UK: New Developments in Assessing Compensation on Termination of an Agency Agreement

Last Updated: 12 July 2006
Article by Marco Pistis

1. The legal background

Council Directive (EC) 86/653 on the coordination of the laws relating to commercial agents (the "Directive")1 has been implemented in the UK by The Commercial Agents (Council Directive) Regulations (the "Regulations").2

The Regulations introduced, amongst other things, rights for the protection of commercial agents after the termination of the agency contract3.

It is important to underline that, prior to the Regulations, any payment between the parties on termination of an agency agreement was a pure contractual issue. The concept of compulsory compensation and indemnity for the termination of an agency agreement were unknown in the English legal system4.

This work will deal mainly with Regulations 17 and 18 which have introduced rights aimed at the protection of commercial agents through compensating (or indemnifying) them on termination of the agency agreement.

2. Regulations 17 and 18

A brief summary of Regulations 17 and 18 is necessary for a better understanding of this work.

Regulation 17 deals with the entitlement of a commercial agent to an indemnity or compensation on termination of the agency contract, stating that it "has effect for the purpose of ensuring that the commercial agent is, after termination of the agency contract, indemnified [...] or compensated for damage."

Regulation 17(2) goes on to state that "except where the agency contact otherwise provides, the commercial agent shall be entitled to be compensated rather than indemnified."

Regulation 17(3) deals with entitlement to the indemnity and Regulation 17(4) establishes a cap to the amount of the indemnity.

Regulation 17(5) provides the possibility for the commercial agent to seek damages in addition to the indemnity.

Regulation 17(6) deals with the entitlement to compensation for the damage suffered by the agent "as a result of the termination of his relations with his principal."

Regulation 17(7), which will be analysed in further detail in paragraph 5, deals with the circumstances in which this damage shall be deemed to arise.

Regulation 18 allows exclusion of the payment of indemnity or compensation on the basis of (i) default attributable to the commercial agent, (ii) unjustifiable termination of the agreement by the agent; or (ii) assignment by the agent of his rights and duties under the agency contract to another person.

3. The two methods

As noted above, the Regulations provide both a compensation and an indemnity system.

In all other European countries the Directive has been implemented by choosing either the indemnity or the compensation structure. The decision to insert both concepts in the Directive was a compromise between the German method (based on the indemnity notion) and the French method (based on the compensation notion) and was an attempt to leave the Member States free to use the system that they best understood5.

The UK government, quite unexpectedly, decided to implement both systems providing that the agent would be entitled to compensation, unless the parties decide to incorporate in the agency agreement the indemnity system,. The thinking at the time was that compensation would be a cheaper option for the principal.

The idea behind the Directive, for both indemnity and compensation, was that the agent contributes to the creation and development of goodwill for the principal and this goodwill therefore belongs to both the principal and the agent.

4. The indemnity system

An in-depth analysis of the significance and the method of calculation of the indemnity is outside the scope of this work. It should however be noted that the term itself may create confusion to an English lawyer. "Indemnity" is simply another method of calculating how much is due to the agent on termination taking into account his share in the jointly-owned goodwill,6 as provided by Regulation 17(2) and within the limits established by Regulation 17(3). As highlighted in the previous paragraph, Regulation 17(4) establishes a maximum amount of one year's commission calculated on the average annual remuneration over the five years prior to termination (or over the duration of the agency if shorter).

5. The compensation system

As noted above, the compensation system will be used unless the parties contractually declare that they want to be bound by the indemnity system.

Regulation 17(6) states that the agent must be compensated "for the damage he suffers as a result of the termination of his relations with his principal". As per Regulation 17(7) this damage is supposed to occur where termination would:

"a) deprive the commercial agent of the commission which proper performance of the agency contract would have procured for him whilst providing his principal with substantial benefits linked to the activities of the commercial agent; or

b) have not enabled the commercial agent to amortize the costs and expenses that he had incurred in the performance of the agency contract on the advice of his principal."

