Pioneer Freight Futures Company Ltd v TMT Asia Ltd

On 1 April 2011, I handed down judgment in this action (Footnote: ¹) (“the First Judgment”), following Pioneer’s application for summary judgment on its claim. The definitions used in that judgment are used in this judgment. The result of the First Judgment, on the basis of the parties’ pleaded cases as they stood at that date, was that Pioneer was entitled to judgment against TMT in the sum of US$ (“$”) 26,088,865.94. Most of the necessary background facts for the purposes of this judgment are set out in the First Judgment, and I do not repeat them here.

Following the handing down of the First Judgment, I gave TMT permission to amend its defence so that it could argue a new point, the effect of which, TMT claimed, was to reduce Pioneer’s claim to $ 16,557,594.10. I considered it appropriate that TMT should have the opportunity to argue this new point of law and construction, notwithstanding that it had been raised so late, and that it could have been raised earlier, following the decision of Briggs J in Lomas v JFB Firth Rixson [2010] EWHC 3372 (Ch) (“Lomas”), in relation to which I had given the parties an opportunity to present further argument prior to the delivery of the First Judgment. My reasons for allowing this late amendment included the facts that:

I heard detailed oral argument on the new point on 7 April 2011. For the purposes of that hearing, the parties presented a further 30 pages of written arguments, together with a bundle of further authorities. The parties were told by me that there would be some delay in the preparation of my further judgment because of my absences on leave, and that it was likely that judgment would be handed down in the Trinity term. On 3 June the parties informed me by letter that they had agreed to resolve their disputes in accordance with the terms of a confidential settlement dated 27 May 2011. However, I was told that both parties had agreed that the proceedings would be formally withdrawn upon the handing down of my further judgment. I was told that that was because Pioneer had various cases where similar issues arose and it was hoped that my judgment in relation thereto might enable the parties to settle those further disputes. In particular, I was told that similar issues arose in a case that was due to be heard in the Commercial Court in June 2011, namely Pioneer Freight Futures Company Ltd v COSCO Bulk Carriers Company Ltd (Footnote: ²). In the event, however, due to priority that had to be afforded to other cases, I was not in a position to deliver this judgment before Flaux J handed down his judgment in that case: Pioneer Freight Futures Company Ltd v COSCO Bulk Carriers Company Ltd [2011] EWHC 1692 (Comm) (“COSCO”). That judgment addresses some of the same issues that arise in this case. I am informed that COSCO is also being appealed to the Court of Appeal, Flaux J having granted leave.

Because Pioneer and TMT had settled this case, I did not consider it appropriate to invite counsel to make further submissions in relation to Flaux J’s decision. Some of the arguments which found favour with him, were not arguments which counsel had presented in argument to me.

I have given anxious consideration as to whether, in the circumstances, it is appropriate for me to give any judgment in this case at all, given that, in the light of the parties’ settlement, the issues raised are moot. In effect the Court is being asked to give an advisory opinion, in order to assist Pioneer and the market (not merely limited to the FFA market, but also the wider financial market), in relation to the construction and application of important provisions of ISDA 92. Although, no doubt, I have a discretion to do so in the particular circumstances of this case, where I have heard argument on the relevant issues and they are of such obvious concern to the market, I nonetheless have to bear in mind that the Court’s resources have to be deployed as effectively as possible. I have to consider the overriding objective set out in Part 1 of the Civil Procedure Rules. (Footnote: ³) That consideration is particularly pertinent in circumstances where at least two of the three issues raised in this case are likely to be determined by the Court of Appeal in both the Lomas and COSCO appeals later this year in any event. Were I to agree with the views taken by Briggs J and/or Flaux J in relation to the second and third issues, the utility of a further judgment from me arriving at the same result would be questionable. Were I to disagree with their views (the result sought by Pioneer), again, the utility and status of a judgment from me on an advisory basis, and without hearing argument in relation to Flaux J’s reasoning, would also be questionable, although it might of course provide Pioneer or other parties with a useful negotiating tool in the context of other disputes. Two further factors are also relevant. First, the first issue (as defined below), if it were to be decided in Pioneer’s favour, would be determinative of the only question left in the action prior to settlement (viz. the quantification of TMT’s liability), without the need to resolve the second and third issues. Second, the pressure of work in the Commercial Court is such that the efficient deployment of its judges in the interests of all its users is critical to the effective functioning of that court. It is these considerations which have resulted in the approach which I have adopted to this judgment, as appears below.

