United States Leather, Inc. v. Mitchell Manufacturing Group, Inc.

Defendants, Mitchell Manufacturing Group, Inc., now known as Mitchell Automotive, Inc. (Mitchell Automotive), and its parent corporation, Mitchell Corporation of Owosso (Mitchell Corp.), appeal from the district court's order granting plaintiff's motion for determination of interest in real property and denying Mitchell Corp.'s motion to set aside the garnishment of lease payments on that property. These post-judgment motions arose out of the efforts of plaintiff, United States Leather, Inc. (USL), to enforce the judgment of over $1.5 million entered in this case against Mitchell Automotive, which owned real property and a manufacturing facility located in Clare, Michigan. Mitchell Corp., as a secured creditor of its subsidiary, asserted that it had a superior interest in the property.

The district court, adopting the magistrate judge's report and recommendation, found that the security interest claimed by Mitchell Corp. had been extinguished by merger of the title and mortgage when the property was reconveyed to Mitchell Automotive by deed in lieu of foreclosure. Consequently, USL's levy on the property and its garnishment of rents were to be sustained and enforced. Defendants argue that the district court erred by (1) ruling that the deed merged into the mortgage; (2) failing to determine whether the levy was proper; and (3) failing to afford defendants a jury trial or evidentiary hearing pursuant to Mich. Comp. Laws Ann. § 600.6128.

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Formed in 1996 as a wholly-owned subsidiary of Mitchell Corp., Mitchell Automotive manufactured and sold leather products for use in automobile interiors. Mitchell Automotive purchased a substantial amount of finished leather from USL and, by early 1998, had built up a debt to USL of more than $1.5 million. At the same time, Mitchell Corp. had booked more than $4.5 million in inter-company loans to its subsidiary. Given its financial troubles, which it attributed to NAFTA, Mitchell Automotive found a minority-owned buyer that they hoped could secure additional automobile manufacturer contracts.

On April 22, 1998, Lamont Group, Inc., and Lamont Group Acquisition Corporation, purchased Mitchell Automotive's assets, including the Clare facility, for a total of $27.5 million. The Lamont Group paid with $6.5 million in cash and two promissory notes for the balance. To secure the notes, the Lamont Group granted Mitchell Automotive a security interest in the purchased assets and a mortgage on the Clare facility. Also, the debt owed to USL was assumed by the Lamont Group. On April 28, 1998, within days of the sale, USL filed this diversity action to recover on the debt.(2)

On May 27, 1998, Mitchell Automotive granted Mitchell Corp. a continuing security interest in all its personal and intangible property, including all "instruments," to secure any and all existing and future indebtedness. The security agreement was signed by Helen Malik as Secretary and Treasurer for both Mitchell Corp. and Mitchell Automotive. It is undisputed that Mitchell Corp. obtained a security interest in the Lamont Group's mortgage and promissory notes through this agreement.(3)

The Lamont Group defaulted and, on November 13, 1998, surrendered possession of all personal property that constituted collateral subject to its indebtedness to the first secured creditor. The Lamont Group also delivered to Mitchell Automotive a quitclaim deed in lieu of foreclosure for the Clare property, which stated in pertinent part:

It is [Lamont's] intent to convey and transfer absolute title to the above described premises to [Mitchell Automotive], free of any equity of redemption. It is expressly understood and agreed that the execution and delivery of this Deed shall not in any manner be deemed to be a merger with or the extinguishment of the Mortgage or constitute a reduction of the indebtedness secured thereby. The Mortgage and the entire indebtedness secured by the mortgage is and remains in full force and effect . . . provided, however, [that] the recourse obligation of [Lamont Group] . . . under that certain Asset Purchase Agreement dated April 22, 1998 shall be reduced by the sum of Six Million Dollars ($6,000,000).

Mitchell Automotive held both title to and the mortgage on the property.

On January 29, 1999, a consent judgment in favor of USL was entered against Mitchell Automotive, the Lamont Group, Inc., and Lamont Group Acquisition Corporation, jointly and severally, in the sum of $1,534,730.60, plus interest. USL conducted a creditor's examination, during which Helen Malik testified as the representative of Mitchell Automotive.

On May 26, 1999, USL levied on the personal property of Mitchell Automotive at its offices in Owosso, Michigan. The levy officer arrived with three trucks and several assistants to take possession of the personal property. In order to avoid the cost of transportation and storage, Mitchell Automotive, through counsel, agreed that the officer would have complete control over the sale of all of Mitchell Automotive's personal property; that Mitchell Automotive would not sell, move, or dispose of any of its personal property; and that its remaining personal property was not sufficient to satisfy the judgment. With that understanding, the levy officer did not take possession of the property.

On June 1, 1999, Mitchell Corp. advised USL that it intended to assert a priority interest in the assets of Mitchell Automotive pursuant to its security agreement dated May 27, 1998. On June 7, 1999, Mitchell Corp. claimed to have "peaceably repossessed" the remaining personal property of Mitchell Automotive pursuant to the security agreement. On June 10, 1999, USL filed a formal Notice of Levy against the Clare property.

In July 1999, USL served a periodic garnishment on the tenant that was paying to use the Clare facility. Mitchell Corp., claiming an interest in the Clare property, filed a motion to set aside the periodic garnishment. USL received a total of $46,000 in garnished periodic lease payments before the lease was terminated. Then, on August 27, 1999, USL filed its motion for determination of interests in the property of Mitchell Automotive, arguing that Mitchell Corp.'s security interest was extinguished by merger, was not perfected, was fraudulent, and that the corporate form should be disregarded. The Mitchell defendants filed a joint response on September 16, 1999.

These post-judgment motions were referred to the magistrate judge who, after briefing and oral argument, issued his report and recommendation (R&R) on March 15, 2000. The magistrate judge concluded (1) that the mortgage and security interest in it should be deemed to have been extinguished in November 1998; and (2) that Mitchell Corp. had failed to perfect its security interest until after USL's garnishment and levy of personal property. On March 27, 2000, the Mitchell defendants jointly filed objections to the R&R and a separate demand for jury trial. USL responded to the objections.

The district court adopted the magistrate judge's report and recommendation, agreeing that merger extinguished Mitchell Corp.'s security interest and finding that the remaining objections would not alter the outcome. Accordingly, the court denied the motion to set aside garnishment, granted USL's motion for determination of interest in its favor, and sustained the garnishment of rents and levy on the Clare property. This appeal followed.

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Affirmed

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