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FIRST NATL. BANK OF HOLLYWOOD v. AMERICAN FOAM RUB

July 23, 1969

FIRST NATIONAL BANK OF HOLLYWOOD, Dorothy Buchman and A. Sander Buchman, as Executors of Samuel Buchman, Deceased, Plaintiffs,
v.
AMERICAN FOAM RUBBER CORPORATION, Milton R. Ackman, as Trustee of A F R, Marie Louise deMontmollin, Alexander F. Pathy and Suzanne M. Pathy, Defendants


Cooper, District Judge.


The opinion of the court was delivered by: COOPER

COOPER, District Judge.

American Foam Rubber Corporation (hereinafter AFR) was organized in 1950 under the laws of the State of New York. From the time of organization until May 17, 1957, Samuel Buchman served as its president and operating head. On the latter date an agreement (hereinafter the Buy-Sell Agreement) was entered into between Buchman and the individual defendants, Alexander F. Pathy (hereinafter Pathy), Suzanne M. Pathy (Pathy's wife) and Marie Louise deMontmollin (also a relative), under the terms of which Buchman sold his entire stock interest in AFR and Burlington Holding Corporation (hereinafter Burlington) *fn1" to the individual defendants and resigned as an officer and director of AFR. *fn2" AFR's business was thereafter conducted by Pathy as president and the other individual defendants as officers and directors.

 To induce Buchman to sell his capital stock, Pathy and deMontmollin agreed to subordinate certain debentures of the corporations then held by them to the rights of holders of specified debentures then held by Buchman. The terms of this subordination are embodied in subparagraph A of the SIXTH paragraph of the Buy-Sell Agreement:

 
The parties named below hold five (5%) percent registered debentures issued by American Foam or Burlington in the following respective amounts:

  AMERICAN FOAM AMERICAN FOAM BURLINGTON SERIES A DEBENTURE SERIES B DEBENTURE DEBENTURE NAME OF DUE DUE DUE HOLDER MAY 1, 1960 MAY 1, 1965 *fn3" APRIL 1, 1960 SAMUEL BUCHMAN $48,000 $64,000 $12,000 MARIE LOUISE de- MONTMOLLIN 63,000 79,000 15,000 ALEXANDER F. PATHY -0- 80,000 -0-

 
To induce Samuel Buchman to sell his capital stock hereunder, Marie Louise deMontmollin and Alexander F. Pathy hereby agree with respect to the debentures of each of said corporations that the rights of any holder (including her or him) of the debentures thereof now held by her or him and referred to above, be subordinated to the rights of any holder or holders of the debentures thereof now held by Samuel Buchman (including him) as to the payment of interest and principal. No claim for interest under the debentures so subordinated shall be made unless all interest payable on the debentures now held by Samuel Buchman shall have been paid in Full, and no claim for principal under any of the debentures so subordinated shall be made unless the entire principal of all the debentures now held by Samuel Buchman shall have been paid in full.
 
If for any reason, either corporation shall pay interest or principal on said debentures to any of the Buyers, or to any person deriving title to the debentures of said corporation from any of the Buyers, and said payment shall be made without first satisfying the priority to which the holder or holders of Samuel Buchman's debentures are entitled by reason of the foregoing provisions, the amount or amounts of the payment so made to the Buyer (or to the person deriving title from her or him) shall be promptly paid by such Buyer to said holder or holders of Samuel Buchman's debentures. Any payment made on account of principal shall be endorsed on said debentures, which shall be submitted to the payor for that purposes.

 On June 1, 1957, Pathy sold his Series B AFR debentures to deMontmollin for $80,000 and received such amount from her in payment thereof. (PTO 39.) *fn4"

 In April 1958, "the individual defendants in their capacities as officers, directors and stockholders of AFR caused the certificate of incorporation of AFR to be amended so as to provide for 3,500 shares of 5% cumulative preferred stock of the par value of $100 each * * *." (PTO 40.) At a special meeting of AFR's Board of Directors held on April 23, 1958, it was resolved that shares of the new 5% cumulative preferred stock be issued in exchange for AFR Series A and Series B debentures and 5% promissory notes surrendered to the corporation at the rate of one share of stock for each $100 face amount of said debentures and notes. (EX.FD.) *fn5"

 In May 1958, deMontmollin surrendered AFR debentures and notes owned by her in the aggregate face amount of $291,000 to AFR and received in exchange therefor 2,910 shares of preferred stock. In December 1959, deMontmollin surrendered additional AFR debentures and notes in the total face amount of $31,000, which she owned, and received in exchange 310 shares of preferred stock. (PTO 40.)

