# Petition — City of Cambridge v. Meserve

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## Record

- **Collection:** Supreme Court brief
- **Document type:** Petition
- **Published:** January 1, 1984
- **Citation:** 466 U.S. 938

## Text

33-1412

CASE NUMBER

The Supreme Court of the———
United States

OCTOBER, 1983 term

CITY OF CAMBRIDGE, MASSACHUSETTS,
Petitioner

v.

ROBERT W. MESERVE and BENJAMIN H. LACY,
Reorganization Trustees of the Boston
and Maine Corporation,
Respondents

On Writ of Certiorari to the United States
Court of Appeals for the First Circuit

PETITION FOR CERTIORARI

MATTHEW BROWN
BROWN, RUDNICK, FREED & GESMER
ONE FEDERAL STREET
BOSTON, MASSACHUSETTS 02110
(617) 542-3000

ATTORNEY FOR APPELLANT

QUESTION PRESENTED

Where a railroad in reorganization pays no real estate taxes to a munic-
tlie detten atl year administreti ‘od. is the ‘cipal
entitled to receive interest on these postpetition taxes under Nicholas v.
United States , 384 U.S. 678 (1966) upon the consummation of a plan of
reorganization which provides for the payment of interest on the claims
of lower priority creditors?

PARTIES

The City of Cambridge, Massachusetts (the **City’’) is a political sub-
division of the Commonwealth of Massachusetts.

Robert W. Meserve and Benjamin H. Lacy, are the trustees (**Trust-
ees"’) of the Boston and Maine Corporation (the ‘‘B&M""), a railroad
which was the subject of reorganization proceedings under Section 77 of
the Bankruptcy Act, 11 U.S.C. §205 (1977) (repealed), from March 12,
1970 through June 28, 1983.

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(i)

TABLE OF AUTHORITIES

Cases
In re Boston and Maine Corp.,
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City of New York v. Saper,
ERE ES ISOS ARES, NEE EE PP Be BET 5
Consolidated Rock Products Co. v. DuBois
312 U.S. $10 (1941) .......0..... allah piace céndbenbeeeilibhees senshinds 9
MacGregor v. Johnson-Cowdin-Emmerich, Inc. ,
ak ica iicnddnctlbisacussecsevcescecseusdinems 5
In re New York, New Haven and Hartford Railroad Co. ,
304 F. Sapp. 1121 (D. Comm. 1969) ..........ccccrcccccccssccseccccceees 7,8
In re New York, Ontario & Western Railway Company,
I dni 5i conscoscvecseecoctcovssedessnbebe 5
Nicholas v. United States of America,
RE i,5,6,7,8,9
In re Penn Central Transportation Co. ,
illite scuegtbasebavessccesevevipssecstoushuseest 10
In re Penn Central Transportation Co. ,
EI IE © icc cul cosdeequcussessovcsuchvesqeeserbets 7
People of the State of Michigan v. Michigan Trust Company,
isan en talib delisiisvebends cetokeerenaseussapecbebe 5
Sexton v. Dreyfus,
SS ESE OT A ae Re PU eM 5
Southern Railway Co. v. United States,
SE, PUNE CUTE as choses dccvchcicdqruivacsocsbidetedatcceiussen 5

(iii)

Statutes Page
Bankruptcy Act Section 24a, 11 U.S.C. §47a (1977)

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Bankruptcy Act Section 64a(1), 11 U.S.C. §104,

ET ctsinsininssciccaunnapactnghysdeiopnenkoddbunscendeunionimunns 5,7
Bankruptcy Act Section 77, 11 U.S.C. §205 (1977)

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Treatises
5 Collier, **On Bankruptcy,”’ 477.21 (14th ed.) ............cccceceeeeeees 5
(iv)

STATEMENT OF JURISDICTION

The City seeks review of a judgment entered by the First Circuit Court
of Appeals, in a divided decision, affirming an order of the United States
District Court for the District of Massachusetts approving the Amended
Plan of Reorganization (the ‘*Plan’’) of the Trustees of the B&M. The
effect of the judgment and order was to deny interest to the City on its
prepetition and postpetition tax claims. Review is sought solely on the
question of whether interest is payable on postpetition taxes.

The first circuit issued its judgment on September 30, 1983; a petition
for rehearing was denied on November 17, 1983. This Court has juris-
diction to review this judgment by writ of certiorari pursuant to 28 U.S.C.
§1254(a).

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STATUTES AND ORDINANCES
Bankruptcy Act Section 64a(1),
11 U.S.C. §104 (1977) (repealed)
(text set forth in appendix at 99)
Massachusetts General Laws c. 59, §57
(text set forth in appendix at 98)

STATEMENT OF THE CASE

This case arises out of the railroad reorganization proceedings involv-
ing the Boston and Maine Corporation (the *“B&M’’). These proceed-
ings were initiated on March 12, 1970 when an involuntary petition for
reorganization was filed against the B&M under Section 77 of the Bank-
ruptcy Act, 11 U.S.C. §205 (1977) (repealed). The B&M remained in
reorganization for almost thirteen years until the Trustees’ Amended Plan
of Reorganization (the ‘‘Plan’’) was consummated on June 28, 1983.
Pursuant to the Plan, the B&M was sold to a private investor for $24.5
million dollars on that date. The Trustees are now in the process of dis-
tributing to creditors the proceeds of that sale as well as about $48 million
remaining from an earlier sale of commuter rail properties to the Mas-
sachusetts Bay Transportation Authority.

During this thirteen- year reorganization period (and for several years
before), the B&M regularly paid no real estate taxes to the City of Cam-
bridge, Massachusetts (the ‘‘City’’) or to other municipalities. Even
though it received no tax revenue from the B&M, the City continued to
supply the B&M with police and fire protection and other essential
municipal services throughout the reorganization.

At the Trustees’ request, the temporary deferral of the payment of real
estate taxes was formally authorized by the reorganization court in an
order entered on September 19, 1978. The basis for this order was that
the B&M had insufficient funds both to pay current taxes and to pay other
ordinary operating expenses. At various times after this order was
entered, the City believing that the relative financial condition of the B&M
and itself had changed, requested that the reorganization court modify
its order to require the Trustees to pay future taxes as they accrued or to
pay some or all of the back taxes. However, each such request was
rejected.

As of June 28, 1983, the date the Plan was consummated, the B&M
owed the City $3,894,980.89 in taxes which had been assessed during
the reorganization period. In addition, the B&M owed the City about
$361,344.23 for unpaid taxes assessed prior to the filing of the petition.

Statutory interest in the amount of approximately $2,459,197 had
accrued on the principal amount of postpetition taxes owed to the City.
In addition, about $381,948 in interest had accrued on the principal
amount of the City’s prepetition taxes in the period from the filing of the

petition to August 5, 1982.' Under Massachusetts law, the City’s claim
for outstanding taxes and interest thereon is secured by validly perfected
first liens on the subject parcels.

The Plan calls for the City to receive the full principal amount of its
prepetition and postpetition tax claims. However, except for the interest
which had accrued on prepetition taxes as of the petition date (March 12,
1970) the City is to receive no interest on either its pre or postpetition tax
claims. The Plan does provide for certain secured creditors, whose liens
are of lower priority than the City’s, to receive the full amount of interest
which accrued during the reorganization period on their claims.

The Plan was approved by the Interstate Commerce Commission on
April 26, 1982. The reorganization court conducted hearings on approval
of the Plan in August, 1982. At the hearings, the City objected to the Plan
because of the failure to provide for interest on either its prepetition or
postpetition tax claims. Notwithstanding the City’s objections, the Plan
was approved by the reorganization court in an order dated December
30, 1982.

The City appealed the reorganization court's order approving the Plan
to the First Circuit Court of Appeals which had jurisdiction over the case
pursuant to Section 24a of the Bankruptcy Act, 11 U.S.C. §47a (1977)
(repealed), and 28 U.S.C. §1291. In a divided decision entered on Sep-
tember 30, 1983, the first circuit entered a judgment affirming the reor-
ganization court's order, the effect of which was to deny interest to the
City on its prepetition and postpetition tax claims. The City then sought
a rehearing solely on the issue of whether the court of appeals misappre-
hended the law in denying postpetition interest on its postpetition tax
claims. The petition for rehearing was denied on November 17, 1983.

After the first circuit issued its judgment, the Trustees voluntarily paid
the City the full principal amount of the prepetition and postpetifion taxes
owed by the B&M. It is anticipated that the interest which had accrued
on the prepetition taxes as of the petition date will be paid shortly. No
payment has been made on account of postpetition interest on either pre-

' Under Massachusetts General Laws c.59, §57, taxes assessed for fiscal years com-
mencing before July 1, 1977 bear interest at a per annum rate of eight percent. That
Tate was increased to ten percent per annum for taxes assessed during the period between
July 1, 1977 and June 30, 1979 by Mass. St. 1976, c.250, §1, and to fourteen percent
per annum for taxes assessed after July 1, 1979 by Mass. St. 1979, c.503, §1.

Trustees shall hold in escrow an amount sufficient to pay the full ammount
of interest the City alleges is owed on its tax claims pending final reso-
lution of its appeal.

ARGUMENT

The City respectfully requests that this court grant certiorari solely on
the issue of whether postpetition interest is payable on its postpetition tax
claims. The court of appeals’ decision denying the City interest on its
postpetition tax claims conflicts with the holding of this Court in Nicholas
v. United States, 384 U.S. 678 (1966).

For almost thirteen years during the reorganization proceedings, the
City furnished essential municipal services to the B&M without receiv-
ing any tax revenue in return. Such taxes are an expense of administration
like “*heat, light and current upkeep” and generally must be paid on a
current basis. MacGregor v. Johnson-Cowdin-Emmerich, Inc. , 39 F.2d
574, 576 (2nd Cir. 1930); See, People of the State of Michigan v. Mich-
igan Trust Company, 286 U.S. 333, 344 (1932); In re Boston and Maine
Corp. , 693 F. 2d 4, 5, (ist Cir. 1982); Southern Railway Co. v. United
States, 306 F. 2d 119, 126 (Sth Cir. 1962). Expenses of administration
are accorded first priority under Bankruptcy Act Section 64a, 11 U.S.C.
§104 (1977) (repealed). While this Court has not yet ruled on the issue,
the lower courts have held that the provisions of Section 64 apply in rail-
road reorganizations. Jn re New York, Ontario & Western Railway Com-
pany, 25 F. Supp. 709 (S.D.N.Y. 1937); See, 5 Collier, *‘On Bank-
ruptcy”’ 477.21 (14th ed.).

The general rule is that interest on a debtor's prepetition claims is not
computed beyond the date that a petition in bankruptcy is filed. Sexton v.
Dreyfus, 219 U.S. 339 (1911); City of New York v. Saper, 336 U.S. 328,
332 (1949) (taxes). This rule does not apply to claims which arise during
the reorganization proceeding itself. In Nicholas v. United States, 384
U.S. 678 (1966), this Court held that interest is payable on taxes assessed
during the reorganization and that the obligation to pay interest on such
taxes continues until the case is converted from a reorganization to a liq-
during the reorganization are administrative expenses that ought to be
paid on a current basis, but must bear interest if their payment is delayed
or deferred.

Nicholas involved a claim by the Internal Revenue Service for interest
on payroll taxes which had not been paid during the reorganization. Noth-
ing in the Nicholas opinion, however, suggests that its holding rests on

the particular facts or equities of that case or that its holding is limited to
Chapter XI cases. The Court reviewed prior case law, involving both
liquidation and reorganization proceedings and gleaned from those cases
the general principle that interest is payable on taxes incurred during any
period of bankruptcy administration until the debtor enters a new stage
of bankruptcy administration beyond that in which the underlying tax
obligation is incurred. Applying this principle, interest is payable on pre-
petition taxes until a reorganization or liquidation petition is filed. Sim-
ilarly, interest is payable on taxes incurred during a reorganization pro-
ceeding until the case is converted to a liquidation proceeding.

The Court noted that allowance of interest on debts incurred during the
reorganization (including taxes) ‘‘promotes the availability of capital to
a debtor in possession and enhances the likelihood of achieving the goal
of the proceeding, the ultimate rehabilitation of the debtor.”’ /d. at p.687.
The suspension of interest once the reorganization case has been con-
verted to a liquidation case is grounded in the administrative convenience
of not continually having to redetermine interest rates, and a concern
“that creditors should not be disadvantaged vis a vis one another by legal
delays solely attributable to the time consuming procedures inherent in
the administration of the bankruptcy laws.”’ /d. , at p.683. Put more con-
cretely, the Court was concerned that two creditors who might extend
credit at different interest rates during the reorganization period should
not be treated differently where payment is delayed not in furtherance of
any rehabilitative purpose, but solely due to procedural delays inherent
in the liquidation process.

The court of appeals majority attempts to distinguish Nicholas, on the
ground that it involved a Chapter XI proceeding, not a railroad reorga-
nization. The majority argues that Nicholas is not relevant because the
failure of the B&M to pay postpetition taxes during the thirteen year reor-
ganization period was due to the entry of an order by the reorganization
court in 1978 authorizing the railroad to defer payment of taxes.

