MARINE INSURANCE - Reader #4

Average in marine insurance

In insurance, the word average can have two meanings. In non-marine
property insurance, averaging simply means the sharing of loss and it is
used by insurers to combat under-insurance. If there is an averaging
clause in the policy, the insured may become an insurer for the
proportion that is under-insured, and share in the contribution. The term
average in this case is similar to the term deductible.
In marine insurance, the term has a more specialized meaning. It
probably comes from the French word avarie (meaning damage) and
means specifically loss of or damage to ship or cargo. It refers to a
partial loss and is usually qualified by the terms particular or general.
The partial loss in question may be of ship, goods, or freight.

Particular average (fortuitous partial loss)

When there is a partial loss of the insured subject matter (ship or cargo)
that must be borne by only one insured interest, the loss was historically
referred to as particular average. This type of partial loss must be due to
some insured accident or occurrence, rather than deliberate actions. Such
a loss is therefore most often described in a modern policy as a fortuitous
partial loss.
For example, if some cargo is lost overboard in a storm, this could be
termed a fortuitous loss that would qualify as particular average.
However, if the cargo is deliberately jettisoned in order to save the ship
from capsizing, this does not qualify as particular average, but is
regarded as a general average act (described later in this lesson).
Before the modern Institute clauses were adopted the term FPA (free of
particular average) was used to describe insurance clauses that dealt
mostly with total losses (except in limited specific cases). This term is
still quite common but technically obsolete. It has not been used in cargo
or hull insurance clauses since the 1980s.

Measure of indemnity
Indemnity is a security against damage or loss. It can mean either being
exempted from penalties or being provided with compensation. Thus,
the measure of indemnity means how much security is involved.

Partial loss of ship

Where a ship is damaged but is not totally lost, the measure of the
indemnity, subject to any express provision in the policy, is as follows:

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 where the ship has been fully repaired after a single casualty, the
policy holder is entitled to the reasonable cost of repairs less
customary deductions. The settlement may not exceed the sum
insured in respect of a single casualty
 where the ship has only been partially repaired, the policy holder is
entitled to the reasonable cost of such repairs plus the cost for
reasonable depreciation expected to arise from the unrepaired
damage
 where the ship has not been repaired, the policy holder is entitled to
reasonable cost based on expected depreciation, but not exceeding
the reasonable cost of repairing the damage.

Partial loss of goods

Where part of the cargo is totally lost, the insured is entitled to a
proportion of the full sum insured.
Example:
Ten packages have an actual total value of $900 and are insured for
$1000.
If one package (10% of the cargo) is completely lost during
discharge, the estimated loss based on actual value is $90.
That is, on arrival at the destination, there has been a 10%
depreciation of the actual value of the cargo. Therefore, a claim can
be made for 10% of the insured value. That is 10% of $1000, which
is $100.
Where different types of property are insured together under a single
valuation, the valuation must be apportioned over the different types in
proportion to their relative values.
Where the whole or any part of the goods is delivered damaged, the
insured is entitled to an appropriate proportion of the sum insured. The
amount depends on the proportion of damaged to undamaged goods at
the destination and upon the extent of damage. Sometimes the damaged
goods can be sold at a reduced price, so their full value cannot be
claimed. It is based on gross values—that is, the wholesale price or
estimated value including freight, landing charges, and duty paid. If the
goods are usually sold in bond, the gross price without duties is used.
Example:
If one of the ten packages described above is damaged and
subsequently has a gross value of only $50.00 rather than its
undamaged value of $90.00, then the insured would get 50/90 of the
insured value of $100.00. That is, the insured could claim only
$55.55.
Many insured feel that this formula for arriving at the claims figure is not
advantageous to them when damaged goods are subsequently sold. They
feel they should receive the insured value less the gross proceeds. Gross
proceeds means the actual price obtained at a sale where all charges on
the sale are paid by the seller. In this way the policy holder always
receives the full insured value for the damaged goods by combining what
is received from the gross sale and the claim.

