In Marlou L. Velasquez v. Solidbank Corporation, the Supreme Court affirmed that a letter of undertaking is an independent contract, separate from a negotiable instrument like a sight draft. This means that even if the sight draft is dishonored due to non-acceptance and not duly protested, the party who issued the letter of undertaking can still be held liable based on the terms of that letter. The Court emphasized that parties are bound by the obligations they expressly set out to do, especially when one party has already benefited to the prejudice of the other. This decision reinforces the principle that contractual obligations must be honored in good faith and that no one should unjustly enrich themselves at the expense of another.

Navigating Liability: When a Dishonored Draft Doesn’t Nullify a Promise

This case originated from a business transaction involving Marlou Velasquez, doing business under the name Wilderness Trading, and Solidbank Corporation. Velasquez sought credit accommodation from Solidbank to finance the export of dried sea cucumber to Goldwell Trading in South Korea. To facilitate payment, Goldwell Trading opened a letter of credit in favor of Wilderness Trading. Solidbank granted Velasquez a credit accommodation. However, the third export shipment led to complications. Velasquez negotiated a documentary sight draft for US$59,640.00, chargeable to the account of Bank of Seoul. As a condition for the issuance of the sight draft, Velasquez executed a letter of undertaking in favor of Solidbank.

The letter of undertaking stipulated that Velasquez guaranteed the acceptance and payment of the draft by Bank of Seoul. Additionally, he held himself liable if the sight draft was not accepted. The letter included a commitment to cover all damages and expenses Solidbank might incur due to discrepancies or any other reasons for non-acceptance. Relying on this undertaking, Solidbank advanced the value of the shipment to Velasquez. However, the Bank of Seoul dishonored the sight draft due to late shipment, a forged inspection certificate, and the absence of a countersignature from the negotiating bank on the inspection certificate. Furthermore, Goldwell Trading issued a stop payment order because the shipment contained soil instead of dried sea cucumber. Consequently, Solidbank demanded restitution from Velasquez, who failed to comply, leading to a legal battle.

At the heart of the legal matter was the enforceability of the letter of undertaking despite the dishonor of the sight draft. Velasquez argued that Solidbank’s failure to protest the non-acceptance of the sight draft, as required by the Negotiable Instruments Law (NIL), extinguished his liability. He further claimed that the letter of undertaking was a superfluous document and not binding. The Regional Trial Court (RTC) ruled in favor of Solidbank, stating that Velasquez’s liability remained under the letter of undertaking, which he signed. The Court of Appeals (CA) affirmed the RTC’s decision with modification, emphasizing that the contract of undertaking is the law between the parties and must be enforced accordingly. The CA also pointed out that Velasquez benefited from the advance payment and should return it to avoid unjust enrichment.

The Supreme Court (SC) was tasked with determining whether Velasquez should be held liable under the sight draft or the letter of undertaking. The SC clarified that the liability under the letter of undertaking is independent from any liability under the sight draft. While Velasquez was indeed discharged from liability under the sight draft due to Solidbank’s failure to protest its non-acceptance, his obligations under the letter of undertaking remained valid and enforceable. The Court emphasized that the letter of undertaking was a separate contract with its own consideration: Solidbank’s agreement to purchase the draft and credit Velasquez its value in exchange for his promise to reimburse the amount if the draft was dishonored.

According to Section 152 of the Negotiable Instruments Law:

Section 152. In what cases protest necessary. – Where a foreign bill appearing on its face to be such is dishonored by non-acceptance, it must be duly protested for non- acceptance, and where such a bill which has not been previously dishonored by non- acceptance, is dishonored by non-payment, it must be duly protested for non-payment. If it is not so protested, the drawer and indorsers are discharged. Where a bill does not appear on its face to be a foreign bill, protest thereof in case of dishonor is unnecessary.

The Supreme Court (SC) rejected Velasquez’s argument that he was merely a guarantor under the letter of undertaking. The Court reasoned that it is inconsistent for a party to be both the primary debtor and the guarantor of their own debt. The Court said, “Petitioner cannot be both the primary debtor and the guarantor of his own debt. This is inconsistent with the very purpose of a guarantee which is for the creditor to proceed against a third person if the debtor defaults in his obligation. Certainly, to accept such an argument would make a mockery of commercial transactions.” Velasquez had warranted that the sight draft was genuine, would be paid by the issuing bank, and that he would be liable for the full amount upon demand. His breach of this undertaking occurred when the Bank of Seoul dishonored the draft due to discrepancies in the export documents and the stop payment order issued by Goldwell Trading.

The Supreme Court emphasized that parties must fulfill what has been expressly stipulated in the contract. Velasquez’s liability was triggered by the non-acceptance of the sight draft by the Bank of Seoul, irrespective of whether he had violated any provisions of the letter of credit. The Court noted that records showed discrepancies in the documents and that Goldwell Trading had rejected the products due to defects. Justice and equity demanded that Velasquez be held liable to Solidbank, which had advanced the export payment on the understanding that the draft would be honored. The Supreme Court thus denied the petition and affirmed the Court of Appeals’ decision.

FAQs

What was the key issue in this case?	The central issue was whether Marlou Velasquez was liable to Solidbank under a letter of undertaking, despite the sight draft being dishonored and not protested.
What is a letter of undertaking?	A letter of undertaking is a written promise or guarantee to fulfill an obligation, in this case, ensuring payment of a sight draft. It serves as a separate contract with its own set of obligations.
Why was the sight draft dishonored?	The Bank of Seoul dishonored the sight draft due to reasons such as late shipment, a forged inspection certificate, and the absence of a countersignature from the negotiating bank.
What is the significance of protesting a dishonored negotiable instrument?	Protesting a dishonored negotiable instrument is a formal declaration that payment or acceptance has been refused. Under the Negotiable Instruments Law, failure to protest a foreign bill of exchange discharges the drawer and indorsers from liability.
Why did the court rule that Velasquez was liable despite the lack of protest?	The court ruled that Velasquez’s liability stemmed from the letter of undertaking, which was a separate and independent contract from the sight draft. The letter of undertaking was not extinguished by the lack of protest.
What is the principle of unjust enrichment?	Unjust enrichment occurs when one party benefits unfairly at the expense of another. The court invoked this principle because Velasquez received advance payment from Solidbank but failed to ensure the sight draft was honored.
Was the letter of undertaking considered a guarantee?	No, the court clarified that Velasquez could not be both the primary debtor and the guarantor of his own debt. The letter of undertaking established a direct and primary liability.
What was the main reason for the Supreme Court’s decision?	The Supreme Court emphasized that parties are bound to fulfill their contractual obligations in good faith. Since Velasquez promised to ensure payment under the letter of undertaking, he was obligated to make Solidbank whole when the sight draft was dishonored.

The Velasquez v. Solidbank case highlights the importance of understanding the distinct obligations created by different contractual instruments. While compliance with the Negotiable Instruments Law is crucial for negotiable instruments, separate agreements such as letters of undertaking create independent liabilities that must be honored. This ruling ensures that parties uphold their contractual commitments in commercial transactions, promoting fairness and preventing unjust enrichment.

For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.

Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
Source: Marlou L. Velasquez, vs. Solidbank Corporation, G.R. No. 157309, March 28, 2008