In Teekay Tankers Ltd v STX Offshore Ltd [2017] EWHC 253 (Comm) the Commercial Court decided that an option agreement for the construction of crude oil tankers was void, as the option agreement required the parties to mutually agree a delivery date at a time in the future. In doing so, the Commercial Court illustrated the risk of seeking to leave key elements of an agreement to be “mutually agreed” at a later point in time.

Background

Teekay Tankers Ltd (“TT”) and STX Offshore Ltd (“STX”) entered into four shipbuilding contracts for crude oil tankers (the “firm contracts”), each concerning one firm vessel, and one option agreement whereby STX agreed to grant TT options to build three additional sets of up to four vessels. Prior to the agreements being signed, TT discovered that STX was in talks with creditors to restructure its debt; nonetheless, TT signed the agreements on 5 April 2013.

A key condition of each of the firm contracts was the provision of a refund guarantee as security for TT’s advance instalment payments. These guarantees were each due to be provided by STX’s banks in favour of TT within 30 banking days following the firm contract execution. In the event of a failure to provide a refund guarantee within the agreed timescale, TT was “entitled to rescind” the firm contract with immediate effect.

In addition, the option agreement required:

Delivery:

[4.1] The Delivery Dates for each [of the] Optional Vessels shall be mutually agreed upon at the time of declaration of the relevant option,

[4.2] but [STX] will make best efforts to have a delivery within 2016 for each [of the] First Optional Vessels, within 2017 for each [of the] Second Optional Vessels and within 2017 for each [of the] Third Optional Vessels.

STX was in talks with its creditors to restructure its debts and the banks refused to provide the refund guarantees. TT brought successful arbitration proceedings against STX for the repudiation of the firm contracts and was awarded US$8,110,000 by way of damages. Despite this default under the firm contracts, TT chose to exercise its option under the option agreement for the first and second sets of option vessels. TT requested that STX fulfil all contractual terms including to provide shipbuilding contracts for the first and second sets of option vessels within 10 days.

However, STX argued that the option agreement was void for uncertainty due to an essential term (delivery dates) requiring that it was to be “mutually agreed” by the parties.

TT argued that:

  1. a failure by STX to propose delivery dates pursuant to the best efforts obligation, coupled with the assertion that STX would be unable to procure the refund guarantees constituted “the clearest evidence that [STX] have no intention of honouring their obligations under the Option Agreement”;
  2. the parties could not have intended that they should remain free to agree or disagree about delivery dates in their own interest, since that would mean that there was simply no obligation; and
  3. the option agreement could be made certain by:
    1. an implied term that, failing agreement, the delivery date would be such date as STX offered, having used its best efforts, within 2016 or 2017 or the earliest date thereafter; or, in the alternative,
    2. an implied term that the delivery date would be an objectively reasonable date determined by the court having regard to the obligation to use its best efforts to provide delivery dates within 2016 or 2017.

Decision

Giving judgment in the Commercial Court, Walker J observed that TT did not dispute that the identification of delivery dates for the relevant vessels was an essential element of the contract. Absent an essential term, a contract will be void for uncertainty. The effect was that TT had to show that the court could treat the parties as having intended that if an agreement were not reached on delivery dates, then a method would be adopted under which they would be determined. If TT could not show this, then its claim would fail.

Walker J explained:

It is sometimes the case that if parties have not reached agreement on a significant part or parts of their contract, it may be that their intention is that there should be no binding relationship until the remaining part or parts have been agreed”.

TT argued that this was not the case here. Walker J noted that TT could be said to be, “pushing at an open door”, and agreed with TT that the parties intended that the option agreement would be legally binding.

However, that was not a complete answer to the question of uncertainty.

Law: Agreements to agree

Walker J sought to apply Rix LJ’s principles concerning the enforceability of ‘agreements to agree’ in Mamidoil-Jetoil Greek Petroleum Co SA v Okta Crude Oil Refinery AD [2001] 2 Lloyd’s Rep 76 and Chadwick LJ’s principles concerning the enforceability of ‘agreements to agree’ in B J Aviation Ltd v Pool Aviation Ltd [2002] 2 P & CR 25, which was the approach approved by the Court of Appeal in MRI Trading AG v Erdenet Mining Corp LLC [2013] EWCA Civ 156.

Amongst other things, these principles include:

  1. Each case must be decided on its own facts and on the construction of the words used in the particular agreement.
  2. If on the true construction of the words the parties must be taken to have intended to leave some essential matter to be agreed between them in the future – on the basis that either will remain free to agree or disagree about that matter – there is no bargain which the courts can enforce.
  3. Where the court is satisfied that the parties intended that their bargain should be enforceable, it will strive to give effect to that intention. In order to achieve that result the court may feel able to imply a term. However, the court cannot imply a term which is inconsistent with what the parties have actually agreed.
  4. If, on the true construction of the words, the court is driven to the conclusion that they must be taken to have intended that the matter should be left to their future agreement on the basis that either is to remain free to agree or disagree about that matter as his own perceived interest dictates, there is no place for an implied term.

