Franchises

Overview of U.S. Franchising

In his book on the development of franchising as a business method, Thomas Dicke explains how franchise relationships date back to the Middle Ages, when governments would grant special rights to subcontracted individuals in exchange for services, such as tax collection or road construction. Modern franchising, however, developed in the late 19th century as a necessary response to increased production resulting from technological innovations in the Industrial Revolution. As firms became more efficient, manufacturers required new sales strategies to distribute product supplies and meet increasing demand for products. Furthermore, with the advances in transportation and the changing geographic distribution of population centers in the United States, firms needed to expand their abilities to service and sell products in new territories.

Franchising emerged as a way for manufacturers to meet the demands of emerging markets beyond the reach of a company's geographical headquarters. By using independent agents to sell manufacturers’ products, franchising offered firms a business model that could meet the challenges of both supply and demand while simultaneously controlling costs. In general, a franchise operates as a single administrative unit bound by a contractual relationship where a parent company (i.e., the franchisor) grants or sells the rights for product distribution or use of its trademark or brand to individual franchisees. Scholars have identified two common franchise models: product distribution and business-format systems.

Product Distribution Franchising

Product distribution franchising was first used in the late 19th century by manufacturers of expensive machinery. Rather than incurring the costs associated with transportation, repairs, and the management of company-owned retail outlets, manufacturing firms began to rely on independent agents who, in turn, could sell the firms’ products in distant markets. As technological advancements in manufacturing and transportation increased efficiency and productivity, product distribution franchising was implemented in industries relying on the sales and servicing of complex equipment. By the early 20th century, large-scale product distribution franchising [Page 301]became the preferred distribution method for the Ford Motor Company.

After revolutionizing modern production processes, the Ford Motor Company turned to marketing and sales to maintain its competitive advantage. In addition to company-controlled sales branches, Ford created a network composed of independent dealers to sell its cars in expanding markets. Ford also sought to bring a degree of uniformity to its dealer network and accomplished this by introducing standardized yearly contracts that were secured by cash deposits proportionate to the number of cars purchased by each dealer. The contract specified that in exchange for maintaining standard pricing and offering uniform repair services, dealers would be granted territorial rights for the exclusive sale of Ford products within a specified region or city. In his analysis of the Ford Motor Company, Thomas Dicke found that the relationship between Ford and the independent dealers gave the parent company substantial control over distribution and product quality without the financial and organizational responsibilities associated with direct ownership of the dealerships.

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