(D.C. No. 62-176 in Bankruptcy) APPEAL FROM THE ORDER OF THE UNITED STATES DISTRICT COURT FOR THE WESTERN DISTRICT OF PENNSYLVANIA
Before FORMAN, ADAMS and ROSENN, Circuit Judges
This is the second time this case has been here. It originated in an involuntary petition filed by four petitioners in the United States District Court for the Western District of Pennsylvania against the Trimble Company (hereinafter called the Company), incorporated in Pennsylvania in 1942, having its principal office and place of business in Pittsburgh and engaged as a general contractor constructing buildings. The Company answered, pretrial proceedings followed, and after the filing of a stipulation of facts, the matter came to trial on June 3, 1963 before the District Court, a requested jury having been waived. An understanding of the case requires the recital, as sparingly as possible, of its extensive background.*fn1
The following circumstances emerge: pursuant to an agreement dated March 12, 1958 and executed April 2, 1958, the Company purchased 8100 shares of its stock from four of its officers: William J. McMinn,*fn2 Samuel A. Robinson, Joseph J. Warren, Jr., and R. J. Marshall, the petitioners, in consideration of a payment in cash and the issuance of promissory notes to the order of each petitioner.*fn3 The stock was surrendered at the closing date, April 7, 1958, as of March 31, 1958. At the time of the transaction, the Company possessed assets of $1,674,971.78 and owed liabilities of $955,094.70. The income of the Company fell progressively from the time of the petitioners' sale of their stock. By March 31, 1961, the date of default on the notes of petitioners, its assets had dwindled to $880,801.91 and its liabilities were $891,845.56.
In July of 1960 Anthony H. Trimble and William F. Trimble advanced to the Company $40,000 and $45,000 respectively, and received therefor the Company's demand judgment promissory notes.
On or about August 1961 the Company ceased all operations except the conservation of its assets. In the pretrial proceedings the Company stated that the Trimbles, the petitioners and the Federal Insurance Company agreed that there should be no distribution to them until the dispute between the Trimbles and the petitioners was settled.*fn4
After the first default, petitioners demanded payment of all notes, alleging that the default accelerated payment on the remaining notes. Failure of the Company to satisfy any of the petitioners' indebtedness prompted them to file the involuntary petition, charging a violation of the second act of bankruptcy.*fn5
Following the trial, an order was filed in which the District Court recited that the petitioners based their status, as such, on notes in default at a time when payment thereof would have rendered the corporation insolvent. The District Court went on to hold that it is against public policy under Pennsylvania law for a corporation to pay debts arising out of purchase of its own stock, impairing its capital which should be available for its bona fide creditors. It determined that the petitioners' debts were unenforceable at the expense of such creditors, and contingent; whereby petitioners were left without standing to support their petition. The order dismissed the petition without prejudice to the rights of the petitioners to bring, in a court of competent jurisdiction, appropriate proceedings for the liquidation of the Company and a determination of their respective rights against it.
A notice of appeal by the petitioners was filed timely. It was heard before this court and determined in a filed opinion.*fn6 In it the court first gave consideration to the appellant-petitioners' contention that the District Court erred in dismissing their petition because they are creditors within the meaning of section 59 of the Bankruptcy Act as amended October 7, 1952, 66 Stat. 425. It held that as of April 7, 1958, the Company had the right to purchase its stock, pay cash and issue its notes for the balance of the purchase price. It found that while neither the Pennsylvania statutes*fn7 nor any authoritative Pennsylvania cases expressly prohibited a corporation from paying for shares of its own stock under circumstances as in the instant case, extended research of cases of other states is persuasive of the conclusion that a Pennsylvania court of statewide jurisdiction would hold that the payment of the notes in issue was unenforceable until such time as the assets of the Company were such that "payment would not violate the law."
Appellants argued alternatively that section 303 of the Pennsylvania Business Corporation Law, 15 P.S. sections 2852-303, dealing with the defense of ultra vires would bar the Company from asserting the defense of unenforceability in a suit on the notes and that it should also be barred here. As to this the court found that the Pennsylvania courts would conclude that such payment would be against public policy and would hold that section 303 of the Pennsylvania Business Corporation Law, supra, would not bar the Company from raising the statutory prohibition in a suit on the notes. Nevertheless it was held that the appellants are creditors who have provable claims against the Company "liquidated as to amount and not contingent as to liability."
