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IN THE UNITED STATES COURT OF APPEALS FOR THE SEVENTH CIRCUIT
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No. 99-4110
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Keywords: security agreement, failure to sign, junior lien
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September 19, 2000
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IN RE: VIC SUPPLY COMPANY, INC.,
DEBTOR.
FALCONBRIDGE U.S., INC.,
PLAINTIFF-APPELLANT,
V.
BANK ONE ILLINOIS, N.A.,
DEFENDANT-APPELLEE.
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Appeal from the United States District Court for the Northern District
of Illinois, Eastern Division. No. 99 C 2714--Elaine E. Bucklo, Judge.
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Before Posner, Diane P. Wood, and Williams, Circuit Judges.
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The opinion of the court was delivered by: Posner, Circuit Judge.
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Argued May 18, 2000
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This case involves a dispute between two creditors of the bankrupt Vic
Supply Company. Bank One had a security agreement with Vic, covering all
of Vic's assets. Falconbridge sold Vic nickel for resale,
acquiring a purchase money security interest covering the proceeds of
the resale. The bankruptcy court, seconded by the district court, to
which Falconbridge had appealed, ruled that Bank One's security interest
was prior to Falconbridge's under Article 9 of the Uniform Commercial
Code (codified in Illinois as 810 ILCS 5/9). Falconbridge argues that
its interest is prior because the security agreement between the bank
and Vic was never accepted by the bank. The argument turns on whether a
secured lender's failure to sign such an agreement, when the agreement
provides that it is effective only when signed by the lender, allows a
subsequent secured lender to take priority over the earlier one.
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The bank began lending money to Vic in 1980, and that year it filed a
UCC financing statement with the Secretary of State of Illinois covering
all of Vic's inventory, accounts receivable, and equipment. The
statement implied that the parties had or intended soon to make an
agreement granting the bank a security interest in these assets, the
purpose of filing such a statement being to perfect such an interest.
The UCC does not require, for a security interest to be perfected, that
the security agreement precede the filing of the financing statement,
sec. 9-402, let alone that it be attached to the statement (the
statement "indicates merely that the secured party who has filed
may have a security interest in the collateral described," sec.
9-402, official comment 2; see In re Varney Wood Products, Inc., 458
F.2d 435 (4th Cir. 1972)), although that is often done; and we do not
know the agreement's terms.
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Ten years later, with the bank continuing to extend credit to Vic, Vic
signed another agreement, granting the bank a continuing security
interest in all Vic's assets. The agreement expressly covered--what was
anyway implicit, sec. 9-306(2)--the proceeds of sales from inventory. A
few months earlier the bank had filed with the Illinois Secretary of
State a continuation financing statement materially identical to the one
filed back in 1980.
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Years passed, and Falconbridge, having obtained a purchase money
security interest in the nickel that it was selling to Vic, filed a
financing statement, just as Bank One had done. This security interest,
like Bank One's, automatically extended to the proceeds of Vic's resale
of the nickel. When Vic later defaulted, Bank One's security interest,
having been recorded before Falconbridge's, would normally have had
priority, sec. 9-312(5)(a); Falconbridge was not entitled to the
superpriority that is accorded to a purchase money security interest
when the debtor receives cash proceeds in a sale of the collateral, sec.
9-312(3), because the proceeds that Vic received were in the form of
accounts receivable rather than cash.
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But Bank One had failed to sign the 1990 security agreement, and
Falconbridge argues that this failure means that the agreement did not
become effective. The agreement provides that "the terms and
provisions of this agreement shall not become effective and Bank shall
have no duties hereunder unless and until this agreement is accepted by
Bank as provided below"--and below is a blank for a signature that
was never filled in. Falconbridge reminds us that "a security
agreement is effective according to its terms between the parties,
against purchasers of the collateral and against creditors." UCC
sec. 9-201. "According to its terms," Falconbridge argues, the
agreement never came into effect. Although the agreement authorizes the
bank to fill in any blanks in it, the bank had not done that; and
according to Falconbridge, it was too late for the bank to do so once
Falconbridge perfected its own security interest by filing a UCC
financing statement. In short, Falconbridge argues, the bank had no
security interest when Falconbridge acquired its own security interest.
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Ordinarily, only a party (actual or alleged) to a contract can
challenge its validity, e.g., Williams v. Eggleston, 170 U.S. 304, 309
(1898); IDS Life Insurance Co. v. SunAmerica, Inc., 103 F.3d 524, 529
(7th Cir. 1996); OPE Shipping Ltd. v. Allstate Ins. Co., 687 F.2d 639,
643 (2d Cir. 1982); Tri-Star Pictures, Inc. v. Leisure Time Productions,
B.V., 749 F. Supp. 1243, 1250 (S.D.N.Y. 1990), and neither party to the
security agreement that is at issue in this case--neither Bank One nor
Vic--challenges the validity of the agreement. Of course there are
illegal contracts that the government, or persons injured by the
contract, can challenge, such as a contract in restraint of trade, but
there is no suggestion of that here. Obviously the fact that a third
party would be better off if a contract were unenforceable does not give
him standing to sue to void the contract. A contract that while not
unenforceable by either party, or within the class of contracts deemed
illegal, might, intentionally or negligently, deceive a third party, who
in that event might have a tort remedy. But there is no suggestion that
the defect in the bank's security agreement with Vic--the absence of the
bank's signature--harmed Falconbridge. So far as appears, Falconbridge
was unaware of the defect or of anything else about the agreement. It
knew, or at least thought, there was an agreement, because before
extending credit to Vic it checked the UCC registry and read the bank's
financing statement, which notified Falconbridge that the bank had a
security interest, implying, as we said, that it had a security
agreement with Vic. Falconbridge even wrote Bank One that it was
planning to obtain a purchase money security interest in the nickel it
was selling Vic and in any proceeds of resales of the nickel. The bank
cannot be accused of having misled Falconbridge. National Bank v.
