Railroad Reorganization

by Stuart Daggett

The weakened position of its allied company pulled the Reading down, and prevented it from attaining the secure position which had seemed in sight. The payment of dividends only increased the general dissatisfaction. In February, 1889, holders of a considerable amount of second preference bonds circulated a petition objecting to the official statement of net earnings applicable to these securities, and demanded an examination of the books. After an investigation their expert declared that a 7½ per cent dividend had been earned, but the bondholders could not induce the company to increase its distribution. The next year preference bondholders fared even worse. The managers declared that the surplus over all fixed charges for the year was barely $100,000, and that no dividends at all upon their holdings could be paid. Again an investigation was demanded and accorded, and Mr. Howard Lewis, the expert appointed, reported that there was applicable to the payment of interest upon first preference bonds the sum of $90,101, or ⅜ of one per cent; a sum which the company promptly agreed to pay. Meanwhile even the stockholders were becoming restless. In June, 1889, a suit was commenced in Philadelphia, praying that the company’s voting trustees and the trust under which they acted should be set aside, on the ground that the trust was to be exercised by five voting trustees, whereas only four had ever been appointed. Later on the matter was taken up by London stockholders, and became serious enough to force a concession of two seats in the board of managers of the company.

There was no question but that the trouble was caused by depression in the anthracite coal business, for in the carriage of both passengers and freight the Reading in these years made steady and substantial gains. In the three years following 1887 the number of passengers transported increased by 2,400,000 and the earnings from them by $470,000; while the freight tons moved gained 1,500,000 and the freight earnings $1,000,000. Only in coal was there a decrease, which appeared for the Coal & Iron Company in the figures for sales and gross and net receipts, and for the Railroad Company in the earnings from anthracite transported. The result was an attempt to improve the situation: first, by a combination among coal producing roads which should raise the selling price of that commodity; and second, by extension of the railroad into new markets, whereby an outlet for increased production should be obtained. At the instigation of Mr. Gowen a syndicate was formed to purchase a majority of the stock of the Reading Company,[234] which bought much more than 50 per cent, even though Mr. Gowen, the prime mover, died in the mean time. The existing managers showed no desire to combat the movement, although the voting power lay entirely in their hands. In June, 1890, President Corbin resigned, and Mr. A. A. McLeod was elected in his place.

Mr. McLeod now began a vigorous policy of consolidation and expansion with the lease for the second time of the Central of New Jersey. He evaded a New Jersey law which forbade the lease of a domestic to a foreign corporation by incorporating the Port Reading Railroad Company and then executing a lease of the Central to this minor corporation.[235] The Port Reading promised 7 per cent on the Central stock for 999 years, plus one-half the surplus earnings above the dividend up to 10 per cent, and secured a guarantee of the fulfilment of these promises from the Reading Railroad proper. Finally, Mr. McLeod leased the Lehigh Valley to the Reading direct, on a guarantee of 5 per cent on the stock until May 31, 1892; 6 per cent from that time until November 30, and 7 per cent thereafter for the rest of the 999 years. So far as control over the coal supply was concerned this put the Reading in a very favorable position. The Lehigh Valley tapped the northern Wyoming field, and the Central of New Jersey the Mahanoy and Shamokin deposits, and both had access to New York through New Jersey. The Lehigh, moreover, extended to Buffalo; and with a line of steamers to Duluth, Milwaukee, and Chicago, promised to command a large proportion of east-bound traffic in other things than coal. Figures for the coal industry show that the Reading, Central, and Lehigh shipped in 1891 53.3 per cent of the total production of 40,448,000 tons; in 1890 55.5 per cent; and in 1889 57.75 per cent. In addition, control of the Delaware, Lackawanna & Western was said to have been acquired by the purchase of a majority of its stock, which added 15.1 percent more;[236] making a total of 68.4 percent for the year 1891, or sufficient to give a considerable measure of control over prices. But the terms were severe; quite as severe as in the case of the leases earlier put through; and though the Reading was in better shape than it had been five years before, full interest on its preference bonds was not being paid, and so long as this continued no outside payments could properly be made. The subsidiary companies, on the other hand, were not earning the dividends promised on their stock by nearly one-third of a million dollars; and it seemed unlikely that sufficient economies could be secured to cover permanently the deficit. The question could fairly have been asked whether the Reading had not bought a chance to contribute an annual sum to the Lehigh Valley and Jersey Central stockholders; and whether these roads had not deliberately entered into a contract which was little likely to be carried out. The justification of the arrangement lay in the control of coal prices which it made possible, and in the advantages of close traffic arrangements and connection with both Philadelphia and New York. “The main reason why the combination failed,” said Mr. I. L. Rice before the Industrial Commission, “was that there was not an understanding of the first principles of an operation of that kind, i. e. that it must reduce prices and not increase them. The anthracite coal combination was killed because prices were immediately put up....

“Q. Mr. McLeod has testified before this commission that it was his intention to effect such economies as should be reflected in lower prices. Do we understand that you criticise the policy in that it did not so reduce the prices?

