TINS' INDUSTRIAL CO LTD v. KONO INSURANCE LTD

IN THE COURT OF APPEAL

No 136 of 1987
(Civil)

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J U D G M E N T

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Hunter, J.A. :

1. This is an appeal from an judgment of Barnett J. given on 2nd October last when he permitted final judgment to be entered for the plaintiff under O. 14 on a performance bond given by the defendant to the plaintiff on 8th October 1985.

2. The background facts insofar as they emerged in evidence can be summarised in this way. On 10th September 1995 a building contract was entered into between the plaintiff, as developer, and the company called Longo Engineering Company, as contractors, for the construction of industrial premises at a site on the Tai Po Industrial Estate. The price (and like most building contracts it was no doubt a starting figure) in the contract was HK$2.6 million. We have not seen the contract, but infer that it provided for the giving by the contractors of a 10% performance bond. It was no doubt as a result of that provision that the performance bond sued upon in this case was given on 8th October, jointly and severally by Longo as contractor and by the defendant as surety.

3. The bond recites this contract and then goes on in these terms :

“NOW THE CONDITION of the above written bond is such that if the contractor shall duly perform and observe all the terms, provisions conditions and stipulations of the said contract on the contractor’s part to he performed and observed according to the true purport intent and a meaning thereof, or if on default by the contractor the surety shall satisfy and discharge the damages sustained by the employer thereby up to the amount to the above written bond then this obligation should be null and void, but otherwise shall be and remain in full force and effect.”

4. It then goes on to deal with provisions about no variation and so on which are common form in any contract of guarantee.

5. What happened on site is a matter about which we have some very shadowy information. It is not unreasonable to infer that they ran into trouble over the ground conditions. Piling plans were submitted by Longo and rejected. Eventually a second set of plans were approved in May 1986. It is said that work then started in June, but was stopped almost at once by the Resident Engineer. He ordered an additional site investigation. That produced the third set of piling plans for which approval was eventually given by the Building & Lands Department as late as 20th November.

6. By two documents dated 26th November the contractors were given conflicting instructions. The first document emanated from the architects, and instructed them to commence work pursuant to these approved piling plans within four days. The second instructions emanated from the developer’s solicitors, and were to vacate the site, in effect, forthwith. That letter asserted that the contractors were in breach of contract in failing themselves to conduct a sufficient site investigation at a much earlier stage and were responsible for all the delays that occurred on site. This conduct was said to constitute a repudiation of the contract which the letter then purported to accept.

7. Two sets of proceedings followed. The first was this action, whereby the plaintiff claimed the sum payable under the bond HK$260,000. By the Statement of Claim in the action, which was endorsed on the writ, the plaintiff, having recited the contract and the bond go on inparagraph 3 :

“In breach of the condition of the said bond Longo failed to perform or observe its obligations under the contract and the plaintiff thereby suffered loss and damage which exceeds the sum stipulated in the bond.

It is a curious pleading. If in fact it is immaterial, as it is now the plaintiff’s submission, it is surprising that it is there. If in fact it is important that breach and damage must be pleaded and proved, one could hardly devise a less sufficient plea of breach and damage.

8. When the matter then proceeded to O. 14, in effect particulars were given of this paragraph in two ways. First the solicitor’s letter of 26th November was relied upon as constituting evidence of the breach and of its acceptance as a repudiation. Secondly it was asserted that a new contract had been entered into between the plaintiff and other contractors at a cost price of HK$6.4 million, and the inference sought to be drawn was that thedamages were to be measured by the difference between HK$2.5 and HK$6.4 million. It is in this action that the judgment appealed from was given by Barnett J.

9. The second action was commenced by the defendant against Longo under its counter indemnity. They also sought to obtain judgment under 0. 14 against Longo, and failed. One does not know the precise reasons for that failure, but Longo in the evidence put before the court, asserted that there had been no breach by them of the building contract, and asserted in substance that the repudiation had been the conduct of the plaintiff in ordering them off the site. Suffice to say that the defendants now find themselves in the unhappy position of having suffered summary judgment at the hands of the plaintiff, but saddled with proof ofclaim under the counter indemnity which they say involves proof of breach of contract and damage. Hence this appeal.

