Valuers’ negligence: no claim for more than lender loses

Not often do you find a Supreme Court decision in only 15 paragraphs that is clear, sensible and palpably right. Today we got just that in the valuers’ negligence decision of Tiuta International Ltd (in liquidation) v De Villiers Surveyors Ltd [2017] UKSC 77. Although a land case, this is of equal, and large, significance to ship and other finance.

In 2011 Tiuta lent £2.475 million for a bijou Home Counties development against a valuation by De Villiers of £2.3 million undeveloped / £4.5 million complete, of which no complaint was made. After some months the developers ran into difficulties. In 2012 Tiuta made a new loan of £3.088 million against the same development, of which £2.799 million went to discharge the old loan plus accrued interest, and the balance of £289,000 was new money. This latter advance was made against a new valuation by De Villiers in the sum of £3.5 million undeveloped / £4.9 million complete. Shortly after all this, the developers went bust and Tiuta lost big money.

Tiuta sued De Villiers for their loss, alleging negligence in the second valuation. De Villiers riposted that they could not possibly be answerable for more than £289,000, since even if they had not been negligent Tiuta would still have been exposed to the original, largely irrecoverable, balance of £2.799 million. To everyone’s surprise, a majority in the Court of Appeal disagreed. The 2011 loan had been paid off and was now out of the reckoning: the 2012 loan in the figure of £3.088 million counted as an entirely new advance made against the suspect valuation, and on principle any loss on it was recoverable. McCombe LJ, the dissentient, was left gasping and stretching his eyes (remember Hilaire Belloc’s Matilda?) at the idea that new money injection of a mere £289,000 could give Tiuta, free gratis and for nothing, a claim of up to £3 million that had not been there before.

The Supreme Court swiftly restored orthodoxy. Whether the lenders provided new money of £289,000 and left the existing loan of £2.799 million untouched, or provided a new loan of £3 million-plus which was partly used to pay off the original loan, the result was the same: the only net increase in exposure was £289,000 and that was all that was recoverable. Nor could Tiuta get home by saying that the repayment of the original loan was somehow a collateral benefit to Tiuta: as Lord Sumption observed with merciless logic, it was in fact neither collateral nor a benefit.

Advantage PI insurers, to be sure. On the other hand, this still leaves some questions unanswered. If the first lender had been someone other than Tiuta, the result would presumably have been different. Does this mean that if a lender wants to avoid the result in Tiuta, all it has to do is to make sure that when it lends several times to the same project, each loan is made by a separate subsidiary special purpose vehicle (quite easy to arrange)? One suspects lawyers are already busy dealing with questions like this and advising accordingly.

Good news for English judgment creditors — oh, and the beneficiary of a credit is who the credit says it is.

In Taurus Petroleum Ltd v State Oil Marketing Company of the Ministry of Oil, Republic of Iraq [2017] UKSC 64 Shell bought two parcels of Iraqi oil in 2013 from the state Iraqi oil company SOMO. Its bank, Credit Agricole in London, issued letters of credit governed by English law naming SOMO as beneficiary, but containing a clause as follows (essentially to comply with the Iraqi sanctions regime):

“[A] Provided all terms and conditions of this letter of credit are complied with, proceeds of this letter of credit will be irrevocably paid in to your account with Federal Reserve Bank New York, with reference to ‘Iraq Oil Proceeds Account’.These instructions will be followed irrespective of any conflicting instructions contained in the seller’s commercial invoice or any transmitted letter.
[B] We hereby engage with the beneficiary and Central Bank of Iraq that documents drawn under and in compliance with the terms of this credit will be duly honoured upon
presentation as specified to credit CBI A/c with Federal Reserve Bank New York.”
Taurus subsequently got an arbitration award against SOMO of something like $9 million, which it wanted to enforce against the benefit of the letter of credit under a TPDO (garnishee in old-fashioned English). Three questions: (1) who was the creditor under the LCs,  SOMO or the Central Bank? (2) where was the debt situated? (3) should a receiver be appointed?
On the situation of the debt, the whole court agreed, reversing the CA, that it was London, where the debtor, the London branch of Credit Agricole, was situated. It followed that the English court had jurisdiction to make a TPDO. There was no reason to treat a LC debt as any different from any other debt: Power Curber International Ltd v National Bank of Kuwait S.A.K. [1981] 1 W.L.R. 1233, regarding such debts as situated in the place of payment, was wrong.
All their Lordships felt that a receivership order was appropriate.
On the identity of the creditor, the decision was by a majority. The majority said, reversing the CA, that it was SOMO. They were named as beneficiaries. The agreement to pay the Oil Proceeds Account in New York made no difference in this respect: it was merely a collateral agreement. (Presumably Taurus had some arrangement with the Central Bank to collect from them: we are not told).
On balance, a good decision for creditors chasing funds through TPDOs. Its effect is essentially that any LC issued by a London bank, even a branch of a foreign institution, now seems fair game, even if payable in Mannhein, Manila or Madagascar. Forget Brexit: London is likely to remain the place to be.

The difficult we do immediately. The impossible, at least offshore, takes a little longer.

It can be disconcerting to find, towards the beginning of the report of a decision in the Supreme Court, something like this:

image

Don’t despair. The point at issue in the August 3 case of MT Hojgaard AS v EON Climate and Renewables UK Robin Rigg East Ltd [2017] UKSC 59  was actually quite straightforward.

Problems appeared in a wind-farm off the Cumbrian coast, which were traceable to weaknesses in the foundations. The owners, E-ON, sued the constructor, Hojgaard, for breach of contract. In particular they relied on a warranty that the structure had been built to last for 20 years. There was some doubt over the meaning of the warranty (did it mean the thing would last 20 years, as the parties thought, or that its design was such that it ought to do so, as Lord Neuberger opined?); but the point didn’t matter, since here the collapse took place only a very short time after the whole caboodle had been built in the first place.

The claim thus looked straightforward, but here a difficulty arose. Like all major construction projects, the constructor had to observe detailed specifications. In this case the specification was named J101 (a technical specification prepared by acknowledged experts DNV — don’t ask further), which not only embodied the fearsome formula above, but which turned out to have a major defect in it. And the problems were due to this defect. Hojgaard argued that E-ON could hardly complain where Hojgaard had merely followed instructions: E-ON riposted that that was all very well, but a warranty was a warranty, and this one had been broken.

