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G.R. No.

183486

THE HONGKONG & SHANGHAI BANKING CORPORATION, LIMITED, Petitioner,


vs.
NATIONAL STEEL CORPORATION and CITYTRUST BANKING CORPORATION (NOW
BANK OF THE PHILIPPINE ISLANDS), Respondents.

DECISION

JARDELEZA, J.:

This is a petition for review on certiorari under Rule 45 of the Rules of Court. Petitioner The Hongkong &
Shanghai Banking Corporation, Limited (HSBC) filed this petition to assail the Decision of the Court of
Appeals (CA) dated November 19, 2007 (Assailed Decision) which reversed the ruling of the Regional
Trial Court, Branch 62 of Makati City (RTC Makati) and its Resolution denying HSBC's Motion for
Reconsideration dated June 23, 2008 (Assailed Resolution).

The Facts

Respondent National Steel Corporation (NSC) entered into an Export Sales Contract (the Contract) with
Klockner East Asia Limited (Klockner) on October 12, 1993. 1 NSC sold 1,200 metric tons of prime cold
rolled coils to Klockner under FOB ST Iligan terms. In accordance with the requirements in the Contract,
Klockner applied for an irrevocable letter of credit with HSBC in favor of NSC as the beneficiary in the
amount of US$468,000. On October 22, 1993, HSBC issued an irrevocable and onsight letter of credit no.
HKH 239409 (the Letter of Credit) in favor of NSC.2 The Letter of Credit stated that it is governed by the
International Chamber of Commerce Uniform Customs and Practice for Documentary Credits, Publication
No. 400 (UCP 400). Under UCP 400, HSBC as the issuing bank, has the obligation to immediately pay
NSC upon presentment of the documents listed in the Letter of Credit.3 These documents are: (1) one
original commercial invoice; (2) one packing list; (3) one non-negotiable copy of clean on board ocean bill
of lading made out to order, blank endorsed marked 'freight collect and notify applicant;' (4) copy of Mill
Test Certificate made out 'to whom it may concern;' (5) copy of beneficiary's telex to applicant (Telex No.
86660 Klock HX) advising shipment details including DIC No., shipping marks, name of vessel, port of
shipment, port of destination, bill of lading date, sailing and ETA dates, description of goods, size, weight,
number of packages and value of goods latest two days after shipment date; and (6) beneficiary's certificate
certifying that (a) one set of non-negotiable copies of documents (being those listed above) have been faxed
to applicant (FAX No. 5294987) latest two days after shipment date; and (b) one set of documents
including one copy each of invoice and packing list, 3/3 original bills of lading plus one non-negotiable
copy and three original Mill Test Certificates have been sent to applicant by air courier service latest two
days after shipment date. 4

The Letter of Credit was amended twice to reflect changes in the terms of delivery. On November 2, 1993,
the Letter of Credit was first amended to change the delivery terms from FOB ST Iligan to FOB ST Manila
and to increase the amount to US$488,400.5 It was subsequently amended on November 18, 1993 to extend
the expiry and shipment date to December 8, 1993.6 On November 21, 1993, NSC, through Emerald
Forwarding Corporation, loaded and shipped the cargo of prime cold rolled coils on board MV Sea Dragon
under China Ocean Shipping Company Bill of Lading No. HKG 266001. The cargo arrived in Hongkong
on November 25, 1993.7

NSC coursed the collection of its payment from Klockner through CityTrust Banking Corporation
(CityTrust). NSC had earlier obtained a loan from CityTrust secured by the proceeds of the Letter of Credit
issued by HSBC.8

On November 29, 1993, CityTrust sent a collection order (Collection Order) to HSBC respecting the
collection of payment from Klockner. The Collection Order instructed as follows: (1) deliver documents
against payment; (2) cable advice of non-payment with reason; (3) cable advice payment; and (4) remit
proceeds via TELEX. 9 The Collection Order also contained the following statement: "Subject to Uniform
Rules for the Collection of Commercial Paper Publication No. 322." 10 Further, the Collection Order stated
that proceeds should be remitted to Standard Chartered Bank of Australia, Ltd., Offshore Branch Manila
(SCB-M) which was, in turn, in charge of remitting the amount to CityTrust. 11 On the same date,
CityTrust also presented to HSBC the following documents: (1) Letter of Credit; (2) Bill of Lading; (3)
Commercial Invoice; ( 4) Packing List; (5) Mill Test Certificate; (6) NSC's TELEX to Klockner on
shipping details; (7) Beneficiary's Certificate of facsimile transmittal of documents; (8) Beneficiary's
Certificate of air courier transmittal of documents; and (9) DHL Receipt No. 669988911 and Certificate of
Origin. 12

On December 2, 1993, HSBC sent a cablegram to CityTrust acknowledging receipt of the Collection Order.
It also stated that the documents will be presented to "the drawee against payment subject to UCP 322
[Uniform Rules for Collection (URC) 322] as instructed ... " 13 SCB-M then sent a cablegram to HSBC
requesting the latter to urgently remit the proceeds to its account. It further asked that HSBC inform it "if
unable to pay" 14 and of the "reasons thereof." 15 Neither CityTrust nor SCB-M objected to HSBC's
statement that the collection will be handled under the Uniform Rules for Collection (URC 322).

On December 7, 1993, HSBC responded to SCB-M and sent a cablegram where it repeated that "this bill is
being handled subject to [URC] 322 as instructed by [the] collecting bank." 16 It also informed SCB-M that
it has referred the matter to Klockner for payment and that it will revert upon the receipt of the amount. 17
On December 8, 1993, the Letter of Credit expired.18

On December 10, 1993, HSBC sent another cablegram to SCB-M advising it that Klockner had refused
payment. It then informed SCB-M that it intends to return the documents to NSC with all the banking
charges for its account. 19 In a cablegram dated December 14, 1993, CityTrust requested HSBC to inform
it of Klockner's reason for refusing payment so that it may refer the matter to NSC.20 HSBC did not
respond and CityTrust thus sent a follow-up cablegram to HSBC on December 17, 1993. In this cablegram,
CityTrust insisted that a demand for payment must be made from Klockner since the documents "were
found in compliance with LC terms and conditions."21 HSBC replied on the same day stating that in
accordance with CityTrust's instruction in its Collection Order, HSBC treated the transaction as a matter
under URC 322. Thus, it demanded payment from Klockner which unfortunately refused payment for
unspecified reasons. It then noted that under URC 322, Klockner has no duty to provide a reason for the
refusal. Hence, HSBC requested for further instructions as to whether it should continue to press for
payment or return the documents.22 CityTrust responded that as advised by its client, HSBC should
continue to press for payment.23

Klockner continued to refuse payment and HSBC notified CityTrust in a cablegram dated January 7, 1994,
that should Klockner still refuse to accept the bill by January 12, 1994, it will return the full set of
documents to CityTrust with all the charges for the account of the drawer. 24

Meanwhile, on January 12, 1994, CityTrust sent a letter to NSC stating that it executed NSC's instructions
"to send, ON COLLECTION BASIS, the export documents ... "25 CityTrust also explained that its act of
sending the export documents on collection basis has been its usual practice in response to NSC's
instructions in its transactions.26

NSC responded to this in a letter dated January 18, 1994.27 NSC expressed its disagreement with
CityTrust's contention that it sent the export documents to HSBC on collection basis. It highlighted that it
"negotiated with CityTrust the export documents pertaining to LC No. HKH 239409 of HSBC and it was
CityTrust, which wrongfully treated the negotiation, as 'on collection basis."' 28 NSC further claimed that
CityTrust used its own mistake as an excuse against payment under the Letter of Credit. Thus, NSC argued
that CityTrust remains liable under the Letter of Credit. It also stated that it presumes that CityTrust has
preserved whatever right of reimbursement it may have against HSBC. 29
On January 13, 1994, CityTrust notified HSBC that it should continue to press for payment and to hold on
to the document until further notice. 30

However, Klockner persisted in its refusal to pay. Thus, on February 17, 1994, HSBC returned the
documents to CityTrust. 31 In a letter accompanying the returned documents, HSBC stated that it
considered itself discharged of its duty under the transaction. It also asked for payment of handling
charges.32 In response, CityTrust sent a cablegram to HSBC dated February 21, 1994 stating that it is "no
longer possible for beneficiary to wait for you to get paid by applicant."33 It explained that since the
documents required under the Letter of Credit have been properly sent to HSBC, Citytrust demanded
payment from it. CityTrust also stated, for the first time in all of its correspondence with HSBC, that "re
your previous telexes, ICC Publication No. 322 is not applicable."34 HSBC responded in cablegram dated
February 28, 1994.35 It insisted that CityTrust sent documents which clearly stated that the collection was
being made under URC 322. Thus, in accordance with its instructions, HSBC, in the next three months,
demanded payment from Klockner which the latter eventually refused. Hence, HSBC stated that it opted to
return the documents. It then informed CityTrust that it considered the transaction closed save for the
latter's obligation to pay the handling charges.36

Disagreeing with HSBC' s position, CityTrust sent a cablegram dated March 9, 1994.37 It insisted that
HSBC should pay it in accordance with the terms of the Letter of Credit which it issued on October 22,
1993. Under the Letter of Credit, HSBC undertook to reimburse the presenting bank under "ICC 400 upon
the presentment of all necessary documents."38 CityTrust also stated that the reference to URC 322 in its
Collection Order was merely in fine print. The Collection Order itself was only pro-forma. CityTrust
emphasized that the reference to URC 322 has been "obviously superseded by our specific instructions to
'deliver documents against payment/cable advice non-payment with reason/cable advice payment/remit
proceeds via telex' which was typed in on said form."39 CityTrust also claimed that the controlling
document is the Letter of Credit and not the mere fine print on the Collection Order.40 HSBC replied on
March 10, 1994.41 It argued that CityTrust clearly instructed it to collect payment under URC 322, thus,
CityTrust can no longer claim a contrary position three months after it made its request. HSBC repeated
that the transaction is closed except for CityTrust's obligation to pay for the expenses which HSBC
incurred.42

Meanwhile, on March 3, 1994, NSC sent a letter to HSBC where it, for the first time, demanded payment
under the Letter of Credit. 43 On March 11, 1994, the NSC sent another letter to HSBC through the Office
of the Corporate Counsel which served as its final demand. These demands were made after approximately
four months from the expiration of the Letter of Credit.

Unable to collect from HSBC, NSC filed a complaint against it for collection of sum of money
(Complaint)44 docketed as Civil Case No. 94-2122 (Collection Case) of the RTC Makati. In its Complaint,
NSC alleged that it coursed the collection of the Letter of Credit through CityTrust. However,
notwithstanding CityTrust's complete presentation of the documents in accordance with the requirements in
the Letter of Credit, HSBC unreasonably refused to pay its obligation in the amount of US$485,767.93.45

HSBC filed its Answer46 on January 6, 1995. HSBC denied any liability under the Letter of Credit. It
argued in its Answer that CityTrust modified the obligation when it stated in its Collection Order that the
transaction is subject to URC 322 and not under UCP 400.47 It also filed a Motion to Admit Attached
Third-Party Complaint48 against CityTrust on November 21, 1995.49 It claimed that CityTrust instructed it
to collect payment under URC 322 and never raised that it intended to collect under the Letter of Credit.50
HSBC prayed that in the event that the court finds it liable to NSC, CityTrust should be subrogated in its
place and be made directly liable to NSC.51 The RTC Makati granted the motion and admitted the third
party complaint. CityTrust filed its Answer52 on January 8, 1996. CityTrust denied that it modified the
obligation. It argued that as a mere agent, it cannot modify the terms of the Letter of Credit without the
consent of all the parties. 53 Further, it explained that the supposed instruction that the transaction is
subject to URC 322 was merely in fine print in a pro forma document and was superimposed and pasted
over by a large pink sticker with different remittance instructions.54
After a full-blown trial,55 the RTC Makati rendered a decision (RTC Decision) dated February 23, 2000.56
It found that HSBC is not liable to pay NSC the amount stated in the Letter of Credit. It ruled that the
applicable law is URC 322 as it was the law which CityTrust intended to apply to the transaction. Under
URC 322, HSBC has no liability to pay when Klockner refused payment. The dispositive portion states -

WHEREFORE, premises considered, judgment is hereby rendered as follows:

1. Plaintiffs Complaint against HSBC is DISMISSED; and, HSBC's Counterclaims against NSC are
DENIED.

2. Ordering Third-Party Defendant CityTrust to pay Third-Party Plaintiff HSBC the following:

2.1 US$771.21 as actual and consequential damages; and

2.2 Pl00,000 as attorney's fees.

3. No pronouncement as to costs.

SO ORDERED.57

NSC and CityTrust appealed the RTC Decision before the CA. In its Assailed Decision dated November
19, 2007,58 the CA reversed the RTC Makati. The CA found that it is UCP 400 and not URC 322 which
governs the transaction. According to the CA, the terms of the Letter of Credit clearly stated that UCP 400
shall apply. Further, the CA explained that even if the Letter of Credit did not state that UCP 400 governs,
it nevertheless finds application as this Court has consistently recognized it under Philippine jurisdiction.
Thus, applying UCP 400 and principles concerning letters of credit, the CA explained that the obligation of
the issuing bank is to pay the seller or beneficiary of the credit once the draft and the required documents
are properly presented. Under the independence principle, the issuing bank's obligation to pay under the
letter of credit is separate from the compliance of the parties in the main contract. The dispositive portion
held -

WHEREFORE, in view of the foregoing, the assailed decision is hereby REVERSED and SET ASIDE.
HSBC is ordered to pay its obligation under the irrevocable letter of credit in the amount of US$485,767.93
to NSC with legal interest of six percent (6%) per annum from the filing of the complaint until the amount
is fully paid, plus attorney's fees equivalent to 10% of the principal. Costs against appellee HSBC.

SO ORDERED.59

HSBC filed a Motion for Reconsideration of the Assailed Decision which the CA denied in its Assailed
Resolution dated June 23, 2008.60

Hence, HSBC filed this Petition for Review on Certiorari61 before this Court, seeking a reversal of the CA'
s Assailed Decision and Resolution. In its petition, HSBC contends that CityTrust's order to collect under
URC 322 did not modify nor contradict the Letter of Credit. In fact, it is customary practice in commercial
transactions for entities to collect under URC 322 even if there is an underlying letter of credit. Further,
CityTrust acted as an agent of NSC in collecting payment and as such, it had the authority to instruct HSBC
to proceed under URC 322 and not under UCP 400. Having clearly and expressly instructed HSBC to
collect under URC 322 and having fully intended the transaction to proceed under such rule as shown by
the series of correspondence between CityTrust and HSBC, CityTrust is estopped from now claiming that
the collection was made under UCP 400 in accordance with the Letter of Credit.
NSC, on the other hand, claims that HSBC's obligation to pay is clear from the terms of the Letter of Credit
and under UCP 400. It asserts that the applicable rule is UCP 400 and HSBC has no basis to argue that
CityTrust's presentment of the documents allowed HSBC to vary the terms of their agreement. 62

The Issues

The central question in this case is who among the parties bears the liability to pay the amount stated in the
Letter of Credit. This requires a determination of which between UCP 400 and URC 322 governs the
transaction. The obligations of the parties under the proper applicable rule will, in turn, determine their
liability.

The Ruling of the Court

We uphold the CA.

The nature of a letter of credit

A letter of credit is a commercial instrument developed to address the unique needs of certain commercial
transactions. It is recognized in our jurisdiction and is sanctioned under Article 56763 of the Code of
Commerce and in numerous jurisprudence defining a letter of credit, the principles relating to it, and the
obligations of parties arising from it.

In Bank of America, NT & SA v. Court of Appeals,64 this Court defined a letter of credit as " ... a financial
device developed by merchants as a convenient and relatively safe mode of dealing with sales of goods to
satisfy the seemingly irreconcilable interests of a seller, who refuses to part with his goods before he is
paid, and a buyer, who wants to have control of the goods before paying."65 Through a letter of credit, a
buyer obtains the credit of a third party, usually a bank, to provide assurance of payment.66

This, in turn, convinces a seller to part with his or her goods even before he or she is paid, as he or she is
insured by the third party that he or she will be paid as soon as he or she presents the documents agreed
upon. 67

A letter of credit generally arises out of a separate contract requiring the assurance of payment of a third
party. In a transaction involving a letter of credit, there are usually three transactions and three parties. The
first transaction, which constitutes the underlying transaction in a letter of credit, is a contract of sale
between the buyer and the seller. The contract may require that the buyer obtain a letter of credit from a
third party acceptable to the seller. The obligations of the parties under this contract are governed by our
law on sales.

The second transaction is the issuance of a letter of credit between the buyer and the issuing bank. The
buyer requests the issuing bank to issue a letter of credit naming the seller as the beneficiary. In this
transaction, the issuing bank undertakes to pay the seller upon presentation of the documents identified in
the letter of credit. The buyer, on the other hand, obliges himself or herself to reimburse the issuing bank
for the payment made. In addition, this transaction may also include a fee for the issuing bank's services. 68
This transaction constitutes an obligation on the part of the issuing bank to perform a service in
consideration of the buyer's payment. The obligations of the parties and their remedies in cases of breach
are governed by the letter of credit itself and by our general law on obligations, as our civil law finds
suppletory application in commercial documents. 69

The third transaction takes place between the seller and the issuing bank. The issuing bank issues the letter
of credit for the benefit of the seller. The seller may agree to ship the goods to the buyer even before actual
payment provided that the issuing bank informs him or her that a letter of credit has been issued for his or
her benefit. This means that the seller can draw drafts from the issuing bank upon presentation of certain
documents identified in the letter of credit. The relationship between the issuing bank and the seller is not
strictly contractual since there is no privity of contract nor meeting of the minds between them. 70 It also
does not constitute a stipulation pour autrui in favor of the seller since the issuing bank must honor the
drafts drawn against the letter of credit regardless of any defect in the underlying contract.71 Neither can it
be considered as an assignment by the buyer to the seller-beneficiary as the buyer himself cannot draw on
the letter. 72 From its inception, only the seller can demand payment under the letter of credit. It is also not
a contract of suretyship or guaranty since it involves primary liability in the event of default. 73
Nevertheless, while the relationship between the seller-beneficiary and the issuing bank is not strictly
contractual, strict payment under the terms of a letter of credit is an enforceable right. 74 This enforceable
right finds two legal underpinnings. First, letters of credit, as will be further explained, are governed by
recognized international norms which dictate strict compliance with its terms. Second, the issuing bank has
an existing agreement with the buyer to pay the seller upon proper presentation of documents. Thus, as the
law on obligations applies even in commercial documents, 75 the issuing bank has a duty to the buyer to
honor in good faith its obligation under their agreement. As will be seen in the succeeding discussion, this
transaction is also governed by international customs which this Court has recognized in this jurisdiction.
76

In simpler terms, the various transactions that give rise to a letter of credit proceed as follows: Once the
seller ships the goods, he or she obtains the documents required under the letter of credit. He or she shall
then present these documents to the issuing bank which must then pay the amount identified under the letter
of credit after it ascertains that the documents are complete. The issuing bank then holds on to these
documents which the buyer needs in order to claim the goods shipped. The buyer reimburses the issuing
bank for its payment at which point the issuing bank releases the documents to the buyer. The buyer is then
able to present these documents in order to claim the goods. At this point, all the transactions are
completed. The seller received payment for his or her performance of his obligation to deliver the goods.
The issuing bank is reimbursed for the payment it made to the seller. The buyer received the goods
purchased.

