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Final Examination Instructions 1. This examination is limited open book. You may bring to the examination and use all assigned course materials and handouts, and any notes, outlines, or other work product that you have produced alone or together with other persons in the class, whether in hard copy or in electronic form. You may not refer to any other materials. 2. You may use your own laptop computer. 3. There are 5 questions on the examination. Answer all of the questions. Each question specifies a point allocation and suggested time allocation. 4. If you find a question or part of a question ambiguous, identify the ambiguity and explain how a resolution of the ambiguity would affect your answer. 6. Support your conclusions with analysis. 7. Where applicable, apply Revised U.C.C. Article 9. You should assume that California?s version of Article 9 is identical to the uniform version even though we have discussed some California non-uniform amendments. 8. All deeds of trust contain the standard clauses contained in the deed of trust included in the Forms Handout. Question 1 (30 points; suggested time: 1 hour) Alberto and Bella, who had orally agreed to be equal partners in an Italian restaurant to open in Santa Clara County, California, obtained $100,000 financing from Gino, an acquaintance of Bella, for acquisition of equipment for the restaurant (e.g. ovens, refrigerators, freezers, tables and chairs). Gino operated another Italian restaurant across town. Alberto and Bella both signed a promissory note for $100,000 payable to Gino (i.e. one promissory note signed by both parties) and both also signed a security agreement securing the note with the equipment. No person or entity other than Gino ever acquired any kind of lien (consensual or otherwise) in the equipment. The security agreement includes the following clause: Upon default, Secured Party shall have the right to take immediate possession of the Collateral, with or without process of law, and for that purpose Debtors hereby agree that Secured Party may enter upon any premises on which the Collateral or any part thereof may be situated and remove the same therefrom without further consent of Debtors. As a result of serious disagreements about management of the restaurant, Alberto and Bella decided to close the restaurant. Alberto and Bella stopped making payments to Gino and you may assume that the amount owing on the note is $90,000 (forget about recoverable costs and accruing interest for purposes of this question). At Bella?s invitation, Gino came to repossess the equipment from the restaurant. Upon his arrival, Alberto and Bella were arguing heatedly. Bella invited Gino in but Alberto asked Gino to leave. Gino didn?t know what to do, so he stood where he was. Alberto and Bella then continued to argue and Bella then struck Alberto in the face. Because of the blow to his face, Alberto left immediately to go to the emergency hospital. With Bella?s assistance, Gino then proceeded to take all of the equipment from the restaurant. Gino stored most of the equipment in his own restaurant, but immediately began using one refrigerator and one freezer to replace a failing refrigerator and failing freezer already on site. On the advice of his attorney, Gino sent a letter to both Alberto and Bella proposing that Gino keep all of the equipment in satisfaction of $60,000 of the $90,000 outstanding debt. The letter asked Alberto and Bella to sign and return to Gino an enclosed statement to that effect. Bella signed and returned the statement to Gino but Alberto did not sign the statement. A few months after receiving the statement signed by Bella, Gino began to use the remainder of Alberto and Bella?s restaurant equipment in his own restaurant and he also demanded that Alberto and Bella pay him the remaining $30,000. They refused and Gino then sued Alberto and Bella for $30,000. Alberto and Bella hired an attorney who filed an answer and a cross-complaint against Gino. The answer denied liability for a deficiency, and the cross-complaint sought damages for breach of the peace and for unauthorized use of one refrigerator and one freezer. Evaluate the positions asserted in Alberto and Bella?s pleadings. In the part of your answer that evaluates Alberto and Bella?s liability for a deficiency, you must interpret and apply two UCC sections that we did not study in class. You should consider UCC 9-620, 9-622, and any related definitions or cross-references you think appropriate. Of course, a portion of those sections may not be applicable, and other sections that we did study may also be applicable. To cut down on the amount of time needed for reading, we have attached edited versions of these two sections and editedversions of their Official Comments as Appendix A to this examination. As to those two sections only, you should use the edited versions rather than the full versions reproduced in our materials. In the edited