Petition for a Writ of Certiorari — Prudence-Bonds Corp. v. Silbiger

INDEX

PAGE

Opinion Below

Jurisdiction

Questions Presented

Statute Involved

Statement

Specification of Errors to Be Urged

Reasons for Granting the Writ

Conclusion

Appendix

a

bo e+ toe & & IO Po to

CASES

American United Mutual Life Ins. Co. v. City of Avon

Park, 311 U. S. 188 13

Berner v. Equitable Office Building, 175 F. 2d 218.17, 18, 19

Brooklyn Trust Co. v. Kelby, 134 F. 2d 105, cert.

denied, 319 U. S. 767 6

Brown v. Gerdes, 321 U. S. 178 20

Central Hanover B. & T. Co. v. President and Directors

of the Manhattan Co., 105 F. 2d 130 6

City Bank Farmers Trust Co. v. Cannon, 291 N. Y.

125 17

Dickinson Industrial Site, Ine. v. Cowan, 309 U. S. 382 20

Eddy v. Kelby, 319 U. S. 755 6

Eddy v. Kelby, 163 F. 2d 56, cert. denied, 332 U. S.

836 6

Eddy v. Kelsey, 148 F. 2d 323 6

Eddy v. Prudence-Bonds Corporation, 165 F. 2d 157,

eert. denied, 333 U. 8. 5... 6, 7, 8, 16

Equitable Office Building, In re, U. S. D. C., 8S. D.N. Y.,

Jan. 10, 1950, Knox, J., not officially reported............ 18

ii

PAGE

Manufacturers Trust Co. v. Kelby, 125 F. 2d 650, cert.

denied, 316 U. S. 697 6

Meinhard v. Salmon, 249 N. Y. 458 13, 14

Midland United Co., In re, 64 F. Supp. 399, aff’d 159

F. 2d 340 18, 20, 21

Munson et al. v. S. G. & C. R. R. Co., 103 N. Y. 5800. 17

Presbyterian Church v. Plainfield Trust Co., 139 N. J.

Kq. 501 17

President and Directors of the Manhattan Co. v. Kelby,

57 F. Supp. 839, modified and affirmed, 147 F. 2d 465,

cert. denied, 324 U. S. 866 6

Prudence-Bonds Corporation, In re, 76 F. Supp. 643... 6

Silbiger v. Prudence-Bonds Corporation, No. 546, Oc-

tober Term, 1949, not officially reported 10

Teasdale v. Sefton Nat. Fibre Can Co., 85 F. 2d 379... 20

Trustees v. Greenough, 105 U. 8. 527 21

United States v. Costen, 38 Fed. 24 19

Weil v. Neary, 278 U. S. 160 17

Wendt v. Fisher, 243 N. Y. 439 17

Woods v. City National Bank, 312 U. S. 262.13, 14, 18

Young v. Highbee Co., 324 U. S. 204 20

Young v. Potts, 161 F. 2d 597 20

STATUTES

Bankruptey Act:

See. 24(¢), 11 U. S. C. See. 47(e) 2

See. 210, 11 U.S. C. See. 610. 11, 22

See. 249, 11 U. S. C. See. 649 18, 20, 21, 22

Judicial Code:

See. 240(a), a8. S. C. See. 347(a) 9

IN THE

Supreme Court of the United States

OCTOBER TERM, 1949

PrupENcE-Bonps Corporation (New Corporation),

Petitioner,

v.

SAMUEL SILBIGER, et al.

PETITION FOR WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS

FOR THE SECOND CIRCUIT

To the Honorable, the Chief Justice of the United States

and the Associate Justices of the Supreme Court of the

United States:

Petitioner, Prudence-Bonds Corporation (New Corpora-

tion), respectfully prays that a writ of certiorari issue to

review the decree of the United States Court of Appeals

for the Second Circuit entered in the above cause on March

7, 1950, modifying an allowance awarded to Samuel Sil-

higer, Esq., and affirming allowances awarded to Arthur

Miller, Esq. and Weil, Gotshal & Manges, Esqs. for serv-

ices in the proceeding for reorganization of Prudence-

Bonds Corporation, Debtor, under Section 77B of the Bank-

ruptey Act (R. 755, 765). Petitioner’s appeal to the Court

helow was taken by leave of the Court and “limited to the

question of conflict of interest represented” (R. 7).

— PARP IL PEER NS ADSL LM SET OPER AEC DOE ELT NE URE IE YN PSE IE EE

bo

Opinion Below

The opinion of the Court of Appeals for the Second Cir-

cuit dated March 7, 1950 (R. 755) is not vet reported.

Jurisdiction

The decree of the Court of Appeals, Second Circuit, was

entered on March 7, 1950 (R. 765). Petitions for rehear-

ing filed in that Court by petitioner (R. 766) and by Samuel

Silbiger. Esq. (R. 779) were denied on April 5, 1950 (R.

786), although the Court, on the said petition of petitioner,

amended its opinion (R. 785).

The jurisdiction of this Court is invoked under Section

240(a) of the Judicial Code, as amended, 28 U. S. C. 347(a),

and Section 24(¢c) of the Bankruptey Act, as amended, 11

U.S. C. See. 47(e).

Questions Presented

In a corporate reorganization under the Bankruptcy Act,

a proceeding (called for convenience the “Construction

Proceeding”) was had to construe a confirmed Plan of Re-

organization, and involved, in part, a controversy over

priorities among two classes of bondholders, one class being

called “Surplus Series”, the other “Deficit Series”. Two

differing situations necessitate division of the questions

into two eategories.

I

Samuel Silbiger, Esq., an attorney at law, represented

bondholders of both Surplus and Deticit Series. Without

consent of his clients or court authorization, Mr. Silbiger

advocated in the Construction Proceeding the interests of

his Surplus Series clients and opposed the interests of his

%y

er rene ee Re See ROR ee AIRCES i as

3

Deficit Series clients. The Surplus Series won the contro-

versy on an appeal prosecuted by Mr. Silbiger and others.

Mr. Silbiger was awarded an allowance of $75,000 pay-

able by the Surplus Series. On appeal by petitioner and

Reconstruction Finance Corporation, the Court below held

that Mr. Silbiger represented conflicting interests and was

disloyal to one of the interests, but, confessing to a de-

parture from the established “rule of undivided loyalty”,

which requires denial of all compensation to an attorney

serving conflicting interests, held that he may neverthe-

less have an allowance on a reduced basis on the ground

“there is a distinction between a corporate reorganization

and an ordinary suit inter partes” (R. 760).

The questions presented regarding Mr. Silbiger are:

1. Is the “rule of undivided loyalty” applicable to attor-

neys at law with the same force and effect in a corporate

reorganization proceeding under the Bankruptey Act as it is

in a suit inter partes?

2. In» vying the “rule of undivided loyalty” can a valid

distinc’ » be made between a corporate reorganization

proceeding under the Bankruptey Act and a suit inter

partes so as to authorize the bankruptcy court te award an

allowance to an attorney serving conflicting interests, pay-

able by the interest to whom he was loyal?

3. Is the decision of the Court below a valid exception

to the “rule of undivided loyalty” as enunciated in deci-

sions of this Court involving conflicts of interests in bank-

ruptey eases?

II

Arthur Miller, Esq. and Messrs. Weil, Gotshal & Manges

appeared in the Construction Proceeding on behalf of indi-

vidual clients who bought and sold during the proceeding

many large blocks of bonds of both Surplus and Deficit

Series. They advocated the side of the Surplus Series;

RR apes evry. eg LR SAINT NSTI NTR pr8 pe DR GA Da gg SI eta NER ERR

4

they did not purport to represent or owe any duty to other

bondholders of any class; and they did not file the state-

ment required by Section 210 of the Bankruptcy Act. The

Court below affirmed allowances to them aggregating

$30,000, payable by the Surplus Series.

The questions presented regarding these awards are: *

4. Does the Bankruptcy Act require denial of any al-

lowance of compensation to attorneys whose clients, dur-

ing the proeeeding in respect of which the services were

rendered, actively traded in the securities of the corpo-

ration in reorganization?

5. In a contest in a corporate reorganization over prior-

ities among classes of security holders are the interests of

individuals who actively trade in the securities of the dif-

ferent classes in conflict with the interests of the classes,

and, if so, does the Bankruptey Act require denial of al-

lowances to attorneys who appear only for such individuals

and disclaim any duty to any class?

Statute Involved

The pertinent provisions of the Bankruptey Act, as

amended, are set forth in the Appendix, infra, p. 22.

