Article

Factual Summary: To pay for the purchase of steel products, Buyer/Applicant caused a 90-day usance LC to be issued in favor of Seller/Beneficiary. The LC required Beneficiary to present a "[c]opy of delivery challans-cum-invoices issued by [Beneficiary] duly signed by project authorities with an endorsement as the material received in good condition and indicating the date of receipt of material at sites." No transportation documents were required. As amended, the LC nominated the Negotiating Bank.

When Beneficiary presented documents to Negotiating Bank, as an "extra precaution," Negotiating Bank forwarded those documents to Issuer for verification of signatures and confirmation of document compliance generally. As stated within the court's opinion,

[a]mong the documents accompanying the [LC] were the five invoices dated 19 February 1998 (5 sheets) and the five delivery challans dated 19 February 1998 (5 sheets). The five delivery challans contained the signature of one Mr. P. Waghmode who purported to sign on behalf of [Applicant] and two of the five delivery challans purportedly contained the countersignature of the vice-president (accounts) of [Applicant] dated 21 February 1998 and 23 February 1998 respectively. The office stamp of the [Applicant's] company was found on all the five delivery challans. The endorsement of Mr. Waghmode on the delivery challans also stated that goods were received in good condition.

In response to Negotiating Bank, Issuer stated:

We have confirmed the due date on 20 May 1998 and the documents are in order and payment of the abovementioned L/C 1/98 will be made on 20 May 1998. We have verified and certified the signatures on the [LC] and confirm that the signatories to the [LC] have the required authority to issue the same.

On the basis of this reply, Negotiating Bank discounted the presentation. Apparently Issuer also returned the documents to Negotiating Bank. Two months later, Issuer informed Negotiating Bank that, on further inspection, Issuer had discovered:

[T]he negotiating bank had not submitted (1) Delivery challan-cum-invoices issued by [Beneficiary] duly signed by project authorities with an endorsement that the material [was] received in good condition and indicating that the date of receipt of material at sites as per clause No 10 of [the LC]; (2) All relevant motor transport receipts as per clause No 3 of our LC. They necessary authorization, to act or receive the goods on behalf of the [Applicant]. [Issuer] stated that on 17 May 1998, Mr. Bhapkar, Project Manager of [Applicant] visited the factory of [Beneficiary] and found that only 654 MT of steel was shown in [Beneficiary's] accounts as having been supplied and not the full quantity. A further contention was that, in fact, only 523 MT was supplied and not 654 MT. On 18 May 1998, [Applicant] informed the issuing bank that forgeries had been committed by some persons in the documents presented to the issuing bank.

In its pleading, the applicant stated:

[T]hey learnt that [Beneficiary] had committed forgery by showing that one Mr. P Waghmode had made the said fraudulent endorsements on the demand vouchers on behalf of [Applicant]. [Applicant] contended that there was nobody by the name Mr. P Waghmode in their service much less with negotiating bank ....

Applicant then sought and was granted a temporary injunction against Issuer, preventing it from releasing any amount of reimbursement to Negotiating Bank. Negotiating Bank moved to have the injunction vacated, pointing out that no allegations of fraud or knowledge of fraud had been made with respect to it. The trial court refused to vacate the order and the intermediate appellate court affirmed. On appeal, reversed.

Legal Analysis:

1. UCP; Custom; UCP, Law; Law, UCP Not Incorporated: The court noted that the credit in the case at bar was subject to UCP400. In a general observation, the court stated that even "[i]n the absence of incorporation, the UCP will not apply but it can be taken into account as part of mercantile customs an practices and most of it is also treated as part of common law, barring a few differences."

2. Reasonable Time; UCP400 Article 16: The court considered whether a reasonable time had passed. It appeared to accept the decision of the English court in Banker's Trust Ltd v. State Bank of India, [1991] 2 Lloyd's Rep. 443 (C.A.) (Eng.), to look to banking practice and noted the decision there that three days constituted a reasonable time.

3. Preclusion; UCP400 Article 16: The court also noted UCP400 Article 16, which states that upon request by the negotiating bank, "if the [issuer] does not certify the documents within reasonable time, it will be deemed that it had accepted the documents" and the issuer is precluded from claiming that the documents do not comply. Thus, the court found that "where [issuer] expressly accepts the documents sent by the negotiating bank, no other question can arise" as to the conformity of the documents

4. Reasonable Time; Consultation with Applicant; Applicant; Waiver: Noting that no provision was made in UCP400 as to whether or not extra time should be permitted for consultation with the applicant for waiver of discrepancies, the court noted the conflict in English cases on this issue, but appeared to accept as conclusive the clarification of this issue in UCP500 Article 14(c) that approaching the applicant for waiver does not extend the time for examination of documents.

