New York Law Review

Tag: Letter of Credit

  • Gillman v. Chase Manhattan Bank, N.A., 73 N.Y.2d 1 (1988): Enforceability of Security Agreements and Bank’s Right to Set-Off

    Gillman v. Chase Manhattan Bank, N.A., 73 N.Y.2d 1 (1988)

    A security agreement granting a bank a security interest in a customer’s deposit accounts, allowing the bank to segregate funds without notice if it deems itself insecure, is enforceable absent procedural and substantive unconscionability and does not constitute a preferential transfer under Debtor and Creditor Law § 15 (6-a) when the segregation is involuntary.

    Summary

    Gillman, the assignee for the benefit of creditors of Jamaica Tobacco, sued Chase Manhattan Bank, arguing that Chase illegally segregated Jamaica Tobacco’s bank deposit. Chase had issued a letter of credit to Jamaica Tobacco and claimed a security interest in its deposits based on an agreement. Chase segregated $372,920.57 from Jamaica Tobacco’s checking account due to the company’s financial difficulties. The New York Court of Appeals held that the security agreement was not unconscionable and that Chase’s actions were permissible under the agreement. The court found no bad faith on Chase’s part and determined that the segregation of funds did not constitute a preferential transfer.

    Facts

    Jamaica Tobacco obtained a $400,000 letter of credit from Chase to secure a surety bond required for purchasing cigarette stamps on credit. The application included a security agreement granting Chase a lien on all Jamaica Tobacco’s deposit accounts. The agreement allowed Chase to deem itself insecure and apply the deposits to Jamaica Tobacco’s obligations without notice. After the letter of credit was renewed, Chase learned Jamaica Tobacco had violated loan restrictions and subordination agreements. Deeming itself insecure, Chase transferred funds from Jamaica Tobacco’s checking account to another account inaccessible to Jamaica Tobacco, leading to dishonored checks. Aetna eventually drew on the letter of credit.

    Procedural History

    The Supreme Court found the security agreement unconscionable and awarded damages to the assignee. The Appellate Division reversed, finding the agreement conscionable, no bad faith by Chase, and no preferential transfer. The Court of Appeals granted leave to appeal.

    Issue(s)

    1. Whether the security agreement granting Chase a lien on Jamaica Tobacco’s deposit accounts was unconscionable and therefore unenforceable.

    2. Whether Chase acted in bad faith by segregating Jamaica Tobacco’s checking account without notice and dishonoring checks drawn thereon.

    3. Whether Chase’s segregation of the checking account constituted a preferential transfer in violation of Debtor and Creditor Law § 15 (6-a).

    Holding

    1. No, because the agreement was not procedurally or substantively unconscionable.

    2. No, because Chase acted within the terms of the security agreement and had a valid security interest in the account.

    3. No, because the transfer was not voluntary, as required by Debtor and Creditor Law § 15 (6-a).

    Court’s Reasoning

    The court found no procedural unconscionability, noting that Frohlich signed the application with a bold-faced legend referencing the security agreement. The court stated that under general contract law, Jamaica Tobacco was bound by the agreement regardless of Frohlich’s claim that he didn’t read it. The court reasoned that the terms were not substantively unconscionable given Chase’s obligations under the letter of credit and the typical practice of requiring security interests in bank deposits. The court emphasized the importance of allowing the bank to act without notice to protect its security interest. The court stated, “The aim of the Uniform Commercial Code unconscionability provision (UCC 2-302), it has been said, is to prevent oppression and unfair surprise, not to readjust the agreed allocation of the risks in the light of some perceived imbalance in the parties’ bargaining power.” The court found that paragraph 7 of the security agreement granted chase a security interest in the checking account. The court rejected the claim of commercial bad faith, because there was no commercial bad faith in Chase’s actions in segregating the account. The court held that Debtor and Creditor Law § 15 (6-a) applied only to voluntary transfers. The court reasoned that because the segregation was done without knowledge or consent of Jamaica Tobacco, it was not a voluntary transfer.

