Guarantee agreement between biogas company and sub-contractor resolved in favour of neither party

Buchan Biogas Ltd contracted with Williams Industrial Services Ltd to engineer, procure, and construct the plant. The contractor then engaged BSG Civil Engineering Ltd, who granted a guarantee in favour of the pursuer in respect of the contractor’s duties under the works contract.

The case was heard in the Outer House of the Court of Session by Lord Clark.

Payment on demand

The original works contract was entered into in July 2015. On 6 February 2018, the contractor went into administration, thereby becoming insolvent for the purposes of both the works contract and the guarantee agreement. In August 2019, the pursuer served a demand under the guarantee on the defender seeking payment of £2,019,603.28.

Clause 2.1 of the guarantee agreement indemnified the pursuer against “all loss, debt, damage, interest, cost and expense incurred by the Client by reason of any failure of the Contractor to perform, observe or comply with the Obligations”. Clause 3.2 required payment of the amount of that loss on first written demand. It also provided that the insolvency of the contractor would be conclusive evidence of their default in the performance of their obligations.

The pursuer averred that they had incurred losses in excess of £3 million from the contractor’s insolvency, and that their demand constituted conclusive proof of the defender’s obligation to pay the sum demanded. They submitted that the reference in clause 5.2 of the guarantee, which referred to “the Employer’s written demand”, was to the client, i.e. themselves, and thus under the guarantee the defender was required to indemnify the pursuer on their written demand if the contractor became insolvent.

The defender submitted that the wording of the contract as a whole made it clear that it was not a payment-on-demand contract. The default required to be a real one in order to trigger a liability on the part of the defender and, by virtue of clause 2.1, the liability was for the loss incurred by the pursuer “by reason of any failure by the contractor to perform the obligations”. The object of the instrument was to secure a correctly calculated payment compensating, but not over-compensating, the beneficiary for the loss it actually sustained through the contractor’s breach of the main contract.

It was further submitted by the defender that the guarantee was internally inconsistent as to whether it was a cautionary obligation or an on-demand bond, thus requiring the rejection of some of its provisions in order that it could have effect. This argument was rejected by the pursuer, who further submitted that their approach to the document was much less radical than the deletions envisaged by the defender.

Odd to ignore

In his opinion, Lord Clark began by outlining his approach to the “unusual” demands of the parties in demanding extensive modifications to the guarantee, saying: “In embarking on this exercise, I start by, as it were, clearing the decks. It was not vouched in the productions or submissions that the terms of the Guarantee were derived from, or based upon, a form of Guarantee included in the standard forms of EPC contractual material. It is no doubt correct that one could speculate that an instrument of this degree of sophistication may well, at least in part, have come from a standard form, but I had no grounds in fact for reaching that conclusion. I proceed upon the basis that it is simply unknown whether the Guarantee was so derived or based, or on the other hand was a bespoke drafting exercise.”

Evaluating the submissions of the defender, he said: “One of the clauses which the defender submits ought to be rejected or ignored is clause 3.2. In my view, it would be very odd for a clause containing a concept of such potential significance (the reference to conclusive evidence) simply to be ignored. It is also presented as a separately numbered and expressed clause in the Guarantee, which is indicative of the parties intending it to form part of the Guarantee. I was given no basis for concluding that it had somehow been included as a result of an error. In those circumstances, it must be taken into account.”

On the submissions of the pursuer, he added: “I accept the submission for the pursuer, which I did not understand to be questioned by the defender, that the reference to ‘Employer’ is an error and that it should be taken to mean the pursuer. The pursuer founds very heavily on the fact that this sentence states that the pursuer’s written demand for all claims in excess of £1,000,000 ‘shall constitute conclusive proof (and be admissible as such) of the [defender’s] obligation to pay such sums’.”

He continued: “Such is the apparent force of that final sentence, that the defender submits that it must be rejected and ignored. However, I was given no clear basis as to why I should ignore this final sentence, other than that senior counsel for the defender did not regard it as reconcilable with what was otherwise, in his submission, the proper construction of the Guarantee. Giving the words their ordinary and natural meaning, the written demand constitutes conclusive proof of an obligation to make payment.”

His interpretation of the relevant parts of the agreement as a whole was as follows: “[W]hen the Contractor becomes insolvent or extinct, there is an obligation on the part of, and a direct right against, the defender for payment, without proof of default. To that extent, the instrument can be regarded as creating an obligation to pay on-demand, but clause 5.4 makes it absolutely clear that the defender can, if alleged to be in breach of that obligation, invoke the available defences and the like. It is quite correct that the final sentence of clause 5.2 provides that the written demand shall constitute conclusive proof of the defender’s obligation to pay such sums. Thus, the obligation on the defender to make payment is constituted or proved.”

Acknowledging that his conclusion differed from the submissions of both parties, he added: “The idea that the pursuer could achieve a windfall or indeed simply a payment just based on a claim itself seems odd, given the wording of clause 5.4. Equally, the idea that two provisions in a reasonably clear and refined contractual document require to be completely ignored is also odd. A construction that gives effect to each and every sentence and word in the Guarantee is a much more desirable outcome. It makes straightforward commercial sense to avoid-over-compensation by allowing the defender to access defences which would have been available to the Contractor, rather than having to take the longer route of making payment and then suing the Contractor(through the administrator or liquidator), who then (if able to make payment to the defender) seeks recovery from the pursuer.”

For these reasons, Lord Clark granted neither motion, and put the case out by-order to discuss further procedure.