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Allegaert v. Chemical Bank

UNITED STATES COURT OF APPEALS, SECOND CIRCUIT


decided: August 19, 1980.

WINTHROP J. ALLEGAERT, AS TRUSTEE IN BANKRUPTCY OF DUPONT WALSTON, INC., PLAINTIFF-APPELLEE, CROSS-APPELLANT,
v.
CHEMICAL BANK, DEFENDANT-APPELLANT, CROSS-APPELLEE .

Appeal from a judgment of the United States District Court for the Eastern District of New York, granting plaintiff trustee in bankruptcy summary judgment on two counts alleging the payment of voidable preferences under § 60 of the Bankruptcy Act. With respect to the first payment, we reverse on the ground that the transfer occurred more than four months before bankruptcy; with respect to the second payment, we remand in order that certain material issues of fact may be resolved.

Before Lumbard, Moore and Meskill, Circuit Judges.

Author: Moore

Chemical Bank appeals from a judgment of the United States District Court for the Eastern District of New York, granting the plaintiff trustee in bankruptcy summary judgment on two counts alleging the payment of voidable preferences under § 60 of the Bankruptcy Act, 11 U.S.C. § 96(a) and (b). Chemical Bank also appeals from various interlocutory orders denying its motions to transfer, to add counterclaims, and to implead third parties. The district court held that the two payments in question were voidable preferences after concluding that the first payment was transferred within four months of bankruptcy and that there were no material issues of fact with respect to any of the other elements necessary to establish a voidable preference. We reverse the district court, 454 F. Supp. 341, with respect to the first payment on the ground that the transfer occurred more than four months before bankruptcy, and we remand the question of the second payment on the ground that there are material issues of fact present with regard to several of the necessary elements for a voidable preference. Chemical Bank's motion to transfer is dismissed as moot, and on remand Chemical Bank is granted leave to renew its motions to add counterclaims and to implead third parties.

I.

This case stems from a set of complex contractual agreements between two broker dealers and two creditor banks in the early 1970s.*fn1 The two broker dealers are Walston & Company, Inc., ("Walston") and duPont Glore Forgan, Inc., ("DGF"). The two banks are Security National Bank ("SNB") and the Bank of America National Trust and Savings Association ("BOA"). The Chemical Bank subsequently acquired SNB's assets and assumed certain of its contingent liabilities, and was substituted as the defendant in this action on December 21, 1976. For simplicity's sake, SNB will be referred to as Chemical Bank.

The series of transactions in dispute here began in November, 1972, when Chemical Bank agreed to lend broker-dealer Walston $5 million. Walston entered into a Subordinated Loan Agreement ("SLA") with Chemical Bank for the $5 million*fn2 on November 27, 1972 and the SLA was duly approved by the New York Stock Exchange ("NYSE").*fn3 On February 16, 1973 Walston entered into a substantially identical loan agreement with BOA in the amount of.$2.5 million.

As this Court has previously noted, a number of Wall Street brokerage firms were in deep financial trouble in the early 1970s.*fn4 In 1973 the Perot Interests*fn5 held a minority interest in Walston and a controlling interest in DGF. By June, 1973, DGF was in such serious financial difficulty that the NYSE ordered it to reduce its net capital ratio to less than 10-to-1 by July 2, 1973. The Perot Interests responded by orchestrating a realignment of Walston's and DGF's business. They proposed that Walston and DGF operate as one entity under the name duPont Walston, Inc. Under the terms of the proposed realignment, Walston was to transfer $16.7 million in cash to DGF in return for $8.6 million in DGF subordinated debentures and $8.1 million in DGF preferred stock. The consent of Chemical Bank and BOA was essential to the consummation of the proposed realignment, but both banks refused to consent to such a diminution of Walston's ability to repay their loans unless they received additional protection. Walston thus agreed to divide the proposed $8.6 million DGF debenture into two debentures with face amounts proportionate to Chemical Bank's $5 million loan and BOA's.$2.5 million loan. Walston accordingly pledged a $5,733,333 DGF Debenture to Chemical and a $2,866,667 DGF Debenture to BOA. Walston's Board approved the Realignment on July 1, 1973, and it was formally agreed to by DGF and Walston on July 2, 1973.

To effect the pledge, on July 2, 1973 Chemical Bank and Walston entered into a Pledge Agreement ("PA")*fn6 and an amendment to the SLA. The PA provided in Paragraph 1 that Chemical Bank was being given an immediate security interest in the DGF Debenture:

... BORROWER has pledged with BANK, as pledgee, under the provisions of this Agreement and does hereby grant BANK a security interest in the Senior Subordinated Debenture, due June 30, 1983, of DGF in the principal amount of $5,733,333 payable to BORROWER (the "DGF Debenture') as collateral security for the payment of the indebtedness represented by the Note...."

