Q. Isn't it the policy of your Trust Department in situations of this character to always file a claim on behalf of all the bondholders as trustee? A. Yes, sir. Q. Wherever the court will permit? A. Yes, sir. Q. It is true that my firm was counsel for the bank and at the same time counsel for this Noteholders' Committee. That is not an unusual situation, is it? A. No, sir. Q. The fact that any particular counsel might represent your bank and also somebody else in interests rests entirely upon what you believe the integrity of that firm to be? A. Yes, sir. Q. Is it usual for trustees, when a default occurs, to delve into the financial condition of the company and find out what caused the default or what possible plans of reorganization might be made for the profit of your business? A. Not to my knowledge." 11 201 Here, as elsewhere, the necessity is not for greater powers, but for powers coupled with duties and responsibilities. Unless the obligations of active trusteeship are imposed, these subtle influences of friendship and business relations are almost certain to condition the quality of the trustees' performance and to make the trustee a timid and ineffective representative of the security holders. In any event, the requirement is for an independent and aggressive champion of the interests of security holdes. Accordingly, the trustee should be required to act with that vigilance and thoroughness which it could be expected to exercise if it were protecting its own investment. G. PROTECTION OF MINORITIES As we have noted above, the trustee normally will not act unless required to do so by demand of a specified number of the security holders as prescribed in the indenture. One function, therefore, of protective committees is to marshal a sufficient percentage of the securities to make this demand, furnish indemnity and force the trustee to act. Protective committees are, of course, expensive. They cannot act with the economy and efficiency of a single, continuing agency like the trustee. Nevertheless, they must exercise the surveillance and vigilance and perform some of the functions which the trustee might, but under existing practice does not, provide. Laurence A. Crosby, continuing his testimony in the Cuba Cane hearing before this Commission, discussed this: "Q. we were speaking about the reasons why this debenture committee was formed. Did it occur to you or any of the people with whom you were conferring relative to the Cuban Cane Products situation that the Id., at 970-973. trustee rather than the committee was the proper agency to do the things the committee was trying to do? A. The committee was trying to find some measure or means or device or plan by which these debenture holders would have an opportunity to retain or regain their property. Q. Yes, why wasn't the trustee the logical person to take up such matters? A. I don't think under the existing system of corporate trusteeships that trustees do that sort of thing. As a theoretical matter it may be possible to have a trusteeship that would do that sort of thing, but I think it would have to be set up on a different basis from existing trusteeships. Q. It would have to be set up with the trusts that were active rather than otherwise? A. Yes, I wouldn't expect banking institutions to undertake functions like that except on the basis of general indemnification or higher compensation, or some other basis than that which now exists. Corporate trustee fees are comparatively modest. They do not cover discharging functions of this sort and are not so generally understood." 20 This inactivity of the trustee generally leaves minorities unrepresented. Protective committees seldom represent all bondholders. They may represent only a majority, or that amount necessary to compel the trustee to act. They make no pretense of acting for bondholders who do not deposit with them or authorize them to speak on their behalf. Nevertheless, their activities affect the minority whom they do not represent as well as the majority. Indeed, if the minority bondholders do not constitute a sufficient percentage of the bonds to compel the trustee to act, they may be absolutely at the mercy of the protective committee. Under certain indentures it may be that they cannot even bring suit to collect the money which the issuer owes them on their securities. In Allan v. Moline Plow Co.,203 a "voluntary reorganization" was effected by the corporation. But one of the noteholders refused to acquiesce in this change of his security. The indenture provided that the trustee in its own name might sue upon default. It also provided that no noteholder could sue unless the trustee refused to do so after demand by holders of 25 percent of the outstanding notes. But over 90 percent of the noteholders had accepted the plan, and there was no possibility of the dissenter's complying with this provision. So the minority noteholder brought suit directly to collect the amount which the company had promised to pay on his notes. The Circuit Court of Appeals held that he had no right to bring suit in face of the indenture provision. Elsewhere in this report the "voluntary reorganization" of The Baldwin Locomotive Works in 1933 is described. Here again, a minority noteholder dissented and sought to bring suit on his notes. The majority had deposited their notes with a committee; demand upon the trustee by the necessary percentage of noteholders was 202 Op. cit. supra note 131, at 792 -793. 