Commerce Bank, N.A. v. Chrysler Realty Corp.

                            UNITED STATES COURT OF APPEALS
                                     TENTH CIRCUIT
                             Byron White United States Courthouse
                                      1823 Stout Street
                                   Denver, Colorado 80257
                                       (303) 844-3157
Patrick J. Fisher, Jr.                                                              Jane B. Howell
       Clerk                                                                      Chief Deputy Clerk

                                           April 9, 2001


        TO: ALL RECIPIENTS OF THE OPINION

        RE: 00-3000, Commerce Bank v. Chrysler Realty Corp., et al.
            __ F.3d __, 2001 WL 280479
            Filed on March 22, 2001

              On page two, the first sentence of the opinion is corrected to read as
        follows:

                Plaintiff-appellee Commerce Bank, N.A. (“Commerce”) brought this
                action seeking actual and punitive damages as well as an accounting
                for sums wrongfully paid to defendant Chrysler Realty Corporation
                (“Chrysler Realty”) by co-defendant DaimlerChrysler Corporation
                (“Chrysler Corporation”).

        A copy of the corrected opinion is attached.

                                                       Sincerely,
                                                       Patrick Fisher, Clerk of Court


                                                       By:
                                                             Keith Nelson
                                                             Deputy Clerk




        encl.
                                                                  F I L E D
                                                           United States Court of Appeals
                                                                   Tenth Circuit

                                                                  MAR 22 2001
                                   PUBLISH
                                                             PATRICK FISHER
                  UNITED STATES COURT OF APPEALS                       Clerk

                              TENTH CIRCUIT



 COMMERCE BANK, N.A.,

             Plaintiff-Appellee,

 v.                                                No. 00-3000

 CHRYSLER REALTY
 CORPORATION;
 DAIMLERCHRYSLER
 CORPORATION,

             Defendants-Appellants.


        APPEAL FROM THE UNITED STATES DISTRICT COURT
                 FOR THE DISTRICT OF KANSAS
                      (D.C. No. 99-CV-2017)


Submitted on the briefs:

James P. O’Hara and Andrew M. DeMarea of Shughart Thomson & Kilroy, P.C.,
Overland Park, Kansas, and William E. Quirk of Shughart, Thomson & Kilroy,
P.C., Kansas City, Missouri, for Plaintiff-Appellee.

James H. Geary and Janice M. Powell of Howard & Howard Attorneys, P.C.,
Peoria, Illinois, for Defendants-Appellants.


Before TACHA , Chief Judge, EBEL , and LUCERO , Circuit Judges.


LUCERO , Circuit Judge.
      Plaintiff-appellee Commerce Bank, N.A. (“Commerce”) brought this action

seeking actual and punitive damages as well as an accounting for sums wrongfully

paid to defendant Chrysler Realty Corporation (“Chrysler Realty”) by co-

defendant DaimlerChrysler Corporation (“Chrysler Corporation”).        1
                                                                           Defendants

appeal the district court’s order granting summary judgment in favor of

Commerce on Commerce’s claim for actual damages. Chrysler Realty

additionally appeals the district court’s order awarding Commerce $20,000 in

punitive damages. We reverse the order of summary judgment, vacate the award

of punitive damages and remand.

                                             I

      Most of the facts in this case were stipulated by the parties.       On September

5, 1991, Chrysler Corporation entered into a sales and service agreement (“the

Dealer Agreement”) with one of its retail dealers, Bierwirth Chrysler Plymouth,

Inc. (“Bierwirth”). Under the Dealer Agreement, Bierwirth could earn factory

receivables, which include payment for sales promotion incentives, warranty work

and returned parts, from Chrysler Corporation. The Dealer Agreement also



1
  After examining the briefs and appellate record, this panel has determined
unanimously that oral argument would not materially assist the determination
of this appeal. See Fed. R. App. P. 34(a)(2); 10th Cir. R. 34.1(G). The case
therefore is ordered submitted without oral argument.

                                            -2-
provided that Chrysler Corporation could offset any amount Bierwirth owed to

Chrysler Corporation or its affiliates against any amount due from Chrysler

Corporation or its affiliates to Bierwirth.

