Rhinelander v. Farmers' Loan & Trust Co.

The actions are brought by bondholders as the cestui gue Bust in a railroad mortgage against the defendant as the trustee therein, to hold the defendant liable for its affirmative act of certifying, issuing and delivering bonds, to be sold to the plaintiffs, or whoever might become the purchaser thereof, as first mortgage land grant bonds, secured by mortgage on the land grant described therein, contrary to and in violation of the covenants of the mortgage. ' . ;

The plaintiff Rhinelander is the holder ot twenty bonds of the Oregon Pacific Railroad Company, purchased in the year 1887, and the plaintiff Fleisher is the holder of five bonds purchased in the year 1889.

Two questions are presented on this appeal: (1) Do the complaints set forth a cause of - action? (2) Are these actions brought upon a sealed instrument and barred only by the twenty years’ Statute of Limitations; or upon an implied covenant or obligation springing from a breach of duty on the part of the trustee, not found in specific terms in the mortgage, and barred by the ten years’ Statute of Limitations ?

The complaint alleges, among othe.r things, that the Oregon Pacific Railroad Company was incorporated under the laws of the state of Oregon about September 14th, 1880, with authority to construct and operate a line of railroad from Taquina Bay, Benton county, Oregon, to Boise City in the state of Idaho ; and to construct and operate the line of railroad of the Willamette Valley and- Coast Railroad Company ; also to issue the bonds secured by the .mortgage, to which reference has already been made.

It is further alleged that the Willamette Valley and Coast . Railroad Company was 'incorporated under the laws of the state of Oregon in July, 1874, with authority to construct and operate a line of railroad from Corvalis in Benton county, Oregon, to the tide water on Taquina Bay in the same county and state ; and by acts of the legislature of the state of Oregon there was granted to said railroad company all the tide and marsh lands situate in said county of Benton; and the right to take from the lands of the state adjacent to the line of said road, timber, stone, water and other materials necessary

The questions presented by this litigation involve the construction of the fourth and fifth subdivisions of the mortgage, which read as follows :

“ Fourth. That the party of the first part shall and will, and it hereby covenants and agrees to apply the net proceeds arising from the sale of the bonds secured by this indenture, in the first place to the liquidation and discharge of the herein-mentioned incumbrance, amounting to six hundred thousand dollars or thereabouts, now existing upon the land grant known as the grant of the Willamette Valley and Cascade Mountain Wagon Road Company, and subsequently to the building, grading and otherwise constructing the line of the said railroad, as the same may have been or may be surveyed and laid out, and for the full and complete furnishing and equipping of the said railroad, and the purchasing and procuring of locomotives, engines, cars and other proper equipment, and rolling stock, and other proper and suitable appurtenances for the said railroad, and for erection of depots, station houses, and such other buildings as may be suitable and proper for the same, and also for the purchasing, furnishing, equipping and operating of such steamships,

steamers, barges, ferryboats and other water craft as may be suitable and proper for the carrying out of the purposes for which the party of the first part was incorporated, or any of them, and also for such other and further purposes as may enable the party of the first part to engage in the other enterprises and purposes for which it has been so incorporated, and further, that the proceeds of the first issue of the said bonds to the extent of three million two hundred and fifty thousand .dollars of principal shall be applied in the first place to the satisfaction of the said incumbrance, and to the building, constructing and equipping of the first one hundred and thirty miles of the said railroad from the ocean eastward in case of surplus to the acquiring of necessary water craft.

“Fifth. That the party of the first part shall and will, and it hereby covenants and agrees, after the said bonds shall have been duly executed by and on behalf of the party of the first part, to deposit the same with the party of the second part, to be certified and issued from time to time as the same may be sold or otherwise disposed of, and the said trustees may certify and issue any of said bonds at any time on the request of the party of the first part, or of its president, in writing, and the net proceeds which may be realized on the sale of the said bonds shall be paid over to and remain in the hands of the said trustee for the purposes above enumerated, and shall he paid out only on the written order or request of the executive committee of the board of directors of the party of the first jmrt or of a majority of the said committee, in which order or request the president or acting president of the party of the first part shall in all cases join, and all such orders and requests shall include a written statement or memorandum declaring the purpose or purposes for which the proceeds of the said bonds so ordered to be paid over are to be appropriated or used; provided, however, that in case the party of the first part shall desire to apply any of the said bonds for the purposes of its incorporation, without converting the same into money, then and in that case it shall furnish the said trustee with a like written order or request of the said execu

