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In the Middle Ages, when a sovereign needed to collect tax monies from peasants and other people in the hinterlands, he or she would grant to a high Church official the right to collect the tax. For this right the high Church official would pay the sovereign a lump sum and other special favors-and thus the first franchise like business arrangement was born. Since the Middle Ages, franchising has been modified and adapted by companies and has grown to become one of the dominant methods to distribute goods and services in the economy. The International Franchise Association, a trade association for franchising, estimates that in the year 2000 in the United States more than 2,000 companies in 75 industries will manage approximately 400,000 franchisees. In turn, these franchisees collectively manage nearly 8 million workers, or approximately 1 out of every 16 employed persons in the U.S. economy. Franchising is so widespread that it is possible to purchase nearly an unlimited array of products and services through franchises, much to the chagrin of its critics, who believe that franchising caused the decline of the family business. The result of this dominance is reflected in the sheer enormity of retail sales that flow through franchise companies: $1 trillion, or one-third of the entire U.S. gross domestic product.
How did franchising come to play such an important role in the distribution of goods and particularly, of services? What is the experience of franchisors and franchisees and what are the uncertainties they face? How can franchisors control franchisees, and in what ways can franchisees control the franchisor? These are a few of the questions that motivated me to study franchise systems, to work in the day-to-day operations of franchisees in three companies, and to interview franchise insiders over a four-year period.
THE SCOPE OF FRANCHISING
Although the term "franchising" refers to several different business relationships including distributorships, licensing agreements, leasing plans, and manufacturing and service arrangements, 5 there are primarily two types of franchise systems, product distribution and business-format systems. Product distribution systems were first used by manufacturers of expensive and complex machinery to distribute goods to areas where transportation was costly or access, difficult. In the mid-nineteenth century, Cyrus McCormick's harvester machine and I. M. Singer's sewing machine were both distributed through a franchise-like relationship. This particular distribution method, in which the manufacturer utilizes the franchise outlet as a conduit to the final consumer, is still widely used today by automobile manufacturers and their dealers. Generally, manufacturers allow franchisees a wide berth to operate the unit as they see fit, affording the franchisee autonomy in operations, management, marketing, and advertising. This is why the consumer experience in terms of hours of operation, prices, layout of the building, tactics of sales managers, and other services may vary significantly from one dealer to another-even among car dealers of the same make.
However, for many people the term "franchising" is synonymous with McDonald's, Burger King, Jiffy Lube, and other retailers in the service economy. These well-known franchisors are business-format franchisors, a type of franchise system in which a franchisee operates a unit under the company's trademark and delivers a proscribed set of services under the company's guidelines and "suggested" prices. Business-format franchising emerged during the 1930s when oil refiners such as Sun Oil found that mass distribution of its gasoline was not profitable because it was a generic product. To avoid a price war, Sun Oil developed name-brand recognition for its outlets, and bundled (and sold) support services to franchisees. In business-format franchising, companies train franchisees in operations and provide on-going advice, marketing, advertising, and other support services to them. Franchisees in turn pay an up-front fee for the right to operate the unit under the company's trademark, and they finance the construction or purchase of their franchise unit and pay for all capital upgrades and improvements. In addition, franchisees pay continuing royalties based upon gross sales.
Because business-format franchisors sell a business concept -a trademark that implies consistency of standards, operating methods, products, and services-the franchise unit itself is a profit center. In fact, it is both a distribution channel used to facilitate the movement of goods and services and a profit center. The dual nature of business-format franchising and the adaptability of companies to market manifold services and products using franchising has fueled the growth of the strategy. Most academic work on this subject has focused on business-format franchising and especially on the issue of why a company would pursue franchising as a way to distribute goods and services, rather than own and manage all retail outlets.
