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Thoughts on Distributor Contracts

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The contract is the defining document of most publisher-vendor relationships.
Written by the vendor, the boilerplate contracts generally favor the vendor’s
perspectives and interests. All of these boilerplates are subject to
revision, and negotiation should be undertaken before the contract is signed.
Almost everything in a proposed contract is negotiable. Still, as Ivan
Hoffman reminds us, just because something is negotiable does not mean that
it will be negotiated. “Who needs whom, and how much” still seems to be the
practical criterion of negotiability.

Some contracts are elaborate and detailed, running on for many pages. Others
seem almost handshakes-in-writing, glossing over items that intricate
contracts chew down to the gristle. Non-lawyer publishers who are trying to
select new distributors or resolve issues with old ones can easily become
confused. Is there any legal significance to the fact that something is
undefined in a contract, for example? Does the failure of a contract to
define a relationship thoroughly make it unenforceable? How does the
publisher determine if the individual state laws that govern the
interpretation of the contract spell out the contractually undefined terms?

Many contracts seem little more than agreements to work together. Contracts
may even contain clauses stating that a failure to live up to any term in the
contract does not void the contract. What does that mean for the publisher
who concludes that the distributor is not promoting or selling the
publisher’s books or not doing either adequately? On first glance, it appears
as if all the publisher can do is follow the formal procedures to terminate
the contract while acting as if the contract does not exist. This isn’t a
very satisfying solution, and it may not be an effective one either.

Even when the contract is honored by both sides, however, a certain amount of
ambiguity seems inevitable. There is a limit to how fully these contracts can
spell out all contingencies. Difficulties seldom become insurmountable when
business is good. But when business turns bad, it is easy for
misunderstandings to produce hard feelings. Witness the ill will that has
surrounded issues like returns, publisher payments, and distributor
bankruptcy in the last year or two. To the extent that a contract spells out
the relationship in detail, the contract can provide a clearer statement of
the mutual responsibilities and minimize potential conflicts or
misunderstandings.

Distributors Versus Wholesalers

The major difference between a distributor and a wholesaler is the
exclusivity of the relationship. Wholesaler contracts are non-exclusive and
generally less restrictive. The wholesaler agrees to sell the publisher’s
books under agreed-upon terms without requiring the exclusive right to
control the distribution of the books within the agreed-upon sales territory.
In theory, non-exclusive agreements enable the publisher to maintain selected
clients while making titles available to the larger universe of accounts
served by the wholesaler.

Wholesalers are not all equivalent. At the top of the chain are the national
wholesalers, such as Ingram or Baker & Taylor, which maintain warehouses in
various parts of the country and which service large and small accounts
everywhere. Specialty wholesalers market niche titles to bookstores and/or
special markets like health food stores. Regional wholesalers maintain
essentially local and regional territories. Other wholesalers market to
specialized retailers, such as warehouse clubs or drug stores. The”Wholesaler” section of the Literary Market Place lists pages and pages of
wholesalers.

To assure themselves of national distribution, publishers with wholesaler
contracts often maintain agreements with more than one regional or specialty
wholesaler. Large, national vendors are often reluctant to work directly with
smaller publishers. They prefer to have the “Vendor of Record” programs with
smaller wholesalers and distributors that allow them to minimize the costs
and labor of ordering titles and maintaining accounts. To obtain good
distribution to the large warehousers and chains as well as the local
independents, most publishers sign multiple distribution agreements and
monitor multiple sales reports.

There are fewer “master distributors” in the book trade. Exclusive contracts
with these distributors can be a little less laborious than wholesaler
contracts. It is seldom necessary or appropriate for publishers to sign more
than a single contract with an exclusive distributor, because the distributor
normally acts as the middleman and handles sales to national, specialty, and
regional distributors. Assuming that the distributor (or the wholesaler for
that matter) has agreements with these national accounts, all these sales can
be completed from the distributor’s warehouse. (To protect themselves in case
a distributor does not have all appropriate sales agreements, publishers may
wish to reserve for themselves the right to sell to accounts not serviced by
the distributor.)

