The Claimant, Pioneer Freight Futures Company Limited (“Pioneer”) is a company incorporated in the British Virgin Islands. It is now in liquidation, with liquidators having been appointed both in the BVI and in England and Wales. By application notice dated 30 June 2010 Pioneer applied for summary judgment against the Defendant, TMT Asia Limited (“TMT”), a company incorporated in the Marshall Islands, in the sum of US$26,088,865.94 plus interest due under 18 forward freight agreements (“FFAs”) entered into between 10 September 2007 and 1 July 2008, as listed at Schedule 1 of the Amended Particulars of Claim. Pioneer claims that the sums are due to it upon the automatic early termination (“Automatic Early Termination”) of the FFAs.

FFAs are contracts for differences pursuant to which the parties agree a fixed price (“the Contract Rate”) in respect of future months (or years) (“the Contract Period”) for designated contract routes published by the Baltic Exchange. If the final settlement price for the designated route (“the Settlement Rate”) is higher than the Contract Rate, then the seller will pay the difference to the buyer, usually at the end of a contract month, and vice-versa. In essence, an FFA is a “bet” as to the future movements of the freight market. The product can be used as a hedge by parties involved in shipping freight to protect themselves against fluctuation in shipping rates, or as a means of trading in futures.

The volatility of the freight market in 2008 gave rise to a number of liquidations amongst traders, including Pioneer, in respect of which provisional liquidators were appointed by the High Court of Justice of the British Virgin Islands on 16 December 2009.

There is no dispute that the first 14 FFAs, entered into between 10 September and 7 November 2007 (“the Early FFAs”), incorporated standard FFABA (Footnote: ¹) 2005 terms. The last four FFAs, entered into between 21 April and 1 July 2008 (“the Late FFAs”), refer to the standard FFABA 2007 terms, but whilst Pioneer contends that the Late FFAs incorporate the FFABA 2007 terms, TMT denies that they do so.

Each of the FFAs incorporated by reference the ISDA (Footnote: ²) 1992 Master Agreement (Multicurrency–Cross Border) (“ISDA 92”). The incorporating provisions were in different terms in FFABA 2005 and FFABA 2007 respectively. There is a dispute between the parties as to the effect of these provisions. Pioneer contends that the incorporation of ISDA terms is intended to ensure that all FFAs entered into between the parties would be part of one agreement, because, if the FFAs are part of the same agreement, then this enables the parties to reduce counterparty credit risk, and ensures uniformity of terms. TMT denies that this was necessarily the intention, and contends that, on the true construction of the relevant provisions, it may be the case that the Early FFAs are subject to different terms from the Late FFAs.

The basic (pre-termination) payment obligation in ISDA 92 is contained in Section 2(a)(i). This provides:

Section 2(a)(iii) in turn provides that a party’s obligation to pay sums due under Section 2(a)(i) is conditional upon that other party not being affected by certain specified events:

Thus it is a “condition precedent” to an obligation to make payment that the other party is not subject to an “Event of Default” (“the condition precedent”). Events of Default are defined in Section 5(a) of ISDA 92, and include failure to pay an outstanding sum (Footnote: ³), and “bankruptcy events” (Footnote: ⁴).

Other relevant provisions of ISDA 92 are the Early Termination provisions (Footnote: ⁵). The first limb of the Early Termination provisions permits one party, at its option, to terminate all outstanding transactions in certain circumstances. Thus, for example, if party A is affected by an Event of Default, as a result of late payment of an invoice, then party B can serve a default notice, and, if party A fails to remedy the default within a specified period, party B can terminate “all Outstanding Transactions”. (Footnote: ⁶) The relevant provision of Section 6(a) dealing with elective Early Termination is the following :

In addition, the second limb of the Early Termination provisions permits the parties to elect for Automatic Early Termination, if Automatic Early Termination is specified in the schedule to the agreement. The relevant provision of Section 6(a) dealing with Automatic Early Termination is the following:

In other words, upon the occurrence of certain specified (but not all) bankruptcy Events of Default associated with the bankruptcy of one party, all outstanding transactions under the Master Agreement will automatically terminate. The specified bankruptcy events include the appointment of provisional liquidators (Footnote: ⁷). It is common ground that in this case there was a relevant bankruptcy Event of Default in mid December 2009, which, if the Automatic Early Termination provisions applied to the relevant FFAs, would have triggered Automatic Early Termination.

The relevant provision of the FFABA 2005 terms (Footnote: ⁸) did not incorporate the ISDA provisions for Automatic Early Termination. This had the capacity to create unfairness for insolvent companies, illustrated by the following example articulated by Mr. Charles Kimmins QC, leading counsel on behalf of Pioneer:

Market concern about this issue, possibly following inter alia the bankruptcy of North American Steamships Limited in British Columbia, led to the introduction of the FFABA 2007 terms. The single most significant difference, for present purposes, between the FFABA 2007 Terms and the FFABA 2005 Terms was that the FFABA 2007 Terms apply Automatic Early Termination to both parties, whereas the earlier terms do not.

In October – December 2008, the market had turned against Pioneer. In respect of October 2008, Pioneer was obliged to pay TMT $1.75m, but it paid TMT late. For the contract months of November to December 2008, TMT contends that a net sum of around US$10 million was due from Pioneer to TMT under the various FFAs (Footnote: ⁹). Pioneer failed to pay the sums in question. TMT contends, that because, as from October 2008 Pioneer was subject to an Event of Default under Section 5(a)(vii)(2) of ISDA 92 (on the grounds that it had become insolvent and was unable to pay its debts as they fell due) - which itself was not a bankruptcy Event of Default giving rise to Automatic Early Termination), thereafter TMT was not obliged to pay any sums that might otherwise have been due to Pioneer, because the latter could not satisfy the condition precedent in Section 2(a)(iii) of ISDA 92.

In another case in which it was involved, Marine Trade SA v Pioneer Freight Futures Co Ltd BVI (Footnote: ¹⁰), Pioneer admitted that it was the subject of an Event of Default from early February 2009 (on the basis that it was unable to pay its debts from this date). TMT contends that Pioneer was in fact subject to an Event of Default on the same basis from as early as October 2008. This is denied by Pioneer, but is accepted by Pioneer for the purposes of this application, as it makes no difference to the legal argument.

From the start of 2009, the market turned in Pioneer’s favour and remained so for the entirety of 2009. Pioneer contends that for the contract months of January to November 2009, Pioneer was “in the money” in an amount of US$11,466,210.94 (Footnote: ¹¹). However, Pioneer accepts (and it was common ground) that, from October 2008, until 14 December 2009, TMT was under no obligation actually to pay Pioneer anything pursuant to Section 2(a)(i) of ISDA 92, in respect of the sums accruing due to Pioneer in respect of Settlement Dates for the contract months between January and November 2009, because Pioneer was subject to a subsisting Event of Default and thus could not satisfy the condition precedent to payment in Section 2(a)(iii) of ISDA 92.

It was also common ground that, on a date between 14 and 17 December 2009 (Footnote: ¹²), a relevant bankruptcy event occurred in relation to Pioneer, which, if the Automatic Early Termination provisions applied to the relevant FFAs, would have triggered Automatic Early Termination. The relevant bankruptcy event occurred shortly before, or by reason of, the appointment of the provisional liquidators of Pioneer on 16 December 2009, which was an Event of Default under Section 5(a)(vii)(6). Pioneer contends that the relevant bankruptcy event triggered Automatic Early Termination in relation to both the Early FFAs and the Late FFAs. TMT denies that either the Early FFAs or the Late FFAs were subject to the Automatic Early Termination provisions. In the alternative TMT denies that the Early FFAs were subject to the Automatic Early Termination provisions.