Owing to the complexity of these contracts, there may be a correspondent bank which facilitates the ease of
completing the transactions. A correspondent bank may be a notifying bank, a negotiating bank or a
confirming bank depending on the nature of the obligations assumed. 77 A notifying bank undertakes to
inform the seller-beneficiary that a letter of credit exists. It may also have the duty of transmitting the letter
of credit. As its obligation is limited to this duty, it assumes no liability to pay under the letter of credit. 78
A negotiating bank, on the other hand, purchases drafts at a discount from the seller-beneficiary and
presents them to the issuing bank for payment. 79 Prior to negotiation, a negotiating bank has no
obligation. A contractual relationship between the negotiating bank and the seller-beneficiary arises only
after the negotiating bank purchases or discounts the drafts. 80 Meanwhile, a confirming bank may honor
the letter of credit issued by another bank or confirms that the letter of credit will be honored by the issuing
bank. 81 A confirming bank essentially insures that the credit will be paid in accordance with the terms of
the letter of credit.82 It therefore assumes a direct obligation to the seller-beneficiary. 83

Parenthetically, when banks are involved in letters of credit transactions, the standard of care imposed on
banks engaged in business imbued with public interest applies to them. Banks have the duty to act with the
highest degree of diligence in dealing with clients. 84 Thus, in dealing with the parties in a letter of credit,
banks must also observe this degree of care.

The value of letters of credit in commerce hinges on an important aspect of such a commercial transaction.
Through a letter of credit, a seller-beneficiary is assured of payment regardless of the status of the
underlying transaction. International contracts of sales are perfected and consummated because of the
certainty that the seller will be paid thus making him or her willing to part with the goods even prior to
actual receipt of the amount agreed upon. The legally demandable obligation of an issuing bank to pay
under the letter of credit, and the enforceable right of the seller-beneficiary to demand payment, are
indispensable essentials for the system of letters of credit, if it is to serve its purpose of facilitating
commerce. Thus, a touchstone of any law or custom governing letters of credit is an emphasis on the
imperative that issuing banks respect their obligation to pay, and that seller-beneficiaries may reasonably
expect payment, in accordance with the terms of a letter of credit.

Rules applicable to letters of credit

Letters of credit are defined and their incidences regulated by Articles 567 to 57285 of the Code of
Commerce. These provisions must be read with Article 286 of the same code which states that acts of
commerce are governed by their provisions, by the usages and customs generally observed in the particular
place and, in the absence of both rules, by civil law. In addition, Article 5087 also states that commercial
contracts shall be governed by the Code of Commerce and special laws and in their absence, by general
civil law.

The International Chamber of Commerce (ICC)88 drafted a set of rules to govern transactions involving
letters of credit. This set of rules is known as the Uniform Customs and Practice for Documentary Credits
(UCP). Since its first issuance in 1933, the UCP has seen several revisions, the latest of which was in 2007,
known as the UCP 600. However, for the period relevant to this case, the prevailing version is the 1993
revision called the UCP 400. Throughout the years, the UCP has grown to become the worldwide standard
in transactions involving letters of credit.89 It has enjoyed near universal application with an estimated
95% of worldwide letters of credit issued subject to the UCP.90

In Bank of the Philippine Islands v. De Reny Fabric Industries, Inc.,91 this Court applied a provision from
the UCP in resolving a case pertaining to a letter of credit transaction. This Court explained that the use of
international custom in our jurisdiction is justified by Article 2 of the Code of Commerce which provides
that acts of commerce are governed by, among others, usages and customs generally observed. Further, in
Feati Bank & Trust Company v. Court of Appeals,92 this Court ruled that the UCP should be applied in
cases where the letter of credit expressly states that it is the governing rule.93 This Court also held in Feati
that the UCP applies even if it is not incorporated into the letter of the credit.94 The application of the UCP
in Bank of Philippine Islands and in Feati was further affirmed in Metropolitan Waterworks and Sewerage
System v. Daway95 where this Court held that "[l]etters of credit have long been and are still governed by
the provisions of the Uniform Customs and Practice for Documentary Credit[s] of the International
Chamber of Commerce."96 These precedents highlight the binding nature of the UCP in our jurisdiction.

Thus, for the purpose of clarity, letters of credit are governed primarily by their own provisions, 97 by laws
specifically applicable to them, 98 and by usage and custom. 99 Consistent with our rulings in several
cases, 100 usage and custom refers to UCP 400. When the particular issues are not covered by the
provisions of the letter of credit, by laws specifically applicable to them and by UCP 400, our general civil
law finds suppletory app1ication.101

Applying this set of laws and rules, this Court rules that HSBC is liable under the provisions of the Letter
of Credit, in accordance with usage and custom as embodied in UCP 400, and under the provisions of
general civil law.

HSBC 's Liability

The Letter of Credit categorically stated that it is subject to UCP 400, to wit:

Except so far as otherwise expressly stated, this documentary credit is subject to uniform Customs and
Practice for Documentary Credits (1983 Revision), International Chamber of Commerce Publication No.
400.102

From the moment that HSBC agreed to the terms of the Letter of Credit - which states that UCP 400
applies - its actions in connection with the transaction automatically became bound by the rules set in UCP
400. Even assuming that URC 322 is an international custom that has been recognized in commerce, this
does not change the fact that HSBC, as the issuing bank of a letter of credit, undertook certain obligations
dictated by the terms of the Letter of Credit itself and by UCP 400. In Feati, this Court applied UCP 400
even when there is no express stipulation in the letter of credit that it governs the transaction. 103 On the
strength of our ruling in Feati, we have the legal duty to apply UCP 400 in this case independent of the
parties' agreement to be bound by it.

UCP 400 states that an irrevocable credit payable on sight, such as the Letter of Credit in this case,
constitutes a definite undertaking of the issuing bank to pay, provided that the stipulated documents are
presented and that the terms and conditions of the credit are complied with. 104 Further, UCP 400 provides
that an issuing bank has the obligation to examine the documents with reasonable care. 105 Thus, when
CityTrust forwarded the Letter of Credit with the attached documents to HSBC, it had the duty to make a
determination of whether its obligation to pay arose by properly examining the documents.

In its petition, HSBC argues that it is not UCP 400 but URC 322 that should govern the transaction. 106
URC 322 is a set of norms compiled by the ICC. 107 It was drafted by international experts and has been
adopted by the ICC members. Owing to the status of the ICC and the international representation of its
membership, these rules have been widely observed by businesses throughout the world. It prescribes the
collection procedures, technology, and standards for handling collection transactions for banks. 108 Under
the facts of this case, a bank acting in accordance with the terms of URC 322 merely facilitates collection.
Its duty is to forward the letter of credit and the required documents from the entity seeking payment to
another entity which has the duty to pay. The bank incurs no obligation other than as a collecting agent.
This is different in the case of an issuing bank acting in accordance with UCP 400. In this case, the issuing
bank has the duty to pay the amount stated in the letter of credit upon due presentment. HSBC claims that
while UCP 400 applies to letters of credit, it is also common for beneficiaries of such letters to seek
collection under URC 322. HSBC further claims that URC 322 is an accepted custom in commerce. 109
HSBC's argument is without merit. We note that HSBC failed to present evidence to prove that URC 322
constitutes custom and usage recognized in commerce. Neither was there sufficient evidence to prove that
beneficiaries under a letter of credit commonly resort to collection under URC 322 as a matter of industry
practice. HSBC claims that the testimony of its witness Mr. Lincoln MacMahon (Mr. MacMahon) suffices
for this purpose. 110 However, Mr. MacMahon was not presented as an expert witness capable of
establishing the existing banking and commercial practice relating to URC 322 and letters of credit. Thus,
this Court cannot hold that URC 322 and resort to it by beneficiaries of letters of credit are customs that

demand application in this case.111

HSBC's position that URC 322 applies, thus allowing it, the issuing bank, to disregard the Letter of Credit,
and merely demand collection from Klockner cannot be countenanced. Such an argument effectively asks
this Court to give imprimatur to a practice that undermines the value and reliability of letters of credit in
trade and commerce. The entire system of letters of credit rely on the assurance that upon presentment of
the proper documents, the beneficiary has an enforceable right and the issuing bank a demandable
obligation, to pay the amount agreed upon. Were a party to the transaction allowed to simply set this aside
by the mere invocation of another set of norms related to commerce - one that is not established as a
custom that is entitled to recognition by this Court - the sanctity of letters of credit will be jeopardized. To
repeat, any law or custom governing letters of credit should have, at its core, an emphasis on the imperative
that issuing banks respect their obligation to pay and that seller-beneficiaries may reasonably expect
payment in accordance with the terms of a letter of credit. Thus, the CA correctly ruled, to wit:

At this juncture, it is significant to stress that an irrevocable letter of credit cannot, during its lifetime, be
cancelled or modified without the express permission of the beneficiary. Not even partial payment of the
obligation by the applicant-buyer would amend or modify the obligation of the issuing bank. The
subsequent correspondences of [CityTrust] to HSBC, thus, could not in any way affect or amend the letter
of credit, as it was not a party thereto. As a notifying bank, it has nothing to do with the contract between
the issuing bank and the buyer regarding the issuance of the letter of credit. 112 (Citations omitted)

The provisions in the Civil Code and our jurisprudence apply suppletorily in this case. 113 When a party
knowingly and freely binds himself or herself to perform an act, a juridical tie is created and he or she
becomes bound to fulfill his or her obligation. In this case, HSBC's obligation arose from two sources.
First, it has a contractual duty to Klockner whereby it agreed to pay NSC upon due presentment of the
Letter of Credit and the attached documents. Second, it has an obligation to NSC to honor the Letter of
Credit. In complying with its obligation, HSBC had the duty to perform all acts necessary. This includes a
proper examination of the documents presented to it and making a judicious inquiry of whether CityTrust,
in behalf of NSC, made a due presentment of the Letter of Credit.

Further, as a bank, HSBC has the duty to observe the highest degree of diligence. In all of its transactions,
it must exercise the highest standard of care and must fulfill its obligations with utmost fidelity to its
clients. Thus, upon receipt of CityTrust's Collection Order with the Letter of Credit, HSBC had the
obligation to carefully examine the documents it received. Had it observed the standard of care expected of
it, HSBC would have discovered that the Letter of Credit is the very same document which it issued upon
the request of Klockner, its client. Had HSBC taken the time to perform its duty with the highest degree of
diligence, it would have been alerted by the fact that the documents presented to it corresponded with the
documents stated in the Letter of Credit, to which HSBC freely and knowingly agreed. HSBC ought to
have noticed the discrepancy between CityTrust's request for collection under URC 322 and the terms of
the Letter of Credit. Notwithstanding any statements by CityTrust in the Collection Order as to the
applicable rules, HSBC had the independent duty of ascertaining whether the presentment of the Letter of
Credit and the attached documents gave rise to an obligation which it had to Klockner (its client) and NSC
(the beneficiary). Regardless of any error that CityTrust may have committed, the standard of care expected
of HSBC dictates that it should have made a separate detennination of the significance of the presentment
of the Letter of Credit and the attached documents. A bank exercising the appropriate degree of diligence
would have, at the very least, inquired if NSC was seeking payment under the Letter of Credit or merely
seeking collection under URC 322. In failing to do so, HSBC fell below the standard of care imposed upon
it.

This Court therefore rules that CityTrust's presentment of the Letter of Credit with the attached documents
in behalf of NSC, constitutes due presentment.1avvphi1 Under the terms of the Letter of Credit, HSBC
undertook to pay the amount of US$485,767.93 upon presentment of the Letter of Credit and the required
documents.114 In accordance with this agreement, NSC, through CityTrust, presented the Letter of Credit
and the following documents: (1) Letter of Credit; (2) Bill of Lading; (3) Commercial Invoice; (4) Packing
List; (5) Mill Test Certificate; (6) NSC's TELEX to Klockner on shipping details; (7) Beneficiary's
Certificate of facsimile transmittal of documents; (8) Beneficiary's Certificate of air courier transmittal of
documents; and (9) DHL Receipt No. 669988911 and Certificate of Origin.115

In transactions where the letter of credit is payable on sight, as in this case, the issuer must pay upon due
presentment. This obligation is imbued with the character of definiteness in that not even the defect or
breach in the underlying transaction will affect the issuing bank's liability. 116 This is the Independence
Principle in the law on letters of credit. Article 17 of UCP 400 explains that under this principle, an issuing
bank assumes no liability or responsibility "for the form, sufficiency, accuracy, genuineness, falsification or
legal effect of any documents, or for the general and/or particular conditions stipulated in the documents or
superimposed thereon ... " Thus, as long as the proper documents are presented, the issuing bank has an
obligation to pay even if the buyer should later on refuse payment. Hence, Klockner's refusal to pay carries
no effect whatsoever on HSBC's obligation to pay under the Letter of Credit. To allow HSBC to refuse to
honor the Letter of Credit simply because it could not collect first from Klockner is to countenance a
breach of the Independence Principle.

HSBC's persistent refusal to comply with its obligation notwithstanding due presentment constitutes delay
contemplated in Article 1169 of the Civil Code. 117 This provision states that a party to an obligation
incurs in delay from the time the other party makes a judicial or extrajudicial demand for the fulfillment of
the obligation. We rule that the due presentment of the Letter of Credit and the attached documents is
tantamount to a demand. HSBC incurred in delay when it failed to fulfill its obligation despite such a
demand.
Under Article 1170 of the Civil Code, 118 a party in delay is liable for damages. The extent of these
damages pertains to the pecuniary loss duly proven. 119 In this case, such damage refers to the losses
which NSC incurred in the amount of US$485,767.93 as stated in the Letter of Credit. We also award
interest as indemnity for the damages incurred in the amount of six percent (6%) from the date of NSC's
extrajudicial demand. 120 An interest in the amount of six percent (6%) is also awarded from the time of
the finality of this decision until full payment. 121

Having been remiss in its obligations under the applicable law, rules and jurisprudence, HSBC only has
itself to blame for its consequent liability to NSC.

However, this Court finds that there is no basis for the CA's grant of attorney's fees in favor of NSC. Article
2208 of the Civil Code122 enumerates the grounds for the award of attorney's fees. This Court has
explained that the award of attorney's fees is an exception rather than the rule. 123 The winning party is not
automatically entitled to attorney's fees as there should be no premium on the right to litigate. 124 While
courts may exercise discretion in granting attorney's fees, this Court has stressed that the grounds used as
basis for its award must approximate as closely as possible the enumeration in Article 2208. 125 Its award
must have sufficient factual and legal justifications. 126 This Court rules that none of the grounds stated in
Article 2208 are present in this case. NSC has not cited any specific ground nor presented any particular
fact to warrant the award of attorney's fees.

CityTrust's Liability

When NSC obtained the services of CityTrust in collecting under the Letter of Credit, it constituted
CityTrust as its agent. Article 1868 of the Civil Code states that a contract of agency exists when a person
binds himself or herself "to render some service or to do something in representation or on behalf of
another, with the consent or authority of the latter." In this case, CityTrust bound itself to collect under the
Letter of Credit in behalf of NSC.

One of the obligations of an agent is to carry out the agency in accordance with the instructions of the
principal. 127 In ascertaining NSC's instructions to CityTrust, its letter dated January 18, 1994 is
determinative. In this letter, NSC clearly stated that it "negotiated with CityTrust the export documents
pertaining to LC No. HKH 239409 of HSBC and it was CityTrust which wrongfully treated the negotiation
as 'on collection basis."' 128 HSBC persistently communicated with CityTrust and consistently repeated
that it will proceed with collection under URC 322. At no point did CityTrust correct HSBC or seek
clarification from NSC. In insisting upon its course of action, CityTrust failed to act in accordance with the
instructions given by NSC, its principal. Nevertheless while this Court recognizes that CityTrust committed
a breach of its obligation to NSC, this carries no implications on the clear liability of HSBC. As this Court
already mentioned, HSBC had a separate obligation that it failed to perform by reason of acts independent
of CityTrust's breach of its obligation under its contract of agency. If CityTrust has incurred any liability, it
is to its principal NSC. However, NSC has not raised any claim against CityTrust at any point in these
proceedings. Thus, this Court cannot make any finding of liability against CityTrust in favor of NSC.

WHEREFORE, in view of the foregoing, the Assailed Decision dated November 19, 2007 is AFFIRMED
to the extent that it orders HSBC to pay NSC the amount of US$485,767.93. HSBC is also liable to pay
legal interest of six percent (6%) per annum from the time of extrajudicial demand. An interest of six
percent (6%) is also awarded from the time of the finality of this decision until the amount is fully paid. We
delete the award of attorney's fees. No pronouncement as to cost.

SO ORDERED.
BANK OF THE PHILIPPINE ISLANDS, plaintiff-appellee,
vs.
DE RENY FABRIC INDUSTRIES, INC., AURORA T. TUYO and AURORA CARCERENY alias
AURORA C. GONZALES, defendants-appellants.

Aviado and Aranda for plaintiff-appellee.

S. Emiliano Calma for defendants-appellants.

CASTRO, J.:.

This is an appeal from the decision of the Court of First Instance of Manila ordering the defendants-
appellants to pay to the Bank of the Philippine Islands (hereinafter referred to as the Bank), jointly and
severally, the value of the credit it extended to them in several letters of credit which the Bank opened at
the behest of the defendants appellants to finance their importation of dyestuffs from the United States,
which however turned out to be mere colored chalk upon arrival and inspection thereof at the port of
Manila.

The record shows that on four (4) different occasions in 1961, the De Reny Fabric Industries, Inc., a
Philippine corporation through its co-defendants-appellants, Aurora Carcereny alias Aurora C. Gonzales,
and Aurora T. Tuyo, president and secretary, respectively of the corporation, applied to the Bank for four
(4) irrevocable commercial letters of credit to cover the purchase by the corporation of goods described in
the covering L/C applications as "dyestuffs of various colors" from its American supplier, the J.B.
Distributing Company. All the applications of the corporation were approved, and the corresponding
Commercial L/C Agreements were executed pursuant to banking procedures. Under these agreements, the
aforementioned officers of the corporation bound themselves personally as joint and solidary debtors with
the corporation. Pursuant to banking regulations then in force, the corporation delivered to the Bank peso
marginal deposits as each letter of credit was opened.

