Article

Factual Summary: Buyer/Applicant authorised Guarantor to provide a "bankers' undertaking" to Seller/Beneficiary to secure a credit facility for the purchase of building products. After Seller/ Beneficiary supplied the products, Seller/Beneficiary as "favouree" demanded for an amount in excess of AU$1 million on the Guarantor.

Applicant obtained an interim injunction and sought to have it continued until a full trial. The court continued the injunction against Beneficiary and Guarantor.

Legal Analysis:

Forrest, J, stated that it is the tripartite nature of the relationship that places this case out of the norm and described the position regarding the undertaking in these terms:

Courts rarely interfere with bankers' undertakings, especially those that are, on their face, unconditional. The nub of [Applicant's] case is that [Beneficiary] has acted unconscionably or fraudulently in seeking to enforce the undertaking.

Applicant agreed that the wording of the guarantee was an independent undertaking, but that the parties intended to enter into a conditional undertaking whose intended purpose was only to provide security for interim payments for products provided by Beneficiary's Customer to Applicant. Applicant contended that Beneficiary and Beneficiary's Customer knew that it was only prepared to authorise a bankers' undertaking limited to the supply of goods and, notwithstanding this knowledge, Beneficiary seeks to recover far more than any obligation Applicant has pursuant to its agreement with Beneficiary's Customer.

Between July 2008 and December 2008, there were multiple examples of email correspondence demonstrating Applicant's concern and belief that concern that an unrestricted security could simply be claimed upon even where the terms of the agreement had been complied with. Beneficiary's Customer wrote to Applicant in August 2008:

Our understanding is that the bank guarantee will only be utilised on active purchase orders, which we are happy to stipulate is limited, to active initial stock orders. Our intent here is not to draw down on the bank guarantee prior to the expiry of the negotiated credit term, i.e. 60 days after delivery, rather than to put in place a security against the purchase order.

Applicant repeated its view after execution of all documents. Beneficiary was aware of Applicant's concerns about the unconditional undertaking or guarantee. Applicant also communicated its concern over the unrestricted bank guarantee to Guarantor. It specifically referred to the contents of the distribution agreement.

On 12 December 2008 the undertaking was redrawn and directed to Beneficiary as the favouree and is expressed in the following terms:

In consideration of the favouree accepting this undertaking for the purpose of trade facilities established by [Beneficiary] to [Beneficiary's Customer] for importing of stock order for new [Beneficiary's Customer] product [Guarantor] unconditionally undertakes to pay on demand any amount or amounts which may from time to time be demanded in writing purporting to be signed by or on behalf of the favouree, up to a maximum aggregate sum of $1,488,155.63 (the amount).

Payment of the amount or any part thereof will be made by the bank to the favouree without reference to the customer and regardless of any notice from the customer of the bank not to pay any amount. (Emphasis added)

[T]his undertaking is unconditional and critically it makes no reference to the distribution agreement or supply of products. ... [I]t is for "the purpose of trade facilities", which expression is undefined.

On 21 September 2009, Beneficiary wrote to Guarantor in the following terms:

RE: Bank guarantee issued 12 December 2008 for AUD1,488,155.63 details as follows: Favouree: Bendigo and Adelaide Bank Limited Customer: Board Solutions Australia Pty Ltd

Expiry: Nil

As per our swift ................ today, we claim AUD1,010,866.92 under the above guarantee as default for payment under trade facility established by Bendigo and Adelaide Bank Limited to Arden Way Pty Ltd. In reimbursement please remit proceeds to the International Trade Department, attention John Spina.

At the time of the demand, Applicant was not, and had not been, in default of payments for orders placed with Beneficiary's Customer.

Independent Undertaking; Fraud; Unconscionability:

On the one hand, Beneficiary contended that the undertaking was, effectively, "an unconditional promissory note payable on demand and, once called upon, no issue arises concerning [Guarantor's] obligation to pay".

On the other hand, the communications and underlying agreements demonstrate the parties' belief that the undertaking would only be used in specific circumstances; that is, it was "conditional".