Application to option agreement

Walker J decided:

  • A specific delivery date was integral to the operation of other important parts of the shipbuilding contract – such as operation of the delay, cancellation and liquidated damages provisions of the contract.
  • Where parties have failed to specify a time for performance, the court will often have little difficulty in implying a term that performance must take place within a reasonable time. However, the considerations which arise in that regard are very different from the considerations which arise in a case where a precise date has to be specified.
  • In seeking to identify the true intention of the parties, the court in the present case had to ask, “If their true intention was that the delivery date would be identified by determining what is reasonable, why did the parties state expressly in clause 4 that STX would “make best efforts” to identify a delivery date within the relevant year?”. There was no satisfactory answer to that question. What was said about “best efforts” seemed to implicitly recognise that the contrasting interests of the parties precluded the identification of a delivery date on the basis of what would be “reasonable”.
  • It was well established that there is a crucial distinction between agreeing to use best efforts or best endeavours to achieve a particular result, and agreeing to use best efforts or best endeavours to reach agreement upon an essential term in a contract.
  • There was no basis for thinking that clause 4 required one party or the other to provide the initial proposal. If TT did not seek a delivery date within the relevant year, then there would be no need for STX to consider whether it could offer a delivery date within that year. If, however, TT sought a date within the relevant year, then clause 4 contemplated that STX would use best efforts at least to provide a date within the year, if not the date which TT sought. However, TT remained free, in its own interests, to reject any date provided by STX. In this regard, the reference to the use of “best efforts” was plainly part of a process of seeking to agree upon an essential term. It was very different from valid and enforceable obligations to use best efforts to achieve a result.

As such, the terms of the option agreement were not consistent with the alleged implied terms. A term could not be implied. The option agreement therefore failed for lack of certainty.

Comment

In RTS Flexible Systems v Molkerei Alois Muller [2010] UKSC 14 the Supreme Court confirmed that for a valid contract to come into existence (i) the parties must have intended, objectively ascertained, to create legal relations, and (ii) “agreed upon all the terms which they regarded or the law requires as essential for the formation of legally binding relations”.

Where there is an intention to create legal relations, the courts have traditionally sought to use the tools available to it, such as implied terms, to ensure any apparent absence of essential terms is negated. It might do this in a number of ways. In Petromec Inc Petro-Deep Societa Armamento Navi Appoggio SpA v Petroleo Brasileiro SA [2005] EWCA Civ 891 Longmore LJ observed that:

It would be a strong thing to declare unenforceable a clause into which the parties have deliberately and expressly entered. I have already observed that it is of comparatively narrow scope. To decide that it has “no legal content” to use Lord Ackner’s phrase [in Walford v. Miles] would be for the law deliberately to defeat the reasonable expectations of honest men…

It was perhaps for this reason that Walker J noted that TT could be said to be “pushing at an open door”.

That said, the courts have consistently proven unwilling to take steps to negate the absence of an essential term by implying a term, where such an implied term would be inconsistent with the express terms of the parties’ bargain.

The decision in Teekay Tankers Ltd v STX Offshore Ltd is thus a useful reminder that where the parties have deliberately reserved to themselves a requirement to agree an essential term at a later date (‘agreement to agree’), without any objective criteria that the parties are required to achieve when finalising such agreement, or mechanism to resolve a failure to agree, the courts will likely find that any attempt to imply a term to ‘save the agreement’ would be inconsistent with the express terms of the contract that the parties are to agree such term between themselves. As such, if the missing term is essential, the contract will be void for uncertainty.

In the oil and gas industry, it is common that agreements necessarily leave aspects, sometimes essential aspects, to be resolved at a later date. Parties would be well advised to be aware of the following:

  1. If parties wish to ensure a contract comes into existence, notwithstanding an ‘agreement to agree’ concerning a potentially essential term, they should seek to provide an objective criteria through which the essential term may be later defined (e.g. reasonable price) and a mechanism through which any such omission might be resolved (e.g. expert determination or arbitration).
  2. Conversely, if parties do not provide an objective criteria and/or mechanism for filling the gap, but reserve the issue to be resolved by mutual agreement between themselves, there is a likelihood that, all other things being equal, the court: (i) will be prevented from implying criteria and/or a mechanism to resolve any impasse; and (ii) as a consequence, may decide the agreement lacks certainty and is void.

Link to case: Teekay Tankers Ltd v STX Offshore Ltd [2017] EWHC 253 (Comm)