Samuel C. Wisotzkey
swisotzkey@kmksc.com
(414) 962-5110
The Wisconsin Court of Appeals recently declared that contractual choice of law and forum selection clauses cannot be used to move a preference recovery action out of Wisconsin to another state, given the strong public policy considerations under Wisconsin’s receivership law, Chapter 128. The Court of Appeals determined that the Wisconsin legislative policies embodied in Chapter 128, favoring the equal distribution of assets where creditors will not be paid in full, justified overriding these important contractual provisions. The Court was convinced that requiring the receiver to litigate the case outside of Wisconsin would likely result in the receiver not being able to pursue his claims seeking to recover payments made to the creditor in the four months prior to the receivership. This would frustrate the purpose of Chapter 128 by limiting the receiver’s important ability to recover those payments and distribute the recovered payments to all of the debtor’s creditors, according to the Court of Appeals.
The Chapter 128 Receivership Case
In Dizard v. Torro, LLC, the Court of Appeals explained that Seth Dizard was appointed as the Chapter 128 receiver for Ridgeway Trailer Company, a company in the business of selling, renting, and brokering the purchase and sale of truck trailers and truck parts. The receivership was filed in the Brown County Circuit Court in Green Bay in April of 2020.
Chapter 128 is a tool often used with insolvent companies in Wisconsin and is sometimes described as an alternative to federal bankruptcy law. In some cases, the receiver might operate the debtor’s business while looking for a purchaser in an effort to maximize the value of the debtor’s assets. Overall, the receiver’s primary job is to liquidate the assets of the company at issue and then distribute the proceeds to creditors. Chapter 128 has specific priorities for the distribution of assets to a debtor’s creditors and Chapter 128 also states that temporary and final remedies may be “administered to the equal distribution of all assets recovered among creditors of the debtor.” Wis. Stat. § 128.11.
A significant tool that receivers use is the ability to recover what are commonly referred to as preference payments—payments made to creditors just prior to the start of the receivership action, under Wis. Stat. § 128.07. The point of the law is to claw back payments that the debtor may have made to preferred creditors for the benefit of the debtor’s creditors as a whole. In short, this provision provides that a receiver can recover payments made in the four months prior to the receivership by an insolvent debtor where the recipient has reasonable cause to believe that it would obtain a greater percentage of its debt than other creditors of its same class.
This provision is akin to the preference claim under federal bankruptcy law that allows debtors and trustees to recover payments made in the 90-day period prior to the filing of the federal bankruptcy proceeding.
Torro’s Relationship with Ridgeway and the Receiver’s Preference Action
Prior to Ridgeway’s receivership, in July 2019, Torro LLC and Ridgeway entered into a contract whereby Torro purchased almost $400,000 worth of Ridgeway’s future receivables in exchange for a payment to Ridgeway of about $250,000. Subsequently, in February of 2020, Torro and Ridgeway entered into a second contract—this time Torro purchased almost $600,000 of future receivables for about $400,000 that was paid to Ridgeway.
These contracts are known as merchant cash advance (or MCA) contracts and are often used by companies seeking to address critical cash flow situations where other financing might not be available. Under the usual agreement, after receiving the purchase price for the future receivables, the selling company (in this case Ridgeway) makes either weekly or daily payments to the purchaser (Torro) out of credit and debit card receipts or other collections. These payments are often made by direct debit or ACH out of the company’s bank accounts until the purchaser has received the full amount of the purchased receivables.
Both of the Torro agreements had similar provisions that specified the contracts would be governed and construed in accordance with the law of the state of Utah, and that any suit, action or proceeding arising under the contract, or involving the interpretation, performance or breach of the contract would only be instituted in courts sitting in Utah. These provisions are often referred to as choice of law and choice of venue provisions, and creditors regularly use these provisions to steer disputes to creditor-selected (and presumably, creditor-friendly) venues.
In the four months prior to Ridgeway’s April 2020 receivership, Torro received payments totaling $137,180. Accordingly, the receiver filed an action under § 128.07 asserting those payments were preferential and should be returned to the receiver for distribution among all of Ridgeway’s creditors.
Torro responded by asking the Brown County Circuit Court to enforce the venue provision of the MCA contracts, arguing that because the receiver was seeking to recover payments under the contract, any suit should have to be filed in Utah. The Circuit Court agreed and dismissed the case. The receiver appealed.
