Daniel Lund III | Phelps Dunbar
How bad is it?
“Not that bad,” said an Illinois federal court to a surety which was complaining that its subcontract performance bond terms had not been satisfied by the obligees on the bonds (the general contractor and the building owner).
In response to $3.6 million demand by the obligees on the performance bond, the surety filed an action in federal court in Illinois seeking to have the court declare that the surety had no further obligation on its performance bond. The surety urged that the obligees had not fulfilled the prerequisite requirements in the bond to make a claim on the bond (which, although the court never identified the bond form, was a bond form that closely resembled the AIA A312-2010 performance bond).
According to the surety, the obligees, after making their claim and upon demand of the surety, refused to “provide information or additional information required, which is integral to determine the validity of the claim.” Additionally, the surety asserted that the obligees neither officially declared in writing a default of the subcontractor, nor terminated the construction contract – both requirements under section 3.2 of the bond.
The court, however, struggled with the surety’s arguments – not because the literal shortcomings alleged by the surety had not occurred, but because, under Illinois law, the court was concerned that the alleged failures of the obligees may not be “material” defaults by the obligees. According to the court, it needed to examine both the “intent of the parties” with respect to the provisions with which the obligees did not comply, as well as “equitable factors and circumstances surrounding the breach of the provision.”
The court went further:
“The determination of whether a breach is material ‘is a complicated question of fact involving an inquiry into such matters as whether the breach worked to defeat the bargained-for objective of the parties or caused disproportionate prejudice to the nonbreaching party, whether custom and usage considers such a breach to be material, and whether the allowance of reciprocal non-performance by the non-breaching party will result in his accrual of an unreasonable or unfair advantage.’”
In denying summary judgment sought by the surety, the court – disregarding arguments by the surety that other courts “strictly construe notice requirements in surety bonds” – held that there were material facts in dispute concerning whether the defaults by the obligees were material: “…Defendants here presented evidence that they contend shows [that the surety] had actual or constructive notice of [subcontractor’s] default and [the] replacement of [the subcontractor] on the Project 11 months before Defendants sought payment under the Performance Bond, such that any breach of the notice provisions in the Performance Bond was not material.” In connection therewith, the court noted that, ordinarily: “…whether a breach is material generally should not be resolved at summary judgment.”
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