During lengthy proceedings for the reorganization of a railroad
under § 77 of the Bankruptcy Act, it realized abnormally large
earnings from war business. Most of these earnings were utilized to
make capital improvements, and a large amount was held as free
cash. Meanwhile, the claims of secured creditors were increased
substantially
Page 328 U. S. 496
by the accumulation of interest and the position of holders of
general mortgage bonds (the most junior lien holders) deteriorated
90%. The Interstate Commerce Commission approved a plan of
reorganization which eliminated the claims of all existing
stockholders and unsecured creditors, gave the holders of general
mortgage bonds new common stock in face amount of 10% of their
claims, and gave senior bondholders new securities (including about
88% of the new common stock) having an aggregate face value equal
to 100% of their claims. This was based upon a determination that
the aggregate of the securities in the plan represented the value
of the properties for reorganization purposes, and that, through
prospective earnings, there was adequate coverage for the charges.
The large accumulation of free cash was not distributed. The plan
was approved by the District Court and accepted by all creditors
entitled to vote except the holders of general mortgage bonds. The
District Court held that the latter's rejection of the plan was not
"reasonably justified," and confirmed the plan.
Held:
1. The orders of the District Court approving and confirming the
plan are affirmed. P.
328 U. S.
536.
2. Under § 77 of the Bankruptcy Act, the experience and judgment
of the Commission must be relied upon for final determinations of
value and of matters affecting the public interest, subject to
judicial review to assure compliance with constitutional and
statutory requirements.
Ecker v. Western Pacific R. Co.,
318 U. S. 448;
Group of Investors v. Milwaukee R. Co., 318 U.
S. 523. P.
328 U. S.
508.
3. The Courts are empowered to review the plan to determine
whether the Commission has followed the statutory mandates of §
77(e) and had material evidence to support its conclusions.
Id. P.
328 U. S.
509.
4. The congressional authorization for the Commission to
eliminate valueless claims from participation in reorganization is
a valid exercise of the federal bankruptcy power.
Id. P.
328 U. S.
509.
5. The Commission's judgment that the earning prospect did not
justify a greater capitalization than the one given is controlling.
P.
328 U. S.
515.
6. It was not required to add, and would not be justified in
adding, to the capitalized value the amount of expenditures for
improvements made during the reorganization proceedings if, in the
exercise of sound discretion, it felt that the reasonable
prospective earnings of the road, after the improvements, did not
justify it. P.
328 U. S.
515.
7. There was ample evidence to justify the valuation made by the
Commission. Pp.
328 U. S.
512-516.
Page 328 U. S. 497
8. The valuation having been based on earnings, the segregation
of the system earnings to each existing lien and the allocation of
new securities representing the system value to each class of
claimants, was in full accord with the principle that senior
creditors are to retain their relative priority of position in a
reorganization. P.
328 U. S.
517.
9. Junior claims can receive nothing until senior claims receive
securities of a value equal to their indebtedness. P.
328 U. S.
517.
10. When the Commission made its allocations of securities, it
did not find that the cash value of those awarded senior claimants
equalled the face value of their claims, and it definitely had in
mind that one thing that gave them compensation for the admission
of junior claimants to participation in securities before the
seniors obtained full cash payment was their chance to share in the
unlimited dividends that might be earned and paid on the common
stock in the "lush years," thus taking into account the abnormal
earnings during the war. P.
328 U. S.
518.
11. The improved physical condition of the road through
expenditures of the trustees for previously deferred maintenance,
improvements, and new equipment necessarily entered into the
Commission's valuation of the property. P.
328 U. S.
518.
12. That the creditors who received common stock to make them
whole obtained with it an interest in all cash on hand or that
might be accumulated was an important factor in the allocation of
the new securities. Pp.
328 U. S.
518-519.
13. The senior creditors having accepted the plan as fair and
equitable as between themselves, if the method and result of
valuation are sound, the allocation of 10% of their claim in common
stock to the junior creditors follows as a matter of computation.
P.
328 U. S.
519.
14. The objection of a stockholder to a voting trust for future
control of the debtor is ineffective, because the stockholder was
eliminated from the reorganization by the valuation of the property
and allocation of securities. P.
328 U. S.
520.
15. The Commission's action in fixing the effective date of the
plan as January 1, 1943, was within its power. P.
328 U. S.
521.
16. Assuming that the courts may set aside a plan which was fair
and equitable when adopted by the Commission merely on account of
subsequent changes in economic conditions, they should not do so
when the changes are of the kind that were envisaged and considered
by the Commission in its deliberations upon, or explanations of,
the plan. Pp.
328 U. S.
521-522.
17. It would be erroneous to assume that the senior bondholders
were paid in full by the securities allotted to them without
also
Page 328 U. S. 498
accepting the Commission's determination that the assets
represented as of the effective date, and all subsequent earnings,
were a part also of the common stock that was awarded to them,
since the opportunity to participate in war earnings and in the
accumulations of cash beyond operating fund needs was part of their
compensation for their loss of position. Pp.
328 U. S.
522-524.
18. When common stock is issued in partial satisfaction of the
claims of senior creditors and a reduction of senior capital takes
place after the adoption of the plan by the use of anticipated
earnings or existing cash, there can be no corresponding
readjustment of junior participation; because assets in the balance
sheet at the adoption of the plan and subsequent earnings are for
the benefit of stockholders in the new company, the senior
claimants, so that they may be compensated through these common
stock advantages for their loss of payment in full in cash. Pp.
328 U. S.
524-525.
19. The settled rule in bankruptcy proceedings that a creditor
secured by the property of others need not deduct the value of that
collateral or its proceeds in proving his debt is applicable in
proceedings under § 77. P.
328 U. S. 529.
20. A provision in a plan of reorganization that the trustee
under a certain bond issue secured in part by a lien on stock owned
by a third party shall be permitted to obtain the release of the
equities in the stock and distribute it among the bondholders or to
enforce its rights as pledgee of the stock and distribute the
proceeds to the bondholders did not change or affect existing
rights in the stock, and those rights remained subject to judicial
determination. Therefore, it could not result in the holders of the
bonds secured thereby receiving more than they were entitled to,
nor deprive the holders of a junior lien on the stock of any of
their rights, even though the Commission made no definite finding
as to the value of the stock and the holders of the senior lien on
the stock may have been fully compensated by other provisions of
the plan. Pp.
328 U. S.
525-531.
21. The provisions of § 77(e) for confirmation of a plan of
reorganization over the creditors' objection, if the reviewing
court finds that it makes "adequate provision for fair and
equitable treatment" of those rejecting it, that their rejection is
not "reasonably justified" and that the plan complies with the
requirements of the section, are within the bankruptcy powers of
Congress. P.
328 U. S.
533.
22. The finding of the District Court that the plan made
"adequate provision for fair and equitable treatment" of the
dissenters, as of its effective date, was justified. P.
328 U. S.
533.
Page 328 U. S. 499
23. In view of the District Court's familiarity with the
reorganization, this finding has especial weight with this Court.
P.
328 U. S.
533.
24. The rejection of the plan by the holders of general mortgage
bonds was not "reasonably justified" within the meaning of § 77(e).
Pp.
328 U. S.
533-535.
25. It is the duty of the Commission to plan reorganizations
with an eye to the public interest, as well as the private welfare
of creditors and stockholders. P.
328 U. S.
535.
26. The public interest in an efficient transportation system
justifies the Commission's requirements for reasonable maintenance
and improvements of the properties and for a capitalization with
fair prospects for dividends on all classes of securities. P.
328 U. S.
536.
150 F.2d 28, reversed.
The Interstate Commerce Commission approved a plan of
reorganization of a railroad under § 77 of the Bankruptcy Act. 254
I.C.C. 349. The District Court approved it. C.C.H. Bankruptcy Law
Service 54,562. All creditors entitled to vote accepted the plan
except holders of the general mortgage bonds. The District Court
held that the latter's rejection of the plan was not "reasonably
justified," and confirmed the plan. 62 F. Supp. 384. The Circuit
Court of Appeals reversed the District Court and remanded the
reorganization proceedings to the Commission for further
consideration. 150 F.2d 28. This Court granted certiorari. 326 U.S.
699. The judgment of the Circuit Court of Appeals is reversed; the
orders of the District Court approving and confirming the plan are
affirmed, and the cause is remanded to the District Court for
further proceedings. P.
328 U. S.
536.
Page 328 U. S. 500
MR. JUSTICE REED delivered the opinion of the Court.
The petitioners in these five cases are the owners of claims
against the debtor, Denver & Rio Grande Western Railroad
Company, or against secondary debtor, the Denver & Salt Lake
Western Railroad Company. The respondents are the two debtors just
named; City Bank Farmers Trust Company, Trustee under the General
Mortgage of the principal debtor, and the Trustee of the Missouri
Pacific Railroad Company, a large owner of common stock of the
principal debtor.
The debtors sought reorganization in the District Court of the
United States for the District of Colorado under Section 77 of the
Bankruptcy Act, [
Footnote 1] on
November 1, 1935. The Interstate Commerce Commission approved the
plan of reorganization under consideration in this review on June
14, 1943. [
Footnote 2] The
District Court approved the plan October
Page 328 U. S. 501
25, 1943. [
Footnote 3] It
was then submitted by the Commission to the creditors of the
classes deemed entitled to vote for acceptance or rejection of the
plan, and a certificate of the result filed in the District Court
on July 15, 1944. All classes of voting creditors approved the
plan, as required by Section 77 except the holders of the Denver's
General Mortgage bonds. [
Footnote
4] On November 1, the District Court held the rejection of the
plan by the holders of the General Mortgage was not reasonably
justified, [
Footnote 5] and
thereafter confirmed the plan on November 29, 1944. Section
77(e).
The plan provided for a reorganization as of January 1, 1943, by
the Denver by adjustment of its liabilities to its assets with or
without a consolidation with the Salt Lake and the Salt Lake
Western to form a system. The stock of the latter road is held by
the Denver. There are no bonds. As no ruling that we are asked or
required to make turns upon whether the reorganization is with or
without the suggested consolidation, we need not give further
consideration to possible differences. In either case, creditors
with secured claims against the reorganized roads or against their
property were left undisturbed or allocated new securities of the
new company, consisting of first mortgage and income bonds,
preferred and common stock, in lots, in face amount of the secured
claims except for the General Mortgage issue, that the Commission
and District Court determined, through adoption of the plan, were
fair and equitable in the light of the respective priorities,
liens, and collateral of the various secured
Page 328 U. S. 502
claims. All of the securities were given a par value. Interest
partly fixed and interest partly contingent on earnings was used to
gain play in annual charges. The plan eliminated unsecured claims
and allocated common stock in face amount of ten percent of their
claim to General Mortgage bonds of the debtor. Its stockholders
received nothing. It was determined that the aggregate of the
securities in the plan represented the value of the properties for
reorganization purposes, and that, through prospective earnings,
there was adequate coverage for the charges. [
Footnote 6]
Page 328 U. S. 503
Respondents sought review in separate appeals from the order of
approval or the order of confirmation or both to the Circuit Court
of Appeals for the Tenth Circuit. That court reversed the District
Court on all appeals, and remanded the reorganization proceedings
to the Interstate Commerce Commission for further consideration
with the statement, 150 F.2d 28, 40,
"Nothing in this opinion shall prejudice or foreclose the rights
of the parties to propose a new plan of reorganization or the power
of the Commission to formulate, approve, and certify a new plan of
reorganization in the light of any relevant facts presented to the
Commission in any proceeding under 11 U.S.C. Sec. 205(d). "
Page 328 U. S. 504
By this remand, the Commission was empowered to proceed anew to
consideration of the reorganization in all its phases, § 77(e),
including those steps previously taken and approved by the opinion
of the Circuit Court of Appeals.
