The Validity of Termination Statements Notwithstanding a Secured Party’s Actual IntentPublications - Client Alert | November 7, 2014
The Supreme Court of Delaware recently held, in answering a question certified to it by the United States Court of Appeals for the Second Circuit, that a termination statement authorized to be filed by the secured party becomes effective to terminate the related financing statement regardless of the secured party’s actual intent regarding the filing. Official Committee of Unsecured Creditors of Motors Liquidation Company v. JPMorgan Chase Bank, 2014 WL 5305937 (Del. Supr. Oct. 17, 2014) (General Motors). The case presents the difficult issue of whether or when a lender can rely on the UCC record and, in particular, the effectiveness of a filed UCC termination statement. Based on this holding, an authorized termination statement that was inadvertently filed becomes effective, even if neither the creditor nor the debtor intended the effect of the filing, because there is no requirement under the Delaware UCC that the secured party intend or understand the effect of the termination statement.
Generally speaking, the General Motors case involved two separate loan transactions: (i) a $1.5 billion term loan to General Motors from a syndicate of lenders, led by JPMorgan Chase Bank as agent, and (ii) a separate $300 million synthetic lease transaction (in essence a loan through a special-purpose subsidiary which owns and leases an asset to a parent), also led by JPMorgan Chase Bank as agent. Separate UCC-1 financing statements were filed to perfect the lenders’ security interests in both transactions. In the process of unwinding the synthetic lease transaction, General Motors requested the authorization of JPMorgan Chase Bank to file a termination statement terminating the financing statement in the synthetic lease transaction. The writings between the parties and their counsel inadvertently included termination statements respecting both transactions. Neither JPMorgan Chase Bank, General Motors nor their respective counsel intended to terminate the financing statement in the term loan transaction. The writings among the parties commented on the termination statements, but neither the parties nor their counsel noticed or commented on the mistaken termination statement respecting the term loan transaction. Both termination statements were filed. General Motors subsequently filed bankruptcy. JPMorgan Chase Bank, as agent in the term loan transaction, asserted that the termination statement respecting the term loan was not “authorized” under the UCC and should therefore be considered ineffective.
The effectiveness of a financing statement requires, among other things, an “authenticated record.” As defined in UCC § 9-102(a)(7), “authenticate” generally means to sign, execute or otherwise process a record demonstrating intent. A termination statement does not require a similar authentication. Unlike the requirement to “authenticate” approval of a financing statement, UCC Section 9-509(d)(1) specifies that an amendment or termination statement may be filed and be effective if the secured party of record “authorizes” the filing. The terms “authorizes” and “authorization” are not defined in the UCC. Section 9-509 of the UCC, comment 3, specifies that “Law other than this article … generally determines whether a person has requisite authority to file a record under this section.” Thus, whether a secured party authorized a termination statement may depend on a court’s determination, including the scope of authority of a secured party’s agent. See also UCC Section 9-511, comment 3 (specifying that “acts taken by a person who is authorized under generally applicable principles of agency to act on behalf of the secured party of record are effective under this Part.”).
In an action commenced by the unsecured creditor’s committee against JPMorgan Chase Bank in the General Motors bankruptcy case, the bankruptcy court determined that JPMorgan Chase Bank did not intend to terminate the financing statement relating to the term loan transaction and did not empower its legal counsel, acting as its agent, to terminate such financing statement. Thus, the bankruptcy court found that the termination statement respecting the term loan was not authorized by JPMorgan Chase Bank and was not effective to terminate the term loan financing statement. The unsecured creditor’s committee appealed the ruling to the Second Circuit, which certified the UCC question respecting authorization to the Delaware Supreme Court.
The Delaware Supreme Court reviewed the applicable Delaware UCC provisions and found them to be “unambiguous.” Based on the Delaware UCC Sections, principally Sections 9 513, 9-510 and 9-509(d)(1) (which address who may file a termination statement and the effect of such filing), the Delaware Supreme Court held:
[F]or a termination statement to have the effect [of terminating the financing statement] specified under § 9–513 of the Delaware UCC, it is enough that the secured party authorizes the filing. JPMorgan'’s argument that a filing is only effective if the authorizing party understands the filing’s substantive terms and intends their effect is contrary to § 9–509, which only requires that “the secured party of record authorize[ ] the filing.”
This unambiguous language promotes sound policy. It is fair for sophisticated transacting parties to bear the burden of ensuring that a termination statement is accurate when filed. It would be strange and inefficient for the UCC to make the effectiveness of a termination statement depend on whether the secured party subjectively understood the terms of its own filing and the effect that the filing would have on the security interests the filing’s own words address.
General Motors at *3.
The Delaware Supreme Court also addressed the need for third parties to be able to rely on the UCC record. The decision of the bankruptcy court, in holding that the termination statement was not effective, would have created a circumstance in which a financing statement remained effective notwithstanding that the financing statement may no longer be disclosed by a lien search. The Delaware Supreme Court stated:
We recognize that the UCC is a system of notice filing and that such a system contemplates that later lenders may need to conduct diligence to determine that a filing was authorized by the secured party of record. But consistent with the purpose of setting up a notice system, one of the most important roles the UCC plays is facilitating the efficient procession of commerce by permitting parties to rely in good faith on the plain terms of authorized public filings. The UCC thus enables the crafting of contractual arrangements that generate wealth and the investment of capital in commercial enterprise because parties are able to rely on a clear and predicable set of rules to govern their transactions.
To hold that parties cannot rely upon authorized filings unless the secured party subjectively understood the effect of its own action would disrupt and undermine the secured lending markets.
General Motors at *3.
The court was careful, however, to point out that its holding applies to circumstances in which a “secured party of record has itself reviewed and knowingly approved the termination statement for filing.” General Motors at *2. Thus, the decision did not address a circumstance in which a financing statement was terminated by fraud or similar circumstances.
Last, the opinion of the Delaware Supreme Court addressed solely the narrow UCC question posed by the Second Circuit. The Delaware opinion does not resolve whether JPMorgan Chase Bank has a perfected security interest in the term loan transaction or priority issues between JPMorgan Chase Bank and unsecured creditors in the General Motors bankruptcy. Those questions are expected to now be addressed and decided by the Second Circuit. Moreover, the Second Circuit’s review will address, among other things, “the fact-based question of whether [JPMorgan Chase Bank’s legal counsel] had authority as JPMorgan’s agent to file the termination statement” respecting the term loan. General Motors at *2.
For more information on this and other bankruptcy questions, please contact this alert's author, or your Kutak Rock attorney.