Kuvera Resources Pte Ltd v JPMorgan Chase Bank, NA

Incorporating and interpreting sanctions clauses in confirmations for letters of credit
Kuvera Resources Pte Ltd v JPMorgan Chase Bank, NA
[2023] 2 SLR 389, [2023] SGCA 28

I. Executive Summary

A letter of credit is a typical payment mechanism used in international trade to provide an economic guarantee from an issuing bank to an exporter of goods. The process is as follows: a letter of credit is given to the exporter-seller by the issuing bank on behalf of the buyer. This guarantees that the exporter-seller is the beneficiary of the buyer’s payment under the terms and conditions of the letter of credit. The exporter-seller (“beneficiary”) obtains payment from the issuing bank on its “presentation” of documents which comply with the terms and conditions of the letter of credit. The buyer is to reimburse the issuing bank for such payment to the beneficiary. Other parties may also be involved – the issuing bank may nominate another bank (“nominated bank”) to receive the presented documents and thence pay the beneficiary. The issuing bank may also appoint another bank to certify the authenticity of the letter of credit to the beneficiary (“advising bank”). Finally, the letters of credit may also be backed by another bank (the “confirming bank”) through a “letter of confirmation”, to ensure payment of the monies to the beneficiary.

In Kuvera Resources Pte Ltd v JPMorgan Chase Bank, NA [2023] 2 SLR 389, the Court of Appeal (“CA”) added further clarity to the legal framework on letters of credit. The question was whether a sanctions clause, inserted in the letter of confirmation but not in the original letter of credit, could be used to allow the confirming bank to decline to pay the beneficiary of the letter of credit.

First, the CA discussed the interplay of letters of credit and letters of confirmation. The CA stressed that the contracts in such transactions operate independently of each other. This is known as “the principle of autonomy”. Absent a finding of fraud, there would be no basis for enjoining the issuing bank (and by extension the confirming bank) from paying under the letter of credit or the confirmation of the letter, respectively. This is consistent with how Singapore courts, in the context of credit-involved transactions, have been slow to “intervene and thereby disturb the mercantile practice of treating rights thereunder as being the equivalent of cash in hand.” Thus, a confirming bank’s liability under a confirmation may be subject to conditions that are not reflected in a letter of credit (including, as here, a sanctions clause).

Second, the CA provided the appropriate approach for ascertaining whether a party, who seeks to invoke a clause that permits the denying of payment where specified sanctions are breached, has discharged the necessary burden of proof. Here, the CA held that the confirming bank had nonetheless not discharged its burden of proof.

II.   Material Facts

In July 2019, an Indonesian company (the “Seller”), contracted to sell coal to a company in the United Arab Emirates (the “Buyer”). The coal would be shipped on a vessel (“the Omnia”).

Kuvera Resources Pte Ltd (“Kuvera”), a Singapore-incorporated company in the business of trading coal sourced from Indonesia, advanced funds to the Seller so that the Seller could purchase the coal that was to eventually be sold to the Buyer. In return, the Buyer would pay for the coal through two letters of credit, under which Kuvera was named as the beneficiary. The two letters of credit were issued by Bank Alfalah Limited (the “Issuing Bank”). The Issuing Bank appointed JPMorgan Chase Bank, N.A. (“JPMorgan”), a national banking association chartered under US laws, as both the advising and nominated bank. JPMorgan also confirmed the letters of credit through two letters of confirmation.

The letters of confirmation included a clause (“Sanctions Clause”) which stated that JPMorgan must comply with all US-related sanctions, laws, and regulations (the “applicable restrictions”). The clause also stated that JPMorgan would not be liable for any failure to pay if the documents presented involved any country, entity, vessel, or individual listed in or otherwise subjected to any applicable restriction.

Subsequently, JPMorgan reviewed the documents presented by Kuvera as part of JPMorgan’s internal sanctions screening procedure. JPMorgan discovered that the Omnia was included on an internal list of personnel/entities which contained the names of various entities and vessels which had been determined by JPMorgan to have a sanctions nexus and/or concern. Specifically, JPMorgan was concerned that the Omnia was ultimately Syrian-owned, and under US sanctions laws, JPMorgan was prohibited from dealing with Syrian entities. This was even though the Omnia was absent from the publicly available list issued by the US Office of Foreign Assets Control (“OFAC”), pertaining to prohibited personnel/entities. In December 2019, JPMorgan decided not to proceed with the transaction and consequently informed Kuvera that it could not obtain internal approvals to pay Kuvera. Both letters of credit expired later that month.

