SCA/21094/2006 1/94 JUDGMENT IN THE HIGH COURT OF GUJARAT AT AHMEDABAD SPECIAL CIVIL APPLICATION No. 21094 of 2006 For Approval and Signature: HONOURABLE MR.JUSTICE C.K.BUCH ========================================= 1 Whether Reporters of Local Papers may be allowed to see the judgment ? 2 To be referred to the Reporter or not ? 3 Whether their Lordships wish to see the fair copy of the judgment ? 4 Whether this case involves a substantial question of law as to the interpretation of the constitution of India, 1950 or any order made thereunder ? 5 Whether it is to be circulated to the civil judge ? ========================================= VIMAL SERVICES LTD., - Petitioner(s) Versus BANK OF INDIA THRO' MANAGER & 1 - Respondent(s) ========================================================= Appearance : MR DD VYAS, LD.SENIOR COUNSEL APPEARING WITH MR DHAVAL D VYAS for Petitioner(s) : 1, MR JT TRIVEDI for Respondent(s) : 1, ========================================================= CORAM : HONOURABLE MR.JUSTICE C.K.BUCH Date : 30/04/2008 CAV JUDGMENT 1. The petitioner, a company registered under the Indian Companies Act, 1956, by invoking jurisdiction of this Court under Article 226 of the Constitution of India, has inter alia prayed for issuance of appropriate writ, order or direction against the respondent-Banks, SCA/21094/2006 2/94 JUDGMENT more particularly respondent no.1-Bank of India, to the effect that the respondent no.1- Bank may be directed to discharge its obligation under irrevocable revolving Letter of Credit dated 01st June 2005 and amendment to the Letter of Credit dated 30th June 2005; and the respondent no.1 may be directed to make payment of the outstanding amount to the petitioner-Company as on 14th August 2006. It is further prayed that the respondent no.1 may also be directed to make payment of rentals in terms of agreement to the lessee company i.e. M/s.A.K. Enterprise; and all these payments may be made with interest at the rate of 24% per annum treating the amount as outstanding from the due date of each of the bills issued by the petitioner, keeping in mind the irrevocable revolving Letter of Credit dated 01st June 2005. 2. Both the respondents are nationalized banks as per the Banking Company (Acquisition and Transfer of Undertakings) Act, 1970. The respondent no.1 is having its one of the branches at Nehru Place at New Delhi as well SCA/21094/2006 3/94 JUDGMENT as at Ilora Park at Vadodara (State of Gujarat). The petitioner was dealing with the respondent no.1 through its agent bank i.e. respondent no.2, having its branch at 30-31, Bhagat Colony, GIDC, Makarpura Industrial Estate, Makarpura, Vadodara. 3. The say of the petitioner is that the petitioner-Company is in the business of providing low cost fuel (Furnace Oil) operated Power Plant machinery on rental basis to generate electricity; and if any party is in need of such power generating plant, it is required to have a large premises for installing such machinery which would be prepared as per the requirement of the company by the party. The petitioner is carrying out such work on receipt of work order and all necessary documents from the party placing orders. Th petitioner manufacturers such generating plant after importing certain machinery and parts from a foreign supplier and some from local market and in turn establish power plant in the premises of the party. This power plant would be rented to the SCA/21094/2006 4/94 JUDGMENT party by the petitioner. The said power plant generates economical electricity for the purpose of running the factories, industrial units, etc. and the cost of production would substantially be cheaper than the electricity generated by the diesel fuel operated generating sets or power plant. One such order was given to the petitioner by one M/s. A.K. Enterprise having its office at C-9/12, Yamuna Vihar, Delhi as the said company was desirous to get the said power plant installed at M/s. Ved Cellulose Ltd. at Gaziabad (U.P.). M/s.A.K. Enterprise is also a company incorporated under the Indian Companies Act, 1956 and the said company placed order bearing No.AKE/DG/VCL/VSL/009 dated 07th June 2005 to the petitioner. The Memorandum of Understanding (MOU) was arrived at on 07th June 2005 at Vadodara and a copy of the same is on record at Annexure-A. 4. The say of the petitioner is that as per the policy of the petitioner and one of the conditions of MOU dated 07th June 2005, the bank guarantee of a nationalized bank was to SCA/21094/2006 5/94 JUDGMENT be provided by the lessee i.e. M/s. A.K. Enterprise, in favour of the lessor i.e. petitioner. Such guarantee would be of irrevocable revolving Letter of Credit worth Rs.240 lakhs valid for a period of 27 months. One of the important