The true scope of inherent vice - The Cendor MOPU

Publication | February 2011

Introduction

The marine market will welcome this month’s important decision of the Supreme Court in The Cendor MOPU1, which has unanimously confirmed that the inherent vice defence is limited to situations where the loss has been proximately caused by something internal to the insured subject matter and not as a consequence of the operation of some external fortuity.

The Court very helpfully clarified the complex and at times difficult relationship between the insured risk of perils of the seas and the excluded peril of inherent vice, when it comes to establishing a proximate cause of a loss. As a result, the market should now see fewer coverage disputes on inherent vice issues; and although some difficulties may still remain those disputes which do arise should now be easier to resolve.

The loss

In May 2005 the assured purchased a self-elevating mat-supported jack-up rig, laid up in Galveston, Texas, for conversion to a mobile offshore production unit to be put into service off Malaysia. The rig had three tubular welded steel cylindrical legs, each 312 feet long. The rig’s platform could be jacked up and down by engaging steel pins into holes in each leg.

For a dry towage voyage to Malaysia, the assured obtained insurance on the rig under a policy on the terms of the Institute Cargo Clauses A (1982) subject to English law. The ICC A clauses insure against “all risks”, subject to various exclusions, one of which (Clause 4.4) is for “loss, damage or expense caused by inherent vice or nature of the subject matter insured”. This exclusion mirrors that found in section 55(2)(c) of Marine Insurance Act 1906.

Despite some recommendations to the contrary, the assured decided to move the rig without cutting the legs, so that the legs remained attached to the jackhouse and extended some 300 feet into the air. Insurers required a warranty survey on the rig, which recommended the rig legs be inspected mid-voyage for expected signs of fatigue cracking. The rig left Texas on 23 August 2005. She was inspected at Saldanha Bay, north of Cape Town, on 10 October 2005. Approved repairs were made to the legs and on 19 October the voyage resumed. On 4 November 2005 the starboard leg fractured and was lost; the following day the remaining two legs broke in quick succession and also fell into the sea.

The fractures were the result of progressive stress fatigue cracking at the corners of the pinholes. Once the first leg had fractured and fallen off, the other legs were subjected to increased stress so that they also failed. The stresses were generated from the effect that the height and direction of the waves had on the pitching and rolling motion of the barge. The weather encountered was within the range reasonably contemplated for the voyage.

The insured claimed for the loss of the three rig legs. The insurers denied the claim on various grounds, including inherent vice.

The history of the claim

The High Court found the loss was very probable but not inevitable. The development of stress fractures did not of itself cause the legs to come off; rather that, on the basis of the insurers’ expert’s evidence, what what was required was a “leg breaking wave” to cause the fatal fracture. Nevertheless, applying the test used by Moore-Bick J in the Mayban case,2 the proximate cause of the loss was inherent vice, specifically the inability of the legs to withstand the normal incidents of the insured voyage, including the weather reasonably to be expected.

The Court of Appeal in The Cendor MOPU rejected that test and decided that the proximate cause of the loss was perils of the seas in the form of the “leg-breaking wave” which resulted in the starboard leg breaking off leading to greater stresses on the remaining legs. The insurers appealed.

The Supreme Court decision

The Supreme Court unanimously dismissed the insurers’ appeal, all agreeing that the loss was proximately caused by a peril insured against, namely perils of the sea and not inherent vice (as properly interpreted). Four judges, Lords Saville, Mance, Collins and Clarke gave concurring reasoned judgments, each perhaps slightly differing in emphasis; with all of whom Lord Dyson agreed.

The Court stressed that by virtue of section 55(1) of the Marine Insurance Act 1906 the key enquiry in any case is to establish the proximate cause of the loss, which is, applying the common sense of a business or seafaring man, that which is proximate in efficiency.3 To determine this it was necessary to establish the proper meaning of the phrase “inherent vice or nature of the subject matter insured”. At the same time clarification was given as to what is meant by “perils of the seas”.

In addition, the Court provided some comment on concurrent proximate causes and the true nature of the provisions of section 55(2) Marine Insurance Act 1906 and ICC ‘A’ Clause 4.4 which will be of interest to practitioners.

Inherent vice

The dispute as to the meaning of inherent vice arose from the decision in Soya v White.4 In the Court of Appeal, Donaldson LJ commented that “a loss is proximately caused by inherent vice if the natural behaviour of the goods is such that they suffer a loss in the circumstances in which they are expected to be carried.” In the House of Lords, Lord Diplock referred to “the risk of deterioration of the goods shipped as a result of their natural behaviour in the ordinary course of the contemplated voyage without the intervention of any fortuitous external accident or casualty.” On the face of things, these two statements appear to be consistent, and Donaldson LJ’s formulation (with some reinterpretation) was that adopted by Moore-Bick J in Mayban, relied on by insurers and adopted by Blair J at first instance in The Cendor MOPU.