The Court of Appeals Decision
The Court of Appeals first acknowledged that Wisconsin law presumes that choice of law and forum selection clauses agreed to by the parties in their contracts are valid and enforceable. However, the Court also explained that these provisions can be invalidated if there is a contradicting or overriding public policy expressed by the Wisconsin legislature. According to the Court, while the parties to an agreement generally have the freedom to include provisions in their contracts at their own choosing without unnecessary interference from the government, parties cannot evade important public policies of Wisconsin by choosing alternative governing law.
Accordingly, even though the lower court focused just on the venue provision, the Court of Appeals zeroed in on the Utah choice of law provision, concluding that if the Utah choice of law was unenforceable, then the choice of venue provision must also fall.
Citing to a prior Wisconsin Supreme Court decision from 1987, the Court of Appeals explained that “state bankruptcy laws” might involve such important public policies that could override a contractual choice of law provision. The Court then considered whether Chapter 128 qualified as a “state bankruptcy law” that could include such important policies.
The Court noted some differences between Chapter 128 and the federal bankruptcy law embodied in the United States Bankruptcy Code. Particularly, the Court observed that that Chapter 128 does not provide for a discharge of debts, which is available under federal law. However, in the Court of Appeals’ view, that difference alone did not meaningfully detract from the overall structure and purpose of Chapter 128, which generally provides a mechanism for addressing the debts of an insolvent company in one collective proceeding. The Court pointed to decisions recognizing that Chapter 128 provides a statutory scheme to liquidate and distribute assets to creditors in an orderly and controlled manner, much like federal bankruptcy law.
The Court then went on to analyze the public policies embodied in Chapter 128. Ultimately the Court concluded that Chapter 128 did include expressions of strong public policies governing the equal distribution of assets to creditors that would justify invalidating an alternate choice of law provision.
The Court cited to the provision of Chapter 128 that allows for provisional remedies, which specifically invokes the equal distribution of assets among creditors. Further, the Court pointed to the strong considerations in the preference recovery provisions of Wis. Stat. § 128.07 that permit the receiver to recover payments made in the four months prior to the receivership, where a creditor has reasonable cause to believe that it is receiving a preference. The Court of Appeals agreed with the receiver that these provisions expressed strong Wisconsin public policies that parties should not be permitted to avoid with a private choice of law or choice of venue provision.
The Court also analyzed whether there was any Utah law that the receiver might be able to assert to recover the payments, if the receiver did have to litigate against Torro in Utah and under Utah law. The Court ultimately concluded that Utah law did not contain any similar provisions that would allow the receiver to recover the payments at issue, thus noting the conflict between the public policies of Wisconsin expressed under Chapter 128.
For all these reasons, the appellate court ruled that Torro could not use the Utah venue and choice of law provisions in its contract to move the receiver’s preference action from the Brown County Circuit Court. The decision of the lower court was reversed, and the case sent back down. As of the date of this article, it does not appear that Torro has asked the Wisconsin Supreme Court to review the decision, so the Court of Appeals decision appears to be the final word in this case.
The Importance of Dizard v. Torro – Contractual Choice of Law Provisions Open to Attack in Cases under Chapter 128
Torro’s creative argument to avoid a Chapter 128 preference claim can be applauded, at least for the effort. But we do think the argument was questionable at the start. While the payments Ridgeway made before the case were under the contract between the parties, the receiver’s arguments to recover the payments were never truly about whether the money was owed under the Ridgeway-Torro contract. Therefore, there appears to be a strong argument that the contractual choice of law provision never applied to the dispute at all.
Further, Torro’s brief victory in the Brown County Circuit Court proved to be fleeting and has now created a published decision that may empower receivers to look carefully at other choice of law arguments creditors may make in Chapter 128 cases. Given the policies expressed by the Court of Appeals regarding equal distribution of assets among creditors, we could see receivers arguing in the future that a pure contractual dispute ordinarily governed by another state’s law should give way to Wisconsin law, particularly if that other state’s law would result in a decision against the receiver. Certainly, the receiver will have to point to a specific Wisconsin law in its favor that would compel a different result, and argue disregarding the contractual provision is consistent with an important public policy in Wisconsin, but the fact remains that receivers may well tout this decision to the detriment of creditors in an appropriate situation.
If you have questions about the enforceability of choice of law or venue selection clauses in your contracts, or if you are faced with a Chapter 128 case involving one of your customers, vendors, or borrowers, contact KMK Attorney Samuel C. Wisotzkey at swisotzkey@kmksc.com or (414) 961-4831.