Before someone buys or sells a franchise, a common practice is to define the franchise territory. According to the one study, above 90% of the successful business franchises use the concept of establishing territory.
There is no single method for dividing territories, which may be defined by criteria such as:
- Zip Codes
- Lines on a map (city boundaries, counties, roads, waterways, etc. or a combination of these)
- Radius around franchise unit
There are legal as well as business implications of defining the franchise territory. The franchisor and the franchisee both have to consider specific essential factors while undergoing the process.
The ‘territory’ definition is a mandatory requirement for the Franchise Disclosure Document (FDD). According to it, the territory should be defined and explained in the franchisor and franchisee agreement because it is one of the most common disputes which lead to lawsuits between the franchisor and franchisee.
Some franchises utilize the concept of exclusive territories while others employ a non-exclusive approach. In case of the proprietary method, the franchisee does not have to face the competition by other franchisees for the same branded business. The protected territories are defined in the franchise agreement depending on geographical parameters like zip codes, distance, etc. Many franchises stick with a non-exclusive approach, which means there are no guarantees that the franchisor will not sell other franchises in the defined territory. Franchisees may have the option to buy additional franchises within their non-exclusive areas. Even, if the exclusive method is adopted for franchise territory, it is mandatory for the franchisee to adhere to all conditions of the franchise agreement.
The next thing to consider is how the territory should be defined, whether by population or by radius (using zip codes or the area mapped out around the franchise). This definition is crucial for the franchisor. Irrespective of the specific territory allocation method, the primary factor often observed is the population served within the territory of the franchise. Similarly, the zip code clusters can also be the source of defining boundary because they are based on the total present population served. With the passage of time, the rise in population in an area can be adequately met by increasing the number of franchises in the area. This growth is required to be handled and addressed in the franchise agreement.