American Security Bank v. Clarno

Opinion

Plaintiff bank brought suit to enforce the personal guarantees of individual defendants. They cross-complained seeking declaratory relief and exoneration from personal guarantees on two loans to their financially troubled business. The bank appeals the trial court’s orders of exoneration.

Facts

Defendants Clarno and Hunter were sole shareholders of Duncan-Hunter (Duncan) which in turn wholly owned Equipment Wholesalers, Incorporated (EWI). In March 1973, Duncan borrowed $200,000 from plaintiff American Security Bank (bank). Duncan executed a $200,000 promissory note, 85 percent of which was guaranteed by the Small Business Association (SBA). As a condition to the SBA’s guarantee, Clarno and his wife, Hunter and his wife, and Giardina (one of Duncan’s managers) and his wife executed continuing guarantees secured by trust deeds on their respective residences. The promissory note was also secured by a security agreement and financing statement on Duncan’s machinery, equipment, furniture, fixtures, inventory, trade accounts receivable and materials then owned or thereafter acquired.

This loan was refinanced and increased to $275,000, as evidenced by an October 1973 promissory note. The March SBA guarantee was applied to this note. The perfected March security interest in Duncan was also tied to the October note. Similar individual guarantees were executed. In addition, EWI pledged its corporate assets to the bank as security. A 1975 financial statement for EWI was executed, but a formal security agreement was never acquired, and therefore a security interest in EWI’s assets was never perfected.

In June 1975, in exchange for a $13,500 loan, EWI executed a promissory note in the bank’s favor. A continuing guarantee by Clarno and Hunter dated May 16, 1973, was the only security for this note. It was around this time (1975) that financial difficulties beset Clarno and Hunter’s business.

Duncan was forced to sell certain assets to RMG, a California corporation whose president was Giardina. RMG gave Duncan a $125,000 promissory note which was guaranteed by Giardina and Edward D. Slaughter. A security interest was perfected on RMG’s inventory, tools, equipment, furniture, fixtures and supplies. The security agreement provided, inter alia: “All obligations secured by this Agreement shall become immediately due and payable without notice or demand to Buyer if any of the following shall occur . . . the commencement of any proceeding under any bankruptcy or insolvency law by or against the Buyer; ...”

the provisions of any agreement between the Debtor or any other party and Lender at the time in force, to deal in any manner with the Liabilities and the collateral, including, but without limiting the generality of the foregoing, the following powers: (a) To modify or otherwise change any terms of all or any part of the Liabilities or the rate of interest thereon . . ., to grant any extension or renewal thereof and any other indulgence with respect thereto, and to effect any release, compromise or settlement with respect thereto; (b) to enter into any agreement of forbearance with respect to all or any part of the Liabilities, or with respect to all or any part of the collateral, and to change the terms of any such agreement; (c) to forbear from calling for additional collateral to serve any of the Liabilities or to secure any obligation comprised in the collateral; (d) to consent to the substitution, exchange, or release of all or any part of the collateral . . . . [f] In case the Debtor shall fail to pay all or part of the Liabilities when due ... the Undersigned, immediately upon written demand of the Lender, will pay to Lender the amount due and unpaid by the Debtor . . . Lender shall not be required ... to make any demand upon or pursue or exhaust any of its rights or remedies against Debtor or others with respect to the payment of any of the Liabilities, or to pursue or exhaust any of its rights or remedies with respect to any part of the collateral. The Undersigned shall have no right of subrogation whatsoever with respect to the Liabilities or the collateral unless and until Lender shall have received full payment of all the Liabilities . . . .”

Despite this strong language Clarno and Hunter contend the bank’s failure to perfect a security interest in subsidiary corporation’s assets (EWI) exonerates their obligations, even though the loan was made to the parent corporation (Duncan). They base their assertion on the signed letter agreement, by Clarno, Hunter and the bank, entered into simultaneously with the promissory note and their guarantees which in pertinent part provides: “It is hereby understood and agreed that in the event of default of this loan the lender will exhaust all remedies against Duncan-Hunter Co. first, before proceeding against the assets covered by the personal guarantees of the individuals.” Defendants argue this letter agreement both alone and in combination with suretyship law operates to release their guarantees.

Part of the statutory scheme which Clarno and Hunter attempt to engage is located in the California Uniform Commercial Code. Section 3606 provides: “(1) The holder discharges any party to the instrument to the extent that without such party’s consent the holder ...(b) Unjustifiably impairs any collateral for the instrument given by or on behalf of the party or any person against whom he has a right of recourse. ...”

