Associated Japanese Bank (International) v Credit du Nord SA [1989] 1 WLR 255
The case of Associated Japanese Bank (International) v Credit du Nord SA [1989] 1 WLR 255 offers a fascinating exploration of contract law, focusing on the implications of common mistake in contract validity. This case is an essential study for law students, illustrating the complexities involved when both parties operate under a mutual misunderstanding about a contract’s fundamental aspect—the existence of the contract’s subject matter.
Facts
A bank financed a sale-and-leaseback transaction involving four packaging machines. Credit du Nord guaranteed the customer's obligations under the lease. In reality the customer had invented the machines as part of a fraud: the equipment supposed to support the transaction did not exist. When the customer failed, the bank sought payment from the guarantor. Both banks had entered the guarantee on the assumption that the machines were real. The question was whether the guarantee nevertheless required payment, or whether its proper construction and the shared mistake defeated the claim.
Legal Issue
Was the guarantor bound where both parties assumed that the leased machines existed, but the supposed equipment was entirely fictitious?
Held
Steyn J dismissed the claim against the guarantor. The guarantee was considered against the underlying transaction and the assumption that its subject matter existed. The agreement did not allocate to Credit du Nord the risk that the four machines were fictitious.
The judge also concluded that the stringent common-law test for common mistake was satisfied. A guarantee of obligations associated with a lease of real machines was essentially different from the supposed transaction involving no machines at all. The guarantee was consequently void on that alternative analysis. The decision was not based merely on the borrower's insolvency or on a general power to relieve a guarantor whenever the transaction became commercially disappointing.
⭐ Legal Principle
Before applying common mistake, construe the contract to determine whether it allocates the relevant risk. Where both parties assume that essential subject matter exists and neither assumes the contrary risk, its non-existence may make the transaction fundamentally different and the contract void.
Significance
Associated Japanese Bank offers a concrete application of the demanding common-mistake doctrine. It also demonstrates why construction and allocation of risk should be examined before declaring a contract void. Bell v Lever Brothers supplies the historical starting point, while Great Peace later restated the English common-law requirements. The case should not be read as giving guarantors a defence whenever a borrower defaults or security proves less valuable than expected.
Common exam questions about this case
Why was the absence of the machines fundamental?
The guarantee related to obligations under a lease of identified equipment. Both parties assumed that the equipment existed, but the supposed machines were entirely fictitious. That was more than a disappointing valuation: the underlying transaction lacked the subject matter on which the guarantee had been premised.
Why examine contractual risk allocation before common mistake?
A contract may expressly or impliedly require one party to bear the risk that an assumption is wrong. If it does, the occurrence of that risk does not normally defeat the bargain through common mistake. Steyn J therefore considered what this guarantee covered before applying the demanding mistake doctrine.
Would the borrower's insolvency alone produce the same result?
No. A guarantee commonly exists to protect against the borrower's failure to pay. The decisive problem here was the non-existence of the machines underlying the transaction, considered in the light of the guarantee's scope. Ordinary default should not be confused with the fundamental shared assumption addressed by this case.