“They’ve stopped shipping!” That’s a phrase that is sure to throw any vehicle manufacturer or automotive parts supplier into a full-blown panic. The reason, of course, is that in order to increase efficiency and reduce waste, the automotive industry operates on a “just-in-time” basis, with vehicle manufacturers and component suppliers having little inventory on hand and instead relying on continuous shipments of component parts to continue production. Not only that, there’s usually only one supplier of each part. As such, the failure of a single supplier – whether a Tier 1 or a Tier 4 ̶ to timely ship parts can lead to a ripple effect throughout the supply chain, preventing all other suppliers in that supply chain from supplying their parts for use by the vehicle manufacturer, which in turn, results in the vehicle manufacturer shutting down production of the impacted vehicles and incurring astronomical monetary damages.
That was just what GM was facing when its sole supplier of certain acoustic insulation products, Clark-Cutler-McDermott (CCM), attempted to close its doors in mid-June of this year and stop production of nearly 175 different parts. Had that happened, nearly all of GM’s North American production would have come to a halt, and GM would have lost millions of dollars each day. Fortunately, GM was able to convince a federal court in Michigan to order CCM to keep shipping while the parties worked out a resolution. CCM filed for bankruptcy in early July, claiming that it was losing more than $30,000 a day on its contracts with GM, which made up 80% of its business. Ultimately, the parties reached an agreement by which GM obtained the necessary tooling from CCM and purchased a finished parts inventory from CCM, allowing it to avert having to shut down its factories.
But, obtaining the tooling and ensuring that its production was unaffected by CCM’s bankruptcy wasn’t the end of GM’s troubles with CCM. Less than two weeks ago, CCM’s creditors sued GM for, among other claims, breach of contract, contending that GM intended to exit its relationship with CCM despite having agreed to participate in good-faith negotiations over permanent price increases and, in doing so, “aided in CCM’s continued death-spiral-fate that GM perpetuated to the detriment of its fiduciary” and caused irreparable damage to CCM and its creditors.
The GM-CCM predicament serves as a good reminder that, because of the use of the just-in-time system, automotive suppliers ̶ regardless of their position in the supply chain ̶ wield a tremendous amount of leverage over the entire automotive supply chain and should be monitored and managed carefully before they threaten to bring down an entire vehicle supply chain, or as in the GM-CCM case, nearly all of an OEM’s North American production and cause additional difficulties post-bankruptcy.
Here are a few key tips to keep in mind to help you identify and deal with troubled suppliers:
- Before you select your suppliers, be sure to conduct thorough due diligence to ensure that they can meet your quality and delivery requirements. Review financial statements, understand past financial trends, visit the supplier’s facilities, learn about the supplier’s customer base and consider whether it is sufficiently broad and diversified, and obtain information regarding the experience and strengths of key personnel, among other things.
- Don’t put all of your eggs in one basket. If you can avoid it, make sure you aren’t so dependent on any one supplier that they have the ability to impact your production across multiple vehicle lines or factories.
- Ensure sustainability. While low price tends to be the key factor in supplier selection, it cannot – and should not – be the only factor that you consider when choosing your suppliers. If your supplier is losing too much money – whether because outside factors such as material prices or currency exchange rates have changed or because requirements are up and it is paying expedited shipping and overtime to keep up – it may not be able to maintain the pricing long-term and could quickly find itself in financial trouble.
- Monitor your supplier’s financial health. Once you’ve chosen your suppliers, be sure to take advantage of the audit clauses in your contracts so that you have a clear understanding of the supplier’s financial picture and can identify potential areas of concern early enough to either work through them with your supplier or to get an alternative supplier ready to take on the work without any interruption in supply.
- Pay attention to early warning signs. Requests for early payment, price increases, or other financial accommodations or an increase in quality problems or late deliveries may well be indicators of a larger problem. Don’t put your head in the sand. Be proactive and do what it takes to understand the cause of these early warning signs. That way, you can get ahead of any issues before they become more urgent and costly.
- Have a backup plan. Though resourcing production from one supplier to another is often the last resort, as it can be expensive and, given the need for quality and safety testing, can take months and, in some cases, more than a year. But, as the GM-CCM case demonstrates, there are times when it cannot be avoided. Be prepared for that possibility by identifying potential alternative or backup suppliers for critical components before a crisis hits.
For more advice on how to address a troubled supplier situation, contact any of our Automotive Industry Group attorneys.