The Amended Defence, so far as relevant, now pleads as follows:

“13A. Alternatively, the amount of the claim is in any event overstated. The contracts numbered 5, 6, 7, 8, 11, 12, 13, 15 and 16 in Schedule 1 to the Amended Particulars of Claim (‘the 2008 Contracts’) all terminated according to their terms at the end of December 2008. In the premises set out in paragraphs 6.6 and 6.7 above, and on the true construction of the ISDA Master Agreement –

13A.1 no Settlement Sums fell due for payment from the Defendant to the Claimant under any of the 2008 Contracts in respect of the Contract Months of November or December 2008, and

13A.2 on the termination of the 2008 Contracts, any liability on the Defendant to pay any Settlement Sums to the Claimant in respect of the 2008 Contracts was extinguished once and for all.

13B. In the premises pleaded in paragraph 13A above, the amount that should be credited to the Defendant is understated by a sum of US$4,568,754.39 in respect of November 2008 and by US$4,962,517.47 in respect of December 2008. Even if the Claimant is otherwise entitled to judgment against the Defendant, the correct sum would accordingly be US$16,557,594.10, not US$26,088,856.94.”

Thus TMT’s position, as a result of the Amended Defence, is that it denies that it is liable to Pioneer in respect of sums which it would have had to pay Pioneer in respect of three of the 2008 Contracts (Footnote: ⁴) had Pioneer not, in November and December 2008, been subject to an Event of Default. That, TMT claims, is because Pioneer’s inability to satisfy the conditions precedent in section 2(a)(iii) of ISDA 92 was not rectified, nor was it affected by the Event of Default which occurred in December 2009 and which gave rise to Automatic Early Termination of other relevant FFAs. TMT contend that is so for two reasons:

As a result, and based on the decision in Lomas, TMT contended that, if the 2008 Contracts were not the subject of Automatic Early Termination, then Pioneer was only entitled to the judgment entered on 1 April 2011, in the sum of US$16,557,594.10, and nothing more. This calculation involves, in effect, stripping from the section 6 closing calculation of “Loss” that occurred on Automatic Early Termination in December 2009, sums ostensibly due to Pioneer in respect of Contract Months November and December 2008 relating to three of the 2008 Contracts (Contracts 5, 6 and 11), on the grounds that, by the date of Automatic Early Termination, they had expired. TMT contends that its re-quantification produces the following result:

However, if (contrary to TMT’s arguments) the amounts ostensibly due to Pioneer under contracts 5, 6 and 11 were available on the due dates for payment in relation to Contract Months November and December 2008 to be taken into account for netting purposes under section 2(c) of ISDA 92, then gross sums owed to TMT in relation to Contract Months November and December 2008 would have been pro tanto reduced by such amounts, and thus TMT’s attempt at re-quantification of its claim would fail. As at the due dates for payment in relation to Contract Months November and December 2008, the relevant 2008 Contracts (5, 6 and 11) under which Pioneer was in the money had not yet “expired”, in the sense that there was still, technically at least, the possibility that relevant conditions precedent could be satisfied.

Thus TMT’s newly-formulated quantification of its liability assumes in its favour that the decision of Flaux J in Marine Trade SA v Pioneer Freight Futures Co Ltd BVI [2009] EWHC 2656 (Comm), [2010] 1 Lloyd’s Reports 631 (“Marine Trade”) - namely that a Non-defaulting Party does not have to give credit by way of netting under section 2(c) for an amount that was not payable by the Non-defaulting Party because of a failure to satisfy a condition precedent under section 2(a)(iii) - is correct.

Accordingly, the issues raised by TMT’s suggested re-quantification of its liability may be summarised as follows:

Before turning to consider the respective issues, it is relevant to note that, although in the First Judgment I used the definition “Contract Period” to denote the total period in respect of which the parties under a FFA agree to pay the Settlement Sum (as defined in the FFA) on a monthly basis, the only definition of “Contract Period” is that appearing in the FFA, which is as follows:

“5.

Contract Period

Average of all BPI Index days of the contract month(s) up to and including the settlement date(s).”

“Contract Months” are defined in a FFA as the relevant months in respect of which a party has to pay a “Settlement Sum” (as also defined in a FFA).

Logically, this issue arises first, since, it requires consideration of the position whether, as at a time when the 2008 contracts had not expired (namely on the payment date (Footnote: ⁶) specified in clause 9 of the relevant FFAs in relation to Contract Months November 2008 and December 2008), the automatic netting provisions of section 2(c) of ISDA 92 applied, so as to enable Pioneer to contend that the gross sums which it owed TMT were automatically netted off as against the gross sums which TMT owed Pioneer, thereby pro tanto discharging Pioneer’s obligations to TMT.

So far as here material, section 2 of ISDA 92 provides:

“2.

Obligations

(a)

General Conditions

(i)

Each party will make each payment or delivery specified in each Confirmation to be made by it, subject to the other provisions of this Agreement.

