Resources and competences for franchising innovation

Recursos y competencias para la innovación en franquicias

Pedro Lucas de Resende Melo*, Tales Andreassi** y Moacir de Miranda Oliveira Jr.***

Recibido: 08-04-2009 - Aprobado: 15-07-2009

Contenido

• 1. Introduction
• 2. Theoretical review
• 3. Development of propositions
• 4. Conclusion
• Bibliographical references

1. Introduction

The franchising system is based on a contractual relationship between two parties: the franchisor and the franchisee. Thus, a franchise is an alternative to diversification. It can be regarded as a cooperative strategy that firms adopt to reduce risk and share expertise. This relationship implies in transactions involving a series of tangible and intangible resources. The role of the franchisor is to support the establishment of a new franchise through training, product supply, marketing plans and finance. The franchisee is responsible for selling the franchisor’s products and services (Gillis, 2007; Shane, 2005; Combs and Ketchen, 1999b; Mahoney and Pandian, 1992).

It is clear that many entrepreneurs’ rising interest in franchising in the last few years implies in creating alternatives for those entrepreneurs that want to go into business through brands and know-how consolidated by franchisors, as this helps to reduce the uncertainty of a new business. Other franchise benefits include gains due to greater access to technology, offered by the franchisor; help in getting financing for the venture’s expansion; and a lower cost of monitoring and controlling units, as compared to what having a single shop entails. The benefits of franchises are often greater than those of regular businesses, mainly because the system provides a model for partnership enterprise management in which there is a greater exchange of information and innovative practices, in those markets in which the franchise chain operates (Shane, 2005; Shane and Hoy, 1996).

Global franchising data shows that the United States are the leaders in this market in international terms, with more than 760,000 franchised units that generate 18 million jobs and move US$1.53 trillion a year in the economy (IFA, 2008; Dant, 2008). Brazil stands out for its franchise sales of some R$55 billion, with more than 71,950 units franchised by approximately 1,380 chains, of which 90% are genuinely Brazilian. This accounts for the generation of roughly 600 thousand direct jobs and, according to estimates, almost 2 million indirect jobs. The growth rates of Brazilian franchising stand out, reflecting a rising preference for this business model. From 2007 to 2008, franchise sales grew (20%) and the number of new franchisors increased (10%), as did the number of franchised units (15%). Given the present international financial crisis, it is expected that demand for pre-formatted business, such as franchises, will grow (Melo and Andreassi, 2008; ABF, 2009). Even though it is an important sector for the economy, and a type of entrepreneurial activity that has been drawing a rising number of entrepreneurs, the Brazilian franchising sector is still short of in-depth scientific research. However, one current study that covers domestic and international scientific production on franchising points out the need and the opportunities for more analysis of this sector (Melo and Adreassi, 2008).

Among the approaches used in recent years in franchising, an important one is the theory of the scarcity of resources, which clearly explains the limitations of entrepreneurs that want to expand their businesses and adopt the franchising model. Through this strategic choice, economies of scale are achieved more easilyand growth rates are better (Oxenfeldt and Kelly, 1968). However, this approach does not explain a franchise chain’s competitiveness: how resources should be strategically selected and developed, the competences needed for outstanding performance, and the support and competitive advantage that ensue from the said resources, capabilities and competences (Barney, 1991; Prahalad and Hamel, 1990; Wernerfelt, 1984).

Focusing the discussion on the competitiveness issue, we see that both the resources and the competences of franchises can generate different performances in their markets of operation. On the other hand, resources and competences that are hard to copy, scarce and valuable become strategic assets. These are the assumptions associated with the resource-based view of the firm (RBV). Among these resources, brand reputation and the number of operations and routines carried out by the franchisor become crucial to the competitiveness of franchises (Barney, 1991; Gillis, 2007; Lafontaine and Shaw, 2005; Amit and Schoemaler, 1993; Caves and Murphy, 1976; Kaufman and Eroglu, 1998).

