Matter of Gary Aircraft Corp., 681 F.2d 365 (5th Cir.1982)

WISDOM, Circuit Judge:

[A lengthy and informative discussion in which the court concludes that perfection of a security interest in an airplane must be done pursuant to the Federal Aviation Act but that state law governs priority is omitted.]

III.

Under the Uniform Commercial Code, enacted as the Texas Business and Commerce Code, a buyer in the ordinary course of business is one who, in good faith and without knowledge that the sale to him is in violation of the ownership rights or security interest of a third party, buys from a person in the business of selling goods of that kind. Tex.Bus. & Com.Code Ann. s 1.201(9) (Vernon Supp.1982). Such a buyer takes free of a security interest created by his seller, even if that interest is perfected and even if the buyer knows of its existence. Id., s 9.307(a).

Since Gary claims its title through Stewart, it cannot hold the aircraft and the *373 proceeds free of General Dynamics's lien unless Stewart held the aircraft free of the lien, as a buyer in the ordinary course of business under section 9.307(a). General Dynamics offers three arguments that it contends require reversal of the holding that Stewart qualified as a buyer in the ordinary course of business.

First, General Dynamics contends that the bankruptcy court misapplied the burden of proof. The burden on this issue does rest with the party claiming the status of a buyer in the ordinary course of business, as General Dynamics urges. See International Harvester Co. v. Glendenning, Tex.Civ.App.-Dallas 1974, 505 S.W.2d 320, 324. Nonetheless, General Dynamics cannot prevail on this argument, for we agree with the district court that an examination of the entire opinion of the bankruptcy court shows that it did not misapply the burden of proof.[Footnote omitted.] General Dynamics's contention to the contrary relies exclusively on one sentence in the opinion of the bankruptcy court: "The preponderance of the evidence simply does not establish or show that Stewart had any knowledge of any default by Ayer on his obligation to General Dynamics at the time he purchased these airplanes." Taken out of context, the sentence could be read as an allocation of the burden of proof, and such an allocation would be improper. But the sentence can just as easily be read as a description of the evidence.[Footnote omitted.] The sentence is at most ambiguous, and there is no other indication anywhere in the opinion that the bankruptcy judge misapplied the burden of proof. Consequently, we conclude that the bankruptcy judge placed the burden where it belonged-on Gary.

Second, General Dynamics contends that, even if the bankruptcy judge acted properly in his assignment of the burden of proof, the holding must be reversed because the bankruptcy court considered Stewart's knowledge on December 22, 1971 and January 4, 1972, the dates of purchase, rather than on August 3, 1972, the date of recordation. The district court found some merit in General Dynamics's argument that Stewart's knowledge was to be evaluated as of August 3 but declined to choose between the dates of purchase and the date of recordation, holding that use of the date of purchase would be harmless error because Stewart did not know of the default by Ayer even on August 3. General Dynamics argues to us that the district court's disposition of this issue was improper because August 3 was the relevant time, but the bankruptcy court had made no finding on the state of Stewart's knowledge in August. We disagree with General Dynamics on both grounds.

We conclude that the dates of purchase were the relevant dates. The rule of s 9.307(a) is designed to protect the innocent buyer against prior security interests in retail goods because he cannot be expected to discover those interests, while the secured party may generally be assumed to have authorized the sale of inventory by a retailer. See generally, e.g., J. White & R. Summers, Uniform Commercial Code s 25-14 at 1070 (2d ed. 1980). But this "protection" leaves the buyer vulnerable if he cannot be certain of it until he records. Were that the rule, a buyer who discovered a violated security agreement after purchasing but before recording could have given consideration, in good faith and without knowledge, and taken possession of the goods but he would take a position subordinate to that of the secured lender. Measuring knowledge at the time of sale or earlier, however, prevents any gap in protection, for a potential buyer who discovers a violated security interest at the time of purchase can always decide not to buy.[FN13]

