Emery-Waterhouse Co. v. Rhode Island Hosp. Trust Nat. Bank, EMERY-WATERHOUSE

• Decision Date: 11 March 1985
• Docket Number: Nos. 84-1123,EMERY-WATERHOUSE,84-1162,s. 84-1123
• Citation: 757 F.2d 399
• Parties: 40 UCC Rep.Serv. 737 TheCOMPANY, Plaintiff, Appellee, v. RHODE ISLAND HOSPITAL TRUST NATIONAL BANK, et al., Defendants, Appellants. TheCOMPANY, Plaintiff, Appellant, v. RHODE ISLAND HOSPITAL TRUST NATIONAL BANK, et al., Defendants, Appellees.
• Court: U.S. Court of Appeals — First Circuit

Page 399

757 F.2d 399

40 UCC Rep.Serv. 737

The EMERY-WATERHOUSE COMPANY, Plaintiff, Appellee, v. RHODE ISLAND HOSPITAL TRUST NATIONAL BANK, et al.,

Defendants, Appellants.

The EMERY-WATERHOUSE COMPANY, Plaintiff, Appellant, v. RHODE ISLAND HOSPITAL TRUST NATIONAL BANK, et al.,

Defendants, Appellees.

Nos. 84-1123, 84-1162.

United States Court of Appeals, First Circuit.

Argued Nov. 9, 1984.

Decided March 11, 1985.

Carl K. King, Boston, Mass., with whom Peter S. Brooks and Goldstein & Manello, Boston, Mass., were on brief for Rhode Island Hosp. Trust Nat. Bank.

Robert J. Piampiano, Portland, Me., with whom Michael P. Boyd, Richardson, Tyler & Troubh, Portland, Me., John T. Walsh, Jr. and Higgins, Cavanagh & Cooney, Providence, R.I., were on brief for Emery-Waterhouse Co.

Before BREYER, Circuit Judge, McGOWAN, ^* Senior Circuit Judge, and TORRUELLA, Circuit Judge.

BREYER, Circuit Judge.

The Rhode Island Hospital Trust National Bank ("Hospital Trust Bank") appeals a federal district court's findings that it acted unlawfully--indeed, that it acted wilfully, recklessly, wickedly, or criminally--when it took and failed to return $139,700 belonging to the Emery-Waterhouse Company ("Emery"). After reviewing the record with care and considering appellant's legal arguments, we conclude that the decisions of the judge and jury in this diversity case were adequately supported in fact and law. We affirm the court's award to Emery of $139,700 in actual damages and $1,397,000 in punitive damages.

I

We take the key facts to be the following: The Franklin Cast Products Company ("Franklin") imported wood burning stoves from the Orient and resold them in the Northeast. Its business grew rapidly. Hospital Trust Bank helped it finance that business by lending it several million dollars, which Franklin used for the most part to pay foreign stove suppliers. As security for these loans, Franklin gave Hospital Trust Bank rights to its accounts receivable. Franklin and Hospital Trust Bank also organized a secured lending arrangement with what are known as "back to back" letters of credit.

Under a "back to back" financing arrangement, a Firm assigns a Bank a debt that the Firm's Customer owes the Firm along with an ironclad guarantee, such as a letter of credit (LC1 ), assuring that the Customer will pay its debt. The Bank uses the assignment and guarantee as security for an additional Bank loan to the Firm, in the form of the Bank's own letter of credit (LC2 ), which guarantees payment when the Firm buys from the Firm's suppliers. Franklin, for example, required a typical customer, Customer X, to obtain a letter of credit from a reputable bank guaranteeing payment of Customer X's debts to Franklin up to some amount, say $300,000. Franklin assigned its rights to all Customer X's present and future payments to the Hospital Trust Bank. Suppose Customer X bought, say, an additional $10,000 worth of stoves from Franklin. Payment of Customer X's new $10,000 debt would be guaranteed under Customer X's own letter of credit, from Customer X's own bank, which letter would run in Franklin's favor. Hospital Trust Bank, then believing itself in possession of an additional $10,000 worth of security, would guarantee payment to Franklin's suppliers (via Hospital Trust's own letter of credit) of $10,000 worth of additional Franklin purchases. That is to say, Hospital Trust Bank, the assignee of Franklin's accounts receivable, now has an additional $10,000 receivable. It knows collection is assured by LC1 ; it therefore advances Franklin an additional $10,000 under LC2 .

In 1981 Emery, an important Franklin customer, arranged with its own bank, First National Bank of Boston ("FNB"), to provide Franklin with the necessary letter of credit (LC1 ) guaranteeing Emery's payment for present and future purchases. This letter guaranteed payment by FNB of up to $329,000 of Emery's debts to Franklin. The parties thought that this letter, unlike an ordinary commercial letter of credit, would not itself be used to pay Franklin; rather, Emery would pay its bills directly. The FNB letter was considered a "standby" letter, to be used only as a guarantee of payment, rather than as a typical or expected source of payment. The letter states that to draw upon it Franklin must present FNB with a

signed statement certifying that the amount of your draft represents funds due you as a result of the failure of the Emery-Waterhouse Company to pay invoice(s) within its terms, that demand for payment has been made, and that payment has not been received by you from the Emery-Waterhouse Company or any other source.

