Class 15 Secured Transactions, Fall, 2018 Transfers 6/9/2019 Class 15 Secured Transactions, Fall, 2018 Transfers Randal C. Picker James Parker Hall Distinguished Service Professor of Law The Law School The University of Chicago Copyright © 2001-18 Randal C. Picker. All Rights Reserved.

Diamond Walnut Bella Farms Bank Diamond Customers 6/9/2019 Diamond Walnut Bella Farms 1981: $ USC Bank SA: 1983 Crop $ PR FS: Same Who has priority as to the crop? Who has priority as to the proceeds? Delivers Crop SA: Member Proceeds 1983 Walnut Crop FS: Calif SS $ Diamond Pay $ Sell Crop Customers June 9, 2019

5‑4: Control v. Proceeds Interest 6/9/2019 TTYN 5‑4: Control v. Proceeds Interest Finco Debtor 3/1 SA,FS: INV, AR, PR $ 2/1 Control of deposit account $ 4/1 Debtor Sells Inventory $10K AR Bank 4/1 Who has priority? June 9, 2019

Attachment of Original SI in Deposit Account 9-203(b)(3)(D) Except as otherwise provided in subsections (c) through (i), a security interest is enforceable against the debtor and third parties with respect to the collateral only if: … June 9, 2019

Attachment of Original SI in Deposit Account (D) the collateral is deposit accounts, electronic chattel paper, investment property, letter-of-credit rights, or electronic documents, and the secured party has control under Section 7-106, 9-104, 9-105, 9-106, or 9-107 pursuant to the debtor’s security agreement. June 9, 2019

Perfection of SI in Deposit Account 9-312(b)(1) Except as otherwise provided in Section 9-315(c) and (d) for proceeds: (1) a security interest in a deposit account may be perfected only by control under Section 9-314; June 9, 2019

5‑4: Answer Bank has no right to AR on 4/1 6/9/2019 5‑4: Answer Bank has no right to AR on 4/1 Finco is fully perfected in the AR Finco has priority in AR June 9, 2019

5‑4: Control v. Proceeds Interest 6/9/2019 TTYN 5‑4: Control v. Proceeds Interest Finco Debtor 3/1 SA, FS: INV, AR, PR $ 2/1 Control of deposit account $ 4/1 Debtor Sells Inventory $10K AR 5/1 Customer pays Debtor via check and Debtor deposits in deposit account 5/1 Who has priority? Bank June 9, 2019

9-327: Deposit Account Priority 6/9/2019 9-327: Deposit Account Priority The following rules govern priority among conflicting security interests in the same deposit account: (1) A security interest held by a secured party having control of the deposit account under Section 9‑104 has priority over a conflicting security interest held by a secured party that does not have control. June 9, 2019

9-327: Deposit Account Priority 6/9/2019 9-327: Deposit Account Priority (2) Except as otherwise provided in paragraphs (3) and (4), security interests perfected by control under Section 9‑314 rank according to priority in time of obtaining control. June 9, 2019

9-327: Deposit Account Priority 6/9/2019 9-327: Deposit Account Priority (3) Except as otherwise provided in paragraph (4), a security interest held by the bank with which the deposit account is maintained has priority over a conflicting security interest held by another secured party. June 9, 2019

9-327: Deposit Account Priority 6/9/2019 9-327: Deposit Account Priority (4) A security interest perfected by control under Section 9‑104(a)(3) has priority over a security interest held by the bank with which the deposit account is maintained. June 9, 2019

Summing Up 9-327 on Deposit Account Priorities 6/9/2019 Summing Up 9-327 on Deposit Account Priorities Control v. Non-Control Control wins (9-327(1)) SP Control v. SP Control First in time wins (9-327(2)) June 9, 2019

Summing Up 9-327 on Deposit Account Priorities 6/9/2019 Summing Up 9-327 on Deposit Account Priorities SP Otherwise v. Bank in Control Bank wins (9-327(3)) SP as Customer v. Bank in Control SP wins (9-327(4)) June 9, 2019

6/9/2019 5‑4: Answer Answer Finco has perfected security interest in deposit account as proceeds under 9-315 Depending on tracing rules, DA may be identifiable cash proceeds, and if so covered under 9-315(d)(2) Bank wins under 9-327(1) June 9, 2019

5‑4: Control v. Proceeds Interest 6/9/2019 5‑4: Control v. Proceeds Interest Finco Debtor 2/1 SA, FS: INV, AR, PR $ 3/1 Control of deposit account $ 4/1 Debtor Sells Inventory $ 5/1 Customer pays Debtor via check and Debtor Deposits in DA Would that change the outcome? Bank June 9, 2019

