Eddy v. Prudence Bonds Corporation

• Decision Date: 08 March 1948
• Docket Number: No. 10,Docket 20589.,10
• Citation: Eddy v. Prudence Bonds Corporation, 165 F.2d 157 (2nd Cir. 1948)
• Parties: EDDY et al. v. PRUDENCE BONDS CORPORATION (New Company) et al.
• Court: U.S. Court of Appeals — Second Circuit

165 F.2d 157 (1947)

EDDY et al. v. PRUDENCE BONDS CORPORATION (New Company) et al.

No. 10, Docket 20589.

Circuit Court of Appeals, Second Circuit.

December 8, 1947.

Writ of Certiorari Denied March 8, 1948.

Samuel Silbiger, of Brooklyn, N. Y., for George Eddy et al.

Edward C. Wallace and Weil, Gotshal & Manges, all of New York City, for James L. White et al.

Charles M. McCarty, of New York City, for Prudence Bonds Corporation (New Company).

George C. Wildermuth, of Brooklyn, N. Y., for the trustee of debtor.

J. M. Richardson Lyeth, of New York City, for Manhattan Bank.

Irving L. Schanzer, for Prudence Realization Corporation.

Maclay, Lyeth & Williams, of New York City (Robert L. Fay, of New York City, of counsel), for appellants President and Directors of Manhattan Co.

Before L. HAND, SWAN, and CHASE, Circuit Judges.

Writ of Certiorari Denied March 8, 1948. See 68 S.Ct. 664.

L. HAND, Circuit Judge.

These appeals are from four orders in bankruptcy in the reorganization of Prudence Bonds Corporation under § 77B of the Bankruptcy Act, 11 U.S.C.A. § 207, a proceeding which has repeatedly come before this court. Three of the orders directed the distribution of the collateral, which secured the Fifth, Sixth and Ninth Series of bonds issued by the Debtor, and the fourth order concerned the collateral of all the series but the Fifteenth. We may confine ourselves to the order which directed distribution of the collateral of the Fifth Series; and, indeed even more narrowly, to whether the Publicly Held Bonds of that series were entitled to interest in full up to the time of payment, as against the bonds in the hands of the Prudence Realization Corporation (the successor of the guarantor of all the bonds), as against any claim of the former trustee (the Manhattan Bank) or as against the New Company itself. As a result of our decision in President and Directors of Manhattan Company v. Kelby,¹ the Bank, as trustee for the Fifth Series, deposited with the substituted trustee for all the series over $1,500,000 which, with the remaining collateral, has created a fund large enough to pay the principal of the Publicly Held Bonds with interest in full up to August 1, 1945, and to leave a small surplus. The proper distribution of this fund depends upon the interpretation of the documents by which the Fifth Series was reorganized; and it will be enough to make our discussion intelligible, if in what follows we quote the relevant passages from these. However, it is desirable as a preliminary to state the positions of the parties and the conclusions of the special master which the judge affirmed. The Publicly Held Bonds argue that, although their right to interest as against the New Company was reduced to the income from the collateral, as lienors upon that collateral they retained unimpaired their claim to full interest. The Guarantor argues that, as lienors the Publicly Held Bonds were as much limited to the income from the collateral as they were as obligees of the New Company. The master held with the Guarantor, and there arose from this holding a number of other issues which become moot, when, as we are doing, we sustain the position of the Publicly Held Bonds.

