Signing a distribution agreement with a local distributor in the United States of America is one of the most effective and common ways for foreign companies to enter the American market. It is also a great way to test whether a product can be marketed in the United States, without taking too many risks.
The distribution agreement is a very straightforward contract wherein the distributor purchases the goods from supplier for resale in a predetermined geographic area (most commonly known as the Territory) and it will be required to pay the price to supplier whether or not the sales will be profitable.
Working with a local United States distributor also allows the foreign manufacturer to avoid the significant costs associated with setting up its business in the United States, such as cost of hiring staff, buying or renting an office, warehouse etc.
A hybrid solution, halfway between a distribution contract and direct sales in the United States, may be to enter into a partnership with the American distributor. This represents a way to earn more profits, as well as exert close control over the distributor’s operations.
Foreign manufacturers that enter into a distribution agreement with American companies may soon realize the existence of potential significant risks. Distance, language barriers and cultural differences may pose unique challenges to a healthy business relationship.
Distributors, in fact, may violate exclusivity or non-compete provisions, unlawfully appropriate brands, patents or domain names or simply fail to pay the price for the products. In other instances, the distributor may simply fail to properly promote the product or allocate adequate resources to create or develop opportunities to sell the products.
For all of these reasons, it becomes essential to regulate the relationship with the distributor via a written agreement that will detail the respective rights and obligations of the parties, and the remedies available in the event of default.
Key provisions in distribution agreements in the United States
This clause guarantees the distributor’s right to be the exclusive reseller of the products in a given territory. For obvious reasons, an American distributor will be reluctant to accept to sell suppliers’ products without being protected by an exclusivity provision.
This clause defines the distributor’s Territory, i.e. where it will be allowed to sell the products. It is important to be cautious though. Before agreeing to a specific Territory, it is crucial to verify that the distributor has sufficient means and logistics to cover that territory.
In general, it is good practice to allow the distributor to operate in only one or just a few states. If the relationship continues satisfactorily for both parties, supplier may then agree to include additional states or areas.
Selling online generally conflicts with geographical limitations. As such, online sales must be strictly regulated within the distribution agreement.
Duration and termination
It is necessary to clearly define the term of the agreement and the events of default leading to termination. It is never advisable to rush into a long-term relationship with the distributor, at least initially. It is often best to start with a one-year term, automatically renewable unless canceled upon prior notice.
Likewise, it is crucial to establish the conditions allowing immediate termination due to a distributor’s breach. For instance, if the distributor is not performing according to predefined sales targets, sells competitive products despite a non-compete clause, declares bankruptcy etc., the supplier should have the option to terminate the agreement without notice.
Minimum price, orders and quantities
The price of the products, the method of payment and other payment terms are obviously among the main provisions of the distribution agreement in the United States. The supplier must reserve the right to change prices upon appropriate notice to the distributor.
A minimum price per product can be established as per these terms, ensuring that is not considered an anti-competition practice. In some cases, establishing a minimum price can be justified in order to protect the commercial reputability of the product.
It is also possible to establish a minimum quantity of purchase orders that the distributor must make in a given period of time. If orders fall below this threshold, certain remedies may be triggered, including termination of the distribution agreement.
Shipment and transfer of risk
It is particularly important to establish the terms and conditions of shipment in international distribution agreements entered with United States companies. The supplier should try to include an Ex Works clause (incoterm EXW).
Based on such provision, shipment of the goods takes place at the expense of the distributor. Also, the risk of loss passes to the distributor once the goods are tendered to distributor’s carrier at supplier’s premises ready for shipment.
However, in cross border contracts, the Ex Works clause presents some practical difficulties, given that the manufacturer must somehow remain involved in the customs clearance process once the goods enter the United States.
Use of the trademark
It is extreme important for supplier to register the trademark prior to entering into any distribution contract in the United States. Sometimes US distributors unlawfully registered those marks directly on their names and to get them back could be a real nightmare.
For this purpose, it is necessary to include a clause in the distribution agreement that defines with certainty the ownership of the trademark and also establishes that any use thereof must occur with the prior approval of the supplier.
For an overview of the process of registering a trademark in the United States, please read through our articles on How to Register a Trademark in the United States and Trademark Registration in the United State and Likelihood of Confusion.
A distributor in the United States should be prevented from selling products that compete with those of the supplier, as well as starting another business directly or indirectly involved in the sale of competing products both during and after the termination or expiration of the contract, within certain limitations.
However, non-compete clauses should be drafted with care avoiding too broad provisions both timewise and geographically, which may be deemed to unlawfully restrict competition.
For instance, a clause preventing the distributor from conducting a competing business nationwide for a period of 10 years after termination, it will be most likely considered null and void.
In certain distribution arrangements, the distributor may come in contact with manufacturing processes, trade secrets, know-how, customers lists etc. that are central to the supplier’s business. It is therefore absolutely crucial to include a confidentiality clause in the distribution agreement to prevent the distributor from misusing or disclosing such confidential information.
As a deterrent, it is also appropriate to include a liquidated damages clause, pursuant to which, the distributor will be required to compensate the supplier with a predetermined amount of money in the event of breach. The supplier will be not be required to prove the actual amount of damage (but only the breach of the said clause).
Applicable law and jurisdiction
It is also extremely important to set forth the applicable law and the jurisdiction over potential disputes. It seems just logic that the distribution agreement be regulated by the laws of the country or state where the distributor operates.
It is a common belief among foreign manufacturers that the law governing a distribution agreement with a United States’ business partner should be that of the supplier’s country. However, commencing a lawsuit against a US defendant in the supplier’s country makes litlle to no sense.
In fact, even assuming that supplier will be able to properly serve distributor and then obtain a favorable decision (most likely after several years of litigation during which the US distributor will have probably opened and closed a dozen companies), if the US distributor does not comply voluntarily with the foreign judgment, supplier will be required to domesticate the judgment in the United States and then enforce it.
This must be done through a special proceeding that is often lengthy and may not even result in the desired outcome. Overall, you may waste several years and still get nothing out of it.
The best solution is, therefore, to keep jurisdiction in the United States where lawsuits, although more expensive, are also faster, more effective and can be immediately enforced by the prevailing party.
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