A $1.5 Billion (Un)Secured Loan

February 2, 2015

Authored by: Brian Devling and Jeff Chavkin

An opinion from the Second Circuit Court of Appeals in In re Motors Liquidation Company, relying on the Delaware Supreme Court’s answer to a certified question highlight the need to focus on the details when dealing with financing statements and terminations under Article 9 of the Uniform Commercial Code.  Because the parties in that case did not pay attention to the details, a $1.5 billion secured term loan became unsecured loan.

General Motors had two separate credit facilities led by JPMorgan Chase Bank, N.A., as agent for the different lender groups: a $300 million synthetic lease financing and a $1.5 billion secured term loan.  Two UCC-1 financing statements were filed in connection with the synthetic lease and a separate UCC-1 was filed with respect to the term loan.. All three financing statements identified JPMorgan, as agent, as the secured party.

In 2008, General Motors told its counsel on the synthetic lease to prepare documents to unwind the synthetic lease.  The partner at GM’s counsel delegated some of the work to an associate who further delegated the UCC work to a paralegal.  The paralegal ran a UCC search that revealed the 3 UCC-1 filings and the paralegal prepared termination statements for all three filings including one for the term loan that was not being repaid.  JPMorgan and its counsel reviewed the draft termination statements, did not catch the mistake and authorized the filing.  All three terminations were filed and no one noticed the term loan’s financing statement was terminated until after GM filed for bankruptcy protection.

Reasoning that JPMorgan did not intend to terminate the financing statement for the term loan, the bankruptcy court found that the termination was not effective because it was not authorized.  On appeal, the Second Circuit first certified to the Delaware Supreme Court the question of what constitutes “authorization” under Article 9 to file a termination statement. The Delaware Supreme Court found that a termination statement is effective if the secured party authorizes the filing to be made.  There is no requirement that the secured party subjectively intends or understands the effect of the filing. With the Delaware Supreme Court’s answer, the Second Circuit then considered whether JPMorgan, as principal, authorized GM’s counsel to file the termination statement as its agent.  The Second Circuit held that JPMorgan authorized the filing of all three termination statements.  Thus, the term loan was unsecured when GM filed for bankruptcy.

While every lender and lending lawyer hopes the facts in the GM case are a rare occurrence, the case reminds us there is little to no room for error when it comes to financing statements. Much like the secured party must ensure it has the debtor’s name exactly right when preparing an initial financing statement, the secured party must also check and double-check any terminations and amendments to the financing statement.  The carpenter’s mantra “measure twice, cut once” applies to Article 9 practitioners too.