Article

Factual Summary:

To secure its obligations under a loan, a standby was issued in favor of a broker and advised by the lender. The standby covered one year of payments under the loan, but was in force for seven years and confirmed for the first year. Uncertain that the language of the credit fully protected its position for the full seven year obligation, the lender communicated desired changes to the beneficiary which communicated with the issuer. As a result, the issuer indicated in a letter to the beneficiary that the standby would be "reavailable to you upon your receipt of our tested telex or amendment." Still unsatisfied, the lender pressed for further language changes. As a result, the issuer inserted the term "automatically" so that it read "automatically reavailable to you upon your receipt of our tested telex". A subsequent letter on a different matter in similar form was admitted by the issuer to be an amendment. The standby was subsequently trans-ferred to the lender. When the applicant defaulted on the loan, the lender/second beneficiary drew on the standby, taking the position that the correspondence between the issuer and beneficiary constituted amendments to the credit, or, in the alternative, that the issuer misrepresented the automatic reavailability of the credit.

The issuer refused to make any payments in excess of the face amount of the credit, and the second beneficiary brought suit to enforce the "automatic reavailability" of the credit.

The trial court, Black, J., granted summary judgment to the issuer.(*1) On appeal, the U.S. District Court reversed and remanded.(*2) In reversing, the appellate court noted that expert testimony could reveal an issue of fact as to whether the correspondence constituted amendments to the credit. Moreover, the court held that the confirmer's consent was not required to effectuate the amendments where the amendments had no effect on the confirmer, thus rejecting the trial court's interpretation of the UCP that an issuer could avoid its obligation on an amendment routed directly to the beneficiary but claiming that the confirmer had not consented. Additionally, the court held that no direct relationship between the issuer and second beneficiary was required for the second beneficiary to state a cause of action for fraud against the issuer.

On remand, the parties argued as to the effect of the language in the correspondence. In a trial without jury, the court, Mota, J., granted judgment to the beneficiary.(*3)

Legal Analysis:

1. Issuer's Duty of Care: The court began by identifying who was to blame and criticized the actions of some of the players in the transaction including the senior of ficers of the issuer. Notably, the court criticized the bank officers for not properly supervising the loan officer that wrote the disputed correspondence: "In my mind, experienced loan officer should not be given carte blanche to issue correspondence in an area as technical as letters of credit in which they are not well versed."

2. Expert Witnesses: The court further criticized the issuer's expert witnesses, Professor James White and attorney Bert McCullough, as being "more legal advocates than men with real knowledge of what custom and practice really is." Having discounted the issuer's expert witnesses, the court gave weight to the testimony of the second beneficiary's expert witnesses, who included Alan Bloodgood.

3. Interpretation Objective vs. Subjective: The court next determined that the language of the letters must be interpreted in light of custom and practice and not based on the subjective intent of the parties to the transaction. The court did note that each party had a different, irreconcilable subjective intent. The court reasoned that the obligations in letters of credit run to "a universe of persons who were not parties to the negotiations." To subject that "universe" to the several subjective intentions of the parties involved in the negotiations would undermine the purpose and integrity of letters of credit.

4. Amendment: The court next ruled that the language in the correspondence was an amendment because those in the industry would have considered it to be such, and its language only made sense if it were understood as an amendment.

5. Interpretation: "Automatically": Having found that the language constituted an amendment, the court next interpreted the language. Again, based on expert testimony, the court found the term "automatically" to have a "highly charged meaning" for letter of credit professionals. Specifically, the court found that in custom and practice, the term "automatically" means "without condition." Accordingly, the court rejected the issuer's argument that the addition of the term only made the credit reavailable upon the beneficiary's receipt of a telex so stating. The court additionally ruled that any ambiguity in the language of a credit would be construed against the issuer.

6. Transfer: Second Beneficiary's Status: The court noted that the beneficiary had "tricked" the issuer into issuing the letters containing the amendments. The court further found, however, that the beneficiary was not the agent of the second beneficiary, and the second beneficiary could not be charged with notice of the trickery. In making its findings, the court noted that the second beneficiary had not deviated from standard custom and practice when it entered into the loan agreement on the basis of its collateral alone, and not upon any investigation of the underlying transaction or parties.

7. Independence Principle: Transfer: The issuer argued, relying upon the testimony of its experts, that the independence principle did not apply in a situation where the issuer was asserting a defense against a second beneficiary because the second beneficiary was no more than a mere assignee, and, under general contract law, the issuer could assert any defense it had against the assignor against the assignee. The court rejected this argument by noting that independence went beyond the underlying contract and extended to any dispute "other than one relating to the presentation of the documents of the letter of credit itself." The court noted that this ruling was "consonant with the purpose of letters of credit" in "insulating beneficiaries ... from ancillary disputes."

8. Damages: Finally, the court rejected the issuer's argument that the beneficiary had miscalculated its damages. In doing so, the court noted that a reduction of an obligation under a letter of credit based on a reduction in the arnount owed on the underlying contract was inconsistent with the independence of the letter of credit transaction. It awarded the face arnount of the LC. The court also rejected the beneficiary's argurnent that "incidental damages" under prior UCC - 5-115 included attorney's fees.

Notes

* The opinion in this case is reprinted in the Cases: Full Text section of the 1998 Annual Survey of Letter of Credit Law & Practice.

1. A summary is contained in 1995 Annual Survey of Letter of Credit Law & Practice 451.

2. For the text of that decision, see 1997 Annual Survey of Letter of Credit Law & Practice 536.

3. This decision has been appealed. The Amicus Curiae Brief of the USCIB is reprinted in the Cases: Full Text section of the 1998 Annual Survey of Letter of Credit Law & Practice.

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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.