Article

Note: In 1998 First National Bank granted a credit facility to a private company, Kimberly Roller Mills (Pty) Ltd (principal debtor). The facility was increased and extended from time to time. The credit facility (principal debt) was secured inter alia by an irrevocable standby letter of credit, subject to the UCP500, issued by NationsBank NA (now Bank of America) in favour of First National Bank (beneficiary of the letter of credit). The standby letter of credit was also periodically increased (eventually to an amount of USD 420,000) and the expiry date regularly amended (the new date of expiry being 31 March 2011). First National Bank decided not to extend the credit facility beyond 31 March 2007 and the principal debtor (Kimberly) was liable to settle the outstanding debt owed in terms of the facility. The debt owed absent legal demand or interruption under the South African Prescription Act 69 of 1968 also meant that the debt by the principal debtor would prescribe on 1 April 2010. In July 2010 without prejudice negotiations took place between the principal debtor and the beneficiary of the letter of credit (First National Bank). Negotiations failed and during October 2010 the beneficiary indicated that it would present the letter of credit for payment. The applicant of the letter of credit (Paul Casey) then sent a letter via his attorneys to the beneficiary on 26 October 2010 requiring an undertaking from it that it would not present the letter of credit for payment, since the claim against the principal debtor had become prescribed. The applicant also threatened to apply for interdictory (interlocutory) proceedings should the undertaking not be given and alleged that a presentation of the letter of credit by the beneficiary would be unlawful. The beneficiary, however, ignored this and presented the letter of credit for payment to the Bank of America (guarantor). The Bank of America accordingly paid in terms of the letter of credit. As a result the applicant of the letter of credit (also the Applicant in the case before the court) instituted proceedings against the beneficiary of the letter of credit.

The applicant inter alia alleged that the letter of credit constituted security ancillary to the principal debt and when the beneficiary presented the letter of credit to the guarantor it falsely asserted that the debt was due when it knew that the debt had already prescribed (par 11). Accordingly, the beneficiary committed a fraud when it presented the letter of credit for payment (par 18).

The court considered the nature of an irrevocable standby letter of credit and pointed out that in this case the letter of credit was utilized to secure the payment of money (pars 14 and 15). The court, while relying on various South African and English cases, confirmed the independence principle and the documentary nature of standby letters of credit (pars 14-17, 20-22). It also pointed out the disastrous consequences if the payment of letters of credit were to be undermined and stressed that payment would only be prohibited in cases of clear fraud committed by the beneficiary (par 17). As the letter of credit was issued subject to UCP500 the court also considered the application of UCP500, particularly Art 13, to the facts (pars 24 and 26).

The court stated that the letter of credit was triggered if the principal debtor did not meet its obligations to the beneficiary of the letter. It was not dependent on whether or not the amount was, in fact, due and payable to the beneficiary and the beneficiary did not have to authenticate that any amount was owed. Besides it was common cause that the principal debtor had not met its obligations. Regarding the applicant's allegation regarding prescription of the principal debt, the court relied on the principle of independence and found that the terms of the letter of credit was dependent only on its own terms for continued validity. In the court's view, these terms required no more than that the principal debtor did not meet its obligations to the beneficiary and the letter of credit remains extant. The court also made the point that the extension of the letter of credit appears to have been the reason for the beneficiary to have continued with negotiations to settle the debt without presenting the letter of credit immediately (pars 29-32).

* Professor of Law, Department of Mercantile Law, School of Law, University of South Africa.

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