- Dealer and Distributor Terminations in Ohio
- May 7, 2003
- Law Firm: Thompson Hine LLP - Cleveland Office
Many manufacturers and other suppliers use dealers or distributors to market, sell and service their products. A supplier may choose to terminate a dealer or distributor for a variety of reasons, but it may find its ability to end the relationship limited by a range of legal constraints. We will consider in this bulletin the limitations imposed by Ohio and federal law on a supplier's termination of a dealer or distributor in Ohio.
The terms "distributor" and "dealer" are often used interchangeably, but a distributor may function as a wholesaler, reselling a manufacturer's products to dealers or retailers for sale to the ultimate consumer. A dealer is typically an intermediary in the supply chain who resells directly to the end user. The discussion in this bulletin applies equally to both.
What Does the Contract Say?
The first and foremost way to determine the rights and duties of the parties is to look at the distribution agreement itself. While agreements may be oral and still be valid under Ohio law, it is advisable for parties contemplating a distribution relationship to have a written agreement. Any distribution agreement should, ideally, cover at least six main subjects:
- the scope of the appointment of the distributor or dealer;
- a complete description of the products and assigned territory;
- the duties of the parties in marketing, selling and servicing the products;
- the terms (including the extension of credit) by which products are ordered, shipped and paid for;
- termination of the relationship, whether after a fixed term, at will or for cause; and
- choice of what state's law applies to the contract.
For purposes of this bulletin, we will assume that the parties have specified Ohio law in the contract. If the manufacturer or supplier is based in another state, it may choose, however, to specify that state's law in the contract.
Statutory Limits on Enforcement of Contract Rights
Ohio, unlike some states, has no statute that has general applicability to the termination of dealers or distributors. Seventeen states, plus the Virgin Islands and Puerto Rico, have such statutes limiting the termination of a "franchise" or, in the case of Wisconsin, a "dealer," and many of them have been held to apply to conventional supply relationships. Most of these statutes require "good cause," such as a material breach of the relationship agreement by the dealer or franchisee, before the agreement can be terminated.
While Ohio has no statute generally applicable to termination of dealers or distributors, it does have statutes that apply to dealers or distributors in specific industries. We will look briefly at these statutes, plus a federal statute covering retail petroleum dealers. The statutory provisions override any inconsistent contractual provisions. Each of these statutes gives a dealer or distributor a right of action against its supplier for damages caused by a violation of the stature, plus its reasonable attorney fees incurred in bringing the action.
Under Ohio Revised Code Sections 1333.82-.87, a manufacturer or other supplier of beer, malt beverages or wine may not terminate a distributor except in good faith. "Good faith" is defined as "act[ing] in a fair and equitable manner toward each other so as to guarantee each party freedom from coercion or intimidation."
A supplier of these products must offer a written contract to a distributor, and any provision in the contract in conflict with the statute is void and unenforceable. Actions based on a violation of this statute must be brought in the Court of Common Pleas in the county of the distributor's principal place of business.
Virtually every aspect of a motor vehicle dealer's relationship with its supplier is governed by Chapter 4517 of the Ohio Revised Code, ranging from where a dealership may be established, to compensation for recall work. "Motor vehicle" is defined broadly by Section 4517.01 as any vehicle "that is propelled or drawn by power other than muscular power or power collected from overhead electric trolley wires." This definition includes, in addition to automobiles and trucks, vehicles such as motorcycles, recreational vehicles and mobile homes, but does not include construction or farm equipment. A motor vehicle dealer may only be terminated for "good cause." Section 4517.55 of the Revised Code lists nine factors to consider in evaluating whether a supplier has "good cause," including the amount of retail sales transacted by the dealer in comparison to the business available to that dealer, the permanency of the dealer's investment, the benefit or injury to the public for the dealer to be replaced or its business disrupted, the reasonableness and fairness of the terms of the dealer's contract with its supplier and the extent or materiality of the dealer's failure to comply with the terms of that contract. The statute also lists five circumstances which specifically do not constitute good cause, including the dealer's refusal to purchase or accept delivery of items not ordered by the dealer, a change in the administrative or executive management of the dealer or failure of the dealer to achieve any "unreasonable or discriminatory performance criteria."