The Supreme Court confirmed what construction lawyers had always assumed was the case (see decisions such as Cammell Laird v Manganese Bronze [1934] AC 402 and Steel Co of Canada v Willand Management [1966] SCR 746): namely, that the warranty continued to apply even though in a sense inconsistent with the specification and thus impossible to satisfy. And, in the view of us at Maricom, rightly so. If a sophisticated business chooses to promise that something will happen come hell or high water, the fact that it turns out to have promised the impossible should not let it off the hook: that’s what warranties are all about.

The case is not of earth-shattering significance. DNV smartly changed its specifications in late 2009, so the particular issue here won’t affect wind-farm contracts signed after that date. As for the future, lawyers for constructors would do well to advise them to change their wording, making it clear that in so far as customers order structures to a particular specification, any warranties are qualified so as to prevent those customers both eating their cake and having it. If lawyers don’t do this, their PI insurers can expect some embarrassed phone calls; if construction companies don’t follow any such advice then that’s their look-out. But the decision in the Hojgaard case could still have some ramifications in respect of some older structures; to that extent at least it’s worth filing away a note.

Primacy of Language in the Construction of (Commercial) Contracts in Recent Cases

SIMON RAINEY QC

Gard Shipping v Clearlake Shipping [2017] EWHC 1091 (Comm) Sir Jeremy Cooke 12 May 2017

Persimmon v Ove Arup [2017] EWCA Civ 373 Court of Appeal (Jackson, Beatson, Moylan LJJ) 25 May 2017

In this update, attention is drawn to two recent cases addressing the correct approach to the construction of contracts.

The Gard Shipping case is of interest, as it is the first application in a first instance decision, of the recent Supreme Court decision in Wood v Capita Services, which rejected the suggestion that there was any tension between the Supreme Court’s earlier decisions in Rainy Sky v Kookmin Bank and Arnold v Britton.  It also considers the application of the Supreme Court decision on the implication of terms in Marks & Spencer v BNP Paribas.

The decision in Persimmon is striking, not so much for what it decides, as to the doubt it casts on the continuing relevance in commercial contracts, of the principle of contra proferentem and the rule in relation to exemption clauses flowing from the Canada Steamship case.

Gard Shipping v Clearlake
The Supreme Court decision Rainy Sky in 2011 opened the floodgates: no case on construction could be argued without it being asserted or, indeed, “trumpeted” (per Eder J in Aston Hill Financial) by each side that its interpretation made more commercial sense.

This development was not embraced with enthusiasm by most first instance judges. How could advocates or judges discern what, objectively, made commercial sense in myriad different circumstances?  And even if they could, construing a contract in accordance with objective commercial sense risked rewriting the bargain actually struck by the parties.

Such doubts seemed to be reflected in the subsequent Supreme Court judgment in Arnold v Britton in June 2015.  This was widely seen as being a “rowing back” from the free-for-all of Rainy Sky.  Although there was no criticism of Rainy Sky per se, the Supreme Court emphasized the importance of the language of the provision which was to be construed.  Commercial common sense was not to be invoked to undervalue the importance of the language.

Then, in March of 2017, came the Supreme Court decision in Wood v Capita Services. Giving the only judgment, Lord Hope emphatically rejected the submission that Arnold was a rowing back from or recalibration of Rainy Sky.  What the court has to do, in any case, is, in the unitary exercise of construction, balance the indications given by the language and the commercial implications of competing constructions.  The balancing exercise is key to the approach.

As to how that balance is to be struck, Lord Hodge identified 3 factors (which must be viewed as non-exhaustive): (1)  the quality of the drafting – the poorer the drafting the more the balance may tip away from a strict semantic reading;  (2) the court should bear in mind that one party may simply have made a bad bargain; and (3) the court should bear in mind that the drafting may be a negotiated compromise, with the parties unable to agree more precise terms.

Gard shows the first application of Wood in a first instance decision.

A voyage charterparty based on BPVOY4 contained standard laytime/ demurrage provisions. It also contained specifically agreed terms that the charterers had the liberty to order the vessel to stop and wait for orders.  If they exercised that liberty, waiting time was to count as laytime and demurrage was to be payable at enhanced and escalating rates.  The charterers did not give a “stop and wait” order.  Instead, after the vessel tendered a Notice of Readiness (NOR) at the discharge port, the charterers simply gave no discharge orders at all for over 2 months.

The owners argued that it was clear that the commercial purpose of the clause was to make the charterers pay at the enhanced rates, where they used the vessel as floating storage. They had used the vessel as floating storage at the discharge port.  It could make no commercial sense if the charterers could avoid the enhanced rate by the tactic of giving no orders, after NOR, rather than giving a “stop and wait” order.  Commercially the two amounted to the same thing, and should attract the same consequences.

Sir Jeremy Cooke had no hesitation in rejecting this argument. The wording of the specially agreed terms required a “stop and wait” order to trigger the enhanced rates.  There was no such order.  Therefore, the enhanced rates were not triggered.  The ordinary demurrage rate applied.  He also firmly rejected the owners’ alternative argument based on an implied term on the grounds of lack of commercial necessity.

This case, therefore, provides an early indication that in charterparties, which are indeed often a negotiated compromise, in carrying out Lord Hodge’s balancing exercise judges will give more weight to the words the parties have actually used, rather than arguments based on supposed commercial common sense. Notwithstanding Lord Hodge’s assertion that Arnold did not recalibrate Rainy Sky, the post-Arnold focus on the actual words of the contract is likely to be maintained.

Persimmon v Ove Arup
The correction of approach to the relevance and utility of the so-called “commercial” approach to construction of commercial contracts post Arnold v Britton and the current emphasis on the primacy of the language used by the parties as usually the best and surest guide to what they intended to achieve has found an echo in the rather different field of exemption clauses. The traditional approach that an exclusion or exemption clause is to be construed contra proferentem (once one has decided who the proferens is) in the event of any ambiguity has ruled the field for many years, although there have been many statements to the effect that it is not to be deployed where the words are themselves sufficiently clear. But the trend has increasingly been to give effect to exclusion clauses in commercial contracts without resort to maxims of hostile construction where the wording is subjected to some special linguistic threshold or a more demanding need for clarity.