As the dissent correctly points out, this case is governed by former
Section 77 of the Bankruptcy Act, which provides that ‘‘the rights and
liabilities of creditors, and of all persons with respect to the debtor and
its property, shall be the same as if a voluntary petition for adjudication
had been filed and the decree of adjudication had been entered on the day
when the debtor's petition was filed."” 11 U.S.C. §205(1) (1977)
(repealed). Nowhere in Section 77 are the courts given the power to impair
the rights of governmental bodies in the recovery of tax claims against a
railroad in reorganization. The clear language of the Supreme Court in

Nicholas , 384 U.S. at 691 , states that “‘the strong policy of Section 64a(1)
of the Bankruptcy Act . . . establishes a sharply defined priority that
places all expenses of administration on a parity, including claims for
taxes.’’ Absent clear statutory support, there is no basis in law or equity
for treating tax claims which are deferred during a railroad reorganiza-
tion differently from other administrative claims.

The majority suggests that the reorganization court’s power to defer
the payment of taxes when necessary to sustain the railroads’ continued
operation, See, In re Penn Central Transportation Co. , 458 F.2d 1030
(3rd Cir. 1972), somehow encompasses the power to deny interest on
such taxes when they are ultimately paid. Indeed, logic would seem to
dictate quite the opposite result. Deferral of the taxes has resulted in
harsher treatment for the City than that accorded other administrative
creditors who have been paid currently. The payment of interest is nec-
essary, therefore, to accord it similar treatment and to make it whole.

As Chief Judge Levin H. Campbell noted in his dissenting opinion in
this case:

**Basically, I find it hard to locate the source of the district court's
power, after having forced a deferral of Cambridge's taxes, to
deprive it of all interest on what was, in effect, a forced loan. I con-
cede that there is now ample authority permitting railroad reorga-
nization courts to cause the deferral of municipal taxes. There is no
clear authority, however, empowering the denial of all postpetition
interest on postpetition tax claims. Indeed, the Supreme Court has _
held in a related context that ‘[s]ince the taxes in question were”
incurred during the Chapter XI arrangement proceeding itself, the
United States was entitled to interest on those taxes for the duration
of that period.’ Nicholas v. United States, 384 U.S. 678, 689
(1966)."’ (Appendix, at page 21)

The only authority cited by the majority for the proposition that denial
of interest is appropriate is In re New York, New Haven and Hartford
Railroad Co. , 304 F. Supp. 1121 (D. Conn. 1969). As the dissent points
out, however, the New Haven case is entirely distinguishable from this
case. The New Haven case involved the liquidation of a hopelessly insol-
vent railroad, whose condition was analogized to that of a ‘‘trainwreck."’
There, the railroad had been sustained ‘‘at the expense of the bondhold-
ers."’ Jd. at 1134. All creditors had been disadvantaged by the public
although ‘‘interest on unpaid post reorganization state and local tax

claims, both secured and unsecured, would normally be paid’’ under the
circumstances, *‘all considerations compelled the disallowance of inter-
est on the tax claims.”’ /d. Since all creditors of the New Haven were being
awarded reduced recoveries, the taxing authorities were merely being
required to share the burden.

In the present case, the City has been singled out to bear a dispropor-
tionate share of the cost of the reorganization. Other administrative cred-
itors have been paid on a current basis. First mortgagees and income
bondholders are to receive the full amount of interest on their claims. In
comparison, the City has been forced to provide the B&M with what the
dissent correctly terms ‘‘an interest-free loan."’ It should also be noted
that the precedential value of New Haven is diminished by the fact that
no tax claimant contested the proposed treatment of its claim under
the plan.

The court of appeals majority also attempts to distinguish the Nicholas
case by asserting that the nonpayment of interest during the B&M reor-
ganization was mandated not by a decision of the Trustees, but by the
“‘law’s delay,’ a phrase used by the Nicholas Court. To a certain extent,
any postponement in the payment of a claim during a bankruptcy pro-
ceeding is caused by the law’s delay. This is true not only with regard to
prepetition claims, but also with regard to administrative claims the pay-
ment of which may be delayed pending the consummation of a plan of
reorganization. The Nicholas Court acknowledged that the amount of
interest that accumulates on an administrative claim depends ‘‘upon the
duration of a proceeding that takes place under the direction and authority
of the bankruptcy court.’’ /d. at 684. But, ‘‘meaningful legal delays”
occur only when an enterprise enters the period of bankruptcy adminis-
tration beyond that in which the debt was incurred. The entry into the next
stage marks the beginning of the type of wholly unanticipated delays dur-
ing which the further accumulation of interest would produce an unfair
disadvantage to certain creditors. /d. at 685.

The B&M reorganization case was commenced in 1970. No real estate
taxes were paid to the City until the proceedings were concluded about
thirteen years later. Not until 1978, did the Trustees apply to the court for
an order authorizing deferral of the taxes. The reorganization court's
order only ratified a unilateral decision previously made by the Trustees.
Whether under Chapter XI, Chapter X or Section 77, the decision to
defer payment of taxes is made in the first instance by the reorganizing
debtor or trustee, presumably in the interest of fostering a reorganization,
and it is difficult to see how the entry of an order ratifying this decision

changes the voluntary character of the decision.

The majority suggests that the special nature of railroad reorganization
proceedings makes the decision to defer payment one imposed by law,
because railroads in reorganization often must operate at a loss in the
*“public interest.’ That supposes that other types of reorganization pro-
ceedings do not involve operating losses, or are not affected by the public
interest, a supposition unsupported in the record, and contradicted by
experience. Many Chapter XI debtors continue in operation for a period
of time despite incurring operating losses. If, for example, an important
defense contractor or a major automaker were to file a petition for reor-
ganization under Chapter XI, they would likely continue operating even
if they were to incur losses.

In the end, the majority's decision misapprehends the clear mandate of
Nicholas which was concerned with equal treatment of creditors who
extend credit at the same stage of bankruptcy proceedings. The clear
import of that case was that all administrative creditors, including taxing
authorities, should be treated alike. Nicholas dic aot turn on the volun-
tariness of decisions made by debtors, or their trusies (whether ratified
by court decree or not), during any period of bankrupicy administration.

The majority also asserts that the equities of this case favor non-
payment of interest to the City. It is concerned that if interest is paid to
the City, unsecured prepetition creditors may receive their ten percent
(10%) dividend by way of certificates of contingent interest instead of
cash. The touchstone of bankruptcy administration has always been
equality of treatment among creditors who are similarly situated, not a
balancing of equities as between classes of creditors of different priori-
ties. This is required by the absolute priority rule. See, Consolidated Rock
Products Co. v. DuBois, 312 U.S. 510(1941). Before weighing the bal-
ance of equities between the City and the unsecured creditors, the court
of appeals was required to ensure that the City was being treated fairly
in comparison to other administrative creditors.

The City’s postpetition tax claims are first priority expenses of admin-
istration as well as first priority liens on the property they affect. Unlike
other ordinary operating expenses incurred during the reorganization
period, payment of the taxes was deferred for thirteen years without com-
pensation to the City for the delay in payment. (While payment of the
taxes was deferred, interim fee allowances were granted to the Trustees
and certain attorneys.)

To deny the City interest on these deferred taxes is to require the City
unfairly to underwrite the reorganization, at the expense of the essential

public interest it represents, a result against which the reorganization court
in the Penn Central case expressly warned. In re Penn Central, 325 F.
Supp. 294, 300.(D.Ct.Pa. 1970). The unfairness of this result is accen-
tuated by measuring the treatment of the City’s first priority claims against
the treatment afforded the first mortgagees and income bondholders,
whose claims, even the majority concedes, ‘‘arise only after the payment
from gross earnings for all necessary operating and managing expenses,
proper equipment, and useful improvements.’’ The claims of both the
first mortgagees and the income bondholders are being paid in full,
including the total amount of interest which has accrued on their claims.

The City submits that the court of appeals decision comports neither
with applicable precedent of this Court nor with equity. Since the court
of appeals judgment conflicts with a decision of this Court and is of excep-
tional importance, the City respectfully requests that this Court grant
certiorari over this matter.

Respectfully submitted,

Matthew Brown

Brown, Rudnick, Freed & Gesmer

One Federal Street ‘

Boston, Massachusetts 02110
(617) 542-3000

Dated: February 13, 1984

10

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a APPENDIX ;
Table of Contents

1. Appeals Court Decision ..............ccccccceeeeeeeeeseeeeeeeeeeree 13-29 :
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BOWNES, Circuit Judge. This is another, and perhaps the last, in a
long line of decisions involving the reorganization of the Boston and
Maine Railroad (B&M). Appellant, the City of Cambridge, appeals from
an order of the district court sitting as a Reorganization Court. That order
approved the final plan of reorganization for the B&M. Cambridge's
objections stem from the treatment afforded its claims for taxes under the
plan. Some background is necessary.

On March 12, 1970, an involuntary petition for reorganization was
filed against the B&M under section 77 of the Bankruptcy Act, 11 U.S.C.
§205 (1977). For some time before this date and throughout the reorga-
nization period—March 12, 1970 through June 28, 1982—B&M did not
pay taxes owed to Cambridge on a current basis. B&M's failure to pay
the taxes due during the reorganization period was the result of an order
of the district court on September 19, 1978, which authorized the Trust-
ees ‘to defer the payment of taxes heretofore or hereafter assessed on or
in connection with property of or in the possession of the Debtor or the

Cambridge’s claims for taxes are substantial. It is owed approximately
$434,000 in taxes accruing prior to the filing of the reorganization peti-
tion (prepetition taxes), which includes prepetition interest, and approx-
imately $4,026,000 in taxes accruing during the reorganization period
(postpetition taxes). The reorganization plan provides for cash payment
in full for these claims. It does not, however, provide for postpetition
interest on the taxes owed. This interest amounts to approximately
$375,000 on the prepetition taxes and approximately $1,868,000 on the
postpetition taxes. It is the plan's failure to provide for postpetition inter-
est payments to which Cambridge objects.

In assessing the district court's affirmance of the plan's disallowance
of interest it must be remembered that the district court, in passing on the
allowance of claims, sits as a court of equity. Pepper v. Litton, 308 U.S.
295, 307 (1939); see Sampsell v. Imperial Paper & Color Corp. , 313
U.S. 215, 219 (1941). We have previously articulated the standard of
review:

“It is not for us to pass upon the myriad factual and legal issues as
though we were trying the cases de novo. ‘It is not enough to reverse
the District Court that we might have appraised the facts somewhat
differently. If there is warrant for the action of the District Court,
our task for review is at an end.’ ’’ Group of Institutional Investors
v. Chicago, M., St. P.&P.R. Co., 318 U.S. 523, 564.

14

Boston and Maine Corp. v. First National Bank of Boston, 618 F.2d 137,
141 (ist cir. 1980) (quoting New Haven Inclusion Cases, 399 U.S. 392,
435 (1970)). The district court’s decision would, of course, not be war-
ranted if it were the result of an error of law or based on factual findings
that were clearly erroneous.

I. INTEREST ON PREPETITION TAXES

Cambridge, inits appeal, asserts th. ° the district court erred in holding
that its prepetition secured tax lien is not entitled to payment of postpe-
tition interest from the assets of B&M. For the reasons set forth below,
we agree with the district court.

It is a well-established principle that in bankruptcy and other insol-
vency proceedings interest upon claims ceases to accrue at the initiation
of the proceedings. Nicholas v. United States, 384 U.S. 678, 682 (1966);
City of New York v. Saper, 336 U.S. 328, 332 (1949); Vanston Bond-
holders Protective Committee v. Green, 329 U.S. 156, 162 (1946); Sex-
ton v. Dreyfus, 219 U.S. 339 (1911); Thomas v. Western Car Co., 149
U.S. 95, 116-17 (1893); Debentureholders Protective Committee of
Continental Investment Corp. v. Continental Investment Corp. , 679 F.2d
264, 268-69 (Ist Cir.), cert. denied, 103 S. Ct. 192 (1982). As the
Supreme Court has explained:

Exaction of interest, where the power of a debtor to pay even his
contractual obligations is suspended by law, has been prohibited
because it was considered in the nature of a penalty imposed because
of delay in prompt payment—a delay necessitated by law if the courts
are properly to preserve and protect the estate for the benefit of all
interests involved . . . . ““The delay in distribution is the act of the
law; itis anecessary incident to the settlement of the estate.’’ Thomas
v. Western Car Co., 149 U.S. 95, 116-117. Cf. American Iron Co.
v. Seaboard Air Line, 233 U.S. 261. Courts have felt that it would
be inequitable for anyone to gain an advantage or suffer a loss because
of such delay. Sexton v. Dreyfus, 219 U.S. 339, 346. Accrual of
simple interest on unsecured claims in bankruptcy was prohibited
in order that the administrative inconvenience of continuous recom-
putation of interest causing recomputation of claims could be
avoided. Moreover, different creditors whose claims bore diverse
interest rates or were paid by the bankruptcy court on different dates
would suffer neither gain nor loss caused solely by delay.

Vanston Bondholders Protective Committee v. Green, 329 U.S. at 163-
64 (footnote omitted).

