Sunday, October 14, 2012

Unwritten Clauses in Vertical Relationship Contracts

Burger King's supply chain contracts probably do not have an explicit clause that state that dairy suppliers must treat their cows humanely, but it seems as though there is an implicit clause. An animal activist group went undercover at Bettencourt Dairies to video employees beating, kicking, and jumping on cows. A perhaps unanticipated result is that representatives from Burger King said the company had temporarily suspended Bettencourt Dairies LLC. from its suppliers.

This raises a couple of contracting issues:
  1. Burger King, as a mass retailer, suffers a reputation loss if customers believe Burger King is indifferent to these issues. They could suffer real losses if this keeps enough customers away. Bettencourt Dairies does not deal with final consumers to the same extent and may not suffer a similar loss.This leads to a possible conflict in acceptable business practices, or at least the diligence with which firms are expected to monitor employees for violations.
  2. I could be wrong, but this is probably not an eventuality that negotiators thought they would have to include in the supplier contract. (How would one determine the level of severity that leads to a breach?) Contracts cannot cover all possible contingencies. Knowing this, buyers in the relationship try to include some all-encompassing clause to cover the unanticipated. However, this leaves suppliers open to possible holdup opportunities. Suppliers do not want to be left exposed to the possibility that their customer will claim a breach of contract in order to take advantage of them.
A good contract must balance all of these concerns.

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