Assignments: Paying Agent Not Liable to Assignee

To support this theory, Nationwide sought to introduce the report and testimony of Robert Zadek, an expert on the Uniform Commercial Code. Cass filed a motion to strike Zadek's report and testimony, arguing the report was inadmissible legal opinion. The district court struck the portions of the report that discussed the law and its application but not the sections that discussed industry conditions and standards. This ruling was affirmed.

Nationwide also sought to put David Carney, Nationwide's credit administrator and co-owner, on the stand to testify regarding how the UCC is applied in the factoring industry. Cass again filed a motion to limit Carney's testimony on similar grounds. This ruling too was affirmed.

No one disputed the fact that the shippers were the account debtors, as defined in UCC '9102(a)(3), and that Cass was not an account debtor. The issue in this case was whether '9406 imposed legal obligations on the payment agent of the account debtor. The court held that it did not.

Nationwide made two arguments that '9406 was applicable to Cass: 1) under general principles of agency law, and 2) as a matter of industry conditions, standards, and practices.

General Principles of Agency Law

The court first examined '9406 and noted that nothing in the plain language of the statute, nor any judicial decisions, supported Nationwide's theory that a payment agent of the account debtor has the same obligations to make payments as the account debtor. The court pointed to other sections of the Uniform Commercial Code which expressly impose duties on agents (e.g., '8407) and concluded that '9406 was not intended to extend the duties of the account debtor to the account debtor's agents.

The court then turned to general principles of agency law, as enunciated in the Restatement (Third) of Agency. First, Nationwide pointed to the general rule that an agent is subject to liability to a third party harmed by the agent's tortious conduct. The court rejected this argument. An agent can be held liable for its own torts where the agent's conduct is independently wrongful; however, this begs the question as to whether Cass' conduct was independently wrongful. Nationwide hadn't proven that Cass had engaged in wrongful conduct. The Restatement does not set forth a rule that a principal's duties are imputed to its agent, such that an agent can be held liable if its acts violate a statute that only a principal is obligated to follow. Second, Nationwide pointed to the general principle of agency law that a principal may be bound by the actions of its agent toward a third party. But this argument was unavailing as well because here Cass was the agent, not the principal. The shippers may be bound by Cass' actions, but this does not mean that Cass has the statutory obligations of the shippers.

Industry Conditions, Standards, and Practices

The court then considered whether Cass' conduct did not comport with industry conditions, standards, and practices. Nationwide argued that Article 9 establishes “the rules of the game” for factoring transactions; Cass' insistence on obtaining a hold harmless agreement as a condition of paying its factors was improper conduct because it violated “the rules of the game.” The court rejected this argument on the basis that Nationwide failed to introduce any evidence in support. In fact, one of Nationwide's witnesses conceded that he was aware that many other factors had signed hold harmless agreements with Cass.

So in the face of the court's holding, are factors such as Nationwide out of luck if the account debtor's payment agent fails to pay the invoice? No, since the factor may still bring a legal action against the shipper (the account debtor). And if the payment agent's failure to pay the factor breached the payment agent's contract with the shipper, the shipper can also bring a legal action against the payment agent for breach of contract. As the court concluded, even though '9406 does not impose any obligations on the payment agent, neither the factor nor the shipper is without recourse if the payment agent fails in its duties.

The Dissent

Judge John T. Noonan, Jr. issued an interesting dissent. As he succinctly put it:

The majority says that there is no principle of agency that required the paying agent to pay. The principle is that an agent to make a payment is bound by its acceptance of the agency. If the obligation of the principal to pay is absolute under an applicable statute, as it was here, the agent has an absolute duty to make the payment. For the agent to hold up payment in order to obtain a benefit for itself is improper and, when it results in injury to the payee, is an actionable interference with a business relationship between the payee and its clients. 2008 U.S. App. LEXIS 9176 [*37]

The dissenting judge then described the context of the case: The economy of the United States runs on credit; factoring is a critical component. Nationwide is a factor, advancing cash to carriers, who are typically small trucking companies. Cass is a large company that processes more than 25 million freight invoices per year. When Cass stopped paying invoices assigned to Nationwide, the impact on Nationwide was “profound.” There was evidence that Cass was trying to compete with Nationwide.

