Click here to read our latest news and articles addressing the impact COVID-19 is having on the construction industry
Our collective
thoughts
Posted May 15, 2020 | Published in General

On Demand Bonds: Tecnicas Reunidas Saudia v The Korea Development Bank

In my recent Insight I examined the key things to think about when dusting off payment guarantees (i.e. true guarantees rather than on demand bonds) in light of the COVID-19 pandemic, taking into account the recent case of Yuanda v Multiplex. However, parties who have provided on demand bonds, or been given them, also need to be perhaps more sensitive than ever to the circumstances in which they can be called and the very real limitations placed on resisting their calls under English law. 

It is generally recognised that calling on an on demand instrument is a serious step for all involved and is therefore not one to be taken lightly. However, if the economic impact of COVID-19 is as bad as expected, those who may have hesitated to make a call previously may find themselves with no option but to do so. In such circumstances the only real defence to a call is known as the fraud exception and that is extremely difficult to establish. 

With this in mind, the recent TCC case of Tecnicas Reunidas Saudia [“TRS”] v The Korea Development Bank (the “Bank”) caught my attention. Although it does not deal with the fraud exception per se it is a good illustration of the difficulties faced in resisting calls made on on demand bonds in the English courts.  

TRS entered into a subcontract with a Korean contractor (Sungchang) in relation to a major construction project in Saudi Arabia. Sungchang provided an Advance Payment Guarantee (the “Bond”) which could be called on if for some reason the advance payments weren’t earned back. 

TRS claimed that Sungchang had basically walked off site and as a result made a demand on the Bond. Interestingly, injunctions were sought to prevent payments being made against the Bank in Korea (apparently on some kind of fraud-related basis) but this was not raised in the English proceedings presumably because the case couldn’t be made out under English law. Instead, the focus of the Bank’s attempts to resist the call was on what was referred to as the HSBC condition contained within the Bond. 

This provided that:

“It is a condition for any claim and payment under this guarantee … that the funds paid in advance payments subject to the terms of the subcontract must have been received by the sub-contractor on its account number … held with HSBC.”

The problem was that the funds had been paid to that bank account but it was not an HSBC bank account as such. It was a Saudi British Bank account – associated with HSBC and 40% owned by HSBC Holdings – as there was no HSBC presence as such in Saudi Arabia.

Did that comply? Well the Judge held that it did. The Saudi British Bank was associated with HSBC and he held that as a matter of interpretation it was enough that the account was held with a branch of HSBC or a bank associated with HSBC. Alternatively, “HSBC Bank” was a misnomer for Saudi British Bank.

The Judge added for good measure that he would, if required, have used Article 7 of the ICC’s Uniform Rules for Demand Guarantees 2010 (which applied to the Bond) (the “URDG”) to jettison the requirement. Article 7 provides that an on demand guarantee should not contain a condition other than a date or the lapse of a period without specifying a document to indicate compliance of that condition.

" It is generally recognised that calling on an on demand instrument is a serious step for all involved and is therefore not one to be taken lightly… if the economic impact of COVID-19 is as bad as expected, those who may have hesitated to make a call previously may find themselves with no option but to do so. "

So the Bank was ordered to make payment and the whole thing was over within 21 days from the date the claim form was issued to judgment being issued. In other words, incredibly quickly. Whether that would be possible in the current lockdown remains to be seen but it illustrates the seriousness with which the English courts take enforcing these obligations.

The moral of the story is clear. The English courts have stressed again and again that payments out in relation to On Demand Bonds (sometimes known as Letters of Credit) will be enforced save where the fraud exception applies, i.e. where there is a fraudulent claim and the issuer knows that the demand is fraudulent. (See for example Fenwick Elliott’s Court of Appeal decision awarding payment in National Infrastructure Development Co Ltd v Banco Santander SA [2017] EWCA Civ 27.)  It may be that we will see parties seeking to try and widen this exception again to include some element of unconscionability (which is a position accepted in some other jurisdictions), but to date the English courts have remained resolute. If a claim is made on an On Demand Bond, payment will be enforced by the English courts save in very limited circumstances.  

Interestingly, a very recent case in the Qatar Financial Centre Court of Appeal1 suggests that other jurisdictions are taking enforcing bond provider’s obligations to pay out under on demand bonds seriously. In that case the Court ordered the bank in question to pay out to a main contractor (Leonardo) who had called on an advance payment guarantee and performance bond (both on demand bonds) provided by a subcontractor in relation to the provision of a low-level radar system for the Qatari Armed Forces.

In particular the Qatar Financial Centre Court of Appeal held that: (1) no additional documents were specified as being required to be presented at the time the demand was made and Article 7 URDG made it plain that they had to be, if they were required. Accordingly, the demand was sufficient; (2) discrepancies within the demand were not raised as issues within the requisite time periods of Article 24 of the URDG and accordingly were not valid reasons to refuse payment; and finally (3) even if the demand was arguably for too large an amount pursuant to underlying contract, on demand bonds are autonomous instruments (i.e. independent contracts to the underlying construction contracts) and the amounts that could be claimed under them had not, in this case, been reduced. 

It is likely that the COVID-19 pandemic will result in more calls being made on On Demand Bonds both domestically and internationally and, as such, cases like the ones discussed above are likely to be seen more frequently in the coming months. 

Claire will be speaking on guarantees and on demand bonds in light of the COVID-19 epidemic at our webinar on 4 June 2020, chaired by Tony Francis, together with Anneliese Day QC of Fountain Court Chambers.

0 comments

Add your comment

You must have Javascript enabled to use this form.