An early indication of the new approach was given by Lord Neuberger MR in K/S Victoria Street v House of Fraser [2011] EWCA Civ 904, although was perhaps lost sight of. The position was reviewed more clearly and emphatically in the context of the mutual indemnities and exclusions in Transocean Drilling v Providence Resources (The Arctic III) [2016] EWCA Civ 372 where the Court of Appeal ruled that the principle had no role to play in the case of a mutual clause “especially where the parties are of equal bargaining power”, and stressed the parallels with Arnold v Britton. The Court distinguished the sort of mutual exclusion clause before it from what it described as “a typical exclusion clause, by which a commercially stronger party seeks to exclude or limit liability for its own breaches of contract.” The decision raised a number of questions in particular as to equality of bargaining power and the consistency of the Court’s approach in the light of a case decided by the Court of Appeal just shortly before (: Nobahar-Cookson v The Hut Group Ltd [2016] EWCA Civ 128) in which the contra proferentem approach appeared to receive restatement and approval. However the Court was clear that it was not intending to cast any doubt on the allied principle of construction that clear words were required to exclude liability for negligence and the ‘Rule’ in Canada Steamship.

The recent decision in Persimmon Homes v Ove Arup appears to continue the trend towards minimising the scope for a contra proferentem approach generally, and not just in the context of mutual exclusion or exemption clauses. The case raised issues of construction under a contract for consultancy and surveying services rendered by Ove Arup to Persimmon and other parties relating to a redevelopment project for the Barry Docks. Asbestos was found in more than expected quantities for which it was alleged that Ove Arup was responsible by negligently failing to detect and manage that risk. A number of issues arose as to the application of exclusion and limitation clauses. In particular a clause which read “Liability for any claim in relation to asbestos is excluded”.

The Court of Appeal re-endorsed in terms the approach in K/S Victoria Street to the effect that the language used should be and usually is enough to resolve the meaning without resort to “rules” of construction and the approach taken in The Arctic III.  But more importantly it went a step further and doubted the relevance and applicability of the Canada Steamship principles (by which a clause must either expressly refer to negligence or some synonym of it or, if it does not, must indicate that it covers negligence with general words being read as covering non-negligent liability if possible to do so and unless such liability is fanciful).

The Court stressed that it was necessary to distinguish between a simple exclusion of liability and an indemnity clause requiring a party to hold the other harmless from the consequences of that party’s negligence and that, at least in the former case, the Court’s “impression” was that Canada Steamship guidelines “in so far as they survive” are “now more relevant to indemnity clauses than to exemption clauses” and that in commercial contracts between sophisticated parties, such as a large construction contract, it should all turn on the language. The Court made it clear that the wording in question (referred to above) was clear enough to cover liability for negligence and that Canada Steamship was simply not of assistance. As belt and braces the Court then applied Canada Steamship and held that any liability other than liability for negligence was indeed fanciful.

The case represents a further cutting back of the application of technical canons of construction to exclusion clauses in the commercial context in favour of simply giving ordinary language its effect. It also states, perhaps more clearly than before, that the same approach applies generally and that Canada Steamship is not exempt from the process.

Although the Court was at pains to stress that the issues before it were not such as to merit a general review of Canada Steamship, its words will be likely to be cited generally as building on an Arnold v Britton approach, even to exclusion clauses: “Exemption clauses are part of the contractual apparatus for distributing risk. There is no need to approach such clauses with horror or with a mindset determined to cut them down.”

 

Coincidentally Collateral or Causally Connected? Dancing around Post-Breach Benefits.

The New Flamenco (Globalia Business Travel SAU v Fulton Shipping Inc) [2017] UKSC 43

 SIMON RAINEY Q.C.

A Short Question of Fact?

An owner of an elderly cruise ship lets her on time charter, extended by two years. The charterer redelivers in 2007 the vessel two years early, in repudiatory breach of the charter. The owner accepts the breach and terminates the charter. The time charter market for an old lady like the ‘New Flamenco’ is non-existent. The owner decides to sell the vessel rather than to continue to trade her. The arbitrator finds variously “it would not have been possible for the Owners to conclude an alternative substitute two year time charterparty. The need to sell the vessel was clearly caused by the breach” and “in this case it was clear that the necessity for the sale had been brought about by the refusal to perform the two year extension”.

When the owner sells the vessel he (perhaps surprisingly) finds a buyer for her willing to pay US$23.7 million. Had the charterer performed the charterparty, the vessel would have been worth much less at the end of the two years in 2009: had the owner wanted to sell her then, it would have received only in the region of US$ 7 million.

Should the owner have to give credit to the charterer for the difference in value (23.7 – 7) against its claim for damages for loss of profit over the two years (based on the difference between the charter rate and spot and other employment)?

The dance (a minuet, rather than a flamenco perhaps) then began. The arbitrator held that the owner did have to give credit, in the light of his findings of fact. Popplewell J held that it did not. A strong Court of Appeal was of the same view as the arbitrator. A strong Supreme Court this week unanimously rejected that view and restored Popplewell J’s approach, holding that to oblige the owner to give credit was wrong in principle and wrong on the facts as found by the arbitrator.

The short answer of the Supreme Court (expressed succinctly in six paragraphs) was that while the breach and early redelivery was the occasion or ‘trigger’ for the owner’s sale of the vessel, it was not the legal cause of the sale taking place nor could the sale sensibly be described as a step taken by the owner in mitigating the loss of charter earnings over the two years.

The decision is important in focussing on what needs to be shown in terms of legal causation in the breach and mitigation contexts, rather than pointing simply at acts which are factually connected. It is also noteworthy in the way it demonstrates the tension on a section 69 Arbitration Act 1996 appeal between “findings of fact” and findings, which while expressed as ones of fact, are on proper analysis ones of law.

The To-and-fro of the Decisions Below

At first instance, Popplewell J had distilled no fewer than eleven principles after an extensive review of the cases: see [2014] EWHC 1547 (Comm) at [64]. Of these perhaps the most important are the first four, which stressed that for a benefit to be taken into account, the critical test was one of legal causation linking the reception or creation of the benefit with the breach, so that the breach is the actual legal cause of the benefit being conferred. The Judge regarded mitigation as governed by the same principles. As his fifth to eighth principles, he therefore analysed how the requirement of legal causation applies to mitigation, pointing out “The fact that a mitigating step, by way of action or inaction, may be a reasonable and sensible business decision with a view to reducing the impact of the breach, does not of itself render it one which is sufficiently caused by the breach. A step taken by the innocent party which is a reasonable response to the breach and designed to reduce losses caused thereby may be triggered by a breach but not legally caused by the breach” (citing The Elena d’Amico [1980] 1 Ll. Rep 75.)

