The scope of performance bonds: Clarification or status quo?

September 2007

The scope of performance bonds: Clarification or status quo?

bouton-vers-francaisFrançois Beauchamp
This email address is being protected from spambots. You need JavaScript enabled to view it.
514 878-3280

On August 23, 2007, the Court of Appeal ruled on an appeal from the decision rendered by the Honourable Judge Auclair in the matter of Development Tanaka inc. v. Commission scolaire de Montréal.1 The main dispute involved the contractor’s claim against the owner: the contractor blamed the owner for serious deficiencies in the management of the contract and it reproached the owner for having failed to pay the contractor the sums owed to it.

In this article, we will focus specifically on the claim by Development Tanaka inc. (Tanaka) for interest and the additional indemnity by reason of contractual holdbacks Tanaka alleged to be unjustified.  In order to address this claim, the Court of Appeal considered the scope of the terms used in the performance bond contract.  

Tanaka claimed that the CSDM's holdbacks had been unjustified in light of the terms of the contract of enterprise, which stipulated that holdbacks could not be applied if the contractor provided sufficient security.  Tanaka argued that it had provided sufficient security, because it had submitted the two surety bonds required by the contract forms, namely, a labour and materials payment bond and a performance bond.  

The trial judge concluded that a contract of surety was not sufficient security, within the meaning of the caselaw and the legal doctrine, to properly protect the CSDM against legal hypothecs, but that the CSDM, through its contractual representations, had waived the right to require sufficient security. At the same time, the Superior Court was of the opinion that the owner had been justified in demanding acquittances and releases of the legal hypothecs when making the final payment—at which time the performance bond had expired—so as to ensure that it had clear title to its property.

In connection with its assessment of the sufficiency of the security provided by the contractor, the Court of Appeal examined the scope of the surety bonds.
 
The Court of Appeal agreed with the judge of first instance to the effect that the surety bond covering the contractor's obligations with respect to labour, materials and services contained conditions, but, as regards the performance bond, the Court of Appeal was of the opinion that the obligations assumed by the surety had to be determined.
 
To do so, the Court considered the terms of the surety bond, pursuant to which the surety had undertaken [translation] "to perform the work (…) in accordance with the contract…" and "in the event of the contractor's failure to perform the work, including the work arising under the guarantees," to undertake and continue "the required work (…) failing which the Beneficiary may cause such work to be completed and the Surety shall pay to the Beneficiary any amount in excess of the price agreed upon with the contractor for the performance of the contract."
 
In this wording, the Court found an undertaking by the surety to complete the work and, given that it was not specifically stated that the surety would be required to pay the claims of suppliers and subcontractors having published legal hypothecs, the Court stated that in order to find that such an undertaking existed, it would be necessary to conclude that the undertaking formed part of the surety's obligation to pay any amount in excess of the price agreed upon with the contractor for the performance of the contract.

The Honourable Judge André Forget, writing on behalf of the Court of Appeal, indicated that the courts and the legal doctrine both seem to distinguish between a performance bond that includes the obligation to perform the contract and a performance bond that includes the obligation to perform the work. In that regard, he cited excerpts from the 1975 decision in the matter of L'Union canadienne, compagnie d'assurances v. Assurance-vie Desjardins2,  in which such a distinction was stated, and he referred to doctrinal writings, without qualifying them in any way.
 
He went on to state that there seems to be some controversy regarding the interpretation of performance bonds that contain an undertaking by the surety to perform the work "in accordance with the contract."  According to one interpretation, such wording imposes greater obligations on the surety than simply requiring it to perform the work; according to another interpretation, such wording merely suggests that the surety is required to perform the work in accordance with the drawings and specifications which form the basis of the contract. The Court of Appeal found this second interpretation to be more logical.
 
Relying on the presence of the words "in accordance with the contract" in the case before it, the Court of Appeal nonetheless admitted that it was possible to argue that the surety had the obligation to pay the claims with respect to which legal hypothecs had been published.  However, given that the surety had not been made a party to the case, the Court stated that it could not rule definitively on this matter and added that, because the performance bond contained certain restrictions, it was not necessary for the Court to rule on this matter.
 
Although the Court of Appeal did not rule on the interpretation to be given to a performance bond that refers to an undertaking to comply with the contract, it nevertheless suggested that it would be more logical to view this undertaking as an obligation to comply with the drawings and specifications rather than as a broadening of the surety's obligations.

As regards the issue of distinguishing between a surety bond securing the performance of the contract and a surety bond securing the performance of the work, Justice Forget's comments lead us to believe that he considers making such a distinction to be the position of the courts and the authors.
 
It should be noted, however, that since the wording of the surety bond under consideration guaranteed the performance of the work, the discussion as to whether a surety bond securing the performance of the contract imposes more onerous obligations than a surety bond securing the performance of the work did not apply and could, therefore, be characterized as obiter.  Finally, since the Tanaka judgment did not really examine this issue, it did not comment on the facts in the judgment rendered in the matter of L'Union canadienne, compagnie d'assurance v. Assurances-vie Desjardins, including the fact that, in that case, no labour and materials payment bond had been issued.
 
Ultimately, although this judgment is not conclusive on the issue, it will nevertheless fuel arguments favouring a distinction based on the wording contained in performance bonds.
 
This article has been written with the collaboration of Hélène Mondoux.

--------------------------------------------------
[1] EYB 2007-123436 (C.A) and EYB 2005-91147 (S.C.)  
[2] Québec Court of Appeal, no. 8955, January 29, 1975, Tremblay, Casey and Mayrand, JJ.

This bulletin provides general comments on recent developments in the law. It does not constitute and should not be viewed as legal advice. No legal action should be taken on the basis of the information contained herein.

 

DE GRANDPRÉ CHAIT LLP

1000, Rue De La Gauchetière Street West, Suite 2900 Montréal, Québec Canada H3B 4W5

T 514 878-4311 | F 514-878-4333 | This email address is being protected from spambots. You need JavaScript enabled to view it. | www.degrandprechait.com