Notification is the key: The prevention principle, delay and extensions of time under shipbuilding contracts

The decision in Jiangsu provides an in-depth analysis of how, if at all, the prevention principle applies to shipbuilding contracts and the importance of good contract management to notify and seek extensions for events of delay.

This case, an appeal to the English High Court of certain aspects of an arbitration award, relates to two Hulls, 21B and 22B which the Seller had contracted to build pursuant to shipbuilding contracts made with the Buyer, dated 26 February 2014 (the "SBCs"). The SBCs were on amended SAJ terms widely used in the market.

The dispute arose in the context of 11 arbitrations between the Seller and the Buyer concerning a series of 14 bulk carriers of SDARI 64k design which were to be designed and constructed by the Seller in China.

After the first two vessels were delivered, the Seller tendered a further four vessels which were rejected by the Buyer on the basis that the Vessels contained a design flaw and/or had been built in a defective manner, such that they were susceptible to stern tube bearing failures under navigation. This is an issue which is well-known within the industry and has affected multiple Owners and Operators of the Dolphin 64k design.

The Seller contended that the rejection and cancellation of those earlier hulls, which it contends was wrongful, resulted in occupying berths at the Seller's yard, delaying the launch and construction of Hulls 21B and 22B (the alleged Buyer-induced delay).

On 29 January 2016, 151 days after the contractual Delivery Date, the Buyer stated that it was terminating the contracts for Hulls 21B and 22B under Article III. 1 and Article VIII.3 of the SBCs by reason of the lapse of more than 150 days of ‘non permissible delays’.

The Seller treated this as a repudiatory breach of the SBCs which it accepted on 3 February 2016, thereby, on any view, bringing the contracts to an end.

The appeal issues

The appeal was concerned with essentially two issues: (a) whether the ‘prevention principle’ applied to the SBCs; and (b) whether the Seller has to give notice of delay events as a pre-condition for relying on such events when the Buyer purports to terminate for accumulated delay.

The Buyer’s position was that the SBCs provided a complete code of the circumstances in which the Seller was entitled to claim extensions of time such that there was no room for the "prevention principle". As a result notice was required to be given and as the relevant contractual machinery had never been exercised to extend time, and therefore the Seller was not entitled to any extension.

The prevention principle

The judge accepted, as a starting point, that a term is to be implied into the SBCs, as into very many contracts, that neither party should prevent the other from performing its obligations under the contract; for example through breach of contract.

However addressing the relevant clause in this case the judge concisely noted that "The central issue which arises here is whether Article VIII.1 is wide enough to cover this cause of delay. If it is, then express provision has been made for an extension of time, and the ‘prevention principle’ will not apply.".

The judge considered that the wording of Article VIII.1 was wider than a force majeure clause and the phrase "or other causes beyond the control of the SELLER or its sub-contractors as the case may be" should be given a natural and wide meaning so as to cover any alleged Buyer-induced delay thereby, ruling out the application of the prevention principle.

The judge recognised that he had reached a different conclusion from the construction given to a similarly worded provision (Article VIII.1 in both cases) by Leggatt J in Zhoushan Jinhaiwan Shipyard v. Golden Exquisite Inc. [2014] EWHC 4050 (Comm). He sought to reconcile this departure on the basis that there may be other Buyer breaches, including of the implied term as to non-prevention, which cannot readily be considered as being provided for elsewhere in the contract and his was the best interpretation of the phrase identified above. Butcher J's decision effectively concludes that there is no room for the application of the ‘prevention principle’ in SBCs where similar wording exists. Whilst not a decision that assists the Seller in this case it is in our view a positive development as it makes clear that such wording provides a mechanism by which a seller can look to extend the delivery date for any Buyer-caused delay, thereby providing more contractual certainty.

However although a pragmatic solution to an issue which has persisted since Zhoushan it is unlikely to provide the final word (given the different contractual wording and background facts in each case). Perhaps recognising this and that the position was decided differently in Zhoushan we understand that Butcher J has granted the Seller permission to appeal his decision. The Court of Appeal will therefore consider these issues again in the near future and will hopefully finally determine the point.

The contractual machinery for extension

As the cause of delay fell within Article VIII.1, then the notice regime under Article VIII.2 would be triggered.

As Butcher J noted, if notice is not correctly given in accordance with Article VIII.2 then the Seller cannot claim an extension to the delivery date. Interestingly, the judge noted that even if he was wrong about the broad interpretation of Article VIII.1, such that there can be cases of Buyer-induced delay which do not fall within Article VIII.1 or within other specific regimes in the SBC, then as an ancillary point he would have afforded Article VIII.2 a wide interpretation, to allow a notification of extension, covering such Buyer-induced delays which did not fall within Article VIII.1; he was able to do so on account of the reference in the clause to "any delay on account of which the SELLER claims that it is entitled under this Contract to an extension of the time for delivery.".

