Article

Factual Summary:Principal was buying cooperative that supplied a chain of French "hypermarket" stores with goods. To circumnavigate a French law prohibiting bulk sales of pharmaceuticals to non-licensed retail outlets, Principal planned to warehouse pharmaceuticals purchased from a non- French company, I.Tra.S, who would acquire the products from French laboratories under the guise of selling them abroad. After a period of years, Principal's customers determined that they would not be able to legally sell the pharmaceuticals, and Principal convinced I.Tra.S to repurchase at the original price those products whose sell date had not expired. I.Tra.S also reimbursed Principal for the costs of shipping and warehousing the products. To finance the repurchase, I.Tra.S obtained a loan from a Swiss bank, for which Principal obtained a guarantee from its bank (later the Remitting Bank).

I.Tra.S never sold any of the products it repurchased. To obtain funds to repay the loan, I.Tra.S obtained another loan commitment from Drawee, a Canadian corporation. The source of Drawee's loan funds was supposed to be a separate loan arrangement with an undisclosed third party. However, no confirmation was ever provided that Drawee had access to any funds or any ability to make the loan to I.Tra.S. Despite repeated promises to fund the loan, Drawee made frequent excuses for non-performance. I.Tra.S was unable to repay the loan, and Principal's bank had to pay under its guarantee, for which it debited Principal's account. For the next two months, Principal tried unsuccessfully to obtain funding through Drawee's loan commitment with I.Tra.S.

Drawee eventually sent Principal a post-dated check for US$ 3,215,083. The check was a "starter check" for a new account with Presenting Bank opened at branch #273 in Sarasota, Florida. The check did not have Drawee's name and address imprinted on it, but were instead typed on. It did not have an imprinted number, but was hand-numbered "0002". There was a discrepancy between the numeric and word amount of the check. Neither the street address or the specific branch name were indicated, other than the branch number. The check was handwritten and contained spelling errors. It was accompanied by a letter indicating that the check was tendered on the strict condition that it be held and not presented for payment.

At first, Principal complied with the condition, placed the check in a company safe for over three months, and did not account for the check on its books. Principal was unaware that Drawee, one week after sending the check, submitted a stop payment order on the check. There were insufficient funds in the account; the highest daily balance was only US$ 3.83. Over the course of several months, Principal corresponded frequently with Drawee to obtain funding. Drawee provided repeated excuses, offering among others that the third-party funding was delayed, that the U.S. Federal Reserved had interrupted the transfer, and that other legal issues had tied up funding. The loan was never completed. Neither Principal nor its bank made an effort to determine whether the account on which the check was drawn contained sufficient funds.

Subsequently, Principal delivered the check to its bank with oral and written instructions to "collect" the check. Remitting Bank did not credit Principal's account for the amount of the check or extend any credit or payment. Instead, Remitting Bank separated the check from others it was forwarding at that time accompanied by a cash letter through Citibank, its correspondent in the US, for payment through the Federal Reserve system and forwarded Principal's check directly to the bank that it was drawn on. The check was accompanied by a letter that identified the transaction as a "Collection Payable Abroad", stated that the check was sent for collection, identified the "Drawee", requested advice of payment or notice of dishonor, and requested payment of Remitting Bank's fees. The letter requested response via SWIFT, even though Remitting Bank knew (by checking the SWIFT handbook) that the Sarasota branch did not have SWIFT capacity. However, the collection letter did not indicate that the collection was subject to the Uniform Rules for Collection.

The check identified the branch it was drawn on only by number (#273), but not by street address. Although Remitting Bank was aware that U.S. banks often operate through many branches, the package containing the check and instruction letter was addressed only to "First Union National Bank of Florida, Sarasota Florida 34236" without a street address. Presenting Bank maintained multiple branches in Sarasota, and two in the zip code identified. As a result, the package was delivered on July 24 not to branch 273 where Drawee opened an account, but to another, separately operated branch. Due to what the court termed human error and not bad faith, the check was not forwarded to the International Operations department by the recipient branch. On July 30 and 31, Remitting Bank inquired via SWIFT to Presenting Bank's International Operations department in Miami about the "fate" of the check. On August 5, the check and collection letter were located at the branch office and couriered to the International Operations department. The next day, Presenting Bank sent a "debit advice" by SWIFT to Remitting Bank, indicating that the check was being returned unpaid because of the stop payment order and the discrepancy between the written and numerical amounts shown on the check. The check was returned to Remitting Bank that day by courier. Presenting Bank requested that Remitting Bank reimburse it US$ 30 for cable charges; Remitting Bank complied.

