Local distributors and commercial agents

Distribution structures

What distribution structures are available to a supplier?

Any number of structures can be chosen depending on commercial, market and tax considerations. Normally, some form of market representative, whether employed or otherwise contracted, would be sensible. An agent with varying levels of authority or indeed a stockholding distributor with obligations to expand sales might be attractive. Depending on the strength of the marketing format, franchising could be an attractive option to expand. Supply chain efficiency and relationships down the chain will dictate what is the most appropriate model to pursue. Typically, from a legal and commercial perspective, the following are common relationship characteristics:

  • exclusive: appointment of one distributor for the territory or a particular customer group and the supplier is prevented from appointing another distributor or selling into the territory or customer group directly;
  • sole: appointment of one distributor for the territory or customer group and the supplier is prevented from appointing another distributor for the territory or customer group but the supplier retains the right to sell into the territory;
  • non-exclusive: no restrictions on the supplier allocating distribution rights to more than one party for a particular territory or customer group or supplying directly; and
  • selective: only approved dealers are entitled to handle and resell the goods, and restraints can, in certain circumstances, be imposed on other resellers. Any distributor fulfilling a set of objective, transparent and non-discriminatory criteria, normally based on quality, is admitted to the distribution network. Selective distribution is typically used for high-end or prestige goods.

In contrast, a commercial agent or sales representative is an agent of the seller. The agent acts on behalf of the principal under power of attorney and does not have a direct contract for supply with the customer and will normally not bear any financial risk. An agent enters into the supply agreements in the name and for the benefit of the foreign supplier and receives a commission (typically a percentage of the price) as payment. Using an agent has the advantage that the supplier can set the price at which the products are sold to the customer. This is not permitted with a distributor. The main disadvantage of using an agent is that they are entitled to statutory compensation upon termination. An agent’s activities can be limited to introducing customers and contracts to the principal (marketing agent) or they can be sales agents, where the agent has authority to conclude contracts with customers on behalf of their principal. As with distribution agreements, agency agreements can be exclusive, sole or non-exclusive.

The supplier may opt for a franchising format for distribution of goods and services under the franchisor’s business model and brand with associated know-how or methods. There is no UK regulation of franchising and so general law and legal principles apply. The British Franchise Association requires its members to abide by the European Code for Franchising but compliance cannot be guaranteed.

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?

There are no specific UK laws relating to distribution that govern the relationship between a supplier and its distributor. Common law principles of contract will apply to any agreement between the parties, as will certain general statutory provisions in regulated sectors such as financial services.

There are specific rules governing agency relationships where an agent is a ‘commercial agent’ as defined in the Commercial Agents (Council Directive) Regulations 1993 as amended (Agency Regulations). Those Regulations are based on EU law but they are expected to remain post Brexit. The Regulations apply where an agent is a self-employed intermediary who has the authority to negotiate the sale or purchase of goods on behalf of or in the name of a principal, regardless of whether the agent and supplier have a written agreement. Computer software amounts to ‘goods’ for the purposes of the Regulations (Software Incubator Ltd v Computer Associates Ltd [2016] EWHC 1587 (QB); Official Transcript; QBD (Merc) (London); 1 July 2016). There are certain exclusions from the Agency Regulations such as where the agent is involved in the sale and purchase of services rather than goods, or where the agent operates on commodity exchanges or markets (W Nagel (A Firm) v Pluczenik Diamond Co NV [2017] EWHC 2104 (Comm), 11 August 2017). The scope and application of these agency rules differ a little between member states of the European Economic Area (EEA), as does the approach of their respective courts.

General statutory rules that may be relevant to both distribution and agency relationships include (but are not limited to):

  • Competition law - (i) Chapter I of the Competition Act 1998, which follows European competition rules on vertical distribution agreements, and (ii) Chapter II of the Competition Act 1998, which prohibits the abuse of a dominant position. These rules impose limits on the restrictions that a supplier can impose on a distributor or agent or vice versa.
  • The Bribery Act 2010 - under section 7 of that Act, a commercial organisation will be guilty of an offence if a person associated with it bribes or attempts to bribe another person for the commercial organisation’s commercial advantage. A person is ‘associated’ with a commercial organisation for these purposes if that person performs services on behalf of the commercial organisation, including agents and, potentially, distributors performing services on behalf of the supplier. The European Court of Justice (ECJ) has, in another context, ruled that a distributor provides services for its supplier (Corman-Collins SA v La Maison du Whisky SA (C-9/12)). See question 35. The same would apply to an agent.
  • The Modern Slavery Act 2015 - in force since October 2015, this legislation requires certain commercial organisations to publish a slavery and human trafficking statement every financial year outlining the steps taken to ensure that slavery and human trafficking are not taking place in the business or anywhere in its supply chains. Organisations are caught if they carry on business (or part of a business) in the UK and have turnover above £36 million. While the statutory obligation is easily satisfied - publish a statement as to what the entity has done - it is increasingly a requirement of retailers and others demanding a system of compliance and verification that no slavery or exploitation is in a supplier’s supply chain.
  • The Unfair Contract Terms Act 1977 (UCTA) - the UCTA applies in B2B contracts mainly to unfair terms that have the effect of restricting or excluding a party’s liability. Certain contracts, such as international supply contracts, are excluded from the application of the UCTA.
  • The Data Protection Act 2018, the General Data Protection Regulation (Regulation (EU) 2016/679) (GDPR) and Privacy and Electronic Communication Regulations - these have an impact on the relationship between the parties as to how they may share and deal with customer and end-user data. The effects of this are further discussed in question 29.
  • The Reporting on Payment Practices and Performance Regulations 2017 - these require large companies and large LLPs which exceed certain size criteria to report on a half-yearly basis on their payment practices, policies and performance for financial years beginning on or after 6 April 2017.

