Default, liability and remedies in shipbuilding in Brazil

Default, liability and remedies

Do courts consider defective design to fall within the scope of poor workmanship for which the shipbuilder is liable under the warranty clause of the contract?

Under Brazilian maritime law, whenever defects of the vessel deriving from manpower or material employed by the contractor or builder in default with the legal requirements are evidenced, a penalty shall be applied to the builder and the lack of payment of such penalty shall result in suspension of applicable licences of the builder.

Pursuant to Brazilian law, the asset received in connection with a bilateral agreement may be rejected owing to latent defects that may cause such asset to be unfit for the purposes to which it is destined or to have its value reduced. The purchaser may opt to claim a reduction of the price instead of rejecting the asset by terminating the agreement.

If the seller was aware of the defect, the seller shall reimburse what it has received and shall be liable for losses and damages. If it was not aware of the defect, it shall only reimburse the amount received as well as the expenses of the agreement. The seller’s liability shall survive the destruction of the asset in possession of the purchaser if such destruction is caused by a latent defect already existing at the time of the transfer.

Under Brazilian law, as a general rule the buyer shall have 30 days as from the date of actual delivery of the asset to the buyer to claim redhibition (termination of the transaction and return of the asset), or ask for a price reduction, in case of movable assets. When the defect may only be verified later by its nature, on the other hand, the term for claiming redhibition or seeking a price reduction shall be counted as from the date on which the buyer becomes aware of such defect, provided that it does not exceed 180 days as from delivery of the relevant movable asset to the buyer or one year in case of immovable assets. Such deadlines shall not apply, however, if there is a warranty clause, provided that the buyer shall give notice to the seller with respect to the defect within 30 days as from the date such defect is verified, under penalty of forfeiture.

Are there any remedies available to third parties against the shipbuilder for defectiveness?

Any third party affected by a defect of a vessel would claim losses and damages from the owner of the vessel at the time of the incident.

If the builder has already transferred title to the vessel, we understand that the ship owner would have a right of recourse against the builder, in accordance with the terms and conditions of the relevant project documentation.

Brazilian law provides for specific performance of obligations to do or refrain from doing something, or to deliver a specific asset, and the obligation is converted into a suit for losses and damages when specific performance is found to be unfeasible.

If the contract contains a liquidated damages clause or a penalty provision for late delivery or not meeting guaranteed performance criteria, must the agreed level of compensation represent a genuine link with the damage suffered? Can courts mitigate liquidated damages or penalties agreed in the contract, and for what reasons?

There are two kinds of penalty clause under Brazilian law: the compensatory clause; and the default clause. The compensatory clause refers to the case of total breach of an obligation, whereas the default clause relates to breach of one particular clause or a simple act of default.

In the case of a compensatory penalty, the creditor may, in the event of a breach, demand performance of the contract or payment of the penalty. The creditor cannot avail itself of more than one of these remedies. For default penalties, a creditor may demand both payment of the penalty and also performance of the principal obligation. The amount of any penalty agreed upon by the parties cannot exceed the amount of the main obligation.

In the event of default, or partial breach of the obligation, or an extremely burdensome penalty amount in light of the nature and purpose of the deal, a court may order the debtor to pay only a portion of the penalty.

If the building contract contains a liquidated damages provision, for example, for late delivery, is the buyer then precluded from claiming proven higher damages?

As a general rule, the indemnity shall be measured by the extension of the damage caused. If there is an express contractual liability limitation, then the parties may be subject to the specific amount established thereunder.

When the damage is higher than the amount imposed by a penalty clause, the creditor cannot seek additional indemnification, unless otherwise expressly established by the parties. In such case, the penalty value must stand as a minimum indemnity, and the creditor must prove the excess damage.

Are the parties free to design the force majeure clause of the contract?

Brazilian law defines acts of God and force majeure events as ‘the necessary fact, the effects of which could not be avoided or impeded’. The debtor shall not be liable for losses resulting from acts of God or force majeure, unless such debtor has expressly agreed otherwise.

Considering that the legal concept of acts of God or force majeure is very broad, the parties may decide to include a specific list in the agreement to clearly identify the situations that shall characterise acts of God or force majeure in a specific contract, in order to mitigate the risk of acts of God or force majeure as between the relevant parties, as well as to regulate which party shall bear the risk of which specific group of force majeure events. Such list to be added to the contract may purport to be complete (exhaustive list) or merely to specify certain events for illustration purposes (illustrative list).

Is certain ‘umbrella’ insurance available in the market covering the builder and all subcontractors of a particular project for the builder’s risks?

The insurance market in Brazil is subject to the regulation issued by the Brazilian Private Insurance Authority (SUSEP), based on the guidelines determined by the Brazilian Private Insurance Council. Insurance may only be contracted abroad by individuals or companies resident or domiciled in Brazil to:

• cover risks for which there is no insurance offer in Brazil, provided that it does not result in a breach of applicable law;
• to cover risks abroad, when the individual contracting the insurance is resident in Brazil and the validity term of the insurance is restricted to the period of time in which the insured is abroad; and
• insurances that are subject to international agreements ratified by the Brazilian Congress.

