Collection of Articles

by Benjamin Graham
The Magazine of Wall Street
1917- 1922
1917-09-01 Curiosities of the Bond List v.20 no.11 3
1917-09-15 Valuation of Great Northern Ore Certificates v.20 no.12 6
1918-04-27 Inspiration’s Difficulties and Achievements v.22 no.2 10
1918-05-11 Nevada Consolidated a Mining Phoenix v.22 no.3 14
1918-05-25 Rock Island versus Missouri Pacific v.22 no.4 17
1918-06-22 Will War Taxation Affect Dividends v.22 no.6 21
1918-07-20 War Taxation and Cash Position of Industrials v.22 no.8 26
1918-08-31 Secrets of Invested Capital v.22 no.11 31
1918-09-14 The Great Steel Tax Mystery v.22 no.12 35
1918-09-28 American Agricultural and Virginia-Carolina v.22 no.13 40
1918-10-12 Sad Case of M. K. & T's Bond Issues v.22 no.14 45
1918-10-26 Attractive Peace Bonds v.23 no.1 50
1918-11-23 High Yield and Safe Investments v.23 no.3 56
1918-12-07 Hidden Assets of Consolidated Gas v.23 no.4 61
1919-01-18 Bargain Hunting Through the Bond List v.23 no.7 66
1919-02-15 An Advisable Exchange. B&O for C&O v.23 no.9 70
1919-03-29 Industrial Balance Sheets v.23 no.12 75
1919-04-12 Attractive Industrial Preferred Stocks v.23 no.13 79
1919-05-24 A Profitable Switch v.24 no.3 83
1919-06-07 Northern Pacific Outstrips Great Northern v.24 no.4 87
1919-07-05 Three Switches in New York Tractions v.24 no.6 91
1919-07-19 The Coal Situation and Coal Stocks v.24 no.7 94
1919-08-16 Strategic Switches in Railroad Issues v.24 no.9 98
1919-09-13 A Neglected Chain store Issue v.24 no.11 102
1919-09-13 Switching in Interborough Securities v.24 no.11 106
1919-09-13 The Art of Hedging v.25 no.7 108
1920-01-10 The Two American Ships v.25 no.5 110
1920-04-03 Which is the best Sugar Stock v.25 no.11 113
1920-12-11 The Collapse of American International v.27 no.3 116
1921-03-19 The Goodyear Reorganisation v.27 no.10 119
1921-08-20 Is United Drug Cheap at 53 v.28 no.5 122
1921-12-10 Missouri, Kansas and Texas Emerges v.29 no.3 125
1922-01-07 The Problems of Pennsylvania v.29 no.5 129
1922-01-21 Speculative Opportunities in Railroad Stocks v.29 no.6 132
1922-10-28 Arithmetic and Stock Values v.30 no.13 135
1922-11-11 Hide & Leather vs Central Leather v.31 no.1 139
 BONDS *» INVESTMENTS
Curiosities of the Bond List
Issues That Sell on Illogical Bases— Misconceptions of
vestors — Some Foreign Issue Anomalies
By BENJAMIN GRAHAM
test of the market, like that
TJHEof | Barrie's policeman, is popu
larly supposed to be "infalli-
able." Economists picture a
thousand buyers and sellers congregating
in the market place to match their keen
wits and finally evolve the correct price
for each commodity. In the securities
market particularly, the word of the
ticker is accepted as law, so that one
often thinks of prices as determining
values, instead of vice-versa.
But accurate as markets generally are,
they cannot claim infallibility. While
vagaries are to be found in both the
stock and bond lists, the latter offers the
better field for study since direct com
parisons are easier, especially where two
issues of the same company are selling
out of line. The recent universal read
justment of bond prices has produced
more than the usual number of such dis
crepancies, so that there are many op
portunities for investors to exchange
their holdings for issues "just as good,"
and returning a higher yield. Several
of these anomalies will be discussed in
the following paragraphs.
Let us first consider the case of Loril-
lard 7s, due 1944, and 5s, due 1951. The
7s are senior to the 5s in their claim
on the company's assets, yet they are
offered at 118, to yield 5.62 per cent.,
while par is bid for the 5s — a 5 per cent,
basis.
An Investment Misconception
Here then is an issue yielding five-
eighths per cent more than a directly
junior security. Moreover the 7s are a
smaller issue, of nearer maturity. Of
course the explanation of this discrep
ancy lies in the general prejudice against
bonds selling at a high premium. The
investor apparently imagines that by pay
(743)
In
ing $1,180 for a $1,000 bond, he must
eventually lose $180. The fallacy of this
argument is well illustrated by this very
example. For it would require only $59
a year to yield a straight 5 per cent on
the $1,180 investment— the rate of the
junior issue. But since the 7s pay $70
per bond, there is a surplus of $11 per
year, which if simply accumulated with
out interest would at the date of maturity
amount to about $300— fully $120 per
bond more than the premium paid. If in
terest is compounded on these surpluses,
the gain over the 5 per cent bond would
be considerably more.
A Reversed Case
The reverse side of the prejudice •
against premium bonds is found in the
instance of Baltimore & Ohio convert
ible 4J/2S, due 1933, compared with the
Refunding and General 5s of 1995. Both
issues are secured by the same mortgage,
but the 4l/2s sell at 87 y2, yielding 5.70
per cent, while at 96^4 the 5s return
only 5.16 per cent. This is all the more
peculiar because the 4j^s have a con
version privilege which may conceivably
become valuable ; their maturity is much
nearer, making for greater stability in
market price ; and their amount is limited
to the bonds now outstanding, while the
Refunding 5s may be increased almost in
definitely — in fact, the 4J^s are to be
retired by an issue of Refunding 5s.
The cause of this discrepancy is prob
In the first place, invest
ably twofold.
ors seem to prefer a 5 per cent coupon
to any other. This is absolutely illogical,
since a 4 per cent coupon on a bond
bought at 80 is certainly no less attrac
tive than 5 per cent on an issue costing
par. Secondly, the public is wont to dis
regard that portion of the yield repre
sented by the redemption at par of a bond
 744 THE MAGAZINE
purchased at a discount. The usual argu
ment is that they don't expect to hold
the bond to maturity, and therefore can
not count on receiving par for it.
This reasoning is fallacious, because
it is not necessary to hold an issue until
the due date in order to recover at least
part of the discount. Each year as the
maturity approaches, the market value
of the bond should grow closer to par —
unless its yield is increased as the result
of general or special conditions. In the
case of long term bonds the annual ad
vance is imperceptible, but in short or
medium maturities it is very evident. So
with these Baltimore & Ohio 4j^s, their
appreciation of 12 points to par will
be spread over the comparatively short
space of 13 years, adding a substantial
amount to their yield.
The peculiar aspect of this question is
the fact that the same investor who com
pletely ignores the additional yield con
tained in a discount price is extremely
adverse to buying a bond quoted at a
premium. He is obsessed by the idea that
the $180 premium on Lorillard 7s will
have disappeared by 1941, but he pays
•
little attention to the fact that by 1933
he will recover the $120 discount on Bal
timore & Ohio 4J/2S.
As it happens the straight yield on this
latter issue at 87j4, considered as a
stock, is practically equal to that of the
General 5s, so that their other advantages
described above render them a far more
desirable security, even eliminating the
discount element.
The Baltimore and Ohio new two-year
notes, secured by 120 per cent in these
Refunding 5s and Reading stocks, yield
5.73 per cent, against 5.17 per cent for
the longer maturity. Their security is
at least as good as that of the 1995
issue, and in the present unsettled bond
market they can be relied on to display
greater price stability because of thejr
early redemption at par.
The St. Paul Issues
Almost the identical situation as in
the B. and O. issues is presented by Chi
cago, Milwaukee and St. Paul convert
ible 4^s of 1932, and convertible 5s of
2014. The 1932 maturity sells at 88 %
to yield 5.65 per cent, as against 97%
OF WALL STREET
and 5.14 per cent, respectively, for the
long term issue. Both maturities are
secured by the same mortgage, and in
this case they are both convertible into
common stock at par. The 5s of 2014
have some advantage in that their con
version privilege extends to 1926, four
years longer than that of the 1932 issue.
This feature is probably neutralized by
the nearer redemption and limited
amount of the latter bonds, so that the
additional yield of more than one-half
per cent makes these much more at
tractive.
There are three other St. Paul issues
secured by the same mortgage as the
foregoing, but not convertible. The
4y2s of 2014 sell at 93^ and yield 5.39
per cent; the 4s, due 1934, yield 5.45
per cent at their present price of 84,
while at 89% the 4s of 1925 return fully
5.65 per cent.
Other Discrepancies
Similar discrepancies in bonds of the
same mortgage are afforded by three
newly reorganized roads — St. Louis and
San Francisco, Pere Marquette and
Missouri Pacific. In the case of the
Frisco 4s and 5s of 1950, the 4s at 61
yield 7.05 per cent against only 6.48 per
cent for the 5s at 80— a difference of .53
per cent. Even figuring the straight
yields as stocks, the 4s return 6.57 per
cent, the 5s only 6.25 per cent.
This difference is probably caused by
the much larger amount of 4s outstand
ing — a circumstance which explains, but
does not justify the variance. But there
are fewer Pere Marquette 4s than 5s of
1956, yet the 4s at 71 yield 5.92 per
cent, against 5.76 for the 5s at 88.
The Missouri Pacific consolidated 5s
present an even more glaring discrep
ancy. This issue is divided into three
series, due 1923, 1926 and 1965, re
spectively. One would naturally expect
the nearer maturities to sell at a lower
basis — as is usually the case ; e. g. the B.
and O. 5s of 1918 yield only 5.12 per
cent against 5.73 per cent for the 1919
issue. But the Missouri Pacific 5s of
1923 return 6.15 per cent at 94%, the
1926 series yields 622 per cent at 91% :
while the 1960 maturity, which is the
largest of the three series, is 90 bid —no
 CURIOSITIES OF THE BOND LIST
better than a 5.60 per cent basis.
A simple analysis will indicate the
absurdity of this situation. In 1923 the
shortest maturity must be redeemed at
par, an appreciation of 6 points. If the
1965 series is still selling on a 5.60 per
cent basis, it will have gained only one-
half of a point in the six years. In
order to equal the advance of the 1923
issue, it would have to be selling at 96,
which would be only a 5.25 per cent
basis.
Incidentally it may be mentioned that
the Missouri Pacific third extended 4s of
1938 —which are an underlying mort
gage on the main line — are now offered
at 80 to yield 5.62 per cent.
It is interesting to observe that the
General Electric debenture 5s of 1952
are still selling at 103, yielding 4.82 per
cent, in spite of the fact that the new
6 per cent note issue due 1920, ranking
equally with them, returns fully 5.70
per cent on its present price of 100^4.
In the public utility field, mention may be
made of the 5.37 per cent return of
American Telephone and Telegraph col
lateral 4s of 1929 at 88, compared with
5.12 per cent on the newer 5 per cent
issue due 1946 at 98*4. The 4s have
the additional advantage of being legal
for savings banks in some New England
States.
N. Y. Central Con. 4'a
Another important railroad issue is
the New York Central consolidation 4
per cent mortgage, due 1988. These
bonds are virtually senior to the refund
ing 4J/2S of 2013, by which they are to
be refunded. They are additionally fa
vored by their limited authorized
amount, and they yield 5.24 per cent
at 77, against 4.82 per cent for the 4j/is
at 9324.
In the same way Norfolk and West
ern General 6s of 1931, which underly
the consolidated 4s of 1996 recently sold
at 112^, a 4.72 per cent basis, against
a yield of 4.56 per cent for the junior
issue at 88.
745
Finally we shall invade the foreign
government field and consider the pe
culiar case of the Japanese 4^£ per cent
issues of 1925. These are outstanding
in two series, the "seconds" having a
junior claim on the earnings of the gov
ernment tobacco monopoly. Neverthe
less, both series have been usually quoted
at the same price, and on some occa
sions recently the second 4>^s actually
were selling above the first series. This
seems strange, considering that the
Cuban 5s of 1914, which follow the
1904 issue in their lien on the customs
revenues, are now quoted six points
under the older issue.
An Interesting Case
In some respects the most interesting
discrepancy of all is to be found in the
Japanese "German stamped,"
4>£s
which sell about seven points below the
plain bonds. Although these bonds
were once the property of German sub
jects, they are accorded exactly the same
treatment as any other bonds of that
issue as far as interest payments are
concerned, although probably not in
cluded in the frequent purchases for the
sinking fund. The punctual payment
of both principal and interest is guar
anteed on the face of the bond even to
the citizens of hostile countries — which,
as a matter of fact, does not apply in
this case anyway, since the bonds are
now the bona-fide property of American
citizens.
A painstaking scrutiny of the bond list
would probably disclose other discrep
ancies of the same nature as those dis
cussed above. This article has limited
itself to issues of general interest, and
hopes to find some utility in suggesting
to investors here and there the possi
bility of advantageous exchanges. These
are times of rapidly shifting values, and
the security owner should be on the
alert to acquaint himself with new con
ditions affecting his holdings, nor hesi
tate to modify them when favorable op
portunities are presented.
 Valuation of Great Northern Ore
-
Certificates
Based on 1914 and 1916 Operations—Life of Mines—Com
parison with Porphyries—An Opinion on Present
Market Price
By BENJAMIN GRAHAM

OR the average investor the an their earning power and the ex

of
reports pected life

of
nual of the Great the mines.
[…]-
Northern Iron Ore properties
have been full of data but very
Trust Formed in 1907
As well known the Great North

is
bare of information. Instead of the
ern Iron
Ore Trust was formed

to in
familiar statement of a corporation to
1907 by the Great Northern Railway
stockholders they represent the ac
its

counting
administer the income from various
of

to

trustees beneficiaries.
no question profit and iron mines controlled along its lines.
of

Hence there
is

railway

of

of
loss, but only receipts and disburse The holder each share
of

given

of
stock was share interest

noof in
All expenditures, for instance,

a
ments.
lumped together for current opera the Ore Properties, making total

a
are
1,500,000 shares outstanding, with
or

tion temporary investment.

par value. Some

of
Moreover, the organization the mines had been
of

the
properties highly complicated. The owned outright by the railroad, and
is

trustees act both as administrators of the remainder were held under lease
varying royalties and for various
or

periods. But all these properties had

NorthERN -a-,Ron of
E.

GREAT
- turn been leased or sub-leased to
in

-- -at- leis 19-1912 -º- is15 as

-

operators. many cases the

In
outside
-o
-oo
royalties received from the latter were
no larger than those paid
2.-o
the under
to
40 -oo: lying owners, and these unprofitable
of the second class” were
i

-o “leases
º

gradually disposed by the trustees.

of

-ºo.

-
:

Seven of the mines owned fee had

in
2
o

property
of

been leased for the life the

o

sliding scale royalty, which has

of
at
a

averaged under 16c per ton. As will

be

seen, these “old leases” have supplied

agents for the proprie
as

the trust and large proportion the output but

of
a

tary companies; and the latter are only small part

at

of

the total income.

a

the same time lessees, lessors and All the remaining mines (some own
(since 1914) operators. Consequently ed, others held under lease) had been
the public's knowledge Steel Corporation, rep
of

U.

the actual
to

S.

leased
operations and earnings by the Great Western Mining
of

Great resented
Northern Ore remarkably limited, Co. The contract provided for annually
is

considering the market prominence increasing production

an
of

average
at

Some utility may attach royalty $1.18 net per ton.

of

the shares.
In

1912
the following analysis the output under this lease approxi
is of

therefore
to

the trustees’ reports. Its purpose mated 7,500,000 tons and the net royal
first to transform the financial state ties exceeded $9,000,000. At this time
intelligible income ac
an

into the Department Justice, for some

of

ments
place ques
to

count and then definite value unaccountable reason, began

to
a

upon the certificates on the basis both tion the legality

of

the Great Western

(828)
 VALUATION OF GREAT NORTHERN ORE CERTIFICATES 829

lease and its threat of prosecution cates the determination of the life

is
under the Sherman Act compelled the present

of

of
the mines on the basis
Steel Corporation to exercise op ore resreves and 1914 production.

to its
cancelling the contract
of
tion take
final effect at the end of 1914. Life of Mines
State of Unsettlement For greater accuracy we will consider
abrogation this important the “old leases” and the Great Western

of
The
agreement plunged lease separately. From estimates made

of
the affairs the
properties great unsettle by the Great Western Mining Com
of
in

state
a

to 31
ment, from which they have not yet pany, appears that on December

it
completely recovered. last, the lands formerly under lease

of
Some the
mines relinquished by the Steel Cor that company contained about 203,-
poration were leased

of
Production

in
others, num 000,000 tons ore.
to

so
ber have been operated by the trustees, 1916 aggregated 6,014,000 tons, that
and the remainder were still idle at output were main

of
the 1914 rate

if
TABLE
GREAT NORTHERN ORE’SI EARNINGS IN 1914
Receipts from “old leases”. $336,202

.
.
........

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

.
.
.
.
.
.
.
.
Receipts from Gt. Western Lease. $11,161,627
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Less freight ... ... $3,440,398
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Underlying royalties ... 2,167,648

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Proportion not accruing ctfs........... 1,736,260 7,344,306 3,817,323

to

-
-
-
-
-
-
--
-
-
-
-
-
-
-
...

Miscellaneous receipts 207,496

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

.
.
.
.
.
.
.
.
.
Less property account credits. 49,466 158,030
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
..
.
Trustees misc. income, less expenses........................... 47,126

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Total income $4,358,681
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Expenditures
...

$3,479,822
.
.
.
to ..
.
.
.
.
.
.
.
.
.
.
.
.
..
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

.
.
.
.
.

- Less chargeable property account......................... 2,682,370 797,452

Net income $3,561.229

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Per certificate 2.37

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

the last fiscal year. Con tained the future these mines would
in
of

the close
probably
34

sequently the 1916 report years.

be

exhausted
in
is

good the properties'

an

Earnings from these properties

as

of

not index
in

normal earning power including for convenience mis

of
as

that 1914, 1914,

the last year
of

the Great Western cellaneous receipts less expenses,

We intend accordingly value totalled $2.15 per share. By the so
to

lease.
the certificates on the basis both of called per cent and per cent standard
7

of valuation, the interest each cer

of

1914 and 1916 operations.

Taking the Trustees’ report for 1914, tificate these earnings would be worth
in

but eliminating items not properly in $25.40. Briefly explained, the earnings
income account and making per cent re
of

cluded
in

$2.15 would allow

7
of a
on

in

numerous other requisite adjustments, turn the valuation $25.40, and

addition yield
on

as

earnings statement evolved, annual excess ($.372)

as
in
is

Table which compounded per cent will

of at
I.

if

upon the exhaustion the mine

in

thus appears that the actual earn 34

It

years amount the full $25.40.

to

ings 1914 were $2.37 per certificate,

in

against 53c net per certificate received Ore remaining the mines held
in
by

distri under the “old leases” on December 31

of

the Trustees the form

in

last, according
by

the proprietary companies. estimates made by

to

butions
The next step valuing the certifi the Minnesota Tax Commission, equal
in
830 THE MAGAZINE
led 89,350,000 tons. Since the 1914
output from this source was 1,825,579
tons, this rate of production would
give the properties in question a life of
Earnings from the “old
49 years.
leases” amounted to only 22c per share.
Applying the above method of valua
tion, the interest of each certificate in
the old leases is shown to be worth
only $2.86.
The total value of the earnings from
all properties will thus equal $28.26
per share. On December 31 last net
current assets were $5.40 per certifi
cate. Adding these items we have a
final present valuation of $33.66 for
each certificate on the basis of 1914
operations.
TABLE II
GREAT NORTHERN ORE'S INCOME
1916
Receipts from “old leases”.
Receipts from “new leases”. . . . . . . .
Net proceeds of direct operations..
Miscellaneous receipts... $858,761
Less prop. acct. credits. 373,130
Est. val. of 659,000 tons shipped from
Hill & Walker mines, accruing to
ctfs., but not included above....
Total earnings ................
Expenditures ...... . . . . . $1,480,796
Less charg. to prop. acct. 820,671
Net earnings . . . . . . . . . . . . .. . ..
Per certificate ................
Before commenting on this result
let us apply the same process to the
1916 report. Here the earnings from
the Great Western lease have disap
peared and their place is taken by a
number of new leases and by the Trus
tees’ own operations. (Table II.)
Of course the relatively poor earn
ings in 1916 were due chiefly to the de
cline in production following the abro
gation of the Great Western lease—but
also largely to the disastrous shortage
of tonnage space on the Great Lakes.
Shipments from mines formerly oper
ated for the Steel Corporation were
only 3902,000 tons, against 6,014,000
tons in 1914. The output of the “old
leases” increased 1,382,000 tons, but
OF WALL STREET
owing to the low rate of royalty the
advance in earnings from this source
totalled only $226,000.
An Abnormal Year
Assuming provisionally that future .
operations will proceed only at the
1916 rate, the method of valuation em
ployed above would yield the following
results:
Life Earned
of per ctf. Value
Mines 1916 per ctf.
“Old leases” .......... 28 $0.375 $4.17
Other mines and misc. 52 1.335 17.56
Net current assets..... . . . . . . . 5.40
Total . . . . . . . . . . . . . . . . $1.71 $27.13
From the point of view of the Trus
tees, 1916 was a particularly abnormal
year, inasmuch as they were required
FOR
to assume the operating management
of some of the mines—a development
....... $562,705
not contemplated at the time of form
984,967
544,994 ing the Trust. Accordingly they have
made strenuous efforts to again place
485,631
under lease the various properties
relinquished by the Steel Corporation.
I am informed that contracts have now
659,000 been actually completed covering the
last of these mines, so that beginning
$3,237,297
with next year all of the Great North
668,125 ern Ore Properties will again be leased
to outside interests.
$2,569,172 For business reasons the terms of
$1.71
the most recent agreements cannot be
published, but enough data is contain
ed in the last annual report to indicate
how earnings under the new regime
will compare with those from the
Great Western Lease. In 1914, a year
of abnormally low iron ore prices, the
net royalties paid by the Steel Corpora
tion averaged $1.28 per ton. In 1916
with ore quotations nearly 50c above
the preceding five year average, the
properties directly operated showed
profits of only $1.21 per ton. Even
more significant is the fact that the
average rate of royalty received from
the new leases was only 81c per ton.
As for future production under the
new management, I have been told by
a Trustee that it will exceed substan
tially the 1916 figures (especially since
 VALUATION OF GREAT NORTHERN ORE CERTIFICATES 831

the lessor companies control their own 15 and 13 years respectively. Of course,
cargo space), but it will not equal the these leases may be renewed, but a
enormous output of 1914. In other higher underlying royalty may then be
words, it appears that neither the pro charged (as recently in the case of the
duction nor the royalty rate can be Leonard mine), and in any case their
counted on in the future to reach the approaching maturity will involve an
figures reported under the Steel Cor uncertain factor.
poration lease. Consequently the Perhaps largely because of the gen
valuation of $33.66 per share on the eral ignorance of the actual earning
basis of 1914 operations must be re power of the certificates, Great North
garded as the maximum appraisal of ern Iron Ore has always been a favor
the certificates under present condi ite medium of market manipulation.
tions. But despite the many bull campaigns
Mines Not Inexhaustible of the last decade, the certificates have
yet to pay an annual dividend larger
Although the Trustees use every than $1.25. Elsewhere in this article
opportunity to emphasize the fact that appears a graphic giving the range of
the Properties' ore reserves are being prices, dividends, and actual earnings
constantly depleted, a hazy, notion during the past five years. Whatever
seems prevalent that the mines are speculative fascination these Great

TABLE III
COMPARISON WITH THE PORPHYRIES
MINIMUM VALUE
(Sep. 7) Based on Based on
Present 1916 Prospective
Price Operations Operations
. . . . . . . . . . .”- - - - - - - - - - - - - - - - - - - - - - - - - - - - - 53 $78 97
97 140 161
- - -- --- --- -- - -- - -- ----- --- - -- ---- ---- -- 22 31 33
26% 31 39
MAXIMUM VALUE
Based on Based on
1916 Operations 1914 Operations
Great Northern Ore. . . . . . .. . . . . . .. .. . . . . . . . .. . . 34 27 33%

practically inexhaustible. It is true that Northern Iron Ore certificates may ex

in 1907 the Properties were estimated ert, the conclusion appears inevitable
to contain 470,000,000 tons of ore, but that at 34 they constitute a relatively
nearly two-fifths of this total has since unprofitable investment.
been disposed of, as indicated by the There is another side to this question,
following summary: however, and the answer to it cannot be
deduced from the statistics. We refer
Original reserves 470,000,000 tons
Ore mined ....... to the strong accumulation of Great
Leaseholds of the Northern Ore which has been going on
second class, re for some time past. The evidence of this
linquished 104,000,000 179,000,000 tons is found in the character of the fluctua
tions of the stock. What the basis for
Ore remaining. . . . .. .. . .. . . 292,000,000 tons
is,

this accumulation we do not know,

It
must further be remembered that
us

but past experience tells that when

large proportion of the Properties buying this kind occurs something
of

a
are held under leases, expiring between favorable develops the near future.
in

The two best produc

its

13 and 40 years. Notwithstanding low dividends and

ing mines, namely the Dean and Leon yield, therefore, we are favorably in
ard, are held under leases expiring in clined toward Great Northern Ore.
 _

MINING AND OIL

Inspiration’s Difficulties and Achieve
ments in 1917
Ore Valuation and War Taxes—Costs and Profits—lrivest
ment Value of Stock

By BENJAMIN GRAHAM
HE history of Inspiration has re for the current quarter came rather as a
peated itself. after an interval of pleasant surprise.
7; exactly two years. On July 1,
Features of Annual Report
1915, mining had not yet started;
on July 1, 1917, operations had completely
The justification of the continued $2
payments is found in the annual report for
cased. By April, 1916, the output had
1917, recently made public. Despite the
reached the calculated nominal rate of
large decline in production-equalling
10,000,000 lbs. per month. This month
one-third the 1916 output-the income ac
the company has announced that opera
count shows earnings after war taxes and
tions are again at- normal. The demoral
depreciation of $9.37 per share. Although
izing influence of the Arizona strike last
summer can best be perceived by the fact $8.25 per share had been disbursed in
that when operations recommenced it took
almost as long to attain the standard pro
Table I—INSPIRATION COPPER-PRODUC
duction as when first the mine was opened.
TION AND PRICES
To pursue the parallel, it is strange that
April, 1918, finds Inspiration at the same Production Average Price
price level as two years before. The co 1915-16 1917-18 1915-16 1917-18

incidence is so striking that a table of pro lbs. lbs

duction and prices seems apposite. July .. ...l,095,909 Mine idle 30% 57%
(See
August.. 2,189,425 Mine idle 34% 54%I
Table I.) Sept. . . .2,746,066 2,250,000 38% 51
From November on, the price range in ‘Oct.. . . .4,017,604 2,400,000 44% 46%I
both periods has been very similar. The Nov. . . .4,855,526 2,250,000 44% 41%
stockholder will devoutly pray that the Dec. .. . 5,541,140 5,600,000 45 42%
analogy be continued through the rest of
Jan. . . . 5,354,815 5,000,000 45% 45%I
Feb. .. . . 7,931,022 6,200,000 45% 46%
the year. He recalls that in August, 1916, March ..9,594,762 8,750,000 46% 45
the public suddenly realized that Inspira April. . 10,122,686 ‘10,000,000 45% 47
tion had become a real mine, and the price ‘Estimated.
shot up to 69 5/9 in the next month; out
stripping Chino-its constant rival-—by
ten points. In November the high record dividends, the net current assets had actu
of 74% was made. A year later it was ally increased by $1,688,729 to $14,482,
back to 38. Since then the mine and the 94S-—or $12.25 per share.
stock have been recovering t0gether—the Certain features of the report are worthy
'
former more rapidly. of special comment. Inspiration is the
On March 25, 1916—just eight months first of the larger copper companies to
after mining began-an initial dividend of publish the amount of Federal taxes levied
$1.25 was declared. The next quarter saw against 1917 income. The figure is sur
the rate raised to $2, at which it has since prisingly low. Income and Excess Profits
remained. There had been much fear of a taxes together equalled but $1,185,249. If
reduction to $6 last month because of the these taxes were computed upon the earn
strike, rising costs and heavy taxes, so that ings as reported, a little algebra would
the maintenance of the regular dividend show that the 6 per cent. Income Tax must
(137)
138 THE MAGAZINE OF WALL STREET
represent more than half of this total, thus
reducing the Excess Profits Tax to less
than $500,000.
A paragraph in the report, however, con
tains an interesting sidelight on the method
employed by the mining companies to deal
with the difficult question of depletion in
relation to war taxes. Inspiration has
made a valuation of the developed ore as
of March 31, 1913, and has then deducted
from earnings for ore extinguishment an
amount equal to the proportion of this value
represented by the tonnage extracted dur
ing the year. This charge to earnings for
depletion appears only in the company’s
tax return, and not in its published income
account.
Ore Valuation and War Taxes
I understand from an official of the
company that the basis of valuing the ore
reserves is substantially as follows: First,
the copper content of all the ore is esti
mated, from which allowance is made for
losses in tailings in order to obtain the
amount of recoverable copper. The March,
1913, selling price, say, 15c. is applied to
this copper content to arrive at the gross
value of the metal. From this sum is de
ducted first the estimated costs of pro
duction and then the entire value of the
equipment. There is left the net value of
the copper ore. But these proceeds are to
be obtained over a series of years, and are
therefore less valuable than a correspond
ing lump sum paid over on March 31, 1913.
It was finally necessary, therefore, to com
pute the then present worth of each year’s
production according to approved actuarial
methods, and the result was the valuation
of the ore-bodies prescribed by the U. S.
Treasury. The company is naturally
averse to giving out figures on this delicate
point, but the writer is convinced that the
additional valuation referred to in the re
port must equal several times the fixed
asset account in the balance sheet, and
that therefore the depletion charged to
earnings for taxation purposes no doubt will
run into a few million dollars annually.
This element is of great general importance
in its bearing upon the war taxes of the
coppers as a class. Apparently the burdens
imposed by the War Revenue Act will not
be nearly as heavy as their relatively small
capitalization led investors to fear.
Another feature of interest in the report
is the very moderate increase in the' cost of
production. Considering the sharp ad_
vances in wages and material prices, and
especially the difficulties incident to the
strike, one would have expected a disas
trous jump in operating expenses. Under
these conditions, holding down the costs
to 10.44c. per pound—an increase of but
l.77c.——must be regarded as quite an
achievement. But these figures do not tell
the whole story. The-management purpose
ly treated a lower grade of ore than the
previous year, thus adding to the cost per
pound. The operating cost per ton-—the
true measure of efficiency—increased only
6c., from $1.95 to $2.01. In other words,
the costs per unit increased by 3%—-a
really remarkable performance.
Probable Costa and Profits
The output of copper in the first six
months exceeded the rate of 130,000,000
pounds per annum, but the shutdown in
the summer reduced the year’s total to
80,567,000 pounds. We are thus led to
inquire what should be the companyls
earning power at present prices and costs,
but with normal production. The latter
figure let us set at 120,000,000 pounds.
This was the 1916 output, and indications
point to a similar production for the cur
rent period, which so far has closely paral
leled the performance of two years ago.
It represents only 80% of the plants’ ca
pacity and makes allowance therefore for
a temporary curtailment of operations.
The 1917 costs (excluding Federal taxes
and depreciation) averaged 10.47c. per
pound, permitting a net profit of say 13c.
on 23%c. copper. There is reason to be
lieve that should expenses rise appreciably
in 1918, they would bring a compensating
increase in the selling price of the metal,
since a number of high cost producers find
it difficult to operate successfully on the
present margin. Thirteen cents should
therefore represent a reasonable profit for
Inspiration under war conditions. On 120,
000,000 pounds, the earnings would total
$15,600,000. From this sum are to be
deducted Federal Taxes which we estimate
—very roughly, of course-—at around $2,
000,000. There remains $13,600,000, or
$11.50 per share as the net profit applic
able to dividends and depreciation. The
 INSPIRATION’S DIFFICULTIES AND ACHIEVEMENTS IN 1917 139

depreciation charge in both 1916 and 1917 There is no immediate need for the leach
was fixed at $750,000, or about $.64 per ing plant and because of the prohibitive
share, but for reasons touched upon later price of machinery the company has wisely
this sum has not been deducted from the postponed this addition until after the war.
earnings applicable to dividends. The cost will eventually be met out of earn
Profits of $11.50 per share for the stock ings; but by that time the company will
under present conditions would justify the undoubtedly have accumulated a cash re~
continuance of the $8 dividend rate, espe serve for the purpose (if it has not already
cially in view of the company’s strong cur done so) so that this expenditure should not
rent asset position. The estimate of war encroach on dividends.
taxes is of course predicated on the assump
Investment Value of Stock
tion that the reserve in the 1917 report has
been correctly figured. - Is Inspiration cheap at the present price?
The copper companies in general have The question can be answered mathematical
great advantages over most manufacturing ly by computing the minimum value of the
enterprises. They do not tie up much stock both on 23%c. and 14%c. copper—
money in inventories, they sell on a cash the latter representing what many would
basis-and, most important of all, their call the lowest limit. But first the life of
yearly additions to plant are usually small. the mine must be estimated.

TABLE II-INSPIRATION IN WAR AND PEACE

“War Conditions” “Peace Conditions”
Price of copper . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. 2355c. per lb. 141/20. per lb.
Cost’ of copper . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
“ “ est.
“ “
l01/2c. 8c.
(Excl. taxes and depreciation)
Net earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $13.20 per share $6.60 per share
Feneral taxes (estimated) . . . . . . . . . . . . . . . . . . . . . .. “ “ “ “
1.70 (1916) .34-
Balance . ... . . ... ... . .. .. .. . .. ..
“ “ “ “
forf

6.2g
.

Minimum lie
divfidends
mine . . . . . . . . . . . . . . . . . . . . .. . 11.52 years years
0

“
.

——-n——-_—__
Value of mining property . .. .. . . .. $91.42 per share $49.77 per share
“ “
.
.
.

Net current assets 12/31/17 . . . . . . . . . .. . .. . .. 12.25 12.25

“ “
.

.
.

Total minimum value . .. . . . . .. . . . . . . . . .. .. $103.67 per share $62.02 per share

.

.
.

.
.

Hence practically all the earnings are avail In the 1915 report Inspiration summar
able for dividends. Inspiration faced ized its ore reserves as follows:
is

with an important piece of construction that Per cent.

some day must be undertaken, but un
is
it

Tons. Copper
likely to affect the dividend policy to any Sulpbide ore . . . .. 46.252,000 2.01
.

extent. refer to the need of leaching Low sulphide ore.