version of UCC 9-620, we have omitted UCC 9-620(a)(2) and 9-620(d) and you should not consider those subsections. Also, you should not consider UCC 9-621. Question 2 (15 points; suggested time: 30 minutes) Assume the following facts, but no others, from Question 1: Alberto and Bella, who had orally agreed to be equal partners in the California restaurant venture, obtained $100,000 financing from Gino, an acquaintance of Bella, for acquisition of equipment for the restaurant (e.g. ovens, refrigerators, freezers, tables and chairs. Alberto and Bella signed a promissory note for $100,000 payable to Gino (i.e. one promissory note signed by both parties) and both also signed a security agreement securing the note with the equipment. No person or entity other than Gino ever acquired any kind of lien (consensual or otherwise) in the equipment. Assume the following additional facts: Some of the equipment consisted of counter-tops. Upon installation in the restaurant, these counter-tops became fixtures under the law of California. Gino prepared a financing statement sufficient under UCC 9-502(a), but not sufficient as a fixture filing under UCC 9-502(b), and filed it with the Office of the County Recorder of Santa Clara County, California, the County in which the restaurant real property was located. He made no other filing. A few months after opening the restaurant, the chef quit. Alberto and Bella hired a new chef but business slackened and Alberto and Bella defaulted on their note to Gino. Gino turned the matter over to his attorney who immediately filed a financing statement that was sufficient as a fixture filing in the County Recorder?s Office for Santa Clara County (where the restaurant was located). Neither Gino nor the attorney made any other filing. The attorney then filed suit against Alberto and Bella seeking a money judgment on the promissory note and a judgment for possession of the equipment, including counter-tops. In response to the lawsuit, Alberto and Bella filed a Chapter 11 petition (30 days after Gino?s attorney filed the fixture filing). Will the debtor-in-possession succeed in avoiding Gino?s security interest in any of the equipment, including the counter-tops, under either Bankruptcy Code 544 or 547? Question 3 (20 points; suggested time: 45 minutes) Assume the following facts, but no others, from Question 1: Alberto and Bella, who had orally agreed to be equal partners in the California restaurant venture, obtained $100,000 financing from Gino, an acquaintance of Bella, for acquisition of equipment for the restaurant (e.g. ovens, refrigerators, freezers, tables and chairs). Alberto and Bella signed a promissory note for $100,000 payable to Gino (i.e. one promissory note signed by both parties) and both also signed a security agreement securing the note with the equipment. No person or entity other than Gino ever acquired any kind of lien (consensual or otherwise) in the equipment. Assume the following additional facts: Alberto also gave Gino a deed of trust on Alberto?s residence to secure the $100,000 note. The restaurant failed and Alberto and Bella defaulted on the note, still owing $90,000. Gino repossessed the equipment peacefully and conducted a commercially reasonable Article 9 foreclosure sale that was properly noticed. Net of costs, the sale proceeds satisfied $50,000 of the debt on the note. Gino filed a lawsuit for a money judgment of $40,000 (ignore interest and recoverable costs) on the promissory note. The complaint in the lawsuit named both Alberto and Bella but Gino was only able to effectuate service of process against Alberto. Gino obtained a default judgment against Alberto (i.e. Alberto did not answer the complaint). After Gino was stymied in his attempt to execute the judgment against Alberto?s residence because of the homestead exemption, Gino succeeded in serving the complaint upon Bella. Does Bella have any defenses to the complaint? Question 4 (20 points; suggested time: 45 minutes) Forget the facts stated in the previous three questions and go back to the beginning of Alberto and Bella?s plans. Alberto and Bella purchased a large lot that they planned to split into two parcels. On one portion of the lot is an old warehouse that they intend to convert into an Italian restaurant. They plan to build a home on the second parcel in which Bella will live. The cost of the real property and old warehouse was $2 million. Of this amount, Alberto and Bella put $200,000 down, and the seller of the parcel, Socorro, agreed to carry back the balance for $1.8 million until such time as Alberto and Bella found financing. Socorro?s note was secured by a first deed of trust on the property. The property is located in Santa Clara County, California. A month after the purchase, Alberto and Bella were able to secure a $1.7 million loan from Bank of Italy, secured by the real property they had purchased. The Bank would not lend the entire $1.8 million requested because its appraisal came in