ACC BABCOCK LIMITED v. STRAW PRODUCTS LIMITED — 1985 DIGILAW 29 (DEL)

JAGDISH CHANDRA, J. ( 1 ) THE plaintiff company entered into an agreement dt. 21st Mar, 1980 with the defendant company to deliver to the defendant plant, machinery and equipment for a dry process cement plant proposed to be set up by the defendant as also to render engineering and certain other services, on terms and conditions stated therein. Disputes and differences arose between the parties and the arbitration clause contained in Article XXI of the aforesaid agreement dt. 21-3-1980 has been sought to be invoked by the plaintiff for the resolving of those disputes and for that purpose the plaintiff has brought the main petition under S. 20 of the Arbitration Act, 1940 praying for the filing of the arbitration agreement in court and for referring the disputes and differences between the parties to arbitration in accordance with the provisions of the arbitration agreement. A further prayer for the grant of a permanent order and injunction is also made seeking to restrain the defendant from recovering any sum under the bank guarantee dt. 16th April, 1981 executed by the State Bank of India, Manager (Credit) having its office at Bombay Samachar Marg, Bank Street, Bombay (hereinafter to be referred to as the Bank ) in favour of the defendant company Straw Products Limited. ( 2 ) THE plaintiff also moved an interim application being I. A. No. 200 of 1984 under S. 41 of the Arbitration Act, 1940 for a temporary injunction till the disposal of the main case, seeking to restrain the defendant company from invoking and/or recovering and/or receiving any moneys from the aforesaid bank under the aforesaid bank guarantee dt. 16th April, 1981 and also seeking to restrain the bank from making any payment and/or to the order of and/or for the benefit of the defendant under the said bank guarantee. ( 3 ) THE bank has been added as a party only in the aforesaid interim application I. A. No. 200/84 whereas in the main case the bank is not a party. It is alleged that the encashment of the bank guarantee is subject only to the performance of the various conditions set out in the contract between the parties. This application has been supported by an affidavit deposed to by Pramod Shah, Company Secretary of the plaintiff company. It is alleged that the encashment of the bank guarantee is subject only to the performance of the various conditions set out in the contract between the parties. This application has been supported by an affidavit deposed to by Pramod Shah, Company Secretary of the plaintiff company. ( 4 ) ON the other hand, the defendant company has, in a nutshell, asserted that the bank guarantee in question provides the payment to be made by the bank to the defendant without any demur on the first demand of the defendant and that such demand in terms of the bank guarantee has already been made and the bank guarantee has made the demand on the part of the defendant conclusive as regards the amount due and payable by the bank, whereas the plaintiff being no party to the bank guarantee is stranger to the bank guarantee and thus does not come into the picture at all when the defendant seeks to encash the same. It is also alleged by the defendant that the bank guarantee itself provides that any disputes raised by the plaintiff under the main contract would be totally irrelevant so far as the encashment thereof at the demand of the defendant was concerned. The averments made in the reply of the defendant are supported by an affidavit deposed to by G. A. R. Murthy, Technical Manager of the defendant company. ( 5 ) THIS guarantee was executed by the bank in favour of the defendant in consideration of the defendant having entered into the main contract dated 21st March, 1980 with the plaintiff company for supply, inter alia, of plant, machinery and equipment for 1500 MT/day dry process Cement Plant and pursuant to Article XIV of the said contract whereby the plaintiff had to furnish bank guarantee for 5% of the contract price before the commencement of despatches for fulfilment of the performance guarantee as specified in the contract. The maximum liability under this bank guarantee was not to exceed Rs. 36,10,000. 00 for failure to fulfil the performance guarantee as per the contract. It is necessary to set out the relevant portions of the various clauses of this guarantee and the same are reproduced as under : "2. . . . . . . . . . . The maximum liability under this bank guarantee was not to exceed Rs. 36,10,000. 00 for failure to fulfil the performance guarantee as per the contract. It is necessary to set out the relevant portions of the various clauses of this guarantee and the same are reproduced as under : "2. . . . . . . . . . . WE, State Bank of India do hereby agr to pay without any demur to SPL (Straw Products Ltd, defendant) on first demand an amount not exceeding Rs. 36,10,000. 00 (Rupees thirty-six lakhs ten thousand only) for failure to fulfil the performance guarantee as per the contract. We, the Bank agree that SPL shall be the sole judge whether AVB (ACC Babcock Ltd. , plaintiff) has fulfilled the performance guarantee as provided in the contract. 