I

28,698,000 1.26
.

plant for handling the oxidized material Oxidized ore . . . . 17,460,000 1.31
.

which constitutes about 23 per cent. of the Mixed ore . . . .. 4,731,000 1.31
.
.

developed reserves. These important ore

bodies cannot be treated by the concentrat Total ..
. . . .. . 97,141,000 1.63
.

ing methods used for the sulphide material,

and will require special reduction process. No attempt has been made to develop ad
a

The company has experimented successfully ditional ore since then, but mining opera
on this class of ore, and refers to the favor tions have disposed of 9,268,000 tons of
able results of the large scale operations ef slightly less than average grade, leaving re
fected by New Cornelia. The latter mine serves of 87,874,000 tons at the beginning
recovered about 80 per cent. of the copper of 1918. Taking the.1916 production as
content. believe that Anaconda announced an index—5,316,000
‘

tons~—the minimum
I

an extraction of around 83 per cent. of its life of the mine would be about 16 years.
oxidized tailings. (Inspiration has been Having determined the normal production
saving about 90 per cent. of its copper in and the minimum life, we can set down the
sulphide form.) mathematical valuation of Inspiration stock
140 THE MAGAZINE 0F WALL STREET

under both war and peace conditions
Table II.
These appraisals are based upon the
standard tables of Mr. H. C. Hoover, once
a mining engineer, but now Food Adminis
trator. The earnings will net 8 per cent.
upon this valuation, and a sufficient annual
surplus besides (if compounded at 4 per
cent.) to replace the original investment at
the end of 16 years.
The reason for not deducting deprecia
tion in computing the per share earnings
should now be evident. The equipment is
expected to outlast the mine, and hence the
investor is himself depreciating it when
laying aside (theoretically) his sinking
fund. Should the mine actually last fifty
years, the equipment might have to be re
newed, but then the whole basis of valua
tion would have to be radically revised up
ward.
This point draws attention to the fact
that our valuations are based upon present
ore reserves, which are practically certain
to be increased later. Only a fraction of
the mineral lands have been explored, and
when development work is resumed there is
no reason why Inspiration should not dupli
cate the recent success of the other large
porphyries. It will be remembered that
as in Nevada has increased its recoverable ore in
three years from 39,000,000 to 68,000,000
tons.
If
it is true, as many experts claim, that
14V2c. copper is a long way off our “peace
valuation” of $62 would represent the
height—or rather the depths—of conserva
tism. But earnings even on a 14%c. mar
ket would justify a $5 dividend ratkby no
means a niggardly return on the present
market price.
The porphyry coppers in general have
not. earned the dazzling percentage upon
their market price shown by some of the
steel issues. But they have no bonds or
preferred stocks; all the property and earn
ings belong to the common stockholders, and
no panic or depression can ever send them
on the rocks. The investor in the coppers
at these levels is sure to get his money back
before the mine gives out-—with an excel
lent return in the meantime-and each in
crease in metal prices, ore reserves, or pro
ductive capacity makes his holdings more
valuable. One of the newest and best ex
amples of this type of investment is In
spiration Copper, which in an industry long
distinguished by able management, has
established an enviable record for produc
tive efficiency.

MARKET STATISTICS
. Breadth
Dow Jones Avgs. 50 Stocks (No.
40 Bonds 20 Inds. 20 Rails High Low Total Sales issues)
Monday, April 8. . . . 75.01 77.69 79.53 68.29 67.76 242,400 156
“ 9. . . . 75.77
Tuesday, 77.40 79.21 67.86 67.42 170,900 172
“
Wednesday, 10. . . . 75.83 76.85 78.90 67.54 67.07 190,200 157

Thursday,
“
ll . . . . 75.85 75.58 78.00 67.04 66.22 343,500 195
“
Friday, 12. . . . 75.91 76.25 78.45 66.84 66.23 211,400 153
“ 78.26 66.71
Saturday, 13. . . . 75.91 76.01 66.42 115,100 127
“ 79.15
Monday, 15 . . . . 75.92 77.51 67.57 66.88 305,600 161
“ 78.98 67.70
Tuesday, 16. . . . 75.98 77.21 67.14 360,300 150
“ 78.60 67.23 66.68
Wednesday, 17. . . . 75.93 76.89 336,200 109
“
Thursday, 18. . . . 75.91 78.11 79.28 68.07 67.29 523,200 173
“
Friday, 19. . . . 76.05 78.60 79.38 68.70 68.07 521,200 187
“
Saturday, 20. . . . 76.16 79.73 79.52 68.78 68.29 302,400 147
Nevada Consolidated-a Mining Phoenix
A “Dying Mine” Expire-—Its Changing
Balance Shcct—1nvcstmcnt Worth of Nevada’s Stock
NDecember, 1912, the Nevada
”
directors declared an extra divi
dend of 50 cents per share,
which they were careful to point
out was not a payment from earnings but
a return of capital made out of the re
serve for ore extinguishment. 1t chanced
that in the annual report published shortly
afterwards the tonnage of’recoverable ore
showed a decrease for the first time since
operations commenced. From these two
events originated the famous theory of the
exhaustion of Nevada, which completely
dominated its market action for many
years, and even now persists in the minds
of many an investor.
The sad story of the gradual
of Nevada is shown in Table I.
_____-————__—___,—_—'_______-—
TABLE I—RECOVERABLE ORE
Sept. 30, 1907 . . . . . . . . . . . . . . .
1908 . . . . . . . . . . . .
1909. . . . . . .
Dec. 31, 1910. . . . .
1911 . . .
1912 . . .
1913 . . .
_ ”
, 1914. . .
'J
1915. .. . .
. . . . . . . . .67,993,000
1916 . . . . .
1917 . . . . . . . . . . . . . . . . . . . 70,025,000
Total tonnage mined to date.25,84l,000
After having mined nearly twice as much
ore as it started with in 1907, Nevada still
has left about five times the original ton
The map shows that large portions
nage.
of the company’s property are as yet un
prospected, and the management is now
of
very optimistic as to the possibilities
future additions to the ore reserves. On
the basis of last year’s record tonnage re
moved, the minimum life of the mine is
now 17% years against 15 years for In
For a liquidating proposition,
spiration.
Nevada seems to possess extraordinary
vitality.
Although last year established a record
for tonnage mined, the production of re
fined copper suffered a substantial decline
That Refuses to
By BENJAMIN GRAHAM
from 90,735,000 lbs. to 82,040,000 lbs.
This was due chiefly to a reduction in the
grade of ore mined in the open pit from
1.53 per cent to 1.28 per cent. In addition
the percentage of copper recovered showed
a slight shrinkage, so that the extraction
per ton fell from 24.12 lbs. to 21.81 lbs.
per ton.
Judged from the assay of remaining ore
reserves, the decline in the grade of ore
mined should prove a temporary factor.
The open pit ore averages 1.415 per cent
copper and the richer material in the Ruth
underground working brings the grade of
the total up to 1.58 per cent. The falling
off in recoveries is explained by the
extinction crowded conditions at the mill due to the
treatment of foreign ore from Consoli
dated Coppermines. Steps have already
been taken to meet this difficulty, with the
result that the extraction in the fourth
..14,433,000 tons
” quarter reached 73.94 per cent, which is
. . .20,000,000
” better than the average for 1916.
.29,000,000
”
40,361,000
” Table 11 gives the latest income account
40,853,000
” of the company. Of the net profit $8,297,
38,854,000
39,108,000
” 946, or $4.15 per share, was paid in divi
41,020,000 dends and $528,706 was charged off for
”
. . .50,525,000
” plant alterations, leaving a final addition
” to surplus of $661,082, or 33c. per
share. To this sum must be added an item
” of $108,434 representing the earnings of
the subsidiary Nevada Northern RR., in
excess of dividends paid to the parent com
pany.
In the statement, the company’s fig
ures have been corrected to include an
additional $165,800 for taxes, to bring the
allowance made during the year up to the
final estimate. On the other hand the
management explains that the price actu
ally received for copper was over 2c.
more than the stated average of 23.75c.,
because the unsold copper (in accordance
with previous custom) has been inventoried
at 13y2c. The writer has calculated that
there were 14,000,000 lbs. of finished cop
per at hand at the end of the year, which
must already have been sold at 23 y2c.———an
advance of 10c. over the carrying price.
(212) a
 h
M
NEVADA CONSOLIDATED—A MINING PHOENIX 213

On the basis of the selling value of thepresent charges for depreciation, etc., are
copper produced, the year’s earnings were continued without change. Following is a
therefore about 70c. per share more per chronology of future events in the life of
share than reported-in all, about $5.50 Nevada, as they would appear on the
per share. _
books.
It will be observed that the net operating 1. By 1925 the mill and smelter will
costs before taxes and depreciation aver have disappeared from the balance sheet
aged 9.96c. per pound against 7.62c. the through depreciation charges which have
previous year—the difl'erence of 2.34c. rep already reduced their book value by 47 per
resenting the increase in mining expense cent. Needless to say these plants (which
due to war causes other than taxes. Taxes are well maintained) will be far from a
increased from .51c. to 1.0%. per pound, heap of ruins in eight years, and although
bringing the total advance in costs up to theoretically extinct, will probably be op
3.43c. per pound. In the operating ex erating at full blast.
pense of both years has been included a 2. By 1927 the stripping of the present
charge of 30¢. per ton of ore ‘mined—about ore reserves in the open pit‘ will be com
lyzc. per pound—for the amortization of pleted and the prepaid expense item in the
prepaid development expense. The latter balance sheet will begin to contract rapidly,
item represents chiefly the cost of removing through the 30c. per ton operating charge.

TABLE II-—INCOME ACCOUNT FOR 1917

Per Pound
sales of Copper . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $19,484,271 23.751:
Operating Expenses (excluding taxes and depre
ciation) $10,254,466 1250c
Less other income. - . . . . . . . . . . . . . . . . . . . . . . . . .. 2,088,702 2.54c

Net Operating cost . . . . . . . . . . . . . . . . . . . . . . . . . . . $8,165,764 9.96c

Taxes . . . . . . . . . : . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 896,458 1.09.:
Depreciation and Depletion . . . . . . . . . . . . . . . . . .
Why-H
934,517 1.14s

Total Cost . ... . ... .. .. . ... . .. .. .. .. ... . .. .. . 9,996,739 12.1%

Net Profit 59,488,532 11.566

-
Profit Per Share, $4.75

the capping, or layer of waste material, (It is impossible to make a. similar fore
which covers the commercial ore in the cast for the Ruth mine, but this is of minor
open pit. The expenditure for this pur importance.)
pose each year is carried' to a deferred 3. By 1928 the entire cost of the ore in
asset account, which at the same time is the ground will have been extinguished
being extinguished by the 30c. charge for and although the mine will then have re
each ton mined. maining over twice as much ore as at first
A careful analysis of the Nevada’s reported, this property will be given no
charge for depreciation, ore extinguish value in the balance sheet.
ment, and amortization of stripping ex 4. By 1931 the cost of stripping the
pense brings out some very striking facts pit ore will have been completely amor
as to the ultimate financial condition of tized by operating charges. This means
the company-and incidentally sheds that in the last three years of production
much light upon the much discussed capi there will be no stripping expense to charge
tal distributions referred to in the opening off,—an item which now represents lyzc.
paragraph. per pound of the cost of production.
Let us assume for the sake of simplicity But as these assets gradually fade from
that no new ore is discovered, that last the balance sheet, what will take their
year's rate of production is maintained place? The answer is cash,—-unless (1)
and that therefore the mine is exhausted new properties are purchased, or (2) the
in the middle of 1935. Also that the surplus is reduced by dividends in excess
m
214

of profits.

balance sheet
future.
at best

Table
carried forward

approximate—especially
treatment of the prepaid expense.
III
THE MAGAZINE OF WALL STREET

If we suppose that neither

course is followed, but that Nevada pays
out all it earns from now on, keeping the
surplus at the 1917 figure, Table
shows the present tendency of Nevada’s
into the
Like most predictions, this is

chaser of Nevada at $20 per share need

in the

demonstrates that the pur

not worry particularly about the exhaustion

of the mine in 1935.

Mine
Three years before
that time the company will have converted
all its assets into liquid form, ready either

TABLE III-BOOK VALUE

. . .. .. .. . ... .. .. .. . ... . .. ... ... ... .. . .

III

Mill and Smelter . . . . . . . . . . . . . . . . . . . . . . . . . ..

Prepaid Expense . . . . . . . . . . . . . . . . . . . . . . . . . . .
expect, the value of the stock will increase.
Nevada differs from the other porphy»v
ries in that its stockholders do not‘have to
establish a sinking fund out of dividends
for the return of their capital. The com
pany is doing that for the investor—and
at a more rapid rate than is necessary.
this connection, the meaning of the capital
distributions should now be clearer. They
do not represent the directors’ belief that
the exhaustion of the mine is imminent, but
merely a division of part of the cash with
which—through

1913
$2.16
324
1.64
1911
$1.63
2.62
2.72
depreciation charges-the
fixed assets have been gradually replaced
in the balance sheet.

OF NEVADA’S ASSETS PER SHARE

Unless more of such

1925 (est)
$.43

2.72
In

1928 (est.)

$2.12
1931 (est.)

. ..

m
Net Current Assets (Includes Investments).. 3.02 8.16 11.98 13.01 $15.13

Total Book Value Per Share . . .. ... .. .. . .. $10.06 $15.13 $15.13 $15.13 $15.13

for distribution or for the purchase of new distributions are made, Nevada will soon
properties. be converted from a mine into a bank.
Regarded from another standpoint, on Marketwise, Nevada has 'v'neveri been
23y2c. copper Nevada can maintain its much in the limelight. In the past, when
former charges for depreciation, etc., pay it wasn’t condemned as a “liquidating
dividends of $4.50 per share and still keep proposition” it was disdained as a minority
its $20,000,000 surplus intact. On 14y2c, issue. Time brings its revenges. Utah
copper, assuming 1915 costs, it can earn Copper, which controls Nevada, is now in
$2.50 per share after all charges. The its turn controlled by Kennecott, and the
stockholder could therefore collect divi Nevada stockholder has welcomed his
dends of between $2.50 and $4.50 for thir patronizing big brother into the ranks of
teen years, and at the end of that period the minority.
still have an equity in net current assets day the public will realize that a
Some
of $15 per share, together with three years low cost, brilliantly managed copper mine
more of production at the present rate,—— like Nevada,—rich in cash and free from
but eliminating the stripping charge of debt-—is fully as safe an investment as
1V2c. per pound from operating costs. If many a railroad or industrial bond, and a
additional ore is developed, as the officials great deal more profitable.

MILLIONAIRE CHAUFFEURS
Near Charlotte, N. C., is one of Uncle Sam’s great training grounds ‘and a colonel at_ the
camp has been in the habit of getting his checks cashed at one of the big banks there, always
riding over in his car. Which on his last visit resulted in the following conversation between
the oflicer and the cashier:
Cashier: “Colonel, why don’t you open an account with us? We certainly would appre
ciate your business.”
Colonel: “Why, my account would be of no use to you, I regret to say. But if on can
land that chaufieur of mine it will be worth while. I am poor. He is worth two mil 'on!”-—
Financial and Investment Chronicle. -
 Rock Island versus Missouri Pacific
Companions in Misery and Success — Searching Analysis on
Their Operations and Status —Contrast in Operating
Ratios — Prospects for Their Issues
By BENJAMIN GRAHAM

a
COMPARISON of Rock Island maintenance of bridges, trestles, etc. Of
with Missouri Pacific is almost prime importance also is Rock Island's
as inevitable as that of Northern higher average freight rate per ton mile
Pacific and Great Northern. (84c. against 74c.) giving it larger freight
Very similar in their physical char revenues, though carrying less traffic.
acter, the two systems are even more alike Finally Rock Island is richer in equipment
in their financial structure and their as compared with the business handled,
and thus has recently been deriving a large
income from the hire of freight cars, while
TABLE I— ANALYSIS OF REVENUE Missouri Pacific has been a consistent
Rork Island Mo. Pac. debtor for this item.
% of total % of total
Freight Revenue 66.6 75.5 Missouri Pacific More Economically
Passenger Revenue 26.0 16.9
Misc. Revenue 7.4 7.6
Operated
With these disadvantages in capitaliza
Total 100.0 100.0
tion, traffic density, rates, location and
Freight Rev. per Mile. ..$7,263 $7,850
Passenger Rev. per Mile 3,386 2,553 equipment, "Mop" might be expected to
Products of Mines 35.3* 39.4* earn much less on its common than Rock
Products of Forests 8.7* 18.0* Island. Yet the 1917 report shows $8.10
Rate per Ton Mile 84c 74c
Rate per Passenger Mile 2.10 2.31
per share earned on its junior issue against
*Of total tonnage. $7.20 for the other road — both- figures
being based on present interest charges.
This surprising result is due to Missouri
checkered history. Both were victims of Pacific's more economical operation, its
mismanagement and unwise expansion; running expenses and taxes having con
they plunged into receivership together in sumed only 73.4 per cent, of gross against
1915, and both were finally returned to 78.6 per cent, for Rock Island. Had the
their stockholders in June of last year — latter been operated as cheaply as its rival,
with much new money raised through as its net would have been $4,500,000 larger,
sessment and with interest charges substan
tially reduced. And in the past three
years they have rivaled each other in the TABLE II— ANALYSIS OF EXPENSES
phenomenal growth of their revenues. Rock Island Mo. Pac.
Under a closer scrutiny, Rock Island is % of gross % of gross
Maintenance of Way.. . 12.12 13.98
seen to enjoy important advantages. With Main, of Equipment... 18.84 15.90
a greater traffic density, its per mile cap
italization — both stocks and bonds — is Total Maintenance . .. 30.96 29.88

considerably smaller, and hence its interest Transportation, etc 42.74 38.11
Taxes 4.88 5.44
and preferred dividends require a much
lower percentage of its gross receipts. Al Total Operating Ratio 78.58 73.43
though Missouri Pacific is more compact — Average Train Load.. . 390 tons 530 tons

and has a shorter line between St. Louis

and Kansas City — its greater mileage along
the Mississippi makes it more subject to bringing the earnings on the common up to
flood damage — a handicap which appears $13; per share.
clearly in its much larger expenditures for ,The , apaJysis of expenses in Table II
(271)
 272 THE MAGAZINE OF WALL STREET

shows that Rock Island's larger mainte
nance appropriation accounted for only a
small part of its higher operating ratio.
The chief advance is in the actual cost of
moving the business — transportation, traf
fic and general expenses. These heavier
costs may be due either to lower efficiency
or to natural disadvantages. Under the
latter heading we would immediately put
its greater proportion of passenger traffic,
which (as shown in Table I) constituted
26 per cent, of the total revenue, compared
with only 16.9 per cent, for Missouri Pa
cific. The unprofitableness of passenger
business in general, and Rock Island's
losses from this source in particular, have
passenger service, yet official data of this
kind deserves serious attention, and should
warn us at least not to place too much
stress upon the unprofitableness of R. I.'s
passenger business.
The basic reason for Missouri Pacific's
more economical operation lies evidently in
its higher revenue train load. Last year
the average freight train carried 530 tons,
against 390 tons on the Rock Island1— an
advantage of fully 1/3. Now even mak
ing allowance for the larger proportion of
coal and lumber traffic on the Missouri
Pacific (shown in Table I) which admits
of heavier loading, so pronounced a super
iority as this must be described in large

ROCK- ISLAND •&• MISSOURI-PACIFIC-

»5 of December 31,191?

H Rock Island. 1 J Missouri-Pacific.

MikoqeOwned
ondOp.ri.led Per Mile.
m rtrM.lt.

Earned on Prefr'd
for Mile. PerMiIt.

Rock Island
Per Mile.

.
1
bandedDetrffrefr'd S(oc* Com'nStoekW.Charjes frefVdDndt arawEarna* Me/afl.laio (&4&la»Vg«M. aft chrgs
Per Mile. PtrMile itu oier Inc- Per Mile.

Missouri-Pacific
an. KrMiU.
144*7=
tamed on Common • • " * 6.l^>.
7.Z*f»
Ratio « • • • 7J:4^fo.
Operating It-t^o.

been much emphasized in railroad litera measure to greater transportation efficiency.

ture. The importance of this single item is shown
The I. C. C. throws some light on this by the fact that, through intensive loading,
question by publishing figures which ap Missouri Pacific's freight revenue per train
portion the total operating expenses over mile was raised SOc. above Rock Island's
the freight and passenger services. An (despite lower ton mile rates), while its
analysis of this data for 1916 leads to a transportation expenses were only 6c.
surprising conclusion. While Rock greater. Savings of this kind have a vital
Island's freight business was 2.14 times bearing on the income account.
passenger (and miscellaneous) traffic,
361 Kinds of Operating Expenses
freight expenses were 2.24 times passenger
expenses. In other words, passenger traf To find out just where the carriers'
fic was less expensive proportionally than money goes, the I. C. C. has prescribed the
freight traffic. For Missouri Pacific also, respectable number of 361 separate ac
freight expenses were ,5.13 times, but counts under which to report operating ex
freight revenues only 3.03 times the pas penses. In the annual reports these cate
senger figures. It may be that these stat gories are usually condensed into only
istics do not reflect the real cost of the about 125 items. If the investor should
 ROCK ISLAND VERSUS MISSOURI PACIFIC 273

ever chance to examine this part of the remember that dividends and market move
Rock Island statement in detail — (which is ments have their roots in just such techni
quite unlikely) — he would be struck by cal operating elements.
the high cost of fuel. This item last year If the paradox be pardoned — for the
consumed no less than $9,008,000 of Rock present the future depends upon the past.
Island's revenue, compared with but Which translated means that while the
$5,390,000 for Missouri Pacific. Other Railroad Control Act is in force the earn
wise stated, although R. I.'s gross was only ings of the two systems are determined by
14 per cent., its fuel bill was 6j per cent, their records from July 1, 1914, to June
greater than Missouri Pacific's. Had the 30, 1917. Since both roads were in re
difference in coal costs been kept propor ceivership during most of the period, it is
tionate to that in business, Rock Island generally thought that special compensation
would have saved $2,850,000 on this single will have to be arranged for them. It is
item — nearly 20 per cent, of the present true that in 1916, Missouri Pacific ex-
market price of its common stock. . pended over 38 per cent, of gross for main
Whereas "Mop" carries about 1/3 tenance, and that its average for the tri-

TABLE III— INCOME GUARANTEED UNDER GOVERNMENT RAILROAD CONTROL ACT

Missouri Pacific
(Allowing for
Rock Island Missouri Pacific excess maintenance)
Operating Income 1915-7 as guaranteed.. $16,045,000 $14,346,000 $14,346,000
I Bureau of Railroad Economics figures)
Add allowance for excess maintenance 2,510,000
(Average maintenance, 1915-7) — (30.06% of gross) (34.80% of gross) (assumed as 31% of gross)
Other Income, 1917 *$453,000 645,000 645,000

Total Income $16,498,000 $14,991,000 $17,501,000

Less Misc. Charges, 1917. ..(adjusted) 665,000 172,000 172,000

Applicable to Interest $15,833,000 $14,819,000 $17,329,000

Interest Charges as of Dec. 31, 1917... 9,291,000 10,051,000 10,051,000

Balance for Dividends. . . . 6,542,000 $4,768,000 $7,278,000

Foil Preferred Dividends. 3,560,000 3,590,000 3,590,000

Balance for Common Stock $2,982,000 $1,178,000 $3,688,000

Interest Charges Earned 1.70 times 1.47 times 1.72 times
Earned on Preferred Stock 12.00% 6.64% 10.14%
Earned on Common Stock 4.00% 1.42% 4.45%

*Misc. rents based on 1916 figures.

freight per mile more than R. I. its fue'
costs per train mile are seemingly 1/6 less.
Is this saving due to lower coal prices or
smaller consumption — i. e., greater locomo
tive efficiency? The Rock Island report
contains an illuminating analysis of its
operating costs per locomotive mile, includ
ing the amount and price of the fuel con
sumed; but since Missouri Pacific omits
this table from its statement, a comparison
on this vital point is impossible. The
reader will hardly excite himself about so
dry a problem as the number of pounds of
coal used per locomotive mile — yet he must
ennium is considerably above the normal
ratio. The same cannot be said for Rock
Island, however, and its claim for a special
maintenance would be based not upon ex
cess upkeep charges, but, if at all upon
the large debit balance for hire of equip
ment in 1915, which was turned into. a sub
stantial credit in the calendar year 1916,
following the outlay of $3,400,000 for
8,000 box cars. It is dubious how recept
ive the Director General will prove to this
plea.
In Table III we have accordingly drawn
up an income account for the two systems,
 274 THE MAGAZINE OF WALL STREET
based upon their guaranteed compensation,
and have added a revised calculation for
Missouri Pacific, assuming a normal main
tenance charge for the three years. This
ratio has been made about 1 per cent, of
gross larger than Rock Island's to allow
for the greater flood menace, referred to at
the beginning.
The figures indicate that in all proba
bility both roads will receive very much the
same treatment from the Government, and
that as long as the present regime continues
there will be little to choose between them.
But when (or if) the properties are re
turned to their owners?
This question brings up at once the
fundamental investment weakness of Rock
Island securities, rising from its defective
bond structure. The road still carries its
"Old Man of the Sea"— the Refunding
Mortgage. Since this issue is limited to
4 per cent., it is a perfectly useless instru
ment under present circumstances, yet by
prohibiting either senior or junior liens on
the property it effectually
prevents any
other means of permanent financing — an
essential requirement for a lustily growing
property like Rock Island. As long as such
a condition obtains, the financial position
of the road must always be precarious —
especially since the Refunding 4s them
selves mature in only 16 years. The hold
International Paper's Sensational
Earnings
Company War-Prosperous — Question of Assets Values —
Funded Debt and Working Capital
Bv MKREDITII
International Paper Company
was incorporated at about the
HHK
time when industrial combines
were being put together in great
numbers, and although it covered a very
large slice of the paper field, it was until
recently one of the least successful of these
large amalgamations.
The company began business in 18°8 as
ers of this issue were offered a larger inter
est rate if they would consent to a modifica
tion of their indenture, but refused — a de
cision which many hold to have been detri
mental to their own interests as well as
that of the other security owners.
Comparative Position
To summarize our analysis we find that
Rock Island enjoys important advantages
in lower capitalization, larger earnings, and
higher rates; but that these are fullv
neutralized by Missouri Pacific's greater
operating efficiency. While Rock Island
may-— and should — improve its results by
raising the train load and reducing its fuel
costs, it faces a more serious handicap in
the lack of a medium for financing its large
requirements.
Consequently, if Rock Island were still
under private control, only a period of un
interrupted prosperity could totally remove
the menace of another reorganization. Full
dividends are now being paid on its 7 per
cent, and 6 per cent, preferred — which are
both cumulative up to 5 per cent. — but so
far no payment has been made on the Mis
souri Pacific 5 per cent, issue, which be
comes cumulative on June 30 next. Rock
Island common seems nearer to a dividend
than Missouri Pacific common, but its ulti
mate future is more uncertain.
C. LAFFKY
a merger of nineteen "concerns scattered
throughout Maine, Massachusetts, Vermont,
New Hampshire and New York.
Subse
quently the International acquired large
stock interests in eleven other companies
owning several mills and very extensive
timber tracts and undeveloped water power
rights. This proj>erty, including that of
the parent company, aggregates about
 Will War Taxation Affect Dividends?
How Prospective Govt. Levies Will Affect Earnings — British
Taxation — Important Question of Cash

By BENJAMIN GRAHAM

INANCIAL writers should
proach the subject of war taxes
in a humble and contrite spirit,
remembering their ill-starred pre
dictions of last October when the present
act was passed. In those days no publica
tion was complete without a brief list of the
1917 taxes to be paid by the larger corpo
rations — most of which figures can now be
mildly described as inaccurate. For ex
ample, statisticians were agreed upon a tax
of $110,000,000 for U. S. Steel and about
$10,000,000 for Utah Copper — in the first
case one-half, in the other double the com
panies' subsequent figures. If such bizarre
prophecies were made then, when both the
earnings and the revenue act were fairly
well determined, what dangers must attach
to a discussion of 1918 taxes at this stage
—when the. profits and the law which levies
on them are alike concealed in the future?
Yet the question of increased imposts is so
important to investors that some general
consideration of the question — though con
fessedly premature and fragmentary — may
ap against the framers of the law for failing
to gauge accurately the results of their leg
islation, an examination of some of the
data at hand bearing upon the taxable in
come of the United States corporations may
be of interest.
Probable Amount of Taxes
The writer has studied the reports of
eighty representative companies, the securi
ties of which are listed on the New York
Stock Exchange, and in Table II
presents
a summary of their exhibits for 1915, 1916
and 1917. Moreover, the last report of the
Commissioner of Internal Revenue gives
TABLE I— BUDGET ESTIMATE OF U. S.
REVENUES FOR THE FISCAL YEAR 1917-18.
I — Indirect Taxes
A— Custom duties $220,000,000
B— Internal revenue—ordinary . 448,000,000
C — Internal rev. — war taxes... 527,000,000
D— Miscellaneous 273,800,000
Total indirect $1,468,800,000

still have its utility. II— Direct Taxes

Stockholders would dearly like to know: A— Individual income $666,000,000
B— Corporation income 535,000,000
(1) How much taxes will be increased; C— Excess profits 1,226,000,000
(2) How the new rates will compare with
earnings; and chiefly (3) How they will Total direct $2,427,000,000
affect dividends. The answer to the first
Total revenue
query has been officially suggested by Mr.
$3,895,800,000

McAdoo, who calls for double the 1917

levies, to produce a total revenue of $8,-
000,000,000. For- Congress, to hear is to
obey; eight billions is now the watchword.
But how were last year's $4,000,000,000
raised? The Treasury budget for 1917-
1918 classified the year's receipts as shown
in Table I.
Direct taxes were thus expected to sup
ply over $2,400,000,000 or 64 per cent, of
the total revenue. Numerous statements
have been made to the effect that the re
turns indicated a much larger aggregate
than the budget estimates — the most recent
figure having been set at $2,750,000,000.
Since much criticism has been directed
(391)
the total earnings in 1915 and 1916 of all
corporations in the United States (of which
204,000 paid taxes for 1916). I have car
ried out the figures for 1917 by applying
about the same percentage of increase as
is shown by the eighty companies whose
1917 reports are available. It has been
thought best to exclude the U. S. Steel re
turns from this computation, since its enor
mous size would obscure the showing of
the other diversified enterprises which to
gether afford a better indication of the state
of general industry.
According to our figures the 1917 taxes
will have been levied against a total corpo
392 THE MAGAZINE OF WALL STREET

rate income of around twelve billion dol
lars. If the I&y2 per cent, rate of excess
profits tax shown by our eighty companies
were applied to the whole country, it would
raise no less than $2,120,000,000. This
figure is doubtless much too high, since the
smaller companies are sure to pay a lower
rate of tax than the larger enterprises. But
after making due allowance for this fact,
it is evident that the Treasury's estimate of
$1,226,000,000 (which includes excess
profits tax payable by individuals and part
nerships) must have been far below the
mark. We are inclined to place the 1917
How Taxes Compare with Earnings
We have next to inquire how these taxes
will compare with corporate earnings in
1918 — the answer depending of course on
the relation of this year's profits to those
of 1917. From the various returns already
made for the first quarter of 1918 it would
appear that fixed prices and rising costs
are reducing the income of the coppers; but
that most other industries (e. g. steel, ma
chinery, chemical) are doing quite as well
as last year — at least after making allow
ance for the January weather. The tre
mendous Government expenditures pro-

TABLE II— COMPARATIVE INCOME ACCOUNT OF U. S. CORPORATIONS.

