Cengage Advantage Books: Fundamentals of Business Law Today 10th Edition by Roger LeRoy Miller

Exercise 24

FACTS Sam and Odalis Groome entered into two contracts with Alpacas of America, LLC (AOA), to buy a pair of alpacas-named "Phashion Model" and "Black Thunder's Midnight." To finance the purchases, the buyers signed two notes for $18,750 and $20,250, respectively. Each note included a reference to a contract, outlined a payment schedule, and contained a security agreement, which provided an interest in the alpacas to secure payment. Within a few months, the Groomes stopped making payments.
More than four years later, AOA filed a suit in a Washington state court against the Groomes to collect the unpaid amounts. The court ruled that the notes were not negotiable instruments but instead were part of the sales contracts. As a result, the court applied the UCC's four-year statute of limitations on contract actions (in Article 2) to dismiss the suit. AOA appealed, arguing that the notes were negotiable and thus fell within the six-year statute of limitations on actions to collect under the UCC's Article 3.
ISSUE Were the notes negotiable despite containing references to the underlying contracts?
DECISION Yes. A state intermediate appellate court reversed the ruling of the lower court. The notes contained unconditional promises to pay. Because the notes were negotiable, they were subject to Article 3's six-year limit on actions to collect, and AOA could go forward with its claim.
REASON The Groomes argued that the notes were not negotiable for three reasons. Each note stated that the holders' indebtedness arose "pursuant to" one of the contracts. UCC 3-106(a) provides that "a reference to another writing does not of itself make the promise or order conditional," however. "Pursuant to" does not condition a promise to pay because the phrase is only part of a reference-it does not provide that something else controls or conditions the promise.
Each note contained a security agreement that referred to its underlying contract as the source to be consulted to determine the property covered by the agreement. UCC 3-106(b) states that a promise is not made conditional by a "reference to another writing for a statement of rights with respect to collateral." Nothing in the security agreement's reference conditioned the promise to pay.
Finally, the note to finance the purchase of Black Thunder's Midnight referred to the underlying contract as the source to be consulted to determine the procedure for giving notice to collect. But, as with the other references cited by the Groomes, this language did not condition the promise to pay.
FOR CRITICAL ANALYSIS-Legal Environment Consideration If AOA's suit had fallen within the four-year statute of limitations of the UCC's Article 2, could the seller have filed its claim on either the contracts or the notes? Explain.