Statement

When the Debtor went into reorganization it had out-

standing eighteen Series of bonds aggregating approxi-

* The Court below held that there might be a right of subrogation

against the clients of Mr. Miller and Messrs. Weil, Gotshal & Manges,

but that it could not determine such question for the reason the

clients “are not parties to this proceeding and have not been heard”

(R. 764). An additional question which will be urged in the argu-

ment on the merits is whether such right of subrogation is not

determinable in the proceeding to fix allowances and enforceable by

way of reduction of the allowances made.

a |

mately $56,000,000 (R. 212). Each Series was secured by

Trust Fund collateral under a Trust Agreement made by

the Debtor to a Bank, as Trustee (R. 212). As each Series

had separate collateral, some Series were better secured

than others (R. 671-672). The bonds of all Series were

guaranteed by The Prudence Company, Ine. which itself

held $1,910,300 principal amount of the bonds, including

some bonds of each Series (R. 212-213).

During the reorganization the Debtor was found to be

insolvent (R. 213). The bonds held by the Guarantor

were subordinated to the bonds of each Series in the hands

of the public (R. 214). The Guarantor itself went into re-

organization, was found to be insolvent and was succeeded,

under a Plan of Reorganization, by a new corporation

named Prudence Realization Corporation, which thereupon

became the holder of the subordinated bonds (R. 212).

The Plan of Reorganization of Prudence-Bonds Corpo-

ration, consisting of a separate Plan for each bond Series

and a General Plan, was confirmed in 1938; the separate

Series Plans, except one, were all substantially the same

(R. 215). The General Plan provided for a new corpora-

tion, also named Prudence-Bonds Corporation (petitioner

here), to be owned by the bondholders; the separate Series

Plans for an extension of the maturity of the bonds and

changes in interest provisions (R. 119, 215). Eleven Banks

had been Trustees of the bond Series (R. 120). Under the

Plan, one Bank became Trustee of all Series under a Sup-

plemental Trust Agreement with petitioner (R. 215). Upon

confirmation, jurisdiction was reserved to carry out the

Plan (R. 215).

As part of the proceedings to carry out the Plan, the

hankruptey court, among other things, authorized and di-

rected the former Bank Trustees of the bond Series to

account in the reorganization court for their acts as Trus-

tees (R. 217). There then ensued extensive litigation re-

lating to the accounts which has been the subject of sev-

rary totaal | ~ ST ee

SPARE LORENA LAE ERIC R ENA DEALT LAINE PY as 2 ahd 2 PLE a A

seme |

6

eral decisions of the District Court, the Court of Appeals

and several petitions for certiorari.*

The Construction Proceeding, in respect of which the

instant allowances were awarded, was instituted in the fall

of 1945, following collection of a large judgment against

one of the accounting Bank Trustees (R. 121-122).t The

questions in the proceeding arose in this way:

The Trust Funds of the Surpius Series had collateral

sufficient to pay the principal of the publicly held bonds

of the Series and leave an excess in principal account, but

the excess was not sufficient to pay the arrears of interest

at the original bond rate (R. 562-564, 665). The Trust

Funds of the Deficit Series (which constitute the major-

ity of the 18 Series) are insufficient to pay the principal of

the publicly held bonds (R. 665). The Plan provided that

interest on the bends was payable at the rate of 514%,

but only to the extent that income on the Trust Fund col-

lateral would suffice, and, in substance, that no payments

of principal or interest were to be made on the subordi-

nated bonds until the publicly held bonds of the Series

were paid in full (Prior record,t pp. 111-113, 164). The

* Central Hanover B. & T. Co. v. President and Directors of the

Manhattan Co., 105 F. 2d 130; Manufacturers Trust Co. v. Kelby,

125 F. 2d 650, cert. denied, 316 U. S. 697; Brooklyn Trust Co. v.

Kelby, 134 F. 2d 105, cert. denied, 319 U. S. 767; President and

Directors of the Manhattan Co. v. Kelby, 57 F. Supp. 839, modified

and affirmed, 147 F. 2d 465, cert. denied, 324 U. S. 866; Eddy v.

Kelsey, 148 F. 2d 323; In re Prudence-Bonds Corporation, 76 F.

Supp. 643 ; see also Eddy v. Kelby, 319 U. S. 755, and Eddy v. Kelby,

163 F. 2d 56, cert. denied, 332 U. S. 836, relating to allowances in

the accounting proceedings.

+ On the accountings in 15 of the 18 Series of bonds approximately

$4,277,100 was recovered for the Trust Funds and allowances for

services and expenses in connection therewith were heretofore

awarded by the bankruptcy court (R. 227-228). The accountings

in two Series are pending.

t “Prior record” refers to record on appeal in the Construction

Proceeding, Eddy v. Prudence-Bonds Corporation, 165 F. 2d 157,

cert. denied, 333 U. S. 845, which is an exhibit in the instant case,

but was not printed since it is on file in the Court below and in this

Court.

EE OS POMP Se Rae Me eee DEES ILLNESS GOERS LENSE MEP A

Tg RE RARE SEC LIO Re

(

Plan further provided that upon retirement of all bonds of

a Series all collateral remaining in the Trust Fund was

distributable, when liquidated, pro rata among the other

Series then outstanding (Prior record, p. 155; R. 222-223).

The purpose of this latter provision was to “enable the

less fortunate to be benefited from an excess of collateral

of the better issues” (Prior record, pp. 261-262; R. 671-

672).

The main question which arose in the Construction Pro-

ceeding was how collateral in principal account of a Series

in excess of an amount sufficient to pay the principal of

the publicly held bonds of the Series was distributable

among the three classes of creditors having an interest

therein; namely, 1) the publicly held bonds, 2) the sub-

ordinated bonds, and 3) the other Series of bonds.* This

in turn raised the question: When were the publicly held

bonds to be deemed paid in full? Were they paid in full

upon payment of principal with income interest only, or

were they entitled to unpaid interest at the original bond

rate to the date of final payment of the principal and to

have such arrears of interest paid out of the corpus of the

Trust Funds before any payments could be made to sub-

ordinate lienors? +

*In the Fifth and Ninth Series there was an additional creditor.

The Bank, which was the former Trustee, obtained, on payment

of the surcharge recovered against it, liens of $85,825 and $88,124.98

on the Fifth and Ninth Series Trust Funds, respectively, which were

subordinated to all bonds of the respective Series, including the sub-

ordinated bonds (R. 228), and thus had priority over the above

mentioned class 3 creditors, namely, the other Series of bonds. In

addition, the judgment against the Bank provided that if the bonds

of either the Fifth or Ninth Series were “paid in full’, the Bank

could apply “for relief by way of repayment to it of any surplus

remaining in the Trust Fund” (R. 228).

+ Certain subsidiary questions relating to adjustment of funds

between principal and income accounts were also involved in the

Construction Proceeding, but these questions became moot by the

decision of the Court of Appeals on the main question (Eddy v.

Prudenc--Bonds Corporation, 165 F. 2d 157).

8

To obtain a judicial determination of the question of

construction, petitioner and City Bank Farmers Trust

Company, the new Trustee for all Series, petitioned the

reorganization court for instructions (R, 228-229, 234-235,

236-2387),

The issue was referred to a Special Master who reported,

in substance, that the bonds were income bonds on which

interest was payable only to the extent earned on the col-

lateral (R. 131).

Under the Master’s Report, collateral in Surplus Series

was to be used, first, to pay the principal of the subordi-

nated bonds of the Series, and the balance then remain-

ing was distributable pro rata among the public bondhold-

ers of the Deficit Series, with the exception that in the

Kifth and Ninth Series the above mentioned subordinate

liens of the Bank were to be paid first out of collateral

remaining after payment of the principal of the subordi-

nated bonds of said Series respectively (R. 131). To illus-

trate, the Fifth Series is a Surplus Series. After pay-

ment of the principal of the Fifth Series bonds there

remained $360,610.22, which, under the Master’s Report,

was payable, 1) $67,200 in full payment of subordinated

Fifth Series bonds, 2) $85,825 in full payment of the Bank’s

subordinate lien, and 3) $207,585.22 to the publie bond-

holders of the Deficit Series pro rata (R. 665).

In the aggregate, under the Special Master’s Report,

the public bondholders of the Deficit Series would have re-

ceived approximately $810,000 from the Surplus Series

(R. 665),

The Master’s Report was confirmed by the District

Court (R. 237-239), and on an appeal prosecuted by Mr.

Silbiger and Messrs. Weil, Gotshal & Manges the order

of the District Court was reversed (Eddy vy. Prudence-

Bonds Corporation, 165 F, 2d 157), certiorari was denied

(333 U.S. 845) and the Construction Proceeding was con-

cluded in July, 1948 (R. 248).