B' C
81 Representative 80 Companies AllU. S.
Companies (Excluding U. S. Steel) Corporations
Net income, 1915 $386,600,000 $310,800,000 $5,847,000,000
Net income, 1916 829,900,000 558,400,000 9,086,000,000
Per Cent increase, 1916 over 1915.... 115% 70%
Net income, 1917 before taxes 1,203,600,000 745,900,000 •12,000,000,000
Per Cent increase, 1917 over 1916 45% 34% 31%
Excess profits tax, 191 7 357,300,000 138,000,000 *1,500,000,000
Income tax, 1917 50,600,000 36,400,000 630,000,000
Balance after taxes, 1917 795,700,000 571,500,000 9,870,000,000

•Estimated.

excess profits tax on corporations alone in
the neighborhood of a billion and a half.
In any case, the estimate of $535,000,000
for the corporate income tax is obviously
inadequate, since it must have been derived
by applying the 6 per cent, rate to the 1916
returns of $9,000,000,000 net income—
without making any provision for the in
crease in 1917 earnings over the previous
year.
The above discussion is pertinent, since
if thepresent tax rates turn out to raise
more than anticipated, they will require a
less drastic increase to bring their results
up to the new requirements. Our reason
ing suggests that the 1917 income and ex
cess profits taxes — individual and corpo
rate — will pass three billions, of which the
companies will contribute about 70 per cent,
or $2,100,000,000. If
now we assume that
these direct taxes will be called on to raise
five billions of the eight to come from all
sources, then the corporations will be po
litely relieved of, say, $3,500,000,000; this
is just two-thirds more than we estimate
their payments for 1917.
jected are themselves an important factor
making for a greater volume of business;
and the authorities are apparently leaning
toward a policy of continued high prices,
large profits and heavy taxes. Observe in
this connection that the increase in the
earnings of our eighty companies for 1917
over 1916 was so marked as to more than
compensate for the huge Government levies
— rendering ridiculous the once prevalent
fear of vanishing prosperity. Because of
this experience the stock market is await
ing the new taxes in a calmer mood.
There is reason to believe therefore that
corporation profits subject to 1918 taxes
will be equal to or at least not much below
the 1917 figures. This brings us to the
last and most important question: How
will increased taxes affect dividends? The
reader would like to know specifically how
much the taxes of "his" companies could be
raised without necessitating a cut in divi
dends. In Table III
this information is
supplied for every listed dividend paying
industrial which has reported its taxes for
the 1917 calendar year. The first column
 WILL WAR TAXATION AFFECT DIVIDENDS? 393

TABLE III— THE RELATION OF TAXES TO DIVIDENDS AND EARNINGS (in Thousands).
A complete of all listed dividend paying industrial common stocks which have reported
table

AD
their war taxes for the year ended Dec. 31, 1917, or later.
(Column E shows the percentage by which 1917 taxes could be increased before reducing the
balance of earnings below present dividend requirements).
C D E
1917 Earning! Balance Ratio of Surp'i
Applicable 1917 Present Common of 1917 Earn- Earning*
Name to War Taxes War Dividend Requirements. ings After 1917 to 1917
of and Common Taxes f •—* N Taxes and Pres- Taxes
Company. Dividends. as Reported. Rate. Amount ent Dividends. (D to B).
Ajax Rubber $1,995 $495 $6 $852 $648 131%
Am. Beet Sugar 4,162 1,327 8 1,200 635 123
Am. International 4,585 839 3.60 1,800 1,946 232
Am. Smelt. & Ref 19,219 3,850 6 3,660 11,709 304
Am. Steel Foundries. .. 7,820 2,288 7 1,203 4,329 189
Am. Woolen 11,083 3,000 5 1,000 7,083 236
Associated Oil 4,214 373 5 1,987 1,854 497
Atlantic, Gulf & W. I.. 14,282 5,400 10 1,796 7,386 £136
Booth Fisheries 2,257 625 2 500 1,132 181
Calif. Packing 6,870 1,300 4 1,356 4,214 324
Calumet & Arizona.... 10,095 1,683 8 5,140 3,272 194
Central Leather 18,074 6,000 5 1,985 10,089 168
Cerro de Pasco 12,052 1,648 5 4,540 5,864 356
Chino Copper 10,745 1,2:) 2 4 3,480 6,033 489
Cluett-Peabody 2,463 423 6 1,080 960 227
Consolidation Coal 10,002 1,491 *9 3462 5,349 359
Continental Can 3,725 850 6 810 2,065 243
Diamond Match 5,028 1,103 8 1,35 7 2,568 233
Distillers 6,013 1,233 8 2,464 2,316 188
Eastman Kodak 18,173 4,000 *30 5,861 8,312 208
Elec. Storage Battery... 2,478 450 4 650 1,378 306
Elkhorn Coal 1,438 108 2 480 850 787
General Chemical 10,482 1,800 17% **2,439 6,243 348
General Electric 34,192 7,289 *12 13,680 13,223 181
General Motors 33,532 6,939 12 9,912 16,681 240
Goodrich 10,947 2,250 4 2,400 6,297 280
Gulf States Steel 3,731 1,000 10 1,125 1,606 161
Ingersoll-Rand 8,613 3,453 30 **3,268 1,892 54
Inspiration 12,266 1,185 8 9,456 1,625 137
Int. Harvester of N. J.. 22,720 7,880 7 2,800 12,040 153
International Nickel.... 13,186 3,591 4 6,422 3,173 88
Island Creek Coal 2,867 900 10 1,188 779 87
Kelly-Springfield 2,436 430 4 785 1,221 284
Kennecott 18,190 584 4 11,148 6,458 1,110
Kresge 2,221 500 5 500 1,221 244
Kress 1,555 370 4 480 705 190
Lackawanna Steel 26,147 10,040 'II 3,861 12,246 121
Lorillard 6,237 1,100 *18 **2,728 2,409 219
Manhattan Elec. Supply 617 128 5 120 369 188
Manhattan Shirt 843 175 4 200 468 267
May Dept. Stores 3,372 850 5 750 1,772 208
Miami Copper 4,952 717 4 2,988 1,247 174
Midvale Steel 61,310 25,732 6 12,000 23,578 88
National Acme 5,164 1,500 6 1,500 2,164 144
National Biscuit 3,586 700 7 2,046 840 120
National Cloak & Suit. 2,204 524 5 600 1,080 206
National Lead 3,685 493 6 1.210 1,952 396
Nevada Copper 10,669 896 3 • 6,000 3,773 421
Old Dominion 1,789 304 4 1,188 297 98
Pacific Mail 2,336 900 3 690 746 83
Pierce-Arrow 3,960 1,162 5 1,250 1,548 133
Pond Creek Coal 1,393 600 2 418 375 63
Railway Steel Spring.. 7,963 3,500 5 675 3,788 108
Ray Consol. Copper.. 10,758 1,431 3 4,731 4,596 321
Republic Iron & Steel. 22,704 8,597 6 1,630 12,477 145
Sears-Roebuck 18,444 3,977 8 6,000 8,467 213
ShaHuck-Amona 1,634 189 1 350 1,095 580
394 THE MAGAZINE OF WALL STREET

Sloss-She ffield 2,002 325 6 600 1,077 331

Stewart-Warner 2,210 340 6 600 1,270 373
3,293 560 4 1,200 1,533 274
3,347 931 6 360 2,056 221
Tidewater Oil 7,748 762 •18 5,742 1,244 166
Transue & Williams. . . 1,240 360 S 500 380 106
Underwood Typewriter 2,752 500 •11 945 1,307 261
Union Bag & Paper. 2,658 556 •10 1,000 1,102 200
United Alloy Steel... 5,878 1,500 4 2,150 2,228 148
United Cigar Stores. 3,106 550 8 2,173 383 70
2,409 343 s 752 1,314 383
U. S. Indus. Alcohol. 11,794 5,234 16 1,920 4,640 89
U. S. Smelt. & Ref.. 2,495 692 5 1,755 48 7
U. S. Steel 432,465 233,465 •17 86,411 112,589 48
33,710 4,381 10 16,245 13,084 298
Wegtinghouse Electric.. 15,350 2,500 3.50 4,957 7,893 316
White Motor 5,860 1,030 4 1,280 3,550 145

'Includes extras.
**1917 Dividends. Present rate uncertain.

shows 1917 earnings available for taxes
and common dividends, the reported fig
ures having been adjusted to present pre
ferred dividend requirements. In the case
of the coppers no deduction is made for ore
depletion, since most companies omit it
from their statements as a bookkeeping en
try made for tax purposes only. Next are
shown the war taxes as finally reported, in
some cases slightly overstated through the
inclusion of other minor items. There fol
lows the annual rate and total amount of
the common dividends on the current basis
(which in quite a few cases have been re
duced below the 1917 disbursements), and
the balance of last year's earnings after
deducting both present dividends and the
reported taxes. The last column shows the
ratio of this balance to the stock — in other
words the percentage by which the tax
could be increased before the surplus above
dividends is wiped out.
A study of these figures discloses some
interesting facts. Of the seventy-five com
panies only nine report a margin above div
idends less than their 1917 taxes — that is,
all the others would have met twice their
last year's tax without bringing their earn
ings below present dividend requirements.
Seven of the nine exceptions were in the 60
per cent, class, being thus physically im
mune from a doubling of their contribu
tions.
Comparison with British Tax
In this connection a word or two about
the British excess profit tax is appropriate,
since it is quoted approvingly by the rad
icals for its 80 per cent, rate, and by the
conservatives because it taxes not large
profits but war profits. The English law
is far simpler than ours. It provides an
exemption equal to the average earnings of
the two best years of 1911, 1912 and 1913,
with a minimum (for corporation?) cf 6
per cent, of the invested capital —the latter
to be determined apparently by investiga
tion. The exemption is increased by 6 per
cent, of all new capital invested during the
war. All earnings above this exemption
are taxed 80 per cent, but allowance is
made for special depreciation of war plants
and for ultimate loss in the liquidation of
inventories.
How would so drastic a tax as tdis affect
American companies? United States Steel,
which is hardest hit (both relatively and
positively) by the present law, should pro
vide an extreme example of the effect of the
British act Assuming 1917 earnings for
this year, the calculation is shown in
Table IV.
The severe British tax would leave U. S.
Steel about $25 per share for the common,
one and one-half times the present dividend
rate.
The Question of Cash
It may be regarded as settled that the
new taxes will not in general reduce earn
ings below dividend requirements; but that
fact by no means proves that the present
rates will therefore be maintained. It is
not earnings but cash that finally deter
mines dividends. Profits mean cash, pro
vided they are not tied up in (1) Plant, (2)
Inventory, (3) Accounts Receivable. Since
corporations are finding it very hard to
 WILL WAR TAXATION AFFECT DIVIDENDS? 395

borrow to finance increases in these assets, (devoutly to be wished!) would help out
their earnings must first be applied to their the accounts receivable situation. Finally,
capital requirements before dividends are if prices do not rise above the present level,
perhaps the headlong growth of inventories
TABLE IV. will at length be checked. These are the
BRITISH bullish possibilities of the cash question.
EXCESS PROFITS TAX APPLIED
TO U. S. STEEL Upon these elements ultimately, rather
than upon the new taxes, would seem to de
(Assuming Earnings for 1918 the same as in
1917) pend the course of dividends. The taxes
Average Earnings 1911 and 1913 $65,567,000 are of great importance, of course, as ab
Add 6% of New Capital sorbing a large part of the cash receipts.
($380,627,000) 22,838,000 The writer thinks that the greatest aid
could be extended to industry by permit
Total Exemption $88,405,000
Net Earnings (1917) 457,864,000 ting as much as possible of the tax pay
Subject to Excess Profits Tax 369,459,000 ments to remain with the corporations,
Excess Profits Tax (80%) 295,567,000 either in settlement of Government work
Income Tax (6% of balance) 9,738,000
already done or as advances against future
Total Tax $305,205,000
deliveries. In this wise, financial strin
Balance for Pfd. Dividends 152,555,000 gency would be spared the industrials, just
Balance for Common 127,335,000 as the banks are protected by the policy of
Per Share $25.50 leaving Liberty Loan and tax payments on
deposit with them. The fact that the Gov
considered. To a great extent, therefore, ernment is going to owe the corporations
dividends will depend upon the success of much more than they will owe the Govern
corporations in restricting these items. If ment should make an arrangement of that
the war plant extensions are built by gov kind entirely practicable.
ernment funds — as seems to be the tendency All of which means that if the money
— the first part will be taken care of. The situation is successfully taken care of, cor
United States will be the chief customer of porations should be able to meet the tax
the large industrials, and prompt payment situation without harm to dividends.

THRIVING ON MYSTERY
There is always fascination about a mystery. What is the mystery about
New Haven?
Something over six months ago, the Block sold at 21^. Today it sells at
double this price. If the $43,000,000 of notes due in April of this year had not
been met by the Government, the only recourse of the road would probably
have been a receivership.
A New Haven stockholders' committee is now seeking proxies for the ap
pointment of a suitable person to prosecute, at the road's expense, a suit now
pending against former directors to compel them to restore to the company
something like $150,000,000, giving as a reason alleged mismanagement.
There are also rumors that the New Haven is to constitute the big Atlantic
Terminal of a regional system comprising, in addition to itself, the New York
Central and the Chicago, Milwaukee & St. Paul. There is no system in the
United States which has more wonderful power of recuperation than the New
Haven. i >, •
<\ '•. \
Yean ago, the Lake Shore Road went through a somewhat similar experi
ence. The stock of that road was finally taken over by the New York Central
at something like $1,200 per share when it was absorbed into the New York
Central system.
If half what is said about New Haven prospects and its ability to come back
is true, there is no telling where the stock may go. — Odd Lot Review.
 War Taxation and Cash Position
of Industrials
Will Industrials Have Cash to Meet Taxation Plus Dividend
-
Requirements?—Comparison of Cash Holdings
of Leading Companies
By BENJAMIN GRAHAM
N my recent article “Will War their profits, and although the largest part
Taxation Affect Dividends?” these surplus earnings has gone directly

of
which appeared in the June 22 into working capital, nevertheless the cash
issue of THE MAGAZINE OF WALL position these companies

of

of
most much

is
STREET, the conclusion was reached that less comfortable than was four years ago.

it
increased taxation would not in general The force of this statement can be realized
bring earnings below current dividends, but only through concrete example. As one

a
that nevertheless it might render reductions fifty possible illustrations we have tran

of
its

necessary through effect upon the com scribed (in Table the working capital

I)
panies' cash position. position

of
The latter factor

at
American Steel Foundries the
the subject the following discussion, is end of 1913 and 1914—the best and worst
of

original years before the war boom started—and

of

which thus continuation

is

the
a

inquiry into the dividend December 31, 1917.

of
prospects The first
of

as
the also
industrials. striking fact the tremendous expansion

is
No aspect the present economic every item except cash assets. (The lat
of

of

intelligently considered, ter term throughout this article will

be

be
situation can taken

TABLE I_DEVELOPMENT OF THE CURRENT ASSETS POSITION OF TYPICAL IN

A
DUSTRIAL–AM. STEEL FOUNDRIES.
Dec.31, 1913 Dec. 31, 1914 Dec. 31, 1917
Gross Business
...

$17,426,000 $11,125,000 $49,370,000

.
.
.
.
.
.
.
..
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Cash Assets 1,357,000 1,859,000

...

2,017,000
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Inventories ... 1,635,000 2,035,000 7,353,000

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Acc’ts Receivable, etc. ...................... 3,157,000 1,694,000 8,835,000

Total Current Assets ............... 6,149,000 5,588,000 18,205,000
.
.
.
.
.
.
.
.
.

Acc’ts Payable, etc. .*... 1,014,000 876,000 2,723,000

,
.
.
.
.
.
.
.
.
.
.
.
..
.
.
.
.
.
.
.

Notes Payable ... 3,125,000

.

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

.
.
.
.
.
.
.

.
.
.
.
.
.
.

Accrued Taxes .............. _- _2,462,000

*

_*
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-

....................
.
.
.
.
.
.
..

-
-
-
-
-
-
-

Total Current Liabilities 1,014,000 876,000 8,310,000

Working Capital ............................. 5,135,000 4,722,000 9,895,000
Working Capital Gross.......
of

Per Cent
to

29.5% 42.4% 20.0%

-

include call loans and marketable securi

at

to

unless understood
the outset that the
is
it

us

or

Steel Foundries' cash assets have

as

past entirely lost guide ties.)

to
is

criterion. Financially and commercially grown moderately while everything else has
another world, where old val multiplied three and fourfold.
as

we live We note
in

ues and old laws no longer obtain. further that net current assets have in
by

Less Comfortable Cash Position $5,170,000, $30 per share—

or

creased
but that nevertheless the current liabilities
Especially connection with the present
in

larger proportion liquid assets

to

inquiry must this underlying principle bear

be

stressed; because while since 1914 the cash than ever before. Of chief importance,
finally, the fact that while
in

1914 cash
is

our industrials have expanded

of

resources
assets alone were more than double all
enormously, the demands upon these re
working liabilities, yet 1917, after two
in

even more rapid

an

sources have grown

at

rate. Hence the strange but vitally impor wonderfully prosperous years, the company
tant conclusion—that although industrials finds itself with cash assets less than one
its

have retained extraordinary quarter

of
of

sums out current liabilities.

(541)
542 - THE MAGAZINE OF WALL STREET

Working Capital Versus Cash proper light—

by its
liability appears here

in
own weight

its
which

as
This illustration shows clearly that in not burden

a
these times an industrial's cash position and alone can cripple the dividend power, but
which super-added the heavy demands

by

to
working capital position are
its

no means
expanding business may prove

an
kind

of of
has long been

a
one and the same thing.

It
finishing blow.

or
the custom treat “net current assets” as last straw
to

practically perfectly evident, therefore, that sur

It
of
control over

is
the measure
not necessarily mean sur

do
ready money. This viewpoint has been plus earnings
substantially correct the past, because in plus cash. The cash account and the
in

ventories and accounts receivable were income account have followed separate

a
and often contrary course. But, repeat

by

to
largely convertible into cash—if not sale
any rate through bank ac what needs constant repetition, the

it
is
collection,
at
or

In
commodation. One would therefore have cash account that pays the dividends.
called Steel Foundries' financial condition the past development and present condition
stronger 1913 than 1914, directly because of the cash account we must look for the
in

the dividend prospects in

of
working capital was about per cent. the
10

to
clue
dustrials.
larger. For although cash assets alone were
II

to
the previous year, Table contains what the writer's
in

somewhat less than

li
the only published effort

to
knowledge
of

they were still all current

in

is
excess
determine what part

of
abilities; the company owed nothing the industrials'
to

the
banks, and was evident that money could earnings have been actually available for
it

TABLE II—NET CASH RECEIPTS COMPARED WITH EARNINGS.

(In Thousands.)
U.

Companies—Excluding
S.
52

Steel.
1917 1917
- (Excluding (Deducting
1915 1916 Taxes) Taxes)
Earned for Common Stock... $208,918 $382,065 $496,491 $381,133
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Dividends Paid on Common. 99,368 152.641 166,884 166,884

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Assets Increased 70,933 24,916. 49,729 *65,629

Cash
.
.
.
.
.
.
.
.
.

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Earnings Available 170,301 177,557 216,613 101,255

Cash...
in

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
. .
. .
.

Inventories Increased 36,135 163,195 214,087 214,087

.
.
.
.
.
.
.
.

.
.
.
.
.
.
.
.
.
.

.
.
.
.
.

Total Earnings Available 46.4% 43.6% 26.5%

in

81.5%
of

Per Cent. Cash

*Decrease.

But net cash receipts.

of

'easily have been borrowed dividends,

in

needed. the form

if

of

far different proposition from The figures represent the aggregate over
is

1917
a

all

The company obligated fifty companies—practically the listed

to

the
is

1913.
banks for large sums; the inventories and stocks for which complete data obtain
is

liquidation;
no

signs able. United States Steel has been omitted

of

receivables show
and the plain fact that the company's from this compilation, because—for reasons
is

pointed out little later—its exhibit has

its

business, and hence cash requirements,

a

re
its

have grown cash run counter the general tendency, and

to

much faster than

would, there
its

SOur CCS. through enormous size

it

American Steel Foundries has not been fore, have nearly neutralized the combined
Ob
all

the other enterprises.

of

singled out target for bearish criticism. influence

as
a

its

On the contrary, the writer believes that the table how each year smaller
in

serve
a

capitalization proportion the profits have been avail

of

ultra-conservative structure
cash. Note finally that
as
as

of

and large accumulated well current

in

able the form

on
at

profits make this stock exceptionally had the war taxes been due December
tractive from the investment standpoint. $166,000,000
of in
of

31, the disbursement

The above analysis was intended dividends would have meant reduction
to

show
a

$65,000,000 cash assets for the year,

in

the most prosperous industrials

in

that even
six

this very
Of
of

there are elements—growing out the months intervening be

in

course
prosperity—which make for cash stringency fore tax payments June the companies
in

The tax working strenuously put their

to

-ad may even threaten dividends. have been

 WAR TAXATION AND CASH POSITION OF INDUSTRIALS 543

by
drawing

on
cash account in better shape for the ordeal. rate their treasury funds.
Undistributed Profits? Class III
contains all other companies.
Being relatively short cash and with re

of
But where have the large undistributed ceipts less than requirements, these are nat
profits gone if not into the cash account? In urally re

as
the most precarious position

in
plant extensions, slightly; in accounts re gards the continuation the present rate.

of
ceivable, largely; but in inventories most of

In
examining this classification by
all. Table II
shows clearly how most of groups industries, one particularly im

of

is
the missing earnings are accounted for by pressed with the strong showing

of
the
the yearly growth of inventories. The total coppers. Of eleven companies represented
figures for 1914-18 given in the graph indi I–i.

e.,
all but one are Class are receiv

in
cate that stocks on hand have almost exactly
doubled since the beginning of the war.

its
U. S. Steel, however, has held increase
GROWTH OF INVENTORIES
only 40 per cent., wherein lies the
of to

down
52 CO’S U.S.STEEL.

8.
exceptionally strong cash posi
its

secret
Obviously |9|4 1915 1916 |9|7
the growth
of

tion. inventories
due only slightly larger quantities, and
to
is

almost entirely higher prices.

to

Before considering what light this exhibit

on

future prospects might

be

so to

sheds well
it

more specific form,

in

submit our data

that the individual concerns can be consid
ered on their merits. Table III
continues the
corresponding detailed tabulation the pre
in
of by

vious article, comparing the net cash re

ceipts
74
of

listed com
in

1917 each the

5

panies with their present dividend and 1917

tax requirements. Moreover, since divi
dends will depend not only upon the year's
on

cash, but also the general

to

additions
cash and current assets position, the table
an

completed with analysis

of

each com
is

pany's working capital. Sheel

T
.S

Grouped Three
in

Classes

We find that the industrials group them

selves into three classes with reference to
their dividend possibilities.
Class includes concerns whose net cash
I

receipts 1917 exceeded present dividends ing more cash than they need. Their posi
in

and 1917 tax requirements. tion even more favorable than indicated
is

These should
maintaining
no

large part
of

general find difficulty their inventories

in

in

because
a

dividends unless earnings fall off con immediately salable copper—a

of

consists
siderably. much more liquid asset than the average
Class embraces those whose cash re
II

goods. The steels

of

manufacturer's stock
ceipts were less than required for dividends are equally divided between the first two
and taxes, but which are nevertheless classes, and hence are sound financial
in
in

strong financial condition. The latter fact shape. On the other hand the rubber com
by

ar
an

had necessarily panies, chain stores and mail order houses,

be
to

determined
bitrary standard—which we have fixed the motors (except General Motors), and
to, as

the possession cash assets about equal varied list of other concerns fall into Class
of

exceeding, one-half lia III. Their dividends are likely par

be
of

to
or

total current
cash receipts should in ticularly susceptible develop
be

to

bilities. Even unfavorable

if

ments.
in

sufficient for dividends, companies

might the present ordinary receipts,
of

this class continue Outside business

544 THE MAGAZINE OF WALL STREET
TABLE III–CASH POSITION OF THE INDUSTRIALS COMPARED WITH DIVIDEND AND
TAX REQUIREMENTS (in Thousands)
A. B -
Present Net Cash E. F
Dividend and Receipts C D Total Current Total Current
Name of 1917 Tax Available Cash Assets Inventories * Assets Liabilities
Company. Requirements. in 1917. Dec. 31, 1917. Dec. 31, 1917. Dec. 31, 1917. Dec. 31, 1917.
III Ajax Rubber ....... $1,347 $840 $405 $5,425 $8,065 $4,052
II Am. Beet Sugar..... 2,527 82 3,717 4,786 10,260 3,031
II Am. International . . 2,639 742 2,153 2,223 7,588 2,789
II Am. Smelt. & Ref... 7,510 2,571 19,362 43,817 82,098 27,695
III Am. Steel Foundries. 3,491 1,280 825 7.353 16,787 5,848
I Am. Woolen ....... 4,000 8,173 11,255 42,829 78,688 44,555
III Associated Oil ..... 2,360 *2,020 1,673 3,610 9,328 - 4,883
I Atlant. Gulf & W. I. 7,196 11,110- 15,067 240 23,793 5,441
III Booth Fisheries .... 1,125 733
1,518 5,479 11,682 8,531
III Calif. Packing ...... 2,656 514 1,905 5,927 14,889 8,079
I Calumet & Arizona. 6,823 7,399 2,976 4,036 10,255 2,190
III Central Leather ..... 7,985 #50 4.381 63,476 83,853 9,048
I Cerro de Pasco..... 6.188 est.9,000 5,149 5,559 12,618 3,239
I Chino Copper . . . . . 4,712 8,859 3,517 7,106 10,963 2,133
I Cluett Peabody .... 1,503 1,924 1,125 8,278 12.933 4,988
I Consolidation Coal. 4,653 6,988 6,623 2,413 15,698 5,445
III Continental Can..... 1,660 336 915 . 6,278 9,226 4,284
II Diamond Match .... 2,460 #23 1,136 9,202 12,379 1,765
II Distillers ............ 3,697 1,061 3,949 6,240 15,276 3,404
II Eastman Kodak .... 9,861 7,781 17,667 17,774 41,602 8,109
III Elec. Storage Battery 1,100 695 365 4,929 7,932 1,444
II Elkhorn Coal ....... 588 264 . 602 427 2,268 403
II General Chemical .. 4,239 2,467 2,275 9,170 16,342 3,921
I General Electric..... 20,969 20,279 21,191 81.851 154,549 26,384
II General Motors .... 16,851 5,619 20,121 46,559 81,130 22,660
III Goodrich ......... . . 4.650 3,459 2,574 50,736 63,499 33,650
II Gulf States Steel.... 2,125 803 1,810 2,289 5,449 1,435

II Ingersoll Rand ...... 6,721 1,814 3,074 11,824 21,310 6,060

I Inspiration ......... 10,641 $16,769 $12,496 1,932 19,161 4,678

I Int. Harvester, N.J. 10,680 16,335 44,642 44,019 107,226 20,958
II International Nickel 10,013 4,456 6,744 6,825 17,638 7,630
II Island Creek Coal. . 2,088 1.261 1,461 652 3,008
6,605
1,559
Kelly-Springfield 773 3,760 1,629
...

574
III. 1,215
14,182 2,498 5,384 11,281 10,358
Kennecott 11,732
...
I

.
.
.
.
.

III
.
.

Kresge ............. 1,000 641 633 5,198 6,278 2,168

II Kress ...... 850 655 1,890 3,374 5,943 1,452
-
.
.
.
.
.
.
.
.

7,072 8,096 16,965 36,681 16,601

Steel...
I II II II I I I I II II II

Lackawanna 13,901
#9

2,027 21,854 32,314 3,635

P. Lorillard 3,828
.
.
.
.
.
.
.
.

358 1,545 2,587 534

Manhattan Elec. Sup. 248 +225
Manhattan Shirt .... 375 604 611
2,156
2,644 4,130 1,797
May Dept. Stores ... 1,600 1,776 6,652 12,398 4,235

Miami Copper ......

3,492 2,370 6,241 *1,905
3,705 8.404
Midvale Steel ...... 37,732 37,607 46,423 36,758 109,792 37,594
||

National Acme ..... 3,000 est. 2,350 1,302 5,563 9,514 1,971
National Biscuit .... 2,746 2,368 3,618 10,467 19,026 2,319
III Nat’l Cloak Suit... 1,124 603 1,630 5,757 7,837 3,728
&

National Lead ...... 1,733 692 942 8.223 14,739 1,158

Nevada Copper .... 6,896 11.238 5,931 8,575 16,826 2,533
III Old Dominion ..... 1,492 1,121 507 2,776 3,389 2,364
Pacific Mail ........ 1,590 2.361 1,662 75 5,139 2,196
I I II II I

III Pierce Arrow 2,412 989 1,828 14,838 20,418 8,338

.
.
.
.
.
.
.

Pond Creek Coal. ... 1,018 743 962 3.11 1,625 841
Railway Steel Spring 4,175 2,053 4,411 5,113 13,601 4,420
Ray Consol. Copper. 9,322 2,926 7,800 12,936 1,801
6.132
Republic Iron St’l 10,743 18,728 13,476 39,091 13,145
&

10.227
III Sears-Roebuck ...... 9,977 7,800 5,789 36,873 52.792 32,998
Shattuck-Arizona ... 539 1,785 1.981 883 2,870 661
-
II I

Sloss-Sheffield ....... 925 499 1,961 1,662 3,613 1,215

III Stewart-Warner 940 707 208 3,062 4,538 1,120
III
.
.
.
.
.

Studebaker 1,760 1,037 3,376 21,322 34,024 10,847

.
..
.
.
.
.
.
.

Superior Steel ...... 1,291 1,484 2.558 1,043 4,273 1,653

II II I

Tidewater Oil ....... 6,502 5,288 947 5,292 8,588 1,073

Transue Williams. 723
&

860 233 1,677 2,863 613

 WAR TAXATION AND CASH POSITION OF INDUSTRIALS 545

I Underwood Typewtr 1,445 2,243 | 3,012 3.910 10,712 2,822

II Un. Bag & Paper... 1,556 947 443 3,117 4,417 901
III United Alloy Steel... 3,650 77 1.164 6,572 11,724 4,561
III United Cigar Stores. 2,723 1,391 1,982 10,021 13,272 5,684
III United Drug . . . . . . . 1,095 528 1,132 10,593 14,789 4,745
III U. S. Ind. Alcohol.... 7,154 5,648 3,070 4,312 11,045 8,816
III U. S. Smelt. & Ref. . 2,447 #1,708 1,641 12.884 17,493 8,788
I U. S. Steel.......... 319,876 328,262 466,369 223,668 799,997 340,352
I Utah Copper . . . . . . . 20,626 28,584 16,361 17,747 38,340 8,054
III Westghse El. & Mfg. 7,457 1,753 8,919 60,549 98,710 38,315
III
...

White Motor 2,310 116 824 9,638 15,591 2,587

.
.
.
.
.

Total $686,922 $648,099 $859,491 $1,136,613 $2,535,535 $892,821

||
.
.
.
U. ..
.
S. ..
.
.
.
.

Total (exclág S't.) 367,046 319,837 393,122 912,945 1,735,538 552,469

§Copper included by Co. Cash Assets. *Tax Reserve

in
#Decrease. added.

cash can be increased from three sources— bility

it
“conserving cash” impressing

of

is
the public, the banks
and the Government. self upon many directorates. The writer

an
open only the scrip dividends—either
of

in
The sale
to

as by of
securities foresees era
is

strongest enterprises, and almost prohibi stock, paid Cosden Company, con

or
as
at

tive rates of interest. Yet some concerns—

of
vertible notes, the case American

in
such as the Armours—find more feasible Tobacco or Maxwell Motors.
it

borrow from the public than from the The general dividend situation must
to

banks, their indebtedness regarded highly uncertain.

be

institutions

as
to

therefore
unwieldy total. important
so

having reached But

in
to
If

our bear mind that

is
it

an a
a

banking resources are not really strained single disbursement—whether marking

it

because the Federal Reserve Act has so

of or

increase decrease—does not establish

is

enormously enlarged our lending power. scrip dividend

or
the value stock.
A
a

a
The huge lines credit already extended reduced rate may signify better business
of

to

most industrials have bred cautious spirit rather than worse. Each case must be
a

on

its

judged the earnings are

in

banks; increases—although
If

the and merits.

legitimate and necessary—may going into salable inventories (covered by
be

difficult
to obtain. significant unfilled orders) and well protected accounts
to
It

recall the
is

.
warning receivable, relatively low dividend return
of

of

President Work the Goodrich

a
do

may justified. This evidently true

be

of
Company, might
be

to

that better less

is
it

business rather than borrow more money. Republic Iron Steel. Here the investor
&

feels that the large equities accumulating

Possibilities of Federal Aid
more importance than the current rate
of

are
There left the Government as last re of disbursement.
is

in
by

Either indi has already been pointed out that

or

source. direct advances

It

rectly through the War Finance Corpora creased war taxes will exert their influence
tion, Washington can make matters easier
as

single factor but

as

not new burden

a

for al
an

the nation's industries. Advances superposed upon already difficult cash

ready appear The future will depend largely
in

various balance sheets, and situation.

likely that the practice will steadily upon the degree assistance extended by
is

of
it

grow more general. The War Finance Cor the Government through its various agen
poration has thus far confined Some dividends will certainly suffer
its

activities cies.
public utilities, and
to

—the most vulnerable cases being presented

of

the aid too

is
it

early will discharge by the companies grouped by III

to

in

determine how well Class

it

its primary function our analysis. Considering the high rate

of

meeting the current

of of

and temporary needs industry. dividend return now prevalent, reductions

hope that as dictated by caution may not seriously im
It

probably too much

to
is

sistance from these quarters will suffi pair the value

be

security. the margin

of

If
a

cient
to

carry all the companies unscathed above taxes large and the surplus earn
to is

through another year feverish activity ings devoted safe and profitable uses, the
of

and increasing financial strain. Signs are investor might welcome resultant decline
a

not wanting affording the cpp.cº

re

market quotations
in

in

as

the numerous dividend

ductions already announced that the advisa tunity for attractive purchases.
 Secrets of Invested Capital
Tangible Assets as Revealed . by the War-Tax
Real Versus Book Values
By BENJAMIN
T 1
|
HE War Revenue Act of last Oc-
tober established certain rela
tions between the Invested Capi •
tal, the Net Earnings and the
Excess Profits Tax of a corporation, so
that if any two of these elements are
known the third can be deduced from
them. Consequently in those cases
where a company has accurately reported
its earnings and tax reserve, a set of
formulae can be employed to determine
what figure it has used for its Invested
Capital in making its tax return.
Needless to say, the Capital reported
to the Treasury Department is often very
different from that shown in the balance
sheet. The published valuation of a com
pany's plant account will rarely reflect its
original cost, but includes usually un
stated amounts of a commodity variously
termed "good will," "intangible assets,"
or simply "water." But the Invested
Capital figures we obtain from the War
Tax Reserve are based upon the actual
cash outlay and thus enable us to deter
mine the tangible asset value of the pre
ferred and common stock.
Before considering the individual is
sues it might be well to discuss the im
portance of the information we are seek
ing.
Only a few years ago the average in
dustrial common stock was little more
than a vehicle for speculation. Its market
price was determined primarily by man
ipulation. The only factors of intrinsic
worth that received any consideration
were current earnings and future pros
pects. It was taken for granted that the
issues had little or no tangible value ; the
exact amount of water in the capitaliza
tion was of small importance; and it
made little difference whether the good
will was plainly stated — e.g. as by Good
rich — or concealed in the plant account
as in the case of U. S. Rubber.
Importance of Tangible Values
But the war has rapidly been trans
forming these out and out speculations
(772)
Reserve —
GRAHAM
into semi-investment and even pure in
vestment issues. Hence the public is
gradually coming to apply investment
standards to determine their value, and
the question of their tangible asset back
ing is finally assuming considerable im
portance. A dozen times a year we are
regaled with analyses of U. S. Steel
Common's tangible asset value, showing
that all the pristine water has been care
fully evaporated and replaced by "bricks
and mortar." The Goodrich balance
sheet is now eagerly scrutinized to find
out what progress is being made towards
substantiating the once completely
etheral common.
There are many circumstances to jus
tify the newly awakened interest in tan
gible values. The most obvious of these
is the tax law which differentiates
sharply between real and imaginary as
sets, penalizing water heavily through
higher levies. But this is only one as
pect of the whole fabric of government
control, which in fixing prices and com
pensation looks behind the balance sheet
figures to the actual cash investment in
volved in each enterprise.
A perhaps more important element is
also involved. With the largely in
creased capacity of our plants we may
eventually enter a period of severe com
petition in which profits will be restricted
to a reasonable return on the value of the
producing assets.
For these reasons the question of real
capital invested must be differently re
garded than in 1912. It is no longer a
matter of slight importance that Good
rich reveals and U. S. Rubber conceals
the tangible value of its common stock.
Whatever clues the 1917 Tax Reserve
can afford us towards securing such in
formation should therefore be entitled to
clue attention, even if in some cases they
be incomplete or approximate. We pro
pose, therefore, to work backwards from
the Tax Reserves of leading industrials,
to see what we can learn therefrom as
 SECRETS OF INVESTED CAPITAL
.o the tangible value of their common
stocks.
Lack of space prevents a complete
exposition of the mathematical process
involved in determining the Invested
Capital, so that only a few of the more
important points can be touched on here.
Since the typical Tax Reserve represents
the sum of the Excess Profits and 6%
Income Tax, it is first of all necessary to
separate these two elements —as is done
in the formulas herewith (the accuracy
of which can easily be verified by prac
tical tests.)
FORMULA A
Excess profits tax=
In formula A we have two known
factors — the Net Income and the Ex
cess Profits Tax— from which the un
known quantity (Invested Capital) re
mains to be determined. For this
purpose a series of five formulas
have been constructed, correspond
ing to the five "brackets" or rates of
tax, — varying from 20% to 60%. In
the case of General Electric for example,
which reaches the 35% rate, formula
B is employed :
3500Xnet income— lO.OOOXexcess profits tax
Invested capital
In this instance, the exemption evi
dently stands at the maximum, —9%.
Where the pre-war profits fall some
where between 7% and 9% of the Cap
ital, the exact rate of exemption must be
determined by trial and error. Readers
interested in checking over results can
easily do so by applying the proper rates
of tax to our figures for Invested Capital
given herewith. The Excess Profits and
Income Tax levies thus obtained will be
found to correspond almost exactly with
the company's stated Tax Reserve.
Method Employed
With this article appears a table
showing the invested capital
773
number of important companies, the
amount of good-will included in their
assets, and finally the tangible value of
the common stock as of December 31st
last, compared with the present market
price. The steel and equipment issues
are omitted from this table since they are
reserved for treatment in a subsequent
issue. It must be remembered in connec
tion with our results that their accuracy
is directly dependent upon that of the
Tax Reserve as published by the com
pany considered. In cases where a larger
reserve than necessary has been set aside
lOOXtotal tax— 6Xnet income
94
— for conservative or other reasons — the
invested capital will accordingly appear
smaller than it really is. For this reason
companies stating their tax reserves as
an exact figure admit of more accurate
treatment than those publishing a round
or approximate amount.
In view of the references in the above
paragraphs it is perhaps natural that we
devote some space to the asset value of
U. S. Rubber common. According to
our computation the $130,000,000 plant
FORMULA B
275 +20X exemption
account on December 31st, 1916, con
tained practically $70,000,000 of water—
an amount equal not only to the entire
common issue, but to half the pre
ferred stock as well. The accumulated
surplus, however, had created a dollar
for dollar backing in tangible assets for
the preferred and about $20 per share of
real value for the common. The 1917
earnings have since raised this value to
$30 per share.
These figures are startling and may
well be challenged as inaccurate. It hap
pens that they are substantiated by fig
ures contained in the official circular de
scribing the U. S. Rubber 5% bonds sold
of a in 1917. The appraised value, as of Oc
 774 THE MAGAZINE OF WALL STREET
tober 31, 1916, of the tangible assets
securing the $60,000,000 issue is here
given as $124,000,000. In other words,
the margin of tangible assets for the
common and preferred stocks was only
$64,000,000— leaving but $2,000,000 or
$6 per share for the common. These
figures are even less than our own — the
difference being accounted for partly by
our inclusion of the earnings from Oc
tober 31, 1916, to the end of that year.
With this adjustment made the two ap
praisals are close enough to indicate the
substantial accuracy of our method.
than $120. In this case, however, the
market price has more than kept pace
with the growth of tangible assets — an
exception to the general rule, explained
by the strong technical position of the
issue.
National Enameling & Stamping af
fords another example of the influence
of recent prosperity on tangible values.
We find that about one-third of the plant
account — i.e. $9,700,000 — represents
good-will, and that therefore the asset
value of the common in 1914 was about
$60 per share. Since then over $40 per

Approximate Tangible Asset Values of Industrial Common Stocks as De

termined from Their War Tax Reserves (Final 000 Omitted in Tabulation)

Company

I -
C-—
ilf |5>> °
•9

III
,* .
rt u !
t—
c tJ,o
i

W P3 GL>£

American Can . . $18,000 $6,000 $48,000; $31.500. $62,000,00 *o

.

