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What if there’s no NAFTA?

Industry Spotlight
|Written By Peter Kenter
What if there’s no NAFTA?

In-house counsel for manufacturing companies hoping for the best but preparing for the worst.

The North American Free Trade Agreement has governed trade between Canada, the United States and Mexico since 1994. Negotiators from all three countries are working to iron out their differences under an end-of-March deadline and a threat from U.S. President Donald Trump of “probably terminating NAFTA at some point” if an agreement can’t be reached.

Among its objectives, the U.S. wants to eliminate the bi-national chapter 19 mechanism to resolve trade disputes, limit opportunities for NAFTA partners to bid on U.S. government contracts and to negotiate stricter rules of origin for tariff-free treatment of goods.

Is the possibility of blowing up the trade deal a serious threat to Canadian manufacturing companies or is Trump’s bluster just a negotiating ploy?

“It’s not even clear that a notice of termination of NAFTA by the U.S. administration would result in the termination of NAFTA,” says Riyaz Dattu, partner, international trade and investment law at Osler Hoskin & Harcourt LLP. “It’s likely that U.S. law would still have to be complied with to repeal NAFTA.”

However, Canadian manufacturing businesses are being prudent in asking in-house counsel to present them with worst-case scenarios and to suggest alternate supply and trade options, should the long-standing deal fall through.

Canadian lawyers specializing in international trade say that interest in NAFTA has been ramping up as the negotiation deadline approaches. They’ve not only been briefing in-house counsel but making presentations to senior managers and preparing reports on the subject to boards of directors.

That’s no surprise. Many manufacturing companies have known only a trade environment under NAFTA and they’re now questioning their most basic assumptions about trade. Their concerns focus primarily on goods travelling between the U.S. and Canada — even if the U.S. withdraws entirely from NAFTA, the free trade pact between Mexico and Canada still stands.

“We’ve certainly heard from clients who are contemplating the effects of a NAFTA withdrawal, and they’re looking to us for advice on how to negotiate a different trade landscape,” says Greg Kanargelidis, partner at Blake Cassels & Graydon LLP in Toronto and the practice group leader of its international trade group. “The first thing they’re doing is calculating the benefits they’re receiving under NAFTA that would go away. Are they sending goods from Canada to the U.S. on a preferential basis? Are the goods coming from the U.S. to Canada or is it both ways? For example, automobiles that don’t qualify for NAFTA and imported into Canada are dutiable at 6.1 per cent, but a vehicle imported into the U.S. is dutiable at 2.5 per cent. They need to know if the increased duty would represent a business barrier for them.”

If the U.S. withdraws from NAFTA entirely, tariffs wouldn’t appear out of thin air. Canada and the U.S. would continue to offer each other the reciprocal benefits of “most favoured nation” status as members of the World Trade Organization. Under that arrangement, many goods would continue to cross the border without imposition of duty.

“However, if NAFTA no longer applies, these companies are already looking for alternate sources of raw materials that they import into Canada or other places where they might manufacture goods, rather than the U.S., to get a duty preference,” says Kanargelidis. “Many are looking for other free trade partners and the Canada-European Union Comprehensive Economic and Trade Agreement, which entered into force on a provisional basis on Sept. 21, 2017, is a good example.”

Canadians may also benefit from a revamped Trans-Pacific Partnership trade deal, where 11 member countries continue to negotiate following the withdrawal of the U.S.

A thorough review of bi-lateral and more comprehensive trade treaties may be necessary to determine the best way to move products without attracting duties. But altering the supply chain may also lead to unforeseen outcomes unless legal and supply chain experts work together to identify risks and opportunities inherent in those decisions.

“It’s not all about duty,” says Brenda Swick, partner at Dickinson Wright LLP in Toronto, with a practice that encompasses international trade and includes WTO/NAFTA dispute settlement. “There may be certification or inspection report requirements. If you’re an exporting company and you want to diversify your markets, you’ll also need to look at export reporting requirements from Canada and issues around reporting when you import to foreign jurisdictions.”

Companies selling to the U.S. market are also contemplating the cost of moving some production across the border or acquiring a U.S. company to manufacture their goods.

Other manufacturing companies may find themselves doing extra work to move products across the border.

“If a U.S. customer for your product is suddenly paying duty, they’ll come to you for help to see if the product might still be exempted,” says Swick. “Your supply or sales contracts should be clear on who is responsible for payment of duties and any other costs related to trade if NAFTA goes away.”

Even overland transportation between Canada and Mexico could be more problematic if border inspections become more vigorous. Some Canadian companies are already investigating the relative costs of alternate air and sea routes.

However, even if an altered NAFTA or a reversion to WTO tariffs sees the U.S. imposing increased duties on Canadian imports, Canada doesn’t have to even up the score by imposing countervailing duties.

“Canada is legally entitled to impose duties of its own on imports, even if it’s simply to generate revenue, but they’re not obliged to,” says Swick. “In certain sectors, you have to be aware of remission opportunities under the Financial Administration Act for the minister to provide remission of duties over a period of time as your company adjusts to the duty impact. That’s an issue that every manufacturer will want to look at.”

Companies can also make submissions to the federal government to reduce tariffs. For example, if a product isn’t made in Canada, there’s no good reason to levy an import duty on that product because it isn’t protecting a Canadian producer.

Some companies are also exploring litigation against the federal government should NAFTA be derailed.

“You can imagine the arguments that will be made if companies relied on a free trade agreement that the government encouraged them to support and then implemented,” says Swick.

“Now, to their detriment, that agreement has gone away,” she adds. “In-house counsel really has to understand the cost ramifications on their imports and whether they should be seeking alternative remedies with the government of Canada to get some of those increased costs back, depending on the magnitude of their exposure. It would be prudent to look at litigation options as part of due diligence.”

Swick also suggests that Canadian in-house counsel could increase their value to the companies they represent by familiarizing themselves with the framework for WTO dispute resolution.

“If your company is losing sales due to unfair competition in another market, you need a strategy to go to the government of Canada and have them raise that issue under the WTO — or if that issue isn’t resolved have them go to dispute settlement,” she says. “It’s kind of an arcane area of the law that could become more relevant in a more protectionist trade environment.”

In-house counsel should also be aware of “safeguard” claims in the event that they’re suffering under a trade agreement.

“It doesn’t have to be a subsidy claim or a dumping claim,” says Swick. “Your company may suddenly be inundated with products from Asia or Europe under a free trade agreement. To make a safeguard inquiry, you only have to show that the sudden increase in product is causing your company serious injury, and then have a duty placed on it.”

In-house counsel also has an opportunity to become more proactive in helping to shape trade negotiations.

“The Canadian government often has a hard time obtaining views or engaging in proper consultation with companies regarding trade issues,” says Dattu. “They’re often pushed down to speak with middle management who are not the decision-makers. In the U.S., we see companies taking a far more active hand in lobbying and taking positions to help shape trade policies. There are far greater opportunities for in-house counsel in Canada to affect trade policy.”

However, in-house counsel are often better versed in corporate and securities law, he says. Their expertise in international trade is often relegated to the reactive instead of the proactive.

“Canadian manufacturing companies will increasingly have to rely on export markets to be successful,” says Dattu. “However, we’re seeing more younger lawyers graduating with expertise in international trade and international law and it appears they’re keen to work in this area.”

He notes that the odds of a renegotiated NAFTA have increased substantially through the most recent rounds of renegotiations.

However, “prudent business planning suggests that Canadian manufacturing companies and their in-house counsel should continue to assess the potential implications of a notice to terminate NAFTA.”