Duty to Issue LC; Good Faith


In order to import winter clothing, borrower and lender agreed to a US$5,500,000 credit facility whose availability was determined by a complex formula involving collateral and liquid reserves. The lender was aware that the only means by which the borrower could purchase merchandise was through letters of credit and that the borrower depended on bank financing to operate. After a serious reverse, the borrower asked to operate outside of reserve requirements and the lender demanded additional collateral. Initially, the borrower refused, but shortly thereafter indicated that it was willing to provide the necessary collateral. Lender then required that the principal of the borrower pledge the bulk of his net worth and, on refusal, froze its assets and sued to seize the borrowers assets. The trial court ruled that lender had breached its credit agreement and acted in bad faith, awarding a judgment of US$1,714,334. On appeal, affirmed in part and reversed in part.

Lender contended that it did not breach its duty of good faith. The court noted that "[a] covenant of good faith conduct is implied in all contracts," and concluded that the trial court did not err in finding that the lender breached its duty of good faith. It also concluded that this breach caused damages.

"[Borrower's] expert testified that [borrower] was 100% reliant on bank financing to sustain its operations. [Lender's] expert testified that a company like [borrower] could only obtain merchandise through a bank providing letters of credit. [Lender's] employees knew of [borrowers] reliance on the line of credit, and in fact, [borrower] informed [lender] that without the letters of credit, [borrower] would be unable to maintain operations. Nevertheless, [lender] refused to issue the additional letters of credit [borrower] needed to obtain inventory to meet its 1996 orders. Then [lender] froze [borrowers] accounts, prohibiting it from converting its line of credit debt to [borrowers] assets, rendering it all but impossible for [borrower] to conduct business."

Since the lender prevented borrower from obtaining additional LCs and from utilizing its present line of credit, the court affirmed the trial courts's decision to permit recovery of lost profit.



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.