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TransfieldPhilippines,Inc.vs.LuzonHydroCorporation
*

G.R.No.146717.November22,2004.

TRANSFIELD PHILIPPINES, INC., petitioner, vs. LUZON

HYDRO CORPORATION, AUSTRALIA and NEW ZEALAND
BANKING GROUP LIMITED and SECURITY BANK
CORPORATION,respondents.
Commercial Law Banks and Banking Letters of Credit Standby
CreditsWordsandPhrasesIncommercialtransactions,aletterofcredit
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
beforepayingGenerally,creditsinnonsalesettingshavecometobeknown
as standby credits.The letter of credit evolved as a mercantile specialty,
andtheonlywaytounderstandallitsfacetsistorecognizethatitisanentity
untoitself.Therelationshipbetweenthebeneficiaryandtheissuerofaletter
ofcreditisnotstrictlycontractual,becausebothprivityandameetingofthe
minds are lacking, yet strict compliance with its terms is an enforceable
right. Nor is it a thirdparty beneficiary contract, because the issuer must
honor drafts drawn against a letter regardless of problems subsequently
arisingintheunderlyingcontract.Sincethebankscustomercannotdrawon
the letter, it does not function as an assignment by the customer to the
beneficiary.Nor,ifproperlyused,isitacontractofsuretyshiporguarantee,
becauseitentailsaprimaryliabilityfollowingadefault.Finally,itisnotin
itselfanegotiableinstrument,becauseitisnotpayabletoorderorbearerand
is generally conditional, yet the draft presented under it is often negotiable.
Incommercialtransactions,aletterofcreditisafinancialdevicedeveloped
bymerchantsasaconvenientandrelativelysafemodeofdealingwithsales
of goods to satisfy the seemingly irreconcilable interests of a seller, who
refusestopartwithhisgoodsbeforeheispaid,andabuyer,whowantsto
have control of the goods before paying. 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
nonsalesettingswheretheyservetoreducetheriskofnonperfor

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*SECONDDIVISION.

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TransfieldPhilippines,Inc.vs.LuzonHydroCorporation

mance.Generally,creditsinthenonsalesettingshavecometobeknownas
standbycredits.
SameSame Same Same Commercial Credits and Standby Credits,
Distinguished.There are three significant differences between commercial
andstandbycredits.First,commercialcreditsinvolvethepaymentofmoney
underacontractofsale.Suchcreditsbecomepayableuponthepresentation
by the sellerbeneficiary of documents that show he has taken affirmative
steps to comply with the sales agreement. In the standby type, the credit is
payableuponcertificationofapartysnonperformanceoftheagreement.The
documents that accompany the beneficiarys 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
performedthecontract.
Same Same Same A letter of credit changes its nature as different
transactions occur and if carried through to completion ends up as a
bindingcontractbetweentheissuingandhonoringbankswithoutanyregard
or relation to the underlying contract or disputes between the parties
thereto.Bydefinition,aletterofcreditisawritteninstrumentwherebythe
writerrequestsorauthorizestheaddresseetopaymoneyordelivergoodsto
athirdpersonandassumesresponsibilityforpaymentofdebttherefortothe
addressee. A letter of credit, however, changes its nature as different
transactionsoccurandifcarriedthroughtocompletionendsupasabinding
contract between the issuing and honoring banks without any regard or
relationtotheunderlyingcontractordisputesbetweenthepartiesthereto.
Same Same Same Uniform Customs and Practice (UCP) for
Documentary Credits Since letters of credit have gained general
acceptabilityininternationaltradetransactions,theInternationalChamber
ofCommerce(ICC)haspublishedfromtimetotimeupdatesontheUniform
Customs and Practice for Documentary Credits to standardize practices in
theletterofcreditareaTheobservanceoftheUCPisjustifiedbyArticle2
of the Code of Commerce which provides that in the absence of any

