American Exch. Nat. Bank of New York City v. Ward

ADAMS, District Judge,

after stating the case as above, delivered the opinion of the court.

The chief question for our determination is whether there was any substantial evidence to support the issue raised by plaintiff in error in the garnishment case. The denial setting forth the facts relied upon to avoid the chattel mortgage and deed of trust, and the brief and argument of counsel for plaintiff in error in treating of the facts of the case, abound in general statements of fraud and fraudulent intent; but a careful and considerate examination of all the evidence discloses substantially the facts recited in the foregoing statement,- ' and those only. It cannot be true that there was any actual fraudulent intent or purpose on the part of the Metropolitan and Providence Banks or Devy & Bros, in the transaction complained of. It is strenuously argued that, securing the control and management of the mercantile company by their representatives, the banks and Devy & Bros, put themselves in position to secure a preference by the execution of the chattel mortgage .and deed of trust in question. This result may have followed, Lrat all the testimony and proof in the case satisfy us that no such purpose was originally contemplated by them. Nor was any such purpose contemplated by them at the time they loaned the $15,000, on December 18, 1895. They did not engage in the liquor business as a permanent venture, bixt, representing all the unsecured creditors except plaintiff in error, and discovering that the. condition of the business of the mercantile company was such as required a new management in order to insure the payment of the unsecured debts, they, being at that time owners of all the preferred stock of the mercantile company, secured, by the voluntary action of the owners of the common stock, a controlling interest in the same, and with the full co-operation of the president of the company, and with the full knowledge and acquiescence of plaintiff in error, proceeded to elect directors satisfactory to themselves, and to take charge * of the business. They conducted it for a period of about 2years, loaned money to the company without security, and, so far as the. record discloses, transacted the business openly and fairly, and with *787 the single end in view of securing the payment of their own debts, and that of the plaintiff in error as well. Without reducing their aggregate demands at all, but increasing them in the sum of $21,722,. they actually paid plaintiff in error one-third of its demand. At last, by reason of an unprecedented and unexpected decline in the value of a large stock of whisky on hand, they were forced to abandon their original undertaking. The record discloses no new creditors whose demands were created during the period of tlieir management. Presumptively, none existed at the time they closed the business. In this condition .of things the mortgage and deed of trust complained of by plaintiff in error were executed. For the purposes of this case it may be conceded that the directors and vice president of the mercantile company, who authorized and executed the mortgage and deed of trust, were so the representatives of the Metropolitan and Providence Banks and Levy & Bros., the beneficiaries in the moitgage and deed of trust, as to make their acts the acts of the beneficiaries themselves; in other words, that the legal effect of the condition of things as it existed, and of the acts done, was that the beneficiaries in the mortgage and deed of trust were in full charge of the mercantile company, and that they caused the deeds to be executed to secure their own demands against the mercantile company. Are the deeds so executed voidable at the instance of the plaintiff in error ? This is the question now to be answered. Notwithstanding a contrariety of opinion on the subject, it is now, we think, established by persuasive and controlling .authority that the insolvency of a corporation does not ipso facto transform its assets into a trust fund for the equal benefit of its creditors. This conclusion is reached in a number of decisions by the supreme court of Missouri, in which state the transactions involved in this suit occurred. Alberger v. Bank, 123 Mo. 313 , 27 S. W. 657 ; Slavens v. Drug Co., 128 Mo. 341 , 30 S. W. 1025 ; Schufeldt v. Smith, 131 Mo. 280 , 31 S. W. 1039 , 29 L. R. A. 830, 52 Am. St. Rep. 628 . The same conclusion is reached by the supreme court of Minnesota in the case of Hospes v. Car Co., 48 Minn. 174 , 50 N. W. 1117 , 15 L. R. A. 470, 31 Am. St. Rep. 637 , and by the supreme court of the United States in Fogg v. Blair, 133 U. S. 534, 541 , 10 Sup. Ct. 338, 33 L. Ed. 721 , and in Hollins v. Iron Co., 150 U. S. 371 , 14 Sup. Ct. 127, 37 L. Ed. 1113 . In the latter case the court, after reviewing the authorities bearing directly and indirectly on the status of 'the property of corporations after they become insolvent, concludes that the only trust attached to such property is in the administration of the assets after possession is taken by a court of equity, and is not a trust attached to the property, as such, for the direct benefit of either creditor or stockholder. Such being the law, it follows that an insolvent corporation may, in the exercise of its jus disponendi, prefer one creditor to another. The remaining question is whether it may prefer its own directors, if they happen to be creditors.