      On October 10, 1995, Chrysler Realty, an affiliate of Chrysler Corporation,

entered into a Dealer Lease Agreement, as landlord, with Bierwirth as tenant. As

part of the lease—and to secure its payment obligations under the lease’s

terms—Bierwirth assigned to Chrysler Realty any amounts due to Bierwirth from

Chrysler Corporation or its subsidiaries. The assignment stated that “[Bierwirth]

agrees that this right of assignment shall constitute a present security interest in

and to such accounts benefitting [Chrysler Realty] and the within agreements of

[Bierwirth] shall be a Security Agreement within the meaning of the Uniform

Commercial Code as applicable in the state where the premises are located.” (I

Appellants’ App. C at 3.) Notably, Chrysler Realty did not file a financing

statement to reflect the assignment.

      As part of a December 8, 1995 transaction in which Commerce supplied

inventory floor plan financing to Bierwirth, Bierwirth granted Commerce a

security interest in its inventory, all accounts receivable, contract rights and

general intangibles then existing or thereafter owing to Bierwirth. Bierwirth

executed and delivered to Commerce a security agreement. Commerce perfected

its security interest by filing the security agreement with the Kansas Secretary of


                                          -3-
State on December 22, 1995. On February 4, 1998, Bierwirth executed and

delivered to Commerce a second security agreement containing similar terms.

Commerce also filed this security agreement with the Kansas Secretary of State

on February 5, 1998, thereby perfecting its security interest.

      On January 14, 1998, Chrysler Realty sent Chrysler Corporation a written

notice of Bierwirth’s assignment of factory receivables. In this letter, Chrysler

Realty stated that Bierwirth’s rent was past due in the amount of $34,165.84 and

requested that factory receivables be paid to Chrysler Realty until further notice.

Bierwirth later sold its assets, and Chrysler Realty paid a contractor for repairs at

the dealership premises.

      The amount in controversy is $218,000, which is the sum of the values of

four checks that Chrysler Realty received from Chrysler Corporation after the

January 14, 1998 notice. The dates and amounts of these payments are as

follows:

             Date                                    Amount
             February 24, 1998                       $ 45,000
             March 24, 1998                          $ 50,000
             April 24, 1998                          $ 110,000
             May 15, 1998                            $ 13,000

             TOTAL:                                  $ 218,000

      On May 6, 1998, Thomas J. Noack, Deputy General Counsel of Commerce,

gave actual notice to Chrysler Corporation of Commerce’s perfected security


                                          -4-
interest in the factory receivables owed by Chrysler Corporation to Bierwirth.

Thus, three of the above-identified checks were sent to Chrysler Realty before

Chrysler Corporation was given actual notice of Commerce’s security interest.

The remaining May 15, 1998 check was sent to Chrysler Realty after actual notice

had been given.

      Commerce filed this action on January 15, 1999, claiming that Chrysler

Corporation and Chrysler Realty had converted the $218,000 paid to Chrysler

Realty. In addition to a money judgment for the $218,000, Commerce requested

punitive damages against the defendants.

      Evidence was presented that Chrysler Corporation paid Chrysler Realty

$2000 more than Chrysler Realty was entitled to claim from Bierwirth. Although

Commerce filed suit on January 15, 1999, Chrysler Realty did not notify Chrysler

Corporation, Bierwirth or Commerce of the surplus. The overpayment was not

disclosed until the deposition of Thomas H. Noles, Chrysler Realty’s Eastern Area

Manager, on May 17, 1999, five months after suit was filed. The district court

found that Chrysler Realty acted wantonly in retaining the $2000 surplus and that

Commerce was entitled to a punitive damage award equal to ten times the amount

withheld.




                                        -5-
                                             II

                                             A

         This Court reviews de novo the district court’s summary judgment order.

L&M Enters., Inc. v. BEI Sensors & Sys. Co.        , 231 F.3d 1284, 1287 (10th Cir.

2000). Summary judgment is appropriate “if the pleadings, depositions, answers

to interrogatories, and admissions on file, together with the affidavits, if any,

show that there is no genuine issue as to any material fact and that the moving

party is entitled to a judgment as a matter of law.” Fed. R. Civ. P. 56(c).

