The Unconscionability Exception

A.    The Unconscionability Exception in Singapore

8.17 The unconscionability exception had a shaky start in Singapore,^[753] before it was explicitly confirmed to be distinct from the fraud exception by the Court of Appeal in the case of GHL Pte Ltd v Unitrack Building Construction Pte Ltd.^[754] Although the courts have resisted giving a definition of ‘unconscionability', some broad guidance can be obtained from the cases.

test is the one set on in Raymond Construction Pte Ltd v Low Yang Tong: Unconscionability ‘involves unfairness, as distinct from dishonesty or fraud, or conduct of a kind so repre­hensible or lacking in good faith that a court of conscience would either restrain the party or refuse to assist the party. Mere breaches of contract by the party in question... would not by themselves be unconscionable.'^[755] In Eltraco International v CGH Development (Eltraco^,), the Court of Appeal stated: ‘In every instance of unconscionability there would be an element of unfairness. But the reverse is not necessarily true. It does not mean that in every instance where there is unfairness it would amount to “unconscionability”.'^[756] This emphasises that unfairness is just a factor, albeit an important one, to be considered in the assessment of the beneficiary's behaviour.^[757] However, in appropriate circumstances, unfair­ness or a lack of bona fides could be sufficient to constitute unconscionability. The kind of situation that would amount to unconscionability would depend on the facts of each case and there is no pre-determined categorisation.^[758] There can be overlap between fraud and unconscionability, but whilst ‘in every instance where there is fraud there would have been a lack of bona fides or an element of unfairness, it does not follow that in every instance where the beneficiary of a performance bond lacks bona fides or behaves unfairly, there is necessarily fraud'.^[759] Where there are genuine disputes between the applicant and the benefi­ciary, a call on the bond cannot be termed as abusive, as the beneficiary is entitled to protect their own interest.^[760]

8.18

The juridical basis for adopting unconscionability as a ground for granting injunctions lies in the equitable nature of the injunction.^[761] The Singapore courts have explained that just as considerations of conscience are applicable in relation to the use of injunctions in other areas of the law, these considerations should also be applied for the purposes of determining whether a call on a performance bond should be restrained in order to achieve a fair balance between the interests of the applicant and the beneficiary.^[762] In determining whether a call on a bond is unconscionable, the entire picture must be viewed, taking into account all the relevant factors.

8.19

A study by Professor Tang Hang Wu of the reported and unreported cases on unconscionability in Singapore between the years 2000 to 2015 identifies some factors which the courts have taken into account in granting injunctions.^[765] These factors include whether:^[766] (i) the beneficiary of the bond has contributed to the delay in the works;^[767] (ii) there is independent evidence, such as evidence from the architect, that there was no delay or defect in the works;^[768] (iii) the claim for damages was time barred;^[769] (iv) no performance was due on the sub-contract because the beneficiary’s main contract had been terminated;^[770] and (v) the call on the bond was not due to the applicant’s poor performance, but based on ulterior motives, such as attempting to force the applicant to take over a contract.^[771] This useful summary should be treated as just a rough indication, bearing in mind the general approach of the court stated in the previous paragraph that the context in which the facts occur is important.

B.                  The Unconscionability Exception in the UK and Other Jurisdictions

8.20 Although the inspiration for the development of the unconscionability exception in Singapore came from the English case of Potton Homes Ltd v Coleman Contractors Ltd,^[772] this exception has hardly taken off in the UK.

Singapore and Australia are sometimes mentioned together as jurisdictions where the Unconscionability exception applies. However, there are significant differences in the two jurisdictions. In Singapore, the Unconscionability exception is a common law rule, whereas the unconscionability rule that applies in Australia^[776] is based on statute.^[777] The provision that is most relevant to unconscionability as an exception to the principle of autonomy in performance bonds is section 20 of the Australian Consumer Law found in schedule 2 of the Competition and Consumer Act 2010 (Cth).^[778] Contravention of this section may result in judicial intervention by the grant of an injunction.^[779] Section 20 is a broad provision which provides that a person ‘[m]ust not in trade or commerce, en­gage in conduct that is unconscionable, within the meaning of the unwritten law from time to time’.

8.22

In the USA, the law relating to letters of credit is found in the UCC.^[781] These provisions apply to both commercial LCs as well as standby credits. Apart from §5-109 on fraud and forgery discussed above, there are no provisions in the UCC on unconscionability or good faith.

ground for granting an injunction, primarily Elian and Rabbath (t/a Elian & Rabbath) v Matsas [1966] 2 Lloyd’s Rep 495 (CA); Cargill International v Bangladesh Sugar (QB) (n 24); and Cargill International SA v Bangladesh Sugar and Food Industries Corp [1998] 1 WLR 461 (CA). He concluded that it was an ‘open question’ whether English law ‘recognised a general lack of good faith or unconscionable conduct exception separate from the fraud exception’ (Enonchong, Independence Principle (n 5) para 7.28).