Am. Smelt. Ref. 3,850 17,000 adj. 167,000. 50,000,00

&

if
1

II
14,126 3,000 63.700. ,900, 71*404 19,500.00
65
1 r

Central Leather . 22,250 6,000 76,000 ,400. 93,400; 32,000,00 98 71

Corn. Products Ref. 14,850 3,5oo 58,700. 42,800 92,800 50,000,00 44 44
General Chemical io,775 1,800 46,000 46,000 46,000 200 185
General Electric 34,'9i 7.289 145,000 145,000 135,600 160 147
.

12,794 2,250. 65,300 47,900 49,300: ,400,00 45 45

Nat'l Cloak Suit 2,570 8,000 1 100,00
11,200 7,900 70
&

52+ 37
Nat'l Enameling . 5,345 1,100 25,100 20,280 29.985, 9,705,00 100
Sears, Roebuck .. 9,002 3,977 80,200, 66,600 60,000
1

1°0
Underwood Type. 3,017' 500 2,600, 10,100 10,100
1
.

U. S. Ind. Alcohol 12,350 5,240 22,430 18,500 30,500, 12,000,00 20 28

1
1
U. S. Rubber .... 18,800 3,465 90,000 70,000 140,000 70,000,00 32 61
Virginia Car. Chem . 10,885 est. 2,500 36,100 26,400 62,400, 36,000,00 50 55

turns out finally that Goodrich — de share has been added to surplus and re
It

spite its $58,000,000 of acknowledged serves,so that the common has today a
good-will — has a greater tangible asset dollar for dollar backing in tangible as
backing per share than U. S. Rubber. In sets.
1913 this value was practically nil.
It

In recent article on American

Smelt
& a

has since grown to $45 per share and

is

ing in THE MAGAZINE OF

Refining
now equal to the market price of the WALL STREET, the original amount of
issue.
water in its capitalization was referred
The Case of U. S. Alcohol to as an unknown quantity of large pro
A very similar development shown portions. The War Tax Reserve en
is

by U. S. Industrial Alcohol, which ap ables us to determine an approximate

parently has included in its property ac valuation of these intangible assets,
count good-will to the full amount of the which according to over computation
$12,000,000 common stock. Consequently must have amounted to about $50,000,-
at the outbreak of the war the junior 000, or the entire amount of the original
is

sue had tangible asset value not exceeH- common. Substantial profits have accu
a

ing $20 per share, which three years of mulated since those early days, however,
prosperity has since increased to no less and the writer would now set the real
 SECRETS OF INVESTED CAPITAL
asset value of "Smelters" as nearly
per share — somewhat above its present
market price.
American Can
On the other hand, the Tax Reserve of
American Can, if reliable, would place
the company in a class with U. S. Rub
ber from the standpoint of fluid ingredi
ents. Our formulae result in an Invested
Capital of only $48,000,000, which would
probably include a permitted good-will
allowance of 20% of the stock issues or
$16.500,000. This would leave but
$31,500,000 of tangible capital, against
a book capital and surplus of $93,-
500,000 — a small discrepancy of $62,-
000,000. Such a mass of water, if
actually present, would have acounted
for not only the entire common stock,
but half of the preferred issue as well.
Against this handicap the accumulated
surplus has been able to make little
headway. The tangible value of the pre
ferred is now about $90 per share and
no solid value has yet been created for
the common. Of course, this analysis
would be too severe in proportion as the
company has over-stated its tax reserve,
which it presents as the round sum of
$6,000,000. But admitting that our re
sults are merely approximate, it is evi
dent that the original promoters of
"Can" possessed exceptionally liberal
views on capitalization —a fact which
undoubtedly has been one of the prime
causes of the aversion show by investors
to the securities of this company, like
those of U. S. Rubber, in the past. It
remains to be seen whether the large
earning power recently developed will
succeed in overcoming what once was
certainly a well-founded prejudice.
It will be noted from our table that
American Woolen is credited (or debit
ed) with a good-will item of $19,500,000
— almost equal to the entire common
issue. The same is true of Corn Pro
ducts Refining, which the war has at last
enabled to cope with its $50,000,000 bur
den of intangible values. Even Central
Leather reveals about $32,000,000 of
good-will — $80 per share of common —
which large surplus earnings have since
replaced by tangible assets.
Those companies which report the
775
amount of their good-will in their bal
ance sheets generally appear to have
based their tax return on an Invested
Capital corresponding very closely with
their book capital. Examples are Sears
Roebuck, which on December 31st last
had a tangible asset value for the com
mon of $90 per share, — also National
Cloak & Suit, Underwood Typewriter
and Goodrich.
- Gradual Elimination of Water
Two companies in the list have no
good-will stated in their balance sheet
and none concealed in their property ac
count. .As might be expected, these are
General Electric and General Chemical, —
the aristocrats of the industrial group,
with an investment rating established
long before the war. An interesting de
tail crops up in connection with General
Electric. The company's book capital
and surplus on December 31, 1916, was
$135,000,000 but its tax reserve indicates
an Invested Capital of about $145,000,00.
Evidently the company had understated
its assets in the balance sheet by about
$10,000,000— a truly exceptional case.
But in order to take full advantage of the
Invested Capital provisions of the War
Revenue Act, the company has found it
desirable to bring these hidden assets to
light, and for this purpose created the
Special Reserve of $12,000,00, which has
given rise to so much comment among
the followers of the stock.
If these results are viewed as a whole,
the striking fact is not so much the large
quantities of good will concealed in the
plant account, but the extent to which
most companies have succeeded in replac
ing this original water by real assets, and
in creating a foundation of solid value
for their junior issues. The public has
long had a general idea as to which com
panies were over-capitalized and which
have been most successful in remedying
this defect. But the question of tangible
value has now assumed far greater sig
nificance than ever before because of the
gradual progress of many of these issues
into the investment class. The foregoing
investigation — while to some extent ap
proximate in its results — should provide
a certain amount of definite information
on this highly important question.
870 THE GREAT STEEL TAX MYSTERY
no known substitute for copper in elec
trical apparatus, there will be a corre
sponding increase in the consumption
of copper. We are today standing only
at the beginning of this movement so
that demand for copper fifty years from
now can be no more calculated from
past statistics than could the present
consumption of coal be foretold from
the figures of 1840. The phenominal in
crease in the use of Portland Cement
within the past forty years is another
parallel case.
It will therefore undoubtedly be
necessary to give careful consideration
to the world's ability to produce the
The Great Steel Tax Mystery
SECRETS OF INVESTED CAPITAL— Part 2
Various Phases of the U. S. Steel Tax Situation — Other
Steel and Equipment Stocks — Excessive and
Insufficient Tax Reserves
By BENJAMIN
N my previous article on this sub
ject I pointed out that by deriv
ing the Invested Capital on
which a company's Tax Reserve
has been based, we might reach one of
two opposite conclusions. Assuming that
the Tax Reserve is correct as reported,
we can determine absolutely what is the
tangible capital invested and therefore
the asset value of the common stock. But
on the other hand, it frequently happens
that the capital indicated by the Tax
Reserve is larger or smaller than the
figure established by independent and au
thentic information. In such cases it is
evident that the War Tax has been un
der — or overstated, and we are accord
ingly led to correct the company's In
come Account, decreasing or increasing
the percentage reported as earned upon
the stock.
U. S. Steel Corporation
In a discussion of this kind the Steel
Corporation must inevitably claim con
necessary amounts of this most import
ant metal. Certainly all American
sources will be worked to the limit and
mines now in backward or in civilized
countries must be opened and brought
as soon as possible to an efficient pro
ductive condition. Fortunately copper
is not like coal, which is destroyed by
use, and our actual stocks of copper can
be used over and over again (provided
another world war does not involve the
complete loss of vast quantities). But
that an insufficient supply of copper
may retard the electrification program
is a possibility that must not be
ignored.
GRAHAM
siderable attention. A scrupulous author
hesitates to add to the already overflow
ing sea of liteiature on this single enter
prise, but the importance of the subject
and the novelty of some of the conclus
ions to be advanced must excuse us for
recurring to this sadly threadbare theme.
The Steel War Tax has always been a
mystery to those who understood its im
plications. That the figure was enorm
ous was not surprising — the perplexity
was caused by the extremely high per-
centag" borne by the Tax Reserve to the
Earnings. The Corporation reported net
for preferred dividends of $224,000.000
after deducting $233,000,000 taxes. The
latter apparently claimed over 50% of
the net income — an unparalleled propor
tion, contrasting with 33% for Republic
Iron and Steel and approached only by
companies (e.g. Midvale) whose Invest
ed Capital was reduced by the absence of
preferred stocks.
Could Steel's actual capital be so small
compared with its earnings, that it must
 THE GREAT STEEL TAX MYSTERY
turn over to the Government a much
larger percentage of its profits than any
similar company? Our computation
showed that using the above figures for
income and taxes, the capital indicated
would be only $462,000,000 against a
book figure of nearly $1,400,000,000.
This discrepancy was so striking as to
prove conclusively that either the tax has
been greatly overstated or earnings un
derstated — or both.
A new factor has been injected into
the situation by the recent publication of
Secretary McAdoo's testimony on Aug
ust 14th last before the House Commit
tee on Ways and Means. Here he an
alyzes a number of actual returns made
to the Treasury Department by large
Corporations, whose names are replaced
by letters. For the first of these, Cor
poration A, he gives the following data :
Invested Capital for 1917 $1,427,233,403
Invested Capital for Pre-War
Period 1,132,459,896
Net Income, 1917 568,964,090
Excess Profits Tax for 1917.. 173,504,430
There is only one enterprise in this
country — or in the world — to which the
above figures could apply. Since this
is a real and not a fictitious example, it
is undeniably a transcription of the tax
return of the U. S. Steel Corporation.
We immediately remark that Steel
paid a smaller war tax than it reserved.
Adding in $23,728,000 for Income Tax,
as easily determined, the total levy is
"only" $197,230,000— $36,234,000, or $7
per share, less than the published figure.
There is nothing astonishing about this
discovery since we have pointed out that
the reserve set up in the report was in
explicably large. The really extraordin
ary aspect of Mr. McAdoo's testimony is
found in the statement of Invested Cap
ital and Net Earnings. The accepted fig
ure of Steel's 1917 earnings was $457,-
684,000 subject to tax; but according to
the Treasury Department taxable earn
ings were fully $111,000,000, or '$22 per
share, more. Again the Capital, Surplus
and Reserves at the beginning of 1917, as
shown in the balance sheet, totalled about
$1,360,000,000, which was generally held
to contain somewhere between $500,000,-
871
000 and $700,000,000 of good will (of
which not more than $175,000,000 could
be included in Invested Capital because
of the 20% limitation). But Secretary
McAdoo here places the Invested Capital
at $1,427,000,000, actually a larger figure
than that claimed by the balance sheet.
Here are two mysteries indeed, and
important ones — because if we accept the
apparent significance of the Treasury's
data, we should have Steel earning $105
before taxes and over $68 per share after
taxes — compared with the recognized
figure of $39.15. Not only that, but we
should have an asset value of $1,067,000,-
000 behind the common — or more than
$200 per share at the beginning of 1917.
A careful study of all the ramifications
of the War Revenue Act as applied to
U. S. Steel results in the following pos
sible explanation of the wide divergence
between the figures given by the Treas
ury and by the annual report. The Steel
Corporation is a holding company, its
property being the securities of its sub
sidiaries, and its income the dividends
and interest received from them. Ac
cording to Article 78 of Regulation 71,
construing the Excess Profits Tax, -af
filiated companies may, and sometimes
must, make a joint return covering their
combined capital and income. If this had
been done by all Steel subsidiaries to
gether — but excluding the Corporation
itself as merely the holding company —
the large net income reported to the
Treasury would be explained as suggest
ed in Table I.
The close correspondence of this total
with the Treasury figures lends plausi
bility to our explanation. It is strange
that the $75,000,000 deducted from earn
ings for reserves has escaped general at
tention. These allowances — equivalent to
$15 per share
— represent in principle an
appropriation of surplus against possible
eventualities, and as such are not rec
ognized by the Treasury as charges
against the year's operations — although
they are thus treated by the Corporation.
There would seem to be a disadvant
age in the subsidiaries' making the return
instead of the Corporation itself as a
unit, because by doing the former, the
interest on the Steel Corporation's bonds
872 THE MAGAZINE OF WALL STREET
cannot be deducted from earnings. But Lackawanna Republic
this is more than compensated for by the Book Capital $52,912,000 $70,945,000

fact that the assets represented by these Taxable Income .... 26,147,000 24,454,000

bonds can be included in Invested Cap Tax Reserve 10,040,000 8,597,000

ital, since the bonds are not the liability
of the subsidiaries. This fact would ac
count for the large Invested Capital re
vealed by the Treasury Department. In
Table II we show how the latter figure
might be reconciled with the Corpora
tion's own statement, as modified by
prevalent notions as to the original good
will included therein.
Of course, in this table the good-will
has been arbitrarily valued so as to make
the final figures correspond — but it is
Since Lackawanna's book capital is so
much smaller — due to the absence of pre
ferred stock — it would be thought to pay
a very much larger percentage of its
earnings in taxes than does Republic. On
the basis of book capitals, therefore, we
should expect either a smaller tax for
Republic or a larger tax for Lackawanna.
Here is an opportunity to bring our
algebraic formulas into action. Sure
enough, the Tax Reserves indicate an In
vested Capital of $61,200,000 for Repub-

TABLE I
DEVIATION OF THE TREASURY FIGURES FOR U. S. STEEL'S
1917 EARNINGS.
Net before Taxes, as stated in the report . ., $457,700,000
ADD:
Interest and premium on Corporation's bonds (not a charge against sub
sidiaries' earnings) 22,100,000
Profits of subs, on sales to other subs, of material still held by latter— ex
cluded from Corporation's Income Account • 14,100,000
Increase in Contingent and other Reserves $19,300,000
Less charged to Surplus 4,000,000
$15,300,000

Reserve for excess of cost over pre-war value—

| ^^Phlnt 29 800 000

(Note: Last three items have been charged to Income, but are not allowed
as Deductions by Treasury Dept.)

Total Earnings as Reported to Treasury Dept $568,800,000

sufficiently close to generally accepted lie and $57,370,000 for Lackawanna — in

ideas (based on the investigation of the
Commissioner of Corporations) to make
the above analysis worth considering as
a possible solution of the great Steel Tax
Mystery. Incidentally we would point
out that after subtracting the $150,000,-
000 good-will allowed, and the $260,000,-
000 net for U. S. Steel bonds proper, we
have left a tangible Invested Capital of
$1,017,000,000 as of December 31, 1916.
This is equivalent to an asset value for
Steel Common of about $140 per share
at the beginning of this year (after re
storing the $75,000,000 reserves written
cff earnings in 1917).
If we finally pass on to the other steel
issues, we immediately strike another
puzzle — the relation of Lackawanna's
War Tax to Republic Iron and Steel.
Notes these figures.
one case less, in the other more than the
balance sheet figures. It will suprise no
one to learn that Republic's tangible in
vestment is less than its annual report
shows, but no one would have supposed
(or will now believe) that Lackawanna's
property account understates its real as
sets. We must look further into this
question.
Our figure of $61,200,000 for Repub
lic's Invested Capital would include a
good-will allowance of about $10,400,000,
bringing the tangible capital down to
$50,800,000. This is by no means a bad
showing, since it gives the common an
asset value of $94 at the end of 1916,
and fully $142 at the beginning of the
current year.
At this point Mr. McAdoo's testimony
again intervenes. In the list of twenty
 THE GREAT STEEL TAX MYSTERY
two returns presented, (Company "C")
has been quite generally identified with
Republic Iron & Steel. Here are the fig
ures:
C "Company"
Invested Capital $70,827,000
Taxable Income 1917 24,124,000
Excess Profits Tax . . . 6,258,000
Republic
Invested Capital $70,945,000 (Book
Figures)
Taxable Income 1917. 24,454,000
Excess Profits Tax . . . 7,574,000 (Indicated
by Reserve)
If ("Company C") is really Republic
Iron & Steel in disguise then in its report
to the Collector it has evidently used its
full book capital and surplus, without any
deduction for intangible assets. This
basis of calculation naturally results in a
smaller tax ($1,316,000 less) than the
reserve set up in the report, which has
been shown to be computed on a capital
of $61,200,000. Was Republic trying "to
get away with something" in its state
ment to the Treasury? Dr. Adams, dis
cussing these figures in general, makes
several cryptic references to returns
based on excessive capitalization. After
weighing all the aspects of the case we
are led to the peculiar — but not alto
gether impossible— hypothesis that Re
public has tried to hold down its tax
return by reporting as large a capital as
possible ; but in its statement to stock
holders it has followed the conservative
plan of reserving the maximum amount
that might be required, if the Treasury
rejected its book figures for Invested
Capital.
So much for Republic. The Lacka-
wanna case is not so complicated. It ap
pears to furnish an obvious example of
understatement of tax requirements. On
the basis of the full book figure for In
vested Capital, the resulting Income and
Profits Taxes would be $10,540,000 — or
just $500,000 above the reported reserve.
This difference would not have much im
portance, being a matter of only $1.45
per share. But if we were to assume the
same amount of intangible assets as indi
cated by the Republic reserve — about
$20,000,000— then after including $7,-
000,000 of this for permitted good-will,
873
we should have an Invested Capital of
but $40,000,000. On this basis the Profits
Tax would amount to no less than $11,-
050,000, and the total tax to $11,950,000
— reducing the reported 1917 earnings
by $5.45 per share and bringing them
down to $40.45, or $11.45 below Repub
lic's record. We point out incidentally
that the Invested Capital indicated by
Lackawanna's Tax Reserve would give
the stock a tangible value on January 1,
1918, of $195; the book value is $185;
and the value, assuming $20,000,000
good-will, would be $126 per share.
Lackawanna is not the only company
which has evidently understated its tax
requirements. This distinction is shared
by Baldwin — the smallness of whose tax
reserve appears to have escaped general
notice. Its estimate of a $1,750,000 tax
on over $10,000,000 of earnings implies
an Invested Capital of fully $60,000,000.
But by writing off $15,800,000 for patents
and good-will last year, Baldwin admitted
that its tangible investment at the begin
ning of 1917 waS no more than $33,000,-
000, and allowing $8,000,000 for per
mitted good-will its Invested Capital
would have been only $41,000,000. To
determine the proper figure for Bald
win's tax reserve it is advisable to con
sider the joint report of this company
and its subsidiary, the Standard Steel
Works. Our calculation shows a total
tax requirement of $3,930,000, whereas
the reserves of the two companies add
up to only $2,517,000 —a discrepancy of
$1,413,000 or over $7 per share for the
common. Counting in the assets of
Standard Steel Works, Baldwin common
has now a tangible value of about $123
per share.
It is difficult to derive dependable in
formation from the American Locomotive
tax return, — first, because this article is
written just as the annual report goes to
press, so that we have available only the
statement for the last half of 1917.
Secondly, the tax reserve for this period
includes an unstated amount for Can
adian duties, which makes it impossible
to separate the U. S. War tax. If we
accept a published estimate that Canadian
taxes accounted for about one-quarter
of total we should then derive an intang
ible asset item of about $25,000,000— the
874 THE MAGAZINE OF WALL STREET
par amount of the common stock. Ac
cumulated surplus would now give the
common an asset value of around $87
per share.
American Steel Foundries is unique
among the equipments in that its Tax
Reserve indicates an Invested Capital al
most identical with the balance sheet
figures. The absence of good-will here
TABLE II
DEVIATION OF THE TREASURY FIGURES FOR U.
INVESTED CAPITAL, DEC. 31, 1916.
Total Assets shown in Balance Sheet..
LESS:
Current Liabilities
Obligations of Subs, owned by Public
Carnegie bonds owned by Corporation
Indicated Invested Capital of Subsidaries
ADD:
Surplus of Subs, on sales to other Subs, not yet included in Corpora
tion's Surplus
Written off Property Account and charged to Surplus 1901-8
Written off Inventory and charged to Income 1916
Less: Original Good Will included in Assets
Tangible Invested Capital of Subsidaries
Add: 20% of Stocks allowed for Good- Will
Invested Capital — Treasury Department
might seem unlikely at first, but when it
is recalled that the readjustment in 1908
reduced the capitalization by $15,000,000,
the approximate correctness of our re
sults is again substantiated by external
facts. The tangible value of Steel Foun
dries on January 1st last appears to have
been well over $170 per share.
Railway Steel Springs — which has re
cently shared with Steel Foundries in a
belated recognition of intrinsic value —
provides an interesting example of over
stated taxes. The reserve here is $3,500,-
000 against earnings of $8,808,000 ; which
results in a capital of only $18,000,000,
against a book figure of $34,000,000.
Allowing for permitted good-will in the
former amount, the intangible assets in
Railway's balance sheet should then total
$21,500,000 — all the common and over
half the preferred. When the writer
called this fact to the attention of an of
ficial of the company, the latter admitted
that the Tax Reserve was overstated —
in order to be conservative, said he, and
not to lead the stockholders to clamor for
unduly laige dividends. If for argument's
sake, we place the actual good-will item
at $13,500,000 (the amount of common),
the tax would be reduced by $835,000 or
over $6 per share.
In leaving this subject, we would point
out that our conclusions are advanced
S. STEEL'S
$2,083,000,000
$ 92,900,000
174,000,000
159,500,000 426,400,000
. $1,656,600,000
35,900,000
163,700,000
15,600,000
$1,871,800,000
est. 594,100,000
1,277,700,000
.sur. 150,000,000
Figure $1,427,700,000
not as positive statements of fact, but as
tentative estimates based on available
data. We will indeed vouch for the suf
ficient accuracy of our results provided
the companies' figures from which we
started are themselves accurate. What
we have said in effect is that if X Corpo
ration has really earned the income and
paid the tax it has reported, then it must
necessarily have used our specified figure
for Invested Capital — and the present
tangible value of its common stock must
consequently be so much per share. Some
of our figures, therefore, may have no
value whatever, merely because the com
pany in question has made i accurate
or misleading reports. But w< do claim
sufficient reliability for our insults in
general to prove that that market value
of American industrials no longer ex
ceeds their tangible assets; and that
whatever burdens they may have to
bear in the future, over capitalization
will not be one of them.
RAILROADS AND
American Agricultural and Virginia-
Carolina
Are They Selling Out of Line? — Causes of America's Pre
eminence — Fertilizers as War and Peace Essentials
By BENJAMIN
OM the standpoint of invest
ment rating American Agricul
tural Chemical maintains a
marked superiority over Vir
ginia-Carolina Chemical — a fact which
is most clearly shown by our grouping
of their respective securities (Table
I/
Not only does "AGR" common sell
at almost twice the price of "V C," but
all its other issues are quoted on a
lower income basis than the corre
sponding securities of its less favored
rival. The price of the bonds is af
fected somewhat by their various con
version privileges, but the preferred
stocks certainly reflect the public's
estimate of the relative standing of the
two concerns. We propose to examine
the reasons for the preference
ac
corded to American Agricultural, first
determining to what conditions iri the
past it owes its origin, and then in
quiring whether — and to what extent
— it is still justified by the present
situation.
It may surprise some readers to
learn that not only is Virginia-Car
olina the older concern, but also that
for many years it was far more highly
regarded than American Agricultural.
"V C" began operations in 1895, four
years before "A G R" was organized
under its present name. In 1902 Vir
ginia common was regularly selling at
twice the price of American — the highs
for that year being 76^ and 32% re
spectively. Virginia-Carolina main
tained its lead well into 1912, but after
that year American Agricultural
forged ahead rapidly, as shown in our
first graph. Observe how in eight
years the relative position of the two
(970)
INDUSTRIALS
GRAHAM
companies had been almost exactly
reversed.
VC AGR
High, 1906 58 34#
High, 1914 34Ji 59%
The original cause for this market
adjustment was a decline of about $2,-
000,000 in Virginia's net for the fiscal
year ended May 31, 1911. Peculiarly
enough, this reduction occurred in the
face of a gain of nearly $6,000,000 in
gross business. But for some reason,
not fully explained, V C's margin of
profit on sales contracted sharply in
that year, and has since been main
tained at a low level — so that while net
available for interest charges was over
10% of gross in 1910, in 1911 it only
slightly exceeded 6% ; and the highest
ratio since has been 8.5%, this last
year. There is reason to believe that
the decline in the percentage of net
profits have been partly due at least
to the adoption of more conservative
accounting methods, and particularly
to the establishment of adequate re
serves for doubtful debts, etc.
AGRto the Fore
Whatever was the cause thereof, in
1911 Virginia entered upon a four
year period of very mediocre net
profits, during which the highest
amount earned on the common was
$3.40 per share in 1914, and the lowest,
53c. in 1913. In the meantime, however,
the record of American Agricultural,
while not exactly brilliant, had been
far more substantial and encouraging.
In 1910 both companies had earned
$10.42 per share of common stock.
During the next four years A G R's
earnings did not fall below $5.23 per
 AMERICAN AGRICULTURAL AND VIRGINIA-CAROLINA 971

share and reached as high as $9.05 —
a very much better showing than that
of Virginia-Carolina just mentioned.
But the chief cause of American Ag-
ricultural's market progress lay in its
dividend policy. Although almost from
the very first it had been earning a
very substantial sum for its common,
it was twelve years after organization
before it began disbursements on the
junior shares. But since the initial
its bank loans. In 1913, when V C had
notes payable of $9,900,000, A G R's
debt to the banks was only $3,219,000.
Recent Record
Having thus analyzed the original
causes of American Agricultural's as
cendancy, we must now turn our at
tention to the effect of the war upon
the two companies. Our second graph
shows the development of earnings in

TABLE I— AMER. AGRICULTURAL VS. VIRGINIA-CAROLINA

Market Yields of Securities
Due Rate Present Price Yield
First Mortgage Bonds AGR (a) 1928 5% 5.75%
VC 1923. 5% 93% 6.50%
Debentures AGR (b) 1924 5% 97% 5.50%
VC (c) 1924 6% 96% 6.70%
Preferred Stock AGR 6% 92 6.52%
VC 8% 107 7.48%
Common Stock AGR 8% 100 8.00%
VC . 4% 53 7.56%

(a) Convertible into preferred stock at par.

(b) Convertible into common stock at par.
(c) Convertible into preferred stock at 110.

rate of 4% was established in 1912, it
has never since been passed or re
duced, and in the last two years it has
been steadily advanced to the present
figure of 8%. Virginia-Carolina's rec
ord has been much less regular, as is
shown in full in Table II. It was par
ticularly unfortunate for the Company
that it advanced the rate to the high
est figure of 5% in 1911, the very year
that earnings suffered so pronounced a
decline, so that profits were insufficient
by $530,000 to meet dividends. Again
in 1913 the 3% rate was maintained
although earnings on the common had
practically vanished, an even larger de
ficit then resulting —and it was found
necessary to discontinue common div
idends entirely for the next three
years.
American Agricultural record of
earnings and dividends was thus suf
ficient to establish its investment su
periority, but two other factors — of
more or less importance — contributed
to this result. Not only did Agricul
tural possess a consistently larger
working capital than Virginia, but it
was far more successful in restricting
the past four years. The first point
we emphasize is that these fertilizer
companies were immune from the gen
eral business prostration immediately
following the outbreak of the conflict.
The fiscal periods of V C and AGR
end May 31 and June 30 respectively,
so that their 1915 year coincides al
most exactly with the first year of
hostilities. Yet Virginia-Carolina
(which alone reports its gross busi
ness) enjoyed a larger turn-over than
in the previous year, and its earnings
on the common were the best in its
history, except for 1910. American Ag
ricultural's showings were even bet
ter, and in the next four years the
profits of both companies recorded
steady increases culminating in the
1918 reports— which showed $35.00
earned on A G R common and $24.25
on V C common.
Since 1914 Agricultural has earned
$86.50 for each share of common and
has paid out $18.50 in dividends, leav
ing $68 added to surplus — about 70%
of the present market price. In the
same period V C earned $53.10 per
share and disbursed $4.50, making
972 THE MAGAZINE OF WALL STREET

$48.60 added to surplus

—over 90% of While the war continues, the fertilizer
the current price. companies are certainly in a strong po
These are truly excellent earnings sition. Their industry recognized as

is
and prospects for the immediate future most essential and farmers are being
urged on every hand to increase their
output through the use of soil en-
richers. The demand for the food
. CHEMICAL & AM.AGRI.CHE.M.
products made by the Southern Cot
'17 '18 ton Oil Company —Virginia-Carolina's
'II

1909 '10 'IZ '13 '14 15 '16

100 large subsidiary— certain to continue

is
AveraqeJIarket Priqe
90 heavy.
Common Stocks On the other hand the particular
80
strength of both companies lies in the
70 benefits they will experience from the
60
return of peace. They can look for
ward not only to regaining their fairly
50 large export trade, which the war has
40 almost completely suspended, but espe
cially to tremendous foreign demand

a
30 for their phosphate rock, inspired

by
20 the long continued shortage of phos
phoric acid. The recent prosperity of
oi

War Earnings theTwo-Chemicals-PerShare

these two enterprises was not the re
1915 '16 '17 '18 1915 '16 '17 '18
sult of orders for war munitions which
will disappear with the advent of
Their product intimately

is
peace.
bound up with the food supply, and the
period of intensive cultivation which

is
certainly ahead of us will mean an in
creased use of fertilizing material. We
would point out here, as evidence of
the stability of the business under all
conditions, that as far back as our
records go Virgina-Carolina's gross
sales each year but one (1912) have
exceeded the previous record.
From the comparative standpoint
I9W-I9I8 this survey of the recent record and
o{

Growth Working Capital

future prospects of both companies
1914 leads us to an important conclusioa
So great has been the transformation
1

I9I5E
in their status since 1914 and so favor
able their outlook, that we assert
is

that their showing in the 1911-1915

period has now no longer any bearing
on their relative merits as they stand
to-day. We mean that now no
is
it

more logical to point to Agricultural^

admittedly better record of five or six
years ago as cause of preference to
a

Millions of Dollars day, than would be to use Virgina-

it

Carolina's indisputable leadership prior

to 1910 as an argument in its favor.
are said by both companies to be ex In choosing between A R and V
G

tremely favorable — the only drawback we must disregard the record before
being the great scarcity of labor. 1915 as ancient history, and base our
 AMERICAN AGRICULTURAL AND VIRGINIA-CAROLINA
conclusion solely on their recent ach
ievements and present position.
The capitalization of both companies
(shown in Table III) is so nearly iden
tical that we are spared those difficult
questions that arise in comparing two
enterprises with very different charges
ahead of their common stock. While
V C has a smaller issue of preferred,
its 8% rate makes its dividend require
ment almost exactly equal to that of
A G R preferred. The same can be said
of the fixed interest charges. The two
common stocks can, therefore, be com
pared by direct reference to their as
set value and earning power.
It might be said in favor of V C that
its business is better diversified than
TABLE II— DIVIDEND RECORDS OF COMMON STOCK
Year VC AGR
1896 . 1% none
«
1897-1901 . 4%
<t
1902 4?4%
.'
1903
a
1904-8 none
H
1909 . ..3%
N
1910 . ..5%
Agricultural Chemical's. The former's
products include not only fertilizers
and similar chemicals, but cotton seed
oil, lard, soap, etc. — which are made
and sold by the Southern Cotton Oil
Company. In 1914, the only year for
which detailed figures are available,
the gross business of the Southern
Cotton Oil subsidiary constituted over
60% of the total. In other words, the
fertilizer department actually con
tributed less in the way of sales than
did the food products and allied lines.
High Asset Values
The asset value of A G R common
is $189 per share and of V C common
$165 per share — in one case nearly
200% and in the other 300% of the
market price. Virginia's balance sheet,
however, includes an unstated amount
of good will in its property account,
while American Agricultural ostentati
ously carries this asset at $1.00. V C's
good will certainly stands at a sub
stantial figure. The plants of the
Southern Cotton Oil Company were
973
taken into the property account at
$18,000,000, at the time of consolida
tion in 1907, although their book value
was less than $10,000,000. On the
other hand the absence of intangible
assets in the case of A G R is due to
a bookkeeping adjustment. Patents
and good will were originally carried
at over $16,500,000; but in 1912, $12,-
000,000 was transferred to the min
ing property account as a result of the
re-valuation of the latter asset. The
remaining $4,500,000 was charged off
against surplus, chiefly in 1916.
The point is that Virginia-Carolina's
phosphate lands have probably also
greatly increased in value since their
acquisition, so that if it followed the
Year VC AGR
1911 3%
1912 3% 4%
1913 4%
1914-15 . . none 4%
«
1916 ...
1917 3% 5W%
1918 Present rate 4% 8%
same procedure here as did the AGR,
its good will account would also be
greatly reduced. Of chief importance
is the fact that the V C's property ac
count — good will and all — stands at no
higher a figure than A G R's; and
with these assets it has been able to
earn a larger net profit last year than
did its rival. We would say, there
fore, that V C common at 53 is backed
proportionately by at least as large an
asset value as is A G R. It has al
ready been stated that in the past four
years alone Virginia has increased the
assets behind the common by 90% of
its present market price, against 68%
in the case of American Agricultural.
In the matter of working capital
the advance of V C has been particu
larly noteworthy. Our third graph
shows that A G R's 50% advantage in
1914 has now practically disappeared.
Virginia's net current assets now cover
all its bonds and preferred stock, ex
cept for $4,000,000 ; whereas in the case
of Agricultural this difference is $11,-
000,000. While we have stated that in
974 THE MAGAZINE OF WALL STREET
previous years A G R's bank borrow
ings were always much less than V C's,
they are now $3,290,000 greater— $17,-
020,000 againjt $13,729,000. Finally, on
May 31st last Virginia-Carolina had
$6,776,000 cash on hand, against only
$2,785,000 for A G R on June 30th.
As regards current assets and liabili
ties the advantage appears now to have
swung to Virginia-Carolina.
Liberal Earnings
We come next to the all important
consideration of earnings. Last year
V C earned after taxes 45% of its
market price against 35% for Amer
ican Agricultural. The average for the
past four years has been 25% and 23%
respectively. Year by year Virginia's
profits have been increasing at a more
rapid rate.
TABLE III— CAPITALIZATION OF THE TWO COMPANIES
Mortgage Bonds
Debentures
Total bonds
Preferred Stock
Common Stock
Total capitalization
The increase in the dividend rate on
Agricultural common to 8% which has
just been announced, has for the
present raised the income return on
this issue slightly above that of V C
common. To our mind, however, the
current dividend return is often an
over-rated factor in determining val
ues, particularly nowadays — and in
these very instances — when disburse
ments are being changed almost from'
quarter to quarter.
Having examined the question from
all angles, we reach the conclusion
that V C common is a more attractive
investment proposition at 53 (despite
its slightly lower dividend returns)
than is A G R at par. We think, in
fact, that it ought to sell more nearly
on the basis of its comparative earn
ing power of last year — that is about
two-thirds of the price of American
Agricultural. Our view is, therefore,
that V C is quoted possibly 12 points
too low in relation to the present price
of A G R.
Investment Value
A similar verdict applies to the pre
ferred stocks. V C preferred has a rec
ord of 8% paid continuously since 1895.
In 1915, however, the first two quar
terly installments were paid in scrip,
redeemed the next year. This event
seems to have hurt the investment rat
ing of the issue considerably. The fact
is that in the year the scrip dividends
were paid, over 18% was earned on the
preferred — a better showing than A
G R's. The company had more than
$4,000,000 cash on hand, its current
asset position was quite comfortable,
and the recourse to scrip appears
merely as a measure of conversatism
Am. Agric. Chem. Va.-Caro. Chem.
$8,252,000 $12,300,000
9,100,000 4,609,385
$17,352,000 $16.909,385
27,648,200 20,012,255
18,430,900 27,084,400
$63,431,100 $64,006,040
at the time when the early stages oi
war had made the outlook exception
ally uncertain. V C preferred is now as
well protected by assets and earnings
as A G R preferred; it is more nearly
covered by working capital alone; and
considering that it yields fully 1% 'n
excess of the other issue, we believe
it a more attractive investment.
No one can study the recent rec
ord of these two leading fertilize!1
companies without being impressed
with their strong exhibit. They have
more to hope and less to fear from
the future than perhaps any other in
dustry ; and their issues rank high
among the so-called "peace stocks.'
While both companies are, therefore.
in an enviable position, our anlysis
wnuld indicate that at these levels Vir
ginia-Carolina Chemical common and
preferred constitute decidedly the more
attractive purchase.
 Sad Case of M. K. & Ts Bond Issues
Reorganization Long Delayed — Fine Progress Obscured by
Receiver's Stringent Policies — Some of Its Thirty-Three
Securities Appear Very Cheap for the Long, Long Pull

