Introduction: performance bonds
A substantial body of jurisprudence has developed with respect to performance bonds provided pursuant to construction contracts and the relevant rights of the parties to such contract. It is clear that this form of security is intended to be the equivalent of cash. Indeed, the High Court of Australia has exclaimed that “instruments of this nature are essential to international commerce and, in the absence of fraud, should be allowed to be honoured free from interference by the courts”. This seems to be the prima facie position that an applicant must displace to succeed in acquiring injunctive relief, preventing recourse to security. Consequently, the contract centrality becomes an underlying theme.
Approach by the courts regarding performance bonds
The authorities have recognised three principal exceptions to the obligation of an issuer of a performance bond, including:
1. In the event of fraud by the party seeking recourse;
2. Unconscionability by the party seeking recourse; or
3. A beneficiary has promised to not have recourse to the performance bond.
In respect of the third instance, the intention of the parties becomes critical and involves contractual interpretation. The case of Clough Engineering Ltd v Oil & Natural Gas Corporation Ltd (Clough) provides insight into this phenomenon and is an invaluable authority in relation to the approach adopted by the courts. Clough establishes the prima facie construction of the contract:
“Insofar as a construction contract may make clear provision for the furnishing of an unconditional guarantee as security for due performance, the normal interpretation…will be that, in response to the stipulated demand, an unqualified transfer of the sums in question is intended, provided only that there is a bona fide dispute or claim on the secured party’s part, and that any further investigation of its merits or extent is not usually intended by the contract.”
Accordingly, the third exception contradicts the presumed position. This occurs as there has been an explicit promise to alter the allocation of risk, creating a contractual impediment to the beneficiary. However, due to the potential injustice, the courts tend to require “clear words” to support an interpretation of a contract which inhibits recourse where a breach is alleged in good faith (without the other two exceptions applying).
Intention of the parties – Performance Bonds As A Risk allocation Device
It seems that if the parties intend that the performance bond is a risk allocation device, this will impact consideration of the primary issues considered at the hearing for an interlocutory injunction, being whether the beneficiary is entitled to call upon the bond and where the balance of convenience lies (a standard consideration in equitable relief). In this circumstance, the entities have agreed as to which of them should bear the financial risk pending final determination. This becomes particularly relevant when a party is relying on the security, pending the outcome of a trial. In the event that there is a risk allocation purpose, failure to resolve issues pertaining to interpretation of the contract at the interlocutory stage may defeat commerciality, depriving the parties of the bargain they have arranged.
If a term of a contract, construed utilising the accepted principles adopted by the courts, shows that the commercial purpose was to allocate the risk of who should be financially impacted notwithstanding that there may be a genuine dispute as to whether a party had failed to comply with their obligations, then the entity benefiting from the security is uninhibited in invoking it. Clear words to the contrary are required to have a condition precedent to recourse. This means that they must be unambiguous and have only one possible meaning.
Granting the injunction
Culminating the above considerations, the courts will intertwine them with their reasoning when determining the required elements for an injunction to be granted. The cases of Saipem Australia Pty Ltd v GLNG Operations Pty Ltd provide background on the principles. The significance of these decisions is that the intention of the parties in respect of the performance bonds as a risk allocation device is relevant to the determination of the balance of convenience in awarding the injunction. The other elements to analyse, being the question of whether there is a serious question to be tried and inadequacy of damages as a remedy, depend on the facts. The typical argument in the commercial discourse is reputational impact in the market and industry.
As can be identified, the effectiveness of injunctions in relation to claiming security under a construction contract depends predominately on the terms of the agreement and their interpretation by the court. These inform the judiciary on the primary issues considered when deciding to exercise discretion when granting the equitable remedy of injunction. This is consistent with the common law philosophies in respect of privity of contract in the context of commercial transactions. Therefore, there needs to be an explicit and unequivocal promise that there will not be a conversion of the bond.
Coinciding with international commerce, the importance of performance bonds as a currency is reflected on several levels in various jurisdictions. Accordingly, the relevant feature of the contract in question regarding injunctions on recourse to security pertains to allocation of risk between the parties. Where the type of security in the construction contract contained other characteristics, such as an interest in property, this would reflect the intention of the parties and the threshold to satisfy the third exception for injunctive relief may decrease. Indeed, the tests may change entirely.
It is evident that seeking, understanding and applying relevant legal principles in construction contract contexts becomes increasingly vital. With the proper advice and drafted terms, recourse to security is a seamless event that occurs without hindrance. The beauty of the law when a party seeks injunctive relief is that the entities involved are ultimately the masters of their destiny. Consequently, it requires a forensic approach and placing value on legal services when creating the written agreement that governs the transaction. Resonating with many doctrines and ideologies of the Australian system, contracts in a commercial space remain dominant.