When Customers Go Bankrupt
By Henry E. Seaton
March 2005
Reprinted from etrucker.com

Q We are a third-party logistics firm that provides substantial service for a shipper that recently filed a bankruptcy petition seeking Chapter 11 reorganization. The traffic manager states that we should not worry because we will be named a critical vendor and our pre-petition debts will be paid as long as we agree to continue to arrange for the transportation of the debtor-in-possession’s cargo. In our experience, nothing good has ever come out of a bankruptcy. Does critical vendor status offer us any protection?

A Your general observation is most often the rule. Carriers and brokers generally are treated as unsecured creditors in bankruptcy proceedings and usually see their freight charge receivables wiped out as of the date of the filing. Ultimately, unsecured creditors are lucky to receive a few cents on the dollar when the bankruptcy is finally wound up and the first shares go to the government, secured creditors, other creditors having priority and administrative costs.

Also, unsecured creditors may be subject to preference actions by the estate or the debtor-in-possession and may not get to keep even the belated payments they received from the bankrupt debtor within 90 days of the filing. Therefore, the “critical vendor status” you mentioned is a very important legal remedy for any unsecured creditor who qualifies.

Critical vendor provisions aren’t designed to benefit deserving creditors. Rather, they are intended to help the debtor-in-possession successfully reorganize and continue as a going business. Within the first few days of the filing of a Chapter 11 petition, a debtor will ask the court for a number of emergency orders to allow it to continue operations while a plan of reorganization is formulated. Interim financing must be approved, employees must be kept in place, insurance premiums must be paid and so on.

In this context, the bankruptcy law recognizes that the provision of necessary goods and services by critical vendors often is indispensable if the shipper is to reorganize. Such necessary suppliers may be unwilling to continue to service the debtor, however, unless their past debts are paid in full and satisfactory arrangements for continued payments during the reorganization are made. Now that truck and rail capacity is limited and bankrupt shippers have fewer transportation options, shippers, carriers and brokers may be able to negotiate for critical vendor status more easily than in the past.

However, a traffic manager’s verbal assurances clearly are not sufficient to achieve this status. You should retain counsel and move quickly to see that the proper motion is filed and approved by the bankruptcy judge. Be sure that proper credit terms are in place to guarantee payment of the post-petition services you provide as well. While the freight charges of post-petition carriers and brokers are paid by the estate as an administrative cost before pre-petition creditors, there is no guarantee that the debtor-in-possession can reorganize successfully and that even the administrative cost will be paid in full. Remember, critical vendor status is not often sought or granted. Good luck!