This article has been written by Alefiya Giletwala, pursuing the Diploma in Law Firm Practice: Research, Drafting, Briefing and Client Management from LawSikho. This article has been edited by Kritika Sharma (Associate, Lawsikho) and Smriti Katiyar (Associate, Lawsikho).
Table of Contents
Introduction
An off-take agreement is characteristically a binding contract between a manufacturer and a buyer formalising the intention of the buyer to purchase a certain amount of the manufacturer’s future output. In simpler terms, an off-take agreement is an arrangement between an entity that produces a particular resource and another entity, an off-taker, who wishes to buy that resource. It establishes a contractual framework for a long-term business arrangement between the project company and an off-taker to purchase and sell all or substantially all of the project output.
Offtake agreements are most frequently used in businesses that require a lot of capital financing, for example, natural resource development where the cost of extracting resources is significantly high. It assures the potential investors that there is a market for the proposed project and scope for profit. Offtake agreements are most critical in acquiring project financing for future construction, product development, expansion, new ventures, or new equipment since it guarantees future income under the contract, validating the cash flow forecasts that form the basis for loan repayment. Hence, it makes many projects bankable.
For instance, if a company is working on producing frozen food, but is looking for financing to develop this new project, it could sign an offtake agreement with a store that sells frozen food or is looking to sell frozen food which the company will produce. Under the terms and conditions of this contract, the store agrees to buy all the future production of frozen food that the company intends to produce during the next two years. This arrangement helps the producer assure the investors and lenders that there is a market for its product before it can even begin production and helps ensure that there will be a minimum return on its goods. The buyer also benefits and can continue functioning as normal because it knows that it has secured supply of the product at a fixed or contractually adjusted price for a specified term along with the mode of delivery at a particular date and quantity.
Offtake agreements are thus very important as they provide a hedge against future increases in price, allow guaranteed supply with a guaranteed price, they also protect against market shortages because the delivery is guaranteed, most importantly, a substantial part of the future production is sold for many years into the future.
Essential clauses in an offtake agreement
Purchase and sale clause
One of the essential clauses in any offtake agreement is the purchase and sale clause. It includes the kind of product offered to be sold by the producer, specifications of the product as given by the off-taker, its volume, delivery points, warranties, if any, the time when it will be available to the purchaser.
Pricing/invoices/payment terms
It specifies the price of the product, the model, and procedure of payment, particulars regarding the invoices among other things.
Term and termination clause
This clause states the duration/validity of the agreement. It also includes details regarding its termination, most offtake agreements under their termination clause contain a force majeure clause. Force majeure means an unforeseeable circumstance that makes fulfilling a contract impossible. The force majeure clause protects the parties from natural, catastrophic harm; allowing either party to modify or cancel the offtake agreement if something happens that puts undue hardship on either party which is beyond anyone’s control.
Obligations and rights
Obligations and rights of the parties like IP rights, title, and risk of loss, inspection and measurement, indemnity clause, remedies in case of a breach, confidentiality clause to protect trade secrets among other things.
Dispute resolution methods and governing laws
While offtake agreements have many benefits for both the producer and the off-taker, there are also certain risks. The parties to the agreement can back out, although doing so requires negotiations and often the payment of a fee. The manufacturers also face a risk of not having their contracts renewed or amended once they are in production.
As per the Indian Stamp Act, 1899, on all agreements involving the transfer of interest, stamp duty must be paid as a measure to record and keep track of all the transactions. When offtake agreements are executed, payment of stamp duty makes them valid in a court of law as a piece of evidence in the event of disputes.
Conclusion
Offtake agreements are agreements to buy or sell, in advance, future goods. An off-taker agrees to purchase all or substantially all of the project output. This helps the manufacturer in securing finance, provides a guaranteed market, and ensures income. An off-taker also benefits through this agreement as this agreement acts as a hedge against a future increase in price, providing a fixed supply of goods for a specified time at a fixed or contractually adjusted price. Thus, this kind of agreement is usually negotiated far in advance, often prior to the construction of manufacturing facilities and before production has begun.
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