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Note: Dedert Corporation (Applicant/Contractor) agreed to design, construct and install a Swiss Combi ecoDry system for United Dalby Bio-Refinery (Principal/Beneficiary) at its refinery in Queensland, Australia for USD 5,423,400.00. Pursuant to the contract and to assure performance, Applicant/Contractor obtained a “bank guarantee” in favor of Principal/Beneficiary from Danske Bank Corporation of Copenhagen Denmark (Issuer) for USD 542,430.00.Under its terms, Principal/Beneficiary could make a demand on the guarantee by confirming that Applicant/Contractor had breached its contractual obligations; that no less than 14 days had elapsed since Principal/Beneficiary notified Applicant/Contractor of the breach; and that Principal/Beneficiary had suffered a loss. Subsequent to the installation of the ecoDry system, Principal/Beneficiary alleged various defects valued USD 866,354.24 and gave written notice to Applicant/Contractor of its intent to draw on the bank guarantee.

Applicant/Contractor applied to the Trial Division, Supreme Court of Victoria for an injunction to restrain Principal/Beneficiary from making a demand on the bank guarantee. The trial judge denied Applicant/Contractor’s application, and Applicant/Contractor appealed. On appeal, the Supreme Court of Victoria, Court of Appeal, Kaye, JA., reversed, in a separate opinion with Whelan, JA., dissenting, granting an injunction and Applicant/Contractor’s application for leave to appeal.

The trial judge had found that “the parties did not intend to limit recourse to the security solely to circumstances where a ‘party remains unpaid after the time for payment’”. The Judge further reasoned that “[clause] 46.3, when construed with [clause] 5.2, had the effect that the contract did not explicitly preclude recourse to the security in respect of bona fide claims by the respondent for amounts which may become due from the Contractor to the Principal for breach of contract.” The trial judge concluded that “the ‘trigger’ to payment under the guarantee was not that an amount should remain unpaid after the time for payment; rather the guarantee provided that a call could be made on it upon the [Principal/Beneficiary’s] written confirmation that the [Applicant/Contractor] had not complied with its contractual obligations.”

On appeal, Applicant/Contractor argued that the trial judge erred in three respects, namely that the Judge (1) erred in law by construing the contract to mean that the negative stipulation in clause 5.2 did not preclude Principal/Beneficiary from having recourse to the guarantee where it had a claim for unliquidated damages for breach of contract;(2) erred by construing clause 46.3 as constituting a stand-alone right of recourse to the bank guarantee and ruling the clause supported a conclusion that the contract permitted recourse for claims which may become due for breach of contract; and(3)erred in using the terms of the bank guarantee to construe the terms of the contract.

Clause 5.2 of the contract provided “Security shall be subject to recourse by a party who remains unpaid after the time for payment where at least 5 days have elapsed since that party notified the other party of intention to have recourse.”Applicant/Contractor argued that Principal/Beneficiary’s written notice of intent to draw simply asserted a claim by Principal/Beneficiary for unliquidated damages for breach of contract and not that an amount was due and payable, and was also unpaid, under contract, or that the time for payment had passed. Applicant/Contractor claimed the letter did not come within the scope of clause 5.2.

Clause 46.3 of the contract stated the “parties agree that to the extent that the Contract provides for the total of: (a) all retention monies (if any) withheld by the Principal; and (b) all security held by the Principal…after practical completion of the Works has been reached, the amount of the excess does not relate to the need to correct defects in the Works under the contract identified in the defects liability period, but relates to the recovery by the Principal of any monies that may become payable to the Principal by the Contractor under or in connection with the Contract, the Contractor’s performance of the Contract or any breach of the Contract by the Contractor.”

The appellate court, Kaye, JA., noted that it would be unusual to enjoin a party from recourse to a bank guarantee absent a showing of fraud, unconscionability, or that a party breached a contractual promise not to call on a guarantee. The appellate court found no evidence of fraud or unconscionability, and considered the critical question to be whether Principal/Beneficiary’s asserted losses constituted monies which “remain unpaid after the time for payment” as specified in clause 5.2.In determining whether the losses asserted by Principal/Beneficiary came within the meaning of clause 5.2,the appellate court ruled that the ordinary meaning of monies “unpaid after the time of payment” are monies which “have been due and payable, but have not been paid”, and not unliquidated damages resulting from a breach of contract.

In response to Applicant/Contractor’s third assertion that the trial judge had erred in using the terms of the bank guarantee to construe the terms of the contract, the Judge agreed that it would be improper to do so; however, he ultimately found that the trial judge reached his conclusions using only the terms of the contract itself, and rejected Applicant/Contractor’s third argument. The Judge ultimately granted leave to appeal and found that Applicant/Contractor was entitled to an injunction restraining Principal/Beneficiary from making a demand on the guarantee.

In a dissenting opinion, Whelan, JA., suggested that no injunction should have been granted. Weighing the balance of convenience, the Judge found that the detriment in granting the injunction, i.e. Beneficiary losing the benefit of the security, far outweighed the little harm Applicant/Contractor would suffer if no injunction were granted.

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