Choice of law: Best legal strategy (44.178Kb) - DOWNLOAD

When negotiating any kind of commercial contract you're bound to concentrate on the deal. How much will your margins be? Can you get rid of your channel partner if they're not meeting sales targets? If you do get rid of them, are you going to have to pay compensation? After trawling through ten pages of a longwinded distribution agreement it is natural for your attention to begin to wane. However, right there at the bottom of the last page, lurks the all-important "Applicable Law" clause.  Now is not the time to begin napping.  Wake-up and pay attention!  

Everyone knows  different countries have different legal systems. Less well known is that different legal systems have vastly different approaches to the law relating to channel management.  Some strongly favour the supplier; some the channel partner. You may be able to benefit from the difference between these approaches.  The choice of law is yours … to some extent.  This can be a strong weapon in your armoury.

Sadly, sometimes there are laws that you just can’t avoid.  In Belgium (which is notoriously "pro-distributor") you will always end up having to pay compensation to a distributor upon termination of an indefinite, exclusive contract being performed within Belgium. It makes no difference if the contract says that another law will apply. It will not.

So, how do you avoid the application of a mandatory law? It is not always possible, but knowing the law helps. Back to our Belgian example: why not use a fixed term agreement, instead of an indefinite term agreement?  This technique and the choice of English law will protect the supplier. By planning for possible conflicts you can easily avoid  paying six to eighteen months of distributor’s profits.  Undeniably, this is an issue well worth your time.
Unfortunately, when doing business in the Middle East  you are less likely to be able to apply the law of your choice.  In Kuwait, Saudi Arabia, and Lebanon the law of the place of performance of the contract will superceed anything you provide in the agreement.

A client of ours (a luxury food manufacturer) was delighted with the distribution agreement they had negotiated for themselves; no indemnities, no liability for almost anything and their own choice of law. When their Kuwait based distributor started giving them headaches, our clients terminated the contract, secure in the knowledge that the contract provided that no compensation was payable. Of course, about a month later they received a summons to appear in the Kuwaiti courts. It would be fair to say that the Kuwaiti judges were less than impressed by our client's contractual efforts to avoid Kuwaiti law in favour of English law.

“The Kuwaiti judges were less than impressed...”

Constraints of space prevent me from including a country-by-country guide to which laws are favourable to a supplier and which are not. Very generally speaking, you will find that the continental European legal systems are more favourable to distributors than the legal systems of the UK, Scandinavia and Switzerland.

When dealing with an agent as opposed to a distributor, at least in Europe, the advantage to be gained from a cleverly worded choice of law clause is much smaller, certainly with regard to the payment of compensation to agents upon termination.

Finally, it is of course common to find an arbitration clause next to the choice of law clause. These should also stipulate what law will be applied and in which arbitration forum (International Chamber of Commerce, American Arbitration Association, other chambers of commerce) the case will be heard. Again, this choice can be important. You are more likely to have an arbitration settled quickly in Switzerland than you are in the UK.

As an aside, I hate to see arbitration clauses, which stipulate that three arbiters will decide the case.  Depending on the type of case, each costs around 25,000 Euros, so go for one and save the cost of a luxury car. In our experience, if you are a supplier, provide first for mediation to settle a dispute.  It is fast and cheap.  Failing a successful mediation, a choice must be made between arbitration or litigation in local courts.  This is a subject for another article.

Thus, can parties to a distribution agreement choose the applicable law?  Not always.  What is the best legal strategy?

1. Determine whether the local law of the distributor is mandatory.  If so, can you avoid it by adapting your agreement, e.g., exclusive v. non-exclusive? fixed term v. indefinite term?
2. If you have a choice, make the right choice.
3. If the application of local law is unavoidable, to what will local law apply, i.e., advance notice? termination? indemnities?

In my next article I'd like to look at the issue of trademark protection. Failure to protect trademarks can have disastrous consequences.  New legislation came into force on 1 October 2004.  Now is a good time to review your existing arrangements.