XING FA (HONG KONG) IMP. & EXP. LTD v. SUNGSAN INTERNATIONAL CO., LTD

HCA 2511/2018

[2018] HKCFI 2743

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 2511 OF 2018

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DECISION

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Introduction

1.  In this application the applicant bank applies to vary an injunction order made by Deputy High Court Judge To (“the Injunction”) by permitting the payment of various letters of credit (“the Letters of Credit”) to the applicant bank.  The application is based upon the simple proposition thatthe Letters of Credit are documents that should be paid save in exceptional circumstances.  The existence of a dispute between the plaintiff and the defendant is not an exceptional circumstance unless there is a fraud, in which case what is often known as the “Fraud Exception” applies.  The plaintiff alleges fraud of the defendant (amongst other things), but the applicant says that the Fraud Exception does not apply to the facts of this case.

2.  The plaintiff resists the application.  The essence of its resistance can be summarised in the following propositions:

(1)   The applicant bank is not a negotiating bank under the Letters of Credit and therefore cannot take advantage of the ordinary rule that letters of credit should be paid absent the Fraud Exception.

(2)   A variation of the Injunction of the type sought by the applicantwould have the practical effect of rendering the Injunction futile. It amounts, in effect, to an appeal of the Injunction.Deputy High Court Judge To has not yet handed down his reasons for granting the Injunction in the first place, and in any event the matter is under appeal and is due to be heard in the Court of Appeal on 16 January 2019.  In all the circumstances it would be more appropriate to wait before determining this application.  Both the lack of reasons of the original judge, and the pending appeal are, so says the plaintiff, reasons to dismiss the application.

(3)   There is no real interference with the business of the applicant because the amount at stake is only US$6 million, and in comparison to the overall size of applicant that is insignificant.

(4)   In any event the plaintiff has offered an undertaking as to damages in the normal way and that should suffice to protect the applicant, particularly as the money remains with the issuing banks under the Letters of Credit, and therefore there is no risk of any real loss to the applicant.

(5)   The plaintiff can in any event ask the issuing banks not to pay the Letters of Credit because the issuing banks now know of the fraud.  Therefore there is no purpose in varying the Injunction to allow payment.

The facts

3.  The plaintiff is a company incorporated in Hong Kong as a subsidiary of a parent listed in Shanghai.  It engages in trading goods.  The defendant is a company incorporated in the Republic of Korea engaged in rubber trading.

4.  In around February 2018 the plaintiff began purchasing industrial products from the defendant using trade financing by way of letters of credit to pay for the goods purchased.  The goods were generally due to be delivered to a warehouse in Shanghai run by a company known as Shanghai Pinju International Logistics Co., Ltd.

5.  The plaintiff alleges as against the defendant that in relation to at least seven of the contracts for the purchase of goods, the ordered goods were never delivered to the warehouse.  I have not been made aware of the details of the case against the defendant, save as set out in paragraph 6 of the plaintiff’s skeleton argument as follows:

“ 6. P managed to interview Mr Sung Jong Won (Mr Sung), the General Manager of D. P understood from him, inter-alia, the following:

the storage agreement between D and Shanghai Warehouse was forged.

The sales contracts between P and D which contained a Chinese arbitration clause were forged.

All sales contract, delivery orders, commercial invoices, and the packing list were prepared by Mao Zhengxin or his associates, and Mr Sung.

7.  In the circumstances, P submits that if the storage agreement between D and the Shanghai Warehouse was fault, then it follows that, inter-alia, the delivery order was also falsified as it pertains to an order to deliver the ordered goods which never existed in the first place.  This is expressly confirmed by the Xingshan Police.

8.   Thus, it is P’s stance that D is liable to return the contract sum is in the value of the 7 LCs, whether on grounds of breach of contract, unjust enrichment, fraud, or deceit, entitling P to damages, equitable compensation, or restitution.”

6.   Thus it appears that the case is based upon the causes of action of breach of contract, unjust enrichment, or fraud and deceit.