In contrast with the indemnity alternative, there is no maximum amount specified7.

Even if some agency agreements contain a liquidated damages clause, Regulation 19 states clearly that parties cannot derogate from Regulations 17 and 18 and liquidated damages clauses have been struck out by English judges8.

6. Assessment of compensation: a long history starting in Scotland

Initially the English courts took the view that compensation had to be limited to the equivalent of damages for breach of contract9. However, there is no legal reason why the agent in proper situations should not be awarded both compensation under Regulations 17 and 18 and damages at common law.

The first case of the Court of Appeal where the judges were asked to take a position on the problem of compensation for commercial agents is Page10, where Staughton L.J. stated that "commercial agents are a down-trodden race and need and should be afforded protection against their principals". While the courts in subsequent cases will rely very much on this assumption, unfortunately Staughton L.J. did not clarify the problem of the calculation of compensation.

King v Tunnock is a decision of the Inner House of the Court of Session in Scotland, where for the first time the French approach on compensation was analysed in detail. This case had to be carefully considered by the English courts in subsequent cases. However, English courts remained sceptical about the necessity to follow the French practice as they considered such approach too generous with respect to the agents.

The ratio of the French idea of compensation11 is based on the assumption that the agent has been deprived of his share in the goodwill by the termination of the agency agreement. The level of compensation set up is generally equivalent to the last two years' gross earnings (including the costs incurred by the agent) because this is considered the minimum period necessary for an agent to build up a analogous network of clients for another principal. Following the French school, future possible events (for example, the shut down of the business of the principal) are not taken into consideration in the calculation.

In King v Tunnock the Court of Session stated that, although the French system of calculating compensation on the basis of two years’ gross commission was applied as point of reference only, such application deserved esteem and provided a broad approach which was a foreseeable and sensible requirement of the law. The Court stated that 2 years’ commission had to be regarded as a benchmark in the calculation of the compensation for loss of an agency. Moreover, the Court, following the French doctrine, held that (i) future events were not relevant, (ii) additional forms of damage could give rise to a right of compensation, (iii) the agent did not have to show the possibility of future losses and (iv) events regarding the business of the principal after termination are not relevant (for example, it is irrelevant that the principal may cease to trade).

The decision of King v Tunnock may have been influenced by a report released by the European Commission in 1996 describing the "long established" judicial custom of the French courts to award fixed compensation in the amount of two years' gross commission12.

7. The contradictory analysis of the English courts

After King v Tunnock the English courts approached the problem of the calculation of the compensation in an inconsistent way.

In Duffen v Frabo13 Judge Hallgarten Q.C. refused to accept the French approach of the two years' compensation and awarded compensation on the basis of the net earnings that the agent could have attained during the rest of the time of the agency.

In Barrett v Escada14 Judge Bowers commented confusingly on the factors he presumed were relevant for the calculation of the compensation but this case did not resolve any doubts and did not clarify the situation15.

In Ingmar Gb Limited v Eaton Leonard Technologies Inc16, Morland J. followed the decision of the Court of Session in King v Tunnock and approved the guideline of two years' commission. In spite of this he decided not to follow such parameter in this particular case to avoid an injustice to the defendants, thus complicating matters further!

In Tigana17, Davis J. refused to accept the French approach and stated: "I find it difficult, speaking for myself, to think there is, or at all events should be, precisely the same benchmark for a commercial agency which has been lawfully terminated [...] as compared to a commercial agency which has been terminated by the principal in circumstances where the principal retains substantial benefit." He then assumed that the English courts were not bound to follow the rules established in France or any other Member State when calculating the agent’s compensation. In his opinion, the English courts had to exercise their own conclusions without trying to imitate the French magistrates18.

