Distribution Agreements

M. Bihler

1The Law Pertaining to Commercial Agents

1.1Source of Laws

The primary source of German commercial agent law is contained in the Commercial Code (par. 84–92c HGB). This law is nearly identical to the commercial agent law in effect in the other states of the European Community. The reason for this standardization is the 1986 enactment of an European Community directive (EC Directive of Dec. 18, 1986 ABl. EG Dec. 12 1986 No. L382/17). This directive, which to a large extent was based on the German model, required the Member States to incorporate the commercial agent law contained in the directive into their own national law. All of the States of the European Community have now done so.

Most of the provisions contained in the HGB pertaining to commercial agents are mandatory; this means that such provisions are deemed to be binding on all principal–commercial agent relationships and any contractual terms to the contrary are void. In addition, even in those areas where the HGB does allow contractual deviations, Par. 305 subsequent of the German Civil Code allow such deviations only if the commercial agent is not unreasonably disadvantaged.

Par. 305 subsequent of the German Civil Code apply to commercial agent contracts because, as a rule, such contracts are standard form contracts which have been drafted by a business enterprise for use by all its commercial agents. Par. 305 subsequent of the German Civil Code serve to compensate for the relatively weaker bargaining position of a party faced with a standard form contract drafted by another through providing the party with certain legal protections. However, this is not to say that no room exists for the tailoring of commercial agent contracts to the special needs of the parties. The following sections will discuss key aspects of the law pertaining to commercial agents and the extent to which deviations there from are allowed.

© Springer-Verlag Berlin Heidelberg 2008

1.2Commercial Agent Versus Employee

A commercial agent is an independent contractor whose permanent business is either to act as an intermediary in bringing about direct legal relations between his principal and the third party or to enter into contracts with the third party on behalf of the principal (Par. 84, Section 1, sentence 1 HGB). Whether a principal–commercial agent relationship has been created or whether the “agent” is in fact an employee is primarily a question of whether the “agent” possesses important distinguishing characteristics of independent activity. If this independence is not present, the commercial agent will be viewed as an employee (Par. 84, Section 2 HGB).

Case law holds that the individual circumstances as a whole determine whether the requisite independence is present in any particular case. Criteria for such independence are that the commercial agent (1) is only to a limited extent subject to instructions and

(2) bears personal business risk. These criteria are easily met, for example, when commercial agents are free to decide whether they will engage employees or contract workers and if so whom, and if all of the agents’ business costs are paid out of their earned commission. Additional indications that agents work independently include the existence of their own place of business and/or organization. On the other hand, contract terms which limit agents’ choice of employees or impose such a strict reporting duty on the agents that an air-tight control system is maintained raise considerable doubt whether a principal–commercial agent relationship is present.

1.3Commercial Agent Versus Agent Middle Man

The commercial agent differs from an agent middleman, Par. 93 subsequent HGB, by the criterion that the latter is only entrusted with a fixed number of deals or for a limited period. According to case law, even if a person is entrusted for a longer period, it underlies agent middleman law as long as it is merely in charge for a fixed number of deals during this period.

1.4Contract Obligations

1.4.1Commercial Agent

According to Par. 86, Section 1 HGB, the primary obligation of the commercial agent is to act as a middleman in bringing about direct legal relations between the principal and third parties or to enter into contracts with third parties on behalf of the principal. This obligation must be fulfilled with the diligence of a “prudent business person.”

A commercial agent also has a duty to review the financial soundness of new customers. Although not expressly stated in the law, this duty is implied from the

HGB’s general requirement that an agent represents the interests of the principal in his arranging and procuring of customers and/or contracts (Par. 86, Section 1 HGB). If the agent failed to screen the economic background of new customers, a principal’s interest could be placed in jeopardy. Agents have a duty to ascertain the financial soundness of a former customer, however, only if aware of a delay in payment or other circumstances which impact the customer’s credit worthiness.

This duty to review the financial soundness of customers is satisfied by the agent’s use of informal methods of inquiry. In fact, a provision in a standard form contract which requires commercial agents to procure credit information at their own costs is invalid. However, if the agent is reimbursed for the costs incurred, the parties may stipulate in the commercial agent contract that official credit reports be obtained and/or credit research be conducted.

