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Commodity trader was entitled to injunctive relief to prevent fraudulent claim on performance bond

  • Legal Development 11 十二月 2020 11 十二月 2020
  • 英国和欧洲

  • 贸易与商品

English courts and the Autonomy Principle in Letters of Credit and Performance Bonds

Commodity trader was entitled to injunctive relief to prevent fraudulent claim on performance bond

English courts have followed a consistent line over many decades in upholding the independence of bank guarantees and letters of credit – the so called “autonomy principle”. Put simply, save in the event of clear fraud known to the beneficiary when making its claim, a court will not intervene to prevent a demand or claim under a letter of credit or an “on demand” bank guarantee or performance bond even where the applicant complains that the beneficiary rather than the applicant is in breach of the substantive terms of the underlying contract.

There have, however, been some signs of movement by the courts in recent years, recognizing in some court decisions that there may be a point where a beneficiary’s actions in claiming under an independent bank guarantee might stray over the boundary between mere breach of contract and an act which amounts to bad faith or fraud. The main problem faced by an applicant in asking a court to intervene is that the wording of the performance bond or bank guarantee will often not require the beneficiary, in making a claim, to make any representation to the issuer of the bond about the underlying contract and any allegation of breach of contract under it.

Beneficiary statements and “honest belief”

The presentation of a beneficiary statement containing a representation of fact that a beneficiary knows to be untrue – for example “the applicant is in breach of the contract” or ”the applicant has failed to pay USD [X]” is actually easy to disprove if untrue and, if disproved, the applicant might then challenge a demand under the bond  on the basis that the demand was fraudulent to the knowledge of the beneficiary or that where the demand required the beneficiary to state its belief as to a set of facts the beneficiary could not reasonably have formed an honest belief as to the facts stated . There is extensive and developing case law covering the question of what a beneficiary can honestly say in a beneficiary statement believing it to be true (see for a recent example in relation to a standby letter of credit  Petrosaudi Oil Services (Venezuela) Ltd v Novo Banco SA and Others [2017] EWCA Civ 32).

Local bank guarantees (often issued under the local law) may instead only require a “simple demand” rather than forcing the beneficiary into making a statement about the contract performance which is capable of being challenged in court.

The problem with autonomy – Edward Owen Engineering

In Edward Owen Engineering Ltd v Barclays Bank International Ltd  [1977] 3 W.L.R. 764, the classic example of the English court approach to claims under performance bonds was set out by Lord Denning, then sitting in the Court of Appeal. Edward Owen had tendered for a project supplying large industrial greenhouses to a Libyan company. As part of the contract they had been required to establish a performance bond issued locally in Libya through Barclays Bank and its Libyan correspondent bank, Umma Bank.  The counter-guarantee issued by Barclays in favour of Umma Bank which was issuing the performance bond was “payable on demand without proof or conditions”. The Libyan buyer in turn was required to establish a confirmed letter of credit in favour of Edward Owen to pay for the greenhouses.

The letter of credit was issued by the Libyan issuing bank but was expressly stated to be incapable of being confirmed and as such was unacceptable to Edward Owen. The contract shipment could not take place without it and Edward Owen advised the Libyan buyers that they would not be shipping the goods under the contract. However, the coming into effect of the performance bond put in place at the request of Edward Owen was not contractually dependent on the issuance of the letter of credit – to their considerable cost.

What followed was that the Libyan buyers claimed on the local performance bond and Umma Bank in turn claimed under the counter-guarantee provided to them by Barclays Bank. Edward Owen then asked the English court to prevent Barclays Bank form honouring its counter-guarantee. The court initially granted an injunction to prevent payment by Barclays Bank on an ex parte basis but the order was discharged when the parties returned to hear the matter in person before the judge. On appeal by Edward Owen to the Court of Appeal, Lord Denning recognised the misfortune facing the British supplier but said that court had no option but to dismiss the appeal:

“All this leads to the conclusion that the performance guarantee stands on a similar footing to a letter of credit. A bank which gives a performance guarantee must honour that guarantee according to its terms. It is not concerned in the least with the relations between the supplier and the customer; nor with the question whether the supplier has performed his contracted obligation or not; nor with the question whether the supplier is in default or not. The bank must pay according to its guarantee, on demand, if so stipulated, without proof or conditions. The only exception is when there is a clear fraud of which the bank has notice.”