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Example:
In a stable market (prices as before the journey):
Insured value = 100.00
Gross proceeds = 50.00
 Claims = $50.00, rather than $55.55

In a falling market:
Insured value = 100.00
Gross proceeds = 40.00
 Claims = $60.00, rather than $44.44

In a rising market:
Insured value = 100.00
Gross proceeds = 60.00
 Claims = $40.00, rather than $66.67
However underwriters never agree to settle partial loss on this basis
unless it is a salvage loss. Salvage losses are discussed later in this
lesson.

Partial loss of freight

Where there is a partial loss of freight, the insured is entitled to a
proportion of the sum insured. The proportion is the same as the
proportion of freight lost to the full freight at risk.

General average
General average is damage arising from an extraordinary and intentional
sacrifice that is made for the common safety of the ship and cargo. A
general average loss is a direct consequence of a general averaging act.
For example, some cargo might be deliberately jettisoned to prevent the
ship from capsizing. The loss associated with this is preferable to the
larger probable loss of the whole ship and cargo.
The principle of general averaging predates the Roman empire and was
referred to in the mediaeval maritime Rules of Oleron. It exists even if
the parties involved do not have insurance, being rooted in shipping
practice rather than insurance practice.

The nature of a general average act

A general average act is any extraordinary voluntary action or
expenditure that is made at a time of peril and that is reasonable, and
intended to preserve other property that is also imperilled.

Extraordinary sacrifice or expenditure

Normal expenses incurred in implementing the contract of affreightment
are not considered to be general average losses.

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Example:
In the case of Horizon vs. Bank of Australia (1872), a sailing vessel
was fitted with an engine that started leaking after a severe storm. It
had to be pumped constantly. The coal supply was used up, so the
master ordered the ship’s timbers to be burnt as fuel. Fresh coal
supplies were eventually purchased and the voyage was completed.
The shipowner claimed a general average loss for the timbers, the
extra coal, and the engine overhaul. The court held that the
shipowner could only claim general average contribution from the
cargo owner in respect of the materials burnt. He could not claim for
the coal purchased or for the overhaul of the engine. Only the
burning of the timbers were considered to be an extraordinary loss—
the others are considered to be ordinary (normal) expenditures of the
voyage, not subject to general average.

Voluntary sacrifice or expenditure

The action taken or expenditure incurred must be voluntary. Accidental
actions and expenditures do not count as general average losses.
Example:
In the case of Austin Frior SS Co. Ltd. vs. Spillars (1915), the pilots
decided to enter a port knowing that there was every likelihood of the
ship striking a quay. However the circumstances were such that it
was necessary to take that risk to avoid a greater danger. The
vessel struck the pier damaging the ship and the quay.
The court allowed as general average losses both the sum expended
in repairs to the vessel and the amount paid to the Port Authority for
damage to the pier.
Had the pilot not realised that there was a strong likelihood of striking
the quay and had merely rammed it by accident, general average losses
would not have applied.

Reasonable and necessary sacrifice or expenditure

The sacrifice must be reasonable and likely to achieve the objective of
saving greater losses. If cargo that was likely to be lost anyway without
further danger to the ship or other cargo is jettisoned, general average is
not considered to apply. However, if deck cargo breaks loose and
becomes a danger to the ship, crew, and/or other cargo, throwing it
overboard is considered a general average act because it is a reasonable
action that is likely to achieve its objective of preventing further losses.
To be considered as a general average act, an action must also be deemed
to have seemed essential to prevent further loss.
Example:
In the case of Papayenni vs. Grampion (1896), a ship that was on
fire was taken by the master into port. The crew was unable to
extinguish the fire. The ship was a danger to the port and other
ships. The port captain ordered the ship to be scuttled along with the
cargo. The master agreed.
The court held that general average applied in this case.

