Article

by Rupnarayan Bose

Ever since UCP 600 was published, each of the three sub-articles of article 12 (Nomination) has led to some confusion about its intent and purpose. This article examines the issues related to article 12 as a whole, taking up one sub-article at a time.

Sub-article 12 (a)

Sub-article 12 (a) states: "Unless the nominated bank is the confirming bank, an authorization to honour or negotiate does not impose any obligation on the nominated bank to honour or negotiate, except where expressly agreed to by the nominated bank and communicated to the beneficiary."

This sub-article addresses two distinct effects of nomination. The first is a nominated bank's obligation, if any, to honour or negotiate upon being nominated. The second is an apparent exception to the foregoing. The first part of the sentence stipulates that, unless the nominated bank confirms the credit, its nomination by the issuing bank casts no obligation on the bank thus nominated to honour or to negotiate. This is perfectly correct, and is also in accordance with article 8. This is not a rule, but more in the nature of a clarification; however, its existence helps.

The problem is with the second part of this same sentence or sub-article. The expression "except where expressly agreed to ... " appears to provide for an exception to what goes before it. As a result, one could be led to believe that the obligation to honour or negotiate is indeed cast on the nominated (non-confirming) bank, provided that bank "expressly agrees" (to negotiate or honour) and communicates the same agreement or willingness to the beneficiary.

As we know, this sub-article intends no such thing; rather, just the opposite.

Further, it should be noted that the (so-called) express agreement can be revoked, cancelled, or reneged on any time thereafter. As far as the obligation to honour or to negotiate is concerned, there is no difference whatsoever between (a) a non-confirming nominated bank that advises without expressing any willingness, and (b) a nominated bank that expressly agrees to honour or negotiate and communicates the same to the beneficiary. In both the instances, the nominated bank (not being a confirming bank under article 8) enjoys exactly the same privilege and protection under the UCP.

That being so, what exactly is sub-article 12 (a) trying to achieve? What value does it add to the UCP? Since it only creates a certain degree of confusion, is there any need for the second part of this sub-article to be there at all?

Sub-article 12 (b)

It's no secret that sub-article 12 (b) was inserted in response to the Banco Santander case. The impact of this new provision in the UCP has yet to be tested in a court of law. The fact is that the "authorization" referred to in the sub-article is irrelevant, and adds nothing to an advance proposal of a lending bank. In n article1 published in this journal, I wrote that, "unless the 'authorization' referred to in sub-article 12 (b) implies some form of guarantee or risk-participation by the issuing bank, this sub-article serves no useful purpose as far as the lending institution is concerned, ( Banco Santander case notwithstanding)."

I am encouraged by the well-argued article " Banco Santander and protected parties" by Prof. John F. Dolan, published in DCInsight (Vol 17, No. 4, October-December 2011). Prof. Dolan concludes: "... parties seeking the answer to the question of the DPU holder's freedom from the fraud defence should look to the law, not the UCP and not to practice or the issuer's mandate (emphasis added)". I could not agree more. "Pre-payment" is a financial arrangement between the bank incurring the DPU and its customer - the beneficiary of the facility. The UCP has nothing to do with it. Incidentally, one should remember that a banker's acceptance is governed and protected by the Bills of Exchange Act or similar legislation enacted to deal with negotiable instruments. The DPU is not a negotiable instrument; consequently, it does not enjoy similar protection.

I fear that if and when sub-article 12 (b) is put to the test, it is likely to fall short of the expectations raised by it, and it may well fail to protect the parties seeking protection under it. If the DPU holder is not a "protected party" in a fraud situation, then sub-article 12 (b) fails in its purpose - irrespective of any so-called "authorization".

In any future revision of the UCP, some rephrasing of the sub-article may be in order. The last part of this sub-section could be modified to read as follows: "... that nominated bank to discount an accepted draft or advance against a deferred payment undertaking incurred by that nominated bank". In everyday commercial banking lexicon, an acceptance draft is always discounted , not "purchased". The term "prepay" is ambiguous, its precise meaning debatable - hence, the term is better replaced.

Sub-article 12 (c)

This sub-article stipulates: "Receipt or examination and forwarding of documents by a nominated bank that is not a confirming bank does not ... constitute honour or negotiation."

The sub-article appears not to be a rule but rather an explanatory note expanding on the definition of negotiation appearing in article 2. One would have hoped that this sub-article would clarify what already is a hotly debated expression. Unfortunately, it fails to do so for several reasons.