Pioneer contends that Automatic Early Termination in relation to both the Early FFAs and the Late FFAs triggered the detailed provisions in Section 6 of ISDA 92, identifying how the net financial position between the parties was to be calculated. It contends that, as the non-defaulting party, TMT should have calculated its Loss (or gain) pursuant to these provisions on or shortly after termination. Because TMT did not do so, Pioneer has calculated what sums it contends would be due if TMT had fulfilled its obligations by making the appropriate calculations. A summary of Pioneer’s calculation is attached to the Amended Particulars of Claim. It consists of two parts:

First, Pioneer has calculated the sums which it claims were due at the time of termination. Pioneer’s calculation assumes that all conditions precedent were fulfilled, in accordance with what Pioneer contends are the express provisions of ISDA 92. The net result, on such basis, taking into account all sums due either way (including sums due to TMT in respect of the contract months of November and December 2008), is that Pioneer claims that the sum of US$11,466,210.94 is due to Pioneer. This sum reflects the fact that, in respect of the months prior to Automatic Early Termination, Pioneer was “in the money”.

Second, Pioneer has calculated the value of the transactions which were open at the time of termination. This includes transactions covering the contract month of December 2009, plus transactions relating to 2010. The transactions are valued by reference to the Baltic forward curve. Once again, Pioneer’s calculations assume that all conditions precedent would be fulfilled. The result, on this basis, is that Pioneer claims that an additional sum of US$14,622,655.00 is due to it. This sum reflects the fact that, in respect of the months following Automatic Early Termination, Pioneer was again the net overall winner.

TMT, on the other hand, contends that, on the true construction of the relevant agreements, by the beginning of December 2009 Pioneer owed TMT more than $55m, but had paid nothing. In its defence it contended that:

The Early FFAs were never terminated at all. On this basis, in respect of the period to December 2009 $45,226,172 was due to TMT, because all sums that notionally TMT might have been obliged to pay Pioneer had to be disregarded because of the latter’s failure to satisfy the condition precedent to payment in Section 2(a)(iii) of ISDA 92. In argument, TMT also submitted that the Late FFAs were not subject to Automatic Early Termination either.

Prior to termination of the Late FFAs, $11,455,798 had become due to TMT in respect of the November and December 2008 Contract Months. On termination of the Late FFAs (assuming Automatic Early Termination applied), no further sums became due to Pioneer thereunder, because of Pioneer’s failure to satisfy the condition precedent to payment in Section 2(a)(iii) of ISDA 92. Accordingly, as TMT had suffered no further loss, it claimed $11,455,798 under such contracts.

Alternatively, if, contrary to its primary case, on Automatic Early Termination of the Late FFAs, sums became due to Pioneer thereunder, which had not been previously due by reason of Pioneer’s inability to satisfy the condition precedent to payment in Section 2(a)(iii) of ISDA 92, then the sums due to Pioneer under the non-terminated Early FFAs have to be brought into account. In these circumstances Pioneer owes TMT $6,897,466 (Footnote: ¹³).

In the course of the hearing, in response to a question put by the court, Mr. Kimmins, on behalf of Pioneer, submitted that, rather than determining the issues on the basis of an application for summary judgment pursuant to CPR Part 24, the issues which arise for determination should be determined as preliminary issues. Mr. Jonathan Crow QC, leading counsel on behalf of TMT, opposed this suggestion and submitted that it was not appropriate that the issues should be determined either as preliminary issues or on a summary basis.

I consider that it is appropriate that the issues raised should be determined as preliminary issues although, in deference to Mr. Crow’s submission that, if I were to do so, judgment for a specific amount should not be given, I shall postpone (until after the hand down of this judgment) argument as to whether, in the light of this judgment, judgment for a specific amount should be awarded to either party.

In the circumstances, and in the light of the arguments raised by the parties, the issues which arise for determination as preliminary issues are:

Did the Early FFAs, originally agreed on FFABA 2005 Terms, become subject to FFABA 2007 Terms once a new FFA had been agreed on FFABA 2007 Terms (“The first Supercession Issue”)?

Did the Early FFAs, originally agreed on FFABA 2005 Terms, become subject to Automatic Early Termination once a new FFA had been agreed on FFABA 2007 Terms (“The second Supercession Issue”)?

Does clause 10 of the FFABA 2007 Terms (the Automatic Early Termination provision) apply to the Late FFAs (“The third Supercession Issue”)?

On the assumption that Automatic Early Termination applies to both the Early and the Late FFAs, is TMT obliged to calculate its Loss by including sums which would have become payable to Pioneer in the Contract Months prior to the Early Termination Date, had Pioneer not been subject to an Event of Default before the Early Termination Date (“The retrospective Nil Loss Issue”)?

Is TMT obliged to calculate its Loss by reference to sums which would have become payable to Pioneer had Pioneer not remained subject to an Event of Default after Automatic Early Termination (“The prospective Nil Loss Issue”)?

Pioneer argues that the Early FFAs, originally agreed on FFABA 2005 Terms, became subject to FFABA 2007 Terms once a new FFA had been agreed on FFABA 2007 Terms.

TMT argues that the Early FFAs, originally agreed on FFABA 2005 Terms, did not become subject to FFABA 2007 Terms, once a new FFA had been agreed on FFABA 2007 Terms.

Pioneer’s argument is based on clause 21(b) of the FFABA 2007 Terms. Clause 21 provides for the retrospective effect of the FFABA 2007 Terms as follows:

Mr. Crow, for TMT, argued that clause 21(b) applies retrospectively to previous FFAs between the same parties only if two cumulative conditions were satisfied, as set out in clause 21(b)(i) and (ii). He submitted that:

The first condition (in clause 21(b)(i)) was clearly satisfied in this case, because all of the previous 14 FFAs were expressed to be subject to the FFABA 2005 Terms.

However, the second condition (in clause 21(b)(ii)) was not satisfied because:

The FFAs which are subject to the FFABA 2005 Terms are “subject to substantially the same terms” as the FFABA 2007 Terms.

Further, the FFAs which are subject to FFABA 2005 Terms incorporate a clause which is “substantially the same” as clause 21 of the FFABA 2007 Terms: clause 20 of the FFABA 2005 Terms is substantially the same as clause 21 of the FFABA 2007 Terms.

Accordingly, the FFABA 2007 Terms are not, on their wording, apt to cover FFAs agreed on FFABA 2005 Terms and so the FFABA 2005 terms retain priority.

I do not accept this construction for the following reasons:

Looking at the FFABA 2005 and FFABA 2007 terms as a whole, it is clear that the purpose of the relevant FFABA provisions, which (both in relation to the FFABA 2005 and FFABA 2007 terms) include provisions entitled “Inclusion of historical FFAs under Master Agreement”, and “Inclusion of subsequent FFAs under Master Agreement”, is to provide for one applicable ISDA Master Agreement with uniform elections (unless the parties specifically agree to the contrary).

I do not consider that it is necessary for two cumulative conditions to be satisfied before the inclusion provisions set out in clause 21(c) take effect, as Mr. Crow submitted (i.e. before an Early FFA, originally concluded on FFABA 2005 terms, is treated as a confirmation under an ISDA Master Agreement with the modifications and elections set out in clause 10 of the FFABA 2007 terms). The structure of clause 21(b) is that the inclusion provisions contained in clause 21(c) apply:

if an agreement or the particular Confirmation satisfies the requirement in sub-clause 21(b)(i);

and, if the Confirmation is “stated to be subject to, or subject to substantially the same terms as, the FFABA 2007 terms”, then it has additionally to satisfy the requirement (for the inclusion provisions to apply) “that it does not incorporate a clause substantially in the same form as this clause 21.”

