BP Oil International Limited (BP) contracted to sell to Galtrade Ltd (Galtrade) four parcels of low sulphur straight run fuel (SRFO) on a FOB basis. The contract contained specifications as to the sulphur content of the fuel (Specification Clause). The first two parcels did not meet specification, but the parties agreed to a discounted rate and no dispute ensued.
However, during transportation and after a sample test, the third parcel was also found off-specification, having 1.53% sulphur content against the contractual maximum of 1.30%. Galtrade rejected the cargo and returned it to BP, who then blended the fuel and resold it.
Galtrade sued BP for breach of contract and claimed damages for the wasted expenditure in transporting and handling the cargo. BP claimed that Galtrade wrongfully repudiated the contract and therefore caused its own losses. BP’s counterclaim included hedging costs and the difference in the net sale price under the contract (after adjustments had been made for the quality difference due to it being off-specification).
The key issues for the Court to determine were:
- Whether the Specification Clause was a condition or an intermediate term; and
- If the Specification Clause was an intermediate term, whether the breach was sufficiently serious to entitle Galtrade to reject the cargo.
A Note on Intermediate Terms
An intermediate term is named as such because it lies between a warranty and a condition.
A condition is an essential term, the breach of which entitles the non-defaulting party to terminate. By contrast, a warranty is a non-essential term which, if breached does not give rise to an entitlement of cancellation, but may result in an award of damages.
The remedy for breach of an intermediate term is decided at the time the breach occurs based on the seriousness of the consequences. The non-defaulting party is only able to terminate if the breach deprives them of substantially the whole benefit of the contract.
In New Zealand, the English law position is largely reflected in s 37 of the Contract and Commercial Law Act 2017.
On the first issue, the Court concluded the Specification Clause was not a condition, but an intermediate term. The Court’s reasoning is as follows:
- In the absence of any clear agreement to the contrary, the presumption is that quality specification perimeters are to be construed as intermediate terms. In this case, the fuel specifications were not described as conditions and no right to reject was stipulated;
- Classification as a condition did not fit well within the commercial context. Disallowing any deviation from the agreed specifications placed a significant risk on the seller and accords corresponding power onto the buyer, creating an imbalance between the parties;
- The market in which the parties operated can accommodate a product within a range of specifications, because even an off-specification product can be re-blended into various other fuel products. This makes it less likely that the parties intended for a single instance of deviation to entitle the buyer to automatically terminate the contract;
- The fact the parties could negotiate a price discount for parcel 2 supported the view that the market within which the parties operated allowed for off-specification cargoes to be remedied by price adjustment.
On the second issue, the Court concluded that the breach was not sufficiently serious to entitle Galtrade to reject the cargo as it had not substantially been denied the whole benefit under the contract. This was because:
- The fuel at higher sulphur levels was still substantially the same product and could be used for its intended purpose (sale to refinery), albeit at a lower price;
- The nature and extent of the deviations could be quantified. The buyer could be properly compensated for the financial effect of the breach; and
- Traders are expected to operate with a degree of agility to mitigate off-specification parcels. The fact that Galtrade was able to make use of previous off-specification parcels evidences this.
As a result, Galtrade was held to have breached the contract when it rejected the cargo and then again when it refused to pay. It was the Court’s view that Galtrade was primarily responsible for its own losses and therefore was only entitled to nominal damages for its claim.
This decision reinforces the importance of ensuring that the contractual terms are clear and unequivocal. This is especially true in the case of commercial parties that can be reasonably expected to have expressly stipulated important terms, rather than leaving them open to interpretation. This position is further elaborated on in our recent article on Septo Trading Limited v Tintrade Limited  EWCA Civ 718.
It also highlights the risks faced by an otherwise innocent party in rejecting off-specification cargo. Where a party finds itself in this position, it is advisable to seek legal advice prior to taking any decision on rejection.
If you have any questions about this case or the issues raised contact the Trade and Transport Team or your usual contact at Hesketh Henry.
Disclaimer: The information contained in this article is current at the date of publishing and is of a general nature. It should be used as a guide only and not as a substitute for obtaining legal advice. Specific legal advice should be sought where required.