173 F.2d 944 | 2d Cir. | 1949
Lead Opinion
This appeal brings up for review an order with respect to the claims of three creditors, the appellees, in an arrangement proceeding under Chapter XI of the Bankruptcy Act, 11 U.S.C.A. § 701 et seq. The debtor, Calton Crescent, Inc., was formerly the owner of an apartment house located in New Rochelle, New York. In January, 1946, it sold the apartment house, which was its only property, and in May 1946 filed its petition for arrangement. Thereafter the purchase price received for the property was converted into cash, and the debtor is now able to pay a dividend in its arrangement proceeding of 43.61% to the holders of its debenture bonds. The appellees, being the holders of certain of such bonds, filed claims based thereon for the face amount thereof. The appellant, Manufacturers Trust Company as trustee under the indenture pursuant to which the debenture bonds were issued and in its individual capacity as a creditor,
As to the first question the appellant is right — federal law controls the distribution to creditors in bankruptcy. The Supreme Court has declared the rule very definitely. In Prudence Realization Corporation v. Geist, 316 U.S. 89, at page 95, 62 S.Ct. 978, at page 982, 86 L.Ed. 1293, the court said; “ * * * The court of bankruptcy is a court of equity to which the judicial administration of the bankrupt’s estate is committed, Securities and Exchange Commission v. United States Realty & Improvement Co., 310 U.S. 434, 455—457, 60 S.Ct. 1044, 1053, 1054, 84 L.Ed. 1293, and it is for that court — not without appropriate regard for rights acquired under rules of state law — to define and apply federal law in determining the extent to which the inequitable conduct of a claimant in acquiring or asserting his claim in bankruptcy requires its subordination to other claims which, in other respects, are of the same class.”
Later cases have reiterated the rule. American Surety Co. v. Sampsell, 327 U.S. 269, 272, 66 S.Ct. 571, 90 L.Ed. 663; Heiser v. Woodruff, 327 U.S. 726, 732, 66 S.Ct. 853, 90 L.Ed. 970; Vanston Bondholders Protective Committee v. Green, 329 U.S. 156, 161-163, 67 S.Ct. 237, 91 L.Ed. 162. For earlier cases on the general subject, see Pepper v. Litton, 308 U.S. 295, 303-304, 60 S.Ct. 238, 84 L.Ed. 281; American United Mut. Life Ins. Co. v. City of Avon Park, 311 U.S. 138, 146, 61 S.Ct. 157, 85 L.Ed. 91, 136 A.L.R. 860. From these decisions we understand the rule to be that, although the state law determines the title, validity and amount of a claim, the bankruptcy law, including what federal judges think to be equitable, determines what dividends shall be distributable to the claimant. In other words, in addition to those modifications which the Bankruptcy Act itself has imposed upon distribution with respect to preferences, priorities and the like, the courts must impose any other modifications which they deem necessary in the interest of justice.
In the case at bar validity and amount of the bonds held by the appellees are not in dispute; nor is the legal title. The appellant does contend, however, that it is inequitable to allow them to recover full dividends. The amount of their respective claims and the cost thereof are as follows:
Face am’t
Claimant of bonds Cost
Regine Becker $44,500 $3,060.63
Emily K. Becker 52,800 5,010.00
Walter A. Fribourg
The debtor was organized in 1933 to take title to the New Rochelle apartment house pursuant to a plan of reorganization necessitated by the foreclosure of a mortgage executed in 1927. Under this plan a new first mortgage of $175,000 was placed on the property and the debtor issued its debenture bonds, in the authorized principal amount of $256,800, which were to mature in 1953 and to bear interest, not exceeding 6% per annum, if declared by the directors out of net earnings for each calendar year. These bonds, together with the debtor’s capital stock, were issued to the holders of participation certificates in the old 1927 mortgage, one share of stock and $50 of debenture bonds being exchanged for each $100 of participation certificates. The total amount of debentures issued was $254,450, debentures of the face amount of $2,350 being retained for certificate holders who had not deposited their certificates. No interest has ever been paid on the debenture bonds.
Early in 1942 the debtor submitted to its shareholders an offer from a prospective purchaser to pay $220,000 for the apartment house, but the proposed sale did not obtain the requisite approval by the stockholders. Had the sale been approved the debenture bondholders would have received about five cents on the dollar on the face amount of their bonds. One who opposed the sale was Sanford Becker, the holder of 50 shares of stock and $5,000 face amount of debentures. Being in default under its first mortgage the debtor was in a precarious condition. Sanford Becker offered to find a client who would lend the debtor $15,000 upon a second mortgage on condition that he and his brother Norman Becker be given places on the debtor’s five man board of directors and be allowed to select the real estate agent to manage the property; the debtor imposed the further condition that all shareholders and debenture holders be given an opportunity to participate in the proposed second mortgage. In April 1942 this offer was accepted by the debtor, but none of its shareholders or debenture holders except Fribourg, availed themselves of the opportunity to participate in the second mortgage. The Becker brothers were then elected directors; Sanford became treasurer and Norman secretary, and Mr. Kelly continued as president. Sanford Becker’s clients who lent the money secured by the second mortgage were his mother, Regine Becker, his wife, Emily K. Becker and his friend, Walter A. Fribourg. They each advanced $5,-000.