conditions of the petitioner is that the lessor seizes, possesses and is the absolute owner of the machinery and agreed to provide machines on rental basis for generating power by the lessee and the lessee expects that the rental will be raised by the lessor fortnightly i.e. from 01st to 15th and from 16th to the end of each English calendar month, and the payment of fortnight would be released within next fortnight after submission of the documents to the respondent no.1, agent bank of the lessor, through irrevocable revolving Letter of Credit or financial bank guarantee. It is also agreed that the lessee was to pay the minimum fixed rental charges as provided in the various clauses as mentioned in the irrevocable revolving Letter of Credit. According to the petitioner, it was guaranteed that the lessee M/s.A.K. Enterprise and M/s.Ved Cellulose Ltd. SCA/21094/2006 6/94 JUDGMENT agreed and guaranteed that the proprietors and partners, in their financial capacity as well as in their personal capacity, shall remain liable for monthly rental payment for entire contractual period to the petitioner-lessor even in the event of closure or dissolution of the lessee i.e. M/s. A.K. Enterprise and M/s. Ved Cellulose Ltd. The change in the name or in Constitution of these two companies or Board of Directors would not come in the way of the petitioner in realising the rental or on account of any dispute between the lessee i.e. M/s. A.K. Enterprise and M/s. Ved Cellulose Ltd. The copies of two relevant documents i.e. irrevocable revolving Letter of Credit dated 01st June 2005 and the amendment to Letter of Credit dated 30th June 2005 were provided by the respondent no.1 and these two documents are on record. 5. The say of the petitioner is that as per the agreement that the petitioner had installed the said machinery on 16th km. Stone on Hapur Road, VIII Lakhan, P.O. Galan, District Gaziabad (U.P.) and for the purpose of SCA/21094/2006 7/94 JUDGMENT installation a part of land/ property was taken on lease by the petitioner. It was successful installation and the power generated electricity was being utilized by the lessee company. 6. It is contended that the petitioner is having its account with the respondent no.2 and pursuant to the said Letter of Credit, the petitioner had sent the invoices/bills of realization in respect of the same. Total 18 invoices/bills were sent and they were not honoured by the respondent no.1 on the ground of alleged discrepancies without giving any explanation as to what are the said discrepancies. The petitioner had, therefore, addressed a letter on 24th May 2006 and the petitioner was advised to resubmit the said bills vide letter dated 28th June 2006. On 14th August 2006, a letter was addressed in respect of the outstanding payment which was required to be collected from M/s.A.K. Enterprise towards rental charges for providing 1378 KVA (1.5 MW) power. All these details are on record. The respondent no.1 addressed letters SCA/21094/2006 8/94 JUDGMENT dated 03rd August 2006 and 24th August 2006 to the respondent no.2 i.e. agent bank of the petitioner, and returned the documents stating, “The payment is not forthcoming”; that is to say, from M/s.A.K. Enterprise, on whose behalf the respondent no.1 had given irrevocable revolving Letter of Credit. These two letters are on record. The say of the petitioner is that the stand taken by the respondent no.1 has constrained the petitioner to file present petition. 7. Shri D.D. Vyas, learned senior counsel appearing for the petitioner-Company, has argued at length, but the points advanced by Shri D.D. Vyas can be summarized as under: 7.1 The irrevocable revolving Letter of Credit on the basis of which the MOU was arrived at between the petitioner and lessee company i.e. M/s.A.K. Enterprise, is one of the material aspects. However, but for this irrevocable revolving Letter of Credit the petitioner would not have entered into MOU with the lessee company. SCA/21094/2006 9/94 JUDGMENT 7.2 Considering the nature of irrevocable revolving Letter of Credit, the respondent no.1 was bound to make payment on sight of the bill and the payment was not dependent on the arrangement between the respondent no.1 and the lessee. The petitioner is not concerned as to whether the lessee discharges its obligation as per the agreement or arrangement worked out between the lessee and the respondent no.1 or not. In view of persistent defaults made by the lessee in making payment as stipulated in the agreement, the petitioner was constrained to remove the machinery from the place where it was installed and has taken the possession thereof. The respondent no.1 is not prevented by any judicial order in making payment in terms of Letter of Credit issued. On