B a n k i n g a n d F i n a n c e B u l l e t i n. M a y Page 1. Asia > Middle East > Europe International Capabilities Delivered Locally

Transcription

1 B a n k i n g a n d F i n a n c e B u l l e t i n M a y T h e H i g h T h r e s h o l d o f P r o v i n g U n c o n s c i o n a b l e C a l l s o n P e r f o r m a n c e B o n d s S a n d r a H a n & C h e n Y i y a n g Performance bonds are commonly required in most construction projects and are used to provide the beneficiary with security in various situations, such as the performance of a contract. They are typically issued by a bank or financial institution on behalf of one contracting party ( the obligor ) for a stated amount, which is payable to the other contracting party ( the beneficiary ) if the obligor breaches its contractual obligations. A common situation arising in construction projects is the delay in completing construction works. When the beneficiary (usually the property developer) considers that the obligor (usually the contractor) is responsible for such delay, the beneficiary is entitled to make a call on the performance bond for payment of the secured sum. For on-demand performance bonds, the bank or financial institution is obliged to pay the bond sum immediately to the beneficiary upon demand and is not under a duty to inquire into the circumstances underlying the demand. The only way the obligor can restrain the beneficiary from calling on the bond is to apply to the Court for an injunction. One recognized ground for granting such an injunction is that the beneficiary s call was unconscionable. The Court of Appeal analysed the rationale for the unconscionability ground in BS Mount Sophia Pte Ltd v Join-Aim Pte Ltd [2012] 3 SLR 352 ( BS Mount Sophia ). It held that [a]busive calls on performance bonds could oppress the obligor by damaging its liquidity. However, because of an injunction s harsh effect of preventing the beneficiary from enforcing a substantive right which he had contracted for, which could be equally detrimental to its own liquidity, the obligor had to demonstrate a strong prima facie case of unconscionability. Therefore, an injunction would only be granted if the entire context of the case is particularly malodorous. BS Mount Sophia involved a delay in completing construction works. A contractor (the obligor) had furnished an on-demand performance bond issued by an insurance company to a property developer (the beneficiary) under a building contract. The beneficiary made a partial call on the bond as it allegedly believed that it was entitled to liquidated damages from the [obligor] for delay in the completion of [construction] works allegedly caused by the [obligor]. The Court of Appeal considered the entire chronology of events leading up to the beneficiary s call and found, inter alia, that the call was unjustified because the beneficiary had not, before the call, made any complaints or allegations, whether in writing or otherwise, of any delay by the obligor. Also, based on the evidence, it seemed to the Court of Appeal that the beneficiary did not genuinely believe that the [obligor] was responsible for the delay. Page 1

