First Nat. Bank of Louisville v. Master Auto Service Corp., s. 81-2221

• Decision Date: 09 November 1982
• Docket Number: Nos. 81-2221,s. 81-2221
• Citation: 693 F.2d 308
• Parties: FIRST NATIONAL BANK OF LOUISVILLE, Appellee/Cross Appellant v. MASTER AUTO SERVICE CORPORATION, Appellant/Cross Appellee. (L), 82-1044.
• Court: U.S. Court of Appeals — Fourth Circuit

Page 308

693 F.2d 308

FIRST NATIONAL BANK OF LOUISVILLE, Appellee/Cross Appellant v. MASTER AUTO SERVICE CORPORATION, Appellant/Cross Appellee.

Nos. 81-2221(L), 82-1044.

United States Court of Appeals, Fourth Circuit.

Argued July 14, 1982.

Decided Nov. 9, 1982.

Joseph R. Lassiter, Jr., Norfolk, Va. (Hofheimer, Nusbaum, McPhaul & Brenner, Norfolk, Va., on brief), for appellant/cross appellee.

Stanley G. Barr, Jr., Norfolk, Va. (Kaufman & Canoles, Norfolk, Va., Douglas Gene Sharp, Morgan & Pottinger, Louisville, Ky., on brief), for appellee/cross appellant.

Before WINTER, Chief Judge, PHILLIPS and ERVIN, Circuit Judges.

ERVIN, Circuit Judge:

This action arose when First National Bank of Louisville (the Bank), a secured lender and assignee of the accounts receivable of International Rubber Industries, Inc. (IRI), brought an action against Master Auto Service Corp. (Master Auto) to recover $235,655.04 owed by Master Auto to IRI for the purchase of a large quantity of all-steel radial tires. Master Auto sought a $265,927.24 set-off, ¹ an amount which Master Auto contends it was entitled to have credited to its account for honoring customer claims under IRI's express tire warranty. Master Auto contended that under Sec. 9-318(1)(a) of the Uniform Commercial Code (U.C.C.), see Ky.Rev.Stat. Sec. 355.9-318, the Bank, as assignee of a non-negotiable chose in action, took the assignment subject to all the legal and equitable defenses Master Auto could have asserted against IRI. The district court agreed that the Bank's rights were subject to all the terms of the contract between Master Auto and IRI and any defense or claim arising therefrom, but found that under Paragraph Six of the contract (Dealer Agreement), IRI was not liable for Master Auto's warranty claims without the advance written approval of IRI or its agents. The court found that IRI had approved only $53,817.60 of warranty credits and limited Master Auto's recoupment claim to this amount.

We find that the district court erred in its determination that Master Auto was not entitled to warranty credit without the advance written approval of IRI. Accordingly, we reverse the district court and hold that Master Auto was entitled to recoup the entire $265,927.24 against the Bank's claim for $235,655.04. We also find the Bank's contention that the court abused its discretion in denying the Bank's motion to amend its complaint to include another claim against Master Auto for $247,000.00 to be without merit. Because the amount of Master Auto's recoupment claim exceeds the amount of the Bank's claim against Master Auto, we remand to the district court for entry of a final judgment denying the Bank any recovery.

I.

Master Auto is an independent retail tire dealer located in Norfolk, Virginia. From late 1976 until July 5, 1979, Master Auto purchased large quantities of "Ironsides" all-steel radial tires on account from IRI, a tire manufacturer located in Louisville, Kentucky. The tires carried an express 50,000 mile warranty to both Master Auto ² and retail purchasers.

Because cracks frequently developed in the sidewalls of the Ironsides tire, many tires were returned to Master Auto under the warranty. The Dealer Agreement between IRI and Master Auto provided that IRI would issue credits to Master Auto's account for all defective tires adjusted by Master Auto pursuant to the warranty.

The Dealer Agreement included a warranty adjustment procedure that was to be followed by Master Auto. First, the customer was required to present to Master Auto the "original guarantee certificate," along with the defective tire. Second, Master Auto was to determine the amount of credit due the customer based upon the current retail price of the tires. Master Auto then was to replace the defective tire with a new tire and collect the difference between the retail price of the new tire and the credit due the customer. If the money collected from the customer was less than the wholesale cost of the new tire, Master Auto was entitled to a credit from IRI to recover the replacement cost plus a $2.00 handling commission. Third, Master Auto was to complete a claim form which was to be signed by the customer. Fourth, the tires were to be held, along with the forms, at Master Auto's warehouse so that an IRI representative could inspect and verify the adjustment. George Blevins, an IRI representative, regularly inspected adjusted tires, approved warranty credits, and disposed of the adjusted tires. Finally, Master Auto was to mail the claim forms to IRI's Louisville office, where the adjustment was to be credited to Master Auto's account.

