Be reassured that commercial agreements you make will be upheld in a common sense way by the courts, as demonstrated by the Supreme Court’s recent decision on this case

Just over a year ago I wrote an article for Building about a Court of Appeal decision in the case of Rainy Sky SA and others vs Kookmin Bank. The case concerned the interpretation of the wording in advance payment bonds relating to six ship building contracts. Briefly the facts were as follows -

1. The claimants engaged Jinse Shipbuilding (“Jinse”) to build and sell to each of the buyers a ship for US$33m odd, payable in various instalments over a period of time with the final one payable on delivery.

2. The buyers agreed to provide the first instalment by way of an advance payment to Jinse in return for an advance payment bond from Jinse’s bank - Kookmin Bank (the “Bank”), that would cover subsequent instalments as well.

3. The advance payment bonds (which were materially identical) were provided and then each of the buyers paid the first instalment. One of the claimants also paid the second instalment.

4. Sadly some time later while the ships were being built Jinse experienced financial difficulties with the result that it underwent a Korean corporate insolvency restructuring procedure. The buyers wrote to Jinse asking for their money back with interest but Jinse refused.

5. The buyers also wrote to the Bank asking for payment under the advance payment bond and the Bank refused to pay as well on the basis that the advance payment bonds did not pay out in the particular circumstances the buyers found themselves in.

6. The first instance judge favoured the buyers’ interpretation of the bond wording whereas the Court of Appeal favoured the Bank’s interpretation. The case turned on the interpretation of the bonds and specifically the meaning of the phrase “such sums”.

Clause 2 of the bond entitled the buyers on termination of the contract to repayment of the pre-delivery instalments of the contract price paid before termination of the contract. Clause 3 of the bond stated that “in consideration of your agreement to make pre-delivery instalments … we … undertake to pay to you … on your first written demand all such sums due … under the contract”. The buyers thought “such sums” referred to the pre-delivery instalment referred to at the beginning of clause 3. The Bank on the other hand disagreed and claimed that “such sums” referred to the repayment of the pre-delivery instalments in clause 2 that were only contractually due upon rejection of the ships, termination, cancellation or rescission and not necessarily the circumstances experienced by Jinse.

The Supreme Court’s unanimous decision is a victory for common business sense

During the course of the Court of Appeal hearing there were a number of arguments put forward as to why the Bank’s interpretation should not be favoured - what use is an advance payment bond if it does not pay out on the insolvency of the ship builder? Clearly the intention of all parties must have been for the bond to pay out on the insolvency (as defined in the contract) of Jinse and following a demand from the buyer. Therefore, “such sums” in clause 3 could only have sensibly referred to the pre-delivery instalments in clause 3, repayment of which was due to the buyers in accordance with the demands as sent to Jinse. The Court of Appeal said that there could have been any number of reasons why the parties agreed for the bond not to pay out in relation to the insolvency of the ship builder and it was not up to them to second guess what commercial agreements had been reached between the parties. A number of commentators at the time thought the Court of Appeal’s decision was absurd.

Thankfully the Supreme Court has taken a different view (unanimously I might add) and agreed with the first instance judge. It concluded that while the clause could be open to the two possible interpretations proffered by the parties, the buyers’ interpretation of clause 3 was the one that was preferred and it was consistent with the commercial purpose of the bond. Be in no doubt, however, that the drafting of the bonds was ambiguous - hence the two possible interpretations but the Supreme Court’s unanimous decision is a victory for common business sense, which at this time of economic uncertainty is essential in generating confidence in the business arena. Businesses must have confidence that the bargains they make will be upheld in a genuine common sense way by the courts.

Joe Griffiths is a partner at Edwin Coe