Letters of credit Essay

Dissertation Title: The Extent To Which ISBP Provisions Implement Common Law Principles of Autonomy and Compliance And Resolve Past Difficulties with Letters of Credit.

Running Head: The Extent To Which ISBP Provisions Implement Common Law Principles of Autonomy and Compliance And Resolve Past Difficulties with Letters of Credit.

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Acknowledgments:  I am grateful to the tireless and relentless efforts of my supervisor for the valuable guidance and critiques throughout the course of my research and construction of this dissertation.  I am also grateful to the library staff at the university library for their patience and willingness to help me locate journals, articles and books at my request.

Authorship Statement:  This dissertation is an original work by the author and any ideas, or quotes taken from any material is properly credited as used.

Table of Contents

Abstract……………………………………………………………………………………………………4

Chapter 1/ Introduction……………………………………………………………………………..6

Statement of the Problem………………………………………………………………………….8

Research Questions and Sub-Questions……………………………………………………….9

Significance of the Study…………………………………………………………………………..10

Design…………………………………………………………………………………………………….11

 Methodology…………………………………………………………………………………………12

Organization of the Study…………………………………………………………………………12

Chapter 2/Overview of Legal Principles Behind ISBP related to Compliance and

Autonomy……………………………………………………………………………………………..15

Introduction…………………………………………………………………………………………..15

a)      Letters of Credit…………………………………………………………………….15

b)      Areas of Concern…………………………………………………………………..16

Conclusion……………………………………………………………………………………………26

Chapter 3/Overview of Post-2003 Period…………………………………………………..28

Introduction…………………………………………………………………………………………..28

The legal Principles of the UCP 600 and the ISBP……………………………………..28

UCP 600……………………………………………………………………………………………….31

ISBP…………………………………………………………………………………………………….41

Conclusion…………………………………………………………………………………………..45

Chapter 4/Conclusion…………………………………………………………………………….46

Overview……………………………………………………………………………………………..46

Conclusion………………………………………………………………………………………….47

References………………………………………………………………………………………….53

Abstract:   This is an exploratory research study calculated to address the  extent to which current ISBP provisions support common law principles of autonomy and strict compliance.  This study will also explore the extent to which the ISBP provisions assist in overcoming past difficulties attached to letters of credit when it comes to 1) unrealistic or unfounded expectations on the part of buyers and sellers, and 2) the separation of a bank’s undertaking to honor letters of credit and the actual contract of sale.  Each of these questions are related to the role of letters of credits in trans-border commercial transactions.  Conventional wisdom dictates that letters of credits are useful tools for facilitating and expediting commercial trade that crosses national borders.

            The difficulty for banks, buyers and sellers who are engaged in international commercial contracts under letters of credit is the potential for conflict of laws and determining which law should regulate the contract.  Recognizing the potential difficulties the International Chamber of Commerce (ICC) established the International Standard Banking Practice 2003 (ISPB) which is designed to provide a uniform practice for the examination of documents submitted under documentary credit.  The ISPB is intended to be used together with the ICC’s Uniform Customs and Practices (UCP) which is a universal regulatory system of rules for documentary credits.

            There are several practical difficulties with the application of the ISPB and the UCP each of which have been updated.  These difficulties are related to the autonomy of letters of credits with respect to its severance from the contract to which it applies.  The result is that while the ICC has made some progress with respect to international comity in the application and use of letters of credit under both the ISPB and the UCP, it has created some difficulties with compliance issues.  This paper seeks to explore those difficulties and the necessary changes that ought to made to ensure international comity more effectively and to minimize the risk of non-compliance which inevitably leads to rejection.

Chapter 1

Introduction

            Described as “the life blood of international commerce” (D’Arcy, Murray & Cleave, 2000, 166) letters of credit have generated approximately US$1 trillion each year. (Klein, 2006, 1)  Observations such as these are a testament to the growing acceptance and significance of the letter of credit in facilitating international trade. The letter of credit however is a complicated “practical instrument” (Kingman-Brundage and Schulz, 1986, 66) with a regulatory regime that has grown out of banking customs and practices over the years. Kingman-Brundage and Schulz, 1986, 66)

            The contracts and various parties together with the bank that are all involved in the application and execution of the letter of credit all combine to contribute to the general complexity of the operation and mechanism of the letter or credit.  Letters of credit are a common tool in international commerce.  In a typical case,  the vendor and the buyer are located in different countries and the vendor has no real assurance that the seller can or will render payment upon delivery of goods or services.  In order to reassure the vendor the buyer will obtain a letter of credit which essentially guarantees payment to the vendor. (Miniter, 1979, 805-848)

            The bank’s obligation to honor the letter of credit is contingent upon the beneficiary satisfying the bank’s documentary compliance mandate.  To this end Article 13 of the UCP 500 requires that banks exercise “reasonable care” when they “examine all documents” referred to or implied by the letter of credit with a view to ascertaining “whether or not they appear, on their face” to comply with “the terms and conditions of the credit.” (International Chamber of Commerce, 1993, Article 13)  Moreover, compliance will “determined by” reference to the International Standard Banking Practice. (International Chamber of Commerce, 1993, Article 13)

Therefore the standards by which a bank determines the compliance criteria are set by the ISBP which did not come into effect until 2003.  Complicating matters the ISBP is merely voluntary with the result that banks are not required by law to indorse these standards.  As a result there is no certainty that banks will act with one uniform standard on an international level.

            Further complications arise under the concept of autonomy that follows the dynamics of the letter of credit.  The letter of credit is severable from the main contract for the sale of goods or services to which it applies. (Dolan, 2003, 246) The bank cannot renege on its obligation under a letter of credit, unless there is proof of fraud.  (Dolan, 2003, 246) However, courts have been flexible in their approach to the existence of fraud, maintaining that the fraud need not be in the documents themselves.  (Re Tabernash Meadows, LLC [2005] WL 375660 [Banker D. Col. 2005]) The fraud can exist in the underlying document, but in order to constitute grounds for enjoining a draw against a letter of credit the fraud is required to be “material and egregious”.  (Re Tabernash Meadows, LLC [2005] WL 375660 [Banker D. Col. 2005]) Otherwise,  if the accompanying documents comply with the bank’s compliance standards notwithstanding some fundamental breach of the sales contract, the bank is required to honor the letter of credit. (Dolan, 2003, 246)

Statement of the Problem

            The letter of credit appears to be a widely acceptable means of international commercial trade.  This is evidenced by the large sums paid out to international vendors via letters of credit each year. (Klein, 2006, 1)  Despite the fact that letters of credit have been facilitating international trade for many years and have accumulated a number of documentary and practice policies over the years a number of discrepancies relating to the methods used by different banks for examination of documents under a letter of credit have led to inconsistencies in compliance requirements.  In fact the ICC reported in 2002 that at least 70 percent of letters of credits failed for non-compliance issues. (ICC Thailand 2002)

            The problem relates to the discretionary powers of the examining banks and the flexibility afforded them by the courts.  The US Court Appeal for the Second Circuit provides such an example.  In Beyene v. Irving Trust Co., 762 F2nd 4 [2d Cir, 1985] the beneficiaries filed suit in respect of damages as a result of the bank’s refusal to honour a letter of credit.  The facts of the case suggest that the letter of credit required that the bill of lading under the letter of credit state notice of the goods’ arrival should be furnished to Mohammed Sofan.  The bill of lading however indicated that the notice had been given to Mohammed Soran.  The Second Circuit court ruled that such a discrepancy was sufficient grounds for the bank to refuse honouring the letter of credit. (Beyene v. Irving Trust Co., 762 F2nd 4 [2d Cir, 1985])

            Beyene v Irving Trust Co. demonstrates that the greatest difficulty for documentary credit non-compliance has been the interpretative approach taken by the bank presented with a letter of credit.  Vendors obviously run the risk of not being paid for goods or services rendered.  In one report it was estimated that the UK loses at least 113 pounds each year as a result of documentary credit non-compliance. (SITPRO, 2003, 2)  Additional problems follow from non-compliance issues since the letter of credit operates independently from the contract for the sale of goods and services.  For each of these reasons the methods employed by banks globally with respect to examination of documentary credit is required to be consistent and predictable to avoid the high rate of rejections and its resulting losses to all stake holders.

