This paper explains the degree of centralization of decision making in franchising networks by applying the property rights theory. In the 1990s, the property rights theory, developed by Alchian, Demsetz, Fama, Jensen, Barzel, Grossman, Hart, and Moore Alchian and Demsetz, 1993, Fama and Jensen, 1983, Barzel, 1997, Grossman and Hart, 1986, Hart and Moore, 1990 and Hart, 1995, was used to explain the decision and incentive structure of the firm Jensen and Meckling, 1992, Brynjolfsson, 1994, Brickley et al., 1991, Christie et al., 1995, Hitt and Brynjolfsson, 1997 and Hart and Moore, 1999. According to the property rights approach, the structure of decision rights (as residual rights of control) depends on the distribution of intangible knowledge assets that generate the firm's residual surplus Barzel, 1997 and Hart, 1995. Intangible knowledge assets refer to the knowledge and skills (know-how) that cannot be easily codified and transferred to other agents, since they have an important tacit component Polanyi, 1962 and Boisot, 1998. In franchising, intangible knowledge assets refer to the brand name assets and the system-specific know-how of the franchisor and the local market know-how of the franchisee. The thesis of our paper is that the higher the franchisor's portion of intangible knowledge assets relative to the franchisee's, the more residual decision rights should be assigned to the franchisor, and the higher is the degree of centralization.
Although theoretical and empirical studies dealing with the allocation of decision rights exist in the organizational economics and accounting literature Aghion and Tirole, 1997, Dessein, 2000, Harris and Raviv, 2002, Christie et al., 1995, Baiman et al., 1995 and Nagar, 2002, no prior research—with the exception of Arrunada et al. (2001)—examines the determinants of the allocation of decision rights in franchising networks. This situation may result from the difficulty in acquiring knowledge assets and decision rights data. Compared to the agency and transaction cost theoretical view of Arrunada et al. (2001), we develop a property rights approach of the allocation of decision rights. Our main contribution to the franchising literature is in applying the property rights theory to explain the degree of centralization of franchising networks and in examining empirically the influence of intangible knowledge assets on the structure of decision rights. First, we present a property rights view of the allocation of decision rights between the franchisor and the franchisee, and second, we empirically investigate the degree of centralization of franchising networks in the Austrian franchise sector. Consequently, this research moves forward the theoretical aspect of decision making in franchising networks by stating that the allocation of decision rights depends on the intangibility (noncontractibility) of knowledge assets of the franchisor and franchisees.
The paper is organized as follows. Section 2 presents the property rights proposition concerning centralization versus decentralization of decision rights. Section 3 uses the property rights approach to examine the relationship between the characteristics of franchisor's and franchisee's knowledge assets and the allocation of residual decision rights in franchising networks. We develop the proposition that the degree of centralization depends on the distribution of the franchisor's and franchisee's intangible assets. In the fourth section, we apply this framework to derive testable hypotheses. The hypotheses are finally tested in the Austrian franchise sector.
The paper presents a property rights explanation of the degree of centralization of decision rights in franchising networks. Residual decision rights have to be allocated according to the distribution of intangible knowledge assets between the franchisor and franchisee. The more important the franchisor's intangible knowledge assets for the generation of residual surplus relative to the franchisee's, the more residual decision rights must be assigned to the franchisor. Consequently, under a property rights view, an ‘optimal’ degree of centralization of franchising networks requires colocation of knowledge assets and decision rights. Using data collected in the Austrian franchise sector, we offered the first empirical evidence that the degree of centralization of franchising networks varies with the distribution of intangible knowledge assets between the franchisor and franchisee. Although our empirical study is not without limitations, we hope it provides theoretical and practical insights and stimulates further research in organizational economics and management to explain the microstructure of franchising networks.
