Agency and Distribution Agreements are typically used as a low risk means of expanding a business into new markets. Effectively the business is using the agent and distributor to market their products.
It is important for a company contracting the Agent or Distributor (the Principal) to be aware of the difference in legal and practical terms when appointing an Agent or Distributor. There are many key differences between the two and this article will try to help you understand which is best for your business.
What is an Agent?
An Agent is an intermediary who under an agency agreement is involved in making a Contract between the Principal and a third party. There are two types of Agent. One is a marketing Agent and one is a sales Agent. A sales Agent has the authority to enter into legally binding agreements on the Principal’s behalf by which the Principal then becomes bound. A marketing agent only has the authority to market and promote the product. Both types of Agent are usually paid on a commission basis and the Agent generally has no contractual liability to the customer.
What is a Distributor?
A Distributor purchases the product from the manufacturer and then resells it to customers in a particular territory, taking control of pricing and receiving the benefit of the profit. The Distributor makes their profit from a mark-up on the price of the goods when he sells them on. A distribution agreement can contain the conditions under which the manufacturer wants the Distributor to sell the goods thus keeping some control from the manufacturer’s perspective.
Types of agreement that are commonly used
There are different types of distribution and agency agreements that exist. A Distributor/Agent may be described as having exclusive, non-exclusive or sole rights. Exclusive rights usually relate to a certain territory where the Principal will be prevented from buying/selling in that area or appointing other Agents/Distributors. Sole rights will prevent the Principal from appointing other Agents/Distributors but it does not prevent the Principal from seeking to buy or sell in that region. Non-exclusive rights leave the Principal free to appoint further Agents/Distributors and they themselves can also seek to buy or sell within that region.
Advantages and drawbacks of appointing an Agent
Advantages of Agency:
- The Principal can retain greater control of the terms of sale/purchase of products, particularly as to price. The imposition of resale price maintenance on a Distributor is unlawful under UK and EU competition law and the national competition law of most countries. But by selling through an Agent, the Principal can validly (and almost always will) retain the freedom to fix its own prices.
- The Principal can restrict the Agent’s freedom to choose the customers with whom the Agent will deal. There are limits in most jurisdictions on the extent to which a Principal can restrict its distributor. Fewer competition law issues will arise with agency than with distributorship.
- Where direct contact between Principal and customer is important (for example, because of bespoke design work or highly specialised after-sales service which can only effectively be provided by the manufacturer or Principal).
- Where close control over the methods of marketing is important (for example, because brand image is a crucial factor).
- Where the Principal wishes to retain the financial risk of stock (consignment stock with an Agent normally remains the property of his Principal).
- Typically the commission paid to an Agent is lower than the margin which a Distributor will earn (since the distributor is taking a greater financial risk). Agency will therefore, at least in everyday terms, probably cost the Principal less than a distributorship.
The drawbacks include:
- In certain circumstances rights to lump sum payments for Agents on termination of agency agreements, regardless of breach of contract by the Agent, arise in many countries, including the UK (under the Regulations). This is not the case in the UK for distributorships. However, in other countries, particularly those in the Gulf Co-operation Council, statutory rights to compensation often protect distributors as well as agents.
- Tax implications – Sometimes a Principal can be regarded as trading in a territory if he has an Agent there, whereas the appointment of a Distributor should not give rise to this problem.
Advantages and drawbacks of appointing a Distributor
The advantages include:
- In selling to a Distributor, the Principal may be able to pass some aspect of risk associated with the products.
- A Principal will not be liable for any liability incurred as a result of the Distributor’s activity.
- A Distributor should be motivated to sell the product as they have a vested interest in the product. Failure is not an option.
- The Principal does not have to monitor accounts with a long list of customers as they can just deal with the Distributor.
- The appointment of a Distributor should reduce overhead costs and reduce financial obligations; for example having a place of business in a certain region.
- Key points/clauses in a distribution agreement such as brand protection, Intellectual Property, and retaining some control can be negotiated.
The drawbacks include:
- A Principal naturally does not have the same extent of control as it would over an Agent.
- If granting exclusive rights to a Distributor for a particular territory then a Principal is not in control of that particular territory. This may have an effect of reputation/brand and sales.
- A distribution agreement needs to be considered carefully and particular attention needs to be paid to the possible risk from competition law problems.