This section is from the book "Business Law - Case Method", by William Kixmiller, William H. Spencer. See also: Business Law: Text and Cases.
The city of Westvale issued a series of bonds in the form of "gold notes" for $1000 each, payable to the order of the holder only upon special indorsement by him and registration of the purchaser in the books kept for that purpose. Interest was paid, not by coupon payable to bearer, as is often done, but by check payable only to the registered owner of the note or bond. The bonds were regarded as desirable investments, and had a wide market and extensive sale. Because of the interest provision, an indorsement was always made upon a transfer of them, and most of them bore many names. Shortly before the end of the five-year period in which they matured, there was considerable question raised as to whether the city had the power to issue these bonds, or whether it had exceeded its borrowing power. At maturity, the city refused to pay them for this reason, and a test case was carried through to the Supreme Court. Pending this litigation, Marvin, the holder of one of the bonds, brought suit against Litchfielder, a man whose name appeared early in the list of indorsers. He denied that he could be liable as indorser if the bonds were never legally issued, and claimed that he never sold the bonds, but indorsed them to his son as a gift, so that he was not liable upon the seller's warranty of genuineness. Who should have judgment?
Allie G. Bernett, a married woman, executed a note in the sum of $100 to Edmunds. Edmunds thereafter indorsed it to Rose. When Rose was unable to collect the amount of the note from Allie G. Bernett, he brought suit against Mr. Edmunds. Edmunds contended that he was not liable upon this note, because Allie G. Bernett was a married woman and herself not competent to indorse it.
Decision: An indorser of a note promises that the parties to the instrument are competent and this fact he is not permitted to deny against a subsequent purchaser. Mr. Justice Garrison said: "If, however, we regard the case as one in which the contract of the principal is open to the defense of overture, that circumstance will not inure to the benefit of the indorser. Such a defense is not open to him. The defendant, by his indorsement of the note, implicitly guaranteed that the maker was competent to contract in the manner in which, by the terms of the paper, she purported to contract." Judgment was given for Rose.
As stated before, an indorsement creates a new contract between the indorser and his indorsee and subsequent holders. We have just seen that one term of this contract is that the instrument is valid as it purports to be. By the indorsement, the indorser also agrees, which becomes a term of this new contract, that all prior parties are competent. This agreement extends to his immediate indorsee and to all subsequent holders of the instrument. Accordingly, he cannot maintain by way of defense, that a prior party was an infant, and, therefore, incapable of indorsing the instrument.
As seen in the Ruling Court Case, the liability of the indorser does not depend upon the legal validity of the paper at the time he indorses it. Thus, even if the city exceeded its powers, Litchfielder is liable. This is like a note drawn by a corporation without a charter, or by an agent without authority. It is not valid as a note, but when adopted by an indorsement, it fixes by its terms the liability of the indorser. The indorsement is in effect the drawing of a bill reading like this: "Mr. Maker of this note. Pay, according to the terms on the other side, to my indorsee or his order. Indorser." Therefore, if for any reason the drawee of the alleged bill does not pay, then the drawer of the bill, the indorser of the note or bill, must pay. In the Story Case, the city did not pay, because of an alleged incapacity to contract the obligation. Granting that the incapacity existed as claimed, it could not release the indorser. Likewise, although he made his indorsement without consideration, he intended it to give credit to the paper, and he has no defense. Marvin should have judgment.
 
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