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June 13, 1955

Willis D. WOOD, Anna M. Wood, Union College, Milbank Foundation, and John Vanneck, Marie Louise Bailey and Barbara Bailey Vanneck, as Executors of the Estate of Frank Bailey, deceased, Plaintiffs,
UNITED STATES of America and Western Maryland Railway Company, Defendants, and Interstate Commerce Commission and Baltimore and Ohio Railroad Company, Intervening Defendants

The opinion of the court was delivered by: LEIBELL

This is an action under Title 28 U.S.C. § 1336, to enjoin, set aside and annul an order of Division 4 of the Interstate Commerce Commission, dated October 14, 1954. *fn1" A subsequent order made in a General Session of the Commission on February 21, 1955 *fn2" denied reconsideration of the October 14, 1954 order and made said order effective as of February 21, 1955. The order of October 14, 1954 approved, with some slight modifications, a Plan *fn3" filed by Western Maryland Railway Company April 1, 1953 for alteration and modification of its capital stock structure. *fn4" The primary objective of the Plan of Western Maryland was the elimination of the dividends which had accumulated on its first preferred stock in the years 1921 to 1939 and the issuance of stock in place of the dividend arrearages. *fn5"

The plaintiffs, owning a total of 2760 shares of the first preferred stock of Western Maryland, intervened before the Examiner in opposition to the Plan *fn6" and supported before Division 4 the Examiner's adverse report.

 The Baltimore and Ohio Railroad, as the beneficial owner of about 94% of the first preferred stock, intervened in support of the Plan. In addition to its holdings of first preferred stock, B & O also owned about 13% of Western Maryland's second preferred stock and almost 30% of its common stock. Its holdings of all classes of Western Maryland's stock totaled 334,177 shares, or about 43%.

 Because the B & O's holdings of stock in a competing railroad, the Western Maryland, was so large as to give it control of Western Maryland, the I.C.C. had issued a restraining order in January 1930. (I.C.C. v. Baltimore & Ohio Railroad Co., 160 I.C.C. 785.) In order to meet the provision of that order that B & O divest itself of voting control of Western Maryland the B & O deposited its Western Maryland stock with the Chase National Bank, as trustee, under a trust agreement, dated January 13, 1932 (supplemented December 1, 1942) which gave Chase, as trustee, a proxy to vote Baltimore & Ohio's stock in Western Maryland.6A The extent of that proxy and the scope of the trust agreement -- whether they were limited to matters connected with management and control of Western Maryland and whether Baltimore & Ohio, as beneficial owner, retained the right to vote the stock on any plan for the reorganization of the capital structure of Western Maryland -- were among the points argued before the Commission and this Court. Plaintiffs contend that B & O did not have the right to vote its first preferred stock in favor of the Plan and that therefore the Plan lacked the necessary 75% of assents from the first preferred stockholders. 20b(2) of T. 49 U.S.C.A. The Commission has ruled that the right to assent6B the stock rested with B & O as the beneficial owner of the shares. Of course, Chase did not vote the stock.

 The April 1, 1953 plan of Western Maryland was assented to without objection by the second preferred stockholders and by the owners of the common stock. The Baltimore & Ohio voted all its stockholdings in favor of the Plan. What the B & O would receive under the Plan would increase the percentage of B & O's total stock ownership in Western Maryland from 43.3% to 56.8%. There were advantages that Baltimore & Ohio could derive from the Plan that were not available to the plaintiffs, whose ownership is limited to first preferred stock, and there appear to be certain disadvantages to plaintiffs in the Plan as approved. But it will not be necessary to discuss the merits of the Plan, in view of the jurisdictional grounds on which this Court will rest its decision.

 The opinion filed by Division 4 states: -- 'The primary objective of the applicant's proposed alterations and modifications is the elimination of the dividend arrearages on its first preferred stock thereby making a declaration of immediate dividends on its second preferred and common stocks possible; the elimination of the provisions of its first-preferred stock for unlimited cumulations of unpaid dividends; a reduction in the rate of dividends per share of first preferred stock; and the opening of a way for future equity financing'. *fn7" The plaintiff's brief in this action states that: --

 'The question raised by this case is whether the Railway, which is in good financial condition and has even better prospects for the future, nevertheless has a right to resort to Section 20b to impose upon objecting first preferred stockholders a plan to modify its capital stock structure to eliminate accumulated dividend arrears on that stock solely in order to make payment of dividends on common and second preferred stock.'