Under the reversing order of the Court of Appeals (165

I’, 2d 157), collateral remaining in principal account of

SRE ONE a RE ry om SRA RIDIN HPL NMI f EME TIED ROR RUT

9

a Surplus Series is distributable on account of arrears of

interest on the bonds of the Series at the original bond

rate, with the result that neither the subordinated bond-

holder nor the Bank (as holder of a subordinate lien in

the ease of the Fifth and Ninth Series only), nor the public

bondholders of the Deficit Series will receive any distribu-

tive share from the Surplus Series.

In the reorganization, Mr. Silbiger represented George

Ii. Eddy, Katherine Born and Bessie B. Reilly (R. 248-

249, 365, 368, 369, 513-522, 533, 543, 573-575). Mr. Eddy

holds $16,000 of bonds of ten Series, $4,000 of which are

of Surplus Series and $12,000 of Deficit Series (R. 248-

249, 575, 665). Mrs. Born and Mrs. Reilly hold a total

of $14,000 of bonds of three Series, all of whith are Deficit

Series (R. 249, 573-574, 665). The result successfully

advocated by Mr. Silbiger in the Construction Proceeding

was adverse to the financial interests of Mrs. Born and

Mrs. Reilly, and to the financial interests of Mr. Eddy as

holder of $12,000 of Deficit Series bonds. Under the order

of the District Court, which Mr. Silbiger aided in revers-

ing, the Deficit Series in which Mr. Eddy holds bonds

would have received approximately $624,500 from the Sur-

plus Series, and the Deficit Series in which Mrs. Born

and Mrs. Reilly hold bonds would have received approxi-

mately $155,200 (R. 222-223, 248-249, 573-574, 665).

For his services in the Construction Proceeding, which

were not extensive,* and the result of which adversely

* The Construction Proceeding involved, in substance, only three

short hearings before the Master, one contested motion before the

District Court, a consolidated appeal, a petition for rehearing and

a petition for certiorari (R. 244-245). All papers prepared by Mr.

Silbiger in all courts, exclusive of his briefs, totaled only 49 es

(R. 146-147). In his brief on the appeal in the proceeding ) Mr.

Silbiger stated, “In the case at bar no dispute as to any facts ever

arose * * *, The only issues presented are issues of law, involving

the interpretation of the plans * * *” (R. 288-289). And in his

brief in this court in opposition to the petition for certiorari, Mr.

Silbiger stated, “No controversy of public interest or “een

with respect to legal principles is involved” (R. 289).

a IP ROR RET RO PRY ERM MRE RIE RY ER TARE AS RIE EN ORNEMED EE NI RR oer

10

affected the financial interests of two of his three indi-

vidual clients and may have adversely affected his third

client,* Mr. Silbiger requested an allowance of $459,500 ;+

he was awarded $75,000 (R. 10, 158), which sum is subject

to reduction under the decision of the Court below (R.

761).4

Mr. Miller and Messrs. Weil, Gotshal & Manges ap-

peared in the Construction Proceeding on behalf of two

groups of individual bondholders (R. 326, 328, 352-353,

544-545, 546, 553-554, 611, 622). During the pendency of

the reorganization the clients of these attorneys traded in

Prudence bonds on a large scale. Mr. Miller’s clients pur-

chased $447,300 of the bonds and sold $244,300 of bonds;

the clients of Messrs. Weil, Gotshal & Manges purchased

$537,100 of bonds and sold $439,000 of bonds (R. 153-156,

616, 666-669, 708-711, see also R. 306-315). As the Court

below said, “Miller’s clients always held and traded in

more bonds of ‘Surplus Series’ than ‘Deficit Series’; Weil,

Gotshal & Manges’ clients’ dealings were more in bonds of

‘Deficit Series’” (R. 761). These attorneys, notwithstand-

ing their clients dealt in bonds of most all Series, confined

their activities in the Construction Proceeding to the Fifth

Series (R. 326, 357, 609, 611). They said they never in-

quired whether their clients held bonds of other Series

(R. 547, 553): and claimed they first learned of such fact

* Mr. Silbiger testified in the proceeding to fix his allowance that

he did not know “how the results (of the Construction Proceeding)

affected the financial interests of Mr. Eddy”, and that he never

“made the calculation whether he was better off one way or another”

(R. 467).

+ Petitioner contended that the allowance requested by Mr. Silbiger

“was so exorbitant as to shock the conscience of a court of equity”

and justify denial of any allowance (R. 113, 114).

¢ Mr. Silbiger applied for leave to appeal his award of $75,000

and his application was denied; he attempted to appeal as of right

and his appeal was dismissed. He then petitioned for certiorari

to review the orders of the Court below and his petition was denied

on April 24, 1950 ( Silbiger v. Prudence-Bonds Corporation, No. 546,

October Term, 1949).

ae ee ge REPU DP ARNON SE IER A IN TERR ANE NS RET RENEE YAH AAR Gt TOTO

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11

when petitioner proved it at the hearings on the allowance

applications (R. 553, 570-571).* They advocated in the

Construction Proceeding the side of the Surplus Series.

Mr. Miller, however, did not appeal and took no part in

the appeal (R. 183-184, 263, 268, 331-332). Messrs. Weil,

(iotshal & Manges applied for an allowance of $50,000 and

were awarded $20,000; Mr. Miller applied for $16,500 and

was awarded $10,000 (R. 10, 158). Their awards were

affirmed by the Court below (R. 761).

The allowance applications were first passed upon by a

Special Master, whose Report was modified by increasing

by $5,000 the allowance to Messrs. Weil, Gotshal & Manges

and as so modified confirmed (R. 10, 157, 318). Petitioner

and Reconstruction Finance Corporation filed objections

to the applications (R. 112, 148), and objections to the

Master’s Report (R. 189, 205, 276). Petitioner and RFC

sought leave to appeal on several grounds (R. 13) and

their application was granted limited to the questions of

conflicts of interests (R. 7).

Specification of Errors to Be Urged

The Court below erred:

1. In holding that Samuel Silbiger, Esq. may be awarded

an allowance notwithstanding its finding that he served

two conflicting interests and opposed and was disloyal to

one of the interests he represented.

2. In holding that a particular exception may be made

to the “rule of undivided loyalty” in a case of an attorney

who serves conflicting interests in a corporate reorganiza-

tion under the Bankruptey Act.

3. In holding that the “rule of undivided loyalty” has

less force in a corporate reorganization under the Bank-

ruptey Act than it has in a suit inter partes.

* They would have learned about their clients’ holdings and deal-

ings in the bonds if they had complied with Section 210 ot the

Bankruptcy Act.

LER ELAM LE MS RARER ALON IIT IR RACE NRE IRE TEES REMI PSS acc

asi die " ce de

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4. In failing to hold that Mr. Silbiger should he denied

any allowance.

d. In holding with regard to Mr. Miller and Messrs.

Weil, Gotshal & Manges that the Bankruptey Act au-

thorizes the granting of an allowance to attorneys serving

only the individual interests of speculators in the bonds

of the corporation in reorganization.

6. In holding that the clients of Mr. Miller and Messrs.

Weil, Gotshal & Manges are not parties to the instant

proceeding to fix allowances, and in failing to hold that

any right of subrogation against the said clients could be

enforced by way of reduction of the allowances awarded

to the said attorneys.

7. In failing to hold that Mr. Miller and Messrs. Weil,

Gotshal & Manges should be denied any allowance.

Reasons for Granting the Writ

1. The decision of the Court below presents important

questions of law involving the administration of the Bank-

ruptey Act and the obligations of an attorney to his clients

in corporate reorganization cases.

2. The decision below with regard to Mr. Silbiger:

(a) Is a departure from established doctrine and is

probably in substantial conflict with decisions of this Court

and of other appellate courts, both State and Federal.

(b) The Court below determined that Mr. Silbiger rep-

resented conflicting interests and was disloyal to one of

the interests and that he “must be denied any allowance

whatever, unless there is a distinction between a corpo-

rate reorganization and an ordinary suit inter partes”

(R. 760). The Court held there was such a distinction and

that the penalty of Mr. Silbiger’s dislovalty should be a

<p eS:

Ne Bal a a a ek a a a aa OSA ge SEN MAT VR Sa SRS

13

reduction of his allowance, rather than a denial of any

allowanee. The Court then said (R. 761):

“* * * How far the penalty should be mitigated, we

leave to the district court * * *. We will, however,

say now—all the issues having been argued—that we

should regard it as an abuse of discretion not to cut

the allowance by at least one-third. * * * We do not

wish to indicate that we think a eut of one-third is

ooum,” **.”

