Can we afford to ignore the lessons of history?
Mr. Henry Clews makes some spicy and pertinent observations on railroad men's methods in an article which recently appeared in the Railway Age. Mr. Clews seems to have but little confidence in the average railroad director. He advises stockholders to exercise constant vigilance and defensive conservatism, "lest they become the instruments by which unscrupulous and crafty directors work out schemes that are in reality nothing but frauds or robbery." And then he adds:
"In estimating corporate acts we must never forget that, while the best of men will bear watching as to their individual dealings with others, they need to be doubly watched when they sit around a corporation board and vote as to transactions in respect of which none of them can be called to personal account. Temptations attack with enormous force when the gains are prospectively great and the risk of penalty inappreciable or non-existent."
Mr. Clews also tells us how roads are wrecked by their boards of directors. "In one case," he says, "the stock of a leading railway, which in 1880 sold at 174, in 1884 sold at 22-1/2, and in 1885 at 22. This vast shrinkage of value was not owing to panic or to stringency of money, nor did it arise from a diminution of traffic on the original line; but it was because consolidation had been pushed to an extreme by the directors of the corporation, so much so that the entire system yielded no dividends; a fleet and useful animal had been loaded down with dead wood and rubbish till he could scarcely crawl; barren acres had been added to an originally fruitful farm until the whole estate could hardly pay taxes; a mass of rotten apples had been thrown into the measure with sound fruit, and buyers refused the whole as a mere heap of corruption. And it was generally believed that the men who perpetrated this mischief under the names of 'construction,' 'requisite consolidation,' 'absorption of necessary branches,' etc., had made a great deal of money by it and had not made it honestly. But it was all done pursuant to legal forms and by boards of directors, so that the defrauded stockholders were without remedy."
Mr. Clews then gives us a more detailed account of the way in which branch roads are built and absorbed, viz.:
"Given a useful, well constructed, dividend-paying road, a body of people with some capital and political influence, aided by some of the directors of this prosperous line; construct a branch road to some outside point; the more important such point the better, but that is of small consequence. The road gets itself built; it is bonded for more than it cost, and it cost twice as much as it ought, since the constructors were all together in the ring and have favored each other. Then the capital stock is fixed at so much, and this is mostly distributed among the constructors. The road then, swelled to a fictitious price of three or four to one, and not worth anything to start with, is ripe for absorption and consolidation. Its directors and those of the main line meet, confer and vote the measure through. They all profit by it, more or less, but their profits are enormously in excess of the trifling losses due to the shrinkage of values of the shares of the main line. A director of the main line may perhaps lose $20,000 on a thousand shares, but what is this when compared to a gain of hundreds of thousands in his holdings of the branch road, whose liabilities are assumed by his victimized corporation? And such a director would not be equal to the demands of his covetousness if he had not sold thousands of shares short, in anticipation of the fall which the transactions of himself and his associates were inevitably bound to produce."
Mr. Clews concludes his article with the following passage:
"The profits realized on the speculative constructions are enormous and have constituted the chief source of the phenomenal fortunes piled up by our railroad millionaires within the last twenty years. It is no exaggeration to characterize these transactions as direct frauds upon the public. They may not be such in a sense recognized by the law, for legislation has strangely neglected to provide against their perpetration; but morally they are nothing less, for they are essentially deceptive and unjust, and involve an oppressive taxation of the public at large for the benefit of a few individuals who have given no equivalent for what they get. The result of this system is that, on the average, the railroads of the country are capitalized at probably fully 50 per cent. in excess of their actual cost. The managers of the roads claim the right to earn dividends upon this fictitious capital, and it is their constant effort to accomplish that object. So far as they succeed they exercise an utterly unjust taxation upon the public by exacting a compensation in excess of a fair return upon the capital actually invested. This unjust exaction amounts to a direct charge and burden on the trade of the country which limits the ability of the American producer and merchant to compete with those of foreign nations and checks the development of our vast natural resources. In a country of 'magnificent distances' like ours the cost of transportation is one of the foremost factors affecting the capacity for progress; and the artificial enhancement of freight and passenger rates due to this false capitalization has been a far more serious bar to our material development than public opinion has yet realized. The hundreds of millions of wealth so suddenly accumulated by our railroad monarchs is the measure of this iniquitous taxation, this perverted distribution of wealth. This creation of a powerful aristocracy of wealth, which originated in a diseased system of finance, must ultimately become a source of very serious social and political disorder. The descendants of the mushroom millionaires of the present generation will consolidate into a broad and almost omnipotent money power, whose sympathies and influence will conflict with our political institutions at every point of contact. They will exercise a vast control over the larger organizations and movements of capital; monopolies will seek protection under their wing, and by the ascendancy which wealth always confers they will steadily broaden their grasp upon the legislation, the banking and commerce of the nation."
These are strong words, but they come from a man whose thirty years' experience in Wall Street enables him to speak intelligently upon this subject and who certainly cannot be accused of being prejudiced against railroad men or corporate investments. In a recent number of his Weekly Financial Review Mr. Clews said of the railroad stock market:
"Judgment passes for little in estimating the future of many securities, for the market is almost wholly under the control of comparatively few persons, whose operations must inevitably influence the value of thousands of millions of stocks and bonds. Never in the history of Wall Street was the value of such an enormous aggregation of securities so absolutely under the control of so small a circle as at this time. Such a state of affairs cannot be considered satisfactory; hence not only is speculation likely to be unhealthily stimulated, but the future of these combinations gives birth to a variety of uncertainties which, while they may elevate prices, will certainly not add to their stability."