In re DeMert & Dougherty, Inc.
| Decision Date | 31 March 1999 |
| Docket Number | No. 98-CV-7948,Bankruptcy No. 96 B 0851.,98-CV-7948 |
| Parties | In re DeMERT & DOUGHERTY, INC., Debtor, Alex D. Moglia, as Trustee of the Chapter 7 Estate of DeMert & Dougherty, Inc., Plaintiff-Appellee, v. ISP Technologies, Inc., and ISP Technologies-Van Dyk, Defendant-Appellant. |
| Court | U.S. District Court — Northern District of Illinois |
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William J. Barrett, Gardner, Carton & Douglas, Chicago, IL, for ISP Technologies, Inc., appellant.
Michael Joseph Small, Foley & Lardner, Chicago, IL, for Alex D. Moglia, appellee.
This case is before the Court on direct appeal from the Bankruptcy Court. Since at least 1984, Appellant/Defendant ISP Technologies, Inc. ("ISP") sold chemical products to Debtor DeMert & Dougherty, Inc. ("DeMert & Dougherty") for incorporation into chemical-based consumer products, including hair care products. In January 1996, DeMert & Dougherty filed a petition for relief under Chapter 11 of the Bankruptcy Code, later converted into a Chapter 7 case. On January 8, 1998, Appellee/Plaintiff Alex D. Moglia, DeMert & Dougherty's Chapter 7 Trustee, filed an adversary complaint to recover preference payments DeMert & Dougherty made to ISP in the ninety days before DeMert & Dougherty filed for bankruptcy protection.
The case went to trial before the Honorable John H. Squires of the United States Bankruptcy Court for the Northern District of Illinois. The Bankruptcy Court found that ISP carried its burden to prove that the transfers were made in the "ordinary course of business" between ISP and DeMert & Dougherty. However, the Bankruptcy Court held that ISP failed to establish that a portion of the payments could be avoided as made in accordance with "ordinary business terms."
ISP appeals the Bankruptcy Court's entry of judgment against it. Specifically, ISP asserts that the Bankruptcy Court clearly erred when it 1) determined that the relevant industry for analyzing the "ordinary business terms" component of ISP's ordinary course of business defense was the sale of chemicals for incorporation into beauty products; and 2) found that ISP's witness' testimony was insufficient to show that the transfers at issue were made according to "ordinary business terms" of ISP's competitors. We affirm.
The following facts are gleaned from the Transcript of the Proceedings and the parties' briefs.1 ISP manufactures a broad range of specialty chemicals for incorporation into a variety of products, including clarifiers for beer and wine, ingredients for degreasers, UV inhibitors, and polymers for hair care products. DeMert & Dougherty manufactures beauty products and "HEET", a product sold to prevent automobile gas line freeze.
In January 1996, DeMert & Dougherty filed for bankruptcy protection. Prior to filing, during the summer of 1995, DeMert & Dougherty acknowledged its financial distress and asked ISP and a number of other suppliers to convert a large portion of their open account balances into promissory notes. DeMert & Dougherty also requested that these suppliers/creditors continue supplying product on an open account basis. ISP agreed and continued its shipments to DeMert & Dougherty until just before the January 1996 bankruptcy filing. DeMert & Dougherty made no payments to ISP on the promissory note. (10/26/98 Tr. at p. 26). However, DeMert & Dougherty did pay invoices for product subsequently shipped. At issue are $93,767.00 in invoice payments made for product ISP shipped to DeMert & Dougherty during the preference period. (Id.)
The Trustee commenced this adversarial proceeding against ISP to avoid these alleged preferential payments pursuant to § 547 of the Bankruptcy Code. The parties stipulate that the invoice payments to ISP qualified as preferences under 11 U.S.C. § 547(b).2 The parties also stipulate that $26,636.50 of the invoice payments to ISP could not be avoided by the Trustee because, pursuant to 11 U.S.C. § 547(c)(4), ISP provided that amount of "subsequent new value" to DeMert & Dougherty.3 With respect to the remaining amount of preference period payments — approximately $67,000.00 — ISP raised the affirmative defense that the payments were made in the ordinary course of business and thus fell within the "ordinary course of business" exception to the Trustee's avoidance power found in 11 U.S.C. § 547(c)(2).
