Weighing Protected Territory Options
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Q: I'm looking at three different franchises, and they are quite different in relation to the protected territory. One is willing to give me any territory size I want, one has a specified radius from my location, and the other has no protected territory at all. I'm confused, because these are all similar businesses. Wouldn't the one with the biggest protected territory be the best value?
A: This is an excellent question-it brings up a topic that has probably been the number-one source of conflict in franchising over the past 10 years. The issue really comes down to how much protection a franchisee needs to ensure that their business is not being encroached on unfairly by another unit using the same brand and operating system.
What makes this issue so difficult is that there are two schools of thought coming into play. One argument is based on the idea of trying to maximize the performance of the individual unit. The counter argument is based on the concept of maximizing total market share for the brand in order to maximize the performance of all the units in the franchise system.
Most new or prospective franchisees intuitively believe that the first argument makes the most sense and that they should try to get the biggest protected territory possible. What's interesting is that virtually all of the most successful franchise systems follow the second line of logic in building their chain. Their reasoning follows the following points:
- Since convenience is a large determinant of shopping choices for consumers, the greater the number of points of distribution (units) a franchise chain has, the greater the convenience to the consumer, and therefore the more total sales volume that will be done by all units in the aggregate.
- Since the available marketing dollars for promoting the system to consumers are based on a percentage of total system sales, the greater the aggregate volume, the greater the marketing dollars available to promote the brand.
- Since advertising expenditures (for most franchises) are the largest determinant of sales growth, the larger the advertising expenditure, the higher the growth rate of aggregate sales volume.
- Maximizing total aggregate sales volume creates a rising tide that lifts all boats-in this case, individual franchise units are the boats.
It's sometimes hard to buy this argument in theory, but the facts are most convincing. In almost all the successful franchise chains in the United States, there is a direct correlation between the markets with the highest density of units and the markets with the highest average unit volumes. In other words, the greater the number of units in a market, the more successful each individual unit is.
There is no question that when a new unit opens close to an existing unit, there will almost certainly be some cannibalization of customers from the existing unit to the new one. Customers go to where the shopping is most convenient. The dynamic that causes average unit volumes to increase is that the inflation of the marketing budgets causes the overall demand for the brand to increase faster than the transfer of customers due to proximity issues.
Noted that this dynamic takes time to develop, and there are often short-term volume decreases associated with the addition of more units in a given market. This short-term effect is the source of the conflict mentioned above.
Given this, the answer to your question is easy. You should not assume that the size of the protected territory is a determinant of value in any franchise. Carefully analyze other factors, like the average unit volume and profitability in each of these three systems, as a more dependable indicator of the value of the franchise investment. Whichever one has the most successful and satisfied existing franchisees is probably the best bet for you.
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