            The ICC has made a series of attempts to simplify the process for examination of documentary credit although the problems with compliance persist.  The latest set of rules are contained in the UCP 600 (International Chamber of Commerce 2006) which aims to facilitate an increased compliance trend with respect to letters of credit.  The ISBP is also intended to function as an aide to the application of the UCP regulations. (International Chamber of Commerce, 2003, 8)  A review of these changes lead to the conclusion that the UCP 600 together with the ISBP 2003 guidelines fail to remove the cloud of uncertainties that undermined the importance of the letter of credit in international trade.   The problems encountered are all related to the language used in the UCP 600, the ICC’s failure to update or revise UCP 500 and the ISBP following the implementation of UCP 600 as well as the voluntary nature of the ISBP.

Research Questions and Sub-Questions

            The main question is: To what extent does the ISBP provisions support common law principles of autonomy and strict compliance?  This question will be answered by reference to a series of sub-questions which are:

·         What is the ISBP? What are its legal principles  and how does it facilitate or attempt to facilitate compliance and autonomy?

·         What was the status quo with respect to compliance issues and rejection of letters of credit prior to 2003?

·         What is the status quo with respect to compliance issues and rejection of letters of credit after 2003?

·         How does the ISBP work with the UCP?

·         Does the ISBP, in conjunction with the recently-approved UCP 600, fully support common law principles of autonomy and strict compliance?

This study will answer these question with the aim of explaining the extent to which the ISBP provisions assist in overcoming past difficulties attached to letters of credit when it comes to 1) unrealistic or unfounded expectations on the part of buyers and sellers, and 2) the separation of a bank’s undertaking to honor letters of credit and the actual contract of sale.

Significance of the Study

            Globalization brings together diverse nations with a number of different languages, currencies and cultures.  Arising out of this diversity are a number of different jurisdictions with conflicting laws.  International treaties and multi-national trade agreements have as their task the removal of the legal barriers to international trade.  Letters of credit have also become a means by which international parties to trade agreements can overcome some of the distances and differences that can complicate and delay the completion of trans-national trade agreements.

            The previous difficulties with letters of credit have been manifested by the efforts of the ICC in its implementation of the UCP regulations and the ISBP guidelines.   If letters of credit are going to continue to facilitate international trade agreements,  banks across the globe will have to adhere to a compliancy structure that is in harmony with one another.  The compliancy structure will also have to be predictable and consistent.  The autonomy of the letters of credit makes this requirement all the more important.  In the past there have been some considerable problems with discrepancies arising out of compliance requirements to the extent that there have been a series of rejections on letters of credit.  The primary question for this research study is then, whether or not the new UCP 600 together with the ISBP 2003 sufficiently address and alleviate these problems.

Research Methodology and Design

Design

            This research study is exploratory in nature with an emphasis on quantitative (objective) material.  In other words the research takes into account the generally accepted position with respect to nature of letters of credit in the international context.  Qualitative (subjective) input will be used to assess the quantitative material.  This will be accomplished by specifically referencing the ICC’s regulatory structure and how it has worked in the past and how its new provisions are likely to resolve the difficulties encountered in the past.

            Methodology

            This study ‘s aims and objectives are to evaluate the specific regulatory structure of the ICC with respect to letters of credit.  In order to effectively achieve this goal it is necessary to examine the role and nature of the letters of credit in the context of international trade.  This will necessarily require an exploration of the history of the use of letters of credit, the problems encountered and the measures taken by the ICC to counter those difficulties.  Additionally the research focuses on whether or not the current measures taken by virtue of the UCP 600 together with the ISBP are likely to remove the difficulties of the past.   As such this research is primarily focused on a review of the literature on the subject of letters of credit, its regulatory process and specific cases.  The literature review will be drawn from a selection of academic journals, articles, books, government and international organizations.

Organization of the Study
This research study will be organized and laid out in the following chapters:

Chapter 1:  Introduction

The first chapter  of this research study provides the introduction and includes the context of the problem, a statement of the problem, the primary research question and the incidental sub-questions.  This chapter also includes a commentary on the significance of the study and how the information derived from the study can assist with a more effective approach to the regulatory process of the letters of credit in the international market.  Chapter one also offers brief comments on the research design as well as the methodology.

Chapter 2: Overview of legal principles behind ISBP related to compliance and autonomy.

This chapter contains an overview of past as well as the continuing difficulties related to letters of credit and is divided into two parts as follows:

A.    Examination of pre-2003, record-high letter of credit rejection rate on the part of banks.

B.     Areas of concern: alterations, certificates of origin, drafts, signing of documents, beneficiary and applicant addresses, trade terms, mathematical calculations, combining documents, transport documents insurance documents.

Chapter 3: Overview of post-2003 period.

            Chapter 3 of this  research study takes a detailed look at the function and regulation of letters of credit on an international level following the implementation of the ISBP 20003.  It will be divided into two parts as follows:

A.      Intent of ISBP and adoption. Analysis of specific revisions related to areas of concern as delineated in Chapter 2.

B.      Effectiveness/ineffectiveness of ISBP. Presentation of debate.

Chapter 4: Conclusion.

This chapter will consider whether the ISBP, in conjunction with the recently-approved UCP 600, fully support common law principles of autonomy and strict compliance.  This chapter will also comment on suggestions for improvement.

Chapter 2: Overview of legal principles behind ISBP related to compliance and autonomy.

Introduction

            In order to effectively comment on the legal principles that gave way to the implementation of the ISBP 2003 as it relates to compliance and autonomy it is important to look at the developments that took place prior to its inception.  This chapter will therefore examine the legal dynamics and operation of the letter of credit, its difficulties and the concerns that gave rise to the implementation of ISBP 2003.  The areas of concern will be identified as well as the efforts made to address those concerns prior to the implementation of the ISBP 2003.

a)      Letters of Credit

In a typical international sales’ transaction there are generally three applicable contracts.  These contracts are invariably the main contract for the sale of goods or services, the contract for delivery of the goods or services and the letter of credit which provides for the financing of the sale under the main contract.  By virtue of the letter of credit the purchaser makes an arrangement with his bank  to issue payment to the vendor/beneficiary agreeing to reimburse the bank for such payment which is accompanied by shipping documents which invariably include the bill of lading all of which are referred to in the letter of credit.  (Harfield, 1978, 596-615)

            Put another way, a letter of credit is any arrangement in which a bank typically referred to as the issuing bank undertakes on behalf of its customer to tender payment to or at the request of a third party or agrees to accept bills of exchange tendered by the third party or authorizes another bank to make similar undertakings. (Kozolchyk, 1965, 283)  It is also important to note that letters of credit are autonomous in that they are completely distinct from the main sales’ contract which they seek to finance. (Harfield, 1978, 596-615) Moreover, a letter of credit can be either revocable or irrevocable.  The revocable letter of credit can be reneged upon at any time without submitting prior notice to the beneficiary/vendor while an irrevocable letter of credit can not be withdrawn unless the vendor/beneficiary agrees. (Stern, 1985, 218-246)  As Michael Stern (1985) explains, the autonomy or the “independence rule” mandates that  “the issuer’s obligation to pay” once the documents conform with the letters of credit:

“…is unaffected by any claims that the customer may have against the beneficiary on the underlying contract.” (Stern, 1985, 218-246)

            In terms of international trade, letters of credit have been the subject of a strict regulatory process commandeered by the ICC since 1929 following which these processes have been regularly updated.  The latest update came under the auspices of the ICC Uniform Customs and Practice For Documentary Credits 2007 Revision (UCP 600) which has as its companion the ISBP 2003. (Bergami, 2007, 41-53)  Those regulations will be discussed in Chapter 3 while the remainder of this chapter will focus on the concerns that surround the use of letters of credit and the steps taken prior to 2003.

