Kaw Valley Bank v. Kanza Capital

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NOT DESIGNATED FOR PUBLICATION

No. 113,249

IN THE COURT OF APPEALS OF THE STATE OF KANSAS

KAW VALLEY BANK,
Appellant,

v.

KANZA CAPITAL, LLC, et al.,
Appellees.

MEMORANDUM OPINION

Appeal from Shawnee District Court; LARRY D. HENDRICKS, judge. Opinion filed January 15,
2016. Reversed.

Bradley R. Finkeldei, of Stevens & Brand, LLP, of Lawrence, for appellant.

Timothy D. Resner and Randall J. Forbes, of Frieden, Unrein & Forbes, LLP, of Topeka, for
appellees.

Before MCANANY, P.J., POWELL, J., and DAVID J. KING, District Judge, assigned.

Per Curiam: This appeal arises from the district court's ruling regarding the
disposition of a $400,000 certificate of deposit (CD) pledged to the Kaw Valley Bank
(Bank) as part of the security for a $3.42 million commercial real estate loan.

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Facts

The events leading to this appeal began in August 2009 when Kanza Capital, LLC,
gave its promissory note to Kaw Valley Bank in exchange for the Bank's loan to Kanza
Capital for the construction of a parking garage and a commercial and residential
condominium building in downtown Topeka. Along with a mortgage on the property and
the assignment of rents and personal guaranties, the loan was secured by a $400,000 CD
owned by Steve Hutchinson, one of the personal guarantors of the loan.

The $400,000 CD was created when Hutchinson deposited $400,000 in the Bank.
Hutchinson pledged the CD as collateral for the loan. From its inception, the CD
remained in the physical custody of the Bank.

Later, after the closing on the loan and with the Bank's consent, Hutchinson
assigned the CD to Kanza Construction. The Bank conditioned the assignment on the
Bank retaining its security interest in the CD. In fact, neither Hutchinson nor Kanza
Construction ever asked the Bank to release its security interest in the CD when
Hutchinson transferred it to Kanza Construction. The Bank continued to hold the CD
after Hutchinson transferred its ownership to Kanza Construction.

In order to memorialize the Bank's continuing security interest in the CD, the Bank
required Kanza Construction to sign a continuing guaranty and to formally pledge the CD
as security for the loan. The continuing guaranty was back dated to the August date of the
original loan documents. As the district court found in its memorandum decision, the
Bank required Kanza Construction's continuing guaranty "'so that it was clear that the CD
secured . . . that extension of credit to Kanza Capital, LLC, and that there wasn't any
change in the collateral being held by the bank.'"
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In February 2012, permanent financing for the project was accomplished when the
loan was renewed. The August 2009 pledges of the $400,000 CD as collateral were
specifically included as collateral for the renewed note. Kanza Construction's and
Hutchinson's guaranties and security agreements covering the $400,000 CD remained in
full force and effect.

Kanza Capital defaulted on the promissory note. In June 2012 the Bank sent
Kanza Construction a letter of default, accelerating the entire amount due on the loan.
The Bank exercised its rights in the $400,000 CD, applied the CD proceeds to the amount
due on the promissory note, and commenced this foreclosure action.

When the matter came before the court for trial, Kanza Construction argued in its
trial brief that applying the $400,000 CD to the debt was improper because there was no
event of default. The district court rejected this argument and ruled that the Bank's notice
of default was proper and that an event of default had occurred. The court also found that
the Bank gave a valid notice of default and was therefore entitled to set off the checking
accounts, foreclose on the mortgage, and collect against Hutchinson and his wife, the
other guarantor, and against Kanza Capital.

The district court then considered sua sponte, and without any notice to or
argument by the parties, whether Kanza Construction's guaranty agreement was
supported by adequate consideration. While the lack of consideration was asserted as an
affirmative defense in the joint answer filed by the various defendants ("One or more of
the Plaintiff's claims are barred by a lack of sufficient consideration."), the record does
not disclose that this defense was ever pursued in pretrial proceedings or at trial.
Nevertheless, the court ruled that Kanza Construction's 2009 continuing guarantee was
void of lack of consideration.
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The district court concluded that the Bank improperly set off the $400,000 CD and
accordingly granted judgment to Kanza Construction against the Bank in that amount.
The Bank's appeal now brings the matter to us.

Analysis

The Bank relies on the Uniform Commercial Code, K.S.A. 2014 Supp. 84-9-
315(a)(1), as support for its position that the Bank was entitled to enforce its security
interest in the $400,000 CD and apply the CD to the debt after Kanza Capital defaulted
on the note.

 Standard of Review

The district court's ruling on the enforceability of the CD is a matter of law over
which our review is unlimited. Gannon v. State, 298 Kan. 1107, 1175-76, 319 P.3d 1196
(2014). It also involves the interpretation of a statute, which is a matter over which we
have unlimited review. Neighbor v. Westar Energy, Inc., 301 Kan. 916, 918, 349 P.3d
469 (2015).

