Brasher's Cascade Auto Auction v. Valley Auto Sales & Leasing (119 Cal. App. 4th 1038, 2004)

Opinion

DAWSON, J.

The Uniform Commercial Code establishes rules that address a variety of situations where losses must be allocated between relatively innocent parties because a third party whose misconduct caused the loss is insolvent or no longer available. That situation is presented here. A middleman who purchased vehicles from an auction company-secured lender and resold the vehicles to a used car dealer failed to apply the proceeds from the resale to pay off the auction company-secured lender. This appeal concerns whether the loss caused by the insolvent middleman should be borne by the auction company-secured lender or by the used car dealer.

The fundamental legal question raised in this appeal is whether, under the former version of the California Uniform Commercial Code, a merchant buyer was required to observe reasonable commercial standards to qualify as a buyer in the ordinary course of business for purposes of section 9307. If the merchant buyer attained buyer in the ordinary course status, then it would have purchased the goods free of any perfected security interest.

We hold that the former version of the California Uniform Commercial Code requires a merchant buyer to adhere to reasonable commercial standards to obtain the status of a buyer in the ordinary course. The ultimate policy goal of the statute is not served best by allowing a merchant buyer to engage in modes of dealing that are commercially unreasonable without bearing responsibility for the losses resulting from those modes of dealing.

The application of reasonable commercial standards presents a question of fact not addressed by the trial court. Accordingly, we reverse and remand for further proceedings.

FACTS

Parties and Background

Appellant Brasher’s Cascade Auto Auction (Auction) operates an automobile auction located in Oregon. Auction sells automobiles as a consignee and functions as a wholesale clearinghouse that liquidates used cars for its consignors, which include banks, financing companies, fleet and lease companies, manufacturers, government agencies, and new and used car dealerships. In connection with its auction business, Auction provides financing to preapproved buyers on certain vehicles it designates.

Respondent Ronald R Fena, Inc., doing business as Valley Auto Sales and Leasing (Valley), operates a used car dealership in Fresno County, California.

Pacific Title Service, Inc. (Pacific) was a used car wholesaler in Oregon. Pacific bought cars and resold them to dealers. Pacific was owned by Rhonda Huillier, a daughter-in-law of Robert Huillier, who worked for Pacific buying and selling cars.

Transactions involving Robert Huillier, Valley, and Auction first began in 1994 when Robert Huillier was authorized by Valley to act as its agent for the purpose of purchasing vehicles from Auction. After March 1998, Robert Huillier stopped acting as an agent for Valley and began to work exclusively for Pacific. In April 1998, Robert Huillier began to buy vehicles from Auction on behalf of Pacific.

Robert Huillier was convicted of two felonies in California in the 1980’s relating to odometer rollback and to obtaining vehicles valued at approximately $800,000 from Bay Cities Auto Auction without paying for them. After serving time and attempting to reestablish himself in Fresno, California, Robert Huillier moved to Oregon and started Huillier Auto Wholesale. When the bond issued to Huillier Auto Wholesale was cancelled by the insurer, Pacific was formed and Robert Huillier went to work for it.

Transactions Between Consignor and Auction

Auction sells vehicles on consignment and sometimes extends credit to the buyers purchasing vehicles at its auctions. Although consignors selling vehicles through Auction are not required to provide certificates of title to the vehicles at the time of the auction sale, approximately 70 percent of the time the consignor will deliver the certificate of title to Auction before the vehicle goes on the auction block. Auction does not pay a consignor for a vehicle until after it is sold and the consignor delivers the vehicle’s title documents to Auction. In addition to holding payment, Auction motivates consignors to deliver title documents through its rules, which assess consignors a late title charge for any title not provided within three weeks of the sale date.

Because Auction’s payment to the consignor depends upon when the consignor delivers title, the actual length of time between the sale of a vehicle at auction and payment of the consignor varies. For example, of the nine vehicles sold to Pacific on August 3, 2000, Auction paid the consignors of eight of the vehicles with checks dated August 7, 2000. Auction paid for the ninth vehicle with a check dated September 21, 2000.

Transactions Between Auction and Pacific

Auction sold the 32 vehicles that are the subject of this lawsuit to Pacific between July 6 and September 7, 2000. The total amount owed by Pacific to Auction for the purchase of the 32 vehicles was $300,299.

The terms of Pacific’s obligation to pay for the vehicles arose from its position as a buyer at an auction and as a debtor that financed its purchases through Auction. A preprinted dealer registration form Pacific was required to complete to do business with Auction included Pacific’s agreement to “honor promptly all checks and drafts presented for payment for vehicles purchased at Auction.” Pacific obtained financing through Auction by executing a document called “4-Week Float Pre-Authorization Request” (Float Program) which required Pacific to pay for the vehicles on the earlier of 28 days from the date of purchase or when Pacific sold the vehicles to third parties. Pacific signed three of these request forms; they were dated July 12, 2000, August 2, 2000, and September 7, 2000. In approving the first two requests, Auction indicated that the amount Pacific was authorized to purchase under the Float Program in that month was $100,000. The amount authorized was left blank in the last request form.