b)     Areas of Concerns

When parties to an international contract decide to utilize the letter of credit for payment methods a number of contracts immediately apply which invariably relate to divers parties and obligations. (Bergami)  This complex nature of the letter of credit has the potential to give way to a number of difficulties and concerns.  To start with there is the initial contract for sale between the vendor/beneficiary and the purchaser/applicant both of whom have separate contracts with the issuing bank.  (Bergami)  The vendor/beneficiary also has another contract with the correspondent bank which is usually his bank while that bank also has a contract with the issuing bank. (Bergami)

            Generally in an international sale of goods contract the parties have to consider and agree upon the terms and conditions of delivery of goods.  In order to assist in this regard the ICC has devised a set of rules that can be implemented into the sales’ contract.  These rules are the International Commercial Terms commonly referred to as Incoterms and have been in regulation since 1936 although they have been frequently updated. (Bergami)  Incoterms allocates the risks and liabilities of the parties to the contract for the sale of goods and/or services and generally include terms and conditions for the carrier of the goods, customs’ duties and the related documents, contracts for the regulation of international carriage of good, insurance contracts, “import clearance and “contract for domestic delivery in country of import.” (Bergami)

            As Roberto Bergami explains:

“It is therefore important to understand the obligation imposed by each term, as this is linked to the provision of document.” (Bergami)

Quite often these documents are required of “external sources.” (Bergami)  When contracting parties indorse the ICC’s Incoterms there are usually four categories of documents that the vendor is required to furnish to the issuing bank.  Group E: EX-Works (EXW) only requires that the vendor provide proof that the goods have been labelled and packaged according to the sales’ contract criteria which will generally be satisfied upon production of an invoice. (Bergami)

            The F category is comprised of the Free Carrier (FCA), Free Alongside Ship (FAS) and the Free on Board (FOB) documentation.  Under the F group:

“…the exporter (vendor) is responsible for export clearance and the placement of the consignment, at an agreed point in his country.” (Bergami)

Under this category of Incoterms the vendor’s obligation with respect to documentation under the letter of credit is significantly burdensome.  As the International Chamber of Commerce (1999) states, the vendor, who might not have a duty to contract for the carriage of goods must however:

“…render the buyer at the latter’s request, risk and expense, every assistance in obtaining a transport document for the contract of carriage.” (International Chamber of Commerce, 1999)

As a result of this requirement the seller is under a duty to submit transport documentation as part of the documentary requirements under the letter of credit. (Bergami)

            Under Incoterms Group C, there are four additional sub-groups namely; Cost and Freight (CFR), Cost, Insurance and Freight (CIF), Carriage Paid to (CPT) and Carriage and Insurance Paid to (CIP). (Bergami)  This C group imposes upon the vendor an additional onerous duty of documentation production.  Banks negotiating or executing a letter of credit will typically require transportation document.  When CIF and CIP terms are incorporated into the terms of a sales’ contract the vendor will be under an obligation to provide proof of insurance coverage in respect of the goods. (International Chamber of Commerce, 1999)  In this regard the vendor must ensure that the purchaser receives the “insurance policy or other evidence of insurance cover”. (International Chamber of Commerce, 1999)

            Incoterms under Group D require production of delivery documents and are classed as Delivered at Frontier (DAF), Delivered EX Ship (DES), Delivered EX Quay (DEQ), Delivered Duty Unpaid (DDU) and Delivered Duty Paid (DDP). (Bergami)   Under this group of Incoterms the vendor is under a residual duty to ensure that the goods are dispatched to or at the agreed upon point of delivery. (Bergami)  However, if the allocation of risk under this category of Incoterms place the obligation for on the vendor the buyer is under no duty to provide documentation relative to proof of delivery to the bank under letters of credit.

            In an application for a letter of credit, the purchaser will typically outline the “requirements for the transaction” which should “reflect the spirit of the contract” for the sale of goods and/or services. (Bergami)   It is at this stage in the transaction where the purchaser will inform the issuing bank of the “documentary requirements.” (Bergami)   If the issuing bank is satisfied with the application it will issue the letter of credit to the vendor which is then forwarded to the vendor. (Bergami)  The onus is on the vendor to comply with the documentary requirements as indicated in the letter or credit.  If the vendor’s documents are consistent with the letter of credit, payment will be issued.

            Be that as it may there have been a number of problems with letter of credit compliance in international commercial transactions. (SITPRO Ltd, 2003, 3)  In fact in a study conducted in the US up to 73 percent of letters of credit were rejected as a result of non-conforming documentation. (Mann, 2000, 2469) In 2003, the ICC reported a discrepancy rate of up to 60 percent. (SITPRO Ltd, 2003, 3)  SITPRO (2003) goes on to explain ICC’s report uncovered an estimated loss of approximately 113 million pounds for the UK in 2000 as a result of “non-compliant documents” under “letters of credit.” (SITPRO Ltd, 2003, 3)  Moreover, the estimated loss only accounts for those amounts “that can be measured” and does not account for “other factors” including “lost opportunity and cash flow problems.” (SITPRO Ltd, 2003, 3)  Taking these factors into consideration the loss represents a large sum of money that often comes out of “very narrow margins.” (SITPRO Ltd, 2003, 3)

These kinds of reports indicate the risk that vendors suffer with respect to payment for goods dispatched under a letter of credit in international commercial trade agreements.  As Bergami (2007) explains, the entire “transaction” in respect of the methods by which payment is rendered under the letter of credit relies entirely on documentation. (Bergami, 2007, 41-53)  Whether or not the documentation complies with those stipulated in the letter of credit is a matter for the bank to which the letter of credit is present.  (Bergami, 2007, 41-53)  As a result the documentation “are deemed to represent the goods.” (Bergami, 2007, 41-53)  It follows that:

“Documentary compliance for the exporter, therefore is imperative in claiming an unencumbered payment.” (Bergami, 2007, 41-53)

Based on the reports submitted by SITPRO Ltd  (2003) and Mann (2000) in a vast majority of cases vendors are at risk of not collecting their fee as a result of non-compliant documentation. The irony is that vendors only opt for the letters of credit as a means of facilitating payment, “yet lose that benefit” as a result of “non-compliant documents.” (Bergami, 2007, 41-53)

            One of the oft cited explanations for the frequency with which banks deem documents non-conforming is that the banks are at liberty to take a purely subjective approach to the issue of compliance. (Bergami, 2007, 41-53)   The ICC has made a series of attempts to simplify the compliance standards with a view to minimizing the frequency with which letters of credit are rejected by issuing banks.   The ICC’s first attempt dates back to 1929 when it implemented the Uniform Regulations for Commercial Documentary Credits. (Wheble 1971, 97) While these regulations were only applicable to Belgian and French banks and failed to catch on globally, they were useful for the implementation of further regulations. (Wheble, 1971, 97)

            The ICC followed up in 1933 with the implementation of the Uniform Customs and Practice for Commercial Documentary Credits which were indorsed by at least forty nation states. (Wheble, 1971, 98)   In 1951 a Revision of the 1933 regulations was indorsed by a larger following and in 1962, the Uniform Customs and Practice for Documentary Credits finally achieved global acceptance. (Wheble, 1971)  Several revisions would follow culminating with the UCP 400 in 1983, the UCP 500 in 1993 and the UCP 600 in 2007.

            The difficulty with the UCP from the outset is that it does not make law and is entirely voluntary.  Unless the parties to a contract indorse the UCP regulations they are not bound by it under the letter of credit.  Compliance is a matter for the bank and has been the catalyst for tension between the vendors and banks for some time particularly with respect to Asia where banks are known to manufacture discrepancies. (Kreitman, 2005, 2)  Bergami explains how and why discrepancies are manufactured.  Discrepancies are typically manufactured in instances “where the issuing bank” has not taken full security and the purchaser does not have sufficient “funds to meet the payment” required by virtue of the letter of credit. (Bergami) The manufacturing of discrepancies therefore becomes a useful delaying technique as opposed to “an outright refusal against the debt.” (Bergami)  In essence manufacturing discrepancies allows the bank to “buy time” despite the fact that the discrepancies can be:

“…easily overcome through technical argument, but whilst the debate continues, no funds change hands.” (Bergami)

Manufactured discrepancies together with the bank’s subjective approach to examining credit documentation and the difficulty for the vendor in providing documents that are not always in his possession are among the problems that the ICC’s regulations have endeavoured to address.