The PA gave Walston a limited right to receive payments of interest or principal on the debenture, but not in the event of any default. The SLA was amended to conform with the PA. A new Paragraph 8 was added to the SLA stating that Paragraph 3 of the SLA (which consisted of a subordination and no-security provision) was to be construed consistently with the PA.*fn7 At the same time Walston and BOA executed a substantially identical Pledge Agreement granting BOA a security interest in the $2,866,667 DGF Debenture, and BOA's loan agreement was amended accordingly. The DGF Debentures were issued at the time of the Realignment on July 2, 1973, and Chemical Bank took immediate possession of the debenture pledged to it by Walston. The BOA also took possession of the DGF Debenture pledged by Walston.

In January, 1974, at Walston's request, DGF made prepayments to Walston on the DGF Debenture totalling $3.5 million. This reduced the collateral on Chemical Bank's $5 million loan from $5.7 million to $2.2 million. After due protest, Chemical Bank commenced a state court action on February 26, 1974 against Walston, DGF, and others for, inter alia, the recovery of the prepaid $3.5 million. That suit was settled on March 26, 1974 by the payment from DGF to Chemical Bank of $2,233,333. At the same time BOA received a full payment of $2,866,667 on its DGF Debenture.*fn8 Pursuant to an agreement between Chemical Bank and BOA, BOA endorsed over to Chemical Bank a check for $366,666, representing the difference between the $2,866,667 DGF Debenture securing BOA's loan and the $2,500,000 amount of the loan itself. It was understood by both Walston and Chemical Bank that these payments of $2,233,333 and $366,666 would be applied to the reduction of Walston's Senior Subordinated Note.

Walston petitioned for an arrangement under Chapter XI of the Bankruptcy Act on March 27, 1974, and was adjudicated a bankrupt on May 30, 1974. The plaintiff, in his capacity as trustee in bankruptcy for duPont Walston, Inc., filed a 13 count complaint in October, 1974 in the Eastern District of New York alleging that the $2,233,333 and $366,666 payments were transfers of Walston's property recoverable as voidable preferences, fraudulent transfers under § 67(d) of the Bankruptcy Act, and fraudulent conveyances under New York law. Plaintiff filed a motion for summary judgment in September, 1977, and Chemical Bank filed a cross-motion for summary judgment a month later. Chemical Bank had previously filed motions to add counterclaims, to implead third parties, and to transfer.

On July 12, 1978, the district court granted the plaintiff's motion for summary judgment and denied Chemical Bank's motion for summary judgment (all of Chemical Bank's interlocutory order motions were subsequently denied as well). The district court granted the plaintiff summary judgment on Counts One and Thirteen of the Complaint (and dismissed as moot the remaining counts), finding that the two March 26, 1974 payments constituted voidable preferences under § 60(a)(2) of the Bankruptcy Act. The court reached this result after concluding that Chemical Bank's security interest in the $5,733,333 DGF Debenture attached on March 26, 1974 when Chemical Bank received the proceeds of its collateral rather than on July 2, 1973 as specified in the PA. The district court found the parties intended such deferred attachment after reading the PA in the light of the SLA rather than the SLA in light of the PA and the SLA Amendment (whose new Paragraph 8 explicitly amended the subordination clause of the SLA). The district court further found that since there were no material issues of fact with respect to any of the other essential elements necessary to establish a voidable preference, both the $2,233,333 and the $366,666 payments qualified as such. Allegaert v. Chemical Bank, 454 F. Supp. 341 (E.D.N.Y.1978).

It is the position of the defendant Chemical Bank that the district court erred in granting plaintiff summary judgment first because the larger transfer complained of actually occurred on July 2, 1973 with the perfection of the security interest created by the PA, and second because there are genuine issues of material fact present with regard to the necessary elements of a voidable preference. Chemical Bank also appeals from the district court's interlocutory orders denying its motions to transfer, to implead third parties, and to counterclaim.

The plaintiff trustee adopts the district court's interpretation of the PA and SLA, and argues here that Chemical Bank could not have perfected a security interest because the DGF Debenture was neither a "security" nor an "instrument" within the meaning of the New York Uniform Commercial Code ("NYUCC"). The plaintiff trustee also argues that, even if the transfers in question are not voidable preferences, the subordination provisions of the SLA remain in effect. Finally, the plaintiff trustee claims that the district court should have awarded interest on the judgment from the date the preferential transfer occurred rather than from the date when the action was commenced.

We first turn to the question of whether the $2,233,333 payment to Chemical Bank constitutes a voidable preference.

II.

