When Disaster Strikes: Understanding Force Majeure
The disruptions to the automotive supply chain likely to be caused by the East and Gulf Coast Dock Strike (the "Strike") may continue and escalate for some time. Even suppliers that are not directly or immediately affected may experience challenges, as the difficulties encountered by their customers and lower tier suppliers result in both lowered releases and supply failures by lower tier suppliers. Of course, failure to fulfill a customer’s releases is usually a breach of contract, exposing the supplier to a potentially large damage claim. However, in some circumstances performance may be excused if performance is prevented by an extraordinary event or, in legalese, a “force majeure” event. This Alert addresses the potential application of force majeure to the Strike and the steps a prudent supplier should take to preserve any force majeure defense that may exist under its contracts and background principles of law.
Are Suppliers Unable to Meet Releases in Breach?
Nearly all automotive supply contracts include force majeure provisions that address extraordinary unanticipated events that make it impossible or impracticable to perform. Even when the written contract is silent, background principles of contract law also address such events. For U.S. contracts for the sale of goods, the most important of the contract law principles are in Sections 2-615 and 2-616 of the Uniform Commercial Code ("UCC"). For foreign contracts, the Convention on the International Sale of Goods (Article 79) may apply.
These contractual and legal principles may excuse suppliers that are unable to supply as a result of the Strike, but whether performance is excused is both highly fact-specific and subject to difficult to apply legal principles. For this reason, whether or not a force majeure excuse exists is often difficult to confidently determine in advance. This means that it is generally prudent for an affected supplier to take the steps necessary to preserve any defense that might exist, even if uncertain, including by taking the steps discussed below.
First, the supplier should provide prompt, written notice of actual or potential delivery difficulties. Written force majeure provisions may include particular notice procedures or other requirements, which should be followed. Proper notice should include identify both the extent of and reasons for the delivery delay or failure. The notice should also be updated as circumstances warrant. A customer may respond to a force majeure notice, often rejecting it, but it is still prudent to issue the notice in order to preserve any defenses.
Notices from downstream suppliers should trigger prompt analysis of inventory and forecasts. Corresponding notices should be passed upstream to customers promptly. Prompt notice allows parties to act quickly, to examine alternatives, and to mitigate losses. Parties who fail to provide timely notices and updates could compromise the protections they might otherwise have.
Second, it is essential to carefully and promptly review applicable contractual force majeure provisions. There are significant variations between standard purchasing terms that can expand or limit force majeure rights. For example, some terms expressly address whether a strike is (or is not) a force majeure event. Likewise, some terms establish specific time limits and processes for giving notice. Each specific contract should be examined and followed carefully.
Third, a supplier's performance will be excused only if there are no reasonable alternatives for performance. Whether steps such as switching suppliers or modes of transportation are feasible and required is often hotly contested. The longer the Strike continues, the more likely there will be disputes as to whether the supplier could have found a way to resume supply. General rules of contract law and many contract provisions require the supplier to make efforts to restore supply. Performance might be possible at sharply increased costs. In general, higher costs do not excuse performance, but truly extraordinary costs may. Disputes over responsibility for those increased costs are often the central commercial issue in force majeure disputes. Likewise, some suppliers may be able to supply some, but not all, of their customers' requirements, in which case specific legal rules apply.
Finally, even if performance is excused, that does not mean that there might not be adverse consequences for the supplier. For example, under some circumstances the customer may be able to terminate the agreement or pass on some or all of the extra costs it incurs.
We recommend that suppliers openly discuss these issues with their suppliers and their customers, to attempt to come to shared understandings regarding various alternatives, feasible timetables, realistic forecasting, and allocation of costs. It is desirable to have an understanding on these topics in advance, as opposed to a dispute later about what efforts should have been undertaken and what costs should have been or, conversely, need not have been incurred. WE also believe that consultation with counsel is prudent in the cse of significant potential disruptions.
For further information please feel free to contact the author of this Client Alert or your Butzel attorney for more information.
Sheldon Klein
248.258.1414
klein@butzel.com