7.   I have seen an affirmation sworn by Mr Sung seeking to resist the continuation of the ex parte order when the return date was before Deputy High Court Judge To, but I express no comment on that matter, as the appropriateness or otherwise of granting the Injunction is not the question before me.

8.  In terms of the financing for the various contracts entered into between the plaintiff and defendant, the letters of credit were issued by various banks.  The five that are relevant to this application were all addressed initially to KEB Hana Bank, but all expressly make the credit available either to:

“ any bank in South Korea … by negotiation”

Or alternatively to:

“ any bank … by negotiation”.

9.  There is no dispute that the applicant falls within the definition of “any bank”, and also falls within the definition of “any bank in South Korea”.  The only dispute is whether the applicant is a negotiating bank.

10.  In August 2015 the applicant entered into a “Forfaiting Agreement” with the defendant by which the applicant would purchase, at a discounted price and subject to certain fees being paid, the entitlement to be paid under various letters of credit of which the defendant was the beneficiary.  The Forfaiting Agreement set out the terms upon which such purchases were to be governed.  The applicant highlights that under Articles 2 and 5 of the Forfaiting Agreement the applicant has no recourse against the Defendant in the event that the issuing bank issues the acceptance note under any relevant letter of credit. When the acceptance note is issued, the applicant becomes obliged to advance the agreed financing to the defendant in consideration of its purchase of the relevant letter of credit.

11.  The plaintiff highlights various other provisions of the Forfaiting Agreement.  It says that the Forfaiting Agreement is governed by the law of Korea, as a result of which it says this court should not seek to construe it; there is no evidence proving its validity or enforceability; Article 6 provides exceptions to the proposition that the applicant has no recourse against the defendant; Article 7 contains representations and warranties made to the applicant by the defendant and the defendant is clearly in breach of those representations and warranties. Thus the plaintiff says the applicant can recover its money from the defendant.

12.  On various dates between 27 July 2018 and 20 September 2018 the applicant accepted the purchase, under the Forfaiting Agreement, of the five Letters of Credit that are the subject of this application.  KEB Bank then presented to the applicant the relevant documentation necessaryto call upon the Letters of Credit.  The applicant thereafter submitted thosedocuments to the issuing banks.  I have seen the documentary remittances by which this was done exhibited the affirmation of Kim Young Wan.

13.  Subsequent to the documentary remittance, the issuing banks confirmed their acceptance by way of swift messages to applicant.  The details are set out in paragraph 11 of Mr Kim’s affirmation and have been summarised in a table prepared by the plaintiff’s solicitors, at page 138 of bundle.  It is clear that the issuing banks acceptance of the obligations under the Letters of Credit occurred between 1 August 2018 and 27 September 2018.  On each of the dates when the acceptance was made, the issuing banks became obliged to pay the applicant at the Maturity Date, which according to the table prepared by the plaintiff’s solicitors varies from 24 October 2018 to 18 December 2018.

14.  As a result of the acceptances by the issuing banks, the applicant then proceeded to pay KEB Hana Bank, for the benefit of the defendant,pursuant to the Forfaiting Agreement.  The dates of payment are set out in paragraph 12 of Mr Kim’s affirmation and are confirmed by the message from KEB Bank to the applicant dated 6 November 2018 at page 100 of the bundle.

15.  On 23 October 2018 the plaintiff made an ex parte applicationto Deputy High Court Judge To for a Mareva injunction order, freezing theassets of the defendant on a worldwide basis up to the value of US$9,276,000, based upon the causes of action I have mentioned above.

