New Zealand Credit Law Bulletin - Vol 3, No 5, July 2002
A free, plain English review of recent law and items of interest for creditors, produced by Hattaway & Associates Ltd, Credit Consultants. To subscribe, visit the New Zealand bulletin index and enter your details on the right
Plain language disclaimer:
This bulletin is not legal advice. Do not make decisions on legal matters based on a brief commentary. Instead, get professional legal advice.
In this issue:
- Post-PPSA will the bank's receiver give trade creditors back their goods?
- One of the last pre-PPSA New Zealand ROT cases
1. Post-PPSA will the bank's receiver give trade creditors back their goods?
When Smiths City went into receivership in the early 1990s, fewer than 5% of retention of title (ROT or Romalpa) claims were allowed. Many creditors will have had the experience of finding that their ROT clauses didn't work. When the bank appointed a receiver over the assets of a business, the ROT clause was ineffective for some reason.
Under the new Personal Property Securities Act, how effective is the registered security interest over the goods your company has supplied? (ROTs, HPs, and other forms of security over personal property are now called "security interests". To be effective in the situation where a bank appoints a receiver over the entire assets of an individual or company, security interests must in all but a few exceptional cases be registered.) The answer is not always obvious.
There are no New Zealand PPSA cases in this area at the time of writing, so there is still considerable uncertainty. Here are the views of Alan Liddell and Peter Hattaway, authors of Credit Revolution: A Practical Guide to Surviving the Personal Property Securities Act . (No doubt there will be cases fairly soon, especially in respect of example 1.)
In all the examples that follow, Peter supplies Alan with ten cartons of "Buccaneer" brand rum. Peter has a purchase money security interest (PMSI) in the rum. This means essentially that he has first claim against the rum that he has sold, but only with respect to rum he has not been paid for. He has already "perfected" his security interest by registering on the PPSR. A bank has a general security, registered before Peter's security, over all Alan's current and after-acquired property. This is the equivalent of the old debenture over the undertaking of the company.
Example 1
Alan puts half of the rum in an otherwise empty storeroom and sells the rest. He pays Peter a quarter of his invoice. Alan's bank calls in a receiver under its "all present and after-acquired goods" security interest.
Pre-PPSA outcome
If Peter had an "all monies" clause, he could probably recover his goods. (An all monies clause says, in essence, "if any money is owed to us, we can take back any goods which came from us." The concept doesn't apply post-PPSA.)
PPSA outcome
Peter can show that he has received a quarter of the debt. Common sense says he has a PMSI over what remains in Alan's storeroom. Does he? It's not certain.
The New Zealand law is largely based on that of Saskatchewan. The Canadian academic commentators suggest that under the PPSA the receiver might argue that Peter loses his PMSI and that the receiver could refuse to give any goods back. The Uniform Law Conference of Canada is recommending that the definition of PMSI (which is the same as the NZ provisions in all material respects) be amended in a way that would secure the PMSI for Peter in this situation.
Under the definition of a PMSI, Peter has a PMSI only to the extent that the purchase price remains outstanding. Therefore, the strict wording of the definition suggests that Peter must prove that the payment he received for a quarter of the rum was not allocated to the purchase price of the rum which remains. Because he can't do that, there is an argument that he misses out altogether.
That may be correct according to a strict interpretation of the law, but that's not the way it's done in practice in these sort of circumstances in Canada. According to Canadian lawyers we've talked to, the bank's receiver would simply give back the remaining rum.
Here's what a lawyer in Regina, Saskatchewan told us. "It's very difficult for the bank to say that the purchase price isn't in payment for the goods which have already been already sold. It doesn't make sense to say he sold goods he hasn't paid for but kept the ones he had paid for. If I'm advising a bank, that's what I say to them. It's not something you want to take to court. It wouldn't be successful. It's unfair, not in accord with intentions of the [Saskatchewan] Act. The PMSI creditor wouldn't supply goods unless there was a priority for him. If the customer went into receivership he would just be paying off the bank."
This ties in with what trade creditors in Saskatchewan have told us. When a company goes into receivership, there are no major battles with the receivers. These cases never go to court. The matter is resolved between bank and supplier. The PMSI creditor takes back his goods - end of story. Assuming that this is also the situation in New Zealand, and we do, this is good news for trade creditors.
Example 2
Alan puts the rum in a storeroom with 25 identical cartons of "Buccaneer" rum supplied by Sarah, who also has a PMSI in what she has supplied. Nobody can tell where any one carton came from. Alan's bank calls in a receiver under its "all present and after-acquired goods" security interest.
Pre-PPSA outcome
As they couldn't prove who had supplied which rum, neither Sarah nor Peter would have recovered anything under their retention of title clauses; the bank would have taken all the rum.
PPSA outcome
Common sense says that Peter and Sarah both have PMSI's for the full amount of their debts since there is enough product to satisfy both PMSI's. Common sense prevails. Clearly all the rum remaining is subject to either Peter's or Sarah's PMSI and the PMSIs will prevail
over the bank's non-PMSI. The priority dispute is between Peter and Sarah not the bank. Just because they can't say which of the rum cartons are subject to their respective PMSIs doesn't mean they lose their PMSI creditor status as against the bank.
