Franchise Territory – On line and social media issues
“This land is your land…. This land is my land. From California to the New York Island…”
A classic old song by Woody Guthrie! Who you say? Well, if you were born after 1986, you wouldn’t
know of course! but please, google Bruce Springsteen’s version, it is a classic.
Territory issues are a fertile issue of dispute often between franchisees in the same system.
The trend over the years in retail and hospitality has been not to grant an area or territory but to offera right to a site and rights to conduct local area marketing (“LAM”).
You can see examples of this with the fast food chains such as McDonald’s and 7 Eleven stores wherethere may be a number of stores all in close proximity to each other.
Traditionally a part of the “value” a franchisee perceived in taking on a franchise was that they wouldbe given exclusive rights to operate their business in an area and shut out competition from the franchisor or other franchisees in the system.
This has all changed with on line sales and social media where territories and areas don’t really workas franchisors might control on line sales and sell directly to consumers which takes away sales from the franchisee.
We have seen franchisors grappling with this issue and also advising disgruntled franchisees over these issues .
A territory is a geographic area designated by postcodes, a map or population in which the franchisee may have an exclusive, or non-exclusive right to operate.
The grant of a territory can be exclusive, non-exclusive or subject to conditions such as the franchisee meeting minimum performance criteria.
The rights may appear exclusive, but if they are subject to certain conditions the right to exclusivity in the territory may be reduced or taken away by the franchisor.
If non exclusive, a franchisor can itself operate in the territory or grant another franchisee the right to operate in the territory without being in breach of the franchise agreement or the Franchise Code.
Your franchise agreement will identify the territory or the site from which the business operates and if it is exclusive or non exclusive.
A local area marketing area, known as a “LAM”, is an area in which the Franchisee has a right to exclusively market and promote their business but without the benefit of excluding other franchisees from competing in that area.
The agreement may grant a territory or area defined geographically, by postcodes or otherwise withinwhich the franchisee has rights to offer its goods and services and “farm” its business.
Where the territory is non-exclusive, franchisees need to be aware the franchisor may grant otherfranchisees the right to operate in that territory or the franchisor itself may establish a company owned franchise outlet in that territory.
Franchisors need to consider as part of their model whether they should offer a site-specific franchise or one that has a territory and whether it should be exclusive or non-exclusive taking into account how the model will look in years to come.
Offering too big a territory, for example an 8 km radius, may be unnecessary and restrict the franchisor in the future granting rights and restrict its growth.
Franchisors should undertake detailed demographic analysis when determining their business model using census data.
I recall at one time noting that in Southland Shopping Centre there were approximately 11 Optus resellers all competing with each other and wondering what the Optus Franchisee in the centre thought of this as clearly, they had no exclusivity.
Not having exclusivity is often the norm, for example in the CBD there may be multiple sites within blocks of each other as there is sufficient demand and the catchment of customers is very localised.
In other franchise systems, the franchisee may need a much larger area in which to offer goods and services.
The Franchise Code is relatively silent on the issue of territories apart from the requirement to disclose if the territory granted is exclusive or non-exclusive
Item 13 of the disclosure document also requires disclosure about sites history over the prior 10 years.
How do Territories sit with on line sales?
If a franchisor has an online presence the franchisor must disclose certain things as set out in item 12 of the disclosure document for example:
• how the franchisor will make the goods or services available online, including the use of third
party websites their domain or URL and any restrictions;
• how profits will be shared with franchisees;
• ways in which the franchisee can make goods or services available online.
• whether the franchise agreement restricts, or places conditions on the franchisee’s ability to
make those goods and services available online;
• the extent to which those goods or services may be supplied outside the franchisees territory.)
• If the franchisor (or associate) makes, or expects to make, goods or services available online;
• If other franchisees make, or expect to make, goods or services available online.
It may be a breach of its good faith obligations if the franchisor fails to disclose the online arrangements, any sharing of revenue or profit from those sales where those sales are clearly impacting and taking sales away from the retail outlets so franchisors should have in place policies that cover these issues to avoid conflict.
Franchisees encroaching on adjoining territories Postcodes and boundaries change over time so electronic mapping should be used to avoid these issues which can cause friction between franchisees.
Franchisees of course cannot protect themselves from competition from third parties, that is a part of our free enterprise system.
In relation to franchisees taking up adjoining territories it may be worth- asking for a first right of refusal from the Franchisor if they offer an adjoining territory, however often this right is simply not available in an established and mature system.
Franchisors are in the business of commercialising their system and footprint in the market however often a conflict arises where an adjoining franchisee markets outside its territory.
A recent mobile franchisor we acted for had issues with franchisees taking on jobs outside their territories which created dispute and involving the franchisor in mediating and resolving issues between the franchisees as to revenue made by the encroaching franchisee.
Although the franchise agreement was clear about the franchisees obligations further policies were implemented which set out guidelines as to how revenue would be dealt with if a franchisee secured work or as asked to do work outside their territory, but it did cause friction amongst the franchisees and between eh franchisee and the franchisor.
What if a franchisee sells outside their territory?
The first step is for the offended franchisee raising the issue with the offending franchisee and notify the franchisor.
The Franchisor should investigate the matter and then report back to the franchisees their finding and ensure it is documented.
The offended franchisee should keep records of the impact on its business.
Ideally, the franchisor should determine if the breach was deliberate or inadvertent?
Was it a one off or a concerted plan and what financial impact did it have?
A franchisor may be in breach of the Franchise agreement and in breach of its good faith obligations if they do not act.
Franchisors should have clear policies and guidelines covering rights in relation to territory, Local Area Marketing and online and e-commerce in its operations manuals and in training.
Exclusive territories – A positive or a negative?
An exclusive territory is one where the franchisee has an absolute right to conduct its business within the defined territory to the exclusion of the franchisor and any other franchisees
Most agreements will however impose conditions and that exclusivity can be taken away or their territory or area varied.
The negative of exclusive territories cuts both ways of course, as the franchisee can then not market or promote outside their own area!
A franchisor can insist that franchisees in their system recognise and adhere to the exclusivity obligations however a franchisor has greater difficulty preventing a franchisee from selling outside their territory, where they were passive and contacted by a customer.
A franchisee can be restricted from sourcing customers outside their territory but not if it is an unsolicited customer outside their territory.
An exclusive territory may therefore not be that exclusive.
Ironically there are many advantages for everyone as then the same rules apply to everyone, and it promotes healthy competition between franchisees- free market thinking!
It supports proactive franchisees and usually encourages greater cooperation between franchisees which is good for business for not only the franchisees but also the franchisor.
It removes the issues regarding online marketing and social media and removes the angst of franchisees alleging encroachment of their territory
So be careful what you wish for if you are a franchise but above all get specialist legal advice from a Franchise Specialist as we know the tricks and traps and this will help you make an informed decision.
Accredited Commercial Law Specialist
Mobile 0412 67 37 57