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What Is The Proper Method For Analyzing Timing Of Payments For The Ordinary Course Of Business?

Stanziale v. Indus. Specialists Inc., a/k/a Indus. Specialists, LLC (In re Conex Holdings, LLC), Adv. No. 12-51170 (CSS), 2014 WL 7205203 (Bankr. D. Del. Dec. 18, 2014)

The Court in this Opinion addressed and clarified the methodology for showing whether payment timing is “ordinary” under the subjective prong of section 547(c)(2) of the Bankruptcy Code.  In so doing, it eschewed the use of weighted averages or other statistical methodologies, and found that payments were ordinary when they were within the range of the parties’ historical dealings and close to the historical average.

Under the facts of the case, the chapter 7 trustee (the “Trustee”) sued Industrial Specialists (“Industrial Specialists”) for avoidance and recovery of $1,181,583.84 of allegedly preferential payments it received from the Conex Holdings, LLC debtors (the “Debtors”).  Industrial Specialists moved for summary judgment under the “ordinary course of business defense” as well as under the Texas Construction Trust Fund Act (an argument the Court did not ultimately have to reach in the Opinion).  The parties’ dispute under section 547(c)(2) focused on whether the timing of payments was ordinary under the subjective prong of the defense.

Industrial Specialists argued that the payments were protected under section 547(c)(2) because (a) they were within the range of the parties’ 16-month course of dealing, and (b) the average timing of the payments was close to the historical average (within 5-7 days depending on whether several “outlier” payments were counted).  Notably, the timing differences of the alleged payments in this case were comparable to those in recent Delaware actions in which the Court granted judgment to defendants based on the ordinary course of business.  See e.g., Burtch v. Detroit Forming, Inc. (In re Archway Cookies), 435 B.R. 234 (Bankr. D. Del. 2010) (4.9-day difference in average payment time not material); Burtch v.  Texstars, Inc. (In re AE Liquidation, Inc.), 2013 WL 5488476 (Bankr. D. Del. Oct. 2, 2013) (7-day difference in average payment time not material).

In response, the Trustee argued the Court should use a different method to analyze the timing of payments.  Instead of simply comparing the range and average timing of payments in the preference period to the historical period, the Trustee argued the Court should use a statistical framework based on dollar-weighted days sales outstanding (“DSO”).  The Trustee asserted that the DSO method showed significant acceleration of payments during the preference period and also a difference of almost 20-days in the weighted average for payment times.

However, Judge Sontchi declined the Trustee’s invitation to use the DSO analysis, and found that nothing in either Third Circuit jurisprudence or the facts of the case mandated the use of dollar-weighted averages to determine timing for purposes of the ordinary course of business.  Moreover, the Court found that a difference of 5-7 days in the average timing of payment was not material. As a result, the Court found that Industrial Specialists had met its burden of showing the timing of the payments was ordinary for purposes of under section 547(c)(2)(A). Since the Court found no other material issues of disputed fact, it granted Industrial Specialists’ motion for summary judgment.

This Opinion arguably reinforces earlier holdings in Delaware cases like Archway Cookies and AE Liquidation that the subjective prong of the ordinary course of business defense may be satisfied by a simple showing that preference period payments were made within the range of the parties’ historical dealings and were close to the historical average for payment timing.  This is not a bright-line rule that applies to all cases.  Indeed, Judge Sontchi noted the Third Circuit has found that average payment timing does not always portray “the complete picture” of the parties’ payment history.  See Troisio v. E.B. Eddy Forest Prods., LLC (In re Global Tissue), 106 F. App’x. 99, 102 (3d. Cir. 2004).  However, the Industrial Specialists opinion seems to suggest that comparing the range and average timing of preference payments to historical norms is at least a good starting point for analysis of timing under section 547(c)(2)(A), and, absent an aberration that would make the average timing misleading, may be all that is required.