Amendments to the Shipbuilding Agreement — Modifications

After the construction contract has been concluded, the scope of the work and the price may be changed. Most often they result from deductions from contractual penalties and technical modifications covered by the contract. Today's article will discuss in detail how these changes affect the construction process and the consequences for the parties to the agreement.

The first of the above mentioned circumstances has already been discussed on the Shipyard Portal in the publications: Contractual penalties in the ship building contract and Contractual penalties in the construction of ships: complex liability network and legal implications.

Now let's go to the second category – modifications ("Modifications")

The "Modifications" case under consideration here should be distinguished from the more general situation – the change of contract. The parties to the agreement shall, of course, have the right, at any time, to amend the agreement, provided that the will of the parties to make the relevant amendments is clearly and unequivocally expressed. Ship construction contract forms (and specific contracts based on them) provide precisely, the mode and conditions for effective implementation of such changes (see, for example, Kl. 47 NEWBUILDCON Art. XXXIII "SHANGHAI/CMAC" forms, etc.). A separate issue is the procedure for amending the Shipbuilding Agreement, due to proposals for modification of the technical and operational conditions of the ship, submitted by the shipowner/investor or shipyards, or due to amendments to the classification rules, etc., after the date of entry into force of the contract. Such changes are collectively referred to as "Modifications" (Art. V SAJ; Art. 3 AWES) or "Modifications and Changes" (Cel. 24 NEWBUILDCON; Art. VI SHIP 2000), or finally "Modifications, changes and extra" (Art. XII SHANGHAI/CMAC).

Pursuant to Article V (5) of the SAJ form, ‘Buyer’ (armator/investor), has contractual rights, at any time, after construction has begun to propose appropriate modifications and modifications to the technical specifications of the vessel.

The shipyard, in the first row, has the right to refuse the changes proposed by the ‘Buyer’ if the adoption of changes (and related implications of construction time, etc.) could have a negative impact on the planned investment programme of the yard in connection with another contractual commitment. This is an important starting condition, as stated in the "Hescorp Italia SpA – Morrison Construction Ltd." [2001] 75 Con. L.R. 51 – "The plan of construction on a dry dock is a standard significant "narrow throat""in the general scheme of construction work planned by the shipyard. Any delay in the construction of one ship, having a direct impact on the duration and extent of dry docking activities, and this in turn has an impact on subsequent carried out or planned shipbuilding projects".

The right of the yard to refuse, as a result of the possible negative impact of changes on other shipbuilding contracts (Art. V (1) SAJ form), provided for in Article V (1) of SAJ form, should not be regarded as absolute powers. The general principles of English law explicitly limit the scope of this power to a situation where there are reasonable facts which, with a reasonable and reliable operational and contractual assessment of the impact of such circumstances on the yard’s current and future contractual obligations, justify the yard’s refusal. In the case of ‘Socimer International Bank Ltd v Standard Bank London Ltd’ [2008] 1 Lloyd’s Rep. 558, Lord Rix (J) clarifying the concept (and scope) of ‘decision-making freedom’ in this respect, he pointed out that ‘the option of a decision should be limited, good faith, a rational, honest approach in assessing the current situation in which arbitrary and subjective factors should be excluded.

Clause 24 (a) NEWBUILDCON already, expressis verbis, requires in such circumstances that the assessment of the shipyard ("Builder") be a "reasonable judgment". This clause therefore provides that ‘(...) if in the Builder’s realistic judgment, such modification and/or changes will improve effect on the Builder’s planning or programme in relation to the Builder’s other activities, the Builder Shall notify the Buyer that it declines to give such a proposal for the requested modifications and/or changes (...)’ (translation. ‘(...) If, in a reasonable assessment of the yard, such modifications and/or changes negatively affect the plans or programmes of the yard concerning other (contract) shipyards, the yard should inform the shipowner (the purchaser) that it rejects the proposed changes and/or modifications requested by the shipowner."

In the case of "In re A SOLICITOR (1945)" [19] K.B. 368, the Court of Appeal, clarifying the term "reasonable" (translated "reasonable/justified") – indicated that this must be relativised "in relation to existing circumstances, to which the person is referred, who has known or accepted reasonable, objective criteria, should know the circumstances."

It is therefore appropriate to agree with the doctrine that the standard of reasonableness of the decision of the yard, in the scope considered here, is higher in Kl. 24 (a) NEWBUILDCON than in Article V (1) SAJ forms, with all the resulting effects.

