A service contract is a contract between a BCO and VOCC where both parties agree to ship a specified volume of cargo at a specified and mutually agreed freight rate over a fixed period of time at a defined level of service.
This commitment from the BCO to ship the specified and mutually agreed volume is known as a Minimum Quantity Commitment (MQC).
The Minimum Quantity Commitment generally forms the basis for determining the freight rate and providing carriers with the necessary information to reserve cargo space over the contractual period.
Due to the unpredictability of the business, more often than not, the BCO may be unable to predict the volume that they can commit to. However, a tolerance level may be set based on the mutual discussions between the carrier and the BCO.
A service contract is a legally enforceable agreement between the parties concerned with mutual obligations and specific terms. The MQC is the most important part of this contract and it is imperative that both parties adhere to the agreement.
The service contract may have many conditions attached to this MQC. The service contract may require this MQC to be evenly distributed throughout the contractual period, meaning that the BCO may not insist on as much space as they want on a particular vessel based on this MQC and contract.
The rates and MQC are specific to a contract, and a BCO cannot use this MQC or contract to claim any concessions on any other contractual arrangements with the same VOCC.
From the BCO side, they must provide the agreed MQC volume to the VOCC. From the VOCC’s side, they must provide the required space and service for the agreed MQC.
If the BCO fails to provide the minimum quantity committed, the space that has been set aside by the carrier for the BCO may go unutilized and as per the service contract, the carrier may be eligible to claim for compensation of these unused slots.
On the other hand, if the VOCC fails to provide the space required for the BCO to ship their cargo, the BCO might incur extra costs and expenses by way of higher freight with other carriers and as per the contract, the BCO may be eligible to claim against the carrier for this.
But a service contract based on an MQC may not be the best solution for all parties. In a few cases, BCOs may be the main beneficiaries of such agreements.
When spot rates in the market go up, the BCO may be able to ship at lower contracted rates based on the agreement with the carrier which also guarantees space on the ship for the BCO.
On the other side, when spot rates go down, shippers may use the lower spot rates because, well, truth to be told, carriers might not seek legal recourse because of their dependence on these volume customers.
According to industry sources, carriers have never been able to claim charges from a BCO for failing to fulfill a minimum quantity commitment because of the competitive nature of this business.
Whether in the future these penalties may be enforceable in one way or the other, remains to be seen.