By Jerry Meek (January 24, 2016)

It is common for distribution agreements to have both choice of law and choice of forum clauses.

Through a choice of law clause, the parties agree that the contract will be interpreted – and usually any dispute decided – under the laws of a particular State or country. Through a choice of forum clause, the parties agree that any dispute between them will be resolved exclusively (or at either party’s election) before a particular Court or arbitrator.

Choices of law and forum are especially important in international distribution agreements. In the international setting, the decision where to litigate a dispute or under which laws could dramatically alter the parties’ rights or render the decision to pursue a claim impractical. U.S. courts generally enforce both types of clauses, regardless of where the parties sign the contract or where it is to be performed.

Recently, a New York State Court – relying on choice of law and forum clauses – ordered a distributor to halt its pending action in the Australian courts, even after an Australian Court refused to enforce those same clauses. In Madden International Ltd. v. Lew Footwear Holdings Pty Ltd., 2016 N.Y. Slip. Op. 50061 [U] [Sup. Ct. New York County 2016], Madden’s distributor for Australia and New Zealand filed suit in Australia, asserting claims in part under the Australian Trade Practices Act of 1974 and the Australian Consumer Law.

The distribution agreement between the parties provided that the agreement “shall be governed by and construed in accordance with the laws of the State of New York” and that “any and all actions or proceedings arising out of or relating to this Agreement or the transactions contemplated herein shall be exclusively heard only in [New York] state or federal court.”

The distributor acknowledged that it brought suit in Australia only because Australian law permitted it to pursue claims unavailable to it in New York. Invoking the choice of law and forum clauses, Madden attempted to stop the Australian proceeding, but the Australian Court rejected Madden’s argument, citing Australia’s public policy interest in enforcing laws designed to protect the people of Australia. “[I]f it were otherwise,” the Australian Court noted, “foreign corporations could place themselves outside the protection provided by this fundamental and important legislation which governs commercial interaction throughout Australia.”

Undeterred, Madden then filed suit in New York, asking the Court to enjoin the Australian proceedings and to prevent the distributor from pursuing any legal action outside of New York. In granting the relief sought by Madden, the Court observed that the distributor “has purposely flouted” the parties’ choice of law and forum clauses and “deliberately ignored” its contractual obligations. The Court also rejected the argument that it should defer to the judicial decisions of the Australia courts, under principles of international comity. “New York courts,” it ruled, “have a particularly strong public policy commitment to protecting New York based corporations’ New York contractual forum selection and New York choice of law provisions.” This “strong public policy” and the distributor’s “purposeful disregard of its contractual obligations in favor of an unsanctioned suit in its home country of Australia,” according to the Court, did not favor the exercise of comity.

The New York Court’s decision is a reminder that choice of law and forum clauses can have real consequences and that U.S. Courts will apply them, even in the unusual case in which doing so contradicts the decision of a foreign sovereign’s Courts.

Of course, the New York Court has no power over the Australian Courts and the distributor is an Australian company. So, one can suppose that this dispute is far from over.

By Jerry Meek (January 19, 2016)

Is the relationship between manufacturer and distributor simply that of seller and buyer? Should this relationship be governed by the same legal rules governing ordinary sales transactions?

In the recent case of Precision Indus. Equip. v. IPC Eagle, 14-3222 (E.D. Pa. January 14, 2016), the plaintiff entered into an oral distribution agreement to distribute the defendant’s line of cleaning equipment and machines. According to the distributor, the manufacturer promised not to sell directly to any its customers. The manufacturer denied this, contending instead that the distributor was told that “large national account customers” need to “be handled through” the manufacturer.

According to the distributor, in the same meeting at which this oral agreement was reached the distributor informed the manufacturer of the identity of a national building service contractor for which it did work. Nine months later the manufacturer contracted to sell direct to this account. The distributor sued, alleging breach of contract. The Court dismissed the claim, ruling that – evening assuming that the manufacturer had promised not to sell direct to the distributor’s customers – this promise was unenforceable.

Generally, oral agreements are just as enforceable as written agreements – although their terms may be harder to prove. Article 2 of the Uniform Commercial Code (which has been adopted, in some version, by every State except Louisiana) provides, in part, that contracts for the sale of goods over $500 must be in writing, unless one of several exceptions applies. If, as the Court concluded, this is a contract for the sale of “goods,” then Article 2’s limitation would bar the distributor’s claim. If, in contrast, the contract is for something other than the sale of goods, then general principles of contract law would apply, under which the oral agreement would be enforceable.

