Download Powerpoint

HHGREGG AND THE PREFERENCE
DEMANDS AGAINST SUPPLIERS:
STEPS FOR THE CREDIT TEAM TO
PROTECT PAYMENTS
Ronald Clifford, Esq.
[email protected]
Scott Blakeley, Esq.
[email protected]
1
HHGregg Bankruptcy



Filed for Chapter 11 Bankruptcy on March 6,
2017
Followed by closing of 88 unprofitable
locations
Announced on April 7, 2017 that 132
additional stores would close
Bankruptcy Preferences

The purpose of the preference provision is two-fold:

Creditors are discouraged from racing to the courthouse to
dismember a debtor, thereby hastening its slide into
bankruptcy.

Debtors are deterred from preferring certain creditors by the
requirement that any creditor that receives a greater
payment than similarly situated creditors disgorge the
preference so that like creditors receive an equal distribution
of the debtor's assets.
3
4
Quick Refresher: Elements of a Preference






Transfer of property of the debtor
To or for the benefit of a creditor
For or on account of an antecedent debt
Made while the debtor was insolvent
Made on or within 90 days before the filing of the
petition (or, for an insider, within one year of the filing)
Enables the creditor to receive more than it otherwise
would in a Chapter 7 Liquidation
5
How the Preference Game is Typically Played
Chapter 7 vs. Chapter 11
Creditors Committee/ Trustee
6
How the Preference Game is Typically Played

Prosecuting party makes demand for 80-90% of the
transfers and sometimes provides an analysis of
available defenses – do not rely on their analysis

Respond or take chances on whether an action will be filed?




Statute of limitations looming?
Money in the estate to pursue preferences?
Preferences are now commonly pursued in virtually all
corporate chapter 7 cases and all chapter 11 cases
Cases are often pursued earlier in the cases to pay
administrative expenses
7
How the Preference Game is Typically Played

How to respond?


Written response that includes all defenses, including an
analysis of the ordinary course of business defense
Is employing an attorney/ expert witness necessary?




Demand or complaint?
Does your new value defense apply to less than 50% of the transfers?
Complicated transactions?
Hybrid approach



Preparing client information in electronically usable formats
Actively working with attorney/ expert witness to analyze the defenses
Using an attorney/ expert witness can garner more respect and avoid a
shakedown
8
Contemporaneous Exchange



Transfer intended by debtor and creditor to be a
contemporaneous exchange
Transfers paying invoices for product shipped on
COD/CIA basis
Must meet two elements:



Intent
Substantially contemporaneous
Check v. Wire: What’s the Risk?


Where the customer pays by check, and the check is NSF, the vendor
loses its contemporaneous exchange defense and may lose its OCB
defense
Conversely, payment by wire will clear the same day or ACH will clear the
next day, thus ensuring the substantially contemporaneous nature of the
exchange
9
The Ordinary Course of Business Defense

What is it?

Transfer was in payment of a debt incurred by the debtor in
the ordinary course of business or financial affairs

Can be either subjectively or objectively ordinary



Subjective test: transfer made in the ordinary course of
business or financial affairs of the debtor and the transferee; or

Objective test: transfer made according to ordinary business
terms in the industry


The Bankruptcy Abuse Prevention and Consumer
Protection Act of 2005 BAPCPA made the subjective and
objective tests disjunctive, thereby making it easier for
creditors to establish ordinariness
10
Subjective Ordinary Course

Factors considered by the court:


The length of time the parties engaged in the type of
dealing at issue;
Whether the subject transfers were in an amount more
than usually paid;
11
Subjective Ordinary Course

Factors Considered by the Court:

Whether the payments at issue were tendered in a
manner different from previous payments;

Days to Pay – averages vs. ranges

Changes in payment amount

Changes in payment method

Changes in credit limit/credit terms


Was the credit limit reduced?
Were terms tightened?
12
Subjective Ordinary Course

Factors Considered by the Court:

Whether the creditor appears to engage in unusual
action to collect on the debt




Repeated phone calls and/or emails
In-person meetings
Contact by senior management
Whether the creditor did anything to gain an advantage
(such as gain additional security) in light of the debtor's
deteriorating financial condition.
13
Issues Underlying the Ordinary Course
Analysis

Identifying the Baseline Period for the Purpose of
Comparing Historical Transfers with 90 Day
Payments

Establishing the Baseline




The standard is the 12 months, but I recommend 24 months
minimum if susuitable, leading up to the preference period, but
the creditor may go back farther. In fact, the longer a payment
history is, the more credibility it will command in court
As a general rule of thumb, the creditor should cherry pick the
historical range that most closely mirrors the preference period
transactions
Significance of “liquidity events” in identifying baseline period
First-time and once-off payments
14
Objective OCB

“Objectively ordinary” according to industry standards

Which industry? The creditor’s or the debtor’s?


Prior to BAPCPA, courts were split on the issue
 The Fourth Circuit Court of Appeals had considered
prevailing terms within the creditor’s industry
 The Eighth Circuit Court of Appeals had considered
prevailing terms within the debtor’s industry
However, the court, in National Gas Distributors (Bankr.
E.D.N.C. 2006), held that the transfers must be ordinary
according to:
 The creditor’s industry;
 The debtor’s industry; and
 General business standards
15
Objective OCB

To establish the industry norms, use sources of
public information on payments days, DSO, and
DPO, such as:




CRF National Summary of Domestic Trade
Receivables;
RMA Financial Ratio Benchmarks; and
D&B Reports
Capital I.Q

