                                            Filed:   December 17, 1998

                    UNITED STATES COURT OF APPEALS

                        FOR THE FOURTH CIRCUIT


                              No. 97-2025
                           (CA-91-3179-JFM)



Banca del Sempione,

                                                 Plaintiff - Appellee,

           versus


Provident Bank of Maryland,

                                               Defendant - Appellant.



                              O R D E R



     The court amends its opinion filed November 12, 1998, as

follows:

     On page 2, section 1, line 6 -- counsel’s name is corrected to

read “Alec W. Farr.”

                                       For the Court - By Direction



                                          /s/ Patricia S. Connor
                                                   Clerk
PUBLISHED

UNITED STATES COURT OF APPEALS

FOR THE FOURTH CIRCUIT

BANCA DEL SEMPIONE,
Plaintiff-Appellee,

v.

PROVIDENT BANK OF MARYLAND,
Defendant-Appellant.

and

SURIEL FINANCE N.V.,
                                                                      No. 97-2025
Defendant,

JEANNE FARNAN,
Party in Interest.

UNITED STATES COUNCIL ON
INTERNATIONAL BANKING,
INCORPORATED,
Amicus Curiae.

Appeal from the United States District Court
for the District of Maryland, at Baltimore.
J. Frederick Motz, Chief District Judge.
(CA-91-3179-JFM)

Argued: April 10, 1998

Decided: November 12, 1998

Before LUTTIG and WILLIAMS, Circuit Judges, and
BUTZNER, Senior Circuit Judge.

_________________________________________________________________

Affirmed by published opinion. Senior Judge Butzner wrote the opin-
ion, in which Judge Luttig and Judge Williams joined.

_________________________________________________________________
COUNSEL

ARGUED: Philip K. Howard, HOWARD, DARBY & LEVIN, New
York, New York, for Appellant. Warren Lewis Dennis, PROSK-
AUER ROSE, L.L.P., Washington, D.C., for Appellee. ON BRIEF:
Daniel M. Mandil, HOWARD, DARBY & LEVIN, New York, New
York; Larry J. Gebhardt, James T. Heidelbach, GEBHARDT &
SMITH, Baltimore, Maryland, for Appellant. Alec W. Farr, Orrie
Dinstein, PROSKAUER ROSE, L.L.P., Washington, D.C., for Appel-
lee. Brian J. Downey, Annandale, Virginia, for Amicus Curiae.

_________________________________________________________________

OPINION

BUTZNER, Senior Circuit Judge:

Provident Bank of Maryland appeals the district court's judgment
entered in favor of Banca Del Sempione (BDS) after a bench trial
conducted pursuant to remand. We affirm.

I

The facts are stated in detail in previous opinions, Sempione v. Sur-
iel Finance, N.V., 852 F. Supp. 417 (D. Md. 1994) (Sempione I,
Black, C.J.), and Sempione v. Provident Bank, 75 F.3d 951 (4th Cir.
1996) (Sempione II). Briefly the record discloses that Rock Solid
Investment (RSI), Provident's customer, sought a $6,700,000 loan
from Suriel. The loan agreement required RSI to obtain a standby let-
ter of credit (LOC) to secure payment of interest. The LOC was to be
irrevocable, unconditional, transferable, and annually renewable in
the amount of $750,000 for a period of seven years. Suriel arranged
to borrow funds from BDS to make the loan to RSI, and BDS insisted
that the LOC securing interest must be renewable each year for the
life of the loan.

Provident arranged for Manufacturers Hanover Trust to confirm the
LOC for one year. Manufacturers provided that if its confirmation
expired while the LOC was in existence, the LOC would be available

                   2
from Provident. BDS satisfied itself that Provident had sufficient
assets to honor the LOC.

Manufacturers sent its confirmation to Suriel and BDS, which was
acting as Suriel's advisory bank. BDS objected to the terms of the
LOC because extension beyond one year was dependent on the main-
tenance of collateral for the LOC. Suriel voiced these objections, and
in response Provident wrote a series of letters. The letters withdrew
the condition pertaining to collateral and provided that the LOC shall
be "automatically reavailable to you upon your receipt of our tested
telex."

