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In re Central Railroad Co.

argued: March 29, 1978.



Adams, Van Dusen and Rosenn, Circuit Judges.

Author: Adams


ADAMS, Circuit Judge.

This nation has grown ever more concerned in recent years about the future of its rail transportation system, and with good cause. The significant number of bankruptcies of northeastern and midwestern railroads has prompted the public and the Congress - and, increasingly, the courts - to respond actively to the threat to the national welfare presented by the crisis of the railroads.

In this setting, highly ramified questions have been tendered to courts overseeing the progress of railroad reorganizations. Three such issues are present in this appeal, which has arisen from the reorganization of the Central Railroad of New Jersey (CNJ). First, we are called upon to decide whether the reorganization court correctly held that certain administration expenses may not be paid with the securities of the Consolidated Rail Corp. (Conrail), securities which are to be received by the estate in consideration for rail assets transferred to Conrail. Second, we must resolve whether the reorganization court appropriately determined that Conrail was liable for vacation benefits to which CNJ's former employees had made claims, whereas CNJ was liable for wage claims asserted by its former employees. Finally, we must ascertain whether the reorganization court properly ruled that Conrail was not entitled to the payment of interest on wage claims it had satisfied on behalf of CNJ's employees.


CNJ filed a petition for reorganization in March of 1967 pursuant to § 77 of the Bankruptcy Act, 11 U.S.C. § 205 et seq. By 1971, CNJ had embarked on a program of reorganizing its operations and structure that included, among many other things, the issuance of trustee certificates. Those certificates were issued directly by the bankrupt's trustee and were guaranteed by the Secretary of Transportation under the Emergency Rail Services Act of 1970, 45 U.S.C. § 661 et seq. Some $2.4 million worth of such certificates were issued and guaranteed, and CNJ's trustee ultimately defaulted on their payment.

By 1973, seven carriers, including CNJ, were in bankruptcy proceedings. In response to this situation, Congress passed the Regional Rail Reorganization Act of 1973, 45 U.S.C. § 701 et seq., which was amended by the Railroad Revitalization and Regulatory Reform Act of 1976, 45 U.S.C. § 801 et seq. (together referred to hereinafter as the "Rail Act"). The Rail Act contemplated the unification of the various rail facilities of the bankrupt companies into a single, viable system, and the conveyance of the estates' rail properties to Conrail, a newly-created private corporation. See 45 U.S.C. § 741. For about two years prior to the conveyance of the rail assets to Conrail, and while the United States Railway Association (USRA) was devising the Final System Plan for the railroads, CNJ and other railroads continued operations, as they were compelled to do under the Rail Act. On April 1, 1976, the rail properties were finally conveyed to Conrail, and after that date the obligation of the bankrupt railroads to maintain rail services ceased.

In exchange for the rail properties, CNJ and the other bankrupt railroads are to receive two types of Conrail securities, Series B preferred stock and common stock. To insure the payment of at least the net liquidation value of the conveyed properties, CNJ and other transferors are to obtain Certificates of Value, obligations of the United States government. See 45 U.S.C. § 746.*fn1 The Certificates of Value are to guarantee that if Conrail securities ultimately have a value less than the net liquidation value of the properties conveyed to Conrail, the estates nevertheless would receive consideration equal to the assets' net liquidation value.*fn2

At the time of conveyance, certain obligations that had been incurred by CNJ as a result of pre-conveyance rail operations remained unpaid. Section 211(h), one of the 1976 amendments to the Rail Act, provided the financial means by which such obligations could be satisfied "in order to avoid disruptions in ordinary business relationships." 45 U.S.C. § 721(h)(1)(A). It contemplated that outstanding obligations such as to other railroads, shippers, suppliers and labor sources could be paid by Conrail with "cash or other current assets" of the estate or, in the event that "cash or other current assets" were insufficient, with loan funds from USRA authorized under § 211(h). The statutory arrangement called for payment to the creditors of CNJ by Conrail. Conrail was then to seek reimbursement from the estate on a priority basis and, after being reimbursed by the estate, Conrail was to repay USRA. However, in the event that Conrail could not recover from the estate, USRA would, with only narrow exceptions, forgive the loan to Conrail and itself succeed to Conrail's claim for reimbursement. Payments on behalf of CNJ were made by Conrail pursuant to the authority granted in § 211(h).

During the period of CNJ's reorganization, the estate was assessed for taxes by the State of New Jersey and local governmental entities. The payment of these obligations was deferred pursuant to court order on the ground that "the public interest in the continued operation of the railroad [was] paramount over the payment of taxes," and that § 77 of the Bankruptcy Act authorized the district court to permit such deferral. In re Penn Central Transportation Co., 325 F. Supp. 294, 300 (E.D. Pa. 1970), aff'd 452 F.2d 1107 (3d Cir. 1971), cert. denied 406 U.S. 944, 92 S. Ct. 2040, 32 L. Ed. 2d 331 (1972). As a result, New Jersey and its local authorities now have claims for unpaid principal and interest on taxes accruing since 1966 in the approximate amount of $22 million.

