Franchising in America: The Development of a Business Method, 1840-1980

By Thomas S. Dicke

Using a series of case studies from five industries, Dicke analyzes franchising, a marketing system that combines large and small firms into a single administrative unit, strengthening both in the process. He studies the franchise industry from the 1840s to the 1980s, closely examining the rights and obligations of both the parent company and the franchise owner.

Originally published in 1992.

A UNC Press Enduring Edition -- UNC Press Enduring Editions use the latest in digital technology to make available again books from our distinguished backlist that were previously out of print. These editions are published unaltered from the original, and are presented in affordable paperback formats, bringing readers both historical and cultural value.

• Language: English
• Publisher: The University of North Carolina Press
• Release date: Dec 15, 2017
• ISBN: 9781469610085

Book preview

Franchising in America

THOMAS S. DICKE

Franchising

IN AMERICA

The Development of a Business Method, 1840-1980

The University of North Carolina Press Chapel Hill & London

© 1992 The University of North

Carolina Press

All rights reserved

Manufactured in the United States of America

96  95  94  93  92

5  4  3  2  1

Library of Congress

Cataloging-in-Publication Data Dicke, Thomas S.

Franchising in America : the development of a business method, 1840-1980 / Thomas S. Dicke.

   p. cm.

Includes bibliographical references and index.

ISBN 0-8078-2041-5 (cloth : alk. paper).

— ISBN 0-8078-4378-4 (pbk.: alk. paper)

1. Franchises—United States—History.

I. Title.

HF5429.235.U5D53 1992

381’.13’0973—dc20 91-43618

                                    CIP

The paper in this book meets the guidelines for permanence and durability of the Committee on Production Guidelines for Book Longevity of the Council on Library Resources.

THIS BOOK WAS DIGITALLY MANUFACTURED.

Contents

Acknowledgments

Introduction

CHAPTER 1

Preludes to Franchising The McCormick Harvesting Machine Company and the I. M. Singer Company

CHAPTER 2

From Agent to Dealer The Ford Motor Company, 1903-1956

CHAPTER 3

Expanding the System The Sun Oil Company, 19 19-1959

CHAPTER 4

The Franchise Industry and Domino’s Pizza

Conclusion

Notes

Bibliography

Index

Illustrations

A typical McCormick advertisement, 1849 / 27

A typical McCormick advertisement, 1850 / 28

An advertisement to promote the sale of McCormick’s reaper in Great Britain, 1862 / 29

The showroom in Singer’s New York City office / 40

Barry Motors Sales, 1914 / 62

Buel Motor Company, ca. 1918 / 65

Timmerman Motor Sales Company, 1923 / 69

Stark Hickey Sales, 1932 / 77

The pump with arms / 101

Stationmen in winter uniform / 104

A typical Sun station of the 1920s and 1930s / 111

The Domino’s system in action / 142

Acknowledgments

The help and advice of many people contributed greatly to the completion of this book. Several in particular deserve special thanks. My wife, Judy, has been a constant aid. Throughout this project her overall support has been as indispensable as her help in editing and proofreading. Mansel Blackford originally suggested this topic. He then read several drafts, and his comments have improved it immeasurably. Roger Nimps and Kurt Schultz also read and provided insightful comments on various parts of the manuscript.

The administrators of the John E. Rovensky Fellowship in Economic and Business History provided much-needed financial support, as did The Ohio State University and the Hagley Museum and Library. I am grateful.

In the course of my research I also accumulated debts to the staffs of several institutions for their assistance in locating materials. I would like to thank all those at the State Historical Society of Wisconsin, the Edison Institute of the Henry Ford Museum and Greenfield Village, the Ford Industrial Archives, the Hagley Museum and Library, the Domino’s Pizza Corporate Archives, and the International Franchise Association library for their help in collecting the information necessary to complete my study. Although everyone at these institutions was very helpful, Darleen Flaherty of the Ford Industrial Archives deserves special thanks for all of her exceptionally able and willing assistance.

Finally, I would like to thank my parents, Dale and Kathryn Dicke.

Franchising in America

Introduction

Franchising became a highly visible institution in the United States during the last half of the twentieth century. At the start of the 1950s franchising was already a considerable and well-entrenched force in the economy. It had dominated such key sectors as automobile sales and gasoline retailing from their earliest years and was well established in lesser industries such as soft drinks and fast food. By the end of the 1960s it was used to sell virtually every type of good or service imaginable, and the franchise outlet had become a ubiquitous feature of the American landscape. Currently, over one-half million individual franchised businesses are scattered across the United States. Together, they account for well over one-third of the total value of all retail sales in the country. That proportion is expected to grow significantly in years to come. The main purpose of this study is to trace the development of the franchise system and explain why it has been possible for franchising to spread so quickly and weave itself so inextricably into the American economy.