            The UCP 500’s primary focus was on the description of goods as contained on the invoice for sale, the accompanying transport documents and the standards for the examination of documents.  The UCP 500 states in unequivocal terms that the decision to honor a letter of credit depends entirely on the whether or not the terms and conditions of the documentary letter of credit are complied with. (Gustavus, 2000, 55)  Article 13 of the UCP 500 provides that “documents” that “appear on their fact” to contradict each other:

“…will be considered as not appearing on their face to be in compliance with the terms and conditions of the Credit.” (UCP 500, 1993, Article 13)

The difficulty with this provision is immediately obvious.  The bank to which the letter of credit is addressed may raise any objection to the documents tendered for purely altruistic reasons.  Moreover, any legal challenge to the bank’s refusal to honour a letter of credit was a mammoth task almost certainly doomed for failure.   In Chase Manhattan Bank v Equibank 550 F2nd 882 [3d Cir. 1977] the US Court of Appeals for the Third Circuit ruled that the exact words used in the letter of credit must be repeated in the documents submitted under the letter of credit. (Chase Manhattan Bank v Equibank 550 F2nd 882 [3d Cir. 1977])  Although this case pre-dates the UCP 500 1993, it is indicative of both the court and the banks’ approach to strict compliance.  Conceivably, Article 13’s  reference to “on their face” (UCP 500, 1993) only served to fortify the bank and court’s position on strict compliance.

            Another United States Court of Appeal decision demonstrates the difficulties that can arise out of the application of Article 13 of the UCP 500.  It has give way to a  propensity to require what could be interpreted by both banks and courts as requiring strict compliance.  In Lease America Corp. v Northwest Duluth 940 F2d 345 [8th Cir. 1991] the letter of credit called for the beneficiary/landlord to provide an Affidavit confirming that 10 days notice of default had been proved to the tenant prior to presenting the letter of credit.  Rather than follow this particular course the landlord provided an affidavit from the tenant in which notice had been waived.  The US Court of Appeals for the Eight Circuit held that the bank had been entitled to refuse to honour the letter of credit.  While the affidavit did not comport with the prescribed form and substance required by the credit, any amendment to the terms and conditions of the credit could not be made without the bank’s consent. (Lease America Corp. v Northwest Duluth 940 F2d 345 [8th Cir. 1991])

            The difficulty with Article 13 of the UCP 500 is that rather than address the problem of strict compliance it panders to it.  The cases cited above clearly demonstrate that banks are at liberty to refuse to honour a letter of credit for no more than formal reasons.  While there may be no reasons to doubt the substantive value of the documents presented under the letter of credit, the bank has a discretion to find purely peripheral discrepancies.  Even more problematic is the stance taken by the courts who appear to cast aside equitable principles which look to substance rather than form, and instead have opted to apply strict construction of the documents presented.  The inclusion of the terms “on their face” in article 13 of UCP 500 only served to justify the interpretive approach to compliance under the letter of credit.

Adding more potential for problems, UCP 500, Article 13 also provides that:

“Compliance…shall be determined by the International Standard Banking Practice as reflected in these articles.” (UCP 500, 1993, Article 13)

The International Standard Banking Practice was not issued by the ICC until 2003, a decade later.  Therefore, on all accounts the UCP 500 had no standards or set of guidelines by which the bank or financial institution should determine the compliancy of documents.  Courts were obviously entitled to consider the reference to the ISBP under Article 13 irrelevant and there was no expert testimony explaining what standard banking practices amounted to outside of the text of the UCP 500. (Bucklwy, 1995, 279)  In fact some courts even refused to consider what were widely respect practices. (Buckley, 1995, 279)  It is not surprising that the incidents of rejection of letters of credit would be as high as they have been.  Whether or not the UCP 600 and the ISBP 2003 working together remains to be seen.  Their prospects for success is discussed in the chapter that follows.

            The UCP 500 left a number of issues and concerns arising out of its requirements for the examination of documents.  For instance the UCP 500 does not specifically state whether or not drafts, certificates or declarations require a signature, although such requirements can be implied by a construction of Article 13 which refers to the propriety of the face of the documents.  Moreover, Article 9(a)(iv) of UCP 500 mandates that should a letter of credit require a draft to be drawn it should be examined with reference to Article 21 of the UCP 500. (UCP 500, 1993)  Under Article 21 drafts will be accepted provided they are consistent with other documents required by the letter of credit. (UCP 500, 1993, Article 21)

            The UCP 500 left a number of questions that would necessarily arise in the course of examination of documents unanswered or unexplained.  For instance there was no clarification or guidance for the construction  of terms such as “shipped apparent good order” or “laden on board” or “clean on board.” (Pullen, 2003)  Another question left to subjective interpretation was the question of what should be inferred by the terms “taking in charge”, “dispatch”, “loading on board” as well as “destination on a multi modal transport document.” (Pullman, 2003)

            Moreover the UCP 500 failed to specify whether or not a document relative to air transport is required to reflect whether of not the goods under the main contract and the subject matter of the letter of credit have been delivered and/or accepted for transport and delivery.  Additional problems of interpretation likely developed over the lack of guidance on how to interpret clauses for deadlines such as “within” a particular number of days. Additionally, the treatment of typing errors contained in a supporting document to the letter of credit were not specifically addressed by the UCP 500.  Obviously these kinds of omissions within the terms of the UCP 500 left too much room for the issuing bank to find that supporting documents were inconsistent with the documents required of the letter of credit.

            Gary Collyer, technical adviser to the ICC Banking Commission identified the shortfalls with UCP 500.  In short he pointed out that the wording of the UCP 500 left too much room for subjective and various interpretation by participating banks. (Collyer, 2005)  Another salient short fall arose out of the UCP 500’s failure to adequately cover the specific issues that could arise in the course of negotiating the letter of credit. (Collyer, 2005)

Conclusion

            The distinctions in law, culture, regulations and culture make the risk of dealing in international trade substantially greater than trade on a national level.  Obviously the wide use of the letter of credit has been calculated to reduce the risk of financial loss and delays with respect to international transactions.  However the lack of cogent international regulations have only served to complicate the letter of credit’s effectiveness by leaving far too much open to interpretation.  The end results have been a number of losses as a result of a propensity on the part of international banks to reject letters of credit on the grounds of inconsistencies.  One of the greater failures of the regulatory process under the UCP 500 was its lack of guidelines and clarification.  Moreover very little attention was placed on the predictable problems that could arise between the relevant parties.  Among these predictable issues are terms that relate to time requirements, shipping documents, drafts, insurance policies and carriage documents.  Whether or not these possible concerns have been sufficiently contemplated by the revisions to UCP 500 and the ISBP are considered in the next chapter.

Chapter 3: Overview of Post-2003 Period

Introduction

            There are a number of risks associated with any business transaction that can give rise to discrepancies in documents that are required to be submitted in support of a letter of credit. (Bergami, 2007, 41-53)  These business risk have been identified by Roberto Bergami as behavioural, process and ownership risks. ( 2007, 41-53) Encapsulated in these risks are the increased chances of:

“…errors, omission, delays, frauds, productivity losses and a dysfunctional work place.” (Bergami, 2007, 41-53)

Each of these factors have contributed to the propensity for banks to deem that non-conforming documents were produced and obviously UCP 500 has not been successful in helping with reducing the chances of banks finding or deeming supporting documents to inconsistent with the requirements set forth by the letter of credit.  Whether or not the UCP 600 together with the ISBP, will eradicate previous interpretative problems remains to be seen and is discussed in greater detail in this chapter.

