Protecting Carrier Interests
in Shipper and Broker Bankruptcies
Featuring:
Henry E. Seaton, Esq. and
John T. Husk, Esq. of Seaton & Husk, LP
FirstAdvantage Audio Conference
June 10, 2009 / 1:30 p.m. CST
"It's only when the tide goes out that you find
who has been swimming naked. The tide is
going out and it won't be a pretty sight."
-- Warren Buffett
Troubled Industries
• Automotive – GM, Chrysler
– Ripple Effect on Second Tier Suppliers
• Trend in Retailer Bankruptcies:
– Sharper Image, Tweeter, Circuit City, Mattress
Discounters, Mervyn’s, Steve & Barry’s, Bosco,
Linen’s and Things, Lillian Vernon, Domain
Furniture, Progressive Auto Parties, Goody’s, KB
Toys
Insolvency Adversely Affects
Carriers, Shippers and Brokers
freefoto.com
Summary
• Unsecured creditors finish last.
• Banks win because of secured position.
• As a general unsecured creditor, absent
“something else” carriers and brokers can
expect little or none of pre-petition
receivables to be paid.
Strategies to avoid losing receivables
as mere unsecured creditor:
•
•
•
•
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Interest and attorney’s fees
Non-recourse financing LOCs
Spreading liens
Critical vendor
Recourse
LIGS 102-B
Item 35
Collection of Charges
• Any suit arising from the payment and/or collection of carrier’s freight
charges shall be filed in Florida and/or the United States of America;
• Should carrier retain an attorney to collect the charges accruing on the
property covered by carrier’s bill of lading, the party or parties responsible
for payment of the charges will be liable to carrier for attorney’s fees in the
amount of thirty percent (30%) of said total unpaid charges or $200.00,
whichever is greater; and
• Should carrier file suit to collect the charges, the party or parties
responsible for payment of such charges will also be liable to carrier for
court costs, and interest charges at the rate of eighteen percent (18%) per
annum of the total unpaid charges, such interest to begin to accrue from the
date carrier’s bill of lading was issued, however if the interest rate provided
for herein is found to be usurious, then the maximum interest rate allowed
under applicable usury laws will be the chargeable interest rate.
Letters of Credit, Guarantees, NonRecourse Factoring
• Consignor execution of Section 7 is waiver of bill of
lading guarantee.
• By credit application, carrier can seek personal or
bank guarantee, letters of credit, subordination
agreement.
• Consider placing future loads on C.O.D. or reversing
credit terms when customer insolvency is issue.
Liens
Possessory liens trump
secured creditors.
Be sure you have something the
bankrupt needs to reorganize and
the “right” to hold it.
• Trucker’s “Statutory Lien” is of Little Value
– 49 U.S.C 80110 – only the freight charges on the loads in
your possession at time of bankruptcy.
• Statutory lien does not apply to past freight charges
• Warehousemen, on other hand, have “spreading lien”
in warehouse receipt and UCC authority to hold
goods for payment of charges past and present.
• Customs brokers, 3PLs and other sophisticated
supply chain participants negotiate priority liens.
– E.g. Dan River Bankruptcy - Expediters’ preferential lien
extends to draymen with 154 container loads of bed-in-abag at port and over $1 million in receivables.
• State statutory liens – CA, GA – Mervyn.
• Carriers and brokers can negotiate contractual spreading liens
too:
– Spreading liens can be incorporated into your credit applications
– Lien language can be placed in your rules circular with
language as follows:
• Item 670 - LIEN FOR FREIGHT CHARGES. “Carrier shall have
a possessory lien on shipments in its dominion and control for the
payment of freight charges past and present.”
– Anticipation of bankruptcy provisions can be placed in
negotiated contracts.
• For example: “Upon the insolvency of any party, Shipper shall
have the right of immediate delivery for all shipments in transit
upon payment of outstanding freight charges past and present.”
Critical Vendor Status
• Commonly referred to as “doctrine of necessity” or “necessity
of payment rule” See In Re: Ionosphere Club, 98 B.R. 174,
175 (Bankr. S.D.N.Y. 1989)
• Debtor in Chapter 11 gets to choose who gets paid its “prepetition” payables. See In Re: Just for Feet, 242 B.R. 821, 825
(D.Del. 1999); In Re: Lehigh and New England Railway Co.,
657 F.2d 570, 581 (3rd Cir. 1981)
• Affect of customer bankruptcy on poor creditor is not court’s
concern
• If you are “essential” and “irreplaceable” on
petition of debtor, bankruptcy court will
approve payment to unsecured carrier provided
you continue to serve the debtor-in-possession.
• Critical vendor petitions are usually part of
“first day” motions. Don’t accept traffic
department’s word for it.