Although the provisions of §5-109 are relatively broad, the requirements of forgery or ma­terial fraud go beyond Unconscionability or bad faith.

C.   Policy Reasons for an Unconscionability Exception in Performance Bonds Cases

8.23 Two main reasons have been given by the Singapore courts for adopting a more lenient standard for the grant of injunctions in performance bonds cases, as compared to cases involving commercial LCs.^[782]

8.24 The first reason stems from the inherent nature of the performance bond.

8.25 The second reason relates to the function of performance bonds. Unlike the commercial LC which is a form of payment in exchange for goods, a performance bond is just a guarantee of performance. Even if the beneficiary is prevented from claiming on the bond initially, it will still be paid eventually if it wins the case. In the words of the judge in Chartered Electronics v DBS: A temporary restraining order does not affect the security nor the beneficiary’s rights in it. It merely postpones the realisation of the security until the plaintiff is given an oppor­tunity to prove his case.’^[785]

8.26 These considerations are weighty ones, particularly the first. There is obviously moral hazard associated with a performance bond. An unscrupulous beneficiary can call on a per­formance bond issued in his favour without much effort.^[786] That performance bonds are of this nature makes it important for the courts to be able to intervene to protect the appli­cant. That they are secondary in function minimises the ill effects of doing so. However, the assurance that a beneficiary who is restrained from receiving payment on a performance bond would still get paid later if his claim is proven gives cold comfort, as he expected to get paid immediately on demand.^[787]

D.   Assessing the Unconscionability Exception

It has been suggested that the relative ease of obtaining an injunction based on Unconscionability^[788] is liable to destroy the confidence in the performance bond as being cash in hand and undermine their commercial utility; that determining unconscionability would over-involve the court in disputes arising from the underlying contract; and that the concept of Unconscionability is vague and could lead to uncertainty.^[789] It has also been sug­gested that many of the cases that have been decided on the unconscionability principle could equally have been analysed under the fraud exception.href="#_ftn790" name="_ftnref790" title="">^[790]

8.28

Although it is easier to obtain an injunction based on unconscionability than on fraud, this does not mean that it is necessarily easy to obtain an injunction on the ground of unconscionability.

8.29

There is a perennial tension between interests of the applicant and the beneficiary in the context of performance bonds.^[794] On one hand, ‘[t]he right message should be communi­cated: that the courts will not condone any form of dishonesty or unconscionable behaviour on the part of beneficiaries’^[795] On the other hand, the principle of autonomy is important in international commerce, and ‘[i]t is vital that contracting parties... should be able to rely on the integrity of a bank’s promise to pay upon an independent guarantee regardless of disputes in the underlying contract.'^[796] The decision to recognise the Unconscionability ex­ception is a policy trade-off which the Singapore courts have assessed to be worth making.^[797] They have sought to alleviate the potential unfairness of denying the beneficiary's rights by ensuring that the court's discretion to grant a restraining injunction will be exercised spar­ingly. And, as will be discussed below, if the parties to the underlying contract do not wish the applicant to be able to restrain a call on the bond on the ground of unconscionability, they can provide accordingly in their contract.

8.30 The nature of a performance bond as a potentially oppressive instrument points to the need to protect the applicant from abusive calls. The fraud exception is inadequate to provide such protection. Abusive calls would be encouraged if the test to justify intervention by the court is one that can hardly ever be satisfied. Dishonesty is difficult to show in any context. This, coupled with the high standard of proof, makes obtaining an injunction on the basis of fraud exception almost an impossibility. When referring to ‘the only realistic inference' is fraud test, the Singapore Court of Appeal stated that they expected ‘that it would only be in truly exceptional circumstances that the account party would be able to discharge this high standard of proof'.^[798] In Edward Owen Engineering v Barclays Bank (‘Edward Owen Engineering’), Lord Denning MR observed that the possibility of an abusive call on a per­formance bond was so real that ‘the... supplier, if he is wise, will take it into account when quoting his price for the contract'.^[799] This is certainly practical advice which makes business sense. But taken to its extreme, pricing in the risk of abuse will add to the cost of doing business. Beneficiaries who pay a higher price in the underlying contract may feel that they have paid for the privilege of calling on their performance bonds without fully assessing if their rights to do so have arisen; after all, the applicant half expects that the bond will be called upon. This may cause beneficiaries to call on performance bonds more lightly, with the awareness that fraud will be difficult to prove against them, which diminishes the use­fulness of such bonds. It would be a pity if applicants must accept that there is little that they can do against abusive calls except to pre-empt this by the self-help remedy of charging more, especially if they fail to persuade beneficiaries to agree to provisions in performance bonds that require some form of third-party confirmation (such as the production of archi­tects' certificates) before payment can be triggered under the respective bonds. In the face of the obstacles with the fraud exception, the unconscionability exception helpfully provides an additional tool to deal appropriately with abusive calls.