Initially we point out defendants’ reliance on section 3606 is misplaced. That section applies to discharge only a party to an instrument. An

The second line of cases includes D. W Jaquays & Co. v. First Security Bank (1966) 101 Ariz. 301 [ 419 P.2d 85 ], and Behlen Mfg. Co. v. First National Bank of Englewood (1970) 28 Colo.App. 300 [ 472 P.2d 703 ]. In Jaquays, the defendant corporation was a creditor of Mesa Steel as a result of a conditional sales contract involving an air compressor. Defendant corporation transferred its interest to plaintiff bank and included an unconditional guarantee in which it consented “without notice, to any extensions or forbearance by assignee, and waives any demand or notice of default.” Mesa Steel went bankrupt and defendant refused to honor its guarantee because the bank failed to record the conditional sales contract. The court, in releasing defendant, cited 50 American Jurisprudence, Suretyship, section 118: “The collateral security taken by a creditor may require some act on the part of the creditor to make it a valid security. Where such is the case, the law implies an agreement on his part to perform that act. If he neglects or fails to do so and the security is thereby lost or impaired, the surety may be discharged to the extent of his loss or injury.” The bank argued the unconditional guarantee plus the waiver precluded the surety’s release. The court disagreed, finding that any waiver must be clear and unequivocal. It distinguished another case where the waiver “granted full power to the guarantee, in its uncontrolled discretion to deal in any manner with the collateral security.” (419 P.2d at p. 89.)

The Jaquays court found the bank breached an implied-in-law duty to record. However, it had to distinguish a case with a stronger waiver than the one before it. In viewing the waiver before this court, we find it is even stronger than the one which Jaquays distinguished. The letter agreement does not make it less so.

In fact in Union Bank v. Ross (1976) 54 Cal.App.3d 290 [ 126 Cal.Rptr. 646 ], it was held that a surety could waive its rights under Civil Code section 2819. In that case, the surety did so by agreeing “to waive all rights to require the bank ‘to apply any security Bank may hold at any time or to pursue any other remedy.’ ” (Id., at p. 294.) We conclude the waiver at bar was at least as clear as the one in Ross.

In addition, nowhere in the record is there any suggestion that the bank obligated itself to perfect security in EWI’s assets. In Joe Heaston Tractor & Imp. Co. v. Securities Accept. Corp. (10th Cir. 1957) 243 F.2d 196 , the surety unconditionally guaranteed payments on all accounts. The creditor made the loans, took back chattel mortgages, but failed to perfect the liens. When the surety argued this failure released the guarantee, the court responded, “[t]he contract of guarantee makes reference to secured loans but it does not specifically require the taking of mortgages or that the same, if taken, be recorded.” (243 F.2d at p. 198. See also American Bank of Com

merce v. Covolo (1975) 88 N.M. 405 [ 540 P.2d 1294 , 1298-1299].) The unconditional guarantee in Joe Heaston Tractor included the following language: “ ‘The undersigned grants to the Finance Company full power to modify or change terms of any of the Liabilities, to agree to forbearance with respect thereto, to consent to the substitutions or exchange or release of collateral thereto, and extension of time of payment of the Liabilities.’ ” (243 F.2d at p. 198.)

In the instant case, the guarantee granted the lender “full power ... to deal in any manner with the Liabilities and the collateral . . . [including the power] to consent to the substitution, exchange or release ... of the collateral. ...” These guarantees are nearly identical. In addition, the Joe Heaston Tractor court concluded even though the unsecured collateral was mentioned in the guarantee, absent an express agreement to perfect the lien, the surety would not be released. In the instant case the unsecured EWI collateral was never mentioned in the guarantee. These facts strongly support the Joe Heaston Tractor holding that the sureties should not be released.

Turning now specifically to the letter agreement, we find it has no modification effect on the waiver language in the guarantees. This document is at best an agreement as to the sequence in which assets will be used to satisfy the $275,000 SBA indebtedness. The issue before us has nothing to do with which assets will be used in what order to satisfy this obligation. Rather, the issue is whether the bank was obligated to perfect the EWI security. This letter agreement does not even mention EWI assets. It only refers to Duncan assets.

