Financial institutions and other creditors routinely secure their debt in part by "absolute and unconditional" third-party guarantees. In these guarantees the guarantor typically waives various defenses, including any defense based on a claimed impairment of collateral. In a case decided by the United States Court of Appeals for the Third Circuit, Solfanelli v. CoreStates Bank, NA, 203 F.3d 197 (3rd Cir. 2000) the Third Circuit held that such a waiver by the borrower is per se manifestly unreasonable within the meaning of the Uniform Commercial Code as adopted in Pennsylvania and, therefore, unenforceable.
Waiver of Impairment of Collateral Defense
Would the same reasoning apply to the waiver of impairment of collateral defense by a guarantor?
In one suit on a guarantee brought by a lender, the guarantor sought to extend the Solfanelli decision so as to raise factual issues claiming impairment of collateral and thus avoid a summary judgment on his obligations as a guarantor. The Court recognized that while generally there is a duty to conduct a commercially reasonable sale of collateral and a duty not to impair collateral, which duty runs between the creditor and the borrower, there is a long line of Pennsylvania eases (and some federal eases interpreting Pennsylvania law) which have recognized another rule applicable to unconditional guarantees. As a factual matter, the Court noted the guarantees were titled "Unconditional Continuing Guarantee" and stated in the text that "the obligations hereunder are absolute and unconditional" and further provided:
"The guarantor agrees that it shall not be necessary, as a condition to enforce this guarantee, that suit first be instituted against the debtor or that any rights and remedies against the debtor be first exhausted. It being understood and agreed that the liability of the guarantor shall be primary, direct and in all respects unconditional."
Commercially Reasonable Conduct
The judges of the United States District Court for the Eastern District of Pennsylvania have not unanimously so interpreted Pennsylvania law. As far back as 1982, Judge J. William Ditter, Jr. of the Eastern District of Pennsylvania reasoned that because a guarantor was within the definition of "debtor" under Article 9 of the Uniform Commercial Code, the Code requirement of commercially reasonable conduct in dealing with collateral made a waiver of such a requirement, per se, commercially unreasonable. The Solfanelli opinion, precluding waiver of impairment of collateral defenses by a principal borrower, and Judge Ditter's opinion precluding waiver of impairment of collateral defenses by a guarantor, were precursors of things to come under new Article 9 of the Uniform Commercial Code. Under U.C.C. §9-102(59) (1999), the definition of "obligor" includes:
". . . a person that, with respect to an obligation secured by a security interest in . . . collateral . . . (iii) is otherwise accountable in whole or in part for payment or other performance of the obligation."
The definition is clearly broad enough to encompass a guarantor.
Waiver of Impairment of collateral Defense
Further, U.C.C §9-602 (1999) provides expressly:
"Except as otherwise provided in §9-624, to the extent that they give rights to a debtor or obligor and impose duties on a secured party, the debtor or obligor may not waive or vary the rules stated in the following listed section . . ."
Included in the listed sections is §9-610 which requires a commercially reasonable disposition of collateral. Thus, whereas in the past creditors might choose to ignore collateral relying on the waiver of impairment of collateral defense and instead demand repayment of the obligations by a solvent guarantor, under new Article 9 lenders may not be so cavalier and may, in fact, be obligated to deal with the collateral in a commercially reasonable way or risk a successful defense of impairment of collateral by the guarantor. This attention to the collateral by creditors even where there is a solvent guarantor will have particular application in the asset based lending area where loans are typically secured by inventory and receivables.
Summary
It remains to be seen whether the courts of Pennsylvania will interpret changes to U.C.C. Article 9 as a reason to revisit and change the law as it has been applied to unconditional guarantees and the impairment of collateral. Since under former Article 9 there was no express prohibition against the waiver of the rules as to impairment of collateral, new Article 9 may well portend a new interpretation of the law relating to unconditional guarantees.