• Payment of common carrier charges and related fees
in large Chapter 11 cases under the “critical vendor”
or “doctrine of necessity” theory is a frequent
occurrence.
– In Re: Linens Holding Company, Case No. 08-10832
(Bankr. D.Del. 5/2/08)
– In Re: Lillian Vernon Corporation, Case No. 08-10323
(Bankr. D.Del. 2/21/08)
– In Re: Sharper Image Corp, Case No. 08-10322 (Bankr. D.
Del. 2/2008
– In Re: Wickes Holding, Case No. 08-10212 (Bankr. D. Del.
2/5/2008) et al.
The threat of liens motivates
the grant of critical vendor status.
See Mervyn Holdings, Case No. 08-11586 (Bk. Dist. Del.) Order authorizing Debtor to
pay pre-petition accounts owed to common carrier, p. 8:
“The Debtors anticipate common carriers may argue there are entitled
to possessory liens for transportation and/or storage of merchandise in their
possession and may refuse to deliver or release such goods before the liens
are satisfied. Under the laws of certain states, carrier may have a prior lien
on goods in its possession to secure the charges … pursuant to Bankruptcy
Code 363(e) such carriers would be entitled to protection of such a valid
possessory lien …
The value of the merchandise in the possession of common carriers, as well
as the potential harm to debtor’s business if the goods are not released or
timely delivered and sold, far exceeds the amount of any pre-petition shipping
and storage charges.”
Note: Our major clients are frequently offered critical vendor status. (Mervyn,
Goody’s Quebecor, Heilig-Meyers, et al.)
In Re: Pilgrim’s Pride; U.S. Bankruptcy Court,
ND TX; Case No. 08-45664
• At time of filing in December 2008, owed $34.6 million in freight charges on
$810 million worth of product.
• Debtor filed a critical vendor motion relating to creditors other than motor
carriers.
• Debtor filed a separate motion with the Court for authorization to pay prepetition common carrier fees separate and apart from the critical vendor
motion.
• Debtor acknowledged existence of motor carrier liens.
• Debtor concerned that given the perishable nature of goods and sometimes live
nature of the goods, there was a need for action.
• Court granted separate motion and authorized Debtor to pay all undisputed prepetition charges, “Provided however, that if the value of the Debtor’s goods in
the carrier’s possession is less than the amount of carrier’s claim, payment of
such claim may only be made pursuant to Critical Vendor Motion and Order.”
Recourse – Bypassing the Deadbeat
and its Secured Lender
• The bill of lading is the contract of carriage. Its terms and
conditions bind all the parties. See Texas Pacific Railroad v.
Leatherwood, 250 US 470 (1919)
• Consignor – primarily liable unless signed Section 7 or other
negotiations for a release.
• Consignee – becomes liable upon acceptance of goods.
• Truckers Express/Landstar
Most courts follow the strict position that the carrier has recourse
to the shipper unless it affirmatively waives the right.
• Southern Pacific Transportation Co. v. Commercial Metals Co., 456 U.S.
336, 342 (1982)
• Missouri Pacific Railroad Co. v. Center Plains Industries, Inc., 720 F.2d
818, 819 (5th Cir. 1983)
• Strachan Shipping Co. v. Dresser Industries, Inc., 701 F.2d 483 (5th Cir.
1983)
• Contship Container Lines, Inc. v. Howard Industries, Inc., 309 F.3d 910
(6th Cir. 2002)
• Hawkspere Shipping Company, Ltd. v. Intamex, S.A., 330 F.3d 225 (4th
Cir. 2003)
• National Shipping Co. Of Saudi Arabia v. Omni Lines, 106 F.3d 1544 (11th
Cir. 1997)
• Oak Harbor Freight Lines, Inc. v. Sears Roebuck & Co., 513 F.3d 949 (9th
Cir. 2008)
• Exel Transp. Servs. v. CSX Lines L.L.C., 280
F. Supp. 2d 617 (D. Tex. 2003)
– The bedrock rule of carriage cases is that, absent
malfeasance, the carrier gets paid. It is superficially
unfair that [consignors] must pay for shipments twice.
However, allowing them the benefit of carriage without
compensating the carrier would eventually cripple the
shipping industry and the economy generally, as carriers
devoted their time to investigating potential customers
...it is [the shipper’s] responsibility to choose a
subcontractor that can forward money as well as freight
...
A broker can be the agent of the shipper,
the agent of the carrier, or an independent
contractor depending upon the facts.
See 49 C.F.R. 371
RULES CIRCULAR 101
Item 650
THIRD PARTY BILLING
• Carrier does not employ property brokers or other intermediaries as
its agents for the solicitation of shipments or the collection of freight
charges. Carrier will invoice the shipper’s broker, bank or other
agent for freight charges. Carrier reserves the right to bill and
collect freight charges from the shipper on prepaid shipments or the
consignee on collect shipments in the event full payment of freight
charges is not received pursuant to third party billing.
