Leaving aside the matter of the propriety of Mr. McLeod’s action, it is plain that the method which he employed was an extremely expensive one, in that it raised the necessary cash by temporary loans at high rates from brokers in New York and Philadelphia instead of by the sale of stocks or bonds, or by the use of funds which the company might have had on hand. According to President Harris, the average charges paid on the floating debt in 1892, a large portion of which had been accumulated in these operations, was 9 per cent. If the control over the corporations acquired had been desired for temporary reasons the operation would have been a stock speculation pure and simple, and the Reading would have trusted to the possible rise in price of the securities purchased to cancel the expense of advances to the brokers who did the buying; but in this case the control was designed to be permanent, not temporary, and Mr. McLeod expected results which could be obtained only after a series of years.
This brings us to the beginning of 1893. Mr. McLeod had succeeded in carrying out his plans for a combination of coal producing roads and for the extension of the Reading into New England, but had seen his first project bitterly attacked, and his second scheme become a burden because of the insufficient funds behind it. Matters came to a head in February with an attempt to borrow on $10,000,000 collateral trust bonds. Speyer & Co. accepted the issue, but the Drexels refused to handle it, and began to sell the company’s securities at any price.[249] Quotations dropped from 46¾ to 40⅝ on February 17, and continued to fall the two succeeding days, reaching 28 on February 20. On this last day application was made to the United States Circuit Court in Philadelphia, and Messrs. McLeod, Wilbur, and Paxon were appointed receivers. “I am very sorry,” said President McLeod, “that we were driven to the necessity for a receivership, but it was the only thing to do. Our credit was attacked in a way which made it impossible for us to meet our obligations, and we had the receivership established before the property was further injured.... The trouble was brought about by the fact that we were doing an enormous business on a small capital, and when this attack was made ... it hurt our credit so that we could not borrow money.”[250] Lack of capital was the repeated cry of the management. At a later date Mr. McLeod again said, “When I leased the Lehigh Valley and the Jersey Central and took over their coal operations ... I found that I had $13,000,000 invested in coal and in carrying the customers of the companies. The Reading did not have that much capital, and I had to borrow $8,000,000 of that $13,000,000. Then the panic of 1893 came on. I had arranged to fund that $8,000,000 of floating debt by selling securities, etc., giving me a working capital of $17,500,000, but the parties who were to furnish the money had six months in which to do it, and on account of that panic coming on before I could get the money, there was nothing in the world for me to do except to put the Reading in the hands of the receivers to save its securities.”[251] The statements concerning the lack of capital were a true explanation though not an excuse. Money had been tied up in unsalable coal, acquired not only by the leases of the Lehigh and Central, but also by purchases from independent operators[252] and by production during the current year;[253] while whatever spare funds the Reading had been able to provide had been put into New England securities at high prices to carry out the road’s ambitious plans. In the mean time the large purchases on margin made a fall in the price of Reading securities of especial moment; and, as Mr. McLeod explained, it proved impossible to liquidate the floating debt. The failure of 1893, then, was caused less by a continued inability to meet fixed charges than by an undue expansion of operations such as has ruined many a solvent firm. Reading’s venture in the coal fields had not proved a success, but the loss had not been sufficient to ruin it within a year; its New England extensions had not brought all the results desired, but they had not had a fair trial; the true cause for the failure was the attempt to accomplish by means of stock speculation and temporary loans at high rates more than the road could do out of its legitimate resources, with the intent on the one hand to raise the price of coal and on the other to secure fresh markets for the sale thereof.
After the failure the first impulse of the bondholders was to denounce Mr. McLeod. A meeting of European creditors in London chose a committee to represent them and solicited McLeod’s removal from the receivership on the “serious ground” that the administration of their property should not any longer be jeopardized by remaining under the control of an official who had already brought it into its existing difficulties. A New York general mortgage bondholders’ committee decided to act in a similar direction, and Mr. Drexel represented to the president that he should resign for the sake of the future of the company.[254] Mr. McLeod unwillingly gave way. For successor the board of managers chose Mr. Joseph S. Harris, a man of long experience in railroad affairs. Mr. Harris had been for many years connected with the Lehigh Valley system, and was the same man who, it will be remembered, had evaluated the Reading coal properties in 1880. Following his election as president he was appointed receiver in the place of Mr. McLeod.
