Introduction
This checklist provides guidance to in-house counsel and private practice lawyers representing manufacturers, suppliers, or wholesalers on the drafting of a commercial agreement for a US organization appointing a distributor to sell goods and provide services within the United States.
The checklist is presented as a list of requirements that you can check off as they are addressed. At the end of each step, there are explanatory notes corresponding with each step in the checklist.
The checklist addresses the following steps:
- Consider whether appointment of a distributor or an agent is preferable
- Assess distributorship agreement provisions
This checklist can be used in conjunction with the following How-to guides: Issues to consider when drafting a franchise agreement, How to assess antitrust law risks in agency and distribution agreements, How to terminate a sales representative agreement and Checklists: Appointing a local sales or marketing agent, Drafting an agency agreement and Termination of a distributorship agreement.
Step 1 – Consider whether appointment of a distributor or an agent is preferable
| No. | Consideration |
| 1.1 | Is there adequate operational control? |
| 1.2 | Who bears the liability for the products? |
| 1.3 | Is the agreement clear that a distributorship arrangement is intended? |
| 1.4 | What type of distributorship is created? |
Step 2 – Assess distributorship agreement provisions
| No. | Consideration |
| 2.1 | Identify and verify legal parties to the agreement |
| 2.2 | Specify the duration of the agreement |
| 2.3 | Identify key standards of expected performance |
| 2.4 | Assess and include any required intellectual property rights |
Explanatory notes
A distributorship agreement is a contract between a principal (typically a manufacturer or wholesaler) and a distributor, where the principal authorizes the distributor to resell goods and services on its own account. Distribution has certain features in common with agency, but the legal structure is different. A distributor buys and sells on its own account, rather than for a principal, and the customer relationship is therefore with the distributor, not the manufacturer.
Legal framework
Distributorships in the United States are largely regulated by agreement between the parties. State laws may regulate some types of distributorships, (eg, motor vehicle dealerships, which are regulated by state law in all states), and federal laws regulate the presentation of franchise agreements, which may include some types of distributorships. However, generally the distributorship relationship is agreed between the parties in a written agreement.
While most states do not require that distributorship agreements be in writing, relying on a verbal distributorship agreement is not recommended. The advantages of a written agreement over a verbal agreement in a business transaction are well documented; in particular, a written contract will provide specificity and should eliminate or minimize ambiguities surrounding the obligations of the parties.
For further information, see Checklist: Drafting an agency agreement, and How-to guide: Issues to consider when drafting a franchise agreement.
Step 1 – Consider whether appointment of a distributor or an agent is preferable
Consider whether the agreement should be an agency or a distributorship agreement. While either agreement will result in a person or entity representing your organization in a local market, when you assess your requirements, be aware of the operational, as well as legal, distinctions between the two types of agreement. One important point is that the distributor assumes the legal and commercial risk that (normally) an agent does not, making the distributor potentially liable for issue associated with the product being distributed.
Distribution has certain features in common with agency, but the legal structure is different. A distributor buys and sells on its own account, rather than for a principal, and the customer relationship is therefore with the distributor, not the manufacturer.
Many companies operate through distributors, such as Apple who uses not only its own resale network but also the resale outlets of eg, T-Mobile, AT&T, Verizon, Walmart, Costco, Best Buy and many others. In addition, the list of ‘The 20 Best Wholesale Suppliers and Distributor Platforms’ demonstrates how pervasive – and successful – the use of distributorships can be.
Some helpful questions to consider when you appoint a distributor versus an agent include those listed below.
1.1 Is there adequate operational control?
A distributor may negotiate or conclude contracts with customers on behalf of your organization, just as an agent may. However, a key distinction between the two models is that an organization has less control over the operations of a distributor than it would over an agent. For example, an agent may have less say over where or how it advertises or market products than an independent distributor would. The greater level of control over an agent usually results in the organization having more liability for the acts of the agent compared with liability for the acts of a distributor.
1.2 Who bears the liability for the products?
One of the key distinctions between an agency agreement and a distributorship agreement is who bears the liability for the product. As a general rule, a distributor purchases goods for resale and assumes all responsibility for those goods when they take ownership. This will include liability for storage charges and also the risk of loss if the goods are damaged or destroyed. If this is your intention, then a distributorship is the correct relationship. If not, then consider an agency relationship. See Checklist: Drafting an agency agreement.
1.3 Is the agreement clear that a distributorship arrangement is intended?
Although the context of the agreement and the interactions of the parties may point to an agreement being a distributorship rather than an agency, it is always best to make explicit the exact type of relationship that will be created, in order to eliminate future disputes over claimed ambiguities.