The retail sale of motor fuel is covered by a federal statute, the Petroleum Marketing Practices Act, 15 U.S.C. Sections 2801-06 ("PMPA"). The PMPA prohibits the termination of a franchise to sell or distribute motor fuel except for good cause. A "franchisee" is a service station or similar business engaged in the retail sale of motor fuel. Good cause includes the failure of the franchisee to comply with materially significant provisions of the franchise agreement or the failure of the franchisee to "exert good faith efforts" to carry out the provisions of the franchise. The PMPA also permits termination if a supplier has decided in the normal course of business to withdraw from a geographic market. The PMPA requires 60 to 180 days' notice prior to the termination or non-renewal of a franchise.
Farm Machinery and Construction Equipment
Ohio Revised Code Sections 1353.01-.06 require a supplier of farm machinery or construction equipment to repurchase the inventory of a terminated dealer under certain circumstances. The statute expressly excludes "motor vehicles," which are covered, as noted above, by Chapter 4517 of the Ohio Revised Code.
The statute was amended in 2001 to include a "good cause" termination requirement, plus a prohibition against a supplier substantially altering or failing to renew a contract without good cause. This provision applies only to contracts executed after October 26, 2001, or to continuing contracts with no expiration date. "Good cause" for termination includes the failure of the dealer to comply with contractual obligations (provided those obligations are similar to those imposed on other dealers similarly situated); failure to provide adequate sales, service or parts personnel; failure to meet the supplier's reasonable market penetration requirements; or engaging in "business practices that are detrimental to the consumer or the supplier," including misleading advertising or the failure to perform warranty obligations. The statute requires 180 days' written notice of termination, but a dealer may submit a plan to correct any deficiencies within this 180-day cure period.
Other Law Affecting Enforcement and Termination
Ohio Common Law
Independently of the statutory limitations described above, common law claims may grow out of a termination or may be raised by a dealer or distributor either to block a termination or to recover damages after termination. We will consider the claims most often raised.
Failure to Give Reasonable Notice
If a distribution agreement specifies no duration or notice period for termination, it can be terminated by either party, without cause, on reasonable notice and after a reasonable duration. The reasonableness of duration and notice periods is fact-specific and determined by a court or jury on a case-by-case basis. Some courts have recognized an implied term in a distribution agreement that the duration should be sufficient to enable the dealer or distributor to recoup its initial capital investment. Whether notice is reasonable may depend on such factors as the time needed to sell off inventory or to line up a new supplier.
A dealer or distributor suing over termination may occasionally advance a claim of promissory estoppel. This claim, which ordinarily arises in the employment context, requires a plaintiff to show:
- a clear, unambiguous promise;
- reasonable and foreseeable reliance on that promise; and
- injury resulting from that reliance.
Promissory estoppel cannot be raised where a written contract exists, and the claim often rests on an allegation that the supplier had promised that the dealer or distributor would not be terminated as long as its performance were satisfactory.
Breach of the Implied Covenant of Good Faith and Fair Dealing
Dealers and distributors facing termination frequently raise a claim for breach of the implied covenant of good faith and fair dealing. Some state statutes provide that all "franchise" contracts are subject to this covenant, which requires, generally, that parties treat each other fairly. Ohio has recognized in its version of the Uniform Commercial Code (Ohio Rev. Code Section 1301.09) that a duty of good faith is part of every contract for the sale of goods.
Several cases have held that the duty of good faith imposed on a manufacturer by the alcoholic beverages distributor statute, discussed above, bars a manufacturer from coercing or intimidating a distributor. The motor vehicle dealer statute defines good faith as "honesty in the conduct or transaction concerned and the observance of reasonable commercial standards of fair dealing . . . including, but not limited to, the duty to act in a fair and equitable manner so as to guarantee freedom from coercion, intimidation, or threats of coercion or intimidation" (Ohio Rev. Code Section 4517.01(BB)).
These statutory formulations have not been applied outside of the specific industries covered by the statutes, and there are no Ohio cases finding a violation of the covenant of good faith and fair dealing in a situation where the terminating party has done nothing except exercise rights expressly granted in the written distribution agreement.
