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Secured Transactions
South Texas College of Law Houston
Worley, John J.

Secured Transactions

Fall, 2012

Part I – INtro & Collateral Classification

I. Typical Secured Transactions

A. Elements of Unsecured & Secured transactions

a. Sales Agreement: U.C.C. Article 2

i. Transfers ownership from seller to buyer

ii. Establishes performance duties (delivery, payment, etc.) and quality obligations (warranties)

b. Credit Agreement: Contract; U.C.C. Article 3

i. Establishes terms of credit arrangement

c. Security Agreement: U.C.C. Article 9

i. Debtor’s commitment of specific assets as collateral for credit

B. Advantages of Secured Credit

a. Allows Self-Help Repossession

i. Self-help reduces costs by avoiding time, trouble, and expense of collecting the debt.

b. Eliminates Search for Assets

i. Specific property is earmarked for payment of secured creditor’s debt.

c. Establishes Priority Over Other Claimants

i. Secured creditor can be assured rights in the collateral superior to those of other claimants.

d. Note: The combined effect of these rights is to reduce the risk of non-payment to which a secured creditor is exposed.

C. Typical Sales Transaction

a. Basic Concepts

i. Section 9-109(a)(1): “…[T]his article applies to a transaction, [4] regardless of its form, that [1] creates a security interest [2] in personal property or fixtures [3] by contract….” [Basic Scope Principle]

1. ‘Contract,’ as distinguished from ‘agreement,’ means the total legal obligation that results from the parties’ agreement… § 1-201(b)(12).

2. ‘Agreement,’ as distinguished from ‘contract,’ means the bargain of the parties in fact, as found in their language or inferred from other circumstances,… § 1-201(b)(3).

ii. “ ‘Security interest’ means an interest in personal property or fixtures which secures payment or performance of an obligation.” § 1-201(b)(35).

1. “The retention or reservation of title by a seller of goods notwithstanding shipment or delivery to the buyer … is limited in effect to a reservation of a ‘security interest.’” § 1-201(b)(35) – See § 2-401(1).

2. Land or Real Property will never be covered under this definition.

iii. Contract can be Written or Oral but it must create an interest in personal property.

1. Remember: 9-109(a)(1): …regardless of its form…

b. Parties to the Transaction

i. “ ‘Secured party’ means a person in whose favor a security interest is created or provided for under a security agreement, whether or not any obligation to be secured is outstanding….” § 9-102(a)(73)(A).

ii. “ ‘Debtor’ means a person having an interest, other than a security interest or other lien, in collateral, whether or not the person is an obligor….”§ 9-102(a)(28).

iii. “ ‘Collateral’ means the property subject to a security interest….” § 9-102(a)(12)

iv. “ ‘Obligor’ means a person that, with respect to an obligation secured by a security interest in … the collateral, owes payment or other performance of the obligation….” § 9-102(a)(59)(i).

D. Social Policies Supporting Secured Creditor Risk

a. Makes credit available more readily

i. Increasing the availability of credit stimulates commercial activity – creates jobs, adds wealth to society

ii. Helps poor credit risks obtain credit when it would not otherwise be available

b. Makes credit available more cheaply

i. Since secured credit is less risky, secured creditors can charge less than unsecured creditors

II. Goods & Investment Property

A. Types of Goods

a. The Role of Collateral Classification in Article 9

i. Description or Identification of Collateral

1. Security Agreement – Creates the security interest

2. Financing Statement – Perfects the security interest

ii. Perfection of Security Interests

1. Method(s) of providing public notoriety of a secured party’s interest is a function of the type of collateral

iii. Priority of Security Interests

1. Special priority rules applicable to particular collateral types

b. “Goods”: All things that are movable at the time the security interest attaches. § 9-102(a)(44).

i. Included as “goods” (1. Consumer Goods 2. Farm Products 3. Inventory 4. Equip.)

1. Fixtures

2. Standing timber to be cut

3. Crops grown, growing, or to be grown

4. Manufactured homes

5. Computer program embedded in goods if customarily considered part of goods and owner of goods may use it

ii. Excluded from “goods”

1. Accounts

2. Chattel paper

3. Commercial tort claims

4. Deposit accounts

5. Documents

6. General intangibles

7. Instruments

8. Investment property

9. Letter-of-credit rights

10. Money

11. Oil, gas, other minerals before extraction

c. Classify the Collateral

i. Inventory: § 9-102(a)(48)(B) – goods “held by a person for sale or lease or to be furnished under a contract for service.”

ii. Consumer goods: § 9-102(a)(23) – “goods that are used or bought for use primarily for personal, family, or household purposes.”

iii. Equipment: § 9-102(a)(33) – “goods other than inventory, farm products, or consumer goods.”

iv. Farm products: “…goods, other than standing timber, with respect to which the debtor is engaged in a farming operation and which are (C) supplies used or produced in a farming operation….” § 9-102(a)(34)(C).

1. “ ‘Farm products’ means … (D) products of crops or livestock in their unmanufactured states.” § 9-102(a)(34)(D).

a. § 9-102, Comment 4a: “Products of crops or livestock, even though they remain in the possession of a person engaged in farming operations, lose their status as farm products if they are subjected to a manufacturing process…. Once farm products have been subjected to a manufacturing operation, they normally become inventory.” (What counts as a manufacturing process?)

d. Two Key Concepts

i. Equipment

1. Equipment is a residual category.

2. Any good that is not inventory, farm products, or consumer goods will be equipment.

ii. Classification Theory

1. Article 9 takes a functional approach not an essentialist approach.

2. Proper classification turns on the use to which the particular debtor puts the collateral.

e. Change of Classification

i. Possible Options for classifying certain equipment:

