Charterers should be under no illusion that early redelivery of a ship gives them the right to a share of any subsequent ship sale profits
In Fulton Shipping Inc of Panama v Globalia Business Travel, also known as the New Flamenco, the Court of Appeal considered the question of when benefits arising from actions taken to avoid losses are to be brought into account when assessing damages for a repudiation of a time charter.
In particular, they upheld the decision of the arbitrator that a benefit which arose from the sale of the vessel by the owner, following the charterer’s repudiation of a time charter, should be taken into account when assessing damages, since the sale was a step taken in mitigation. In so doing, they reversed the decision of Popplewell J  2 Lloyd’s Rep. 230. Clyde & Co acted for the successful Charterers.
The New Flamenco was a small cruiseship built in 1972. The vessel was chartered in 2004 by Globalia Business Travel from Fulton Shipping. In 2007, the parties met to negotiate an extension. The owner alleged that, in that meeting, a two-year extension of the charter was agreed (up to November 2009). The charterer, who disputed having reached the agreement, redelivered the vessel in October 2007. At the time of redelivery there were no equivalent substitute timecharter fixtures available (i.e. there was no available market). The owner sold the vessel for $23.8m in October 2007.
The arbitrator found that an oral agreement to extend the charter had been reached, and that the charterer had breached that agreement. However, he found that the sale of the vessel in October 2007 was caused by the breach, and was a step taken in reasonable mitigation of damage. He also found that, if the vessel had been sold when the charter was due to come to an end in November 2009, her value would have been $7m, a fall in value of $16.8m. It followed that the charterer was entitled to a credit of $16.8m in respect of the benefit that accrued to the owner by selling the vessel in October 2007 when worth more than it was at the end of the charter period in November 2009. The amount of this benefit, if brought into account, seemed likely to exceed the owner’s loss of profit.
“A fundamental principle is that a claimant who sustains loss is, so far as money can do it, to be placed in the same situation as if the contract had been performed”
Benefits on account
The question on the appeal to the Commercial Court (and to the Court of Appeal) was whether that difference constituted a benefit which, on principles of mitigation and avoidance of loss, should be brought into account. Popplewell J disagreed with the arbitrator and held that it should not.
Popplewell’s conclusion can be summarised as follows:
- the owner’s decision to sell an asset acquired before the breach was not caused by the charterer’s breach and the arbitrator’s conclusion that the sale was, in fact, in reasonable mitigation of the loss could not be conclusive when the sale was caused by the independent decision of the owner to realise the capital value of the vessel (there must be a causative connection between breach and benefit, not merely between breach and mitigating act);
- the fact that the benefit gained was of a different kind (capital as opposed to income) and that the sale was a transaction that owner could enter at any time, were indicative that the benefit was not ‘legally caused’ by the breach;
- if the benefits accruing from the sale were to be taken into account, so should the use of the proceeds, leading to an endless regression; and
- the owner had taken the business risk of acquiring the vessel in 2005 and selling it in 2007, and it would be contrary to public policy to allow the contract-breaking charterers to appropriate the result of the owners’ business acumen.
In delivering the Court’s judgment allowing the appeal and holding that the benefit should be taken into account, Lord Justice Longmore said that “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”.
British Westinghouse principle
The starting point in Longmore LJ’s judgment was the decision of the House of Lords in British Westinghouse Electric and Manufacturing Co Ltd v Underground Electric Railways Co of London Ltd  A.C. 673. The principle which emerges, and which should be sufficient to guide the fact-finder in any particular case, he said, is that, if a claimant adopts by way of mitigation a measure which arises out of the consequences of the breach and is in the ordinary course of business, and such measure benefits the claimant, that benefit is normally to be brought into account unless the measure is wholly independent of the relationship of the claimant and the defendant.
