Ownership Structure of Franchise Chains: Trade-Off Between Adaptation and Control

Abstract

Abstract This study provides a new explanation of the ownership structure of franchise firms by highlighting a trade-off between adaptation and control under increasing uncertainty. Franchise chains are formed to reduce transaction costs by combining franchisee outlets as an adaptation mechanism and company-owned outlets as a control mechanism. We argue that under low to moderate uncertainty, franchisors prioritize local responsiveness to profit opportunities by operating a lower proportion of company-owned outlets (PCO); by contrast, under high environmental uncertainty, franchisors prefer more central control through a higher PCO to coordinate interdependent local market outlets better. Hence, the franchisor must find an optimal PCO by balancing the PCO decreasing effect of higher local adaptation with the PCO increasing effect of higher central coordination under increasing uncertainty. Therefore, we posit a U-shaped relationship between the PCO and environmental uncertainty. Data from German and Swiss franchise systems provide support for the study’s hypotheses.