Exclusive contracts can also call for more sacrifice than wholesaler
contracts. Publishers may not wish to give up their favorite accounts or
waive the right to sell directly to bookstores. Unless specific exceptions
are negotiated, however, distributor contracts usually require both.
Distributors, at least in theory, consider the sales efforts they make on
behalf of publishers to be investments in future sales.

Most distributor contracts define their specific territory for exclusive
marketing rights as the United States and Canada. Some claim much more,
however–the entire English-speaking world, for example, or perhaps the
entire world. Some contracts include rider agreements that optionally expand
the agreement beyond the basic territory. In the matter of foreign sales,
most of these riders grant the distributor an exclusive right to sell to
specific foreign territories. This “all or nothing” relationship requires
publishers to examine their international sales goals very carefully.

A related issue is the way the distributor contract defines “trade.” Most
insist on exclusivity to the book trade, loosely defined as bookstores,
wholesalers, libraries, and jobbers. Some include catalogs and college
markets as well. Some contracts include separate, all-or-nothing riders
assigning distributors exclusive marketing rights to various special markets.
Special markets can make for substantially greater sales than foreign markets
for most publishers. Further, one might expect that special sales will become
much more integral for publishers’ health in the near future. Publishers need
to define their nontrade marketing plans carefully before signing away
exclusive marketing rights to special markets.

The all-or-nothing nature of these riders may be disturbing to a publisher.
One might question whether these sales need to be pursued on an exclusive
basis and whether a distributor may be willing to take on special or foreign
sales on a non-exclusive basis.

Presumably, a rider can be terminated without terminating the rest of the
contract as well (though this may not be provided for in explicit language),
but this is an ambiguity that should be resolved by anyone considering
signing an exclusive contract.

Inventory

Distributors and wholesalers need to have supplies of each publisher’s books
in order to carry out their distribution activities. Most distribution
contracts require publishers to ship titles, generally at their own expense,
to the vendor’s warehouse. Many distributors and wholesalers attempt to
estimate the sales potential of each title and to base their initial orders
and reorder points on that estimate. As a general rule, most attempt to
maintain a minimum three-month inventory, though some may require as much as
a year’s supply.

Most inventory is consigned to the wholesaler or distributor. This means that
the publisher remains the owner of the inventory until the sale. Usually
implicitly but occasionally explicitly, a distribution contract will provide
that ownership of the inventory is transferred to the distribution company
only upon the sale or immediately back to the publisher immediately upon
return. Ownership of inventory is not merely a technical issue. A few years
ago, one distributor was forced to declare bankruptcy. Its contract with
publishers made the distributor the owner of the inventory as soon as it
arrived at the warehouse. As a result, the bankruptcy court ruled that the
books “belonged” to the distributor and could be liquidated to pay off the
distributor’s obligations. Frustrated publishers were surprised to discover
that neither their receivables nor their inventory was recoverable.

Wholesalers are likely to store titles at their expense. Growing numbers of
distributors, on the other hand, charge publishers storage fees to warehouse
titles. These fees can range as high as $.02 per book per month, and some
distributors assess a minimum per-title storage fee. These fees can
accumulate quickly, adding up to sizeable chargebacks against payments.
Fortunately, storage fees are often negotiable.

Not all distribution companies insure their inventory, and none of those that
do insure it for face value. In general, where vendors do insure their
inventory, coverage is limited to 15 or 20% of retail value or to”manufacturing” costs (usually paper plus printing and binding, but not
prepress costs or freight). Some insure stock for certain
contingencies–fire, flood, loss, or theft, for example–but not for others.
No company insures inventory for normal damage or wear and tear caused by
bookstores or by shipping. Some offer no insurance whatsoever, making the
publisher responsible for all damage to inventory.

