“Commercial Weight” the universal LC challenge
There are many arguments against the LC as an instrument. It is slow … it is expensive … it is paper based … and manual...
However, the real challenge for the LC is displayed in a “fresh” Opinion from the ICC Banking Commission.
Let me explain:
At the ICC Banking Commission Meeting this April in Lisbon, two of the discussed Draft Opinions were held over for further comment by the national committees. One was Draft Opinion TA.784, and I though that was okay – since quite many changes were made to the original text.
The other one however puzzled me. It was Draft Opinion TA.786. I thought that the answer were clear – and undisputable. The last couple of weeks that view has been proven wrong.
The content of the query is as follows:
Part of the LC goods description reads as follows:
“QUANTITY: 500,000 KGS UNIT PRICE: 1.84 USD/KG”
A variation was allowed: +/- 5%.
Documents were presented for USD 945,443.52
On certificate of origin, bill of lading and weight list the gross and net weights were shown as 504,402 KGS and 501,604.80 KGS respectively.
In addition a “commercial weight” was also shown as 513,828 KGS on the weight list and commercial invoice. The amount of the commercial invoice was based on this commercial weight and there was no other quantity stated on the document.
The question asked is if it is acceptable that the price is based on the “commercial weight.”
Basically the Draft Opinion states that using the commercial weight is acceptable. Since the LC did not stipulate the type of weight to be used for invoicing purposes, an invoice using the “commercial weight” is acceptable as long as the tolerance of plus or minus five per cent has been respected.
The argument used for re-circulating the query is the following:
“… it was felt that some national committees may not have understood the query and the implication of allowing a commercial weight to be used as the basis for determining the amount due, as opposed to a net or gross weight.”
As said, I found the original answer clear – and correct, and did not feel that I had misunderstood the query … so I was confused.
However, I note that a number people from the LC industry, is quite concerned about this Draft Opinion, and I have given the raised concerns quite some thoughts.
When I first read Draft Opinion TA.786 I found it quite trivial – but I have subsequently concluded that this Draft Opinion touches upon a universal LC challenge.
Let’s look at the arguments against the Draft Opinion:
1: It is practice to use the net weight for the purpose of calculating weight-based prices
2: There is a conflict within the presented documents, as they both indicate a net weight, a gross weight and a commercial weight.
3: It is wrong to use “fantasy weights” for the purpose of calculating the total price.
Let’s take a closer look at these arguments:
1: Practice! Is it really? There is no doubt that the majority of weight-based price calculations are based on the net weight but is it fair to say that it is “practice” to use the net weight. And perhaps more important: Is it a practice that justifies a refusal if it is not followed? Bear in mind that the value of the documents is USD 945,443.52, and the consequence of a refusal is that this amount may not be paid to the beneficiary.
As far as I know, there are many examples of weight-based calculations that are not based on the net weight. Some calculations may be based on ADMT (Air dried metric tonnes). Some “wet” commodities – like fish – may have 3 different weights. Etc.
No matter how I turn and twist this I do not consider this a convincing argument: No doubt there is a majority of cases where the price is based on the net weight … but to say that it is “practice” – and that not following such “practice” should justify refusing documents or USD 945,443.52 is to stretch it too far.
2: Is there really a conflict? The LC simply uses the neutral “KGS.” The document as such indicates 3 weights. The documents “agree” on the net weight (501,604.80 KGS), on the gross weight (504,402 KGS) and the commercial weight (513,828 KGS).
A conflict would (as an example) be that one document indicates “net weight: 504,402 KGS” and another documents indicates “net weight: 501,604.80 KGS.”
Again – how I turn and twist this – it is not really a convincing argument: Strictly speaking LC wise there is no conflict!
3: Is the commercial weight a fantasy weight?
Frankly: I do not have a clue – but it may be – and it may not be. I cannot say.
My best guess is that it is this argument – this uncertainty – that touches the core of the dispute. Can a beneficiary simply write anything in the documents? Can a beneficiary just make up “fictitious” weights to base the calculation on?
These are good and relevant questions indeed! But let’s take one step back, and take a look at the LC instrument as such: An LC by its nature is a separate transaction from the sale or other contract on which it may be based. Banks are in no way concerned with or bound by such contract. Banks deal with documents and not with goods, services or performance to which the documents may relate. The bank must examine a presentation to determine, on the basis of the documents alone, whether or not the documents appear on their face to constitute a complying presentation.
In other words: The LC is abstract from the agreement and the goods. This has its clear advantages, but for sure also some disadvantages. One of the disadvantages is that the issuing bank (and thereby ultimately the applicant) must pay when the documents comply. This means that the applicant has the risk that what is stated in the documents, although in line with (or rather: not in conflict with) the LC, does not comply with the commercial agreement and/or the goods shipped.
So as such the answer is yes: There is in fact the possibility that the beneficiary “make things up” on the documents that are not correct according to the agreement and/or goods. But this is a core premise for the LC instrument. The banks do not “go behind” the documents presented.
Luckily it is rare that there are problems in this respect. There are a number of reasons for this – for example:
- The commercial parties do not want to cheat each other.
Both have an interest that the relationship continues.
- Writing something on purpose that is wrong on the
documents may well be considered as fraud, and only few companies want that.
The issue of fraud is “outside” the LC, but fraud is one of the very few exceptions that a judge can use in granting a stop payment order or court inunction.
- All banks those days make compliance- and KYC checks on
their customers – so in general the parties to the LC have been subject to a
rather rigid approval process.
As far as I can see, it is the use of (what may be) a fabricated weight for the calculation of the price in the invoice that has “provoked” a number of people. This simply “seems” wrong. As I have argued above, it is hard to see any real good argument against the Draft Opinion: Especially if such argument is to be based on the UCP 600, the ISBP or for that matter any official ICC Opinion.
This is why Draft Opinion TA.786 touches on a universal LC challenge: The determination of document compliance is totally abstract from the commercial agreement and the goods – and is based on the documents alone. This means that there are a number of “build in” disadvantages and risks. One of them is that the documents are out of synch with the agreement or the goods.
This of course makes foul play and fraud possible, but as I have argued – this is (luckily) the exception.
As for the specific case it is important to remember, that the banks do not know (and do not want to know) what has actually been agreed! Therefore a refusal may also be a huge mistake!
It would be really interesting to know the background for the case e.g. did the applicant want the issuing bank for refuse? Was the documents actually refused? Did the applicant accept the documents? Was the use of "commercial weight" correct according to the agreement between the buyer and the seller?
Unfortunately I was not able to find the answers to these questions.
As such Draft Opinion TA.786 is important because it reminds us on the foundation on which the LC instrument is build, and some of the core risks connected to its use.
This is particular important because a number of those risks can be migrated, reduced or removed. For this case the LC simply should have been more precise: Instead of just saying “UNIT PRICE: 1.84 USD/KG” it would have been beneficial to indicate that it is “net KG” or “based on commercial weight” or whatever applies.
In any case: I am of the clear view that Draft Opinion TA.786 is correct – and changing it would change the very foundation on which the LC instrument is based.
Your views are of course most welcome.
Take care of each other and the LC!
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