Fireworks in the Sky but not in Court: Bankruptcy Judge Takes a Practical Approach to the Ordinary Course of Business Defense
A recent decision applied the ordinary course of business defense to a preferential transfer claim where the parties had engaged in only two transactions. In re Reagor Dykes Motors, LP, Case No. 18-50214, Adv. No. 20-05031, 2022 LEXIS 70 (Bankr. N.D. Tex. Jan. 11, 2022). The court took a practical approach to the defense, given the absence of a detailed history of invoicing and payments between the parties.
The background facts are straightforward. Each Independence Day, a charitable organization puts on a fireworks display in Lubbock, Texas. The costs of the show are paid for by local businesses. In 2017 and 2018, the fireworks were sponsored by a local car dealership.
In 2017, the charity sent the dealership an invoice for the sponsorship on February 16, 2017, and the dealership paid on May 24, 2017. In 2018, the invoice was sent on May 14, 2018, and payment was made on July 13, 2018.
In August 2018, the car dealership filed for chapter 11 bankruptcy protection. A bankruptcy trustee sued the charity to void and recover the 2018 payment it received as a preferential transfer. In response, the charity argued, among other things, that the payment was protected by the ordinary course of business defense. Thus, the court analyzed whether the defense applied in light of limited business dealings between the charity and the car dealership.
A transfer is preferential when it involves property in which a debtor has an interest, and if the transfer was:
(i) to or for the benefit of a creditor;
(ii) for or on account of an antecedent debt;
(iii) made while the debtor was insolvent;
(iv) made within 90 days before the bankruptcy filing; and
(v) enabled the transferee to receive more than if the case was a liquidation under chapter 7 of the Bankruptcy Code.
11 U.S.C. § 547(b).
In Reagor Dykes, the parties agreed that all elements of section 547(b) applied except whether the transfer was made on account of an “antecedent debt.” The court observed that the debt arose, and the dealership became obligated to pay the 2018 invoice, when the dealership received the benefits of the sponsorship at the July 4th event. Thus, according to the court, payment on July 13 was on account of an antecedent debt.
The trustee argued against application of the ordinary course of business defense given the paucity of transactions between the parties. The defense can be satisfied based either on a subjective or an objective test. The subjective test considers the invoice and payment history between the specific parties. 11 U.S.C. § 547(c)(2)(A). The objective test considers if the invoice and payment history was within industry standards. 11 U.S.C. § 547(c)(2)(B). The charitable organization sought application of the subjective test.
The court noted that figuring out if a transaction is ordinary “can be difficult.” 2022 Bankr. LEXIS 70, at *17. Factors include:
- the length of time the parties were engaged in the transaction;
- whether the amount or form of tender differs from past transactions;
- whether the debtor’s payment or the recipient’s collection efforts are unusual;
- the circumstances under which payments were made; and
- whether the transferee took advantage of the debtor’s deteriorating financial condition.
Id. (citing Jubber v. SMC Elec. Prods. Inc. (In re C.W. Mining Co.), 798 F.3d 983, 991 (10th Cir. 2015)).
Applying these factions, the court in Reagor Dykes ruled in favor of the charity. Both the 2017 and 2018 payments were made more than 30 days after invoicing. The 2017 payment was made before July 4, while the July 2018 was made after that day. But, the court concluded, the significance of that difference was “tenuous.” The evidence also showed that, in general, the charity undertook no collection efforts and made none with respect to the 2018 event.
In addition, the car dealership had paid the invoice as part of “its practice of donating for community events.” This was a “once-a-year deal” that bought the dealership publicity and goodwill in the local community. There was also no evidence that the dealership had favored the charity over other creditors as it approached bankruptcy, a filing that was “sudden and unexpected.” 2022 Bankr. LEXIS, at *22. In short, because the court found nothing “unusual” about the 2018 transaction, it ruled that the ordinary course of business defense applied to protect the payment received by the charity.
Fortunately, the charity was able to secure sponsorship for the fireworks display in 2019 – from a local law firm.