Davis J. agreed with the idea of a "broad brush" approach but also sustained the necessity to follow some methodology in assessing the compensation. He listed several factors (14 in total) which he thought were relevant in the assessment of compensation. He considered the contractual and actual duration of the agency agreement, the terms and conditions of the agency agreement, the nature, history and market of the agency, Regulation 17(7)(a) and (b), the nature of the client base and of contracts placed, the exclusivity of the agency, possible non competition agreements, whether the principal retained benefits from the agent’s performance, post termination restrictions, other payments made, the way in which the agency terminated, the financial contributions to the goodwill and whether there are losses due to any breach.

Such factors were also taken in consideration in some subsequent decisions.

In Cooper v Fishing19 the Court of Appeal accepted the view of Judge Kershaw Q.C. who had followed Morland J. and adopted the two year benchmark.

In PJ Pipe20 Fulford J. underlined the inconsistent approach of the English courts to the problem of assessing compensation, agreed with Davis J. about the necessity to take into account all the circumstances, substantially rejected the French approach but again did not clarify the problem of the calculation of compensation in granting to the agent one year gross commission. This case is simply another example of the reluctance of the English courts to adopt the two years' rule21.

As can be seen from the above, the position of the English courts moved from the approval of the two years' rule as a guideline to the assessment of compensation by taking into consideration a variety of different factors22.

Recently the Court of Appeal has been asked again to clarify the problem of assessing compensation for commercial agents. As will be seen, in Lonsdale23, Moore-Bick L.J. after admitting that "there is no clear agreement on the principles governing the assessment of compensation"24, provided another solution to the problem.

8. Lonsdale: a new attempt

In Lonsdale25, the claimant, Mr Graham Lonsdale, had been a commercial agent for Howard & Hallam Limited for over thirteen years until the agency agreement was terminated as a result of the closure of the principal's business. After termination the principal paid to the agent only £ 7,500 and the latter brought court proceedings on the basis of the rule of the two years' gross commission. The county court judge, after drawing his attention to the rule adopted by the French courts, stated that the agent should be compensated for the value of the agency. He decided not to follow the approach of foreign jurisdictions and held that the agent was entitled to no more than £ 5,000. The agent appealed.

Analysing the previous cases Moore-Bick L.J. stated that Page was of "limited assistance". He also did not consider fair the adoption of the French rule in King v Tunnock saying that the two years' compensation rule cannot be supported "even as a broad guideline26." He then argued that the factors taken into account in Tigana were relevant only in the light of evaluating the agency business27.

Moore-Bick L.J. considered the scope of the Directive28 and the language of the Regulations, underlining that "the main reasons for the differences in approach to the assessment of compensation one finds in the decided cases lies in a failure to apply the language of the Directive and the Regulations and to identify clearly the damage in respect of which the agent is entitled to receive compensation.29"

He then stated that the agent has to be compensated for the damages he suffered rather than paid a fair and reasonable amount30 and concluded that the purpose of Regulation 17(6) "is not to provide compensation for damage caused by a breach of duty [...] but to provide compensation for the loss of goodwill for which a claim would not otherwise arise31."

Following this reasoning it is clear that the fact that the principal is closing its business will have a substantial impact in the assessment of compensation32. It is understandable that the closing of the business of the principal will drastically decrease the goodwill of the agency and that the duration of the agency and the performance of the agent will be no longer considered important factors in the calculation of compensation33.

With reference to the evaluation of the agency business Moore-Bick L.J. considered that the courts will, in some cases, benefit from the opinion of an expert. However, should an expert not be called, the judge may apply his common sense and a "broad brush" approach34.

Moore-Bick L.J. also took the view that a more purposive approach will be necessary in the case of the termination of agency due to the natural termination of the agreement. Since in this case no goodwill attached to the agency at the date of termination, compensation should be calculated as the value of the goodwill that the agent build up for the benefit of the principal.

Moore-Bick L.J. also clarified, hopefully once and for all, that the one year cap as per Regulation 17(4) had no impact in the calculation of compensation, this being relevant only in the case of indemnity.

