Opposition — Wilmington Trust Co. v. Penn Central Transportation Co.

Supreme Court, U.

CST |

}

t

i

i

_t

8 JUN 26 1979

(

No. 78- 1767

t

4

|

MICHAEL ROD! K JR. , CLERK

IN THE

Supreme Court of the United States

OcTroRBeR TeERM, 1978

WILMINGTON Trust COMPANY,

as sueceessor indenture trustee,

Petitioner,

".

CENTRAL TRANSPORTATION COMPANY,

PENN

Debtor,

Respondent.

On Petition for a Writ of Certiorari to the United States

Court of Appeals for the Third Circuit

BRIEF IN OPPOSITION FOR

PENN CENTRAL TRANSPORTATION COMPANY,

Debtor

CHARLES A. Horsky

W. Crossy Roper, Jr.

888 - 16th Street, N.W.

Washington, D.C. 20006

JAMES E. Howarp

1700 Market Street

Philadelphia, Pa.

19103

Of Counsel:

Covinaton & BURLING

888 - 16th Street, N.W.

Washington, D.C. 20006

June 1979

Oe et ee ste tO

TABLE OF CONTENTS

Page

FVATEMENT 6. occhccecnaad.e deb ews 40 dha Yes RE 1

Tus Pian oF REORGANISATION. oo o2.cccsusveetesnens 2

THe Decision Betow ON REHEARING .........000000- 9

Reasons FoR DENYING THE WRIT .......eccecccscees 10

COMCLUMON cic cvcncceesecbenndeensesuseesuceewes 16

TABLE OF AUTHORITIES

CASES:

In re Penn Central Transportation Company (Park

Avenue Properties), 484 F.2d (3d Cir.), certiorari

denied, 414. U3. 1070 CASTS) 2. cd cc cdseeceveuss 7

New Haven Inclusion Cases, 399 U.S. 392 ........... 4

STATUTES:

Regional Rail Reorganization Act of 1973 (45 U.S.C.

G5 TOL 68 206.) ci csc cciicuscusnscesiasveeeseehaee 2

IN THE

Supreme Court of the United States

Octoser TerM, 1978

No. 78-1767

Witminoaton Trust CoMPANY,

as successor indenture trustee,

Petitioner,

Vv.

PENN CENTRAL TRANSPORTATION COMPANY,

Debtor,

Respondent.

On Petition for « Writ of Certiorari to the United States

Court of Appeals for the Third Circuit

BRIEF IN OPPOSITION FOR

PENN CENTRAL TRANSPORTATION COMPANY,

Debtor

STATEMENT

On October 24, 1978 the reorganization of Penn Cen-

tral Transportation Company, Debtor, and fifteen sec-

ondary debtors, was consummated, thus bringing to an

end perhaps the largest and almost certainly the most

complex reorganization ever addressed under Section

77 of the Bankruptcy Act. The class of secured credi-

tors, which includes the bondholders for whom peti-

2

tioner purports to speak, approved the treatment ac-

corded them under the Plan by an overwhelming ma-

jority vote (99.4 percent). The bondholders for whom

petitioner is trustee themselves accepted the provisions

of the plan by a vote of 98.1 pereent. Notwithstanding

that vote, petitioner has pressed an appeal and two

petitions for rehearing to the court below, and failing

there has filed its petition in this Court. The petition

does not seck to upset the consummation of the reorga-

nization plan; rather, it seeks a more favorable treat-

ment for the particular group of bondholders repre-

sented by petitioner—at the expense, of urse, of other

claimants.

THE PLAN OF REORGANIZATION

To put the position of petitioner into context re-

quires some explanation of the Plan of Reorganization.

The characteristics of the Plan are set out in the long

and careful opinion of the Reorganization Court

(A130-A357),! and in a somewhat more abbreviated

form in the opinion of Judge Aldisert in the court be-

low (A8-A32).

