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Matters v. Manufacturers' Trust Co.

November 16, 1931


Appeal from the District Court of the United States for the Southern District of New York.

Author: Hand

Before L. HAND, SWAN, and AUGUSTUS N. HAND, Circuit Judges.

L. HAND, Circuit Judge.

The R. B. Rose Co., Inc., was a retail seller of radio machines; it was organized in September, 1924, and expanded quickly, but by the autumn of 1927 its fortunes started to wane, due to a change in the market, which began to demand radios that could be used with ordinary domestic current, in stead of being equipped with a battery. The company dealt in the old machines, and in October its sales fell to about $300,000 as against twice that amount for the preceding year; in November to $430,000 against $646,000; in December to $600,000 against $750,000; and in January, 1928, to $215,000 against $470,000. Thus for the four months its total sales had been only sixty per cent. of the year before, though its overhead had not been correspondingly reduced. The District Judge found, and the defendants do not dispute, that on January 31, 1928, this had brought about an insolvency in the sense that a fair valuation of the assets would not pay the liabilities. The balance sheet prepared as of that date showed, it is true, apparent assets of $887,000 and liabilities of $746,000; but of the assets the merchandise inventories accounted for about $560,000, of which not more than forty per cent. could be recovered, unless the business went on for a period of two or three years. The net worth of the assets should therefore be decreased by about $330,000, and, as there were also accounts of about $43,000 which were not collectible, the deficiency was not far from $250,000. Rose was the president and manager, and he kept daily track of the sales; but it is in dispute when he learned of the financial condition at the end of January. His bookkeeper gave him on February eighteenth a statement as of January thirty-first, or December thirty-first, and it seems to have been assumed by all parties that it was the first, though, so far as we can see, this is uncertain except for the improbability that it should take nearly seven weeks to draw off such a statement. However, even if the statement which he got was as of December thirty-first, it would make no difference, because though this showed assets of over a million dollars and liabilities of eight hundred thousand, there was nevertheless a deficiency, similarly calculated, of about $160,000. Whichever it was, it satisfied Rose that if he could not finance his company by outside means, he was at the end of his tether. He knew that he could not get any further renewals of notes, aggregating $125,000, which would fall due within ten days.

The company had three bank accounts, one of which plays no part here. Another was with the Capitol National Bank, and went back a long time. This was the bank which held the two notes, one of $25,000 maturing on the fourteenth of February, and the other, of $100,000 on the twenty-seventh. It also held four trade acceptances drawn by a defendant, the Freed-Eisemann Company, aggregating about $44,000, and accepted by the Rose Company for merchandise purchased. These fell due between the sixth of April and the seventeenth of May. Freed and Eisemann together held about one-third of the Rose Company stock, and had a representative upon its board, and Rose knew that the Capitol Bank held this paper. On January sixteenth he opened another account with the Seventh National Bank, with which he had coquetted a little in the preceding summer, and which held two more of the Freed-Eisemann acceptances, which were of long standing, had been paid in part and renewed, and which aggregated about $30,000, and fell due on April tenth and thirteenth. Rose also knew that this bank held these. Upon his knowledge as to the place of discount of all the acceptances, Austrian's testimony is conclusive in spite of Rose's equivocation. On the first of February he had $60,000 of overdue merchandise bills, and merchandise notes of about $260,000, counting the acceptances just mentioned; $71,000 on deposit with the Capitol Bank and $26,000 in the Seventh.

The smaller of the two notes held by the Capitol Bank was paid on the fourteenth, when it fell due, by charging it off against the company's balance. The account on the thirteenth had been $34,000 and remained substantially unchanged after the charge, because of a deposit of a little over $25,000 on that day. Rose was continually using it for his needs, paying a few of his creditors out of it, though keeping off most after the tenth, in spite of some pressure. The account fell to $30,000 on the sixteenth, but thereafter grew daily with one exception, until, on the twenty-fifth, it had reached $128,000. On the twenty-seventh the bank charged off the second note of $100,000 then due, and the account later fell from $25,000 on that day to $22,000 on March fifth. Thereafter it again grew till on the sixteenth it was $53,000, and closed at $44,000 on the seventeenth, the day when the company filed a voluntary petition. Thereupon the bank exercised its right to accelerate the four trade acceptances, and paid them off, leaving a small balance, which was turned over to the bankruptcy receiver. The case against it was based upon the theory that payment of both notes and of trade acceptances were preferential transfers under section fifteen of the New York Stock Corporation Law, Rose having built up his deposits with intent not to draw them down below the necessary amount to cover his debts until their maturity or his bankruptcy. At the time when these transactions took place, the statute charged the transferee without regard to notice; it has since been changed.

The deposit in the Seventh Bank, fluctuated between $26,000 at the beginning of February, and $4,700 on the fourteenth. It grew to $24,500 on the seventeenth, but fell to $7,000 on March first, where it remained until the eighth, between which time and the bankruptcy it rose to $40,000 -- $10,000 more than enough to cover the two trade acceptances. This bank adopted a different course from the Capitol. It did not at once charge off the deposit against the acceptances, but placed it in a special account, until they fell due, when it charged them against it, after presenting them for payment to the Freed-Eisemann Company, and upon dishonor, protesting them in due course. It does not indeed definitely appear that it did this in the case of both; the only notice of protest in evidence is that of the acceptance falling due on April eleventh. The parties seem however to assume that the same course was taken as to the second.

On February twentieth Austrian, who was the bankrupt's vice president and had charge of the selling, suggested to Rose that they sound out the Davega Company, with a view to taking over the insolvent and assuming its indebtedness. Negotiations were opened and went along until March sixth, when they substantially ended in Davega's offer to pay thirty-three per cent. of the claims, or fifty per cent. in its own stock, though they flickered along to final extinction on the ninth. It is the position of the banks that while they lasted, their pendency contradicted Rose's preferential intent.

