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CASE NO.: Appeal (civil)  2801 of 2006

PETITIONER: State Bank of India & Anr.

RESPONDENT: Mula Sahakari Sakhar Karkhana Ltd.

DATE OF JUDGMENT: 06/07/2006

BENCH: S.B. Sinha & P.K. Balasubramanyan

JUDGMENT: J U D G M E N T

S.B. SINHA, J. (Arising out of SLP (C) No. 22576 of 2005)  

Leave granted.

BACKGROUND FACTS

       The Respondent is a cooperative society.  It has a sugar factory.  It  entered into a contract for installation of a paper plant at village Sonai on  turnkey basis so as to enable it to utilize the left over material called  "bagasse" of the sugarcane with M/s. Pentagon Engineering Pvt. Ltd. (for  short "Pentagaon").  The total value of the contract was Rs. 3,40,00,000/-.   Pentagon furnished a performance guarantee in regard to the machinery  supplied by it.  The said contract contained a clause for retention of 10% of  the contract price by the cooperative society in the following terms:

"15.2.4         5% of the contract price shall be  payable after satisfactory commissioning and  working of the plant for three months that is three  months from the achievement of the performance  guarantee as stipulated in clause no. 8 and 9 above,  by a separate letter of credit.

15.2.5          5% of the contract price shall be paid  after six months after satisfactory commissioning  of the plant and continuous successful working of  the plant during the period i.e. six months working  of the plant as per clause 8 and 9 above, by a  separate letter of credit."

       Pentagon, however, by a letter dated 6th April, 1985 suggested for a  modification as regards the said payment clause regulating the cooperative  society to waive its rights to retain the said 10% of the contract price, and in  its turn proposed to have a letter of credit so that they can furnish  appropriate bank guarantee; to which the cooperative society accepted  stating:

"You have also to submit the performance  guarantee at 10% of the contract price, if the same  guarantee is not received the karkhana is entitled to  recover it from the balance payment and  accordingly we have deducted it for want of  performance guarantee."

       Pentagon in response thereto by its letter dated 16th April, 1985 agreed

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to the said proposal stating:

"\005As per agreement you have to open separate  L/C for 10% retention which is still not done by  you.  As soon as you open L/C, we will give you  Bank Guarantee for the retention money within 10  to 15 days thereafter."

       The Bank Guarantee/Indemnity was thereafter furnished by the  Appellant herein on or about 7th September, 1985; the relevant clauses  whereof read as under:

"Please find enclosed herewith the bank guarantee  bearing No. 85/17 dated 4th September, 1985  issued by State Bank of India, Dombivli Industrial  Estate Branch, Dombivli.

       The guarantee is issued in pursuance of our  agreement for paper project dated 25.9.1983.  The  guarantee covers 10% retention amount of Rs. 34  lacs.

       An amount of Rs. 13,76,285/- is retained  from the Proforma Invoices of the material reached  at site.

       Kindly release the amount of Rs.  13,76,285/- to be retained by you immediately on  receipt of this guarantee and oblige."

THE DISPUTE

       Disputes and differences arose by and between the cooperative society  and Pentagon.  The contract of Pentagon was terminated by the cooperative  society by a notice dated 17th July, 1987.  A claim of Rs.3,23,28,209.10 was  also raised.  Pentagon not only denied and disputed its liability to pay the  said sum but also, on the other hand, asserted that an amount of  Rs.4,66,73,300/- was due and owing to it by a letter dated 18th July, 1987.   

       The Bank Guarantee was thereafter invoked by the cooperative  society.  The demand of the cooperative society invoking the said Bank  Guarantee met resistance from the Appellant stating that it had executed an  agreement of indemnity pursuant whereto or in terms whereof only losses,  claims, damages, actions and costs which might have been suffered by it,  were covered and the transaction in question does not constitute Bank  Guarantee.  It was, therefore, contended that unless the cooperative society  proved any loss or damage for design, performance, workmanship or supply  of any defective material through a competent court or authority, the  Appellants were not liable to pay the said amount.   

PROCEEDINGS

       Cooperative society thereafter filed a suit in the Court of Civil Judge,  Senior Division, Ahmednagar which was numbered as Special Civil Suit No.  310 of 1987.  An application was filed by the cooperative society in the said  suit for a direction upon the Appellant to deposit the amount of  Rs.34,00,000/-.   