Even when inventory is insured, contracts generally limit the vendor’s
insurance liability to losses above a “normal loss” allowance–which can be
as high as 5% of the total inventory for the year. In order to measure the
loss and prepare for an insurance claim, however, the wholesaler or
distributor needs to make periodic–usually annual–counts of inventory. Not
all contracts, however, contain provisions for scheduled counts of stock.
Even though few publishers look forward to receiving insurance windfalls,
they should still ascertain if and when these scheduled counts will take
place and make sure that the counts are actually made on schedule.

Sales and Marketing

It is tempting, especially for the beginning publisher, to think that once a
distributor or a wholesaler is in tow, the battle is over. Unfortunately the
world doesn’t work that way. Distribution contracts do not sell books by
themselves. Wholesaler and distributor alike are involved primarily at the
distribution end. The publisher must still do the bulk of the promotion and
marketing.

Even so, publishers can expect wholesalers and distributors to perform some
promotional activities, not all of which will be mentioned in the contract.
What is not apparent is how aggressively the wholesaler or the distributor
will perform them. Contracts with wholesalers are largely silent about the
specific kinds of sales encouragements the wholesaler will deliver.
Publishers can expect, at a minimum, a catalog and sales fulfillment. But
whether the wholesaler will boost sales in additional ways is not always
clear. Some wholesalers, for example, may support a few field sales
representatives, while others might depend on alternatives like updated
microfiche lists or seasonal mailings.

A distributor should do more marketing and promoting than the wholesaler, but
neither should be expected to do more than the basic activities that are
outlined in the contracts. These may include such efforts as catalog
production and distribution, advertising in trade journals, trade-show
displays, some presentation of titles to chains and other wholesalers, and,
in the case of distributors, some active sales representation. Otherwise
publishers are responsible for most of the critical promotion and marketing
activities, such as advertising, book reviews, media appearances, bookstore
events, targeted mailings, sales of subsidiary rights, etc.

Cost of Sales

Distributors claim to have the advantage of a sales force that routinely
calls on bookstores and other accounts. The argument is that an informed
sales representative develops a long-term relationship with customers that
results in well-founded customer relations and improved sales.

Maintaining a stable of sales representatives, however, entails additional
expenses. In fact, this is one of the principal justifications for the
slightly higher net costs usually associated with distributors. Wholesalers
counter with the argument that sales representatives do not perform nearly as
much promotion as the publisher, that the benefits of a standing force of
sales representatives in an age of Vendor of Record programs are marginal,
and that the costs of these “marginal” efforts could be publisher profits
instead.

Both distributors and wholesalers raise valid points. The truth probably lies
not in the nature of the agreement, but in its execution. The balance between
costs and payoffs of a particular relationship may well depend on the
differing abilities of different distributors, wholesalers, and publishers to
stimulate sales.

Increasingly, the costs of distribution have become “pay-for-play” expenses.
The most obvious of these costs are commissions and/or fulfillment charges.
Distributor commissions tend to fluctuate more than wholesaler commissions.
As a general rule with exceptions, the larger the distributor’s gross sales
of all titles, the lower the sales commissions (and the more selective the
distributor) will be. Distributors also are more likely to apply a sliding
scale of commissions that depends on the monthly or annual sales volume of
the publisher’s titles. Some distributors collect a fixed fulfillment charge
(i.e., a specified percentage of the invoiced amount for the physical act of
packing and shipping the order) and a variable sales commission based on
measured or estimated gross or net sales. Wholesalers, by contrast, usually
offer simpler formulas: fixed sales commissions on all sales or separate,
fixed commissions for retail and direct sales. Almost all contracts include”fill-in-the-blank” schedules for sales commissions that invite negotiation
about commission rates.