To establish that a voidable preference has occurred, a plaintiff must prove each of the seven elements set forth in § 60 of the Bankruptcy Act, 11 U.S.C. § 96(a) and (b). These elements have been summarized as follows:

"a debtor

(1) making or suffering a transfer of his property,

(2) to or for the benefit of a creditor,

(3) for or on account of an antecedent debt (resulting in a depletion of the estate),

(4) while insolvent, and

(5) within four months of bankruptcy ... (and)

(6) the effect of which transfer will be to enable the creditor to obtain a greater percentage of his debt than some other creditor of the same class. ... (and provided that)

(7) the creditor receiving or to be benefited by the preference had reasonable cause to believe that the debtor was insolvent." 3 Collier Bankruptcy P 60.02 (14th ed. 1976).

The failure of the plaintiff to prove any one of these elements would bar the entry of summary judgment on Counts One and Thirteen.

Elements (1) and (5) of the requirements for a voidable preference namely that there was a transfer of the debtor's property within four months of bankruptcy must be read in conjunction with § 60(a)(2) of the Bankruptcy Act. That section specifies the time at which a transfer is deemed to be made:

"For the purposes of subdivisions a and b of this section, a transfer of property other than real property shall be deemed to have been made or suffered at the time when it became so far perfected that no subsequent lien upon such property obtainable by legal or equitable proceedings on a simple contract could become superior to the rights of the transferee." 11 U.S.C. § 96(a)(2).

In other words, if the PA between Chemical Bank and Walston created a security interest in the $5,733,333 DGF Debenture, and that security interest was perfected on July 2, 1973, then the $2,233,333 million transfer from DGF to Chemical Bank would have occurred more than four months before Walston's bankruptcy, and the plaintiff's voidable preference claim in Count One must fail. Evans v. Valley West Shopping Center, Inc., 567 F.2d 358, 360 (9th Cir. 1978). Chemical Bank insists that the PA did indeed perfect a security interest in the DGF Debenture, and therefore maintains that the $2,233,333 transfer must be deemed to have occurred on July 2, 1973 rather than March 26, 1974. It is thus necessary given that all the relevant facts are indisputed for this Court to consider whether the July 2, 1973 PA between Chemical Bank and Walston constitutes a security interest, and furthermore whether it was perfected on July 2, 1973.

The parties have agreed that the NYUCC controls the determination of the nature of any security interest in the DGF Debenture. For a security interest to be valid and enforceable against both the debtor and third parties, three requirements must be met: the debtor must sign a description of the collateral, the security interest must attach, and the security interest must be perfected. Section 9-203 of the NYUCC provides that "a security interest is not enforceable against the debtor or third parties unless ... the debtor has signed a security agreement which contains a description of the collateral". Specificity of description is not required as long as the property is "reasonably identified", § 9-110 NYUCC, and indeed, this lenient standard is clearly satisfied in the instant case by Paragraph One of the PA, where the $5,733,333 DGF Debenture is identified as the collateral security.

Section 9-204(1) of the NYUCC provides that a security interest attaches when (a) there is agreement that it attach, (b) value is given by the secured party, and (c) the debtor has rights in the collateral. The interest attaches as soon as all these events have taken place "unless explicit agreement postpones the time of attaching". There is no question here that the parties agreed that a security interest attach, that Chemical Bank gave value, and that Walston had rights in the collateral. Paragraph 1 of the PA explicitly states that "BORROWER has pledged with BANK, as pledgee, under the provisions of this Agreement and does hereby grant BANK a security interest in the Senior Subordinated Debenture, due June 30, 1983, of DGF in the principal amount of $5,733,333 payable to BORROWER ... as collateral security". Chemical Bank gave value by the simple fact that it took a security interest to secure repayment of the debt already owed it by Walston, a debt which Chemical Bank was entitled to call on an accelerated basis (due to the fundamental change in Walston's character caused by the realignment with DGF). And Walston certainly had rights in the collateral, given Paragraph 2 of the PA captioned "Rights" which reads "Unless and until an Event of Default shall have occurred and be continuing BORROWER shall be entitled to receive any interest or payments of principal in the DGF Debenture".

Despite the unmistakable language in Paragraph 1 of the PA memorializing the parties' intent that a security interest attach, the plaintiff trustee maintains that the parties actually intended to postpone the time of attachment until an event of default. As such, he invokes the language of § 9-204(1) stating that attachment occurs immediately "unless explicit agreement postpones the time of attaching". This exacting qualification must be strictly construed, however, and only an unequivocal showing of an explicit agreement can effect a postponement. An agreement to postpone attachment which is merely inferred from words or conduct is not an "explicit" agreement within the meaning of the NYUCC. See Barton v. Chemical Bank, 577 F.2d 1329, 1336 (5th Cir. 1978). In recognition of the ordinary expectation that a security interest attach immediately upon an extension of credit, the exacting requirement of explicitness is intended "to ensure the automatic attachment of the security interest to the collateral" immediately upon the satisfaction of the three prerequisites listed above. W. Davenport and D. Murray, Secured Transactions § 3.03 (1978). When this rigorous standard of explicitness is applied to the facts and documents of this case, the reasoning of the district court and the arguments of the plaintiff trustee must be rejected.

