This paper provides the first systematic evidence on how franchi‐sors adjust their royalty rates and franchise fees as they gain fran‐chising experience. This evidence comes from a unique panel data set that we assembled on these monetary contract terms for about 1,000 franchisors each year for the 1980–92 period. We find that there is much persistence, over time, in franchise contract terms within firms. We find this despite sizable across‐firm differences in royalty rates and franchise fees. In addition, franchisors do not systematically increase or decrease their royalty rates or franchise fees as they become better established, contrary to predictions from some specific theoretical models. We conclude that variation in contract terms is mostly determined by differences across firms, not by within‐firm changes over time. Finally, we find no negative relationship, within firms, between up‐front franchise fees and royalty rates.

Financial constraints are considered an important impediment to growth for small businesses. We study theoretically and empirically the relationship between the financial constraints of agents and the organizational decisions and growth of principals, in the context of franchising. We find that a 30 percent decrease in average collateralizable housing wealth in an area is associated with a delay in chains’ entry into franchising by 0.33 year on average, or 10 percent of the average waiting time, and a reduction in chain growth and hence a reduction in franchised chain employment of about 9 percent.