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May 30, 2024

Bank Guarantee Disputes in Thai Construction and Procurement Agreements

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A bank guarantee or bond is a powerful tool that provides contractual parties with security and assurance. Bank guarantees are commitments made by a bank (as a guarantor) on behalf of a customer (as an obligor) to a beneficiary to ensure that certain contractual obligations will be fulfilled. If the customer fails to comply with these obligations, the bank can compensate the beneficiary up to the amount specified in the bank guarantee.

Bank guarantees are widely used in Thailand as a form of security and are common in construction agreements and government procurement contracts, among others. If the beneficiary (e.g., a project owner) concludes that the counterparty in the agreement (e.g., a contractor) has breached the underlying contract in some way, the beneficiary will demand payment from the bank pursuant to the guarantee.

Collecting on a Guarantee and Preventing Payment

In the context of construction and procurement agreements, there are two types of bank guarantees—conditional and unconditional. A conditional bank guarantee means that the project owner must satisfy certain agreed-upon conditions (e.g., provision of proof of the breach, proof of damages, or even consent from the contractor) to demand payment. An unconditional bank guarantee means that the bank must compensate the project owner for the demanded amount (up to the limit specified in the bank guarantee) without any conditions.

When a project owner concludes that a contractor has breached the underlying contract (often for nonperformance or failure to comply with a representation or warranty), the project owner will demand payment from the bank holding the guarantee. Upon receiving such a demand, Thai banks will usually inform the contractor and ask if it has any objections.

Even if the bank guarantee is unconditional, in practice, a bank may be reluctant to make payment if the contractor, as the bank’s customer, strongly objects. This means that if the contractor disagrees with any insinuation by the project owner that a breach has occurred, and there is a risk that the project owner will demand payment under a bank guarantee, the contractor should clearly voice its objection.

To make an effective objection, the contractor should be aware of the various conditions that are attached to the guarantee. Common conditions in Thailand include requirements that the project owner make a demand through a specific channel or method, or within a specific time-period (e.g., 15 days from the date that the project owner became aware of the breach entitling the project owner to make a demand). The Thai Supreme Court has ruled that this is an essential condition to make a demand, and failing to do so would cost the project owner the entire payment under the bank guarantee.

Furthermore, the breach or other event entitling the project owner to make a demand must occur before the expiry date specified on the bank guarantee. In other words, the bank guarantee must be valid when the breach event occurs. If the guarantee is no longer valid at the date of the breach, the bank should deny any payment request. As such, parties should know the expiry date of the guarantee and plan accordingly.

Lastly, the contractor may carefully and selectively provide an argument, together with necessary and sufficient supporting documents, to claim that the project owner’s payment demand has no merit. A common example is to show that the contractor is actually not in breach and that any payment demand by the project owner is misguided and premature. An effective argument by the contractor can help persuade the bank to hold off on making any payment under the guarantee.

If a contractor’s objection to a bank regarding payment is not effective, then the contractor will usually have to resort to court action. An injunction can potentially stop the project owner from demanding payment from the bank or prevent the bank from making payment to the project owner. A court order is required, and in certain limited circumstances, an injunction may be granted on an emergency basis. This is applicable to both litigation and arbitration proceedings. However, Thai courts are generally reluctant to grant emergency injunctions, and the evidentiary standards are high.

Conclusion

Bank guarantees are often an integral part of Thai legal transactions, such as construction and procurement agreements. When disputes arise, and ideally before they do, the contractor and project owner should be fully aware of any conditions attached to guarantees. Swift action is usually required when a party wants to call a bond. It is generally in the best interest of both contractors and project owners to know their respective legal positions and have a ready-made plan to handle any dispute that may arise involving a bank guarantee.

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