The objective of the Plan, now accomplished, was to

resolve the obstacles presented by an enormously com-

plex set of conflicting and interrelated claims, and the

overriding uncertainty as to the value of the Debtors’

major asset—the unknown and unknowable amount to

be realized in the litigation to determine the value of

the rail assets conveyed to Consolidated Rail Corpora-

tion (Conrail) and others on April 1, 1976, pursuant to

the Regional Rail Reorganization Act of 1973 (45

U.S.C. §§ 701 et seq.) (RRR Act).

References throughout are to the Appendix to the Petition for

Certiorari.

3

The Trustees might, of course, have attempted to

delay any reorganization until the valuation case had

been finally decided—1987 is the target date set in the

RRR Act. Or, alternatively, because of the unfairness

to claimants of such a delay, they might have opted for

liquidation—a course that would have precipitated the

massive and time consuming litigation of all the econ-

flicting claims, with the probable end result that even

those claimants whose litigation was ultimately suc-

cessful would not benefit (see A180-A181). The Trus-

tees rejected both of those solutions, and, by compro-

mise resolution of the multitude of conflicting claims,

achieved a successful Plan.

The Plan rests on several basic premises. It assumes

that the estate is solvent. It bases the on-going opera-

tions of the reorganized company—The Penn Central

Corporation—on a wholly-owned subsidiary of the

Debtor—The Pennsylvania Company—which owns suc-

cessful non-rail assets and earnings potential. Other

assets are to be sold. The proceeds of those sales—

Asset Disposition Proeeeds, or ADP— together with

the recovery in the valuation case, are used to satisfy

claimants.

The compromises of the varied issues legitimately in

dispute were, of necessity, also essential to the Plan.

The first, and basic, one was with the United States,

which had guaranteed $100 million of Trustees’ Certifi-

cates ($50 million were in default), and which, pursu-

ant to Seetion 211(h) of the RRR Act, had in effect

loaned the estate hundreds of millions more. Under the

compromise, the defaulted Trustees’ Certificates were

paid in cash, but the United States agreed to accept for

its claims B Notes, some of which are to be paid over

4

the next several years, but most of which are deferred

to the conclusion of the valuation case.

The second, and equally significant, compromise, was

with the state and local taxing authorities, whose

claims aggregated hundreds of millions of dollars.

They agreed to accept 44 percent in cash and notes

maturing in two years, and for the balance of their

claims notes with maturities related to the target date

for conclusion of the valuation case.

In addition, the Plan rests on settlement of potential

litigation with the trustee of the New Haven, a major

ereditor (see New Haven Inclusion Cases, 399 U.S.

392) ; with a group of banks holding in pledge all of

the stock of The Pennsylvania Company; with the so-

ealled ‘‘Friday Group,” representing a large portion

of the secured debt; with the active unsecured credi-

tors; with the sole stockholder of the Debtor, The

Penn Central Company; and with the trustees and se-

curity holders of the 15 controlled leased lines also in

reorganization as Secondary Debtors.

One of the most difficult problems, and for purposes

of the present petition the most relevant, was the treat-

ment of the complex collection of mortgages, with over-

lapping and various ranks of liens, vis-a-vis one an-

other. The Trustees reached the conclusion that it was

reasonable to treat each of the parent-company mort-

gages as fully secured, and to treat them as a single

class and to accord each a distribution under the Plan

of 10 percent of their claim in cash on consummation,

new General Mortgage Bonds in principal amount

equal to 30 percent of the claim, new Preference Stock

with a redemption value equal to 30 percent of their

claim, and new Common Stock. Approximately 55 per-

eR RT Lc Io

4)

cent of the new Common Stock has been distributed

proportionately to secured creditors pursuant to the

Plan.

As already noted, a basic premise of the Plan was

that, by reason of the anticipated recovery in the val-

uation case, the Debtor was solvent and all debt was

fully secured. It was recognized, however, that security

consisting of retained assets could be realized on more

quickly than the recovery on property conveyed to Con-

rail, which would have to await the conclusion of the

valuation case. This compromise treatment, therefore,

contained in addition a recognition of the fact—albeit a

fortuitous one—that some mortgages were secured pri-

marily by property still owned by Penn Central, and

some primarily by property transferred to and owned ©

by Conrail. The variations in these circumstances were

endless. However, in recognition of the fact that the

various mortgages differed in the extent to which their

underlying security had been transferred to Conrail,

the General Mortgage Bonds, which each secured claim-

ant received for 30 percent of his claim, were divided

into two series. Series A Bonds were issued in pro-

portion to the extent the relevant mortgage was secured

by assets that had not been so transferred, and Series

B Bonds for the balance. The Plan requires that A

Bonds be redeemed ahead of B Bonds from the pro-

ceeds of the continuing sale of the assets of the estate

other than The Pennsylvania Company, and that B

Bonds be redeemed ahead of A Bonds from the pro-

ceeds of the valuation case.