 The Examiner, who took testimony and reported on the Plan, held in effect that the Commission did not have jurisdiction to consider the Plan under § 20b of the Interstate Commerce Act, because the defendant railroad had not shown that the proposed alteration and modification was within the purposes of § 20b or met the requirements of said section. The Examiner's report (January 21, 1954) held that the railroad was in good financial condition; that it was able to meet its current obligations and all debt and dividend charges; that it had been able to pay the dividends on the first preferred stock as they accrued since 1939 and had even reduced the old accruals by a total of $ 14 a share though payments on account made in 1951 and 1952, so that the old accruals amounted to $ 126 per share, covering about eighteen years at the rate of $ 7 a share, when the Plan was filed April 1, 1953.

 The Examiner's report came on before Division 4 of the I.C.C. and that Division reversed the Examiner on October 14, 1954 by a vote of 2 to 1, and approved the Plan filed by Western Maryland, with minor modifications. Commissioner Mahaffie dissented. (290 I.C.C. 445) On reconsideration before the full Commission, the report of Division 4 was in effect upheld on February 21, 1955.

 In the present action the plaintiffs contend (1) that Western Maryland did not establish the existence of the conditions prerequisite to the exercise by the Commission of its powers under § 20(b) to reorganize the Railroad's capital equity structure; (2) that Baltimore & Ohio did not have the right to vote its stock holdings in favor of the Plan; and (3) that the Plan is inequitable and unjust and should not be imposed on plaintiffs as the holders of 2760 shares of Western Maryland first preferred stock without their consent.

 The I.C.C. and the Baltimore & Ohio have intervened as defendants in this action. 28 U.S.C. § 2323. The United States of America is party defendant as required by 28 U.S.C. §§ 2321 and 2322.

 The answer filed by the United States and the brief submitted by the Attorney General have confessed error in this case. The Attorney General contends that the proposed stock modification plan does not come within the scope of § 20b of the Interstate Commerce Act, as set forth in the Preamble to the 1948 statute of which it is a part, and that the action of the Commission was not exercised under circumstances described in and for the purposes set forth in the said Preamble of the statute, § 1 of 62 Stat. 163. The Attorney General also contends that the statutory requirement that at least 75% of the outstanding stock of each class be voted in favor of the stock modification plan was not met in this case because the Baltimore & Ohio stockholdings, which had been trusteed to the Chase National Bank, should not have been considered as having voted for the Plan. The Attorney General does not discuss the merits of the Plan.

 The brief of the Commission argues that plaintiffs misconceive the purpose of Section 20b; that the proposed Plan is in the public interest, is in the interest of Western Maryland Railway, and to the best interest of each class of stockholders of Western Maryland; that the Baltimore & Ohio had the right to vote its trusteed stock in favor of the Plan; and that the Commission's action did not deprive plaintiffs of any rights as owners of the present first preferred stock without 'due process'.

 The brief of the Baltimore & Ohio deals with the right of that railroad to accept or reject the Western maryland Plan.

 The brief of Western Maryland makes the same contentions as the Commission and the Baltimore & Ohio in support of the Plan.

 The first question to be considered is whether the requisite conditions were established to give the Commission jurisdiction to pass upon the merits of the Plan. The Commission, as a quasi judicial body, would have the power to inquire and ascertain whether facts and circumstances existed which established that the Commission had jurisdiction to consider the Plan. The Commission's findings that certain facts were established which gave it such jurisdiction are subject to court review.

 The jurisdiction conferred on the Commission to pass upon the merits of a plan submitted by a carrier to revise its capital structure, despite the provisions of the carrier's charter and the provisions of the equity securities issued thereunder, can be exercised only if a situation is presented which requires action by the Commission under § 20b. Commissioner Mahaffie, who was the father of § 20b, in his dissent to the report of Division 4 on the Western Maryland plan, stated:

 'The provisions of section 20b, under which we are called upon to set aside and nullify provisions of valid existing contracts, are not to be lightly invoked; and a plan for the alteration of a carrier's securities should be approved only where a clear showing has been made that the paramount public interest will be so promoted as to justify overriding the objections of dissenting security holders. No such showing has been made in this case'. (App. 123.)

