UK: Court Of Appeal Confirms That Advance Payment Guarantees Were Performance Bonds

Last Updated: 6 October 2011
Article by Jamila Khan and Ina Gueorguieva

Meritz Fire and Marine Insurance Co Ltd v. Jan de Nul NV and Anr [2011] EWCA Civ 827

In our January 2011 Shipping E-brief, we reviewed the first instance decision in this matter, where the Commercial Court held that the Advance Payment Guarantees issued by an insurance company were "on-demand" performance bonds rather than "see to it" guarantees. The Court of Appeal has now upheld that decision.

The background to the dispute

The claimant insurance company issued three Advance Payment Guarantees ("APGs") to the defendants. The APGs guaranteed the refund of advance payments made by the defendants to a Korean shipbuilding company, HWS, pursuant to the terms of three shipbuilding contracts. The claimant had issued the APGs for the account of HWS as a commercial transaction for a fee.

HWS subsequently merged with another company and the new company, Buyoung Heavy Industries ("Buyoung"), thereafter transferred its shipbuilding business to Asia Heavy Industries Co. Ltd ("Asia Heavy"). In due course, the defendants issued notices of default under the shipbuilding contracts based on alternative grounds including contractually impermissible delays and builder's insolvency. The defendants subsequently terminated the contracts and demanded the refund of advance payments made under them. When Asia Heavy did not pay any of these demands, the defendants demanded payment from the claimant under the three APGs.

The claimant sought a declaration of non-liability from the court. Amongst other things, it argued that it had guaranteed the obligations of HWS and not those of its corporate successors; and that, alternatively, it had been discharged from liability under the APGs as a result of alleged material variations in the shipbuilding contracts by reason of the changes in the builder's corporate identity and extensions of the delivery time of the vessels which it claims were agreed between Asia Heavy and the defendants. The defendants counterclaimed the amounts owing to them, together with interest, arguing that the APGs were unconditional performance bonds and it was therefore irrelevant which corporate entity failed to make the refund or whether there had been material variations to the shipbuilding contracts. In the alternative, if the APGs were classic contracts of suretyship in which the claimant's obligation as guarantor is secondary to the primary obligation of the principal debtor, the defendants argued that there had been no material variations to the shipbuilding contracts. The judge at first instance concluded that the APGs were performance bonds or demand guarantees and found in favour of the defendants. The bond, on its true construction, had the attributes of on-demand bonds and they incorporated the Uniform Rules for Demand Guarantees of the ICC (the "URDG") indicating the parties regarded them as on-demand bonds. The claimant appealed.

The Court of Appeal decision

The Court of Appeal approved the first instance judge's rejection of the claimant's argument that the APGs were not like performance bonds in respect of which money was automatically due on the beneficiary's say-so. Lord Justice Longmore said that "[i]n light of the incorporation of the Uniform Rules No. 458, which expressly state that the terms of the underlying contract are of no concern to the beneficiary and the guarantor, this argument is extremely difficult and was, in my view, rightly rejected by the judge".

Counsel for the claimant submitted: -

i) On the true construction of the APGs, the claimant had guaranteed the obligation of HWS to make the repayment and not the obligation of anyone else. Once the obligation of HWS had disappeared (whether by transfer to Buyoung or for any other reason), the APGs no longer had any application;

ii) No demand in conformity with clause 17 of the shipbuilding contract could be made, as required by paragraph 4 of the APG, once the Builder was no longer HWS but Asia Heavy;

iii) Commercial Bank of Tasmania v Jones [1893] AC 313 decided that, where a debtor has been released by novation, the guarantor is discharged.

The Court of Appeal rejected all three of the arguments put forward on behalf of the claimant for the following reasons:

i) In accordance with Korean law, the claimant had six months after the transfer to Buyoung to object to the merger with Buyoung and the transfer of the contracts. However, the claimant did not take this opportunity. The APGs required a literal construction on the basis that they are to be operated against documents without regard to the underlying contract. The APGs were intended to be operated on the basis that no refund had occurred, rather than on the basis that HSW had failed to fulfill their obligation.

ii) Any payment under the APGs is to be made against documents and there is no requirement that any assertion in the documents is correct in law. The APGs simply required that the defendant certify that the demand was made in conformity with the underlying contract and that HWS had not made the refund. It did not matter that this might not be liable to make the refund or indeed that they may not be able to.

iii) The Commercial Bank of Tasmania case is an authority in relation to "see-to-it" guarantees in respect of which the guarantor can say that he is not liable if the principal debtor is no longer bound to pay. However, this authority did not assist the present claimant as questions relating to whether the debtor is liable under the underlying contract are irrelevant to on-demand guarantees (such as the APGs) where payment is to be made against documents.

The defendants were therefore entitled to repayment by the claimant insurer of the advance sums paid under the shipbuilding contracts.

Comment

The Court of Appeal emphasised that the intention of the URDG was that payment under a guarantee incorporating those Uniform Rules is to be made against documents without reference to the underlying contract. If the documents (in this case the demand) are in order, the guarantor must pay. Further, the Advance Payment Guarantees were intended to operate on the basis that no refund had occurred and not on the basis that HWS had failed to fulfil their obligation to make that refund.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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