          “A federal court sitting in diversity applies the substantive law . . . of the

forum state.”    Signature Dev. Cos., Inc. v. Royal Ins. Co. of Am.   , 230 F.3d 1215,

1218 (10th Cir. 2000). We review the district court’s interpretation of Kansas

state law de novo.    Beck v. N. Natural Gas Co.    , 170 F.3d 1018, 1023 (10th Cir.

1999).

                                             B

         Defendants argue the district court’s judgment in favor of Commerce

worked to improperly relieve Commerce from the setoff provision of the Dealer

Agreement in contravention of Kan. Stat. Ann. § 84-9-318(1)(a). That statute

reads:

         (1) Unless an account debtor has made an enforceable agreement not
         to assert defenses or claims arising out of a sale as provided in
         section 84-9-206 the rights of an assignee are subject to


                                            -6-
      (a) all the terms of the contract between the account debtor and
      assignor and any defense or claim arising therefrom[.]


      Chrysler Corporation, which is obligated to pay the dealer receivables to

Bierwirth, is the “account debtor” within the meaning of this statute. Bierwirth,

having assigned its rights to these receivables to Commerce, is the “assignor” and

Commerce is the “assignee.” Defendants argue that under § 84-9-318(1)(a)

Commerce’s interest in the funds paid to Chrysler Realty is subject to a “claim or

defense.” Their asserted defense is the provision of the Dealer Agreement that

allows Chrysler Corporation to offset any amount Bierwirth owes to Chrysler

Corporation or its affiliates against any amount due from Chrysler Corporation or

its affiliates to Bierwirth. Commerce responds that under the statute, its rights are

subject only to the claims and defenses of Chrysler Corporation as account debtor,

not to any setoff based upon Chrysler Realty’s claim against Bierwirth.

      We have located no Kansas case precisely on point.   2
                                                               Because the Kansas

Supreme Court has not addressed the issue involved, we must predict how it

would decide the question.   Blackhawk-Cent. City Sanitation Dist. v. Am.

Guarantee & Liab. Ins. Co.   , 214 F.3d 1183, 1188 (10th Cir. 2000). In making this

determination we may look to “other state court decisions, federal decisions, and



2
  As will be discussed, at least one Kansas Supreme Court case indirectly favors
the position taken by defendants.

                                         -7-
the general trend and weight of authority.”         Farmers Alliance Mut. Ins. Co. v.

Salazar , 77 F.3d 1291, 1295 (10th Cir. 1996).

       The district court relied on cases from other jurisdictions; however, those

cases are distinguishable from the present one and are unlikely to be followed by

the Kansas courts. In light of the general trend and weight of authority, we

conclude Kansas courts addressing the § 84-9-318 issue would follow the

principle of nemo dat qui non habet —no one may transfer more than he

owns—and rule for defendants.

       1. Bank Leumi

       The district court found persuasive the case of       Bank Leumi Trust Co. of

N.Y. v. Collins Sale Serv., Inc.   , 393 N.E.2d 468 (N.Y. 1979). Although the facts

in Bank Leumi bear some superficial resemblance to those in this case, the district

court failed to draw a crucial factual distinction.

       Bank Leumi Trust Company loaned money to Precision Graphics and

secured its loan by taking a security interest in Precision’s accounts receivable.

Sesco Designs owed Precision $8000 for goods purchased from Precision. As

assignee of the funds due from Sesco, Bank Leumi sought to satisfy its claim by

attaching the $8000 owed to Precision.

       Precision also owed moneys arising from commission sales to Collins Sales

Service, a corporation that had the same principal officer and shareholder as


                                              -8-
Sesco. Precision, Sesco and Collins reached a separate agreement allowing

Precision to offset any moneys owed to it by Sesco against its debt to Collins.

Collins and Sesco argued that under section 9-318(1)(a) of the Uniform

Commercial Code—which is identical to Kan. Stat. Ann. § 84-9-318(1)(a)—Bank

Leumi’s interest was subject to this setoff, and Collins therefore had first priority

to the money Sesco owed Precision. The New York Court of Appeals disagreed

concluding:

            It is abundantly clear that only Sesco is an account debtor of
      Precision, the assignor, Collins being an account creditor by virtue of
      the money owed it by Precision. Thus, in order to invoke the
      protection accorded by the statutory section, it was incumbent upon
      Sesco to come forth with evidentiary facts that it had a claim or
      defense against Precision arising from their contract for the sale of
      goods which would negate its obligation to pay Precision. This,
      defendant Sesco has failed to do.

