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http://www.minterellison.com/sitecore/content/MinterEllison/Website/articles/2020/03/10/10/08/covid-19-impact-on-international-supply-chains

The next wave – COVID-19 impact on international supply chains

7 minute read  11.03.2020

The outbreak of COVID-19 comes on the back of an already tumultuous two years for the global economy, markets and trade where the US-China "trade war", other trade tensions and macroeconomic factors have created uncertainty, commercial losses and subdued growth prospects.

Closed for business – the unprecedented disruption.

In this climate businesses have already had to handle a number of legal, regulatory impacts in the first wave of COVID-19 disruptions since late 2019. Some of these include:

  • Handling immediate incident responses and complying with regulatory requirements
  • Public relations & reputation management with media, community consultation and government relations
  • Understanding and assessing risks across company, undertaking audits, response assessments & any necessary internal investigations
  • Protections of employees, customers and suppliers including health & safety, screening, remote working, travel restrictions and privacy management
  • Impacts on major transactions and projects including material adverse changes / effects, and the limitation of ability to conduct due diligence and negotiate deals
  • Market and regulatory disclosures and reporting (including in an uncertain and rapidly changing environment)
  • Impacts on supply chains, service arrangements and any other possible contract disruptions including force majeure and notification provisions, variations, postponements, alternative arrangements, commodity access, price and currency fluctuations.

Secondary impacts and expected business casualties

Given the scale and reliance on China as a key consumption market and hub in many global supply chains, these responses have created a double-barrelled risk – one from the demand side (reduced Chinese consumption of many good and services); and from the supply side (reduced Chinese production of goods and services required across many countries and economic sectors). The immediate flow-on impacts have been apparent in most international markets. In Australia, inbound tourism and education and outbound exports of premium and perishable foods have suffered immediate impacts. However, it is expected that over the next few months a new wave of direct and flow-on impacts will significantly disrupt many industries as the full suite of demand and supply effects hit global supply chains.

As an example, analysts are suggesting that Apple, with its sophisticated sourcing, production and supply chains, could have reduced shipments of iPhones and Airpods between 5-10 per cent just this quarter. In the highly impacted automotive industry, Hyundai has had to shut its car plants in South Korea, Nissan temporarily closed one in Japan, and Fiat-Chrysler halted production, all because of shortages of parts supply from China. India is restricting generic pharmaceutical exports and the US Food and Drug Administration is reporting shortages of unnamed drugs. These, all in in turn, have immense downstream impacts for other reliant businesses and consumers.

Furthermore, Australian farmers are closely monitoring and developing contingencies around the potential for serious supply shortages of ready-made pesticides and the active ingredients of herbicides leading up to planting of Australian winter crops. That impact fully exacerbated would be detrimental to a number of direct and supporting supply chains, industries, reliant rural communities and consumers.

A particular concern is the vicious cycle created by secondary impacts on the less resilient smaller and medium sized enterprises, where any commercial hardship that leads to insolvency would create unemployment and reduced consumption, which would lead to a possible contagion effect of hardship, insolvency and unemployment for others. There are now suggestions that the Australian Government is moving to finalise a stimulus package to support the Australian economy. We have seen the Reserve Bank of Australia again drop interest rates to support economic growth, with many analysts predicting that another drop in rates is expected by mid-year.

A new era of supply chains

The Economist recently reported that various business surveys have found that only a minority of businesses across all industries regularly assess their supply-chain risks carefully.

"For years bosses have devolved responsibility for sourcing to mid-level managers, typically instructed to extract an extra per cent or two from costs each year."

However, COVID-19 coupled with recent trade tensions and heightened protectionism have shown that an overreliance on one market for either demand side or supply side benefits exposes businesses to these types of external shocks. The very real impacts now have the attention of shareholders and management, forcing them into strategic reconsideration of sourcing, work processes and supply chains.

In what might become the "new normal", diversification of supply chains which are more "immune" to external shocks may counter the previous benefits of simple cost reduction. Alternative labour-intensive manufacturing hubs like Vietnam, Cambodia and Bangladesh are becoming more sophisticated and experienced and are taking market share from China. However, with the virus spreading further into South East Asian markets, question marks remain their capacity to accommodate any sudden surge in demand, let alone covering their own preparedness programs.

Nonetheless, using markets like these as an alternative or China+1 strategy for diversification, or even considering home markets with newer automation or additive manufacturing (if applicable), could help in mitigating these risks, whilst also possibly providing new productivity enhancements, cutting down time and costs, and creating leadership positions in extremely competitive markets.

Survival and adaptability

As a result of the China-US trade conflict, many global businesses, including many Chinese businesses, had already started to explore shifting their own growth strategy and production to alternative markets. However, these opportunities also pose challenges and complexities. Modern global supply chains are highly integrated and are reliant on a myriad of factors including: sourcing and commodity price certainty; untangling the "noodle bowl" of multilateral, regional, plurilateral and bilateral free trade agreements espousing different tariff, quota and country of origin rules; favourable access to special economic or free trade zones; accelerated customs, clearance and trade processes; government grants and tax incentives; as well as local laws, regulations and market factors. 

Naturally, management, shareholders and customers will expect a balance between creating the benefits of a diversified strategy, a seamless and uninterrupted transition and the maintenance of "business as usual", whilst understanding and dealing with the legal and commercial risks.

Conclusion

Anecdotally, many businesses are activating their business continuity plans, some companies in Singapore, for example, have reportedly split their employees to be either in the office or working from home to reduce virus exposure. Preparation and the agility to navigate these new challenges ahead will be critical to mitigate the impacts. Investing in risk analysis to identify any hidden exposure and investing in the relationships of your supply chain to enable mutually beneficial outcomes for those at risk may reduce the need for fear or "knee jerk" based solutions. Rather, seek to understand how you can work together to survive and implement what you have learnt so you can thrive.

Top ten checklist – What can I do now?

Here are our top ten things to consider now:

  • Comply with any regulatory requirements around human and cargo movement. Put in place systems that ensure that your staff, customers and community are safe.
  • Understand and assess the various risks across your business, undertaking audits and investigations (if needed) and respond quickly and carefully.
  • Try to have open conversations with your supply chain players to understand the impacts upstream and downstream to enable proper contingency planning and mitigate disruption.
  • Can you supply / deliver your goods, services or value in a different way, such as remote or digital delivery (subject to existing firewalls and regulation).
  • Review your commercial contracts and understand a number of key provisions including but not limited to force majeure, material adverse changes / effects, termination, exclusivity, liability caps, liquidated damages, governing law, jurisdiction and enforcement provisions (if included) to ascertain what likely scenarios may trigger any of these provisions.
  • Understand your shipping and logistics contracts and insurance coverage including maritime insurance coverage to understand possible delays, timeframes and rights to make claims.
  • Understand whether you are obliged to (or should) make any market disclosures or other key stakeholder communications about any changes of circumstances. 
  • Commence longer-term planning by reviewing processes and contracts to mitigate risks and disruption during future "shock" events, implement and communicate new processes to staff and stakeholders.
  • Consider a review of your supply chain and logistics arrangements, associated trade rules and the implementation of new technologies such as blockchain which may create new supply chain diversification and security benefits.
  • Seek help from your trusted global advisers on these and other aspects of your response.
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http://www.minterellison.com/sitecore/content/MinterEllison/Website/articles/2020/03/10/10/08/covid-19-impact-on-international-supply-chains

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