One of the key elements of due diligence when buying a business is to obtain and review Uniform Commercial Code (“UCC”) searches. Whether the acquisition is structured as an asset purchase agreement or a stock or membership interest purchase agreement, it is important for the purchaser to ascertain whether there are any security interests encumbering the target business’ assets and, in the case of a stock or membership interest purchase, the stock or membership interests of the company.
The proper place to search for UCC financing statements filed against the assets of an individual or an entity (referred to in this primer as a “debtor”) is the Secretary of State’s Office of the state where the debtor is located. For most entities, the location of the debtor is the state where the entity is organized, incorporated, or formed. Individuals are located in the state where their principal residence is located. See Section 4-9-307 C.R.S. Please note that this primer does not cover fixture filings, which should be filed with the clerk and recorder of the county where the real property in question is located, state and federal tax liens, or judgment liens.
When searching the UCC records, it is very important to search the exact name of the debtor. For most entities, the name of the debtor is the name as it appears on its organizational document filed with the Secretary of State (e.g. Articles of Incorporation or Articles of Organization). See Section 4-9-503(a)(1) C.R.S. It is more complicated if the debtor is an individual, and, as is the case when dealing with any legal issue under Article 9 of the UCC, the UCC, as adopted by the state in question, should be reviewed for any variances from Revised Article 9 of the UCC. In Colorado, there are three options for the name of an individual debtor: (i) the safe harbor is the name as it appears on an unexpired Colorado driver’s license or identification card issued pursuant to part 3, article 2 of title 42, C.R.S.; (ii) the individual name of the debtor; or (iii) the surname and first personal name of the debtor. See 4-9-503 C.R.S. Accordingly, if the location of the individual debtor is in Colorado, one should search all three name options to make sure that all applicable UCC financing statements are reviewed.
Filing UCC financing statements in the appropriate Secretary of State’s office is the correct method to perfect a security interest in many types of personal property collateral. Perfection generally means that a secured party’s security interest in such personal property is enforceable against third parties (e.g. lien creditors of the debtor or purchasers). However, perfection only applies if a security interest has attached to the personal property collateral. Section 4-9-203 of the Colorado UCC provides for attachment of a security interest. In general, a security interest attaches to collateral if:
“(1) Value has been given;
(2) The debtor has rights in the collateral or the power to transfer rights in the collateral to a secured party; and
(3) One of the following conditions is met:
(A) The debtor has authenticated a security agreement that provides a description of the collateral and, if the security interest covers timber to be cut, a description of the land concerned;
(B) The Collateral is not a certificated security and is in the possession of the secured party under section 4-9-313 pursuant to the debtor’s security agreement;
(C) The collateral is a certificated security in registered form and the security certificate has been delivered to the secured party under section 4-8-301 pursuant to the debtor’s security agreement; or
(D) The collateral is deposit accounts, electronic chattel paper, investment property, letter-of-credit rights, or electronic documents, and the secured party has control under section 4-7-106, 4-9-104, 4-9-105, 4-9-106, or 4-9-107 pursuant to the debtor’s security agreement.
Please note that there are many other due diligence items that must be completed in connection with the acquisition of a business and many other types of liens that may encumber the assets of the business (e.g. federal and state tax liens and judgment liens). This short primer is intended to provide a summary of the fundamental aspects of UCC searches and the attachment and perfection of certain UCC security interests. Please feel free to call me at (303) 333-9810 with any questions or if you need assistance with the purchase or sale of a business.