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Does A Post-Petition Draw On A Letter Of Credit Affect Subsequent New Value Under Section 547(c)(4)? A Closer Look At The Effect Of Post-Petition Payments In The Wake Of Friedman’s

Pirinate Consulting Grp., LLC v. Styron LLC (In re Newpage Corp., et al.), Adv. Proc. No. 13-52443 (KG), 2014 WL 4948421 (Bankr. D. Del. Oct. 1, 2014)

In the wake of the Third Circuit’s Friedman’s opinion, the Court in this decision addressed whether a preference defendant who draws on a letter of credit post-petition may still credit the relevant amounts as subsequent new value under section 547(c)(4) of the Bankruptcy Code.  In denying cross motions for summary judgment on the issue, Judge Kevin Gross illustrated that Friedman’s does not provide a bright line rule in all cases, and that a court may still examine the effect of a post-petition payment on the debtor’s estate before determining whether new value related to the payment may be credited against preference liability under the statute.

Under the facts of the case, Styron LLC (“Styron”) was a chemical supplier to the Newpage debtors (the “Debtors”) that had outstanding invoices of approximately $1.9 million as of the petition date.  However, the Debtors’ obligations to Styron were backed by a letter of credit (the “LOC”), and Styron drew on the LOC post-petition to satisfy the amounts it was owed.  When Styron was later sued by a creditor litigation trustee (the “Trustee”) for avoidance and recovery of preferential transfers, it sought to offset the $1.9 million against its alleged preference liability.  It argued that its position was mandated by Friedman’s, in which the Third Circuit held that subsequent new value under section 547(c)(4) of the Bankruptcy Code is determined as of the petition date, and that post-petition payments by a debtor pursuant to a court order do not affect a creditor’s new value defense.  Friedman’s Liquidating Trust v. Roth Staffing Cos. LP (In re Friedman’s Inc.), 738 F.3d 547 (3d. Cir. 2013).

The Trustee attempted to distinguish Friedman’s on a number of grounds, including that the payment Styron received under the LOC was not authorized by the Court.  The Trustee further argued that Styron’s draw on the LOC harmed other creditors because the LOC was secured by property of the estate, and as a result, indirectly increased the amount of secured claims standing ahead of the debtors’ unsecured creditors.  Under these circumstances, the Trustee argued that allowing Styron to offset the amounts at issue as subsequent new value would violate the policy considerations underlying section 547(c)(4).

In his ruling, Judge Gross acknowledged that, in the wake of Friedman’s, “it is clear that a court-authorized post-petition payment by the debtor does not affect a creditor’s new value defense.”  He further observed that it is “likewise clear that a letter of credit, itself, is not property of the estate.”  Nonetheless, the Court found the case law unsettled “as to the interaction between Section 547(c)(4)(A) and an indirect security interest” where a letter of credit is secured by property of the estate and a draw on the letter of credit results in depletion of the estate.

Under these circumstances, Judge Gross found that further development of the facts and corresponding legal argument are required before His Honor could make a substantive ruling.  Going forward, the Court indicated it may further examine whether Styron imposed new payment terms during the preference period and the legal effect of any such changes, whether the LOC was in fact secured, and whether Styron was obligated to seek Court approval before drawing on the LOC.