Payment types and number of franchisees

Yung-Ho Chiu, Jin-Li Hu
2003 Service Industries Journal  
Current studies of the franchise system usually assume that the number of franchisees is exogenous and irrelevant to the payment types. However, to a franchise system or a franchiser, the optimal number of franchisees is related to the payment types, e.g., franchise fee, royalty, etc. We develop a gametheoretical model and then use 1998 Bond's Franchise Guide Data for US franchise stores in order to test the theoretical predictions. According to our theoretical predictions, the optimal number
more » ... franchisees under a royalty is strictly less than that under a franchise fee. This is because royalties distort the effort incentive of franchisees and the franchiser can increase average revenue by having a smaller number of franchisees. A franchise fee will not distort the effort incentive of franchisees and can help achieve a higher profit for both the franchiser and the franchise system. When demand is certain, the optimal royalty rate to the franchise system is zero. Under a royalty payment, the royalty rate will be greater than zero if the franchiser maximises its own profit. Empirical results support our theoretical predictions: there is no significant relationship between franchise fee and number of franchisees. The number of franchisees has a significantly negative relationship with royalties, while it is significantly and positively correlated with the experience of the franchise system, area, training, and advertising fees required by the franchiser.
doi:10.1080/02642060412331301002 fatcat:jf635dh54vdk5p6rfqm2luf3zy