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STUDY GUIDE ON THE SPECIAL COMMERCIAL

LAWS
COVERED BY THE 2014 MERCANTILE LAW BAR
EXAMINATION*
I

2. To be limited to a fixed and specified amount, or to


one or more undetermined amounts, but within a
maximum the limits of which has to be stated exactly.

LETTERS OF CREDIT

Those which do not have any of these last


circumstances shall be considered as mere letters of
recommendation.

Articles 567-572, Code of Commerce.


11.1 Topics

Period of validity
Governing Law

1. Articles 567-572 of the Code of Commerce, which


provides a skeletal introduction to the subject of letters
of credit
2.The Uniform Customs and Practice for Documentary
Credits issued by the International Chamber of
Commerce, whicc reflects accepted commercial usage
and practice on the subject of letters of credit and the
application of which in the Philippines has been
acknowledged by the Supreme Court based on Article
2 of the Code of Commerce which provides that in the
absence of any applicable provision in the Code of
Commerce, commercial transactions shall be governed
by usages generally observed. (See BPI v. De Reny
Fabric Industries; Feati Bank v. CA; and Bank of
America, NT & SA v. CA)

Concept and nature

ARTICLE 567. Letters of credit are those issued by


one merchant to another or for the purpose of
attending to a commercial transaction.

Essential conditions

ARTICLE 568. The essential conditions of letters of


credit shall be:

1. To be issued in favor of a definite person and not to


order.

ARTICLE 572. If the bearer of a letter of credit does


not make use thereof within the period agreed upon
with the drawer, or, in default of a period fixed, within
six months, counted from its date in any point in the
Philippines, and within twelve months anywhere
outside thereof, it shall be void in fact and in law.

Basic parties

The buyer, who procures the letter of credit and


obliges himself to reimburse the issuing bank upon
receipt of the documents of title;

The bank issuing the letter of credit, which undertakes


to pay the seller upon receipt of the draft and proper
documents of titles and to surrender the documents to
the buyer upon reimbursement; and

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. (See Bank of America v. NT & SA)

Governing contracts

a)
Issuing bank and applicant/buyer/importer
Their relationship is governed by the terms of the
application and agreement for the issuance of the
letter of credit by the bank

b)

Issuingbankandbeneficiary/seller/exporter
Their relationship is governed by the terms of
the letter of credit issued by the bank
c)
Applicant andbeneficiaryTheir relationship
is governed by the sales contract. (See Reliance
Commodities v. Deawoo Industrial)

Other possible parties (notifying, negotiating,


paying, and confirming banks)

Opening bank buyers bank which issues the letter


of credit
Notifying bank corresponding bank of the opening
bank through which it advises the beneficiary of the
existence of the letter of credit
Negotiating bank any bank in the city of the
beneficiary

Paying bank - buys or discounts the drafts if such


draft is drawn on the opening bank or on another
designated bank not in the city of the beneficiary
Confirming bank upon the request of the
beneficiary confirms the letter of credit issued by the
opening bank

Independence principle

The independence principle in a letter of credit


transactions means that a bank, in determining
compliance with the terms of a letter of credit is
required to examine only the shipping documents
presented by the seller and is precluded from
determining whether the main contract is actually
accomplished or not. This arrangement assures the
seller of prompt payment, independent of any breach
of the main sales contract. (See Bank of America NT &
SA).
serves three purposes: as a receipt, a contract and a
document of title.

Rule of strict compliance

The rule of strict compliance in a letter of credit


transaction means that the documents tendered by the
seller or beneficiary must strictly conform to the terms
of the letter of credit, i.e., they must include all
documents required by the letter of credit. Thus, a
correspondent bank which departs from what has been
stipulated under the letter of credit, as when it accepts
a faulty tender, acts on its own risk and may not
thereafter be able to recover from the buyer or the
issuing bank, as the case may be; the money thus paid
to the beneficiary. (See Feati Bank)

**Documents associated with letters of credit


transactions

Draft sometimes called a bill of exchange, it is an


order written by an exporter/seller instructing an
importer/buyer or its agent to pay a specified amount
of money at a specified time.

c)
Commercial invoice a document signed and
issued by the seller and contains a precise description
of the merchandise and the terms of the sale such as
unit prices, amount due from the buyer and shipping
conditions related to charges.

Consular invoice a document issued by the


consulate of the importing country to provide customs
information and statistics for that country and to help
prevent false declarations of value.

Certificate of analysis a document that may be


required to ascertain that certain specifications of
weight, purity, sanitation, etc. have been met.
Packing list an enumeration of the contents of
containers so that they can be identified, either for
customs purposes or for importer identification of the
contents of separate containers.

Export declaration a document prepared by the


exporter to assist the government to prepare export
statistics.