As Mr. Kimmins submitted, the point of clause 21(b)(ii) is to ensure that if the parties have already concluded a previous FFA on FFABA 2007 terms, and, in doing so, created a new Master Agreement, then the new FFA under FFABA 2007 terms will simply be subsumed under the existing Master Agreement. There is no need to apply the inclusion provisions for the second time.

Contrary to Mr. Crow’s submissions, previous confirmations under FFABA 2005 terms cannot realistically be regarded as “a Confirmation that is stated to be subject to, or subject to substantially the same terms as, the FFABA 2007”. A Confirmation on FFABA 2005 terms is not “substantially the same” as a Confirmation on FFABA 2007 terms. There is a fundamental difference: the elections made in clause 10 of FFABA 2007 include Automatic Early Termination; the elections made in clause 10 of FFABA 2005 do not.

This difference is reflected in clause 21(b)(i), which distinguishes between (a) Confirmations which are in substantially the same terms as FFABA 2005, and (b) Confirmations which are in substantially the same terms as FFABA 2007. If TMT were right, there would have been no need to have made this distinction.

If TMT were right, it would be impossible for the parties to incorporate Automatic Early Termination in relation to agreements concluded on FFABA 2005 terms, as attempts to do so would inevitably be thwarted by clause 21(b)(ii). Whilst this is theoretically not an impossible conclusion, it is highly unlikely, in my view, given the express inclusion of the Automatic Early Termination election in clause 10 of the FFABA 2007 terms, in contrast to the previous election which did not include Automatic Early Termination.

Accordingly, I conclude that clause 21(b)(ii) of the FFABA 2007 terms does not apply to previous confirmations under the FFABA 2005 terms. I reject TMT’s submission that the FFABA 2007 Terms are not, on their wording, apt to cover FFAs agreed on FFABA 2005 Terms, so that the FFABA 2005 terms retain priority.

It follows that I determine Issue 1 in the affirmative.

TMT contends that if, contrary to TMT’s primary case, the FFABA 2007 Terms are apt to cover the Early FFAs, which were originally agreed on FFABA 2005 Terms, nonetheless the application of the FFABA 2007 Terms did not, on their true construction, have the result that Automatic Early Termination applies to the Early FFAs.

Mr. Crow based this argument on clause 21(d) of the FFABA 2007 Terms. This provides:

He submitted that the effect of this was that if there is any ‘inconsistency’ between:

the terms which would apply to an FFA as a result of the operation of clause 21 (“the provisions of any agreement constituted pursuant to paragraph (c) above”); and

the terms which would otherwise have applied to that FFA but for the operation of clause 21 (“the agreement constituting a Transaction to which this clause 21 applies”),

He submitted that, accordingly, even if clause 21 did apply to the Early FFAs, the fact that the FFABA 2007 terms provided for Automatic Early Termination was “inconsistent” with previous confirmations agreed on FFABA 2005 terms, with the result that those previous confirmations agreed on FFABA 2005 terms were not subject to Automatic Early Termination. Any other construction failed to give any effect to clause 21(d) of the FFABA 2007 Terms.

I am not persuaded by these arguments which appear to me to be highly artificial. My reasons for rejecting them largely reflect Mr. Kimmins’ submissions and may be summarised as follows.

First, TMT’s construction undermines the purpose of clause 21(c) of the FFABA 2007 terms. Clause 21(d) only comes into play on the hypothesis that all of the earlier FFAs have, by virtue of clause 21(c), been converted into transactions under the Master Agreement constituted by the new confirmation on FFABA 2007 terms. Clause 21(c) provides that the previous FFAs indeed become subject to the terms of the newly constituted Master Agreement. That is an assumption before clause 21(d) can apply. Clause 21(c) provides

Second, the effect of Automatic Early Termination is that it terminates “all outstanding Transactions”. Section 1(c) of ISDA 92 provides:

Likewise the Automatic Early Termination provisions of Section 6(a) of ISDA 92 provide that, if Automatic Early Termination is specified, an Early Termination Date “in respect of all outstanding Transactions will occur immediately upon the occurrence” of the relevant Event of Default. It is therefore difficult to see how, on a proper analysis of ISDA 92, one can have Automatic Early Termination of only some of the outstanding transactions under a Master Agreement. That would appear to run contrary to the very purpose of the scheme.

Third, contrary to Mr. Crow’s submissions, Pioneer’s analysis does not render clause 21(d) meaningless or redundant. I accept Mr. Kimmins’ submission that the inconsistencies contemplated by clause 21(d) are inconsistencies as between the bespoke transaction-specific terms of earlier Transactions (i.e. outside the ISDA Master Agreement and the elections made in it) on the one hand, and the terms of the newly constituted agreement on the other.

For example:

If the transaction-specific provisions of a previous Transaction prohibited assignment altogether, that would be inconsistent with the newly constituted ISDA 92 Master Agreement (as Section 7 of the Master Agreement permits assignment in certain circumstances); or

If the transaction-specific provisions of a previous Transaction provided that neither party gave any representation under any circumstances, then that would be inconsistent with the newly constituted Master Agreement (as Section 3 of the Master Agreement contains various representations).

Fourth, I do not consider that the introduction of Automatic Early Termination qualifies as an “inconsistency” in any event. It merely supplemented the provisions of FFABA 2005, by adding an additional provision. As Bingham LJ (as he then was) stated in Pagnan v Tradax (Footnote: ¹⁴):

It follows that I determine Issue 2 in the affirmative.

TMT contended that clause 10 of the FFABA 2007 Terms did not apply at all to the four Late FFAs which expressly sought to incorporate the FFABA 2007 terms.

In support of this contention, Mr. Crow submitted that clause 10 of the FFABA 2007 Terms did not apply to the four Late FFAs for two reasons, each based on the introductory wording in clause 10(i) and (ii). He argued that those clauses provided two alternative preconditions to the application of clause 10:

First, by virtue of clause 10(i), the whole of clause 10 applies if the Confirmation does not already constitute “a Confirmation under an existing master agreement” between the parties. If the FFA does already constitute a Confirmation under an existing master agreement between the parties, then clause 10 does not apply. However, he submitted that each of the four Late FFAs under FFABA 2007 Terms does already constitute a Confirmation under an existing master agreement by virtue of the prospective effect of clause 21 of the FFABA 2005 Terms. Therefore clause 10 of the FFABA 2007 Terms (including Automatic Early Termination) does not apply even to the 4 FFAs which are ostensibly governed by the FFABA 2007 Terms. Pioneer may suggest that the prospective effect of clause 21(b) of the FFABA 2005 Terms is overridden by the retrospective effect of clause 21(b) of the FFABA 2007 Terms. However, clause 21(a) of the FFABA 2007 Terms provides that clause 21 only applies unless the parties “specifically agree otherwise in writing”. In this case, the parties have specifically agreed otherwise in writing by virtue of clause 21 of the FFABA 2005 Terms.

Secondly, clause 10 of the FFABA 2007 Terms applies by virtue of clause 10(ii) if the parties have agreed (either by virtue of clause 21 or otherwise) that the terms of the Master Agreement constituted by clause 10 itself are to replace any pre-existing master agreement. The application of this clause 10(ii) faces exactly the same problem as in relation to clause 10(i): clause 21(b) of the FFABA 2007 Terms provides that the same terms are to apply to any previous FFAs between the parties; but on the other hand clause 20(a) provides that clause 21 as a whole only applies “unless the parties ... specifically agree otherwise in writing”; and, by entering into FFAs which include clause 21(b) of the FFABA 2005 Terms, the parties have agreed otherwise, because they have agreed (under the FFABA 2005 Terms) that any future FFAs will be governed by the same FFABA 2005 Terms.

