Should reciprocal indemnities in shipbuilding contract be operative regardless of fault or qualified by exceptions?

In the shipbuilding and offshore industry, the risk of loss or damage to property, personal injury including fatal injury and disease are frequently allocated by means of "knock for knock" or reciprocal indemnity in the contract. Essentially, this means that respective parties undertake responsibility for loss or damage to their own property or for injury or death to their own employees and identified parties.

Thus, in the case of Caledonia North Sea Limited v British Telecommunications Plc (Scotland) and others [2002] UKHL 4, Lord Bingham, commenting on the market practice to take account of the peculiar features of offshore operations, referred to an article on the standard practice during construction as described by Sharp, Offshore Oil and Gas Insurance (1994), p 108:

"(iv) Injury or Death of Employees

The position in respect of employers' liability is invariably dealt with by the exchange of mutual indemnities in respect of injuries to or deaths of employees. There is perhaps a simple reason for this.

If an individual is injured, he will expect to have a right to sue any party who may have been guilty of negligence leading to the circumstances which caused the injury. This party may be another contractor, the principal or his employer, or any combination of all three. The issue can become complicated by reason of contributory negligence.

Determining liability and awarding costs can be a lengthy process in these circumstances, and this can only add to the anguish of the injured party, or the dependents of the deceased who may have been the sole breadwinner. The employer, therefore, accepts a responsibility to provide for his employees and will generally give the party with whom he is contracting a full indemnity in respect of any suit or action brought against that other party".

A similar practice is customary when the installation has become operational see Sharp, p 277:

 "Again, in an offshore context, the liability of an oil company for loss of life or personal injury is invariably going to be governed by a contract, either with another party carrying out services in or about the installation or drilling rig, or with an employee, or a party providing consultancy services. It is usual for such contracts to leave the responsibility for damages or compensation with the party employing the injured person.

Nevertheless, there are many situations where a genuine third-party position will exist. A contractor's employee, if injured on a platform as a result of an incident for which he was, himself, blameless, will have an action for damages against the platform owners. The platform owners may, in turn, be indemnified by the contractor, but in the first instance, the action lies against the platform owners. Such a position arose in the case of the 'Piper Alpha' casualty, as a result of which compensations were sought from the Operator and its co-venturers for significant amounts. A third-party position will also exist as between one contractor's employee and another."

 Allocation of Liabilities

The preferred view in some circle is that such indemnity should allocate liability between the parties, regardless of fault. This ensures certainty, is cheaper and also avoid costly and protracted litigation following an accident.

 On the opposite end, there are others who prefer to modify the customary reciprocal indemnity by adding that the indemnity will be inapplicable in the event of “negligence” “gross negligence” [1] or “wilful misconduct” [2] of the party which would otherwise be indemnified. See also exceptions in NEWBUILDCON cl 37 (f)) & (g). Such exceptions essentially erode the element of certainty - leaving it to the court to decide on the circumstances which must be weighed in the balance to ascertain liability, thus providing ample avenue for costly, time-consuming legal wrangling.

 Does such indemnity provision cover losses due to negligence?

In the case of Walters v. Whessoe Ltd and Shell Refining Co. Ltd [1960] CA (Civil Division) 6 Build LR 23, it was held that: “... indemnity will not lie in respect of loss due to a person’s own negligence or that of his servants unless adequate and clear words are used or unless the indemnity could have no reasonable meaning or application unless so applied…” per Sellers LJ.

A three-part test was enumerated by the Court in the case of Canada Steamship Lines Ltd v R [1952] 1 Lloyd’s Rep 1 at p 8, col; [1952] AC 192 at p 208 as follows:

(1) Where a clause expressly exempts a person in whose favor it is made from the consequence of the negligence of his own servants, then effect must be given to such a provision; (2) In the absence of any expressed reference to negligence the court will consider whether the words in their ordinary meaning are wide enough to cover the negligence of his own servants; and (3) Where the words used are wide enough for the above purposes then the court must consider whether there is another head of damage on which to base the claim other than negligence.