There is no contention that the conduct of the appellees- above recounted was “inequitable.” It was obviously very beneficial to those debenture holders who retained and have proved their bonds in the arrangement proceeding. It forestalled foreclosure by the first mortgagee, and enabled the debtor to retain its property until it could be sold for a price of $300,000, which is enough to enable all debenture holders to receive a dividend of 43.61% on the face amount of their bonds. No complaint is made as to the price at which the debtor sold, nor is it suggested that the debtor should have sold sooner at a lesser price or have postponed the sale in the hope of obtaining a better price.
The “inequity” which is said to require that the dividend distributed to the appellees be less than that payable to the other bondholders arises out of the time when, and manner in which, the appellees acquired their bonds. At all times when the bonds were purchased by or for them the debtor was insolvent in the bankruptcy sense.
One contention of the appellant is that the appellees are disqualified from profiting by their transactions in the debt- or’s securities because they acquired them by using information obtained from the Becker directors without adequate disclosure to the sellers. The non-disclosure is said to consist in failure to inform the sellers of (1) the inquiries of brokers as to the terms on which the property might be purchased; (2) the fact that the appellees were the owners of the second mortgage taken in the name of Baset Realty Corporation; and (3) the fact that they were purchasing debentures. The referee stated that a finding that overreaching or concealment was practiced in the purchase of the securities was not warranted,
Furthermore, it should be observed that no seller is complaining that he was overreached in parting with his securities, as was the case in Strong v. Repide, 213 U.S. 419, 29 S.Ct. 521, 53 L.Ed. 853, upon which appellant puts great reliance. Such sellers as the King Estate, Kelly, Hays and the Y. W. C. A. had as full information as to the debtor’s financial condition and the prospect that its property might increase in value after the end of the war as did the appellees. As to securities purchased from Gver-the-counter traders, such as the Sondheimer Company and other brokers we should hesitate to lay down the rule that the purchaser from a broker must make disclosure of why he thinks the purchase a desirable investment under penalty of being charged with overreaching if he fails to do so.
The appellant’s other line of attack rests on two premises, (1) that because of the appellees’ relationship to the Becker directors they can stand no better than the Becker brothers themselves would stand if they had invested their own money in the purchase of the securities, and (2) that under equitable principles it is a breach of fiduciary duty for a director to buy the company’s securities during its insolvency, and consequently he cannot be allowed to make a profit from such purchases.
For the moment we pass the first premise and direct attention to the second. It is, of course, axiomatic that a fiduciary will not be permitted to profit at the expense of his cestui from any transaction where his fiduciary duty and his personal interest may come into conflict.
The same judge made a similar statement in Re Philadelphia & Western Ry. Co., D. C., 64 F.Supp. 738, 741: “This limitation is not imposed upon the theory that such profits belong to the corporation by reason of any property right that it may have in them but is an administrative sanction for the enforcement of the rules of fiduciary conduct set by the law.” If the doctrine be recognized as a disciplinary sanction within the discretion of the court to impose or withhold, then, as Judge Kirkpatrick also said in the Mortgage Guaranty Co. case, “Each case depends on its own circumstances”. In the case at bar, where there was no overreaching of the sellers, we are not convinced that the circumstances are such as to require imposition of the sanction, even if the proof of debt had been filed by a director of the debtor.
But if we are wrong as to this, and the federal rule, in the case of a director who buys the company’s securities after it has become insolvent, is as strict as the appellant contends and requires that he be disciplined by giving his profit to creditors whom he has not wronged, the rule must be extended even further if the appellees are to be limited to the cost of their debentures. We now come to consideration of the premise that the appellees can stand no better than would the Becker directors were they the claimants. This is a question of law .upon which the conclusions of the referee and district judge are not controlling on appeal.
The appellees were not directors or officers of the debtor; their own funds were invested, and no officer or director of
Viewing the situation broadly it appears that the second mortgage loan and the subsequent advances made by the appellees staved off foreclosure and made possible the 43.61% dividend now available for all debenture holders. Although the debtor had long been insolvent in the bankruptcy sense, it does not appear that bankruptcy proceedings were at any time contemplated before the filing of the arrangement petition in May 1946. Prior to that time the appellees acquired debentures from owners who were willing to sell and were not overreached. These circumstances do not seem to a majority of the court to afford adequate reason to limit the appellees’ dividends to the cost of the bonds and to transfer the balance as a windfall to the other debenture holders. Accordingly the order allowing their claims in full is affirmed.
