Article

Topics: Injunction; Arbitration; Comity

Note: In accordance with a contract to build part of a road in Sudan, Progressive Constructions, Ltd. (Subcontractor/Applicant) posted a performance standby issued by JPMorgan Chase Bank, N.A. (Issuer) in the amount of US$3,575,975 in favor of The Louis Berger Group, Inc. (Contractor/Beneficiary). The standby undertook to pay Beneficiary "upon the presentation of a demand" [p1] by Beneficiary and it was agreed by the parties that it was subject to New York law. The contract provided that disputes were to be settled by arbitration in New Jersey.

In claiming that Subcontractor/Applicant defaulted on their agreement Contractor/Beneficiary expelled Subcontractor/Applicant from the construction site, prompting Subcontractor/Applicant to sue Contractor/Beneficiary in the Civil Court of Hyderabad, India, which issued an ex parte preliminary injunction barring Issuer from honouring the standby pending litigation. The Indian court later dismissed the case, citing their lack of jurisdiction because of the arbitration clause in the construction contract. On Applicant's appeal, a new preliminary injunction was issued pending the appeal. Applicant also initiated Arbitration in New Jersey.

When Beneficiary demanded payment on the standby, Issuer refused to honor because of the Indian court's injunction. Beneficiary then sued Issuer in the U.S. District Court for the Northern Distinct of Illinois for wrongful dishonor. Issuer moved to stay the U.S. action pending arbitration. The United States District Court for the Northern District of Illinois, Guzman, J., granted Issuer's motion to stay pending the conclusion of Arbitration in New Jersey, or the appeal in India (whichever is earlier).

The Judge noted that the US Federal Arbitration Act gives the court "discretion to stay nonarbitrable issues while arbitration proceedings are pending."[p1] The Judge was influenced by the risk of inconsistent rulings, which he described as "considerable". He stated that the

"Indian appellate court's order appears to enjoin [Issuer] from honoring the letter of credit. ... If this action proceeds before that injunction is lifted, [Issuer] could simultaneously be ordered by this Court to honor the letter of credit and barred from doing so by the Indian appellate court...Staying this action would forestall this untenable result."[p2]

The Judge also noted that "[e]ven if the Indian court has no basis for enjoining [Issuer] from honouring the letter of credit, this action should be stayed pending the outcome of the New Jersey arbitration."[p2] While recognizing that the independence principle was applicable to the standby, the Judge indicated that Subcontractor/Applicant has asserted the "fraud exception" to the independence principle in its arbitration against [Contractor/Beneficiary]. If fraud is found, then [Issuer] has no obligation to honor the letter of credit...Under these circumstances, where the result of the arbitration may substantially resolve the issues in this case (i.e., whether [Issuer] should honor the letter of credit) and save the resources of the parties and the Court, a stay is warranted.[p2]

Contractor/Beneficiary contended that it was entitled to payment immediately under the LC. The Judge disagreed, stating "where, as here, there is a possibility of inconsistent judgments because there is a chance that [Issuer] need not honor the letter of credit".[P2]

Applicant moved to intervene pursuant to U.S. Federal Rule of Civil Procedure 24(a)(2). The Judge denied Applicant's motion, stating that Issuer, evidenced by Issuer's motion to stay this action until Applicant's claim is fully arbitrated, adequately represents Applicant's interest. Additionally, the Judge denied Applicant's alternative motion to intervene pursuant to Federal Rule of Civil Procedure 24(b) for lack of a common question of law or fact between Applicant and this action, noting that "[Applicant's] claims and defenses involve a construction contract to which [Issuer] is not a party."[p4]

Comments:

1. Comity. Why an Illinois court should defer to the injunction of an Indian court on honor of a standby subject to NY law is not made apparent by this decision. The possibility of conflicting judgment is not a sufficient explanation.

2. Arbitration. This decision is one of several in 2011 in which honor of a letter of credit was enjoined or an action for wrongful dishonor was stayed pending arbitration in the underlying transaction. There could be a situation in which a standby or demand guarantee was intended to be drawn on issuance of an arbitral award. Absent such a provision, however, any arbitration is separate from claims on the letter of credit and a complying drawing should only be interrupted for letter of credit fraud or abuse.

[JEB/jes]

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