(ii)

Payments under this Agreement will be made on the due date for value on that date in the place of the account specified in the relevant Confirmation or otherwise pursuant to this Agreement, in freely transferable funds and in the manner customary for payments in the required currency. Where settlement is by delivery (that, other than by payment), such delivery will be made for receipt on the due date in the manner customary for the relevant obligation unless otherwise specified in the relevant Confirmation or elsewhere in this Agreement.

(iii)

Each obligation of each party under section 2(a)(i) is subject to (1) the condition precedent that no Event of Default or Potential Event of Default with respect to the other party has occurred and is continuing, (2) the condition precedent that no Early Termination Date in respect of the relevant Transaction has occurred or been effectively designated and (3) each other applicable condition precedent specified in this Agreement.

...

(c)

Netting. If on any date amounts would otherwise be payable

(i)

in the same currency; and

(ii)

in respect of the same Transaction,

by each party to the other, then, on such date, each party’s obligation to make payment of any such amount will be automatically satisfied and discharged and, if the aggregate amount that would otherwise have been payable by one party exceeds the aggregate amount that would otherwise have been payable by the other party, replaced by an obligation upon the party by whom the larger aggregate amount over the smaller aggregate amount.

The parties may elect in respect of two or more Transactions that a net amount will be determined in respect of all amounts payable on the same date in the same currency in respect of such Transactions, regardless of whether such amounts are payable in respect of the same Transaction. The election may be made in the Schedule or a Confirmation by specifying that subparagraph (ii) above will not apply to the Transactions identified as being subject to the election together with the starting date (in which case subparagraph (ii) above will not, or will cease to, apply to such Transactions from such date). This election may be made separately for different groups of Transactions and will apply separately to each pairing of Offices through which the parties make and receive payments or deliveries.” (emphasis added)

In the present case, by virtue of clause 10(a) of the FFABA 2007 (Footnote: ⁷) terms, Pioneer and TMT elected that section 2(c)(ii) would not apply, so that, as stated in clause 10(a) of all the relevant FFAs:

“… a net amount due will be determined in respect of all amounts payable on the same date in the same currency in respect of two or more Transactions.”

One of the questions raised in the Marine Trade case was whether, in circumstances where one of the parties to an FFA is affected by an Event of Default, such that the condition precedent in section 2(a)(iii) is not satisfied, the Settlement Sums which would be due to the Defaulting Party but for the Event of Default can be taken into account for the purposes of netting under section 2(c).

Flaux J held that, in these circumstances, the Settlement Sums owed to the Defaulting Party could not be taken into account under section 2(c). In other words, the Non-defaulting Party was entitled to claim Settlement Sums due to it on a gross or aggregate basis, without giving credit for sums which would otherwise (but for section 2(a)(iii)) have been payable to the Non-defaulting Party. At paragraphs 22 - 27 of his judgment, Flaux J said as follows:

“22.

I have no doubt that Mr Baker’s construction of the provision in section 2(c) is the correct one. As a matter of ordinary language, ‘payable’ clearly means now due and owing, for immediate payment and not only payable if and when some suspensive condition for which Mr Tselentis contends is satisfied. Quite apart from the ordinary meaning of language, when the agreement is considered as a whole, the word ‘payable’ in section 2(c) clearly means that there is a current enforceable obligation to pay. This is clear from the fact that, having talked about ‘amounts which would otherwise be payable’, the provision goes on to talk about ‘each party’s obligation to make payment’ being ‘automatically satisfied and discharged’ by payment of the balance after netting. However, where Pioneer is affected by an Event of Default, as a consequence of section 2(a)(iii), Marine Trade has no obligation to make payment to Pioneer at all.

23

That ‘payable’ connotes an immediately enforceable obligation to pay is also clear from the definition of ‘Unpaid Amounts’ for the purposes of the calculation of the payment due on Early Termination. This refers to such unpaid amounts being ‘the amounts that became payable (or that would have become payable but for section 2(a)(iii))’ which demonstrates that the effect of non-compliance with the conditions precedent in section 2(a)(iii) is that the amounts have not become payable. That is only consistent with ‘payable’ meaning immediately due for payment and wholly inconsistent with Mr Tselentis’ construction of ‘payable’ as somehow covering a situation where the payment obligation has been suspended. Mr Tselentis accepted that if his construction of ‘payable’ was wrong (which I do consider it to be), his argument on Issue 2 could not run.

