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Seeking Balance in Distribution Agreements

by Glen Balzer

By Glen Balzer (ExpertPages member page)

Distribution agreements founded on the principle of equality between distributor and supplier survive longer than those do where one partner is favored over another due to clever clauses, terms, and conditions. Long-living agreements are relatively simple and balanced, while short-living agreements are comparatively clever and imbalanced. A sound agreement need not be clever, but must demonstrate a fairness that comes only from a balance of power between the supplier and distributor.

Creating Imbalance

All relationships and agreements between distributors and manufacturers ultimately expire. Expiration is sometimes amicable, as when both parties move ahead in different directions. Upon disengagement, the distributor creates a new partnership with an established and enthusiastic supplier while the manufacturer creates a relationship with a new promising distributor. However, parting company with a former partner in a distribution agreement sometimes becomes acrimonious and demands help from legal professionals. Too frequently, where a partnership between a manufacturer and a distributor ends in a legal dispute, the agreement did not treat both parties equally. How does imbalance enter an agreement? The partner that is relatively inexperienced with drafting distribution agreements creates most imbalances. A partner sometimes attempts to stack advantages toward one side of the partnership in an attempt to make it a better deal for itself than for its partner. One partner becomes too shrewd while attempting to make its life better by exploiting the inexperience of the other partner when drafting and negotiating the agreement.

Parties seasoned in distribution agreements understand that imbalance in the wording of an agreement does not promote long-lasting partnerships. The objective of drafting imbalance into an agreement is generally to increase the advantages of one partner over the other. Unfortunately, imbalance leads to legal skirmishes and not to an improved or lasting relationship. Both partners must remember that the primary objective of a partnership between a distributor and a supplier is greater sales, improved market share, better profit margins, or a combination of these goals. The objective of a distributor or manufacturer should never be a list of advantages in an agreement of one partner over another. Resolution of biased agreements regrettably often involves attorneys and courts.

Value v. Verse

Words and phrases cleverly crafted in a distribution agreement rarely extend the life of a partnership between a distributor and a supplier. A partnership survives only so long as both partners believe that there is a benefit to a continuing relationship. Once perceived value erodes, the partnership is finished, followed closely by expiration of the agreement.

Original signatories to a distribution agreement are generally optimistic about launching the new partnership. No one involved with the creation of an agreement looks forward to its demise. Although premature expiration of a relationship between a distributor and a supplier might be disappointing, partners must avoid a legal dispute arising from disengagement.

The breakup of a partnership is not necessarily an improper course of action. When a distribution partnership unwinds, both parties have a choice of focusing on their own respective businesses and attendant customers, or spending management time and company resources on a legal dispute that will still result in the dissolution of the partnership anyway. Executive time, management attention, and financial resources allocated to a legal dispute represent a shift of focus away from the business and away from customers. Since inequitable agreements more frequently result in a legal conflict, striving to create a well-balanced agreement is worth the incremental effort. An ounce of preventive energy striving to draft a balanced agreement is worth a pound of legal energy struggling to avoid a costly award of damages in court.

Examples of Balance and Imbalance

Distribution agreements containing slick phrases and clauses that afford greater power to one partner over another are asymmetric. When partners create an agreement without symmetry, the agreement suffers a higher probability of an early expiration. Partners in an agreement that is uneven might be satisfied during periods when the metrics are favorable: rising sales, increasing market share and climbing profit margins. However, all metrics rise and fall over time. A time-tested partnership must weather declining metrics. If metrics are poor for an extended period, one or both parties may seek an exit from the agreement. Problems with an imbalanced agreement usually surface only when one or both parties wish to terminate the agreement.

As an example, an agreement that allows the supplier to adjust prices only once a year is unfair. A manufacturer must confront changing costs throughout the year. To expect the manufacturer to endure rising costs for an extended period without the short-term ability to pass along those added costs is not reasonable. A balanced approach to changing costs would allow making price changes throughout the year, perhaps on 30-day or 60-day notice. An agreement that allows for termination by only one party disproportionately favors one partner at the expense of another. An agreement that allows one party to terminate the agreement for a broad array of causes or even no cause, while allowing the other party to terminate for a single draconian cause is similarly prejudiced. Be sure to exercise care when drafting the agreement to ensure reasonable balance in the ability of both parties to terminate the agreement. If one party can terminate the agreement for convenience, fairness dictates that the other party has the same ability. Writers of the agreement must remember that the real value of continuing the relationship, not the cleverness and intelligence of the agreement’s author, is the factor that determines the endurance of the distribution relationship.

Conclusion

Distributors and manufacturers need to ensure that a distribution agreement into which they enter is void of lopsided language. A relationship founded on a symmetrical agreement stands a much better chance of growing and developing for a long time. On the other hand, a relationship founded on the inequality of the relative power between two partners is doomed to a premature death. Seeking a balanced agreement is merely a single step that a partner can take to promote the longevity of a distribution partnership.