Recent announcements of bankruptcy by some shippers, carriers and 3PLs have for several clients raised the issue of preference claims that may yet be asserted by the trustee for such companies. Depending upon the nature of your relationship with such bankrupt companies, you may receive such a claim if you were doing business with the bankrupt under any circumstance whereby they were paying you for services during the last 90 days prior to their filing Chapter 11 or 7 bankruptcy.
A preference claim is essentially a claim by the trustee that you received an avoidable preference payment(s), that should be recovered by the bankrupt estate, due to the payment being a preference over other creditors. Typically, the trustee will just calculate all payments made to creditors within the 90 days preceding the filing of bankruptcy, and make demand on the creditor, alleging that the full amount is a preference over other creditors. It is then up to the creditor to provide a defense to such claims.
While not all preference claims can be defeated, many can be defeated or minimized if properly handled. The three primary defenses to such claims are: Ordinary Course of Business; New Value, and Contemporaneous Exchange of Value.
In the interest of brevity, I will not attempt to discuss the essential elements of each of these defenses. However, the following are some suggestions that will help in effectively responding to any preference claim:
- A prompt response is essential, especially if you hope to avoid expensive litigation over the claim. Trustees will normally send out demand for a large number of preference claims, and will not file suit immediately, unless the limitations period (2 yrs after date of filing) is approaching. The sooner an effective presentation of your defenses is presented the more likely you are to avoid costly litigation.
- Any presentation of defense to a preference claim should include documentation that must be considered by the trustee. A hasty prepared denial, without documentation will ordinarily be ignored by the trustee, until suit is filed and you are then required to present a more formal and expensive defense.
- A clear, written and documented explanation of your defense should be presented as soon as possible.
In addition to responding to preference claims, effective management of receivables for any suspect trade debtor (prior to filing bankruptcy) is equally important and can be very helpful to defeating future preference claims, if properly planned and executed. Conversely, there are some steps in such an effort that may actually exacerbate your future position, if the wrong action is taken against such a debtor. Without over generalizing, the most effective receivables policy is one that shows consistency over time in both terms and payment history, especially during the 90-day look-back period relative to all other prior history. In this regard, if should be noted that allowing a debtor to go well over prior historical terms is considered evidence of preference as much as early payment. Requiring expedited payment of receivables, out of the ordinary terms, will be problematic, unless done in conjunction with an effective transition to contemporaneous exchange.