Law of Credits and Security May 2012

LAW OF CREDITS AND SECURITY – MAY 2012

SECTION A: ANSWER ALL QUESTIONS: EACH QUESTION CARRIES 15 MARKS.

QUESTION ONE

(a) In the case of MEMEC PLC V IRC (1898), the court listed various characteristics of a partnership. Mention five of those characteristics. (5 marks)

ANSWER: THESE ARE

(i) The partnership is not a legal entity

(ii) The partners carry on the business in common with a view of making profits

(iii) The partners own the business, having a beneficial interest in an undivided share in the partnership assets and profits

(iv) Every partner is liable jointly with the other partners for all the debts and other obligations of the firm

(v) Each partner participates both as principal and as agent for the others binding the firm and his partners in all matter within his authority.

(b) The Public Finance Management Act contains provisions that regulate borrowing of statutory bodies and Assemblies. Mention two important rules that are spelt out in the Public Finance Management Act with regard to borrowing of these bodies? (4 marks)

ANSWER:

(i) They can only borrow with a prior written sanction of the minister of finance and liability cannot attach on the state or government by virtue only of the fact that the minister of finance approved the borrowing.

(ii) In cases of overdrafts, they may only borrow by way of overdraft with a written approval of the minister of finance and again liability cannot attach on the state or government by virtue only of the fact that the minister of finance has approved the borrowing by overdraft.

(c) with respect to credit contracts generally, what is the difference between simple contracts and contracts of record? ( 6 marks)

ANSWER:

Simple contracts are everyday contracts which are not contracts of record or contracts made by deed and are not even required by law to be reduced into writing and as such they can in writing or verbal or partly verbal and partly by implication or conduct as the parties please. These simple contracts derive their binding force from the mutual agreement of the parties. While contracts of record are contracts which in essence are obligations by a court of law in its official record, such as judgments and recognisances. They contracts of record derive their binding force from the authority of the court.

QUESTION TWO:

(a) Zathu Banking Limited has offered a credit facility to one of its trusted customers, a Mr. Z. The acceptance period was fourteen days. On the fourteenth day, in the morning, Z accepted the credit facility as stipulated by the offer letter. In the afternoon, Zathu Banking Limited revoked the offer to Mr. Z who is not happy with the decision taken by the bank to revoke the offer of the credit facility. Advise Mr. Z on the probability of success if he sues the bank. (6 marks)

ANSWER:

Mr. Z has a very good chance of succeeding if sues Zathu Banking Limited. The bank offered the credit facility to be accepted within a period of fourteen days. Mr Z did accept the offer on the fourteenth day, being within the period of acceptance as stipulated in the offer letter.

The law is very clear that revocation of an offer for credit facilities cannot be made after the customer has already accepted the offer. See BYRNE AND CO V VAN TIENHOVEN AND CO (1880). In the present case, the revocation by the bank was made in the afternoon after Mr. Z had already accepted the offer in the morning. Hence, the decision to revoke the offer cannot stand in law. Hence, Mr. Z can successfully sue the bank for breach of the contract.

(b) Despite the general requirement that communication of acceptance of credit facilities must be brought to the notice of the bank, communication may be deemed to have been made in certain circumstances. Mention three of such circumstances? (6 marks)

ANSWER: THESE ARE

(i) Where there is communication to the bank by one who is actually authorised to make it on behalf of the customer.

(ii) Where there is communication to one who is actually authorised to receive it on behalf of the bank.

(i) Where the agent is the agent of both the bank and the customer.

ANSWER:

Under the letters of credit agreement, the obligation of the bank to pay is independent of the underlying contract of sale and so is not affected by any defects in the goods supplied under the contract of sale. This principle is what is known as ‘autonomy of credit’.

QUESTION THREE

(a) Mr. Jones signed a document believing it to be a sale agreement of his house located in Chemusa Township. The contract was signed at his own house with Mr Y the purchaser when lights were off. However, it transpired that the sale agreement was about his house that is located in Nyambadwe, which is his retirement home. Mr Jones is now arguing that he signed the document under mistake. Advise him if there is any remedy available to him in these circumstances. (6 marks)

ANSWER:

As a general rule, a person is bound by his or her signature to a document, whether or not he or she has read or understood the document. See L’ESTRANGE V GRAUCOB, (1934).

However, where a person has been induced to sign a contractual document by fraud or misrepresentation, the transaction will be voidable. The plea of non est factum, which means that it is not my deed may be available to the innocent party.

Reverting to the present case, Mr. Jones may be successful if he can show to the court that he was misled in signing the contract. In other words, he can plead the defence of non est factum. Once he successfully pleads that defence, definitely, the contract will be void.