Viewing the letter agreement in this light, we are thoroughly convinced it could not possibly have required the perfection of EWI’s assets as a prerequisite to the enforcement of Clarno and Hunter’s guarantees. No case requires a creditor to acquire every bit of security possible prior to imposing liability on a surety. Such a ruling would throw commercial transactions and suretyship law into utter chaos. We emphatically decline to rewrite these laws.

Clarno and Hunter also assert, and the trial court found, the failure to perfect the EWI security violated the bank’s duty of continuous good faith and fair dealing to the guarantors. (See Sumitomo Bank of Cal. v. Iwasaki (1968) 70 Cal.2d 81 [ 73 Cal.Rptr. 564 , 447 P.2d 956 ].) That duty requires a creditor to disclose pertinent facts which would materially increase the risk the surety intended to assume. The bank did not fail to disclose any such facts. Furthermore, Clarno and Hunter do not cite any authority, nor can we find any, to hold this duty requires the lender of a

corporation to perfect security in its subsidiary absent an express agreement to do so. Therefore, the bank did not breach the duty of good faith and fair dealing with plaintiff surety.

Turning now to the RMG $125,000 note, we must again conclude the waiver precludes exoneration. (See Bloom v. Bender (1957) 48 Cal.2d 793 [ 313 P.2d 568 ].) Clarno and Hunter contend the bank’s failure to pursue its secured creditor position upon RMG’s filing for bankruptcy released their guarantees. However, the waiver provides in part: “The Lender shall not be required ... to exhaust any of its rights or remedies with respect to any part of the collateral.” Both California Uniform Commercial Code section 3606 and Civil Code section 2819 call for release or exoneration only as a result of acts to which the surety does not consent; Clarno, Hunter and Giardina consented to the possibility the bank would not pursue its secured creditor’s remedies. Therefore, the court erred in exonerating Clarno, Hunter, and Giardina of their personal guarantees.

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Clarno and Hunter’s guarantees were secured by deeds of trust on their residences. An agreement was executed between the guarantors and the bank providing these trust deeds “can be released upon the sale of [the] residence, provided, that the new residence purchased with the proceeds of the sale will be encumbered with a trust deed to cover the above loan in place of the one released. The new encumbrance would be in a second position.” Clarno attempted to sell his residence and requested the bank to release the trust deed. The bank refused to release unless all proceeds received from the sale were applied to the newly acquired residence. Clarno brought suit for damages resulting from this refusal. The court found for the bank and awarded attorney fees.

Clarno’s appeal on this matter will not overturn this result. The bank was entitled to rely on all acquired equity resulting after the guarantees were made. Clarno could not sell his first residence and then purchase another at a lower price without adversely affecting the bank’s position spelled out in the guarantee. The bank was justified in refusing to release Clarno’s trust deed.

Disposition

The lower court found Clarno and Hunter liable on their individual guarantees of EWI’s $13,500 note. Because no appeal is taken on this portion

of the judgment, it remains intact, and valid. The effect of the court’s judgment, however, wiped out Clarno and Hunter’s liability on this $13,500 guaranty because, after applying the exoneration to the $275,000 liability, an excess resulted which the court then applied to the $13,500 liability. The court erred. In essence there were two separate obligations evidenced by separate writings. Even if we were to conclude exoneration was proper in one, no authority exists to apply any excess to the other. Clarno and Hunter’s favorable judgment on their cross-complaint for exoneration is reversed as is the order awarding them attorney fees. This necessarily means that in the cross-complaint the bank was the prevailing party and as such may be entitled to attorney fees under the guarantees. The lower court is directed to make this determination and award the bank any applicable attorney fees.

There is some confusion as to whether Giardina, as a cross-defendant in Clarno and Hunter’s cross-action, properly requested to be relieved of liability in the event of a successful result in this action. However, we conclude Giardina stands in the same position as Clarno and Hunter and, therefore, the judgment exonerating him is also reversed.

Finally, there is some confusion over the present amount of the SBA indebtedness—particularly because the bank summarily added earlier acquired attorney fees to the principal. The lower court improperly determined the amount because that issue was never before it. We, therefore, express no opinion as to the amount presently due on this note or whether the attorney fees added to the principal were proper.

The lower court is directed to modify the judgment in accordance with this opinion.

Kaufman, Acting P. J., and McDaniel, J., concurred.

A petition for a rehearing was denied March 1, 1984, and the petition of appellant Clarno and respondent Hunter for a hearing by the Supreme Court was denied April 18, 1984.