10. Now the learned judge in the reasons for his judgment said the application involved a very simple point.This was whether the plaintiff was correct in the contention that the condition of the bond had been broken, and that the court was not concerned with the underlying contract. That contention seems to have been accepted by the judge because he said he could see no reason for distinguishing the instant case, from the cases mentioned “in the previous Court of Appeal decision”. That decision was given by this court earlier this year in Guangdong Transport Limited v. Ancora Transport and the Bank of China[1]. So the first question raised is whether or not the judge was right to conclude that this was a case where the court was not concerned with the underlying contract.

11. Secondly the judge also went on to assert that he was satisfied that the contractor had failed to perform the building contract, and also that the plaintiff had suffered damages in excess of the amount of the bond. The secondpoint taken on the appeal was that the judge was not entitled to reach that conclusion upon the evidence then before him on an 0. 14 summons.

12. The first issue here is the nature of this bond, and it is common ground between counsel that the outcome turns upon the true construction of the bond. Bonds are conveniently categorised in volume 12 Halsbury’s Laws (4th edition) paragraphs 1386 and 1387 into two different species. The first is what the editors call a single bond, and they go on to say that those “had become rare”. A single bond is a simple demand bond, which is payable on demand, or on production of whatever additional evidence the bond itself may specify. This may be no more than the mere“say-so” or ipse dixit of the beneficiary under the bond. They can be oppressive documents. Perhaps the most notorious, or should I say infamous bond, was that given by Antonio the “Merchant of Venice” to Shylock, which is in fact referred to in the footnote to paragraph 1386. Shakespeare got it right. He wrote of “Your single bond”. We all know what happened to that. Perhaps that may account for the fact that they fell into disuse over the years.

13. They were revived, I think to the surprise of English judges, in 1977, as a result of the practice of purchasers in the Middle East in effect seeking to obtain a built-in discount on the purchase price. The first case to come before the court, came before Kerr J. (as he then was) in 1977, R.D. Harbottle (Mercantile) Ltd. v. National Westminste Bank Ltd[2]. He described the document as “astonishing”, p 150. The matter was then further considered by the Court of Appeal in the next case in the same volume of the law reports Edward Owen Engineering Ltd. v. Barclays Bank International Ltd.[3]. There Lord Denning M.R. said that they were “virtually the same as a promissory note payable on demand” p 170.

14. The effect of those decisions is that the court allied these performance bonds payable on demand with confirmed letters of credit. They said that you have to look to the terms of the separate contract between the bankers, in the same way as you do in looking at confirmed letters of credit, and that for those reasons you were not concerned with the underlying contract. Those cases came before this court in the Guangdong Transport⁽¹⁾ case by analogy, so that when the trial judge here said he could not distinguish the cases referred to Guangdong Transport⁽¹⁾ he was in effect treating this bond as a simple on demand bond.

15. The second type of bond is dealt with in paragraph 1387 of Halsbury’s Laws, and is called a “double or conditional bond” :

“This form of bond is called a double or conditional bond and consists of two parts : first, the obligation, and secondly, the condition. The condition .... specifies the real agreement between the parties.”

One of the best known bonds of this nature was that given by the Trade Indemnity Co. Ltd. to the Workington Harbour and Dock Board, which came before the House of Lords on two separate occasions. The terms of that bond we can see from the report of that case Workington Harbour and  DockBoard v. Trade Indemnity Co. Ltd.(No. 2)[4]. At p 144 in the judgment of Slesser L.J., he sets out the terms of that bond in full. I am not going to read it all. It is sufficient to say that the bond in its effect is indistinguishable from the first part of the bond here, namely the contractor’s part of our bond. In the course of his judgment in that case Greer L.J., on the preceding page 143, says this in relation to this bond :

“The plaintiff bringing an action has not merely to prove a breach of contract : he has to prove the damages which he suffered by reason of that breach of contract.”

The matter that went to House of Lords where for the second time in this litigation the main speech was given by Lord Atkin[5]. He says this, p 105 :

“My Lords, both actions were brought on the money bond.” (that is the first and second actions) It is well established that in such an action the plaintiff has to establish damages occasioned by the breach or breaches of the conditions, and, if he succeeds, he recovers judgment on the whole amount of the bond, but can only issue execution for the amount of the damages proved.”

