In re Thomas W. Garland, Inc., Bankruptcy No. 81-01175(1)

CourtUnited States Bankruptcy Courts. Eighth Circuit. U.S. Bankruptcy Court — Eastern District of Missouri
Writing for the CourtROBERT E. BRAUER
Citation19 BR 920
PartiesIn re THOMAS W. GARLAND, INC., Debtor. THOMAS W. GARLAND, INC., Plaintiff, v. UNION ELECTRIC COMPANY, Defendant.
Docket NumberBankruptcy No. 81-01175(1),Adv. No. 81-0257(1).
Decision Date05 May 1982

19 B.R. 920 (1982)

In re THOMAS W. GARLAND, INC., Debtor.

Bankruptcy No. 81-01175(1), Adv. No. 81-0257(1).

United States Bankruptcy Court, E.D. Missouri, E.D.

May 5, 1982.

19 BR 921

A. Thomas DeWoskin, Clayton, Mo., for plaintiff.

Claiborne P. Handleman, St. Louis, Mo., for defendant, Union Elec. Co.


ROBERT E. BRAUER, Bankruptcy Judge.

Pending for disposition is a Complaint filed by the Plaintiff, Thomas W. Garland, Inc., a Debtor-in-Possession in a Chapter 11 liquidation proceeding. In its Complaint Plaintiff alleges that certain payments made by it to the Defendant, Union Electric Company, during the ninety days preceding the filing of its Bankruptcy Petition constitute preferential transfers as defined in 11 U.S.C. § 547(b) and prays for an order requiring the turnover to the Debtor-in-Possession of these alleged preferential transfers pursuant to 11 U.S.C. § 547(b) and 11 U.S.C. § 1107(a). In its Answer the Defendant, Union Electric Company, admits receipt of certain payments made by the Debtor-in-Possession during the ninety days preceding the filing of the Debtor's Bankruptcy Petition, but denies that these payments constitute preferential transfers within the definition of a preferential transfer as set forth at 11 U.S.C. § 547(b). In the alternative, Union Electric alleges that, if this Court finds the transfers to be preferential transfers, these transfers are not voidable by the Debtor-in-Possession as the transfers fall within exceptions to the avoiding powers of the Debtor-in-Possession set forth at 11 U.S.C. § 547(c)(2) and 11 U.S.C. § 547(c)(4). Trial was had on August 17, 1981, with leave to the parties to file briefs.

The Debtor-in-Possession (Garland's) operated seven retail clothing stores in the St. Louis metropolitan area. The Defendant (Union Electric) provided electrical service to Garland's at all seven locations plus

19 BR 922
steam service at one location, so that eight separate running accounts were maintained between Garland's and Union Electric

Union Electric provided electrical and steam service to Garland's on a continuing basis. The kilowatts of electricity and pounds of steam furnished by Union Electric were recorded on meters which were read periodically, approximately every thirty days. Individual billing statements were prepared based on the amounts of electricity or steam consumed (as determined by the meter reading) and then mailed to Garland's for payment. The exhibits reflect that the billing statements were prepared and mailed approximately seven days after the end of the approximately thirty-day service period. Garland's normally paid these utility bills by mailing a check to Union Electric sometime after receipt of the billing statement. Several weeks typically elapsed between the time a billing statement was mailed to Garland's and payment was remitted to Union Electric. This delay in payment has prompted Garland's, as a Debtor-in-Possession, to challenge the payments made to Union Electric as preferences within the definition in the Bankruptcy Code.

Union Electric relies primarily on an application of the judicially created "net result rule" in its denial that the payments received from Garland's were preferential transfers under 11 U.S.C. § 547(b). The net result rule provides as follows:

When, for goods sold and delivered, payments are made on a running or open account between the parties in the regular course of business within the 90-day period, without the knowledge on the part of the creditor of the debtor\'s insolvency, and the net result of these transactions is to enrich the debtor\'s estate by the total sales, less the total payments, such payments or transfers are not preferential, even though no corresponding goods are exchanged for the payments made within 90 days before bankruptcy. It was said that if the net result were in favor of the creditor, then a preference was effected to that extent.

4 Collier on Bankruptcy § 547.40, at 547-125, 126. (15th ed. 1981). Union Electric asserts that the value of the utilities supplied by Union Electric to Garland's during the 90-day preference period exceeded the amount of Garland's payments to Union Electric during this same period, the net result being an increase in the value of the bankruptcy estate. Therefore, according to Union Electric, the payments to it do not enable Union Electric to receive more than it would receive if the transfers had not been made,1 because, if such transfers had not been made, Union Electric would not have provided further utility services and the bankruptcy estate would not have been enriched to the extent of the value provided by Union Electric in the form of those additional utility services.

