Hoppe v. Rittenhouse

• Decision Date: 26 May 1960
• Docket Number: No. 16330.,16330.
• Parties: Charles E. HOPPE, Trustee of the Estate of Los Gatos Lumber Products, Inc., Bankrupt, Appellant, v. Emmet L. RITTENHOUSE, Appellee.
• Court: U.S. Court of Appeals — Ninth Circuit

279 F.2d 3 (1960)

Charles E. HOPPE, Trustee of the Estate of Los Gatos Lumber Products, Inc., Bankrupt, Appellant, v. Emmet L. RITTENHOUSE, Appellee.

No. 16330.

United States Court of Appeals Ninth Circuit.

May 26, 1960.

COPYRIGHT MATERIAL OMITTED

Shapro & Rothschild, Arthur P. Shapro, Daniel Aronson, Jr., Burlingame, Cal., for appellant.

Emmet L. Rittenhouse, Santa Cruz, Cal., for appellee.

Before POPE, HAMLEY and KOELSCH, Circuit Judges.

KOELSCH, Circuit Judge.

The Trustee in Bankruptcy challenges as a voidable preference within the meaning of Section 60 of the Bankruptcy Act (11 U.S.C.A. § 96),¹ a secured creditor's claim filed by the appellee, E. L. Rittenhouse, contending that the evidence as a matter of law establishes first, that the bankrupt was insolvent when it gave the security in question, a note and mortgage executed by the bankrupt on December 14, 1956 to appellee's assignors, Paul Gammill and Paul Gammill, Jr., and second, that the mortgagee-assignors had knowledge of such insolvency when they received the mortgage. The referee in bankruptcy found against the trustee on both issues, and the District Court, on review of the matter, affirmed; the trustee now appeals to this Court. Jurisdiction of the court below was obtained under 11 U.S.C.A. § 67, sub. c; our jurisdiction is conferred by 11 U.S. C.A. § 47.

The question thus presented on appeal is whether the evidence supports these two ultimate findings by the referee. We believe it does.

The bankrupt, Los Gatos Lumber Products, Inc., a corporation organized under the laws of California, was engaged in sawing and selling lumber at Fulton, California, where it owned a sawmill, land and equipment in which it had a substantial investment. The business had been continually hampered by lack of adequate working capital, and the president of the bankrupt, Carl Morton, and members of his family, from time to time advanced substantial sums of money to it.

But these advances had not been adequate to meet the needs of the bankrupt and during the summer Morton made several unsuccessful attempts to sell or refinance the business. A financial statement prepared in August by a firm of auditors from the corporate books reflected as a liability an item designated "Notes Payable, Officers" in the sum of $173,813.12; this figure, Morton testified, represented the monies advanced by himself and his family; the statement also showed that the liabilities of the bankrupt exceeded its assets by $112,789.50. Finally, in September he sought a loan from the Small Business Administration, a Government agency, and to the application attached statements by the several members of the Morton family in which each stated his willingness to accept stock of the bankrupt in lieu of his debt and agreed to relinquish any claim as a creditor of the bankrupt on condition that "Los Gatos Lumber Products, Inc. obtain from the Small Business Administration, $150,000.00 to $175,000.00 of new financing within 90 days from the date hereof * * *."

However, private financial aid was finally obtained from Paul Gammill, Jr. and his father who were engaged in the logging business as partners and had throughout 1956 sold and supplied logs to the bankrupt. Business dealings between the bankrupt and the Gammills were largely, if not entirely, carried on by Carl Morton and Paul Gammill, Jr., but their association was not limited to the sale and purchase of logs alone: on numerous occasions during that year Carl Morton not only discussed with Paul Gammill, Jr. the continued need of the bankrupt for money with which to operate, but also showed him its books and the financial statement already mentioned; Paul Gammill, Jr. assisted Morton in attempting to sell the business and in preparing the loan application to the Small Business Administration. The first loan of the Gammills was made in October and additional loans were made throughout the remainder of the year and until the eve of the filing of the petition in involuntary bankruptcy against the bankrupt on January 22, 1957. In all, upwards of $29,000.00 was thus loaned by the Gammills, but at the time the note and mortgage were executed on December 14, 1956 the loans totalled $25,381.26; the consideration for the note, however, represented only a part of that sum.²

The above evidence, says the trustee, conclusively establishes that the corporation was insolvent and the Gammills knew it, stressing the additional undisputed facts that no stock was ever issued in lieu of these debts and that the members of the Morton family filed creditors' claims based upon these obligations in the bankruptcy proceeding.

