By James A. Dempsey, Esq.

Until recently, with the increase in retail bankruptcies and the after-effect of supply chain issues arising during COVID, there has not been a great deal of discussion in commercial finance regarding consignments under the Uniform Commercial Code (UCC). A consignment is defined in the UCC as a “transaction, regardless of its form, in which a person delivers goods to a merchant for the purpose of sale” (UCC §9-102.)  The “merchant” (i) must deal in goods of that kind under the name other than the name of the person making delivery, (ii) is not an auctioneer, and (iii) is not generally known to its creditors to be substantially engaged in selling the goods of others.  Further, the goods must have an aggregate value of $1,000 or more at the time of delivery, the goods may not be consumer goods, and the transaction cannot create a security interest that secures an obligation.

A person delivering the goods is the consignor, and the recipient, the consignee.  The consignor is the owner of the goods until a sale is consummated.  In any consignment arrangement, there should be a well-drafted consignment agreement in place to protect the consignor and the consignee.  One of the more important terms in a consignment agreement is the obligation of the consignee to remit proceeds of any sale of goods to the consignor as it is likely that a buyer of the goods dealing with the consignee will pay the consignee.  The proceeds of the sale remain the property of the consignor.  Consignments can also be governed by common law, but this article will focus on UCC consignments.

So now comes the more interesting issue regarding the interplay by and among, the consignor, consignee, the consignee’s lender and the lender of the consignor as to rights and security interests in the consigned goods.  In order to perfect its security interest in goods, the consignor needs to properly file a UCC Financing Statement against the consignee.  A UCC search should also be performed against the consignee to determine if there are liens against inventory filed by a secured creditor.  In cases where the transaction is a true consignment, the security interest created in the inventory is deemed a purchase money security interest, but certain steps need to be taken to comply with the protections of a purchase money security interest that we will not elaborate in this article, although important.

The concern of a lender dealing with consignment inventory of its borrower is two-fold--how to protect its security interests in such inventory and how to accommodate its borrower that deals in consignment inventory to allow advances under its credit line to be made against such inventory.

With some ongoing due diligence and properly drafted loan agreements, that should include covenants requiring consignment reports, sales, lien searches, and timely filing of UCC Financing Statements to name a few, a lender can accomplish both of these goals by providing financing on consigned inventory to its borrower, and more importantly, protecting its security interest in such consigned goods.

For more information, contact James A. Dempsey at jad@spsk.com or 973-540-8898.