  • Supreme Merchandise Co. v. Chemical Bank, 70 N.Y.2d 344 (1987): Attachment of Beneficiary’s Interest in Letter of Credit

    Supreme Merchandise Co. v. Chemical Bank, 70 N.Y.2d 344 (1987)

    A beneficiary’s interest in an executory negotiable letter of credit supporting an international sale of goods is not property of the beneficiary for purposes of attachment by a party in unrelated litigation.

    Summary

    Supreme Merchandise Co. sought to attach the assets of Iwahori Kinzoku Co. (Kinzoku), a Japanese company, held by Chemical Bank, to satisfy a judgment unrelated to a letter of credit issued by Chemical Bank. The letter of credit named Kinzoku as the beneficiary in a sale of goods. Supreme Merchandise served attachment orders on Chemical Bank. Before the attachment orders, two Japanese banks, Fuji Bank and Dai-ichi Kangyo Bank, negotiated drafts under the letter of credit and were later paid by Chemical Bank. The court held that Kinzoku’s interest in the executory letter of credit was not attachable “property” under CPLR 5201(b), emphasizing the importance of certainty and predictability in international letter of credit transactions.

    Facts

    Iwahori Kinzoku Co. (Kinzoku) was the beneficiary of an irrevocable letter of credit issued by Chemical Bank to support a sale of disposable lighters to Supreme Importers. Supreme Merchandise Co. had an unrelated money judgment against Kinzoku and sought to attach Kinzoku’s assets at Chemical Bank. Fuji Bank negotiated a draft for Kinzoku, unaware of the attachment order, and presented it to Chemical Bank, which accepted and paid the draft. Dai-ichi Kangyo Bank also presented a draft which Chemical bank accepted before the second attachment order. Supreme Merchandise served two orders of attachment on Chemical Bank, attempting to seize the funds from the letter of credit.

    Procedural History

    Supreme Merchandise commenced a proceeding against Chemical Bank to compel delivery of the letter of credit funds, arguing both attachment orders applied. Special Term ruled the beneficiary’s interest was attachable property. The Appellate Division reversed, holding the second order was too late as Chemical had already accepted the drafts. Regarding the first order, the Appellate Division held that CPLR 5201(b) and 6202 could not be read to authorize reaching a debtor’s contingent interest where it would impair the rights of third parties and raise doubts about the function of letters of credit. The New York Court of Appeals granted leave to appeal.

    Issue(s)

    1. Whether Kinzoku’s interest in the executory letter of credit constituted a “debt” or “property” within the meaning of CPLR 6214(d) such that it could be subject to attachment.

    Holding

    1. No, because the nature of Kinzoku’s interest, coupled with policy considerations concerning negotiable letters of credit in international sales, dictates that the interest is not “property” within the meaning of CPLR 5201(b).

    Court’s Reasoning

    The court reasoned that while CPLR 5201(b) allows enforcement of a money judgment against assignable property, the mere assignability of an interest does not automatically make it attachable property. The court distinguished this case from ABKCO Indus. v Apple Films, where a contract right to net profits was deemed attachable. Unlike the interest in ABKCO, Kinzoku’s interest was contingent on its own performance, specifically timely shipment of goods and presentation of conforming documents. The court emphasized the importance of letters of credit in international trade, noting that they provide certainty and predictability, inducing confidence in parties who rely on them. The court explained that strict adherence to the terms of the credit and the independence principle (separation from the underlying contract) are essential to the utility of letters of credit. Allowing attachment in this context would diminish confidence in the certainty and integrity of letters of credit in New York, potentially disrupting international transactions and harming third parties who rely on the credit. Quoting Equitable Trust Co. v Dawson Partners, the court noted the need for strict compliance with letter of credit terms: “There is no room for documents which are almost the same, or which will do just as well.”

  • United Commodities-Greece v. Fidelity Int’l Bank, 64 N.Y.2d 449 (1985): Strict Compliance Required for Letter of Credit

    United Commodities-Greece v. Fidelity Int’l Bank, 64 N.Y.2d 449 (1985)

    A beneficiary of a letter of credit must strictly comply with its terms; any discrepancies in the presented documents, no matter how minor, allow the issuing bank to refuse payment, and a bank’s mistaken belief of compliance does not constitute a waiver of the strict compliance standard.

