Whilst this article relates to a Scottish case, it serves as a useful reminder to English and Welsh construction practitioners of the key principle in relation to on demand bonds: clarity is king.

Background

Fife Council granted planning permission for the development of an opencast coal site at North Blair Farm, Oakley, Saline, which included conditions relating to the restoration of the coal site after cessation of the works and a further period of aftercare. Failure to comply with these conditions was a 'default', as defined within the parties' agreement and a bond was procured to secure the developer's obligations with regard to the conditions noted above. Sun Alliance Insurance Plc (Sun Alliance) was the granter of the bond.

Coaling on the site ceased in November 2013 after the developer notified Sun Alliance of its intention to mothball the site. The developer then went into liquidation without having satisfied the conditions noted above and without there being sufficient funds to complete the restorations.

The Council and Sun Alliance exchanged correspondence over the next two and a half years, with the Council making a formal demand under the bond in December 2015 for the cost of the restoration works. However, Sun Alliance rejected the demand, stating that the requirements of the bond had not been met.

Requirements of the bond

Clause 3.1 of the bond set out the three requirements of a valid demand, which can be summarised as follows:

  1. Notice in writing of any default.
  2. A full breakdown of any proper and reasonable cost [of restoration of the site].
  3. Reasonable evidence of the intention and ability of Fife Council to effect the restoration.

Sun Alliance agreed that the Council had satisfied the first two requirements and therefore the dispute focused on requirement number 3. Sun Alliance relied on the doctrine of strict compliance, however this was rejected by the court for two reasons.

Firstly, whether a call on a bond strictly complies with the requirements of the bond is a question of whether the documents presented with the call conform in type and form to those stipulated in the terms of the bond. In this case, requirement no.3 does not contain any reference to any requisite documents.

Secondly, the wording of the third requirement invited a subjective assessment of whatever was provided to support the call, through the use of "reasonable evidence" and was therefore inconsistent with the concept of strict compliance.

The Council relied upon the follow sentence in its demand as satisfying the third requirement:

"The Council confirms that it will comply with its obligations under the Bond."

Decision

The court decided that the third requirement simply obliged the Council to confirm that the bond monies would be used to carry out the restoration works and should be viewed against the backdrop of clause 2.2 of the bond, which obliged the Council to use the bond monies to carry out the restoration works.

The Court further concluded that the phrase "intention and ability" most likely related to "the seriousness of purpose of the [Council] to carry through any scheme of remedial works and to the financial resources or wherewithal of the [Council] to do so."

The Court considered that the fully detailed cost breakdown, plans and explanation provided with the demand as to the proposed restoration works was sufficient to constitute evidence of the Council's ability to carry out those works and went on to state:

"In short, the [Council's] scheme is "able" to effect the required restoration. If the scheme's remedial works are completed, the [Council] will have remedied the [developer's] default of its obligations under the Agreement and the Planning Permission in respect of the restoration of the Site. This, after all, is the fundamental purpose of the Bond."

With regard to the sentence relied upon by the Council as satisfying the third requirement, the Court concluded:

"knowing the terms of clause 3.1 of the Bond, the reasonable recipient is bound to understand, at the very least, that this sentence is directed toward satisfying requirement (iii) of clause 3.1."

Accordingly, the court ruled in favour of Fife Council.

Whilst this is a Scottish case, it nonetheless serves as a timely reminder to English and Welsh construction practitioners of the value of clear and unambiguous requirements/conditions to making a claim under a bond. By way of example, the court considered whether the bond required the Council to have contracted with a contractor for the restoration works in order to satisfy clause 3.1 and concluded that that was not a requirement on the basis that: "Had parties [sic] wished to require this (or any specified documents, such as the Council Minute), they could have done so in clear language."

The use of the phrase "reasonable evidence" lacks certainty and entitled the court to undertake a subjective assessment, with the doctrine of strict compliance held to be not applicable, as the "parties did not contract for exactitude in clause 3.1".

Comment

Whilst the beneficiary of the bond succeeded in this case, it should nonetheless serve as a cautionary tale, as ambiguous wording could seriously erode the value of a bond and leave a beneficiary without the security it requires.

Further, this case highlights the importance of including a term which provides that the performance bond shall respond explicitly upon an insolvency event, including termination on insolvency.

Interestingly, the court took account of the fundamental purpose of the bond when construing the uncertain requirements for making a valid call, which was not dissimilar to the approach of the TCC in Lukoil Mid-East Ltd v Barclays Bank when faced with contradictory requirements. In that case, the TCC stated:

"The Court is required to interpret the Bank Guarantee as a whole and any individual words, clauses or provisions that it contains are to be interpreted in context. That context includes an appreciation of the terms of the Contract, by virtue of the references to it in [the Guarantee]. And, without restating well known principles extensively, the Court will not willingly endorse or adopt an interpretation that is commercially absurd unless compelled to do so by very clear words."

However, the approach of the TCC can perhaps be seen as a slightly narrower approach, focusing on the context provided by the underlying contract, rather than a consideration of the wider commercial purpose of the bond, which commentators have suggested the Scottish courts appear to be more willing to do, especially following the above case.