tive committee, or of a majority thereof, in which the said president or acting president shall join, which shall include a written statement or memorandum declaring the purpose or purposes for which the said bonds are to be appropriated or used, and in such case the said trustee shall certify, issue and deliver the said bonds. It shall be the duty of the president and secretary of the party of the first part to furnish the said trustee with a written certificate, under the seal of the said corporation, of the names and residences' of' the persons constituting such executive committee, which certificate shall be conclusive evidence for the said trustee of the fact that the persons so named constitute and compose such executive committee until it shall be notified in like manner of the appointment of other persons in their room and stead. Nothing ’ herein contained shall be so construed as requiring the said . trustee to inquire into the application of the funds or of the bonds which it may deliver over on the receipt of such orders or requests as aforesaid.”

■ We come then to the consideration of the controlling question, whether the- complaints state a cause of action, and, if so, whether the action is brought upon the mortgage as a sealed instrument, or for a breach of the implied duty or obligation springing from the relation of trustee and .cestui q%ie trust. ,'

;• A careful study of the provisions of the mortgage satisfies us that the defendant is in breach of no affirmative covenant made by it and contained therein. The covenants recited in . the fourth and fifth subdivisions of the mortgage are those of the Oregon Pacific Railroad Company as mortgagor.

In brief, the mortgage contains, among other tilings, the usual recitals of fact, the covenants of the mortgagor, the ordinary provisions for foreclosure in case of default in the payment of interest on the bonds, the provision covering a case of vacancy in the office of trustee, and a clause limiting the liability of the trustee and providing for the repayment of its necessary disbursements. Then follows the witnessing clause, which, among other statements, contains these words, “ and the said Farmers’ Loan and Trust Company, party of the

We thus have the case of the ordinary railroad mortgage, \ in which the trustee enters into no positive covenants, but I accepts the trust which provides in express terms the duties of \ the trustee in the event of default in the payment of interest and resulting foreclosure and sale. There is no complaint made as to the manner in which the trustee performed these duties.

In order to determine the precise nature of the liability of the' trustee, sought to be enforced by the plaintiff, it becomes necessary to consider the provisions in detail contained in the ■fourth and fifth subdivisions of the mortgage already cpioted ' in full. In the fourth subdivision the Oregon Pacific Rail- v road Company covenants to apply the net proceeds of the sale of the bonds, first to the discharge of the incumbrance of six hundred thousand dollars existing upon the land grant of the Willamette Valley and Cascade Mountain Wagon Road Company ; second, in brief, for the purposes of its incorporation generally ; third, 'to enable it to engage in the other enterprises for which it was incorporated.

In the fifth subdivision the Oregon Pacific Railroad Company covenants that after the bonds are executed it will deposit them with the trustee to be certified and issued from time to time at the request of'the company, or its president, in writing, the net proceeds to remain in the hands of the trustee, for the purposes above enumerated. (These purposes are those already pointed out as contained in the fourth subdivision.) It is further provided that these proceeds are to be “ paid out only on the written order or request of the executive committee of the board of directors of the party of the first part, or of a majority of said committee, in which order or request the president, or acting president, of the party of the first part shall in all cases join, cmd all such orders and requests shall include a written statement, or memorandum,

It is further provided in this subdivision, in substance, that the party of the first part may apply any of the said bonds for the purposes of its incorporation without converting the same into money, and in that case it shall furnish a similar statement or memorandum declaring the purpose, or purposes, for which the bonds are to be used.

The complaint alleges in this connection, in substance, that the trustee has not kept its covenant and agreement in this behalf; that it had in its possession the entire issue of 15,000 /bonds, and delivered to the Oregon Pacific Railroad Company May 31st, 1881, 3,250 of said bonds without receiving a statexjnent of the purposes for which said bonds were to be appropriated as required by the mortgage. That the statement actually received reads as follows: “ That the purposes for which said bonds are to be appropriated or used are the purchase of necessary materials, the construction of its lines and the discharge of its obligations, and for other purposes of the organization.”

The complaint then alleges: And this although at that time whatever right the said Willamette Valley and Coast Railroad Company ever had to acquire said lands as specified „ and conveyed in and by said mortgage had expired ; all which was well Tcnown to said defendant.”

For the purposes of this appeal the facts alleged in the complaint must be taken as true.

The charge of the complaint is that the trustee violated its covenant and agreement by delivering to the railroad company these 3,250 bonds without exacting a statement showing that the latter proposed to devote this first issue to the discharge of the incumbrance of six hundred thousand dollars existing upon the land grant of ’ the wagon road company, as specifically required by the mortgage, with full knowledge , that the time to acquire the land grant of about 850,000 acres of land had been allowed to expire.