CNJ, on June 1, 1976, submitted a Plan of Reorganization to the reorganization court, as to which two preliminary questions were framed for resolution. The first dealt with the legality of the proposed use of Conrail securities by the estate to satisfy the claims (a) of the United States and the State of New Jersey under certain trustee certificates, (b) of Conrail and USRA for the reimbursement of monies paid under § 211(h)*fn3 and (c) of state and local authorities in New Jersey for deferred taxes. The second issue presented to the reorganization court concerned "the propriety of the trustee's position that Conrail has primary responsibility for employee-related claims," in particular those for vacations and wages.*fn4

In an opinion dated November 30, 1976, the reorganization court ruled that the proposed utilization of Conrail securities in satisfaction of the administration claims of the United States, Conrail, USRA and the New Jersey taxing authorities did not comply with the governing statute. See 425 F. Supp. 1055, 1060-65 (D. N.J. 1976). In reaching its decision, the reorganization court relied primarily upon § 77(e)(3) of the Bankruptcy Act, 11 U.S.C. § 205(e)(3), which it interpreted as requiring the payment of administration expenses in cash unless the claimants consent to an alternative form of payment.

The reorganization court reasoned that it would be extraordinarily difficult, if not practically impossible, for it to value the Conrail securities, as that corporation's shares do not have a clear present worth or a currently ascertainable future value. As a result of this, the reorganization court concluded that "no factual finding could be made" that would enable it "to be sure that the governmental parties would receive the compensation which the absolute priority rule mandates they receive." 425 F. Supp. at 1064.

In deciding the question of liability for vacation benefits, the reorganization court turned to § 504(a) of the Rail Act, 45 U.S.C. § 774(a). That statute, in the reorganization court's view, directs Conrail to "assume" - and thus to be responsible for - obligations such as vacation benefits arising under the collective bargaining agreements covering employees of a bankrupt railroad.*fn5 In addition to resting its determination on the statutory language, the reorganization court cited the "practical consideration" that § 211(h) funds would not have been adequate to satisfy all the outstanding vacation obligations of the railroads. Given this, the court concluded that Congress should not be said to have intended that vacations remained the obligations of the estates.

On May 13, 1977, the reorganization court, in a letter opinion, concluded that it was not inclined to treat wages due CNJ's employees for work during the final weeks of the railroad's pre-conveyance operation in the same manner as vacation pay. The chief reason provided for differentiating the two obligations was that "all of the benefit derived from the work for which the wages are owed went to the Central Railroad Co. of New Jersey", whereas "the benefit" from vacations taken by employees would not similarly flow to the railroad.

Further, the reorganization court refused to grant Conrail's request for interest on the wage claims. This conclusion was justified on the ground that Conrail had continued CNJ's practice of paying its employees with a two-week lapse. Thus, the court deduced, it would be "inequitable" to charge CNJ interest on wages for the two-week period prior to conveyance at a time when Conrail still does not pay its employees on a current basis. Should Conrail decide to compensate its employees in a current manner, the court indicated, but did not actually say, that a different result would likely obtain.*fn6

An order was entered by the reorganization court on May 31, 1977. It held that the proposed use of Conrail securities in satisfaction of the administration claims in question did not comport with § 77(e)(3) of the Bankruptcy Act. It concluded that Conrail was liable for vacation benefits but that CNJ remained responsible for preconveyance wage obligations, and it determined that no interest would accrue on the funds borrowed by Conrail to pay sums owed as wages, at least "until such time as Conrail shall begin paying such employees on a current basis."

The present appeals have been taken from the May 31st order. Specifically, CNJ has challenged the rulings relating to the use of Conrail securities and the wage claims; Penn Central has urged this Court not to affirm the determination of the reorganization court regarding the proposed use of Conrail securities;*fn7 Conrail has appealed from the reorganization court's holding regarding vacation pay; and both the United States and USRA have appealed the decision not to award interest on the pre-conveyance wage obligations.


Because the three issues in the present appeal implicate discrete aspects of the law governing railroad reorganizations, we shall discuss them seriatum.


According to CNJ, the proposed use of Conrail securities is not precluded by § 77(e)(3) of the Bankruptcy Act and, indeed, is affirmatively authorized by § 601(b)(4) of the Rail Act. Also, the trustee argues that the proposed use of Conrail securities does not violate the absolute priority rule arising under § 77(e)(1) of the Bankruptcy Act. In response, it is urged that the various claims, for purposes of the Rail Act and the Bankruptcy Act, are administration claims, and as such are entitled to first priority and payment in cash. Appellees also insist that even if § 77(e)(3) of the Bankruptcy Act is not dispositive of the matter, the absolute priority rule forecloses the proposed use of Conrail securities. They further dispute CNJ's contention that the grant of discretion to a reorganization court under § 601(b)(4) of the Rail Act permits the conclusion that the use of Conrail securities is acceptable.

The reorganization court did not confine its reasoning to the propriety of the use of Conrail securities, but reached more broadly in concluding that under § 77(e)(3) of the Bankruptcy Act, all administration expenses such as those here must be paid in cash. We decline to follow the lead of the reorganization court in ruling on the legality of a form of payment of all of the obligations of concern here - specifically, cash - that is not contemplated in the Plan of Reorganization.

As a general matter, it is not advisable to resolve questions, particularly ones with wide-ranging implications, that are not immediately presented in a case.*fn8 The issue in this appeal is not whether cash payment is required, but rather, whether the proposed use of Conrail securities is legal. Thus, the question that must be addressed is narrower than that which occupied the reorganization court, namely, it is whether the proposed method of payment - the use of Conrail securities - is allowable under controlling statutory precepts.

To put the precise issue at hand into a broader perspective, it is necessary to understand the priority of the estate's claimants and creditors under the Plan of Reorganization. As described by the reorganization court, the Plan basically contemplated a tenfold ...

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