Beneficiary relied upon the High Court of Australia "seminal decision" of Wood Hall Limited v. Pipeline Authority [1979] HCA 21 as to the construction of unconditional bankers' guarantees:

By each of the bank guarantees, the Bank 'unconditionally' undertakes 'to pay on demand' the sum demanded up to the limit specified in the bank guarantee. To hold that the bank guarantees are conditional upon the making of a demand that conforms to the requirements of the contract between the Authority and the contractor would of course be quite inconsistent with the express statement in the bank guarantees that the undertaking of the Bank is unconditional. To hold that the Bank should not pay on receiving a demand, but should be bound to inquire into the rights of the Authority and the contractor under a contract to which the Bank was not a party would be to depart from the ordinary meaning of the undertaking that the Bank is to pay on demand. It would be contrary to the settled rules governing the implication of terms in contracts to imply provisions that would contradict the ordinary meaning of the words of the bank guarantees in this way.

However, Forrest J also referred to Olex Focas Pty Ltd v. Skodaexport Co Ltd, [1998] 3 VR 380 (Olex Focas), quoting Batt J:

Now in Victoria as in England, that law is clear. The principle is clearly established that payment by a bank and a demand therefore by a beneficiary under an unconditional performance bond or guarantee, as under a confirmed irrevocable letter of credit, will not be restrained except in a clear case of fraud, of which the bank is clearly aware at the time of, probably, the proposed payment or in the case of forgery of documents (which is probably applicable only to letters of credit) or perhaps in the case of illegality of the underlying contract ...

Forrest J stated that both these decisions are authority for the proposition that payment on an unconditional bankers' undertaking or guarantee will not be restrained under the general law unless exceptional circumstances are demonstrated. His Honour further stated:

The starting point is to ask rhetorically why would [Applicant] have authorised its banker to give an unconditional undertaking of the overdraft facility of [Beneficiary's Customer], given the terms of the distribution agreement and the contents of the emails. ... It is simply inconceivable that it intended to. Its clear intention was that any security be linked to the negative stipulations in the distribution agreement which would render it liable only in the event of default under the terms of that agreement. ...

[B]oth [Beneficiary] and [Beneficiary's Customer] were aware of [Applicant's] insistence throughout the course of negotiations that the guarantee be linked to the distribution agreement and compliance with its terms. ...

Notwithstanding [senior manager in Beneficiary's international trade division] knowledge of [Applicant's] concerns about an unconditional guarantee, he proceeded to formulate an unconditional undertaking of the trade facility ... .

It is also arguable that [Beneficiary] failed to disclose to [Applicant] its interest in securing an unconditional guarantee (in the form of security for the trade facility), as opposed to a guarantee conditional upon compliance with the provisions of the distribution agreement ... .

Forrest J stated that he was not dissuaded by the fact that, having received the unconditional guarantee, the parties did nothing to adjust its terms in the ensuing months. "One feasible explanation is that it was perceived by [Applicant] that the email correspondence ... had resolved the issue, and that the undertaking was necessarily linked to the terms of the distribution agreement ... it is patent that it knew about (the) concern about an unconditional guarantee."

Forrest J did not regard the actions as fraudulent, and said "[a]ccordingly, a case cannot be made out on the basis of the general law exceptions to the enforcement of a bankers' undertaking as set out by Batt J in Olex Focas." However, Forrest J accepted the unconscionability exception as espoused on Olex Focas and explained in Clough Engineering Ltd v. Oil and Natural Gas Corporation Ltd [2008] FCAFC 136 as settled, quoting: "The party in whose favour the performance bank guarantee has been given may be enjoined from acting unconscionably in contravention of s 51AA of the TPA [Australian Trade Practices Act 1974 (Cth)] ... ."

Section 51AA(1) provides: "A corporation must not, in trade or commerce, engage in conduct that is unconscionable within the meaning of the unwritten law, from time to time, of the States and Territories." A breach of this provision gives the court broad discretional remedies, including restraining orders.

Section 51AC of the TPA also deals with unconscionable conduct and extends the provisions of the Act to business transactions involving the supply to or acquisition of goods or services of no more than $10 million except in the case of a listed public company. It has a broader application than the general law concept of unconscionability, but still requires the impugned conduct to be unconscionable.