That court approved the valuation of the debtor reached mainly
by the use of present and prospective earnings. It held that the
valuation adopted need not reflect necessarily the money spent for
improvements during the trusteeship for reorganization. 150 F.2d at
35. The soundness of these conclusions is fully supported by the
Western Pacific and
Milwaukee cases. [
Footnote 7] The Circuit Court further
held that the Commission was justified in refusing to reopen the
hearings just before the entry of its order of June 14, 1943,
approving the plan, to hear evidence of the then existing economic
conditions and the 1943 earnings of the debtor. [
Footnote 8]
The reversal came from the Circuit Court's holding, contrary to
the Commission and the District Court, that free cash in excess of
operating capital needs and large earnings from war business after
the date of the plan should be for the benefit of the General
bondholders. 150 F.2d at 35-38. That court further held that
decreases in debt by cash payments, with the consequent reduction
of securities that were required to be issued under the plan to
cover such debt claims, should inure to the benefit of the same
General bondholders. 150 F.2d at 38, 39. The Circuit Court
disagreed also with the treatment of certain collateral deposited
behind the First Consolidated Mortgage of the Rio Grande Western
Railway Company and secondarily behind other issues of the debtor.
This is the Utah Fuel stock issue hereinafter discussed. These
differences from the conclusions of the District Court led the
Page 328 U. S. 505
Circuit Court to hold that the General bondholders were
"reasonably justified" in rejecting the plan, and that the District
Court was without authority to confirm the plan over their veto. §
77(e).
Petitioners, on July 30, 1945, sought a writ of certiorari to
reverse these rulings of the Circuit Court and, on account of the
importance of the issues in the administration of railroad
reorganization under Section 77, we granted their petition on
October 8, 1945. 326 U.S. 699.
The briefs of all the parties here restate the questions
presented in the petition for certiorari according to the emphasis
the particular party places upon points of controversy. After a
general consideration of the background of the plan and
respondents' contentions to support the judgment besides the
defenses applicable to petitioners' certiorari, we shall give
attention to each of the just stated disagreements between the
district and appellate court. This will cover the points under
review.
The basic problems of railroad reorganization under Section 77
of the Bankruptcy Act have been so recently considered by this
Court in the
Western Pacific and
Milwaukee cases
that only a summary reference to their conclusions attacked by
respondents need be made now. No new enactments have changed the
law since those decisions on March 15, 1943. The complexities of
the reorganization of a railroad with responsibility to the public
and obligations to its security holders were recognized. The
impossibility, without destruction of efficiency and values, of
reversing the process of integration to restore the parts that now
make up the whole of a system of their original operational
function was understood. The various bond issues with different and
often overlapping liens, with competing claims for allocation of
earnings pending reorganization, presented hard problems for
legislative solution. A fair, administratively practical, and
lasting method was sought. By provisions for adjustment
Page 328 U. S. 506
of creditors' claims, Congress intended to avoid the delays,
costs, and sacrifices of liquidation. [
Footnote 9] The agencies employed
Page 328 U. S. 507
by Congress to accomplish reorganizations under Section 77 were
the Interstate Commerce Commission and the
Page 328 U. S. 508
courts. The answer reached by Congress was that the experience
and judgment of the Commission must be relied upon for final
determinations of value and of matters affecting the public
interest, subject to judicial review to assure compliance with
Constitutional and statutory requirements. This was the
interpretation of all members
Page 328 U. S. 509
of this Court from the language of the act and the evidence of
Congressional purpose in the hearings, reports, and discussion.
[
Footnote 10] To the courts,
Congress confided the power to review the plan to determine whether
the Commission has followed the statutory mandates of subsection
(e), 318 U.S. at
318 U. S. 477,
and whether the Commission had material evidence to support its
conclusions. 318 U.S. at
318 U. S. 477;
concurring opinion at
318 U. S. 512;
concurring opinion at
318 U. S.
725.
At this point, we restate our conclusion, reached in the former
cases, that the Congressional authority to the Commission to
eliminate valueless claims from participation in reorganization is
a valid exercise of the federal bankruptcy power. Section 77 was
directed at the relief of debtor railroads. Sec. 73, 47 Stat. 1467.
Liquidation in depression periods meant that large portions of
debts, as well as stock interests in the properties, would be
irretrievably lost to their holders, while reorganization on a
capitalization that estimated what normal income would support
meant the salvage of sound values. We see no more constitutional
impediment to the elimination of claims against railroad debtors by
the Interstate Commerce Commission's determination of values with
judicial review as to the sufficiency of the evidence and
compliance with statutory standards than we do to their elimination
by an accepted bid in a depression market. [
Footnote 11] There is no occasion here to
reexamine further these recent holdings of this Court in the
Western Pacific and
Milwaukee
reorganizations.
In examining the contentions of petitioners as to the alleged
errors of the Circuit Court of Appeals, we must
Page 328 U. S. 510
approach the problem in accordance with our reviewing authority
under Section 77. That section embodies the method that Congress
selected in 1933 [
Footnote
12] and improved in 1935 [
Footnote 13] to put the railroad transportation system of
the county in order to meet its debts and perform its duties to the
public after the hard years of the recent depression. Our
constructions of the chief provisions of the section were handed
down in March, 1943. Although the results of reorganizations under
the section, as thus construed, have been criticized as
unfortunate, and changes have been suggested, no different
legislation has been enacted. [
Footnote 14] Indeed,
Page 328 U. S. 511
a different method for reorganization, enacted in 1939 and
designed to meet the requirements of railroads not in need of
financial reorganization of the character provided by Section 77
but only of an opportunity for voluntary adjustments with their
creditors, terminated on July 31, 1940, and a comparable provision
made in 1942 was allowed to lapse on November 1, 1945. [
Footnote 15] This situation leaves
clear the duty of the agencies of the Government entrusted with the
handling of reorganizations under Section 77, including this
Page 328 U. S. 512
Court, to administer its provisions according to their best
understanding of the purposes of Congress as expressed in the words
of Section 77 read in the light of the contemporaneous discussion
in Congress. Changes in economic conditions cannot effect the
powers of the reorganization agencies, even though such changes may
require a reexamination into the present fairness of the former
exercise of those powers.
Valuation. The Denver and Rio Grande Western, the
principal debtor, is an important link in transcontinental
transportation. [
Footnote
16] The recent availability to the debtor of
Page 328 U. S. 513
the Moffett Tunnel and the Dotsero Cut-off (1934) improve its
strategic position in the competition for "overhead" or "bridge
traffic" -- that is, traffic that is consigned from and destined to
points beyond its lines. The traffic originating or terminating on
its lines is mixed in character, and varies with the general
prosperity of the region.
The present Denver, the principal debtor, was organized in 1920.
It succeeded the Denver & Rio Grande Railroad Company of 1908,
which had, in its turn, acquired the property of the Rio Grande
Western Railway Company, owning the western portion of the present
debtor's lines, and of the Denver & Rio Grande Railroad Company
of 1886, owning the eastern portion of the present debtor's lines.
A connection between the two portions, Rio Grande Junction Railway,
is under lease to the debtor, which, as lessee and a stockholder,
guarantees the Junction bonds. Substantially all of the capital
stocks of the Salt Lake and Salt Lake Western, and various other
branch lines, are owned by the debtor. [
Footnote 17] These corporate arrangements for the
operations of the debtor have resulted in the assumption or
creation by the debtor of the claims of the various issues, listed
in
note 6 supra.
Just after these reorganization proceedings began, December 31,
1935, the debtor's report showed that its long-term debt was
$120,541,000, and its current liabilities $24,990,901.63. It had
current assets, including cash, $1,257,943.43, of $5,966,666.93. At
the time the plan
Page 328 U. S. 514
became effective, December 31, 1942, the report showed long-term
debt of $130,264,826.65 and current liabilities of $14, 172,575.50,
and, in addition, deferred liabilities, chiefly matured interest in
default. of $45,582,132.66. There were current assets, including
cash, $10,850,149.96, of $20,983,652.54. As of December 31, 1944,
these items were: long-term debt $129,358,337.79, current
liabilities $20,539,637.83, and deferred liabilities
$55,310,151.80. The current assets were $32,665,501.33, including
$19,142,626.96 in cash.
During the period examined, the income of the system available
for interest was found by the Commission at its lowest in
1936-1938. After adjustment, this was $2,893,255. 233 I.C.C. at
552. In 1941, there was $5,019,436. 254 I.C.C. at 10. When the
present plan was approved by the Commission in June, 1943, the 1942
income available for interest was recognized, but the continuance
of such earning power was thought to be negatived by any sound
forecast. [
Footnote 18] 254
I.C.C. at 356.
Earnings during the trusteeship were used to improve the debtor
railroad. When the vote was taken in 1944, the real estate and
equipment account showed charges of $43,291,513 during the
trusteeship. An estimated ten million of it was between the
Commission's approval of the plan, June, 1943, and the Commission's
certification on July 15, 1944, to the court of the vote by
claimants.
See 254 I.C.C. at 354 and 382 for explanation
of new equipment program to meet the war situation. The retirements
are said by the respondent trustee to have been about $13,000,000,
leaving a net addition to capital account of $30,000,000.
Respondents urge that, since capitalization
Page 328 U. S. 515
was not substantially increased by the Commission between 1938,
when the first draft of a plan came from the Commission's staff,
and 1943, the junior creditors got little or nothing for this
investment. The improvements may have been wise or unwise. That
question is not before us. Railroads, even in reorganizations, must
make additions to take care of public needs or to lower operating
costs.
See 62 F. Supp. at 389. The senior bond interest
continued to accumulate during this period. As the capitalization
was not increased
pari passu with the purchases, the
holders of junior securities received less participation. The
Commission did not consider that the earning prospect justified a
greater capitalization than the one given, and we think its
judgment controls the valuation. As was said by the Circuit Court
of Appeals in
In re Denver & R.G.W. R. Co., 150 F.2d
at 38:
"Neither was the Commission compelled to, nor would it be
justified in adding the amount of these expenditures to the
capitalized value if, in the exercise of sound discretion, it felt
that the reasonable prospective earnings of the road, after the
improvements did not justify it. However, in the face of all this,
after satisfying in full the claims of the senior bondholders, the
plan of reorganization should have made sure that all excess
current assets, as well as all excess war profits yet to accrue,
would go to the General Bondholders."
The last sentence, we think, has the vice of overlooking the
reason the Commission gave common stock to the Seniors.
See discussion under
Allocation of
Securities.
We note also the contention that the possibility of a national
income much higher and interest rates much lower than before World
War II should affect valuation based on prospective earnings. Those
factors, we think, were before the Commission when it made its
earnings estimate.
Page 328 U. S. 516
The Commission reached its determination of a sound capital
structure for the combined properties with these figures on
earnings and investments before it. In addition, of course, the
Commission had complete statistical information to guide it from
its Bureau of Valuation and its other sections dealing with
traffic, rates, earnings, interest,
et cetera. The
discussion by the Commission will be found in its printed volumes
listed in
note 2 Proceeding
upon the principle accepted in the
Western Pacific and
Milwaukee cases, [
Footnote 19] that capitalization based upon earnings is a
permissible method of valuation in reorganization, the Commission
fixed $155,173,127 as the sound capitalization. This
capitalization, under the terms of the issues, with provisions for
a capital fund and the sinking funds, carries annual charges at
rates varying with the security of $6,211,250 before dividends on
common. This present annual charge, plus, let us assume, five
percent annually upon the common, $1,758,379, or a total of
$7,969,629, is the basic figure to be applied, with adjustments for
the variable factors, to earnings, past or prospective, available
for interest and dividends as an aid to determine the fairness of
the present valuation.
See note 6 The decision was unanimous except for one
Commissioner, who considered the valuation too high by ten percent.
254 I.C.C. at 379. There can be no doubt that, as of June, 1943,
there was ample evidence to justify the valuation made by the
Commission.
Allocation of Securities. Within the framework of that
valuation, the Commission allotted the available securities to the
claimants. Securities, including the common stock, were given a
face value. The aggregate was too small to allow anything to former
stockholders. [
Footnote 20]
Thus, they were eliminated from the reorganization. [
Footnote 21] For the
Page 328 U. S. 517
holders of the General bonds, common stock was available to the
amount of ten percent only of their claim. [
Footnote 22] A glance at the proposed
distribution in
note 6 will show
that the claimants did not receive all the new senior securities in
the strict order of their old priorities
The value of a lien on a part of a railroad when the valuation
is made from earnings cannot be fixed solely on a mileage basis.
