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1. Introduction

International firms have a number of different alternatives to enter foreign markets when commercializing their products or rendering their services. In some cases, they opt to incorporate a subsidiary or set up a branch. In other situations, the cost – benefit analysis indicates that less costly alternatives should be explored. Foreign firms then decide to appoint a local firm as their agent, representative or distributor in the local markets.

In very broad terms, both the foreign and the local firms enter into a contractual arrangement. The foreign firm provides the products or services, and the local firm facilitates, in a way or another, the entrance of such product or service in the local market. In other words, the foreign firm does not act alone, but with the assistance and cooperation of the local firm. The latter’s degree of involvement and autonomy may vary, depending on the type of the contractual arrangement.

Various countries have opted to regulate these types of contracts. In this regard, Paraguay has not been the exception. In fact, Law No. 194/1993 (Law 194) governs agency, representation, and distributorship agreements between foreign firms and local parties.[1] This sets up a protectionist regime favoring local agents or distributors against a foreign party’s revocation, termination, modification or denial of extension of the term of an agency, representation or distributorship agreement.

2. Definition of Agency, Representation and Distributorship

According to Law 194, an agency agreement is a duly executed contractual relation by which a foreign firm authorizes a natural person or a legal entity domiciled in Paraguay to act on its behalf in the management or conclusion of businesses or contracts within Paraguay or any other determined area for the promotion or sale of products or services in exchange for the payment of a commission. On the other hand, a representation agreement is considered as the duly executed contractual relation where a foreign party authorizes a local party to carry out commercial transactions for the promotion of businesses.  Finally, distributorship agreement is defined as a duly executed contractual relationship between a foreign supplier and a natural person or legal entity domiciled in Paraguay for the purchase or consignment of products for resale within Paraguay.

3. Public Order – Jurisdiction

Law 194 is considered of public order nature. Through contractual agreements, parties may not waive rights Law 194 confers. The latter provides that parties to these agreements shall mandatorily submit controversies to the jurisdiction of the local courts or to arbitration proceedings. The Paraguayan Supreme Court has said that an arbitration proceeding in this sense must have its seat of arbitration in Paraguay. Therefore, Paraguayan courts may invalidate clauses submitting agreements of this nature to foreign courts or foreign arbitration bodies.

Notwithstanding the foregoing, the Paraguay legal system does provide for one exception. This is only applicable to Mercosur States. It refers to the Protocol of Buenos Aires on International Jurisdiction of Contracts. This instrument, which Paraguay has ratified, allows parties to choose a different forum, as long as this forum is a member of a Mercosur State.  For instance, the Argentinean international company may enter into a distributorship agreement with a Paraguayan party. Controversies and disputes arising from such agreement may be subject to Argentinean courts. Argentina is a party to the Protocol of Buenos Aires.

4. Legal Form

Law 194 stipulates that agency, distribution and representation agreements must be made in writing and registered at the Public Registries. Agreements concluded before the entry into force of Law 194 (that is to say before 1993) may be evidenced by other means such as letters of authorization, purchase invoices, and payment receipts. In absence of a written contract, the local party carries the burden of proof of demonstrating that it has entered into an arrangement with the foreign party subject to Law 194.

5. Terms of the Agreements

In practical terms, the duration of these types of agreement is not subject to any limitation under Paraguayan law. Therefore, these agreements have an indefinite time of duration unless otherwise expressly provided therein. In cases where the agreement is entered into for a fixed period, the parties’ act of continuing with the contractual relationship under the same terms, even after the agreement has expired, will result in the agreement being considered of indefinite duration. In this context, Law 194 expressly provides that a relationship between a local party and a foreign firm may last for over 50 uninterrupted years.

6. Exclusivity Clauses

Exclusivity clauses in these agreements are only enforceable between the parties to the agreement, even if such agreement has been duly registered at the Public Registries. If, for instance, certain products are manufactured abroad and legally imported into Paraguay, these products may not be subject to any type of restriction regarding their sale within Paraguay, even if there is an existing local party with exclusive privileges. Such local party may only claim damages from the foreign party, if such import was the result of a breach of contract.

7. Non – Compete Clauses

As a general rule, non-compete clauses would be permitted, but subject to certain limitations. In particular, given the relatively recent enactment of the Paraguayan Competition Law, and in order to avoid sanctions, such non-compete clause would have to be aimed at providing / adding economic efficiencies in the best interest of consumer welfare.

8. Termination

Law 194 specifically regulates the termination of these agreements. As a general rule, an agreement can be unilaterally amended or terminated without cause by the foreign party, provided that the foreign firm gives a special compensation to the local party. Law 194 establishes a special regime in this regard.  This will be explained in further detail below.