3. Any demand made by SPL under the signature of its Authorised Officer on the Bank shall be conclusive as regards the amount due and payable by the Bank under the guarantee. The Bank waives in favour of SPL, all the rights, defences and pleas which, we the bank as guarantors and/or AVB may be entitled to. To give effect to this guarantee, the SPL may act as though, we the Bank, were the principal debtors. xx xx xx 5. The Bank further agrees that this guarantee is irrespective of breach of any of the terms and conditions of the said agreement and the extent of loss, cost charges and expenses suffered/incurred or that would be suffered or incurred by SPL on account thereof. " ( 6 ) FROM the perusal of the various clauses of this performance bank guarantee it is made out prima facie that the plaintiff does not figure anywhere as far as the enforcement of the same by the defendant against the bank is concerned and that the bank has undertaken to pay to the defendant without any demur on first demand by the defendant, and the defendant has also been made the sole judge whether the plaintiff has fulfilled the performance guarantee as provided in the contract and the guarantee further makes the demand made by the defendant conclusive as regard the amount due and payable by the bank under the guarantee. The bank has also waived in favour of the defendant all the rights, defences and pleas to which the bank as guarantor and/or the plaintiff may be entitled. The bank has also waived in favour of the defendant all the rights, defences and pleas to which the bank as guarantor and/or the plaintiff may be entitled. It would thus appear that the bank guarantee, provided as per original contract between the parties, is irrespective of the considerations or failures under the original contract and thus appears to be an independent contract between the bank on the one hand and the defendant on the other, even though this guarantee contract has come into being on account of a provision in the original contract between the parties. Such a bank guarantee is fused with autonomy of its own without recourse to the underlying original contract of supply and the Bank must honour its obligations as per the bank guarantee. The obligation of the Bank is absolute and irrevocable on demand for payment of the guaranteed amount by the defendant and is not dependent upon the correct decision of the disputes between the parties under the original contract in regard to the performance guarantee. Such a bank guarantee stands on the same footing as an irrevocable letter of credit or a promissory note on demand. ( 7 ) THE learned counsel for the plaintiff asserted that this bank guarantee was subject to the performance guarantee as per the original main contract between the parties and under Art. XIII Cl. 12. 2 of the original contract dt. 21st Mar. ( 7 ) THE learned counsel for the plaintiff asserted that this bank guarantee was subject to the performance guarantee as per the original main contract between the parties and under Art. XIII Cl. 12. 2 of the original contract dt. 21st Mar. 1980 the guarantee tests were required to be carried out by the defendant under the directions of the plaintiffs personnel and at the time and for the purpose of carrying out the said guarantee tests, the defendant was required to provide experiencedoperating personnel in sufficient numbers and the defendant was also required at such time to make arrangements for uninterrupted supply of raw materials, power and water and ensure regular running of the plant during the period of trial and accept the responsibility for appropriate working of the plant not supplied by the plaintiff, and that the plaintiff by its various letters and even otherwise repeatedly called upon the defendant to make the above mentioned arrangements to enable the plaintiff to carry out the said guarantee tests but the defendant, however, failed and neglected to make the said arrangements or to accept the responsibility for appropriate working of the plant not supplied by the plaintiff and also that the defendant even failed and neglected to reply to any of the said letters addressed to the defendant by the plaintiff, and thus the plaintiff had been deliberately prevented by the defendant from carrying out any guarantee tests at any time as contemplated by the original agreement which is a condition precedent to any claim or demand being made or raised under the bank guarantee. For this contention he also seeks assistance from the following sentence appearing in the bank guarantee : ". . . . . We State Bank of India do hereby agree to pay without any demur to SPL (defendant) on first demand an amount not exceeding Rs. 36,10,000. 00 for failure, to fulfil the performance guarantee as per the contract. " ( 8 ) THE reliance of the learned counsel for the plaintiff is on the words "for failure to fulfil the performance guarantee as per the contract" appearing in the aforesaid sentence. This contention does not appear to be correct for the reason tt the maximum guaranteed amount of Rs. 36,10,000. " ( 8 ) THE reliance of the learned counsel for the plaintiff is on the words "for failure to fulfil the performance guarantee as per the contract" appearing in the aforesaid sentence. This contention does not appear to be correct for the reason tt the maximum guaranteed amount of Rs. 36,10,000. 