After resolving "an apparent ambiguity in contractual language" and pointing to certain "extrinsic evidence" supporting that interpretation, the district court concluded that the parties agreed to postpone attachment until an event of default. Allegaert at 346, 347. The district court acknowledged that Paragraph 1 of the PA states an intent to create a security interest attaching without delay: "BORROWER has pledged with the BANK, as pledgee, under the provisions of this Agreement and does hereby grant the BANK a security interest in the Senior Subordinated Debentures ...." However, the district court also read Paragraph 2 of the PA to mean the parties intended to postpone attachment until an event of default. Paragraph 2 reads:

"(A) Unless and until an Event of Default (as defined in the Loan Agreement) shall have occurred and be continuing BORROWER shall be entitled to receive any interest or payments of principal on the DGF Debenture;

(B) If any Event of Default shall have occurred and while the same is continuing interest and principal paid upon or in respect of the DGF Debenture or any part thereof shall be paid directly to and shall be retained by BANK and held by it pursuant to the rights and remedies of a secured party under the Uniform Commercial Code as in effect at the time in New York. Any cash at the time held by BANK under this Agreement shall be applied by BANK to the payment of the costs and expenses of BANK and its agents and counsel and to the payment of the indebtedness represented by the Note and any interest accrued thereon."

The district court's interpretation of this Paragraph was based in part on a reading of two recent cases decided by the Court of Appeals for the Third Circuit, In re Dolly Madison Industries, Inc., 351 F. Supp. 1038 (E.D.Pa.1972), aff'd mem 480 F.2d 917 (3d Cir. 1973), and In the Matter of Copeland, 531 F.2d 1195 (3d Cir. 1976).

The Dolly Madison case involved a stock purchase agreement which explicitly stated that in the event of default, the escrow agent shall deliver the stock certificates to the seller, "whereupon seller's rights and obligations in and to the shares represented by the certificates ... shall be those of a secured party holding collateral under the provisions of Article IX of the Uniform Commercial Code...." Dolly Madison at 1040. The Copeland case involved a pledge agreement that also called for the delivery and sale of stock upon default; however, the Third Circuit found that the pledge agreement "neither explicitly nor implicitly postpones the attachment or perfection of the security interest. Rather, it is completely silent as to the time the (pledgee) achieves the status of a secured creditor with a perfected security interest". Copeland at 1202. The Third Circuit held that the attachment of the security interest in Dolly Madison was postponed by the explicit agreement of the parties, and that the parties in Copeland intended the security interest to attach immediately. The district court found the language of the PA in the instant case "lies in between the extremes of the Dolly Madison and Copeland cases" since although the PA does not condition attachment upon default with the explicitness of Dolly Madison, "it does indicate that (Chemical Bank) is to obtain the "rights and remedies of a secured party under the Uniform Commercial Code' only as to interest and principal paid to it after the event of a continuing default ". Allegaert at 346.

The district court resolved this "apparent ambiguity in contractual language" by turning to the Amendment of the SLA that added a new Paragraph 8 to the SLA. That new Paragraph 8 reads in part: "BORROWER and BANK have entered into as of July 2, 1973, a Pledge Agreement ... and the provisions of Paragraph 3 hereof shall be construed consistently therewith". Paragraph 3 of the SLA provides for the subordination of the Senior Subordinated Note and waives Chemical Bank's right to take security under a banker's lien. Nevertheless, despite the clear language in the new Paragraph 8 of the SLA commanding that Paragraph 3 of the SLA be construed consistently with the provisions of the PA, the district court explicitly held that the PA must be interpreted consistently with the SLA's subordination clause. This produced the anomalous result of interpreting the meaning of a later amendatory document on the basis of an earlier superseded document written without any knowledge of the later document. In short, the district court read the documents backwards, interpreting the amendment through the lens of the original rather than the original through the lens of the amendment, as is the usual practice. The district court compounded this error by then turning to "extrinsic evidence" completely beyond the four corners of the documents in order to resolve the contractual ambiguities it founded existed. The use of such extrinsic evidence is totally irrelevant in the context of a ruling on a motion for summary judgment, and cannot be considered even as tangentially persuasive. See Heyman v. Commerce and Industry Ins. Co., 524 F.2d 1317 (2d Cir. 1975), and Hartford Accident & Indemnity Co. v. Wesolowski, 33 N.Y.2d 169, 171-72, 305 N.E.2d 907, 908-09, 350 N.Y.S.2d 895, 897-98 (1973).