16. It is Mr. Scott’s submission that those observations have no application to this case, because they were conditioned entirely by the terms of the Actions on Breaches of Bond’s Act 1696 which was then in force in England, and not repealed until a general repealing Act was passed in 1948. He relies in support of that submission, on the alteration Mr. Keating has introduced into his book, the fourth edition of “Building Contracts”. In the most recent supplement, at p 19, he says that all reference to this case should be deleted as : “it turns on a repealed statute”. With the greatest respect we do not agree. That statute allowed the beneficiary in any action under the bond to assign the breaches upon which he relied; to specify those breaches, and to have the damages assessed by the jury only in respect of those breaches. Now it may well be that the beneficiary under the Workington Harbour bond thought reliance could be placed upon that statute, and that they could then sue, the second time round, without being caught by the defence of “res judicata”. If they had succeeded on that plea, we would accept that the action would have turnedupon the provisions of the Act. But the plea failed. What the House of Lords held was that regardless of this Act, they were in fact suing on the same breach and claiming the same damages in both actions. Therefore the plea of res judicata succeeded.

17. We cannot see that these important pronouncements as to the effect of a bond in those terms on the onus of proof, and on what has to be proved, are in any way affected by the particular Act than in force, or its subsequent repeal. We should add the same thought seems to have been expressed by Donaldson J., as he then was, in General Surety & Guarantee Co. Ltd. v. Francis Parker Ltd.[6], at p 20 on what we agree is a materially different form of security. The same view was also expressed by Mocatta J. in Nene Housing Society Ltd. v. The National Westiminster Bank Ltd[7], particularly where he says at p 31 :

“If the plaintiffs can prove before the Official Referee (i.e. at the trial) the allegations in paragraph 11”

then they would in effect succeed . The allegations in paragraph 11 (which he was asked to assume for the purpose of the preliminary issue) were allegations of breach of contract and damage. We would also add that the same view is expressed by the editor of the Building Law Reports, Mr. Humphrey Lloyd, Q.C., an eminent practitioner in this field, at p 25 in the introduction to this report.

18. It is therefore not surprising that Hr. Yu submits : Look at this bond. The words ‘on demand’ do not appear. It follows a typical form. It follows precisely in its first part the Workington Harbour form which had the above effect in that case. Look at the second half which is what concerns the appellants here. This in form is clearly a claim against a surety, and it is elementary that a surety’s liability involves proof first of breach or default by the principal debtor, and secondly of damage, before it arises.

19. In answer to that submission Mr. Scott, with considerable skill and ingenuity has suggested that this is in form a hybrid bond. He accepts that in terms it is a double condition bond. But he says that it has the beneficial effect upon his clients of operating like a demand bond. He says that to trigger the bond, all his client had to do is to make a demand. Hence my remark about paragraph 3 of the Statement of Claim being otiose. The plaintiff had no need whatever to refer to the underlying contract, or to prove anything about it. That is a matter purely for the defence. If this had been a claim against the contractor, it would be for the contractor to prove that he had duly performed all his obligations under contract. In this case, it being a claim against the surety, it is not for him to prove default and damage; it is for the surety to prove no default and no damage.

20. Now the trouble about this bond is that it is written in 18th century (or earlier) language. It is archaic language, and therefore difficult to read and to understand. But we are quite unable to accept that it has the frankly absurd result contended for by Mr. Scott which would turn all concepts of guarantee and the laws of evidence on their head. Nor do we accept that this is the necessary result of a literal reading (again there were shades of Portia in his submission about a literal reading of this bond). He said “look at the words; look at the language; and see where it leads you”. We do not accept that it leads to the conclusion which he urges upon us. One starts with this : the bond is conditional not absolute. Simply taking the contractor’s position, what the contractor is saying is : “if I perform the bond is null and void : and therefore if I perform the bond is discharged”. If you turn that round it means : “if I do not perform I have to pay”. You then ask the question who has to say whether you performed or not? You readily come to the conclusion, we suggest, that he who asserts breach has to prove breach; he who claims under the bond has to prove those breaches.

