HB 178 - UNIFORM COMMERCIAL CODE:LETTERS OF CREDIT Number 0133 CHAIRMAN ROKEBERG indicated the committee would hear HB 178, "An Act relating to letters of credit under the Uniform Commercial Code; and providing for an effective date." Number 0228 JERRY K. WEAVER, Senior Vice President and Commercial Loan Manager National Bank of Alaska; Secretary/Treasurer Alaska Bankers Association, came before the committee to give testimony on HB 178. He noted the Alaska Bankers Association represents all the banks in Alaska. Mr. Weaver explained the banking industry, through the Alaska Bankers Association and other banking associations, nationwide, and the uniform code commissioners, have been working for years in making small technical revisions to the Uniform Commercial Code (UCC). He stated HB 178, which would revise letters of credit, is one of the technical steps. Letters of credit are a fairly sophisticated instrument used primarily in foreign trade. He said there are some very technical steps in which HB 178 makes some slight revisions. The Alaska Bankers Association and the National Bank of Alaska highly endorses HB 178. Mr. Weaver said the proposed amendments would deviate from the UCC's common approach of trying to tie all 52 of the various UCC districts together. He said because this would present some problems and would have Alaska stand out as being different in its code and how it approaches letters of credit, he would recommend the proposed amendments be removed from HB 178, as it is currently presented. Number 0435 CHAIRMAN ROKEBERG asked Mr. Weaver to review how the letters of credit work and the issue that revolves around the amendments as it relates to the float period. MR. WEAVER informed the committee members that letters of credit are document issues. He said, "Basically what it said in very essence terms, it's a guarantee of a credit grantor or someone you know, a bank usually because you can verify their credit ratings and financial statements fairly easy, worldwide, -- and that's why banks typically end up as issuers of letters of credits. The transactions are document issues. When a letter of credit is issued, basically it has a number of other documents that will go with it when it's presented for payment. An example we were using earlier would consists let's say a load of forest products coming out of here - a load of round logs. If they were to go, typically what would be with them, of course, would be an invoice billing for the amount of the logs. If one of our - let's assume a Native corporation was shipping logs overseas to Japan, Taiwan, some place like this. So a bill of lading, which is a negotiable instrument you have to have to get the logs off the ship and take title to them, usually some sort of scaling permit or so forth, that would rate the quality and the quantity of material that's in there -- how many board feet and so forth. This would be done by an independent agent who would have been verified by both the buyer and seller. Usually these are rated much like an appraiser or something of this nature. And probably then the insurance that would say, `Okay, if something happens to the ship after it leaves, and so forth, who gets paid on what terms, if for some reason the logs never make the destination.' Those documents are put with the letter of credit and the letter of credit outlines which documents are required and so forth, and sent the beneficiaries bank on the other side who takes a look at the documents, matches them to the letter of credit. And when they totally match up, then they authorize payment. The funds then are wired three (indisc.), once all the documents all the documents are approved and the transaction happens. Meantime, the ship is hopefully sailing across the Pacific on its way to deliver the actual cargo." Mr. Weaver informed the committee that this happens with many of the natural resources that Alaska exports. He said the reason there is a time period is because quite frequently, for whatever reason, the documents may not exactly match up. This just allows a uniform time period for the parties to try and make sure those documents match and that the buyer and seller are actually getting the transaction that they really wanted instead of just dealing with the documents as they are. Mr. Weaver said and example is the log scale may not quite match the shipment that was called for in the letter of credit, and it probably allows for partial shipments, et cetera. Mr. Weaver pointed out that the time period that is allowed in the UCC revisions is basically just for that purpose and it doesn't effect money because the money isn't going to be transferred until the actual letter of credit is approved. After approval, the funds are then wired. He noted the transactions are usually large dollar transactions with a fairly small number of players. Number 0820 CHAIRMAN ROKEBERG referred to there being a wire transfer of funds and said that would come under the regulations. MR. WEAVER explained that wire fund transfers are absolute. Basically, the wire is knowledge that says, "Hey, move the money from account A to account D." He