To collateralize Pacific’s payment obligation under the Float Program, Auction retained and perfected a security interest in the vehicles it sold to Pacific. Pacific signed a financing statement on a standard form UCC-1 that named Auction as the secured party. Auction filed the financing statement with the Oregon Secretary of State on March 2, 2000. The financing statement covered collateral that included inventories, whether “now owned or hereafter acquired.” As additional protection, Auction obtained and held the certificates of title for the 32 vehicles.

The signed drafts Pacific provided to Auction to pay for vehicles took approximately 20 to 25 days to clear after Auction submitted them to the bank for processing. Apparently, the draft and title documents were submitted by Auction to Pacific’s bank and (1) if Pacific honored the draft, the bank would pay Auction and forward the title documents to Pacific or (2) if Pacific dishonored the draft, the bank would return the draft and the title documents to Auction.

Transactions Between Pacific and Valley

Pacific resold the 32 vehicles it purchased from Auction to Valley over a three-month period. Valley paid Pacific in full for each of the vehicles it purchased, and the price for each was consistent with fair market value. Valley acquired the vehicles individually and not as a sell-off of inventory that would qualify as a bulk sale.

Pacific had not received the certificates of title at the time it sold the vehicles to Valley because Auction (or perhaps the consignor) held the title documents to the vehicles at that time. Valley did not demand a certificate of title to a vehicle at the time it paid Pacific for the vehicle.

Pacific’s Failure to Pay Auction for the Vehicles

Pacific received payment for each of the 32 vehicles from Valley, but failed to pay Auction for those vehicles. Pacific’s failure to pay Auction for the 32 vehicles is the reason the parties to this appeal became involved in litigation over their respective rights in the vehicles. The trial court found: “The evidence adduced at the trial demonstrated a bona fide dispute between the parties over titles to 32 vehicles which was caused almost entirely by the wrongful conduct of Pacific.”

Auction became aware during the second week of September 2000 that Pacific was not paying for vehicles acquired under the Float Program when Auction was notified by Pacific’s bank that the drafts provided by Pacific were being returned unpaid. About three or four days later, on September 19, 2000, Jerry Hinton, the general manager of Auction, reached Robert Huillier by telephone. Hinton testified that Huillier told him that Pacific would not pay the drafts, the vehicles had been sold to Valley, and Valley had paid Pacific in full for them.

After his conversation with Huillier, Hinton telephoned Ron Fena of Valley and told him that the 32 vehicles had been purchased from Auction by Pacific and Auction had not been paid by Pacific for the vehicles. Both men were upset that Pacific’s breach had left them with competing claims to the vehicles.

Pending the resolution of their dispute over the 32 vehicles, Auction and Valley entered into an agreement under which Auction provided certificates of title to the 32 vehicles as each one was sold to the general public by Valley and the amount of money owed to Auction for that vehicle was placed into an attorney trust account.

PROCEDURAL HISTORY

Auction filed a complaint against Pacific, its principals Rhonda and Robert Huillier, and Valley. In its cause of action against Valley, Auction sought declaratory relief regarding its rights in the vehicles as a secured lender and the priority of those rights over the claims of Valley. Valley filed a cross-complaint against Auction for conversion of the title documents.

The matter was tried to the superior court on February 24 and 25, 2003. On April 30, 2003, the court issued a statement of decision in which it ruled that “[b]ecause Valley is a buyer in ordinary course of business with respect to the 32 vehicles . . . , it is entitled to the return of the sum of $300,299, currently on deposit, which are hereby ordered to be paid to it forthwith.”

In reaching its decision, the superior court rejected Auction’s legal argument that Valley could not be a buyer in the ordinary course under section 9307 of the California Uniform Commercial Code unless it met the good faith standard for merchants contained in section 2103, subdivision (l)(b).

The superior court analyzed the criteria necessary for Valley to qualify as a buyer in the ordinary course as follows:

“Here Valley qualifies as a buyer in ordinary course of business. There is no dispute that Valley paid Pacific for each of the 32 vehicles. Further, although [Auction] suggests in its post-trial brief that it is inconceivable that Valley did not know Pacific was selling cars out of trust, no evidence was presented to that effect. Robert Huilliar [sic], the buyer for Pacific, testified that he did not tell Valley that [Auction] held a security interest in the vehicles. Ron Fena, the President of Valley, testified that although he did not receive titles to the 32 vehicles at the time he paid for them, he was not concerned because he assumed there was a lien involved which would be cleared up in due course. He had purchased over 700 vehicles from Pacific and received titles on all of them except the 32 vehicles involved in this transaction, although it generally took between 60 and 90 days to receive them.