However, there are few studies involving both franchising and RBV. In recent years, franchises have been run based on the traditional point of view of the theory of agency and resource scarcity, as mentioned above. New discoveries and contributions to franchising can be found using RBV, especially regarding the resources traded and franchisor decisions that lead to better chain performance (Gillis, 2007).

When discussing competition between firms and the creation of competitive advantage, it is important to underscore the role of innovation. Innovation in franchising is extremely important given the competitive environment in which we live. Understanding the resources and competences developed and traded among the players in a franchise is the main concern of this discussion; this includes the role of franchisors and franchisees. Kaufamn and Eroglu (1998), Dyer and Singh (1998), Bradach (1997), and Castrogiovanni et al. (1993) are authors who emphasize the importance of innovation in franchising chains. Mainly because the franchise can be seen as an outstanding source of innovation in a chain, but one that demands that franchisors’ governance mechanisms ensure that these innovations can be enjoyed by several franchisees, in order to enhance competitive advantage and avoid the chain’s stagnation.

In trying to find the franchising system’s links, we encounter certain research questions. First, what resources and competences can promote innovation in franchising chains? Furthermore, what competences and resources can sustain the competitive advantage of these innovations? RBV is an approach that looks into these questions in depth, primarily because it focuses on determining resources and expertise in the development of competitive advantage. Therefore, it can provide support for franchise competitiveness (Barney, 1991; Prahalad and Hamel, 1990; Wernerfelt, 1984; Gillis, 2007).

This paper aims at generating proposals regarding resources and competences that can lead to innovations in franchise chains and provide support for competitive advantages. The paper is grounded in a theoretical review of the development of RBV and on the main relevant discussions over the last few decades; after charting this, we will specifically consider the use of RBV in the field of franchising, and proposals involving franchising and innovations will be presented, followed by some comments in the final thoughts section.

2. Theoretical review

2.1. The Resource Based View of the Firm (RBV)

The cornerstone of RBV was established by Penrose (1959) as a means of dealing with the resources required for firms to grow. The discussion held was based on principles that can lead to the growth of firms and built in the variables of growth speed and duration. On the other hand, an analysis of available resources is required to sustain this growth and to generate expansion in the desired direction. Resources are taken to mean all physical assets traded in the firm, as well as the human resources that will manage these changes and provide products and services within the organizations.

Though RBV is based on a vision of an organization’s in-house resources, neither the macroeconomic environment nor the external setting is neglected, as they are responsible for the business’s internal changes. However, what is lacking is a more in-depth view of outside firms and of certain limitations regarding the professionalization of management and the technological developments that will become crucial in the current competitive situation.

Although the work of Penrose (1959) gained prominence only as of the 1980s, well-known scholars such as Wernerfelt (1984) and Barney (1991), who refer to his work, generated the dissemination of this approach and its assimilation by the strategy and entrepreneurship areas. Throughout the 1990s, different studies on the resources of firms endorsed the analysis and thereby generated greater credibility for this debate (Prahalad and Hamel, 1990; Bates and Flynn, 1995; Bowen and Wiersema, 1999; Brush and Artz, 1999; Combs and Ketchen, 1999a).

The work proposed by Wernerfelt (1984) concerned the development of tools for the analysis of firm resources and he addressed the strategic issues related to these resources. This debate regards the relationship between profitability and the use of these resources, as well as management over time. Wernerfelt (1984) uses a model that encompasses five competitive forces to conduct an analysis based on resources rather than just on products, as originally proposed by Porter (1980). In this comparison: (i) General effects; (ii) Resources barriers; (iii) Attractive resources and, (iv) Mergers and acquisitions.

The work of Wernerfelt (1984) contributed substantially to the study of firm resources, thought it was heavily criticized by Priem and Butler (2001) in a publication that the journal Academy of Management acknowledged. Among the arguments of these authors, there is the issue of whether the model proposed by Wernerfelt (1984) would lose much of its value by not being empirically tested.

