8 F.(2d) 338

of any consideration except the former consideration for the old debt and the extension of the time of payment of that debt was a violation of the provisions of the constitution and statutes of Missouri which rendered the bonds void."

It was insisted by counsel for appellants that the decision in the Kemmerer Case was erroneous. We again considered the questions presented and adhered to the conclusion reached in the Kemmerer Case. It was pointed out that the supreme court of Missouri, in several cases which were cited, had held that a corporation must receive for its stock when issued money, labor or property equal in value to the par value of the stock, and it was said:

"As the constitution and the statute condition the power of a corporation of Missouri to issue bonds in the same clause by the same limitations that condition its power to issue its stock, it is equally indispensable to its issue of valid bonds that they be issued only for money paid, labor done, or property actually received which is equal in value to the par value of the bonds."

And we expressed the belief "that when the question is presented the Supreme Court of Missouri will decide that bonds issued by a corporation of that state and pledged to secure its antecedent indebtedness without the receipt by the corporation of any valuable consideration for them except the consideration of the old debts and the extension of the time for their payment are issued in violation of section 8, art. 12, of the constitution of Missouri, and of section 2981, Revised Statutes of that state, and that there was no error in the decision of this question in Kemmerer's case."

The appellants in the Mudge Case were in the identical position of appellant in the Kemmerer Case. From none of them did the corporation receive money, labor or property or increase of its assets at the time it pledged its bonds. In each instance they were pledged for old debts, as was the case of Lyon v. Bleeg, 240 F. 405, 153 C. C. A. 331, where the prohibition of the constitution of South Dakota ran against stocks and bonds. In In re Progressive Wall Paper Corporation, supra, bonds of a corporation of New York had been pledged to secure an antecedent debt. A statute of that state reads thus:

"No corporation shall issue either stock or bonds except for money, labor done or property actually received for the use and lawful purposes of such corporation." Consol. Laws, c. 59, § 55.

After reviewing a number of cases under statute or constitutional provisions similar to that of New York the order of the referee in bankruptcy holding the bonds invalid and void in the hands of the payee of the note for which they were pledged was sustained, on the ground that the corporation had no power to issue its bonds for an antecedent debt. The courts uniformly hold that where bonds of a corporation are pledged to secure payment of an antecedent debt and constitution or statute prohibits the issuance of its bonds except for money, labor done or property actually received by the corporation, they are voidable in the hands of the pledgee and in the hands of those who may subsequently receive them with knowledge of the facts. But, as already seen, the Oklahoma constitution does not include bonds in its prohibition, it applies only to stock of the corporation that may be issued. See also William Firth Co. v. Loan & Trust Co., 122 F. 569, 59 C. C. A. 73; In re Waterloo Organ Co., 134 F. 341, 67 C. C. A. 255.

But counsel for appellants rely on the second clause of the constitutional provision, "All fictitious increase of stock or indebtedness shall be void," and they claim that what is said in the Kemmerer, Mudge and Lyon Cases, arguendo, is a ruling by this court that the pledging of the $190,000 bonds was a fictitious increase of the Southern's indebtedness. In each of these cases the constitution or statute prohibited the issuance of bonds as well as stock, except for money or property received, and in each the bonds that were issued were held void because issued as security for a pre-existing debt. The corporation received neither money nor other property for the bonds; but the Southern Corporation received from the payees of the notes when it delivered the bonds to them their full par value in funds or credits, its notes and bonds were held for one and the same debt, that debt was not fictitious and it has not been increased, as was attempted to be done in the Kemmerer and Mudge Cases. No case has been cited by counsel or found by us construing the clause relied on in support of appellants' position. The section names issuance of stock only in connection with fictitious increase of indebtedness. The increase of bonded indebtedness is covered and intended to be protected from abuse by the following and last sentence of the section, which says nothing of fictitious increase of indebtedness; and the supreme court of Oklahoma has held that "This provision of our constitution [first

sentence of section 39] was intended by its framers and the people who adopted it to prevent the issuance by corporations of 'watered or fictitiously paid up stock." Lee v. Cameron, 67 Okl. 80, 82, 169 P. 17, 19; Bentley v. Zelma Oil Co., 76 Okl. 116, 184 P. 131, 143. In Chilson v. Cavanagh, 61 Okl. 98, 100, 160 P. 601, 602 (L. R. A. 1918D, 1044), that court said:

