Legal advice with a commercial perspective

As a manufacturer, importer or wholesaler of goods or services, choosing the right distribution channel is just as important as how you source your products. If you choose the wrong distribution channel, you risk selling your products too cheaply or at too high a risk. By choosing the right distribution model, you can ensure that your products and services are sold in a way that fits your company’s strategy and risk profile.

In the categories on this page, you can read more about each distribution model and the advantages and disadvantages each model has for your business.

Distribution agreements are often drawn up by the party in the distribution relationship (whether it is a manufacturer, importer, wholesaler, or the distributor itself) that is strongest in the mutual power relationship.

Regardless of your role in the value chain, it is important to be aware that a draft contract is often a basis for negotiation and that the draft contract reflects the ideal wishes of the strongest party for the collaboration; often where the risk is borne by the other party and the earnings are retained by the stronger party. It is therefore important to negotiate distribution agreements before signing them, so that you can be sure that your agreement is not unreasonable or burdensome, is interpreted correctly, and is in accordance with the wishes of the parties to the agreement, and that the agreement adequately safeguards the interests of both parties.

Selective distribution is a special form of distribution in which the supplier (manufacturer, importer, wholesaler) undertakes to supply products only to distributors selected according to specific criteria and, in addition, requires these distributors to sell only to other authorised distributors or to end users.

The advantage of this form of distribution is that the supplier can control how the end user experiences the product at the retailer, as the retailer may only sell to authorised retailers (who will be subject to the same or similar requirements) and to end users. This form of distribution is therefore often used for luxury products, such as fashion clothing, cars, perfume etc.

The major disadvantage of this form of distribution is that it cannot be combined with territorial protection and that, from a business perspective, it requires good management of both contracts and retailers.

Exclusive distribution is a special form of distribution in which the distributor is granted territorial or customer protection. The distributor is protected against active sales by other distributors either in the exclusive distributor’s territory or to the exclusive distributor’s customer group.

The advantage of this form of distribution is that the exclusive distributor has a greater incentive to invest in the relationship with the supplier, e.g. by carrying out additional sales activities to attract customers to the supplier’s products when the distributor knows that there are no other sales outlets in the area or for the customer group.

The disadvantage of this form of distribution is that the territory and customer protection does not apply to other distributors’ passive sales (i.e. where the customer approaches them themselves) and that distributors cannot be prohibited from selling to other non-authorised distributors.

This form of distribution is therefore best suited to products that are either difficult to move (e.g. very large products or products with a short shelf life) or where transport costs are so high that they exceed the benefits of moving the products to another point of sale. This reduces the risk of competition from an unauthorised distributor in the exclusive distributor’s territory. In addition, the granting of exclusivity to one distributor means that all other distributors must be prohibited from actively selling in the territory in question. This form of distribution therefore often entails contract management costs.

Mass distribution is a form of distribution where the supplier sells the product without granting the distributor exclusivity and without establishing a selective distribution network.

The main advantage of this form of distribution is that the distribution agreement can be very short and uncomplicated, as it often (only) involves one or more individual purchases, where the supplier’s interest in following up on the product ceases when the product is sold to the distributor. Transaction costs are therefore often lower for mass distribution than for other forms of distribution.

The disadvantage of mass distribution is that this form of distribution does not in itself provide an incentive for relationship-maintaining or relationship-developing investments, which can be better ensured through selective distribution or exclusive distribution.
 

In a franchise agreement, the franchisor licenses its business concept, trademark, and know-how to a franchisee in exchange for payment, often consisting of start-up fees, fixed annual payments, and royalty payments on a percentage of the franchisee’s turnover. The franchisee operates a unit under the franchisor’s brand and follows its operating procedures and standards. This allows the franchisee to start and operate a business with the support and expertise of the franchisor.

Franchising can be used for selective distribution, exclusive distribution, and mass distribution.

An agency agreement is an agreement between a principal (the agentor) and an agent, whereby the agent, at the principal’s expense and risk, either buys or sells products or services or enters into negotiations to buy or sell products or services on behalf of the principal (either in its own name or in the name of the agentor).

The decisive factor in determining whether an agreement is a distribution agreement or an agency agreement is whether the agent/distributor assumes a commercial or financial risk. If the agent assumes no or very little risk, the agreement will be an agency agreement.

If the agreement is to be an agency agreement, the agent must not, among other things, assume so-called contract-specific risks (e.g. requirements to finance own stocks, pay for delivery etc.) or market-specific risks (e.g. irreversible costs, requirements to invest in specific equipment, facilities etc.), or risks associated with other activities in the same product market (e.g. obligation to service products without being compensated for the costs thereof).

The main advantage of agency agreements is that the supplier can decide all aspects of the sales process, including the prices at which to sell, the customers to sell to etc. This gives the supplier full control over the sales process.

The major disadvantage of an agency agreement is that the supplier must cover all the agent’s costs/risks that the supplier requires the agent to perform. If, for example, the agent has to pay for marketing, the supplier must indemnify the agent for these costs. If the agent has to stock the products, the supplier must pay the agent for this. Choosing an agency agreement therefore allows you to gain control over the sales process, but also means that the supplier assumes significantly more risk than with other forms of distribution.

Products and services can also be sold in ways other than through traditional distribution systems, franchise agreements, and agency agreements.

It is also possible to choose sales through so-called mixed systems, where a company is an agent for certain products and a distributor for other products. Such a system entails a number of specific challenges, including the requirement for effective demarcation between the products to be sold under the agency agreement and those to be sold under the distributor agreement, and the requirement that the supplier must cover the agent’s contract-specific, market-specific, and other risks in the same product market, – even if these risks can only be partially attributed to the agent’s activities.

Another option is sale via fulfillment agreements, where the supplier sells the product itself and lets the “distributor” fulfill the agreement. Fulfillment agreements can be used where the supplier has handled the entire pre-sales effort and completed all parts of the transaction. In such situations, the manufacturer can specify a distributor to perform the contract. However, the content of the contract is agreed with the customer. The distributor is thus “only” required to deliver the product.

A third option is to use subcontracting agreements, where the supplier is legally responsible for the sale but leaves it to a subcontractor – according to specific instructions – to provide a service (e.g. to take care of certain limited parts of the pre-sales effort, e.g. test drives, measurements, or similar) on behalf of the supplier.

Companies that hold a dominant position must be particularly careful when entering into distribution agreements, regardless of whether it is the supplier or the distributor/agent that is dominant.

This is because dominant companies have a special obligation not to restrict competition in the market where they hold a dominant position.

Contract management is a business necessity in almost all distribution relationships where the supplier has several distributors or the distributor has products from several suppliers. Contract management provides an overview of the relevant rights and obligations in the contractual relationship.

Contract management can generally provide you with:

• A secure place to store and share your contracts and other business-critical documents
• Ensuring that you do not miss an important contractual deadline, such as a termination option or right to renegotiate
• A quick overview and management of important rights and obligations in the contractual relationship, such as
  the geographical areas for which a distributor has overall sales responsibility
• Sales targets for individual distributors (or for individual products)
• Special requirements for store layout
• Special requirements for customer handling
• Special requirements for ongoing follow-up, e.g. reporting on market conditions
• Penalties or penalty clauses.
  

Contract management systems can be easily set up to take into account – and highlight – the most important aspects of your company’s contractual relationships.