Addressing weak links in the supply chain

How would your business be impacted if one of your critical suppliers entered insolvency proceedings? What losses could you suffer, and how would you maintain continuity of supply?

Recent high profile collapses such as Carillion have highlighted this issue, with counterparties suffering significant disruption upon its failure. In the context of increasing financial uncertainty – not least because of Brexit – companies should take a hard look at their supply chain in order to assess and mitigate counterparty risk.

At inception of the contract, there are some basic contractual protections that can help, for example:

• rights to receive financial information mean you can spot for warning signs of distress;
• termination rights based on deteriorating financial condition or early insolvency triggers will give you leverage and optionality should the supplier encounter difficulties;
• disapplying limitations on the supplier’s liability in the event they cease to trade can significantly increase the quantum of any claim you might have for losses suffered as a result of a supplier’s insolvency;
• broad set off rights can help you minimise losses in the event of supplier insolvency as you can seek to set off your claims for losses suffered against amounts you owe the supplier for previous supplies; and
• more complex and bespoke structures can be considered if continuity of supply is critical, for example step in rights or hiving assets into insolvency remote-vehicles.

During the contract, you should monitor key suppliers’ credit profiles and start contingency planning if you see warning signs. This may involve getting ready to act quickly (but carefully) if the supplier enters an insolvency process - steps taken in the early days post-insolvency can have a material impact on the outcome for you. If the supplier is particularly business critical, you may wish to consider options to try to maintain continuity of supply, for example working with the supplier and its potential administrators to have a plan in place to enable it to trade for a short period in administration while you put in place alternative arrangements.

The failure of a critical supplier is always going to be a significant headache, but through contractual protections and proactive supply chain management, it is possible to put yourself in the best position possible to protect your business from the adverse consequences.