Step-in Clause: Risk Mitigation or Supplier Bullying?

Are you aware that this is affecting supplier relationships?

I’ve been in Procurement for a long time now, and recently I came across a Step in Clause being used by a buying organisation. You may be more familiar with these clauses, but this is my first exposure to them, and it made me question what value these are adding.

What is the "Step-in Clause"?

Let’s unpack the Step in clause a little bit. The clause is used by large buying organisations with smaller suppliers and allows the buying organisation, upon certain triggers, to have another supplier ‘step in’ and run the provision of products or services instead of the contracted supplier.

The clause is triggered by two events:

1. A force majeure event that affects the supplier for more than 10 days, or
2. A service failure that can’t be rectified within 15 days.

Now a force majeure event is described as a legal term used to describe an unexpected event or circumstance beyond the control of parties to a contract, which makes it impossible or significantly difficult for one or both parties to perform their obligations under the contract. Force majeure events may include natural disasters, war, government actions, labour strikes, or other unforeseeable events that prevent the parties from fulfilling their contractual obligations*. So effectively, we are looking at an event that is not under the supplier’s control and would often be described as ‘their time of need’. Surely what the supplier needs from its much larger customer would be support, help and understanding. Not, I’d argue, to have been bullied into passing their hard-earned IP to a potential competitor and lose all hope of retaining a much-needed revenue stream.

In the event of a service failure trigger

In my experience, no supplier organisation sets out to fail, rather they are focused on delighting their customers. From what we have seen in 19 years of supplier management research, is that approximately 2/3^rds of service or relationship problems with suppliers come from the buying organisation, and only 1/3^rd come from something the supplier did wrong.

And we are talking about large buying organisations that in my experience typically take longer than 15 days to get a meeting booked with employees. So, we are setting the supplier an impossible task. Again, the supplier would want help to rectify the service failure, not to pass their IP to a competitor.

Now here is the extra kicker of the clause. Not only does the supplier have to hand over their IP, but they have to pay the customer organisation for the ‘privilege’ of doing so and the cost of setting up a new supplier.

How is this fair and reasonable to suppliers? And remember that most of the time, you would be looking at using this type of clause with small to medium size enterprises who will struggle to argue back when negotiating the clause and certainly wouldn’t be able to fund the costs of change. How do you plan to build a relationship of mutual trust when this is the starting point?

So why have the clause? Is it to mitigate continuity of supply risk, or is it to ensure that there are no service failures? In this case, there are a lot of other clauses and potential remedies in contracts for service failures, so we need to conclude it is about continuity of supply.

Will the "Step-in Clause" ensure continuity of supply?

If a supplier is in a position where this clause is triggered, we have to question if they will actually comply with the clause. Their service has failed, and they have lost the revenue and the client, how many will actually then willingly hand over their IP to a competitor and pay for the change – I’d be very surprised if any would. And what are you going to do about it when that happens…..

I can hear it now ‘but they signed up to the clause’ of course, they will honour it. Ask yourself, did they sign up willingly, or was the lure of winning your business too great, and they signed up with no intention to honour it? Or worst still, they raised that they didn’t want to sign up, but you forced them to through your size, scale, and attractive corporate brand.

I would argue that a Step-in clause isn’t worth the paper it’s written on and is more likely to cause more harm than good, especially with Small to Medium enterprises. My recommendation is that rather than spending your energy trying to embed these clauses, work with the supplier to identify the challenges that would affect the continuity of the supplier. Come up with mitigation plans and KPIs that give you both early warning triggers of when issues may arise. Train people on how to deal with these issues and communicate what the escalation process is.

* Black's Law Dictionary, 11th ed. (2019). Force Majeure.

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