24

Given what I consider to be the clear construction of section 2(c), it is not necessary to consider in any great detail the various arguments about the commercial purpose of the provision with which Pioneer sought to bolster its construction. The main thrust of those arguments was the alleged absurdity of a situation such as would obtain if Marine Trade were right, where a Non-Defaulting Party could insist that the Defaulting Party paid sums gross to it without netting off, even if, were the Non-Defaulting Party to designate an Early Termination Date under section 6 (which ex hypothesi it would not do) the calculation of the payment on such Early Termination would result in a substantial balance in favour of the Defaulting Party, because the Settlement Sums which would have become payable to the Defaulting Party but for section 2(a)(iii) fall to be considered in arriving at the eventual figure.

25

However, it seems to me that there is an obvious difference between what is to happen whilst the contract is subsisting and how the parties resolve their differences on early termination by way of ‘wash-out’. As Mr Baker pointed out, in what might be described as orthodox contractual analysis, if one party is in default and that amounts to a repudiatory breach of contract, the other party can accept that repudiation as bringing the contract to an end and thereby terminate any of its own obligations for the future. To that extent, some of the Early Termination provisions of the Master Agreement might be said to be unorthodox, in the sense that they seek to balance the current and future obligations of the Non-Defaulting Party under the relevant futures transactions against those of the Defaulting Party. They are no doubt designed at least in part to ensure a ‘wash-out’ between the parties on termination which strikes a fair balance to reflect that transactions which by definition were going to continue for some time into the future have been terminated early.

26

However, it does not seem to me that what will happen on early termination necessarily has any connection with what happens when the relevant transactions are subsisting. Where the Non-Defaulting Party has chosen (as it is perfectly entitled to do) not to elect for early termination under section 6, I can quite see the commercial sense of being able to insist on ‘gross’ payment by a Defaulting Party.

27

In any event, even if it could be said that the commercial balance of the argument lay in favour of Pioneer, that is not enough to gainsay the clear meaning of section 2(c) as I have held it to be. This is not a case in which Pioneer has suggested that the construction for which Marine Trade contends is so unreasonable commercially that the court should endeavour not to construe the agreements in that way, applying Lord Reid’s famous dictum in Schuler v Wickman Machine Tools [1974] AC 235 at 251.”

Thus, according to Flaux J, if a party was affected by an Event of Default at a particular time such that the condition precedent to payment was not satisfied in relation to that party, it followed that any Settlement Sums which would, but for that Event of Default, be due to that party were not “otherwise ... payable” for the purpose of section 2(c), and could not be taken into account under that section. In particular, he held that, “as a matter of ordinary language”, the word payable means “now due and owing, for immediate payment”, and that a sum which was not immediately due for payment by virtue of section 2(a)(iii) was therefore not “payable” (see at paragraph 22).

In support of that conclusion, Flaux J relied upon the definition of “Unpaid Amounts” in section 14 of ISDA 92, which referred to “the amounts that became payable (or that would have become payable but for section 2(a)(iii))”. According to Flaux J, the definition of Unpaid Amounts confirmed that, in the context of ISDA 92 as a whole, the word “payable” connotes an immediately enforceable obligation to pay (paragraph 23).

In Lomas, where the relevant agreements were fixed and floating interest rate swaps, all parties to the agreements invited the Court to proceed on the basis that, notwithstanding Flaux J’s judgment in Marine Trade, at least so far as the interest rate swaps of the type in question in Lomas were concerned, section 2(a)(iii) could not be construed as preventing netting under section 2(c) despite the fact that one party was in default. It was apparently argued that, whilst the FFAs in Marine Trade were merely contracts for differences (see, for example, clause 8 of the FFAs) the interest rate swaps in Lomas contained inter-dependent payment provisions and therefore the non-defaulting party could not enforce the defaulting party’s obligations without having its own reverse payment obligations taken into account. Accordingly, Briggs J was invited not to follow Flaux J’s decision on the point (Footnote: ⁸). (ISDA, which had intervened in the Lomas action, sought to distinguish Marine Trade). However, since the relevant ISDA 92 provisions were precisely the same in both cases, the parties were effectively proceeding on the basis that the conclusion reached by Flaux J should not be followed (Footnote: ⁹). Briggs J indicated that he was prepared to proceed on the basis conventionally agreed by the parties, expressly stating that, in so doing, he was not casting any doubt and expressing no view one way or the other upon Flaux J’s contrary conclusion in Marine Trade (Footnote: ¹⁰).

The netting issue did not directly arise in COSCO. (Footnote: ¹¹) However, Flaux J restated his earlier conclusions at paragraphs 92 – 98 as follows:

“92.

Briggs J in Lomas accurately summarised my conclusion as: ‘His view was that the clear language, in particular of Section 2(c), meant that credit only had to be given, by way of netting, for an amount that was payable, and not for an amount that, because of an unfulfilled condition precedent under Section 2(a)(iii), was not payable.’ This issue was one of the issues raised by the appeal of Pioneer in Marine Trade, which was not pursued.