21. This is precisely the effect of the speeches of Lord Atkin and of the judgment of Greer L.J. It is also the effect of an analysis of these instruments contained in paragraph 19-03 on page 287 of Mr Duncan Wallace O.C.’s recent book on “Construction Contracts”. He says this :

“In spite of a considerable verbal mystique, without doubt deliberately fostered by bonding companies, a bond is in reality no more and no less than a simple undertaking to be answerable for the consequences if the obligation to be guaranteed is not performed. It is in practice a secondary liability arising upon proof of default (unless expressed to be ‘on demand’ (U.K.) or ‘unconditional’ (U.S.)”

He goes on to point out that it would be so much better if this were expressed in the simple terms of a guarantee. Then by way of explanation he says this :

“The practice of bondsmen, however, is to clothe this essentially very simple legal obligation in the almost imcomprehensible jargon of an eighteenth-century English bond (a lawyer’s device used at a time when the concept of a law of contract with a simple consensual basis was undeveloped, while the concept of debt rather than contract was much more easily acceptable to legal theory).”

We have no doubt that that analysis is totally right, and accounts for this archaic language expressed in term of debt. He then goes on to quote from the first speech of Lord Aktin in Trade Indemnity[8] at p 17 where he says this :

“I entertain no doubt that this was a guarantee, and the rights of the parties should be regulated on that footing.”

(I remind myself that that was a bond in the terms of the contractor’s part). He goes on :

“why insurance of credit or contracts, if insurance is intended, or guarantees of the same if guarantees are intended, should not be expressed in appropriate language, passes comprehension”.

We echo these words. It is lamentable that an 18th century English concept should be used in this jurisdiction to confuse everybody, as we think it has confused a lot of people in this case.

22. In support of his argument, Mr. Scott reliedparticularly on some dicta of Fuad J.A. in the case of Bollore Furniture Ltd. and Another v. Banque Nationale de Paris[9], the particular passage relied upon appearing at p 83 . There the learned judge refers to some of the English authorities we have quoted namely :Edward Owen⁽³⁾and Harbottle⁽²⁾. The problem about that case is this.Two different bonds were given. The bond given by the bank to the beneficiary was a bond substantially on the same terms as that before us. The underlying bond or indemnity given by the customer to its banker, was in fact in the on demand, payable without further notice or evidence, form. The issue in that case arose between the customer and the bank. So one does have to read that passage at p 83 with care, realising that the judge was having to consider primarily the meaning of the domestic bond from customer to bank, and particularly the impact upon the construction of that bond of the very different performance bond. Certainly we cannot regard it as any authority for the proposition that in a bond like we have before us, there is no need to look to the underlying contract.

23. In our judgment therefore the trial judge was wrong to say that he could disregard the underlying contract. This in our view is a case where a claimant under the bond has to prove first breach, and secondly damages.

24. We move on to the second question as to whether or not it was open to the trial judge to say that he was satisfied on these two questions. For the purposes ofO. 14 it is clear that he could not be so satisfied. One only has to note the events of 26th November, and the conflicting instructions then given to the builders, to see that everything is open to argument in this case . It is perfectly true that the builders thereafter left the site, and never performed the contract. That event is in the context of this case neutral. It gives no pointer one way or the other as to whether that leaving of the site constituted part of a repudiation      by the builder, or whetherin ordering them to leave the developer was itselfrepudiating. If you cannot decide whether or not there wasa breach you really cannot start to assess the damages. Still less can you, in this case, draw any sort of inference that the difference, the vast difference, between the two contract prices represents the true measure of damages in this case at all. It might well represent the difference between the construction of the building having regard to the real site conditions as they eventually emerged, and as they were thought to be the previous year.

25. In those circumstances in our judgment this appeal must be allowed; the judgment of the court below setaside; and the defendant must be given unconditional leave to defend this claim. It is not necessary to go on togive any further directions. The matter will be regulated by the rules.

Mr.Benjamin Yu (M/s Kao, Lee & Yip) for Defendant/Appellant

Mr. John A. Scott (M/s Masons & Marriott) forPlaintiff / Respondent

[1] Civil Appeal No. 19 of 1987

[2] [1978] 1 QB 146

[3] [1978] 1 QB 159

[4] [1937] 3 All ER 139

[5] [1938] 2 All ER 101

[6] [1977] 6 BLR 16

[7] [1980] 16 BLR 22

[8][1937] AC 1

[9] [1983] H.K.L.R. 78