Nor is it practicable to issue new securities with a lien limited
to the property that was covered by the old lien. There must be
segregation of the system earnings to each existing lien and
allocation of securities representing the system value to each
class of claimants. This was done here as shown in the second table
in
note 6 [
Footnote 23] Such a method is in full accord
with the principle that senior creditors are to retain their
relative priority of position in a reorganization.
Group of
Investors v. Milwaukee R. Co., 318 U.S. at
318 U. S.
561-564. Furthermore, junior claims can receive nothing
until the senior claims receive securities of a worth or value
equal to their indebtedness. 318 U.S. at
318 U. S. 483;
318 U.S. at
318 U. S. 569.
The Generals are definitely junior. 233 I.C.C. at 524.
The Commission did not make a finding that the cash value of the
securities awarded the senior claimants as of the effective date of
the plan equalled the face of the claims. It did, however,
carefully state its reasons for concluding that the compensation
"flowing under the plan to the various classes of bondholders for
the rights surrendered by them" was adequate in the light of the
full priority rule. 254 I.C.C. at 360. For those classes, other
than the Junior Generals, that received common stock, the
Commission said that the possibility of "unlimited dividends on
common stock" was a factor in offsetting
Page 328 U. S. 518
loss of position. [
Footnote
24] Thus, it is clear that, when the Commission made its
allocations, it had definitely in mind that one thing that gave the
senior creditors compensation for the admission of junior claimants
to participation in securities before the seniors obtained full
cash payment was their chance to share in the unlimited dividends
that might be earned and paid on the common stock to have a part in
the "lush years." It should be noted that income applicable to
dividends was at its highest in 1942, prior to the approval of the
plan by the Commission in June, 1943. Therefore the abnormal
earnings of 1942 were in the Commission's contemplation when it
spoke of the opportunities for "unlimited dividends." Its
discussion of the plan assumed that 1943 available earnings might
be as large. 254 I.C.C. at 355.
The improved physical condition of the road through expenditures
of the trustees for previously deferred maintenance, improvements,
and new equipment was before the Commission, and necessarily
entered into their valuation of the property. 233 I.C.C. 531.
There is another important factor, corollary to stock ownership,
to be noted in the Commission's allocation of these securities.
This factor is that the creditors who received common stock to make
them whole obtained with
Page 328 U. S. 519
that common stock an interest in all cash on hand or all cash
that might be accumulated. Of course, the Commission thoroughly
understood this. In fact, it referred to the ten million plus of
cash on hand as of January 1, 1943. 254 I.C.C. 353. Immediately
following this reference is a full discussion of the cash needs of
the road for the year 1943, including additions, betterments, and
new equipment, and the amount which it was estimated would be in
the treasury at the end of the year. That was $15,600,000. This
cash would be reflected in the value of the common stock. The
petitioner states that the highest when-issued Stock Exchange price
in 1945 for the common stock was $31 1/2, par $100.
See
Commercial and Financial Chronicle, May 13, 1946, p. 2618, where
the common is quoted at 29 bid, 31 asked. Cash, material, and
supplies, as well as all other assets and all liabilities of the
debtor, were represented by the securities. If there is more cash
on hand than needed for taxes, expenses, and proper improvements,
it is at the disposal of the common stockholders. If money was used
to pay indebtedness, there would be a corresponding reduction in
the capital structure. Therefore, the plan provided, 254 I.C.C. at
286:
"The new company shall be deemed to have come into possession of
the properties as of the effective date of the plan."
". . . The capitalization of the new company, as of January 1,
1943, after consummation of the plan, . . . shall consist
substantially of the following securities, excluding those to be
pledged, the amounts stated being subject to reduction to the
extent, if any, that matured interest proposed to be funded in the
plan is paid, and as equipment obligations or other liabilities are
paid or reduced. . . ."
It is accepted by the senior claimants that the plan is fair and
equitable as between themselves. If our conclusion that the method
and result of valuation
Page 328 U. S. 520
is sound, the allocation of ten percent of their claim in common
stock to the Generals follows as a matter of computation.
It would also follow that the objection of a stockholder, the
Missouri Pacific Railroad Company, through its Trustee in
reorganization, to a voting trust for future control of the debtor
would be ineffective, because this stockholder is eliminated from
the reorganization by the valuation of the property and allocation
of securities. For the Commission's reasons for creating a voting
trust,
see 233 I.C.C. at 581, 254 I.C.C. at 33, 35,
367.
Cash and War Earnings. The Circuit Court of Appeals was
of the view that war earnings were of "very little value in
estimating the probable future earnings of this property in the
peace economy which is to come," and that the Commission was well
within its right in appraising them lightly. 150 F.2d at 34. This
was after the seventeen million earnings of the top year, 1942. The
appellate court agreed, too, that excess current assets should not
be capitalized, and that improvements made during the trusteeship
for reorganization had been considered by the Commission and
District Court in fixing their valuation by past and prospective
earnings. 150 F.2d at 35. The appellate court then made the
following ruling:
"The Senior Bondholders were paid in full. They received all the
new securities and most of the common stock. Ninety percent of the
General Bondholders' claims were wiped out. They received only a
small amount of common stock, ten percent of their total claim.
Adequate operating funds are essential to the operation of a
railroad. The Senior Bondholders were entitled to receive in
addition to the full amount of their claims, working capital
sufficient for proper and efficient operation of the railroad. But
anything in excess of what was reasonably necessary for this
purpose constituted assets of the insolvent
Page 328 U. S. 521
corporation which belonged to the remaining creditors."
"We think it is apparent from the record that there were current
assets on hand consisting of cash and securities in excess of what
was needed for the efficient operation of the road. As pointed out,
the working capital of the the debtor had increased from a deficit
of $9,727,230 as of December 31, 1935, to a surplus of
$12,125,863.50 as of December 31, 1944. While these increased net
earnings are due in large part to the war, and will not continue
after the end of the war, and may therefore be disregarded in
setting up the capitalized structure based upon prospective
earnings, we cannot disregard the fact that these huge surpluses
actually exist. Their existence is an accomplished fact. It is also
obvious that surpluses will continue to pile up for a reasonable
time yet to come. We think any plan which fails to take this into
account and which gives the Senior Bondholders their claims in full
by substantially delivering the road to them, and gives them the
surplus cash actually on hand and further enables them to receive
in addition the excess war profits which are reasonably sure to
come, is inherently inequitable and unfair so long as there are
classes of creditors whose claims are not fully satisfied."
In our judgment this holding is erroneous.
The effective date of the plan was fixed by the Commission as
January 1, 1943. This was in its power. [
Footnote 25] The allocation of the securities took
into consideration the interest of the secured claims to that date.
Any gain or any loss after that time was a benefit or an injury to
the new common stockholders, and then sometimes to security holders
in positions senior to them. Assuming that the courts, as courts
with equity powers in a bankruptcy matter,
Page 328 U. S. 522
might set aside a plan, fair and equitable when adopted by the
Commission, merely on account of subsequent changes in economic
conditions of the region or the nation, [
Footnote 26] it should not be done when the changes
are of the kind that were envisaged and considered by the
Commission in its deliberations upon or explanations of the
plan.
We have pointed out in the section of this opinion dealing with
the allocations of the securities that a part of the compensation
to senior claimants for their loss of position was the opportunity
to participate in war earnings. This was understood by the District
Court [
Footnote 27] and the
Commission. [
Footnote 28]
Accumulations of cash beyond operating fund needs are in the same
category. In dealing with the problem, the Commission noted that a
five percent dividend on the authorized common would require an
income available for interest and dividends of $7,969,629. The
Trustee for General bonds claims no such earnings between 1929 and
1942. Even before the transportation difficulties of 1946, it was
obvious that the Commission's judgment was being confirmed by
events.
See note 18
supra. [
Footnote
29]
Page 328 U. S. 523
The error of the Circuit Court in its holding set out above lies
in its assumption that the senior bondholders were paid in full by
the securities allotted to them without also accepting the
determination of the Commission that the assets represented as of
January 1, 1943, and all
Page 328 U. S. 524
subsequent earnings were a part also of the common stock that
was awarded the senior bondholders.
Decreases in Senior Debt. The plan provides for
securities to take the place of the Rio Grande Junction's first 5's
in the face amount of $2,758,333 and for the assumption by the
reorganized road of $5,758,000 equipment obligations. All of these
securities are senior to the Generals. The Denver purchased the
Junctions and paid $1,218,000 on the Equipments. This reduced the
necessary capitalization by that aggregate sum. The Circuit Court
of Appeals was of the opinion that "The value behind these
securities in no wise belonged to the Senior Bondholders, because
they had been paid in full." 150 F.2d at 39. This ruling, we
conclude, was erroneous for the same basic reason that we held the
cash and war earnings belong to the owners of the common stock.
We called attention,
supra, page
328 U. S. 519,
to the authority granted the District Court to reduce the
capitalization of the new company as interest due on January 1,
1943, or equipment obligations or other liabilities were paid. The
District Court acted on this authority and, in its approval of the
plan, said of the Junctions, "They may be canceled or they may be
utilized under the plan in acquisition of new securities which will
become an asset of the reorganized company." C.C.H., Bankruptcy Law
Service Decisions 1942-1945, � 54,562 at p. 55,635. The Junction
bondholders did not vote on the plan. Under our determination that
the creditors who received common stock were compensated partly by
the assets and future earnings, it is obvious that the use of such
assets to retire senior claims is a part of the normal and expected
increment from holdings of common stock. The increase of common
stock by the Commission to the Generals from five to ten percent of
the bondholders' claims, preliminary to the adoption of the plan,
254 I.C.C. at 352, 359, is partly attributable to a reduction of
necessary capitalization.
Page 328 U. S. 525
This increase in junior participation differs from that now
proposed. The former reduction of senior capitalization could be
carried out because earnings prior to the adoption of the plan made
it unnecessary to borrow money for reorganization. When proposed
capitalization is being planned on earnings, a reduction of senior
capital without reduction of estimated earnings increases possible
junior capital within the scheme. When the reduction of senior
capital takes place after the adoption of the plan by use of
anticipated earnings or existing cash, there can be no such
readjustment of junior participation, because assets in the balance
sheet at the adoption of the plan and subsequent earnings are, as
we have pointed out, for the benefit of the stockholders in the new
company, so that, through these common stock advantages, these new
stockholders may be compensated for their loss of payment in full
in cash. Of course, this section of the opinion is written, and
must be read, on the assumption that the allocations of common
stock are fair and equitable, a matter discussed
supra.
Utah Fuel Company Stock. The Rio Grande Western
Railroad Co., in 1899, executed its First Consolidated Mortgage, an
indenture to secure its issue of First Consolidated Bonds, maturing
April 1, 1949. Rio Grande Western reserved the right to issue
additional bonds under the indenture.
The Utah Fuel Company was organized in 1900, with a
capitalization of 100,000 shares. In 1901, an agreement was entered
into by Rio Grande Western, the trustee under the First
Consolidated Mortgage, and the owner of the Utah Fuel stock. The
contract provided that the stock would be held by the trustee to
secure bonds issued under the First Consolidated Mortgage, and that
Rio Grande Western would have the right at any time, on paying the
trustee $6,000,000 in cash or delivering an equal face amount in
First Consolidated bonds, to receive the Utah
Page 328 U. S. 526
Fuel stock, free of the mortgage lien. Subject to the lien, the
stock was transferred to Rio Grande Western. $6,000,000 in
additional First Consolidateds were issued to the owner of the
stock.
In 1908, the Denver & Rio Grande Railroad Company was
organized and acquired the property of Rio Grande Western, assuming
the obligation of its First Consolidated Mortgage bonds of 1899.
The equity of redemption of Denver & Rio Grande Railroad
Company in the Utah Fuel stock was sold in 1918 under execution,
and transferred to the Western Pacific Railroad Corporation.
