Article

Factual Summary: In connection with a Purchase and Sale Agreement (Agreement), Buyer discovered environmental contamination caused by a previous tenant. Seller offered to indemnify Buyer/Beneficiary from liability and the cost of cleanup by means of a standby for USD 200,000 in Seller/Applicant's favor if the previous tenant failed to comply with applicable regulations. The amended Agreement provided that the standby would "extend for one (1) year from the date of Closing, and [would] automatically renew for one (1) additional year unless Notice of non-renewal is given to [Buyer/Beneficiary] at least 60 days prior to the expiration date on the face of the Greene Letter of Credit."

As issued, however, the standby contained different terms, namely that the expiration date would "be deemed automatically extended without amendment for one (1) year from the expiration date hereof, or any future expiration date [emphasis added by the Judge], unless sixty (60) days prior to any expiration date M&T Bank notifies [Buyer/Beneficiary] in writing that [Issuer] elects not to consider this credit renewed for any such additional period."

Prior to the end of the second extension period, Issuer sent Seller/Applicant and Buyer/Beneficiary a notice that it would again extend the standby for a third year. Seller/Applicant informed Issuer of its view that the contract amendment limit renewal of the standby to one additional year, requested that the Issuer not extend the standby. Subsequently, Seller/Applicant asserted to Buyer/Beneficiary that the standby had expired, causing Buyer/Beneficiary to sue Seller/Applicant for a declaratory judgment to determine whether the standby had been extended for an additional year from the second expiration date and whether Buyer/Beneficiary was entitled to draw on the standby and moved for summary judgment. The trial court granted summary judgment in favor of Buyer/Beneficiary and awarded attorney's fees. On appeal, the Court of Appeals of Kentucky, Acree, J., affirmed the summary judgment but reversed the award for attorney's fees.

Legal Analysis:

1. Choice of Law; ISP98. The appellate court gave effect to what it decided as the standby's "choice of law provision", namely that "[t]his Credit is subject to the International Standby Practices 1998 International Chamber of Commerce Publication No.590 (the "ISP98"). As to matters not governed by the ISP98, this Credit is subject to the laws of New York State as in effect from time to time", notably US Rev. UCC Section 5-116(a).

2. Independence; ISP98 Rules 1.06(c) & 1.07; Rev. UCC § 5-103(d). Seller/applicant argued that the third amendment to the contract should govern the terms of the standby and that the trial court had erred in failing to give effect to the provision regarding the two-year duration of the standby, quoting ISP98 Rules 1.06 (c) (Nature of Standbys) & 1.07 (Independence of Issuer-Beneficiary Relationship), and US Rev. UCC § 5-103(d), the appellate court stated that the underlying context and the letter of credit are "utterly independent of one another." The appellate court also noted the term in the standby that provided "draw terms, authorizing [Beneficiary] to draw on the Letter of Credit only if, inter alia, the Tenant failed to "proceed with mitigation or regulatory compliance with respect to the contamination in a timely manner in the reasonable discretion of" [Beneficiary]. However, if [Beneficiary] chose to draw on the Letter of Credit, the Third Amendment expressly provided that the "amount payable under the [Letter of Credit] shall be equal to [Beneficiary's] actual out-of-pocket costs for the environmental cleanup without consideration of [Beneficiary's] administrative or legal expenses".

3. Expiration; Automatic Extension; ISP98 Rule 2.06. Quoting ISP98 Rule 2.06 (Nature of Standbys), the appellate court concluded that the provision in the standby to the effect that it "automatically extended without amendment for one (1) year from the expiration date set forth in the Letter of Credit, or any future expiration date" unless motion of non extension was given "falls squarely within ISP98 Rule 2.06(a), creating a continuously renewing expiration date until [Issuer] notified [Buyer/Beneficiary] otherwise".