The Judge disposed of the case on the basis that the difference in value of the vessel between the date of the sale and the date of the expiry of the two years had nothing to do with the breach: it was simply caused by the drop in the market which would have occurred anyway. Similarly, the effect of fluctuating market values for the capital value of the vessel was only produced by a decision to sell the vessel, which decision the owner could take and could have taken at any time, irrespective of the breach. If the owner could not be criticised if it had decided not to sell the vessel but chose to sit tight for two years, on the basis of a failure to mitigate, how could the sale which it chose to make be treated as “mitigation” caused by the breach? If it could not, then the benefit was not a benefit accruing from mitigation but was entirely collateral.

The Court of Appeal (Longmore, Christopher Clarke, Sales LJJ) approached the matter from a different standpoint. Its starting point was that “It is notoriously difficult to lay down principles of law in the realm of mitigation of loss particularly when it is said that a benefit received by a claimant is to be brought into account as avoiding the loss. The judge is to be commended for having tried to do so but his use of the word “indicative” is itself indicative that hard and fast principles are difficult to enunciate. In appeals from an arbitrator’s award a court has to be particularly respectful of the boundaries between fact and law which the parties, by their choice of tribunal, have created.” [20]

Thereafter, the Court of Appeal based itself on the arbitrator’s decision of the factual connection between the owner’s decision to sell the vessel as being a sufficient legal connection: “Viscount Haldane’s formulation in British Westinghouse that the benefit must ‘arise from the consequences of the breach’ remains, in my view, entirely apposite. The issue of mitigation arises when the breach has had harmful consequences which the injured party has taken steps to ameliorate … the finding of fact made by the arbitrator was in effect that the benefit did arise from the consequences of the breach” (Christopher Clarke LJ at [47-48].

The Reasoning of the Supreme Court

In the Supreme Court, Lord Clarke (with whom Lords Neuberger, Mance, Sumption and Hodge agreed) preferred the reasoning of Popplewell J. While, perhaps unhelpfully, the Court did not comment expressly on the ‘eleven point’ guide set out by the Judge, the Court’s adoption of the reasoning and result arrived at by him is likely to mean that parties are likely to go back to them as a stepped approach to similar post-breach benefit problems.

The Court stressed, as had the Judge, that the question was simply one of legal causation: was the post-breach benefit in law to be regarded as having been caused by the breach or by mitigation of the loss caused by the breach? It rejected the argument that to be legally relevant the benefit had to be ‘of the same kind’ as the loss. This was too vague and arbitrary a test. Causation alone is key.

Lord Clarke dealt first with the argument that the difference in value (23.7 – 7) was to be treated as a benefit to the owner because it was “the benefit of having avoided a loss” by the owner selling the vessel in 2007 rather than on redelivery in 2009.

The obvious fallacy in this way of putting the argument might be thought to be that the owner did not need to sell the vessel at any time, including at the end of the charter term. It was simply a matter of the owner’s commercial decision-making as to how and when it ran its capital book.  As Lord Clarke explained, the owner could not have claimed from the charterer as damages for its breach if the vessel would have been worth more in 2009 than in 2007. Further, why take 2009 as the date of comparison simply because it represented the end of the charter period when the owner could have continued to trade? The owner might not have sold then. While a premature termination might lead an owner to sell earlier than it would otherwise have done, that had nothing to do with the charterer: it was “the disposal of an interest in the vessel which no part of the subject matter of the charterparty and had nothing to do with the owners” [32].

Lord Clarke dealt next with the mitigation argument based on the sale being an act taken by the owner to mitigate the loss of hire resulting from the breach.

Here, rather than analyse the matter as the Judge did, from the starting point that the owner could not be faulted for not mitigating if he had chosen not to sell the vessel, therefore any sale he chose to do was not ‘mitigation’ properly understood, Lord Clarke focussed on the precise nature of the loss. The loss was the loss of an income stream under the charter. Realising the capital value of the vessel did not and could not mitigate the loss of that income stream which, irrespective of the sale, remained lost [34]. While it might be thought that the Court here looked at the nature of the benefit and the nature of the loss (having deprecated just such a test), the nature of the loss and the benefit may be relevant in a causation enquiry. As Popplewell J, who had similarly rejected the ‘of the same kind’ argument, pointed out: “There is no requirement that the benefit must be of the same kind as the loss being claimed or mitigated … but such a difference in kind may be indicative that the benefit is not legally caused by the breach” [64(8)] (emphasis added; this proposition was expressly approved by the Supreme Court at [30]).

The Court pointed out that a sale of the vessel might be relevant to the compensatory principle if it could be shown, for example, that the owner would have sold the vessel during the two years had the charterer performed, because then that would on Golden Victory principles cut down the period of loss. But that had nothing to do with a collateral decision by an owner, post breach, to sell his vessel on a poor trading market.

Conclusions

The decision, and the procedural history, shows the difficulty that may lie in distinguishing between an act taken post-breach from which the claimant benefits and an act which is legally to be viewed as caused by that breach.

Where mitigation is concerned, if the claimant was not obliged to take such a post-breach step at all, then it seems clear that if he does take it, the defendant cannot seek to bring the benefits of so doing into account.

Coda: the Arbitral Context

It was strongly argued that, as causation was a question of fact, to be approached in a commonsense way, the decision of the arbitrator (extracts from which as reported are cited above) was one which was not open to challenge. Popplewell J. accepted that “whether a benefit is caused by a breach is a question of fact and degree which must be answered by considering all the relevant circumstances in order to form a commonsense overall judgment on the sufficiency of the causal nexus between breach and benefit” [64(9)] but considered that the arbitrator had simply gone wrong in treating things as sufficiently ‘caused’ when in law they could not be so regarded. Lord Clarke endorsed this approach at [24].

This gives rise to the apparent oddity of an arbitrator finding that the sale of the vessel was in consequence of and resulted from the breach and was a step taken by the owner to prevent loss from not being able to trade the vessel but this “not [being] legally sufficient to establish the necessary causative link between breach and benefit”.

“Consequential Loss” Exclusions: Context is Everything.

Star Polaris LLC and HHIC-PHIL Inc [2016] EWHC 2941 (Comm)

Recent Guidance from the English Court illustrates that tried-and-tested phrases can mean something very different depending on the nature of the contract and the context.