The Supreme Court rejected the insurers’ interpretation of Donaldson LJ’s analysis, not least because “such a definition pays scant regard as to how and in what circumstances the loss occurred”, and held that Mayban was wrongly decided. The effect of the decision would be to reduce much of the purpose of cargo insurance, and effectively to imply a warranty that cargo would be seaworthy on shipment which section 40(1) of the Marine Insurance Act 1906 expressly excluded. There was no prior case in which inherent vice had been held to encompass anything other than an internal defect in the subject matter; it had never provided a defence where the loss was caused by an external fortuitous event.

The Court quoted with approval early case law to the effect that “the purpose of insurance is to afford protection against contingencies and dangers which may or may not occur; it cannot properly apply to a case where the loss or injury must inevitably take place in the ordinary course of things”.5 A good example is Noten v Harding itself, where gloves containing moisture were damaged when the moisture was given off by the gloves in the form of vapour which then condensed and dripped back onto the gloves. There was nothing external to cause the loss. Lord Mance emphasised in The Cendor MOPU that the loss was entirely foreseeable but the reason that there was no recovery was because the gloves had effectively damaged themselves and had not sustained any fortuitous external accident. The Supreme Court approved the decision6 in Noten, and also cited with approval a Canadian decision where laminated truck flooring was damaged by moisture absorbed by the flooring in the course of manufacture, which on the voyage had evaporated and condensed. Once again, there was no external fortuity intervening in the loss.

Consequently, the Court decided that a loss is caused by inherent vice where the sole reason for that loss is the nature of the cargo, in that it would suffer loss irrespective of external fortuitous events.

In discussing Section 55(2) Marine Insurance Act 1906, Lord Mance, while denying that he was laying down any exact definition, felt able to suggest that “ordinary wear and tear and ordinary leakage and breakage would thus cover loss or damage resulting from the normal vicissitudes of use in the case of a vessel, or of handling and carriage in the case of cargo, while inherent vice would cover inherent characteristics of, or defects in, a hull or cargo leading to it causing loss or damage to itself – in each case without any fortuitous external accident or casualty.”

Perils of the seas

Paragraph 7 of the Schedule to the Marine Insurance Act 1906 defines perils of the seas. The term “refers only to fortuitous accidents or casualties of the seas. It does not include the ordinary action of the winds and waves”.

Approving the decision in The Miss Jay Jay,7 the Supreme Court stressed again that the word “ordinary” describes the word “action” and not “the wind and waves”. The question is “whether the sea conditions were such as to have caused a fortuitous accident or casualty” - whether the winds and waves have had some extraordinary effect, rather than whether they were extraordinary in themselves. Any suggestion that a peril of the seas involves exceptionally heavy weather8 cannot survive the Supreme Court’s reasoning in The Cendor Mopu. Lord Mance specifically held that that was not the law in relation to vessels and there was no reason why it should be treated as the law in respect of cargo. It is thus irrelevant that the loss was foreseeable and the weather conditions were readily anticipated.

Lord Mance also disposed of another issue which has on occasion given rise to some difficulty, explaining that mere incursion of water is not a peril of the seas: it is necessary for the assured to demonstrate a fortuitous event which led to the incursion of water.

Causation

On the facts of the present case, Lords Saville, Mance and Collins, applying the wide definition of “perils of the seas” and the narrow definition of “inherent vice”, held that there was only one causative peril, namely, perils of the seas. Lord Clarke recognised that there were two perils, namely “the physical state of the rig and the "leg breaking" stress caused by the state of the sea at the time the first leg fractured”, but that only the latter was a causative peril.

The outcome was the same whether there was one peril or two as there was unanimity that there was only one proximate cause. The legs fell off because there was a “a leg breaking wave of a direction and strength catching the first leg at just the right moment, leading to increased stress on and collapse of the other two legs in turn”. Inherent vice had not caused the loss.

Lord Clarke stated that “the sole question in a case where loss or damage is caused by a combination of the physical condition of the insured goods and conditions of the sea encountered in the course of the insured adventure is whether the loss or damage is proximately caused, at least in part, by perils of the seas (or, more generally, any fortuitous external accident or casualty). If that question is answered in the affirmative, it follows that there was no inherent vice, thereby avoiding the causation issues that arise where there are multiple causes of loss, one of which is an insured risk and one of which is an uninsured or excluded risk”.

It seems therefore that there is no possibility of these two particular perils working in tandem; if there is a loss by perils of the seas, then there is no loss by inherent vice. Nevertheless on the question of concurrent cause some members of the Court expressed views which will be of interest to practitioners in other situations. It is settled law that if there are two independent concurrent causes of a loss, one of which is insured and the other excluded, then the exclusion takes priority.9 It is also settled law that if there are two concurrent causes, one insured and one uninsured (but not excluded), the insured peril takes priority and there is coverage.10

In view of the express exclusion of inherent vice from cover under section 55(2)(c) of the 1906 Act and under clause 4.4 of the ICC A it might have been thought the exclusion took priority. However, Lord Clarke considered that the so-called exclusion of inherent vice by section 55(2)(c) was not an exclusion at all, but merely an amplification of the proximate cause rule and thus an example of a circumstance of a loss not proximately caused by a peril insured against. Lord Mance added that the exclusion of inherent vice in the contract ought not to have made any difference to its status as merely an uninsured peril under section 55(2)(c) of the 1906 Act. Indeed, in the view of Lord Mance this was not a case in which there was a true exception which took out of cover a specific situation giving rise to the risk but rather a situation of two events combining to cause a loss.