Bill of lading document issued to the exporter by a


common carrier transporting the merchandise. It

Fraud exception principle

**Process

It provides that the untruthfulness of a certificate


accompanying a demand for payment under a standby
letter of credit may qualify as fraud sufficient to support
an injunction against payment. (Transfield v. Luzon
Hydro, G.R. No. 146717, Nov. 22, 2004)

1. Once the credit is established, the seller ships the


goods to the buyer and in the process secures the
shipping documents or DOT

11.2 Cases

Nature of letters of credit

2. To get paid, the seller executes a draft and presents


it together with the required documents to the issuing
bank

3. The issuing bank redeems the draft and pays cash


to the seller if it finds the documents submitted by the
seller conform with what the letter of credit requires

Prudential Bank v. IAC (1992)

A letter of credit is defined as an engagement by a


bank or other person made at the request of a
customer that the issuer will honor drafts or other
demands for payment upon compliance with the
conditions specified in the credit. Through a letter of
credit, the bank merely substitutes its own promise to
pay for the promise to pay of one of its customers who
in return promises to pay the bank the amount of funds
mentioned in the letter of credit plus credit or
commitment fees mutually agreed upon.

4. The bank obtains possession of the documents


upon paying the seller
5. Transaction is completed when the buyer
reimburses the issuing bank and acquires the
documents entitling him to the goods.**

Independence principle

BPI v. De Reny Fabric Industries (1970)


Bank of America v. CA (1993)

A letter of credit is a financial device developed by


merchants as a convenient and relatively safe mode of
dealing with sales of goods to satisfy the seemingly
irreconcilable interest of a seller, who refuses to part
with his goods before he is paid, and a buyer, who
wants to have control of the goods before paying. To
break the impasse, the buyer may be required to
contract a bank to issue a letter of credit in favor of the
seller so that, by virtue of the letter of the letter of
credit, the issuing bank can authorize the seller to draw
drafts and engage to pay them upon their presentment
simultaneously with the tender of documents required
by the letter of credit. The buyer and the seller agree
on what documents are to be presented for payment,
but ordinarily they are documents of title evidencing or
attesting to the shipment of the goods to the buyer.
Under this arrangement, the seller gets paid only if he
delivers the documents of title over the goods, while
the buyer acquires the said documents of title over the
goods only after reimbursing the bank.

Facts: De Reny Fabric obtained letters of credit from


BPI covering the purchase by the corporation of
dyestuffs from its American supplier. Upon
presentment of the bills of lading and drafts covering
the goods to the corresponding bank of BPI in the US
the supplier was paid. De Reny refused to pay BPI on
the ground that the goods delivered were defective

Issue: WON the foreign corresponding banks of BPI


had the duty to take the necessary precaution to insure
that the goods shipped conformed with the item
appearing of the letters of credit?

Held: No.

Under the terms of their commercial letter of credit


agreements with the bank, De Reny agreed that the
Bank shall not be responsible or liable for any defect or
loss of the goods. But even without such stipulation,
the burden of loss still cannot be shifted to the Bank on
account of the seller breach of its obligation. Under
Uniform Customs and Practice for Commercial
Documentary Credits, banks in providing financing in
international business transactions, do not deal with
the property to be exported or shipped to the importer
but only deal with the documents. Custom in
international banking and financing circles negate any
duty on the part of a bank to verify whether what has
been described in letters of credit or drafts or shipping
documents actually tallies with what was loaded
abroad ship.

Rule of strict compliance

Transfield Philippines, Inc. v. Luzon Hydro


Corporation (2004)

Facts: Transfield Philippines and LHC entered into a


turnkey contract whereby the former undertook to
construct a hydro-electric power station by June 1,
2000. To secure performance of the obligation on or
before the target completion date, Transfield opened in
favor of LHC 2 standby letters of credit. Transfeild
failed to complete the project by the target date.
Transfield filed a Complaint for Injunction to restrain
LHC from calling on the securities.

Issue: WON the banks should dispose of the securities


upon application by LHC? Yes.
Held:

Feati Bank v CA (1991)

It is settled rule in commercial transactions involving


letters of credit that the documents tendered must
strictly conform to the terms of the letter of credit. The
tender of documents by the beneficiary (seller) must
include all documents required by the letter. A
correspondent bank which departs from what has been
stipulated under the letter of credit, as when it accepts
a faulty tender, acts on its own risks and it may not
thereafter be able to recover from the buyer or the
issuing bank, as the case may be, the money thus paid
to the beneficiary. Thus the rule of strict compliance. In
the United States, commercial transactions involving
letters of credit are governed by the rule of strict
compliance. In the Philippines, the same holds true.
The same rule must also be followed. The case of
Anglo-South American Trust Co. v. Uhe et al. (184 N.E.
741 [1933]) expounded clearly on the rule of strict
compliance. We have heretofore held that these
letters of credit are to be strictly complied with, which
documents, and shipping documents must be followed
as stated in the letter. There is no discretion in the
bank or trust company to waive any requirements. The
terms of the letter constitutes an agreement between
the purchaser and the bank.

Concept of Standby letters of credit The use of


credits in commercial transactions serves to reduce
the risk of non-payment of the purchase price under
the contract of sale of goods. Standby credits however
are used in non-sale settings where they serve to
reduce the risk of non-performance.

Commercial credit v. standby credit

Commercial credit involve of payment of money under


a contract of sale.
Commercial credits become payable upon the
presentation by the seller of documents that show he
has taken affirmative steps to comply with the sales
agreement. Standby credits is payable upon
certification of a partys nonperformance of the
agreement.

Beneficiary of commercial credit must present


documents that he has performed his contract. While
beneficiary of standby credit must certify that his
obligor has not performed the contract.

Standby letters of credit