Again, I found Mr. Crow’s submissions on this point to be artificial, and counter-intuitive, since one might be forgiven for thinking that the purpose of setting out the FFABA 2007 elections in a Confirmation was to ensure that they did indeed apply.

My reasons for rejecting TMT’s construction are as follows:

In my judgment both clause 10(i) and clause 10(ii) of the FFABA 2007 terms are satisfied, although, since they are alternative, not cumulative, requirements, Pioneer only needs to show that either clause 10(i) or clause 10(ii) applies.

That is because clause 21(b) of the FFABA 2007 terms means that the new FFA constitutes a new Master Agreement which sweeps up all previous Confirmations.

TMT’s argument that clause 21(b) of the FFABA 2007 terms does not apply, because the parties have “agree[d] otherwise in writing” (within the meaning of the words at the beginning of clause 21(a)) on the basis that clause 21 of the FFABA 2005 terms, which was included in a previous FFA, constitutes such an agreement in writing, cannot be right, for the reasons put forward by Mr. Kimmins.

First, the words “unless the parties to this Confirmation specifically agree otherwise in writing” contemplates an agreement in writing expressly and specifically disapplying clause 21 in this FFA. Clause 21 in a previous Confirmation under the FFABA 2005 terms cannot constitute such an agreement, not least because clause 21 in the FFABA 2005 terms does not “specifically” disapply clause 21 of the FFABA 2007 terms.

Second, TMT’s argument is circular. By way of illustration, clause 21 of the FFABA 2005 terms also contains the phrase: “Unless the parties to this Agreement specifically agree otherwise in writing …”. On the basis of TMT’s logic, one could argue that the wording of clause 21 of the FFABA 2007 was such an agreement in writing, such that clause 21 of the FFABA 2005 terms itself was disapplied.

Third, if TMT were correct, and clause 21 of FFABA 2005 was an agreement in writing within the meaning of clause 21 of FFABA 2005, then it would be impossible to change from FFABA 2005 terms to FFABA 2007 terms, as there would inevitably be agreement in writing to the contrary. This, to say the least, seems unlikely to have been the market’s intention.

For these reasons, I decide Issue 3 in the affirmative.

Pioneer contends that, on the true construction of the Loss provisions in ISDA 92, when, following the Early Termination Date, a party’s retrospective “Loss” falls to be calculated pursuant to Section 6(e), it is to be assumed that the parties had (prior to Automatic Early Termination) fulfilled the conditions precedent to payment under s.2(a)(iii) of ISDA 92. Mr. Kimmins QC, on behalf of Pioneer, submitted that this analysis is correct for numerous reasons, including the following:

the language of ISDA 92 supports Pioneer’s construction;

commercial good sense supports Pioneer’s construction; and

the authorities support Pioneer’s construction.

He submitted that Section 6(c) and (e) of ISDA 92 provided the regime for determining the amount payable in respect of the Early Termination Date. He pointed to the definition of Loss in Section 14 of ISDA 92 which provides that losses/gains are to be calculated “assuming satisfaction of each applicable condition precedent”. He submitted that that was the beginning and end of the point.

However, he also submitted that further support could be derived from the wording of the other relevant definitions in ISDA 92. Thus when the parties have chosen Market Quotation, and are, pursuant to Section 6(e)(i)(3), calculating Unpaid Amounts due at the time of termination, the Unpaid Amounts consist of “amounts that became payable (or would have become payable but for Section 2(a)(iii)) to such party under Section 2(a)(i) on or prior to such Early Termination Date and which remain unpaid as at such Early Termination Date”. Similarly, he relied upon the fact that when the parties have chosen Market Quotation, and are, pursuant to Section 6(e)(i)(3), calculating the Settlement Amount in respect of open transactions, the value of the Replacement Transaction is reached “assuming the satisfaction of each applicable condition precedent”.

Mr. Kimmins submitted that the Market Quotation and Loss clauses aim at broadly similar results. It therefore could not be right that whilst Unpaid Amounts under Market Quotation are calculated on the assumption that conditions precedent are fulfilled, the same assumption is not made for the purposes of the calculation of Loss. This was a factor that the Court of Appeal considered to be of particular significance in the case of ANZ v Société Générale (Footnote: ¹⁵) in which Mance LJ endorsed Pioneer’s construction.

Furthermore, he submitted that, even in the absence of phrases such as “assuming satisfaction of applicable conditions precedent” in the relevant definitions, the same result would apply. That is because, once Early Termination is triggered, the Master Agreement makes it plain in any event that the conditions precedent cease to apply. The conditions precedent apply to the obligation to make payment under Section 2(a)(i). But following Early Termination, Section 6(c) expressly provides that “no further payments or deliveries under Section 2(a)(i) will be required to be made”. Instead, Section 6(c) continues, “the amount, if any, payable in respect of an Early Termination Date shall be determined pursuant to Section 6(e)”. So upon Early Termination the obligation to make payment under Section 2(a)(i) is replaced with an obligation to make payment of such sums as are due under Section 6(e).

Mr. Kimmins also submitted that Pioneer’s submissions were supported by the above authorities as well as an obiter statement of Flaux J in Marine Trade (supra). If and in so far as Flaux J’s decision in Marine Trade were inconsistent with Pioneer’s submissions in this case, then Flaux J’s decision in Marine Trade was wrong, although Mr. Kimmins’ principal submission was that there was no need for this Court, for the purpose of its determination of the Nil Loss Issues, to decide whether Flaux J was in fact right or wrong. He also relied upon the recent decision of Briggs J in Lomas v JFB Firth Rixson Inc (Footnote: ¹⁶) as to some extent supporting his analysis (Footnote: ¹⁷). Mr. Kimmins accepted that Briggs J was not considering the position after Early Termination.

Mr. Kimmins further supported his analysis by detailed submissions as to the function and purpose of ISDA 92, which are to some extent reflected in my discussion below.

On the other hand, TMT contended that, when, following the Automatic Early Termination date, a party’s retrospective “Loss” is calculated pursuant to Section 6(e), one has to disregard all sums that might notionally have become payable to the defaulting party before the Automatic Early Termination date.

Mr. Crow submitted that TMT’s analysis was correct for the following reasons:

Section 2(a)(iii) of ISDA 92 imposes, as a pre-condition to the obligation to pay, the requirement that the other party is not subject to an Event of Default. That is not a condition precedent to the mere performance of an existing obligation, but rather a condition precedent to the actual accrual or very existence of the obligation itself.

If a condition precedent is not satisfied on the due date for payment (because an Event of Default applies to a putative receiving party on that date) then, as Mr. Crow submitted in his arguments in reply (Footnote: ¹⁸), neither Section 6(e), nor any other provision, has or can have, the effect of bringing into existence a payment obligation which has never existed. Mr. Crow relied upon Flaux J’s decision in Marine Trade to support this submission.

The definition of Loss in Section 14 expressly excludes any historic payment obligation in respect of which a pre-condition to payment was not satisfied at the date of payment. That is because the words in the definition of Loss “in respect of any payment … required to be made (assuming satisfaction of each applicable condition precedent)” mean “a payment that was required to be made if in fact the condition precedent had been satisfied” as opposed to deeming such conditions to have been satisfied, when in reality they had not been satisfied.

In this case, the fact that an Event of Default had occurred before the Early Termination Date means that no payments were “required to be made” by TMT to Pioneer in respect of Contract Months where the precondition in Section 2(a)(iii) was not satisfied. Accordingly since no obligation arose prior to Early Termination, it could not arise after termination.

