The Perishable Agricultural Commodities Act: Whose Money Is This Anyway?

The Perishable Agricultural Commodities Act (“PACA”) has often produced unwelcome and unexpected results for parties unfamiliar with PACA.    Most often, the surprised parties are lenders who make what they think are secured loans to borrowers in the chain of distribution of produce who learn, when the borrowers experience financial problems, that their collateral is illusory.  However, a recent decision of the United States Court of Appeals for the Fifth Circuit demonstrates that PACA can deal even those familiar with it an unwelcome hand.

PACA is a federal law that protects sellers of produce.  It provides that proceeds of sale of produce are held in a “floating trust” for the benefit of unpaid suppliers.  If Farmer Bob sells his broccoli to Distributor Jim and Distributor Jim then sells it to Supermarket Chain, Distributor Jim holds whatever Supermarket Chain pays him in trust for Farmer Bob.  Because Distributor Jim holds what Supermarket Chain pays him only as a trustee for Farmer Bob, what looks to the inexperienced lender like an account receivable of Distributor Jim in which Distributor Jim can grant the lender a security interest doesn’t belong to Distributor Jim at all.  Monies paid by Supermarket Chain belong to Farmer Bob.  Distributor Jim only owns, and can only grant a security interest in, whatever is left over after Farmer Bob has been paid in full, if indeed anything is left over.  To illustrate the effect of PACA in dollars, if Distributor Jim agreed to pay Farmer Bob $9,000 for a load of broccoli, Distributor Jim sold the broccoli to Supermarket Chain for $10,000, and Distributor Jim’s lender advanced him $8,000 thinking that it was lending 80% of the amount of Distributor Jim’s account receivable, the lender would find itself with an $8,000 loan secured by only $1,000 of collateral, the amount left after Farmer Bob was paid from the assets held in trust for his benefit by Distributor Jim.

In In re Delta Produce, L.P., the party who learned how PACA works the hard way was not a lender, but a lawyer (“Stokes”) who regularly prosecuted and defended PACA claims.   A number of produce growers who had not been paid by Delta Produce, a “repacker” of produce, sued Delta Produce to enforce a PACA trust against proceeds in the hands of Delta.  To stay the suits against it, Delta filed a Chapter 11 bankruptcy case.  Because he had previously represented Delta in PACA litigation, Delta and some of the unpaid produce sellers requested that the Bankruptcy Court approve Stokes to serve as “Special PACA Counsel” and “PACA Litigation Counsel) to collect the funds that Delta was obligated to hold in trust for unpaid growers under PACA and distribute them to the growers.  The request for his appointment described Stokes as a “leading member of the ‘broccoli bar.’ ”The Bankruptcy Court appointed Stokes as requested.  The order appointing him provided that he would be paid $350 per hour for his services and that he would be paid from the monies that he recovered for the growers.

Over the next two years, Stokes collected and distributed to growers more than $4 million.  However, the growers were not paid in full.  Stokes then filed an application with the Bankruptcy Court seeking approval of fees slightly in excess of $206,000 to be paid from PACA trust assets.  Several growers objected to the request on the grounds that since Delta did not own assets held in trust under PACA, they were not property of Delta’s bankruptcy estate over which the Bankruptcy Court could exercise jurisdiction.  The Bankruptcy Court, they argued, only had jurisdiction to award to Stokes funds left over after the growers were paid in full.  The Bankruptcy Court overruled the objections and awarded Stokes the fees he requested.

On appeal to the District Court, however, the District Court agreed with the growers and reversed the Bankruptcy Court’s order. The District Court relied primarily on the decision of the United States Court of Appeals for the Second Circuit in C.H. Robinson Co. v. Alanco in which the court held that “a PACA trustee may not use PACA funds to pay attorney’s fees incurred in collecting accounts receivable held in trust for a seller of perishable agricultural commodities.” Stokes then appealed to the Fifth Circuit.

The Fifth Circuit affirmed the District Court’s disallowance of Stokes’ fees.  The Fifth Circuit said:

PACA’s trust provision evinces no exceptions. It states that buyers of perishable agricultural commodities must hold receivables or proceeds from the sale of those commodities in trust for the benefit of all unpaid sellers “until full payment of the sums owing in connection with such transactions has been received” by the sellers.

Turning Stokes’ PACA expertise against him, the Fifth Circuit said, “But as hard as Stokes endeavored to avoid the application of C.H. Robinson—which he was no doubt familiar with given the doubtless small “broccoli bar” and the fact that his attorney Mandell played an active role in that case—he was the functional equivalent of a PACA trustee.”

Stokes was spared from a truly disastrous outcome only by the fact that only certain of the growers objected to the allowance and payment of his fees.  The Fifth Circuit said that those growers who had not objected had effectively consented to the payment of their pro rata share of Stokes’ fees from the PACA trust assets that would otherwise have been distributed to them.  Had all growers objected, however, Stokes clearly would have been paid nothing for his services unless he had succeeded in recovering enough to pay all growers in full.

Delta Produce serves as a reminder to all parties to a sale or financing transaction and their professionals that there are many laws governing discrete industries that can upset normal economic expectations.  Inadequate knowledge or understanding of these laws can deprive parties, like Stokes, of the benefit of their bargain.