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CASE NO.:

Appeal (civil) 955 of 2006

PETITIONER:

M/s BSES Ltd. (Now Reliance Energy Ltd.)

RESPONDENT:

M/s Fenner India Ltd. & Anr.

DATE OF JUDGMENT: 03/02/2006

BENCH:

H. K. Sema & B. N. Srikrishna

JUDGMENT:

J U D G M E N T

(arising out of S.L.P. (C) No. 20062/2004)

SRIKRISHNA, J.

Leave granted.

This is one more instance of an injunction being sought against a

beneficiary seeking to enforce his/her rights under a bank guarantee, albeit

with a novel averment that "lack of good faith" or "enforcing with an

oblique purpose" constituted further exceptions to the general rule against

intervention.

The Facts

M/s Godavari Sugars Ltd. awarded a contract for a captive power

plant to M/s BSES Ltd. (now Reliance Energy Ltd.) (hereinafter "the

Appellant"). The Appellant, in turn, awarded a part of that work to M/s

Fenner India Ltd. (hereinafter "the First Respondent"). In connection with

this, the Appellant issued to the First Respondent, four work orders/

purchase orders, as follows:

"(i) Work Order No. 2245 dated 15.3.2000/ 4.5.2000 for a

sum of Rs.70,00,000/-\005

(ii) Work Order No. 2246 dated 15.3.2000/ 4.5.2000 for a

sum of Rs.5,57,00,000/-\005

(iii) Work Order No. 2247 dated 15.3.2000/ 4.5.2000 for a

sum of Rs.90,00,000/- \005

(iv) Work Order No. 2248 dated 15.3.2000/ 4.5.2000 for a

sum of Rs.50,00,000/-\005"

As required by the terms and conditions of the said work/ purchase

orders, the First Respondent submitted four bank guarantees from the State

Bank of India (hereinafter "the Second Respondent-Bank"), dated

23.3.2000 bearing Nos. 288/99, 289/99, 290/99 and 291/99 in sums of Rs.

7,00,000/-, Rs. 9,00,000/-, Rs. 55,70,000/- and Rs. 38,35,000 respectively.

They were unconditional irrevocable bank guarantees, under which the

Second Respondent-Bank agreed to pay to the Appellant the amount claimed

or demanded by the Appellant. The amounts guaranteed thereunder were

payable with or without any reason in writing from the Appellant, without

protest or demur or proof of satisfaction, and without reference to the First

Respondent, upon being called by the Appellant, irrespective of any dispute

between the Appellant and the First Respondent with regard to or touching

any of the contractual terms between them. They were, of course, subject to

the aggregate limits stipulated in each of the bank guarantees.

On 10.5.2000, the Appellant and the First Respondent entered into a

"wrap-around agreement", under which it was agreed that the First

Respondent would perform its contractual obligations on a turnkey basis viz.

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as a composite one. This principle was also made applicable to the bank

guarantees. Thus, Clause (4) of this agreement in terms says:

"In case of any material breach of any or all the Contracts,

BSES shall have the right to embark upon the retentions and

encashment of Bank Guarantees of all the contracts."

On 4.12.2003, the Appellant invoked the four bank guarantees. On

7.12.2003, the First Respondent invoked the arbitration clause, as provided

in the work/ purchase orders. On 8.12.2003, the First Respondent moved a

petition under Section 9 of the Arbitration and Conciliation Act, 1996

(hereinafter "the Arbitration Act") before the District Court, Madurai,

seeking a declaration that the Appellant was not entitled to invoke the four

bank guarantees. The First Respondent also sought an interim injunction

against the Appellant restraining them from encashing or receiving any

amount under the bank guarantees, pending disposal of the arbitration

proceedings.

On 22.3.2004, the learned Principal District Judge, Madurai,

dismissed the First Respondent's petition by holding that this was not a case

where "irretrievable injustice" would be done by enforcement of the bank

guarantees, nor was it a case where a strong prima facie case of fraud had

been made out. Despite this finding, the learned District Judge took the view

that, although the Appellant was not entitled to an order of injunction, the

Appellant's rights would have to be safeguarded till the matter was disposed

of in the arbitration proceedings. Accordingly, the learned District Judge

directed the Appellant to maintain status quo for a period of one month

(from the date of the order), within which the arbitral proceedings were to be

disposed of. The parties were directed to seek their remedies before the

arbitrator.

