Article

Factual Summary: To assure payment for cutting timber into logs (logging) on County land, Logger obtained seven standby LCs from Bank corresponding to the seven logging contracts. The LCs, one of which is reproduced after this abstract, provided "that '[a]ll checks written to Jackson County Forestry for the deposit amount will be honored by [the Bank] up to the amount of deposits'." The LCs also stated that Issuer "would pay the County up to the credit limit stated in the letter, which in each case was the deposit amount for the particular contract, if [Logger/Applicant] did not make payments on the contracts when due, provided the Bank 'receives written documentation from [the County] stating the deposits have not been made'."

Claiming default, County terminated all seven contracts and demanded payment from Bank on the LCs, presenting letters stating "that [Logger/ Applicant] had failed to comply with the contracts or had failed to pay for timber that he cut and removed". The appellate court noted that "[n]one of the County's demand letters provided any further details or explanation".

Claiming that the drawing failed to provide the required written documentation, Issuer dishonored at which time County/Beneficiary sued the Issuer for wrongful dishonor. The trial court granted summary judgment in favor of Issuer but dismissed the claims on the four contracts on which Applicant never started performance. In a bench trial, the court dismissed claims on two of the three remaining contracts for lack of proof of Applicant's defaults, but found Issuer liable for the amount of the credit limit on the one remaining contract. On appeal, reversed and remanded with instructions to dismiss all claims.

Legal Analysis:

1. Compliance; Prior UCC Section 5-109 (Issuer's Obligation to Its Customer). Drawing on Prior UCC Section 5-109, the intermediate appellate court ruled that the County had failed in its "duty to comply with the terms of the Bank's letter of credit to receive payment on it". Specifically, it noted that the LC "required that the County give the Bank written documentation of [Logger]'s payment defaults". In assessing the documents presented, the court stated that:

[t]he County's series of demand letters gave conclusory notice that [Logger] had defaulted on his contracts, but none of the demand letters contained any specific information on the defaults for contract 1986, or any other contract for that matter. There was not, for example, any written documentation as to the amounts of any payment defaults, the dates when the defaults occurred, or how the unpaid amounts were computed. One of the letters inaccurately stated that [Logger] had failed to make payments on all seven contracts. The County noted in its final demand letter that the amounts of [Logger]'s payment defaults were irrelevant because the County was demanding liquidated damages from the Bank. By giving conclusory and/or inaccurate notice, the County did not minimally comply with the requirement to provide written documentation of payment defaults, under any reasonable interpretation of that requirement. In effect, the County asked the Bank to take the County's claims on faith.... There was no evidence that the County ever presented that record or anything similar to the Bank before the letter of credit expired. Consequently, the circumstances never arose upon which the Bank incurred liability under the contract 1986 letter of credit.

2. Documentary; Compliance; Independence. The County argued that its loss is irrelevant since the damages it sought were liquidated damages. Noting that the contract between the County and the Logger "plainly excluded the letters of credit as sources of liquidated damages", the intermediate appellate court stated that the County "had no basis to claim damages from the [Issuer] in the absence of actual financial loss".

Comments:

1. The Undertaking; Prior UCC Section 5- 102 (Scope) & 5-103 (Definitions). The initial question to be asked about this case is whether the Bank's undertaking is a letter of credit. The letter, which follows, undertook to pay "checks" drawn by the Applicant "up to the amount of deposits" and "written documentation... stating the deposits have not been made" if the checks were dishonored for insufficient funds. While awkward, the undertaking is also one to honor the presentation of a statement that the deposits were not made and possibly also a check guarantee. The definition of "letter of credit" in Prior UCC Section 5-103(1)(a)(Definitions), to which the LC was subject, states that it is of a kind within the scope of Prior UCC Section 5-102 that the issuer will honor drafts or demands on compliance with specified conditions. Prior UCC Section 5- 102(1)(a)(Scope) provides that Prior UCC Article 5 applies to a credit issued by a bank if it requires a documentary demand for payment. Therefore, the undertaking would be classified as a letter of credit under the applicable Prior UCC Article 5.

2. Compliance. It is not entirely clear what the demand by the County stated. The intermediate appellate court refers to "conclusory nature" of default by the Logger on his contracts. The court faults these demands for failure to provide specific information. Such a demand, however, is a writing. What constitutes "documentation" is ambiguous. Had the Issuer required specifics, it should have so stated. In the absence of a specific LC term, a statement of default constitutes "written documentation." The principle here is that the terms of the LC should be construed against the issuing bank.

3. Independence; Prior UCC Section 5- 114. Perhaps the most shocking aspect of the opinion is the court's conclusion that the Beneficiary could not draw because it sought liquidated damages that were not permitted under the contract between Applicant and Beneficiary. In the force of a complying drawing, only LC fraud is a basis for refusal under Prior UCC Section 5-114 (Issuer's Duty and Privilege to Honor; Right to Reimbursement). There was no such finding, and it is doubtful that such a finding could be based on an alternative argument. The court has apparently forgotten the independent character of the LC. Equally surprising is the trial court's dismissal of claims under the other six LCs, apparently as a result of its analysis of these contracts and without regard to the independent character of the LC.

The LCs read as follows:

We hereby establish a letter of credit in your favor for the account of James Hershey d/b/a Hershey Logging and/or Big Creek Enterprises in an amount not to exceed $2,976.00 for #JC 1959 Tract #21-03. This amount represents the amount of the deposit for accepted bid.

All checks written to Jackson County Forestry for the deposit amount will be honored by First National Bank in Viroqua, Sparta Branch up to the amount of deposits. If applicant fails to make payments to Jackson Country Forestry when due, the First National Bank in Viroqua will allow the Jackson County Forestry to draw on the letter of credit up to the credit limit, provided the First National Bank in Viroqua receives written documentation from the Jackson County Forestry stating the deposits have not been made.

The letter of credit expires on August 1, 2004.

The other LCs differ only as to amount, tract number, and expiration date.

[JEB/jdc]

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