Article

Factual Summary: To assist its senior executives in the face of sharp declines in the value of stock that they held, Global Crossing arranged to use its revolving credit facility with 44 member banks to back loans up to $7.5 million. A senior executive and his wife had a personal margin account with a broker for which he requested and obtained a loan from JPMorgan's Private Banking division. Pursuant to the arrangement in place, this loan was secured by a letter of credit issued by JPMorgan Chase Bank as part of the Corporation's revolving credit facility and payable to the Private Bank as Beneficiary. In addition, the executive executed as Maker and delivered a promissory note payable to the Private Bank/Lender on the due date of the loan.

Corporation filed for bankruptcy and, subsequently, the Borrower/Maker defaulted on the loan and promissory note. Accordingly, Beneficiary/ Private Bank drew down the letter of credit which was paid. Issuer, however, was unable to obtain reimbursement from Corporation due to its bankruptcy proceedings. Accordingly, Issuer obtained proportionate reimbursement from the bank members of the revolving credit facility reimbursed the issuing bank. As Administrative Agent of the credit consortium, Issuer demanded payment from Borrower/Maker on the promissory note, claiming to be subrogated to the rights of the Beneficiary. When Borrower/Maker refused repayment, Issuer/ Consortium Agent filed this action and moved for summary judgment. Borrower/Maker moved to 312 dismiss. The trial court granted Issuer's motion for summary judgment and denied Borrower/Maker's motion to dismiss. Borrower/Maker's motion for reconsideration was also denied.

Legal Analysis:

1. Subrogation, Standing; Revised UCC § 5-117: Borrower/Maker argued that Issuer had not standing to sue as Administrative Agent on behalf of the members of the credit facility. The court rejected this argument, noting that while the facility had proportionately reimbursed the Issuer, the entire facility had incurred a collective loss of US$ 7.5 million.

"That the Facility is still entitled to recover for the draw down regardless of the internal bookkeeping is clear from the language of Credit Agreement § 2.05(e), providing that in the event the Lenders make pro rata reimbursements to the Issuer when Global Crossing fails to reimburse the Facility for the draw down, such payments 'shall not relieve [Global Crossing] of their obligation to reimburse such [Letter of Credit] Disbursement.' ... To the extent [Issuer] as Agent recovers funds from Global Crossing, or by extrapolation, from [Borrower/Maker], to cover the draw down, it is obligated to adhere to the Credit Agreement and whatever internal allocation the Lenders in the Facility have agreed to. Therefore, not only does [Issuer] have standing as agent of the Facility to subrogate to Private Bank, but any recovery by [Issuer] would be a primary recovery of the Facility's loss, and not a double recovery."

The court stated that any other result would "penalize" the members of the credit facility.

"To disallow statutory subrogation here would take the § 5-117 remedy beyond the reach of collective lines of credit such as this Facility, and would discourage the creation of such loan participation agreements, which are regular features of commercial life. ... There is no indication that the New York Legislature intended any such commercially undesirable result. Global Crossing benefited from the multiple lender Facility because it had access to a line of credit far larger than a single lender could provide. The Lenders received the benefit of diversifying the risk for any single draw on the Facility (as here, where all forty-four have shared in the loss of the $ 7.5 million draw). As a practical matter, in the context of a multiple-lender facility it is more efficient to call upon one bank to issue a letter of credit on behalf of all multiple lenders, rather than have, as would be necessary here if [Borrower/ Maker's] argument were accepted, forty-four transactions to issue the letter, then forty-four more transactions to present and honor the letter. To avoid such needless complexity, the Lenders in the Facility chose [Issuer] to issue the letter of credit on behalf of all, and agreed to share the risk of non-repayment by covering the draw down once it became clear no reimbursement was forthcoming. The Facility can only act through its contractually-created agents, in contractually-mandated ways. There is no reason why [Issuer] should not be permitted to act as agent for the Lenders in bringing this lawsuit."

2. Equitable Subrogation; Subrogation; Rev. UCC Section 5-117: The court quoted a definition of "subrogation" from Black's Law Dictionary (7th Ed.): "Subrogation 'simply means substitution of one person for another; that is, one person is allowed to stand in the shoes of another and assert that person's rights against the defendant. Factually, the case arises because, for some justifiable reason, the subrogation plaintiff has paid a debt owed by defendant.'"

The court also noted that its roots lie in common law notions of equity and its availability depends on the facts and circumstances of the case. The court traced the evolution of subrogation in letter of credit law:

Equitable subrogation essentially provides that the guarantor of another's obligation may seek reimbursement from the obligor. It is relevant in the context of standby letters of credit, such as the Letter of Credit at issue here, because a standby letter of credit resembles, in some ways, a guarantee for another's loan. That is because a beneficiary of a standby letter of credit (here, Private Bank) may normally draw on the letter of credit issued by the issuer (here, JPM) only after a third party (here, Cook) defaults on a loan. ... In such cases, issuers have sought to recover, not from the party that requested the letter of credit, but from the defaulting borrower. Courts grappling with this issue in the absence of a controlling statute have generally found that equitable subrogation does not apply to this situation because guarantees and letters of credit remain distinct in that an issuer's obligation under a letter of credit is primary, whereas a guarantor's obligation is secondary. Unlike a guarantor, who becomes subject to liability only if the borrower fails to fulfill its obligation to the borrower's creditor, an issuer of a letter of credit has a primary contractual obligation to the beneficiary, which is independent of the relationship between the beneficiary and its customer. ... Thus, "having paid its own debt, as it has contractually undertaken to do, the issuer 'cannot then step into the shoes of the creditor to seek subrogation, reimbursement or contribution from the [beneficiary's customer].'" ... In 2000, in response to the widely-accepted conclusion that the common-law remedy of equitable subrogation does not apply to standby letters of credit, the New York Legislature amended the Uniform Commercial Code provision on Letters of Credit to provide for subrogation in certain circumstances.

The court then set forth the text of Revised UCC Section 5-117(a) which provides that after it has honored the presentation, an issuer "is subrogated to the rights of the beneficiary to the same extent as if the issue were a secondary obligor of the underlying obligation owed to the beneficiary ... ."

3. Subrogation, Double Recovery: Borrower/ Maker argued that Issuer had failed to meet the requirements of subrogation because Issuer had been made whole by reimbursement from the member banks of the credit facility and would receive a double recovery were it to recover from Borrower/Maker. The court rejected this argument, noting that "there is no danger that subrogation will unjustly award [Issuer] a double recovery, because neither [Issuer] nor anyone else ever received a primary recovery from [Borrower/Maker]. [Borrower/Maker] simply never paid back the loan principal to anyone, ever. If the issuer of a letter of credit has some way of covering its exposure to a draw that does not involve the underlying obligor, that is independent of the underlying obligor's obligation to pay back the loan."

It stated that "any money obtained by [Issuer] from [Borrower/Maker] in this lawsuit will be held in constructive trust for those banks to prevent unjust enrichment of [Issuer]. But these are matters between [Issuer] and the other banks; they do not affect [Borrower/Maker's] obligation to repay the $7.5 million he borrowed. [italics omitted]"

[JEB/mlf]

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