Joanna Steele Partner
Measuring profit or loss under long term contracts of affreightment
Palmali Shipping SA v. Litasco SA  EWHC 2581 (Comm)
It is often difficult to calculate damages where it is alleged that the charterer has failed to perform a long-term contract of affreightment (“COA”). The calculation can become even more complicated where the owner under the COA owns no vessels but contends that it would have performed the contract in part using the services of vessels owned by group companies.
In this case, in a slightly unusual procedural step, the Court was asked to look at the way in which a damages claim had been put forward at a summary judgment application prior to the main trial in relation to liability. This involved an analysis of the appropriate approach to damages calculations and consideration of a relatively untested English law concept: the transferred loss principle.
The background facts
Palmali Shipping SA (“Owners”) were pursuing a claim of approximately US$1.9 billion against Litasco SA (“Charterers”) for losses arising from alleged breaches of a long-term COA. The Charterers denied all liability.
As part of their loss calculation, the Owners calculated the expenses that would have been incurred had the COA been performed and which would have been deducted from earnings under the COA. The Owners assumed that certain shipments would have been performed by vessels owned by other entities in the broader corporate group (“Owning Companies”).
For these vessels, the Owners’ calculation involved deductions only for bunkers and port charges, but nothing in respect of hire, freight or demurrage for the use of the vessels.
This calculation contradicted the ship management agreements (“SMAs”) entered into by the Owners with certain Owning Companies and which the Owners had disclosed in the proceedings. Under those SMAs, the Owners would be responsible for entering into fixtures on behalf of the Owning Companies, passing any revenue to them and retaining only a 2.5% commission.
Furthermore, the Owners’ own evidence was that whenever a COA voyage was completed by one of these vessels, the Owners would invoice the Charterers for freight, and the relevant Owning Company would in turn invoice the Owners for freight. This was clearly a different arrangement to the Owners’ pleaded case that they would be able to utilise such vessels effectively for free. However the Owners submitted that, in practice, they would not be required to settle the intra group debt represented by the freight invoice from the Owning Company.
The Charterers applied for summary judgment dismissing the Owners’ loss calculation in relation to these vessels. The Owners applied to amend their claim to pursue recovery of any losses incurred by the Owning Companies under the principle of transferred loss in the event that the summary judgement application succeeded.
The Commercial Court decision
As the Charterers’ application was for summary judgment, it was not necessary for the Owners to prove that their arguments would ultimately succeed, only that there was a serious issue to be decided at a full trial. However, despite this relatively low bar, the Owners’ arguments were rejected.
Firstly, the Court noted that when determining the loss a claimant has suffered, it is necessary to take account not only of expense caused or benefits lost by a breach, but also expenses saved and benefits obtained as a result of the breach. In this case, however, the Owners were asking the Court to ignore what it accepted were valid liabilities owed to the Owning Companies. This was simply not supported by the facts.
The Owners’ application to amend their case to bring in a claim for losses suffered by the Owning Companies in respect of their vessels was similarly rejected. The Owners had argued that the claim would fall within the scope of the transferred loss principle as formulated on its broadest basis:
“when one contracting party (B) has promised another (A) that it will confer a benefit on a third party (C) but does not do so. If A has a "performance interest" in the performance of B's promise, A can recover damages in the amount of the cost of providing C with the promised benefit.”
Previous English Court decisions have differed on whether the transferred loss principle is as broad a concept as this, or whether it is more properly confined to contracts relating to property – and restricted to claims where it was foreseeable that damage caused by breach of a contract relating to property would cause loss to a later owner of the property. The courts have, however, acknowledged that there could be cases where a contracting party should be able to recover a third party’s loss “to give effect to the object of a transaction and avoid a legal black hole”.
This was not the case here, however. The transferred loss principle required that a common intention and/or known object of the parties to the COA would be to confer a benefit on the Owning Companies. No benefits would be bestowed by the Charterers on the Owning Companies through the COA - such benefits would be bestowed purely by the Owners’ decision to contract with those entities. To argue otherwise was unrealistic.
Further, the transferred loss principle demands that the party whose loss is being claimed has no direct remedy to recover that loss. However, if the Owners had finalised contracts with the Owning Companies, the Owning Companies would have a direct action against Owners for their losses. The transferred loss principle, therefore, could not apply. If the Owners had not finalised contracts with the Owning Companies, then the loss that the Owners would seek to recover would be the Owning Companies’ lost opportunity to enter a contract – and the Court concluded that no authority stretched the transferred loss principle so far.
This decision is a reminder that calculations of loss must be backed by factual evidence. It also highlights how tricky an exercise that can be when dealing with the affairs of a group of companies with the same ultimate beneficial owner. The Court had evidence of the careful documenting of liabilities and obligations between group entities, which appeared to directly contradict the Owners’ case, and which the Owners did not claim were sham. It is perhaps unsurprising, therefore, that the Court was unwilling to disregard the legal form of those arrangements.
So far as the transferred loss principle was concerned, the Owners’ arguments were adventurous, but in the end serve to remind us that although this area of law is still developing, even its broadest formulation will only have limited application. Meanwhile, the case continues.