Introduction
2.01 Commercial letters of credit have been used for nearly 200 years to finance international trade transactions.1 They solve the common problem facing a buyer and seller of goods when neither wishes to perform first, whether by making payment or shipping the goods.
The letter of credit evolved to resolve this impasse by introducing a reliable middleman into the equation. The middleman, typically a bank,2 undertakes to pay the seller on the production of specified documents that evidence, at a minimum, that the goods have been shipped, how much is owed and that the goods correspond with their description. These documents will commonly be a bill of lading, the seller's invoice, and a certificate of quality and/or quantity issued by an expert appointed by the buyer. The arrangement assures the seller of being paid for the goods once they have been shipped, and gives the buyer some assurance that it will receive the goods contracted for. Such, at least, is the theory although in practice the mechanism may not always operate so smoothly.3 In addition to functioning as a payment mechanism, the letter of credit also serves a financing function by enabling a buyer to purchase the goods with the support of the bank that issues the credit. The funding is often secured by the bank having the right to possession of the letter of credit documentation, which will include a document of title to the goods. The credit may also serve a financing function for the seller who may be able to realise payment in advance of the maturity of the credit by negotiating it.42.02 Letter of credit transactions are commonly, but not necessarily, governed by the Uniform Customs and Practice for Documentary Credits (,UCP'), a model law produced by the International Chamber of Commerce (‘ICC').5 An alternative framework to the UCP is Article 5 of the Uniform Commercial Code (‘UCC') of the United States.6 China has also
produced provisions relating to letters of credit.[135] This chapter is written from the perspective of a letter of credit that is governed by the UCP.
The UCP was first promulgated in 1933 and is currently in its sixth revision—the UCP 600. The UCP is a set of standard terms that is incorporated into the letter of credit, preferably expressly,[136] but potentially also on the basis of a previous course of dealing. The UCP's goal was to facilitate international commerce by promoting uniformity in letters of credit which are used by persons in various jurisdictions with diverse legal systems.2.03
A buyer of goods is typically obliged by its contract with the seller to open a letter of credit in the seller's favour on certain terms and within a certain time. The buyer, now termed the applicant, will apply to its bank, known as the issuing bank, to issue a credit in favour of the seller, now called the beneficiary. At its simplest, therefore, three parties are involved: the buyer-applicant, issuing bank, and seller-beneficiary. In this chapter, the terms buyer, seller, and issuing bank will be used. The seller will often insist in its underlying sale contract with the buyer, on the appointment of a correspondent bank in its own jurisdiction for convenience, or the issuer may for convenience elect to do so, and in practice such a fourth party is commonly involved.[137] The correspondent may be asked to notify the seller of the credit, in which case the correspondent is called the advising bank.[138] Not uncommonly, the correspondent bank assumes a greater role by adding its own commitment to the seller, thereby becoming the confirming bank.[139] The correspondent may, in addition, be nominated in the credit to make payment to the seller, in which case it is also known as the nominated bank.[140] Other banks may be nominated to pay the seller too, including the seller's bank. A nominated bank that acts in this way will, in turn, claim payment from the issuer.
The seller is not obliged to deal with the nominated bank and may always choose to present the documents to the issuer or confirmer.[141]2.04
The letter of credit contains the promise of payment made by the issuing bank to the seller. The UCP indicates that a credit can be ‘available, ie realised, in four ways: ‘sight payment, deferred payment, acceptance or negotiation'.[142] The first three options make up the meaning of ‘honour' in the UCP, ie they are the recognised methods by which the seller obtains payment.[143] Sight payment refers to a credit that is payable on production of the stipulated documents.[144] Deferred payment refers to a credit that is payable at a future date on production of the stipulated documents, such as ninety days after the documents' acceptance or simply at a stipulated date hence. Acceptance refers to a credit that achieves a similar result to the deferred payment credit but through the use of a bill of exchange which is drawn by the seller usually on the issuer or confirmer.[145] Negotiation is not considered a method of honour but is, rather, a form of financial accommodation. The deferred payment credit and the acceptance credit reflect different usages. The commitment of the issuing/confirming bank under a deferred payment credit is to pay at some time after the presentation of conforming documents, while for an acceptance credit it is to accept and, in due course, to pay a bill of exchange drawn on it by the seller,[146] provided that it is accompanied by the requisite documents. The ICC has issued guidance discouraging the use of bills of exchange with letters of credit, preferring instead the deferred payment credit.[147]
2.05 The seminal House of Lords decision in United City Merchants (Investments) Ltd v Royal Bank of Canada, articulated the accepted view of the letter of credit as a composite structure comprising distinct but interlinked contractual relationships.[148] Section II gives an overview of the relationships that typically arise in a letter of credit transaction other than the relationship between the issuing bank and the seller which is examined in section III and is the main focus of this chapter.
Section III explores the contractual nature or otherwise of the relationship, a question which has long interested scholars. The existence of a binding obligation between these two parties is crucial to the letter of credit fulfilling its purpose.[149] The debate is an old one,[150] and this chapter revisits it in the light of developments in the law in recent decades. The view supported here is that, to the extent that the requirements for a contractual obligation are absent, they are supplemented by commercial custom to nevertheless create a binding contractual obligation. The chapter is written from a common law perspective, with reference to cases from a range of jurisdictions including Australia, Canada, Hong Kong, Singapore, the United Kingdom, and the United States.II. lang=EN-US>