Bankruptcy Expert: Judge's Rulings Create Hurdles For Creditors

CLOSTER, N.J., Oct. 5 /PRNewswire/ -- When the bankruptcy reform act became law back in 2005, consumer groups decried the changes as a giveaway to powerful credit-card companies and other creditors. But thanks to a series of rulings by the judge in the Circuit City bankruptcy, the act is being interpreted in some surprising ways—and not always to the benefit of creditors, writes Terrence Corrigan, Managing Director of Abacus Advisors, in a recent issue of Dow Jones Daily Bankruptcy Review.

While the rulings—which are meant to clarify gray areas related to the Bankruptcy Code's so-called reclamation and preferences provisions—apply directly only to those cases filed in Eastern District of Virginia, their ripple effects could eventually be felt nationwide, Corrigan contends in his Sept. 15th "Viewpoint" column ("No Cakewalk for Creditors: Rulings in the Circuit City Case Reveal the Downside of Bankruptcy Reform").

"If federal courts keep interpreting these provisions in divergent ways, the Supreme Court might well be forced to step in and settle things," Corrigan asserts. "In the meantime, one thing is certain: the ballyhooed reform package did not turn bankruptcy into a cakewalk for creditors. On the contrary, they must stay ever-vigilant about protecting themselves."

During the debate over bankruptcy reform, opponents of the legislation targeted controversial provisions like the one that made it harder for individuals to resort to Chapter 7. However, the act also contained a raft of other changes to the Bankruptcy Code that appeared to favor creditors. "A subset of these was geared toward protecting the rights of those who had delivered goods and services to companies that, shortly thereafter, filed for bankruptcy," Corrigan writes in the newsletter, a leading resource for the bankruptcy industry. "The idea was to elevate the claims of vendors caught in such circumstances, and to help them avoid being forced to return payments from companies that later went belly up."

These recent revisions to the Bankruptcy Code's reclamation and preferences provisions contained several gray areas. Over the past year or so, U.S. Bankruptcy Judge Kevin R. Huennekens of the Eastern District of Virginia has issued four rulings that, in effect, erect new barriers for creditors seeking to take advantage of these protections, Corrigan notes. The rulings came as part of the ongoing case of Circuit City, which filed for bankruptcy in November 2008, with inventories reportedly worth over $1.3 billion. "The rulings were unexpected in part because other courts have largely avoided these issues," Corrigan writes. "Judge Huennekens, by contrast, has seemed eager to take them on."

The notion of "preferences," explains the bankruptcy and restructuring veteran, underlies the rationale of forcing creditors to return payments received within 90 days prior to the debtor's bankruptcy filing. By getting these payments back and then redistributing them pro-rata to all the creditors, the thinking goes, no single creditor receives preferential treatment. For their part, creditors enjoy the protection of another ancient remedy: reclamation, whereby goods sent to debtors within either 20 or 45 days before the bankruptcy filing can be reclaimed, or their monetary value recovered.

In the column, Corrigan outlines how the four rulings issued by the judge will affect creditors.

These effects include limiting creditors' ability to reclaim the value of services provided to debtors, over and above the simple value of the goods themselves; putting the onus on vendors to more actively assert their reclamation rights—or risk losing them; disallowing the common practice of defining "receipt of goods" as passage of title rather than physical delivery; and holding that a vendor could not be paid for its reclamation claim until it gave back any payments it had received from the debtor during the 90-day period prior to the filing.

Corrigan discusses the potential impact of these decisions on other districts and, in ending the piece, highlights the imperative for creditors to stay informed about these recent interpretations and any coming developments. He also reiterates the need for creditors to protect themselves by taking smart, cautious approaches to risk-management. "Unlike the Circuit City rulings, however, that (advice) should come as nothing new," he concludes.

About Abacus Advisors

Abacus Advisors (www.abacusadvisors.com) is one of the most experienced turnaround and restructuring firms in the United States.  The Closter, N.J.-based firm assists companies of all sizes with comprehensive operational turnarounds, Chapter 11 reorganizations, business wind-downs, real estate dispositions, and out-of-court restructurings. Founded in 1999, the firm also has offices in metro Chicago and Boca Raton.

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Terrence Corrigan

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SOURCE Abacus Advisors