The receivers’ statement came out in March and announced a floating debt of $18,472,828, against which were held reported assets to the amount of $15,779,784; but of these last $4,985,276 were in the shape of coal, and $8,861,065 consisted of the items “due for freight,” “tolls due from connecting roads,” “bills receivable,” “cash,” etc., a large part of which was probably of little worth. Both the current liabilities and the current assets are instructive, and show that on the one hand Mr. McLeod’s stock operations had involved the company in heavy obligations to his brokers, and that on the other losses in the coal business had necessitated current advances to branch lines from which it was impossible to get return. It appears, for instance, that the Coal & Iron Company had been unable to pay the sums charged it for freight, and while the full amounts had been nevertheless included in reported earnings, the actual result had been a swelling of bills receivable by debts which the Railroad Company was quite unable to collect.[255]
The general lines of the policy to be pursued were now sufficiently clear; the more pressing claims were to be met by the issue of receivers’ certificates, expenses were to be cut down, payments under leases were to be amicably reduced where possible, holdings of Boston & Maine stock were to be sold, and on the side of the bondholders the various interests were to agree on some scheme for raising cash and for improving the general condition of the property. There was need for some reduction of fixed charges, but not for such radical cuts as in 1880 or in 1884.
The receivers and managers carried out their part of the work first. Application was made in March, and again in June, for permission to issue certificates in settlement of the most urgent claims. In May Mr. McLeod resigned the presidency of the Boston & Maine after a large part of the Reading’s holdings had been sold, and the same month President Harris inaugurated a policy of retrenchment by the retirement of four out of the five vice-presidents which the Reading had been accustomed to maintain. In July the receivers obtained permission to dissolve the agreement with the Pennsylvania, Poughkeepsie & Boston Railroad, and in August the appointment of a separate receiver for the Philadelphia, Reading & New England marked, except for the minor matter of the Poughkeepsie Bridge, the final abandonment of New England extension. Meanwhile an arrangement had been made with the Lehigh Valley, whereby the payments under the lease were reduced for two years from 7 per cent to 5 per cent, on condition that the Reading should make extra payments at the end of that time if the Lehigh proved to have earned more than 10 per cent in the interval; and permission had been obtained from the Circuit Court to surrender the possession and operation of the Eastern & Amboy Railroad and the Lehigh Valley Terminal Railroad, both lines belonging to the Lehigh Valley in the state of New Jersey. The Lehigh lease, even as modified, aroused much opposition from bondholders, who rightly maintained that payments under it constituted a diversion of funds which should have gone to the creditors of the Reading proper. Suit was begun before the Circuit Court, and on August 8, 1893, a formal abrogation was obtained. This incidentally caused the resignation of Mr. Wilbur, president of the Lehigh Valley, from his position as receiver of the Reading, and the appointment of Mr. J. Lowber Welsh in his place.
The more complicated task of the bondholders was at first undertaken by two committees: one for the general mortgage bondholders, of which Mr. J. Edward Simmons was chairman; and one for the income bondholders, led by Mr. George Coppell. Three demands were at once made: first, that Mr. McLeod retire from the receivership; second, that the lease of the Lehigh Valley be abrogated; and third, that the books of the company be examined by a railroad accountant. The first and second points were complied with, though not altogether because of the insistence of the committees, and in the end the third was also granted, and Mr. Stephen Little was set to work.[256]
On May 27, 1893, the managers of the company brought forward a reorganization plan, which estimated the floating debt at $19,991,941, and proposed to cover it by the issue of $22,000,000 collateral trust bonds at 95. These bonds were to be redeemable any time before maturity at 110, and the trustee was authorized “to apply the surplus income or the proceeds of sales ... of any of the securities pledged until 1898, and thereafter so much as might be determined from time to time by the Railroad Company, to the purchase of the said bonds at the best price obtainable, or, if necessary, to draw the same for redemption.” General mortgage and first, second, and third preference bonds were to be entitled to subscribe to the amount of 10 per cent of their holdings; deferred income bonds to 4 per cent; and stockholders to 24 per cent; while besides the $22,000,000 mentioned, $2,000,000 additional bonds were to be issued each year for working capital and for the acquisition of real and personal property. General mortgage bondholders were to fund their coupons to and including January 1, 1898, and to receive an equivalent amount of coupon trust certificates. The rental under the Lehigh Valley lease was to be reduced, and the Reading stock was to be transferred for seven years to a voting trust composed of Joseph S. Harris, E. P. Wilbur, Thomas McKean, and two others to be afterwards named.[257] Assents of 90 per cent of the general mortgage bondholders and of 60 per cent of the stockholders were required by the 21st of June to make the plan effective, and a syndicate was pledged to carry out the provisions if such assents should be obtained.[258]