The dates and amounts of the L/Cs applied for and approved as well as the peso marginal deposits made
were, respectively, as follows:.

Date Application Amount Marginal


& L/C No. Deposit

Oct. 10, 1961 61/1413 $57,658.38 P43,407.33

Oct. 23, 1961 61/1483 $25,867.34 19,473.64

Oct. 30, 1961 61/1495 $19,408.39 14,610.88

Nov. 10, 1961 61/1564 $26,687.64 20,090.90

TOTAL .... $129,621.75 P97,582.75

By virtue of the foregoing transactions, the Bank issued irrevocable commercial letters of credit addressed
to its correspondent banks in the United States, with uniform instructions for them to notify the beneficiary
thereof, the J.B. Distributing Company, that they have been authorized to negotiate the latter's sight drafts
up to the amounts mentioned the respectively, if accompanied, upon presentation, by a full set of negotiable
clean "on board" ocean bills of lading covering the merchandise appearing in the LCs that is, dyestuffs of
various colors. Consequently, the J.B. Distributing Company drew upon, presented to and negotiated with
these banks, its sight drafts covering the amounts of the merchandise ostensibly being exported by it,
together with clean bills of lading, and collected the full value of the drafts up to the amounts appearing in
the L/Cs as above indicated. These correspondent banks then debited the account of the Bank of the
Philippine Islands with them up to the full value of the drafts presented by the J.B. Distributing Company,
plus commission thereon, and, thereafter, endorsed and forwarded all documents to the Bank of the
Philippine Islands.

In the meantime, as each shipment (covered by the above-mentioned letters of credit) arrived in the
Philippines, the De Reny Fabric Industries, Inc. made partial payments to the Bank amounting, in the
aggregate, to P90,000. Further payments were, however, subsequently discontinued by the corporation
when it became established, as a result of a chemical test conducted by the National Science Development
Board, that the goods that arrived in Manila were colored chalks instead of dyestuffs.

The corporation also refused to take possession of these goods, and for this reason, the Bank caused them
to be deposited with a bonded warehouse paying therefor the amount of P12,609.64 up to the filing of its
complaint with the court below on December 10, 1962.

On October 24, 1963 the lower court rendered its decision ordering the corporation and its co-defendants
(the herein appellants) to pay to the plaintiff-appellee the amount of P291,807.46, with interest thereon, as
provided for in the L/C Agreements, at the rate of 7% per annum from October 31, 1962 until fully paid,
plus costs.

It is the submission of the defendants-appellants that it was the duty of the foreign correspondent banks of
the Bank of the Philippine Islands to take the necessary precaution to insure that the goods shipped under
the covering L/Cs conformed with the item appearing therein, and, that the foregoing banks having failed to
perform this duty, no claim for recoupment against the defendants-appellants, arising from the losses
incurred for the non-delivery or defective delivery of the articles ordered, could accrue.

We can appreciate the sweep of the appellants' argument, but we also find that it is nestled hopelessly
inside a salient where the valid contract between the parties and the internationally accepted customs of the
banking trade must prevail.1

Under the terms of their Commercial Letter of Credit Agreements with the Bank, the appellants agreed that
the Bank shall not be responsible for the "existence, character, quality, quantity, conditions, packing, value,
or delivery of the property purporting to be represented by documents; for any difference in character,
quality, quantity, condition, or value of the property from that expressed in documents," or for "partial or
incomplete shipment, or failure or omission to ship any or all of the property referred to in the Credit," as
well as "for any deviation from instructions, delay, default or fraud by the shipper or anyone else in
connection with the property the shippers or vendors and ourselves [purchasers] or any of us." Having
agreed to these terms, the appellants have, therefore, no recourse but to comply with their covenant. 2

But even without the stipulation recited above, the appellants cannot shift the burden of loss to the Bank on
account of the violation by their vendor of its prestation.

It was uncontrovertibly proven by the Bank during the trial below that banks, in providing financing in
international business transactions such as those entered into by the appellants, do not deal with the
property to be exported or shipped to the importer, but deal only with documents. The Bank introduced in
evidence a provision contained in the "Uniform Customs and Practices for Commercial Documentary
Credits Fixed for the Thirteenth Congress of International Chamber of Commerce," to which the
Philippines is a signatory nation. Article 10 thereof provides: .

In documentary credit operations, all parties concerned deal in documents and not in
goods. — Payment, negotiation or acceptance against documents in accordance with the
terms and conditions of a credit by a Bank authorized to do so binds the party giving the
authorization to take up the documents and reimburse the Bank making the payment,
negotiation or acceptance.

The existence of a custom in international banking and financing circles negating any duty on the part of a
bank to verify whether what has been described in letters of credits or drafts or shipping documents actually
tallies with what was loaded aboard ship, having been positively proven as a fact, the appellants are bound
by this established usage. They were, after all, the ones who tapped the facilities afforded by the Bank in
order to engage in international business.

ACCORDINGLY, the judgment a quo is affirmed, at defendants-appellants' cost. This is without prejudice
to the Bank, in proper proceedings in the court below in this same case proving and being reimbursed
additional expenses, if any, it has incurred by virtue of the continued storage of the goods in question up to
the time this decision becomes final and executory.

Reyes, J.B.L., Actg. C.J., Dizon, Makalintal, Zaldivar, Fernando, Teehankee, Barredo, Villamor and
Makasiar, JJ., concur.

Concepcion, C.J., is on leave.


FEATI BANK & TRUST COMPANY (now CITYTRUST BANKING CORPORATION), petitioner,
vs.
THE COURT OF APPEALS, and BERNARDO E. VILLALUZ, respondents.

Pelaez, Adriano & Gregorio for petitioner.


Ezequiel S. Consulta for private respondent.

GUTIERREZ, JR., J.:

This is a petition for review seeking the reversal of the decision of the Court of Appeals dated June 29,
1990 which affirmed the decision of the Regional Trial Court of Rizal dated October 20, 1986 ordering the
defendants Christiansen and the petitioner, to pay various sums to respondent Villaluz, jointly and
severally.

The facts of the case are as follows:

On June 3, 1971, Bernardo E. Villaluz agreed to sell to the then defendant Axel Christiansen 2,000 cubic
meters of lauan logs at $27.00 per cubic meter FOB.

After inspecting the logs, Christiansen issued purchase order No. 76171.

On the arrangements made and upon the instructions of the consignee, Hanmi Trade Development, Ltd., de
Santa Ana, California, the Security Pacific National Bank of Los Angeles, California issued Irrevocable
Letter of Credit No. IC-46268 available at sight in favor of Villaluz for the sum of $54,000.00, the total
purchase price of the lauan logs.

The letter of credit was mailed to the Feati Bank and Trust Company (now Citytrust) with the instruction to
the latter that it "forward the enclosed letter of credit to the beneficiary." (Records, Vol. I, p. 11)

The letter of credit further provided that the draft to be drawn is on Security Pacific National Bank and that
it be accompanied by the following documents:

1. Signed Commercial Invoice in four copies showing the number of the purchase order and
certifying that —

a. All terms and conditions of the purchase order have been complied with and that all
logs are fresh cut and quality equal to or better than that described in H.A. Christiansen's
telex #201 of May 1, 1970, and that all logs have been marked "BEV-EX."

b. One complete set of documents, including 1/3 original bills of lading was airmailed to
Consignee and Parties to be advised by Hans-Axel Christiansen, Ship and Merchandise
Broker.

c. One set of non-negotiable documents was airmailed to Han Mi Trade Development


Company and one set to Consignee and Parties to be advised by Hans-Axel Christiansen,
Ship and Merchandise Broker.

2. Tally sheets in quadruplicate.


3. 2/3 Original Clean on Board Ocean Bills of Lading with Consignee and Parties to be advised by
Hans Axel Christiansen, showing Freight Prepaid and marked Notify:

Han Mi Trade Development Company, Ltd., Santa Ana, California.

Letter of Credit No. 46268 dated June 7, 1971

Han Mi Trade Development Company, Ltd., P.O. Box 10480, Santa Ana, California 92711 and
Han Mi Trade Development Company, Ltd., Seoul, Korea.

4. Certification from Han-Axel Christiansen, Ship and Merchandise Broker, stating that logs have
been approved prior to shipment in accordance with terms and conditions of corresponding
purchase Order. (Record, Vol. 1 pp. 11-12)

Also incorporated by reference in the letter of credit is the Uniform Customs and Practice for Documentary
Credits (1962 Revision).

The logs were thereafter loaded on the vessel "Zenlin Glory" which was chartered by Christiansen. Before
its loading, the logs were inspected by custom inspectors Nelo Laurente, Alejandro Cabiao, Estanislao
Edera from the Bureau of Customs (Records, Vol. I, p. 124) and representatives Rogelio Cantuba and Jesus
Tadena of the Bureau of Forestry (Records, Vol. I, pp. 16-17) all of whom certified to the good condition
and exportability of the logs.

After the loading of the logs was completed, the Chief Mate, Shao Shu Wang issued a mate receipt of the
cargo which stated the same are in good condition (Records, Vol. I, p. 363). However, Christiansen refused
to issue the certification as required in paragraph 4 of the letter of credit, despite several requests made by
the private respondent.

Because of the absence of the certification by Christiansen, the Feati Bank and Trust Company refused to
advance the payment on the letter of credit.

The letter of credit lapsed on June 30, 1971, (extended, however up to July 31, 1971) without the private
respondent receiving any certification from Christiansen.

The persistent refusal of Christiansen to issue the certification prompted the private respondent to bring the
matter before the Central Bank. In a memorandum dated August 16, 1971, the Central Bank ruled that:

. . . pursuant to the Monetary Board Resolution No. 1230 dated August 3, 1971, in all log exports,
the certification of the lumber inspectors of the Bureau of Forestry . . . shall be considered final for
purposes of negotiating documents. Any provision in any letter of credit covering log exports
requiring certification of buyer's agent or representative that said logs have been approved for
shipment as a condition precedent to negotiation of shipping documents shall not be allowed.
(Records, Vol. I, p. 367)

Meanwhile, the logs arrived at Inchon, Korea and were received by the consignee, Hanmi Trade
Development Company, to whom Christiansen sold the logs for the amount of $37.50 per cubic meter, for a
net profit of $10 per cubic meter. Hanmi Trade Development Company, on the other hand sold the logs to
Taisung Lumber Company at Inchon, Korea. (Rollo, p. 39)

Since the demands by the private respondent for Christiansen to execute the certification proved futile,
Villaluz, on September 1, 1971, instituted an action for mandamus and specific performance against
Christiansen and the Feati Bank and Trust Company (now Citytrust) before the then Court of First Instance
of Rizal. The petitioner was impleaded as defendant before the lower court only to afford complete relief
should the court a quo order Christiansen to execute the required certification.

The complaint prayed for the following:

1. Christiansen be ordered to issue the certification required of him under the Letter of Credit;

2. Upon issuance of such certification, or, if the court should find it unnecessary, FEATI BANK
be ordered to accept negotiation of the Letter of Credit and make payment thereon to Villaluz;

3. Order Christiansen to pay damages to the plaintiff. (Rollo, p. 39)

On or about 1979, while the case was still pending trial, Christiansen left the Philippines without informing
the Court and his counsel. Hence, Villaluz, filed an amended complaint to make the petitioner solidarily
liable with Christiansen.

The trial court, in its order dated August 29, 1979, admitted the amended complaint.

After trial, the lower court found:

The liability of the defendant CHRISTIANSEN is beyond dispute, and the plaintiffs right to
demand payment is absolute. Defendant CHRISTIANSEN having accepted delivery of the logs by
having them loaded in his chartered vessel the "Zenlin Glory" and shipping them to the consignee,
his buyer Han Mi Trade in Inchon, South Korea (Art. 1585, Civil Code), his obligation to pay the
purchase order had clearly arisen and the plaintiff may sue and recover the price of the goods (Art.
1595, Id).

The Court believes that the defendant CHRISTIANSEN acted in bad faith and deceit and with
intent to defraud the plaintiff, reflected in and aggravated by, not only his refusal to issue the
certification that would have enabled without question the plaintiff to negotiate the letter of credit,
but his accusing the plaintiff in his answer of fraud, intimidation, violence and deceit. These
accusations said defendant did not attempt to prove, as in fact he left the country without even
notifying his own lawyer. It was to the Court's mind a pure swindle.

The defendant Feati Bank and Trust Company, on the other hand, must be held liable together
with his (sic) co-defendant for having, by its wrongful act, i.e., its refusal to negotiate the letter of
credit in the absence of CHRISTIANSEN's certification (in spite of the Central Bank's ruling that
the requirement was illegal), prevented payment to the plaintiff. The said letter of credit, as may
be seen on its face, is irrevocable and the issuing bank, the Security Pacific National Bank in Los
Angeles, California, undertook by its terms that the same shall be honored upon its presentment.
On the other hand, the notifying bank, the defendant Feati Bank and Trust Company, by accepting
the instructions from the issuing bank, itself assumed the very same undertaking as the issuing
bank under the terms of the letter of credit .

xxx xxx xxx

The Court likewise agrees with the plaintiff that the defendant BANK may also be held liable
under the principles and laws on both trust and estoppel. When the defendant BANK accepted its
role as the notifying and negotiating bank for and in behalf of the issuing bank, it in effect
accepted a trust reposed on it, and became a trustee in relation to plaintiff as the beneficiary of the
letter of credit. As trustee, it was then duty bound to protect the interests of the plaintiff under the
terms of the letter of credit, and must be held liable for damages and loss resulting to the plaintiff
from its failure to perform that obligation.
Furthermore, when the defendant BANK assumed the role of a notifying and negotiating BANK it
in effect represented to the plaintiff that, if the plaintiff complied with the terms and conditions of
the letter of credit and presents the same to the BANK together with the documents mentioned
therein the said BANK will pay the plaintiff the amount of the letter of credit. The Court is
convinced that it was upon the strength of this letter of credit and this implied representation of the
defendant BANK that the plaintiff delivered the logs to defendant CHRISTIANSEN, considering
that the issuing bank is a foreign bank with whom plaintiff had no business connections and
CHRISTIANSEN had not offered any other Security for the payment of the logs. Defendant
BANK cannot now be allowed to deny its commitment and liability under the letter of credit:

A holder of a promissory note given because of gambling who indorses the same to an
innocent holder for value and who assures said party that the note has no legal defect, is
in estoppel from asserting that there had been an illegal consideration for the note, and so,
he has to pay its value. (Rodriguez v. Martinez, 5 Phil. 67).

The defendant BANK, in insisting upon the certification of defendant CHRISTIANSEN as a


condition precedent to negotiating the letter of credit, likewise in the Court's opinion acted in bad
faith, not only because of the clear declaration of the Central Bank that such a requirement was
illegal, but because the BANK, with all the legal counsel available to it must have known that the
condition was void since it depended on the sole will of the debtor, the defendant
CHRISTIANSEN. (Art. 1182, Civil Code) (Rollo, pp. 29-31)

On the basis of the foregoing the trial court on October 20, 1986, ruled in favor of the private respondent.
The dispositive portion of its decision reads:

WHEREFORE, judgment is hereby rendered for the plaintiff, ordering the defendants to pay the
plaintiff, jointly and severally, the following sums:

a) $54,000.00 (US), or its peso equivalent at the prevailing rate as of the time payment is actually
made, representing the purchase price of the logs;

b) P17,340.00, representing government fees and charges paid by plaintiff in connection with the
logs shipment in question;

c) P10,000.00 as temperate damages (for trips made to Bacolod and Korea).

All three foregoing sums shall be with interest thereon at 12% per annum from September 1,
1971, when the complaint was filed, until fully paid:

d) P70,000.00 as moral damages;

e) P30,000.00 as exemplary damages; and

f) P30,000.00 as attorney's fees and litigation expense.

(Rollo, p. 28)

The petitioner received a copy of the decision on November 3, 1986. Two days thereafter, or on November
5, 1986, it filed a notice of appeal.

On November 10, 1986, the private respondent filed a motion for the immediate execution of the judgment
on the ground that the appeal of the petitioner was frivolous and dilatory.
The trial court ordered the immediate execution of its judgment upon the private respondent's filing of a
bond.

The petitioner then filed a motion for reconsideration and a motion to suspend the implementation of the
writ of execution. Both motions were, however, denied. Thus, petitioner filed before the Court of Appeals a
petition for certiorari and prohibition with preliminary injunction to enjoin the immediate execution of the
judgment.

The Court of Appeals in a decision dated April 9, 1987 granted the petition and nullified the order of
execution, the dispositive portion of the decision states:

WHEREFORE, the petition for certiorari is granted. Respondent Judge's order of execution dated
December 29, 1986, as well as his order dated January 14, 1987 denying the petitioner's urgent
motion to suspend the writ of execution against its properties are hereby annulled and set aside
insofar as they are sought to be enforced and implemented against the petitioner Feati Bank &
Trust Company, now Citytrust Banking Corporation, during the pendency of its appeal from the
adverse decision in Civil Case No. 15121. However, the execution of the same decision against
defendant Axel Christiansen did not appeal said decision may proceed unimpeded. The Sheriff s
levy on the petitioner's properties, and the notice of sale dated January 13, 1987 (Annex M), are
hereby annulled and set aside. Rollo p. 44)

A motion for reconsideration was thereafter filed by the private respondent. The Court of Appeals, in a
resolution dated June 29, 1987 denied the motion for reconsideration.

In the meantime, the appeal filed by the petitioner before the Court of Appeals was given due course. In its
decision dated June 29, 1990, the Court of Appeals affirmed the decision of the lower court dated October
20, 1986 and ruled that:

1. Feati Bank admitted in the "special and negative defenses" section of its answer that it was the
bank to negotiate the letter of credit issued by the Security Pacific National Bank of Los Angeles,
California. (Record, pp. 156, 157). Feati Bank did notify Villaluz of such letter of credit. In fact,
as such negotiating bank, even before the letter of credit was presented for payment, Feati Bank
had already made an advance payment of P75,000.00 to Villaluz in anticipation of such
presentment. As the negotiating bank, Feati Bank, by notifying Villaluz of the letter of credit in
behalf of the issuing bank (Security Pacific), confirmed such letter of credit and made the same
also its own obligation. This ruling finds support in the authority cited by Villaluz:

A confirmed letter of credit is one in which the notifying bank gives its assurance also that the
opening bank's obligation will be performed. In such a case, the notifying bank will not simply
transmit but will confirm the opening bank's obligation by making it also its own undertaking, or
commitment, or guaranty or obligation. (Ward & Hatfield, 28-29, cited in Agbayani, Commercial
Laws, 1978 edition, p. 77).