In 1924, under an agreement among the Denver & Rio Grande
Western Railroad Company, the Western Pacific Railroad Corporation,
Missouri Pacific Railroad Company, and T. S. Alexander, who, by the
agreement, became trustee of the equity of redemption in the Utah
Fuel stock, Western Pacific transferred to T. S. Alexander,
Trustee, subject to the pledge under the Consolidated Mortgage its
Utah Fuel stock and the debtor transferred to said trustee whatever
interest it had in the stock, through certain releases, not here
important.
The agreement first provided that the ultimate beneficial
interest in the Utah Fuel stock so held was vested one-half in
Missouri Pacific and one-half in Western Pacific. Except for
certain contingencies not here important, it was provided that the
trustee under the 1924 agreement would pay all dividends received
by him from the trustee under the Consolidated Mortgage on Utah
Fuel stock to the debtor so long as any of the General or Refunding
bonds were outstanding.
The agreement further provided that, if the General Mortgage or
the Refunding or other mortgage of the debtor were foreclosed, the
trustee would sell the interest of these mortgages in the Utah Fuel
stock subject to the Consolidated Mortgage, if outstanding, and
apply the proceeds to the payment of the bonds secured by the
Page 328 U. S. 527
equity of redemption in the stock dividing any surplus between
Western Pacific and Missouri Pacific.
The General Mortgage and Refunding bonds created in the 1924
reorganization were thus given a lien on the Utah Fuel stock junior
to the lien of the Denver & Rio Grande First Consolidated
Mortgage.
Under the plan approved by the Commission and the District
Court, the First Consolidated bonds were allotted 20% of their
claim in new income bonds, 73% in preferred stock, and 7% in common
stock. The plan further provided, 254 I.C.C. at 398, 399, that:
"The trustee under the Rio Grande Western Railway Company
consolidated mortgage shall be permitted to obtain the release of
the equities in the stock of the Utah Fuel Company and distribute
the stock among the holders of the aforesaid bonds in any manner
agreeable to them, or to enforce its rights as pledgee of the stock
of the Utah Fuel Company, the proceeds recovered to be distributed
to the holders of the bonds."
The Commission took the position that this and the other
features of the treatment of the First Consolidated bonds were
justified as compensation for "loss of earnings position and
surrender of other rights" [
Footnote 30] under the plan.
The Commission made no definite finding with respect to the
value of the Fuel Company stock. The Commission had before it
evidence through 1936 with respect to the value of the stock as
well as an appraisal of the value of the Fuel Company made for the
trustee of the First Consolidated Mortgage, which indicated a value
of $4,653,720. The only dividend paid to the debtor by Utah Fuel
under the 1924 agreement was in 1934, and amounted to $250,000; the
debtor, in applying its formula for allocation of earnings by
mortgage districts, credited the Consolidated Mortgage with an
income of $83,333 per
Page 328 U. S. 528
annum based on that dividend payment allocated over the
three-year period, 1932 to 1934. The status of the stock was
considered by the Commission in its original report and its several
supplemental reports, and its proposals with respect to the stock
remained unchanged.
In proceedings before the District Court in 1943 on objections
to the plan, it was revealed that the Fuel Company's net income for
1942 was $415,000, and, for the first seven months of 1943,
$535,869. [
Footnote 31] The
company has no funded debt.
In the Circuit Court, the respondents contended that the holders
of the First Consolidated bonds should be compelled either to
foreclose this collateral, applying the proceeds to their claim, or
credit their claim with the value of the collateral and be allowed
new securities only for the balance. The Circuit Court disapproved
the treatment by the plan of the General bondholders with respect
to the Fuel Company stock, pointing to the fact that the Commission
had permitted "doubts and uncertainties" to remain with respect to
the value of the collateral, and that there was a danger that, if
the collateral had substantial value, the First Consolidated
bondholders might receive more than full payment.
The facts set out above fully support the conclusion of the
Commission that the "title to the stock is vested in the Missouri
Pacific and Western Pacific." Whatever rights the debtor may have
retained after the sale of the stock on execution in 1918 were
released to the trustee and the two railroads in 1924. We have,
then, a situation in which the holders of the ultimate beneficial
interest in stock which had been pledged previously under a
mortgage have permitted that interest to be encumbered by a third
person -- namely, the debtor -- as security for its
Page 328 U. S. 529
General and Refunding bonds. The rule is settled in bankruptcy
proceedings that a creditor secured by the property of others need
not deduct the value of that collateral or its proceeds in proving
his debt.
Ivanhoe Bldg. Loan Assn. v. Orr, 295 U.
S. 243. We see no reason why the same should not be true
under § 77.
See New York Trust Co. v. Palmer, 101 F.2d 1,
3. Therefore, the First Consolidated Mortgage bonds were properly
permitted to prove the full amount of their debt.
Respondents, speaking only for the General bondholders, object
that the plan gives the First Consolidated bondholders all the Utah
Fuel stock or its proceeds in addition to securities the face value
of which amounts to one hundred percent of their claims. The
Refunding bondholders make no objection. It is thus contended that
the plan deprives the General bondholders of their junior interest
in the stock without a determination of the value of that stock, or
a finding of the extent to which the Consolidated bondholders have
been paid by the new securities to be given them. We do not so read
the plan. The plan provides merely that the trustee of the
Consolidated Mortgage "shall be permitted to obtain the release of
the equities in the stock of the Utah Fuel Company" and distribute
the stock or its proceeds to the holders of the bonds. This
statement contains at least two requirements to be met before the
Consolidated bonds obtain anything from the collateral. The first
is that the trustee of the First Consolidated Mortgage be in
existence. Even after the plan goes into operation and the old
securities are surrendered for cancellation, there is no
requirement that the trusts terminate, since they will continue to
hold property other than that of the debtor. Section 77, sub. f,
which deals with the effect of a confirmation and the discharge of
the debtor from liability, does not so require. Hence, whatever
action the trustee of the Consolidated takes may be commenced prior
to or after the consummation of the
Page 328 U. S. 530
plan. This will permit the respondent, trustee under the General
Mortgage, which would continue in existence for the purpose, to
take the necessary steps to safeguard its rights in the collateral
on behalf of the Generals. [
Footnote 32]
The second requirement, which is explicit in the plan, is that
the trustee obtain the release of the equities in the stock. The
junior lienors have an absolute right under the terms of the 1901
pledge and the 1924 agreement to all the proceeds of the stock over
$6,000,000, and a right also to any part of the proceeds not needed
to make the First Consolidated bonds whole. The trustee of the
Consolidated concedes in its brief here that enforcement of the
pledge "can be brought about only through judicial proceedings." It
correctly points out that, in such proceedings, full protection can
be given to all those who have any junior interest in the stock.
Respondents' fear that the General bondholders and the mortgage
trustees for the junior interests will not be in existence, and so
unable to protect themselves, has been above demonstrated to be
without foundation in fact.
The result is that this feature of the plan did not in any way
change or affect existing rights in the collateral. The respondents
may show in the judicial proceedings which must be brought by the
trustee of the First Consolidated Mortgage that the First
Consolidated bonds have been fully paid by the securities awarded
them under the plan, if such be the fact, or the respondent,
trustee of the General, may itself bring a proceeding against the
trustee of the First Consolidated mortgage for a determination of
the rights of the Generals. Petitioners concede, as they must, that
they are not entitled to more than full payment, and that they are
under a duty to account to the respondents
Page 328 U. S. 531
for any surplus remaining after they have been made whole.
[
Footnote 33]
The treatment of the Utah Fuel stock in the plan is consistent
with the Commission's disposition of certain collateral pledged
with the Reconstruction Finance Corporation and the Railroad Credit
Corporation by parties other than the debtor to secure notes of the
debtor in the
Western Pacific case.
Western Pac. R.
Co. Reorganization, 233 I.C.C. 409, 432. The Commission
permitted the pledgees to retain the collateral, and this Court
approved that action, saying,
"This collateral, other than the refunding bonds, was therefore
left with the pledgees with its position unaffected by any direct
action of the Commission."
Ecker v. Western Pacific R. Corp., supra, at
318 U. S.
506.
Reasonableness of Rejection. As the conclusions of the
Circuit Court of Appeals upon the allocation of securities, the
treatment by the Commission of cash, war earnings, and decrease in
debt with priority over the Generals differed from those made by
this Court, that court's conclusion that the General bondholders
were reasonably justified in rejecting the plan followed naturally.
150 F.2d at 40. Subsection (e) gives power to a class, here the
General bondholders, to reject the plan subject to the power of the
District Court, after certification of the result of the
submission, to
"confirm the plan if he is satisfied and finds, after hearing,
that it makes adequate provision
Page 328 U. S. 532
for fair and equitable treatment for the interests or claims of
those rejecting it, that such rejection is not reasonably justified
in the light of the respective rights and interests of those
rejecting it and all the relevant facts, and that the plan conforms
to the requirements of clauses (1) to (3), inclusive, of the first
paragraph of this subsection (e)."
11 U.S.C. § 205;
see note 9 supra. [
Footnote 34] The plan was confirmed after appropriate
findings. 62 F. Supp. at 390.
This provision for confirmation of a plan despite rejection by a
class appeared in the draft for the 1935 amendments. Apparently it
caused no particular comment. [
Footnote 35]
Page 328 U. S. 533
We think that the provisions for confirmation by the courts over
the creditors' objection are within the bankruptcy powers of
Congress. Those powers are adequate to eliminate claims by
administrative valuations with judicial review, and they are
adequate to require creditors to acquiesce in a fair adjustment of
their claims, so long as the creditor gets all the value of his
lien and his share of any free assets. [
Footnote 36]
The grounds accepted by us in former sections of this opinion as
sustaining, as of January 1, 1943, the valuation of the road, the
allocation of the securities, and the treatment of cash, war
earnings, and capital reductions establish that, for the act of
confirmation on November 29, 1944, over the objection of the
General bondholders, the finding of the judge that the plan then
made "adequate provision for fair and equitable treatment" of the
dissenters was justified. 62 F. Supp. at 390. In view of the
District judge's familiarity with the reorganization, this finding
has especial weight with us.
See Rule 53, FRCP. There is
no doubt that the plan then conformed to subsection (b) and the
other requirements of the first paragraph of subsection (e).
Note 9 supra.
This leaves for consideration the question of whether, the plan
being fair and equitable as of June, 1943, effective January 1,
1943, the Generals were reasonably justified in rejecting the plan
by ballots cast between April 26 and July 15, 1944.
As we have pointed out under
Allocation of Securities,
supra, the Commission's plan was adopted after 1942, the year
of greatest profit, and with anticipation on the part of the
Commission that there might be other "big" years, but with
realization that the war profits were not a sound basis for higher
valuation. Current reports of earnings
Page 328 U. S. 534
were a part of the record. Nothing that respondents have called
to our attention indicates any improvement in economic conditions
or prospects in July, 1944, or any date since, over June, 1943, the
date of the Commission's approval of the plan, which would justify
a treatment different from that accorded the claimants in 1943.
[
Footnote 37] The challenge
to the reasonableness or the unreasonableness of the rejection of
the plan is not based on any change of conditions since its
approval by the District Court October 25, 1943. Under subsection
(e),
note 9 supra, the
judge automatically confirms a plan after a vote of classes of
creditors if satisfied that two-thirds of each class have accepted.
If there is a rejection, there is a reexamination of the plan to
assure that those who dissent have had fair and equitable
treatment. Apparently the reexamination for this treatment does not
differ from that for the original court approval under the first
paragraph of subsection (e). It does, however, center upon the
rights of those who rejected the plan.
A rejection would not be reasonably justified unless the
dissenters had a valid reason for their vote. As is shown by Judge
Symes' discussion of their objection to confirmation, [
Footnote 38] their reasons were the
payment of the senior obligations with consequent claimed release
of capitalization for junior securities and the inadequate
valuation, particularly in view of the large additions to plants
from earnings. We think that we have demonstrated that there was an
adequate basis for the valuation,
see page
328 U. S. 512
et seq., and that the decreases in senior debt were not
for the account of the junior creditors.