Legal entities may contract insurance abroad to cover risks abroad, in which case they shall provide information to SUSEP within the term and in the conditions determined by such authority.

There are mandatory insurance requirements for vessels operating in Brazil.

In the case of foreign vessels registered with REB, SUSEP regulations establish that a company domiciled in Brazil shall have the right to contract in the international market coverage for insurance and reinsurance of the hulls, machinery and civil liability of the vessel, under the terms of the applicable maritime legislation (that is, if the domestic market does not cover such type of risk or in case of non-compatible prices in comparison to the international market rates).

Insurance policy in the modality ‘all risks’, where the risks not covered are expressly identified, would be available in the Brazilian market.

Will courts or arbitration tribunals in your jurisdiction be prepared to set terms if the parties are unable to reach agreement on alteration to key terms of the contract or a modification to the specification?

In the case of turnkey contracts, once the works are concluded as agreed or pursuant to the local practice, the owner shall accept the same, provided that the owner may reject the works if the contractor has not observed the instructions and plans received or the technical requirements applicable to works of such nature. In such event, the owner may claim a price reduction instead of rejecting the works.

In construction contracts for buildings and other sizeable constructions, a contractor for materials and execution is liable for the solidity and the safety of the work, considering both the materials and the soil, for a period of five years, which may not be reduced, provided however that such liability shall not prevail if the owner does not sue the contractor within 180 days after the defect appears.

In such a situation, the parties, arbitrators or judge may also resort to technical experts.

Does the buyer’s signature of a protocol of delivery and acceptance, stating that the buyer’s acceptance of the vessel shall be final and binding so far as conformity of the vessel to the contract and specifications is concerned, preclude a subsequent claim for breach of performance warranties or for defects latent at the time of delivery?

As a general rule, the buyers’ acceptance would preclude a subsequent claim for breach of performance. Brazilian law, however, establishes that the buyer will have 30 days to claim redhibition, or ask for a price reduction, when the asset is a movable one. Such 30-day period shall be counted as from the date of actual delivery of the asset to the buyer. When the defect may only be verified later by its nature, on the other hand, the term for claiming redhibition or seeking a price reduction shall be counted as from the date on which the buyer becomes aware of such defect, provided that it does not exceed 180 days as from delivery of the relevant movable asset to the buyer.

Can suppliers or subcontractors of the shipbuilder exercise a lien over the vessel or work or equipment ready to be incorporated in the vessel for any unpaid invoices? Is there an implied term or statutory provision that at the time of delivery the vessel shall be free from all liens, charges and encumbrances?

Privileged claims under the Brazilian Commercial Code, which shall create a statutory mortgage over a vessel, are as follows:

• salaries owed for on-board services;
• all maritime fees and taxes (that is, fees due to the ports administrators and tax obligations);
• expenses for surveillance and maintenance of a ship;
• crew payment;
• overdue payment of a ship’s purchase price;
• debts arising from the ship construction agreement; and
• repair expenses involving a ship and its equipment. Such credits must have been duly posted and filed for registration.

See also question 34.

Does a reservation of title by a subcontractor or supplier of materials and equipment survive affixing to or incorporation in the vessel under construction?

As a general rule, the material supplied to the builder and incorporated to the vessel shall be deemed as property of the builder or buyer, provided that such material does not have any lien or fiduciary assignment in favour of the supplier.

The parties, however, may also consider a conditional sale agreement, whereas the buyer shall only be entitled to the immediate possession of the asset while the seller reserves the full title to the asset until the moment the amount owed is fully paid. Therefore, the vessel would only become a part of the debtor’s assets upon payment in full of the debt.

To such effect, it will be necessary to clearly identify the relevant asset subject to such lien or encumbrance.

A clause for reservation of ownership shall be stipulated in writing and must be registered in the buyer’s domicile to be valid against third parties. Material and equipment that is not susceptible of exact description, in order to be distinguished from others of the same kind, cannot be the object of a sale with title retention.

Brazilian law regulating maritime property generally establishes that any interested party may request the registration of security interests and other liens thereon, upon presentation of a contract for registration with the Maritime Court.

Assuming title to the vessel under construction vests with the builder, can third-party creditors of the builder obtain a security attachment or enforcement lien over the vessel or equipment to be incorporated in the vessel to secure their claim against the builder?

As long as the vessel under construction and her parts remain as property of the builder, third parties may generally obtain judicial attachments and enforce their rights against the assets of the builder. In addition, refer to privileged credits discussed in question 32.

Can a subcontractor’s or manufacturer’s warranty be assigned to the buyer? Does legislation entitle the buyer to make a direct claim under the subcontractor’s or manufacturer’s warranty?

As a general rule, the builder shall be liable for all warranties related to the construction of the vessel, except if expressly provided otherwise under the construction agreement.

Warranty is generally given by the shipbuilder, except if the supplier or subcontractor performs a substantial role in the construction of the vessel.

If the execution of the work is entrusted to third parties, the liability of the author of the project, provided he or she does not assume the conduct and inspection of the work, shall be limited to damages resulting from defects as discussed in question 30.