The term franchise has a long history and a number of meanings. This has caused some confusion among the few authors who have touched on the origins of the system, so the word itself deserves some explanation. Originating from an Old French term meaning to make or set free or to invest with a franchise or privilege, it was used in business at least as far back as the Middle Ages, when franchise referred to government grants of special rights given in exchange for some service, such as tax collection or road construction, that the state subcontracted to private individuals. In the nineteenth and twentieth centuries the term has, until recently, been associated most frequently with grants of incorporation, particularly for municipal services. It was not until the twentieth century that the definition of franchising came to include a method of distribution.¹

Legally and functionally, franchise selling is unrelated to the franchise privileges given by governments. Government franchises were based on the private performance of public services in exchange for special privileges such as limited liability or monopoly rights and form much of the legal justification for the existence of the corporation. In contrast, the franchise method of distribution is a contractual method of organizing a large-scale enterprise that evolved out of the traditional practice of selling through agents.²

Standard linguistic and legal reference works indicate that the use of franchising as a method of distributing goods or services—its most common meaning today—is of fairly recent origin. Neither the Oxford English Dictionary (OED) nor Black’s Law Dictionary include any mention of franchise selling until the 1970s. The 1972 supplement to the OED identifies 1959 as the year the term entered the business lexicon. Black’s Law Dictionary, which first referred to franchise selling in its 1979 edition, states that franchising developed out of the agency method of distribution. Standard periodical references, a valuable source of information on when terms became popular, first noticed franchising in the late 1950s. The Business Periodicals Index and the Reader’s Guide to Periodical Literature provided headings in 1958 and 1959 respectively. Prior to this time, articles dealing with franchising were indexed under exclusive agency. Until 1969 the Reader’s Guide included only a cross-reference to exclusive agency under its franchise system heading.³

Franchising Defined

Modern franchising can perhaps best be thought of as a method of organization that combines large and small business into a single administrative unit. In a franchise system one large firm, often called the parent company, grants or sells the right to distribute its products or use its trade name and processes to a number of smaller firms. The boundaries of the relationship and the ultimate basis for control are established by contract. Contracts typically either have no fixed term or run from three to twenty years, but once a franchisee signs on, the conditions under which termination or nonrenewal can legally occur are limited as long as performance is satisfactory. Although the contract defines the limits of the relationship, control is based more on the community of interest arising out of the near-exclusive relationship between the involved parties. For the system to work, franchise holders, although legally independent, must conform to detailed standards of operation designed and enforced by the parent company.⁴

There are two general types of franchise organizations. Product franchising, the first to develop, remains the most important in terms of the value of total sales. Under this system, a manufacturer markets its output almost entirely through highly specialized retailers, who, in turn, rely on the manufacturer for most of the products they sell. This system first appeared in the mid-nineteenth century, when the makers of costly and complex goods such as farm equipment and sewing machines reached a size where their increased output and expanded markets forced them to modify their agency systems to better coordinate and control the flow of goods from factory to consumer. Today, the automobile dealership is probably the most common example of this type of franchise.⁵

Business-format franchising, the second type to develop, is where the outlet itself—together with a comprehensive package of services to support it—is the product. Business-format franchising emerged in the early twentieth century, when the spread of big business led to the creation of a wide variety of specialized services and managerial tools such as professional advertising and sophisticated accounting systems. These services form the core of the package that business-format franchisers market to the would-be small business owner. By the late 1950s perceptive entrepreneurs realized that, to use a popular example, there was more money to be made selling hamburger stands than in selling hamburgers. Once business-format franchisers understood this and began producing small businesses, they found their success depended on applying the principles of mass production to the bundle of services they provided to their franchisees. When this happened, the franchise industry was born.⁶

Both types of franchising, then, are relatively new. Product franchising, along with better methods of organizing the modern business enterprise, grew out of the changes in technology that led to a national market and high-volume production. By the 1850s, these changes in technology and markets had reached the point where America began to make the transition from a traditional to a modern economy. Unlike more common methods of integrating the activities of the large, multiunit enterprise, however, product franchisers did not rely on the visible hand of corporate ownership and direct supervision to coordinate and control the flow of goods through the firm. Instead, they found that since the distribution of their goods required less coordination than their production, they could meet the opportunities and demands of the mass market by converting their independent agents into semi-independent franchised dealers.⁷

Although business-format franchising grew out of product franchising, legally and functionally they are separate and distinct. Business-format franchisers sell the opportunity for business ownership. Product franchisers use the outlets to sell their goods. The profitability of the products sold through the outlets seems to be the most important factor in determining how firms use franchising. The makers of complex goods originally developed product franchising because their goods could not be easily absorbed into normal distribution channels. These products tended to be expensive and durable, like sewing machines or automobiles, and the number sold through any individual outlet was usually low. Their high per-unit profits and their large investments in production facilities gave manufacturers little incentive to consider the franchise as a product, and the relatively limited number of outlets needed to market durable goods further reduced the attractiveness of outlets as products.