The court, however, found that the matter was not yet ended. The Company by way of defense in its answer denied that it had committed the second act of bankruptcy concerning preferences as charged in the petition. It contended that petitioners are in a class subordinate to the creditors who were named in the petition, and that at the time of filing of the petition the Company had sufficient assets to satisfy the claims of creditors of the same class as the allegedly preferred creditors. As to this contention of the Company, this court took the position:
"To constitute a preference under § 60 of the Bankruptcy Act, 11 U.S.C.A. § 96, there must be (1) a transfer by a debtor of his property, (2) to or for the benefit of creditors, (3) for or on account of an antecedent debt, (4) made or suffered by such debtor while insolvent, (5) within four months of the filing of the petition, and (6) the effect of which will be to enable such creditor to obtain a greater percentage of his debt than he would be entitled to under the distributive provisions of the Act. 3 Colliers on Bankruptcy (14th ed.) § 60.34. The existence of elements 1, 2, 3 and 5 have been admitted. The trial court, although it gave no figures, found that payment of the notes would have rendered the Company insolvent if it were not already such. We agree that petitioners are in a class subordinate to the general creditors of the Company. [Cases cited.] Yet it does not follow from the existence of these facts alone that a preference has not been committed by the Company. If one or more of the creditors have obtained a greater percentage of their debts than they would have been entitled to under the Bankruptcy Act, and the other elements are present, then a preference has been made and the trial court was in error in dismissing the petition. [Cases cited.] The district court made no findings regarding this element because under its view of the law there was no necessity for it to do so. On the record before us, we are unable to determine whether or not the second act of bankruptcy had been committed by the Company. Consequently the matter must be sent back to give the district court an opportunity to make that determination. [Footnote omitted.]
"Accordingly, the judgment of the District Court will be vacated for further proceedings not inconsistent with this opinion." In re Trimble Company, supra at pp. 844-845.
On remand it appears that the Court and counsel conferred informally on August 11, 1965*fn8 and the parties agreed to file briefs and suggested findings of fact and conclusions of law embodying the directive of this court in its opinion to make findings regarding the element whether "one or more of the creditors have obtained a greater precentage of their debts than they would have been entitled to under the Bankruptcy Act."
The District Court adopted and filed on October 28, 1971 the findings of fact and conclusions of law*fn9 proffered by the amicus curiae, Federal Insurance Company, a creditor of the Company. Briefly stated, they incorporated in detail fact findings concerning the relationship of the Company and its stockholders; the sale of its stock to appellants; the loans of the Trimble brothers; the indebtedness due to Federal Insurance Company for sums it paid as surety on account of the Company's unperformed obligations; the amount of the assets and the liabilities of the Company as of February 4, 1962 and the filing of the involuntary petition four months thereafter on June 4, 1962.
Specifically, concerning the notes petitioners received for the sale of the stock, the District Court found, among other things:
"8. On March 31, 1961, when the notes securing the third installment of said purchase price were due, the Company had no unrestricted and unreserved earned surplus.
"9. On March 31, 1962, when the notes securing the fourth installment of said purchase price were due, the Company had no unrestricted and unreserved earned surplus.
"10. The Company did not pay the notes securing the third or any subsequent installment of said purchase price."
As to the Trimble notes, the Court found:
"11. On July 28, 1960, Anthony H. Trimble and William F. Trimble III paid the Company a total of $85,000, for which the Company gave them its 5 1/2% demand promissory notes....
"12. Said payments were made as loans to the Company and not as capital contributions."
Among others, the Court came to the following conclusions of law:
"3. The claims of Anthony H. Trimble and William F. Trimble III, in the total amount of $91,623.00 on June 4, 1962, are valid claims and must be taken into account on the same basis as the claims of the other creditors of the Company in determining the amount of the Company's liabilities.
"4. The claims of petitioners totaling $160,771.28 on June 4, 1962 are valid claims, but are not entitled to be paid until all the other creditors of the Company have been paid.
"5. By reason of the subordination of petitioners' claims, the assets of the Company on June 4, 1962 were sufficient to pay the claims of all the other creditors of the Company in full.