16.  Under the heading “Third Parties” at paragraph “(5)” the Injunction contains the following terms:

“ Payment under Letters of Credit: From the date of this Order, the banks shall not effect any transfer of or continue to payment out any sum of money under the letters of credit subject of this action, namely, the following [sic]:

Contract No.	Amounts (USD)	L/C Number	Bank
SSI 1806-021	1,290,000	OFPBI1800016	Bank of Communications Co., Ltd
SSI 1807-003	1,339,200	LC302NL1802446	Industrial and Commercial Applicant (Asia) limited
SSI 1807-017	1,339,200	LC302NL1802638	Industrial and Commercial Applicant (Asia) limited
SSI 1807-021	1,382,400	LC302NL180 680	Industrial and Commercial Applicant (Asia) limited
SSI 1808-002	1,290,000	110LC1800215	Industrial Bank Co., Ltd
SSI 1808-027	1,296,000	110LC18000243	Industrial Bank Co., Ltd
SSI 1808-005	1,339,200	110LC18000261	Industrial Bank Co., Ltd

17.  The return date for the inter partes summons was on 2 November 2018, and despite an application by the defendant to discharge, the judge confirmed the Injunction.

18.  Of those letters of credit listed in the Injunction, numbersLC302NL1802446 and OFPBI1800016 have already been paid and are not the subject of this application by the applicant.  However the applicant now applies, by summons dated 29 November 2018, for a variation of the Injunction by adding the following words to that part of the order that I have quoted above:

“ Save and except:

(i) The Industrial and Commercial Bank of China (Asia) limited shall be allowed to effect payment to Bank of China, Seoul Branch under the letters of credit LC302NL1802638, LC302NL180680; and

(ii) The Industrial Bank Co,. Ltd shall be allowed to effect payment to Bank of China, Seoul Branch under the letters of credit 110LC1800215, 110LC18000243, 110LC18000261”

19.  The consequence of allowing that variation is that the issuing banks under those five Letters of Credit will no longer be prevented by the Injunction from effecting payment to the applicant. Whether the issuing banks in fact pay may be open to greater question in the light of the submission by the plaintiff that they will be prevented from paying as a result of notice of the alleged fraud.  However I make no comment as to that as the matter is not before me and I have no desire to cause any prejudice to any party if such arguments do in fact arise.

Is the applicant a negotiating bank

20.  The plaintiff suggests that the applicant is not a negotiating bank.  In support of this proposition it suggests that there is no evidence of Korean law showing that the applicant is considered to be the negotiating bank, the applicant did not comply with all the various Anti-Money Laundering requirements that the plaintiff says would be required to become a negotiating bank, and the applicant has in reality simply become entitled to money as a result of the Forfaiting Agreement, and not as a result of becoming the negotiating bank.

21.  It also says that the applicant is not a bona fide holder of the Letters of Credit.  The plaintiff suggests that this issue requires the application of Korean law because, to quote the plaintiff’s skeleton argument:

“ 41 There is no foundation for BOC’s claim that they are holding the Subject LCs in bona fide. This issue calls upon the application of Korean law:

41.1 As set out above, whether BOC is even a holder of the Subject LC is dubitable, and there is no basis to say so.

41.2 There is no evidence as to how bona fide is to be determined in Korean law. Whether there is even a concept of bona fide in Korean law is also in question.

41.3   Furthermore, it is unclear how being a bona fide holder is relevant to the present case when there is no conceptualisation of whether BOC is a trustee or owner of chose in action or an agent etc.”

22.  I do not accept these submissions.  A Hong Kong court has issued an injunction order which has the effect of preventing the applicant from collecting upon the Letters of Credit. The Letters of Credit are international documents and are expressly subject to the Uniform Customs and Practice on Documentary Credits (2007 revisions) issued by the ICC.  Thatdocument is usually known as “UCP 600”.  It does not require an analysisof Korean law to conclude whether or not the applicant is entitled to claim under the Letters of Credit.

23.  Under the terms of Article 2 of UCP 600 the following definitions are relevant:

“ Negotiation means the purchase buy the Nominated bank of drafts (drawn on a bank other than the Nominated bank) and/or documents under a complying presentation, by advancing or agreeing to advance funds to the beneficiary on or before the banking day on which reimbursement is due to the Nominated bank.

Nominated Bank means the bank with which the credit is available or any bank in the case of a credit available with any bank.

Presentation means either the delivery of documents under a credit to the issuing bank or Nominated bank all the documents so delivered.”