On the other hand, the successful sale of services or nondurable goods generally requires closer connections with the parent company since the appearance of the outlet and the service the customer receives there are part of the product the customer buys. These more elaborate franchise packages made it more logical to view the franchise as a product, while the low-profit margins and minimal investments in production facilities gave business-format franchisers additional incentives to convert the outlet into a product in its own right.

Business-format franchisers do more than sell outlets however, and this is where the greatest difference between product and business-format franchisers comes into play. To be successful, a franchise industry firm must produce a wide range of support services in high volume and sell them at a relatively low cost. To do this, franchise industry firms moved big business into the business of creating small businesses. In much the same way that their counterparts in the automobile or sewing machine industry exploited economies of scale or scope to mass-produce consumer goods, business-format franchisers applied the same principles to the production of franchised outlets and associated services.

In addition to my main goal of tracing the origins of the franchise system, I also use franchising to examine the influence of traditional business practices in shaping the organization of the large, multiunit firm and to investigate an important intersection between large and small business in the modern economy. Over the last twenty-five years, the primary focus of business history has been on the institutional development of big business and the appearance of managerial capitalism in the United States. As the work of Alfred Chandler and a number of other scholars has shown, one of the distinguishing features of the modern economy has been the creation of a large body of salaried managers to replace the invisible hand of the market in coordinating the flow of goods and services through the most important sectors of the economy. Large firms were forced to develop bureaucratic organizational structures because the closer coordination required to make mass production and mass distribution work efficiently could not be achieved by allowing market forces to control the flow of goods from raw material to consumer. As the remainder of this study will show, however, in distribution it was often possible for firms to combine the visible hand of management with the invisible hand of the market to coordinate the movement of goods. The makers of automobiles and the refiners of gasoline, for example, developed new administrative structures staffed by salaried executives who controlled and coordinated distribution, but, to actually implement the programs devised by the home office, these firms grafted their new organizational structures onto their already existing network of semi-independent dealers. Ultimately, control came through a combination of administrative fiat, contractual obligation, and economic self-interest.⁸

As to the final goal of my study, it has long been recognized that the place of small business in the modern economy is an underexplored area in business history. The few authors concerned with the relationship between large and small business have tended to stress the existence of a dual economy, where large and small firms coexist much like two noncompeting species who, though sharing the same environment, interact only indirectly. In this view, large firms, which were able to develop technologies and managerial structures to exploit the national market, quickly came to dominate the modern economy and shape its growth. In contrast, small firms, lacking access to economies of scale or scope and the need for managerial innovations, continued to operate much as they always had, except that now they existed on the fringes of the economy, avoiding their larger counterparts by seeking niches where big business could not bring its greater efficiencies to bear.⁹

While this view describes the structure of the economy fairly well, it falls short on explaining how large and small businesses interact in the modern economy. In reality, the relationship between large and small is more complex than is often presented. Small business also adapted to the modern economy, and a major part of this adjustment was learning how to work with, as well as avoid, competition with big business. Just as some small firms have survived by carving out small, specialized areas that fill the cracks in the market left by big businesses, others have found success by tying their fortunes to their larger counterparts. Instead of emphasizing a dual economy where large and small businesses operate in distinct and largely separate spheres, it seems more accurate to think of the modern economy as one where large and small businesses interact constantly, as in the case of the automobile and oil industries, where small firms retail the products produced by big business. Or, to use a more general example, in subcontracting small firms provide all types of services to their larger counterparts. Franchising, which combines large and small business into a single administrative unit, is perhaps the most extreme example of the interconnections between large and small businesses in the modern economy.¹⁰

Overview

This book is organized around five case studies. The first four examine the evolution of franchise selling, and the final one considers the development of franchising as an industry in its own right. The firms selected for examination either dominated or were representative of their respective industries. Together, they span a 140-year period that begins in the 1840s and ends in the 1980s.

Each chapter is organized in much the same way. A brief sketch of the relevant economic and social conditions at the time franchising was introduced to the industry in question is followed by an overview of that industry as a whole and an examination of how franchising developed in the case study firm. In each instance, the development of franchising is analyzed from its introduction to the time when the franchise organization matured.