1. Personal use: consumer goods (used or bought intended to be used)

2. Business use: equipment (actual use, intended use is not a part of equipment)

3. Classification is determined at the time the collateral is secured, if use changes the classification does not change. (Consumer Goods)

4. Equipment may be able to argue that classification can change was Principle Use changes.

ii. What would the effect would a no-change rule have?

iii. Ostensible ownership problems: a potential for SA description to mislead 3rd parties. (actual use could mislead 3rd parties understand of the classification)

iv. What effect would a re-classification rule have?

v. SP would be obliged constantly to monitor the collateral to detect change in use, or pass on the cost of monitoring or risk on to the lender.

vi. From an economic perspective, which is better?

vii. Overall, less costly that a few be misled than making the SP’s monitor the collateral. (more costly to raise the costs than to have a few mislead)

B. Classification of Collateral: Types of Investment Property

a. Investment Property

i. “ ‘Investment property’ means a security, whether certificated or uncertificated, security entitlement, securities account, commodity contract, or commodity account.” § 9-102(a)(49).

ii. Security

1. Certificated Security § 8-102(a)(4)

a. A “security” represented by a certificate. (Stock Certificate/Piece f Paper)

b. Bearer form – a form in which the security is payable to the bearer of the security certificate according to its terms but not by reason of indorsement. The corporation keeps no records of it on the books – possession is the sole evidence of ownership.

i. To transfer you need only deliver the security

c. Registered form – a form in which:

i. the security certificate specifies a person entitled to the security; and

ii. A transfer of the security may be registered upon books maintained for that purpose by or on behalf of the issuer, or the security certificate so states.

1. To transfer you must indorse and deliver

a. Indorsement – a signature that alone or accompanied by other words is made on a security certificate in registered form or on a separate document for the purpose of assigning, transferring, or redeeming the security

b. Delivery – occurs when:

i. The transferee acquires possession of the security certificate;

ii. Another person acquires possession of the security certificate on behalf of the transferee; or

iii. Having previously taken possession acknowledges that it holds it for the purchaser.

2. Uncertificated Security § 8-102(a)(18)

a. A “security” that is not represented by a certificate. (No Piece of Paper)

i. “…[D]elivery of an uncertificated security occurs when the issuer registers the purchaser as the registered owner, see § 8-301(b)(1), or when a person other than a securities intermediary either becomes the registered owner of the uncertificated security on behalf of the purchaser or, having previously become the registered owner, acknowledges that it holds it for the purchaser. See § 8-301(b)(2) cmt. 3….”

b. Registration of Owner (Delivery Only)

i. The issuer’s registration of the transferee as the registered owner. § 8-301(b)(1).

c. Delivery of an uncertificated security occurs when:

i. The issuer registers the purchaser as the registered own

clude a program embedded in goods that consists solely of a medium in which the program is embedded.”

3. “Commercial tort claim” means a claim arising in tort with respect to which:

a. the claimant is an organization; or

b. the claimant is an individual and the claim:

i. arose in the course of the claimant’s business or profession; and

ii. does not include damages arising out of personal injury to or the death of an individual.

c. Quasi-Tangibles (There may be something tangible that you can touch)

i. “Deposit Account” §9-102(a)(29) – a demand, time, savings, passbook, or similar account maintained with a bank. The term does not include investment prop or accounts evidenced by an instrument.

ii. “Document” means a document of title or a receipt.

1. “Document of title” includes bill of lading, dock warrant, dock receipt, warehouse receipt or order for the delivery of goods, and also any other document which in the regular course of business or financing is treated as adequately evidencing that the person in possession of it is entitled to receive, hold, and dispose of the document and the goods it covers. To be a document of title, a document must purport to be issued by or addressed to a bailee and purport to cover goods in the bailee’s possession which are either identified or are fungible portions of an identified mass.

a. “Bill of lading” means a document evidencing the receipt of goods for shipment issued by a person engaged in the business of transporting or forwarding goods.

b. “Warehouse receipt” means a receipt issued by a person engaged in the business of storing goods for hire.

i. A warehouse receipt may be issued by any warehouse. If goods are stored under a statute requiring a bond against withdrawal or a license for the issuance of receipts, a receipt issued for the goods is deemed to be a warehouse receipt even if issued by a person that is the owner of the goods and is not a warehouse.

iii. Instrument – §9-102(a)(47) – a negotiable instrument or any other writing that evidences a right to the payment of a monetary obligation, is not itself a security agreement or lease, and is of a type that in ordinary course of business is transferred by delivery with any necessary indorsement or assignment.

1. “Negotiable instrument”3-104(a) – means an unconditional promise or order to pay a fixed amount of money, with or without interest or other charges described in the promise or order, if it:

a. is payable to bearer or to order at the time it is issued or first comes into possession of a holder;

b. is payable on demand or at a definite time; and

c. does not state any other undertaking or instruction by the person promising or ordering payment to do any act in addition to the payment of money, but the promise or order may contain:

i. an undertaking or power to give, maintain, or protect collateral to secure payment,

ii. an authorization or power to the holder to confess judgment or realize on or dispose of collateral, or

iii. a waiver of the benefit of any law intended for the advantage or protection of an obligor.

d. “Order” means a written instruction to pay money signed by the person giving the instruction. The instruction may be addressed to any person, including the person giving the instruction, or to one or more persons jointly or in the alternative but not in succession. An authorization to pay is not an order unless the person authorized to pay is also instructed to pay

e. “Promise” means a written undertaking to pay money signed by the person undertaking to pay. An acknowledgment of an obligation by the obligor is not a promise unless the obligor also undertakes to pay the obligation.

i. “Check” means (i) a draft, other than a documentary draft, payable on demand and drawn on a bank or (ii) a cashier’s check or teller’s check.

1. An instrument may be a check even though it is described on its face by another term, such as “money order.