(b) Mention five ways through which a valid contract may be discharged? (5 marks)

ANSWER:

(i) By breach of the contract by either party

(ii) By performance of the task

(iii) By agreement of the parties

(iv) By waiver

(v) By frustration

ANSWER:

Legal lien means a right at common law in one person to retain that which is rightfully and continuously in his possession belonging to another until the present and accrued claims of the person in possession are satisfied. A legal lien does not as a rule, arise until possession of the property subject of the lien is obtained.

QUESTION FOUR:

(a) Mention three ways through which assignment of rights can be done? ( 6 marks)

ANSWER:

(i) Through equity, whereby the assignment of rights is possible where the intention to assign is clear and debtor receives notice.

(ii) By statute where property law statutes allow property rights to be assigned

(iii) By operation of law, for example, in bankruptcy or by an executor of a will.

(b) Mention three forms of securities you know? (3 marks)

ANSWER:

(i) The mortgage, which is a security transfer of ownership

(ii) The pledge, which creates a limited legal interest by the delivery of possession.

(iii) Contractual lien, where the creditor’s possession was acquired otherwise than for the purpose of security, as where goods are deposited for repair and the repairer then assets a lien for unpaid repair charges.

ANSWER:

(i) agreement and intention to create legal relations: a valid guarantee must be constituted by a binding agreement, usually involving an offer and acceptance. There must also be an intention to create legal relations. The general requirement of consideration also applies.

(ii) Capacity: capacity to contract is as essential to the validity of a guarantee as it is to any other contract. Any individual, except a minor or a person lacking the mental capacity to contract, can enter into contracts of guarantee without limitation.

SECTION B: ANSWER TWO QUESTIONS OF YOUR CHOICE

QUESTION FIVE:

a) One of the central features of letters of credit is doctrine of strict compliance. Describe in detail what this doctrine entails. ( 5 marks)

RESPONSE: One of the central features of letter of credit law is the doctrine of strict compliance. The doctrine of strict compliance demands that the letter of credit beneficiary to comply precisely with all the requirements of the letter of credit by, for example, presenting all of the documents required by, and making sure the presented documents strictly comply with, the documentary requirements of the letter of credit. There is no legal obligation on the part of the bank to honour non-conforming documents.

In determining whether or not the documents do comply with the credit, the bank’s responsibilities are restricted to determining whether the documents appear regular on their face meaning documents which appear on their face to be inconsistent with one another will be considered as not appearing on their face to be in compliance with the terms and conditions of the credit.

b) Discuss the case of BANK MELLI IRAN V BARCLAYS BANK DCO (1951) by stating the principle that was established in the area of letters of credit management. ( 5 marks)

RESPONSE: the facts of the case were that an irrevocable credit was opened by the Bank Melli and confirmed by their agents, Barclays. The credit called for the tender of documents, which confirmed shipment of 60 new Chevrolet trucks. The documents presented by the seller included a certificate describing the goods as new, good, Chevrolet trucks, an invoice, describing them as in new condition and a delivery order describing them as new good. Barclays accepted these documents and paid the sellers. Bank melli claimed that Barclays were wrong to accept the documents. It was held that the bank was wrong to accept the documents because they were inconsistent with each other. However, Barclays were entitled to reimbursement on different grounds: Bank melli had ratified the act of their agent, Barclays, and so were bound it.

c) Define the term credit facility as defined under the Banking Act? ( 5 marks)

RESPONSE: Credit facility includes financing by means of loans, leases, advances, establishing line of credit, factoring, hire purchase, accepting of trade and other bills, discounting of such bills and notes, the opening or confirming of documentary credit, the issue of other letters of standby, guarantee or surety, the undertaking to pay on account of another person, and such other similar undertakings as may be prescribed by the Registrar in the Registrar’s directives from time to time.

d) Mr Zangaphee was appointed High Commissioner to chilumba country. While there, he was offered a credit by one of the commercial banks in that country of Chilumba, repayable in six months. After six months, Mr Zangaphee has defaulted in repaying the loan to the bank. The bank has sued him. He is contending that as a diplomat, he is immune. Advise Mr Zangaphee on the correct legal position on this issue. ( 5 marks)

RESPONSE: Mr Zangaphee should be advised that he cannot advance the defence of diplomatic immunity. Article 31 (1) (c) of the Vienna Convention on Diplomatic Relations 1961 says that a diplomatic agent shall enjoy immunity from the criminal jurisdiction of the receiving state. He shall also enjoy immunity from its civil and administrative jurisdiction except in the case of an action relating to any professional or commercial activity exercised by the diplomatic agent in the receiving state outside his official functions.