See pp.
328 U. S.
524-525,
supra. Respondents offer no other
ground for their votes in rejection.
Congress, with its purpose to stop the blockade of sound
reorganization by classes of creditors with the veto power
Page 328 U. S. 535
of the 1933 statute,
note
35 supra, certainly did not intend to leave a class
with the same power of interference because, in its reasonable
judgment, that class thought the valuation was erroneous or the
senior creditors were paid in full by the face value of securities.
If a plan gives fair and equitable treatment to dissenters, the
elements which make the plan fair and equitable cannot be the basis
for a reasonably justified rejection. If only those elements are
relied upon, as here, the rejection is not reasonable
justified.
Of course, this does not mean that, if a plan is approved as
fair and equitable by the Commission and court, there cannot be a
reasonable justification for its rejection by a class of claimants
on submission. Reasons to make their rejection reasonable may arise
thereafter. For example, unanticipated large earnings might
develop. We see no reasonable justification here for the action of
the General bondholders.
-----
In conclusion, we shall add that the foregoing opinion has been
written without heavy reliance upon the duty of the Commission to
plan reorganizations with an eye to the public interest, as well as
the private welfare of creditors and stockholders. [
Footnote 39] The Commission had this duty
in mind. Our failure to comment more upon that feature of the plan
should not be interpreted as an intimation upon our part that it is
not important. These respondents cannot be called upon to sacrifice
their property so that a depression-proof railroad system might be
created. But they invested their capital in a public utility that
does owe an obligation to the public. The Insurance Group
Committee, with fiduciary responsibility to the myriad holders of
policies, and the other investors or
Page 328 U. S. 536
speculators in senior bonds, as well as the holders of General
bonds or other investors or speculators in junior security issues,
by their entry into a railroad enterprise assumed the risk that in
any depression or any reorganization the interests of the public
would be considered as well as theirs. That public interest in an
efficient transportation system justifies the Commission's
requirements for reasonable maintenance and improvement of the
properties, and for a capitalization with fair prospects for
dividends on all classes of securities. [
Footnote 40]
The judgment of the Circuit Court of Appeals is reversed, and
the orders of the District Court of October 25, 1943, approving the
plan, and of November 29, 1944, confirming the plan, are
affirmed.
The cause is remanded to the District Court for further
proceedings.
It is so ordered.
MR. JUSTICE FRANKFURTER dissents, and will set forth the
detailed grounds for his dissent in an opinion to be filed
hereafter.
MR. JUSTICE JACKSON took no part in the consideration or
decision of these cases.
* Together with No. 279,
Reconstruction Finance Corporation
et al. v. Denver & Salt Lake Western Railroad Co. et al.;
No. 280,
Reconstruction Finance Corporation et al. v. City Bank
Farmers Trust Co., Trustee, et al.; No. 281,
Reconstruction Finance Corporation et al. v. Denver & Rio
Grande Western Railroad Co. et al., and No. 282,
Reconstruction Finance Corporation et al. v. Thompson, Trustee,
et al., on certiorari to the same court, argued and decided on
the same dates.
[
Footnote 1]
11 U.S.C. § 205.
[
Footnote 2]
The plan is printed in
Denver & R.G.W. R. Co.
Reorganization, 254 I.C.C. 349, 385.
See, for former
decisions of the Commission in this reorganization, 233 I.C.C. 515;
239 I.C.C. 583; 254 I.C.C. 5.
[
Footnote 3]
C.C.H.Bankruptcy Law Service � 54,562.
[
Footnote 4]
The Denver & Rio Grande Western Railroad Company is referred
to herein as the debtor or the Denver; The Denver & Salt Lake
Western Railroad Company as Salt Lake Western; The Denver &
Salt Lake Railway Company as the Salt Lake; The Rio Grande Junction
Railroad Company as the Junction.
[
Footnote 5]
In Re Denver & R.G.W. R. Co., 62 F. Supp. 384.
[
Footnote 6]
254 I.C.C. at 354 to 357.
Full details appear in the plan,
note 2 supra, as well as explanation of certain
items in the following tables. The tables are printed to give the
reader a convenient summary of the plan. 254 I.C.C. 382, 383.
bwm:
CAPITALIZATION AND ANNUAL CHARGES
----------------------------------------------------------------------------------------
On basis of consolidation Denver & Rio Grande
with Denver & Salt Lake Western without
Denver and Salt Lake
-------------------------------------------------
Principal Annual Principal Annual
charges charges
----------------------------------------------------------------------------------------
Equipment-trust obligations. . . . . . $5,758,000 $139,989
$5,758,000 $139,989
Chase National Bank note . . . . . . . 2,158,458 45,722
2,158,458 45,722
RFC claim. . . . . . . . . . . . . . . 13,900,605 556,024
Denver & Salt Lake first-mortgage
bonds,4 percent interest . . . . . . 1,500,000 60,000
Denver & Salt Lake income bonds,
3-1 percent interest . . . . . . . . 9,734,000 292,020
-----------------------------------------------
19,150,458 537,731 21,817,063 741,735
New first-mortgage bonds,
3-1 percent interest. . . . . . . 38,573,680 1,157,210
33,373,680 1,001,210
-----------------------------------------------
Total fixed interest. . . . . . . . 57,724,138 1,694,941
55,190,743 1,742,945
Capital fund, maximum payment. . . . . 750,000 750,000
Prior contingent interest, 1 percent . 498,318 348,978
Sinking fund for first-mortgage
bonds, one-half of 1 percent . . . . 200,489 182,323
-----------------------------------------------
3,145,748 3,024,246
New income bonds, 4 1/2 percent. . . . 29,750,184 1,364,133
21,049,579 972,606
Sinking fund for income bonds,
one-fourth of 1 percent. . . . . . . 76,808 58,527
-----------------------------------------------
Total debt, interest
payments to funds. . . . . . . 87,474,322 4,584,689 76,240,322
4,055,379
New 5-percent preferred stock,
par value $100 . . . . . . . . . . . 32,531,220 1,626,561
32,120,120 1,606,006
New common stock, par value $100 . . . 35,167,585 35,167,585
-----------------------------------------------
Total capitalization . . . . . . 155,173,127 43,528,027
----------------------------------------------------------------------------------------
DISTRIBUTION OF NEW SECURITIES PER $1,000 OF PRESENT BONDS
WITH ACCRUED INTEREST
----------------------------------------------------------------------------------------
First-
mortgage Income Preferred Common
bonds bonds stock stock
Rio Grande Western first trusts
($15,190,000) . . . . . . . . . . . . $ 970.20 $349.80
Rio Grande Western consolidated's
($15,080,000) . . . . . . . . . . . . 266.00 $970.90 $ 93.10
Junction firsts ($2,000,000). . . . . . 1,061.96 317.21
Denver & Rio Grande consolidated 4's
($34, 125,000) . . . . . . . . . . . . 318.92 217.08 321.60
482.60
Denver & Rio Grande consolidated
4 1/2's ($6,382,000) . . . . . . . . . 329.03 223.97 331.80
497.70
Refunding and improvement 5's
($12,000,000). . . . . . . . . . . . . 250.01 159.61 310.75
692.13
Refunding and improvement 6's
($2,000,000) . . . . . . . . . . . . . 264.61 168.94 328.90
732.55
General 5's ($29,808,000). . . . . . . . 146.10
----------------------------------------------------------------------------------------
CLAIMS
----------------------------------------------------------------------------------------
Claims as of Undisturbed
Jan. 1, 1943 or extended
Equipment obligations . . . . . . . . . . . . . . . $ 5,758,000
$5,758,000
Rio Grande Western first-trust 4's. . . . . . . . .
20,050,800
Rio Grande Western consolidated 4's . . . . . . . .
20,056,400
Rio Grande Junction first 5's . . . . . . . . . . .
2,758,333
Denver & Rio Grande consolidated 4's. . . . . . . .
45,727,500
Denver & Rio Grande consolidated 4 1/2's. . . . . .
8,823,115
Refunding and improvement 5's . . . . . . . . . . .
16,950,000
Refunding and improvement 6's . . . . . . . . . . .
2,990,000
General-mortgage 5's. . . . . . . . . . . . . . . .
43,548,155
Chase National Bank note. . . . . . . . . . . . . . 2,158,458
2,158,458
R.R. Credit Corporation note; paid May 17, 1943 . .
RFC notes . . . . . . . . . . . . . . . . . . . . .
13,900,605
Unsecured claims, approximate . . . . . . . . . . . 440,000 no
equity
---------- ---------
Total, Denver & Rio Grande Western . . . . . . . 83,161,366
7,916,458
----------------------------------------------------------------------------------------
ewm:
[
Footnote 7]
Ecker v. Western Pacific R. Corp., 318 U.
S. 448,
318 U. S.
447-483;
Group of Investors v. Milwaukee R.
Co., 318 U. S. 523,
318 U. S.
539-541.
[
Footnote 8]
Cf. 318 U.S. at
318 U. S.
543.
[
Footnote 9]
Applicable provisions of § 77, 11 U.S.C. § 205, are as
follows:
"(b) A plan of reorganization within the meaning of this section
(1) shall include provisions modifying or altering the rights of
creditors generally, or of any class of them, secured or unsecured,
either through the issuance of new securities of any character or
otherwise; (2) may include provisions modifying or altering the
rights of stockholders generally, or of any class of them, either
through the issuance of new securities of any character, or
otherwise; (3) may include, for the purpose of preserving such
interests of creditors and stockholders as are not otherwise
provided for, provisions for the issuance to any such creditor or
stockholder of options or warrants to receive, or to subscribe for,
securities of the reorganized company in such amounts and upon such
terms and conditions as may be set forth in the plan; (4) shall
provide for fixed charges (including fixed interest on funded debt,
interest on unfunded debt, amortization of discount on funded debt,
and rent for leased railroads) in such an amount that, after due
consideration of the probable prospective earnings of the property
in light of its earnings experience and all other relevant facts,
there shall be adequate coverage of such fixed charges by the
probable earnings available for the payment thereof."
"
* * * *"
"(d) The debtor, after a petition is filed as provided in
subsection (a) of this section, shall file a plan of reorganization
within six months of the entry of the order by the judge approving
the petition as properly filed. . . . After the filing of such a
plan, the Commission, unless such plan shall be considered by it to
be
prima facie impracticable, shall, after due notice to
all stockholders and creditors given in such manner as it shall
determine, hold public hearings at which opportunity shall be given
to any interested party to be heard, and following which the
Commission shall render a report and order in which it shall
approve a plan, which may be different from any which has been
proposed, that will in its opinion meet with the requirements of
subsections (b) and (e) of this section, and will be compatible
with the public interest; or it shall render a report and order in
which it shall refuse to approve any plan. In such report, the
Commission shall state fully the reasons for its conclusions."
"
* * * *"
"(e) Upon the certification of a plan by the Commission to the
court, the court shall give due notice to all parties in interest
of the time within which such parties may file with the court their
objections to such plan, and such parties shall file, within such
time as may be fixed in said notice, detailed and specific
objecting § in writing to the plan and their claims for equitable
treatment. The judge shall, after notice in such manner as he may
determine to the debtor, its trustee or trustees, stockholders,
creditors, and the Commission, hear all parties in interest in
support of, and in opposition to, such objections to the plan and
such claims for equitable treatment. After such hearing, and
without any hearing if no objections are filed, the judge shall
approve the plan if satisfied that: (1) it complies with the
provisions of subsection (b) of this section, is fair and
equitable, affords due recognition to the rights of each class of
creditors and stockholders, does not discriminate unfairly in favor
of any class of creditors or stockholders, and will conform to the
requirements of the law of the land regarding the participation of
the various classes of creditors and stockholders. . . ."