Alternatively, if the words “(assuming satisfaction of each applicable condition precedent)” did allow one to deem that a condition precedent had been satisfied in the Contract Months prior to the Early Termination Date, when in fact it had not, one only makes such an assumption in favour of the Non-defaulting Party (not the Defaulting Party), because it is only the former’s Loss (or gain) that is being calculated under Section 6(e)(i)(4). In this context he relied upon paragraph 21 of the judgment in Peregrine (supra).

He supported TMT’s construction by further detailed submissions. In particular he submitted that TMT’s approach produced certainty and was not uncommercial. He submitted that certain passages in Briggs J’s judgment in Lomas v JFB Firth Rixson Inc (Footnote: ¹⁹) supported his analysis.

I mention that it came to my notice shortly before circulating a draft of this judgment that, on the day ON which I was proposing to circulate this judgment in draft (25 March 2011), Flaux J was going to hand down a judgment in Britannia Bulk plc (in liquidation) v Pioneer Navigation Limited and others (Footnote: ²⁰). That case also raised the issue of nil loss on similar facts to those in the present case (although it would appear that only the issue of prospective loss was in contention in Britannia (Footnote: ²¹)). For that reason I delayed circulation of the draft of this judgment until 28 March 2011. It is apparent that, although to a considerable extent, the arguments put forward by the opposing sides in Britannia were similar to those in the present case, additional arguments were presented in each of the two cases by respective counsel. In addition, Britannia did not raise the supercession issues which I have had to decide. Flaux J rejected the Non-defaulting Parties’ contentions that the calculation which they were required to do under Section 6(e) resulted in a “nil Loss”, because of the failure of the Defaulting Party to satisfy the conditions precedent under Section 2(a)(iii).

Upon Automatic Early Termination, Section 6(c) of ISDA 92 provides that:

If, as here, the parties have elected the payment measure “Loss” and the payment method “Second Method”, then Section 6(e)(i)(4) requires the amount payable to be determined as follows:

“Loss” is defined in Section 14 as follows:

Simply stated, where “Second Method and Loss” applies, the Non-defaulting Party’s Loss (which can be a positive or a negative number) includes two elements:

first, a retrospective element reflecting any payments which were required to have been made under the relevant swap transactions on or before the relevant Early Termination Date “(assuming satisfaction of all conditions precedent)” but which had not been made (Footnote: ²²); and

second, a prospective element reflecting the value (positive or negative) of the open swap transactions as at the Early Termination Date (whether calculated by reference to loss of bargain or the cost of re-establishing any hedge or related trading position, etc).

In my judgment, the clear answer to the question raised by Issue 4 is that TMT, in calculating its Loss, is indeed required to take into account the payments which it would have been required to have made to Pioneer during the contract months January to December 2009, had not Pioneer 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.

First, I cannot sensibly interpret the words “(assuming satisfaction of each applicable condition precedent)” in the definition of Loss in the way that Mr. Crow, on behalf of TMT, submits, namely:

In my view, the use of the words “assuming satisfaction” introduces the concept of an artificial assumption, namely deeming that something had happened, irrespective of whether, in reality, it had, or had not, happened. There is no suggestion in the language used that the assumption to be made has to reflect what actually happened. If TMT’s submissions are correct, it is difficult to see what purpose the words in parenthesis are achieving.

ISDA 92 clearly envisages that parties may elect not to permit a Defaulting Party to recover anything at all on Early Termination. Thus, if the parties elect for First Method and Market Quotation, or First Method and Loss, only the Non-defaulting Party ever gets to receive a payment. The Defaulting Party does not receive anything. This option is no longer available under the 2002 ISDA Master Agreement: market intelligence suggests that it was unpopular. (Footnote: ²³) Theoretically, the same issue as to the inclusion of amounts unpaid prior to the Early Termination Date because of the Section 2(a)(iii) condition precedent, arises in the calculation of Unpaid Amounts or Loss of the Non-defaulting Party, in these two first methods of calculation. I consider that it would be very surprising if, under the first two methods, a Defaulting Party, in the money, were to suffer not only the penalty of not being able to recover any sum at all (which is the intended result of the application of the first two methods), but also the double penalty of having its net positive claim, changed into a negative indebtedness. Similarly, if indeed sub-Sections 6(e)(i)(3) and (4) (which expressly allow a Defaulting Party to recover) required actual, as opposed to assumed, satisfaction of the condition precedent in Section 2(a)(iii), I find it very surprising that such a requirement, with such potentially huge financial consequences, was not expressly mentioned.

If TMT is correct in its contention, it is difficult to see how, in most cases, a Defaulting Party could ever owe anything to a Non-defaulting Party following Automatic Early Termination. That is because if the Defaulting Party has suffered a specified bankruptcy event resulting in Automatic Early Termination (Footnote: ²⁴), the Non-defaulting Party:

will almost inevitably be able to argue that sums due to the Defaulting Party before termination need not be paid because the Defaulting Party is likely to have been unable to pay its debts or insolvent (and therefore subject to an Event of Default) for some time before it suffered a specified bankruptcy event leading to Automatic Early Termination; and

will inevitably be able to argue that sums due to the Defaulting Party after termination need not be paid because an Early Termination Date will necessarily have occurred in respect of all Relevant Transactions, and thus condition precedent 2(a)(iii)(2) cannot ever be satisfied going forward.

In other words, TMT’s construction renders a choice of the Second Method next to worthless. But the whole point of choosing Second Method is to ensure that a party does not lose the benefit of its bargain merely because it is affected by an Event of Default leading to Early Termination. In other words, by choosing Second Method, the parties ensure that both parties, in all events, have their expectation interest protected. However, on TMT’s construction, a Defaulting Party who is in the money will rarely, if ever, have its expectation interest protected. Very many FFAs are entered into as a hedge. It cannot have been intended that a hedge could fail so easily. (Footnote: ²⁵)

Nor do I accept Mr. Crow’s submission that one only makes the relevant assumption of satisfaction of the relevant conditions precedent in favour of the Non-defaulting Party (not the Defaulting Party), because it is only the former’s Loss (or gain) that is being calculated under Section 6(e)(i)(4). First there is nothing in the language of the phrase that suggests that assumption is only to be made in relation to one party alone. Second, the passage at paragraph 21 in Peregrine (supra) to which he referred does not assist him; satisfaction of the condition precedent to performance being referred to in that passage is the condition precedent to the Non-defaulting Party’s obligation to pay, i.e. satisfaction by the Defaulting Party of the conditions precedent. Third, if there is a “wash out” under Section 6, where a balance is being struck as between both parties’ position, whether loss or gain, there is no reason to suppose that the assumption is so restricted.

Second, in my judgment it is obvious that 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. It ensures that a Non-defaulting Party does not have to pay a Defaulting Party, who may be of doubtful solvency, in circumstances where, under ongoing open swap transactions, a Defaulting Party may subsequently owe sums to the Non-defaulting Party.

In other words, it prevents any increase in credit risk that might occur if actual payments were made. Its effect is to substitute an accounting procedure whereby debits and credits build up or accrue in an account between the parties, but suspending the obligation of the Non-defaulting Party to pay any amounts which it may for the time being owe.

However, once Automatic Early Termination occurs, the ongoing credit risk disappears. All outstanding transactions are terminated, the account is struck and one net payment is made to the party in the money as part of the wash out process: see Section 6(e). That regime supersedes the regime under Section 2(a) which prevails while the contract is still on foot. There is, going forward, no ongoing credit risk that the Non-defaulting Party might have to pay sums to the Defaulting Party, in circumstances where, subsequently, and ultimately the Defaulting Party might have to pay sums to the Non-defaulting Party.