00 has been made payable in this guarantee deed without any demur to the defendant on defendant s first demand and the defendant having been made the sole judge of the fact whether the plaintiff has fulfilled the performance guarantee as provided in the contract. The aforesaid wordings appearing in the bank guarantee simply refer to the payment of the maximum amount of Rs. 36,10,000. 00 by the bank to the defendant on account of the failure to fulfil the performance guarantee as per the original contract and the consideration of the payment of this amount is the failure to fulfil the performance guarantee provided in the original contract for which the defendant has been made the sole judge, meaning thereby that neither the plaintiff nor the bank can take up the plea that the defendant has failed to fulfil the performance guarantee as per the original contract. Thus, the maximum amount of the bank guarantee simply relates to the failure on the part of the plaintiff to fulfil the performance guarantee as per the original contract but such failure to fulfil the performance guarantee as per the contract cannot be pressed into service or agitated by the plaintiff in the matter of the encashment of the bank guarantee by the defendant from the bank, in view of the clear intention expressed in the guarantee deed and already referred to above. So, the various letters placed on the records of this case by the plaintiff requiring the defendant to make the arrangements to enable the plaintiff to carry out the guarantee tests mentioned in the original contract, appear to be irrelevant for the encashment of this bank guarantee. ( 9 ) THE bank guarantee appears to contain the unconditional and absolute liability of the bank for paying the amount guaranteed thereunder and the defendant is also the sole judge as regards the amount due and payable by the bank under the guarantee as provided in the terms of the guarantee deed. ( 9 ) THE bank guarantee appears to contain the unconditional and absolute liability of the bank for paying the amount guaranteed thereunder and the defendant is also the sole judge as regards the amount due and payable by the bank under the guarantee as provided in the terms of the guarantee deed. However, demand has to be made by the defendant upon the plaintiff and the defendant has placed on the records of the case a photo copy of the notice of demand. The letter dt. 30th Dec. 1983 by the bank to the plaintiff admits the demand having been made by the defendant upon the bank. ( 10 ) IN the English authority reported as Edward Owen Engineering Ltd. v. Barclays Bank International Ltd. , (1978) 1 QB 159, the question involved was the interpretation of a bank guarantee in almost similar circumstances and which provided for the payment of the guaranteed amount "on demand without proof or conditions. " At pages 171 and 172 of this authority Lord Denning M. R. has held as follows: "all this leads to the conclusion that the performance guarantee stands on a similar looting to a letter of credit. A bank which gives a performance guarantee must honour that guarantee according to its terms. It is not concerned in the least with the relations between the supplier and the customer; nor with the question whether the supplier has, performed his contracted obligation or not: nor with the question whether the supplier is in default or not. The bank must pay according to its guarantee, on demand, if so stipulated. without proof or conditions. The only exception is when there is a clear fraud of which the bank has notice. . . . . . . . . . So, there it is: Barclays Bank International has given its guarantee I might almost say its promise to pay to Umma Bank on demand without proof or conditions. They gave that promise, the demand was made. The bank must honour it. This court cannot interfere with the obligations of the bank. "this authority also took note approving of the observations made by Kerr J. in R. D. Harbottle (Mercantile) Ltd v. National Westminster Bank Ltd. (1978) QB 146, as also of Roskill LJ in Howe Richardson Scale Co. They gave that promise, the demand was made. The bank must honour it. This court cannot interfere with the obligations of the bank. "this authority also took note approving of the observations made by Kerr J. in R. D. Harbottle (Mercantile) Ltd v. National Westminster Bank Ltd. (1978) QB 146, as also of Roskill LJ in Howe Richardson Scale Co. Ltd. v. Polimex-Cekop and National Westminster Bank Ltd. June 23, 1973; Court of Appeal (Civil Division) Transcript No. 270 (reported in (1978) 1 Lloyd s Rep 161 ). The observations of Kerr J. read as follows : "it is only in exceptional cases that the courts will interfere with the machinery of irrevocable obligations assumed by banks. They are the life-blood of international commerce. Such obligations are regarded as collateral to the underlying rights and obligations between the merchants at either end of the banking chain. Except possibly in clear cases of fraud of which the banks have notice, the