Experienced surety practitioners are familiar with most forms of indemnity agreements and bonds. Payment, performance, and maintenance bonds are part and parcel of the trade, and these products often arise in the construction context. On a long enough timeline, the surety client will introduce a grain bond or agricultural commodity bond into the surety practitioner’s familiar world. At first blush, the practitioner may find comfort in the familiarity of the indemnity agreement and the bond. However, as the practitioner digs deeper, material differences must be observed to properly process the grain bond claim. Variations in state statutes render a straightforward analysis difficult.
This article is meant to serve as a primer for surety practitioners to use as a jumping off point as they embark on what may be an unfamiliar journey. It is also a cautionary tale that claims on less familiar “miscellaneous bonds” require our immediate attention to learn their specific characteristics.
During a grain harvest, grain producers (farmers) routinely gather their harvest and deposit grains into grain storage facilities owned by licensed operators. The grains are graded and receipts for the deposited grain commodities are given to the producers. The receipts can be exchanged later for grain from the same storage facility. In other words, the storage facility acts as a grain bank where the commodity can be deposited and later withdrawn. For instance, a producer may deposit an exact quantity (bushels) of grain with a certain grade and can later expect to receive the same amount and grade, or a different amount and grade with an equivalent value. The facility operator must keep and maintain sufficient stores to cover the deposits made by producers.
The harvested grains are comingled in the storage facility with the grains of other producers. Upon deposit, a bailment is created and the facility operator, who takes charge of the grain on behalf of the producer, must safeguard the grain from damages and keep sufficient stores. If the producer later returns to retrieve the grain, the grain bin must have sufficient grains on hand to cover the deposit to the producer. In this way, the deposit records kept by the facility operator are incredibly important.
Each state has its own requirements, governed by statute, for the issuance of a license to the storage facility operators. Those requirements include the demonstration of a minimum financial responsibility by the operator, and usually the issuance of a bond or irrevocable letter of credit to cover the deposits made by grain producers.
State departments of agriculture are given police powers to protect the public interest of the producers. Many states empower the committees or boards of the agriculture department to take control of the facilities and appoint receivers to distribute the assets of the facility, which can include the stored grains, letters of credit, bank deposits, and the bonds. The bonds obtained by the facility operator are issued for the benefit of the state and the facility operator is named as the principal.
Upon receipt of the notice of the bond claim, the surety practitioner should obtain the agreement of indemnity, the bond, and the records gathered by the state’s administrative authority to determine the validity of the claim or claims against the bond. Interviews are often obtained by the administrative authority, and independent investigation into the principal’s record keeping and practices is warranted. The principal’s bank records should also be reviewed.
In exchange for the issuance of a grain bond, the principal will typically execute a general agreement of indemnity (“GIA”). The GIA obligates the principal to indemnify the surety against all liability for losses, costs, damages, and expenses of whatever kind or nature, including attorney’s fees, that the surety may incur as a result of having issued bonds or as a result of the principal’s breach of the GIA. The principal is obligated to procure the release of the surety as against any claims on a bond, and if the principal fails to obtain release of the claims, the surety may proceed in its discretion to procure or attempt to procure its discharge. The principal is obligated to provide sufficient collateral upon demand of the surety, and the surety may use the collateral at any time to compromise or pay any claim, judgment, liability, or loss. The surety also has the exclusive authority to determine whether any claim, suit, or judgment shall be paid, compromised, defended, or appealed. The surety is sometimes bound to make this determination upon a “reasonable belief of liability.”
The surety practitioner will find familiarity in the GIA and the remedies provided therein. However, the practitioner must also carefully examine the laws, including agricultural regulations, of the jurisdiction where the claim arises to determine the proper procedures and the methods it uses to investigate, evaluate, and discharge the claim.
Grain bonds typically follow a prescribed form issued by the states. The bonds name the facility operator as principal and declare the penal sum of the bond. The bond binds the principal and surety to the state for “the benefit of all persons, firms, corporations or associations interested” in the amount of the penal sum of the bond.
The conditions of the bonds are such that, if the principal shall faithfully perform all of the duties of a licensed public warehouseman and if the principal complies with all of the obligations of the local state laws, then the obligations of the bond shall be void. Other state forms for grain dealers vary slightly, conditioning the bond upon principal’s breach of “one or more credit sale contracts issued under the principal's grain dealer license.”
