Unconditional undertakings provided by financial institutions, (bank guarantees), play a vital role in construction projects, including in the energy sector. These guarantees are useful tools for alleviating perceived counterparty risk.
The form of unconditional undertakings are generally fairly standard. The beneficiary will usually insist that the undertaking require payment of moneys "on demand". Does this mean that the beneficiary has absolute discretion in this regard?
In some circumstances, the party that procured the undertaking may be able to restrain, (via an injunction granted by a court), the beneficiary from having recourse to the undertaking (i.e. cashing it in).
In most Australian jurisdictions, there is no statutory regime that specifically governs dealings with respect to unconditional undertakings. The courts, have nevertheless, taken the view that an injunction may be available to prevent a beneficiary having recourse to an undertaking in three circumstances:
- Fraud - where the party calling on the undertaking has acted fraudulently.
- Unconscionability - where a party calling on the undertaking acts unconscionably (in a manner that is contrary to the unwritten law or provisions of the Australian Consumer Law or similar legislation).
- Negative stipulations - where the terms of the underlying contract, (such as the construction contract requiring the provision of the undertaking), contain an express or implied negative stipulation in respect of recourse to the undertaking and the beneficiary seeks to act in a manner that is contrary to that stipulation. For example, the underlying contract may expressly state that the beneficiary may only call on the undertaking if particular circumstances arise. However, the negative stipulation need not be that clear. Courts are also prepared to restrain a party for implied negative stipulations. For example, if the contract specifies particular circumstances where the beneficiary may have recourse to security, a court may interpret that as a codification of the beneficiary's entitlement to do so and restrain any attempt to have recourse to the security in other circumstances.
In their role as provider of undertakings (such as under a head contract), providers should carefully consider the contractual provisions relating to the principal's entitlement to have recourse. Providers of bank guarantees may want to ensure such provisions refer to the principal having the right to do so only in respect of a proven debt due that arises under the relevant contract.
For the beneficiary of undertakings (such as pursuant to a subcontract), beneficiaries' interests are best served by ensuring that the underlying contract provides the beneficiary with broad discretion regarding its entitlement to have recourse to security.
The Queensland approach
Queensland has a statutory regime that deals specifically with recourse to security. Except in respect of domestic building contracts, the Queensland Building and Construction Commission Act 1991 (Qld) provides that a beneficiary may use security or retention amounts to obtain an amount owed under the contract, only if the beneficiary has given written notice to the other party of the proposed use and the amount owed within 28 days after the beneficiary becomes aware (or ought reasonably to have become aware) of its right to obtain that amount. A recent case in the Queensland Supreme Court (Beyfield Pty Ltd v Northbuild Construction Sunshine Coast Pty Ltd) clarified that this statutory requirement must be adhered to strictly any contractual provision which seeks to expand the beneficiary's recourse entitlements beyond amounts due under the contract will be unenforceable. That is, a contractual provision entitling a beneficiary to have recourse to security for mere claims, or amounts due in respect of a separate agreement, will be unenforceable.