The Legal Principles of the UCP 600 and the ISBP

            In order to fully understand the context in which the UCP 600 and the ISBP are to be read and applied by banks and the international trade community it is necessary to examine its legal principles.  A close reading of Article 4(a) of the UCP 600 indicates that the UCP is founded on a principle of autonomy.  Article 14(a) indicates that a second principle of strict compliance is another governing principle of the UCP 600.  Both principles are directly related to the ISBP which is designed to act as an aid to the interpretation and application of UCP 600.  Article 14(a) is discussed in greater detail below and provides the framework by which banks are required to examine documents presented under a letter of credit.  Article 4(a) of UCP 600 distinguishes between the underlying contract and the letter of credit.

            Under the doctrine of autonomy, the UCP seeks to maintain the independent nature of the letter of credit.  The underlying legal principle can therefore be accepted as a method calculated to reduce the letter of credit to no more than a paper transaction.  As it happens, the manner in which the doctrine of autonomy functions ensures that notwithstanding disputes or lack thereof between the purchaser and the vendor, the bank must focus only on the documents.  This is so even if goods delivered under the letter of credit do not conform to the main contract.  The bank cannot in such circumstances refuse to honour the letter of credit if the documents conform to those stipulated within the body of the letter of credit. (Van Houte, 2002, 267)

            As previously stated at page 7 fraud is the only ground upon which the bank may refer to the main contract under the doctrine of autonomy.  The reason for strict constraints on the bank’s ability to go outside of the letter of credit is obviously for the purpose of facilitating the execution of a letter of credit.  By limiting the examination of documents and compliance thereof to the letter of credit and its own documentation, time and cost is not thrown away.  However, as will be seen below, the compilation of UCP 600 and its companion ISBP may have created difficulties which circumvent the underlying legal principle of autonomy under the UCP and the ISBP.

            The legal principles are founded upon a concept of conformity.  By permitting banks and their document checkers to concern themselves with the merits of the main contract a greater opportunity for conflict of laws will arise in the context of international trade relations.  The doctrine of autonomy seeks to avoid this eventuality by directing banks and document checkers’ attention to the letter of credit.  However, when taken together with the doctrine of strict compliance, uniformity between international banks is compromised.  This is so because the discretion to determine whether or not documents comply with the letter of credit remains with the bank and its document checkers who have diverse means by which to interpret documentation.

            Under the doctrine of strict compliance, courts, banks and document checkers were previously exposed to a system of documentation checking with no clearly defined guidelines by which to measure or assess compliance.  The underlying legal principles of the ISBP is to provide some measure of uniformity by providing a reference point as to what amounts to comporting documents and what does not.  Strict compliance and autonomy also recognizes that the confirming bank, nominating banks or the advising banks are agents acting for the issuing bank who in turn acts as the purchaser’s agent.  Therefore the confirming, nominated or advising bank have limited  authority and are accountable to the issuing bank.  The issuing bank can be severed from the agent banks who ultimately takes the commercial risk associated with the letter of credit. (D’Arcy, Murray and Cleave, 2000, 172)  This fact together with the complexities of international trade obviates the need for agent banks to proceed with extreme caution when negotiating a letter of credit.  Their primary concern is therefore to comport with the strict instructions of the buyer.  Prior to 2003 and under the UCP 500, banks were left primarily to their own devices and this only created room for diverse standards for assessing compliance. Therefore it is fair to state that the overall legal principles behind the UCP 600 and the ISBP is to provide a common vehicle for the examination of documents world wide with a view to reducing the risk of rejections. (ICC 2003)

UCP 600

            The UCP 600 which revises the UCP 500 contains ten fewer articles than the UCP 500 which contained 49 such articles. (Drafting Group – Commission on Banking Technique and Practices, 2006)  Be that as it may, the shorter UCP 600 does not necessarily mean that the latter document contains more concise and clearer regulations than the former UCP 500. (Bergami, 2007)

            To start with UCP 500 Article 13 required the interpretation and examination of documents by reference to the ISBP which was not implemented at the time of implementing the UCP 500.  UCP 600’s Article 14 does not specifically require banks to refer to the ISBP. (UCP 600, 2006, Article 14)  Article 14 merely states the data contained in a document when read together with context of the letter of credit and the ISBP while not required to be “identical” it “must not conflict with” the data contained :

“…in that document, any other stipulated document or the credit.” (UCP 600, Article 14)

 However, Article 14 does require guidance from an international banking practice, but which standard is not specified. (Kreitman, 2006)  As Bergami (2007) observes “the lack of such direction” has the capacity to “result in another phase of uncertainty for exporters,” not unlike the uncertainty experience  during the decade from1993 to 2003.  (Bergami, 2007, 41-53)  During this period ISBP were anticipated by virtue of their inclusion in UCP 500, but they were not produced. (Bergami, 2007, 41-53)

            The UCP 600 however, goes a bit further than the UCP 500 in ensuring that banks, document checkers and courts do not resort to the pre-2003 practice of applying its own standard of practice with respect to the examination of documents.  While Article 14 ensures that the ISBP is applicable Article 2 lends more insistence on the reliance upon an international banking standard.  Article 2 defines a “complying presentation” as “a presentation”  what accords:

“…with the terms and conditions of the credit, the applicable provisions of these rules and international standard banking practice.” (UCP 600, Article 2)

            Be that as it may the UCP 600, like the UCP 500 places far too much emphasis on the doctrine of strict compliance and far too little emphasis on the doctrine of materiality. (Bergami, 2007, 41-53)  Like the UCP 500, the UCP 600 remains focused on form rather than substance. The difficulty in closing the gap between substance and form however, remains stifled by the legal principles of autonomy and strict compliance.  These principles are necessary to avoid the possibilities of parties to the letter of credit invoking conflicting laws of contract which can only prolong the process by which the letter of credit is executed in trans-border commercial trade.   It therefore becomes a choice between the lesser of two evils.

Although the problem arising out of the bank and its document checker’s discretionary powers are limited now by the application of the ISBP guidelines under the UCP 600, some residual discretion remains.  Obviously, banks and document checkers are still at liberty to determine whether or not a discrepancy exist within the meaning of the UCP 600 and the ISBP.  As a result bank practices will conceivably remain diverse, although the propensity for diversity may not be as wide as it was previously.

In other words, the previous problems encountered by the short falls of the UCP 500 continue to pervade the use of the letter of credit. This is evidenced by the period following 2003 in which the ICC noted that the practice of “inventing discrepancies” and “using technicalities” as a means for justifying rejection of letters of credit is still ongoing. (International Chamber of Commerce, 2004)  These problems were noted by the ICC at a meeting held in 2005 where banks in Asia confirmed that “re-examination of documents represented a very significant source of income.” (Kreitman, 2005) Bergami (2007) explains that these kinds of practices which involve the manufacturing of discrepancies and the technical objections result in unnecessary delay in settling the letter of credit.  In the interim funds are withheld at least until “the documents are re-examined” and ultimately accepted. (Bergami, 2007, 41-53) At the end of the day:

“This situation negatively impacts on exporters’ cash flows and increases the risk of payment default.” (Bergami, 2007, 41-53)

            The pre-existing term “on their face” as contained in Article 13 of the UCP 500 obviously gave way to a number of interpretative difficulties and increased the propensity for banks to find discrepancies with documents presented and documents required by the letter of credit.  The UCP 600 nevertheless refused to remove the term “on their face” from the wording of UCP 600 despite that fact that the ICC’s consulting group voted 18-5 in favour of its removal. (Department of Policy and Business Practices, 2006, 6)  Not only was the term open to interpretation it’s meaning is unclear and in some languages it does not exist. (Bergami, 2007, 41-53)  It remains doubtful that Article 14 of UCP 600 will represent any real changes to Article 13 of UCP 500 since for all intents and purposes it remains essentially the same.

