Certain considerations in supply agreements and re-tooling efforts in the pandemic context

While the COVID-19 pandemic continues to create significant uncertainty, certain manufacturers have re-tooled their existing manufacturing operations to assist the health care sector. This effort has gained significant momentum across the globe, and specifically in Ontario following a government call for support.

This is not a simple effort. Those companies taking part will need to critically assess how supply chains and manufacturing operations currently function, review their existing operating approvals and permits, and assess how they may need to function in a post-pandemic environment. Manufacturers, suppliers and related parties would do well to consider which solutions to their re-tooling-related challenges allow them to: (i) maintain strong relationships across their supply chains, (ii) encourage trust in the resumption of the normal course of business, (iii) innovate to better adapt to similar changes in production in the future, and (iv) consider what needs to be done to source additional widgets to implement a re-tooling effort.

Addressing interruptions of existing supply agreements

When re-tooling efforts are implemented, many manufacturers and suppliers will need to address suspension of current contracts and services. Where an interruption in services similar to the current climate is already contemplated, this may be relatively straightforward. However, in most cases, the terms of the current agreement will remain in effect and will need to be considered by the parties in determining how to move forward. 

Relationship dynamics. 

To begin with, the re-tooling party may consider approaching current counterparties to propose suspending or deferring performance for a mutually agreed period, taking into account the context of the agreement, the relationship between the parties, and commercial circumstances. Such a proposal may, in the pandemic context, be suitable for a counterparty. However, in other circumstances, there may be more complex issues that require more nuanced formalization. In these situations, a specific amending agreement may be appropriate.

While an amendment may seem straightforward at first blush, modifying a supply agreement to contemplate an inherently uncertain (in duration or scope) event will require careful consideration because the current climate is unique and the duration of the pandemic and likelihood of a repetition is unclear.

Amending agreement considerations. 

This amending agreement structure would attempt to suspend the existing supply relationship, while providing parameters to address any issues that would raise a concern of breach, for example. Specifically, issues of importance that may need to be addressed would include: 

• Suspension of Termination Events: The suspension of deemed termination events relating to the suspension or deferral of supply, and associated remedies; 
• Flexible sunset: The term of the temporary/pandemic period should be flexible (to provide for the inherent uncertainty regarding the duration of the crisis) while being cognizable and reasonably determinable by the parties.  That is to say, the amendment should provide a set of guidelines for determining a timely sunset to the temporary period. In this way, the amendment agreement would be “organic,” adapting to the duration of pandemic-related interruptions;
• Phased resumption: An adjustment to supply quotas or commitments for a minimum level of service or supply, as well as a mechanism to determine the phase-in or reinstatement of the original supply commitments following a resumption of operations. This would include stipulations on the scale up to original quotas or volumes, taking into account the likelihood that full economic recovery will not be immediate;
• Pain-sharing: Where appropriate, sharing disruption-related expenses amongst the parties in a context where a re-tooling manufacturer is able to continue operating, albeit at cost.

Supply chain links and networks. 

While an amending agreement is an example of a legal solution that would provide a bridge over a period of significant disruption, it is important to understand this solution also attempts to recognize business realities including reputational impact. Losing a link in a supply chain can cause ripple effects in terms of service and revenue disruptions for manufacturers, their contractors, and those suppliers whose agreements are terminated. This inevitably forces disruptions in distribution networks. 

Proactive and frequent communication. 

To preserve as much as possible during this pandemic, it is important for various parties along the supply chain to maintain relationships through regular communication to ensure service commitments are given the best chance to continue as smoothly as possible and the resumption of operations is not unnecessarily delayed or hampered. The greater the disruption and tension between parties along a supply chain, the more damage may be done to the overall economic recovery of a given company and industry. 

Novel arrangements may be the order of the day

The COVID-19 pandemic has also emphasized the challenges manufacturers can face when dealing with disruptions in moving needed goods. What is more is that the steps taken towards re-tooling efforts by manufacturers also require sourcing of various new materials and product designs. Those involved in re-tooling efforts may do well to consider the possibility of strategic alliances to ensure there is ready access to available suppliers, manufacturers, and design capabilities in the event of a disruption or emergency. These types of alliances could also provide for greater efficiencies once commercial operations have resumed. 

Novel solutions to create dynamic supply chain networks for a re-tooled business could also factor into an entity’s risk management process, as well as its assessment of new commercial opportunities and markets. Similar efforts have already borne success in the current COVID-19 pandemic, highlighting the ability of innovative solutions and alliances to promote diversity in manufacturing capabilities. 

Such initiatives can be formalized and negotiated through various channels, such as a memorandum of understanding or joint venture agreement. Such novel efforts meant to cater to a specific group of operators would need to be considered in the context of legal restrictions and regulations, such as competition regulation. 

For additional information regarding regulatory considerations involving environmental practices and essential services designations, please see our Top 10 tips for managing environmental risk.