It is well recognised that the purpose of On Demand Bonds is to give the beneficiary an irrevocable right to be paid. The only exception to this is if a fraudulent demand is made.
In the case of Wuhan Guoyu Logistics Group Co Ltd v Emporiki Bank of Greece SA [2013] EWCA Civ 1679, however, the English Court of Appeal was asked to consider whether the unusual circumstances of the case altered the position.
Facts
A Bond Call was made in June 2011. It was accepted this was made in good faith. In December 2012, Emporiki Bank paid USD10.5m into an escrow account. The underlying dispute between the Wuhan and another party was being dealt with in an arbitration and there was a separate court action in connection with the Bond.
By May 2013, the arbitration award had become final and the separate court action concluded. Emporiki Bank agreed to release the money in the escrow account to Wuhan's solicitors but sought an order from the court that the money was held on trust.
That is highly unusual in that the bank were arguing that although they had been unable to avoid payment being made, they still had a right to the money on the basis of the claimed trust.
Arguments The basis for this argument was that Wuhan required to state in its demand for payment that the buyer was in default of a payment obligation. It did so in June 2011 and that was a statement made in good faith at the time. The arbitration which followed though, found that this was not in fact the case. This meant at the time payment was made in May 2013, Wuhan knew this was money to which it was not entitled. That knowledge is what was said to give rise to a trust on receipt of the money.
Decision
The Court of Appeal firmly rejected this. It stated that "it is only the very unusual facts of this case which have enabled some plausibility to be given to what is essentially a heretical proposition which, if accepted, would be subversive of the basis upon which international trade is routinely financed."
The court's analysis was that on making the valid demand in June 2011, Wuhan acquired a "complete and immediately enforceable cause of action" against the bank.
The bank's obligation at that time was to pay immediately. Thereafter, the seller quite simply was entitled to payment. It was not relevant that it was subsequently decided through the arbitration that the demand was made on an incorrect basis. The relevant time was the time the demand was made. The demand was made in good faith. Had the bank paid when it should have, the arguments it ran in this action would not have been available to it. In other words "once due it remained due".
Where a party is over compensated through a bond call, there is an obligation between the parties to the underlying contract that the beneficiary will account to the other party for any overpayment made as a result of a successful bond call. That in itself was said to be inconsistent with a suggestion that Wuhan held the money on trust for the bank. They could not at the same time be holding money on trust for the bank and also be obliged to account to the other party to the underlying contract for it.
Comment
The commercial purpose behind on demand bonds supports such an approach. They are meant to be stand alone contracts, independent of any disputes in the underlying contract between the parties.
The bank will usually be protected (except in cases of insolvency) through a counter indemnity so that at the end of the day, following an accounting exercise, the correct payments will have been made and received. It therefore comes down to a matter of cash flow and which party is bearing the risk of an ultimate inability to pay or repay where there has been an overpayment.
Disclaimer
The material contained in this article is of the nature of general comment only and does not give advice on any particular matter. Recipients should not act on the basis of the information in this e-update without taking appropriate professional advice upon their own particular circumstances.
