The Bankruptcy Appellate Panel for the First Circuit (the “Panel”) recently issued a series of opinions in the In re PMC Marketing Corp. bankruptcy case, in which it ruled on appeals from the Bankruptcy Court for the District of Puerto Rico (the “Bankruptcy Court”). The principal adversary proceeding among those ruled upon, Wiscovitch–Rentas v. Villa Blanca VB Plaza LLC (In re PMC Marketing Corp.), 2016 WL 234963 (B.A.P. 1st Cir. Jan. 19, 2016), provided a helpful survey of the First Circuit’s preference action jurisprudence, including the different analytical frameworks for assessing the “ordinariness” of a given transaction. In so doing, the Panel provided a cautionary tale to preference defendants as to the level of proof they must offer in utilizing the defenses of 11 U.S.C. § 547(c).
The Bankruptcy and Adversary Cases
The Debtor’s case began under Chapter 11 in March 2009, but by May 2010, it had been converted to Chapter 7. In March 2012, the appointed Chapter 7 trustee (the “Trustee”) filed a complaint against Villa Blanca VB Plaza LLC (“Defendant”) seeking “turnover of preferential transfers pursuant to § 547.” The transfers at issue (the “Transfers” or “Transfer”) were two rent payments from the Debtor to Defendant on December 16, 2008 and January 13, 2009; rent was typically due on the first day of each month per the terms of the operative lease agreement.
In the subsequent summary judgment motions that were filed in the Bankruptcy Court, Defendant argued, inter alia, that the Transfers were made in the ordinary course of business “by a tenant to the landlord” pursuant to section 547(c)(2)(A) and (B). Defendant further argued that the Transfer* (*Defendant alleged only one of the Transfers was actually within the preference period, which the Trustee ultimately conceded) was late, and as such could be considered ordinary because it was within the pattern of payments between the parties. In support of this contention, Defendant attached a payment ledger covering the period from May 1997 through July 2011.
The Trustee filed a cross-motion for summary judgment, by which she challenged Defendant’s 547(c)(2)(B) defense on the basis that Defendant neither alleged nor demonstrated that the Transfer was made in accordance with the ordinary business terms of the industry. As to section 547(c)(2)(A), the Trustee alleged that the Transfer was inconsistent with the contract terms, and therefore did not satisfy the ordinary course of business exception. Further, the Trustee argued that reviewing the pre-preference period history showed no set payment pattern – in some months, the Debtor made no payments, while in others it made two, etc. The Trustee later amended these arguments (by way of an amended cross-motion for summary judgment, the “Amended Cross-Motion”) by striking the objective argument while bolstering the subjective argument by supplying an analysis of the degree of lateness of the Debtor’s payments pre-preference period and during the preference period. The latter analysis showed that the “average lateness during the pre-preference period was 64.3 days and the median was 59 days, while the preference period the average lateness and the median were both 105 days.”
The Bankruptcy Court entered an order striking the Amended Cross-Motion for being filed without leave of court and timeliness reasons. As to the merits of Defendant’s 547(c) defense, the Bankruptcy Court found that the ledger “revealed an inconsistent payment date and thus demonstrated that the lessor/lessee payment relationship . . . seemed to be a rather flexible one. . . [Defendant] has met the burden for both § 547(c)(2) and § 547(c)(2)(A).” In so finding, the Bankruptcy Court found no genuine issue of material fact and granted summary judgment in favor of Defendant.
The Trustee immediately filed a motion for reconsideration, arguing that “allowing late payments to be considered ordinary where there is no established pattern of payment would be tantamount to allowing the exception to swallow the rule.” This motion too was denied, prompting the instant appeal.
The Parties’ Arguments on Appeal
The Trustee’s contentions on appeal were largely the same as those contained in his summary judgment arguments, while adding that the Amended Cross-Motion shouldn’t have been struck, as it simply provided the analysis that Defendant should have furnished. In response, Defendant relied upon its assertion that the Transfer was late, thus fitting within the pattern of payments the Debtor and Defendant had established; Defendant did not, however, provide an analysis of that pattern, choosing to rely instead on the Bankruptcy Court’s characterization of the relationship as “a flexible one”. In fact, Defendant rejected the notion that it was required to establish a baseline of dealings at all, arguing that the Debtor’s ledgers and the lease agreement were sufficient.