"The manifest purpose of the framers of our constitution was to protect the public against the well known, deceitful, and fraudulent practice indulged by some corporations of issuing shares of capital stock without receiving the par value therefor either in money or its equivalent. Obviously it was intended by the section quoted to provide that a corporation should receive, and the shareholders to whom the same was issued should be bound for the full par value of its stock, thus making the assets of the corporation worth the face value of its shares of stock when issued."

directors authorizing those acts was shown to have been made. Ayers testified that he was not at the meeting in Chicago on December 30, 1920, but his testimony was so thoroughly contradicted and discredited by the testimony of others who attended that meeting that the trial court seems to have attached to his evidence no weight, and we think no other conclusion can be drawn than that he was there and participated in the meeting. He signed the lease as president. He also participated as an officer of the Southern in carrying out the understanding reached at that meeting by which the Southern should give its notes and pledge its bonds. There was testimony that he was actively in favor of the arrangement made for the lease. There was also testimony that it was arranged at this meeting with Brittingham that he would help the Southern borrow the necessary funds to operate the McCook plant and that the Southern bonds were to be given the lenders as security.

See also Webster v. Webster Refining Co., All of the Southern's officers and members 36 Okl. 168, 128 P. 261.

[6] In none of those cases, however, was that court called on to determine whether an issue and pledge of mortgage bonds might create a fictitious increase of indebtedness within the meaning of the section, and if so, what facts were necessary to its accomplishment. But the phraseology and makeup of the section, taken in connection with what the supreme court of Oklahoma has said in construing it, raises serious doubt at least whether fictitious increase of indebtedness is not intended by the section to be applied only to issuance of watered stock. To apply it to bonds brings it in conflict with the general rule that a corporation may use any of its property as security for its bona fide indebtedness. These considerations, and the fact that there is no equity in appellants' contention, leads us to the conclusion that the bonds were the valid obligations of the Southern Corporation in the hands of the payees of the notes, and that Brittingham should be subrogated to their rights. To deny his estate participation in distribution of the funds arising from sale of the mortgaged property is but to enrich the Southern Corporation at his expense to the benefit of its other creditors,-an inequitable result and not compelled by constitution or statute.

[7] It is also argued that the taking of the lease by the Southern and the agreement on its part to give its notes and pledge its bonds were not valid and binding on it because no record of a meeting of its board of

The

of its board of directors were there and all
of its issued stock was represented, and all
consented to the arrangements there made.
The Inter-Ocean Company's board of direc-
tors made up its records after the meeting
authorizing the giving of the lease, but the
board of directors of the Southern failed
to make a record authorizing its acceptance.
It, however, did accept, took possession of
and operated the leased plant. In doing so
it gave its notes and pledged its bonds.
failure of its board to make a record, as it
should have done, was not an indispensable
requirement and did not render invalid and
abortive all of these transactions.
It was
uniformly careless in that respect. Its offi-
cers had made contracts for the purchase
of large quantities of crude oil to be accept-
ed over a long period, and contracts for
sale of the refined product for railway engine
use, deliveries to be made over a long period.
They were carried out, but there was no di-
rectors' record of authorization, all knew
about them and participated in making them
and executing them, as here. People's Bank
v. National Bank, 101 U. S. 181, 25 L. Ed.
907; McCartney v. Clover Valley Land &
Stock Co., 232 F. 697, 146 C. C. A. 623, 1
A. L. R. 1127. Appellants have failed to
convince us that the court erred in making
the order appealed from and it is affirmed.

