With the headlines dominated by the COVID-19 pandemic, anyone could have been forgiven for putting Brexit to the back of their mind over the past few months. However, the UK is rapidly approaching the end of the transition period, at which point, amongst many other issues, it is highly likely that there will be disruption to goods supply chains. In this briefing, we explain how creative contract drafting could help to hedge against goods shortages as an alternative to – or in addition to – stockpiling and other practical mitigation measures.
Brexit goods shortages: stockpiling is not the only option
Why is there likely to be disruption to goods supply chains?
When the Brexit transition period ends at 23:00 GMT on 31 December 2020, the UK will cease to be a part of the EU Single Market and the Customs Union. This marks the cessation of the free movement of goods across the UK-EU border via integrated supply chains which the UK has enjoyed for several decades. The UK-EU goods trade is likely to be significantly disrupted irrespective of whether a deal is reached with the EU, with goods subject to additional border inspections, customs declarations and (in the event of no deal) tariffs, potentially adding significant cost and delays to the UK imports and exports to and from the EU.
Is stockpiling the answer?
As we have learnt from COVID-19, stockpiling is a natural reaction to concerns over supply chain disruption. Increasing supply orders to mitigate against the risks of ongoing border delays and product shortages is a logical option on the surface. However, it is not a solution for perishable or short shelf-life goods and may well be constrained by insufficient storage capacity:
PROBLEMS WITH STORAGE SPACE
Renting storage space will come at a price due to high demand – many businesses will look to stockpile goods in the run-up to Christmas and as a result of Brexit-related concerns. Meanwhile, the growth in online shopping as a consequence of COVID-19 has added to the competition for warehouse space. Faced with these constraints on commercial storage space, you may want to consider whether you can maximise storage space using your existing premises. Read our briefing from our Real Estate team on the key issues.
How can contracts help?
A creative approach to the clauses you include in your supply contracts has the potential to provide a useful additional contingency plan and to help to mitigate supply chain issues where there are limitations on your ability to stockpile. Various mechanisms including options and rights of first refusal, as discussed below, can be included in contracts which give businesses access to potential alternative sources of supply that they can call upon if needed.
Priority supply obligations, options and rights of first refusal are well worth considering in addition to (or as an alternative to) stockpiling.
Priority supply obligations
Priority supply obligations are designed to help you avoid being at the back of the queue should Brexit result in a shortage of the goods you require. You may have to commit to paying a higher price than usual, but the arrangement could be structured essentially in the form of an option or right of first refusal, so that you only pay this higher price if you need to call upon it.
Optionality over UK goods that would normally be sold to the EU
There may also be scope for mutually beneficial option deals with UK suppliers which currently export to the EU. Should UK exporters be unable to reach their EU-based customers as a result of disruption to EU-UK trade, those UK producers may find it attractive to have the option to sell to UK-based customers instead. As noted above, it may be possible to structure these arrangements so that you only pay if you need to call upon the option.
Key drafting considerations
As with any option, particular thought should be given to the drafting, and above all, clearly defining the parameters of the option. Important considerations include:
- Pricing and volumes;
- Timescales for exercise; and
- Stockholding obligations on the supplier (pending exercise of the option).
In addition, it will normally be beneficial to include an obligation on the supplier to notify you when the goods are available for purchase and to state the period of time the offer (with exclusivity) will remain open for acceptance. The contract should also provide a clear procedure for accepting the offer or, if you have to make an offer to the supplier to buy the goods, then a clear procedure and timetable for the seller to accept or reject that offer (you may also want to include constraints on the seller's ability to reject your offer).
Rights of first refusal or pre-emption
Rights of first refusal clauses, sometimes referred to as pre-emption clauses, are similar to options. These can be drafted in different ways but in essence would confer a right for the holder to match a third party offer on terms which the grantor is prepared to accept, although sometimes the precise contractual terms may be subject to further discussion. These may be beneficial clauses for customers to obtain in the face of goods shortages, particularly as the right can be waived if the customer is not experiencing a shortage of supply.
As in relation to options discussed above, problems typically arise due to a failure to specify the precise details, so care should be taken to set out as fully as possible what the right gives and what the process is for acceptance.
PRICE MATCHING RIGHTS
When including an option that is effectively an opportunity to match the best offer the supplier has received from elsewhere, it is important to carefully define what "matching" means, as explained in our briefings on Sports Direct v Rangers and NewBalance v Liverpool Football Club.
Self-help remedies – information and audit rights
Finally, with any arrangement which you are counting on to keep you supplied with key goods, it is worth considering the inclusion of information rights requiring counterparties to provide regular financial information as well as audit rights - particularly where there are concerns that your counterparty could face financial difficulties as a result of Brexit. With businesses already struggling from the effects of COVID-19, these rights can help identify potential issues early on and allow you to be on the front foot in sourcing new suppliers.