We have looked before at legal challenges to the calling of (making demand on) an on-demand bond given pursuant to a construction contract. This is particularly relevant in the Middle East market where on-demand security is the preferred form (as opposed to a default bond) and (in my observation at least) owners are more ready to call bonds, relative to other regions. 

A recent court judgement has been interesting in its consideration of some arguments against allowing a bond call, that we haven’t looked at before. And without wanting to spoil the ending, this judgment is a useful reminder of two hard facts:

• On-demand bonds will generally (almost always in English Law) be enforced; and

• An on-demand bond is a free-standing instrument. It is not to be interpreted with reference to the underlying contract or operated with reference to issues that have arisen under that contract. That’s really the point of them.

So yes, this is a tale of another contractor’s doomed effort to avoid a bond call. It went like this:

Northern Gateway FEC (No. 7) Limited (Northern) engaged CR Construction (UK) Company Limited (CR) to design and construct a mixed-use development in Manchester, England. Pursuant to that contract, CR procured an on-demand performance bond from Barclays Bank (the Bank) in favour of Northern. Things didn’t go well. Northern held CR responsible for late completion of various parts of the works. They sought delay liquidated damages and eventually terminated the contract for default. They then made a call on the bond for the sum of the delay liquidated damages, they said, had accrued.

CR had previously made claims for time extensions, which had been refused. CR disputed that refusal and when they heard of Northern’s intended bond call, they applied to the court for an interim injunction against the Bank to restrain the payment out. Their arguments included:

• There was no underlying liability for the delay liquidated damages, due to their (refused) entitlement to time extensions; 

• In any event, Northern held retentions in excess of the sum demanded under the bond; and

• The termination by CR amounted to a repudiatory breach of contract, by reason of which Northern were prohibited from relying on any term of that contract.

The Technology and Construction Court (England) Judge of course went to the words in the bond, which said at cl.5.3:

“Any demand made by the Employer under this Deed must be accompanied by either:

(a) What purports to be a certified copy of (i) a judgment of a court; (ii) an arbitrator’s award; or (iii) a decision of an adjudicator, in each case against the Contractor in favour of the Employer under the Construction Contract; or

(b) A certificate from the Employer that is purported to be countersigned by the Employer’s Agent, purportedly based on the non-performance of the Contractor, to confirm the Contractor’s breach.”

Clearly this is on-demand security. Yes, the beneficiary could seek a court judgment or other award, as would usually be required to back up a call on a default bond, but that’s not needed. A certificate from the beneficiary itself will suffice. Interestingly, the judge discussed the intention behind the employer’s agent’s countersignature, as importing a degree of independent verification. I agree it does but we should note anyway that the requirement is only to show a purported countersignature, based on a purported non-performance by the contractor. The Bank was not required to enquire as to the veracity of anything that was apparent on the face of the certificate.

As to the alleged repudiatory breach, the judge took note that the bond provided at cl.2.2:

“No termination of the Construction Contract, and no termination of the Contractor’s employment under the Construction Contract, shall reduce the liability of the Surety under this Deed”

CR argued that this clause applied only to termination of the contract pursuant to its terms, and not to a termination arising from repudiatory breach. The judge didn’t agree, pointing out that “termination” is an ordinary word and that there is no reason to exclude one type of termination, that is, that arising from acceptance of a repudiatory breach. 

As we have seen before, a bond is not part of the underlying contract and there is no reason why it would co-terminate with that contract, with or without the words in cl.2.2. And even if Northern had excluded itself from any rights in the contract because of repudiatory breach, there is no obvious connection between that and its rights under the bond. 

The court confirmed the English Law position that on-demand security will generally be enforced in the absence of fraud of which the surety had notice. This also underlines the popularity of English Law bonds in the Middle East,

Unusually, CR proceeded only against the Bank, as surety, and did not attempt to restrain Northern directly from calling the bond. Because of the inherent strength of on-demand security, the more productive means of challenge is sometimes to scrutinise the beneficiary’s right, in the underlying contract, to call the bond.    

We are reminded again that on-demand bonds mean what they say.

* Dubai-based Stuart Jordan is the Global Head of Construction for Baker Botts, a leading international law firm. He has extensive experience in the Middle East, Russia and the UK.