lower than the $2 million purchase price, due to the fact that property values have been slipping. The $1.7 million went to Socorro to pay off all but $100,000 of the amount Alberta and Bella owed him. Socorro agreed to subordinate his deed of trust that was originally a first deed of trust to Bank of Italy?s deed of trust securing the bank?s $1.7 million note and the parties signed and recorded a suitable subordination agreement. Socorro was looking for an investment for the funds he received. He knew that Alberto and Bella planned to split the lot, establish a restaurant, and build a home for Bella. He had been very impressed with Alberto and Bella?s enthusiasm and talent, and therefore offered to loan them $700,000 of the proceeds he received from the Bank of Italy so they could get started with their construction projects, on the condition that they hire him as their general contractor. (Socorro was a licensed contractor and had completed several projects over the past several years.) The parties agreed that Socorro?s original note (in the amount of $1.8 million) would remain as evidence of the loans. A notation was made on the note that the balance due was $800,000? representing the $100,000 balance still owing on the original loan and the additional $700,000 loan. Socorro?s deed of trust that secured his original $1.8 million loan remained in place, but had become a second by virtue of the subordination agreement. Alberto, Bella, and Socorro agreed that the $700,000 would be used to split the lot, renovate the warehouse, and start the construction of Bella?s home on the second lot. Obviously, Alberto, Bella, and Socorro did not have an attorney assist them with the structure of this transaction. After Alberto and Bella got the $700,000 from Socorro, they spent $25,000 splitting the lot (engineering, surveying, permit fees etc.) and then paid Socorro $575,000 (as the general contractor) to convert the warehouse into a restaurant. Bank of Italy?s deed of trust encumbered the entire property, as the bank never agreed to release any of its security after the lot split. Alberto and Bella paid Socorro the remaining $100,000 to grade the property, excavate a cellar, and pour a foundation for the house in which Bella intends to reside. Soon after the restaurant opened, Alberto and Bella had a disagreement over its management. They closed the restaurant, stopped work on the house, and made no further payments to either the Bank of Italy or Socorro. Bank of Italy non-judicially foreclosed only on the restaurant parcel as that was sufficient to satisfy its note. It was the high bidder at the sale. The parcel with the partially completed home is worth $400,000. Socorro wants his $800,000 and has retained the firm for which you are a law clerk. The head real estate partner has asked you to analyze Socorro?s chances of recovery. Write a memo fully explaining the issues and the best way to proceed. Question 5: (15 points; suggested time: 30 minutes) Assume the same facts as in Question 4 except that Bank of Italy has not yet conducted its non-judicial foreclosure sale. At the time Socorro lent the additional $700,000 to Alberto and Bella, he got their Aunt, Zia Giannina, to guarantee the entire $800,000 balance due. Because the entire transaction was a "home spun" job, there were no waivers in the guarantee. Socorro has just received Bank of Italy?s notice of default and wants to know how he should proceed in order to preserve all his options. He tells you that the property, in its present condition, is worth approximately $2 million. Bank of Italy is owed $1.7 million and Socorro is owed $800,000. What course of action will you take on Socorro?s behalf and why? End of examination Appendix A (for use with Question 1) SECTION 9-620. ACCEPTANCE OF COLLATERAL IN FULL OR PARTIAL SATISFACTION OF OBLIGATION; COMPULSORY DISPOSITION OF COLLATERAL. (a) [Conditions to acceptance in satisfaction.] Except as otherwise provided in subsection (g), a secured party may accept collateral in full or partial satisfaction of the obligation it secures only if: (1) the debtor consents to the acceptance under subsection (c); (2) [omit consideration of this subsection pursuant to exam instructions] (3) if the collateral is consumer goods, the collateral is not in the possession of the debtor when the debtor consents to the acceptance; and (4) subsection (e) does not require the secured party to dispose of the collateral or the debtor waives the requirement pursuant to Section 9-624. (b) [Purported acceptance ineffective.] A purported or apparent acceptance of collateral under this section is ineffective unless: (1) the secured party consents to the acceptance in an authenticated record or sends a proposal to the debtor; and (2) the conditions of subsection (a) are met. (c) [Debtor?s consent.] For purposes of this section: (1) a debtor consents to an acceptance of collateral in partial satisfaction of the obligation it secures only if the debtor agrees