Preference Defenses: New Value Ordinary Preference Defenses: New - - PowerPoint PPT Presentation

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Preference Defenses: New Value Ordinary Preference Defenses: New Value, Ordinary Course and Contemporaneous Exchange

Managing the Audit Process, Mitigating Regulatory Sanctions, and Preserving Attorney‐Client Privilege

Today’s faculty features:

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific WEDBES DAY, DECEMBER 14, 2011

Today s faculty features:

David M. Banker, Counsel, Lowenstein Sandler PC, New Y

• rk

Robin Bicket White, Counsel, Frost Brown Todd, Nashville, Tenn.

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Preference Defenses: New Value, Ordinary Course and Contemporaneous Exchange Leveraging Preference Defenses Regarding L W k C I id C di Loan Workouts, Corporate Insiders, Credit Bidding and More Da id M Banker Esq David M. Banker, Esq.

Lowenstein Sandler PC dbanker@lowenstein.com 212.204.8692 4

Robin Bicket White, Esq.

Frost Brown Todd LLC hit @fbtl rwhite@fbtlaw.com 615.251.5556

December 14, 2011

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December 14, 2011

The elements of preference actions and what debtors and trustees need to prove debtors and trustees need to prove

In a nutshell, a preference is: A T f f I f h D b i P

• Any Transfer of an Interest of the Debtor in Property;

– Trust fund payment (PACA, Builders Trust Fund) not from property of the Debtor – Earmarked payment not from property of the debtor – Letter of credit payment not from property of the debtor – Credit card payment are from property of the debtor per the majority Credit card payment are from property of the debtor per the majority

• f the courts that have ruled on the issue

– Applied credits used to reduce a debtor’s obligations on invoices (such as chargebacks and credit memos) are not preferences. In re (such as chargebacks and credit memos) are not preferences. In re MicroAge Corp., 288 B.R. 855 (Bankr. D. Ariz. 2003).

• To or for the Benefit of a Creditor;
• 6 -

The elements of preference actions and what debtors and trustees need to prove (cont ) debtors and trustees need to prove (cont.)

• For or on Account of an Antecedent Debt Owed by the

y Debtor Before Such Transfer Was Made;

– A cash in advance payment is not a preference Granting of lien as security for principal due on promissory note – Granting of lien as security for principal due on promissory note was preferential transfer because lien was granted on account of antecedent debt. In re Jones Truck Lines, Inc., 196 B.R. 483 (Bankr. W.D. Ark. 1995), aff’d 130 F.3d 323 (8th Cir. 1997) (Bankr. W.D. Ark. 1995), aff d 130 F.3d 323 (8th Cir. 1997)

• Made While the Debtor was Insolvent

B l h d fi i i li bili i d – Balance sheet definition – liabilities exceed assets – Presumption of insolvency within 90 days of bankruptcy filing

• 7 -

The elements of preference actions and what debtors and trustees need to prove (cont ) debtors and trustees need to prove (cont.)

• Made on or Within 90 days Before Bankruptcy Filing; or Within One

Y B f B k F l f T f I d C d Year Before Bankruptcy Filing for Transfers to Insider Creditors

– If paid by check, look at clear date and not check date. Barnhill v. Johnson, 112 S.Ct. 1386 (1992)

• That Enables Such Creditor to Receive More Than Such Creditor
• That Enables Such Creditor to Receive More Than Such Creditor

Would Receive if:

– The case were a Chapter 7 case – The transfer had not been made – Such creditor received payment to the extent provided by other provisions of Title 11

• Creditor fully secured by debtor’s assets not subject to preference risk
• C

dit id f ll t l d t bj t t f i k

• Creditor paid from collateral proceeds not subject to preference risk
• Creditor whose executory contract was assumed by debtor not subject to

preference risk. Kimmelman v. Port Authority of N.Y. & N.J. (In re Kiwi

• Intl. Air Lines Inc.), 344 F.3d 311 (3d Cir. 2003)
• 8 -

The burden of proof and statute of limitations The burden of proof and statute of limitations

• The trustee or the debtor-in-possession has the burden of proving each of the

elements of a preference by a preponderance of the evidence elements of a preference by a preponderance of the evidence

• Any preference action is also limited by a statute of limitations, which requires

the trustee or debtor-in-possession to commence the action as follows: 11 U S C § 546 Li i i idi

