Breweries sometimes enter into “contract brewing" arrangements, that is, brewing other than their regular brands under contract for a third party. Large, internationally-owned breweries have sometimes done this, for example, to supply a private-label brand for a large customer. One thinks in the past of the beers associated with President’s Choice, the private label of Loblaw Companies. Today, many smaller breweries “contract brew”. In the U.S., some old-established regional breweries have carved out a lucrative business making “craft beer” for market entrants who lack an operating brewery but have a distinctive brand name or formula. One of the best known craft beers in the U.S., Sam Adams Lager, is contract-brewed in parts of the country (as it is in Canada) although some of the beer is brewed in company-owned breweries. In Ontario, numerous craft brands introduced in recent years are brewed at small operating breweries – two different parts of the vibrant craft brewing scene working together.

Typically, an entrepreneur with a branding and marketing concept signs an agreement with a brewery to make a beer branded with the entrepreneur’s trade mark and often according to his recipe.

The main advantage for the non-brewer is saving on the capital cost to acquire premises and erect a brewery and reducing certain operating costs, e.g., to hire a brewer and other production staff. Money saved can be put into marketing and sales efforts. There are disadvantages to this method, some of which are discussed below, but an evident one is you are relying on another party, essentially a competitor, to produce your product. If that party gets into financial difficulty, or is purchased by a third party, or decides to raise its charges unduly upon expiry of the contract, the non-brewing party may find it is “out of Schlitz” until it can locate another source of supply. And, untimely interruption of supply to the market can diminish the growth of, or even put an early end to, the entrepreneur’s brand.

Contract brewing takes a variety of forms:

The above listing is not exhaustive and numerous variations on the practices mentioned can exist. These are sometimes influenced by governing laws or the parties’ particular needs.

Below we highlight some key legal issues to consider when entering into an arrangement of this type. Many of the issues will be common to all such arrangements (e.g., the contract term, proper description of parties, governing law) but some will be particular to a specific type of contract brewing.

The beer business in Canada, indeed in most parts of the world, is highly regulated by laws specific to the production, transportation, warehousing, sale and taxation of beverage alcohol.In Ontario, the Liquor Control Board of Ontario and the privately-owned Beer Store network control beer distribution, setting aside u-brew and brewpub sales. Brewers must hold a manufacturer’s license issued by the Alcohol and Gaming Commission of Ontario and a federal excise license. At a minimum, under the classic model mentioned above, the brewer will have to be duly licensed. Appropriate representations and warranties should be obtained that the brewer is in good standing and holds all applicable licenses and authorisations under applicable laws. The same applies with regard to paying applicable excise or other taxes.

The contract should assign responsibility for their due calculation and payment and appropriate covenants and protections obtained. Frequently, under excise laws, control of a stock of beverage alcohol entails liability to pay excise taxes where the tax was not discharged by the producer. The purchaser of beer from contract brewer will want to ensure that applicable excise taxes were paid prior to taking control of the beer. Similar care must be taken to ensure that beer compositional standards are met. These are set under regulations adopted pursuant to Canada’s Food and Drugs Act. Compliance also is necessary with federal product labelling laws and the requirements of the LCBO.

For example, one of the parties may wish to use a new product marketed in the U.S. for better clarification of the beer. Or perhaps the parties wish to brew a beer with a flavouring other than malt or hops: for all elements of the brewing, the parties need to make sure the product will comply with all laws applicable to its manufacture, sale and labeling. For beer sold in Ontario, this means a host of Ontario and federal Canadian laws and regulations must be complied with.

Finally, products to be sold via the LCBO or Ontario Beer Stores must be duly listed with these bodies to be legally sold to the public. Listing is a detailed
process and requires thought and advance planning to ensure a beer made under contract can be put on the shelves when intended and before it goes stale.

The above comments are of a heads-up nature: regulatory issues will be addressed in detail in a future paper. Below, we look at numerous contractual issues that should be addressed or considered in connection with any contract brewing arrangement.