There is no yardstick to measure in dollars the amount

by which an allowance should be reduced in a case of dis-

loyalty of an attorney to a client; the suggested cut of at

least one-third appears to be speculative and arbitrary.

“Such a calculation of probabilities is beyond the science

of the chancery” (Cardozo, C. J., in Meinhard v. Salmon,

249 N. Y. 458, 465). The Deficit Series clients whom Mr.

Silbiger opposed and to whom he was disloyal would have

received in excess of $667,000 under the order of the Dis-

trict Court in the Construction Proceeding which Mr. Sil-

higer appealed and aided in reversing on behalf of his

Surplus Series clients. This Court, in Woods v. City Na-

tional Bank, 312 U. S. 262, 268, said: “the incidence of a

particular conflict of interest can seldom be measured”

and the “bankruptey court need not speculate” as to the

effect or result of the conflict. This Court also said in

the Woods ease (p. 268), citing American United Mutual

Life Ins. Co. v. City of Avon Park, 311 U. S. 138: “ ‘rea-

sonable compensation for services rendered’ necessarily

implies loyal and disinterested service in the interest of

those for whom the claimant purported to act”.

(ec) The Court below, in holding that Mr. Silbiger may

have an allowance, stated (R. 759-760) :

“«* * * Certainly by the beginning of the Seven-

teenth Century it had become a common-place that an

attorney must not represent opposed interests; and

the usual consequence has been that he is debarred

from receiving any fee from either, no matter how

successful his labors * * *.”

— a

= FEDERER IDR LPR TRF

14

And then concluded by saying (R. 761):

“* * * we recognize that we are departing from a

doctrine that has been applied with great severity.”

In departing from established doctrine, the Court below

failed to follow the decision of this Court in the Woods

case, supra, which requires “strict adherence” to the doc-

trine, particularly in corporate reorganization cases. In

the Woods case, this Court cited and relied upon Meinhard

v. Salmon, 249 N. Y. 458, 464, where Mr. Justice Cardozo

(then Chief Judge) made his classie statement on the atti-

tude of courts of equity when petitioned “to undermine

the rule of undivided loyalty by the ‘disintegrating ero-

sion’ of particular exceptions” and said the rule “will not

consciously be lowered by any judgment of this Court”.

Both this Court and the New York Court of Appeals

recognized that one “particular exception” leads to an-

other, and a seemingly good one usually to a bad one.

The “particular exception” made by the Court below is

that the rule is not applicable with full force in cases of

lawyers who serve conflicting interests in corporate reor-

ganizations under the Bankruptcy Act (R. 760).

The dangers inherent in making exceptions to the “rule

of undivided loyalty” are indicated by the speculations in-

dulged in to make the instant exception. The basis for the

exception was that Mr. Silbiger’s Deficit Series clients

were represented in the Construction Proceeding by peti-

tioner, Prudenece-Bonds Corporation (R. 760); the infer-

ence being that they were, therefore, adequately repre-

sented and only partially injured by Mr. Silbiger’s dis-

loyalty. On the petition for rehearing, however, the pillar

on which the exception stood fell; the Court below admitted

it made a mistake of fact in saving that the Deficit Series

were represented by petitioner, Prudence-Bonds Corpora-

tion (R. 785).* The Court then made a second choice. It

.

* Petitioner Prudence-Bonds Corporation represents all eighteen

Series of bonds and at each stage of the Construction Proceeding

made it clear that it could not and should not advocate for one group

of its bondholders in opposition to the other (R. 775-778).

aS Tee Fa i SRO PN ME HEARS ¥ LO LEO TE BE ION IPE HI TIO ORT

15

said the public bondholders of the Deficit Series were rep-

resented by Prudence Realization Corporation, the suc-

cessor to the defaulting Guarantor and holder of the sub-

ordinated bonds of both Surplus and Deficit Series (R. 785,

212-213), and that if Mr. Silbiger had applied to the Court

“to be freed of his duties to” the Deficit Series “it is at least

doubtful whether * * * the judge would have thought it

necessary that an attorney should be appointed in addition

to him who represented the Prudence Realization Corpora-

tion” (R. 785). It is on this that the exception now stands.

If Mr. ‘Silbiger had made such an application it is doubt-

ful that the Judge would have granted it without appro-

priate consents of the three individuals who retained Mr.

Silhiger and made it possible for him to be in the case. It

is doubtful that the Judge would have granted it at all.

If all facets had been brought out, the application might

very well have been viewed with suspicion. Mr. Silbiger

would have been seeking court authorization to advocate

for a result which would adversely affect the financial

interests of two of his individual clients and might ad-

versely affect the financial interests of his third client.*

Upon abandonment by Mr. Silbiger of the three bond-

holder clients through whom hé derived a right to repre-

sent bondholders as a class, Mr. Silbiger would have been

left without any client and would have had no standing to

continue in the proceeding.

There is also substantial doubt whether the District

Court Judge would have considered the public bond-

holders of the Deficit Series adequately represented by

counsel for the subordinated bondholder. It is true that

if the subordinated hondholder had sueceeded in the posi-

* Mr. Silbiger’s clients Mrs. Born and Mrs. Reilly held $14,000 of

honds all of Deficit Series, and of the $16,000 of bonds held by his

client Mr. Eddy, $12,000 were of Deficit Series (R. 248-249, 573-575.

665). In the proceeding to fix allowances, Mr. Silbiger admitted

Mr. Eddy may have lost money as a result of the contentions he

advocated in the Construction Proceeding (R. 469).

— Daa NSTI ARTE EER RE LNA TOG NN ANT RR ARR PRB BAIT LR MECN RN RD AOR LO IY LEI FEI

16

tion it took in the Construction Proceeding the public bond-

holders of the Deficit Series would have benefited. But it

is true also that the subordinated bondholder did not speak

for and was not authorized to speak for the Deficit Series

publie bondholders. The result was that the appeal in the

Construction Proceeding was briefed as if it presented only

a contest between the public bondholders of all Series on

one side and the subordinated bondholder (the defaulting

Guarantor) on the other (R. 594). And it may have been

decided on such an erroneous assumption. The Court

below, by the three Judges who decided the instant appeal,

said in their opinion on the Construction Proceeding ap-

peal “We sustain the position of the Publicly Held Bonds”,

whereas, actually their decision was against all Deficit

Series public bondholders who constitute the majority of all

publie bondholders (Eddy v. Prudence-Bonds Corporation,

165 F. 2d 157, 159, cert. denied, 333 U. S. 845). Then for

the first time the subordinated bondholder undertook to

speak for the Deficit Series public bondholders. It peti-

tioned for rehearing and certiorari and urged that the

Court had “Mistakenly assumed the controversy was be-

tween the Publicly-Held Bonds on the one side, and the

Guarantor on the other” (R. 594-595). Its efforts at that

point to aid itself by mentioning the rights of the Deficit

Series public bondholders were futile and came much too

late to be considered as constituting adequate representa-

tion of the Deficit Series.

The tenuous theory of the exception is, therefore, that

if counsel for another party had won his ease he would

have incidentally won the ease for the clients to whom Mr.

Silbiger was disloyal. The theory is entirely speculative,

it is wholly contrary to the basie reasons for the “rule of

undivided loyalty”. It would not be too great an extension

to say that an attorney for two opposed parties in a liti-

gation might have compensation from the winner to whom

he adhered for the reason that the losing party, if he had

heen represented, would have lost the case anyway. Or

to sav that a broker guilty of disloyalty might neverthe-

UNEASE ASMA ISG 7 SERNA IOI AEE ERY TR SPREE ARIE REM IGA LE MEE EY IM PRN PS VT _—

17

less have his commission for the reason he obtained the

best bargain for both buyer and seller. Or that a trustee,

although disloyal, made a good bargain for his beneficiary.

All these and similar theories, however, have many times

been rejected by the Courts when petitioned “to undermine

the rule of undivided loyalty”. The rule is grounded in

broad principles of public policy, applicable with equal, if

not more, force in corporate reorganizations where lawyers

appear on behalf of classes composed of large numbers

of security holders, most of whom have no contact with the

lawyer (Cf. Weil v. Neary, 278 U. S. 160, 171). “The rule

is indeed scrupulous and rigid” (Presbyterian Church v.

