Fred Hawes Organization, Inc., In re

Decision Date10 April 1992
Docket NumberNo. 91-3089,91-3089
Citation22 Bankr.Ct.Dec. 1056,957 F.2d 239
Parties, 22 Bankr.Ct.Dec. 1056, Bankr. L. Rep. P 74,496 In re FRED HAWES ORGANIZATION, INC., Debtor. William B. LOGAN, Trustee, Plaintiff-Appellee, v. BASIC DISTRIBUTION CORPORATION, Defendant-Appellant.
CourtU.S. Court of Appeals — Sixth Circuit

William B. Logan, Thomas R. Allen, Richard Keith Stovall, argued, briefed, Thompson, Hine & Flory, Columbus, Ohio, for plaintiff-appellee.

Geoffry V. Case, argued, briefed, Columbus, Ohio, for defendant-appellant.

Before MARTIN and MILBURN, Circuit Judges, and ROSEN, District Judge. *

ROSEN, District Judge.

Defendant-appellant Basic Distribution Corporation ("Basic") appeals from the district court's judgment affirming the bankruptcy court's decision that preferential payments in the amount of $21,760.31 made to Basic did not fall within the "ordinary course of business" exception under 11 U.S.C. § 547(c)(2). For the reasons that follow, we affirm.

Basic's challenges can be condensed to four principal issues: (1) whether the lower courts erred in holding that because there had not been an extensive course of dealing involving late payments from debtor to Basic, the preferential payments made by the debtor to Basic were conclusively not "in the ordinary course of business" within the purview of 11 U.S.C. § 547(c)(2)(B) because they were late according to the literal terms of Basic's invoices and monthly billing statements; (2) whether the lower courts erred in interpreting § 547(c)(2)(C) to require that Basic produce "independent" evidence of the open-account payment practices in the electrical-material supply industry; (3) whether the lower courts erred in holding that $1872.22 of the subject payments was not within the "ordinary course" exception despite the fact that it was paid prior to the literal due date on Basic's monthly billing statement to debtor; (4) whether, upon the face of the record, Basic is entitled to the "new-value" set-off provisions of 11 U.S.C. § 547(c)(4).


This appeal concerns two "preferential payments" made by debtor Fred Hawes Organization, Inc. ("FHO"), a small electrical subcontractor, to Basic, one of its trade creditors. 1 The payments were for wholesale purchases of electrical-construction materials and supplies which had been sold by Basic on open-account trade credit to FHO.

FHO established a trade-credit open-account with Basic on November 5, 1985. The account was personally guaranteed by Fred Hawes, the president of FHO. The credit limit on the account was $10,000 with credit terms of "net 30 days." FHO purchased goods on credit from Basic and charged them to its accounts. It appears that FHO made few significant payments on any of the accounts until March 1986, and no payment prior to that time was greater than $5000. 2 The two subject payments were made in March 1986. $5,864.04 was paid on March 5, 1986 and $15,896.28 was paid on March 28, 1986.

On May 14, 1986, FHO filed a voluntary petition under Chapter 7 of the Bankruptcy Code. William B. Logan ("Trustee") was appointed trustee for FHO. On June 13, 1988, Trustee filed an adversary proceeding against Basic seeking recovery of $21,760.31. The main issue of that proceeding was whether the two March payments fell within the protection of 11 U.S.C. § 547(c)(2), which exempts payments "made in the ordinary course of business" and "according to ordinary business terms" from avoidance by a bankruptcy trustee.

Trial before the bankruptcy court was held in December 1988. The sole witness was Andrew W. Kerr, president of Basic. He testified that it is not the industry standard, nor Basic's custom, to follow the literal terms of sale as set forth in an invoice or monthly billing statement. Rather, subcontractors pay in response to the monthly billing statements, not the invoices. The "net thirty" days due date does not begin to run until the end of the month in which the purchase was made. Furthermore, nearly half of Basic's subcontractors do not pay by this "net thirty" days due date. The sixty-day credit hold does not come into effect until the account is sixty days past due, i.e., sixty days past the "net thirty" day due date, not sixty days past the date of purchase. Even then, application of the sixty-day credit hold is not automatic but is applied on a case by case basis.

In its April 14, 1989 decision, the bankruptcy court held that the Trustee could avoid the preferential payments. Basic, it said, had not met its burden of demonstrating that these payments were within the "ordinary course of business" exception of § 547(c)(2). The court entered a judgment against Basic in the amount of $21,760.32.

Pursuant to U.S. Bankruptcy Rule 8001(a), an appeal was taken to the United States District Court for the Southern District of Ohio. In a decision entered October 17, 1990, that district court affirmed the judgment of the bankruptcy court. On December 26, 1990, the district court denied Basic's motion for reconsideration. Basic then timely filed the instant appeal.


