I.

Letters of Credit

Transfield Philippines vs Luzon Hydro

Electric Corp. GR No 146717, Nov
22, 2004
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The independent nature of the letter of credit may be: (a) independence in toto where the
credit is independent from the justification aspect and is a separate obligation from the
underlying agreement like for instance a typical standby; or (b) independence may be only
as to the justification aspect like in a commercial letter of credit or repayment standby,
which is identical with the same obligations under the underlying agreement. In both
cases the payment may be enjoined if in the light of the purpose of the credit the payment
of the credit would constitute fraudulent abuse of the credit.
Facts: Transfield Philippines (Transfield) entered into a turn-key contract with Luzon Hydro
Corp. (LHC).Under the contract, Transfield were to construct a hydro-electric plants in
Benguet and Ilocos. Transfield was given the sole responsibility for the design, construction,
commissioning, testing and completion of the Project. The contract provides for a period for
which the project is to be completed and also allows for the extension of the period provided
that the extension is based on justifiable grounds such as fortuitous event. In order to
guarantee performance by Transfield, two stand-by letters of credit were required to be
opened. During the construction of the plant, Transfield requested for extension of time citing
typhoon and various disputes delaying the construction. LHC did not give due course to the
extension of the period prayed for but referred the matter to arbitration committee. Because
of the delay in the construction of the plant, LHC called on the stand-by letters of credit
because of default. However, the demand was objected by Transfield on the ground that there
is still pending arbitration on their request for extension of time.

Issue: Whether or not LHC can collect from the letters of credit despite the pending
arbitration case

Held: Transfield’s argument that any dispute must first be resolved by the parties, whether
through negotiations or arbitration, before the beneficiary is entitled to call on the letter of
credit in essence would convert the letter of credit into a mere guarantee.

The independent nature of the letter of credit may be: (a) independence in toto where the
credit is independent from the justification aspect and is a separate obligation from the
underlying agreement like for instance a typical standby; or (b) independence may be only as
to the justification aspect like in a commercial letter of credit or repayment standby, which is
identical with the same obligations under the underlying agreement. In both cases the
payment may be enjoined if in the light of the purpose of the credit the payment of the credit
would constitute fraudulent abuse of the credit.

Jurisprudence has laid down a clear distinction between a letter of credit and a guarantee in
that the settlement of a dispute between the parties is not a pre-requisite for the release of
funds under a letter of credit. In other words, the argument is incompatible with the very
nature of the letter of credit. If a letter of credit is drawable only after settlement of the
dispute on the contract entered into by the applicant and the beneficiary, there would be no
practical and beneficial use for letters of credit in commercial transactions.

The engagement of the issuing bank is to pay the seller or beneficiary of the credit once the
draft and the required documents are presented to it. The so-called “independence principle”
assures the seller or the beneficiary of prompt payment independent of any breach of the
main contract and precludes the issuing bank from determining whether the main contract is
actually accomplished or not. Under this principle, banks assume no liability or responsibility
for the form, sufficiency, accuracy, genuineness, falsification or legal effect of any
documents, or for the general and/or particular conditions stipulated in the documents or
superimposed thereon, nor do they assume any liability or responsibility for the description,
quantity, weight, quality, condition, packing, delivery, value or existence of the goods
represented by any documents, or for the good faith or acts and/or omissions, solvency,
performance or standing of the consignor, the carriers, or the insurers of the goods, or any
other person whomsoever.

Bank of America NT & SA v Court of

Appeals and Francisco et. al G.R. No.
105395 December 10, 1993
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There would at least be three (3) parties: (a) the buyer, who procures the letter of credit
and obliges himself to reimburse the issuing bank upon receipts of the documents of title;
(b) the bank issuing the letter of credit, which undertakes to pay the seller upon receipt of
the draft and proper document of titles and to surrender the documents to the buyer upon
reimbursement; and, (c) the seller, who in compliance with the contract of sale ships the
goods to the buyer and delivers the documents of title and draft to the issuing bank to
recover payment.
Facts : Bank of America received an Irrevocable Letter of Credit issued by Bank of Ayudhya
for the Account of General Chemicals Ltd., Inc. for the sale of plastic ropes and agricultural
files. Under the letter of credit, Bank of America acted as an advising bank and Inter-Resin
Industrial Corp. (IR) acted as the beneficiary. Upon receipt of the letter advice, Inter- Resin
told Bank of America to confirm the letter of credit.

