Restaurant Franchisors May Regret Sweetheart Deals to Grow Businesses
Restaurant franchisors should think twice about loosening contract terms and lowering fees to expand operations during a recession even though lower fees may attract more franchisees, according to researchers at 91社区 and two other schools.
The study, in the Journal of Retailing, is particularly timely as the restaurant industry seeks to regain its footing following the devastating impact of the COVID-19 pandemic that led to closed establishments and reduced capacity nationwide.
鈥淲e believe franchisors and restaurant operators can learn from this research to rebound from this latest crisis,鈥 said , Ph.D., an assistant professor of management programs in 91社区鈥檚 .
Franchising contributed roughly $785 billion to the U.S. economy in 2019, according to the International Franchise Association. To expand their businesses, franchisors may be motivated to offer reduced fees and favorable contract terms to new franchisees, but the unequal treatment serves to alienate existing franchisees, according to the study by Sawant, Mahima Hada, Ph.D., of City University of New York and Simon J. Blanchard, Ph.D., of Georgetown University.
The perceived lack of fairness increases existing franchisees鈥 freeriding, which reduces franchisors鈥 performance. Freeriding occurs when franchisees obtain benefits from being part of the franchise system without assuming a proportional share of costs.
By contrast, franchisors that increase fees and offer less favorable terms to new franchisees tend to maintain perceived equity among existing franchisees, who work harder at maintaining the brand, the study found. That reduces freeriding and improves franchisor profits.
The researchers studied 131 public and private franchisors, including Subway, Wing Stop and Cinnabon, from 2007 to 2010, a period that included the Great Recession. Those franchisors that offered better terms to new franchisees experienced lower profits after the recession, even though they attracted more operators. Franchisors with a larger number of existing franchisees performed even worse after the recession.
But franchisors offering less-favorable terms to new franchisees during the recession performed better afterward.
鈥淚t seems counterintuitive, but chasing growth by offering new franchisees good deals doesn鈥檛 work in the long run,鈥 Sawant said. 鈥淭he much more effective strategy is to maintain fairness with existing operators, who are the lifeblood of franchising.鈥
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