CII – Time for a Rethink?
Without a radical new approach, BIMCO’s CII Operations Clause will remain a worthy but vain attempt to reconcile shipping’s environmental and commercial imperatives,
Legal and contractual disputes lie ahead for shipping unless it finds a better compromise between owners and charterers to sustain the International Maritime Organization’s Carbon Intensity Index (CII).
Entering into force on 1 January 2023, the CII relates primarily to the way in which ships are operated and the resulting CO2 emissions. Grading ships on a scale of ‘A’ to ‘E’ based on their annual CII performance, the index is calculated in grams of CO2 emitted per cargo-carrying capacity and nautical mile, and requires ships rated ‘C’ and below to offer plans for improvement within a given timeframe. It also requires consideration from owners and charterers alike on apportioning responsibilities for CII within charterparties.
The CII has been criticized on several fronts, including for its skew towards distance travelled over cargo carried. It is said that a ship could, for example, achieve a more favourable rating by undertaking ballast legs, when that would do little to reduce overall carbon emissions. Again, ships stuck at port through no fault on the part of the owner or charterer will see their CII performance deteriorate.
Many hope that the market will come to favor ships which achieve a higher rating, although another criticism of the mechanism is that it lacks the bite of direct financial penalties. This aspect of the CII provisions will be revisited by IMO in 2025.
In the interim, however, it would be a mistake to conclude that the CII carries no prospect of a financial burden. In preparation for entry into force, BIMCO drafted an Operations Clause for charter agreements to accommodate the CII. This attempted to reconcile the requirement for the owner to obtain a rating after an assessment of each year’s CII performance, when that rating is determined to a large extent by the operational profile demanded by charterers.
To accommodate the fact that the CII performance during the charter will not be known until after redelivery, the BIMCO clause allows the parties to pre-agree a CII value and to monitor the attained CII performance to ensure that it matches that value through the charterparty. The figure reflects the Annual Fuel Consumption multiplied by the CO2 emissions factor for the fuel type consumed, divided by distance travelled and multiplied by the ship’s deadweight capacity. This solution has been widely criticized, with an open letter to the association from shipping heavyweights describing the text as putting obligations “disproportionately on the charterers” in December 2022.
Pause the Clause
Essentially the clause is not being used, but there are additional issues with CII which mean that doing nothing is also not an option.
One is that the charterer responsible to a large extent responsible for operating decisions will be the end time charterer in any contractual chain, but that charterer may in turn have voyage chartered the vessel out. Even should the end charterer agree with an owner’s plan to slow steam in pursuit of a better CII rating, for example, that charterer may not be in a position to override obligations to proceed with utmost dispatch and all due dispatch without being in breach of the voyage charter.
Another issue is that the traditional demurrage model does not lend itself to environmental measures such as CII. The charterer providing the orders would prefer a vessel steaming full speed into port, in order to tender its NOR, start the laytime clock ticking under its voyage charter and increase the demurrage earned: slow steaming may improve the emissions output, but it will reduce voyage charterparty earnings.
The time charterer will also want to maximize income from trading the ship. A slower ship could mean fewer voyages and lower earnings. There is also little incentive to load less cargo and reduce freight earnings in order to improve fuel efficiency.
Perhaps the most controversial aspect of the BIMCO CII Clause is that, if warnings to charterers are not heeded, an owner might choose to disregard charterers’ orders in order to improve the ship’s CII rating while it remains on hire. This would be a clear be a point of conflict: charterers may seek to put the vessel off-hire for non-compliance with their orders, while owners insist on the right for earnings hire to continue citing charterers’ failure to adhere to agreed CII targets.
Conversely, under the BIMCO Clause as written, owners shall be entitled to claim from the charterers any losses, damages, liabilities, claims, fines, costs, expenses, actions, proceedings, suits or demands suffered which have been caused by any breach by the charterers of their obligations. Potentially, this widely worded clause could include losses arising out of poorer market rates brought by low CII rating, although questions will remain regarding whether losses were caused by a charterers’ non-compliance with the BIMCO CII Clause.
The widely worded nature of the damages clause is also not an “easy fit” for commonly experienced circumstances. A charterer which trip time charters a vessel in and finding that, through no fault of its own, the ship remains stuck at the loadport for longer than intended, will already be up against compliance with the agreed charterparty CII value. With no time or ability to improve the rating in the short charter thereafter, the charterer will be exposed to damages claims.
It must also be borne in mind that an owner may have due dispatch obligations of its own under bills of lading and, unless a suitable provision is incorporated into the bills of lading, an owner as carrier could face claims under these bills.
Adapting the Clause
Alternative approaches to the BIMCO CII Clause have been proposed, but these also face difficulties. One adaptation foresees an owner being permitted upon sufficient notice to take the vessel back off-hire for a period to improve its CII rating. Quite how this could be achieved when the charterer’s purpose includes exploiting market conditions remains unclear.
Another option is for an express indemnity for charterers to compensate owners for a downgraded or low CII rating, or some kind of shared indemnification. However, where this is not calculated contemporaneously, issues will arise as to how owners can obtain security for possible future losses.
A further option could be to follow the Emission Trading Scheme approach and its “polluter pays” maxim, with charterers paying a sum of money together with each hire statement which is placed in escrow. In this scenario, the owner retains the money if a charterer does not meet its agreed emissions figure, or the charters receive it back if they do. Whilst such a scheme may provide charterers with financial incentives to improve a ship’s CII rating, the parties would have to be careful that it did not incentivise owners to encourage poor CII performance to obtain these funds.
An Alternative Approach
A radical approach challenging traditional shipping models could be to agree different hire rates for different trading activities, such as lower rates for ballast legs and the full rate for port stays and laden passages. Whilst such an approach aims to provide charterers with the necessary financial incentives to consider emissions from the vessel and improve its CII rating, a nagging doubt remains whether, although good for the ship’s individual rating, it has only a negligible positive overall effect on carbon emissions.
Parties will also have to carefully consider their rights and obligations under voyage charterparties and incorporate, as best they can, suitable terms into bills of lading to enable slow steaming orders to be given to the ship without falling foul of pre-existing conditions in other contracts. The writer has drafted an example clause for this purpose, which is available upon request.
It remains to be seen what impact, if any, a low CII rating will have on a ship, its port dues paid, whether any restrictions develop on trading routes and places and whether the market will recognise the benefit of higher rated vessels or not. Perhaps it will not be until any effects are known when the parties start to agree obligations in respect of CII. Until then, owners will bear the risk of low ratings whilst to some extent at the mercy of those to whom they charter their ships. If adverse effects of a low rating are felt, inevitably disputes will arise as to who should be responsible for this impact. Such disputes are not likely to be straightforward under unamended charterparties.