Devil in the detail: negotiating supplier contracts requires close scrutiny

As UK car sales peaked for a 39^th consecutive month, manufacturers in the automotive sector are looking to increase production capacity and expand their roster of suppliers. But in their bid to facilitate this increase in demand, manufacturers must consider the recent case of Takata, the Japanese airbag supplier, and exercise caution to make sure the contracts put in place are robust in order to mitigate operational or reputational risks.

Takata first announced a fault affecting its airbags in April 2013 and issued a recall notice to six car manufacturers.  Faults affecting their airbags could cause the inflators to explode with too much force when they are deployed, endangering drivers and passengers.  Further recalls have since taken place culminating in the recent decision of the National Highway Traffic Safety Administration in the United States to order Takata to issue a nationwide recall.  This brings the total number of vehicles affected up to about 35 million worldwide, making it the largest vehicle recall in history.

Could the situation have been handled better? Determining the underlying cause of the problem has certainly been an issue for Takata. Several factors now appear to have contributed, including poor quality control in manufacture and prolonged exposure to heat and humidity. However, whilst full scale product recalls should be regarded as a last resort, it is arguable that Takata’s apparent reluctance to acknowledge the scale of the problem and act with the appropriate urgency may have resulted in it suffering greater reputational damage than might otherwise have been the case, with potentially adverse implications for its vehicle manufacturer customers too.  As a result, some manufacturers are considering switching suppliers.  At a time when major automotive manufacturers have consolidated their supplier base, however,   sourcing alternative components suppliers to meet their exact specifications may not be a straightforward matter.

It almost goes without saying that it is important vehicle manufacturers have plans and processes in place to identify and manage safety-critical product quality issues. Contracts with suppliers should facilitate this. In addition to clear drafting on liability, contracts with suppliers might also contain provisions which assist a manufacturer to identify possible problems at an early stage and manage any resulting cost and reputational issues. These may include a requirement for ongoing monitoring of products in service, an agreed product recall process and related communication strategy, allocating responsibility for associated costs and requiring a supplier to maintain product recall insurance.

It is this attention to detail that will help to limit manufacturers’ exposure to operational or reputational damage if, or when, a product quality issue arises. Manufacturers should take steps to protect their interests by regularly reviewing supplier contracts and by completing risk assessments of their supply base.  This can help to prevent issues arising and to limit the repercussions if they do. 

Matthew Sutton is a partner at newly-merged Shakespeare Martineau, where he advises on contract negotiations in the manufacturing sector and other areas of commercial law