2 Although a strong prima facie case of unconscionability was established in BS Mount Sophia, two recent High Court decisions involving calls made on on-demand performance bonds illustrate that generally, the obligor has an uphill task in meeting the high threshold of establishing a beneficiary s call on such performance bonds was unconscionable. Tech-System Design & Contract (S) Pte Ltd v WYWY Investments Pte Ltd In Tech-System Design & Contract (S) Pte Ltd v WYWY Investments Pte Ltd [2014] SGHC 57 ( Tech-System Design ), a property developer, WYWY Investments Pte Ltd ( WYWY ), engaged Tech-System Design & Contract (S) Pte Ltd ( Tech-System ) in October 2009 as its main contractor to develop three blocks of apartments at Oei Tiong Ham Park. The main contract required Tech-System to provide two performance bonds for the sum of $988, (10% of the total contract price) in lieu of a 10% deposit as security for performance of its obligations. Tech-System procured the two on-demand performance bonds from an insurance company. In November 2009, Tech-System commenced work, with completion scheduled for 3 July However, in January 2010, a soil spillage incident resulted in the Building and Construction Authority issuing a stop work order. The order was only lifted in September 2010 and the apartments were completed in January A temporary occupation permit was finally issued in August Two disputes between the parties arose. Firstly, WYWY claimed that because of the 351-day delay in completion, it was entitled to about $2.1m in liquidated damages under the main contract. But Tech-System argued that it had applied for extensions of time as work progressed, which the architect had wrongly failed to consider. Secondly, Tech-System disputed WYWY s claim that it was obliged to rectify 567 alleged defects that apparently arose during the 1-year defects liability period, which expired on 13 August Tech-System argued that no site inspection had been conducted to ascertain the defects and, in any event, the list of defects would have cost only $14,676 (instead of the estimated $22,000 claimed by WYWY) to rectify. Based on the main contract, both disputes were to be referred to arbitration. However, on 14 August 2013 before arbitration began, WYWY demanded the total amount of the performance bonds from the insurance company. Tech-System claimed that WYWY s calls were unconscionable and applied to the High Court for an injunction to restrain WYWY from calling on the bonds pending the determination or outcome of the arbitration. Judicial Commissioner Edmund Leow ( JC Leow ) dismissed the application because Tech-System was unable to show that WYWY s conduct was unconscionable. On the extension of time issue, JC Leow held that a letter from the architect to Tech- System explaining why its claims for extension of time was not granted did not show unconscionable, dishonest or abusive conduct. Also, Tech-System s claims that the architect had confided to its project director that he had been pressured by WYWY not to grant any extension of time were entirely hearsay. JC Leow referred to BS Mount Sophia which held that in assessing the entire context of the case, a consideration of the disputes between the parties does not necessitate a substantive determination of them. Page 2

3 Moreover, unlike BS Mount Sophia where the beneficiary of the bond had failed to allege any delay by the obligor before making the call, a number of architect s directions had highlighted the delay in the works to Tech-System even before actual completion. In addition, Tech-System s bare allegation that a third party had been improperly appointed to assist the architect to evaluate the claims for extension of time was insufficient to show a prima facie case of abuse or dishonesty. On the alleged defect issue, JC Leow held that although no site inspection seemed to have been carried out, it did not by itself constitute abusive or dishonest behaviour. Notwithstanding that WYWY had reserved its right to claim a larger amount for the defects, its primary claim against Tech-System was for liquidated damages, which was around the sum total assured under the performance bonds. Even if WYWY s conduct had been unconscionable, it did not mean the calls [were] unconscionable or [justified] limiting the call to a partial call. There was also no apparent evidence of double counting, which arose from Tech-System s claim that WYWY owed an outstanding contract sum of $1.4 million to it, that would justify limiting the call to a partial call. Even if WYWY had been mistaken in the sum it thought it was entitled to, JC Leow held, following BS Mount Sophia, that the call would still be legitimate so long as the position was genuinely adopted and [WYWY] honestly believed that [Tech-System] was in breach of its obligations. As for Tech-System s assertion that WYWY was attempting to show that [Tech- System s] work was so unacceptable in view of the alleged 567 defects, JC Leow noted that WYWY had not made such a claim. Instead, WYWY s case was that the issues relating to the extent of the defects and the cost of their rectification were to be resolved through arbitration. Importantly, JC Leow dismissed Tech-System s claim that WYWY s calls would result in financial hardship, such that it would be unable to pursue the $1.4m claim against WYWY. The Court s inquiry in determining whether to set aside a call on a performance bond focused on the beneficiary s alleged unconscionable conduct rather than the effect on the obligor (emphasis in original). If WYWY was later found not to be entitled to the sum under the performance bond through either litigation or arbitration, Tech- System may be entitled to claim compensation for its losses. CCM Industrial Pte Ltd v 70 Shenton Pte Ltd Two weeks after the grounds of Tech-System Design were released, the grounds of CCM Industrial Pte Ltd v 70 Shenton Pte Ltd [2014] SGHC 75 ( CCM ) were issued. CCM did not refer to Tech-System Design. The facts of CCM were unremarkable. The first defendant, 70 Shenton Pte Ltd ( 70 Shenton ) had engaged CCM Industrial Pte Ltd ( CCM Industrial ) as the main contractor to build a 32-storey commercial building in Shenton Way. Following a 3-week delay in completing micro-piling, 70 Shenton s architect sent a letter to CCM Industrial that noted the delay and opined that an overall delay of [8] months would ensue because 7 more months would be needed to complete the micro-piling works. The architect viewed that CCM Industrial had failed to proceed with the contractual works with due diligence and progress and informed CCM Industrial that 70 Shenton reserved the right to terminate the contract. Subsequently, 70 Shenton terminated CCM Industrial s employment under the contract. Simultaneously, 70 Shenton made a demand on the performance bond, which an insurance company had issued on behalf of CCM Industrial, for payment of the sum of $4,782,250. Page 3