Another important duty imposed on the commercial agent is to provide the principal with all necessary information. This duty includes in particular the obligation to promptly inform the principal of all successful arrangements or procurements of business. The exact type of information the commercial agent must transmit is determined by the application of an objective standard. The duty to report should not be so extensive and detailed that it collides with the independence of the commercial agent. On the other hand, the parties may establish a reporting system.

Another duty which is implied from the law’s requirement that the agent protects the interests of the principal is the duty not to simultaneously work for the principal and for a third person who is involved in the same sphere or scope of business activity as the principal. The issue here is not whether or not the commercial agent’s breach of this duty has actually caused the principal damage. Rather, activity which is in competition with the principal’s business is prohibited because it disturbs the important relationship of trust which should exist between a commercial agent and a principal. While this duty flows from the law itself, generally a competition prohibition will be contractually agreed to by the parties in writing. In the event of a breach of the agent’s duty not to work for a competitor, the principal has the right to terminate the commercial agent contract without prior notice. The principal may also seek contract penalties if they have been agreed to in the commercial agent contract.

Sometimes the commercial agent may also be charged with duties which are atypical for commercial agent activities and which extend beyond what is normally expected of an agent. The imposition of such additional obligations (for example, the duty to stock goods) raises the issue of whether or not the commission is adequate to compensate the agent for the extra duties or whether or not additional claims for remuneration exist.

1.4.2Principal

Among other duties, the principal must provide the commercial agent with all that an agent reasonably needs from a principal in order to fulfill his responsibilities. This duty includes, in particular, the responsibility to keep the agent thoroughly informed (Par. 86a, Section 2, sentence 1 HGB).

However, principals remain free to independently manage their businesses and are, therefore, under no obligation to involve commercial agents in this process. Decisions regarding production, marketing and sales, quality and price of goods are exclusively the province of the principal.

The only limitation to the principal’s exclusive management right is the arbitrariness prohibition. For example, if the principal arbitrarily and without a valid reason, discontinues or suspends production, commercial agents must be advised in advance. If the principal fails to provide such advance notice, then the agents may be entitled to damages.

1.5Commercial Agents’ Commissions

1.5.1General, Regional and Sole Agents

According to Par. 87, Section 1 HGB, the commercial agent is entitled to a commission on all contracts entered into during the time that a commercial agent contract is in effect and which are either (1) the result of the activity of the agent or (2) entered into with a third party who the agent had previously contacted regarding the same type of goods. Under this standard, the agent’s activity need not be the sole or the primary cause of the contract between the principal (or the dealer on the principal’s behalf) and customer. It is sufficient if the agent’s actions are only one of the reasons for the contract. In addition, the agent is entitled to a commission on all reorders or subsequent contracts unless the commercial agent contract specifically and expressly provides otherwise.

Often a type of commercial agent known as a regional agent will be assigned a specific area and/or circle of customers. In this case, the agent is not only entitled to a commission on contracts he or she has helped to secure, but rather on all contracts with customers from this geographic area or customer circle which are entered into during the time that the commercial agent contract is in effect. In addition, regional agents can require that the principal ensures that their territory is respected by other agents.

Another common type of commercial agent is the “sole” agent (“exclusive agent”), who, as the name suggests, possesses the sole right to represent the principal in an assigned geographic area. Like the regional agent, the sole agent is entitled to a commission on all contracts with customers from his or her assigned territory. Unlike regional agents, however, sole agents enjoy the additional right that even the sales and marketing activity of the principal in the agents designated territories is excluded unless the commercial agent contract specifically provides otherwise.

1.5.2Overhang Commission

Under the law, the commercial agent is entitled to a commission on sales which occur after the expiration or termination of the commercial agent contract if the

Another mandatory provision regarding the commission is contained in Par. 87a, Section 3 HGB. According to this provision, commercial agents are entitled to a full commission on any contract they have entered into with the customer, even if the contract terms are subsequently partly or completely not fulfilled, provided that the partial or total lack of fulfillment is due to circumstances for which the principal is responsible.