On either the twenty-third or the twenty-seventh -- the date being uncertain -- Rose and Eisemann had a conference at the home of Eisemann's father, who was a director in the Capitol Bank. Eisemann had already heard of the Davega negotiations and the purpose of the interview was probably to discuss the bankrupt's affairs and what kind of showing it could make. The parties had before them a schedule showing the total accounts payable on February twenty-third amounting to $620,000, also a notice from the bank that the note of $100,000 would be due on the twenty-seventh, and a statement of the bank balances as of the twenty-third, $150,000.

Upon these facts the District Judge charged the bankrupt with an intent to prefer only after February twenty-seventh, the date of payment of the second note, credited the banks with the accounts on that day and charged them with the final balances. This resulted in a small recovery against each. The Capitol Bank had merged meanwhile into the Manufacturers' Trust Company and the Seventh into the Municipal Bank & Trust Co., who are the defendants. The Municipal Bank & Trust Co. was in turn merged with the Bank of the United States; but all these mergers we may disregard for simplicity. The judge charged the Freed-Eisemann Company, which had meanwhile gone into receivership, with the same amounts. The plaintiff and the two banks appealed.

Deposits in a bank which holds a depositor's paper, may be a preference under section 15 (Stock Corporation Law N.Y. [Consol. Laws, c. 59]); we so held in Kolkman v. Mfrs. Trust Co., 27 F.2d 659. The defendants in effect ask us to overrule that decision, relying upon New York County Nat'l. Bank v. Massey, 192 U.S. 138, 24 S. Ct. 199, 48 L. Ed. 380; Studley v. Boylston Nat'l. Bank, 229 U.S. 523, 33 S. Ct. 806, 57 L. Ed. 1313; our own decision in Murray v. Corn Exchange Bank (D.C.) 31 F.2d 373, affirmed (C.C.A.) 31 F.2d 375, and several other decisions. It is true, as these hold, that a deposit made in ordinary course of business, over which the depositor means to keep full control, is not a preferential transfer. The Bankruptcy Act (11 USCA) and section 15 after its amendment (Laws 1929, c. 653) charge the transferee only when in privity with the transferor; and, in a case like this, if there is to be a recovery, the bank must understand that the account is being built up so as to be available at the proper time for seizure. However, under section fifteen before its amendment no proof of such participation was necessary, and it was enough that the depositor alone intended not to use his right of withdrawal until the bank's right ended it. The deposit becomes a transfer because the depositor means it to be such; that is, he means not to exercise his right of withdrawal as to all of it, but to leave some part until that right is gone. It is not necessary that the residue shall be determinable in advance; no more need appear than that some part shall be left. When this is so the deposit is not in ordinary course; the part unused becomes a preferential payment when seized by set-off.

In the case at bar we can beyond any question fix Rose's knowledge of his insolvency as early as February eighteenth, when he got the statement, and on all the proof we think that it should be put back at least a week earlier. He began on the tenth to stop payment of his ordinary bills as they fell due; he even refused to sign routine cheques prepared for that purpose. They were payable according to his custom on that day, and as a result the unpaid accounts went up from $56,000 to $129,000.The first note was due in four days and it was absolutely necessary that it should be paid. His aggregate balances on the tenth had fallen from $86,000 to $41,000, and his insolvency was imminent in the sense that he could not pay in due course; indeed he was in that sense insolvent already. His chance of surviving depended upon how far his sales had picked up and of these he learned from day to day. The season was approaching when business was always bad; he had substantially run through the period when he could hope to recoup, and it had failed him. Some of his testimony indeed lends support to the plaintiff's argument that he had concluded nearly four weeks earlier that he could not pull out, but at best we can defer that time no later than the tenth. In these circumstances we think that his deposit of $25,574 on the fourteenth was made with preferential intent; that it was intended to pay the note admits of no doubt, the balances before and after it, were substantially the same.

Now it is true that on the fourteenth the bank had a right of set-off against the existing balance of $32,000. It was, so to say, in the position of a bona fide purchaser to that extent, and the preferential payment should not for this reason be recovered. This was the ruling in Kolkman v. Manufacturers' Trust Co., though to be sure the note there was not due when paid. But it really makes no difference here that we cannot treat that payment as a preference; because if the note be charged against the pre-existing balance, it must be regarded as reduced pro tanto, and the payment made on the fourteenth becomes a deposit against the note of $100,000 due on the twenty-seventh. So long as it was made with intent to prefer, it is immaterial whether it be allocated to the first note or to building up the account against the second. On the sixteenth the balance had fallen to $30,000, but the bank is entitled to that credit only if it is charged with the $25,000 note. If not, the balance must be regarded on that day as $5,000. The account itself shows beyond fair question that between the sixteenth and the twenty-seventh Rose was building it up to meet the second note. Though he was using it generally for his needs, it grew steadily till there was left on the twenty-seventh only $25,000, which, with $11,000 in the Seventh, was not a large working balance. However viewed, we find that he had preferred the Capitol Bank to the extent of $95,000.

We have not considered the effect of the Davega negotiations. Austrian first suggested these to Rose on the twentieth and they were shortly thereafter under way. It does not appear that they ever gave any prospect of paying creditors in full, nor indeed that Rose so supposed, though he says he always had hopes of them. When the Davega Company did make an offer on March sixth, it was to pay only one-third of the debts in cash, and the most visionary hopes were gone. Even at the outset their possibilities did not contradict Rose's preferential intent; they offered only an odd chance which we do not believe he took for more. It is still a preference if a debtor, knowing that he is insolvent, selects one creditor, though he believes that he may not go to the wall, if the dice fall right. He ...

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