But, in order to achieve this credit protection purpose of Section 2(a)(iii), as I have described it, it is simply not necessary for the obligations of the Non-defaulting Party in respect of a Contract Month to be effectively extinguished once and for all, or, as Mr. Crow preferred to put it, in his oral reply submissions, never to come into existence. So in my judgment, one would need to find something very clear in the language of Section 2(a)(iii) itself, or in Section 6(e), or in the definition of Loss, to support the conclusion that the commercial intention was that the obligation never arose to be taken into account on the “wash out”/Early Termination calculation under Section 6.

Moreover, the structure and mechanics of ISDA 92 make it clear that an entirely different regime is put into place once Early Termination occurs. The conditions precedent apply to the obligation to make payment under Section 2(a)(i) during the currency of the agreement. But, following Early Termination, a different regime governs the relationship between the parties. Section 6 governs what is to occur on Early Termination. It provides (under Section 6(c)) that:

Thus, upon Early Termination, the obligation to make payment under Section 2(a)(i) is replaced with the obligation to make payment of such sums as may be due under Section 6(e). The new regime does not retain or introduce the concept of conditions precedent.

Commercially, this all makes sense. Prior to Early Termination, whether Automatic Early Termination or at the election of the Non-defaulting Party, both parties need to be protected during the life of the swap transactions against ongoing credit risk. Once all the transactions between the parties are terminated under Section 6, that risk no longer pertains. All gains and losses are crystallised and there is no credit risk or other logical commercial reason why the party who, in a netting off or net basis, is in the money, should not get paid what it is owed.

Otherwise, the gamble of the transaction is a very different one, dependent not simply upon which party is in the money, but whether it has or has not become subject to an Event of Default, triggering Automatic Early Termination.

Third, I do not accept Mr. Crow’s submission that the analysis in paragraph 61 of the judgment of Flaux J in Marine Trade (where the latter stated that, if a condition precedent was not satisfied, then the result of the application of Section 2 was that “no obligation to pay the Settlement Sum came into existence”) supports TMT’s contention that once Automatic Early Termination took place, there could be no “coming into existence” or revival of any obligation on the part of the Non-defaulting Party for the purposes of the Section 6 calculation. That, Mr. Crow submitted, was because, if the receiving party cannot satisfy the condition precedent on the due date for payment, that was the end of the matter: the obligation of the paying party never came into existence and there was no other provision anywhere in the Agreement which brought it into existence or revived it.

It is important to emphasise that in neither Marine Trade (supra) nor in Lomas v JFB Firth Rixson Inc (Footnote: ²⁶), did the relevant contracts provide for Automatic Early Termination, nor, in either case, had any of the non-defaulting counterparties elected to serve notice under Section 6, designating an Early Termination Date and therefore terminating the contract. Therefore, in both the two cases the underlying swap transactions remained open with the non-defaulting counterparty relying on its rights not to pay under Section 2(a)(iii).

The facts of the Marine Trade case can be summarised shortly for present purposes. Pioneer and Marine Trade were parties to a number of FFAs. For the January 2009 contract month, about $7 million was due from Pioneer to Marine Trade in respect of the FFAs for which Marine Trade was the seller, and about $12 million was due from Marine Trade to Pioneer in respect of those FFAs for which Pioneer was the seller.

Pioneer was subject to an Event of Default at the time the January 2009 settlement sums became due. The effect of this was that the condition precedent to Marine Trade’s obligation to make a payment to Pioneer was not satisfied. Marine Trade therefore argued that Pioneer should pay to it the sum of $7 million, without any set off in respect of the $12 million owed to Pioneer under the FFAs for which Pioneer was the seller.

Two main questions of construction arose for decision by Flaux J. The first question was whether the effect of Section 2(a)(iii) was not only to prevent Marine Trade from having to make any payment to Pioneer but also to prevent sums which would otherwise be due from Marine Trade to Pioneer to be taken into account under Section 2(c) for the purposes of netting. It was held that sums which did not become due for payment by virtue of Section 2(a)(iii) could not be taken into account under Section 2(c), and so it followed that Marine Trade could claim the $7 million owed to it in respect of the January 2009 contract month without giving credit for any of the $12 million that would (but for Section 2(a)(iii)) have been payable to Pioneer (Footnote: ²⁷).

The second question that arose was whether, given that an obligation on the part of Pioneer to pay Marine Trade $7 million in respect of the January 2009 contract month had fully accrued, Pioneer could subsequently be relieved of that obligation if Marine Trade later itself became subject to an Event of Default. It was held that Pioneer could not be relieved of such obligation. This was because any other conclusion would essentially amount to a “defaulter’s charter”, since it would encourage a party to put off making a payment which was due in the hope that the payee eventually became subject to an Event of Default (Footnote: ²⁸).

Pioneer had initially sought to argue that, even if it had initially been affected by an Event of Default in January 2009, it subsequently cured that Event of Default, and that the effect of this was that Marine Trade’s obligation to pay Pioneer $12 million, which had been prevented from arising by virtue of Section 2(a)(iii), therefore accrued at this later date. The essence of the submission was that the effect of Section 2(a)(iii) was merely to suspend a party’s obligation to make payments to a party affected by an Event of Default, but not to prevent those obligations from ever arising.

This argument did not ultimately arise for determination, since Pioneer ultimately accepted that it did not “cure” its Event of Default (Footnote: ²⁹). Nevertheless, Flaux J expressed his view on the issue of construction, and held that, even if Pioneer had cured its Event of Default, that would not have had the effect of reviving Marine Trade’s payment obligation (Footnote: ³⁰). He stated:

It is that “one time” dictum which TMT relies on in the present case in support of its argument on “nil loss”.

Apart from the fact that Flaux J’s statement at paragraph 61 was obiter, I do not consider that in paragraph 61 of his judgment he was addressing the calculation that has to be done pursuant to Section 6 on Early Termination by way of wash out. This view is supported by what he said in paragraph 25 of his judgment:

In the light of these paragraphs, it seemed to me that all Flaux J was actually doing in paragraphs 60 and 61 was expressing the view that, so long as the Agreement continued in existence, no obligation to pay the relevant amount subsequently arose (even if the Event of Default was subsequently remedied), as one had to determine the payment obligation once and for all, whilst under the Section 2 regime, as at the end of the relevant Contract Month.

Moreover, it is now clear from paragraph 25 of Flaux J’s decision in Britannia that he certainly did not consider that, in paragraphs 60 and 61 of Marine Trade, he was addressing the situation after the Section 2 regime had come to an end and “the payment obligations of the parties are moved from Section 2 to Section 6.” He certainly could not have reached the conclusion which he did, and rejected the nil loss arguments put forward by the Non-defaulting Parties in Britannia, had he thought that his analysis in Marine Trade precluded such a result.

However, Mr. Crow’s submissions were maintained irrespective of whether Flaux J’s dicta in Marine Trade were obiter or purporting to address the situation after Early Termination. He submitted that Flaux J’s “one time” analysis logically was correct, and that, if no obligation ever came into existence during the time that the swaps were open and prior to Automatic Early Termination, there was nothing in the provisions of the Agreement to suggest that the obligation itself came into existence at any later date or to provide any grounds for it so doing.