Kuvera then commenced suit against JPMorgan in the General Division of the High Court (“HC”), claiming that JPMorgan acted unlawfully in not paying the sums owed under the letters of credit.

The HC however found for JPMorgan. First, the HC held that there was no legal impediment to a confirming bank adding a term to its confirmation of a letter of credit, so long as the term was not fundamentally inconsistent with the commercial purpose of the confirmation. The Sanctions Clause was valid and enforceable as it was not fundamentally inconsistent to the commercial purpose of a confirmation, which was to give the beneficiary an alternative paymaster other than the issuing bank. Moreover, the Sanctions Clause was sufficiently narrow so as not to confer on JPMorgan a discretion that was so broad as to render the confirmations de facto revocable or unworkable. Secondly, in construing the phrase “subject to any applicable restriction” in the Sanctions Clause, the HC adopted a subjective approach in interpreting the clause, holding that JPMorgan could rely on their own assessment of the circumstantial evidence regarding the beneficial ownership of the Omnia. It thereby determined that the Omnia was owned by a Syrian entity, which entitled JPMorgan to refuse to pay Kuvera to comply with US sanctions law and regulations.

III.   Issues

The CA discussed the following issues on appeal: (a) the nature of credit transactions; and (b) the interpretation of the Sanctions Clause.

A. The nature of credit transactions

The CA first endorsed the HC’s view that a documentary credit transaction comprises a number of discrete contracts, with each being autonomous and separate from the others. It also held that a documentary credit transaction is made of multiple transactions/relationships, and that under the well-established principle of autonomy, the issuing bank’s obligation to pay the beneficiary is independent of the underlying contract between seller and the buyer.

Absent a finding of fraud, there would be no basis for enjoining the issuing bank (and by extension the confirming bank) from paying under the letter of credit or the confirmation, respectively. It is therefore possible for a confirming bank’s liability to be subject to conditions that are not reflected in a letter of credit, that is an independent contract concerning the rights and obligations between the issuing bank and the beneficiary.

The CA further noted that Kuvera, in choosing to characterise the letters of credit as the “mother” of the letters of confirmation, had essentially conflated the independent legal status of the contracts in a compound letter of credit transaction with the practical harmony of the relationships arising from the independent contracts. The CA thereby agreed with the HC that the letters of credit and confirmation letters should be best understood as unilateral contracts that bear the sui generis quality of irrevocability, i.e. that one cannot enter into a unilateral contract to confirm a credit unless that undertaking is irrevocable (because it would otherwise not be a credit). This explained how JPMorgan’s obligations under the confirmation letters were brought into existence upon the fulfilment of a specific condition (i.e. Kuvera’s complying presentation). As such, the CA agreed with the HC that the Sanctions Clause was duly incorporated in the letters of confirmation.

B. The interpretation of the Sanctions Clause

Given that the Sanctions Clause was validly incorporated, the issue was whether the Omnia was “otherwise subject to any applicable restriction” under the Sanctions Clause, as this was the only possible condition for invoking the clause. To determine the meaning of the Sanctions Clause, the CA considered the following: the true effect and meaning of the clause, and whether JPMorgan had discharged its burden of proof sufficiently, such that it could rely on the Sanctions Clause.

(i) The true effect and meaning of the incorporated Sanctions Clause

The CA disagreed with the HC’s approach in finding that JPMorgan’s risk-based decision – that it would rather be sued by Kuvera as a result of failing to pay against a complying presentation than be found by OFAC to have breached US sanctions – allowed it to breach the contract. Instead, the effect of the Sanctions Clause on JPMorgan’s irrevocable obligation to pay under the letters of confirmation was to be construed strictly.

In its efforts to discharge its burden of proof, JPMorgan relied on its exchange of correspondence with OFAC. JPMorgan was driven by its consideration as to whether OFAC would have held that it would be in breach of sanctions regulations had it paid Kuvera. This would require the parties and eventually the court having to decide on the likelihood of a third party like OFAC (who is not identified in the Sanctions Clause) holding that JPMorgan might be in breach for paying against a complying presentation of the documents under the letters of confirmation. The CA noted that there was an element of speculation and arbitrariness inherent in such an approach, in that it requires the parties as well as the court to extrapolate what finding OFAC might arrive at based on largely circumstantial evidence. Such a requirement would “practically render it impossible” for Kuvera to know with certainty whether it would be paid notwithstanding its full compliance with the documentary requirements.

