Force Majeure, Hardship, Impossibility, Hell or High Water, Act of God or all of the above?
Last week I attended an excellent supply chain risk management webinar sponsored by the Next Level Purchasing Association and featuring a global supply chain manager from a Fortune 500 company. The event followed the story of this particular corporate supply chain through the 2010 tsunami in Japan (you can click here for my notes).
One of the lessons this particular company learned was about finding the right place for addressing the human side of a very complicated business issue. I was impressed with the efforts they had made, particularly for such a large company. A thought started to form in my mind: what contract clauses were put aside in order to have an appropriate response to the devastation while not creating serious business continuity issues?
Most contracts contain some kind of force majeure (or ‘superior force’) clause that allows a company to walk away from their obligations without penalty in the case of an external, unavoidable, and unpredicted event. So, we’ve featured the Wikipedia page on force majeure this week, but that seems like it is just a starting point. I did some additional reading, and there are a few other related clauses that may be in use at your company:
Hardship clause: similar to force majeure in concept except that it deals with difficulty (rather than impossibility) in fulfilling contractual obligations and aims to modify the contract in order to keep it in place (rather than to terminate it).
Impossibility clause: an excuse for the nonperformance of duties under a contract, based on a change in circumstances (or the discovery of preexisting circumstances), the nonoccurrence of which was an underlying assumption of the contract, that makes performance of the contract literally impossible (Wikipedia). Like a force majeure clause, impossibility terminates the contract and the obligation of both parties. The difference is that it may be based on an unknown but preexisting condition and that the triggering event does not have to be an ‘act of God’.
Hell or High Water clause: usually pertains to the buyer and states that ‘payments must continue irrespective of any difficulties which the paying party may encounter’ (Wikipedia). A ‘Hell or High Water’ clause would indicate an agreement on behalf of both parties to ignore ‘impossibility’ as a legal factor in the contract.
One last note: ‘Act of God’ is a legal termfor events outside of human control, such as sudden floods or other natural disasters, for which no one can be held responsible (Wikipedia). It may be the triggering event in any of the above clauses, but is not a clause type in and of itself.
Having outlined all of those basic contract clauses for dealing with business continuity, I can’t help but think of how general they all are. While all contracts will have one or more, it may be appropriate to have more specific clauses based on the exact nature of the risk associated with the supplier, their geography, or the product/service in question.
One of the other parts of Friday’s NLPA webinar covered the company’s risk management program. Their annual risk assessment ranks suppliers high, medium or low on nine areas of risk. These areas were put together by a cross functional team that involved both procurement and business owners:
- Historical Performance
- Financial Health
- Country of Operation (Political, Economic, Financial)
- Legal Compliance
- Business Concentration
- Quality Compliance
- Social Responsibility (Labor/Ethics/Management)
- Health, Safety & Environment
- Intellectual Property Protection
While you can’t foresee all issues that will arise during the term of a contract, you probably have a sense of which areas on the above list (or on your company’s own risk profiling categories) are most likely to disrupt continuity. Having a few sample terms in the contract that address specific concerns is a good way to protect your supply chain and it also gets your supplier performance program started right from the implementation of the contract.
Looking for measurable indicators of performance in the risk management categories is a good place to start. If you are working with a manufacturer, then quality compliance will offer a number of opportunities to control production variances. Less quantitative, but no less important to manage, are those suppliers whose administration, production, or supply chains are in (or pass through) politically or economically unstable areas of the globe.
The most important take-away from all this is that risk management in a contract needs to be an active process. As many times as you have skimed the fine print of a contract, you still need to think about them each time and how they pertain to the situation at hand.
Liked the article and agree with most of the points although some were more political risk management than supply chain management. I'm not sure what they meant by "Business Concentration". Having a high percentage of supply come from one company in itself may not be a high risk if they meet the all the other requirements for low risk. Where it becomes a risk is when actual production is concentrated in one location.
I also feel that risk management as an annual event is needed for sourcing decisions or decisions on business splits between suppliers for the coming year. Risk management also needs to be taken into account even when doing things such as deciding whether the use a Purchase Order or put an agreement in place or in deciding what terms to include in a contract.