9. What now?

Even critics of the decision of Moore-Bick L.J. 35 admit that the guideline of the two years' gross commission has been abandoned and that now the focus is on the value of the agency business at the date of termination.

It is clear that the value of the agency business and consequently of the compensation may be considerable in the case of a principal in a good financial and commercial position which simply wants to restructure its business, for example by changing the target market. Likewise, if the performance of the agent is not good but the agreement does not allow the principal to terminate the contract for breach, termination would permit the agent to claim the value of the agency business36.

It is also important to underline that the two years' rule worked as a ceiling for the assessment of compensation37. Following L.J.Moore-Bick’ clarification that there is no cap for compensation, it is likely in the future that wealthy agents will be asked by their principals to revise their agency agreements and to insert an indemnity provision38. On the contrary, if the agency business is not running very well, principals will be well protected by the compensation system39 and by the decision in Lonsdale.

It has been argued that the approach of Moore-Bick L.J. probably fails to protect the agents for which the Directive was created. Wealthy and powerful agents will receive increased protection (in addition to their contractual power) but small sale agents will end up probably with small, if not negligible, compensation (in the case, for example, where the principal closes his business) 40. Moreover, these latter agents will probably be not in a position to rely on expert witnesses and it remains to be seen if the "broad brush" approach will be used in these cases, where uncertainty will remain41. However, the scope of the Directive is not to guarantee a certain amount of money to poor agents but to be sure that the agent is paid for the goodwill he had contributed to build. If the value of the goodwill is low, it can be argued that there is no reason why the agent should be compensated for more than the extra value he created.

Finally, if the scope of Moore-Bick L.J. was to provide certainty, at least with reference to the way in which compensation has to be calculated, Lonsdale has to be welcomed and may well encourage settlements in many cases42.

1 Council Directive (EC) 86/653 of 18 December 1986 on the coordination of the laws of the Member States relating to self-employed commercial agents [1986] OJ L382/17.

2 The Commercial Agents (Council Directive) Regulations 1993SI 1993/3053 (as amended by SI 1993/3173 and SI 1998/2868).

3 Jeremy Scholes, "Agency: Overview" (2005) Practicallaw accessed 15 May 2006, p 22.

4 For an overview on agency law please see Hugh Beale and others, Chitty on Contracts (28th edn Sweet & Maxwell, London 2004) vol 2; William Bowstead, F.M.B. Reynolds and Michele Graziadei, Bowstead and Reynolds on Agency (17th edn Sweet & Maxwell, London 2001); Susan Singleton, Commercial Agency Agreements Law and Practice (2nd edn Butterworths, London 2005).

5 For an exhaustive explanation of both the German and the French system please see Saintier and Scholes, Commercial Agents and the Law (Lloyd´s of London Press, 2005), pp 9-13, 156-158 and ch 6.

6 See Jeremy Scholes, "Agency: Overview" (2005) Practicallaw accessed 15 May 2006, pp 31-32.

7 Jeremy Scholes, "Agency: Overview" (2005) Practicallaw accessed 15 May 2006, p 25.

8 ibid 25 and Duffen v Frabo Spa [2000] 1 Lloyd’s Rep 180.

9 See Jeremy Scholes, "Agency: Overview" (2005) Practicallaw accessed 15 May 2006, p 25; Duffen v Frabo Spa [2000] 1 Lloyd’s Rep 180.

10 Page v Combined Shipping and Trading Co Ltd [1997] 3 All ER 656 (CA).

11 For an overview of the origins of the French compensation system see J. Guyenot, The French Law of Agency and Distributorship Agreements (Oyez, Paris 1976).

12 See Nick Curling "Compensation under the Commercial Agents (Council Directive) Regulations 1993 - Lonsdale v Howard & Hallam Limited" (Article published on the Internet by Hextalls 2006) accessed 3 May 2006.