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Claim settlement for general average sacrifice

The Marine Insurance Act provides that, in case of a general average
sacrifice, the policy holder may recover from the insurer in respect of the
whole loss. The policy holder does not have to enforce the right of
contribution from the other parties liable to contribute. Nonetheless the
claim is subject to any express provision in the policy.
 In the case of Hull Insurance, the claim would be subject to the
deductible average clause. Such claims are settled in the same
manner as particular average claims.
 Cargo underwriters pay the insured value of any package totally lost.
In the case of partial loss, underwriters pay the difference between
the gross sound value and the gross damaged value and ignore any
franchise on the policy.

General average contribution

Where there is a general average loss, the party on whom it falls is
entitled (subject to legal conditions) to a rateable contribution from the
other parties. Three interests in the venture contribute:
 the ship interest contributes on its value (whatever its condition,
sound or damaged) at the time discharge is completed at the final
port of destination, or at some other place where the venture ends
 the cargo interest contributes on its actual or insured market value
at the time and place it is assessed, less the expenses incurred in
realising that value (discount freight unless paid in advance,
warehouse brokerage, and duties). If the cargo is sold before
discharge, its value is the actual net proceeds
 the freight interest contributes according to gross freight less
expenses; it does not include passage money, but may include hiring
fees paid under a charter party.

The following parties and financial interests in the venture are not
required to contribute:
 saved lives—they are too difficult to evaluate
 passengers and their loads and luggage
 crew’s wages
 ship’s provisions.

Assessment of contribution
Unless it is otherwise agreed by the parties involved, adjustment takes
place at the end of the voyage or the venture, usually at the port of
destination. The law applied is the law of the port where the voyage
terminates, which may be an intermediate port on the planned voyage,
due to the expected peril causing the general average act.

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The York Antwerp Rules

Most bills of lading today contain a clause that specifies that, in the case
of general average, the adjustment would be done according to the York
Antwerp Rules.
The York Antwerp Rules brought some uniformity into the adjustment of
general average which previously had depended on the various rules and
practices at the ports of discharge. The earlier version of the York
Antwerp Rules only attempted to clarify specific matters on which the
practice of various countries differed. Later versions went further and
not only added to the rules but also included statements of the general
principles of general average. The latest version of the Rules was
published in 1994 and is widely used.

Jettison of cargo
Rule I of the York Antwerp Rules state that:
No jettison cargo shall be made good as general
average unless such cargo is carried in accordance with
the recognised custom of trade
Example:
In the case of Wright vs. Markwood, one hundred head of cattle were
shipped under a written agreement for carriage on deck. The bill of
lading stated that the carrier was “not accountable for death,
accident, or injury”. Stress of weather caused the master to throw
the cattle overboard for the safety of the ship. The cattle owners
claimed the loss under general average.
The court held that the contract between the parties recognized the
possibility of death for the cargo, and that therefore the deck cargo
was subject to the rule of general average. The claim of the cattle
owners was allowed.

Sacrifice of ship
Rule V of the York Antwerp Rules is about voluntary stranding:
When a ship is intentionally run on shore for common
safety, whether or not she might have been driven to
shore, the consequent loss or damage shall be allowed in
general average.
Rule IX makes it a general averaging act to use the ship’s materials or
stores for fuel.

Sacrifice of freight
Where freight is payable on delivery, then the jettison of the cargo in
order to save the venture means a loss of some freight. In such a case,
the carrier is entitled to a contribution from persons whose interests are
saved.

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Salvage and average losses

Salvage is discussed further in Unit 5, Lesson 2. Acts of salvage include
towing a disabled ship into port, in which case, ship, freight, and cargo
have been saved. They may also include such things as rescuing some
cargo from a stranded ship, or picking up jettisoned cargo. If salvage
occurs in the course of a general average act, any salvage award is
treated as a general average expenditure. The salvage award is taken into
account in the contributory value.
The contributory value in respect of the salvage charges is calculated on
the values at the port of refuge, not at destination. If salvaged goods are
damaged, they are usually sold, and the salvage proceeds are accounted
for by the adjuster.

