In the recent matter of re: Motors Liquidation Co., et al. the Court of Appeals for the Second Circuit (the “Appellate Court”) ruled that a clerical error which unintentionally rendered $1.5 billion of debt unsecured due to the inclusion of an improper financial statement, was in fact authorized and thus enforceable. The Appellate Court determined that the underlying statue makes no mention of subjective intent when it comes to filing, but rather focuses solely on conferred authority. Thus, the Court overturned the New York Bankruptcy Court’s (the “Bankruptcy Court”) summary judgment on the matter, finding that the defendant was legally responsible for the effects of its improperly filed financial statement.
The case involves two separate financial transactions between General Motors (“GM”) and JPMorgan Chase (“JPMorgan”). In 2001, JPMorgan entered into a $300 million synthetic lease (“Synthetic Lease”) with GM, which GM collateralized with 12 pieces of real estate. In 2008, JPMorgan entered into a second – and completely unrelated – transaction with GM acting as the administrative agent and secured party of record for a pool of lenders who made a $1.5 billion term loan (“Term Loan”) to the automaker. This second transaction was also collateralized by a large array of GM plants, machinery, and other assets. During both transactions numerous Uniform Commercial Code financial statements (“UCC-1”) were filed, formally collateralizing the transactions.
During GM’s 2009 bankruptcy it came to light that an error occurred at the culmination of the Synthetic Lease. A law firm representing JPMorgan during the closing process was instructed to draw up legal documents releasing the collateral that GM used to secure the Synthetic Lease. The process included searching for and documenting the UCC-1 financial statements involved in the Synthetic Lease, and filing corresponding UCC-3 forms which terminate the UCC-1s, ending the liens against the various real property used to secure the Synthetic Lease. However, in preparing these documents a paralegal mistaken included a UCC-3 pertaining to the Term Loan transaction. This error went unnoticed by all parties, including both law firms representing JPMorgan and GM in the transaction as well JPMorgan’s general counsel, amongst whom the documents were circulated, reviewed, and approved after minor wording changes.
Upon GM’s bankruptcy it was discovered that due to this erroneous filing, the $1.5 billion Term Loan had become unsecured. As a result the Term Loan was legally given lower repayment priority. Essentially, JPMorgan should have been pushed back from its first place position in the long line of GM creditors waiting to be repaid. However, JPMorgan was repaid the Term Loan sum due to the Bankruptcy Court ruling that the collateral was released unintentionally and thus JPMorgan should not bare the resultant financial penalty. In effect, the Bankruptcy Court annulled the accidental filing of the UCC-3 which terminated the liens pursuant to the second Term Loan.
The current case was brought by GM’s unsecured creditors who hope to claw back monies paid to JPMorgan into the pool to be allocated to all GM’s pre-bankruptcy, unsecured debts.
The Court’s ruling
Upon request from the Appellate Court, the Supreme Court of Delaware (the “Supreme Court”) instructed::
“[F]or a termination statement to become effective under § 9‐509 and thus to have the effect specified in § 9‐513 of the Delaware UCC, it is enough that the secured party authorizes the filing to be made, which is all that § 9‐510 requires. The Delaware UCC contains no requirement that a secured party that authorizes a filing subjectively intends or otherwise understands the effect of the plain terms of its own filing”
The Appellate Court reserved for itself the judgment of JPMorgan’s authorization. With regard for the newly clarified language of the statute, it ruled that:
“although JPMorgan never intended to terminate the Main Term Loan UCC‐1, it authorized the filing of a UCC‐3 termination statement that had that effect.”
Relying on language of the American Law Institute’s Restatement (Third) of Agency § 3.01 (2006):
“Actual authority . . . is created by a principal’s manifestation to an agent that, as reasonably understood by the agent, expresses the principal’s assent that the agent take action on the principal’s behalf.”
The Appellate Court reasoned that the review, discussion, and circulation of the closing documents (which included the improper UCC-1 and UCC-3) between JPMorgan, and the two law firms representing its interests, equated to ample “manifestations”, and thus:
“JPMorgan reviewed and assented to the filing of that statement. Nothing more is needed”
Thus, JPMorgan was deemed to have authorized the filing of the UCC-3 form and the consequent un-securing of the debt it held from GM.