15

Historically governmental entities’ claims for past due taxes received
special treatment, accruing postpetition interest until the date of pay-
ment. See City of New York v. Saper, 336 U.S. 328, 333. In Saper, how-
ever, the Supreme Court held that the general prohibition against the pay-
ment of postpetition interest embraced tax liens in bankruptcy cases. Id.
at 338. Saper’s ban on postpetition interest for tax claims has been
extended to Chapter X reorganizations, United States v. Edens, 189 F.2d
876, 877 (4thCir. 1951), aff'dper curiam, 342 U.S. 912 (1952); Chapter
XI arrangements, Massachusetts v. Thompson, 190 F.2d 10, 10-11 (ist
Cir. 1951), cert. denied, 342 U.S. (1952); United States v. General Engi-
neering and Manufacturing Co., 188 F.2d 80, 81-83 (8th Cir. 1951),
aff'd per curiam, 342 U.S. 912 (1952): direct actions against a debtor
after the confirmation of an arrangement, National Foundry Co. v.
Director of Internal Revenue, 229 F.2d 149, 150-51 (2d Cir. 1956); and
Section 77 railroad reorganizations, Jn re Penn Central Transportation
Co., 358 F. Supp. 154, 170 (E.D. Penn. 1973); In re New York, New
Haven and Hartford Railroad Co., 304 F. Supp. 1121, 1129-32 (D.
Conn. 1969).

Despite the general prohibition on the payment ef postpetition interest,
three exceptions have been developed by the federal courts. Interest may
accrue: (1) where the bankrupt ultimately proves to be solvent; (2) where
securities, held by the creditor produce income after the filing of the peti-
tion; and (3) where the amount of the secured creditor’s security is suf-
ficient to satisfy both the principal and interest due on the secured claim.
In re Walsh Construction, Inc. , 669 F.2d 1325. 1330 (9th Cir. 1982); In
re Kerber Packing Co., 276 F.2d 245, 246-47 (7th Cir. 1960); United
States v. Bass, 271 F.2d 129, 130 (9th Cir. 1959); In re Macomb Trailer
Coach, Inc., 200 F.2d 611, 613 (6th Cir.), cert. denied, 345 U.S. 958
(1953); see also Debentureholders Protective Committee of Continental
Investment Corp. v. Continental Investment Corp. , 679 F.2d at 269 (dis-
cussing first exception); United States v. Kalishman, 346 F.2d 514,517-
18 (8th Cir. 1965) (discussing first and second exceptions), cert. denied,
384 U.S. 1003 (1966); United States v. Harrington, 269 F.2d 719, 720
(4th Cir. 1959) (same); Castaner v. Mora, 234 F.2d 710, 712 (ist Cir.
1956) (discussing third exception); Kagan v. Industrial Washington
Machine Corp. , 182 F.2d 139, 146 (1st Cir. 1950) (same); Oppenheimer
v. Oldham, 178 F.2d 386, 388-89 (Sth Cir. 1949) (same).

These exceptions are not rigid doctrinal categories. Rather, they are
flexible guidelines which have been developed by the courts in the exer-
cise of their equitable powers in insolvency proceedings. The reorgani-

16

zation court must consider whether to grant postpetition interest, not as
an abstract matter, but in light of the nature of each claim and the equities
of the case before it. Jn re Penn Central Transportation Co. , 358 F. Supp.
at 170; In re Leeds Homes, Inc. ,222 F. Supp. 20, 33 (E.D. Terin. 1963),
aff'd 332 F.2d 646 (6th Cir.), cert. denied, 379 U.S. 836 (1964); see also
In re Magnus Harmonica Corp. , 262 F.2d 515, 518 (3d cir. 1959). At
all times the reorganization court must be guided by the basic equitable
principle announced in Vanston:

It is manifest that the touchstone of each decision on allowance of
interest in bankruptcy, receivership and reorganization has been a
balance of equities between creditor and creditor or between cred-
itors and the debtor.

Vanston Bondholders Protective Committee v. Green, 329 U.S. at 165
(citation omitted).

Cambridge contends that, having perfected its tax lien prior to the fil-
ing of the petition, it became a secured creditor in the amount of its liened
claims and enjoys the same status as all other secured creditors. As such
a creditor, Cambridge alleges that it falls within the ambit of the third
exception and is thus entitled to postpetition interest. We disagree.

Those cases in which courts have applied the third exception, permit-
ting postpetition interest to accrue, have generally involved mortgages,
trust deeds ; pledges or conditional sales contracts. In all of these circum-
stances, the creditor's security interest arises from a voluntarily executed
agreement between the debtor and the creditor. The two parties have bar-
gained with reference to a specific security with the expectation that the
creditor may sell this security and realize the entire amount of the out-
standing obligation, including interest accrued to the date of payment. in
re Kerber Packing Co., 276 F.2d at 247; United States v. Harrington,
269 F.2d at 723-24. To deny such a creditor postpetition interest, when
the amount of the security is sufficient to cover both the principal and
interest due, would undermine the faith of lenders in the efficacy of credit
arrangements. Such a loss of confidence could result in a curtailing of the
free flow of capital in our economy. Note, The Federal Tax Lien in Bank-
ruptcy: Enforceability of Liened Claims for Penalties and Post-Petition
Interest, 44 Minn. L. Rev. 1149, 1156 (1960). Thus, granting postpe-
tition interest to mortgages and other holders of contractual liens satisfies
the expectations of the parties and strikes an equitable balance between
the creditors and the debtors.

The Supreme Court has never ruled on the applicability of the third

17

exception, granting postpetition interest when there is sufficient secured
collateral , to tax liens. We agree with those federal courts of appeals which
have held that the third exception does not embrace tax liens. Jn re Kerber
Packing Co., 276 F.2d at 247-48; United States v. Mighell, 273 F.2d
682, 684 (10th Cir. 1959); United States v. Bass, 271 F.2d at 131; United
States v. Harrington, 269 F.2d at 723-24. A meaningful distinction can
be drawn between contractual liens, such as a mortgage or deed of trust,
and statutory liens, such as Cambridge’s perfected tax lien. A statutory
lien depends for its existence solely on a legislative act creating the lien
in specified circumstances. No bargaining takes place between the debtor-
taxpayer and the taxing entity which is granted a lien; the lien cannot be
classified as voluntary. '

Further, the payment of the interest, which is secured by the lien, is not
contemplated by the parties at the beginning of each tax year. Rather, the
imposition of interest on unpaid taxes is more in the nature of an enforce-
ment device assuring the collection of delinquent taxes. In the Context of
an insolvency proceeding, to grant the taxing entity postpetition interest
on its tax lien would impose the *‘enforcement device’’ not on the insoi-
vent debtor, but on those lower priority creditors whose claims will go
unpaid. Such creditors are but innocent bystanders; they could have done
nothing to effect the prompt payment of taxes and avoid the imposition
of postpetition interest. To penalize these creditors for the bankrupt's ina-
bility to pay its taxes on time violates all notions of equity. /n re Cameron,
166 F. Supp. 400, 407 (S.D. Cal. 1958) (quoting Jn re Burch, 89 F. Supp.
249, 254 (D. Kan. 1949)), aff'd sub nom. United States v. Bass, 271 F.2d
129 (9th Cir. 1959). As one federal court has explained:

The allowance of interest [on tax claims] to the date of payment,
an accumulation caused solely because of delays necessitated by the
successful efforts of the Trustee to protect and increase the estate,
seems to me to be entirely inequitable, and to result in an unbalance
of equities between the several creditors rather than a ‘balance of
equities’’ which the Supreme Court says is the touchstone of cach
decision.

' Some courts have further distinguished statutory tax liens from contractual liens on the
basis that tax liens are general, applying to all of the debtor's propertv, whereas con-
tractual liens are specific, attaching only to one asset. In re Kerber Packing Co. , 276
F.2d at 247; United States v. Bass, 27\ F.2d at 131-32. This reasoning is inapplicable
here, since Cambridge's lien attaches only to those parcels of real estate subject to
Cambridge's property taxes.

In re Union Fabrics, Inc. , 73 F. Supp. 685, 688 (S.D.N.Y. 1947), aff'd
sub nom., Carter v. United States, 168 F.2d 272 (2d Cir. 1948), aff'd
sub nom. City of New York v. Saper, 336 U.S. 328 (1949).

Cambridge points to only two cases in which postpetition interest has
been granted to a governmental entity on its liened tax claims. /n re Par-
chem, 166 F. Supp. 724, 730(D. Minn. 1958); Jn re Ross Nursing Home,
2 Bankr. 496, 499-500 (Bankr. E.D.N.Y. 1980). We note that both cases
were decided by inferior federal courts—a district court in Parchem, and
a bankruptcy court in Ross Nursing Home. We feel that both cases were
wrongly decided and choose to follow the beter authority of the four
circuit courts of appeals which have found the third exception inapplica-
ble to liened tax claims.”

In light of Saper and the uniform rule in the Circuit Courts of Appeals,
we think it appropriate to limit the granting of postpetition interest to
those exceptional situations involving creditors deemed to have bar-
gained for specific collateral to secure both the principal obligation and
interest. Further, we perceive no need, on the facts of this case, to extend
the third exception to cover Carnbridge’s perfected tax liens. ‘‘Collection
of the public revenue is a favored object, but we think today it is no more
favored than that of protecting remaining creditors from the law's delay
to the extent of denying post-bankruptcy interest on tax claims, liened or
not.”’ United States v. Bass, 27\ F.2d at 132.

In light of the above discussion, we find that the district court acted
well within its discretion in disallowing Cambridge's claim for postpe-
tition interest on its prepetition tax claims.

> Cambridge also maintains that its claim for postpetition interest falls within the second
exception, which grants postpetition interest to a secured creditor who holds securities
that it is entitled to interest on those property taxes which are attributable to property
rented by the B& M toa third party. The lease between the B&M and its tenant specifies
that a portion of the rent is attributable to taxes. Despite this lease provision— which
we view only as a collection mechanism—we find the second exception inapplicable.
This exception arises only where securities, held by the creditor, produce income.

19

II. INTEREST ON POSTPETITION TAXES

During a period of reorganization a debtor is required to pay taxes on
a current basis; they are an expense of administration. See In re Boston
and Maine Corp. , 693 F.2d 4, 5 (1st Cir. 1982); Southern Railway Co.
v. United States, 306 F.2d 119, 126 (Sth Cir. 1962). In a railroad reor-
ganization, however, the district court is afforded a measure of discretion
in determining when taxes are to be paid. See In re Boston and Maine
Corp. , 693 F.2d at 5; In re Penn Central Transportation Co. , 452 F.2d
1107, 1108-09 (3d Cir. 1971), cert. denied, 406 U.S. 944 (1972). The
court’s ability to defer taxes is a reflection of the special nature of a rail-
road reorganization. Of paramount concern is the public interest in con-
tinued operation of the railroad. In fact, liquidation is not available to a
railroad. See Continental Illinois National Bank & Trust Co. v. Chicago,
Rock Island & Pacific Ry. Co., 294 U.S. 648, 671-72 (1935). **A rail-
road debtor simply must continue to operate, without regard to the inter-
ests or desires of its creditors, at least until such time as the constitutional
rights of secured creditors under the Brooks-Scanion line of cases are
Clearly in jeopardy.” Jn re Penn Central Transportation Co. , 458 F. Supp.
1234, 1277 (E.D. Pa. 1978), aff'd, 596 F.2d 1102 (3d Cir. 1979). In
order to facilitate the continued operation of the railroad the district court
has the authority to defer payment of taxes.

In the instant case the district court deferred payment of all postpetition
taxes pending reorganization. Under the proposed plan, Cambridge will
recover the principal amount of these taxes, but not interest thereon.
Cambridge mounts several challenges to the plan’s failure to award it
postpetition interest, none of which we find persuasive.

Cambridge first asserts that Nicholas v. United States, 384 U.S. 678,
makes mandatory the payment of interest on debts arising during the pen-
dency of a reorganization. It claims that the district court erred as a matter
of law in approving a plan that did not provide for interest to it. We need
not determine whether Nicholas announced a rule of law or whether, as
the Trustees argue, a bankruptcy court still retains a measure of discre-
tion and may deny interest on administration claims when the ‘‘balance
of equities’’ counsels against such payment. The holding of Nicholas is
not applicable in this case.

Nicholas followed a line of cases in which the Supreme Court discussed
the allowability of claims for interest accruing during a bankruptcy pro-
ceeding. As discussed above, Sexton v. Dreyfus, 219 U.S. 339, estab-
lished the general rule: interest on a debtor's obligations is not computed
beyond the date that a petition in bankruptcy is filed. Jd. at 344. Vanston

20

followed thirty-five years later, reaffirming the holding of Sexton and
reminding *‘that the touchstone of each decision on allowance of interest
in bankruptcy, receivership and reorganization has been a balance of eq-
uities between creditor and creditor or between creditors and the debtor.”
Vanston, 329 U.S. at 165. Then, in City of New York v. Saper, 336 U.S.
328, the Court made clear that the general principle that interest stops
accruing as of the date of filing of a petition in bankruptcy is applicable
to tax claims. /d. at 330.

