Royalty rates are an essential contractual provision to reduce the risk of opportunism in franchising partnerships, many of which are international. However, extant research provides limited insights into the factors that determine the level of royalty rates in international franchise agreements. To address this gap, the authors conceptualize and empirically test a model that treats country characteristics (economic potential, legal rights protection, and cultural distance) and contract characteristics (territorial exclusivity and contract duration) as drivers of royalty rates, accounting for product-market profile and service type as potential contextual factors. Using a unique data set comprising 125 international franchising contracts between franchisors and franchisees from 19 countries, the authors find that economic potential (but not territorial exclusivity) is associated with higher royalty rates while legal rights protection, cultural distance, and contract duration are associated with lower royalty rates. While these relationships are robust across B2C and B2B markets, the impact of economic potential (legal rights protection) on royalty rates is more (less) pronounced for people-processing services, compared to possession-processing services. This work extends the literature exploring the contracting stage of international franchising and provides insights that inform franchisors’ and franchisees’ decisions related to the design of such contracts.
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