 'Questions affecting constitutional power, statutory authority' can be raised on a resort to the courts to review an order of the Commission. Rochester Telephone Corp. v. United States, 307 U.S. 125, 140, 59 S. Ct. 754, 83 L. Ed. 1147. These are legal questions, which do not involve any invasion of the Commission's exclusive jurisdiction over matters 'which call for technical knowledge pertaining to transportation', Rochester Telephone Corp v. United States, supra, 307 U.S. at page 139, 59 S. Ct. at page 761, in which they are most expert. The main question here presented is whether the Commission acted within its statutory authority. To determine that question calls for a construction of § 20b, in particular the Preamble of the statute of which it was a part.

 The Commission contends that it did not have to be shown, before it could act on the plan, that the Western Maryland Railway had present or anticipated financial difficulties, as the plaintiffs argue. The Commission asserts that plaintiffs' contention completely overlooks one of the stated purposes of Section 20b, 'to enhance the marketability of railroad securities impaired by large and continuing accumulations of interest on income bonds and dividends on preferred stock' -- using the language of the Preamble of the statute. The following quotation from the Commission's brief states the Commission's position on this point, involving its jurisdiction over the plan under § 20b:

 'The Commission specifically found (461), and it cannot be disputed, that Western Maryland had a large ($ 126 per share) and continuing (18-year) accumulation of dividends on its first-preferred stock, that it would require a minimum of 10 years under favorable conditions, and possibly 18 or more years, for the carrier to liquidate the dividends thus accumulated, and that modification of the securities would enhance the marketability of the carrier's stock and would promote the public interest in increased stability of values of railroad securities, with resulting greater confidence therein of investors. Under those circumstances there was no necessity, under the statute or otherwise, for a showing or a finding that the carrier was in either 'present or anticipated financial difficulties."

 The above quoted paragraph discloses what appears to be the basic error of the Commission's conclusion that it had jurisdiction over the Plan. It found that there was a 'continuing accumulation' of dividends on Western Maryland's first preferred stock. The fact is that no dividends have accumulated thereon since 1939 at which time the accumulations amounted to $ 140; that in each of the years 1951 and 1952 the Railroad paid off $ 7 on account of the dividends which had accumulated prior to 1940, reducing the total old accumulation to $ 126 per share. The findings of the Commission that there was a 'continuing accumulation' of dividends on Western Maryland's first preferred is refuted by the undisputed facts.

 The Commission interprets the words 'large and continuing accumulations' as used in § 20b as meaning 'a large accumulation' that 'will continue for a long period', according to the majority opinion in 290 I.C.C. 445. That interpretation adds words to the language of the Preamble that were not used by the Congress and disregards the clear meaning of the participal adjective 'continuing' in relation to its noun 'accumulations'. The words 'continuing accumulations' mean presently continuing to accumulate, an ever growing accumulation. In addition to showing that the old accumulations were 'large' it had to be shown also that they were being added to.

 The dividend arrearages on Western Maryland's first preferred stock are not increasing and the immediate prospects are that the old arrearages will be paid off within a reasonable time and will not remain indefinitely as a blight upon the corporation, adversely affecting the corporation, its stockholders, and the public. *fn8"

 The net earnings of the Railroad have increased steadily in recent years. Its net earning for the ten years of 1943-1952 were about $ 47,000,000 compared with about $ 17,000,000 for the period of 1933-1942. For every year since 1936, except 1938, its net earnings have exceeded its first-preferred dividends. They averaged $ 30.21 per share for the period of 1948 to 1952. In 1952 they were $ 32.41 per share. *fn9" On December 12, 1953, the Railroad authorized payment of $ 10 on its first-preferred subject to approval of the Plan, and if not approved the $ 10 was to be applied to reduction of arrearages. The road's net income and the manner in which it was employed from 1923 to 1952 is shown by the following figures: -- First Preferred Period Net Income Plowed Back Dividends 1923-32 $ 19,436,679 $ 29,436,679 None 1933-42 17,282,160 11,072,460 $ 6,209,700 1943-52 47,134,802 32,231,522 14,903,280 $ 83,853,641 $ 62,740,661 $ 21,112,980

