Court Opinion

ID: 4205854
Source: CourtListenerOpinion
Date Created: 2017-09-22 21:00:58.208817+00
Date Added: 2024-06-11T07:47:38.057602
License: Public Domain

In the

    United States Court of Appeals
                   For the Seventh Circuit
                       ____________________
Nos. 16-1940 & 16-2094
IN RE:
         ONESTAR LONG DISTANCE, INC.,
                                                                  Debtor.

ELLIOTT D. LEVIN, as Chapter 7 Trustee
For OneStar Long Distance, Inc.,
                                                  Plaintiff-Appellant/
                                                      Cross-Appellee,

                                   v.

VERIZON BUSINESS GLOBAL, LLC,
                                                 Defendant-Appellee/
                                                    Cross-Appellant.
                       ____________________

          Appeals from the United States District Court for the
            Southern District of Indiana, Evansville Division.
         No. 3:15-cv-00049-RLY-DKL — Richard L. Young, Judge.
                       ____________________

 ARGUED NOVEMBER 29, 2016 — DECIDED SEPTEMBER 22, 2017
               ____________________
2                                            Nos. 16-1940 & 16-2094

    Before POSNER, * EASTERBROOK, and SYKES, Circuit Judges.
   SYKES, Circuit Judge. Telecommunications retailer OneStar
paid MCI, one of its wholesale suppliers, roughly
$1.9 million during the 90 days before one of OneStar’s
creditors forced it into bankruptcy. OneStar’s bankruptcy
trustee sought to recapture those payments under § 547(b) of
the Bankruptcy Code, which generally allows debtors to
avoid (i.e., reverse) payments made during the 90 days
before bankruptcy. This is known as the preference period.
    Verizon purchased MCI and entered the action as its suc-
cessor. Verizon conceded that the payments met the re-
quirements of § 547(b) but asserted two affirmative defenses
under 11 U.S.C. § 547(c). It argued that the payments were
unavoidable because (1) MCI offset them by subsequently
providing OneStar with new value in the form of additional
telecommunications services, and (2) the payments occurred
in the ordinary course of business.
   In response to the new-value argument, the trustee con-
tended that OneStar had compensated MCI for its new-value
services, canceling out that new value and nullifying the
defense. Specifically, one week before the bankruptcy filing,
OneStar assigned the privileges and debt from its contract
with MCI to a newly formed affiliate in order to avoid
creditors. The trustee maintained that this effectively com-
pensated MCI by releasing it from its contractual obligations
to OneStar. MCI was now obligated to provide services to

* Circuit Judge Posner retired on September 2, 2017, and did not partici-
pate in the decision of this case, which is being resolved by a quorum of
the panel under 28 U.S.C. § 46(d).
Nos. 16-1940 & 16-2094                                          3

the affiliate, not to OneStar itself, though the affiliate in turn
relayed those services to OneStar.
    The bankruptcy judge rejected Verizon’s ordinary-course
defense but ruled that the new value MCI advanced during
the preference period sufficed to make OneStar’s preferential
payments unavoidable under § 547(c)(4); the debt assign-
ment to the newly formed affiliate was irrelevant. The
district judge affirmed the new-value ruling and did not
address the ordinary-course defense. The trustee appealed.
Verizon filed a cross-appeal contesting the rejection of its
ordinary-course defense.
   We affirm. A debtor’s assignment of debt and contractual
rights to an affiliate doesn’t have the effect of repaying a
creditor for new value. MCI advanced subsequent new value
that remained unpaid, so OneStar’s preferential transfers are
unavoidable. That conclusion makes it unnecessary to
address Verizon’s cross-appeal.
                         I. Background
   In April 2002 OneStar and MCI entered into a contract
requiring MCI to provide OneStar with certain telecommu-
nications services. MCI billed its “switched” services (those
that involved connecting calls from one line to another) at a
variable usage rate, while its “unswitched” services (long-
haul services that didn’t require switching) carried a fixed
monthly charge.
   On December 31, 2003, a creditor filed an involuntary
Chapter 7 bankruptcy petition against OneStar. MCI had
provided OneStar with switched and unswitched services
throughout the 90-day preference period preceding that
date. MCI billed OneStar on a monthly basis, invoicing
4                                     Nos. 16-1940 & 16-2094

approximately $1.3 million in October, $1.3 million in
November, and $1.1 million in December (for a sum of
approximately $3.7 million). During that time, OneStar paid
MCI $1,900,012.81 on those invoices (the amount the trustee
now seeks to recover). The total debt OneStar owed to MCI
grew from around $7.5 million at the beginning of the
preference period to more than $9.8 million near its end.
    A pivotal moment in OneStar’s slide into bankruptcy
came in October 2003 when its senior secured lender sent it a
default notice. At that point OneStar’s principals decided to
move business to a newly formed affiliate, IceNet, in order
to avoid creditors. IceNet’s management composition mir-
rored OneStar’s. On December 22 OneStar, MCI, and IceNet
entered into an agreement assigning OneStar’s contractual
privileges and debt to IceNet. The agreement placed IceNet
in between OneStar and MCI: OneStar now owed IceNet;
IceNet owed MCI; and MCI was obligated to provide IceNet
with the services specified in its 2002 contract with OneStar.
From December 23 until December 31, IceNet received
services from MCI and relayed them to OneStar. This
scheme to avoid OneStar’s creditors was foiled by the filing
of the involuntary bankruptcy petition.
    In bankruptcy court OneStar’s trustee sought to avoid the
prepetition payments to MCI as preferential transfers under
§ 547 of the Bankruptcy Code. The parties stipulated that the
trustee established § 547(b)’s prima facie requirements for
avoidance. But Verizon asserted that the preferential pay-
ments were unavoidable because MCI provided OneStar
with new value—the services corresponding to the fall 2003
invoices—after receiving those payments. See 11 U.S.C.
§ 547(c)(4). Verizon also raised an additional affirmative
Nos. 16-1940 & 16-2094                                       5

defense that the payments were made in the ordinary course
of business. See id. § 547(c)(2).
    Addressing the new-value defense, the bankruptcy judge
used the monthly invoice records to estimate the dates of
MCI’s new-value advances by assigning to each day the
daily average of its monthly total. This per diem analysis
suggested that MCI advanced enough new value after its
receipt of OneStar’s preferential transfers to cover the
amount of those transfers. The judge further held that
OneStar’s debt assignment did not compensate MCI for the
new value and that Verizon, as MCI’s successor, was there-
fore entitled to a complete new-value defense. The judge
rejected Verizon’s ordinary-course defense.
    The parties cross-appealed the split ruling to the district
court. The judge affirmed the new-value ruling and denied
Verizon’s cross-appeal as moot. Cross-appeals to this court
followed.
                         II. Discussion
    We review the legal conclusions of the lower courts de
novo and the bankruptcy judge’s factual findings for clear
error. In re Kempff, 847 F.3d 444, 448 (7th Cir. 2017). The
trustee asks us to reverse the new-value ruling, arguing that
OneStar’s assignment and assumption agreement with
IceNet effectively repaid MCI for the new value it had
provided. The trustee also contends that the bankruptcy
judge’s use of the per diem method to calculate new value
was improper. Verizon’s cross-appeal is essentially protec-
tive; it seeks reversal of the bankruptcy judge’s ordinary-
course ruling if it loses its new-value defense. A cross-appeal
was unnecessary; the prevailing party can defend its judg-
6                                      Nos. 16-1940 & 16-2094

ment on appeal with any argument that has been preserved
for decision. See, e.g., Mass. Mut. Life Ins. Co. v. Ludwig,
426 U.S. 479 (1976).
    Payments made by a debtor to a creditor in the 90 days
before the debtor’s bankruptcy filing are classified as prefer-
ences by § 547 of the Bankruptcy Code. With certain excep-
tions § 547 allows the bankruptcy trustee to avoid preferen-
tial payments; that is, to recapture them for the bankruptcy
estate.
    The idea is to prevent debtors from circumventing the
Code’s scheme of equitable distribution by sending nonor-
dinary payments to a particular creditor shortly before
insolvency. A creditor that the debtor favors shouldn’t
receive more than it otherwise would in liquidation. The
same goes for a prescient creditor that perceives the impend-
ing bankruptcy and pressures the distressed debtor into
paying it beforehand. In re Tolona Pizza Prods. Corp., 3 F.3d
1029, 1032 (7th Cir. 1993). Moreover, avoidance of prefer-
ences eliminates the potential incentive for creditors to race
to collect their debts when a debtor begins to struggle. In re
Milwaukee Cheese Wis., Inc., 112 F.3d 845, 847–48 (7th Cir.
1997). A racing creditor might start something like a bank
run, unhorsing a debtor trying to regain its footing.
    But the creditor resolves those concerns if, having re-
ceived a preferential transfer, it subsequently replenishes the
debtor’s coffers. In that scenario the parties are back to
where they started—the creditor has effectively returned the
preferential transfer. Unsecured Creditors Comm. of Sparrer
Sausage Co. v. Jason’s Foods, Inc., 826 F.3d 388, 397 (7th Cir.
2016). For that reason § 547(c)(4) excepts a preferential
transfer from avoidance “to the extent that, after such trans-
Nos. 16-1940 & 16-2094                                        7