Par. 87 of the HGB ensures that commercial agents are remunerated for their efforts when, based on reasons that have to do with the relationship between the principal and the third party, the contract is not executed. Contract terms which attempt to deviate from this law are unenforceable. Examples of this are a stipulation that the agent is not entitled to a commission in the event the principal would suffer a loss if the contract was executed, or a clause which requires the agent to bear the costs in the event of a legal dispute with the third party.

On the other hand, agents are not entitled to a commission if the contract is not carried out due to reasons for which the principal is not responsible. Such a situation may arise, for example, if a customer’s default in payment results in the principal being legally entitled to refuse performance.

If the principal has reserved the right of “supply to ourselves” (“Selbstbelieferung”) then the customer has the right to demand delivery of the goods contracted for only if the principal is able to acquire them. While such a reservation excuses the principal’s performance vis-à-vis the customer, the agent nevertheless remains entitled to a full commission on the contract despite the principal’s inability to perform. Because the agent has a right to rely on the principal’s ability to deliver the goods which the agent has marketed in good faith, the fact that a supplier fails to provide the goods to the principal is deemed to be a circumstance for which the principal is responsible.

1.5.6Amount of Commission

The amount of the commission is usually agreed to by the parties in their commercial agent contract. In the event that the contract fails to address this issue, the customary rate must be paid (Par. 87b, Section 1 HGB).

Ancillary costs for freight, packaging, duties and taxes which the principal incurs and separately lists in the customer’s invoice are not considered a part of the customer’s payment for the goods themselves and, therefore, have no influence on the amount of the agent’s commission. On the other hand, ancillary costs which are passed on to the customer but not separately listed in the invoice are considered a part of the contract price upon which the agent’s commission is based.

One exception to these general rules regarding the impact of ancillary costs on the commission is the value-added tax. Even though VAT is separately identified in the invoice, it is deemed a part of the customer’s payment for the goods and thus influences the amount of the agent’s commission (Par. 87b, Section 2 HGB). However, the parties may (and usually do) contractually deviate from this law and instead agree not to consider the amount of value-added tax in determining the agent’s commission.

A discount or other type of price reduction granted the customer has no impact on the amount of the commission. A provision in the commercial agent contract to the contrary is unenforceable. Finally, even if the parties agree to a reduction in the commission in the event the principal helps the agent to secure a contract, a Federal Court ruling holds that such an agreement is likewise of no force and effect.

The agent’s commission must be calculated and paid on a monthly basis, however, the parties may agree instead to a 3-month payment period. The actual payment to the agent must be made no later than the end of the month which follows the relevant accounting period (Par. 87c, Section 1 HGB).

Agents have a right to all information contained in the principal’s books or ledgers which are relevant to the calculation of their commission; for example, the names and addresses of all customers who placed an order, the type, amount and price of the sold goods, and information pertaining to returns and failures to carry through with transactions (but not, however, the reason for such returns or failures). Providing the agent with copies of customers’ invoices alone is not sufficient. Because the agent’s right to information is only extinguished when both parties are in agreement regarding the commission, it is recommended that the principal collect the necessary information at the time the agent’s commission is calculated and then send such information to the agent along with the commission payment.

These laws regarding the settlement of the commercial agent’s account are obligatory, and any agreement by the parties which limits the agent’s legal protections in this regard are unenforceable. Monetary claims of either party arising out of the principle–agent relationship are subject to a 3-year statute of limitations. The period begins to run with the end of the year in which the claim becomes due. It is usually not possible for the parties to bind themselves to a shorter limitations period, at least in a standard form commercial agent contract subject to the Law for the Regulation of Standard Business Terms), even if the shortened limitation period applies to both parties.

1.6Termination of the Commercial Agent Contract

A commercial agent contract with an unspecified duration or term may be terminated without cause by a 1-month advance notice in the first year of the contract, a 2-month advance notice in the second year, a 3-month advance notice in the third to fifth year, and a 6-month advance notice after the fifth year. The termination’s effective date is the last day of the calendar month, unless the parties have provided otherwise in their contract (Par. 89, Section 1 HGB). The length of the notice period can be extended by contract but not shortened. Even if the commercial contract provides for a probationary period, the above stated notice periods must be provided.

