New Channels of Distribution – Is A Potential Lawsuit Waiting?

Do you have a dynamite new idea for distribution that will allow you to become the next “Super Franchisor”?  You may be the entrepreneur who started the company.  Or perhaps your company is larger and has a marketing department that comes up with new ways of getting your goods and services to market.  Whether small or large, a franchisor’s ability to open new channels of distribution will depend upon how well they negotiate the legal minefield that awaits.

Before implementing a new distribution channel, you must first consider whether your franchise agreement permits you to do so.  Begin by looking at the express terms of your agreement in order to determine what rights are granted to franchisees.  Provisions restricting your right to compete will usually be enforced against you.  If your agreement preserves your right to distribute goods and services, courts will respect your contract but will look closely at your agreement to ensure you have not overstepped your contractual rights.  Contracts which are silent leave the door open for courts and franchisees to contest implementation.

Some courts will look at your motive for opening a new distribution channel.  The more business a new distribution channel takes away from your franchisees, the greater the likelihood courts will side with your franchisees.  If you are concerned that there may be express or implied restrictions on your ability to implement a new distribution method, consider working with your franchisees.  Usually before a franchise system can be successful, the franchisor and franchisees must be on the same team, working together.

Outside the franchise agreement, (including the FDD, your website and advertising materials, etc.) the minefield continues for franchisors.  Check your FDD to see what is said about territorial rights.  Misleading disclosures or non-disclosure of material facts in your  FDD  could  expose  you  to  liability  via little “FTC Acts,” which allow private lawsuits and provide for attorney fees and treble damages (a statute that permits a court to triple the amount of the actual/compensatory damages to be awarded to a prevailing plaintiff).

And don’t forget the old Plaintiff Lawyer’s ally – “Fraud.”  Even when no statute is applicable, if you make a representation or indication that you will not compete, a smart franchisee lawyer may use this against you and assert a fraud claim.

“State Relationship Laws” can be another bomb in your liability minefield.  These laws are designed to prevent franchisors from engaging in certain competitive activities, to the detriment of their franchisees.  In addition, franchisees may assert claims such as Section 1 and 2 of the Sherman Act Anti-Trust actions allowing your new plan to be construed as a conspiracy to restrain trade by eliminating competition, i.e., eliminating your franchisees.  Alternatively, your plan might be considered an attempt to monopolize.  If favorable terms are offered to alternate distributors, your company may also be subject to a Robinson-Patman action.

The list of obstacles goes on, and the minefield can become more dangerous.  The journey is certainly not for the novice.  But the minefields can be avoided by paying close attention to the wording in your agreements and even considering at the beginning of your journey how to make both you and your franchisees winners.  By taking these steps, your company may truly become the next Super Franchisor!

To have these posts sent directly to your inbox, subscribe to our newsletter here.