208 14 F. (2d) 912 (C. C. A. 8th, 1926). a physical impossibility; and the company interposed as a defense the doctrine of the Moline Plow case.2 204 Thus, by virtue of indenture provisions, the dissenter may be remitted to the mercy of a protective committee and the majority. The fate of minorities cannot fairly be left in the hands of majorities and protective committees without control or restraint. In order that reorganizations may be affected, some coercion may have to be exerted upon minorities. But it does not follow that the power to coerce should rest, unchecked, in the hands of the majority. This is just as inequitable as it would be to provide that a majority of the partners in an enterprise may dispose of the minority's rights without restraint or supervision. From this point of view, the trustee could well be expected to scrutinize the provisions of a reorganization plan, to see that it is fair and that it provides adequate protection to minorities. It could be expected to insist that minorities be allowed a reasonable time within which to accept the proffered exchange, and that the conditions precedent to such acceptance be fair. This is occasionally done by the trustees. One of the returns which Guaranty Trust Company made to the questionnaire which this Commission sent to corporate trustees stated in response to a question as to the steps taken by it on and after default: "The plan of reorganization did not appear to us to offer sufficient cash payments for those bondholders who did not participate in the plan and who, if they did not accept stock within a year, were deemed to have elected to accept the cash payment. "As a result of our suggestions, the Debtor agreed to insert in the proposed order a provision reserving jurisdiction in the court to consider the fairness of extending it one year within which a borrower might elect to take stock or cash for a good cause shown and the order was so entered." 205 This was a 77B proceeding. Even greater necessity appears for such action in case of "voluntary reorganizations" where the minority is not protected by any judicial or administrative agency. In such cases the trustee should be expected actively to represent the minority in negotiating a plan. It could be expected to intervene in the reorganization proceedings and inform the court of its opinion of the fairness of the reorganization plan.200 It could be expected in equity 204 Gellert v. Baldwin Locomotive Works, 3 F. Supp. 812-813 (E. D. Pa., 1933); and see op. cit. supra note 13, Commission's Exhibit No. 54, at 16. Section 4, Item 1, of the questionnaire set forth in Appendix A, infra. 20 As co-author, with John W. Kearns, of an article in 61 Trust Companies (1935) 111, at 113, on Corporate Trusteeship and 77B, Robert L. Grinnell, Corporate Trust Officer of the First National Bank of Chicago, states: "Section 77B makes no express provision for indenture trustees as such, being heard with respect to the fairness of a plan. However, were a trustee convinced of its unfairness, it would seem to be its duty, moral not legal, and the course of ordinary common sense, to see that its criticisms were brought to the attention of the court charged with the responsibility of passing on the fairness receivership reorganizations to scrutinize the price at which the property is "sold" at judicial sale, and to recommend an upset price which, while permitting reorganization where justified, will not deprive dissenters of a fair cash alternative to the new securities offered. In this latter connection the interests of a protective committee are in sharp opposition to those of dissenters. Thus, in reorganizations by means of foreclosure and equity receivership, the judicial sale provides the basis for calculating what a dissenter will get. If for no other reason, committees will be driven by the pressure of economic necessity to make the lowest possible bid, in order to avoid burdening themselves with large cash requirements with which to pay the dissenters' share of the sale price.207 With respect to real estate bond issues, the same condition prevails. This was affirmed by counsel to bondholders' committees who testified before this Commission.208 Here the trustee alone can protect the minority by taking an active part in the proceedings, or in negotiation with the committee, to the end that the fairest, and not the lowest, price is obtained. In practice, however, the trustee's customary inertia suffices to keep it a nominal figure. Harold Moore, trustee for many of the bond issues sold by the American Bond & Mortgage Company, and a former executive of that company, testified as follows before this Commission: "Q. You felt that American Bond & Mortgage owed an obligation to these non-depositing bondholders and that you, as trustee, owed such obligation? A. Yes, I thought that the same responsibility which we had to the others, we had to all. of the plan, and to the attention of the sponsors. If the criticisms are well founded, that should be sufficient." Section 77 of the Bankruptcy Act grants expressly to trustees a "right to be heard on all questions arising in the proceedings", but "may be permitted to intervene" "upon petition therefor and cause shown." 