It may sound basic, but it is important to set out the full legal name of each party. Whether sole proprietorship; partnership; corporation; or joint venture: there is a particular way to describe each business. This can be important, e.g., knowing the exact legal name can help to confirm the legal status of the other party, its address and its directors. Later if you need to send a demand letter or other communication to the other party, there will be no confusion or uncertainty about whom to write to. Vagueness or error in a corporate or other legal name can cause problems down the road and potentially reduce or even nullify advantages sought to be obtained by entering into the contract.

A contract brewing arrangement is of a manufacturing nature: a brewer with a producing plant makes beer for someone who has no production facility. The latter takes title to the beer upon its production and pays for it. The contract is essentially, in our view, a contract of sale since under the relevant legal tests the production of the beer is primary and not incidental. It is not, therefore, or not mainly, a services contract - one for supply of labour and materials.The distinction in law sometimes is relevant. For example, the statutory warranties of the Ontario Sale of Goods of Act do not apply if there is no sale as defined by the Act. However, most contract brewing arrangements will provide for the supply of various services by the brewer (e.g., palletizing and warehousing, delivery) and these elements will be governed by common law rules and of course the express terms of the contract.

As the non-brewer will market and distribute the product branded with its own trade mark, generally no license is involved except to the extent, as may be applicable, the non-brewer discloses its recipe to the brewer to produce the beer. Many recipes for beer are fairly similar: it may well be difficult for the non- brewer to secure real protection for the typical beer recipe against the brewing party. Nonetheless a well-drafted agreement will seek to confer the maximum protection to the non-brewer in this regard. A confidentiality provision, as discussed further below, is also important in this context.

Correlatively, the brewer will want the other to represent and warrant that it, i) owns the formula and name, ii) has the absolute right to license them to the brewer, and iii) will indemnify brewer if latter is sued by a third party for violating its rights to the name or recipe.

Since a standard agreement to make a beer for another entails a transfer of legal title, the parties should address issues such as timing of transfer of title; any security the brewing party may want – and that may be available - until the purchase price is paid; the issue of risk, i.e., who has obligation to insure the goods in case of damage or loss due to a fire or other casualty; warranties
regarding fitness for purpose and merchantability of the beer; and possibly disclaimer or limitation of liability clauses connected to some of these.

Another important area is exclusivity. Should the non-brewer have the right to have its beer made at other breweries as well? Perhaps the brewer should agree not to contract-brew the same kind of beer for a third party – or even to make a similar one for himself (see further below on this aspect).

The term, or duration, of the contract, is the period during which each party is bound to its obligations and has the benefit of its rights. The correct term should not be too long or too short; on the other hand, one of the parties or both may have a particular reason to stipulate for an abbreviated term. It may be as simple as the parties needing time to get to know each other before striking a more permanent commitment. Against this must be balanced whether the investment of time and money in the arrangement is worth a potentially short duration. A first renewal right that is automatic for one party and elective for the other may be a way to deal with this.

But in general, the non-brewing party will be chary of tying his production to a given brewer, especially exclusively, for too long since a host of technical reasons – hitting the taste “profile”, or batch consistency, or some other quality aspect - may prove problematic, such that the easiest way out is the looming end date of the contract. The brewing party, for its part, may be chary of tying up part of its production for too long. It may diminish production of the brewer’s own brands or introduction of new ones, with part of the profit being given away in other words. The duration question is one where a balance must be struck between the respective interests, as on most issues under the arrangement.

The brewer’s first duty is to brew the beer in the way wanted by the non-brewing party. The specifications for the recipe should be attached to the contract. Technical matters, such as water composition or timing of addition of the hops during the boiling of the wort (the mashed grains), should be addressed as these can affect palate – the taste of the beer. Batch size, production schedule details, nature and length of “conditioning” (clarifying and carbonating the beer), and a host of other details should also be addressed. Your lawyer should understand the basics of brewing, aging and packaging beer and an advanced understanding will make for a more effective contract. If the brewer will supply the raw materials such as barley malts, corn or other adjuncts or hops, the obligation should be specified. Batches rarely come in at an exact volume. The minimum acceptable quantity of useable beer obtained from a batch should be stipulated with penalties or other adjustments provided where this result is not met. The non-brewer should have the right to taste and approve each batch prior to release. A host of other obligations can apply depending on the specific case.

