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CHEMICAL BANK v. AFFILIATED FM INS. CO.

July 18, 1997

CHEMICAL BANK, Plaintiff, against AFFILIATED FM INSURANCE CO., Defendant.


The opinion of the court was delivered by: POLLACK

 OPINION AND FINDINGS

 This action was tried at a Bench Trial before the Honorable Milton Pollack, United States Senior District Judge, without a jury on May 12, 1997, May 13, 1997, May 14, 1997, May 15, 1997, May 16, 1997, May 19, 1997, May 20, 1997, May 22, 1997, May 23, 1997, May 27, 1997, May 28, 1997, May 29, 1997, May 30, 1997, June 2, 1997 and June 3, 1997; and this Court having heard and seen the witnesses, and having received and ruled on the exhibits proffered by the parties and having received deposition designations of the parties at hearings held on June 4, 1997 and June 5, 1997; and this Court having evaluated the testimony of witnesses, and having considered the documents received in evidence, and having reviewed the depositions, in whole or in part, as designated by the parties, and due deliberation having been had, reports the same in its Opinion and Findings and expresses its Conclusions, as follows.

 This decade-old insurance policy dispute stems from the fraud perpetrated by a Colombian coffee exporter, Gonchecol Ltda. ("Gonchecol"), against a United States importer ("Andina") *fn1" and six financing banks (the "Banks"), *fn2" which caused losses in 1986 totalling over $ 94,500,000. Gonchecol presented fraudulent truck bills of lading as draw documents in order to obtain payment on letters of credit provided by the Banks to their customer Andina. At the outset of these consolidated actions, the Banks and Andina brought claims against two insurance companies -- Affiliated FM Insurance Company ("Affiliated") and Lloyd's of London ("Lloyd's" or the "London Insurers") -- to recover under open cargo marine insurance policies and against two insurance brokers -- Trinder & Norwood and Hogg Robinson Ltd. and Hogg Robinson & Gardner Mountain Ltd. By 1993, all the defendants except for Affiliated negotiated settlements with the Banks. In this action, the Banks seek to recover $ 44,174,000 together with pre-judgment interest from January 1, 1987 arising under forty-eight letters of credit drawn or paid prior to March 21, 1986.

 Plaintiffs base jurisdiction under 28 U.S.C. ยง 1332. Defendant Affiliated is a citizen of Rhode Island. Each of the plaintiffs, at the commencement of the actions, was a citizen of a state other than Rhode Island or a nation other than the United States and had its principal place of business in New York.

 The unique commercial context and drawn-out prelitigation history is as follows.

 I. The Parties and Their Commercial Dealings

 The Echeverris, Colombian nationals, owned and controlled Gonchecol and other coffee businesses in Colombia. These businesses -- Gonchecol, Goncheverri and Gonchelopez (collectively the "Gonche Group") -- exported sizable quantities of coffee to the United States, Europe, and Japan during the 1970s and 1980s up until the fraud. *fn3" The Gonche Group represented one of two of the largest private exporters of coffee in Colombia. *fn4" Julian Echeverri directed the Echeverri family enterprises; his nephew, Ruben Echeverri ("Ruben" or "Echeverri"), ran the day-to-day operations of Gonchecol. Bank files on Andina reveal that the Gonche Group also held large interests in banking, *fn5" textiles, cattle ranching and other industrial enterprises and its owners were well connected in Colombia. *fn6" The Banks believed the Echeverri family to be a leading family in Colombia, and well regarded in the political and business community. *fn7"

 In 1974, the Echeverris, along with several other Colombian coffee-exporting families, established Andina Coffee, Inc. in New York, New York *fn8" to serve as its agent and to facilitate the importation of coffee into the United States. Subsequently, in order to minimize the exporters' taxable income in the United States, the ownership of Andina's stock shifted from the founding individual shareholders to three Panamanian corporations, in which the Echeverris held a minority share. *fn9" In 1983, Andina Coffee, Inc. formed Andina Trading Corporation as a wholly-owned subsidiary. Andina Coffee derived its income from commissions on the sale of coffee and from financing charges imposed on the exporters. Andina Trading Corporation derived its income from profits in the sale of coffee. *fn10"