Feati Bank argues further that it would be considered as the negotiating bank only upon
negotiation of the letter of credit. This stance is untenable. Assurance, commitments or guaranties
supposed to be made by notifying banks to the beneficiary of a letter of credit, as defined above,
can be relevant or meaningful only with respect to a future transaction, that is, negotiation. Hence,
even before actual negotiation, the notifying bank, by the mere act of notifying the beneficiary of
the letter of credit, assumes as of that moment the obligation of the issuing bank.

2. Since Feati Bank acted as guarantor of the issuing bank, and in effect also of the latter's
principal or client, i.e. Hans Axel-Christiansen. (sic) Such being the case, when Christiansen
refused to issue the certification, it was as though refusal was made by Feati Bank itself. Feati
Bank should have taken steps to secure the certification from Christiansen; and, if the latter should
still refuse to comply, to hale him to court. In short, Feati Bank should have honored Villaluz's
demand for payment of his logs by virtue of the irrevocable letter of credit issued in Villaluz's
favor and guaranteed by Feati Bank.

3. The decision promulgated by this Court in CA-G.R. Sp No. 11051, which contained the
statement "Since Villaluz" draft was not drawn strictly in compliance with the terms of the letter
of credit, Feati Bank's refusal to negotiate it was justified," did not dispose of this question on the
merits. In that case, the question involved was jurisdiction or discretion, and not judgment. The
quoted pronouncement should not be taken as a preemptive judgment on the merits of the present
case on appeal.

4. The original action was for "Mandamus and/or specific performance." Feati Bank may not be a
party to the transaction between Christiansen and Security Pacific National Bank on the one hand,
and Villaluz on the other hand; still, being guarantor or agent of Christiansen and/or Security
Pacific National Bank which had directly dealt with Villaluz, Feati Bank may be sued properly on
specific performance as a procedural means by which the relief sought by Villaluz may be
entertained. (Rollo, pp. 32-33)

The dispositive portion of the decision of the Court of Appeals reads:

WHEREFORE, the decision appealed from is affirmed; and accordingly, the appeal is hereby
dismissed. Costs against the petitioner. (Rollo, p. 33)

Hence, this petition for review.

The petitioner interposes the following reasons for the allowance of the petition.

First Reason

THE RESPONDENT COURT ERRONEOUSLY CONCLUDED FROM THE ESTABLISHED


FACTS AND INDEED, WENT AGAINST THE EVIDENCE AND DECISION OF THIS
HONORABLE COURT, THAT PETITIONER BANK IS LIABLE ON THE LETTER OF
CREDIT DESPITE PRIVATE RESPONDENTS NON-COMPLIANCE WITH THE TERMS
THEREOF,

Second Reason

THE RESPONDENT COURT COMMITTED AN ERROR OF LAW WHEN IT HELD THAT


PETITIONER BANK, BY NOTIFYING PRIVATE RESPONDENT OF THE LETTER OF
CREDIT, CONFIRMED SUCH CREDIT AND MADE THE SAME ALSO ITS OBLIGATION
AS GUARANTOR OF THE ISSUING BANK.

Third Reason

THE RESPONDENT COURT LIKEWISE COMMITTED AN ERROR OF LAW WHEN IT


AFFIRMED THE TRIAL COURT'S DECISION. (Rollo, p. 12)

The principal issue in this case is whether or not a correspondent bank is to be held liable under the letter of
credit despite non-compliance by the beneficiary with the terms thereof?

The petition is impressed with merit.


It is a settled rule in commercial transactions involving letters of credit that the documents tendered must
strictly conform to the terms of the letter of credit. The tender of documents by the beneficiary (seller) must
include all documents required by the letter. A correspondent bank which departs from what has been
stipulated under the letter of credit, as when it accepts a faulty tender, acts on its own risks and it may not
thereafter be able to recover from the buyer or the issuing bank, as the case may be, the money thus paid to
the beneficiary Thus the rule of strict compliance.

In the United States, commercial transactions involving letters of credit are governed by the rule of strict
compliance. In the Philippines, the same holds true. The same rule must also be followed.

The case of Anglo-South America Trust Co. v. Uhe et al. (184 N.E. 741 [1933]) expounded clearly on the
rule of strict compliance.

We have heretofore held that these letters of credit are to be strictly complied with which
documents, and shipping documents must be followed as stated in the letter. There is no discretion
in the bank or trust company to waive any requirements. The terms of the letter constitutes an
agreement between the purchaser and the bank. (p. 743)

Although in some American decisions, banks are granted a little discretion to accept a faulty tender as
when the other documents may be considered immaterial or superfluous, this theory could lead to
dangerous precedents. Since a bank deals only with documents, it is not in a position to determine whether
or not the documents required by the letter of credit are material or superfluous. The mere fact that the
document was specified therein readily means that the document is of vital importance to the buyer.

Moreover, the incorporation of the Uniform Customs and Practice for Documentary Credit (U.C.P. for
short) in the letter of credit resulted in the applicability of the said rules in the governance of the relations
between the parties.

And even if the U.C.P. was not incorporated in the letter of credit, we have already ruled in the affirmative
as to the applicability of the U.C.P. in cases before us.

In Bank of P.I. v. De Nery (35 SCRA 256 [1970]), we pronounced that the observance of the U.C.P. in this
jurisdiction is justified by Article 2 of the Code of Commerce. Article 2 of the Code of Commerce
enunciates that in the absence of any particular provision in the Code of Commerce, commercial
transactions shall be governed by the usages and customs generally observed.

There being no specific provision which governs the legal complexities arising from transactions involving
letters of credit not only between the banks themselves but also between banks and seller and/or buyer, the
applicability of the U.C.P. is undeniable.

The pertinent provisions of the U.C.P. (1962 Revision) are:

Article 3.

An irrevocable credit is a definite undertaking on the part of the issuing bank and constitutes the
engagement of that bank to the beneficiary and bona fide holders of drafts drawn and/or
documents presented thereunder, that the provisions for payment, acceptance or negotiation
contained in the credit will be duly fulfilled, provided that all the terms and conditions of the
credit are complied with.

An irrevocable credit may be advised to a beneficiary through another bank (the advising bank)
without engagement on the part of that bank, but when an issuing bank authorizes or requests
another bank to confirm its irrevocable credit and the latter does so, such confirmation constitutes
a definite undertaking of the confirming bank. . . .

Article 7.

Banks must examine all documents with reasonable care to ascertain that they appear on their face
to be in accordance with the terms and conditions of the credit,"

Article 8.

Payment, acceptance or negotiation against documents which appear on their face to be in


accordance with the terms and conditions of a credit by a bank authorized to do so, binds the party
giving the authorization to take up documents and reimburse the bank which has effected the
payment, acceptance or negotiation. (Emphasis Supplied)

Under the foregoing provisions of the U.C.P., the bank may only negotiate, accept or pay, if the documents
tendered to it are on their face in accordance with the terms and conditions of the documentary credit. And
since a correspondent bank, like the petitioner, principally deals only with documents, the absence of any
document required in the documentary credit justifies the refusal by the correspondent bank to negotiate,
accept or pay the beneficiary, as it is not its obligation to look beyond the documents. It merely has to rely
on the completeness of the documents tendered by the beneficiary.

In regard to the ruling of the lower court and affirmed by the Court of Appeals that the petitioner is not a
notifying bank but a confirming bank, we find the same erroneous.

The trial court wrongly mixed up the meaning of an irrevocable credit with that of a confirmed credit. In its
decision, the trial court ruled that the petitioner, in accepting the obligation to notify the respondent that the
irrevocable credit has been transmitted to the petitioner on behalf of the private respondent, has confirmed
the letter.

The trial court appears to have overlooked the fact that an irrevocable credit is not synonymous with a
confirmed credit. These types of letters have different meanings and the legal relations arising from there
varies. A credit may be an irrevocable credit and at the same time a confirmed credit or vice-versa.

An irrevocable credit refers to the duration of the letter of credit. What is simply means is that the issuing
bank may not without the consent of the beneficiary (seller) and the applicant (buyer) revoke his
undertaking under the letter. The issuing bank does not reserve the right to revoke the credit. On the other
hand, a confirmed letter of credit pertains to the kind of obligation assumed by the correspondent bank. In
this case, the correspondent bank gives an absolute assurance to the beneficiary that it will undertake the
issuing bank's obligation as its own according to the terms and conditions of the credit. (Agbayani,
Commercial Laws of the Philippines, Vol. 1, pp. 81-83)

Hence, the mere fact that a letter of credit is irrevocable does not necessarily imply that the correspondent
bank in accepting the instructions of the issuing bank has also confirmed the letter of credit. Another error
which the lower court and the Court of Appeals made was to confuse the obligation assumed by the
petitioner.

In commercial transactions involving letters of credit, the functions assumed by a correspondent bank are
classified according to the obligations taken up by it. The correspondent bank may be called a notifying
bank, a negotiating bank, or a confirming bank.

In case of a notifying bank, the correspondent bank assumes no liability except to notify and/or transmit to
the beneficiary the existence of the letter of credit. (Kronman and Co., Inc. v. Public National Bank of New
York, 218 N.Y.S. 616 [1926]; Shaterian, Export-Import Banking, p. 292, cited in Agbayani, Commercial
Laws of the Philippines, Vol. 1, p. 76). A negotiating bank, on the other hand, is a correspondent bank
which buys or discounts a draft under the letter of credit. Its liability is dependent upon the stage of the
negotiation. If before negotiation, it has no liability with respect to the seller but after negotiation, a
contractual relationship will then prevail between the negotiating bank and the seller. (Scanlon v. First
National Bank of Mexico, 162 N.E. 567 [1928]; Shaterian, Export-Import Banking, p. 293, cited in
Agbayani, Commercial Laws of the Philippines, Vol. 1, p. 76)

In the case of a confirming bank, the correspondent bank assumes a direct obligation to the seller and its
liability is a primary one as if the correspondent bank itself had issued the letter of credit. (Shaterian,
Export-Import Banking, p. 294, cited in Agbayani Commercial Laws of the Philippines, Vol. 1, p. 77)

In this case, the letter merely provided that the petitioner "forward the enclosed original credit to the
beneficiary." (Records, Vol. I, p. 11) Considering the aforesaid instruction to the petitioner by the issuing
bank, the Security Pacific National Bank, it is indubitable that the petitioner is only a notifying bank and
not a confirming bank as ruled by the courts below.

If the petitioner was a confirming bank, then a categorical declaration should have been stated in the letter
of credit that the petitioner is to honor all drafts drawn in conformity with the letter of credit. What was
simply stated therein was the instruction that the petitioner forward the original letter of credit to the
beneficiary.

Since the petitioner was only a notifying bank, its responsibility was solely to notify and/or transmit the
documentary of credit to the private respondent and its obligation ends there.

The notifying bank may suggest to the seller its willingness to negotiate, but this fact alone does not imply
that the notifying bank promises to accept the draft drawn under the documentary credit.

A notifying bank is not a privy to the contract of sale between the buyer and the seller, its relationship is
only with that of the issuing bank and not with the beneficiary to whom he assumes no liability. It follows
therefore that when the petitioner refused to negotiate with the private respondent, the latter has no cause of
action against the petitioner for the enforcement of his rights under the letter. (See Kronman and Co., Inc. v.
Public National Bank of New York, supra)

In order that the petitioner may be held liable under the letter, there should be proof that the petitioner
confirmed the letter of credit.

The records are, however, bereft of any evidence which will disclose that the petitioner has confirmed the
letter of credit. The only evidence in this case, and upon which the private respondent premised his
argument, is the P75,000.00 loan extended by the petitioner to him.

The private respondent relies on this loan to advance his contention that the letter of credit was confirmed
by the petitioner. He claims that the loan was granted by the petitioner to him, "in anticipation of the
presentment of the letter of credit."

The proposition advanced by the private respondent has no basis in fact or law. That the loan agreement
between them be construed as an act of confirmation is rather far-fetched, for it depends principally on
speculative reasoning.

As earlier stated, there must have been an absolute assurance on the part of the petitioner that it will
undertake the issuing bank's obligation as its own. Verily, the loan agreement it entered into cannot be
categorized as an emphatic assurance that it will carry out the issuing bank's obligation as its own.
The loan agreement is more reasonably classified as an isolated transaction independent of the
documentary credit.

Of course, it may be presumed that the petitioner loaned the money to the private respondent in anticipation
that it would later be paid by the latter upon the receipt of the letter. Yet, we would have no basis to rule
definitively that such "act" should be construed as an act of confirmation.

The private respondent no doubt was in need of money in loading the logs on the ship "Zenlin Glory" and
the only way to satisfy this need was to borrow money from the petitioner which the latter granted. From
these circumstances, a logical conclusion that can be gathered is that the letter of credit was merely to serve
as a collateral.

At the most, when the petitioner extended the loan to the private respondent, it assumed the character of a
negotiating bank. Even then, the petitioner will still not be liable, for a negotiating bank before negotiation
has no contractual relationship with the seller.

The case of Scanlon v. First National Bank (supra) perspicuously explained the relationship between the
seller and the negotiating bank, viz:

It may buy or refuse to buy as it chooses. Equally, it must be true that it owes no contractual duty
toward the person for whose benefit the letter is written to discount or purchase any draft drawn
against the credit. No relationship of agent and principal, or of trustee and cestui, between the
receiving bank and the beneficiary of the letter is established. (P.568)

Whether therefore the petitioner is a notifying bank or a negotiating bank, it cannot be held liable. Absent
any definitive proof that it has confirmed the letter of credit or has actually negotiated with the private
respondent, the refusal by the petitioner to accept the tender of the private respondent is justified.

In regard to the finding that the petitioner became a "trustee in relation to the plaintiff (private respondent)
as the beneficiary of the letter of credit," the same has no legal basis.

A trust has been defined as the "right, enforceable solely in equity, to the beneficial enjoyment of property
the legal title to which is vested to another." (89 C.J.S. 712)

The concept of a trust presupposes the existence of a specific property which has been conferred upon the
person for the benefit of another. In order therefore for the trust theory of the private respondent to be
sustained, the petitioner should have had in its possession a sum of money as specific fund advanced to it
by the issuing bank and to be held in trust by it in favor of the private respondent. This does not obtain in
this case.

The mere opening of a letter of credit, it is to be noted, does not involve a specific appropriation of a sum
of money in favor of the beneficiary. It only signifies that the beneficiary may be able to draw funds upon
the letter of credit up to the designated amount specified in the letter. It does not convey the notion that a
particular sum of money has been specifically reserved or has been held in trust.

What actually transpires in an irrevocable credit is that the correspondent bank does not receive in advance
the sum of money from the buyer or the issuing bank. On the contrary, when the correspondent bank
accepts the tender and pays the amount stated in the letter, the money that it doles out comes not from any
particular fund that has been advanced by the issuing bank, rather it gets the money from its own funds and
then later seeks reimbursement from the issuing bank.

Granting that a trust has been created, still, the petitioner may not be considered a trustee. As the petitioner
is only a notifying bank, its acceptance of the instructions of the issuing bank will not create estoppel on its
part resulting in the acceptance of the trust. Precisely, as a notifying bank, its only obligation is to notify the
private respondent of the existence of the letter of credit. How then can such create estoppel when that is its
only duty under the law?

We also find erroneous the statement of the Court of Appeals that the petitioner "acted as a guarantor of the
issuing bank and in effect also of the latter's principal or client, i.e., Hans Axel Christiansen."

It is a fundamental rule that an irrevocable credit is independent not only of the contract between the buyer
and the seller but also of the credit agreement between the issuing bank and the buyer. (See Kingdom of
Sweden v. New York Trust Co., 96 N.Y.S. 2d 779 [1949]). The relationship between the buyer
(Christiansen) and the issuing bank (Security Pacific National Bank) is entirely independent from the letter
of credit issued by the latter.

The contract between the two has no bearing as to the non-compliance by the buyer with the agreement
between the latter and the seller. Their contract is similar to that of a contract of services (to open the letter
of credit) and not that of agency as was intimated by the Court of Appeals. The unjustified refusal therefore
by Christiansen to issue the certification under the letter of credit should not likewise be charged to the
issuing bank.

As a mere notifying bank, not only does the petitioner not have any contractual relationship with the buyer,
it has also nothing to do with the contract between the issuing bank and the buyer regarding the issuance of
the letter of credit.

The theory of guarantee relied upon by the Court of Appeals has to necessarily fail. The concept of
guarantee vis-a-vis the concept of an irrevocable credit are inconsistent with each other.

In the first place, the guarantee theory destroys the independence of the bank's responsibility from the
contract upon which it was opened. In the second place, the nature of both contracts is mutually in conflict
with each other. In contracts of guarantee, the guarantor's obligation is merely collateral and it arises only
upon the default of the person primarily liable. On the other hand, in an irrevocable credit the bank
undertakes a primary obligation. (See National Bank of Eagle Pass, Tex v. American National Bank of San
Francisco, 282 F. 73 [1922])

The relationship between the issuing bank and the notifying bank, on the contrary, is more similar to that of
an agency and not that of a guarantee. It may be observed that the notifying bank is merely to follow the
instructions of the issuing bank which is to notify or to transmit the letter of credit to the beneficiary. (See
Kronman v. Public National Bank of New York, supra). Its commitment is only to notify the beneficiary. It
does not undertake any assurance that the issuing bank will perform what has been mandated to or expected
of it. As an agent of the issuing bank, it has only to follow the instructions of the issuing bank and to it
alone is it obligated and not to buyer with whom it has no contractual relationship.

In fact the notifying bank, even if the seller tenders all the documents required under the letter of credit,
may refuse to negotiate or accept the drafts drawn thereunder and it will still not be held liable for its only
engagement is to notify and/or transmit to the seller the letter of credit.

Finally, even if we assume that the petitioner is a confirming bank, the petitioner cannot be forced to pay
the amount under the letter. As we have previously explained, there was a failure on the part of the private
respondent to comply with the terms of the letter of credit.

The failure by him to submit the certification was fatal to his case.1âwphi1 The U.C.P. which is
incorporated in the letter of credit ordains that the bank may only pay the amount specified under the letter
if all the documents tendered are on their face in compliance with the credit. It is not tasked with the duty
of ascertaining the reason or reasons why certain documents have not been submitted, as it is only
concerned with the documents. Thus, whether or not the buyer has performed his responsibility towards the
seller is not the bank's problem.

We are aware of the injustice committed by Christiansen on the private respondent but we are deciding the
controversy on the basis of what the law is, for the law is not meant to favor only those who have been
oppressed, the law is to govern future relations among people as well. Its commitment is to all and not to a
single individual. The faith of the people in our justice system may be eroded if we are to decide not what
the law states but what we believe it should declare. Dura lex sed lex.