". . . If the judge shall approve the plan, he shall file an
opinion, stating his conclusions and the reasons therefor, and
enter an order to that effect, and shall send a certified copy of
such opinion and order to the Commission. The plan shall then be
submitted by the Commission to the creditors of each class whose
claims have been filed and allowed in accordance with the
requirements of subsection (c) of this section, and to the
stockholders of each class, and/or to the committees or other
representatives thereof, for acceptance or rejection, within such
time as the Commission shall specify, together with the report or
reports of the Commission thereon or such a summarization thereof
as the Commission may approve, and the opinion and order of the
judge:
Provided, That submission to any class of
stockholders shall not be necessary if the Commission shall have
found, and the judge shall have affirmed the finding, (a) that at
the time of the finding the corporation is insolvent, or that at
the time of the finding the equity of such class of stockholders
has no value, or that the plan provides for the payment in cash to
such class of stockholders of an amount not less than the value of
their equity, if any, . . .
Provided further, That
submission to any class of creditors shall not be necessary if the
Commission shall have found, and the judge shall have affirmed the
finding, that the interests of such class of creditors will not be
adversely and materially affected by the plan, or that at the time
of the finding the interests of such class of creditors have no
value, or that the plan provides for the payment in cash to such
class of creditors of an amount not less than the value of their
interests. . . . The Commission shall certify to the judge the
results of such submission."
"Upon receipt of such certification, the judge shall confirm the
plan if satisfied that it has been accepted by or on behalf of
creditors of each class to which submission is required under this
subsection holding more than two-thirds in amount of the total of
the allowed claims of such class which have been reported in said
submission as voting on said plan, and by or on behalf of
stockholders of each class to which submission is required under
this subsection holding more than two-thirds of the stock of such
class which has been reported in said submission as voting on said
plan, and that such acceptance have not been made or procured by
any means forbidden by law:
Provided, That if the plan has
not been so accepted by the creditors and stockholders, the judge
may nevertheless confirm the plan if he is satisfied and finds,
after hearing, that it makes adequate provision for fair and
equitable treatment for the interests or claims of those rejecting
it; that such rejection is not reasonably justified in the light of
the respective rights and interests of those rejecting it and all
the relevant facts, and that the plan conforms to the requirements
of clauses (1) to (3), inclusive, of the first paragraph of this
subsection (e). . . ."
"If it shall be necessary to determine the value of any property
for any purpose under this section, the Commission shall determine
such value and certify the same to the court in its report on the
plan. The value of any property used in railroad operation shall be
determined on a basis which will give due consideration to the
earning power of the property, past, present, and prospective, and
all other relevant facts. In determining such value, only such
effect shall be given to the present cost of reproduction new and
less depreciation and original cost of the property, and the actual
investment therein, as may be required under the law of the land,
in light of its earning power and all other relevant facts."
[
Footnote 10]
318 U.S. at
318 U. S.
472-473,
318 U. S. 477,
concurring opinion at
318 U. S. 512,
concurring opinion at
318 U. S. 725;
318 U.S. at
318 U. S.
545.
[
Footnote 11]
318 U.S. at
318 U. S.
475-476; 318 U.S. at
318 U. S.
536-539.
Compare Wright v. Union Central Ins. Co., 311 U.
S. 273,
311 U. S. 279;
John Hancock Ins. Co. v. Bartels, 308 U.
S. 180,
308 U. S. 186;
Gelfert v. National City Bank, 313 U.
S. 221.
[
Footnote 12]
47 Stat. 1474.
[
Footnote 13]
49 Stat. 911. H.Rep. No.1283, 74th Cong., 1st Sess., p. 1;
S.Rep. No.1336, 74th Cong., 1st Sess., p. 1; Craven & Fuller,
Amendments of Railroad Bankruptcy Law, 49 Harv.L.Rev. 1254.
See
Ecker v. Western Pacific R. Co., 318 U.S. at
318 U. S. 470,
et seq.
[
Footnote 14]
H.R.5924, 79th Cong., 2d Sess.; Hearings on H.R.4779, 79th
Cong., 1st Sess., Serial No. 13; H.Rep. No.1838, 79th Cong., 2d
Sess., p. 3:
"Although all these laws were intended by Congress for the
preservation of our railroads and their ownership, the theory has
appeared to prevail that the capitalization of companies in section
77 proceedings should in all cases be drastically reduced. That is
what has been done consistently and persistently. Under the past
administration of section 77, as that statute was interpreted and
applied by the Interstate Commerce Commission and affirmed by the
Supreme Court, countless thousands of small stockholders already
have been wiped out, and their investments, which would now be of
great value, were uselessly destroyed. There are many more
thousands upon thousands of such stockholders whose investments are
imminently threatened with a like fate unless Congress promptly
enacts legislation to prevent such needless loss. And that loss --
aggregating over $2,000,000,000 -- would be suffered largely by a
widely scattered class of citizens (many thousands of whom are
employees of these very railroads) who invested their legacies or
their savings in one of America's greatest private enterprises, for
education of their children, the purchase of homes, or security in
old age. It literally may be said that these stocks were the
favorite investments of widows and orphans and of trustees."
S.Res.192, 79th Cong., 1st Sess.; S.Rep. No.925, 79th Cong., 2d
Sess.; S.1253, 79th Cong., 2d Sess.; Hearings on S.1253, 79th
Cong., 1st Sess., Voluntary Modification of Railroad Financial
Structures; Hearings on S.1253, 79th Cong., 2d Sess., Modification
of Railroad Financial Structures, Part 2; S.Rep. No.1170, 79th
Cong., 2d Sess., pp. 1-2:
"The bill (S.1253) enables railroad companies to adjust their
financial affairs quickly, economically, and on a business basis.
The procedure it provides will reduce any disturbance of their
affairs to a minimum, and will provide the maximum of protection
for both the railroads and their investors."
"The existing law, section 77, was enacted in 1933, without
hearings and without consideration of any subcommittee or committee
of the Senate. It was enacted in the belief that it would help
railroads to correct their financial affairs. It was found to do
the opposite. It has placed in the hands of Government officials
extraordinary power, which they had not requested, over 25 percent
of the country's railroad mileage -- a power which they have
exercised:"
"(1) to demolish every part of the financial and corporate
structures of those railroads;"
"(2) to plan in every respect the financial and corporate future
of those railroads;"
"(3) to pick men to control those railroads; and"
"(4) to decree the forfeiture of $2 1/2 billion of
investments."
"The present bill puts an end to every one of those powers, and
restores the operation of railroads to their managements, and the
adjustment of their finances to the companies themselves, with the
assistance of their security holders, where necessary."
See A Critical Analysis of Recent Reorganization
Decisions of the Supreme Court of the United States, F. C.
Nicodemus, Jr., Hearings on H.R.4779, subsequently H.R.5924, 79th
Cong., 1st Sess., p. 181.
[
Footnote 15]
53 Stat. 1134, 56 Stat. 787. A bill to extend this act to 1950,
H.R.3429, was passed by the House of Representatives on November 1,
1945, 91 Cong.Rec. 10434; H.Rep. No.1128, 79th Cong., 1st Sess.
[
Footnote 16]
Full details of the properties, the elements of ratemaking
value, the corporate history, the capital structure at the
beginning of the reorganization proceedings, the traffic, and
earnings appear throughout the various reports of the Commission,
particularly the original report in 233 I.C.C. 515. The location
and extent of its properties are succinctly described by the
Commission at 518, as follows:
"The Denver's principal eastern terminal are Denver and Pueblo,
Colo., at each of which points connection is made with the
Atchison, Topeka & Santa Fe Railway and the Colorado &
Southern Railway. At Denver, connection is also made with the
Chicago, Burlington & Quincy Railroad, the Chicago, Rock Island
& Pacific Railway, and the Union Pacific Railroad; at Pueblo,
also with the Missouri Pacific Railroad, which is the Denver's main
outlet to the east."
"On the west, the main line of the Denver passes through Salt
Lake City and terminates at Ogden, Utah. Connection is made with
the Union Pacific at each point; at Salt Lake City, the Denver also
connects with the Western Pacific Railroad, and at Ogden with the
Southern Pacific. The interchange with the Western Pacific is more
important than that with any other western connection."
"The road owned by the Denver consists of 1,256.6 miles of main
line and 1,094.9 miles of branch lines. Operated under lease are
the Rio Grande Junction Railway . . . extending from Rifle to Grand
Junction, Colo. 62.1 miles, the Goshen Valley Railroad, a branch
line 8.8 miles in length, and the Salt Lake Western, extending from
Dotsero, on the Denver, to Orestod on the Denver & Salt Lake
Railway . . . 38.1 miles. Including these leased lines, the Denver
operates approximately 1,357 miles of main lines and 1,104 miles of
branch lines. Approximately 771 miles of narrow-gage lines are
included in the operated mileage."
"In addition to the above-mentioned mileages, the Denver
operates over the Salt Lake, between Denver and Orestod, 128.6
miles. This line, together with the Salt Lake Western, constitutes
the Dotsero cut-off route. The Salt Lake's ownership embraces the
line extending from Utah Junction, near Denver, to the western
terminus at Craig, Colo. 220.2 miles. For its Denver terminal, the
Salt Lake uses, under a lease, the facilities of the Northwestern
Terminal Railroad Company. The Salt Lake derives no revenues from
the through traffic moving over the cut-off, since all such traffic
is handled by the Denver."
[
Footnote 17]
See Denver & Salt Lake Western R. Co. Construction,
154 I.C.C. 51; 175 I.C.C. 535; 233 I.C.C. at 520.
[
Footnote 18]
The reports show the income available for interest as
follows:
1942 . . . . . . . $17,044,420.39
1943 . . . . . . . 11,573,667.94
1944 . . . . . . . 8,157,880.25
[
Footnote 19]
318 U.S. at
318 U.S.
482-483; 318 U.S. at
318 U. S.
539-541.
[
Footnote 20]
Ecker v. Western Pacific R. Corp., 318 U.S. at
318 U. S.
475-476.
[
Footnote 21]
233 I.C.C. 578-81.
[
Footnote 22]
254 I.C.C. at 359.
[
Footnote 23]
See, for discussion of the formulae, 233 I.C.C. at 581
et seq.; 254 I.C.C. at 16 and 359-76.
[
Footnote 24]
Rio Grande Western consolidated, 254 I.C.C. at 365:
"Loss in earnings position and surrender of other rights, in our
opinion, are offset by the possibility of increased return
permitted by the 4 1/2-percent income bonds, 5-percent convertible
preferred stock, unlimited dividends on common stock, and the other
features of the plan."
Denver & Rio Grande consolidated,
id. at 364:
"This apparent change in earnings position is offset by the new
sinking fund and capital fund, and by the increased rate of return
obtainable from the new securities,
i.e., slightly in
excess of 4.5 percent for 64 percent of the claim and unlimited
stock dividends for the remainder."
Denver & Rio Grande Western refunding and improvement,
id. at 366: "They also will receive whatever dividends may
be paid on 97,706 shares of common stock."
[
Footnote 25]
Ecker v. Western Pacific R. Corp., 318 U.S. at
318 U. S.
509.
Interest accrues on the secured claims until the effective date
of the plan.
Group of Investors v. Milwaukee R. Co., 318
U.S. at
318 U. S. 546.
Compare Ticonic Bank v. Sprague, 303 U.
S. 406.
[
Footnote 26]
318 U.S. at
318 U. S.
506-509.
[
Footnote 27]
62 F.Supp. at 390:
"The $25,000,000 or more the Trustees have expended in the
Improvement Program inures to the benefit of the common stock. If
the latter is worth anything, it is as much due to these
expenditures as to any other factor. This, with the increase in
current assets and wartime earnings which counsel seem to believe
are permanent, constitute the only equity behind the preferred and
common stock."
[
Footnote 28]
254 I.C.C. at 356.
[
Footnote 29]
Mankind's foresight is limited. The uncertainties of future
estimates are recognized. It is not without interest to note,
however, that, on April 15, 1946, the railroads of the United
States petitioned the Interstate Commerce Commission for increased
freight rates and charges. This was said:
"The situation of the railroads has now become critical, and
their need for a substantially higher level of freight rates has
become imperative. This is the result of an extraordinary
combination of war and postwar conditions with which the railroads
are confronted, and, more particularly, the result of three factors
of recent development: (1) the increase in wages of railroad
employees of 16 cents per hour determined under the procedures of
the Railway Labor Act in April, 1946, retroactive to January 1,
1946; (2) large increases, both present and prospective, in the
prices of railway materials and supplies, and (3) a sharp decline
in volume of railway traffic, and an even greater decline in
railway revenue."
