Consignment and commission in bankruptcy – What should you, as a supplier, consider?

A development that my colleagues and I at Advokatfirman Carler have noticed in bankruptcy and restructuring matters, particularly within clothing and fashion, is that it has become increasingly common to use various contractual arrangements in relation to suppliers, e.g. different forms of consignment and commission. There are primarily two likely reasons for this. The first is liquidity reasons, meaning that the retailer does not have to purchase the goods already at the time of delivery. The second is that the supplier wishes to obtain security in case the retailer becomes insolvent.

As an alternative to ordinary purchases of goods, various types of agreements are drawn up with the aim of ensuring that the supplier instead gets paid for the goods sold by the retailer at a later date. These arrangements are often referred to as commission or consignment and can in practice often be a kind of hybrid of both consignment and commission, which in the worst case may mean that the intended legal effect does not materialise. Below is a brief account of the most important factors that a supplier should be aware of regarding the right of separation in a bankruptcy situation when agreements on commission or consignment have been entered into.

Right of separation in bankruptcy

If a retailer is declared bankrupt, the question arises as to who has the right to dispose of the goods in the retailer’s warehouse and shop.

In bankruptcy, all property in the bankrupt company’s possession is presumed to belong to the bankrupt company. If another party, for example a supplier, claims that this is not the case, that party must prove its ownership. If the supplier owns the goods, the supplier may have a so-called right of separation.

For a right of separation, it is required that the delivered goods can be distinguished and identified. If the goods have been mixed with other goods in such a way that they can no longer be identified, there is no right of separation. In addition, the supplier must have so-called proprietary protection in the goods so that they are not included in the bankruptcy estate and can therefore be sold by the bankruptcy trustee.

The payment model in such an arrangement can be of great importance to the question of whether the supplier has proprietary protection, as described below.

Consignment and commission

The contractual arrangements that we have noted often occur between supplier and retailer in these situations are often referred to as commission or consignment.

Commission means, in short, that a supplier deposits a commission stock with a retailer who in turn sells the stock in its own name but on the supplier’s account. The retailer prepares accounts of the sales and as a rule receives a commission on the sale of the supplier’s stock. Ownership of the property therefore never passes to the retailer. Commission relationships are governed by the Commission Act and as a rule entail a right of separation in bankruptcy, at least if it is a case of true commission.

Consignment, in turn, means in short that a supplier deposits goods with the retailer, who in turn has the right to purchase the goods itself, most often in connection with the retailer reselling the goods. The retailer thus sells the goods on its own account and buys the item from the supplier in connection with the item being sold to the customer. In practice, this often leads to the retailer selling an item to a customer before the supplier has been paid.

Consignment is a structure that is not supported by law, which entails some uncertainty regarding the possibilities for proprietary protection in a bankruptcy situation. Consignment arrangements often resemble both commission relationships and purchases with a retention-of-title clause.

It should be noted that purchases with a retention-of-title clause have in case law been declared to lack proprietary effect if the supplier – expressly or implicitly – has given the retailer a right to dispose of the item before final payment. In a standard wholesale delivery of clothing to a clothing store, the supplier is normally considered to accept that the clothing store sells the clothes to consumers, regardless of whether the supplier has been paid or not. Therefore, retention-of-title clauses (or ownership clauses) are normally not valid in bankruptcy when it comes to this type of goods.

Has proprietary protection arisen?

A commission or consignment agreement may mean that the supplier has proprietary protection, but this depends to a large extent on the actual circumstances of the individual case and how the agreement has been drafted.

Below are some rules of thumb regarding commission/consignment agreements. If they are not fulfilled, the supplier risks not having proprietary protection in bankruptcy and thus no right of separation either:

• Who bears the commercial risk?

If the retailer has the right to return everything that could not be sold to the supplier, this may indicate that a right of separation exists. If the retailer is to pay a certain percentage of, for example, the purchase price on everything that is returned, this instead speaks against proprietary protection having arisen. Some significance is also attached to who bears the cost of, for example, warehousing and insurance.

• Does the retailer have the right to dispose of the stock before payment has been made to the supplier?

One reason why consignment arrangements are less often considered to entail proprietary protection is the fact that the retailer usually has the opportunity to dispose of the stock before the supplier is paid. For a consignment arrangement to entail a secure right of separation, it is required that the retailer purchases the relevant item from the consignment stock in close connection with it then being sold to a customer in, for example, a clothing store. The retailer’s acquisition from the supplier thus takes place simultaneously with the end customer’s purchase from the retailer. However, this is not the case when a monthly sales report is prepared and a subsequent invoice from the supplier is issued thereafter. In such cases, the arrangement takes on more the character of a credit purchase, which does not entail proprietary protection. Nowadays, however, there are certain digital payment systems that can arrange for the purchase price to be set aside almost immediately at the time of purchase.

• What the agreement is literally called is of less importance for proprietary protection.

In some cases, an agreement may, for example, be referred to as a consignment agreement but in practice constitute a commission relationship. Provided that it is a commission relationship that is correctly applied in practice, proprietary protection may have been achieved.

Concluding summary

As a supplier, it is important to note that it is not only the agreement that entails proprietary protection, but that it is also required that the agreement in question is complied with in practice in a way that entails proprietary protection.

Circumstances that are of great importance for proprietary protection to be considered to have arisen include, among other things, return risk, right of return and the right to dispose of stock/goods before final payment.

Our recommendation to suppliers is to consult an insolvency lawyer, for example at Advokatfirman Carler, when an agreement on a payment arrangement is to be drafted. An insolvency lawyer can help you draft agreements and evaluate practical working methods to minimise the risks in the event of the retailer’s possible bankruptcy.

It is also appropriate to seek assistance when the supplier has already ended up in a situation where a customer has been declared bankrupt and there is a need for discussions with the bankruptcy trustee. At Advokatfirman Carler, we have extensive experience both in representing suppliers and handling retail bankruptcies. We can therefore often help to find good solutions for the supplier.

Andrea Anjou

Associate