This article was originally published in November 15 by In-Procurement
I still have a wry smile when I read a termination clause like this.
“A party to this Agreement may terminate this Agreement by providing 30 days’ notice in writing in the event that bankruptcy or insolvency proceedings are brought against the other party, or if an arrangement with creditors is made, or a receiver or administrator is appointed over any of the other party’s assets, or the other party goes into liquidation.”
The negotiating teams on both sides will use phrases like “of course, something like this isn’t really going to happen; but of course we would need protection in the contract just in case it does”. They will reassure their executive sponsor that the contract contains a long list of obligations that apply if a termination event occurs, and that we have “protection and indemnity for any costs that arise as a result of termination”.
As if any of that matters.
Termination rights are only as good as your power to enforce them, and if a company goes into administration those powers disappear, or at the very least are suspended for a long period of time.
This article explains why, and gives a few ideas on what you can do about it.
Supplier insolvency triggers termination rights that you can’t enforce
When a company of any size is, or is at risk of, becoming insolvent, it may enter administration. The administrators take over the affairs of the company and seek to sell the business and/or its assets and wind up its affairs under a strict set of statutory rules.
When an administration order is awarded it triggers a moratorium on the rights of creditors, who have to apply to the courts to enforce any rights that they believe they have (for example, to receive goods that they have paid for, or to transfer title to assets). The court’s decision doesn’t depend only on your contract – they will also balance your rights against the rights of all other creditors to the company.
That sounds a bit abstract, so I’ll use a real example. I worked on behalf of a client whose major IT supplier went into administration suddenly in 2013. The supplier held several million pounds worth of my clients stock under a bill and hold arrangement. The stock was needed for projects that my client was contractually committed to complete within a specified timetable. My client had paid for the stock. It was theirs. The conversation with the administrator went something like this.
“We have a lot of equipment in the warehouse that we need to recover this week.”
“Send me the details of your claim and I’ll consider it.”
“How long will that take?”
“I don’t know, we have to wait until all creditors have submitted their claims.”
“But we need it now!”
“That’s not my problem, The company who originally supplied the equipment hasn’t been paid for it, so they claim that they own it as well.”
Regardless of the rights set out in the contract, the practical position was this – my clients equipment was in a locked warehouse, with no means of recovery. If we didn’t get access to it, then we would be liable for penalties to our customers for failure to deliver their projects. The only options available were to wait (for months or years); to buy entirely new equipment, or to negotiate directly with the other creditors to settle the claim on the equipment in the warehouse.
An equally difficult position applied to employees of the bankrupt supplier, some of whom were working on the same projects. They found themselves without a job, with substantial unpaid salaries and expenses, and no certainty over what was going to happen to them. Our contract provided for the provision of TUPE information if a termination event occurred. In theory, we could use this right to transfer the people involved in our contracts. The conversation went something like this…
“We want to transfer over some of your employees, pursuant to our exit rights”
“Understood, but I’m going to make 450 of them redundant tomorrow morning, so unless you transfer £x million by the end of today to cover the payroll they won’t be my employees any more.”
No one knows how to do hardball negotiation like an insolvency practitioner…
If a small supplier gets into financial difficulty, then the problem is mostly theirs to solve. But make no mistake, if a major supplier gets into trouble then its your problem too. Without robust management, the crisis can quickly overwhelm you and your customers as well.
Here are some things you can do now to mitigate the impact, both before and after the crisis hits.
Prevention is Better Than Cure
Managing the Impact of Major Supplier Failure
About the Author
Kelvin Prescott is the Director of Newbury Management Consultants, a specialist consultancy providing commercial advice to the public and private sectors. He has over 15 years experience of leading major procurement programmes in public sector organisations, including the MOD, National Policing Agency and Cabinet Office. Since 2009 he has also helped a number of small and medium sized companies to build their public sector businesses, particularly in the areas of agile software development and implementation. www.newburyconsulting.co.uk.