 At the time of the discovery of the fraud in 1986, Andina was the largest importer of Colombian coffee into the United States and enjoyed a strong reputation in terms of delivery, quality, and reliability. *fn11" Humberto Canal and Dennis Kessler managed Andina: Canal served as the chief operating officer; *fn12" Kessler served as its chief financial officer. *fn13" Based on between five and ten years of profitable collaborative experience, which was described as "increasingly close and open," the Banks knew Andina's management well and regarded them highly. *fn14" Canal and Kessler enjoyed over a long time solid reputations in the industry as reliable, respected and trustworthy merchants. *fn15" Julian Echeverri, Ruben Echeverri and Hernan Lopez -- all original individual owners of Andina -- at various times, also served as officers of Andina *fn16" and members of the board of directors. *fn17"

 After Gonchecol contracted for the sale of coffee to roasters int eh United States, *fn18" Andina also provided the Gonche Group with financing for the export of coffee from Colombia through documentary letters of credit charged against secured lines of credit established with various United States and European banks. *fn19" The letters of credit at issue in this case provided that the Colombian exporter, as beneficiary, could obtain payment from a Bank by presenting the following draw documents: a railroad or truck bill of lading; a commercial invoice; and a letter to the port forwarder requesting the preparation of an ocean bill of lading to the order of the financing bank. Correspondent Colombian banks forwarded the draw documents to the financing banks, which in turn advanced the funds. As a general rule, Andina did not receive copies of the truck bills of lading or other draw documents. *fn20" This mode of transactional financing enabled Andina to finance the purchase of specified lots of coffee and to repay the letters of credit with the proceeds of the sales of coffee. *fn21"

 Through this asset conversion cycle plaintiff Banks extended hundreds of millions of dollars of credit to Andina, all of which was timely repaid prior to 1986. *fn22" Up until the discovery of the fraud, Andina proved a reliable and profitable customer of the Banks. Canal and Kessler maintained good relations with the Banks' officers. The Banks' officers maintained in-depth files on Andina and kept abreast of industry developments. While some of the Banks endeavored to improve upon the security underlying the transactional financing -- especially in light of the uncommon challenges posed by conducting business in Colombia during the 1980s -- on the whole, Andina had established an excellent track record of credit trustworthiness and profitability.

 Andina, for its part, profited from its commercial arrangements. Gonchecol had kept up with their shipment obligations. Canal, Andina's president, testified (by deposition) that prior to 1986 Andina did not need to interfere in the manner in which the Gonche Group transported coffee from the warehouses to the ports because they had exported over the years between 13 to 14 million bags without incident. These volumes both impressed and pleased Andina's management. *fn23" Canal expected Andina to make sizable profits in 1986; *fn24" and, some of the Banks noted Gonchecol's profitable operations through the first quarter of 1986. In addition, Andina's minutes of its board meetings in September, 1985 and May, 1986 indicate that the Gonche Group hoped to increase its monthly exports to over 130,000 bags, and that Kessler sought additional lines of credit with other banks to augment Andina's available credit to at least $ 250 million. *fn25"

 II. The Insurance Policy

 As a condition of financing, the Banks routinely obtained through Andina suitable insurance against false draw documents. Andina obtained a marine open cargo insurance policy issued by Affiliated (the "Affiliated Policy" or "Policy") on July 23, 1980. Each of the Banks was named in the Affiliated Policy as an additional assured as evidenced by separate Banker's Endorsements. The Affiliated Policy expressly extended coverage to losses caused by fraudulent bills of lading, shipping receipts or messenger receipts. *fn26" In addition, each of the Banker's Endorsements, in relevant part, stated: (1) that the Bank's interest would not be impaired or invalidated by an act or neglect or breach of warranty of Andina; (2) that the Bank must receive 10 days prior written notice of any cancellation; and, (3) that "the policy does not insure against conversion, misappropriation or other dishonest acts committed by or on behalf of the named Assured." *fn27"

