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When a debtor receives a shipment of goods within 20 days before the date it files bankruptcy and has failed to pay for said shipment prior to the bankruptcy filing, the creditor is entitled to an administrative claim, which is the highest priority in terms of unsecured claims.

Further, pursuant to Section 547 of the Bankruptcy Code, the estate can seek to claw back legitimate payments made by the debtor to a creditor within 90 days of bankruptcy. This “clawback” is referred to in the Bankruptcy Code as a preference. In a preference action, the creditor is entitled to assert certain defenses. One of these defenses is referred to as the New Value defense, which is designed to encourage creditors to continue doing business with and extending credit to companies with financial problems. In very general terms, if the debt remains unpaid after the creditor received the alleged preference payment, the creditor, in certain instances, can offset the preference claim with the amount of new value provided to the debtor.

 

The New Value Defense and Auriga Polymers

Thus, the issue before the Eleventh Circuit Court of Appeals last summer was whether a creditor with an administrative claim related to a shipment made within 20 days of bankruptcy was precluded from arguing that the administrative claim can also be included as part of the creditor’s New Value defense.

The Eleventh Circuit Court of Appeals joined the Third Circuit Court of Appeals and held that the creditor can indeed invoke the New Value defense even though the creditor is entitled to an administrative claim based on the unpaid shipment made within 20 days of filing.

In Auriga Polimers, the creditor argued that even though the 20-day shipments would be paid in full as they were an administrative claim, it should also be entitled to include the claim in its New Value defense because it fit within the purpose of the New Value defense, in terms of extending credit to a financially troubled company.

The Eleventh Circuit reviewed the interplay between the New Value defense under Bankruptcy Code Section 547 and the administrative claim status under Section 503(b)(9) for shipments received within 20 days of filing.

In summary, the court noted that the New Value defense does not allow post-petition extensions of new value to become part of a creditor’s New Value defense. Thus, it found that that it should not allow post-petition payments to affect the New Value defense and held that “only pre-petition transfers will affect a creditor’s subsequent New Value defense.”

Though it is unclear whether other circuits will take the same position as the Eleventh and Third Circuits, it should be noted that the New Value defense and the grant of an administrative claim for 20-day shipments are both consistent with the policy of encouraging suppliers to extend credit to financially troubled companies. More to come.

 

ABOUT THE AUTHOR:

Avatar of Bill Siegel
William L. (Bill) Siegel is a Shareholder and Section Head of the Cowles and Thompson Bankruptcy and Creditors’ Rights Practice Group as well as a member of the Corporate and Business Practice Group.