• 11 U.S.C. § 546. Limitation on avoiding powers

(a) An action or proceeding under section … 547 … of this title may not be commenced after the earlier of – 1. The later of -

• 2 years after the entry of the order for relief; or
• 1 year after the appointment or election of the first trustee under

y pp section 702, 1104, 1163, 1202, or 1302 of this title if such appointment or such election occurs before the expiration of the period specified in subparagraph (A); or

• 9 -

2. the time the case is closed or dismissed

Other Statutory Considerations Other Statutory Considerations

• Section 547(c)(9) prevents a preference action
• Section 547(c)(9) prevents a preference action

from being commenced where: “i fil d b d bt h d bt “in a case filed by a debtor whose debts are not primarily consumer debts, the aggregate value of all property that constitutes or is value of all property that constitutes or is affected by such transfer is less than $5 850 00” $5,850.00

• 10 -

Other Statutory Considerations Other Statutory Considerations

• 28 U.S.C. 1409(b) also acts to limits preference actions by requiring when

such case is worth less $11 725 that a trustee or debtor bring a cause of such case is worth less $11,725 that a trustee or debtor bring a cause of action in the district court for the jurisdiction where the defendant resides.

• At least five courts have directly addressed the question of whether

§1409(b) encompasses preference actions. The majority held that preference recoveries are governed by the venue provisions of §1409(b). Muskin Inc. v. Strippit Inc. (In re Little Lake Indus. Inc., et al.), 158 B.R. 478 (BAP 9th

• Cir. 1993); Armstrong v. Rainier Fin. Servs. Co. (In re Greiner), 45 B.R.

715, 716 (Bankr. D. N.D. 1985); Dynamerica Manufacturing, LLC v. y g Johnson Oil Company, LLC (In re Dynamerica Manufacturing, LLC), 2010 WL 1930269 (Bank. D. Del. 2010). The minority held that §1409(b) does not apply to preference actions. Ehrlich v. American Expr. Travel Related

• Servs. Co. Inc. (In re Guilmette), 202 B.R. 9, 12-13 (Bankr. N.D.N.Y

( ) ( 1996); Van Huffel Tube Corp. v. A&G Indus. (In re Van Huffel Tube Corp.), 71 B.R. 155, 156-57 (Bankr. N.D. Ohio 1987)

• 11 -

Defenses Defenses

• 12 -

Preference Defenses: Contemporaneous Exchange For New Value (COD) Exchange For New Value (COD)

The Contemporaneous Exchange Defense p g (11 U.S.C. § 547(c)(1))

• Transfer was Intended by Debtor and Creditor to be

Contemporaneous Exchange for New Value; and

• Transfer was Substantially Contemporaneous Exchange
• 13 -

Preference Defenses: Contemporaneous Exchange For New Value (COD) Exchange For New Value (COD)

• A good way, from the preference defendant’s standpoint,

g y, p p ,

• f proving intent of the parties regarding the

contemporaneous nature of the transaction is to have the d bt li t COD th i i debtor list COD on the invoice

• Vendors should, however, beware of the risk of a bounced

COD check especially where a lien right is being COD check, especially where a lien right is being unconditionally waived in return for the payment; replacement payments are not subject to the contemporaneous exchange defense

• 14 -

Preference Defenses: Contemporaneous Exchange For New Value (COD)

• The contemporaneous exchange defense is not applicable

Exchange For New Value (COD)

p g pp to the forbearance of a creditor from exercising its rights to file and enforce mechanic’s lien rights and asserting a claim on a bond United Rentals v Angell 592 F 3d 525 claim on a bond – United Rentals v. Angell, 592 F.3d 525 (4th Cir. 2010)

• Although there are no hard and fast rules as to how many

days, weeks or months will constitute “contemporaneous exchange”, the courts generally require that the transfer

• ccur within 1 to 14 days of the transfer of new value to
• ccur within 1 to 14 days of the transfer of new value to

the debtor. Pine Top Ins. Co. v. Bank or America Nat. Trust & Sav. Ass’n, 969 F.2d 321 (7th Cir. 1992)

• 15 -

Preference Defenses: New Value New Value

The Subsequent New Value Defense (11 U.S.C. § 547(c)(4)) q ( § 4 ( )(4))

• The defense provides that the trustee may not avoid a

transfer to or for the benefit of a creditor, if the creditor gave new value to the debtor (i.e., a subsequent shipment of goods or provision of service) after the transfer, which (i) was not secured by an otherwise unavoidable security was not secured by an otherwise unavoidable security interest and (ii) on account of which new value the debtor did not make an otherwise unavoidable transfer to or for the b fit f h dit benefit of such creditor

