Factual Summary: To guarantee payment for telecommunications services, applicant authorized issuer to open a standby LC for US $180,000, payable on beneficiary's presentation of its sight draft and a certification stating that it had invoiced the applicant and that applicant failed to pay as agreed.

Beneficiary allegedly submitted eight invoices to applicant for a total amount of $88,526.40. Applicant claimed that it payed beneficiary a total of $36,824.63 of that amount. Beneficiary, however, presented confirmer with its sight draft and certification that beneficiary had presented applicant with 24 unpaid invoices totaling $180,000.00, all of which, it claimed, remained unpaid. The confirmer paid and then requested reimbursement from the issuer. Applicant did not dispute that the documents complied on their face with the terms of the LC, but it asserted fraud on behalf of the beneficiary.

The applicant filed an action against the issuer and confirmer for a permanent injunction and moved for a preliminary injunction. The trial court denied the applicant's motion for preliminary injunctive relief against the issuer and confirmer. It also denied of both of confirmer's cross motions for orders: 1) dismissing applicant's complaint, and 2) directing the issuer to remit to confirmer the full amount of the LC.

Legal Analysis:

1. N.Y. UCC §5-102(4): Applicability of UCC in New York: The trial court recognized that "[a]lthough [prior N.Y.] UCC 5-102(4) provides generally that Article 5 of the UCC does not apply to a letter of credit which by its terms is subject to the UCP, it is well-settled that the UCP does not 'affect the subject matter of,' or bar relief provided for in, UCC 5-114, [regarding fraud]" citingMennen v. J.P. Morgan & Co.,91 NY2d 13, 22 [1997].

2. Injunction: N.Y. and Prior Section 5-114: The trial court noted that "the fact that a letter of credit is governed by the UCP [does not] bar reference to other sections of Article 5 for aid in construing and applying UCC 5-114."

3. Injunction Requirements: The applicant sought to enjoin the issuer from paying on the LC. The trial court noted three conditions required to obtain preliminary injunctive relief: "[1] a likelihood of success on the merits, [2] irreparable harm in the absence of the injunctive relief, [3] and a balancing of the equities in the [applicant's] favor."

4. Injunction: Confirmer: Bad Faith: The trial court noted that, "before a court may enjoin an issuing bank from reimbursing a confirming bank which has honored a beneficiary's presentment and paid the beneficiary in accordance with the terms of the credit, [the applicant] must also demonstrate that the confirming bank honored the presentment in bad faith." Prior UCC 5-114 provides that, an issuer, or confirming bank, who has rightfully honored a demand for payment under the LC is entitled to immediate reimbursement by the applicant (or issuer if a confirming bank honored the credit). Therefore, in order for the applicant "to obtain an injunction enjoining [issuer] from reimbursing [confirming bank] for the latter's payment to [beneficiary] under the LOC, [applicant] must demonstrate that it is likely to succeed in establishing both (1) that the documents presented by [beneficiary] to [confirming bank] were fraudulent and/or that there was fraud in the underlying transaction, and (2) that [confirming bank], in honoring the documents presented by [beneficiary], did not do so in good faith."

The trial court determined that the applicant adequately demonstrated the likelihood of its success in proving fraud on the part of the beneficiary in its presentation of documents, however the applicant failed to demonstrate its probability of success in establishing that the confirming bank acted in bad faith when it honored those documents.

In the amended complaint, the applicant had alleged that, "[confirming bank] had actual knowledge of [beneficiary's] . . . fraudulent conduct and participated with [beneficiary] in a scheme to defraud [applicant] and/or [issuer]." The trial court noted that this allegation was not made based on personal knowledge and that it was unsupported by any allegation of fact. The complaint also alleged that the confirming bank is controlled by a holding company that also owns 55% of beneficiary, and that knowledge may be imputed upon the confirming bank regarding beneficiary's fraudulent conduct because of this common ownership. The trial court then noted that, "[applicant] has not alleged (or submitted evidence of) any interaction between [beneficiary] and [confirming bank], however, let alone the sort of close relationship which would permit the court to avoid the UCC's subjective knowledge standard by imputing knowledge of [beneficiary's] alleged fraud to [confirming bank]."Fidelity Bank, Natl Assn v.Avrutick, 740 F Supp 222, 236-237 (S.D.N.Y. 1990) [U.S.A.].

Applicant further asserted bad faith on the part of the confirming bank based on "the fact that it acted contrary to banking customs and practices when it made payment to [beneficiary] without providing [issuer] with a reasonable opportunity to examine the documents presented by [beneficiary], and to consult with [applicant]." The trial court observed, however, that "the UCP does not require a confirming bank to provide an issuing bank with any opportunity to examine those documents."

5. Injunction: Likelihood of Success: As the applicant failed to produce any evidence of the confirming bank's bad faith, it "also failed to demonstrate the likelihood of success on the merits of its underlying cause of action for a permanent injunction against [issuer] which would enjoin it from honoring a presentment by [the confirming bank].

6. Injunction: Irreparable Injury: The trial court concluded that applicant further failed to show "irreparable injury in the absence of a grant for injunctive relief, because applicant may be adequately compensated by an award of monetary damages." citingSperry Intl. Trade v. Government of Israel,670 F2d 8, 12 (2d Cir. 1982)[U.S.A.]Chiat/Day Inc. v. Kaliman,105 AD2d 94, 98 (1st Dept 1984). Furthermore, in the event that the applicant does not succeed in its current action, it may still be able to get remedy through an action against the beneficiary. The trial court then noted that whether or not the applicant could get personal jurisdiction over the beneficiary in the United States is irrelevant to this finding, because the applicant willfully took on that risk when choosing to do business with a foreign company.

7. Injunction: Irreparable Harm: Insolvency:The applicant also argued that the beneficiary's imminent insolvency was a basis for a finding of irreparable harm in that it would suffer in the absence of an injunction. The trial court rejected this argument stating that applicant's "vaguely worded averment as to [beneficiary's] 'approaching insolvency' is not alone a sufficient basis for such a finding." See, Sperry Intl. Trade v. Government of Israel, supra,at 12. The trial court denied the applicant's motion for injunctive relief on the same grounds that it denied the motion against the issuer.

8. Permanent Injunction: Denial of a motion for preliminary injunction is not an adjudication on the merits and does not indicate that an action for permanent injunction will necessarily fail.

Without proof of its imminent failure as a matter of law, the action for permanent injunction cannot be dismissed, and "the issues must be tried as if no application for a preliminary injunction had been made."Quoting Ratner v. Fountains Clove Road-Apts.,118 AD3d 843 (2d Dept 1986).

9. Mandatory Injunction: The court noted that confirmer's cross motion, which sought an order directing the issuer to reimburse the confirmer the full amount it paid on the LC, was tantamount to a mandatory injunction against the issuer. Because the confirmer had no claims against the issuer to serve as a foundation for such a request for injunctive relief, the court declined to consider this cross motion.



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.