CURRENT EXPLANATIONS FOR FRANCHISING
Franchising was initially considered a temporary strategy deployed by small companies in response to inefficient capital markets. The capital-acquisition explanation argued that companies only pursue franchising because it allows them to expand quickly without taking on debt or relinquishing control through stock offerings. Over time, companies would become wholly-owned chains and capture the full revenue stream. But the temporary nature of franchising has not been borne out and a second explanation, principal-agent theory, claims that franchising persists because it solves or greatly reduces problems of shirking inherent in vertical delegation. That is, franchising generally occurs in situations where the franchisee is geographically distant from the franchisor and therefore monitoring performance and behavior is difficult or costly. Since franchisors cannot directly oversee franchisee operations, "it pays to devise control mechanisms which give the franchisee an incentive to be efficient-to avoid shirking and excessive consumption of leisure." One such control mechanism is a royalty payment, which not only gives the franchisee the right to operate under the firm's trademark and receive managerial advice but also motivates the franchisor to monitor and police the quality of all franchisees. Both parties have an economic incentive to control those aspects of the relationship that have the greatest impact on their incomes: Franchisees control the day-to-day operation of their enterprise while the franchisor controls the trademark value. Franchising, then, is an efficient solution to the organizational problem of control since there are economic incentives in place to bind both parties to the trademark.
But notice that, from the principal-agent perspective, organizational control only pertains to franchisors controlling franchisees, not to franchisees controlling the franchisor. It is an ideological assumption that "shirking and excessive leisure" will be undertaken by franchisees and not franchisors-an assumption that can be put to an empirical test. Moreover, it is not clear that economic incentives are sufficient to ensure that franchise systems are controlled; indeed, one could easily imagine that recruiting the right people to become franchisees may make the system easier to control.
I began my research on issues of control within franchise systems and on conflicts and conflict resolution in situations in which the people involved are geographically dispersed. I wanted to determine if the economic incentives put forth by principal-agent theory were more effective than social mechanisms, such as selective recruitment. To discover the answers to these questions, I employed a theoretically grounded approach and participated in the frontline operations of franchisees in three companies, referred to here by the pseudonyms of King Cleaners, Sign Masters, and Star Muffler. I also conducted structured interviews and network analysis with franchisees and with the CEO and other senior executives of each company. In addition to specific research on franchise participants at the three companies, I attended seminars by franchise consultants on how to make a business "franchiseable," as well as franchise expositions at which hundreds of companies provide business opportunities and recruit new franchisees. I also interviewed other franchise executives, lawyers, and franchise experts. The information I gathered has rounded out my knowledge of the world of the franchising strategy and its pitfalls.
Although I carried out the research over a four-year period, one of the critical findings occurred during the very early stages when I first began my ethnography. I had worked for several weeks in the operations of a franchisee with whom I was acquainted at King Cleaners when he invited me to attend a regional conference sponsored by the company. King Cleaners provides commercial and residential cleaning and maintenance services, and this would be an opportunity for me to meet other franchisees, corporate managers, suppliers, and others involved in the industry. At the end of the first day, a hot July afternoon, a crowd of maybe one hundred franchisees stood impatiently in the convention center parking lot waiting for King Cleaners to unveil a window-washing unit. A few minutes earlier the crowd had been jovial and boisterous, but now an uneasy silence quieted even the most outspoken and skeptical franchisees.
Tom from "Central"-the corporate offices of King Cleaners -managed with just one direct question to unearth a profile of franchisees and capture the critical problem the company faced in managing them: how to motivate franchisees to follow the company's guidelines. For the past twenty minutes, Tomhad been enthusiastically describing the features and benefits of a new window-washing unit the company developed. The washer unit was housed on a trailer that could easily be transported behind a van or other vehicle, and it displayed the signature colors and logo of King Cleaners. Although the trailer was streamlined in shape, it was still rather large-about the size and shape of a horse trailer. King Cleaners believed that the new window-washer would not only solve several technical problems franchisees faced but would also be more efficient and less labor-intensive than washing windows by hand, the current method used by franchisees.
The demonstration aimed to persuade franchisees to purchase the window-washer, and Tom explained that it was simple to operate and cost-effective to own. The franchisees, however, were decidedly less enthusiastic than Tom, despite the presence of a gleaming new piece of machinery.
In the face of rising antagonism, Tom explained how the unit operated. "The window-washer utilizes tap water from, say, the garden faucet," he explained loudly, "and then it runs through a series of filters that filter out all traces of iron. You see, it's the iron that causes windows to streak and spot, so by removing the iron we can spray directly onto the windows. You don't have to send an employee around to squeegee each window by hand. With this unit they can just spray off the dirt and move on."
"How big is the tank?" a franchisee yelled from the back of the crowd.
"It'll hold a hundred gallons," Tom replied.
"Well, how long will it take to fill a one-hundred-gallon tank?" he asked.