93.

In the present case, the issue does not arise directly, since, after November 2008, neither party made any payment, Pioneer because it did not have the financial means to do so and Cosco because it was under no obligation to do so because of Section 2(a)(iii). It follows that the question of netting did not arise after Section 2(a)(iii) took effect in November 2008. Whether netting would have been possible in other circumstances where Section 2(a)(iii) had taken effect is thus an academic question. It is of no more than marginal relevance to the issue of whether contingent payment obligations survive in the case of transactions which have reached their natural expiry.

94.

In his Skeleton Argument, Mr Thanki recognised this and said that this point was not essential to his argument, but that the view of all the parties in Lomas was to be preferred. By the time of the hearing, perhaps goaded by Mr Jacobs’ submissions in his Skeleton Argument as to why my decision on the point in Marine Trade was correct, Mr Thanki had put in a detailed written Supplementary Note as to why my decision was wrong. He pointed out that my analysis, that netting was only available if there was a current, enforceable obligation to pay and not if the particular Settlement Sum was not payable because of non-fulfilment of the conditions precedent in Section 2(a)(iii), had been disapproved by textbook writers.

95.

He drew particular attention to the intense criticism my decision had received in Henderson on Derivatives, a textbook by Schuyler K Henderson, an eminent American academic and consultant on derivatives law. Mr Henderson describes my decision variously as ‘remarkable’, ‘astonishing’ and ‘bizarre’. He suggests that the flaw in my reasoning is a failure to recognise that, because Section 2(a)(i) says that it is ‘subject to the other provisions of this Agreement’, one of which other provisions is Section 2(c), both Section 2(a)(iii) and Section 2(c) should be read as referring back to Section 2(a)(i) independently and there is no reason to give primacy to Section 2(a)(iii) (see para. 20.18 of the second edition at p 1074).

96.

However, with respect to Mr Henderson and Mr Thanki, who adopted his reasoning, my analysis in Marine Trade did not depend upon giving Section 2(a)(iii) primacy over Section 2(c). Assuming for present purposes that Mr Thanki is right in his submission that Section 2(a)(iii) is subject to, and logically anterior to, Section 2(c), Section 2(c) still only applies where, before netting occurs, there is an amount which ‘would otherwise be payable’ and ‘an obligation to make payment of any such amount’, but for the netting process. In the light of Mr Henderson’s criticisms and Mr Thanki’s submissions, I have reconsidered the issue of what those phrases connote in Section 2(c).

97.

Mr Thanki relied upon the definition of ‘payable’ in Black’s Law Dictionary (9th edition 2009): ‘(Of a sum of money or a negotiable instrument) that is to be paid. An amount may be payable without being due. Debts are commonly payable long before they fall due.’ He also submitted that ‘payable’ meant different things in different contexts in the ISDA Master Agreement, pointing to various references to payment being ‘due’ or ‘due and payable’ but it seems to me that he could not point to anything, at least in the 1992 Master Agreement with which the Court is concerned, which suggested that ‘payable’ is being used anywhere in the Master Agreement in a contingent sense of ‘payable, although the payment obligation is suspended’ or in the sense to which Black is referring.

98.

As I said in Marine Trade, it seems to me from the internal references within Section 2(c) to ‘each party’s obligation to make payment’ being ‘automatically satisfied and discharged’ by payment of the balance after netting, that ‘payable’ in Section 2(c) connotes an immediately enforceable obligation to pay. Furthermore, the ‘Unpaid Amounts’ definition, which refers to ‘the amounts that became payable (or that would have become payable but for Section 2(a)(iii))’, makes it clear that the effect of non-compliance with the conditions precedent in Section 2(a)(iii) is that amounts did not become ‘payable’ for the purposes of netting under Section 2(c). Thus, in so far as it is necessary to decide this point in the present case, I consider that, where the conditions precedent in Section 2(a)(iii) have not been satisfied, netting is not available to the Defaulting Party, for the same reasons as I gave in Marine Trade.”

Mr. Jonathan Crow QC, leading counsel on behalf of TMT, submitted that Flaux J’s decision in Marine Trade on this point was clearly correct for the reasons which he gave, and that I should follow it. He argued that the wording of section 2(c) could not be clearer as it used the word “payable”, and, because of the operation of section 2(a)(iii), no sums were payable by Pioneer as the Defaulting Party.

Mr. Charles Kimmins QC, leading counsel on behalf of Pioneer, submitted as follows.