Chapter 1 traces the evolution of product franchising out of the agency system using the examples of the McCormick Harvesting Machine Company and the I. M. Singer Company. Both firms turned to agency sales shortly after their founding as a result of wholesalers’ inability to sell their products effectively. The cost and complexity of their goods made it necessary for retailers to provide credit, demonstration, maintenance, and repair services. Because most wholesalers lacked the facilities and expertise to provide these services, McCormick and Singer found it necessary to forge direct connections with the dealers who sold their wares. The agency system, already long established, provided a ready but only partial solution to their needs. As long as each firm remained relatively small, the agency system worked well. But as each became a big business, the administrative problems of coordinating the flow of tens of thousands of machines and parts to thousands of dealers forced the firms to standardize relations with their dealers and fashion them into a unified distribution network.

The transformation from an arrangement where agents acted independently of one another and only nominally under the control of the home office to a system where dealers performed as an organized and responsible army followed different paths at McCormick and Singer. Because the reaper was a seasonal good and its market was scattered, McCormick was never able to force its dealers to concentrate exclusively on the sale of its products. This made it impossible for the company to gain full control over its dealer network. McCormick could, and did, standardize sales policies and procedures and coordinate the actions of his dealers, but they always maintained a high degree of independence. At Singer, where production was higher and the market was more concentrated, the company ultimately moved toward a dual distribution system, where company-owned outlets handled sales in the high-volume, high-profit urban areas and dealers controlled sales in the hinterlands. Unlike McCormick, Isaac Singer could establish a high degree of control over his dealers as it was possible for them to concentrate almost exclusively on the sale of his product.

Chapter 2 uses the experiences of the Ford Motor Company to investigate the development of franchising in the automobile industry between 1903 and the mid-1950s. Conditions in the auto industry resembled those in farm implements, and in many ways events at Ford were a continuation of the pattern already established by McCormick. At Ford, however, the shift from independent agents using their best judgment to sell the company’s products to a body of semi-independent dealers operating according to uniform policies set and strictly enforced by the company occurred much more quickly and completely than it had at McCormick. Within ten years of its founding Ford was making almost 190,000 vehicles a year, and the greater administrative requirements this placed on the company necessitated tighter control over distribution much earlier in the company’s existence than had been the case at either McCormick or Singer. Moreover, the improved communication network of the twentieth century gave Ford the physical means to coordinate and control its distribution system from the earliest days of the business.

Automobile makers in general and Ford in particular also had an additional incentive to change the nature of the agency system they had originally used to market their products. As the number of dealers climbed into the thousands, executives at Ford became increasingly concerned about the possibility of being held legally responsible for the actions of these agents as they carried out their duties for the company.

At Ford, the desire to establish the legal independence of its dealers came at roughly the same time the company was trying to exert more influence over dealers for the sake of administrative coordination. What carmakers such as Ford wanted was a way to tie dealers more closely to the company, while at the same time establishing their legal independence. Franchising proved to be the answer. Even before the introduction of mass production in 1913, Ford’s sizable output allowed dealers to make a living specializing exclusively in the sale and servicing of Ford products. This gave the company considerable control over dealers’ actions, even as it maintained clauses in the franchise contract that explicitly proclaimed the dealers’ legal independence.

Franchise development at Ford was characterized by increasingly close, but not always cordial, relations between the company and its dealers. Administratively, dealers were treated as if they were company employees. Dealers were tied into the company’s chain of command, receiving a continual stream of correspondence notifying them of changes in policy or procedure, and factory representatives made regular inspections to see that the directives of the home office were being followed. From its earliest years through the late 1930s, Ford used the threat of cancellation to force dealers to abide by the company’s wishes. This policy began to change in the late 1930s, as company officials came to realize that the long-term health of the firm depended on a strong, stable dealer network and that such a network could not be maintained through coercion. Accordingly, Ford revised its franchise contracts to provide dealers with some legal protection from the former abuses of the company and developed institutions to more actively assist them in the profitable operation of their businesses, to arbitrate their disputes with the company, and to give them a stronger voice in company affairs.

Business-format franchising appeared first in the oil industry, the subject of Chapter 3, during the 1920s. The Sun Oil Company, my fourth case, began to use franchised service stations in the second decade of the twentieth century, when the tremendous boom in automobile ownership created an urgent demand for large numbers of conveniently located gasoline outlets. The volatile nature of the product made mass distribution through existing distributors impractical, and the profits that could be expected from a typical outlet were not great enough to encourage independent retailers to establish enough outlets to meet the demand. Therefore, almost by default, petroleum companies were forced to become directly involved in retail marketing. By using franchise systems, oil companies were able to ensure a stable market for their products and reduce the administrative, storage, and maintenance costs associated with retail distribution.

Refiners brought a major expansion of the system in that for the first