In EE Caledonia Ltd v. Orbit Valve Co PLC, CA 1 All ER 174, [1994] 1 WLR 1515, [1994] 2 Lloyd’s Rep. 239. (Arising from the unfortunate Piper Alpha platform disaster in the North Sea), the plaintiffs, EE Caledonia Ltd settled a claim for the death of an employee of Orbit Valve and proceeded to claim reimbursement from Orbit under an indemnity clause.

The Court of Appeal stated that "the prima facie implausibility of a party agreeing to release the other from liability for negligence or assuming liability for the consequence of the other's negligence". The indemnity clause did not contain an express provision that it would apply, even if the loss in question was caused by negligence. Consequently, EE Caledonia's claim failed as the death was caused by their own negligence. On the question whether the relevant clause included an indemnity for breach of statutory duty as opposed to negligence, it was held that the clause should be construed as providing that the indemnities are not applicable if the event in question had been caused not only by a party's breach of statutory duty but also by his negligence.

Exclusion for Negligence

Thus, where a party wishes to avoid the consequences of its liability for negligence under an indemnity clause, the language expressed must be certain and clear.

Drafting

Even where the customary practice is known to most in the industry, such indemnity clauses must be crafted with certainty and precision to minimize costly and time-consuming litigation.

Some salient examples:

Campbell v Conoco (UK) Ltd and others [2002] EWCA Civ 704 – Where subcontractor Salamis SGB Ltd, unsuccessfully disputed liabilities on cross-indemnity gave to contractor (Amec Process and Energy Ltd)].

Caledonia North Sea Limited v. British Telecommunications Plc (Scotland) and Others [2002] UKHL 4 - where the contractors unsuccessfully relied on three defenses that: (a) They could not be liable to indemnify the operator unless they had themselves been liable to their employee, on grounds of negligence or breach of statutory duty; (b) As the action was a subrogated claim, their liability to the operator has been discharged by the payments made by the underwriters, and (c) Disclaimer of "indirect or consequential losses suffered.

Subsidiary and Affiliate

Where shares of an Affiliate has been given to a bank and registered in the name of the bank, the affiliate will not be able to rely upon the indemnity in the event of a casualty.

Thus, in Farstad Supply A/S (Respondent) v Enviroco Limited (Appellant) [2011] UKSC 16 Farstad, chartered their vessel to Asco UK Ltd, (a wholly owned subsidiary of ASCO plc). Under the charterparty, both Companies agreed to indemnify and hold each other harmless in relation to certain liabilities. Farstad further agreed to indemnify Asco UK Ltd’s “Affiliates”.

Enviroco (another wholly owned subsidiary of ASCO plc) was contracted to clean the oil tanks of the vessel. In the process of such work, a fire occurred causing the death of one of Enviroco’s employees and substantial damage to the vessel. Farstad sued Enviroco for the losses it allegedly suffered. Enviroco relied on the indemnity clauses in the charterparty on the basis that it was an “Affiliate” of Asco UK Ltd because each of them was a subsidiary of ASCO plc.

Before the incident, ASCO plc had given the Bank of Scotland security over its shares in Enviroco by registering the shares in the name of the bank (or its nominee). The Court of Appeal held that as the shares in Enviroco were registered in the name of the bank’s nominee company at the time of the fire, ASCO plc was not a member of Enviroco. As Enviroco was not a subsidiary of ASCO plc it could not rely upon the indemnity clauses. (Enviroco’s subsequent appeal was dismissed by a unanimous decision of the UK Supreme Court).

Conclusion

For contractors with limited resources, the prospect of exposure to protracted multi-million suit for the unforeseeable is indeed something to mull over seriously. When confronted with the suggestion to accept a less traditional indemnity clause, the writer's preferred view is that one should insist on the kind of reciprocal indemnity described by Sharp above. Otherwise, in the event of a casualty, the court beckons.

