E-Commerce and the Secured Creditor - The Wonders (and Damages) of Modern Technology

Point. Click.  Buy.  While the Internet may have started as an advanced communications link for university scientists and the like, it has evolved into the preferred mode of data exchange for millions of computer users worldwide.  One of the most explosive areas of recent growth has been the development of “e-commerce,” the nickname given any transaction in which one party buys or sells goods or property to another over the Internet.  While many conduct e-commerce transactions to buy consumer goods such as books (e.g., Amazon.com), toys (E-Toys) or collectibles (eBay), e-commerce is seen as revolutionizing commercial transactions between major corporations.  While projections about Internet usage have dramatically underestimated actual usage, a conservative estimate of e-commerce usage predicts that more than $1.3 trillion of goods and services will be procured over the Internet in 2003.(1)

While this new medium of exchange brings speed, inventory control, and reduced transaction costs to the procurement process model, current legal rules designed to secure the rights of sellers or lenders in such transactions have been slow to match the speed of the Internet.  The purpose of this article is to survey current and proposed changes to existing laws and technology which generally apply to such transactions.

Uniform Electronic Transfers Act

One of the most significant Internet- related legal developments is the Uniform Electronic Transactions Act, or UETA.  Promulgated by the National Conference of Commissioners on Uniform State Laws in July 1999, more than 11 states have enacted UETA in one form or another, and UETA legislation is pending in another 15 states.(2)

Simply put, UETA removes the Statute of Frauds as a potential bar to enforcement of a contract created by communication over the Internet.  In lieu of the signature requirement, a contract created over the Internet will be enforceable under UETA if the evidence suggests that both parties intended to establish a contractual relationship by use of the Internet.  For example, if buyer visits Company A’s Web site and places an order through an area of the Web site specifically dedicated to sales, it is reasonable to infer that buyer and seller intended to enter into a contract which would be deemed enforceable under UETA. Similarly, the language in repeated e-mail correspondence between two parties may also establish the intent to form a contract as required under UETA.  However, if that e-mail correspondence establishes that one of the parties intends to rely upon more “traditional” means (“I will send you a purchase order by FedEx”), UETA , in all likelihood, will not apply, and the establishment of a contract will depend upon traditional contract analysis.(3)

While somewhat revolutionary to the extent it negates the Statute of Frauds, UETA only addresses one of the “easier” legal issues raised by the e-commerce revolution.  Not only can contracts be formed over the Internet, but the entire transaction can take place without either party ever leaving his or her computer.  For example, one can procure software, movies, or “books” over the Internet, and by providing a credit card number the “good” can be downloaded directly into your computer.  While the speed and efficiency of this transaction is a benefit to both parties, myriad unanswered questions remain – terms and conditions of warranties, jurisdiction and restrictions on dispute resolution, privacy and security issues, potential application of foreign law, etc.  While legislative solutions are being discussed about these issues, the prudent course of action would be to use “traditional” modes of commerce to deal with these issues until an enforceable alternative is approved.

Liens and Mortgages in Electronic Commerce

While UETA legitimizes contracts formed through e-commerce, contractual relations alone provide little security for the seller or financier of commercial transactions.  The limited security provided by contractual relations, without more, lead to the development of uniform forms of “security,” such as the chattel mortgage, deeds of trust, and letters of credit.  While Internet users may adopt these modes of commercial dealing in the future, it is clear that these methods are generally inapplicable to transactions completed over the Internet.

The clearest example of the Internet’s shortfall concerns real property transactions.  While UETA would permit parties to form a contract to buy or sell a parcel of real estate, the Internet cannot, at the present time, accommodate recording procedures available under state law.  Thus, while a contract to buy or sell real property might be valid between two Internet users, the transaction could not be “completed” over the Internet from the standpoint of third parties, i.e. no preference would be given either the sale or any loan made in support of such a transaction unless traditional documents (deed, mortgage, deed of trust) were prepared and filed with the appropriate recording agency.

Similarly, while UETA does validate a contract to sell goods that might also qualify for recognition under Article 2 of the Uniform Commercial Code (UCC), this validation does not extend to a Security Agreement that would fall under Article 9 of the UCC.  Like the real property analogy, preference rights against third parties are usually as important to a major commercial transaction as the deal itself.  While recent amendments to Article 9 of the UCC permit states to allow electronic filing, Article 9 still requires the creation of a separate document (albeit one that may never exist in paper form) in accordance with the requirements of Article 9.  Thus, except for the usual exceptions for transactions involving consumer goods, a purchase money security interest enforceable against third parties cannot be created over the Internet.

Conclusion

Consumers have established the Internet as the leading, if not dominant, communications medium for the new millennium.  However, new legal rules need to be established to satisfy the security concerns of the established financial and industrial markets.  Until the legislative scheme catches up with the Internet, the careful lender and/or seller must recognize that the “bricks and mortar” protections available under existing laws offer the most reliable forms of security.

1.  Robert D. Hof, “What every CEO Needs to Know About Electronic Business:  A Survival Guide,” Business Week, (March 22, 1999).

2.  Versions of UETA have been enacted in Maryland, Idaho, Indiana, Kentucky, Minnesota, Nebraska, South Dakota, Utah, Virginia, Pennsylvania and California.  UETA is pending in the states of Alabama, Arizona, Delaware, Florida, Hawaii, Iowa, Maine, Michigan, Kansas, Ohio, Oklahoma, Rhode Island, Vermont and the District of Columbia.

3.  While UETA is now controlling in many states, Congress recently approved a bill which similarly validates contracts formed over the Internet.  On June 16, 2000, the Senate passed a conference report on the Millennium Digital Commerce Act (§ 761) which permits, in general, recognition contracts formed by electronic signature or other electronic records.  This act has been forwarded to the President for signature, which is expected in the near future.  The Millennium Digital Commerce Act specifically provides that it does not pre-empt UETA, as long as the version of UETA passed by an individual state does not interfere with or restrict interstate commerce and does not improperly limit the form(s) of electronic technology which may be used to form a valid contract.