Sometime in April 2004, an application was made under Section 17 of

the Arbitration Act before the Arbitral Tribunal. The First Respondent

preferred an appeal before the High Court of Madras challenging the order

and judgment dated 22.3.2004 of the learned District Judge. On 24.5.2004,

even while the arbitral proceedings were pending, the High Court made an

interim order. Further, by the impugned judgment dated 30.7.2004, the High

Court allowed the appeal preferred by the First Respondent and granted the

injunction as prayed for, and set aside the order of the learned District Judge.

The Rule and its Exceptions

Mr. Rohtagi, learned Senior Counsel for the Appellant, urged that the

settled law in this country is that a bank guarantee is an independent contract

between the bank and the beneficiary thereof. Accordingly, irrespective of

any dispute between the beneficiary and the party at whose instance the bank

has given the guarantee, the bank is obliged to honour its guarantee, as long

as the guarantee is unconditional and irrevocable. Our attention was drawn

to the judgment of this Court in U.P. Cooperative Federation Ltd. v. Singh

Consultants and Engineers (P) Ltd. (hereinafter "U.P. Cooperative

Federation"). It was pointed out in that case that a bank guarantee must be

honoured in accordance with its terms as the bank, which gives the

guarantee, is not concerned with the relations between the supplier and the

customer. Neither is the bank concerned with the question whether any of

them have failed in their contractual obligations or not. In other words, the

bank must pay according to the tenor of its guarantee, on demand, without

proof or condition.

There are, however, two exceptions to this rule. The first is when

there is a clear fraud of which the bank has notice and a fraud of the

beneficiary from which it seeks to benefit. The fraud must be of an

egregious nature as to vitiate the entire underlying transaction. The second

exception to the general rule of non-intervention is when there are "special

equities" in favour of injunction, such as when "irretrievable injury" or

"irretrievable injustice" would occur if such an injunction were not granted.

The general rule and its exceptions has been reiterated in so many judgments

of this Court, that in U.P. State Sugar Corporation v. Sumac International

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Ltd., (hereinafter "U.P. State Sugar Corporation") this Court, correctly

declared that the law was "settled" .

Mr. Sorabjee, however, tried to expand upon the settled exceptions to

the rule by first, relying on an order of this Court in State of Haryana v.

Continental Construction Ltd. (hereinafter "Continental Construction

Ltd."). We are afraid that the short order in Continental Construction Ltd.

(supra) appears to have been made on the narrow facts of that case and does

not constitute a precedent binding us. Moreover, as mentioned earlier, a line

of judgments of this Court have long settled the law relating to the

invocation of bank guarantees.

Second, Mr. Sorabjee placed reliance on a number of foreign

judgments, especially that of the Queen's Bench Division in TTI Team

Telecom Ltd. v. Hutchison 3G UK Ltd., wherein, the rule and its

exceptions in England have been elegantly summarized. Mr. Sorabjee

placed special emphasis on the following propositions:

"\005(3) The basis for a contention of a breach of faith must be

established by clear evidence even for the purposes of interim

relief. A breach of faith can arise in such situations as: a failure

by the beneficiary to provide an essential element of the

underlying contract on which the bond depends; a misuse by

the beneficiary of the guarantee by failing to act in accordance

with the purpose for which it was given; a total failure of

consideration in the underlying contract; a threatened call by

the beneficiary for an unconscionable ulterior motive; or a lack

of an honest or bona fide belief by the beneficiary that the

circumstances, such as poor performance, against which a

performance bond had been provided, actually exist.

(4) In addition, where it appears that the call would be a

nullity, a court will intervene to restrain that invalid call.

Examples are where a condition precedent to a call has not yet

been fulfilled; where the bond is a 'see to it' bond necessitating

prior proof of loss by the beneficiary or poor performance by

the third party which has not yet been established; or where the

demand or the supporting documents show that the demand

does not conform to the requirements imposed by the bond for a

valid demand.