Interlocutory Injunction:

The applicable principles for the grant of an interlocutory injunction:

(a) A serious question to be tried - proof, prima facie, a sufficient likelihood of success to justify, in the circumstances, the preservation of the status quo pending trial.

(b) Injury must be one for which damages will not suffice as an adequate remedy.

(c) The balance of convenience must favour the granting of an injunction.

(d) Course which carries lower risk of injustice if it should turn out to have been wrong.

Forrest J concluded the conduct within this case was arguably:

Given [Beneficiary's] knowledge of [Applicant's] concerns about an unconditional guarantee when combined with the need to have security for the trade facility and [Beneficiary's Customer] implicit affirmation (of email statements) then there is, in my view, a case to be made out against both [Beneficiary's Customer] and [Beneficiary] on the basis of a potential breach of (unconscionability legislation within Australia).

Notwithstanding the unconditional nature of the undertaking, I think that, in the circumstances of this case, there is a real question regarding its proper construction in the light of the distribution agreement, the knowledge of [Beneficiary] and (Arden Way) and the correspondence between the parties. Again I emphasise the unusual nature of the circumstances surrounding this undertaking being entered into ... In summary, and for the reasons I have endeavoured to set out, I am persuaded that [Applicant] has established that there is a serious issue to be tried in relation to its claim against [Beneficiary] and [Beneficiary's Customer].

Forrest J added that there was a "powerful argument for preserving the status quo until trial". Additional factors included the unfairness for [Applicant] to repay to Guarantor the full amount of the undertaking, as well as for it to make ongoing payments in relation to the delivery of the stock and the necessary reduction of capital in such a large amount will cause substantial difficulties for Applicant in its commercial operations.

Comments by Dr. Davidson:

1. Interlocutory Remedy and Status Quo: It must always be remembered that courts are more willing to provide a remedy at an interlocutory stage, to provide an opportunity for the "aggrieved" party to present the case in full. However, courts should not extend remedies in such an unwieldy fashion. More importantly the court erred in suggesting that issuing an injunction would be to preserve the status quo. To preserve the status quo the court should preserve the integrity of the independent undertaking, which reflects the parties' deliberate and conscious execution of the documents.

2. Fraud and Unconscionability: The parties agreed that the wording of the bankers' undertaking as issued and amended was unconditional. However the Court looked behind the undertaking to consider the parties' intention and their conduct. This is common to determine whether a party's conduct may amount to fraud, but should not be extended to other circumstances. Only such egregious behaviour as moral turpitude ought be grounds to set aside such an undertaking. This case is another Australian case towards the unfortunate establishment of a potential unconscionability exception. If such an exception becomes established, hopefully it will be limited to the application of the Australian Trade Practices Act. Unfortunately that will be of little comfort for those who may find themselves before an Australian court.

3. Conditional Arrangement; Rectification: The appropriate course of action may be to regard the true construction of the arrangements among the various parties as a conditional undertaking. There was ample evidence before the court that the strict wording did not reflect the parties' agreement. Rectification is an equitable remedy where the court alter the words of an agreement to properly reflect the true parties' intention. It is rarely used and is usually limited to circumstances where there has been a true error in transcribing the terms of the agreement; for example the sale price agreed to is $10,000 but the written agreement states $100,000; most likely explained away as a typing error the seller cannot take advantage of such an error. The doctrine of Rectification has been limited to actual agreements made before the terms are reduced to writing and has no place where the parties subsequently agree to different terms. In the US the doctrine is known as Reformation. Nevertheless, it would be preferable to expand this principle, rather than adversely affect the independence principle of independent undertakings.

The correct approach should be to use the full force of the remedies available at law (contract, rectification, damages, remedies for misrepresentation and so forth) while preserving the central independent undertaking. These were sophisticated commercial parties who do not need consumer remedies.

* Dr. Alan Davidson is Senior Lecturer TC Beirne School of Law University of Queensland; Solicitor and Barrister Supreme Court of New South Wales and of the High Court of Australia. Dr. Davidson is a member of the DCW Editorial Advisory Board.

COPYRIGHT OF THE INSTITUTE OF INTERNATIONAL BANKING LAW & PRACTICE

The views expressed in this Case Summary are those of the Institute of International Banking Law and Practice and not necessarily those of ICC or the other partners in DC-PRO.