Transfield Phils vs Luzon Hydro

G.R. No. 146717, November 22, 2004

On March 26, 1997, petitioner Transfield Philippines and respondent Luzon Hydro
Corporation (LHC) entered into a Turnkey Contract, whereby petitioner, as Turnkey
Contractor, undertook to construct, on a turnkey basis, a seventy Megawatt hydroelectric power station (project) at the Bakun River in Benguet and Ilocos Sure. The
Turnkey Contract provided that: the target completion date of the project shall be on
June 1 200, or any later date that may be agreed upon between petitioner and
respondent or otherwise determined in accordance with the Turnkey Contract; and
petitioner is entitled to claim extensions of time (EOT) for reasons enumerated in
the Turnkey Contract which includes variations, force majeure, and delays caused by
LHC itself. In case of dispute, the parties are to settle their differences through
mediation, conciliation and other means enumerated under the Turnkey Contract.
To secure performance of petitioners obligation, it opened in favor of LHC, two
standby letters of credit (Securities) both dated March 20, 2000 with respondent
banks ANZ Bank and SBC, each amounting to $8,988,907.00.
Before completing the project, petitioner sought various EOT allegedly due to
several factors such as force majeure occasioned by typhoon Zeb, barricades and
demonstrations. LHC, however, denied the request, giving rise to a series of legal
actions between the parties.
On June 1, 1999, LHC filed a request for Arbitration before the Construction Industry
Arbitration Commission (CIAC). Petitioner also filed a request for arbitration before
the International Chamber of Commerce (ICC) on November 3, 200. Both
proceedings sought to answer the issues on whether typhoon Zeb and any of its
associated events constituted force majeure to justify the EOTs; and whether LHC
had the right to terminate the Turnkey Contract for failure of petitioner to complete
the project on target date.
Meanwhile, petitioner sent two letters advising respondent banks of the arbitration
proceedings that are pending and asserted that LHC had no right to call on the
Securities until the resolution of the arbitration proceedings. Petitioner warned the
banks that any transfer, release, or disposition of Securities to LHC would constrain
it to hold respondent banks liable for liquidated damages.
LHC on June 27, 2000 sent notice to petitioner that it failed to comply with its
obligation to complete the Project. Despite of the letters of the petitioner, both
banks informed petitioner that they would pay on the Securities if and when LHC
calls on them.
LHC on the other hand asserted that additional extension of time would not be
warranted; accordingly, LHC declared petitioner in default and demanded payment

from petitioner of $75,000.00 for each delay beginning June 28, 2000 until actual
completion of the project. LHC also notified petitioner that it would call on the
securities for payment of liquidated damages for the delay.
Petitioner then filed a Complaint for Injuction with prayer for TPO and writ of
preliminary injunction against LHC before the RTC, seeking to restrain LHC from
calling on the securities and respondent banks from transferring, paying on, or in
any manner disposing of the Securities. A 72-hour TPO was issued by the RTC of
Makati. After appropriate proceedings, the RTC issued an order extending the TPO
for a period of 17 days or until November 26, 2000.
The RTC in its Order dated November 24, 2000 denied petitioners application for a
writ of PI ruling that it had no legal right and suffered no irreparable injury. The RTC
employed the principle of independent contract in letters of credit.
The case was elevated to the CA via certiorari under Rule 65. In a resolution, the CA
issued a TPO. The CA however failed to act on writ of PI until the TPO was expired.
LHC then withdrew the total amount of $4,950,000.00 from respondent banks.
The CA later on dismissed the petition for certiorari and expressed its conformity
with the RTCs decision. Hence, this petition.
Issue: Whether the respondent can rightfully call on the Securities, despite the
disputes between the parties in the arbitral tribunals.
Ruling: YES.
Letters of Credit
In commercial transactions, a letter of credit 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
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 non-sale settings where they serve to reduce the
risk of nonperformance. Generally, credits in the non-sale settings have come to be
known as standby credits.
There are three significant differences between commercial and standby credits.
First, commercial credits involve the payment of money under a contract of sale.
Such credits become payable upon the presentation by the seller-beneficiary of
documents that show he has taken affirmative steps to comply with the sales
agreement. In the standby type, the credit is payable upon certification of a party's
nonperformance of the agreement. The documents that accompany the
beneficiary's 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 performed the contract.
By definition, a letter of credit is a written instrument whereby the writer requests
or authorizes the addressee to pay money or deliver goods to a third person and
assumes responsibility for payment of debt therefor to the addressee.[33] A letter of
credit, however, changes its nature as different transactions occur and if carried
through to completion ends up as a binding contract between the issuing and
honoring banks without any regard or relation to the underlying contract or disputes
between the parties thereto.
Applicability of UCP
Since letters of credit have gained general acceptability in international trade
transactions, the ICC has published from time to time updates on the Uniform
Customs and Practice (UCP) for Documentary Credits to standardize practices in the
letter of credit area. It has been settled that absent any specific provisions
governing legal complexities arising from transactions involving LC, not only
between or among banks but also between banks and the seller of buyer, the UCP is
applicable.
Article 3 of the UCP provides that credits, by their nature, are separate transactions
from the sales or other contract(s) on which they may be based and banks are in no
way concerned with or bound by such contract(s), even if any reference whatsoever
to such contract(s) is included in the credit. Consequently, the undertaking of a
bank to pay, accept and pay draft(s) or negotiate and/or fulfill any other obligation
under the credit is not subject to claims or defenses by the applicant resulting from
his relationships with the issuing bank or the beneficiary. A beneficiary can in no
case avail himself of the contractual relationships existing between the banks or
between the applicant and the issuing bank.
The Independence Principle
Thus, 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.

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.
Respondent can rightfully invoke the independence principle, contrary to the
assertions of the petitioner. To say otherwise would render the purpose of the LC
inutile. The independence doctrine works for the benefit of both the issuing bank
and the beneficiary. Letters of credit are employed by the parties desiring to enter
into commercial transactions, not for the benefit of the issuing bank but mainly for
the benefit of the parties to the original transactions. With the letter of credit from
the issuing bank, the party who applied for and obtained it may confidently present
the letter of credit to the beneficiary as a security to convince the beneficiary to
enter into the business transaction. On the other hand, the other party to the
business transaction, i.e., the beneficiary of the letter of credit, can be rest assured
of being empowered to call on the letter of credit as a security in case the
commercial transaction does not push through, or the applicant fails to perform his
part of the transaction. It is for this reason that the party who is entitled to the
proceeds of the letter of credit is appropriately called beneficiary.
Also wrong is the argument of the petitioner that the dispute must be resolved
before the beneficiary is entitled to call on the letters of credit. This would in
essence turn the LC to a mere guarantee. It has been made clear by jurisprudence
that in LC transactions, the settlement of a dispute is not a pre-requisite for the
release of funds under the LC.