ART 567-572 CODE OF COMMERCE

11.1 Topics 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, which 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.
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.
Those which do not have any of these last circumstances shall be considered as
mere letters of recommendation.
Period of validity
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 and governing contracts Basic parties of a letter of credit
a) The buyer, who procures the letter of credit and obliges himself to reimburse the
issuing bank upon receipt 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 documents 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. (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) Issuing bank and
beneficiary/seller/exporter – Their relationship is governed by the terms of the letter
of credit issued by the bank
c)
Applicant and beneficiary – Their relationship is governed by the sales contract.
(See Reliance Commodities v.
Deawoo Industrial)
Opening bank – buyer’s 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).
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
a) 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.
b) Bill of lading – document issued to the exporter by a common carrier transporting
the merchandise. It serves three purposes: as a receipt, a contract and a document
of title.
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.
d) 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.
e) Certificate of analysis – a document that may be required to ascertain that
certain specifications of weight, purity, sanitation, etc. have been met.
f) 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.
g) Export declaration – a document prepared by the exporter to assist the
government to prepare export statistics.
11.2 Cases
Nature of letters of credit Prudential Bank v. IAC
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.
Bank of America v. CA
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.
Process
1. Once the credit is established, the seller ships the goods to the buyer and in the
process secures the shipping documents or DOT
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
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.
Lee v. CA
Modern letters of credit are usually not made between natural persons. They involve
bank-to-bank transactions. Historically, letters of credit was developed to facilitate
the sale of goods between distant and unfamiliar buyers and sellers. It was an
arrangement under which a bank, whose credit was acceptable to the seller, would
at the instance of the buyer agree to pay drafts drawn on it by the seller, provided
that certain documents are presented such as bills of lading accompanied the
corresponding drafts.
Parties to a commercial letter of credit 1. Buyer or importer
2. Seller or the beneficiary
3. Opening bank – buyer’s bank which issues the letter of credit
4. Notifying bank – corresponding bank of the opening bank through which it
advises the beneficiary of the existence of the letter of credit
5. Negotiating bank – any bank in the city of the beneficiary
6. 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
7. Confirming bank – upon the request of the beneficiary confirms the letter of credit
issued by the opening bank
Standby letters of credit
Transfield Philippines, Inc. v. Luzon Hydro Corporation
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:
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
1. Commercial credit involve of payment of money under a contract of sale.
2. 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 party’s
nonperformance of the agreement.
3. 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.
Independence principle
BPI v. De Reny Fabric Industries
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 Feati Bank v. CA
Facts: The letter of credit provided that the draft should be presented to the issuing
bank with the following documents: commercial invoice, tally sheets, bills of lading
and a certification from Han-Axel Christiansen (consignor). The latter refused to
issue the certification. Feati Bank, a corresponding bank of the issuing bank in the
Philippines, refused to honor the drafts without the certification.
Issue: WON a correspondent bank can be held liable under the letter of credit
despite non-compliance by the beneficiary with the terms thereof.
Held: It is as 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 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 the money
thus paid to the beneficiary. Thus the rule of strict compliance.
Since a bank deals only with documents, it is not in a position to determine whether
or not the documents required by the letter of credit are material or superfluous.
There mere fact that the document was specified therein readily
means that the document is of vital importance to the buyer.

What is the nature of bill of lading? When does a bill of lading become binding on a
consignee?
A bill of lading serves two functions.
1. It is a receipt for the goods shipped.
2. It is a contract by which three parties, namely, the shipper, the carrier, and the
consignee undertake specific responsibilities and assume stipulated obligations.
A “bill of lading delivered and accepted constitutes the contract of carriage even
though not signed,” because the “acceptance of a paper containing the terms of a
proposed contract generally constitutes an acceptance of the contract and of all of
its terms and conditions of which the acceptor has actual or constructive notice.”
The acceptance of a bill of lading by the shipper and the consignee, with full
knowledge of its contents, gives rise to the presumption that the same was a
perfected and binding contract.

Was the bill of lading a valid and perfected contract between the shipper, the
consignee and the carier?
Yes. Both lower courts held that the bill of lading was a valid and perfected contract
between the shipper, the consignee, and the carrier. Section 17 of the bill of lading
provided that the shipper and the consignee were liable for the payment of
demurrage charges for the failure to discharge the containerized shipment beyond
the grace period allowed by tariff rules.

Will an alleged overshipment justify the consignee’s refusal to receive the goods
described in the bill of lading?
No. The consignee’s remedy in case of overshipment lies against the seller/shipper,
not against the carrier. The contract of carriage, as stipulated in the bill of lading is
separate and distinct from the contract of sale between the seller and the buyer in
which the amount of goods is indicated. In the present case, the contract of carriage
was under the arrangement known as “Shipper’s Load And Count,” and the shipper
was solely responsible for the loading of the container while the carrier was
oblivious to the contents of the shipment. The carrier had no knowledge of the
contents of the container.

When may interest be computed on unpaid demurrage charges?

The legal interest of six percent per annum shall be computed from September 28,
1990, the date of the trial court’s decision until its full payment before finality of
judgment. The rate of interest shall be adjusted to twelve percent per annum,
computed from the time said judgment became final and executory until full
satisfaction.

NOTES:

LETTERS OF CREDIT
In a letter of credit, there are three distinct and independent contracts:
(1) the contract of sale between the buyer and the seller,
(2) the contract of the buyer with the issuing bank, and
(3) the letter of credit proper in which the bank promises to pay the seller pursuant
to the terms and conditions stated therein. “Few things are more clearly settled in
law than that the three contracts which make up the letter of credit arrangement
are to be maintained in a state of perpetual separation.” A transaction involving the
purchase of goods may also require, apart from a letter of credit, a contract of
transportation specially when the seller and the buyer are not in the same locale or
country, and the goods purchased have to be transported to the latter