Strategies to Improve Treatment of Claims Before Any Bankruptcy Filing

April 22, 2020

By Ryan T. Murphy

Stopping collapsing dominosDue to COVID-19 and its impact on the economy and markets, businesses are experiencing unprecedented disruption. This disruption ripples through supply-chains and affects businesses large and small. These financial challenges impair the ability of many businesses to meet their obligations, in particular to suppliers or trade vendors. Many of these businesses will be forced to restructure obligations to suppliers, with some having to seek bankruptcy protection. As a result, trade vendors are increasingly encountering the issue of how to protect themselves in the event a customer may file for bankruptcy. The specific concerns include:

  • how-to best assure payment of claim before any bankruptcy filing,
  • in the event a bankruptcy case is filed, how the claims may be paid timely and in full, and
  • how to avoid demands to repay preference payments—a payment made to a creditor typically in the 90 days before a customer files for bankruptcy.

Steps to Improve Payment Before Any Bankruptcy Filing

A trade vendor may take several steps to assure payment from a financially troubled customer, which may include:

  • Enforce existing rights such as to reclaim goods or mechanic liens;
  • Establish new rights such as a security interest or a consignment relationship;
  • Secure customer’s obligations with a deposit or letter of credit; and
  • Obtain a guaranty of payment from a third party.

In the Event Of A Bankruptcy, Steps To Obtain Payment

Once a bankruptcy case is filed, the company may not pay claims that existed as of the filing date. Instead, those claims are paid at the end of the bankruptcy case. In the meantime, the company is obligated to pay any claims arising after the filing date currently. A trade vendor may take a number of steps to best assure timely and full payment, which may include:

  • Where possible, structure amounts as due after the filing date;
  • Enforce or perfect right to reclaim goods or mechanic lien rights;
  • Determine whether post-petition services or goods may be halted;
  • Refuse to do business with the company after the filing of the case unless paid as a “critical vendor” (i.e. pre-filing date claim paid immediately, at least in part); and
  • Refuse to do business with the company after the filing of the case unless contract is “assumed” (i.e. contract and payment obligations honored in full in spite of bankruptcy).

How To Avoid Preference Claims

If you know or suspect that a customer may file bankruptcy, here are steps that may be taken to avoid receiving a “preference”:

  • Change terms to CIA (cash in advance) or COD (cash on delivery);
  • Obtain a deposit greater than new credit to be extended;
  • Obtain a security interest in assets greater than the new credit;
  • Perfect mechanic lien claims;
  • Take payment from a third-party that is not in financial trouble;
  • Set-off amounts trade vendor may owe the customer;
  • Maintain same timing and method of payment—if customer historically pays 45 days after invoice by check keep the customer to that schedule; and
  • Hold new deliveries until payment is received for old deliveries.

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