Another important consideration was whether the measure of damage should be the same whether there is or is not an available market. The Court accepted the charterer’s submission that the prima facie case that the measure of damages is to be ascertained by the difference between the contract and the market rate of hire, is only applicable when there is an available market (as in The Elena D’Amico  1 Lloyd’s Rep 75). In that case, a decision to speculate on the market at the date of the breach did not arise from the contract but from the innocent party’s decision not to avail himself of the available market. That thinking, the Court held, cannot be automatically transposed to cases where there is no available market. In such cases, the prima facie measure of loss is the difference between the contractual hire and the cost of earning that hire, but the shipowner cannot claim this measure if he is able to mitigate his loss, and any additional loss or profit arising from such mitigation will be taken into account. He is not, in these cases, speculating on the market, rather he is just bringing into account the consequences of his decision to mitigate his loss.
The Court, therefore, held that the arbitrator was right to rely on The Kildare  2 Lloyd’s Rep 360 and The Wren  2 Lloyd’s Rep 370. In The Kildare, there was no available market at the time of the repudiation, but the market later revived. However, only the actual trading of the vessel (by spot fixtures) could be taken into account, since the decision to trade in the spot market was reasonable mitigation in circumstances where there was no available market. Likewise, in The Wren, the shipowner was allowed to claim damages based on his actual loss, taking into account his actual mitigating actions. The Court also mentioned Spar Shipping  2 Lloyd’s Rep 407 to point out that “compensation for actual loss is the underlying principle”.
In the light of these decisions, the Court of Appeal concluded that when there is no available market, an owner may decide, as well as entering the spot market, to mitigate his loss by selling the vessel, and it is not easy to see why the benefit arising from such a sale should not be brought into account, so long as the sale was one satisfying the British Westinghouse test. Further, it concluded there was no reason why the value of that benefit should not be calculated by reference to the difference between the value of the vessel at the time of sale and its value at the time when the charter was due to expire.
The Court disagreed with Popplewell J’s reasoning that, where the benefit arises from a transaction of a kind which the innocent party would have been able to undertake for his own account, irrespective of the breach, or involve the exploitation of their own assets, that is suggestive that the breach is not sufficiently causative of the benefit. Where the market rate is displaced because there is no market, the British Westinghouse principles apply and one just has to decide whether the sale arose “out of the consequences of the breach and in the ordinary course of business”, and that was what the arbitrator had found. There can be no universal rule that market fluctuations over the period of a time charter should never be taken into account, because this happens when profits from spot charters are taken into account, since their rate vary considerably.
As for Popplewell’s principle that there must be a direct causative connection between breach and benefit, the Court considered that it is not necessary for an arbitrator to spell this out. A sufficient formulation of the causative link is that found in British Westinghouse that the benefit must “arise from the consequences of the breach”.
Lord Justice Christopher Clarke added that if Popplewell’s application of this principle were to be followed, he found it “difficult to see how the third rule [of mitigation] set out in McGregor would retain much of a foothold on life”. The third rule is that, where the claimant does take steps to mitigate its loss and these steps are successful, the defendant is entitled to the benefit accruing from the claimant’s action.
Fair and just
On this point, the Court held that, although some authorities support the principle that it would be contrary to fairness and justice if the defendant were to be allowed to appropriate the relevant benefit when that benefit was the fruit of something which the innocent party has done or acquired for his own benefit, this is not a principle which must be followed in all cases. A more fundamental principle is that a claimant who sustains loss is, so far as money can do it, to be placed in the same situation as if the contract had been performed. The arbitrator had taken considerations of fairness and justice into account when he looked at the case as a whole, and found that the owner had made a considerable profit from selling the vessel by way of mitigating its loss.
The Court of Appeal unanimously provided a robust judgment in the area of mitigation of loss, where, according to the Court itself, “it is notoriously difficult to lay down principles of law”. The fact that the sale of the vessel had been found by the arbitrator to have been a step taken by the owner to mitigate its loss was fundamental to the Court’s decision. However, the Court did not avoid the difficult questions of law presented by the case, providing, in particular, useful guidance in assessing damages in cases of repudiation of a charter where there is no available market.
Elizabeth Turnbull is a partner at Clyde & Co. She has an international practice with an emphasis on transportation, trade, commercial and insurance work. She can be contacted on +44 (0) 20 7876 5000 or firstname.lastname@example.org. Marcia Perucca is an associate at Clyde & Co.