24.  Under UCP 600 the notion of “the bank with which the credit is available” is not defined.  However as a matter of general usage and practice it is the bank that would accept drafts drawn by a beneficiary.  In this case by reference to the terms of the Letters of Credit, Clause 41a, it is clear that the credit is “Available with … any bank” or “any bank in South Korea”. Hence, given that there is no dispute that the applicant is both “any bank” and “any bank in South Korea”, I am satisfied that the applicant is a Nominated bank under the terms of the Letters of credit.

25.  Further, on the basis of the definition of “Negotiation”, I am satisfied that the applicant is a negotiating bank.  That is because it is a Nominated bank (for the reasons identified in the previous paragraph) and it has “purchased drafts and/or documents under a complying presentation, by advancing or agreeing to advance funds to the beneficiary on or before the banking day on which reimbursement is due to the Nominated bank.”

26.  In my mind therefore there can be no doubt that the applicant is indeed a negotiating bank under the Letters of Credit.

27.  As a result the applicant has an interest in the Letters of Creditthat it is entitled to enforce, subject only to operation of the Fraud Exception.   

28.  In this context, as indicated above I note that the way in which the plaintiff puts its case as against the defendant is not only in respect of fraud, but also in respect of breach of contract and unjust enrichment.  A claim for breach of contract and unjust enrichment cannot invoke the fraud exception to undermine the unequivocal obligation to pay on presentation of compliant documents. 

29.  However I shall proceed to address the Fraud Exception in any event because the claim is also said to be put in fraud.

30.  It is appropriate to articulate the well known general principle that documentary credits are autonomous contracts whose operation is not to be interfered with by the court on grounds extraneous to the credit itself. In the textbook Jack: Documentary Credits, the authors quote Bank of NoviaScotia v Angelica-Whitewear [1987] SCR 59 at 81 per Le Dain J as follows:

“ the fundamental principle governing Documentary letters of credit and the characteristic which gives them their internationalcommercial utility and efficacy is that the obligation of the issuing bank to honour a draft on a credit when it is accompanied by documents which appear on their face to be in accordance with the terms and conditions of the credit is independent of the performance of the underlying contract for which the credit wasissued. Dispute between the parties to the underlying contract concerning its performance cannot as a general rule justify a refusal by an issuing bank to honour a draft which is accompaniedby apparently conforming documents. This principle is referred to as the autonomy of documentary Credits.”

31.  In order to satisfy a court that an interlocutory injunction should be granted to restrain payment of a valid letter of credit the plaintiff must show clear and cogent evidence both of the fact of the fraud and of the banks knowledge of the fraud.  The same is true when a plaintiff has obtained an interlocutory injunction and a third party bank seeks to have it varied so as to allow payment under a letter of credit.  There must be strong and compelling corroborative evidence of the fraud. 

32.  As stated by Ackner LJ in United Trading Corporation SA v Allied Arab Bank Ltd [1985] 2 Lloyd’s Rep 554 at 561:

“ if the court considers that on the material before it the only realistic inference to draw is that of fraud, then the seller would have made out a sufficient case of fraud”

33.  I note in this case that the same facts are alleged to give rise to the causes of action of breach of contract and unjust enrichment as well as to fraud.  It seems to me in such circumstances to be difficult to reach the conclusion that the only realistic inference to draw from the facts is that of fraud.  However I leave that point aside at this stage, because the other matter which must be proved is the clear knowledge of bank of the alleged fraud.

34.  First it is clear that the knowledge of the bank needs to arise prior to the negotiation of the Letter of Credit.  Any fraud on the part of the original beneficiary which comes to light after negotiation but before the date of payment does not affect the issuing bank’s liability to reimburse the negotiating bank: DCD Factors Plc & Anor v Ramada Trading Ltd & Ors [2007] EWHC 2820 (QB).

35.  In this case there is no evidence at all of the applicant having any knowledge prior to the date of negotiation, which inevitably is completed by the time that the issuing bank issues its acceptance. 