SIMON RAINEY Q.C.

The words “consequential loss” in an exclusion or indemnity provision frequently give rise to argument. This is despite the fact that, following a long line of decided cases dating back to 1934 (: Millers Machinery v David Way (1934) 40 Com. Cas. 204), the term (and common variants or combinations of it, e.g. ‘”consequential or special” or “indirect or consequential”) have acquired a well-settled meaning in the most common context in which they are used, namely as part of a free-standing unilateral exclusion clause or as a form of mutual exclusion clause (as, for example, in the suite of BIMCO marine and offshore industry forms, the LOGIC offshore forms and many construction contracts).

Well-settled it may be, but that does not necessarily make it a popular or well-accepted settled meaning.

The English Courts have construed the concept of “consequential loss” as not covering loss which directly and naturally results in the ordinary course of events from the breach and which would be ordinarily foreseeable but as applying only to loss which is not ordinarily foreseeable and which would be recoverable only if the special circumstances out of which it arises were known to the parties when contracting. In lawyer-speak, it covers Hadley v Baxendale ‘Limb 2’ but not ‘Limb 1’ losses: see the locus classicus in Croudace Construction Ltd v. Cawoods Products Ltd [1978] 2 Lloyd’s Rep. 55. Such a clause will often therefore cover only what would not be recoverable in any event, because it was not ordinarily foreseeable and there was no knowledge of the special circumstances out of which the loss arises.

That highly technical meaning has been criticised as very unlikely to be one which commercial parties ever really intended: see the recent comments of the Court of Appeal in Transocean Drilling UK Ltd v Providence Resources Plc [2016] EWCA Civ 372 per Moore-Bick LJ at [15] and Leggatt J. in Scottish Power UK Plc v BP Exploration Operating Co. Ltd [2015] EWHC 2658 (Comm). Other common law jurisdictions such as Australia have effectively ditched the English law approach.

The recent decision of the Commercial Court in Star Polaris LLC v HHIC-PHIL Inc [2016] EWHC 2941 (Comm) illustrates that the fact that the wording has a well-settled meaning will not always provide the answer. One cannot simply fall back on the way in which the phrase has previously been interpreted in stand-alone contexts and expect to arrive at the same result.

The case concerned a shipbuilding contract. As is common in such contracts, the builder gave a twelve month warranty and guarantee (Article IX). The builder undertook to be responsible during that period for any defects, due to matters for which it was contractually responsible, such as bad design or workmanship, and to carry out all necessary repairs. As is similarly common, Article IX stated that the builder was to be under no other responsibility or liability whatsoever in connection with the vessel or under the contract once the vessel had been delivered to the buyer other than under Article IX. Any implied conditions, for example, under statute (such as the Sale of Goods Act 1979) were similarly excluded. Article IX was therefore understandably described by the arbitrators and by the Judge as “a complete code for the determination of liability” as between builder and buyer.

It was in this special context that Article IX went on to exclude “liability or responsibility … arising for or in connection with any consequential or special losses, damages or expenses unless otherwise stated herein”.

During the guarantee period, the vessel, a Capesize bulker, suffered a serious main engine failure. The buyer alleged that this was due to bad workmanship in breach of contract (weld spatter left in the piping). It took the vessel to a Korean yard for repair and then claimed damages under three heads: the costs of the repair; various incidental towage, survey and other expenses and off-hire; a claim for the diminution in value of the vessel as a new bulker given the engine failure.

It was argued forcefully by the buyer that, objectively, and given the settled meaning, it was to be presumed that the parties would use the term “consequential loss” in accordance with that well-known meaning and the losses in question were not excluded as they were all ‘direct’, ordinarily foreseeable and ‘limb 1’. Reliance was placed by the buyer on the decision in Ferryways v. Associated British Ports [2008] 1 Lloyd’s Rep 639, where the Judge held that a Court should not lightly depart from that meaning, now that it had become settled and effectively a term of art. However, Ferryways dealt only with the typical form of stand-alone exclusion.

The arbitrators (a very experienced panel: Michael Collins QC, Richard Siberry QC and Sir David Steel) found for the buyer on liability and defective workmanship and allowed the claim for costs of repair (which were expressly recoverable under Article IX if the buyer elected to carry out repairs elsewhere than at the builder’s yard). They however held that the other two claims were excluded as “consequential loss” because they were consequences of the defect covered by the Article IX guarantee which was what the exclusion was directed at.

The Court (Sir Jeremy Cooke) upheld the Tribunal’s reasoning.

(1) While, importantly, the Judge recognised and sought to emphasise that he was not intending to cast doubt on the well-settled meaning of that term (referring to the usual line of cases with approval at [18]), he held that the specific context in which the wording was used, namely as part of a ‘complete code’ of builder’s responsibility, was crucial to a proper understanding of the term and of “fundamental importance in considering the ambit of Article IX” [10].

(2) The structure of Article IX was viewed by the Court as one of repair obligations expressly undertaken by the builder, coupled with the exclusion of everything else in terms of liability and responsibility. The clause differentiated between the cost of repair or replacement, on the one hand, and the broader financial consequences occasioned by the need for a repair or replacement on the other [36].

(3) The Court agreed with the arbitrators that “in such circumstances, the word ‘consequential’ had to mean that which follows as a result or consequence of physical damage, namely additional financial loss other than the cost of repair or replacement” [36]. In other words, the clause extended to all loss and damage which was a consequence of the defect covered under the guarantee and the word ‘consequential’ was used by the parties in this agreement in its cause-and-effect sense, as meaning ‘following as a result or consequence of’ [6].

(4) In the context of a guarantee and warranty clause which imposed a scheme of responsibilities on the builder, it was held to be unrealistic and strained to read the exclusion as saying that the builder accepted responsibility under the complete ‘code’ for all direct losses (limb 1) while excluding responsibility only for indirect ones (limb 2): [35].

The meaning given to the phrase “Consequential Loss” taken by the Court (and by the arbitrators below) mirrors that taken in the Australian cases where “consequential” has been construed as looking at losses which are simply consequential upon the breach and gives effect, in the specific context of Article IX of the particular contract under consideration,  to the dissenting view in the English textbooks that the English Court’s construction has robbed the phrase of its natural meaning which businessmen should be taken more realistically to have had in mind: see e.g. Macgregor on Damages, (19th Edn) at paras. 3-013 to 3-016, where the Australian cases are referred to. As an example, see Alstom Ltd v Yokogawa Australia Pty Ltd (No 7) [2012] SASC 49, a decision of the Supreme Court of South Australia, where the Court held that unless qualified by its context, “consequential loss” would normally extend to all damages suffered as a consequence of a breach of contract.

