Thursday, February 10, 2011
Negotiating - Thoughts on Negotiating Termination Without Cause
The value of termination without cause provisions will vary depending upon the circumstances. If you have a contract to purchase products with no binding commitments, you can effectively have a termination without cause by simply not ordering any more product. Where a termination without cause provision provides value is when you have situations where you either need to make and immediate cancellation of a contract or order because the circumstances or need has changed and the Supplier may be partially completed with the contract work. Where it also makes sense is when you are in a relationship with a Supplier that isn’t working. The Supplier may have overstated their capabilities or you may have other conflicts where the two companies are simply not compatible. You can use it when there aren’t sufficient grounds for you to terminate for cause, but you don’t want the relationship to continue.
In termination without cause the Suppliers concerns are mostly financial. The termination will cause a break in their work or production that they may not be able to backfill with other work causing downtime. The termination will impact the work in process they have not yet completed and it will also impact outstanding orders they may have with their Suppliers. The larger your business is to the Supplier and the more custom your work is, the more the Supplier will be concerned and the broader the protection they will want if there is a termination without cause. If you simply buy a standard product, the argument should always be that they can readily sell that standard product to others so you should have no liability, or at best your liability should be some small amount to cover their holding costs until they can sell it to someone else.
If your product is custom, you always need to understand at what point in the work or process it becomes custom. For all the orders that are affected before it reaches that custom point, you should negotiate your liability the same way as a standard product to look at the cost of the work that had been performed. Once it has become custom, in most cases it’s of no value to any other potential customer so the Supplier will want the Buyer to assume all the costs of the work in process, or have those products be completed. The negotiation of liability for their for purchases from their Suppliers should be limited to only for those that are non-cancelable or in which a cancellation fee is charged. The question to ask on these is whether those materials are also custom or unique to the Buyer. If the excess could be used for other customers the maximum you would want to pay as a small carrying charge to cover the additional time it would take to consume them. The impact to the Supplier’s production in terms of downtime is something that really depends on the nature of the relationship. If you have a contract in which you have no made firm commitments to a specific volume of purchases, why should you be liable for anything beyond their investment in their WIP (work in process) and any unique non-cancelable materials?
The greater the problem to the Supplier the cancellation would have on them, the more reluctant the Supplier will be to agreeing to a cancellation without cause without compensation. For the Buyer the last thing you want to have occur is having the Supplier continue to do work, add value and add cost to something you no longer need or want. They shouldn’t benefit while you lose and that’s something you should remind them about. Most termination without cause provisions will have the Buyer be able to terminate provided it pays the Supplier’s actual and reasonable costs associated with the termination. Buyers want that commitment conditioned on the Supplier using reasonable efforts to mitigate the cost. That way both parties will work together to reduce the impact.