What is a Commercial Agent and what does it mean?
A Commercial Agent is someone who is a self-employed intermediary who has continuing authority to negotiate and/or conclude the sale or purchase of goods on behalf of another person (the Principal). Commercial Agents are often used to introduce Principals to new buyers in new territories where the Principal has little experience of operating. An Agent will usually have their existing contacts, local knowledge and experience from which the Principal can benefit and it can be a quick and relatively straightforward way for a Principal to develop business in territories where they want to expand.
We have advised principals and agents in a variety of sectors including fashion and food/drinks, and the relationship generally works well for both parties. However, there inevitably comes a point when the Principal decides that it’s time to take the Agent’s functions in-house at which point, the relationship comes to an end. It is also at this point when the Principal will receive a letter from their Agent requesting a rather hefty payment. This is often the first that the Principal will hear about concepts such as Compensation, Pipeline and/or Indemnity payments and it is also the worst case scenario because – not having anticipated it – the Principal has not budgeted for it either. Regardless, however, the payments due can potentially be very high depending on the value that the agent has brought to the business over the years.
In this article, we discuss the application and effect of the Commercial Agency Regulations in both Italy and England and what the parties need to think about when entering into a new agreement. We also consider how parties might approach a situation when there is a potential or actual claim under those Regulations.
The Commercial Agents Regulations – what are they?
Both Italy and England have implemented the European Directive on self-employed commercial agents (the ‘Regulations’). In England, it is important to note that the Regulations continue to apply post-Brexit. However, how they will be applied in the longer term remains to be seen. In Italy, agency agreements are regulated by Articles 1742 to 1753 of the Civil Code, which have been modified in accordance with the Regulations. In addition, they may also be affected by other rules, provided by some Collective Labour Agreements (the so called ‘AEC’), to the extent that both the agent and the principal are parties to such organizations, or such rules have been expressly referred to in the contract.
The Regulations impose a minimum (and mandatory) standard of rules in every commercial agency relationship to which the Regulations apply. The parties may be able to exclude the application of some of those rules, but if they do not, they will be deemed to apply by default.
When and to what types of relationship do the Regulations apply?
The Regulations apply to self-employed commercial agents who have a continuing authority to negotiate and/or conclude the sale or purchase of goods on behalf of its Principal. This includes marketing and introduction agents.
They will apply to a commercial agency relationship where the agent carries out its activities within the EEA.
What do the Regulations say?
As each Member State has implemented the Regulations into their local law differently, it is important to understand which law governs the relationship (if the contract does not expressly state this) and get the right advice in the right jurisdiction at the right time.
If the Regulations apply, in addition to any duties owed under the terms of any contract, the agent will also owe specific duties to its principal prescribed by Regulation 3, including the duty to look after the interests of the principal, to act dutifully and in good faith. It must make proper efforts to negotiate and (if appropriate) conclude those transactions it is instructed to deal with and to communicate to its principal all necessary information available to it. The Principal will also owe certain duties to the agent, including those of acting dutifully and in good faith as well as the provision of certain information rights. The duties owed to and from principal and agent are mandatory duties, and they cannot be disapplied by agreement.
ii) Payment of commission
There are also detailed provisions in the Regulations relating to how commissions should be calculated and when they should be paid, some of which are mandatory and some of which are not. Particularly where there are multiple agents working in different territories, it is important to define in the contract when commissions fall due and when. Otherwise there is a risk that the principal will have to pay double commissions on the same transaction (for example where one agent has exclusive rights over a specific territory but another agent makes the relevant sale).
iii) Termination rights
The Regulations contain minimum notice periods that a principal must given the agent if it wishes to terminate the relationship. This is the case under both Italian and English law. The minimum notice periods in England are one month for the first year, two months for the second year and three months for the third year or thereafter. Likewise, In Italy the minimum notice period is one month per each year of the agency, up to a minimum of six months for the sixth year or thereafter.
Compensation or Indemnity payment
Where the principal terminates the agency agreement (other than where it has done so for the agent’s breach), the principal will be required to make mandatory payments to the agent by way of compensation for the loss of its business. This is called a “compensation” or “indemnity” payment and which one applies will depend on what the parties did (or did not) elect in their contract and/or what the applicable law is.
Under English law, the parties may elect between compensation or indemnity. However, if the parties fail to make an election, then the compensation alternative will apply by default. This is not a difference without a distinction: while both payments are intended to compensate the agent for the goodwill it has generated for its principal – the fruits of which the principal will continue to enjoy in the future, but which the agent will not – they are calculated very differently. The indemnity is payable if and to the extent that the agent has introduced new customers (or significantly increased business from existing customers) and it is calculated by reference to the agent’s average commissions over the previous 5 years, capped at 1 year. Whereas compensation is calculated by reference to the loss of the value of the agency. The value of the agency is the amount that a hypothetical purchaser would be willing to pay for it as at the date of termination. Usually, a Valuation Expert would be appointed to value the business for the purposes of determining the appropriate level of compensation to be paid. Generally, if the business is a successful one, then the compensation alternative will usually work out to be more expensive for a principal than the indemnity alternative.
Under Italian law, only the indemnity alternative is available to an agent, which is calculated largely in the same way as in England, but the Italian courts retain a large discretion to award less than 1 year’s average if the circumstances deem that to be proportionate and fair. It should also be noted that the AEC, provide for a specific and different method of calculation of the indemnity – although, following a judgment of the European Court of Justice in 2006 – such method can be applied only to the extent it is more favorable to the agent.
Post-termination commissions payment
In addition to a compensation or indemnity payment, the principal must also pay commissions on transactions concluded before the termination as well as commission on transactions concluded ‘within a reasonable period’ after the termination of the agency where those transactions were concluded for reasons mainly attributable to the agent’s efforts. The reasonable period is not defined and will depend on the facts of each individual case.
What does this mean for Principals and Agents
If the ingredients are present, then there is no escaping the Regulations. It is by far preferable for the parties to negotiate and define the terms which will regulate their relationship at the start of their relationship. This enables the Principal to make an informed decision in advance about whether an agency is the type of relationship it wants (and can afford) to have, and to budget accordingly.
However, many Principals and Commercial Agents are already working together (and may have been for some time) unaware that the Regulations apply to their relationship. Some principals may have already terminated without realising that a claim could be looming (under English law an agent has a year within which to elect whether it intends to claim compensation or indemnity). For those Principals, it is a case of finding a way to address the situation with their Commercial Agent in order to seek to regulate their relationship and the terms in the event it should come to an end.
In our experience, most agency claims settle before litigation becomes necessary, either by structured and assisted negotiations or by a formal mediation. This is an approach which all parties should consider before resorting to formal court action as it will help to maintain good relations as well as continuity of business with buyers.