Bond Study No. 7

By BENJAMIN GRAHAM

three years M. K. and T., scure certain other elements of more

FOR
the Micawber of railroads,
patiently waiting
been
has
for
something to turn up to end
its receivership. During this time its
affairs have received remarkably little
publicity, considering the respectable
size of the property, so that the aver
age investor has but a hazy notion of
its present condition — physical and
financial.
He is probably aware that, except
for a brief period of animation in 1917,
its numerous bond issues have been
steadily declining, until now most of
them have reached levels indicative of
desolation and despair. But is "Katy"
really in as hopeless a position as these
market values would signify ; or do
they represent rather the gradual ex
haustion of the bondholder's patience,
sorely tried by continued default and
the everlasting status quo?
The Cause of Insolvency
M. K. & T.'s insolvency in Septem
ber, 1918, while precipitated by the
maturity of its $19,000,000 note issue,
had its root in the three prevalent rail
— undermaintenance,
road weaknesses
overcapitalization and lack of working
capital. The receiver, as usual, imme
diately instituted a program of physi
cal rehabilitation. In order to restrict
the use of the receiver's certificates he
adopted the simple expedient of suc
cessive default on almost every secur
ity issue, whether senior or junior in
its lien. The reduction in net earnings
caused by these abnormal maintenance
expenditures and the unexampled sus
pension of payments on the best
secured issues combined to discredit
the road in the eyes of investors.
The outstanding character of these
adverse developments tended to ob
(1057)
favorable significance. In three years
the gross revenues have increased no
less than 40% — one of the best records
in the entire country. The cost of
transportation had been sharply re
duced in 1916; and despite the difficult
conditions of 1917, it has remained be
low the pre-receivership average. A
debit balance for freight car hire has
been changed into a comfortable net
income — of great importance as indi
cating that Katy's equipment has
proved adequate to the needs of its
rapidly expanding traffic. Our second
table shows finally that, despite the
abnormally high maintenance charges,
in the past year not only its gross, but
its net revenue also, eclipsed any pre
vious record.
One naturally inquires why advan
tage was not taken of this excellent
showing to set the road on its feet
again, especially since the time had
been propitious for so many other re
organizations. No clear and convinc
ing answer to this query has yet been
made by those who have assumed di
rection of Katy's refinancing.
Katy's Present Condition
Nor is M. K. & T.'s physical and
financial condition so serious as to
necessitate the heroic surgical treat
ment which frequently has been inti
mated. It is here that a careful analy
sis is requisite, and has been made ;
but the limits of this article permit the
writer to state only his conclusions :
FIRST, Katy's average maintenance
expenditures for the past seven years .
compare favorably with those of simi
larly located systems, like Rock Island,
"Mop," 'Frisco or Kansas City South
ern.
1058 THE MAGAZINE OF WALL STREET
SECOND, the ratio of net fixed charges
to gross (shown in the graph) is lower
than that of various other roads before
reorganization — and by eliminating
the requirements of the two most
junior issues (the General 4^s and the
Cy% Notes) Katy's charges would
compare favorably with its neighbor
ing systems on their new basis.
THIRD, assuming that most of the
defaulted interest need not be paid
(and the price of the issues justifies
sas and Texas. The present outlook is
therefore for an indefinite continuance
of the unsatisfactory status quo.
On the basis of the standard railroad
contract the compensation guaranteed
by the Government would amount to
slightly less than present interest re
quirements. But if allowance is made
— as it doubtless will be — for the ab
normal maintenance expenditures dur
ing the test period, the rental should
be increased by between $1,000,000 and

TABLE I
M. K. & T.'s MORE IMPORTANT BOND ISSUES
A — First Mortgage Bonds— Main Lines.
Amount Market Last
Outstanding Price Coupon
Maturity (000 Omitted) About Paid
Missouri, Kansas & Texas 1st 4s... 1990 40,000 Dec. 1917
Missouri, Kansas & Eastern 1st 5s.. 1942 4,000 37 Apr. 1916
Missouri, Kansas & Oklahoma 1st 5s 1942 5,468 60 Nov. 1917
Kansas City & Pacific 1st 4s ........ 1990 2,500 58 Feb. 1918
Dallas & Waco 1st 5s .............. 1940 1,340 60 Nov. 1917
M. K. & T. of Texas 1st 5s ........ 1942 4,505 50 Mar. 1916
Texas Central 1st 5s ............... 1923 1,850 80 not in default
Wichita Falls & Northwestern 1st 5s 1939 2,110 70
San Antonio Belt & Terminal 1st 6s 1919 1,750 98
B — First Mortgage Bonds — Branch Lines.
Missouri, Kansas & Texas 1st ext 5s 1944 3,253 32 Mar. 1915
Texas & Oklahoma 1st 5s ........ 1943 2,347 30 Sept. 1915
Sherman, Shr eve port & So. 1st 5s. . 1943 1,643 25 June 1915
*Wichita Falls & Northwest'n ref. 5s 1940 3,000 35 Jan. 1917

C — Junior Liens
•'Missouri, Kansas & Texas ref 4s.. 2004 9,992 40 Sept. 1915
Missouri, Kansas & Texas 2nd 4s. 1990 20,000 32 Aug. 1915
M. K. & T.-St. Louis Div. 4s ....... 2001 1,924 20 Oct. 1915
Missouri, Kansas & Texas notes — 6s 1916 19,000 40 Mar. 1915
Missouri, Kansas & Texas gen 4'/2s 1936 10,421 27 July 1915
* Also a second lien on other mileage.
f Also a first lien on terminals, etc.

this supposition) then Katy's cash re
quirements for working capital are less
than were 'Frisco's, Missouri Pacific's
or Rock Island's.
It is particularly unfortunate that
the reorganization was not consum
mated last year, because the advent of
Federal operation has plunged the sit
uation into even greater uncertainty-
than before. The fate of the road is
now in the Director-General's hands ;
and considering Mr. McAdoo's mani
fold duties, it seems too much to hope
that he will be able to pay much at
tention to the intricate readjustment
problems presented by Missouri, Kan-
$1,500,000 annually, thus clearing all
fixed charges with something to spare.
As long as the receiver continues to
pay for betterments out of the bond
holders' money, there seems little hope
of regular interest payments being re
sumed. But when the final day of
reckoning arrives, the security owners
should reap some of the fruits of this
rehabilitation policy.
M. K. & T. 1st 4s Due 1990.
This is at once the largest and the
best secured issue of the system. Out
standing at the rate of $25,300 per mile,
it is a first lien on about 1,600 miles of
 SAD CASE OF M. K. T.'s BOND ISSUES 1059

road, covering the greater part of the
North and South trunk line. Against
the $1,000 per mile interest require
ments of these bonds, the entire sys
tem averaged $22.50 per mile net in
1917. But since the 1st 4s are secured
on the most profitable part of the road,
it has been determined that the earn
ings of this mileage are well in excess
of the above average.
man. At 32, the 2nd 4s seem to have
discounted the worst, and if fairly
treated should prove a very profitable
purchase for the patient investor.
Missouri, Kansas & Eastern 1st 5s 1942
The extraordinary market history of
this issue is brought out strikingly by
the graph. From the highest priced
of all the system's securities, these

Beginning with the December, 1915,

coupon, the receiver has deferred each Ratios of Net Fixed Charqes
interest installment for six months. to 1917 Gross
Consequently the bonds are dealt in
"flat" and their present price of 62j^
includes about 3l/2% in accumulated
interest. The price range since 1912
is shown in the accompanying graph.
The market history of this issue con
firms that fundamental investment
principal that no bond can be strong
if the obligor road itself is weak. In
vestors cannot afford to ignore unfa
vorable developments, merely because
their own issue is a senior and appar
ently well secured obligation. While
the purchasers of this issue above 90, 0 2 4 6 • K> 12 14 16 Ifl W 22 24
as a gilt-edged obligation, have suf * 4i's
fered severely — and perhaps undeserv
Eliminating interest on 6% notes 4 qenrral

edly — their very misfortune has created

an excellent opportunity to acquire an
intrinsically sound security at a bar
gain counter figure. Nothing short of
rank injustice could seriously disturb
the position of this issue in the even
tual reorganization.
The position of the 2nd 4s also due in
1990, is more difficult to appraise. Its :D Mo. Kansas A Texas bt 4s 1990

lien covers exactly the same property 1 1 Mo. Kansas & Eastern 1st 5s 1942

as the senior 1st 4s, and the interest re

quirements of both issues aggregate
$1,500 per mile — a figure already
shown to be well below the recent
earning power of the mortgaged
line. Theoretically, therefore, the
2nd 4s can insist on preferential
treatment, or else threaten to take
possession of their property, which
constitutes the heart of the system. In
practice, matters do not seem to work
out so logically, however, and in the
end the terms accorded this issue will
be found to depend largely on the in
fluence of its protective committee — of
which E. G. Merrill (Vice-President
Central Union Trust Co.), is Chair
5s have quite suddenly fallen almost
to the very bottom of the sadly de
preciated list. The explanation of this
strange reversal might be termed an
"inside story," and is worth discussing
in some detail.
The market pre-eminence of this is
sue prior to 1917 was based on the lo
cation of the line it covered — which
comprised 162 miles of main track, con
stituting the system's only approach
into its St. Louis terminus. Because
of the strategic importance of this
route, even after the receivership be
1060 THE MAGAZINE OF WALL STREET
fell, bond experts generally were con
vinced that nothing could happen to
these 5s (which are outstanding at the
rate of only $20,000 per mile).
But in the meantime Coverdale and
Colpitts, engineers for Hallgarten and
Seligman — the reorganization mana
gers — began an investigation into the
value to the system as a whole of the
property covered by each individual
bond issue. Their report, a volumin-
its present line — and one which might
form a shorter and more direct con
nection between St. Louis and Kan
sas City. For this reason the engi
neers suggested that the value of this
line as carrier of through traffic might
be ignored in bargaining with the
bondholders, since the threat could be
made of abandoning the route.
A conclusion so authoritative and so
adverse, might well dismay those

TABLE II
OPERATING RESULTS 1912-1917

June 30 June 30 June 30 June 30 June 30 Dec. 31 Dec. 31

1912 1913 1914 1915 1916 1916 1917
Gross Revenues $28,187 $32,346 $31,920 $32,899 $32,485 $36,734 $43,344
Net Revenues 6,981 9,538 8,691 9,931 6,691 7,294 10,918
Ratio — Maintenance to
Gross 27.9% 27.0% 27.0% 27.6% 38.8% 40.6* 34.8*
Ratio — Transportation
exp. to Gross 41.3% 37.9% 38.9% 36.2% 34.4% 33.7% 36.21
[Note: ,000 has been omitted from above figures for gross and net revenues.]

ous document, was not given general bondholders to whom it was com
distribution, but since it was placed in municated, and it is significant that
the hands of the various protective the sudden market collapse of the se
committees, it is evident that its con curity followed close after the filing of
tents became known to practically all the report. But the reasoning in
the large security holders. The writer, volved in this analysis certainly in
although not in the latter category, volves a new and very disconcerting
was also privileged to read the report. reorganization principle. Investors
have already learned to their sorrow
No comment can be made here upon
that there is no magic in the word first
the general analysis of the road's posi
mortgage, and bonds secured on spur
tion — which later led to a controversy
lines get scant consideration in read
with Mr. Kendricks. another railway
justments, despite the "priority" of
expert. Regarding the M. K. & E. 5s,
the engineers found as follows : Since
their lien. This is probably as it
should be, since the mileage covered
the mileage covered by this issue car
by these divisional lines usually had
ried all the system's traffic into and
contributed nothing but deficits to the
out of St. Louis, its earnings on a pro
system's results. But the M. K. & E.
rated basis were quite substantial — in
5s are not secured on a jerk-water
fact, in the very poor year taken as
branch, but on an important part of
criterion, the interest on the 5s were
earned three times. On the other
the main line. To deny its value to
the system on the ground that an al
hand, the amount of traffic originating
ternative route might be constructed
on this line was relatively small and if
between the same terminals, would
this item only were considered, the
mean that no investor could buy a
earnings would have been much lower
— not quite sufficient to meet the railroad bond without first making' an
elaborate engineering investigation of
$200,000 interest requirements of the
its merits. Such a conclusion is pal
issue. Going still further, the engi
pably absurd.
neers pointed out that by a combina
tion of new construction and trackage A Deceptive Resemblance
rights the company might be able to Two issues that might be thought
substitute another route in place of to hold a very similar position are the
 SAD CASE OF M. K. T.'s BOND ISSUES
Missouri, Kansas & Oklahoma 1st 5s
and the Texas & Oklahoma 1st 5s,
due 1942 and 1943 respectively. Both
are secured at the rate of $20,000 per
mile on lines radiating from Oklahoma
City, the former running north, the
latter south. Prior to the receivership
investors saw little to choose between
the two securities, and they fluctuated
over almost an identical range. The
Coverdale & Colpitts investigation,
however, revealed the fact that the
M. K. & O. line, traversing the Osage
oilfields, was one of the most profit
able portions of the system ; whereas
the oil traffic on the Texas & Okla
homa branch, running southeast from
the capital, had been largely diverted
to the pipelines, so that this line was
now earning nothing toward its in
terest charges. Accordingly the Re
ceiver has entirely defaulted pay
ments on the latter issue since Sep
tember, 1915, while the M. K. & O. 5s
have suffered only a regular delay of
six months in meeting each coupon.
The net result is a quotation of 60 for
the M. K. & O.'s— rather high for a
Katy bond — against only 30 for the
luckless T. & O. 5s.
The very bottom of the list in order
of market value is shared by two very
dissimilar issues, — namely, the St.
Louis Division 4s, quoted around 20,
and the Sherman, Shreveport and
Southern 1st 5s, worth about 25. The
St. Louis Division 4s have a second
lien on the property covered by the
M. K. & E. 5s, discussed at length
above. If the first mortgage bonds
have no friends, the junior issue is
even more lonesome. Yet it indubit
ably has some claim to value — which
if properly asserted should improve its
market position considerably.
The "S. S. & S: 5s" on the other
hand, seem very nearly if not entirely,
hopeless. This branch, running from
Texas to the Louisiana border, seems
to have steadily been losing its traffic ;
and a strong- effort made by its protec
tive committee to prove its value, the
writer is informed, resulted in com
plete failure.
Important Junior Lines
The $10,000,000First & Refunding
i
1061
issue, which is a junior mortgage
from the standpoint of mileage cov
ered, has important additional security
in the form of a first lien on terminals
in Kansas City, shops in Sedalia and
Parsons, Kansas, and a large assort
ment of miscellaneous equipment. On
this account, the refunding 4s sell
higher than some of the first and
second mortgage bonds treated above.
The general 4^s, selling at 27, have
no better protection than a blanket
lien on the property subject to all
prior mortgages. This issue is unique
in possessing a large sinking fund,
amounting to over $260,000 per year.
But with the default in interest on
Jan. 1, 1916, the sinking fund payment
was also omitted, so that five semi
annual installments are now overdue.
The large issue of 6% notes are se
cured by deposit of consolidated
mortgage bonds, which are further
even from the rails than the general
4j4s. They have also a lien on the
modern terminal property in St. Louis,
costing nearly $5.000.000. These notes
enjoy the determined backing of
Speyer & Co., an element of no small
importance in maintaining their price.
Conclusion
This sketch of the M. K. & T. situa
tion has shown how replete it is with
apparent contradictions. Two facts
stand out, however, as pretty clearly
established. The first is that the enor
mous decline in the road's securities
as a whole has exaggerated the real
difficulties and financial requirements
of the system. The excellent progress
during the last three years has been
obscured in the reports and ignored
by the market, but it is important
enough to justify a more optimistic
view of the future than these melan
choly prices indicate.
We have further pointed out that if
some of the securities ranking senior
to the blanket mortgages were to re
ceive the treatment ' to which they
seem entitled, their consequent ad
vance in value should well repay the
investor who has the discrimination
and patience to hold them for the long,
long pull.
6 THE MAGAZINE OF WALL STREET
antee that its railroad income, until twen
ty-one months after the war ends, shall
be not less than the three-year average, is
worth over par on this basis alone. It
sold above 139 only a few years ago with
out regard to its oil lands, and when its
earnings were only half what they are
now. Its earnings as a holding company
are more than Union Pacific's were when
Harriman put it on a 10% basis and it
rose to 1953% and later to 219.
As Southern Pacific's oil properties are
further developed, and the investment
public begins to learn something of the
vast potentialities with which it is
packed, its shares will be considered
cheap at a figure far above their present
quotations.
I believe Southern Pacific, which, as I there will be presented further facts and
write this, is selling under par, will short
Attractive Peace Bonds
Advantage of Long Term Issues—Some Excellent Foreign
Government Obligations—Relative Prospects of Rail
road, Utility and Industrial Bonds
By BENJAMIN GRAHAM
HE effect of approaching peace
º
ºSº
Sºlº
has already been felt in the
bond market. Unlike the stock
list, with its divergent move
ments, bond issues of every class have
recently been headed in but one direc
tion—upward. Yet a careful analysis
of recent price changes discloses that
the rate of advance has not been uni
form for all types of investment se
curities—bonds of certain kinds have
responded with more enthusiasm than
others to the new market influence.
While practically all bonds may be
said to be “peace bonds,” in the sense
that their value should rise at the end
of the war, it is the purpose of this
article to discuss the relative extent to
which obligations of different classes
should be benefited by the return of
normal conditions.
The price of a bond is determined by
ly cross the price of U. S. Steel common,
and that before very long it will cross the
price of Union Pacific.
Those of my readers who hold Union
Pacific, Atchison, Great Northern, North
ern Pacific, N. Y. Central or Pennsyl
vania would do well to exchange it for
Southern Pacific now.
I would rather own Southern Pacific
today than U. S. Steel common or pre
ferred.
Its dividend is not limited to 6% be
cause it is the Southern Pacific Co.—a
holding company—and can therefore pay
larger dividends whenever the manage
ment so decides.
In subsequent issues of this magazine
figures about Southern Pacific.
two distinct factors—first, the indi
vidual merits of the issue; second, the
general course of interest rates. That
bond yields will decline from their
present high levels is the universal ex
pectation, and this is of course equiva
lent to asserting that the price of
bonds must advance. This conclusion
is based on the law of supply and de
mand—with the cessation of Govern
ment offerings the chief depressing in
fluence is removed, permitting prices
to work back gradually toward their
former levels.
While this argument is fundamental
ly correct, it may be well to point out
that certain more complicated ele
ments are involved. The withdrawal
of the Government from the bond
market will not in itself automatically
effect a complete recovery in prices. A
considerable amount of deferred and
 ATTRACTIVE PEACE BONDS 7

speculative buying indeed may result But conversely, if the close of the
in a sudden advance immediately upon war should by any chance be followed
the conclusion of peace; but the ulti by a period of intensified commercial
mate rate of interest after the war activity, the recovery in bond prices

ATTRACTIVE PEACE BONDS

Table I–1—Liberty Bonds
2—Foreign Government Bonds
Price
Due Oct. 14 Yield
*Anglo-French . . . . . . . . . . . . . . . . . . . . . . 5s Oct. 15, 1920 95% 7.50%
*Bordeaux-Lyons-Marseilles . . . . . . . . . 6s Nov. 1, 1919 99 6.75%
*United Kingdom convert............ 5%s Feb. 1, 1919 100 5.50%
*Argentine Republic . . . . . . . . . . . . . . . . 5s. 1, Sept. 1945 86 6.05%
*Japanese Secured “German stamped” 4%s July 10, 1925 83% 7.75%
NOTE.-Bonds marked * are referred to in the text.

must depend primarily upon the rela
tion of new capital requirements to
current savings. To the extent that
the accumulation of funds will exceed
expenditures for new construction, the
consequent surplus of the former will
tend to force interest rates down and
bond prices up. Furthermore the cur
tailment of the need for banking cap
ital now employed in financing com
mercial and industrial operations would
in corresponding degree release funds
may not take place to the extent an
ticipated. Besides, the influence of the
tremendous increase in the volume of
outstanding securities must be borne
in mind. After the war the issues of
the leading nations—the United States,
England and France, at least—will
rank pretty much on a parity. There
will thus be an unimaginable quantity
of new obligations of the highest grade
which must be advanced substantially

BOND-PRICE. AVERAGES.
r1914-, a 1915— a-1916— r—1917— r—1918 —)
–I-I
APR JULY APR JULY OCT JAN APR JULY OcT JAN APR JULY 007 JAN APR JULY 007 00III/h

ſo Public Urſifies E
; 10 High Grade Rails|[T

wº

for security investments — which above their offering price, the old
if

lower commodity prices approach their pre-war

to

means that issues are

and reduced volume of business would levels. To raise this enormous weight
making for an advance in debt far up the scale
of

of

be factors value must

high grade issues.
of

surely require considerable time.

the

value
8 THE MAGAZINE OF WALL STREET

Short-Term vs. Long-Term Issues Advantages of Convertibles

These factors may qualify, but can
not vitiate, the general proposition
that bond yields must decline with
peace. Given the certainty of a reduc
tion in interest rates, it is evident that
the price of long term issues will ben
efit more from this development
that of the nearer maturities. In the
last number of THE MAGAZINE OF WALL
STREET, Mr. Wyckoff pointed out clear
ly why even on a 6.30% basis the Bur
lington Joint 4s, due 1921, have not the
prospects of market appreciation pos
sessed by the fifty and one hundred
year issues.
In the case of a number of short
term obligations, a conversion privi
lege into either bonds of more distant
maturity or investment stocks would
enable them to take full advantage
marketwise of the readjustment of in
than terest rates. It is strange that inves
tors have not fully realized what ideal
protection is afforded by convertible
issues of this type—which guarantee
against any considerable decline
through their near maturity, and at the
same time can participate in any ad
vance of the longer-term securities.
Under the latter head of course are to

ATTRACTIVE PEACE BONDS

Table II—Railroad Bonds—High Grade
Price
Due Oct. 14 Yield
Atl. Cost Line—L. & N. collat. .. . . . 4s 1952 73 5.85%
Central Pacific 1st and ref. . . . . . . . . . 4s 1949 78% 5.45%
Delaware & Hudson convert. . . . . . . . 5s 1935 86 6.30%
*Southern Pacific convert. . . . . . . . .. . . 5s 1934 . 95% 5.40%
Southern Pacific convert . . . . . . . .. . . 4s 1929 81 6.50%
Union Pacific-Ore. Short Line ref. . . . 4s 1929 82% 6.30%
NOTE.-Bonds marked * are referred to in the text.

In truth the market has been recog
nizing this fact all along—witness the
circumstance that in the past year
short term issues have regularly sold
on a higher basis of yield (i.e., at a
proportionately lower price) than the
longer term bonds of similar grade.
To take one of many examples, Great
Northern 5% notes, due 1920, are sell
ing at 97%, a 6.50% basis, although
secured by 120% in First and Refund
ing 4%s of 1961, concurrently quoted
at 86%, or a 5% basis. The notes are
surely at least as well secured as the
4% s, but the latter sell at a lower rate
of return because they have prospects
of a much more substantial advance.
If both issues should sell next year on
a 4.50% basis, the notes would reach
a price of say 100% a gain of only 3
points—whereas in the same time the
long term 4% s would be recovering 8
points to 94%. The very factor that
made note issues so stable in declin
ing markets makes them relatively un
attractive when prices are turning
strong.
be placed investment stocks, preferred
and common, which react to changes
in interest rates exactly like bonds of
very remote maturity.
In this way the American Tel. and
Tel. new 6s, due 1925, have enjoyed a
rise of six points through their conver
sion privilege, while the collateral trust
5s, due much later, were gaining only
two points. To discuss in detail the
possibilities of this and other individual
issues, we must now turn our atten
tion from bonds as a whole to the var
ious types of investments.
I. Government Obligations
Government bonds are naturally the
peace securities par excellence. These
will immediately feel the effect of the
sudden curtailment of those enormous
and continuous offerings which have
steadily depressed their price in the
past. The favored position of Liberty
Bonds—the best peace investment on
earth—deserves extended considera
tion, and for this purpose the reader is
referred to our Liberty Bond Depart
 ATTRACTIVE PEACE BONDS 9

ment, in which the subject has been
treated at greater length than the
limits of this article will permit.
The bonds of other nations dealt in
here will benefit in various ways from
the return of peace. The Anglo
French 5s should advance because their
present price of 95 represents a yield
of over 7.50%—entirely too high for
an obligation which the end of the war
should make gilt-edged in every re
spect. The United Kingdom 5%s
“new,” maturing next February, are
convertible into twenty-year 5%%
bond at par; and despite the short
rate is here fixed at 5.60 francs to the
dollar, so that at the present quotation
this privilege already has a value of
about 2%. There is more than a year
left in which to take advantage of fur
ther progress toward the normal rate.
The latter figure—5.19 francs to the
dollar—would give these Municipals a
value of no less than 107% at matur
ity. One does not need to expect a
full recovery in exchange in order to
regard these 6s as an excellent short
term peace investment.
Among the longer term bonds good
opportunities are held by the Argen

ATTRACTIVE PEACE BONDS

Table III—Railroad Bonds—Medium Grade
Price
Due Oct. 14 Yield
*Chesapeake & Ohio convert......... 5s 1946 82% 6.35%
Chic., Rock Island & Pacific ref..... 4s. . 1934 72 7.00%
Denver & Rio Grande consol...... 4%s 1936 72 7.40%
Missouri Pacific consol. . . . . . . . . . . . . 5s 1923 90% 7.50%
St. Louis, Iron Mt. & So. ref........ 4s 1929 78 7.00%
NOTE.-Bonds marked * are referred to in the text.

and the Jap

85
period remaining in which to exercise

at
tine 5s, due 1945,
this privilege, a very sudden peace anese 4%s “German Stamped,” due
might give it value after all. 83. The gap between the Ger
at

1925,
On the other hand the premium of man Stamped and the regular bonds
1%% on the French Republic 5%s due this issue has already narrowed
of

next April results not from a conver from ten points only four, and
it to

at
the
Being should disappear en
of

sion, but an exchange feature. end the war

payable either in dollars here or in tirely.
Paris at the rate of 5.75 francs to the II. Railroad Bonds
dollar, the recent rise in French ex The graph bond prices appearing
of

change has given substantial value to with this article should give the reader
the latter option. At this writing very illuminating idea
as
to

how the
a

francs are quoted at 5.47, nearly 5% various types corporate securities

of

above the exchange parity for this is the past four years. The
in

have acted
In other words, were the present chart based on the Wall Street
is

sue.
rate still in effect next April, these
5%s would be worth 105%—delivered
in Paris. The latter clause is impor
Journal averages, which date from
April, 1915, but they have here been
the beginning
of

carried back
to

1914
tant since insurance costs must figure obtain comparison with pre-war
to

in the transaction; but here again levels.

peace would affect conditions greatly will be observed that the average
It

in the bondholder's favor. Should price ten high-grade railroad bonds

of
its

French exchange continue advance, reached their lowest level, 79.9, on Oct.
the premium on these 5%s might At this time
be

1st last. was more

it
by

greatly augmented ma
of

the time than fifteen points below the average

turity. the beginning
of
at

1917—less than
The same conditions hold good for two years before—and the same dis
“French Municipals”—Bordeaux, tance below the pre-war figure
of

the
Lyons and Marseilles—now selling April 1914. The 1% point recovery
at

1,
99,

and due Nov. 1919. The exchange that has taken place up
1,

to

11

Oct.
is
-
10
so small in comparison with the tre
-
THE MAGAZINE OF WALL STREET
mendous decline that we might well
look forward to a much greater ad
vance when peace is finally consum
mated. In this connection, however,
the writer would repeat his warning
against undue optimism as regards the
extent and rapidity of thrs readjust
ment. To my mind a return to a 4%%
basis for railroad bonds can hardly be
expected—unless they are to receive a
permanent Government guaranty. The
competition of Government securities
now yielding so far above this rate,
and the likelihood of rather stiff in
come taxes for some years to come,
would strongly oppose an advance
above, say, a 4%% return. In the case
of Atchison General 4's this would im
ply a maximum value of about 89—a
gain of some 7% points from present
levels.
ATTRACTIVE PEACE BONDS
Table IV—Public Utility
*Am. Tel. & Tel. convert. . . . . . . . . . . .
*Brooklyn Union Elev. 1st. . . . . . . . . . .
*Interboro Rapid Transit convert. ...
N. Y. Edison–N. Y. Gas & Elec. 1st. ..
*Third Ave. adjustment . . . . . . . . . . . . . .
NOTE.-Bonds marked * are referred
This appreciation, though substan
tial, might not appeal particularly to
the investor looking for the largest
possible profits. These might be
found rather in the railway issues of
somewhat lower grade, which should
benefit not only from lower interest
rates but also from a general improve
ment in the carriers’ credit. The sub
ject is complicated by the possibility of
continued Government operation on
the one hand, and a temporary decline
in earnings on the other. Should the
former occur, the junior bonds of the
stronger roads and the senior issues
of the weaker (and reorganized) lines
should both reap decided advantages.
Moreover, convertible issues, like Sou
thern Pacific or Chesapeake & Ohio 5s,
are in a position to share in any sharp
upward movement of the stocks. The
appended tables of “Peace Bonds” con
tain a selection of railway issues that
appear particularly attractive from
this point of view.
III.
Public Utility Bonds
According to the graph, the decline
in the average price of public utility
bonds since January, 1917, was almost
exactly equal to that registered by the
high-grade railroad issues. For com
parative purposes however, these fig
ures are misleading, because of the
difference in the average maturity of
the two classes. Since the public util
ity issues have a mean due date of
1946, against 1969 for the railway
bonds, the same decline of fifteen
points signifies a substantially greater
advance in yield for the former group.
This is to be expected in view of the
extraordinary difficulties confronting
the utilities in the past year.
In the field of traction bonds, one of
Bonds
Price
Due Oct. 14 Yield
6s 1925 99% 6.10%
5s 1950 82 6.30%
7s 1921 98% 7.55%
5s 1948 87 5.95%
5s 1960 35 -- - - --
to in the text.
the best opportunities is presented by
the Brooklyn Union Elevated 5s, now
selling about 82 and yielding over
6.30%. Not even the investment houses
seem to have recognized how favorably
the Dual Subway Contracts have af
fected the status of this security. It
is provided that the interest on these
5s (and the similarly situated Kings
County El. 4s) shall be a first charge
against the combined net earnings of
the new and old subway and elevated
lines to be operated by the B. R. T.
In other words these charges, aggre
gating only $1,100,000, have the first
claim on the profits of an investment
of well over $200,000,000. The embar
rassing maturity of B. R. T.’s large
note issue has depressed all the sys
tem's securities, including these un
derlying obligations. Peace should
bring some solution of the company’s
difficulties—and however the junior se–
 ATTRACTIVE PEACE BONDS
curities are affected, these Brooklyn
Union El. 5s should eventually rank
among highest grade public utilities.
The return of peace should lend an
attractive quality to the new Inter
borough Rapid Transit notes, which
will be convertible into the long term
Refunding 5s at 87%. But the best
convertible issue of all is undoubtedly
the Am. Tel. and Tel. 6s due 1925. At
par they are surely more desirable than
the stock, which is now selling above
the conversion parity for the bonds.
The latter would not decline as much
as the shares in a weak market, and are
bound to follow closely after the stock
on the way up. The same is true in a
way of the Con. Gas 6s at 105; except
that their near maturity in Jan., 1920,
carries the danger of a loss of five
ATTRACTIVE PEACE BONDS
Table V–Industrial Bonds
*Am. Smelting & Refining. . . . . . . . 1st 5s
Armour & Co.. . . . . . . . . . . . . . . . . . . 1st 4%s
*Bethlehem Steel purchase money.... 5s
*Chili Copper convert. . . . . . . . . . . . . . . 6s
Granby Copper 1st convert. . . . . . .. . . 6s
*Midvale Steel collat................. 5s
*U. S. Rubber . . . . . . . . . . . . . . . . . . 1st 5s
*Virginia-Car. Chem. convert. . . . . . . . . 6s
NOTE.-Bonds marked * are referred to in the text.
points in case the stock breaks, neces
sitating redemption at par instead of
conversion.
The Third Ave. Adjustment 5s, al
though of course a speculative bond,
have good peace prospects and at 35
are a much better proposition than the
stock at 19. In fact their cumulative
feature is sure to bring their net cost
below that of the stock, before divi
dends can possibly be restored on the
shares. Moreover, the tangible invest
ment behind the 5s should make them
worth their present price.
IV. Industrial Bonds
The graph indicates that the average
of industrial bond prices is exactly at
the level of April, 1915, and that there
fore this class has done far better
marketwise than the railway and util
ity group. As a result of the splendid
11
profits of the industrial companies
many of their obligations now sell on
a lower income basis than some high
grade railway bonds—an unheard of
circumstance four years ago.
A good example is the Am. Smelting
and Refining 1st 5s, created in 1917,
which, though one of the best secured
bonds obtainable, sell well below better
placed issues of similar grade. U. S.
Rubber 5s at 82, Bethlehem Steel Pur
chase Money 5s at 81, and Midvale
Steel 5s at 88 are additional instances.
It is to be assumed that the enormous
surplus earnings of the war period
have at least assured the safety of all
the steel bond issues; and should also
allay all doubt as to the security be
hind the U. S. Rubber obligation.
Another type of industrial bond that
Price
Due Oct. 14 Yield
1947 87 5.95%
1939 83% 5.90%
1936 81 6.90%
1932 85 7.75%
1928 96 6.55%
1936 87% 6.15%
1947 83 6.30%
1924 98 6.40%
might benefit from peace conditions is
represented by the Virginia-Carolina
Chem. 6% Debentures, convertible into
preferred stock at 110. At 98 they are
now selling on a parity with the stock.
Should the latter increase in value the
bonds would gain proportionately.
Chile Copper 6s, selling at 85, belong
to both of the above groups. Brought
out late in 1917, they suffered much
from unfavorable market conditions
attending their flotation. With peace
ful times restored, their merits should
win better recognition. Again, their
conversion privilege into Chile stock
at 35 (which really means 29% at this
price for the bonds) may turn out to
possess substantial value, because,
given the opportunity to consummate
long-planned enlargements, this prop
erty can be made one of the largest
producers in the world.
 and
high yield safe investments

by
Opportunities Created Unfounded Prejudices—Instances
Six Per Cent, Safety, and Probable Ten Point
of

a
Bonds, Preferred Stocks, and

of
Profit—List
Common Stocks
By BENJAMIN GRAHAM
ITH the bond market moving too just possible 4% and safety—

as

as
is
photographed—to say only requires greater care and dis
to
be

fast

it
nothing being analyzed—in selecting the investment.
of

crimination

in
vestment suggestions are out The fact that whereas ordinarily

of

is is

a
In
date almost before the ink dry. high yield uncertain security,

to
the due
is

very course writing this article, many particular instances the reason
of

in
has
it

no
been necessary change the viewpoint may have connection with the intrinsic
to

the rapid advance merits of the issue. here that the

It
is
order conform
or in in

to

to

bond quotations; and whereas week careful investor will find his opportunity
a

two ago the term “High Yield” would and the signs whereby these bargains
7% re
or

recognized are twofold:

be
have denoted 6%% may
at

least
a

turn, we must now regard anything A. Securities safe but unseasoned.

belonging Securities safe but affected by in
B.
6% income basis
as

above
a

high yield category. vestor's prejudice, never no longer

or
to

the
excellent opportunity at justified.
an

This
to
is

tack that ancient and deep rooted mis Some Cheap 6% Bonds
conception—namely that high yield An excellent example high grade

of
a

a
LIST I—ATTRACTIVE BONDS YIELDING 6% OR BETTER
Due Price Nov. 12 Yield
Armour Co. conv. 6s. 1924 99% 6.10%
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Bethlehem Steel Purchase Money 5s. 1936 84 6.52%

.
.
.
.
.
.
.
.
.