In some ways a distribution agreement is a contract for the sale of goods. It is a contract for the future sale of goods by the manufacturer to the distributor and – to this extent – does fall within the scope of Article 2. But, as channel partners well understand, the relationship goes well beyond that of mere buyer and seller. In addition to a contract to sell goods, it is a contract granting certain intangible rights – usually including the right to use the manufacturer’s mark as an authorized distributor and the right to an assigned territory in which it enjoys exclusivity. It also frequently involves service obligations, including the obligations to service goods while under manufacturer’s warranty, to maintain certain staffing and facilities, and to generally promote the sale of the manufacturer’s products. It sometimes even includes a commitment by the distributor not to distribute competing products.

International distribution law takes account of the complex nature of the supplier-distributor relationship. The U.N. Convention on Contracts for the International Sale of Goods (CISG) governs the cross-border sale of goods among the 84 countries (including the United States) that have ratified it. While the CISG applies to sales of goods in which quantity and price are known, it generally does not apply to framework agreements – such as distribution agreements – designed to govern future sales.

Article 2 is essentially the domestic U.S. version of the CISG. Unfortunately, most U.S. courts resolve the issue of whether Article 2 or general U.S. contracts law applies by determining whether the predominant purpose of the agreement is for the sale of goods or for some other purpose. Since the ultimate purpose of a distribution agreement is typically the sale of goods, it is not surprising that most Courts that have considered the question have concluded that Article 2 governs such relationships. The implications are significant, since Article 2 imposes a host of rules at variance to general principles of contract law.

The CISG approach more fully accounts for the complex nature of the distribution relationship than the approach taken by the Court in Precision Indus. Equip. v. IPC Eagle and in most other U.S. decisions. Unfortunately, this attempt to pigeon-hole the relationship as predominantly one for the sale of goods or something else trivializes the nature of the relationship. It fails to appreciate that, while the relationship is in part that of buyer and seller, it is also much more.

By Jerry Meek (January 16, 2016)

The typical distributor enjoys few statutory protections against termination by a manufacturer. Unless the relationship is for the distribution of one of several traditionally protected products – notably alcohol, motor vehicles, or farm, industrial, construction, or outdoor power equipment – the distributor’s only defense to termination may be the provisions of the distribution agreement itself.

But if the distributor is operating in a state that has enacted a franchise relationship law, the distributor may argue that it was a franchisee rather than a distributor, thus entitling it to statutory protection.

One such attempt was recently rejected by the Court in Rogovsky Enterprise, Inc. v. MasterBrand Cabinets, Inc., 3:15-cv-22 (S.D. Ind. November 30, 2015). Rogovksy Enterprise was the franchisor of kitchen and bath design and remodeling businesses, operating under the tradename KHI. KHI entered into an “Exclusive Distribution Agreement” with MasterBrand Cabinets, pursuant to which KHI agreed to require its franchisees to purchase their cabinets exclusively from MasterBrand in exchange for a 15% rebate from MasterBrand to KHI.

As alleged by KHI, MasterBrand terminated the agreement after MasterBrand’s pre-existing network of dealers complained about the added competition. KHI sued, arguing in part that it enjoyed the protections of franchise relationship statutes adopted by nine States.

The Court noted that – generally – a distribution relationship is properly characterized as a franchise where: (1) the franchisee makes a required payment to the franchisor or its affiliate; (2) the franchisor grants the right to use a trademark associated with the business; and (3) the franchisor has the right to exert significant control over, or promises to provide significant assistance in, the franchisee’s business. The Court dismissed KHI’s claims under prongs 1 and 2, without discussing prong 3.

As to the first prong, KHI argued that the requirements under the distribution agreement that it remodel its showroom, sell only MasterBrand products, and pay for training provided by MasterBrand to KHI employees constituted monetary and non-monetary fees required by the agreement. The Court rejected the argument. While the “remodel arguably provided some indirect benefit to MasterBrand, it primarily benefited” KHI and thus did “not constitute a direct or indirect fee paid to MasterBrand.” In addition, although the agreement permitted MasterBrand to invoice KHI for any training it provided, there was no allegation that MasterBrand ever sent such an invoice or that any such payment was ever made. Finally, the Court ruled that non-monetary consideration such as the promise to sell exclusively MasterBrand cabinets does not constitute a franchise fee under the governing statutes.

