Bankruptcy filings are expected to surge in the near future as a result of the COVID-19 pandemic.1
While bankruptcy filings for 2020 ended up being lower than levels seen in 2019, some experts believe this is due to federal and state relief programs aimed at curbing the effects of the pandemic as well as a reduction in consumer spending and credit.2 As mortgage forbearance ends and repayment expectations resume, many expect bankruptcy filings to steady or even exponentially rise in 2021.3
There is some expectation of bankruptcy reform to help alleviate the pressure on debtors,4 but the looming threat of bankruptcy is especially salient for businesses and industries that were struggling pre-pandemic.5 In 2020, bankruptcy rates were low for individuals and commercial businesses due to government aid, but they rose overall in industries that were disproportionately impacted by society’s sheltering-in-place, such as energy, retail, and restaurants.6
Wisconsin businesses have followed a similar downward trend in bankruptcy filings as the rest of the country.7 However, some experts see a surge in filings as inevitable and akin to a “tidal wave.”8 Some are predicting that as much as 25-30% of small businesses will close as a result of this pandemic.9 Bankruptcy filings and business closings not only affect owners and employees of those businesses, but they can also have drastic impacts on the companies with which they do business.
The Effect of Bankruptcy on Supply Chains
When parties upstream or downstream in a business’s supply chain file for bankruptcy, the business can find itself in a sudden lurch. The effects of bankruptcy on the supply chain often follow a cyclical pattern, with increasingly negative results for the filling party and its supply chain partners.10 The bankruptcy of one company is almost certain to affect parties both upstream and downstream in their supply chain.11
As a result, those upstream and downstream parties may make decisions based on the filing party’s financial situation that could further exacerbate the filing party’s struggles.12 It is more important than ever for Wisconsin businesses to take heed of what is going on around them and ensure they are shielding their supply chains from the potential pitfalls caused by upstream and downstream bankruptcy filings.
Know Your Suppliers
To minimize disruptions to the supply chain, companies must make sure they understand the whole picture around their suppliers. Who do they subcontract to? Who are their suppliers? To get the full picture of a supplier is to seek out their contingency plans in order to better prepare for what will happen if things go awry.13 Even if a company is not forthcoming about their financial situation or plans, concerned businesses can stay ahead of the game by getting to know their supplier’s financial situation through monitoring of bond credit ratings, stock prices, financial ratios, and potentially conducting some crowdsourcing if needed.14
Katie Mason, a partner at Quarles & Brady LLP in Milwaukee, said, “You want to keep on top of the red flags. The more you can think ahead the better.”15 Paying attention to things like delivery problems, requests to direct-purchase raw materials, requests for shipment extensions, and production problems can be clues that a business is on a downward spiral.16 There are also great tools for monitoring business’s credit like Dun & Bradstreet reports, or SEC filings for publicly traded companies.17 Performing this level of due diligence in order to keep a close eye on downstream and upstream parties will minimize surprises and ensure businesses can pivot rapidly so they aren’t caught in a lurch.
Digitize the Supply Chain
The most common recommendation for ensuring supply chain resilience in the face of obstacles is digitization on multiple levels. Digitization of supply chain management can go a long way to ensuring businesses are on top of any changes in their supply chain at a moment’s notice, including a possible bankruptcy filing. Digitizing a supply chain would include improvements like radio frequency identification, distributed cloud computing technologies, and digital twin applications.18
Jennifer Knackert, Jennifer Knackert, a Marquette 2L, is a legal intern with Direct Supply, Inc., in Milwaukee.
With how rapidly things are changing when it comes to the pandemic, digitizing sourcing information helps to ensure businesses have a real-time understanding of their supply chains.19 This would include increased communication with downstream and upstream partners within their supply chain.20 A more well-rounded digital infrastructure would also allow businesses to be rapidly flexible if supply chain partners file for bankruptcy and anticipate these potential disruptions ahead of industry competitors.21 In evaluating the potential long-term value of this kind of upgrade, integrating contract management into this digitization would also allow for a fully developed picture of a supply chain that begins at the inception of the contractual relationship.22
Additionally, digitization at the production level would also allow businesses to build their self-sufficiency in areas of the supply chain where suppliers may be limited. Some experts emphasize an increased need for equipment that is both able to produce multiple products and better respond to adjusting consumer demand.23 If this is not a cost prohibitive solution, the future payoff of digitizing supply chain management could vastly improve a business’s supply chain responsiveness to unforeseen supplier bankruptcy filings.
