SPECIAL COMMERCIAL LAW
PHILORD ARANDA
LETTERS OF CREDIT
What are letters of credit?
- Are open letters of request whereby
one person requests another to
advance money or give credit to a
third person for a certain amount
and promises to repay the person
advancing the money.
- A promise by a bank to pay the
seller on behalf of the buyer as long
as the seller complies with precisely
defined terms or conditions specified
in the letters of credit.
Who are the parties to the contract?
As a general rule, the parties are:
a. Buyer;
b. Issuing Bank; and
c. Seller
Additionally, in an international credit
transaction, the parties are:
a. Customer;
b. Issuing bank;
c. Beneficiary;
d. Advising bank; and
e. Confirming or Correspondent bank
What will govern the relationship of the
parties?
a. Contract of sale (as to buyer and
seller)
b. Terms of the application and
agreement for the issuance of the
letters of credit by the bank (as to
buyer and issuing bank)
c. Terms of the letters of credit itself
(Issuing bank and seller)
What are the essential conditions of a letter
of credit?
LECTURE NOTES
a. Issued to a definite person and not
to order;
b. Limited only to a fixed and specified
amount, or to one or more
undetermined amounts but within a
maximum the limits of which has to
be stated exactly;
c. Before paying LC, the person paying
on the LC has the right to demand
proof of identity of seller in whose
favor the LC is issued;
d. Drawer of LC may annul it, informing
the bearer and the person to whom it
is addressed of such revocation.
GR: a LC is revocable
Exc: when there is a waiver of right to
revoke, it would be irrevocable
Payment of the LC should be made without
delay
Term – there is a period before payment
Sight – if document has been presented,
upon seeing it, it should be paid.
- LC is void if the bearer of such does
not make use if such within the
period agreed upon
- A letter of credit is NOT a negotiable
instrument (required to be withdrawn
in favor of a definite person)
- If conditions are not met, it is only a
letter of recommendation
How payments are made?
- Cash advance – buyer pays first
before deliver (buyer’s risk)
- Open account – seller delivers the
item first before payment (seller’s
risk)
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PHILORD ARANDA

Principle of perpetual separation - Additionally, it should be current,

specified period like clearances. If
- If there is a controversy arising from
altered, from the examination of the
a letter of credit transaction you will
document and it can be seen there
have to take a look first as to whom
is fraud in the documents.
among these parties are involved in
the controversy. Once known,
contract can easily be determined.
- If apparent and issuing bank pays
Doctrine of independence seller, the former cannot seek
reimbursement from the buyer.
- Issuing bank will determine whether
letters of credit has complied with its
imposed requirements
Fraud in underlying transactions
- Issuing bank will only take a look at
the document presented by the - It defeats the purpose of LC
seller
- Not recognized in the Philippines
What are underlying transactions?
What is the basis of fraud exception?
- You will only take a look at the (Presence of these 3 indicates fraud
document and not on the object of exception)
the sale because it is one that gave
rise to the application for and - Clear proof of fraud;
eventual issuance of letters of credit - Abuse in the independence purpose
of the LC; and
Doctrine of strict compliance - Possible irreparable injury
- Seller must submit to issuing bank
all that is required by the letters of
credit. There should be no deviation What are the kinds of LC?
from what is required in the letter. a. Standby
What are the 2 types of fraud in connection
with this transaction?
Kinds Standby Ordinary
A.k.a. Fraud exception for it allows the nature Guarantees Guarantees
issuing bank not to pay performance a sale
of obligation
- Fraud in documents
- Fraud in documents to be submitted
i. This kind of fraud must clearly be When When there Once the
apparent paid? is default seller has
complied
with the
Q: When is it apparent? terms

A: it depends on how it is prescribed by the

letter of credit. b. Transferable
SPECIAL COMMERCIAL LAW LECTURE NOTES
PHILORD ARANDA

- Allows the seller or the beneficiary to TRUST RECEIPTS

transfer his right to some other
person but it can only be transferred
once.
c. Back to back
- Requires LC to be paid
d. Confirmed
- One that carries confirmation of
another bank which is an
undertaking to assume the obligation
of the issuing bank.
What are trust receipts?
- Are commercial documents where
the bank releases the goods to the
possession of the entrustee but will
still retain ownership as an entruster
while the entrustee will sell the
goods and apply the proceeds to the
whole payment of its liability to the
bank.
Who are the parties?
1. Entruster- Issuing bank
2. Entrustee- Buyer

e. Unconfirmed What is its concept?

