Certain types of fraud by the beneficiary of a demand guarantee or letter of credit (Autonomous Payment Undertakings) of which there is very strong evidence may exempt a bank from its otherwise strict duty to pay against an apparently complying demand.

However, parties to Autonomous Payment Undertakings should be mindful that, even when presented with strong evidence of such fraud, the English courts will very rarely order a bank not to pay a beneficiary who has made an apparently complying demand. Among other factors, the courts are keen to avoid undermining the integrity of the banking system and the value of Autonomous Payment Undertakings as autonomous and irrevocable instruments.

A very limited exception

Applicants, in particular, should be realistic about the difficult odds of successfully getting an injunction to restrain a bank from paying against an apparently compliant, but allegedly fraudulent, call. This is because:

• an injunction is a discretionary remedy and, generally, will only be granted if there is no other adequate alternative remedy (e.g. damages) to order the bank not to pay against a fraudulent demand;
• there is a very high standard of proof for fraud – it must be clear or obvious – and an applicant must make the bank sufficiently aware of the fraud; and
• crucially, establishing fraud is not enough: the balance of convenience – the harm to the beneficiary in preventing the bank from paying, weighed against the harm to the applicant in allowing the bank to pay – must justify restraining payment. This requires "extraordinary facts", which will vary from case to case.

The recent case of Tetronics (International) Limited v. HSBC Bank Plc, BlueOak Arkansas LLC [2018] EWHC 201 (TCC) provides a lucid illustration of the "very considerable difficulty" facing any applicant seeking an injunction to prevent the bank from paying the beneficiary, even where the beneficiary's fraud is established.

The court found that the applicant (Tetronics) had met the rigorous pre-trial evidential test for the fraud exception. Even so, it held that the balance of convenience ultimately favoured permitting payment to the beneficiary.

Background

Tetronics provided services to BlueOak under a New York law supply contract. The contract was backed by a £3.8 million English law advance payment guarantee, with BlueOak as beneficiary (the Guarantee).

BlueOak made a call on the Guarantee but Tetronics sought to prevent the bank from paying out, alleging (among other things) fraud by BlueOak. The court granted an interim injunction restraining payment. Tetronics applied to have the injunction continued. BlueOak argued the injunction should be discharged.

The court's approach

Mr. Justice Fraser applied a four-step analysis.

a) Was BlueOak's demand valid on its face? – Yes.

Then, applying the pre-trial test for the fraud exception set out the Privy Council's judgment in Alternative Power Solution Ltd v Central Electricity Board [2014] UKPC 31:
Was it seriously arguable that the only realistic inference was that:

b) BlueOak could not honestly have believed in the validity of its demands under the Guarantee? – Yes.

c) The bank was aware of BlueOak's fraud? – Yes.

Tetronics had therefore established a "cogent and compelling case of fraud" by BlueOak of which the bank was sufficiently aware. The remaining issue was:

d) Did the balance of convenience favour preventing the bank from paying?

Weighing the balance of convenience

The judge initially found that there were "extraordinary facts" supporting a rare decision to injunct the bank – if the bank paid the fraudulent demand then Tetronics would immediately become insolvent.

However, evidence emerged from separate arbitration proceedings between Tetronics and BlueOak that Tetronics would not in fact face insolvency if the bank paid under the Guarantee, as Tetronics' shareholders would advance additional funds to cover Tetronics' reimbursement to the bank.

On these facts, Mr Justice Fraser reconsidered the balance of convenience and held that the bank should pay BlueOak's fraudulent demand.