By Paul Hodnefield, Esq.
A termination statement’s effectiveness does not depend on the identity of the party that filed the record. Rather, it depends on whether the filing was authorized by the proper party. The general rule is that the secured party of record must authorize the filing of a termination statement.
The UCC does not address what constitutes authority to file a record. That is left to law other than Article 9, typically the state law of agency. But what exactly must the secured party “authorize” for the termination statement to be effective? Is authority limited to accomplishing an intended legal outcome, or does merely authorizing a third party to file any record bind the secured party, even to mistakes?
Those were the questions that confronted a court recently in the case of In re: Motors Liquidation Company, 2014 Bankr. LEXIS 11598 (2nd Cir. June 17, 2014). This case is the latest in a series of decisions regarding termination issues arising out of the General Motors Corporation (“GM”) bankruptcy.
In 2001, GM borrowed $300 million from a syndicate of lenders to finance the acquisition of properties as part of a synthetic lease arrangement (the “Synthetic Lease”). JPMorgan Chase (“JPMC”) served as the administrative agent for the syndicate participants. JPMC filed several financing statements with various counties and with the Delaware Secretary of State to perfect the syndicate’s security interests. JPMC was listed as the secured party of record on the financing statements.
In November 2006, GM took out an unrelated term loan with an entirely different syndicate of lenders for $1.5 billion (the “Term Loan”). As with the Synthetic Lease, JPMC was named as administrative agent for the lenders in the Term Loan syndicate. When the loan closed, JPMC perfected the syndicate’s security interest by filing a financing statement with the Delaware Secretary of State. JPMC was listed as the secured party of record on the Term Loan financing statement.
In 2008, GM notified JPMC that it intended to pay off the outstanding balance of the Synthetic Lease. Lawyers for GM and JPMC drew up the “Synthetic Lease Termination Agreement” and created a closing checklist. The Termination Agreement provided that the administrative agent (JPMC) granted GM the authority to terminate the financing statements related to the Synthetic Lease.
GM’s law firm conducted a search for financing statements related to the Synthetic Lease. The law firm used the search results to compile a list of the financing statements to terminate after GM paid off the obligation. Unfortunately, the search and resulting list mistakenly included the financing statement JPMC filed to perfect the Term Loan security interest. No one caught the error.
The law firm then prepared a batch of UCC3 termination statements for the Synthetic Lease and had them filed by a vendor. That batch mistakenly included a termination statement for the Term Loan financing statement. None of the parties involved in the transaction, nor their attorneys or vendors, ever intended to authorize any filing related to the Term Loan.
On June 1, 2009, GM filed for bankruptcy. Only then did the parties realize that a termination statement had been filed for the financing statement related to the Term Loan. Later, the Official Committee of Unsecured Creditors (the “Committee”) filed an adversary action against the Term Loan syndicate of lenders asking the court to determine that the debt should be treated as unsecured.
In a 2013 decision, the bankruptcy court concluded that JPMC had not authorized the termination statement and therefore it was ineffective. However, that was not the end of the matter. The bankruptcy court certified the case for direct appeal to the United States Court of Appeals for the 2nd Circuit.
On appeal, The Circuit Court had to determine exactly what must be authorized for the termination statement to be effective. JPMC claimed that the authorization extended only to termination of the Synthetic Lease financing statement. It never authorized the filing of a termination statement for the Term Loan. Moreover, no one at the law firm, GM or JPMC ever thought they were authorized to file a termination statement for the Term Loan. Therefore, according to JPMC, the termination statement for the Term Loan was not authorized or effective.
The Committee, however, argued that the relevant question was not whether JPMC authorized the termination of the security interest underlying the Term Loan, but whether it authorized the act of filing a termination statement. It should not matter that JPMC did not intend to authorize termination of the Term Loan financing statement.
The Circuit Court noted that since 2001 very few courts have addressed the issue of whether a termination statement was authorized. The few reported cases that have addressed a filer’s authority were helpful, but the Circuit Court found that none squarely addressed the precise issue in this case.
The Circuit Court realized that it could not resolve the case without further guidance on the state law issue of authority, so it certified the following question to the Delaware Supreme Court:
Under UCC Article 9, as adopted into Delaware law by Del. Code Ann. tit. 6, art. 9, for a UCC-3 termination statement to effectively extinguish the perfected nature of a UCC-1 financing statement, is it enough that the secured lender review and knowingly approve for filing a UCC-3 purporting to extinguish the perfected security interest, or must the secured lender intend to terminate the particular security interest that is listed on the UCC-3?
While the Motors Liquidation decision from the Delaware Supreme Court could be months away, the case serves as a cautionary tale for secured parties and those who search UCC records. Secured parties must recognize that they could potentially suffer the consequences of mistakes made by any third party they have authorized to file a termination statement, even if the mistake involves a record unrelated to the intended transaction. Consequently, secured parties may want to be very specific regarding what records a third party is authorized to terminate. Secured parties should also consider conducting a careful review of any records a third party proposes to file before granting approval.
Likewise, those who search the UCC index must recognize that the filer’s authority cannot be established just from a review of the disclosed records. Only through inquiry of the parties involved can a searcher reliably determine the effectiveness of a filed termination statement. Those who fail to make the necessary inquiries rely on the search results at their own risk.
CSC will continue to monitor this case and report any further developments.
Paul Hodnefield is Associate General Counsel for CSC and a frequent speaker/writer on UCC due diligence issues. Please feel free to contact him with questions or comments at email@example.com or 800-927-9801, ext. 62375.