Burtch v. Detroit Forming, Inc. (In re Archway Cookies), 435 B.R. 234 (Bankr. D. Del. 2010)

CASE SNAPSHOT

A supplier thwarts the chapter 7 trustee’s efforts to recover preferential payments by successfully raising the “ordinary course of business” defense. The supplier sold trays to Archway Cookies for two years prior to Archway’s bankruptcy filing. Archway soon fell behind on its payments, with an average number of days between invoice and payment of 42 days and a range of 21 to 177 days (the contract terms were payment within 20 days of invoice). During the preference period, the average number of days between invoice and payment was 47 days with a range of 33 to 64 days. The Bankruptcy Court found that the small deviation during the preference period in the average number of days for payment was immaterial. The court therefore held that, although the payments were preferences, they could not be recovered by the trustee because they were protected by the statutory exception for payments made in the ordinary course of business.

FACTUAL BACKGROUND

In October 2006, Detroit Forming began selling cookie trays to Archway for use in its baking business. The terms of each sale required that Archway submit payment in 20 days, and these terms were spelled out on each invoice. About six months after they began doing business together, Detroit Forming advised Archway, in writing, that multiple payments had been received well past the 20-day term, and new product would only be shipped if Archway’s accounts were kept current. Archway continued ordering from Detroit Forming, and Detroit Forming continued shipping product to Archway. On October 6, 2008, Archway filed its chapter 11 petition and, three months later, converted to chapter 7.

From the day that Archway and Detroit Forming began their relationship, until 90 days before the petition date, the average time elapsing between the invoice date and payment date was 42 days. The average time elapsing between the invoice date and payment date within the 90 days prior to Archway’s bankruptcy filing (the preference period, the time during which the Bankruptcy Code permits the avoidance of preferential transfers) was 47 days.

The chapter 7 trustee sought to avoid almost $70,000 in payments that Archway had made to Detroit Forming during the 90-day preference period. Detroit Forming filed a motion for summary judgment, arguing that the transfers were protected by the “ordinary course of business” defense.

COURT ANALYSIS

To successfully avoid a payment as a preferential transfer, the payment must satisfy all the requirements of section 547(b) of the Bankruptcy Code. A payment must be:

To or for the benefit of a creditor;

For or on account of an antecedent debt owed by the debtor before such transfer was made;

Made while the debtor was insolvent;

Made … on or within 90 days before the date of the filing of the petition; … and

One that enables such creditor to receive more than such creditor would receive if (A) the case were a case under chapter 7; (B) the transfer had not been made; and (C) such creditor received payment of such debt to the extent provided by the provisions of the Code.

Even if the transfer satisfies all of these elements, it may not be avoided if it falls within one of the safe harbor exceptions provided in section 547(c). Section 547(c)(2) sets forth the “ordinary course of business” defense. It provides that an otherwise preferential transfer can not be avoided if the 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 transferee, and such transfer was: (1) made in the ordinary course of business or financial affairs of the debtor and the transferee; or (2) made according to ordinary business terms.

Courts consider the following factors when determining whether the transfer was made in the ordinary course of business or financial affairs of the debtor and the transferee:

  1. the length of time the parties engaged in the type of dealing at issue;
  2. whether the subject payments were in an amount more than usually paid;
  3. whether the payments were tendered in a manner different from previous payments;
  4. whether there appears to have been an unusual action by the debtor or creditor to collect or pay the debt; and
  5. whether the creditor did anything to gain an advantage (such as gain additional security) in light of the debtor’s deteriorating financial condition.  

The Bankruptcy Court held that the long history and numerous transactions between the parties established an ordinary course of business, under which the debtor incurred the debt, and in accordance with which the debtor paid the debt. The court found simply that the facts of this case showed that Archway and Detroit Forming continued their historical business dealings during the preference period, so that Detroit Forming was entitled to keep the payments under the “ordinary course of business defense” provided in section 547(c)(2).  

PRACTICAL CONSIDERATIONS

This case points out that, as tempting as it may be for a creditor to change its course of dealing with a debtor the closer the debtor gets to a bankruptcy filing, the prudent action in many instances may be to stay the course to avoid preference exposure.