What Is a Tolling Agreement?

Malcolm Tatum
Malcolm Tatum
Malcolm Tatum
Malcolm Tatum
Tolling agreements are common in the energy industry, where drilling companies often extract oil for other businesses to refine.
Tolling agreements are common in the energy industry, where drilling companies often extract oil for other businesses to refine.

A tolling agreement is a contract between one company that owns raw materials and another that is engaged to process those materials, according to the specifications of the owner. In some cases, the owner may retain control of the products that are created as a result of the processing, but in other instances, the owner sells the materials to the processor, also known as a toller, using pricing that is defined in the terms and conditions of the agreement. With both situations, the working relationship is usually designed to enhance the financial position of everyone concerned.

Furniture makers often form tolling agreements with craftsmen or workshops to help with detailing work.
Furniture makers often form tolling agreements with craftsmen or workshops to help with detailing work.

The concept of the tolling agreement is often used in situations where companies choose to outsource some aspect of the manufacturing process to a partner. For example, a company that produces carpeting and upholstery may choose to establish an agreement with another company that owns machinery and plant facilities where the raw stock can be refined and woven. The owner of the raw stock pays the partner for processing the stock, retains control of the goods produced with the stock, and ultimately sells the finished products to customers. This arrangement allows the business to produce quality goods while incurring less overhead expenses, making it possible to compete with larger manufacturers in the marketplace and increase profit margins.

Another example has to do with situations in which a company agrees to supply a partner with raw material on an ongoing basis. The partner receives the raw material and pays the original owner for all goods received. The new owner is then free to process the raw stock as he or she sees fit, producing goods that can be sold on the open market. This model is often employed in the oil industry, where a drilling company agrees to sell crude oil to a refinery on an ongoing basis. The drilling company benefits from having a steady customer for the crude oil it drills, while the refinery is ensured a steady supply of materials to make into different types of petroleum products.

In order for a tolling agreement to provide maximum benefits for both parties, the terms and conditions within it must address several important aspects of the business relationship. These include such important matters as the price for the goods or services rendered, how shipping costs will be handled, the duration of the agreement, and clauses that allow either party to terminate the agreement early under a limited scope of circumstances. As is true with many types of contracts, this agreement is likely to include provisions for automatically rolling the contract over into another duration, if one or both parties do not notify the other of their intention to not renew the agreement within a specified period of time before the contract is set to expire.

Do You Need a Lawyer To Sign a Tolling Agreement?

While you do not need to have an attorney review a tolling agreement before signing it, you should. Every professional or business arrangement should be reviewed by an attorney, especially when involving contracts.

Tolling arrangements are relatively standard in manufacturing. Still, when a part of company operations is outsourced, such as the processing of raw materials, it inevitably affects production and potentially liability practices.

Outsourcing any part of production is often necessary. A company might not have the infrastructure in place to handle specific aspects of manufacturing. However, a company must investigate the possible repercussions of the location and labor practices of the partner.

Every country has its own labor practices, business ethics, and liability laws. When signing a tolling agreement, both parties must ensure the laws of their respective territories are followed. Unfortunately, sometimes the language in tolling agreements is vague, whether intentionally or not.

Sometimes, vague language is a tool to protect one party from the other. Other times, the language is not intentionally unclear; the document might be created from a template and not written with specific needs or outcomes in mind.

Hiring an attorney protects against potential vagaries in the language. An attorney’s job is to protect their client and look out for their interests. Therefore, each party should hire a lawyer to review the agreement before signing. Additionally, each party should work with a local attorney to avoid any legal trouble in their home country.

Remember, when partnering with or outsourcing to a foreign business, a domestic business needs to ensure domestic and foreign laws are obeyed. Too often, companies do not realize the practices of foreign partners and find themselves in legal or cultural trouble.

Can Tolling Agreements Help You Avoid Litigation Costs?

While a tolling arrangement will lay out the terms for a business partnership, the agreement will also specify litigation procedures and practices. More often than not, a contract will specify methods for resolving conflicts outside of courts, such as arbitration or mediation.

Because a tolling agreement is a contract, sometimes the language creates confusion. While each party might have agreed on the terms initially, before the institution of the partnership, after the contract is signed, terms become more evident. Each party enacts the contract as they understood it, which can lead to disagreements.

Lawsuits are expensive. Most businesses cannot afford the distraction of a lengthy courtroom battle. Additionally, plaintiffs likely want to avoid upfront court costs, and defendants want to avoid the risks of paying later, pending an unfavorable judgment.

Arbitration, less expensive than court, involves a neutral third party who will make a final and legally binding decision regarding the dispute. While giving a third-party decision power is intimidating, the arbitrator must follow the law or risk their decision being overturned by a judge.

Mediation is less expensive than arbitration. The decisions made during mediation are not legally binding, so there is minimal risk. The success of mediation depends on the willingness of both parties.

Since either arbitration or mediation can be written into tolling agreements, the arrangement can save money by avoiding litigation. However, arbitration has its risks, and mediation offers no guarantees. The best way to protect a company’s interest is to ensure the initial agreement is iron-clad and mutually beneficial to each party, and the best way to do that is to bring in attorneys.

Are There Drawbacks To Using a Tolling Agreement?

While a tolling arrangement in manufacturing can be beneficial, it also presents disadvantages, primarily delays or production interruptions. When two companies are working together, one supplying raw materials and the other fabricating the product, there can be delays and disruptions in the production chain.

The fabricator can produce at predictable intervals as long as it has the necessary materials. Unfortunately, it is challenging to maintain uninterrupted supplies of raw goods and materials at all times. When raw materials are not available, the fabricator cannot produce finished goods, meaning delayed back-end logistics.

However, despite the potential drawbacks, toll manufacturing does have many advantages. Some of these advantages include:

  • Control over vendors
  • Delegation of sub-processes
  • Focus on production
  • Protection from rising costs of raw materials

Each company maintains a lot of control over its financial position. The source company controls the quality and pricing of raw materials through preferential vendor selection. The manufacturing company needn’t worry about the cost of raw materials, meaning its profits can remain unaffected in times of inflation.

A tolling agreement can be a mutually beneficial arrangement in manufacturing or production, but both parties need to understand their responsibilities. Hiring an attorney is the best way to protect the interests of both companies.

Malcolm Tatum
Malcolm Tatum

After many years in the teleconferencing industry, Michael decided to embrace his passion for trivia, research, and writing by becoming a full-time freelance writer. Since then, he has contributed articles to a variety of print and online publications, including SmartCapitalMind, and his work has also appeared in poetry collections, devotional anthologies, and several newspapers. Malcolm’s other interests include collecting vinyl records, minor league baseball, and cycling.

Malcolm Tatum
Malcolm Tatum

After many years in the teleconferencing industry, Michael decided to embrace his passion for trivia, research, and writing by becoming a full-time freelance writer. Since then, he has contributed articles to a variety of print and online publications, including SmartCapitalMind, and his work has also appeared in poetry collections, devotional anthologies, and several newspapers. Malcolm’s other interests include collecting vinyl records, minor league baseball, and cycling.

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    • Tolling agreements are common in the energy industry, where drilling companies often extract oil for other businesses to refine.
      By: Ded Pixto
      Tolling agreements are common in the energy industry, where drilling companies often extract oil for other businesses to refine.
    • Furniture makers often form tolling agreements with craftsmen or workshops to help with detailing work.
      By: auremar
      Furniture makers often form tolling agreements with craftsmen or workshops to help with detailing work.