Standby Letters Of Credit, Complying Demands And The Fraud Exception – Court Of Appeal Restores Certainty And Commercial Common Sense

In two appeals on the validity of demands under standby letters of credit (SBLCs) and the application of the fraud exception, the Court of Appeal has ruled in each case that:

the beneficiaries were entitled to demand payment under the SBLCs; they had not acted fraudulently in issuing the demands; and there was no basis for restraining the relevant banks from paying against the demands. The appeal court provided very useful clarifications around these issues in Petrosaudi Oil Services (Venezuela) Ltd. v. Novo Banco S.A. [2017] EWCA Civ 9 (the Petrosaudi Appeal) and National Infrastructure Development Co. Ltd. v. Banco Santander S.A. [2017] EWCA Civ 27 (the Santander Appeal).

KEY PRINCIPLES

SBLCs are used mainly to provide the beneficiary with credit support in the event of non-performance by its counterparty under an underlying contract. Applicants of SBLCs are liable to their issuing banks for amounts paid out under the credit, and are therefore watchful against unfair and fraudulent demands by beneficiaries.

Under the well-known "autonomy principle", an issuing bank's duty to pay against an apparently complying presentation/demand is independent of the underlying contract and any disputes between the parties to that contract. The fraud exception - if there is fraud in opening the credit or a fraudulent demand by the beneficiary - is one of very few exceptions to the autonomy principle.

The key issue in both the Petrosaudi Appeal and the Santander Appeal was whether the beneficiaries were entitled to serve demands under the SBLCs and whether they were fraudulent in making those demands.

THE PETROSAUDI APPEAL

The Background

Petrosaudi Oil Services (Venezuela) Ltd (Petrosaudi) provided oil rig drilling services to PDVSA Servicios S.A. (PDV) under a Venezuelan law contract (the Drilling Contract). An English law governed SBLC was issued in favour of Petrosaudi as credit support for PDV's payment of Petrosaudi's invoices.

The Drilling Contract provided that if PDV disputed an invoice it had to tell Petrosaudi within a set time or it would be deemed to have accepted the invoice on a "pay now, argue later" basis. At arbitration, this arrangement was held invalid under Venezuelan law (which set out a prescribed process for approving invoices issued to a state entity, such as PDV, before that entity had to pay).

PDV failed to pay certain invoices and Petrosaudi issued a demand to the bank under the SBLC certifying that "... the Applicant is...