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Kunkel v. Sprague National Bank

United States Court of Appeals, Eighth Circuit
128 F.3d 636 (1997)
ELI5:

Rule of Law:

For a purchase money security interest (PMSI) in inventory to gain superpriority, the statutory notification to a prior perfected creditor is timely if received before the debtor obtains actual, physical possession of the collateral; constructive possession is insufficient to trigger the notification deadline.


Facts:

  • Sprague National Bank made loans to John and Dorothy Morken, taking and perfecting a security interest in the Morkens' current and after-acquired farm products, including cattle.
  • Subsequently, John Morken entered into five transactions with Hoxie Feeders, Inc. to purchase interests in approximately 1900 head of cattle.
  • Hoxie financed Morken's purchases and Morken granted Hoxie a purchase money security interest (PMSI) in the cattle.
  • Hoxie perfected its PMSI by maintaining continuous physical possession of the cattle at its feedlot pursuant to feedlot agreements.
  • The feedlot agreements identified Morken as the owner of the cattle, and Morken bore the risk of profit or loss and determined the price and time of their ultimate sale.
  • Morken never obtained actual, physical possession of the cattle, which remained at Hoxie's feedlot until they were sold for slaughter.

Procedural Posture:

  • John and Dorothy Morken filed for Chapter 11 bankruptcy.
  • The bankruptcy trustee initiated an adversary proceeding in the U.S. Bankruptcy Court to determine which creditor, Sprague or Hoxie, had priority to the proceeds from the sale of cattle.
  • Hoxie and Sprague filed cross-motions for summary judgment in the bankruptcy court.
  • The bankruptcy court granted summary judgment for Hoxie, ruling its PMSI had superpriority.
  • Sprague, as appellant, appealed the bankruptcy court's decision to the U.S. District Court for the District of Minnesota.
  • The District Court affirmed the judgment for Hoxie, appellee, on different grounds and also held in the alternative that Sprague's security interest never attached.
  • Sprague, as appellant, appealed the District Court's decision to the U.S. Court of Appeals for the Eighth Circuit.

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Issue:

Does a purchase money security interest (PMSI) in inventory, perfected by the creditor's continued possession, have priority over a conflicting, previously perfected security interest when the PMSI creditor provides the required statutory notification after the debtor constructively possesses the inventory but before the debtor ever takes actual physical possession?


Opinions:

Majority - Judge John R. Gibson

Yes. A PMSI in inventory perfected by possession has priority over a conflicting, previously perfected security interest if the PMSI creditor gives the required statutory notice before the debtor receives actual physical possession of the inventory. First, the court reversed the district court's alternative holding, finding that Morken had sufficient 'rights in the collateral' for Sprague's security interest to attach. Through the sale and feedlot agreements, Morken acquired title and ownership interests via constructive delivery, even without physical possession. Second, the court held that a creditor who perfects a PMSI by possession is eligible for superpriority under UCC § 9-312(3), as the statute does not exclude this method of perfection. Third, the court interpreted the phrase 'receives possession' within the statute's notification requirement to mean actual physical possession, not constructive possession. Citing the work of UCC Article 9's primary drafter, Grant Gilmore, the court reasoned that the notification deadline is triggered only when goods are physically delivered to the debtor. Because Morken never received actual possession of the cattle, Hoxie's notification to Sprague was timely, securing its superpriority status. Finally, the court held that Hoxie's superpriority extended to the cash proceeds from the cattle sale, as the sale was a 'cash sale' under the Packers and Stockyards Act and the payment was received 'reasonably contemporaneously' with delivery.



Analysis:

This decision clarifies the scope of the UCC's PMSI superpriority rules, particularly in the uncommon scenario where inventory is possessed by the creditor rather than the debtor. By defining 'possession' for notification purposes as actual physical possession, the court creates a bright-line rule that protects PMSI financers who retain control of the collateral. The ruling also reinforces the principle that a debtor can acquire sufficient 'rights in the collateral' for a security interest to attach through constructive possession, thereby allowing a prior creditor's after-acquired property clause to become effective even if the debtor never physically touches the new assets. This interpretation balances the interests of new money financers against those of existing creditors with floating liens.

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