Haupricht Bros., Inc., 564 N.E.2d 101, 114 (Ohio App. 1988) (per curiam);
cf. Elhard v. Prairie Distributors, Inc., 366 N.W.2d 465, 468 (N.D.
1985).
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So Falconbridge cannot appeal to any general legal or equitable
principle that might enable it to challenge the validity of the bank's
agreement with Vic. But we must consider the bearing of UCC sec.
9-203(1)(a), which provides that a security interest is not
"enforceable against the debtor or third parties with respect to
the collateral" unless (the collateral not being in the creditor's
possession or control) "the debtor has signed a security agreement
which contains a description of the collateral." Some courts have
permitted a subsequent creditor to use this provision to knock out the
priority of an earlier creditor without requiring proof that he was
actually misled or otherwise prejudiced by any defect in the security
agreement. World Wide Tracers, Inc. v. Metropolitan Protection, Inc.,
384 N.W.2d 442 (Minn. 1986); In re Middle Atlantic Stud Welding Co., 503
F.2d 1133, 1136 (3d Cir. 1974). This result, which is contrary to the
Haupricht case cited earlier, strikes us as questionable despite its
conformity to the literal language of section 9-203; it gives the later
creditor a windfall by enabling him to knock out a priority on the basis
of a defect on which he did not rely. No matter. The debtor signed the
security agreement in this case and the agreement describes the
collateral. The fact that section 9-203 requires the debtor to sign and
does not mention signature by the creditor helps to show that the
draftsmen did not think that a priority should be lost merely because
the creditor's signature was missing.
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A complicating factor in some cases, though not in this one, is that a
trustee in bankruptcy (or debtor in possession) has the status of a
hypothetical lien creditor "without regard to any knowledge of the
trustee or of any creditor," 11 U.S.C. sec. 544(a), entitling him
to void a security interest because of defects that need not have
misled, or even have been capable of misleading, anyone. Pearson v.
Salina Coffee House, Inc., 831 F.2d 1531 (10th Cir. 1987); In re Sandy
Ridge Oil Co., 807 F.2d 1332 (7th Cir. 1986); Sommers v. International
Business Machines, 640 F.2d 686, 688-89 (5th Cir. 1981). The trustee did
not assert this right here, probably because the only benefit would have
been to another secured creditor, Falconbridge, and the trustee's duty
is to maximize the recovery of the unsecured creditors.
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For completeness we further note that while the provision requiring an
adequate description of the collateral is intended in part for the
protection of subsequent creditors, In re Martin Grinding & Machine
Works, Inc., 793 F.2d 592, 596-97 (7th Cir. 1986); In re Laminated
Veneers Co., 471 F.2d 1124, 1125 (2d Cir. 1973), and so may be enforced
by them, at least when they can show they were misled by an inadequate
description, the provision requiring the debtor's signature is not
intended for their protection. It is a statute of frauds provision
intended to make it easier for courts to resolve disputes over the
meaning of the agreement. 2 James J. White & Robert S. Summers,
Uniform Commercial Code sec. 24-4 at 305 (1988). Falconbridge had no
standing to enforce it. See UCC sec. 2-201, official comment 4; cf. BDS,
Inc. v. Gillis, 477 A.2d 1121, 1123 (D.C. App. 1984) (per curiam); 2 E.
Allan Farnsworth, Farnsworth on Contracts sec. 6.10, p. 168 (1990).
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The real significance of section 9-203 in this case is in helping to
explain section 9-201. In providing that a security agreement is
effective only according to its terms, the draftsmen meant to state the
general rule to which section 9-203 creates an exception. See UCC sec.
9-201, official comment. An agreement that violates section 9-203 may
not be effective according to its terms. But that is not the only
function of section 9-201. For the fact that Falconbridge is not
permitted to question that the bank had a security interest does not
automatically extinguish Falconbridge's security interest. That depends
on the relative priority of the contestants' security interests, and
this is where section 9-201 could bite in this case: the bank can
enforce a security agreement against a subsequent creditor of its
debtor, that is, can retain its priority, only insofar as the agreement
gives it a security interest. Had the agreement granted the bank a
security interest only in inventory by expressly disclaiming any grant
of a security interest in proceeds as well, the bank could not claim the
proceeds in derogation of Falconbridge's later-perfected security
interest in them. But there is nothing like that here. There is no
discrepancy between the bank's financing statement and its security
interest. Both cover all the assets of Vic, leaving nothing for
Falconbridge until the bank's claim has been satisfied.
