Franchising in America

The Development of a Business Method, 1840-1980

Thomas S. Dicke

• Publisher: The University of North Carolina Press
• Year: 2017
• Print ISBN: 9780807843789, 9780807820414
• eBook ISBN: 9781469610085
• Topic: Business
• Subtopic: Business History
• Index: Business

Using a series of case studies from five industries, Dicke analyzes franchising, a marketing system that combines large and small firms into a single administrative unit, strengthening both in the process. He studies the franchise industry from the 1840s to the 1980s, closely examining the rights and obligations of both the parent company and the franchise owner.

Originally published in 1992.

A UNC Press Enduring Edition -- UNC Press Enduring Editions use the latest in digital technology to make available again books from our distinguished backlist that were previously out of print. These editions are published unaltered from the original, and are presented in affordable paperback formats, bringing readers both historical and cultural value.

1

Preludes to Franchising

The McCormick Harvesting Machine Company and the I. M. Singer Company

Cyrus McCormick and Isaac Singer started their firms just as America’s long-established economic system based on agriculture and small business began to give way to a new economy grounded in industry and controlled by big business. When they began operations in the mid-nineteenth century, their products were new, but they were made and sold much like goods had been produced and marketed since colonial times. McCormick’s reapers and Singer’s sewing machines were handcrafted in small shops and sold primarily through independent agents who carried them as only a small part of their business. By the end of the century, McCormick and Singer had become large, vertically integrated businesses, where manufacturing and selling were closely linked and administrative coordination, more than market forces, determined the flow of their goods from producer to consumer.

In going from small firm to big business, McCormick and Singer acted in response to the economic changes that had begun to reshape America in the 1840s. Like many of their counterparts, McCormick and Singer found that in making this change it was possible to incorporate part of their old marketing structures into their new organizations. This chapter examines the distribution systems developed by Singer and McCormick. Both blended the traditional practice of selling through agents with new organizational techniques to coordinate and control their performance. These marketing systems were important forerunners to franchising.

America’s Changing Business System

The changes at McCormick and Singer were hardly unique; they re-fleeted the general alterations in American business that were occurring as a result of population increases and the development of new technologies. Astute business leaders recognized clearly the potentials for expansion inherent in their new world, but they were less sure about how to best exploit them. In general, business people seemed to prefer trying to adapt their existing organizations to the new environment as best they could and resorted to drastic change only when traditional methods failed. Consequently, the initial organizational response to the rise of the modern economy was often evolutionary and piecemeal. This perpetuated the use of traditional business methods, because once accepted they tended to become institutionalized within the structure of the firm.¹

The growth of the domestic market provided the ambitious with an incentive to develop methods for high-volume production and distribution. Technological changes made this a reality, but only organizational changes made it possible for these new technologies to work effectively. The market had been expanding since the earliest days of European settlement, but because of the great size of the country and the tendency to migrate to sparsely settled frontier areas, it was not until the 1830s or later that many regions possessed a population density great enough to encourage merchants and manufacturers to develop new business methods.²

The increase in population and the appearance of large urban centers controlling vast hinterlands of well-settled rural sections encouraged business people to increase the scale and scope of their operations in a few selected areas. But people and cities alone were not enough to alter the basic structure of the American economy. Dense urban and village markets had existed in Europe for centuries and in the northeastern United States for decades without substantially changing the structure of business organizations inherited from the earliest days of European settlement. Until the 1840s, the dominant form of business in the country remained the small firm serving a limited market. Goods flowed from firm to firm in a complex chain, all held together by an intricate web regulated through law, guided by market forces, and driven by the independent actions of countless individuals. Beginning in the 1840s, however, a number of technological changes combined to alter the basic structure of the economy—first by making direct access to large regional markets possible, and second by allowing manufacturers to develop new, more efficient methods of production.³

At the heart of these technological changes was the substitution of mechanical power for human or animal power. The introduction of water and, more importantly, steam power, brought about the end of an economy based on handcrafting for local customers and created an industrial economy based on machine production for regional, national, and international markets. The tremendous concentrations of energy provided by water and steam allowed mechanics to develop a galaxy of new machines that previously had been unthinkable owing to the lack of any reliable source with enough energy to power them. In production, the end result was the creation of the factory system, where machines and people were integrated together in ways that permitted high-volume, low-cost production.⁴