 Affiliated did not deal directly with Andina, but rather dealt with Trinder & Norwood, an insurance broker. *fn28" In the summer of 1985, Affiliated decided to cancel the Affiliated Policy because the Andina account had proven to be unprofitable and contacted Trinder & Norwood about replacing it with another policy. In the fall of 1985, the manager of Affiliated's marine cargo department, David Pemmerl, called Trinder & Norwood to inform them of Affiliated's intention to cancel the policy. Shortly thereafter, on November 27, 1985, Pemmerl sent notice of cancellation for the insurance policy effective March 1, 1986. *fn29" Pemmerl did not send a copy of the letter to Andina or to any of the Banks. *fn30" Because Trinder & Norwood feared marketing the Andina account under a notice of cancellation, it asked and Affiliated agreed to rescind the cancellation, and Trinder & Norwood assured Affiliated that it would seek a replacement policy as soon as possible. *fn31" On February 25, 1986, Pemmerl received a telex from Trinder & Norwood notifying Affiliated that a second insurance policy with Lloyd's of London was placed with their underwriters and became effective as to all shipments made on and/or beginning on and/or after February 25, 1986. *fn32" Affiliated, however, did not send notice of cancellation to the Banks until March 11, 1986, and under the 10-day prior written notification of cancellation requirement the Affiliated Policy was not cancelled until March 21, 1986.

 III. The Discovery of the Fraud

 During the 1980s, among other business endeavors, the Gonche Group constructed a large office building in Cali, Colombia called the Cali Tower. The Cali Tower proved to be an unsuccessful business venture and a financial drain for the Gonche Group. *fn33" In addition, the Gonche Group looted Gonchecol to cover debts incurred by Goncheverri and Gonchelopez, and Goncheverri's director speculated in coffee futures on the commodities market and thus incurred further debts. *fn34" Over time, Gonchecol's financial situation grew dire as debts mounted.

  Nonetheless, as noted above, throughout 1985 and into 1986, the Gonche Group sustained a steady rate of coffee exports, and kept up with its asset conversion cycle. *fn35" In the winter of 1985, Ruben Echeverri requested that Andina increase the amount of available financing in order to augment the exports of coffee. *fn36" Andina's management imposed as conditions of their securing additional lines of credit that the Gonche Group increase their working capital and that they shorten the asset conversion cycle.

 In April, 1986, Canal travelled to Colombia to assist the Echeverris in increasing their working capital. During this trip, Canal discovered that the Gonche Group faced a cash flow liquidity problem, which he attributed to several factors -- each of which compounded the other. First, the Colombian peso had undergone a substantial devaluation. Second, the Echeverris had taken out significant loans in dollars, which they were forced to repay with devalued pesos at high exchange rates. Finally, a shift in tax policy, which required exporters to pay an export tax with increasingly greater cash contributions rather than in-kind payments and which moved up the time of payment from the port to the mill, further exacerbated the Gonche Group's cash flow liquidity problem. *fn37" The Echeverris informed Canal that the requirement to pay ever-increasing portions of the tax in cash -- and the Gonche Group's liquidity crisis -- were causing delays in the anticipated deliveries of coffee.

 Andina held a board of director's meeting on May 19, 1986, at which time Canal discussed the Gonche Group's cash flow liquidity problem and the resulting delays in coffee shipments. Canal assured the Board that the situation in Colombia did not jeopardize Andina's collateral position, and that he believed the liquidity problem to be temporarily resolvable. Canal outlined a plan of the Gonche Group to sell $ 30 million in hard assets in order to infuse Andina with working capital and to shorten the asset conversion cycle. At the meeting, Ruben Echeverri, a senior executive of Gonchecol and a director of Andina, stated that even if the Banks suspended all the lines of credit, the Gonche Group would nonetheless export all financed coffee. Ruben Echeverri further noted that he had signed a subordination agreement covering all amounts due Gonchecol as unrepatriated earnings.