Mr Zangaphee only enjoys diplomatic immunity especially on matters falling within his official functions. There is no law even at international level that stops banks from extending personal credit facilities to diplomats and these diplomats do not enjoy any immunity from court proceedings in the event of default of their obligations under personal credit facility. Hence, Mr Zangaphee is liable to pay back the loan as he is not immune from the banking transaction he undertook himself. This does not hinge on his diplomatic mission at all.

QUESTION SIX:

Write short notes on the following:

a) Power of attorney

RESPONSE: A power of attorney is defined as a formal arrangement by which one person the donor gives another person the attorney authority to act on his behalf and in his name. It is a type of agency, and the law relating to powers of attorney forms part of the general law of agency. The attorney is supposed to act in accordance with the terms of his authority, act in the name of the donor, not exceed his authority and not to take advantage of his position to obtain a benefit for himself. A power of attorney cannot access a credit facility if that is not contained in the terms of his authority, if he is not doing it in the name of the donor, and if that will mean exceeding his authority and if that would be tantamount to taking advantage of his position for his own gratification.

b) Contracts uberrimae fidei

RESPONSE: Contracts uberrimae fidei means contracts of utmost good faith. These contracts impose a duty of disclosure of all material facts because one party is in a strong position to know the truth. Examples would include contracts of insurance and family settlements.

A material fact is something, which would influence a reasonable person in making the contract. If one party fails to do this, the contract may be avoided. See LAMBERT V CORPERATIVE INSURANCE SOCIETY (1975).

c) Mortgage generally

RESPONSE: A mortgage is a transfer of ownership of the asset or of any lesser interest held by the transferor, by way of security upon express or implied condition that ownership will be re- transferred to the debtor on discharge of his obligation. A mortgage thus involves the acquisition of an existing interest, not the creation of a new one, a fact that distinguishes it from an equitable charge. It does not require the delivery of possession so that any kind of asset, tangible or intangible, is capable of being mortgaged. Since a mortgage constitutes a form of appropriation of the asset to the discharge of the debt it encompasses a charge. A mortgage may be legal or equitable.

d) Bill of sale ( 20 marks)

RESPONSE: A bill of sale arrangement is one of the ways through which a bank can take security over movable items, that is, chattels. A bill of sale is defined to include bills of sale, assignments, transfers, declarations of trust without transfer, inventories of goods with receipt thereto attached, or receipts for purchase moneys of goods and other assurances of personal chattels, and also powers of attorney, authorities or licences to take possession of personal chattels as security for any debt, and also any agreement whether intended or not to be followed by execution of any instrument by which a right in equity to any personal chattels, or any charge or security thereon is conferred. This definition is contained in Section 2 (1) of the Bills of Sale Act.

QUESTION SEVEN:

a) Mention five rights of a guarantor against the creditor? ( 10 marks)

RESPONSE: THESE ARE:

(I) To have his guarantee discharged when he pays the sum for which he has made himself liable

(ii) where he has discharged the whole debt or liability of the principal debtor, to be subrogated to all the rights possessed by the creditor in respect of the debt or liability to which the guarantee relates, and to have assigned to him all the securities held by the creditor in respect of the debt or liability

(iii) To be discharged where the creditor varies his contract with the principal debtor without the guarantor’s consent

(iv) when the debt is due, to require the creditor to call upon the principal debtor to pay off the debt.

b) Before granting authorisation to a bank to hold a large exposure exceeding 25% of the bank’s capital base, the Reserve Bank of Malawi has to be satisfied that certain conditions are met by the bank. Mention six of the conditions you know? ( 12 marks)

RESPONSE: THESE ARE ANY SIX OF THE FOLLOWING:

(i) The bank is currently maintaining an adequate capital base and a capital ratio of 6 percent for core capital and 10 percent for total capital

(ii) Including the proposed large exposure, the bank’s aggregate large exposures will not exceed the limitation on aggregate large exposures of this directive

(iii) The bank is in full compliance with the Reserve Bank of Malawi’s directive on asset classification

(iv) There are no remedial measures outstanding or pending against the bank, nor is the bank otherwise subject to supervisory concern

(v) The bank’s existing credit risk management system and management information system are adequate and the bank has adequate financial managerial and organisational resources to handle the increased concentration risk

(vi) The bank has a history of properly reporting and managing large exposures, and of complying with the limitations contained in this directive

(vii) the proposed large exposure will be 100 percent secured by one or more of the following collateral that is to say cash, gold, eligible guarantee, assets eligible to meet the Reserve Bank of Malawi’s liquidity reserve requirement or debt securities issued by the Malawi Government, or the government of a member country of the organisation for economic cooperation and development

(viii) The obligor of the proposed large exposure has made full disclosure of any group of inter related persons with which the obligor is involved. The bank has properly included the obligor in such group of interrelated persons for purposes of calculating compliance with the limitations of directive on large exposures