• In short, goods shipped / services provided on credit terms

following a preference payment reduce preference exposure

• 16 -

following a preference payment reduce preference exposure dollar for dollar

Preference Defenses: New Value New Value

For purposes of calculating new value under 11 U.S.C. § 547(c)(4): For purposes of calculating new value under 11 U.S.C. § 547(c)(4):

• a creditor extends new value at the time goods are shipped. In re

Eleva, Inc., 235 B.R. (B.A.P . 10th Cir. 1999). New value involving the provision of services is deemed given at the time services are rendered. In re New York City Shoes, Inc., 880 F .2d 679 (3d. Cir. 1989)

• preferential transfers occur when the check is received by the

creditor, not when it is honored by the drawee bank. In re Jolly N Inc 122 B R 897 (Bankr D N J 1991) This is different N, Inc., 122 B.R. 897 (Bankr. D.N.J. 1991). This is different than the Barnhill v. Johnson case that holds that for purposes of determining if a check falls within the preference period, the date th t i th d t th t th h k l th d bt ’ b k

• 17 -

that governs is the date that the check clears the debtor’s bank

Preference Defenses: New Value

• Paid for new value may count to reduce preference

New Value

Paid for new value may count to reduce preference exposure

• U.S. Circuit Courts of Appeal are Divided:

pp

• 4th, 5th and 9th say Yes!
• 3rd, 7th and 11th say No!

3 , 7 and 11 say No!

• 8th goes both ways
• Other Circuits are Open with Bankruptcy
• Other Circuits are Open with Bankruptcy

Courts in those Circuits ruling both ways

• 18 -

Preference Defenses: New Value

• In re Pillowtex Corporation 416 B R 123

New Value In re Pillowtex Corporation, 416 B.R. 123 (Bankr. D. Del 2009) – in the 3rd Circuit

Judge Carey upheld paid new value – Judge Carey upheld paid new value – Ruled 3rd Circuit never decided this issue n t ith t nding it pini n in In r N notwithstanding its opinion in In re New York City Shoes, Inc., 880 F.2d 679 (3d Cir 1989) and in short that they had

• Cir. 1989), and in short, that they had

ruled in dicta.

• 19 -

Preference Defenses: New Value New Value

Courts continue to consider the “remains unpaid” issue: p

• In re Frey Mechanical Group, 2011 Bankr. LEXIS 722

(Bankr. E.D. Pa. Mar. 1, 2011) – U.S. Bankruptcy Court, E Di i P l i l i 3rd Ci i Eastern District, Pennsylvania, also in 3rd Circuit, followed Pillowtex and held that new value does not have to remain unpaid

• Also see: September 30, 2011 ruling by the District

Court for the District of New Hampshire: Bogdanov v. Avnet Inc Case No 10 cv 543 in which the District Avnet, Inc., Case No. 10-cv-543, in which the District Court ruled that new value need not remain unpaid.

• 20 -

Preference Defenses: New Value New Value

• But remember, paid new value can only be used

But remember, paid new value can only be used to reduce preference exposure if you are not also attempting to insulate from preference exposure attempting to insulate from preference exposure the payment that paid that new value. See 11 U.S.C. § 547(c)(4)(ii). You can not double-dip. § ( )( )( ) p

• 21 -

Critical Vendor Preference Risk Critical Vendor Preference Risk

• Does A Critical Vendor’s Receipt of Post-Petition Payment of Pre-

Petition Claim Result in Loss of Section 547(c)(4) New Value Defense to Preference Claim? Yes and No.

– The filing of the bankruptcy “fixes” the preference analysis, so whether g p y p y , new value remains unpaid is determined as of the petition date. Friedman’s Inc. v. Roth Staffing Companies, United States Bankruptcy Court, District of Delaware, Adv. Pro. No. 09-50364(CSS), November 30, 2011. – Critical vendors who are paid in full are still subject to preference

• exposure. In re Zenith Industrial Corp., 319 B.R. 810 (D. Del. 2005).

– For purposes of new value, critical vendor payments are different from contract/lease cure payments on account of assumption.

• 22 -

Is A Fully Funded 503(b)(9) Claim Eligible As New Value? Eligible As New Value?

