Background
The case involved Winson Oil Trading Pte Ltd (Winson) bringing claims under two LCs which were in turn the payment mechanism for a sale of goods by Winson to Hin Leong Trading (Pte) Ltd (Hin Leong) (the Winson-Hin Leong Sale).
The two LCs were procured by Hin Leong and issued by Oversea-Chinese Banking Corporation Ltd (OCBC) and Standard Chartered Bank (Singapore) Ltd (SCB) with Winson being the beneficiary under each LC.
Winson’s dealings with Hin Leong formed the last leg of a string of sale contracts whereby:
- Hin Leong contracted to sell gasoil to another trader in two shipments, who in turn contracted to sell the same quantities of gasoil to Winson.
- Winson then contracted to sell the same quantities of gasoil to Hin Leong (i.e., the Winson-Hin Leong Sale).
As it later became apparent, Hin Leong had already sold the gasoil cargoes to another entity, Unipec, before it entered into the sale contract forming the first leg of the string mentioned above.
The OCBC and SCB rejected the presentation by Winson of documents (including letters of indemnity) under the two LCs, alleging fraud by Winson. In particular, the banks alleged that Winson made fraudulent representations in the letters of indemnity about (a) the existence and validity of original bills of lading (BLs); and (b) Winson having good title to the gasoil cargoes which it passed to Hin Leong at the time of delivery.
Winson sued the banks under the two LCs which had been opened by Hin Leong under the Winson-Hin Leong Sale.
Singapore High Court Decision
The High Court ruled against Winson, concluding that the Fraud Exception applied. The High Court determined that Winson’s letters of indemnity contained false representations, because the copy BLs it used to prepare the letters of indemnity were forgeries and no gasoil was shipped in accordance with the Winson-Hin Leong Sale. Moreover, Winson’s representations were fraudulent because Winson did not believe in the truth of the representations in the letters of indemnity presented under the LCs. At the very least, Winson was indifferent to whether its representations were true or not, in which case it did not believe in their truth.
The High Court’s definition of recklessness – distinguishing it from negligence – meant that the Fraud Exception would apply where a beneficiary shows a reckless disregard for the truth.
This finding conflicted with the SICC ruling in CACIB v PPT, in which it was held that recklessness could still be compatible with a belief in the truth of representations made to a bank.
CoA's Ruling
On appeal, the CoA upheld the High Court’s decision. The CoA affirmed that fraud should be treated consistently, including in LC transactions. Fraud refers to false representations made knowingly, without belief in their truth, or recklessly.
The CoA clarified that subjective recklessness – where the beneficiary is actually aware of risk but indifferent to it – would suffice to trigger the Fraud Exception. The CoA observed that such recklessness is inconsistent with an honest belief in the representations made. This ruling resolves any uncertainty about whether representations made recklessly in documents presented under LCs can constitute fraud. It aligns the treatment of fraud across different financial instruments as well as the tort of deceit.
In finding that Winson acted fraudulently, the CoA considered and examined various 'red flags’ and Winson’s responses and reactions to those red flags. Of particular interest in this case was the banks’ suggestion that the string of sales was “pre-structured”, which the banks contended was a ‘red flag’. Consistent with previous decisions, the CoA found that pre-structured or circular trades are not unusual in oil trading and are not shams (see further our discussion on circular trades in our previous alert). The CoA placed little weight on the fact that Hin Leong had repurchased the cargo at a higher price since Hin Leong might have had strategic reasons for doing so.
In this particular case, the CoA found that the circular trade was unusual due to the use of letters of indemnity when all relevant parties were in Singapore (which should have facilitated the ease of producing BLs and loading documents), which should have prompted an honest trader in Winson’s shoes to make inquiries. The other ‘red flags’ discussed in the case included Winson’s indifference to the absence of loading documents, a change in quantity of the cargo shipped after the issuance of the BLs, and certain communications by Winson to the banks. Taken as a whole, the ‘red flags’ and Winson’s responses showed that Winson was reckless and did not honestly believe in the truth of its representations.
What does this decision mean for you?
The CoA was clear that beneficiaries under an LC do not owe a duty to issuing banks to verify the truth of the representations made in a letter of indemnity presented under the LC. However, where ‘red flags’ arise, a beneficiary should conduct necessary checks before the beneficiary can be said to have formed an honest belief in the truth of the representations. This would typically entail being reasonably satisfied by the explanations that are advanced for the ‘red flags’. If the beneficiary’s conduct is inconsistent with an honest belief in the representations made in a letter of indemnity presented under an LC, then the beneficiary may be found to have acted fraudulently. This is a highly fact-specific exercise – much would depend on the specific ‘red flags’ and the beneficiary’s responses to those ‘red flags’.
In summary, the CoA’s decision means that a beneficiary under an LC cannot simply ignore ‘red flags’ by burying its head “ostrich-like in the sand” with respect to the truth of its representations in a letter of indemnity.
Reed Smith LLP is licensed to operate as a foreign law practice in Singapore under the name and style Reed Smith Pte Ltd (hereafter collectively, "Reed Smith"). Where advice on Singapore law is required, we will refer the matter to and work with Reed Smith's Formal Law Alliance partner in Singapore, Resource Law LLC, where necessary.
Client Alert 2024-193
