In re Contract Interiors, Inc.

• Citation: 14 BR 670
• Decision Date: 02 October 1981
• Docket Number: Bankruptcy No. 81-00647-B,Adv. No. 81-0351-B.
• Parties: In re CONTRACT INTERIORS, INC., a Michigan Corporation, Debtor. B. BERGER CO., an Ohio Corporation, Plaintiff, v. CONTRACT INTERIORS, INC., a Michigan corporation, Defendant.
• Court: United States Bankruptcy Courts. Tenth Circuit. U.S. Bankruptcy Court — Eastern District of Michigan

14 B.R. 670 (1981)

In re CONTRACT INTERIORS, INC., a Michigan Corporation, Debtor B. BERGER CO., an Ohio Corporation, Plaintiff, v. CONTRACT INTERIORS, INC., a Michigan corporation, Defendant.

Bankruptcy No. 81-00647-B, Adv. No. 81-0351-B.

United States Bankruptcy Court, E.D. Michigan.

October 2, 1981.

Matz & Rubin by Robert Rubin, Southfield, Mich., for plaintiff.

Miller, Canfield, Paddock & Stone, Detroit, Mich. by J. Scott Timmer, Birmingham, Mich., for defendant.

OPINION

GEORGE BRODY, Bankruptcy Judge.

This controversy involves the construction to be given to section 546(c) of the Bankruptcy Code, 11 U.S.C.A. § 546(c) (1979).

On December 24, 1980, B. Berger & Co. (the "plaintiff") shipped certain decorative goods to Contract Interiors, Inc. On February 6, 1981, Contract Interiors filed a petition for relief under chapter 11 of the Bankruptcy Code. The plaintiff made demand in writing for the return of the goods on February 20, 1981. When the defendant (the "debtor") failed to honor this request, the plaintiff instituted this action contending that it was induced to ship the goods in reliance upon a false financial statement submitted by the debtor and, therefore, it was entitled to reclaim them either by virtue of section 2-702 of the Uniform Commercial Code, M.S.A. § 19.2702 M.C.L.A. § 440.2702, or based upon a theory of common-law fraud.

The parties agree that whether the plaintiff may prevail depends, at least initially, upon the construction to be given to section 546(c) of the Code.

"§ 546. Limitations on avoiding powers

. . . .

(c) The rights and powers of the trustee under sections 544(a), 545, 547, and 549 of this title are subject to any statutory right or common-law right of a seller, in the ordinary course of such seller\'s business, of goods to the debtor to reclaim such goods if the debtor has received such goods while insolvent, but —

(1) such a seller may not reclaim any such goods unless such seller demands in writing reclamation of such goods before ten days after receipt of such goods by the debtor;

(2) the court may deny reclamation to a seller with such a right of reclamation that has made such a demand only if court —

(A) grants the claim of such a seller priority as an administrative expense; or (B) secured such claim by a lien.

Based upon section 546(c), the debtor argues that a seller may reclaim the goods he was induced to sell by fraudulent representation only if the seller complies with the requirements set forth in section 546(c) and, since the plaintiff did not make a written demand within ten days of the receipt of the goods by the debtor no right to reclaim exists. In re Original Auto Parts Distributors, 9 B.R. 469 (Bkrtcy.S.D.N.Y.1981); White and Summers, "The Uniform Commercial Code," § 24 (2d ed. 1980).

Counsel for the plaintiff, however, maintains that section 546 deals with the limitation of the trustee's avoiding powers and, therefore, subsection (c) of section 546 should be construed to mean that it merely prevents the trustee from relying upon sections 544(a), 546, 547 and 549 to defeat any statutory or common-law right of the seller to reclaim the goods sold in the ordinary course of business if the seller complies with the conditions set forth in section 546(c); but that a seller may still rely upon any statutory or common-law right that he may have to reclaim goods he has sold to a debtor even though he does not comply with the conditions set forth in section 546(c), but if a seller does so, the trustee may employ all of his avoiding powers to resist the seller's claim. In support of this construction of section 546(c), plaintiff relies on a law review article by Mann & Phillips analyzing section 546(c), entitled "Section 546(c) of the Bankruptcy Code: An Imperfect Resolution of the Conflict Between the Reclaiming Seller and the Bankruptcy Trustee," 54 Am.Bankr.L.J. 239 (1980).¹ In that article, the writers concede that section 546(c) may be construed to mean that it is the "exclusive and conclusive bankruptcy provision governing a seller reclamation rights," and that the failure to comply with section 546(c) precludes any recovery by the seller. The writers then state:

"Although this interpretation of section 546(c) cannot be dismissed peremptorily, it is unpersuasive for a number of reasons. First, section 546(c) does not expressly state the effect of a failure to comply with its requirements; nor does it directly state that consideration of the listed Reform Act sections is precluded in cases where the seller fails so to comply. Second, the only legislative history specifically addressing this point suggests that section 546(c) should not prevent the noncomplying seller from contesting the trustee under other bankruptcy provisions. Third, the basic idea that seller reclamation rights outside of section 546(c)\'s coverage are therefore ineffective in bankruptcy leads to entirely ludicrous results if extended to any degree. For example, this reasoning could deny the recovery to sellers exercising a right of stoppage in transit or even asserting a perfected Article 9 security interest. Finally, the view severely undermines any coherent reading of the Bankruptcy Reform Act as a whole, for it would dictate that the trustee\'s right to invalidate certain statutory liens or to assume the status of an ideal lien creditor is no longer dependent upon whether the reclamation right falls within the purview of these bankruptcy provisions but now is solely determined by the parameters of section 546(c)." 54 Am.Bankr.L.J., at 265-66.