ORDER OF THE COURT

       The matter relating to passing of an interim order went upto the High  Court.  The High Court by an order dated 23rd February, 1988 directed that  the said amount be retained by the Appellant subject to the condition that in  the event, the suit is decreed the said amount would be paid with  interest @

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12% per annum.  The suit was dismissed.  An appeal was preferred  thereagainst by the cooperative society before the High Court.  The High  Court construing the said agreement dated 25.9.1983 to be a Bank Guarantee  decreed the suit directing Appellant to pay the said sum of Rs.34,00,000/-  with interest @ 14% per annum.

       The Appellant is, thus, before us.

SUBMISSIONS

       Mr. G.E. Vahanvati, learned Solicitor General appearing on behalf of  the Appellants submitted that:

(i)     On a true construction of the document dated 4th September, 1985,  it would be seen that the same is a contract of indemnity and not a  Bank Guarantee.

(ii)    The High Court committed a manifest error in considering the oral  evidence adduced by the parties in construing the said document  dated 4th September, 1985.

(iii)   Interest awarded @ 14% per annum is contrary to and inconsistent  with the directions of the High Court as contained in its order dated  23rd February, 1988.

       Mr. Naphade, learned Senior Counsel appearing on behalf of the  cooperative society, on the other hand, submitted that:

(i)     the substance of the matter must be considered in the backdrop of  events in which the Bank Guarantee was furnished by the  Appellant and for that purpose surrounding circumstances were  relevant.  As the terms of contract need not necessarily be gathered  from one document, the relevant circumstances could also be  considered, they being:-

(a)     The document in question is by way of a letter.  It refers to  the original agreement dated 29.5.1983 in terms whereof  the cooperative society agreed to purchase from Pentagon  the paper plant on turnkey basis.  The said agreement  stipulates that final payment should be made to the supplier  on his furnishing a Bank Guarantee to the cooperative  society for design, performance, workmanship or against  defective materials or equipment supplied.

(b)     Pantagon was a client of the Appellant and it had  approached  it for furnishing the Bank Guarantee.

Strong reliance in this behalf has been placed on S. Chattanatha  Karayalar v. The Central Bank of India and Others [1965 (3) SCR 318] and  P.L. Bapuswami v. N. Pattay Gounder [1966 (2) SCR 918].

BANK GUARANTEE

       The Operative portion of the Bank Guarantee dated 7th September,  1985 reads, thus:

"NOW THEREFORE THIS BANK  GUARANTEE is made in favour of Mula Sahakari  Sakhar Karkhana Ltd. by State Bank of India  (Dombivli Industrial Estate Branch) agreed  security the State Bank of India (Dombivli  Industrial Estate Branch) hereby agrees and  undertake subject to the terms and conditions set  forth in this agreement to indemnify and keep  indemnified Mula Sakhari Sakhar Karkhana Ltd.

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against all losses, claims, damages actions and cost  in respect of such sums which the supplier shall  become liable to pay as the terms of the said  order."

       In addition to the aforementioned, the Appellant agreed to the other  terms and conditions referred to therein, stating :

"NOTWITHSTANDING anything hereinbefore  contained, our maximum liability under this  guarantee is restricted to Rs. 34,00,000/- (Rupees  Thirty four Lacs only).  This guarantee shall  remain in force upto 3rd September 1987 unless a  suit or action to enforce claim under this guarantee  is filed against us on or before the 3rd September,  1987 all right under this guarantee shall be  forfeited and we shall be relieved and discharged  from all liabilities hereunder."

       The High Court, however, despite noticing the said document in  extenso, committed a manifest error in opining:

"\005The recital in the preamble in question itself  cannot be the foundation to interpret the document  in question as a document of indemnity\005"

       Although it was opined that the same was intended to be a contract of  indemnity, the High Court wrongly observed:

"\005There was no objection of any kind referred to  or placed on the record by the appellants.  The  Officer of the Bank stated before the Court that the  document in question was intended to be a contract  of guarantee and not a contract of indemnity.  The  written document (Exhibit-46) as quoted above  lays emphasis on the preamble as under\005"

       Yet again, in the said paragraph, the operative portion of the  document was erroneously described as a preamble stating:

"\005The preamble of the document in question  creates an impression that the said document is a  contract of indemnity and not a contract of  guarantee."

       The High Court, furthermore, inserted some words in the said  document which in fact were not there, as for example, in paragraph 31 of  the impugned judgment it added the term "unequivocal condition" which  term did not find place in the document in question.  Similarly, in paragraph  34, it was stated:

"\005The appellants are entitled to their claimed  money without any delay or demur.  The nature  and need of such commercial contracts and  documents need to be respected by the parties  concerned\005"

       Yet again, it was stated:

"If the terms and conditions of the Bank Guarantee  are unconditional and absolute, the respondents  have no choice but to honour the same\005"

                                                       (Emphasis added)         No such terms were used in the said document.  The approach of the

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High Court on construction of the said document was, thus, patently wrong.   