The net result rule developed originally as a result of judicially perceived inequities in the Bankruptcy Act of 1898. Section 60(a) of the Bankruptcy Act of 1898 defined a preference as a transfer of property by a debtor to his creditor which would enable that creditor to obtain a greater percentage of his debt than other creditors. Section 60(b) provided a remedy for recovery of a preferential transfer. The preferential transfer could be avoided by the Trustee and the property or its value recovered, provided, however, that the creditor had reason to believe a preference was intended.

In 1901, in the case of Pirie v. Chicago Title & Trust Co., 182 U.S. 438, 21 S.Ct. 906, 45 L.Ed. 1171 (1901), the United States Supreme

19 BR 923
Court was called upon to interpret Section 57(g) of the Act which mandated that "the claims of creditors who have received preferences shall not be allowed unless such creditors shall surrender their preferences." The creditor, Carson, Pirie, Scott & Company, received a preferential payment, as defined in section 60(a), which reduced the bankrupt's outstanding debt to Carson's. However, because Carson's had no knowledge of the bankrupts' insolvency and no reasonable cause to believe the payment was intended to be a preference, the preferential payment was not voidable under section 60(b) by the Trustee, Chicago Title and Trust Company

In a 5-4 decision, the Supreme Court interpreted section 57(g) literally to require the surrender of all preferences, voidable as well as non-voidable or technical, before a preferred creditor's claim would be allowed. Carson's was given the option of retaining its technical preferential payment and foregoing any participation in a distribution of assets by the Trustee, or, returning the technical preference and participating with other creditors in any distribution made by the Trustee.

Subsequently, in running account cases, several courts attempted to alleviate this seemingly harsh result by holding that certain payments made to a creditor within four months of bankruptcy were not preferences as defined in section 60(a). In Kimball v. E.A. Rosenham Co., 114 F. 85 (8th Cir. 1902), the Eighth Circuit Court of Appeals held that

The receipt by a creditor of payments upon an account current, in the usual course of business, which are followed by new credits for property delivered to the debtor, which becomes a part of his estate, for which the creditor has not been paid, and which equals or exceeds in amount and value the payments, does not constitute a preference, under section 60a, and does not require the creditor to surrender such payments as a condition of the allowance of his claim, under section 57g of the bankrupt act of 1898.

Id. at 88, 89. The Court in Kimball reasoned that the payments and subsequent credits on the running account must be considered as parts of the same transaction because of their mutual interdependence and relation. Common business practice, purpose, and motive could not be ignored:

The customary and natural effect of payments upon a live account current is the continuance of the account and the extension of new credits. Stop payments upon such an account, and new credits are not extended, and the account closes. Make payments, and the account continues and further credit is given. The payments upon the old credits constitute the inducement for the extension of new credits, without which these credits would not be made.

Id. at 87. Because the value of the new credits on the running account exceeded the value of the payments on the account, such payments did not, in the words of section 60(a), "enable such creditor to obtain a greater percentage of his debt than some other creditor of the same class." See also, Dickson v. Wyman, 111 F. 726 (1st Cir. 1901); In re Sagor & Brother, 9 Am.Bankr. Rep. 361 (2d Cir. 1903); Gans v. Ellison, 114 F. 734 (3d Cir., 1902).

The United States Supreme Court, citing the decisions by the courts in Kimball, Dickson, Sagor, and Gans, confirmed the validity of the net result rule in Jaquith v. Alden, 189 U.S. 78, 23 S.Ct. 649, 47 L.Ed. 717 (1903). In Jaquith v. Alden, the court held that "payments on a running account, where new sales succeed payments and the net result is to increase the value of the estate, do not constitute preferential transfers under section 60(a)." 189 U.S. at 83. The Supreme Court reaffirmed its decision in Jaquith v. Alden in Yaple v. Dahl-Millikan Grocery Co., 193 U.S. 526, 24 S.Ct. 552, 48 L.Ed. 776 (1904) and Joseph Wild & Co. v. Provident Life & Trust Co., 214 U.S. 292, 29 S.Ct. 619, 53 L.Ed. 1003 (1909).

In 1903 Congress amended section 57(g) of the Bankruptcy Act, reducing its application to void or voidable preferences.2 The

19 BR 924
recipient of a technical preference, that is, one who took without knowledge of a debtor's insolvency, was no longer required to surrender the preference before his claim would be allowed. This amendment would seem to have eliminated the theoretical foundation for the net result rule. However, some courts continued to apply the rule in an effort to obtain equitable results in certain cases. E.g., ...

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