• In re Commissary Operations, Inc , 421 B R

In re Commissary Operations, Inc., 421 B.R. 873 (Bankr. M.D. Tenn. 2010) said Yes.

New value window closes on bankruptcy filing – New value window closes on bankruptcy filing date New value defense not impacted by post-petition – New value defense not impacted by post-petition payments of new value – Section 503(b)(9) claims impaired if excluded – Section 503(b)(9) claims impaired if excluded from new value defense

• 23 -

Is A Fully Funded 503(b)(9) Claim Eligible As New Value Eligible As New Value

• In re TI Acquisition LLC, 410 B.R. 742, 751 (Bankr. N.D. Ga.

q ( 2009) said No. – Does not satisfy Section 547(c)(4)’s requirement that “the debtor did not make an otherwise unavoidable transfer to or debtor did not make an otherwise unavoidable transfer to or for the benefit of such creditor” – Creditor gets a double dip if it can use fully paid/funded S ti 503(b)(9) l i t f it l d f Section 503(b)(9) claim as part of its new value defense

• Circuit City Stores Inc. v. Mitsubishi Digital Elec. Am. Inc. (In

re Circuit City Stores, Inc.), No. 10-03068, 2010 Bankr. LEXIS 4398, at *34 (Bankr. E.D. Va. Dec. 1, 2010) – Court followed reasoning of the TI Acquisition decision

• 24 -

Preference Defenses: Ordinary Course Of Business Ordinary Course Of Business

The Ordinary Course of Business Defense y (11 U.S.C. 547 § (c)(2))

• Transfer Was in Payment of a Debt Incurred by the Debtor in

the Ordinary Course of Business or Financial Affairs of the Debtor and the Creditor; and

• Subjective Test – Made in the Ordinary Course of Business or

Subjective Test – Made in the Ordinary Course of Business or Financial Affairs of the Debtor and the Creditor; OR

• Objective Test – Made According to Ordinary Business Terms
• Creditor Can Choose Most Beneficial (Subjective or Objective

Test) Prong of Ordinary Course of Business Defense

• 25 -

The Preference Defenses: Ordinary Course Of Business Ordinary Course Of Business

• “Ordinary business terms” under 11 U.S.C.

§ 547(c)(2) refers to range of terms that encompass practices in which firms similar in some general t th dit i ti d l way to the creditor in question engage, and only dealings so unusual as to fall outside this broad range should be deemed extraordinary and outside range should be deemed extraordinary and outside the scope of § 547(c)(2); duration of the parties’ relationship is logically pertinent to the touchstone p p

• f statutory policies underscoring § 547(c)(2). In

re Molded Acoustical Products, Inc., 18 F .3d 217 (3d Ci 1994)

• 26 -

(3d Cir. 1994);

The Preference Defenses: Ordinary Course Of Business Ordinary Course Of Business

• If the relationship between the parties only includes

If the relationship between the parties only includes

• ne or two transactions, it will be difficult but not

impossible to assert the ordinary course of business d f T b di i h h

• defense. To be ordinary in such a case, the payment

must be made as directed by the applicable invoice or

• contract. In re Forman Enterprises, Inc., 2003 WL
• contract. In re Forman Enterprises, Inc., 2003 WL

21295971 (Bankr. W .Pa. 2003) (“A first-time transaction between a debtor and a creditor in certain l f d circumstances may qualify as an ordinary course transaction for purposes of Section 547(c)(2)(B).”)

• 27 -

The Preference Defenses: Ordinary Course Of Business Ordinary Course Of Business

• Prepetition workouts can further complicate the analysis.

p p y

• For example, Arrow Electronics, Inc. v. Justus (In re

Kaypro), 218 F.3d 1070 (9th Cir. 2000) summary judgment proceeding at which the 9th Cir. held that payments made per a restructuring agreement are not per se outside the ordinary course of business Rather it is a se outside the ordinary course of business. Rather, it is a question of fact.

• The 2nd Cir. considered this issue in a prior case, Lawson

The 2

• Cir. considered this issue in a prior case, Lawson
• v. Ford Motor Company (In re Roblin), 78 F3d 30 (2nd
• Cir. 1996) and also declined to state that restructuring

payments could not be ordinary. It is a factual question.

• 28 -

Preference Defenses: Ordinary Course Of Business

• Subjective Component – Ordinary Between Parties

Ordinary Course Of Business

Subjective Component Ordinary Between Parties

• Range of Views

– Longest period of time Longest period of time – Range of payments – Deviation off average? Deviation off average?

