PREFERENCE DEFENSE DEFEATED: Collection Pressure Cannot be Considered Ordinary Course When a Debtor is Financially Distressed

ASK LLP successfully argues that applying undue collection pressure on the debtor while it was in financial distress eliminates the ordinary course defense to a preference action

In evaluating the ordinary course defense in a preference case, courts assess whether certain transactions between a debtor (in this case, Fred’s Inc.) and its creditors (such as CH Robinson) fall within the ordinary course of business both as between the parties (the subjective defense)  and within the applicable industry (the objective defense). Here the defendant conceded that unusual collection pressure prevented application of the subjective defense but asserted that it could establish the objective defense by proving it was ordinary in its industry to apply collection pressure when a customer was in financial distress. ASK LLP argued to the contrary that the objective or industry defense requires  evaluation of industry practices only when customers are not in financial distress. In an important decision having wide-ranging effect, the Bankruptcy Court for the District of Delaware agreed with ASK  and denied the ordinary course defense due to the debtor’s  financial distress. This ruling is significant in bankruptcy proceedings because the creditor’s position, if adopted by the court, would have greatly increased the applicability of  the ordinary course defense to preference actions.

The Third Circuit’s Ruling on Credit Pressure

The Bankruptcy Court relied on established Third Circuit precedent that held if a creditor is imposing “credit pressure” on a debtor to force payment or to reduce the creditor’s own exposure to risk, then that could disqualify the transaction from being considered “ordinary course.”

In order for a transfer to be within the ordinary course of business, the Third Circuit found it has to reflect normal, everyday business practices. If a creditor pushes a financially distressed debtor into making an accelerated payment (for example, by applying pressure to secure payment or reduce outstanding balances), it may signal that the payment was not made in the “ordinary course” of their prior business dealings. Instead, it becomes a reaction to the creditor’s demand rather than a routine part of the parties’ historical course of business. The Bankruptcy Court rejected the creditor’s claim other companies might do similar creditor pressure when faced with a financially troubled debtor because under the third Circuit precedent the debtor/creditor transactions must be evaluated only during a time the debtor was not in a financially distressed condition.

Why this Matters

The ordinary course defense is designed to protect creditors who are simply receiving payments in line with their ongoing business relationship with the debtor. However, when a creditor is actively trying to extract payment through pressure tactics or other extraordinary measures—such as demanding immediate payment or imposing harsh credit terms—it indicates that the payment was not routine but instead a response to the poor the debtor’s poor financial condition and the creditor’s heightened actions to protect its interests. The fact other creditors might take similar credit pressure action when faced with a debtor’s deteriorating financial condition does not make those transactions ordinary unless these same transactions  would occur during a time the debtor was not in financial distress.

Follow this link to read more: https://askllp.com/wp-content/uploads/2025/01/In-re-FREDS-INC-et-al-Debtors-FI-LIQUIDATING-TRUST-Plaintiff-v-CH-ROBINSON-COMPA.pdf

ASK LLP is a law firm that specializes in bankruptcy, restructuring, and complex litigation matters.