courts will leave the merchants to settle their disputes under the contracts by litigation or arbitration. . . . . . . . . . The courts are not concerned with their difficulties to enforce such claims; these are risks which the merchants take. In this case the plaintiffs took the risk of the unconditional wording of the guarantees. The machinery and commitments of banks are on a different level. They must be allowed to be honoured, free from interference by the Courts. Otherwise, trust in international commerce could he irreparably damaged. " ( 11 ) THE observations of Roskill LJ are reproduced as under : "whether the obligation arises under a letter of credit or under a gurarantee the obligation I of the bank is to perform that which it is required to perform, that particular contract and that obligation does not in the ordinary way depend on the correct resolution of a dispute as to the sufficiency of performance by the seller to the buyer or by the buyer to the seller as the casemay be under the sale and purchase contract; the bank here is simply concerned to see whether the event has happened upon which its obligation to pay has arisen. " ( 12 ) A similar question arose in United Commercial Bank v. Bank of India, AIR 1981 SC 1426 , wherein it was held as follows : "a bank issuing or confirming a letter of credit is not concerned with the underlying contract between the buyer and seller. Duties of a bank under a letter of credit are created by the document itself, but in any case it has the power and is subject to the limitations which are given or imposed by it, in the absence of the appropriate provisions in the letter of credit. In view of the banker s obligation under an irrevocable letter of credit to pay his buyer customer cannot instruct him not to pay. The opening of a confirmed letter of credit constitutes a bargain between the banker and the vendor of the goods which imposes on the banker an absolute obligation to pay. The same considerations apply to a bank guarantee. A letter of credit sometimes resembles and is analogous to a contract of guarantee. A bank which gives a performance guarantee must honour that guarantee according to its terms,"it is also observed in para No. 39 of this authority that the courts usually refrain from granting injunction to restrain the performance of the contractual obligations arising out of a letter of credit or a bank guarantee between one bank and another, and if such temporary injunctions were to be granted in a transaction between a banker and a banker, restraining a bank from recalling the amount due when payment is made under reserve to another bank or in terms of the letter of guarantee or credit executed by it, the whole banking system in the country would fail. ( 13 ) IN Tarapore and Co. , Madras v. V/o Tractoro-export Moscow, AIR 1970 SC 891 , wherein in pursuance of a contract with a Russian Firm for supply of machinery, an Indian Firm opened a confirmed, irrevocable and divisible letter of credit with a Bank in favour of the Russian Firm, in a suit by the Indian Firm alleging that machinery supplied was not upto the contract, it was held that the court would not be justified in granting temporary injunction restraining the Bank as well as the Russian Firm from taking any further steps in pursuance of that letter of credit. It was also held that an irrevocable letter of credit had a definite implication and it was a mechanism of great importance in international trade and any interference with that machanism was bound to have serious repercussions on the international trade, and, except under very exceptional circumstances, the courts should not interfere with that mechanism. It was further held as follows : "opening of a confirmed letter of credit constitutes a bargain between the banker and the vendor of the goods, which imposes upon the banker an absolute obligation to pay, irrespective of any dispute there may be between the parties as to whether the goods are up to contract or not. . . . . . . . . The letter of credit is independent of and unqualified by the contract of sale or underlying transaction. The automony of an irrevocable letter of credit is entitled to protection. As a rule Courts refrain from interfering with that automony. " ( 14 ) IN Pesticides India, Props Mewar Oil and Gen. Mills Ltd. v. State Chemicals and Pharmaceuticals Corporation of India Ltd. AIR 1982 Delhi 78, Pesticides raised a dispute asserting that the Corporation had committed breach of contract between the parties inasmuch as they were bound to supply the balance quantity of 29 metric tons on high seas basis which they had failed to do. In other words, they said that they were not legally bound to accept the balance quantity of 29 metric tons on ex-godown basis because the ex-godown price was higher. There was a bank guarantee. The Corporation made a demand on the bank to pay the amount covered by the guarantee. When Pesticides took note of this they immediately brought a petition and sought an injunction against the bank restraining it from making payment to the Corporation. The question posed was as to what was the meaning and effect of the bank guarantee. There was also an