Notwithstanding such instruction, Bank of America failed to confirm the letter of credit.
Inter-Resin made a partial availment of the Letter of Credit after presentment of the required
documents to Bank of America. After confirmation of all the documents Bank of
America issued a check in favor of IR. BA advised Bank of Ayudhya of IR’s availment under
the letter of credit and asked for the corresponding reimbursement. IR presented documents
for the second availment under the same letter of credit. However, BA stopped the processing
of such after they received a telex from Bank of Ayudhya delaring that the LC fraudulent.
BA sued IR for the recovery of the first LC payment.

The IR contended that Bank of America should have first checked the authenticity of the
letter of credit with bank of Ayudhya

Issue: Whether or not Bank of America may recover what it has paid under the letter of credit
to Inter-Resin

Held : May Bank of America then recover what it has paid under the letter of credit when the
corresponding draft

There would at least be three (3) parties: (a) the buyer, who procures the letter of credit and
obliges himself to reimburse the issuing bank upon receipts of the documents of title; (b) the
bank issuing the letter of credit, which undertakes to pay the seller upon receipt of the draft
and proper document of titles and to surrender the documents to the buyer upon
reimbursement; and, (c) the seller, who in compliance with the contract of sale ships the
goods to the buyer and delivers the documents of title and draft to the issuing bank to recover
payment.
The services of an advising (notifying) bank may be utilized to convey to the seller the
existence of the credit; or, of a confirming bank 16 which will lend credence to the letter of
credit issued by a lesser known issuing bank; or, of a paying bank, which undertakes to
encash the drafts drawn by the exporter. Further, instead of going to the place of the issuing
bank to claim payment, the buyer may approach another bank, termed the negotiating bank,
18 to have the draft discounted.

Bank of America has acted independently as a negotiating bank, thus saving Inter-Resin from
the hardship of presenting the documents directly to Bank of Ayudhya to recover payment.
As a negotiating bank, Bank of America has a right to recourse against the issuer bank and
until reimbursement is obtained, Inter-Resin, as the drawer of the draft, continues to assume a
contingent liability thereon.

Furthermore, bringing the letter of credit to the attention of the seller is the primordial
obligation of an advising bank. The view that Bank of America should have first checked the
authenticity of the letter of credit with bank of Ayudhya, by using advanced mode of business
communications, before dispatching the same to Inter-Resin finds no real support.

Feati Bank and Trust Company v Court

of Appeals G.R. No. 94209 April
30, 1991
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In case of a notifying bank, the correspondent bank assumes no liability except to notify
and/or transmit to the beneficiary the existence of the letter of credit.
A negotiating bank, on the other hand, is a correspondent bank which buys or discounts
a draft under the letter of credit. Its liability is dependent upon the stage of the
negotiation. If before negotiation, it has no liability with respect to the seller but after
negotiation, a contractual relationship will then prevail between the negotiating bank
and the seller.
In the case of a confirming bank, the correspondent bank assumes a direct obligation to
the seller and its liability is a primary one as if the correspondent bank itself had issued
the letter of credit.
Facts: Bernardo Villaluz entered into a contract of sale with Axel Christiansen in which
Villaluz agreed to deliver to Christiansen 2,000 cubic meters of lauan logs at $27.00 per
cubic meter FOB. On the arrangements made and upon the instructions of consignee, Hanmi
Trade Development, Ltd., the Security Pacific National Bank of Los Angeles, California
issued an irrevocable letter of credit available at sight in favor of Villaluz for the sum of
$54,000.00, the total purchase price of the lauan logs.

