Coping with a break in the chain

The health and wellbeing of employees should always be a business’ top priority, but with an increasing number of firms shutting shop due to coronavirus, the supply chain is beginning to creak.

So, what should supply chain leaders do if they find themselves failing to meet contractual obligations due to the outbreak, and what can be done to ensure such disruption is avoided in future?

Since 30 January 2020, when the World Health Organisation declared a public health emergency of international concern, coronavirus has monopolised global headlines. To protect citizens, the Chinese Government have implemented strict quarantine measures, leading to sector-wide disruption across China.

As the world’s second largest economy, and leading manufacturer, China is of huge economic importance. Accounting for 20 percent of global manufacturing output, this country-wide shut down has led to considerable disruption for many businesses, including those in the UK.

In addition, the rapid spread of the disease is leading to further cases of quarantining, and temporary company closures, in a growing number of countries. If this continues to happen, the impact on the supply chain will begin to snowball.

Implications could include companies failing to meet their contractual obligations. If this is the case, businesses should consider invoking the ‘force majeure’ provisions written in their contracts. Typically, this excuses one or both contracting parties from carrying out the performance of a contract in some way, due to the disrupting event being beyond the reasonable control of the party involved.

However, the wording of the clause can impact on whether a firm is able to invoke a force majeure provision. As a result, any organisation planning on using this approach must consider several important aspects. These include how the force majeure is defined in the contract.

Some force majeure provisions are likely to mention ‘epidemics’ or ‘civil emergencies’ specifically. However, for provisions that are more general, businesses must then assess whether the scope of the clause does in fact include an event such as the coronavirus outbreak or any government restrictions that have been put in place because of it. It is also essential for organisations to remember that generally a force majeure provision can be invoked only when an occurrence has prevented them from performing contractual obligations. If it has merely made it more difficult or costly, then, more often than not, that alone won’t be enough to invoke the provision successfully.

Timing should also be considered, as it is usual for force majeure provisions to include a notice requirement. Once a company becomes aware that a situation is having an impact on their contractual performance, typically they must let the other party know within a certain timeframe in order to invoke the provision. As well as this, the affected party will usually be required to demonstrate that it has acted reasonably to minimise the impact of the force majeure event. This could include restructuring certain processes or looking into a more flexible supply chain approach.

Should the force majeure provision be successfully invoked, the contractual obligations of the affected party to perform, and its liability for failing to do so, will be suspended until the disrupting event has come to an end.

Once normal performance can begin again, the parties then recommence the contract from where they left off. However, on some occasions, force majeure provisions may include the right for either or both parties to terminate the contract if the interruption continues beyond a specified period of time.

To reduce the chances of disruption happening again, businesses should be prepared. Mapping out the upstream of suppliers several tiers back can allow companies to see where their supply stream is vulnerable and take action.

If there is a dependency on a particular supplier, or a particular region, that could put the firm at risk, other suppliers may need to be considered as a back-up. It may even be worth redesigning the business’ supply chain to source locally as well as globally to spread the risk.

It is also wise for organisations to put continuity plans in place. These should identify critical areas and, where possible, include alternative plans for transportation and supply. Suppliers and customers can be involved in developing these plans to ensure everyone is on the same page.

For any businesses that are starting to feel the impact of the coronavirus outbreak, reviewing the force majeure provisions in their contracts is vital. Not only does the scope of the clause need to be understood, but also the relevant steps that need to be taken to invoke the provision and the consequences that come with doing so.

Once this crisis has passed, all organisations should consider reviewing their supply chain with a view to reducing the risk of significant disruption in the future.

Matthew Sutton, commercial partner and supply chain specialist at law firm,Shakespeare Martineau