             The reason espoused by Sesco for refusing payment for the
      goods it received from Precision is not a claim or defense arising
      from their contract, but, rather, a collateral agreement in which the
      method of payment of Precision’s obligation to Collins was
      established.

Bank Leumi , 393 N.E.2d at 469-70.

      Defendants persuasively argue that    Bank Leumi should be distinguished

from this case. Unlike Bank Leumi , the offset involved here is more than just an

ex post, collateral agreement concerning payment. Chrysler Corporation has a




                                           -9-
valid defense   3
                    against Bierwirth. The Dealer Agreement itself provides that

Chrysler Corporation may offset against its obligations to Bierwirth any amount

Bierwirth owes to Chrysler Corporation       or its affiliates . Because Chrysler Realty

is an affiliate of Chrysler Corporation, Chrysler Corporation may assert the setoff

against Bierwirth and hence against Commerce. Chrysler Corporation is not

asserting a right held only by Chrysler Realty or, as in      Bank Leumi , a mere

payment arrangement collateral to the original indebtedness agreement.

       2. MNC Commercial

       The other case upon which the district court relied,      MNC Commercial

Corp. v. Joseph T. Ryerson & Son, Inc.      , 882 F.2d 615 (2d Cir. 1989), is similarly

distinguishable from the current case.      MNC Commercial involved a triangulated

business arrangement similar to the one in the present case and in      Bank Leumi .

MNC was the secured party/assignee of Ramco. Ryerson, the account debtor,

owed money to Ramco, the assignor. Ramco in turn owed money to Inland Steel,

Ryerson’s parent company. Ryerson stated in its order forms with Ramco that it




3
  We employ the term “defense” here to include the claimed setoff. Although
§ 84-9-318(1)(a) refers to a “defense or claim,” the Comment to § 9-318 of the
Uniform Commercial Code expressly includes setoffs existing before the account
debtor is notified of a subsequent assignment.  See Kan. Stat. Ann. § 84-9-318,
Official UCC Comment (“An assignee has traditionally been subject to defenses
or setoffs existing before an account debtor is notified of the assignment.”).

                                            -10-
reserved the right to set off any sums that Ramco owed either to Ryerson or to its

parent company, Inland Steel, against Ryerson’s obligations to Ramco.

      MNC sued to recover certain funds owed to Ramco that Ryerson had sent

directly to Inland Steel in reliance on the claimed right of offset. Ryerson cited

U.C.C. § 9-318 in support of the argument that it properly relied on the setoff

provision, based on Ramco’s debt to Inland Steel, as a defense to MNC’s action.

The Second Circuit brushed aside issues of bankruptcy law and the “battle of the

forms” and rejected Ryerson’s argument.

      The court [in Bank Leumi ] left open the question whether a setoff
      would be a defense under Section 9-318 where an intercorporate
      transaction between the third-party-setoff claimant (Inland) and the
      account debtor (Ryerson) led to the assumption by the account debtor
      of the third party’s claim against the assignor (Ramco).      See [Bank
      Leumi , 393 N.E.2d at 469]. In those circumstances, of course, the
      account debtor would own the claim against the assignor. No
      argument is made that Ryerson owns Inland’s claim against Ramco.
      Viewed in the light most favorable to Ryerson, therefore, the      claimed
      contract with Ramco as to the setoff established at best “a collateral
      arrangement [regarding] the method of payment” that did not alter
      Ryerson’s underlying obligation.

MNC Commercial , 882 F.2d at 620 (emphasis added).

      In other words, the Second Circuit determined that the forms in use

between Ryerson and Ramco created a “collateral arrangement regarding the

method of payment” and did not create any rights that Ryerson could assert




                                         -11-
against Ramco or its assignee.   4
                                     Specifically, the arrangement was collateral to the

debtor’s (Ryerson’s) agreement to do business with the assignor (Ramco).

