Written by Steve Sidkin
1 September 99

Footwear suppliers are under great pressure. Retailers are now being forced by incessant competition to compete in the area which has the greatest potential to self-inflict pain – prices. Everyone provides great service. Loyalty cards are almost obligatory. Price cutting is now where the competition is at.

Unsurprisingly, suppliers to the catalogue business, Freemans, have been notified that prompt payment will necessitate a greater discount. Whilst up until February the supplier would have to give an 8 per cent. discount, 10 per cent. is now the norm for a supplier wanting payment within 28 days. Some large supermarkets have applied even greater pressure. Almost certainly, the greatest fear of some finance directors is that retailers will demand a discount backdated for goods that have already been purchased! In turn, manufacturers are turning the screws on their own suppliers.

Increasing price competition is the initial answer as to why these actions have been taken. But beneath lies reluctance on the part of large retailers to accept a reduction of their own profit margin. Put simply, they wish to exercise their purchasing muscle for as long as possible.

As a result many suppliers face profits not being squeezed to the bone. Instead, their margins will be squeezed to the marrow therein.

The grief that some suppliers are feeling is exacerbated when the retailer in question has previously secured an exclusive deal. It may be that such a deal was sought by the retailer because it genuinely felt that the supplier’s footwear was such that the retailer was bound to win business away from other retailers. But unfortunately it is increasingly the case that there is a more sinister desire which underlies the seeking of an exclusive arrangement. This is simply to prevent competitors being able to stock the products.

This situation leads quickly to frustration. Consumers are frustrated because it is difficult for them to purchase the products in their locality. Enterprising consumers may contact the manufacturer direct who, on hearing of the problem, feels let down and frustrated by the retailer’s actions.

The understandable knee-jerk reaction is for the manufacturer to notify the retailer that the retailer’s actions constitute a breach of the exclusive contract which has resulted in its termination. Accordingly the manufacturer is free to look elsewhere and conclude an agreement with another retailer. However, taking this line of action depends very much on the terms of the agreement with the original retailer. It is rare that a written agreement will have been entered into. Instead more often than not the manufacturer and retailer will have already agreed – often on a handshake – that the retailer is to enjoy exclusivity. In the situation where the manufacturer decides to supply a competing retailer, the feathers can really start to fly.

The retailer who is about to be ditched may be able to argue with some justification that they exist between him and the manufacturer a contract by a course of dealing. If it has been the case that orders have been placed and accepted over some years, the retailer may well be able to argue that the contract in question is a long-term supply contract. On this basis it is not open to the manufacturer to refuse the retailer or simply to walk away. Instead the manufacturer has to give reasonable notice. What is reasonable will vary from case to case. It depends on the facts. However, where the relationship between the parties has existed for five years it is unlikely that less than six months’ notice will be considered reasonable.

To establish a contract by course of dealing it must be shown that the parties have so acted in relation to each other that a contract is to be inferred from their conduct. An intention to create a contractual relationship is not to be implied lightly. The facts may be such as to be interpreted as giving rise to such a situation.

Even in those situations where the agreement is in writing, it is unlikely that there will be a provision imposing on the retailer a requirement to purchase a minimum quantity of products. Or indeed another provision giving to the manufacturer some other right in which he can safely rely in order to bring an unsatisfactory relationship to an end. But perhaps there lies the answer.

In an increasingly competitive market place, there is every reason for manufacturers to consider entering into “partnership sourcing” agreements with retail customers. There are supply agreements intended to enable both parties to benefit from each other’s benefits. Indeed, the same relationship should be considered by all parties in the supply chain.

The purpose of the arrangement is to ensure that both supplier and retailer take account of each other’s commercial situations so that costs are driven down and efficiency increased. Invariable a target profit margin for the supplier is set, but the objective is to achieve a win-win result.

Furthermore depending on the duration of the agreement, it may be open for both supplier and retailer to work together to reduce overheads. The length of the agreement is also important. It should provide confidence for investment leading to innovation and cost savings which are good for both parties.

It is common in a partnership sourcing agreement for the supplier to specify agreed procedures for dealing with the alleged quality problems. This can be important as it is not unknown for a retailer to find a quality problem when new stocks arrive for what has turned out to be a slow-moving line. The objective of the retailer in this situation is to avoid having to discount the price of the stock at some stage in the future. If formalised communication channels and quality control procedures can be put in place, a retailer should have reason to allege quality control problems only if they really do exist.

In addition it is necessary to consider what should be the obligations on both parties. Accordingly if the supplier is to shoulder part of the costs, it will usually be reasonable for him to have the benefit of knowing that orders at a particular level and frequency will be placed for a certain period of time.

In the past, obligations have been included in supply agreements with the knowledge that non-performance will provide a stick for one party to bear the other with. In contrast in a partnership sourcing agreement, the way in which performance of these obligations is addressed should be very much one of prevention rather than cure. Time invested in proper methods of communication and the holding of regular, scheduled review meetings should ensure that this continues to be the case.

There will also be a need to address confidentiality issues both during and after the relationship. If the relationship between the partners is one of a balanced “partnership”, confidential information should flow freely. But whilst two wrongs do not make a right, the deterrent against misuse is the fear that the other party may in turn misuse the information that it has received.

Although a partnership sourcing agreement may be entered into with the best of intentions and expectations, it is advisable to provide for a parting of the ways. Accordingly the agreement should state clearly the grounds on which it will terminate. Equally prudent would be to address the consequences of termination. Over what period of time will the retailer be forced to take supplies? Will both parties be happy for the retailer to sell the supplies it was holding at the time of termination? For the supplier, a further question relates to its own cashflow position. Termination is never an easy situation. Termination where the retailer is a regular £50,000 debtor should concentrate the mind in getting right the timing of the termination!

If suppliers are to avoid being wounded in the cross-fire between competing retailers, the issue of partnership sourcing agreements should be considered before it is too late. There is no law that says the suppliers have to be the innocent victims in a war between retailers. In any event the United Nations has bigger peace-keeping duties elsewhere!

This briefing note is for general information. For advice in applying this general information to your specific circumstances, please contact Stephen Sidkin or any member of the Fox Williams’ agentlaw team.(www.agentlaw.co.uk)

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