• How many days?
• Patterns important
• Anomalies discounted
• 29 -

Preference Defenses: Ordinary Course Of Business

• Risks when relying on the “Subjective Test” –

Ordinary Course Of Business

Risks when relying on the Subjective Test Ordinary Between Parties Component:

– Change in the form of payment during preference period (regular check to wire) – Change in credit terms Impo ition of r dit limit/ nfor m nt of i ting – Imposition of credit limit/enforcement of existing credit limit – Threats to stop shipment p p – Change in mode of delivery (regular mail to Federal Express)

• 30 -

Preference Defenses: Ordinary Course Of Business Ordinary Course Of Business

• Burtch v. Detroit Forming, Inc. (In re Archway Cookies), 435 B.R. 234

(Bankr. D. Del. 2010)

– Alleged preferences were protected by the ordinary course defense where the historical average days to pay was 42.3 days and the preference period days to pay was 47.2 days. 4 y – Pressuring the debtors into payment during the preference period by requiring payments on past due invoices before shipment of new goods did not take alleged preferences out of the ordinary course because the payments were consistent with the historical dealings between the debtors and the defendant the historical dealings between the debtors and the defendant. – During the preference period, the debtors’ payment practices differed greatly from the debtors’ historical practices - including holding checks, voiding checks, and preferring certain vendors over other vendors, among other payment practices reflecting the Debtors' distressed financial status Regardless the subjective test reflecting the Debtors distressed financial status. Regardless, the subjective test reviews the transactions between the debtor and the defendant (which the court found were in the ordinary course), not a debtor's transactions with all of its creditors.

Preference Defenses: Ordinary Course Of Business Ordinary Business Term Business Ordinary Business Term

• Objective Test Not as Simple as it Seems

Objective Test Not as Simple as it Seems

– Creditor’s industry? – Debtor’s industry? – General business standards / sound business practice?

• Use of Credit Industry Data (e g Credit

Use of Credit Industry Data (e.g., Credit Research Foundation; Dun & Bradstreet; Risk Management Association; Trade Credit Group) g ; p) to Support Ordinary in the Industry Defense

• 32 -

Preferences and Insiders

• Section 547 provides for a 1-year lookback with respect to

47 p y p transfers to insiders of the Debtor.

• Possible additional exposure when:

– Insider is a guarantor of an obligation of the debtor. Question – do a debtor’s prepetition payments to a creditor holding a guaranty signed by an insider create avoidance issue for the g y g y insider since the insider benefits from the transfer to the creditor? – Springing security interest – If guaranty is secured by a contingent lien on assets that arises in favor of guarantor when guarantor lien on assets that arises in favor of guarantor when guarantor pays the debtors debt, the lien could be avoidable. In this scenario, a note purchase might be a better strategy.

• 33 -

Preferences and Insiders

• Also consider – is the lender a “non-statutory insider”

y such that the creditor falls outside the enumerated categories of an insider per Section 101(31), but is still h h d f f d d l within the definition of insider? See In re U.S. Medical., 531 F.3d 1272 (10th Cir. 2008) citing In re Kunz, 489 F.3d 1072 (10th Cir. 2007). F.3d 1072 (10

• Cir. 2007).

– This issue arises when there is a close relationship between debtor and creditor which suggests that transactions were not at arm’s l h length.

• If the creditor can be considered to be an insider, the lookback would

then be increased from 90 days to 1 year.

• 34 -

Recent Developments

• Are pre-petition foreclosure sales “safe” from Section 547

p p 47 and 548 actions?

– Maybe not. – The Court in Whittle Development, Inc. v. Branch Banking & Trust Co., 2011 WL 3268398 (Bankr. N.D. Tex July 27, 2011) held that a foreclosure sale can be

• Tex. July 27, 2011) held that a foreclosure sale can be

avoided.