Principal subsequently sued Presenting Bank for the face amount of the check because the Presenting Bank had failed to pay or return the check by a statutory "midnight deadline". The court ruled in favor of the Presenting Bank.


Legal Analysis:

1. Collections vs. Payment; Terms of Usage; Standard International Banking Practice; URC 522: The court recognized that international banks have developed standard practices that facilitate commerce between banks in different countries, and that the system of collections replaced the concepts of conditional settlement and finality of payments central to U.S. domestic banking practice. The court distinguished the domestic system of payment from the international process of collections. In the domestic system, the depositor is given provisional credit and processing is subject to regulatory and statutory deadlines. Initial credit is provisional, and 109 2002 LC CASE SUMMARIES always subject to the payee later receiving the check charged back against their account. Per-check fees are not permitted and checks are paid at the face amount. By contrast, collections call for certain, final payment. The procedure has been adopted by banks around the world, and is embodied in the ICC's standard rules of practice, URC 522. Common to the process of collections are standardized procedures and terminology recognized between practicing banks. As a finding of fact, the court determined that Principal's check had been forwarded to Presenting Bank not for payment but as a collection, in tune with standard international banking practices. Both Principal and Remitting Bank were "sophisticate parties in international transactions" that had knowledge of international banking transactions. The court noted that the parties were aware of the usage of trade, as indicated by the use of a form collection letter that identified the transaction as a "Collection Payable Abroad" and "included every item required for a clean collection". Furthermore, Remitting Bank's requests for notice and fees and its inquiry as to the "fate" (a term of usage) indicated behavior entirely consistent with an item sent for collection and entirely inconsistent with an item sent for payment.

2. Measure of Loss; Unreasonable Delay: Principal argued that even if the check was sent for collection, Presenting Bank had unreasonably delayed notice. The court noted that Drawee had already placed a stop order on the check, and that any delay by Presenting Bank, whether reasonable or not, did not cause any loss to Principal.

3. Payment vs. Collection; Midnight Rule; UCC Article 4; "Clean Collections": Principal argued that the check was presented to Presenting Bank for payment, not for collection, and that Presenting Bank was bound to pay or return the check by midnight of the next banking day or be otherwise strictly liable for the face value of the check. Principal contended that Article 4 of the UCC which governs bank deposits and collections recognizes only two categories of items B demand items that are subject to the midnight deadline rule and documentary drafts. Principal's check and letter, it argued, do not fall into the definition of documentary draft in the Florida version of UCC Section 4-104(f), and therefore the check could only be recognized as a demand item subject to the midnight deadline and strict accountability rules of UCC Section 4-302(1)(a). Presenting Bank disagreed, contending that the UCC recognizes a third category of items subject to Article 4, collection items which are not accompanied by commercial documents. UCC Section 4-104(1)(i) defines an "item" as "a promise or order to pay money handled by a bank for collection or payment." The court noted that there is "(n)othing in that definition limit(ing) the ability of a bank to handle an order to pay as an item for collection." Presenting Bank's expert witness testified that in international banking parlance a check forwarded with only instructions for collection is known as a "clean collection" and is routine in modern banking. The court indicated that Florida case law supported this interpretation of the UCC, and determined that the check was forwarded as a "clean check collection" not subject to the midnight deadline rule of UCC Section 4-302.

4. Four Corners Rule; Party's Intent: Principal argued that the court can only consider information appearing on the face of the check itself in determining the nature of the transaction. By this argument, Presenting Bank was the only party appearing on the face of the check, and was therefore the drawee subject to the midnight deadline rule, not a presenting bank.