Contracts also spell out various “chargebacks” that can increase the costs to
publishers. Chargebacks are normally deducted from payments delivered to
publishers, but when publisher accounts accumulate credit balances for any
reason, most contracts allow for the distributor or wholesaler to invoice the
publisher for immediate reimbursement. Distributors, with greater marketing
and promotional responsibilities, typically list more of these charged-back
expenses, but wholesalers as well may deduct various expenses from publisher
payments. Among the most common charged-back expenses are catalog costs,
out-of-print notices, trade-show display costs, advertising costs, microfiche
expenses, reshelving fees, special services expenses (such as flat-rate labor
charges for stickering, drop-shipping, etc.), and inventory storage fees.
Some chargebacks–inventory storage fees in particular–are probably
negotiable. Most, however, are fixed, subject to across-the-board revision by
the wholesaler or distributor.

More than a few publishers feel uncomfortable with them, but some
distributors charge start-up fees. These one-time expenses, which can be as
high as several hundred dollars, are justified as necessary to set up
procedures and paperwork for the new publisher. Whether or not they will be
negotiated or waived is up to the distributor.

Distributors and wholesalers alike frequently make marketing and promotional
opportunities available to publishers at fixed costs. The publisher has the
right to choose to join or not. Usually, these are “co-op” opportunities such
as participation in trade journal advertising, trade show displays or shared
space, and other one-time or periodic activities. Prices of these optional
programs can reach into the thousands.

Together, these additional costs can add up to substantial sums. The exact
amounts, however, seldom appear in contracts or other printed matter.
Publishers who are evaluating the real costs of working with individual
distributors or wholesalers may need to ask pointed questions of other
publishers or representatives of the middlemen. Publishers should expect that
their payments from wholesalers or distributors will be less, perhaps
substantially less, than net-minus-commission.

Returns

Returns have created ongoing, unresolved uncertainties for publishers and
vendors alike and probably more ill will and suspicion between them than is
appropriate. Whether or not returnability is a good thing, returns are a
fundamental part of today’s book trade.

Publishers themselves may attach any terms they choose to their trade sales.
But virtually every wholesaler and distributor sells to bookstores on a
returnable basis. Otherwise, bookstores claim, they would have to assume all
the inventory risks and order fewer titles as a result. While this has led
many stores to over-order titles, most wholesalers and distributors continue
to work within these parameters. Publishers argue that nonreturnable terms
would require customers to order more intelligently and take better care of
their inventory.

Most wholesalers and distributors claim that they require returns to be in
the same salable condition as they were when they were shipped. But this is
an assurance that can only be made good in practice. There are any number of
reasons why damaged books might be returned to a warehouse. A certain amount
of “normal” wear and tear is inevitable. Shipping and transportation can be
hard on books, and excessive handling in the warehouse or bookstore can take
its toll. Careless customers and uncaring sales staffs can make a new book
look old very quickly. “Unsalable,” however, is a value judgment. Does a
small scuff or a bent corner compromise a book’s retail viability? How about
a smudge, a banged-up spine, or a little sticker gum? The fact that a
receiving department makes an effort to prevent the return of books damaged
by the customer does not guarantee the satisfaction of the publisher.

Distributors and wholesalers find themselves in the middle. The desire to
maintain good trade relations with customers often dictates that the return
policies of wholesalers and distributors be fairly liberal. Publishers are
thoroughly justified to complain that coffee stains and broken spines are not”normal wear and tear” and to question why returns of these books have been
accepted.

One issue that is often ambiguously discussed in distribution contracts is
the disposition of returns. Most of the time, books that are returned in good
condition are reshelved and presumably redistributed. Most distributors
charge a restocking fee for this effort, usually in the form of a chargeback
to publisher payments. These reshelving fees may not be described in the
contract. They vary from vendor to vendor, and they can be as high as 5 or
10% of credited returns. Publishers are usually given options regarding the
disposition of books that are truly damaged. These books can be returned to
the publisher, usually at the publisher’s expense, or destroyed or recycled
by the wholesaler or distributor. Publishers should determine if individual
vendors charge these restocking fees when books are disposed instead of
reshelved.