There is no government agency that specifically regulates the relationship between distributors or agents and suppliers. In practice, there are several agencies with which a supplier or distributor may have to deal.

The Competition and Markets Authority (CMA) is the primary competition authority in the UK and is responsible for ensuring that businesses comply with the competition laws. Sectoral regulators, such as the Financial Conduct Authority in the financial services sector, have certain competition powers exercised concurrently with the CMA.

Other bodies, such as Trading Standards, the Advertising Standards Authority, the Food Standards Agency and HM Revenue and Customs may also be relevant. There might also be other sector-specific agencies (eg, in the pharmaceutical sector, the Medical and Healthcare Products Regulatory Agency) that also have a bearing on distribution relationships.

In terms of supply to major supermarkets, the Groceries Code Adjudicator administers a code, the Groceries Supply Code of Practice (GSCOP), governing the relationship between the largest UK supermarkets and their direct suppliers to reduce or eliminate unfair or unreasonable treatment. This deals with behaviour that transfers undue risk to suppliers such as direct or indirect delays to payment, changes in supply terms, charging for prime positioning or increased shelf space unless connected with promotions and a number of other practices found to be unfair. Its remit is limited to direct suppliers to supermarkets and not to the indirect supplier.

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?

No, if the provisions on termination without cause are clear and unambiguous, the UK courts will uphold freedom of contract. It should be borne in mind that there are three legal jurisdictions in the UK. England and Wales is the largest jurisdiction and most contracts are under English law and subject to the English court system. The Scottish courts are largely independent and, while commercial law is often identical or similar, there are some differences. The courts in Northern Ireland apply very similar legal principles to those in England and Wales.

Where the agreement makes no specific provision for termination without cause or there is no written agreement in place, it can be terminated provided reasonable notice has been given to the other party. What constitutes reasonable notice is assessed at the time of breach, taking into account various factors. The key is the impact on the party to whom notice is given. The courts have considered this issue on numerous occasions and the following are the sorts of factors which they have taken into account:

  • the formality of relationship;
  • the availability of an alternative supplier;
  • the state of affairs at termination (eg, promotion spend);
  • the time required to wind down the business;
  • the percentage of turnover the contract represents;
  • market practice for termination in the relevant industry;
  • the notice period specified for termination for cause;
  • the likelihood of redundancies occurring;
  • the potentially damaging effect of rapid termination; and
  • the length of the parties’ relationship (although frequently this is not a relevant factor).

One of the most important factors which the courts will take into account is the percentage of the supplier’s turnover that the contract represents. If this is a high percentage, it follows that a longer notice period may be required.

It is important that a party serving notice gives some consideration to the sort of issues and factors listed above, as this will help to demonstrate that it has been reasonable in serving notice. In one case, the courts suggested that nine months would be a reasonable notice period in a case where the relationship lasted two-and-a-half years, the distributor had invested heavily and it would take time to find an alternative brand to represent. In contrast to certain other types of contracts, the court suggested that a longer period of notice may be due in the early years of a distribution relationship given the heavy investment in those years by the distributor and where the return is obtained only once the customer base is established (Jackson Distribution Limited v Tum Yeto Inc [2009] EWHC 982 (QB)). (See also Hamsard 3147 Limited (trading as ‘Mini Mode Childrenswear’) v JS Childrenswear Limited (In Liquidation) and Boots UK Limited [2013] EWHC 3251 (Pat).) The ‘correct’ period of notice, however, depends very much on the facts of each case.

Where a supplier decides not to renew a contract, it will expire at the end of the relevant term. If performance of both parties continues beyond the end of the contractual term, a contract by conduct will be formed, which is terminable on reasonable notice.

Grocery retailers governed by the GSCOP - currently the 10 largest grocery retailers in the UK based on turnover above £1 billion - are also specifically required to give reasonable notice if they intend to cease to purchase groceries for resale from a supplier or significantly to reduce the volume of purchases made from that supplier. The definition of supplier for the purposes of GSCOP includes any person carrying on (or actively seeking to carry on) a business in the direct supply to any retailer of groceries for resale in the United Kingdom.

