Distribution and agency agreements are an inherent part of the activities of numerous business establishments, both in traditional industries and technological ones, including the software industry.
In this article we will distinguish between agency agreements and distribution agreement, the commercial and legal considerations that are involved when choosing the right transaction, and the possible consequences on the other party to the transaction.
In addition, we will descrive the unique legal condition existing in the EU, in light of the applicable Commercial Agents Directive, and how it may effect agency agreements and sometimes distribution agreement when transacting with a European business entity.
Distribution agreements and agency agreements are an inherent part of the activities of numerous business establishments, whether as supplier/manufacturer and whether, on the other end of the transaction – as distributor or agent. It should be noted that these agreements are not just concluded in traditional industries but they also play a central role in technological industries, including software. Although questions such as whether the manufacturer will enter an agreement with an agent or distributor and in which state are perceived as merely commercial questions, they also raise important legal aspects that might affect the feasibility of the transaction.
Before we develop this subject further, we should first make a distinction between distribution agreements and agency agreements. What is the difference? The main distinction between the two is that a distribution agreement consists of 2 transactions: sale from the manufacturer to the distributor and from the distributor to the end user. That is to say, the distributor functions as a party to the sale transaction, he usually (yet not always) sets the final price to the end user, and his profit is generated from the difference between the 2 said transactions (with deduction of his expenses). At the same time, an agency agreement involves one sale transaction – between the manufacturer and the end user, and the agent serves as a “mediator” between them. Hence, the agent serves as a proxy of the manufacturer, he does not set the price for the end user, and his fees are usually generated in the form of a commission from the transactions he executed for the manufacturer. We can therefore see that we are dealing with different types of transactions with different legal and commercial effects.
The EU Commercial Agents Directive
While in Israel the law does not specifically address distribution and agency agreements (except for general references in legislation dealing with commerce such as the Contracts Law, the Sale Law and so on), as most rights and liabilities in the framework of agency and distribution agreements derive from the agreements between the parties, the legal condition in EU countries is different. The Commercial Agents Directive (EEC/86/653) that was enacted by the EU, deals specifically with engagements between manufacturers and commercial agents, and prescribes cogent rights and duties in the relationship between the agent and the manufacturer (that is to say, that cannot be stipulated upon in an agreement). The Directive mandates its member states of the EU to implement its provisions in state laws, so that apart from the cogent provisions set forth in the Directive, each state may add provisions that will apply to it in that context. Therefore, when one of the parties to the transaction is a European entity, we should pay attention to 2 main questions: one, whether the provisions set forth in the Directive apply, and the second – in what state that European entity operates, since aside from the Directive it is possible that the specific laws enacted in that specific state will apply.
As abovementioned, the Directive applies to commercial agents only, and according to the definition provided a “Commercial Agent” is an independent mediator that was granted with the authority to conduct negotiations and engage in transactions on behalf of the manufacturer. In addition, the aforesaid definition excludes different types of agents to which the provisions set forth in the Directive shall not apply, such as an agent who does not receive fees for his work, or a liquidator or a trustee in bankruptcy cases and so on.
The Directive prescribes the liabilities of both parties to the transaction, for example, an agent should act in good faith and invest adequate effort in the framework of the negotiations he conducts on behalf of the manufacturer. In addition, the agent should promote the interests of the manufacturer. In this context, in certain states it was determined that following this instruction the agent is also obligated to review the solvency of a third party before entering an engagement with him. In parenthesis we shall note that as a consequence of this undertaking it seems inevitable that an agent might be held liable whenever a client becomes insolvent.
Similarly, the Directive prescribes duties that apply to a manufacturer, including the duty to act in good faith, provide the agent with all the information required for him for the purpose of conducting negotiations and transactions with clients on his behalf, and even the duty to notify the agent a reasonable period in advance in the event it estimates that the scope of transactions will considerably decrease.
Aside from the duties specified hereinabove, the duty that is perceived to be the most significant in the framework of the Directive is the compensation that the agent should be entitled to upon termination of the agreement, provided that the agent indeed recruited new clients to the manufacturer or significantly increased the scope of activities with existing clients. Where state law does not prescribe the rate of compensation, the Directive prescribes that an agent shall be entitled to receive compensation in a similar rate to the one customary with his line of business and the area where he operates (this is vague and is subject to broad interpretation). If such customary rate does not exist, the agent shall be entitled to receive reasonable compensation while taking into account the circumstances and terms and conditions of the transaction. Nevertheless, there are cases in which the agent will not be entitled to receive compensation upon termination of an agreement, for example, if the agreement terminated due to its breach by the agent, which may justify immediate termination of the agreement in that state.
Along with the duty to pay compensation to an agent, an interesting relief exists in connection with Antitrust: as said, despite the liabilities that are imposed on the manufacturer when establishing relationships with an agent, in the event in which the manufacturer entered an agreement with an agent who acted on his behalf, and does not bear almost any commercial or economic risk in the framework of the transactions he executes for the manufacturer – it is possible that the manufacturer will not be subject to European Antitrust regulations. To the contrary, in other transactions such as distribution or concession agreements in respect of which he might not be subject to provisions set forth in the Directive, however he may very well be subject to Antitrust regulations.
Before we conclude we shall note that even though the aforesaid Directive applies to agents in principle, a number of European states (such as Germany) resolved to apply the Directive to distributors in certain circumstances, and grant them similar protection and a similar rate of compensation.
Conclusion
In conclusion, in light of the foregoing, aside from commercial considerations in regard to the question whether to market a product through an agent or a distributor, and in which state, there are considerable legal considerations that may affect the feasibility of the transaction. Therefore, before entering an agreement, it is important to understand what the preferable structure of the transaction is, whether a commercial agency transaction or a distribution transaction, and then review the legal system involved, including the directives that apply to the transaction, all in order to define the risks on the way to execute the best transaction for both parties.