Article

Factual Summary: Guatemalan bank issued two LCs on behalf of Guatemalan tax administration agency to pay for automobile license plates, decals and identification cards. The LCs were confirmed by separate U.S. banks. When Beneficiary/Seller failed to ship any goods, Applicant canceled the contract and so notified Beneficiary.

Applicant obtained an injunction in Guatemala preventing the issuer from honoring the LCs. Applicant also obtained an injunction in Florida to prevent confirmers from honoring, although Beneficiary was not named or served with legal process. When Beneficiary intervened in the Florida action, the trial court denied its motion to dissolve the injunction. On appeal, affirmed.

Legal Analysis:

1. Fraud: Applicant contended that honoring the LCs would result in material fraud since Beneficiary had been notified of the cancellation of the contract. The appellate court agreed, reciting the following conclusions: "The record demonstrates as follows: [Beneficiary] did not perform in accordance with the contract; [Applicant] had canceled the contract; [Applicant] notified [Beneficiary] of cancellation, and had obtained an injunction against payment by the issuing bank; and [Applicant] had brought this action to prevent [Beneficiary] from committing material fraud by presenting documents for payment of the letter of credit. Applicant also demonstrated, more likely than not, that it would succeed on the material fraud claim." Since the Beneficiary "was aware that the contract had been canceled prior to presentment", the appellate court concluded that "[u]nder these circumstances [Beneficiary's] demand for payment had 'absolutely no basis in fact; . . . . .'" The court stated that it would be "pointless and unjust to permit the beneficiary to obtain the money," quoting from Official Comment 1 Revised UCC Section 5-109 (1995).

2. Comity: Applicant argued that the principles of comity by which courts defer to the actions of other courts justified continuance of the injunction. Noting that the Guatemalan court had "original jurisdiction" pursuant to "the parties' contract" to resolve the dispute over [Beneficiary's] performance "and that it had notice and opportunity to be heard" there, the appellate court concluded that "the Guatemala injunction was entitled to comity." The 45 2002 LC CASE SUMMARIES court reasoned that holding otherwise would have required the confirming banks to honor the payment requests under the letter of credit even though the Guatemalan injunction would bar reimbursement. It stated, "[a]s a result, the trial court properly enjoined payment on the letter of credit to render effective the Guatemala injunction and to preserve the status quo pending a final decree of the Guatemala court."

Comment:

1. This brief opinion leaves one to guess at whether the beneficiary had any defenses to the contract action. The fact that the beneficiary had not yet performed is not in itself dispositive. Its performance would be in connection with the presentation of documents under the LC, an action that was effectively enjoined. Nor is it dispositive that the Applicant/Buyer canceled the contract. The question is whether it was entitled to do so in such circumstances as to make delivery and a subsequent drawing on the LC materially fraudulent. The opinion does not provide any details regarding these matters but simply makes conclusionary recitals.

2. The effect of the decision is to deny Beneficiary the benefit of the confirmation on the basis of the Applicant's allegations on the Guatemalan court's action which may have been based on a desire to prevent payment B which does not preserve the status quo but alters it. Under the agreed payment regime, the Beneficiary was to hold funds following performance pending settlement of any dispute.

3. The effect of this opinion is to treat the cancellation of the contract by the Applicant for reasons that are not stated and the entry of any injunction against the issuer in another jurisdiction without any explanation of the standards on which it may be based as if it is material fraud. While it may be material fraud, neither of these factors nor the silence of the Beneficiary make it so. More facts are needed, specifically ones that may have been apparent to the court but as to which readers are left to wonder.

4. Nor is the analysis based on comity entirely persuasive. If there was no basis for the foreign injunction, it does not deserve to be given respect. One critical purpose of a confirmation is to transfer the risk of local court interference in the applicant and issuer's country.

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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.