Article

Factual Summary: To pay for purchases of plastic pellicle products under purchase agreements buyer caused its bank to issue two irrevocable LCs undertaking to accept bills of exchange and available for negotiation by any bank in favor of Seller in the amounts of US$2,136,000 and US$1,940,000 respectively. Beneficiary presented bills of exchange and other documents under the first LC (No. 212) to Negotiating Bank. In the Remittance Letters issued by Beneficiary, Negotiating Bank did not check the boxes marked "buy". The opinion does not indicate whether the drafts were indorsed to Negotiating Bank, made payable to it, or in blank.

Negotiating Bank then forwarded bills of exchange and documents under the two credits to Issuer, but did not advise Issuer that it had negotiated the LC. Subsequently, Issuer sent communications via SWIFT message to Negotiating Bank indicating that it had accepted the bills. In fact, Issuer never signed or otherwise accepted the bills. After the fact, Beneficiary, in an attempt to create a new agreement among the parties, sent confirmation letters to Applicant and Issuer confirming that the first LC was due and agreed that if Applicant could make its payment by SWIFT message before January 7, 1998, Beneficiary would revoke the LC. At the same time, Negotiating Bank issued a confirmation letter alleging that it had "processed" relevant documents under the two credits, but it did not use the words "Negotiate" or "Negotiation".

Although Beneficiary had, at the same time, sent notifications that the goods had been loaded on the carrier, Applicant never received the goods. Based on investigations by certain authorities, it was revealed that the ships involved in this case had never arrived at the alleged loading ports.

The bills of exchange were not paid and approximately a year later Applicant filed a lawsuit against Beneficiary with the Sichuan High People's Court naming Negotiating Bank and Issuer as third parties, alleging that the two credits issued by Issuer were void and payment under them should be prevented. In addition, Applicant claimed that Beneficiary should repay US$858,549.73 plus interest. The opinion does not indicate what this amount signified. Applicant later amended its claims by alleging that payment under two other credits should be prevented.

Beneficiary objected to the court's jurisdiction on the basis that there was an arbitration clause in the underlying contract. The Sichuan High People's Court rejected this argument. Beneficiary then appealed to the Supreme People's Court, which affirmed.

Subsequently, the Sichuan High People's Court tried the case and ruled that since Beneficiary's act in the underlying transaction had constituted material fraud and the two credits issued by Issuer should be declared void. Therefore, Issuer was enjoined from paying Negotiating Bank under the two credits.

The First Instance Decision of the Sichuan High People's Court:

1. Fraud Exception: The Sichuan High People's Court concluded that although Beneficiary had provided documents required by the LC, no actual delivery of goods had taken place. Therefore, Beneficiary had committed material fraud in the underlying transaction. Under article 58.1.3 of PRC General Principles of Civil Law as well as international practice the court noted that the "fraud exception", i.e. material fraud in the underlying transaction, can constitute an exception to the principle of autonomy in LCs. The Sichuan High People's Court ruled that payments under the two LCs should be enjoined.

2. Acceptance, Requirements for: As to whether Issuer had accepted the bills of exchange which plaintiff had never signed or accepted, the court concluded that Issuer's written undertaking of "acceptance" in the messages sent to Negotiating Bank constituted Issuer's acceptance. Under PRC Negotiable Instruments Law, the drawee should write "acceptance" on the front of the bill when accepting a bill of exchange. However, the court noted that compared with other instruments, LCs have their own characteristics. In international banking practice, if the issuing bank decides to accept the documents under an LC presented by the beneficiary, it will retain the bill and notify its acceptance by SWIFT message rather than directly write "acceptance" on the bill. Therefore, although there was no "acceptance" on the bills, based on Issuer's actual intention as reflected in the messages and international banking practice, the court was of the opinion that Issuer had accepted the bills of exchange.

