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The Supreme Court has decided on the debate on whether goodwill compensation should be calculated based on the distributor’s gross or net profit.

Under consolidated case law, article 28 of the Spanish Agency Agreement Act (“LCA”) can be applied analogously on occasions, and whenever the requirements of article 28 are met, to grant a distributor goodwill compensation intended for the agent.

However, as a distribution agreement does not offer remuneration such as that received by the agent, but commercial margins, it was unclear whether the criterion to use as a basis to calculate the compensation should be gross margin (the difference between purchase and resale prices) or net margin (the percentage profit made by the distributor after taxes and expenses).

Judgment 317/2017 of May 19 of the Civil Division of the Supreme Court refers to the rulings of two recent judgments (356/2016 of May 30 and 137/2017 of March 1) to conclude that the criterion to apply is that of net profit:

“The appealed judgment, in the same way as the first instance judgment, correctly applies this case law doctrine, because it expressly states that it considers ‘expenditure required to obtain the product of the sale (staff, transport, financial expenses and share of general expenses), i.e., net profit—the difference between gross profit (incomes less operating costs) and costs generated (salaries, amortizations, tax, revenues and interest)’.”

The judgment dismisses the granting party’s argument, claiming a breach of article 28.3 of the LCA and the case law that interprets it, in relation to article 11 of the LCA (agent remuneration) and article 1255 of the Spanish Civil Code (freedom of contract), to uphold that goodwill compensation must be calculated based on the distributor’s gross income.

Paragraph 3 of article 28 establishes the cap on goodwill compensation: under no circumstances may it exceed the average annual sum of remuneration received by the agent during the past five years or during the contract term, if this is less than five years.

The Supreme Court has already ruled on how remuneration received by the agent should be interpreted, stating that it must be construed as gross remuneration. In other words, it is not the gross profit obtained by the agents in the course of their activity, but the amount really received from the provision.

However, it also established that an absolute analogous application of rules on the unilateral termination of the agency agreement to the distribution agreement is not correct; the specific features of the latter agreement must be considered. Under article 11 of the LCA, the remuneration scheme sets out a fixed remuneration or commission, while the distributor’s remuneration is governed by other criteria.

The Supreme Court has clarified that “to establish the goodwill compensation amount, article 28 of the LCA must be used as a guiding principle, but the amount must be calculated based on the distributor’s net profit rather than on the commission received by the agent.”

The judgment refers to an exclusive indefinite distribution agreement, with no notice clause, which the granting party unilaterally terminated.

The distributor submitted a claim seeking that the granting party be ordered to pay compensation to it for the following concepts: goodwill, lack of notice, stock value, non-amortized investments and unpaid bonuses.

The first instance judgment partially upheld the claim. It found for the claimant’s right to goodwill compensation (based on the net profit criterion) and for lack of notice. In addition, it found that the respondent must pay the cost of the distributor’s stock, although at cost price rather than sale price as requested.

Both parties filed appeals against the judgment. The Madrid Court of Appeal dismissed the claimant distributor’s appeal and partly upheld the granting party’s appeal on compensation for stock. The Court of Appeal found that the claimant distributor was not obliged to hold a certain amount of the product, because the distributors purchased the products requested by customers from the granting party. Therefore, the stock buyback obligation alleged by the claimant distributor was not proven.

Lastly, the distributor filed a special appeal for procedural breach and a final stage appeal before the Supreme Court. The granting party also filed a final stage appeal before the Supreme Court.

Regarding the granting party’s stock buyback obligation, the Supreme Court found that, given the particular features of the case, the distributor was entitled to demand that the granting party buy back the stock. As such, it ruled that the distributor be compensated for damage incurred (consequential damage) and agreed with the decision of the first instance court that the compensation should be calculated based on the purchase price of the products in stock, not their resale price.

Click here to read the full text of the judgment.


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