Assignment of Call Option Rights in Franchise Contracts: a Transaction Cost and Real Option Perspective

Abstract: The objective of this study is to explain the franchisor’s choice of using call option rights as a contractual clause in franchise relationships by applying transaction cost and real options theory. The call option clause gives the franchisor the contractual right, but not the obligation, to acquire franchisee outlets after contract termination. We argue that the franchisors more likely use a real option clause in franchise contracts under the following conditions: high environmental uncertainty, high behavioral uncertainty, high franchisors’ transaction-specific investments relative to franchisees’, and long contract duration. The results of the regression analysis based on 111 German and Swiss franchise systems provide some support to these hypotheses. This is the first study that applies real option and transaction cost reasoning to explain the explicit call options in franchise contracting.