"About thirty minutes or so," Tom answered.
"Yeah, well, in thirty minutes I can have all the windows cleaned by hand," the franchisee said with a look of triumph.
Bolstered by the complaints of the one outspoken franchisee, the quiet grumbling of franchisees around me grew more vocal in their antagonism of Tom.
"Man! Can you imagine driving that thing around some of these suburbs? You couldn't do it without taking out a couple of parked cars," one franchisee joked.
"Yeah, and where the heck do you park it? You can't leave that in your driveway," said another franchisee.
"What's worse," broke in a third franchisee, "is that if you leave it at a warehouse, someone can just hook it up and drive off with it."
"I don't know," said the first franchisee, "it seems like a helluva lot of trouble for the window market. What are they asking for it, did they say?"
"No, he hasn't said yet," replied an onlooker.
"It must be expensive then," replied the first franchisee. "Hey," he turned toward Tom, "how long is the hose?"
"You mean the garden hose?" asked Tom.
"No, the power hose from the washer," he replied.
"Oh," said Tom, "it's one hundred feet."
"That ain't gonna be long enough. You can hardly get from the street to anywhere with a hundred feet of hose."
"We realize that one hundred feet is inadequate, and we're working on it," Tom said. "This is just a prototype of the unit, and we still have some changes to make. I think once you see how easy it is to operate you'll be satisfied, so let me start with one of the windows over here."
Tom started the washer unit and washed a large eight-by-twelve-foot window in about thirty seconds merely by spraying it from top to bottom.
"Now," Tom explained, "We'll let this dry, and you'll be amazed -there won't be any streaks or spots. But you can see how easy it is to operate. There's no need to haul a ladder from one window to the next because you can do everything from the ground. Not only is it more efficient for you, but it's safer for your employees." Tom turned to the crowd. "Who wants to give this a try next?"
There was an awkward moment of silence as the franchisees stood hesitant, meek, and timid. They shifted their eyes toward the ground, shuffled their feet, and avoided direct eye contact with Tom.
Again, in a louder voice, Tom called out, "Come on, doesn't anyone want to try it?"
Finally, after a long pause one franchisee stepped forward and volunteered to try the new unit. There was a collective sigh of relief among the crowd of onlookers. But he was the only volunteer of the day, and Tom ended the demonstration shortly thereafter.
"Well," said Tom, "I'll leave some information here, and if you have any questions I'd be happy to answer them."
It is often the case in the first stages of ethnographic research that the initial insights about a phenomenon prove, in the long run, to be accurate. The profile of franchisees that I discovered at King Cleaners during the window-washing demonstration surprised me because I had thought that franchisees would be aggressive, self-motivated, and entrepreneurial. Instead, what I saw at the demonstration cast doubt on my assumptions about that profile. Franchisees appeared to be
business owners rather than entrepreneurs;
risk-averse rather than risk takers;
outspoken and critical of new initiatives rather than supportive of new programs and services; and
averse to capital investments and upgrades rather than eager to make them.
The franchisee reactions at the demo also highlighted the serious issues facing companies that franchise concerning how to best manage and motivate franchisees.
I decided to expand my research from the one franchisee with whom I was acquainted, Larry, to the other franchisees at King Cleaners. Toward that end I contacted the CEO, Bill Parker, with a research proposal to study conflicts in arm's length contracts. He immediately rejected the proposal on the grounds that the "timing" was not right, that the company lacked sufficient funds to undertake a research project, and that managers had already spent a significant amount of time working with researchers from another university. He did offer to provide any public company documents that might be helpful and, as an added benefit, invited me to lunch with another senior executive and himself some six months later.
Since the lunch was so far off, I continued to work with Larry, the King Cleaners franchisee. My circle of acquaintances widened as he introduced me to the area franchise manager and other franchisees in the system. In each introduction, he indicated, with a certain amount of pride, that I was a graduate student at the University of Chicago and also that I had an upcoming meeting with Parker. Taken together, these two statements increased my credibility, but it was the future meeting with Parker in particular that added the requisite legitimacy and importance to open many doors at King Cleaners.
Excerpted from FRANCHISING DREAMS by PETER M. BIRKELAND Copyright © 2002 by The University of Chicago. Excerpted by permission.
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Posted April 5, 2004