Tuesday, March 22, 2011

Excess Costs of Re-Procurement ("cover")

I’ve seen Suppliers attempt to disclaim any excess cost of re-procurement. Most procurement contracts include a limitation of liability clause that disclaims a number of different types of damages such as consequential, incidental, special damages, lost revenue or profits except for certain specified contract sections. The impact of such a limitation of liability is that for the breach of any of remaining contract sections, you recovery would be limited to only direct damages.

One of the primary direct damages that you would have is the excess cost of re-procurement that is also referred to as the cost of “cover”.  Both terms mean the difference in price between what you would have paid the Supplier for the work versus what you have to pay for another Supplier to perform the work.

When a Supplier wants to exclude excess costs of re-procurement they are proposing to eliminate the primary remedy you had for the breach of any term that wasn’t excluded from the limitation of liability.  For example, if the requirement for on time delivery wasn’t excluded from the limitation of liability, they could fail to deliver and have no liability at all if you agreed to exclude excess costs of re-procurement. If the Supplier were adamant about not being liable for excess costs of re-procurement I would find another Supplier as you can’t count on them to perform.  If they divert product to another customer who will pay more and can do that without any liability, you don’t have a source of supply you can rely upon.

Many times what the Supplier really wants is to limit the potential cost of the re-procurement as a way of managing their potential cost exposure. That may be reasonable if the limit on their liability is high enough to drive the right behavior on their part.  If it’s too low any time there is a shortage of supply or excess demand you can expect that products that should have been shipped to you will be shipped to another customer who will pay more and even after paying you the excess cost amount agreed the Supplier will still be making more money.

If you must use the Supplier and they are looking to cap their potential exposure, you could always propose to limit it by proposing that the costs must be reasonable. If the Supplier insists on a fixed amount or multiple of the purchase price, make sure that the amount or multiple will drive the right behavior and provide you what you would need to get the work completed. If the Supplier sells the same product through distribution, I would always want the actual price paid to distribution to be included as part of what is considered reasonable or acceptable.

For example:

“Supplier’s liability for any excess cost of re-procurement shall not exceed two times the Price or Buyer's cost to purchase the Product from Supplier’s authorized distributors, whichever is greater.”

“Supplier shall be liable for the reasonable excess cost of re-procurement. The cost of any purchases from Supplier’s authorized distributors shall be deemed reasonable.”

1 comment:

  1. Jack:

    You've made this so clear and easy to understand. Thanks.