Marhoefer Packing Co., Inc., Matter of

• Decision Date: 21 January 1982
• Docket Number: No. 79-2025,79-2025
• Citation: 674 F.2d 1139
• Parties: 6 Collier Bankr.Cas.2d 11, 33 UCC Rep.Serv. 370 In the Matter of MARHOEFER PACKING COMPANY, INC., Bankrupt, Appeal of ROBERT REISER & COMPANY, INC., Creditor.
• Court: U.S. Court of Appeals — Seventh Circuit

Page 1139

674 F.2d 1139

6 Collier Bankr.Cas.2d 11, 33 UCC Rep.Serv. 370

In the Matter of MARHOEFER PACKING COMPANY, INC., Bankrupt Appeal of ROBERT REISER & COMPANY, INC., Creditor.

No. 79-2025.

United States Court of Appeals Seventh Circuit.

Submitted on Record and Briefs Jan. 21, 1982. ^*

Decided Feb. 18, 1982.

Thomas D. Titsworth, Indianapolis, Ind., for appellant.

Jon Abels, Indianapolis, Ind., for appellee.

Before PELL, SPRECHER and WOOD, Circuit Judges.

PELL, Circuit Judge.

This appeal involves a dispute between the trustee of the bankrupt Marhoefer Packing Company, Inc., ("Marhoefer") and Robert Reiser & Company, Inc., ("Reiser") over certain equipment held by Marhoefer at the time of bankruptcy. The issue presented is whether the written agreement between Marhoefer and Reiser covering the equipment is a true lease under which Reiser is entitled to reclaim its property from the bankrupt estate, or whether it is actually a lease intended as security in which case Reiser's failure to file a financing statement to perfect its interest renders it subordinate to the trustee.

I

In December of 1976, Marhoefer Packing Co., Inc., of Muncie, Indiana, entered into negotiations with Reiser, a Massachusetts based corporation engaged in the business of selling and leasing food processing equipment, for the acquisition of one or possibly two Vemag Model 3007-1 Continuous Sausage Stuffers. Reiser informed Marhoefer that the units could be acquired by outright purchase, conditional sale contract or lease. Marhoefer ultimately acquired two sausage stuffers from Reiser. It purchased one under a conditional sale contract. Pursuant to the contract, Reiser retained a security interest in the machine, which it subsequently perfected by filing a financing statement with the Indiana Secretary of State. Title to that stuffer is not here in dispute. The other stuffer was delivered to Marhoefer under a written "Lease Agreement."

The Lease Agreement provided for monthly payments of $665.00 over a term of 48 months. The last nine months payments, totaling $5,985.00, were payable upon execution of the lease. If at the end of the lease term the machine was to be returned, it was to be shipped prepaid to Boston or similar destination "in the same condition as when received, reasonable wear and tear resulting from proper use alone excepted, and fully crated." The remaining terms and conditions of the agreement were as follows:

1. Any State or local taxes and/or excises are for the account of the Buyer.

2. The equipment shall at all times be located at

Marhoefer Packing Co., Inc.

1500 North Elm & 13th Street

Muncie, Indiana

and shall not be removed from said location without the written consent of Robert Reiser & Co. The equipment can only be used in conjunction with the manufacture of meat or similar products unless written consent is given by Robert Reiser & Co.

3. The equipment will carry a ninety-day guarantee for workmanship and materials and shall be maintained and operated safely and carefully in conformity with the instructions issued by our operators and the maintenance manual. Service and repairs of the equipment after the ninety-day period will be subject to a reasonable and fair charge.

4. If, after due warning, our maintenance instructions should be violated repeatedly, Robert Reiser & Co. will have the right to cancel the lease contract on seven days notice and remove the said equipment. In that case, lease fees would be refunded pro rata.

5. It is mutually agreed that in case of lessee, Marhoefer Packing Co., Inc., violating any of the above conditions, or shall default in the payment of any lease charge hereunder, or shall become bankrupt, make or execute any assignment or become party to any instrument or proceedings for the benefit of its creditors, Robert Reiser & Co. shall have the right at any time without trespass, to enter upon the premises and remove the aforesaid equipment, and if removed, lessee agrees to pay Robert Reiser & Co. the total lease fees, including all installments due or to become due for the full unexpired term of this lease agreement and including the cost for removal of the equipment and counsel fees incurred in collecting sums due hereunder.

6. It is agreed that the equipment shall remain personal property of Robert Reiser & Co. and retain its character as such no matter in what manner affixed or attached to the premises.