• 35 -

Recent Developments

• Whittle facts:

Prepetition creditor owed $2 7 Million secured by real – Prepetition creditor owed $2.7 Million secured by real estate – Borrower defaults and creditor forecloses – Creditor’s subsidiary purchased the property at foreclosure for $1.22 Million – Borrower files bankruptcy – claims value of property was $3.3 Million – Borrower seeks to avoid foreclosure sale on the grounds that creditor received “more than it would have under Chapter 7” have under Chapter 7

• 36 -

Recent Developments

• Whittle held:

Whittle held: – If a secured creditor forecloses on a property and obtains the property for less than what the and obtains the property for less than what the property would have been sold for in a Chapter 7 liquidation, then the transfer may be avoided 7 liquidation, then the transfer may be avoided pursuant to Section 547(b)

• Whittle is also important because of its analysis of
• Whittle is also important because of its analysis of

the U.S. Supreme Court case BFP v. Resolution Trust Corp Trust Corp

• 37 -

Recent Developments

• BFP v. Resolution Trust Corp., 511 U.S. 531 (1994),

p , ( 4), addresses Section 548 challenges to foreclosure sales based on “reasonably equivalent value”.

• Specifically, BFP stands for the proposition that the

foreclosure sale price is evidence of “reasonably equivalent value” for purposes of Section 548 fraudulent equivalent value for purposes of Section 548 fraudulent conveyance actions and therefore, the debtor did not receive “less than a reasonably equivalent value” for the q property sold at foreclosure.

• A number of courts have applied BFP in the Section 547

context.

• 38 -

Recent Developments

• Whittle held as to BFP:

– The Supreme Court’s decision in BFP does not control because BFP is not a Section 547 case – The federalism concerns of BFP are inapplicable to Section 547 causes of action.

• 39 -

Recent Developments

• Specifically, Whittle pertains to avoidance of transfers

p y, p pursuant to Section 547 – and was specifically decided in reliance on the Section 547 concept of whether or not the d d h ld h d creditor received more than it would have received in a Chapter 7 liquidation.

• Thus the question is not “reasonably equivalent value”
• Thus, the question is not reasonably equivalent value

but rather, did the creditor receive more than they would have in a Chapter 7 liquidation. p q

• 40 -

Recent Developments

• BFP points to policy reasons why Section 548 should not

be used to undermine State foreclosure laws be used to undermine State foreclosure laws.

• The Whittle court reasoned that the concerns about

States’ interests in preserving foreclosure laws and title to p g real property, are not an issue in this context because the 547 action would simply result in a payment to the estate f l h d ff b h f l

• f a sum equal to the difference between the foreclosure

price and the amount the creditor would have received in a Chapter 7. a Chapter 7.

• The Section 547 90-day lookback also helps resolve the

“cloud on the title” issue that would occur in the Section 548 2-year lookback context.

• 41 -

Recent Developments

• Whittle also draws a distinction from BFP in that under

the 547 analysis, a third-party purchaser would not be subject to a preference action since they would not have b d f h d b been a creditor of the debtor.

• What does this mean?

C di di biddi f l l h – Creditors credit bidding at foreclosure sales may have to battle about the finality of the foreclosure sale (even when the sale complies with state law) if a bankruptcy when the sale complies with state law) if a bankruptcy case is filed within the 90 day window following the sale.

• 42 -

Practical Points Practical Points

• ALWAYS TAKE THE MONEY AND DEAL WITH A POTENTIAL

PREFERENCE LATER PREFERENCE LATER

• NEVER FOR SETTLE BY RETURNING 100%
• MAKE SURE THE STATUTE OF LIMITATIONS HAS NOT

ALREADY RUN (2 years from order for relief or 1 year from appointment of a permanent trustee)

• MAKE SURE THE ALLEGED PREFERENCE CLEARED DURING

MAKE SURE THE ALLEGED PREFERENCE CLEARED DURING THE 90 DAY PREFERENCE PERIOD Know Your Enemy - Parties Responsible for Prosecuting Preferences

• The strategies for defending against a preference claim are clearer if you

understand who your opponent is and what his or her incentives are

• 43 -

Practical Points Practical Points

Important Note: Generally, a creditors committee or Important Note: Generally, a creditors committee or collection firm has standing to bring these actions only by order of the Court. As such, if no order was entered i i h C i ll i fi h h i giving the Committee or a collection firm the authority to bring the actions, the preference defendant may wish to consider a motion to dismiss. to consider a motion to dismiss.

• Regardless of the party bringing the claim, you should

be aware of the following facts: be aware of the following facts:

• 44 -

Practical Points Practical Points

• In many cases, the trustee, attorney or collection firm is

employed on a contingency basis or other incentive based system. This generally encourages the claimant to tr to settle claims quickl hile spending as little to try to settle claims quickly while spending as little time as possible.

