"The Sellers cannot risk to take delivery from, the shipyard, and then face a rejection by the Buyers"

Purchase of Vessels during construction

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SVW has on several occasions assisted on transactions where a vessel is still under construction at a shipyard when the "Buyer" under the Shipbuilding Contract enters into a MoA for the sale of the vessel immediately after delivery from the Shipyard. This raises several issued which both a Seller and a Buyer must consider, and which are not covered by the standard saleforms usually used for sale and purchase of vessels.

Introduction:

SVW’s shipping team has in a series of articles during 2020 focused on various elements of the standard sale and purchase contracts for vessels. A link to these articles can be found here. However, the standard contracts covered by such articles are drafted with the intent to cover sale and purchase of second hand tonnage.

SVW has extensive experience with sale of vessel which are still under construction. There might be several reasons for such sales. In a marked where vessel values are rapidly increasing, a shipowner may see the opportunity to secure a profit of a vessel not yet in operation if the market value is well above the contract price under the shipbuilding contract. We have also seen newbuildings contracted on speculation in anticipation that the values will increase before delivery. It may also be that the shipowner loses an employment contract and thereby has no use for the newbuilding in his fleet, or that financing is lost or other financial issues force the contracting shipowner to sell the vessel before she is completed. We have also seen buyers having identified a particular vessel under construction as suitable or necessary addition to their fleet and decide to make a favorable bid for that vessel rather than wait for an available shipyard-slot or engage in lengthy negotiations for a new vessel.

Background:

The Sellers will have all risk during the construction phase, hereunder the risk that the Shipyard cannot deliver on time or that the vessel will not comply with the requirements and specifications under the Shipbuilding Contract, but may secure a profit (or reduce losses) by being able to sell the vessel immediately upon her delivery from the Shipyard.

An option would be to purchase and take over the shipbuilding contract, but this will require the cooperation of the shipyard and would also mean that the Buyers must take over project management, supervision, supplies etc. Also, we have seen examples where a Buyer is not willing to take the construction risk on the shipyard, but is willing to pay extra for the vessel when completed and delivered in accordance with the specifications. Below we will focus on sale and purchase of vessels with delivery after completion and delivery from the shipyard.

For a contract in respect of the sale and purchase of a vessel still under construction when the sale and purchase contract is concluded, the parties must carefully consider additions and amendments to the standard form. As per today, there is no standard form designed to cover sale and purchase of vessels still under construction.

Saleform 2012 is not very suited for such sale and purchase. We have still used this form as a basis, but with substantial amendments and supplements. Many of such amendments are  inspired by similar provisions in other standard contracts, such as Barecon (standard contract for bareboat charterparties, specifically its provisions in Part III, for bareboat charters entered into while the vessel is under construction.

Points to note for the Sellers:

From the Sellers’ side, it may be important to secure a higher Deposit. Often, there is a long time period from signing of the MoA until delivery. In shipping, a lot can happen in respect of market and values on relatively short time, and a long period between signing and delivery increases this risk. With a low Deposit, it might be more attractive for a Buyer to walk away, leaving the Deposit behind, than take delivery of a vessel which is significantly reduced in market value. The Deposit will then just be a sort of option premium to be able to secure the vessel if the market is favorable. Obviously, the Buyers will be exposed for damages beyond the Deposit, but if the Buyers are single purpose companies without other assets, there is nothing left for the Sellers to collect. Hence, the Sellers should also consider the substance of the Buyers (is it a single purpose vehicle or a company with substance), and if necessary require guarantees.

Further, a Seller needs to secure that the MoA is back to back with cancellation dates in the Shipbuilding Contracts, potential extensions etc. This includes permissible delays due to Force Majeure etc. Force Majeure is not a term used in Saleform 2012. Either the cancellation date in the MoA must be the longest possible cancellation date under the Shipbuilding Contract, or the MoA must have similar provisions regarding extensions for delays, including force majeure delays, or the cancellation date in the MoA must simply refer to a situation where the Sellers are in position to cancel the Shipbuilding Contract as per its terms.