The Federal Court has ruled that it is not possible to terminate only a part of the commercial agent contract, unless the parties have agreed otherwise and such termination is limited to a part of the agent’s activity that is capable of being separated from his or her other activities. A termination of the commercial agent contract for

commissions, but also through compensation to the agent for his loss of clientele, at the time the commercial agent contract is terminated (Par. 89b HGB). Because the amount of this compensatory payment very often leads to a disagreement between the parties at the time the contract is terminated, it will be discussed here in detail.

First of all, this compensatory claim is not required upon the termination of all commercial agent contracts. According to Par. 89b, Section 3 HGB, the payment is not required when it is the agent who terminates the contract, unless said termination is justified by an important reason for which the principal is responsible. The Federal Court has ruled that in the case of the above-mentioned “Änderungskündigung” which is not accepted by the commercial agent, this one will not lose his compensatory right, as it was the principal who gave notice. It is important to note that agents are always entitled to compensation if their contract is terminated for reasons of age. Likewise, if the principal justifiably terminates the contract based on important reasons for which the agent is responsible, the agent’s compensatory right is forfeited. According to case law, the compensatory right is not forfeited if there is an important reason, but the notice does not indicate that it is based on an important reason. This holds both for termination by the principal and the commercial agent.

Terminations where no compensatory payment is required are the exception. Usually, when a commercial agent contract is terminated, it is a termination initiated by the principal with notice. In such a typical termination, agents are entitled to a compensatory payment upon request if: (1) during the contract term they have made contacts with new customers and (2) such contacts could lead to considerable advantage for the principal following termination of the principal–agent relationship (Par. 89b, Section 1 HGB).

The first requirement listed above (contact with new customers) is also deemed to be met if, as a result of the agent’s activities, the business relationship with a former customer who had not been originally secured by the agent is significantly intensified. Generally, a significant intensification of a business relationship can be shown if, during the duration of the commercial agent contract, the sales figures corresponding to such previously secured customer are doubled.

If the principal demands that a new agent pays an “admission fee” for the right of assuming representation of the existing customers of an agent who is leaving, this fee has no impact on the question of whether or not the departing agent had initially contacted and/or intensified relations with these customers. Also, the new agent is not entitled to have the amount of the “admission fee” returned in the form of a compensatory payment, in the event his or her contract is subsequently terminated. However, it is possible for the parties to specifically agree that upon termination, the agent is entitled to a minimum compensatory payment equal to the amount originally paid by the agent as an “admission fee.” Such an agreement is sometimes included in the parties’ contract in order to protect the agent who has paid an admission fee from an unexpected early termination of the commercial agent contract.

The second requirement listed above (provision of considerable advantage to the principal) is met upon a showing that, as a result of the termination of the commercial agent contract, the agent will lose commissions on existing or future contracts with new customers originally secured by the agent, and/or with former customers

for whom the agent has been successful in significantly increasing the business relations with the principal. The amount of the agent’s loss of commissions is generally equivalent to the advantage the principal would enjoy if no compensatory payment was required. Therefore, a forecast must be made of the future development of the business relationships between the principal and such customers and how much commission the agent would have earned if the contract with the agent had not been terminated. The question of whether or not and to what extent changes in the established clientele can be expected are particularly important in making this forecast.

The determination of the amount of this compensatory payment must also take into account all circumstances which bear on the fairness of the payment. In this connection, the reasons for termination, the agent’s family situation and support obligations as well as the question of what extent the product has developed a strong market appeal due to the principal’s advertising outlays should be considered.

The first step in calculating the amount of the agent’s compensatory payment is to determine the agent’s total annual commissions earned in the last year of the principal–agent relationship on contracts with new customers or with existing customers whose business relations with the principal the agent succeeded in considerably intensifying. The second step is to determine how many years in the future the principal can expect to do business with this particular customer pool. It is generally assumed that such relationships will continue for 2–5 years beyond the termination date of the commercial agent contract. The number of years or forecast period chosen depends on and corresponds to the overall rate of customer fluctuation one can expect in the particular situation. For example, if the parties choose a 4-year period, they assume that the principal will annually lose 25% of the new or intensified customer relationships which are attributable to the agent’s efforts.

