Local distributors and commercial agents

Distribution structures

What distribution structures are available to a supplier?

The distribution structures available to a supplier doing business in Puerto Rico include direct distribution by the supplier or an affiliate, independent distribution, sales representatives, franchising, brokers, private labelling, trademark licensing and joint ventures. The choice of the structure will depend on the nature of the supplier’s business and the manner in which it wishes to develop, operate and control its business in the Puerto Rican market. In addition, the determination of which law will apply to the distribution structure may influence which structure is used. For example, distribution and franchise relationships may be covered by Law 75, while sales representatives and maybe even some brokers and agents could be covered by the Sales Representative Act (Law No. 21 of 5 December 1990), 10 PR Laws Ann sections 279 et seq (Law 21). Law 21 protects sales representatives in a manner similar to the protection extended to distributors under Law 75.

Both Law 75 and Law 21 are highly protectionist statutes that therefore require careful analysis, on a case-by-case basis, prior to setting up distributor or sales representative relationships.

There is no specific statute in Puerto Rico governing or regulating the creation of, operation or investment in franchises as such, and those aspects of doing business with franchises would generally be subject to US laws and covered by the Federal Trade Commission rule, because Puerto Rico is part of the United States. The relationship between a franchisor and its franchisees, of course, has many of the characteristics of a plain, non-franchise labelled distribution relationship and as such may be covered under Law 75. Moreover, Law 75 specifically lists distribution by franchise as covered by the statute.

Other distribution structures, such as those with brokers, independent label sellers, joint ventures with the distributor or sales representatives and contracts for logistics and warehousing services may or may not be covered by the two main statutes depending on the nature and specifics of the relationship, and have to be analysed case by case.

Legislation and regulators

What laws and government agencies regulate the relationship between a supplier and its distributor, agent or other representative? Are there industry self-regulatory constraints or other restrictions that may govern the distribution relationship?

Law 75 regulates the relationship between a supplier and its distributor that is actively promoting the supplier’s product in Puerto Rico. Law 21 regulates the relationship between the supplier’s agent acting as a sales representative and the supplier. Both of these laws regulate relationships within the chain of sale or distribution. Any matter not specifically covered by the specialised statutes will be supplemented by the Puerto Rico Commerce Code (10 LPRA sections 1001 et seq) and the Puerto Rico Civil Code (31 LPRA sections 1 et seq).

There is no government agency entrusted with particularly enforcing these two statutes. Judicial enforcement is the most common method of invoking the rights afforded by these two specialised laws. Arbitration is another common method for resolution of disputes arising under the two statutes or under more general principles of law covering the distribution or sales representation relationship.

Both distributors and sales representatives are bound by regulations under the Department of Consumer Affairs (DACO), which regulates truth in advertising, promotional campaigns and contests and related matters. While this agency and its regulations may not typically govern the formation, existence or termination of the relationship, they do frequently affect how distribution and sales representation is done and therefore ‘regulate the relationship’ to a certain extent.

There are no formal self-regulatory constraints that would officially affect the distribution or sales representation relationship.

Contract termination

Are there any restrictions on a supplier’s right to terminate a distribution relationship without cause if permitted by contract? Is any specific cause required to terminate a distribution relationship? Do the answers differ for a decision not to renew the distribution relationship when the contract term expires?

Even if allowed by contract, Law 75 and Law 21 prohibit either the termination of a distribution relationship during its contracted term or the refusal to renew it at expiry, unless there is just cause or the distributor or sales agent is compensated for the termination or refusal to renew, assuming it is entitled to compensation.

Under either Law 75 or Law 21, there is no specific list of acts or events that constitute statutory just cause allowing termination of a distribution or sales representative contract. Both laws, however, define the concept in general form, as follows: (i) the breach by the distributor or sales representative of its essential obligations under the distribution or sales representation agreement; or (ii) any act or omission of the distributor or sales representative that adversely and substantially affects the interests of the principal or grantor (supplier) in the development of the market or the sale of merchandise or services.

Case law has identified examples of situations that will more likely than not meet the general just cause criteria of the statute, such as the distributor’s failure to pay for the merchandise purchased from the supplier, the distributor’s own failure to renew and the supplier’s withdrawal from the market under certain circumstances. However, identifying in advance what may be considered just cause by a court, jury or arbitrator remains a challenge that will largely depend on the facts of each situation.

In addition, these statutes protect the distributor or sales agent by subjecting the enforcement of typical just cause contractual provisions to a higher standard. For example, under Law 75, the breach of clauses preventing or restricting changes in the capital structure, or in the managerial control of the business, will not automatically constitute just cause justifying termination, unless the supplier shows that such breach may affect, or has truly and effectively affected, the interests of the supplier in the development of the market, distribution of the merchandise or rendering of services in an adverse or substantial manner. Other restrictions exist.

Suppliers should also keep in mind that Law 75 and Law 21 both protect not only against termination without just cause but also against what the laws describe as impairment of the relationship. A classic example of impairment would be sales by a supplier to a distributor, contrary to an agreement of exclusivity with another, who would then argue its rights are being impaired by the sales to the third party.

Is any mandatory compensation or indemnity required to be paid in the event of a termination without cause or otherwise?

Law 75 provides general guidance for the compensation of damages in the event of termination without cause. Law 21 has a similar set of guidelines for compensation of sales representation that is terminated without just cause, but it also has an alternative compensation section that allows, at the request of the sales representative, an alternate compensation calculation: an amount that shall not be greater than 5 per cent of the total sales volume for the years of representation. The court has the discretion of modifying the compensation to ensure it does not constitute an unfair enrichment at the expense of the supplier. In establishing the amount of the alternate compensation, the court shall mainly take into account the compensation received by the sales representative from the supplier and the number of years and sales volume that the sales representative produced during said relationship.

The final determination of damages and entitlement to compensation, however, will ultimately have to be reached by a judge, jury or arbitrator after pondering whether actual damages have been suffered by the distributor or sales representative. The distributor or sales representative will have the burden of proving its damages.

Under Law 75, a court may allow attorneys’ fees and a reasonable reimbursement of expert fees to the prevailing party. Law 21, however, has no such provision.

Suppliers should also be aware that, in litigation under both statutes, a distributor or sales representative has a right to request, in addition to damages, a provisional remedy to preserve the status quo of the relationship pending resolution of the litigation. The request is similar to one for injunctive relief and the courts tend to apply similar tests, although the dealer is typically not required to meet the high burden of an ordinary injunction. The court or other decision maker, however, needs to take into consideration the interests of both parties in ruling on the injunction.

Transfer of rights or ownership

Will your jurisdiction enforce a distribution contract provision prohibiting the transfer of the distribution rights to the supplier’s products, all or part of the ownership of the distributor or agent, or the distributor or agent’s business to a third party?

See question 9. The violation or non-performance by a distributor of a provision in a contract preventing or restricting the transfer of the distribution rights, all or part of the ownership of the distributor or agent or the distributor’s or agent’s business to a third party will not be held valid as just cause for termination of a distribution agreement unless the supplier shows that such non-performance may affect or has truly and effectively affected the interest of the supplier in a substantial manner in the development of the market, distribution of the merchandise or rendering of the service. The supplier bears the burden of proof.