Incentive Conflicts and Contracting: Evidence from Franchising
Posted: 17 Apr 1998
Date Written: November 1995
Abstract
This paper develops cross-sectional implications about the assignment of rights in franchise contracts. These implications are tested using a large sample of franchise agreements. The tests support the predictions and suggest that restrictive provisions (such as mandatory advertising, passive-ownership restrictions and area development plans) are used when title to unit profits provide insufficient incentives for optimal investment by the franchisee. The evidence also suggests that the incentive instruments used in franchise contracts are complements. While the study focuses on franchising, the results provide insights into related provisions in other contracts, such as the common restriction that an employee must report to work (even when the work could be performed at home). The evidence is also consistent with the hypothesis that vertical restraints are included in distribution contracts to help control horizontal free-rider problems.
JEL Classification: J41
Suggested Citation: Suggested Citation