I reject this argument. Mr. Crow’s analysis fails to differentiate between the two different obligations that arise under a swap transaction concluded on 2007 FFABA terms and subject to ISDA 92. The first is the debt obligation: i.e. is one party indebted in respect of/does one party owe a Settlement Sum to the other party? The second obligation is the payment obligation: is one party obliged to pay the Settlement Sum to the other party at any particular moment in time in the events which have happened? The clear commercial purpose of the swap transaction on FFABA 2007 terms, as recorded in the Confirmation, is that the Seller indeed becomes indebted to the Buyer (i.e. obliged to pay a particular amount) if the Settlement Rate is higher than the Contract Rate. And the Buyer becomes indebted to the Seller if the Settlement Rate is lower than the Contract Rate: see clause 8 of FFABA 2007. If, and when, actual payment of that indebtedness is to be made is governed by clause 9 of FFABA 2007, and Section 2(a) of ISDA 92. In my view, Section 2 is only addressing the payment obligation; it is not addressing the incurring of a debt obligation. That debt obligation is imposed on a party as and when he enters into a swap transaction subject to a Confirmation on FFABA terms; the actual incidence of, the calculation of the quantum of, and the date upon which it becomes payable, depend upon subsequent contingencies. But the debt obligation arises upon entry into the swap transaction subject to a particular Confirmation.

Once one approaches the analysis on the basis that, under Section 2(a)(iii), one is only looking at the payment obligation, rather than the debt obligation, the whole machinery makes sense. Thus, the wording of Section 2(a)(iii) makes it clear that the payment obligation is subject to the condition precedent that no Event of Default or Potential Event of Default has occurred “… and is continuing”. The natural reading of those words envisages that once a condition precedent is fulfilled, the obligation to pay revives. There is no need for any further creation of the debt obligation itself, as Mr. Crow seeks to suggest. (Footnote: ³¹)

My analysis as to the distinction between the debt obligation and the payment obligation is supported by the definition of Unpaid Amounts in Section 14 of ISDA 92. These, which are defined as amounts “owing” to a party, include amounts “that became payable (or that would have become payable but for Section 2(a)(iii))”. If the effect of Section 2(a)(iii) was to prevent the debt obligation (as opposed to the payment obligation) from arising altogether, it would make no sense to describe such sums as “owing”. This analysis is not affected by the fact that “Unpaid Amounts” is a concept used in the Market Loss calculation and not in the Loss Method.

Thus, if one makes the necessary distinction between the debt obligation and the payment obligation, there is no need for any express provision providing for the obligation to pay to “spring up” if a condition precedent is subsequently satisfied. The debt obligation remains in existence at all times. The question is whether the paying party has an obligation to pay. Under Section 6, Second Method and Loss, a clear obligation to pay is imposed: “an amount will be payable”. The only question is: on what basis, given that, ex hypothesi, on Automatic Early Termination, the conditions precedent in Section 2(a) (iii) can no longer be satisfied.

In Lomas v JFB Firth Rixson Inc (supra), Briggs J concluded that Flaux J’s obiter conclusion (i.e. that if, whilst the contract is still on foot, the Settlement Date has passed with nothing being payable, because of an Event of Default, the obligation to pay could not revive at any later date, if the condition precedent was then fulfilled) was wrong. Whilst it is not necessary for me to come to any conclusion on the point for the purposes of my determination of the issues arising in this case, I prefer the conclusion reached by Briggs J, largely for the reasons which he gave.

Likewise it is not necessary for me to express any view on the conclusion reached by Briggs J that the suspensory effect of Section 2(a)(iii) did not last indefinitely and that, if the conditions precedent had not been satisfied by the natural termination date of the agreement, they could never revive; see paragraphs 75-79 of his judgment. Contrary to Mr. Crow’s submissions, I do not consider that Briggs J’s conclusion in this respect supports TMT’s argument that it would be surprising if, merely because the parties had elected for Automatic Early Termination, that would prevent the Non-defaulting party from having the commercial protection of the Section 2(a)(iii) conditions precedent in the event of Automatic Early Termination prior to the natural termination date. That is exactly in my view the commercial result that the election for Automatic Early Termination seeks to achieve.

Fourth, other provisions of ISDA 92 support my view. Where the parties have chosen Market Quotation as a payment measure (Footnote: ³²), they have to calculate Unpaid Amounts due at the time of termination (Footnote: ³³). These are defined to include:

Likewise, when the parties have chosen Market Quotation, and are calculating the Settlement Amount in respect of open transactions, the value of the Replacement Transaction is reached: “… assuming the satisfaction of each applicable condition precedent”.

It is clear that the Market Quotation and the Loss methods of calculation aim at broadly similar results; see Australian and New Zealand Banking Group Ltd v Société Générale (Footnote: ³⁴); Peregrine (Footnote: ³⁵) (supra); and Firth on Derivatives (Footnote: ³⁶); Britannia (Footnote: ³⁷).

Thus, I agree with Mr. Kimmins’ submission that there would appear to be no logical commercial justification for a situation where Unpaid Accounts under the Market Quotation method are calculated on the assumption that conditions precedent have been fulfilled (irrespective of whether they have, in reality been fulfilled or not), whereas no such assumption is made for the purpose of computing Loss. One has to construe the wording in relation to each of the methods consistently. I find Mr. Crow’s submission, that a real distinction was intended to be drawn by the use of the words in the definition of “Unpaid Amounts” (Footnote: ³⁸), i.e. “(or would have been but for Section 2(a)(iii))” on one hand, and the different wording “(assuming satisfaction of each condition precedent”) in relation to the Loss and Market Quotation definitions on the other hand, unrealistic.

That is particularly so given that, in order to determine what is payable under the Second Method and Market Quotation method, one has to ascertain the:

Element i) requires calculation of the Settlement Amount by reference to the Market Quotation method, which includes the “assuming the satisfaction of each applicable condition precedent” wording, rather than what Mr. Crow accepts is the clear “assumption” wording in the definition of Unpaid Amounts. I find it unlikely in the extreme that the draftsman of these provisions would have intended a different approach to be adopted in relation to the calculation of the “Settlement Amount” (i.e. what is to be paid/received for any prospective loss of bargain) on the one hand, and the calculation of Unpaid Amounts (i.e. what would have been due or what is due as at the Early Termination Date) on the other hand. The notion that, for no apparent commercial or logical reason, the draftsmen intended that in calculating Unpaid Amounts one should assume that the conditions precedent had been satisfied, even if they had not, prior to the Early Termination Date, but for the prospective calculation of the Settlement Amount, by reference to Market Quotation, one should only do so if one can assume that the conditions precedent would in fact have been satisfied, seems to me to be fanciful.

Contrary to Mr. Crow’s submissions, one cannot analyse the mechanics and consequences of Automatic Early Termination by reference to common law concepts of breach and damage. Events of Default are not necessarily the same as breaches of contract: see Firth (Footnote: ³⁹); and per Moore-Bick J (as he then was) in Peregrine Fixed Income v Robinson (supra), who explained (Footnote: ⁴⁰):

Mr. Kimmins relied upon certain obiter passages in the judgment of Mance LJ (as he then was) in Australian and New Zealand Banking Group Ltd v Société Générale (supra), to support Pioneer’s contention that, for the purposes of the calculation required for Section 6(e)(i)(4) and the Loss definition, there had to be an assumption that conditions precedent had been satisfied, irrespective of whether they had in fact been satisfied or not. The passages he relied on were the following:

The facts of the ANZ Banking case involved a forex swap of US dollars for roubles. The contracts came to an end following what was called a “Russian Market Event”. Following the termination, the parties had to assess Loss. ANZ was in the money. Société Générale argued that but for the termination, it would have been able to take action which reduced the value of ANZ’s rights in any event. In other words, Société Générale argued that Loss should take into account events which might have occurred if the contracts had not been terminated.

The Court of Appeal rejected this approach, finding that what might have happened following termination was irrelevant, because Loss was to be calculated on the assumption that all conditions precedent were satisfied. It followed that it was to be assumed that Société Générale would not have taken steps to reduce the value of ANZ’s rights. The Court considered the position under Market Quotation and Loss, and found that the position was intended to be the same. The Court found that the calculation of Loss “… must proceed on the same basis [as Market Quotation], that is valuing the transaction in accordance with the nominal value of the payments which would have been required under it, assuming satisfaction of all conditions precedent”. It had been common ground between the parties that Market Quotation and Loss were intended to achieve the same result, but, given the detail of his analysis, Mance LJ would hardly have accepted the assumption had he not agreed with it.