In the early 1990s, RBV added to the discussion of strategy (Barney, 1991), examining the sources of support for competitive advantage based on firm resources and capabilities according to their (i) value, (ii) scarcity, (iii) imitability and (iv) replaceability. According to this author, RBV replaces traditional approaches to competitive advantage. Firstly RBV considers that firms in the same industry can have heterogeneous positions due to resources that they control. Secondly, these resources cannot be perfectly traded between firms. Within these two points, sources of competitive advantage to be explored both by firms and managers can be found.

At the same time, Prahalad and Hamel (1990) launched a discussion on the responsibilities of corporations and heightened the debate on the strategic resources of organizations, gaining greater prominence after publishing the book Competing for the Future (1994), which became a bestseller in subsequent years. Wernerfelt (1995) is one of the authors that recognizes that the work of Prahalad and Hamel was of paramount importance to disseminate RBV-related concepts to managers.

Prahalad and Hamel (1990) analyzed organizations metaphorically as a great tree, with a varied structure in which the trunk and main branches represent the essential products; the smaller branches represent business units; and the leaves, flowers and fruit represent the end products. The root provides nutrition, support and stability for all; these are the core competences. They are developed within an organization according to their use and shared among departments by means of the firm’s organization processes. They are able to link existing businesses and work as an engine for new business and technical standards. Thus, one can argue that organizations with basic competences that lead to competitive differences in their market of operation eventually act as leaders in areas where their competences can impose standards upon these markets (Prahalad and Hamel, 1990).

According to Hamel and Prahalad (1994), several years are needed to develop global leadership in a particular field, and consistency is of fundamental importance to this development. Therefore, teams with high service turnover or high total rates of turnover will have difficulty developing new competences. Managers unprepared for the development of new powers make a company waste effort, yet fail to build new competences. On the other hand, companies that can distribute their competences among different sectors or the dynamics of business units have a greater chance of becoming competitive. Finally, it is necessary that managers maintain ongoing dedication to the administration of core competences and their protection and defense. Hamel and Prahalad (1994) make certain recommendations, stressing that competences can be corrupted due to lack of investment and can even become fragmented when delivered to stakeholders that have been unable to develop them as partners.

After this brief survey, we will discuss historical RBV in regard to the main issues and then advance along this discussion before we consider studies in the field of franchising, in search of a deeper understanding of its merits.

2.2. The Resource-Based View and Franchising

One of the first works that dealt with the resources of franchise chains goes back to Oxenfeldt and Kelly (1968). According to them, franchising is one of the options of firms that wish to expand in the face of a shortage of resources. This restriction on resources can be characterized by the unavailability of financing, staff and even information on local markets. Given these limitations, several resources can be supplied by means of a franchising system.

During the course of the years, many authors have tried to discuss the scarce resources and how they relate to franchising. The work of Combs and Ketchen (1999a) is one of these sources. It addresses shortages of capital and the restriction of resources such as labor, management experience and knowledge of the market in opting for franchising. The franchisees are seen as sources of low-cost capital for the franchisor, as opposed to bank loans and other forms of traditional financing. These authors suggest a more in-depth view of new theoretical perspectives and RBV, as this might allow one to establish a link between organizational capabilities and competitive advantage, providing new sources of franchising analysis.

According to Windsperger and Dant (2006), it is necessary to take into account the shortage of firm resources before franchisors redirect the franchise chain or convert franchise units into their own units. This process is based on the maturity of the chain; over the years, the franchisor acquires a rising knowledge of local operations and financial resources. Research findings indicate that these resources are intangible (information, financial and managerial) and may be the moderators of this redirection.

In a study involving retailers, the discussion is redirected to retailers’ decision to open or maintain their own units (Alon, 2001). This study indicates that the more units a retailer has, the more difficult it will be to keep control; therefore, franchising is recommended. In short, retailers with high growth rates and a lot of available resources use franchising less than large retailers with low growth rates. Small retailers with high growth rates must consider strengthening their resources, such as their brand, and then opt for franchising.