to the terms of the acceptance in a record authenticated after default; and (2) a debtor consents to an acceptance of collateral in full satisfaction of the obligation it secures only if the debtor agrees to the terms of the acceptance in a record authenticated after default or the secured party: (A) sends to the debtor after default a proposal that is unconditional or subject only to a condition that collateral not in the possession of the secured party be preserved or maintained; (B) in the proposal, proposes to accept collateral in full satisfaction of the obligation it secures; and (C) does not receive a notification of objection authenticated by the debtor within 20 days after the proposal is sent. (d) [omit consideration of this subsection pursuant to exam instructions] (e) [Mandatory disposition of consumer goods.] A secured party that has taken possession of collateral shall dispose of the collateral pursuant to Section 9-610 within the time specified in subsection (f) if: (1) 60 percent of the cash price has been paid in the case of a purchase-money security interest in consumer goods; or (2) 60 percent of the principal amount of the obligation secured has been paid in the case of a non-purchase-money security interest in consumer goods. (f) [Compliance with mandatory disposition requirement.] To comply with subsection (e), the secured party shall dispose of the collateral: (1) within 90 days after taking possession; or (2) within any longer period to which the debtor and all secondary obligors have agreed in an agreement to that effect entered into and authenticated after default. (g) [No partial satisfaction in consumer transaction.] In a consumer transaction, a secured party may not accept collateral in partial satisfaction of the obligation it secures. Official Comment (Edited) 2. Overview. This section and the two sections following deal with strict foreclosure, a procedure by which the secured party acquires the debtor?s interest in the collateral without the need for a sale or other disposition under Section 9-610. Although these provisions derive from former Section 9-505, they have been entirely reorganized and substantially rewritten. The more straightforward approach taken in this Article eliminates the fiction that the secured party always will present a "proposal" for the retention of collateral and the debtor will have a fixed period to respond. By eliminating the need (but preserving the possibility) for proceeding in that fashion, this section eliminates much of the awkwardness of former Section 9-505. It reflects the belief that strict foreclosures should be encouraged and often will produce better results than a disposition for all concerned. Subsection (a) sets forth the conditions necessary to an effective acceptance (formerly, retention) of collateral in full or partial satisfaction of the secured obligation. Section 9-621 requires in addition that a secured party who wishes to proceed under this section notify certain other persons who have or claim to have an interest in the collateral. Unlike the failure to meet the conditions in subsection (a), under Section 9-622(b) the failure to comply with the notification requirement of Section 9-621 does not render the acceptance of collateral ineffective. Rather, the acceptance can take effect notwithstanding the secured party?s noncompliance. A person to whom the required notice was not sent has the right to recover damages under Section 9-625(b). Section 9-622(a) sets forth the effect of an acceptance of collateral. 3. Conditions to Effective Acceptance. Subsection (a) contains the conditions necessary to the effectiveness of an acceptance of collateral. Subsection (a)(1) requires the debtor?s consent. Under subsections (c)(1) and (c)(2), the debtor may consent by agreeing to the acceptance in writing after default. Subsection (c)(2) contains an alternative method by which to satisfy the debtor?s-consent condition in subsection (a)(1). It follows the proposal-and-objection model found in former Section 9-505: The debtor consents if the secured party sends a proposal to the debtor and does not receive an objection within 20 days. Under subsection (c)(1), however, that silence is not deemed to be consent with respect to acceptances in partial satisfaction. Thus, a secured party who wishes to conduct a "partial strict foreclosure" must obtain the debtor?s agreement in a record authenticated after default. In all other respects, the conditions necessary to an effective partial strict foreclosure are the same as those governing acceptance of collateral in full satisfaction. (But see subsection (g), prohibiting partial strict foreclosure of a security interest in consumer transactions.) . . . 