UK: Exceptional Circumstances Required To Prevent Bank From Paying Under Letter Of Credit

Last Updated: 1 October 2014
Article by Stuart Shepherd and Carl Walker

Alternative Power Solutions v. Central Electricity Board and Another [2014] UKPC 31

It is a fundamental principle underlying the operation of documentary credits that the obligations of the parties under the credit are independent of the terms of any underlying commercial transaction. Accordingly, any commercial disputes between the parties to the underlying transaction are irrelevant to the issuing bank's obligation to pay upon presentation of documents complying with the letter of credit. This obligation is subject only to narrow exceptions where there is fraud on the part of the beneficiary or illegality.

In a recent judgment, the Privy Council has considered the scope of the fraud exception and confirmed that an injunction restraining a bank from paying under a letter of credit on the basis of fraud will only be justified in extraordinary circumstances.

The background facts

This matter came before the Privy Council on appeal from the Court of Appeal of Mauritius. Alternative Power Solutions ("APS") contracted to supply a quantity of light bulbs to the Central Electricity Board ("the CEB"). The contract entitled the CEB to inspect the bulbs to confirm their conformity to the contract prior to shipment. The CEB also alleged that the parties had agreed that the bulbs were to be manufactured by, or under license by, Philips in China, although this was not accepted by APS.

Payment was to be made by way of an irrevocable letter of credit and the CEB duly procured the issue of a letter of credit ("the LC") by Standard Bank ("the Bank"). The LC provided for payment against the presentation of certain documents by APS. Significantly, the list of documents required did not include any certificate of inspection of the goods or written confirmation from the CEB that the goods could be released for shipment. The CEB requested an amendment to require presentation of these additional documents but this was not agreed by APS.

The goods were shipped without the CEB having had the opportunity to verify them and the CEB applied for an interlocutory injunction restraining the Bank from making payment in the event of a compliant presentation of documents by APS. Various allegations of fraudulent conduct were made against APS, including (i) that APS's tender for the contract required that the goods would be manufactured by or under license by Philips in China (which the Mauritian Court of Appeal subsequently held that APS never had any intention of complying with) and (ii) that APS had not allowed and/or authorised the CEB to inspect and verify the goods at the place of manufacture in China.

The decisions of the Mauritian courts

The Judge at first instance granted the injunction sought by the CEB. The Court was evidently influenced by alleged breaches of the underlying contract by APS. In particular, the Judge held that it was not open to the Bank to pay under the LC in circumstances in which it was aware that the terms and conditions of the underlying contract had not been complied with. The Judge held that the CEB had raised "a serious prima facie arguable case that there might be an attempt to defraud it" and considered that APS was debarred from claiming payment of the contract price until all disputes had been resolved. He further noted that APS was protected against any damage it suffered as a result of the injunction by the undertaking in damages given by the CEB. On that basis, the Judge concluded that the balance of convenience was heavily in favour of granting the injunction.

The decision and reasoning of the Judge at first instance was upheld by the Mauritian Court of Appeal.

The Privy Council decision

There were three issues for consideration by the Privy Council: (1) what is the correct test to establish the fraud exception, (2) was there sufficient evidence of fraud in this case to establish the exception and (3) did the balance of convenience justify an interlocutory injunction?

On the first issue, the Privy Council held that the Judge had not applied a sufficiently stringent test in considering whether the fraud exception had been established. The correct test is stated in United Trading Corporation S.A. v. Allied Arab Bank Ltd [1985] 2 Lloyd's Rep 554, namely whether it is seriously arguable that, on the material available, the only realistic inference is that the beneficiary could not honestly have believed in the validity of its demands and that the bank was aware of that fact.

As to whether there was sufficient evidence of fraud, the Privy Council noted that the CEB had relied upon the failure of APS to supply bulbs manufactured by Philips and that they had failed to allow the CEB to inspect and verify the bulbs at the place of manufacture. These allegations, however, were allegations of breaches of the sale contract and were thus irrelevant to the liability of the Bank under the LC. In so far as he had relied on these allegations as amounting to fraud, the Judge was held to have erred in principle.

The Mauritian Courts were also influenced by evidence given by the CEB that APS had twice breached undertakings given to the Court. The Privy Council held that even if there was some force in this allegation against APS, it was irrelevant to the position under the LC.

The Privy Council also accepted APS's submission that the balance of convenience will almost always militate against the grant of an injunction. Even if a party is able to establish the fraud exception, it still faces what was has been described as an insuperable difficulty, in that it will have an adequate remedy against the bank in damages if it pays despite being on notice of fraud.

By contrast, an injunction would interfere with the issuing bank's obligations to other banks involved and might cause greater damage to the bank than the party seeking the injunction could pay on their undertaking as to damages. In these circumstances, the balance of convenience will almost always be in favour of allowing the bank to pay.

Comment

This case provides a useful reminder of the autonomy principle underpinning letters of credit and confirms that commercial disputes arising in the underlying transaction are irrelevant to the issuing bank's obligation to pay upon presentation of documents complying with the credit.

It is virtually impossible to obtain an injunction preventing the bank from making payment because the balance of convenience will almost always be in favour of allowing the bank to make payment. While the decided cases do not go so far as to say that the balance of convenience will never justify granting an injunction, it is clear that extraordinary circumstances will be required. Such circumstances have not so far presented themselves to the English courts.

This underlines the importance of ensuring that any and all documents a buyer requires before the seller is able to obtain payment are accurately listed in the letter of credit. Once the letter of credit has been issued, any omissions can only be corrected with the agreement of the other party. Absent such agreement, it is highly unlikely that the buyer will have any means of stopping payment once the seller has presented the documents that are listed in the letter of credit.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.