In this presentation, Marc Lemieux, partner at FMC, gives an introduction to letters of credit for banking lawyers

1. AN INTRODUCTION TO LETTERS OF
CREDIT FOR BANKING LAWYERS
Presented by Marc Lemieux
+1 514 878 8806
Marc.lemieux@fmc-law.com
November 19, 2012

2. OVERVIEW
• What are letters of credit (LCs)?
• For what commercial purposes are LCs used?
• What roles do Canadian banks play in LC transactions?
• Who are the parties to a LC transaction and what are the
applicable legal rules?
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3. WHAT ARE LCs?

4. DEFINITION OF LCs
• LCs are:
– Irrevocable undertakings issued by banks and other financial
institutions (referred to as Issuing Banks for convenience)
– At the request and for the account of Applicants
– To pay a stipulated amount to Beneficiaries (at sight or on a stipulated
future date)
– Upon the presentation of documents appearing to comply with the
stipulated requirements
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5. FOR WHAT COMMERCIAL PURPOSES ARE
LCs USED?

6. COMMERCIAL PURPOSES
• LCs are used as:
– A form of payment
• To pay the price for the (usually but not restricted to international) sale of
goods or services (they are then referred to as “Commercial LCs”)
• Advantages of Commercial LCs over other forms of payment in sale
agreements
– A form of security
• To guarantee the payment of other (domestic or international) obligations
(they are then referred to as “Standby LCs”)
– Bid, performance, payment and other guarantees in international projects
– Obligations to pay judgment awards
– Commercial leases, etc.
• References to Standby LCs in this presentation include instruments known
as “Letters of guarantee” or “Demand Guarantees”
• Advantages of Standby LCs over other forms of security
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7. WHAT ROLES DO CANADIAN BANKS PLAY IN
LC TRANSACTIONS?

8. ROLE OF CANADIAN BANKS
• Commercial LCs
– Issue Commercial LCs (referred to as “Import LCs”) for the account of
their clients who are buyers (or importers) of goods sold by a (typically
foreign) seller (exporter)
– Advise, confirm or negotiate Commercial LCs (referred to as “ Export
LCs ”) issued by (typically foreign) banks for the account of foreign
buyers of goods sold by the banks’ clients who are sellers (exporters)
• Standby LCs
– Issue Standby LCs for the account of their clients who are debtors of
(foreign or domestic) creditors under a contract or by operation of law
– Advise or confirm Standby LCs issued by other (domestic or foreign)
banks for the account of (foreign or domestic) debtors in favour of
their clients who are creditors
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9. WHO ARE THE PARTIES TO A LC
TRANSACTION AND WHAT ARE THE
APPLICABLE LEGAL RULES?

10. THE PARTIES AND THEIR RELATIONSHIPS
• The Applicant and the Beneficiary
• The Applicant and the Issuing Bank
• The Issuing Bank and the Beneficiary
• The rights and obligations of the Advising Bank
• The rights and obligations of the Confirming Bank
• The rights and obligations of the Negotiating Bank
• Guarantees and Counter-Guarantees
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11. THE CORE PARTIES
Applicant Beneficiary
Issuing Bank
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12. THE APPLICANT AND THE BENEFICIARY
• The legal relationship between the Applicant and the
Beneficiary is based
– In Commercial LCs, on an underlying (and usually international)
contract of sale (where the Applicant is the buyer and the Beneficiary
is the seller)
– In Standby LCs, on a (domestic or international) underlying contract or
by operation of (domestic or international) law
• Banks are strangers to the Applicant-Beneficiary relationship
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13. THE APPLICANT AND THE ISSUING BANK
• The legal relationship between the Applicant and the Issuing
Bank is based on an agreement respecting the issuance of a
letter of credit
• Form 1003 at RBC and as the case may be a credit agreement
between the parties:
– Request the Issuing Bank to issue a LC
– Grant the Issuing Bank the authority to pay the LC upon the
presentation of conforming documents
– Provide for the reimbursement to the Issuing Bank of all amounts paid
under the LC, commissions for the issuance of the LC, expenses
incurred (including legal expenses) and interest
– As the case may be provide security for the amounts to be owed by the
Applicant to the Issuing Bank
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14. THE ISSUING BANK AND THE BENEFICIARY
• The terms of the LC
– Documents to be presented
– Expiry date (and renewal thereof)
• Rules of the International Chamber of Commerce (ICC)
– Commercial LCs: Uniform Customs and Practices (UCP) 600
– Standby LCs: International Standby Practices (ISP) 98, Uniform Rules
for Demand Guarantees (URDG) 758 or UCP 600
– Avoid higher risk LCs which do not explicitly refer to ICC rules
• Residual applicable law
– The Canadian example of Angelica Whitewear (discussed below)
– Local law in the beneficiary’s country may also apply
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15. (CONTINUED)
• Documents
– Commercial LCs:
• Draft demand for payment
• Purchase order
• Commercial invoice
• Bill of lading or other transport document
• Packing list, certificate of origin, certificate of inspection or quality
• Insurance policy
– Standby LCs:
• Draft/demand for payment
• As the case may be, a certificate of default confirming with or without
detail that an amount has become due and payable
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16. (CONTINUED)
• ICC Rules
– The autonomy principle
• LCs are independent from the underlying contracts and other legal
obligations
• Banks deal in documents and are not concerned with disputes between
the Applicants and the Beneficiaries
– The examination of documents
• Documents must “appear to comply”
• Discrepancies of no material impact
• Waiver of discrepancies by the Applicant
• Loss of right to raise discrepancies (if none raised within the applicable and
short examination period)
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17. THE ADVISING BANK
Applicant Beneficiary
Issuing Bank Advising Bank
• LCs are rarely sent directly to Beneficiaries
• Advising Banks simply check the authenticity of LCs and inform the Beneficiaries of
the issuance of LCs in their favour; they incur no liability to pay under the advised
LCs
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18. THE CONFIRMING BANK
Applicant Beneficiary
Issuing Bank Confirming Bank
• The Confirming Bank (which can also be the Advising Bank) adds its own
undertaking to pay the LC upon the presentation of complying documents to the
Issuing Bank’s undertaking (and has a reimbursement claim against the Issuing
Bank)
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19. THE NEGOTIATING BANK
Applicant Beneficiary
Issuing Bank Negotiating Bank
• Commercial LCs available by negotiation enable third parties (referred to for
convenience as Negotiating Banks) to purchase from the Beneficiaries for a
discounted value the documents to be presented to Issuing Banks under LCs
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20. COUNTER-GUARANTEES
• In international projects, counter-guarantees by Canadian
banks in favour of foreign banks can facilitate the issuance of
local guarantees which Canadian exporters of services are
required to deliver to Beneficiaries in foreign countries
• In Canadian projects, guarantees issued by Canadian banks in
favour of Canadian project proponents can be supported by
counter-guarantees issued by banks in the country of the
suppliers of services to the Canadian proponent
• Such cross-border structures can raise challenges for Canadian
banks due to exposure to foreign laws or the orders of foreign
courts
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21. The preceding presentation contains examples of the kinds
of issues companies looking at Alternative Dispute
Resolution could face. If you are faced with one of these
issues, please retain professional assistance as each
situation is unique.

22. Thank you!
Marc.lemieux@fmc-law.com
+1 514 878 8806
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