pointed out that the players of transactions he is talking about aren't going to stand for much float. Banks want immediate and prompt payment. Mr. Weaver referred to the document period and said it has to do with documents and letters of credit are all about documents. Number 0922 CHAIRMAN ROKEBERG referred to the transfer of logs and said there wouldn't be an actual transfer of funds until the receiving party receives the logs and they are satisfied with the product. MR. WEAVER said that is incorrect. He said in this case, it would relate solely to the documents and not to the logs. The logs are out in the middle of the Pacific. Mr. Weaver said, "The payment would match -- hey, the scale report is in here, the insurance is here, the bill of lading is here and an invoice for $1,231,000 which was the amount that's required. And there is usually a draft, the equivalent demand check that says, `pay this.' Then once they've checked those off to the letter of credit and the letter of credit basically issued by let's say in this case, the National or well I guess it's going to be the Bank of Tokyo in this case. It says, `We will pay $1,231,000 when we receive each of these documents.'" Mr. Weaver explained that if there was an error on one of the documents that doesn't quite match the buyers needs -- it isn't $1,231,000, it's only $1,014,000 and it wasn't quite the quantity of spruce as they threw a little pine in. He said it would simply be because probably the buyer and the seller had been negotiating on the phone and that's what they agreed to do. The documents would be a little different, so NBA would wire the Bank of Tokyo and say, "The transaction is a little different, this is what occurred. Does your buyer approve?" The bank would then call the buyer and ask for approval. As soon as the buyer agrees, then the funds are wired. It is a direct transfer of money. Number 1122 CHAIRMAN ROKEBERG to the possibility of there being a problem where the seller thinks everything is in order and the buyer still isn't releasing the funds. He asked how that would be handled. MR. WEAVER said Mr. Kurtz will discuss how they arbitrate the distribution. He noted that is basically what the bill is about. He said it is a very close-knit little club, worldwide, and you won't be playing very long if you don't honor without some really legitimate complaint as to why you shouldn't make the payment because the merchandise is already gone. Number 1207 CHAIRMAN ROKEBERG questioned what the level of commerce does the state of Alaska have in terms of utilizing letters of credit. MR. WEAVER said as trade gets established and the buyer and seller get to know each other, they frequently go to open accounts. That currently occurs with many of the big trading companies. Mr. Weaver pointed out that currently, NBA has about $16 million outstanding on letters of credit. Mr. Weaver said it is his guess that trade in Alaska probably doesn't exceed $200 million a year in using letters of credit. He said, "Now obviously, if you go to peak time during - and that would be fishing season because a lot of the fish orders go out this way, those are -- remember I mentioned the log scaler -- and as you'll remember in many of the fishing plants, the Japanese trading companies bring their own employees over to grade the product right on the spot. And what they're preparing are the documents that will go with that letter of credit that says, `Yes, we got what we bought. There were so many silvers, this fresh, this caught.' Your employee kind of say that that's exactly what went on that ship in that container. And then once those documents get there and they will far beat the ship - the ship may take five days to make the trip, the documents are going to do it in a day, then they will wire payment." Number 1341 REPRESENTATIVE JOE RYAN said, "I talked to you and I've told the chairman that if I feel that my concerns were perhaps can be satisfied that I'd be happy to withdraw the amendment. Say, for instance, that I broker a deal not to (indisc.) for fish, lumber, petroleum products, refined or otherwise, and I want the letter of credit assigned to another person because I'm going to use that assign to settle a previous debt. Is there going to be a problem under this?" Number 1418 MR. WEAVER introduced Melody Little and explained she is a letter of credit officer with NBA. Number 1435 MELODY LITTLE, Officer, Letters of Credit, International Department, National Bank of Alaska, came before the committee and introduced herself. REPRESENTATIVE RYAN said he wants to be assured that somebody isn't sitting on somebody's money, either keeping the float and/or offering a banker's acceptance in lieu of the actual cash that is deliverable. When an opportunity arises for a person to make money, from time to time they take advantage of those opportunities. A lot of people who are dealing in these kinds of transactions are hung out and time value of money is very important. Representative Ryan said, "Sitting seven days -- someone's wire transfers already has already been made can be the difference in the profit and the transaction that the person has tied up. So in effect, if the bank does hold them up seven days that particular amount of money would be what the profit would be and all that work was done for nothing. I want to ensure that this particular piece of legislation, the way I read it, it looked like there was opportunity for that to happen. And if you can convince me that I'm wrong, I'd be more than happy to say fine, (indisc.)