In the Matter of Petroleum Corporation of America, Bankrupt.hawaiian Investors, Appellant, v. H. L. Thorndal, Trustee in Bankruptcy of Petroleum Corporation of America, Bankrupt, Appellee, 417 F.2d 929 (8th Cir. 1969)

On this appeal, we consider the propriety of a judgment on counterclaims aggregating more than $165,000.00 entered by the referee in bankruptcy and confirmed by the district court against appellants, called Hawaiian Investors. We have jurisdiction. Bankruptcy Act, § 24, 11 U.S.C. § 47.

Prior to 1959, some 267 residents of Hawaii, looking for profit in North Dakota oil, separately entered into contracts with Petroleum Corporation of America (PCA), a Colorado corporation then doing business in North Dakota, whereby PCA agreed to assign to each Investor a percentage interest in specific oil and gas leases on North Dakota property. The Hawaiians invested in excess of 1.6 million dollars.

PCA was adjudicated bankrupt on January 3, 1959. As a result, instead of reaping profits, the Hawaiian Investors sustained a complete loss of their investments.¹ 

Each Hawaiian Investor filed a creditor's claim in the initial bankruptcy proceedings for the amount that he or she had paid PCA pursuant to the contracts. PCA's trustee in bankruptcy, H. L. Thorndal, denied these claims and asserted counterclaims alleging that each Hawaiian Investor, as a "mining partner" of PCA, was indebted to the trustee for debts PCA had incurred in the oil drilling operations.²  Each Hawaiian Investor denied the allegations and each contested the bankruptcy court's jurisdiction to adjudicate the counterclaims.

On August 23, 1960, the referee in bankruptcy, the late Charles M. Pollock, denied the creditors' claims of the Hawaiian Investors. Referee Pollock also ruled that he had jurisdiction to hear the counterclaims. The district court reviewed and approved these rulings. In 1963, the Hawaiian Investors unsuccessfully sought a dismissal of the counterclaims or a change of venue to Hawaii. This litigation remained at rest until 1966 when, following liquidation of substantially all of the bankrupt's estate, the trustee asked Referee Pollock's successor to schedule a hearing to assess money damages against the Hawaiian Investors as "co-partners of the bankrupt".

The present referee assumed that Referee Pollock's 1960 order established that the Hawaiian Investors and PCA were mining partners³  and that as such the Hawaiian Investors incurred joint and several liability to all of the creditors in each drilling venture. Thus, the present referee scheduled a hearing for the sole purpose of determining the amount of such liability.⁴  After hearing evidence which established the amount of expenses and charges that were still unpaid as against different well drilling projects, the present referee, in January of 1968, entered judgment jointly and severally against the Hawaiian Investors.⁵  They appeal from the order of the district court which affirmed that judgment.

The Hawaiian Investors in essence here protest that they have never been adjudicated to be mining partners of PCA. They deny any liability to the trustee for the claims he asserts against them. These contentions require a brief review of some of the early bankruptcy records and proceedings affecting these appellants.

On April 14, 1960, Referee Pollock informed counsel that he would hear one claim as a test case, that of Raymond D. K. Lau which had been selected by counsel for the Hawaiian Investors, to determine the rights of the "contract holders". On August 23, 1960, Referee Pollock ruled that Lau possessed an ownership interest rather than a creditor's claim against the bankrupt. The referee recited as one conclusion of law that Lau and PCA were "mining partners".

However, Referee Pollock, noting that even if Lau could be deemed a creditor his claim would be subordinate to the rights of general creditors, stated in a contemporaneous memorandum opinion:

"From the evidence at hand, it would appear conclusively claimant purchased an interest in physical assets of the bankrupt, separate and distinct from an interest in the company, and further agreed to enter into a joint venture with bankrupt in developing such properties. This could well be called a `mining partnership', using the vernacular of the trade.

But whether or not the claimants be called mining partners, co-adventurers or investors, they are participants in the common enterprise." (Emphasis added.)

In addition, Referee Pollock said:

"It is the opinion of this Referee, however, that notwithstanding the jurisdiction of the Referee to determine the issues by the counterclaim and the reply raised, by reason of the fact that the Trustee can in no event recover on his counterclaim against claimant until all of the physical assets of the bankrupt's estate have been exhausted, it would be improper and premature at this time to determine the issues thus raised." (Emphasis added.)