the contrary, according to Shri D.D. Vyas, as per the MOU, irrespective of dissolution or closure of business by the lessee, the lessee is liable to make payment for the lease period i.e. upto 31st July 2007 to the respondent no.1, but for the Letter of Credit issued he was under obligation to make payment to the petitioner. SCA/21094/2006 10/94 JUDGMENT 7.3 Pendency of the Civil Suit i.e. Original Suit No.175 of 2006 before the Court of Civil Judge (S.D.) at Hapur, District Gaziabad would not come in the way of the respondent no.1 in making payment to the petitioner and the petitioner has inter alia prayed for in the said proceedings that the plaint may be returned to the plaintiffs of the said Suit i.e.M/s.A.K. Enterprise and M/s. Ved Cellulose Ltd. 7.4 The reply affidavit filed by the respondent no.1 to this petition is based on sheer technicalities and such an unhealthy stand ought not to have been taken by such a Nationalized Bank. There is no substance in the point of territorial jurisdiction taken up by the respondent no.1 because part of cause of action has arisen within the territory of State of Gujarat. Not only that, but the documents available on record i.e. two bills, which are at page nos.104 and 109 and one another document which is at page no.30, show that some part of action in the entire transaction had taken place within the SCA/21094/2006 11/94 JUDGMENT territory of State of Gujarat. Not only that, but some payment was also made at Vadodara. The act of handing over of bank guarantee was through Vadodara branch of respondent no.1- Bank. The address of the advising bank is shown to be Bank of India, Ilorapark Branch, Vadodara (State of Gujarat) and merely because the payment was to be made at sight of the document at a particular branch of respondent no.1-Bank i.e. Nehru Place Branch at New Delhi, would not take away the jurisdiction of this Court. The original negotiable document at Annexure-B page no.30 which indicates, “Documents must be presented within 30 days after the date of invoices and in any case not later than the date of expiry of credit”, was handed over at Vadodara to the respondent no.2. The nature of document indicates that the same is NP/Revolving LC/35/51. The special instructions were also given to the petitioner at Vadodara through the respondent no.2 (page no.31 of the petition). 7.5 Shri D.D. Vyas, learned senior counsel appearing for the petitioner, has placed SCA/21094/2006 12/94 JUDGMENT reliance on the decision in the case of Forgo Freight Ltd. v. Commodities Exchange Corporation and others, reported in 2004(7) SCC 203, especially the observations made in Head Note-B, whereby the Apex Court has observed as under : “Head Note B : Banker and Customer- Letter of Credit-Liability of the issuing bank- Held, the issuing bank is not concerned with the contract/dispute between the opener of the letter of credit and the beneficiary thereof- Banking Regulation Act, 1949, S.6.” 7.6 The observations made in the aforesaid decision clinches the issue. The other decision relied upon by Shri D.D. Vyas, is in the case of Reliance Energy Ltd. and another v. Maharashtra State Road Development Corpn. Ltd. and others, reported in 2007(8) SCC 1. It is submitted that this decision of the Apex Court takes care of the contingency placed by the respondent no.1. But it is the say of Shri D.D. Vyas that issuance of irrevocable revolving Letter of Credit or bank guarantee SCA/21094/2006 13/94 JUDGMENT of such a nature is an independent contract between the issuing bank and the party which is assured for the payment and, therefore, any denial of payment by lessee M/s.A.K. Enterprise to the respondent no.1, would not come in the way of the respondent no.1 in making payment against the Letter of Credit issued and in support of this submission Shri Vyas has placed reliance on the decision of the Apex Court in the case of M/s. Tarapore and Co., Madras v. M/s. V/O Tractoroexport Moscow and another and allied matters, reported in AIR 1970 SC 891, especially paragraph no.6 of the cited decision, which is reproduced as under : “6. The scope of an irrevocable letter of credit is explained thus in Halsbury's Laws of England (Vol. 34, paragraph 319 at p. 185): "It is often made a condition of a mercantile contract that the buyer shall pay for the goods by means of a confirmed credit, and it is then the duty of the SCA/21094/2006 14/94 JUDGMENT buyer to procure Iris bank, known as the issuing or originating bank, to issue an irrevocable credit in favour of the seller by which the bank undertakes to the seller, either directly or through another bank in the seller's country known as the correspondent or negotiating bank, to accept drafts drawn upon it for the price of the goods, against