While confined to the particular contractual context, the implications of the Star Polaris decision are potentially wider, particularly for the use of a ‘consequential loss’ type exclusion in similar shipbuilding contract guarantee provisions.

In addition, the decision is a salutary lesson that a mechanistic application of the settled meaning of this phrase is inappropriate: the context and purpose may show that the parties used the term in a different and simpler sense. Given the expression of dissatisfaction in certain quarters with the Croudace meaning long given to the wording, it will be interesting to see if Star Polaris is henceforth used to try to press other different contexts as reasons for taking a different meaning. Negotiation of shipbuilding contracts by buyers may now need to be approached with some attention to the boilerplate of the standard form guarantee/ warranty provision (cf. the arguments in Star Polaris as to the amendment of the standard SAJ Article IX wording)

However, in the ordinary unilateral or mutual exclusion clause situation, the position remains, it is suggested, firmly the same: the Court was itself concerned to stress ‘no change’, expressly endorsing the Ferryways presumption that the words have been used in the settled sense understood in the English cases.

The Court of Appeal decision in SPAR SHIPPING: Defining an owner’s remedies for non-payment of hire and resolving the Astra ‘condition’ debate

SIMON RAINEY QC

When the Court of Appeal handed down judgment late last year in Grand China Logistics Holding (Group) Co Ltd v Spar Shipping AS [2016] EWCA Civ 982, dismissing an appeal by unsuccessful time charterers, it determined the controversial question of whether a charterer’s failure to pay an instalment of hire punctually and in advance under a time charterparty is a breach of condition, entitling the shipowner to terminate the charter and claim damages for the loss of the balance of the charterparty.

The Court of Appeal (Sir Terence Etherton MR, Gross and Hamblen LJJ) unanimously held that the answer to that question is “no” and that, without more, such a failure merely entitles the shipowner to withdraw the vessel from service in accordance with the withdrawal clause.

The decision, for all practical purposes, finally resolves an issue which has attracted much market interest and generated conflicting observations from judges of the highest standing. It also reviews modern principles applicable to the proper classification of a contract term as a condition.

The leading judgment of Gross LJ also contains a valuable summary of the legal principles relating to renunciation in the context of late and non-payment of hire under time charterparties.

The Court of Appeal firmly rejected a novel argument by the appellant time charterers that the test for renunciation by time charterers in relation to defaults in payment of hire (whether by late or short payment) was applied too strictly (“unwarrantably severe”) and was out of step with the Court’s approach in other non-payment contexts under different types of contract, thereby amounting to unjustified “preferential treatment” for shipowners under time charters.

Simon Rainey QC, Nevil Phillips and Natalie Moore appeared for the successful respondent owners.

Headline Summary of the Decision

  1. The obligation to pay hire under a time charterparty is not a condition but an innominate or intermediate term. Flaux J’s decision to the contrary in The Astra [2013] EWHC 865 (Comm) was wrong.

  1. The obligation to pay hire promptly and in advance under a time charterparty lay at the heart of the contractual bargain represented by such a charterparty. Late and short payment would unilaterally convert a contract for payment in advance into a transaction for unsecured credit and without any provision for the payment of interest: such conduct went to the root of the contract, was renunciatory and entitled an owner to terminate.

  1. While therefore removing the availability of a condition from the shipowner’s arsenal of remedies for non-payment of hire, the Court of Appeal has roundly endorsed the critical importance of prompt and full payment of hire in advance, and has emphatically highlighted the risks which a time-charterer takes in making payment late or in missing payments, however much it protests that it wishes or intends to perform or perform better.

  1. If an owner wishes to be able to terminate for any failure to pay hire – irrespective of renunciation or repudiation – and claim damages in addition, it will now have to contract on special terms to this effect (cf. the hire provisions in the new NYPE 2015 form which so provide).

The Decision in More Detail

The facts

The Respondent (“Spar”) owned three supramax bulk carriers: SPAR CAPELLA, SPAR VEGA and SPAR DRACO. By three charterparties dated 5 March 2010 on amended NYPE 1993 forms, Spar agreed to let the vessels on long term time charter to Grand China Shipping (Hong Kong) Co Ltd (“GCS”). The Appellant (“GCL”) guaranteed GCS’s performance under the charterparties by three letters of guarantee dated 25 March 2010.

From April 2011, GCS was in arrears of payment of hire. There remained substantial arrears of hire on all three vessels over the summer of 2011 and GCS continued to miss payments or be late in making payment. But GCS protested that everything would be sorted out and that a financial solution was in the offing, and it made some payments on time.

Spar called on GCL to make payment under the guarantees on 16 September 2011. GCL failed to make payment, and Spar withdrew the vessels from service.

At the date of termination, the SPAR VEGA and the SPAR CAPELLA charterparties each had about four years left to run. The unexpired term of the SPAR DRACO charterparty was about 18 months.

Spar brought a claim against GCL under the guarantees.

At first instance, Popplewell J held that payment of hire by GCS in accordance with clause 11 of the charterparties was not a condition, disagreeing with the judgment of Flaux J in The Astra [2013] EWHC 865 (Comm). However, he concluded that GCS had renounced the charterparties and that Spar was entitled to US$24 million in damages for loss of bargain in respect of the unexpired terms of the charterparties.

GCL appealed, contending that the Judge erred in holding that GCS had renounced the charterparties, applying too strict a test which was out of step with other non-payment contexts.  It was argued that, looking at the overall benefit to be expected over the whole life of the charterparties, some short or late payments could not be said to be renunciatory. Spar argued that the Judge was right on the renunciation issue. By way of Respondent’s Notice, Spar contended that judgment should have been given in its favour on the additional ground that payment of hire by GCS in accordance with clause 11 was a condition.

The Reasoning of the Court of Appeal

(1) The Condition Issue

The Court held that the obligation to make punctual payment of hire was not a condition in standard form charterparties and that The Astra was wrongly decided.

