When do you have a right to have recourse to a bank guarantee?

Executive Summary

The Tasmanian Supreme Court in Hansen Yuncken Pty Ltd v Parliament Square Hobart Landowner Pty Ltd [2021] TASSC 7 considered whether the Principal had a right to recourse an unconditional bank guarantee where the Contract did not contain an express provision to call on the bank guarantee. The Court held that the Principal was entitled to have recourse to the bank guarantee.

What happened?

The plaintiff (Hansen Yuncken) and the defendant (Principal) entered into a construction contract on 5 December 2014 (Contract). Under the Contract, Hansen Yuncken was required to provide an unconditional bank guarantee for 2.5% of the contract sum that replaced the ‘Performance Bonds’ at Practical Completion (Defects Bond).

The relevant provision of the Contract dealing with security provided that the Principal “may draw down on any performance bond at any time without notice” in certain circumstances which include the fact that the Principal has a bona fide claim against Hansen Yuncken under or in connection with the contract.

In contrast to the performance bonds, there were no further provisions dealing with the right of the Principal to draw down on the Defects Bond, or the consequences of such a draw down.

During the defect liability period, liquidated damages were certified as payable under the Contract. The Principal demanded that Hansen Yuncken pay liquidated damages as a result of the delay in achieving practical completion.

Hansen Yuncken denied liability. It requested the Principal to provide an undertaking that it would not pursue the Defects Bond to satisfy the alleged debt under the Contract.

The Principal did not do so. The Principal had recourse to the Defects Bond to satisfy what it said was a debt under the Contract from Hansen Yuncken for liquidated damages.

What did the Tasmanian Supreme Court say?

Justice Brett determined whether the Principal had a right to call on the Defects Bond by considering the following:

• the intended purpose of the security, namely, whether it is to provide security for the contractor’s performance under the Contract, or whether it is a risk allocation mechanism;
• if the intended purpose of the security is to allocate risk, the Principal is entitled to have recourse to the security regardless of there being a dispute between the parties; and
• the form of security, such as an unconditional and irrevocable security, will be taken to require an unqualified transfer where a bona fide dispute or claim exists.¹ The Court will ordinarily only prevent recourse to security in the case of fraud to prevent unconscionable conduct.

The Court concluded that the Defects Bond was an “irrevocable, unconditional guarantee” and there was a clear intention that it served as a risk allocation mechanism. The intended risk allocation continued such that recourse could be had to the Defects Bond.

The Principal was therefore entitled to have recourse to the Defects Bond to satisfy the Principal’s entitlement to levy, and Hansen Yuncken’s liability to pay, liquidated damages.

Take away

When drafting a contract is important to use clear and concise language so that the parties understand the intended risk allocation and when a call on security can be made.

This article was written by Theo Kalyvas, Partner and Tara Nelson, Associate. 

¹Fletcher Construction Australia Ltd v Varnsdorf Pty Ltd [1998] 3 VR 812 (Vict CA); Woodhall Ltd v Pipeline Authority (1979) 141 CLR 443.