tender by the seller of the shipping documents. The contractual relationship between the issuing bank and the buyer is defined by the terms of the agreement between them under which the letter opening the credit is issued; and as between the seller and the bank, the issue of the credit duly notified to the seller creates a new contractual nexus and renders the bank directly liable to the seller to pay the purchase price or to accept the bill of exchange upon SCA/21094/2006 15/94 JUDGMENT tender of the documents. The contract thus created between the seller and the bank is separate from, although ancillary to, the original contract between the buyer and the seller, by reason of the bank's undertaking to the seller, which is absolute. Thus the bank is not entitled to rely upon terms of the contract between the buyer and the seller which might permit the buyer to reject the goods and to refuse payment therefore; and, conversely, the buyer is not entitled to an injunction restraining the seller from dealing with the letter of credit if the goods are defective." Chalmers on "Bills of Exchange" explains the legal position in these words: “The modern commercial credit serves to interpose between a buyer and seller a third person of SCA/21094/2006 16/94 JUDGMENT unquestioned solvency, almost invariably a banker of international repute; the banker on the instructions of the buyer issues the letter of credit and thereby undertakes to act as paymaster upon the seller performing the conditions set out in it. A letter of credit may be in any one of a number of specialised forms and contains the undertaking of the banker to honour all bills of exchange drawn thereunder. It can hardly be over-emphasised that-the banker is not bound or entitled to honour such bills of exchange unless they, and such accompanying documents as may be required thereunder, are in exact compliance with the terms of the credit. Such documents must be scrutinised with meticulous care, the maim de minimis non curat lex cannot be invoked where payment is made by later of credit. If the SCA/21094/2006 17/94 JUDGMENT seller has complied with the terms of the letter of credit, however, there is an absolute obligation upon the banker to pay irrespective of any disputes there may be between the buyer and the seller as to whether the goods are up to contract or not” Similar are the views expressed in Practice and Law of Banking by H.P. Sheldon 'the Law of Bankers Commercial Credits" by H.C. Gutteridge "the Law Relating to Commercial Letters of Credit" by A.G. Davis "the Law Relating to Bankers' Letters of Credit" by B.C. Mitra and in several other text books read to us by Mr.Mohan Kumaramangalam, learned Counsel for the Russian Firm. The legal position as set out above was not controverted by Mr. M.C. Setalvad, learned Counsel for the Indian Firm. So far as the Bank of India is concerned it admitted its liability to honour the letter of credit and expressed its willingness to SCA/21094/2006 18/94 JUDGMENT abide by its terms. It took the same position before the High Court.” 7.7 Considering the relations inter se, Shri D.D. Vyas, learned senior counsel appearing for the petitioner, has requested to look into the scheme of Banking Regulations Act, more particularly Section 6 of the said Act. In support his say, Shri D.D. Vays has placed reliance on the decision of the Apex Court in the case of Federal Bank Ltd. v. V.M. Jog Engineering Ltd. and others, reported in AIR 2000 SC 3166. I would like to reproduce the relevant part of this decision, which is as follows : “58. Kerr, J. said in R.D.Harbottle (Mercantile) Ltd. v. National Westminister Bank Ltd., 1978 QB 146 (at 155) that irrevocable Letters of Credit are 'the life blood of international commerce'. He said : "Except possibly in clear cases of fraud of which the banks have notice, the Courts will leave the merchants to SCA/21094/2006 19/94 JUDGMENT settle their disputes under the contracts by litigation or arbitration. .. .. .. Otherwise, trust in international commerce could be irreparably damaged." Denning M. R. stated in Edward and Owen Engineering Ltd. v. Barclays Bank International Ltd., 1978 QB 159, that 'the only exception is where there is a clear fraud of which the bank had notice'. Browne, L.J. said in the same case : "but it is certainly not enough to alleged fraud, it must be established" and in such circumstances, I should say, very clearly established". In Bolivinter Oil S.A. v. Chase Manhattan Bank (1984) 1 All ER 351 at p. 352, it was said 'where it is proved that the Bank knows that any demand for payment already made or which may thereafter be made, will clearly be fraudulent. But the evidence must be clear, both as to the fact of fraud and as to the bank's