What are the legal implications of the supply crisis?

What are the legal implications of the supply crisis?

What are the legal implications of the supply crisis?

As customers and their suppliers become increasingly frustrated by the inability for supply chain obligations to be fulfilled, what are some of the legal implications of this recent supply chain crisis?

As the last year has illustrated, unforeseen events can turn any successful business into a struggling one with little warning. Establishing a resilient supply chain is important, but even these are coming under strain by the current global turmoil.

As consumers or businesses, we have all felt the effect of the current issues and we already know the causes: the after-effect of Brexit meaning fewer drivers entering the UK, and increased border controls and customs regulations causing longer wait times, exacerbated by Covid disrupting HGV training and licence approval.

However, the breakdown in the supply chain does not rest solely with delivery issues. In some sectors the global over-demand for semiconductor chips and/or the rocketing price of raw materials is contributing to the problem.

Whatever the cause, such a breakdown in supply can cause severe distress to both supplier and customer, put pressure on the commercial relationship, and at worst result in an intractable dispute.

For suppliers wishing to know where liability may rest (their “exposure profile”), and customers wanting to understand their legal rights, the first port of call for either party is to consider the terms of their contract. Has a failure to deliver put a supplier in breach? What can a customer do about it?

Suppliers should also consider how their delivery obligations are framed. Are they hard and fast, or do they provide some degree of flexibility? Does the contract’s “force majeure” clause assist the supplier to argue that its delivery obligations should be suspended or extinguished due to events out of its control?

Suppliers may also wish to consider whether their exposure to claims for delay by customers may be covered by an insurance policy, or (if the cause for delay is the fault of a third party) there is some form of redress in the agreement with that third party.

Whilst knowing one’s exposure profile is undoubtedly important, immediately turning to a legal response is unlikely to be productive. Even for a customer with contractual terms in its favour, flexing its legal muscle must come with a warning, as it is likely to entrench positions, be costly and not conducive to good supply chain management and efficiency.

A more commercial approach to dealing with supply chain issues is to be encouraged and a sensible dialogue between supply partners before or during a supply issue will help to manage expectations.

If this means being upfront about a delay in delivery, or delivery of fewer products than a party is contractually obliged to supply, warning the customer as soon as possible beforehand may provide time to adopt contingency plans. If a dispute does ensue, courts do look favourably on parties who have tried to resolve the problem themselves and sought to mitigate their losses.

Of course, the impact of the past 18 months has seen many businesses struggle financially and a supplier facing insolvency will put a heavy strain on the supply chain. Parties should be encouraged to conduct due diligence on the supply chain beforehand to determine its financial health.

In manufacturing contracts consider stipulating that ownership of goods passes to the customers upon manufacture, rather than delivery, so that those goods can be ring-fenced if the failed business’ assets are sold off. 

Most contracts will entitle customers to terminate the agreement upon the supplier’s insolvency. However, whilst not preventing a customer from seeking to exercise its contractual rights, a statutory “moratorium” does restrict customers from taking certain actions (including legal proceedings) against a distressed supplier without the administrator’s consent or court permission.

A good customer might look to fulfil any incomplete orders, and there may be scope for negotiation around future supplies. It may even consider purchasing part of the supplier’s business itself to ensure continuity of supply.

Supply chain risk is of course not new. It has been brought more into public consciousness by recent global events. Although government is taking steps to try and shore up the current chaos, many consider what we are experiencing is only the start of a much bigger problem.

Supply chains need to flex and adapt to current conditions, and this includes reconsideration of the commercial contracts that underpin the trading relationships to capture future risks.

This article was first published in Supply Management, read here

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