Maritime Letters of Indemnity

Felipe Arizon, David Semark

• Publisher: Informa Law from Routledge
• Year: 2014
• ISBN:
  9781317915799
• Edition: 1
• Topic: Derecho
• Subtopic: Derecho marítimo

This unique new title provides expert, hands-on advice as to the law and practice of the maritime letter of indemnity. Detailing the variety of implications that can arise from each type of letter, the authors bring this important and litigious subject to the fore with a view to reducing the commercial and legal risks involved in this core area of shipping and international trade.

Key features of this title include detailed legal analysis of:

• The history of indemnity contracts and letters of indemnity

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• Shipping and international trade contexts where letters of indemnity are used

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• GAFTA sale contract forms and standard letter of indemnity P&I Clubs forms

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• The enforceability of maritime letters of indemnity

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• The rights and liabilities for sellers, buyers, banks and ship owners which arise from the use of letters of indemnity

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• The impact on the system based on the use of bills of lading and on electronic bills of lading

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• Policy issues arising from the use of letters of indemnity in practice and of the practicalities of litigation involving letters of indemnity.

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As the only text currently on the market covering maritime letters of indemnity in such detail, this book will be an indispensable guide for maritime lawyers, professionals and academics alike, as well as shipowners, charterers, commodity traders and trade finance professionals

CHAPTER 1

INTRODUCTION TO LETTERS OF INDEMNITY

GENERALLY

1.1 The maritime letter of indemnity is a very common tool. It is used by shipowners, sellers, buyers and their bankers to smooth their contractual obligations. The type of maritime letter of indemnity most frequently encountered in practice is that used to collect cargo without the production of a bill of lading. This practice is a violation of the presentation rule (which requires a shipowner to deliver only against an original bill of lading where one is issued) but enables buyers to collect goods at the port of destination without incurring demurrage and other costs at that port. Other typical situations in which letters of indemnity are commonly used include where a letter of indemnity is offered to the carrier in exchange for a clean bill of lading, and where a letter of indemnity is offered to the carrier in order for the carrier to change the destination of the goods carried by sea after a bill of lading has been issued.

1.2 Maritime letters of indemnity are often used by sellers, buyers, carriers and banks in ignorance of the relevant legal principles and the legal risks they are taking. This is not entirely surprising since the legal implications of the use of letters of indemnity are still being explored. Sometimes, the enforceability of a letter of indemnity is questioned by shipping operators. At other times, making use of letters of indemnity brings unexpected results.

1.3 The use of maritime letters of indemnity is closely linked to the use of the bill of lading in the context of shipping and international trade. While the bill of lading remains an essential document for international trade and finance of goods, its functions often impose restrictions on, and cause complications for, sellers, buyers, carriers and banks, which force them to utilize alternative methods to perform their contractual obligations.

1.4 The aim of this book is, therefore, to explore the implications of the letter of indemnity for all parties involved in shipping and international trade. The authors’ aim is to guide merchants, carriers, insurers and banks in respect of each type of letter of indemnity, showing where the use of a letter of indemnity is supported by existing authorities, and where a letter of indemnity may be regarded as unenforceable.

SCOPE

1.5 A letter of indemnity is a contract of indemnity. A contract of indemnity is “a contract by one party to keep the other harmless against loss”.¹ In the context of the shipping industry, the beneficiary of a letter of indemnity is usually the carrier, although disponent owners such as intermediate time charterers are often called upon to give letters of indemnity as well.² The party giving the indemnity is normally the shipper, the charterer or the receiver of the cargo.

1.6 Letters of indemnity are commonly used in shipping practice in the following scenarios: (i) a shipper requests a carrier to deliver a clean bill of lading against a letter of indemnity; (ii) a letter of indemnity is offered to the carrier in exchange for delivery of the cargo otherwise than against production of a bill of lading; and (iii) a letter of indemnity is offered to the carrier in return for the carrier accepting a change of destination for goods carried by sea after a bill of lading has been issued.

1.7 The use of letters of indemnity has gradually increased. Their use has evolved from their original form. The latter was conceived as an agreement, reached on the point of execution of the business transaction, to a set of rules defined in the terms of the contract of sale. Initially, letters of indemnity were undertakings agreed by the parties in order to iron out certain problems (such as that encountered in Brown Jenkinson v Percy Dalton).³ At a later stage, business practice drove traders and carriers to begin to regulate the use of these agreements in their contracts of affreightment (examples of this can be found in The Delfini⁴ and The Sormovskiy⁵) or under their P&I insurance cover.⁶

1.8 Furthermore, as a result of the increasing use of letters of indemnity, traders have recently begun to insert clauses in their contracts of sale to cater for the potential use of letters of indemnity. This trend has been carefully observed by P&I Clubs which have changed their approach to their frequent use. In 1977 the NEPIA P&I Club referred to the use of letters of indemnity in the following terms: “From time to time, shipowners may be asked to accept a letter of indemnity or ‘back letter’ in exchange for the issue of clean bills of lading when cargo is shipped in other than apparent good order and condition …”.⁷