5‑4: Answer No. Priority under 9-327(1) is not temporal 6/9/2019 5‑4: Answer No. Priority under 9-327(1) is not temporal Method of perfection, not timing, controls June 9, 2019

5‑5: Proceeds v. Proceeds Finco Debtor Bank 6/9/2019 TTYN 5‑5: Proceeds v. Proceeds Finco Debtor 3/1 SA, FS: INV, AR, PR $ 2/1 Control of deposit account $ 4/1 Debtor Sells Inventory $ 5/2 Debtor withdraws $ Buys new inventory 5/1 Customer pays Debtor via check and Debtor Deposits in DA Bank 5/2 What are the relative priorities of Bank and Finco? June 9, 2019

6/9/2019 5‑5: Answer Answer 9-322(c), (d) and (e) address proceeds of controlled collateral 9-322(c) covers mainly proceeds of controlled collateral where the proceeds is cash proceeds or a controlled collateral type June 9, 2019

6/9/2019 5‑5: Answer Answer 9-322(d) and 9-322(e) address proceeds of controlled collateral where the proceeds are not one of those types Inventory is one of those types June 9, 2019

6/9/2019 5‑5: Answer Answer This is example 12 in the comment 9 to 9-322, with inventory swapped for equipment Finco wins as to new inventory June 9, 2019

Answer 9-322 (e) [Applicability of subsection (d).] Subsection (d) applies only if the proceeds of the collateral are not cash proceeds,chattel paper, negotiable documents, instruments, investment property, or letter-of-credit rights. June 9, 2019

Answer 9-322(d) [First-to-file priority rule for certain collateral.] Subject to subsection (e) and except as otherwise provided in subsection (f), if a security interest in … deposit accounts … is perfected by a method other than filing, conflicting perfected security interests in proceeds of the collateral rank according to priority in time of filing. June 9, 2019

Answer Applying this Here The proceeds are inventory (goods), so 9-322(e) makes clear that 9-322(d) does apply Bank hasn’t filed at all, so Finco holds priority in inventory as rule ties priority in proceeds of DA to timing of filing June 9, 2019

Answer Applying this Here Even if Bank did file in the 20-day perfection window of 9-315(d), that filing would be second to Finco’s filing and therefore Finco would have priority under 9-322(d) See 9-322 comment 9, example 12 June 9, 2019

Question What about the $ that came out of the deposit account to the buy the inventory? This is Tusa and 9-332. June 9, 2019

Two Deposit Accounts? Bank2 Debtor Finco Bank1 Creditco 6/9/2019 TTYN Two Deposit Accounts? Bank2 3/10: D sets up new DA 2/1: $ SA, FS: INV, AR, PR Debtor Finco 1/10: D sets up deposit account 3/1: Takes control of DA with Bank1 What priority on 3/5? 3/10? Creditco Bank1 3/5: Inv proceeds enter DA June 9, 2019

Answer 3/5 This is the case from earlier. Creditco has priority over Finco, as under 9-327(1), control beats non-control June 9, 2019

Answer 3/10 This is 9-322(c)(2) The new deposit account will qualify as cash proceeds under 9-102(a)(9); assuming identifiability, attach under 9-315(a)(2) and perfect under 9-315(d)(2) Creditco wins under 9-322(c)(2) June 9, 2019

Two Deposit Accounts, Three SPs 6/9/2019 TTYN Two Deposit Accounts, Three SPs Bank2 3/10: D sets up new DA 2/1: $ SA, FS: INV, ACC, PR Debtor Finco 3/20: Takes control of DA with Bank2 1/10: D sets up deposit account 3/1: Takes control of DA with Bank1 Lendco Creditco Bank1 What priority on 3/20? 3/5: Inv proceeds enter DA June 9, 2019

Answer 3/20 Lendco beats Creditco who beats Finco Lendco wins under 9-327(1) given control of DA at Bank2 9-322(c) isn’t applicable as Lendco never had rights as to DA at Bank1 June 9, 2019

Tusa-Expo Holdings Tusa Office Kroll Textron Customer Bank 6/9/2019 Did Kroll receive proceeds? Tusa-Expo Holdings 4/30/2002: $ SA, FS: All Assets Kroll Tusa Office 7/2009: Lockbox deposit account 7/2009: $ SA, FS: All Assets 7/2009: Subordination agreement Textron Customer Bank Make payment into lockbox and funds flow June 9, 2019

Why Do We Care about Proceeds Here? Bankruptcy Code Preferences Mechanics of Preferences under Section 547(b)(5) of the Bankruptcy Code June 9, 2019

Money and Tusa-Expo 1-201(a)(24) (24) “Money” means a medium of exchange currently authorized or adopted by a domestic or foreign government. The term includes a monetary unit of account established by an intergovernmental organization or by agreement between two or more countries. June 9, 2019