Considering the foregoing, the materiality of ruling upon the validity of the certificate of approval required
of the private respondent to submit under the letter of credit, has become insignificant.

In any event, we affirm the earlier ruling of the Court of Appeals dated April 9, 1987 in regard to the
petition before it for certiorari and prohibition with preliminary injunction, to wit:

There is no merit in the respondent's contention that the certification required in condition No. 4 of
the letter of credit was "patently illegal." At the time the letter of credit was issued there was no
Central Bank regulation prohibiting such a condition in the letter of credit. The letter of credit
(Exh. C) was issued on June 7, 1971, more than two months before the issuance of the Central
Bank Memorandum on August 16, 1971 disallowing such a condition in a letter of credit. In fact
the letter of credit had already expired on July 30, 1971 when the Central Bank memorandum was
issued. In any event, it is difficult to see how such a condition could be categorized as illegal or
unreasonable since all that plaintiff Villaluz, as seller of the logs, could and should have done was
to refuse to load the logs on the vessel "Zenlin Glory", unless Christiansen first issued the required
certification that the logs had been approved by him to be in accordance with the terms and
conditions of his purchase order. Apparently, Villaluz was in too much haste to ship his logs
without taking all due precautions to assure that all the terms and conditions of the letter of credit
had been strictly complied with, so that there would be no hitch in its negotiation. (Rollo, p. 8)

WHEREFORE, the COURT RESOLVED to GRANT the petition and hereby NULLIFIES and SETS
ASIDE the decision of the Court of Appeals dated June 29, 1990. The amended complaint in Civil Case
No. 15121 is DISMISSED.

SO ORDERED.
TRANSFIELD PHILIPPINES, INC., petitioner, vs. LUZON HYDRO CORPORATION, AUSTRALIA
and NEW ZEALAND BANKING GROUP LIMITED and SECURITY BANK CORPORATION,
respondents.

DECISION

TINGA, J.:

Subject of this case is the letter of credit which has evolved as the ubiquitous and most important device in
international trade. A creation of commerce and businessmen, the letter of credit is also unique in the
number of parties involved and its supranational character.

Petitioner has appealed from the Decision[1] of the Court of Appeals in CA-G.R. SP No. 61901 entitled
Transfield Philippines, Inc. v. Hon. Oscar Pimentel, et al., promulgated on 31 January 2001.[2]

On 26 March 1997, petitioner and respondent Luzon Hydro Corporation (hereinafter, LHC) entered into a
Turnkey Contract[3] whereby petitioner, as Turnkey Contractor, undertook to construct, on a turnkey basis,
a seventy (70)-Megawatt hydro-electric power station at the Bakun River in the provinces of Benguet and
Ilocos Sur (hereinafter, the Project). Petitioner was given the sole responsibility for the design,
construction, commissioning, testing and completion of the Project.[4]

The Turnkey Contract provides that: (1) the target completion date of the Project shall be on 1 June 2000,
or such later date as may be agreed upon between petitioner and respondent LHC or otherwise determined
in accordance with the Turnkey Contract; and (2) petitioner is entitled to claim extensions of time (EOT)
for reasons enumerated in the Turnkey Contract, among which are variations, force majeure, and delays
caused by LHC itself.[5] Further, in case of dispute, the parties are bound to settle their differences through
mediation, conciliation and such other means enumerated under Clause 20.3 of the Turnkey Contract.[6]

To secure performance of petitioners obligation on or before the target completion date, or such time for
completion as may be determined by the parties agreement, petitioner opened in favor of LHC two (2)
standby letters of credit both dated 20 March 2000 (hereinafter referred to as the Securities), to wit:
Standby Letter of Credit No. E001126/8400 with the local branch of respondent Australia and New
Zealand Banking Group Limited (ANZ Bank)[7] and Standby Letter of Credit No. IBDIDSB-00/4 with
respondent Security Bank Corporation (SBC)[8] each in the amount of US$8,988,907.00.[9]

In the course of the construction of the project, petitioner sought various EOT to complete the Project. The
extensions were requested allegedly due to several factors which prevented the completion of the Project on
target date, such as force majeure occasioned by typhoon Zeb, barricades and demonstrations. LHC denied
the requests, however. This gave rise to a series of legal actions between the parties which culminated in
the instant petition.

The first of the actions was a Request for Arbitration which LHC filed before the Construction Industry
Arbitration Commission (CIAC) on 1 June 1999.[10] This was followed by another Request for
Arbitration, this time filed by petitioner before the International Chamber of Commerce (ICC)[11] on 3
November 2000. In both arbitration proceedings, the common issues presented were: [1) whether typhoon
Zeb and any of its associated events constituted force majeure to justify the extension of time sought by
petitioner; and [2) whether LHC had the right to terminate the Turnkey Contract for failure of petitioner to
complete the Project on target date.

Meanwhile, foreseeing that LHC would call on the Securities pursuant to the pertinent provisions of the
Turnkey Contract,[12] petitionerin two separate letters[13] both dated 10 August 2000advised respondent
banks of the arbitration proceedings already pending before the CIAC and ICC in connection with its
alleged default in the performance of its obligations. Asserting that LHC had no right to call on the
Securities until the resolution of disputes before the arbitral tribunals, petitioner warned respondent banks
that any transfer, release, or disposition of the Securities in favor of LHC or any person claiming under
LHC would constrain it to hold respondent banks liable for liquidated damages.

As petitioner had anticipated, on 27 June 2000, LHC sent notice to petitioner that pursuant to Clause
8.2[14] of the Turnkey Contract, it failed to comply with its obligation to complete the Project. Despite the
letters of petitioner, however, both banks informed petitioner that they would pay on the Securities if and
when LHC calls on them.[15]

LHC asserted that additional extension of time would not be warranted; accordingly it declared petitioner in
default/delay in the performance of its obligations under the Turnkey Contract and demanded from
petitioner the payment of US$75,000.00 for each day of delay beginning 28 June 2000 until actual
completion of the Project pursuant to Clause 8.7.1 of the Turnkey Contract. At the same time, LHC served
notice that it would call on the securities for the payment of liquidated damages for the delay.[16]

On 5 November 2000, petitioner as plaintiff filed a Complaint for Injunction, with prayer for temporary
restraining order and writ of preliminary injunction, against herein respondents as defendants before the
Regional Trial Court (RTC) of Makati.[17] Petitioner sought to restrain respondent LHC from calling on
the Securities and respondent banks from transferring, paying on, or in any manner disposing of the
Securities or any renewals or substitutes thereof. The RTC issued a seventy-two (72)-hour temporary
restraining order on the same day. The case was docketed as Civil Case No. 00-1312 and raffled to Branch
148 of the RTC of Makati.

After appropriate proceedings, the trial court issued an Order on 9 November 2000, extending the
temporary restraining order for a period of seventeen (17) days or until 26 November 2000.[18]

The RTC, in its Order[19] dated 24 November 2000, denied petitioners application for a writ of
preliminary injunction. It ruled that petitioner had no legal right and suffered no irreparable injury to justify
the issuance of the writ. Employing the principle of independent contract in letters of credit, the trial court
ruled that LHC should be allowed to draw on the Securities for liquidated damages. It debunked petitioners
contention that the principle of independent contract could be invoked only by respondent banks since
according to it respondent LHC is the ultimate beneficiary of the Securities. The trial court further ruled
that the banks were mere custodians of the funds and as such they were obligated to transfer the same to the
beneficiary for as long as the latter could submit the required certification of its claims.

Dissatisfied with the trial courts denial of its application for a writ of preliminary injunction, petitioner
elevated the case to the Court of Appeals via a Petition for Certiorari under Rule 65, with prayer for the
issuance of a temporary restraining order and writ of preliminary injunction.[20] Petitioner submitted to the
appellate court that LHCs call on the Securities was premature considering that the issue of its default had
not yet been resolved with finality by the CIAC and/or the ICC. It asserted that until the fact of delay could
be established, LHC had no right to draw on the Securities for liquidated damages.

Refuting petitioners contentions, LHC claimed that petitioner had no right to restrain its call on and use of
the Securities as payment for liquidated damages. It averred that the Securities are independent of the main
contract between them as shown on the face of the two Standby Letters of Credit which both provide that
the banks have no responsibility to investigate the authenticity or accuracy of the certificates or the
declarants capacity or entitlement to so certify.

In its Resolution dated 28 November 2000, the Court of Appeals issued a temporary restraining order,
enjoining LHC from calling on the Securities or any renewals or substitutes thereof and ordering
respondent banks to cease and desist from transferring, paying or in any manner disposing of the Securities.

However, the appellate court failed to act on the application for preliminary injunction until the temporary
restraining order expired on 27 January 2001. Immediately thereafter, representatives of LHC trooped to
ANZ Bank and withdrew the total amount of US$4,950,000.00, thereby reducing the balance in ANZ Bank
to US$1,852,814.00.

On 2 February 2001, the appellate court dismissed the petition for certiorari. The appellate court expressed
conformity with the trial courts decision that LHC could call on the Securities pursuant to the first principle
in credit law that the credit itself is independent of the underlying transaction and that as long as the
beneficiary complied with the credit, it was of no moment that he had not complied with the underlying
contract. Further, the appellate court held that even assuming that the trial courts denial of petitioners
application for a writ of preliminary injunction was erroneous, it constituted only an error of judgment
which is not correctible by certiorari, unlike error of jurisdiction.

Undaunted, petitioner filed the instant Petition for Review raising the following issues for resolution:

WHETHER THE INDEPENDENCE PRINCIPLE ON LETTERS OF CREDIT MAY BE INVOKED BY


A BENEFICIARY THEREOF WHERE THE BENEFICIARYS CALL THEREON IS WRONGFUL OR
FRAUDULENT.

WHETHER LHC HAS THE RIGHT TO CALL AND DRAW ON THE SECURITIES BEFORE THE
RESOLUTION OF PETITIONERS AND LHCS DISPUTES BY THE APPROPRIATE TRIBUNAL.

WHETHER ANZ BANK AND SECURITY BANK ARE JUSTIFIED IN RELEASING THE AMOUNTS
DUE UNDER THE SECURITIES DESPITE BEING NOTIFIED THAT LHCS CALL THEREON IS
WRONGFUL.

WHETHER OR NOT PETITIONER WILL SUFFER GRAVE AND IRREPARABLE DAMAGE IN THE
EVENT THAT:

A. LHC IS ALLOWED TO CALL AND DRAW ON, AND ANZ BANK AND SECURITY
BANK ARE ALLOWED TO RELEASE, THE REMAINING BALANCE OF THE
SECURITIES PRIOR TO THE RESOLUTION OF THE DISPUTES BETWEEN
PETITIONER AND LHC.

B. LHC DOES NOT RETURN THE AMOUNTS IT HAD WRONGFULLY DRAWN


FROM THE SECURITIES.[21]

Petitioner contends that the courts below improperly relied on the independence principle on letters of
credit when this case falls squarely within the fraud exception rule. Respondent LHC deliberately
misrepresented the supposed existence of delay despite its knowledge that the issue was still pending
arbitration, petitioner continues.

Petitioner asserts that LHC should be ordered to return the proceeds of the Securities pursuant to the
principle against unjust enrichment and that, under the premises, injunction was the appropriate remedy
obtainable from the competent local courts.

On 25 August 2003, petitioner filed a Supplement to the Petition[22] and Supplemental Memorandum,[23]
alleging that in the course of the proceedings in the ICC Arbitration, a number of documentary and
testimonial evidence came out through the use of different modes of discovery available in the ICC
Arbitration. It contends that after the filing of the petition facts and admissions were discovered which
demonstrate that LHC knowingly misrepresented that petitioner had incurred delays notwithstanding its
knowledge and admission that delays were excused under the Turnkey Contractto be able to draw against
the Securities. Reiterating that fraud constitutes an exception to the independence principle, petitioner urges
that this warrants a ruling from this Court that the call on the Securities was wrongful, as well as contrary to
law and basic principles of equity. It avers that it would suffer grave irreparable damage if LHC would be
allowed to use the proceeds of the Securities and not ordered to return the amounts it had wrongfully drawn
thereon.

In its Manifestation dated 8 September 2003,[24] LHC contends that the supplemental pleadings filed by
petitioner present erroneous and misleading information which would change petitioners theory on appeal.

In yet another Manifestation dated 12 April 2004,[25] petitioner alleges that on 18 February 2004, the ICC
handed down its Third Partial Award, declaring that LHC wrongfully drew upon the Securities and that
petitioner was entitled to the return of the sums wrongfully taken by LHC for liquidated damages.

LHC filed a Counter-Manifestation dated 29 June 2004,[26] stating that petitioners Manifestation dated 12
April 2004 enlarges the scope of its Petition for Review of the 31 January 2001 Decision of the Court of
Appeals. LHC notes that the Petition for Review essentially dealt only with the issue of whether injunction
could issue to restrain the beneficiary of an irrevocable letter of credit from drawing thereon. It adds that
petitioner has filed two other proceedings, to wit: (1) ICC Case No. 11264/TE/MW, entitled Transfield
Philippines Inc. v. Luzon Hydro Corporation, in which the parties made claims and counterclaims arising
from petitioners performance/misperformance of its obligations as contractor for LHC; and (2) Civil Case
No. 04-332, entitled Transfield Philippines, Inc. v. Luzon Hydro Corporation before Branch 56 of the RTC
of Makati, which is an action to enforce and obtain execution of the ICCs partial award mentioned in
petitioners Manifestation of 12 April 2004.

In its Comment to petitioners Motion for Leave to File Addendum to Petitioners Memorandum, LHC
stresses that the question of whether the funds it drew on the subject letters of credit should be returned is
outside the issue in this appeal. At any rate, LHC adds that the action to enforce the ICCs partial award is
now fully within the Makati RTCs jurisdiction in Civil Case No. 04-332. LHC asserts that petitioner is
engaged in forum-shopping by keeping this appeal and at the same time seeking the suit for enforcement of
the arbitral award before the Makati court.

Respondent SBC in its Memorandum, dated 10 March 2003[27] contends that the Court of Appeals
correctly dismissed the petition for certiorari. Invoking the independence principle, SBC argues that it was
under no obligation to look into the validity or accuracy of the certification submitted by respondent LHC
or into the latters capacity or entitlement to so certify. It adds that the act sought to be enjoined by
petitioner was already fait accompli and the present petition would no longer serve any remedial purpose.

In a similar fashion, respondent ANZ Bank in its Memorandum dated 13 March 2003[28] posits that its
actions could not be regarded as unjustified in view of the prevailing independence principle under which it
had no obligation to ascertain the truth of LHCs allegations that petitioner defaulted in its obligations.
Moreover, it points out that since the Standby Letter of Credit No. E001126/8400 had been fully drawn,
petitioners prayer for preliminary injunction had been rendered moot and academic.

At the core of the present controversy is the applicability of the independence principle and fraud exception
rule in letters of credit. Thus, a discussion of the nature and use of letters of credit, also referred to simply
as credits, would provide a better perspective of the case.

The letter of credit evolved as a mercantile specialty, and the only way to understand all its facets is to
recognize that it is an entity unto itself. The relationship between the beneficiary and the issuer of a letter of
credit is not strictly contractual, because both privity and a meeting of the minds are lacking, yet strict
compliance with its terms is an enforceable right. Nor is it a third-party beneficiary contract, because the
issuer must honor drafts drawn against a letter regardless of problems subsequently arising in the
underlying contract. Since the banks customer cannot draw on the letter, it does not function as an
assignment by the customer to the beneficiary. Nor, if properly used, is it a contract of suretyship or
guarantee, because it entails a primary liability following a default. Finally, it is not in itself a negotiable
instrument, because it is not payable to order or bearer and is generally conditional, yet the draft presented
under it is often negotiable.[29]
In commercial transactions, a letter of credit is a financial device developed by merchants as a convenient
and relatively safe mode of dealing with sales of goods to satisfy the seemingly irreconcilable interests of a
seller, who refuses to part with his goods before he is paid, and a buyer, who wants to have control of the
goods before paying.[30] The use of credits in commercial transactions serves to reduce the risk of
nonpayment of the purchase price under the contract for the sale of goods. However, credits are also used
in non-sale settings where they serve to reduce the risk of nonperformance. Generally, credits in the non-
sale settings have come to be known as standby credits.[31]

There are three significant differences between commercial and standby credits. First, commercial credits
involve the payment of money under a contract of sale. Such credits become payable upon the presentation
by the seller-beneficiary of documents that show he has taken affirmative steps to comply with the sales
agreement. In the standby type, the credit is payable upon certification of a party's nonperformance of the
agreement. The documents that accompany the beneficiary's draft tend to show that the applicant has not
performed. The beneficiary of a commercial credit must demonstrate by documents that he has performed
his contract. The beneficiary of the standby credit must certify that his obligor has not performed the
contract.[32]

By definition, a letter of credit is a written instrument whereby the writer requests or authorizes the
addressee to pay money or deliver goods to a third person and assumes responsibility for payment of debt
therefor to the addressee.[33] A letter of credit, however, changes its nature as different transactions occur
and if carried through to completion ends up as a binding contract between the issuing and honoring banks
without any regard or relation to the underlying contract or disputes between the parties thereto.[34]

Since letters of credit have gained general acceptability in international trade transactions, the ICC has
published from time to time updates on the Uniform Customs and Practice (UCP) for Documentary Credits
to standardize practices in the letter of credit area. The vast majority of letters of credit incorporate the
UCP.[35] First published in 1933, the UCP for Documentary Credits has undergone several revisions, the
latest of which was in 1993.[36]

In Bank of the Philippine Islands v. De Reny Fabric Industries, Inc.,[37] this Court ruled that the
observance of the UCP is justified by Article 2 of the Code of Commerce which provides that in the
absence of any particular provision in the Code of Commerce, commercial transactions shall be governed
by usages and customs generally observed. More recently, in Bank of America, NT & SA v. Court of
Appeals,[38] this Court ruled that there being no specific provisions which govern the legal complexities
arising from transactions involving letters of credit, not only between or among banks themselves but also
between banks and the seller or the buyer, as the case may be, the applicability of the UCP is undeniable.

Article 3 of the UCP provides that credits, by their nature, are separate transactions from the sales or other
contract(s) on which they may be based and banks are in no way concerned with or bound by such
contract(s), even if any reference whatsoever to such contract(s) is included in the credit. Consequently, the
undertaking of a bank to pay, accept and pay draft(s) or negotiate and/or fulfill any other obligation under
the credit is not subject to claims or defenses by the applicant resulting from his relationships with the
issuing bank or the beneficiary. A beneficiary can in no case avail himself of the contractual relationships
existing between the banks or between the applicant and the issuing bank.