Gross LJ’s reasons were these:

  1. The inclusion of the express withdrawal clause did not provide a strong or any indication that clause 11 was a condition. Historically, withdrawal clauses were included in charterparties to put beyond argument the shipowner’s entitlement to terminate the charterparty where the charterer had failed to make a timely payment of hire. As such, the withdrawal clause merely furnishes owners with an express contractual option to terminate on the occurrence of the event specified in the clause. Thus, the mere presence of a withdrawal clause gives no indication as to the consequences intended by the parties to flow from the exercise of the contractual termination clause.

  1. The most pertinent guidance from the authorities in the present context was the need not to be “too ready” to interpret clause 11 as a condition – indeed only to do so if the charterparties, on their true construction, made it clear that clause 11 was to be so classified: see Bunge v Tradax [1981] 1 WLR 711. As a matter of contractual construction, the charterparties did not make it clear that clause 11 was to be categorised as a condition. Clause 11 did not expressly make time of the essence. Not did it spell out the consequences of breach (in contrast to the NYPE 2015 form). Furthermore, breaches of clause 11 could range from the very trivial to the grave.

  1. Any general presumption of time being of the essence in mercantile contracts was not of significance or assistance in the present case. First, there was only limited scope for general presumptions in the specific, detailed and specialist context of payment of charterparty hire. Secondly, any presumption that time is generally of the essence in mercantile (or commercial) contracts does not generally apply to the time of payment, unless a different intention appears from the terms of the contract.

  1. The anti-technicality clause does not strengthen the case for the timely payment of hire being a condition of the charterparties. The anti-technicality clause does no more and no less than protect the charterers from the serious consequences of a withdrawal in the case of a failure to pay hire on “technical grounds”.

  1. Considerations of certainty are of major importance in the commercial context. But it is a question of striking the right balance. Classifying a contractual provision as a condition has advantages in terms of certainty; in particular, the innocent party is entitled to loss of bargain damages (such as they may be) regardless of the state of the market. Where, however, the likely breaches of an obligation may have consequences ranging from the trivial to the serious, then the downside of the certainty achieved by classifying an obligation as a condition is that trivial breaches will have disproportionate consequences. Considerable certainty could still be achieved by clause 11 being a contractual termination option. The trade-off between the attractions of certainty and the undesirability of trivial breaches carrying the consequences of a breach of condition is most acceptably achieved by treating clause 11 as a contractual termination option.

  1. The general view of the market has been that the obligation to make timely payments of hire is not a condition.

Hamblen LJ agreed with Gross LJ and added further observations of his own.

Of particular importance, is Hamblen LJ’s conclusion that it is not necessary to construe the obligation to pay hire timeously as a condition in order to give it commercial effect on the grounds that it is the owner’s only real protection in a falling market.

As Gross LJ also observed, certainty is provided by the withdrawal clause and there may be good reasons to invoke the clause notwithstanding a falling market (e.g. where the charterers are insolvent or owners depend on prompt payment to fund payments under a head charter or charterers’ payment record occasions administrative or other difficulties).

The Court was not, therefore, persuaded by the “provisional view” expressed by Lord Phillips in the Cedric Barclay Lecture 2015 that the obligation to pay hire is a condition because otherwise the right to withdraw would be “worthless” in a falling market.

Sir Terence Etherton MR agreed with both judgments. He summarised his conclusions on the Condition Issue in three propositions:

  1. There is no authority binding on the Court of Appeal as to whether or not the stipulated time for payment of hire in each of the charterparties was a condition.

  1. Whether the time payment stipulation was a condition is a question of interpretation of each of the charters. However, there is some authority to the broad effect that, in the absence of a clear indication to the contrary, the court leans against the interpretation of a contractual term as a condition (viz. Bunge v Tradax).

  1. The time payment stipulation was, on the proper interpretation of the charters, an innominate term. There is no presumption in a mercantile contract that a stipulated time for payment is a contractual condition. There is, in any event, no scope for any such presumption in the present case in view of the comprehensive terms of the charterparties.

(2) The Renunciation Issue

At [73] – [78] Gross LJ reviewed the authorities on the test for renunciation generally and in the specific context of the payment of hire under time charterparties.

He focused on the fact that the test for repudiatory breach and renunciation (i.e. anticipatory breach) has been described in different ways in the cases: e.g. an actual or threatened breach which deprives the innocent party of substantially the whole benefit of the contract; an actual or threatened breach which deprives the innocent party of a substantial part of the benefit of the contract; an actual or threatened breach which goes to the root of the contract; conduct evincing an intention to perform in a manner substantially inconsistent with the contract.

Considering recent extra-judicial statements as to the differences in these formulations and the unsatisfactory nature of a “goes to the root of the contract test”, Gross LJ held that the differences simply reflect the different facts and circumstances of the various cases, especially the terms of the particular contract in question, and the Court endorsed the “root of the contract” test as “useful and readily capable of application; a search for a more precise test is unlikely to be fruitful” [76].

In the time charterparty context, the Court endorsed and applied Spar’s suggested three stage analysis:

First, what was the contractual benefit Spar was intended to obtain from the charterparties?

Secondly, what was the prospective non-performance foreshadowed by GCS’s words and conduct?

Thirdly, was the prospective non-performance such as to go to the root of the contract?

Applying the law to the facts he concluded that:

  1. Prompt and full payment of hire in advance lay at the heart of the bargain between owner and time charterer: “the essence of the bargain under a time charterparty that the shipowner is entitled to the regular, periodical payment of hire as stipulated, in advance of performance, so long as the charterparty continues; hire is payable in advance to provide a fund from which shipowners can meet the expenses of rendering the services they have undertaken to provide under the charterparty; shipowners are not obliged to perform the services on credit; they do so only against advance payment” [83].

  1. The test for prospective non-performance was whether “a reasonable owner in the position of Spar (the formulation adopted in Universal Cargo Carriers v Citati [1957] 2 QB 401, at p. 436) could have no, certainly no realistic, expectation that GCS would in the future pay hire punctually in advance”. It was not enough that the charterer was willing to pay hire but in arrears or late. The Judge’s analysis, findings and conclusions with regard to renunciation could not properly be criticised.

  1. Given the history of late payments, the amounts and delays involved, together with the absence of any concrete or reliable assurance from GCS/GCL as to the future, the Judge was amply entitled to conclude that GCS had renounced the charterparties [87]. Gross LJ made the following important statements:

  1. “[GCS’s] prospective non-performance would unilaterally convert a contract for payment in advance into a transaction for unsecured credit and without any provision for the payment of interest.”

