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Friday, January 29, 2010

A Whopper of a Franchise Dispute

CheeseburgerDbl
Is it possible for food to be too cheap?  For example, Burger King has a “value menu,” which includes a double cheeseburger for 99 cents.  Even if economies of scale purports to explain how Burger King can still profit while selling its products at a lower price than other, smaller food establishments, 99 cents seems too cheap to me for a double cheese burger.  The price does not turn me on; rather, it turns me off.  I just can’t believe that a quality, tasty meal can be made at such a low production cost.  I assume the worst about all of its ingredients. 

Well, based on an ongoing dispute between Burger King and its franchisees, the franchisees also are not thrilled about the price of the double cheeseburger.  Maybe Burger King is able to turn a profit at this price point, but the franchisees claim that they are not.  According to a recent WSJ article, Burger King insists that “its two beef-patty sandwich” be sold for no more than $1 on its “Value Menu.”   The franchisees claim that they are losing money on the sales, and they have sued.  The issue comes down to the terms of the boilerplate franchise contracts, and whether those contracts allow Burger King to dictate prices.  Here’s a taste from he WSJ:

Most franchisees are following orders for now, but the National Franchisee Association for Burger King, which represents restaurant operators across the U.S., filed a lawsuit last fall in U.S. District Court in Florida, asserting that the company's franchise agreements don't allow it to dictate prices.

Burger King, a unit of Burger King Holdings Inc., Miami, says it sees the value promotion as key to competing effectively in the current consumer environment. Franchisees who ignore its pricing instructions "may be declared in default of their franchise agreement," the company says.

The court has yet to rule on Burger King's request to dismiss the case.

A ruling that's favorable to Burger King could embolden other franchisers to mandate prices. Many franchisees have long regarded their power to set prices as testament to their independence.

* **

It used to be that franchisers weren't allowed to impose maximum prices, says Francine Lafontaine, who teaches the economics of franchising at the University of Michigan's Stephen M. Ross School of Business. But a 1997 Supreme Court case involving a Chicago service station dealer and his gasoline wholesaler opened the door for the practice.

Still, many have chosen not to do it, and left in place boilerplate franchising agreements that don't include pricing requirements, says Ms. Lafontaine.

Burger King's franchisees say they usually get the chance to sign off on price changes, and that they've twice rejected a $1 double cheeseburger. Burger King confirms that it previously didn't dictate prices on individual items, though it did require a $1 maximum price on Value Menu items.

The company won a separate case in 2008 requiring franchisees to offer the Value Menu, which is core to its efforts to attract price-conscious consumers.

A company might choose to set prices if it thinks the stores are charging so much that its royalties—and its reputation—are being diminished. But most companies don't like to rile their franchisees, experts say.

Get more of a taste here.

Disclaimer coming soon to a Burger King coupon near you: “valid only at participating restaurants”?

[Meredith R. Miller]

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