The following article discussing potential breach of shipbuilding contracts due to IMO 2020 has been written by Beth Bradley and John Agapitos of international legal firm Hill Dickinson; it has also been shared with Manifold Times:

Since the adoption of the 0.50% m/m maximum global limit on sulphur content by the IMO in October 2016 much consideration has been given to the practical and legal challenges facing shipowners in meeting the global limit effective from 1 January 2020. However, there has been little focus on the potential impact on shipbuilders, specifically their potential exposure for breach of contract. 

Regulation 14.1.3 Annex VI of the Marpol Convention applies directly to shipowners, reducing the permissible sulphur content of fuel on board intended for use as bunkers from 3.5% to 0.50% m/m (the ‘sulphur cap’), in addition to Regulation 14.4.3 which remains in effect and applies in emission control areas where the permissible sulphur content is 0.10% m/m.

Guidance on the implementation of Regulation 14.1.3 names shipbuilders as interested parties to which the Regulation applies.

Consequently, shipbuilders may be liable for fines in circumstances where, for example, sea trials are taking place should the fuel being consumed violate the sulphur cap. However, shipbuilders may also be exposed to claims for breach of contract as a consequence of the implementation of Regulation 14.1.3.

One area of potential concern relates to the shipbuilders obligations in relation to class and ‘other regulatory bodies’ after 1 January 2020.

There is, as yet, no published guidance or commentary in this regard, consequently, while it is not known whether it will be more difficult to obtain class approval from 1 January 2020 for vessels which are built without emission abatement technology on board (and it can probably be safely assumed that at least to begin with it probably will not be) there are risks. Will class, for example, make recommendations, restrictions or qualifications in relation to newbuildings delivered in an area where there is an issue concerning the availability of compliant fuel? Will there be seaworthiness issues if there are doubts about the availability of compliant fuel? Will some classification societies decide to approve only vessels with scrubbers on board? Or, as more ports ban the use of open loop scrubbers, will a newbuild with open loop scrubbers struggle to obtain class approval? May there be conditions or recommendations on the class certificate? These could lead to knock-on claims.

The approach of class and other regulatory bodies in this regard is important (and may become increasingly so) since the shipbuilder usually commits to delivering a vessel which is compliant with rules, regulations and requirements.

Under Article I of the Shipbuilders’ Association of Japan form of shipbuilding contract (‘SAJ Form’) the builder commits to deliver a vessel which complies with rules, regulations and requirements of Class and other regulatory bodies in force as at the date of the contract. (By contrast the Newbuildcon places this obligation at the date of delivery.)

Arguably therefore the approach of class in this regard will only bite on those contracts on the SAJ Form entered into after 1 January 2020. But, Article V SAJ Form provides a mechanism to change the vessels’ specifications in response to compulsory and non-compulsory changes in class requirements or regulations during the build (Articles V.2(a) and V.2(b) respectively) accordingly it is potentially relevant to all contracts on the SAJ Form where delivery is due after 1 January 2020. Until it becomes clear whether there will be additional issues in relation to obtaining class and other regulatory bodies’ approval, there is a risk of increased exposure to costs and delays for the builder arising out of requests for alterations in the specification, particularly those which are non-compulsory.

A further, perhaps more pressing issue, arises from the characteristics of low sulphur fuel. The experience in the emission control areas suggests that low sulphur fuel has different performance criteria to high sulphur (higher consumption and lower speeds) and that there can be ignition issues and compatibility issues.

In Article III of the SAJ Form the builder warrants (among other things) the fuel consumption and speed by reference to the engine’s rating and power output, the agreed minimum specification of bunkers and draft. It further provides for the price to be adjusted and the buyer to claim liquidated damages or, in the worst case, cancel the contract for breach.

In circumstances where performance is being warranted without reference to the properties of low sulphur fuel (particularly with the added challenge that not all low sulphur fuels behave in a uniform way), the builder may be exposed unless there has been a careful adjustment to the contractual performance parameters to bring them in line with the likely characteristics of low sulphur fuel, or an amendment to the warranty to account for different performance on the basis of low sulphur fuel.

Since it is also known that low sulphur fuel can cause ignition issues and may have compatibility issues, both of which may affect the smooth running of sea trials, the shipbuilding contract should be amended to deal with the technical challenges which may arise, such as ignition failure, in order to keep the parties’ obligations intact.

The IMO 2020 and the sulphur cap is certainly going to impact on the shipping market as a whole. The challenges that builders will face are largely practical in nature, but also commercial and legal. This is an area which will, no doubt develop once the new Regulation takes effect.

Source: Hill Dickinson
Published: 30 October, 2019