Plainfield Trust Co., 139 N. J. Eq. 501, 513). “The ‘law

does not stop to inquire whether the contract or trans-

action was fair or unfair. It stops the inquiry when the

relation is disclosed * * * without undertaking to deal with

the question of abstract justice in the particular case’ ”

(Wendt v. Fisher, 243 N. Y. 489, 443-444); “It prevents

frauds by making them as far as may be impossible know-

ing that real motives often elude the most searching in-

quiry * * *. The value of the rule * * * lies to a great

extent in its stubbornness and inflexibility” (Munson et al.

v. 8S. G. dé C. R. R. Co., 103 N. Y. 58, 74). “The rule is

designed to obliterate all divided loyalties which may creep

into a fiduciary relationship and utterly to destroy their

effect * * *” (City Bank Farmers Trust Co. v. Cannon,

291 N. Y. 125, 132).

(d) In lowering the “rule of undivided loyalty” and

creating the instant “particular exception”, the Court be-

low followed its recent decision in Berner v. Equitable

Office Building, 175 F. 2d 218 (R. 761), where it held that

Berner might have an allowance on a reduced basis, not-

withstanding a possible violation of Section 249 of the

Bankruptey Act by reason of Berner’s activities in giving

inside information to relatives who dealt in the stock of

the company in reorganization. In the Berner case, in

which the opinion of the Court was also by Judge Learned

Be... HALTER NEL EG AR ALR IS He ETN LL ITAL ES, NRE ERRON, PINE ARNG PAS AS WT ENE OLLIE) TNT

_ 18

Hand, the decision of this Court in the Woods case supra,

was eifed, but only in respect of a collateral question of

burden of proof (175 F. 2d 220). The decision of the Court

below in the instant case does not mention the Woods case,

which is a corporate reorganization case.

The Berner case itself is probably in substantial con-

flict with the decision of the Third Circuit in Jn re Mid-

land United Co., 159 F. 2d 340, where the Court held that

dealings in securities by the wife of a fiduciary will bar

the fiduciary from receiving any compensation. In the

Berner case, the Court, citing Jn re Midland United Co.,

said (p. 221): “indeed, in some jurisdictions a purchase by

a trustee’s wife is ipso facto invalid”.

The Berner case appears to be another “particular ex-

ception” made in disregard of the rule of the Woods case.*

The instant exception is a substantial extension of the

exception in the Berner case. In the instant case, the Court

said that the loss of all compensation required by a viola-

tion of Section 249 of the Bankruptey Act “is a far milder

consequence than attends the breach of full-fledged fiduciary

duties” (R. 764), but inconsistently held that although Mr.

Silbiger breached the “high trust” relationship of attorney

and client, the consequence should be merely a reduction

of his allowance which is “far milder” than the consequence

of a breach of Section 249.

* In the Berner case, the Court below said “in anv event the reduc-

tion (of Berner’s allowance) may well be not less than the loss to

the sellers of whom Bell bought the 20,000 shares” (175 F. 2d 222).

After remand, the District Court made various calculations and then

decided that Mr. Berner “should be awarded, in the absence of the

Peter Bell episode, a fee of $100,000. For the part he played in that

transaction it is my judgment he should be assessed a minimum of

$30,000. If it be said that this amount is in excess of the sum that

the loss which the Commission (SEC) estimated may have come

to persons who supplied stock to Bell, the reply must be that the

difference between $30,000 and $24,643.40, or $5,356.60, is far less

I believe than was the cost to this estate of the litigation that grew

out of the stock purchase that was made by Peter Bell. * * * When

all is said and done, one fact is as plain as day and that is that

petitioner (Berner) wrongfully enabled Peter Bell to make a possible

profit of $24,643.40". (Jn re Equitable Office Bldg. Corp., Opinion

by Judge Knox, Jan. 10, 1950, not officially reported.)

Pp ee — |

19

Thus, in recent months the “particular exception” of the

Berner ease has influenced the same Court to make this still

greater “particular exception” and both exceptions have

been made in disregard of decisions of this Court and of

the weight of authority. The soundness of the “rule of

undivided loyalty” is beyond question; the principle that

“no man shall serve two masters” has been considered a

good one for over 1900 years. It has particular force to the

relationship of attorney and client; it should have special

foree in bankruptey cases. As Mr. Justice Brewer (then

Cireuit Judge) said in United States v. Costen, 38 Fed. 24:

“Now it is to the glory of our profession that its

fidelity to its client can be depended on; * * * I can

tolerate many things a lawyer may do * * *, but I

cannot tolerate for a moment, neither can the profes-

sion, neither can the community, any disloyalty on

the part of a lawyer to his client.”

(e) The conscious lowering of the rule and the creating

of “particular exceptions” thereto by the Second Circuit

Court of Appeals will tend to further erosion of the rule’s

solid foundation by virtue of the substantial influence of

decisions of the learned Court below upon Federal District

Courts and other Courts of Appeals. In this situation,

this Court should exercise its power of supervision to main-

tain the vitality of its decisions and the integrity of a

doctrine so sound, so deeply ingrained in the law, as to

make departure therefrom intolerable to courts, the pro-

fession and the community.

3. The decision below with regard to Mr. Miller and

Messrs. Weil, Gotshal & Manges also raises substantial

questions of interpretation and administration of the Bank-

ruptey Act. These questions, we believe, have not been,

but should be, decided by this Cour:.

(a) These attorneys acted solely for individual clients

who bought and sold during the Construction Proceeding,

in which they rendered their services, large blocks of the

Debtor’s bonds of both Surplus and Deficit Series classes;

es SWAG PR ERA IRIN BIG, SEL, REEMA ME STI NAR SEES ALIN NBS Ry A OVE EE a A EG

20

they did not represent or purport to represent or owe any

duty to either class. The interests of their clients were of

a competing and shifting character, changing from time to

time as they bought and sold bonds. The Bankruptcy Act,

we submit, was not intended to authorize classes of security

holders to be charged with the fees of attorneys employed

to represent the individual interests of speculators in the

securities in reorganization.

(b) The awards of allowances to Mr. Miller and Messrs.

Weil, Gotshal & Manges do violence to and impair the

effectiveness of the spirit and purpose, if not the letter of,

Section 249 of the Bankruptey Act. True these attorneys

did not themselves trade in the bonds. The fact, however,

that their clients did—and on a large scale—results in a

situation where the attorneys’ primary duty and loyalty was

to clients whose interests were necessarily in conflict with

the interests of the class which is to pay the awards. The

underlying basis of Section 249, which denies all compensa-

tion to representatives of security holders who deal in the

securities of the company in reorganization, “means neither

more nor less than that a fiduciary may not serve conflicting

interests” (In re Midland United Co., 64 F. Supp. 399, 415,

aff'd 159 F. 2d 340). If the clients of these attorneys had

paid their fees and were now applying for reimbursement,

Section 249 would require denial of their applications

(Young v. Potts, 161 F. 2d 597, 600). The same rule should

be applied to direct applications of their attorneys so as

to place the burden of their compensation on the clients

where it belongs. “The principle that a client should pay

for services rendered applies in proceedings under Section

77B as well as in other fields of litigation” (Teasdale v.

Sefton Nat. Fibre Can Co., 85 F. 2d 379, 382).

(ec) Implicit in the decisions of this Court in Dickinson

Industrial Site, Inc. v. Cowan, 309 U. 8S. 382; Brown v.

Gerdes, 321 U. S. 178; Young v. Higbee Co., 324 U.S. 204,

is the proposition that allowances should not be awarded

payable by a class to those who serve individual interests

and who are not bound to the class by fiduciary ties. It

rereuaienctnenarenes eumanes scanner , esteem enamine cumini mesons

Sh ich Tabet ta ele, Sia aI a a a a al A Re sae de Me

21

is certainly implicit in these decisions that allowances should

not be made payable by a class to attorneys who serve in-

dividual interests in conflict with the interests of the class.

The equitable principle of charging allowances to a class

goes back to the early case of Trustees v. Greenough, 105

U. S. 527, in which the suit was instituted for the benefit

of all creditors and in which this Court said (p. 532), “if the

complainant is not a trustee, he has at least acted the part

of a trustee in relation to the common interest”. Mr. Miller

and Messrs. Weil, Gotshal & Manges represented and pur-

ported to represent only their clients, and while disclaiming

any duty to the class, and notwithstanding that they did

not act “the part of a trustee in relation to the common

interest”, claim their fee from the class. They indeed were

driven to disclaim a duty to the class in avoidance of the

consequence of serving conflicting interests, since the inter-

ests of their clients and those of the class were not the

same. To grant allowances in such circumstances would

tend to impair the effectiveness of Section 249. Individuals

could appear in reorganizations, state at the outset they

appear only for themselves, deal in the securities to their

own advantage, and the attorneys for such individuals, and

the individuals as well, could obtain allowances. Section

249 is not the “only arrow in the quiver of the bankruptcy

court”; it “was intended to augment and not to limit the

jurisdiction of the Bankruptcy court” (In re Midland United

Co., supra, 159 F, 2d 344, 345).