The economic effects of the COVID-19 are forcing many businesses to reevaluate their relationships, even some of the strongest ones. However, before breaking a business relationship, it is important to assess how long-standing it is, and whether there has been a record of consistency and transparency with the other party.24 Ask if it would be a smart move to break a consistent relationship in search of a relationship with a new supplier that the company doesn’t know much about.25
Before things reach the level of bankruptcy filing, businesses should work with consistent suppliers to see if there are ways both parties could support each other and possibly weather the storm together, which could lead to much less disruption on both sides.26 However, if a relationship is not long standing, and red flags begin to appear that hint at a possible bankruptcy filing, it may be time to cut the cord.
Some businesses may also be turning to outsourcing parts of their supply chain to reduce cost and increase efficiency. However, the threat of this pandemic on the global economy has greatly impacted international suppliers. When considering outsourcing, it is prudent for companies to assess the risk of obtaining international suppliers.27 Choosing U.S. suppliers may be more costly, but also could provide less disruptions to businesses’ supply chains as we ride out the current pandemic and possibly face more in the future.28
Explore Legal Options
Finally, if it is looking like an upstream or downstream party is likely to file for bankruptcy, it is probably time to reach out to your legal counsel. Businesses should do so sooner rather than later so they are best prepared for the legal avenues they may need to take to protect their interests.29 Counsel can help businesses review their contracts with supply chain partners and determine their obligations and the rights they can assert if the bankruptcy filing puts a supply chain party into breach.30
Counsel can also help reassess existing contracts to ensure there are protections in place to best support the business’s supply chain interests,31 such as situations involving tooling or bailed goods.32 If given enough time, legal counsel should be able to help ensure supply chain interests are protected amid what can be a tumultuous situation.
Being proactive and prepared when it comes to potential supply chain disruptions is always best practice, but it is especially relevant during times when uncertainty is high and entire industries are threatened. While the pandemic has created unprecedented challenges, increasing flexibility and responsiveness to changes in supply chain will help businesses weather the storm and better prepare them for whatever comes next.
This article was originally published on the State Bar of Wisconsin’s Business Law Blog. Visit the State Bar sections or the Business Law Section web pages to learn more about the benefits of section membership.
1 Mark Henricks and Daphne Foreman, After The Covid-19 Deluge, A Bankruptcy Tidal Wave?, Forbes, Sep. 23, 2020.
5 Predictions for Bankruptcies in 2021, Epiq Angle, 2021.
6 Id.; see also Joe Taschler, As far as the economy goes, we might want to start spelling 'pandemic' with a 'K', Milwaukee Journal Sentinel, Sep. 11, 2020.
7 Agya K. Aning, Commercial bankruptcies down across Wisconsin, nation, but a change may be looming, Milwaukee Journal Sentinel, Aug. 21, 2020.
8 Id.; see also Paul Gores, Moratoriums and Stimulus Have Staved Off WI Bankruptcy Surge, but Lawyers Say it’s Coming, Wisconsin Bankers Association, Sep. 28, 2020.
9 Agya K. Aning, Commercial bankruptcies down across Wisconsin, nation, but a change may be looming, Milwaukee Journal Sentinel, Aug. 21, 2020.
10 S. Alex Yang, John R. Birge, & Rodney P. Parker, The Supply Chain Effects of Bankruptcy, 61 Mgmt. Sci. 2320, (2015).
13 Vishal Parel, Supply Chain Lessons from the Covid-19 Pandemic, EPS News, Oct. 21, 2020.
14 William Danner, Stay Ahead of the Storm: Bankruptcy Risk in the Supply Chain, Food Logistics, April 16, 2018.
15 Interview with L. Katie Mason, Partner, Quarles & Brady LLP, in Milwaukee, Jan. 12, 2021.
18 David Parker, In 2020, Supply-Chain Digitization is No Longer Optional, Supply Chain Brain, Apr. 2, 2020.
19 Niall Murphy, With Retail Bankruptcies Increasing, Look At Supply Chains To Identify The Likely Survivors, Forbes (Aug. 8, 2020).
22 Vishal Parel, Supply Chain Lessons From the Covid-19 Pandemic, EPS News, Oct. 21, 2020.
23 Joseph Haddad, COVID-19 Supply Chain Disruption, MSUToday, May 27, 2020.
24 Vishal Parel, Supply Chain Lessons From the Covid-19 Pandemic, EPS News, Oct. 21, 2020.
28 Id.; see also Douglas Broom, This is How We Prevent Future Pandemics, Say 22 Leading Scientists, World Economic Forum (Nov. 27, 2020).
29 Douglas Schneller & Phillip Wang, United States: Coronavirus and Its Effect On The Supply Chain, Mondaq, Mar. 2, 2020.
32 Interview with L. Katie Mason, Partner, Quarles & Brady LLP, in Milwaukee, Jan. 12, 2021.