You have fresh goods delivered to your largest customer daily, as has been the case for as long as you can remember. You noticed over the last few months that payments have become less frequent—weekly instead of twice weekly—and occasionally have been paid over a week late. On top of that, rumor in the industry is that your customer is suffering liquidity problems and may ultimately file bankruptcy. So, what do you do? Stop deliveries, despite the fact that you are still receiving timely payments, and possibly exacerbate your customer’s cash flow problems? Or, do you continue delivering goods and accepting payments, which, if your customer ends up filing for bankruptcy, runs the risk of having a bankruptcy trustee seek to claw back any payments you received for an entire 90-day period before the bankruptcy was filed?
It is a scenario that is all too common in the insolvency world, which, thankfully, has been addressed with vendors in mind by the courts. The facts in the recent Eleventh Circuit case of Kaye v. Blue Bell Creameries, Inc. (In re BFW Liquidation, LLC), 899 F.3d 1178 (11th Cir. 2018) are not unlike our hypothetical. Blue Bell delivered fresh ice cream daily to Bruno’s Supermarkets, a 60-store grocery chain located in Alabama and Florida. Bruno’s payments to Blue Bell began to slip, going from twice weekly to weekly, but Blue Bell continued its deliveries up until the point that Bruno’s filed for bankruptcy. After the filing, Blue Bell found itself in the unfortunate position of being on the receiving end of a lawsuit from the bankruptcy trustee to recover all payments made to Blue Bell during the 90-day pre-bankruptcy period as “preferences” under 11 U.S.C. § 547.
Congress—recognizing that vendors should be encouraged, rather than discouraged, to extend credit to financially troubled entities—included in the Bankruptcy Code what is known as the “new value” defense, which is found in 11 U.S.C. § 547(c)(4). In short, the new value defense prevents a trustee from clawing back payments made to the vendor when the vendor has provided subsequent “new value” to the bankrupt customer (e.g. in the case of Blue Bell, new ice cream deliveries).
Although it seems simple enough to assert the defense, its application has been problematic for vendors for quite some time, on account of its deep statutory roots, dating back to the Bankruptcy Act of 1898. Until 1978, when Congress amended the statutory language to its current form, the rules required that any new credit extended as part of the new value defense remain unpaid as of the date the bankruptcy was filed. With the “remain unpaid” standard being the rule for such a long period, bankruptcy courts have very often continued to apply it, despite the langue having been removed from the statute. Under a strict application of this old rule, Blue Bell, which delivered over $435,000 worth of ice cream in the 90 days before Bruno’s bankruptcy, and received over $563,000 in payments, would have been unable to assert the new value defense for their continued deliveries simply because Bruno’s did what they were supposed to—they paid Blue Bell for the goods.
The Eleventh Circuit in Blue Bell, joining with the Fourth, Fifth and Ninth Circuits, rejected the application of the “remain unpaid” standard, and found that new value credit need not remain unpaid. Therefore, Blue Bell was entitled to a defense in the amount of the deliveries made, and paid, during the 90-day pre-bankruptcy period, to offset what would otherwise have been the preferences created by Bruno’s late payments. In reaching this conclusion, the court analyzed the intent of Congress in eliminating the language from the statute, and also explored the policy behind the rule. As the court aptly pointed out, “[w]ere this [i.e. the requirement that new value remain unpaid] the rule, a prudent vendor, sensing financial problems by the debtor, would be foolish to continue delivering goods to the debtor….”. BFW Liquidation, LLC, 899 F.3d at 1195.
This ruling by the Eleventh Circuit, along with similar rulings, adds clarity and common sense to the “new value” defense—encouraging vendors to keep goods flowing despite the financial distress of their customer, knowing that, at a minimum, they will receive credit for the additional value they provided to help keep the company afloat.