The district court's characterization of the present case as falling "in between the extremes" of Dolly Madison and Copeland is inaccurate. In Dolly Madison, the agreement unequivocally provided that the creditor's security interest would attach only upon an event of default, and then went on to describe the remedies that would become available: "In the event that (pledgor) shall be in default in payment of principal or interest under its promissory note ... the escrow agent ... shall deliver the certificates to seller, whereupon seller's rights and obligations ... shall be those of a secured party holding collateral under the provisions of Article IX of the Uniform Commercial Code." Dolly Madison at 1040. As the Third Circuit noted in Copeland, the key to the deferred attachment in Dolly Madison was the "whereupon" clause, which necessarily implied that "the seller achieved the status of a secured party with a perfected security interest only after default". Copeland at 1204. In Copeland, the pledge agreement was completely silent as to the time at which the pledgor would achieve the status of a secured creditor, and thus the security interest was deemed to attach immediately. The critical factor was the Copeland lacked the kind of explicit postponement of the time for attachment that was present in the "whereupon" clause of the Dolly Madison agreement.

In the instant case, Paragraph 1 of the PA expressly provides for immediate attachment of the security interest. Paragraph 2 merely confirms Walston's rights to the proceeds of the collateral prior to default and Chemical Bank's rights to those proceeds after default. Paragraph 2 neither grants a security interest nor sets forth all of Chemical Bank's remedies. There is no "whereupon" clause in the PA explicitly postponing attachment. And the PA is not completely silent as to the time when Chemical Bank becomes a secured creditor, for Paragraph 1 clearly states that a security interest is being created and immediately granted to Chemical Bank. As such, the delayed attachment language of Dolly Madison is inapplicable to the instant PA, as is the complete silence situation of Copeland. In short, the Chemical Bank-Walston PA provided for immediate attachment more clearly than either the Copeland or Dolly Madison agreements.

Furthermore, a common sense reading of the PA and SLA reveals that the parties expressly provided for the immediate attachment of the security interest. The language of Paragraph 1 in the PA is simple and precise: "BORROWER has pledged with the BANK as pledgee under the provisions of this Agreement and does hereby grant the Bank a security interest in the Senior Subordinated Debentures ...." Given the clarity of Paragraph 1 and § 9-204(1)"s strict requirement for an explicit statement of any intent to postpone attachment, the PA's security interest can only be deemed to be deferred by the operation of strong language explicitly contradicting the normal expectation of immediate attachment. Paragraph 3 of the SLA, upon which the district court relied, does not provide such language. Paragraph 3 of the SLA did indeed restrict Chemical Bank's right to take security, set off, and be prior to other creditors. However, the SLA was amended on July 2, 1973 in order to give effect to the PA. A new Paragraph 8 was added to the SLA, and it reads as follows:

"BORROWER and BANK have entered into as of July 2, 1973, a Pledge Agreement ... and the provisions of Paragraph 3 herewith (i. e., the amended SLA) shall be construed consistently therewith (i. e., with the Pledge Agreement)."

Thus the amended SLA was to be construed consistently with the PA, and not vice-versa. Paragraph 8 modified Paragraph 3 so that it was to be construed consistently with the PA. If the restrictive provisions of Paragraph 3 had not been so modified, the PA would have been rendered meaningless, for it would have created a "security interest" which attaches only after default, totally destroying the value of the pledge.*fn9 Paragraph 2 of the PA, which the district court pointed to as indicating that Chemical Bank was to become a secured creditor only after an event of default, did not govern the creation of the security interest it merely governed the disposition of the proceeds of the collateral, an aspect of Walston's and Chemical Bank's debtor-creditor relationship that was entirely separate from the creation of the security interest. Paragraph 2 simply concerned the parties' rights in the proceeds of the DGF Debenture, not the attachment of Chemical Bank's interest in the Debenture.

Thus an examination of the relevant documents and an application of the pertinent caselaw to the facts of this case reveal that the parties intended to create an immediately attaching security interest, and did indeed do so.

For a security interest to be valid and enforceable against both the debtor and third parties, however, there must be perfection in addition to a description of the collateral and attachment. Perfection is usually achieved by the filing of financing statement or by the possession of the collateral by the secured party. A security interest in instruments can be perfected only by possession. Section 9-305 of the NYUCC states: "A security interest in ... instruments ... may be perfected by the secured party's taking possession of the collateral." Possession is required in order to provide notice to other parties that the property in question is encumbered. See J. White and R. Summers, Handbook on the Law Under the Uniform Commercial Code § 23-10 at 814 (1972).

Article 9 of the NYUCC defines "instrument" as:

"a security (defined in Section 8-102) or any other writing which evidences a right to the payment of money and ... is of a type which is in ordinary course of business transferred by delivery with any necessary indorsement or assignment." NYUCC § 9-105(1)(g).