See also questions 24, 25 and 44.

Where a builder defaults in the performance of the contract, is there a legal requirement to put the builder in default by sending an official notice before the buyer’s remedies begin to accrue? What remedies will be open to the buyer?

The construction agreement usually regulates notification procedure, characterisation of default and cure periods, which depending on the subject shall be complied with for performance of any judicial measure (as it would be in the case of characterisation of default).

The judicial or extrajudicial notification of the builder would give better evidence of builder’s default, in preparation for a dispute.

In any event, once the builder is in default, the buyer may request the specific performance of the defaulted obligation or claim indemnification for losses and damages arising from such default.

Are there any remedies available to the shipowner in the event of protracted failure to construct or continue construction by the shipbuilder apart from the contractual provisions?

Besides the usual judicial remedies, including specific performance lawsuits and indemnification for losses and damages, we understand that the builder may request a performance bond or other type of guarantees from the builder in case of material default.

Upon the occurrence of a default by the builder, one alternative to the ship mortgage that might be considered under Brazilian law would be the ‘fiduciary alienation’. Fiduciary alienation is a type of guarantee applicable to vessels to be constructed, enlarged, converted, modernised or repaired in Brazilian shipyards with financing provided with funds obtained from the FMM. The fiduciary alienation of a vessel and its parts shall only be valid and effective upon its annotation on the RMP, which is made with the Maritime Court, and shall be regulated by the existing applicable legislation.

Would a buyer’s contractual right to terminate for the builder’s insolvency be enforceable in your jurisdiction?

As a general rule, bilateral contracts are not (automatically) terminated as a result of a company’s bankruptcy or judicial reorganisation.

In bankruptcy liquidation, absent specific provisions governing the early termination of the contract, these contracts may continue to be performed at the discretion of the trustee if this is of interest to the bankrupt estate and, if applicable, upon authorisation of the creditors’ committee (specific rules apply to certain types of contracts).

Under Brazilian law, acts performed free of charge during the two years preceding the bankruptcy are ineffective with regard to the bankruptcy estate, regardless of whether or not the contracting party was aware of the debtor’s economic and financial distress and whether or not the debtor intended to defraud creditors. Likewise, payments and other acts performed during the stay period in case of bankruptcy or judicial restructuring shall be ineffective. The stay period in case of bankruptcy or judicial restructuring shall be fixed by the bankruptcy judge and may retroact up to 90 days before the bankruptcy request, the judicial restructuring request or the date of first protest.

What institution will most commonly be agreed on by the parties to decide disputes?

The submission of a Brazilian private company to arbitration proceedings under the project documentation is generally legal, valid and binding under the laws of Brazil. Any foreign arbitration award obtained in relation to operative documents will be recognised and enforceable by the courts of Brazil (to the extent that Brazilian courts may have jurisdiction) without reconsideration on the merits, after such arbitration award is ratified by the Superior Court of Justice in Brazil.

Some of the most frequently chosen arbitral institutions in Brazil are:

• the International Chamber of Commerce (ICC):
• the Brazil Canada Chamber of Commerce;
• the Brazilian Center of Mediation and Arbitration;
• the Chamber of Conciliation, Mediation and Arbitration (Ciesp/Fiesp); and
• the Mediation and Arbitration Chamber of the Fundação Getúlio Vargas (FGV).

There are also many others to choose from. A well-known specialised court in maritime disputes is the Brazilian Centre for Maritime Arbitration, whose creation was driven by the remarkable growth in the Brazilian naval industry in recent years, to serve the offshore oil industry.

Would a buyer’s contractual right to take possession of the vessel under construction and continue construction survive the bankruptcy or moratorium of creditors of the builder?

Brazilian law establishes that bilateral agreements are not immediately terminated in case of bankruptcy of a party thereto, as the trustee in bankruptcy may decide to perform the relevant agreement to mitigate the liabilities of the bankrupt company.

Subject to the terms and conditions set forth in the specific construction contract, a buyer’s contractual right to take possession of the vessel under construction and continue construction shall survive the bankruptcy or moratorium of creditors of the builder. See question 38.

In your jurisdiction, do parties tend to incorporate an ADR clause in shipbuilding contracts?

ADR clauses are becoming more and more common in Brazil, in face of the increasing recognition of the biding nature of ADR clauses and of the guaranteeing enforcement of awards rendered in arbitration. An exponential growth in the number of Brazilian parties in arbitration proceedings brought before the ICC was noted. For instance, Brazil was the fifth country in the world with most parties in ICC arbitrations in 2010, and the seventh country with the highest global number of nominations as a place of arbitration according to the 2011 Statistical Report, ICC International Court of Arbitration Bulletin.

Where the buyer defaults in the performance of the contract, what remedies will be available to the builder? What are the consequences of the builder’s cancellation of the contract?

The rights generally available to the builder would be the right of retention of the vessel or its parts and equipment, either in a scenario of termination of construction contract or not, to be later sold at a private or public auction, in accordance with the terms and conditions established in the construction contract.