Refund Guarantees

Author:
Mark Davis

Edition:
1st Edition, 2015

Chapter
1
Introduction
Introduction
1.1
It is a common feature of shipbuilding projects and contracts that the purchase price will be paid by the buyer to the builder in instalments
against certain milestone events. Typically a shipbuilding contract may require payments to be made upon (1) signing the contract or lifting
board approvals; (2) steel cutting; (3) keel-laying; (4) launching; and (5) delivery, although the amount and number of instalments will vary from
contract to contract.1

1.2
Commonly also, the instalments are paid as advances against the purchase price (and not as deposits), and title in the newbuilding does
not pass to the buyer until delivery.2

1.3
The buyer will almost always be entitled under the shipbuilding contract to a refund of the pre-delivery instalments together with interest if
he terminates the contract for causes such as (1) insolvency of the builder;3 (2) excessive delay in delivery;4 (3) total loss of the vessel;5 or (4)
material breach of the builder’s obligations under the contract. The precise terms governing termination of the shipbuilding contract and the
refund of the pre-delivery instalments will vary from contract to contract.

1.4
It can be readily appreciated that the buyer is exposed to risk in respect of the pre-delivery instalments in the event that the builder fails
for any reason to refund them when due. Although the buyer would, of course, have a cause of action against the builder under the
shipbuilding contract if the builder wrongfully refuses to refund the advance payments made by the buyer, this will give the buyer (and its
financiers) no protection in the event of the insolvency of the builder.

1.5
Further, even if the buyer could be confident that the builder would remain solvent, the buyer will not usually be willing to rely solely upon
its rights to bring court or arbitration proceedings against the builder as security for the advance payments, since any such action will involve
delay, cost, inconvenience and at least some element of risk. This is particularly so where the terms of the buyer’s finance require the
immediate repayment of any pre-delivery instalments upon termination of the shipbuilding contract.

1.6
It is for these reasons that the buyer will usually insist upon security for the builder’s obligation to repay one or more of the pre-delivery
instalments in the form of a refund guarantee from an acceptable bank or similar financial institution, committing the bank/financial institution
to refund the advance payment(s) upon demand.

1.7
Because of the importance attached to the provision of a refund guarantee, the builder’s obligation to furnish refund guarantees is often
expressed as a condition precedent to the shipbuilding contract as a whole, or to the buyer’s obligation to pay instalments as and when the
payment milestones fall due.

1.8
The guarantor’s liability under the refund guarantee will usually be limited to the amount of the pre-delivery instalments plus interest at the
rate agreed in the shipbuilding contract.

1.9
There is no standard practice as to either the form or the wording of refund guarantees.6 They may either take the form of a contract of
guarantee or a contract of indemnity, and the wording of refund guarantees, even when in the same form of instrument, often differs
markedly from case to case. As a result of this, the sharp downturn in the shipping markets following the global recession in 2008, and the
large sums of money usually at stake, there has in recent years been a plethora of disputes concerning refund guarantees in London
arbitration and English court proceedings.

1.10
In order to avoid similar disputes in future, it is necessary for those engaged in the sale, purchase and finance of newbuildings to have an
understanding of the relevant terminology, definitions, and characteristics of the different types of guarantee instruments. These are
considered in Chapter 2.

1 See, for example, Box 11 and Clause 15 of NEWBUILDCON, Article II.3 of SAJ and Article 7(b) of AWES.

2 See, for example, clause 31 of NEWBUILDCON, Article VII.5 of SAJ, Article 8(b) of AWES and Article XVI of CMAC.

3 See, for example, clauses 39(d) and 39(e) of NEWBUILDCON.

4 See, for example, clauses 13, 39(a)(iii) and 39(e) of NEWBUILDCON, Article 6(c) of AWES and Article VIII(4) and X(2) of SAJ.

5 See, for example, clauses 38(b)(ii)(2)(i) and 39(e) of NEWBUILDCON and Article XII(2)(b)(ii) of SAJ.

6 Gold Coast Ltd v Caja de Ahorros del Mediterraneo [2001] EWCA Civ 1806, [2002] 1 All ER (Comm) 142, [2002] 1 Lloyd’s Rep 617; WS
Tankship II BV v Kwangju Bank Ltd and another [2011] EWHC 3103 (Comm), [2012] CILL 3155; IIG Capital LLC v Van Der Merwe [2008] EWCA

© Informa Group Ltd. No copying or sharing of this document is permitted. Enquiries: clientservices@i-law.com 
Civ 542, [2008] 2 All ER (Comm) 1173, [2008] 2 Lloyd’s Rep 187; Vossloh Aktiengesellschaft v Alpha Trains (UK) [2010] EWHC 2443 (Ch), [2011]
2 All ER (Comm) 307.

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