[8] At the time a receiver was appointed for the Southern Oil Corporation (December, 1922) it was and for some years theretofore had been indebted in a large amount to the Badger Oil Company, a Texas cor

8 F.(2d) 338

poration, all of the stock in the last-named company being owned by Thomas E. Brittingham, Sr., and George L. Woodard, each holding a half. The seventh paragraph of the decree foreclosing the Southern's mortgage and ordering a sale of its property reads thus:

"That the Badger Oil Company have and recover of and from the Southern Oil Corporation the sum of $230,432.99, with interest at the rate of six per cent. per annum from November 26, 1923; that said judgment is not entitled to the security of said first mortgage bonds, or any security, preference or priority, and is adjudged and allowed as an unsecured claim."

From this the Badger Oil Company has appealed (case No. 6803), assigning as error that the court did not allow its claim as pledgee of $200,000 of the mortgage bonds of the Southern Corporation, and denied it a right as such pledgee to share in the proceeds of the foreclosure sale.

The indebtedness of the Southern to the Badger Company was carried in open account on the books of the two companies, made up of borrowed money and oil purchased, amounting to slightly more than $200,000 in March, 1922, and it remained unpaid when the receivership came on. In May, 1921, George L. Woodard, R. S. Ayers and E. R. Monfort, acting individually as owners of two-thirds of the issued stock of the Southern Corporation, entered into a written agreement with Kansas & Gulf Company, a Delaware corporation, also engaged in the oil business, by which it was agreed to merge the business of the Southern and the Kansas & Gulf under one management. For that purpose it was stipulated that the three individuals named should transfer to the Kansas & Gulf the 50 shares of stock which they controlled and owned in the Southern, being two-thirds of the issued stock of that company, and that in consideration therefor the Kansas & Gulf would issue to them 4,000 shares of Kansas & Gulf stock for each share of the Southern. Thomas E. Brittingham, Sr., who held the remaining 25 shares of the issued stock in the Southern in trust, was not a party to this agreement, but Ayers, Woodard and Monfort transferred their stock in the Southern to the Kansas & Gulf and it issued to them respectively stock in it as provided in the contract. That contract also bound the Kansas & Gulf to an assumption of the indebtedness of the Southern in the proportion of the stock which it took over. Later Brittingham transferred the 25 shares which he held in trust for mem

bers of his family to the Kansas & Gulf and received therefor stock in it on the same basis of exchange which had been given to Woodard et al. In June, 1921, the capital stock of the Southern was increased to $3,000,000, part common and part preferred, and three members were added to its board of directors who represented the Kansas & Gulf.

This situation between the Southern and the Kansas & Gulf continued until March 10, 1922, whereupon Ayers, Woodard and Monfort entered into another contract with the Kansas & Gulf terminating and rescinding the contract of May, 1921, wherein it was agreed that the three individuals named would transfer their shares in the Kansas & Gulf back to that company, and in consideration thereof that company would give back to them the proportionate interests in the stock of the Southern formerly held by them. Brittingham was not a party to this contract. The transfers agreed upon were made. The Southern was indebted to the Kansas & Gulf, and it was further provided in the contract of March 10th that the Kansas & Gulf would and did fully release and discharge the Southern from its indebtedness to it, which then amounted to about $840,000. Woodard and Ayers were anxious that Brittingham should also re-exchange his stock in the Kansas & Gulf for Southern stock as they had done, and on March 24, 1922, they and Monfort met Brittingham at Chicago to consider the matter. If he would do so, then he, as trustee for members of his family, and Ayers and Woodard individually would again hold all of the Southern's issued stock, each one-third. Brittingham was not then an officer or director in the Southern and he declined to make the exchange unless the Southern would secure payment of its debt of more than $200,000 to the Badger Company, of which company he was president and owner of half of its stock. Woodard was then an officer and director in both companies, owning one-third of the Southern's issued stock and half of that of the Badger. He testified that he was opposed to giving the security requested by Brittingham because he wanted to use the Southern's credit and liquid assets for immediate company purposes, and that Ayers agreed with him. Ayers was president of the Southern but was not interested in the Badger Company, and Monfort had no real interest in either. In explanation of Woodard's attitude at the meeting and his claim that he did not intend that either company should be treated unfairly it should be said

