Question

Parks Auto is a wholesale distributor of auto parts. Parks Auto received the promissory note shown below from Jones Auto, Inc., as security for payment of a $44,000 auto parts shipment. When Parks accepted the note as collateral for the debt owed by Jones, Parks was aware that the maker of the note, Chad, was claiming that the note was unenforceable because Victoria had breached the license agreement under which Chad had given the note.

Jones had acquired the note from Matt in exchange for repairing several cars that were owned by Matt. At the time that Jones had received the note, Jones was not aware of the dispute between Chad and Victoria. Also, Matt who paid Victoria $39,000 for the note was unaware of Chad’s allegations that Victoria had breached the license agreement.

Instrument reads as follows:

PROMISSORY NOTE

                                                                                                DATE: February 22, 2008

CHAD promises to pay to

VICTORIA or bearer                                      the sum of $44,500.00

Forty thousand five hundred and no/100’s     DOLLARS

On or before May 01, 2008 (maker may extend due date by 30 days)

With interest thereon at the rate of 91/2% per annum.

                                                                                                s/CHAD

REFERENCE: Licensing Agreement – Victoria

The reverse side of the note is indorsed as follows:

PAY TO THE ORDER OF JONES AUTO without recourse

s/Matt

PAY TO THE ORDER OF PARKS AUTO

Jones Auto

s/ Ma Jones

authorized agent

Jones Auto is now insolvent and will not be able to satisfy its obligation to Parks. Therefore, Parks has now demanded that Chad pay to Jones $44,000. Chad refuses. DISCUSS AND DECIDE

HINTS:

Chad raises the following defenses:

1. The note is not negotiable because it referenced the license agreement and is not payable at a definite time or on demand.
2. Parks is not an HDC of the note because it received the note as security for amounts owed by Jones
3. Parks is not an HDC in that Parks was aware of dispute between Chad and Victoria.
4. Chad can use the alleged breach of the license agreement by Victoria as a defense to payment to Parks.
5. Parks has no rights to the Note in that the note was not endorsed by Victoria.
6. The maximum amount that Chad owes per the note is $40,500 plus accrued interest.

Answer 1

A holder in due course ( HDC ) of a negotiable instrument is one who,

• Receives the instrument before maturity
• For consideration
• Bona fide, i.e in good faith and
• The instrument appears to be complete and regular on its face.

An HDC is a privileged party to a negotiable instrument, and every prior party is liable to the HDC till the note is discharged, other than the endorser who endorses sans recourse.

In the given situation, the current holder of the note satisfies all the aforementioned conditions, and is therefore a holder in due course. Jones Auto Inc. is insolvent, and every prior party, other than Matt ( who has endorsed without recourse ) would be liable to Parks Auto on the maturity of the instrument.

The face of the note clearly states On or before May 01, 2008 (maker may extend due date by 30 days). The fact that a licensing agreement is referenced in the note does not mean that Chad does not owe Victoria. The maturity of the instrument is clearly mentioned on the note. Therefore Chad's contention that the note is unenforceable on these grounds is not tenable.

Parks Auto received the note in satisfaction of the debt owed by Jones Auto Inc. Therefore the note is supported by consideration, and therefore it is a valid promissory note. Every negotiable instrument is a collateral, and therefore every NI is given by way of security. Therefore, Chad's second contention is also not acceptable.

An HDC is unaffected by any dispute between any of the prior parties to a negotiable instrument. Even though Parks Auto is privy to the dispute between Chad and Victoria, the rights of Parks Auto as the HDC are not affected.

Chad promises to pay ' Victoria or bearer ' as mentioned in the note, therefore it hardly matters whether Victoria has endorsed the instrument or not. The rights of Parks Auto are not affected.

The maximum amount that Chad owes per the note is $40,500 plus accrued interest. Yes, this defense will work for Chad, as the instrument mentions two numbers, $ 44,500 and $ 40,500 plus interest. Parks Auto should be able to recover at least $ 40,500 plus interest.