Factual Summary: Seller provided an LC to buyer to assure minimum share price at an agreed date in connection with the sale of a subsidiary. The LC required a statement that "applicant defaulted on its payment obligation pursuant to Registration Rights Agreement Section 8.02. ..." The LC stated that the beneficiary had no right to payment from the sale of the stock until 1 July 2000. Seller/Applicant failed to timely register the stock as required by the agreement, and the parties entered into a Forbearance Agreement in which beneficiary agreed not to commence any legal action to enforce its rights under the LC until an agreed date, but the new agreement stated that if applicant filed for bankruptcy, the beneficiary could immediately draw on the LC. On 17 December 1999, applicant filed for Chapter 11 reorganization bankruptcy. Shortly thereafter, beneficiary demanded payment on the LC. As required by the LC, beneficiary's demand included the required statement. The issuer, however, refused to pay, asserting that the beneficiary's demand constituted fraud since the LC said no default could occur under the agreement until 1 July 2000. The beneficiary sued the issuer in the state court of Illinois for wrongful dishonor. The applicant then sought an injunction in federal bankruptcy court preventing the beneficiary from proceeding with the state action in federal bankruptcy court. The bankruptcy court denied the motion.

Legal Analysis

1.Injunction: The trial court noted four criteria for granting an injunction: "(1) the likelihood that the plaintiff will prevail on the merits at final hearing; (2) the extent to which the plaintiff is being irreparably harmed by the conduct complained of; (3) the extent to which the defendant will suffer irreparable harm if the preliminary injunction is granted; and (4) the public interest" citing Duraco Procucts, Inc. v. Joy Plastic Enterprises, Ltd., 40 F.3d 1431 (3d Cir. 1994).

2. Insolvency, Property of Estate; Injunction, Success on Merits: Noting that "the letter of credit is not property of the estate and the Debtor has no interest in either the letter or its proceeds," the bankruptcy court reasoned that the state action and a ruling for the beneficiary would not adversely impact the estate. Therefore, the court concluded, the applicant would not be likely to succeed on the merits.

3. Irreparable Harm: The applicant argued that it would suffer irreparable harm if the state action continued. It claimed that it could not be certain that the issuer would aggressively raise its interests. The bankruptcy court pointed out, however, that avenues of participation were open to the applicant and refused to grant an injunction. Moreover, because the time stated in the LC had passed, the court observed that the beneficiary could draw on the LC under the terms of the original Registration Rights Agreement. 2001 LC CASE SUMMARIES

4. Injunction, Balance of Interests: The beneficiary argued that it would suffer irreparable harm from an injunction because it could not collect the LC proceeds and thus could not fund its other initiatives. While such an argument ordinarily does not constitute a defense against an injunction, the bankruptcy court stated that the involvement of an LC distinguishes this case. The court reasoned that "parties insist upon receiving letters of credit specifically so that they will not have to wait for payment or, even worse, sue and wait for payment." Consequently, the court concluded that "any delay in the beneficiary's right to draw on the letter of credit constitutes 'irreparable harm' because it eliminates the benefit of having obtained the letter of credit - the assurance of prompt payment." 5. Injunction, Public Policy: The applicant argued that the public interest requires an injunction to preserve the integrity of letter or credit transactions. The bankruptcy court disagreed noting that the underlying rule of letters of credit is "pay first, litigate later." Therefore, the court concluded that "the public policies behind letter of credit transactions do not favor issuance of an injunction." Smoothline


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.