A franchise agreement will commonly grant a franchisee the right to an ‘exclusive’ territory.

There are many different types of territories that can be granted such as:

• one where the franchisor is not permitted to grant another franchisee the right to establish a business, or to service customers, within a defined geographical location. The franchisee will have the exclusive right to operate the business in that territory; or
• exclusive marketing areas where the franchisee is granted the right to market in a defined geographic area but has no exclusive right to provide services in that area.

The most common is the first one so this article will focus on that type of exclusive territory. For some retail businesses, this geographical location may be limited to the shopping centre where the business is situated.

Franchise territories and business competition

The benefits

The most prominent advantage is that a franchisee has the peace of mind that they will not need to compete with the franchisor or other franchisees within the system for customers within their territory.

In some systems, franchisees’ territories will be side by side, while in others there may be non-franchised zones between defined territories. The franchisor may allow a franchisee to provide goods or services to customers in a non-franchised zone after first seeking approval from the franchisor.

The disadvantages

The franchisor has no obligation to take action if another franchisee breaches an exclusive territory, unless there is a specific requirement in the Franchise Agreement. 

If a franchisee is approached by or receives an enquiry from a customer situated within another franchisee’s territory (including friends and family), then the franchisee will likely need consent from both the franchisor and the other franchisee to service that customer. However, it is often a standard requirement that the franchisee will need to pass the enquiry on to the other franchisee.

Franchise territories and customer demand

The benefits

The disadvantages

Just because an exclusive territory has been granted does not mean success of the business is guaranteed. The franchisee is restricted to providing their goods and services to only those customers within the territory. This limits the potential customer base to that territory. If the territory does not have sufficient customers, this will impact on the success of the business.

The franchisee may not be able to satisfy the customer demand in their territory as the territory may prove to be ‘too big’ for the franchisee. In these situations:

• the franchise agreement may provide that if the franchisee is not able to service customers within a reasonable time, then the franchisor can either service the customer themselves or forward the enquiry to another franchisee;
• the franchise agreement may give the franchisor the right to redefine the boundaries of the territory; or
• the franchisor might enter into a deal with the franchisee to ‘split’ and buy back part of the territory.

Franchise territories and marketing and advertising

The benefits

If the advertising and marketing overlaps with another franchisee’s territory, then the franchisee may need to share the marketing and advertising expenses with that franchisee, reducing their final bill.  

The disadvantages

There is no compulsion for another franchisee to contribute to shared marketing costs. That would mean that the other franchisee obtains the benefit but not the cost of the advertising or marketing. 

Franchisors will require that all marketing and advertising is first approved by the franchisor before being put in place.  Generally this is to ensure that the marketing does not conflict with system marketing and that a franchisee is complying with the proper standards.

Franchise territories and website enquiries

The benefits

The Franchise Agreement may allow the franchisor to offer online sales or ordering through a website or a smart phone app. When the franchisor takes an order or enquiry, they will pass it to the franchisee. The franchisee therefore won’t need to go to any efforts to ‘win’ the customer as the franchisor has already taken that step.

The disadvantages

Websites and smart phone apps blur the lines of traditional exclusive territories. The Franchise Agreement may permit the franchisor to allocate customer enquiries as the franchisor sees fit, either to the franchisee, another franchisee or even the franchisor themselves, regardless of whether the customer is within a franchisee’s exclusive territory.

It is in the best interest for franchisees to ensure that if an online ordering system is in place, then the Franchise Agreement allows the franchisee the first right of refusal for orders or enquiries which originate in their territory. This means the enquiry must first be passed onto the franchisee, and if they cannot respond to the enquiry within a reasonable time, only then can the franchisor service the customer themselves or pass the enquiry on to another franchisee.      

Conclusion: do your due diligence

Whether or not a fixed exclusive territory is appropriate will depend on the specific type of franchised business. Franchisees should always do their due diligence investigations before signing their Franchise Agreement to ensure that the territory is suitable for the business.  

Janice Bywaters is special counsel and Luke McKavanagh a lawyer at Rouse Lawyers