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My word is my bond and a bond is a bond!

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Summary: Contractors need to be acutely aware of the differences between “performance guarantees” that are traditional in the UK construction market, a call on which requires proof of breach and resulting loss, and “on demand bonds” that are prevalent in the international, process and power plant markets, which do not require such proof.

In Murphy v Beckton [2016] the court confirmed its reluctance to intervene against a call on an on demand bond.  It also provided guidance on the extent to which words deleted from a standard form contract, in this case the FIDIC Yellow Book, will be taken into account in construing the meaning of a contract.  

What happened?

 Beckton (the defendant employer) entered into a contract based on an amended FIDIC Yellow Book with Murphy (the claimant contractor) for design, procurement, construction, start-up, testing and commissioning of a Combined Heat and Intelligent Power Plant at Beckton, East London.

Clauses 2.5 and 3.5 of the contract were unamended from the FIDIC Yellow Book.  Clause 2.5 provided that the Employer must give notice of a payment claim to the Engineer and the Engineer must satisfactorily determine the validity of the claim in accordance with clause 3.5, following which the sum due could be deducted from future payment certificates.

Clause 4.2 of the (amended) contract required Murphy to obtain an on demand bond in favour of Beckton.  Beckton’s right to call on the bond was subject to a couple of caveats:

  • it must give Murphy advance notice before doing so; and
  • if it claimed more than its entitlement or if it was not entitled to make a claim at all, then it would need to account to Murphy for the excess amount.

When Murphy failed to meet certain contractual milestones, Beckton notified Murphy of its entitlement to liquidated damages pursuant to sub-clause 2.5 and (without first asking the Engineer to determine the matter) demanded payment from Murphy of the liquidated damages that had accrued at that date.  Murphy objected, arguing that it had requested various extensions of time which the Engineer had failed to grant.  Finally, Beckton notified Murphy of its intention to make a call under the bond.

Murphy brought a Part 8 claim against Beckton, seeking declarations that:

  • until there was a decision by the Engineer of the amount to which Beckton was entitled, Murphy did not have to pay anything; and
  • accordingly Beckton’s call on the bond was fraudulent.

Beckton argued that its entitlement to call on the bond on the bond was not subject to the operation of clauses 2.5 and 3.5 and that its call was not fraudulent.

Decision

The judge found that Beckton was entitled to call on the bond.  In doing so, she had to construe the meaning of the contract, including deletions from the standard form. 

Unfortunately for Murphy, clause 4.2 had been amended from the standard form.  Specifically, the words “subject to clause 2.5” had been deleted, so that a call on the bond was no longer subject to a determination by the Engineer in accordance with clause 2.5.

This meant that Beckton had two separate options for redress: the Engineer’s determination under clause 2.5 or a call under the bond pursuant to clause 4.2.  The two were not linked.

In making its finding, the court had close regard to the wording of the contract.  It also noted the comments of the judge in Mopani Copper Mines plc v Millennium Underwriting Ltd [2008] that, to the extent that deleted words were admissible as evidence, care should be taken as to the inferences to be drawn from them.  Here, the judge noted that the deletion of the words “subject to clause 2.5” departed substantially from the wording of the Yellow Book, and found that this was relevant to the background of the dispute.

Was the call on the bond fraudulent?

Although the court’s primary finding (that there was no requirement for an Engineer’s decision) meant that there was no need for it to consider whether the call on the bond was fraudulent, it nonetheless did so.  It concluded that the bond was a "true" on demand bond, and therefore there was no requirement for Beckton to prove the validity of its claim.  The trigger for making a call under this type of bond was merely an honest belief that it was entitled to do so.

It is implicit in the nature of an on demand bond that, in the absence of clear words to the contrary, when the bond is called, there will at some stage in the future be an "accounting" between the parties to the main contract, so that their rights and obligations will finally be determined.  

What does this mean for contractors and employers?

Contractors must be clear at the outset what type of bond they are providing, since the grounds for objecting to an “on demand” bond are extremely limited.  Adding to the confusion between the two types of bond, the banking industry calls on demand bonds “performance bonds”.  This sounds simple enough, but don’t be fooled: recent case law demonstrates there is much scope for confusion over whether a bond is truly “on demand”.  For example, see our recent Insight on the case of Caterpillar Motoren v Mutual Benefits Assurance [2015], which considered key characteristics of an on demand bond.

The limited grounds for objecting to an on demand bond include fraud on the part of the party making the call, and failure on the face of the demand to comply with the formalities of the bond.  As this case shows, it is very difficult to demonstrate fraud, and the courts are reluctant to make a finding of fraud without extremely clear evidence.

Finally, if entering into a bespoke contract based on an amended standard form, both parties should be aware that what you take out can, in certain cases, be just as important as what you leave in.

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