Other People's Money, and How the Bankers Use It

by Louis Dembitz Brandeis

OTHER RAILROAD COMBINATIONS

The cases of the Union Pacific and of the New Haven are typical—not exceptional. Our railroad history presents numerous instances of large security issues made wholly or mainly to effect combinations. Some of these combinations have been proper as a means of securing natural feeders or extensions of main lines. But far more of them have been dictated by the desire to suppress active or potential competition; or by personal ambition or greed; or by the mistaken belief that efficiency grows with size.

Thus the monstrous combination of the Rock Island and the St. Louis and San Francisco with over 14,000 miles of line is recognized now to have been obviously inefficient. It was severed voluntarily; but, had it not been, must have crumbled soon from inherent defects, if not as a result of proceedings under the Sherman law. Both systems are suffering now from the effects of this unwise combination; the Frisco, itself greatly overcombined, has paid the penalty in receivership. The Rock Island—a name once expressive of railroad efficiency and stability—has, through its excessive recapitalizations and combinations, become a football of speculators, and a source of great apprehension to confiding investors. The combination of the Cincinnati, Hamilton and Dayton, and the Père Marquette led to several receiverships.

There are, of course, other combinations which have not been disastrous to the owners of the railroads. But the fact that a railroad combination has not been disastrous does not necessarily justify it. The evil of the concentration of power is obvious; and as combination necessarily involves such concentration of power, the burden of justifying a combination should be placed upon those who seek to effect it.

For instance, what public good has been subserved by allowing the Atlantic Coast Line Railroad Company to issue $50,000,000 of securities to acquire control of the Louisville & Nashville Railroad—a widely extended, self-sufficient system of 5000 miles, which, under the wise management of President Milton H. Smith had prospered continuously for many years before the acquisition; and which has gross earnings nearly twice as large as those of the Atlantic Coast Line. The legality of this combination has been recently challenged by Senator Lea; and an investigation by the Interstate Commerce Commission has been ordered.

THE PENNSYLVANIA

The reports from the Pennsylvania suggest the inquiry whether even this generally well-managed railroad is not suffering from excessive bigness. After 1898 it, too, bought, in large amounts, stocks in other railroads, including the Chesapeake & Ohio, the Baltimore & Ohio, and the Norfolk & Western. In 1906 it sold all its Chesapeake & Ohio stock, and a majority of its Baltimore & Ohio and Norfolk & Western holdings. Later it reversed its policy and resumed stock purchases, acquiring, among others, more Norfolk & Western and New York, New Haven & Hartford; and on Dec. 31, 1912, held securities valued at $331,909,154.32; of which, however, a large part represents Pennsylvania System securities. These securities (mostly stocks) constitute about one-third of the total assets of the Pennsylvania Railroad. The income on these securities in 1912 averaged only 4.30 per cent. on their valuation, while the Pennsylvania paid 6 per cent. on its stock. But the cost of carrying these foreign stocks is not limited to the difference between this income and outgo. To raise money on these stocks the Pennsylvania had to issue its own securities; and there is such a thing as an over-supply even of Pennsylvania securities. Over-supply of any stock depresses market values, and increases the cost to the Pennsylvania of raising new money. Recently came the welcome announcement of the management that it will dispose of its stocks in the anthracite coal mines; and it is intimated that it will divest itself also of other holdings in companies (like the Cambria Steel Company) extraneous to the business of railroading. This policy should be extended to include the disposition also of all stock in other railroads (like the Norfolk & Western, the Southern Pacific and the New Haven) which are not a part of the Pennsylvania System.

RECOMMENDATIONS

Six years ago the Interstate Commerce Commission, after investigating the Union Pacific transaction above referred to, recommended legislation to remedy the evils there disclosed. Upon concluding recently its investigation of the New Haven, the Commission repeated and amplified those recommendations, saying:

“No student of the railroad problem can doubt that a most prolific source of financial disaster and complication to railroads in the past has been the desire and ability of railroad managers to engage in enterprises outside the legitimate operation of their railroads, especially by the acquisition of other railroads and their securities. The evil which results, first, to the investing public, and, finally, to the general public, cannot be corrected after the transaction has taken place; it can be easily and effectively prohibited. In our opinion the following propositions lie at the foundation of all adequate regulation of interstate railroads: