Journal of Corporate Renewal

October 2014

RETAIL

Section 503(b)( 9) of the U.S. Bankruptcy Code is either loved or hated, and sometimes both by the same constituency, depending on who wins or loses regarding administrative claims of suppliers whose claims arose in the 20 days before a bankruptcy filing. The section often yields anomalous or inconsistent results based on only slight variation in facts, some of which are often just the result of good or bad luck. Many commentators have called for the provision’s amendment or outright repeal.

Through a hypothetical scenario, this article illustrates some curious outcomes that section 503(b)( 9) can produce and discusses why it might be time to give section 503(b)( 9) a long, hard look.

Fashions, Inc., a U.S. retail clothing chain, is having a tough time, has been behind on hundreds of thousands, if not millions, of dollars in payments to suppliers and landlords during the first five months of the year, and is preparing to file Chapter 11 sometime in July after the close of the second quarter. The petition and supporting documents and declarations are already in the works. Fashions’ secured lender has a blanket lien, is playing ball for the time being, and has expressed a cautious willingness to consider doing the required post-petition lending.

The retailer has ordered imported products from various suppliers whose sources are in China and will deliver them to Fashions’ freight consolidator Kontainer in Hong Kong. Kontainer, in turn, will assemble them with goods going to a variety of purchasers, load them into a container, and deliver them to Fashions’ third-party shipping company in the U.S., Quick Drop. On Friday, June 13, Auspicious Jeans from Shanghai ships to Kontainer 100 pairs of its wildly popular jeans, invoice price $10 each, which are featured “door buster” offerings at Fashions and draw much of its traffic. The jeans arrive June 17 and are to be shipped from port to be delivered to Fashions’ warehouse by Wednesday, July 2. They arrive in the U.S. on time, but Quick Drop has not been paid on some recent invoices. The shipping company holds up delivery until it gets paid. It delivers the jeans on Monday, July 7.

Acqua Pura delivers 100 bottles of mineral water marked with the Fashions logo to the retailer every day to be handed out gratis to employees and customers. There are almost never any left at the end of a day. Having not gotten paid for some time, however, Acqua Pura is owed $1,000 and stops delivering June 24. There are no bottles left after a day or two.

Shopping bag supplier Sacco has a standing order to deliver 10,000 bags to Fashions every week on Fridays at a cost of 10 cents a bag, or $1,000 per order. It delivers 10,000 bags to its common carrier on July 2 for that week’s order, ordinarily to be delivered Friday, July 4. The carrier gives its employees a day off for the Fourth of July, however, so the delivery isn’t made until Monday, July 7. That week’s standing order of 10,000 bags is scheduled to go to the carrier July 9 to be delivered Friday, July 11. Sacco is owed $1,000.

Fashions’ point-of-sale computer system crashes late afternoon on Saturday, July 5, so with sales essentially at a dead stop, the stores close early and will most likely have to stay closed until the system is fixed. Forza Elettronica, a leading point-of-sale tech and information recovery service, is called out for a rescue and works through the night Saturday and all day Sunday, July 6, to repair the system.

The firm saves the day by getting the system back up and running and by identifying and fixing a defect in the software, guaranteeing no more crashes for the time being. Forza leaves its bill for $1,000, but news of the crash has hit the airways, and local media question the already-shaky Fashions’ ability to open its doors any time soon.

Fashions calls its lawyers in a panic, and
it’s agreed that the company will file
for bankruptcy as soon as possible on
Monday once the papers are completed.

Fashions opens for business on Monday and issues a series of press releases to reassure the consuming public: “Don’t believe everything you hear and only half of what you see. It will be business as usual, thanks to our loyal suppliers, the heroic efforts of our tech support staff, and especially the world-class performance by Forza Elettronica. Bravo, Forza, we couldn’t have done it without you.” The Chapter 11 petition is filed Monday afternoon. It turns out that Fashions ordered a large volume of inventory in anticipation of robust July 4th weekend sales and had taken delivery of merchandise invoiced at several million dollars from mid-June on, much of it within the 20 days immediately preceding the filing.

Unequal Treatment

Section 503(b)( 9) of the Bankruptcy
Code, enacted in 2005 largely
under the radar as part of the long-
anticipated Bankruptcy Abuse
Prevention and Consumer Protection
Act (BAPCPA)[(Pub.L. 109–8, 119
Stat. 23, April 20, 2005]—which
was anything but—provides:
After notice and a hearing, there shall
be allowed administrative expenses,
other than claims allowed under
section 502(f) of this title, including—
......

....the value of any goods received by the debtor within 20 days before the date of commencement of a case under this title in which the goods have been sold to the debtor in the ordinary course of such debtor’s business.