Supply Shortages Should Be A Contract Consideration

As I was flying back from Denver, where I was a presenter on a panel addressing contract drafting and negotiating at the Association of Corporate Counsel Annual Conference, I looked through the Wall Street Journal. One article was particularly interesting – “Wary Firms Are ‘Destocking’” (subscription required).

Seems that DuPont and 3M are reporting that manufacturers are starting to reduce their raw material inventories as they hedge what may be a worsening economic forecast for 2012. This reminded me of a section of the ACC presentation where we discussed force majeure clauses and how they have become much more than simple “boilerplate” in commercial contracts. Typically, the force majeure clause addresses “acts of God” that are beyond a party’s control and will excuse non-performance under the agreement. Over the past several years, I’ve seen “shortage of materials” find its way into force majeure clauses.

As we mentioned at the ACC conference, buyers need to be aware of the inclusion of a “materials shortage” provision that might excuse performance by your supplier. In light the WSJ article, this risk may be increasing. I think it may be appropriate to include as a force majeure event an industry-wide materials shortage affecting everyone – conversely I think it is reasonable for a buyer to expect a supplier to manage its own supply chain to maintain materials supplies sufficient to meet orders.

Also, consider adding to your standard force majeure clause provisions addressing how remaining inventory or production capacity will be allocated during a force majeure that limits, rather than cripples, production by your supplier.

- Greg Chabon