The DGF Debenture satisfies either of those alternative definitions. First, it was a writing that evidenced the right to the payment of money, and was of a type which in the ordinary course of business is transferrable by delivery with any necessary indorsement or assignment. See Folk, Article Eight: A Premise and Three Problems, 65 Mich.L.Rev. 1379, 1398 n.74 (1967), and Israels, Investment Securities as Negotiable Paper, 13 Bus.Law 676, 682 (1958).

Second, the DGF Debenture also qualifies as an Article 9 instrument because it is within NYUCC § 8-102's definition of "security". Section 8-102(1)(a) defines "security" as an instrument (not in the Article 9 sense) which:

"(i) is issued in bearer or registered form; and

(ii) is of a type commonly dealt in upon securities exchanges or markets or commonly recognized in any area in which it is issued or dealt in as a medium for investment; and

(iii) is either one of a class or series by its terms is divisible into a class or series of instruments; and

(iv) evidences a share, participation or other interest in property or in an enterprise or evidences an obligation of the issuer."

Plaintiff concedes that element (i) is met by the DGF Debenture. As for element (ii), subordinated debentures of brokerage houses are "commonly ... recognized in any area in which (they are) issued or dealt in as a medium for investment". This Court recently recognized that the short-term subordinated notes of a brokerage house were securities under the Securities Act of 1933 and the Securities Exchange Act of 1934, presupposing recognition as media for investment. Exchange National Bank v. Touche Ross & Co., 544 F.2d 1126 (2d Cir. 1976); see also United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 847-48, 95 S. Ct. 2051, 2058, 44 L. Ed. 2d 621 (1975). Subordinated lending is an important facet in brokerage firms. Subordinated loan agreements are considered to be media for investment, see 2 Gilmore, Security Interests in Personal Property 983 (1965), and Calligar, Purposes and Usages of Subordination Agreements, 23 Bus.Law 33, 34 (1967), and subordinated debentures are "commonly dealt in for the purpose of financing and investment". Practice Commentary to NYUCC § 8-102 (McKinney 1964). Element (iii) requires that the instrument be "one of a class or series or by its terms be divisible into a class or series of instruments". Since two DGF Debentures were issued, one having been pledged to BOA and another to Chemical Bank, the "series or class" requirement is met: "minimum compliance with this formality requires that there be at least two instruments in a specified class or series, or that the single instrument be divisible into at least one additional instrument". Folk, Article Eight: Investment Securities, 44 N.Car.L.Rev. 654, 662 (1966). The fact that element (iv) is satisfied is so obvious that it does not warrant discussion.

It is undisputed that Chemical Bank took possession of the DGF Debenture in July, 1973, and the district court recognized this in its findings of fact. Allegaert at 342, 343. Thus, pursuant to § 9-305, Chemical Bank validly perfected its security interest in July, 1973.

Section 60(a)(1) of the Bankruptcy Act, 11 U.S.C. § 96, states in part that a voidable preference is a transfer of the debtor's property within four months of the filing for bankruptcy. Section 60(a)(2) states that "a transfer of property other than real property shall be deemed to have been made or suffered at the time when it became so far perfected that no subsequent lien upon such property obtainable by legal or equitable proceedings on a simple contract could become superior to the rights of the transferee". In other words, the date of the transfer of an instrument is deemed to be the time at which the security interest in the instrument was perfected. In the case at hand, Chemical Bank perfected its security interest in the DGF Debenture when it took possession of the instrument in July, 1973; the transfer thus occurred in July, 1973, a date more than four months before the filing of Walston's bankruptcy. Therefore, the transfer at issue here is not a preferential transfer, the plaintiff trustee has failed to prove every element of a voidable preference, and Chemical Bank is presumptively entitled to summary judgment in its favor on Count One.

Nevertheless, the plaintiff trustee argues that the payments received by Chemical Bank on the DGF Debentures were still prohibited by the subordination provisions in the SLA. The plaintiff trustee maintains that Paragraphs 3.1 and 6.4 of the SLA*fn10 detailing the subordination of Chemical Bank's loan to Walston dictate that the payments received by Chemical Bank remain subordinated to senior claims, and thus constitute an impediment to Chemical Bank ever having collateral on that loan.