On November 12, 1979, Master Auto received written notice that its account debt with IRI had been assigned to the Bank pursuant to a bankruptcy settlement. ³ After Master Auto received notice of the assignment, it filed a Proof of Claim in the bankruptcy proceeding to recover the amount it allegedly was entitled to recoup for warranty adjustments. IRI objected and counterclaimed for over $3,000,000.00. The parties subsequently entered into a written stipulation in which they agreed to dismiss their claims against each other. That agreement included the following provision:

WHEREAS, IRI has allegedly assigned to First National Bank of Louisville ("Bank") any account receivable due IRI from Master; and

WHEREAS, Master may have certain defenses or be entitled to certain set-offs against such account receivable assigned to First National Bank of Louisville; and

WHEREAS, IRI and Master desire to settle all controversies as between themselves without affecting the rights of the Bank or any defenses of IRI relating thereto,

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3. IRI and Master hereby release and discharge each other from any and all claims of either against the other arising out of any transactions between them prior to the date hereof, provided, however, that the rights of any other parties against Master which may have arisen out of such transactions and any defenses of Master thereto, including any right to offset claims against IRI otherwise discharged hereby, are specifically preserved and not included in such mutual release and discharge, and are not affected thereby. (emphasis added).

On November 18, 1980, the Bank, as assignee of IRI's accounts receivable, brought an action against Master Auto to recover $235,655.04 owed by Master Auto on account to IRI for the purchase of Ironsides tires. Master Auto contended that it was entitled to a $265,927.24 recoupment against the account debt for all Ironsides tires that it had adjusted but for which it had not received credit against the account. ⁴

At trial, Master Auto presented uncontradicted evidence to show that it had adjusted every tire in question in accordance with the procedure outlined in the Dealer Agreement and that the tires were available for inspection at Master Auto's warehouse. S. Archer Green, the President of Master Auto, also testified that George Blevins, an IRI representative, had approved $53,817.60 of warranty credits before IRI filed for reorganization under Chapter XI of the Bankruptcy Code on July 6, 1979. Although Blevins had signed the claim forms, the warranty adjustment credits had not been entered on the books and records of IRI.

The district court found, sua sponte, that Paragraph Six of the Dealer Agreement required prior written approval for warranty adjustment credits. ⁵ On that basis, the court denied all of Master Auto's recoupment claim except for $53,817.60 in warranty adjustment credits, which the court found had been approved by IRI representative George Blevins before IRI began bankruptcy proceedings on July 6, 1979.

II.

A.

Section 9-318(1)(a) of the Uniform Commercial Code provides that the rights of an assignee are subject to "all the terms of the contract between the account debtor and assignor and any defense or claim arising therefrom ...." Ky.Rev.Stat. Sec. 355.9-318. The district court here determined that Master Auto's recoupment claim derives from the dealer agreement between IRI and Master Auto. Thus, the rights of the Bank, IRI's assignee, against Master Auto are subject to all the terms of the Dealer Agreement between Master Auto and IRI.

Master Auto's first contention on appeal is that the district court erred in finding that under Paragraph Six of the Dealer Agreement, Master Auto was not entitled to warranty adjustment credits without advance written approval by IRI or its agents. We agree with Master Auto that the district court misconstrued Paragraph Six of the Dealer Agreement.

It is clear from the language of Paragraph Six, ⁶ especially when considered in conjunction with Paragraph Five, ⁷ that Paragraph Six applies to the return of merchandise and not to adjusted tires. Paragraph Six expressly refers to the "return" of IRI products and receiving credit "at the net invoice price thereof or at the price in effect at the time such product is received at IRI, Incorporated, whichever price shall be lower, less such amount as IRI, Incorporated may determine to deduct for depreciation on the merchandise returned for credit." The language of Paragraph Six, which logically applies to the return of unsold merchandise, simply is meaningless in the context of a warranty claim. Paragraph Five, on the other hand, expressly states that "all conditions regulating ... IRI warranties, [and] adjustment policies ... are contained in Schedules A through E." Nowhere in Schedules A through E is it stated that Master Auto is not entitled to warranty adjustment credits without the advance written approval of IRI. Rather, Master Auto simply is directed to hold the adjusted tires at its warehouse so that IRI can inspect them.

In Schenuit v. International Finance Corporation, 148 Md. 403, 130 A. 331 (1925), a case involving circumstances virtually identical to those in the present case, the Maryland Court of Appeals held that a dealer was entitled to warranty adjustment credits...