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Note: Ningbo Bonded Area Shengtong International Trade Co. (Buyer) instructed its import agency, Ningbo Haitian International Trade Co. (Agent/Applicant) to contract with Hong Kong Lianchuang Resources Co. (Seller/Beneficiary) to purchase electrolytic copper. The Ningbo Branch of China Construction Bank Co. (Issuer) issued a 90-day commercial LC for the transaction, and cargoes of electrolytic coppers were stored in warehouse of C. Steinweg Warehousing (Far East) Co. (Warehouse1) and were to be transferred to Buyer upon its payment made to Agent/Applicant.

The LC required presentation of warehouse receipts to the Shanghai Branch of ANZ Bank Co. (Negotiating Bank), which had silent confirmation agreements in place with foreign suppliers and "would negotiate upon complying presentation and would then tender such documents to [Issuer]."

After Negotiating Bank negotiated and sent the documents to Issuer, Issuer sent them to Agent/ Applicant, which should have then sent them to Buyer to request payment. Instead of requesting payment, Agent/Applicant returned the receipts to Buyer who obtained other warehouse receipts representing the same quantity of cargoes in the warehouse of Shanghai State Reserve Bureau's 7th Office (Warehouse2) to represent rights of taking delivery. Buyer would simultaneously return the receipts to Warehouse1 to have new receipts issued and restart the process. There were no cargoes in Warehouse2, and these new warehouse receipts were fabricated.

Due to Buyer's eventual inability to make a payment, Agent/Applicant sued Buyer, Seller/ Beneficiary, and Negotiating Bank and "applied for court order to stop the payment under the letters of credit as they were unable to take delivery of the cargoes under the warehouse receipts of [Warehouse2]."

The initial courts ruled against Negotiating Bank, finding that there was fraud under the letters of credit and that Negotiating Bank did not act in good faith. On appeal, Negotiating Bank argued that Agent/Applicant and Buyer colluded fraudulently to use warehouse receipts by sending to Warehouse1 its original receipts to request cancellation and reissuance of the receipts with different quantity and by conducting "a series of connected transactions, ... [instructing Agent/Applicant] and other foreign trade agents to apply for the issuance of letter of credit of different batches to correspond with the connected transactions." Agent/Applicant counter-argued that Negotiating Bank knew of the fraud and "failed to exercise due diligence," when foreign suppliers presented to Negotiating Bank different warehouse receipts representing the same batch of cargoes, and that its negotiation was not in good faith.

The Supreme People's Court of the People's Republic of China, Lu Xiaolong, J., ruled that "all of the letter of credit transactions lacked real underlying transactions and should be deemed as fraud" and that Negotiating Bank did not negotiate in good faith because it should have had a constructive knowledge of such fraudulent activity as a professional bank and because it made discount payments under the letters of credit without carefully reviewing the documents submitted by the foreign suppliers, according to its Silent Confirmation Agreement signed with each foreign supplier.

The Judge referred to UCP600 Article 2, which stipulates that "negotiation means the purchase by the nominated bank of drafts (drawn on a bank other than the nominated bank) and/or documents under a complying presentation, by advancing or agreeing to advance funds to the beneficiary on or before the banking day on which reimbursement is due to the nominated bank," to conclude that Negotiating Bank's conducts constituted negotiation. Additionally, under UCP600 Art. 12(a), which stipulates that "unless a nominated bank is the confirming bank, an authorization to honor or negotiate does not impose any obligation on that nominated bank to honor or negotiate, except when expressly agreed to by that nominated bank and so communicated to the beneficiary," the Silent Confirmation Agreement between Negotiating Bank and each foreign supplier could not affect the negotiation under the letter of credit because it was only a financial agreement between the two parties.

The Judge concluded that Negotiating Bank was not "entitled to the protection under the system of 'exception to letter of credit fraud exception' under Article 10 of The Provisions on Several Issues Concerning the Trial of Credit Dispute Case issued by the Supreme People's Court," because its conduct was not in good faith, thereby affirming the lower courts' ruling to stop the payment under the letters of credit. [JL/mjb]

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