3. Negotiation, Requirements for; Negotiation; Negotiating Bank: With regard to whether Negotiating Bank had negotiated the two LCs, no evidence was introduced that could prove that actual payment had been made by Negotiating Bank under the two LCs in this case. Therefore, the court held that Negotiating Bank was not qualified as a negotiating bank. The court therefore voided the two LCs.

The Decision of Sichuan High People's Court was appealed to the Supreme People's Court which ruled as follows:

4. Collusion; Fraud Exception: Applicant suggested that Negotiating Bank had committed collusive fraud with Beneficiary in the first instance trial. The Sichuan High People's Court rejected this claim. In order to satisfy the requirements for collusive fraud, it must be proved that Negotiating Bank intended fraud and committed fraud together with Beneficiary. However, the Supreme People's Court ruled that there was no evidence to prove that Negotiating Bank was involved in Beneficiary's fraud or knew of it before its negotiation. Therefore, the court rejected Applicant's claim alleging that Negotiating Bank committed collusive fraud with Beneficiary.

5. Negotiation, Requirements for; Negotiation; Negotiating Bank; Translation Error: Whether Negotiating Bank had negotiated the LC and been qualified as the negotiation bank? The Supreme People's Court concluded that when Beneficiary presented bills and documents to Negotiating Bank and it paid after it had ascertained that all documents appeared on their face to be in compliance with the terms and conditions of the credits, such payments were in accordance with UCP500. Actually, there was a translation error that was a key piece of evidence in this case. Based on the original translation of a certificate issued by Negotiating Bank to Beneficiary, the Sichuan People's Court thought it was a certificate of exchange for Korean Won to US Dollars rather than a certificate of payment. Based on the mistranslation, the Sichuan People's Court ruled that there was no actual payment from Negotiating Bank to Beneficiary. On appeal, the certificate was re-translated by another translation institution. After examination, the Supreme People's Court accepted the new translation, based on which, it ruled that the document was a payment certificate and concluded that Negotiating Bank had made actual payment for those two credits. Therefore, it ruled that the bank qualified as a negotiating bank.

6. Acceptance, Requirements for: The court asked whether the bills of exchange were accepted. After Issuer examined the bills and documents presented by Negotiating Bank, it sent an acceptance communication to Negotiating Bank which constituted a valid promise for payment. Even after the Sichuan High People's Court issued a intermediary ruling to freeze the account under the two LCs, Issuer alleged that it was obligated to make payment to Negotiating Bank. Therefore, although Issuer didn't write "acceptance" on the bills in accordance with PRC Negotiable Instruments Law, the _____ court concluded that it had in fact accepted those bills.

7. Fraud; Negotiation, Requirements for; Negotiation; Negotiating Bank: In summary, although Beneficiary had committed fraud in the underlying transaction, the fraud exception should not apply in this case since the two credits had been negotiated by Negotiating Bank and payments under such credits should not be prevented. Therefore, the judgment by the Sichuan High People's Court was vacated and Applicant's claims were rejected. With respect to liabilities for fraud, since Issuer did not allege any claim against Beneficiary in this case, the judgment did not require Beneficiary to compensate Issuer. In addition, as Negotiating Bank had not committed collusive fraud in this case and had negotiated those credits in good faith, it should not have any liability either.

Comments by Jin SAIBO and Wantao YANG:

1. Translation Error: The translation of the payment letter made a difference in the appeal. It was a critical piece of evidence in the appellate court's overturning the trial court decision.

2. Conflict of Interest: Negotiating Bank raised in its appeal that the same law firm represented Issuer and Applicant before the Sichuan People's Court and therefore violated PRC law. The appellate court held that since Issuer was a third party without an independent claim in the trial, the representation of Issuer and Applicant by the same law firm was not the situation prohibited by PRC Lawyers Law.

* JIN Saibo is a partner with Zhonglun Law Firm (Beijing office) and YANG Wantao is a partner with Zhonglun Law Firm (Shanghai office).

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