By Madhumita Mookerji
In these unprecedented times of COVID-19, when the global economy is screeching to a halt, three companies in the automobile sector have invoked the force majeure clause to defer their payment obligations. A force majeure (FM) clause is invoked by companies in unforeseeable circumstances that prevent someone from fulfilling a contract. The country-wide lockdown has resulted in a total halt in sales for automobile manufacturers, who are saddled with huge inventory pile-up at dealers. Nor is there any clarity on how long the lockdown is likely to continue, forcing some of them to take recourse to such contingency options.
The two two-wheeler majors are Hero MotoCorp (India’s largest two-wheeler maker) and Eicher Motors (makers of the Royal Enfield brand of motor-cycles). As per reports, both Hero MotoCorp and Eicher Motors are suspending payments to a few of their suppliers.
The third player to have invoked the FM clause is a leading global auto components vendor, SteelMint has learnt.
At present, however, almost all auto component vendors have maintained a stoic stance, by not invoking the FM clause against any of the OEMs. But they have become wary that many more OEMs could resort to invoking the FM in the coming weeks since the future is very uncertain at present. Thus, they have indicated that there is a problem at hand, that on account of the OEMs’ invoking the FM clause, there will be “a chain effect”, and that their supply chain will be disrupted.
“Supply chains have been disrupted across the globe and not just in India. And many of the component suppliers are finding it difficult to run their companies as the cash flow, or working capital, has been stopped since there are no sales. If the payments are not made on time then obviously thecomponent vendors cannot keep their supply chain running,” an analyst told SteelMint while another industry expert corroborated: “There is a cash flow crunch which is making it difficult for the auto component suppliers to maintain supply continuity.”
Indeed, will there be litigations, going forward?
It makes more sense for the companies to settle these disputes amicably, because COVID-19 has already led to huge losses being incurred by both the OEMs and vendors.
Importantly, companies can only defer the payments and cannot invoke the FM clause to desist from making payments in future. The payment carries a contractual obligation and FM can give a temporary relief.
A source informed that considering the total shutdown, there is bound to be many litigations/legal disputes both within the country and across borders. There is a possibility that some of the companies may use this crisis as an opportunity to evade their obligations which will be a point to prove during such a legal dispute. “Surely, it will result in the start of several long-drawn legal disputes across the globe and a huge loss of resources (financial and non-financial) to companies. Therefore, one line of thought could be that the companies would amicably settle the issues, which could help to reduce the financial losses which have already been incurred due to the COVID-19 crisis,” the source observed.
Importantly, there is also a big question mark on whether COVID-19, a pandemic or endemic is covered under the FM clause, whether during a time of a pandemic one can invoke or not the FM clause.
Benefits of FM Clause
But, why have OEMs resorted to the FM clause?
Because, they can prevent vendors from making claims as outflow of payments could be stopped. They can prevent dealers from raising any claims. The clause is also a sort of a first-mover advantage (in case there is a legal dispute in future). That apart, the FM is a signal that normal business activity is going to be impacted and that there could be stoppage of business activity. It is also a declaration that the company cannot fulfill its contracts. It is a step taken to state that all contractual obligations are suspended. Hence, no liability or claim can be raised during such a period. It also gives the OEM the right to cancel or change order quantities.
When Vendor Companies Invoke FM
When vendor companies invoke the FM clause, it is naturally indicating that they are trying to protect themselves, that there could be “supply chain disruptions”.
It is also an indication to OEMs that usual support cannot be expected (even in the long run) till normal economic activity is restored.
“As the OEM has the upper hand, the FM clause could help the vendor gain some advantage in case of any claim/dispute. The vendor can beat the OEM with a first-mover advantage,” observed the source.
The FM also gives the vendor the right to cancel or change order quantities.