of economic rents earned across outlets despite relatively fixed franchise fees. 2) A possible explanation is that incentive compatibility constraints determine how much economic rent a parent company can capture from individual outlets. If opportunity costs are similar, the rent required to ensure compliance should be the same across franchises. However, rents vary across outlets so franchise fees should also vary based on local market conditions. 3) Aspects of production and distribution in franchise industries are carried out by many small, geographically dispersed outlets. Monitoring these outlets requires considerable travel. Therefore, the remoteness of an

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    © All Rights Reserved
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    Download as docx, pdf, or txt
    42 views1 page

    Best Spatial Issues of Franchise Contracts

    Uploaded by

    Niña Adorable
    1) Two unexplained observations are frequently seen in franchise industries: the breakdown between corporate-owned and franchised outlets within an organization, and the variability of economic rents earned across outlets despite relatively fixed franchise fees. 2) A possible explanation is that incentive compatibility constraints determine how much economic rent a parent company can capture from individual outlets. If opportunity costs are similar, the rent required to ensure compliance should be the same across franchises. However, rents vary across outlets so franchise fees should also vary based on local market conditions. 3) Aspects of production and distribution in franchise industries are carried out by many small, geographically dispersed outlets. Monitoring these outlets requires considerable travel. Therefore, the remoteness of an

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    SPATIAL ISSUES OF FRANCHISE CONTRACTS There are two observed facts in industries that use

    franchising to produce and distribute their product that has not been adequately explained. 15 The Örst
    is 12 In 1973 only 2% of franchise outlets in the United States declared bankruptcy (see Vaughn, C.L.
    Franchising Lexington Books, Lexington Mass. (1974). 13Mathewson, F. and Winter R. Supra note 7.
    14Klein, B. and Murphy, K. " Vertical Restraints as Contract Enforcement Mechanisms," The Journal of
    Law and Economics, Oct. (1988) 265-297 15Simon, Carol J., "Franchising vs. Ownership: a contracting
    explanation", University of Chicago working paper (1991). This paper presents the results of an extensive
    survey of franchise contracts across the midwest United States. 12 the breakdown between corporate
    owned and franchised outlets found within a given organization. It is frequently observed that an
    organization that engages in franchising will frequently buy back certain franchised outlets and operate
    them as corporate stores while at the same time issue franchises in new areas. Furthermore, there
    appears to be little correlation between the size of the quasi-rent that individual outlets are earning and
    the decision to buy them back. The second unexplained observation is the fact that franchise fees
    remain relatively Öxed, both across outlets and over time, while across outlets there is a wide variability
    in rents being earned. This fact appears to be inconsistent with the proposition that franchise fees allow
    the parent company to capture some of the economic rents being earned by the agent. 16 Incentive
    compatibility constraints determine the extent that a parent company can capture the economic rents
    being earned by the individual outlets. If one assumed that individual franchisees have similar
    opportunity costs then one would expect that the quasi-rent required to ensure compliance would be
    the same across franchises. Therefore, if economic rents vary across outlets, the residual (minus the
    quasi-rent) would be captured by a variable franchise fee. One would expect the parent company to set
    each outletís franchise fee based on local market conditions. One characteristic common to franchise
    industries is that aspects production and distribution are carried out by many small, geographically
    displaced outlets. Therefore, when the parent company wishes to monitor its outlets, the monitor
    engage in considerable travel. In a large chain this will require the monitor to cover great distances in
    the execution of his duties. Therefore one would expect the remoteness of an outlet to have a bearing
    on the choice of contractual arrangement between the parent company and the local operator. If the
    location of outlets and the distance between outlets is a function of market 16See Tirole, J.The Theory of
    Industrial Organization, chapter 4 (1988).

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