“Caution is appropriate. Preparedness is appropriate. Panic is not.” (~ U.S. Surgeon General Dr. Jerome Adams, quoted last week)
The coronavirus (provisionally named SARS-CoV-2, with its disease being named COVID-19) has now been documented in more than 100 countries and territories. Over 110,000 cases have now been documented across the globe, resulting in nearly 4,000 deaths, with cases outside of China tripling in just the past week. In the United States, there have been more than 500 reported cases, with 21 deaths, with eight states declaring states of emergency. The coronavirus has impacted domestic and foreign travel, as the Centers for Disease Control and Prevention has issued a Warning - Level 3 (Avoid Nonessential Travel) for travel to China, Iran, South Korea and Italy, and has issued an Alert - Level 2 (Practice Enhanced Precautions) for travel to Japan. The Italian government has issued a decree to quarantine 17 million people in its northern region, including Milan, Venice and Parma, with exceptions for “proven working needs” allowing some business operations to continue. In addition, many businesses have imposed restrictions on domestic and foreign employee travel. Twitter, Amazon, Salesforce and Nike, in addition to scores of manufacturers and professional service firms, are among the companies banning certain employee travel due to the coronavirus.
At the epicenter of the coronavirus is the important worldwide manufacturing hub of Wuhan, China. The recent spread to other major manufacturing hubs further impacts the global economy and supply chains in ways not seen since the SARS outbreak in 2003. Investors reacting to the coronavirus have caused extraordinary fluctuations in the stock market, reflected in the Dow’s end-of-February plunge and its March 2nd gains, both record-breaking. The Federal Reserve made an unscheduled half point interest rate cut, in an effort to calm investors and help protect against the economic impact of the coronavirus. And, the Saudi Arabia-Russia price war has now exacerbated market stresses, causing the greatest drop in crude oil prices since 1991.
At the center of the financial impact is the growing disruption to worldwide supply chains across many industries, including manufacturing, technology, solar, hospitality and travel, healthcare, food, fashion and apparel, to name just a few. China is the world’s second largest economy, and so the effect of the coronavirus extends – much like the coronavirus itself – far beyond its borders. In fact, according to Fortune.com, 94% of Fortune 1000 manufacturers are being hit with disruptions as a result of the coronavirus.1
As the coronavirus outbreak continues to develop, now is the time for the Energy Industry to consider response actions to help mitigate their risk and prepare for how they will deal with the fallout from the coronavirus. An effective plan should include establishing an interdisciplinary crisis response team to identify, assess, and manage the risk presented. The team should include personnel from purchasing, operations, quality, finance, and legal.
Many renewable energy projects have been impacted by the coronavirus. Manufacturers in China and Southeast Asia are key suppliers to various renewable energy projects across the globe. For example, Chinese companies manufacture many of the solar panels, batteries, silicon components, and raw materials used in renewable energy projects. A number of those manufacturers have been impacted by the coronavirus and have delivered to customers notices of potential force majeure events as a result of the coronavirus.
Energy companies should take the following steps to identify the impact of the coronavirus and mitigate risk:
- Communicate with Critical Suppliers. When the response team identifies the mission critical materials and parts, companies should consider proactively reaching out to those suppliers to determine what level of inventories they are carrying, what potential subcomponents of such parts may be or become in short supply, and what actions the suppliers are taking to prepare. Further, companies should redeploy resources in order to build additional banks of parts and/or onboard alternative suppliers, in each case if feasible from an operational, timing, and cost perspective.
- Review Purchase and Supply Contracts to Determine What “Force Majeure” Rights and Requirements May Apply.2 Force majeure refers to a legal doctrine under which a party may be relieved from liability for non-performance if circumstances beyond the party’s control prevent the party from fulfilling its obligations under a contract. Force majeure provisions can vary greatly depending on how they were drafted by the parties, but they usually cover several categories of events that could impact suppliers and customers across the supply chain. While most force majeure provisions are unlikely to list disease, epidemics, or quarantine specifically, many include general provisions covering such things as natural disasters, “acts of God,” acts of government, or “other circumstances beyond the parties’ control.” The coronavirus outbreak presents a somewhat unique situation in that it includes both a naturally occurring component (the virus itself) and a government action component (including the quarantines and other measures put in place in response to the outbreak). Parties should carefully review the force majeure provisions in their contracts to determine whether they apply. Any party seeking to invoke the force majeure provisions in its contract usually must show that there are no alternative means for performing under the contract, as increased costs alone will not be sufficient to prevail on a claim of force majeure.
- Consider the Location and Government Decrees. In China, the Ministry of Finance has issued a clarification that the coronavirus is a force majeure event and should be considered a case of natural calamity. Similarly, the National Solar Energy Federation of India recently issued a request to the Ministry of New and Renewable Energy that the coronavirus be declared a force majeure event. In addition to checking the applicable regulations regarding force majeure and any decrees by government ministries, manufacturers still will need to demonstrate that they are unable to perform as a result of the force majeure event.
- Monitor Customer Demands. Companies should monitor customers to ensure that they will comply with their contractual obligations, including timely payment for parts supplied to the customer. For those customers with a greater risk of nonpayment (for example, an OE who may suspend production under a certain program), companies should analyze contractual payment terms. Companies should then evaluate whether to seek to enforce remedies available to a seller of goods under the Uniform Commercial Code, including demands for adequate assurance of payment or a change in payment terms.
- Review Allocations. Manufacturers should review allocation requirements and obligations to multiple, competing customers for potentially scarce materials as manufacturing operations ramp back up.
- Reporting Requirements. Public companies should review and make accurate required disclosures, in the event that business operations are impacted such that a reporting requirement is triggered. All companies who are parties to credit agreements and other financing arrangements should review existing MAC clauses, and potential impacts on the borrower’s financial covenant compliance, in order to determine whether any proactive conversations with lenders may be warranted.
- Insurance. Companies should review insurance policies to determine possible coverage in the event of a business disruption, and comply with all applicable notice requirements.
In summary, it is important for the Energy Industry to take additional steps now in order to mitigate their risk of suffering negative impacts from the coronavirus. For more information about recommended steps, please contact your Foley relationship partner. For additional web-based resources available to assist you in monitoring the spread of the coronavirus on a global basis, you may wish to visit the CDC and the World Health Organization.