Editor’s
note: Mercedes is a recent graduate of the LL.B. dual-degree
programme English and German Law, which is taught jointly by University College
London (UCL) and the University of Cologne. She will sit the German state exam
in early 2022. In September 2020 she joined the Asser Institute as a research
intern for the Doing Business Right project.
The
Covid-19 pandemic is straining global supply chains and exposes the inequality
that underlies them. As many countries entered lockdowns, the economy was
brought to a rapid halt. This caused demand for apparel goods to plummet.
Global apparel brands, in turn, have begun to disengage from business
relationships with their suppliers. Lead firms cancelled
or even breached
their contracts with suppliers (often relying on force majeure or hardship),
suspended, amended or postponed orders already made. This practice had a
devastating effect on suppliers.
This
situation again shows that the contractual structure of global supply chains is
tilted towards (often) European or North American lead firms. In this blog, I
will first outline the power imbalance embedded in global supply chain
contracts. Secondly, I will outline how order cancellations impact suppliers
and their workers. In Part II, I will go through four approaches to mitigate
the distress of suppliers and their workers and to allow the parties to reach
solutions which take into account their seemingly antagonistic interests.
Power
imbalance in the garment supply chain: Key economic drivers
Global
value and supply chains suffer from a power imbalance, tilted in favour of
apparel brands and retailers. Power is defined as the ability of an actor to influence another to
act in the manner that they would not have otherwise.[1] This brand power has two
main sources: first, the significance of design and marketing
activities in terms of value addition and second, the dependence of suppliers
on buyers (buyer-driven supply chain contracts).
The
most valuable activities in the apparel GVC are not related to manufacturing,[2] but are found in the
design, branding, and marketing of the products. These activities are generally
carried out by so-called lead
firms – retailers, brand marketers, and brand
manufacturers.[3]
They usually benefit from their size, huge sales and thus significant market
power.
Additionally,
suppliers are dependent on a limited
number of buyers. An ILO
report shows that 24% of all suppliers depend on their main
buyer, who takes half of the production. In the case of 54% of all suppliers,
the main buyer takes 35% of the garment production. Furthermore, 52% of suppliers in the garment
industry accepted orders below cost, 81% of which reported to do so in order to
secure future orders. In particular, 52% of the suppliers based in Bangladesh
reported having been pressured by buyers to do so. Thus, suppliers are
generally highly dependent on their buyers and have very little bargaining
power. It seems the economic structure of the garment sector is tilted
in favor of the buyer.
The
fashion industry is built on short-term adversarial trading relationships, characterized by multiple
sourcing, price orientation and competitive bidding.[4] According to Raworth
and Kidder, buyers exert three kinds of pressure on suppliers:
First, time and speed (faster delivery, shorter lead times), second,
flexibility (quick changes in order size and rapid switches between product
designs), and third, costs and risks (lower price, higher quality).
For
example, according to the ILO,
only 17% of suppliers in the Bangladeshi garment sector considered to have
enough lead time. Such ‘predatory
purchase practices’[5] allow buyers to act
opportunistically and make agreements that favor their interests and force
suppliers into unfair contractual arrangements. Suppliers respond by squeezing
workers’ wages and production targets.
Power
imbalance in the garment supply chain: Contractual translation
This
economic power imbalance is translated contractually. Suppliers are confronted with
take-it-or-leave-it agreements. In practice, lead firms draft contract clauses
and provide them to the suppliers. Suppliers are pushed to assume all financial
risk – as evident from the situation suppliers find themselves in after the
outbreak of Covid-19. Moreover, buyers do not only impose strict deadlines, but
also include penalty clauses in their contracts if suppliers fail to meet those
deadlines. According to the ILO, 35% of suppliers in the textile industry face
such penalties. Buyers also benefit from one-sided cancellation clauses, to
which they increasingly took recourse during the pandemic.
For example, Kohl’s
Inc.’s contract with their
suppliers contains the following clause which secures such a
discretionary right to withdraw their order in a wide range of situation:
„We may cancel our Purchase
Order in whole or in part without your authorization and at Kohl’s sole and
absolute discretion in the event of any of the following, each of which it is
agreed will substantially impair the value of the whole Purchase Order to us:
... (g) in the event of acts of God (including, but not limited to, natural
disasters, fire, flood, earthquake and disease outbreaks), lock-out, strike,
war, civil commotion or disturbances, acts of public enemies, government
restrictions, riots, insurrections, sabotage, blockage, embargo, or other
causes beyond our reasonable control ... Cancellation by Kohl’s for any of the
foregoing reasons shall constitute “for cause” and shall not subject us to any
liability, cost, or charge whatsoever. In the event of such cancellation, or
any cancellation for cause, Kohl’s may take possession of the Merchandise and
any materials and equipment being used by you and may cause the Merchandise to
be completed in such manner as Kohl’s shall determine and you shall reimburse
Kohl’s for the cost of completion.“
These
clauses allow buyers to disengage from their contractual relationships at their
discretion. This is often the case even where orders had already been made and
shipped. Buyers are generally under no obligation to adhere to a time limit or
reimburse the costs of orders already completed or shipped.
Typically,
the brands’ bargaining power also allows the renegotiation of payment terms. As
highlighted in a
report of the ECCHR, in the midst of the covid-19 pandemic both Marks and Spencer and PHV Corp amended
payment terms to extend the payment period. While Asda
and Debenhams each demanded 40 to
90% discounts as condition to accept the goods they had ordered.