As Mr. Crow submitted (and Mr. Kimmins accepted) the comments made by Mance LJ (as quoted above) in relation to the Market Quotation basis of calculation and the Loss basis of calculation were strictly obiter, since, in fact, the Court of Appeal refused Société Générale’s leave to argue new points in relation to the calculation of its losses, in relation to which Mance LJ’s comments were made. Furthermore, in a sense the comments were strictly obiter in relation to the calculation of retrospective Losses and the manner in which that should be done, since what was at issue in ANZ was whether the valuation of the prospective Loss (i.e. ANZ’s loss or Société Générale’s gain) should be a “dirty” one, taking account the contingency of a prospective Trade Event. Moreover, as Mr. Crow submitted, the issue was a different one from that under consideration in the present case: namely whether, because of the operation of Section 2(a)(iii) during the currency of the Agreement, resulting in no requirement on TMT to pay prior to Early Termination, the effect of termination and the Section 6(e) provision was, as Mr. Crow put it:

Whilst I accept that Mance LJ’s comments were obiter and that ANZ was a different case, looking at a different issue of prospective loss, nonetheless it seems to me that his views are of clear persuasive authority in relation to both Issues 4 and 5 arising in this case. As Mance LJ himself pointed out (Footnote: ⁴¹), the points were extensively argued before the Court of Appeal and he would no doubt have queried the common assumption had he not agreed with it. His views are clearly relevant to the issues which I have to decide in this case, and, in my judgment, provide strong support for the conclusion which I have reached, since they reflect an in-depth analysis of the machinery of the relevant ISDA provisions. Likewise, so do paragraphs 24-30 of the judgment of Moore-Bick in Peregrine Fixed Income v Robinson (supra). Flaux J reached similar conclusions in Britannia in relation to both judgments. (Footnote: ⁴²)

Accordingly it follows that I accept Pioneer’s submissions and determine Issue 4 in the affirmative. TMT, in calculating its retrospective Loss, is required to bring into account sums which would have become payable to Pioneer in the Contract Months prior to the Early Termination Date, had Pioneer not been subject to an Event of Default before the Early Termination Date.

Pioneer also contends that when, following the Early Termination Date, a party’s prospective “Loss” is calculated, it is likewise to be assumed that the parties would (post the Automatic Early Termination date) continue to fulfil the conditions precedent to payment under s.2(a)(iii) of ISDA 92.

In addition to the arguments it presented under Issue 4, TMT, however, additionally contended that whatever may be the position in relation to the calculation of retrospective losses under the Loss provision, nonetheless, looking forward for the purposes of calculating the loss of bargain, there is no obligation on the Non-defaulting Party to assume that the Defaulting Party will satisfy the conditions precedent to payment.

Mr. Crow submitted that the provisions on Early Termination are designed not to advantage the Defaulting Party, as Pioneer contends, but fairly to reflect the consequences of Early Termination on the Non-defaulting Party. In that regard, he submitted that the dictum of Moore-Bick J in Peregrine Fixed Income v Robinson Department Store (supra) at 1336 H to 1337 B was instructive:

He posed the question rhetorically, what is TMT's gain from being relieved of further performance? The answer, he said, was "zero". It had no obligation to pay Pioneer, because Pioneer could not satisfy (and cannot now ever satisfy) the conditions precedent in Section 2(a)(iii). He further submitted that the words in the second sentence of the Loss definition in Section 14 – "assuming satisfaction of each applicable condition precedent"– had no application to the calculation of loss of bargain, or prospective loss; they apply, Mr. Crow submitted, if at all, only to “any payment or delivery required to have been made ... on or before the relevant Early Termination Date” – i.e. to retrospective losses. So, submitted Mr. Crow, they do not, and do not purport to, work prospectively, by requiring the Non-defaulting Party to assume (when calculating its loss of bargain) that all future conditions precedent in respect of Contract Months between the Early Termination Date and the completion of the contract would also have been fulfilled. On the contrary, since Automatic Early Termination has occurred because the Defaulting Party is insolvent, in determining its Loss, the Non-defaulting Party is entitled to assume that no future conditions precedent to payment would have been met. That has to be, or at the very least may be, factored into the calculation of its Loss. He further submitted that the express provision relating to retrospective losses was unhelpful to Pioneer, as the implication was, in accordance with normal principles of construction, that the assumption had been deliberately excluded in relation to the calculation of prospective Loss.

I do not accept this submission. First, for the reasons which I have already stated above, it is contrary to the view taken (albeit obiter) by Mance LJ in Australian and New Zealand Banking Group Ltd v Société Générale (supra) in paragraph 29 in relation to prospective losses.

Second, as I have already stated, it is plain that Market Quotation and Loss purport to achieve broadly the same results. Market Quotation requires it to be assumed that all conditions precedent are satisfied prospectively. In my view, one would need to find a logical justification for the same position not to prevail in relation to Loss.

Third, if Mr. Crow were right, there appears to be no sensible commercial reason as to why the prospective position should be different from the retrospective position under Loss.

Fourth, as was submitted by Mr. Kimmins and also by leading counsel for the Defaulting Party in Britannia (Footnote: ⁴³), there is logically no need for the first sentence of the Loss definition in Section 14 (relating to composite losses or gains, including loss of bargain) expressly to include the provision "assuming satisfaction of each applicable condition precedent". That is because that assumption is the only basis upon which a “gain” would ever have to be given credit for by the Non-defaulting Party under the Second Method. If Mr. Crow were right, the Non-defaulting Party would never have to pay anything in respect of loss of bargain going forward. But the concept of Loss (including a Non-defaulting Party’s gain) as defined in Section 14, clearly envisages that the Non-defaulting Party may have to pay the Defaulting Party something on “wash out” under Section 6(e)(i)(4) in respect of loss of bargain. Given that the definition of “Loss” is not equivalent to the common law measure of damages, but rather is a method of calculating close out positions irrespective of which is the party in breach, I see no commercial basis for the position for which Mr. Crow contends. In this respect I respectfully concur with the approach adopted by Flaux J in Britannia (Footnote: ⁴⁴) on this point.

Fifth, I do not find it surprising linguistically that the definition of Loss does not expressly state that it is to be assumed that conditions precedent are fulfilled prospectively. In the description of Market Quotation, losses and gains are neatly divided into two parts: the Settlement Amount (prospective) and Unpaid Amounts (retrospective); see Section 6(e)(i)(3). Thus it is not unexpected that, in the definition of Market Quotation in Section 14, each of these two elements of the calculation is separately considered and defined, and each refers to the deemed satisfaction of conditions precedent. In the description of Loss, however, it is simply provided that an amount will be payable in respect of the Non-defaulting Party’s loss or gain as a whole, and there is no sub-division into retrospective and prospective loss or gain; see Section 6(e)(i)(4). In such circumstances, it is not perhaps surprising that the definition in Section 14 of Loss does not have a separate section of the definition dealing with prospective losses.

It follows that I decide Issue 5 in the affirmative and contrary to the submissions of TMT.

I will hear further argument from the parties as to the consequences of my rulings on these preliminary issues, whether in relation to questions of quantum or other issues which remain live in the proceedings.

It is appropriate that I should record my gratitude to all counsel and the respective teams of solicitors for the assistance which I have received from the extensive oral and written submissions in this case. The quality and content of those submissions undoubtedly reduced the time that was required for argument in open court.