To determine whether Cass acted improperly, the real question, according to the Restatement (Second) of Torts, is whether Cass' conduct was fair and reasonable under the circumstances. Did Cass abide by “the rules of the game”? According to the dissent, the jury could have found that it had not:

Properly instructed, the jury could have found that the shipper clients of Cass had an absolute duty under the U.C.C. to pay the carriers which shipped their goods; that Nationwide had been assigned all the rights of such carriers; that Cass had no right to demand a payment or any agreement as a condition for discharging a debt it was being paid to discharge and had agreed to discharge; and that Cass had acted unjustifiably to injure Nationwide as its competitor. 2008 U.S. App. LEXIS 9176 [*48]

As the dissent points out, Cass does not step into the shipper's shoes in the sense that it must make payment if the shipper defaults; Cass is in the shipper's shoes in the sense that it cannot insert conditions of its own before making payment.

The dissent warns that the majority position may put a severe crimp in the credit functioning of factors. It remains to be seen if this prediction comes true.

Barry A. Graynor, a member of this newsletter's Board of Editors, is a special counsel in the San Francisco office of Cooley Godward Kronish LLP. He specializes in credit finance and equipment leasing, in particular shipping containers and other transportation equipment. He may be reached at 415-693-2136 or [email protected]. The material contained in this article does not create an attorney/client relationship and is not intended to be relied upon. The reader should consult with counsel as to how best to proceed in the reader's particular circumstances.

Section 9406(a) of the Uniform Commercial Code provides that once an account debtor receives notification that the account has been assigned, the account debtor may discharge its obligation by paying the assignee and may not discharge the obligation by paying the assignor. This statute is critical to receivables financing, including factoring. In a recent opinion by the U.S. Court of Appeals for the Ninth Circuit, the court held that the account debtor's payment obligations do not extend to its agent. Nationwide Transport Finance v. Cass Information Systems, Inc. , 523 F.3d 1051, 65 UCC Rep.2d 709, 2008 U.S. App. LEXIS 9176 (9th Cir. 2008).

Nationwide is a finance company that purchases freight invoices from carriers or truckers who assign their payments under those invoices directly to Nationwide, a typical factoring arrangement. The account debtors are shippers or manufacturers who utilize the carriers to transport their goods across the country. The shippers contract with Cass Information Systems to handle the processing and payment of their freight invoices. The shipper pays Cass the funds needed to pay the invoices, and Cass, in turn, forwards these funds to Nationwide. The business relationship between Nationwide and Cass worked well for more than 17 years until one day Cass erroneously misdirected a payment to a carrier. Although Nationwide eventually got paid, Cass asserted its rights under a hold harmless agreement. This induced Nationwide to terminate the agreement. As a result, Cass refused to pay any future invoices to Nationwide.

Nationwide filed an action in the U.S. District Court for the District of Nevada alleging various Nevada state law causes of action, including intentional interference with contractual relationship and intentional interference with prospective economic advantage, based on the theory that Cass was motivated by an intent to get Nationwide's customers to use Cass' expedited payment service, which Nationwide alleged was a competitor. One of the elements of the tort claims was that Cass' conduct was “improper.” Conduct specifically in violation of statutory provisions or contrary to established public policy may make interference improper. Accordingly, Nationwide set out to prove that Cass' conduct was improper because it violated or was contrary to Nevada Uniform Commercial Code '9406.

To support this theory, Nationwide sought to introduce the report and testimony of Robert Zadek, an expert on the Uniform Commercial Code. Cass filed a motion to strike Zadek's report and testimony, arguing the report was inadmissible legal opinion. The district court struck the portions of the report that discussed the law and its application but not the sections that discussed industry conditions and standards. This ruling was affirmed.

Nationwide also sought to put David Carney, Nationwide's credit administrator and co-owner, on the stand to testify regarding how the UCC is applied in the factoring industry. Cass again filed a motion to limit Carney's testimony on similar grounds. This ruling too was affirmed.

No one disputed the fact that the shippers were the account debtors, as defined in UCC '9102(a)(3), and that Cass was not an account debtor. The issue in this case was whether '9406 imposed legal obligations on the payment agent of the account debtor. The court held that it did not.

Nationwide made two arguments that '9406 was applicable to Cass: 1) under general principles of agency law, and 2) as a matter of industry conditions, standards, and practices.

General Principles of Agency Law

The court first examined '9406 and noted that nothing in the plain language of the statute, nor any judicial decisions, supported Nationwide's theory that a payment agent of the account debtor has the same obligations to make payments as the account debtor. The court pointed to other sections of the Uniform Commercial Code which expressly impose duties on agents (e.g., '8407) and concluded that '9406 was not intended to extend the duties of the account debtor to the account debtor's agents.