 Reference

[1] Gross negligence

Grill v General Iron Screw Collier Co. (1866), 35 LJCP 321,330, where Willes J observed that “gross negligence is ordinary negligence with a vituperative epithet.” - Armitage v Richard Nurse 1997 2 AER 705 and other: where the court said that “….we regard the difference between negligence and gross negligence as merely one of degree” - Red Sea Tankers Ltd v Papachristidis 1997 2 Lloyd’s Rep 547: where it was said that the term "gross" negligence is clearly intended to represent something more than the failure to exercise proper skill and care that would constitute “mere” negligence. This would include "conduct which a reasonable person would perceive to entail a high degree of risk of injury to others, coupled with heedlessness or indifference to or disregard of the consequences". It was also said that all circumstances must be weighed in the balance to ascertain whether an act or omission merits the description "gross".

 [2] Wilful Misconduct

National Semiconductors (UK) Ltd v UPS Ltd [1996] 2 LL Rep 212 at 214, Longmore J, as he then was, having cited various authorities said:-“If I summarise the principle in my own words, it would be to say that for wilful misconduct to be proved there must be either (1) an intention to do something which the actor knows to be wrong or (2) a reckless act in the sense that the actor is aware that loss may result from his act and yet does not care whether loss will result or not or, to use Mr Justice Barry’s words in Horobin’s case, “he took a risk which he knew he ought not to take” [1952] 2 Lloyd’s Rep. at p.460 –

Forder v Great Western Railway Co [1905] 2 KB 532 at 535-6, Lord Alverstone CJ adopted the following definition given by Johnson J in Graham v Belfast and Northern Counties Railway Co [1901] 2 IE 13:- “Wilful misconduct . . . means misconduct to which the will is party as contradistinguished from accident, and is far beyond any negligence, even gross or culpable negligence, and involves that a person wilfully misconducts himself, who knows and appreciates that it is wrong conduct in his part in the existing circumstances to do, or to fail or to omit to do (as the case may be), a particular thing, and yet intentionally does or fails or omits to do it, or persists in the act, failure or omission, regardless of the consequences.” Lord Alverstone continued: - “The addition which I would suggest is “or acts with reckless carelessness, not caring what the results of his carelessness may be.” Beldam LJ, in Lacey’s Footwear v Bowler International [1997] 2 LL Rep 369 at 374 put it this way: - “Further a person could be said to act with reckless carelessness towards goods in his care if, aware of the risk that they may be lost or damaged, he nevertheless deliberately goes ahead and takes the risk, when it is unreasonable in all the circumstances for him to do so.”

As regards the burden and standard of proof, there was no issue between the parties and the judge correctly directed himself by reference to a passage from Brooke LJ’s judgment in Lacey’s Footwear at p 381 where he said that the trial judge:- “should also have directed himself that since a charge of wilful misconduct was a serious charge to make, the evidence ought to have satisfied the degree of probability appropriate to the seriousness of the charge before it was appropriate to find it proved (Hornal v Neuberger Products Ltd [1957] 1 QB 247 and Khawaja v Secretary of State for the Home Department [1984] AC per Lord Scarman at pages 113-114).”

The judge also quoted a useful passage from the judgment of Andrew Smith J in Datec Electronic Holdings Ltd v UPS Ltd [2005] 1 LR 470 at 481 where he said:- “I should add that I was properly reminded by counsel that the principle set out in such cases and as in Re H and others (Minors) Sexual Abuse: Standard of Proof [1996] AC 563 where Lord Nichols observed that “built into the preponderance of probability standard is a generous degree of flexibility in respect of the seriousness of the allegation” (at p 596f), however Lord Nichols explained that this simply means that the inherent probability or improbability is itself to be taken into account when weighing the probabilities in deciding whether, on balance, the event occurred. Although in this case the allegation is one of theft from an employer, I do not regard this possibility as so improbable that there is a particularly heavy burden upon the claimants to prove their case. I have simply concluded that there is not proper evidence to support the claimants’ allegation . . .”] per Lord Justice Waller in TNT Global SPA v Denfleet International [2007] EWCA Civ 405.

Further Reading: Liability for Catastrophic Risk in the Oil and Gas Industry by Peter D. Cameron.

DISCLAIMER: THIS ARTICLE IS FOR GENERAL READING AND DISCUSSION PURPOSES ONLY. IT IS NOT MEANT TO PROVIDE LEGAL ADVICE. READER MUST NOT RELY OR ACT ON IT UNDER ANY CIRCUMSTANCES