    Summary

    United Commodities-Greece obtained letters of credit to pay Pillsbury for a corn shipment to the Soviet Union. The letters required specific documents upon loading, but allowed for alternative documentation (“Special Conditions”) if no vessel was nominated by a certain date. Pillsbury presented documents under the Special Conditions, but the bank guarantees were non-conforming. Fidelity initially indicated ‘substantial compliance’ but later denied payment. The Court of Appeals held that strict compliance with the letter of credit terms is required. Fidelity’s initial misinterpretation and statements did not constitute a waiver because Fidelity did not knowingly relinquish a known right, and Pillsbury did not demonstrate detrimental reliance on Fidelity’s statements.

    Facts

    Pillsbury contracted to sell corn to United Commodities for shipment to the Soviet Union. To facilitate payment, United Commodities obtained two letters of credit. The letters of credit required presentation of specific documents related to the loading of the corn on a vessel nominated by United Commodities before November 30, 1976. A “Special Conditions” clause allowed Pillsbury to draw against the letters by presenting a warehouse or dock receipt and a bank guarantee if United Commodities failed to nominate a vessel by November 30th. United Commodities failed to nominate a vessel by the deadline.

    Procedural History

    Pillsbury sued when payment was refused. The trial court ruled against Pillsbury on claims against Republic and Trade Development Banks, but in favor of Pillsbury against Fidelity International Bank, finding Fidelity had waived non-conformity. The Appellate Division modified the trial court’s decision, striking the judgment against Fidelity and granting judgment in Fidelity’s favor, holding there was no waiver. The Court of Appeals affirmed the Appellate Division’s order.

    Issue(s)

    Whether the presentation of documents under the “Special Conditions” clause of a letter of credit requires strict compliance with the specified terms, or whether substantial compliance is sufficient. Whether Fidelity International Bank waived its right to demand strict compliance with the letter of credit’s terms, or is estopped from asserting non-compliance.

    Holding

    1. No, because New York law requires strict compliance with the terms of a letter of credit, meaning that “the papers, documents and shipping directions must be followed as stated in the letter” and no substitution or equivalent will suffice.
    2. No, because there was no intentional relinquishment of a known right by Fidelity, nor was there detrimental reliance by Pillsbury on any misleading representation by Fidelity.

    Court’s Reasoning

    The court emphasized New York’s requirement of strict compliance with letter of credit terms, citing Anglo-South Am. Trust Co. v Uhe, 261 NY 150. The court stated that the bank’s role is ministerial and requiring it to determine the substantiality of discrepancies would be inconsistent with its function. The court found that the bank guarantees provided by Pillsbury were fatally nonconforming because they omitted an obligation arising from a Pillsbury failure to “remit to the negotiating bank, free of charges, the covering Bill of Lading.”

    Regarding waiver, the court found no proof that Fidelity knew of the nonconformity and intentionally elected to ignore it. Citing Werking v Amity Estates, 2 NY2d 43, 52, the court stated there was no “ ‘intentional relinquishment of a known right with both knowledge of its existence and an intention to relinquish it.’ ” The court found that Fidelity’s initial belief in substantial compliance was a mistake and not a waiver.

    Regarding estoppel, the court stated Pillsbury would have to prove that it relied to its detriment on a misleading representation of the bank. The court found that the telex from Fidelity to Banque de la Mediterranee was not a representation to Pillsbury. Although Pillsbury argued reliance on a statement by Grayson, the court did not find that conversation occurred. Furthermore, Pillsbury failed to introduce any evidence that it would have been able, in the remaining time, to cure the defect in the guarantee had Fidelity brought it specifically to its attention.

  • Fair Pavilions, Inc. v. First Nat. City Bank, 19 N.Y.2d 518 (1967): Sufficiency of Affidavit to Terminate Letter of Credit

    Fair Pavilions, Inc. v. First Nat. City Bank, 19 N.Y.2d 518 (1967)

    An affidavit submitted to a bank to terminate a letter of credit must specify the grounds for termination with sufficient detail to allow the beneficiary to understand and remedy the alleged default.

