TERRITORIAL RESTRICTIONS IN FRANCHISE CONTRACTS

Efficient contracts set incentives through the assignment of rights an d profit shares. Although efficient contracts have been used to explai n the nature of the firm, the use of contractual rights in specific bu siness contracts is relatively unexplored. We analyze contractual righ ts in franchise systems, in particular the right to add franchisees. A n exclusive territory assigned to an initial franchisee is not an immu table guarantee, but rather a starting point for subsequent renegotiat ion in the franchise relationship. Exclusivity is therefore profitable when franchisee efforts are critical to the venture. A sample of fran chise contracts reveals evidence consistent with the model's predictio n.