IFI Update London, August/Octber 2008 - Part 1

CONTENTS

Introduction to this Update

In this issue, we examine the following topics:

International sales of goods, the independence of demand

guarantees, claims against a bank for wrongful receipt of moneys

and claims in conversion

Debt ranking, payment and distribution

Investment products: the duty of a selling or advising

bank

Securities lending transactions

Authority to bind a principal to a contractual obligation

Choice of jurisdiction clauses

State immunity from enforcement against assets

Recognition and enforcement of a foreign arbitral award

Appointment of administrators

International sales of goods, the independence of demand

guarantees, claims against a bank for wrongful receipt of moneys

and claims in conversion

The Court of Appeal has considered a number of issues arising

from an international sale of goods transaction, including the

autonomy of a demand repayment guarantee (for an advance payment)

that had been issued by the seller's bank; the liability of the

buyer's bank for moneys that the bank had received relating to

wrongful sub-sales by the purchaser of the goods; the liability of

the buyer's bank in conversion where that bank, which had

opened a letter of credit in favour of the seller, had wrongly

refused to return the documentation relating to some of the goods

when presentation had been rejected; and whether the seller had an

obligation to mitigate its loss in relation to its claim in

conversion. The principal judgment was delivered by Moore-Bick LJ,

with whom Sir Anthony Clarke MR and Laws LJ agreed.

The facts

The transaction concerned a sale on FOB terms of 50,000 metric

tonnes of cotton by the seller in Uzbekistan to an English

purchaser, with the sale to take place by a series of consignments

over a period of months. The purchase price was payable as to 90%

of the total price by an advance payment prior to delivery of any

of the cotton, with the remaining 10% of the price for each

consignment being payable under a letter of credit opened by the

buyer's bank in favour of the seller. The advance payment was

funded by a syndicated credit facility arranged by the buyer's

bank, which was also the agent and security trustee under the

facility. As security for repayment of the facility, the bank took

an assignment of the buyer's rights in the sale contract and

the cotton and over the proceeds of any sub-sales by the buyer. It

also had the benefit of the repayment guarantee that will be

mentioned below. The buyer opened an account with its bank for

receipt of moneys from sub-sales, which were then to be distributed

amongst the syndicate by the bank (in its role as agent and

security trustee), with any remaining balance to be paid to the

buyer as its profit.

In return for the advance payment, the seller arranged for its

bank to issue a demand repayment guarantee in favour of the

buyer's bank, which would cover the seller's obligation to

refund the advance payment if it failed to deliver the cotton. The

document was expressed to be subject to UCP 458 (Uniform Rules for

Demand Guarantees). The guarantee provided that its face amount

would be reduced by the value of cotton supplied from time to time

under the principal contract, such supply to be proved by delivery

of the relevant documentation under the letter of credit.

Some of the cotton was delivered in accordance with the overall

arrangements and the face amount of the refund guarantee was

reduced accordingly. In other cases, the transaction did not run

smoothly and there was a dispute as to whether the correct

documents had been presented under the letter of credit with

respect to the relevant consignments, and the presentations were

rejected. As a result, those consignments could not be treated as

having been delivered to the buyer under the contract.

Notwithstanding this, the buyer managed (in some cases by unlawful

means) to obtain a large number of those consignments of cotton,

which it re-sold, having made payment of the proceeds of such

sub-sales into the account with its bank. The consignments that

were not obtained by the buyer were not shipped and remained in

warehouses awaiting delivery. The buyer's bank wrongly refused

to return the disputed documentation to the seller, but it did

suggest that where cotton remained in warehouses, it should be sold

and the proceeds of sale held pending resolution of the dispute as

to entitlement.

In addition to this, the buyer's bank made demand under the

refund guarantee with respect to all the disputed consignments,

whether or not the buyer had obtained possession of the relevant

cotton. This resulted in the buyer's bank obtaining full

payment of the outstanding principal amount under the guarantee.

