Wednesday, February 12, 2014

Enforceable Security Agreement Implied From Bill of Sale—UCC § 9-203

Tough Company, Inc. v. Wurlitzer 2014 WL 298699 (January 28, 2014)

California Court of Appeal, Third District
(Not Officially Published)

In a legal battle between a “Tough Company” and a “Wurlitzer,” you might expect the tough company to prevail. You’d be wrong.

In this case, Mr. Wurlitzer sold three pieces of construction equipment to Tough Company, Inc., for $59,000, specifying the purchase amount for each (bulldozer, $48,000; truck, $5,000; trailer, $6,000). The bill of sale also listed the equipment by serial, VIN or license number, for each. Tough Company paid only $40,000. Tough Company expected to borrow the remaining $19,000 purchase price but was unable to do so. The parties executed a second, shorter bill of sale, acknowledging that the balance due was payable “as soon as possible.” There was no separately identified security agreement and no specific wording regarding the granting of security in either bill of sale. Wurlitzer filed title documents with the Department of Motor Vehicles identifying himself as the lienholder on the truck and trailer. Wurlitzer did not file a UCC-1 financing statement or DMV lien document for the bulldozer. Tough Company never coughed up the remaining $19,000 unpaid balance. Wurlitzer took back possession of all three pieces of equipment.

True to its name, Tough Company sued Wurlitzer, claiming he had no right to possession of the bulldozer, since there was no enforceable security interest.

Interpreting California Uniform Commercial Code § 9203 (UCC § 9-203), the Court held that an enforceable security interest could be implied from the terms of the bill of sale and the creditor’s testimony that they intended to create a security interest. Section 9203 requires an “authenticated … security agreement that provides a description of the collateral…” The trial court found that “the parties gave respective values to the truck, trailer, and … [bulldozer] from which a reasonable inference can be drawn that … it was intended that the [bulldozer] was part of the collateral.” The court found that they could have excluded the bulldozer from the collateral if they had intended to do so. Or they “could have adjusted the values,” presumably by listing a value for the bulldozer equivalent to the check paid ($40,000) instead of an amount including future payments ($49,000).

The court of appeal affirmed, finding substantial evidence to support this conclusion. The result is somewhat unusual, because there was no specific written statement of lien or security interest, and no perfecting instrument like a UCC-1 financing statement was filed for the bulldozer. The court of appeal relied on earlier cases holding that “nothing in the code requires the debtor to sign a separate, formal document labeled ‘security agreement’ in order to create a valid security interest.” (Citing Komas v. Future Systems, Inc. (1977) 71 Cal.App.3d 809, 814, 816.) No “magic words” or “precise forms” are “necessary to create a security interest.” (Citing In re Amex-Protein Development Corp. (9th Cir. 1974) 504 F. 2d 1056, 1058-59.) The court decided the issue “by considering together all the documents and circumstances related to the transaction.”

The court also relied heavily on the Comment to UCC 9-203 which states that nothing in Section 9203 “rejects the deeply rooted doctrine that a bill of sale, although absolute in form, may be shown in fact to have been given as security.”

The court of appeal rejected an assertion that this comment only protected debtors, not creditors. The court found that the follow-up sentence to this comment did not limit the creditor’s right to use parol evidence of a security agreement: “Under this Article, as under prior law, a debtor may show by parol evidence that a transfer purporting to be absolute was in fact for security.” (Cal. Uniform Commercial Code § 9203, at Comment 3; emphasis added). The court distinguished a case which contained contrary language (Burlesci v. Peterson (1998) 68 Cal.App.4th 1062) as unpersuasive dictum.

Friday, December 20, 2013

Statutory Conversion of Check Under UCC 3-420: Delivery Required

LDI Growth Partners LLC v. JPMorgan Chase Bank, N.A.
2013 WL 5918414 (California Court of Appeal, First Dist., Div. 5;  November 5, 2013; unpublished)

In this unpublished decision by the First District, Division 5, of the California Court of Appeal, a factoring company unsuccessfully sued a bank for statutory conversion of three checks under California Uniform Commercial Code § 3420 (UCC § 3-420).

Under UCC 4-320, a bank can be liable for statutory conversion of a check if it makes payment on the instrument for a person not entitled to receive the instrument or payment.  There’s a catch, however: if the payee (or payee’s agent) did not receive delivery of the check, the payee cannot sue the bank, based on the condition imposed in UCC § 3-420(a)(2).  The rationale is that the payee has no interest in a check, and does not become a holder of a check, unless and until it is delivered to the payee.  (See Comment 1, at 3rd & 4th paragraphs, to UCC § 3-420.)