 In all the years from 1923 to 1952 Western Maryland paid out only about 25% of its net income in dividends. During that time it paid no dividends on its second preferred stock or on its common stock. Class I railroads between 1920 and 1950 plowed back less than 40% of their net earnings. The Pennsylvania paid one dollar in dividends for each dollar expended on its properties. The accruals of unpaid dividends on Western Maryland's first preferred stock would now be very small, if Western Maryland had plowed back 50% of its net income instead of 75%.

 The interest of the traveling and shipping public who use the Railroad (Western Maryland) should of course be considered in passing upon a Plan to modify its capital structure. That public interest is (as the Preamble of the statute states) 'in avoiding the deterioration of service and the interruption of employment which inevitably attend the threat of financial difficulties and which follow upon financial collapse'. The Western Maryland Railroad has comparatively little passenger traffic. The major part of its revenue is from carrying freight in bulk, principally coal and coke. There has been no deterioration in its service and no interruption of employment. The physical condition of the railroad and its equipment is good. A general description of Western Maryland's trackage, terminal, equipment and freight is set forth in the Examiner's Report, Exhibit B annexed to the complaint. *fn10" All that has been done to increase the earning power of Western maryland By plowing back 75% of its net earnings has made the prospect of any financial difficulties most remote.

 The Commission (Division 4) found 'that modification of its securities as proposed will enhance the marketability of applicant's stock and will promote the public interest in increased stability of railroad securities, with resulting greater confidence therein of investors'. The Preamble to Section 20b, Section 1 of the Act of April 9, 1948 -- 62 Stat. 162, declares that the section was in aid of the national transportation policy of the Congress as set forth in the Preamble of the Interstate Commerce Act. *fn11" It is not at all clear that the Plan of Western Maryland will enhance the marketability of its stock, as Commissioner Mahaffie points out in his dissent, or that it will increase the stability of its stock. The promotion of any public interest in the increased stability of railroad securities generally or the alleged resulting greater confidence of investors in railroad securities, would not justify any alteration and modification of the equity securities of a financially sound, efficiently equipped and well operated railroad, such as Western, Maryland, where it is not shown that there is any need for the alteration and modification. *fn12" It would not be a constitutional exercise of power under the Interstate Commerce Act and would be in violation of the 'due process' provision of the Fifth Amendment for the Commission to approve a Plan which as the Commission state in its opinion, has as its 'primary objective * * * the elimination of the dividend arrearage on its first-preferred stock, thereby making a declaration of immediate dividends on its second preferred and common stock possible', just to promote the interest of the public or of investors generally in the stability or enhanced value, of railroad stock.

 The origin of the present $ 17,760,400 par value of first-preferred stock, except for $ 20,900, *fn13" were debt obligations of members of a railroad system consolidated in 1917 into Western Maryland. The present second-preferred stock and common stock represent only preferred and common stock interests in the railroads that were then consolidated as Western Maryland. That accounts for the special priority and cumulative provisions as to dividends, which the present first-preferred stock received under the consolidation agreement. As former creditors they were entitled to it.

 Section 20b is known as the Mahaffie Act. It was adopted in 1948, 62 Stat. 163, as an amendment to the Interstate Commerce Act. It was believed that it would afford a 'more simple, less expensive and expeditious method of effectuating modification of the financial structures of railroad corporations' (senate Report No. 897 -- 80th Cong.2d Sess.1948). The Managers on the part of the House, in Conference Report No. 1603, stated that the purpose of the amendment ( § 20b) was 'to aid in assuring the continuity of sound financial condition of railroads by enabling them, so far as possible, to avoid prospective financial difficulties, inability to meet debts as they mature, and insolvency'. (See also an article by Stephen W. Tulin on 'The Full Compensation Doctrine in Corporation Reorganization' in the Yale Law Journal, Vol. 63, Number 6, p. 812 at p. 835, April 1954.)

