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15 May 2017

The Ocean Victory judgment - A cause for concern for insurers wishing to pursue subrogated claims

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The Supreme Court’s recent judgment on safe port warranties includes a decision on the insurance cover of The Ocean Victory which is a cause for concern for insurers wishing to pursue subrogated claims.

Facts

The owners of the bulk carrier Ocean Victory entered into a bareboat charterparty on an amended Barecon 89, clause 12 of which provided that the bareboat charterers were to purchase insurance against marine, war and P&I risks, with both owners and bareboat charterers named as co-insureds.

The bareboat charterer sub-chartered the vessel to a third party (the sub-charterer). Each charterparty contained a safe port warranty.

Sub-charterers ordered the vessel to discharge at Kashima, Japan. Before discharge was completed, swell caused by "long waves" endangered the vessel's mooring. When the master decided to leave the port, the vessel was subject to winds of up to Beaufort Scale 9 while exiting the port along the Kashima Fairway. The vessel had limited room to manoeuvre in the Fairway, foundered on the breakwater and eventually broke up and became a total loss.

The vessel had been subject to a rare combination of events: (a) swell generated from the "long waves" (a phenomenon affecting ports around the Pacific rim) and (b) very severe northerly gale force winds. This placed the vessel in a difficult situation: the swell made it potentially unsafe for the vessel to remain at berth, while the gale force winds made the Kashima Fairway (the only way in or out of the port) unsafe to navigate safely.

Kashima is a modern port. It is one of the largest in Japan and has a good safety record. While it is sometimes exposed to swell from "long waves" and while severe northerly winds could affect the navigability of the Fairway, this was the only time such an incident had occurred in the port's 35 year history.

Hull and machinery insurers paid the claim and tried to pursue a subrogated claim against the sub-charterers for breach of the safe port warranty in the sub-charterparty. The underwriters' claim totalled USD137.8 million. This sum was made up of the market value of the vessel, salvage costs, wreck removal and loss of earnings.

The issues

The main issue before the Court was whether the charterers were in breach of the safe port warranty. The Supreme Court upheld the Court of Appeal judgment and concluded that Kashima was a safe port. The combination of the long waves and high winds was an abnormal occurrence and not a characteristic or attribute of the port. The charterers were therefore not in breach of the safe port warranty.

As a result of this decision, the Supreme Court did not need to reach a conclusion on two further issues that had been argued before them. However, they did so anyway because the points were of general importance. Their decision on both issues was based on the premise that charterers were in breach of the safe port warranty.

The first of these issues was whether the sub-charterers would be able to limit their liability in respect of any claim from the subrogated insurers, Gard. This had not been argued in the Court of Appeal, because that court was bound by the decision of the Court of Appeal in The CMA Djakarta (CMA CGM S.A. v Classica Shipping Co. Ltd [2004] 1 Lloyd's Rep 460).

The Supreme Court confirmed The CMA Djakarta and held that Article 2(1)(a) of the 1976 Limitation Convention which limits liability for loss or damage "occurring on board or in direct connexion with the operation of the ship", did not apply to loss or damage to the vessel itself.

The insurance issue

The second issue of general importance was whether Gard, having paid out for the loss of the vessel, was entitled to bring a subrogated claim against sub-charterers for breach of the safe port undertaking in the sub-charterparty. Teare J. at first instance had said that they were. The Court of Appeal disagreed and held that clause 12 of Barecon 89 meant that the parties had agreed that there would be an insurance funded outcome to any loss or damage. The bareboat charterers did not therefore have any loss to which the insurers could be subrogated.

Until this issue, the Supreme Court decisions on the matter had been unanimous, but here the unanimity ended. Toulson SCJ gave the majority decision, supported by Mance and Hodge SCJJ. Sumption and Clarke SCJJ were the dissenting minority.

All the judges agreed that the general principle between co-insureds was that none can claim against another in respect of an insured loss. The difference in opinion arose as to why this was the case. This was a question of construction of the contract.

The majority agreed with the Court of Appeal that "the proper construction of clause 12 was that there was to be "an insurance funded result in the event of loss or damage to the vessel by marine risks" and that, if the demise charterers had been in breach of the safe port clause, they would have been under no liability to the owners for the amount of the insured loss because they had made provision for looking to the insurance proceeds for compensation. It did not consider that the introduction of clause 29 [the safe port undertaking] was intended to alter the way in which clause 12 was to operate."

The commercial purpose of joint insurance was to provide a fund to make good the loss and avoid litigation between the owner and demise charterer. Clause 12 therefore provided a comprehensive code that dealt with the risks of loss or damage to the vessel and what was to happen in such an event. It applied irrespective of any question of fault for the loss or damage. As a result, the bareboat charterer had no liability to the owner of the vessel in respect of the subject loss. Accordingly, in circumstances where bareboat charters incurred no liability to owners for any breach of the safe port warranty, bareboat charterers would not have suffered any loss in respect of which they could advance their own claim against time charterers. In turn, underwriters would find themselves in the same position.

The minority judges took the view "the insurers were bound ..to pay [the vessel's] insured value to the head owner…But the natural inference from (i) the fact that the demise charterer is insured for his interest in the ship, (ii) the implied prohibition of claims for damages between the co-insured for loss of or damage to the ship, and (iii) the avoidance of double recovery, is that the insurer's payment to the head owner makes good the head owner's loss not just as between the insurer and the head owner but as between both of them and the demise charterer. The demise charterer's liability under the demise charter for the loss of the ship has not been excluded. It has been satisfied." Insurers should therefore be able to bring a subrogated claim against sub-charterers.

Comment

The outcome is surprising and is a cause for concern for all insurers issuing policies with multiple insureds that wish to pursue subrogated claims. Fortunately, there is some light at the end of the tunnel for insurers:

  1. The insurance aspects of the case were obiter (the outcome of the case being decided on the safe port point) and, although influential, are not binding as legal precedent.
  2. Even if fully applied, the reasoning is only able to bar contractual claims; non-contractual claims such as claims in negligence or bailment will still be possible. Further, it will only do so where on the correct construction of the relevant contract, the rights have been waived.
  3. The decision was a majority decision of 3:2. The minority of the Supreme Court (the highly regarded Clarke and Sumption SCJJs) considered that insurers should be able to pursue the subrogated claim for breach of the warranty. It remains highly arguable that the reasoning of the minority is correct. Typically, whether a party has insurance is, facing the wrongdoer, a matter res inter alios acta (roughly none of his business) a point relied on by Lord Sumption. Although there is no binding precedent on the point, there is every reason to extend this principle to situations where the insurers of co-insureds are looking to pursue a subrogated claim against a third party.
  4. For reasons which are not fully explained in the judgment the insurers pleaded their claim on a narrow basis (that charterers had a liability to owners, which in turn enables charterers to claim down the line); a point emphasised by both Lord Sumption and Lord Mance. In many cases it should be possible to circumvent the hurdle posed by the Supreme Court’s judgment by the careful pleading of insurers’ subrogated claim.

Overall, the case creates a potential obstacle for insurers of co-insureds wishing to pursue a subrogated claim. The obstacle is unlikely to be a bar to most claims, provided the matter is considered properly at an early stage.

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Alex Davis

Alex Davis
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Simon Moore

Simon Moore
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