A major home appliance company could not convince the 7th Circuit Court of Appeals to rule in its favor in a Chapter 11 appeal as it sought to reclaim goods sold to now-defunct Indianapolis-based retailer HHGregg on the eve of its bankruptcy.
HHGregg had been delivered appliances by Whirlpool Corporation during the period just before the retailer’s Chapter 11 bankruptcy filing in March 2017. Wells Fargo Bank, as administrative and collateral agent for several lenders, extended operating financing to HHGregg in the years leading up to the bankruptcy. Under the prepetition credit agreement, Wells Fargo’s advances were secured by a first priority floating lien on nearly all of HHGregg’s assets, including existing and after-acquired inventory and proceeds.
Within 24 hours of its bankruptcy proceeding, HHGregg sought and gained the court’s approval for $80 million in debtor-in-possession (DIP) financing. Wells Fargo, acting as administrative agent for a group of post-petition lenders, agreed to extend the money in DIP financing in return for a priming, first-priority security interest on substantially all of HHGregg’s assets, including existing and after-acquired inventory and proceeds At that point, HHGregg owed Wells Fargo at least $66 million under the agreement.
Three days after entry of the interim order approving the DIP financing, Whirlpool sent a reclamation demand to HHGregg seeking the return of $16.3 million of unpaid inventory delivered in the 45-day period before the bankruptcy petition. It eventually filed an adversary action against Wells Fargo, seeking a declaration that its reclamation claim was first in priority as to the reclaimed goods, which Wells Fargo moved to dismiss.
Treating the motion as one for summary judgment, the bankruptcy court ruled in Well Fargo’s favor, which was later affirmed by the U.S. District Court for the Southern District of Indiana. The 7th Circuit Court of Appeals also affirmed Tuesday in Whirlpool Corporation v. Wells Fargo Bank, N.A., 18-3363, concluding that Whirlpool’s reclamation claim was subordinate to the DIP financing lien.
The 7th Circuit first found that because Whirlpool’s reclamation demand letter came after Wells Fargo had obtained security interest in all HHGregg’s assets, including the Whirlpool inventory, its demand was therefore “subject to” Wells Fargo’s prior rights as the holder of a perfected, first-priority security interest in the reclaimed goods.
It rejected Whirlpool’s arguments, noting that absent a timely written demand, the seller has no reclamation right under § 546(c)(1). The 7th Circuit also pointed out that there was no gap in the Wells Fargo lien chain and that the claim did not spring into first position when Wells Fargo’s prepetition lien was extinguished in the final roll-up.
Lastly, the 7th Circuit rejected Whirlpool’s fallback argument that the prior rights of a secured creditor must be determined by reference to state law and that Wells Fargo cannot be considered a good-faith purchaser based on its conduct as agent for the DIP lenders.
“Whatever force this argument might have had under the old version of (11 U.S.C. § 546(c)), with the 2005 amendments, the rationale for examining the lienholder’s status as a goodfaith purchaser has evaporated. The post-(Bankruptcy Abuse Prevention and Consumer Protection Act of 2005) text of § 546(c) expressly subordinates a seller’s reclamation claim to the prior rights of a lienholder; there is neither need nor any reason to import a state-law good-faith purchaser inquiry,” Circuit Judge Diane Sykes wrote for the 7th Circuit. “The bankruptcy judge therefore correctly concluded that Whirlpool’s allegations of bad faith are irrelevant to the priority determination under § 546(c).
“When Whirlpool made its reclamation demand on March 10, the reclaimed goods were subject to Wells Fargo’s prepetition and DIP financing liens. While the prepetition lien was later lifted, the reclaimed goods remained subject to Wells Fargo’s DIP financing lien. The bankruptcy judge correctly subordinated Whirlpool’s reclamation claim to the DIP financing lien,” the 7th Circuit concluded.