Salvage awards and particular average

Salvage charges are not subject to fortuitous partial loss (particular
average) warranties. They may be claimed from underwriters only when
they are incurred because of deliberate efforts to avert a loss covered by
an insurance policy.

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GA contributions, security, and settlement

When several interests are to be held accountable for losses, various
ways must be used to guarantee that they will fairly pay their share of the
general average (GA) losses. They must also be assured of being paid
themselves in the event the loss is theirs.

General average security

Each interest suffering GA loss becomes a creditor of the other interests
to the extent of their contribution. This may be enforced by right of legal
action and also, where possible, by a lien. This is defined as:
Lien The right to keep possession of a property until a
debt respecting the property is paid.
It is the duty of the master to collect GA contributions and to exercise a
lien on property interests where necessary. This lien ensures that the
property may be seized and sold to enable payment of the contribution.
The master also takes some form of security that the contribution will be
paid when it is properly adjusted without having to exercise the lien. The
usual way is to take a bond— usually a Lloyd’s average bond.

Lloyd’s average bonds

The average bond drafted by Lloyd’s is a contract in which the master
agrees to discharge cargo without exercising the lien in return for the
cargo owners agreeing to pay their general average (GA) contribution.
The bond may require that a payment on account be made toward the GA
losses in case the adjustment takes a long time.

Bank guarantees
Instead of a cash deposit, a bank guarantee may be provided as security.
This is a bank document that guarantees that the GA contribution
assessed against the cargo owner will be paid by the bank upon
completion of the adjustment.

Underwriter’s guarantee
Where it is clear that the eventual contribution will fall upon the
insurance policy, the cargo underwriters give a written undertaking to
pay the contribution of the adjustment. Such guarantee must be for
payment in full.

Under-insurance
It is possible that the insured value stated in a policy is less than the GA
contribution needed. In that case, it used to be that the insurer required
an indemnity from the policy holder that the policy holder would pay the
balance. Nowadays a cargo policy usually incorporates a GA in full
clause to ensure that GA contributions are paid in full irrespective of
differences in insured and contributory values.

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GA fund—consignee contributions
In the absence of any acceptable form of guarantee, the receiver of the
cargo is required to pay a deposit into the GA fund. This fund is
administered by two trustees—one to represent the shipowner and the
other the cargo interest. The money is deposited in the names of the
trustees and earns interest. A deposit receipt is issued.
When the adjustment has been completed, the holder of the receipt is
paid the difference, if any, between the GA contribution and the deposit
plus accrued interest. There is no legal obligation on the underwriters to
pay this deposit before assessment but in practice they sometimes do.

General average disbursements

Often a general average act includes expenditures made by the
shipowner. In the fields of law and insurance these are usually termed
disbursements. Such expenditures may be recovered from the GA fund.
The average bond may provide for the shipowner to draw this
expenditure at an early stage.
Where the voyage is not saved by the GA act, there is no available GA
fund. A prudent shipowner usually takes a GA disbursement insurance
policy that indemnifies 100% of the expenditures if the ship is totally lost
before the voyage is terminated. The cost of this insurance is also
considered a general average disbursement.

General average adjustments

The adjustment of general average is a complicated task and is usually
done by specialists known as average adjusters. When a casualty occurs
so that the carrier has to sacrifice cargo or incur extra costs, the carrier
consults the average adjusters who decide whether to declare a general
average loss.
The declaration itself is not important, but the carrier must give notice to
the receivers/consignees as soon as possible. Delivery of the cargo is
withheld until the formalities have been completed.
The adjusters obtain from the carrier all the costs and expenses involved,
including the value of any goods sacrificed. They then examine each
item to see whether it is a legitimate GA expense or sacrifice. If it is not,
then that loss must be borne by the appropriate party—shipper, cargo
owner, or carrier.
Example:
An average adjuster may be required to assess a case of damage by
fire and damage by the water used to extinguish the fire. In this
case:
 the cost of repairing the damage to ship caused by fire would not
be considered a GA expense and would be borne by the carrier
 the cost of the cargo damaged by fire would have to be borne by
the cargo owner. The carrier is not responsible for damage to
cargo if the cause of damage is fire