 In his dissenting opinion on the Western Maryland Plan, Commissioner Mahaffie stated:

 'Applicant is not faced with any prospective financial difficulties, and the favorable terms upon which it recently has been able to market its securities do not indicate that the arrearages on its preferred stock has affected its credit substantially. Applicant has no plans for, and there is no prospect of any early equity financing, * * *. (Its president so testified.) The annual dividend requirement on the new preferred stocks will greatly exceed such requirement on its presently outstanding preferred stocks. If full dividends on the new preferred stock are earned and paid every year, with enough earnings over to make the new preferred stock sinking fund payments, it would take 100 years, through operation of the sinking fund, to reduce the annual preferred stock dividend requirements to the annual requirements of the present preferred stocks. In my opinion, the proposed increase in preferential stock will detract from, rather than enhance, applicant's ability in the future to resort to equity financing if conditions should make such financing feasible and desirable. Nor am I convinced of the soundness of the finding that under the plan now approved holders of the applicant's first preferred stock will receive securities 'at least equal' to the value of those surrendered. They now have priority as to any earnings distributed. This plan dilutes that priority.'

 The Commission's ruling that the requisite facts had been established to give it jurisdiction to pass upon the merits of the Plan and that the Plan came within the scope and purposes of § 20b was erroneous.

 There remains the question involving the right of the Baltimore & Ohio to vote its holdings of Western Maryland stock in favor of the Plan. The stock is registered in the name of the Baltimore & Ohio. It was trusteed to comply with an order of the Commission, dated January 13, 1930, requiring B & O to divest itself of control of Western Maryland. The Commission passed upon the trust agreement in 1932 and apparently it was satisfied that its terms would prevent the Baltimore & Ohio from exercising control over the operations of a competing line, the Western Maryland. Under the trust agreement the Baltimore & Ohio reserved the right to sell its stock interest. The right to assent to the plan of alteration and modification of Western Maryland's outstanding preferred and common stock, was an incident of the Baltimore & Ohio's beneficial ownership of the stock, which had nothing to do with control of Western Maryland by B & O. The stock to be issued under the Plan would be subject to the restrictions of the trust agreement. The B & O stock ownership in Western Maryland was not barred from assenting by the provisions of 20b(3) of T. 49 U.S.C. Chase, as trustee of the B & O stock, did not and could not assent to the Plan. B & O, as the beneficial owner of the stock, could and did.

 The Commission's reason for requiring B & O to deposit its stock under the trust agreement, was that thereby the B & O would cease to control the Western Maryland, since that control (absent Commission approval) was unlawful. See I.C.C. v. B & O, 160 I.C.C. 785 and 183 I.C.C. 165, cf. Alleghany Corp. v. James Foundation, 2 Cir., 214 F.2d 446. If the trust agreement had reserved in B & O the power to consent to such a Plan, it still would not have left the B & O with any vestige of control over Western Maryland. Had the B & O asked the Commission to allow the trust agreement to be amended to include such a reservation, no doubt the Commission would have granted the request. See, e.g., the reservations in the trust agreement, re the stock of Western Pacific, found in the record in Alleghany v. James Foundation, 2 Cir., 214 F.2d 446. The majority of the Commission, in the instant case, in effect interpreted the trust agreement as impliedly including the necessary reservation. The Commission's interpretation of the purpose, scope and meaning of the trust agreement, and of the rights the Baltimore & Ohio retained in its Western Maryland stock under the terms of the trust agreement, should carry great weight with this Court.

 The Commission's ruling that the Baltimore & Ohio, as the beneficial owner of its stock in Western Maryland, had the right to assent to the Plan submitted by Western Maryland, and that the requisite 75% of the stock of all classes of stock assented to the Plan was correct.

 The plaintiffs are entitled to a decree setting aside the order of Division 4 of the Interstate Commerce Commission, dated October 14, 1954, and enjoining the Commission from giving effect to its said order approving the Plan of Western Maryland, dated April 1, 1953, to alter and modify its capital stock structure.

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