Braden Copper collat.

6s

1931 95 6.55%
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Chile Copper conv. 6s 1932 89 7.35%

.
.
.
.
6s ..
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Granby Copper conv. 1928 100 6.00%

.
.
.
.
.
.
.
.
.
.

Missouri Pacific consol. 5s 1923 94 6.60%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

N. Y. Air Brake 1st 6s. 1928 99 6.15%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

St. Louis, Iron Mt. So. ref. 4s. 1929 82 6.29%

&

.
.
.
.
.
.
.
.
.
.
.
.
.

Texas Co. deb. 6s 1931 100 6.00%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
6s .
.
.
.
.
.
. .
. .
. .
. .

Virginia-Carolina Chemical conv. 1924 100 6.00%

Wilson Co. 1st 6s 1941 98 6.14%
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

must necessarily signify greater risk than bond selling on high income basis be
of a

low yield. As applied seasoning

of
to

the general lack found

in

cause
is
a

securities, this rule obviously the Wilson

6s
of

run Co. 1st due 1941, which

&
is

enough—one hundred bonds picked this writing can bought below par.
be

true
at

random from the 4%% class will this company's

of

The stable character

at

eventually business—meat packing—and its splen

of be

found include smaller

to

percentage defaults than the same did earnings record recent years,
in

But with indi

of

number 6% issues. should place its first mortgage bonds

in

very
be

high grade investments.

of

vidual securities the case may the class

different; and there have been and still
In

the same category may placed

be

are innumerable examples high yield Chile Copper convertible

of

6s

due 1932,
obligations which are really better pro which having been brought out
at

the
on

tected than many others selling worst possible time speedily sustained
a

“Six Percent and Safety” Severe decline market value, from

in

lower basis.
(184)
 HIGH YIELD INVESTMENTS 185

which they have only recently been re continued the entire financial resources
covering. The present earnings of the of the country would stand solidly be
mine cover interest charges with a wide hind the Allies. What else could these
margin to spare; and any possible reduc facts mean but that every French and
tion in the profit per pound during the English loan placed in this market was
next few years is certain to be more than absolutely safe—because either the war
compensated for by the increased output would be over when they matured, in
which peace will make possible. It is which case they would easily be taken
important to recognize that, first, Chile care of ; or else the United States itself
Copper is an enormous property with the would assume the burden, as part of its
strongest bankers and the best engineer financial aid to the Allies. It might have
ing talent behind it; second, there are been observed that our advances to
3,800,000 shares of stock with a market France and England were running at the
value of about $90,000,000 standing be rate of six billions a year, while their
tween these bonds and trouble. The his– net imports from this country were less
tory of mining shows that the convertible than four billions. Evidently our loans
bonds of good copper companies have in to the Allies were covering not only their
variably been exchanged for stock—and purchases in this market, but their ma–
there is little doubt but that the holders turing obligations as well.

LIST II—STANDARD INDUSTRIAL PREFERRED STOCKS

Price to
Rate Price Nov. 12 Yield Yield 6%
Am. Agric. Chemical . . . . . . . .. . . . . . . . . . . . . 6% 96% 6.09% 100
Am. Car & Foundry . . . . . . . . . . . . . . . . . . . . . . 7% 111 6.30% 11634
Am. Smelting & Refining . . . . . . . . . . . . . . . . . 7% 110 6.36% 11634
Central Leather 7% 108 6.48% 11634
B. F. Goodrich . . . . . . . . . . . . . . . . . . . . . . . . . . . 7% 104 6.73% 1163%
International Harvester 7% 110 6.36% 11634
S. S. Kresge . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7% 105 6.85% 11634
National Lead . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7% 105 6.85% 11634
U. S. Steel . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7% 1.12% 6.22% 11634

of Chile Copper 6s will some day find it
to their advantage to exercise their con
version privilege.
The list of bonds which have been
depressed marketwise by unjustified pre
judice is a very long one. Contrary to
general opinion, prices do not always
anticipate changed conditions, nor even
immediately reflect them.
Inertia holds in finance as everywhere
else, and broad intervals often elapse be
fore investors accommodate their judg
ment to the new order of things. One
or two examples from the past may win
better attention for our comment on the
present situation.
The Lesson of Allied Bonds
When the United States entered the
war in April, 1917, two things must have
In the long months when the United
Kingdom 5%s ranged below 90 and the
French Municipals sold in the “early
eighties,” the writer presented these ar
guments to investors time and time
again. Did they dispute his reasoning?
No. But how many took advantage of
this extraordinary opportunity? Very,
The Law of very few. Most of them “did not like
foreign bonds”—which meant that the
handful of level headed investors who
were superior to prejudice were enabled
to make a veritable killing.
One other example, which has a bear
ing on the recommendations to be made.
At the end of 1915, when railroad issues
were quoted on a 4%% basis, Railway
Steel Springs, Inter-Ocean Plant, 5s could
be bought at 92. The company was then
its

in excellent financial condition; earn

been apparent to every thinking man. ings had reached record proportions; and
First the war was bound to be won in there were two stock issues junior
to

the
the end. Secondly, as long as the war guarantee them against harm.
to

bonds
 186 THE MAGAZINE OF WALL STREET
But no bond house would have dared the equity of this issue measured by as
recommend them to an investor seeking sets and earnings is so enormous that even
conservative investments. The customer,

oil
a total collapse of the industry could
finding this issue on the list, would have scarcely destroy its value.
sniffed, “I ask them for high grade bonds very similar case supplied by the

is
and they try to palm off this low priced New York Air Brake also selling

6s
industrial. Fine people to trust my money around par. The old-line investor thinks
to !” Whereupon he would have jour the company

of
mushroom war

as
a
neyed to another house and selected a proposition, and views its bonds with
list of railroad bonds beginning with cold suspicion. Yet this issue

so
small

is
Atchison general 4s at 94, and perhaps Air Brake's net current assets are so

so
including some Saint Paul refunding 5s large, and even its pre-war earnings
at 107 to bring up the yield. greatly interest require

of
in
excess
ments, that the safety its first mort

of
The wisdom of this typical investor is
now independent any

of
shown by the sequel. In September last gage bonds

in is
-
when railroad bond prices were at their fluctuation the company's earning
lowest ebb, and the St. Paul 5s were power.-
Granby

6s
selling at 77—a decline of nearly thirty
points—the Railway Steel Springs Co. re Again there are the Granby Copper

LIST III—SOUND INDUSTRIAL PREFERRED STOCKS YIELDING 7% OR

MORE
Price to
Rate Price Nov. 12 Yield Yield 6%
Am. Locomotive 7% 100 7.00% 1163%
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Bethlehem Steel 8% 104 7.69% 133%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

General Motors 6% 85% 7.01% 100

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Republic Iron Steel 7% 100 7.00%

&

1163%
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Pierce Arrow 8% 103 7.76% 133%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Tobacco Products 7% 100 7.00% 116%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Virginia-Carolina Chemical 8% 111 7.20% 133%

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

Willys-Overland 7% 86 8.13% 11634

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.

deemed its remaining mortgage bonds convertible 6s, also due 1928, and sell
in
at at

105, thirteen points above the price ing around par. Many investors would
be

which they couldn't sold because their not consider them because they don't like
yield was too high mining company bond; others recall
a
!

Perhaps this veracious tale may Granby's checkered career many years
be

have valuable moral for pres protest

to

found ago and raise their hands

in

of at
a

ent day conditions. Here are Texas Com the suggestion. But there an issue
is

pany debenture selling par and only $2,500,000; which being retired
6s

at

is
U.

yielding full point more than over $500,000 per year,

of
S.

at

the rate
a

Steel sinking fund 5s. Mr. Average In

of

which comes ahead $15,000,000 stock

vestor remarks “I don't want an oil com valued over $12,000,000; and the in
at

pany bond,” and picks out one terest on which should be earned ten
of

the old
favorites (which sell five points too high times on 14%.c copper. Since the sink
just because they are old favorites). But ing fund must retire the entire issue be
the level headed buyer investigates the fore maturity, the owner get
to

certain
is

issue. He finds that these debentures 110 for his bonds—the maximum price—
on

are the company's only bond—a small

ofIn

them long enough.

he

holds
to
if

large sinking fund just be other words, here combination

is

issue with
a
a

ginning operate—that the company safety, six percent and ten points profit.
to

prop Very similar

its

has poured tens

of
of

millions into the status Armour

is
its

erty out extraordinary earnings

of

and Co. 6% notes, due serially 1924,

to

and continual stock issues, without in any time into 7% pre

at

and convertible
its

creasing funded debt; and that finally ferred stock par. Some investors are
at
 HIGH YIELD INVESTMENTS 187

frightened by the possibility of Govern

ment control of the packing industry.
For the same reason it was so hard to
dispose of the Am. Tel. & Tel convert
ible 6s at 94 (now 104)—the most attrac
tive offering of the year.
The public could not be made to see
that in both cases the disadvantage of
Government control would fall entirely
on the large stock issues, while the ad
vantage of guaranteed earnings would
directly benefit the bondholders.
With practically a half billion of 8%
stock in back of them, what had the A.
T. & T. bondowners to fear for their
terest? And with a hundred millions of
Armour stock outstanding, the holders
of the new notes have a comfortable
buffer between them and confiscation.
Preferred Stocks
Industrial preferred stocks are more
attractive now than at any time in their
history. The status of most companies
has improved so radically in recent
years, that the dividends on their senior
shares should henceforth be assured.
Moreover, since the average yield of pre
ferred stocks is still well above the pre
war figure, the gradual return of interest
rates to pre-war levels should effect a
substantial advance in the price of these
issues.
Our selection of preferred shares has
in been arranged in two groups. The first
includes the standard seasoned issues,
which in the old days were wont to sell
around 6% basis, and which now yield
between 6.30% and 6.75%. These are

LIST IV—COMMON STOCKS WHICH ARE CONSERVATIVE INVESTMENTS

Dividend Rate Price Nov. 12 Yield
Am. Telephone & Telegraph. . . . . . . . . . . . . . -- -- - - - 8% 108 7.40%
Atchison, Topeka & Santa Fe. . .. . . . . .. . . . -- - -- - - 6% 96 6.25%
General Electric --- - -- - 8% in cash 156 9.12%
4% in stock
Great Northern . . . . . . . . . . . . . . . . . . . . . . . . . . -- - - -- - 7% 103% 6.76%
Union Pacific . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- -- - - - 10% 135 7.40%
Western Union Telegraph . . . . . . . . . . . . . . . -- - --- - 7% 93 7.52%
Westinghouse Electric Manufacturing . . . . -- - - - - - $3.50 45 7.77%

The new 7% preferred stock into which
the Armour notes are convertible should
eventually sell at 110; so that here is an
other instance of safety, six percent, and
a probable ten point profit.
Virginia-Carolina Chemical
bentures due 1924, also sell at par. Four
years of unprecedented prosperity has
placed these bonds in the conservative
investment class. The issue is small, the
equity large, a sinking fund maintains
the price, and a conversion privilege
into 8% preferred stock at 110 (below
the present price) carries prospects of a
nice profit.
In the railroad group, there are not
many issues yielding 6% which can
stand the acid test of analysis. The
souri Pacific reorganization has been so
skilful and thorough, and the road's re
cent exhibit so encouraging, that the
First and Refunding 5s due 1923 and
the Iron Mountain devision refunding
4s of 1929 can now be recommended
without hesitancy.
sound and desirable investments, which
eventually should show a profit of from
four to ten points.
Superficially regarded, the second list
might present a rather nondescript ap
6% de pearance. All these issues yield over
7%, and some of them may shock the
staid investor. But a careful analysis
would demonstrate that every one of
these high yielding preferred stocks is
well protected by both asset value and
earning power. The three motor issues
have come through a trying period with
out hint of danger; their backing in fixed
and current assets is relatively larger than
many of the standard issues; and theirs
is an industry which peace is expected to
Mis stimulate rather than contract.
In the same way, the tremendous equi
ties accumulated for the benefit of such
stocks as Republic pfd, American Loco
motive Pfä., and Bethlehem Steel 8%
Pfd, in the past three years should carry
them safely through a temporary period
of depression—if that is in store and
 188 THE MAGAZINE OF WALL STREET
should ultimately be reflected in a per
manently increased earning power behind
the senior shares.
Common Stocks
The best investment is a good common
stock.
The stockholder, as a partner in a
sound enterprise, may expect not only
an attractive return on his capital, but an
appreciation in value as the business ex
pands and a surplus accumulates. Many
an investor has remarked to the writer,
“I never buy stocks. Let the other man
speculate. All my money goes into
bonds.”
This is perhaps the best policy for
those who are unable or unwilling to
exercise care in the selection and periodic
scrutiny of their investment. But num
bers have found to their cost that the
word “bond” contained no magic charm
guaranteeing against loss—and others as
they gained experience have learned con
versely that “stocks” do not always sig
nify speculation.
Conservative investments among com
mon stocks may be divided into two
First, those that represent an
classes.
unquestionably stable industry and pos
sess a long established dividend record.
Second, those whose prosperity is of
more recent date, but which are placed
on a solid basis through the (practical)
absence of prior obligations.
Examples of the first type are Atchi
son among the rails, American Telephone
& Telegraph among the utilities, and
General Electric among the industrials.
The holder of these stocks can view the
past with satisfaction and the future with
WOULD YOU “FALL FOR” THIS OFFER2
The stock of an oil company, only two
months old, is being offered at 5 cents a
share upon the discernment of the pro
moters that they can already calculate an
annual dividend of 300%.
Stories of profits are always good
reading; one concern is publishing a
folder of letters from stockholders in
which they apparently give appreciations
for the extraordinary profits which they
have made in dealing with this individual.
A close inspection of the letters demon
equanimity. The first two have come
through the ordeal of Government Con
trol unscathed—i. e. with dividends
guaranteed. The third can look forward
with especial confidence to coming in
dustrial developments.
Westinghouse is in much the same
position as General Electric, but belongs
rather to the second group because its
investment status is of more recent crea
tion. A long article could be written
about the transformation wrought in this
company's affairs by the prosperity of
the war period. With negligible funded
debt and preferred stock, with current
assets available to liquidate its note issue
at maturity, Westinghouse comes into the
reconstruction period with practically no
charges ahead of its common stock.
Its
7% disbursement has been earned with
a greater margin than many bond inter
est requirements, and a plentiful surplus
has been set aside to stabilize its dividend
policy, should any lean years intervene.
Westinghouse like General Electric pos
sesses limitless possibilities, and the
stockholder need never fear that the
claims of prior issues may at any time
endanger his interests.
There is a dangerous fascination about
high yields which leads many experi
enced bankers to caution against them.
It is perfectly true that unless shrewd
judgment is exercised, the gain in income
return is likely to be offset by painful
‘losses in principal. Yet, given the op
portunity to investigate and select, six
per cent and safety becomes perfectly
feasible—a fact which it has been the
aim of this article to demonstrate.
strates that none of the writers state that
they have made any cash profits. They
estimate the difference between what
they paid for their stocks and what the
then market price is supposed to be—in
other words, their happiness is due to
paper profits.
Remember this: It is a disservice to
buy Liberty Bonds with the intention of
--
selling them; it is a disloyalty to trade
them in for unnecessary purchases or for
speculative purchases.— Samuel Crow
ther in System.
 PUBLIC UTILITIES
Hidden Assets of Consolidated Gas
Will It Sell at 150 Again?—Definite Statement of
System's Earnings and Asset Values—Analysis
of Important Bonds
By BENJAMIN GRAHAM
HAT the public utilities have
most to gain from the return
of peace is obvious to all those
who have watched the unequal
combat between mounting operating
expenses and stationary rates. Of
course, the signing of the armistice
cannot act immediately as the magic
restorative of the pre-war margin of
profit. The scaling down of material
prices and wages may be a lengthy
process, and many think that the levels
of 1914 will never be seen again. More
over, there is the likelihood of a con
traction of industrial activity which, by
reducing the utilities’ gross earnings,
would somewhat neutralize the ben
efits of lower costs.
Such considerations may restrain
speculative enthusiasm in the public
utility stocks, but they cannot over
throw the basic proposition that these
companies have seen the worst and
should gradually regain their former
prosperity. What does this fact mean
in the case of Consolidated Gas, which
three years ago sold above 150, a few
months ago around 83 and is currently
quoted near par? If we were to assume
that its former earning power will
eventually be regained, then ought not
its intrinsic value be fully as great as
before—since the last two years, diffi
cult as they were, could not have sap
ped its resources to any appreciable ex
tent? If Consolidated Gas was actual
ly worth 150 in 1916, then it should
again be worth very nearly that figure
in 1920.
At this point the reader interrupts
sharply to inquire, “But was the price
of 150 three years ago justified by the
(291)
the
facts P”This is the crux of the mat
ter. The investor is no longer willing
to take values on faith. The old re
liable stories of hidden assets, over
stated earnings, etc., that did such
staunch service in maintaining Con.
Gas at a level certainly unjustified by
its dividends, appear to have died out
very suddenly when the stock broke
under par. An attempt to revive them
TABLE I–COMPANIES COMPRISING
THE CONSOLIDATED GAS SYSTEM
A—Gas Companies
Consolidated Gas . . . . . . . .. . . . . . . . . .
Astoria Light, Heat & Power. . . . . .
Central Union Gas . . . . . . . . . . . . . . . . 100%
New Amsterdam Gas . . . . . . . . . . . . . . 99.9%
New York & Queens Gas. . . . . . . . . . 100%
Northern Union Gas . . . . . . . . . . . . . . 100%
New York Mutual Gas . . . . . . . . . . . . 55.3%
Standard Gas Light wºmen #3%
B–Electric Companies
New York Edison . . . . . . . . . . . . . . . . . 100%
Pfä. 65.6%
York & Queens Elec. Common 83.5%
New
United Elec. Light & Power. . . . . . . . 99.9%
Yonkers Elec. Light & Power. . . . . . 100%
-mm
Brush Elec. Illuminating . . . . . . . . . . 100%
C–Gas and Electric Companies
Westchester Lighting . . . . . . . . . . . . . . 100%
Northern Westchester Lighting .... 100%
D—Conduit Company
Consolidated Tel. & Elec. Subway. . 99.7%
now will doubtless find a coldly scep
tical audience, waiting “to be shown.”
Now that the public is at last dis
posed to take a properly critical atti
tude toward this issue, the time would
seem ripe for a real analysis of the
Con. Gas situation. Instead of vaguely
292 THE MAGAZINE OF WALL STREET
estimating the subsidiaries' earnings for this issue in the past. These asser
and assets, let us compile definite in tions may be summarized as follows:
formation on this subject, so that we 1. Elements Adding to Earning
can determine the value of Consoli power.
dated Gas stock in a logical manner— A. Undistributed profits of sub
on the basis of a combined income ac sidiaries.
count and balance sheet covering all B. Excessive reserves charged
the companies as one system. to operations.
Annual Report Inadequate C. Excessive taxes charged to
The source of our information will operations.
not be the ludicrously inadequate re II. Elements Adding to Asset Value.
port that Con. Gas issues annually to A. Excess of par of sub
its stockholders. Toward the Public sidiaries' stocks over valua
Service Commission the company is far tion in Consolidated Gas bal
more confidential; in fact, it fairly ance sheet.

TABLE II—CONSOLIDATED GAS CO. AND SUBSIDIARIES COMBINED

INCOME ACCOUNT (EXCLUDING INTER-COMPANY ITEMS)
1917 1916
Electric -- -- - -- - $34,153,000 $32,094,000
Gross revenues {. Gas -- - -- -- - 29,164,000 27,632,000

--- -- -- - $63,317,000 $59,726,000

Electric $13,148,000 $15,428,000

Net after taxes (before deducting reserves) 6,350,000 9,275,000
{ Gas . . .

Total -- - -- - -- $19,498,000 $24,703,000

Other income - - - -- -- - 1,220,000 1,176,000

Total income . . . . . . . . . . . . . . . . . .. . . . . . . . . . . -- --- - - - $20,718,000 $25,879,000

- Interest -- - -- -- - 5,495,000 5,461,000

Deductions
|Miscellaneous - - - -- -- - 1,166,000 1,092,000
Balance for dividends and reserves --- - - -- - 14,057,000 19,326,000
Reserves - - - --- -- 7,176,000 6,618,000
Dividends - - - -- - -- 6,987,000 6,987,000
Carried to surplus ... . . . . . . . . . . . . . . . . . . . . . - - - - - - - - 104,000 5,621,000

Earned per share—before reserves . .. .. . . . -- - -- -- - $14.08 $19.36

Earned per share—after reserves . . . . . . . . . -- -- - - -- 6.91 12.73

deluges this august body with operat B. Accumulated surplus of sub

ing and financial statistics. In almost sidiaries.
every case, data is available covering C. Excessive contingency re
the 1917 year, but in a few unimportant serves carried as a liability.
instances we must utilize the 1916 Let us take up these items one by
figures. Our results are summarized One.
in Tables I, II, III,_giving first, a list 1-A. The report to the stockholders
of the sixteen companies comprising shows all the earnings of the Consoli
the Consolidated Gas System; second, dated Gas Company proper and of the
a comparative combined income ac Astoria Light, Heat & Power Com
count for 1916 and 1917; third, a con pany, but only that part of the profits
solidated balance-sheet as of December
of the other subsidiaries which is paid
31, 1917.
out to the parent company as interest
With these facts before us, we are in or dividends. In 1916, the undis
a position to test the numerous claims tributed profits of the subsidiaries fig
of “hidden values” that have been made ure out as $4.07 per share of Con. Gas
 HIDDEN ASSETS OF CONSOLIDATED GAS
stock, of which N. Y. Edison Company
accounted for the equivalent of $3.60
per share. In 1917, however, the sub
sidiaries (other than Astoria) actually
paid the holding company more than
they earned; so that whereas the an
nual report shows earnings of $7.76
per share, on a combined basis, they
total only $6.90.
1-B. The contingency and renewal
reserves charged against earnings have
often been characterized as excessive
and as thereby bringing the apparent
net profits below the actual figure.
Following is the total provision made
in 1916 and 1917 for repairs, renewals
and contingencies:
1917
Expended for repairs. $4,925,000
Expended for renewals 1,501,000
Reserved for con
tingencies . . . . . . . . . 5,675,000
Total . . . . . . . $12,101,000
These allowances total 19.1% of
gross revenues in 1917 against 18.4%
the previous year. Both Brooklyn
Union Gas and Edison Electric Illum
inating of Brooklyn charge about this
percentage of gross for maintenance
and depreciation, while Con. Gas and
Electric of Baltimore has a somewhat
lower ratio—about 17.50%. Consider
ing that the Con. Gas Co. of N. Y.
system has a net plant valuation of
$323,000,000, an expenditure of $12,
100,000 for repairs and depreciation—
less than 4%—can hardly be regarded
as excessive.
1-C. The assertion that Consolidated
Gas has over-charged itself in the tax
item is better founded, but the amount
involved turns out to be rather small.
The companies have regularly charged
their earnings with the so-called Cor
porate Property Tax, which they have
never had to pay—this item being in
cluded in another levy. In 1917, the
taxes thus overstated aggregated
$355,000, or about 35 cents per share,
bringing the corrected net earnings up
to $7.25 per share.
The influence of higher operating
costs last year is clearly shown by the
reduction of $5,205,000 in net com
pared with 1916, despite an expansion
293
of $3,590,000 in gross. Of the decline
in net earnings, about $1,600,000 was
due to a cut in electric rates effective
during the year. If in 1917, the system
barely covered its dividend and reserve
requirements, it is evident that the
1918 exhibit will be even poorer, since
operating conditions have presented
still greater difficulties in the current
year; and for at least part of 1919 the
stockholders must be prepared to see
profits fall below the 7% dividend rate.
Whether or not this prospect will af
fect the dividend policy must depend
largely upon
1916
II.-The Asset Value of Consolidated
Gas
$4,382,000
2,429,000 From the combined General Balance
Sheet, presented in Table III, the fol
4,189,000 lowing book value of Consolidated Gas
is deduced:
$11,000,000
1. Par value of Con. Gas stock. $99,816,000
2. Surplus—Con. Gas (proper) . 19,890,000
through
3. Premiums sale of
stock . . . . . . . . . . . . . . . . . . . . . 13,919,000
4. Surplus of subsidiaries . . . . . . 47,954,000
5. Excess of par value of sub
sidiaries' stocks over price
at which carried in Con.
Gas balance sheet . . . . . . . . 52,772,000
$234,351,000
6. Renewals and contingency
TeSeTVe . . . . . . . . . . . . . . . . . . . $ 59,290,000
$293,641,000
Items 4 and 5, aggregating $100,
000,000, are the real hidden assets, rep
resenting the excess of the book value
of the subsidiaries' stocks as shown by
their own balance sheets over the
price at which they are carried in the
Con. Gas investment account. N. Y.
Edison stock, for example, with a par
value of $66,000,000 and a surplus of
$36,000,000, is valued on the holding
company's books at only $39,000,000–
an apparent understatement of no less
than $63,000,000, or $63 per share of
Con. Gas. These figures give Con. Gas
stock a book valuation of fully $234
per share compared with only $113 in
the company's balance sheet. To this
large figure many claim that at least
a part of the replacement and con
294 THE MAGAZINE OF WALL STREET
tingency reserve of $59,290,000 should company is very heavily bonded. If
be added—which would bring the ac the State Tax Commission's figures are
tual value up to somewhere between assumed to represent the maximum
$234 and $293 per share. These hidden value of the company’s property—a
equities in Con. Gas appear so large pretty safe assumption, since they will
therefore, as to justify all the enthus certainly be used as a basis for rate
iastic puffing of the stock in the past. decisions—then at least $68 per share
Nevertheless, it must be recognized must be deducted from the book value
that a good part of these enormous of the stock, bringing the corrected
book values is indubitably the result of figure down to about $166 per share.
an inflated property account. Proof of This then is a fairly accurate and
this fact is provided by a comparison official valuation of Con. Gas stock.
of the assessed value with the net bal Were the shares still selling between
ance sheet value of the system's real 140 and 150, one would hardly charac
estate and plants. Considering all but terize this result as particularly bull
the two Westchester companies, the ish; but with the stock below par these
balance sheet figures in 1914 exceeded figures have a different significance
the appraised value by no less than and should provide a basis for intelli

TABLE III—CONSOLIDATED GAS CO. AND SUBSIDIARIES COMBINED

BALANCE SHEET DEC. 31, 1917, EXCLUDING INTER-COMPANY ACCOUNTS
Assets Liabilities
Plant account . . . . . . . . . . . . . . $382,341,000 Capital stock—Consolidated
Cash . . . . . . . . . . . . . . . . . . . . . . . 6,601,000 Gas . . . . . . . . . . . . . . . . . . . . . $99,816,000
Special deposits . . . . . . . . . . . . 18,192,000 Subsidiaries (outside in
Materials and supplies. . . . . .. 7,847,000 . terest) . . . . . . . . . . . . . . . 2,560,000
Other current assets . . . . . . . . 18,980,000 Bonded debt . . . . . . . . . . . . . . . 114,584,000
(Total current assets) . . . . . . (51,620,000) Current liabilities . . . . . . . . . . 21,749,000
Miscellaneous . . . . . . . .. . . . . . 1,603,000 Misc. reserves . . . . . . . . . . . . . 3,030,000
Reserves for contingencies
and renewals . . . . . . . . . . . . . 59,290,000
Surplus—Consolidated Gas... 19,890,000
Surplus—Subsidiaries .. .. . . . 47,954,000
Surplus—Premiums on sale
of stock . . . . . . . . . . . . . . . . . 13,919,000
Excess of par value of Subs.
securities over carrying
price . . . . . . . . . . . . . . . . . . . . . 52,772,000

Total . . . . . . . . . . . . . . . . . . . . $435,564,000 Total . . . . . . . . . . . . . . . . . . . . $435,564,000

$121,000,000. In the past two years, gent confidence in the intrinsic merits
however, the assessed values have been of this issue.
increased by fully $60,000,000, chiefly Another point of great importance is
through the marking up of the “Special the continued strong liquid asset posi
Franchise” account. The latter item tion of the system, which reports cash
takes into consideration the system's assets alone in excess of the total cur
“incorporeal rights”—in other words, rent liabilities. It is interesting also to
it includes an official valuation of the Observe that the bond interest of the
good-will. companies as a whole has been covered
The 1917 tax figures indicate an with a good margin, even in this un
over valuation of about $56,000,000 in favorable year. In Table IV we list
plant and franchise account. To this a few of the more important bond is
sum ought to be added the $12,500,000 sues. The Convertible Debenture 6s,
stock of the Westchester Lighting which can be exchanged for stock par
Company, which is carried by Con. Gas for par, are not selling on a straight
at a nominal figure and no doubt rep bond basis. But regarded as a one
resents nothing but water, since the year call on the shares, with the pos
 HIDDEN ASSETS OF CONSOLIDATED GAS 295

sible loss limited to four points, they situation. Current earnings are un
are fairly attractive, although the doubtedly poor; but the company is in
writer prefers the American Tele strong shape to meet this temporary
phone & Telegraph Convertible 6s. The setback. Unless the expected improve
mortgage security of the N. Y. & ment in operation results fails utterly
Westchester Lighting 4s is not espec to materialize, there seems no reason
ially strong, but the guarantee of Con to anticipate a cut in the dividend. If
solidated Gas should make them per normal conditions return, the earnings

-
fectly safe. After their recent twelve should gradually approach the level of
point rise advance from 59, they are 1916—in which nearly $13 per share
not quite as desirable as the N. Y. Gas was earned on the stock.
& Electric 4s, due 1948 (a N. Y. Edison Consolidated Gas has never been the

TABLE IV—IMPORTANT BOND ISSUES OF THE CONSOLIDATED GAS

Amount SYSTEM
Outstanding Due Price Nov. 25 Yield
$24,874,000 Consolidated Gas Convert. Deb. 6s. . . . . . . . . . 1920 104% . . . . . .
10,635,000 New Amsterdam Gas Consol 5s. . . . . . . . . . . . . . 1948 85 6.10%
15,000,000 N. Y. Gas & Elec. Light, Heat & Power 1st 5s 1948 96 5.27%
20,930,000 N. Y. Gas & Elec. Light H. & P. Pur. Money 4s 1949 76% 5.62%
8,488,000 Westchester Lighting 1st 5s. . . . . . . . . . . . . . . . . 1950 92 5.55%
10,000,000 N. Y. & Westchester Ltg. Gen. Gtd. 4s. . . . . . 2004 71 5.64%

Company obligation, which is well pro gold mine that Wall Street liked to
tected directly by earnings). The New think it; but it is a financially sound,
Amsterdam Gas 5s are not guaranteed well managed utility, enjoying excep
and this particular company reports , tional advantages through its unique
only a slight margin of earnings over location. There is a hundred dollars
fixed charges. per share and more of real value be
hind this issue and with better times
Conclusion ahead, the investor at these levels
Coming back to the stock, our should find the stock a very satisfac
analysis has disclosed both the favor tory purchase—although a little pa
able and unfavorable aspects of the tience may be needed.

MARKET STATISTICS
Dow-Jones Avgs. Breadth
40 20 50 stocks Total (No.
- Bonds Inds. Rails High Low Sales Issues)
Monday, Nov. 18. . . . . . . . 81.98 85.01 89.91 76.85 76.07 561,500 212
Tuesday, “ 19. . . . . . . . 81.76 84.68 89.56 77.66 75.80 456,000 200
Wednesday, “ 20. . . .. . . . 81.70 84.33 89.45 76.28 75.49 541,400 200
Thursday, “ 21. . . . . .. . 81.68 83.84 89.28 76.54 75.53 564,800 210
Friday, “ 22. . . . . . . . 81.42 82.60 88.45 76.13 74.76 673,600 238
Saturday, “ 23. . . . . . . . 81.35 81.83 87.51 74.91 73.97 334,700 206
Monday, “ 25. . . . . . . . 80.96 79.87 85.10 74.17 72.06 984,700 245
Tuesday, “ 26. . . . . . . . 80.69 81.43 86.06 73.80 71.96 647,600 221
Wednesday, “ 27. . . . . . . . 80.78 80.16 85.56 74.02 72.64 727,900 191
Thursday, “ 28. . . . . . .. THAN KSGIVING
Friday, “ 29. . . . . . . . 80.82 80.93 87.16 73.93 72.17 661,300 205
Saturday, “ 30. . . . . . . . 80.91 81.13 87.03 74.05 73.48 277,500 175

$1,000.00 REWARD
For information leading to the arrest and conviction of the person or persons who
broke into my office and my private files at 42 Broadway, New York, and extracted
or copied or examined my correspondence with my attorney in connection with my
$100,000 libel suit against Louis Guenther, Editor of the Financial World.
RICHARD D. WYCKOFF.
 BONDS AND INVESTMENTS
Bargain Hunting Through the Bond List
Gilt Edged Railroad Issues at Attractive Prices—Some
Cheap Industrial Bonds—Peerless 6s—The Invest
ment Mystery

By BENJAMIN GRAHAM

EARLY a thousand different The insignificant size of the Houston

bond issues are listed on the
ſºs Daily Quotation Sheet of the
*
New York Stock Exchange. If
armed with a microscope and a set of
Security Manuals, the statistician
plows valiantly through this wilder
ness, he is certain to uncover a bargain
or two in passing. A recent expedition
of this nature has yielded the follow
ing results:
Among the score of bonds grouped
under the heading of Southern Pacific,
appears the following item; Houston
& Texas Central issue is explained by
the fact that $6,711,000 of the bonds
originally emitted have been retired at
110 by a sinking fund provided from
the proceeds of land sales. Practically
all the available land has now been dis
posed of. In the olden days, this fund
was quite a nuisance to the bondhold
ers, since otherwise the issue would
have ranged well above the callable
price. But the investor has a chance
to purchase this gilt-edged issue thir

its
teen points below minimum price

in
& Texas Central 1st 5s, interest guar the past.
anteed, due 1937. Outstanding $1,389,
To make assurance doubly sure, the
000. Quite a few of these bonds have
are additionally pro
H.