  1. “Taken to their logical conclusion, [GCS’s] submissions would mean that charterers could hold owners to the contracts by stating that all payments of hire would be made but late and in arrears – leaving owners obliged to accept this limping performance and attendant uncertainty. In my view, that is not the law, at least in this context.”

  1. “For the avoidance of doubt, whichever test is adopted the answer would be the same; thus I am satisfied that GCS’s evinced intention would deprive Spar of “substantially the whole benefit” of the charterparties and, for that matter, that GCS would be seeking to hold Spar to an arrangement “radically different” from that which had been agreed (the test for frustration).”

In the Master of the Rolls’ words (at [103]), GCS’s conduct “evinced an intention to turn each of the contracts into something radically different from its terms, namely from a contract for payment in advance … to one for payment in arrear – in effect the performance of services by the shipowner on credit”.

(3) Disposal

Irrespective of the Court’s decision on The Astra and the status of the obligation to pay hire, the Court therefore dismissed GCL’s appeal.

A Euro-spanner in the P&I works: direct actions allowed against insurers in EU courts, and no argument allowed.

UK-based P&I clubs will be hopping mad at the decision of the ECJ today in Assens Havn (Judicial cooperation in civil matters) [2017] EUECJ C-368/16, and will doubtless be joining a number of others in saying that Brexit can’t come soon enough. The problem can be summed up thus: as regards events in the EU the Assens Havn decision has blown out of the water their carefully-crafted provisions aimed at ensuring that all proceedings against them in respect of their members’ liabilities are sorted out in England.

The background (see here in this blog) arose out of events ten years ago in the Danish port of Assens. A Danish tug, entered by bareboat charterers with Navigators Management (UK) Ltd, negligently damaged shore installations. The charterers being insolvent, the port sued Navigators in Denmark under a Danish direct action statute. Navigators relied on the English law and jurisdiction clause in their agreement and insisted on being sued in England. The port relied on Arts 10 and 11 of Brussels I (now Recast 12 and 13, there being no relevant difference), saying that in matters of insurance the club could be sued in Denmark as the place where the damage occurred. Navigators said that Art.13.5 (recast Art.15.5) allowed the relevant jurisdiction to be ousted by agreement, including agreement between the insurer and the insured. It was only fair, they argued, that if the port wanted to use a direct action provision to sue them, the port had to take the insurance contract warts and all. The Danish courts sided with Navigators, but referred the matter to the ECJ.

The ECJ was having none of it. True, the plain words of Art.13.5 said that the provisions of Part 3 of the Regulation could be contracted out of in the case of (inter alia)  marine third-party insurance contracts. True also that the Brussels provisions dealing with direct actions against insurers — Arts.8-10 and 11.2 — indubitably formed part of Part 3. Nevertheless, the Court managed to interpret the Regulation as forbidding any contractual ouster of the direct action provisions. This it did on two grounds. One, flimsy enough, was that the direct action provisions contained no specific saving for Art.13.5. The other was that the victim of an accident always had to be protected in its claims on the basis that it was likely to be the weaker party (!). This can best be described as bizarre: not only is the right of contracting-out under Art.13.5 carefully limited to insurance against solidly commercial risks, but the victims are likely to be substantial businesses or authorities and / or their property insurers, none of which one would have thought deserving of any particular solicitude.

Discounting any entirely unworthy thoughts connected with ideas such as sour grapes and Brexit, one can only speculate that the Court regarded the regime that previously protected P&I clubs as a tiresome anomaly, to be removed almost at any cost. In any case, the position now appears clear. In EU jurisdictions that allow direct actions against insurers, P&I clubs will have to resign themselves to being sued wherever bad things happen. Only in the case of other EU jurisdictions, and outside the EU, where they have in addition the useful weapon of the anti-suit injunction available to them (see here) — can they continue as before and benefit from the savings in costs and trouble of one unique English forum.

Sale of goods — no need to prepare to collect something you know you won’t get

A textbook sale of goods decision today from Carr J in Vitol S.A. v Beta Renowable Group S.A. [2017] EWHC 1734 (Comm), which nevertheless has a few lessons for the rest of us. Beta, a Spanish real estate company that had branched out into the biofuels business, agreed to sell commodity traders Vitol 4,500 tonnes of cooking-oil-derived biodiesel fob Bilbao. Vitol had to have a vessel ready to lift it by midnight Friday 1 July and to nominate the relevant vessel by midnight Monday that week.

Things then went wrong. Communications from Beta culminating on Monday afternoon made it clear there wouldn’t be any biodiesel to lift. Vitol let the nomination time pass without doing anything, said on 7 July that they accepted Beta’s repudiation, and sued for loss of profit (including would-be hedging gains — more anon). Beta declined liability. They argued, with more hope than merit, that Vitol had not accepted their repudiation until much later, and had therefore remained bound to nominate a ship on Monday and take steps for delivery; not having done so, they were (said Beta) disabled from complaining of non-delivery.

Carr J held for Vitol, reasoning thus. First, while one could accept repudiation by mere omission, Vitol had not done so by failure to nominate, since this (non) act had not been unequivocal enough. They had therefore on principle remained bound to take steps to lift the oil. Nevertheless, given that it remained abundantly clear that there was nothing to collect, it would be ridiculous to require them to go to the trouble and expense of making idle preparations to collect it.

It followed that Beta were liable for substantial damages for non-delivery, whereupon a further nice point arose. Spurning traditional value less price as old hat, Vitol sought to claim their lost resale margin, plus in addition an alleged profit they would have made on buying in gasoil futures they had sold in order to hedge the transaction. Carr J was having none of it: there was no reason to allow actual resale profits in an ordinary commodity contract, and the futures were essentially a speculation on Vitol’s own account. So Vitol had to be content with market value damages.

Three points for commodity lawyers and others.

(1) It’s good to have confirmation that to enforce a contract you have generally to show merely that you would have been ready willing and able to satisfy any conditions on your right to performance, but for the other side’s repudiation: you don’t have actually to do an entirely futile act where that would serve no purpose.

(2) Damages: courts remain wary in straightforward commodity cases of departing from the time-honoured  value test in ss.50-51 of the Sale of Goods Act.

(3) Vitol will have been kicking themselves for not making it clear, when not nominating a ship, that they were specifically accepting Beta’s repudiation. One email, of negligible cost, would very likely have saved the cost of having the whole matter taken to the High Court. Solicitors for buyers and sellers, verb. sap.