Owners of distressed debt secured by commercial property are often well versed in the single-sale mortgage foreclosure process in which a secured party need only conduct one sale to foreclose on all of the real and personal property securing a loan.
There are some situations, however, where an owner of a mortgage loan may desire, or be required, to conduct both a mortgage foreclosure sale and a separate sale under Article 9 of the Uniform Commercial Code (UCC) in order to foreclose on certain personal property collateral.
If a loan is secured by an interest in the property owner, as well as the underlying real and personal property, the lender may wish to conduct a UCC sale on the interest in the property owner in order to quickly gain control of the real property.
This process may be especially important in cases where the borrower is mishandling proceeds from the real property, or allowing the real property to deteriorate.
In states such as Georgia and Colorado, if the collateral description in the recorded security instrument fails to include all of the personal property given as collateral for the loan, as evidenced by other security agreements, a separate UCC sale may be required in order to foreclose on the missing property.
Incomplete collateral descriptions in recorded security instruments are not necessarily a common problem. But given the legal ramifications associated with conducting an improper foreclosure sale — such as failure to obtain title to the personal property collateral — lenders should be cognizant of this issue.
If an Article 9 sale is desired or necessary as part of the foreclosure process, it is important for owners of distressed debt to be aware of some basic considerations that will need to be factored into the foreclosure strategy.
Expenses can be significant
As with mortgage foreclosures, UCC sales do not come without cost. In addition to attorneys’ fees, lenders will incur expenses associated with complying with the requirements of Article 9. The costs will include expenses for conducting UCC searches on the borrower in the appropriate jurisdiction, and the cost of advertising the sale.
Total costs could run from a few thousand dollars up to tens of thousands of dollars, depending upon the nature and complexity of the collateral being foreclosed.
As every aspect of an Article 9 sale must be conducted in a “commercially reasonable” manner, the advertising campaign for a UCC sale may be significantly different, and perhaps more expensive, than that of a mortgage foreclosure.
While state law may specify which newspaper must be used to advertise a mortgage foreclosure sale in a particular jurisdiction, the UCC simply requires that the sale be conducted in a commercially reasonable manner. Generally speaking, this means that the advertising campaign must be designed to market to individuals and entities that may be interested in purchasing the property being sold.
Thus, the method and media used to advertise a UCC sale will vary depending on the type of collateral. For example, a lender selling personal property related to a convenience store may consider advertising the sale in convenience store trade papers or on convenience store trade websites.
If, however, the sale is related to membership interests in a property owner in connection with a large real estate asset, the lender may need to advertise in a national newspaper in order to ensure that the advertisement is made available to parties sophisticated enough to purchase this type of property. The cost for two ad runs in a national newspaper could easily exceed $10,000.
In keeping with the commercially reasonable requirement of Article 9 sales, a lender selling property through a UCC sale must consider how it will allow potential purchasers to inspect the property prior to the sale. While on its face this may seem like a simple proposition, in practice it can be challenging.
For example, when the borrower remains in possession of the property prior to the sale, it may be difficult, if not impossible, for the lender to grant access to the property to potential purchasers.
Advantages of Article 9
Perhaps the most attractive aspect of a UCC sale to an owner of a distressed asset is the speed with which such a sale can be conducted. It is possible for a properly coordinated UCC sale to be conducted within four to six weeks of the decision to carry out the sale.
This process can be advantageous to lenders holding a security interest in the equity interests of the borrower, especially in jurisdictions where the mortgage foreclosure process is unduly lengthy or in cases where the borrower is not taking care of the property.
In such cases, the lender can quickly take control of the property owner and the real property, and then subsequently foreclose on the mortgage, if necessary, to clean up any title issues relating to the real property.
Owners of distressed assets often struggle with how best to monetize their collateral. The failure of a lender to consider whether a UCC sale will be required, or is desirable in connection with foreclosing on its assets, could prove to be a costly mistake.
Charles D. Weiss is a partner in the Atlanta office of McKenna Long & Aldridge (MLA), where his practice focuses on complex loan workouts and restructuring matters, and the representation of loan servicers in commercial mortgage backed securities transactions. He can be reached at [email protected]. Matthew James is an associate in the real estate finance practice group in MLA’s Atlanta office. He can be reached at [email protected].