Thus, the engagement of the issuing bank is to pay the seller or beneficiary of the credit once the draft and
the required documents are presented to it. The so-called independence principle assures the seller or the
beneficiary of prompt payment independent of any breach of the main contract and precludes the issuing
bank from determining whether the main contract is actually accomplished or not. Under this principle,
banks assume no liability or responsibility for the form, sufficiency, accuracy, genuineness, falsification or
legal effect of any documents, or for the general and/or particular conditions stipulated in the documents or
superimposed thereon, nor do they assume any liability or responsibility for the description, quantity,
weight, quality, condition, packing, delivery, value or existence of the goods represented by any
documents, or for the good faith or acts and/or omissions, solvency, performance or standing of the
consignor, the carriers, or the insurers of the goods, or any other person whomsoever.[39]
The independent nature of the letter of credit may be: (a) independence in toto where the credit is
independent from the justification aspect and is a separate obligation from the underlying agreement like
for instance a typical standby; or (b) independence may be only as to the justification aspect like in a
commercial letter of credit or repayment standby, which is identical with the same obligations under the
underlying agreement. In both cases the payment may be enjoined if in the light of the purpose of the credit
the payment of the credit would constitute fraudulent abuse of the credit.[40]

Can the beneficiary invoke the independence principle?

Petitioner insists that the independence principle does not apply to the instant case and assuming it is so, it
is a defense available only to respondent banks. LHC, on the other hand, contends that it would be contrary
to common sense to deny the benefit of an independent contract to the very party for whom the benefit is
intended. As beneficiary of the letter of credit, LHC asserts it is entitled to invoke the principle.

As discussed above, in a letter of credit transaction, such as in this case, where the credit is stipulated as
irrevocable, there is a definite undertaking by the issuing bank to pay the beneficiary provided that the
stipulated documents are presented and the conditions of the credit are complied with.[41] Precisely, the
independence principle liberates the issuing bank from the duty of ascertaining compliance by the parties in
the main contract. As the principles nomenclature clearly suggests, the obligation under the letter of credit
is independent of the related and originating contract. In brief, the letter of credit is separate and distinct
from the underlying transaction.

Given the nature of letters of credit, petitioners argumentthat it is only the issuing bank that may invoke the
independence principle on letters of creditdoes not impress this Court. To say that the independence
principle may only be invoked by the issuing banks would render nugatory the purpose for which the letters
of credit are used in commercial transactions. As it is, the independence doctrine works to the benefit of
both the issuing bank and the beneficiary.

Letters of credit are employed by the parties desiring to enter into commercial transactions, not for the
benefit of the issuing bank but mainly for the benefit of the parties to the original transactions. With the
letter of credit from the issuing bank, the party who applied for and obtained it may confidently present the
letter of credit to the beneficiary as a security to convince the beneficiary to enter into the business
transaction. On the other hand, the other party to the business transaction, i.e., the beneficiary of the letter
of credit, can be rest assured of being empowered to call on the letter of credit as a security in case the
commercial transaction does not push through, or the applicant fails to perform his part of the transaction. It
is for this reason that the party who is entitled to the proceeds of the letter of credit is appropriately called
beneficiary.

Petitioners argument that any dispute must first be resolved by the parties, whether through negotiations or
arbitration, before the beneficiary is entitled to call on the letter of credit in essence would convert the letter
of credit into a mere guarantee. Jurisprudence has laid down a clear distinction between a letter of credit
and a guarantee in that the settlement of a dispute between the parties is not a pre-requisite for the release
of funds under a letter of credit. In other words, the argument is incompatible with the very nature of the
letter of credit. If a letter of credit is drawable only after settlement of the dispute on the contract entered
into by the applicant and the beneficiary, there would be no practical and beneficial use for letters of credit
in commercial transactions.

Professor John F. Dolan, the noted authority on letters of credit, sheds more light on the issue:

The standby credit is an attractive commercial device for many of the same reasons that commercial credits
are attractive. Essentially, these credits are inexpensive and efficient. Often they replace surety contracts,
which tend to generate higher costs than credits do and are usually triggered by a factual determination
rather than by the examination of documents.
Because parties and courts should not confuse the different functions of the surety contract on the one hand
and the standby credit on the other, the distinction between surety contracts and credits merits some
reflection. The two commercial devices share a common purpose. Both ensure against the obligors
nonperformance. They function, however, in distinctly different ways.

Traditionally, upon the obligors default, the surety undertakes to complete the obligors performance,
usually by hiring someone to complete that performance. Surety contracts, then, often involve costs of
determining whether the obligor defaulted (a matter over which the surety and the beneficiary often litigate)
plus the cost of performance. The benefit of the surety contract to the beneficiary is obvious. He knows that
the surety, often an insurance company, is a strong financial institution that will perform if the obligor does
not. The beneficiary also should understand that such performance must await the sometimes lengthy and
costly determination that the obligor has defaulted. In addition, the suretys performance takes time.

The standby credit has different expectations. He reasonably expects that he will receive cash in the event
of nonperformance, that he will receive it promptly, and that he will receive it before any litigation with the
obligor (the applicant) over the nature of the applicants performance takes place. The standby credit has
this opposite effect of the surety contract: it reverses the financial burden of parties during litigation.

In the surety contract setting, there is no duty to indemnify the beneficiary until the beneficiary establishes
the fact of the obligors performance. The beneficiary may have to establish that fact in litigation. During
the litigation, the surety holds the money and the beneficiary bears most of the cost of delay in
performance.

In the standby credit case, however, the beneficiary avoids that litigation burden and receives his money
promptly upon presentation of the required documents. It may be that the applicant has, in fact, performed
and that the beneficiarys presentation of those documents is not rightful. In that case, the applicant may sue
the beneficiary in tort, in contract, or in breach of warranty; but, during the litigation to determine whether
the applicant has in fact breached the obligation to perform, the beneficiary, not the applicant, holds the
money. Parties that use a standby credit and courts construing such a credit should understand this
allocation of burdens. There is a tendency in some quarters to overlook this distinction between surety
contracts and standby credits and to reallocate burdens by permitting the obligor or the issuer to litigate the
performance question before payment to the beneficiary.[42]

While it is the bank which is bound to honor the credit, it is the beneficiary who has the right to ask the
bank to honor the credit by allowing him to draw thereon. The situation itself emasculates petitioners
posture that LHC cannot invoke the independence principle and highlights its puerility, more so in this case
where the banks concerned were impleaded as parties by petitioner itself.

Respondent banks had squarely raised the independence principle to justify their releases of the amounts
due under the Securities. Owing to the nature and purpose of the standby letters of credit, this Court rules
that the respondent banks were left with little or no alternative but to honor the credit and both of them in
fact submitted that it was ministerial for them to honor the call for payment.[43]

Furthermore, LHC has a right rooted in the Contract to call on the Securities. The relevant provisions of the
Contract read, thus:

4.2.1. In order to secure the performance of its obligations under this Contract, the Contractor at its cost
shall on the Commencement Date provide security to the Employer in the form of two irrevocable and
confirmed standby letters of credit (the Securities), each in the amount of US$8,988,907, issued and
confirmed by banks or financial institutions acceptable to the Employer. Each of the Securities must be in
form and substance acceptable to the Employer and may be provided on an annually renewable basis.[44]

8.7.1 If the Contractor fails to comply with Clause 8.2, the Contractor shall pay to the Employer by way of
liquidated damages (Liquidated Damages for Delay) the amount of US$75,000 for each and every day or
part of a day that shall elapse between the Target Completion Date and the Completion Date, provided that
Liquidated Damages for Delay payable by the Contractor shall in the aggregate not exceed 20% of the
Contract Price. The Contractor shall pay Liquidated Damages for Delay for each day of the delay on the
following day without need of demand from the Employer.

8.7.2 The Employer may, without prejudice to any other method of recovery, deduct the amount of such
damages from any monies due, or to become due to the Contractor and/or by drawing on the Security.[45]

A contract once perfected, binds the parties not only to the fulfillment of what has been expressly stipulated
but also to all the consequences which according to their nature, may be in keeping with good faith, usage,
and law.[46] A careful perusal of the Turnkey Contract reveals the intention of the parties to make the
Securities answerable for the liquidated damages occasioned by any delay on the part of petitioner. The call
upon the Securities, while not an exclusive remedy on the part of LHC, is certainly an alternative recourse
available to it upon the happening of the contingency for which the Securities have been proffered. Thus,
even without the use of the independence principle, the Turnkey Contract itself bestows upon LHC the
right to call on the Securities in the event of default.

Next, petitioner invokes the fraud exception principle. It avers that LHCs call on the Securities is wrongful
because it fraudulently misrepresented to ANZ Bank and SBC that there is already a breach in the Turnkey
Contract knowing fully well that this is yet to be determined by the arbitral tribunals. It asserts that the
fraud exception exists when the beneficiary, for the purpose of drawing on the credit, fraudulently presents
to the confirming bank, documents that contain, expressly or by implication, material representations of
fact that to his knowledge are untrue. In such a situation, petitioner insists, injunction is recognized as a
remedy available to it.

Citing Dolans treatise on letters of credit, petitioner argues that the independence principle is not without
limits and it is important to fashion those limits in light of the principles purpose, which is to serve the
commercial function of the credit. If it does not serve those functions, application of the principle is not
warranted, and the commonlaw principles of contract should apply.

It is worthy of note that the propriety of LHCs call on the Securities is largely intertwined with the fact of
default which is the self-same issue pending resolution before the arbitral tribunals. To be able to declare
the call on the Securities wrongful or fraudulent, it is imperative to resolve, among others, whether
petitioner was in fact guilty of delay in the performance of its obligation. Unfortunately for petitioner, this
Court is not called upon to rule upon the issue of defaultsuch issue having been submitted by the parties to
the jurisdiction of the arbitral tribunals pursuant to the terms embodied in their agreement.[47]

Would injunction then be the proper remedy to restrain the alleged wrongful draws on the Securities?

Most writers agree that fraud is an exception to the independence principle. Professor Dolan opines that the
untruthfulness of a certificate accompanying a demand for payment under a standby credit may qualify as
fraud sufficient to support an injunction against payment.[48] The remedy for fraudulent abuse is an
injunction. However, injunction should not be granted unless: (a) there is clear proof of fraud; (b) the fraud
constitutes fraudulent abuse of the independent purpose of the letter of credit and not only fraud under the
main agreement; and (c) irreparable injury might follow if injunction is not granted or the recovery of
damages would be seriously damaged.[49]

In its complaint for injunction before the trial court, petitioner alleged that it is entitled to a total extension
of two hundred fifty-three (253) days which would move the target completion date. It argued that if its
claims for extension would be found meritorious by the ICC, then LHC would not be entitled to any
liquidated damages.[50]

Generally, injunction is a preservative remedy for the protection of ones substantive right or interest; it is
not a cause of action in itself but merely a provisional remedy, an adjunct to a main suit. The issuance of
the writ of preliminary injunction as an ancillary or preventive remedy to secure the rights of a party in a
pending case is entirely within the discretion of the court taking cognizance of the case, the only limitation
being that this discretion should be exercised based upon the grounds and in the manner provided by
law.[51]

Before a writ of preliminary injunction may be issued, there must be a clear showing by the complaint that
there exists a right to be protected and that the acts against which the writ is to be directed are violative of
the said right.[52] It must be shown that the invasion of the right sought to be protected is material and
substantial, that the right of complainant is clear and unmistakable and that there is an urgent and
paramount necessity for the writ to prevent serious damage.[53] Moreover, an injunctive remedy may only
be resorted to when there is a pressing necessity to avoid injurious consequences which cannot be remedied
under any standard compensation.[54]

In the instant case, petitioner failed to show that it has a clear and unmistakable right to restrain LHCs call
on the Securities which would justify the issuance of preliminary injunction. By petitioners own admission,
the right of LHC to call on the Securities was contractually rooted and subject to the express stipulations in
the Turnkey Contract.[55] Indeed, the Turnkey Contract is plain and unequivocal in that it conferred upon
LHC the right to draw upon the Securities in case of default, as provided in Clause 4.2.5, in relation to
Clause 8.7.2, thus:

4.2.5 The Employer shall give the Contractor seven days notice of calling upon any of the Securities,
stating the nature of the default for which the claim on any of the Securities is to be made, provided that no
notice will be required if the Employer calls upon any of the Securities for the payment of Liquidated
Damages for Delay or for failure by the Contractor to renew or extend the Securities within 14 days of their
expiration in accordance with Clause 4.2.2.[56]

8.7.2 The Employer may, without prejudice to any other method of recovery, deduct the amount of such
damages from any monies due, or to become due, to the Contractor and/or by drawing on the Security.[57]

The pendency of the arbitration proceedings would not per se make LHCs draws on the Securities wrongful
or fraudulent for there was nothing in the Contract which would indicate that the parties intended that all
disputes regarding delay should first be settled through arbitration before LHC would be allowed to call
upon the Securities. It is therefore premature and absurd to conclude that the draws on the Securities were
outright fraudulent given the fact that the ICC and CIAC have not ruled with finality on the existence of
default.

Nowhere in its complaint before the trial court or in its pleadings filed before the appellate court, did
petitioner invoke the fraud exception rule as a ground to justify the issuance of an injunction.[58] What
petitioner did assert before the courts below was the fact that LHCs draws on the Securities would be
premature and without basis in view of the pending disputes between them. Petitioner should not be
allowed in this instance to bring into play the fraud exception rule to sustain its claim for the issuance of an
injunctive relief. Matters, theories or arguments not brought out in the proceedings below will ordinarily
not be considered by a reviewing court as they cannot be raised for the first time on appeal.[59] The lower
courts could thus not be faulted for not applying the fraud exception rule not only because the existence of
fraud was fundamentally interwoven with the issue of default still pending before the arbitral tribunals, but
more so, because petitioner never raised it as an issue in its pleadings filed in the courts below. At any rate,
petitioner utterly failed to show that it had a clear and unmistakable right to prevent LHCs call upon the
Securities.

Of course, prudence should have impelled LHC to await resolution of the pending issues before the arbitral
tribunals prior to taking action to enforce the Securities. But, as earlier stated, the Turnkey Contract did not
require LHC to do so and, therefore, it was merely enforcing its rights in accordance with the tenor thereof.
Obligations arising from contracts have the force of law between the contracting parties and should be
complied with in good faith.[60] More importantly, pursuant to the principle of autonomy of contracts
embodied in Article 1306 of the Civil Code,[61] petitioner could have incorporated in its Contract with
LHC, a proviso that only the final determination by the arbitral tribunals that default had occurred would
justify the enforcement of the Securities. However, the fact is petitioner did not do so; hence, it would have
to live with its inaction.

With respect to the issue of whether the respondent banks were justified in releasing the amounts due under
the Securities, this Court reiterates that pursuant to the independence principle the banks were under no
obligation to determine the veracity of LHCs certification that default has occurred. Neither were they
bound by petitioners declaration that LHCs call thereon was wrongful. To repeat, respondent banks
undertaking was simply to pay once the required documents are presented by the beneficiary.

At any rate, should petitioner finally prove in the pending arbitration proceedings that LHCs draws upon
the Securities were wrongful due to the non-existence of the fact of default, its right to seek indemnification
for damages it suffered would not normally be foreclosed pursuant to general principles of law.

Moreover, in a Manifestation,[62] dated 30 March 2001, LHC informed this Court that the subject letters of
credit had been fully drawn. This fact alone would have been sufficient reason to dismiss the instant
petition.

Settled is the rule that injunction would not lie where the acts sought to be enjoined have already become
fait accompli or an accomplished or consummated act.[63] In Ticzon v. Video Post Manila, Inc.[64] this
Court ruled that where the period within which the former employees were prohibited from engaging in or
working for an enterprise that competed with their former employerthe very purpose of the preliminary
injunction has expired, any declaration upholding the propriety of the writ would be entirely useless as
there would be no actual case or controversy between the parties insofar as the preliminary injunction is
concerned.

In the instant case, the consummation of the act sought to be restrained had rendered the instant petition
mootfor any declaration by this Court as to propriety or impropriety of the non-issuance of injunctive relief
could have no practical effect on the existing controversy.[65] The other issues raised by petitioner
particularly with respect to its right to recover the amounts wrongfully drawn on the Securities, according
to it, could properly be threshed out in a separate proceeding.

One final point. LHC has charged petitioner of forum-shopping. It raised the charge on two occasions.
First, in its Counter-Manifestation dated 29 June 2004[66] LHC alleges that petitioner presented before this
Court the same claim for money which it has filed in two other proceedings, to wit: ICC Case No.
11264/TE/MW and Civil Case No. 04-332 before the RTC of Makati. LHC argues that petitioners acts
constitutes forum-shopping which should be punished by the dismissal of the claim in both forums. Second,
in its Comment to Petitioners Motion for Leave to File Addendum to Petitioners Memorandum dated 8
October 2004, LHC alleges that by maintaining the present appeal and at the same time pursuing Civil Case
No. 04-332wherein petitioner pressed for judgment on the issue of whether the funds LHC drew on the
Securities should be returnedpetitioner resorted to forum-shopping. In both instances, however, petitioner
has apparently opted not to respond to the charge.

Forum-shopping is a very serious charge. It exists when a party repetitively avails of several judicial
remedies in different courts, simultaneously or successively, all substantially founded on the same
transactions and the same essential facts and circumstances, and all raising substantially the same issues
either pending in, or already resolved adversely, by some other court.[67] It may also consist in the act of a
party against whom an adverse judgment has been rendered in one forum, of seeking another and possibly
favorable opinion in another forum other than by appeal or special civil action of certiorari, or the
institution of two or more actions or proceedings grounded on the same cause on the supposition that one or
the other court might look with favor upon the other party.[68] To determine whether a party violated the
rule against forum-shopping, the test applied is whether the elements of litis pendentia are present or
whether a final judgment in one case will amount to res judicata in another.[69] Forum-shopping
constitutes improper conduct and may be punished with summary dismissal of the multiple petitions and
direct contempt of court.[70]

Considering the seriousness of the charge of forum-shopping and the severity of the sanctions for its
violation, the Court will refrain from making any definitive ruling on this issue until after petitioner has
been given ample opportunity to respond to the charge.

WHEREFORE, the instant petition is DENIED, with costs against petitioner.


METROPOLITAN WATERWORKS AND SEWERAGE SYSTEM, petitioner, vs. HON. REYNALDO B.
DAWAY, IN HIS CAPACITY AS PRESIDING JUDGE OF THE REGIONAL TRIAL COURT OF
QUEZON CITY, BRANCH 90 AND MAYNILAD WATER SERVICES, INC., respondents.