The BAP’s Analytical Framework
The Panel began by noting that there is “no precise legal test to determine whether a preferential transfer was made in the ordinary course of business between the debtor and the creditor”, and as such, it noted that ordinary course of business defenses can rarely be determined at the summary judgment stage. Referring repeatedly to the seminal First Circuit decision in In re Healthco Int’l, Inc., 132 F.3d 104 (1st Cir. 1997), the Panel stated that “[w]here there were virtually no significant similarities between the challenged payment and the antecedent course of dealings between the parties,” courts should refuse to apply the § 547(c)(2) defense. This “consistency analysis” requires the preference defendant to establish a “baseline of dealing” between the parties during the historical period. Per Healthco, the First Circuit instructs that the factors that “bear upon whether a particular transfer warrants protection under [§] 547(c)(2) … include the amount transferred, the timing of the payment, the historic course of dealings between the debtor and the transferee, and the circumstances under which the transfer was effected.”
The Panel then considered the importance of the “lateness factor”. Citing to, among other cases, the Delaware Bankruptcy Court’s In re Archway Cookies opinion, the Panel found that “[l]ate payments do not preclude a finding that the payment occurred during the ordinary course of business . . . [and that] a pattern of late payments can establish an ordinary course between the parties.”
The Panel next discussed several theories courts have employed in determining whether a given late payment is “ordinary”:
- One approach courts have taken is by utilizing the “average lateness” theory – this involves consideration of the average time of payment after the issuance of the invoice during the pre-preference and post-preference periods.
- Another approach is to consider the “range of lateness”. This method “considers a transfer during the preference period to be ordinary if it is paid within the minimum and maximum days in the range of all payments during the historical period.”
- Yet another approach is to consider the “median lateness” in addition to the average, as the Fifth Circuit has done.
- Finally, the Panel noted the decision reached in In re ACP Ameri-Tech Acquisition, LLC, 2012 WL 481582 (Bankr. E.D. Tex. Feb. 14, 2012), which it characterized as rejecting “any mathematical analysis whatsoever”; the Panel found no other case law support for such an approach.
While finding that the First Circuit has yet to weigh in on the appropriate methodology for analyzing data concerning the lateness of the debtor’s payments during the preference and pre-preference period, the Panel found that the weight of authority suggests that some level of analysis concerning the timing of the preferential payment compared to the historical timing of payments prior to the preference period is warranted.
Applying the Standard
In applying the foregoing framework to the instant case, the Panel first found that the Bankruptcy Court’s decision to be “devoid of legal authority and unaccompanied by any analysis of the data concerning the Debtor’s payment pattern, it is at odds with the weight of authority, which favors a more elaborate, multi-factor analysis to assess whether a challenged transaction is consistent with the parties’ course of dealing.”
Next, the Panel found that “nothing in the record suggests that [Defendant] addressed, or that the bankruptcy court even considered, the issue of the appropriate look-back period for this case, nor does the record otherwise disclose sufficient information from which the Panel might discern when the Debtor was financially sound for purposes of that determination.” As such, Defendant failed to establish a baseline period for comparison, and also neglected to point to and analyze evidence demonstrating that the timing of the Transfer was consistent with, or ordinary in relation to, payment practices during that period. Although it relied on a “lateness” theory, Defendant never disclosed the degree of lateness of the challenged payment. Instead, “[i]t simply furnished the bankruptcy court with a copy of a 32–page payment ledger, without any analysis” from which the Panel could determine that: the Transfer was consistent with past payments in form, deviated from usual collection or payment activities, or did not take advantage of the Debtor’s deteriorating financial condition.
The Panel ultimately found that under no theory is the conclusory incantation “late payments are ordinary course,” standing alone, sufficient to satisfy § 547(c)(2)(A). Rather, the consistency determination requires a “fine-grained analysis.” Ergo, the Panel found in favor the Trustee.
The opinion crystallizes the potential dangers in not completing some sort of analysis when making a 547(c)(2) defense, even in a circuit where uncertainty remains as to the precise standard to apply. Although the data arguably was there to offer an analysis in opposition to the Trustee’s, Defendant here did not do so. The extent to which a contrary analysis in this case would have helped Defendant is unclear, although the Panel noted in dicta that the Trustee’s calculations showed a “meaningful change in the degree of lateness of payments during the pre- and post-preference period.”
Note that the foregoing opinion (available here) was cited in the Panel’s similar and concurrently issued opinions for its analysis of 547(c)(2)(A). See Wiscovitch–Rentas v. Sur CSM Plaza Inc. (In re PMC Mktg. Corp.), 2016 WL 319515 (B.A.P. 1st Cir. Jan. 19, 2016), and Wiscovitch–Rentas v. Santa Rosa Mall LLC (In re PMC Mktg. Corp.), 2016 WL 319528 (B.A.P. 1st Cir. Jan. 19, 2016).