The fact-finding of a bankruptcy court is reviewed under the "clearly erroneous" standard. Yurika Foods Corp. v. United Parcel Service (In re Yurika Foods Corp.), 888 F.2d 42, 45 (6th Cir.1989); Waldschmidt v. Ranier (In re Fulghum Const. Corp.), 872 F.2d 739, 742 (6th Cir.1989). A finding of fact is "clearly erroneous" when, " 'although there is evidence to support it, the reviewing court is left with the definite and firm conviction that a mistake has been committed.' " Anderson v. Bessemer City, 470 U.S. 564, 573, 105 S.Ct. 1504, 1511, 84 L.Ed.2d 518 (1985) (quoting United States v. United States Gypsum Co., 333 U.S. 364, 395, 68 S.Ct. 525, 542, 92 L.Ed. 746 (1948)). 3

It is undisputed that Basic has the burden of proving the nonavoidability of a transfer under § 547(c)(2), 11 U.S.C. § 547(g) 4, and must prove each of the three elements of § 547(c)(2) by a preponderance of the evidence. In re Circleville Distributing Co., 84 B.R. 502, 503 (Bankr.S.D.Ohio 1988).


11 U.S.C. § 547(b) states that transfers made in the ninety days preceding the petition for bankruptcy may be avoided as "preferences." However, the Bankruptcy Code permits the transferee of a preferential payment to prevent the avoidance by satisfying the three requirements set forth in 11 U.S.C. § 547(c)(2):

(c) The trustee may not avoid under this section a transfer--

(2) to the extent that such transfer was--

(A) in payment of a debt incurred by the debtor in the ordinary course of business or financial affairs of the debtor and the transferee;

(B) made in the ordinary course of business or financial affairs of the debtor and the transferee; and

(C) made according to ordinary business terms.

11 U.S.C. § 547(c)(2) (emphasis added). There is no dispute that FHO's debts to Basic were incurred in the ordinary course of business as required by subsection (A). The primary dispute, therefore, concerns the last two requirements, subsections (B) and (C).

The legislative history on § 547(c)(2) is minimal. The sole relevant provision states that "[t]he purpose of this exception is to leave undisturbed normal financing relations, because it does not detract from the general policy preference section to discourage unusual action by either the debtor or his creditors during the debtor's slide into bankruptcy." S.Rep. No. 989, 95th Cong., 2d Sess. 88, reprinted in 1978 U.S.Code Cong. & Admin.News 5787, 5874.

Many courts have interpreted § 547(c)(2) to be a means of encouraging normal credit transactions and the continuation of short-term credit dealings with troubled debtors so as to stall rather than hasten bankruptcy. Fulghum, 872 F.2d at 742; See also In re Magic Circle Energy Corp., 64 B.R. 269, 272 (Bankr.W.D.Okla.1986). 5

As the provision is written in the conjunctive, a creditor attempting to satisfy § 547(c)(2) must prove all three elements of that subsection. Apparently, some courts have ignored the distinction between § 547(c)(2)(B) and (C), concluding that both were satisfied so long as the late payments were consistent with the course of dealings between the debtor and the creditor. See In re SPW Corp., 96 B.R. 683, 685 (Bankr.N.D.Tex.1989); In re Unimet Corp., 85 B.R. 450, 453 (Bankr.W.D.Ohio 1988); In re Steel Improv. Co., 79 B.R. 681 (Bankr.E.D.Mich.1987). In In re Steel Improv. Co., the bankruptcy court observed that the "majority" position was to treat the two subsections as if they could be satisfied by one standard. The "minority" position, however, established a separate test for each subsection. In adopting the minority approach, the bankruptcy court said:

The difficulty with the majority approach is that either it ignores subparagraph (C) of Section 547(c)(2) and thereby makes it a nullity, or it interprets subparagraph (C) to require the same showing as subparagraph (B) and thereby makes it superfluous. As this Court previously indicated, "It is a common axiom that a statute should be construed to give meaning to all of its provisions, if possible." In re Hayball Trucking, Inc., 67 B.R. 681, 683 (Bankr.E.D.Mich.1986). See also In re Arnett (Ray v. Security Mutual Finance Corp.), 731 F.2d 358, 361 (6th Cir.1984).

In re Steel Improv. Co., 79 B.R. at 684.

While this court has not expressly established the requirement that fulfillment of each subsection is necessary in order to receive the benefit of the exception, it does so now. In using the conjunctive "and" between subsections (B) and (C)--rather than the disjunctive "or"--Congress clearly intended to establish separate, discrete, and independent requirements which a creditor would have to fulfill to prevent avoidance. As observed by the bankruptcy court in In re Steel Improv. Co., to hold otherwise would not only ignore the clear language of the statute, but would effectively render su...

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