8.31 The unconscionability exception is able to catch unmeritorious behaviour that would otherwise have been condoned by the fraud exception. On the facts of Edward Owen Engineering, the buyer did not provide an irrevocable confirmed or confirmable letter of

credit as required by the contract.^[800] It proceeded to call on the performance bond sup­plied by the seller, and the House of Lords did not intervene to prevent the buyer from claiming payment, as it could not be shown that the buyer was acting dishonestly in calling on the bond. A somewhat similar situation occurred in Kvaerner Singapore Pte Ltd v UDL Shipping (Singapore) Pte Ltd,^[801] where the buyer was required to pay the balance of the pur­chase price by an irrevocable letter of credit. The buyer failed to provide the letter of credit despite reminders to do so, and eventually called on the performance bond. The court held that establishing the letter of credit was a precondition for calling on the performance bond. In the circumstances, an interlocutory injunction was granted to restrain payment under the bond. Although the word ‘unconscionability’ was not mentioned in this case, it was identified subsequently as illustrating a situation where payment would have been uncon­scionable.^[802] The difference between an unconscionability approach and one based on fraud can be further illustrated by the way in which the Singapore courts viewed the facts in the English case of Cargill International SA v Bangladesh Sugar and Food Industries Corp.^[803] There, the seller was unable to deliver sugar but the court did not restrain the buyer from receiving payment under the bond despite the fact that the buyer had bought sugar more cheaply elsewhere and had suffered no loss. Referring to this case, the Singapore Court of Appeal stated, in Eltraco, that if similar facts had occurred in Singapore, the courts might have granted an injunction based on unconscionability.^[804]

8.32

The view that fraud is too difficult to prove was shared by the majority of a group of Singapore practitioners who participated in a survey on the law of performance bonds.^[805] These practitioners were of the view that unconscionability was a positive development. They felt that fraud was almost impossible to prove, that the unconscionability exception allowed them to deal with abusive calls and that it evened out to some extent the inequality of bargaining power between the parties to the underlying contract. Otherwise, applicants would be powerless when faced with an abusive call on a performance bond.

8.33

It has been suggested that the unconscionability exception in Singapore is equivalent to ‘fraud in the transaction’ and the law could have been developed by broadening the scope of the fraud exception to include ‘fraud in the transaction’ rather than formulating a new unconscionability exception.^[806] This is an interesting suggestion, although applying a modi­fied version of an existing label (‘fraud, in the sense of ‘fraud in the transaction’) to cover an expanded fact situation, rather than formulating a new label (‘unconscionability’) does not solve the problem of having to define this expanded exception, however it is labelled. The meaning of ‘fraud in the transaction’ will have to be developed, just as the meaning of ‘unconscionability’ has to be explained. Ultimately, the main difference between these two approaches is that ‘unconscionability’ does not require dishonesty, whereas any form of fraud, including ‘fraud in the transaction' would, by definition, involve dishonesty. As dis­cussed above, the idea of ‘fraud in the transaction' is not particularly helpful in relation to performance bonds, where the ‘no honest belief' test is preferable.

8.34 While it is true that parties must abide by the bargain that they have made and the risk allo­cation that they have agreed upon, their expectations arising from the contract are also rele­vant. An applicant who agrees to provide a performance bond accepts and expects that the beneficiary can claim on the bond when where is a dispute, without waiting for the dispute in the underlying contract to be settled. But unless there is something in the underlying contract indicating otherwise, the applicant would also expect the beneficiary to be honest in making the call, to act in good faith and to refrain from sharp practice. Indeed, the pro­visions of the underlying contract are relevant, not just in relation to the unconscionability exception, but also in the application of the fraud exception. It is only with reference to the underlying contract that the court can assess whether the beneficiary honestly believed that he had a valid claim when he made the call, or whether he was acting unconscionability. The underlying contract would typically contain an express or implied term that the beneficiary is only entitled to claim on the bond when there is a breach of contract by the applicant.^[807] If the contract had intended for the beneficiary to call on the bond at its discretion, no issue of fraud or unconscionability would arise. It is therefore appropriate for a court of equit­able jurisdiction to have regard to the underlying contract to understand the intentions and expectations of the parties when deciding whether to exercise its discretion to grant a re­straining injunction.

V.