5. Obligation; Preclusion: The beneficiary claimed that the failure of the issuer to refuse the documents within a reasonable time after they were presented results in the obligation of the issuer to honor the presentation under the preclusion rule of UCP400 Article 16. The court stated that "[i]f the issuing bank does not return [the documents] within reasonable time, it may be deemed that it has ratified the genuineness of the documents. These clauses are based on principles of common law."

6. Independence; Duty of Bank: The court considered what obligation the bank had with respect to the examination of documents. It cited Lord Diplock in Gian Singh & Co. Ltd. v. Banque do L'Inochine, [1974] 1 W.L.R. 1234 (P.C.) (Eng.), for the proposition that what is required is examination of the documents on their face and "that in the ordinary course, visual inspection of the actual documents presented is all that is called for." The court stated that "[a]ll that is therefore necessary is to examine with reasonable care if the documents on their face conformed to the terms and conditions of the L/C."

7. Disclaimer; Fraud; Forgery; UCP400 Article 17: In considering the duty of the bank on a letter of credit, the court also turned to UCP400 Article 17 which disclaimed any responsibility of the bank for the genuineness of documents. The court concluded that "[t]his shows that the bank does not - if it is not clear from the face of the documents - owe any liability or responsibility for the falsity of the documents."

8. Fraud; Injunction; Independence; Exception: The court observed that an exception to the obligation of a bank to pay against documents that comply on their face arises in the case of:

(i)fraud and (ii) irretrievable damage. If the plaintiff is prima facie able to establish that the case comes within these two exceptions, temporary injunction under [the applicable provisions of Indian law] can be issued. It has also been held that the contract of the bank guarantee or the letter or credit [is] independent of the main contract between the [seller/ beneficiary] and the [buyer/applicant]. This is also clear from [articles] 3 and of the UCP (1983 Revision). In case of an irrevocable bank guarantee or letter of credit the buyer cannot obtain injunction against the banker on the ground that there was a breach of the contract by the [beneficiary]. The bank is to honour the demand for encashment if the [beneficiary] prima facie complies with the terms of the bank guarantee or letter of credit, namely, if the [beneficiary] produces the documents enumerated in the bank guarantee or letter of credit. If the bank [is] satisfied on the face of the documents that they are in conformity with the list of documents mentioned in the bank guarantee or letter of credit and there is no discrepancy, it is bound to honour the demand of the [beneficiary] for encashment. While doing so it must [take] reasonable care. It is not permissible for the bank to refuse payment on the ground that the buyer is claiming that there is a breach of contract. Nor can the bank try to decide this question of breach at that stage and refuse payment to the [beneficiary]. Its obligation under the document having nothing to do with any dispute as to breach of contract between the [beneficiary] and the buyer.

9. Injunction; Fraud: The court stated that "decided cases hold that in order to obtain an injunction against the issuing bank, it is necessary to prove that the bank had knowledge of the fraud." It also observed that "[e]xcept possibly in clear cases of fraud of which the banks have notice, the courts will leave the merchants to settle their disputes under the contracts by litigation or arbitration. Otherwise, trust in international commerce could be irreparably damaged."

10. Fraud; Notice of Fraud; Fraud, Notice: The court cited with approval the statement of Lord Browne in Engineering Ltd. v. Barclays Bank International Ltd., 1978 Q.B. 159 (Eng. C.A.) that "it is certainly not enough to [allege] fraud, it must be established and in such circumstances, I should say, very clearly established." The court also cited Bolvinter Oil SA v. Chase Manhattan Bank, [1984] 1 E.R. 351 (Eng. C.A.), for the proposition that:

[T]he evidence must be clear, both as to the fact of fraud and as to the bank's knowledge. It would certainly not be sufficient that this rests upon the uncorroborated statement of the customer, for irreparable damage can be done to a bank's credit in the relatively brief time before the injunction is vacated. Thus, not only must fraud be clearly proved but so far as the bank is concerned, it must prove that it had knowledge of the fraud.

In considering the impact of fraud, the court looked to the US decision in Sztejn v. J. Heney Schroder Banking Corp., 31 N.Y.S.2d 631 (N.Y. Sup. Ct. 1941), which the court described as "the foundation of English law in this area.") In describing the result of Sztejn, the court stated that:

No hardship will be caused by permitting the bank to refuse payment where frauds is claimed, where the merchandise is not merely inferior in quality but consists of worthless rubbish, where the drafts and the accompany document are in the hands of one who stands in the same position as the fraudulent [beneficiary], where the bank has been given notice of fraud before being presented with the drafts and documents for payment, and where the bank itself does not wish to pay pending an adjudication of the rights and obligations of the other parties.