Where
supply chain contracts did not include such unilateral cancellation clauses,
suppliers try to invoke force majeure to get out of their contractual
obligations. Force majeure, a concept derived from Roman law, relieves a party
from its contractual obligations if an unforeseen event renders performance
impossible. The concept of force majeure has to be distinguished from
‘hardship’, which allows a party to walk away from its contractual obligations
if the circumstances surrounding the performance of the contract changed in
such a way as to render performance of the contract significantly more
burdensome.[6]
Both concepts constitute a good
faith exception to the cornerstone of contract law, the principle of pacta
sunt servanda.
The
interpretation of force majeure clauses and the question if COVID-19
constitutes a force majeure event is governed by the law applicable to
the contract. All private law regimes have different concepts to deal with
changed circumstances; all with different nuances. To some extent at least it
is nevertheless possible to discern some commonalities between the different
approaches to force majeure. Today, some even speak of an
internationally accepted concept of force majeure,[7] requiring a party to prove
that (1) an external event; (2) which was unavoidable; (3)
and unforeseeable; (4) caused the obligor’s non-performance.
Much
(see for example here,
here
and here)
has been written on whether COVID-19 does indeed constitute a force majeure
event. This will depend on the drafting of the agreement, and the contractual
obligation in question. One can readily accept that COVID-19 (or to be more
precise: its side-effects) renders the performance of a contractual obligation
impossible if we are concerned with a manufacturer whose employees are all in
lockdown and must therefore abstain from work. Global apparel brands, however,
‘only’ need to pay money. It is much less obvious to assume that it is
impossible to fulfil a payment obligation. The fact that some countries issued
– or consider
issuing – force majeure certificates does not change this.
Such a force majeure certificate only serves as supporting evidence before a
court or tribunal.[8]
The court will still take other factors, including the wording of the contract,
into account.
If
force majeure is of limited help to them, companies will instead turn to
hardship. Due to the covid-19 lockdowns brands are prevented from selling their
apparel and would have to store the excess clothing. The contract becomes
commercially impracticable – but not impossible to perform. As argued
by the ECCHR, it is difficult to see how companies will be able to claim that
the measures governments took in response to the pandemic constitute events
that render their payment obligation significantly more burdensome. Indeed,
the risk that they might not be able to sell their products seems to be an
economic risk generally borne by companies engaging in a cyclical
economy.
However,
even where force majeure clauses were triggered falsely, suppliers will often
lack the resources
to bring a claim. Moreover, contracts often include clauses stipulating that
the supplier bear buyer’s
legal costs if their claim fails and obliging suppliers to sue the buyer in the country in
which the buyer
is domiciled, not where the contract is performed.
Covid-related cancellation of garment contracts: Effects on suppliers and workers
According
to the International Labour Organisation, looking
at Bangladesh alone, the cancellation of contracts in the garment industry
caused a loss of $USD 6 billion since the beginning of the pandemic. Half of
Bangladeshi garment suppliers had the majority of their contracts
cancelled; around 1,136 factories and 2.26 million workers are
said to be affected. In Bangladesh, the garment industry, which amounts for 80%
of all exports, employs 4.5 million workers. As of April 2020, more
than one million garment workers were fired or furloughed, often
without pay. Consequently, 80% of Bangladeshi families suffered from income
loss. Cambodia, Indonesia, India, Myanmar, Sri Lanka and Vietnam have
been similarly affected.
Furthermore,
according to Clean Clothes Campaign, over 60% of the poor and low-income
population who suffered income losses because of Covid did not receive any
support from the public and private sectors and 30% of garment workers report
that their children had
gone without food. Most factories operate on very thin profit margins
and lack access to loans; the pandemic pushed many producers into or near to
bankruptcy. Having to lay off workers, employers are left with no room to
provide their employees with severance packages. Workers’ wages are often
squeezed to produce garments as cheaply as possible, thus depriving them of the
possibility to plan for unforeseen events. Finally, home states with prevalent
supplier industry often lack capital or access to capital to set up rescue
schemes for corporate nationals and citizens. And when these states do set up
support schemes, they often
lack effective enforcement mechanisms, leaving
those affected in financial distress. Workers, who before had struggled to make
ends meet, now cannot pay for mere necessities: housing, food, schooling. As
a survey
from India revealed, migrant workers are at particular risk. They often
fall outside the coverage of support schemes and lack support networks.
Where contractual clauses are favourable to
brands with disproportionate bargaining power, they might be allowed to walk
away from their contractual obligations. This is because under the dominant
interpretation of the principle of party autonomy, the courts tend to respect
the “autonomous” will of the parties when agreeing to contractual terms, no
matter how onerous (or unfair) they appear to be. Yet, contrary to this abstract
ideal of party autonomy, the parties to supply chain contracts are rarely of comparable
strength. Instead,
buyers tend to set the terms of the contracts unilaterally; no real negotiation occurs. Benefits and
burden of the contracts are not distributed in a fair manner. In other words, global
supply chain contracts are by design favouring European or North American brands.
Thanks to them they can externalize unexpected costs, such as the fall in sales
caused by the Covid-19 pandemic to their contractual partners in the Global
South. Yet, in light of the unequal resources of the different parties to the
apparel supply chain, it would seem reasonable to shift a considerable share of
the economic losses triggered by the pandemic onto the strongest links in the
chain: the brands. In Part II, I will discuss four potential solutions to achieve
such a rebalancing.