After obtaining this letter, Emery continued to do business with Franklin as it had since 1979. It would buy stoves. Franklin would send an invoice for the money due. Emery would then send payment directly to Hospital Trust Bank (for it knew that Franklin had assigned Hospital Trust its accounts receivable). When Emery believed that the amount on Franklin's invoice was incorrect (if, for example, the invoice failed to show credits that Emery had obtained, say, by returning some stoves), Emery would send Hospital Trust a check for less than the full amount on the invoice. In such a case Emery would also enclose a list of deductions or credits taken and the form statement, "If correct, detach and deposit check otherwise return entire voucher." Whenever this sort of "net check" arrived, a Hospital Trust employee would verify through Franklin that the deduction was proper. The employee would then deposit the check. Hospital Trust would treat the difference between invoice and payment as an additional loan to Franklin.

In early November 1981 Franklin learned that a jury had returned a $1.4 million verdict against it in a trade infringement case. On November 9 Franklin's chief executive officer told Hospital Trust Bank officers that Franklin was finished. Hospital Trust Bank, realizing that Franklin owed it approximately $2 million, ordered one of its officers to take over Franklin. The officer hired John Donnelly (a Franklin official and a former Hospital Trust Bank employee with extensive "letter of credit" experience) to help organize Franklin's liquidation. At the same time, Hospital Trust seized Franklin's bank accounts to partly offset Franklin's debts to Hospital Trust Bank.

Hospital Trust Bank apparently decided to obtain additional money by calling upon letters of credit that named Franklin as a beneficiary. In particular, the Hospital Trust Bank told Donnelly to prepare drafts drawing down Emery's letter of credit in the amount of any outstanding invoices. Donnelly prepared three "sight drafts" for payment in Hospital Trust Bank's favor, one for about $87,000, one for about $7,000, and one for about $46,000. Donnelly, in each instance, attached a request to FNB to pay the drafts to Hospital Trust Bank and to charge Emery's letter of credit. Donnelly, in each instance, attached copies of Franklin's invoices to Emery and a certification stating,

We hereby certify that the amount of draft represents funds due as a result of the failure of the Emery-Waterhouse Company to pay invoices within its terms, that demand for payment has been made, and that payment has not been received by us from the Emery-Waterhouse Company or any other source.

Donnelly sent these documents to FNB on November 25. His testimony makes clear that he did so reluctantly. He knew that Hospital Trust Bank's records of money owed Franklin were muddled and incomplete. He feared that Hospital Trust Bank was trying to collect money that Franklin's customers did not owe it. Donnelly testified that he told other Hospital Trust Bank officials that it was "wrong" to send the demands for payment without checking the records. He added that he signed these certificates even though he was "very sure" that they were wrong. He testified that other Hospital Trust Bank officials told him that "this is what I have to do." He said he told them that if Hospital Trust acted in this way it would have to "take the consequences." And, he later told Franklin's Chief Executive Officer that, "I shouldn't have done it and I regret that I did it."

When FNB received the drafts, it immediately paid two of them (for $87,000 and $7,000). It held up payment of the third. At the same time, FNB notified Emery, which immediately got in touch with Hospital Trust and with Franklin's CEO, and told both that it did not owe Franklin the money. It asked Hospital Trust Bank to check its own records, Franklin's records, and Emery's records. Franklin's CEO testified that he too told Hospital Trust that Emery did not owe this money--at least not all of it. Despite this information, Hospital Trust Bank insisted that FNB pay the remaining $46,000 draft, and it refused to return to Emery any of the money it had obtained from FNB.

The question of whether FNB would honor the third draft was not resolved for some time, for Emery obtained an injunction forbidding its payment. While the injunction was in effect, Hospital Trust Bank conducted its own internal investigation as to whether Emery owed Franklin $46,000. Its investigators told Hospital Trust Bank that Emery did not owe the money. Hospital Trust Bank nonetheless continued to press for payment; and it refused to return any of the money it had previously obtained. Eventually the injunction was dissolved (on the ground that the present suit provided Emery with an adequate remedy). And, Hospital Trust Bank obtained the additional $46,000 from FNB.

Emery brought this suit in Rhode Island to get back the $139,700 that Hospital Trust Bank had obtained from FNB (which in turn had debited Emery's FNB account). Emery argued that it owed Franklin nothing. After presentation of the relevant account books and documents, the jury agreed. It concluded that Hospital Trust Bank should return to Emery the $139,700 it had taken. And, it awarded Emery an additional $2 million in punitive...