1.9 Twenty years later the same P&I Club referred to the use of letters of indemnity as follows: “Members are advised that they should always seek assistance when they are asked to deliver cargo without the original bill …”.⁸ The fact that P&I Clubs refuse insurance cover to those members making use of letters of indemnity has contributed to the dubious reputation of these agreements in some parts of the industry. Yet, as it will be shown throughout this book, the current industry attitude regarding letters of indemnity has not produced the degree of certainty that merchants and bankers require for their businesses.⁹ Moreover, since the Court of Appeal’s decision in Brown Jenkinson v Percy Dalton,¹⁰ where the court refused to enforce the letter of indemnity, a perception has remained amongst shipowners that letters of indemnity are unenforceable. Sometimes their concern is justified. Letters of indemnity are utilized by shipping operators in cases where the established system for carriage and trade of goods fails to provide an effective solution. However, whilst Brown Jenkinson, it is suggested, was rightly decided by the Court of Appeal, its message has been wrongly characterised by the industry. The policies followed by P&I Clubs have made it difficult for traders and carriers to distinguish where the line between enforceable and unenforceable letters of indemnity should be drawn.

1.10 Each of the scenarios in which a letter of indemnity is frequently used is related to the limitations or restrictions of the functions of a paper bill of lading. In the day-to-day business of shipping, situations in which receivers of cargo are unable to produce the original bills of lading to obtain delivery from carriers in fulfilment of the presentation rule are very common. At the time the goods arrive at the port of destination, shipping documents can be trapped within the string sale transactions, or are at the counters of the financing banks. Equally, there are many cases where a bona fide dispute arises as to the apparent good order and condition of the cargo. Carriers, who may be unfamiliar with the commodity they are carrying, may find it extremely difficult to determine and state on the bill of lading whether the cargo is in apparent good order and condition.¹¹ These commercial bottlenecks are often resolved by the issue of a letter of indemnity under which the carrier is granted a right of redress should delivery of the cargo result in a claim against the carrier relating either to the statement in the bill of lading or to the conversion of the cargo. The use of LOIs have been extended to other maritime scenarios, in The CMA CGM Verlaine, [2013] 1 Lloyd’s Rep 378, a LOI was issued to provide an indemnity in respect of, inter alia, any and all consequences, liability, loss or damage, oil pollution, wreck removal and loss and damage to any cargo, its containers and from handling the damaged cargo and its containers.

1.11 Any analysis of whether the carrier should be entitled to a right of redress under each type of letter of indemnity requires the exploration of the following issues: (i) the part each party has to play, i.e. banks, sellers, buyers and carriers, in relation to the commercial operation of a bill of lading, (ii) how bypassing the bill of lading by using letters of indemnity affects each party’s position; and (iii) with regard to letters of indemnity issued against clean bills of lading, a detailed exploration of the boundaries of the tort of deceit and the ex turpi causa principle is required. There are many grey areas where the position is not straightforward. Finally, where letters of indemnity are issued against delivery of goods without the production of the bill of lading, the tort of conversion may be relevant.

APPROACHES TO THE USE OF LETTERS OF INDEMNITY

1.12 There are currently two different approaches to the use of letters of indemnity in the shipping context. On the one hand, some authors have described letters of indemnity in harsh terms. Professor Tetley has said of letters of indemnity used against clean bills of lading that they are “usually the central document to a fraud”¹² and that therefore “letters of indemnity should not be condoned by the Courts or by the Commerce”.¹³ Conversely, Jean Pierre Mattout has described the use of letters of indemnity as follows: “LOIs have been the practical way chosen by the parties even if they are far from being the perfect solution”.¹⁴ P&I Clubs have supported this approach by denying insurance cover, as a general rule, to shipowners making use of letters of indemnity against clean bills of lading, delivery of cargo at a different port or against nonproduction of a bill of lading.¹⁵

1.13 The benefit of a strict approach towards permitting the use of letters of indemnity, defended by these authors and by part of the industry, is that such an approach prevents some abuses and also fraud by promoting certainty through the establishment of a clear code of conduct which the parties cannot breach. As a result, the parties are compelled to work towards finding other solutions rather than using letters of indemnity. On the other hand, there is another view supported by some authors¹⁶ which acknowledges the effective use of letters of indemnity in the context of shipping in order to allow for the failure of an old system based on the bill of lading.

1.14 Delivery against a letter of indemnity provides another possibility for the shipowner seeking protection. It is almost a century since letters of indemnity were recorded as being used.¹⁷ These contracts have emerged as a result of situations in which the system based upon the bill of lading...