arbitration clause in the contract between the parties. It was observed as under: ". . . . . . . . . . WHETHER the Corporation has committed breach of contract or Pesticides are in default is a question which has to be decided by the arbitrator. But the bank guarantees are independent of this dispute. They are autonomous in character. They are self-contained. It was observed as under: ". . . . . . . . . . WHETHER the Corporation has committed breach of contract or Pesticides are in default is a question which has to be decided by the arbitrator. But the bank guarantees are independent of this dispute. They are autonomous in character. They are self-contained. The bank has undertaken to pay the amount of the guarantees in the event of default/failure on the part of Pesticides to observe all or any of the conditions regarding the supply of goods "on first demand without protest or demur and without reference to" Pesticides. They have further agreed to make the payment "notwithstanding any contestation" by Pesticides or the "existence of any dispute whatsoever" between the Corporation and the Pesticides. It means this that the bank has agreed to pay "unconditionally and irrevocably" the amount of the bank guarantees in the event of default of Pesticides. "it was further observed that although the agreement was expressed to be a guarantee, it had much more the characteristics of a promissory note than the characteristics of a guarantee and that it was virtually a promissory note payable on demand. ( 15 ) IN another case in Delhi High Court Premier Tyres Ltd. v. State Trading Corporation of India Ltd, (1981) 51 Com. Cas. 316 (DB), the plaintiff therein manufacturer of automobile tyres, tubes etc. , applied to the defendant therein, the State Trading Corporation for allotment of 360mt of natural rubber and the plaintiff also furnished performance bank guarantee for a sum of Rs. 3. 6 lakhs at the rate of Rs. 1,000. 00 per MT wherein it was clearly stipulated that the bank was liable to pay to the defendant the amount guaranteed or any portion thereof, on demand, without protest or demur and without reference to the plaintiff and notwithstanding any contestation by the plaintiff of the existence of any dispute between the parties, and under the terms and conditions of the bank guarantee the decision of the defendant that there had been default by the plaintiff would be final and binding on the plaintiff. Disputes arose between the parties under the contract between them inasmuch as the plaintiff found that 20 MT out of the last lot of the material was water contaminated and the defendant could not deliver the balance of 30 MT of the material, for which payment had been made, for want of stock. The defendant wrote a letter to the bank alleging that the plaintiff had failed to observe the terms and conditions of the allotment letter and demanded a sum ofRs. 1,60,000. 00, the proportion of the earnest money, from the bank under the bank guarantee. An application was filed by the plaintiff company for the grant of an ad interim injunction restraining the defendant from realising any amount under the performance bank guarantee till the final disposal of the suit filed by it for restitution of the amount covered by the bank guarantee. It was held in appeal as under : "the contract between the bank and the respondent was an independent autonomous one. The efficacy of the contract was not controlled by another independent contract between the appellant and the respondent. The encashment of bank guarantee by the defendant had nothing to do with the alleged disputes between the appellant and the respondent which must be decided on the terms of the contract without involving the bank guarantee. The bank guarantee was in the widest terms. The terms of the bank guarantee, therefore, whether a dispute has been raised by the appellant or not was a totally irrelevant circumstance so far as it coancerned the right of the respondent to proceed against the bank guarantee. " ( 16 ) IN a Calcutta case reported as Texmaco Ltd. v. State Bank of India (1979) 83 Cal WN 807 (DB), the bank, under the performance guarantee, undertook irrevocably and unconditionally, obligations without any contestation, demur, or protest and/or without any reference to the manufacturer, and/or without questioning the legal relatinship subsisting between the exporter and the manufacturer, to pay the sum of money under the guarantee, on first demand being made by the exporter. It was held that the performance guarantee was a distinct and separate contract to which only the bank and the exporter were parties and by and under the said guarantee the bank irrevocably and unconditionally undertook to pay to the exporter the guaranteed amount on the first demand whenever the exporter decided that the bank was liable to pay under the guarantee and further that the plaintiff-manufacturer at whose instance that performance guarantee was executed by the bank, knew that under the terms of that performance guarantee the exporter was the sole arbiter to decide as to whether there was any liability foisted on the bank under the guarantee and that in such circumstances and in terms of that performance