The central issue in Standard Chartered Bank v Ceylon Petroleum Corporation was whether two commodity derivative contracts made under the 2002 ISDA Master could be enforced against one party who alleged that making those contracts was ultra varies in that it had no legal capacity to make them such that they were unenforceable. These issues were similar to those raised years ago during attempts to enforce sums due under interest rate swap contracts and which were addressed by the House of Lords in Hazell v Hammersmith and Fulham LBC [1992] 2AC1.


CPC was established under the Ceylon Petroleum Corporation Act 1961 (“the Act”) to supply crude oil and products to the Sri Lankan market. It was a large organisation with a corporate structure. SCB is the international commercial bank which operated in Sri Lanka. CPC had entered into a number of commodity derivative transactions involving oil with both SCB and other banks. Most of the derivative contracts required the banks to pay to CPC when oil prices were high and for CPC to pay to the banks when oil prices fell below the contractual floor.

Following a significant decline in the oil price between July– August 2008, CPC were required to make significant payments to its banks. It failed to make payments to a number of its banks and SCB sought to recover sums due to it under the two derivative contracts. CPC argued that both derivative contracts were speculative and therefore ultra varies because it had no legal capacity to make those contracts under the Act. CPC accepted that if the contracts were hedging contracts rather than speculative, it would have capacity. The first instance Court gave judgment for SCB in holding that the derivative contracts were enforceable and this decision was upheld by the Court of Appeal. However, the reasons differed and a number of interesting observations were made.

Were the derivative contracts speculative or hedging?

Before the first instance Court, the CPC attempting to prove that the transactions were speculative rather than hedging. The expert witnesses differed in their opinions and from reading the judgment it is evident that the court faced real difficulty in being able to distinguish between the two. Whilst there were extreme cases of either speculative or hedging contracts, there was an enormous amount of grey area where the matter was very unclear.

The first instance Court resolved the issue by deciding that the test of determining whether the derivative contracts were either speculative or hedging was objective and the CPC (who had the burden of proof) had failed to demonstrate that the derivative contracts were; “speculations rather than hedges.”

The Citibank arbitration

CPC relied upon an arbitration award made between Citibank and CPC where identical issues were raised as to the distinction between “speculative” and “hedging” derivative contracts as well as CPC’s capacity to enter those contracts. That award concerned claims by Citibank to recover sums under derivative contracts it had made with CPC. In the arbitration it was agreed between CPC and Citibank that speculative derivative contracts was beyond CPC’s capacity. The award found that the essential distinction between speculative and hedging derivative contracts was in the existence of an underlying obligation to which the transaction is linked; hedging involving reducing existing exposure to a particular risk, whereas speculation involved the assumption of a new risk for the purposes of financial gain independent of any other risk. The Tribunal found that the derivative contracts were speculative and because both parties had agreed that speculative derivative contracts were beyond CPC’s capacity, the award found in favour of CPC.

The Court of Appeal Decision

The Court of Appeal took a different approach to the Tribunal in the Citibank arbitration and of the first instance Court.

Rather than determining whether the particular derivative transactions were either speculative or hedging, it considered that the matter turned on whether making such contracts fell within or outside CPC’s legal capacity. It made a number of observations:

  1. For the purpose of determining the capacity of CPC, Sri Lankan law applied, but in material respects it was no different to English common law.
  2. Under the Act, CPC was formed as a commercial entity to engage in international and domestic trade and in which it was expected to purchase crude and refined oil from the international market. The legislator would have intended, in the absence of anything clear to the contrary, that CPC would have the capacity to enter into a whole range of transactions that a commercial organisation acting in that field of business would ordinarily undertake. The Act should therefore be interpreted as giving CPC capacity to enter into any transaction that could fairly be said to be; “incidental or conducive to its statutory object”. CPC was found to have the responsibility and capacity to use the sophisticated tools available to a commercial oil trading company to mitigate the risks it would face as an importer being subject to the volatilities and vagaries of the oil market.
  3. The approach reflected English case law of Attorney-General v Great Eastern Railway Co (1880) LR Appeal Cases; that when considering a company’s objects when that company was incorporated under the (English) Companies Act the Court would look not only at the scope of the objects and capacity provided for under the particular legislation’, but also at what was; “incidental to, or consequential upon, those things which the legislature has authorised…”. These would not be considered ultra varies.
  4. Bearing in mind the immense difficulties in practical terms in distinguishing between whether a derivative contract was speculative or hedging at the time such contracts were made and the absence of a clear line between the two and having regard to the purpose for which CPC was established, one could not regard the two derivative contracts as being anything other than contracts which are incidental or conducive to the pursuit of CPC’s express objects.
  5. 5 Contrary to the observation by the Tribunal in the Citibank arbitration and the first instance Court, the Court of Appeal did not consider that the test of determining whether a transaction was either speculative or hedging was necessarily purely an objective one. Subjective issues could not be excluded. The Court of Appeal commented that whilst speculation was not regarded by commodity traders generally as a prudent way to do business, speculative trades are sometimes made even by established commodity traders. Consequently, were CPC to be carrying on business as a trader in derivatives, it would be difficult to argue that an individual transaction was ultra varies simply on the grounds that it was speculative.


The judgment makes clear the considerable difficulty in being able to define and distinguish speculative and hedging transactions. The Court of Appeal’s decision recognises that in the international trading market elements of both transactions are undertaken by traders at least as an ancillary part of their business and therefore within the capacity as a matter of English law. It also ensures that the risk of making a “speculative” contract is one with the traders itself rather than the counterparty such that the trader ought to ensure it has all the internal compliance procedures in place to address these risks. The decision also highlights the risk of inconsistency between arbitration awards and court decisions where no issue of res judicata or issue estoppel arises.