The relation of directors to their corporation is undoubtedly that of agents to principal. As such, they are charged with the duty of serving their principal faithfully, and with an eye single to its best interests. Their own personal welfare must at all times be sub *788 servient to that of their principal. But this obligation ought not to be an insuperable barrier to the performance of their duty. Many cases may arise, and the one now under consideration fairly illustrates them, in which, by reason of the financial condition of their principal, it becomes impossible to borrow money from outsiders, and when a timely loan or forbearance in the enforcement of demands may bridge it over and start it on a successful career. The directors, of all others, best know the conditions and circumstances, and may be the only ones from whom succor can come. To say that they are so bound by a strict rule prohibiting contracting with themselves as to foreclose the possibility of securing aid is, in our opinion, carrying the rule beyond its reason. If they may contract with themselves, obviously they may thereby entitle themselves to all the incidents to such contract, and among them is the right to resort to all legal methods of securing the payment of their demands. This last-mentioned right, as said in Duncomb v. Railroad Co., 84 N. Y. 190 , is equally true whether the pledge be taken for a present or precedent debt. The temptations to self-aggrandizement and dishonesty are, of course, great, and require the utmost good faith, on the part of directors, and subject them and all their acts to the most rigid scrutiny. Their relations to the corporations are of that intimate and fiduciary character that they are very properly held, whenever their acts are questioned, to assume the burden of proving their absolute good faith and the perfect justice of their demands. The following authorities sustain the principles just announced: Foster v. Planing Mill Co., 92 Mo. 79 , 4 S. W. 260 ; Schufeldt v. Smith, supra; Butler v. Mining Co., 139 Mo. 467 , 41 S. W. 234 , 61 Am. St. Rep. 464 ; Garrett v. Plow Co., 70 Iowa, 697 , 29 N. W. 395 , 59 Am. Rep. 461 ; Duncomb v. Railroad Co., supra; Harts v. Brown, 77 Ill. 226 ; Stratton v. Allen, 16 N. J. Eq. 229; Bank of Montreal v. F. E. Potts Salt & Lumber Co., 90 Mich. 345 , 51 N. W. 512 .

In Brown v. Furniture Co., 7 C. C. A. 225 , 231, 58 Fed. 286, 292 , 22 L. R. A. 817, 823, Judge Taft, speaking for the court of appeals for the Sixth circuit on this general subject, after reviewing the cases, says:

“Several cases have been cited, some of them decisions of circuit courts of the United States, in which it has been held that, while it is lawful for a corporation to prefer creditors, it is not equitable or permissible for directors of a corporation to prefer themselves, even if they are bona .fide creditors, because they are trustees. It may be conceded that the trust relation justifies and requires courts of equity to subject preferences by an insolvent corporation of its own directors to the closest scrutiny, and places the burden upon the preferred director of showing beyond question that he had a bona fide debt against the corporation; but we do not see why. if a corporation may prefer one creditor over others, it may not prefer a director who is a bona fide creditor. Preferences are not based on any equitable principle. They go by favor, and as an individual may prefer, among his creditors, his friends and relatives, so a corporation may prefer its friends.”

In the case of Gould v. Railway Co. (C. C.) 52 Fed. 680 ; Judge Caldwell had occasion to review the authorities on this subject, and concludes as follows:

“The corporation is under thq same obligation to pay a bona fide debt due to one of its directors and stockholders that it is to pay a debt due to *789 a stranger, and a security given for a debt due to a stockholder is as valid as a security given to any other creditor. The doctrine established by the best considered cases and by the decisions of the supreme court of the United States is that the mere fact that the creditors of a corporation are directors and stockholders does not prevent their taking security to themselves as individuals to secure a bona fide loan of money previously made to such corporation, and used by it in conducting its legitimate corporate business.”

The supreme court of the United States, in Richardson’s Ex’r v. Green, 133 U. S. 30 , 10 Sup. Ct. 280, 33 L. Ed. 516 , in treating of the subject in hand, says:

“Undoubtedly his [Richardson’s] relation as a director and officer or as a stockholder of the company does not preclude him from entering into contracts with it, making loans to it, and taking its bonds as collateral security; but courts of equity regard such personal transactions of a party in either of these positions, not, perhaps, with distrust, but with a large measure of watchful care, and unless satisfied by the proof that the transaction was entered into in good faith, with a view to the benefit of the company as well as of its creditors, and not solely with a view to his own benefit, they refuse to lend their aid to its enforcement.”