Ketchen and Combs (2003) developed a hypothesis as to why firms embrace franchising. This hypothesis relies on a theoretical survey dealing with the scarcity of resources and the theory of agency. The scarcity of resources, age, size and corporate growth rate particularly influence the adoption of franchising. According to the agency theory, franchising is an interesting option because of the lower cost of monitoring subsidiaries. Resource scarcity explains the reason for resorting to franchising, but once the chain has grown, a different reality develops, requiring additional analysis. RBV can provide support for such a development.

Gillis (2007), in his doctoral thesis, goes deeper into the unfolding of RBV and relational theory in order to explain the tendency to prepay and its effects on performance. More precisely, Gillis examines how franchisor resources affect the willingness to prepay and the consequences of this interaction of resources for franchisor performance. The resources considered are related to brand strength, operational routines and managerial expertise. RBV indicates an underexploited new theoretical approach to franchising studies, but with significant power to interpret the relations between franchisees and franchisors in resources transaction.

Castrogiovanni, Combs and Justis (2006) endorse the above discussion while trying to identify factors that influence changes in the inclination to franchise. This discussion involves traditional theories such as the agency theory and resource scarcity, although RBV stands out for its explanatory capability. The firm’s expertise development might take years and therefore it is in these skills that the competitive advantage may be fomented. In this sense, RBV is a better choice than other traditional theories.

In a discussion involving the theory of resource shortages, the agency theory, RBV and institutional theory, Combs, Michael and Castrogiovanni (2004) look for explanations about initiation, propensity and performance in franchising. The results show that the theories of scarcity, resources and agency have strong explanatory capabilities. On the other hand, RBV supports the identification of differences between the resources and capabilities of firms, especially in terms of the inclination to franchise. Although RBV is important to explain innovation, the study does not go further into the franchising segment.

Combs and Ketchen’s (1999b) debate examines the critical issues of cooperation for resources in restaurants using the franchise system and those that do not use it, in the light of the RBV theory. This cooperation is attractive to franchisors because it allows them to increase their market share and helps them to obtain information about local markets through their franchisees. This sharing of resources can be understood as a strategy to cope with resource limitation, allowing firm growth. The resources considered strategic such as brand reputation or the franchisor’s experience can be positive for performance in this cooperation between firms. Particularly in this research, the authors found that the brand aspect is the key to performance in this cooperation, although the study shows that franchisor’s experience is not necessarily linked to better resource management. However, conflicts are common, and in some cases cooperation is not an efficient way to exchange resources.

However, a group of researchers analyzed the lack of experience in franchisees management of new firms that adopted the franchise system. Nevertheless, a group of researchers points out newly-franchised firms lacking experience from the franchisor’s part . The main issue is how human resources are developed in this process of chain expansion, given that franchisees cannot be treated like conventional workers, since they aspire to participating in the business. Through RBV, these researchers considered the development of human resources as an agent to create competitive advantages in franchising. (Stanworth et al., 2004).

Knott (2003) identified in his research the routines of franchising chains, such as franchisor-defined standards. These routines, which can be valuable resources for performance, may lead to competitive differences; however,Knott analyses the mechanisms required for this sustainability based on RBV. He indicates, in these routines, the individual abilities that encompass the organizational behavior and the knowledge output resulting from this relation. In franchising the routines respect hierarchies, in which the franchisor provides assistance to franchisees, who should follow the rules set by the former. For the franchisees, the routines can be seen as informational resources transferred by the franchisor to local management, the latter being willing to pay royalties in exchange for this information. On the other hand, the main source of competitive sustainable advantage comes from explicit practice (converted into information, agreements and incentives provided by the franchisor) that is not easily copied by competitors when implemented as a package by the franchising chain.

This analysis of the theoretical frame of reference has not identified any publications that have discussed the RBV perspective in depth and its implications for resources and skills where franchising innovation is concerned. On this basis, this proposal hopes to complement existing studies on franchising through the proposals that will be introduced next.

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