Flaux J’s decision on the Netting Issue in Marine Trade was wrong, and the approach taken by the parties in Lomas was correct. The decision had been subject to considerable criticism by market commentators: see for example Henderson on Derivatives (2^nd Edition) at pp 918 and 1074, and various other commentators.

Mr. Kimmins submitted that there were four principal reasons why Flaux J’s decision was wrong:

Taking into account the considerations I have outlined in paragraph 5 above, I consider it is appropriate to express my conclusions in relation to the Netting Issue, notwithstanding the fact that this case has settled. I consider that it is appropriate to do so, because of the uncertainty to which the decision in Marine Trade in relation to the Netting Issue (and the fact that it was not applied in Lomas) has apparently given rise in the market and because I have, with the greatest respect to Flaux J’s analysis in both Marine Trade and COSCO, firmly reached the opposite conclusion to him.

The approach to the interpretation of commercial documents of this kind is not controversial. It was recently re-stated in paragraphs 9 and 10 of the Supreme Court judgment of Lord Mance in In re Sigma Finance Corporation (in administrative receivership) [2009] UKSC 2. As Lord Mance pointed out, after reference to a number of well-known cases, including Charter Reinsurance Co Ltd (In Liquidation) v Fagan [1997] AC 749:

“In Charter Reinsurance Lord Mustill underlined the danger of focusing too narrowly on a critical phrase (in that case, a phrase defining the term ‘net loss’ as meaning ‘the sum actually paid by the Reinsured in settlement of claims’), saying, at p.384G-H that:

‘This is … an occasion when a first impression and simple answer no longer seem the best, for I recognise that the focus of the argument is too narrow. The words must be set in the landscape of the instrument as a whole. Once this is done the shape of the policy and the purpose of the terms … become quite clear’

Adopting that approach, the House concluded that the words “actually paid” were in context not intended to introduce a pre-condition of pre-payment by the insurer to the original insured, but to ensure that the reinsurers’ liability was measured precisely by reference to any settlement of liability as between the insurer and insured. Later (at p.387D) Lord Mustill said that the principle that the liability of a reinsurer is wholly unaffected by whether the insurer has in fact satisfied the claim under the inward insurance is one which

‘can undoubtedly be changed by express provision, but clear words would be required; and it would to my mind be strange if a term changing so fundamentally the financial relationship were to be buried in a provision such as clause 2, concerned essentially with the measure of indemnity, rather than being given a prominent position on its own.’”

Thus, I start my analysis by looking at the “landscape” of the instruments as a whole. One does not have to approach the canvas of the relevant FFABA 2007 terms and ISDA 92 very closely to see that the broad commercial scheme of the instruments (certainly where, as here, there is an election for Automatic Early Termination and for the “Second [payment] Method” under section 6(e)(i)(4)) is that aggregate or gross amounts in respect of all Transactions between the parties subject to the Master Agreement are to be netted off against each other, so that only one net sum is actually due from one party to the other. That is made clear by clause 10(a) of the relevant FFA (disapplying section 2(c)(ii) of ISDA 92) and by section 2(c) of ISDA 92.

Moreover, the relevant commercial background is, of course, that the parties anticipate that they will, at any one time, have a number of similar transactions in place, all subject to one common ISDA 92 Master Agreement.

Thus, during the life of a contract (disregarding, for the moment, the factual situation in issue here, where one party is in default, and therefore the section 2(a)(iii) condition precedent is not satisfied), clause 10(a) of the FFA, combined with section 2(c) of ISDA 92, operates to ensure that there is a monthly netting off of all aggregate or gross amounts payable in the same currency on the same day in respect of all Transactions between the parties.

The same scheme also operates at the end of the contract’s life on Early Termination or Automatic Early Termination. Where there has been an election for the Second Method of payment (whether the payment measure is “Market Quotation” or “Loss”), the relevant provisions of sections 6(a), 6(c), 6(d), 6(e) and the relevant definition provisions of section 14 (Footnote: ¹⁷) require a closing or wash-out calculation that produces one final net figure which one or other party is obliged to pay the other.

As held in the First Judgment (Footnote: ¹⁸), this wash-out calculation on Automatic Early Termination takes into account, retrospectively, payments which the Non-defaulting Party would have been required to make to the Defaulting Party during the Contract Months preceding Automatic Early Termination, had not the Defaulting Party been subject to a subsisting Event of Default, and thus could not, during that period, satisfy the condition precedent to the payment obligation in section 2(a)(iii) of ISDA 92. In other words, there is an across-the-board netting off of all past payment obligations on the assumption that the conditions precedent had been satisfied.

