(1) By assessment on securityholders. (2) By the sale of securities.
Sales of securities may comprise the sale of securities of the bankrupt, or of other corporations held in that company’s treasury, or they may be sales of part of new bond or stock issues reserved for that purpose. In 1898 the Baltimore & Ohio sold among other things $3,800,000 of Western Union Telegraph stock held in its treasury since 1887; while in 1889 the Atchison issued and sold $12,500,000 general mortgage 4s and $1,250,000 income 5s. When outside securities are sold the value of which is in no way dependent upon the prosperity of the road which sells them; and which are such, moreover, as the selling road can readily spare, this method of raising capital is open to few objections. Its chief disadvantage is that the sale is apt to be made at a time when the level of general prosperity is not high, and the price obtained is therefore apt to be low. But the question is quite different when the securities are those of the embarrassed or bankrupt road itself. In this case the credit of the company and the price of its securities are sure to be at a low ebb. The initial sacrifice entailed is necessarily great; while if the securities sold are bonds, as they are almost sure to be, the company increases its annual interest charge without receiving an equivalent value in return. If, on the other hand, the railroad endeavors to prevent a rise in charges by the use of income bonds or stock, the gain is usually neutralized by the extremely low price obtained.[695] In general we may say that sale of a railroad’s securities in time of general depression is impossible except at a ruinous sacrifice; that sales should not be resorted to at all except when the road’s difficulties are acute rather than chronic, as in the case of the Reading in 1896; and that when securities are to be sold the best of the available bond issues should be used and not the worst.
The case of an assessment is very different. Securities may be sold to outsiders or to present securityholders. In the one event no pressure at all can be brought to bear; in the other only that of the indirect loss which the difficulties of the reorganizing company would involve.[696] An assessment, on the other hand, is levied solely on securityholders and is compulsory. Stockholders or bondholders who refuse to pay are ordinarily debarred from all participation in the reorganization, and lose all chance to recoup their losses from their share in subsequent prosperity. In return for the assessment some security is usually given, so that from one point of view an assessment and a sale resemble each other. But the element of compulsion appears in this: namely, that in the case of a sale the new securities are taken at the buyers’ valuation; but in the case of an assessment the company determines what it shall give for the cash paid in. Hence the usual compensation for an assessment is an equal nominal amount of preferred stock;—while that for the purchase money in a sale is a greater nominal amount in bonds. Either an assessment or a sale of securities may be fortified by a syndicate guarantee. In the one case the syndicate agrees to substitute itself for all non-assenting or defaulting stock- or junior bondholders; in the other it engages to take and dispose of the new securities offered, or such part of them as the company is unable to sell. The advantages of syndicate assistance we have already discussed.
It will be recalled that both assessments and sales of securities have been freely employed in the reorganizations which have been considered, and that syndicate guarantees have been of ordinary occurrence. Out of eighteen reorganizations, fourteen were forced to pay attention to the raising of cash; the four which did not consisting of the consolidation of the Union Pacific with the Kansas Pacific and of the Chicago, Rock Island & Pacific with its branch lines in 1880, the income conversion reorganization of the Atchison in 1892, and the Rock Island reorganization of 1902,—each a reorganization of a more or less peculiar nature. Of the fourteen remaining, four provided cash by assessment, three by the issue of securities, and five by a combination of both methods. Adding to this the Northern Pacific reorganization of 1896 and that of the Erie in 1859, which combined an assessment with funding provisions, we have eleven reorganizations which relied on assessments in whole or in part. This preponderance is, however, due to the extensive use of assessments from 1893 to 1898; since the earlier reorganizations show assessments in only about one-half of the cases. This does not mean that the value of an assessment was not understood before 1893. For the reorganization of the Northern Pacific in 1895 was otherwise so radical that an assessment was less necessary; and that of the Atchison in 1889 took place at a time when business conditions were not in general depressed. The effect of widespread depression on the means employed for raising cash is, however, perfectly clear.[697]