T.

5s
C.
&

1st
sold recently at 96; the last sale, how

as
tected by the guarantee

to
interest
ever, was noted at 97, at which price
the Southern Pacific Co.—which,
of

the yield is 5.25%. Not such a wonder while quite superfluous this case, in
ful return you say; but let us first see intensify the attractive fea
of to

serves
in what class the issue belongs. tures the issue. All told, this

is
According to the Railroad Manual, about as safe an investment as can be
Houston & Texas Central 5s are a first
found anywhere, and its yield sub
is

lien on 453 miles of road, running in stantially higher than that many
of

to Houston. The bonded debt per mile other gilt-edged railroad bonds. Hold
figures out therefor at only $3,128.
the New Pennsylvania General
of

ers
This is an extraordinarily low rate in 5s, Chicago North Western General
&

any case, and especially so in view of

or

Wabash 1st could very advan

5s

5s

the profitable character of the mort tageously exchange into Houston

&

gaged line, as evidenced by the com

pany's separate report. Texas Central 5s—provided bonds can
still be obtained at or near the last sale
The following comparison of these 5s price. This the great difficulty
in
is

with Atchison, Topeka & Santa Fe recomending bargains; they rarely re

General 4s—typical of the highest main on the counter long enough
to

grade railroad bonds—indicates the snapped up by the eager purchaser

be

unique security enjoyed by the former thereof.

issue:
H. & T. C. Atch.
East Tennessee, Virginia Georgia
&

1st 5s gen. 4s
1st 5s.
Yield .................... 5.25% 4.70%
Outstanding per mile. ... $3,128 much the same type
of

$17,600 Another bond

Interest charge per mile.. 156 704
that just discussed the East Ten
as

is

Net Available for interest

nessee, Virginia Georgia 1st
5s

due
&

per mile, 1917. . . . . . . . . . 3,000 4,400

yield
at

to

Interest charges earned. 19.2 times 1930, which sold last 95

in

6.3 times
(527)
528 THE MAGAZINE OF WALL STREET

5.60%. This is an underlying obliga his loss much more easily by switching
tion of the Southern Railway and is

O.
into the convertible 4%s. The

C.
&
secured by a first lien on the very im latter bond, constitutes an excellent
portant line running through Nashville business man’s investment. -
and Chattanooga. The issue amounts The higher yield

N.
Y.
of
the Central
to but $3,106,000, so that it is outstand debenture 6's compared with the

C.
by&
ing at the rate of but $5,650 per mile.

5's
explained first

Q.

is
convertible
For some peculiar reason these bonds the fact that the former are deben

a
are listed on the official Quotation ture, while the latter have mortgage
Sheet as “divisional 5s” and on this ac

a
lien. Secondly, the Chesapeake 5's are
count there seem to be a widespread now convertible into stock at 75
notion that they are junior to another against 110 for the N. Y. Central 6's.
issue, called East Tennessee, Virginia This means that O. shares need

C.
&
& Georgia Consolidated 5s due 1956. advance only eight points

of to
show

a
Exactly the reverse is the case; in fact, profit the purchaser

to
the 5's,
the 5s of 1930 precede no less than four Central must rise thirty

N.
Y.
whereas
other mortages as follows: one points—a much less probable con
1st Lien E. Tenn., Va. & Ga. 1st 5s. ... 1930 tingency.
2d “ E. Tenn., Va. & Ga. Con. 5s. ... 1956
3d E. Tenn. Reorganization 5s. 1938 Cheap Industrial Bonds
“

Southern Ry. Con. ... ...

5s

4th 1994
“ “

The prosperity the past few years

of
5th Southern Ry. Devel. 4s. 1956
.
.
.
.
.

Also has been reflected the quotations

in
6th Southern Railway Preferred Stock for industrial bonds, which,

in
sharp
“ “

7th Southern Railway Common Stock

contrast with railroad and utility ob
not only
of

The holder these bonds ligations, have many cases advanced

is

in
the rails” but above their pre-war level. Real bar
to

“close surrounded
is

by layer upon layer junior issue

of

gains the industrial list are there

in

padding pos
of

unearth;
no
to

absorb the stocks fore by means easy

to
a

sible reorganization. particularly careful study—and above all an im

It
is

recommended that this obligation be partial mind—are required dig them

to
purchased place Southern Rail
of

Out.
in

way consol. 5's, which sell higher

at

The fact that Granby Copper 6's due

a

price and yet are not at

as

well secured 1928 have again sold under par calls

are the underlying
E.
T.
as

Va. Ga. the excellent opportunity for

to

tention
bonds. conservative and profitable investment
Chesapeake and Ohio Issues afforded by this issue. Granby 6's pos
sess all the qualities
of

desirable bond
The yield returned by the bonds
a
of

the Chesapeake and Ohio appears very —as witness the following enumera
tion:
the great progress
of

atti active view

in

made by the company recent years. Small closed first mortgage on

in

1.

'Tis true that the overlarge proportion valuable property.

stock militates against the Net current assets exceed par
of

to

bonds
2.

investment rating value of the issue.

of

its various issues.

But this fault even more pronounced Minimum earnings greatly ex
in
3.
is

in the financial structure of New York interest requirements.

of

cess
Central, the bonds which sell rela
of

Market price stock many times

of
4.

tively higher than do Chesapeake's. the outstanding bonds.

Table gives comparison the lead Sinking fund will redeem entire
of

5.
a
I

ing issues the two systems. issue before maturity.

of

Conversion privilege
of

Solely from the investment stand potential

6.

point, the most attractive value.

of

the Chesa
peake issues the convertible 4%’s, The fourth point ordinarily escapes
is

their near maturity the investor's attention, yet

of

which because the

it
is

1930 yield 7%. An investor who has most significant index the real se
of
in

purchased the New York Central ref. curity behind bond issue. Where the
a

the nineties should make up the stock greatly exceeds the

of
in

4%’s value
 BARGAIN HUNTING THROUGH THE BOND LIST 529

funded debt, there is room for a severe
shrinkage in the company's assets and
earnings before the safety of the bonds
is in any way impaired. In the case
of Granby 6's there is $15,000,000 stock
with a market value of $12,000,000,
junior to but $2,500,000 of bonds. In
other words, the mortgaged property
is here pledged at only 18% of its cur
rent realizable value.
Perhaps the most interesting feature
of this issue is the large sinking fund
of 10% of net earnings plus the fixed
sum of $40,000. This provision is al
most certain to retire the entire issue
before maturity, and since the trustee
must pay 110 for the bonds, if not ob
tainable for less, the patient bondhold
er could successfully hold out for the
top price—and again a ten point pre
mium in addition to his excellent
return.
stock, selling at 75, paying $8 divi
dends, and earning $20 per share. Evi
dently the company could meet a year
or two of depression without the
slightest danger to the bonds? When
Union Bag succeeds in living down its
past reputation, these 1st mortgage 5s
should easily sell ten points higher.
Chile Copper 6s.
Chile Copper Convertible 6s, due
1932, have lost about half of their
ten
point gain following the declaration
of the armistice, and are now selling
at 84%. This means a straight yield
of over 7%, which the amortization of
the large discount brings up to about
8%. So liberal a return for a bond is
sue would imply more or less serious
doubts as to the safety of principal or
interest, yet an analysis of this under
taking reveals elements of fundamental

TABLE I–COMPARISON OF N. Y. C. AND C. & B. BonDs

New York Central Ches, Ohio
&
Due Price Yield Due Price Yield
1st Lien 1st 3%.s.. 1997 72 4.90% 1st 5s. 1939 98% 5.11%
...

&n iść
.
.
.
.
.
.
.

“..." 74... Gen. 4%s.....

83 77

5.25% 1992 82 5.50%

3d Ref. 4%. 5.42% Conv. 4%s. ...
“

2014 1930 81 7.00%

,

Convert. Conv. 6s... 1935 99% 6.05% Conv. 5s. 1946 87% 5.90%
.
.
.
.

Union Bag and Paper 1st 5's strength which should entitle the 6%
few years higher investment rating.
to

great prosperity can bonds

A

of

entirely transform the status The cause

of
of

com: this exceptionally low

a

pany's bond issue. The Union Bag and price can be traced primarily
to

their
Paper Company ill-times offering par April 1917.
of

an

the old days was

at

in

overcapitalized, more
or

less shaky en The sudden collapse the bond mar

of

terprise—a speculative proposition pure this juncture left most

at

ket
of

the
and simple. But the reorganized Cor
in

issue the underwriters,

of

the hands
poration has worked itself into excel. and the process investment absorp
of

ient condition late; and the first

of

tion,
or

“digestion,” has necessarily

5's

mortgage
up

due 1930 stand well, been slow. There no doubt, also,

is

under critical analysis—although they that the foreign location the prop
of

are selling erty has been held against

87

yield 6.70%. First

at

to

by the
it

there are only $3,000,000 left conservative. There has been

of

the deal
a

original re
of

fine talk about the coming period

of

issue $5,000,000, and the

of

mainder are being retired

at

steadily American investment foreign fields:

in
a

increasing rate—now about $170,000 but does appear

as

long
it

to if

we have
a

per year. Secondly, they are fully cov educational process undergo before
ered by net current assets, which fact Yankee dollars will respond readily
to

one
ofis

the best possible assurances

of

of

the call Hu-Kuang.

or

Wladikawkas
ability repay. Both For here
to

Chile Copper—an enter

in

1917 and
is

1918 interest charges were earned prise originated, financed and managed
no

less than ten times over. Moreover, by Americans—in country certainly

a
by

the bonds are protected $10,000,000 more amenable our control than any
to
 530 THE MAGAZINE OF WALL STREET
European state—which can contend
with only meagre success against the
provincial spirit of American investors.
The bases of Chile Copper's strength
are its huge ore reserves, its large pro
ductive capacity, and its ability to pro
duce at relatively low cost. With four
hundred million tons of developed ore,
the exhaustion of the mine can be
nored as a factor. Current production
is approximately 100,000,000 pounds
per annum, the projected output is
300,000,000 lbs. Since the interest
charges on the $35,000,000 6s and the
$15,000,000 prior 7s aggregate $3,150,
000, a profit of three cents per lb. on
the present scale, or only one cent on
the ultimate output, will serve the
funded debt. In this connection it
should be noted that only about 50%
of the principal of the 6s has been paid
in, so that present interest charges are
about $1,000,000 less than the above
calculation indicates. - standing. The funds were obtained by
The method of dealing in the part
paid receipts is somewhat peculiar. If
a bond is purchased at 84%, the trans
action would be settled as follows:
Price of $1,000 bond at 84%%.
Less unpaid installment. . . . . .
Net Cost. . . .. . .. . . . . . .
It should be pointed out that the part
paid receipts are dealt in “flat,” so that
the accrued interest is not added to
the purchase price. The company has
the right to call the second installment
-
on May 29.
Peerless Truck and Motor 6s.
Bonds have their misteries no less
than stocks. The prize puzzle of the
bond field does not appear on the Stock
Exchange Quotation Sheet, but is prob
ably presented by the unlisted
Mortgage Notes of the Peerless Truck
Motor Corp., which are now sell
and
ing at 87% to yield about 8%%.
These Notes were brought out in
mº-m
1915 by a very reputable syndicate and
Willis—Ourcompany was getting 1000 barrels a day
our production stopped.
-
Gillis—That's funny. I never heard of an oil-well acting like that before.
Willis–Who's talking about oil-wells? This was a brewery.—Judge.
- º
made an excellent showing at the time.
The three annual reports published
since then have all been very favorable
as fas as the notes were concerned.
The company's accounting methods
seem to have been extremely conserva
tive; nevertheless interest charges
have been earned at least five times
ig over during this period. Furthermore,
the working capital position has been
kept consistently strong, and on Dec.
31, 1917—the last report available—
cash assets alone exceeded all current
liabilities. Considering the fact that
the bonds were covered one and one
half times over by net current assets—
entirely outside of the Plant Account—
it is difficult to imagine how they could
ever get into trouble.
But most important of all is the fact
that the company last year retired well
over $1,750,000 of these bonds, leaving
hardly more than $3,000,000 now out
the sale to the Government of the un
profitable Long Island plant.
In view of the excellent showing that
this security makes from every stand
point, it is difficult to understand the
. . . . . . $845
extraordinarily low price at which the
. . . . . . 500
notes have sold since shortly after
$345 their issue. For one thing it is known
that the underwriting syndicate have
never made an effort to maintain the
quotation. Again certain losses sus
tained by a subsidiary on shell con
tracts appear to have frightened bond
holders, but these were all charged off
against the earnings of 1916.
The writer has investigated the af
fairs of the Company as thoroughly as
available data will allow, and has been
totally unable to discover an adequate
reason for the large discount at which
First the notes are now selling. Either there
is a particularly elusive dusky gentle
man hidden in this wood-pile—or else
-
the Peerless 6s are one of the greatest
bargains to be found in the wide realm
MISUNDERSTOOD
of corporation bonds.
when suddenly on December 1st
An Advisable Exchange–B.S.O. for C.&O.
Great Transformation in Relative Status of the Two Sys
tems—C. & Q. Bonds Now Better Secured—Com
parison of Revenue, Expenses and Charges—
Position Under Government Control

By BENJAMIN GRAHAM

HE strange revolutions wrought that Baltimore Ohio's bonds still enjoy

&
by time are nowhere so evident higher public estimation, even though

a
as in the securities market, where the common stock has fallen well behind.
an accurate comparison of the The preference for

B.

of
O.'s bonds

is
&
present with the past is afforded by the long standing and based upon the strik

is
price record over a period of years. The ing defect Chesapeake's capitalization

in
spectacle of Chesapeake & Ohio selling structure—namely, the preponderance

of
nine or ten points higher than time funded debt, which par value aggre

in
honored B. & O. must indeed excite gates three times the capital stock. While
wonder in the minds of those veterans itself has always been plentifully
O.
B.
&
who recall that about fifteen years ago supplied with obligations, the fact that

it
the latter issue was quoted regularly at

º
its

twice the price of Southern neighbor.

Even the years immediately before
in

RANGE OF COMMON STOCK

the war, ranged between 20
B.

O.
&

and 30 points higher—always enough

|

to indicate much sounded investment

a

rating for the country's oldest railroad.

But from 1916 on Chesapeake's mar
as

ket quotation began gain rapidly,

to

by
In

shown our first graph. 1918,

is

the price limits

of

the two issues were

practically identical, with Chesapeake
entering the present year well the
in

lead.
What were the causes underlying this
complete reversal market position?
in

The most obvious reply would be:

B.
&

O.'s balance for dividends has been de

clining sharply, while Chesapeake's has
recorded noteworthy expansion. This
a

by

fact clearly brought out our second

is

graph, which reveals that since 1915 the

surplus earnings
of

the two system have

tending opposite directions.
in

been
We would call particular attention
to

another fact demonstrated by this graph

—namely that O.'s margin safety
B.

of
&

as

above interest charges has now fallen has preferred

as

well common stock

well below the corresponding figure for outstanding, gave its bond issues better
as

Chesapeake. From the investment stand protection; and the graph indicates,
point this question even greaterim its interest requirements five years ago
of
is

portance than the percentage earned on were earned with much larger margin
a

safety
of

C.

comparison
of

present than were O.'s.

&

the stock. the

A

prices for the similar securities But steady Baltimore

in
of

&

both the decline

companies (given III) Ohio's net earnings, accompanied by the
in

Table indicates
(733)
ammº
734 THE MAGAZINE OF WALL STREET

its
rapid increase in fixed charges, has com rapid gain upon rival

to
due the

is
its
pletely undermined this solid investment fact that per mile gross increased dur
ing this period from $15,130

to
advantage. The bondholder should note $22,650,

or
carefully that in both 1916 and 1917 over 50%—while O.'s rose only

B.
to &
or
Chesapeake's interest requirements were 22%, from $23,190 $28,300. This
earned with a substantially larger margin development cannot

be
tem

to
ascribed
of safety, and furthermore that the guar porary war activities, which must have
anteed compensation under Federal con benefitted B. O. as much as Ches

&
trol affords relatively better security to apeake. Nor can the demand for coal

be
the primary cause, since bi

is as
this company's bonds than to B. & O.'s. regarded
important part

of
as
tuminous almost

a
Baltimore's traffic as of C. O.'s.

is

&
it
TABLE I–TEN-YEAR DIVIDEND gain

of be
The

in
the latter's revenues must
RECORD
the rapid upbuilding

to
ascribed rather
its territory, which has afforded much

a
better field for expansion than the al
ready highly developed regions traversed

by
the Baltimore Ohio.

&
-mm
Operating Expenses
Of equal significance with the greater
gross revenues, Ches

in
increase

is
Present rate. . . . . : its transporta

of
. - apeake's better control
*2% paid Feb. 1, 1919.
tion costs. Its advantage this respect

in
dates far back as can be observed from
the data for 1912, given our second

in
So radical a transformation in financial
We should expect that just

C.
as
table.
results requires a more thorough exami
O.'s lower traffic density

in
1912 gave
it &

nation into its basic causes—to determine

its
better opportunity

to
whether it has been due to merely local increase
a

O.'s higher op
so

gross business,
B.

or accidental conditions, or to a per

&
erating ratio would make improvement
manent change in the status of the two
that respect much easier
to
The former would indeed ap
in

systems. achieve.
pear unlikely, in view of their close Nevertheless the opposite has been the
case, and the table shows that Ches
proximity and the similar nature of their
apeake's substantial advantage
in
tonnage. Except for some advantage 1912
really extraordinary
to

has increased
its

gained last year by C. & O. through

a

figure
in

1918—the difference its favor

in

---
it of

the war traffic the Norfolk

in

control
being over 10% gross.
of

district, expected that both

be
to

were
lines would experience the same vicissi
tudes and their fortunes would fluctuate TABLE II—RATIO OF TRANSPORTA
together.
TION, TRAFFIC AND GENERAL
EXPENSES TO GROSS
Further study the subject discloses
of

C. O.'s
&

Chesapeake's present
of

that the basis Advan

ascendancy greater tage
A

B. O. O.
C.

three-fold:
&
is

&
1.

1912 39.6% 4.8%

expansion An 34.8%
in of
in

volume traffic.
2.

.
.
.
.
.
.
.
.
.
.
.
.
,

1916 39.4 32.9 6.5

increasing superiority operating effi
.
.
.
.
.
.
.
.
.
.
.
.
.

1918 (11 months). 49.0 38.5 10.5

ciency. much smaller growth in
of
3.
A

Average Revenue Trainload

terest charges. Tons Tons Tons
1913 620 843 223
.
.
.
.
.
.
.
.
.
.
.
.
.

Gross Business 1917 777 1,043 266

.
.
.
.
.

.
.
.
.
.
.
.
.
In

O.'s revenues per mile

B.

1913
&

greater O.'s. By In view ofthe fact that B. O.

C.

&

were 50% than

in to is
&

1917 this advantage had been reduced carrying considerably

to

still more traffic

only 25%. (In 1918—an abnormal year, the mile, its much poorer showing
of

course—the difference was cut still transportation expenses must excite re

only 18%.) Chesapeake's mark. Chesapeake helped,
of

further
to

course,
is
 AN ADVISABLE EXCHANGE-B. & O. FOR C. & O. 735

by the somewhat larger proportion of all tracks (including sidings) in

of
age
coal traffic handled, which makes enor 10.2%. While this growth

is
creased
mous train-loads possible—as shown by somewhat larger than O.'s (for

C.
&
Table II. Yet this factor is more than which the two figures are 5% and 7%)

it
offset by the 40% higher rate per ton will not go far account for 48%

to

a
mile enjoyed by B. & O. augmentation interest requirements.

in
The crux of the whole matter lies in Does represent new equipment?

2.

it
C. & O.'s lower cost of operation per Since June 30, 1912, the total tractive
train mile. Numerous factors contribute power

of
B.
O.'s locomotives and the

&
to this result, an analysis of which would total capacity its freight cars each ex

of
be too technical for our purpose. We panded 14%. During this time the loco
would refer merely to the much larger

O.
motive power

of
C.
rose 18.3% and

&
payments by B. & O. for loss and dam
age, and to the excessively large sums it
spends on traffic expenses (superintend
ance, outside agencies, etc.). The figures
700
seem to show very clearly that the greater
economy of Chesapeake's operation is
due to greater efficiency.
The importance of this subject should

[]
be evident from the fact that had B. &

5
O.'s transportation traffic and general ex
penses been held down to the same ratio
its

as Chesapeake's, net income

in

1917
would have been fully $13,500,000 larger
$9 per share for the com
of

—a matter
i
mon stock.
O.'s
be

B.

cannot claimed that

It

&

5
0

higher operating costs are due larger

to

expenditures for upkeep, since the above

argument has left maintenance charges
entirely out consideration. The fact
"TÉ
of

that the maintenance record presents

is

s|
5

nothing great importance, save per

of

of

in
B.

haps the neglect O.'s roadbed

&

1915. The 1913-17 reports show that

an

no
its

freight car capacity

of

Chesapeake spent average 32.64% less than 23%.

on

gross maintenance, against 31.95% very substantial advantage

of

Here
in
of is
a
O.

be

The 1918 figures will re

is its

for spite
B.

of
&

favor Chesapeake,
in

referred later. luctance issue new securities. not

It
to

to

strange, therefore, that 1917 Ches

in

Fixed Charges
O.'s apeake enjoyed net revenue from
B.
&.

Between 1912 and 1917,

a

equipment hire
of

B.

$1,484,000, while
&

funded debt increased about $120,000,

O.

no

was compelled pay out less than

to

Its interest charges the begin

at

000.
$3,101,000 for this service—a truly re
ning 1918 were $19,250,000 against
of

of markable amount. Considering that

$13,028,000 paid
in

1912—an advance
During the same Chesapeake's traffic had grown much
or

$6,222,000, 48%. O.'s, the former road

B.

faster than
&

period Chesapeake's outstanding bonds

have greater need
of

would seemingly
its

expanded but $26,000,000 and interest

borrowing equipment. That directly the
charges only $1,237,000,
us

17%. Let
or

opposite was the case bears witness either

B.

see what O. can show for its much

&

or

the more adequate supply, the more

to

fixed charges.
in

heavier increase
O.'s equipment.
of
C.

efficient use,
&

Does represent additional mile

it
1.

The detailed figures indicate that both

age? conditions obtain.
O.
B.

The main line mileage

of

has
&

by

represented
Is

mile current assets?

3.

7.2% since 1912, and the

it

increased
736 THE MAGAZINE OF WALL STREET

On July 30, 1914, B. & O.'s net liquid Balti

of
total investment $62,630,000,
By December Ohio has acquired 397 miles

of
assets were $28,135,000. more

&
31, 1917, this amount had been reduced main line—at cost therefore of over

a
to $15,571,000. If
materials and supplies $150,000 per mile. claimed that this

It
is
are excluded—as the more logical ac so-called Toledo and Cincinnati division
counting practice demands—then the de every respect profitable

as

as
in
the rest

of is
cline in working capital is indeed ominous Yet the exceed

B.
the O. system.

&
—from $20,225,000 to $893,000. During ingly unsatisfactory record this prop

of
this period Chesapeake had been steadily erty past years makes quite apparent

in

it
its

H.
improving cash position; but large that the C., venture has proved

D.
&
expenditures extremely costly one—the loss on

an
for new cars

in
1917

by
which not adequately measured the

is
$10,892,000 written off the investment
and charged surplus

to

in
1916.
INTEREST CHARGES TIME3 EARNED
Status Under Federal Control
'4
-

'I5

'I6

'Iſ
3

The compensation guaranteed by the

certainly great import

of
Government

is
determining the carriers' ability

as
ance,
pay interest charges and dividends

to
under present conditions. But the
rental gains added significance

of
amount
based upon

an
from the fact that

is
it
average past income—and
an of
therefore

is
.6,0.

as
good
of as

indicator one could desire

the relative earning power

of
EARNED ON COMMON STOCK the two
systems during the period immediately
prior Federal operation. From these
to

two points
of

view the results shown

in
our Table IV should be of considerable
interest. The computation for

B.
O.

&
based upon official estimate pub
an
is

lished last December, which apparently

ac

or
includes some extra compensation
#

the C., H. receivership.

D.
of

count
&

:
The results for Chesapeake are based
upon the Bureau
of

Railroad Economics'
figures and the interest charges and
on

given the 1917 re

as

“other income”
in

port. The comparison shows that

in

respect bal
as

as
to

bond interest well

ance for dividends, Chesapeake makes
brought down the working capital posi much the better showing.
was five years ago. Actual Earnings
to

tion about where

in
it

1918
Figures that have just come
to

hand
The C., H. D. Investment
&

for the full year 1918 show that Ches

The proceeds O.'s large bond the very few
of
be of

apeake Ohio was one

B.

&
&

issues cannot all recognized the cash roads that reported larger net income
in

account, last year than O.,

on
or

or

additional mileage
B.

new
in

in

1917. the
&

equipment. good part other hand, fell behind disastrously—its

of

these funds
A

went into investments—particularly the net after taxes being less than one-third
Cincinnati, Dayton road, the previous year's figures.
be of

Hamilton
of It

must
&
& up

good part Balti

O. to

which December 31, 1917, had cost said here that

a

cash, addi Ohio's miserable showing at

B.

$39,380,000 more
in

in

is

the
&

underlying and assumed obliga extraordinary expenditures

to

tion tributable
to

tions aggregating $23,250,000. For this for maintenance, these having increased
 AN ADVISABLE EXCHANGE–B. & O. FOR C. & O. 737
sº

its
from 30% to over 42% of gross in 1918. income account the $362,000 surplus
But as our second table showed, this earnings one subsidiary—the Sandy

of
company has continued to fall behind Valley and Elkhorn R.—while the

R.
Chesapeake in operating efficiency. $411,000 suffered by the Chi

of
The deficit
exhibit of C. & O. is particularly en

R.
R.

of
cago Terminal (all whose stock
couraging as indicating the ability of this owns) does not appear the parent

in
it
system to operate successfully under the company's statement.
Finally, reference should

be

to
made
O.'s large bank loans, aggregating

B.
&
TABLE III–CORRESPONDING SE $22,500,000, for which constant exten
CURITIES OF THE TWO SYSTEMS sions have been necessary, and which,
Ohio
with the $7,500,000 notes maturing July
Baltimore &
Price
next, constitute disquieting feature

in
Due about Yield

a
1
Common stock, 4%. . --- - 46 8.7 the company's financial situation.
Preferred stock, 4%. . -- - - 55 7.3
Prior Lien 3%s. . . . . . 1925 88 3.9 Conclusion
First 4s. . . . . . . . . . . . . . 1949 77 5.2
Ref. and Gen. 5s. . . . 1995 82 6.1 The cumulative
effect of all the above
must inevitably

be
Convertible 4%s. . . . . 1993 78 5.8 verdict

in
evidence

a
favor Chesapeake Ohio against

as
of
Chesapeake & Ohio

&
Price B. O. The market has already re
Due about Yield &
corded this judgment the relative price

in
Common stock, 4%. . - -- - 55 7.3
the two common stocks—although the
of

Consolidated 5s. . . . . . 1939 99 5.1

facts would seem require an even

& to
General 4%s. . . . . . . . . 1992 80 5.6

O.
Convertible 5s. . . . . . larger margin for But the bond

C.
. 1947 86 5.8
Convertible 4%s. . . . 1930 80 5.6 market slower reflect changing con

to
.
is

ditions, and here O.'s old ascend

B.
&
ancy still continues—though much im
very unfavorable conditions of the past paired.
year.
We would particularly recommend the
Certain peculiarities of B. & O.'s book
keeping in recent years call for brief
comment. In the first place, since 1912 TABLE IV—COMPENSATION GUAR
ANTEED UNDER FEDERAL
no less than $10,082,000 has been charged CONTROL
directly against surplus for discount on B. O. C. O.
&
&

securities sold. At least $3,000,000 of Net operat’g income $26,500,000 $13,268,000

this represents discount on short term Other income, net.. 3,900,000 1,082,000
.

note issues which was really a part of the

Total available for
interest charge for the period, and prop interest $30,400,000 $14,350,000
erly includible among deductions from
.
.
.
.
.
.
.
.

Interest charges.... 19,200,000 8,589,000

income. For some time moreover, B. & O. Preferred dividends. 2,350,000
.
.
.
.
.
.

earnings the in War taxes (est.)....

its

1,100,000 575,000
had been taking into
Balance for common
terest accrued on advances the C., H.
to

&

stock 7,750,000 5,186,000

D.—an item absolutely uncollectible and
.
.
.
.
.
.
.
.
.
.
.
.

Interest ch'gs earned 1.58 times 1.68 times

which ultimately had charged off
be

Earned on common
to

against profit and loss. Nevertheless, stock $5.10 $8.26

.
.
.
.
.
.
.
.
.
.
.
.

until 1916 these advances and accrued in

terests (aggregating over $10,000,000)
O.

exchange Conv. 4%s, due

of
B.
&

were carried as bills receivable under 1930, and Refunding 5s, due 1995, for
current assets.
O. Conv. 4%s and 5s, due 1930 and
C.
&

Again
B.

O.

transferred 1946 respectively.

in

to

1917
&

Now everybody can see what’s going the Treasury,

on

under Glass.
at

is
it
RAILROADS & INDUSTRIALS
Industrial Balance Sheets
Before and After the War Comparisons–Steady Growth
of Equities Contrasted with Market Fluctuations—Im
portant Companies Discussed—Melon Prospects
By BENJAMIN GRAHAM

Fº"; historians of the securi

ties market during the war will
not fail to emphasize the total
that some issues are actually selling
for less than the amount laid aside
during the war period, and many

in
lack throughout this period of any real three-quarters the current

of
cases
standard of investment value. The re quotation represented by these ad

is
surplus.

to
lations established between price and ditions
earnings, and price and assets, have Expansion Fixed Assets

in
been remarkably inconsistent and il whole,

as
we examine the table

If

a
logical.
we are impressed first all by the

of
Now that the great drama is prac moderate expansion fixed assets.

in
tically ended, we are enabled to de Despite the tremendous increase

in
termine the war's effect on the financial gross business during the war, one
position of the industrials—and inci quarter the companies report an
dentally to note the sharp contrast of
plant account for

in
actual decrease
between the steady development of Moreover, good part

to of
the period.

a
new equities and the widely fluctuat the increase offset by isadditions
ing market movements which accom the depreciation reserve. There are
panied this rule,
it.

of
sporadic exceptions

to
this re

in
The writer has compared the 1918 course. Bethlehem Steel
reports requires
of
in of

many others,
as

so

with the 1914 number spect,

in
a

a
important companies, order de special classification. But general
to

in
term 1me— we observe low reluctant have been
up

How much has the tangible value these companies large part
in to

tie
1.

of the stock increased profits brick and mortar:

of

their
?

What has been done with these and, where additions have been neces
2.

additional assets possible

as

sary, charge off

as
to

much
2

Table should answer these ques against year's opera

of

their cost the

I

tions clear and impressive fashion. tionS.

in
a

shows what changes have occurred The majority these enterprises

of
It

surplus and reserves during the portion

p2

applied goodly
of

their
in

have
a
t

four years, and exactly how these un profits

of
to

the retirement funded

distributed earnings have been used— debt.
degree plant extensions, By far the greatest share the sur
of
to

what for
working reduc
or

for capital, for the plus earnings, however, has been added
bonded debt and preferred directly working capital. How sig
of

to

tion
stock. nificant has been the growth
is of

net
This data supplemented by Table current assets recent years evi
in
is

II, which briefer but perhaps more dent from the fact that increases
a in
is

striking. Here set forth the ratio this item equivalent

to

$40 $50
to
is

surplus and reserves share are by no means unusual; and

to of

in

the increase
the present market price 1917 the working
of

the
to

that from 1914

stock, and the change asset value Steel Corporation
in

capital
U.
of

the
S.

compared with expanded

or

since 1914 also the $232,443,000, $46 share.

is

change market value. will be seen ago, nevertheless,

in

It

Some time the

(1008)
 INDUSTRIAL BALANCE SHEETS

writer pointed out in an article on

“War Taxes and Dividends,” in THE
MAGAZINE OF WALL STREET, that net
current assets and cash assets often
stand for very different things. It is
not only possible, but quite usual, that
a company should report a huge in
from the public and the banks, and
through this fact companies whose
boast it was never to owe beyond the
month's accounts, now exhibit cur
rent liabilities running into the mil
lions. For one third of the companies
analyzed in Table II the growth in
- 1009

crease in working capital, and at the inventories has more than accounted
same time find itself in a much less for the entire increase in surplus.
comfortable cash position. The rea The possibilities of this situation are

TABLE I–BALANCE SHEETS DECEMBER 31, 1918, COMPARED WITH

DECEMBER 31, 1914 (000s omitted)

;
Fixed Net Cur’nt
Assets Assets . Inventory Stock Bonds Reserves Surplus
Company Inc'd Inc'd Inc'd Inc'd Inc'd Inc'd Inc'd
American Can. . . . . . $5,956 $12,765 $26,522 ... —$2,119 $5,196 $15,644
American Linseed. . 1,506 3,275 -- - — 315 383 $4,713

–—

298
Amer. Locomotive... —7,994 13,974 21,447 1,000

(
Amer. Steel Fdries. 557 5,825 4,344 ... 3,447 -- 9,829

-
Bethlehem Steel.... 158,366 68,059 68,465 $74,586 108,538 —7,198 50,499
Central Leather. —5,364 27,565 20,715 -- - — 4,425 4,168 22,458
.
.
.
.

Chandler Motor. 851 2,471 1,251 - -- -- - 113 *3,209

.
.
.

Cluett Peabody 854 1,528 6,790 –1,000 3,382 - --

–
Continental Can. 7,028 1,580 7,612 4,984 - -- 1,581 2,203
.
.
.

Distillers —11,750 6,763 2,800 –1,806 8,985 5,804 -- -

.
.
.
.
.
.
.
.
.
.

Goodrich

––
6,556 24,433 23,657 —3,600 -- - 3,547 *31,042
.
.
.
.
.
.
.
.
.
.

Internat’l Paper'. ... —2,095 4,828 5,217 4,611 7,758 1,003 4,067
Kelly Springfield. 4,150 — *8,477
–
1,938 5,922 346 270 -- -
.
. .

Nat’l Cloak Suit. 351 3,030 7,997 675 3,276

&

570 -
-
Pittsburgh Coal. 2,834 13,461 –888 9,097 — -
4,948 ... *12,146
.
.
. .
. .

Pressed Steel Car. 700 3,582 2,478 - --- -- - 4,212

-
-

Railway Steel Spr’gs — 6,408

–
—5,010 6,493 3,770 6,628 1,703
Republic Iron Ste’l 18,335 18,165 5,860 -- 2,658 10,650 28,508
&

Sears Roebuck. 19,763 12,403 34,257 35,000 --- ... —2,834

.
.
.
.

