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Copyright © International Chamber of Commerce (ICC). All rights reserved. ( Source of the document: ICC Digital Library )
1999 LC CASE SUMMARIES No. 98-2572, 1999 U.S. App. LEXIS 8511 (7th Cir. 5 May 1999) [U.S.A.]
Topics:
Letter of Credit; Guaranty; Interpretation
Type of Lawsuit:
Beneficiary sued issuer for wrongful dishonor.
Parties:
Plaintiff/Beneficiary/Appellee- Teleport Communications Group, Inc. (Counsel: Jeffrey Y. Lewis of Swift, Currie, McGhee& Hiers; Michael A. Ficaro, John P. Ratnaswamy of Hopkins& Sutter)
Defendant/Third Party Plaintiff/Issuer/Appellant- Barclay Financial Group, Ltd. (Counsel: Leon E. Lindenbaum of Lindenbaum, Coffman, Kurlander, Brisky & Hayes, Ltd.; John A. Christy of Schreeder, Wheeler& Flint)
Third Party Defendant/Applicant- Metrolink Communications, Inc.
Underlying Transaction:
Telecommunications services
LC:
Standby Letter of Credit for US$ 1 million. Not subject to any governing rules.
Decision:
The U.S. Court of Appeals for the 7th Circuit, Evans, J., affirmed the award of summary judgment for the beneficiary by the U.S. District Court for the Northern District of Illinois, Kocoras, J.
Rationale:
An undertaking denominated as a letter of credit that undertakes to pay against the presentation of documents does not become a conditional guaranty because of the inclusion of a clause conditioning payment on the absence of fraud, misrepresentation, or the like.
Prior History:
Teleport Communications Group, Inc. v. Barclay Financial Group, Ltd.,No. 97 Civ. 6995, 1998 U.S. Dist. LEXIS 9900 (E.D. Ill. 1998) abstracted at1999 Annual Survey395.
Teleport Communications Group, Inc. v. Barclay Financial Group, Ltd.,
1999 Annual Survey
Article
Factual Summary: To secure the provision of tele-communications services, the purchaser caused a US$1 million letter of credit to be issued in favor of the seller. The LC provided that the "letter of credit may not be drawn upon in the case of fraud, misappropriation of funds, misrepresentation or criminal activity". The applicant indicated that the reason for this clause was its concern "about potential problems with the beneficiary's telecommunications network". After the applicant complained to the issuer that the beneficiary had acted fraudulently by making mis-representations about services and instructed the issuer not to honor any presentations, the issuer dishonored two complying presentations. The beneficiary then sued the issuer for wrongful dishonor.
The District Court granted summary judgment in favor of the beneficiary and against the issuer. On appeal, the Court of Appeals affirmed.
Legal Analysis:
1. Letter of Credit Undertaking: The issuer argued that the undertaking was not an LC but rather a conditional guaranty of payment because of the inclusion of the "no-fraud" clause. The court rejected this argument, noting that the undertaking contained the term "letter of credit" eight times and was so labeled. Moreover, it concluded that the "no-fraud" clause referred to the beneficiary's dealings with the issuer and did not require the issuer to "police" the dealings between the applicant and beneficiary. It also relied on a statement in the LC that references to the underlying contract "are for identification purposes only and are not an integral part of this letter of credit".
2. Interpretation: Ambiguity: The issuer argued that summary judgment was inappropriate because the no-fraud clause was ambiguous and that parole evidence should be admissible to prove the intent of the parties. The court ruled that the LC was not ambiguous, and that, even if it were, the proffered evidence was "less than compelling". The court noted that it appeared that the issuer and applicant were "trying to put one over on [the beneficiary]" by "titling the instrument 'Letter of Credit', structuring the instrument as a letter of credit, but then inserting ambiguous fraud language to gum up the works if [the applicant] decided it wanted to get out of paying on the contract".
Comment:
1. The court approaches the issue of whether the undertaking is a letter of credit with admirable common sense. The presence of a clause such as that appearing in this undertaking is odd but does not alter its character as a letter of credit. As the opinion properly noted, the essence of a LC is that it is an undertaking to pay against documents. A qualification that it is not payable in the event of fraud hardly alters the documentary nature of the undertaking.
2. The reason this result is appropriate, however, is not because the reference in the undertaking is to the dealings between the beneficiary and the issuer instead of between the beneficiary and the applicant. Egregious fraud by the beneficiary against the applicant does provide an excuse for payment under an LC. It is rather that under LC law the issuer is excused from its undertaking in the event of letter of credit fraud, whether it be considered as being perpetrated against the issuer or the applicant. This rule is embodied in prior U.S. UCC Section 5-114 and current UCC Section 5-109. The LC "no fraud" clause merely states what is already the law. Had the beneficiary engaged in letter of credit fraud, the issuer could have dishonored but it would have been required to bear the burden of proving that the conduct reached the requisite degree of fraud.
3. The court usefully noted its suspicions that the applicant, aided by the issuer, was trying to "put one over" on the beneficiary by the inclusion of this term. It properly rejected any such attempt, giving effect to the undertaking as it would have been understood by the LC community.
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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.