We read Referee Pollock's conclusion of law that Lau and PCA were mining partners in light of his memorandum opinion and other determinations. See Southern Pacific Land Co. v. United States, 367 F.2d 161, 162, n. 1 (9th Cir. 1966), cert. denied, 386 U.S. 1030, 87 S. Ct. 1478, 18 L. Ed. 2d 592 (1967); American Pipe & Steel Corp. v. Firestone Tire & Rubber Co., 292 F.2d 640, 642 (9th Cir. 1961); Stone v. Farnell, 239 F.2d 750, 755 (9th Cir. 1957). In so doing, it is readily apparent that Referee Pollock used "mining partnership" as a generally descriptive term to indicate only that Lau possessed some form of ownership interest in the bankrupt's estate as opposed to a creditor's claim, not as an adjudication that Lau and others similarly situated actually constituted mining partners of PCA. Referee Pollock's order and opinion, fairly read, support no other conclusion.⁶ 

Our conclusion in this regard is further supported by later action taken by Referee Pollock. After considering the 1963 motion of the Hawaiian Investors for dismissal for want of prosecution or change of venue, in a memorandum opinion accompanying his order denying relief, Referee Pollock again articulated the limited nature of the 1960 order in leaving unresolved all issues raised by the counterclaims. He stated:

"The Lau case, chosen by counsel, was to test all the rights of the Hawaiian Investors, * * * As a result of the Lau case, the investors have been determined to be just that, not creditors.

The only matters to be resolved is as to the liability, if any, on the so-called `mining partnership' they entered into. In each case the contract is one file, as in the Lau case. Interpretation of such written agreements is a matter of law, not fact. No need to go to Honolulu to determine that. As the counterclaims are by the trustee, representing the creditors, and as the investors have no status as creditors, the testimony to be considered, if liability is established, is the amount thereof. All that evidence is in this District, none in Honolulu." (Emphasis added.)⁷ 

In the instant proceedings in bankruptcy, the trustee obtained a judgment against the Hawaiian Investors as mining partners obligated jointly and severally to the creditors for all unpaid claims for goods, materials or services furnished in the operation of the eight drilling projects. That judgment cannot stand in the absence of an adjudication of the underlying liability issue of whether the Hawaiian Investors and PCA constituted a "mining partnership". From our review of the prior orders and judgments in bankruptcy,⁸  we are satisfied that such issue has never been litigated nor settled. Our conclusion on this issue alone requires reversal of the judgment.

We, however, elect not to rest our decision solely on that ground. Even if the Hawaiian Investors were mining partners of PCA and were jointly and severally liable to those creditors who filed claims in bankruptcy against PCA, PCA's trustee possesses no power⁹  to assert the rights of those creditors.

Although the counterclaims might be read as an assertion by the trustee of rights possessed by the bankrupt to seek contribution for payment of drilling expenses from the Hawaiian Investors in proportion to their interests in the oil and gas leases pursuant to contract,¹⁰  neither the trustee nor the court of bankruptcy has so interpreted them. In any contractual claim made by PCA's trustee for oil drilling expenses, each Hawaiian Investor's contractual liability would be measured and limited by his ownership interest, usually one or two per cent, in a particular oil and gas lease. The trustee here asserts no such claim to assess damages for contribution on a pro rata basis against each Hawaiian Investor. Rather, he here presses the collective remaining claims of all of PCA's creditors arising out of the oil drilling programs.

Generally, the trustee of a bankrupt has no power to press the general claims of the bankrupt's creditors against third parties. See Barnes v. Schatzkin, 215 App.Div. 10, 212 N.Y.S. 536 (1925), aff'd, 242 N.Y. 555, 152 N.E. 424, cert. denied, 273 U.S. 709, 47 S. Ct. 100, 71 L. Ed. 852 (1926).¹¹  Collier summarizes the rule:

"In any event, the claims sued upon by the trustee must belong to the bankrupt estate, and a trustee may not sue upon claims not so belonging, even though they were assigned to him by creditors for convenience or other purposes." 2 Collier on Bankruptcy, ¶ 47.05 [1], p. 1746 (14th ed.).

