The Preference and the Ordinary Course Defense
Meridian Supply Co. has sold packaging materials to Coastal Foods for six years on 30-day terms. Coastal's payments had been running 45 to 60 days late for the past year. On March 1, Coastal's controller emailed Meridian asking for 'a little more time' and disclosed that Coastal was 'working with a turnaround consultant.' Meridian demanded immediate payment of the $75,000 outstanding balance. Coastal paid $75,000 on March 15. On May 20, Coastal filed Chapter 7. The trustee sues Meridian to recover the $75,000 as a preferential transfer. Meridian's records show that its invoices historically were paid between 40 and 55 days after invoice date, and that the March 15 payment was made 12 days after the demand. Meridian argues the payment was made in the ordinary course of business and was not intended to prefer. The trustee argues the payment was extraordinary because it was induced by the demand and because Coastal was insolvent.
1. Apply the elements of section 547(b) to determine whether the trustee has established a prima facie preferential transfer.
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Section 547(b) requires the trustee to show six elements: (1) a transfer of the debtor's interest in property; (2) to or for the benefit of a creditor; (3) on account of antecedent debt; (4) made while the debtor was insolvent; (5) within 90 days before the petition date (or one year for insiders); and (6) enabling the creditor to receive more than it would in a Chapter 7 liquidation. Here, the $75,000 payment was Coastal's property, paid to Meridian, a creditor, on account of invoices already due, so elements 1 through 3 are satisfied. Insolvency is presumed during the 90 days before the petition under section 547(f); Coastal filed May 20, and the payment on March 15 falls within 90 days, so the presumption applies and Meridian bears the burden of rebutting it. The payment was within the 90-day window. As to element 6, Meridian was a general unsecured creditor; in a Chapter 7, it would receive a pro rata distribution, likely far less than 100 cents on the dollar. The payment gave Meridian full satisfaction of its claim, more than it would have received in liquidation. The trustee has therefore established a prima facie case. The burden then shifts to Meridian to prove an affirmative defense under section 547(c).
2. Evaluate Meridian's ordinary course of business defense under section 547(c)(2). Which prong is stronger, and what facts help or hurt Meridian?
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Section 547(c)(2) requires Meridian to show the payment was (A) made in payment of a debt incurred in the ordinary course of business of both parties, and (B) made according to ordinary business terms, or (C) made in the ordinary course of business of the debtor and transferee. The debt arose from routine purchase orders over six years, so the threshold requirement is met. The 'subjective' prong (C) asks whether the payment was ordinary as between these parties. Meridian's history of payment 40 to 55 days after invoice is helpful, but the March 15 payment was made only 12 days after Meridian's demand, which is far outside that range. Courts often look at the length of time between invoice and payment; a payment compressed by a dunning letter can fall outside the ordinary course. The demand and Coastal's disclosure that it was working with a turnaround consultant suggest the payment was driven by pressure rather than routine practice. The 'objective' prong (B) asks whether the payment comports with industry norms; Meridian would need evidence of prevailing terms in the packaging supply industry, which the facts do not supply. Meridian's stronger argument is probably the subjective prong, but the 12-day payment and the demand letter cut against it. Meridian's best evidence would be other customers paid on similar accelerated timelines after credit holds, or that Coastal itself routinely paid within days when pressed. The insolvency presumption does not defeat the defense, but the trustee will emphasize the unusual timing.
3. If Meridian loses, what is the measure of liability, and can Meridian assert any offset or new value defense?
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If the transfer is avoidable, section 550 allows the trustee to recover the $75,000 from Meridian, the initial transferee. Meridian may assert section 547(c)(4), the subsequent new value defense, for goods it shipped to Coastal after the March 15 payment on unsecured credit and for which it was not paid. The defense requires that the new value be given after the preferential transfer, that it remain unpaid, and that it not be secured. Meridian's records should be examined for shipments between March 15 and May 20. If Meridian shipped $20,000 of materials after March 15 and was never paid, its liability could be reduced to $55,000. Meridian cannot offset the value of goods shipped before the payment. Meridian may also have a general unsecured claim in the bankruptcy for any unpaid invoices, but that claim is separate from the avoidance action and would receive only a pro rata distribution. Meridian should also consider whether it has a reclamation claim under section 546(c) for goods delivered within 45 days before the petition, which could provide additional recovery. The trustee will likely seek prejudgment interest from the date of demand, so Meridian should weigh settlement against the cost of litigating the ordinary course defense.