However, as is clear from the above discussion, the parties amended the subordination and no-security provisions of the SLA by entering into the PA security interest. And under the NYUCC, the security agreement between Walston and Chemical Bank was effective as against creditors notwithstanding the existence of a subordination agreement. Section 9-201 of the NYUCC provides: "Except as otherwise provided by this Act a security interest is effective according to its terms between the parties, against purchasers of the collateral and against creditors." This section has been called the "golden rule of Article Nine", J. White and R. Summers, Handbook on the Law Under the Uniform Commercial Code § 25-12 at 938 (1972), and is fundamental to the treatment of security interests under the Code. In the words of one commentator, "What this (section) means is that the security agreement is the controlling document. It controls the rights and obligations between lender and borrower. It also binds third parties (e. g., "purchasers of the collateral and ... creditors')." T. Quinn, Uniform Commercial Code Commentary and Law Digest § 9-201(A) at 9-84 (1978). See also Official Comment to NYUCC § 9-201 (McKinney 1964). The validity of a security interest does not turn on the presence or absence of a subordination agreement, but a perfected security interest can certainly supersede and modify the effect of a subordination agreement. This superiority of a security interest over a subordination agreement is well-recognized by the experts in the field. See Calligar, Subordination Agreements, 70 Yale L.J. 376, 399 (1961), G. Gilmore, 2 Security Interests In Personal Property 983-84 (1965), and Leiby, Enforcement and the U.C.C., 23 Bus.Law 57 (1967).

As the Code and commentators make clear, it is the operation of the security interest, not the subordination clause, which must be taken into account when determining the time and the nature of the transfer to Chemical Bank.*fn11 Since the $2,233,333 payment to Chemical Bank was made pursuant to the PA's security interest, it is not affected by the subordination provisions of the SLA, and does not remain subordinated to senior claims. We have already held that the security interest created by the PA was perfected in July, 1973, more than four months before the filing of Walston's bankruptcy petition; therefore the $2,233,333 payment cannot constitute a voidable preference, and we hereby grant summary judgment in favor of Chemical Bank on Count One.

III.

We now turn to the question of whether BOA's March 26, 1974 endorsement over to Chemical Bank of the $366,667 DGF check constitutes a voidable preference. As will be recalled, in February, 1973, Walston entered into a subordinated loan agreement with BOA in the amount of.$2.5 million. In July, 1973 Walston entered into a Pledge Agreement with BOA in which Walston pledged a $2,866,667 DGF Debenture as collateral to cover the.$2.5 million loan. That Pledge Agreement was substantially similar to the PA between Walston and Chemical Bank, and purportedly granted BOA a security interest in the $2,866,667 DGF Debenture pledged by Walston.

In March, 1974, in the series of transactions precipitated by the settlement of Chemical Bank's state court suit against Walston, DGF, the Perot Interests, and others, BOA received full payment on the $2,866,667 DGF Debenture pledged to it. Since the actual amount of BOA's loan to Walston was only.$2.5 million, BOA had in a sense been overpaid by $366,667. Walston thereupon directed BOA to endorse over to Chemical Bank a DGF check for $366,667, representing the difference between the amount of the Debenture and the amount of the loan, and BOA did so. It was understood by all the parties that this $366,667 would be applied to the reduction of Walston's Senior Subordinated Note.

The district court held that BOA's endorsement of the DGF check over to Chemical Bank constituted a voidable preference. The district court so held after finding there were no material issues of fact concerning Walston's insolvency or the ownership of the $366,667 or for whose benefit it was paid. Allegaert at 348-51. We reverse the district court's grant of summary judgment on Count 13 on the ground that there are indeed material questions of fact concerning these issues, and we remand for a trial in order that they may be resolved.

A brief examination of the circumstances surrounding the endorsement of the $366,667 check reveals the existence of several crucial issues of material fact. First of all, there is a genuine question as to whether the property transferred was actually Walston's. In finding that Walston was entitled to payment on the principal and interest on the DGF Debentures on March 26, 1974, the district court relied on correspondence among the parties at the time of the settlement and the fact that Walston was the registered owner of the debentures. The district court concluded that DGF's payment to Chemical Bank was at Walston's direction, and thus qualified as a transfer by Walston under § 1(30) of the Bankruptcy Act. Nevertheless, the fact remains that the $366,667 DGF check was made out to BOA and endorsed over to Chemical Bank, immediately raising a question as to whether those funds can truly be considered to have come from Walston.

Furthermore, Paragraph 2 of the PA specifies that Walston was not entitled to payment of interest or principal after an event of default. Walston began liquidating its brokerage business in January, 1974, and arguably was in default as of that date. And assuming Walston was insolvent on March 26, 1974,*fn12 Walston also had no right to receive interest or principal on the DGF Debenture under the terms of the PA. Thus, there is a considerable question as to whether Walston was entitled to any payments on the DGF Debentures as of March 26, 1974, and it is a question that can only be answered after further detailed factual findings are conducted as to when Walston defaulted and became insolvent.