Here the surety practitioner will find familiarity with the form of bond, which does not differ in material ways from a typical statutory bond used to discharge a mechanic’s lien. But again, state statutes often dictate the surety practitioner’s next steps and must be carefully observed.
Missouri Revised Statute § 411.275 sets forth the licensing and bond requirements for warehouse facility operators in Missouri. Missouri Revised Statute § 411.275(1) requires the facility operator to “file a bond other than personal security with the director executed by the warehouseman as principal and by a corporate surety.” The bond “shall be in favor of the state of Missouri for the “benefit of all persons storing grain” and “conditioned upon the faithful performance of (his or her) duties” relating to the storage of grain.
Missouri Revised Statute § 411.275(7) is the most interesting provision in this statute, and the section that must be most closely observed. It states that, upon demand of the Director of the Department of Agriculture (or designated representatives), the “surety shall either pay over to the director the sum demanded up to the full face amount of the bond or shall deposit the sum demanded in an interest-bearing escrow account at the highest rate of interest available.” The Director then interpleads the funds into court or holds an administrative hearing “to determine the liability of the surety.” Most critically, the surety has only ten days from the date of demand to pay over the sum demanded or the entire penal sum of the bond. Failure to do so is grounds for the “withdrawal of the surety's license and authorization to conduct business in this state” or grounds for “the court to penalize the surety for refusal to pay or to deposit, within the ten days of demand, in the amount of twenty-five percent of the full face amount of the bond, plus interest at the rate of nine percent, or at the rate that the director can establish he would have received had the money been paid or deposited by the surety, whichever rate of interest is higher.”
If the warehouse facility operator is a licensed grain dealer, there may be separate bond requirements pursuant to Missouri Revised Statute § 276.426. A grain dealer is one that is essentially buying grain and taking title to the grain at the time of purchase. Under the state regulatory scheme, the facility operator is obligated to pay for the delivered grain either at the time of delivery or upon later demand of the producer. If the facility operator becomes insolvent, the bond may provide protection for producers damaged by the insolvency. The statute has similar bond requirements as a warehouseman’s bond. Notably, Missouri Revised Statute. § 276.426(6) obligates the surety issuing the grain dealer’s bond to pay over or escrow the demanded sum to the Director within 10 days of demand. The statute creates the potential for the withdrawal of licensing in the state and the same penalties as set forth above.
In operation, the Director will send written demand to the surety under one or both of these statutes, giving the surety ten days to pay over the penal sum of one or both of the bonds. This demand will typically occur after warehouseman or grain dealer license revocation and after the principal’s administrative appeals have been exhausted. Often, the principal is represented by independent counsel throughout the administrative process.
The surety must then provide the sums to the Director or face statutory penalties. The state agent or general counsel for the department of agriculture will typically provide the documents and materials from the state’s investigation for review, and the surety practitioner will perform an independent investigation into the claims. An administrative hearing will be held to determine the surety’s liability under the claims, and all or a portion of the penal sum of the bond or bonds will be refunded based on the administrative body’s determination.
In Kansas, the bond requirements for facility operators can be found in Kansas Statutes Annotated § 34-229. This statute sets the minimum bond amounts based on the licensed capacity of the facility. For example, if such capacity is one million bushels, the bond must be in the amount of $0.20 per bushel. The bond is conditioned on the faithful performance of the licensed facility operator’s duties, and any producer damaged by the facility operator may bring suit on the bond.
A notable feature of the Kansas statute is that if the producer prevails in litigating its claim against the surety, and the court has found that the surety refused to pay the bond claim without just cause, the producer may be entitled to recover its attorney’s fees. The surety practitioner should take heed of that provision in the statute and carefully evaluate the claim or claims to ensure that just cause exists before denying the claim or risk the imposition of collection fees at the end of the litigation.
The facility operators should keep meticulous records because, upon demand of the state agency, the facility operator must be able to produce records related to the deposit receipts that it has received and cancelled, its grain liabilities, the total unencumbered grain in its facility, and the total amount of grain stored. These same records will be critical in the surety practitioner’s review of any claims made upon the bond.