       The High Court committed a manifest error in terming the operative  portion of the document as a preamble.  It had inserted terms and  expressions which did not find place in the document in question.

       The High Court furthermore considered the oral evidence adduced by  the parties despite the bar contained in Sections 91 and 92 of the Indian  Evidence Act holding:

(i)     "\005The testimony of these witnesses, in no  way, derogates the document in question.   On the contrary, the evidence supports the  purpose and object of the execution of the  Bank Guarantee in question.  It also supports  that the parties, specially the appellants are  the creditors-beneficiaries, the respondents \026  Bank are the guarantors \026 the surety and the  supplier is M/s Pentagon \026 the principal  debtor.  As we have noted and as  contemplated under Section 124 of the  Contract Act, such Bank Guarantee should  have three ingredients, i.e., creditor,  guarantor and principal debtor.  On a bare  reading of this document, it is nothing but a  tripartite agreement between the parties.   M/s. Pentagon submitted the said Bank  Guarantee by its letter dated 7th September,  1985 to the appellants.  The appellants, as  noted above, without any demur or  objection, accepted this document as a Bank  Guarantee and based upon the same, the  amount was released.  There is no evidence  to support that in absence of this bank  guarantee, the amount would not have been  released by the appellants."

(ii)    "\005Therefore, according to us, the express  terms of the written agreement in question,  supported by the testimony of the  respondent \026 Bank’s Officer itself, apart  from the appellants, some statements in the  cross-examination or raising doubts about  the nature of the agreement by one of the  Bank witness, that itself would not affect the  written agreement in question\005"

(iii)   "\005In this background, we cannot overlook  the circumstances under which the particular  words were used and/ or misused\005"

       A document, as is well known, must primarily be construed on the  basis of the terms and conditions contained therein.  It is also trite that while  construing a document the court shall not supply any words which the author  thereof did not use.  

The document in question is a commercial document.  It does not on  its face contain any ambiguity.  The High Court itself said that ex facie the  document appears to be a contract of indemnity.  Surrounding circumstances  are relevant for construction of a document only if any ambiguity exists  therein and not otherwise.   

       The said document, in our opinion, constitutes a document of  indemnity and not a document of guarantee as is clear from the fact that by

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reason thereof the Appellant was to indemnify the cooperative society  against all losses, claims, damages, actions and costs which may be suffered  by it.  The document does not contain the usual words found in a bank  guarantee furnished by a Bank as, for example, "unequivocal condition",  "the cooperative society would be entitled to claim the damages without any  delay or demur" or the guarantee was "unconditional and absolute" as was  held by the High Court.

The High Court, thus, misread and misinterpreted the document as on  scrutiny thereof, it had opined that it was a contract of guarantee and not a  contract of indemnity.

       The document was executed by the Bank in favour of the cooperative  society.  The said document indisputably was executed at the instance of  Pentagon.   

       We have hereinbefore noticed the surrounding circumstances as  pointed out by Mr. Naphade as contained in Clauses 15.2.4 and 15.2.5 of the  contract vis-‘-vis the letters exchanged between the parties dated 6.4.1985,  11.4.1985, 16.4.1985 leading to execution of the document dated 07.09.1985  by the First Appellant in favour of the cooperative society.   

       We are, however, unable to accept the submissions of the learned  Senior Counsel that the bank guarantee must be construed in the light of  other purported contemporaneous documents.  A contract indisputably may  be contained in more than one document.  Such a document, however, must  be a subject matter of contract by and between the parties.  The  correspondences referred to hereinbefore were between the cooperative  society and Pentagon.  The said correspondences were not exchanged  between the parties hereto as a part of the same transaction.  The Appellant  understood that it would stand as a surety and not as a guarantor.   

       The decision of this Court in S. Chattanatha Karayalar (supra) on  which reliance was placed by Mr. Naphade is not applicable to the fact of  the present case.  Therein, the construction of a promissory note executed in  favour of a Bank was in question.  The said promissory note was construed  in the context of the letters and the hypothecation agreement executed by the  borrower on the basis whereof it was held that the status of the Appellant  therein with regard to the overdraft amount was that of a surety and not that  of a co-applicant.  In the said decision itself, Ramaswami, J. opined:

"\005The provisions of Section 92 of the Evidence  Act do not apply in the present case, because  Defendant 3 is not attempting to furnish evidence  of any oral agreement in derogation of the  promissory note but relying on the existence of a  collateral agreement in writing \027 Exs. A & G  which form parts of the same transaction as the  promissory note \027 Ex. B\005"

       The High Court proceeded on the basis that Section 92 of the  Evidence Act would be attracted in the instant case but despite the same it  referred to the oral evidence so as to find out the purported circumstances  surrounding the transaction, which in our view, was not correct.   