Of the reorganizations of 1893 to 1898, to repeat, there was none which we have considered which did not make use of assessments. The following table shows the amount and distribution thereof:
Assessments, 1893–8
| Common Stock | 1st Preferred | 2d Preferred | Junior Securities | ||
|---|---|---|---|---|---|
| Atchison | $10 | $20 | 4 per cent on 2d mortgage and income | ||
| B. & O. | 20 | $2 | |||
| Erie | 12 | 8 | |||
| N. Pac. | 15 | 10 | |||
| Richm. Term. | 10 | ||||
| E. Tenn. | 7.20 | 3 | 6 | ||
| Reading | 20 | 20 per cent on 1, 2, and 3 incomes | |||
| 4 per cent on deferred incomes | |||||
| U. Pac. | 15 |
It thus appears that the assessments varied from $7.20 on the East Tennessee to $20 on Reading common, with less sums on the preferred stock and the junior securities.[698] The real sacrifice demanded of the stockholders is ascertained by deducting from the above the value of securities given for assessments whenever such were allowed. Taking for the purpose the market quotations of these securities six months after actual reorganization, that is, after the sale of the road, or the putting into effect of the plan proposed, it appears that the common stock of the Atchison received $1.90; that of the Baltimore & Ohio $15.20; that of the Richmond Terminal $5.02; that of the East Tennessee $3.55; and that of the Union Pacific $8.10. The Erie, the Northern Pacific, and the Reading gave nothing for assessments in the nineties.[699] Preferred stock, whenever assessed, received the same relative amount and kind of securities for assessment as did the common stock, and the same is true of the junior securities. Since, however, these new securities had but a prospective value at the time of the issue of the various reorganization plans, it is advisable to make no attempt to determine precisely the net assessment, and to call attention to their allowance merely as a fact on which the stockholders could rely as they could count on a future rise in the value of their shares. With this qualification the relative height of assessments and stock quotations one month after the publication of each reorganization plan, and six months after the completion of each reorganization may be given.
| Six Reorganizations, 1893–8 | |||||||
|---|---|---|---|---|---|---|---|
| Common Stock | Preferred Stock | ||||||
| Assessments | Price 1 month after plan | Price 6 months after reorganization | Assessments | Price 1 month after plan | Price 6 months after reorganization | ||
| Atchison | $10 | $ 5¾ | $13⅛ | ||||
| B. & O. | 20 | 12⅜ | 56¾ | $20 | $114 | ||
| Erie | 12 | 8½ | 14⅛ | 8 | $22 | 36⅛ | |
| N. Pac. | 15 | 1½ | 13¼ | 10 | 10 | 26¼ | |
| Reading | 20 | 2½ | 22¼ | ||||
| Richm. Term. | 10 | 2⅞ | 11⅜ | ||||
| E. Tenn. | 7.20 | ½ | 6⅕ | 3 | 10 | 13¼ | |
| U. Pac. | 15 | 10⅛ | 20 | ||||
| Four Reorganizations before 1893 | |||||||
| E. Tenn., ’86 | 6 | 2½ | 5⅘ | ||||
| Erie, ’59 | 2½ | 2½ | |||||
| Erie, ’77 | 4 | 18½ | 2 | 29 | |||
| Reading, ’86 | 10 | 38⅜ | 58 | 10 | 53¼[700] | ||
In every case during the nineties the amount of assessment exceeded the sum for which common shareholders could have sold their stock one month after the publication of the reorganization plan. The difference ranged from $3.50 for the Erie to $17⅔ for the Reading; in other words the assessments wiped out the whole value remaining to common stockholders, and exacted an additional contribution as the price of participation in any future prosperity. In the case of the preferred stock, where values were greater and assessments less heavy, the results were not the same; but even here the proportional demand was large, and amounted to 100 per cent of current quotations in the case of the Northern Pacific. Before 1893 assessments were fewer in number and not so great in amount. It is to the subsequent rise in stock quotations to which we must turn for an explanation of the willingness of stockholders to contribute such heavy sums. The assessments, we find, did not come out of the stockholders’ pockets in the end; for their payment, in connection with other features of reorganization, so enhanced the value of shares that only six months after reorganization the price of stocks in all cases was nearly equal to the assessment plus the previous market quotation. In some instances, such as the Baltimore & Ohio, the sum amounted to much more than this total.[701] Refusal to pay would have wiped out the stockholder’s interest and have kept him from benefiting from the rise. It is needless to add that quotations to-day are many times the amount of the assessments. The increase in value has occurred alike for common and preferred stock, even in times of severe depression. On the whole, it has abundantly justified the payments which stockholders were asked to make.