 At this point, Kessler did not notify the Banks that the Gonche Group faced a cash flow liquidity problem. Ruben Echeverri had personally assured the Andina management that the Gonche Group could and would deliver the financed coffee. Because the exporters had always complied with past promises, had met their obligations in a timely fashion, had sustained the necessary export volumes, and had substantial wealth and assets in Colombia, Canal and Kessler trusted that the exporters would resolve the liquidity crunch that they faced. *fn38"

 In late May or early June, 1986, Andina noticed a marked elongation in the cycle with increased delays in the exportation of coffee and repayment of letters of credit. In June and July, Gonchecol's shipments began to lag appreciably, *fn39" and the exporters requested on at least two occasions that Andina send funds to Colombia. Canal and Kessler declined to do so. *fn40" Relations between the Gonche Group and Andina's management became strained. Nonetheless, in order to maintain Andina's economic viability, when the exporters asked Andina to request 60-day extensions of payment of Andina's letters of credit coming due, Andina complied. Starting in early July, Andina began to contact and meet with individual financing Banks to discuss the liquidity crunch and to request additional short-term financing, which request at least one Bank granted. *fn41" *fn42" Chemical Bank, with whom Andina had the largest line of credit, refused Andina's request because its management found the exporters' explanations inadequate. Chemical Bank informed Andina that it needed greater details regarding the changes in the taxes before it would extend credit. *fn43" Shortly thereafter, the Banks and Andina were quickly overtaken by events.

 The Gonche Group failed to sell any hard assets to raise working capital for Andina as promised by Ruben Echeverri at the Andina board meeting of May 19, 1986. *fn44" As the situation deteriorated, the Banks' officials conferred with one another and confirmed that Andina's loans were due with all the financing institutions. On August 12, 1986, Robert Nead ("Nead"), an American Express bank official, joined joined Canal in Colombia to investigate the situation. *fn45" On August 14, 1986, Kessler arranged a meeting of the Banks in New York to discuss potential solutions to the liquidity problem. *fn46" At the same time, Nead and Canal arranged to meet Ruben Echeverri at Gonchecol's offices in Bogota. At the Bogota meeting, Ruben Echeverri stated that he was in financial difficulty with the Colombian banks, that he had pledged coffee to them, and that approximately 200,000 bags of coffee financed by the Banks was missing. *fn47" Ruben Echeverri further stated that because he was in a liquidity crisis and needed money, he had drawn against letters of credit with false documents. *fn48" Ruben Echeverri's admissions infuriated Canal. *fn49" Immediately thereafter, Canal and Nead placed two separate conference calls to the Banks' group meeting in New York at which time they informed the group of Ruben Echeverri's admissions. The attendees, including Kessler, responded to the news of the missing coffee and the fraudulent draw documents with shock and surprise.

 At the August 14, 1986 meeting, the Banks decided to send a representative group to Colombia to investigate the situation and determine what steps the Banks could take to identify and secure their collateral. The Banks met in Bogota on August 19, 1986 at a meeting attended by Ruben Echeverri, another employee from Gonchecol, eleven representatives from the financing Banks, and attorneys from two of the Banks' local Colombian counsel. Subsequently, Ruben indicated that twenty people were present. Canal did not attend. In the presence of this large group, Echeverri offered the same explanation for the missing coffee that he had given at the first meeting: he stated that he was in a liquidity crisis due to other business ventures, foreign exchange losses and illiquid investments. *fn50" Echeverri elaborated that he had borrowed money from Colombian banks, that they sought repayment, and that he presented false truck bills of lading (through a trucking company called Enaltra, which he had previously bought) to draw on letters of credit. *fn51" At this August 19, 1986 meeting, Nead specifically asked Echeverri whether Andina was aware of the fraudulent draw documents. Echeverri responded that Andina was not aware and complained that Andina was causing him discomfort by pressuring him to deliver coffee, exacerbating his financial difficulties, and risking a financial scandal. *fn52" Canal later expressed anger at being excluded from attending this meeting. *fn53"

