Challenging the Status Quo on Bond Calls

Introduction

In Shapoorji Pallonji and Company Private Ltd v Yumn Ltd [2021] EWHC 862 (Comm), the English Commercial Court dismissed an application for injunctive relief by a contractor aiming to prevent payment under an on-demand bond by rejecting the argument that the English Commercial Court should not apply established English law principles to the merits of the underlying claim because the matter was ultimately one for an ICC Emergency Arbitrator to decide on.

Facts

Yumn Ltd (the “Employer”) appointed Shapoorji Pallonji and Company Private Ltd (the “Contractor”) to design, construct and commission a peat fired power plant in Rwanda. The relevant agreements were all subject to English governing law and specified that disputes were to be resolved by ICC arbitration in Singapore.

In common with such contracts, the Contractor provided an on-demand performance bond to the value of approximately $32m to the Employer. The bond provider was Standard Chartered Bank (“SC”). The bond was subject to English governing law and the jurisdiction of the English courts. The bond contained a pre-agreed form of demand which contained standard pre-conditions on the Employer’s ability to call on the bond.

Construction of the power plant was scheduled to complete on 23 February 2020, however significant construction delays led to the Contractor making various applications for extensions of time which were ultimately not granted by the Employer, largely on the basis that the Contractor had failed to serve its claims within the time periods clearly specified in the contracts. On 24 February 2021, the Employer issued a demand for payment of delay liquidated damages from the Contractor. The Contractor did not comply with the demand and therefore (in accordance with its entitlement under the relevant contract), the Employer made a further demand for the full value of the performance bond from SC on 23 March 2021.

SC notified the Contractor of this demand on 26 March 2021. Accordingly, the Contractor communicated with the Employer to state that the Employer should withdraw the demand, on the alleged grounds that the demand was unlawful and essentially fraudulent. Simultaneously, the Contractor initiated the following dual proceedings in respect of the dispute:

• ICC Emergency Arbitrator proceedings with a view to obtaining an order requiring the Employer to suspend the current and any future demands; and
• An application to the English Commercial Court under section 44 of the Arbitration Act 1996, for a formal order compelling the Employer to withdraw its demand and cease making future demands pending the order of the ICC Emergency Arbitrator.

Decision

The English Commercial Court promptly dismissed the application by the Contractor for an order requiring the Employer to withdraw its demand. The English Commercial Court rejected the Contractor’s argument that it should not apply established principles on the merits of the application because the matter would ultimately be decided by the ICC Emergency Arbitrator, who would apply a different and potentially far less stringent approach to the request for injunctive relief by the Contractor.

The Contractor’s key argument before the English Commercial Court was that the issue regarding the validity of the Employer’s demand was a matter for the ICC Emergency Arbitrator under the ICC Rules. Accordingly, the Contractor argued that the English Commercial Court should grant orders preserving the status quo until the Emergency Arbitrator could decide on the issue (noting that an Emergency Arbitrator was likely to adopt a more lenient approach than that taken under English law on the issue of the withdrawal of the demand).

The English Commercial Court did not take issue with the assertion that an Emergency Arbitrator might adopt a “lighter” approach to that adopted by the English courts, however, given that English law was the governing law of both the relevant contracts and the performance bond, the applicable principles of substantive English law applied.

The English Commercial Court also noted that whilst the ICC Emergency Arbitrator might apply procedural rules and principles that are different from those applied by an English court, that did not necessarily mean that the arbitrator would come to a different conclusion (and hence grant the order sought by the Contractor), when an English court would not. Rather, the principles of English law governing the enforcement of on-demand bonds would apply irrespective of whether the issues are being considered by a court in England or by an international arbitrator.

The English Commercial Court also considered whether the Contractor was entitled to have the Employer withdraw its demand under English law. The English Commercial Court noted there was little prior authority on the principles governing applications to require the withdrawal of demands and that this meant that it had to rely on guidance from previous case law dealing with other bond enforcement situations.

The English Commercial Court was of the view that an English court could only grant an injunction for preventing a bond provider from complying with an otherwise undisputed valid demand, where it can be evidenced that:

• the beneficiary could not honestly have believed that it was entitled to make a demand for payment; and
• the bond provider was aware that the demand was fraudulent.

In relation to any applications to restrain a beneficiary (i.e. in this case, the Employer)  under a bond from making a demand or requiring them to withdraw a demand, the Contractor would need to satisfy the same test for fraud as against the bond provider.

The English Commercial Court was of the view that the Contractor had notably failed to satisfy these requirements. The English Commercial Court pointed out that the Contractor had failed to submit any credible evidence to challenge the Employer’s argument that the Contractor’s failure to comply with the notification requirements under the contracts had invalidated its claims to extension of time. This led to the view that ultimately, the underlying issue was not one related to fraud but one that was more akin to the subject matter of common delay disputes that occur regularly between employers and contractors.

Conclusion and Comment

The English Commercial Court’s refusal to preserve the status quo pending emergency arbitration leads to a number of important conclusions for stakeholders in international infrastructure and development transactions that are supported by performance security of the type referred to in this decision:

1. The use of clear, simple and unambiguous drafting remains an important factor in the preparation of bonds and associated on-demand instruments. The English Commercial Court’s decision to reject the Contractor’s application was very much supported by the fact that there were no grounds to challenge the validity of the written demand itself (notwithstanding the court’s ensuing examination of the rejected fraud allegation by the Contractor), based on its drafting as it contained a clear procedure allowing the Employer to make a demand under the bond in the intended manner (i.e. to recover the value of delay liquidated damages). This is important not least because in our experience we still often deal with forms of bonds and demands that have been prepared by institutions and counterparties that can (mostly inadvertently) lead to multiple interpretations as to the pre-conditions that need to be satisfied prior to the demand being valid. This will be welcome news for employers and lenders, who often insist that the language in on-demand instruments remain as simple and unequivocal as possible to avoid potential disputes as to the validity of a given claim. This decision does much to justify their insistence on this point.
2. The English Commercial Court’s rejection of the Contractor’s arguments regarding the roles of an English court and an ICC Emergency Arbitrator are also of significance. If the English Commercial Court had sided with the Contractor’s view, then it would have potentially opened the door to applicants being able to readily seek injunctive relief from an English court, whilst secure in the knowledge that the underlying merits of the injunction application would be finally determined by an ICC Emergency Arbitrator (in arguably a less rigorous manner than an English court would undertake). The decision has therefore done much to potentially prevent the English courts being used as a “weapon” in the armoury of applicants who wish to prevent an otherwise valid bond call, in the hope of having their otherwise weak claim concluded in their favour in a more lenient forum.
3. The English Commercial Court’s view that principles of English law should apply irrespective of whether the application was examined by an international ICC Emergency Arbitrator or a court in England is also of importance. The decision suggests that an ICC Emergency Arbitrator has to apply the same tests that an English court would otherwise apply. Such an approach is likely to support future requests by lenders and employers for the application of English law principles by ICC Emergency Arbitrators where English law is applicable to the underlying contracts.

Please contact Harvinder Deol for more information.