"
* * * *"
"The volume of freight and passenger traffic is falling
continuously, and it is anticipated that the downward rate will
accelerate in the months to come. The revenues will be reduced by
reason both of the decline in volume and a return to a more nearly
normal composition of traffic. It is estimated that the operating
revenues of Class I railroads for 1946, on the basis of the present
rates, fares, and charges, would be approximately $6,800,000,000,
or 23.5 percent less than they were in 1945."
"
* * * *"
"Freight and passenger traffic reached their peaks in 1944. But
net railway operating income and net income began to diminish in
1943, on account of rising costs of operation. In the face of
increasing traffic through 1944, both net railway operating income
and net income moved steadily downward after reaching their peak in
1942. With the cessation of hostilities in 1945, there began to be
a decline also in gross revenues which is expected to become more
pronounced as the abnormal war conditions disappear, disabilities
of highway carriers and other agencies of transportation are
removed, and the prewar pattern of railway traffic is resumed."
The Denver apparently did not vary greatly from this overall
picture. Its net revenue for 1945 from railway operations dropped
from $20,569,809 to $14,246,504. Its gross operating revenue,
however, increased four and a half million. The loss in net was due
largely to increased amortization of defense projects.
The monthly report of revenues and expenses by the Denver for
January and February of 1946 shows a decrease of operating revenues
from $10,856,764 to $8,932,983.
[
Footnote 30]
See note 24
[
Footnote 31]
According to Moody's Manual, the net income of the Fuel Company
for 1943 was $865,140, 1944, $653,901, and earned surplus at the
end of the latter year $4,862,980.
[
Footnote 32]
Obviously, the Fuel stock or its proceeds could be distributed
to record holders of the old securities as of the date or dates of
distribution of the new securities.
[
Footnote 33]
There is a certain illogic in the position of First Consolidated
bonds in asserting any rights in the collateral at all. If, as they
concede and we now hold, they are entitled to be paid in full in
new securities without regard to the collateral, it may be that
they have been fully paid by the new securities given them, since
they do not complain of their treatment under the plan. Since they
are entitled only to full payment, it would then seem to follow
that they have no rights against the collateral. We should not be
taken as deciding this question, however, since we leave it to an
independent suit in which there is jurisdiction over the proper
parties.
[
Footnote 34]
Clauses (2) to (3) are not involved. They relate to expenses,
fees and costs.
[
Footnote 35]
H.Rep. No.1283, 74th Cong., 1st Sess., p. 18. S.Rep. No.1336,
74th Cong., 1st Sess., p. 3, contains the following statement:
"Further, the consent of two-thirds of each class of
stockholders must be acquired, unless, by an elaborate valuation
proceeding, it is proved that the value of the property is so low
that the stock has no interest. This is an effective obstruction. .
. ."
"In order to remedy these defects, S. 1634, as amended, provides
that two-thirds of those of each class who vote upon a plan will
bind the dissenters or those failing to vote. But it also provides
that the court may make effective a fair plan where the parties do
not agree. . . . If two-thirds of each class consent, the plan will
bind the remainder of each class. But the judge may make the plan
effective, even if not so accepted, if he finds that it conforms to
the requirements just stated, provides fair and equitable treatment
for the interests of those rejecting it, and that their rejection
is not reasonably justified in the light of the respective rights
and interests. These provisions give complete due process of law
from a procedural standpoint, there being provision for full
hearings both before the commission and the court. Within the broad
powers of Congress under the bankruptcy clause as recently declared
by the Supreme Court in
Continental Illinois Nat. Bank &
Trust Co. of Chicago v. Chicago, Rock Island & Pacific R.
Co., 294 U. S. 648, the provisions
also afford due process of law in fully protecting the property
rights which are involved."
See also Hearings, House Judiciary Committee, 74th
Cong., 1st Sess., on H.R. 6249, Serial 3, pp. 15 and 22.
[
Footnote 36]
Wright v. Union Central Ins. Co., 311 U.S. at
311 U. S. 278,
and discussion at p.
328 U. S. 509,
supra.
[
Footnote 37]
Cf. ICC v. Jersey City, 322 U.
S. 503,
322 U. S.
515.
[
Footnote 38]
62 F. Supp. 384.
[
Footnote 39]
§ 77(d),
note 9
supra. 318 U.S. at
318 U. S. 473;
318 U.S. at
318 U. S.
544.
[
Footnote 40]
See concurrence of Commissioner Eastman,
Western
Pac. R. Co. Reorganization, 233 I.C.C. at 437.
MR. JUSTICE FRANKFURTER, dissenting.*
On November 1, 1935, The Denver and Rio Grande Western Railroad
Company and The Denver and Salt Lake Western Railroad Company
(hereinafter compendiously called "the debtor"), initiated these
proceedings for their reorganization under § 77 of the Bankruptcy
Act. 49 Stat. 911 (1935), 11 U.S.C. § 205. The plan of
reorganization
Page 328 U. S. 537
here in controversy was approved by the Interstate Commerce
Commission on June 14, 1943. 254 I.C.C. 349, 385. The District
Court approved the plan for necessary submission to the various
classes of creditors. C.C.H. Bankruptcy Law Service � 54,562. All
classes except the holders of the general mortgage bonds accepted
the plan. On the effective date of the plan, the claims of these
General Bondholders constituted about one-fourth of the debtor's
entire debt. Just short of eighty percent of this class of
creditors (79.33%) voted to reject the plan. Congress has made the
right of any class to reject a plan subject to the power of a
district court to override such rejection if the judge "is
satisfied and finds . . . that such rejection is not reasonably
justified in the light of the respective rights and interests of
those rejecting it and all the relevant facts." 49 Stat. 911, 919,
Aug. 27, 1935, 11 U.S.C. § 205(e). The District Court, on November
1, 1944, found that all the requirements of the statute had been
met, and confirmed the plan. 62 F. Supp. 384. But the Circuit Court
of Appeals for the Tenth Circuit, a strong bench, on May 10, 1945,
found that
"the General Bondholders were reasonably justified, within the
meaning of the statute, in rejecting the plan, and that the
District Court was without authority to confirm the plan in the
face of their adverse vote."
150 F.2d 28, 40. On a fair construction of the requirements of
Congress for the adjudication of railroad reorganizations, as
applied to the situation before us, I cannot escape agreement with
the Circuit Court of Appeals.
Railroad reorganizations are so enshrouded in the confusing
intricacies of high finance that the true nature of decisive issues
is too often lost to view. It may be useful to an appreciation of
what appears to me to be the crux of the case to put a situation
that is sufficiently analogous, but much more familiar. In the
early depression years, the
Page 328 U. S. 538
big life insurance companies foreclosed a large number of farms.
The foreclosure process, we assume, involved the control of the
farm and all its income by a judge. The hypothetical farm began to
make a fair income, enough to pay the insurance company a
considerable part, if not the whole, of the annual interest. But,
instead of paying the interest, the judge applied the money to
rebuild the homestead, to add a new barn, to purchase an adjacent
field, the most modern machinery, and additional head of cattle.
Thereby, the farm became far more valuable than at any time since
the insurance company placed the mortgage on it. Moreover, the
judge retained as cash in the bank a portion of the income
sufficient to pay off at least twenty percent of the mortgage. The
farmer thinks he ought to be allowed to use the cash to reduce the
mortgage, should be given credit for the income which the judge
used to make the considerable improvements and which could have
been used to reduce the mortgage. This would appear to be a natural
attitude on the part of the farmer, and it would hardly seem that
he was not reasonably justified to resist the claim of the
insurance company to the farm, with all its improvements as well as
the cash in bank.
This simple analogy may look almost trifling alongside the
complicated details involved in a plan for the reorganization of a
railroad system. But is it an oversimplification of the controlling
issue -- namely, was the Circuit Court of Appeals wrong in holding
that the General Bondholders were "reasonably justified" in
rejecting the plan? Let the facts, clearly and fairly stated in the
opinions below, speak for themselves. Judge Huxman thus summarizes
the Court's conclusion that the General Bondholders had "a real
grievance":
"On November 1, 1935, the Debtor's total debts senior to the
claim of the General Bondholders was slightly over $101,000,000.
The General Bondholders
Page 328 U. S. 539
claims at that time were approximately $30,000,000, making the
total of the two claims approximately $131,000,000. Any one of the
ten plans of reorganization prior to the final one fixed the value
of the property at more than enough to satisfy the claims of all
bondholders in full, as of the date this proceeding was instituted.
During the ten intervening years, the claim of the Senior
Bondholders increased to more than $139,000,000, and that of the
General Bondholders to more than $43,500,000, making a total of
more than $182,000,000, required for the two classes of
claims."
"During all of this period, the Debtor enjoyed substantial
income, amounting to approximately $50,000,000. Instead of using
this income in payment of interest on the senior claims, it was
used in making permanent and lasting improvements in the road. More
than $43,000,000 was used in this way. None of these expenditures
has resulted in a comparable increase, or in any substantial
increase, in the final valuation over the valuation prior to the
making of the improvements. But, as a result of this operation, the
position of the General Bondholders has deteriorated from a 100
percent participation in the amount of their claims to a mere ten
percent. Nor does it change the picture to say that these
improvements were necessary to the railroad system. The fact still
remains that earnings in which all had a vital interest were used
in building a new railroad in many respects, which will be handed
over to the Senior Bondholders, and the General Bondholders will
practically be eliminated as a result thereof."
"But this alone does not entitle the General Bondholders to a
greater participation in the reorganized company. Neither does it
condemn the plan of reorganization or the capital structure set up
therein.
Page 328 U. S. 540
The operation of a railroad involves the expenditure of large
sums for operation. It involves the formulation of plans of
operation and the exercise of judgment and discretion. If, in the
exercise of this discretion, funds are unwisely spent, from the
viewpoint of the interest of all creditors, they may feel
aggrieved, but they have no legal cause of complaint."
"Neither was the Commission compelled to, nor would it be
justified in, adding the amount of these expenditures to the
capitalized value if, in the exercise of sound discretion, it felt
that the reasonable prospective earnings of the road, after the
improvements, did not justify it. However, in the face of all this,
after satisfying in full the claims of the senior bondholders, the
plan of reorganization should have made sure that all excess
current assets, as well as all excess war profits yet to accrue,
would go to the General Bondholders."
"The commission, as pointed out, adopted a conservative, sound
estimate of the prospective earnings of the reorganized company.
For this it is not to be criticized. An over-optimistic view would
again surely lead the Debtor into the bankruptcy courts, with which
it has had too much acquaintance already.[7] We, however, feel that
there is more than a speculative probability that these war
industries which have been constructed along the system, as well as
the improvements which have been made by the
Page 328 U. S. 541
use of these net earnings, might produce greater net returns
than anticipated in the plan. If such should be the case, they
certainly belong to the General Bondholders, and not to the
Seniors, and the plan should bring this about. It could be done by
issuing to the General Bondholders an additional amount of a
subordinate stock which would receive returns only from excess
dividends. This is a mere suggestion on our part, and in no wise
binding on the Commission. Our duty is limited to pointing out
defects in the plan. It is the responsibility of the Commission to
correct them."
"[7] Properties included in this railroad system have
participated in the following reorganizations: The Denver & Rio
Grande R. Co. was a successor in a reorganization proceeding in
1886; the Rio Grande & Western R. Co. was the successor in a
reorganization proceeding in 1889; these two companies consolidated
in 1908 under the name of the Denver & Rio Grande R. Co.; the
present company was reorganized in 1920, and again in 1922 to
1924."
"
The Junction Bonds"
"We think that the complaint as to the manner in which the
Junction Bonds were handled is well taken. The Rio Grande Junction
Railroad is a wholly owned subsidiary of the Debtor. It had bonds
outstanding in the hands of the public for the payment of which the
Debtor was liable, totaling $2,758,333. This claim was senior to
that of the General Bondholders. The plan set aside securities for
the payment of this claim. In an order dated September 13, 1943,
the District Court directed the trustee to pay this claim with some
of the surplus cash on hand, and retained the securities which were
to be used in the payment thereof in the treasury of the company.