Commercial Disparagement and Unfair Competition
A terminated dealer or distributor may also claim that the supplier has disparaged its business by notifying customers, for example, that it has been terminated or is performing unsatisfactorily. This conduct by a supplier may support a common law claim of unfair competition or commercial disparagement. While unfair competition ordinarily arises from a firm attempting to pass off goods as those of another, the Ohio Supreme Court explained in the 1984 decision Water Management, Inc. v. Stayanchi that "the concept of unfair competition may also extend to unfair commercial practices such as malicious litigation, circulation of false rumors, or publication of statements, all designed to harm the business of another." This formulation of unfair competition closely approaches the common law torts of defamation or commercial disparagement, which involve the making of false statements about a person, business or the quality of a person's or business' goods or services, producing damage to the business.
A claim that is raised routinely in termination litigation is tortious interference - the wrongful interference in a contract or business relationship of the dealer or distributor with a third party. To succeed on such a claim, a party must show:
- the existence of a contract or business relationship;
- the wrongdoer's knowledge of the contract or relationship;
- an intentional interference with the contract or relationship causing breach of the contract or disruption of the relationship;
- a lack of justification for the interference or other evidence that the interference was improper; and
- resulting damages.
A tortious interference claim is often asserted against a manufacturer when termination adversely impacts the dealer's or distributor's relationship with customers. The claim is also frequently asserted against a new dealer or distributor for contacting the terminated dealer's or distributor's customers in an effort to secure their business. A terminated dealer or distributor may also claim that the new dealer or distributor wrongfully induced the manufacturer to terminate the supply relationship.
A terminated dealer or distributor may also allege fraud against its former supplier. It is sometimes contended that the manufacturer fraudulently induced the dealer or distributor to enter the relationship, either by omitting to disclose material information or by making misrepresentations upon which the dealer or distributor relied in making the decision to enter the relationship. Alternatively, a dealer or distributor may claim that it detrimentally relied upon assurances by the manufacturer that it would not be terminated and thereafter purchased more inventory than it would otherwise have purchased or made capital investments that it otherwise would not have made. Fraud requires the plaintiff to show, by clear and convincing evidence, a false representation or concealment of a material fact that has been made with knowledge of its falsity or with such utter disregard for truth that one can infer the intent of misleading another into relying upon it. The plaintiff must also show justifiable reliance upon the representation or concealment and injury resulting from it.
The federal antitrust law prohibiting unreasonable restraints of trade, Section 1 of the Sherman Act (15 U.S.C. Section 1), has potential application to a dealer or distributor termination, but its application will normally depend upon proof of a price-fixing agreement.
Section 1 of the Sherman Act prohibits a manufacturer from reaching an agreement with a dealer or distributor on the minimum price at which goods may be resold. Such an agreement is deemed per se unlawful. The United States Supreme Court held in 1997 in State Oil Co. v. Khan that a maximum resale price agreement, in contrast, may be permissible under a "rule of reason" analysis. Under this analysis, a restraint is evaluated to determine whether its pro-competitive effects outweigh any anti-competitive effects. Other business practices that have indirect effects on pricing may also fall under antitrust scrutiny, including suggested retail prices, cooperative advertising and dealer assistance programs, but these practices will not expose a supplier to antitrust liability in the usual case, and they are not per se illegal.
A vertical restraint in connection with termination of a supply relationship may be a per se violation of Section 1 if the restraint includes some agreement on minimum resale price levels. The Supreme Court has held that Section 1 may be violated if a manufacturer terminates a discounting dealer pursuant to agreement with a competing dealer that the competing dealer will not sell the manufacturer's products below a certain price. The successful plaintiff in a federal antitrust case can recover treble damages and its attorney fees.
An agreement between a manufacturer and its dealer or distributor limiting the territory in which the dealer or distributor can sell the manufacturer's products, the location from which it can sell or the customers to which it can sell is subject to rule of reason analysis. Courts recognize the pro-competitive benefits of such an agreement and rarely disturb it unless it has a significant net adverse effect on interbrand competition.
Ohio has its own antitrust law, the Valentine Act, Ohio Revised Code Chapter 1331. The restraint of trade provisions of the Valentine Act parallel Section 1 of the Sherman Act, and a firm or individual may bring a Valentine Act claim in state rather than federal court. Like the Sherman Act, the Valentine Act permits the recovery of treble damages and attorney fees.
Parties to a distribution agreement have broad latitude under Ohio and federal law in establishing the terms of their relationship. Careful contracting - including a clear statement of the conditions under which termination may occur - and careful planning, including an understanding of the statutory and common law limitations on termination described in this bulletin, are the best means by which to avoid costly disputes and even costlier litigation.