The first draft of a shipbuilding contract is typically prepared by the shipyard and is therefore, understandably, likely to be favourable to the shipyard in its terms. However, the current trends of tonnage oversupply and shrinking order books should give buyers the opportunity to negotiate a more balanced position. In particular, buyers should focus on the provisions of a shipbuilding contract covering the following:
- Description and class
- Inspection and approval
- Buyers' supplies
- Security – performance guarantees, refund guarantees and insurance
- Delivery date vs permissible/unauthorised delays
- Warranty of quality
- Insolvency of shipyard
- Impact of financing or chartering arrangements
Below we look at the first two of these points and highlight what buyers should be looking out for. We will cover the remainder of the points in future issues of On the Money.
Description and class
Buyers should take great care to ensure that the vessel is fully described in the shipbuilding contract. Wherever possible, general words should be supplemented by and cross-refer to detailed specifications to be contained in a separate schedule to the shipbuilding contract.
Needless to say, care should also be taken to ensure that the vessel's specifications are compliant with its intended use and trading pattern, as well as the regulatory conditions of the relevant classification society and flag state. Shipyards are reluctant to take the risk of any changes in class or flag regulations during the construction period. This means they commonly require the inclusion of a caveat which effectively states that the regulations referred to in the shipbuilding contract are those in force at the date on which the parties entered into the shipbuilding contract. Consequently, any modifications to the vessel's specifications which become necessary following any subsequent regulatory changes would require a renegotiation of the purchase price and/or the delivery date. Buyers should therefore ensure that their contracted specifications factor in, to the extent necessary, any anticipated regulatory changes that would affect the specifications. Technical advisers typically assist buyers to negotiate the appropriate specifications. The shipbuilding contract should also be clear as to how the risk of designing the vessel is to be allocated between the parties. If the shipyard is to take full responsibility for the vessel's design, if it is an unproven design, then buyers would be well advised to have the shipyard's design approved by an independent naval architect and/or to arrange for necessary tank tests to be carried out in their presence. If the design is a proven one, buyers may wish to make inquiries with previous buyers to see if they have any comments on the workability of the design and suggest alterations accordingly. The shipbuilding contract should make clear that all this is being done without detracting from the shipyard's responsibility for the viability of the design.
If, however, buyers designed the vessel it may be more appropriate for the shipyard to be only responsible for the workmanship of the vessel and not its design. For simpler designs, it may still be possible to ask the shipyard to take over responsibility for the design, even if it was initially provided by buyers.
In any event, buyers can and should require that the vessel be built in accordance with the standards of the appropriate classification society and/or or regulatory authorities.
Inspection and approval
A recurring theme during shipbuilding contract negotiations is the monitoring and maintenance of service standards due to the long project life. In order to ensure that the agreed materials are used and a minimum level of workmanship is maintained throughout construction, buyers should require that their representatives be allowed to supervise construction at all times. Further, where appropriate, buyers' representatives should be asked (without accepting responsibility) to approve drawings, plans and any changes to the design and attend all tests and trials. While not normally meant to detract from the shipyard's responsibility for design and construction (and provisions should be drafted to make this clear), this can serve as an important safeguard for buyers who may spot and raise with the shipyard any issue with a vessel's construction as soon as it arises. However, it is common for purely technical disputes to be referred to the vessel's classification society for determination.
The ancillary practical matters such as number of buyers' representatives, access within the shipyard, visas and working arrangements for buyers' representatives should be negotiated and expressly provided for in the shipbuilding contract.