In appreving the Plan, the Reorganization Court

made one further adjustment in the interrelationship

of the secured creditors. Many of them, including the

6

present petitioner, urged that any mortgage secured

by retained assets in excess of 100 percent of its claim

should be given some preference as ‘‘super-secured.”’

The court dealt at length with the contention in its

opinion (A234-A258)—considering, inter alia, alter-

nate distribution schemes; the argument, which he

found unsupported, that funds which should go to pay

the alleged super-secured would be used to pay mort-

gages less well secured; and whether, were there a li-

quidation rather than a plan, the alleged super-secured

would or could expert such favorable decisions on their

efforts to avoid the consequence of the huge priority

claims of the United States and state taxing authori-

ties, as to ensure them a recovery greater than the Plan

provided. The court concluded (A257) that in general

those mortgage trustees claiming super-secured status

received appropriate allocation under the Plan. He

further concluded, however, that four mortgages were

secured by first liens on retained assets of an amount

and quality which rendered them relatively immune

from major erosion by administration claims and pos-

sible litigation of disputed issues. Two of those mort-

gages had retained asset coverage of 275 and 243 per-

cent, respectively, and two had retained asset coverage

well in excess of 100 percent and were additionally

benefited by being secured by an asset less vulnerable

to administration claims (A257). For these four mort-

gages the court directed that, in the 30 percent Prefer-

ence Stock component of the distribution to them, they

be accorded Preference Stock which would have a pri-

ority in redemption (Series A), before any other Pref-

erence Stock was redeemed (A258). Petitioner’s claim

to super-secured treatment was rejected.

7

On appeal to the court below by those claiming su-

per-secured treatment, including petitioner, the analy-

sis and disposition of the issue by the Reorganization

Court was affirmed. The court below, however, took

cognizance of the fact that one small mortgage of the

four mortgages to which the Reorganization Court had

accorded Series A Preference Stock (the Mohawk &

Malone) was so super-secured—not only did it have

retained assets equal to 275 percent of its $1.967 mil-

lion claim, but its retained assets consisted of $4.535

million in cash and another $0.85 million in other re-

tained assets—that it should receive, in lieu of Prefer-

ence and Common Stock, all A Bonds (A104).

The other change by the court below concerned a dif-

ferent dispute—what could be properly included in the

‘‘retained assets’’ category for the purpose of caleulat-

ing the A Bond-B Bond allocation to a particular

mortgage. The issue was raised by the trustee for the

New York Central and Hudson River Railway Com-

pany Refunding and Improvement Mortgage (R&I).

The trustee of that mortgage, the Bank of New York,

had urged, unsuccessfully in the Reorganization Court,

that in determining the allocation of A Bonds to that

mortgage the Plan should have included as ‘‘retained”’

property the amounts of rents collected from certain

New York Park Avenue properties securing that mort-

gage, which, with the approval of the Reorganization

Court (In re Penn Central Transportation Company

(Park Avenue Properties), 484 F.2d (3d Cir.), certio-

rari denied, 414 U.S. 1079 (1973)), were used by the

Trustees in the operation of the railroad, and amounts

which were not paid by the Trustees, again with the

approval of the courts below, in respect of dividends on

pledged stock. The court below recognized that such

8

amounts and the cash otherwise available for the divi-

dends had already been expended, but held that such

sums, less any amount that was reinvested in the prop-

erties, and less the costs properly associated with the

collection of the rentals (A112-A113) should be deemed

to be ‘‘retained’’ assets for the purpose of determining

the amount of A Bonds to be issued to the holders of

R&I bonds. The determination of the net amount, if

any, was remanded to the Reorganization Court. The

Reorganization Court has not yet determined what that

net amount, if any, is.