One consequence of this was that the buyer's bank received an

element of double payment. This related to those consignments where

the buyer had wrongfully taken into its own possession the relevant

goods, which it then resold and paid the proceeds of its re-sales

into the designated account with the buyer's bank. The bank had

also received payment with respect to those consignments under the

refund guarantee.

There was no point in the seller, or its bank, attempting to

pursue the buyer to obtain recompense, because the buyer had become

insolvent. Accordingly, they attempted to pursue the buyer's

bank. The case was brought by the seller, in its own capacity and

as assignee of any claims that its own bank had against the

buyer's bank.

The claims

For the purposes of this note, the relevant claims that were

made against the buyer's bank were framed as follows. First,

that it was an implied term of the refund guarantee that the

buyer's bank, as the beneficiary, would repay the amount by

which the sum demanded and received under the guarantee exceeded

the real loss sustained by the buyer or its bank (ie, for the

element of double payment). Secondly, that the buyer's bank was

a constructive trustee for the seller of the proceeds of the

re-sales of the disputed consignments, because the bank had

received them in the knowledge that the buyer had obtained

possession or control of the relevant goods wrongfully. Thirdly,

that the bank was liable to the seller in the tort of conversion

with respect to the consignments where the bank had wrongfully

refused to return the documents of title. To this last claim, the

bank argued that if it was so liable, the seller had failed to

mitigate its loss by agreeing to the sale of the goods that

remained in warehouses as the bank had suggested. Accordingly, the

damages to be awarded against the bank should be reduced to take

account of the loss that would not have been suffered by the seller

if it had adopted the bank's London 5040246.1 4 suggestion (ie,

storage costs and a fall in the value of the goods held in the

warehouses).

In the event, neither the first nor the second claim succeeded

and the seller was held to have failed to mitigate its loss in the

claim for conversion.

Refund for double payment

This claim was founded on the implication of a term in the

refund guarantee, to the effect that the buyer's bank, as the

beneficiary, would repay the amount by which the sum demanded and

received under the guarantee exceeded the real loss sustained by

the buyer or its bank, so that the buyer's bank was obliged to

repay the element of the double payment that it had received. The

claim was rejected, principally because it was inconsistent with

the concept that such an instrument, issued by a bank, was an

independent and autonomous instrument which was separate from the

commercial transaction to which it related, and that its only terms

would be those expressly set out in it or in UCP 458 which it

expressly incorporated. The obligations undertaken in such an

instrument should be confined entirely in accordance with what was

stated on the face of the instrument. The issuer was obliged to

make an unequivocal payment if the conditions set out in the

instrument were satisfied. The effect of an implied term such as

that alleged would be to make the instrument uncertain and it would

then be unclear how the obligation of the issuer could be

ascertained with clarity. The obligation of the issuer of the

refund guarantee was to pay in accordance with a demand duly made

under it. The issuer was not concerned with whether the beneficiary

(the buyer's bank) had received any funds from the buyer, nor

was it concerned that the buyer's bank held the proceeds of

payment under the instrument as security with respect to the

funding arrangements between the syndicate and the buyer.

The case law indicated that if any refund fell to be paid, that

would be dealt with between the commercial parties (eg. the buyer

and the seller) in pursuance of the underlying transaction: see

Cargill International SA v. Bangladesh Sugar & Food

Industries Corp [1996] 2 Lloyd's Rep 524 and Comdel

Commodities Ltd v. Siporex Trade SA [1997] 1 Lloyd's Rep

424. The mechanics for making the refund were discussed in obiter

comments in Tradigrain SA v State Trading Corp of India

[2006] 1 Lloyd's Rep 216. There has also been recent discussion

on the right to refunds in Van Der Merwe v. IIG Capital

LLC [2008] EWCA Civ 542. The fact that it was not worth

pursuing the buyer for a refund in this case because it was

insolvent did not affect this analysis. The independence of the

instrument from the underlying commercial transaction was the

predominant factor.

Moore-Bick LJ also dismissed...