Nicholas involved a claim for federal taxes incurred during a reorga-
nization. The Court went a step further than the earlier cases by distin-
guishing among the various stages of a bankruptcy proceeding. The Court
reaffirmed the justification for the general rule that interest stops as of the
date of filing of a petition in bankruptcy.

. . Sexton and Saper reflect the broad equitable principle that
creditors should not be disadvantaged vis-a-vis one another by legal
delays attributable solely to the time-consuming procedures inher-
ent in the administration of the bankruptcy laws. In the context of
interest-bearing debts, the equitable principle enunciated in Sexton
and Saper rests at bottom on an awareness of the inequity that would
result if, through the continuing accumulation of interest in the course
of subsequent bankruptcy proceedings, obligations bearing rela-
tively high rates of interest were permitted to absorb the assets of a
bankrupt estate whose funds were already inadequate to pay the
principal of the debts owed by the estate.

Nicholas, 384 U.S. at 683-84 (footnotes omitted).

The Court noted a fundamental difference between debts incurred
before the filing of a petition and those incurred during the reorganization
itself.

To be sure, the amount of interest that accumulates on a debt
incurred during a Chapter XI arrangement depends upon the dura-
tion of a proceeding that takes place under the direction and authority
of the bankruptcy court. But interest claimed on such a debt does nc‘
arise through a ‘‘delay”’ of the law in any meaningful sense. The
underlying obligation of the debtor in possession is incurred as part
of a judicial process of rehabilitation of the debtor that the proce-
dures of Chapter XI are designed to facilitate.

Id. at 684-85 (citations omitted).
Thus, the Nicholas Court recognized that debts incurred during the
reorganization itself are administration expenses that ought to be paid on

a current basis and must bear interest if any creditor is to remain willing
to do business with a debtor in reorganization. See id. at 687. Failure to
pay administration expenses during the reorganization period is the result
of the debtor’s own choice and not, as is true of debts incurred prior to
reorganization, mandated both by law and an order of the court super-
vising the reorganization. Thus, the accumulation of interest on admin-
istration expenses incurred during reorganization cannot be attributed to
the law's delay.

It is clear that the B& M's failure to pay taxes during the reorganization
period was the result of the distri¢t.court’s order deferring payment. The
railroad was unabie to meet all of its current operating expenses, and this
order was made to foster the purpose of the reorganization, ensuring the
continued operation of the railroad in the public interest. The accumu-
lation of interest was directly attributable to the law's delay, and there-
fore, the reasoning of Nicholas is not applicable to the circumstances of

In an ordinary reorganization a debtor that is unable to meet current
operating expenses will be forced into liquidation. See In re Penn Central
Transportation Co. , 458 F.Supp. at 1277. But since the court supervising
a railroad reorganization is responsible for fostering the public interest
in reviving an ailing railroad, it can delay payment of current taxes when
such action is necessary to sustain the railroad’s continued operation. See
Continental Illinois National Bank & Trust Co. v. Chicago, Rock Island
& Pacific Ry. Co., 294 U.S. at 676 (‘*[A] proceeding under §77 is not an
ordinary proceeding in bankruptcy. It is a special proceeding which seeks
only to bring about a reorganization, if a satisfactory plan to that end can
be devised.’’) In cases like Nicholas, no public interest is served in allow-
ing a debtor to postpone payment of taxes. In the case of railroads, delay
in payment reflects a public policy in favor of revival of the railroad. It
would be unjust to allow interest to accumulate on court-postponed reor-
ganization debts at the expense of other creditors.

We find support for our conclusion in Jn re New York, New Haven and
Hartford Railroad Co. , 304 F. Supp. 1121. In that case state and local
taxing authorities sought interest on postpetition taxes, payment of which
had been postponed by court order. Judge Anderson of the Second Cir-
cuit, sitting by designation, held that Nicholas did not compel allowance
of interest.

[Nicholas ’] holding that taxes incurred during a Chapter XI pro-

in payment was brought about as a result of the debtor's own request
that it be given a chance to rehabilitate itself and not because of the
*‘law’s delay.’’ In the case of the New Haven there was never any
thought of its rehabilitating itself because it was, at the time of the
petition and had been for several years prior thereto, hopelessly
insolvent. The sole purpose of pursuing a §77 reorganization under
the court’s order, was to seek a means of keeping the New Haven in
operation in the public interest. The delay was imposed upon the
debtor’s estate in this fashion and for this purpose. The ordered accu-
mulation of accrued but unpaid taxes, as well as the interest on them,
was not directed by the court as a matter of administrative conve-
nience but as a matter of necessity. Nicholas gives recognition to and
reaffirms the principle that the bankrupt estate should not be dis-
advantaged by means of the *‘law’s delay.”’

Id. at 1134.

Cambridge seeks to distinguish the New Haven case on the grounds
that the New Haven was hopelessly insolvent—‘‘a total trainwreck’’—
whereas the B&M is in better financial shape. This is, to state a familiar
adage, a distinction without a difference. The important factor for the
court in New Haven was that the delay in payment of taxes was imposed
by the court to foster the public interest in continued operation of the rail-
road. This is precisely the justification for the delay in the B&M’s pay-
ment of taxes.

Cambridge further argues that the equitable justification for disallow-
ing interest—prejudice to other creditors because of the law’s delay—is
absent from this case. Cambridge claims that even if interest is paid in
full on its tax claims, the B&M will still have sufficient cash to meet all
of its obligations under the reorganization plan. The district court found
that payment of interest to Cambridge would diminish the distribu-
tive shares of general unsecured creditors; this finding is not clearly
erroneous.

Under the plan, general creditors’ claims are allowed at ten percent of
their amount. But if there is no cash left after payment of higher priority
claims, these creditors will receive Certificates of Contingent Interest
(CCIs), whici: will expire in five years from the date of consummation.
Cambridge conceded at ora! argument that if B&M were presently to pay
interest on the tax claims, general creditors will receive CCIs but nocash.
The argument that general creditors will not be prejudiced since they will
get all that they are entitled to under the plan is really one of semantics.

23

YY Owe pane ee

7 ‘
Be Aa" any

True, the issuance of CCIs will, under the reorganization plan, satisfy in
full the claims of the general creditors. It cannot be seriously contended,
however, that general creditors will not be prejudiced if there is sufficient
cash to pay their claims, but the cash is diverted to satisfy claims for
interest on tax debts.

The parties’ dispute over the amount of cash available to pay off claims
allowed under the plan revolves, for the most part, around the future prof-
itability of investment of funds in the segregated account for settlement
of claims. The district court suggested that if after all claims are settled
there is sufficient cash to pay Cambridge's claim for interest it might
weigh the equities differently. The plan provides that the district court
will retain jurisdiction during implementation of the plan. That court is
the proper one in which to raise arguments about the B& M's future ability
to pay interest.

Cambridge raises three other objections to the plan, which we dispose
of summarily. First, it claims that failure to award postpetition interest
On postpetition taxes, an administrative expense, will subordinate its
claim to those of other administrative creditors. The rule that all creditors
within the same priority must be treated alike does not require that they
all receive satisfaction of their claims at the same time. See In re Penn
Central Transportation Co. , 452 F.2d at 1108. Requiring simultaneous
participation ‘“would unduly impair the flexibility so essential to a reor-
ganization proceeding.’’ /d. Furthermore, there is nothing in the record
before us that indicates that all other administrative creditors have been
paid in a timely manner, or that administrative debts that were postponed
ultimately received interest.

Cambridge next asserts that the plan is unfair because it provides for
interest payments to First Mortgages and Income Bondholders, whose
claims are of a lower priority than the postpetition tax claims. This attack
is based on two theories: first, that it violates the rule of Fosdick v. Schall,
99 U.S. 235 (1879), and second, that it violates the absolute priority rule.
We see no merit to either theory.

Fosdick established the rule that administrative or current debts of a
railroad must be settled before any other creditor is entitled to satisfaction
of its claims. See id. at 252. ‘*Fosdick’s principle . . . is one of mortgage
law: that the mortgagee’s interest attaches to net income, which arises
only after the payment from gross earnings for all necessary operating
...."” In re Boston and Maine Corp., 634 F.2d 1359, 1368 (ist Cir.
1980), cert. denied, 450 U.S. 982 (1981); see also Southern Railway Co.

24

“—_: =— “—” va —, we |

v. United States , 306 F.2d at 126. The absolute priority rule establishes
a similar proposition. Under that rule, a reorganization plan may not pro-
vide for the payment of lower priority claims before higher priority claims
are fully satisfied. See Consolidated Rock Products Co. v. DuBois, 312
U.S. 510, 520-21, 527 (1941); Case v. Los Angeles, 308 U.S. 106, 116
(1939); Northern Pacific Railway Co. \. Boyd, 228 U.S. 482, 504(1913).

Cambridge contends that the plan’s awarding interest to lower priority
claims of secured creditors while denying interest on its first priority
administrative tax claims is an unlawful subordination of its claims. We
disagree. Fosdick and the absolute priority rule say nothing about allow-
ance of claims; they speak only to the order of payment to be accorded
claims that the court allows under the plan. See New York v. Feinberg,
204 F.2d 502, 502-03 (2d Cir. 1953); In re New York, New Haven and
Hartford Railroad Co. , 4 Bankr. 758, 799 (D. Conn. 1980). Since we
affirm the district court's decision that Cambridge has no legal or equi-
table right to interest on its postpetition taxes, it has no allowable claim
for interest that is even potentia.iy in danger of subordination under the
above principles.

The district court's order approving the plan of reorganization is
affirmed.

CAMPBELL, Chief Judge (Concurring in part and dissenting in part).
I agree with Part I of the court's opinion denying postpetition interest on
prepetition taxes, since that holding appears toconform with the case law.
The court's denial of postpetition interest on postpetition taxes, however,
lacks adequate support.

Basically, I find it hard to locate the source of the district court's power,
after having forced a deferral of Cambridge's taxes, to deprive it of all
interest on what was, in effect, a forced loan. I concede that there is now
ample authority permitting railroad reorganization courts to cause the
deferral of municipal taxes. There is no clear authority, however,
empowering the denial of all postpetition interest on postpetition tax
claims. Indeed, the Supreme Court has held in a related context that
“*[s]ince the taxes in question were incurred during the Chapter XI
arrangement proceeding itself, the United States was entitled to interest
on those taxes for the duration of that period.’ Nicholas v. United States,
384 U.S. 678, 689 (1966).

The case falls under the former section 77 governing railroad reorga-
nizations. That section provided that ‘the rights and liabilities of credi-
tors, and of all persons with respect to the debtor and its property, shall
be the same as if a voluntary petition for adjudication had been filed and
a decree of adjudication had been entered on the day when the debtor's
petition was filed.’’ 11 U.S.C. §205(1) (repealed). Nowhere in section
77 are the courts given the power to impair the rights of governmental
bodies in the recovery of tax claims against a railroad in reorganization.
Indeed , the clear language of the Supreme Court in Nicholas, 384 U.S.
at 691, states that ‘‘the strong policy of section 64a(1) of the Bankruptcy
Act. . . establishes a sharply defined priority that places all expenses of
administration on a party, including claims for taxes.’’' Although Nicho-
las applied to a Chapter XI proceeding, the principle of equal treatment
of tax claims with other debts’ seems to be applicable to railroad reor-
ganizations given the absence of any contrary statutory provision.

' While the Supreme Court has not decided the issue, the lower courts have held the
provisions of section 64 apply in railroad reorganizations. In re New York, O.4&W. Ry
Co. , 25 F. Supp. 709 (S.D.N.Y. 1937); 5 Collier on Bankruptcy 477.21 (14th ed.).

* During the first half of this century prepetition tax claims were awarded postpetition
interest, thus enjoying a favored status vis-a-vis other prepetition claims. This pref-
erence was abolished in New York v. Saper, 336 U.S. 328, 337 (1949), in which the
Court held that *“Congress assimilated taxes to other debts for all purposes, including
denial of post-bankruptcy intcrest [on prepetition debt)."*

26

This court states that *‘since the court supervising a railroad reorga-
nization is responsible for fostering the public interest in reviving an ail-
ing railroad, it can delay payment of current taxes. . . ."’ This, as Ihave
said, is a well-established principle in railroad reorganizations, but the
further point that it “*would be unjust to allow interest to accumulate on
court-postponed reorganization debts at the expense of other creditors,"
does not necessarily follow. The delay of the trustees in paying taxes dis-
advantaged the city, since payment of other administration debts was
apparently not delayed. Thus the equities regarding the payment of inter-
est appear to favor the city because denial of interest only exacerbates the
imposition on the city, especially with respect to other claimants for
administrative expenses.

The argument that the usual failure to timely pay taxes is due to “‘the
debtor's own choice’’ while in this case it is due to the “‘law’s delay”’ is
not convincing. In Nicholas the Court stated,

To be sure, the amount of interest that accumulates on a debt
incurred during a Chapter XI] arrangement depends on the duration
of a proceeding that takes place under the direction and authority of
the bankruptcy court. . . . But interest claimed on such a debt does
not arise through a ‘‘delay”’ of the law in any meaningful sense. The
underlying obligation of the debtor in possession is incurred as part
of a judicial process of rehabilitation of the debtor that the proce-
dures of Chapter XI are designed to facilitate.

