Five Costly Mistakes In Distribution Agreements

Obviously ‘everybody’ in the food industry knows what the crucial commercial elements in a distribution agreement are. Despite this general and supposedly wide-spread knowledge, we see recurring costly drafting mistakes in distribution agreements in our daily practice on a regular basis. The goal of the following summary is to alert readers, based on practical examples, to certain typical drafting mistakes, without going too much into the ‘legalese’ of distribution agreements in general.

When signing distribution agreements, it is of utmost importance to decide and state clearly with proper wording in the contract which parts of the country will be part of the distribution territory. Especially when dealing with Chinese parties, one should decide whether Taiwan, Hong Kong and Macau will be part of the distribution territory as part of ‘China’, or if the territory is only limited to mainland China.

In contracts, one should refrain from using ambiguous words such as ‘best efforts’. Food companies should always clearly spell out in their distribution contracts (either within the contract or in an annex) clear minimum sales targets that need to be achieved for each year of the term of the contract. Only with these can there be a yardstick to measure a distributor’s performance, and hence allows food companies to decide objectively and rationally if a distributor has performed according to the distribution agreement.

To add to the clauses of a distribution agreement can be, in the case of non-fulfilment of sales targets, the principal will have the right to either terminate the distribution agreement with immediate effect, or transform the distribution arrangement from exclusive to non-exclusive.

Distribution agreements should clearly state how net sales are exactly to be computed, specifying what net sales refer to (end-market prices or amounts invoiced from principal to distributor), if taxes like VAT are to be included or not, and other aspects. These details should be addressed in much detail as possible in a sample calculation in an annex to the contract.

Distribution agreements can be drafted in two different languages should it be necessary, but only one single language should be taken as the controlling language. This is to ensure completeness of the contract as during translation some clauses or terms may be interpreted and translated wrongly, and prevents omission and misunderstanding. Also, it is not easy to translate certain specific legal terms from English into another language where the legal system is not rooted in common law.

Companies should not assume that all legal systems in the world are created equal, and that some significant (and not properly observed) costly differences do in fact exist. It would be advisable for one to reach a certain degree of familiarity with the legal system where one plans to engage in a distribution agreement, as well as to be most prudent when drafting clauses to the agreement with the country’s legal system in mind.

Note: This article has been condensed. Read the original article here .