            The practical difficulties with the term “on their face” has been debated by the courts. (Fung, 2004, 128-129)  At least in one case determined by the high court of Hong Kong, Southland Rubber Co. Ltd. v Bank of China [1997] HKLRD 1300 it was held that the banks upon applying the “on their face” criteria are not required to microscopically examine each document or go on a fishing expedition entailing a fault finding mission. (Southland Rubber Co. Ltd. v Bank of China [1997] HKLRD 1300) Likewise, banks are not at liberty to speculate or guess. (Southland Rubber Co. Ltd. v Bank of China [1997] HKLRD 1300)   These kinds of guidelines coming from a court illustrate the duplicity of the term “on their face” and the problems it has created and will continue to create with respect to certainty and predictability in the examination of documents under a letter of credit.

            In the final analysis, while the UCP 600 together with the ISBP itself  cured the defect in the UCP 500 with respect to the application of a single or uniform banking practice, the interpretative difficulties with UCP 500 remain unchanged.  Article 14 by leaving the phrase “on its face” permits far too much of a discretion with respect to the examination of documents.  There is no reason to think that such a discretion is now circumvented by the implementation of the ISBP.

            Article 16 of the UCP 600 replaces Article 14 of the UCP 500 which sets out the actions that a bank should follow in the event it finds discrepancies in the supporting documents and the letter of credit. Under article 14 the bank was at liberty in such an event to approach the vendor for a waiver permitting acceptance of the inconsistent documents. (UCP 500, Article 14)  However, as a result of the nature of the contractual obligations under the letter of credit, the Bank was not required to accept the discrepant documents even if the vendor provided the requisite waiver. (Bergami, 2007, 41-53)

            The UCP 600 Article 16 represents an improvement on Article 14 of UCP 500 by including an additional option permitting the bank to refer to the vendor’s previous instructions.  Bergami, (2007) explains that Article 16 makes it at least “possible for the exporter” to seek “consultation” with  the “bank” before attempting to obtain a “written waiver” from the purchaser with respect to the discrepancy/discrepancies in the supporting documentation. (Bergami, 2007, 41-53) By leaving open the possibility and the opportunity for consultation with the bank, the exporter may be able to “gain additional revenue” in circumstances “where the market price of the goods” have “increased.” (Bergami, 2007, 41-53)  It is difficult however to reconcile Article 16 with the current practice of the court to insist upon the bank having the last say with respect to waivers.  This was evidenced by the court’s approach in Lease America Corp. v Northwest Duluth 940 F2d 345 [8th Cir. 1991].

The only conceivable purpose of Article 16 is to ensure that the applicant and the beneficiary under the letter of credit consult the bank prior to authorizing or agreeing to a waiver.  In this sense, Article 16 does not function effectively to remove the bank’s broad discretionary role in the examination of documents, but only strengthens it.  These broad discretionary powers have always been a catalyst for the large numbers of credits rejected.  By allowing too much discretion as Article 16 does, the risk of diverse practices from global banks is increased and this is an affront to the legal principles behind the doctrines of autonomy and strict compliance.

            Article 37 of UCP 500 which incorporated the doctrine of strict compliance (UCP 500, 1993, Article 37) has been incorporated by Article 14 of UCP 600. (UCP 600, Article 14)  Article 14 however appears to relax the strict compliance requirement previously provided for under Article 37 of UCP 500.  Article 37(c) previously mandated that:

“The description of the goods in the commercial invoice must correspond with the description in the credit.” (UCP 500, 1993, Article 37(c)

Article 14 of the UCP 600 however, does not require such a strict approach with respect to corresponding description of goods on the invoice and the letter of credit making it possible for document checkers to disregard otherwise insignificant discrepancies.  While it is likely that fewer documents will be rejected on purely technical grounds, it is not altogether certain.  The discretion remains with the banks and its document checkers since Article 14 leaves the impression that it is for the bank and its document checkers to determine whether or not corresponding description of goods on the invoice and the letter of credit are compliant.  Discretion in the hands of the international banking community was a problem under the UCP 500 and by maintaining discretion under UCP 600, uniformity remains compromised.  The result is delayed execution of letters of credit, rejection of letters of credit, prolonged litigation and debates.  The underlying principles of autonomy and strict compliance are calculated to avoid these difficulties.  Individual discretion breeds uncertainty and unpredictability.

            Some key changes calculated to remove uncertainty with respect to the examination of documents are found elsewhere in UCP 600 however.  For instance Article 2 of the UCP 600 now provides a definition of terms such as “honour”, “negotiation” and “presentation” (UCP 600, Article 2) whereas article 2 of the UCP 500 only defined “credit.”  By providing a uniform standard for the interpretation of terms such as honour, negotiation and presentation the chances of inconsistencies and unpredictability among various banks around the world should be substantially reduced.  Negotiate is an entirely new term and is defined as a situation in which the “the purchase by the nominated bank of drafts” is effected “by advancing or agreeing to advance” payment prior to or on the day that  “reimbursement is due to the nominated bank” (UCP 600, Article 2)

            Article 3 of UCP 600 contains a provision for interpretations which provides clarification of particular matters that commonly arise during the procedural process with respect to terms than can be misunderstood. (UCP 600, Article 3) Previously, UCP 500 made no such provision.  Article 14(b) is calculated to cut the time for which banks are allotted to examine documents. (UCP 600, Article 14 (b)) Previously under UCP 500 Article 12 (b) the time for examination of documents was seven working days. (UCP 500, Article 13 (b)) Under Article 14(b) of UCP 600 the time is now five working days. (UCP 600, Article 14(b)) German Attorney, Dr. Jens Neilsen is doubtful as to whether or not the deduction of time will facilitate a quicker examination of documents.  Neilsen notes that it is not altogether “clear” if this will have the effect of facilitating a more timely “examination of documents”  as intended by the ICC or will persuade  “banks to use the entire time allotted for examination.” (Neilsen)

            The previous rules with respect to the consistency of the applicant and beneficiary’s address under Article 37 of UCP 500 have been relaxed under Article 14(j) of UCP 600.   Article 14 (j) provides that in circumstances where both the beneficiary’s and the applicant’s addresses  “appear in any stipulated document” they are not required to “be the same” as the addresses listed in the letter of credit or any other document referred to in the credit provided the addresses provided are :

“…within the same country as the respective addresses mentioned in the credit.” (UCP 600, Article 14 (j)

Obviously the previous provision in UCP 500 was thought by the ICC to provide too technical a criteria for banks to reject a letter of credit on the grounds of discrepant documents.  An address change is insignificant if the applicant and beneficiary are exactly the same as initially determined.  In order to remove further confusion and opportunities for rejection of the grounds of inconsistent addresses Article 14(j) of UCP 600 goes on to provide that:

“Contact details (telefax, telephone, email and the like) stated as part of the beneficiary’s and the applicant’s address will be disregarded.” (UCP 600, Article 14 (j))

Article 14 (j) of UCP 600 is a manifestation of the failure on the part of the ICC’s previous regulations and the diverse standards applied by banks with respect to examination of documents.  The doctrine of strict compliance obviously took precedent over the doctrine of materiality and Article 14 (j) makes that distinction by going on to provide that addresses and “contact details of the applicant” that are listed:

“…as part of the consignee or notify party details on a transport document subject to articles 19, 20, 21, 22, 23, 24 or 25 they must be stated in the credit.” (UCP Article 14 (j))

            Article 19 relates to transport documents and provides diverse descriptions of different modes of transportation and basically mandates that the credit need not make provision for diverse modes of transportation. (UCP 600, Article 19) Article 20 simplifies the meaning of Bill of lading and includes port to port descriptions. (UCP 600, Article 20) Article 23 of UCP 600 alters Article 27 of UCP 27 which essentially required that the dispatch date was the shipment date. (UCP 500, Article 27) By virtue of Article 23 of UCP 600, the shipment date if not specified the issuance date on the bill of laden will be the date of shipment. (UCP 600, Article 23)

            Barrister Adnan Karim comments that the cumulative impact of UCP 600 is the removal of “confusion” that banks, lawyers, importers and exporters experienced as a result of UCP 500.(Karim, 2007)  Karim (2007) notes that the fact that more than 70% of documents deemed to be inconsistent with letters of credit:

“…it is hoped that UCP 600 would be more successful than its predecessors in bringing in more uniformity in a field that is in dire need of it.” (Karim, 2007)

            Be that as it may there appears to be a number of dissenting voices among the international business community. (Bergami, 2007, 41-53)  For instance many practitioners and even the ICC’s committee agreed that the term “on their face” with respect to documents under a letter of credit created far too much confusion and should have been removed by UCP 600, yet it remained in place. (Bergami, 2007, 42-53)  Therefore if the intent was to eradicate the problems experienced in the past under UCP 500, then UCP 600 will not meet the challenge since interpretation of documents is in and of itself the catalyst for UCP 500’s failure.