The lessons of Edward Owen

The facts of the Edward Owen case have played out many times since. It is a hard luck story that has been told by others in international trade. Overseas buyers, which are often state enterprises which award contracts under a strict tender process, typically insist upon performance bonds being issued under their own local law. They are aware that inclusion of any requirement to “show cause” in making a demand may potentially expose them to the risk of intervention by the courts to prevent payment and will often require that their local law and jurisdiction should apply to reduce that very risk. 

Exporters, in turn, have come to appreciate that they must apply for the issue of such instruments with their eyes open to the potential for an unfair call – and the limited options that may arise to prevent abuse – particularly where the local performance bond lies at the end of a string of bank counter-guarantees leaving them contractually distant from the local performance bond and any demand under it. Proving a “clear fraud” in circumstances where the beneficiary is only required to say “pay me” to trigger the payment obligation of the various banks in the chain is in practice impossible.

Position where the contract expressly prohibits demands under the guarantee in the absence of breach of contract

If the contract expressly states however that a claim cannot be made unless certain events have occurred then the position is different (see Simon Carves Ltd v. Ensus UK Ltd [2011] EWHC 657 (TCC)). However beneficiaries are increasingly unlikely to permit such clauses to be included.

The ETC injunction

In the recent case of  ETC Export Trading Co SA and another) v (1) APLAS Importer ((2) Berhan Bank SC [2020] EWHC 3229 (QB) a performance guarantee was  issued in Ethiopia by Berhan Bank, an Ethiopian Bank, pursuant to a sale contract for the supply of milling wheat by ETC to APLAS, for delivery to Ethiopia. The goods were scheduled to be delivered by the ETC in July and August and it was a condition precedent to ETC’s delivery obligation that the buyers, APLAS, would arrange through the Government of Ethiopia for the issuance of a deferred payment letter of credit in favour of ETC by the Commercial Bank of Ethiopia.

ETC, in turn, was required to establish a performance guarantee in favour of APLAS which could be called on by APLAS in the event that the seller failed to ship the goods. ETC accomplished this, instructing BNP Paribas, who in turn counter-guaranteed Commerzbank, to arrange the issuance by Berhan Bank of a local bank guarantee in Ethiopia but subject (at the insistence of ETC) to English law and jurisdiction. The local guarantee was duly issued by Berhan Bank.

ETC obtained from APLAS, in consideration of entering into the sale contract and its other obligations, a collateral written undertaking from APLAS that “it will not invoke the ETC Guarantee, or make any demands in terms of the ETC Guarantee, against ETC, unless such demand is based on a breach of the [sale agreement]”.

However, the letter of credit to be opened on behalf of the buyers was never established and the sale contract, as a result, remains incapable of performance. Despite the apparent frustration of the performance of the contract by the failure of the APLAS to establish the letter of credit, Berhan Bank advised Commerzbank that it was making a claim under Commerzbank’s counter-guarantee despite APLAS’ express undertaking not to make a claim against Berhan Bank under the local performance bond other than in circumstances of a breach of the sale contract by ETC.

Commerzbank in turn advised BNP Paribas of the claim. BNP Paribas advised ETC that, unless action was taken swiftly to prevent it doing so it would have no option but to pay Commerzbank under its counter-guarantee who were on the verge of paying Berhan Bank under their counter-guarantee. APLAS’ attempt to claim under the performance bond, thereby triggering claims up the string of bank guarantees, appeared to be in direct breach of the written undertaking given at the time of the sale contract and, APLAS knew that their claim under the performance bond was being made them in the knowledge that the performance bond had only been issued in reliance upon their written undertaking not to make a claim in these circumstances.