In this case, the plaintiff factoring company/payee did not physically receive the checks, which were delivered to the factoring company’s debtor/customer.  The debtor/customer was not an authorized agent to receive the checks on behalf of the factoring company.  The court of appeal held that the factoring company’s failure to satisfy the delivery condition of UCC § 3-420(a)(2) invalidated its claim, reversing the trial court.

Friday, January 18, 2013

Stretching The Fabric: Overcoming Late Delivery of Goods Using UCC Sections 1-103(b) and 2-202

Horizon Textiles, Inc. v. Pandelco, Inc.
(2012 WL 6622123,Unpublished)
December 20, 2012; California Court of Appeal, 2nd District, Division 1

When is delivery after the contract-specified date not "late" for purposes of termination due to breach of contract?  That question was effectively posed by the Horizon Textiles case.

The buyer, Pandelco, ordered custom-made fabric from seller Horizon Textiles. The contract, based on purchase orders, specified delivery by a certain date. The seller was waiting for final approval of the finished fabric sample before completing the manufacture and delivery of the fabric.  If the buyer had given approval, the delivery would have been made a few days late, but still in time for the buyer to meet its customer deadline.  Instead of approving the final fabric sample, the buyer waited and canceled the order as "late" under the contract.

The seller prevailed in the trial court and court of appeal.   The court of appeal relied on two concepts: (a) application of custom and usage of trade under California Uniform Commercial Code section 2202 (UCC Section 2-202), and (b) common law estoppel, under California Uniform Commercial Code section 21103(b) (UCC Section 1-103(b)).

The seller testified that contract-specified deadlines were not strictly observed in the fabric production industry: "a 'few days late' is acceptable in the industry."  The court accepted this as evidence of custom and usage to explain and supplement the contract due date under UCC section 1-103(b). 

The court also found there was evidence, in email exchanges and other dealings, that the buyer had agreed to a later delivery of the fabric; and that its non-approval of the final fabric samples and cancellation were inconsistent with the buyer's earlier actions. The buyer's email correspondence before the cancellation did not unambiguously state that the buyer would terminate the contract unless delivery were strictly made by the due date.  This evidence supported a finding of common law estoppel. The court upheld the enforcement of this estoppel under UCC section 1-103(b), which specifically states the UCC does not displace the principles of equity and estoppel.

The court found email extensions of time constituted "additional terms" that may become part of the contract under UCC section 2-207.  That part of the opinion seems less solid, because the purchase orders had  presumably been accepted months before the emails were exchanged; these were emails in the course of performance, not contract formation. The concept of estoppel is what seemed to turn the decision in favor of the seller.  Seller had done most of the work to deliver the fabric and would have completed it without adverse commercial consequences to the buyer if buyer had promptly communicated its approval of the fabric.

Thursday, January 3, 2013

Court Refuses to Enforce Bank’s Instructions Requiring Two Signatures for Withdrawals -- UCC Section 11-202(b)

Dark Hall Productions, LLC v. Bank of America, N.A., (Dec. 13, 2012) 2012 WL 6202186
(Unpublished, California Court of Appeal, Second District, Division 2)

Oh, the agony of dealing with banks. One business owner thought he was protecting himself from unauthorized withdrawals by his co-owner, when they opened a company savings account, requested that the signatures of both individuals be obtained before any withdrawals, and secured the bank’s own instructions to this effect in the bank’s notes for the account.
However, the bank allowed the other signer to withdraw all funds from the account.  The aggrieved party sued the bank, but framed the suit only in terms of negligence.  The bank argued, among other things, that the deposit agreement and signature card were controlling, and that they expressly excluded any obligation of the bank to require two signatures.
The court refused to allow theories founded on negligence, based on Zengen, Inc. v. Comerica Bank (2007) 41 Cal.4th 239. In Zengen the California Supreme Court found that Division 11 of the UCC displaced common law causes of action in the context of authorization of payment orders.
The appellate court did not furnish any extensive analysis of the UCC issues involved but noted that California Commercial Code section 11202(b) was relevant. That section provides, among other things, that “The bank is not required to follow an instruction that violates a written agreement with the customer . . . .”
At the trial court level, the defrauded investor had sought to amend the complaint to go beyond negligence-related theories. These included breach of contract, intentional and negligent misrepresentation and promissory estoppel. However, the trial court held that a 2 ½ year delay justified a refusal to allow amendment, and the appellate court would not find an abuse of discretion.

Tuesday, November 13, 2012

Usage of Trade--Between "Friends"--UCC Section 1-303

Howard Entertainment, Inc. v. Kudrow (Aug. 22, 2012) 208 Cal.App.4th 1102

You have to love it when big stars produce big court rulings--which periodically occurs in California, where entertainment is a major industry.  Years ago, Lee Marvin gave us "palimony" in the celebrated "Martin v. Martin" case.  This year, we have Emmy Award winning actress/writer/producer Lisa Kudrow, star of the Friends TV show, giving us a "friendly" ruling on "usage of trade."  OK, maybe it is not a titanic issue, but the case does illustrate some important aspects of practice for lawyers.  In both of these cases, the stars came out on the wrong side of the ruling.