In absence of other evidence, we would be disposed to accept the trustee's contentions, for the books of the bankrupt with which Paul Gammill, Jr. was familiar, clearly demonstrate that the assets of the bankrupt were less than the amount of its liability and this constitutes "insolvency" as defined in 11 U.S.C.A. § 1(19).³ Langham, Longston & Burnett v. Blanchard, 5 Cir., 1957, 246 F.2d 529.

But there was considerable other evidence adduced at the hearing which must be given due consideration, and our view of this evidence is guided by the familiar rule that "* * * the district court and this court are required to accept the findings of the referee in bankruptcy, unless such findings are clearly erroneous." Costello v. Fazio, 9 Cir., 1958, 256 F.2d 903, 908; Lines v. Falstaff Brewing Co., 9 Cir., 1956, 233 F.2d 927; General Order in Bankruptcy No. 47, 11 U.S.C.A. following section 53; Rules 52(a) and 53(c), Federal Rules of Civil Procedure, 28 U.S.C.A.

Carl Morton himself testified that he and his family had agreed that they would accept stock in the bankrupt and relinquish their claims against it arising out of their advances if this would attract needed capital into the business. Morton further stated that during the summer he had advised a number of prospective lenders and purchasers, including Paul Gammill, Jr., of this agreement, and to further publicize it he had placed the notation "into stock" on the financial statement while attempting to either borrow money or sell the business. A letter written in April by Morton's mother tends to corroborate this testimony, for in it she expressly declares that her advances were for the purchase of stock and not a loan to the corporation.

The only other witness at the hearing was Paul Gammill, Jr., and his testimony corroborated Morton's in many essential details. It can appropriately be summarized as follows: at several meetings both Carl Morton and his wife, had expressed to him a willingness to accept stock of the bankrupt in lieu of their advances should a loan be obtained or the business sold; at another meeting, George Stepovich, Morton's attorney had suggested, and Morton agreed, that "* * * those notes would be cancelled and made into stock"; as a result of these meetings and further dealings with the Mortons, it was Gammill's understanding that the Mortons' claims would be exchanged for stock of the bankrupt upon loans being made to the bankrupt by any one, not solely the Small Business Administration;⁴ and lastly, the loans made by the Gammills were made in reliance upon this basic understanding.

The referee found "the net worth of the Bankrupt corporation on the 14th day of December, 1956, was approximately $62,000.00," and this rests upon the further finding that the monies advanced to the bankrupt by members of the Morton family, "* * * were advanced to the corporation not as loans but as equity capital in the form of subscriptions to capital stock."

The undisputed evidence is thus that the Mortons had orally agreed to exchange their notes for stock in the corporation on the condition that additional working capital be obtained from some outside source, and that the corporation, through its president, Carl Morton, not only agreed to this proposal but actively sought additional financing from prospective lenders by positively asserting that the apparent indebtedness of the corporation to the Morton family would be erased as a liability when additional financing was obtained. There is little doubt that the Mortons intended to and did enter into a conditional subscription agreement. The critical question, then, is whether this agreement was binding and enforceable, for on it hinges the validity of the referee's finding that the Mortons' advances were "subscriptions", not "loans".

The validity of such a subscription agreement, determining as it does the nature and extent of the Mortons' interest in the corporation, is an ancillary question of local law; and since the bankrupt was incorporated under the laws of California and the agreement was entered into there, the laws of that state govern the inquiry. Kemp-Booth Co., Ltd. v. Calvin, 9 Cir., 1936, 84 F.2d 377; Imperial Paper & Color Corp. v. Sampsell, 9 Cir., 1940, 114 F.2d 49; In Matter of Terrace Lawn Memorial Gardens, 9 Cir., 1958, 256 F.2d 398.

Under California law an agreement by prospective shareholders to purchase stock in a proposed corporation, or unissued shares in an existing corporation, is a binding and enforceable contract. Chater v. San Francisco Sugar Refining Co., 1861, 19 Cal. 219; Marysville Electric Light & Power Co. v. Johnson, 1892, 93 Cal. 538, 29 P. 126; Moser v. Western Harness Racing Ass'n, 1948, 89 Cal.App.2d 1, 200 P.2d 7. The proposal made by such subscribers must be accepted by the corporation before they are finally bound, and it is clear in the present case that Carl Morton, acting on behalf of the corporation, did so accept. See Marysville Electric Light & Power Co. v. Johnson, 1895, 109 Cal. 192, 41 P. 1016; Moser v. Western Harness Racing Ass'n, supra.

However, the agreement was entirely oral, and this raises the question whether it was rendered invalid because of the California Statute of Frauds, which provides as follows:

"A contract to sell or a sale of any goods or choses in action

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