particular provision in the Code of Commerce, commercial transactions

shallbegovernedbyusagesandcustomsgenerallyobserved.Sinceletters
ofcredithavegainedgeneralacceptabilityininternationaltradetransactions,
theICC
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has published from time to time updates on the Uniform Customs and
Practice(UCP)forDocumentaryCreditstostandardizepracticesintheletter
of credit area. The vast majority of letters of credit incorporate the UCP.
First published in 1933, the UCP for Documentary Credits has undergone
severalrevisions,thelatestofwhichwasin1993.InBankofthePhilippine
Islands v. De Reny Fabric Industries, Inc., this Court ruled that the
observance of the UCP is justified by Article 2 of the Code of Commerce
whichprovidesthatintheabsenceofanyparticularprovisionintheCodeof
Commerce, commercial transactions shall be governed by usages and
customsgenerallyobserved.Morerecently,inBankofAmerica,NT&SAv.
Court of Appeals, 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
applicabilityoftheUCPisundeniable.
Same Same Same Independence Principle Under the
independenceprinciple,banksassumenoliabilityorresponsibilityforthe
form, sufficiency, accuracy, genuineness, falsification or legal effect of any
documents,orforthegeneraland/orparticularconditionsstipulatedinthe
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
thegoods,oranyotherpersonwhomsoever.Article3oftheUCPprovides
thatcredits,bytheirnature,areseparatetransactionsfromthesalesorother
contract(s)onwhichtheymaybebasedandbanksareinnowayconcerned
withorboundbysuchcontract(s),evenifanyreferencewhatsoevertosuch
contract(s)isincludedinthecredit.Consequently,theundertakingofabank
topay,acceptandpaydraft(s)ornegotiateand/orfulfillanyotherobligation
underthecreditisnotsubjecttoclaimsordefensesbytheapplicantresulting
fromhisrelationshipswiththeissuingbankorthebeneficiary.Abeneficiary

caninnocaseavailhimselfofthecontractualrelationshipsexistingbetween
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
creditoncethedraftandtherequireddocumentsarepresentedtoit.Theso
calledindependenceprincipleassuresthesellerorthe
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beneficiary of prompt payment independent of any breach of the main

contract and precludes the issuing bank from determining whether the main
contractisactuallyaccomplishedornot.Underthisprinciple,banksassume
no liability or responsibility for the form, sufficiency, accuracy,
genuineness,falsificationorlegaleffectofanydocuments,orforthegeneral
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.
SameSameSameSameTheindependentnatureoftheletterofcredit
may be: (a) independence in toto where the credit is independent from the
justification aspect and is a separate obligation from the underlying
agreement or (b) independence may be only as to the justification aspect,
though 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
abuseofthecredit.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
lightofthepurposeofthecreditthepaymentofthecreditwouldconstitute
fraudulentabuseofthecredit.
Same Same Same Same The independence principle liberates the
issuing bank from the duty of ascertaining compliance by the parties in the
main contract As it is, the independence doctrine works to the benefit of
both the issuing bank and the beneficiary.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. Precisely, the independence
principleliberatestheissuingbankfromthedutyofascertainingcompliance
by
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the parties in the main contract. As the principles nomenclature clearly

suggests,theobligationundertheletterofcreditisindependentoftherelated
andoriginatingcontract.Inbrief,theletterofcreditisseparateanddistinct
from the underlying transaction. Given the nature of letters of credit,
petitioners argumentthat it is only the issuing bank that may invoke the
independenceprincipleonlettersofcreditdoesnotimpressthisCourt.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
usedincommercialtransactions.Asitis,theindependencedoctrineworksto
thebenefitofboththeissuingbankandthebeneficiary.
SameSameSameSameGuaranteeJurisprudence 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 prerequisite for the
release of funds under a letter of credit.Petitioners argument that any
disputemustfirstberesolvedbytheparties,whetherthroughnegotiationsor
arbitration,beforethebeneficiaryisentitledtocallontheletterofcreditin
essence would convert the letter of credit into a mere guarantee.
Jurisprudencehaslaiddownacleardistinctionbetweenaletterofcreditand
a guarantee in that the settlement of a dispute between the parties is not a
prerequisiteforthereleaseoffundsunderaletterofcredit.Inotherwords,
theargumentisincompatiblewiththeverynatureoftheletterofcredit.Ifa
letterofcreditisdrawableonlyaftersettlementofthedisputeonthecontract
enteredintobytheapplicantandthebeneficiary,therewouldbenopractical
andbeneficialuseforlettersofcreditincommercialtransactions.
SameSameSameSameOwingtothenatureandpurposeofstandby
lettersofcredit,banksareleftwithlittleornoalternativebuttohonorthe
creditorthecallforpayment.Whileitisthebankwhichisboundtohonor
thecredit,itisthebeneficiarywhohastherighttoaskthebanktohonorthe
credit by allowing him to draw thereon. The situation itself emasculates
petitioners posture that LHC cannot invoke the independence principle and

highlightsitspuerility,moresointhiscasewherethebanksconcernedwere
impleaded as parties by petitioner itself. Respondent banks had squarely
raisedtheindependenceprincipletojustifytheirreleasesoftheamountsdue
undertheSecurities.Owingtothenatureandpurposeofthestandbyletters
ofcredit,thisCourtrulesthatthe
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