Are you concerned that your supplier may not be able to perform its contractual obligations as a result of coronavirus (COVID-19)? Since the first cases were reported in China in December 2019, COVID-19 has been spreading at an accelerating rate. A growing number of countries are now implementing a range of emergency measures in an attempt to contain the outbreak.

The full impact is still being realised. However, the COVID-19 outbreak and resulting emergency measures have already resulted in suppliers of goods and services being unable to meet or comply with their delivery requirements. This article sets out the key considerations to have if you need to manage your commercial arrangements and mitigate your losses.

Assess the Supplier’s COVID-19 Risk Exposure

As a first step, take stock of all of your supplier contracts that COVID-19 may affect. Next, assess the likelihood and consequences of your suppliers being unable to perform under those contracts. 

You should consider:

  • what impact these supply chain issues will have on your ability to meet your own contractual obligations to your customers; and
  • what impact they will have on your business’ revenue.

Understanding these consequences are essential to developing an effective mitigation strategy.

Investigate the Effects of COVID-19

You should regularly check in with your suppliers to see: 

  • if and how COVID-19 is affecting them; and 
  • whether they are able to meet their delivery commitments. 

If you suspect that your supplier is not being entirely upfront about the impact, you may wish to consider whether you are able to get more information through relying on your rights to information under the contract. 

Consider whether the supplier contract has a clause requiring the supplier to attend governance meetings, either on a regular basis or on request. If so, these might be a good forum to raise and escalate any concerns. Further, check whether the supplier must produce any reports. These reports may include information that might help you assess the supplier’s compliance with the agreement. 

Another option may be to rely on any audit rights that are available to you under the supplier contract. Often these rights will allow you to check on a supplier’s performance and its compliance with the terms of the agreement. The number of audits that you can conduct in a given year may be restricted. In this case, you should be strategic about when you choose to audit. 

Mitigate Your Risk Exposure

Where you have identified a supply chain risk, you should take active steps to mitigate the consequences of this risk on your business. This includes your ability to perform under your customer contracts. 

These steps may include:

  • contacting your affected suppliers (to the extent possible, try working with your affected suppliers to prevent or mitigate the consequences of their breach. When communicating with your suppliers, be careful not to compromise your contractual position. For example, do not inadvertently waive your rights to make a claim against the supplier in the future); 
  • finding alternative suppliers (even where your relationship with your supplier is on an exclusive basis, you will likely have the right to seek an alternative source of supply in the event your supplier is unable to meet its performance obligations. If you do not have this right, try to renegotiate this position with your affected suppliers); and
  • contacting your affected customers (touch base with those customers who may be impacted by your suppliers’ non-performance, and determine whether you can obtain relief from your contractual obligations, or renegotiate your customer contracts. When communicating with your customers about COVID-19, be careful not to suggest that you are unwilling or unable to perform your obligations under the agreement). 

Review Your Existing Supplier Contracts 

Consider whether your supplier has any contractual rights or remedies under the contract. You should look for the clauses set out below. 

Extensions of Time and Delay Costs (For Delivery Obligations)

If a contract is time critical, then delayed performance may constitute a breach of contract. Consider whether the contract contains a clause allowing the supplier to request an extension of time, or to claim delay costs, where their performance is delayed by events or circumstances outside of their control (such as epidemics or pandemics). 

Make sure you note any potential barriers to claim. For example, you should consider:

  • whether you need to give notice to the supplier within a certain timeframe;
  • what form and to whom you must give the notice; and
  • whether the supplier has continuing obligations to notify if the delay is ongoing. 

Strict compliance with claim administration provisions will be key to securing relief in the event of delay. 

Service Credit or Abatement Relief (For Services Contracts)

You should consider whether there are contractual implications for the supplier’s failure to meet the contract’s:

  • service levels;
  • key performance indicators; or
  • other performance metrics.

In addition to the usual consequences of contractual breach, it is common that service credits or performance liquidated damages are tied to non-performance. 

Check whether the contract has an abatement regime that will provide the supplier with relief from legal claims if events outside of their control caused their failure to perform. Again, strict compliance with any claim administration provisions will be imperative. A failure by the supplier to do so could mean that you can legally refuse a supplier’s claim.  

Force Majeure

You should also check whether your supplier contracts include a force majeure clause. Generally, force majeure clauses will suspend a party’s obligations under a contract, to the extent they are impacted by events or circumstances beyond that party’s reasonable control. Force majeure clauses typically allow both parties to terminate the agreement where the force majeure event lasts for a specified period of time. 

You should check what the contract defines as a ‘force majeure’. It is important to know whether the definition includes an epidemic or pandemic such as COVID-19. Force majeure clauses will often only offer protection where the event was unforeseeable. Therefore, whether a supplier has protection may depend on when the contract was entered into. 

Monitor for Breaches and Enforce the Contract 

If a supplier is not meeting its obligations under a supplier contract, it is important to enforce the contract once you become aware of this. 

Enforcing the contract will mean different things, depending on:

  • the particular consequence of breach that you are seeking to rely on against the supplier; and 
  • what barriers (if any) there are to you exercising your right to action the consequence (such as requirements to provide notice).  

It is important to note that if you do not take action soon after the breach occurs, it will be much more difficult to enforce the contract at a later date. This is because: 

  • the supplier could argue that you have waived your contractual rights in relation to their non-compliance (based on your inaction); 
  • it may no longer be possible to accurately calculate the damage or loss incurred as a result of that particular breach (which will limit the amounts you may be able to recover); and
  • you might be time-barred from making a claim if you don’t act within a certain time period. 

Dispute Resolution 

Sometimes, enforcing the contract does not have the intended effect and a dispute will arise under the contract. Hopefully it does not come to this. However, it is always good to keep in mind what the process is for dealing with a dispute under the contract. Note that it might be different depending on the kind of dispute. 

Consider whether there is a clause requiring that the parties take certain steps when a dispute arises. Sometimes notice of a dispute may need to:

  • be provided within a certain period of time; and
  • need to contain certain information.

Consider what the process for resolving a dispute is and whether there is anything you can do to prepare or which you should avoid doing (to make sure you don’t fall foul of the process).  

Diversify Your Supply Chain

Have a backup plan ready to go. As previously noted, your suppliers’ non-performance may impact on your own ability to comply with your customer contracts.

It is good practice to have a number of suppliers in different locations available to you. This can minimise the risk of disruption. If you are currently relying on a limited number of suppliers, now might be a good time to start considering other options. 

If you have entered into an exclusive supply arrangement with one or more suppliers, it may be worth trying to renegotiate this term in your supplier contracts to ensure that you are not prevented from diversifying.  

Key Takeaways

If you are concerned about the risk that COVID-19 is posing to your business, you should monitor the news to stay ahead of developments and do what you can to prepare for and manage the impact. For more information regarding contractual obligations and how to draft the terms of a contract, contact LegalVision on 1300 544 755 or fill out the form on this page.

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