Reserves Against Returns

In addition to reshelving fees, most distributors and wholesalers withhold a
reserve against returns from publisher payments. This reserve functions as a
temporary withholding from publisher payments. Most contracts only vaguely
refer to the reserve, allowing the wholesaler or distributor, at its option,
to withhold a “reasonable” or an “appropriate” amount to prepare for
unanticipated returns from retailers. In practice, the reserve is normally
determined by the distributor or wholesaler based on real or anticipated
returns. Sometimes, it is a flat percentage of sales. At other times, it may
be an amount equal to the previous month’s returns or the average monthly
returns for the prior year.

Contracts seldom define how long the returns reserve will be held. A
distributor or a wholesaler may, for example, settle the previous month’s
reserve and begin a new one with each sales report, or it may keep a constant
balance in the till. Individual publishers may or may not be able to
negotiate special returns reserve terms, but as far as possible, they should
try to have the terms defined in writing.

Sales Reports and Payments

Distributors and wholesalers usually agree contractually to provide sales
information and make payments according to a set schedule. Almost every
contract calls for monthly sales reports during the month following the sale.
The point during the month when sales reports are mailed out varies from
contract to contract, and reports do not always appear when they are supposed
to appear. But publishers should expect to be advised of sales in a fairly
timely manner.

Each wholesaler and distributor submits reports in its own format. At the
minimum, sales reports should summarize sales, chargebacks, and inventory
changes for each title. Other sales reports offer additional information,
such as sales and returns from individual customers, receivables, or itemized
details about specific charges. How much reporting flexibility a particular
distributor or wholesaler has or is willing to exercise remains for each
publisher to determine, as is the possibility of receiving reports in other
formats than paper.

Payments for sales follow a different schedule. Most contracts provide that
collections will be distributed between 90 and 120 days after the end of the
month in which the sales occurred. Payments seldom equal the value of the
inventory sold, however. Wholesalers and distributors deduct from the net
sales the chargebacks and returns from the month immediately past. Assuming
that payments are made on time, checks reflect sales and costs from at least
two different calendar periods. Presumably, the statement accompanying the
payment provides sufficient detail for the publisher’s accounting system.

Publishers need to inquire into the basis of payments. Are payments based on
charges or receipts? If publishers are paid on invoiced charges, they can
expect to be paid whether or not the distributor or wholesaler has itself
been paid. This may increase the size of the publisher’s check initially, but
it can also lead to greater credits for returns in the future. On the other
hand, if payment is based on receipts, publishers may receive smaller
payments over a longer period of time and suffer from fewer return credits.

What can a publisher do when payments are late? Occasionally, a contract
provides that late payments which are not corrected following written demand
are cause for immediate termination of the contract, but most contracts
simply affirm that statements and payments will be made on schedule.
Provisions for enforcement are rarely included in contracts. At a time when
late payments have become a growing problems in the industry, publishers can
do little more than call or write their distributor or wholesaler to request
or demand payment or some other form of consideration, such as monthly
interest on unpaid obligations, catalog or advertising allowances, or storage
credits. The squeaky wheel may indeed get some grease, but when it doesn’t,
there are few, nondrastic steps available.

Fiduciary Issues

The fact that books are sold but publishers are not compensated until three
or more months have passed lends a gray aura to several fiduciary issues.
When books are sold, receivables are created. Who owns these receivables?
Most contracts either imply or specify that the wholesaler or distributor as
the owner. For legal and financial reasons, this is probably the only
workable solution–if the publisher were the owner, the distributor would
have no right to press customers to pay for stock received without a grant of
attorney powers or some other legal device. Most of the time, this
arrangement works well. But under some conditions, the separation of the
publisher from the receivables can work to the publisher’s disadvantage. If
the publisher is not the owner of the receivables, the publisher may not be
able to pursue payment from the wholesaler’s or distributor’s customers, even
if the vendor declares bankruptcy or ceases doing business.