"6. The effect of such of the payments made by the Company within four months preceding the filing of the petition on June 4, 1962 as were in payment of antecedent debts of the Company was not to enable the creditors receiving such payments to obtain a greater percentage of their debts than any other creditor of the same class and did not enable such creditors to receive more than they were entitled to receive under the distributive provisions of the Bankruptcy Act of July 1, 1898 (30 Stat. 562) as amended (11 U.S.C. § 1 ff).
"7. The Company has not committed the second or any other act of bankruptcy.
"8. The petition must be dismissed, with prejudice."
On the same day the Court filed its order dismissing the petition.*fn10
The case is again here by reason of appellants' timely appeal from that order. They urge that the District Court erred in making findings of fact and conclusions of law which adjudicated claims and priorities among so-called creditors of the alleged bankrupt without a determination that the Company was bankrupt; in finding as a fact that the payments made by the Trimbles to the Company totaling $85,000, for which they received the Company's 5 1/2% demand judgment promissory notes, were loans and not contributions to the capital of the Company, and the claims of the Trimbles are valid claims and entitled to be taken into account on the same basis as the claims of other creditors of the Company.
The appellants request that relief-be granted to them by way of a review by this court of the merits of the Findings of Fact and Conclusions of Law allegedly unnecessary for determination of whether the second act of bankruptcy has been committed; specifically Finding of Fact No. 12 and Conclusions of Law Nos. 3 and 4; that this court should conclude that the Trimble payments were in substance, in fact and in law, contributions to the capital of the Company, and if they are held to be loans to the Company, they should be adjudged junior in priority to the indebtedness to appellants. Alternatively, they plead that in lieu of a determination of the merits of the Findings of Fact and Conclusions of Law this court should direct that they be deleted from the record in this case and order the dismissal of the petition without prejudice to the rights of the appellants to pursue other remedies available to them.
The Company, on the other hand, contends that the District Court properly determined the total amount and classification of the claims against it in support of its findings that the assets of the Company were sufficient to pay the claims of all creditors other than appellants, whose claims were subordinated, and the alleged preferential payments did not enable creditors receiving such to obtain a greater percentage of their debts than any other creditor of the same class or to receive more than they were entitled to recover under the distributive provisions of the Bankruptcy Act; that the District Court properly found that the advances totaling $85,000 made on July 28, 1960 by the Trimbles, for which they received the Company's 5 1/2% demand promissory judgment notes, were made as loans to the Company and were entitled to payment on the same basis as other general creditors ahead of the appellants whose claims were allegedly subordinated. The Company urged that no act of bankruptcy having been committed, this court should affirm the findings and conclusions of the District Court and bring the litigation to a conclusion, since the proceedings are now in their tenth year, precluding the Company from paying the claims of its creditors lawfully entitled to be paid.
The immediate problem with which we are confronted is the question, raised by the appellants, of whether the District Court erred in determining the dispute on the merits of the indebtedness to the Trimbles on their demand promissory notes made by the Company as against the indebtedness to the appellants on their unpaid promissory notes. A seemingly anomalous situation results from the fact that in finding that the Trimble payments were loans rather than capital contributions resulting in the subordination of petitioners' notes to them, the District Court has in effect ordered priority among the creditors while dismissing the petition because there was no violation of the second act of bankruptcy.
Every court of general jurisdiction has power to determine whether the conditions essential to its exercise exist.*fn11 Furthermore, even if the court erred in its assumption that it had jurisdiction to pass upon the claims, its judgment would not be void but only in error and therefore, if not challenged on appeal, it would become final and immune from collateral attack. Two leading cases which have so held are Stoll v. Gottlieb, 305 U.S. 165, 83 L. Ed. 104, 59 S. Ct. 134 (1938),*fn12 and Chicot County Drainage District v. Baxter State Bank, 308 U.S. 371, 84 L. Ed. 329, 60 S. Ct. 317 (1940).
In their request for a review of the merits, both parties at least infer that the trial court had subject matter jurisdiction. For their part appellants urge:
"It is the Petitioners' position that this Court should review the merits and pass upon the prejudicial Findings of Fact and Conclusions of Law of the District Court. The record is as complete as it ever will be on these issues. After some ten years of litigation in this case, with the prospect of the same issues being returned to this Court on appeal if the petition is dismissed without prejudice, the ends of justice would best be served by this Court's adjudicating the controversy at this point in time....