The widespread application of mechanical power occurred even earlier in distribution and played a critical role in industrialization by creating conditions that made the development of mass production profitable. The use of steam power to operate the steamboat and the railroad greatly widened the market available to business by dramatically increasing the speed and reliability of the movement of goods throughout the country. In 1800, for example, it took roughly five to six weeks to travel from New York City to the Mississippi River; on the eve of the Civil War, the same trip lasted only three to five days. Due to increased carrying capacity, freight charges dropped as decisively. Inventions such as the telegraph allowed news to travel even faster, and given the fact that information is often the most perishable commodity a business person deals in, this further extended the area a single concern could reasonably hope to serve.⁵

In the early nineteenth century, the two most significant changes occurring in distribution were the ascendancy of the wholesale jobber and the movement of manufacturers into marketing. The increased volume of trade and the broadening of markets created the need for someone to coordinate the movement of goods between makers and sellers. Throughout most of the nineteenth century the wholesale jobber filled this function. For producers, the jobber provided credit and working capital, while relieving manufacturers of the burden of establishing a far-flung distribution system in areas where they were unfamiliar with local conditions. For retailers, the jobber also provided credit as well as contacts for the often-isolated shopkeeper.⁶

The jobber was especially valuable to America’s nascent industrialists. As these manufacturers groped toward high-volume production, their primary concern was, by necessity, production rather than distribution. The development of high-volume production techniques was usually a difficult and risky process, and most early manufacturers lacked the time, funds, and desire to simultaneously undertake anything as involved, troublesome, and expensive as the development of their own channels of distribution.⁷

Nonetheless, under certain conditions manufacturers did begin to take over the functions of independent wholesalers as early as the 1840s. In cases where existing distributors proved to be unwilling or unable to effectively market their products, the manufacturers had to fill the gap. In lines where it eventually became more profitable for manufacturers to take over the marketing of their own goods, they generally did so. Changes in the nature of the market often dictated the move into distribution. Improvements in transportation and communication eventually broadened producers’ horizons by allowing them to become familiar with conditions outside their locality. A substantial concentration in markets also took place. This change appeared in two areas: first, in the development of large urban centers, which provided the makers of consumer goods with dense and easily accessible markets for their wares; and, second in the development of big business, which gave the makers of producers’ goods a small number of customers who took the bulk of their output. In both cases, it often became cheaper for producers to take over the distribution of the products they manufactured.⁸

When manufacturers were forced into distribution, it was generally the goods they made that pushed them into the market. The rapid changes in technology that occurred in the nineteenth century brought new products as well as new production methods. Some of these goods did not fit well into existing distribution channels. When products required special handling (for example, fresh fruit or beer) or needed expert service (such as sewing machines or reapers), manufacturers had to establish their own marketing channels if they wished to sell outside their immediate area. In creating a distribution network, producers faced two choices: they could either build a company-owned system or they could contract directly with independent firms to represent them. When manufacturers discovered it was cheaper to establish their own sales organization, they usually did so. In many cases, however, manufacturers found it more efficient to form direct links with independent retailers.⁹

The choice was not always easy. Direct ownership guaranteed manufacturers complete control over the distribution of their wares and assured the company fairly uniform levels of service and representation in their market areas. Company-owned outlets also made it easier to establish brand identities and to maintain close contact with consumers. On the other hand, with direct ownership came the formidable expense and administrative difficulties inherent in establishing and operating a national sales organization.

The agency system of contracting with independent retailers offered manufacturers a reasonable alternative to direct ownership of retail outlets. Because agents frequently bore selling expenses and assumed credit risks, manufacturers were able to build extensive sales networks quickly at little cost to themselves. The use of agents also eliminated many administrative problems for the parent company, as it could then operate as a wholesaler rather than as a retailer. The primary drawback of agency sales was that it allowed less effective control over sales. Since agents were independent business people, the parent company could not control all aspects of their business. Also, because agents frequently handled the products of more than one manufacturer, they were less apt to push sales as aggressively as regular employees.¹⁰

The nature of their product mainly determined whether or not producers established a distribution system under their direct control, but the nature of the market and the life cycle of the firm were most important in deciding the type of system a manufacturer was likely to choose. If the firm was new and the market scattered, the owner was more likely to select an agency-based system. When the market was highly concentrated, a manufacturer that had originally used an agent to establish its product frequently found company-owned outlets more effective once its product became well known and its resources were greater.¹¹

The experiences of the I. M. Singer Company illustrate the latter type of firm very well. In the early years of the company’s existence, Singer’s executives chose to market their machines through agents because they could not afford to establish company-owned stores and desperately needed the cash sales generated to and through agents. Later, when the public had come to accept the sewing machine as a consumer good and the company had become more financially secure, Singer began to take over the marketing of machines in cities and towns and used its increased power to bring its remaining agencies so closely under its control that they became nearly indistinguishable from company-owned stores.