Notably, the court in   MNC Commercial viewed the issue before it as whether a

subsequently arising setoff could take priority over a perfected security interest.

882 F.2d at 619.

       Unlike Bank Leumi and MNC Commercial , this case involves an offset

provision in the original agreement between Chrysler Corporation and Bierwirth,

the agreement that made Chrysler Corporation the debtor. The offset provisions

in Bank Leumi and MNC Commercial arose subsequent to the original agreements

and were accordingly deemed to be mere collateral payment agreements. Because

the offset provision was integral to the original indebtedness agreement at issue in

this case, the right is a contractual one that constitutes a defense to a claim of

non-payment asserted against the account debtor. The terms of the agreement

provide no right to Bierwirth to insist that Chrysler Corporation pay amounts

directly to it so long as Bierwirth still owed money to Chrysler Realty. Simply

put, Chrysler Corporation had the contractual right to discharge its obligation to

Bierwirth by paying Chrysler Realty instead of Bierwirth.

       3. Kansas Law



4
  The Second Circuit did not reach the issue of whether a contractual right of
setoff was created by the forms sent to Ramco by Ryerson.

                                            -12-
       Kansas would most likely adopt a commercially pragmatic view toward the

transaction at issue and rule in favor of the account debtor’s assertion of its

contractual rights. Defendants cite a Kansas case applying Kan. Stat. Ann.

§ 84-9-318(1)(b) under circumstances similar enough to those here to suggest that

a Kansas court would rule for defendants in this case.   Bank of Kan. v.

Hutchinson Health Servs., Inc.   , 785 P.2d 1349 (Kan. 1990).

       In Bank of Kansas , the account debtor was the Kansas Department of

Social and Rehabilitation Services (“SRS”), a state agency. SRS owed money to

assignor Hutchinson Health Services (“Hutchinson”). Hutchinson in turn owed

money to the Kansas Department of Human Resources (“DHR”). The Bank of

Kansas, Hutchinson’s assignee, made loans to Hutchinson secured on

Hutchinson’s accounts receivable. Pursuant to its security interest, the Bank

sought to intercept payment due to Hutchinson from SRS. DHR objected, arguing

that it had priority to the payment as an offset against funds Hutchinson owed to

DHR.

       Although the contract between SRS and Hutchinson did not expressly

permit offset, the court held that DHR had a statutory right to set off funds owed

to HHS by SSR. Instead of applying Kan. Stat. Ann. § 84-9-318(1)(a), the court

applied § 84-9-318(1)(b), which subjects the rights of an assignee to “any other

defense or claim of the account debtor against the assignor which accrues before


                                           -13-
the account debtor receives notification of the assignment.” The Kansas Supreme

Court held that DHR was entitled to offset the payment due to Hutchinson from

SRS and that under § 84-9-318(1)(b) the Bank of Kansas could claim priority to

funds advanced after DHR was notified of its security interest. Thus, the

government’s offset right took priority over the Bank’s security interest, even

though the government’s interest was not secured by a U.C.C. filing.

       Commerce argues that Bank of Kansas should be distinguished from the

case at bar because it involved government parties rather than corporate

subsidiaries. The salient point, however, is that the offset in      Bank of Kansas

trumped a perfected security interest under § 84-9-318. As the Kansas

commentary to § 84-9-318 notes, “[t]he rights of the Article 9 assignee are . . .

much less than those of a holder in due course of a negotiable instrument.”

Kan. Stat. Ann. § 84-9-318, Kan. Comment to Subsection (1).

       A case of more general interest is    H. Freeman & Son v. Henry’s, Inc.     , 717

P.2d 1049 (Kan. 1986). There the Kansas Supreme Court refused to compel an

account debtor that had relied on an offsetting credit it had with a bankrupt

merchant to repay the bankrupt’s assignee.          Id. at 1051. The credit with the

bankrupt assignor was sufficient to cover the debt allegedly accrued with the

assignee. H. Freeman suggests that offsets will be honored when failure to do so

would work an injustice: it    held that absent notice of the bankruptcy to the


                                             -14-
account debtor, the assignee had acquired no greater right to the money than its

bankrupt assignor.    See id.

               a. Nemo Dat Qui Non Habet

        The Kansas Supreme Court’s holding in       H. Freeman that an assignee can

acquire rights no greater than those held by the assignor is consistent with the

basic principle of commercial law encapsulated in the Latin phrase       nemo dat qui

non habet . 5 This principle can be found in several provisions of the Kansas

U.C.C., including § 84-9-318.        See, e.g. , Kan. Stat. Ann. §§ 84-3-305 (defenses to

obligations on instruments), 84-7-504(1) (transfer of documents of title).

