Prices have risen at an alarming rate in the UK over the last year. The rate of inflation is forecast to continue rising and the Bank of England predicts it to reach around 11% this year. Spotting the signs of disruption and knowing where you stand from a contract point of view can help you to mitigate the risks to your business.

How is inflation affecting the supply chain?

The main costs for businesses vary by industry, but common factors include: the goods and services needed for production; the costs of machinery and technology; logistics; and labour. The deeply interlinked nature of global supply chains means that price rises are rarely confined to just one of these processes. This can have a multiplying effect, as many businesses face rises in a number of these aspects all at once, at a time when reserves have been depleted by the pandemic. As a result, fewer suppliers have been able to absorb rising prices than might have otherwise been the case, completing the vicious cycle that is driving inflation.

Energy volatility

It is no secret that the price of energy has significantly increased recently. Since January 2021, the wholesale gas price has risen by over 250% and multiple energy companies across the UK have ceased trading, which has also contributed to the increase in costs. This can have a knock-on effect as related industries such as logistics are forced to pass on costs and, in some cases, scale back services.

Shortage of materials

The post-pandemic rebound in economic activity is putting upwards pressure on the price of components that are in short supply. For example, many countries and sectors have been impacted by a chip shortage over the past two years, which has had significant impact on the supply and demand of a range of goods, from home electronics to cars. This has resulted in many businesses facing frustrations, as suppliers unable to meet their contractual obligations put downstream contracts at risk.

Individuals and companies across the world are making the jump from fossil fuels to electrical power. The products needed to shift into this electrical world are in greater demand and are therefore getting more expensive. The price of lithium batteries, for instance, has increased by more than 1,000% since January 2020. Not only does this make products more expensive, but it also means that these products are harder to obtain. Suppliers caught in the middle are at risk of breaching their contractual obligations, while businesses that decide against moving to greener technologies face reputational and stakeholder risk.

Labour shortages

The workforce is one of the greatest assets for any business, but the rising cost of living is resulting in workers demanding increased wages and changes to their employment contracts, as evidenced by the recent train strikes in June 2022. When workers leave the business, employers are reporting difficulty filling vacancies, particularly in sectors that are experiencing labour shortages, such as construction, haulage and food production.

A reduction in workforce can cause a business to fail to fulfil orders. The resulting loss of "corporate memory" can also leave the business more exposed if a dispute does arise, as claims often turn on what was discussed by key individuals.

What do you need to think about?

Given the range of potential sources of delay, disruption and price rises, it is inevitable that frustrations will build.

These issues are likely to cause delay and distribution problems and affected companies will look to commence proceedings against suppliers within the chain. If you find yourself in this position, what should you be considering?

If you are thinking of taking action against another party in your supply chain, it is important to fully understand your contractual rights:

  • Has the contract arguably become impossible to perform? Check to see whether there is a force majeure clause that could work either for or against you.
  • Is time stated to be "of the essence" in relation to any obligations that have not been performed (such as supply of goods)? If so, any form of delay could potentially be a lawful ground to terminate.
  • Are you considering terminating the contract? It is important not to get this wrong as incorrectly terminating the contract could result in you being liable to a claim for damages.

While you will need to be sure of your rights and remedies, in some cases it will be critical to act fast, as otherwise you may be at risk of affirming the breach and finding yourself without a remedy.

Modification clauses

If you are considering altering your contract to compromise with a supplier, always check to see if whether there are any contractual modification clauses within your contract. If the contract requires any modification to be in writing and signed by both parties, make sure you do this and retain evidence to avoid any argument in the future as to the effectiveness of the variation.

Consider whether you need to pull the trigger on litigation or whether you could explore a less hostile approach. This is particularly important when dealing with customers or suppliers that would not be easy to replace.

Mediation is a less confrontational alternative to litigation, which focuses on resolving a dispute consensually, and can therefore help to preserve the commercial relationship. The confidential nature of mediation also reduces the risk of the dispute becoming public, which can damage reputation and relationships with other parties. If you are unable to resolve the dispute but wish to stick to a confidential process, you may want to suggest that the parties submit to arbitration (if your contract does not already provide for this).

Managing your risk

Supply chain disputes are becoming increasingly common as inflation continues to rise. Disputes often require fast cross-border solutions. If you are considering initiating a dispute, take early advice from your lawyers. As the largest law firm in the world, Dentons is well placed to help you navigate through all your supply chain frustrations across the globe.