384 U.S. at 684-85 (emphasis added). The *‘law’s delay”’ in the words
of the Court are ‘‘legal delays attributable solely to the time-consuming
procedures inherent in administration of the bankruptcy laws."’ /d. at 683
(emphasis added). In Vanston Bondholders Protective Commitiee v.
Green, 329 U.S. 156, 163 (1946), the Court stated **[e]xaction of inter-
est, where the power of a debtor to pay even his contractual obligations
is suspended by law, has been prohibited . . . ."’ In this case the railroad
trustees requested the court to authorize deferred payment of taxes. This
was the ‘‘trustees’ choice,"’ but the deferral was approved by the court
as part of the attempted rehabilitation of the railroad. See Commeni,
Bankruptcy—The Penn Central Reorganization—A Reorganization
Court Has the Power to Defer Municipal and State Taxes, 26 Rutgers L.
Rev. 664, 679 (1973) (railroad reorganization court should award inter-
est on deferred postpetition taxes at the *‘rate of interest the financial mar-
ket would have demanded for bearing the risk this deferment entailed"’).

27

The court cites /n re New York, New Haven and Hartford Railroad Co. ,
304 F. Supp. 1121 (D. Conn. 1969), in support of the denial of postpe-
tition interest on postpetition taxes. In that case, the ‘hopelessly insol-
vent”’ railroad was being operated in the public interest’ and ‘‘was for the
most part sustained at the expense of the bondholders."’ /d. at 1134. The
court noted that ‘‘interest on unpaid post-reorganization state and local
tax -iaims, both secured and unsecured, would normally be paid,’ but
held that ‘‘all considerations compel the disallowance of interest on their
claims."’ /d. The fact situation in New Haven is thus very different from
the present case: in New Haven, all creditors were disadvantaged by the
public policy of reorganizing the railroad, whereas in our case the City
of Cambridge has taken the greatest loss (e.g., the First Mortgage and
Income Bondholders received interest on their claims). The strong equi-
table concerns present in New Haven are absent from this case.‘

In re Penn Central, 452 F.2d 1107 (3d Cir. 1971), cert. denied, 406
U.S. 944 (1972), supports the proposition that payment of postpetition
tax claims can be enjoined to avoid defeating a railroad reorganization.
The court held that “the only viable recourse was to postpone such pay-
ment for a reasonable time, taking into consideration the competing pub-
lic interests inherent in reorganizing the railroad and in maintaining the
revenues of the various taxing entities affected by the injunction."’ Jd. °*
1109. The court only approved the injunction because (1) the record
showed that the assets of the company would be sufficient to meet rea-
sonably foreseeable first priority claims, and (2) the district court was
aware of its duty to terminate the injunction at the earliest possible date.
The court recognized the need to balance the public policies of saving
railroads and of maintaining tax revenues. As the district court in Penn
Central said, **[i}t would be inequitable to require these taxing entities to
underwrite the reorganization of the debtor, at the expense of the essential
public interests they represent.’’ Jn re Penn Central, 325 F. Supp. 294,
300 (E.D. Pa. 1970).

> Although there is a public interest in operating a bankrupt railroad, under section 77
if the operation of the railroad endangered the constitutional rights of creditors, **the
Only action open to the court [was] to dismiss the petition, which would in all likelihood
be followed by a State court receivership with all its attendant disadvantages.'’ His-
torical Note to 11 U.S.C. §1174.

* The precedential value of New Haven is diminished by the facts that the plan provisions
relating to taxes were uncontested and the court's decision was not appealed.

28

Thus while the power of a court to delay payment of taxes in railroad
reorganizations cannot be denied, it is more questionable whether reve-
nue interests of a municipality can be impaired to the degree of forcing a
municipality to make an interest-free loan. If, as in New Haven, all cred-
itors are awarded reduced recoveries, then the equitable powers of the
court similarly extend to requiring taxing entities to share the burden.
Postpetition tax claims are claims of administration, however, and I won-
der if such first priority claims can be denied interest absent very special
circumstances of a type which do not appear to be present here.

UNITED STATES DISTRICT COURT
DISTRICT OF MASSACHUSETTS

In the Matter of
BOSTON AND MAINE CORPORATION, No. 70-250-M
Debtor

OPINION

MURRAY, Senior District Judge

The Trustees of the Debtor in reorganization, the Boston and Maine
Corporation (“‘B&M’’), filed with the Interstate Commerce Commis-
sion (“‘Commission’’) in December 1975 their plan of reorganization,
and subsequently amended the plan on December 29, 1980, againon July
15, 1981 and finally on March 3, 1982. The Commission on April 23,
1982 approved the plan as finally amended (the ‘‘Amended Plan’’) find-
ing that “‘the Amended Plan, which provides for the conservative capi-
talization of B&M on essentially an all equity basis and provides for con-
tinuation of the existing service on a vital link of the New England Rail
System, satisfies all relevant statutory criteria and is in the public inter-
est.’ (1.C.C. Decision at 25).' The Commission certified the Amended
Pian to this court on June 28, 1782.’

Viewed broadly, the goal of the Trustees under the Amended Plan is a
Boston and Maine Corporation reorganized and continuing as an oper-
ating railroad with a revised capitalization on a substantially all equity
basis, with all of the outstanding new Common Stock issued to Guilford
Transportation Industries, Inc. (‘‘Guilford"’) (thus vesting in Guilford
control of the reorganized corporation), in the expectation that B&M thus
reorganized will be a financially viable operating railroad capable of pro-
Transportation Authority (*‘MBTA"’), and freight service over existing
rail lines (including many of the lines presently utilized for commuter rail
service).

Since 1970 B&M has been in this court in reorganization proceedings
under Section 77, and before referring to the significant features of the
Amended Plan and the issues involved in the question of its approval, it
is well to begin with a brief history of the proceedings.

On March 12, 1970 several bondholders (herein the **Group of Insti-
tutional Bondholders”’)’ filed in this court a petition for reorganization
of B&M under the provisions of Section 77. For many years prior to 1970
B&M had been in poor financial health, having suffered uninterrupted
deficits in net income, debts arising from unpaid property taxes and
unpaid interest on its bonds, and a decline in traffic and earnings resulting
from a twelve-year period of inadequate capital expenditures.‘ It was
upon the failure of B&M to pay the interest due on the First Mortgage
bonds as of February of 1970 that these reorganization proceedings were
instituted. Charles W. Bartlett, Esquire, Paul Cherington, and Robert W.
Meserve, Esquire, were appointed by the court to serve as Trustees’ of
the Debtor's property.

The debts owed by B&M and the claims against it on March 12, 1970,
the date of bankruptcy, were as follows:°

Secured claims
Bondholders and Creditors holding Securities $ 81,779,442.30
Real Estate and Other Tax Claims 7,621,704.10
Unsecured claims
Personal Injury and Property Damage | 896,355.06
Interline Per Diem Claims ~-11,284,587.23
Interline Freight/Overcharge Claims 567,763.86
Shippers and Consignees Freight Claims 2,972,492.00
Shippers and Consignees Overcharge Claims 173,657.50
Private Car Hire 503,653.43
Materials, Supplies, and Services Rendered 8 600,327.98
Total $115,399,983.46

Within the first year following the filing of the bondholders’ petition,
separate plans of reorganization were filed with the Commission by the
petitioning bondholders and by the directors of B&M. Both plans sought
inclusion of B&M in the Norfolk & Western Ry. system and failing that,
abandonment and liquidation of the properties of B&M. The Trustees of
the Debtor also petitioned the Commission for inclusion of B&M in the
Norfolk & Western Ry. system. In addition, the petitioning bondholders,
gravely concerned that the railroad might not be financially able to con-
tinue operations, applied to the Commission for abandonment of the entire
B&M rail lines. By mid-1971, however, it appeared there was no immi-

31

nent likelihood of interruption of B&M’s rail service for lack of operating
funds, and on September 29, 1971 the Commission rejected the pending
plans of reorganization, and denied the Trustees’ petition for inclusion
of the Debtor in the Norfolk & Western Ry. system and the bondholders’
application for abandonment.

In December of 1971 the Trustees filed an ‘‘interim or contingency"
plan of reorganization which, along with alternative plans of reorgani-
zation filed by Amoskeag Company and by the Group of Institutional
Bondholders, became the subject of extensive hearings before an Admin-
strative Law Judge in 1972. The Commission adopted the report of the
Administrative Law Judge, filedon February 13, 1973, that the Trustees’
plan was basically sound and the proposals valid, but that additional
measures were required to provide for a modified capital structure,
reduction of taxes and an adequate cash flow before B&M could satisfy
its creditors and become a profitable railroad operation. The interim plan
was approved as modified by the discussion and conclusions in the report
of the Administrative Law Judge, and the Trustees were directed by the
Commission to file adefinitive plan on or before June 30, 1974. The plans
of Amoskeag Company and the Group of Institutional Bondholders were
rejected.

The plan of reorganization next proposed by the Trustees was the 1975
Plan, filed with the court on December 12, 1975,’ which contemplated
reorganization of B&M in two steps. A definitive First Step, which the
Commission and the court approved in 1976, provided for the sale by
B&M to MBTA for $39.5 million in cash of the commuter rail lines
radiating northerly and westerly from the North Station in Boston, and
certain other properties. The conveyance by the Trustees of the rail lines
to MBTA was subject to the reservation in perpetuity of an easement by
the Trustees to operate freight service over the lines. It was further pro-
vided under the First Step that the Trustees would continue to operate the
commuter rail service, under an operating agreement with MBTA, over
the rail lines conveyed. 7 ne Second Step comprised measures to be taken
to satisfy claims of cred ‘tors against the Debtor's estate and to recapitalize
B&M.

The commute; rail lines (and other properties) were conveyed to MBTA
on December 26, 1976 free and clear of all claims, except the reserved
easement. On January 1, 1977 the operating agreement became opera-
tive. During 1977 the court approved a second operating agreement
between B&M and MBTA covering commuter rail service over addi-
tional commuter rail lines extending southerly and southwesterly from

32

the South Station in Boston, which service had previously been provided
by Consolidated Rail Corporation (“‘ConRail’’). Under this agreement
B&M, in the latter part of 1977, undertook operations of the commuter
rail service from the South Station.

The Trustees were not at this point in a position to carry out the Second
Step of the 1975 Plan because of the heavy operating loss sustained in
1976. Believing that existing conditions offered dim prospects for pre-
cise implementation of the Second Step, the Trustees petitioned the court
for authority to use the major share of the proceeds of the sale to MBTA
to finance an interim tender offer to redeem the Debtor's First Mortgage
bonds at a discount. In 1979 the Trustees were authorized to use $33.06
million (of the $39.5 million proceeds of the sale to MBTA) to acquire
(at the discounted price of $800 per bond) the First Mortgage bonds of
B&M and accrued unpaid interest thereon. The tender offer resulted in
the acquisition and retirement of $36,992,000 principal amount of the
bonds, thus reducing the amount of principal indebtedness of the bonds
outstanding to $9,944 ,976 and increasing the Debtor's net worth.

A significant move directed toward ultimate reorganization was initi-
ated by the Trustees in 1978 when they sought and were granted autho-
rization to enter into a financing agreement with Federal Railroad
Administration (**FRA*’) for rehabilitation of B&M’s main line between
Ayer, Massachusetts and Mechanicville, New York. Under the agree-
ment dated September 29, 1978, FRA loaned the Trustees $26.0 million
in cash in exchange for Trustees’ certificates of indebtedness in the face
amount of the loan. The rehabilitation was completed in 1981, resulted
in a major rebuilding of B&M's heaviest density line and upgraded the
line, in large part, to Class IV standard.

The amendment to the 1975 Plan that was filed with the court on
December 31, 1980 was transmitted to the Commission which estab-
lished a schedule of proceedings for consideration of the Plan as most
recently amended. Before any consideration was given io the Plan under
the schedule, the Trustees had concluded certain negotiations with Tim-
othy Mellon of Guilford, Connecticut, which resulted in the execution of
a ‘‘Letter of Intent’’ on April 15, 1981 concerning the acquisition of B&M
by Guilford Transportation Industries, Inc.* On July 15, 1981 the Letter
of Intent was superseded by an Acquisition Agreement entered into by
the parties. It is sufficient to note here, in concluding this brief history of
the reorganization proceedings, that the Acquisition Agreement -ontem-
plates that Guilford will become owner of all of the outstanding new
Common Stock and assume control of the reorganized B&M.

33

Il

Soon after reorganization proceedings were commenced, the Trustees
began an abandonment study of lines that were unprofitable in operation.
A number of branch lines were operating at very low traffic density at
out-of-pocket loss. Some of the branches had been receiving little or no
maintenance and if continued in operation B&M would have had to restore
the lines to normal maintenance condition at heavy expense. The Trustees
sought and were given authority to abandon freight service over approx-
imately 280 miles of lines. Approximately 65 additional miles of lines
are, or may become, the subject of further abandonment petitions.

Presently, B&M operates oyer approximately 1416 miles of owned or
leased track in the states of Massachusetts, Maine, New Hampshire, Ver-
mont, Connecticut and New York. B&M is primarily a carrier of freight,
but, as noted above, it also operates commuter rail service from Boston's
North and South Stations for the account of MBTA.