For extensive delays, the Sellers will at some point be entitled to terminate the Shipbuilding Contract. The Buyers should not be entitled to terminate the MoA before that time. On such date, the Buyers should have a right to cancel the MoA, but the Sellers still be entitled to either continue the Shipbuilding Contract for own account or cancel as the Sellers’ deem fit. Upon such cancellation, the Sellers will normally not receive any liquidated damages from the shipyard, and often no other damages. If so, back to back must be secured under the MoA towards the Buyers and the Buyers have no right to compensation if they want to cancel due to Shipyard’s delay.

The condition of the vessel required under the MoA must be as per the Shipbuilding Contract, not references to inspection, class etc. The Buyers should be required to state in advance of delivery (after Sea Trials) if they find the vessel to be in compliance or not in order for the Sellers to be able to raise the same issues with the Shipyard before accepting delivery. Back to back response/notice periods should be secured between the MoA and the Shipbuilding Contract. The Sellers cannot risk to take delivery from, the shipyard, and then face a rejection by the Buyers. However, the Sellers will risk that the Buyers make unjustified claims, and the Sellers must then consider if it will fight these against the Shipyard and refuse delivery, or take delivery and fight the claims against the Buyers.

Points to note for the Buyers, but also Sellers:

The Buyers will have an interest in the ongoing construction of the vessel. The Buyers should consider requiring placing their own representative at the yard as part of Sellers’ on-site team. Also, the Buyers should require a right to attend tests and trials. This will actually be an advantage for both Buyers and Sellers as the Buyers then can raise any questions and claims during the construction phase and give the Sellers a chance to raise the same with the Shipyard. The Buyers’ should also require to approve change orders etc.

Liquidated damages should also be solved. The Sellers will typically receive liquidated damages from the Shipyard for delays, deficiencies in speed, consumption etc. As long as the risk for such delays and deficiencies is transferred to the Buyers, it is reasonable that the Buyers also receive the liquidated damages from the yard as reductions of the purchase price. Again, this is a point which also could be beneficial to the Sellers as the Sellers can then implement an obligation for the Buyers to accept the vessel which such deficiencies against the agreed liquidated damages. Also liquidated damages for delays should be credited to the Buyers as reductions of the purchase price. As the Buyers are the end-users of the vessel, the delays will be a burden to the Buyers. However, there might be some finance costs on Sellers’ hand which should be considered.

The Buyers may also want to secure a right to prevent the Sellers to terminate the Shipbuilding Contract or initiate a dispute with the Shipyard without Buyers’ consent. However, the Buyers should then also be prepared to take over the Shipbuilding Contract if possible. The Sellers must secure that they are not locked in with a Buyers refusing to allow termination while the Buyers have no risk until the Buyers actually takes delivery. We have experienced situations where the Shipyard is substantially delayed, and the Sellers will need to withdraw and claim under Refund Guarantees before they expire. The Sellers must have a right to do so without facing claims from Buyers, unless Buyers take out the Sellers.

The Sellers will under the Shipbuilding Contract normally receive a warranty of quality for a period after delivery (normally 12 months). It is important for both parties that this is properly transferred to the Buyers so the Buyers can relate directly to the Shipyard and the Sellers be out of the transaction after delivery. However, it might be that the Sellers must accept to act as an intermediary, but the parties must in any event procure that the Shipyard cannot disclaim warranty on account of Sellers no longer being the owner of the vessel.

Summary:

Unfortunately, we have seen contracts where the parties and/or brokers have considered this a straight second-hand sale and have used the standard saleforms without the necessary adjustments. A sale and purchase contract for vessels under construction needs careful coordination of the terms of the ship building contracts against the terms of the sale and purchase contracts, and also other risks to consider than an ordinary second hand sale. SVW’s shipping team has extensive experience with these issues and has developed custom-made contracts for such transactions.