Two chapter 7 debtors sued a lender claiming violations of the Uniform Commercial Code (UCC) in connection with the lender’s sale of its collateral. The bankruptcy court found for the lender on two notice issues, but concluded that there were genuine issues of fact with respect to whether the lender provided reasonable notice of the sale and whether the sale was commercially reasonable. Thus, the court denied summary judgment on those issues.
The lender had sought a declaratory judgment on three points: (1) the debtors waved their right to receive notice of default, (2) the lender’s notice of a proposed private sale of the collateral was sufficient, and (3) the sale was commercially reasonable.
The sequence of events was as follows:
- April 9, 2010: A debtor company signed several promissory notes that were guaranteed by its principal and sole shareholder. The notes were secured by collateral that included certain equipment.
- June 1, 2011/November 4, 2011: The parties executed forbearance agreements after the debtor’s default.
- January 19, 2012: Debtors’ counsel noted 3 monthly payment defaults.
- January 20, 2012: Lender’s counsel told debtors’ counsel that the lender would be engaging an auction company to repossess and prepare the debtor’s equipment for sale.
- Two companies came to look at the equipment and several entities contacted the lender to explore purchase of the equipment. In particular, one company expressed interest in purchasing the equipment, which it believed had a value in excess of $600,000, but was not able to get the lender to respond.
- February 27, 2012: The lender executed a purchase agreement with another company (Myron Bowling Auctioneers) for $535,000. The parties recognized that this might involve a UCC Article 9 sale. The purchaser’s counsel claimed that lender’s counsel stated that notice of a private disposition (as required by the UCC) had been sent before the purchase agreement was executed.
- March 2, 2012: Forbearance agreement expires. The lender wrote the debtors’ counsel that “Myron Bowling Auctioneers will be coming to pick up equipment collateral on Monday, March 5, 2012, as [lender’s] agent.”
- March 22, 2012: The lender gave notices of private disposition of the collateral to the debtors by mailing the notices to their counsel. It advised that the private disposition would take place sometime after April 9, 2012.
- March 23, 2012: The purchaser paid the full purchase price for the equipment.
- The debtor received an auction flyer from Myron Bowling regarding a public auction of the debtor’s equipment scheduled for April 20, 2012.
- April 5, 2012: The debtors’ counsel made a settlement offer to the lender. The lender agreed to postpone a real estate foreclosure but said the equipment sale would go forward.
- April 6, 2012: Debtors’ counsel asked for clarification, expressing confusion about whether the sale was to be a public auction or private sale. Late that afternoon lender’s counsel replied that Myron Bowling would purchase the equipment in a private sale the following Monday unless the lender received a better offer. He noted that the public auction was scheduled by Myron bowling, not the lender.
- April 9, 2012: The debtor submitted a bid for its equipment and asked for a detailed accounting and a recap of submitted bids. The lender did not respond.
- April 20, 2012: Myron Bowling auctioned the equipment.
With respect to notice of default, there was an express waiver in the forbearance agreement. In addition, debtors’ counsel specifically noted payment defaults, so that there was actual knowledge. Consequently, the court found that the lender was not required to provide notice of payment default.
On the question of whether notice sent to the debtors c/o their counsel was adequate, the court concluded that (1) there was nothing in the UCC that required notice to be sent directly to a debtor and (2) notice to an attorney can be imputed to a client if the notice relates to matters within the scope of representation. Thus, the court determined that the notices of a private sale given to the debtors’ counsel satisfied UCC requirements.
The court also considered whether the notices complied with the security agreement. The agreement provided that notices were to be given and were effective “when actually delivered or when deposited with a nationally recognized overnight courier or deposited in the United States mail, first class, postage prepaid, addressed to the party to notice is given at [the debtors’ address].”
According to the court, this meant that either (1) it was actual delivery or (2) the notice must be sent to the designated address. Since there was actual delivery, it didn’t matter that it was not delivered to the designated address. (I would not count on other courts sharing this interpretation.)
However, the court questioned whether the notice of disposition was reasonable and whether the sale was commercially reasonable. By default, a notice sent 10 days before the earliest date of disposition is deemed reasonable. The notice must include a description of the collateral and the method of disposition. “The purpose of this notification is to give the debtor an opportunity to discharge the debt, arrange for a friendly purchaser, or to oversee the sale to see that it is conducted in a commercially reasonable manner.” The lender has a duty to “make a sincere effort” to obtain full market value.
Here there were genuine issues of fact precluding summary judgment:
- The lender gave inconsistent information about whether there would be a public auction or a private sale.
- The March 22 notice did not include any indication that the lender had already accepted the purchase agreement or that it would accept competing bids.
- The February purchase agreement was not contingent on receipt of higher and better offers. Myron Bowling paid the full purchase price one day after the lender notice the private sale.
- The lender ignored a likely competitive purchaser.
- The fact that Myron Bowling may have resold equipment as early as 2 days after it acquired legal title called into question the commercial reasonableness of the private sale. It appears a reasonable disposition might have been a public auction.
- The whole point of giving notice is to give the debtor an opportunity to discharge the debt or arrange for a friendly purchaser. Given the lender had already executed a purchase agreement and it did not provide information regarding the bids, there was a genuine issue about whether it complied with the UCC.
Consequently, the court denied the lender’s motion for summary judgment on the issues of reasonableness of the disposition notice and whether the sale was commercially reasonable.
As a related matter, the court did find that Myron Bowling was a good faith purchaser. It had no reason to believe that the lender failed to comply with the UCC, and there was no requirement that it go beyond inquiring as to whether a notice had been sent.
Although normally the UCC is not implicated in real estate transactions, it may become relevant in cases where the debtor is structured with multiple tiers of partnerships, with some lenders taking partnership interests as collateral. Although a UCC foreclosure on a partnership interest is likely to involve a public sale (so that the lender has the ability to be the purchaser using a credit bid), many of the same issues arise about the commercial reasonableness of notices and sale procedures. Lawyers often seem to take for granted that it will be difficult to challenge the sale. However, as this case suggests, that may not always be the case – particularly if the lender is in a hurry to acquire the collateral.
Vicki R Harding, Esq.