- The goods bought by the buyer,

- When the only bank involved is the which is funded by the bank with
issuing bank
conditions, shall initially be owned by
the bank and possession shall be
- It has weak characteristics for it is given to the buyer. The ownership
not confirmed shall be transferred only after the
conditions imposed to the buyer has
f. Revolving been complied with.
- The entruster only has a security
- Valid for several transactions over a interest
given time
Obligations of entrustee once possession
- This kind of LC needs to be has been transferred:
replenished
i. To pay for the amount of the goods
to the entruster once it is sold; or
g. Non revolving
ii. He must return the goods if they are
not sold
- One that is valid only for 1
- If one or both are not present, no
transaction
trust receipt transaction
- If it is not TR, then penalty will only
h. Cumulative
be for a simple loan
- If it is a TR, it may be a sufficient
- Any unused amount can be carried
basis for estafa.
over to a future period
PLEDGE TRUST RECEIPTS
i. Non-cumulative

- Cannot utilize the remaining amount

SPECIAL COMMERCIAL LAW LECTURE NOTES
PHILORD ARANDA

One who is financing Possession of the 5. Entruster does not bear the risk of
has possession of the property is in the loss but the entrustee.
property possession of the 6. If goods are lost, it will not extinguish
person being financed the obligation of the entrustee to
pay. In order to address the
situation, entrustee should insure the
goods.

CONDITIONAL SALE TRUST RECEIPTS Rights and Obligations of the Entrustee

Sale of property from There is only transfer - If there’s failure to comply with the
seller to buyer of possession obligations, it may constitute estafa.
What are the salient features of a trust
CHATTEL TRUST RECEIPTS receipt?
MORTGAGE
There is a lien on the It will not create a lien a) Loan feature
property but only a security - Way by which financing is extended
interest over the by the entruster to the entrustee. It
property facilitates extension of credit.
b) Security feature
- Lies in the fact that the goods
covered by the TR shall serve as a
CONSIGNMENT TRUST RECEIPTS collateral for the payment of the
obligation because the entruster has
Nor retains title Seller does not retain the security interest over the
title but is transferred property.
to entruster - Law on trust receipts can still be
violated by juridical entities but they
cannot be held liable for lack of
feelings and intent but those under
Rights of an entruster direct management and supervision
1. Right to receive proceeds of the sale can be held liable and unless there
of goods is a law which expressy provides for
2. Entruster shall not be responsible as their liability.
principal or as a vendor under any
sale made by the entrustee
3. Under the sale entered into by the WAREHOUSE RECEIPTS LAW
entrustee, the 3rd person acquires
What are the 2 related laws?
ownership of the goods which shall
be a good title. This is an exception 1. Warehouse receipt law
to article 1505 of the civil code. - Cover the rights and obligations of
4. Entrustee can only enter into a the parties in a contract.
contract of sale but not into a 2. General bonded warehouse act
conditional sale, pledge, or - Refer to the regulation by the State
mortgage. If he does, it is void for it over warehousing operations.
is prejudicial to the entruster.
What is a warehouse receipt?
SPECIAL COMMERCIAL LAW LECTURE NOTES
PHILORD ARANDA

- A written acknowledgment by a Lien is lost when WH man:

warehouse man that he withholds
a. Surrenders possession;
certain goods in store for the person
b. Refuses to deliver it under
to whom a document is issued.
conditions where he is bound to
Can be: deliver;
c. When they have demanded and
a. Negotiable complied with the requirements but
- Goods are deliverable to person WH man refused.
named therein or order or  If depositor does not pay lien WH
deliverable to bearer man may sell the good
- Negotiation is needed
Securities Regulation Act (R.A. 8799)
A. Policy
b. non-negotiable B. Jurisdiction
- goods are to depositor or to any C. Securities
specified person D. Security Price Manipulation
- Deed of assignment is needed to E. Fraudulent practices
transfer F. Insider Trading
When the person presents himself to a WH G. Stockholder protection devices
man, he must: Central Bank Act (R.A. 7653)
a) Offer to satisfy the WH man lien; General Banking Laws (R.A. 8791)
b) Offer to surrender receipt if
negotiable; What is a bank?
c) Express willingness and readiness What are the classifications of bank?
to sign acknowledgment of delivery if
requested by a WH man. How to create a bank?

What if there is a failure to comply? a. Must be a stock corporations;