In an agency relationship where the Agency Regulations apply, minimum notice periods must be given by a principal to terminate an agent’s contract. This is linked to the length of the relationship until termination. The minimum notice period is one month in the first year of the relationship, two months in the second year and three months in the third year and any subsequent years. It is open to the parties to agree longer periods.

A principal is entitled to decide not to extend or renew an agency that has been concluded for a fixed period or that is due to terminate at the end of its term.

Recent case law has suggested that there may be an implied term in certain categories of contract that parties to a contract must act in good faith when terminating a contract (see question 33).

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

Distribution

If termination complies with the express terms of the agreement (eg, the agreement provides for termination without cause on notice), no mandatory compensation or indemnity will be payable unless provided for in the agreement. The other party will have no other remedy for termination of the agreement in these circumstances.

If the agreement is silent on the circumstances in which the agreement can be terminated, common law implies that the agreement can be terminated only upon reasonable notice (see question 9) or in cases of repudiatory breach.

If the agreement is terminated in breach of the express or implied terms of the agreement or, in the absence of written notice provisions, reasonable notice of termination is not given, no mandatory compensation or indemnity is payable but the distributor may be entitled to damages for breach of contract. Where Scots law applies, the courts may prefer to enforce performance if not validly terminated.

Agency

In an agency relationship to which the Agency Regulations apply, the Agency Regulations provide that an agent is entitled to compensation or an indemnity for termination in certain circumstances. This is in addition to damages for breach of contract. Where a UK law applies, the parties can make an express choice in their agreement for either indemnity or compensation to apply. If an indemnity is not expressly provided for, the default concept applicable will be compensation - UK law defaults to compensation in the absence of a choice of indemnity or indeed in the absence of any choice at all. In Shearman v Hunter Boot [2014] EWHC 47 (QB), it was held that a clause that provided the agent was entitled to either compensation or indemnity, whichever concept produced the lower sum, was invalid. The agent was held to be entitled to compensation. In a subsequent case, a similar provision in an agreement that provided for indemnity, but compensation if cheaper, was allowed to be excised as unenforceable, leaving indemnity as the available award (Brand Studio Ltd v St John Knits, Inc [2015] EWHC 3134 (QB)). In Hunter Boot, the principal failed to argue that the clause should be severed, so as to leave the indemnity provision intact.

It is not possible for the parties to exclude the right to indemnity or compensation in the contract. Indemnity is capped (at one year’s commission) and is due only to the extent that the agent has brought in new customers or significantly increased the principal’s business with existing customers and substantial benefits continue to be derived by the principal from those customers. Compensation is calculated to be equivalent to the value of the agency business, including goodwill, at termination (Lonsdale (t/a Lonsdale Agencies) v Howard & Hallam Limited [2007] UKHL 32). This is based on the legal assumption there is a ‘hypothetical purchaser’ of the agency.

The Court of Appeal decision in Warren (T/A On-Line Cartons and Print) v Drukkerij Flach BV [2014] EWCA Civ 993, provided further guidance on what the valuer should assume when valuing the agency business. The principal terminated the agency agreement and a dispute arose about how much compensation was due to the agent under Regulation 17. At first instance, the judge assumed, first, that there was a hypothetical purchaser who was able to purchase the agency business. This assumption was correct and followed the rule in Lonsdale. However, the judge also assumed that the hypothetical purchaser would have been prepared to pay an actual price for the business and noted that his function was to determine that price. That part of the judgment was overruled by the Court of Appeal; it was quite possible that a hypothetical purchaser would not have been prepared to pay any price for the agency business, for example, where an agency business was terminally in decline. Where a supplier terminates a successful and profitable agency business compensation figures can be substantial. Legal advice should be taken before taking this step.

The right to compensation or indemnity will be lost when the principal terminates with cause in circumstances where immediate termination would be justified or where the agent terminates the agreement (unless the agent does so in circumstances attributable to the principal (unreasonable conduct) or where it is unreasonable to require the agent to continue the agency owing to infirmity, age or illness).

Grounds that would justify immediate termination by the principal are likely to be similar to fundamental or material breach of contract but the English court has held that gross personal abuse of the worst kind in two telephone calls was enough (Stephen Gledhill v Bentley Designs (UK) Ltd [2010] EWHC 1965 (QB)). In another case, publication of disparaging remarks by an agent and its employees of its principal (meaning its poor services) was not grounds to justify immediate termination and denied compensation. The breach was not a breach of condition (ie, in English law a term of the contract serious enough to justify repudiation of the contract) (Crocs Europe BV v Craig Lee Anderson t/a Spectram Agencies [2012] EWCA Civ 1400).

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?

Parties are generally free to contract on the terms as they wish. The UK courts are likely to enforce a clause prohibiting the transfer of the distribution rights to the supplier’s products to a third party. What is more commonplace, however, is that such a transfer would be subject to the supplier’s consent.

A provision prohibiting a change in ownership of the distributor or the transfer of its business to a third party is less common. A more common approach is for the supplier to have a termination right in the event of a change of control or transfer of business of the distributor that it does not consent to.