11. Collecting Bank; Fraud; Nominated Bank; Fraud, Nominated Bank; Negotiating Bank: Of particular interest to the court was the role of Standard Chartered Bank in the Sztejn decision. The court noted that:

[T]he collecting bank, Chartered Bank was not a holder in due course but was a mere agent for collection for the account of the [beneficiary] who was charged by the [applicant] with fraud. Therefore the Chartered Bank's motion to dismiss the complaint ... must be denied. Shientag J [who decided Sztejn] referred to the principle of holder in due course and said as follows: 'If it had appeared from the face of the complaint that the bank presenting the draft for payment (ie Chartered Bank) was a holder in due course, its claim against the bank issuing the letter of credit would not be defeated even though the primary transaction was tainted by fraud.' This passage lays down the law as to when a person becomes a holder in due course in the case of a fraud by the [beneficiaries]. This last paragraph from the judgment of Shientag J is directly applicable to the facts of the case.

12. Fraud, Exception for Nominated Bank; Injunction, Exception for Nominated Bank. In determining the status of the nominated negotiating bank, the court stated:

[I]f the [negotiating bank] was merely a collecting bank or agent which had approached the [issuer] and if the [issuer] was sought to be restrained by the [applicant] before payment was made by the [issuer] to the collecting bank, the collecting bank could not have compelled the issuing bank to release the money for collection if the [applicant] informed the issuing bank in his plaint that the documents to be presented to it by the collecting bank were forged or fraudulent. But where on the other hand, the [negotiating bank] has said on the basis of a clearance given by the [issuer] as to genuineness of the documents, and seeks reimbursement, then the negotiating bank is in the position of a holder in due course and can claim that the suit of the [applicant] must fail if it is sought to restrain the issuing bank from reimbursing the negotiating bank.

The court concluded that:

[W]e hold that when the [applicant] has no case that the [negotiating bank] had any knowledge of fraud, and when it took precaution in getting clearance for the document from the [issuer] on 20 March 1998 and such clearance was given on 23 March 1998 by the latter, it was not open to the [issuer] to contend that on fresh scrutiny in May 1998, it found that the documents were not in conformity with the letters of credit or that the [applicant] had so informed them. Prima facie, the [negotiating bank] was in the position of a holder in due course.

Comments:

1. UCP Version. Remarkably, although the LC was issued on 19 Feb 1998, it was subject to UCP400. UCP500 became effective on 1 January 1994. While a credit can be issued subject to any version of the UCP the issuer chooses, it is surprising to find UCP400 still used approximately seven years after the promulgation of a new revision of the UCP.

2. Fraud. This decision is a remarkable voyage through the shoals of common law case law on the subject of LC fraud. The court recognizes the importance of the exception within its limited scope, actual fraud and not claims of poor quality or inferior goods. It also recognizes an exception to the fraud exception where a nominated bank acts pursuant to its nomination under the credit but not in favor of a bank that is not nominated. As to what knowledge apprizes a bank of fraud, the court recognizes that mere unsupported allegations are not sufficient. Given the highly confused state of English common law in this area and the disparate results, the court is to be commended for reaching the correct result for the right reasons. Few courts unaided by statute have managed so well.

3. Notice of Refusal, Fraud; Fraud, Notice of Refusal. The decision did not directly address the question of whether or not the defense of fraud must be raised by the issuer within the reasonable time provided for the refusal of documents under UCP500 Article 14 and UCP400 Article 16. Perhaps this omission is because it should be obvious that this defense can be raised at any time, in part because one typically does not examine for fraud and documents rarely on their face indicate that they are fraudulent or forged. The assumption with respect to a claim of fraud is that the documents are regular on their face. This point appears to have been assumed by the court because, having discussed the time for examination, it went on to consider the defense of fraud without even considering whether it was timely raised. This approach should go without comment, except that some recent court decisions have intimated that the defense of fraud is in some manner linked with the time within which notice of refusal must be given. The sensible response is that an issuer may seek to excuse its refusal to pay on the basis of fraud whether or not it has given timely notice of refusal. Having raised the defense of fraud, however, it bears the same burden of proof as an applicant that seeks to restrain honor permanently.

[JEB/llh]

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