CONCLUSION

Wherefore, it is respectfully submitted that this peti-

tion for certiorari should be granted.

Respectfully submitted,

Cuartes M. McCarry,

Counsel for Petitioner.

April 27, 1950.

ARR OREN RE REED IY PO SEE MORI, ELEN OLRIGN OIE PS LLL ILE LLL OI LAI RON

to

to

APPENDIX

Bankruptcy Act, See. 210, 11 U. S. C. See. 610: An at- |

torney for creditors or stockholders shall not be heard un- —

less he has first filed with the court a statement setting ©

forth the names and addresses of such creditors or stock- ©

holders, the nature and amounts of their claims or stock, —

and the time of acquisition thereof, except as to claims or —

stock alleged to have been acquired more than one year

prior to the filing of the petition. |

Bankruptcy Act, Sec. 249, 11 U. 8. C. See. 649. Any per- —

sons seeking compensation for services rendered or reim- ~

bursement for costs and expenses incurred in a proceeding —

under this chapter shall file with the court a statement —

under oath showing the cla’ms against, or stock of, the —

debtor, if any, in which a beneficial interest, direct or in- ©

direct, has been acquired or transferred by him or for —

his account, after the commencement of such proceeding. —

No compensation or reimbursement shall be allowed to any —

committee or attorney, or other person acting in the pro- ©

ceeding in a representative or fiduciary capacity, who at —

any time after assuming to act in such capacity has pur- |

chased or sold such claims or stock, or by whom or for —

whose account such claims or stock have, without the prior —

consent or subsequent approval of the judge, been other- ©

wise acquired or transferred. ;

INDEX

Page

PNUMIENE 'ci's0 sic acs wee ieee pee a ae < eee eee 13

CITATIONS

Cases:

American United Mutual Life Insurance Co. vy. City of

ie Fa Se Es i ne oa ke os oes See 6, 7,10

Berner vy. —— Office Building Corp., 175 F. 2d

Fr Ee ne aR. Ne ee ome ener Bee at Hie) 10

Brooklyn Trust Co. Vv. Kelby, 134 F. 2d 105, certiorari de-

nied, 319 U. S. 767. . , Rado ate Siena 3

Brown v. Gerdes, 321 U. s. 178 Bre tee, rpeee 6

Central Banever B. & T. Co. v. President and Directors

of the Manhattan Co., 105 F. 2d 130............. 3

Cromwell v. Curtis, 99 F. 2d 810............... 10

Eddy v. Kelby, 163 F. 2d 56, certiorari denied, 332 U. S.

ME aA CCR CR ee ah ae et ee ra eee ae 3

Eddy v. Kelby, certiorari denied, 319 U. S. 755.... 3

Eddy v. Kelsey, 148 F. 2d 323............... Re eer 3

Eddy v. Prudence Bonds Corp., 165 F. 24 157......... 4

Manufac turers Trust Co. v. Kelby, 125 F. 2d 650, ecerti-

orari denied, 316 U. S. 687................. : 3

Meinhard v. Salmon, 249 Wee We NS Oe ce nace ahs 8

Midland United Co., In re, 64 F. Supp. 399... .. ern

Midland United Co., In re, 159 F. 2d 340......... 6

Munson et al. v. S. G. & C. R. R. Co., et al., 103 N. Y.

aes Pe meire hr ters untae inate Ua Ory ees oS ee A 8, 10

Psesbyterian Church v. Plainfield Trust Co., 139 N. J.

SR eee rte SOR Gere co ee 8,10

Prudence Bonds Corporation, In re, 57 F. Supp. 839,

modified and affirmed, 147 F. 2d 465, certiorari de-

SOE, eR We POR. OS ose eh a Rea ee 3

Prudence Bonds Corp., In re, 122 F. 2d 258... _..... 7

Prudence Bonds Corporation, In re, 76 F. Supp. 643. 3

Republic Gas Corp., In re, 35 F. Supp. 300. .......... €

Ritz Carlton Restaurant & Hotel Co., In re, 60 F. Supp.

DOs 5c 0 Se he Oe A ae tg Nal ena ia ae a ie eee 6, 12

S. E. C. v. United States Realty Improvement Co., 310

RES. REIS espe ies eat el ee Seer ac ey ew 8,12

Silbiger v. Prudence Bonds Corporation (New Corpora-

tion) and Reconstruction Finance Corporation, No.

DES SSE ei eee ae ae SPS FSi TRF 1

Weil v. Neary, 278 U.S. 160......... Siete 6, 7, 8, 9, 10

Wendt v. Fischer, 243 N. Y. 430. .... 22.2... ean. . 8,10

Woods v. City Bank Co., 312 U. S. 262............ 6, 7, 8, 9,12

Young v. Higbee Co., 324 U.S. 204............... ies! .

ey ©. POG, Mek I. SE. 6b rca esos ameeeren 6,9

(1)

a nonernesatn on . SPER EN RNA SR BE NRE RAE N+ eI PRN ISR ED T

II

Statutes:

Page

Bankruptey Act, 30 Stat. 544, as amended, 11 U.S.C. 1

et seq.:

Wee Oe je eect he ten areca aor en ow cubien eles 2

SES oR Ae a a Om rn oP Ra CORE Ce RET Jira 12

BR MM NL sec ts uisea ace meri. e none eee ery ia eae 2, 7,13

oN TR Paice ee Shae a NIN) Rane beardt eal eA een VAY Oe 12

ee I Benge Branco Hearn cay SP, Peat rhs niece oT 2, 7,13

AS | eR etre Dy altar genre ae RC a ep ee se Ve bm 10

Miscellaneous:

eh ee Sa Nc Us ta cis oy ate tk ce eee ives 10

Hearings on H. R. 6439 and H. R. 8046 (1938) before the

Committee on the Judiciary, House of Representatives,

75th Cong., 1st sess., at pp. 163, 186................ 4

Restatement of Trusts, Sec. 243....................... 10

S. E. C. Report on the Study and Investigation of the

Work, Activities, Personnel and Functions of Protec-

tive and Reorganization Committees, Part I, 236, et seq.

REE i eetalaetde Ghat wie wack PAE MOET CENA US AST k ee cae 8

Pr ces ke ee oe OLA ee 10

Suthe Supreme Court of the Wnited States

OctoBER TERM, 1949

No. 785

PRUDENCE-BonDs CoRPORATION (NEW CoRPORA-

TION ), PETITIONER

Vv.

SAMUEL SILBIGER, ET AL.

ON PETITION FOR A WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS FOR THE

SECOND CIRCUIT

MEMORANDUM IN SUPPORT OF PETITION FOR A

WRIT OF CERTIORARI

This memorandum is submitted on behalf of the

Reconstruction Finance Corporation, as an inter-

vening party, and the Securities and Exchange

Commission, as amicus curiae. Both of these agen-

cies share identical views with regard to one of the

principal questions in this case, namely, whether in

a corporate reorganization an attorney who repre-

sents conflicting interests is barred from receiving

(1)

el —— Ay et et EMR ER I APIA ATT LONEE LEHAG YEG EEO ETRE SE EE LEA EN EIEN TOI BO MS TS ME EEA ENO

2

any fee from the estate, no matter how successful

his labors.’

The court below has squarely held that an excep-

tion to the general rule barring compensation to an

attorney who represents conflicting interests should

be made in the case of corporate reorganizations,

and that the bankruptey court instead may dimin-

ish the fee otherwise payable by the estate which

benefited from the services by taking into account

the character of the conflicting representation.

The opinion of the court below (R. 755) is reported

at 180 F. 2d 917.

We submit that the decision below is erroneous;

that it is in conflict with the decisions of this Court

and of the Court of Appeals for the Third Circuit ;

and that the question is of such importance as to

warrant certiorari. The relevant statutory provi-

sions are Section 206 of the Bankruptcy Act (11

U.S.C. 606) and Section 248 (11 U.S.C. 643), which

are set forth in the Appendix, infra, p. 13.

The essential facts can be briefly stated. Some-

time in 1934, Silbiger was employed by George E.

Eddy, Mrs. Katherine Born and Mrs. Bessie B.

1 This is the question presented by the Silbiger allowance

involved in No. 785. Silbiger has filed a cross-petition for

certiorari. Silbiger v. Prudence-Bonds Corporation (New

Corporation) and Reconstruction Finance Corporation, No.