            As Bergami (2007) points out the primary purpose of UCP 500 was to address the changing dynamics of international trade and to formulate a system of rules with respect to letters of credit that would:

 “…bring it more in line with modern day practices that recognize the changing patterns of trade.” (Bergami, 2007, 41-53)

As an example Bergami (2007) notes that “globalization has had a tremendous impact not only on” free and open economics, “but also on” the resulting commercial relations as well as “business practices between traders” in cross-border transactions. (Bergami, 2007, 41-53)  One example is found in measures taken to provide automatic “business processes” by means of “electronic data interchange” in trans-border trade with the result that there has been an increase in the use “of electronic non-negotiable transport documents.” (Bergami, 2007, 41-53) Be that as it may,  these initiatives do not appear to have been contemplated by the UCP 600. (Begami, 2007, 42-53)

            Having noted the weaknesses with the UCP 600 however, it is fair to say that it has at least addressed some of the previous problems experienced under UCP 500.  The relaxation of the rules pertaining to the description of goods on the invoice appear to be a positive measure which would likely reduce the bank’s propensity for rejection  of letters of credit on the ground of discrepancies.  Moreover the implementation of Article 2 which provides important definitions and the reduction of time limits for examination of documents, together with the removal of technical requirements for addresses should reduce the likelihood for the finding of discrepancies which ultimately lead to rejections for reasons outside of the doctrine of materiality.

ISBP

            The ISBP first came into effect in October 2003 and was issued by the ICC. (ICC, 2007)  Its primary purpose was to function as a supplement for the examination of documents on the part of document checkers.  It provides a systematic checklist that document checkers should adhere to when reviewing documents that are presented with the letter of credit. (ICC, 2007)  In its introduction the ISBP 2003 states that “applicants” are not at liberty to “rely on these provisions” as a means of escaping “their obligation to reimburse the issuer”.  (ISBP, 2003)  Of particular importance is the fact that the collective rights, obligations and remedies of the issuer are entirely dependant upon:

“…their undertaking with the issuer, the performance of the underlying transaction and the timelines of any objection under applicable law and practice.” (ISPB, 2003)

            The ISBP set as its task the anticipation of particular interpretations of each term that relates to the documents including the language, documents dating system, phrases used to indicate time limits, rider attachments, originals, copies, signatures, typing errors, certificates, declarations, corrections, modifications and transport documents. (ISPB, 2003)  The ICC at its meeting to discuss and vote on the ISBP draft on 30 October noted that it is not possible to “anticipate all the terms or the document” that will inevitably be utilized with respect tot he letter of credit. (Smith, 2002)  Nor is it possible to anticipate each interpretation that might arise “under the UCP and the standard practice it reflects”.  (Smith, 2002)  Likewise it is not possible to predict with precision the “evolution of practice in response” to the “changing commercial needs.” (Smith 2002) Be that as it may, a concerted effect was made to temper those issues that have given rise to difficulties in practice in the past but were not specifically addressed in the UCP.  It is hoped that the application and construction of the:

“…UCP, and the practices documented in this publication, should enable parties to deal successfully with almost any examination eventuality.” (Smith, 2002)

            Despite its difficult task, the ISBP attempts to remove the barriers to consistency and predictability with respect to the interpretation and examination of documents by using simple language.  Under its general principles the ISBP provides that documents presented under a letter of credit should not have the appearance of inconsistencies with those required by the letter of credit. (ISBP) In other words there is no need for the documents presented to identical to those required of the letter of credit.  This provision should have at the very least clarified the “on their face” requirement as provided for in Article 13(a) of UCP 500.  However, as previously noted, the ISBP did not come into effect until ten years following the implementation of UCP 500.

            Some important questions raised by the provisions of UCP 500 have been answered by ISBP 2003.  For instance whether or not a draft, certificate or declaration should require a signature is not clearly stated in UCP 500, however, ISBP requires that these documents contain a signature. (ISBP) Another unclear provision of UCP 500 was the terms and conditions under which a draft could be issued. Under Article 9(a)(iv) of UCP 500 if a letter of credit required a draft, banks were required to regard these drafts as additional documentation. (UCP 500, 1993, Article 9(a)(iv)) ISPB mandates that credits should not be issued that required a draft drawn on the applicant. (ISBP)

            The ISBP also provided for some clarification and uniformity of terms such as “shipped apparent good order”, “laden on board” and “clean on board.” (ISBP)  The ISBP requires that these terms should mean “shipped on board” to avoid a diversity of meaning. (ISBP)  Another issue addressed that created a number of inconsistent findings by banks are terms such as “taking in charge”, “dispatch”,  “loading on board” as well as “destination.” (The International Standard Banking Practice for the Examination of Documents Under Documentary Credits.)  The ISBP 2003 basically provides that in the event a letter of credit provides “a geographical range” in respect of the “place for taking in charge” or dispatching or “loading on board” as well as the “destination” the transportation documentation is required to name “the actual place” for doing so “which must be within the geographical area or range quoted.” (The International Standard Banking Practice for the Examination of Documents Under Documentary Credits.)

            Another area of confusion for document checkers under the auspices of UCP 500 was whether or not air transport had to specify whether or not the good had been accepted for dispatch.  The ISBP cleared this matter up by providing that air transport documents are indeed required to specify whether or not the goods have been accepted. (ISPB)  Additionally the meaning of “within” a specific timeframe had given rise to a number of inconsistency findings by document checkers under UCP 500 and the ISBP clarified this issue by providing that the term “within” as it relates to a specific time period will not take into account the due date. (ISPB)

            There were two primary difficulties with the ISBP.  The first difficulty is that it did not come into effect until 2003, exactly ten years following the implementation of the UCP 2003 and as such could not have been of any assistance for document checkers.  The second difficulty arises out of the ISBP’s voluntary nature.  Parties to a letter of credit are not bound by the standards incorporated under the ISBP unless they specifically adapt them in their contractual terms and conditions.  In other words, the ISBP is no more than a guideline and has no real legal impact.

            With the implementation of the UCP 600, the ISBP was revised in 2007. (ICC, 2007)  Even so those revisions do not appear to be significant since they merely repeat much of what was contained in the ISBP 2003.  The 2007 amended version include the removal of those paragraphs within the ISBP that have been repeated in UCP 600 and:

“…making certain technical adjustments in grammer, punctuation, etc.; and revising sections of the ISBP that were no longer valid in the new UCP.” (ICC, 2007)

Conclusion

            The rates by which banks worldwide find discrepancies with respect to documents presented and documents required by the letter of credit have ranged between 60 and 80 percent. (Collyer, 2005)  Critic have doubted that the discrepancies have been accounted for by failure on the part of documentation and have surmised that the failure is due primarily to the lack of cohesion and consistency in the ICC’s regulations providing for documentation requirements and examination. (Collyer, 2995)  The fact remains, despite many revisions and alterations of the ICC’s regulations beginning in 1929 and culminating with the UCP 500 and the ISBP 2003 the rates of discrepancies have not seen significant changes. (Collyer)  The question is whether or not the ISBP 2007 and UCP 600 will make a difference.  It is believed that while the simplification of the approach taken by UCP 600 and the ISBP 2007 will help, there is still room for improvement.  These improvement will be discussed in the next chapter.

