Section 547(c)(2)(A) of the Bankruptcy Code, often referred to as the “subjective OCB defense,” provides a defense to a preference suit if the defendant can show that the challenged payments made during the 90-day preference period are sufficiently consistent with the historical payments made by the debtor to the defendant. The inherently subjective nature of the defense has given rise to myriad methodologies that parties can rely on to establish what may or may not be considered “ordinary.” These methodologies focus on many data points, including, but not limited to, (1) the proper historical/testing period duration, (2) whether outliers should be removed, (3) whether the pre-preference and preference period averages are consistent, and (4) the proper way to calculate the OCB range (i.e., total range (high/low), standard deviation, buckets, etc.).
With so many approaches to pick and choose from, litigants often find themselves at odds as they advance different theories of how subjective “ordinariness” should be defined. Recently, on a motion for summary judgment in In re Décor Holdings Inc., Judge Grossman of the U.S. Bankruptcy Court for the Eastern District of New York was asked to consider two of the most common methodologies: the “average lateness” and “total range” methods.
Initially, the court observed that the application of the average lateness method, which focuses on and compares the average days-to-pay for invoices paid during the pre-preference and preference periods, is often both the starting point and ending point of the subjective OCB analysis. Under that framework, if the difference in averages is not material, all of the alleged preferential transfers are determined to be protected by the subjective OCB defense, ending the analysis. If, and only if, the difference between averages is sufficiently material, the court should then consider other available methodologies. In Décor Holdings, the court concluded that a difference in averages of less than seven days was not material and that the defendants were therefore entitled to a full subjective OCB defense.
While noting it was unnecessary, the court nonetheless went on to address the total-range (high/low) approach, which compares the high/low range of payments made during the preference period to the high/low range of payments made during the pre-preference period. The court observed that if the pre-preference period range is too broad — i.e., if the range is skewed by outlier payments that are not ordinary between the parties (a subjective determination in and of itself) — the court may apply a “bucketing” analysis. Under such bucketing analysis, payments made during the pre-preference period are grouped by days outstanding (e.g., 10-15, 15-20, 20-25, etc.), and the percentages of payments in each bucket are calculated and compared to the buckets of payments with the same days outstanding made during the preference period. Significantly, the Décor Holdings court noted that the percentage of payments in each bucket during the pre-preference and preference periods need not be identical.
The plaintiff argued that the subjective OCB defense was not satisfied because 82% of payments made during the preference period were made within a 31-35-days-to-pay bucket, while only 10% of payments made during the pre-preference period were made within that bucket. The plaintiff therefore argued that, based on the frequency that payments were made within the 31-35-days-to-pay bucket during the preference period compared to the pre-preference period, the preference-period payments could not be considered ordinary. The court disagreed. Instead, the court found the fact that the preference-period payments were clumped so closely around the pre-preference period average demonstrated that such payments were “completely in character” with the parties’ payment history and were therefore subjectively ordinary.
A major takeaway from this case is that the court was unmoved by the relative infrequency of the preference-period payments as compared to pre-preference-period payments when applying the bucketing analysis (i.e., 10% vs. 82% of payments falling within 31-35 days to pay), and instead relied upon the average lateness method. In light of the subjective nature of the defense, it is entirely possible that other courts would come to a different conclusion based on the same facts and analyses, which is likely what the defendants are hoping for, as the bankruptcy court’s opinion has been appealed to the U.S. District Court for the Eastern District of New York.