In July 2005, the Fifth Circuit Court of Appeals held in Baker Hughes Oilfield Operations, Inc. v. Cage (In re Ramba, Inc.), 2005 WL 1581076 (5th Cir.), that a creditor’s agreement to dismiss an involuntary bankruptcy petition in exchange for a debtor’s payment of pre-existing debt�because it does not provide a “direct benefit” to the debtor�does not fall within the “contemporaneous exchange” exception to preference actions under 11 U.S.C. § 547(c)(1). The Fifth Circuit Court of Appeals decided this issue as a matter of first impression.

Baker Hughes Oilfield Operations, Inc., the creditor that received the alleged preferential payment, was one of several petitioning creditors in the involuntary bankruptcy case of Ramba, Inc., filed in September of 2000. A deal was worked out in which Ramba paid the prepetition debts it owed Baker Hughes and other petitioning creditors, and they in turn dismissed the involuntary petition. The dismissal provided a significant benefit to Ramba, which was engaged in an effort to sell one of its divisions but had been hampered in its efforts to attract a buyer on account of the pending involuntary petition. Upon dismissal of the petition, Ramba was able to complete the sale of its division for, among other things, the assumption of $12 million in trade debt.

Two months later, Ramba filed a voluntary Chapter 7 petition. The Chapter 7 trustee then sought to avoid the $85,000 payment made to Baker Hughes, asserting the payment constituted an avoidable preferential payment under 11 U.S.C. § 547(b). Baker Hughes contended that, although Ramba’s payment of the $85,000 was for an antecedent debt, because the payment also was made in consideration for Baker Hughes’s agreement to dismiss the involuntary petition, there had been a contemporaneous exchange for new value and § 547(c)(1) therefore insulated the payment from avoidance. The bankruptcy court disagreed, but the district court reversed and held that the transfer fell within the scope of § 547(c)(1).

On appeal, the Fifth Circuit Court of Appeals considered whether the dismissal of the involuntary petition fit within the statutory definition of “new value” under §§ 547(c)(1) and 547(a)(2). “New value” is defined, in relevant part, as “money or money’s worth” or a “release by a transferee of property previously transferred to such transferee�including proceeds of such property.” 11 U.S.C. § 547(a)(2). Baker Hughes argued that its agreement to dismiss the involuntary petition was “money or money’s worth” because it enabled Ramba to sell one of its divisions and thereby satisfy, through assumption, some $12 million in trade debt. The court rejected this argument, reading § 547(a)(2) to require the precise benefit the debtor receives from the creditor to fit within one of the statutory definitions of new value. Secondary or tertiary effects are inapposite. Thus, although Ramba may have received an indirect benefit�the sale of its division�as a result of the dismissal, Baker Hughes did not directly give “money or money’s worth” to the debtor and the Baker Hughes therefore had not provided new value to the debtor. In reaching this result, the Court expressed concern that allowing indirect benefits to constitute new value would have the potential to eviscerate any limitations to the definitions set forth in § 547(a)(2).

Written by: Reed Mercado and Mette Kurth