Why commercial contracts are key to weathering the economic storm
Switch on any news report and the economic headlines are a depressing sight. Whether it’s inflation at generational highs, interest rates at levels not seen for a decade, or the cost of living crisis, good economic news seems few and far between.
Naturally such an environment is a cause for concern amongst the nation’s businesses. But this could be just the right time to review your commercial contracts to ensure you are best positioned to ride out the choppy waters ahead.
Take, for example, rising inflation. Commercial contracts will include provisions setting prices and other charges, but are there any ways to increase these mid-way through the term? For a supplier this could offer much needed relief from tighter margins, but only if it is correctly invoked and then only then if the clause permits a suitable increase. For the purchaser, any price increase will be an unwelcome development with a buyer keen to see that prices are fixed for as long as possible. Even if the clause permits an increase, a buyer will want to see this limited and play an active role in the process.
But rising prices have further less obvious implications. Some commercial arrangements include mechanisms for agreeing damages should one party fail to perform its obligations. So called “penalty clauses”, or more formally, “liquidated damages” provisions are designed to avoid a lengthy battle and costs assessment. Even so, they were probably calculated and negotiated based on prevailing prices at the time the contract was first entered into. As a result, it could be questionable whether they still offer the same level of protection in an inflationary environment.
Rising prices are one thing but customer payment defaults and bad debts are quite another. A well drafted contract ought to clearly set out the payment credit period, and then implications for late payment after the period has expired. This is just as important during times of prosperity as it does during stagnation and cannot be overlooked. Cashflow remains king.
But if payment default were to occur, will your contract allow you to physically recover unpaid goods? Retention of title arrangements are tricky at the best of times and only really work if the goods can be resold once recovered by the supplier or through a viable secondary market. Again, it’s always much better if such terms are clearly set out in the small print.
Although supply chain problems and the chip shortage have fallen from the headline such issues persist. This is where force majeure provisions allowing parties extra time to perform or permit a sanction free contract termination could throw a lifeline – but again, only where your contract allows.
Where contracts have been in place for a while its worth checking they still serve you well. Not least, if any risk areas are identified then pre-emptive measures could be taken in good time to avoid an issue developing into a more unmanageable problem.
If your contracts have not been reviewed recently its worth making early contact with your usual Spencer West partner to identify any weaknesses and for assistance in plugging the gaps.