 In the events leading up to and after the discovery of the fraud, Andina broke completely from the Gonche Group. In addition to refusing to send further funds to the Gonche Group, subsequent to the discovery of the fraud, Andina placed its liquid assets into an escrow account for the benefit of the Banks. Further, after August, 1986 and on the advice of its counsel, Andina's personnel ceased all direct communications with the Echeverris.

 A preponderance of the credible evidence shows that at the very least Echeverri began to present fraudulent draw documents upon becoming financially strapped and desperate and that Andina's management neither knew nor participated in the fraud. Echeverri offered consistent explanations at the August 14, and August 19, 1986 meetings for the cause of the missing coffee -- specifically, the Gonche Group's financial difficulties and Gonchecol's subsequent presentation of fraudulent truck bills of lading. At the latter meeting, in the presence of twenty witnesses, Echeverri not only unqualifiedly exonerated Andina of any wrongdoing but expressed irritation at Andina for "exacerbating" his difficulties. Eyewitness testimony of Canal's reaction to both Echeverri's confession of the fraud and to his exclusion from the August 19, 1986 meeting further support a conclusion of Andina's lack of knowledge of Gonchecol's fraud.

 The discovery that 200,000 bags of coffee were missing and that Gonchecol had presented fraudulent truck bills of lading for payment came as a complete shock and surprise to the Banks and Andina's management. Neither the financing Banks nor Andina had any inkling that their moneys had been misappropriated in an age-old type of fraud -- through the use of false draw documents to obtain payments of letters of credit. The Banks had enjoyed a close working relationship with a major, reputable, and profitable importer, which in turn had dealt with and trusted its founding principals -- members of one of the largest, best respected, and most successful Colombian coffee exporting families. *fn54"

  Another reason why the discovery of the fraud came suddenly, unexpectedly, and unbelievably for the Banks and Andina was because Gonchecol had continued to supply coffee up until May or June, 1986. Andina obtained coffee for its sales to the roasters and used the payments it received therefor to repay the Banks millions of dollars of outstanding letter of credit loans. *fn55" Moreover, prior to the discovery of the fraud, Andina had experienced similar delays in shipments of coffee. Periodically, Andina's inventory would accumulate in Colombia and its inland portion of the financing cycle would lengthen due to port congestion, strikes, or problems in securing military escorts for the transport of coffee from the mills to the port. *fn56" For example, in 1983, a protracted dock strike in Colombia caused a buildup of 92 percent of Andina's inventory in Colombia. *fn57" Not surprisingly, the debacle of 1986 caught the Banks and Andina wholly by surprise.

 In the aftermath of the discovery and confession of the fraud, the Banks notified Affiliated of the losses and filed timely proofs of losses. At no time did the Banks conceal any material information regarding the fraud.

 IV. Affiliated's Pre-Trial Conduct

 The subsequent chapter of this case concerns the conduct of Affiliated in preparation for trial, specifically its efforts to concoct a defense to the Banks' claims. In 1990, Affiliated retained the firm of Podvey, Sachs, Meanor, Catenacci, Hildner & Cocoziello ("Podvey, Sachs") as its sole counsel in the instant litigation. As Affiliated readily admitted at trial, at that time, Affiliated had no witnesses to help advance a cognizable defense. *fn58" Among its numerous attempted theories, Affiliated reasoned that proof of Andina's and the Banks' complicity in the fraud would bar recovery under the Policy's "dishonesty" clause. To that end, between 1990 and 1994, Affiliated engaged in secret, questionable negotiations to induce Ruben Echeverri and his brothers, Luis and Jorge Hernan, to impute to the ...


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