36.  The case of the plaintiff as to the factors which give rise to the knowledge of the applicant, and the date on which that knowledge is said to arise, is, with respect, not entirely clear.  In paragraph 37 of its skeleton argument for this application its allegation as to knowledge is set out as follows:

“ ICBC and IBC [the issuing banks] now have knowledge of the fraud and are entitled to not pay out under the LCs; and

P has the right to object to payment being made.  Even if BOCwas not a conspirator to the fraudulent scheme, paying out under the LCs to BOC would be to give effect to LCs procured by fraud.”

37.  I should state that there is no evidence at all of the applicant being a conspirator to the fraudulent scheme.  I therefore dismiss this suggestion, based upon the evidence before me.  The plaintiff then goes on to allege that there were numerous “red flags” available to the applicant bywhich it appears to be being suggested that the applicant obtained knowledge of the fraud:

“ the transactions carried out by the D were not in line with its normal line of business …

The industrial product was manufactured in Taiwan but stored in China. There is no connection with the Republic of Korea.

There is also an unusual transactions structure.  The supplier of the industrial products to D and the ultimate purchaser of the same are based in China, and the industrial products are stored in China.  There is no apparent reason why the supplier and theultimate purchaser needs to go through a detour via a companybased in Korea.  D’s role is superfluous and added no value to the transactions”

38.  There is no basis upon which it is said that the applicant knewabout these matters, or why, even if the applicant did know of them, these matters would give rise to the knowledgenecessary to trigger the Fraud Exception.  There is certainlyno suggestion that they knew about such matters prior to the completion of the negotiation of the Letters of Credit, which in the relevant time.  I do not accept the submission that the Fraud Exception applies.

39.  In all the circumstances I cannot see any legitimate basis, arising from the legal relationships that exist, upon which the applicant should be denied the variation which it seeks.

Is this application an appeal of the Injunction

40.  However I must go on to address, albeit more briefly, the other grounds of opposition raised by the plaintiff.

41.  I do not accept the plaintiff’s submissions that to grant a variation of the Injunction of the type sought would necessarily be such as to render the Injunction futile, and in my view it would not amount effectively to an appeal of the grant of the Injunction. 

42.  It is inherent within any injunction order that a third party that is affected by the terms of the injunction has a right to apply to discharge or vary that order insofar as it affects his business.  This is a standard provision contained within any injunction, and express provision is made within this Injunction for anyone notified of it to apply to the court to vary or discharge it (or so much of it as affects that person) provided they inform the plaintiff’s solicitors.

43.  Accordingly it is clear that the applicant has an absolute and unfettered right to apply to this court to vary the Injunction insofar as it affects its business.  The fact that the judge who granted the Injunction has not handed down reasons cannot, as a matter of principle, be a reason to refuse a variation.  Neither can the fact that the Injunction is under appeal.  I can see that such matters may be relevant to the ultimate discretion to be exercised, but I do not accept, as was suggested by the plaintiff, that I must inevitably refuse the application on these grounds.

44.  As a matter of discretion, I do not accept that these factors should prevent me from granting the application.  The Injunction is a freezing injunction over the assets of the defendant, who is alleged to be the fraudster.  On the facts, it would appear that the price of the allegedgoods was transferred by the applicant to KEB Hana Bank for the benefit of the defendant on various dates between 1 August 2018 and 27 September 2018 as set out in paragraph 12 of the affirmation of Mr Kim.

45.  The Injunction is dated 23 October 2018.  Although I do not know if or when the order was notified to KEB Hana Bank, the Injunction would freeze the funds paid by the applicant in the hands of the defendant at KEB Hana Bank to the extent that they remained in KEB Hana Bank as at 23 October 2018.  That will remain the case irrespective of whether or not the issuing banks make any payment under the Letters of Credit to the applicant.  In any event the Injunction freezes the assets of the defendant with effect from that date wherever those assets are located.

46.  As a result, it is clear to me that the Injunction will not be rendered futile in the event that I allow the variation. 