ETC had to act quickly because once payment had been made through the banking chain any attempt to ask the court to intervene would likely be futile. Email correspondence with APLAS and Berhan produced a confused picture. Berhan suggested that its real intention was to seek an extension of the counter-guarantee’s expiry. APLAS themselves denied any knowledge of a claim being made. This left ETC in a difficult position. ETC therefore applied to the court without notice being given to either to APLAS or Berhan Bank, on an urgent basis, to seek an injunction to prevent the defendants (which included both APLAS and Berhan Bank) from respectively making and acting upon the alleged demand to Berhan made by APLAS or making any demand on the counter-guarantee.

It is the duty of a party to English proceedings when seeking ex parte injunctive relief to address before the judge any arguments which the absent respondent/defendant might have made had it been present.  The court granted the injunction and  the report of the case shows how the applicant and the court negotiated the issues around the granting of injunctive relief involving an independent bank guarantee and potential legal issues arising under the contract.

The buyer and seller had contracted on the well-established terms of the Grain and Feed Trade Association (GAFTA) Contract No 49 and GAFTA’s Arbitration Rules No 125. The dispute resolution clause in the standard form contract 49 required that:

 “Any and all disputes arising out of or under this contract or any claim regarding the interpretation or  execution of this contract shall be determined by arbitration in accordance with the GAFTA Arbitration Rules, No  125, in the edition current at the date of this contract…Neither party hereto, nor any persons claiming under either of them shall bring any action or other legal  proceedings against the other in respect of any such dispute, or claim until such dispute or claim shall first have  been heard and determined by the arbitrator(s) or a board of appeal, as the case may be, in accordance with the  Arbitration Rules and it is expressly agreed and declared that the obtaining of an award from the arbitrator(s) or  board of appeal, as the case may be, shall be a condition precedent to the right of either party hereto or of any  persons claiming under either of them to bring any action or other legal proceedings against the other of them in  respect of any such dispute or claim.”

The court’s decision in ETC and lessons learned

Urgency/Ex parte basis of application

Although the written undertaking from APLAS did not contain a jurisdiction clause, the judge agreed that it was properly arguable that it was given in support of the performance guarantee which in turn specified the English court. The court recognized the urgency and was prepared to entertain the application on an ex parte basis.

Effect of “Scott v Avery” clause in GAFTA contract

The dispute resolution clause in GAFTA and other trade contracts contains a so-called “Scott v Avery” clause designed to limit the parties’ access to certain forms of judicial relief in favour of settlement of their disputes through the arbitral process prescribed by the Arbitration Rules. In B v. S [2011] EWHC 691 (Comm) the court had considered the same clause in the context of a freezing injunction sought by one contract party against the other. Mr Justice Flaux, as he then was, dismissed the injunction which he said was excluded by the wording of the clause as the claim for freezing injunction was directly connected to securing a claim arising under the contract.

However in the ETC case, the judge took the view that it was properly arguable that any claim in respect of the performance guarantee does not “arise out of or under” the sale contract and that the clause could not, in any event, have been intended to contract out of the right to seek relief for what appeared to the judge to be a fraud.

Basis of granting injunctive relief

As against APLAS (in respect of whom it was not clear whether a claim had in fact been put forward under the performance bond) the judge held that on the basis of Simon Carves ETC did not have to prove fraud by APLAS but merely that a demand would be in breach of the written undertaking and it was clear that a demand against the performance bond would indeed be in breach. An injunction was granted against APLAS to enforce their written undertaking.  As against Berhan Bank, there was a real risk that Berhan Bank was taking instructions from someone other than APLAS in relation to the call under the counter-guarantee and it was right therefore to restrain Berhan Bank from claiming under the counter-guarantee issued by Commerzbank or paying out the money secured by the counter-guarantee to APLAS or anyone else. An injunction was granted against Berhan on that basis.

Lesson for traders and bankers

No news has yet emerged of any challenge to the ex parte order and it will be interesting to see if the order is opposed. However, the judge’s rationale for hearing the application,  the court’s decision and the usefulness of the contractual device of securing a written undertaking as to the beneficiary’s future conduct in relation to the performance bond will however be noted by traders, bankers and practitioners.

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