Transfield Philippines vs Luzon Hydro

Electric Corp. GR No 146717, Nov

22, 2004
MARCH 15, 2014LEAVE A COMMENT
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.
Facts: Transfield Philippines (Transfield) entered into a turn-key contract with Luzon Hydro
Corp. (LHC).Under the contract, Transfield were to construct a hydro-electric plants in
Benguet and Ilocos. Transfield was given the sole responsibility for the design, construction,
commissioning, testing and completion of the Project. The contract provides for a period for
which the project is to be completed and also allows for the extension of the period provided
that the extension is based on justifiable grounds such as fortuitous event. In order to
guarantee performance by Transfield, two stand-by letters of credit were required to be
opened. During the construction of the plant, Transfield requested for extension of time citing
typhoon and various disputes delaying the construction. LHC did not give due course to the
extension of the period prayed for but referred the matter to arbitration committee. Because
of the delay in the construction of the plant, LHC called on the stand-by letters of credit
because of default. However, the demand was objected by Transfield on the ground that there
is still pending arbitration on their request for extension of time.

Issue: Whether or not LHC can collect from the letters of credit despite the pending
arbitration case

Held: Transfield’s 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.

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.

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.

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.