Likewise, as Flaux J (in Britannia Bulk plc (supra) and I (in the First Judgment (Footnote: ¹⁹)) respectively decided, the wash-out calculation on Early Termination also has to take into account, when calculating the Non-defaulting Party’s prospective “Loss”, an estimate of the sums that would have been prospectively payable over the remaining life of the Transactions by the Non-defaulting Party, on the assumption that the conditions precedent had been satisfied by the Defaulting Party. This is because the Non-defaulting Party has to make an estimate of what (if any) loss he has suffered prospectively, as a result of the contracts not continuing for the rest of their contractual term, and also an estimate of any gain the Non-defaulting Party has made as a result of being relieved of further performance, in respect of which he has to account to the Defaulting Party (Footnote: ²⁰).

In other words, on Early Termination or Automatic Early Termination, both parties’ retrospective and prospective obligations have to be estimated and notionally set off against one another, so as to reach one figure for the Non-defaulting Party’s “Loss”, which may be a positive or a negative number. A similar approach is taken where the payment measure is Market Quotation. And, critically, this calculation has to be done on the basis that it is assumed that conditions precedent will have been satisfied.

Although, in Marine Trade, Flaux J expressed the view that it did not seem to him that:

“… what will happen on early termination necessarily has any connection with what happens when the relevant transactions are subsisting …” (Footnote: ²¹)

I disagree. In my view, it is much more likely that, given the commercial background, where, typically, there will at any one time be a number of open Transactions between the parties, the scheme was intended to be a cohesive one, governing the entire period of the relationship of the parties.

Thus, my general impression of the “landscape” of ISDA 92 and the relevant FFAs (certainly where the Second [payment] Method is chosen) is that it strongly demonstrates an intention to provide for an equitable netting or set off of payments and obligations, both throughout the relevant contract period of the Transactions and on Early, or Automatic Early, Termination.

So the question arises, whether, against such a landscape, there is a commercial justification or linguistic requirement that predicates that the relevant words in section 2(c): “amounts that would otherwise be payable”; or “amounts that would otherwise have been payable”; or “obligation to make payment” etc, have to be construed as referring only to amounts that would be payable, or obligations to make payment provided that the conditions precedent of section 2(a)(iii) are satisfied.

I turn first to consider the question of commercial justification.

As I held in the First Judgment, (Footnote: ²²):

“… the commercial function or purpose of the condition precedent to payment as set out in Section 2(a)(iii) is to mitigate counterparty credit risk during the currency of what may be numerous swap transactions under the umbrella of ISDA 92 and while they remain open.”

As Mr. Kimmins submitted, it is very difficult to see how that commercial purpose is fulfilled if the required construction of section 2(c) and clause 10(a) is that the netting process only applies in circumstances where both parties have satisfied the condition precedent specified in section 2(a)(iii).

In my view, a construction that entitles a Non-defaulting Party to insist on payment from a Defaulting Party on a gross basis wholly undermines the commercial purpose of mitigation of counterparty risk. The following simple example suffices to demonstrate this:

If TMT’s analysis were correct:

On the other hand, on Pioneer’s construction, the principle of mitigation of counterparty risk is not undermined at all, whether from the point of view of the Defaulting Party or that of the Non-defaulting Party. Mr. Crow was not able to suggest any sensible commercial purpose, whether related to the mitigation of counterparty risk or otherwise, which might justify or underpin the concept of gross payment by the Defaulting Party.

I cannot see that there is any sensible commercial justification or rationale for a construction of section 2 of ISDA 92 which enables a Non-defaulting Party to claim against a Defaulting Party on a gross basis. It appears to be wholly contrary to the ethos of ISDA 92 and clause 10(a) of the relevant FFAs, and the clear commercial purpose of the parties that all amounts outstanding under all Transactions subject to one ISDA 92 Master Agreement should be subject to automatic payment netting in respect of payments due on the same date. It emasculates the netting provisions of section 2(c) in the very circumstances where they may be most needed: namely where a Defaulting Party in the money may have to wait a long time for payment of what is owing to it (for example, until cure of its own Event of Default, or potential Event of Default, or Early Termination), and where it may well itself be subject to cash flow constraints, or other financial pressures. On the contrary, it confers a wholly unmerited (in commercial terms) benefit on the Non-defaulting Party. Such a construction would, in my mind, fundamentally change “the financial structure of the relationship” (Footnote: ²⁷).

I turn next to consider whether there is anything in the wording of section 2(c) or other relevant provisions of ISDA 92 which requires a construction that automatic netting does not apply, if one party has not satisfied a section 2(a)(iii) condition precedent. Again, I bear in mind Lord Mustill’s warning of the danger of focusing too narrowly on a critical phrase, without setting the words in the landscape of the instrument as a whole.

