Wichita Eagle and Beacon Publishing Company, Inc. v. Pacific National Bank of San Francisco

Brief Fact Summary. A letter of credit was extended to a lessor to assure the lessee would perform on the lease contract. When the defendant bank failed to pay on the letter of credit this suit ensued. The district court ruled that the instrument was letter of credit the laws as they apply to letters of credit should be applied. Synopsis of Rule of Law. A letter of credit must not stray “too far from the basic purpose of letters of credit, namely, providing a means of assuring payment cheaply by eliminating the need for the issuer to police the underlying contract.”

Facts. Lessors leased a site on which Lessee, Circular Ramp Garages, undertook to build a parking garage. In order to assure that the Lessee would perform, Lessors obtained from defendant Pacific National Bank of San Francisco (the “defendant”) “Letter of Credit No. 17084” in favor of Lessors for $250,000. In the event that certain conditions of the letter were met, the Lessors were entitled to $250,000. The conditions of the letter of credit were (1) that Lessee failed to perform the terms of the lease; (2) that Lessors gave Bank and affidavit stating that it gave notice to the Lessee and its contractor specifying how Lessee failed to perform its lease; and (3) that either Lessee or its contractor failed to cure defaults under the lease during a period of 30 days after receiving Leassor’s notice. Lessee failed to obtain the financing needed to complete the parking garage and defaulted on the lease. The plaintiff Wichita Eagle and Beacon Publishing Company (the “plaintiff”) was the assignee on the letter of credit. Upon Lessee’s default on the lease, the plaintiff presented to the defendant a draft for $250,000 drawn upon the letter of credit. When the defendant refused the payment, the plaintiff brought this suit. The district court concluded that “Although the question is not free from doubt, the Instrument denominated ‘Letter of Credit No. 17084’ should be treated as a letter of credit and be subject to the law respecting letters of credit to the extent applicable and appropriate.”

Issue. Was the district court correct in holding that the instrument was a letter of credit?

Held. No. The Court of Appeal did not agree with the district court that the instrument sued upon is a letter of credit even though it is labeled as such. The Court held that “the instrument is a guaranty contract, obliging the defendant to pay whatever the lessee owned on the underlying lease, up to the face amount of the guaranty. Since the underlying lease clearly contemplated the payment of $250,000 in the case of default, and since this provision appears to be a valid liquidated damages clause, the judgment below must be modified to award the plaintiff $250,000 plus interest.” The instrument was determined not to be a letter of credit because it “strays too far from the basic purpose of letters of credit, namely, providing a means of assuring payment cheaply by eliminating the need for the issuer to police the underlying contract.” The instrument does not give evidence of an intent that payment was to be made merely upon presentation on a draft nor does is specify what docum ents are required for termination or payment. The instrument instead requires the occurrence of certain conditions and an affidavit of notice before payment may be received.

Discussion. The instrument is called “Letter of Credit” and the court stated that it should give credit to the intent of the parties, however, “relevant intent is manifested by the terms of the agreement, not by its label.” The court held that if the instrument in question was interpreted as an actual “letter of credit” it would blur the distinction between a letter of credit and an ordinary guaranty contracted. It would “hamper rather than advance the extension of the letter of credit concept to new situations if an instrument such as this were held to be a letter of credit.”