Standby letters of credit (SBLCs) are common in international trade finance and as performance security in construction projects. An SBLC is issued by a bank as security for the performance of an obligation, payable following a demand from the beneficiary coupled with whatever documentary evidence is specified in the SBLC. Crucially, the issuer will not investigate the merits of any claim nor seek proof of the relevant default. Absent of fraud, the issuer must pay up on receipt of the requisite documents.
National Infrastructure Development Co Ltd (NIDCO) was a corporate vehicle established by the government of Trinidad and Tobago to carry out infrastructure projects. NIDCO entered into a construction contract with Brazilian contractor Construtora OAS (Construtora) pursuant to which Construtora was to extend a public highway in the south of Trinidad. Construtora obtained various SBLCs in favour of NIDCO, including four from Banco Santander SA (Santander).
The project was halted by a dispute over non-payment, NIDCO commenced arbitration proceedings and Construtora filed for judicial reorganisation in Brazil. NIDCO sought to call on the SBLCs from Santander. At the same time, Construtora sought a judgment that the Brazilian court had jurisdiction in respect of the SBLCs, and the Brazilian court ordered an injunction restraining various banks from effecting payment under these until this question had been settled.
Reluctant to incur a hefty fine by breaching the injunction, Santander maintained that it did not have to make a payment. Santander’s main argument rested on the fraud exception:
- NIDCO had falsely claimed that the sum demanded was ‘due and owing’
- the sums being claimed were the subject of the ongoing arbitration proceedings
- NIDCO’s claim that those sums were ‘due and owing’ was, therefore, not honest.
The court reaffirmed the test for fraud in this context. Was the only realistic inference that the beneficiary could not honestly have believed in the validity of its demand? It was irrelevant whether, as a matter of law, the sums demanded were ‘due and owing’: all that mattered was that NIDCO honestly believed the sums were due and owing.
As it was not seriously arguable that NIDCO had no honest belief the demanded sum was due and owing, the fraud exception was not engaged. The bank was ordered to pay up.
Santander sought a stay of execution on the basis of the Brazilian injunction, but this was refused. To allow a stay would be to violate the principal purpose of SBLCs, which are intended to provide dependable security which is quick to enforce, making them almost akin to cash. In any event, breach of an injunction was a risk Santander accepted by issuing SBLCs.
SBLCs have previously been referred to as “the lifeblood of international commerce” (RD Harbottle v National Westminster Bank ) and it is heartening for practitioners that the English courts have to date proved reluctant to, as it was put in Power Curber Intl Ltd v National Bank of Kuwait , “strike at the very heart of … international trade” in interfering in their operation.
Those issuing SBLCs should note that the beauty of a SBLC is that, on production of the required documentation, the beneficiary will be successful in making its demand. If the issuer would like the opportunity to assess the evidence or to require a decision or award to be reached in any dispute arising from the underlying contract, they must include drafting to this effect in the SBLC. This, of course, is not market practice.
Although Santander may not have agreed here, these principles are also useful for the issuers of SBLCs who can, unless on notice of fraud, pay out on receipt of a valid demand without becoming mired in an ongoing dispute between the parties to the underlying contract as to who owes what to whom: this is, rightly, a question for the courts or for arbitration.