4. Compliance. Seller/Applicant argued that Buyer/Beneficiary was not entitled to draw on the LC because of the terms of the amendment to the underlying contract. Restating its conclusions about independence, the appellate court stated "the issuer must honor the letter of credit regardless of whether the beneficiary has fully performed, or even breached, the underlying contract", notably that the issue "deals solely in documents" as stated in ISP98 Rule 1.06(d). Since the Buyer/Beneficiary provided documents that complied with the terms of the standby, the appellate court concluded that Issuer properly honored the drawing.

5. Past Honor Actions. The appellate court was careful to note "our holding is limited to the narrow issue of whether [Beneficiary] was entitled to draw on the Letter of Credit and whether [Issuer] properly complied. We are not determining whether [Beneficiary] satisfied its underlying obligations to [Applicant], as set forth in the Third Amendment. . . If [Beneficiary] improperly certified to [Issuer] that it had complied with the terms of the Third Amendment, our holding does not preclude [Applicant] from bringing a breach of contract claim against [Beneficiary] under the Third Amendment."

6. Attorney's Fees. The trial court had awarded fees to Buyer/Beneficiary based on a provision of the underlying Agreement allowing award of attorney fees to the party prevailing in suit over the Agreement. Applying the "American Rule" that recovery for attorney's fees normally requires a statutory or contractual ground, the appellate court reversed. The appellate court reasoned that Buyer/Beneficiary had brought the motion for declaratory judgment to determine the terms of the standby so the terms of Agreement did not govern this case and the suit was not over the Agreement, therefore Buyer/Beneficiary was not entitled to claim award of fees under the Agreement and that Buyer/Beneficiary had failed to claim fees under the standby or relevant statute.

Comments:

1. "Extended" vs. "Renew". It is unfortunate that this otherwise outstanding decision uses the term "renew" instead of "extended" to describe an automatic extension clause. The reason, of course, is that the standby used the former term. Use of ISP98 Model Form 2 (Model Standby Providing for Extension) would avoid such a difficulty.

2. Attorneys fees; US Rev. UCC Section 5-111(e). One wonders why the Beneficiary did not seek attorney's fees under Rev. UCC § 5- 111(c)(Remedies).

Texts: The text of the third amended Agreement regarding the standby as printed in the opinion:

At closing, [Applicant/Seller], individually, shall deliver an irrevocable letter of credit for the benefit of [Buyer/Seller] in the amount of Two Hundred Thousand Dollars ($200,000.00) drawn on [Issuer]. This letter of credit shall extend for one (1) year from the date of Closing, and shall automatically renew for one (1) additional year unless Notice of non-renewal is given to [Beneficiary] at least 60 days prior to the expiration date on the face of the Greene Letter of Credit.

It also authorized Beneficiary/Buyer

[T]o draw on the Letter of Credit only if, inter alia, the Tenant failed to "proceed with mitigation or regulatory compliance with respect to the contamination in a timely manner in the reasonable discretion of" [Buyer/Beneficiary]. However, if [Buyer/Beneficiary] chose to draw on the Letter of Credit, the Third Amendment expressly provided that the "amount payable under the [Letter of Credit] shall be equal to [Buyer/Beneficiary] actual out-of-pocket costs for the environmental cleanup without consideration of [Buyer/Beneficiary] administrative or legal expenses."

Text:
The text of the standby regarding expiration and extension as printed in the opinion:

It is a condition of this credit that it shall be deemed automatically extended without amendment for one (1) year from the expiration date hereof, or any future expiration date [emphasis added by the Judge], unless sixty (60) days prior to any expiration date M&T Bank notifies [Buyer/Beneficiary] in writing that [Issuer] elects not to consider this credit renewed for any such additional period.

The standby also provided:

[T]his Credit is subject to the International Standby Practices 1998 International Chamber of Commerce Publication No. 590 (the "ISP98"). As to matters not governed by the ISP98, this Credit is subject to the laws of New York State as in effect from time to time.

[JEB/dgs/agj]

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