The allegation of the complaint that the trustee has not' kept and performed its covenant and agreement in this behalf must necessarily refer to an implied covenant and agreement, as the mortgage contains no positive covenant that the trustee will exact from the railroad company such a statement as is described in the mortgage.

The defendant points out in this connection that the fifth subdivision of the mortgage provides that “Nothing herein contained shall be so construed as requiring the said trustee to inquire into the application of the funds, or of the bonds, which it may deliver over on receipt of such orders or requests as aforesaid.” This suggestion is aside from the question; the claim of the plaintiffs is that the trustee rested under the obligation, in the first instance, of exacting from the railroad company a statement showing the purposes for which each issue of bonds was to be used. If this be so, the provision of the mortgage exempting the trustee from inquiring into the application of the funds or the bonds “ delivered over on the receipt of such orders, or requests,” does not apply, as the point made refers solely to the right of the trustee to issue the bonds.

At the time the first 3,250 bonds were issued, May IstA 1881, it is clear that the trustee failed in the discharge of its \ implied duty or obligation by not requiring a specific statement as to the purposes for which they were to be used, and' seeking the instruction of the court, for its own protection, under circumstances which indicated a serious impair- ■ ment, at the outset, of the mortgage security.

It is apparent that at this time no portion of the contem

( It would seem too clear for argument that the trustee ¡rested under the implied duty to the future bondholders to ■' see that the only assets then available to feed the security ■ should be acquired by the railroad company, or, failing in , that, to refuse issuing bonds unless ordered to do so by the court.

' It also appears, in the admitted facts of the case that the bonds, or the proceeds of the bonds, were to be advanced to the railroad company only at the rate of $25,000 per mile, and that the first issue of 3,250 bonds was to be devoted, primarily, to the payment of the six hundred thousand dollars for the land grant of the wagon road company and the construction of the first one hundred and thirty miles of the railroad from the ocean eastward. Rot only was this first advance of bonds made upon an insufficient statement, but between May 1st, 1881, and June, 1885, the remainder of the 15.000 bonds was issued in three additional lots by the trustee to the railroad company on similar statements and with full knowledge that the one hundred and thirty miles of railroad from the ocean eastward had not been completed, nor had '$25,000 a mile been expended on such portion as was built. In fact, the provisions of the fourth and fifth subdivisions of the mortgage, imposing upon the trustee the implied obligation to issue or pay out the bonds, or their proceeds, to the ' railroad company upon statements which were to disclose the manner in which they were to be used, were utterly ignored, and the bonds issued without regard to the land grant of the wagon road company, or the mileage of the constructed railroad.

#/The subsequent history of this enterprise shows how dis

The meagre and paltry assets of this railroad company, as disclosed by the admitted facts, is a striking illustration of how bonds of the par value of fifteen million- dollars can be marketed upon security utterly inadequate.

It was to prevent bondholders from drifting into sijch a situation that the railroad company covenanted to furnish the trustee, when calling for bonds, or their proceeds, with a statement “ declaring the purpose, or purposes,” for which they were to be used, those purposes having been carefully classified in the mortgage.

The question is thus presented, whether the trustee rested’ under an implied legal duty or obligation springing from the relation of trustee and eestmi que trust, or whether an implied covenant to that effect can be read into the mortgage under seal.

It is the settled law that in order to imply a covenant in , contract under seal, a manifest and clear intention must appear in the contract that one of the parties shall do the act in regard to which the covenant is to be implied. (Hornbostel v. Kinney, 110 N. Y. 94 , 99 ; Zorkowski v. Astor, 156 N. Y. 393 , 397, 398.)

As to what is a manifestation of a clear intention that one of the parties shall do the act in regard to which the covenant is to be implied is illustrated in the following eases.

Judge Allen, said in the above case (p. 21): “There is no particular formula of words or technical phraseology necessary to the creation of an express obligation to do or forbear to do a particular thing or perform a specified act. If from the text of an agreement or the language of the parties, either in the body of the instrument or in the recital or references^ there is manifested a clear intention that the parties shall do certain acts, courts will infer a covenant in the case of a sealed instrument, or a promise if the instrument is unsealed, for non-performance of which an action of covenant or assumpsit will lie. It is a cardinal principle that every agreement or covenant must be interpreted according to its peculiar terms, and so as to carry out the intent of the parties, and it follows that the ruling upon, and the interpretation of, one agreement will seldom aid in the construction of another, except as it may illustrate some general rule of interpretation applicable to both.”

