3 Steps International Suppliers Should Take Now Before Their Key U.S. Customer Files for Bankruptcy
By Procopio Of Counsel William "Bill" Smelko
As U.S.-based companies file for bankruptcy at record rates, international suppliers of products to those companies are feeling the pinch. Payments for past due invoices often are not paid promptly unless the supplier is a “critical vendor” to the filing entity. The financial impact to suppliers, however, may go far beyond mere non-payment. Suppliers may actually find themselves facing lawsuits seeking the return of payments they’ve already received. Fortunately, three steps suppliers can take now can help should they find themselves facing such a suit and needing legal assistance.
Many international suppliers view their brand-name customers as a reliable source of income. Decisions related to borrowing and future expansion are premised on receiving timely payments from their U.S. business customers. That changes when a former blue-chip customer enters Bankruptcy Court, complicating the path to repayment of legitimate debts owed to vendors and suppliers. Waiting for a “plan” to be developed, prepared, proposed and confirmed by the Court takes time, but the supplier may assume the debt will eventually be repaid.
Sadly, that is not always the case. In fact, the problem can get worse. The U.S. Bankruptcy Code (11 U.S.C. §§101, et seq.) gives enormous powers to a Trustee or Debtor-in-Possession to recover payments made by a debtor entity to creditors and others in the 90 days before the filing date of a bankruptcy case. Under the premise of “equal treatment” of creditors, the principal Bankruptcy statutes empowering Trustees or Debtors-in-Possession to file suits against creditors to “claw back” pre-petition payments made to a creditor are 11 U.S.C. §547 (Preferences) and §548 (Fraudulent Conveyances).
Waiting in the wings are the “Strong-Arm” powers given to Bankruptcy Trustees or Debtors-in-Possession. Bankruptcy Code Sections 542-552 allow for: (i) demanding the return of property, (ii) avoiding liens placed on property and, most perniciously, (iii) clawing back payments made to creditors in the 90 days (or in some cases the one year) preceding a Bankruptcy Petition filing.
The “Preference” or “Fraudulent Conveyance” process usually starts with a demand letter to the supplier threatening a suit if payments it received in the 90 days before the bankruptcy case was filed are not returned. After that, a summons and complaint will be filed and served upon the creditor seeking both the amount previously paid and a Bankruptcy Court order that the creditor’s claim be “disallowed.”
International suppliers of goods, products and inventory to U.S. companies should prepare now to help their legal counsel defend against what may well otherwise become federal Bankruptcy court judgments. The following steps will help your legal counsel protect you against these lawsuits:
- Get paid promptly for your invoices. Make certain the U.S. company you’re doing business with pays you according to the business terms agreed upon, preferably in writing. Assume that payments received that are delayed beyond 30-day terms will always be “at risk” if a Bankruptcy Petition is filed by your customer.
- Cash checks that you receive from U.S. companies promptly. Better yet, arrange to receive payments by wire transfer and make sure to maintain and organize the records for your shipments, invoicing and payment receipts. The “preference” period is tied to the date that a check “clears” into your account, not when the check is dated, sent or received.
- Keep clear, easily accessible and verifiable records. Track all order, shipping, invoicing and payment dates of your transactions with U.S. customers. Statutory defenses to Preference and Fraudulent Conveyance actions need to be proven by you as the defendant, and having clear, easily understood records of the transactional history between your company and the debtor will save in legal fees and may well provide your company a defense to any claim brought under Preference or Fraudulent Conveyance statutes.
It’s worth noting that perhaps the best way to avoid the preference claims is for the supplier or manufacturer of goods to have a Purchase Money Security Interest (PMSI) in the goods and proceeds from the sale of the goods themselves under U.C.C. §9-324. That avoids the risk of “claw back” and gives the supplier priority in receiving payment on any outstanding invoices ahead of other unsecured creditors (and even senior secured liens).
Even without the PMSI, suppliers of goods have an administrative claim under Section 503(b)(9) of the Bankruptcy Code for the “value of any goods” delivered within 20 days of the bankruptcy filing. Suppliers of goods also have a “reclamation claim” under Section 546(c) of the Bankruptcy Code to retrieve goods provided but not paid for within 45 days before the bankruptcy.
It’s hard enough for an international supplier to lose one of their most important clients due to the latter’s filing of bankruptcy. Even more difficult is the prospect of not only losing out on receiving outstanding payments but also having to surrender payments previously received. Taking steps now to prepare your company for this worst-case scenario can go a long way in ensuring your continued operation particularly during this ongoing global pandemic.
William “Bill” Smelko represents clients in litigation with an emphasis on business bankruptcy, restructuring and corporate governance disputes, and is a member of Procopio's Finance, Restructuring and Bankruptcy practice. Bill has successfully litigated all aspects of bankruptcy matters from both the creditor’s and debtor’s perspective. His practice also involves advising banks, credit unions and other financial institutions on a variety of bankruptcy related matters, including plan confirmation objections, asset disposition and use motions, stay relief litigation, lease disputes and the prosecution and defense of discharge objections and nondischargeability complaints.