A main duty is to supply the specifications for the beer. The brewer may also need the availability of the other to consult on technical aspects, especially hitting the desired taste profile and maintaining batch consistency. In some situations, the non-brewer will supply the kegs, and sometimes bottles or cans where the beer is packaged in that form, and may be responsible to collect them from the customers (sometimes jointly with the brewer).The non-brewer may also be responsible to supply labels for kegs and bottles. The non-brewer may be obliged to assume ownership of (title to) the beer when it is finished and ready for delivery. The brewer might ship it to the non-brewer’s customers - drop-ship in effect- or deliver the beer to a warehouse of the non-brewer. The contract will specify who is to arrange and pay for carriage. Where the non-brewer does not take title, generally the brewer will warehouse the product until its shipment to customers designated, usually, by non-brewer.Where the product is still in inventory of the brewer by a set date, the non-brewer may be required to take delivery, or buy the unsold stock in effect. Non-brewer may be required to provide tap handles and branded glassware (where permitted by regulatory law) for the accounts.

This area will vary depending on the type of contract brewing arrangement and the particular needs of the parties. If a license is incorporated in the agreement, a royalty may be payable in which case issues such as how frequently they are paid must be addressed, effect of and responsibility for HST or other transfer taxes, withholding taxes when a foreign licensor is involved, audit rights to ensure the royalties are correctly calculated, and the formula by which the base royalty is calculated. If the compensation takes the form of paying a purchase price, some of the same issues may arise, certainly responsibility to charge and remit HST. If any equipment is being leased, the compensation for that element may be a rental payment. Finally, fees for services rendered may be charged with many of the same issues arising.

The Agreement should contain specific promises on the part of the brewer that that is duly licensed under applicable laws governing brewing, is not in default to pay excise or other taxes due on the beer produced, is duly incorporated and organised, and that entering into the agreement does not conflict with any obligations to third parties.The non-brewer should represent and warrant that it owns the recipe being licensed (if applicable), that no third party has any rights thereto superior to the rights of the non-brewer, and entering into the agreement does not conflict with an agreement (s) entered into by non-brewer with any third party. Each situation will dictate whether more specific representations and warranties are in order.

The brewer should agree to respect the secrecy of the recipe or process licensed to him and to cause his employees to observe a similar obligation. However, caution is necessary for the brewer since many recipes are in fact variations of a well-established template for a product. In other words, the brewer will not want to tie its hands unduly. The non-brewer might consider requesting a time-limited covenant of the brewer (perhaps 2 or 3 years) not to market a beer similar to that covered by the contract in the same market area covered by the non-brewer. The brewer should grant a covenant not to solicit for its own products customers whose names are supplied by the non-brewer, at least for a certain period after the contract expires. Mutual covenants not to solicit the others’ staff will be appropriate, normally. Many variations are possible here, with an eye always to ensuring that the requirements of Canadian law regarding unlawful restraints of trade are respected, otherwise one risks seeing an apparent prohibition rendered ineffective for unenforceability.

As for any contract of any complexity, the question of insurance for damage or loss to property (e.g. manufactured beer still in brewer’s inventory), and public liability insurance (personal injury or property damage suffered by third parties) should be addressed, including the special aspect of product liability. A situation from 1960’s is still remembered when a large Canadian brewer used a cobalt-based foam enhancer which was linked to cardiac troubles in heavy drinkers in Quebec City. Bottles, particularly if containing live yeast, might explode, or some other casualty might occur: a keg rolling off a pallet and hurting someone, say. All these risks need to be assessed, apportioned, and insured against to the extent possible under the Agreement. The time of transfer of title of the beer may be important to this issue, as “risk” - entailing the obligation to insure against loss, theft or damage - will generally follow title unless the agreement states otherwise. Appropriate insurance with acceptable single event and cumulative liability limits should be provided for. The party stipulating for the coverage should be entitled to advance notice from the insurer if the premiums have not been paid and the insurance is liable to be cancelled. Each party stipulating for insurance from the other should request satisfactory evidence of the coverage promised in the agreement, by way of cover note or similar document, to confirm that the stipulated insurance is in fact in force.