829. There is a second question in No. 785, whether the

allowances to Miller and to Weil, Gotshal and Manges are

barred because their clients traded in securities of the debtor

(Pet. 19-21). While we think the opinion of the court below

goes too far in suggesting that attorneys’ allowances are not at

all affected by their clients’ trading activities, we express no

opinion as to the necessity for review of this second question.

ewemre tes) a tare lend Dia EME EI PELE ERB Fi EIR PENA LIE OMENS EE wesc er

we

3

Reilly, each of whom held a number of bonds in

different series issued by the debtor, to represent

them in the reorganization proceedings of the

Prudence-Bonds Corporation under Section 77(b)

of the Bankruptey Act. Up to 1945, Silbiger

represented the common interest of each of these

clients in phases of the reorganization proceeding

which led to the confirmation of a plan of reorgani-

zation in 1938, and in supplemental proceedings

involving an accounting by the indenture trustees.’

Silbiger was compensated from the estate for

these services, receiving a total of $70,000 (R. 210).

In 1945, however, a proceeding arose to construe

certain provisions of the reorganization plan in

order to determine the relative rights of the various

series of bonds to the collateral securing the

bonds. At this point, the interests of the different

series were opposed to each other. There were 18

different series of bonds outstanding, each backed

by a separate block of collateral (R. 212). In some

instances, the collateral was more than enough to

meet the principal amount of the bonds that it se-

cured, and the question in the construction pro-

2 Central Hanover B. & T. Co. v. President and Directors

of the Manhattan Co., 105 F. 2d 130; Manufacturers Trust

Co. v. Kelby, 125 F. 2d 650, certiorari denied, 316 U.S. 697;

Brooklyn Trust Co. v. Kelby, 134 F. 2d 105, certiorari denied,

319 U.S. 767; In re Prudence Bonds Corp., 57 F. Supp. 839,

modified and affirmed, 147 F. 2d 465, certiorari denied, 324

US. 866; Eddy v. Kelsey, 148 F. 2d 323; In re Prudence-

Bonds Corporation, 76 F. Supp. 643; see also Eddy v. Kelby,

certiorari denied, 319 U.S. 755, and Eddy v. Kelby, 163 F. 2d

56, certiorari denied, 332 U.S. 836, relating to allowances in

the accounting proceedings.

Marsa. $0

ceedings was whether the excess over that amount

should be applied against the interest owing on

these bonds or should go to certain other claimants,

including holders of series of bonds without suffi-

cient collateral to meet even the face amount (R.

131). For convenience, the series of bonds having

collateral in excess of their principal amounts have

been described as surplus series and the others as

deficit series.

Silbiger’s clients held primarily deficit series

bonds. All of the bonds held by Mrs. Born and Mrs.

Reilly were in that category, while Eddy held some

bonds of the deficit series and some of the surplus

series (R. 248-249). Notwithstanding the fact that

the financial interests of some of his clients lay

completely on the side of the deficit series, Silbiger

took the position in the construction proceedings

that the excess collateral behind the surplus series

should go entirely to the holders of surplus

series bonds to apply on their interest claims (R.

32). Silbiger and others successfully prosecuted an

appeal from a contrary holding of the master and

the district court.’ In consequence of these efforts,

excess collateral that would otherwise have been

turned over to Silbiger’s clients holding deficit

series bonds was ordered to be paid instead to the

holders of the surplus series bonds. For his serv-

3 Eddy v. Prudence Bonds Corp., 165 F. 2d 157. The master

and the district court had held that the excess collateral

should be applied first to pay certain subordinated debt, with

the remainder going to the deficit series.

5

ices in the contest among the various classes of

bondholders in these construction proceedings, the

district court awarded Silbiger a fee of $75,000

(R. 10).

On appeal from this award by the New Corpora-

tion and the Reconstruction Finance Corporation,

the court below found that, even taking Silbiger’s

version of the facts as true, Silbiger had not prop-

erly severed his connection with the deficit series

clients, that he continued in the fiduciary relation-

ship of attorney not only to his particular clients

but to all other holders of bonds in the deficit series ;

and that he was therefore serving conflicting inter-

ests (R. 757-759). The attorney, not the client, it

held, has the responsibility for ascertaining and

avoiding any representation of conflicting inter-

ests.

The court below conceded that if this were ‘‘an

ordinary suit inter partes’’ the rule would apply

that an attorney who represents opposing interests

is debarred from receiving any fee from either, no

matter how successful his labors; and that Silbiger . -

would not be permitted to show whether the conflict

of his loyalties had in fact influenced his conduct

and, if so, to what extent (R. 760). However, the

court decided that an exception from this rule

should be made in a corporate reorganization where

it can be shown that the evil of conflicting repre-

sentation is mitigated because ‘‘the client [preju-

diced by the attorney’s divided allegiance] is other-

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6

wise adequately protected, and the attorney is not

paid in any part by the party whose side he has

opposed’’ (R. 760). Finding these conditions pres-

ent in the case at bar, despite the representation of

conflicting interests, the court directed that Silbiger

be allowed a fee provided it was reduced by at least

one third of the amount awarded by the district

court (R. 761).

The decision of the court below, allowing a fee

to an attorney who represented conflicting interests

in a corporate reorganization, is in direct conflict

with Woods y. City Bank Co., 312 U. 8. 262, where

this Court, refusing to inquire whether the repre-

sentation of conflicting interests was in fact pre-

judicial to either client, denied compensation to at-

torneys and other fiduciaries who represented the

conflicting interests of the mortgagee and equity

owners in a Chapter X reorganization proceeding.

The Woods decision was approved in Brown v.

Gerdes, 321 U. 8. 178, 182; it was followed by the

Third Circuit in In re Midland United Co., 159

F. 2d 340. See also In re Ritz Carlton Restaurant

c& Hotel Co., 60 F. Supp. 861, 866-867 (D. N.J.).

In making an exception to the strict requirement

of ‘‘loyal and disinterested service’’ by fiduciaries

as a condition to their compensation, the court

below has undermined a fundamental policy of

bankruptcy proceedings established by this Court

not only in the Woods case but in American United

Mutual Life Insurance Co. v. City of Avon Park,

311 U.S. 1388; Weil v. Neary, 278 U. S. 160, 173;

7

and Young v. Higbee Co., 324 U.S. 204. See also

Young v. Potts, 161 F. 2d 597 (C.A. 6).*

No basis for an exception is found either in the

language or the policy of the Bankruptey Act. Sec-

tion 243 of the Act (Appendix, infra, p. 13) au-

thorizes the allowance of ‘‘reasonable compensa-

tion for services rendered’’; and this phrase

‘necessarily implies loyal and disinterested serv-

ice,’’ Woods v. City Bank Co., 312 U. S. at 268.

The purpose of Section 206 of the Act (11 U.S.C.

606, infra, p. 13), which gives individual security

holders a right to participate through counsel di-

rectly in the proceedings, and Section 243, supra,

which authorizes compensation to them and their

representatives from the estate, is to assure in-

dividuals the right to be heard through repre-

sentatives who do not serve conflicting interests.°

The decision below frustrates this Congressional

policy. In view of the fact that Section 206 per-

mits any security holder to be represented in the

proceedings, it is not difficult for an attorney so

inclined to find a client he might nominally repre-

4That the instant case is a 77B proceeding is of no

significance. The allowances to attorneys in this case are

governed by the provisions of Chapter X of the Chandler Act.

In re Prudence Bonds Corp., 122 ¥. 2d 258, 260. In any case,

the rule requiring loyal and disinterested service in the

interest of the persons whom the attorney purports to

represent applies to 77B proceedings and to all other types

of bankruptey proceedings. American Ins. Co. v. Avon Park,

supra; Weil v. Neary, supra; In re Republic Gas Corp., 35

F. Supp. 300 (S8.D. N.Y.).

5 See Hearings on H. R. 6439 and H. R. 8046 (1938) before

the Committee on the Judiciary, House of Representatives,

75th Cong., 1st sess., at pp. 163, 186.

sent in almost any case. If the law permits at-

torneys, as the proceeding progresses, to desert

their clients and shift to whatever they think will

be the winning side on each point of litigation,

where their chances of a substantial fee might be

better, the ‘‘interests of investors tend to become

secondary; the interests of lawyers, primary.’ ®

We do not suggest that this evil is present in the

case at bar, but the decision does encourage the

‘*tendency to evil in other cases.’’ Weil v. Neary,

278 U.S. 160,173. Indeed, the nature of corporate

reorganization proceedings is such that, rather

than affording room for relaxing exceptions from

the standards applicable to an inter partes rela-

tionship, it requires, as this Court has held, the ap-

plication of the highest standards of fiduciary con-

duct. Woods v. City Bank Co., supra; S.E.C. v.

United States Realty Improvement Co., 310 U.S.

434, 455."