knowledge. It would certainly not be sufficient that this rests upon the uncorroborated statement of the SCA/21094/2006 20/94 JUDGMENT customer, for irreparable damage can be done to a bank's credit in the relatively brief time "before the injunction is vacated". Thus, not only must 'fraud' be clearly proved but so far as the Bank is concerned, it must prove that it had knowledge of the fraud. In United Trading Corpn. S.A. v. Allied Arab Bank Ltd., (1985) 2 Lloyds Rep 554, it was stated that there must be proof of knowledge of fraud on the part of the Bank at any time before payment. It was also observed that it "would be sufficient if the corroborated evidence of the plaintiff usually in the form of contemporary documents and the Unexplained failure of a beneficiary to respond to the attack, lead to the conclusion that the only realistic inference to draw was 'fraud' ". In Guarantee Trust Co. of New York v. Hannay, (1918) 2 KB 623 (KB), the Banker accepted the documents without any knowledge of fraud or falsify and it was held that the defendants could not counter-claim from SCA/21094/2006 21/94 JUDGMENT the Bank. However, it would be the Banker's duty to refuse the documents which on their face bear signs of having been altered (See Re : Saloman and Nandszus, (1899) 91 LT 325. That was a c.i.f. contract. This Court in ITC Ltd. v. Debts Recovery Appellate Tribunal, (1998) 2 SCC 70 (at 79) : (1998 AIR SCW 237 : AIR 1998 SC 634) also held that knowledge of the Bank as to the fraud or forgery had to be prima facie established. 59. The foundation of English law in this area is the American case of Sztejn v. J. Heney Schroder Banking Corpn., (1941) 31 NYS 2d 631. (Extensive details of this case are available in 'Documentary Credits' by Raymond Jack, 1991 pp. 191-192). This case has been cited in more than one judgment of this Court and the English Courts but we shall give more facts of that case and the principle of 'holder in due course' laid down therein which arises in the case before us, as per SCA/21094/2006 22/94 JUDGMENT the appellant's pleadings. In that case, the applicant for a credit (i.e. the buyer) claimed injunction against the Issuing Bank Schroder Banking Corporation to prevent it paying on the documents which had been presented. The credit had been advised to the seller in India by the issuing Bank's correspondent in India, the chartered Bank of India, Australia and China. The correspondent had not confirmed the credit. The applicant alleged that what had been shipped was rubbish rather than the bristles contracted to be supplied. The Chartered Bank (the Collecting Bank) which received the documents from the seller for 'collection', applied for dismissing the buyer's claim. (This was a proceeding similar to Order 7, Rule 11, CPC) for an injunction on the ground that there was no cause of action. The buyer's, in their application for injunction, informed the Issuing Bank about the fraud of the sellers. For the purpose of hearing that application of SCA/21094/2006 23/94 JUDGMENT the Collecting Bank, the Court assumed the facts stated in the application of the buyer as to fraud to be true. (Otherwise, this was a difficult burden of proof normally). Shientag, J. held that : "Where the seller's fraud has been called to the bank's attention before the drafts and documents have been presented for payment, the principle of the independence of the bank's obligation under the Letter of Credit should not be extended to protect the unscrupulous seller. It is true that even though the documents are forged or fraudulent, if the issuing bank has already paid the draft before receiving notice of the seller's fraud, it will be protected if it exercised reasonable diligence before making such payment." The facts, as stated above, were that the sellers had drawn the draft under the letter of credit to the order of the chartered Bank of India, Australia and China and delivered the draft and SCA/21094/2006 24/94 JUDGMENT the fraudulent documents to the said Chartered Bank's branch at Caunpore for 'collection' on account of the sellers. The Chartered Bank could not compel the issuing Bank, Schroder Banking Corporation, to pay by seeking a dismissal of the buyer's application by way of demurrer. The plaintiff was entitled to injunction for it had brought the allegation to the knowledge of the issuing Bank, before the payment was made. Shientag, J. further observed: "As one Court has stated : Obviously, when the issuer of a letter of Credit knows that a document, although correct in form, is, in point of fact, false or illegal, he cannot be called upon to recognise such a document as complying with the terms of a letter of credit." No hardship will be caused by permitting the bank to refuse