First Impressions: The Eleventh Circuit Examines 20-Day Administrative Expense Claims And The Subsequent New Value Preference Defense

• Jurisdiction: United States,Federal
• Law Firm: Jones Day
• Subject Matter: Insolvency/Bankruptcy/Re-structuring, Insolvency/Bankruptcy
• Author: Nathan P. Yeary and Mark Douglas
• Published date: 01 February 2023

The Bankruptcy Code confers "administrative expense" priority status on the claims of vendors for the value of goods that are shipped in the ordinary course of business and received by a debtor within 20 days of filing for bankruptcy. It also provides vendors and other creditors with various defenses to the avoidance of preferential payments received from the debtor during anywhere from 90 days to one year before filing for bankruptcy, depending upon whether the creditor is an "insider" of the debtor.

One of those defenses shields from avoidance as a preferential transfer any payment made to a creditor to the extent that the creditor subsequently gave "new value" to the debtor, as long as that new value is provided on an unsecured basis and the debtor does not thereafter make an "otherwise unavoidable" transfer to the creditor.

Because such prepetition unsecured "20-day claims" are granted administrative expense priority'a designation almost exclusively limited to claims against a debtor that arise after the bankruptcy petition date'courts sometimes disagree over whether a preference defendant can use the same value to assert a 20-day claim that it can use to offset its preference liability under the "subsequent new value" defense. The U.S. Court of Appeals for the Eleventh Circuit recently addressed this question as a matter of first impression in Auriga Polymers Inc. v. PMCM2, LLC, 40 F.4th 1273 (11th Cir. 2022). It held that a preference defendant may use the same value to assert a 20-day claim that it can use to offset its preference liability under the subsequent new value defense. In so ruling, the court determined that only prepetition transfers affect a creditor's subsequent new value defense.

Administrative Expense Priority for 20-Day Claims

Section 503(b)(9) of the Bankruptcy Code provides that a creditor shall have an administrative expense claim for "the value of any goods received by the debtor within 20 days before the date of commencement of a [bankruptcy] case ... in which the goods have been sold to the debtor in the ordinary course of such debtor's business." Unless the creditor agrees otherwise, a debtor cannot confirm a chapter 11 plan without paying administrative expense claims in full. See 11 U.S.C. ' 1129(a)(9)(A). By contrast, vendor claims that do not meet the requirements of section 503(b)(9) typically are treated as general unsecured claims, entitling the holders to no more than their pro rata share of the estate's unencumbered assets.

Section 503(b)(9) was adopted to incentivize trade creditors to continue doing business with distressed companies. The provision "is a significant statutory departure from virtually all other parts of section 503(b), because it expressly affords administrative expense status to certain prepetition debts." Collier on Bankruptcy ("Collier") ' 503.16 (16th ed. 2022).

Section 503(b)(9) complements a seller's "reclamation" rights under applicable non-bankruptcy law. Section 546(c) of the Bankruptcy Code provides that, with certain exceptions, the avoidance powers of a bankruptcy trustee or chapter 11 debtor-in-possession ("DIP") are subject to the right of a vendor who sold goods to a debtor in the ordinary course of the vendor's business to "reclaim" those goods from the debtor, including by stopping shipment of or retrieving the goods, "if the debtor has received such goods while insolvent" and within 45 days before filing for bankruptcy, provided that the vendor timely gives notice of the reclamation. Section 546(c)(2) explicitly provides that a seller failing to timely give such notice may nonetheless "assert the rights contained in section 503(b)(9)." Section 503(b)(9) "'provides a supplemental remedy for those sellers who would be preferred reclamation sellers, but for a minor disqualification under section 546(a).'" In re World Imports, 516 B.R. 296, 297 (Bankr. E.D. Pa. 2014) (quoting In re Momenta, Inc.,2012 WL 3765171, *4 (D.N.H. Aug. 29, 2012)); accord In re O.W. Bunker Holding N. Am. Inc., 607 B.R. 32, 40 (Bankr. D. Conn. 2019).

The Subsequent New Value Defense to Preferential Transfer Avoidance

Section 547(b) of the Bankruptcy Code provides that a trustee or DIP, "based on reasonable due diligence in the circumstances of the case and taking into account a party's known or reasonably knowable affirmative defenses under subsection (c)," may avoid "any transfer" made by an insolvent debtor within 90 days of a bankruptcy petition filing (or up to one year, if the transferee is an insider) to a creditor, if the creditor, by reason of the transfer, receives more than it would have received in a chapter 7 liquidation and the transfer had not been made. 11 U.S.C. ' 547(b).

Section 547(c) sets forth nine defenses or exceptions to preference avoidance. One of those is the "subsequent new value" defense in section 547(c)(4), which provides as follows:

The trustee may not avoid under this section a transfer ... to or for the benefit of a creditor, to the extent that, after such transfer, such creditor gave new value to or for the benefit of the debtor'

(A) not secured by an otherwise unavoidable security interest; and

(B) on account of which new value the debtor did not make an otherwise unavoidable transfer to or for the benefit of such creditor[.]

11 U.S.C. ' 547(c)(4)...