Most international companies prefer operating in Israel through domestic business partners, rather than setting up their own local operation. Such local partners – distributors or agents – assume all or a portion of the local marketing, sales, and distribution efforts.
The engagements between international companies and their local partners are usually performed by way of either distribution or agency agreements. Different legal provisions apply to such engagements, and the commercial and legal arenas make clear distinctions between the functions of distributor and agent.
Who’s Who?
Israel adopts the commonly used distinction between distributors and agents. In this context, a distributor is an independent local dealer that purchases goods from the international supplier, at its own risk and expense, and then distributes and sells them to local third parties. The distributor bears the direct economic risk of its distribution business, whereby the distributor’s profit (or loss) is the difference between the purchase price from the supplier and the selling price to third parties.
As opposed to a distributor, an agent does not buy products and then sell them to third parties on its own behalf and at its own expense. Rather, it brokers between purchasers and the manufacturer (or supplier). An agent’s role is to forge the connection between the supplier and third parties, but without creating any contractual relations between the agent and the third parties.
Protection of Commercial Agents
The Agency Contract Law enacted in Israel a decade ago regulated, for the first time, the legal relations between a supplier and a commercial agent. The purpose of the law was to regulate several aspects deriving from an agent’s role solely as a broker:
- to define the legal standing of commercial agents;
- to protect commercial agents’ rights from abuse by suppliers; and
- to anchor an agent’s fundamental rights upon termination of the agency contract.
The law provides definitions for the terms “agency contract” and “commercial agent” and sharpens the distinction between a commercial agent and a distributor and other forms of marketing through third parties.
According to the law, the relationship with the local agent is classified as either an agency agreement or a distribution agreement, depending upon the substantive nature of the arrangements between the parties and not the title the parties gave to the agreement. Therefore, any party that acts as a supplier’s representative and assists in achieving signed agreements between the supplier and third parties, but does not actually purchase and resell the supplier’s products, would be deemed an “agent”. On the other hand, any party that purchases a supplier’s products and subsequently resells them would be deemed a “distributor” of that supplier.
Furthermore, according to Israeli court rulings, even if the parties stipulate that the agreement between them is subject to a foreign (i.e., non-Israeli) law, they would not be released from the cognitive provisions of the law. For example, if the relationship between the parties is that of supplier-agent pursuant to the Agency Contract Law, their choice of foreign law will not enable them to circumvent the set of rights and obligations prescribed by Israeli law.
Agency Termination
According to the Agency Contract Law, in the event of termination of the agency relations, which were prescribed for an indefinite period, the agent is entitled to advance notice. The advance-notice period will range from two weeks (for short-term engagements of up to six months) to six months (for long-term engagements of six years or more).
There are instances when agency relations are terminated without advance notice, mainly as a result of the supplier’s market considerations. In such instances, the law prescribes a payment mechanism in lieu of advance notice. This mechanism is based on the agent’s average monthly profit during the six months preceding the termination of the agreement, or during the second half of the term of the agreement (if the agreement was in effect for less than a year), multiplied by the advance-notice period to which the agent is entitled.
Sometimes, the initial engagement between the parties is for a short, fixed period, followed by a pre-defined extension period. However, in many instances, the relationship between the parties does not end upon the expiry of the first extension period, but rather continues without the parties having clearly defined the termination date of the engagement. Thus, the fixed-term contract essentially becomes a contract of indefinite duration.
Parties also sometimes engage in a set of short-term agreements that renew automatically. In such instances, the agent may claim that the period of the engagement essentially became an engagement for an indefinite term, notwithstanding the explicit wording of the agreement. The agent may even allege that the supplier is attempting to artificially affix the contract term in order to evade its statutory obligation to issue advance notice.
Therefore, it is important to verify that the wording of the agreement between the parties accurately reflects the period of the relationship between them. When renewing the contract, it is advisable to ascertain whether it would be preferable to draft a new agreement or to extend an existing agreement, also considering the implications of the advance-notice period.
Compensation upon Termination
Sometimes, even subsequent to termination of an agency agreement, the supplier continues to benefit from the commercial agent’s investments. Such situations justify, out of recognition of its special standing and rights, an additional payment to the agent for its success in promoting the supplier’s business.
The agent may be entitled to this additional compensation if the agency agreement was in effect for more than a year. The compensation can reach up to 12 times the agent’s average monthly profit, generated as a result of the growth in sales of the supplier’s products during the period of the parties’ relations. This right to compensation is at the court’s discretion and the entitlement may arise regardless of whether or not the agent was an exclusive agent, and regardless of whether the engagement was for a fixed-term or for an indefinite duration.
To be entitled to compensation, the commercial agent must prove a cumulative increase in the supplier’s business during the term of the agreement compared to the period preceding the agreement (for example, engagements with new customers, significant growth in business with existing customers, etc.). The commercial agent must also show that the growth in business is continuing to generate revenue for the supplier subsequent to the termination of the engagement with the agent. The commercial agent may be entitled to compensation if it can prove these two criteria (in addition to fulfilling conditions relating to an engagement period of at least one year, and proving that the commercial agent was the “effective factor” in the growth of the supplier’s business).
However, the law does not entitle a commercial agent to compensation or a commission in respect of a transaction between the supplier and a customer, even if the commercial agent was the effective factor in achieving the transaction, if the transaction with the customer was only signed subsequent to the termination of the agency contract.
Therefore, during the contract negotiations, many commercial agents demand the addition of terms that will set their entitlement to benefit from post-contract transactions, achieved as a result of their efforts during the contract period. When drafting such terms, it is important to ensure they do not give a commercial agent the right to double compensation—both contractual compensation and statutory compensation.
Distributors in Israel
Unlike agents, the commercial relations between a supplier and a distributor were not regulated separately and they continue to be determined in light of the general contract law and the extensive body of case law addressing the subject of termination of contract between suppliers and distributors.
Therefore, in respect of distribution agreements, there are no statutory provisions requiring advance notice before termination of the relations or defining the minimum compulsory advance-notice period. Court rulings in this regard have held that a distributor is entitled to reasonable advance notice. Advance notice serves to compensate the distributor for its reasonable expectation that the contractual relations will continue, to enable the distributor to recoup its reasonable investments in building the market for the supplier and to sell the inventories still in its possession.
Similarly, there is no statutory provision that regulates the compensation that a distributor may be entitled to receive at the end of the contractual relationship. According to case law, a long continuing contractual relationship may actually reduce the compensation payable to the distributor, as the reasoning is that the distributor had sufficient time to recoup its investment in building the market and reap its expected profits from the business.
In the absence of a regulatory provision regulating the termination of distribution relations, it is important to ensure that the distribution agreement regulates the issues pertaining to termination of the relations between the parties. In relation to distribution agreements, there are no limitations to having the engagements subject to foreign law and foreign jurisdiction.
Competition Law
As with any new market, when entering the Israeli market, it is also necessary to consider local competition laws. Sometimes, engagements between suppliers and distributors may include exclusivity arrangements, and sometimes they may also include provisions affording the supplier with influence over the selling prices of its products to end-consumers. Since these arrangements could be deemed restrictive trade arrangements, it is important to examine them to ensure compliance with Israel’s competition laws.
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Adv. Micky Barnea is Barnea Jaffa Lande‘s Managing Partner.
Adv. Anat Even-Chen leads the firm’s Regulation practice.
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