The court then turned to general principles of agency law, as enunciated in the Restatement (Third) of Agency. First, Nationwide pointed to the general rule that an agent is subject to liability to a third party harmed by the agent's tortious conduct. The court rejected this argument. An agent can be held liable for its own torts where the agent's conduct is independently wrongful; however, this begs the question as to whether Cass' conduct was independently wrongful. Nationwide hadn't proven that Cass had engaged in wrongful conduct. The Restatement does not set forth a rule that a principal's duties are imputed to its agent, such that an agent can be held liable if its acts violate a statute that only a principal is obligated to follow. Second, Nationwide pointed to the general principle of agency law that a principal may be bound by the actions of its agent toward a third party. But this argument was unavailing as well because here Cass was the agent, not the principal. The shippers may be bound by Cass' actions, but this does not mean that Cass has the statutory obligations of the shippers.

Industry Conditions, Standards, and Practices

The court then considered whether Cass' conduct did not comport with industry conditions, standards, and practices. Nationwide argued that Article 9 establishes “the rules of the game” for factoring transactions; Cass' insistence on obtaining a hold harmless agreement as a condition of paying its factors was improper conduct because it violated “the rules of the game.” The court rejected this argument on the basis that Nationwide failed to introduce any evidence in support. In fact, one of Nationwide's witnesses conceded that he was aware that many other factors had signed hold harmless agreements with Cass.

So in the face of the court's holding, are factors such as Nationwide out of luck if the account debtor's payment agent fails to pay the invoice? No, since the factor may still bring a legal action against the shipper (the account debtor). And if the payment agent's failure to pay the factor breached the payment agent's contract with the shipper, the shipper can also bring a legal action against the payment agent for breach of contract. As the court concluded, even though '9406 does not impose any obligations on the payment agent, neither the factor nor the shipper is without recourse if the payment agent fails in its duties.

The Dissent

Judge John T. Noonan, Jr. issued an interesting dissent. As he succinctly put it:

The majority says that there is no principle of agency that required the paying agent to pay. The principle is that an agent to make a payment is bound by its acceptance of the agency. If the obligation of the principal to pay is absolute under an applicable statute, as it was here, the agent has an absolute duty to make the payment. For the agent to hold up payment in order to obtain a benefit for itself is improper and, when it results in injury to the payee, is an actionable interference with a business relationship between the payee and its clients. 2008 U.S. App. LEXIS 9176 [*37]

The dissenting judge then described the context of the case: The economy of the United States runs on credit; factoring is a critical component. Nationwide is a factor, advancing cash to carriers, who are typically small trucking companies. Cass is a large company that processes more than 25 million freight invoices per year. When Cass stopped paying invoices assigned to Nationwide, the impact on Nationwide was “profound.” There was evidence that Cass was trying to compete with Nationwide.

To determine whether Cass acted improperly, the real question, according to the Restatement (Second) of Torts, is whether Cass' conduct was fair and reasonable under the circumstances. Did Cass abide by “the rules of the game”? According to the dissent, the jury could have found that it had not:

Properly instructed, the jury could have found that the shipper clients of Cass had an absolute duty under the U.C.C. to pay the carriers which shipped their goods; that Nationwide had been assigned all the rights of such carriers; that Cass had no right to demand a payment or any agreement as a condition for discharging a debt it was being paid to discharge and had agreed to discharge; and that Cass had acted unjustifiably to injure Nationwide as its competitor. 2008 U.S. App. LEXIS 9176 [*48]

As the dissent points out, Cass does not step into the shipper's shoes in the sense that it must make payment if the shipper defaults; Cass is in the shipper's shoes in the sense that it cannot insert conditions of its own before making payment.

The dissent warns that the majority position may put a severe crimp in the credit functioning of factors. It remains to be seen if this prediction comes true.

Barry A. Graynor, a member of this newsletter's Board of Editors, is a special counsel in the San Francisco office of Cooley Godward Kronish LLP. He specializes in credit finance and equipment leasing, in particular shipping containers and other transportation equipment. He may be reached at 415-693-2136 or [email protected]. The material contained in this article does not create an attorney/client relationship and is not intended to be relied upon. The reader should consult with counsel as to how best to proceed in the reader's particular circumstances.