In the wake of the financial difficulties suffered by large
suppliers such as WorldCom and KPNQwest, you would be best advised
to check your contracts to see what you can do if your supplier
goes to the wall, writes Andrew Lucas.
Most contracts will have provisions that set out the rights of
parties in such situations. However they are not that easy to
understand.
Examining a standard clause will help to illustrate your rights
under contracts you have already signed and introduce some tricks
of the trade that will give you better rights in the future.
Typical clause
A typical standard clause on termination
of an IT contract might read, "The Agreement may be terminated in
writing by either party with immediate effect from the date of
service on the other of written notice if a resolution is passed or
an order is made for the winding up of the other (other than for
the purposes of solvent amalgamation or reconstruction) or the
other becomes subject to an administration order or a receiver is
appointed to take possession of any of the other's property."
Does it apply to you?
First, always make sure it is
clear to which companies the clause relates.
Imagine you have a contract with the UK subsidiary of a US telecoms
supplier. The US firm hits stormy financial waters and files for
Chapter 11 bankruptcy protection. You would of course be concerned
that the UK company is going to go the same way.
Under the suggested wording above, you would not have the right to
terminate your agreement with the UK company just because its US
parent was in trouble. You would have to wait until the UK company
was insolvent or wound up.
As the UK subsidiary could limp on for some time this could lead to
months of uncertainty. So seek to have the clause relate to both
the company you are dealing with and its associated
organisations.
Set a trigger
Be aware that the clause covers specific
events such as "a resolution is passed". Companies can be in
difficulty a long time before it gets to this stage.
Consider insisting on a more general wording which allows you to
terminate in circumstances where the supplier is in financial
difficulty and you have good reason to believe that it will not be
able to perform its obligations under the contract now or in the
future.
Getting a supplier to agree to such wording could be difficult. If
so, try to use a more objective test. For example, if the supplier
is a public company the right to terminate could be triggered if
the supplier's share price drops below a certain level.
It is important to note that, in the absence of a correctly-worded
clause, contracts are not necessarily automatically terminated in
an insolvency situation. A whole column could be devoted to the ins
and outs of the general law on this area alone.
Remember, the reason things are specified in a contract is to
create a degree of certainty. So if you want certain things to
happen when an event occurs, spell it out in the contract.
Take steps to protect your contracts
Your rights to
terminate when a supplier is in financial trouble may not be as
clear as you think.
- Do not rely on the general law - ensure there is a clause in
the contract
- Do not rely on boiler-plate clauses - tailor the clause to your
requirements
- Check that you can terminate for the insolvency of your
supplier's parent company
- Check that your rights to terminate occur on a wide range of
events - not just on formal court proceedings.
Andrew Lucas is senior lawyer at Law firm Simmons &
Simmons.