Clawbacks and Preferential Payments

There is so much to be said and so many unknowns on how the FTX situation will continue to unfold. However, I want to solely discuss the meaning of a "clawback" and "preferential payment" when it comes to US #bankruptcies and why every #businessowner, #cfo, #controller, #creditmanager, #consultant etc. should understand the ramifications and the importance of protecting themselves so they are not blindsided.

A clawback is when money is already paid to someone or a business, but then must be returned to the benefactor.

The Preferential-Payment Rule

Section 547 of the Bankruptcy Code is commonly called the preferential-payment rule. This statute provides that when a debtor makes a payment to a creditor and the debtor files bankruptcy within 90 days of that payment, the Bankruptcy Court can force the creditor to pay that money back to the debtor for distribution to all of the debtor’s creditors.

Nearly 15 years ago I met with a sizeable manufacturer. They had a 60-70% concentration with their largest customer. Meaning, 60-70% of their total sales were to this customer. In the meeting I learned it was a husband wife duo who owned and operated the business. The husband golfed with the owner of this largest account. Their wives went to church together. I was a relatively young sales professional at the time and didn't understand why both had a sad look in their eyes while they were sharing their story. What I saw from the time I researched the company, made the call in for a meeting, and was driving to their office for our first meeting, was this - "how amazing it must be to have this wonderful marriage, run a nearly 100M company together, and contribute so much to society with the dedication both have to each other, their vendors, their customers, their community, etc." A little jealousy, but mostly happiness filled me. I was so excited for this meeting. They shared with me everything that they built, how they built it, the original idea behind it. It was amazing.

Then they shared with me how they were losing it all.... They had over 5M outstanding with this largest customer of theirs for years, and always were paid on time. They did not know however, that said largest customer had almost a 90% concentration with their largest customer. Who just filed for bankruptcy, which then set off a domino effect. The bankruptcy court came back (clawback) and demanded so much money the husband and wife had already been paid and which had already been spent mostly on raw materials to build more product, claiming preferential treatment, it forced this company out of business, the husband and wife had to sell their home, etc. I hate thinking about this story. However, it is not a one-off situation. I have met with too many business leaders who have shared similar stories, that I wanted to share my thoughts on this. A company's Accounts Receivable is the life blood of most businesses and many businesses have too high of concentrations with their largest customers, or they operate on thin profit margins, or they don't have insights into their customers customers customers, that a slowpayment or bankruptcy loss, or clawback / preferential payment loss, would significantly impact their business. Accounts Receivable Insurance with a Preferential Payment Rider, that protects businesses in case of a bankruptcy loss, slow payment loss, or clawback / preferential payment is not that expensive. In fact, its less expensive than most every single insurance line a business already pays for...

https://www.wsj.com/articles/ftx-seeks-to-recoup-sam-bankman-frieds-charitable-donations-11673049354?mod=hp_lead_pos1