The LOC contained a clause expressly making it transferable. At
Suriel's request, Manufacturers, acting as "transferring bank," trans-
ferred the LOC in its entirety from Suriel, the first beneficiary, to
BDS, the second beneficiary. Manufacturers notified Provident of the
transfer.

RSI posted $800,000 collateral to secure the Provident LOC. An
official at Provident, however, allowed the collateral to be withdrawn
from time to time in order for RSI to pay interest on the loan. Eventu-
ally the collateral was exhausted, and RSI was unable to pay the inter-
est.

After several drawings by BDS for interest under the transferred
LOC, Manufacturers dishonored a subsequent draw because it was in
excess of the amount confirmed. Upon Provident's refusal to pay
BDS directly, BDS instituted this action. This court reversed a sum-
mary judgment in favor of Provident and remanded the case for an
evidentiary hearing. On remand, the district court held that the LOC
obligated Provident to pay interest to BDS for the life of the loan;
Provident has appealed. The district court also held that BDS was not
entitled to recover punitive damages and attorney fees; BDS has not
cross appealed these aspects of the district court's judgment.

II

The primary issue raised by Provident is whether a letter Provident
wrote was a side letter--as Provident contends--or an amendment to

                    3
the LOC--as BDS contends. Although Provident sent a series of let-
ters to Suriel, the district court considered Provident's letter of Sep-
tember 26, 1989, to be dispositive. This letter provided in part:

          RE: Standby Letter of Credit No. 99205

          Provident Bank of Maryland hereby agrees as follows with
          regard to our obligations under Standby Letter of Credit No.
          99205 and in conformity with our commitment dated July
          21, 1989:

          "If you should draw on us your interest draft as set
          forth, the amount of $750,000 shall be automati-
          cally reavailable to you upon your receipt of our
          tested telex or amendment provided this Letter of
          Credit shall not have terminated."

Sempione II, 75 F.3d at 956. The author of this letter testified, and the
court found, that he intended the letter to be a side agreement and not
an amendment to the LOC. BDS, on the other hand, believed that the
letter was an amendment to the LOC and acted upon that belief.

The district court held that the subjective intent and beliefs of the
parties were not controlling. Instead, the district court held that the
intent of the parties and the meaning of Provident's letter should be
objectively ascertained in conformity with the official comment to
MD. Code Ann. Com. Law § 1-205 (UCC § 1-205), which teaches
that the meaning of a document must be determined by the language
the parties used and their actions in the context of commercial prac-
tices. To plumb the meaning of the language and commercial prac-
tices, the district court turned to the Uniform Customs and Practices
for Documentary Credits (UCP 1983, ICC 400, in effect at the time
of this transaction), which is a code whose scope is"to be proved as
facts." Md. Code Ann. Com. Law § 1-205(2) (UCC § 1-205(2)). The
LOC expressly provided that it was subject to the UCP.

Both parties introduced the testimony of expert witnesses on these
subjects. The district court, after carefully explaining its reasons,
decided that the experts presented by BDS correctly explained that

                     4
according to the practices, usages, and customs of bankers, Provident
amended the LOC to make it automatically renewable each year with-
out conditions. The experts also explained that a "tested telex" was
simply a ministerial act which did not impose a condition on the
LOC. The letter was written on Provident stationery; it referred by
number to the LOC that Provident had issued; it changed the terms
of the LOC from one year as originally issued to an LOC that was
"automatically renewable" if BDS found it necessary to draw on their
interest draft. We conclude that the evidence amply supports the dis-
trict court's conclusion that Provident amended the LOC to make it
available to BDS for the life of the loan.

III

The second issue raised by Provident is

          whether a party (i.e. Suriel) that acquired a letter of credit
          amendment by deceit can then transfer it free of defenses,
          as if the letter of credit were a negotiable instrument.

Provident argues that it may use the defenses it had against Suriel, the
transferor of the LOC, against BDS, the transferee. Provident also
insists that Suriel was BDS's agent and that BDS was not a holder in
due course and therefore cannot claim the protection accorded a nego-
tiable instrument. Provident claims that BDS was an "involved bene-
ficiary." As such, Provident argues, BDS was in control of the
transaction and is accountable for Suriel's conduct. Provident asserts
that a transfer of an LOC is treated as a contractual assignment and
a transferee cannot have rights greater than the transferor.

