Creditors Must All Be Sung The Same Tune

Earlier this year, we did a blog on the Gibson Guitar bankruptcy. It’s a case we’ve been following closely because it is a high-profile version of a type of case we frequently work on ourselves – a Chapter 11, business reorganization bankruptcy. A recent article in the Wall Street Journal provides yet another peek into the case with a focus on an issue that comes up in almost every business bankruptcy – the pre-filing treatment of creditors.

The guitar company’s creditors are reportedly investigating whether certain lenders were favored in the months leading up to the bankruptcy filing. For example, a loan from Elavon Financial Services DAC, U.K. Branch was swiftly paid down from $60 million to $24 million in the months leading up to the bankruptcy filing.

Businesses that are struggling to stay out of bankruptcy, and those that suspect they will soon be forced to file, often think it is a good idea to pay off small debts so it looks like they have fewer creditors, or to focus on paying down larger debts to keep those lenders happy. But treating some creditors better than others in the months before filing for bankruptcy is a no-no.

If a filer prefers one creditor to others, that creditor might have to give back the money they were paid by the debtor and see it instead distributed to all the creditors.   

The Bankruptcy Code defines a preferential payment as:

  1. Any transfer by the debtor;
  2. Made to or for the benefit of a creditor;
  3. To pay back a debt which was owed by the debtor before the transfer was made;
  4. Made while the debtor is insolvent;
  5. Within 90 days prior to the date the bankruptcy case was filed, or within 1 year for “insiders”;
  6. That enables the creditor to receive more than it would have received in a Chapter 7 liquidation.

This is a very broad definition, so it is common for all of a bankruptcy filer’s creditors to receive a letter alerting them that funds they have been paid are being clawed back. Creditors should not hesitate to fight these demands.

Creditors can often keep the money they were paid or at least reach a settlement allowing them to keep a portion of the payment if they can show that they have a valid defense to a claim of preferential treatment.

The most common defense is that the payment was made for a contemporaneous exchange of goods. Prime examples of contemporaneous exchanges involve cash-on-delivery (COD) payments for equipment or inventory the debtor is using to run their business.

It may also be possible to show that the payment was made in the ordinary course of business, and was therefore not preferential but typical. This is a heavily litigated defense, but one that should not be dismissed just because there are few bright lines rules governing what is done in the ordinary course of business.

Our firm regularly helps creditors defend against all sorts of preference claims.

Trump’s Tariffs May Cause Bankruptcies In Wisconsin

It seems as it each week another tariff on foreign goods, or a retaliatory tariff on American goods, is announced. While some industries may benefit, as President Trump claims, Wisconsin dairy farmers are suffering.

According to a report in the Journal-Sentinel, “About 90 percent of Wisconsin milk is turned into cheese, and all but about 10 percent of that cheese is sold outside the state’s borders. Mexico buys nearly a quarter of all dairy products exported by the U.S., and the American dairy industry is reeling from $387 million in Mexican tariffs — of between 15 and 25 percent — on cheese.”

And it is not just Mexico that is imposing tariffs. Canada, the EU, and China are also getting in on the act. Experts estimate that Wisconsin’s dairy farmers can conservatively expect to lose $75 million a month because of these tariffs.

Unfortunately, suffering is nothing new in the dairy industry. A drop in milk prices over the past few years has brought many small family farms to their knees. As the Journal-Sentinel article notes, “Wisconsin lost 500 dairy farms in 2017, and about 150 have quit milking cows so far this year, putting the total number of milk-cow herds at around 7,600 — down 20 percent from five years ago.”

A look at the latest bankruptcy data shows that 17 Wisconsin farmers filed for Chapter 12 bankruptcy during the first quarter of 2018. Chapter 12 is a special chapter of the bankruptcy code that was enacted specifically so that “family farmers” and “family fishermen” can file for bankruptcy without losing all their assets and giving up their way of life.

Chapter 12 bankruptcies are like Chapter 11 or Chapter 13 bankruptcies in that the goal is to reorganize operations, and repay debts on a payment plan. However, Chapter 12 is simpler and less expensive to file under than Chapter 11, which was designed with large corporations in mind. But Chapter 12 is also a lot better at dealing with the large debts and less predictable income that characterize family farming and fishing operations than Chapter 13 is.

As we all focus on getting through these turbulent economic times, know that our firm is here and ready to help. We are ready to help those who are in financial distress determine what paths forward are available. And if the best option is bankruptcy, we can determine what chapter would be best to file under, and how to structure things so the filer comes through the process set up for success moving forward.

As we always emphasize, filing for bankruptcy is not a sign of failure, it is simply a legal mechanism that allows people and businesses to press the reset button and move on with their lives. More often than not, the cause of a bankruptcy is not something that the filer could control, like the imposition of tariffs.