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| The ABCs of the New UCC: Rules governing consignment transactions
are clearer and more uniform on their face under the new ucc,
but the result may nevertheless be uncertain for the consignor who
diligently attempts to comply with those rules. by George H. Singer and Michael P. Warren Because more
than three years have passed since the effective date of the overhaul
of the Uniform Commercial Code (“UCC” or the “Code”) in 2001, any
discussion about one aspect of its revision may appear less than topical.
The experience, however, of many practicing commercial lawyers
has demonstrated that such a discussion even now, particularly with
respect to consignments, merits attention.
A careful look at the UCC as revised will prove illuminating
for attorneys who have been operating under the assumption that the
revisions were of little consequence to consignment transactions. The primary effect of the revisions was
to bring most true consignment transactions within the purview of
Article 9, subjecting such transactions to its various rules. While the legal analysis involved in addressing
any consignment arrangement has changed dramatically, familiar rules
nevertheless apply, and compliance with those rules is purported to
render a similar practical result as under pre-revision law. Under the pre-2001 Code, the rights of consignors,
consignees and the creditors of consignees in most true consignment
transactions were governed by Article 2, while consignments that operated
as disguised security interests were subject to the rules of Article
9. If the owner of goods delivered possession of
such goods to a bailee for the purpose of
sale and the bailee did business under a
name different from that of the owner, then former Section 2-326 subordinated
the consignor’s rights in the goods to those of the consignee’s creditors
unless the consignor took certain steps.
To preserve its rights, the consignor had to either: (1) comply
with applicable sign law, demonstrating its interest in the goods;
(2) establish that the consignee was “generally known by its creditors
to be substantially engaged in selling the goods of others;” or (3)
file a financing statement under Article 9. Although title was reserved in the name of the
consignor in such true consignments and although the consignor explicated
the nature of the transaction using terms such as “on consignment”
or “on memorandum,” this provision reversed the predominating common
law result, subjecting most consignors to the same fate as the seller
in a “sale-or-return” transaction.1 Scope
of Transition Several important correlated amendments
constitute the transition of consignment governance within the Code. First, all references to consignments were deleted
from Section 2-326, leaving this provision to govern only “sale-or-return”
and “sale-on-approval” transactions. Second, in subjecting most true consignment
transactions to Article 9 compliance, the definition of “security
interest” in Section 1-201(37) was broadened to include “any interest
of a consignor,” and Article 9-109 — the “scope provision” — was expanded
to render the article expressly applicable to “a consignment,” prompting
the key definitional amendment to Section 9-102.
As modified, Section 9-102(20) broadly defines “consignment”
as “any transaction, regardless of form, in which a person delivers
goods to a merchant for the purpose of sale.” Several types of transactions are excluded,
however, from this expansive definition as a result of the following
express limitations. First,
the merchant to whom the goods are delivered must sell the goods under
a name different from the consignor, and such merchant cannot be an
auctioneer or be generally known by its creditors to be in the consignment
business.2 This limitation is essentially transported
verbatim from former Section 2-326.
Second and third, the total value of the goods consigned must
equal or exceed $1,000,3 and the goods must
not be consumer goods just prior to delivery.4
These two restrictions remove from the scope of Article 9 smaller
consignments and those transactions which most nonlawyers
perceive as conventional consignment arrangements, such as the delivery
on consignment of clothes or sporting goods to a thrift store.
The rights of consignors and creditors of the consignee in
such transactions are governed by applicable bailor/bailee
law. Finally, a transaction
that “create[s] a security interest that secures an obligation” is
not an Article 9 consignment.5 Being
secured transactions, these consignment-like transactions are also
governed by Article 9, but their exclusion from the definition of
“consignment” subjects them to different rules of priority and enforcement. As mentioned above, in a true consignment
transaction, the consignor retains title to the consigned goods. This reserved interest in the goods operates
as the valid attached security interest for Article 9 purposes, and
the need to expressly grant or otherwise explicitly create a security
interest as required for other transactions is typically obviated.6
Interests
in Goods Now within the familiar construct of Article
9, the typical commercial consignor, like any other secured party,
is faced with a myriad of provisions that define and affect its interest
in the goods consigned as against the interests of the secured creditors
of the consignee. Chief among
such provisions is the following general interest-defining principle:
unless the consignor holds a prior perfected security interest, the
consignor’s retained title interest is subordinate to the claims of
the consignee’s creditors and purchasers for value of the goods because
“the consignee is deemed to have rights and title to the goods identical
to those the consignor had or had power to transfer.”7
If the consignor does hold a perfected security interest,
then the rights of a creditor in the consigned goods are governed
by provisions other than Article 9.8
This rule generates the same result achieved by former Section
2-326. Now, however, the consignor,
being in the jurisdiction of Article 9, looks to the established perfection
and priority rules contained in that article to protect its interest,
rather than to special consignment priority rules. In attempting to obtain maximum priority,
it is important to recognize the special status that revised Article
9 bestows upon the security interest held by the consignor in the
consigned goods. Section 9-103(d) provides, “The security interest
of a consignor in [the consigned goods] is a purchase-money security interest in inventory.” So, while the consignor that perfects its security
interest by filing a financing statement9 enjoys the conventional
priority over later-perfected security interests that the “first to
file first to perfect” rule affords, compliance with the nuanced priority
rules governing purchase-money security interests in inventory allows
the consignor to obtain a superior interest even over conflicting,
earlier-perfected security interests.