In Howard Entertainment, Inc. v. Kudrow, Lisa Kudrow's former professional manager Scott Howard sued Kudrow for commissions allegedly due on earnings received after Kudrow terminated him.  They had an oral agreement.  They did not specifically discuss post-termination earnings before the termination.  Howard claimed that it was common practice in the professional management industry for clients to pay post termination commissions on earnings received after the termination attributable to contracts made by the entertainer prior to the termination.
  • Lesson No. 1:  Avoid oral agreements. Put it in writing!  (Of course, lawyers know this rule, clients often disregard it, and by the time the lawyer finds out what happened its usually too late to do anything about it.)
The lower court twice ruled in favor of Kudrow, and the appellate court twice reversed.
  • Lesson No. 2:  Litigation is expensive, time consuming, and unpredictable--especially when Lesson No. 1 is not followed.
In the second opinion, the appellate court ruled that Howard's industry expert could testify that there existed, at the time of the Howard-Kudrow oral agreement, an industry custom and usage or "usage of trade" for payment of post-termination commissions.   Kudrow argued unsuccessfully that since the "professional management" industry was in its infancy when she hired Howard, as a matter of law no such "usage of trade" could be implied into their agreement.  The court of appeal disagreed and reversed, relying in part on the Uniform Commercial Code's definition of usage of trade.
  • Lesson No. 3: The UCC may be accepted as persuasive guidance on a general principles of contract law even when the UCC does not technically apply to the transaction.
The trial court quoted extensively from UCC 1-303 (Cal. Uniform Commercial Code section 1303), Comment 5. A "usage of trade" must have "regularity of observance" but need not be "universal" or "ancient."  Full recognition is available for "new  usages" and for "usages currently observed by the great majority of decent dealers."  The court of appeal also cited the Restatement Second of Contracts, section 221, comment b. The "more general and well-established" a usage is, the stronger is the inference that the party knew or should have known about the rule. Sending the matter back to the lower court, the court of appeal noted that the trier of fact might discount or disbelieve Howard's expert--but that the expert could testify.

If the case does not settle (reference Lesson No. 2), there will be an encore in the trial court, and perhaps yet a third appeal.

Monday, November 5, 2012

Promissory Note Lacking Consideration Is Not Enforceable

Terry v. Myers (October 29, 2012)  2012 WL 5307912 (Unpublished)
California Court of Appeal, Second District, Division 3

Relying on the UCC, the Court of Appeal upheld the trial court's decision that a promissory note was unenforceable because it lacked consideration.

Terry and Myers both loaned money to a promoter in a real property transaction that turned out to be a Ponzi scheme.  The promoters required that Myers issue a $50,000 promissory note to Terry, as a condition to investing in the scheme.  When the scheme collapsed, Terry sued Myers on the $50,000 note. 

Myers' defense was that the note lacked consideration, because Myers did not actually borrow any funds  from from Terry.  Terry argued that consideration was presumed.  The court held that Terry had not established that the note was enforceable, and Myers had supplied sufficient evidence that the note lacked consideration to overcome the presumption.

Citing UCC 3-303(b) (specifically, California Commercial Code Section 3303(b)) the Court of Appeal held that negotiable instruments, including a promissory note, are subject to the defense of lack of consideration.  Consideration is defined as "any consideration sufficient to support a simple contract."  UCC 3-303(b). (Cal. Comm. Code Section 3-303(b).)  While a promissory note is presumed to be supported by consideration, that presumption may be overcome.  Myers was able to demonstrate that, under the circumstances of the investment--as to which Myers had no culpability-- he had not received consideration for the note.  Importantly, Myers did not receive $50,000 from Terry for the note; did not benefit from Terry's investment in the scheme; and Terry did not rely on the note to invest in the scheme.  Under these circumstances, the court of appeal held that the trial court had properly relied on basic UCC contract law to determine lack of enforceability of the note.

Tuesday, August 21, 2012

When Silence Is Your Signature: Cotton Seed Sprouts Trouble for Merchant Who Didn't Object To Contract Terms

Apex LLC v. Sharing World, Inc. (May 31, 2012) 206 Cal.App.4th 999, 142 Cal.Rptr. 3d 201

The  Court of Appeal, Orange County, California, (Fourth District, Division Two), issued a detailed opinion explaining how the UCC fills the gaps in commercial contract forms exchanged between merchants.