During any act of negotiation (or honour) a non-confirming nominated bank interacts at two levels: at one level with the beneficiary; at another with the confirming or the issuing bank. In accordance with sub-article 15 (c), after negotiation or honour "it [the non-confirming nominated bank] must forward the documents to the confirming bank or issuing bank." The UCP does not state how exactly the recipient bank would determine whether a negotiation has indeed taken place.

Although this omission has not hindered documentary credit operations worldwide, incorporation of the following from a recent DOCDEX Decision2 would have been helpful. It states: "A nominated bank that has negotiated a complying presentation should expressly indicate on its document remittance schedule that it has negotiated the documents. However, the absence of such indication does not violate UCP 600. The omission does not affect the nominated bank's status as negotiating bank, nor does it discharge the issuing bank's payment obligations as long as the nominated bank confirms its negotiation to the issuing bank."3

The other aspect relates to the nominated bank vis-à-vis the beneficiary. According to sub-article 12 (c), mere examination and forwarding of documents by a (non-confirming) nominated bank does not constitute negotiation. If not, then what does? I would have answered this question by invoking UCP 500, sub-article 10 (b) (ii), which stated: "Negotiation means the giving of value for draft(s) and/or document(s) by the bank authorised to negotiate. Mere examination of the documents without giving value does not constitute a negotiation (emphasis mine)."

However, with UCP 600 in hand, I stumbled at the definition of negotiation (article 2), which states, inter alia : "Negotiation means the purchase ... or agreeing to advance funds to the beneficiary on or before the banking day on which reimbursement is due to the nominated bank."

Such an agreement is non-obligatory, is revocable in nature and is not binding on the negotiating bank. Since no consideration passes between the parties concerned on merely "agreeing to advance funds to the beneficiary", one wonders if the principle of giving value has been done away with in UCP 600.

On the one hand, receipt or examination and forwarding of documents do not constitute honour or negotiation (sub-article 12 (c); on the other, a mere (revocable) agreement to advance funds - coupled with "receipt or examination and forwarding of documents" - where no consideration or value is passed on, is defined as negotiation. Sub-article 12 (c) appears to conflict with the definition of negotiation appearing in article 2. Given this apparent contradiction, what does constitute negotiation4? Giving of value would have been a good yardstick, but is it any more? Short of any credit to its account, when precisely can the beneficiary conclude that its documents have indeed been negotiated? In my view, this sub-article is neither here nor there, serving no definite purpose!

Incidentally, it would be illuminating to know the number of instances in real life when a nominated bank has actually negotiated by simply "agreeing to advance funds to the beneficiary".

In the construction of this sub-article several apparent errors have crept in. These are as follows:

"Receipt" of documents must obviously precede their examination and forwarding; it need not be stated in so many words since it serves no purpose. "[R]eceipt or" should be deleted.

In the section " ... is not a confirming bank does not make ...", the word "does" should be replaced by "do".

In "nor does it constitute honour or negotiation", the words "does it" should be replaced with "do they".

Finally, of the three distinct acts of receipt, examination and forwarding, it should be made clear as to which of the three - all three together or any of the three - the pronoun "it" (in "does it constitute") refers to.

Conclusion

Except for the first part of sub-article 12 (a), what precisely are we left with? Is it the second part of sub-article 12 (a), which adds no value? Or sub-article 12 (b), which is a misplaced and possibly erroneous interpretation of the Banco Santander case - a sub-article that has yet to be tested in a court of law and one which may possibly be projecting a false sense of security in a fraud situation? Or is it sub-article 12 (c), which is not only confusing and poorly drafted, but falls short of any precise and positive contribution to the UCP directly and may contradict the definition of "negotiation" in article 2. You be the judge!

Rupnarayan Bose is former managing director of Fina Bank Ltd., Nairobi and TransAfrica Bank, Kampala. His website is http://www.rnbose.net, and his e-mail is rnbose@gmail.com.

1 Nominated bank and UCP 600, DCI, Vol. 17, No. 1, Jan-March 2011.

2 "Issues in UCP 600: another look at five banking days and negotiation" by King-Tak Fung, DCI, Vol. 16, Issue 1, October- December 2009.

3 That confirmation may be on the forwarding schedule itself or through later communication.

Negotiation and the law of contracts, DCI, Vol. 16, No. 2, April-June 2010, and Re-defining Negotiation, LC Monitor-Trade Services Update, Volume 11, Issue 4, July-August 2009.

