Border disputes
Franchisees may consider that the larger the territory, the more potential customers and the more money there is to be made; however, this can be an overly simplistic view.
It is in a franchisee’s interest to be part of a larger, better known network and it is therefore important that other franchisees are given an opportunity to buy into the business and develop neighbouring areas. That being said, a territory must provide sufficient potential customers for the franchise to exploit profitably.
This is not a simple balancing act – individuals considering taking on a franchise should ask franchisors how they have approached this issue when drawing up their territories.
Boundaries
It is important that the territory boundaries are clearly defined at the outset to avoid any questions over which territory a customer falls into. Ambiguous territories, such as those defined by a ‘30 minute drive time from X’, should be avoided.
Exclusivity
The following issues should be clear at the outset:
- Does the agreement only prohibit the franchisor from opening new franchises?
Just because a franchisor agrees not to sell further licences for the proposed territory, this does not necessarily mean that there is not already someone else operating there.
- Can the franchisor itself operate in the territory?
Franchisors may agree not to licence others to operate in a territory whilst reserving the right to do so themselves.
- Are there circumstances in which exclusivity can be removed?
Franchise agreements will often contain provisions permitting the franchisor to withdraw the exclusive nature of a territory if the franchisee breaches the agreement or fails to meet performance targets.
- Are there exceptions to exclusivity?
Franchisors will often reserve the right to service ‘central contracts’ (contracts for clients with multiple sites located across more than one territory) themselves or insist that franchisees provide services to these clients on standard terms.
Generally, franchise agreements will only prohibit franchisees from actively seeking new business outside of their territory. This will not prevent franchisees from accepting unsolicited business from customers based in another franchisee’s territory.
A former franchisee who has recently left the network and is looking to set up a competing business is perhaps the greatest threat to a new franchisee – the ex-franchisee will have the benefit of several years’ experience, as well as access to customer lists and pricing information.
This may be of particular significance where the new franchisee has paid a substantial premium to secure the territory on the basis that it has already been developed by the outgoing franchisee.
Franchise agreements should contain carefully drafted non-compete clauses prohibiting this type of activity; however, franchisees will not generally have any direct right to enforce the provisions of a franchise agreement against another franchisee and it is therefore important that the franchisor is willing to do so.
Where a new franchisee has purchased the business of an outgoing one, the sale contract should contain its own non-compete provisions, which can be directly enforced by the new franchisee.
Summary
Potential franchisees should take care to investigate the precise boundaries and demographics of any proposed territory before purchasing a business.
Where franchisees are concerned that their business is being harmed by unwarranted incursions into that territory, they should seek advice from a qualified advisor.
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