Lifecycle of a tech startup series: expansion overseas

In episode 14 you successfully obtained VC investment from KNow Growth, allowing you to not only focus on increasing sales in the UK, but also expand by marketing your product overseas, and your initial target market is France.

However, as neither you nor Sarah have any experience of trading in France, you consider appointing an agent or distributor to help break into the market. Doing so would save the start-up costs of establishing your own sales operation and enable you to take advantage of that person’s established trade connections and local knowledge.

As KNow Wear Ltd scales, you want to keep the financial risk as low as possible. In light of this, you carefully consider the differences between appointing an agent and a distributor and which route would be the most effective for marketing and selling your product in France.

Agent

You have set up a meeting with Louis, an agent who works in the UK and who also has connections across Europe, including France. Louis was highly recommended to you by a friend who works in a similar field and he speaks both English and French.  

Louis explains that an agent is a person who acts on behalf of another party (the principal) acting as an intermediary involved in assisting with putting a contract in place between the principal, in this case Know Wear Ltd, and a third party. This means that if Louis is appointed as your agent, he would act on KNow Wear Ltd’s behalf, the ‘principal’ in the arrangement. As your agent, depending on the scope of rights he is given, Louis would either: (i) negotiate and conclude contracts with your customers on your behalf; or (ii) make introductions of prospective customers to you, allowing you to conclude contracts with them following any such introduction. Louis would essentially act as a middle man without being a party to the contracts between KNow Wear Ltd and your customers. This means you will need to carefully consider the full scope of his power as agent and be very clear in your instructions to him as principal, otherwise KNow Wear Ltd may find itself unwittingly bound to comply with the terms of customer contracts that it wouldn’t ordinarily enter into.

You have discussed the proposed arrangement with the company’s lawyers and understand that some of the main advantages to appointing an agent are as follows:

• KNow Wear Ltd will retain greater control of the terms of sale of its products, such as over the price and/or target customer base and how the products are marketed, as you will be able to dictate this to Louis in his limited role as agent. Although the business is established, you’re mindful that it’s rapidly scaling and so would value keeping some control over these key matters.
• Typically, an agent’s commission fee is based on an agreed percentage of the principal’s income arising from the provision of their services. Those commission costs are typically lower for a principal than the costs of engaging other supply chain intermediaries, such as distributors, to break into the same market.

However, you are also aware there are some drawbacks to appointing Louis as an agent, which you consider as follows:  

• Having already incurred manufacturing costs for products to be sold in France, you would retain all the financial risk if they don’t sell well. This is because, as an agent, Louis does not purchase the products from KNow Wear Ltd, rather he only arranges the sales to its customers. 
• Depending on the scope of Louis’ powers as an agent, he may be protected by the Commercial Agents (Council Directive) Regulations 1993 (the “Regulations”), under which both the agent and principal are subject to complex mandatory obligations which cannot be excluded. In particular, if the Regulations apply, you understand that you may need to make a payment to Louis (in additional to his commission entitlement) on termination of his appointment. If you choose to appoint Louis, you will therefore need to seek further legal advice to fully understand your obligations, if any, in respect of the Regulations.  
• You would be liable for the acts of Louis and therefore may incur additional liability to your customers in respect of the same.
• As Louis will be sourcing customers based in France on behalf of KNow Wear Ltd, the business is likely to be deemed to be trading in that territory. KNow Wear Ltd may therefore incur French tax liabilities as a result of the agency arrangement and so you will need to seek further tax advice on the potential liability.

Distributor

You have also set up a meeting with Juliette, a distributor, to see how her appointment would differ from the appointment of an agent. Juliette is based in France, speaks fluent French and English and has a wealth of experience as she has an established distribution business which has been trading for the past 20 years. If Juliette was appointed as your distributor, she would purchase your products directly from you and resell them to her French customers (adding a margin in order to cover her costs and make a profit). This means you would have no contract with the French customers.

