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Q1. “I am still working with customers that I know are in financial difficulty. If a customer files for bankruptcy, is there a risk that I may need to return any of the monies I’ve been paid?” Answered by Harold Israel and Sean Williams
The COVID-19 epidemic has and will continue to cause financial distress across all industries. Almost all companies are facing a slowdown in collections, and bankruptcy filings are projected to increase. When a customer files for bankruptcy, there is a risk that funds received from that customer within the 90 days before the bankruptcy case will have to be returned to the bankrupt company. Why? Because these payments are deemed to be “preferences,” allowing the creditor to receive the payment to be paid more than other creditors who did not get paid. The Bankruptcy Code provides certain defenses that allow companies to keep these so-called “preferential payments.”
The following are things to consider to maximize your recovery and mitigate preference risk associated with dealing with a financially troubled company.
- Always take the money. Even though a bankruptcy trustee may want to pursue you for a preference claim in the future (seeking the return of monies paid to creditors pre-bankruptcy), it is always in your best interest to accept all payments. Given the number of defenses available to potential preference recipients, creditors rarely are required to give back all that they have been paid.
- Require cash in advance before shipping. A payment can only be a preference if it is made on account of an “antecedent” debt (a debt that arises before its payment, i.e., payments made on credit). There is no “antecedent” debt if payment is made in advance and you will not have to return the payment.
- Try and stay within the ordinary course. The Bankruptcy Code provides that a potential preference may not be avoided if made in the “ordinary course of business.” Bankruptcy courts usually look to the number of days between invoice issuance and invoice payment before the ninety-day period and compare it to each payment made during the ninety-day period. Payments made earlier or later than the average days-to-pay are susceptible to avoidance. Thus, you should work with your customers to ensure that payments continue to be made within the “ordinary course of business.”
- Apply payments to the oldest invoices first. A creditor may “credit” the value of any goods or services provided to a debtor after the receipt of payment within the ninety days before a bankruptcy filing against its potential preference liability. In many cases, however, this defense is not available if payments are applied to the newest invoices issued. Therefore, we recommend applying payments to the oldest outstanding invoices first.
- Respond to the demand letter. If you receive a message in advance of a lawsuit demanding repayment or are sued for a preference, your lawyer should be able to review the payments, determine which defenses may be available, and attempt to negotiate a settlement with the plaintiff’s counsel. You will most likely obtain a more favorable settlement if you respond to the demand letter with knowledge of your defenses.
Q2. “With all that has been going on to keep our business viable, we have not spent a lot of time focusing on our lending relationships. Are there any issues you have been seeing that we should be keeping in mind?” Answered by Eileen Sethna
Yes. There are a lot of Covid-related lender issues that have arisen. Hopefully, you have already started talking with your lender about the issues you are facing. If not, we recommend you reach out right away. Honestly, transparency and good communication are critical now. Here are some things we’ve been seeing with clients and contacts:
- While interest rates remain low, there is increased and intensified credit scrutiny, making it harder to get a loan. Given the “tightness” of the market, you should work to cultivate a collaborative relationship with your existing lender to maximize your potential access to credit because it may be challenging for you to get a loan elsewhere.
- With payables strained and stretched, your receivables may be aged into “ineligibility.” Talk to your lender now if you see the trend of pushed aging that may knock you out of formula and ask to institute a SOFA “Secured Out of Formula Advance” as part of the borrowing base for an agreed-upon timeframe to ensure you have protected your access to credit.
- If you have a non-recourse guaranty as part of your “regular” loan (not the PPP), make sure you review your non-recourse carveouts to protect against a possible recourse trigger. For example, has the shelter in place shuttered your business? Is your physical plant now vacant? What happens if there is property damage?
- Most lenders required you to sign an amendment with your PPP Note. We recommend you read it carefully to determine what it requires of you and whether there is any additional liability with that amendment. Some amendments have some strong language included relative to the efforts you must undertake to procure forgiveness. For instance, some covenants required a borrower to use “best efforts” to obtain forgiveness of not less than 75% of the loan proceeds, or even more stringent, some amendments required the Borrower to obtain 100% forgiveness of the PPP loan. Your failure to obtain those results may trigger a recourse event on the guaranty of your other loans.
Q3. “My condo’s board election is coming up. What should we do differently?” Authored by Adam Kahn
We recommend conducting elections “remotely” via conference call software and with the use of proxies, absentee balloting, or electronic voting (depending on what the association’s rules provide) to minimize person-to-person contact and adhere to CDC guidelines regarding social distancing. Proxies permit a unit owner to appoint a proxyholder to cast a ballot on their behalf in person at the meeting (the same default proxyholder should be used to reduce the number of persons physically present at the annual meeting to cast ballots). Alternatively, a condominium association may adopt absentee ballot rules and regulations 120 days before an election to conduct the election via absentee balloting without in-person attendance at the annual meeting.
3+. Information overload is a real challenge. We’ve all sat in on our fair share of underwhelming webinars and find ourselves on too many distribution lists to count.
As a response, we are hosting weekly Roundtables with LP to those of you that prefer to hear real-time, direct answers to your specific questions, and participate in dialogue about what our clients are doing and how they are responding to both challenges and opportunities.
These will be small gatherings (only 15 spots per meet-up) and offered around timely topics (such as last week’s “Re-Opening Planning”), geared toward specific resources (like this week’s “Ask a Litigator”) or meant to gather like-businesses or industries with specific challenges (next week is “Loans and Non-Recourse Carveouts”).
- RSVP for “Ask a Litigator” on May 21, 10 AM CST
- RSVP for “Loans and Non-Recourse Carveouts” on May 28, 12 PM CST
- Submit an idea for a future session.
For more resources and LP's response to COVID-19, visit this webpage.