United States: Managing Internet Issues Within the Franchise System: A Legal Perspective

Internet and e-commerce law is still emerging. Franchise systems face a myriad of issues in determining how to effectively use the Internet and limit associated risks.

For franchise systems, the Internet is above all an information channel, a good vehicle for advertising and promotion. It can also be an effective means of commerce depending on the nature of what is sold. Even if the Internet does not change business fundamentals, franchise systems need to decide how to manage and use the Internet and e-commerce within their systems. Without a coherent and uniform Web presence and strategy, the brand, image and reputation of a franchise system may be compromised.

Most franchise agreements allow the franchise system to control how and where its marks are used. This is crucial to protect the integrity of the brand and preserve the value of franchisees’ investments. Without any clear guidelines or restrictions, a franchisee might use the franchise name or marks as part of a domain name, in a metatag to draw users to the franchisee’s Web site if it has one, to identify the franchisee as a seller on an auction site or to identify the franchisee as a sender of electronic mail messages. Some or all of these uses may not be in the best interests of the network or system. Franchisors should make sure that published policies and standards adequately address use of the marks on the Internet. A franchisor can also monitor use of its marks on the Web by franchisees or others by periodically using Internet search engines to identify sites that use or refer to the marks in a domain name, in metatags or in content appearing on the site.

A proliferation of Web sites identified by a company’s name or variations of it confuses consumers and may dilute the brand, especially if the sites are inconsistent in appearance, content and function. Excluding franchisees from any participation in a Web site even if legally permitted may be ill advised from a franchise relations perspective. The most effective way for franchise systems to manage the Web site issue is for the franchisor to maintain one site for the system. Through this site, it can control and enhance franchisee presence on the Web by providing links to franchisee Web pages that are designed and managed by the franchisor but that can be customized for the franchisee’s business and local market. If a central site is used, it is important to set forth in a written agreement the conditions on the franchisee’s inclusion on the site, rights of the franchise system to terminate the link, and limitations on warranties concerning the Web site’s availability and functioning, among other issues.

For some franchise systems the ideal of a single site for the system may not be attainable. For example, prohibiting franchisee Web sites or barring franchisees from engaging in e-commerce would violate European Union competition laws. A franchise system may have already given permission to some of its franchisees to develop and maintain their own Web sites and may not be able to revoke that decision without a legal challenge. Some franchise systems may lack the resources or the desire to manage a system site.

If independent franchisee Web sites are unavoidable, the franchise system should try to ensure some level of consistency and prevent the introduction of undesirable content or associations on those sites in order to protect the marks and the system. Typically, franchise agreements provide broad rights to approve advertising and permit franchisors to establish standards for advertising. These standards should cover Web site appearance, content and functionality. (A sample form is available by contacting the author.)

A franchisor can further encourage uniformity by offering franchisees a Web site template to use in developing their sites.

How e-commerce or leads generated through the franchisor’s Web site are handled is a function of the kind of products or services being offered but also depends on the rights granted to the franchisee and retained by the franchisor under the agreement.

Franchisors may believe they have the right to freely engage in electronic commerce because their agreements don’t grant any territorial exclusivity or reserve to them broad rights to engage in direct sales. Even when the franchise agreement expressly disclaims the grant of any territory rights to the franchisee, some courts have been willing to limit the franchisor’s competitive activity under the covenant of good faith and fair dealing. Instead of finding that e-commerce was just another form of direct sales, two of the arbitrators in the Drug Emporium decision treated a franchisor’s Web site featuring many commonly used e-tailing devices like it was a store located in the franchisees’ territories, which violated the franchisees’ contractual rights. These decisions mean that franchisors should proceed cautiously in the e-commerce arena and consider adopting e-commerce models that either actively involve franchisees or provide them with some benefit from the franchisor’s e-commerce sales.

If the franchisee has contractual rights that bar the franchisor from selling into a defined area, the franchisor will have to either allow the franchisee to handle the business in the territory or get the franchisee to permit the franchisor to do so. Regardless of exclusivity issues, the franchisor may need franchisee assistance in serving the account, for example, to demonstrate or deliver goods, provide services, perform after sale warranty and maintenance or related activities. If the franchisee participates in the sale and service, the franchisor should consider a host of issues that may not be covered by the franchise agreement and which may require an additional agreement with the franchisee. For example, who sets the price and terms of agreement with the customer? What are the respective obligations of franchisor and franchisee to fulfill the customer order and provide customer service? How will customers and the proceeds from the business be allocated? Who owns the account and the customer list? Who will handle billing and collection? Who bears the risk of customer lawsuits or nonpayment?

If the franchisor cannot or does not wish to control electronic commerce or leads, it can use a listing or linking approach. This method allows the customer visiting the site to select where to do business among listed or linked locations. Depending on the method used, the franchisor may need protection from claims that it unfairly allocated or directed customers among the outlets in the system, especially if there are company-owned units involved. The franchisor should reserve the right to cease listing or linking to a franchisee who fails to follow system standards, who fails or refuses to make good on commitments to customers or where customer complaints about the franchisee are frequent or severe. Additionally, it may be advisable to indicate on the site which locations are independently owned franchises and include disclaimers in order to limit exposure to vicarious liability claims from customers.

The issues addressed in this article are just a few of those franchisors face in determining how to effectively use the Internet and limit the risks associated with Web sites and Internet activity. The law concerning the Internet and e-commerce is still emerging. Business and technological innovations are likely to alter how companies use the Internet. Franchise companies should continue to monitor the legal developments in this area in light of their changing Internet objectives and make adjustments to their agreements and system policies and standards accordingly.