       In P.L. Bapuswami (supra), relied upon by Mr. Naphade, this Court  was concerned with a question as to whether Ex. B-1 therein was a  transaction of mortgage by conditional sale or a sale with a condition of re- transfer in the light of Section 58(c) of the Transfer of Property Act.  We are  not concerned with such a case here.         It is one thing to say that the nature of a transaction would be judged  by the terms and conditions together with the surrounding and/or attending  circumstances in a case where the document suffers from some ambiguities  but it is another thing to say that the court will take recourse to such a  course, although no such ambiguity exists.

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       [See    Bishwanath Prasad Singh v. Rajendra Prasad and Anr. [(2006)  2 SCALE 699]

       It is beyond any cavil that a bank guarantee must be construed on its  own terms.  It is considered to be a separate transaction.

       If a construction, as was suggested by Mr. Naphade, is to be accepted,  it would also be open to a banker to put forward a case that absolute and  unequivocal bank guarantee should be read as a conditional one having  regard to circumstances attending thereto.  It is, to our mind, impermissible  in law.

       In New India Assurance Company Ltd. v. Kusumanchi Kameshwara  Rao and Another [(1997) 9 SCC 179], it is stated:

"\005It is obvious that when such guarantee bonds  are reduced to writing the express terms of this  writing containing the guarantee bond would be  the repository of the obligations of the guarantor  flowing from the surety bond. As per Sections 91  and 92 of the Indian Evidence Act, 1872 no  evidence dehors the terms of the agreement,  whether documentary or oral, can be led by the  parties to get out of the express terms thereof.  Whether the express terms of the guarantee bond  give rise to the contract of guarantee sought to be  enforced will be the only limited enquiry which  could be gone into by the courts while deciding the  rights and obligations flowing from such contract  of guarantee which is a tripartite contract between  the creditor, principal debtor and the surety. Once  such suretyship agreement is established on the  clear terms of the bond then as laid down by the  aforesaid decisions of this Court no latitude can be  given to the contracting party, namely, the surety  or even the principal debtor to enable them to get  out of the obligations of the suretyship agreement  flowing from such contract, except in exceptional  circumstances as indicated in these decisions."

       In Hindustan Construction Co. Ltd. v. State of Bihar and Others  [(1999) 8 SCC 436], the guarantee in question was in the following terms:

"\005We, State Bank of India, incorporated under  the State Bank of India Act, 1955, and having one  of our branches at Nyayamurti C.N. Vaidya Marg,  Fort, Bombay-400 023 (hereinafter referred to as  ’the said Bank’), as instructed by the contractor,  agree unconditionally and irrevocably to guarantee  as primary obligator and not as surety merely, the  payment of the Executive Engineer, Kharkai Dam  Division II, Icha, Chaliama, Post Kesargarhia,  District Singhbhum, Bihar, on his first demand  without whatsoever right of objection on our part  and without his first claim to the contractor, in the  amount not exceeding Rs.10,00,000 (Rupees ten  lakhs only) in the event that the obligations  expressed in the said clause of the above- mentioned contract have not been fulfilled by the  contractor giving the right of claim to the employer  for recovery of the whole or part of the advance  mobilisation loan from the contractor under the

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contract\005"

       Despite such conditions, holding that the guarantee in question was a  performance guarantee, this Court opined:

"The Bank, in the above guarantee, no doubt,  has used the expression "agree unconditionally and  irrevocably" to guarantee payment to the  Executive Engineer on his first demand without  any right of objection, but these expressions are  immediately qualified by following: "... in the event that the obligations  expressed in the said clause of the above- mentioned contract have not been  fulfilled by the contractor giving the right  of claim to the employer for recovery of  the whole or part of the advance  mobilisation loan from the contractor  under the contract." This condition clearly refers to the original  contract between HCCL and the defendants and  postulates that if the obligations, expressed in the  contract, are not fulfilled by HCCL giving to the  defendants the right to claim recovery of the whole  or part of the "advance mobilisation loan", then the  Bank would pay the amount due under the  guarantee to the Executive Engineer. By referring  specifically to clause 9, the Bank has qualified its  liability to pay the amount covered by the  guarantee relating to "advance mobilisation loan"  to the Executive Engineer only if the obligations  under the contract were not fulfilled by HCCL or  HCCL has misappropriated any portion of the  "advance mobilisation loan". It is in these  circumstances that the aforesaid clause would  operate and the whole of the amount covered by  the "mobilisation advance" would become payable  on demand. The bank guarantee thus could be  invoked only in the circumstances referred to in  clause 9 whereunder the amount would become  payable only if the obligations are not fulfilled or  there is misappropriation. That being so, the bank  guarantee could not be said to be unconditional or  unequivocal in terms so that the defendants could  be said to have had an unfettered right to invoke  that guarantee and demand immediate payment  thereof from the Bank."

