Article

Factual Summary:

Pursuant to the terms of a contract to construct a hardware store, the applicant obtained a performance bond for which the beneficiary paid $25,000. The terms of the bond incorporated the construction contract which permitted termination for breach and further provided that if the applicant was in breach, the bond issuer would have the right to a seven day notice prior to the termination of the applicant and the right to complete the project or obtain bids for its completion. The applicant then obtained a $30,000 standby for collateral on the bond.

After suffering setbacks in the completion date of the project, the beneficiary terminated the applicant for failure to provide enough workers to timely complete the project. The beneficiary then hired another contractor to finish the project.

After hiring the replacement contractor, the beneficiary contacted the bond issuer by letter, informed it of the termination, and related that it was seeking bids from other contractors for the remaining work. The letter requested that the bond issuer contact the beneficiary's architect for details relating to the bidding and remaining work. When the bond issuer contacted the architect, over two and a half months later, the construction project had already been completed.

The applicant then filed suit against the beneficiary and bond issuer to recover for the work it had completed under the contract and for a declaration as to its rights and obligations under the bond. The beneficiary counter-sued applicant and cross-sued the bond issuer for breach of contract. In turn, the bond issuer sued the beneficiary for indemnification.

The trial court granted the applicant's motion for summary judgment on the bond issue and dismissed the claims of the other parties. Specifically the court found that the beneficiary had failed to properly and timely notify the bond issuer of the applicant's termination and had breached both the construction contract and the bond agreement when it hired the successor contractor. Accordingly, the court, in two separate orders, directed that the letter of credit funds be released to the applicant, even in the event of an appeal. The bond issuer and the beneficiary appealed those orders.

Legal Analysis:

1. Collateral: Release: The beneficiary argued that a material issue of fact existed as to whether there had been a breach of the construction and bond agreements. Specifically the beneficiary argued that the applicant breached the contract, and that its notice was timely and the bond issuer had failed to respond to it. The court rejected these arguments by noting that none of them were relevant to the fact that the beneficiary had breached the bond provisions concerning notice prior to termination and the hiring of a successor contractor. The court found this breach to be material, as the bond issuer would not have issued the bonds if it had no such mechanism to protect its interests. While the facts could have supported the position that, by its delay, the bond issuer had waived its right to deny coverage under the bond, the court found that the beneficiary had failed to specifically plead the affirmative defense. Accordingly, the court affirmed the ruling that the bond was null and void.

The court next reversed the trial court's order directing the release of the letter of credit funds. The court noted that once an appeal is filed, the trial court is divested of jurisdiction. Such an order, which required an act to be performed after the filing of an appeal had to be reversed and vacated.

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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.