This area will depend on the specific case and should be distinguished from a confidentiality obligation whose purpose is to preserve from public disclosure a secret recipe or formulation. If the brewer will gain knowledge of the customers of the non-brewer, e.g. by making drop- shipments to them, brewer should agree not to solicit such customers for its own products or perhaps just those deemed to compete with the brand covered by the Agreement, for a time and in a geographic area which will not violate the common law against undue restraints of trade. The brewer’s trading area and, say, a two year prohibition from the end of the contract, would seem generally acceptable in Ontario, but again every case must be considered on its specific facts.

The same thing applies to a mutual solicitation of the staff of the other party. Possibly, the brewer should agree not to market during the contract term and for a certain period after termination, a product in the same product category as the product under the agreement. For example, if the product is a “Black India Pale Ale”, the non-brewer may want the brewer to agree not to produce a similar beer during the agreement and for a certain time after in the non- brewer’s market. Care should be taken that over-wide non-solicitation and non-compete obligations are not written into the Agreement as these may end by being unenforceable under the common law.

Every agreement, where possible, should set out the consequences when a party has violated its obligations.True, the general law provides recourse where one party has not met its obligations under a contract, but it is preferable to expand on these rights in the agreement. For example, under common law, only if you breach an “important” obligation does the other party have the right to end (walk away from) the contract. If the obligation is not deemed sufficiently important, the innocent party can only claim money damages to rectify the losses incurred but must still perform its own obligations. In contrast, a written default clause can specifically grant the innocent party the right to terminate the arrangement for any breach, big or small, as well as to claim damages. Correlatively, the breaching party may wish to have a “grace” period, a certain number of days in which to cure any default alleged by the other side. Generally this is agreed to unless the default is a failure to pay a sum owed. Sometimes grace is granted to permit late payment within a certain period. But in such case, the graces should be limited to two, say, to avoid the case where one party can repeatedly pay late.

The kinds of remedies available in the event of default should be specified and in some cases the right to an injunction should be stipulated for regardless of whether proof of injury can be shown.

In a brewing contract, as for most, consideration should be given to stipulating for early termination. This is called “termination without cause”. Very often, when things start to go wrong between parties, it is not possible to prove a violation of a written contractual provision; the nicety, vagueness or insufficiency of the wording often precludes this. Even if a breach can be shown, unless the contract contains a clear default provision, the breach may not be serious enough to warrant ending the contract as opposed to claiming financial compensation for the injury suffered. Thus, a clean right to exit when you want to is usually preferable to having to prove “cause”. Especially if exclusive rights are involved, an “exit clause” may prove very useful for a party who just wants “out”.This is the flip side to the duration of term issue discussed above. In effect, an acceptably short term, or long term with a right to exit early at will, both give a party an “out” when he may need it.

Correlatively, the party who considers he has most to lose by such provisions will want to resist them or negotiate them in a way satisfactory to him. For example, perhaps the special termination right should not take effect until two years have elapsed in a five year agreement, or, where the non-brewer seeks the exit, until a certain minimum amount has been paid as fees under the contract or by way of an early termination fee. The “perms and combs” are endless. Early termination, whether at the option of a party or automatic, might be appropriate as well upon certain events, e.g., a relevant change in alcohol regulatory laws, or a takeover of the brewer by another brewer or other change of control.

Every agreement should stipulate which jurisdiction’s law will apply to the contract. This may sound basic, but it is not always simple to resolve especially where parties are in different jurisdictions. Even where they are in the same jurisdiction, take the case where they sign the agreement in a location outside Ontario, at a brewing convention, say, or when on vacation. The contract should state Ontario law as the applicable law else there is a risk that Nevada law, say, may apply.

At the same time, a local statutory regime, for example, the one administered by the Alcohol and Gaming Commission of Ontario, cannot be excluded simply because Ontario-based parties might stipulate that New York law, say, applies to their contract. This consideration must be factored as well when deciding what the governing law should be.

“Venue”, or the place where any litigation under the contract will be heard, should also be stated especially where the parties are in different municipalities. One party may have a stronger reason to request this than another. Say a Toronto entrepreneur has a beer manufactured by a brewery in Eastern Ontario: the Toronto party may want to stipulate that any dispute arising from the agreement will be heard by the competent court in the City of Toronto.