® See S.E.C. Report on the Study and Investigation of the

Work, Activities, Personnel and Functions of Protective and

Reorganization Committees, Part I, 236, et seq., (1937), where

it was pointed out that in the absence of judicial scrutiny

over counsel fees this situation was apparently of frequent

occurrence in reorganizations, since the reorganization af-

forded “counsel great opportunity for entrepreneurial ac-

tivity.””. The impression gained was “that reorganizations are

frequently designed for the benefit of lawyers.”

7 There is no reason why attorneys in corporate reorganiza-

tions should practice in a less exacting climate than corporate

directors, Munson et al. v. S. G. & C. R. R. Co., et al., 103

N.Y. 58; commercial joint adventurers, Meinhard v. Salmon,

249 N.Y. 458; testamentary trustees, Presbyterian Church v.

Plainfield Trust Co., 1389 N.J. Eq. 501; real estate brokers,

Wendt v. Fischer, 243 N.Y. 439; to list only a few of the

different types of fiduciaries who have been held to strict

standards.

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Contrary to the theory of the court below, there

is nothing about corporate reorganization proceed-

ings that enables the court to measure the effect of

conflicting representation by looking to see whether

the prejudiced clients were otherwise adequately

represented. In the case at bar, the court could

not be sure exactly who was ‘‘otherwise adequa-

tely’’ representing the interests of the deficit

series, nominally but not actually represented by

Silbiger.® Its reliance upon the fact that Silbiger’s

fee comes out of the clients whom his services bene-

fited, not those he abandoned, fails to take into

account the fact that their attorney, arguing for

the opposing side of the case, successfully ap-

pealed from a decision in their favor anc the

abandoned clients lost benefits out of which they

might willingly have paid fees. Cf. Young Vv.

Higbee Co., supra; Young v. Potts, supra. Indeed,

the impossibility of measuring the effect of repre-

sentation of conflicting interests, manifest in the

case at bar, proves the wisdom of the rule that no

8 The court below originally suggested that their interests

had been represented by the “New Corporation” (R. 760) but

on rehearing the court stated it made a mistake and suggested

that their interests were represented by “Prudence Realization

Corporation” (R. 785). However, Prudence Realization

Corporation did not speak for the public holders of deficit

series, but for the corporate subordinated bondholders whose

interests happened to coincide on one aspect of the issue in the

Construction Proceedings with the public bondholders of deficit

series, who were directly represented by Silbiger. See Pet.

pp. 15-16. It is accordingly doubtful whether, if Silbiger had

disclosed his representation of conflicting interests, the district

court would have permitted him to proceed to represent one

and drop the other. In any event, Weil v. Neary, supra, holds

that such speculation is inadmissible.

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inquiry should be made into whether representa-

tion of conflicting interests in fact harmed either

client to any degree, or whether it resulted in fraud

or unfairness. Woods y. City Bank Co., 312 U.S.

at 268; American United Mutual Life Insurance

Co. v. City of Avon Park, 311 U.S, 188, 147; Weil

v. Neary, 278 U.S. 160, 173; see, Munson v. S. G. &

C. R. R. Co., 103 N. Y. 58, 74; Wendt v. Fischer,

243 N. Y. 489, 443-444; Presbyterian Church v.

Plainfield Trust Co., 189 N. J. Eq. 501, 513.°

The prior decision by the court below in Berner

v. Equitable Office Building Corp., 175 F. 2d 218,

offers no aid to the decision in the case at bar.

The Berner decision is plainly erroneous, if it

is deemed to hold that the rule against represent-

ation of conflicting interests does not apply to cor-

porate reorganizations,"” or that the effects of such

representation can be mitigated by the extent of

the injuries suffered by either client.”

The question in this case is of great importance

in the administration of the bankruptcy and cor-

®The absolute prohibition of the rule also avoids any

reflection upon the integrity of the attorney involved, who

may violate the rule inadvertently “without the slightest

moral blame or stigma.” In re Midland United Co., 64 F.

Supp. 399, 406 (D. Del.).

In Cromwell v. Curtis, 99 F. 2d 810, the Second Circuit

appeared to hold that the rule did not apply to corporate

reorganizations, but this decision was virtually overruled by

the Woods decision. 50 Yale L. J. 1492, 1494-1495.

'™ The court in the Berner case treated the facts as involving

not a case of representing conflicting interests, nor as one

under Section 249 of the Bankruptcy Act, but as one involving

a breach of fiduciary duty which did not completely bar

compensation to the trustee, citing Restatement of Trusts,

Sec. 243. See 63 Harv. L. Rev. 1056.

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11

porate reorganization statutes. It is a major pol-

icy of Chapter X of the Chandler Act to make

certain that representatives of a class of security

holders are not subject to the influence of conflict-

ing interests.'* The enforcement of the rule bar-

ring an allowance to fiduciaries who represent con-

flicting interests in corporate reorganizations can-

not safely be left to the clients directly involved.

As the court below held, this is a professional re-

sponsibility of the attorneys that cannot be in-

trusted exclusively to the judgment of clients. The

Reconstruction Finance Corporation, a party to

the appeal below, has an interest in preventing a

violation of this rule in the case at bar, since any

allowances to the attorneys will come out of funds

which might otherwise go to it.”

The Securities and Exchange Commission, al-

12 See footnote 5, supra.

13 REC has a participation as a creditor, of approximately

16% in the assets of Prudence Realization Corporation, suc-

cessor to The Prudence Company, Inc., guarantor of the

Debtor’s bonds. Among said assets which are being liquidated

solely for the benefit of the creditors of The Prudence Com-

pany, Ine., are unsubordinated or publicly held bonds in

various Series of original principal amount of $396,500 (R.

672).

Prudence Realization Corporation also holds subordinated

bonds in unpaid original principal amount of $1,873,000, in-

cluding bonds of $105,700 original principal amount in the

Ninth Series, which has been charged (R. 11) with $24,704.84,

approximately 24% of the allowances awarded in the dis-

trict. court. Since the order of the district court, the-pablicly

held bonds in the Ninth Series have been paid in full with

interest. at the original rates. Accordingly, any allowances

payable from the Ninth Series will ot be paid from money

which would otherwise be paid on account of subordinated

bonds in the Ninth Series held by Prudence Realization

Corporation.

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12

though not a party to the proceedings below, has

an interest which extends beyond this particular

case, for it is charged with seeing to it that the

appropriate standards of equity and fiduciary re-

sponsibility prevail in corporate reorganizations.

See Sections 172 and 208 of the Bankruptcy Act

(11 U.S.C. 572, 608); S. F.C. v. U. S. Realty Co.,

310 U.S. 434, 458-460; In re Ritz Carlton Restaurant

& Hotel Co., 60 F. Supp. 861; In re Midland United

Co., 64 F. Supp. 399, 403.

A decision in the case at bar will necessarily be

a guide to the disposition of similar problems in

other corporate reorganizations. The decision be-

low clouds the clear rule of the Court in the Woods

case; hence, if unreviewed, even if not followed

in other Circuits, it will create confusion as to

the applicable rule to be followed by the courts

in the Second Circuit, which have jurisdiction over

many important bankruptcy reorganizations. Ac-

cordingly, because of the conflict of decisions pre-

sented, and because of the importance of the ques-

tion involved, it is urged that the petition for

certiorari be granted.

Respectfully submitted,

Puiuie B. PERLMAN,

Solicitor General.

JUNE 1950.

‘Wd Shas IO art

13

APPENDIX

Bankruptcy Act, 30 Stat. 544, as amended by

the Act of June 22, 1938, 52 Stat. 883, 11 U.S.C. 606,

643:

Section 206:

The debtor, the indenture trustees, and

any creditor or stockholder of the debtor shall

have the right to be heard on all matters aris-

ing in a proceeding under this chapter. The

judge may, for cause shown, permit a labor

union or employees’ association, representa-

tive of employees of the debtor, to be heard on

the economic soundness of the plan affecting

the interests of the employees.

Section 243:

The judge may allow reasonable compensa-

tion for services rendered and reimbursement

for proper costs and expenses incurred by

creditors and stockholders, and the attorneys

for any of them, in connection with the sub-

mission by them of suggestions for a plan or

of proposals in the form of plans, or in con-

nection with objections by them to the confirm-

ation of a plan, or in connection with the ad-

ministration of the estate. In fixing any such

allowances, the judge shall give consideration

only to the services which contributed to the

plan confirmed or to the refusal of confirma-

tion of a plan, or which were beneficial in the

administration of the estate, and to the proper

costs and expenses incidental thereto.

Wu. s. GoveRNmENT PRINTING OFFICE: 1950 886508 7208