UCP 600 Legal Analysis and Case Studies

by King Tak FUNG

First published in July 2008 by P.E.E.R. Consultancy Ltd. Room 2001, 20/F. Hing Yip Commercial Centre 272-284 Des Voeux Road Central Sheung Wan Hong Kong Tel: (852) 2543 3312 www.peer.com.hk Fax: (852) 2521 9875 E-mail: info@peer.com.hk

Copyright 2008 P.E.E.R. Consultancy Ltd. All rights reserved. No part of this work may be reproduced or copied in any form or by any means graphic, electronic, or mechanical, including photocopying, recording, taping, or information retrieval system without the written permission of P.E.E.R. Consultancy Ltd.

ISBN 978-988-17333-1-3

This text is the work of independent authors and does not necessarily represent the views of P.E.E.R. Consultancy Ltd. No legal imputations should be attached to the text and no legal responsibility is accepted for any errors, omissions or misleading statements caused by negligence or otherwise. This book is intended only as a general overview and discussion of the cases listed. It is not intended, and should not be used, as a substitute for taking legal advice in any specific situation.

Chapter 1
Contracting Parties

INTRODUCTION The aim of this chapter is to highlight the contractual relationships between the parties in an L/C operation and to illustrate the concepts and principles related to the following questions: 1. Are the various contracts under an L/C transaction separate from and independent of each other? 2. Who bears the risk of ambiguous L/C terms stated in an L/C? 3. Which party is entitled to sue the issuing bank which wrongfully rejects the presented documents? 4. Is financing provided by the exporters banker with or without recourse against the beneficiary? 5. May a nominated bank modify its payment undertaking extended to the beneficiary by contract? 6. What are the risks of providing a telegraphic transfer (T.T.) reimbursement clause in an L/C? 7. Are Hong Kong and China considered to be two different countries so far as the UCP is concerned? 8. How can an exporter protect its interests under the sales contract if the L/C contract does not work?
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LEGAL ANALYSIS AND CASE STUDIES

9. What is the sellers legal position if it signs a sales contract with Party B, but the corresponding export L/C shows Party C as the applicant? 10. What are the key terms that the trading parties must consider in drafting their sales and purchase contracts? TRANSACTION FLOW The diagram below summarizes the transaction flow of an L/C operation.
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Buyer (Applicant)

Seller (Beneficiary)

Issuing Bank

Advising/ Confirming Bank

Financing/ Presenting Bank

7 8 Reimbursing Bank

Procedures involved 1. 3. 5. 7.
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Sales contract Issues the L/C Shipment of goods Dispatch documents to

2. 4. 6. 8.

Applies for an L/C Advises/confirms the L/C Presents documents to Pays

CHAPTER 1: CONTRACTING PARTIES

1. Are the above contracts separate from and independent of each other?

The above contracts are separate from and independent of each other in law. This demonstrates both the privity of contract principle (i.e. the parties to a contract) and the L/C autonomy principle. Articles 4 and 5 of UCP 600 expressly state the well-established principle that a credit by its nature is a separate transaction from the sale or other contract on which it may be based, and banks deal with documents and not with goods, services or performance to which the documents may relate. Case Study #1 The beneficiary informed the applicant that the documents presented under the L/C were discrepant. The applicant confirmed by e-mail that it accepted the relevant discrepancies and would waive the same when the documents were received by the issuing bank. In these circumstances, could the issuing bank, irrespective of the agreement between the applicant and the beneficiary, reject the presented documents on the ground of discrepancies? Yes. First, the agreement between the beneficiary and applicant to waive the discrepancies is solely a contract between these two parties and is not binding on the issuing bank. Accordingly, the issuing bank is entitled to reject the discrepant documents based solely on the L/C contract. For example, if the applicant becomes insolvent when the issuing bank receives the presented documents, it is very likely that the issuing bank would refuse the presentation, as it may not be able to seek reimbursement from the applicant. Second, we cannot rule out the possibility that the applicant could change its mind by the time the documents are received by the issuing bank and could refuse to waive the discrepancies, especially when the price of the goods has declined, enabling the applicant to purchase the goods from other sources at a lower price.
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LEGAL ANALYSIS AND CASE STUDIES

The proper way to mitigate such a risk is to ask the presenting bank to send an electronic message to the issuing bank, asking it to waive the discrepancies. At the same time, the beneficiary can also relay this message to the applicant so that the applicant can promptly instruct the issuing bank to confirm the issuing banks waiver of the discrepancies by an authenticated message to the presenting bank. It follows that the issuing bank would be estopped from rejecting the presented documents if it has waived the identified discrepancies, and the presented documents would therefore be deemed to be compliant unless other discrepancies are identified by the issuing bank.
2. Who bears the risk of ambiguous L/C terms stated in an L/C?

Case Study #2 In Heritage Bank v Redcom Laboratories, Inc.1, the L/C required: One copy of the invoice/bill of lading . The beneficiary presented an invoice, but the issuing bank asserted that the beneficiary was required to present a bill of lading as well. The crux of the argument was whether the virgule means and or or. The court rejected the issuing banks argument, stating that the plain terms of the L/C indicated that the beneficiary could provide either an invoice or a bill of lading. The court further cited the American Heritage Dictionary of the English Language for the definition that a virgule is a diagonal mark (/) used especially to separate alternatives. Under English and Hong Kong law, if a contract is drafted with ambiguity, the contra proferentem rule may apply, i.e. the ambiguity is likely to be interpreted against the party who drafts the document. It follows that the issuing bank, which issues an L/C, is obligated to pay under the L/C and then to seek reimbursement from the applicant (see contract no. 2 of the above diagram). Although
1.
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2001 U.S. App. 250 F3d 319 (5th Cir.) (USA).

CHAPTER 1: CONTRACTING PARTIES

paragraph 2 of ISBP 681 states that the applicant bears the risk of any ambiguity in its instructions to issue or amend a credit, the issuing bank may suffer a loss if the applicant becomes insolvent by the time payment has been made by the issuing bank. This explains why the issuing bank should always insist that the terms and conditions provided by the applicant in an L/C issuance application be clear and unequivocal. This is to protect the interests of both the issuing bank and the applicant.
3. Which party is entitled to sue the issuing bank which wrongfully rejects the presented documents?

It all depends on who has the right to claim payment under the L/C. If the beneficiary only asks its banker to present the documents as its collecting agent, the drawing and claiming rights remain with the beneficiary. However, if the beneficiarys banker has provided financing against the presented documents (e.g. by way of negotiation, prepayment or purchase), or the beneficiary has assigned all its rights, interests, title and benefits (e.g. by way of a legal assignment) to its banker, the financing bank would be entitled to sue the issuing bank in its own name. Note that it is not uncommon that a financing bank will exercise its right of recourse, if any, against the beneficiary once the relevant presentation is rejected by the issuing bank. In such circumstances, the right to claim against the issuing bank will be transferred back from the financing bank to the beneficiary.
4. Is financing provided by the exporters banker with or without recourse against the beneficiary?

UCP 600 UCP 600 does not address the with or without recourse issues except that sub-article 8(a)(ii) expressly states that the confirming bank must negotiate, without recourse, if the credit is available by negotiation with the confirming bank.

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