DECISION

AZCUNA, J.:

On November 17, 2003, the Regional Trial Court (RTC) of Quezon City, Branch 90, made a determination
that the Petition for Rehabilitation with Prayer for Suspension of Actions and Proceedings filed by
Maynilad Water Services, Inc. (Maynilad) conformed substantially to the provisions of Sec. 2, Rule 4 of
the Interim Rules of Procedure on Corporate Rehabilitation (Interim Rules). It forthwith issued a Stay
Order1[1] which states, in part, that the court was thereby:

xxx xxx xxx

2. Staying enforcement of all claims, whether for money or otherwise and whether such enforcement is by
court action or otherwise, against the petitioner, its guarantors and sureties not solidarily liable with the
petitioner;

3. Prohibiting the petitioner from selling, encumbering, transferring, or disposing in any manner any of its
properties except in the ordinary course of business;

4. Prohibiting the petitioner from making any payment of its liabilities, outstanding as at the date of the
filing of the petition;

xxx xxx xxx

Subsequently, on November 27, 2003, public respondent, acting on two Urgent Ex Parte motions2[2] filed
by respondent Maynilad, issued the herein questioned Order3[3] which stated that it thereby:

1. DECLARES that the act of MWSS in commencing on November 24, 2003 the process for the
payment by the banks of US$98 million out of the US$120 million standby letter of credit so the banks
have to make good such call/drawing of payment of US$98 million by MWSS not later than November 27,
2003 at 10:00 P. M. or any similar act for that matter, is violative of the above-quoted sub-paragraph 2.) of
the dispositive portion of this Courts Stay Order dated November 17, 2003.

2. ORDERS MWSS through its officers/officials to withdraw under pain of contempt the written
certification/notice of draw to Citicorp International Limited dated November 24, 2003 and DECLARES
void any payment by the banks to MWSS in the event such written certification/notice of draw is not
withdrawn by MWSS and/or MWSS receives payment by virtue of the aforesaid standby letter of credit.

Aggrieved by this Order, petitioner Manila Waterworks & Sewerage System (MWSS) filed this petition for
review by way of certiorari under Rule 65 of the Rules of Court questioning the legality of said order as
having been issued without or in excess of the lower courts jurisdiction or that the court a quo acted with
grave abuse of discretion amounting to lack or excess of jurisdiction.4[4]

ANTECEDENTS OF THE CASE

On February 21, 1997, MWSS granted Maynilad under a Concession Agreement a twenty-year period to
manage, operate, repair, decommission and refurbish the existing MWSS water delivery and sewerage
services in the West Zone Service Area, for which Maynilad undertook to pay the corresponding
concession fees on the dates agreed upon in said agreement5[5] which, among other things, consisted of
payments of petitioners mostly foreign loans.

To secure the concessionaires performance of its obligations under the Concession Agreement, Maynilad
was required under Section 6.9 of said contract to put up a bond, bank guarantee or other security
acceptable to MWSS.

In compliance with this requirement, Maynilad arranged on July 14, 2000 for a three-year facility with a
number of foreign banks, led by Citicorp International Limited, for the issuance of an Irrevocable Standby
Letter of Credit6[6] in the amount of US$120,000,000 in favor of MWSS for the full and prompt
performance of Maynilads obligations to MWSS as aforestated.

Sometime in September 2000, respondent Maynilad requested MWSS for a mechanism by which it hoped
to recover the losses it had allegedly incurred and would be incurring as a result of the depreciation of the
Philippine Peso against the US Dollar. Failing to get what it desired, Maynilad issued a Force Majeure
Notice on March 8, 2001 and unilaterally suspended the payment of the concession fees. In an effort to
salvage the Concession Agreement, the parties entered into a Memorandum of Agreement (MOA)7[7] on
June 8, 2001 wherein Maynilad was allowed to recover foreign exchange losses under a formula agreed
upon between them. Sometime in August 2001 Maynilad again filed another Force Majeure Notice and,
since MWSS could not agree with the terms of said Notice, the matter was referred on August 30, 2001 to
the Appeals Panel for arbitration. This resulted in the parties agreeing to resolve the issues through an
amendment of the Concession Agreement on October 5, 2001, known as Amendment No. 1,8[8] which was
based on the terms set down in MWSS Board of Trustees Resolution No. 457-2001, as amended by MWSS
Board of Trustees Resolution No. 487-2001,9[9] which provided inter alia for a formula that would allow
Maynilad to recover foreign exchange losses it had incurred or would incur under the terms of the
Concession Agreement.

As part of this agreement, Maynilad committed, among other things, to:

a) infuse the amount of UD$80.0 million as additional funding support from its stockholders;
b) resume payment of the concession fees; and

c) mutually seek the dismissal of the cases pending before the Court of Appeals and with Minor Dispute
Appeals Panel.

However, on November 5, 2002, Maynilad served upon MWSS a Notice of Event of Termination, claiming
that MWSS failed to comply with its obligations under the Concession Agreement and Amendment No. 1
regarding the adjustment mechanism that would cover Maynilads foreign exchange losses. On December 9,
2002, Maynilad filed a Notice of Early Termination of the concession, which was challenged by MWSS.
This matter was eventually brought before the Appeals Panel on January 7, 2003 by MWSS.10[10] On
November 7, 2003, the Appeals Panel ruled that there was no Event of Termination as defined under Art.
10.2 (ii) or 10.3 (iii) of the Concession Agreement and that, therefore, Maynilad should pay the concession
fees that had fallen due.

The award of the Appeals Panel became final on November 22, 2003. MWSS, thereafter, submitted a
written notice11[11] on November 24, 2003, to Citicorp International Limited, as agent for the participating
banks, that by virtue of Maynilads failure to perform its obligations under the Concession Agreement, it
was drawing on the Irrevocable Standby Letter of Credit and thereby demanded payment in the amount of
US$98,923,640.15.

Prior to this, however, Maynilad had filed on November 13, 2003, a petition for rehabilitation before the
court a quo which resulted in the issuance of the Stay Order of November 17, 2003 and the disputed Order
of November 27, 2003.12[12]

PETITIONERS CASE

Petitioner hereby raises the following issues:

1. DID THE HONORABLE PRESIDING JUDGE GRAVELY ERR AND/OR ACT PATENTLY
WITHOUT JURISDICTION OR IN EXCESS OF JURISDICTION OR WITH GRAVE ABUSE OF
DISCRETION AMOUNTING TO LACK OR EXCESS OF JURISDICTION IN CONSIDERING THE
PERFORMANCE BOND OR ASSETS OF THE ISSUING BANKS AS PART OR PROPERTY OF THE
ESTATE OF THE PRIVATE RESPONDENT MAYNILAD SUBJECT TO REHABILITATION.

2. DID THE HONORABLE PRESIDING JUDGE ACT WITH LACK OR EXCESS OF JURISDICTION
OR COMMIT A GRAVE ERROR OF LAW IN HOLDING THAT THE PERFORMANCE BOND
OBLIGATIONS OF THE BANKS WERE NOT SOLIDARY IN NATURE.

3. DID THE HONORABLE PRESIDING JUDGE GRAVELY ERR IN ALLOWING MAYNILAD TO IN


EFFECT SEEK A REVIEW OR APPEAL OF THE FINAL AND BINDING DECISION OF THE
APPEALS PANEL.

In support of the first issue, petitioner maintains that as a matter of law, the US$120 Million Standby Letter
of Credit and Performance Bond are not property of the estate of the debtor Maynilad and, therefore, not
subject to the in rem rehabilitation jurisdiction of the trial court.
Petitioner argues that a call made on the Standby Letter of Credit does not involve any asset of Maynilad
but only assets of the banks. Furthermore, a call on the Standby Letter of Credit cannot also be considered a
claim falling under the purview of the stay order as alleged by respondent as it is not directed against the
assets of respondent Maynilad.

Petitioner concludes that the public respondent erred in declaring and holding that the commencement of
the process for the payment of US$98 million is a violation of the order issued on November 17, 2003.

RESPONDENT MAYNILADS CASE

Respondent Maynilad seeks to refute this argument by alleging that:

a) the order objected to was strictly and precisely worded and issued after carefully
considering/evaluating the import of the arguments and documents referred to by Maynilad, MWSS and/or
creditors Chinatrust Commercial Bank and Suez in relation to admissions, pleadings and/or pertinent
records13[13] and that public respondent had the authority to issue the same;

b) public respondent never considered nor held that the Performance bond or assets of the issuing
banks are part or property of the estate of respondent Maynilad subject to rehabilitation and which
respondent Maynilad has not and has never claimed to be;14[14]

c) what is relevant is not whether the performance bond or assets of the issuing banks are part of the
estate of respondent Maynilad but whether the act of petitioner in commencing the process for the payment
by the banks of US$98 million out of the US$120 million performance bond is covered and/or prohibited
under sub-paragraphs 2.) and 4.) of the stay order dated November 17, 2003;

d) the jurisdiction of public respondent extends not only to the assets of respondent Maynilad but
also over persons and assets of all those affected by the proceedings x x x upon publication of the notice of
commencement;15[15] and

e) the obligations under the Standby Letter of Credit are not solidary and are not exempt from the
coverage of the stay order.

OUR RULING

We will discuss the first two issues raised by petitioner as these are interrelated and make up the main issue
of the petition before us which is, did the rehabilitation court sitting as such, act in excess of its authority or
jurisdiction when it enjoined herein petitioner from seeking the payment of the concession fees from the
banks that issued the Irrevocable Standby Letter of Credit in its favor and for the account of respondent
Maynilad?

The public respondent relied on Sec. 1, Rule 3 of the Interim Rules on Corporate Rehabilitation to support
its jurisdiction over the Irrevocable Standby Letter of Credit and the banks that issued it. The section reads
in part that jurisdiction over those affected by the proceedings is considered acquired upon the publication
of the notice of commencement of proceedings in a newspaper of general circulation and goes further to
define rehabilitation as an in rem proceeding. This provision is a logical consequence of the in rem nature
of the proceedings, where jurisdiction is acquired by publication and where it is necessary that the assets of
the debtor come within the courts jurisdiction to secure the same for the benefit of creditors. The reference
to all those affected by the proceedings covers creditors or such other persons or entities holding assets
belonging to the debtor under rehabilitation which should be reflected in its audited financial statements.
The banks do not hold any assets of respondent Maynilad that would be material to the rehabilitation
proceedings nor is Maynilad liable to the banks at this point.

Respondent Maynilads Financial Statement as of December 31, 2001 and 2002 do not show the Irrevocable
Standby Letter of Credit as part of its assets or liabilities, and by respondent Maynilads own admission it is
not. In issuing the clarificatory order of November 27, 2003, enjoining petitioner from claiming from an
asset that did not belong to the debtor and over which it did not acquire jurisdiction, the rehabilitation court
acted in excess of its jurisdiction.

Respondent Maynilad insists, however, that it is Sec. 6 (b), Rule 4 of the Interim Rules that supports its
claim that the commencement of the process to draw on the Standby Letter of Credit is an enforcement of
claim prohibited by and under the Interim Rules and the order of public respondent.

Respondent Maynilad would persuade us that the above provision justifies a leap to the conclusion that
such an enforcement is prohibited by said section because it is a claim against the debtor, its guarantors and
sureties not solidarily liable with the debtor and that there is nothing in the Standby Letter of Credit nor in
law nor in the nature of the obligation that would show or require the obligation of the banks to be solidary
with the respondent Maynilad.

We disagree.

First, the claim is not one against the debtor but against an entity that respondent Maynilad has procured to
answer for its non-performance of certain terms and conditions of the Concession Agreement, particularly
the payment of concession fees.

Secondly, Sec. 6 (b) of Rule 4 of the Interim Rules does not enjoin the enforcement of all claims against
guarantors and sureties, but only those claims against guarantors and sureties who are not solidarily
liable with the debtor. Respondent Maynilads claim that the banks are not solidarily liable with the debtor
does not find support in jurisprudence.

We held in Feati Bank & Trust Company v. Court of Appeals16[16] that the concept of guarantee vis--vis
the concept of an irrevocable letter of credit are inconsistent with each other. The guarantee theory destroys
the independence of the banks responsibility from the contract upon which it was opened and the nature of
both contracts is mutually in conflict with each other. In contracts of guarantee, the guarantors obligation is
merely collateral and it arises only upon the default of the person primarily liable. On the other hand, in an
irrevocable letter of credit, the bank undertakes a primary obligation. We have also defined a letter of credit
as an engagement by a bank or other person made at the request of a customer that the issuer shall honor
drafts or other demands of payment upon compliance with the conditions specified in the credit.17[17]

Letters of credit were developed for the purpose of insuring to a seller payment of a definite amount upon
the presentation of documents18[18] and is thus a commitment by the issuer that the party in whose favor it
is issued and who can collect upon it will have his credit against the applicant of the letter, duly paid in the
amount specified in the letter.19[19] They are in effect absolute undertakings to pay the money advanced or
the amount for which credit is given on the faith of the instrument. They are primary obligations and not
accessory contracts and while they are security arrangements, they are not converted thereby into contracts
of guaranty.20[20] What distinguishes letters of credit from other accessory contracts, is the engagement of
the issuing bank to pay the seller once the draft and other required shipping documents are presented to
it.21[21] They are definite undertakings to pay at sight once the documents stipulated therein are presented.

Letters of Credits have long been and are still governed by the provisions of the Uniform Customs and
Practice for Documentary Credits of the International Chamber of Commerce. In the 1993 Revision it
provides in Art. 2 that the expressions Documentary Credit(s) and Standby Letter(s) of Credit mean any
arrangement, however made or described, whereby a bank acting at the request and on instructions of a
customer or on its own behalf is to make payment against stipulated document(s) and Art. 9 thereof defines
the liability of the issuing banks on an irrevocable letter of credit as a definite undertaking of the issuing
bank, provided that the stipulated documents are presented to the nominated bank or the issuing bank and
the terms and conditions of the Credit are complied with, to pay at sight if the Credit provides for sight
payment.22[22]

We have accepted, in Feati Bank and Trust Company v. Court of Appeals23[23] and Bank of America NT
& SA v. Court of Appeals,24[24] to the extent that they are pertinent, the application in our jurisdiction of
the international credit regulatory set of rules known as the Uniform Customs and Practice for
Documentary Credits (U.C.P) issued by the International Chamber of Commerce, which we said in Bank of
the Philippine Islands v. Nery25[25] was justified under Art. 2 of the Code of Commerce, which states:

Acts of commerce, whether those who execute them be merchants or not, and whether specified in this
Code or not should be governed by the provisions contained in it; in their absence, by the usages of
commerce generally observed in each place; and in the absence of both rules, by those of the civil law.

The prohibition under Sec 6 (b) of Rule 4 of the Interim Rules does not apply to herein petitioner as the
prohibition is on the enforcement of claims against guarantors or sureties of the debtors whose obligations
are not solidary with the debtor. The participating banks obligation are solidary with respondent Maynilad
in that it is a primary, direct, definite and an absolute undertaking to pay and is not conditioned on the prior
exhaustion of the debtors assets. These are the same characteristics of a surety or solidary obligor.
Being solidary, the claims against them can be pursued separately from and independently of the
rehabilitation case, as held in Traders Royal Bank v. Court of Appeals26[26] and reiterated in Philippine
Blooming Mills, Inc. v. Court of Appeals,27[27] where we said that property of the surety cannot be taken
into custody by the rehabilitation receiver (SEC) and said surety can be sued separately to enforce his
liability as surety for the debts or obligations of the debtor. The debts or obligations for which a surety may
be liable include future debts, an amount which may not be known at the time the surety is given.

The terms of the Irrevocable Standby Letter of Credit do not show that the obligations of the banks are not
solidary with those of respondent Maynilad. On the contrary, it is issued at the request of and for the
account of Maynilad Water Services, Inc., in favor of the Metropolitan Waterworks and Sewerage System,
as a bond for the full and prompt performance of the obligations by the concessionaire under the
Concession Agreement28[28] and herein petitioner is authorized by the banks to draw on it by the simple
act of delivering to the agent a written certification substantially in the form Annex B of the Letter of
Credit. It provides further in Sec. 6, that for as long as the Standby Letter of Credit is valid and subsisting,
the Banks shall honor any written Certification made by MWSS in accordance with Sec. 2, of the Standby
Letter of Credit regardless of the date on which the event giving rise to such Written Certification
arose.29[29]

Taking into consideration our own rulings on the nature of letters of credit and the customs and usage
developed over the years in the banking and commercial practice of letters of credit, we hold that except
when a letter of credit specifically stipulates otherwise, the obligation of the banks issuing letters of credit
are solidary with that of the person or entity requesting for its issuance, the same being a direct, primary,
absolute and definite undertaking to pay the beneficiary upon the presentation of the set of documents
required therein.

The public respondent, therefore, exceeded his jurisdiction, in holding that he was competent to act on the
obligation of the banks under the Letter of Credit under the argument that this was not a solidary obligation
with that of the debtor. Being a solidary obligation, the letter of credit is excluded from the jurisdiction of
the rehabilitation court and therefore in enjoining petitioner from proceeding against the Standby Letters of
Credit to which it had a clear right under the law and the terms of said Standby Letter of Credit, public
respondent acted in excess of his jurisdiction.

ADDITIONAL ISSUES

We proceed to consider the other issues raised in the oral arguments and included in the parties
memoranda:

1. Respondent Maynilad argues that petitioner had a plain, speedy and adequate remedy under the
Interim Rules itself which provides in Sec. 12, Rule 4 that the court may on motion or motu proprio,
terminate, modify or set conditions for the continuance of the stay order or relieve a claim from coverage
thereof. We find, however, that the public respondent had already accomplished this during the hearing set
for the two Urgent Ex Parte motions filed by respondent Maynilad on November 21 and 24, 2003,30[30]
where the parties including the creditors, Suez and Chinatrust Commercial presented their respective
arguments.31[31] The public respondent then ruled, after carefully considering/evaluating the import of the
arguments and documents referred to by Maynilad, MWSS and/or the creditors Chinatrust Commercial
Bank and Suez in relation to the admissions, the pleadings, and/or pertinent portions of the records, this
court is of the considered and humble view that the issue must perforce be resolved in favor of
Maynilad.32[32] Hence to pursue their opposition before the same court would result in the presentation of
the same arguments and issues passed upon by public respondent.

Furthermore, Sec. 5, Rule 3 of the Interim Rules would preclude any other effective remedy questioning the
orders of the rehabilitation court since they are immediately executory and a petition for review or an
appeal therefrom shall not stay the execution of the order unless restrained or enjoined by the appellate
court. In this situation, it had no other remedy but to seek recourse to us through this petition for certiorari.

