Most Favored Nations – Part II

I wrote a blog early in the year which took some time to analyze the benefit of Most Favored Nations clauses in e-RFx documents. Interestingly, that blog is one of the most heavily trafficked, even still today. Since so many people have interest in this issue and there appears to be many questions about the usage and value of MFN clauses, I asked Iasta corporate counsel – David Castor – to chime in with some thoughts from the legal perspective.

Most Favoured Nations clauses derive from international trade law. There, an MFN clause states that one sovereign nation grants to another sovereign nation certain trade advantages where the MFN nation will always receive equal or greater trade benefits from the first nation than all other nations who trade with the first nation. The purpose of this type of MFN clause is to create a mutual relationship of trust among trading nations.

In the U.S., MFN clauses are also often found in class action settlement agreements. In the famous 2000 case, offered MFN clauses in settlement agreements with individual plaintiffs to guarantee that a particular settlement amount with each plaintiff would be at least equal to any settlement amount agreed to with any other plaintiff. The intention of this type of MFN clause is to encourage efficiency in dispute resolutions.

Today, MFN clauses have worked their way into general transactional agreements. As the original posting suggested, this has been noticed in certain supplier agreements. The purpose for this type of MFN clause mirrors the purpose in international law in that it builds a relationship of trust in commerce between two entities. However, the application of MFN clauses in an operational level contract causes some complications from a practical standpoint. Most key, these clauses may not practically be enforceable.

First, and most obvious, a supplier has no incentive to share with the MFN buyer that it has offered a lower price to another buyer. In certain circumstances, the pricing information may be publicly available, but that will generally not be the case. Second, there is a question of the MFN buyer’s ability to audit the supplier’s books. If the buyer has no audit rights (meaning it cannot check the supplier’s books) to verify that their price has remained the lowest on the market, the buyer must merely take the supplier at its word (thus, going back to the first point of trust). However, even if the buyer does have audit rights, most supplier contracts include confidentiality sections which prohibit the parties from sharing that contract information, including price, with any other entity. Thus, the supplier may not, by contract, be able to share that specific document or information with the MFN buyer. Again, the buyer is left with taking the supplier at their word. Finally, for general operational contracts, the supplier’s managers may not remember that they need to share this information with the buyer. It puts ongoing monitoring obligations on the parties that may be difficult to fulfill.

MFN clauses in supplier agreements may provide a foundation for a good faith working relationship, and in situations where the market pricing information is public knowledge, they may be a good tool for developing an ongoing supplier/buyer relationship. However, it is hard to recommend the use of an MFN clause where the market prices are not readily available. Further, in many cases the inclusion of an MFN clause will complicate contract negotiations when, in reality, the enforcement of these clauses by an MFN buyer may be extremely difficult.

One Response to Most Favored Nations – Part II

  1. Hi, Can anyone tell me whether there is any application that combines MFN and auction (reverse auction) in procurement? Thanks.

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