In a recent case in the Commercial Court that will be of interest to trade financiers, problems arising from a poorly drafted document (and poor administration) are highlighted.

In this case, the financier provided finance by purchasing goods that had been ordered by its customer which it would then on-sell to the customer on terms that title would pass to the customer only once it had paid for the goods. It is fundamental to such a transaction that the financier retains title to the goods unless other adequate security is available. Accordingly, the "finance agreement" (in fact, a poorly drafted letter) included a reference to the sale being "with reservation of title". However, retention of title clauses are susceptible to being challenged and it is therefore extremely important for the finance agreement to be properly drafted.

The legal issues that need to be considered in relation to this type of finance and which are discussed in the judgment include:

  • Timing of implementation: to ensure that there can be no argument that the transaction is to be implemented upon signing and not at some point in the future. Although in this case the judge sided with the financing company by looking at the presumed intention of the parties, it is clearly preferable to make this absolutely clear.
  • Implied authority for the customer to sell the goods: if the finance company is aware (which will frequently be the case) of an intended sale of the goods by the customer, the company should require, in addition to a retention-of-title clause, the assignment to it of the debt owing from the customer to its client which should be notified to the third party customer.
  • Whether the customer is a mercantile agent: the danger with releasing (or permitting the release of) goods under a Trust Receipt is that the financier’s client (which is likely to be a distributor of the goods or at least a trader) could be deemed to be acting as a mercantile agent, such that it could pass title to the goods to an innocent third party under s.2 Factors Act 1889 (and case law).
  • Knowledge of the third party as to the authority of the customer to sell: the finance company should ensure that the third party is made aware of the retention-of-title clause under the finance agreement. This would prevent the third party from acquiring a clean title from the financier’s client under the Factors Act.
  • Whether the customer can sell under s.25 SGA 1979: if the financier’s client obtains possession of the goods with the consent of the finance company, it can pass a good title to the goods to a third party who receives the goods in good faith and without notice of any right of the finance company.

Contribution was also made by Daniel Hennis.

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The original publication date for this article was 08/12/2006.