fer, [the] creditor gave new value to or for the benefit of the
debtor.” In other words, the creditor’s preference liability is
reduced by the amount of subsequent new value it ad-
vanced.
    Section 547 also contains an exception to that exception.
If the debtor pays for the creditor’s new value (and that
payment isn’t itself avoidable), then the new value is can-
celed out. That leaves only the preferential payment that
§ 547 is designed to address in the first place. Accordingly,
the Code disallows the new-value defense when “on account
of” the new value, the debtor responds with “an otherwise
unavoidable transfer to or for the benefit of [the] creditor.”
§ 547(c)(4)(B). That is, the new value must remain unpaid in
order to reduce the creditor’s preference liability. Jason’s
Foods, 826 F.3d at 397.
    The exception to the exception doesn’t apply here be-
cause OneStar’s assignment of debt to IceNet wasn’t a
“transfer to or for the benefit of” MCI. OneStar’s debt was
assigned, not discharged. The assignment and assumption
agreement was nothing more than a mechanism for OneStar
to avoid its creditors. Its only real effect was to place IceNet
between MCI and OneStar as a pass-through intermediary.
    The trustee suggests that the agreement must have bene-
fited MCI somehow or else MCI wouldn’t have agreed to it.
Of course anything that stalled OneStar’s other creditors or
otherwise increased OneStar’s chances of remaining solvent
indirectly benefited MCI as a creditor. But § 547(c)(4)(B)
plainly doesn’t reach so far as to encompass any transfer that
might improve the debtor’s financial outlook. Incidental
benefit isn’t enough; the transfer must itself be for the credi-
tor’s benefit. And the transfer must occur “on account of”
8                                    Nos. 16-1940 & 16-2094

the creditor’s new value. That phrase indicates a causal
relationship. Bank of Am. Nat’l Tr. & Sav. Ass’n v. 203 N.
LaSalle St. P’ship, 526 U.S. 434, 450–51 (1999). No causal
relationship exists between MCI’s new value and OneStar’s
debt assignment. The reasons for the assignment and as-
sumption agreement were entirely unrelated to the new-
value services MCI provided. Accordingly, we conclude, as
did the lower courts, that MCI’s new value remained un-
paid.
    That leaves the question whether the bankruptcy judge’s
per diem calculations amounted to clear error in his dating
of MCI’s new-value advances. Timing matters in § 547(c)(4).
As we’ve observed, the provision prevents the trustee from
avoiding a preferential transfer only when new value was
advanced “after such transfer.” (Emphasis added.) Here the
temporal inquiry is complicated a bit by the fact that we
don’t know precisely when all the new value was advanced.
MCI billed OneStar on a monthly rather than daily basis and
it charged switched services at a variable rate, so we know
the amount of services MCI provided only as of the first day
of each month.
    The bankruptcy judge resolved this problem by allocat-
ing each month’s credit on a per diem basis to each day of
the month. That is, the judge divided each month’s total
credit by the number of days in the month and assigned the
quotient to each day of that month. The parties agree that
this raises no issue regarding OneStar’s October and
November 2003 payments because MCI advanced enough
new value after those months to cover the payments.
   But the trustee argues that OneStar’s two December 2003
payments—$100,000 on December 9 and $200,000 on
Nos. 16-1940 & 16-2094                                               9

December 17—are avoidable because MCI was unable to
prove that it advanced new value after those dates. We
know that MCI provided OneStar with services worth
approximately $1.1 million in December 2003; we just don’t
know how much of that came at any given time of the
month. 1 So it’s theoretically possible that the new value
advanced by MCI in December came before OneStar’s
December 9 and 17 payments.
    Theoretically possible but highly improbable. MCI’s new
value failed to cover those payments only if it advanced
more than $800,000 of the $1.1 million by December 9 or
more than $900,000 of the $1.1 million by December 17. In
other words, MCI provided enough subsequent new value
to cover OneStar’s payments unless the December new value
was extremely front-loaded to the beginning of that month. 2
    The trustee gives us no reason to think that it was, and
two facts suggest that extreme front-loading did not occur.
First, a portion of MCI’s services carried fixed charges,

1 From December 23 to December 31, MCI provided the services to
IceNet, which relayed them to OneStar. The bankruptcy judge concluded
that those services were advanced “for the benefit of” OneStar, and the
trustee doesn’t challenge that conclusion. See 11 U.S.C. § 547(c).
2 To look at it another way, consider that the per diem amount for
December 2003 was $36,404.62 (arrived at by dividing the total value
advanced in December, which was $1,128,543.14, by 31). If the services
were evenly distributed across the month, MCI advanced more than
$800,000 in new value after December 9 ($36,404.62*22) and more than
$500,000 after December 17 ($36,404.62*14). At both dates that’s more
than double the amount necessary to cover OneStar’s payments. Pre-
sumably the services weren’t evenly distributed across the month, but
the point is that only an extremely wide margin of variation could have
left insufficient new value to cover the December payments.
10                                    Nos. 16-1940 & 16-2094

making large fluctuations in total charges less likely. Addi-
tionally, OneStar’s revenue declined only slightly between
December 2003 and January 2004 (from $2.5 million to
$2.2 million), which suggests that OneStar’s use of switched
services didn’t plummet dramatically in the middle of
December.
    There’s no reason to think that the per diem method mis-
allocated new value in a manner that disadvantaged the
trustee, so the bankruptcy judge’s use of that method was
reasonable. Because MCI advanced enough subsequent new
value to cover all the preferential transfers it received from
OneStar, the payments are unavoidable.
                                                   AFFIRMED.