Tag Archives: ordinary course

November 10, 2015

The Tenth Circuit Joins the Sixth, Seventh and Ninth Circuits in Holding that a First-Time Transaction May Qualify for the Ordinary Course Defense under 11 U.S.C. sec. 547(c)

In issuing its decision in Jubber v. SMC Electrical Products, Inc. (In re C.W. Mining Company), 2015 WL 4717709 (10th Cir. 2015), the Tenth Circuit joined the Sixth, Seventh and Ninth Circuits in holding that a first-time transaction between the debtor and a creditor may qualify for the ordinary course defense of § 547(c). [1]  In C.W. Mining the debtor purchased equipment from SMC with the intent of changing its mining operation from continuous mining to longwall mining.  The debtor and SMC had never conducted business with each other before.  The debtor paid SMC $200,000 on for the equipment within ninety days before filing bankruptcy.  The bankruptcy trustee asserted the payment was a preference, but SMC contended the payment was made in the ordinary course.  While noting that it construes preference defenses narrowly, the court reiterated that the ordinary course defense is “intended to leave undisturbed normal financial relations,” and a payment will be within the defense if it is in the ordinary course of both the debtor and the transferee.  The court noted that several bankruptcy courts have held that first-time transactions cannot qualify for the defense, interpreting the statute as requiring the transaction to be in the ordinary course of business between the debtor and the transferee.  The Tenth Circuit declined to follow these decisions and instead agreed with its sister circuits to decide the issue that a first-time transaction can qualify for the defense.

In reaching its conclusion, the Tenth Circuit looked to the language of the statute itself, and noted that it stated the defense refers to ordinary course of business or financial affairs of the debtor and the transferee, not to the business or financial affairs between the debtor and the transferee.  The Tenth Circuit agreed with the Seventh Circuit’s analysis in Kleven  that “the court can imagine little (short of the certain knowledge that its debt will not be paid) that would discourage a potential creditor from extending credit to a new customer in questionable financial circumstances more than the knowledge that it would not even be able to raise the ordinary course of business defense, if it is subsequently sued to recover an alleged preference.”  Kleven, 334 F.3d at 643). 

The court stated that it had previously defined “ordinary business terms” to mean “those used in ‘normal financing relations’: the kinds of terms that creditors and debtors use in ordinary circumstances, when debtors are healthy.”  In re Meredith Hoffman Partners, 12 F. 3d. at 1553.  As a result, the court said that determination of what is ordinary contemplate an examination of what is ordinary in the relevant industry, not what is ordinary in each party’s respective practices.  Agreeing with the Ninth Circuit in Ahaza, the Tenth Circuit concluded that a “first-time debt must be ordinary in relation to this debtor’s and this creditor’s past practices when dealing with other, similarly situated parties.”  In re Ahaza Sys., Inc., 482 F.3d at 1126. 

The Tenth Circuit’s decision reached a balance between the justification for allowing an ordinary course defense for a first-time transaction and the general policy of the preference statute to discourage unusual action by either the debtor or its creditors during the debtor’s slide into bankruptcy.



[1] The sister circuit opinions are:  (1) Gosch v. Burns (In re Finn), 909 F.2d 903 (6th Cir. 1990); (2) Kleven v. Household Bank F.S.B., 334 F.3d 638 (7th Cir. 2003) and (3) Wood v. Stratos Prod. Dev., LLC (In re Ahaza Sys. Inc.), 482 F.3d 1118 (9th Cir. 2007).

December 10, 2013

Tenth Circuit BAP Holds Debt Incurred for New Operating Procedures can be “Ordinary” for Purposes of Section 547(c)(2)(A)

The Tenth Circuit BAP recently addressed a case which presented the question “how ordinary is ordinary?”  In its decision in Rushton v. SMC Electrical Products, Inc. (In re: C.W. Mining Company), 500 B.R. 635 (10th Cir. BAP 2013), the BAP addressed an appeal from a claim by a chapter 7 trustee asserting a preference action against an equipment vendor who defended the action asserting the incurring and payment of the debt was in the ordinary course of business under 11 U.S.C. sec. 547(c)(2)(A). 

The debtor, C.W. Mining, had operated a mine using a process known as the “continuous mining” process.  Prior to filing bankruptcy, the debtor contracted with SMC Electrical Products for the purchase and installation of a longwall electrical system.  Longwall electrical mining is a different process of mining from the continuous mining process, so the acquisition of the longwall electrical system from SMC enabled the debtor to change its historical method of operations.  SMC issued a purchase order to the debtor for the longwall system, and the agreement between the debtor and SMC provided that the debtor would make progress payments as it received invoices from SMC.  The last invoice issued before the debtor was placed into involuntary bankruptcy exceeded $800,000.  This invoice was paid through five payments from three different sources, including at least one payment from an affiliate of the debtor.  The payment by the debtor which the trustee sought to avoid had been made 28 days after the invoice was issued.  SMC introduced evidence showing that it customarily received payments of large invoices over the course of several payments, payments from affiliates of its customer and payments utilizing the same timing as was the case with the debtor.

The ordinary course defense provides that a trustee may not set aside a payment of a debt that of a “debt incurred by the debtor in the ordinary course of business or financial affairs of the debtor.”  11 U.S.C. sec. 547(c)(2).  The trustee argued that, because the debt was incurred by the debtor in order to effect a complete change of its mining system from continuous mining to longwall mining, the debt would not be considered as having been incurred in the ordinary course of the debtor’s business.  The BAP disagreed.  The BAP stated that the purpose of the preference statute is to “prevent creditors from exerting undue pressure on struggling debtors” and to “discourage ‘unusual action’ that might ‘favor certain creditors or hasten bankruptcy by alarming other creditors and motivating them to force the debtor into bankruptcy to avoid being left out.’” (citing Milk Palace Dairy, LLC v. L&N Pump, Inc. (In re Milk Palace Dairy LLC), 385 B.R. 765, 771 (10th Cir. BAP 2008)).  The BAP further stated that the purpose of the ordinary course defense is “’to leave undisturbed normal financial relations, because it does not detract from the general policy of the preference section to discourage unusual action by either the debtor or his creditors during the debtor’s slide into bankruptcy.’” (citing In re M&L Business Machine Co., 84 F.3d at 1339-40). 

The BAP further noted that the fact that the debtor and the creditor had no prior dealings before the transaction in question does not preclude application of the ordinary course defense.  The term “incurred” for purposes of section 547(c)(2) focuses on whether the debt was incurred in a typical, arms-length commercial transaction that occurred in the marketplace, or whether it is atypical, fraudulent or not consistent with an arms-length commercial transaction.  (citing 5 Collier on Bankruptcy ¶ 547.04[2][a][i]).  Consequently, the fact that the transaction between the debtor and SMC was one under which the debtor effected a significant change to its business operations was not determinative.  Instead, focusing on the fact that the underlying transaction was a typical arms-length transaction in the marketplace, the court concluded that the debt arising from the transaction was incurred by the debtor in the ordinary course of its business.   In short, the transaction need not be common, just ordinary.  (citing Huffman v. New Jersey Steel Corp. (In re Valley Steel Corp.), 182 B.R. 728 (Bankr. W.D. Va. 1995)).