Compensating commercial agents: real-world value

The House of Lords has confirmed that in calculating the compensation payable to a commercial agent whose contract has been terminated, the court should award the value of the agency business at the date of termination (Lonsdale v Howard & Hallam).

John Ogilvie and Maura McIntosh, Herbert Smith LLP

The House of Lords has confirmed that in calculating the compensation payable to a commercial agent whose contract has been terminated, the court should award the value of the agency business at the date of termination (Lonsdale v Howard & Hallam [2007] UKHL 32).

This realistic and commercial decision upholds the Court of Appeal’s judgment and gives much needed certainty to what has been a difficult area (see News brief “Commercial agency: cost of compensation”, www.practicallaw.com/6-202-1408 and box “The regulatory position).

What must the agent be compensated for?

The House of Lords held that the damage for which the agent must be compensated is the value of the right to be an agent; that is, the right to future commissions that the agency would have brought in.

The Lords rejected the argument that they should follow the French courts’ approach in valuing agencies at two years’ gross commission. Although the Commercial Agents Directive (86/653/EEC) prescribed a mandatory framework of entitlements for commercial agents, it was left to the courts of each EU member state to decide the method of calculation.

The Lords emphasised that, like any other exercise in valuation, the question is what a buyer could reasonably have been expected to pay, as at the date of termination, for the rights the agent had been enjoying. It is not enough to ask what the agent would have expected to receive, if no-one would actually have given it to him.

Value in the real world

For the purposes of the valuation, it must be assumed (contrary to reality) that the agency would have continued, and also that the notional buyer would have been able to perform the contract. However, the Lords stressed that other “real-world” factors affecting the value of the agency must be taken into account, namely:

  • If (as in this case) the principal’s business is declining, this will obviously reduce what a buyer would be prepared to pay. Conversely, if the market for the products is rising, this will make the agency more attractive to buyers.

  • If the former agent is likely to entice customers away to a competing principal, and therefore a buyer would have no assurance that the customers would continue to trade with him, that will reduce the value of the agency. Conversely, if the agency contract includes an enforceable covenant against competition, this is likely to shore up the value of the agency and thus the compensation payable.

  • It is the net income generated by the agency that must be taken into account, since that is what will matter to the hypothetical buyer. Although Lord Hoffman described this as a matter of common sense, a number of previous cases had suggested that the agent’s expenses in generating commissions should be ignored, particularly when following the French courts’ practice of awarding two years’ gross commission.

  • Where the agent has more than one agency, the costs must be fairly attributed to each. The agent cannot simply say (as the claimant did in this case) that the marginal cost of the agency in question was little or nothing because he had to see the same customers and go to the same exhibitions for another principal.

  • Since it is future income that is being valued, it must be discounted for accelerated receipt.

There are indications in the judgment that where the income stream generated by an agency is low, the court may well find that the agency is worth nothing and therefore no compensation is payable. This approach is likely to be welcomed by businesses that engage a large number of agents whose individual earnings are relatively low.

See you in court (or not)?

The decision confirms that, if a case goes to court, an agent is likely to have to advance expert evidence of the valuation of the agency in order to establish his claim. Although the claimant’s Counsel urged the Lords not to adopt a principle which required valuation evidence due to the potential expense involved, Lord Hoffman said that he did not see how a judge could decide a case without information about the standard methodology for the valuation of comparable businesses.

The need for expert evidence may perhaps be seen as a downside of the Lords’ approach. However, it is difficult to disagree with Lord Hoffman’s view that “once it is firmly understood that the compensation is for the loss of the value of the agency, relatively few cases will go to court”.

Now that a sensible and commercial basis for assessing compensation has been established at the highest level, both principals and agents can come to the negotiating table with a common understanding of the principles to be applied. While there will no doubt still be room for disagreement on the application of those principles, it seems likely that such disagreements can, in all but the most intractable cases, be resolved through commercial negotiation.

John Ogilvie is a partner and Maura McIntosh is a professional support lawyer in the litigation and arbitration division at Herbert Smith LLP.

The regulatory position

Where a business engages a self-employed agent to promote its goods, regulation 17 of the Commercial Agents (Council Directive) Regulations 1993 (SI 1993/3053) entitles the agent to be paid compensation or an indemnity on termination of his agency contract. This applies whether or not the agent has been given proper notice of termination. If the contract is silent on which right the agent should be entitled to, the right to compensation will apply.

Under regulation 17(6), an agent must be compensated for the damage he suffers as a result of the termination of his relations with his principal; however, there is little guidance on how this should be calculated. In addition, this concept of damage is alien to traditional English law principles, under which an agent would not be seen to have suffered any damage recoverable by law so long as he had been given his proper contractual notice of termination.

Combining these factors, it is not hard to see why there has been much inconsistency of approach between judges grappling with this area.

 
{ "siteName" : "PLC", "objType" : "PLC_Doc_C", "objID" : "1247245738417", "objName" : "Compensating commercial agents real-world value", "userID" : "2", "objUrl" : "http://us.practicallaw.com/cs/Satellite/us/resource/5-374-1964?q=&qp=&qo=&qe=", "pageType" : "Resource", "academicUserID" : "", "contentAccessed" : "true", "analyticsPermCookie" : "2-5a0fabd9:14960712d77:-354", "analyticsSessionCookie" : "2-5a0fabd9:14960712d77:-353", "statisticSensorPath" : "http://analytics.practicallaw.com/sensor/statistic" }