“[Auction’s] claim to the effect it is inconceivable that Valley did not know Pacific was selling cars ‘out-of-trust’ is based primarily on Huilliar’s prior felony conviction years earlier and Huilliar’s business dealings with Valley since that time. However, extrapolating from Huilliar’s admitted criminal past to specific knowledge on the part of Valley about the transactions in question is a leap the court is unwilling to make particularly where [Auction] itself extended credit to Huilliar’s company, Pacific and dealt with Huilliar in a way which would not suggest any concern on its part about his past. Valley had extensive business dealings with Huilliar since his release from prison and it was not unreasonable for Valley to conclude that he had been rehabilitated, as, apparently, did [Auction].”

The trial court ruled Valley was entitled to the $300,299 held in trust pending the outcome of the litigation, and also ruled Auction was not liable for conversion of the certificates of title. Judgment was entered accordingly.

Auction filed a notice of appeal. Valley did not file a notice of cross-appeal challenging the denial of its cause of action for conversion.

DISCUSSION

Auction contends Valley was not a buyer in the ordinary course of business (BIOC) and, therefore, did not take free of Auction’s security interest under the provisions of section 9301. To support this contention, Auction argues that the trial court committed legal error by applying the subjective standard of good faith contained in section 1201, subdivision (19), rather than the objective standard of good faith imposed upon merchants under section 2103, subdivision (l)(b). Auction further argues that, regardless of the standard of good faith applied, Valley failed to meet the “ordinary course” element in the definition of a BIOC for two reasons. First, Valley failed to obtain certificates of title when it paid for the vehicles. Second, Valley’s transactions with Pacific violated former Vehicle Code section 5753.

In response, Valley asserts that (1) the trial court correctly chose and applied the subjective standard of good faith, (2) full ownership rights to the vehicles passed to it as a BIOC, and (3) Vehicle Code section 5753 does not apply to the facts of this case.

I. Standard of Review

To reach our destination of resolving this appeal, our journey requires the consideration of various provisions of the California Uniform Commercial Code and is guided by the applicable rules of statutory construction. The standards of review limit the paths open to us, as a court of review. For example, we may not resolve disputes of fact raised in connection with the application of legal standards derived from the California Uniform Commercial Code; the trier of fact must resolve those disputes. (See, e.g., Martin Marietta Corp. v. N.J. Nat. Bank (3d Cir. 1979) 612 F.2d 745, 753 [application of phrase “buys in ordinary course” remanded to trial court].) In addition, a trial court’s explicit and implicit findings of fact in its statement of decision are reviewed under the substantial evidence standard. (Crawford v. Southern Pacific Co. (1935) 3 Cal.2d 427, 429 [45 P.2d 183]; Michael U. v. Jamie B. (1985) 39 Cal.3d 787, 792-793 [218 Cal.Rptr. 39, 705 P.2d 362] [implied findings]; see Code Civ. Proc., §§ 632, 634.)

In contrast to the deference given to the trial court as a finder of fact, we independently review the trial court’s rulings on questions of law (Ghirardo v. Antonioli (1994) 8 Cal.4th 791, 801 [35 Cal.Rptr.2d 418, 883 P.2d 960]), such as issues of statutory construction and the application of that construction to a set of undisputed facts. (Twedt v. Franklin (2003) 109 Cal.App.4th 413, 417 [134 Cal.Rptr.2d 740].)

II. Conflicting Claims to the Same Goods by a Secured Party and a Buyer

A. General Rule Protecting Security Interests

The California Uniform Commercial Code contained a number of provisions that determined who would prevail in a conflict between the purchaser of goods and a secured party claiming an interest in the same goods. As a general rule, a buyer of goods did not take free of a prior security interest. (§§ 9201, 9306, subd. (2).) This general rule was subject to exceptions.

The general rule that a security interest continued in collateral despite its sale did not apply if the sale “was authorized by the secured party in the security agreement or otherwise . . . .” (§ 9306, subd. (2).) Valley has not argued that Auction authorized Pacific to sell the vehicles for purposes of section 9306. Consequently, we do not address the role, if any, of that section in this case.

B. The Exception for a Buyer in the Ordinary Course of Business

Another major exception to the general rule was set forth in section 9307, which provided in part: “(1) A buyer in ordinary course of business (subdivision (9) of Section 1201) takes free of a security interest created by his seller even though the security interest is perfected and even though the buyer knows of its existence.”

The definitions in section 1201 that were relevant to the application of section 9307 to the sale of the vehicles from Pacific to Valley included:

“(9) ‘Buyer in ordinary course of business’ means a person who, in good faith and without knowledge that the sale to him or her is in violation of the ownership rights or security interest of a third party in the goods, buys in ordinary course from a person in the business of selling goods of that kind, but does not include a pawnbroker. . . . ‘Buying’ may be for cash, or by exchange of other property or on secured or unsecured credit, and includes receiving goods or documents of title under a preexisting contract for sale, but does not include a transfer in bulk or as security for, or in total or partial satisfaction of, a money debt. [j[] . . . [