The district court noted that Maryland law describes an agency
relationship as "manifestation of consent by one person to another
that the other shall act on his behalf and subject to his control, and
consent by the other so to act." Restatement (Second) of Agency
§ 1(1) (1958); accord Patten v. Board of Liquor License Comm'r, 107
Md. App. 224, 238, 667 A.2d 940, 947 (1995). Suriel was a borrower
and BDS a lender. BDS was entitled to secure the payment of interest
on the contemplated loan by insisting that Suriel obtain a LOC con-
taining terms acceptable to BDS. In passing along to Provident the
terms BDS required, Suriel was simply acting as a borrower anxious

                     5
to get a loan. The district court's conclusion that Suriel was not
BDS's agent is consistent with Mellon Bank, N.A. v. Ternisky, 999
F.2d 791, 797 (4th Cir. 1993). There is no justification for vacating
it.

The district court found that Provident had not proved sufficient
evidence to establish that BDS knew or had reason to know of Sur-
iel's conduct, which the district court described as "trickery." We per-
ceive no reason for setting this finding aside.

A letter of credit "can be transferred only if it is expressly desig-
nated as `transferable' by the issuing bank." UCP Article 54(b); Md.
Code Ann. § 5-116(1) (UCC § 5-116(7)). A transfer effectively sub-
stitutes the transferee (in this instance BDS, which became the second
beneficiary) for the first beneficiary (Suriel). The transfer creates a
"direct relationship" between the issuer (Provident) and the second
beneficiary (BDS). See Sempione II, 75 F.3d at 964; Algemene Bank
Nederland, N.V. v. Soysen Tarim Urunleri Dis Ticaret Ve Sanayi,
A.S., 748 F. Supp. 177, 181-82 (S.D.N.Y. 1990). This new relation-
ship between the issuer and the second beneficiary gives rise to the
independence principle, which makes letters of credit effective instru-
ments of commerce by assuring the transferee that the credit is free
of defenses against the original beneficiary. John F. Dolan, The Law
of Letters of Credit, ¶10.05 (1996) (hereafter Dolan).

The district court's opinion is consistent with the independence
principle. Article 3 of the UCP establishes the independence principle
of letters of credit as follows:

          Credits, by their nature, are separate transactions from the
          sales or other contract(s) on which they may be based and
          banks are in no way concerned with or bound by such con-
          tract(s), even if any reference whatsoever to such contract(s)
          is included in the credit.

In San Diego Gas & Elec. Co. v. Bank Leumi, 50 Cal. Rptr. 2d 20,
24 (Cal. App. 1996), the court emphasized that the independence
principle is essential to the utility of letters of credit in commercial
transactions. The district court properly implemented that principle by
applying it to the facts of this case. This concept or principle means

                    6
that the transferee (BDS) takes free of all the defenses that the issuer
(Provident) has against the first beneficiary (Suriel). Cf. Cromwell v.
Commerce & Energy Bank, 464 So. 2d 721, 732, 736 (La. 1985);
Brown v. United States Nat'l Bank, 371 N.W.2d 692, 700 (Neb.
1985); article 3 UCP. A succinct statement of the independence prin-
ciple is found in Dolan, ¶ 10.05: "Thus, although it is true that the
transferable credit is not a negotiable instrument, it is not necessarily
true that the transferee cannot have greater rights than those of the
first beneficiary."

Provident relies on a statement in the official comment to Md.
Code Ann. § 5-116 (UCC § 5-116) in which it is stated: "If it [LOC]
is so designated [i.e. expressly designated as assignable or transfer-
able], the normal rules of assignment apply . . .." This comment is
correct with respect to assignments. But Provident cites neither cases
nor texts that support the notion that the normal rules of assignment
apply to the transfer of a letter of credit.

