Demery worked as a bookkeeper at Clinton Georg’s business, Freestyle, until Georg discovered that she had embezzled more than $200,000 and had failed to pay $240,000 in state and federal taxes owed by Freestyle. Georg fired Demery and said that if she did not repay the embezzled funds, he would notify the authorities.

Demery went to work as a bookkeeper for Metro Fixtures, a company owned by her parents. Without authorization, she wrote a check to Freestyle for $189,000 out of Metro’s account and deposited it to Freestyle’s checking account. She told Georg that the check was a loan to her from her family to enable her to repay him. Georg used the funds to pay his back taxes.

Two years later, Metro discovered Demery’s theft and sued Georg and Freestyle for conversion (see Chapter 6) because Demery had no authority to take the funds. The trial court held that Freestyle was a holder in due course (HDC) and granted summary judgment. Metro appealed. The appeals court reversed, holding that because Demery had deposited the check directly into Freestyle’s account, Freestyle could not have been an HDC, as it never had actual possession of the check. Georg and Freestyle appealed.

IN THE LANG UAGE OF THE COURT

HOBBS, Justice. * * * *

A check is a negotiable instrument. The holder in due course doctrine is designed to encourage the transfer and usage of checks and facilitate the flow of capital. An entity may qualify as a holder in due course even if the instrument at issue may have passed through the hands of a thief. [Emphasis added.] A holder in due course must meet five conditions: (1) be a holder; (2) of a negotiable instrument who took it; (3) for value; (4) in good faith; (5) without notice of certain problems with the instrument.

To be a holder one must meet two conditions * * * : (1) he or she must have possession (2) of an instrument drawn, issued, or indorsed to him or her. Possession is an element designed to prevent two or more claimants from qualifying as holders who could take free of the other party’s claim of ownership. With rare exceptions, those claiming to be holders have physical ownership of the instrument in question.

An otherwise authorized signature on a negotiable instrument is not converted into an unauthorized forgery when an agent, authorized to sign negotiable instruments in his principal’s name, abuses that authority by negotiating the instrument to a holder in due course for the agent’s own personal benefit. Section 4–201(a) [of Colorado’s UCC statute] states that a collecting bank “is an agent or sub-agent of the owner of the item.” Further, the statute states, “This provision applies regardless of the form of indorsement or lack of indorsement * * *.” A check payable to a party and deposited in that party’s account makes the party the “owner” of the check under the UCC. Further, the [well-known] treatise on the UCC speaks to a collecting bank as an agent for the owner’s possession:

Sometimes the one claiming to be a holder in due course will not have possession of the instrument at the time of the suit. When a collecting bank holds the check, the solution is simple for section 4-201 makes that bank the agent of the owner of the check. Under traditional analysis, the agent’s possession would be the owner’s possession and thus the owner would have “possession.”

Thus, there are circumstances wherein requiring actual physical possession of the instrument would be problematic and constructive possession applies. Nevertheless, a determination of constructive possession should occur only when delivery is clearly for an identifiable person under circumstances excluding any other party as a holder in due course. [Emphasis added.] * * * *

Colorado’s UCC intends to promote reliability on issued instruments, not to undermine their efficacy by placing the burden on the person to whom it is issued to determine a check’s validity. Metro’s recourse is not against Freestyle, but rather against its agent employee for breaching her fiduciary duty to the company.

Having reviewed the holder in due course elements in light of the undisputed facts of the case, we determine that Freestyle was a holder with constructive possession of a negotiable instrument, which was given for value and taken in good faith without notice of a forgery or an unauthorized signature. Accordingly, we reverse the judgment of the court of appeals and remand with directions that the court of appeals return this case to the district court for entry of judgment in favor of Freestyle.

DECISION AND REMEDY The Colorado Supreme Court reinstated the verdict of the trial court and held that Freestyle had received the check in good faith, not knowing it involved theft. Demery was the wrongdoer in this case, and either Metro or Freestyle would have to absorb the loss. Because Freestyle had no reason to know of the theft and Metro did not take steps to prevent it, the loss should fall on Metro.

WHAT IF THE FACTS WERE DIFFERENT? Suppose that Demery had gone to work for a company with which she had no relationship and had stolen funds from it to pay Georg. Would Georg then be the more innocent party? Why or why not?

THE ETHICAL DIMENSION Since Georg knew that Demery had previously embezzled funds from Freesytle when she was an employee, shouldn’t he have been suspicious about the source of the funds that Demery was using to repay Freestyle? Why did the court conclude that Freestyle acted in good faith in accepting the check?

Answer rating: 100% (QA)

What if the Facts were Different That would make Fs case quite weak G did not r... View the full answer