Moral Hazard, Path Dependency, and Failing Franchisors: Mitigating Franchisee Risk through Participation

Abstract

Employment relations are well understood. Business format franchising is a newer and rapidly
evolving business expansion formula, also providing employment. This article compares the fates
of employees and franchisees in their employer/franchisor insolvency.Whereas employees enjoy
protection, franchisees continue to operate in conditions that have been described as Feudal.
We identify the inherence of moral hazard, path dependency and optimism bias as reasons for
the failure of policies and corporations laws, globally, to adapt to the franchise relationship. This
failure comes into sharp focus during a franchisor’s insolvency. We demonstrate that the models
of participation available to employees in the United States, Australia and the United Kingdom
could be used to inform a re-balancing of the franchisees’ relationship with administrators and
liquidators during the insolvency of their franchisor, providing franchisees with rights and
restoring their dignity.

Keywords: franchising; employment law; corporate insolvency; path dependency; moral hazard; comparative law; insolvency law

JEL Classification: G3, J8