FN13. We find additional support for our conclusion that the dates of purchase are the relevant dates in the limited nature of the current controversy over when the protection of the buyer in the ordinary course attaches. Although there is some debate as to whether one who qualifies as a buyer in the ordinary course prevails over the secured lender if the lender attempts to foreclose before the buyer takes possession of the goods, no one seems to question that, from the time of delivery, the buyer prevails. See T. Quinn, UCC Commentary and Law Digest P 3- 307(A)(8) (1978); Note, When Does a Buyer Become a Buyer in Ordinary Course? UCC ss 1-201(9), 9-307(1): A Test and a Proposal, 60 Neb.L.Rev. 848, 875 (1981); compare, e.g., Jones v. One Fifty Foot Gulfstar Motor Sailing Yacht, 5 Cir. 1980, 625 F.2d 44, 47 n.4 (dictum) (the date of contract marks the beginning of protection, at least where the buyer has made partial payment) with Martin Marietta Corp. v. New Jersey Nat'l Bank, 3 Cir. 1979, 612 F.2d 745, 749 (assuming, without deciding, that the date of identification of the goods to the contract marks the beginning of protection) and with Chrysler Corp. v. Adamatic, Inc., 1973, 59 Wis.2d 219, 208 N.W.2d 97, 106-07 (the passage of title marks the beginning of protection). Although one might argue that the buyer's qualification should be determined as of a date earlier than that on which the protection takes effect, surely the qualification should not be determined as of a later date.

General Dynamics cites no authority for its view that knowledge must be determined as of the date of recordation. It seems to rely entirely on 49 U.S.C. s 1403(c), which provides that no conveyance shall be valid as against third parties until recorded. Thus, according to General Dynamics, it could not lose its rights by operation of section 9.307(a) until Stewart recorded the conveyance, and Stewart would have to be without knowledge at the moment when General Dynamics would lose its rights if he is to take under section 9.307(a). To the extent that this argument reiterates the preemption argument, we have rejected it in Part II. The validity of General Dynamics's interest is governed by state law, which as our discussion in text shows, subordinates General Dynamics to a buyer in the ordinary course as of the date of purchase. Of course section 1403(c) does not affirmatively grant interests to third parties simply on the basis of the failure of the parties to the conveyance to record, and General Dynamics has no other claim arising after the failure to record; it did not in any way deal in reliance on recorded title. See Peters v. Norris, Tex.Civ.App.-Houston 1966, 402 S.W.2d 216, 219-20.

In the alternative, we conclude that the bankruptcy judge did find that in August Stewart was without knowledge of any violation of the security agreement between Ayer and General Dynamics. His opinion stated that Stewart was unaware of the lien until after the time of purchase, "and even then the mortgage appeared to authorize Ayer to sell free of any lien .... Stewart became and remained a buyer in ordinary course of business." Bankruptcy Court Op. at 6 (emphasis added).

Third, General Dynamics challenges the correctness of the holding that Stewart bought in good faith and without knowledge that the sale to him was in violation of the rights of General Dynamics.[Footnote omitted.] Our holding above was based on alternative grounds-that the dates of purchase are the dates on which Stewart's knowledge is relevant and that the bankruptcy court found that Stewart acted in good faith and had no knowledge on the date of recordation. In keeping with that alternative holding, we will consider Stewart's knowledge and good faith on both dates, although General Dynamics's argument deals mainly with the date of recordation.

The holding that Stewart had no knowledge that the sale violated the security agreement between Ayer and General Dynamics is not clearly erroneous. There is nothing in the record to show any knowledge on the dates of purchase, for the results of the title search did not arrive until January 5, 1972, the day after the second purchase. Once those results arrived, there is nothing to indicate that Stewart saw the security agreement before August 3, 1972, and, even if he did, that agreement appeared to authorize the sale. The record supports the conclusion that Stewart first learned of the default by Ayer from General Dynamics's letter of May 28, 1976. We cannot re-evaluate Stewart's credibility in denying knowledge; that was a question for the trial judge. [Footnote omitted.]

General Dynamics also contends that Stewart did not act in good faith, suggesting that he knowingly bought the planes for less than their value and that, though he was experienced in the sale of aircraft, did not undertake a title search before purchasing.[FN16] To show that Stewart purchased below market value, General Dynamics relies on the gain on the later sale of one of the planes and on the use of a higher value in the 1975 mortgage agreement between Gary and its bank. Stewart apparently made no profit on the sale of the group of planes, and, indeed, his profit on a sale four years down the line is but weak evidence that he originally paid less than fair value for the planes and even weaker evidence that he was aware that this was a bargain too good to be true. Similarly, the use of a higher value in a mortgage agreement consummated three years later is weak evidence of the 1972 market value.

