In March 2013, the Supreme Court of Victoria held that a landlord can call on a bank guarantee if the landlord claims in good faith that there has been a breach of the lease: Otter Group Pty Ltd v Wylaars & Anor [2013] VSC 98.  That is, a landlord can have immediate recourse to the bank guarantee without having to wait for a court to decide whether the tenant has breached the lease.

However, the Supreme Court of New South Wales in Universal Publishers Pty Ltd v Australian Executor Trustees [2013] NSWSC 2012 rejected the proposition that a landlord can rely on the good faith entitlement and held that the landlord's entitlement to call on a bank guarantee rests solely on the wording and construction of the bank guarantee provision in the lease.

In Universal Publishers, the plaintiff tenant sought an injunction to restrain the defendant landlord from calling upon an unconditional bank guarantee provided under a lease between the parties.  Prior to the injunction application, the landlord had commenced proceedings against the tenant for the tenant's alleged failure to make good the premises.  The tenant denied the allegations and defended the proceedings.  The landlord then sought to call upon the bank guarantee and was met with an application for an injunction.

Clause 19 of the lease set out the parties' obligations in relation to the bank guarantee.  In particular, clause 19.4 of the lease provided that:

19.4    In the event that the lessee:

19.4.1    defaults in the payment of Rent or in the performance or compliance of any other obligations under this Lease; or

19.4.2    breaches any other obligation, term, condition or covenant under this Lease,

the Lessor is hereby authorised to demand that the guaranteeing bank pay to the Lessor such amount that (in the reasonable opinion of the Lessor) may be due to the Lessor as a result of such default, breach or non-observance by the Lessee or termination of the Lease pursuant to it.

The principal question before the Court was whether the landlord was entitled to make demand on the bank guarantee because it claimed that the tenant was in breach of the lease, or whether the landlord was only entitled to do so if in fact the tenant had breached the lease.

The Court held that, having regard to the wording of clause 19.4, there had to be an actual breach before the landlord could call on the bank guarantee.  An actual breach does not mean it must be an indisputable breach; rather whether the tenant is able to establish that there is a serious question to be tried as to the existence of the breach.

In future, landlords should ensure that bank guarantee clauses specifically set out the circumstances in which the landlord can call upon the bank guarantee and in particular, that the landlord can call on the bank guarantee where the landlord believes, in good faith, that the tenant has breached the lease.