In Marphil Export Corporation v. Allied Banking Corporation, the Supreme Court ruled that a negotiating bank in a letter of credit transaction has the right to debit the exporter’s account when the issuing bank dishonors the draft, provided the exporter agreed to reimburse the negotiating bank in such an event. This decision clarifies the obligations and recourse available to banks involved in international trade financing and sets a precedent for how banks can manage risks associated with letter of credit transactions. It underscores the importance of clear agreements between exporters and negotiating banks in managing potential losses.
Navigating Letters of Credit: Who Pays When International Deals Go Wrong?
Marphil Export Corporation, engaged in exporting agricultural products, obtained a credit line from Allied Banking Corporation to finance its operations. This credit line was used to fund the purchase and export of cashew nuts to Intan Trading Ltd. in Hong Kong. Nanyang Commercial Bank issued irrevocable letters of credit (L/Cs) with Marphil as the beneficiary and Allied Bank as the correspondent bank. A letter of credit is a financial instrument used in international trade where an issuing bank guarantees payment to a seller (beneficiary) on behalf of a buyer (applicant), provided that the seller meets certain conditions, such as presenting conforming documents.
Two L/Cs were involved: L/C No. 22518 and L/C No. 21970. While the first transaction under L/C No. 22518 proceeded smoothly, the second, covered by L/C No. 21970, faced complications. Allied Bank credited Marphil’s account with the peso equivalent of US$185,000.00, but Nanyang Bank later refused to reimburse Allied Bank due to discrepancies in the shipping documents. Consequently, Allied Bank debited Marphil’s account for P1,913,763.45. This led to a legal battle, with Marphil arguing that Allied Bank, as a confirming bank, should bear the loss.
The Supreme Court addressed several critical issues, primarily focusing on the validity of Allied Bank’s debit memo and whether it constituted a new obligation for Marphil. The Court examined the role of Allied Bank in the L/C transaction, referencing the functions assumed by a correspondent bank as elucidated in Bank of America, NT & SA v. Court of Appeals:
In the case of [Bank of America], the functions assumed by a correspondent bank are classified according to the obligations taken up by it. In the case of a notifying bank, the correspondent bank assumes no liability except to notify and/or transmit to the beneficiary the existence of the L/C. A negotiating bank is a correspondent bank which buys or discounts a draft under the L/C. 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. A confirming bank is a correspondent bank which assumes a direct obligation to the seller and its liability is a primary one as if the correspondent bank itself had issued the L/C.
The Court agreed with the Court of Appeals (CA) and Regional Trial Court’s (RTC) findings that Allied Bank was not a confirming bank. A confirming bank assumes a direct obligation to the seller, as if it had issued the letter of credit itself. Instead, the Court determined that Allied Bank acted as a negotiating bank, which buys or discounts drafts under the L/C, giving it recourse against the exporter in case of dishonor by the issuing bank. This right of recourse is critical for banks engaging in international trade financing, as it provides a mechanism to recover funds when transactions fail.
Furthermore, the Supreme Court emphasized the significance of the Letter Agreement between Marphil and Allied Bank, which stipulated that Marphil would reimburse Allied Bank in case of non-payment. This agreement created an independent obligation for Marphil, separate from the obligations under the L/C itself. The Court cited Velasquez v. Solidbank Corporation to underscore this point, noting that such an undertaking is a separate contract with its own consideration—the promise to pay the bank if the draft is dishonored:
The letter of undertaking of this tenor is a separate contract the consideration for which is the promise to pay the bank the value of the sight draft if it was dishonored for any reason. The liability provided is direct and primary, without need to establish collateral facts such as the violation of the letter of credit connected to it.
The Court also addressed whether Allied Bank was justified in debiting Marphil’s account. Referencing Associated Bank v. Tan, the Court affirmed the principle of legal compensation, which allows a bank to debit a client’s account for the value of a dishonored check or draft. The conditions for legal compensation under Article 1279 of the Civil Code were met in this case, as both Allied Bank and Marphil were principal debtors and creditors of each other, with debts consisting of sums of money that were due, liquidated, and demandable.