(5) Otherwise, a threatened call will not be restrained. In

particular an allegedly incorrect calling of a performance bond

will not be restrained merely because the factual basis of the

call arising out of the underlying contract is disputed. Thus

disputes as to whether a breach of contract, a determination of a

contract for cause, a repudiation of a contract or the incurring of

loss have occurred, where these are events covered by the

performance guarantee, will not be allowed to found an

application to restrain a call unless these disputes reveal a

breach of faith by the beneficiary. Any consequent payment

under the bond to the beneficiary which over-compensates the

beneficiary may be recouped in the 'accounting' exercise that

the third party may claim in subsequent litigation against the

beneficiary under the underlying contract\005"

Mr. Sorabjee, finally contended that in Singapore, where commercial

cases are expeditiously disposed of, the Court of Appeal in Samwoh Asphalt

Premix Pte. Ltd. v. Sum Cheong Piling Pte. Ltd. has held that calling a

performance guarantee for an oblique purpose was not permissible.

Specifically, using it as a "bargaining chip", as a "deterrent" or in an

"abusive" manner, would invite an injunction from the court. He submitted

that the Singapore court has gone so far as to say that the unconscionable

calling of a bank guarantee was an exception independent of fraud.

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We are afraid that in the face of the law succinctly laid down in U.P.

Cooperative Federation (supra) and reiterated in numerous judgments of

this Court referred to earlier, we are unable to accept the wide proposition of

law laid down in the foreign judgments cited by Mr. Sorabjee. Whatever

may be the law, as to the encashment of bank guarantees in other

jurisdictions, when the law in India is clear, settled and without any

deviation whatsoever, there is no occasion to rely upon foreign case law.

Contentions of the First Respondent

A reading of the impugned judgment of the High Court shows that the

learned Judge was cognizant of the settled rule relating to bank guarantees,

but came to the conclusion that the encashment of the bank guarantees by

the Appellant would present a case under one of the exceptions to the rule

viz. would cause "irretrievable injustice" to the First Respondent.

Learned counsel for the First Respondent strongly supported this line

of argument of the High Court. He contended that the bank guarantees were

for different purposes, either to: (i) secure the payment of advances or (ii)

secure performance. As far as the bank guarantees to secure advance

payments were concerned, he contends that there is a provision in the

contract that the amount of advance was to be recovered by deduction from

the gross accepted amount of any running bill. The contract stipulates two

modes of recoveries: (i) By deduction from the gross amount from the

running bill, and (ii) By invocation of the bank guarantee. Mr. Sorabjee

further urged that it had been found by the District Court and the High Court

concurrently that the entire amount of the bank guarantee had been

recovered from the running bills of the First Respondent. Accordingly, he

argued that, encashing the bank guarantee after having recovered the full

amount of advances from the running bills was an "egregious fraud" or at

any rate, created a situation of "special equities" in favour of the First

Respondent. The High Court, he submits, was fully justified in granting an

injunction since these facts were prima facie established as triable issues.

Further, Mr. Sorabjee submitted that the fourth bank guarantee (No.

291/99 dated 23.3.2000) was further qualified by "due and faithful

performance of the contract", and that the contract had been admittedly

performed. In the circumstances, he submits that, the encashment of this

guarantee was fraudulent or created a situation of special equities, which

was covered by U.P. Cooperative Federation Ltd. (supra). Mr. Sorabjee's

assertions, however, need closer scrutiny through examining the contractual

clauses, as well as through examining the conduct of the First Respondent.

The Contractual Clauses

Mr. Sorabjee is correct in that both the District Court and the High

Court have concurrently held that the documents placed on record do bear

out that the entire guarantee amount had been recovered. We are, however,

unable to accept Mr. Sorabjee's contention that the bank guarantees were

given only for the purpose of security as against the advance paid to the First

Respondent. Indeed, Mr. Rohtagi is justified in his submission that the final

contract was a "wrap-around agreement". The terms of the agreement signed

on 10.5.2000 make it clear, after referring to the four contract agreements for

work/ purchase orders, that:

"\005It is specifically agreed between the parties that

CONTRACTOR is not only responsible and liable for its scope

of supplies in Contract No. I and for its scope of services in the

Contract Nos. II, III and IV, but also to perform and take care of

all such works which though are not specifically mentioned in

these four contracts, but are essential to complete the

"BAGASSE HANDLING SYSTEM PACKAGE" as a whole in

its true intent and requirement unless the exclusion(s) are

specifically agreed by BSES. Contract-III shall also include

unloading of plant and equipment supplied under Contract-I

consequent to receipt at site, movement within site to stores

and/or to intermediate location and/or to final location, co-

ordination with Owner for entry in their store documents, issue

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of Store Issue Voucher, etc."