For public companies only
16
AES Thames


During the Preference Period, Defendant sent eight
invoices to the Debtor, five of which were due on
November 26, 2010 and three of which were due on
December 26, 2010. The Debtor paid the invoices at
19 and 10 days late. These transfers became the
subject of this suit, brought by the Plaintiff-Trustee.
Trustee argued that it was appropriate to analyze only
whether the Debtor consistently paid Defendant on the
due date specified in the agreement; Defendant’s
preferred approach was to measure from invoice date
to payments
17
AES Thames: Holding





A late payment of 10 to 19 days was not
unprecedented in the parties’ relationship.
The Transfers paid multiple invoices together, just as
the Debtor had done historically.
Payments were always made by wire.
There was no attempt by Defendant to gain an
advantage over other creditors during the Preference
Period.
The difference in payment timing “without more, …
should [not] preclude application of the ordinary
course of business defense.”
18
Conex Holdings



Conex Trustee sought to avoid seven transfers made
during the Preference Period, totaling $1,181,583.84.
Defendant claimed that the transfers were made in the
ordinary course of the dealings between the parties
Defendant moved for summary judgment based on its
ordinary course of business defense
19
Conex Holdings


Court found that the parties had been doing business for
approximately 16 months and this duration was sufficient
for the Court to determine the ordinary course of
business between them.
Even considering four “outlying” payments (made 95, 81,
78, and 77 days after invoice), which increased the
difference in the average days to pay between the prePreference Period and Preference Period payments by 7
days, the Court found that the timing of the payments
was still in the ordinary course of business.
20
New Value

What is it?


After allegedly preferential transfer, vendor subsequently
extends goods or services (or credit for those goods or
services) to the debtor
Key Issues in New Value



Timing is everything
 When the vendor ships the goods vs. when the debtor
receives the goods
 When the debtor’s check is received by the vendor vs.
when the debtor’s check clears or is written
Paid vs. Unpaid
Do postpetition shipments/services qualify for new value?


Not in the Third Circuit
New value paid by third party?
21
Friedman’s, Inc. v. Roth Staffing Cos., LLP

The Facts:





Friedman’s made $81,997.57 in payments to Roth Staffing for services
provided during the preference period
After the preferential transfers, but prior to Friedman’s January 22nd, 2008
bankruptcy filing, Roth Staffing provided $100,660.88 in services to
Friedman’s
With one of its first day motions, Friedman’s motioned the court to authorize
payment of certain pre-petition wages and salaries (which included Roth’s
services)
Court authorized Friedman’s to pay $72,412.71 of the $100,660.88 owed
When the Liquidating Trust filed suit against Roth Staffing to recover
preferential transfers, the Trust argued that the $72,412.71 post-petition
payment reduced the amount of new value Roth Staffing could assert (i.e.
only entitled to $28,248.17 of the $100,660.88)
22
Friedman’s, Inc. v. Roth Staffing Cos., LLP

The Holding



Third Circuit Court of Appeals held that “where ‘an otherwise unavoidable
transfer’ is made after the filing of a bankruptcy petition, it does not affect
the new value defense.”
If a vendor receives payment of its pre-petition invoices after the petition
date, the vendor is not precluded from later using those same invoices as
“subsequent new value”
In other words, the bankruptcy petition effectively “fixes” the preference
analysis
23
How to Apply Preference Defenses to
Maximize Your Benefit


The creditor may apply the three primary defenses of
contemporaneous exchange, ordinary course of
business and subsequent new value in the same case to
eliminate its preferential exposure
Order of Application



First, apply contemporaneous exchange defense to any transfers
paying invoices for product shipped on COD/CIA basis
Second, apply ordinary course of business defense to the
balance of the transfers and determine what transfers fall outside
of the sale of service
Third, apply any new value to net preference after OCB
(transfers that fall outside of the OCB
24
Hot Topic Defenses







Seasonality
Critical vendors
Assumption of contract
Mechanic's lien rights
Jury demand
D&O and credit insurance
Amended complaint and relation back
25
Tips and tricks: reducing preference exposure in the
fact of customer’s insolvency/financial instability

Do not change credit/payment terms if bankruptcy is
looming
 Changing the manner in which or the time in which
a customer pays invoices (especially if such change
is incited by knowledge of the customer’s shaky
financial standing) can render payments outside of
the ordinary course of business, thereby increasing
the creditor’ preferential exposure
 Creditor should also avoid accepting post-dated
checks from customers if they have not issued such
checks in prior course of business
26
Tips and tricks: reducing preference exposure in the
fact of customer’s insolvency/financial instability



Limit written demands and attempts to pressure the
debtor into paying - Any evidence of unusual
collection activity may render payments outside of the
ordinary course of business, even if the days to pay
are identical to pre-preference invoices
Never put anything in writing that you would not want
a Federal Bankruptcy Judge to see
Use restructuring agreement to obtain payment on
past due, while mitigating the preference clawback risk
27
Documents and information required to successfully
defend against a preference clawback

Pre-Preference Payment History (preferably 2
years before the preference period)




Invoice dates, shipping dates, invoice numbers, invoice
amounts, and billing terms for each invoice
The payment date, payment amount, payment type, and
document number for every transfer received from
debtor. The payment history should include a statement
of account, indicating which invoices each transfer was
applied against
The number of days between the invoice date, and the
date payment was received for each invoice
Parties’ correspondence (email, letters, etc.)
28
Documents and information required to successfully
defend against a preference clawback

Preference Period (90 days prior to debtor’s filing)






Parties’ payment and shipment history (as detailed above)
Statement of account for all unpaid invoices
All invoices (paid and unpaid) issued during the preference
period
Copies of checks/receipts for all payments received during
preference period (should include posting/clearing dates for all
transfers)
Parties’ correspondence (email, letters, etc.)
Confirm the S.I.C. (Standard Industrial Classification) or NAICS
(North American Industrial Classification System) Code for
goods/services billed & paid during the preference period
29
Struggling Industries



Retail
Energy
Food
30