In the USA, the term “distribution agreement” refers to an agreement between a manufacturer or supplier and a reseller of the manufacturer’s or supplier’s goods or services. The reseller generally is referred to as a “distributor” if it resells to other businesses for further resale. The reseller generally is referred to as a “dealer” (or sometimes as a “retail distributor”) if it resells to end users.
For example, a non-US automobile manufacturer typically sells its vehicles to a national distributor for the USA, which resells the vehicles to local automobile dealers, who in turn sell vehicles to consumers.
There is no regulatory scheme in the USA applicable to distribution agreements as a general class. In most cases, parties are free to enter into a distribution relationship on whatever terms they choose, without any mandated terms or formalities or oversight by any government body. General principles of contract law will apply. However, there are several bodies of law that can or will come into play, depending on the goods or services involved in the relationship.
Uniform Commercial Code
For product distributorships and dealerships, Article 2 of the Uniform Commercial Code (UCC) is an important body of law. Article 2 of the UCC deals with “transactions in goods.” Article 2 has been adopted, with various adjustments, in all 50 states of the USA. Article 2 will apply if the sale of goods is part of the relationship; in some states, the sale of goods must be the “dominant” or “predominant” part of the relationship for the UCC to apply. However, provisions of the UCC are not mandatory; rather, they act in a gap-filling capacity when the private contract of the parties fails to cover a particular issue. The parties are generally free to adopt contract provisions that vary from Article 2. UCC provisions address the formation and modification of a contract for the sale of goods, the performance obligations of seller and buyer, and breach and remedies.
Another body of law critical to distribution agreements is federal and state antitrust (competition) law. All distribution relationships in the USA are subject to these laws. The principal federal antitrust statutes are the Sherman Act, the Clayton Act, the Federal Trade Commission Act, and the Robinson-Patman Act. These laws are enforceable both by government agencies and (except for the FTC Act and portions of the Robinson-Patman Act) by private parties.
The federal antitrust statutes (and their state counterparts, discussed below) set out broad principles that have been refined through countless court decisions over many decades. For distribution agreements, the commercial practices of potential competitive concern are generally grouped as described below.
Vertical non-price restraints. Vertical non-price restraints include exclusive dealing arrangements, exclusive distributorships, customer restrictions, and territorial restrictions. The legality of such provisions has long been tested under a flexible “rule of reason” standard. This standard requires an analysis of the actual competitive effects of the restriction in a properly defined product and geographic market. In practice, vertical non-price restraints are rarely found to be unlawful, and then only in circumstances where the seller has “market power” in the properly defined market. The courts generally hold that a seller with less than a 30% share of the relevant market does not have market power.
Vertical price restraints. Vertical price restraints (also known as resale price maintenance or RPM) are restrictions by the seller on the resale pricing practices of buyers. For decades, dictating a buyer’s resale prices was deemed to be per se illegal – i.e., illegal without regard to proof of anti-competitive effects in the particular case. Therefore, a supplier could not set either the maximum price or the minimum price at which an independent distributor resold the supplier’s goods. However, in 1997, the US Supreme Court changed the federal antitrust rules with respect to setting maximum resale prices. Ten years later, the Supreme Court similarly changed the rules with respect to setting minimum resale prices. Since these landmark decisions, vertical price restraints under federal law – whether maximum or minimum prices – have been tested under the rule of reason, just like vertical non-price restraints. The 2007 Supreme Court decision to change the rule for minimum prices was controversial when announced; in particular, some prominent state enforcement authorities announced that they would not change the rule of per se illegality for minimum resale price restraints under their state antitrust laws.