The agreement further provides vide Clause (2):

"The successful and timely completion of the 'BAGASSE

HANDLING SYSTEM PACKAGE' by CONTRACTOR and

its performance thereof under Contract-I, Contract-II, Contract-

III and Contract-IV shall be jointly and severally bound by the

terms of the "Contract" and shall be jointly and severally liable

to BSES for the performance of all obligations under the

"Contract".

Clause (3) of the agreement declares:

"CONTRACTOR agrees that if liquidated damages for delay

and/or performance guarantees, claim on

warranty/workmanship, punch lists and any breach of contract

by CONTRACTOR are applied under the provisions of any of

the four "Contracts", it automatically shall be construed that the

same provision can be applied on all the four contracts as read

together. BSES shall have the right to treat the contracts jointly

as turnkey contract and money can be recovered by BSES

including but not limited to liquidated damages, fines or

penalties of whatever nature as per the "Contract" and any

excess costs and expenses associated with the completion of the

job by BSES for the "BAGASSE HANDLING SYSTEM

PACKAGE"."

Clauses (4) and (5) in express terms respectively state:

"In case of any material breach of any or all the Contracts,

BSES shall have the right to embark upon the retentions and

encashment of Bank Guarantees of all the contracts."

"Notwithstanding the works undertaken by the designated sub-

contractor(s) of the Contractor subject to provisions of the

contract, the Contractor shall remain wholly liable to perform,

fulfill and discharge all the obligations and responsibilities

under this contract on a turnkey basis and the same shall in no

way be reduced or diminished for any reasons whatsoever."

Upon a careful reading of this agreement, we are satisfied that the

contract though, for the sake of convenience, was split up into four sub-

contracts (viz. the four work/ purchase orders), was a composite contract

executable on a turnkey basis. The terms of this turnkey contract were

reduced into writing by the "wrap-around agreement" of 10.5.2000. We are

of the definite view that under the "wrap-around agreement", the Appellant

had the right to encash any or all of the guarantees for any breach in any of

the terms of the four contracts. Hence, we are unable to accept the

submission of Mr. Sorabjee that the first three bank guarantees were only for

securing the advances paid and that it was only the fourth bank guarantee

(No. 291/99 dated 23.3.2000) that was liable to be called for failure to

perform the contract. In fact, an appraisal of the terms of the contract leads

us to the conclusion that the bank guarantees were intended for both

purposes: for securing the advances paid to the First Respondent and also for

securing due performance of the contract.

Renewal of the Guarantees

Our conclusions as to the real purpose of the bank guarantees are

fortified by our examination of the conduct of the First Respondent. Indeed,

we repeatedly asked Mr. Sorabjee as to why and under what circumstances

the First Respondent continued the first three guarantees, purportedly

pertaining to advances, even after the First Respondent knew that the

advance amount had been fully recovered. Mr. Sorabjee claimed sometime

to put an Additional Affidavit to deal with this query, which according to

him, had been raised by this Court for the first time. In the Additional

Affidavit (dated 11.11.2005) filed on behalf of the First Respondent, the

explanation given for the continuation of bank guarantees even after full

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recovery of the advances is that:

"\005the petitioner (the Appellant) has been insisting on extension of

bank guarantees and threatened to encash them if they were not

extended,\005 Thus under petitioner's threat of encashment of the bank

guarantees, and in the hope of amicably settling the issue with the

petitioner, the first respondent (sic) felt compelled to extend the bank

guarantees."

In our view, this is an unsatisfactory explanation in the circumstances

of the case and in any event, this explanation neither establishes "egregious

fraud" by the Appellant nor creates a situation of "irretrievable injury".

The Fourth Bank Guarantee

Finally, Mr. Sorabjee tried to intervene in the fourth bank guarantee

(No.291/99 dated 23.3.2000) and contended that this was the only bank

guarantee intended to secure "due and faithful performance of the contract".

He further urged that the performance had been duly satisfied and, therefore,

there was no warrant for calling this bank guarantee. Mr. Sorabjee turned to

a certificate issued by M/s Godavari Sugar Mills Ltd. (dated 18.3.2003) to

contend that there had been due and satisfactory performance of the contract.