In Mansfield v. N. Y. C. & H. R. R. R. Co. ( 102 N. Y. 205 ) it appeared that the plaintiff entered into a contract with the defendant for the construction by tile former of the superstructure of an elevator for the latter. The contractors agreed to commence the work within five days after notice from

Euger, Ch. J., after a full examination of the authorities, said: “ Looking at this contract in the light of decisions referred to, it would seem that the plainest principles of justice required the implication of a covenant on the part of the defendant to prepare the foundations in question so as to have them in a condition to enable the contractors to prosecute their work to the utmost advantage and economy, before giving the notice which set the time limited for their completion in motion. Any other construction would destroy the mutuality of the agreement and put it practically in the powder of one party to defeat performance by the other.” Thereupon, an implied covenant was read into this contract under seal.

In New England Iron Co. v. Gilbert Elevated R. R. Co. ( 91 N. Y. 153 ), in a contract between the plaintiff and.the defendant, the plaintiff agreed to furnish the materials and erect on masonry, to be furnished by defendant, an elevated iron railway in the city of New York. The plaintiff was to commence work on being notified by defendant’s president that defendant’s capital stock was subscribed and thirty per cent paid in. The defendant agreed to designate the order in which the work was to be commenced and completed and to pay therefor a specified price. The plaintiff was not required to prosecute the work any faster than money to be paid therefor should be furnished by the defendant. The defendant subsequently, without giving the prescribed notice, entered into a contract with another corporation for the construction of the work. It was held that although the defendant did not in express terms undertake to do the act or give the notice required to set the plaintiff in motion, a promise to do

In Hudson Canal Co. v. Pennsylvania Coal Co. ( 8 Wall. 276 ) the Supreme Court of the United States, in refusing to read into a contract under seal an implied covenant, uses this' language (p. 288): “ Undoubtedly, necessary implication is as much, a part of an instrument as if that which is* so implied was plainly expressed, but omissions or defects in written instruments cannot be supplied by virtue of that rule unless the implication results from the language employed in the instrument, o.r is indispensable to carry the intention of the parties into effect; as where the act to be done by one of the •contracting parties can- only be «done upon something of a corresponding character being done by the opposite party, the law in such case, if the contract is so framed that it binds the party contracting to do the act, will imply a correlative obligation on the part of the other party to do what is necessary oil his part to enable the party so contracting to accomplish his undertaking and fulfill his contract.” '

To the sa-m'e effect is Hale v. Finch ( 104 U. S. 261 ). At page 269 the court says: “But according to the authorities, including some of those above cited, and from the reason and' sense of the thing, a covenant will not arise unless it can be collected from the whole instrument that there was an agreement, or promise, or engagement, upon the part of the person sought to be charged, for the performance or non-performance of some act.”

In the light of these authorities, there is nothing in the language of the mortgage before us to warrant reading into that instrument an implied covenant, imposing upon the trustee the affirmative obligation, already discussed, in paying out these bonds or their proceeds to the railroad company.

The covenants contained in the mortgage on the part of the railroad company are made with its future bondholders, and to these covenants the trustee is a stranger; consequently, the principle declared in the cases cited does not apply, as there

ft is to be observed that the person against whom an implied covenant is read into a sealed instrument is an active covenanting party therein, and the question is whether on considering the language of the covenants the writing contains, others must not be implied therefrom, of a correlative character, in order to carry out the intention of the parties.

In the case at bar the defendant, the Farmers’ Loan and Trust Company, is named as party to the mortgage, not as entering into its positive covenants, but for the purpose of accepting the trust therein created. In executing that accept! anee the defendant created the relation of trustee and oestui\ que ti'ust between it and the future bondholders. It is in this / relation equity finds a foundation upon which to rest its juris-1 diction and imply duties and obligations, which, in the absence 1, of any covenants in the mortgage, entered into by the defend- \ ant, cannot be read into that instrument.

It, therefore, follows that an implied duty or obligation existed requiring the trustee to advance to the railroad company the bonds, or their proceeds, upon proper demands and specific statements of the latter, indicating a purpose to use the same in accordance with the provisions of the mortgage.

It seems only reasonable that the bondholders should be protected by the positive covenants of the mortgagor and all of those obligations that may be fairly implied as resting upon the trustee. It is unfortunately the case that the duties of trustees under railroad and other mortgages are too often performed in a perfunctory manner unless there is default in the payment of interest and the trustees are called upon to take possession of the property and foreclose the mortgage in pursuance of the express duties imposed upon them.