The relevance of this potential modification of the

amount of ‘‘retained’’ assets securing the R&I bonds

to the present contention of petitioner requires an ex-

planation of the complex matrix of mortgage liens on

the former New York Central and Hudson River Rail-

road Company (NYC) Properties, of which petitioner’s

mortgage—the New York Central and Hudson River

Railroad Company Michigan Central Collateral Inden-

ture (MC Collateral)—and the R&I mortgage are a

part. Three mortgages and two collateral trust inden-

tures together comprise four different levels of liens.

At the top is the New York Central and Hudson River

Railroad Company Gold Bond, one of the mortgages

held to be super-secured. Next are the Lake Shore Col-

lateral Bonds issued under the Lake Shore Collateral

Indenture and the bonds represented by petitioner, the

Michigan Central Collateral Indenture. Third is the

New York Centre! and Hudson River Consolidation

Mortgage, which secures the Lake Shore Collateral and

the Michigan Central Collateral bonds, as well as

Series A and Series C bonds. The third mortgage, and

the fourth level of lien, is the R&I mortgage. All of

these mortgages were liens on the Park Avenue prop-

9

erties owned in fee by the Debtor, on the Debtor’s lease-

hold interest in the Park Avenue properties owned by

the New York and Harlem Railroad, and in addition

were a lien on a substantial part of what was the New

York Central railroad system. The Lake Shore stock

originally pledged for the Lake Shore Collateral Bonds

was extinguished by merger of the Lake Shore into

NYC. The Michigan Central Collateral Bonds retained

a first lien on 168,143 shares of Michigan Central stock

owned by the Debtor. The R&I had a second lien on

this stock and a first lien on an additional 17,848 shares

of Michigan Central stock and on approximately 95

percent of the stock of the New York and Harlem.

| In determining the extent to which the several bond

issues in the 013-015 mortgage chain were secured by

retained assets for purposes of allocating Series A

Bonds, the Reorganization Plan and the Reorganiza-

tion Court followed conventional marshalling princi-

ples. Asset values in excess of those required to pro-

vide for a senior claim were marshalled down to the

lien next in line, and any surplus after satisfaction of

that lien was in turn marshalled down to the next level.

THE DECISION BELOW ON REHEARING

Following the decision of the court below, peti-

tioner and the trustee for the Lake Shore Collateral

bonds each filed petitions for rehearing and rehearing

en bane. The petitiors asserted that the decision that

the “‘retained’’ assets of the R&I mortgage should be

deemed to include the Park Avenue rents (the petition

asserted by $60 million, although the net amount is still

undetermined) should result in an increase in the value

of the ‘‘retained’’ assets subject to their senior mort-

gages on the same properties, and that therefore they

10

were entitled to ‘‘super-secured’’ status or better. The

petition was denied in a brief opinion (A124-A126), on

the ground that the claims were made for the first time

in the petitions for rehearing (A127-A128). A second

petition for rehearing filed by petitioner, asserting that

the court was in error in denying the first petition for

rehearing on the ground that the claims had not been

made earlier, was denied without opinion (A129).

REASONS FOR DENYING THE WRIT

I

Petitioner does not deny that, if the court below was

correct in concluding that the contentions made in its

petitior for rehearing had not been raised earlier, that

is an end to the matter. The trustee of the Lake Shore

Collateral bonds (the Manufacturers National Bank

of Detroit, which stands pari passu with petitioner in-

sofar as its relationship to the R&I mortgage is con-

cerned, conceded that it had not raised the issue pre-

sented in the petition for rehearing prior to its rehear-

ing petition (Pet. p. 12). Petitioner’s attempt to show

that it had done so is without substance, and certainly

does not rise to the level calling for the extraordinary

assertion of this Court’s power of supervision over the

Courts of Appeal pursuant to Rule 19(1)(b).

