Note: O'Hare Ground Transport Facility, LLC (Business/Beneficiary) entered into a development agreement with Commercial Vehicle Center, LLC (Contractor/Applicant), to construct a commercial limousine staging and service area on property leased from the City of Chicago at O'Hare International Airport. The agreement required Contractor/ Applicant to secure its performance with "an irrevocable $1 million letter of credit" in favor of the Business/Beneficiary. Mount Prospect National Bank (Original Issuer) ultimately issued four standby LCs totaling USD 1 million. Original Issuer subsequently was merged into Midwest Bank (Issuing Bank).

Because the procedural posture of the case was consideration of a motion to dismiss, the allegations made by the plaintiff, Business/Beneficiary, were taken as true. According to Business/Beneficiary, Issuing Bank had issued three of the standby LCs to Contractor/Applicant's counsel for delivery to Business/Beneficiary, a method allegedly in violation of Issuing Bank's standard operating procedure. Sometime afterwards, Issuing Bank issued a fourth standby, which was also delivered to Contractor/ Applicant's counsel.

However, Contractor/Applicant's counsel never delivered the LCs to Business/Beneficiary. Contractor/Applicant's counsel attempted to condition the delivery of the LCs to Business/Beneficiary on the issuance of special permits in violation of the development agreement. In May 2004, Contractor/ Applicant instructed its counsel to return the physical, operative LCs to Original Issuer and request Original Issuer to cancel the LCs. Original Issuer initially refused to do so for seven months, but in in December 2004, Original Issuer voided the LCs and returned the collateral supplied by Contractor/ Applicant's investors upon receipt of allegedly false affidavits from Contractor/Applicant and Contractor/ Applicant's counsel, in addition to collusion with and threats against Original Issuer by Contractor/ Applicant.

Original Issuer subsequently voided the LCs despite Business/Beneficiary having notified Original Issuer of the dispute between Contractor/Applicant and Business/Beneficiary and asking Original Issuer "not to amend, modify, or revoke the [LCs] until the parties resolved the dispute", and despite the LCs containing "an 'evergreen clause' under which they renewed automatically and could not be cancelled without 60 days' written notice to [Business/ Beneficiary]." The LCs also apparently required presentation of the original operative instruments.

When the project eventually failed, Business/ Beneficiary sought to recoup some of its losses by drawing on all of the standbys for the full USD 1 million by presenting one sight draft and copies of three of the four standbys. Issuing Bank dishonored Business/Beneficiary's entire attempted drawing on the basis that (1) the Business/Beneficiary "only attached copies of three letters of credit, so its demand to draw on the fourth was invalid; (2) [Business/ Beneficiary] failed to include a draft within the meaning of the Uniform Commercial Code (UCC) with its letter; (3) [Business/Beneficiary's] letter did not include appropriate information; (4) [Business/ Beneficiary] did not return the originals of the [Issuing Bank's] Letters of Credit; and (5) [Business/ Beneficiary] did not include required statements signed by the beneficiary."

Business/Beneficiary then sued several parties, including Issuing Bank for wrongful dishonor. Almost six years into that litigation, Issuing Bank failed and was placed into receivership by the Federal Deposit Insurance Corporation (FDIC). FDIC sold certain assets and liabilities of Issuing Bank to FirstMerit Bank, N.A. (Successor Bank). Business/Beneficiary then amended its complaint, seeking to recover for wrongful dishonor from Successor Bank as the successor in interest to Issuing Bank. Successor Bank moved to dismiss. The trial court granted the motion.

On appeal, the Appellate Court of Illinois, Delort, J., affirmed. The issue before the appellate court was whether the Successor Bank through its purchase and assumption agreement with the FDIC of certain assets and liabilities of Issuing Bank (Purchase Agreement) assumed liability on the standby LCs dishonored by Issuing Bank.

The Judge noted that in order "to protect the integrity of the banking industry and protect depositors, federal law regarding assumption of failed banks departs from [the business law] model [of successor corporations generally assuming the assets and liabilities of their predecessors]. How, and whether, creditors of a failed bank (as opposed to depositors) may recover funds owed to them is governed not only by federal law but also by the specific agreements federal banking regulators craft to govern the transfer of the ongoing business of failed banks to successor banks." As a result, the Judge looked to the Purchase Agreement to determine the status of the standbys with regard to Successor Bank. The Purchase Agreement specifically defined LC liabilities assumed by the Successor Bank as "liabilities for any acceptance or commercial letter of credit (including any 'standby letters of credit' as defined in 12 C.F.R. Section 337.2(a) issued on the behalf of any Obligor of a Loan acquired hereunder by the [Successor Bank], but excluding any other standby letters of credit); provided that the assumption of any liability pursuant to this paragraph shall be limited to the market value of the Assets securing such liability as determined by the Receiver."

Business/Beneficiary argued that the LCs were "standby LCs" as defined in 12 C.F.R. Section 337.2(a), that the Contractor/Applicant's investors were "Obligors" of a "Loan" from Issuer, and that the LCs therefore fell into the category of liabilities assumed by Successor Bank in the Purchase Agreement. Successor Bank disputed this characterization, arguing that the section of the Purchase Agreement must be read as a whole.

Successor Bank contended that it "did not assume liability on the [LCs] because[the] section [in the Purchase Agreement] would only apply to standby letters of credit that are secured by assets. In other words, [the] section . . . only applies to collateralized standby letters of credit." Successor Bank's argument relied on the fact that Original Issuer had returned the collateral securing the LCs.

The Judge agreed with Successor Bank, stating "[w]e find the meaning of the word 'secure' in [the] section [of the Purchase Agreement] is clear from the context in which it is used and requires collateralization." Business/Beneficiary argued that the LCs were collateralized when issued, but that Original Issuer had wrongfully returned the collateral, alleging that Original Issuer nonetheless maintained other agreements including promissory notes and business loan agreements that were "assets" which Successor Bank acquired in the Purchase Agreement. Further, "because these 'Assets' are associated with the [LCs], [Business/Beneficiary] has sufficiently alleged that the liability on the letters is secured." The Judge disagreed with this argument, finding the LCs were unsecured when Successor Bank executed the Purchase Agreement.

Successor Bank did note, however, that Business/ Beneficiary "might still be able to recover for [Original Issuer's] actions through a claim process established by federal law (12 U.S.C. §§ 1821(d) (3)-(13)) and administered by the FDIC."



The views expressed in this Case Summary are those of the Institute of International Banking Law and Practice and not necessarily those of ICC or the other partners in DC-PRO.