We are, however, not impressed with Mr. Sorabjee's argument because the

evidence on record is precisely to the contrary. In fact, the certificate, in

terms, says that there was a technical defect found:

"\005for which correction will be done by Fenner representative

(sic) as assured by him. After completion of all those points

further tests can be carried out."

Accordingly, we are prima facie not satisfied that performance had

been duly and satisfactorily certified. Under the terms of the "wrap-around

agreement", the Appellant was entitled to encash all or any of the bank

guarantees for breach of the First Respondent's obligations under any one of

the contracts. In our view, it is the case of the Appellant that there was no

satisfactory performance of the contract, as a result of which, the Appellant

was justified in encashing the concerned bank guarantee. Indeed, as per the

terms of the bank guarantee itself, the Appellant is the best judge to decide

as to when and for what reason the bank guarantees should be encashed.

Further, it is no function of the Second Respondent-Bank, nor of this Court,

to enquire as to whether due performance had actually happened when,

under the terms of the guarantee, the Second Respondent-Bank was obliged

to make payment when the guarantee was called in, irrespective of any

contractual dispute between the Appellant and the First Respondent. Indeed,

in similar circumstances, this Court in General Electric Technical Services

Company Inc. v. Punj Sons (P) Ltd., held:

"\005the Bank must honour the bank guarantee free from

interference by the courts. Otherwise, trust in commerce

internal and international would be irreparably damaged. It is

only in exceptional cases that is to say in case of fraud or in

case of irretrievable injustice, the court should interfere.\005The

nature of the fraud that the courts talk about is fraud of an

"egregious nature as to vitiate the entire underlying

transaction". It is fraud of the beneficiary, not the fraud of

somebody else."

This was also a case where, after having recovered certain amount

from the running bills, a call was made on the bank guarantee in respect of

the full guaranteed amount. In an observation with direct relevance for the

present case, this Court pointed out that the bank was not concerned with the

outstanding amount payable under the running bills:

"The right to recover the amount under the running bills has no

relevance to the liability of the Bank under the guarantee. The

liability of the Bank remained intact irrespective of the recovery

of mobilisation advance or the non-payment under the running

bills. The failure on the part of \005(the Beneficiary)\005to specify

the remaining mobilisation advance in the letter for encashment

of bank guarantee is of little consequence to the liability of the

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bank under the guarantee."

Irretrievable Injury

As we have stated repeatedly, the First Respondent can succeed only

if the case can be brought under the two accepted exceptions to the general

rule against intervention. Evidently, there is no "egregious fraud" so as to

fall within the first exception. Hence, only one more point remains: whether

encashment of the guarantees will create special equities (in particular,

"irretrievable injury") in favour of the First Respondent? We are not

satisfied on facts that such is the present situation.

There is no dispute that arbitral proceedings are pending. In fact, we

were shown that one of the disputes referred to arbitration is whether the

bank guarantees are null and void. Further, one of the substantive prayers in

the arbitration made on behalf of the First Respondent, is to make an award

declaring the four bank guarantees unenforceable, illegal, void and liable to

be discharged. Further, there is also a prayer for permanent injunction to

restrain the Appellant from encashing the bank guarantees. Therefore, since

this prayer is already pending before the Arbitral Tribunal, we see no

situation of "irretrievable injustice" if, at the present moment, the Appellant

is allowed to encash the bank guarantees. For justice can always be rendered

to the First Respondent, if he succeeds before the Arbitrators. Nor do we see

any special equity in favour of the First Respondent, when there is in fact a

dispute that performance was prima facie not satisfactory, which enabled the

Appellant to encash all or any of the four bank guarantees.

The Final Findings

In this view of the matter, we see no merit in the stand taken by the

First Respondent. In our judgment, the Madras High Court erred in

interfering with the bank guarantees and in granting injunction as sought for.

In the result, the impugned judgment of the High Court is set aside and the

judgment of the learned District Judge, Madurai is affirmed, except with

regard to the maintenance of status quo directed on the encashment of

guarantees. It is made clear that the Appellant is entitled to encash the bank

guarantees and the Second Respondent-Bank shall be free to honour its

guarantees, subject to adjustment in the arbitral proceedings.

The appeal is accordingly allowed with costs quantified at Rupees

Twenty Thousand.