08 May 2003

This information is provided courtesy of Law-Now, CMS Cameron McKenna's free on-line information service.

www.law-now.com

Unconditional bank guarantees

Unconditional bank guarantees are sometimes used in
construction contracts as security for a contractor's
performance. They are seen to be useful because they
provide the holder of the bank guarantee with a ready source
of cash. To access that cash, all that the beneficiary has
to do is to go to the relevant bank and demand the money.
There is no need to show that the contractor was actually in
default.

Even though default does not have to be shown before the
security may be called up, the purpose of a contractor
providing an unconditional bank guarantee is to secure the
owner against the contractor's default. For example, if a
massive defect appears in a building under construction, and
the contractor does not fix it, the owner may want to access
funds quickly to pay someone else to rectify the problem and
get the project completed. An unconditional bank guarantee
can provide a ready source of cash for this to occur.

But what if the contractor takes the view "It wasn't my
fault. The defect appeared for reasons that have nothing to
do with me". The contractor may feel aggrieved if the owner
goes off to the bank and collects the proceeds of the
unconditional bank guarantee. The contractor may feel that
it has done nothing wrong, even though the owner takes a
different view about where the blame lies. Why should the
contractor's cash flows take a hit when it is not responsible
for the damage to the building?

What happens quite commonly is that when an owner tries to
call up an unconditional bank guarantee, the contractor who
supplied it will race down to court and seek an injunction
to restrain the owner from making or pursuing the demand.
If, however, the owner has already got the money in its
pocket, the contractor may seek an order that the money be
frozen, so that the owner cannot use it.

When the matter goes before the Court (on an urgent basis),
the judge will usually have a very limited amount of evidence
before him or her about the dispute, with the parties at
loggerheads as to whether the contractor was in default,
and whether the owner was entitled to call upon the bank
guarantee. And yet the Court will be required to make a
decision very quickly as to what happens to the unconditional
bank guarantee and/or its proceeds pending final resolution
of the matters in dispute (which may be resolved months or
years later). Bank guarantees may also be for very large
amounts of money - sometimes millions of pounds.

How do the courts resolve these disputes? What criteria do
they apply in deciding whether to grant an injunction against
an owner with an unconditional bank guarantee in its hands?
To view an article which discusses these matters, please copy
and paste/click on the following link
http://www.law-now.com/law-now/press.cfm?id=5372

For further information, please contact Julian Bailey at
julian.bailey@cmck.com or on +44 (0)20 7367 2057.