." Number 1552 MS. LITTLE asked Representative Ryan if he is asking about the seven days or the assignment. REPRESENTATIVE RYAN said, "Let's say for instance I want to assign this letter of credit to another party to satisfy some business arrangement I have. Is there going to be any problem on assignment?" Number 1608 MS. LITTLE said she believes he is talking about the assignment of proceeds and not the assignment of the performance. In that instance, they wouldn't consider it an assignment. It would be considered a transfer. At that point, Representative Ryan would transfer a portion of his letter of credit, whatever amount the actual sale is between the broker and the actual supplier. Ms. Little said the supplier would then prepare the documentation and give it to the person who is brokering it. That person would then give it to their bank to look at for negotiating. At that point, the negotiating bank would compare the documentation. If everything was in compliance, they would send them to the issuing bank. The issuing bank then looks at the documentation and determines whether they are going to pay and they're obligated to pay. If there are any discrepancies in those documents, the issuing bank would notify the broker's bank to inform them there is a problem. At that point, they try to resolve the situation. Ms. Little referred to a delay in payment and said it would only be do to the dispute of the documents. It is not going to be the actual payment of the sale. Number 1724 REPRESENTATIVE RYAN said the (indisc.) will not take place before the dispute is settled. MS. LITTLE indicated that is correct. Number 1733 REPRESENTATIVE RYAN said, "I want to ensure that flexibility is going to be there and that there is not going to be a disruption on the payment because otherwise it would be a very interesting business to find a reason why we haven't received the money and upheld to offer you a banker's acceptance that will take the risk for a point and a half or whatever. There are times when these things are -- people want to take advantage of that. They're willing to pay the fee to get the money now so they can go on to something else. I don't want this to be an opportunity where that would happen because we're talking about a lot of money when we start dealing in large commodities." Number 1852 MS. LITTLE said she believes Representative Ryan is referring to the seven-day period. She explained what the seven-day period basically says is once the issuing bank has received the documents, they have to set priority in their work flow. The seven days allows the bank to prioritize it into their workload. If there are problems, the bank usually tries to go to the actual person that owes the money and tries to resolve the situation before they decline payment. She said she thinks that why the seven-day period is given rather than a three-day period as it allows resolution before declining payment. REPRESENTATIVE RYAN asked what happens when the buyer declines a shipment or says that the shipment isn't as (indisc.). He asked what period of time is on that end. Number 1959 MS. LITTLE said the buyer doesn't have a chance to look at the goods before they receive them. The reason is that usually in a letter of credit, the bill of lading is consigned either to the bank or to the order of shipper and then blank endorsed. What that does is it makes the bill of lading negotiable and whoever holds it is the only one that can pick up the goods. REPRESENTATIVE RYAN said he wants to ensure that the bill won't slow something down in facilitating commerce. MS. LITTLE referred to the seven-day time period and said she doesn't think every bank waits for seven days to look at the document. They want to allow for the prioritizing of it and if there are problems to resolve, they can be resolved before denying payment. REPRESENTATIVE RYAN referred to a letter from the Office of the Attorney General the committee members had in their committee file and said the letter talks about an institution finding a discrepancy the first day, but waits until the seventh day to bring it to the person's attention for it to be cured. Number 2304 MR. WEAVER referred to a comment made by Representative Ryan regarding the shipment and said a letter of credit is involved in an issue of documents and not the actual shipment. The letter of credit will be paid if the documents are correct, even if the shipment is not. He said if there is a load of bananas and they rotted during shipment, it would become an insurance claim and it would have nothing to do with the documents and the letter of credit. The letter of credit is an enforceable document. Mr. Weaver stated that because you're dealing with two banks