The movement of manufacturers into marketing was part of a trend toward specialization caused by the increased volume of trade during the nineteenth century. One aspect of this specialization was the arrival of the exclusive agent. Exclusive agents—those who hold the sole right to sell a manufacturer’s products in a given area—first appeared in the United States in the 1830s. In cases where agents were required to make substantial investments in equipment, the nature of the relationship between manufacturer and agent was fundamentally altered. Once agents became dependent on a single manufacturer for the bulk of goods they sold and the expertise they possessed, they lost a great deal of their freedom of action and the relationship shifted from one of principal and agent to that of franchiser and franchisee.

The development of marketing strategies and structures at McCormick and Singer illustrates the divergent paths taken in the evolution of the agency system during the last half of the nineteenth century. Both McCormick and Singer originally marketed most of their output through agents. With various modifications, the agency system established by McCormick continues to be the dominant method of retail distribution in America’s farm implements industry to the present day. Singer, on the other hand, quickly moved to establish company-owned branch houses and to reduce its dependence on independent retailers. The remainder of this chapter examines the development of franchising at McCormick and Singer and analyzes the reasons for the divergence of their respective marketing strategies.

Marketing at McCormick

The story of the invention of the McCormick reaper and the development of the McCormick Harvesting Machine Company is fairly well known. In the summer of 1831, at the age of twenty-two, Cyrus Hall McCormick successfully demonstrated the first practical mechanical reaper on a neighbor’s farm outside Walnut Grove, Virginia. The machine worked reasonably well but other projects, most notably a partnership in an unsuccessful ironworks, captured McCormick’s attention. It was not until 1839 that he made a determined effort to capitalize on his invention.¹²

In the seventy-one years between McCormick’s demonstration of the reaper and the formation of the International Harvester Corporation, with McCormick Harvesting Machine Company as its nucleus, the general organization of the McCormick sales force passed through three phases. The first, expansion by licensing agreements, lasted from 1843 to 1849; the second, sales through independent agents in direct contact with the home office, dominated the years from 1849 to 1871; and, finally, the use of a decentralized structure, with the overall sales strategy determined by the home office but administered through a number of branch offices and implemented by retail agents, from 1871 to 1902.¹³

In the first phase of his operations Cyrus McCormick did what manufacturers who wished to go beyond their local markets had done since colonial times: he contracted with others to make and sell his reaper. This allowed him to build a national market out of a large number of more or less individual local markets. McCormick sold his first license to James Hite in 1843 for $1,333. In exchange, Hite received exclusive rights for the manufacture and sale of the McCormick reaper in eight counties in the Valley of Virginia and along the Potomac River for five years. This license, like others later issued by McCormick, was an assignment of patent rights in exchange for a fee. During the next five years McCormick used this as his primary method for expansion. Throughout these years McCormick traveled extensively, often spending six months out of the year on the road, signing up new licensees, overseeing their work, and securing orders for his machines. Although time consuming and cumbersome, this system worked well enough, and by 1844 McCormick had introduced his reaper in ten states.¹⁴

The terms and territories granted by the inventor varied considerably. McCormick signed up any manufacturer he found to be willing and believed to be competent on the best terms he could get. In 1845, for example, he sold the rights to manufacture and sell the reaper in four Iowa counties for eight years to John Cameron for $1,000. In the same year Henry Bear of St. Louis agreed to pay McCormick a $20 royalty for each machine he manufactured. One of McCormick’s more important early licensees was C. A. Brown of Cincinnati, Ohio. In May 1845 McCormick signed a four-year contract with Brown for the rights to sixteen Ohio counties for $1,900. In the first year of his contract, Brown agreed to build approximately 200 machines for the harvest of 1845, and, although Brown’s selling rights were limited to Ohio, McCormick a...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• Contents
• Illustrations
• Acknowledgments
• Introduction
• Chapter 1 Preludes to Franchising The McCormick Harvesting Machine Company and the I. M. Singer Company
• Chapter 2 From Agent to Dealer The Ford Motor Company, 1903-1956
• Chapter 3 Expanding the System The Sun Oil Company, 19 19-1959
• Chapter 4 The Franchise Industry and Domino’s Pizza
• Conclusion
• Notes
• Bibliography
• Index