Example 3
Alan puts the rum in a storeroom with 25 identical cartons of "Buccaneer" rum supplied by Sarah, who also has a PMSI in what she has supplied. Nobody can tell where any one carton came from. Alan sells 25 cartons so that there are ten left. He has paid Peter and Sarah nothing. Alan's bank calls in a receiver under its "all present and after-acquired goods" security interest. Peter can't show which is his rum. Nor can Sarah say which is hers.
Pre-PPSA outcome
Both Sarah and Peter would have got nothing under their retention of title clauses; the bank would have taken all the rum.
PPSA outcome
On the facts, the 10 remaining cartons are subject to either Peter's PMSI or Sarah's PMSI, and purchase money for Sarah's rum and Peter's rum remains outstanding. This means the bank is not in competition with them with respect to the remaining rum. The issue becomes a priority dispute between Peter and Sarah. If it can't be determined which of the cartons is subject to which PMSI, then a court might resort to section 66 (first to register) or apply pro rata principles.
It's only if the facts could not establish that purchase money remains outstanding that the bank could prevail under the first-to-register rule.
Example 4
Alan manufactures "Alan's rum and raisin ice-cream" using Peter's rum. Alan's bank calls in a receiver under its "all present and after-acquired goods" security interest.
Pre-PPSA outcome
Although people continually attempted to assert claims to manufactured goods with cleverly worded clauses, there was almost no chance that Peter would have any claim to the ice-cream.
PPSA outcome
If Peter can prove that his rum is in the ice-cream and that it has not been paid for, he retains a security interest in the ice-cream. Section 86 gives him priority over the bank.
Example 5
Alan manufactures "Alan's rum and raisin ice-cream" using 25 cases of rum, some of which was Peter's and some of which was Sarah's. Alan's bank calls in a receiver under its "all present and after-acquired goods" security interest.
Pre-PPSA outcome
Again, there was almost no chance that Peter or Sarah would have any claim to the ice-cream.
PPSA outcome
If Peter and Sarah can prove that their rum is in the ice-cream and that it has not been paid for, they each retain a security interest in the ice-cream to the value of their rum. Sarah and Peter will have to come to an agreement over value of the rum from each that went into the ice-cream.
So, in summary, are things better or worse for trade creditors under the PPSA? In the very simple cases (no mixing of goods, no proceeds issues, no manufacturing issues) which we haven't given examples of, the results are generally the same for a trade creditor with registered PMSI as they would have been for a pre-PPSA creditor with an "all monies" ROT.
In the type of case described in example 1 _ where there has been part-payment and only some of the goods remain _ there is uncertainty over the interpretation of the law. We expect that when this is clarified by the courts, the net result will be that trade creditors are no worse off than they were under their old "all monies" ROT clauses. However, in cases where the same goods have been supplied by more than one supplier, those suppliers are now in a much better position. And in the more complex cases _ where the goods have been made into something else or sold _ the trade creditor is in a much stronger position legally, though there will still be relatively few cases where the right set of facts for a successful case arise.
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2. One of the last pre-PPSA New Zealand ROT cases
Polymer Systems (1999) Ltd v Construction Mechanics Ltd Unreported AP404/106/01, 11 March 2002
As a comparison, here's a pre-PPSA ROT case. Construction Mechanics Ltd (CML) contracted with the Waitakere District Council to construct and maintain a water main (the `head contract'). CML then contracted with Polymer Systems to supply and weld the required pipes. One of Polymer's standard terms was an elaborate Romalpa clause. This reserved Polymer's title in the goods or right to the proceeds of any sub-sale until they had received full payment for the goods. Polymer duly supplied the pipe to CML, completed the necessary work, and sent CML an invoice for $24,533.97.
CML then ran into financial difficulties and was placed in receivership. CML later received $135,798.35 from the Council under the head contract. When Polymer heard of this payment it sought to rely on its Romalpa clause. It claimed that it was entitled to the sale proceeds of the pipe and that the receivers of CML had to keep the proceeds separate and on trust for them.
The High Court found that at the time CML contracted with Polymer, it had already pre-sold the pipes to the Council. Therefore pursuant to the Romalpa clause, CML had agreed to hold the proceeds of sale of the pipes `in trust for Polymer'.
The Romalpa clause however was ineffective as the goods supplied and the welding done by Polymers had been "turned into a finished product, namely the completion and maintenance of a waterpipe main". Any right which Polymer had to a portion of the price paid was a mere `charge' over the book debt due to CML from the Council.
For the charge to be effective against CML's liquidators it must first have been registered under the Companies legislation. As Polymer had failed to register the charge, the Romalpa clause creating the charge over CML's book debts was ineffective against the liquidators and was therefore, not enforceable.
What would have been the result of this case if it had taken place under the PPSA and Polymer had had a security interest registered on the Personal Property Securities Register? We think that Polymer would have recovered its money.
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