Opinion ID: 583698
Heading Depth: 1
Heading Rank: 3

Heading: Does Ethyl Have a Right To Reclaim

Text: 21 On this appeal, we begin with uncontested findings that Ethyl satisfied the statutory prerequisites for reclamation under § 546(c) and Kan.Stat.Ann. § 84-2-702(2): (1) Ethyl sold the chemicals in the ordinary course of its business; (2) Pester received the chemicals while insolvent; (3) Ethyl demanded return of the chemicals in writing within ten days after Pester received them; and (4) Pester was still in possession of the chemicals when it received Ethyl's reclamation demand. See Griffin Retreading Co., 795 F.2d at 679. 22 However, Ethyl's right to reclaim is subject to the rights of good faith purchasers, § 84-2-702(3). When Pester received the chemicals from Ethyl, it owed some $42,000,000 to various secured creditors who held perfected floating security interests in Pester's property, including the chemicals. It is undisputed that these secured creditors were good faith purchasers, and that their security interests were undersecured when Pester filed its petition for Chapter 11 protection. Pester argues that the mere presence of secured creditors with superior rights under § 84-2-702(3) extinguished Ethyl's right of reclamation. 23 This contention does obvious violence to the statutory language. In the UCC context, when the right to reclaim is subject to the rights of secured creditors, that means the right is subordinate or inferior to the security interests, not that it is automatically and totally extinguished. See Toyota Ind. Trucks U.S.A., Inc. v. Citizens Nat'l Bank, 611 F.2d 465, 473 & n. 6 (3d Cir.1979). See also Michelin Tires (Can.) Ltd. v. First Nat'l Bank, 666 F.2d 673, 677 (1st Cir.1981) (construing subject to in § 9-318(1)). Therefore, after the secured creditors' superior interests have been satisfied or released, the reclaiming seller retains a priority interest in any remaining goods, and in any surplus proceeds from the secured creditors' foreclosure sale. 24 This was the precise issue decided in United States v. Westside Bank, 732 F.2d 1258 (5th Cir.1984), a non-bankruptcy case. The seller made a timely reclamation demand. The secured creditor foreclosed upon and sold all the buyer's assets, including the goods subject to reclamation. The district court held that the seller's right of reclamation was extinguished by the foreclosure. The Fifth Circuit reversed, holding that the reclamation seller retained a priority interest in any surplus proceeds traceable to the goods. The court explained that this result is appropriate under the UCC whether the reclamation right is viewed as an Article 2 limitation on the secured party's right to dispose of collateral, as an Article 9 junior security interest, or as the debtor's ownership interest in traceable proceeds. 732 F.2d at 1262-63. 25 To our knowledge, although the case law is inconsistent in other respects, Westside Bank's interpretation of the subject to language in § 84-2-702(3) has been followed in every reported bankruptcy decision that has considered the question. See, e.g., In re Roberts Hardware, 103 B.R. 396, 398 (Bankr.N.D.N.Y.1988); Matter of Bosler Supply Group, 74 B.R. 250, 253 (N.D.Ill.1987); In re Wathen's Elevators Inc., 32 B.R. 912, 923 (Bankr.W.D.Ky.1983); In re Western Farmers Ass'n, 6 B.R. 432, 436 (Bankr.W.D.Wash.1980). 26 Pester cites In re Coast Trading Co., 744 F.2d 686, 692 (9th Cir.1984), as supporting its contention that the mere presence of a secured creditor with a security interest in the goods to be reclaimed extinguishes the seller's right to reclaim. But Coast Trading is distinguishable from the above-cited cases in one critical respect--the seller had drop-shipped the goods to the buyer's customer, so they were not in the buyer's possession when reclamation was demanded. Factually, this puts Coast Trading in the mainstream of UCC cases holding that the seller may only reclaim goods in the buyer's possession. 5 The Coast Trading opinion emphasized this fact in distinguishing the above-cited decision in Western Farmers: 27 In Western Farmers the court found that the sellers had a reclamation right subject to the interest of a secured inventory creditor.... Thus, in Western Farmers the sellers had a valid, although subordinated, reclamation right.... Collingswood has not demonstrated any such right to reclaim goods or proceeds; therefore it is not eligible for an administrative priority under section 546. 