Turning to the second prong, the Court rejected the argument that KHI’s business was substantially associated with MasterBrand’s trademark. While the agreement did grant KHI the right to use MasterBrand’s mark “to advertise and promote the sale of” MasterBrand cabinets, it did not grant KHI the right to use the MasterBrand trademark to sell KHI franchises. In fact, in KHI’s Franchise Disclosure Document (required under federal law in order to sell franchises), there’s no reference to the MasterBrand mark. Presumably the Court finds this distinction relevant because KHI is in the business of franchising, rather than selling MasterBrand cabinets.

Having failed in its attempt to characterize itself as a franchisee, KHI now moves forward on its contention that MasterBrand breached the distribution agreement between the parties. Although other distributors have enjoyed more success invoking the protections of franchise relationship laws, the distribution agreement itself is always the distributor’s first line of defense.

By Jerry Meek (January 15, 2016)

In 2013, New Hampshire repealed its existing heavy equipment dealer protection statute and expanded its motor vehicle dealer protection statute to include within the definition of a “motor vehicle” certain farm, utility, industrial, and construction equipment. The net effect was to expand the protections afforded to heavy equipment dealers by limiting manufacturers’ power to relocate dealers or add additional dealers to an existing territory.

A flurry of lawsuits by manufacturers ensued, alleging that the new provisions unconstitutionally impaired existing contracts in violation of the U.S. and New Hampshire constitutions and violated the Supremacy, Equal Protection, and dormant Commerce Clause of the U.S. Constitution.

Assuming that the law retroactively and substantially affected existing contracts, the New Hampshire Supreme Court held that the law’s impact on existing contracts was a constitutional exercise of government power. “The purpose of [the law] – to protect equipment dealers and consumers from perceived abusive and oppressive acts by manufacturers – is unquestionably a significant and legitimate public purpose.” Deere & Company et.al. v. State of New Hampshire, 2014-0315, 2014-0441, 2014-0575 (December 29, 2015). Numerous federal and state courts, the Court added, “have concluded that protecting dealers and consumers from the oppressive acts of manufacturers constitutes a legitimate public purpose.” This law was enacted, not as special interest legislation, but to address “a broad, generalized economic or social problem.” It reflected a reasonable approach to accomplishing “the legislature’s goal of preventing equipment manufacturers from engaging in abusive and oppressive trade practices.”

By creating liability for manufacturers who require dealers to agree to arbitration clauses in dealer agreements, the law did violate the Federal Arbitration Act, in violation of the Supremacy Clause of the U.S Constitution. But this provision, according to the Court, was severable from the remaining provisions of the law and thus did not impair the constitutionality of the law’s other provisions.

After rejecting the Equal Protection argument, the Court dismissed the argument that the law had the unconstitutional purpose or effect of discriminating against out-of-state manufacturers. The Court then remanded the case to the trial court to determine whether, under the Pike balancing test, the law places a burden on interstate commerce that “clearly outweighs” legitimate local benefits.

By Jerry Meek (January 14, 2016)

When one party places its faith, confidence, and trust in another, with the expectation that the latter will act for its benefit, the law typically imposes upon the latter a duty to act for the benefit of the former, with loyalty and pursuant to a higher duty of care. These “fiduciary duties” often automatically arise out of the nature of the parties’ relationship. Officers owe such duties to the companies they serve, as do lawyers to their clients and doctors to their patients. But, even when fiduciary duties don’t result from the status of the parties, they may still exist given the specific circumstances of the parties’ relationship.

Buyers and sellers typically owe no fiduciary duties to each other. After all, it’s a relationship of mutual exchange for mutual benefit, with each party acting in its own best interest. While the relationship of a manufacturer to its distributor is at its core one of buyer and seller, there’s often more to it. Under what circumstances can this relationship give rise to fiduciary duties?