13 Duffen v Frabo Spa [2000] 1 Lloyd’s Rep 180 (CC).

14 Barrett Mc Kenzie & Co Ltd v Escada (UK) Ltd [2001] Eu. L.R. 567 (QBD).

15 See Jeremy Scholes, "Agency: Overview" (2005) Practicallaw accessed 15 May 2006, p 28.

16 Ingmar Gb Limited v Eaton Leonard Technologies Inc [2001] Eu. L.R. 755 (QBD).

17 Tigana Ltd v Decoro Ltd (2003) EWHC 23 (QBD).

18 See Andrew Lidbetter, "Compensating Commercial Agents: At last some good news for principals?" (Article published on the Internet by Herbert Smith 2003). accessed 18 May 2006

19 Cooper v Pure Fishing (UK) Ltd (formerly Outdoor Technology Group (UK) Ltd) [2004] EWCA Civ 375 (CA).

20 PJ Pipe & Valve Co Ltd v Audco India Ltd [2006] Eu. L.R. 368 (QBD).

21 Practical Law Company, "Commercial Agents Regulations: definition of commercial agent and calculation of compensation" (2005) Practicallaw accessed 15 May 2006.

22 See Michael Twomey, "Paying off commercial agents" (Article published on the Internet by Legal and Commmercial 2006) accessed 3 April 2006 and Andrew Kaufman, "Commercial agents – a new beginning?" (Article published on the Internet by Fladgate Fielder 2006) accessed 31 May 2006.

23 Lonsdale (t/a Lonsdale Agencies) v Howard & Hallam Ltd [2006] 1 WLR 1281 (CA).

24 ibid 1290.

25 ibid 1281.

26 ibid 1297.

27 ibid 1297-1298.

28 See Stephen Schneider, "Death of the salesmen" (2006) 156(7216) NLJ 446.

29 Lonsdale (t/a Lonsdale Agencies) v Howard & Hallam Ltd [2006] 1 WLR 1292 (CA).

30 ibid 1293.

31 ibid.

32 Lonsdale (t/a Lonsdale Agencies) v Howard & Hallam Ltd [2006] 1 WLR 1298 (CA). For a different position see Stephen Sidkin , "Terminating agency" (2006) 150(14) SJ 463.

33 See Richard Price, "The Implementation and Operation of the Directive in England and Wales"(paper presented at a conference held at The University of Westminster on Tuesday 4 April 2006 about the European Commercial Agency Directive) < http://www.franco-british-law.org> accessed 24 May 2006, p 11.

34 Lonsdale (t/a Lonsdale Agencies) v Howard & Hallam Ltd [2006] 1 WLR 1302 (CA).

35 Stephen Sidkin , "Terminating agency" (2006) 150(14) SJ 463.

36 Ellen Temperton and Eugenia Dunn, "Commercial agency: cost of compensation" (2006) 17(3) PLC 9-10.

37 Douglas McLachlan, "Commercial Agents – Brand New Uncertainties" (Article published on the Internet by Bigart Baillie 2006) accessed 3 May 2006.

38 Andrew Kaufman, "Commercial agents – a new beginning?" (Article published on the Internet by Fladgate Fielder 2006)

39 See Stephen Schneider, "Death of the salesmen" (2006) 156(7216) NLJ 447.

40 ibid and Richard Price, "The Implementation and Operation of the Directive in England and Wales"(paper presented at a conference held at The University of Westminster on Tuesday 4 April 2006 about the European Commercial Agency Directive) < http://www.franco-british-law.org> accessed 24 May 2006, p 12.

41 Richard Price, "The Implementation and Operation of the Directive in England and Wales"(paper presented at a conference held at The University of Westminster on Tuesday 4 April 2006 about the European Commercial Agency Directive) < http://www.franco-british-law.org> accessed 24 May 2006, p 12.

42 See Nick Curling "Compensation under the Commercial Agents (Council Directive) Regulations 1993 - Lonsdale v Howard & Hallam Limited" (Article published on the Internet by Hextalls 2006) accessed 3 May 2006.

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