Friedman v. Chesapeake and Ohio Railway Company

• Decision Date: 08 December 1966
• Docket Number: No. 66 Civ. 1080.,66 Civ. 1080.
• Parties: Irving D. FRIEDMAN and Sylvia Friedman, on behalf of themselves and in a representative capacity on behalf of all other owners and/or holders of Baltimore and Ohio convertible 4½% income bonds due February 1st, 2010, Plaintiffs, v. CHESAPEAKE AND OHIO RAILWAY COMPANY and Baltimore and Ohio Railroad Company, Defendants.
• Court: U.S. District Court — Southern District of New York

261 F. Supp. 728

Irving D. FRIEDMAN and Sylvia Friedman, on behalf of themselves and in a representative capacity on behalf of all other owners and/or holders of Baltimore and Ohio convertible 4½% income bonds due February 1st, 2010, Plaintiffs, v. CHESAPEAKE AND OHIO RAILWAY COMPANY and Baltimore and Ohio Railroad Company, Defendants.

Nos. 66 Civ. 1080.

United States District Court S. D. New York.

December 8, 1966.

Charles J. Fine, New York City, for plaintiffs.

Donovan, Leisure, Newton & Irvine, New York City, for defendant Chesapeake and Ohio Ry. Co. (Carl E. Newton, Robert F. Morten, William P. Moyles, New York City, of counsel).

Alexander & Green, New York City for defendant Baltimore and Ohio R. Co. (Donald M. Dunn, Eugene Z. DuBose, New York City, of counsel).

OPINION

MacMAHON, District Judge.

Plaintiffs move to strike a defense that they lack standing and for leave to serve an amended complaint. Defendant Baltimore and Ohio Railroad Company ("B&O") cross-moves for summary judgment.

The complaint purports to assert a class action on behalf of plaintiffs and all other holders of defendant B&O's convertible 4½% income bonds, due February 1, 2010, and seeks to recover principal and interest on the bonds. The bonds were issued under an indenture which, inter alia, defines and conditions the rights of holders to sue.

The answers of both defendants assert an affirmative defense that plaintiffs lack standing to bring this action because they have failed to perform certain conditions precedent as required by the bonds and the indenture on which plaintiffs' claims are based.

Plaintiffs move under Rule 12(b) of the Federal Rules of Civil Procedure to strike the defense as insufficient in law, and defendant B&O cross-moves under Rule 56(b) of the Federal Rules of Civil Procedure for summary judgment dismissing the complaint. There is no issue as to any material fact relating to the defense. The motions, thus, squarely raise the question of whether the defense is sufficient as a matter of law.

We note at the outset that the bonds are not due until February 1, 2010. Necessarily, therefore, an action to recover the principal does not lie unless the maturity date of the bonds has been accelerated by a completed event of default. The bonds, on their face, clearly refer to the indenture and expressly notify plaintiffs and all holders that "in case an event of default, as defined in the Indenture, shall occur, the principal of the Bonds may be declared, or may become, due and payable, in the manner and with the effect provided in the Indenture."¹ Plaintiffs are thus forced to rely on the indenture in order to accelerate the time of payment.

That plaintiffs have in fact based their claims on the indenture is abundantly clear on the face of the complaint which plainly invokes the aid of certain provisions of the trust indenture in order to accelerate the maturity of the bonds by the alleged occurrence of events of default. Thus, the complaint alleges four claims against both defendants, and the relief sought in all of them is based upon plaintiffs' allegation that there has been a "merger in fact" of the B&O and the Chesapeake and Ohio Railway Company ("C&O").

Coupling their alleged merger in fact with alleged events of default specified in the indenture, plaintiffs claim that the maturity date of the bonds has been accelerated and that both railroads are now obligated to make payment on them. The alleged events of default upon which plaintiffs rely are the payment of dividends by C&O while there was nonpayment of interest on the B&O income bonds for the years 1961 through 1965, failure to make sinking fund payments, and payments into B&O's retirement annuity plans. The foregoing acts, according to the complaint, constitute "a subversion of plaintiffs' rights under the Indenture and their bonds," causing arrears of interest to become immediately due and an acceleration of maturity of the principal of the B&O income bonds.

Assuming, arguendo, that the alleged events of default have in fact occurred, Article Eight of the indenture, nonetheless, invests the trustee under the indenture with all rights of action and provides that no action growing out of any provision of the B&O indenture may be instituted upon the bonds unless the trustee fails to act upon the request of 25% in principal amount of the outstanding bonds and the offer of adequate indemnity to the trustee.