The letter of credit was mailed to the Feati Bank and Trust Company with the instruction to
the latter that it “forward the enclosed letter of credit to the beneficiary.” The letter of credit
also provided that the draft to be drawn is on Security Pacific National Bank and that it be
accompanied by certain documents. The logs were thereafter loaded on a vessel but
Christiansen refused to issue the certification required in paragraph 4 of the letter of credit,
despite repeated requests by the private respondent. The logs however were still shipped and
received by consignee, to whom Christiansen sold the logs. Because of the absence of the
certification by Christiansen, the Feati Bank and Trust company refused to advance the
payment on the letter of credit until such credit lapsed. Since the demands by Villaluz for
Christiansen to execute the certification proved futile, he filed an action for mandamus and
specific performance against Christiansen and Feati Bank and Trust Company before the
Court of First Instance of Rizal. Christiansen however left the Philippines and Villaluz filed
an amended complaint making Feati Bank and Trust Company.

Issue: Whether or not Feati Bank is liable for Releasing the funds to Christiansen
 Held: In commercial transactions involving letters of credit, the functions assumed by a
correspondent bank are classified according to the obligations taken up by it. The
correspondent bank may be called a notifying bank, a negotiating bank, or a confirming bank.

In case of a notifying bank, the correspondent bank assumes no liability except to notify
and/or transmit to the beneficiary the existence of the letter of credit.

A negotiating bank, on the other hand, is a correspondent bank which buys or discounts a
draft under the letter of credit. Its liability is dependent upon the stage of the negotiation. If
before negotiation, it has no liability with respect to the seller but after negotiation, a
contractual relationship will then prevail between the negotiating bank and the seller.

In the case of a confirming bank, the correspondent bank assumes a direct obligation to the
seller and its liability is a primary one as if the correspondent bank itself had issued the letter
of credit.

In this case, the letter merely provided that the petitioner “forward the enclosed original
credit to the beneficiary.” (Records, Vol. I, p. 11) Considering the aforesaid instruction to the
petitioner by the issuing bank, the Security Pacific National Bank, it is indubitable that the
petitioner is only a notifying bank and not a confirming bank as ruled by the courts below.

A notifying bank is not a privy to the contract of sale between the buyer and the seller, its
relationship is only with that of the issuing bank and not with the beneficiary to whom he
assumes no liability. It follows therefore that when the petitioner refused to negotiate with the
private respondent, the latter has no cause of action against the petitioner for the enforcement
of his rights under the letter.

Since the Feati was only a notifying bank, its responsibility was solely to notify and/or
transmit the documentary of credit to the private respondent and its obligation ends there.

At the most, when the petitioner extended the loan to the private respondent, it assumed the
character of a negotiating bank. Even then, the petitioner will still not be liable, for a
negotiating bank before negotiation has no contractual relationship with the seller. Whether
therefore the petitioner is a notifying bank or a negotiating bank, it cannot be held liable.
Absent any definitive proof that it has confirmed the letter of credit or has actually negotiated
with Feati, the refusal by the petitioner to accept the tender of the private respondent is
justified.

KENG HUA PAPER PRODUCTS CO. INC., petitioner,

vs.
COURT OF APPEALS; REGIONAL TRIAL COURT OF MANILA,
BR. 21; and SEA-LAND SERVICE, INC., respondents.

Facts:

Plaintiff (herein private respondent Sea Land Service), a shipping company, is a foreign
corporation licensed to do business in the Philippines. Plaintiff received at its Hong Kong
terminal a sealed container, Container No. SEAU 67523, containing seventy-six bales of
"unsorted waste paper" for shipment to defendant (herein petitioner), Keng Hua Paper
Products, Co. in Manila. A bill of lading (Exh. A) to cover the shipment was issued by the
plaintiff.
The shipment was discharged at the Manila International Container Port. Notices of arrival
were transmitted to the defendant but the latter failed to discharge the shipment from the
container during the "free time" period or grace period