15. ‘A’ stands as a surety for the good conduct of ‘B’. Who is employed in a Bank. ‘B’ misappropriates some moneys. The bank excuses him without informing ‘A’ of ‘B’ is misconduct B again misappropriates Rs. 50,000/-, The bank files a suit against ‘A’ on the strength of guarantee. Decide giving reasons.

1. Facts of the Case

• ‘A’ stands as a surety for the good conduct of ‘B’, who is an employee in a bank.
• The guarantee was given to ensure that ‘B’ performs his duties honestly and does not cause any financial loss to the bank.
• During his employment, ‘B’ misappropriates certain amounts of money belonging to the bank.
• On discovering this misconduct, the bank excuses ‘B’ and allows him to continue in employment without informing the surety ‘A’ about the misappropriation.
• Later, ‘B’ again misappropriates ₹50,000, causing a substantial loss to the bank.
• The bank then files a suit against ‘A’, the surety, to recover the amount on the basis of the guarantee bond.
• The question is whether ‘A’ (surety) is liable for the second misappropriation after the bank had already discovered the first one and failed to inform him.

2. Issues in the Case

1. Whether the bank’s omission to inform the surety ‘A’ about ‘B’s previous misconduct amounts to a material alteration of the contract of guarantee.
2. Whether ‘A’ continues to be liable for the subsequent acts of ‘B’ after the bank condoned the first misconduct without the surety’s consent.
3. Whether the surety’s liability extends to subsequent defaults when the creditor (bank), knowing the dishonesty of the principal debtor (B), allows him to continue in service.
4. Whether the contract of guarantee stands discharged due to variation or concealment of material facts under the Indian Contract Act, 1872.

3. Legal Principles Covered

a) Section 133 – Discharge of Surety by Variance in Terms of Contract

“Any variance made without the surety’s consent, in the terms of the contract between the principal debtor and the creditor, discharges the surety as to transactions subsequent to the variance.”

• The surety must be aware of all material facts affecting the risk undertaken.
• If the creditor, without the surety’s knowledge, alters the conditions under which the principal debtor is employed, or continues the employment after discovering misconduct, the surety’s risk is increased without his consent.
• This amounts to a material variance and discharges the surety for future transactions.

b) Section 139 – Discharge of Surety by Creditor’s Act or Omission Impairing Surety’s Remedy

“If the creditor does any act inconsistent with the rights of the surety, or omits to do any act which his duty to the surety requires him to do, and the eventual remedy of the surety against the principal debtor is thereby impaired, the surety is discharged.”

• The bank’s omission to inform the surety of B’s first misappropriation deprived A of the opportunity to revoke the guarantee or take preventive steps.
• This omission impairs the surety’s remedy and thus discharges him from liability for future misconduct.

c) Section 142 – Guarantee Obtained by Misrepresentation Invalid

If a guarantee is obtained by misrepresentation made by the creditor, it is invalid.

• By not disclosing material facts such as B’s dishonesty, the bank’s silence is equivalent to a misrepresentation by concealment of facts essential to the surety’s risk.

d) Relevant Case Laws

1. London General Omnibus Co. v. Holloway (1912) 2 KB 72
   • A surety guaranteed the honesty of a cashier.
   • When the employer discovered a defalcation and condoned it without informing the surety, the surety was held not liable for subsequent defaults.
   • Principle: Once the creditor condones the misconduct without the surety’s knowledge, it increases the risk without consent, thereby discharging the surety for future defaults.
2. State Bank of India v. Yumnam Gouramani Singh, AIR 1994 Gau 27
   • The court held that surety’s liability cannot be extended to acts committed after a material change in the principal debtor’s position or risk without surety’s consent.
3. Indian Bank v. Satyam Fibres (India) Pvt. Ltd., (1996) 5 SCC 550
   • The Supreme Court emphasized that the surety’s obligation is strict but must not be extended beyond the original terms of the guarantee.
   • If the creditor’s conduct increases the surety’s risk without consent, the surety is discharged.
4. Punjab National Bank v. Bikram Cotton Mills, AIR 1970 SC 1973
   • The Supreme Court held that the surety is a favoured debtor, and any conduct by the creditor inconsistent with the surety’s rights results in discharge.

e) Application of Principles

• The bank knew about B’s dishonesty and chose to retain him without informing A.
• This act increased the surety’s risk and altered the terms of the implied contract of good conduct.
• According to Sections 133 and 139, A cannot be held responsible for subsequent acts of misappropriation because his consent was not obtained for the continuance of B’s employment.
• The bank’s omission also impaired A’s remedy, as he could not withdraw the guarantee or demand stricter supervision.

4. Possible Judgement

Findings:

• The surety’s obligation was limited to ensuring the honest conduct of B under the conditions existing at the time of the contract.
• When B first misappropriated funds, the bank was bound to inform A.
• By failing to disclose and retaining B in service, the bank altered the contract’s terms and increased the risk of default.
• Hence, as per Sections 133 and 139 of the Indian Contract Act, 1872, A stands discharged from all liability for future defaults committed after the bank’s omission.

Judgement:

The court would likely hold that A (surety) is not liable for the second misappropriation of ₹50,000 by B, as the bank’s conduct in condoning the first act of dishonesty without informing the surety constituted a material alteration of the contract and impaired A’s right of protection.
Therefore, the surety is discharged from any liability for subsequent misconduct of B.

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