FN16. General Dynamics also notes a number of other facts that it views as evidence of Stewart's bad faith: (1) Stewart purchased the planes in his individual capacity, (2) he waited seven months to record his title, (3) he gave two planes to Gary and sold another one to Gary at a large gain, (4) in August 1976, Stewart and Gary obtained an indemnification agreement from Ayer, and (5) Gary's files contained a rough draft of a letter, never sent, that misrepresented the date on which Gary learned of the lien. The first three facts are obviously completely irrelevant to the question of Stewart's good faith. The indemnification agreement, obtained some four and a half years after the purchase, shows little about Stewart's good faith on that date or on the date of recordation; if anything, it tends to establish that he acted in good faith because he saw no need for such an agreement at those times. Finally, we are unmoved by General Dynamics's arguments that the rough draft of the letter establishes bad faith. First, the letter was clearly labelled a draft and was never sent, so, at most, it could establish that Stewart thought about acting in bad faith and decided not to do so. Second, the letter was drafted in 1976, long after Stewart's good or bad faith ceased to be relevant. Third, examination of the letter indicates that the author was uncertain of the date of the discovery of the liens, placed it shortly after Gary's sale of one of the planes and only later filled in that date, suggesting that there was no purposeful misrepresentation of the date of the discovery. Finally, the record does not establish that Stewart drafted the letter, and he denied having done so.

Stewart's failure to undertake a title search presents a question only slightly more troublesome. The Texas courts have repeatedly stated that the test of good faith is not negligence or diligence and that it is immaterial that the buyer was aware of facts that would put a reasonably prudent person on inquiry. To lose his status as a buyer in the ordinary course, the buyer must have actual knowledge of facts or circumstances that amount to bad faith. [Citations omitted.] Thus, although a reasonably prudent person with Stewart's experience might have conducted a title search with the FAA before purchasing, Stewart's failure to do so does not, without more, establish that he acted in bad faith. [Citations omitted.] Nor did Stewart have actual knowledge of any circumstances that would put him in bad faith. We decline to overrule the holding that Stewart acted in good faith.[FN17]

FN17. General Dynamics contends that the bankruptcy court and the district court failed to recognize the cases upon which it relies in its argument that Stewart acted in bad faith. We have considered those cases, and our conclusion is unchanged. The only Texas case cited, International Harvester Co. v. Glendenning, Tex.Civ.App.-Dallas 1974, 505 S.W.2d 320, is easily distinguishable. The buyer in that case acquiesced in the falsification of the sale documents to show that he had traded in used tractors in his purchase of a new one, when in fact he had not, and he repeated the misrepresentation to his seller's creditor. There was no such dishonesty here. The cases from other jurisdictions are similarly distinguishable. In Taylor Motor Rental, Inc. v. Associates Discount Corp., 1961, 196 Pa.Super. 182, 173 A.2d 688, the party seeking to qualify as a buyer in the ordinary course was merely an alter-ego of the seller, and the transaction had been undertaken in an attempt to avoid the creditor's security interest. The opinion in Rex Financial Corp. v. Marshall, N.D.Ark.1976, 406 F.Supp. 567, is not clear, but apparently the buyer was informed of the secured creditor's interest before the purchase, id. at 573, and the court held that Arkansas law, unlike Texas law, provided for constructive notice, id. at 577. Finally, in Cosid, Inc. v. Bay Steel Products Co., Fla.App.1971, 252 So.2d 274, the court merely overturned summary judgment for the buyer where he was aware of suspicious circumstances, remanding to allow the fact-finder to determine whether the buyer acted in good faith.

IV.

General Dynamics next argues that, even if Stewart qualifies as a buyer in the ordinary course of business, Gary cannot take good title for one of two reasons-first, the security interest was not created by Gary's seller and, second, Gary gave no consideration for the planes. Neither argument has merit.