Petitioner relies in support of its contention that it

objected to the diversion of the Park Avenue rentals

on three brief excerpts culled from a 61-page brief and

a 35-page reply brief. The sole excerpt from its brief,

which is taken from the Statement of the case, not

from the argument, simply asserts that the Park Ave-

nue properties are valuable. The longer excerpt from

the reply brief argues a wholly different point—that

1]

the Park Avenue properties should be immune, in a

liquidation, from administration claims. The shorter

reply brief excerpt criticizes the Trustees’ analysis of

values on a hypothetical basis, and certainly does not

articulate an argument for increasing the amount

credited to its underlying security by the net amount

of the Park Avenue rentals. Even these isolated ex-

cerpts in almost 100 pages of briefs, while they refer

to the rentals from the Park Avenue properties, do

not in any way argue that the proper definition of

‘‘retained’’ properties should include the net amount of

such rentals—the argument which was successfully as-

serted in the court below, and had been asserted in the

Reorganization Court, by the t: .stee of the R&I mort-

gage in relation to the allocation of A Bonds. Indeed,

in response to the argument by the trustee of the R&I

mortgage, the Penn Central Trustees’ brief to the court

below noted, in a footnote on page 74:

“Although they hold prior liens, neither the trus-

tees nor any bondholders under the Gold Bonds

and the Consolidated Mortgage make a claim to

the rental income from the Park Avenue proper-

ties as a retained asset.”

The Consolidated Mortgage, as stated above (p. 8),

secures petitioner’s bond issue. Petitioner later filed a

35-page reply brief, which was described (p. 1) as a

“reply specifically to the brief of the Trustees [of

Penn Central],’’ and did not challenge the statement

in the footnote.

Petitioner makes much of its argument that the

court below urged parties to avoid duplicate argu-

ments, and that the ‘‘laboring oar on the rentals’’ was

carried by the trustee for the R&I mortgage and for the

Harlem dividends by the trustee for the Consolidated

12

Mortgage (Pet. p. 9). Yet, as the Court of Appeals

noted (A125), neither the excerpts quoted in the peti-

tion, nor any other portion of the brief or reply brief

filed by petitioner in the court below contains any

cross-reference to such arguments made by other

parties, nor any suggestion that such arguments of

others were being adopted by reference, although peti-

tioner expressly adopted by reference an argument of

the Detroit Bank on a wholly different issue (Reply

Brief, p. 27).

What seems apparent is that petitioner, following

the initial decision of the court below, recognized that

the decision might provide a new opportunity to se-

cure, as it now asks (Pet. p. 18) treatment as ‘‘super-

secured,”’ and that its general references to the rentals

and dividends in the course of arguing the benefit to

the estate from the use of Park Avenue rentals, or

challenging the marshalling of assets which was ap-

proved by both courts below in determining super-se-

cured status, might supply a basis for its contention.

Those general references, however, never came close

to specifying the contention that petitioner advanced

in its petition for rehearing.

The court below, as its several opinions reveal, was

thoroughly familiar with both the record and the va-

rieties of arguments that were advanced. Its conclu-

sion that petitioner’s new argument came too late was

correct.

I

In any event, the claim for preferred teatment of

the MC Collateral bondholders asserted in petitioner’s

request for rehearing is without merit.

ei ee eee ee eee

Po

pat PE

13

As noted above, the analysis of the security under-

lying each mortgage was not made to determine

whether the mortgage was fully seeured—that was as-

sumed—but solely for the limited purpose of deter-

mining the A Bond-B Bond allocation of the General

Mortgage Bond component of the securities distributed

to secured creditors. In making this analysis the Trus-

tees, the Securities and Exchange Commission (which

was asked by the Reorganization Court to review the

Plan) and the Reorganization Court itself considered

all retained assets, allocated them under established

principles of marshalling, and made the allocations ac-

cordingly. The MC Collateral Bonds were, on that anal-

ysis, fully secured by retained assets, and hence re-

eeived A Bonds exclusively. The decision of the court

below to give the R&I Mortgage credit for the net of

Park Avenue rentals and Harlem dividends, thereby

increasing the proportion of A Bonds which the R&I

bondholders received, thus could have no effect on the

A Bond alloeation to bonds represented by petitioner.

