Covid-19 and its impact on shipping
The Covid19 Virus
Only two months have passed since the novel coronavirus was detected in Wuhan, China. By 14 February 2020 there were 64,437 confirmed cases of infection (of which 63,855 were within mainland China) and a total number of deaths of 1,383 (95% of which were in the Hubei province where Wuhan is located). Although the epicenter of the outbreak centers around Wuhan, the outbreak has already had a massive impact on the economy in general, including shipping.
Impact on China’s (i.e. global) industries
The response to contain the outbreak has led to a massive reduction in activity in China. The Chinese New Year public holiday was significantly extended, many businesses have closed voluntarily, whereas a lot of other companies have asked their staff to work from home. Given that China is the world’s dominant manufacturing country, this has wide-ranging consequences for the economy at large.
China is the world’s biggest importer of oil and the reduced economic activity there has had a massive impact on the brent crude oil price in recent weeks, going from the recent high of $69 on 6 January to $56 on 14 February. Another impact is the reduced output of goods from China which is disrupting supply chains that rely on for instance parts from China, affecting among others car manufacturers in South Korea and Japan.
Impact on trade, shipbuilding/repair,chartering, finance (i.e. global shipping)
The same development has had a major impact on shipping where China remains the main engine for growth. Reduced economic activity in China means less demand for shipping, especially in terms of commodities to China, and manufactured goods from China. As a result VLCC rates have dropped by 75%, whereas the Capesize Index has gone negative for the first time since it was created in 1999, resulting in considerable losses for owners.
Similarly, in the chemical trade, demand is down considerably whilst storages are being filled. The cruise industry has been brutally hit with bad press due to actual outbreaks and many cancellations. The list is growing.
For the shipbuilding industry many shipyards in China have closed or are operating at reduced capacity. In terms of newbuilding constructions, many shipyards have invoked the force majeure provisions in their contracts. Even where shipyards have remained operational, many Owners’ on-site teams have been urgently pulled back and out of China. This has in turn led to issues pertaining to supervision and sea trials under the shipbuilding contract. Similar challenges we see in drydockings and repairs (with corresponding increases in loss of hire payments for insurance companies). Thankfully, where drydock delays issuance of vessel certificates, certain registries and Class societies show pragmatism and provide extensions to accommodate the delays.
When the vessel’s trading pattern is affected, charterparties will also be impacted. We have seen charterparties risking cancellation due to the delivery port being in China, charterers claiming off-hire due to the virus. Further virus-related issues under charter parties and bills of lading are to be expected, as clauses on ‘deviation’, ‘safe port’, ‘insurance’ and ‘indemnities’ might be put to test yet again.
Second-hand vessel deliveries in China have been significantly inhibited. Owners, managers and crew alike have refused to agree to vessels’ handover and disembarkation in Chinese waters and ports. There will be delays and costs in finding alternative solutions, which might lead to disputes under the MOAs that do not (or could not) address such issues when they were drawn.
Force Majeure by decree?
Businesses in China can request for force majeure certificates if their businesses with overseas partners have been affected by the Wuhan virus outbreak. The China Council for the Promotion of International Trade (CCPIT), accredited with Beijing’s Commerce Ministry, announced the move late on 30 January. Force majeure certificates can excuse parties from not performing their contractual obligations due to extraordinary circumstances beyond their control. CCPIT stated on its website in Mandarin that businesses that have failed to perform on contracts on time or failed to fulfil any international trade contracts can apply for the certificates. The move is meant to safeguard the rights and interests of companies based in China, and to help them reduce losses.
We haste to add, China’s people and administrative systems have not only tried to help protect Chinese business, but has undertaken herculean unprecedented efforts to contain the spread of the virus, for which the entire world owes gratitude and respect of at least equal size. However, here we will focus as to how the law (most often English law) will treat the lack of performance amid the virus threat under the relevant shipping contracts generally.
Force Majeure, frustration, or a pretext?
We need to clarify one thing from the outset: when we refer to force majeure, we refer to a contractual term, not an implied term, that means: contracts not containing a term of this type will not be treated as containing an implied by law «force majeure» clause. Perhaps, most illustrative example in shipping is that of the shipbuilding contract, where force majeure clauses are indispensable, even if its exact language and effect varies from contract to contract.
The force majeure clause aims to provide a party (e.g. the builder) temporary relief from performance of its obligations, upon the occurrence (and for some agreed duration) of one or more events that are defined in the contract as «force majeure» events. Therefore, it is the wording of such contracts that will determine whether the virus qualifies as force majeure for the party relying on such.
Invariably, the wording of a force majeure defines both specific events, as well as genres of event. For example, if there is no specific reference to «epidemic» or «quarantine», other terms in that clause, e.g. «Acts of God», «Acts of Government» or even wider wording «other circumstance beyond the parties’ control», might lend themselves to support the notice of force majeure by an affected party.
There is one very relevant case from the English courts, giving guidance as to the interpretation of force majeure and similar exception clauses. (Note: The scope of this article is not to attempt an in-depth analysis or inspire legal debate, but rather to summarise the few things that are clear.)
What the Court of Appeal in England did make clear (recently, in 2019) in the Classic Maritime v Limbungan Makmur is that: any part relying on force majeure clause or similar exceptions clause will have to prove the «but for» causation. In other words, if when the unexpected and extraordinary «force majeure» event hit a party, that party was not able to perform its obligations anyhow (for example, due to its own unwillingness, incompetence, or other reason within its control), that party cannot rely on the force majeure event. What should also be borne in mind is that there is case law, as well as often also contractual language in such clauses, requiring the party affected by such force majeure events to take all reasonable steps to mitigate the effect of such events.
If a force majeure clause is not found in the relevant contract, or does not apply to the situation in hand, then the common law frustration (or contractual frustration) may provide relief in circumstances where the unexpected event goes to the root of the contract and incapacitates the performance or requires performance of a kind materially different than agreed or envisaged in the contract. Now, to assess whether frustration may apply and whether such an argument may be pursued or be defended against depends on both the facts, and the contracts.
What to do now?
As disruption in China, and by extension, in shipping, is set to continue, all affected (and likely to be affected) are advised to be pro-active and to:
- review applicable force majeure provisions invoked or likely to be invoked
- assess any exercise of such provision, whether appropriately made, notified, and acted upon
- request all information and evidence regarding the circumstances on which such reliance is claimed (it is likely that insurers might need those too)
- consider whether back to back force majeure notices need to be given
- make contingency plans and take any appropriate mitigation steps, and vet those with operational advisors and legal counsel.
We have undertaken a detailed analysis of a number of clients’ contracts and operations affected by the Coronavirus. If you would like further details or an assessment, please contact us.