Last Updated 06 Jul 2020

Case research project

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Case research project

1.  Chester Charles Sztejn, Plaintiff., v. J. Henry Shroder Banking Corporation, Robert Schwarz Bristle Corp., Transea Traders, Ltd., and the Chartered Bank of India, Australia, and China, Defendants; heard by the Supreme Court, Special Term, New York County, on July 1, 1941; reported as Sztejn v. Shroder Banking Corp., 177 Misc. 719, 31 N.Y.S. 2d 631 (1941).  This case was heard by the Supreme Court of New York County, one of the trial courts in New York State. 

Facts:  Plaintiff Chester Sztejn and his “coadventurer” Schwartz, bought “bristles” from Defendant Transea Traders, Ltd., an Indian Corporation.  They contracted with Defendant J. Henry Schroder Banking Corporation for an irrevocable letter of credit to pay for the bristles.  Sztejn’s agreement with Transea Traders was that Shroder would pay part of the purchase price on shipment and presentation of an invoice and bill of lading made out to the order of Schroder.  It is not stated when the balance was due.  The letter of credit was delivered to Transea in India, which shipped 50 crates of bristles.  Plaintiffs discovered that the crates were full of cowhair and other worthless material.  Transea drew a draft under the irrevocable letter of credit to the order of Defendant Chartered Bank of India, Australia, and China, and presented it for payment with the required documents.

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Issues:  Whether or not Schroder Banking Corp. must honor the irrevocable letter of credit according to its terms

Rules of Law:  A letter of credit is independent of the original contract of sale between the parties.  This is a document in which the issuing bank agrees to pay upon presentation of certain documents, not goods.  The bank issuing the letter of credit is not allowed to get involved in disputes over the quality or quantity of the goods shipped unless a provision permitting this is included in its terms.  [This is a case that pre-dates the codified terms of the Uniform Commercial Code, in which Article 9 covers all details of letters of credit.]

Holding:   The seller intentionally defrauded Plaintiffs by not shipping the goods ordered.  The sellers’ fraud was called to the bank’s attention before the drafts and documents were presented for payment, and Plaintiff’s requested that payment be withheld.  The Chartered Bank is in the same country as the Defendants and is the Defendants’ agent for collection of the money.

Other factors the New York Court might have considered:  Plaintiffs are American.  Schroder Banking is American.  World War II has started in Europe.  It is better for American courts to protect Americans now than citizens of India, Australia, and China, even though some of those countries are our allies.

2.  Touche Ross & Co., Plaintiff, v. Manufacturers Hanover Trust Company et al., Defendants;  heard by the Supreme Court, Special Term, New York County, on October 29, 1980; cited at 107 Misc.2d 438, 434 N.Y.S. 575 (1980).  This case was also heard by the New York Supreme Court, a New York Trial Court.

Facts:    Touche Ross, a partnership of C.P.A.’s, contracted with the Imperial Iranian Government to audit military contracts being performed by American Contractors.  Touche Ross posted a performance guarantee of 10% of the contract price, or $400,000, by letter of credit issued by Manufacturers Hanover Trust Company and payable to Bank Saderat in Iran.  So if Bank Saderat had to pay the Imperial Government $400,000 because Touche Ross did not perform its contract, Manufacturers Hanover would pay Bank Saderat that sum.  Before work began the Imperial Government of Iran fell and was replaced by the Islamic Republic, which terminated all commercial contracts between the United States and Iran and nationalized a number of American businesses.  In April 1980, President Carter blocked all Iranian assets in the United States, leaving Touche Ross owed $875,000 for services and rendered and also possibly out the $400,000 for the performance guarantee.   The Islamic Republic demanded payment from Bank Saderat, which then made a demand on Hanovers.

Issues:  Whether the change in government constituted “force majeure” such that the contract between Touche Ross and the Iranian Government could be canceled by Touche Ross.  In such case, Hanover’s performance guarantee would be released and no legitimate call could be made on the guarantee or the letter of credit.

Rules of Law:  A revolution is generally accepted by international practice to be force majeure permitting the Touche Ross contract with Iran to be canceled pursuant to its terms.  Once the contract is cancelled, all Bank Guarantees of good performance are released.

Holding:  Since Touch Ross’s contract with the government of Iran can be canceled under Section 6.2 because of the revolutionary change of Iran’s government, and further since it is not clear to the Court whether President Carter’s seizure of Iranian Assets in the United States would include the $400,000 allegedly due as performance guarantee if paid, Plaintiff Touche Ross will probably win at trial on the merits.  The temporary restraining order requested is issued, enjoining Defendant Manufacturers Hanover Trust Company from paying any amount under the letter of credit issued to Bank Saderat either directly or from setting up a potentially “blocked” or seized account of the new Islamic Government of Iran.

Other Factors the Court Might have Considered:   Touche Ross, an American company, was already owed $875,000 by the former government of Iran for accounting services.  Since the letter of performance guarantee was backed by their financial assets, they could be out yet another $400,000 if the Bank of Saderat were able to collect on the guarantee.  Further, the Bank of Saderat was owned by the Republic of Iran.  It could not have legitimately paid on the guarantee since it would be paying itself. This makes any call on the letter of credit fraudulent.

Compare the courts’ decisions in each of the two cases:   Both cases involve the Court’s finding creative ways to avoid complying with the strict contract language of letters of credit and letters of guarantee, which are basically the same documents with slightly different language.  The Court invokes the magic meanings of “fraud” to prevent perceived wrong-doers from profiting.  The cases differ in that the first was decided based on New York contract law and precedents in effect before enactment of the Uniform Commercial Code.  The latter was based on contract law and payment guarantees written after the Uniform Commercial Code was enacted.  While both involve separate documents of guarantee written so as not to prevent payment, special circumstances existed in both cases so that the Court wanted to stop payment by involving “fraud” or intentional cheating and deception to void the guarantees and the contracts.

Sources of law regarding letters of credit:  Normally letters of credit are covered by the Uniform Commercial Code section on “Letters of Credit”.  Since letters of credit are contracts also, the parties can vary the language in them to meet their needs.  A letter of credit is a promise to pay secured by the parties’ cash and liquid assets.  A standby letter of credit is a secondary one available for use if needed, guaranteed by the party’s non-liquid assets, such as stocks, bonds, and other securities.

What is the exception defense used in our cases?  The exception defense in our cases is “fraud” – willful cheating or deception that voids the contracts.  In the first case, the Defendants shipped junk instead of the ordered bristles.  In the second case, the Bank making the payment demand was owned by the Iranian government.   It could not have legitimately paid on the guarantee since it would be paying itself. This makes any call on the letter of credit fraudulent.

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