Indeed, the judge stated that in circumstances where parties have tried to provide for a scheme for notification of matters relevant to a claim for an extension of time a court should: "lean in favour of a construction under which there are notification requirements in relation to any, or at least any reasonably foreseeable, causes of delay. In my judgment, a construction of the SBCs whereby, if the alleged cause of delay is not within Article VIII.1, nevertheless Article VIII.2 is applicable is available on the words of Article VIII.2, and is clearly preferable to a construction whereby such delays are not covered by any notification requirement.".

The practical guidance from these comments is clear both reinforcing the need for good contractual management and emphasising that if a party is in doubt as to whether to issue a notice in accordance with Article VIII.2 (or other relevant contractual provisions) it is important to do so and seek to argue the position later.

Unrecorded modifications

As an additional point, the Seller contended that the parties had agreed to modify the construction and design of the vessels and that delays arose because of this agreement; however, the Seller did not contend that there had been an agreement as to an extension of time. The Seller contended that it was entitled to an extension of time in any event under Art. V.1 and was not required to serve any notification as to the delay in making such modifications.

The judge dismissed this argument in short order, noting that if there were no agreement on consequential amendments, the Seller was entitled to proceed without making the modification (and thus incurring additional time and cost). The Judge found that the SBCs did not contemplate a request for a non-agreed extension of time following a modification. Consistently with that, the contract did not provide for a notification regime relating to such a request. Again, this reinforces the need for robust contract management and for the seller, a reminder of the importance to undertake any modifications only within the framework of the contractual scheme.

Buyer's default in payments

The Seller also alleged that the Buyer was in default in failing to pay the third, fourth and fifth instalments of the purchase price, such that the Seller was entitled to a day-by-day extension under Article XI.4 without being required to take any further steps to postpone the Delivery Date. The Buyer contended that the Seller must serve a default notice under Article XI.2 as to the relevant delay; and that the Seller must exercise its ‘option’ to extend time for delivery under Article XI.4(a).

The judge did not consider that a Notice under Article XI.2 is a prerequisite for a postponement of the Delivery Date pursuant to Article XI.4(a). However, the judge considered that the phrase in XI.4(a), "at the Sellers option" meant that the Seller may choose that the Delivery Date should be postponed (a common addition in multiple-vessel orders) but that it was implicit that there must be clear communication (but not necessarily a formal notice in accordance with Article VIII.2) from Seller to the Buyer that the Delivery Date will be postponed. However, it should be noted that the standard SAJ form does not include the "at the Sellers option" caveat and so it is important to ensure that the parties' agreement as to the approach to be adopted in such circumstances is properly reflected in the underlying shipbuilding contract.

Key takeaways

From this judgment, there are five key takeaways for both future contract drafting and active contract management where extensions and delays are contemplated, as follows:

  1. Consider amending Article VIII.1 (or equivalent) to make clear that it is intended to cover all Buyer-induced delay to the extent not covered elsewhere in the underlying shipbuilding contract (so as to avoid any issue of the prevention principle arising);
  2. Ensure that the scope of any contractual notice provisions are clearly drafted;
  3. Ensure robust internal contract management processes are in place to track the delivery of notices in accordance with contractual requirements – where there is any doubt ensure that a notice is sent so that no contractual rights are lost; and
  4. In view of the judicial treatment of Buyer's failing to pay instalments, consider amending the relevant contractual provisions to make clear what each parties obligations are in such circumstances.
  5. From the seller's perspective ensure that any modifications are only undertaken after agreement has been reached between the parties in accordance with the contractual scheme (e.g. in respect of the impact of such modification on the delivery date, contract price etc.).

While this will remain good guidance, we await with interest the further guidance that will be provided by the Court of Appeal in due course.

Read our latest articles on Shipping Offshore

  • Shipping Offshore

    2020

    Notification is the key: The prevention principle, delay and extensions of time under shipbuilding contracts

    The decision in Jiangsu provides an in-depth analysis of how, if at all, the prevention principle applies to shipbuilding contracts and the importance of good contract management to notify and seek extensions for events of delay.

  • Shipping Offshore, COVID-19

    2020

    Navigating the liquidity squeeze

    The COVID-19 virus and its countermeasures, the plunge in the oil price and extreme currency fluctuations are adding to the pain of a prolonged downturn in several shipping / offshore segments with imminent risk of liquidity loss. Decisive response is thus crucial to preserve value for the stakeholders involved.

  • Shipping Offshore, COVID-19

    2020

    Navigating the liquidity squeeze

    The COVID-19 virus and its countermeasures, the plunge in the oil price and extreme currency fluctuations are adding to the pain of a prolonged downturn in several shipping / offshore segments with imminent risk of liquidity loss. Decisive response is thus crucial to preserve value for the stakeholders involved.