In Plastech Holding Corp. v. WM Greentech Automotive Corp., 14-cv-14049 (E.D. Mich. Jan. 8, 2016), an importer, distributor, and developer of automobile products sued its OEM, alleging – in part – breach of fiduciary duties. According to the Court, “[i]t is true that a traditional relationship between a manufacturer and its distributor, without more, has often been found not to be a fiduciary one.” But here the plaintiff had alleged sufficient facts to plausibly give rise to the existence of a fiduciary relationship.

The relationship between this distributor and its manufacturer, the Court held, was arguably not the “traditional, run-of-the-mill manufacturer-distributor relationship for which no fiduciary duties could ever arise.” Here the distributor had invested millions of dollars assisting the manufacturer to prepare the product for the U.S. market, offering everything from engineering assistance to market intelligence. In fact, for almost a year, the distributor provided additional technical and other assistance to the manufacturer that it was not even required to provide under the distribution agreement. “By alleging a combination of services that not every distributor performs,” the Court held, the distributor “articulates a relationship that may be arguably different from the standard vendor-vendee relationship that exists between a manufacturer and its distributor.” This relationship, according to the Court, would require more of the manufacturer than would be required of the typical self-interested seller.

Finally, according to the Court, the existence of confidentiality, non-use, and non-disclosure agreements between the parties supported the conclusion that their relationship was fiduciary in nature.

By Jerry Meek (June 26, 2015)

In Luv N Care, Ltd. v. Angel Juvenile Products, 3:11-1878 (W.D. La. June 8, 2015), Plaintiff Luv N Care, Ltd. entered into two five-year distribution agreements with the Defendants, giving the Defendants exclusive rights to distribute the Luv N Care’s line of infant care products in China and Taiwan. The agreements required the Defendants to make minimum purchases of the Luv N Care’s products and to pay a 6% royalty to Luv N Care on all sales.

More than a year into the agreement, the Defendants had failed to make any of the required minimum purchases or to pay any royalties, prompting Luv N Care to demand payment. “If full payment is not received within 14 days of today,” it wrote in an October 14, 2003 letter, “then Luv n’ care Ltd. considers both contracts voided as of that date. As of that date, Luv n’ care demands payment for the full term of the contracts, as it considers both contracts to be accelerated in nature.”

No payment followed and in December of 2004 Luv N Care later entered into a new agreement, giving exclusive rights for one of the two territories to a new distributor.

In the resulting litigation, Luv N Care contended it was entitled to recover royalties on the promised minimum sales for the full five year duration of the agreements. The Defendants countered that Luv N Care’s October 2003 letter effectively terminated the agreements, thus ending any obligation pay royalties and sharply limiting the amount of royalties recoverable.

According to Luv N Care, the October 2003 letter was just a “scare tactic” that did not act to terminate the agreements. The distribution agreements, they pointed out, provided that the agreements could be terminated by mailing written notice of termination, by registered mail, at least 180 days prior to the effective date of the termination. This, all parties concede, they did not do. Besides, the terms negotiated with the new distributors were less favorable to Luv N Care than those in Luv N Care’s agreements with the Defendants, given that competitors were aware of the existing agreements between Luv N Care and the Defendants.

In granting the Defendants’ Motion for Partial Summary Judgment, the Court concluded that the October 2013 letter was effective to terminate the agreements effective 14 days thereafter. Thus, the Plaintiff was not entitled to recover royalties during the full five year term of the agreements.

The decision offers two lessons.

First, imprecise drafting of the distribution agreements undermined Luv N Care’s position. Twice the Court noted that the agreements lacked an acceleration clause, pursuant to which future royalty obligations would come due immediately upon breach or upon termination for breach. Inclusion of such a clause could have changed the Court’s decision. The agreements also apparently lacked any procedure by which Luv N Care could declare the Defendants in breach and terminate the agreements, while preserving the Defendants obligation to pay minimum royalties over the full five year term.

Second, Luv N Care’s “scare tactic” clearly backfired. Its October 2003 letter could have stated that, if payment were not received, Luv N Care would consider the Defendants to be in breach and take steps to mitigate its damages by entering into agreements with new distributors. This would have preserved Luv N Care’s ability to recover its damages for the full five year term. Alternatively, Luv N Care could have threatened to invoke the agreements’ 180-day notice of termination provisions, in the event of continued non-payment. This would have given Luv N Care more time to find new distributors, while also lengthening the period during which the Defendants were obligated to pay royalties. Instead, Luv N Care overplayed its hand.