• Th d bt

’ d g ll A lt

• The debtor’s records are generally a mess. As a result,

initial preference demand letters are usually generated based merely on the debtor’s check register, with no y g , analysis of preference defenses. This may encourage a preference defendant to settle early before the plaintiff l d i di

• 45 -

learns more during discovery.

Practical Points Practical Points

• The claimant is usually pursuing numerous other

f l i Y h l Thi l d preference claims. You are not the only one. This leads to several issues which may affect your strategy:

• Early settlements may set a precedent for future settlements The
• Early settlements may set a precedent for future settlements. The

claimant may, therefore, show less flexibility at the beginning than it will after most claims are resolved. Always ask what the plaintiff has settled the other matters for. Look at the docket if possible and has settled the other matters for. Look at the docket if possible and speak with counsel for other Defendants.

• Big claims get more attention than small claims. The amount of

attention your case receives may have more to do with the attention your case receives may have more to do with the comparative size of your claim than with its validity. You may be able to resolve a “small” nuisance size claim at a round number regardless of the strength of the preference claim or the weakness of

• 46 -

regardless of the strength of the preference claim or the weakness of your defense.

Practical Points Practical Points

• In defending against preference actions, always ask for

copies of the canceled checks in question and the plaintiff’s l l i d di l i Y h new value analysis and ordinary course analysis. You, as the defendant, may not have the records available. Copies of the checks may demonstrate that a non-debtor paid the y p alleged preferences.

• 47 -

Practical Points Practical Points

Practical Strategies for Defending Preference Actions

• Delay - You have the money. Hold on to as much of it for

as long as you can. In some instances, if you ignore the i i i l d d l h f h l i initial demand letter, you may never hear from the claimant

• again. This however is something you may want to discuss

with your client as some clients would prefer to resolve the y p demand rather than being sued.

• 48 -

Practical Points Practical Points

• Analyze Your Defenses - Provide your client with a list of

Analyze Your Defenses - Provide your client with a list of information you will need to analyze defenses. Once you receive available information concerning the preference l i d il d l h l i ( f claim, prepare a detailed letter to the claimant (after you discuss with your client) setting forth the defendant’s defenses to all the claimed amounts.

• If you send your adversary a letter which sets forth a

complete defense, especially based solely on unpaid new value, a reasonable adversary will likely confirm that the demand is withdrawn and/or that the action will be dismissed.

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Practical Points Practical Points

• Cost-Benefit Settlement Analysis - Settlement strategies

d d h i f h l i d h h f depend on the size of the claim and the strength of your

• defenses. Even if your client is “dead in the water” without

any viable defense, you still have negotiating power. You y y g g p have the money. They don’t. Don’t ever offer 100 cents on the dollar. In almost all cases, the adversary will take less than the preference demand amount just to settle the case than the preference demand amount just to settle the case. Your adversary will also likely be willing to settle for a discount beyond the reductions on account of the h l d di contemporaneous exchange, new value and ordinary course

• defenses. The amount of the discount will depend upon the

facts of the case and the size of the claim.

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Practical Points Practical Points

• Keep in mind the additional influences you may have with the debtor. If

the debtor is attempting a chapter 11 reorganization, your client is still doing business with the debtor, and available causes of action have not been assigned to some other party other than the debtor, you may be able to use

• ther negotiating points (e g your client’s willingness or unwillingness to
• ther negotiating points (e.g. your client s willingness or unwillingness to

sell on shortened credit terms to the post-petition debtor) to help reach a satisfactory settlement of the preference claim. Your client may also waive its pre-petition claim and obtain a reduction in the preference exposure by the anticipated distribution on that claim.

• If you reach a settlement, be careful what you sign. Under the Bankruptcy

Code, your client can file a claim in the bankruptcy case for the settlement d h f h d b f ll l amount under 11 U.S.C. § 502(h). If you give the debtor a full release, you waive the right to file the § 502(h) claim. This claim may not have any real value, so releasing it may be worth offering in the context settlement.

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Practical Points Practical Points

• Attempt to get a full release of all potential claims the estate may

have, so as to avoid potential future claims. This may also bring to the surface other claims the estate may have.

• Were your contracts assumed? If so, you can argue that the

preference complaint should be dismissed entirely because as part of the assumption, all pre-petition payments would have to be cured. Kimmelman v. Port Authority of N.Y. & N.J. (In re Kiwi Intl. Air Li I ) 344 F 3d 311 (3d Ci 2003) Lines Inc.), 344 F.3d 311 (3d Cir. 2003).

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