Other standard forms, in principle, introduce a similar criterion to the above, "balancing" between a general entry, similar to Article V (1) SOJ – such as Article VI (1) – SHIP 2000 (Norwegian Standard Forms), to a more detailed (with a requirement, expressis verbis, "reasonable judgment") entry with Article 24 (a) NEWBUILDCON – as in Article XII (1) "CMAC/Shanghai" form, or Article 3 (a) AWES form.

Alongside the condition proposed by the shipowner in all the basic forms (and consequently in almost all the ship building contracts) of the condition of "non-intervention" proposed by the shipowner of changes (and related implications, especially at the time of ship construction), in other shipbuilding obligations, the second commonly used condition is the consent of both parties to the ship building contract (armer and yard) to the scope and nature of the changes proposed by the shipowner and (also important) to the consequences of such agreed changes, in terms of the price of the ship, the date of its construction, and finally other changes in the technical and operational parameters of the building unit.

Let us begin this part, with the "simplest" scenario in which the contracting parties agree to make structural and operational changes in the ship being built. Under general rules common law – the contract may be amended if the offer of amendment of the contract by one of the parties is accepted by the other party. Furthermore, such an amendment must reflect the equivalent benefits of both parties (the so-called "legal consideration"), finally the change made must be a conscious intention to change both parties ("Berry v Berry" [1929] 2 K.B. 316).

In making the relevant amendment (modification) of the contract, it is necessary to bear in mind the (and corresponding change) contractual effects of the agreed changes on other contractual terms. In the first place, this applies to essential terms – objects, prices and dates of construction. What if the parties do not make such changes?

English law, in principle, allows for the possibility of an "implied terms", of certain contractual changes, due to the modification of certain relevant provisions by the parties. And so, in the case where the parties to the contract have determined the ship's structural changes, requiring additional effort from the yard, but have not determined the effects of such additional work, for example, on the price of the ship, can infer to sec. 8 (2) Sale of Goods Act. and to sec. 15 (1) Supply of Goods and Service Act. 1982, demand from the shipowner/investor/"Buyer" the payment of "reasonable price for any additional works" (translation "reasonably justified price for additional work"). As then the "reasonable price" should be established – it is rather a matter of concrete fact than the principles of law. As it appears, it should be an adequate remuneration for the agreed additional scope of work, established in accordance with similar rules (as regards currency, materials, service price, etc.) adopted by the parties to the contract in question, when determining other price components consisting of the current contract price of the vessel.

The second way the shipyard ‘forced’ an additional remuneration, for the agreed modification work (in a situation where the parties have not established the amount of remuneration for t work) is to rely on the English legal institution so-called ‘quantum meruit’ – that is, the right to a ‘right’ remuneration for additional labour and resources incurred by the yard, in connection with such work (‘Hescorp Italia SpA v Morrison Construction Ltd’ [2001] 75 Con. L.R. 51). Price for additional contract work determined according to this rule ("modification"): "should be calculated at a fair commercial rate, taking into account the circumstances involved" ("Greenmast Shipping Co. S.A. v Jean Lion & Cie S.A" [1986] 2 Lloyd’s Rep. 277).

At the same time, interestingly, the price thus set may "include an estimate based on a subjective value for a given page if it is lower than the market value" ("Benedetti v Sawiris" [2013] UKSC 50). In general terms, based on the "quantum meruit" principle, the remuneration for additional work/changes should include specific costs associated with such work, plus the so-called general costs and profit of the yard (calculated on the basis of a fixed flat-rate amount or percentage, determined on the basis of the contract price of the vessel) ("Sanjay Lachhani v Destination Canada (UK) Ltd" [1997] 13 Const. L.J. 279; "ERDC Group Ltd v Brunel University" [2006] EWHC 687 (TCC)).

The "helpful" English law institutions described above, i.e. "implied terms" and "quantum meruit", if they can be, with some certainty, cited under the so-called terms of essential ship building contracts, have a far more limited scope to other contractual terms, which are not of the character of "essentialialia negotii" ("Hull Central Dry Dock & Engineering Works Ltd" v "Ohlson Steamship" [1924] 19 LIL Rep. 54). In the meantime, changes ("modification") determined by contractual arrangements of the parties may have a "caskade" effect on a number of separate rights and obligations of the parties (shipyards and shipowners), concerning the current scope of the construction work, its timing, deadlines and conditions for payment of the supply sequence, etc. Therefore, the contractual technique developed is to establish and specify in a separate (although an integral part of the construction contract) document – the so-called "variation order", the full list of contractual changes and modifications which were caused by the established "modifications".

This form of contract changes, not only allows the precise specification of the agreed changes and their further contractual implications, but equally important is an excellent "provided evidence" allowing, in the event of an ex post establishment, the dispute between the parties about the changes in question to determine their final scope and nature.