guarantee the beneficiary exporter was held to be the sole arbiter to decide as to whether the respondent bank was liable and obliged to pay the money under the guarantee. It was further held that the clause for payment in the performance guarantee was binding on the bank notwithstanding any dispute between the beneficiary of the bank guarantee and the manufacturer under the export contract. So, it would be seen that in that authority only an inference was drawn from the terms of the bank performance guarantee that the beneficiary thereunder was the judge to decide whether the bank was liable and obliged to pay the money under the guarantee, even though the beneficiary was not in terms made the sole judge for that purpose. In the case in hand the performance bank guarantee specifically and in terms makes defendant 1 the sole judge whether the plaintiff has fulfilled the performance guarantee as provided in the original contract between the parties as also in repsect of the amount due and payable by the bank under the guarantee. Other clauses in the bank guarantee simply further strengthen the factum of defendant being the sole arbiter in regard to its claim upon the bank under the bank guarantee. ( 17 ) THE learned counsel for the plaintiff claimed special equities in his favour by asserting that the defendant had agreed to pay to the plaintiff a sum of Rs. 56,67,171. 00 and so in the face of that admitted liability the defendant should not be allowed to encash the bank guarantee which guarantees the payment of maximum amount of Rs. 36,10,000. 00. 56,67,171. 00 and so in the face of that admitted liability the defendant should not be allowed to encash the bank guarantee which guarantees the payment of maximum amount of Rs. 36,10,000. 00. On the other hand, such an admission on the part of the defendant was controverted by the learned counsel for the defendant and he urged that the defendant has to receive an amount of over Rs. 82 lakhs on account of expenses already incurred and another sum of about Rs. 60 lakhs on account of estimated further expenditure from the plaintiff besides loss of profit amounting to about Rs. 950 lakhs. Even if the sum of Rs. 56,67,171. 00 is taken to be an admitted amount as urged by the learned counsel for the plaintiff, it would be not just to keep in mind this amount so as to deny the defendant the right it has under the performance bank guarantee inasmuch as huge amounts are also , claimed by the defendant, as aforesaid, as due to it from the plaintiff and which claims are to be decided by the arbitrator under the original contract between the parties. If ultimately it is found by the arbitrator that the defendant was not entitled to the amount obtained by it under the bank guarantee, the defendant shall be liable for the refund or adjustment of th. same towards the claims of the plaintiff, if allowed by the arbitrator. So, the contention of the learned counsel for the plaintiff based on special equities in favour of the plaintiff cannot be allowed to prevail. ( 18 ) FRAUD has been held, in some of the aforesaid authorities, to be the only instance when such like performance bank guarantees may not be held to be irrevocable and absolute and that too when the fraud is established or obvious to the knowledge of the bank. In the race of the clear terms of the performance bank guarantee, already set out above, no such fraud to the knowledge of the bank. much less established or obvious fraud, appears to have been made out by the plaintiff. ( 19 ) THUS, it would be seen that the plaintiff has no prima facie case in its favour and the defendant appears to be entitled to invoke and encash the performance bank guarantee against the bank. much less established or obvious fraud, appears to have been made out by the plaintiff. ( 19 ) THUS, it would be seen that the plaintiff has no prima facie case in its favour and the defendant appears to be entitled to invoke and encash the performance bank guarantee against the bank. When there is no prima facie case in favour of the plaintiff it is hardly necessary to go into the questions of balance of convenience and irreparable loss. Anyhow, the questions of balance of convenience and irreparable loss must also be decided against the plaintiff for the reasons already referred to above while dealing with the plea of special equities urged by the learned counsel for the plaintiff. ( 20 ) THUS, in view of what has been stated above, the application of the plaintiff for the grant of temporary injunction is dismissed leaving, however, the parties to hear their own costs. But in order to safeguard the a interests of the plaintiff in view of the ultimate possible success of the plaintiff in the arbitration decision against the defendant, in respect of the ultimate liability of the defendant, the defendant shall pay to the plaintiff interest at the rate of 12% per annum from the date of the defendant receiving the amount under the bank guarantee from the bank till repayment thereof to the plaintiff. It is hardly necessary to state that the observations made in this order are only prima facie in nature and shall not affect the decision on the merits of the main case.