In light of the ambiguous comment to section 5-116, it becomes
important to consider the practices and customs of banks engaged in
international transactions involving letters of credit. An expert wit-
ness retained by BDS had been employed by Morgan Guaranty Trust
Company of New York in the letter of credit department for 37 years.
He also served on international committees that dealt with letters of
credit. The district court credited this expert's testimony because of
his broad experience in every aspect of letters of credit. Some of the
letters of credit that he had the responsibility of issuing were transfer-
able under the UCP. He testified: "As a matter of custom and practice
the industry looks at the transfer to the second beneficiary as a sepa-
rate undertaking, as a separate independent undertaking." JA 1907.
Speaking of Provident's argument that an issuer's (Provident's)
defense against the first beneficiary (Suriel) could be asserted against
the second beneficiary (BDS), he testified: "In my opinion, if this
view was to be taken it would destroy transferrable Letters of Credit
because the second beneficiary wouldn't be able to determine, with-
out a lot of effort, whether he has a good claim against the issuer
under that separate undertaking that was transferred to him." JA 1908-
09. He also testified that he never heard any banker or member of a
letter of credit committee express a view in accord with Provident's
argument.

                     7
We conclude that the district court properly decided that any
defense Provident had against Suriel could not be asserted against
BDS.

IV

A brief outline of the structure of the loan is helpful in understand-
ing the parties' dispute about damages. The principal was secured by
the Guaranteed Investment Fund (GIF), consisting of zero coupon
bonds. BDS purchased the bonds on account of the borrower, and part
of the proceeds of the loan reimbursed BDS. The loan agreement
authorized BDS to sell the bonds at any time. At the end of the seven-
year term of the loan, the loan was discharged without further pay-
ment.

The Provident LOC secured the interest. After a short bridge loan
from a third party, RSI deposited some of the proceeds of the loan to
secure the letter of credit, but Provident allowed RSI to deplete the
deposit in order to pay interest. The loan agreement gave the borrower
the right of anticipation after five years subject to certain conditions,
but neither Suriel nor RSI complied with these conditions.

The borrower was obligated to pay interest on the "unpaid principal
balance" of the loan. Provident argues that when BDS sold the zero
coupon bonds, the principal of the loan was reduced, the borrower's
obligation to pay interest was reduced, and the obligation of the LOC
was also reduced. BDS argues that the GIF was the collateral for the
loan and that the loan agreement gave it the right to "sell, discount,
trade, or assign the proceeds of the Guaranteed Investment Fund
(GIF) anytime during the loan term." JA 3907. Sale of the bonds,
BDS argues, did not reduce the principal of the loan but rather was
an exercise of the right, which the loan agreement granted, pertaining
to the GIF.

The district court ruled that BDS sold the bonds pursuant to the
loan agreement and that, consequently, Md. Code Ann. § 9-504 (UCC
§ 9-504), which governs the sale of collateral, was inapplicable. The
district court concluded that the sale of the zero coupon bonds did not
effect the right of BDS to claim interest on the entire principal. It rea-
soned that the GIF, not the bonds, was the collateral securing the note

                     8
and that the sale of the zero coupon bonds was not a sale of the GIF.
Moreover, at the maturity of the loan, the borrower had the right to
demand that the GIF was the sole source for repayment of the loan,
regardless of the nature and amount of the GIF's assets. The borrower
owed nothing more. In the words of the loan agreement, the "repay-
ment obligation shall be non-recourse to the other assets of Bor-
rower." JA 3907.

Because the GIF, and not the zero coupon bonds, was the collateral
for the loan, the sale of the zero coupon bonds was not a sale of the
collateral. Therefore, the entire loan amount was still unpaid after the
sale, and BDS could still collect interest on the entire unpaid princi-
pal. As the district court observed, the transaction was not as onerous
as it appears at first blush. Although RSI had to pay interest as a part
of the loan proceeds it never received, it did not have to repay the
principal of the loan.

RSI defaulted by failing to pay interest as it became due. The loan
agreement provided for default interest at the rate of 5% above inter-
est on the loan. The district court held that BDS should recover inter-
est at the default rate after RSI defaulted. The court recognized,
however, that the LOC has a $750,000 annual cap, and it denied
recovery of interest in excess of the cap.

We affirm the district court's judgment pertaining to Provident's
liability and the measure of damages including prejudgment interest
and a limited amount of default interest.

AFFIRMED

                     9