11 U. S. C. A., Sec. 205 (C) (13). Thus, the right to intervene, as distinguished from an opportunity to be heard, is left to the discretion of the court. In re Denver & R. G. Western R. Co., 13 Fed. Supp. 821 (D. Colo. 1936); In re Missouri Pacific R. R. Co. (E. D. Mo. 1934), CCH Bankr. Law Serv., Par. 2291.01. And though a mortgage trustee was permitted to intervene generally in the Denver & R. G. Western R. Co. case, in the Missouri Pacific case the court permitted a mortgage trustee to intervene but specially. Section 77B is less specific. The pertinent subdivision is applicable to "any creditor or stockholder"; trustees are not expressly included. 11 U. S. C. A., Sec. 207 (C) (11). The right to be heard is limited to "question of the permanent appointment of any trustee" and "the proposed confirmation of any reorganization plan." Ibid. The subdivision then vaguely provides for a right to be heard "upon filing a petition for leave to intervene, on such other questions arising in the proceeding as the judge shall determine." Ibid. Intervention has been denied a trustee to contest the jurisdiction of the court and to defeat the petition. In re 1030 North Dearborn Building Corp., 7 Fed. Supp. 896 (E. D. Ill., 1934); see Note (1936) 49 Harv. L. Rev. 1111, 1160. As indicated earlier in this report, the matter should be explicitly covered in Section 77B, rather than vaguely as at present. The trustee has been denied the right to vote on questions concerning the reorganization plan under Section 77B. In re Allied Owners' Corp., 74 F. (2d) 201 (C. C. A. 2d, 1934). See (1935) 2 U. of Chic. L. Rev. 644. 207 Weiner, Conflicting Functions of the Upset Price in a Corporate Reorganization (1927) 27 Columbia L. Rev. 132, 139. 208 Op. cit. supra note 96, at 2578-2579. Q. Well now could you state for the record, Mr. Moore, what either American Bond & Mortgage, or you as trustee, did in fulfillment of that obligation to the non-depositing bondholders? A. I don't think that we did anything beyond our contributing our best efforts to see that all the bondholders were notified and given an opportunity to deposit." * “Q. Did you as trustee ever appear in Court and argue against confirmation of a sale on the ground that the committee had not bid enough? A. No, sir. Q. Did you ever appear at the foreclosure sale as trustee and bid in competition to the committee or other bidders with a view to getting a larger distributive share for your non-depositors? A. Well now I don't have any recollection of doing that." 200 If inertia was not enough to inhibit action, the self-interest of most trustees in this field destroyed what slight possibility might have remained of adequate representation of dissenters. Substantially all of the trustees for real estate issues distributed by the large underwriting houses were officers or affiliates of these underwriters. And the latter, as elsewhere described in this report,210 frequently held junior and equity claims adverse to those of the first mortgage bondholders. Because of this, it is doubtful that these trustees could be impartial advocates of any bondholders' cause, whether in the majority or minority. And their fitness was definitely not aided by common employment of the same counsel by the committee and the trustee. This is a practice usual in, but not peculiar to, the field of real estate bond reorganization.211 Obviously, it is a deterrent to vigorous action by the trustees in behalf of dissenters. At times the protection of the bondholders will require that the trustee file proof of claim for them in the bankruptcy or receivership proceedings, lest these claims be lost. The activity of Guaranty Trust Company in one ordinary bankruptcy proceeding where both the issuer and the guarantor of the bonds were adjudged bankrupts is contained in a reply to the questionnaire which this Commission sent to corporate trustees: We then filed a blanket proof of claim on behalf of the bondholders in both the obligor's and the guarantor's bankruptcy proceedings. Objections were raised to both proofs of claim. The referee in bankruptcy sustained the allowability of the proofs of claim in both bankruptcy proceedings. No appeal was taken from the decision in the issuer's bankruptcy proceedings, but an appeal was taken to our proof in the guarantor's proceedings. Our claim was finally approved in the Federal Circuit Court of Appeals after much litigation. This litigation was very important since at the time it was one of the first cases where the right of the trustee to file a blanket proof of claim in bankruptcy on behalf of the bondholders was definitely upheld. The 20 Id., at 2293-2294, 2295-2296. ne Part III, Committees for the Holders of Real Estate Bonds (1936), at 93 et seq. Infra, at 73 et seq. |