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 the cost of repairing the damage to the ship caused by the water
used to fight the fire would be a GA expense. This is because
putting out the fire is essential to preventing a greater loss
 the cost of the cargo damage caused by the water used to fight
the fire would also be a GA sacrifice.
Once all the items of cost and expenses have been examined the adjusters
add all the items allowed in general average and divide the lump sum
between the ship and the various cargo owners, according to the value of
their property at the end of the voyage.

More than one GA act

More than one general average act may be necessary on a single voyage.
The adjustments and settlements in this case are more complex. The
latest GA act in the voyage is adjusted first. This is done because the
first GA act would have been futile were it not for the subsequent ones.
If there are two GA acts, the second one is adjusted on values at the
destination port. The contributions payable for the second act are then
deducted from the contribution values for the first GA act.

Assessing the contributions

To determine the contribution due from each interest, the average
adjuster must establish:
 the aggregate amount required in the GA fund to make good the
losses suffered
 the relationship (percentage) between this fund and the total
contributory values
 the contribution each interest must pay.

Example 1:
Estimating contributory value for a ship:
SHIP
Sound value as per valuation certificate 5000 000.00
Estimated cost of particular average claim = 35 000
Estimated cost of general average claim = 50 000
Overall average claim = (85 000.00)
Net value 4915 000.00
Make good general average repairs 50 000.00
Contributory value $4965 000.00

Example 2:
Estimating contributory value for freight:

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FREIGHT
Gross freight earned 5000.00
Expenses incurred subsequently (500.00)
Total earned 4500.00
Make good on jettisoned cargo 200.00
Contributory value $4700.00

Example 3:
Estimating value of losses:

Cargo sacrificed 12 000.00

GA repairs to ship 240 000.00
Freight lost 1000.00
GA expenditures of shipowner 2000.00
Total losses $255 000.00

Example 4:
Estimating contributions:
Step 1:
Suppose that the total cargo interests were $142 300.00 (of which
$12 000.00 was sacrificed). Thus, the contributory value of the cargo
interests is the balance of $130 300.00
Step 2:
Thus, the established contributory values of all the GA interests
involved are:
Interest Total value
Ship 4965 000.00
Cargo 130 300.00
Freight 4 700.00
Total $5100 000.00

Step 3:
The estimated GA losses were calculated in Example 3 to be
$255 000.00, which is 5% of $5100 000.00
Thus, each interest must contribute 5% of its value toward the
general average losses, as follows.

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Interest Total value Contribution Total make good

Ship 4965 000.00 5% 248 250.00
Cargo 130 300.00 5% 6 515.00
Freight 4700.00 5% 235.00
Total $5100 000.00 $255 000.00

Underwriter’s liability
The underwriter’s overall liability may involve payments for both
jettisoned and damaged cargo. They are calculated as follows:
Example:
Suppose 1000 cases of cargo were loaded insured at a value of $10
per case. During the voyage 100 cases were jettisoned to save a
greater peril. At the destination, 100 cases were sold damaged for
$600, and the other 800 were sold undamaged (“sound”) for $9600
($12 per case).
For the purposes of the claim:
 the 100 jettisoned cases are estimated to have a value of $12
per case (representing a loss of $1200)
 the damaged cases that brought in only $600 are therefore
considered to have depreciated 50% of their sound value.
Therefore, the policy pays:
 full insured value ($1000) for the 100 jettisoned cases
 50% of the insured value ($500) for the partial loss.
Total settlement is $1500.

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