28 744 F.2d at 692. Accordingly, we agree with the district court that Ethyl's right to reclaim was not extinguished because Pester had secured creditors with perfected security interests in the chemicals Ethyl sought to reclaim. 6 IV. Is the Right Worthless 29 Determining that Ethyl's right to reclaim exists is easier than determining what it is worth. Pester argues that the claim is worthless because the secured creditors' claims exceeded the value of all of Pester's assets when the Chapter 11 proceeding was commenced. Ethyl argues, and the bankruptcy court apparently held, that Ethyl may recover its entire reclamation claim from any assets of the reorganized Pester because the superior secured creditors' claims were satisfied in the Plan of Reorganization. We reject both of these contentions as inconsistent with the delicate balance codified in § 546(c) of the Code. 30 Once again, our § 546(c) analysis must begin with state law. Under the UCC, if an undersecured secured creditor forecloses on the goods to be reclaimed and uses the entire proceeds to pay down its secured debt, the seller's reclamation right is extinguished. Even if the buyer has additional assets, the seller's right to reclaim affords it no priority interest in those assets; it is relegated to its unsecured claim for the purchase price. See § 84-9-504(4). On the other hand, if the secured creditor releases its security interest in the goods to be reclaimed, the seller may enforce its right to reclaim, even if the resulting reduction in the buyer's assets impairs the secured creditor's position. In other words, in the non-bankruptcy context, the secured creditor's decision with respect to its security interest in the goods will determine the value of the seller's right to reclaim. 31 Because the purpose of § 546(c) is to recognize, in part, the validity of section 2-702 of the Uniform Commercial Code, 7 we think these distinctions must be recognized in determining the value in bankruptcy of a seller's reclamation right that is subject to superior secured creditor interests. Thus, Pester's argument--that the claim is worth nothing because the secured creditors were undersecured at the outset--ignores the freedom of secured creditors in non-bankruptcy contexts to relinquish all or part of their security interests. And Ethyl's argument--that the claim is worth full value because the secured creditors have been satisfied--ignores the possibility that they were satisfied by the goods to be reclaimed, rather than by other Pester assets, in which case the right to reclaim would be extinguished (rendered valueless) under state law. This distinction was recognized in In re Video King of Ill., Inc., 100 B.R. 1008, 1016-17 (Bankr.N.D.Ill.1989), although only in dicta in a pretrial opinion denying cross motions for summary judgment. 32 The bankruptcy court reasoned that Ethyl must be given an administrative expense priority, or a lien, for the full value of its right to reclaim because § 546(c)(2) permits the court to deny reclamation to a seller with such a right of reclamation ... only if the court: (A) grants the claim of such a seller [administrative claim] priority ... or (B) secures such claim by a lien. (emphasis added). We disagree. When there are goods or traceable proceeds available to reclaim, the alternative remedies in § 546(c)(2) provide needed flexibility. But when the secured creditors have satisfied their claims out of the goods to be reclaimed, granting § 546(c)(2) relief would afford the reclamation seller something it does not have under the UCC--a priority interest in the buyer's assets other than the goods to be reclaimed. See Action Ind., Inc. v. Dixie Ent., Inc., 22 B.R. 855, 860 (Bankr.S.D.Ohio 1982). Nothing in the text or legislative history of § 546(c) suggests that Congress intended to expand the state law rights of reclamation sellers at the expense of the bankrupt's unsecured creditors. In this situation, the bankruptcy court does not deny reclamation in recognizing that the reclamation right no longer has value; therefore, the alternative remedies of § 546(c)(2) do not come into play. 33 Because Ethyl's subordinate right of reclamation existed when Pester commenced its Chapter 11 proceeding, but was subject to being rendered valueless by the actions of Pester's secured creditors, we must now take a closer look at the details of Pester's confirmed Plan of Reorganization, the document that defined the extent to which, and the manner in which, Pester's various classes of creditors would share in this debtor's estate.