- WH man can refuse to deliver, he
may also refuse due to a lien he has
against a person demanding the
goods.
What is a WH man’s lien?
- Refers to the expenses of storage or
charges of WH man for undertaking
storage or any other amount used in
order to maintain storage.
Enforceable against:
a. Goods deposited;
b. Goods belonging to depositor even if
not belonging to the depositor but he
is the depositor??
b. Funds must be obtained from the
public;
Public – equal or more than 20
persons
Why? To be consistent with the
requirement under the corporation
code
c. Minimum capital required by the
monetary board
- Banks should only issue par value
shares for banks are invested with
public interest
SPECIAL COMMERCIAL LAW
PHILORD ARANDA
1. Banks are not allowed to buy own
shares or accept shares a security
for a loan
- Except when monetary board allows
them.
Effect: these shares goes to the treasury but
it should be sold within 6 months either
through public or private sale
2. Dividend declaration
Qualification:
a. Clearing account
b. See law
c. Liquidity
d. No violation
- Board of directors may be composed
of 21 members in case of merger or
consolidation
- Management is vested with the BoD
Concept of independent directors:
Who are independent directors?
- They are
- They must comply with the
requirement that they must acquire
at least 1 voting stock
What is the “fit and proper” rule?
- Applies to directors and officers
- The BSP will determine if they are
qualified in accordance with the
rules on integrity, experience,
education, training, and competence
- If not met, BSP notifies the bank to
disqualify, suspend, or remove such
director or officer.
3. Deposits
- These are also known as irregular
deposit for they are not actual
LECTURE NOTES
deposits as defined by law but in the
nature of a loan.
- What is to be returned is the same
amount but not the same thing.
What kinds of relationship are present?
a) Loan
- Creditor is known as the depositor
- Debtor is known as the bank
b) Fiduciary
Depositor entrusts money to the bank with
the expectation that the bank will return the
money in the future.
4. Diligence required
BPI vs CA, 328 SCRA 641
- Not only diligence of a good father
but highest degree of care due to
fiduciary relationship. (Extraordinary
diligence)
City of ___ VS ___ 232 SCRA 559
- Amount is not necessary, utmost
fidelity must be exercised at all
times.
Ultimate question: Has the bank
exercised degree of care required?
o What if depositor is guilty of
contributory negligence?
- In the case of PNB VS FF Cruz 654
SCRA 333, bank is not absolved but
its liability is only mitigated.
- Damages is allocated at 60% for the
bank and 40% for the depositor.
 Diligence in selection and
supervision of employees of a bank
is not a defense even if such
employee is negligent.
SPECIAL COMMERCIAL LAW
PHILORD ARANDA
5. Limitations on banking operations
a. Single Borrower Limit Rule
- Protects banks from making
excessive loan to a single borrower
o How? By providing a limit on
amount to be borrowed which
should be:
25% of its net worth regardless of
who the person is (natural or
juridical)
- Net worth is computed by the BSP
10% increase may be allowed but
should be secured.
- Security must be negotiable
document of title which must be
readily marketable, non-perishable
good, and with adequate insurance.
b. Directors, Officers,
Stockholders, or Related
interests
Can related interest avail of
credit? Yes, provided it complies
with the rules on D OSRI.
Who are related interests?
i. Spouse
ii. Partnership
iii. Co-owner
Ex: P is part of the DOSRI
J is a co-partner pro indiviso
Is J a related interest?
 It depends.
 If entire property is
offered as security, he is
covered.
 If his interest only, he is
not.
iv. Corporation, association,
firm, director or officer,
LECTURE NOTES
except when its shares are
registered
General rule:
A or B is also a director or officer
of another corporation, part of
related interest
Exception:
If listed, look at the ownership of
the corporation by one owner or
a part of the family within 3rd
degree
 If ownership should not
exceed 50% of the
outstanding capital stock,
not related
 If it exceeds 50%, related
interest
 If the Director, officer, or stockholder
is sitting in the board as
representative of the bank, not a
related interest.
Why? Because he is only sitting in a
representative capacity.
Provided that such representative
does not have equity interest in the
borrower corporation as required by
law or in the corporate by laws.
Provided further, that they are not V,
and VI. If they fall under them, they
are related interest.
v. Corporation, Association, or
Firm who holds 20% of the
subscribed capital of the
borrowing corporation
- If it exceeds 20%, related interest
vi. Corporation, Association, or
Firm owned or controlled by
SPECIAL COMMERCIAL LAW LECTURE NOTES
PHILORD ARANDA

related entities mentioned in  A DOSRI transaction extends to a

ii, iv, and v DOSRI being a guarantor, surety, or
endorser. Also when he is an obligor
If it falls under any of the rules of DOSRI:
and to a contractual obligation.
a. Bank’s part
What is insider lending? Also known as
i. Transaction must be
lending to a DOSRI.
conducted under arm’s
length rule
- Same requirement or rule regarding
the same transaction shall be
applied
ii. Loan shall be thru an
approval of the majority
of the board
- If the borrower is a director, he
should be excluded from the majority
votes to be rendered
iii. Approval entered into the
records of the bank and a
copy of it transmitted to
the BSP
b. DOSRI’s part
I. Must waive secrecy
II. Must observe required
ceilings and limits, which
shall be limited to
a. Encumbered deposits;
b. Book value of
shareholdings with the
bank unless secured by
non-risk assets
determined by monetary
board;
c. Fringe benefit plan
approved by the BSP not
subjected to ceiling
d. Those extended by a
cooperative bank to its
cooperative shareholders
If a DOSRI has violated it:
a. Position may be declared
vacant; and
b. Subject to penal provision
of the BSP