Development of Case Law
How Strong Must the Case Be?
The successful completion of a building project can only be achieved by the due performance by all parties involved of their obligations or, in the absence of due performance, by an efficient remedial measure through which alternative parties may be engaged to complete the works.
It is therefore common practice for one party to require another party in a building project to furnish security for the due performance by that other party of its obligations under the contract. Thus, main contractors are often asked to furnish, as part of the overall contractual bargain with the client, a performance bond or an on-demand bank guarantee, or some other document issued by a bank, an insurance company or some other financial institution. The document would usually state that the client is entitled on pure written demand, and/or on certain peripheral conditions being met, to payment of a specified sum in the event that the main contractor defaults on its obligations to perform the main contract works.
It is also common practice for main contractors to subcontract their work, and to require the subcontractors to furnish on-demand bonds either to the main contractor or directly to the client.
The furnishing of on-demand bonds is arguably part of the contractual bargain and part of the risk that the contractor assumes in deciding to agree to undertake the building works for the client. However, it can equally be said that the relative ease with which the client can obtain money on a simple demand based on an allegation (however frivolous) that the contractor is in default can leave on-demand bonds open to abuse.
In two recent cases - Samwoh v Sum Cheong Piling(1) and McConnell Dowell Constructors v Sembcorp Engineers and Constructors(2) - the courts reiterated that they have an equitable jurisdiction to restrain calls on on-demand bonds when a strong prima facie case of unconscionable behaviour is demonstrated. This update examines the case law in this area and examines the threshold required for the courts to restrain such calls.
Common law jurisdictions like Singapore have within their jurisprudence the concept of a common law jurisdiction and an equitable jurisdiction. When a Singapore court exercises its common law jurisdiction it gives effect to the strict legal rights of parties, whereas the exercise of equitable jurisdiction involves the provision of relief to which the parties would not otherwise have been entitled under the common law. The exercise by the Singapore court of its equitable jurisdiction is usually the result of the court finding that the giving of effect to one party's strict legal rights offends the conscience of the court. This does not mean that the court is prepared to override or ignore strict legal rights arbitrarily, but rather means that it is moved to the extent that it feels compelled to act notwithstanding the strict legal rights of the parties.
Until the early 1990s performance bonds and other on-demand bank guarantees were generally regarded as sacrosanct. Consistent with the position under English law, a person could only restrain the giver of an on-demand bond, or restrain a party from calling on or receiving proceeds under an on-demand bond, if he or she could show a clear case of fraud. This was soon to change.
The start of what would eventually be the declared position of the Singapore courts - that they can issue orders restraining unconscionable calls on on-demand bonds - can be traced back to the case of Royal Design Studio Pte Ltd v Chang Development Pte Ltd.(3) The court in this case stated that it could exercise its equitable jurisdiction to restrain calls on on-demand bonds in appropriate circumstances. (4)
In Chartered Electronics v Development Bank of Singapore the court commented that a performance guarantee could be an oppressive instrument if abused,(5) and that if a "strong prima facie case" that a call made an on-demand bond which was given purely to secure the performance of contracts(6) was unconscionable, the court would restrain the call.
Although there was some uncertainty as to whether the element of unconscionable behaviour was separate and distinct from fraudulent behaviour, it is now clear from subsequent judgments of the Singapore Court of Appeal (see Bocotra Construction v A-G (No 2)(7) and GHL v Unitrack Building Construction(8)) that the concept of unconscionability is not synonymous with fraud (as some earlier cases had suggested(9)), and that the Singapore courts have embarked on a deliberate departure from the English position.
In a further development to the equitable jurisdiction that the Singapore courts have established, the court in Eltraco International v CGH Development(10) decided that it could, in the exercise of its equitable jurisdiction, limit the restraint on the calling of the bond to that part which was clearly excessive.(11)
What then is the meaning of 'unconscionability'? In the cases that have been decided, unconscionability has been described as "utterly lacking in bona fides",(12) something that
"involves unfairness, as distinct from dishonesty or fraud, or conduct of a kind so reprehensible or lacking in good faith that a court of conscience would either restrain the party or refuse to assist the party."(13)However, some of these cases - such as Dauphin Offshore Engineering & Trading v The Private Office of HRH Sheikh Sultan Bin Khalifa Bin Zayed Al Nahyan - accept that it was "not possible to define unconscionability other than to give some very broad indications such as lack of bona fides". This shows that courts will consider each case on its facts to determine if there is any instance of unconscionability.
From the decided cases (Dauphin, GHL v Unitrack and Chartered Electronics) it is reasonably clear that a person applying to the Singapore courts for an order to restrain a financial institution from paying on an on-demand bond, or to restrain a person from calling on or receiving monies under an on-demand bond, would be required to establish a strong prima facie case of unconscionability - that is, the person applying for the order must be able to demonstrate a clear initial case of unconscionable behaviour. The fact that the behaviour complained about may subsequently be found, at the final determination of the matter on fuller facts, not to be unconscionable will not affect the court's decision to make an initial order restraining the payment under or the call on, or the receipt of monies under, the on-demand bond. The latest case of McConnell continues the judicial trend of requiring a strong prima facie case.(14)
The party who is sought to be restrained by the court often argues that the court should not only take account of the strict legal rights of the parties, but should also consider that the risks associated with arbitrary calls on the on-demand bond have been accepted by the contractor, which has furnished or arranged for the provision of an on-demand bond of its own free will. In the context of construction cases it may even be argued that the contractor's acceptance of the risks associated with arbitrary calls on the on-demand bond are part and parcel of the overall distribution of risk between the client, the consultants, the contractor and the subcontractors.
In opposition to these arguments, it is often argued that even if it is accepted that contractual arrangements and risk distribution must be taken into account, the fact that certain contractual arrangements have been made and risks assumed with regard to the furnishing of an on-demand bond does not necessarily mean that the contractor agrees that the client is free to make a frivolous and ultimately abusive call on the on-demand bond, and that the court has a role in ensuring that contractual arrangements are not abused by one party under the guise of the exercise of strict legal rights. In Samwoh the Singapore Court of Appeal has indicated that it does not subscribe to the thinking that the courts should be slow to interfere or tinker with contractual agreements,(15) and stated that where fraud or unconscionability is shown, the courts will intervene to restrain the payment of or call on or receipt of monies under an on-demand bond.
It is expected that the judicial development of the equitable jurisdiction to restrain unconscionable calls on on-demand bonds will continue, but those in the construction industry would do well to be cautious in equating on-demand bonds with cash.
For further information on this topic please contact Lawrence Teh at Rodyk & Davidson by telephone (+65 225 2626) or by fax (+65 225 1838) or by email ([email protected]).
(4) In the case the judge referred to the granting of interim injunctions to restrain parties from enforcing their contractual provisions.
(5)  4 SLR 655 at p 668.
(6) Applied in Dauphin Offshore Engineering & Trading Pte Ltd v The Private Office of HRH Sheikh Sultan bin Khalifa bin Zayed Al Nahyan  1 SLR 657.
(9) See New Civilbuild v Guobena  1 SLR 374, where Justice Lee Seiu Kin expressly doubted the point that unconscionability was a separate ground of action.
(12) Kvaerner Singapore v UDL Shipbuilding  3 SLR 350.
(13) Per Justice Lai Kew Chai in Raymond Construction v Low Yang Tong Suit 1715 of 1995.
(14)  1 SLR 199 at p 212.