Again, you discussed the proposed arrangement with the company’s lawyers and some of the main advantages of appointing Juliette as a distributor are:

• When Juliette purchases the products from you, title and risk in them will pass to her and therefore she will be solely responsible for reselling the products in order to recoup her purchase costs and make a profit. As a result, financial risk is offloaded to Juliette if your product does not sell well in France. However, you are mindful that, as the supplier of the products, you will still retain some product liability for any manufacturing defaults.
• You will not suffer any liability incurred as a result of Juliette’s activities, as the customer has a direct contract with Juliette, and so if anything went wrong, the customer would seek compensation directly from Juliette.
• You won’t incur any additional costs with regards to establishing an office and/or store in France in order to access the market, and you won’t be responsible for importation, storage and delivery costs.
• There is no risk of taxation in France. Juliette will have a contract with KNow Wear Ltd which is completely separate and distinct from her contract for the sale of the products to her customers based in France.

Although there are some good advantages, you are aware of some disadvantages when appointing a distributor, including:

• You would have a lack of control over the terms of sale of your product, price, marketing and who the target customers would be. This is because Juliette, as a distributor owns the products (compared to an agent who does not own the products), so it is therefore usually not possible to control these issues and in many jurisdictions KNow Wear Ltd would be prohibited from controlling the resale price. However, other key points such as brand protection and intellectual property can be negotiated to retain some control.
• A distributor would normally have a higher distribution margin than an agent’s commission fee, so is likely to be more expensive than an agent.  This is because Juliette, as the distributor, is paid fees by adding a margin to the products and this margin is usually higher than those of an agent because the distributor takes on the financial burden. As Juliette is buying the products, KNow Wear Ltd would need to sell the products to her at a cheaper price that this is lower than the price that retailers would sell to end customers (otherwise the additional distributor margin would mean the sales price to the end customer will likely be too high). For Juliette to make a profit and the transaction worthwhile, she would have to sell the products at a higher price.

Sole, exclusive or non-exclusive?

The company’s lawyers have explained to you that broadly speaking, distribution and agency arrangements can be structured in one of three different ways. You consider those structures to determine which is best for the business:

• Exclusive rights – this would prevent you from actively seeking sales in France, and from appointing other agents or distributors there.
• Sole rights – this would prevent you from appointing another agent or distributor in France, but would not prevent you actively seeking sales yourself in France.
• Non-exclusive rights – this would leave you free to appoint additional agents or distributors in France and actively seek sales in France yourself. 

Conclusion

There is no right or wrong answer as to whether an agent or distributor relationship would be best for KNow Wear Ltd. You and Sarah discuss the advantages and disadvantages of each and decide that, at this stage, financial certainty takes priority and therefore a distributor would work best for the business. Even though the appointment of a distributor may end up costing more than the appointment of an agent, as Juliette assumes the risk of failing to make the sales required to return a profit, you think this benefit is most worthwhile. Moreover, you also acknowledge that, in practice, Juliette may actually be more motivated than Louis to sell your products because she assumes this financial risk. By engaging Juliette, you anticipate a more impactful launch of your product into the French market and hope for increasingly larger repeat orders from Juliette in the future.

You decide to grant Juliette sole rights, so she will be the only distributor acting in France, however, you retain the right for KNow Wear Ltd to actively seek sales itself in France. This gives you some comfort that you can still approach prospective customers once you become more established in the French market.

The next step is to draw up and finalise a distributor agreement with Juliette. You are pleased to have someone else helping with sales and look forward to expanding overseas.

ABOUT THE AUTHOR

Charlotte Stringer is a trainee solicitor at Kingsley Napley and is currently in her second seat with the Family team having completed her first seat in the Corporate, Commercial and Finance team. Charlotte joined the family team at Kingsley Napley in 2017 and was offered a training contract with the firm in 2021.

Caroline Sheldon joined the Corporate, Commercial & Finance team in August 2022 as an associate and specialises in advising on commercial matters. She advises entrepreneurs, startups and established businesses across a variety of sectors, with a focus on those in the technology sector.