The issue which petitioner sought, for the first time

in its petition for rehearing, to raise by reason of this

change in the R&I Bond component is quite different

—whether the MC Collateral Bonds should be included

in the ‘‘super-secured’’ category. Only four bond is-

sues met the standards established by the Reorganiza-

tion Court and approved by the court below for that

limited category: either first liens on retained assets

valued at substantially more than twice the debt se-

cured, or first liens on marketable securities—stock

of the Pittsburgh & Lake Erie Railroad Company, a

profitable railroad not part of the Debtor’s system—

with a market value in excess of the debt secured.

Recognition of the former rested on the ample margin

14

of safety afforded by the excess value against poten-

tial erosion by administrative claims in a liquidation

context. Recognition of the latter rested on the rela-

tively lower exposure of the Pittsburgh & Lake Erie

stock to such claims. The court below found the stand-

ards sound (A55-A56; A76-A77).

Nothing in the decision of the court below permits

the MC Collateral Bonds to qualify under those stand-

ards. Unlike the Pittsburgh & Lake Erie stock, the

Michigan Central Railroad stock on which they had

their only first lien was an interest in a railroad which

is an integral part of the Penn Central system and

which was a Secondary Debtor, and can lay no claim

to relatively low exposure to administration claims in

a hypothetical liquidation. Indeed, the value of $25,195,-

000 attributed to the stock for Plan purposes is subject

not only to erosion by administration claims, but also,

in a hypothetical liquidation, to a priority claim of

approximately $100 million (A261) by the Penn Cen-

tral Trustees against the Michigan Central—a claim

compromised out under the Plan—which would reduce

to zero value the only property on which the MC Col-

lateral Bonds had a first lien.

Moreover, petitioner conveniently ignores that part

of the opinion of the court below which adversely af-

fects the value of its collateral. Its petition (p. 5) as-

cribes a value of $48.2 million to ‘‘certain property

subject to the Harlem lease.’’ The decision below has

a substantial impact on that figure, which was hotly

disputed in the Reorganization Court. The correct

amount depends on an allocation of values between the

leasehold interest of the lessee and the fee interest of

the lessor. The Reorganization Court found it unneces-

sary to resolve this issue in the context of General

TTC TREE

15

Mortgage Bond allocation, since what was added to the

security for senior liens would simply fiow down to the

R&I mortgage as the more junior lien (see A270-

A-271). However, the Court of Appeals holding that

the R&I trustee, as pledgee of the Harlem stock, is en-

titled to credit for $7.1 million of dividend rentals ac-

crued during the seven and one-half years of reorga-

nization, almost $950,000 a year, indicates a reduction

in value of the leasehold not only by the $7.1 million

credit but by the present value of the additional rental

payments during the term of the lease. Possible addi-

tional reductions are noted in the Reorganization

Court’s opinion (A272).

Essentially, petitioner seeks to meld two entirely

separate concepts used by the courts below—one deal-

ing with the proper allocation of A Bonds, and*the

other with super-secured status. That the court below

gave credit in allocating A Bonds to an intangible—

Park Avenue rentals which had long since been used

in the continuing operation of the estate—by deeming

them to be a ‘‘retained asset’’ had no relevance to a

wholly separate matter—whether a bond issue was

super-secured. The two concepts had different stand-

ards and different purposes. They do not meld.

16

CONCLUSION

The issues raised by the petition for certiorari are

unique to the Penn Central Plan of Reorganization,

which itself is unique in the annals of now-repealed

Section 77 of the Bankruptey Act (P.L. 95-598, Nov.

6, 1978) and cannot on any basis be considered as of

general importance. The court below correctly declined

to consider what it found to be a new issue raised by

petitioner for the first time on rehearing, and in any

event the issue lacked merit. The petition for certiorari

should be denied.

Respectfully submitted,

CuarLes A. Horsky

W. Crossy Roper, JR.

888 - 16th Street, N.W.

Washington, D.C. 20006

JAMES E. Howarp

1700 Market Street

Philadelphia, Pa. 19103

Of Counsel:

Covincton & BurLING

888 - 16th Street, N.W.

Washington, D.C. 20006

June 1979