The third step is to take the figure derived from step one and project it over the forecast period in order to determine the agent’s gross compensatory payment. The sum determined in this way represents the gross compensatory payment. The fourth step is to reduce this gross sum by the amount of interest advantage which will accrue to the agent, due to receiving future commissions on a lump-sum basis. The fifth step is to consider if further reductions should be made based on reasons of fairness and, if so, to make such reductions.

Finally, the sum which results from the fifth step must be compared to the highest amount of compensatory payment allowed by law. This comparison is necessary because according to Par. 89b, Section 2 HGB, the compensatory payment may not exceed the average yearly commissions or other income earned by the agent in the last 5 years.

The laws pertaining to this compensatory payment are mandatory. Any attempt by the parties to avoid the compensatory payment or to provide for a reduced payment ahead of time are strictly without legal effect. The only way that the parties may contractually impact this compensatory payment is through an agreement entered into after the commercial agent relationship has been terminated.

In such a post termination agreement, it is customary for the agent and principal to determine the amount of the compensatory payment. The parties may also extinguish

●The authorized distributors are required to turn their customers over to the manufacturers at the time the distributor–manufacturer relationship comes to an end and the manufacturers are immediately able to make use of the customer accounts to their own business advantage should they so desire

The contract between the parties is the starting point for determining whether authorized distributors are integrated in the marketing organization of the manufacturers. If authorized distributors are made responsible for certain marketing areas and if they are ascribed certain duties such as sales promotion or fostering the good reputation of the brand, this sufficiently indicates that an integration has occurred. The same applies if authorized distributors are required to pay advertising costs, maintain a stock or are induced to sell products at the manufacturer’s or importer’s recommended price. Moreover, in each case a careful examination should be made to determine if the actual day-to-day dealings of the parties deviate from their contract and whether the actual practices have, in effect, supplemented or altered the formal contract.

According to case law, it is quite easy for authorized distributors to prove that they are contractually bound to turn over their customers upon termination of their contracts. It is enough, for example, to show that they regularly turned their customer addresses over to the manufacturer during the time the contract was in effect, even if the manufacturer did not insist on being given the addresses or have any intention of using them. Case decisions have also shown that it is enough if invoices or their supporting documents, sales reports (daily or otherwise prepared), weekly status reports or customer questionnaires are transmitted per distributor contract to a marketing firm retained by the manufacturer or importer.

Manufacturers and importers who wish to avoid the very negative consequences of the analogous application of Par. 89b HGB requiring a compensatory payment for the loss of customers must pay very strict attention to the drafting of the distributor contract. In particular, the contract must expressly state that the manufacturer (or importer) has no interest in the transmission of customers and the reasons why this is so.

For agreements concerning the manufacturer–distributor-relationship in the motor vehicle sector in particular, it is to say that they must not violate the European Commission Regulation No. 1400/2002, which establishes exceptions to the European Community competition law.

However, if the authorized distributor is contractually bound to transmit customers, the authorized-distributor law provides that the distributor’s right to a compensatory payment cannot be contractually excluded. In order to preserve this claim, the authorized distributor must raise it within 1 year following the termination of the distributor contract. Moreover, as with commercial agents, authorized distributors who terminate their contract due to age or sickness and for whom the continuation of their sales work would be unreasonable are entitled to compensatory payments for the loss of customers. If the manufacturer terminates the distributor contract, the compensatory payment is excluded only if the termination was based on serious cause.

The calculation of the amount of the compensatory payment for the loss of customers is made in essentially the same manner as described above in connection with commercial agents. In the case of authorized distributors it is especially important to reduce the compensatory amount based on fairness reasons in order to account for that portion of the product’s market appeal which is attributable to the manufacturer’s (or importer’s) advertising expenses. As a rule, this will result in the compensatory amount being reduced by 25%.