Earlier this month, JH Cohn, LLP ("Cohn" or "Plaintiff") began filing preference complaints against various defendants in the Orleans Homebuilders ("Orleans") bankruptcy proceeding. For those not familiar with the Orleans bankruptcy proceeding, Cohn was appointed as the "unsecured creditor agent" pursuant to order confirming Orleans' Modified Second Amended Joint Plan of Reorganization (the "Plan"). Pursuant to Orleans' Plan, Cohn filed the preference actions seeking both to avoid transfers it contends are avoidable transfers under the Bankruptcy Code, as well as disallow claims pursuant to 11 U.S.C. section 502(d). This post will look briefly at why Orleans filed for bankruptcy, as well as address some of the issues that arise in preference litigation.
Events Leading to Bankruptcy
I originally wrote about the Orleans bankruptcy proceeding in March of 2010, days after the company first filed petitions for bankruptcy. As I stated in my prior post, the Orleans bankruptcy provided a clear demonstration of the recession's effect on home builders throughout the United States. Orleans experienced strong home sales in 2006 with revenues reaching $987 million. However, by 2009, the company's sales had dropped to $335 million. In response to the decline in new home sales, Orleans cut its spec home production by half and stopped construction all together in the Florida and Arizona markets.
Steep declines in home sales, compounded by tightening in the credit markets, left Orleans with little option other than to file for bankruptcy. The company filed its Plan and Disclosure Statement in November of 2010. The Delaware Bankruptcy Court confirmed Orleans' Plan in December and the Plan became effective on February 14, 2011. As reported in the media, Orleans emerged bankruptcy as a privately held company with a controlling interest now being held by three of Orleans' former debt holders.
The Preference Actions
The preference complaints filed in Orleans generally consist of three counts that include causes of action for avoidance of preferences under 547(b) of the Bankruptcy Code, recovery of avoided transfers under 550(a) and disallowance of claims under 502(j). These causes of action represent the "typical" claims brought by a plaintiff in a preference action. There are many different defenses to the preference claims, however, two "typical" or more commonly used defenses (where the facts permit) are the "ordinary course of business defense" and the "new value" defense.
Ordinary Course Defense
Earlier this year, Delaware Bankruptcy Judge Christophe S. Sontchi issued a decision in the Sierra Concrete Design bankruptcy proceeding. That decision is worth review as it provides, among other things, a current summary of the ordinary course of business defense. On page 6 of Judge Sontchi's opinion, the Court provides some of the key factors to consider when assessing the ordinary course defense:
To establish the ordinary course of business defense the creditor must first prove that there was, indeed, an ordinary course of business between the parties or in the industry prior to the 90 day preference period. Key factors to consider in connection with the parties' behavior are the length of the parties' relationship, the number of transactions that occurred prior to the preference, the method of payment, the timing of payment, and the behavior relating to payment, i.e., did the creditor have to make dunning calls or otherwise push the debtor to make its payments. Admissible evidence relating to industry practice, rather obviously, is required to establish the industry standard.
Having established the existence of an ordinary course of business defense (either among the parties or in the industry), the creditor must prove that the transactions in the 90 day preference period materially complied with that pre-preference behavior. The factors to be considered are those discussed above. No one factor, however, is determinatve. The Court must consider the entirety of the parties' post-preference conduct in making its determination. Opinion at *6.
In the months ahead, the Plaintiff in Orleans bankruptcy will be seeking to recover what it contends are avoidable preferences under the Bankruptcy Code. Defendants who contend that they have a ordinary course of business defense should consider Judge Sontchi's opinion in Sierra Concrete Design (a copy of the opinion is available here).
The Plaintiff in the Orleans bankruptcy proceeding is represented by the law firms The Rosner Law Group and Neiger LLP. The Orleans bankruptcy proceeding is before Judge Peter J. Walsh. Judge Walsh previously served as the Chief Judge of the Delaware Bankruptcy Court.