The Field March 2017
In this edition of The Field, Simon Hart of Skuld Offshore discusses a developing trend in offshore contracting that sees the Knock for Knock (KFK) principle eroded with carve-outs in respect of gross negligence and wilful misconduct.
With the oil price low, the number of laid-up vessels and units at an all-time high and everyone from top to bottom of the industry feeling the squeeze, many companies are now looking towards their contracting as another way in which they can potentially save some money. It's not just commercial aspects of contracts that are being re-examined, but any terms where there might be a possibility to pass some cost down the chain.
Recently, one trend that has been particularly noticeable is the number of contracts which contain a carve-out from the standard liability and indemnity regime for loss or damage has been caused by one of the contracting parties' gross negligence or wilful misconduct. In this issue of The Field, we look at the background to this, what to look out for and how we can help.
Offshore P&I cover, whether it is for a mutual entry or a commercial entry, is predicated KFK contracting – that is, each contracting party assumes liability for and indemnifies the other against claims relating to their own personnel and property, regardless of fault or negligence. Where KFK regimes are balanced they will automatically be acceptable to the club. However, if the contractual indemnities deviate from that position then that can put certain elements of the regime outside of both mutual and commercial P&I cover.
However, as the offshore market becomes more competitive, contractual elements that were previously flatly rejected are now being considered by contractors desperate to secure work. This has led to an increase in contractual exceptions to clauses, or "carve-outs", which change the liability and indemnity regime and lead to contractual exposures beyond standard cover.
Gross negligence and wilful misconduct defined?
The concepts of wilful misconduct and gross negligence, although sometimes conflated in contractual definitions, are very different and should always be treated separately. In situations where they are treated interchangeably or as synonyms then this can lead to significant interpretive issues in relation to insurance cover.
Unlike in other jurisdictions, under English law (which governs a large number of offshore contracts), gross negligence has no specific statutory or precedential definition. The English courts have given some guidance, stating that gross negligence requires a party to "act in a manner more negligent than ordinary negligence", but there is no single determinative factor for that. This in itself can lead to ambiguities as to what is meant by gross negligence in a contract, especially where the term has not been defined.
In addition, even when the term has been defined, there can be problems caused by that definition depending on which parties are included in the definition of those who can be found to have committed gross negligence, with many contracts now including employees or other senior personnel, which is a far lower standard than ought to be the case.
Wilful misconduct is also not something for which there is a universal definition under English law and it is very much a creature of contractual creation. However, P&I clubs typically follow wording based on international limitation of liability conventions, with Skuld's definition being:
"an act intentionally done, or a deliberate omission by the member, with the knowledge that the performance or omission will probably result in injury, loss or damage, or an act done or omitted in such a way as to allow an inference of a reckless disregard of the probable consequences".
Again, ideally, if there has to be a wilful misconduct carve out in the contract, it should be restricted to apply only to the directing minds of the company, rather than to any lesser a standard.
Carve-outs in practice
As set out above, true KFK indemnities apply regardless of fault or negligence of any type. As offshore P&I cover is predicated on the KFK principle, if there is a contractual carve-out for wilful misconduct or gross negligence both of these issues are contractual exposures beyond the extent of the P&I insurance. This presents potentially significant challenges for owners in the increasingly onerous offshore market.
Ideally, we recommend that any carve-out in respect of gross negligence and wilful misconduct is deleted from the contract. However, we are of course appreciative of the fact that in the current market, such a deletion is not always possible and this is where the additional cover for Extended Contractual Liability [ECL] could potentially respond.
While it is never possible to cover acts of wilful misconduct by the owners (on the basis of the legal principle that you are not permitted to profit from intentional wrong doing), the position in relation to gross negligence is less strict. Provided the club have reviewed the contract in advance, it may be possible to cover some additional liability which falls outside of the scope of standard cover under our suite of additional covers. This however is something that must be discussed in detail with an underwriter, in order that all parties are clear on the extent of the response that can be provided.
Wilful misconduct in action
As set out above, wilful misconduct is a rather nebulous concept and, absent a contractual definition, different courts are likely to apply different interpretations. What actually amounts to wilful misconduct was considered by the Supreme Court of Canada in 2014 in the case of Peracomo Inc v Telus Communications, where the owners of a fishing boat sought to invoke limitation in respect of damage done to a telecoms cable.
Under Canadian law, limitation is possible, provided that the damage in relation to which limitation is sought was not caused by wilful misconduct. In this case, the owners of the damaged cable claimed that, in the circumstances here where their cable was snagged by the fishing vessel, and then deliberately cut with an electric saw by the operator of the fishing vessel, who took the (incorrect) view that this was not a live cable based on a handwritten annotation on a map he had seen in a museum a year previously, this amounted to wilful misconduct.
However, despite the trial judge holding that the operator's actions had been "reckless in the extreme", the Supreme Court held that an intention to cut the cable (which the operator clearly had) was not sufficient to show wilful misconduct, but that there must also be an intention to cause the loss suffered. As the operator was of the view that the cable was not live, he could therefore not have had such an intent, and his actions were not held to be "wilful misconduct".
The court in this case was clear that in arriving at their decision they sought to establish an almost unbreakable right of limitation, which may mean that they would view matters differently in the context of a contractual dispute. However, this does go to illustrate how tricky a concept wilful misconduct can be!