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What's the Difference Between a "Consignment" and a "Sale or Return"?

Understanding the Legal Differences in Conditional Sales

A wholesaler of goods may, at times, wish to accomplish a conditional sale of its goods to a retailer. The retailer may wish to obtain certain levels of inventory that it could not otherwise finance, and the vendor may be able to obtain certain sales that it would not otherwise have by agreeing to take some level of the delay and risk associated with the resale of its goods. Sometimes, however, vendors can become confused or not even recognize the legal distinction between the two types of legal structures involved in a conditional sale: the consignment or the "sale or return."

Consignments

Perhaps the most familiar of these two legal forms is the transfer of goods by a vendor on "consignment" or on "memorandum." A consignment is not a "sale" in the true technical sense of the word since it does not consist of the "passing of title from the seller to the buyer for a price" (UCC Section 2-106[l]). Rather than constituting an actual sale, in the consignment, the "buyer" is actually an agent for the vendor with an option to take title to the goods in the event the goods are sold to a third party. Thus, technically, the goods remain the property of the vendor (consignor) until they are sold by the consignee to some third party. Until such a sale occurs, and in the absence of an agreement otherwise, the consignor has the right to terminate the consignment and retake its goods. In legal jargon, a true consignment is really an "agency coupled with a bailment" and basically governed by the law of agency and service contracts.

Sale or Return

By comparison, a "sale or return" is a much different legal animal. It is in fact a true sale, with the passage of title from a seller to a buyer for a price (UCC section 2-106[1]). The buyer in this type of transaction is therefore a true purchaser, unlike a mere consignee. However, the sales transaction differs from the traditional sale in that (1) it is made in contemplation of resale, and (2) it accords the buyer a right of return should the property fail to resell, For example, a book publisher might sell a number of best-sellers to a bookstore at a certain price for resale, with the bookstore free to return all unsold items for the same or a lower price at a subsequent date and time. In legal jargon, if the goods subject to the contract can be returned by the buyer, even though otherwise conforming to the contract, then the transaction is a sale or return if the goods are sold for resale (UCC Section 2-326[1]).

Buyer's Rights to Return Goods to Vendor

A buyer retains the right to return the goods to the vendor under either a consignment or sale or return transaction. In a consignment, the buyer can return the goods at any time, unless. the contract provides otherwise. A sale or return also provides for the buyer to be able to return the goods to the vendor. However, the buyer can only return goods that are substantially in their original condition and must return the goods "seasonably." Furthermore, the buyer can return either the whole or part of them in "commercial units" of the goods (UCC Section 2-327[2][a]).

Vendors' Limited Right to Return of Goods

One key distinction between the consignment and the sale or return is in the vendor's lack of ability to cause the return of its goods in the sale or return. Unless the contract provides otherwise, the consignment "vendor" retains title to the goods and has the legal right to have them returned at any time. By contrast, in the sale or return, the vendor has no right to the return of its goods prior to the buyer's tendering the goods back. Once again, this assumes that nothing in the agreement provides otherwise.

Bankruptcy Issues Affecting Consignments and Sale or Return Transactions

Although the consignment vendor retains the right to its goods (because it has not transferred title), many a consignor has been discouraged to realize that the law requires that the consignor file a UCC-l financing statement in order to protect those goods from the third party creditors of the consignee. In the absence of such a UCC filing, a consignor becomes a mere unsecured creditor with no rights in specific goods vis-a-vis the third party creditors or the bankruptcy estate of the buyer. Of course, in the sale or return transaction, the situation is no better for the vendor. In the sale or return, the vendor has actually transferred title to the buyer, and the buyer's right to return the goods does not mean that the vendor has the right to any particular goods in the buyers hands. Thus, in order to protect the vendor's interest in its goods, in both the consignment and the sale or return transactions from third party creditors, the vendor must obtain a security interest from the buyer, and obtain the rec ording of a UCC-1 financing statement. In order to grant such security interest priority over other creditors with a lien in the same type of goods, a vendor in either the consignment or sale or return transaction must file a UCC-1 financing statement, and give notice to such pre-existing lienholder(s)--prior to the vendor's delivery of goods to the buyer (UCC Section 9-114).

Some vendors find it useful to have a security interest grant in the credit application signed by the buyer at the time of initially doing business. This way the vendor need only record a UCC-1 financing statement and give the required notices to obtain purchase money priority. If the vendor wants to be extra protective of its rights in a sale or return, it would not only provide for a grant of a security interest in the goods being sold, but would also provide specific instances of default whereby the vendor would have the right to force the buyer to return its goods in the event of default.

Conclusion

It is important for a vendor to understand the key distinctions between the consignment transaction and the sale or return. Recognizing the distinctions and drafting protective agreements around each type of transaction will provide the best foundation for a successful conditional sale transaction.

Daren R. Brinkman, Esq. is a principal of Brinkman & Associates in Los Angeles, CA.
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Title Annotation:legal aspects of conditional sales
Author:Brinkman, Daren R.
Publication:Business Credit
Article Type:Brief Article
Geographic Code:1USA
Date:Sep 1, 2001
Words:1076
Previous Article:Professional Courtesy.
Next Article:The Workings of The Statement of Cash Flows.
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