that have very strong reputations on the line, they're going to be very careful as to how they treat that transaction because in most cases, banks also have loans to the various parties that are involved. Number 2406 REPRESENTATIVE JOHN COWDERY referred to the seven-day period and asked how it compares with other places like Los Angeles, San Francisco and Seattle. MR. WEAVER said it is a uniform standard that is the same in all 52 districts. It is actually worldwide and the Europeans would do exactly the same. Number 2513 L. S. "JERRY" KURTZ, JR., Member, Alaska Uniform Law Commission, came before the committee. He referred to the seven-day time period and said the period really isn't seven days. He said code 5-108 says that an issuer has a reasonable time after presentation, but not beyond the end of the seventh business day. It is drawn that way with reasonable time first because there are a lot of transactions where banks don't need seven days to process the documents. One of the official comments that the drafters of the code mentioned was that a mining transaction, where you're just dealing with mining output, is a good a good example where seven days usually isn't needed. Mr. Kurtz said "reasonable" can always be stretched, but at least that section puts some additional pressure on things. He noted it has been his experience that most banks do respond faster than seven days. He said with a mine (indisc.) standby letter of credit, technically your time would be less than seven days. Most of the problems in this area come up when the documents that are received don't fit the letters of credit. He noted that litigation in this area has been very scarce and he isn't aware of any in the state of Alaska over the 30 years that he has been practicing law. He noted it is because the issuing bank and the banks on the other end tend to push very hard work these things out. They don't want to go to court. Number 2852 ART PETERSON, Uniform Law Commissioner, Alaska Uniform Law Commission, testified via teleconference from Juneau. He referred to amendments proposed by Representative Ryan and said they would really do some damage to the bill and to uniformity. One of the main features of the UCC is that it has been adopted in all U.S. jurisdictions with the partial exception of Louisiana which is different, in a number of respects, from all of the other states. In addition, the UCC has set an international standard and many of its provisions coincide with the international standards of practice. For Alaska to adopt some of the unique provisions in Representative Ryan's set of amendments, it would really put Alaska in a bad situation for doing letters of credit business. Mr. Peterson said, "Mr. Weaver commented on the amount that his bank does in a typical year in this field and estimated that maybe there are a couple hundred million, statewide, involving the other banks in Alaska. One figure that I've had is that in the United States, as a whole, it's a two hundred billion dollar industry and Alaska certainly doesn't want to be viewed as off on it's own little twig - there is not even much of a limb to stand on, but I don't think we want to do that. And certainly the uniform law commissioners would oppose those amendments." Number 3056 MR. PETERSON said it is his understanding that the Department of Law also opposes Representative Ryan's amendments and noted there was a letter submitted to Representative Rokeberg, in the spring, written by Doug Lottridge, a former assistant general, regarding the opposition of the amendments. Mr. Peterson said he believes the Division of Banking, Department of Commerce and Economic Development, also doesn't support the amendments. He noted he cannot speak for them and hasn't been authorized to speak for them. Mr. Peterson urged the committee members to move the bill, without the amendments, with "do pass" recommendations. REPRESENTATIVE RYAN asked Mr. Peterson a question which was indiscernible on the tape. Number 3419 MR. PETERSON indicated he didn't hear Representative Ryan's question very clear, but said he believes Representative Ryan is concerned about the time period that Mr. Weaver and Mr. Kurtz have addressed. Mr. Peterson said he would emphasize that it is a reasonable time or seven days. He said, "If a reasonable time is one day, that is the amount of time that -- that is all that's allowed and that's the international standard. If a reasonable time is six days, it's six days. If a reasonable time is 82 days, well they're still stuck with 7. So the bill looks like it's written as tightly as can be while recognizing all of the procedures involved and all of the international practice that we're trying to address here." He indicated he wasn't sure if he answered Representative Ryan's question. Number 3547 REPRESENTATIVE RYAN stated that he thinks his concerns have been addressed and would contact Mr. Peterson regarding another issue. Number 3631 CHAIRMAN ROKEBERG closed the public hearing on HB 178. He said it is his intention to bring the bill back before the committee when the committee reconvenes during the legislative session.