Breach of contract – Damages – Charterparties – Ships

Transfield Shipping Inc v Mercator Shipping Inc: HL (Lord Hoffmann, Lord Hope of Craighead, Lord Rodger of Earlsferry, Lord Walker of Gestingthorpe, Baroness Hale of Richmond): 9 July 2008

The appellant charterer (T) appealed against a decision of the Court of Appeal ([2007] EWCA Civ 901, [2008] 1 All ER (Comm) 685) upholding an arbitrators’ ruling on the damages to which the respondent shipowner (M) was entitled following the late return of the ship which T had chartered from M.

M had let out its ship to T for a period of five to seven months, to end no later than midnight on 2 May 2004. T notified M that the ship would be back no later than then. M therefore contracted to let the ship to new charterers for a period of about four to six months, promising that they could have the ship no later than 8 May 2004. The agreed price of hire was $39,500 a day. The ship was delayed on its last voyage and M did not get its ship back until May 11, 2004. The new charterers agreed to take the ship, but by then the market had fallen sharply and they would only take it at a reduced price of $31,500 a day.

The issue before the arbitrators was whether T was liable to pay only for the use of the ship for the number of days that it was late at the market rate then prevailing or whether, as M had argued, T was liable to pay the difference between what M would have got from the new charter had the ship been returned in time and what it in fact got. The arbitrators, by a majority, adopted the latter approach.

They concluded that the loss on the new fixture fell within the first rule in Hadley v Baxendale 156 ER 145 Ex Ct as arising ‘naturally, ie according to the usual course of things, from such breach of contract itself’. It fell within that rule because it was damage ‘of a kind which the [charterer], when he made the contract, ought to have realised was not unlikely to result from a breach of contract [by delay in redelivery]’. The dissenting arbitrator did not deny that T would have known that M would be very likely to enter into a following fixture during the course of the charter and that late delivery might cause that fixture to be lost. However, he concluded that a reasonable man in T's position would not have understood that he was assuming liability for the risk of the type of loss in question. He stated that the general understanding in the shipping market was that liability was restricted to the difference between the market rate and the charter rate for the overrun period and that ‘any departure from this rule [is] likely to give rise to a real risk of serious commercial uncertainty which the industry as a whole would regard as undesirable’.

Held: In accepting M’s submission that what mattered was that the type of loss claimed was foreseeable, the majority arbitrators had applied too crude a test and it was an error of law to adopt it. The common basis on which the parties had contracted was essential to the rule in Hadley as a whole.

In Koufos v C Czarnikow Ltd (The Heron II) [1969] 1 AC 350 HL their Lordships had had well in mind that it was not simply a question of probability but also of what the contracting parties had to be taken to have had in mind, having regard to the nature and object of their business transaction. What mattered was whether the common intention of reasonable parties to a charterparty of this sort would have been that, in the event of a relatively short delay in redelivery, an extraordinary loss, measured over the whole term of the renewed fixture, was, in the words of Lord Reid in The Heron II, ‘sufficiently likely to result from the breach of contract to make it proper to hold that the loss flowed naturally from the breach or that loss of that kind should have been within [the defaulting party's] contemplation’. That would not have been the common intention of reasonable contracting parties. It was contrary to the principle stated in Victoria Laundry (Windsor) v Newman Industries [1949] 2 KB 528 CA, and reaffirmed in The Heron II, to suppose that the parties were contracting on the basis that T would be liable for any loss, however large, occasioned by a delay in redelivery in circumstances where it had no knowledge of, or control over, the new fixture entered into by M.

Appeal allowed.

Dominic Kendrick QC, Benjamin Parker (instructed by Swinnerton Moore) for the appellant; Simon Croall QC, Ruth Hosking (instructed by Bentley Stokes & Lowless) for the respondent.