CERTIORARI TO THE CIRCUIT COURT OF APPEALS FOR THE SEVENTH CIRCUIT.
Hughes, Van Devanter, McReynolds, Brandeis, Sutherland, Butler, Stone, Roberts, Cardozo
MR. JUSTICE CARDOZO delivered the opinion of the Court.
In bankruptcy proceedings pending in Wisconsin, the petitioners, two Milwaukee banks, prayed an order of the court for permission to sell collateral securities pledged by the bankrupt. The subject of the pledge was bonds payable to bearer, secured by a deed of trust. The District Court refused the relief (6 F.Supp. 638), and the Court of Appeals for the Seventh Circuit affirmed. 70 F.2d 815. Two questions are in the case, first, whether the bonds are negotiable in form, and, second, whether the petitioners are holders in good faith. We granted certiorari.
On October 9, 1929, Kalt-Zimmers Manufacturing Company of Milwaukee, Wisconsin, made its deed of trust to Hackett, Hoff and Thiermann, Incorporated, trustee, to secure bonds of the total amount of $115,000. The bonds are payable to bearer. They are stated to be secured by a deed of trust to the above named trustee, "to which deed of trust reference is hereby made with the same effect as though recited at length herein, for the description of the property mortgaged, the nature and extent of the security, the rights of the holders of the bonds, and the terms and conditions upon which the said bonds are issued, held and secured, and may, before their fixed maturities, be declared at once due and payable, and the manner of prepayment before maturity." They are to pass by delivery, but they are not to be valid for any purpose or be secured by the deed of trust until certified by the trustee to be bonds covered by the mortgage.
The deed of trust thus referred to states the duty of the trustee in the disposition of the bonds and the application of the proceeds. The directions are precise and full. As soon as practicable after certifying the bonds the trustee is to negotiate and sell them. The proceeds are to be used, first, for the discharge of an underlying mortgage of $35,000 on real estate in Milwuakee belonging to the mortgagor;
second, to pay the cost of a building then about to be constructed; "the balance," if any, "to be at the disposal of the party of the first part," the maker of the deed. "The trustee, or any of its officers, agents or stockholders may acquire, own and deal in said bonds and coupons with the same rights as if not trustee hereunder and shall not be obliged to account to any one for any profits made thereby."
Hackett, Hoff and Thiermann, the trustee, did not dispose of the bonds in controversy in accordance with the deed of trust. Instead it pledged them with the petitioners ($6000 of bonds with the Marine Bank and $8,500 with the West Side Bank) as security for its own indebtedness, receiving back in some instances additional loans and in other instances securities of equal value previously pledged. On June 8, 1931, the trustee was adjudicated a bankrupt, whereupon the banks petitioned for authority to sell the bonds in their possession. The courts below have ruled that upon the face of the bonds the bankrupt held them not in its own right, but as trustee for the mortgagor or others, and that by reason of this disclosure the pledgees had been put upon inquiry and were chargeable with constructive notice of the provisions of the trust. All the transactions took place in Wisconsin, where the law of negotiable instruments is governed by statute. Wisconsin Statutes, 1929, § 116.01 et seq.
First : Under the Wisconsin statute, as construed by the highest court of that state, the bonds are negotiable.
Section 116.02 Wisconsin Statutes, 1929, provides as follows:
"An instrument to be negotiable must conform to the ...