The Court modified the legal interest imposed by the CA in conformity with Nacar v. Gallery Frames. The amount of P1,913,763.45 shall earn legal interest at the rate of six percent (6%) per annum computed from the time of judicial demand, i.e., from the date of the filing of the counterclaim in the Declaratory Relief Case on May 7, 1990, until the date of finality of this judgment. The total amount shall thereafter earn interest at the rate of six percent (6%) per annum from such finality of judgment until its satisfaction.
The Court also dismissed the claim of forum shopping, which Marphil alleged occurred when Allied Bank filed a separate collection case against the surety, Ireneo Lim. Forum shopping exists when a party repetitively avails of several judicial remedies in different courts, all substantially founded on the same transactions and facts. The Court found no forum shopping because the parties and causes of action in the two cases (the declaratory relief case and the collection case) were different. The collection case against Lim was based on his surety obligations, which are independent of Marphil’s loan obligations.
Finally, the Court addressed the validity of the writ of preliminary attachment issued against Lim’s property. It was found that the writ had been improperly issued because the allegations of fraud pertained to the execution of the promissory notes by Marphil, not to Lim’s obligations under the surety agreement. Citing Ng Wee v. Tankiansee, the Court emphasized that to justify an attachment based on fraud, the applicant must show that the fraud induced the other party to enter the agreement:
For a writ of attachment to issue under this rule, the applicant must sufficiently show the factual circumstances of the alleged fraud because fraudulent intent cannot be inferred from the debtor’s mere non-payment of the debt or failure to comply with his obligation. The applicant must then be able to demonstrate that the debtor has intended to defraud the creditor.
Because Allied Bank failed to establish fraud specifically related to Lim’s surety obligations, the Court ordered the dissolution of the writ of preliminary attachment.
FAQs
| What was the key issue in this case? | The key issue was whether Allied Bank, as a negotiating bank in a letter of credit transaction, had the right to debit Marphil’s account when the issuing bank dishonored the draft. The Court also examined if the filing of a collection case against the surety constituted forum shopping. |
| What is a letter of credit? | A letter of credit is a financial instrument used in international trade where an issuing bank guarantees payment to a seller (beneficiary) on behalf of a buyer (applicant), provided that the seller meets certain conditions. It is a common mechanism to reduce the risk in international transactions. |
| What is the role of a correspondent bank? | A correspondent bank acts on behalf of another bank, often to facilitate transactions in a foreign country. Depending on the functions assumed, it can act as a notifying, negotiating, or confirming bank, each with different levels of liability. |
| What is a confirming bank? | A confirming bank assumes a direct obligation to the seller (beneficiary) as if it had issued the letter of credit itself. This means the confirming bank guarantees payment independently of the issuing bank. |
| What is a negotiating bank? | A negotiating bank buys or discounts a draft under the letter of credit. Its liability depends on the stage of negotiation, but it generally has a right of recourse against the issuing bank and the exporter. |
| What is a surety agreement? | A surety agreement is a contract where one party (the surety) guarantees the debt or obligation of another party (the principal debtor) to a creditor. The surety is directly and primarily liable for the debt, jointly and solidarily with the principal debtor. |
| What is legal compensation? | Legal compensation occurs when two parties are debtors and creditors of each other, and their debts are extinguished to the concurrent amount. This requires that both debts are due, liquidated, demandable, and consist of sums of money or consumable things. |
| What is a writ of preliminary attachment? | A writ of preliminary attachment is a provisional remedy where a court orders the seizure of a defendant’s property as security for the satisfaction of a judgment that may be recovered. It is issued based on specific grounds, such as fraud in incurring the obligation. |
| What is forum shopping? | Forum shopping occurs when a party repetitively avails of several judicial remedies in different courts, all substantially founded on the same transactions, facts, and issues. It is prohibited because it vexes the courts and parties and can lead to conflicting decisions. |
The Marphil decision provides crucial guidance on the rights and obligations of parties involved in letter of credit transactions. It highlights the importance of clearly defining the roles and responsibilities of correspondent banks and the significance of independent agreements, such as the Letter Agreement, in managing risks. The ruling also reinforces the need for specific allegations of fraud to justify the issuance of a writ of preliminary attachment, ensuring the protection of debtors’ rights. This case sets a legal precedent for similar banking and trade finance disputes.
For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.
Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
Source: Marphil Export Corporation v. Allied Banking Corporation, G.R. No. 187922, September 21, 2016