 On April 1, 1960, the Burlington debentures held by Buchman and deMontmollin became due. Buchman was paid the interest and $12,000 principal owing on his Burlington debentures on or about their due date. (PTO 38.) deMontmollin's Burlington debentures in the amount of $15,000 were also discharged and she received a credit for that amount on Burlington's books. She then loaned this same $15,000 to AFR, then the parent company of Burlington, and received a note from AFR in that amount.

 Buchman was paid the interest and principal amount owing on his Series A AFR debentures on or about their due date, May 1, 1960. (PTO 38.)

 On January 17, 1961, AFR filed a voluntary petition for an arrangement under Chapter XI of the Bankruptcy Act and was duly adjudged a bankrupt on February 21, 1961. A Trustee in Bankruptcy was appointed on February 23, 1961. (PTO 2 and 3.) The Trustee has insufficient assets in his hands to pay in full the liabilities of said bankrupt. (PTO 5.)

 While Buchman was paid interest on his Series B AFR debentures until and including August 1, 1960, he has been paid neither any part of the $64,000 principal nor any interest thereon falling due after August 1, 1960. AFR's Series B debentures were due on August 1, 1965. (EX. 37.)

 Claiming breach of the subordination provisions of the Buy-Sell Agreement, Buchman instituted suit against the individual defendants in June 1960. (Buchman died on November 4, 1965 whereupon plaintiffs herein were duly appointed executors of his estate.) Jurisdiction is based upon diversity of citizenship. The complaint, as amended by the Pre-Trial Order, asserts that each of the three transactions enumerated above, to wit, the sale of Pathy's Series B AFR debentures to deMontmollin, the exchange of deMontmollin's AFR debentures for preferred stock, and the discharge of deMontmollin's Burlington debentures and loan by her of $15,000 to AFR, constituted a breach of the subordination provisions. Relief is sought against the individual defendants, jointly and severally, in the amount of $64,000 with interest from June 1, 1957.

 The issue confronting this Court, as framed in the Pre-Trial Order, is rather simply stated: "Did the individual defendants by their actions and conduct breach the subordination provisions of the May 17, 1957 agreement [Buy-Sell Agreement] entered into by them with Samuel Buchman?" (PTO VIII(a).) It is to a closer look at each of the transactions in question that we now turn. *fn6"

 The Sale Transaction

 On June 1, 1957, Pathy sold his Series B AFR debentures to deMontmollin receiving $80,000 from her in payment thereof. Plaintiffs contend that this transfer of debentures constituted a breach of the subordination provisions of the Buy-Sell Agreement.

 In an attempt to establish such breach, plaintiffs have endeavored to draw a distinction between the second and third paragraphs of subparagraph A of the SIXTH paragraph of the Buy-Sell Agreement. Plaintiffs argue that while the third paragraph covers only payments received from the corporations on the debentures, the second paragraph is not so restricted in terms of "source of payment." Relying on this presumed distinction, they contend that the proceeds of the sale should have been used to reduce the amounts owing on Buchman's debentures. *fn7"

 This argument is rebutted by the unambiguous language of the subordination provisions themselves. The clear purport of those provisions was to prohibit the individual defendants from receiving any payment of principal or interest from the corporations on their debentures until Buchman's debentures had been satisfied in full. Payment, upon sale and transfer of the debentures, from a source other than the corporations (here deMontmollin) was not prohibited by the provisions in question.

 It is equally clear from the language employed that the possibility of future transfer of the debentures was recognized and permitted by the parties. The subordination provisions contemplated the possibility of holders of the debentures other than Pathy and deMontmollin and expressly provided for subordination of the debentures in the hands of "any holder." *fn8"

 Pathy's sale of his Series B AFR debentures to deMontmollin did not breach the subordination provisions of the Buy-Sell Agreement; his debentures (now owned by deMontmollin) remained subordinated to the debentures held by Buchman. *fn9"

 We recognize that the transfer of Pathy's debentures may have violated the terms of the Subordination Agreement (Exhibit EN-1) entered into between The Pennsylvania Company for Banking and Trusts (hereinafter the Pennsylvania Bank), AFR, and Buchman, Pathy and deMontmollin. *fn10" Breach, if any, of that agreement, however, is not the issue presently confronting us; the Pennsylvania Bank is not a party to the instant suit. Our concern rather is with an entirely separate agreement, the terms of which vary widely from those of Exhibit EN-1. Paragraph 9 of that exhibit, supra note 10, typifies language used where transfer of the subordinated debt is sought to ...


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