Advance Notice of Proposed Legislations to Support Upcoming Enactment of the New Variable Subcontract Price System

In anticipation of the introduction of a new variable subcontract price system (also referred to as the “variable supply price system”) effective from October 4, 2023, the Korea Fair Trade Commission (“KFTC”) issued on July 26, 2023 an advance notice on a proposed amendment to the Enforcement Decree of the Fair Subcontracting Transactions Act (“FSTA”) that aims to address the uncertainty on how the new system will be operated. The new system, among others, would require the adoption of arrangements within a subcontract agreement that automatically adjusts the subcontract price in response to significant changes in the cost of key raw materials during the contract term.

Along with the amendment to the FSTA that will introduce the new system (our previous newsletter on the National Assembly passing the FSTA amendment bill can be read here, Link), a separate amendment introducing a similar system for SMEs under the Act on Promotion of Mutual Growth and Cooperation between Large Enterprises and SMEs will also take effect on the same day.

Key details of the proposed amendment to the Enforcement Decree of the FSTA are as follows.

Amendment	Details
Update list of information that must be specified in a written subcontract agreement	Add to the list of information that must be specified in a written subcontract agreement matters relating to the new system, (e.g., names of products subject to variable subcontract price arrangements, key raw materials, conditions for price adjustment, indices for key raw material prices, formulas for adjusting the subcontract price, points in time for calculating the rate of change in raw material prices, date of adjustment, term of adjustment and the date for applying the adjusted subcontract price). (Article 3 (1) 7 of the proposed amendment)
Allow discretionary application of criteria for exempting contractors from their duties relating to the new system	Allow discretionary application by the KFTC of the criteria for exempting contractors from the requirement to incorporate variable subcontract price arrangements in their subcontract agreements (i.e., when the contract term is shorter than 90 days or the subcontract price is less than KRW 100 million) based on the characteristics of the specific transaction. (Articles 3 (2) and 3 (3) of the proposed amendment)
Specify matters on selecting and rewarding outstanding companies relating to the new system	Allow the KFTC to annually select outstanding companies regarding the new system based on criteria announced at the beginning of each year, and reward such companies by giving additional points in implementing various subcontract policies, and by working with other government agencies to establish an administrative and financial support policy for such companies. (Article 6-6 of the proposed amendment)
Specify criteria and process for designating Support Headquarters for the new system	Specify matters relating to the designation of the Support Headquarters for the new system, including the designation method, designation criteria, requirement to submit an application form and performance results, and specific standards for suspending or cancelling such designation. (Article 6-8 and Attached Table 6 of the proposed amendment)
Specify criteria for imposing penalty points relating to the new system	Require the KFTC to impose 5.1 penalty points* on contractors that force subcontractors to agree not to adopt the new system, 3.1 points for other related major violations, and between 0.25 and 2 points for minor violations (e.g., failure to include certain required information in a written subcontract agreement, violation of the duty to consult with subcontractors in good faith, and failure to specify the intent or reasons for agreeing not to adopt the new system) based on the current system of imposing penalty points. (Attached Table 3 of the proposed amendment) * As a company that accrues over 5 penalty points over a three-year span is restricted from participating in public procurement bids, a contractor that is found, even for the first time, to have forced a subcontractor to agree not to adopt the new system could be prohibited from participating in public procurement bids.
Specify criteria for imposing an administrative fine relating to the new system	Require the KFTC to impose a fine of KRW 10 million for failure to specify matters relating to the new system in a written subcontract agreement, and for major violations a fine of KRW 30 million for the first violation, KRW 40 million for the second violation, and KRW 50 million for the third violation; and allow the KFTC to reduce a fine by up to 50% for first-time violators that are designated as outstanding companies in implementing the new system within three years since the fine is imposed. (Attached Table 5 of the proposed amendment)

Further, on August 22, the KFTC issued an advance notice on the proposed enactment a new set of Guidelines on the Process for Designating Support Headquarters for Expanding Use of the Variable Subcontract Price System that specifies matters relating to such Support Headquarters, which will be in charge of various support projects, including those relating to the promotion of the new system, discovering exemplary cases, performance analysis, support for analyzing production costs and developing indices for raw material prices. According to the proposed guidelines, an entity that hopes to receive such designation should submit an application to the KFTC along with documents proving that it meets the relevant criteria for carrying out a Support Headquarter’s duties (e.g., in terms of organization, workforce, and facilities) and a project performance plan, based on which the KFTC will decide whether or not to make the designation. The proposed guidelines also specify that the KFTC may suspend or cancel a designation if Support Headquarters fail to carry out a delegated project for a certain period of time or fail to meet the designation criteria.

As the new system is set to take effect on October 4, the KFTC will soon publish a related guidebook for companies, updated model subcontract agreements for each industry, and agreement forms for exceptional cases where companies may choose not to adopt the new system, and hold information sessions to educate companies. Also, as Support Headquarters are expected to play an important role going forward regarding the day-to-day operations of the new system, it will be necessary to monitor developments at government agencies, such as the Korea Fair Trade Mediation Agency, which will likely be designated as a Support Headquarter.

[Korean Version]

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