        The basic concept behind      nemo dat is that a transferee’s rights are no better

than those held by his transferor. Applying the principle of       nemo dat as

expressed in § 84-9-318 and elsewhere in the Kansas U.C.C., Commerce, as

Bierwirth’s assignee, took its right to receive the funds subject to the right of

Chrysler Corporation, the account debtor, to pay them to Chrysler Realty. The

fact that Commerce had a perfected security interest, and Chrysler Realty did not,

makes no difference because Commerce’s secured status comes into play only

after it is shown that Bierwirth was entitled to payment of the funds.

        Although it is not a U.C.C. case,    OXY USA, Inc. v. Colorado Interstate Gas

Co. , 883 P.2d 1216 (Kan. Ct. App. 1994), is instructive. In       OXY the Kansas


5
    “He who hath not cannot give.”      Black’s Law Dictionary    1037 (6th ed. 1990).

                                             -15-
Court of Appeals applied     nemo dat , “the time-honored rule of law” that the

“assignee ‘stands in the shoes of the assignor,’” to reject an attempt by an

assignee to obtain a greater interest than its assignor.    Id. at 1223. The assignor

was the Watson family, who had entered into a gas operating agreement (“GOA”)

with OXY USA, a gas production company. The GOA called for the Watsons to

receive fifty percent of the gas produced and bear fifty percent of the operating

costs of gas production. The Watsons later executed an instrument assigning all

of their mineral interest for a period of ten years to assignee Colorado Interstate

Gas Company (“CIG”). At issue was whether the assignment allowed CIG to take

its fifty percent interest free of the costs of production. The Kansas Court of

Appeals held that CIG’s interest was subject to the obligation to pay OXY USA

the Watsons’ share of production costs:

              The law is settled that CIG could not acquire a greater right
       from the assignment than those possessed by its assignor. In this
       case, the assignor’s right to receive production income was subject to
       a lien in favor of their share of the cost of production. The assignee
       can gain no greater interest. This is a fundamental rule of law , and
       no resort to the complexities of the Uniform Commercial Code can
       render it impotent in this action.

Id. at 1223 (emphasis added).

       Other Kansas cases also recognize the principle of      nemo dat in commercial

transactions. See, e.g. , H. Freeman & Son , 717 P.2d at 1051 (“[I]t is

fundamental that the assignee of a contract acquires no greater rights from the


                                             -16-
assignment than those possessed by the assignor.”). This principle is a matter of

hornbook contract law.   See Restatement (Second) of Contracts § 336 Comment b

(1981) (“[T]he assignment of a non-negotiable contractual right ordinarily

transfers what the assignor has but only what he has.”).

      In creating a security interest against Bierwirth’s accounts payable,

Commerce took the risk that Bierwirth’s entitlement to funds from an account

debtor might be limited by the account debtor’s defense or claim. For the

foregoing reasons, judgment for Commerce should be reversed.

                                         C

      Upon de novo review of the $20,000 punitive damage award,       see FDIC v.

Hamilton , 122 F.3d 854, 857 (10th Cir. 1997), we reject Chrysler Realty’s

position that there was insufficient evidence to support an award of punitive

damages for its actions in withholding the $2000 surplus in this case. We

conclude, however, that the punitive damage award should be vacated to allow the

district court to consider whether Chrysler Realty’s position as a prevailing party

in this matter justifies a different amount of punitive damages than the $20,000

previously awarded.




                                        -17-
                                      III

      The grant of summary judgment in favor of Commerce Bank is

REVERSED and its order awarding punitive damages is   VACATED . This case

is REMANDED for further proceedings not inconsistent with this opinion.




                                     -18-