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Enforcing System Standards When Franchisees Have Long-Term Contracts

By Kevin Adler
January 04, 2006

A franchisor's ability to enforce system standards and sustain the positive image of the brand is critical to the long-term success of a franchising system. To some degree, a franchisor's threat of termination or non-renewal contributes to that enforcement effect. But what can a franchisor do when a contract has a long duration and/or a franchisee has a strong legal presumption of renewal?

Two professors at the University of Munster (Munster, Germany) found significant modifications in a franchise's governance structure, as defined by its contract with franchisees, when a franchisor's capacity to threaten termination or non-renewal is significantly limited. The findings of Profs. Oliver Cochet and Thomas Ehrmann were presented in a paper at the 19th Annual Conference of the Inter-national Society of Franchising last year, “The Effectiveness of Con-tractual Self-Enforcement and Implications for the Governance Structure of Franchising Firms.”

By reviewing German franchise contracts, using data from the German Franchising Association and the Yearbook Franchise and Cooperation 2005, a comprehensive database of franchises operating in Germany, the professors found that franchisors typically make two key adjustments when their termination rights are constrained. First, they increase the share of company-owned outlets, and second, they use the franchising contract to centralize decision-making authority in their hands. The first adjustment gives franchisors greater knowledge about how their outlets are operating in the real world, and the second adjustment gives franchisors the ability to control franchisees based on that knowledge.

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