Chapter 4: Conclusion

            Overview

            Prior to 1993 a number of difficulties arose out of bank’s propensity to insist upon strict compliance with respect to the letter of credit.  One good example is found in the case of Seaconsar Far East Ltd v Bank Markazi Jonhouri Islami Iran [1993] 1 Lloyd’s Rep 236.  In this case the letter of credit had required that the documents presented should list the names of the purchasers and provide the number assigned to the letter of credit. (Seaconsar Far East Ltd v Bank Markazi Jonhouri Islami Iran [1993] 1 Lloyd’s Rep 236)  One of the documents however, did not comport with these instructions and the bank rejected the letter of credit.  The vendor argued and perhaps rightly so, that the discrepancy was insignificant but the court ruled that the bank was at liberty to reject the letter of credit since there was a discrepancy. (Seaconsar Far East Ltd v Bank Markazi Jonhouri Islami Iran [1993] 1 Lloyd’s Rep 236)

            This case is indicative of the problems created by the broad discretionary interpretive powers of banks and document checkers with respect to letters of credit.  The UCP 500 in its attempt to reconcile the different approaches taken by banks on a global level fell short particularly since it did not produce the supplementary interpretive guide contemplated by the ISBP.  As a result problems of rejections and uncertainty continued to plague the use of the letter of credit.  The UCP 600 and the ISBP purported to close the gap between the exercise of discretion between diverse banks and document checkers on an international level.  As noted in this paper, some problems continued, although there have been minimal improvement in the process as provided for under the UCP 600 and the ISBP.

            Conclusion

            The UCP 600 and the ISBP together have attempted to relax the doctrine of strict compliance.   However, the fear of litigation from purchasers, principal or issuing banks have always and continue to remain the guiding principle for banks and document checkers to the extent that they remain cautious, insisting upon strict compliance. (ICC 2007)

            Gary Collyer,  (2005) the chairman of the draft committee with respect to the implementation of UCP 600 and ISBP 2003 readily admits that it is not possible to devise a single “sit of rules” that will effectively decrease the number of discrepancies experienced. (Collyer, 2005)  However, it is hoped that UCP 600 and ISBP 2003 can make provision for:

“…a better form of understanding as to the correct interpretation and application of the rules.” (Collyer, 2005)

As an example, Collyer (2005) explains that rules will not circumvent a scenario in which the vendor under a letter of credit attempts to negotiate the terms of a letter of credit once the expiration date has passed.  Nor can rules prevent discrepancies between the documents presented and the documents required in the letter of credit. (Collyer, 2005)  With these concerns and issues in mind Collyer (2005) explains that the aim of the ICC is to produce:

“…a set of rules that will leave little scope in terms of interpretation and to provide increased clarity in areas where the UCP has seen consistent issues raised in the past.” (Collyer, 2005)

            One of the first things that comes to mind in response to Collyer’s (2005) assertion with respect to addressing issues that have arisen in the past is the ICC’s stubborn adherence to the term “on their face” with respect to examination of documents.  This particular phrase has given rise to a number of interpretive difficulties in the past (Bergami, 2007, 41-53).  In fact the majority of the ICC’s draft committee voted against its inclusion in UCP 600, yet it was not removed. (Bergami, 2007, 41-53)  The remaining articles in UCP 600 as discussed in this paper provide sufficient guidance for the interpretation and examination of documents to the extent that “on their face” merely serves to create confusion where none might otherwise exist.  For this reason the term should be removed altogether.

            The contract under which the letter of credit falls to be interpreted should remain attached to the letter of credit to the extent that the parties to the main contract should ultimately determine whether or not to waive discrepancies within the documents.  This of course should be agreed upon after consultation with the issuing bank to avoid instances of fraud and the vulnerable legal position of banks under a letter of credit.  By providing the bank with the unilateral power to ultimately determine whether or not to permit a waver only creates the opportunity for the manufacturing of discrepancies.  As seen this kind of admitted conduct has contributed to the large rate of discrepancies in the past.

            In order to achieve greater harmony among international banks with respect to the examination of documents the ISBP should become established as a mandatory set of guidelines.  Obviously, its voluntary nature has the impact of providing an incentive for banks to apply it or deviate from it for purely altruistic reasons.  In order to make the ISBP mandatory the ICC should require that all of its Member States indorse the provisions making them binding on all of their citizens.

            The ISBP cannot contemplate each and every eventuality, but should it become binding on international banks some measure of uniformity with respect to its application will be assured.  At the very least document checkers will function under the assumption that they are at least accountable or liable should they ignore the standards set forth in the ISBP.

            Perhaps the greatest difficulty with both the ISBP and the UCP 600 is its failure to deviate sufficiently from the doctrine of strict compliance.  While some efforts have been made as noted in this research study, the main elements of strict compliance remain a problem.  The tone and tenure of the UCP 600 and the ISBP 2007 should focus broadly on requirements that focus primarily on the doctrine of materiality.  In other words the language of both the ISBP and the UCP should clearly reflect that a discrepancy that does not materially impact upon the terms and conditions of the letter of credit should not be deemed inconsistent.

            In order to accommodate the doctrine of materiality more effectively, the ISBP and the UCP 600 should be worded in such as way as to relax the autonomous nature of the letter of credit.  While some measure of autonomy is necessary with respect to the bank’s security, it should be noted however, that the subject matter of the main contract cannot be distinguished from the bank’s security under the letter of credit.  To this end, the standards and regulations applicable to the examination of documents under the letter of credit should be done with reference to the main contract taking account of the distance and international differences that divide the parties to the main contract.

            What both the UCP 600 and the ISBP fail to do is to directly require a measure of cooperation between both the beneficiary.  At the time of drafting the letter of credit the bank and the beneficiary should ensure that the goods described in the invoices are reflected in the letter of credit.  This would eliminate the problems associated with discrepancies between the invoice and the letter of credit.  It would therefore make sense for the ISBP to provide a practice guideline requiring the bank to consult with the beneficiary at the time of drafting the letter of credit.

            In order to avoid further discrepancies, the ISBP should include under the head “Description of the Goods, Services or Performance and other General Issues Related to Invoices” (ISBP 2003) provisions requiring that:

·         The specified items on the letter of credit should also be reflected in the invoice.

·         Words that are used in the invoice purely for the purpose of describing the brand and do not impact upon the substantive description of the goods should not be regarded as a discrepancy.

·         The omission of descriptive words in the invoice should not give rise to a finding of discrepancy if the remaining description comports with the description contained in the letter of credit.

Another means of addressing the likelihood of discrepancy could have been included in the ISBP which directs banks and applicants to be are concise and clear as possible.  This would ensure that the resulting letter of credit is brief and concise leaving very little margin for discrepancies.

In order to assure harmony among banks and document checkers it will be beneficial for international trade for the ICC to set up its own dispute resolution forum.  In addition to acting in an advisory role, the interpretation of the ISBP provisions and the UCP 600 will follow a more certain and predictable path by which banks and document checkers can follow more clearly.  In this way, the ICC can act as mediator in the event a discrepancy arises.  Formal litigation not only has the potential to delay resolution, but it can create inconsistent banking practices within different jurisdictions.

The ICC should also make provision for the compliance courses for bank personal who ultimately have responsibility for checking documents.  With one body providing the course contents, some measure of consistency with respect to approach taken in examining the letters of credit and the documents presented will further the need for certainty and predictability.

            While these recommendations may not perfect what has developed as an imperfect tool for financing international trade, they will go a long way to facilitating the consistency and predictability with which documents under a letter of credit are examined and approved.  If anything, the ISBP and UCP 600 together do represent an improvement on the previous ISBP 2003 and the UCP 500.  The primary aim of these recommendations is to place a greater burden on all parties to the letter of credit at the application and drafting stage with a view to circumventing the difficulties that arise at the negotiation stage.  In their present state, they may not perfect the current practice with respect to examination and approval of letters of credit.  At the very least they have simplified matters and removed some of the obstacles to consistency.  Only time will tell if the international banking community will adhere to and benefit from these changes.

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