A second issue is the ownership of funds that have been received but not yet
paid to the publisher. Presumably, many retailers pay their invoices weeks or
more before the wholesaler or distributor is obligated to pay the publisher
for the sale. In few and perhaps no cases are these funds segregated for
publisher payments, however. These funds, which include both receipts and
reserves against returns or other contingencies, may be “committed” on paper
to the publisher, but they are almost always added to the distributor’s or
wholesaler’s operating funds pending disbursal. When distributors or
wholesalers add these receipts to their operating funds, even temporarily,
they appear to be receiving uncollateralized, interest-free, short-term loans
from the publishers and depending on uncertain future receipts to repay these
loans.

This is not a problem (except perhaps in principle) as long as publishers
receive their payments in a timely fashion. But the consequences of delayed
payments for the publisher’s business can be immediate and significant. When
payments cannot be made on schedule, anxious publishers justifiably question
where their moneys are. The problem of late, unsegregated payments is
magnified if the wholesaler or distributor becomes unable to continue in
business. Commingled funds may be earmarked for the publisher, but they are
considered distributor or wholesaler assets for legal purposes. In the event
of a bankruptcy, the publisher may see no more than pennies per dollars of
sales of its own books.

It is unlikely at this time that the segregation of funds will become a
common provision in distribution contracts. If individual wholesalers or
distributors are willing to escrow undistributed receipts or returns
reserves, they do it only on a case-by-case basis. Still, publishers seeking
distribution agreements should discuss the issue of segregating or otherwise
protecting both receivables and receipts before they sign contracts.

Termination

All vendor contracts can be terminated, but most provide that normal
termination should follow a prescribed course. No contract allows for
termination on demand. All require advanced notification of 90 to 180 days.
Many limit the date of termination to the contract anniversary or to the end
of the spring or fall sales period, which are the major selling seasons of
the book trade.

Termination can be a lengthy process. As soon as one party delivers written
notice, the vendor becomes a lame-duck supplier of the publisher’s titles.
The vendor will still process orders until the last day of the contract, but,
especially in the case of distributors, it may not solicit sales very
aggressively. Some contracts, in fact, relieve the vendor of all promotional
responsibilities once a notice of termination is delivered.

Following the expiration of the contract, most vendors require a period of up
to a year to wind affairs down. Wholesalers and distributors return unsold
inventory, usually within 60 days, to the publisher or, presumably, to
another destination designated by the publisher, such as a new vendor’s
warehouse. Vendors require a period of time following the last day of the
contract–generally six to eight months but sometimes up to twelve–to
receive and process returns from bookstores. Vendors also establish special,
interest-free termination reserves, sometimes as early as termination notice
is received, of withheld publisher payments set aside to cover returns and
other termination expenses. The termination reserve may be defined in the
contract, but its size is almost always fixed liberally by the vendor alone.
Publishers may not receive their final accountings or final payments for
twelve or more months after the expiration of the contract.

Can distribution contracts be “broken” because one party or the other
violates some term or condition? Virtually any contract can be broken with
sufficient effort and resources. However, many distribution contracts
implicitly, and some explicitly, provide for a loose interpretation of their
terms and makes breaking a contract by either side a creative challenge. The
spirit of the contract may be much gentler than the letter, but statements
declaring that the breach of any portion of the contract does not constitute
a breach of the whole contract leave little of substance for an aggrieved
publisher to fall back on. A few contracts provide for immediate termination
following specific events, such as nonpayment of late obligations or
bankruptcy. But, for the most part, publisher and vendor alike are wed to a
relationship that, in many ways, is maintained by trust and good intentions.

Robert Goodman is the publisher at SilverCat Publications. SilverCat produces
books about consumer issues and the quality of life. He and his fellow
members of the Trade Relations Committee (Ivan Hoffman, Lisa Pelto, and Tony
Thompson) have been studying contractual agreements of the major distributors
to the independent press.

This article is from thePMA Newsletterfor March/April, 1997, and is reprinted with permission of Publishers Marketing Association.

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