The CA held that JPMorgan had failed to see to an elaborate process of which OFAC would undertake to investigate cases of wilful breach of US sanctions, and instead invited the court to undertake a notional process by which OFAC would determine the prospects of JPMorgan violating the sanctions if it had paid Kuvera. The CA noted that although a court’s objective approach is based on an assessment of admissible evidence on a balance of probabilities, OFAC was not so constrained as it was strictly not bound by the rules of evidence. Consequently, JPMorgan’s approach was unsatisfactory and unfair as it is simply a reflection of risk management considerations and not an objective metric. This is borne out on JPMorgan’s exchanges with OFAC, where JPMorgan appeared to be “looking retrospectively to OFAC to justify its decision which, by its own admission, was based on inconclusive information” regarding the beneficial ownership of the Omnia.

At best, the CA deemed JPMorgan’s evidence as merely demonstrating the possibility of risks that the Omnia may be subject to an applicable restriction. Nonetheless, if JPMorgan were to rely on an internal list such as the Master List as opposed to the OFAC List, it must have accepted the risk that such reliance may not be sufficient to discharge its burden of proof.

(ii) The discharging of the burden of proof to rely on the Sanctions Clause

The CA held that JPMorgan had indeed not discharged the burden of proof to rely on the Sanction Clause in light of the inconclusive evidence before the court. The question of whether a vessel is “subject to any applicable restriction” (as stated under the Sanctions Clause) should be determined on an objective basis without third-party input from entities such as OFAC. The inquiry here was directed at the ownership of the Omnia, i.e., whether it remained Syrian-owned at all material times, which is quintessentially an issue capable of objective determination.

The CA noted that the crucial issue was whether the Omnia, under her new registered ownership, remained under Syrian beneficial ownership in 2019. Though the CA acknowledged that certain documents relating to the sale and transfer of the vessel were not within the custody, control, or possession of either JPMorgan or Kuvera, the fact remained that the ownership of a vessel and any change thereof is an issue capable of proof.

As such, based on JPMorgan’s evidence, it could not be concluded that there was masking or concealment regarding the identity of the Omnia’s beneficial ownership just because information on her beneficial owner was not available. In the same vein, the absence of additional evidence would not let the court infer that the Omnia’s new registered ownership remained under Syrian beneficial ownership in 2019 from the mere fact that the Lady Mona (the previous title) was properly regarded as a vessel under Syrian beneficial ownership in 2015. The CA also found it plainly insufficient for JPMorgan to rely on a third party’s apparent involvement in a related company to establish on a balance of probabilities that the Syrian beneficial ownership of the Omnia had continued into 2019.

The CA made some further observations on the compatibility of the Sanctions Clause with the commercial purpose of the letters of confirmation. The question of whether sanctions clauses are incompatible with the nature of irrevocable documentary credit transactions was an open and difficult one, given the uncertainty they introduce to the documentary credit transaction and the unfairness of allowing a bank to deny reimbursement owed to the beneficiary. However, the CA held that banks “cannot have it both ways” by representing to a beneficiary that payment is conditioned only on a complying demand, but reserving the right to dishonour where it is unsure of its legal liabilities.

Ultimately, the CA saw a need to balance between preserving the autonomy of individual contracts within a documentary credit transaction (so that it is open to parties to insert conditions in each autonomous contract) and upholding the commercial viability of a documentary credit transaction, whereby each autonomous contract is intended to correspond to and/or provide a safety net for the other contracts in the transaction.

The CA further noted that even if the Sanctions Clause was to be construed as JPMorgan claimed (i.e., that JPMorgan was entitled to deny payment against a complying presentation as long as it found that on a risk-based assessment, it would prefer to be sued by Kuvera than be penalised), the Sanctions Clause would most likely still be incompatible with the commercial purpose of the letters of confirmation, due to the significant unpredictability that such an interpretation would introduce into the letters of confirmation.

Written by: Benjamin Bay, 2nd Year LLB student, Singapore Management University Yong Pung How School of Law.
Edited by: Ong Ee Ing, Senior Lecturer, Singapore Management University Yong Pung How School of Law.