Based upon this analysis, the writers suggest that

". . . it is preferable to treat section 546(c) as providing the seller with a `non-exclusive safe harbor\' against a trustee proceeding under the Reform Act sections it lists. Thus, sellers complying with section 546(c) would be immune from attack under the listed sections, while those who did not comply would be free to defend themselves against the trustee on the merits as defined by the Reform Act section used by the trustee." Id., at 267.

A brief discussion of the background leading to the adoption of section 546(c) may be of aid in resolving this controversy. The common law recognized the right of a defrauded seller to rescind the contract of sale and to reclaim the goods sold. State law, however, differed as to what fact had to be established to give rise to this remedy. Compare Carson v. Milcrow Motor Sales, 303 Mich. 86, 89, 5 N.W.2d 665 (1942); John Heidsik Co. v. Rechter, 291 Mich. 708, 710, 289 N.W. 304 (1939); Illinois Leather Co. v. Flynn, 108 Mich. 91, 93, 65 N.W. 519 (1895); Zucker v. Karpeles, 88 Mich. 413, 434, 50 N.W. 373 (1891); with Elbro Knitting Mills v. Schwartz, 30 F.2d 10, 11 (6th Cir. 1929); Weidman v. Phillips, 159 Mich. 380, 386, 124 N.W. 40 (1909). To the extent that the state law recognized the remedy of reclamation on a given set of facts, the remedy was available as against a trustee in bankruptcy. See, e.g., Manly v. Ohio Shoe Co., 25 F.2d 384 (4th Cir. 1928); Jones v. H.M. Hobbie Grocery Co., 246 F. 431 (5th Cir. 1917); In re Bentzel, 161 F.Supp. 219 (D.Md.1958); In re Monson, 127 F.Supp. 625 (W.D.Ky.1955); In re Stridacchio, 107 F.Supp. 486 (D.N.J.1952); In re Tate-Jones & Co., 85 F.Supp. 971 (W.D.Pa.1949); In re Penn Table Co., 26 F.Supp. 887 (S.D.W.Va. 1939); In re Perelstine, 19 F.2d 408 (W.D. Pa.1927); In re Krauss Co., 2 F.2d 999 (W.D.Tenn.1924). For whatever reason, the lack of state law uniformity did not cause any significant difficulties when the debtor filed a petition in bankruptcy.

The American Law Institute and the National Conference of Commissioners on Uniform State Laws proposed the first Official Draft of the Uniform Commercial Code in 1952. The Uniform Commercial Code was first adopted in Pennsylvania in 1954 and has since been adopted by every state except Louisiana. The Uniform Commercial Code became effective in Michigan in 1964. P.A. 174 (1962). Section 2-702(2) of the Uniform Commercial Code (14 M.S.A. § 19.2702 M.C.L.A. § 440.2702) provides:

"Sec. 2-702. Seller\'s Remedies on Discovery of Buyer\'s Insolvency.

(1) Where the seller discovers the buyer to be insolvent he may refuse delivery except for cash including payment for all goods theretofore delivered and stop delivery under this Article (Section 2-705).

(2) Where the seller discovers that the buyer has received goods on credit while insolvent he may reclaim the goods upon demand made within ten days after the receipt, but if misrepresentation of solvency has been made to the particular seller in writing within three months before delivery the ten day limitation does not apply. Except as provided in this subsection the seller may not base a right to reclaim goods on the buyer\'s fraudulent or innocent misrepresentation of solvency or of intent to pay."

With the adoption of section 2-702 of the Uniform Commercial Code, relative stability was displaced by confusion and uncertainty. Attempts by sellers to reclaim goods from bankrupt estates was resisted by debtors in possession and trustees on various grounds. The areas of conflict have been summarized as follows:

"Trustees claimed that the right of reclamation was a statutory lien triggered by the debtor\'s insolvency and voidable by former section 67c(1)(A); that it was a priority in conflict with former section 64; or that it was subordinate to the rights of a judicial lien creditor under former section 70c." 4 Collier on Bankr. ¶ 546.04 (15th ed. 1980), at 546-9.

This conflict "produced a body of case law notable for its intricacy, its profession of doctrinal approaches, and its general incoherence." Mann & Phillips, supra, at 239.²

Section 546(c) was adopted in an attempt to resolve the problems created by section 2-702(2). The legislative history states that the purpose of section 546(c) is "to recognize, in part, the validity of section 2-702 of the Uniform Commercial Code which has generated much...