Money and Tusa-Expo No Money Here in Purple Value Flow Probably not Customer probably not paying cash Certainly no cash from Bank to Textron to Tusa to Kroll June 9, 2019

Money and 9-332(a) (a) Transferee of money. A transferee of money takes the money free of a security interest unless the transferee acts in collusion with the debtor in violating the rights of the secured party. June 9, 2019

Funds and Tusa-Expo Purple Value Flow Should be Funds Flow 9-332(b). Transferee of funds from deposit account. A transferee of funds from a deposit account takes the funds free of a security interest in the deposit account unless the transferee acts in collusion with the debtor in violating the rights of the secured party. June 9, 2019

Tusa-Expo Answer (Not What the Court Says) Piece by piece Customer makes payment via check into lockbox That lockbox (deposit account) will be proceed of Kroll SI in AR At that point, Kroll will have a SI in deposit account (and nothing more vis-à-vis Customer payment) June 9, 2019

Tusa-Expo Answer (Not What the Court Says) Piece by piece When value flows from Bank to Textron, Textron should take free of all SIs in deposit account per 9-332(b) When value eventually flows to Kroll, it isn’t getting proceeds June 9, 2019

Protecting Funds Flows See Comments to 9-332 Comment 2 “This section affords broad protection to transferees who take funds from a deposit account and to those who take money.” June 9, 2019

Protecting Funds Flows See Comments to 9-332 Comment 3 “Broad protection for transferees helps to ensure that security interests in deposit accounts do not impair the free flow of funds. It also minimizes the likelihood that a secured party will enjoy a claim to whatever the transferee purchases with the funds.” June 9, 2019

Protecting Funds Flows See Comments to 9-332 Comment 3 “Rules concerning recovery of payments traditionally have placed a high value on finality. The opportunity to upset a completed transaction, or even to place a completed transaction in jeopardy by bringing suit against the transferee of funds, should be severely limited.” June 9, 2019

9-315: Continuation of the SI After Transfer 6/9/2019 9-315: Continuation of the SI After Transfer (a) [Disposition of collateral: continuation of security interest or agricultural lien; proceeds.] Except as otherwise provided in this article and in Section 2‑403(2): June 9, 2019

9-315: Continuation of the SI After Transfer 6/9/2019 9-315: Continuation of the SI After Transfer (1) a security interest or agricultural lien continues in collateral notwithstanding sale, lease, license, exchange, or other disposition thereof unless the secured party authorized the disposition free of the security interest or agricultural lien; June 9, 2019

9-320: Buyer of Goods (a) [Buyer in ordinary course of business.] 6/9/2019 9-320: Buyer of Goods (a) [Buyer in ordinary course of business.] Except as otherwise provided in subsection (e), a buyer in ordinary course of business, other than a person buying farm products from a person engaged in farming operations, takes free of a security interest created by the buyer’s seller, even if the security interest is perfected and the buyer knows of its existence. June 9, 2019

1-201(b)(9): Buyer in ordinary course of business 6/9/2019 1-201(b)(9): Buyer in ordinary course of business Means a person that buys goods in good faith, without knowledge that the sale violates the rights of another person in the goods, and in the ordinary course from a person, other than a pawnbroker, in the business of selling goods of that kind. June 9, 2019

1-201(b)(9): Buyer in ordinary course of business 6/9/2019 1-201(b)(9): Buyer in ordinary course of business Means A person buys goods in the ordinary course if the sale to the person comports with the usual or customary practices in the kind of business in which the seller is engaged or with the seller’s own usual or customary practices. June 9, 2019

5‑7: Sales from Inventory 6/9/2019 5‑7: Sales from Inventory Bank Debtor 1/1 SA: PP, TO & TA FS: PP, TO & TA 2/1: Sale of Washing Machine $ Does Bank’s security interest in the washing machine survive the sale? Customer Is it perfected, and, if so, for how long? June 9, 2019

5‑7: Answer Under 9-320(a), Customer takes free and clear of Bank’s SI 6/9/2019 5‑7: Answer Under 9-320(a), Customer takes free and clear of Bank’s SI June 9, 2019

Bean Timberland Bean Bank Potlach Idaho 6/9/2019 Bean Timberland Bean Bank SA: Timber FS: Timber Sale of cut timber Is the timber inventory such that P and I are BIOCOB for 9-320? Sale of cut timber Potlach Idaho June 9, 2019

Answer Key issue is whether sale is in ordinary course of business Court finds not standard practice to run UCC search before buying, so buyers didn’t have to do so here Note BIOCOB definition seems to focus really on seller’s practices, not those of buyer June 9, 2019