Varying Your Commercial Contracts in Light of Inflationary Markets

June 15, 2022

By Siobhan Williams

Most industries are currently being affected by inflation as a result of supply-chain problems post COVID-19 and the war in Ukraine. In light of production cost increases, suppliers will likely find their contracts becoming increasingly unprofitable; particularly if the supplier cannot pass these costs onto its customers. In this article, we consider whether suppliers can obtain legal relief from the effects of unexpected price increases and the legal considerations for businesses attempting to vary their contracts to tackle these price rises.

Can suppliers gain relief under English law?

In the absence of any express provisions in its commercial contracts to vary the price, it is unlikely that a supplier will obtain any relief under English law from the effects of inflation. The mere fact that inflation is making a contract more burdensome for a supplier or has made the contract non-profitable for them is not sufficient.

Whilst all cases will be fact dependent, it is unlikely that a court in England and Wales will allow an implied term into a commercial contract that prices can be increased in line with inflation. Further, price rises due to inflation is usually not a defined ‘force majeure’ event under a commercial contract. Many commercial contracts will have provisions dealing with events outside a party’s reasonable control, such as delays in performance due to a natural disaster. However, such provisions are typically restricted to events that would cause significant delays or render performance of the contract impossible. Whilst price increases in raw materials and labour costs make performance more onerous for the supplier, they do not make it impossible to perform the contract. Indeed, inflation is generally seen as a mere business risk.

Considerations for businesses

1. Are there any express provisions permitting increases to the price?

   Businesses should check its contracts to see if there is any express right for it to increase its prices to reflect inflation and whether any suppliers in its supply chain can also do likewise. If there are express provisions, consider how to invoke such clauses and whether you are required to provide notice to your customers before making price increases.

2. When is the contract due for renewal?

   In the absence of any express right to increase its prices, suppliers will likely need to approach its business customers to negotiate any variation to its charges. Any renewal or extension of the agreement might be a good opportunity to address this point.

3. How to vary the contract?

   Commercial contracts will usually set out provisions on how the parties can vary the contract. Typically, the original contract will say that any variation must be done in writing. This could be by way of a formal variation agreement or a side-letter, or an exchange of emails. Suppliers should check any provisions dealing with variation carefully and follow any process laid out in the contract.

   Although parties can agree orally to vary a contract, there may be evidential problems showing such variations in the event of a dispute between the parties. It is therefore best practice to follow up any variations agreed orally with variations in writing.

   When drafting any proposed variation, the parties should also consider the effect of such amendments on other clauses of the contract and ensure that any necessary consequent variations are documented accordingly.

4. How will the price uplift clause be structured?

   Suppliers should carefully consider how it wishes to reflect price rises and how such rises will be measured. One option is an indexation clause which uses an objective index to reflect changes in the underlying cost of the service. The choice of index should not be taken lightly. Different indices grow at different rates and use different variables. A supplier should consider its main costs and consider which index would best reflect the changes in those costs. An indexation clause is typically based on a mathematical formula so it is important that it is drafted correctly to ensure it works. It is best practice to have such clauses professionally drafted.

For more information about the above or a related matter, get in touch with Siobhan Williams on swilliams@darwingray.com or 02920 829 124 for an initial free, no obligation conversation.