Implications of the decision

The facts of the Cendor MOPU case were somewhat unusual. Lord Mance thought it “close to the line”, even applying the correct meaning of inherent vice. Had there been only gradual development of stress fractures in the rig legs due to the motion of the carrying vessel on the voyage, resultant repairs to the rig would not have been covered by the policy (as being due to fair wear and tear and/or inherent vice). However, since the “leg-breaking wave” was the proximate cause, and even though it was foreseeable and was foreseen, it provided the necessary element of external fortuity to enable the insured to recover under the policy.

The decision provides welcome clarification or guidance for the insurance market on many tricky issues, which should result in fewer and less complex coverage disputes. It is now clear that a loss is caused by inherent vice where the sole reason for that loss is the nature of the cargo, in that it would suffer loss irrespective of external fortuitous events.

The test in Mayban is no longer applicable, which will remove the need for complex expert evidence as to the conditions encountered on a voyage and whether these were reasonably to be expected. With confirmation of the strict limits of the inherent vice exclusion, insurers may now need to reconsider or seek advice upon existing cases in which this defence has been raised. Alternatively, if the effect of the decision is to expose insurers to risks they are not prepared to accept, for example where failure is very highly likely, some modification to rates or policy wordings may be required.

In addition to s55(2) of the 1906 Act, inherent vice “exclusions” are found in the 1982 and 2009 versions of the Institute Cargo Clauses and many other cargo covers. While the meaning of inherent vice will normally be the same under all marine insurances, application of the principles will depend on the nature and characteristics of the particular goods insured and of the insured voyage. Ultimately (as here) each case will turn on the application of principles clarified in the Cendor MOPU decision to the specific facts of each case, in particular what, based on expert evidence, a court decides is the true proximate cause of the loss.

The inherent moisture-type cases are likely to prove relatively straightforward. However, complex causation issues may arise with certain types of project cargoes where there has been progressive damage to the insured property as a result of movement or vibration of the carrying vessel in the course of the voyage. In such cases, the question is likely to be whether or not there was some external fortuitous “straw that broke the camel’s back”, or whether the damage was simply the result of the way the insured property naturally behaves when being transported.

While it appears that inherent vice and perils of the seas cannot both be concurrent proximate causes of a loss, in other circumstances issues of concurrent proximate causes of loss, one of which is inherent vice, may still pose problems. In this context, while not part of the decision, members of the Court expressed some interesting views on the true nature of the provisions of section 55(2) Marine Insurance Act 1906 and ICC A clause 4.4 and, in particular, whether these are situations of excluded perils or an amplification of the proximate cause rule. It may be that inherent vice is not to be considered as an excluded peril but simply as an example of a situation which is not a peril of the seas.

We gratefully acknowledge the invaluable contribution of Professor Robert Merkin, consultant to Norton Rose LLP, to the text of this briefing; any errors are ours alone.


Notes:

  1.   Global Process Systems Inc and another v Syarikat Takaful Malaysia Berhad, The Cendor MOPU [2011] UKSC 5.
  2. Mayban General Insurance v Alstom Power Plants Ltd [2004] 2 Lloyd's Rep 609. A transformer suffered internal damage by violent movements of the carrying vessel on the voyage although the transformer itself did not move within the stow. It was common ground between the parties and so held in that case that the insurers would be liable only if the transformer was capable of withstanding the forces that it could ordinarily be expected to encounter in the course of the voyage. The evidence was that the conditions were neither extreme nor unusual so it was held that the loss could not have been caused by perils of the seas but was necessarily caused by inherent vice.
  3. per Bingham LJ in TM Noten v Harding [1990] 2 Lloyd’s Rep. 283
  4. Soya GmbH Mainz Kommanditgesellschaft v White [1983] 1 Lloyd's Rep 122
  5. Paterson v Harris (1861) 1 B & S 336
  6. Nelson Marketing International Inc v Royal and Sun Alliance Insurance Co of Canada (2006) 57 BCLR (4th) 27
  7. [1985] 1 Lloyd’s Rep 264; upheld for differing reasons by the Court of Appeal [1987] 1 Lloyd’s Rep 32.
  8. As, for example, in Mountain v Whittle [1921] AC 615.
  9. Wayne Tank and Pump Co Ltd v Employers Liability Assurance Corporation Ltd [1974] QB 57.
  10. J J Lloyd Instruments Ltd v Northern Star Insurance Co Ltd, (The Miss Jay Jay) [1987] 1 Lloyd's Rep 32. The reasoning of the Court of Appeal is open to some doubt and the approach of Mustill J at first instance seems to have been more attractive to Lord Mance in The Cendor MOPU.

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Ian Teare

Ian Teare

Singapore
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