"Negotiable instruments law... is a poor substitute for L/C law"

by Jim Barnes

UCP 600 article 12 is an improvement over its predecessor, UCP 500 article 10.

Sub-article 12 (a) usefully recognizes that nominated banks may undertake to the beneficiary to do what they have been nominated to do and more . They may commit to the beneficiary to honour or negotiate complying documents with varying levels of recourse rights (and charges to the beneficiary), including so-called "silent confirmation" of all or part of the issuer's obligation to the beneficiary. The improvement is that now they may do more without risking any of their reimbursement or other rights against the issuer.

Before, there was a risk that a nominated bank that did more than it was expressly authorized to do might be challenged for exceeding its authority by an issuer (at least theoretically) or, more likely, by its own internal auditors or regulators 1 Sub-article 12 (a) removes a cloud from a prevalent activity that adds value to the L/C product. It does not spell out any forms of express agreement between the nominated bank and the beneficiary, but that is to be expected in light of the variety of practices that have developed under the local laws applicable to a nominated bank and beneficiary.

Sub-article 12 (b) responds to the April - June 2012 5 decision in the Banco Santander case that a nominated bank that discounted its own incurred deferred payment undertaking thereby exceeded its authority under UCP 500. The intent of UCP 600 (reflecting the views of the majority of participants) was to undo that aspect of Banco Santander.

Even without sub-article 12 (b), the new sentence in sub-articles 7 (c) and 8 (c) that declares an issuing bank's reimbursement obligations to be "independent" should have the effect of undoing Banco Santander2 As to whether UCP600's undoing of Banco Santander will succeed in the courts, it already has 3 Hopefully, all courts will now better appreciate that the independence principle requires that any fraud exception for a beneficiary's right to honour must be limited further when the presenter is a nominated bank entitled to reimbursement under sub-articles 7 (c) or 8 (c). In this regard, I suggest that L/C bankers promote the "independence" of L/C obligations, which in practice and law distinguishes L/C obligations from ordinary promises and negotiable instruments. Trying to apply the peculiarities of negotiable instruments' law, either directly or by analogy, is a poor substitute for developing and relying on the peculiarities of L/C law based on the "independence" of L/C obligations.

The drafters of UCP 600 determined that "giving value" should be replaced by "purchase" in any definition of negotiation that would entitle a nominated bank to reimbursement. Accordingly, the word "purchase" was used in sub-article 12 (b) to refer to a nominated bank's discounting of its own acceptance or incurred deferred payment undertaking. Because "purchase" indicates that the purchaser may either hold or resell the item, the word "prepay" was added to cover the alternative possibility that the item will be cancelled.

Sub-article 12 (c) declares that "receipt or examination and forwarding of documents" is not "negotiation". It thus usefully adds "forwarding" to the declaration that appeared in its predecessor, UCP 500 article 10. Like its predecessor, sub-article 12 (c) clarifies the meaning of "negotiation" (for which UCP 600 separately provides a definition in article 2) by describing a common type of activity that falls short of negotiation. Unlike its predecessor, it does not indicate that there is any required or assumed order in which a nominated bank must act in order to "negotiate" so as to qualify for reimbursement4 It thus allows for a non-confirming bank's commitment to the beneficiary to negotiate, whenever given and whenever funded (i.e., a very short or longer-term silent confirmation). All such issues are left to the UCP 600 articles that define "negotiation" and provide for reimbursement of a nominated bank.

Jim Barnes is Senior Counsel at Baker & McKenzie LLP, Chicago, Illinois.

His e-mail is james.barnes@bakermckenzie.com

1 N.D. George made this point about 12 (a) in his article in the July-September 2009 DCI.

2 Bank responsibility for fraud under the UCP 600 provisions on reimbursing nominated banks was the subject of my DCI January-March 2007 article.

3 See Fortis Bank (Nederland) N.V. v. Abu Dhabi Islamic Bank, No. 601948/09 (N.Y. Sup. Ct. Aug. 26, 2010), which was the subject of my DCI April-June 2011 article.

4 See Fortis Bank S.A./N.V. Stemcor UK Limited v. Indian Overseas Bank, [2009] EWHC 2303 (Comm), which addressed reimbursement rights under UCP 600 sight credits "available by negotiation" and concluded that there were no timing requirements for a nominated bank to meet the definition of "negotiation" and become entitled to reimbursement.