B&M’s main line runs east/west from Rotterdam Junction, New York
through Mechanicville, New York to Ayer, Massachusetts, a distance of
165 miles. At Mechanicville there is an interchange with the Delaware
and Hudson Railroad (“*‘D&H"’), and at Rotterdam Junction B&M inter-
changes traffic with ConRail. That portion of the main line between
Fitchburg and Greenfield, Massachusetts, approximately 56 miles, is
leased by B&M from the Vermont and Massachusetts Railroad under a
999-year lease. As already mentioned, this east/west main line is main-
tained at Class IV standard.

B&M operates over the 118-mile line between Ayer and South Port-
land, Maine, where it interchanges traffic with the Maine Central Rail-
road through the Portland Terminal Company. The 13-mile portion of
this line between Willows and North Chelmsford, Massachusetts, is
leased by B&M from Stony Brook Railroad Company (in which B&M
owns a controlling , 60% interest) under a lease that expires in 1989. This
line is maintained at Class III standard.

The Connecticut River Line of B&M lies between Springfield, Mas-
sachusetts and Wells River, Vermont, a distance of 164 miles, and is
maintained at Class III standard. This line makes a junction with B&M’s
east/west main line at East Deerfield, Massachusetts. The line continues
northerly from the junction through Greenfield, Massachusetts to Bel-
lows Falls, Vermont, where it connects with the Central Vermont Rail-
road (a subsidiary of the Canadian National Railroad), and continues still
northerly to White River Junction, Vermont, thence to Wells River, Ver-

mont and Whitefield, New Hampshire, and ultimately to Berlin and
Groveton, New Hampshire, where the line connects with the Canadian
National Railroad (*‘CN’’). The Central Vermont Railroad (*“CV*’) owns
approximately 14 miles of the Connecticut River Line between White
River Junction and Windsor, Vermont, and | | miles between Brattleboro
and East Northfield, Vermont, and CV has granted trackage rights to
B&M over these portions of the line. At White River Junction there is a
traffic interchange with CV; at Woodsville, Vermont, near Wells River,
there is a traffic interchange with CN; and at Whitefield, a connection
with the Maine Central Railroad. Using B&M crews, Amtrak operates
one ‘*Montrealer’’ passenger train per day in each direction over the Con-
necticut River Line.

B&M operates its New Hampshire Line approximately 45 miles from
North Chelmsford, Massachusetts to Concord, New Hampshire, and
serves the principal New Hampshire cities of Concord, Manchester and
Nashua. This line is maintained at Class III standard.

In addition, B&M operates several light density freight lines. The most
significant of these may be described as follows:

(a) The Groveton and Berlin Branch connecting the James River Cor-
poration plant in Berlin and the Groveton Paper Company plant in Grove-
ton to the Connecticut River Line at Wells River. (The Berlin Mills Rail-
way, a short line, operates the Berlin Yard for B&M.)

(b) The Conway Branch running north from the Ayer/Portland line at
Rollingsford, New Hampshire to Ossipee, New Hampshire.

(c) The Ashuelot Line connecting Keene, New Hampshire with the
Connecticut River Line at Brattleboro. (The Green Mountain Rail-
road, a short line, operates the Keene Yard for B&M.)

The commuter rail service, which B&M operates for the account of
MBTA from Boston’s North and South Stations, is a very important pas-
senger service. MBTA owns or leases the equipment used in the com-
muter service, and B&M supplies all of the operating and supporting
personnel. Operations under the agreement with MBTA for commutei
rail service represent almost one-third of B&M'’s activity as measured by
the operating expenses.

In December of 1981 , the court by Order No. 629 authorized the Trust-
ees to purchase from ConRail certain railroad lines, rights and properties
located in Connecticut and western Massachusetts and assume the freight
service obligations of ConRail appertaining thereto. The Trustees also

35

obtained trackage, operating and reciprocal switching rights over
approximately 93 miles of track, and trackage rights over approximately
3.1 miles of track, in Massachusetts and Connecticut, in order to facilitate
operations over the railroad lines acquired from ConRail.’

Il

The First Step of the Trustees’ 1975 Plan had been fully achieved when
the July 15, 1981 amendment, which reflected Guilford’s proposal to
acquire control of B&M, was filed with the Commission and the court.

In the July 15, 1981 amendment the Trustees proposed measures by
which they expected both to satisfy claims of creditors and to revise the
capitalization of B&M. The Trustees submitted to the Commission their
so-called ‘‘Amended Plan’’, incorporating the amendment of July 15,
1981; and subsequently the Trustees submitted an additional amendment
which they filed with the Commission on March 3, 1982. The Commis-
sion approved the final version of the plan with all amendments thereto.

A

The Amended Plan provides for a revision of the capitalization of B&M
by cancelling the presently outstanding preferred and common stock, and
by authorizing the creation of new capital stock as follows:

(a) 3,000,000 shares of new Common Stock of the par value of $1 per
share, and

(b) 2560 Redeemable Preference Shares, Series A, and 40 Redeem-
able Preference Shares, Series B, of the par value of $10,000 per
share.

The Plan calls for issuance to Guilford of all of the outstanding new Com-
mon Stock, that is, a total of 2,425,000 shares, in consideration of Guil-
ford’s payment of $24,250,000 in cash to the reorganized B&M. Thus
the Plan does not call for issuance at this time of the full number of shares
of new Common Stock authorized. The Plan also provides for issuance
of all 2600 Redeemable Preference Shares to the United States Govern-
ment in exchange for the Trustees’ certificates of indebtedness of $26.0
million, issued in 1978 for the loan made by FRA to the Trustees. No
dividends or payments of principal will be due on the Redeemable Pref-
erence Shares prior to 1989. It is provided under section 3.1(1) of the
Plan that the holders of the new Common Stock, in the event of liquidation
or winding-up of the reorganized B&M, shall be entitled to receive $10

36 -

per share out of the assets available for distribution to stockholders before
any distribution is made to holders of Redeemable Preference Shares.
The holders of the Redeemable Preference Shares would then be entitled
to receive the par value of their shares before further distribution would
be made to holders of the new Common Stock."

Preference Shares Series A will issue in an amount equivalent to loans
made by FRA for the elimination of deferred maintenance of B&M’s
main line, and the annual dividend payable, commencing in 1989, on
such shares will be at the rate of 4.2 percent per annum on the outstanding
par value of such shares. Preference Shares Series B will issue in an
amount equivalent to loans made by FRA for work deemed by FRA not
to constitute deferred maintenance, and the annual dividend payable,
commencing in 1989, on such shares will be at the rate of 8.89 percent
per annum on the outstanding par value of such shares. Series A shares
will receive annual *‘level service’’ payments of $750 (the dividend plus
the mandatory redemption installment) per share commencing in 1989
and payable to 2008, when the shares will be fully paid out. The annual
“‘level service’’ payments from 1989 to 2008 on Series B shares will be
at the rate of $2547.22 per share.

B

The reorganized B&M will be authorized under the Amended Plan to
issue Certificates of Contingent Interest (CCIs) in four series, designated
in order of priority Series, A, B, C and D.

Series A CCIs may be issued in the aggregate face amount by which
the amount of cash available may be found insufficient on the Consum-
mation Date to fully satisfy the claims of the holders of the Income Bonds.

Series B CCIs may issue in the aggregate amount equal to the face value
of all claims of the United States arising under Title 31 U.S.C. §191.""

Series C CCIs may issue in the aggregate face amount equal to all tax
claims, which have not been waived and which are not secured by valid
liens of federal, state and local taxing authorities, that are found to be
based on valid assessments and to have become legally due and owing
within three years preceding March 12, 1970, or otherwise entitled to

Series D CCIs may issue in the aggregate face amount equal to ten
percent of the total principal amount of liquidated and allowed claims of
general unsecured creditors.

The holders of the CCIs will be entitled to receive payment of the face

37

amount, without interest, of the CCIs only from the cash in the Segregated
Account”? that is in excess of the amounts needed for payment of senior
claims. CCIs will be payable in order of priority among the four series,
and pro rata within each series, in whole or in part, from time to time
when it is determined by the Trustees that excess cash is available. To the
extent that CCIs have not been paid in full within five years after the date
of consummation of the Plan, such CCIs will be cancelled automatically
and the holders thereof will have no further claims against the reorga-
nized B&M for the unpaid balance of such CCIs.

ts

The claims against the Debtor's estate that have been acknowledged
by the Trustees are as follows:

(a) Administration claims $ 3,000,000
(b) Lien-tax claims 8,600,000
(c) Claims of Six Months creditors [11 U.S.C.

§205(b)] 3,000,000
(d) First Mortgage bonds, principal and

accrued interest 17,655,000

(e) Income bonds, principal and accrued interest 37,276,000
(f) Claims of the United States under 31 U.S.C.

§191, and State of New Hampshire

Public Utilities Tax 40,000
(g) Claims of general unsecured creditors 15,050,000
(h) 5% Preferred Stock ( shares) _
(i) Common Stock ( shares) mm

$84,621,000

The Trustees had on deposit in their Restricted Funds Account (Account
No. 716) as of June 30, 1982 the sum of $47,970,771. The funds in this
account are comprised mostly of the proceeds of sales of property of the
Debtor. subject to the liens of the First Mortgage bonds and Income bonds,
and the interest accrued from investment of the proceeds. The
$47,970,771 was exclusive of the Debtor's current cash and cash equiv-
alents in Accounts No. 701 and No. 702, and the special deposits in
Account No. 703."

Under the Plan, $5,250,000 of the cash in Accounts No. 701 and No.
702 on the Consummation Date will be paid over to the reorganized B&M.
To the extent that the cash in those two accounts is less than $5,250,000
the deficiency shall be paid from the Segregated Account to the reorga-

38

nized B&M before any cash is distributed to creditors.

Assuming consummation of the Plan had occurred on June 30, 1982,
the Trustees would have distributed the available cash consisting of the
$47,970.771 in Account No. 716 and the $24,250,000 to be paid by
Guilford for the new Common Stock, a total of $72,220,771 .'° This sum
would have been adequate to pay the amounts allotted to the classes of
claims listed above, except for the following: (g) the general unsecured
claims; and (h) and (i), any amount on the presently outstanding preferred
and common stock.

The Plan provides that the claims of the general unsecured creditors
will be satisfied by the issuance of Series D CCIs in the aggregate face
amount equal to ten percent of the total liquidated and allowed claims.
There are no provisions in the Plan for payment of any cash, or issuance
of any options or warrants to acquire securities of the reorganized B&M,
to the holders of presently outstanding preferred and common stock.
Instead, the Trustees request in section 3.10 that the Commission find
and the court affirm that such stock has no value.

The cash of the Debtor available for distribution to the creditors will
be paid in the order of priority set out in section 3.3(2) of the Plan—the
order set forth in the above listing. In section 3.9 of the Plan it is provided
that any cash remaining in the Segregated Account after making the cash
payments to claimants as required by section 3.3 shall be paid over to the
reorganized B&M as additional working capital.

D

The Trustees, in section 4. 1 of the Plan, expressly affirm the leases (as
of March 12, 1970) of the properties of The Northern Railroad, the Stony
Branch Railroad, and the Vermont and Massachusetts Railroad, includ-
ing the amendments in each lease. A schedule of the executory contracts
that will be assumed by the reorganized B&M has been filed with the
court as provided in section 4.2. Other executory contracts, which the
Trustees have rejected as of March 12, 1970, as provided in section 4.3,
are identified in an Exhibit filed with the court.

As of the Consummation Date all of the property remaining in the
Debtor's estate will, as provided in section 4.5 of the Plan, be transferred
and conveyed to the reorganized B&M free and clear of all claims or
creditors and stockholders of the Debtor.

39

IV

Pursuant to Section 77(e) the court by order entered July 7, 1982 (A)
fixed the time within which (1) objections to the Amended Plan certified
by the Commission, (2) claims for equitable treatment, and (3) statements
of position, might be filed with the court; (B) established August I 1 , 1982
as the date of hearing of the objections and claims; and (C) provided for
the giving of due notice of the hearing by the Trustees to creditors, stock-
holders and all other parties in interest. Notice of entry of the July 7 order
was given by the Trustees in accordance with the directions of the court
contained therein. Objections to the Amended Plan were filed pursuant
to the order, and there were also filed claims for equitable treatment and
statements of position. Among the responses filed was the motion of
Canadian Pacific Ltd. (‘“CP”’) requesting that the court defer decision
on the question of approval of the Amended Plan until such time as the
Court of Appeals for the District of Columbia Circuit decided certain
petitions for review of the Commission's decision approving the Trustees’
Amended Plan (the plan presently before the court in this proceeding).

The hearing was held August 11 and 12, 1982, pursuant to the order
entered July 7, at which all parties in interest were afforded opportunity
to be heard in support of and opposition to the objections and claims for
equitable treatment, and in support of and opposition to the motion of CP.
The parties who appeared and argued to the court on the objections, claims
or the motion of CP are identified in the margin. '° The hearing was closed
after the conclusion of the oral arguments and after the court fixed August
23, 1982 as the time within which a party in :nicrest might file a memo-
randum on the issues raised before the court duirng the hearings.

