Sam's almost got it right but its a bit off..
What happens is that the 14 teams are split among the 5 franchises, its roughly based on the geographical area the team is in.
The Blues (Top of the North Island): Northland, North Harbour, Auckland
The Cheifs (Middle of the North Island): Counties Manukau, Bay of Plenty, Waikato
The Hurricanes (Bottom of the North Island): Taranaki, Hawkes Bay, Manawatu, Wellington
The Crusaders (Top of the South Island): Tasman, Canterbury
The Highlanders (Bottom of the South Island): Otago, Southland
When the Super 15 teams select their sides, they can pick 24 players from the teams in their region. After each team picks their 24 players, the rest go into a draft, where they can be picked up by any team. This is why Israel Dagg ended up playing for the Highlanders even though hes from Hawkes Bay, the Hurricanes couldn't find any room for him in their 24 so he went into the draft and the Highlanders snatched him.
When a player gets picked up in the draft the team that picks them only gets them for that season, after that their franchise area gets the first opportunity to pick them again next year.
Sometimes, a player can be signed to a different ITM team to make them eligible for a different Super 14 side (Like Zac Guildford being signed to Canterbury so he can play for the Crusaders) but then they get loaned back to their original ITM side on the players request. (So that guys like Zac Guildford can play for their hometown at ITM level and then for the Crusaders at super 14.)
The rules have changed just this year though, so that a player doesn't have to transfer to another ITM team to get signed by a Super 14 outfit. As of this year the Super 14 sides can sign players directly, this is how Israel Dagg got signed to the Crusaders. The rule was changed largely because the Highlanders are struggling due to Otagos continued poor form in the ITM, this meant that for the last few years the Highlanders have had one decent ITM side to pick their players from and had to make up the rest of the side with players the other Super 14 sides didn't want (Through the Draft), where as the Hurricanes had a million ITM sides to choose from. This change should mean that in the next few years the player power should balance out and the Highlanders will stop coming third to last all the time.