Ruling Law. Story Case Answer

On the failure of a corporation to pay its obligations to bondholders, they usually have their remedy by the regular method of foreclosure under the mortgage, called the trust deed. The trust deed may provide that the entire mortgage loan shall become due, if there is default in the interest payment, and subject the property to a sale to cover the debt. If the mortgage does not contain this stipulation, and a sale of only a very small portion of the property is sufficient to satisfy the payment, the courts will, nevertheless, frequently consider a sale of the entire property as the only practical way to handle the situation, since the franchise and property are so intermingled, and the benefit to the public depends upon the operation of the property and equipment as an entirety.

A single bondholder, unless curtailed by the terms of the trust deed, may maintain a bill in equity to foreclose a mortgage. Ordinarily, the trust deed provides that the bondholders can act in this regard only when the trustees are not true to their trust and refuse or neglect to act for the benefit of the bondholders. If one bondholder acts in his own name, he brings the action, not only for himself, but for the benefit of all other bondholders.

It has been held in Massachusetts, Iowa, and the United States Courts, that a single bondholder may insist upon a foreclosure, although the mortgage provides for a sale by trustees upon request of the majority of the bondholders. This point is illustrated by the case of Alexander vs. Central Railroad of Iowa, before the United States Court, reported in Jones on Corporate Bonds and Mortgages. This company had executed a mortgage containing the following provision: "and it is agreed, in case of default of the payment of the interest, that the trustee is expressly authorized and empowered upon the request, in writing, of a majority of the owners or holders of said bonds, to enter into and upon, and to take actual possession of all the mortgaged property, and to sell them." It will be noticed here that the trust deed provided for a method other than foreclosure on the mortgage; that is, actual possession by the trustees, and sale by them. When a single bondholder, nevertheless, brought a foreclosure proceedings to collect the interest due him, the court permitted the action, on the ground that the trustee's right to take possession of the property, and to sell it after notice, when requested to do so by a majority of the bondholders, was merely an additional or cumulative right, and did not take away the Common Law right of one bondholder to start foreclosure to collect what was due him. The court intimated that this could be denied him only by an express stipulation in the trust deed. The foreclosure, however, was limited to a sale of sufficient property to cover the overdue interest. After individual bondholders have asked for a foreclosure in their own names, in behalf of themselves and the other bondholders, the trustees may usually petition that the proceedings be altered to make them the complainants, and this will be permitted, unless it is evident that they have interests antagonistic to those of the bondholders, and will not act in good faith.

A sale of the property made under foreclosure, must be in accordance with the procedure of the jurisdiction in which it was held, and it must be absolutely without taint of fraud, and above board, throughout. If this is not true, other creditors of the corporation, its stockholders or other bondholders, may bring an action to set aside the sale. A single stockholder may maintain a bill in equity in behalf of the corporation to set aside the sale upon refusal of the corporation or the other stockholders to aid him. But this must be done by the stockholder, or other party in interest, without undue delay. For instance, the dissatisfied stockholder, or bondholder, or creditor, cannot wait until the purchasers, by improving the property, have made it valuable. It has been held that the failure of stockholders to object, within a year and a half, when they had knowledge of the facts, was sufficient to deny them relief in equity. A fair, public sale, which is above board and in accordance with the statutory and mortgage provision, cannot be set aside merely because directors or others closely associated with the corporation, have bought the property. But where there is the taint of fraud, and evidence that the property has been sold at a grossly inadequate price, and profit has been made at the expense of the other claimants, the courts will set aside the sale as fraudulent.

The Story Case was taken from the Vicksburg, Shreveport and Texas Railroad Company case, as outlined in Jones on Corporation Mortgages, Volume 1, Page 735. The Supreme Court of the United States held that the property was sacrificed by means of unlawful and widespread combination, and that the parties thereto were guilty of an inexcusable violation of confidence. The court set the sale aside as a fraudulent transaction.