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11/06/84 American Employers v. American Security Bank

November 6, 1984

AMERICAN EMPLOYERS INSURANCE COMPANY, APPELLANT

v.

AMERICAN SECURITY BANK, N.A.; AMERICAN SECURITY BANK, N.A., APPELLANT

v.

AMERICAN EMPLOYERS INSURANCE COMPANY APPEALS FROM THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF COLUMBIA (CIVIL ACTION NO. 81-01800)



Before: WALD, BORK, and STARR, Circuit Judges.

UNITED STATES COURT OF APPEALS FOR THE DISTRICT OF COLUMBIA CIRCUIT 1984.CDC.294

DECISION OF THE COURT DELIVERED BY THE HONORABLE JUDGE BORK

Opinion for the Court filed by Circuit Judge BORK.

BORK, Circuit Judge: This case involves the interpretation of a trust agreement between American Employers Insurance Company, as surety for the Head Construction Company, and American Security Bank, N.A. District Judge Green entered judgment in favor of the Bank, but denied the Bank's request for attorneys' fees. We affirm. I.

While resolution of the legal issues involved in this controversy is relatively uncomplicated, the factual background requires some exposition. Through the early seventies, the Head Construction Company maintained a banking relationship with American Security Bank to finance Head's construction business. As of December, 1974, Head was obligated to the Bank on two unsecured notes totaling $250,000. These notes were due at the end of the month. On December 12, 1974, by letter, Head sought to renew those notes and to borrow an additional $250,000 to finance two recently-awarded construction projects. These projects were labeled F-2b and D-12. In its letter, Head informed the Bank that it had been awarded the contracts and proposed repayment of the new loan "from present accounts receivable . . . and/or income from the new contracts." Pl. Exh. ASB-3. Cash flow projections submitted in connection with the loan request listed proceeds from the D-12 contract as an anticipated account receivable, beginning in March, 1975. Pl. Exh. ASB-5.

In early February, Head told the Bank that it would probably need yet another $250,000, raising the total loan amount requested to $750,000. Pl. Exh. ASB-10.The Bank denied the informal request and, although a security agreement and financing statement showing a $750,000 loan were prepared, the documents were never executed. Instead, on February 20, 1975, Head signed a promissory note for $500,000 payable to the Bank. See Record Excerpts of American Security Bank ") at 1-4. The note extended $250,000 in new loan monies and refinanced Head's existing obligations. As collateral on the new loan, Head assigned, among other things, all its accounts receivable to the Bank. R.E. at 5. Both the financing statement and the security agreement for the new loan listed the collateral as "all account receivable. . . ." R.E. at 5, 6. The financing statement was promptly, but erroneously, filed in the District of Columbia instead of Prince George's County, Maryland, Head's principal place of business.

Head's financial condition soon deteriorated further. On March 12, the company signed a letter of default asking its surety -- American Employers Insurance Company ("American Employers") -- to assume its obligations on several bonded contracts. After examining the company's books, American Employers realized that its efforts to keep Head solvent might be frustrated if the Bank demanded immediate payment of the $500,000 note and then set off the debt against Head's payroll accounts at the Bank. With that concern in mind, American Employers representatives met with the Bank on March 17 and again on March 19 to discuss Head's financial difficulties. *fn1

During the course of those meetings, it was decided that American Employers, as surety, would continue to finance Head's construction projects rather than allow the company to default on its obligations. To accomplish this, a financial arrangement -- set out her in highly simplified terms -- was proposed. A "two-tiered" account would be established at the Bank. The first account -- opened in Head's name -- would be used as a standard checking account from which bills would be paid as they became due. To protect this operating account from the risk of attachment, the account would be maintained at a zero balance. A second "trust" account -- under the control of American Employers -- would be created and used to fund the operating account. Thus, as checks written off the zero-balance account would come into the bank, the Bank would honor them by transferring funds from the trust account. Because the trust account would not be in Head's name, it would not be subject to an attachment of Head's assets.

The Bank was chosen for this arrangement because it was already Head's bank. Mr. Head had told the surety that in the construction industry, if a contractor changes banks, it is interpreted as a sign of financial troubles. American Employers did not want to harm Head's image in the community. See Transcript ("Tr.") at 327, 624. Using the Bank raised a potential problem, however. Under common law, where the depository bank is owed money by the contractor, the bank has the right to set off its indebtedness against the two-tiered account. The solution was the creation of a trust agreement in which American Security Bank agreed not to set off against any of the funds deposited in the account in exchange for American Employers' recognition of the Bank's security interest in Head's accounts receivable.

The precise details of the meetings are in dispute. Witnesses for the Bank testified that the American Employers representatives were specifically informed of Head's assignment to the Bank and the contents of the financing statement filed in connection with the assignment. Tr. at 111-12 (testimony of Gerald P. LeNoir, vice president and commercial loan officer in 1975); 175-77 (testimony of Saul Schwartzbach, an attorney representing the Bank during negotiations of the trust agreement). The Bank's witnesses testified that the American Employers representatives asked for and received access to the Bank's files relating to Head, including the promissory note, security agreement, and financing statement, and were allowed to take copies of any documents of which they did not already have copies.

Testimony about the meetings from American Employers, on the other hand, was far less specific. While each witness testified to having knowledge of Head's sizeable indebtedness to the Bank, e.g., Tr. at 635 (testimony of James Dolan, attorney for American Employers), all denied, or failed to recall, having seen or having knowledge of the contents of the security agreement or financing statement at that time. Mr. Monaghan testified that he "assumed [the Bank] had protected all their [sic] rights by filing Uniform Commercial Code filings." Tr. at 504. He also stated that he assumed the Bank had taken a security interest in Head's accounts receivable because that was the "normal course of business." Tr. at 598. He did not recall seeing any financial documents or exchanging any documents at the meetings. Tr. at 505, 579-98. William Callahan, a claims adjustor for American Employers' parent company, also testified that he did not recall any specific discussion about Head's indebtedness aside from the Bank's demand for payment. Tr. at 371, 374-75. Finally, James Dolan testified only that he knew Head had assigned "something" to the Bank, but he did not know "how far the assignment went." Tr. at 648-49.

After the March 19 meeting, American Security Bank agreed in principle to the proposed arrangement and the creation of the trust agreement. American Employers agreed to recognize the Bank's security interest in Head's accounts receivable, and the Bank agreed not to set off Head's indebtedness against the "two-tiered" account. *fn2 Specifically, the agreement called for the creation of a "special trust checking account" in the names of three American Employers representatives. Receipts from certain listed contracts, the D-12 and F-2b projects among them, were to be deposited in that account and could be withdrawn only to satisfy specific obligations relating to those contracts, including the payment of the "debit balance in the separate account with the bank" (the "zero-balance" operating account). American Employers was further obligated under the agreement to maintain records of all withdrawals, specifying the use to which each was put, and to submit to the Bank semi-annual accountings "for each separate Head contract" showing all authorized deposits and withdrawals. The D-12 contract was among the contracts subject to the agreement's strict record-keeping requirements. Finally, the agreement sought to protect and clarify the Bank's status as a creditor of Head. The initial draft of the agreement provided as follows:

To the extent funds received under a specific contract and paid into the account exceed expenditures under that contract, . . . the surplus under that specific contract, as shown by the accounting, shall be, as between the parties hereto, subject to any now-existing priority created by Head's assignment of receivables to the Bank.

R.E. at 11. Thus surplus funds from specified contracts would first be subject to the Bank's priority, if any, in Head's accounts receivable at ...


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