See, also, Twin Lick Oil Co. v. Marbury, 91 U. S. 587 , 23 L. Ed. 328 .

The facts of the case now under consideration bring the banks’ and Revy & Bros.’ demands fully within the most stringent rule announced in the foregoing authorities. Their demands, for which they took security upon the property.of the mercantile company, were not only just and legal, but, in our opinion, highly meritorious. They had not only forborne to assert them for a long period of time, but had advanced a large amount of money in the earnest and honest effort to extricate the mercantile company from its difficulties. They had not injured the plaintiff in error, but had materially improved its condition. No others are complaining, and, in our opinion, the plaintiff in error has no ground for so doing.

Counsel for plaintiff in error insist most strenuously that the evidence discloses a secret manipulation of the property of the mercantile company by the banks and Revy & Bros., with the intent and purpose of fraudulently converting it to their own use, while they, under the guise of conducting the business in the name of the mercantile company, lulled the plaintiff in error and other unsuspecting creditors into a sense of security. They assume and assert that in the creation and execution of the scheme inaugurated on March 29, 1895, the deliberate intention was; First, that the scheme should be kept secret; second, that all persons dealing with the mercantile company should continue to believe that the corporation was standing on its own feet, with no change in its corporate management or control; third, that fraudulent credit should thereby be secured. On these assumptions they construct an argument, but the assumptions are not supported by proof. As already disclosed, there is no substantial evidence of secrecy in devising or executing the scheme, or of any attempt to cause any one to believe that there was no change in the management of the company, and certainly no evidence of any attempt to secure fraudulent credit. The fact is conspicuous in this case that in March, 1895, there were no other unsecured creditors *790 besides the banks, Levy & Bros., and plaintiff in error, and- there is no evidence whatsoever that any other credit was after that desired or secured;, and there is affirmative, uncontradicted testimony that the plaintiff in error itself was in no manner injured by any of the acts of the banks and Levy & Bros., or their representatives,—on the contrary, that plaintiff in error was substantially benefited thereby. For want of necessary evidence, therefore, the case largely relied upon by counsel for plaintiff in error (American Oak Leather Co. v. United States Rubber Co., 37 C. C. A. 599 , 96 Fed. 891 , decided by the court of appeals for the Seventh circuit) has no application. Not only is this true,- but plaintiff in error has been deprived of this supposed bulwark by the recent reversal of the case by the supreme court of the United States. See United States Rubber Co. v. American Oak Leather Co., 181 U. S. 434 , 21 Sup. Ct. 670, 45 L. Ed. 938 . It results, therefore, that there was neither actual nor constructive fraud in the transactions complained of.

It was suggested by counsel in their argument that the chattel mortgage and deed of trust were inoperative and void because executed on behalf of the mercantile company by W. C. Glass, the vice president, instead of by the president. All that need be said concerning this is that there is no assignment of error predicated upon an}' such defective execution of the instruments in question, and, even if there were, it would have no merit, because, under the provisions of section 982 of the Revised Statutes of Missouri of 1899, it is made lawful for any corporation to convey lands by deed sealed with the common seal'of the coi'poration, and signed by the president, vice president, or presiding member or trustee of the corporation. That section fully warranted the execution of the deed of trust iir question. Section 954 of the same statutes empowers the directors to elect a preside-nt and appoint a treasurer and secretax-y,' and such other officers and agents as shall be prescribed by the by-laws of the company. The by-laws, which are adopted by the stockholders, determine the agents so to be appointed and their powers. The record shows that the vice president was authorized by the board of directors to execute the instruments, including the chattel mortgage in question. Plaixrtiff in error failed to disclose what powers were vested ixi the vice president, and certainly failed to show that he was not empowered to execute the instruments. The burden was 0x1 it to make this showing, if the facts warranted it. Having failed to do so, it will be presumed that the agent who xnight have exercised the power in question was duly authorized to do so, and that he properly and lawfully executed the chattel mortgage.

There are several assigximents of error relating to the court’s action in rejecting testimony. On a careful consideration of them, we find that some of them are not predicated on any proper exceptions taken at the time of the ruling. The others relate to the exclusion of some details of evidence, which, if material, were fully covered by other evidence found in the record.

We are of opinion.that there was no substantial evidence to support the. issue raised by plaintiff in erx-or in the garnishment case, axxd no wrotig done to plaintiff in error in the course of the trial. The judgment must therefore be affirmed.