The strict enforcement, when possible, of these implied obligations imposed upon trustees would be salutary and timely. .

This being so, the twenty years’ Statute of Limitations, relating to an action upon a sealed instrument, does not apply, but the cause of action falls within the provisions of section 388 of the Code of Civil Procedure, which is general in its-character, to the effect that “An action, the limitation of which is not specially prescribed in this or the last title, must be commenced within ten years after the cause of action accrues.”

The trust company delivered the last lot of xbonds to the railroad company in the month of June, 1885, and these actions were begun in February, 1899. The statute must be deemed to have been set running by this last delivery of the bonds.

The learned Appellate Division in sustaining the demurrers of defendant to the replies of plaintiffs and dismissing the complaints upon the merits, held (1) that there were no duties imposed upon' the trustee independently of the mortgage; ' that these actions are to be regarded as brought upon a sealed instrument, and can only be cut off by the twenty years’ Statute of Limitations ; and (2). that the complaints taken as a ■ whole contain no enforceable cause of action against the trust company.

It was, therefore, ordered that the judgments of the Special Term dismissing the complaints should be affirmed.

While we are unable to agree with the views expressed by the Appellate Division in regard to the nature of the cause of action, or the duties of the trustee, we concur in the result reached that the complaint was properly dismissed, placing I our decision upon the fact that the cause of action is cut off by the ten years’ Statute of Limitations.

In Frishmuth v. Farmers' Loan & Trust Co. ( 95 Fed. Rep. 5 ) the Circuit Court of the United States for the southern district of Hew York, in construing the mortgage now before us, held that the duties assumed by a

As already stated, one of the plaintiffs is the owner of twenty bonds purchased in 1887, and the other of five bonds purchased in 1889.

We thus have before us the owners of only twenty-five out of fifteen thousand bonds, who purchased long after the trustee had issued all the bonds to the railroad company. .

The breach of trust by the trustee existed at the time these, bonds were acquired, and a reasonable examination of the public records and locus in quo in the state of Oregon would have disclosed a condition of affairs calculated to satisfy a reasonable man that the securities were of little or no value. The land grants wbnld have been matter of record if existing, and the length of the constructed and equipped railroad was readily ascertainable.

The complaint alleges, and it is admitted, that the construction of the railroad was commenced about July, 1881, and only seventy-two miles were completed in October, 1884; that this work was so defectively and cheaply done as not to cost twenty-five bonds, or the proceeds thereof, per mile; that it was not until 1886 that the railroad was extended ten miles to Albany, Linn county, Oregon; that in 1889 the railroad was extended into the Cascade mountains, a point distant about one hundred and forty-two miles from Yaquina bay, when the work of construction was stopped and never resumed; that this total mileage of railroad was so defectively and cheaply constructed and equipped as to be substantially worthless and of no value for the security of bondholders.

(dissenting). The trust deed in this case was in form and effect a bipartite agreement between the Oregon Pacific Bailroad Company of the first part, the Farmers’ Loan and Trust Company of the second part, and the "Willamette Valley and Coast Bailroad Company of the third part. By its terms the parties of the first and third parts transferred to the defendant in trust for the purposes therein mentioned all the property and franchises owned by them. The party of the first part covenanted and agreed that when the. bohds provided for by such' trust deed liad been executed it would deposit them with the defendant to be issued and certified as the same should be sold or otherwise disposed of. The defendant was authorized to certify and issue such bonds for sale when required by the party of the first part, but the net proceeds realized therefrom were to he paid over to and remain in "the hands of - the defendant for the purposes set forth in that instrument. There was also an express provision therein that such proceeds should be paid out only on the written order or request of the executive committee or the board of directors of the party of the first part, such orders or requests to include a written statement of the purpose for which such proceeds were to be appropriated. It then provided for the issuing of bonds to be directly applied to the purposes of the corporation without their conversion, but required that the trustee should be furnished with a like written order and request which should include a written statement declaring the purposes for which such bonds were to be employed, and only in such case was the trustee authoi> ized to certify, issue and deliver such bonds.

The question here presented is whether these provisions of the trust deed, which clearly imposed upon the defendant the duty of retaining the bonds executed and the net proceeds of those issued and sold until called for, for the purposes and in ^■he manner therein stated, constituted a covenant to that

I vote for reversal.

Parker, Oh. J., Cullen and Werner, JJ., concur with Bartlett, J.; O’Brien and Vann, JJ"., concur with Martin, J.

Judgment affirmed.