Caplin v. Marine Midland Grace Trust Co. of New York

• Citation: 439 F.2d 118
• Decision Date: 03 March 1971
• Docket Number: Docket 32586.,No. 327,327
• Parties: Mortimer M. CAPLIN, Trustee in Reorganization of Webb & Knapp, Inc., on behalf of debenture-holders under a trust indenture of Webb & Knapp, Inc. to the Marine Midland Trust Company of New York, trustee, dated as of June 1, 1954, Plaintiff-Appellant, v. The MARINE MIDLAND GRACE TRUST COMPANY OF NEW YORK, Defendant-Appellee. In the Matter of WEBB & KNAPP, INC. and Subsidiaries, Debtors, Mortimer M. Caplin, Trustee in Reorganization of Webb & Knapp, Inc. and Subsidiaries, Trustee-Appellant (two cases). In the Matter of WEBB & KNAPP, INC. and Subsidiaries, Debtors, the Marine Midland Grace Trust Company of New York, Claimant-Appellant.
• Court: United States Courts of Appeals. United States Court of Appeals (2nd Circuit)

439 F.2d 118 (1971)

Mortimer M. CAPLIN, Trustee in Reorganization of Webb & Knapp, Inc., on behalf of debenture-holders under a trust indenture of Webb & Knapp, Inc. to the Marine Midland Trust Company of New York, trustee, dated as of June 1, 1954, Plaintiff-Appellant, v. The MARINE MIDLAND GRACE TRUST COMPANY OF NEW YORK, Defendant-Appellee.

In the Matter of WEBB & KNAPP, INC. and Subsidiaries, Debtors, Mortimer M. Caplin, Trustee in Reorganization of Webb & Knapp, Inc. and Subsidiaries, Trustee-Appellant (two cases).

In the Matter of WEBB & KNAPP, INC. and Subsidiaries, Debtors, the Marine Midland Grace Trust Company of New York, Claimant-Appellant.

No. 327, Docket 32586.

United States Court of Appeals, Second Circuit.

Argued December 16, 1970.

Decided March 3, 1971.

Ordered January 13, 1971.

Charles H. Miller, New York City (Marshall, Bratter, Greene, Allison & Trucker, New York City, of counsel), for Chapter X trustee-appellant and cross-appellee.

John Dickey, New York City (Sullivan & Cromwell, New York City, of counsel), for indenture trustee and cross-appellant.

Paul Gonson, Washington, D. C. (David Ferber, Sol., S. E. C.), for S. E. C.

Before LUMBARD, Chief Judge, and MOORE, FRIENDLY, SMITH, KAUFMAN, HAYS and ANDERSON, Circuit Judges.^*

En Banc ordered January 13, 1971.

FRIENDLY, Circuit Judge:

We have three appeals and a cross-appeal from orders of Judge McLean concerning the reorganization of Webb & Knapp, Inc. under Chapter X of the Bankruptcy Act which is now pending in the District Court for the Southern District of New York. All relate to complaints by the Chapter X Trustee, Mortimer M. Caplin, concerning alleged failure on the part of The Marine Midland Grace Trust Company of New York ("Marine"), trustee under an Indenture whereunder Webb & Knapp issued unsecured debentures now outstanding in the amount of $4,298,200, to enforce certain covenants made by the debtor.¹

Marine had filed a proof of claim in the sum of $51,447.55 for services rendered and expenses incurred by it as indenture trustee. The Chapter X Trustee objected to this on the ground of Marine's alleged breach of duty and counterclaimed for damages in the amount of the debentures that remained outstanding. With the authorization of the district court, he also filed a plenary suit seeking the same relief. In addition he moved that Marine be required to file an accounting. Marine moved to dismiss the objections to its proof of claim, the counterclaim and the plenary suit. The judge held that grant of Marine's motions to dismiss the counterclaim and the complaint was required by Clarke v. Chase Nat'l Bank, 137 F.2d 797 (2 Cir. 1943), but denied its motion to dismiss the objections. He also denied the Trustee's motion to compel Marine to account since there was no allegation that Marine had mishandled any funds which came into its hands as indenture trustee, and the only claim asserted by the Chapter X Trustee was the indenture trustee's alleged failure to enforce the negative covenant, a claim that would stand no better as a counterclaim to an accounting than as a plenary action or as a counterclaim to a proof of claim. Each party appealed from the decisions adverse to it.

After a panel consisting of Judges Moore, Kaufman and Hays had come to the conclusion that Clarke should be overruled, the court voted, in accordance with its usual practice in such cases, see, e. g., Indussa Corp. v. S.S. Ranborg, 377 F.2d 200 (2 Cir. 1967), to consider the appeals in banc upon the briefs already filed. A majority of the full court have concluded that Clarke was correctly decided and, since this case is admittedly not distinguishable, that the dismissal of the counterclaim and the plenary suit should be affirmed. We are all of the view that the orders denying the Trustee's motion to require Marine to account and refusing to strike his objections to Marine's claim should be affirmed.