1.4 What type of distributorship is created?
The type of distributorship could be exclusive, sole, or selective.
1.4.1 Exclusive
In an exclusive distributorship, the distributor has the exclusive rights to a specific customer list or geographic area. The organization does not retain the rights to sell the product in the given area or to the listed customers. Note that exclusive distributorships may be problematic under antitrust laws. See How-to guide: Understanding antitrust and unfair competition law and your organization’s compliance obligations.
Example
XYZ Corporation grants ABC Distributors an exclusive license to sell a widget in a three-state area. In exchange, ABC Distributors agrees to sell only XYZ Corporation brand’s widget. While this may be lawful, it also raises anticompetitive concerns. For example, the arrangement could be used by XYZ Corporation to ensure other widget makers don’t enter into or succeed in the marketplace.
1.4.2 Sole distributor
In a sole distributorship, the distributor is appointed to a defined area or country. No other distributor may operate in a given territory, but the organization retains the rights to also sell products directly in that territory.
1.4.3 Selective distributor
A selective distributorship involves appointing a distributor based on certain criteria. For example, a manufacturer of high-end cosmetics may appoint only distributors located in affluent neighborhoods or may require that the distributor hire only employees with cosmetics experience. This limits the number of distributors appointed but does not grant exclusivity.
1.4.4 Intensive distributor
Manufacturers or vendors may opt for an intensive distributor when the company wants to sell its product(s) as quickly as possible through the widest possible channel. An intensive distributor works with many vendors to sell high volumes of goods at lower prices.
Step 2 – Assess distributorship agreement provisions
Many, if not most, of the terms of a distributorship agreement are matters of contract between the distributor and the organization. There are some points that call for special attention. A distributorship will include most of the standard contractual terms as discussed in Checklist: What to consider to ensure a contract is valid. However, there are some considerations specific to the distributorship relationship and these are set out in the following paragraphs.
2.1 Identify and verify legal parties to the agreement
Identification of the parties is the first step in drafting any contract. A contract may be enforced only against the parties to the agreement, and therefore it is important to identify clearly those responsible for performance of the contract.
In many jurisdictions, a business entity that is not in good standing lacks the capacity to enter into contracts. Any agreements purportedly entered into by or with such an entity may be void or voidable. Determining if a business is in ‘good standing’, involves checking compliance with all state and local legal requirements, such as filing annual reports, paying taxes, maintaining a registered agent, and renewing licenses and permits. A certificate of good standing from the Secretary of State office or a similar government agency to confirm this status. For example, in Florida a Certificate may be ordered through their Sunbiz portal.
2.2 Specify the duration of the agreement
A distribution agreement will have a definite start date, which will be the onset of the parties’ mutual obligations. Many agreements will also have termination dates, or provisions that set out an occurrence that will cause the agreement to be terminated (as described below).
2.2.1 Definite term
An agreement with a definite term will come to an end automatically on a certain date at a certain time.
2.2.2 Open-ended agreement
An open-ended agreement does not have a definite termination date, but usually allows either party to terminate the agreement at will. Usually, such agreements have a provision requiring that notice of the termination be given at a certain time before the termination.
2.2.3 Termination on a specific event
If a specific event will lead to termination, that event is generally some failure on the part of either party to perform their obligations adequately. Set out in detail the actions or inactions that will constitute a failure.
For additional information on this topic, see Checklist: Termination of a distributorship agreement.
2.3 Identify key standards of expected performance
While US law presumes that each party to an agreement will perform their obligations in good faith, it is best, whenever possible, to identify quantifiable standards of performance for the distributor. An agreement may set targets for revenue or for the number or quantity of products sold in a given time. These standards will provide a benchmark for determining whether the distributor is making their best efforts, or if their efforts are ineffective due to factors beyond their control, such as market conditions.
2.4 Assess and include any required intellectual property rights
A distributor will usually be granted the right to use some of your organization’s intellectual property, such as trademarks. Make the scope of the permitted use clear. Include limitations on use, such as a prohibition against further licensing without express permission.
Additional Resources
Iowa State University, Choosing a Distributor for Your Product
Small Business, Chron.com, Reasons to Use Distributors
Emanuele Bardazzi, Distribution Agreements in the United States of America
Federal Trade Commission, Dealings in the Supply Chain
Related Lexology Pro content
How-to guides:
Issues to consider when drafting a franchise agreement
How to assess antitrust law risks in agency and distribution agreements
How to terminate a sales representative agreement
Checklists:
Appointing a local sales or marketing agent
Drafting an agency agreement
Termination of a distributorship agreement
Clauses:
Reliance on information posted:
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