Another example of the factual uncertainties present in the record before us is the question of whether the $366,667 was a part of funds allegedly converted by Walston. That is, even if the money was Walston's property, was it part of a specific fund Chemical Bank was entitled to under the PA but which Walston allegedly converted in January, 1974? It is well-settled that when a debtor obtains property through fraud or conversion, and then restores that property to its rightful owner anytime before bankruptcy, there is no voidable preference. See Manly v. Ohio Shoe Co., 25 F.2d 384, 385 (4th Cir. 1928), and In re Meiselman, 105 F.2d 995, 998 (2d Cir. 1939). Therefore, if Walston did convert Chemical Bank's property in January, 1974, and if the funds Chemical Bank received from BOA may be traced back to those converted by Walston, then those funds cannot be recovered by the plaintiff trustee. These circumstances certainly raise issues of material fact which preclude an entry of summary judgment.

There is also a genuine question as to the purpose of the $366,667 payment. It is not clear whether it was paid on account of Walston's antecedent debt or made for the benefit of BOA or DGF. The payment resulted from the settlement of Chemical Bank's state court suit against Walston, DGF, and the Perot Interests. In that suit, Chemical Bank: complained that Walston was in default under the SLA, and sought to recover $5 million on the Note; complained of DGF's $3.5 million prepayment to Walston while Walston was in default, and sought to recover funds from both Walston and DGF on the ground such funds had been converted; complained that its consent to the Realignment had been induced by the misrepresentations of the Perot Interests, and that the Perot Interests caused DGF to prepay its Debentures and then improperly caused Walston to pay the same sum back to DGF in partial payment of Walston's obligations to Electronic Data Systems, Inc., Perot's computer business; and complained that $40 million worth of transfers from Walston to DGF were fraudulent conveyances, and sought the appointment of a receiver for Walston and DGF plus an injunction barring further transfers. Clearly, DGF, Walston, and the Perot Interests each had a substantial interest in avoiding the litigation promised by this suit, for if even a part of the relief sought by Chemical Bank had been granted, all their interests would have suffered considerably. When Chemical Bank received the $2.6 million from DGF and BOA, it gave releases to all the defendants in its state court suit and stipulated to the action's dismissal with prejudice. Given these circumstances, there is certainly a genuine issue of material fact as to whether the $366,667 was endorsed over to Chemical Bank for the benefit of DGF, BOA, or Walston.

Accordingly, we reverse the district court's grant of summary judgment for the plaintiff trustee on Count Thirteen, and remand for further proceedings not inconsistent with this opinion. This reversal means, of course, that the district court's ruling that Counts Fourteen through Eighteen of the plaintiff trustee's Complaint are moot is liable to reexamination on a count by count basis.

IV.

All of the interlocutory orders appealed from by Chemical Bank or the plaintiff trustee are affected to varying degrees by the holdings of the instant opinion and by the interim settlement of Allegaert v. Perot, et al., 466 F. Supp. 516, in the Southern District of New York. In response to Bankruptcy Judge Babitt's approval of the Allegaert v. Perot settlement in November, 1979 and the stipulations of dismissal in January, 1980, both parties here have agreed to the withdrawal of Chemical Bank's motion to transfer to the Southern District of New York. Furthermore, although the district court's denial of Chemical Bank's motions to add counterclaims and to implead third parties was not an abuse of discretion, this Court finds the settlement of the Allegaert v. Perot suit to be such a substantial change of circumstances that Chemical Bank should have an opportunity to renew those motions in order to present new arguments as to why the amended pleadings it seeks should be granted. On remand, therefore, Chemical Bank is granted leave to renew its motions to add counterclaims and to implead third parties. And in light of our grant of summary judgment to Chemical Bank on Count One and our reversal and remand on Count Thirteen, we dismiss as moot the plaintiff trustee's appeal concerning the date when the interest on the judgment begins to run. Finally, Chemical Bank's motion for leave to file a supplemental brief or to direct the excision of certain portions of the plaintiff's reply brief is denied.

V.

In summary, we hold that Chemical Bank did perfect a valid security interest in the DGF Debenture on July 2, 1973, and conclude that the March 26, 1974 payment of $2,233,333 from DGF to Chemical Bank did not constitute a voidable preference. The district court's grant of summary judgment on Count One in favor of the plaintiff trustee is accordingly reversed, and we hereby grant Chemical Bank summary judgment on Count One. We further hold that genuine issues of material fact exist with respect to whether the endorsement over to Chemical Bank of the $366,667 check from DGF to BOA constitutes a voidable preference, and we therefore reverse the district court's grant of summary judgment on Count Thirteen and remand it for further proceedings. On remand, Chemical Bank is granted leave to renew its motions to add counterclaims and to implead third parties. Chemical Bank's motion to transfer is dismissed on the ground that it is moot, as is the plaintiff trustee's motion concerning the date when interest on the judgment begins to run. And Chemical Bank's motion to submit a supplemental brief or to direct the excision of portions of the plaintiff trustee's reply brief is denied.


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