Apex sold cottonseed to Sharing World, which sourced the cottonseed to Korean end-users, primarily dairy farmers.  Apex and Sharing World would exchange written  purchase orders and counter offers.  Once Sharing World okayed the quote, Apex would generate a written sales contract specifying the price, quantity, and shipment period.  Each contract incorporated the rules of a trade association and had various terms on the back side.  Sharing World did not sign the contracts, and it did not object either.  Over the course of several months, Apex shipped tons of product.  Problems developed when, due to price volatility, Sharing World was not able to lock in contracts with its end-users.  Over a course of many months, Sharing World declined to accept about 14,625 tons of cottonseed. 

Apex sued for damages and lost in the trial court.  The trial court ruled that there was an oral condition precedent--that Sharing World had no obligation to take delivery until its end-user was locked into position with a letter of credit.  The trial court also held that there was no contract, because the parties had not agreed on essential term, including time of performance and payment conditions.  The trial court also held that the seller had failed to establish the basis for its damages.

The Court of Appeal reversed on all these points.
  • No Need for a Signed Contract. Seller made an oral offers, and the buyer "accepted each offer," presumably verbally.  Seller followed up with written contracts.  The parties were merchants.  Under UCC 2-201(2) (Cal. U. Comm. Code 2201(2)), between merchants the requirement for a signed writing is satisfied if a written confirmation of the contract is sent, and the buyer does not object within ten days after receipt.  Since Sharing World was a merchant, a contract was formed when Sharing World did not give a notice of objection within ten days after receiving the contract.  Buyer's silence was its signature.
  •  Gap Fillers Supply Missing Terms.  Even though one or more terms were left open, a contract does not fail for indefiniteness if the parties intended to make a contract and there is a reasonably certain basis for providing an appropriate remedy.  UCC 2-204(3). (Cal. U. Comm. Code 2204(3).) The court of appeal held that oral offers to sell a certain quantity, at a specific price, were made.  Many other tons of cottonseed were shipped and paid for, besides those in dispute. Apex's sending of a written contract was evidence of the intent to make the contract.  The details, such as time and place of payment and delivery (UCC 2310(a)), time and place of payment (UCC 2-310(a)), delivery and manner of tender (UCC 2-308, 2-309(1), 2-503(1)), were specified by the UCC to the extent the contract terms were silent. 
  • No Verbal Condition Precedent.  Buyer claimed to be acting basically as a middle-man broker, and thus argued that no contract was formed unless it had a purchaser under contract. This verbal condition precedent was rejected by the appellate court.  Under the UCC parol evidence rule (UCC 2-202), if the court finds the writing to be a complete and exclusive statement of the terms of the agreement, the writing alone forms the contract.  The buyer argued that the condition precedent was a "consistent additional term" which supplemented the written contract under UCC 2-202(b).  In the face of conflicting authorities, the court adopted a broader definition of "inconsistency"-- as "the absence of reasonable harmony in terms of the language and respective obligations of the parties."  The court relied heavily on Official Comment 3 to UCC 2-202, which states, in part: "If the additional terms are such that, if agreed upon, they certainly would have been included in the document in the view of the court, then evidence of their alleged making must be kept from the trier of fact."  The sizable amount at stake, and the seller's complete lack of control over buyer's customers, suggested to the court that the parties certainly would have included this term, had they agreed upon it.  The court of appeal reached this conclusion "de novo" and as a "matter of law."
  •  Mitigation of Damages--Reasonableness of Resale of Wrongfully Rejected Goods.  UCC 2-706 (1) requires the seller to resell the wrongfully rejected goods in a commercially reasonable manner."  Quoting various authorities, the court held that there is "no clearcut or easily identifiable rule" as to what constitutes "commercially reasonable time."  Ordinarily, the resale should be "made as soon as practicable."  According to an official comment, reasonableness depends on the nature of the goods, condition of the market, and "other circumstances which cannot be measured by any legal yardstick."  The court of appeal pointed to extensive communications between the seller and buyer, and held that adverse inferences as to seller's "unreasonableness" were not supported by the evidence. The court remanded for a new trial on the issue of whether the resales were conducted in a commercially reasonable manner. 
  • Measure of Damages: Seller's Cost Irrelevant.   On remand, the court of appeal also noted that seller's damages were not dependent on the amount it paid for the goods.  Under UCC 2-706(1), the seller's measure of damages--assuming commercially reasonable reasonable resales--was the difference between the resale price and the contract price, plus incidental damages.  The seller was not required to prove its own cost for the goods.
This case is a signal illustration of the myriad of issues governed by the UCC in a sale of goods.  There are a thousand roads from New York to Los Angeles.  Take a wrong turn on any of them, and you'll arrive at another destination. So it is with the UCC.