Question

How are franchising and tapered integration similar? How do these strategies differ? Discuss with specific examples.

Answer 1

Tapered integration reflects a combination of market exchange and vertical integration. A producer may itself generate some quantity of a product and buy the remaining portion from independent companies. It could sell some of its goods through an in-house sales force, and rely on the representative of an independent distributor to sell the rest. Examples of tapered integration include retailers such as Tim Hortons (a Canadian chain known for its coffee and donuts) which owns some of its retail outlets but also awards franchises; Coca-Cola and Pepsi, which have their own bottling companies but rely on independently owned bottlers to produce and distribute their soft drinks.

Tapered incorporation provides many advantages. Second, it extends the company's input and/or output sources without requiring large outlays of resources. Second, the company can use expense and performance details from its internal networks to help negotiate contracts with independent outlets. Fourth, by threatening to increase outsourcing, the firm will encourage its internal channels, while simultaneously motivating its external channels by promising to generate more in-house. Eventually, independent input providers will secure the business against holdup.

The franchise operations are many of the best known companies in the world. A traditional franchisor, such as McDonald's restaurants and SPAR convenience stores, starts as a local company. The owner may wish to expand to new markets if the company prospers. Franchisees put up the capital to build and run their shops, and pay a fee for the right to use the name and business model of the franchisor. Franchisers may also allow franchisors to buy from approved vendors, offer specific products and comply with the guidelines for architecture and design

The vertical integration economics helps explain franchising's attractiveness. The franchiser conducts activities requiring economies of significant scale, such as buying and branding. Franchisees keep their residual profits, giving them strong incentives to make investments to serve their local markets, such as identifying good locations and tailoring product selections to local tastes. In allocating decision rights in these cases, the dispersal of the ownership of individual franchises means no loss and much gain.