Letters of credit (LC) have long been prized in trade finance because of the security they offer: whatever happens in the underlying transaction, the bank that issued the instrument is almost always obliged to honour it as long as the documents are presented correctly.
But a recent court judgment has wrestled with a situation where an LC-issuing entity, Euro Exim Bank, inserted a clause into 18 LCs which stipulated that it would only honour the instruments after first receiving payment from its client, a buyer. The bank then released the transaction documents to the buyer before the seller had been paid.
The judge sided with Euro Exim Bank, finding the seller was “the architect of its own misfortune” for not objecting to the clause or following up on concerns raised by its own bank.
While the trial took place in the Eastern Caribbean Supreme Court in July and August 2023, the judgment was only published last month. The following summary is based on the ruling, which is being appealed.
Who are the parties?
- LC applicant: United Overseas Trading Co Ltd (UOT)
- LC beneficiary: Weifang JS Trading Co Limited
- LC issuing bank: Euro Exim Bank
- Weifang’s advising bank: Bank of China
Weifang JS Trading Co Limited is a Chinese chemicals firm. It sold several shipments of melamine powder to UOT between October 2020 and June 2021.
Euro Exim Bank was UOT’s bank and issued the LCs in question. It has an international banking licence from St. Lucia, which permits the bank to provide services only to customers outside the Caribbean nation.
What are the basic facts?
Euro Exim Bank issued 18 LCs in total to UOT. While nine LCs were paid in full, a further two were only partially paid and seven have not been paid at all. Weifang claimed it is out of pocket by US$3.42mn, not including interest. Euro Exim Bank earned fees of around 3.5% of the value of each LC.
The trial heard that Euro Exim Bank released the transaction documents to UOT before UOT had paid either the bank or Weifang.
“Consequently, UOT has taken possession of the goods, and the claimant is left without its documents, or payment for the goods sold,” according to the judge’s description of Weifang’s claim.
What was the special clause?
The court heard that Euro Exim Bank drafted LCs containing a clause that it would only make payment to Weifang “upon payment from applicant”, UOT. The lender argued that this was a strict term of the LC which superseded the Uniform Customs and Practice (UCP) 600, the internationally recognised rules that govern documentary credits.
What did Weifang argue?
Weifang’s expert witness, documentary credit expert and International Chamber of Commerce (ICC) Banking Commission technical advisor Kim Sindberg, submitted that “the obligation in a letter of credit should not be dependent on any approvals or payments from the applicant. This would be considered bad banking practice.”
“It is a fundamental principle of letters of credit that documents cannot be delivered to the applicant without payment being made”, according to the judge’s paraphrasing of his testimony.
The sole witness from Weifang, sales manager Tan Jian, said that “he did not expect the defendant to release the documents to UOT without first paying the claimant, otherwise, there would be no point in having the LCs”, according to the judge’s summary.
It emerged during the trial that Weifang had received payments for the successful LCs directly from UOT, instead of from the bank, as would typically be the case in such a transaction.
But Jian said he was not aware at the time that payment was being received directly from his customer. He conceded that when payments were late, the company would usually chase UOT directly, rather than Euro Exim Bank. The bank only began to be chased by Bank of China, including by letters of demand, when it became clear that there was a serious issue with payment.
How did Euro Exim Bank respond?
The bank argued it was a “strict term” of the LC that payment to Weifang was conditional upon the bank receiving payment from UOT. Therefore, it was never obliged to honour the LC because it never received payment from its client.
It said the instruments were deferred payment LCs with payment to be made “45 days after sight”, and therefore UOT had 45 days after receiving the documents to pay Euro Exim Bank, at which point the bank would pay Weifang.
Dr Graham Bright, Euro Exim Bank’s head of compliance and operations, said in evidence, in the judge’s words, that the “upon payment from applicant” clause “is not uncommon in the industry as there is commercial sense and purpose for this type of instrument”.
The bank’s expert witness, director of the ICC UAE and documentary trade specialist Vincent O’Brien, said the onus was on Weifang to review each LC and either make requests for amendments, reject them outright or decline to ship the goods until it was satisfied with the terms of the LC.
Weifang never communicated that it wished the bank to withhold the documents from the buyer, O’Brien submitted. There was an entry in the LC that superseded the bank’s obligation under UCP 600 to notify the beneficiary if it was either holding or returning documents, he said.
Kaushik Punjani, Euro Exim Bank’s chairman and sole shareholder, gave evidence that after issuing the LCs it neither received payment from UOT or heard anything from the beneficiary, so it assumed that payment had been settled outside of the LC.
Punjani told the court that Euro Exim Bank does not obtain security against LCs “but issues instruments upon payment by the applicant”, according to the judge’s summary.
How did the court rule?
Judge Cadie St Rose-Albertini dismissed Weifang’s claim and found in favour of the bank on all the issues. In essence, she came down against Weifang because the company had the opportunity to query the “upon payment by applicant” clause, but chose not to.
“I do not agree that these terms should be overlooked merely because it removed the LCs from the true essence of the purpose of an LC […] the onus would be on the claimant to ensure that it was satisfied that the terms of the LCs were acceptable before shipping its goods,” Judge St Rose-Albertini wrote. “By failing to do so, it seem[s] to me that the claimant was the architect of its own misfortune.”
The judge also noted that Bank of China had raised unspecified concerns about Euro Exim Bank’s LCs, but this was not followed up by Weifang.
Furthermore, she found the fact that all successful payments had been made directly to Weifang, instead of by the bank, “serve[d] to confirm that the claimant and UOT had embarked on a course of dealings from inception which permitted the documents to be released by the defendant, ahead of payment”.
How have the parties responded?
Weifang did not respond to a request for comment from GTR. A lawyer for the firm, Renée St Rose KC, said the judgment is being appealed and a hearing expected in February 2027.
Ishrat Khan, Euro Exim Bank’s head of legal, told GTR that, for the bank, “the judgment is particularly significant in confirming the effectiveness of the contractual framework governing the instruments. The court recognised that the relevant payment provisions were clear in their operation and that the parties’ bargain was to be given effect.”
“More broadly, the judgment serves as an important reminder that sophisticated commercial parties – and their advising banks – must carefully consider the particular terms of an instrument rather than proceed on assumptions derived from conventional forms or general market practice,” he added.
