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Railroad Problem

( Originally Published Early 1900's )



President Ingalls's views on the evils of railroad management. The present status of railroads and the reforms necessary in their management, together with the legislation requisite to help to bring about these reforms, constitute one of the subjects of most extensive interest in this country at the present day. When railroads are prosperous, the whole country is prosperous, and not less than a seventh part of the population of the country is depending almost directly on them for a living. Therefore if such a calamity could be supposed as would bring the railroads to a standstill not less than ten millions of people out of the seventy would& be almost immediately brought face to face with all the horrors of famine. Certain Western legislators never seem to think of this when they are doing their best to drive the railroads in their various localities out of business or into bankruptcy, nor does it ever seem to occur to these Solons that they themselves would be among the greatest sufferers by the strict execution of the laws which they are annually striving to promulgate. One of the first things that Congress should deal with, and that without delay, as regards the railroad problem, is the enactment of a pooling bill that will allow freedom of contract between and among railroad corporations. If there were a well-defined and liberal national law to this effect, then the State legislatures would be powerless to shackle commerce, for the Constitution of the United States makes full provision against such interference in Article I., section o, clause I, which says: " No state shall make any law impairing the obligation of contracts." This clause in the Constitution would squelch all the vicious attempts of the anarchistic railroad-wrecking legislators throughout the entire West, or wherever the spirit of populism might desire to destroy property and rob the owners thereof of their just rights. The loose and somewhat hostile laws of Congress, and their still more hostile interpretation by the Supreme Court, in one instance at least, have hitherto stood in the way of the application of this clause in the Constitution against mischievous State legislation in the matter of railroad corporations. Hence the necessity of a national law to make effective this constitutional provision which the Fathers in their wisdom inserted in the supreme law of the land, in the interest of personal freedom, and to conserve the rights of private property. The question of railroad consolidation is one that is largely occupying the minds of railroad managers, and those who have large interests in railroad securities. One railroad magnate of great experience in building railroads and saddling most of the expenses on the government, thinks that it would be a good thing if consolidation were carried so far as to concentrate the whole railroad property of the country in the hands of not more than three corporations. What a tremendous number of rotten organizations this one would contain, probably enough to wreck them all! In such an arrangement many wealthy and well-to-do stockholders would in all probability be reduced to poverty, and ultimately the three big concerns might have to go into the hands of receivers, thus throwing the great aggregate system into bankruptcy. Consolidation cannot fail to be beneficial where connecting roads extend on parallel lines, and all are naturally working toward the same end; namely, the transportation of freight and passengers from one prominent and opulent town to another. Particularly is this the case where some rich valley or system of valleys indicates the course of travel and commerce between these points; and for an illustration we may take the New York Central, which is the most brilliant instance of successful railway consolidation known in the United States. At the time when this arrangement was effected, the plan of introducing branch roads from comparatively thinly settled and barren districts had not been exploited to any noticeable extent, nor has this particular road favored such a plan. Its acquisition of the ill-starred West Shore Road was a necessity; it was consummated with reluctance, and only because the directors believed that the destinies of our imperial State would eventually grow in opulence sufficiently to make the transaction productive. It was legitimate because it "had to be," and there is no danger of such another enterprise. The topographical formation of the State is such that no competing trunk road can be laid between Albany and Buffalo, and no capital or charter could be procured to construct a fourth line between New York City and Albany. Both sides of the Hudson River are now occupied, and the Harlem road is sufficient for the rich and level counties that extend between the eastern bank of the Hudson and New England. The system, therefore, is, humanly speaking, complete; and, although on its central and westward divisions it may yet absorb laterals, its comparative permanency and necessary conservatism tend to give it the confidence of investors, and to make it as it has been termed, "the 'consol' of the market." It strengthens our position that while this great process of consolidation took place, attended by a continual increase of market value of shares, two other roads - one partly, the other wholly in the same State - which attempted absorptions equal in magnitude, but wanting in the elements of prudence and rationality, experienced such depressions of share values as seriously to disturb the money market and ruin thousands of small holders. The stock of one of these great roads sank to 307 in 1877; that of the other to 25. Both have since recovered to above par, but the operation has been slow and painful, and during a period of years their stocks were footballs and speculative traps, the tools of gamblers, instead of the useful servants of the community, and the secure refuges of finance. When we go westward and look at the outcome of consolidation, we find different conditions and less prosperous results. The real logic of the case has been neglected or contemptuously thrust aside, and steps have been taken which no arguments could justify. The directors of the main lines in these cases have proceeded not in the direction of the interests of their stockholders, but in that of bargains and deals with the officers of unprofitable connecting and lateral roads on the principle of spoliation and a division of the spoils. These transactions have been numerous and of enormous magnitude, but they have been all pretty much alike, so that when we describe one we describe all. 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; these 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 favored one another. 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 much 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 that when compared to a gain of hundreds of thousands in his holdings of the branch road whose liabilities are assumed by his victimized corporation? 