By virtue of subdivision h of § 77B the order of confirmation discharged "the debtor from its debts and liabilities * * * except as provided in the plan or as may be reserved as aforesaid"; and it follows that no obligations remained except such as the New Company assumed. To learn what these were, we need look only at the Supplemental Trust Agreement, in which the New Company promised to pay interest only so far as the income of the collateral permitted,² and the principal when it became due;³ and, in further confirmation of this, § 8 of Article II specifically exonerated the obligor from all deficiencies in interest which the income should not discharge. None of these clauses affected to deal with the claims of any of the bondholders as lienors upon the collateral; and a dispute had long since arisen between them and the Guarantor as to their relative rights as such. Section 11 of the original plan declared that the court should decide this dispute and went on to say that, if the Publicly Held Bonds were awarded priority, the Guarantor's Bonds should not "be entitled to receive any distributions on account of principal until all of the Publicly Held Bonds have been fully paid, redeemed, purchased or retired." On July 21, 1937, Judge Inch decided that the Guarantor's Bonds were "not entitled to share in the collateral * * * on a parity" with the Publicly Held Bonds; that the Guarantor's Bonds were "not enforcible obligations either as to principal or interest against their respective trust funds * * *, until" the Publicly Held Bonds should "have been paid or provided for in full, both as to principal and interest heretofore accrued or hereafter accruing"; and that they should be so entitled "if and when and only after" the Publicly Held Bonds should "have been paid or provided for in full, both as to principal and interest." The Guarantor appealed from this order, and the Amended Plan must have been drafted before the appeal was disposed of, for it incorporated in haec verba § 11 of the original Plan. The appeal was dismissed on January 7, 1938, by virtue of a settlement which accepted the order of July 21, 1937, so far as it fixed the terms of the subordination; and the Amended Plan was confirmed on January 18, 1938, still without any change in § 11. The Supplemental Trust Agreement was drawn up thereafter and was executed as of March 1, 1938, though it was not approved until April 27, 1938. Two passages in Article II dealt with the subordination of the Guarantor's Bonds: § 8 declared at its close that they should "not be entitled to share in the Collateral until all other Bonds have been paid or provided for in full according to their tenor"; and § 10, that they should not "participate in proceeds of the Collateral * * * until the publicly owned or held Bonds have been fully paid, purchased or retired by the Corporation." This last language also appeared in an "allonge," affixed to the Guarantor's Bonds. All this had taken place before anyone knew, or at least before any of the bondholders knew, anything about the conduct of the trustee of the collateral — the Manhattan Bank — whose accounts were not filed until the summer or autumn of 1938. Then for the first time it appeared that it had been guilty of breaches of trust for which we finally fixed its liability on February 2, 1945, six years later. The recoveries so obtained are to be treated as restorations to the trust fund.

The order of July 21, 1937, having divided the bondholders into two groups, these were in the same relative position as though they had been secured by separate mortgages; and it would have been illegal to deny to the senior group its priority in interest, as much as it would have been to deny it its priority in principal.⁴ If this proceeding had been a "straight bankruptcy," the preferred group would, moreover, have been entitled to full interest until payment, provided the collateral was large enough.⁵ A pledgee acquires an interest in the pledge, which is not affected by the bankruptcy, for bankruptcy is no more than a means of distributing the debtor's general assets ratably.⁶ The right which he acquires is intended to be security for his claim in full, and that includes interest till payment. In Ticonic National Bank v. Sprague, 303 U. S. 406, 58 S.Ct. 612, 82 L.Ed. 926, the court regarded it as a corollary of this general principle that the priority of creditors, preferred in the liquidation of a national bank, should include interest till payment; and, if there is a difference in the case at bar it must be because § 77B changed the law in the case of corporate reorganizations by limiting the interest on secured claims to the date when the plan goes into effect. There was nothing in § 77B(b) (5)⁷ — the only relevant provision — which suggests such a change. It is true that subdivision (d) of § 77B(b) (5), among the methods by which the claims of all objecting creditors might be "dealt with" included such "as will in the opinion of the judge, under and consistent with the circumstances of the particular case, equitably and fairly provide such protection"; and this "protection" the act had just defined as "adequate protection for the realization by them of the value of their interests, claims, or liens." That did permit the plan to "deal with" the claims of secured creditors by giving them new interests in the corporate property instead of paying them in cash; but it did not affect their right to have the substituted interests computed upon the basis of the "value" of the interests — the liens — cancelled.⁸ Since the liens included interest to the date of payment, the substitute, to be lawful at all, had to include interest to the same date. Indeed, in the case of Chapter X, 11 U.S. C.A. § 501 et seq.,⁹ — which in this regard is substantially identical with § 77B(b) (5), (d) — the Supreme Court recognized as much in its discussion in Vanston Bondholders Protective Committee v. Green.¹⁰ Hence it would have been illegal to deny to the Publicly Held Bonds interest in cash or in some equivalent to the date of the payment of the principal, had the Plan or the Agreement so provided.

Perhaps, since the question does not seem to have been raised when the Amended Plan was confirmed and the Agreement was approved, it would be now too late to upset them, if, as matter of interpretation they plainly intended this unlawful result, although that is not too clear in the case of the Agreement. Nevertheless, in the proper interpretation of these instruments, this consideration should weigh heavily in accordance with the well established canon that, when there is a choice, a court will prefer that construction which is lawful.¹¹

Before resorting to the literal meaning of the words, it...