Russia's invasion of Ukraine and the severe and rapid international response have challenged supply chains already bruised by the pandemic and Brexit.

There has been acute port congestion and cargo disruption due to the closure of Russian airspace. China-Europe rail freight routes provide a vital alternative to container shipping but a number of routes go through either Russia or Ukraine and therefore are impacted by the war and consequential sanctions on Russia. 

The war is also restricting availability of key products and commodities.

For example, Ukrainian manufacturers supply wire harnesses to the European car industry. These harnesses are unique to each car model and vehicles cannot be built without them. Ukraine is also a major global supplier of neon gas, which is needed to make microchips.

Russia in turn is a major energy exporter, and the war in Ukraine has sent energy prices to all-time highs which will have a significant knock-on effect at all levels of all industries. Russia is also a major exporter of palladium, needed for semiconductors, and also exports titanium, prized by the aerospace industry because it is strong and lightweight.

In the food and drink industry, Russia and Ukraine account for 14% of global wheat production and are major exporters. The supply chain disruption and wider impact on agriculture will have an impact on manufacturers.

The implications for contracts are wide ranging including potential delays in delivery, shortages of materials, price rises, and counterparties not able to perform their obligations. In addition, some businesses are trying to terminate contracts and exit relationships with Russia and Russian businesses, either for ethical or reputational reasons or to comply with sanctions. Businesses are going to have to manage issues and adopt a new approach and it could lead to price rises for consumers. The war in Ukraine could, however, lead to more opportunities for domestic trade with reliance on imports being reduced seeking to minimise the impact of difficulties overseas.

Businesses that urgently reviewed contracts in 2020 as a result of pandemic lockdowns may be feeling a sense of déjà vu. However, the strategies developed in rapid time during the pandemic should help businesses deal with present disruption caused by war in Ukraine.

How to navigate a contract dispute

Assess risks

We cannot be certain how long the war in Ukraine will last. Businesses should take a view on whether they are resilient enough to weather any immediate storms caused by supply chain disruption or if they need to adopt a new approach to business going forward. It may be that any short-term losses can be absorbed, or shared, and a commercial view taken to preserve long term relationships.

Consider your counterparty

The pandemic has taught us that a little empathy can go a long way to resolving disputes. What are your counterparty's goals and challenges? If they are failing to perform as anticipated, what are the root causes? Are these factors within or outside of their control? This intelligence will help you identify realistic, pragmatic and commercial solutions.  

Identify your contractual options

Review your contracts with your goals in mind and seek advice on your options.

Mitigate financial losses

• If you are facing financial pressures, can you legitimately withhold or delay payment to a counterparty?
• If your counterparty is in financial distress, can you call on third party guarantees or performance bonds?
• Is there provision in the contract to adjust prices? (if you or a counterparty is facing much higher costs for example)

Address non performance

• Is there exclusivity? Can you mitigate your loss by sourcing product from other suppliers and then seek to recover any additional costs in due course?

End relationships

• What rights do you or your counterparty have to terminate? There may, for example, be a clause obliging parties to comply with 'all applicable laws' or similar (in a case where you are looking to terminate to comply with sanctions). Or contracts may set out examples of fundamental breaches of contract that bring the contract to an end. 
• What might be the financial consequences of termination?
• Is there a force majeure clause? A force majeure clause can relieve the parties of their contractual obligations where non-performance is due to specified events or events beyond the control of the parties. Force majeure events are typically defined in the contract but will usually include natural disasters, outbreaks of war and strikes.

Negotiate

Many pandemic contract disputes were resolved through pragmatic discussion and compromise. We found that parties could be reasonable and collaborative, especially when discussions took place early. Hopefully parties will approach disruption caused by conflict in Ukraine with a similar mindset. If a counterparty is unwilling to talk, a contract may set out a formal process to resolve disputes.

Check your insurance

The extent to which losses will be covered by insurance depends on the policy cover, so we recommend that you check this (and any notification requirements) carefully.

Litigate

Litigation may be an option.  Consider whether your counterparty has sufficient assets to make a claim worthwhile. If you need a quick resolution, other dispute resolution options may be preferable to litigation, or indeed required by the terms of the contract.

To claim against an overseas entity, as a starting point, identify where your counterparty and its assets are based for the purposes of bringing a claim. Confirm that you are entitled to bring a claim in a jurisdiction you are comfortable with and can identify assets against which you could enforce a judgment.

If you are defending a claim, the doctrine of frustration could apply, particularly given the current sanction regime. This is where both parties are released from their contractual obligations because something occurs after the formation of the contract which renders it impossible to fulfil the contract or transforms the obligation to perform into a radically different obligation from that undertaken at the moment of entry into the contract.

But, claiming frustration is challenging and fact dependent. Litigation involving frustration during the pandemic showed that Courts consider the length of a contract – if only part of a contract term has been disrupted, it is unlikely a court will bring the entire contract to an end. For example, in Bank of New York Mellon (International) Ltd v. Cine-UK Ltd, a dispute relating to unpaid rents in the retail and leisure sectors, the High Court held that an 18 month disruption to a 15 year lease was not sufficient to bring the lease to an end.

Similarly, in Salam Air SAOC v Latam Airlines Groups SA the High Court found that Covid-19, though highly damaging financially for the airline industry, did not prevent either party from performing clearly drafted contractual obligations. There was therefore no frustration.  

Though a situation may be highly unfair on one party and entirely outside of its control, courts are generally unwilling to create new legal rights (for example to withhold payments in exceptional circumstances) that aren’t expressly written into commercial contracts.

Next steps

The coming months will be unstable for many businesses. If you need support navigating challenging supplier or customer relationships, or advice on strategic decisions, please contact Heather Welham or Pete Singfield.