November 19, 2011
The following paper is an example of the appropriate stlyle, layout and format for an term paper or essay in an economics course. All papers should have a title page that contains the following:
1. Title of the Paper
2. Course Number and Instructor
3. Your name and student number
Any graphs should be on seperate pages that are not counted as part of the written page requirements. All graphs must be discussed and explained within the body of the text.
Newspaper and magazine articles may be cited but do not count as part of the required references.
A REVIEW OF FRANCHISE THEORY
In service based industries one of the fastest growing forms of market structure is that of franchise agreements. Certain aspects of franchise contracts tend to be idiosyncratic in nature thereby attracting a great deal of interest by academics and business analysts in recent years. Various explanations have been proposed for the widespread use of franchise contracts in certain industries. While a great deal of the franchise contract has been explained in the literature, there remains certain aspects of this form of arrangement that has yet to be addressed. This paper intends to address two of these issues as well as proposing an alternative modelling approach to franchise contracts.
The second section of this paper describes the basic structure of franchise con- tracts. The third section discusses the various explanations that have been proposed to explain franchising. The fourth section sets two aspects of the franchise contract that has not been addressed in the literature. The rst of these is existence of both corporate owned outlets and franchised outlets within the same organization. Some authors have predicted that one form or the other would come to dominate the or- ganization. Others have tried to explain under which conditions one form would be preferred by the parent company (or Franchisor). Yet many organizations exist as a mixture of both types of contracts and have chosen both forms of contract when expanding the number of outlets. The second unexplained observation is apparent rigidity in various organizationsfranchise fee structure; both over time and between individual franchisees. This section introduces spatial or geographical considerations to the problem of franchising. When placed in a spatial context a testable hypothesis is proposed in which both of the issues identi ed can be explained. 2
STRUCTURE OF THE FRANCHISE CONTRACT
A basic result derived in modern property rights literature is that when any given set of rights is exchanged, the principals involved will select the institutional frame- work that minimizes the sum of production and transaction costs1. The most com- monly observed of these arrangements (or governance structures) are price mediated markets and centralized employment within rms2. These are not the only forms of arrangement within which transactions are carried out, and the distinction between the two mentioned above is not as clear as it is suggested. An example of an alterna- tive institutional framework is a franchise arrangement, and the purpose of this paper is to analyze the nature and purpose of franchise contracts. In a franchise contract, a parent company contracts out the right to produce or market its product to an agent. Contractual stipulations involve rules governing the behavior of the agent including pricing, mode of production, and territorial or market restrictions. A frequently observed feature of a franchised industry is that certain aspects of the parent companys product have limited scale economies that require production at the local market level.
A principle characteristic of franchise contracts is the agents right to use a national brand name in exchange for a share of the pro ts. The brand name is a signal to consumers in a local market that the agent supplies a product of a...