An issue of collateral bonds, a reduction in the Lehigh rental, a funding of coupons, and a voting trust: these were the propositions which President Harris and his associates presented for the consideration of the bondholders. There was to be no disturbance of existing securities, no assessment, not even a reduction of fixed charges except as these were lightened by the lowering of rentals and by the payment of the floating debt. It is to be presumed that the attempt to extend the Reading into New England was not to be continued, for no provision was made for the purchase of the shares of the New England roads hitherto held on margin, and in fact large sales of Boston & Maine stock had already taken place; but no formal mention of the deal was made. The lease of the Lehigh Valley was to be continued in the hope of better times, while the reduction of rental which the plan required had already taken place. Under ordinary circumstances any plan such as the one outlined would have been quite futile. Where the failure of a road is due to deep-seated causes the remedy must be fundamental; and when a piling up of indebtedness is due to inability to pay fixed charges the situation must be met by a reduction of those charges even though a foreclosure sale be a necessary preliminary. In the present case matters were somewhat different: bankruptcy had come, not from a long-continued drain, but from a rapid diffusion of resources in an attempt to accomplish more than the finances of the road would permit; and a change of policy was the thing most urgently required. But this again was not a question with which a reorganization plan had to deal, except in so far as such a plan might smooth the difficulties which lay in the way; and any scheme which should restore to the company the collateral imperilled in its rash campaign, fund the floating debt at a reasonable rate of interest, and give the management a chance to start again, was worthy of serious consideration. It may be observed, however, that granting all of the above, the plan before us did not go far enough. The extensions due to President McLeod had been in the heart of the coal regions, as well as in New England, and one of the most important of these, the Lehigh Valley, the managers proposed to retain. This policy, it may be said, was of very doubtful wisdom. The attempt to monopolize the production of anthracite coal had already been fruitful of disaster, and the possession of the Lehigh would have constituted a continual temptation to future purchases; while it was far from certain that even under the reduced rental the road could have been made to pay. What the Reading needed was a period of quiet attention to its own business, undisturbed by meddling in the business of other people; an attention which would be sure to result in increased economies, and was the true remedy for the lack of prosperity in the coal industry which had driven Mr. McLeod on his wild career. It is to this latter judgment that we must in the end conform. The plan of President Harris was not so inadequate as might at first appear; it accomplished much that needed to be accomplished, and it gave an opportunity to the management of the road to retrace many of the steps of the previous two years; but on the other hand, it did not embrace the chance to free the Reading from all its mistaken enterprises, and passed by an occasion which could only again occur after much suffering and loss.
Discussion turned, however, on other features. In a circular to securityholders in June, President Harris said: “My deliberate opinion is that the assistance asked for by the proposed plan ... is none too great, and that there is a good probability that if it is afforded and the plan is carried out prudent and careful management may prevent the recurrence of such a crisis. My judgment is that the securityholders will make a very serious mistake if they do not accept the relief offered them, for I see no probability that the necessary assistance can hereafter be obtained except upon much more onerous terms. I strongly advise that the plan shall be promptly accepted.”[259] “We cannot but regard these terms as very easy,” said the Financial Chronicle. “To be sure a new collateral trust mortgage for $30,000,000, bearing 6 per cent, is to be created, but the greater part of this goes to take up floating debt and other existing obligations, and will involve no increase in fixed charges....”[260] On the other hand, it was objected that the plan was formed entirely in the interest of the floating debt holders, income bondholders, and stockholders; and that the management under the arrangement would have the power to pay dividends upon the income bonds, while at the same time the coupons on the 4 per cent mortgage bonds were being funded.[261] In an editorial urging foreclosure proceedings the London Standard said: “That [foreclosure] will prevent holders of pledged collaterals from getting a market for their securities, and, at the same time, bring a good many doubtful matters connected with the finances of the company into the light of day. It should also tend to make the ‘floating debt’ swindle less popular with eminent American financiers. At present they pile these debts up in the full assurance that they can easily arrange matters so as to put them, when funded, before existing mortgages. It is for the Reading general mortgage bondholders to act promptly for their own interests.”[262] Finally, it was objected that the plan was in the interest of the McLeod management, and that the voting trust was to be a McLeod organization, which would either whitewash the ex-president’s operations, or by keeping them in the background would virtually outlaw them.