• A shipment in which charges are to be paid by a party other than the
consignor or consignee will be accepted provided recourse to the
consignor is preserved with the carrier picking the shipment up at
origin. The consignor and consignee guarantee to pay the charges if
the third party fails to do so in the time allotted under the applicable
credit regulations. Any such shipment will not be accepted if the
consignor executes a nonrecourse provision of the bill of lading.
Practical Settlement Issues When Broker
Fails to Transmit Funds
• Shippers feel victimized by “double payment”
demands.
• Shipper will voluntarily withhold payment if
convinced broker is engaged in malfeasance or
misfeasance.
• Carrier should offer shipper indemnity against
demand by broker for payment made by offset.
• “Splitting the difference” and workouts make
business sense (e.g. Enron, Lighthouse, Partners).
Effect of Stay on Recourse
• Filing of bankruptcy stays suits against the bankrupt
estate.
• Bankruptcy stay does not effect third party recourse.
• See Old Dominion Freight Lines, Inc. v.
Amazon.com, Inc., U.S. Dist. Ct., E.D.Va., Case No.
02-1006-A (2002).
• Third party lawsuit against shipper may be referred to
bankruptcy court, though, as related proceeding.
Preference Actions –
“Feeding on the Victims”
11 U.S.C. 547(b)
• Permits the Trustee or the Debtor-in-Possession to
recover payments made to the unsecured creditors
within 90 days of the filing of its petition.
• The intent of this statute is:
– to preclude an insolvent debtor from favoring particular
creditors and scaring off trade accounts from doing
business with it when bankruptcy seems inevitable. See
Luper v. Columbus Gas, 91 F.3d 811, 815 (6th Cir.
1996)
What the Trustees must prove:
(1)
(2)
(3)
(4)
(5)
that payment was made to creditor
on account of an antecedent debtor
while the debtor was insolvent
payment made within the 90 day preference
period prior to filing
the creditor got more than it would have in
liquidation
Why the Preference Statute is not Fair
• Because little if any of the money collected from unsecured
creditors is ultimately redistributed to members of the class.
• Because the trustees indiscriminately sue every unsecured creditor
in sight.
• Because the law is applied to require unsecured creditors who are
slow paid to give back payments “made outside the ordinary course”
because the creditor could not motivate more timely payment.
• In practice, trustees demand return of all payments made within 90
days and shift the burden to the transportation creditor.
• IN OTHER WORDS, IF YOU DON’T COLLECT FREIGHT
CHARGES ON TIME, YOU MAY NOT GET TO KEEP WHAT
YOU DO COLLECT!
(1)
The amount of preference payments
reclaimed by trustees under the statute are
huge.
(2)
Often the creditor doesn’t find out about the
preference claims until 2 years after the
bankruptcy is filed
(3)
The bankruptcy court has jurisdiction and
venue. You can be served by mail and
forced to come to Delaware on short notice.
The primary defenses to
preference actions are
“ordinary course of business”
and “new value”
11 U.S.C. 547(c)
Ordinary Course of Business Defense to
Preference Actions
• Ordinary course defense does not mean only the
creditor who got special preferential treatment must
return payments for redistribution!!!
• Most creditors were “slow walked” by the deadbeat
in the 90 day period and slow pays like fast pays are
often considered outside the “ordinary course of
business” defense.
To prove ordinary course of business
defense, creditor must show:
• The debt was incurred in debtor’s ordinary
course of business; and
• The payment was made in “ordinary
course” of affairs between debtor and
transferee
Because freight charges are usual and ordinary
expenses incurred by most bankrupts, the first
prong is not an issue, but to prove that the payment
was made in “ordinary course of affairs” between
the debtor and the transferee, you must show that
the payment was neither inordinately late or early.
In re: Fred Hawes Org.,
957 F. 2d 244 (6th Cir. 1992)
A variation in contractual terms is not
fatal, but it will be used against the
creditor unless you show a long history
before the preference period of accepting
similar tardiness.
Fiber Lite Corp. v. Molded Acoustical Prods.,
160 Bankr. 608, aff’d 18 F.3d 217, 223
(3rd Cir. 1994)
Days-to-Pay analysis showing course of dealing before
and during preference period is the most effective
evidence providing ordinary course defense
Set up and manage “Days to Pay” data to prevent slow
pays and defeat preference demands.
The role of interest and attorney’s fees.
The Role of Bank Wires and ACH in Avoiding
Preference and Effect of Bankruptcy
Do not ignore preference demand letter.
Respond with analysis with letter of counsel
and assure trustee of a fight.