The first argument is based on the limitation in section 9.307(a): a buyer in the ordinary course of business takes free of a security interest only if it was created by his seller. See, e.g., National Shawmut Bank v. Jones, 1967, 108 N.H. 386, 236 A.2d 484 General Dynamics, noting that the security interest it asserts was not created by Stewart (Gary's seller) but by Ayer, contends that Gary cannot be protected against that interest. This argument misses the mark, for Gary does not claim under section 9.307(a). On the contrary, its position is that Stewart took good title under section 9.307(a), and Gary, as Stewart's transferee, took whatever title Stewart had, under section 2.403(a), the "shelter" provision. It is therefore of no consequence that Gary's seller did not create the security interest. General Dynamics attempts to rebut this reasoning by relying on language in National Shawmut Bank stating that section 2-403 of the Uniform Commercial Code cannot provide an escape from the limitations of section 9-307. In National Shawmut Bank an individual sold a car, subject to a security interest, to a dealer, who then sold it to a buyer in the ordinary course of business. Since the security interest was not created by his seller, the last buyer in the chain could not take free and clear of the interest under section 9-307 of the UCC. Section 2.403(a) provides that a purchaser of goods acquires all title that his transferor had or had power to transfer, and that a seller with voidable title can transfer good title. If, under that provision, a retailer who bought subject to a security interest was one with voidable title and had the power to transfer good title, the "created by his seller" limitation of section 9.307(a) would be without any effect, so the National Shawmut Bank court held that section 2.403(a) does not provide an escape to section 9.307(a). That rule has been approved by the commentators, see J. White & R. Summers, Uniform Commercial Code s 25-15 (2d ed. 1980), and we do not question it. But the rule is that section 2.403(a) is not available to save one who buys when the seller's title is subject to a security interest but who does not qualify under section 9.307(a). It certainly does not mean that section 2.403(a) is not available to subsequent transferees from a successful section 9.307(a) buyer, as General Dynamics urges. See Skilton, Buyer in the Ordinary Course of Business under Article 9 of the Uniform Commercial Code, 1974 Wis.L.Rev. 1, 76 (viewing the point as "obvious"). If General Dynamics were correct, section 9.307(a) would be of scant benefit to the "protected" buyer in the ordinary course, for good title means little if one cannot transfer it. We hold that the lien of General Dynamics was extinguished upon the sale by Ayer to Stewart under section 9.307(a), and the subsequent sale to Gary could not resurrect it.

Finally, General Dynamics contends that Gary cannot take good title under section 2.403(a) because it furnished no consideration, receiving the aircraft as a gift.[FN18] We disagree. Section 2.403(a) applies to a "purchaser" of goods, and section 1.201 defines a "purchaser" as one who takes by "sale, discount, negotiation, mortgage, pledge, lien, issue or reissue, gift or any other voluntary transaction". ss 1.201(32), (33) (emphasis added).[FN19] The language could not be clearer. When the draftsmen of the Code wished to require consideration, they used the terms "buyer", "seller", and "sale", defined in sections 2.106(a) and 2.103(a)(1) to require consideration, instead of "purchaser", "transferor", and "purchase". See, e.g., ss 2.313, 2.314, 2.315. We cannot imagine applying any rule other than that a donee takes the title that his donor had.[FN20]

FN18. It is not clear how this argument would help General Dynamics if we accepted it. As we have already established, the sale to Stewart extinguished General Dynamics's lien. Even if Gary took less than good title from Stewart, we do not see how that would resurrect an extinguished lien; it would mean that Stewart retained some interest.

FN19. Although chapter 2 is entitled "Sales", s 2.101, it expressly regulates purchasers in section 2.403, and adopts the general definition of "purchaser" from chapter 1, see s 2.103(d). Furthermore, under section 2.102, the scope of chapter 2 is defined as "transactions in goods", with no requirement of consideration. See generally J. White & R. Summers, Uniform Commercial Code s 1-1 at 22 (2d ed. 1980) (differentiating between "transactions in goods" and "sales"); T. Quinn, Uniform Commercial Code Commentary and Law Digest P 2.102(A) (1978).

FN20. The cases cited by General Dynamics as requiring a "sale" to invoke the coverage of chapter 2 deal with the warranty provisions of the Code. [Citations omitted.] Since those provisions expressly require a sale, the cases are not instructive on the need for consideration under section 2.403, which does not require a sale.

V.

We hold that the FAA does not preempt the provisions of the Texas Business and Commerce Code relating to the priority of interests in aircraft. Therefore, Stewart, as a buyer in the ordinary course of business, took the aircraft free and clear of the lien of General Dynamics. And Gary, as the transferee of Stewart, also took free and clear of the lien. Consequently, Gary is entitled to the possession of the remaining airplane and the proceeds of the airplane that was sold. The case is AFFIRMED.