On August 26, 1982 the court, on its own initiative, entered an order
giving notice of the reopening of the hearing, and scheduling a further
hearing t be held September 16, 1982 for the limited purposeof receiv-
ing evidence of ‘‘the approximate amounts to be paid by the Debtor [or
by any corporation or corporations acquiring the Debtor’s assets] for
expenses and fees incident to the reorganization” in accordance with the
provisions of Section 77(e)(2). Notice of entry of the August 26 order
was given by the Trustees to all persons who rendered services and
incurred expenses incident to the reorganization, in accordance with the
directions of the court set out in the order. The order provided that any
tothe reorganization might, in lieu of presenting oral evidence at the hear-
ing, file with the court a statement of the services rendered, or to be ren-

40

dered, and the expenses incurred, substantially in the manner and form

of the statement required by Bankruptcy Rule 8-212(a). The persons who
appeared and addressed the court in response to the matters contained in
the order or who filed statements with the court are identified in the
margin.”

Thus the record of the proceedings on the question of approval of the
Amended Plan demonstrates that all parties in interest have had an oppor-
tunity to be heard, and that all classes of creditors and stockholders have
had an opportunity to present their claims and argue the same to the Com-
mission and to the court.

Section 77(d) provides that if the Commission approves a plan, it shall
certify to the court the plan ‘‘together with a transcript of the proceedings
before it and a copy of the report and order approving the plan’’. In the
Commission's decision in this case, the Commission noted that it had
consolidated for concurrent disposition the Amended Plan and Guilford’s
application (filed October 28, 1981) for authority to control B&M, the
Commission stating it did so ‘*[i}n view of the interrelationship between
the control application and the. . . Amended Plan’’. (1.C.C. Decision at
5). The record and transcript certified to the court comprise the complete
record and transcript of the consolidated proceedings before the Com-
mission on the Amended Plan and the control application. The record
contains written verified statements of witnesses on direct evidence on
the Plan and control application, and on ‘‘responsive applications’’ filed
by other parties, and testimony developed under cross-examination of
witnesses at public hearings before an Administrative Law Judge. The
testimony of some witnesses in the record relates only to the control appli-
cation, and the testimony of other witnesses relates to both the Amended
Plan and the control application. The consolidated record was not sepa-
rated as between the Plan and the control application. While recognizing
that “‘an integral relationship exists between [Guilford’s] control of B&M
and that carrier's reorganization”’ ,'* the Commission made clear the basis
of its decision to approve the Plan, as follows:

We are approving the Amended Plan of Reorganization because ii
satisfies the requirements of section 77(b) and (e) of the former
Bankruptcy Act and is compatible with the public interest. The
Trustees have established the viability of a reorganized B&M on the

basis of its realistic earning potential.
(1.C.C. Decision at 4).

41

Vv

Section 77 contemplates that **(t}he judicial functions of the [reorga-
nization} court and the administrative functions of the Commission [will]
work cooperatively in reorganizations’. (Footnote omitted). Warren v.
Palmer, 310 U.S. 132, 138 (1940). Upon certification of the plan by the
Commission, Section 77(e) in part provides that the judge, after hearing,
shall ‘approve the plan if satisfied that . . . [i]t complies with the provi-
sions of subsection (b) of this section, is fair and equitable, affords due
recognition to the rights of each class of creditors and stockholders, does
not discriminate unfairly in favor of any class of creditors or stockhold-
ers, and will conform to the requirements of the law of the land regarding
the participation of the various classes of creditors and stockholders. . .”’.
In reviewing the plan, ‘*[t]he power of the court does not extend to par-
ticipation in all responsibilities of the Commission. Valuation is « func-
tion limited to the Commission, without the necessity of approval by the
court . . . . The function of valuation thus left to the Commission is the
determination of the worth of the property valued, whether stated in dol-
lars, in securities or otherwise”. Ecker v. Western Pacific R. Corp. , 318
U.S. 448, 472 (1943). While it is clear that the statutory scheme vests in
the Commission (and not in the court) the determination of value of the
property on which the plan of reorganization depends, it remains for the
reorganization court to ascertain, within the statutory scheme, whether
the Commission's determination is supported by material evidence and
is in accordance with legal standards. /d. at 477. So long as the record
demonstrates both (1) the requisite support fui the Commission's find-
ings of fact and conclusion on valuation and (2) the application of correct
principles by the Commission in reaching its findings and conclusion, it
is not the function of the court to reexamine those findings or that con-
clusion.

The statutory provisions for valuation of a railroad in reorganization
are set forth in Section 77(e) (44):

If it shall be necessary to determine the value of any property for
any purpose under this section, the Commission shall determine such
value and certify the same to the court in its report on the plan. The
value of any property used in railroad operation shall be determined
on a basis which will give due consideration to the earning power of
the property, past, present, and prospective, and all other relevant
facts. In determining such value only effect shall be given to
the present cost of reproduction new depreciation and orig-

42

inal cost of the property, and the actual investment therein, as may
be required under the law of the land, in light of its earning power
and all other relevant facts.

Under the Amended Plan, the value of the reorganized B&M consists
in the expectation of income from its use of productive property. In such
case the earning power of the property is the primary factor in determin-
ing the value of the enterprise as an operating railroad. Group of Insti-
tutional Investors v. Chicago, Milwaukee, St. Paul & Pacific Railroad
Co. , 318 U.S. 523, 539-40 (1943); Ecker v. Western Pacific R. Corp.,
supra at 507. **The extent and method of inquiry necessary for a valua-
tion based on earning capacity are necessarily dependent on the facts of
each case.’ Consolidated Rock Co. v. Du Bois, 312 U.S. 510,527 (1941).

A

The Commission's determination of the value of the reorganized B&M
is about $24,250,000. (1.C.C. Decision at 24). See Ecker v. Western
Pacific R. Corp. , supra at 481, 483. The Commission had before it evi-
dence pertaining to past operating revenues and income, the system's
physical restructuring and condition, improvements at the management
level, and forecasts to 1985 of tonnage, revenues, expenditures, and
income. Overall there was adequate evidence of relevant future earning
power of the reorganized B&M, and, in addition, there were opinions of
value of the reorganized B&M given by witnesses called by the Trustees.
The Commission found that the Trustees have established the requisite
viability of the reorganized B&M on the basis of its realistic earning
potential, id. at 19, having found that the record establishes that the reor-
ganized B&M will produce sufficient earnings to justify approval of the
Amended Plan."

The Amended Plan calls for a pro forma capitalization of the reorga-
nized B&M totalling $60,525,000, as of January |, 1982, comprised of
total debt of $10,275,000 and total shareholder's equity of $50,250,000.
The debt portion consisted of equipment obligations in the amount
of $1,106,000, and capital leases of $9,169,000. Shareholder’s equity
included the $26 million of Redeemable Preference Shares, and
$2,425,000 allocated to 2,425,000 shares of new Common Stock (of $1
par value per share) and $21 ,825,000 to paid-in capital.

The pro forma capitalization reflects the elimination of the Debtor's
mortgage debt and the conversion of the Trustees’ Certificates, previ-
ously delivered to FRA, to the subordinated Redeemable Preference

43

Shares, and demonstrates that upon consummation of the Amended Plan
the reorganized B&M will commence business with an unusually low
amount of funded debt.

In computing the annual fixed charges of the reorganized B&M, the
Commission used the $1 1.1 million estimate of Mr. Guest for equipment
obligations, ‘rather than the $10,275 ,000 figure originally presented by
the Trustees"’, (1.C.C. Decision at 20, n. 14), and added to that estimate
Guilford’s loan of $1.5 million to the Trustees for acquisition and reha-
bilitation of ConRail lines in Massachusetts and Connecticut. Thus the
total funded debt used in this computation would amount to $12.6 mil-
lion. The evidence justified the Commission's use of the increased amount
of funded debt, which use was viewed by the Commission as constituting
a ‘‘conservative approach’’. Nevertheless, the substantial reduction
overall in funded debt that would be effected by consummation of the
Amended Plan would result in a decrease of annual fixed charges from
approximately $3.07 million in 1981 to no more than $1.3 million after
reorganization. The Commission's finding that the Amended Plan ade-
quately provides for coverage of the annual fixed charges of the reorga-
nized B&M by the probable earnings available for the payment thereof
is supported by material evidence and comports with correct principles.

The Commission's judgment that B&M'’s value for purpose of reor-
ganization is about $24,250,000 likewise is supported by material evi-
dence and accords with legal standards. Thus Guilford’s cash purchase
of the total common equity of the enterprise for $24,250,000 represents
an amount which is equivalent to the valuation found by the Commission.
Ecker v. Western Pacific R. Corp., supra at 483 (‘*[{T]}he determination
by the Commission of the aggregate amount of securities which may be
issued against the system is in substance a finding of total value for reor-
ganization purposes.’’). It is clear from the record that B&M'’s value for
purpose of reorganization would not support a capitalization which would
justify issuance of securities in addition to the new Common Stock pur-
chase by Guilford. The court concludes upon all the evidence that the
amount to be paid by Guilford is a fair price for the total issue of 2,425,000
shares of new Common Stock.

The Commission concluded that the provisions of the Amended Plan
for distribution of (1) the total of the cash in the Trustees’ Restricted Funds
Account plus $24,250,000 of cash to be paid by Guilford for the new
Common Stock, and (2) the CCIs, as required, to various classes of cred-
itors, are in accordance with the rule of absolute priority. North Pacific
Ry. Co. v. Boyd, 228 U.S. 482 (1913), and Case v. Los Angeles Lumber

Ad

Products Company, 308 U.S. 106 (1939). Classification of creditors and
the order of their priorities were established by orders of the court, entered
March 19, 1979 (Order No. 398) and April 19, 1982 (Order No. 637).
Order No. 637 provided for a separate classification of general unsecured
creditors, and defined their qualifications for membership in the class
(“‘six months’’ claimants). The Order provided that the priority of the
class shall be immediately junior to administration claims and secured
tax claims, but senior to all other claims, including those of bondholders.
Order No. 637 was entered after the Trustees had filed their plan, and
amendments, containing the description of ‘‘six months’’ claims in sec-
tion 1.19. To the extent that any inconsistency exists between the provi-
sions of section 1.19 and Order No. 637, the court will modify the
Amended Plan to conform with Order No. 637 *‘in order to carry out the
plan effectively’’. (I.C.C. Decision at 60). The Court agrees with the
Commission that the distribution of the cash and CCIs under the provi-
sions of the Amended Plan accords with the rule of absolute priority.

In accordance with the request contained in section 3.10 of the
Amended Pian, the Commission found that there is no value in the equity
of the presently outstanding common and preferred stock of the Debtor.
This conclusion follows from (a) the Commission's determination of the
value of the reorganized B&M at about $24 250,000, and (b) the fact that
the proposed distribution under the Amended Plan of cash and CCIs will
be insufficient to satisfy in full the claims of all creditors. Among others,
the general unsecured creditors of the Debtor to the full extent of their
debts are entitled to priority over the rights of stockholders in the property
of the Debtor. Kansas City Terminal Ry. Co. v. Central Union Trust Co. ,
271 U.S. 445, 455 (1926). Furthermore, the Commission determined
that the value of the B&M for purpose of reorganization does not justify
the issuance of options or warrants to creditors or stockholders to receive,
or subscribe for, the new Common Stock of the reorganized B&M. The
court is satisfied from the record that the foregoing finding and conclu-
sions of the Commission are supported by material evidence and are in

Under Section 77(d) the Commission is charged with the primary
responsibility of determining whether the Amended Plan is compatible
with the public interest. Ecker v. Western Pacific R. Corp. , supra at 473.
In 1967 (almost three years before the petition for reorganization was
filed) the Commission recognized the importance of B&M, as a railroad
system, ‘‘to New England and the national rail system.’’ The Commis-
sion has reiterated that recognition in its decision in these proceedings,”

45

thus emphasizing the regional and national importance of the B&M sys-
tem. Moreover, the Commission has expressly found that the Amended
Plan is compatible with the public interest.

In the proceedings before the Commission, all of the states in which
the Debtor operates (except Vermont, which took no position on the
Amended Plan) gave their support to the Plan. In its consideration of the
record before it, the Commission found that the reorganized B&M will
not be a new system, *‘having only a speculative prospect for continued
life’’ (I.C.C. Decision at 20, n. 13), but, rather, that Guilford ‘*has evinced
an unequivocal commitment to operate B&M for a long term’’. /d. at 19.
The Commission noted that “‘B&M’s affiliation with MEC and [Guil-
ford]—which is an integral part of the reorganization—should entail sub-
stantial positive benefits for the reorganized entity’’ (id. at21), and stated
that the reorganized B&M ‘will remain the same railroad presently being
operated, with additional traffic and competitive opportunities arising
from affiliation with MEC and its recent acquisition of Conrail [sic] prop-
erties”’. Id. at 20, n.13.