       It was clearly held therein that the bank guarantee constitutes a  separate, distinct and independent contract between the bank and the  defendants.

       In this case, the document in question does not specifically refer to  any particular clause of the contract.  In fact the contract does not contain  any clause requiring Pentagon to furnish any Bank Guarantee.

       We may now consider the decision in Daewoo Motors India Ltd. v.  Union of India and Others [(2003) 4 SCC 690].  The bank guarantee  involved therein inter alia read as under:

"We, Times Bank Ltd., PTI Building, Parliament  Street, New Delhi, 110 001 further agree that the  demand made by the President of India any money

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so demanded notwithstanding any dispute raised  by M/s Daewoo Motors India Ltd. in any  proceeding before any court or tribunal; We, Times Bank Ltd., PTI Building, Parliament  Street, New Delhi 110 001 further agree that the  demand made by the President of India shall be  conclusive as regards the amount due and payable  by us under these presents as out of liability under  these presents are absolute and unequivocal;"

       Construing the terms thereof, this Court held:

"From a perusal of the above clauses, it is  abundantly clear that the bank guarantee furnished  by the Bank is an unconditional and absolute bank  guarantee. The Bank has rendered itself liable to  pay the cash on demand by the President of India  "notwithstanding any dispute raised by M/s  Daewoo Motors India Limited in any proceeding  before any court or tribunal". It is worth noticing  that the clause in the bank guarantee specifically  provides that the demand made by the President of  India shall be conclusive as regards the amount  due and payable by the Bank under this guarantee  and the liability under the guarantee is absolute  and unequivocal. In the face of the clear  averments, it is trite to contend that the bank  guarantee is a conditional bank guarantee.  Therefore, the Bank has no case to resist the  encashment of the bank guarantee. Inasmuch as we  have held that the bank guarantee is an  unconditional bank guarantee, the case of  Hindustan Construction Co. Ltd. v. State of Bihar  is of no avail to the appellant."

         The said decision, in the facts and circumstances of the case, cannot  be said to have any application here.          We are not oblivious of the decisions of this Court where, save and  except the cases of fraud or irretrievable evil, the Bank has been held liable  to pay the guaranteed amount without any demur whatsoever.  In an  instructive judgment, M. Jagannadha Rao, J. in Federal Bank Ltd. v. V.M.  Jog Engineering Ltd. and Others [(2001) 1 SCC 663] referring to Uniform  Commercial Practice of Documentary Credits and a catena of decisions of  this Court as also the English Courts, dealt with a case where a fraud was  alleged and observed:

"Thus, not only must "fraud" be clearly proved but  so far as the bank is concerned, it must prove that  it had knowledge of the fraud. In United Trading  Corpn. S.A. v. Allied Arab Bank it was stated that  there must be proof of knowledge of fraud on the  part of the bank at any time before payment. It was  also observed that it  "would be sufficient if the corroborated evidence  of the plaintiff usually in the form of contemporary  documents and the unexplained failure of a  beneficiary to respond to the attack, lead to the  conclusion that the only realistic inference to draw  was ’fraud’."

[See also Dwarikesh Sugar Industries Ltd. v. Prem Heavy Engineering

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Works (P) Ltd. and Another, (1997) 6 SCC 450] and M/s. BSES Ltd. (Now  Reliance Energy Ltd.) v. M/s. Fenner India Ltd. & Anr. JT 2006 (2) SC 192]

       However, in this case, we have no doubt in our mind that the  document in question constitutes a contract of indemnity and not an absolute  or unconditional bank guarantee.  The High Court, therefore, erred in  construing the same to be an unconditional and absolute bank guarantee.

RATE OF INTEREST

       Contention of Mr. Vahanvati as regards the rate of interest is also  incontrovertible.  The order dated 23rd February, 1988 clearly states that the  amount would be repaid with an interest @ 12% and in that view of the  matter, the High Court could not have directed payment of interest @ 14%.

       For the reasons aforementioned, the impugned judgment cannot be  sustained which is set aside accordingly.  The decree of the trial court is  restored.  The appeal is allowed with costs.  Counsel’s fee assessed at Rs.  5000/-.