As we have shown, plaintiffs must, and do, invoke the aid of certain provisions of the trust indenture to validate their claim. They must, therefore, plead and prove compliance with the requirements and performance of the conditions defined in the indenture as conditions precedent to the maintenance of this action.²

The complaint does not allege that the conditions precedent to suit, required by the trust indenture, have been met, and the fact that they have not been complied with is alleged in the challenged affirmative defense and is shown by undisputed affidavits supporting the motion for summary judgment. The complaint, therefore, fails to state a claim upon which relief can be granted, and there being no genuine issue of any material fact respecting the challenged affirmative defense, the motion for summary judgment must be granted,³ unless there is merit to plaintiffs' remaining contentions which we will now discuss.

Plaintiffs argue that summary judgment is precluded because the Trust Indenture Act of 1939, 15 U.S.C.A. § 77ppp(b), specifically prohibits any limitation on the right of a bondholder to institute suit for either principal or interest without the bondholders' consent. The short answer to this contention is that the bonds which are the subject of this suit were issued pursuant to the authority of the Interstate Commerce Commission, in accordance with § 20a of the Interstate Commerce Act, 49 U.S.C.A. § 20a,⁴ and are expressly exempted from the provisions of the Trust Indenture Act, 15 U.S.C.A. § 77ddd(a).⁵ Section 3(a) (6) of the Securities Act of 1933, 15 U.S.C.A. § 77c(a) (6), exempts "any security issued by a common or contract carrier, the issuance of which is subject to the provisions of section 20a of Title 49 Interstate Commerce Act."⁶

Finally, plaintiffs contend that the challenged defense should not prevail because the trustee has unreasonably refused to sue. This is premised on plaintiffs' demand that the trustee take appropriate action on their claims that there has been a merger in fact and that the declaration and payment of a dividend by C&O constitutes an event of default.

There is no dispute that C&O has paid a dividend, but defendants vigorously deny that there has been a merger in fact or that such payment was a payment by B&O or in any way an event of default under the indenture. Plaintiffs assert that the trustee's failure to sue is so unreasonable that individual bondholders may sue despite the "no action" clause. Plaintiffs cannot so easily escape from the consequences of failing to perform the conditions precedent. The indenture requirement that bondholders may sue where the trustee fails to act, only if requested by the holders of 25% of the principal amount of the outstanding bonds and an offer of adequate indemnity to the trustee, is plainly reasonable.⁷

Plaintiffs' whole case is built upon the claim of a "merger in fact," predicated essentially on C&O's ownership of 90% of B&O's stock, the pooling of equipment, and the coordinated use of facilities and personnel. In approving C& O's acquisition of control of the B&O, the I.C.C. expressly recognized that the transaction was not a merger, and, noting that B&O's very existence was threatened unless its operating expenses were reduced and its earnings increased, found that:

"Under affiliation C & O is willing and can provide the financial assistance needed to restore the B & O's properties to essential standards. This is not a temporary palliative but an effort of the railroads themselves to work out their long-range problems. Through the use of joint facilities and personnel and the pooling of equipment, substantial cost reductions and savings can be effected. Further, the legitimate interests of B & O's creditors and equity holders will be served by C & O control. As a result of the affiliation, B & O will eventually become a stronger railroad and the efficiency and economy of its operations will be increased. Strengthened as a result of the control, B & O's ability to meet adequately the needs of commerce and of the national defense will be enhanced. These take on added significance when we view the large industrial and population centers served by the B & O in 13 States and the District of Columbia." Chesapeake & O. Ry. Co. Control, 317 I.C.C. 261, 291 (1962).

Plaintiffs' claim of a "merger in fact" borders on the frivolous for it is predicated on semantics. Mere labels, however, cannot alter the fact that the I.C.C. has approved the very transaction and acts which form the basis of plaintiffs' claim.⁸ Moreover, railroads may not merge,⁹ nor may one railroad assume the obligations of another without I.C.C. approval.¹⁰ Surely, under the circumstances, the trustee's insistence on a request by the prescribed proportion of the bondholders and adequate indemnity before undertaking litigation of the complexity, magnitude, expense, and uncertainty inherent in plaintiffs' tenuous claim is clearly reasonable.

We hold, therefore, that the challenged affirmative defense is sufficient to bar the action as a matter of law.

We turn to plaintiffs' motion to amend their complaint to assert three additional alternative claims and to amend the title of the action as to the proposed first alternative claim to include the directors, officers, attorneys, and agents of the carriers as defendants.

All three alternative claims asserted in the proposed amended complaint are unique, if not specious. All are predicated on the hypothesis that plaintiffs prove upon...