In Silvestre v. Torres and Oben,33[33] we said that it is not enough that a remedy is available to prevent a
party from making use of the extraordinary remedy of certiorari but that such remedy be an adequate
remedy which is equally beneficial, speedy and sufficient, not only a remedy which at some time in the
future may offer relief but a remedy which will promptly relieve the petitioner from the injurious acts of the
lower tribunal. It is the inadequacy -- not the mere absence -- of all other legal remedies and the danger of
failure of justice without the writ, that must usually determine the propriety of certiorari.34[34]

2. Respondent Maynilad argues that by commencing the process for payment under the Standby
Letter of Credit, petitioner violated an immediately executory order of the court and, therefore, comes to
Court with unclean hands and should therefore be denied any relief.

It is true that the stay order is immediately executory. It is also true, however, that the Standby Letter of
Credit and the banks that issued it were not within the jurisdiction of the rehabilitation court. The call on
the Standby Letter of Credit, therefore, could not be considered a violation of the Stay Order.

3. Respondents claim that the filing of the petition pre-empts the original jurisdiction of the lower
court is without merit. The purpose of the initial hearing is to determine whether the petition for
rehabilitation has merit or not. The propriety of the stay order as well as the clarificatory order had already
been passed upon in the hearing previously had for that purpose. The determination of whether the public
respondent was correct in enjoining the petitioner from drawing on the Standby Letter of Credit will have
no bearing on the determination to be made by public respondent whether the petition for rehabilitation has
merit or not. Our decision on the instant petition does not pre-empt the original jurisdiction of the
rehabilitation court.

WHEREFORE, the petition for certiorari is GRANTED. The Order of November 27, 2003 of the
Regional Trial Court of Quezon City, Branch 90, is hereby declared NULL AND VOID and SET ASIDE.
The status quo Order herein previously issued is hereby LIFTED. In view of the urgency attending this
case, this decision is immediately executory.
No costs.

SO ORDERED.
BANK OF AMERICA, NT & SA, petitioners,
vs.
COURT OF APPEALS, INTER-RESIN INDUSTRIAL CORPORATION, FRANCISCO
TRAJANO, JOHN DOE AND JANE DOE, respondents.

Agcaoili & Associates for petitioner.

Valenzuela Law Center, Victor Fernandez and Ramon Guevarra for private respondents.

VITUG, J.:

A "fiasco," involving an irrevocable letter of credit, has found the distressed parties coming to court as
adversaries in seeking a definition of their respective rights or liabilities thereunder.

On 05 March 1981, petitioner Bank of America, NT & SA, Manila, received by registered mail an
Irrevocable Letter of Credit No. 20272/81 purportedly issued by Bank of Ayudhya, Samyaek Branch, for
the account of General Chemicals, Ltd., of Thailand in the amount of US$2,782,000.00 to cover the sale of
plastic ropes and "agricultural files," with the petitioner as advising bank and private respondent Inter-
Resin Industrial Corporation as beneficiary.

On 11 March 1981, Bank of America wrote Inter-Resin informing the latter of the foregoing and
transmitting, along with the bank's communication,
the latter of credit. Upon receipt of the letter-advice with the letter of credit, Inter-Resin sent Atty. Emiliano
Tanay to Bank of America to have the letter of credit confirmed. The bank did not. Reynaldo Dueñas, bank
employee in charge of letters of credit, however, explained to Atty. Tanay that there was no need for
confirmation because the letter of credit would not have been transmitted if it were not genuine.

Between 26 March to 10 April 1981, Inter-Resin sought to make a partial availment under the letter of
credit by submitting to Bank of America invoices, covering the shipment of 24,000 bales of polyethylene
rope to General Chemicals valued at US$1,320,600.00, the corresponding packing list, export declaration
and bill of lading. Finally, after being satisfied that Inter-Resin's documents conformed with the conditions
expressed in the letter of credit, Bank of America issued in favor of Inter-Resin a Cashier's Check for
P10,219,093.20, "the Peso equivalent of the draft (for) US$1,320,600.00 drawn by Inter-Resin, after
deducting the costs for documentary stamps, postage and mail issuance." 1 The check was picked up by
Inter-Resin's Executive Vice-President Barcelina Tio. On 10 April 1981, Bank of America wrote Bank of
Ayudhya advising the latter of the availment under the letter of credit and sought the corresponding
reimbursement therefor.

Meanwhile, Inter-Resin, through Ms. Tio, presented to Bank of America the documents for the second
availment under the same letter of credit consisting of a packing list, bill of lading, invoices, export
declaration and bills in set, evidencing the second shipment of goods. Immediately upon receipt of a telex
from the Bank of Ayudhya declaring the letter of credit fraudulent, 2 Bank of America stopped the
processing of Inter-Resin's documents and sent a telex to its branch office in Bangkok, Thailand, requesting
assistance in determining the authenticity of the letter of credit. 3 Bank of America kept Inter-Resin
informed of the developments. Sensing a fraud, Bank of America sought the assistance of the National
Bureau of Investigation (NBI). With the help of the staff of the Philippine Embassy at Bangkok, as well as
the police and customs personnel of Thailand, the NBI agents, who were sent to Thailand, discovered that
the vans exported by Inter-Resin did not contain ropes but plastic strips, wrappers, rags and waste
materials. Here at home, the NBI also investigated Inter-Resin's President Francisco Trajano and Executive
Vice President Barcelina Tio, who, thereafter, were criminally charged for estafa through falsification of
commercial documents. The case, however, was eventually dismissed by the Rizal Provincial Fiscal who
found no prima facie evidence to warrant prosecution.
Bank of America sued Inter-Resin for the recovery of P10,219,093.20, the peso equivalent of the draft for
US$1,320,600.00 on the partial availment of the now disowned letter of credit. On the other hand, Inter-
Resin claimed that not only was it entitled to retain P10,219,093.20 on its first shipment but also to the
balance US$1,461,400.00 covering the second shipment.

On 28 June 1989, the trial court ruled for Inter-Resin, 4 holding that:
(a) Bank of America made assurances that enticed Inter-Resin to send the merchandise to Thailand; (b) the
telex declaring the letter of credit fraudulent was unverified and self-serving, hence, hearsay, but even
assuming that the letter of credit was fake, "the fault should be borne by the BA which was careless and
negligent" 5 for failing to utilize its modern means of communication to verify with Bank of Ayudhya in
Thailand the authenticity of the letter of credit before sending the same to Inter-Resin; (c) the loading of
plastic products into the vans were under strict supervision, inspection and verification of government
officers who have in their favor the presumption of regularity in the performance of official functions; and
(d) Bank of America failed to prove the participation of Inter-Resin or its employees in the alleged fraud as,
in fact, the complaint for estafa through falsification of documents was dismissed by the Provincial Fiscal
of Rizal.6

On appeal, the Court of Appeals 7 sustained the trial court; hence, this present recourse by petitioner Bank
of America.

The following issues are raised by Bank of America: (a) whether it has warranted the genuineness and
authenticity of the letter of credit and, corollarily, whether it has acted merely as an advising bank or as a
confirming bank; (b) whether Inter-Resin has actually shipped the ropes specified by the letter of credit;
and (c) following the dishonor of the letter of credit by Bank of Ayudhya, whether Bank of America may
recover against Inter-Resin under the draft executed in its partial availment of the letter of credit.8

In rebuttal, Inter-Resin holds that: (a) Bank of America cannot, on appeal, belatedly raise the issue of being
only an advising bank; (b) the findings of the trial court that the ropes have actually been shipped is binding
on the Court; and, (c) Bank of America cannot recover from Inter-Resin because the drawer of the letter of
credit is the Bank of Ayudhya and not Inter-Resin.

If only to understand how the parties, in the first place, got themselves into the mess, it may be well to start
by recalling how, in its modern use, a letter of credit is employed in trade transactions.

A letter of credit is a financial device developed by merchants as a convenient and relatively safe mode of
dealing with sales of goods to satisfy the seemingly irreconcilable interests of a seller, who refuses to part
with his goods before he is paid, and a buyer, who wants to have control of the goods before paying. 9 To
break the impasse, the buyer may be required to contract a bank to issue a letter of credit in favor of the
seller so that, by virtue of the latter of credit, the issuing bank can authorize the seller to draw drafts and
engage to pay them upon their presentment simultaneously with the tender of documents required by the
letter of credit. 10 The buyer and the seller agree on what documents are to be presented for payment, but
ordinarily they are documents of title evidencing or attesting to the shipment of the goods to the buyer.

Once the credit is established, the seller ships the goods to the buyer and in the process secures the required
shipping documents or documents of title. To get paid, the seller executes a draft and presents it together
with the required documents to the issuing bank. The issuing bank redeems the draft and pays cash to the
seller if it finds that the documents submitted by the seller conform with what the letter of credit requires.
The bank then obtains possession of the documents upon paying the seller. The transaction is completed
when the buyer reimburses the issuing bank and acquires the documents entitling him to the goods. Under
this arrangement, the seller gets paid only if he delivers the documents of title over the goods, while the
buyer acquires said documents and control over the goods only after reimbursing the bank.

What characterizes letters of credit, as distinguished from other accessory contracts, is the engagement of
the issuing bank to pay the seller of the draft and the required shipping documents are presented to it. In
turn, this arrangement assures the seller of prompt payment, independent of any breach of the main sales
contract. By this so-called "independence principle," the bank determines compliance with the letter of
credit only by examining the shipping documents presented; it is precluded from determining whether the
main contract is actually accomplished or not. 11

There would at least be three (3) parties: (a) the buyer, 12 who procures the letter of credit and obliges
himself to reimburse the issuing bank upon receipts of the documents of title; (b) the bank issuing the letter
of credit, 13 which undertakes to pay the seller upon receipt of the draft and proper document of titles and
to surrender the documents to the buyer upon reimbursement; and, (c) the seller, 14 who in compliance
with the contract of sale ships the goods to the buyer and delivers the documents of title and draft to the
issuing bank to recover payment.

The number of the parties, not infrequently and almost invariably in international trade practice, may be
increased. Thus, the services of an advising (notifying) bank 15 may be utilized to convey to the seller the
existence of the credit; or, of a confirming bank 16 which will lend credence to the letter of credit issued by
a lesser known issuing bank; or, of a paying bank, 17 which undertakes to encash the drafts drawn by the
exporter. Further, instead of going to the place of the issuing bank to claim payment, the buyer may
approach another bank, termed the negotiating bank, 18 to have the draft discounted.

Being a product of international commerce, the impact of this commercial instrument transcends national
boundaries, and it is thus not uncommon to find a dearth of national law that can adequately provide for its
governance. This country is no exception. Our own Code of Commerce basically introduces only its
concept under Articles 567-572, inclusive, thereof. It is no wonder then why great reliance has been placed
on commercial usage and practice, which, in any case, can be justified by the universal acceptance of the
autonomy of contract rules. The rules were later developed into what is now known as the Uniform
Customs and Practice for Documentary Credits ("U.C.P.") issued by the International Chamber of
Commerce. It is by no means a complete text by itself, for, to be sure, there are other principles, which,
although part of lex mercatoria, are not dealt with the U.C.P.

In FEATI Bank and Trust Company v. Court of Appeals, 19 we have accepted, to the extent of their
pertinency, the application in our jurisdiction of this international commercial credit regulatory set of rules.
20 In Bank of Phil. Islands v. De Nery, 21 we have said that the observances of the U.C.P. is justified by
Article 2 of the Code of Commerce which expresses that, in the absence of any particular provision in the
Code of Commerce, commercial transactions shall be governed by usages and customs generally observed.
We have further observed that there being no specific provisions which govern the legal complexities
arising from transactions involving letters of credit not only between or among banks themselves but also
between banks and the seller or the buyer, as the case may be, the applicability of the U.C.P. is undeniable.

The first issue raised with the petitioner, i.e., that it has in this instance merely been advising bank, is
outrightly rejected by Inter-Resin and is thus sought to be discarded for having been raised only on appeal.
We cannot agree. The crucial point of dispute in this case is whether under the "letter of credit," Bank of
America has incurred any liability to the "beneficiary" thereof, an issue that largely is dependent on the
bank's participation in that transaction; as a mere advising or notifying bank, it would not be liable, but as a
confirming bank, had this been the case, it could be considered as having incurred that liability. 22

In Insular Life Assurance Co. Ltd. Employees Association — Natu vs. Insular Life Assurance Co., Ltd., 23
the Court said: Where the issues already raised also rest on other issues not specifically presented, as long
as the latter issues bear relevance and close relation to the former and as long as they arise from the matters
on record, the court has the authority to include them in its discussion of the controversy and to pass upon
them just as well. In brief, in those cases where questions not particularly raised by the parties surface as
necessary for the complete adjudication of the rights and obligations of the parties, the interests of justice
dictate that the court should consider and resolve them. The rule that only issues or theories raised in the
initial proceedings may be taken up by a party thereto on appeal should only refer to independent, not
concomitant matters, to support or oppose the cause of action or defense. The evil that is sought to be
avoided, i.e., surprise to the adverse party, is in reality not existent on matters that are properly litigated in
the lower court and appear on record.

It cannot seriously be disputed, looking at this case, that Bank of America has, in fact, only been an
advising, not confirming, bank, and this much is clearly evident, among other things, by the provisions of
the letter of credit itself, the petitioner bank's letter of advice, its request for payment of advising fee, and
the admission of Inter-Resin that it has paid the same. That Bank of America has asked Inter-Resin to
submit documents required by the letter of credit and eventually has paid the proceeds thereof, did not
obviously make it a confirming bank. The fact, too, that the draft required by the letter of credit is to be
drawn under the account of General Chemicals (buyer) only means the same had to be presented to Bank of
Ayudhya (issuing bank) for payment. It may be significant to recall that the letter of credit is an
engagement of the issuing bank, not the advising bank, to pay the draft.

No less important is that Bank of America's letter of 11 March 1981 has expressly stated that "[t]he
enclosure is solely an advise of credit opened by the abovementioned correspondent and conveys no
engagement by us." 24 This written reservation by Bank of America in limiting its obligation only to being
an advising bank is in consonance with the provisions of U.C.P.

As an advising or notifying bank, Bank of America did not incur any obligation more than just notifying
Inter-Resin of the letter of credit issued in its favor, let alone to confirm the letter of credit. 25 The bare
statement of the bank employees, aforementioned, in responding to the inquiry made by Atty. Tanay, Inter-
Resin's representative, on the authenticity of the letter of credit certainly did not have the effect of novating
the letter of credit and Bank of America's letter of advise, 26 nor can it justify the conclusion that the bank
must now assume total liability on the letter of credit. Indeed, Inter-Resin itself cannot claim to have been
all that free from fault. As the seller, the issuance of the letter of credit should have obviously been a great
concern to it. 27 It would have, in fact, been strange if it did not, prior to the letter of credit, enter into a
contract, or negotiated at the every least, with General Chemicals. 28 In the ordinary course of business, the
perfection of contract precedes the issuance of a letter of credit.

Bringing the letter of credit to the attention of the seller is the primordial obligation of an advising bank.
The view that Bank of America should have first checked the authenticity of the letter of credit with bank
of Ayudhya, by using advanced mode of business communications, before dispatching the same to Inter-
Resin finds no real support in U.C.P. Article 18 of the U.C.P. states that: "Banks assume no liability or
responsibility for the consequences arising out of the delay and/or loss in transit of any messages, letters or
documents, or for delay, mutilation or other errors arising in the transmission of any telecommunication . .
." As advising bank, Bank of America is bound only to check the "apparent authenticity" of the letter of
credit, which it did. 29 Clarifying its meaning, Webster's Ninth New Collegiate Dictionary 30 explains that
the word "APPARENT suggests appearance to unaided senses that is not or may not be borne out by more
rigorous examination or greater knowledge."

May Bank of America then recover what it has paid under the letter of credit when the corresponding draft
for partial availment thereunder and the required documents were later negotiated with it by Inter-Resin?
The answer is yes. This kind of transaction is what is commonly referred to as a discounting arrangement.
This time, Bank of America has acted independently as a negotiating bank, thus saving Inter-Resin from
the hardship of presenting the documents directly to Bank of Ayudhya to recover payment. (Inter-Resin, of
course, could have chosen other banks with which to negotiate the draft and the documents.) As a
negotiating bank, Bank of America has a right to recourse against the issuer bank and until reimbursement
is obtained, Inter-Resin, as the drawer of the draft, continues to assume a contingent liability thereon. 31

While bank of America has indeed failed to allege material facts in its complaint that might have likewise
warranted the application of the Negotiable Instruments Law and possible then allowed it to even go after
the indorsers of the draft, this failure, 32/ nonetheless, does not preclude petitioner bank's right (as
negotiating bank) of recovery from Inter-Resin itself. Inter-Resin admits having received P10,219,093.20
from bank of America on the letter of credit and in having executed the corresponding draft. The payment
to Inter-Resin has given, as aforesaid, Bank of America the right of reimbursement from the issuing bank,
Bank of Ayudhya which, in turn, would then seek indemnification from the buyer (the General Chemicals
of Thailand). Since Bank of Ayudhya disowned the letter of credit, however, Bank of America may now
turn to Inter-Resin for restitution.

Between the seller and the negotiating bank there is the usual relationship existing
between a drawer and purchaser of drafts. Unless drafts drawn in pursuance of the credit
are indicated to be without recourse therefore, the negotiating bank has the ordinary right
of recourse against the seller in the event of dishonor by the issuing bank . . . The fact that
the correspondent and the negotiating bank may be one and the same does not affect its
rights and obligations in either capacity, although a special agreement is always a
possibility . . . 33

The additional ground raised by the petitioner, i.e., that Inter-Resin sent waste instead of its products, is
really of no consequence. In the operation of a letter of credit, the involved banks deal only with documents
and not on goods described in those documents. 34

The other issues raised in then instant petition, for instance, whether or not Bank of Ayudhya did issue the
letter of credit and whether or not the main contract of sale that has given rise to the letter of credit has been
breached, are not relevant to this controversy. They are matters, instead, that can only be of concern to the
herein parties in an appropriate recourse against those, who, unfortunately, are not impleaded in these
proceedings.

In fine, we hold that —

First, given the factual findings of the courts below, we conclude that petitioner Bank of America has acted
merely as a notifying bank and did not assume the responsibility of a confirming bank; and

Second, petitioner bank, as a negotiating bank, is entitled to recover on Inter-Resin's partial availment as
beneficiary of the letter of credit which has been disowned by the alleged issuer bank.

No judgment of civil liability against the other defendants, Francisco Trajano and other unidentified parties,
can be made, in this instance, there being no sufficient evidence to warrant any such finding.

WHEREFORE, the assailed decision is SET ASIDE, and respondent Inter-Resin Industrial Corporation is
ordered to refund to petitioner Bank of America NT & SA the amount of P10,219,093.20 with legal interest
from the filing of the complaint until fully paid.

No costs.

SO ORDERED.