Does franchising provide superior financial returns?

Franchising-a method of distribution in which the franchisor (the principal) passes along to the franchisee (the agent) business-specific information in return for a consideration usually in the form of fees and royalties-has been hailed as one of the most important innovation of the 21 ^st century (Welsh and Alon, 2002). Trends and demographic changes taking place in the global arena have favorably influenced the development of franchising: The transition from a manufacturing-based to a service-based economy, Consumer desire for convenience. Workforce specialization. Increased participation by women in the workforce. The growth of minority segments of the population, and Global marketing (Reynolds, 2002:9). The success and failure of franchising firms has been a topic of investigation that has increasingly drawn the attention of franchisors, franchisees, governmental agencies, the International Franchising Association, and franchising researchers. Overseas Private Investment Corporation (OPIC), a development agency of the US government, for example, provides funding for US franchisors and their affiliates to ensure global franchising success. According to the agency, OPIC has supported $138 billion worth of investment, generating over VA of a million US jobs, about $64 billion in US exports, $10 billion in host-government revenues, and 668,000 host-country jobs (OPIC, 2001). Franchising is one of the agencies new foci. Most of the academic research to date on the success and failure of franchisors has focused on failure (Price, 1993; Kirby and Watson, 1999; Boyle, 2002; Stanworth et al., 1998). Furthermore, research on franchisors' financial performance and, in particular, the ROE is mostly absent. Elango and Fried (1997) synthesized the franchising literature and have called on the expanded use of different performance measures. To this extent, this chapter fulfills their call. We focus on the restaurant industry for several reasons. First, the restaurant industry uses franchising to a large extent providing a sample large enough for empirical analysis. Second, by concentrating on a single industry we eliminate the cross-industry variations in franchising practices. Dant et al. (1996), Elango and Fried (1997), and Alon (1999) suggested that franchising researchers focus on particular industries because industry effects in franchising may confound investigated relationships, and each franchising industry may have its own distinctive correlations. Finally, the restaurant industry has been the focus of much research in the franchising literature (Parsa, 1996; Hadjimarcou and Barnes, 1998; Lee and Ulgado, 1997). Cultivating additional research on restaurant franchising has the potential to further our knowledge in the hospitality sector, the marketing discipline, and the franchising method of doing business. We use the DuPont model-a highly established system of ratio analysis developed at DuPont by F. Donaldson Brown over 70 years ago-for analyzing the financial performance of the firm. This model is pertinent because: • Return on Equity (ROE) is a single measure that summarizes the overall financial health of the companies. • It consists of three underlying factors which depict the profitability, efficiency and leverage of the firms (this point will be expanded upon in the methodology section). • It is a standardized relational variable that can be used for comparison across companies. Thus it does not require the data to be segmented by asset size or revenues. • It is a starting point for further financial analysis of the companies.