Thus after reviewing the Commission's findings on (1) the viability of
the reorganized B&M, (2) the amount and character of its conservative
capitalization, and (3) the reorganized railroads ability to make appro-
priate use of B&M’s existing facilities and plant to meet the need of the
public for an efficient and economical continuing transportation system
serving New England and the national rail system, the court agrees that
all such findings are adequately supported by the record, are in accord
with legal standards and justify the conclusion of the Commission that
the Amended Plan is compatible with the public interest.

The findings and conclusions of the Commission demonstrate that,
pursuant to Section 77(b)(5), the Amended Plan contains adequate means
for its execution. The Amended Plan provides for the transfer of control
of the productive operating properties, and other properties, retained by
the Debtor, free and clear of all claims of stockholders and, except for
$12.6 million of debt, free and clear of all claims of creditors. This trans-
yb agner is under the Amended Plan, will be effected by cancelling

esently outstanding preferred and common stock of the Debtor, pur-
canseaneaienentiecmmetatetectanntenmantie,
and by the issuance to Guilford for cash, the total authorized outstanding
2,425,000 shares of new Common Stock of the reorganized B&M. The
Amended Plan also provides for the affirmation of the Debtor's leases of
the properties of The Northern Railroad, the Stony Brook Railroad, and
the Vermont and Massachusetts Railroad, operated in the Debtor's sys-

46

tem, and the assumption by the reorganized B&M of certain executory
contracts. The Amended Plan further provides for the rejection of other
executory contracts, and leases.

As further means for its execution, the Amended Plan contains pro-
visions for the distribution of cash and certificates of contingent interest,
in accordance with the rule of absolute priority, for the satisfaction of
claims of secured and unsecured creditors; and provisions for the satis-
faction or elimination of existing liens, or other security, and for the cur-
ing of defaults. The Amended Plan also provides (a) for the conversion
of Trustees’ Certificates into Redeemable Preference Shares, (b) for the
transfer of cash from the Segregated Account, in the approximate amount
of $6 million, to the reorganized B&M to be used for working capital,
and (c) for the discharge of the Debtor from all debts and liabilities to its
creditors and stockholders.

The record supports the conclusion of the Commission that the
Amended Plan provides adequate means and resources for achieving
reorganization of B&M, ona conservatively capitalized basis, as a finan-
cially viable operating railroad.

The motion of Canadian Pacific Ltd. requesting the court to defer deci-
sion on the question of approval of the Amended Plan, certified to the
court here by the Commission, until such time as the Court of Appeals
for the District of Columbia Circuit has reached a decision on certain
petitions for review of the Commission's decision approving the Amended
Plan, was denied by Order of the court on November 3, 1982. The Mem-
orandum of the court stating the reasons for the denial was filed with the
Order.

Section 77(e) provides that submission of a plan to stockholders is not
necessary if their claims have been found worthless by the Commission,

“‘and the judge shall have affirmed the finding’’. As reported in its deci-
sion, the Commission found that the equity of the presently outstanding
preferfed and common stock of the Debtor has no value. In Ecker, the
Supreme Court made clear that the requirement of the distict court's affir-
mation of the Commission's action eliminating claimants having no equity
in the debtor's properties “‘points to a wider scope of review than an
inquiry as to whether statutory standards for valuation have been fol-
lowed"’. 318 U.S. at478. Nevertheless, the wider scope of review ‘‘does

not require an independent appraisal [by the court] of the valuation’ found

47

by the Commission and that **[t]he court properly affirms the Commis-
sion, when it finds no legal objection to the Commission's use of its own
valuation to determine whether particular claimants are entitled to par-
ticipate in the reorganization”’. /d. at 479.

The court has found that B&M's value for purpose of reorganization
is supported by material evidence and accords with legal standards, and
the court has not been made aware of any reason why that finding should
be reviewed. In view of the fact that Guilford will pay in cash an amount
at least equal to the value of the reorganized B&M for all the authorized
outstanding new Common Stock, issuance of additional new Common
Stock to the present stockholders in satisfaction of their claims would not
be justified. Furthermore, there is no requirement, constitutional or stat-
utory, that stockholders are entitled to ‘‘immediately valueless"’ options
or warrants to receive, or subscribe for, securities of a reorganized rail-
road. Ecker v. Western Pacific R. Corp. , supra at 476. Moreover, as the
court has found, the Amended Plan provides for distribution of the value
of B&M'’s assets for purpose of reorganization in accordance with the
rule of absolute priority. Thus the court affirms the finding of the Com-
mission that the equity of the present stockholders has no value.

VI

The opposition to the Amended Plan before the court comes from the
following: Providence and Worcester Railroad (‘‘P&W"’), CP, group of
state and local taxing authorities, a group of Six Months Creditors, the
State of New York,” the Maine-New Hampshire Interstate Bridge
Authority,” and two stockholders. The Commission reported in its deci-
sion that the principal opposition to the Plan before the Commission came
from P&W and CP, that no shareholders nor unsecured creditors
appeared to oppose the Plan, and that the other creditors—secured cred-
itors and the holders of priority ‘six months claims'—appear satisfied
with the plan and do not oppose it’’. (1.C.C, Decision at 17). The court
has considered all objections and claims presented by those who appeared
at the hearing, and by those who submitted objections and claims but did
not otherwise seek to be heard.

A
P&W, after the August | 1-12, 1982 hearing, filed a brief with the court
in which it persists in opposing the Plan. The grounds of opposition are
that the Commission disregarded the standard concerning cost of capital

stated in Chicago, Milwaukee, St. Paul Pacific Railroad Company, Reor-
ganization, 363 1.C.C. 17 (1980) (‘Milwaukee Road" ); that the Trust-
ees’ forecasts of future earnings are grossly overstated; that the reorga-
nized B&M has no prospect of covering its fixed charges; that the
Amended Plan does not allow for sufficient working capital; and that
approval of the Amended Plan by the Commission violated the provision
of the Constitution concerning uniform laws on the subject of bankruptcy.
Article I, Section 8 (in the fourth clause) of the United States Constitu-
tion. All except the last argument were presented to the Commission
which addressed and rejected them.

P&W is notacreditor of B&M, and appears to claim standing to oppose
the Amended Plan on the subtle ground that it (P&W) possibly might
become a creditor of a reorganized B&M. On the record before the court,
the nature of such possibility is not only incalculable, but is too uncertain,
indefinite and remote to qualify P&W as a party in interest, within the
meaning of Section 77(e), entitled to file objections to the Plan certified
by the Commission.

Assuming, arguendo, that the objections are properly here, neverthe-
less they must be found lacking in merit. The main thrusts of the objec-
tions are that (1) the Trustees’ forecasts are qverstated, and (2) even if
they are not overstated , the Amended Plan of reorganization is not viable.

The Trustees’ expert witness, Isabel H. Benham, concluded that the
going concern value of the reorganized B&M is $24,158,000 based on
(1) capitalization at 12 percent of the 1982-1985 average of the Trustees’
forecasts of net revenues from railroad operations, plus (2) capitalization
of income derived from other than rail operations, and (3) additions of
asset Values not presently producing earnings, with (4) deductions from
the total of the foregoing of debt and other ongoing liabilities of the reor-
ganized railroad. (Benham's Verified Statement, Appendix C). Miss
Benham explained the earning power component” of her valuation of
B&M, which she characterized as ‘‘an insolvent carrier’’ in bankruptcy,
in her testimony before the Administrative Law Judge. John Guest,
financial advisor to Guilford, testified to valuation of the reorganized
B&M in the range of $15-18 million. (Com. Ex. C-62)." Thomas
Dewey, Jr., witness for P& W, testified that he had no opinion of value of
the reorganized B&M. (Com. Tr. 774).

Miss Benham's opinion of value was challenged by Dewey as a “‘gross
overstatement"’ because her capitalization of earnings was based on the
Trustees’ forecast, which he thought was ‘‘spectacularly at variance with

49

the history in this case’’. (Com. Tr. 774). (Dewey agreed that he had
made nw independent analysis of the forecasts.) The record contains evi-
dence that the information which provided the basis of the Trustees’ fore-
casts was obtained by B& M's Marketing and Sales Department directly
from B&M's rail customers. The forecasts focused on six major com-
modity groups that have been, and are expected to be, the backbone of
B&M's freight business, and the probable market opportunities and traffic
levels through 1985. Miss Benham made a detailed analysis of the pro-
jections and their bases, as shown in Appendix D of her Verified State-
ment. Her view of the commodity mix overall is that it was ‘‘lackluster’’,
but she concluded that ‘‘every effort has been made to make the projec-
tions as conservative as possible’’. She was of the opinion that the pro-
jections for 1982 may not be reached, “‘but we would expect 1985 ton-
nage results to be fairly close to the targets with the possibility of revenues
substantially exceeding the forecasts’. (Appendix D at 7). She affirmed
this belief later in testimony that ‘‘in the five year period [the tonnage
forecasts] will come out probably exactly where they say they are,”’ and
noted that B&M's downturn in 1981 car loadings was no different than
that of the industry as a whole. She stated that B&M's tonnage and rev-
enues are projected to grow at a compound annual rate of | .5 percent and
1.2 percent, respectively, while operating expenses are estimated to
increase at the rate of 0.6 percent, compounded annually. She found the
Trustees’ estimated cash flows adequate to cover annual debt maturities
and capital expenditures, and she observed that ‘‘a high level of cash
inflows over cash outflows are [sic] more indicative of . . . viability and
financial strength than reported earnings or other yardsticks. . ."’. (Ben-
ham's Verified Statement at 13). According to Miss Benham, although
coverage of fixed charges is ‘‘more than adequate’ , the margin of safety
ratio for such charges is slim, suggesting ‘‘that revenues . . . may be
inadequate in relation to the cost of handling the traffic’. /d. at 16-17.
It was her view that ‘‘if the earnings and cash projections . . . should not
be realized . . ., the conservative capitalization of the reorganized com-
pany suggests that external funding of capital requirements would be pos-
sible without jeopardizing the ICC fixed charge coverage yardstick of
3.5x"’. She concluded that:

the Trustees’ projections are conservative and that, if revenue fore-
casts turn out to be too optimistic, there is room in the expense
accounts to compensate for any revenue decline because of the major
rehabilitation programs projected to be charged to those accounts.

Most important, the cash flow projections indicate that adequate debt
protection exists and that sufficient sums will be generated internally
to meet capital requirements over the first four years after consum-
mation of the Plan.

Id. at 16-17.

John Guest gave testimony in support of the Amended Plan and the
viability of B&M and Maine Central Railroad (‘“‘MEC*’) as components
of Guilford’s system. He contrasted B&M's ten years of deficits during
1970-1979 with the recent benefits to B&M brought about by the Trust-
ees in management, advantageous commuter service contracts, rehabil-
itation of the main line, and relief from burdensome work rules in labor
relations; and he noted that, absent the coal strike and expenditures for
excessive maintenance, B&M would have reported net revenue from
railway operations (‘‘NRRO"’) of approximately $1.0 million in 1981.
He observed that under the Amended Plan B&M will emerge from bank-
ruptcy with a $12.6 million debt, ‘an unusually low amount of funded
debt"’ , and that his pro forma statements of income and cash flow, based
on alternative assumptions of (a) NRRO at $2.5 million a year and (b)
NRRO at $4.7 million a year (reflecting B&M’s share of benefits from
Guilford’s common control of B&M and MEC), indicate that under nor-
mal economic conditions B&M should enjoy positive net income, and
demonstrate both a satisfactory fixed charge coverage ratio and a high
ratio of gross cash flow to total debt. He noted that in assessing viability
of an enterprise it is necessary to consider both good years and bad years,
and that ‘‘unusual adverse events such as the impact of a coal strike may
appropriately be excluded ..."’. Turning to the feasibility of the
Amended Plan, Guest concluded that the effect of the recession on B& M's
recovery progress did not appear to daunt Mr. Mellon, who ‘‘testified
. . . that Guilford viewed B&M as a long range investment and [that he]
continued to support the Trustees’ plan, including the payment of
$24,250,000 for the entire [issued] common stock of the reorganized
railroad’’. (Guest's Verified Statement at 9).

Material evidence was presented to the Commission concerning the
value of the reorganized B&M. It is true that in 1981 and 1982 earnings
of the Debtor fell short of earnings predicted tur those years by the Trust-
ees, but, as the Commission found, the shortfall resulted in large part
from unusual adverse conditions arising out of the continuing economic
recession coupled with a coal strike and expenditures for excessive main-
tenance. There was adequate evidence to support these findings, and the

51

weight to be accorded to the conditions referred to, and the conclusions
reached, by the Commission are not subject to reexamination here.
Moreover, there was additional evidence of factors relevant to future
earning power of the reorganized B&M in the record before the Com-
mission; thus the Commission was noi bound to agree with P& W's argu-
ment that the Trustees’ forecasts for 1982 through 1985 like a “‘house of
cards must now come tumbling down’’. Nor was the Commission bound
to accept P& W’s estimate of the yield from B&M'’s contract with MBTA,
or the adverse impact on B&M’s revenues which P&W assumed would
result from the Norfolk and Western-Southern (*‘NS’’) consolidation.
The thrust of these arguments is not that the record was lacking in evidence
to support the Commission's findings and conclusions; rather, it is that
the Commission should have found facts as

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Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385011_1473%3A1. Public record. Not legal advice.