Kansas has a statutory provision dealing with lost receipts that may give rise to the issuance of a bond provided by the producer. Upon depositing grain into the facility, the producer is given a deposit receipt (that is either negotiable or non-negotiable) and that receipt must be surrendered by the producer when the grain is retrieved from the facility. If the producer loses the receipt, or if the receipt is destroyed, they may obtain a “duplicate” receipt from the facility operator. To obtain a duplicate receipt, the producer must provide an affidavit verifying that they did lawfully possess the deposit receipt, that it has not been assigned, how it was lost, and their efforts to locate the deposit receipt. The producer must also provide a bond with a penal sum that is twice the value of the grain represented by the lost or destroyed receipt. The bond related to a lost receipt protects the facility operator from any loss, liability, or expenses the facility operator may incur as a result of having issued the duplicate receipt.
The surety issuing a bond can become liable under the bond if the facility operator is guilty of neglect in storing the grain and the perishable grain becomes “out of condition.” Producers holding valid deposit receipts may make a claim under the bond and join other claimants to that action.
If the secretary of the Department of Agriculture determines upon inspection that the facility operator does not have sufficient grain to cover its outstanding receipts or sales tickets, the secretary may demand that the facility operator cover the shortage or provide additional bonds to cover the shortage. If the facility operator fails to do so within twenty-four (24) of the demand, the secretary can petition the court for possession and control of the stored grain and records. The statute also provides for the appointment of a receiver. The secretary may retain control of the property and the records until such time as the surety satisfies all claims made under the bond.
Finally, if a judgment is rendered against the surety that has issued the bond, and it is found that the that the surety refused to satisfy the claim without just cause, there can be negative implications for the surety. The claimant, having prevailed in the action, can also recover reasonable attorney’s fees as part of their costs.
Iowa grain dealers are licensed pursuant to Iowa Code Chapter 203, which sets forth different minimum standards of financial responsibilities for various classes of dealer licenses. For instance, a Class 1 dealer must maintain a minimum net worth of at least $75,000.00. If a Class 1 dealer cannot meet the minimum financial requirements, they may obtain a deficiency bond in the amount of $2,000.00 for each $1,000.00 of deficiency.
Iowa follows a regulatory scheme where the legislature established the Grain Depositors and Sellers Indemnity Fund (the “Fund”). All licensed grain dealers and licensed warehouse operators must participate in the Fund. The Fund collects fees from license applications, per-bushel fees paid by licensed grain dealers, and delinquency penalties.
The Fund is used to indemnify producers and sellers, and claims against the Fund are regulated pursuant to Iowa Code Annotated § 203D.6. The Grain Indemnity Fund Board (the “Board”) reviews and determines claims. If the Board determines that a claim is eligible for payment, the Board will issue payment from the fund for 90% of the claim, with a $300,000.00 cap.
A grain dealer in Iowa that enters into credit-sales contracts must also post a bond pursuant to Iowa Code Annotated § 203.15. The bond must be in the amount of $100,000.00 and is payable to the Iowa Department of Agriculture. The bond is used to indemnify sellers in the event of a breach of the credit-sales contract.
The existence of the Fund may limit the surety practitioner’s role in Iowa in that producers make their claims directly to the Board. However, there may be instances where the surety practitioner is called upon to defend claims made for breach of a credit-sales contract.
Nebraska sets forth different bond requirements for grain warehouse operators and grain dealers. The grain warehouse operator requirements are set forth in Nebraska Revised Statutes § 88-530. The grain dealer obligations are set forth in Nebraska Revised Statutes § 75-903. Both statutes require the facility operator to provide a bond or irrevocable letter of credit.
The Nebraska regulatory scheme requires that producers make a claim against the facility operator’s security by providing notice of the claim to the Nebraska Public Service Commission within 10 days of the apparent loss. The statute requiring the notice to the Public Service Commission is a bar to claims against the facility operator’s security, and the surety practitioner should pay careful attention to the claims period when evaluating claims.
The surety practitioner accustomed to reviewing more traditional indemnity agreements and bonds will find many similarities when first reviewing indemnity agreements and bonds related to the grain warehouse trade. Upon reviewing the indemnity agreement and bond, the surety practitioner should seek out and review the state statutes and regulations related to warehouse and grain dealer licensing and bonding. Each state has its own peculiarities and regulatory schemes. The surety practitioner will find that agents of the state will be of great assistance gathering the documents needed to evaluate the claim.
The surety practitioner should interview the principal and gather other facts and documents needed to evaluate the various claims. Deposit receipts and grain storage reports will be critical during the initial review, but often it is apparent that the facility operator has become insolvent, and application of the bond proceeds is required. In many cases, the facility operator will have already taken part in the administrative review process. In any event, careful consideration of the state statutes must be given to ensure that the surety client does not run afoul of the state statutory requirements.