Under § 547(c)(2), a trustee may not avoid payments made during the preference period when those payments were made in the ordinary course of business. In order to claim the § 547(c)(2) ordinary course of business exception, a preference defendant must satisfy three elements. The creditor must show "that the debt had been incurred in the ordinary course of the business of both the debtor and the creditor, § 547(c)(2)(A); that the payment, too, had been made and received in the ordinary course of their businesses, § 547(c)(2)(B); and that the payment had been `made according to ordinary business terms' under § 547(c)(2)(C)." In re Tolona Pizza Products Corp., 3 F.3d 1029, 1031 (7th Cir.1993). The parties stipulate that DeMert & Dougherty incurred the debt to ISP in the ordinary course of their business, thereby satisfying the first requirement of the § 547(c)(2) ordinary course of business defense. To satisfy the remaining two elements of the ordinary course of business defense at trial, ISP had to prove that the preferential payments were made in the ordinary course of business between ISP and DeMert & Dougherty pursuant to § 547(c)(2)(B), and made according to "ordinary business terms" pursuant to § 547(c)(2)(C).
At trial, Catherine Joy, ISP's Midwest Sales Manager, testified that from at least April 1984 ISP sold "polymers for hair care business" to DeMert & Dougherty, which DeMert & Dougherty ultimately incorporated into hair sprays. (10/26/98 Tr. at 8-9). Joy testified that these polymers were not specific to hair sprays but are sold to other industries as well. (Id. at 9) ISP claims that DeMert & Dougherty also purchased chemicals from ISP for incorporation into HEET, but, at trial, ISP did not present evidence that ISP sold DeMert & Dougherty any chemicals other than those used in hair care products.
ISP offered the testimony of its current credit manager, Gordon Miller, to show that DeMert & Dougherty's payments to ISP were made within the ordinary course of business and according to ordinary business terms under § 547(c)(2)(B) and § 547(c)(2)(C) and thus could not be avoided as preferential transfers. Miller has been employed by ISP since July 1996, six months after DeMert & Dougherty filed for bankruptcy protection and well after the preference period. The Trustee objected to Miller's status as an expert and fact witness on the grounds that Miller was not employed in any capacity in the chemical industry during the critical period from March 1994 through July 1996, and that he had no personal knowledge of the credit practices of ISP's competitors. The Bankruptcy Court overruled the Trustee's objection and permitted Miller to testify.
In determining the relevant industry, Judge Squires recognized that Seventh Circuit caselaw failed to fully delineate "the parameters are of the industry practice" for purposes of determining relevant competitor practices under § 547(c)(2)(C). (10/22/98 Tr. at p. 57). Judge Squires ruled that the beauty products industry was the appropriate industry standard in this case to measure "ordinary business terms" under § 547(c)(2)(C). (Id.) To define the relevant industry more broadly than chemical suppliers selling beauty-care product to manufacturers would, for the purposes of § 547(c)(2)(C), fail to "establish the true meaningful industry standard" because ISP supplies to such a broad spectrum of manufacturers. (Id. at 58) Therefore, the Bankruptcy Court adopted the more narrow industry definition.
At the end of the two day trial, the Bankruptcy Court held that the payments at issue were made in the ordinary course of business between ISP and DeMert & Dougherty, satisfying § 547(c)(2)(B). (10/26/98 Tr. at p. 44). However, the Bankruptcy Court held that, under § 547(c)(2)(C), ISP failed to establish by a preponderance of the evidence that DeMert & Dougherty's payments to ISP were made according to "ordinary business terms" within the beauty products or hair care products industry. (10/26/98 Tr. at p. 41).
In making this determination, the Bankruptcy Court discounted ISP's expert witness testimony, finding that Miller had no personal knowledge of ISP's competitors' credit terms or payment histories, had not conducted his own survey of the competitors' credit terms or payment histories, and that none of the materials reviewed by Miller "specifically dealt with credit terms or payment collection histories on the beauty products subset or subindustry for the larger chemical industry" of which ISP is a supplier and member. (10/26/98 Tr. at p. 40-41). Judge Squires stated that there must be "evidence obtainable as to what the payment histories are of the various manufacturers of hair and beauty care products to their chemical suppliers who furnish the raw materials from which they fabricate all these products that are readily available," but that ISP failed to produce such evidence. (10/26/98 Tr. at p. 49). Because ISP failed to establish that the payments were made according to ordinary business terms, the Bankruptcy Court entered judgment for the Trustee under 11 U.S.C. § 547(b) and 11 U.S.C. § 550.
This Court must determine whether the Bankruptcy Court erred in concluding that ISP failed to establish that DeMert & Dougherty made the payments according to "ordinary business terms" under 11 U.S.C. § 547(c)(2)(C). A district court is required to accept the bankruptcy judge's factual findings as long as they are not clearly erroneous. In re Tolona Pizza, 3 F.3d at 1033. A bankruptcy court's findings...
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