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In re Penn Central Transportation Co.

decided: February 20, 1979.



Before Aldisert, Adams and Higginbotham, Circuit Judges.

Author: Per Curiam


The Irving Trust Company as Indenture Trustee under two Collateral Trust Indentures appeals from the entry of an injunction by the reorganization court presiding over the reorganization proceedings of the Penn Central Transportation Company (PCTC). The reorganization court has entered an order authorizing the trustees of the PCTC to join in a settlement agreement arising out of certain litigation before the late Judge James H. Gorbey. In the same order, the reorganization court enjoined access by Irving Trust to an escrow fund established as a result of that settlement agreement. Irving Trust has not challenged the jurisdiction of the reorganization court to authorize the PCTC trustees to join in the settlement and we will not disturb the order in this regard. Because we conclude that the reorganization court was without jurisdiction to issue the injunction, however, we will reverse that segment of the order.


Irving Trust is trustee under the Collateral Trust Indenture dated April 15, 1955 between the New York Central Railroad (a predecessor of the PCTC) and Irving Trust Company, Trustee, securing not more than $9,800,000 of Collateral Trust 6% Bonds due April 15, 1990. Irving Trust is also trustee under the Collateral Trust Indenture dated April 15, 1968 between the Penn Central Company (the immediate predecessor of the PCTC) and Irving Trust Company, Trustee, securing not more than $13,941,400 of Collateral Trust 6 1/2 % Bonds due April 15, 1993. A total of $7,800,000 principal amount of bonds issued under the 1965 Indenture and.$7,641,800 principal amount of bonds issued under the 1968 indenture were outstanding prior to the consummation of the PCTC plan of reorganization.

As part of the security for these bonds a total of 161,698 shares of the capital stock of the Pittsburgh and Lake Erie Railroad Company (P&LE) were pledged under the two indentures. Those shares constitute 22.82% Of the outstanding P&LE stock. The PCTC is the legal owner of 92.61% Of the outstanding P&LE stock including the 22.82% Pledged under the Collateral Trust Indentures. The remaining 7.39% Of the shares are publicly held. The holders of these shares are hereinafter referred to as the 7% Shareholders.

PCTC's filing of a petition for reorganization under Section 77 of the Bankruptcy Act, 11 U.S.C. § 205, constituted an Event of Default under the terms of the two indentures thus empowering Irving Trust to dispose of the P&LE shares pledged to it. Order No. 1 of the reorganization court, however, enjoined any such disposition or similar enforcement of any lien on the PCTC's property.

A number of derivative suits were brought by minority shareholders of the P&LE charging that certain officers and directors of the P&LE and of the PCTC and others had violated federal securities and antitrust laws and state laws of fiduciary duty as the result of certain loans from P&LE to the PCTC at allegedly inadequate interest rates and a conditional sales agreement between the two companies requiring P&LE to pay allegedly excessive interest.*fn1 Though these actions were originally brought in seven different districts they were all consolidated pursuant to 28 U.S.C. § 1407 in the Eastern District of Pennsylvania with Judge Gorbey presiding. See In re Pittsburgh & Lake Erie R.R. Co. Sec. &Antitr. Lit., 374 F. Supp. 1404 (Jud.Pan.Mult.Lit.1974) (per curiam). A settlement agreement was reached in this litigation whereby a fund of $2,250,000 was created. By the terms of this settlement, P&LE contributed $2,100,000 and other defendants contributed $150,000.*fn2 $750,000 of this fund would go to plaintiffs' attorneys and the remainder to the 7% Shareholders. This settlement agreement was approved by Judge Gorbey. Irving Trust appealed to this court from the order approving the settlement. We held that the district court had abused its discretion in approving the settlement and ordered that the settlement order be vacated. In re Pittsburgh & Lake Erie R.R., 543 F.2d 1058 (3d Cir. 1976). A prime focus of that decision was the potential unfairness visited upon Irving Trust's bondholders. This court was concerned that the value of the bondholders' collateral might be diluted as a result of the distribution solely to the 7% Shareholders and their attorneys.

As a result of this court's decision, a new settlement agreement was reached whereby $472,000 would be set aside in an escrow fund. Amended Paragraph 3(c) (iii) of the settlement agreement sets forth the circumstances under which Irving Trust would receive compensation from that fund:

(iii) If the reorganization court before which a Plan of Reorganization for the Penn Central Transportation Company, Debtor, is pending shall finally determine that Irving and the bondholders have a valid and enforceable lien against the shares held by Irving as collateral (or against the proceeds of the sale thereof), and the value of the said shares (or the proceeds of the sale thereof) shall not be sufficient to compensate the bondholders for the amount determined to be due them, then in such event Irving (or its successor as indenture trustee) may apply to this Court for an Order directing payment to it on behalf of the bondholders, or to the bondholders directly, such amount or amounts, up to but not exceeding the full sum of $472,500 plus accumulated interest thereon, if any, as may be necessary to avert loss to the bondholders by reason of deficiency in the value of the said shares or the amount received by them.

Any portion of the fund not paid to Irving Trust or its bondholders would go to the 7% Shareholder and their attorneys. The $472,500 figure was eventually increased to $918,000 after further objection by Irving Trust.

In addition to the cash payments just described, the settlement agreement also involved the cancellation of certain claims as specified in Paragraph 5 of the Settlement Agreement:

5. Parties in these actions and the trustees of the Property of Penn Central Transportation Company, Debtor ("Trustees"), will exchange releases to be approved by the Court releasing one another and the present members of the Board of the Company from all claims and demands arising out of or based upon matters upon which Plaintiffs' claims are based or upon the settlement thereof, including any claims against the trustees for indemnity which have been or may be asserted by any party. Defendants represent that the trustees have indicated that they will not object to the distribution to Shareholders provided for by this settlement agreement, subject to the approval of the reorganization court, which said approval they will promptly seek. Defendant will cooperate fully and in good faith in seeking and attempting to obtain said approval. The Company has agreed to release the Trustees of any claim to be paid the balance due because of the loans of $12,800,000 made by the Company to the Penn Central Transportation Company, outstanding as of June 21, ...

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