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Although unnecessary to add, the security agreement was valid; that
is, Vic would have had no defense against enforcement of the agreement
by the bank, or vice versa. For one thing, it is apparent from the
wording of the signature requirement and the fact that the bank was
authorized to fill in any blank in the agreement that the requirement
was intended solely for the bank's protection, and was not intended to
confer any right on Vic; it was a defect of which no one could complain.
For another thing (but it is actually closely related), after the
agreement was not signed the bank lent money to Vic against its
inventory nonetheless, and the parties assumed that this credit was
pursuant to the terms of the security agreement. Acceptance can be
effectuated by performance as well as by a signature. Restatement
(Second) of Contracts sec. 30(2) (1981); 1 Farnsworth, supra, sec. 3.12,
p. 222; see also UCC sec. 2-206(1)(a); 1 White & Summers, supra,
sec. 1-5, p. 55. And while parties can specify that performance shall
not be effective as acceptance, Golden Dipt Co. v. Systems Engineering
& Mfg. Co., 465 F.2d 215 (7th Cir. 1972); In re Newport Plaza
Associates, L.P., 985 F.2d 640, 645 (1st Cir. 1993); Restatement, supra,
sec. 30, comment a, this would be an implausible interpretation of the
acceptance clause that we quoted earlier. It would amount to saying that
if the parties had been asked, "if the bank fails to sign the
agreement, will the agreement be void even if the parties behave in a
way that shows they thought it was in effect?" they would have said
"yes." Or that if they had been asked, "does the bank's
failure to sign mean that the debtor could repudiate the agreement at
any time?" they would have said "no." What they really
would have said would have been, "don't be silly; it was just an
oversight, of no significance--and anyway the requirement of the bank's
signature was for the protection of the bank, not of the debtor."
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Falconbridge's argument that the bank's effort to show acceptance by
performance violates the parol evidence rule (which both parties call
the "parole evidence" rule) is frivolous. The rule bars
evidence oral or written concerning negotiations leading up to an
integrated contract, not evidence of events subsequent to the writing
that is claimed to be the statement of the parties' contract. Fischer v.
First Chicago Capital Markets, 195 F.3d 279, 282 (7th Cir. 1999);
Williams v. Jader Fuel Co., 944 F.2d 1388, 1394 (7th Cir. 1991); 2
Farnsworth, supra, sec. 7.6 p. 228. Anyway, to repeat a theme of this
opinion, the parol evidence rule, like other contract defenses, is
intended for the protection of parties or alleged parties to contracts;
it is not intended to enable a stranger to break up a contractual
relation. Northern Assurance Co. v. Chicago Mutual Building Ass'n, 64
N.E. 979 (Ill. 1902); Quality Lighting, Inc. v. Benjamin, 592 N.E.2d
377, 382 (Ill. App. 1992); Rittenhouse v. Tabor Grain Co., 561 N.E.2d
264, 271 (Ill. App. 1990). So there was acceptance; but if there hadn't
been, yet the parties agreed they had a contract, that would be enough
to defeat Falconbridge's effort to invalidate a contract on which (or on
the defect in which) it did not rely in extending credit to Vic.
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Affirmed.
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Williams, Circuit Judge, concurring.
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I agree with my colleagues that Falconbridge cannot challenge the
validity of the security agreement between Bank One and Vic Supply. I
write separately to voice my concern regarding the majority's further
determination that the security agreement is, in any event, valid. While
I am sympathetic to the majority's intuition that Bank One and Vic
Supply could not have intended the signature provision to mean what it
says, I am not persuaded that such an intuition justifies reading the
provision out of the agreement.
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Under the signature provision, the security agreement becomes
effective only if and when Bank One accepts the agreement by filling in
the signature blank; something Bank One did not do. The signature
provision is not at all ambiguous, nor is there any reason to believe it
is merely surplusage. It is a cardinal principal of contract law that
since the language of a contract is the best evidence of the parties'
intent, every provision of a contract should be given content and
effect, and unambiguous contractual language should be given its plain
and natural meaning. See, e.g., Emergency Med. Care, Inc. v. Merion
Mem'l Hosp., 94 F.3d 1059, 1061 (7th Cir. 1996) (applying Illinois law);
River Forest State Bank & Trust Co. v. Rosemary Joyce Enters. Inc.,
689 N.E.2d 163, 167 (Ill. App. Ct. 1998). It does not matter that in
hindsight one or both parties (or a court) might have second thoughts
about the wisdom of including a particular term. Our task is to enforce
the terms the parties included in their contract.
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To my mind, moreover, it is telling that the majority cites not a
single case adopting the same pragmatic approach it employs in
interpreting the signature provision of the security agreement. No rule
of law of which I am aware allows us to disregard the unambiguous terms
of a contract in favor of what we believe the parties must have
intended. Again, our task is to enforce the terms the parties included
in their contract. Accordingly, I cannot join in the majority's
conclusion that the security agreement between Bank One and Vic Supply
is valid.
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