Under the terms of the current contractual agreement, Burger Queen (BQ) is entitled to 20 percent of the revenue earned by each of its franchises. BQ’s best-selling item is the Slopper (it slops out of the bun). BQ supplies the ingredients for the Slopper (bun, mystery meat, etc.) at cost to the franchise. The franchisee’s average cost per Slopper (including ingredients, labor cost, and so on) is $.80. At a particular franchise restaurant, weekly demand for Sloppers is given by P = 3.00 - Q/800.
a. If BQ sets the price and weekly sales quantity of Sloppers, what quantity and price would it set? How much does BQ receive? What is the franchisee’s net profit?
b. Suppose the franchise owner sets the price and sales quantity. What price and quantity will the owner set? (Remember that the owner keeps only $.80 of each extra dollar of revenue earned.) How does the total profit earned by the two parties compare to their total profit in part (a)?
c. Now, suppose BQ and an individual franchise owner enter into an agreement in which BQ is entitled to a share of the franchisee’s profit. Will profit sharing remove the conflict between BQ and the franchise operator? Under profit sharing, what will be the price and quantity of Sloppers? (Does the exact split of the profit affect your answer? Explain briefly.) What is the resulting total profit?
d. Profit sharing is not widely practiced in the franchise business. What are its disadvantages relative to revenue sharing?