Its claim as a creditor in the sum of $1,587.50 represents fees and disbursements due it as indenture trustee.
Fribourg’s claim as filed was for $55,-000. Objection was withdrawn as to $5,000 of bonds acquired by him under cir
The second mortgage was taken in the name of Baset Realty Corporation but it was a mere title holder for the appellees.
These are the debentures mentioned in note 2 supra.
To pay overdue taxes $3,615.54 was advanced in September 1943, $2,303.09 in April 1944, and $2,001 in October 1944.
This, like the second mortgage, was
Finding 55. Insolvency probably existed throughout the entire period of the debtor’s ownership of the apartment house property, but the referee made no finding as to insolvency during earlier years.
Except for one $500 bond purchased by Fribo'urg at a cost of $131.05 on June 4, 1946.
This was finding 54. There*is also finding 30: “There is no evidence to support a finding that Fribourg in connection with his purchases was acting on any information of an inside nature imparted to him by any officer or director of debtor — something not known to and of which the stock holders were not informed.”
And finding 40: “The record does not warrant a finding of offers to purchase the debtor’s said property for sums increasing in amount from the Spring of 1942.”
And finding 43: “From the time that the Ohesterbrook Estate offer was turned down until the time of the sale in 1946, nothing which would be called an actual firm offer was made for debtor’s property.”
Magruder v. Drury, 235 U.S. 106, 119, 35 S.Ct. 77, 59 L.Ed. 151 is often cited for this well-known principle.
In most of the cases cited by appellant the purchases were made after some type of bankruptcy proceeding was pending or was imminent and known to be so by the director. Monroe v. Scofield, 10 Cir., 135 F.2d 725, 726; In re Philadelphia & Western Ry. Co., D.C.E.D. Pa., 64 F.Supp. 738, 739; In re Los Angeles Lumber Products Co., D.C.S.D. Cal., 46 F.Supp. 77, 82.
Dissenting Opinion
(dissenting).
I agree with my brothers that the decisive question is not one of New York law, but — so far as I can understand — what federal judges think a “fair” distribution between the bankrupt’s creditors would be of the salvage from his estate. I can see an apparent anomaly in distributing the profits on a director’s purchase among the creditors at large, when they cannot be returned to the seller. However, it appears to me an excuse for doing so that, if equity regards the bonds as improperly acquired, it is more nearly just to distribute any profits among the other creditors, who have not been paid in full, than to leave them in the director’s hands; for they are a part of the bankrupt’s assets and the creditors have a better claim to them than the director himself. The fact that the former creditor has not intervened to assert his right to them against the director, is not to be taken as the equivalent of an assignment or release.
Whether any of the bonds here in suit were- in fact acquired by means which equity regards as improper is another matter. I agree that the trustee’s case broke down, so far as it rested upon the suppression of any specific information that the property was going to increase in value; and, if the directors’ dividends are to be confined to what they paid for the bonds, it must be because, as directors, they were not free to deal with the creditors at arms’ length. The books are full of declarations that an insolvent holds his property in trust for his creditors; and, when the insolvent is a corporation, whose directors were concededly fiduciaries as to shareholders, they become doubly fiduciaries of the creditors upon insolvency. The shareholders have then lost any interest
It seems to me that there are solid grounds for distinguishing between such purchases and purchases of shares. I conceive that the law allows a director to increase his stake in the company, because it adds to his incentive to make it succeed; the greater the prize, the greater the effort; it will dampen his zeal, if his holdings must be frozen at what he has when he is elected. Yet he cannot increase them without buying of the shareholders. The common-law was unable to effect any compromise between these opposing considerations, and chose the second; on the other hand, the Securities Exchange Act
It will not be necessary for me to go much into the details. I should not include any bonds bought by a director from a director; surely they stand on an equality. The case is not so plain as to the ladies for whom directors bought bonds. They relied altogether upon the directors’ advice and exercised no judgment of their own in deciding to buy. In so doing I think that they became charged with the same equities that would have charged the directors, had they bought on their own behalf. In short, the directors could not pass on to their principals profits which they could not have retained for themselves. The principals were charged with notice of what the agents knew, and therefore the principals were not bona fide purchasers. Finally, it is not important to decide whether Judge Goddard was right in finding that Fribourg’s claim should be treated as though it were a director’s; or whether the referee was right in deciding otherwise. The correct answer is not altogether clear, and it would be necessary to find it only in ease my brothers agreed with my disposition of the chief issue.
318 U.S. 80, 63 S.Ot. 454, 87 L.Ed. 626.
§ 78p (b), Title 15 U.S.C.A.