“A. He did not do it, no matter what his intention was.”[237]

The situation was, however, as clearly understood by the public as by the managers themselves. Even before the combination had begun to carry out its policy, outcry was made, and as prices went up the agitation became intense. In New Jersey an act to legalize the combination which passed both houses was vetoed by Governor Abbot on the ground of the effect upon the price of anthracite coal;[238] and in June the Attorney-General applied for an injunction to dissolve the lease of the New Jersey Central to the Philadelphia & Reading, alleging that the tripartite agreement between these companies and the Philadelphia & Reading was illegal. The court granted a temporary injunction,[239] which it continued in August to a final hearing, with conditions to make it more effective.

Prices did not go down, and in October Attorney-General Stockton of New Jersey again appeared before Chancellor McGill. He now charged the Philadelphia & Reading, the Central, and the Port Reading with having conspired to advance the price of coal in defiance of the order of the court, and asked for the appointment of a receiver to enforce the former decree, and to restrain the company from further using the New Jersey railroads for carrying any coal until the advanced price should have been reduced.[240] The officers denied the allegations, but the Chancellor sustained the Attorney-General on every point; and only the official announcement of the abrogation of the lease prevented the granting of the order.[241] The lease of the Lehigh Valley fared better. In a suit brought by M. H. Arnot, a stockholder in the Lehigh Valley, Judge Metzger of the Court of Common Pleas held that the Reading and Lehigh Valley were not parallel and competing lines in the sense contemplated by the law; and that mere incidental competition between branches or spurs of two systems would not prevent the consolidation of their main lines.[242] So much then of the original programme was allowed to stand.

Meanwhile, in the search for new markets, the Reading had stretched into New England, having chosen that territory in the hope of increasing its tonnage without a desperate struggle with its neighbors.[243] The most available subject for control was the Boston & Maine, which reached from Northampton and Boston, Massachusetts, to Portland, Maine, was independent of the large trunk lines, and had a profitable local business of its own. Purchases of this railroad’s stock were quietly made; and in October, 1892, the public was surprised by the election of Mr. McLeod to the presidency, although, as it subsequently transpired, an actual majority of Boston & Maine stock was not secured.[244] It was obvious that nothing could be gained from the new arrangement unless the gap between the Reading and the Boston & Maine should be filled; and so, even before the purchase of stock in the latter was begun, the lease of the Poughkeepsie Bridge across the Hudson was put through,[245] and a controlling interest was bought in the stock of the Central, New England & Western. The last-named road extended from Hartford, Connecticut across the Poughkeepsie Bridge to Campbell Hall, 145½ miles, and connected at this point with the Pennsylvania, Poughkeepsie & Boston, a road controlled in the interest of the Reading. This completed a through route from Philadelphia to Hartford. Later the Central, New England & Western Railroad Company and the Poughkeepsie Bridge Railroad Company were consolidated into the Philadelphia, Reading & New England, with Mr. McLeod as president;[246] and a controlling interest was purchased in the New York & New England Railroad, which ran from Poughkeepsie via Hartford and Providence to Boston,[247] and afforded another entrance into New England. All this involved a very great extension of the Reading system. The lease of the Lehigh Valley had connected it with Buffalo; the subsequent consolidations brought it into every New England state, and gave it a total mileage of, roughly, 5000 miles.

Danger lay in two directions. First, it was possible that even the union of the Lehigh, Jersey Central, and the Reading might fail to secure a profit for the mining end of the business, and second, the financing of the New England deals might be so conducted as to put the parent road into a very difficult situation.

Both these contingencies occurred. The early termination of the Jersey Central lease weakened the control of the Reading over prices, while the severity of the winter of 1893, though assisting to maintain prices, so increased the expense of operating the mines that earnings fell below fixed charges for the three months ending February 28, 1893, by the amounts of $933,443 for the Railroad Company and $468,362 for the Coal & Iron Company. Moreover, losses of $616,351 accrued during the same time under the Lehigh Valley lease, and were met by the Reading, contrary to expectation, and contrary to the express provisions of the mortgage by which its income bonds were secured. In order to accomplish the New England extensions shares were bought on margin by President McLeod personally with collateral in part supplied by himself, in part taken from the treasury of the company, and consisting of general mortgage, collateral trust, and income bonds. “On or about September 22,” said Mr. I. L. Rice, a representative of the bondholders, who had been examining the books, “Mr. McLeod entered into certain individual stock transactions which resulted in the purchase of 24,036 shares of the stock of the Boston & Maine Railroad Company and 32,000 shares of the stock of the New York & New England Railroad Company. On October 15, 1892, he withdrew from the control of the company, without having previously obtained the authority of the board of managers therefor, and without expressing the purpose for which he intended to use the securities, 30,000 general mortgage bonds of the company, which as afterwards appeared were used at that time as margins in the transaction. He subsequently withdrew from the control of the company in the same manner and for the same purpose, between October 28 and December 1, 1892, $713,000 of collateral trust bonds, and $99,000 third preference bonds. No reference whatever is made to these stock transactions on the books of the company except the mention of the withdrawal of securities against the personal receipt of the president, nor are they referred to on the minutes of the board of managers prior to December 24, 1892. On the latter date the board of managers in a resolution approved the transaction, calling for the use of $613,000 of the company’s collateral, and indemnifying Mr. McLeod for advances made for the same purpose to the extent of $400,000. On January 17, 1893, Mr. McLeod deposited $250,000 additional collateral trust bonds as margin, making a total of $963,000. On February 15 Mr. McLeod directed that the account be transferred from his individual name to that of the company’s.”[248]