Minimum purchase targets and restrictions on sources of supply. Purchasing requirements and restrictions imposed by a supplier on a distributor may raise exclusive dealing issues or “tying” issues under the antitrust laws. A tying arrangement is one in which the supplier conditions the sale of one product (the “tying product”) on the buyer’s agreement to purchase a separate product (the “tied product”) from the supplier or its affiliate, or from a third party who pays a rebate or commission to the supplier. Tying arrangements can be challenged by a buyer who is subject to the restriction or by a competing seller who is foreclosed from the buyer by the restriction. Under general principles of tying law, a tying arrangement will not be deemed unlawful unless the seller possesses sufficient market power in the market for the tying product to enable it to restrain trade appreciably in the market for the tied product.
Price discrimination. The Robinson-Patman Act prohibits certain forms of price discrimination by a seller between competing buyers. The Act applies only to the sale of tangible goods. If one distributor must pay the supplier a higher price for goods than the supplier charges to other buyers with whom the “disfavored” distributor competes, the disfavored buyer may be able to assert a price discrimination claim. A competing seller also can challenge price discrimination. However, the jurisdictional requirements for a claim under the R-P Act are many, and proof of a violation is extremely difficult.
State antitrust laws. All 50 states and the District of Columbia, Puerto Rico and the U.S. Virgin Islands have their own antitrust statutes, such as the Cartwright Act in California and the Donnelly Act in New York. Most states, either by statute or by case law, give deference to case law precedent under the federal antitrust laws in applying the state antitrust statute. However, some state antitrust authorities strongly opposed the change in federal law regarding vertical minimum price restraints. Enforcement authorities in New York, California, Illinois and Michigan publicly took the position that minimum resale price maintenance would remain per se illegal under their existing state laws, and the state of Maryland passed legislation to codify the rule of per se illegality for minimum price restraints in that state.
Nevertheless, in practice, there have been few recent lawsuits or state government enforcement actions targeting minimum RPM in distribution networks. One possible reason is that few suppliers, in practice, have been setting minimum resale prices, because of the continued uncertainty and risk at the state level. Suppliers wishing to set minimum prices for US distributors must recognize that this practice could still be considered per se illegal in certain states. In practice, when suppliers do impose resale pricing restrictions, they are usually maximum prices. Another possible reason for the lack of RPM lawsuits is that suppliers have satisfied their business objectives by using techniques that have been found not to constitute RPM, such as “minimum advertised price” or “MAP” policies.
The third body of law critical to distribution agreements is federal and state statutes governing termination or other aspects of distribution relationships in particular industries. At the federal level, the Automobile Dealers Day in Court Act and the Petroleum Marketing Practices Act govern relationships between suppliers and automobile dealers and gasoline retailers, respectively. At the state level, the industries affected include car, truck and motorcycle dealers, farm equipment dealers, construction and industrial equipment dealers, liquor wholesalers, beer and wine distributors, boat and snowmobile dealers, applicance dealers, and garden equipment dealers, among others.
A few states and US territories have statutes governing termination of dealerships generally. These include Alaska, Delaware, Maryland, Rhode Island, Wisconsin, Puerto Rico, and the U.S. Virgin Islands.
A word on Franchise laws
While a properly constructed distribution agreement will not constitute a “franchise” under federal and state franchise investment laws, it is not difficult for a distribution agreement to cross the line. The principal distinction is that the distributor does not pay any up-front or ongoing fee for the privilege of selling the supplier’s goods. Although distributors do pay the supplier for products, the federal and most state franchise laws provide that the purchase of products at a bona fide wholesale price for resale does not constitute a “franchise fee,” and thus no franchise exists. In addition, the control that the supplier exercises over the distributor’s business operations may fall short of the level of control necessary to create a franchise relationship.
However, there is a long line of cases, typically involving the termination of a distributor or dealer, in which the terminated party has claimed to be a “franchisee” and thus entitled to statutory protections for franchisees. Minimum purchase requirements are relevant to this issue; in jurisdictions where the payment of a “franchise fee” is an element of the “franchise” definition, requirements to buy excessive amounts of inventory have sometimes been deemed to satisfy the “franchise fee” element.