Built for duty in the Asiatic Fleet on the Yangtze River, Panay had as her primary mission the protection of American lives and property frequently threatened in the disturbances that the 1920s and 1930s brought to a China struggling to modernize, create a strong central government, and later counter Japanese aggression.

Panay evacuated the remaining Americans from the city on 11 December, bringing the number of people aboard to five officers, 54 enlisted men, four US embassy staff, and 10 civilians, including Universal News cameraman Norman Alley, Movietone News’ Eric Mayell, The New York Times' Norman Soong, Collier's Weekly correspondent Jim Marshall, La Stampa correspondent Sandro Sandri and Corriere della Sera correspondent Luigi Barzini Jr. Panay moved upriver to avoid becoming involved in the fighting around the doomed capital.

Knowing of the presence of Panay and the merchantmen, the Imperial Japanese Navy requested verification of the order, which was received before the attack began about 13:27 that day.

Panay was hit by two of the eighteen 60 kg (130 lb) bombs dropped by three Yokosuka B4Y Type-96 bombers and strafed by nine Nakajima A4N Type-95 fighters.

Storekeeper First Class Charles L. Ensminger, Standard Oil tanker captain Carl H. Carlson and Italian reporter Sandro Sandri were killed, Coxswain Edgar C. Hulsebus died later that night.

A large indemnity was paid (approximately $2,000,000,[7] which is equal to $43,290,780 today) on 22 April 1938 and the incident was officially settled; however, further deterioration of relations between Japan and the United States continued.