"Finally, it should be noted that such procedure is completely within the scope of Section 24(a) of the Bankruptcy Act, 11 U.S.C. 47, which gives the Courts of Appeal broad discretion, '* * * to review, affirm, revise or reverse, both in matters of law and in matters of fact * * *'."
In turn, appellees urge affirmance:
"The breadth of the District Court's findings are particularly appropriate since, as the petitioners state, the record before the District Court on the disputed claims is as complete as it ever will be on these issues. While this Court does have broad powers of review under § 24a of the Bankruptcy Act, the findings of the District Judge should be deemed presumptively correct and should be sustained by this court unless there is an obvious error of law or some clear mistake of fact.... We submit there has been neither and this Court should affirm the findings and conclusions of the District Court."
From these excerpts it is apparent that neither party contests the jurisdiction of the court to decide whether the Trimbles are entitled to priority over the claims of the appellants. Notwithstanding absence of attack by the parties on the jurisdiction of the District Court to dispose of the dispute between the Trimbles and the petitioners without an adjudication in bankruptcy raised by the involuntary petition, the responsibility is, as always, on this court itself, to test the presence of jurisdiction before proceeding to determine the merits of the controversy.*fn13
Moreover, under the remand of this court, the District Court was specifically required to determine the presence of elements four and six of the second act of bankruptcy.*fn14 Thus the District Court was obliged to examine the Company's books for a record of its assets and liabilities in order to determine element four (insolvency) and the classification of its debts in order to determine element six (preference). For the purpose of determining insolvency the notes of appellants had to be included, for these were subordinate but non-contingent debts, resulting in an excess of liabilities over assets. Thus the insolvency of the Company is conclusive and indeed was undisputed. For the purpose of determining preference, however, the notes of appellants did not have to be included, since they were subordinated to general creditors. The District Court found that on February 4, 1962, the Company had assets of $324,252.29 and liabilities (including the Trimble claims but not the appellants') of $278,632.30; that on June 4, 1962, the assets were $291,856.73 and liabilities, $245,491.44 (App. 90a, 91a). In their involuntary petition filed June 4, 1962, appellants alleged that within four months of its filing, the Company had made preferential payments of $32,241.32. Obviously with a margin of assets over liabilities of $45,619.99 on February 4, 1962, and $46,365.59 on June 4, 1962, there was more than sufficient to pay general creditors and no preference was committed by the Company. Furthermore, the computation would lead to the same result in the determination of preference regardless of whether the Trimbles were considered as creditors or contributors to capital.
The specific objection made by appellants is not that the District Court lacked power to make this finding, but rather that it failed to exercise judicial restraint in making "extraneous Findings of Fact and Conclusions of Law," which would prejudice the appellants from exercising any further remedies they may have.
The assets were sufficient to pay all the general creditors 100% even counting the Trimbles as such. Of course, it follows that they were sufficient to pay 100% if they were not counted as creditors. Yet the District Court arrived at the determination that the Trimble notes were actually loans and not contributions to capital, leaving only a small balance of assets, if any, to apply on the indebtedness of the appellants. This affects the issue of appellate review, for if the District Court had decided a question which was so collateral or incidental to the judgment that it would not be res judicata, there would be no need to review it here, as the question could be relitigated. (See IB J. Moore, Federal Practice 0.443, at 3919-3921 (2d ed. 1965). For a discussion of a broader application of res judicata, see id., at 3925-3928, discussing Florida Central R. Co. v. Schutte, 103 U.S. (13 Otto) 118, 26 L. Ed. 327 (1881).) Or if the question which the court decided were immaterial but in practical effect prejudicial, as for example, when a determination is made which is adverse to the winning party, it might only be possible to delete this finding but not to review the merits.*fn15
The policy which denies conclusive effect to determinations unfavorable to the winner, because judicial review is not available to him, does not operate with regard to the loser. Appellate review of all grounds supporting the judgment is available at the instance of the losing party. The question is whether the controverted fact is a ground supporting the judgment of dismissal - whether it is an "ultimate and controlling issue,"*fn16 - since the result, that is, the dismissal of the petition, would have been the same however this fact were decided in face of the absence of proof of a violation of the second act of bankruptcy.
Restatement of Judgments § 68 Questions of Fact, states:
"(1) Where a question of fact essential to the judgment is actually litigated and determined by a valid and final judgment, the determination is conclusive between the parties in a ...