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. This is not a fanciful picture. On any railroad map the expert in railway affairs can trace out such main lines, each with its connecting branches or suckers, many of them worthless and many others worse than worthless, which lose themselves at the further end in hypothetical towns and barren wildernesses, and are all grouped together under the specious names of former profitable and well-managed railroads. A road may have been originally the A. & B. and have paid full dividends, so full that it may have been advisable to double the volume of stock in order to keep the price of shares at something like par, but not too much above it. Even when thus watered it has been excellent property, safe for investors, desirable collateral for bank loans, creditable to its managers, and useful to the public. Today it masquerades under the name of A. & B., or perhaps A. B. & C., but it is not either, because it is so much more. It has swallowed so many indigestible morsels of useless and unprofitable branches that all the letters of the alphabet would be required to particularize them; it has guaranteed all their bonds, and has exchanged its own scrip for theirs, so that its own share of capital is in excess of value to that extent that it represents only the phantom equity that trails along at the heels of a fourth or fifth mortgage. The shares that were once a firm property at par are tossed about the market at all prices from 70 to 20; dividends are scaled down from 7 per cent. to 4, then 2, then passed temporarily, then passed indefinitely; a floating debt of unknown amount is created; its paper - known as "railroad paper"- is to be found by the ream in the portfolios of note brokers; and when it fails to get itself sold at 6 or 8 per cent. it lets itself out at 10 or 12. Capitalists and banks are invited to make bids on private terms. Every banker knows that railroad paper is frequently negotiated at i8 per cent., and although the proceeds ostensibly go to bona-fide holders for value, no one doubts that the treasury of the road that makes such ruinous discount of future earnings is the real borrower. Then come income bonds, "subordinated and unsubordinated," debenture bonds, all the delusive schemes on which bankrupt concerns float along, until receivers are appointed and honest management is enforced. The court imposes an assessment, and it is announced as a great success that the A. B. & C. is now earning fixed charges! Such is consolidation run mad, and such is its tendency when not restrained by natural causes or by honesty on the part of managers. Can we expect any other results? And speaking of honesty on the part of managers brings me to another important part of the subject under consideration. That is the necessity of a protective system of committees, chosen by the stockholders of every railroad, to investigate the management, have its accounts audited periodically by trustworthy experts upon a plan that would exclude the possibility of collusion, and have the reports of these committees reported to a central association, also chosen by said stockholders, at reasonable intervals. This would in time reform and thoroughly eradicate most of the evils now complained of, and make the railroads still more potent instruments for developing material prosperity through our unlimited resources. In a discourse by M. E. Ingalls, President of the " Big Four," C.C.C. & St. Louis Railway, delivered at Purdue University, Indiana, many of the evils of railroad management, and the needed reforms, are set forth in a very succinct manner, and exhibit the thorough grasp that Mr. Ingalls has taken of the subject. After adverting to the immense increase and power of these properties, and showing what they have done for the nation in affording greater facilities for travel, decreasing freight rates on the average to four fifths of a cent per ton per mile, and on the great products such as wheat, corn, cotton, iron, and coal to half this rate, he goes on to show that after the panic of I857, stocks of many of the railroads that had formerly been paying dividends went down to 10, and in some instances 5 cents on the dollar. He then describes the advent and methods of the promoter who obtained charters, issued stocks and bonds on prospective roads, and how the holders of these presumable securities felt when the day of reckoning came and they were unable to meet the interest. It was in this state of affairs that Western hostility was engendered toward promoters and contractors and railroad managers in general, and thus the Granger movement of the seventies had its origin. After it had spent its force, Congress passed the Interstate Commerce Law in 1886, making the difficulties even greater than did the State laws. By this law, pooling or the division of business in certain equitable proportions was prohibited; while it is the judgment of railroad managers that in no other way than by such divisions can permanent and fair rates be obtained. One effect of the law is that the big shippers can evade it and undersell the small shippers, driving them out of business; and the same rule holds with communities, -the building up of Chicago, for instance, and the breaking down of places like Lafayette. Mr. Ingalls advises that it is necessary to build five thousand miles a year in short and inexpensive lines, as feeders to the main systems. He concludes that in a few years we will require two hundred and fifty thousand miles of main lines to accommodate one hundred million population, which will be an increase of 40 per cent. over the present mileage. But we require new legislation of a fairly liberal character to achieve this end. One point in Mr. Ingalls's recommendations is worthy of special note; that is, the issue of debenture bonds on the English plan instead of mortgages. This would put a stop to the immense reorganizations which during the past few years have involved one fifth of the whole railroad property of the country, and would prevent the stockholders from being wiped out in times of trouble. There is no foreclosure in England. When the company defaults on the interest of the debentures, a receiver is appointed to take care of the profits, but the stockholders retain their interest in the property. It is easy to see, therefore, that if we should adopt the English system, the occupation of our numerous railroad wreckers would be gone; and if they should turn their attention to the calling of the highwayman, it would involve a considerable enlargement of our prison accommodation. In their new occupation they could hardly count on the immunity that is now extended to them by the custom which has been in vogue for forty years, gaining strength and power all the time. I am glad to find that the plan of extension which I have been advocating in the newspapers and periodicals for years in preference to that of consolidation, is commended by Mr. Ingalls. The operation of consolidating down to two or three corporations, or probably one, as Mr. Huntington recommends (in the belief perhaps that the Pacific roads should be the nucleus of the one), would in all probability result in government ownership. This would suppress competition, deteriorate values, rob many thousands of stockholders of a portion of their property, and destroy the chief stimulus for railroad extension and railroad enterprise, thus throwing a wet blanket on every kind of business connected with railroad traffic, and what business is not so connected? In fact, it would probably create one of the worst panics we have ever experienced; and finally it would greatly embarrass the government itself, which would not be able to make railroad revenues and expenses balance. Then would come the oppression of extra taxation, either in the shape of an addition to the internal revenue already swelled to unreasonable proportions, or perhaps an income tax. There would be no end to the trouble caused by the government ownership of railroads. But there is no chance for such a consummation in this generation.



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