8 F.(2d) 338

ment between the witnesses as to the value of Southern assets at that time, but we think it clear that they were entirely insufficient in value to meet its liabilities, which in March, 1922, were around $1,500,000, exclusive of its mortgage debt. On March 24, 1922, creditors' suits against the Southern had been brought, some of them to enforce mechanic's or materialmen's liens, and some on attachments. They went to judgments, and later parts of the Southern's plant equipment was sold to satisfy those claims, which amounted to more than $100,000. Other creditors were pressing for payment. It could not then find the funds to carry on operations and meet its obligations, some long past due. It closed down one of its refineries in Oklahoma in March, 1922, the other was operated thereafter intermittently on small runs of oil far below its capacity, and in a practical business sense that refinery had been closed also before the pledge was made. Considering the character of its business and the magnitude of plant investment it could hardly be said to be a going concern. Its financial embarrassments had disabled it from further performance of its corporate duties. It could not go on without immediately obtaining funds to a large amount and its condition was such that it could not get them. There can be no doubt that its officers and directors had full knowledge and understanding of its situation. The pledge brought no relief, it was given to secure an old debt. Whether we consider Woodard's dual relation to the transaction and the advantage and benefit that he would obtain and derive from it or shut our eyes to those facts, it seems clear that the conclusion of the court below that the pledge contract should be avoided was the correct one. For in Wyman v. Bowman, 127 F. 257, 274, 275, 276, 62 C. C. A. 189, 206, we held: "But contracts and transactions between individuals and corporations of which they are directors or officers, which are unfair, in which the individuals have secured an undue or unjust advantage, in which an antagonism between the interest of the individuals and the duty of the officials has resulted in the triumph of the former, are voidable at the option of the corporation, its creditors or stockholders."

And:

"The ground on which preferences given by corporations are held to be voidable is that when a corporation becomes insolvent, and its officers are, or ought to be, aware that it must soon cease to operate as a going concern, its assets become a trust fund,

sacredly pledged, subject only to prior liens,. to be equally distributed, first among its creditors, and then among its stockholders. But this trust does not attach until the corporation becomes insolvent. Nay, more, it does not so attach as to avoid preferences given in good faith until its officers become aware, or by the exercise of reasonable prudence and diligence would have become aware, that the continued operation of the company as a going concern for any considerable length of time is probably impracticable, and that it must soon close its business, cease its active existence, and distribute its property among its creditors."

[9] In Stuart v. Larson (C. C. A.) 298 F. 223, we had occasion to consider a prefer- . ence given by a corporation to its directors as its creditors when they knew that it was insolvent and could not continue in business. The authorities are reviewed at length. It is the general rule that when corporations cannot continue in the discharge of their corporate functions because of insolvency, preferences which they may give to any of their creditors are voidable. The directors, because of those conditions, are put in a fiduciary relation toward corporate creditors and they must apply its assets so as to treat them all alike. Fletcher Cyc. Corpns., vol. VIII, §§ 5145-5154; Cook on Corporations (8th Ed.) vol. III, §§ 658, 692; Union Coal Co. v. Wooley, 54 Okl. 391, 154 P. 63, 19 A. L. R. 312.

[10] Insolvency alone does not place the directors of a corporation in the position of trustees of its property for the benefit of all of its creditors. American Exchange Nat. Bank v. Ward, 111 F. 782, 49 C. C. A. 611, 55 L. R. A. 356; Brittain v. Burnham, 9 Okl. 522, 60 P. 241; Union Trust Co. v. Hendrickson, 69 Okl. 277, 172 P. 440. There may be reasonable hope that it can be made solvent, and to that end it may enter into all appropriate contracts, including contracts of preference, while a going concern with fair prospects of rehabilitation. The trust relation does not arise until its financial condition has become such that there can be no reasonable expectation of permanent future betterment; but if it be apparent to its officers and directors that its condition is such that it cannot continue in the discharge of its corporate purposes and its activities as such must cease because of its financial embarrassments and insolvency, then equity imposes the trust relation with its duties and obligations, and all creditors of the same class must be treated alike. This, we think, was the condition of the Southern,