 Preservation of the Issue

The guarantors challenge our consideration of this issue because the Bank did not
raise it before the district court. As a general rule, we will not review issues raised for the
first time on appeal. But there are three recognized exceptions to this rule: (1) when the
newly asserted theory involves only a question of law arising from proved or admitted
facts and is finally determinative of the case; (2) when consideration of the theory is
necessary to serve the ends of justice or to prevent the denial of fundamental rights; and
(3) when the judgment of the trial court may be upheld on appeal despite its reliance on
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the wrong ground or having assigned a wrong reason for its decision. In re Estate of
Broderick, 286 Kan. 1071, 1082, 191 P.3d 284 (2008), cert. denied 555 U.S. 778 (2009).

As to the first exception, whether its security interest continued in the CD after the
assignment to Kanza Construction under K.S.A. 2014 Supp. 84-9-315(a)(1) is a question
of law arising from proved or admitted facts. Resolution of this question will be
determinative of the final outcome of the case. The guarantors contend that a fact issue
remains regarding the Bank's consent. But they concede that the Bank required Kanza
Construction to sign the guaranty in order to make clear that there was not a change in
collateral being held by the Bank. It is undisputed that the Bank did not release the CD as
collateral for the loan when it agreed to allow Hutchinson to transfer the CD to Kanza
Construction. Thus, there is no fact question to be resolved. The only question remaining
is a question of law.

Further, consideration of the Bank's theory under the Uniform Commercial Code
is necessary to serve the ends of justice or to prevent the denial of fundamental rights.
The validity of the Bank's security interest in the CD was never challenged at trial. Thus,
the Bank had no occasion to address it. It only became an issue after the district court's
decision. The district court ruled on the Bank's continuing security interest sua sponte,
without providing notice to the parties before trial, at trial, or allowing the parties to
address the issue in posttrial proceedings. The Bank had no notice that the defendants
were challenging its continuing security interest in the CD on any grounds other than the
guarantors' theory that the Bank's notice to the guarantors was defective. Under these
circumstances, we will consider the issue of law raised in the Bank's argument based on
the Uniform Commercial Code.

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 The Bank's Continuing Security Interest

K.S.A. 2014 Supp. 84-9-315(a)(1) provides: "A security interest or agricultural
lien continues in collateral notwithstanding sale, lease, license, exchange, or other
disposition thereof unless the secured party authorized the disposition free of the security
interest or agricultural lien." See K.S.A. 2014 Supp. 84-9-201(a) ("[A] security
agreement is effective according to its terms between the parties, against purchasers of
the collateral, and against creditors.").

At the time of the closing on the construction loan Hutchinson owned the
$400,000 CD, and he pledged it as collateral for the note. About a month later,
Hutchinson transferred the $400,000 CD to Kanza Construction. Hutchinson did not ask
for or obtain a release of the Bank's security interest. Rather than agreeing to release its
security interest, the Bank retained possession of the CD and, as a condition of the
assignment, required the assignee, Kanza Construction, to sign a guaranty and security
agreement contemporaneous with the assignment to specifically memorialize the Bank's
continuing security interest in the CD. The guarantors admit, and the district court found,
that the Bank required Kanza Construction to sign the continuing guarantee "'so that it
was clear that the CD secured . . . that extension of credit to Kanza Capital, LLC, and that
there wasn't any change in the collateral being held by the bank.'" In 2012, when the
construction loan was converted to permanent financing, the defendants did not object to
the identification of the CD as collateral.

The district court erroneously concluded that the transfer of the CD eliminated the
Bank's security interest in the CD. Under K.S.A. 2014 Supp. 84-9-315(a)(1), the Bank's
security interest remained unless the Bank authorized the disposition free of the security
interest. See In re Sunbelt Grain WKS, LLC, 427 B.R. 896, 902-03 & n.11 (D. Kan. 2010)
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(even if a sale has occurred, the secured party's interest in collateral continues if a buyer
is not a buyer in ordinary course).

The Bank did not authorize the disposition of the CD "free of its security interest."
K.S.A. 2014 Supp. 84-9-315(a)(1). Rather, the Bank had Kanza Construction sign a
guaranty specifically so that it was clear that the CD secured the extension of credit to
Kanza Capital and remained as collateral for that loan.

Under K.S.A. 2014 Supp. 84-9-315(a)(1), the Bank's security interest continued in
the $400,000 CD because the assignment of the CD from Hutchinson to Kanza
Construction was done on the express condition that the Bank's security interest in the
CD would survive the assignment. The district court erroneously found that the Bank's
security interest had ended and that the Bank was not entitled to enforce its security
interest. To the contrary, we conclude that the Bank was entitled to enforce its security
interest in the CD and apply the $400,000 CD to set off the debt after Kanza Capital
defaulted under the terms of the note.

 Lack of Consideration

In oral argument before us the defendants conceded that if K.S.A. 2014 Supp.
2014 84-9-315(a)(1) applies and the Bank's security interest in the CD remained after
Hutchinson's assignment of it to Kanza Construction, then the issue of the consideration
for Kanza Construction's guaranty is moot. Based on our analysis above, we conclude
that the Bank's security interest in the CD survived the assignment to Kanza
Construction. Thus, the consideration issue is now moot, and we need not consider it
further.

Reversed.