4. Proposals. Section 9-102 defines the term "proposal." It is necessary to send a "proposal" to the debtor only if the debtor does not agree to an acceptance in an authenticated record as described in subsection (c)(1) or (c)(2) . . . . . A proposal need not take any particular form as long as it sets forth the terms under which the secured party is willing to accept collateral in satisfaction. A proposal to accept collateral should specify the amount (or a means of calculating the amount, such as by including a per diem accrual figure) of the secured obligations to be satisfied, state the conditions (if any) under which the proposal may be revoked, and describe any other applicable conditions. Note, however, that a conditional proposal generally requires the debtor?s agreement in order to take effect. See subsection (c). 6. When Acceptance Occurs. This section does not impose any formalities or identify any steps that a secured party must take in order to accept collateral once the conditions of subsections (a) and (b) have been met. Absent facts or circumstances indicating a contrary intention, the fact that the conditions have been met provides a sufficient indication that the secured party has accepted the collateral on the terms to which the secured party has consented or proposed and the debtor has consented or failed to object. Following a proposal, acceptance of the collateral normally is automatic upon the secured party?s becoming bound and the time for objection passing. As a matter of good business practice, an enforcing secured party may wish to memorialize its acceptance following a proposal, such as by notifying the debtor that the strict foreclosure is effective or by placing a written record to that effect in its files. The secured party?s agreement to accept collateral is self-executing and cannot be breached. The secured party is bound by its agreement to accept collateral and by any proposal to which the debtor consents. 12. Special Rules in Consumer Cases. Subsection (e) imposes an obligation on the secured party to dispose of consumer goods under certain circumstances. Subsection (f) explains when a disposition that is required under subsection (e) is timely. An effective acceptance of collateral cannot occur if subsection (e) requires a disposition unless the debtor waives this requirement pursuant to Section 9-624(b). Moreover, a secured party who takes possession of collateral and unreasonably delays disposition violates subsection (e), if applicable, and may also violate Section 9-610 or other provisions of this Part. Subsection (e) eliminates as superfluous the express statutory reference to "conversion" found in former Section 9-505. Remedies available under other law, including conversion, remain available under this Article in appropriate cases. See Sections 1-103, 1-106. Subsection (g) prohibits the secured party in consumer transactions from accepting collateral in partial satisfaction of the obligation it secures. If a secured party attempts an acceptance in partial satisfaction in a consumer transaction, the attempted acceptance is void. SECTION 9-622. EFFECT OF ACCEPTANCE OF COLLATERAL. (a) [Effect of acceptance.] A secured party?s acceptance of collateral in full or partial satisfaction of the obligation it secures: (1) discharges the obligation to the extent consented to by the debtor; (2) transfers to the secured party all of a debtor?s rights in the collateral; (3) discharges the security interest or agricultural lien that is the subject of the debtor?s consent and any subordinate security interest or other subordinate lien; and (4) terminates any other subordinate interest. (b) [Discharge of subordinate interest notwithstanding noncompliance.] A subordinate interest is discharged or terminated under subsection (a), even if the secured party fails to comply with this article. Official Comment (Edited) 2. Effect of Acceptance. Subsection (a) specifies the effect of an acceptance of collateral in full or partial satisfaction of the secured obligation. The acceptance to which it refers is an effective acceptance. If a purported acceptance is ineffective under Section 9-620, e.g., because the secured party receives a timely objection from a person entitled to notification, then neither this subsection nor subsection (b) applies. Paragraph (1) expresses the fundamental consequence of accepting collateral in full or partial satisfaction of the secured obligation?the obligation is discharged to the extent consented to by the debtor. Unless otherwise agreed, the obligor remains liable for any deficiency. Paragraphs (2) through (4) indicate the effects of an acceptance on various property rights and interests. Paragraph (2) follows Section 9-617(a) in providing that the secured party acquires "all of a debtor?s rights in the collateral." Under paragraph (3), the effect of strict foreclosure on holders of junior security interests and other liens is the same regardless of whether the collateral is accepted in full or partial satisfaction of the secured obligation: all junior encumbrances are discharged. Paragraph (4) provides for the termination of other subordinate interests. . . .
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