Do not be “low hanging fruit” - consolidate
defense costs with other victims to
overcome “home court advantage”
(e.g. Delaware Counsel; Pacer)
New Value Defense to
Preference Actions
• A trustee may not avoid monies paid to a
carrier during the preference period to the
extent that after the alleged payment, the
motor carrier gave new value. 11 U.S.C.
547(c)
Under the new value analysis you:
• Look at the data you received payment for the
alleged preference.
• Look at your unpaid invoices arising after receipt
of the alleged preference and reduce the
preference obligation, not otherwise avoidable,
dollar for dollar starting with the oldest
subsequent invoice first until the preference claim
or available new value is extinguished.
Caveat:
Giving up “new value” to
extinguish a preference reduces
your claim, but as a claim the
amount owed an otherwise
unsecured creditor is worth little if
anything.
When the
Bankrupt is the
Intermediary
The inadequately resolved issue is
whether the freight charges paid to
a broker represent assets of the
broker’s estate to the extent that
the payment represents freight
charges due to the carrier.
If the broker functions as an agent working
on an undisclosed commission like a
realtor or an insurance agent, then
arguably it owes the shipper and the
carrier a constructive trust duty to
transmit payments and should not be
pleading or hypothecating its gross
receipts to a second creditor.
The broker regulations support this
view of the broker as a constructive
trustee of funds:
• Broker must segregate accounts
• Broker must account on shipment-by-shipment
basis for payments received from shippers and
payments to carriers. 49 C.F.R. 371.3(a)(4)(5)
Broker Insolvency
The Conduit Theory:
Tracing and Special Motor
Carrier Creditors Committee
• The Conduit Theory or Interline Trust Theory holds
that a broker’s receivables and the payments it
receives are not assets of its bankrupt estate to the
extent such payments or receivables represent unpaid
freight charges due to the motor carrier.
• In Parker Motor Freight, Inc. v. Fifth Third Bank,
116 F.3d 1137 (6th Cir. 1997) the Court recognized
the interline trust theory to hold that the rights of the
motor carrier trump the rights of the secured creditor
with respect to such receivables.
• The conduit theory is consistent with the broker regulations
requiring the broker to segregate funds and to keep load-byload accounting of freight charges received, commissions
earned and carrier payments made.
• While brokers typically do not maintain escrow accounts, the
conduit argument suggests that they should and that brokers
should not pledge or hypothecate receivables to be collected
for the benefit of carrier to secure unrelated loans.
• Although transportation factors are aware from experience
that the carrier’s recourse rights to collect from the shipper
can defeat their security interests in broker receivables, large
lending institutions typically take an arrogant and uninformed
position, claiming in bankruptcy their perfected security
interest trumps the carrier’s collection rights.
• Increasingly motor carriers are combining efforts in
intermediary bankruptcies to assert their special
interests under the conduit theory to:
– To oppose the estate and the secured creditor, collecting
through recourse their unpaid freight charges from the
shippers;
– To challenge the secured creditor’s right to cash collateral
to the extent the broker has failed to segregate and pay
carrier bills;
– To argue that the secured creditor and the broker have
engaged in equitable subordination by applying collected
motor carrier receivables to pay broker’s debt (the “sweep
account” problem);
– To defeat the estate’s inevitable preference action, arguing
that the monies paid to the carrier were not recoverable
assets of the estate but monies transmitted to the carriers
in trust.
How these cases have played out thus far can best be
shown in the following examples:
•
In Re: Worldpoint Logistics, Inc., Case No. 02-23448, U.S. Bankruptcy Court,
Western District of Washington (At Seattle)
•
Computrex
– Transportation Revenue Management d/b/a TRM, Assignee of Mastertrans, Inc.,
et al. v. Freight Peddlers, Inc. et al., 2001 Fed. Carr. Cases 84,181
•
In Re: Air Cargo, Inc., Case No. 04-37512, U.S. Bankruptcy Court, District of
Maryland (Baltimore)
•
In Re: Blue Thunder Auto Transport, Inc., Case No. 07-61268, U.S. Bankruptcy
Court, Northern District of Georgia (Atlanta)
•
Pending Case: In Re: Gary W. Schulte, Case No. 08-36130, U.S. Bankruptcy Court,
Southern District of Texas. Schulte is the owner of serial brokerages personally
liable for fraud and embezzlement.
•
Pending Case: In Re: Gulf Coast Transport, Inc., Case No. 09-31896, In the U.S.
Bankruptcy Court, Northern District of Texas. Can a broker factor its receivables
and direct funds through its carrier affiliate?
For more information please visit:
Seaton & Husk, LP
www.transportationlaw.net
and
Transportation Revenue Management, Inc.
www.trmcollect.net
Please direct any questions or comments to:
info@transportationlaw.net
Thank you!