A Sales Rep’s Options if Their Principal Breaches the Contract and How to Prevent It

Part One

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One of the most common and pertinent questions I get from sales reps is, “My principal breached one of the commission payment requirements of the contract but they are still paying me on other sales. What should I do?” That’s a very good question that depends on the circumstances. My intent in this article is to explore the various options.

You signed a representation agreement with a highly desirable manufacturer, and although it took several years to cultivate business, you landed the big accounts and everything has been humming along for the past eight years. Cha-ching! Suddenly, there is a change of management or ownership and almost as suddenly you’re being terminated, or having your sales commissions cut. What can you do? What do you do?

First off, as preventative medicine, my firm uses various provisions (see below) in contracts we prepare for reps that dissuade a principal from taking actions that can affect a rep’s commissions. Although there are no guarantees, insurance against a termination or commission reduction is always the best plan, especially in technical fields, where cultivation of sales can take years. You do not want to leave yourself in a position of having cultivated sales in a technical field for several years, to finally get your principal’s part designed into an OEM’s pipeline of business and then be terminated on 30 days’ notice. The following types of provisions have been useful in assuring that does not happen.

Buyout Provisions

I have found that clauses requiring buyouts of a sales rep’s commission rights under a contract, in case of termination or commission reduction, are the most effective. However, normally such a buyout provision is only negotiable if you have a large enough reputation or book enough business to demand it. If you are able to negotiate and obtain such terms, you will have a much better chance of not being deprived of your hard earned commissions.

In industries where it can take several years to get manufactured parts designed into OEM customers’ products, which may then produce business for years to come, it is not unreasonable to demand a buyout, if those years of intensive work could potentially go down the tubes on a 30-day termination provision. Sometimes, standalone 30-day termination provisions are used by the principal to avoid paying long-term commissions. Buyout provisions protect against such opportunistic terminations on the heels or cusp of landing major sales. They compensate the rep with either a liquidated sum based, e.g., on the previous year’s sales and commissions, or they can trigger a payout based on actual sales for a certain period of time after termination. They can be negotiated to take place after a given amount of time invested by the rep in cultivation and marketing of sales or, when the rep brings a substantial book of business to the table, at the inception (or even later), thus making it more palatable to the principal to be bound by a buyout provision.

Right of Refusal on Commission Reductions

Another provision to prevent a rep from losing hard earned commissions, right of refusal on commission reductions, can be related to buyout provisions. In the contracts that come across my desk, I often see provisions allowing principals to “modify” or “adjust,” meaning to decrease, never to increase a rep’s commission percentage or structure. That is usually a very difficult provision to negotiate out of a principal’s contract, once they have gotten used to the benefit of such an option. However, I have found it highly possible and effective to include an associated provision, if the principal requires the right to change the commission structure. We, in turn, provide that the rep has to be given 90 days’ written notice of such a commission rate/structure change and a right to refuse the change, terminate the contract and receive a buyout, if the principal is not willing to rescind the reduction, or the rep can simply agree to the change, if earning enough commissions from other business with the principal to justify it. If the principal has an unfettered right to terminate the contract on 30 days’ notice, such refusal provision will not be effective; because if the rep doesn’t agree to the change, the principal can simply terminate. To be effective, the refusal provision has to be linked to a buyout, in case of a termination.

Automatically Renewing Contracts

Automatically renewing contracts — those that by their own terms renew from year to year unless canceled a certain number of days before the end of the ongoing term — are less effective but better than nothing. Such clauses would typically get a sales rep one or several more years of commissions (depending on the contract duration and language) if drafted properly and if the principal fails to pay attention to the cancellation provisions. However, many of the contracts presented which ostensibly have such automatic renewal provisions are really nothing more than 30 day at will contracts, because often they have a subsequent provision to the effect: “notwithstanding the prior provisions, either party may terminate this contract on 30 days written notice…” Those 30-day termination provisions are, in my opinion, diametrically opposed to a truly automatically renewing contract for a certain duration. Such 30-day provisions should be stricken from any contract where automatic renewal is the goal of both parties or, at the very least, changed to being terminable on 30-day notice only for very limited cause, which should be clearly stated in the contract.

What to Do if You Can’t Get Protective Provisions

Obviously, not all sales reps have the ability to demand such protective contracts. When protective contract terms have not been attained and a principal breaches the commission payment terms of the contract, what are a sales rep’s options?

• Option 1 — They can try to get the principal to reverse its decision to decrease commissions, take a house account or terminate the contract (the big 3). Or, they can seek to renegotiate their contract to gain other protections, while agreeing to give up what the principal wants. However, once the termination or reduction of commissions has occurred, the principal is not likely going to reverse itself without the threat of a lawsuit. If, however, the principal has previously been guilty of other breaches/violations of statute or certain doctrines favorable to plaintiffs are found to apply, the rep may have leverage to get a reversal of the decision to cut commissions or terminate, or they can leverage a new, more protective contract.
• Option 2 — If there is a provision in the contract for it, the rep can give notice of the breach to the principal and a chance to “cure” the breach. Meaning, if the principal failed to pay the proper commission, or any commission at all on a commissionable sale and proper notice is given by the rep of the failure to pay with a certain number of days to rectify it, the principal can still comply and avoid further legal action. Buyout provisions can be linked to a failure to cure a material breach. Even if there’s no notice and cure provisions in a contract, it is often best to give notice to a principal of a breach and ask them to rectify it. That way, if a lawsuit ensues, the plaintiff looks more reasonable versus rushing to judgment.
• Option 3 — If there is nothing in the contract requiring notice and a chance to cure before default, and one finds him or herself in a situation where they can still be earning substantial commissions under contract, while having had some commissions taken away, then they have to be very careful. One can give notice of the breach, which should be in writing, while continuing to receive the other fruits of the contract. If done properly, that can reserve the rep’s right to later sue for the breach. If, however, the rep continues to accept commission checks for a lower rate than what the contract requires, or even abandons its right to seek commissions on a particular sale, account or program, without disputing the decrease in commissions, the issue of waiver comes into play (see part 2 of this article next month).
• Option 4 — Finally, if the breach is substantial enough that the rep wishes to terminate the relationship with its principal, it could terminate the contract and sue for breach, along with any violations of state law pertaining to the payment of sales commissions. If there are notice and cure provisions in the contract, as discussed above, they should first be followed.

To be continued next month.

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