    Summary

    Fair Pavilions, Inc. contracted to construct a building for Exhibitions de France, Inc., with payments guaranteed by a letter of credit from First National City Bank, based on an application from Willard International Financial Co. The letter of credit allowed termination if the bank received an affidavit from Willard stating that certain events under the construction contract (clause XV) had occurred. Willard submitted a conclusory affidavit stating that such events occurred, without specifying which ones. The bank then terminated the letter of credit. The New York Court of Appeals held that the affidavit was insufficient because it failed to specify which event under clause XV had occurred, thus preventing Fair Pavilions from remedying the alleged default. The court reversed the lower court’s denial of summary judgment for Fair Pavilions.

    Facts

    Fair Pavilions, Inc. (plaintiff) contracted with Exhibitions de France, Inc. (“Exhibitions”) to build a structure at the New York World’s Fair.
    The contract (clause XV) outlined conditions for termination of plaintiff’s performance.
    Exhibitions was obligated to provide an irrevocable letter of credit guaranteeing installment payments.
    Exhibitions arranged for Willard International Financial Co., Ltd. (“Willard”) to issue the letter of credit.
    Willard applied to First National City Bank (defendant) for the letter of credit in favor of plaintiff for $2,030,000.
    Paragraph 6 of the letter of credit allowed termination if the bank received an affidavit from a Willard officer stating that events in clause XV of the construction contract occurred.
    The bank received an affidavit from Willard stating, in conclusory form, that “One or more of the events described in clause XV * * * have occurred,” without specifying the event.
    The bank notified plaintiff that the $400,000 final payment was terminated.

    Procedural History

    Plaintiff sued the bank to recover the $400,000 via a motion for summary judgment in lieu of complaint.
    Special Term denied the motion, citing factual issues regarding the bank’s duty to verify defaults and the truth of the affidavit.
    On reargument, both plaintiff’s and defendant’s motions for summary judgment were denied because of factual issues over whether events described in clause XV had occurred justifying Willard’s affidavit. The court directed that proper pleadings be served.
    The Appellate Division held the bank was not obliged to determine the accuracy of Willard’s representation.
    The Court of Appeals reviewed the Appellate Division’s decision.

    Issue(s)

    Whether an affidavit submitted to a bank pursuant to a letter of credit, which states that events allowing termination of the underlying contract have occurred, must specify which event has occurred to be sufficient to terminate the credit.

    Holding

    Yes, because the affidavit must identify the alleged default with enough specificity to allow the beneficiary of the letter of credit to understand and remedy it.

    Court’s Reasoning

    The Court of Appeals reasoned that the documents presented to the bank, including the affidavit, must be sufficient on their face to justify the bank’s action in refusing to pay on the letter of credit. The court emphasized that this is especially important given the drastic consequences of canceling the credit for the plaintiff. The court interpreted paragraph 6 of the letter of credit, read in conjunction with clause XV of the building contract, to mean that the affidavit must identify the alleged defect before the credit can be canceled, allowing the plaintiff an opportunity to remedy it. The court stated, “The meaning of paragraph 6 of the letter of credit was not that Willard could terminate the credit at will.” The court found the affidavit’s conclusory statement that “One or more of the events described in clause XV…have occurred” insufficient because it did not specify which event had occurred, making it impossible for Fair Pavilions to remedy the unspecified default. The court contrasted paragraph 6 with paragraph 7 of the letter of credit, which expressly allowed Willard to cancel the credit at will during a specific period, but only on payment of a substantial sum to Fair Pavilions. The court concluded that interpreting paragraph 6 to allow cancellation based on an unspecific affidavit would place one party at the mercy of another, which is against the general policy of the law. The court found that “It is not reasonable to interpret paragraph 6 of the letter of credit in a manner which permits cancellation by means of an affidavit so unspecific that the alleged default is kept secret and the beneficiary rendered powerless to cure it.”