The court treated the transaction as a purchase of securities,
rather than a payment of a debt. This is a play upon words, and, in
any event, is immaterial to the issue. The fact remains that the
new capitalization provided securities for the payment of these
bonds. The value behind these securities in no wise belonged to the
Senior Bondholders, because they had been paid in full. When
surplus cash was used to pay this claim, the value behind the
securities set aside for that purpose remained undisturbed. Since
the
Page 328 U. S. 542
Senior Bondholders had been satisfied in full, this
undistributed value, in all equity and fairness, belonged to the
General Bondholders. Any plan which does not give it to them does
not comply with the requirements of Section 77(e), of the Act."
150 F.2d 28, 38, 39.
Inasmuch as the decision in this case seems to me to turn on an
adequate appreciation of the facts, I deem it important to quote
the analysis of the situation on the basis of which Judge Phillips
reached his conclusion:
"On November 1, 1935, during the depths of the national
depression, the debtor came into court for reorganization. At that
time, the debtor's senior debts ahead of the general mortgage bonds
aggregated slightly over $101,000,000 and the claim of the general
mortgage bondholders aggregated about $30,000,000. With an
immediate reorganization, a capitalization of $132,000,000 would
have been adequate to give the general mortgage bondholders new
stock equal to 100 percent of their claim. No capitalization or
valuation ever proposed for the debtor in any plan presented has
been that low. During the eight years' delay in reorganization (in
nowise due to the general mortgage bondholders, but, at least in
part, to controversies among the senior security holders) and up to
January 1, 1943, the effective date of the plan, the claims of the
senior security holders, due to the accrual and nonpayment of
interest, increased about $38,000,000. The debtor's net income
available for interest during the trusteeship to the end of 1944
amounted to $49,420,972. It exceeded by approximately $9,500,000
the interest charges which accrued on the claims of senior security
holders to the end of that year. As of December 31, 1935, the
debtor's current assets were $9,727,230 less than its
Page 328 U. S. 543
current liabilities. As of December 31, 1944, the debtor's
current assets exceeded its current liabilities by $12,125,863.50.
Thus, it will be seen there has been a favorable change in the
current situation of $21,853,093, and, moreover, since the plan was
formulated, the Junction Bonds have been paid, and equipment
obligations have been reduced from $5,758,000, the amount provided
for in the plan, to $4,540,000, a reduction in that requirement of
$1,218,000."
"Approximately $43,000,000 of the income available, but not
used, for the payment of interest has been expended in permanent
improvements and betterments. While the investment value of the
debtor's property thus was substantially increased, the
Commission's valuation, based on estimated future earnings, was not
increased proportionately. As a result, the claim of the senior
security holders has increased and the participation of the general
mortgage bondholders has been pressed downward, until it is now
fixed at 10 percent of the new common stock. Many of the
improvements and betterments referred to above have substantially
increased the capacity of the railroad to handle increased traffic
as it arises. Central train control installed in many segments,
where the greatest density of traffic obtains, gives to those
segments, in a large degree, the equivalent of a double track
railroad, and increases the number of trains that can be operated
over the road and the volume of traffic that can be handled by the
road. Other of such improvements have contributed to efficiency and
economy in operations. These improvements have enabled the debtor
to handle the great increase in traffic resulting from the war
effort, and have placed the debtor in a position to more
economically and efficiently handle a volume of traffic largely in
excess
Page 328 U. S. 544
of its prewar traffic, should future economic conditions produce
such traffic. Under the plan approved and confirmed by the district
court, 90 percent of the common stock goes to the holders of the
senior securities, and 10 percent to the general mortgage
bondholders. As a result, should there be a substantial increase in
the debtor's postwar traffic over its prewar traffic, 90 percent of
the increased earnings will inure to the benefit of the holders of
the senior securities, and only 10 percent of the general mortgage
bondholders, whose claim was decreased 90 percent by reason of the
failure to discharge interest accruals with income available
therefor and the diversion of such income to the cost of such
permanent improvements. It seems to me, under all these
circumstances, that, in addition to the other adjustments required
to make the plan fair and equitable, the Commission should endeavor
to modify the plan so as to give relief from the situation that
lets the full impact of the improvement program fall upon the claim
of the general mortgage bondholders, and accords them no
corresponding benefits."
150 F.2d 28, 40, 41, 43.
From the confusing financial details, one stark fact emerges. In
1939, the Commission found that the debtor would be able to earn
enough in the future to provide an income on one-third of the
General Mortgage bonds. 233 I.C.C. 515, 592. In the reorganization
plan in 1943, the Commission concluded that the debtor would not
earn enough to provide income on more than one-tenth of the General
Mortgage claims. 254 I.C.C. 349, 359, 380. The capitalization
proposed by the Commission in 1943 eliminated as valueless more of
the total claim of the General Mortgage bonds and more of the face
amount of these bonds than did the capitalization proposed by the
Commission in 1939. Since 1939, the debtor achieved a position
permitting it to make large debt reductions
Page 328 U. S. 545
to reduce considerably its interest charges. It accumulated a
very large net income in excess of its interest service; it
expended large sums to decrease operating costs and improve its
business prospects, so that the future earning power of the
railroad was greatly increased. In the face of all these factors,
the senior security holders were given not only securities for the
full amount of their claim, but also all cash accumulations
available for the reduction of the road's indebtedness.
Improvements in the financial and physical structure of the road
patently calculated to increase the profits of the future owners of
this road have been made the basis of substantially wiping out one
class of the present owners. Inequitable consequences such as these
led the Circuit Court of Appeals to conclude that the plan failed
to satisfy the command of Congress that, as a matter of judicial
judgment, a reorganization plan must be found "fair and
equitable."
To defeat the plan, it is not necessary, however, to find it
intrinsically wanting in fairness and equity. Congress did not
authorize the enforcement of a plan for reorganization once it is
found, as a matter of judicial judgment, to be "fair and
equitable." Congress wrote into law another and a vital condition
to the validity of a railroad reorganization plan. A plan must also
commend itself as "fair and equitable" to the various classes of
creditors. And, if any class rejects it, the plan can prevail only
if the District Court is warranted in finding that such rejection
"is not reasonably justified in the light of the respective rights
and interests of those rejecting it and all the relevant facts." 49
Stat. 911, 919, Aug. 27, 1935, 11 U.S.C. § 205(e).
Claimants who are thus entitled to vote on their interests as a
class are surely not expected to vote as altruists, any more than
they are to be allowed to behave as unreasonable obstructionists.
If that which Congress has written is not to be stricken out, we
must recognize the
Page 328 U. S. 546
referendum which Congress has lodged in each class of creditors
as a means of self-protection by each class of creditors, and not
as an occasion for empty dialectic. On a fair and practical
construction of the power which Congress has seen fit to place in
the hands of the various creditor classes, a class can be deemed
not "reasonably justified" in exercising the right which Congress
gave them to vote their interests, only if a court can say that no
intelligent class of creditors, regardful of their class interests,
but not obviously hostile to the common interest with which their
class interest is involved, could have objected to the plan. Any
other construction reads "reasonably justified" out of the statute.
In effect, that is what the district court has done. And this
Court, with almost the candor of silence, appears to sanction such
judicial deletion of what Congress has written. For it does not
find that the General Bondholders were not reasonably justified
from their intrinsic point of view to exercise their right to
reject the plan. It does little more than assert this conclusion,
apparently on the finding that the plan was in fact "fair and
equitable." It imposes its judgment that the plan was "fair and
equitable" upon the General Bondholders, and thus, in effect,
deprives them of the very right which Congress gave them to be
judges of their own interests so long as the court cannot say they
were capricious or greedy in their judgment. This Court seems to be
of the view that if, in its judgment, a plan is "fair and
equitable," it must appear equally fair and equitable to every
class of creditors. Here, three circuit judges found the plan not
"fair and equitable," yet this Court holds that the General
Bondholders were not "reasonably justified" in not finding it "fair
and equitable." This can only mean that the Court deems redundant,
and therefore eliminates, the Congressional requirement that,
before a plan can be approved, it must commend itself to the
judgment of a class of creditors exercising the kind of
judgment
Page 328 U. S. 547
that men are entitled to exercise in the pursuit of their
legitimate self-interest, as well as commend itself to the judicial
sense of fairness.
In assuming that, if a plan seems fair and equitable to a court,
rejection of it by any class must be unreasonable, the Court not
only disregards the contrary assumption on the basis of which
Congress legislated. Such an attitude is also oblivious of the
practicalities of the situation. To assume that, if a court finds a
plan is "fair and equitable," no class of creditors can be
reasonably justified in rejecting it is to assume that the
ascertainment of fairness concerning so complicated a situation as
a plan for a railroad's reorganization lies in the realm of even
approximate certitude. Quite the opposite is true. A court, in
ascertaining whether a plan is fair and equitable, is not engaged
in ascertaining indisputable facts. It is forming a judgment, and
largely a prophetic judgment, regarding a maze of factors, and, as
to each factor, there is usually room for considerable difference
of opinion. It is for this reason that Congress made it a condition
for judicial approval of the plan that it appear fair and equitable
in the voting system by the classes of creditors.
For an addition it was, made by Congress to the recommendation
of the legislation by Commissioner Joseph B. Eastman. As Federal
Coordinator, he proposed to Congress that a court be authorized to
confirm the reorganization plan despite the failure to obtain a
majority vote of one or more of the affected classes of creditors,
provided that the district court was satisfied in two respects: (1)
that the plan "makes adequate provision for fair and equitable
treatment for the interests or claims of those rejecting it," and
(2) that the judge was satisfied that the plan is "fair and
equitable" "even if not so approved" by a class of creditors.
See Coordinator's Annual Report for 1934, pp. 101-102,
237, 238.
Page 328 U. S. 548
But Congress deemed it in the public interest to give greater
protection to the various classes of creditors than the Coordinator
suggested. In several respects, Congress limited the power of
courts to disregard a class vote against a plan beyond the
safeguards proposed by the Coordinator. For present purposes, it is
decisive to note that Congress added to the protection formulated
by the Coordinator by requiring that a judge, after finding that a
plan is "fair and equitable," must also be satisfied and find that
"such rejection is not reasonably justified in the light of the
respective rights and interests of those rejecting it and all the
relevant facts." I cannot escape the conclusion that, to hold, in
the circumstances of this case, that the General Bondholders were
not reasonably justified in rejecting the plan is to decide that
this requirement, purposefully written into the law by Congress as
an addition to the requirement that the judge must find the plan to
be "fair and equitable," is but a meaningless repetition of that
requirement.
The undesirability of further delay in taking this road out of
the district court, where it has been for more than a decade, is
bound to press upon any court. But it ought not lead to
confirmation of a plan which fails to satisfy the explicit
prerequisites for approval laid down by Congress, particularly so
where the result is as drastic as the Circuit Court of Appeals and
the expert Senate Committee on Interstate Commerce have made
manifest.
See S.Rep. 1170, 79th Cong.2d Sess. pp. 17, 18,
40, 42, 67, 68, 72, 73, 91-95, 105-109, 121-123.
Congress has not curtailed, nor shown any desire to restrict,
the right of self-protection which it gave to railroad creditors by
the Act of 1935 and to which the result of this case appears
indifferent. On the contrary, Congress has since given decisive
proof that it disapproved the construction which courts have
heretofore given to § 77, resulting in undue harshness to junior
interests and
Page 328 U. S. 549
promoting concentration of railroad control. It has emphatically
indicated that the rights of junior interests, reflecting public
interests, should be more carefully safeguarded. Whether Congress
has been wise or unwise in manifesting this view is not our
business to decide. But it is the business of this Court to respect
what I find to be a clear enunciation by Congress of the conditions
which alone authorize courts to sanction a railroad
reorganization.
* Filed October 28, 1946.