In a letter accompanying the lease, Reiser added two option provisions to the agreement. The first provided that at the end of the four-year term, Marhoefer could purchase the stuffer for $9,968.00. In the alternative, it could elect to renew the lease for an additional four years at an annual rate of $2,990.00, payable in advance. At the conclusion of the second four-year term, Marhoefer would be allowed to purchase the stuffer for one dollar.

Marhoefer never exercised either option. Approximately one year after the Vemag stuffer was delivered to its plant, it ceased all payments under the lease and shortly thereafter filed a voluntary petition in bankruptcy. On July 12, 1978, the trustee of the bankrupt corporation applied to the bankruptcy court for leave to sell the stuffer free and clear of all liens on the ground that the "Lease Agreement" was in fact a lease intended as security within the meaning of the Uniform Commercial Code ("Code") and that Reiser's failure to perfect its interest as required by Article 9 of the Code rendered it subordinate to that of the trustee. Reiser responded with an answer and counterclaim in which it alleged that the agreement was in fact a true lease, Marhoefer was in default under the lease, and its equipment should therefore be returned.

Following a trial on this issue, the bankruptcy court concluded that the agreement between Marhoefer and Reiser was in fact a true lease and ordered the trustee to return the Vemag stuffer to Reiser. The trustee appealed to the district court, which reversed on the ground that the bankruptcy court had erred as a matter of law in finding the agreement to be a true lease. We now reverse the judgment of the district court.

II

The dispute in this case centers on section 1-201(37) of the Uniform Commercial Code, I.C. 26-1-1-201. ¹ In applying this section, the bankruptcy court concluded that "the presence of the option to renew the lease for an additional four years and to acquire the Vemag Stuffer at the conclusion of the second four-year term by the payment of One Dollar ($1.00) did not, in and of itself, make the lease one intended for security."

The district court disagreed. It held that the presence of an option to purchase the stuffer for one dollar gave rise to a conclusive presumption under clause (b) of section 1-201(37) that the lease was intended as security. Although it acknowledged that the option to purchase the stuffer for only one dollar would not have come into play unless Marhoefer chose to renew the lease for an additional four-year term, the district court concluded that this fact did not require a different result. "It would be anomalous," said the court, "to rule that the lease was a genuine lease for four years after its creation but was one intended for security eight years after its creation."

Reiser, relying on Peter F. Coogan's detailed analysis of section 1-201(37), Coogan, Hogan & Vagts, Secured Transactions Under the Uniform Commercial Code, ch. 4A, (1981) (hereinafter "Secured Transactions Under U.C.C."), argues that the district court erred in construing clause (b) of that section as creating a conclusive presumption that a lease is intended as security where the lease contains an option for the lessee to become the owner of the leased property for no additional consideration or for only nominal consideration. It contends that by interpreting clause (b) in this way, the district court totally ignored the first part of that sentence which states that "(w)hether a lease is intended as security is to be determined by the facts of each case." Reiser claims that because the totality of facts surrounding the transaction indicate that the lease was not intended as security, notwithstanding the presence of the option to purchase the stuffer for one dollar, the district court erred in reversing the bankruptcy court's determination.

We agree that the district court erred in concluding that because the Lease Agreement contained an option for Marhoefer to purchase the Vemag stuffer at the end of a second four-year term, it was conclusively presumed to be a lease intended as security. However, in our view, the district court's error lies not in its reading of clause (b) of section 1-201(37) as giving rise to such a presumption, ² but rather in its conclusion that clause (b) applies under the facts of this case.

The primary issue to be decided in determining whether a lease is "intended as security" is whether it is in effect a conditional sale in which the "lessor" retains an interest in the "leased" goods as security for the purchase price. 1C Secured Transactions Under U.C.C. § 29A.05(1)(C), p. 2939. By defining the term "security interest" to include a lease intended as security, the drafters of the Code intended such disguised security interests to be governed by the same rules that apply to other security interests. See U.C.C., Art. 9. In this respect, section 1-201(37) represents the drafter's refusal to recognize form over substance.

Clearly, where a lease is structured so that the lessee is contractually bound to pay rent over a set period of time at the conclusion of which he automatically or for only nominal consideration becomes the owner of the leased goods, the transaction is in substance a conditional sale and should be treated as such. It is to this type of lease that clause (b) properly applies. Here, however, Marhoefer was under no contractual obligation to pay rent until such time as the option to purchase the Vemag stuffer for one dollar...