47.  What is likely to happen is that the issuing banks will make thepayment and then call upon the plaintiff for reimbursement of the amounts that they have so paid.  There is no evidence before me of the terms as between the plaintiff and the issuing banks upon which the issuing banks issued the Letters of Credit, but assuming normal commercial terms it is likely that as soon as those issuing banks are required to make payment (or at least within the credit limits agreed) they will seek reimbursement from the plaintiff.  Therefore in reality what the plaintiff is seeking is to avoid having to pay the issuing banks, and thereby it is seeking to transfer the risk of non-payment by the defendant from itself to the applicant.  That is consistent with its submissions that the applicant has a cause of action against the defendant under the Forfaiting Agreement.

48.  In my view that makes it clear that the granting of the variation will not render the Injunction futile, will not affect the appeal in any way, and should not be dependent upon the reasons of the Deputy Judge for his decision to grant the Injunction in the first place.

49.  The effect of granting the variation will simply be to cause theplaintiff to be out of pocket as a result of any fraud by the defendant ratherthan the applicant being out of pocket (as is currently the case).  Whichever party is out of pocket will take the risk of non-payment by the defendant.  That non-payment risk is currently ameliorated by the Injunction, and that amelioration will continue irrespective of any discharge.  So the variation will not change the position at all save to transfer the risk from the applicant to the plaintiff.  Absent the fraud exception it is appropriate that the risk is taken by the plaintiff and not the applicant.

50.  Indeed, it may be said that the applicant is in fact not protected by the Injunction at all, because the applicant is not a defendant. 

51.  Hence, as a matter of the overall discretion, as between the plaintiff and the applicant, in my view the balance weighs in favour of the variation.

The applicant has a legitimate interest to protect by a variation

52.  The plaintiff contends that the applicant has no interest in, and therefore no entitlement to apply to vary the Injunction.  Its original stance in this respect was that the applicant only has a mere commercial interest and that is insufficient.  That stance was developed in oral submissions to the effect that because the amount at stake was “only” approximately US$6 million, in comparison to the size of the applicant it would not be appropriate to allow the variation.

53.  I reject these submissions.  The applicant has a legitimate interest, albeit a commercial interest, in protecting its business and if, all other things being equal, it would be entitled to a variation of the InjunctionI can see no basis upon which the amount of the commercial interest affects its entitlement.

The undertaking as to damages

54.  The plaintiff suggests that the undertaking as to damages which it offered in the normal way when obtaining the Injunction is sufficient to protect the interests of the applicant.  I do not agree.  As was stated by Kerr LJ in Galaxia Maritime v Mineralimportexport [1982] 1 WLR 539 at 542:

“ A Plaintiff seeking to secure an alleged debt or damages due from the Defendant, by an order preventing the disposal of assets of the Defendant, cannot possibly be entitled to obtain the advantage of such an order for himself at the expense of the business rights of an innocent third party, nearly by proffering him an indemnity in whatever form.”

55.  If the applicant is otherwise entitled to a variation, the offering of an undertaking does not alter that position.

The plaintiff can ask the issuing banks not to pay anyway

56.  The plaintiff suggests that it can in any event ask the issuing banks not to pay the Letters of Credit because the issuing banks now know of the fraud.  It therefore suggests that there is no purpose in varying the injunction to allow payment.

57.  I have touched upon this issue above.  I will not address in detail whether the plaintiff’s proposition is correct or not.  That will have to be addressed if and to the extent that the issuing banks refused to pay on this basis and there is subsequent argument about it.  Suffice to say at this stage that I do not consider this to be a valid reason to refuse the variation.

Conclusion and disposition

58.  In all the circumstances I grant the variation sought.

59.  Paragraph (5) under the heading of “Third Parties” in the Injunction Order shall be varied to include the following words:

“ Save and except:

(i) The Industrial and Commercial Bank of China (Asia) Limited shall be allowed to effect payment to Bank of China, Seoul branch under the letters of credit LC302NL1802638, LC302NL1802680; and

(ii) The Industrial Bank Co., Ltd shall be allowed to effect payment to Bank of China, Seoul branch under the letters of credit 110LC18000215, 110LC118000243, 110LC18000261.”

Costs

60.  There shall be a costs order nisi that the plaintiff is to pay the costs of the applicant to be taxed on a standard basis if not agreed.