The vital role that on demand guarantees play in the financing of international trade have been acknowledged on a number of occasions in recent years, from cases which have considered how to distinguish an on demand guarantee from a true guarantee to cases which have examined the circumstances in which payment under such instruments can be restrained. Now, in Wuhan Guoyu Logistics Group Co Ltd v Emporiki Bank of Greece SA, the Court of Appeal has considered what happens where a payment is made under an on demand guarantee where the monies had not actually fallen due.

The case concerned a dispute relating to a shipbuilding contract. The seller contended, in good faith, that an instalment under the contract had fallen due and, when the buyer disagreed, made a demand under a payment guarantee issued by the applicant bank. Following a Court of Appeal judgment that the payment guarantee was an on demand guarantee in the nature of a performance bond, the bank paid the instalment into an escrow account. However, an arbitral tribunal then held that, in fact, the instalment had not fallen due. The bank agreed to release the monies in the account to the seller, but contended that they would be held on trust by the seller for the bank.

The judge commented that when it made its original demand, the seller acquired a complete and immediately enforceable cause of action against the bank. The bank was obliged to pay immediately, as the payment guarantee spelled out in terms. Thereafter the seller’s right to payment from the bank was indefeasible and it was of no relevance that the seller subsequently discovered that its demand, although made in good faith, was in fact made upon an incorrect premise. The rationale for this well‑understood and long‑ hallowed approach is that the guarantee was intended to be an autonomous contract, independent of disputes between the seller and the buyer as to their relative entitlements pursuant to the different contracts between themselves. That same rationale underlies the equally well‑established analysis that the underlying contract between seller and buyer, or between beneficiary and the party at whose instance the guarantee is procured, is subject to an implied term that the beneficiary will account to the other party to the underlying contract to the extent to which the beneficiary has been over‑compensated by the guarantor.

Lord Justice Tomlinson commented that these principles underlie the basis upon which international trade is routinely financed. He said that they were completely inimical to the implication of a trust impressed upon the monies in the seller’s hands by reason of circumstances arising after accrual of the seller’s completed cause of action under the guarantee. The judge commented that it is critical to the efficacy of these financial arrangements that as between beneficiary and bank the position crystallises as at presentation of documents or demand as they case may be, and that it is only in the case of fraudulent presentation or demand by the beneficiary that the bank can resist payment against an apparently conforming presentation or demand. Lord Justice Tomlinson added that he could detect no unconscionability in the seller’s retention of the sum paid by the bank. The Court of Appeal therefore declined to make a declaration to the effect that the seller held the money on trust for the bank.

This decision is a further example of the strict approach that the courts will take to the operation of performance bonds and on demand guarantees, and emphasises that the bank’s liability to pay will not be affected by events arising after a demand is made in good faith.

Wuhan Guoyu Logistics Group Co Ltd & Anr v Emporiki Bank of Greece SA [2013] EWCA Civ 1679