I am a fourth seat trainee at Ince & Co LLP. Ince is a non-departmental firm, so we do not have the usual formal ‘seat’ system. Trainees do a broad range of work across all areas of the firm’s practice, and we see our cases through from start to finish.
I have been involved in a number of shipbuilding disputes during my training contract. There has been a rise in shipbuilding disputes in the past few years because of the collapse of charter rates and the capital value of ships in 2008. To put it into perspective, in May 2008, the spot rate an owner could command for a Capesize vessel was at an all time high of $230,000 per day, but by December 2008 this rate had fallen to as low as $2,800 a day.
Due to the time it takes to construct a large, high-value commercial vessel, shipbuilding contracts are commonly entered into a long time (often years) before delivery of the vessel is due to take place. When the market collapsed, ship owners found that they had committed themselves to highly priced shipbuilding contracts with a long lag time, and by the time the vessels were due to be delivered the vessel might be worth much less than the amount that the owner had agreed to pay at the height of the market.
Ship yards also experienced difficulties in fulfilling orders because they over-loaded their order books during the pre-2008 boom. Because there was such high demand for new vessels during the boom period of 2004-2008, many new yards sprung up in a short space of time and began constructing more vessels quickly and cheaply. In some cases, this resulted in sub-standard construction and associated claims by buyers under the warranty provisions in the shipbuilding contract.
In the vast majority of shipbuilding contracts, the shipyard will be required to provide a refund guarantee to secure advance payments made by the buyer in the event that the vessel is not delivered to the buyer as promised.
What is a refund guarantee?
Generally speaking, on the signing of the contract and/or during the construction process, the buyer is required to pay instalments to the yard, which together with a final delivery instalment, make up the total purchase price of the vessel. However, title in a vessel will not usually pass to the buyer until delivery. To secure those instalments paid before delivery, the shipyard will in most cases be required to provide a refund guarantee from a bank. This guarantees the repayment of the instalments if delivery does not occur as promised.
The importance of refund guarantees has been highlighted by the recent reports of financial difficulty and insolvency in a number of Korean ship yards. Where the yard becomes insolvent, the refund guarantor bank becomes the only prospect the buyer has of making a recovery of the instalments it has paid. This news has been accompanied by reports that, unsurprisingly, banks are becoming more stringent when issuing newbuilding-refund guarantees.
Set out below are a few of the issues I have come across when looking at refund guarantees.
1. Authority to sign
It is important to ensure that the refund guarantee is signed by a bank employee who has full and proper authority to do so. In a recent Commercial Court decision, the buyer was unable to claim under a refund guarantee because it was held that it had been signed by an employee who did not have actual or apparent authority to do so.
The buyer should ensure that the expiry date of the refund guarantee provides sufficient time to allow a demand for reimbursement to be made after the due date for delivery and before the expiry of the refund guarantee. This will be a particularly important consideration where the shipbuilding contract provides for delivery by reference to an event, rather than a fixed date. In the event of arbitration/Court proceedings post-delivery, the refund guarantee will often automatically extend until after the award/judgement is handed down.
3. Changes to the underlying contract
The English law on guarantees is very strict on this point. Changes to the underlying shipbuilding contract, without the express consent of the refund guarantor bank, will usually have the effect of vitiating the refund guarantee. It is not unusual for parties to shipbuilding contracts to negotiate subsequent addenda to cover matters such as extending the delivery date, adjusting the contract price or making changes to the specification. Express consent should be sought from the refund guarantor bank before any changes to the underlying contract are agreed, or the wording of the refund guarantee should be sufficiently broad to allow for changes to the underlying contract.
Buyers must ensure they are fully aware of which payments will be covered under the refund guarantee. Some refund guarantees will only cover instalments due under the contract. The protection will not extend to advance payments of instalments before they were contractually due and other payments made outside the scope of the contract.
A trainee’s role
Trainees at Ince & Co LLP are encouraged to take on as much responsibility as they feel comfortable with, and are involved in most tasks on a case. I recently assisted on a case involving a number of identical sister vessels for delivery from an Asian shipyard worth in excess of US$200 million. My tasks included attending client meetings; drafting correspondence with the clients and their insurers; instructing Counsel; instructing overseas lawyers to advise on local law issues; advising on addenda to the shipbuilding contracts and implications for the refund guarantees; drafting witness statements and drafting the settlement agreement.
The above is a very brief summary and is intended only to give a flavour of the commercial considerations involved in shipbuilding disputes and the type of issues trainees at Ince & Co LLP can expect to be involved in.