Under those rules, the security interest must be perfected
when the consigned goods are delivered, and the consignor must send
the holders of conflicting security interests authenticated notification
stating that the consignor has or expects to acquire a purchase-money
security interest in inventory of the consignee.10 This notification must be received by
the holders of the conflicting security interests within five years
before the consignee receives possession
of the consigned goods. Also, because the consignor has a purchase-money
security interest in inventory, its interest, though perfected, is
subordinate to the rights of a buyer of the goods in the ordinary
course of business, even if such a buyer knows of the existence of
the consignor’s security interest.11
Moreover, it is important to understand that the consignor’s
perfected purchase-money security interest in inventory extends and
enjoys priority over conflicting security interests only in identifiable
cash proceeds of the goods
if sold.12 The security interest
does not extend to accounts or other proceeds created upon disposition
of the inventory collateral.13 A
consignor is often well-advised to specifically negotiate for a security
interest in such goods/proceeds as part of a consignment transaction.
It may be prudent to execute an intercreditor
agreement, both to obtain priority over the consignee’s inventory
lender and to address other potentially difficult issues in advance. The consignor’s Article 9 compliance obligations
do not extend to the enforcement provisions of Part 6. Section 9-601(g) dictates that “this part imposes
no duties upon a secured party that is a consignor.” As a result, the consignor is not forced to
second-guess compliance with the amorphous language of that part,
such as “commercial reasonableness” or “breach of the peace,” before
foreclosing on the consigned goods.
Instead, legal provisions outside the Code govern the rights
and obligations of the consignor enforcing its reserved title interest
against the consignee. However, it should be noted that, because a
consignment transaction disguised as a security interest is not a
consignment for Article 9 purposes (it “creates a security interest
that secures an obligation”), the enforcement rules of Article 9 do
apply to such transactions. Reading
the ABCs A consignor has much to think about in protecting
its interest in the consigned goods.
Clearly, the risk of subordination now requires consignors
to strictly comply with a new set of more complex rules.
The consignor is now forced to conduct UCC searches to determine
what preexisting creditors must be notified of the consignment interest. Achieving and maintaining priority in consigned
goods requires careful attention to detail and consideration of business
and legal risks. So, while
the revisions have rendered the applicable rules clearer and more
uniform on their face, the practical effect may nevertheless be uncertainty
in result for the consignor who diligently attempts to comply with
those rules. While the bundle of sticks the consignor
holds appears to be something different from, something greater than
the bundle of sticks held by the typical secured party, the title
interest reserved in the consignor really operates as nothing more
than a security interest. As a result, in the interests of uniformity,
if not clarity, the body of rules governing these similar property
interests was revised to more wholly include consignment transactions. As with any significant change in the law, consignors
and their lawyers must take the time to understand how these rules
operate, the pitfalls that exist, and the nuanced and special treatment
afforded these particular transactions.
Notes 2 UCC §9-102(20)(A)(i)-(iii). 3 UCC §9-102(20)(B). 4 UCC §9-102(20)(C). 5 UCC §9-102(20)(D). 6 See UCC §9-103, cmt.
6 and §9-318. Although title
is reserved and a consignment transaction is purportedly created,
often times a consignor will, among other things, require that the
consignee expressly grant a security interest in the consignor in
the event that a court should determine that the transaction is not
a consignment for whatever reason. This would protect the consignor’s interest
in the goods in an alternative manner. 7 UCC §9-319. 8 UCC §9-324(b). 9 A consignor may,
under revised Article 9, now file a financing statement using the
terms “consignor” and “consignee” instead of “secured party” and “debtor.” UCC §9-505(a). 10 UCC §9-324(b). 11 UCC §9-320(a), cmt.
3. 12 UCC §9-324(b). 13 UCC §9-324 & cmt.
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