The foreign party can terminate the contractual relationship with the local party without the obligation to provide the special compensation only if it proves justified cause (e.g. fraud, conflict of interest, gross negligence, breach of contract) in the context of a judicial proceeding. In addition to carrying the onus probandi, the foreign party must initiate a legal proceeding against the local party. However, before doing so, the foreign party must request that the local party remedies the stated cause within 120 days. If the local party does in fact remedy such cause within such period, the foreign party cannot terminate the contractual relationship.

9. Termination without cause

The foreign party may nonetheless terminate such relationship at any time without expressing justified cause, but upon the payment of a significant compensation in favour of the local party. Law 194/1993 sets forth an equation / formula to establish the compensatory amount owed by the foreign party to the local party. The formula takes into account two main elements:

a) the duration or length of the contractual relationship; and

b) the average gross income obtained by the local party (on a yearly basis) in the last three years of the contractual relationship.

Gross income is the result of the amount of gross sales minus the cost of the merchandise sold. If the parties have agreed to the payment of commissions, gross income is equal to the gross amount of such commissions. The duration of the contractual relationship is divided into six different periods or scales:

a) 2 to 5 years;

b) more than 5 to 10 years;

c) more than 10 to 20 years;

d) more than 20 to 30 years;

e) more than 30 to 50 years; and

f) 50 years and onwards.

Law 194 clearly sets forth six periods or scales to measure the duration of the contractual relationship. In Presidential Decree 7/1991, which preceded Law 194, these scales constituted a multiplier applied to the average gross income attained in the last three years of the contractual relationship. For example, for a relationship between 2 to 5 years the multiplier was 1; for a relationship of more than 5 to 10 years the multiplier was 2; for a relationship of more than 10 to 20 years the multiplier was 3. Thus, the longer the relationship the more expensive it was for the foreign party to terminate it.  Presidential Decree 7/1991 contained a special reference to the multiplier, which was increased progressively from 1 to 6, as the time of duration of the contractual relationship was longer and fell into one of the six different scales.

When introducing the amendments and modifications into Decree 7/1991, the legislator omitted to make any reference to the multiplier but maintained the same structure of time and gross income in the formula to determine the amount to be awarded to the national party in case of unjustified termination of the contractual relationship. In the current scheme of Law 194, there are still six different scales for the duration of the contractual relationship, but no reference to the multiplier. However, national courts have recently started applying this “missing” multiplier.

Any amendment or modification in the corporate structure of the foreign firm (including but not limited to merger, change of name, change of domicile, or acquisition) would not affect the duration of the contractual relationship.  Should these changes take place, the responsibility would be passed on to the successor in title of the former entity.

10.  Some Examples

To establish the potential minimum exposure of a foreign firm under the scheme of Law 194, we establish three scenarios and for simplification purposes we have made the assumption that the average gross income of the last 3 years is US$ 50,000.

i) First Scenario

a. contractual relationship with the local party of more than 5 years but less than 10;

b. average gross income: US$ 50,000;

c. multiplier: 2

d. Compensation amount: US$ 100,000

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ii) Second Scenario

a. contractual relationship with the local party of more than 10 years but less than 20;

b. average gross income: US$ 50,000;

c. multiplier: 3

d. Compensation amount: US$ 150,000

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iii) Third Scenario

a. contractual relationship with the local of more than 20 years but less than 30;

b. average gross income: US$ 50,000;

c. multiplier: 4

d. Compensation amount: US$ 200,000

In addition, Law 194 provides that in the event of termination without cause, the local party has the right to re-sell the remaining available stock to the foreign party. This is applicable regardless of whichever compensation may result, and the foreign party may not refuse to re-purchase the products, which must be made at regular market price.

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11.  Statute of Limitation

Law 194 does not provide a specific limitation period for claims resulting from these agreements.  Therefore, the provision of the Civil Code applies. Under Article 659 of the Civil Code, the statute of limitation for claims without a specific limitation is 10 years.

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12.  Conclusion

Before deciding to enter into a contractual arrangement (e.g. agency, representation, distributorship) with local firms, foreign firms should make a careful assessment of the associated economic and legal risks embedded in the Paraguay legal system. Although there are ways to mitigate these risks, the reality is that Law 194 sets up a very protectionist legal regime that makes extremely onerous for foreign firms to terminate a contractual arrangement with a local party. In order to avoid having to pay compensation, foreign firms must demonstrate just cause in the context of a legal proceeding initiated against the local firm. This may be lengthy. The foreign firm carries the burden of proof. Law 194 is of public order nature. The possibility to submit the controversy to foreign courts is extremely limited.

[1] In Paraguay, agency and distribution agreements involving purely local parties should be governed by the general provisions of the Civil Code.