However, mere assertion of the general rule cannot end our inquiry. It is also necessary to ascertain whether the "strong arm clause" of § 70(c) of the Bankruptcy Act, 11 U.S.C. § 110(c), has modified or eroded the rule so as to enable the trustee to assert creditors' claims in this case. At the time of this bankruptcy, the applicable version of that clause read:

"The trustee, as to all property, whether or not coming into possession or control of the court, upon which a creditor of the bankrupt could have obtained a lien by legal or equitable proceedings at the date of bankruptcy, shall be deemed vested as of such date with all the rights, remedies, and powers of a creditor then holding a lien thereon by such proceedings, whether or not such a creditor actually exists." 11 U.S.C. § 110(c) (1952), as amended, 11 U.S.C. § 110(c) (1966).

The strong arm clause was designed to assure the trustee the rights of a lien creditor upon property in which the bankrupt has some interest or as to which the bankrupt might be the ostensible owner. See House Report, No. 2320, 82d Congress, 2d Sess. 1952; 4A Collier on Bankruptcy, ¶ 70.03 [4], pp. 40-41 (14th ed.). The reference to an actual or hypothetical creditor denotes a creditor of the bankrupt. See Lewis v. Manufacturers National Bank, 364 U.S. 603, 81 S. Ct. 347, 5 L. Ed. 2d 323 (1961); 4A Collier on Bankruptcy, ¶ 70.49, pp. 595-598 (14th ed.).

The creditors' armor worn by the trustee by virtue of the strong arm clause of § 70(c) affords no assistance to PCA's trustee here. Only PCA, one partner of the assumed mining partnership, has been declared bankrupt. Accordingly, the power of an actual or hypothetical creditor of one partner to reach assets in satisfaction of creditors' claims against that partner necessarily defines the limits of the trustee's power to assert creditors' claims under § 70(c). A creditor of a bankrupt partner could obtain a lien or judgment against only that partner's personal property and his share of the partnership assets, and not against other partners' personal property or partnership interests. See Kaufman-Brown Potato Co. v. Long, 182 F.2d 594 (9th Cir. 1950); Todd v. Pettit, 108 F.2d 139 (5th Cir. 1939); Sturm v. Ulrich, 10 F.2d 9 (8th Cir. 1925); 1 Collier on Bankruptcy, ¶ 5.30, p. 741 (14th ed.).

Our analysis that powers of a creditor cast upon the trustee in this case by virtue of § 70(c) are limited ones gains strength by examination of the rights of a creditor analogous to those represented by the instant trustee, one who may hold a judgment against a partnership, rather than against an individual partner. Such creditor may levy against partnership property, but not property of an individual partner not personally served in the action. Detrio v. United States, 264 F.2d 658 (5th Cir. 1959); In re Panitz & Co., 270 F. Supp. 448 (D.C.Md.), aff'd sub nom. Hammerman v. Arlington Federal Savings & Loan Ass'n, 385 F.2d 835 (4th Cir. 1967). See also Grainger v. Antoyan, 308 P.2d 453 (Cal.App.), aff'd, opinion vacated, 48 Cal. 2d 805, 313 P.2d 848 (1957), and cases collected in Annot., 100 A.L.R. 997, 999 (1936). The forum state follows a like rule. International Shoe Co. v. Hawkinson, 73 N.D. 677, 18 N.W.2d 761 (1945). Similarly, when only a partnership is declared a bankrupt, a creditor's claim as filed in that bankruptcy cannot be enforced by the trustee against an individual partner's assets unless partnership assets are insufficient and the individual partner's creditors are first paid. See 1 Collier on Bankruptcy, ¶ 5.19, pp. 721-722; ¶ 5.25, pp. 730-732 (14th ed.).

We find no statutory authority in § 70(c) or elsewhere in the Bankruptcy Act for the trustee to sue third parties on this type of creditor's claim. It is unnecessary in the fair administration of the bankrupt's estate to extend the reach of the law to permit or require the trustee to undertake collection of the creditor's purely personal claims against those parties whose basic relation with the bankrupt is that of sharers in a common liability. At least, under the version of the strong arm clause applicable in this case, we do not so extend the grasp of the trustee's authority.¹² 

Because there has never been an adjudication of the underlying partnership issue and because the trustee has no power to enforce creditors' personal claims against the Hawaiian Investors, we reverse the judgment of the court of bankruptcy and on remand direct that the counterclaims be dismissed.