4 CCM Industrial then applied to the High Court for, inter alia, a declaration that 70 Shenton was not entitled to receive the bond sum and an injunction to restrain 70 Shenton from receiving the bond sum. CCM Industrial took the view that 70 Shenton s termination of the contract was unlawful and premature and its call on the [bond] was unconscionable. Justice Woo Bih Li ( Justice Woo ) dismissed CCM Industrial s application in a short judgment. Although not expressly mentioned in the judgment, it appeared that the bond in question was an on-demand performance bond because the sole issue was whether there was a strong prima facie case of unconscionability when 70 Shenton made [the] demand, to which Justice Woo applied the test in BS Mount Sophia. On the facts, Justice Woo observed that CCM Industrial had failed to dispute the 3-week delay alleged in the letter from 70 Shenton s architect to CCM Industrial. At that time, CCM Industrial also did not assert it would be able to catch up or claim an extension of time. Even after the application was made, CCM Industrial did not provide concrete information as to how it was going to catch up. The affidavits filed on behalf of CCM Industrial also reinforced Justice Woo s inference that CCM Industrial accepted that there was delay in the micro-piling works. Further, that CCM Industrial was in the process of gathering evidence as to the full facts of the delay was inadequate to show unconscionability by 70 Shenton. As such, CCM Industrial failed to establish a prima facie case of unconscionability. Comment In assessing whether a beneficiary should be restrained from calling on an on-demand performance bond, the key points from Tech-System Design and CCM are as follows: > The public policy interest in preserving the rationale for performance bonds, namely, that the beneficiary is normally entitled to security for the performance of the obligor s obligations, remains a strong one; > The Court s inquiry focuses on the beneficiary s alleged unconscionable conduct, rather than the effect of the call on the obligor; > Adducing cogent and concrete evidence illustrating the unconscionable conduct is required; mere hearsay and allegations of abusive or dishonest conduct are insufficient as the Court s role does not extend to a substantive determination of the parties dispute; > The obligor s knowledge of the delay in completion and acceptance of this fact are strong factors indicating that the beneficiary s call was not unconscionable; > Obtaining a sum under the performance bond does not mean being legally entitled to the sum, which can only be finally resolved by arbitration or litigation; and > That interim financial hardship will result to the obligor does not itself mean the beneficiary had made a call on a performance bond in bad faith. The above points may not be the last word as Tech-System has reportedly appealed against JC Leow s decision. Page 4

5 For more information, please contact: Sandra Han Partner, Real Estate Practice DID: (65) Chen Yiyang Associate, Real Estate Practice DID: (65) RHTLaw Taylor Wessing LLP 2014 This publication is intended for general information and to highlight issues. While we endeavour to ensure its accuracy and completeness, we do not represent nor warrant its accuracy and completeness and are not liable for any loss or damage arising from any reliance thereon. It is not intended to apply to specific circumstances or to constitute legal advice. RHTLaw Taylor Wessing LLP (UEN No. T11LL0786A) is registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A) with limited liability. RHTLaw Taylor Wessing LLP is a Singapore law practice registered as a limited liability law partnership in Singapore ( The LLP ). It is a member of Taylor Wessing, a group which comprises a number of member firms which are separate legal entities and separately registered law practices in particular jurisdictions. The LLP is solely a Singapore law practice and is not an affiliate, branch or subsidiary of any of the other member firms of the Taylor Wessing group. A list of all Partners and their professional qualifications may be inspected at our main office at Six Battery Road #10-01, Singapore Page 5