In the recent case of Prema Birkdale Horticulture (Macau) Ltd v Venetian Orient Ltd & Anor [2009] HKCU 1163, the Court of First Instance determined that an advance payment bond which does not require any proof of default before payment is in effect a “on demand” bond.  In such cases, the Court is unlikely to grant interim injunctions and other interim reliefs to restrain a third party from honouring its obligations under the advance payment bond in the absence of knowledge of the third party of clear fraud.

Background of the Case

The Plaintiff, Prema Birkdale Horticulture (Macau) Ltd, (the “Trade Contractor”) had entered into a trade contract with the 1^st Defendant, Venetian Orient Limited, (the “Owner”) to provide specialist landscaping and horticultural services for the “The Venetian” and the “City of Dreams” resort-casinos in Macau (the “Trade Contract”).  The Owner had paid the Trade Contractor a sum of MOP33,459,407.19 being the advance payment of sums due under the Trade Contract. 

In the meantime, the 2^nd Defendant, Export Finance and Insurance Corporation, (the “Credit Agency”) had issued an Advance Payment Bond (the “Bond”) in favour of the Owner to repay such sum of the said advance payment as demanded by the Owner, irregardless of (1) any notice by the Trade Contractor to the Credit Agency not to pay the whole or any part of the sum demanded; and (2) any dispute between the Owner and the Trade Contractor.

Upon making payment to the Owner under the Bond, the Credit Agency was entitled to claim payment of the sums already paid out to the Owner from 3 of the directors of the Trade Contractor pursuant to the terms of a Deed of Guarantee and Indemnity (the “Deed”).

The crux of the dispute concerned the alleged failure of the Owner’s nominated construction manager to issue interim certificates in respect of work done by the Trade Contractor under the Trade Contract, which if so issued shall reduce the amount of the Bond by the amount certified under the interim certificates and thereby reducing the potential liability of the directors of the Trade Contractor under the Deed. 

Since the Owner had made a demand under the Bond which the Trade Contractor asserted was wrongful in the light of the Owner’s failure to issue interim certificates, the Trade Contractor took out the present application seeking the following interim reliefs :-

1.            Pending completion of the dispute resolution procedures as contemplated in the Trade Contract, the Owner shall be restrained from receiving any payment from the Credit Agency under the Bond;

2.            the Credit Agency shall pay into Court a sum of MOP 33,459,407.19, which money will remain in the Court’s account until all the disputes between the Trade Contractor and the Owner have been determined; and

3.            the Credit Agency shall be restrained from seeking reimbursement under the Deed pending the determination of the dispute.

The Applicable Legal Principles

In his decision, Deputy High Court Judge Bharwaney SC reviewed the general principles governing the grant of interim injunctions and other interim reliefs and cited the judgment in UDL Kenworth Engineering Ltd v Airport Authority Hong Kong [1998] HKCU 705 :-

“In a normal case where an interlocutory injunction is applied for it has to be shown that there is a serious question to be tried, that damages would not be an adequate remedy, and that, on a balance of convenience, it would cause less harm to grant the injunction… However, these principles do not apply to “on demand” bonds (which the Court have equated with letters of credit) because the obligations under such bonds must be honoured unless it can be shown that the demand was fraudulent.  It would only be in exceptional cases that Courts would interfere to grant interlocutory injunctions in the case of irrevocable obligations under such “on demand” bonds.”

The learned Judge recognized that the irrevocable obligations assumed by banks are regarded as collateral to the underlying rights and obligations between the merchants at either end of the banking chain.  Such obligations must be allowed to be honoured free from interference by the court, save and except in clear cases of fraud of which the banks have notice.  Otherwise, trust in international commerce could be irreparably damaged. (citing the judgments in the English cases of Edward Owen Engineering Ltd v Barclays Bank International Ltd [1978] 1 QB 159 and Harbottle (Mercantile) Ltd v National Westminster Bank Ltd [1978] 1 QB 146)

The Decision

Upon close examination of the terms of the Bond, the learned Judge was convinced that the Bond was a classic “on demand” bond which did not require any proof of breach on the part of the Trade Contractor before the Credit Agency had to make payment under it.  The Bond was in effect a promissory note payable on demand (that is, an unconditional promise to pay a specified sum of money to a designated person on demand) and on similar footing to a letter of credit (that is, an irrevocable payment undertaking issued mostly by a financial institution).  It was irrelevant that the Credit Agency knew the Owner and the Trade Contractor were in dispute as the terms of the Bond stipulated that payments due under the Bond must be made notwithstanding any dispute between the Owner and the Trade Contractor.

On the basis of the authorities cited above, the learned Judge declined to grant the interim reliefs claimed by the Trade Contractor in the absence of knowledge on the part of the Credit Agency of clear fraud.