Very commonly today, one sees arbitration provisions of varying complexity inserted in a contract. Sometimes a mediation process is provided for, a non-binding method to resolve a dispute. Arbitration generally (to be effective for its purpose) is usually stated to be “final and binding”. This means the arbitration panel, subject to any appeal process, has the final say over the dispute and court proceedings are excluded from the dispute settlement process. Care must be given to the issue of whether to include such a clause in the Agreement; in our view, too often arbitration is included “automatically”, with results not always apposite to the situation. Certainly there are potential advantages to a method of dispute resolution which ends an argument without the lengthy delays and high costs of normal court proceedings.

On the other hand, the arbitrators may not be legally trained, and sometimes will inject “practical” or “business” considerations that are not strictly legally justified. A counter-argument is that a non-legally trained arbitrator might, if selected appropriately, provide a business understanding a lawyer or retired judge doesn’t have. Everything really depends on the specific case and the perspective of the parties.

All things being equal, I tend not to prefer an arbitration approach mainly because it can remove or diminish leverage a party has based on its legal position. Also, some arbitrations end up being as expensive, if usually not as lengthy, as the court process. A mediation provision may make more sense. But every situation is unique, again, and the circumstances and negotiation
dynamics will dictate whether arbitration should be agreed to. For example, from the standpoint of the non-brewing party, he might value a fast decision over almost everything else since if his product is absent from the market for too long, this may endanger the long-term survival and growth of the brand. One option is to provide that mandatory arbitration will apply to any dispute that leads to a production stoppage, but reserving other types of disputes to the normal court process.

An assignment clause is one that addresses what happens when one party seeks to transfer the benefit of the contract to another party. Where a company is acquired by a purchase of its shares, this does not engage assignment since the contract remains an asset of the company acquired – only its share ownership has changed. But where a party seeks to sell the business itself, a clause should address what is to happen. If no assignment clause is included, under common law, a party has the right to transfer it to a third party. The transferor is not released from his obligations, but he can legally put a third party in his place to perform them and take the benefit of the contract. Often, an assignment provision will state that such a transfer may not take place without the prior consent of the other party. Especially from the non-brewer’s standpoint, he may not, for example, want to deal with well-known regional craft brewer “X” only to find it has been purchased by mega-international brewer “Y”. The brewer too may want a prior right of approval (and each party may want the same right where share ownership changes, for the same reasons). For example, the brewer may not be satisfied with the creditworthiness of the new owner or some other aspect – what if the new owner is a competitor, for example? Various formulas are used where consent is required, e.g. sometimes the requirement to obtain the consent is premised on the consent not being unreasonably withheld – however what is reasonable can lead to vagueness and uncertainty down the road.

A clause should state that the agreement represents the entire agreement between the parties and excludes all prior discussions, drafts, memoranda or understandings. This is to ensure that the agreement speaks with finality and one party cannot open the door to argue something at odds with one of its provisions because of something written down or discussed earlier.

A time of the essence clause is important since every contract provides a time period within which certain things are to happen: payments made, renewal notices sent, etc. Without such a provision, the common law may in some cases extend the time a party has to perform a certain act. Where the intention is hold a party to the strict terms of a time period, a time-is-of-the- essence clause should be inserted to ensure that any attempt to rely on a breach of the provision will hold up. What you do not want, where no time of the essence clause exists, is a situation where a party purports to end the contract because the other failed to do something in the stated time, only to find a court or arbitrator will decide that the timing in question was not “of essence” under the common law and more time should have been allowed for the performance of the obligation.

The above is not exhaustive either with respect to the various business arrangements that can characterise contract brewing or the legal architecture necessary to protect adequately each party. I should add that it is not always necessary for the agreement to be lengthy and sometimes it can be kept to a minimum length to satisfy the parties’ needs or situation (e.g. say the intended term is very short and will not be renewed: the non-brewer may for example be building his own brewery and need a source of supply for a relatively short period until brewing can start-up in the purpose-built operation).

Some tips/reminders: