Abstract
This paper studies the impact on project duration of different forms of over-confidence among general contractors executing such projects, in the context of retail apparel franchises. It goes on to consider the design of relevant incentives and, in particular, a compensation mechanism included in the initial contract that covers the event of contractor dismissal. This mechanism is examined as a means of hedging risk arising from the behavior of the principal. This includes a study of a two-way risk avoidance strategy, which is intended to make up for a shortfall in this regard in the existing literature. Outcomes derived from this research include the conclusion that different levels of confidence can have various impacts on optimal incentive coefficients and the effort level extracted from agents, thereby affecting the ultimate configuration of an optimal contract. Introducing a compensation mechanism covering the event of dismissal can serve to diminish the risk of an agent breaching their contract. This paper applies the concept of bounded rationality to a principal-agent model, ensuring conclusions that are attuned to reality.
Highlights
Franchises are considered the dominant business model of the 21st century
This paper attempts to analyze this in the context of a fashion franchise businesss construction projects, where franchise duration is fixed; it combines the franchisor or licensee default scenario with contractor overconfidence, and proceeds to discuss optimal incentive configuration when dealing with an overconfident contractor from the principal’s perspective
In other words, when the principal and the agent agree on the initial contract, it should make provisions for circumstances in which the principal dismisses the general contractor with no reasonable excuse
Summary
School of Business Administration, Nanjing University of Finance & Economics, Nanjing 210046, China School of Economics and Management, Nanjing Tech University, Nanjing 210009, China Received: 30 October 2014 / Accepted: 12 February 2015 / Published: 16 February 2015
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