Paul Griffiths Partner
Buyer not entitled to reject off-specification fuel oil
Galtrade Limited v. BP Oil International Limited  EWHC 1796 (Comm)
In considering a buyer’s claim for wasted expenditure relating to a cargo of off-specification low sulphur straight run fuel oil (“SRFO”), the Court found that the Buyer was not entitled to reject the cargo and was, therefore, in repudiatory breach of contract. The Buyer’s wasted expenditure in dealing with the cargo was held to be irrecoverable as it was caused by the Buyer’s own repudiatory breach, rather than the Seller’s earlier non-repudiatory breach of contract in supplying the off-spec cargo. The Seller’s own wasted expenditure (including additional costs of hedging) was held to be recoverable by reason of the Buyer’s wrongful rejection, but that claim was to be set off against the notional diminution in the value of the cargo resulting from the Seller’s own breach in supplying off-spec cargo. With the Buyer’s sole basis of claim failing, and the Seller’s claim for wasted expenditure being extinguished by its own breach, both sides were only entitled to nominal damages.
The background facts
BP Oil International Limited (“BP”), as Seller, and Galtrade Limited (“Galtrade”), as Buyer, entered into a contract for the sale and purchase of four parcels of 30-35,000mt of SRFO. Except as specifically detailed, the transaction was governed by BP’s General Terms and Conditions.
BP and Galtrade agreed that the third parcel of SFRO did not comply with the contractual specification of the cargo (in respect of viscosity and sulphur) and it was common ground that BP were in breach of the cargo quality clause in the contract. The dispute concerned the consequences of that breach.
Galtrade purported to reject the third parcel and claim damages for wasted expenditure from BP in respect of the costs incurred in dealing with the cargo as a result of its rejection. BP contended that Galtrade wrongfully repudiated the contract and had no right to reject the parcel, but rather should have simply claimed damages for any diminution in value caused by the breach. In the event, Galtrade returned the cargo to BP without prejudice to their position. Both parties claimed their costs of dealing with the rejected cargo as damages consequent on the other party’s breach.
The Commercial Court decision
In deciding whether Galtrade had a right to reject the cargo and terminate the contract, the Court considered whether BP’s obligation to comply with the contractual specification amounted to a condition or an intermediate term of the contract. If BP breached a condition, Galtrade could reject the cargo and claim damages as well. If BP breached an intermediate term, then Galtrade could only reject the cargo if the breach was sufficiently serious. Otherwise, they would be limited to claiming damages only.
The Court concluded that the obligation to provide an on-spec cargo was an intermediate term, not a condition of the sale contract. Among other things, the contract did not expressly describe the obligation as to quality as a condition and the Court would generally be reluctant to treat a term as a condition unless there were clear indicators that it should be categorised as such. Furthermore, the commercial effect of classifying the term as a condition meant that any deviation, no matter how small, from the guaranteed levels in the specification would then entitle the buyer to reject the cargo. This would place significant risk on sellers and give substantial commercial power to buyers and the Court did not think that this must have been what the parties intended. Further, the expert evidence demonstrated that the market in which the parties operated was able to accommodate cargo of different specifications, whether into refineries, or for blending or for consumption purposes. It did not, therefore, follow that every deviation from specification would necessarily cause sufficiently serious prejudice to the buyer.
The Court accordingly found that the breaches of the quality terms in issue did not go to the root of the contract and were not sufficiently serious as to entitle Galtrade to reject the cargo. The expert evidence undermined Galtrade’s case that it was deprived of substantially the whole benefit or a substantial part of the benefit of the contract. The cargo remained marketable albeit at a reduced price and Galtrade could be compensated for the financial effect of BP’s breach by the notional discount to be applied to the contract price in diminution of BP’s counterclaim.
The Court stated that Galtrade’s rejection amounted to a repudiatory breach which was accepted by BP when they received the cargo back by ship to ship transfer. In the Court’s view, it was Galtrade’s own repudiatory breach which caused Galtrade’s loss rather than BP’s earlier non-repudiatory breach in providing an off-spec parcel. Consequently, Galtrade were only entitled to nominal damages.
The Court upheld BP’s claim for hedging losses in principle but, on the evidence, BP failed to demonstrate that they had in fact actually suffered a loss and so were also only awarded nominal damages.
The Court has provided useful guidance on the classification of quality and specification clauses in commodities contracts and on the status of contractual obligations generally. It demonstrates the importance of expressly describing terms as conditions in the contractual documentation if this is what is intended. The dispute also highlights the dangers of an otherwise innocent party finding itself in repudiatory breach by wrongfully rejecting the cargo and facing a damages claim as a result. The case demonstrates that where there are breaches, but the legitimacy of rejecting is in issue, the safer course may be to accept and claim damages, rather than run the risks of a result such as this. The litigation will have been costly for both parties.