Clarke was an action by the Chapter X Trustee of Associated Gas and Electric Company (Ageco) against the Chase National Bank, trustee under an indenture for debenture holders. Broadly speaking the complaint contained two differing sets of counts. The first and third alleged that Chase, in breach of its duties as indenture trustee, had failed to enforce certain covenants against the mortgage or pledge of Ageco's property or its merger into another corporation and sought to recover losses suffered by the debenture holders in consequence. The second count sought recovery of $4,000,000 allegedly received by Chase from Ageco in payment of an indebtedness, though Chase knew the latter was insolvent or in imminent danger of insolvency; the fourth count alleged that Chase had received a preference in respect of $4,249,000 of Ageco debentures owned by Chase, through an unfair exchange with Ageco's subsidiaries of these debentures for securities of greater value, at a time when Chase knew Ageco was insolvent.² The court unanimously reversed an order dismissing the second and fourth counts. A majority, with Judge Augustus N. Hand writing for himself and Judge Chase, upheld an order of a different judge dismissing the first and third counts; as to this Judge Learned Hand dissented.

The majority in Clarke reasoned that, assuming liability, "we cannot see that the claims for breach of the covenants are any part of the property of the bankrupt or would affect the plan of reorganization"; they were rather claims "of the debenture-holders not derived from the bankrupt's estate but arising through the alleged tortious action of the indenture trustee." 137 F.2d at 800. They cited the earlier decisions in In re 1775 Broadway Corp., 79 F.2d 108 (2 Cir. 1935), that the reorganization court has no jurisdiction to force nonassenting noteholders to release claims against an indenture trustee for misrepresentation in the sale of the notes, since these were not claims against the debtor or its assets or claims that must be settled to bring property into the reorganized company, and in In re Nine North Church Street, Inc., 82 F.2d 186 (2 Cir. 1936), that the reorganization court has no jurisdiction to enjoin nonassenting certificate holders from suing the guarantor of a mortgage on the debtor's property since the suit was to enforce a personal right against the guarantor and did not concern property subject to reorganization. Judge Learned Hand argued that the indenture trustee had a duty to prevent the violation of the covenants in the indenture, 137 F.2d at 802, which was true enough, and then asked "In what way does that breach of duty differ from allowing a debtor, in violation of the mortgage, to substitute improper collateral?" The answer was that in the latter case the mortgage trustee would have dealt improperly with property of the bankrupt. Judge L. Hand himself had based his opinion in Central Hanover Bank & Trust Co. v. President and Directors of Manhattan Co., 105 F.2d 130, 131-132 (2 Cir. 1939), on the ground that there the accounting dealt with property of the debtor which trustees for secured creditors had allegedly surrendered in breach of the trust, and that the rights of the creditors to compel them to restore the res was within the "extended" concept of the debtor's property in a reorganization.³ He was there careful, however, to distinguish the case in which the creditors asserted rights having "nothing to do with the res and which would not restore it" and "had nothing to do with anything that had ever been the debtor's property, or with the distribution of any part of it." Id. at 132. This distinction, apparently lost sight of in his dissent in Clarke, had been further developed by Judge Frank in Brooklyn Trust Co. v. Kelby, 134 F.2d 105, 110-112, 116 (2 Cir.), cert. denied, 319 U.S. 767, 63 S.Ct. 1330, 87 L.Ed. 1717 (1943).

A year and a half after Clarke, a panel consisting of the three other judges of the court as it then stood, Swan, Clark and Frank, decided the complicated case of President and Directors of Manhattan Co. v. Kelby, 147 F.2d 465 (2 Cir. 1944), cert. denied, 324 U.S. 866, 65 S. Ct. 916, 89 L.Ed. 1422 (1945). The unanimous opinion was written by Judge Frank, who had long been expert in reorganization matters and was a member of the SEC when Chapter X was adopted, in no small measure at its instance. The court took a broad view of the rights of reorganization trustees against a trustee under an indenture but stopped when it came to an issue similar to that here presented. One of the claims of the Chapter X Trustees was that the indenture trustee was liable in damages for failing to enforce a covenant of Prudence-Bonds Corporation to deposit a guarantee by the Prudence Company. Although recognizing that such damages might be considerable, the court held that "an action for those damages is not one for restoration of the trust fund" and "cannot be maintained in connection with the bankruptcy proceedings," 147 F.2d at 478, citing Brooklyn Trust Co. v. Kelby, supra, 134 F.2d at 111.

It is with this background that we come to Prudence-Bonds Corp. v. State Street Trust Co., 202 F.2d 555, 558 (2 Cir.) cert. denied, 346 U.S. 835, 74 S.Ct. 47, 98 L.Ed. 357 (1953), more particularly to Judge Learned Hand's opinion on rehearing. The Chapter X Trustee regards this as fundamentally inconsistent with Clarke, which the opinion did not mention. In our view the reason for failing to mention Clarke was that for grounds clearly stated by Judge Hand, there was no inconsistency.

The holdings in Prudence-Bonds with which we are concerned were (1) that the Chapter X Trustees could have maintained an action against an indenture trustee for failure to enforce a "Secondary Guaranty" by the Prudence Company of mortgages held by the indenture trustee as security for the bondholders, and (2) that this right had been conveyed to the reorganized company. Indeed it is only the first holding that is of real interest here. Its justification was thus stated, 202 F.2d at...