Article

Factual Summary: Glenn Wright (Debtor) executed two promissory notes for the purchase of real estate in two different Tennessee counties. Both were secured by respective intercreditor agreements, providing for repurchase by third parties if Debtor defaulted. Debtor secured both agreements with standbys issued by First State Financial, Inc. (Issuer) subject to UCP600 in favor of Mountain Commerce Bank (Lender/Beneficiary) in the amounts of USD 3.36 million and USD 3.64 million, respectively.

When Debtor defaulted on each loan, Lender/ Beneficiary accelerated the loans, but the third parties refused to repurchase their respective properties. Next, Lender/Beneficiary increased the interest rate on each loan from 6 to 24 percent. Thereafter, Lender/Beneficiary presented a sight draft under the standbys to Issuer for the balance of each loan based on the increased interest rate of 24%. Issuer partially made payment on each LC, leaving a balance of USD 270,393.

Lender/Beneficiary sued Issuer for the remaining balance, plus costs, interest, and attorney's fees. Issuer denied wrongdoing and filed a counterclaim against Lender/Beneficiary, asserting that it submitted the amount due, subject to the original interest rate of 6%. Issuer also claimed that Lender/Beneficiary's increase of the interest rate was not anticipated and was an illegal change in the terms of the loans. Lender/Beneficiary responded by asserting that review of the case was limited to the terms described in the LCs, not the loan documents that accounted for a 6% interest rate. Subsequently, Lender/Beneficiary stated that it was entitled to charge a default interest rate "commensurate with industrial loan and thrift companies".

Following a hearing the trial court issued three opinions. In the first opinion, the trial court stated that Issuer's obligation under the LC was "totally distinct, separate, and independent" of the contract between Debtor and Lender/Beneficiary and thus, Issuer's obligation was determined solely according to the terms of the LC and Issuer cannot resort to the underlying agreement to determine the amount owed under the LC. Thus, the court ruled that Issuer was "obligated to honor" the sight draft if the draft complied with the applicable terms even though Lender/Beneficiary was not authorized to increase the interest rate. The court ordered Issuer to submit the amount remaining on each LC, plus pre-judgment interest and reasonable attorney's fees.

Following a second hearing, the court ruled that its finding regarding the applicable interest rate was unnecessary because Issuer was obligated to honor each LC, regardless of the interest rate applied. The court removed the award of pre-judgment interest, but affirmed its award of attorney's fees pursuant to Kentucky law even though Lender/Beneficiary did not specifically plead the applicable statute.

In its final opinion, the trial court awarded Issuer a judgment in the amount of USD 270,393.33 with attorney's fees and expenses in the amount of USD 22,873.73. Issuer and Lender/Beneficiary each filed motions to alter or amend. Issuer argued that the court should have considered the terms of the loans but had erroneously relied upon statutes that were not pled, which prevented Issuer from raising applicable defenses. Lender/Beneficiary filed a motion seeking an award of interest pursuant to Kentucky law. Lender/Beneficiary acknowledged that it erroneously described the requested interest as "pre-judgment interest" and asserted it was entitled to a "statutory award of interest". The trial court denied each motion and Lender/Beneficiary's corresponding motion to amend the pleadings. On appeal, affirmed.

Legal Analysis:

The court stated that the issues raised on appeal were the following:

i) "Whether [Lender/Beneficiary]'s complaint was sufficient to permit recovery of the balance remaining on the sight draft and the award of attorney fees pursuant to Kentucky [statute]"; and

ii) "Whether [Lender/Beneficiary]'s complaint was sufficient to permit recovery of an award of interest pursuant to Kentucky [statute]".

1. Balance and Attorney Fees: The court, acting under Kentucky substantive law, but the Tennessee Rules of Civil Procedure, stated that, pursuant to Tennessee case law regarding procedural rules, "Although a complaint need not contain in minute detail the facts that give rise to the claim, the complaint must at least contain allegations from which an inference may fairly be drawn that evidence on these material points will be introduced at trial" (internal citations omitted). The court determined that the trial court's decision was based on the following provisions of Kentucky substantive law:

a) "If an issuer wrongfully dishonors a draft or demand presented under [an LC] or honors a draft or demand in breach of its obligation to the applicant, the applicant may recover damages resulting from the breach, including incidental but not consequential damages, less any amount saved as a result of the breach"; and

b) "Reasonable attorney's fees and other expenses of litigation must be awarded to the prevailing party in an action in which a remedy is sought under this article".

c) "an issuer shall honor a presentation that, as determined by the standard practice referred to in [Reasonable attorney's fees provision above], appears on its face strictly to comply with the terms and conditions of the [LC]. Except as otherwise provided [by Kentucky statute] and unless otherwise agreed with the applicant, an issuer shall dishonor a presentation that does not appear to so comply."

Beneficiary asserted that its cause of action arose out of the breach of the intercreditor agreement and LCs, requesting a judgment for the balance of the sight draft plus "costs, fees, interest and attorney's fees" pursuant to the applicable LCs and related documents. The parties designated Kentucky law as the governing rule of law in the LCs. Accordingly, the court ruled that Lender/Beneficiary stated "all the facts necessary" to inform Issuer of the statute upon which Lender/Beneficiary sought relief. Similarly, the court ruled that Issuer was adequately informed of Lender/Beneficiary's request for attorney fees. The court also ruled that Issuer's claim that it should have been given the opportunity to present evidence of the standard practice of financial institutions and to argue that its honor of Lender/Beneficiary's sight draft would have facilitated a material fraud are waived because Issuer was given ample opportunity to raise additional issues after the initial opinion was entered (a party may not offer a new issue for the first time on appeal).

2. Interest: Lender/Beneficiary argued that it was entitled to an award of interest pursuant to Kentucky statute. Issuer responded by characterizing Lender/ Beneficiary's issue as a denial of pre-judgment interest and asserting that the trial court did not abuse its discretion in denying Lender/Beneficiary's request for pre-judgment interest. In its reply, Lender/ Beneficiary stated that it was not seeking a reversal of the pre-judgment interest finding, but instead seeking an award of interest pursuant to applicable Kentucky law. The court cited the following relevant provisions of Kentucky statute:

a) "If an issuer wrongfully dishonors a draft or demand presented under [an LC] or honors a draft or demand in breach of its obligation to the applicant, the applicant may recover damages resulting from the breach, including incidental but not consequential damages, less any amount saved as a result of the breach".

b) "An issuer, nominated person, or adviser who is found liable under [previous subsections including the provision above] of this section shall pay interest on the amount owed thereunder from the date of wrongful dishonor or other appropriate date".

The court noted that the trial court reviewed the claim for interest as a pre-judgment interest. Lender/ Beneficiary claimed that it had "mischaracterized" its claim. However, the court determined that Lender/ Beneficiary had ample time and opportunity to correct this mischaracterization, but instead waited until final judgment had been entered to assert a new claim for interest. The court ruled that there is "no duty on the part of the court to create a claim that the pleader does not spell out in his complaint" and determined that the trial court did not abuse its discretion in denying the motion to amend the complaint after judgment had been made as to pre-judgment interest. Thus, the court affirmed the trial court's decision.

Text:

The following appeared in each LC: "This Letter of Credit shall also be governed by the laws of Kentucky, the United States of America, so long as such laws are not inconsistent with [the UCP]."

[DHS]

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