In my judgment, an approach which concentrates exclusively on the linguistic meaning of “payable” is far too narrow, given the commercial landscape of ISDA 92 and FFABA 2007. The question here is, first, what is the nature and scope of a party’s obligation to make payment described in section 2(a)(i). The definition of that obligation has two limbs. Thus it is an obligation:

If one looks at the first limb, the obligation specified in the Confirmation by clause 10(a) disapplies section 2(c)(ii) of ISDA 92 and requires the determination of a “net amount due” “… in respect of all amounts payable on the same date in the same currency in respect of two or more Transactions”. In clause 10(a) there is no importation of, or reference to, the condition precedent concept imposed by section 2(a)(iii). But the approach contended for by Mr. Crow, and the reasoning of Flaux J, require a construction of “payable” to operate and apply section 2(a)(iii) before one even gets to a determination of a “net amount due” under clause 10(a). I do not consider that such a constraint is necessary. It appears to me that, looking at clause 10(a) of the FFA alone, the simple intention of the parties there is that the obligation of the parties is on the basis of netting off across-the-board.

If one then turns to the second limb of section 2(a)(i), one sees that the payment obligation is said to be “subject to the other provisions of this Agreement”. So one has to look at all the other provisions of ISDA 92 to define the section 2(a)(i) obligation. In my judgment, this means that, before one even reaches the provisions of section 2(a)(iii) (which are themselves a sub-set of section 2(a)(i)) one has to apply the other provisions, including section 2(c). That, in my judgment, enables one, quite comfortably, to conclude that there is no reason, for the purposes of calculating or defining the section 2(a)(i) payment obligation, to give primacy to section 2(a)(iii) as limiting, or dictating, the ambit of the netting off exercise required by section 2(c). In this respect, therefore, it seems to me that the analysis adopted by Henderson on Derivates (Footnote: ²⁸) is correct, although I would not perhaps wish to share that publication’s hyperbolic use of adjectives in respect of the conclusion reached by Flaux J. The problem about so many issues of contractual interpretation is that the obvious pattern that one person sees in the tapestry of the carpet may be different from the theme which the next person clearly discerns.

It follows that I do not consider that a semantic review of the meaning given to the word “payable” or the phrase “obligation to make payment” in the context of ISDA 92 is an exercise of great utility. Moreover, as Mr. Kimmins submitted, the word “payable” can mean many different things in many different contexts, not least in the context of ISDA 92, which, as he accepted, is not in all respects, internally consistent. I do not think that it is possible to identify some sort of coherent linguistic scheme in ISDA 92 which requires one to construe the word “payable” in section 2(c) as limited to amounts that are payable provided that the condition precedent requirement of section 2(a)(iii) has been satisfied.

I agree with Mr. Kimmins’ submission that the definition of “Unpaid Amounts” in section 14 (upon which Flaux J placed such reliance (Footnote: ²⁹)) cannot dictate, on some sort of black-letter linguistic basis, the answer to the question whether section 2(c) is addressing payment obligations after taking into account the condition precedent requirement of section 2(a)(iii) or not. I agree with Mr. Kimmins that to do so would indeed be to allow the tail to wag the dog, in that it is unrealistic to suppose that these words, used in parenthesis in the context of an ancillary provision of ISDA 92, can themselves control the meaning of the word “payable” in section 2(c). Moreover, the fact that section 2(c) imposes an automatic satisfaction and discharge regime of aggregate amounts fits very uncomfortably, on both a linguistic and practical basis, with a mechanism whereby there necessarily has to be:

Accordingly, I decide the Netting Issue in favour of Pioneer. I conclude that, for the purposes of determining what is due and payable on any particular Settlement Date, clause 2(c) imposes an automatic netting process which sets off the aggregate or gross amounts that are due from each party to the other in respect of Settlement Sums payable in the same currency on the same date in respect of all Transactions across the board, without regard to whether one or other party has complied with the conditions precedent specified in section 2(a)(iii) of ISDA 92. I do not consider it necessary to address Mr. Kimmins’ further arguments on the effects of the anti-deprivation rule.

As I have already stated, in circumstances where:

Accordingly, had this case not settled, Pioneer would have been entitled to judgment in the further sum of $9,531,271.84. making a total final judgment sum of $26,088.865.94.

Finally, and at the request of Pioneer, I am asked to clarify the nature of the concession made by Pioneer, as recorded at paragraph 16 of the First Judgment. I stated there that Pioneer accepted that it was subject to an Event of Default from October 2008. As I had indicated at paragraph 15 of the First Judgment, this concession was made only for the purposes of argument before the Court on the application (because it made no difference to the result). Pioneer does not accept that it was, in fact, subject to an Event of Default from October 2008.

I am grateful to the legal teams on both sides for their helpful written and oral presentations.