The court was not satisfied with this argument or the case law used by Principal to support it. In each of the cases cited by Principal, the courts did not look strictly to the "four corners" of the instruments presented, but also to surrounding documents that shed light on the transaction. The court also thought it inappropriate to apply the "four corners" rule in light of Principal's behavior regarding the check. The court noted that Principal had good reason to suspect that the account contained insufficient funds because Drawee had repeatedly excused and avoided performance of the loan agreement. The evidence established that Principal "was hoping to realize on a probably worthless instrument, and one which ultimately ended up being worthless, as payment had been stopped on the check."

5. Usage of Trade; UCC 1-102; Midnight Deadline Rule: Looking to UCC Section 1-102, the court concluded that considering the check and the collection letter together is consistent with the underlying policies of the Code. By its terms, the Code seeks to "simplify, clarify, and modernize the law governing commercial transactions" and to "permit the continued expansion of commercial practices through custom, usage and agreement of the parties". The court noted that it should "recognize and protect existing commercial practices so as to make commercial law consistent with the contemporary world of business." Principal's proposed argument would, however, "require just such a disruption, a disruption that is neither mandated nor warranted by the applicable law or the facts adduced at trial." Specifically, the international system of check collections would be undermined by subjecting them to the midnight deadline rule, as Principal urged.

"Banks would be forced to reject or pay items without themselves obtaining certainty of the validity of their actions. The presenting banks would be held strictly accountable for the payment of funds but would lack the ability to seek return of funds paid on defective or fraudulent items. This would encourage B even compel B banks to return unpaid items when they could not verify the item in time to meet the midnight deadline."

Furthermore, the UCC provides for incorporation of course of dealing and usage of trade in Section 1- 201. The court stated

"The uncontradicted factual and expert testimony establishes that an enormous volume of international commerce is conducted daily in the United States in reliance on the established usage of trade and that such commerce would be dramatically disrupted by a court's refusal to recognize and apply that usage of trade. If the banks engaged in international banking in the United States are required to apply the midnight deadline rule to transactions such as this one, they will be out of harmony with the remainder of the international banking world."

Since the court conclusively determined the process of collections to be a usage of trade in international banking, and that Remitting Bank's conduct established the transaction as within the ambit of a collection, the check was properly considered to be sent for collection and Presenting Bank's actions should be evaluated in that context.

6. Agency Representations; Parties to Litigation: Principal argued that it intended the check to be submitted for payment, not collection, and that Presenting Bank is liable despite Remitting Bank's representations. The court determined that, under applicable Florida law, the Remitting Bank acted as the agent for Principal, and Presenting Bank was entitled to rely on the instructions it received from Remitting Bank. If Principal had indeed been injured by a failure of Remitting Bank to follow instructions, then its proper remedy was against Remitting Bank, not a party to the litigation.

7. Translation: Principal argued that the translation of the collection letter was incorrect. It suggested that the French word "encaissement" was used as between Principal and Remitting Bank and has an ambiguous meaning that may be "payment" or "collection". Remitting Bank, in its instruction to Presenting Bank, used the English word "collection". The court determined that Principal was bound to the actions of its agent. However, the balance of terms contained in the collection letter were consistent with a collection and not a payment, supporting the conclusion that the presentation was indeed for a collection.

8. Delivery Error; Midnight Deadline; Payor Banks: The court pointed out an alternative reason to hold that the midnight deadline did not apply to Principal's check. UCC Section 4-302 indicates that 111 2002 LC CASE SUMMARIES the midnight deadline will only run when a check is presented to a "payor bank". Under Florida law, when a bank maintains separate branches, each is considered a separate bank for purposes of the midnight deadline. Therefore, since the check had been delivered to the wrong branch due to sender error, the time limitation did not begin to run until the check was properly delivered.

Comment:

This decision is an important affirmation of the role of custom in international banking operations. It addresses an aspect of UCC Article 4 that requires clarification, the role of clean collections. While there is a theoretical basis for the arguments advanced by the Principal, they do not reflect banking practice. The regular use of clean collections is outside the channel of domestic collections, is not thought to be subject to the midnight deadline. Should a bank wish to institute a domestic collection, it has available a method through the use of cash letters. This decision will further clarify this obscure area of the law.

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The views expressed in this Case Summary are those of the Institute of International Banking Law and Practice and not necessarily those of ICC or the other partners in DC-PRO.