You’ve been fired!

It isn’t often that a supplier “fires” its customer, but it’s not unknown. I have worked with two clients recently whose suppliers have given notice of termination without cause.

How can you avoid or, if it does happen, manage through a supplier-initiated termination?

Obviously, the best position from a customer’s perspective is not to give your supplier a contractual right to terminate, except if there is an uncured material breach. However, in many negotiations in which I have been involved over recent years, suppliers are demanding a right to terminate for convenience, or a right to give notice of non-renewal at the end of an initial term, or a subsequent renewal term (which pretty much amounts to a termination for convenience).

There are any number of reasons why a supplier may require a termination right. It might be a new area of business, and they may not be able to project the business case for supporting the business beyond a limited period. It may be a line of business that is already costly to maintain, and they don’t want to be locked into a business that may become unprofitable. They may already have a number of “troubled” client contracts, and be seeking an exit right for all new contracts in order to avoid being locked into a bad deal.

If you are forced to give your supplier a right to terminate for convenience (or reject a renewal), then it’s important to consider what you will need to do in that circumstance. How long would it take you to move the services to an alternative provider, or to ramp up the necessary resources to bring it in-house? What information, software, tools, equipment and assistance will you need from the supplier in order to make a successful transition?

Few companies are nimble at executing the sourcing process – that is, identifying potential vendors, seeking proposals, selecting the appropriate supplier and negotiating the terms of a new agreement with them. Even under the best circumstances,
the cycle can take many months to complete. Adding in the contingencies of other business demands, availability of resources, and the availability and willingness of suppliers to devote substantial time to the process, you could be looking at a year or more to be in a position to transition from an existing supplier to a replacement. If you planned and initiated the termination, you would probably start working towards that well in advance, with consideration of other projects that are being implemented within the company, seasonal peaks and troughs and other business demands. In contrast, the notice of termination from a supplier may come without warning, and will not necessarily be able to be managed to accommodate your business cycles.

The best protection you can have in a termination by the supplier is a long lead time. It’s not unreasonable to ask that the supplier provide a year’s (or even more) prior written notice. That will give you a reasonable amount of time to work through the sourcing process to find and contract with a replacement supplier, or to ramp up the resources and expertise to bring the services back in-house.

You should also ensure that your contract contains detailed disengagement provisions that specify the supplier’s obligation to provide you with data,
cooperate with you and a replacement provider, and implement a well-planned and well-executed transition. The contract should also be very clear about your rights to resources on termination. Are you entitled to software (and, if so,
to source code), transfer of hardware, assignment of third party subcontracts,
including leases and licenses, and can you (or your new supplier) hire key supplier employee that will ease the transition?

A solid contract should deal with all of these issues regardless of who initiates the termination, but may be more significant when termination is forced on you by the supplier.