Tobacco Products". 813 4,814 -- -

– 2,600 786 *2,241
.

Underwood Typew’t’r 583 3,680 822 200 -- - -- 4,463

U. S. Steel". 118,268 232,443 56,033 {:};

...

—46.187 45,441
.
.
.
.
.
.
.

Vir.-Carolina Chem. 3,305 12,445 10,313 13 3,409 —174 12,502

Woolworth 7,531 4,365 7,411 –1,500 1,173 *12,223

-
-- -
.
.
.
.
.
.
.
.
.

Baldwin' 14,152 12,252 23,018 --- — 800 8,421 18,783

.
.
.
.
.
.
.
.
.
.
.

National Enameling. 2,050

–
1,841 6,319 3,084 588 5,898
.
.
.

Corn Products. 31 11,508 7,339 573 — 4,712 596 16,228

.
.
.
.
.

No provision for 1918 taxes. *Years ended June 30. *Added June 30-Dec. 31, 1918.
*

*March 31, 1918, figures used. “December 31, 1917, figures used. *Added in 1918.
"December 21, 1915, compared with December 31, 1918. "Restoring $15,800,000 charged
off against good-will account and surplus. —Decrease.

son for this distinction lies the in immensely interesting. At the end
in

of

ventory, which always regarded goods held by the

of

1918 the stock

as
is

current, but decidedly not cash. At typical industrials exceeded three

or
is

this moment the inventory carries four times the pre-war figure. Cer
at

tainly there will carry

be
of

once the hope and the fear the stock

to

no need
per
as

holder, because upon its succesful such enormous inventories

of a

liquidation his future prospects large manent policy; the energies the
in

management must now

be

depend.
to

measure directed
The headlong growth their liquidation. But how soon, and
of

inventories
staid, enter what prices, can this operation
at

be

has led self-contained

prises borrow for the first time accomplished
to

P
 1010 THE MAGAZINE OF WALL STREET
-
The Various Problems He may not realize at face value or
The public is familiar with the prob

it,
near but whatever brings will

it
lem of the copper producers, saddled belong Within very short

to
him.

a
with increasing stocks of metal which time huge quantities

in of
cash should
can be disposed of only at a disconcert begin these com

to
accumulate
ing loss. But here is Baldwin with panies’ treasuries—for the direct bene
more of locomotive ma

us
fit, let hope,

of
$26,000,000 their fortunate
terial on hand than in normal periods, stockholders.
and Sears, Roebuck with a merchandise But there are many industrials
stock $34,000,000 larger than before whose inventories have grown faster
the war, not to mention a host of than their cash assets. In other words,
Strange and perhaps perilous they have been compelled

to
others. assume

TABLE II—INCREASES IN SURPLUS DURING THE WAR PERIOD

Per Cent
Surplus Surplus

of

& of
Per Cent
Increase Increased Surplus Increase Reserve
Market Price Over Price 1914-1918 to Present Increase to
Company March 18, 1919 Dec. 31, 1913 Per Share Market Price Market Price
American Can. $47.00 $17,25 $38.00 80.8% 107.4%
.
.
.
.
.
.
.

American Linseed. 48.00 38.00 28.00 58.3 6.3.3

.
.
.

American Locomotive. 67.00 45.00 44.50 66.4 73.7

Am. Steel Foundries. 80.50 53.25 57.25 71.1. 71.1
.

Baldwin 88.00 50.00 93.75 106.6 154.4

.
.
.
.
.
.
.
.
.
.
.
.
.

Bethlehem Steel. 65.00 35.50 85.00 130.7 112.3

.
.
.
.
.

Central Leather. 70.50 43.50 56.25 79.8 94.7

.
.
.
.
.

Chandler Motor...... 126.00 --- - 45.75 36.3 37.6

Cluett Peabody 63.00 18.75 30.0 30.0
.
.
.
.
.
.

Continental Can. 78.00 --- - 16.25 20.8 35.1

.
.
.
.
.

Distillers 64.00 46.00 18.00 28.1 28.1

.
.
.
.
.
.
.
.
.
..
.

Goodrich 67.00 43.50 51.00 76.1 88.2

.
.
.
.
.
.
.
.
.
.
.
.

International Paper. 46.50 38.25 20.50 44.1 44.1

.

Kelly Springfield...... 111.50 --- - 43.25 38.7 38.7

Nat. Cloak Suit..... 36.2
&

75.00 -- -- 27.25 43.7

National Enameling... 51.00 39.50 31.50 61.8 97.6
Pittsburgh Coal....... 49.00 31.00 37.75 77.0 77.7
Pressed Steel Car. 71.50 44.50 34.25 47.9 47.9
.
.
.

Railway Steel Springs. 77.50 52.25 46.00 59.2 74.2

Republic Iron Steel. 61.50 105 128.8 176.9
&

81.50
Sears Roebuck. 179.00 —1.50 —3.75 - - - ---
.
.
.
.
.
.
.

Tobacco Products. 88.00 -- - - 12.75 14.4 19.4

.
.
.

Underwood Typew’ter 140.00 58.00 49.50 35.3 35.3

U.
S.

Steel. 94.50 55.75 77.25 81.7 91.1

.
.
.
.
.
.
.
.
.
.

Woolworth 126.50 10.25 24.50 19.4 21.2

.
.
.
.

.
.
.
.
.
.

Corn Products. 52.50 42.75 32.50 51.9 63.1

-
.
.
.
.
.
.
.

Table I.)
to

(See notes

transformation must be for new liabilities, which can be paid off

in

store
their balance sheets only through the sale their products
of
|

evident that not all the com on hand. For such companies
It
is

50%
a

panies are similarly situated with re shrinkage value—if that were pos
in

gard inventory. The increases really serious

of

sible—would prove
to

Central Leather and Goodrich, for ex these enterprises,

of

matter. Some
ample, are tremendous, but they have been Baldwin and presumably Beth
as

such
financed chiefly from surplus earnings. lehem Steel, should be well protected
Current liabilities have grown, by the cancellation clause their war
in
is
it
by

true, yet the increase offset ad contracts. The status of the two Can
is

ditional cash or accounts receivable. companies uncertain this respect,

in
is

The inventory
so

of

much “velvet” especially since the increase their

is

therefore, representing the share merchandise account has been excep

holder's winnings from the war game. tionally heavy.
to

be noted
It
is
 INDUSTRIAL BALANCE SHEETS
that the corporations dealing in com
modities for immediate consumption
(Sears, Roebuck, Cluett Peabody,
Woolworth, National Cloak and Suit)
have found the financing of their grow
ing business most difficult.
Notable Instances
Two issues attract attention be
cause of a decline in their inventories.
These are Distillers Securities and
Pittsburgh Coal. The former already
shows the effect of partial liquidation,
with substantial reductions in both
property and bonded debt. Pittsburgh
Coal has placed itself in surprisingly
strong condition.
Its pre-war earning
power was nothing to brag about ; but
with large accretions to its working
capital it should make a different
record in the future.
Much light is thrown by our Table
on the reason for Bethlehem Steel's
market collapse, in contrast with the
relative firmness of U. S. Steel. Beth
lehem has increased both stock and
bonds enormously, the proceeds of
which, together with all the acum
mulated profits, have gone into uncer
tain channels—plant extensions and
inventory. Will these new facilities
pay their way in normal times? Will
the huge line of steel products be dis
posed of without undue loss? To
these questions, despite Mr. Schwab's
optimism, the market has vouchsafed
a gloomy reply. U. S. Steel, on the
other hand, comes out of the war with
cash resources enormously enlarged,
with bonded debt reduced, with only
an 8% addition to plant account, and
a 40% increase in inventory (using
the Dec. 31, 1917, figures). For Beth
lehem Steel it must be said, that heroic
charges have been made against earn
ings for depreciation of its war-time
extensions,
and the $85 per share
which has been added to surplus may
turn out to represent tangible and not
paper profits.
A Brilliant Exhibit
But of all the companies in the list,
Republic Iron and Steel undeniably
makes the finest exhibit. Its strength
1011
lies not alone in the expansion of its
surplus by more than $100 per share,
and of its reserves by another $40 per
share. Equally important is the liquid
form in which these earnings have
been maintained—available for invest
ment or distribution as occasion may
require. There is recorded an increase
in current assets—erclusive of inven
tory—equivalent to $50 per share. The
large additions in plant are offset in
good part by corresponding credits to
depreciation reserve; yet it is well
known that physically the corporation
is far better equipped than ever before.
It will be interesting from now on to
compare Republic's production cost
with those of the Steel Corporation,
which it now rivals in relative financial
strength. In fact, if it is borne in
mind that Republic has only one
twentieth the capitalization of its
great competitor, its progress as an
alyzed here with must be deemed to
have been even more brilliant. From
standpoint, Topping
the dividend the
management “has said nothing and
sawed wood.” The fruits of this ultra
conservative policy should be apparent
in the coming years.
To return to our original topic—
the discrepancy between market move
ments and industrial conditions dur
ing the war—general comment has
ascribed the recent price recovery to
the expectation of a great business re
vival, to follow a brief readjustment
period. If this is so, we might record
still a fourth reversal of opinion—
making peace a bullish argument after
all. But when the light is finally
thrown upon the conditions underlying
last month's advance, it is more than
possible that it will be found to be
based, not so much upon the hopes of
future prosperity, as upon the be
lated recognition of the tremendous
benefits reaped by our industrials from
the war. The typical corporation is
now in such splendid condition that it
can look beyond a temporary spell of
depression to a new standard of earn
ings far in excess of the pre-war
average.
 ATTRACTIVE INDUSTRIAL
PREFERRED STOCKS
Importance of Exemption from Normal Tax-Recent
Improvement in Investment Status–Various
Elements in Judging Values-Attractive
Issues Recommended.
By BENJAMIN GRAHAM
A FTER a rueful quarter of an hour
with their income tax, many in
vestors have recently been imbued
with a more wholesome respect for the
merits of preferred stocks. For, in the
case of the moderately well-to-do, the
normal tax of 6% and 12% has made up
by far the greater part of the total pay
ment. Hence the advantage of dividends,
which are exempt from normal tar, over
ordinary bond interest, which is subject
thereto, has been brought home in very
concrete fashion while making out the
tax return. An income of $1,000 from
dividends was found to be equivalent to
over $1,130 in corporation bond interest.
Great Improvement in Position
In this connection it should be pointed
out that the investment quality of indus
trial preferred stocks has improved im
measurably during the past four years.
The vast accumulation of undistributed
profits has been building up increasingly
large equities behind the senior shares,
and has thus established them on a perm
anently higher plane of security.
It is particularly impressive to note
exactly how much in dollars per share
has been placed behind these issues
since 1914. The figures are accordingly
given for a large number of companies
in Table 1.
Just as in the case of the common
shares, the great improvement in the
standing of preferred issues has not es
caped market recognition. Despite the
higher interest rates now prevailing—
which would ordinarily make for lower
prices of fixed income bearing securities
—industrial preferred stocks now sell
on a substantially higher level than be
fore the war. The comparative figures
given in columns one and three of the
table show that in some instances (not
(1085)
ably Corn Products and American Lin
seed) the advances rival those of the
common shares. The declines seem to
be restricted to three of the “Tobacco
Trust” issues.
The Real Basis of Value
The value of any investment depends
primarily upon its assets value and earn
ing power. The former is relatively less
important in the case of preferred stocks
than in that of bonds. For if interest
is once defaulted then (theoretically at
least) the principal becomes immediately
due, and the investor has recourse to all
the assets to make good the par amount
of his holdings. Thus in the event of de
fault on bond interest evidently the value
of the assets behind the issue assumes
chief significance. With preferred
stocks, however, there is no such thing
as default, and the stockholder has direct
recourse to the assets only in the rare
cases of voluntary liquidation. The
leading consideration must, therefore, be
the sufficiency of earnings to meet divi
dend requirements. Since continuity of
payments is extremely desirable, it is es
pecially important that these charges be
covered with a fair margin in poor years.
Accordingly, there has been compiled
and set forth in Table 1 the average an
nual earnings on the various issues for
the four years before the war and the
is,
four years during the war; that 1911
1914 and 1915-1918. All the companies
considered make excellent exhibits for
the latter period—whereat
no
one will
greatly surprised. But there sig
be
is
a
nificant divergence between the pre-war
the various industrials; some
of
records
having earned preferred dividends with
a
consistently large margin, and others
or
either scantily covering else failing
to to
meet this requirement. While not
is
it
 1086 THE MAGAZINE OF WALL STREET

be claimed that post-war conditions are
going to be identical with pre-war condi
tions, yet the investor will in general feel
safer with those issues which have always
given a good account of themselves in the
past.
ket value of the junior issue to the par
amount of the preferred stock. For if it
is assumed that the market price reflects
fairly closely the intrinsic worth of the
common shares, then we have here an
accurate measure of the equity protect

TABLE I—ATTRACTIVE PREFERRED STOCKS

: º g
;
+3 º :
3
: &# # , 8
a *:: ºf

#2;
T. *

;
;
;
;
;
3. -º --: ă ºsu
º
ă. 3 :3 2. #5 #3, #3, #3, #3: #53
*Westinghouse Elec.. 7% 63 5.56% 58 $271 92.5% 282.0% $490 1625%
General Chemical. ... 6 103 5.82 108 119 22.8 *57.2 74 185
Sears Roebuck. . . . . . 7 120 5.83 121 103.0 176.0 312 1312

.
.
.
American Tobacco. .. 6 101% 5.96 102% 17 29.3 25.1 100 156
Am. Agric. Chem. ... 6 100 6.00 91 29 11.1 20.6 37 111
Woolworth . . . . . . . . . 7 116%. 6.00 112% 107 41.3 63.3 135 496
Am. Sugar Ref. . . . . . 7 116%. 6.00 114 21 12.7 21.8 81 117
U. S. Steel. . . . . . . . . . 7 11434 6.07 106% 121 14.8 49.2 -- 138
Am. Car & Foundry. . *7 115 6.09 114 45 11.8 22.3 109 91

-
Barrett Mfg. . . . . . . . . 7 115 6.09 102 95 19.7 44.8 141 253
Liggett & Meyers. ... 7 111% 6.28 11.1% 41 41.3 41.6 58 195
United Cigar Stores... 7 111 6.31 111 95 46.3 67.7 198 265
Lorillard . . . . . . . . . . . 7 109 6.42 110% 76 33.2 43.4 130 318
Central Leather. . . . . . 7 108 6.48 95 80 11.4 32.2 136 95
May Dept. Stores. .. 7 108 6.48 100 99 26.1 37.0 142 166
Cluett-Peabody . . .. . 7 108 6.48 96 48 °21.5 32.5 117 162
Railway Steel Spgs.. 7 108 6.48 97 60 7.7 25.4 37 78
Goodrich . . . . . . . . . . . 7 108 6.48 80 135 13.0 46.5 170 158
Am. Cotton Oil. . . . . +6 91 6.59 93 33 11.2 17.7 49 98
General Motors. . . . . 6 90%. 6.63 -- - "43.0 100.0 *310 500
.
.

Amer. Locomotive. .. 7 105 6.67 97 39 7.0 22.4 97 67

Corn Products. . . . . . 7 105% 6.63 65 58 6.9 24.5 50 100
General Cigar. . . . . . . 7 105 6.67 100 30 28.3 28.8 140 198
Am. Beet Sugar. . . . . 6 90 6.67 72 90 18.4 53.2 145 228
Am. Smelt. & Ref. .. 7 104 6.73 9834 29 21.0 30.0 46 85
Baldwin Loco. . . . . . . 7 104 6.73 102 136 12.1 37.5 64 88
Nat. Cloak & Suit. .. 7 104 6.73 - -- 89 20.1 33.1 114 200
Standard Millings. . . . 6 89 6.74 63 108 11.3 24.5 74 121
Republic Iron & St’l. 7 103 6.79 80% 156 7.8 42.0 58 90
Pressed Steel Car. . . . *7 102 6.86 96 34 9.8 20.2 42 70
Tobacco Products. .. 7 101 6.93 83 38 9.2 25.0 83 210
Loose Wiles. . . . . . . . 7 100 7.00 102 65 °10.7 18.3 106 105
Vir.-Car. Chem. . . . . . 8 113% 7.06 98.34 62 11.4 26.5 81 80
National Enameling. 7 99 7.07 75 93 8.0 30.4 67 95
U. S. Rubber. . . . . . . . *8 11.1% 7.20 101% 52 13.2 22.8 57 48
Am. Sumatra Tob. ... 7 95 7.36 -- - 130 13.6 51.0 188 446
Worthington Pump.. 7 94 7.46 -- - *127 -- - 56.2 329 280
Willys-Overland . . . . 7 93% 7.50 78 79 - - 32.7 53 200
Allis-Chalmers . . . . . . 7 92 7.61 44 51 2.3 19.9 100 52
Bethlehem Steel. . . . . 8 105 7.62 140 - - 87.0 -- - 136
Am. Linseed. . . . . . . . . #7 90 7.78 29 30 1.2 10.1 52 49

"Par, $50. 1912–14. 'Adjusted. ‘Dec. 31, 1917. "1916-1918. Non-cumulative.

*

cases where the earnings record for

In

ing the senior issue. This appraisal

is

years either unavailable,

of

not based merely

on

of

number the book value

is

the
a
ºr

of

irrelevant because radical changes assets, nor upon the previous earning
company's position, another very power; but takes into account also the
in

the
value may
be
of

useful standard emi company's future prospects, the manage

the mar
of

ployed. This the relation

is

ment, and every other factor that might

 ATTRACTIVE INDUSTRIAL PREFERRED STOCKS 1087

remotely affect the value. Bear in mind

as
Overland recommended because,

is
that it is not only the price per share of compared with its 7.50% return, its ex
common that counts in this analysis; hibit remarkably good.

is
equally important is the relative size of Although Westinghouse preferred
the two issues. The equity behind West yields only 5.55%, nevertheless in

is
it
inghouse Pfä., represented by the com two factors—its gilt

of
cluded because
mon selling at 46, is much larger than participating privi

its
edged security and
that behind Cities Service Preferred, the issue, rela

of
lege. The small size
though the common is quoted at 350. For

its
common, protection

to
tive the makes
in the first case there are fourteen times by assets and earnings easily the strong
as many common as preferred shares; in est on the entire list. Failure pay the

to
the latter there are nearly twice as many meagre $280,000 dividend requirement

is
preferred as common. This standard of almost inconceivable. Consequently the
value is applied in column 6, in which the security can well compared with that

be
market value of the entire common issue many medium grade bonds yielding

of

an
is divided by the number of preferred no more. For the investor pays

if
shares, to show the additional equity be 8% normal income tax next year, the
hind the latter.
TABLE II—SELECTED LIST OF AT
Another element usually referred to TRACTIVE PREFERRED STOCKS
in appraising preferred stocks is the BASED ON TABLE

I
amount of net current assets applicable Rate
to the senior issue. This factor is of Cum. Price Yield
significance indicating Westinghouse Electric
chief as the com
pany's general financial condition. But (Par ). 7%. 63 5.55%
Woolworth ...........
.
.
.
.
.
.
.
..
.
.
116%. 6.00
in the case of preferred shares selling at

7 7 7 6 6 7 7
United Cigar Stores... 111 6.28
a considerable discount this element often General Motors....... 90%. 6.63
assumes direct importance, as establish Am. Beet Sugar....... 90 6.67
ing a minimum liquidating value. The Republic Iron Steel... 103 6.79
&

arguments in favor of American Hide Am. Sumatra Tobacco. 95 7.36

Willys-Overland 93% 7.50
& Leather Preferred, for example,
.
.
.
.
.
.

formerly centered on the fact that the Westinghouse Pfd.

on

5.55% return

is
working capital, exclusive of plant, equivalent over 6% on
to

non-tax-free
a

greatly exceeded that issue's market bond.

price. A separate column in Table 1 Furthermore, the present yield
of
this
has been devoted to a statement of the
issue does not exhaust its possibilities.
dollars per share of preferred, repre Westinghouse Pfd. participates equally
sented by net current assets—after de any disbursement
in

with the common

prior liabilities, including
all

ducting above 7% ($3.50). Since the latter rate

bonds and notes. now paid on both classes, any increase
in is

The Most Attractive Issue the common dividend would mean an

Having established these criteria equal gain for the senior issue. Consid
of

preferred stock values, we next proceed ering that earnings have averaged 18%
to select those issues which meet the re 20% on the common, with every indi
to

continued prosperity, an 8%
of

quirements most satisfactorily propor cation

in

tion their dividend yields. The results rate—or even higher—on Westinghouse
to

careful investigation are embodied Pfd. far from impossible.

in of

is
a

issues are both gilt

2,

Table which sets forth list of While the next two

a

eight the most attractive preferred is the somewhat higher yield

it of
of

edged,
sues, arranged dividend re United Cigar Stores, Pfd. should make
of
in

order
more desirable than Woolworth, Pfä.
of of

turn. Needless say, the presence

to

Willys-Overland Pfä. and the absence For the analysis

in

Table shows that

1

General Chemical Pfd., for example, do all factors bearing on value—earning

in

power before and during the war, cur

as

not imply that the former regarded

is

safer investment. General Chemical rent asset value, and common stock pro
a

Pfä. omitted because there are more tection—the Whelan issue makes an
is

the 6% class; Willys even better exhibit than Woolworth Pfä.,

of

attractive issues
1088 THE MAGAZINE OF WALL STREET

excellent as is the latter. The key to the
strength of Cigar Stores Pfd. is the small
size of the issue, only $4,527,000, com
pared with $27,000,000 common, selling
above 130. If the common stock earn
ings dropped from $13 to only $2 per
share, preferred dividends would still be
covered 2% times.
Dissimilar as they at first appear, Am.
Beet Sugar Pfd. and General Motors
Pfä. have several other points in com
mon besides their price and yield. Both
are characterized by absence of funded
debt, a strong working capital position,
and a really excellent earnings record.
Because of recent fundamental changes
in the company's organization, it is diffi
cult to find an accurate basis on which
to value the present General Motors Pfä.
(or debenture stock, which is essentially
the same). The approximate figures
given in the table indicate a technically
stronger position than that of American
Beet Sugar Pfä. If either of the two is
compared with so highly regarded an in
vestment as American Agricultural
Chemical Pfci., it must be admitted that
the latter makes a less brilliant showing—
despite its ten point higher price. More
over, if the pre-war record of Corn Prod
ucts Pfä., or the non-cumulative feature
of American Cotton Oil Pfci. is consid
ered, it becomes evident that either Gen
eral Motors or Beet Sugar Pfd. affords
greater security, without sacrifice of
yield.
in capitalization. But during the past
four years—not altogether clear sailing
for the automobile companies—preferred
dividends were earned 4% times. There
is also a very substantial equity repre
sented by $41,000,000 common stock sell
ing at 116% of par ($25).
Since one can never be certain of the
future, it is idle to ignore the non-cumu
lative feature merely because the com
pany has always paid dividends in the
past. This was the attitude of those who
paid fancy prices for St. Paul Pfä. a few
years ago, and have now seen a year's
payment withheld—never to be recov
ered. On this account we prefer Amer
ican Beet Sugar Pfd. to American Cotton
Oil Pfä., and we would rather own Vir
ginia Carolina Chemical Pfä. than U. S.
Rubber Pfä. (The latter's excellent
earnings record is offset by its top-heavy
capitalization and somewhat unsavory
market reputation.) American Car &
Foundry Pfd. is so strongly entrenched
that here the non-cumulative provision
would appear entirely insignificant.
Still, why take even an infinitesimal
chance, when there is Barrett Pfä. or
United Cigar Stores Pfä. to buy instead?
Returning to our selected list, the next
issue is Republic Iron & Steel Pfd., which
requires little comment in view of the dis
cussion in the March 29 article. Amer
ican Sumatra Pfd., like Willys-Overland.
Pfd. (already discussed above), must be
its

judged in connection with high yield.

Cumulative vs. Non-Cumulative By all our various standards, American
up

The disadvantage of non-cumulative Sumatra Pfd. shows more favorably

preferred stocks must be obvious to any than Tobacco Products Pfä., which sells
one who realizes that the dividends sus six points higher.
If

objected that
is is
it

pended in bad years can never be recov Am. Sumatra's prosperity all war-won,
ered, no matter what prosperity follows. reply that even the 1912–4 pe
in

the
is

On this account we would select Amer riod preferred dividends were earned
ican Linseed Pfä. as a shining example of about twice over—a 45% better exhibit
Tobacco Products, and fully
of

an issue not to buy. The records show than that

that it has paid no dividend at all in six good
of
as

as

that the average industrial.

teen out of the last twenty years, the space permitted
be
If

could shown
it

total payments averaging about 1% per that Lorillard Pfä. cheaper than
or is

annum. At the beginning of 1914 this Liggett Myers Pfd., Goodrich Pfd.
&

than Central Leather Pfä.,

or

stock sold at 29, so that the table shows National

that it has appreciated twice as much in Cloak Suit Pfä. than Cluett-Peabody
&

market price as in asset value. Willys any preferred issue

of

Pfä. The holder

in by of

fair idea
to

Overland Pfä. yielding 94% less, is by should be able derive

a

all odds the better investment. Pre-war the relative desirability his security
of

figures are not strictly comparable for carefully examining the figures given
Willys-Overland, of the changes Table
1.

because
A Profitable Switch — From Saint Paul
At 41 Into Big Four At 43
By BENJAMIN GRAHAM
Interrupted, but Definite, Progress Compared with Steady
Decline — Big Four's Disaster and Come-Back —The
Puget Sound Illusion — Dividend Prospects

exchanges is a —a point of immediate im

compensation
delicate and highly responsible task. —
portance we note that Big Four's rental
RECOMMENDING
It is not enough merely to prefer amounts to over $10 per share of common
issue A to issue B — as would suffice in stock, against only $2.20 for St. Paul.
selecting an original investment. The In fact, the surplus available for St. Paul
"switch specialist" requires a higher order stockholders in 1918 was less than the
of zeal and more thoroughgoing convic Preferred dividend requirements, because
tions. For he must first overcome the of the deduction of $4,400,000 for ex
proverbial inertia o fthe investor; he penses accrued prior to January 1, 1918,
must next conquer the equally famed dis (though this should properly be regarded
inclination to sell at a loss; and finally
he must be prepared for the severest CAPITALIZATION STRUCTURE DEC 31 1918
kind of criticism if by any chance his ST. PAUL "BIG F0U&"
advice turns out unprofitably. Holders
40
■Per
T
Ctnb refer to Tolol Copitol.
of Saint Paul common should realize,
therefore,- that the suggestion that they
switch into Big Four (regardless of what
the former cost them) is not made off m
hand, but is based upon careful analysis
—as should appear from what follows.
Status Under Government Operation.
Readers who have followed the reports a
of the railroads under Federal control are
doubtless aware that Cleveland, Cincin
nati, Chicago and St. Louis ("Big Four")
is one of the few lines that has actually
earned a surplus above the guaranteed
rental. It is likewise well known that
— #.
among the many poor exhibits made by
other roads, that of Chicago, Milwaukee
and Saint Paul stands out as expectional- Bonds Pfd. Com Bonds Pfd Com
ly discouraging. Table I makes clear that Stock Mock Slock Slock
the actual earnings of Big Four were
equivalent to fully $20 per share on com as a charge against profit and loss in
mon —by all odds the best record of all stead of 1918 income).
the standard issues. But Saint Paul en From the standpoint of operating re
joys exactly the opposite distinction, re sults and guaranteed earnings, the status
turning a deficit equal to no less than of Big Four common is evidently far
$18.60 per share of common stock. more fortunate than that of St. Paul.
Although both the loss and the gain But before asserting definitely the ad
in these cases accrue to the Government, visability of this exchange, it is necessary
the impending return to private owner to determine whether Big Four's ad
ship makes the actual results for 1918 vantage is due to temporary develop
of great interest to the shareholders. But ments or to underlying and permanent
passing on to the question of guaranteed causes.

(222)
 A PROFITABLE SWITCH
In a general way, the relation of these
systems is quite similar to that of B. & O.
and C. & O., discussed in the Feb. 15
issue. Here again the larger road has
been gradually losing its market prefer
ence, until finally Big Four has crossed
St. Paul, just as Chesapeake crossed Bal
timore and Ohio. (See graph.) In the
latter case, the explanation of C. & O.'s
ascendancy could easily be found in the
steady progress of this road and the
equally continuous decline of the other.
The present comparison is complicated,
however, by the apparently checkered
career of Big Four, which has given it
the general reputation of an unreliable
and speculative enterprise.
Big Four's Misfortune.
But we must distinguish between the
accidental and the fundamental. In
March and April, 1913, the Ohio River
flood overwhelmed the company's prop
erty, causing heavy damages which were
not finally repaired until the end of the
following year. The direct result was a
net loss after charges aggregating $4,-
600,000 in 1913 and 1914. The Profit
and Loss surplus of $2,500,000 was
changed into a deficit of the same
amount; notes payable increased $5,000,-
000; and preferred dividends were sus
pended.
This catastrophe dealt a heavy blow to
the company's credit, from which its
securities have been slow to recover —
despite the radical improvement in its
operating results. If the very abnormal
years of 1913 and 1914 are, therefore,
disregarded, it transpires that Big Four
has really been making continuous and
substantial progress since 1911. This
fact is brought out by the graph showing
how many times fixed charges were cov
ered and how much was earned on the
common stock in the period 1910-1917.
As in the case of C. & O., rising expenses
in 1917 made that year's exhibit some
what less favorable than the record show
ing of 1916.
The full extent of Big Four's improve
ment since 1910 is evident from Table 2,
which indicates that in eight years net
earnings have doubled while charges in
creased less than 50%. (The writer pre
fers to compute fixed charges on a net
223
basis — i. e., bond interest plus or minus
the net balance of miscellaneous income
and deductions). These charges are now
being earned more than twice over (a
comfortable margin) and the earnings on
the common have jumped from $2 to $10
per share.
St. Paul's showing for these eight years
is very different. It is true that gross
has increased over 75%, against 73% for
Big Four. But this advantage is due
solely to the much larger expansion in
mileage. In fact, the revenues per mile
have grown only 28%, against 43% in the
case of Big Four. The progress in net is
much less satisfactory. In 1912, St.
Paul's ton-mile rate averaged 84 cents
against only 55 cents for Big Four. Of
course, the Railroad Commissions found
St. Paul an easy victim, so that by 1917
the average had fallen to 76 cents, while
Big Four's had risen slightly to 57 cents.
Since St. Paul, despite its better oppor
tunities, could make but little headway
against Big Four's heavier train-load, the
natural result was a much larger increase
in the latter's train mile earnings — the
basis of operating results. To this must
be ascribed the more rapid growth of St.
Paul's transportation expenses.
But by far the most significant and
disquieting feature of St. Paul's exhibit
is the extraordinary growth of fixed
charges in recent years. In 1910, "Other
Income" exceeded deductions by $1,156.-
000; in 1917 there was a balance in
the other direction of fully $17,500,000.
What has been going on in St. Paul?
The writer's analysis of a somewhat
similar situation in B. & O. traced the
root of the trouble to the disastrous G,
H. & D. investment. St. Paul likewise
has its white elephant— in the shape of
its Pacific, or Puget Sound, extension.
A Popular Illusion.
Wall Street has a beautiful collection
of very ancient and often very incorrect
traditions. If a few years ago you were
to inquire why St. Paul sold so high
despite the low earnings per share, you
were sure to get this reply : "Of course,
St. Paul's earnings have suffered tempo
rarily by the opening up of its new
Puget Sound extension, but after the de
velopment period is over, its profits will
224 THE MAGAZINE OF WALL STREET
be much larger than before." This 1913, when the Puget Sound branch was
sounded very plausible, but— merged with the parent company, there
If you take the trouble to analyze had been addel 2,344 miles to property
the exceedingly intricate account cover and $279,000,000 to capitalization— e.,

i.
ing the construction and initial operation $120,000 per mile. (This certainly rem

is
of the new line, you will find exactly the iniscent of the C, H. D!) The Pa

&
opposite condition to Obtain. Instead of cific extension itself was taken over at
the Puget Sound extension's being tempo net cost of $176,000,000—over $85,000

a
rarily a burden but eventually very profit- per mile. The charges ahead of the com
mon accordingly jumped to $1,990 per
mile, an increase of 131%, although gross
ST. PAUL VERSUS BIG FOUR.
per mile had risen only 23%.
'13
'12

'14

'15

'16

'17
'II

20 Various factors conspired to obscure

the real significance of this enormous
15 capital expansion. As was stated above,
in its first years the Puget Sound exten
^>

Sr

Lorncd on Com.
10 sion showed large book profits. This
may not appear so strange when re

is
it
called that new line obtains much busi

a
ness by transporting its own construction
material, and furthermore has very
small maintenance requirements. Hence
tTimes'pharqes
x^- appears that in 1912 the Pacific line's
it

earndbiq Fourth-** IpNMS Chanji

pjicji ijiiil
-earned Shrbul gross per mile was only $567 less than
that of St. Paul proper, and its net was
fully $1,130 greater. All the profits of
*0rher Income exceeded chorges on ShPoul.
the new branch were included in St.
'14'
"13
'12

'18
"IS

18

17
'II

Paul's statement under the head of "Oth

B

Averoge price er Income" which in 1911 amounted to

of

Com. Stocks.
$12,075,000 and greatly exceeded interest
and other charges.
At the time of the merger in 1913, the
abnormally low operating expenses of the
Puget Sound extension were already
commencing to increase. Due, however,-
to the unprecedented traffic offered in
1913, the system was able to make
a
deceptively favorable showing for the
first year of combined operations. But
the subsequent growth in business has
been slow, and the steadily mounting in
ToMou9, 919
«r terest charges have cut heavily into the
balance available for dividends.
able; in reality, was temporarily very
it

profitable but eventually permanent and Contributing Factors.

a

exceedingly heavy handicap. Since 1913, St. Paul has suffered not
The many who will immediately ques only from its rapidly increasing funded
tion this statement are first referred to debt, but also from sharp decline in its
a

Table which shows how the Puget miscellaneous income, which has fallen
5,

Sound extension swelled the company's off fully $2,000,000. This development
capitalization. In 1906 — the year before due partly to the loss of interest be
is

work on the new line was started — St. cause of decreasing bank balances, but
Paul's total capitalization averaged only chiefly to the fact that certain subsidiaries
$30,000 per mile, and the charges ahead no longer pay interest on the large sums
of the common only $862 per mile. In advanced by St. Paul. To make matters
 A PROFITABLE SWITCH I 225

worse, hire of equipment and miscel
laneous deductions now require a million
dollars more. Here, then, is a reduction
of $3,000,000 (or nearly $3 pe,r share)
in the profits applicable to dividends, in
addition to the $5,000,000 expansion in
bond interest.
After carefully analyzing the develop
ment of St. Paul since 1906, the writer is
forced to the conclusion that the system's
troubles are not temporary, but organic
and permanent. The belief that the
Puget Sound extension will in a few
*
years return a large profit on the invest
ment has no foundation in fact, because
the cost of this addition is entirely too
heavy for the territory it serves. In fact,
St. Paul's gross per mile is even now
larger than that of Great Northern, and
there is no more reason to expect a rapid
expansion of traffic in one system than in
the other. Furthermore, St. Paul has
the unenviable distinction of spending
less on its roadbed and more for trans
portation than any system in the North
west. The comparative figures for main
tenance of way (in Table 3) show how
far St. Paul ranks below a similar road
in this respect, whereas Big Four's show
ing is fully as good as the average.
Dividend Status.
Taking up again the comparative mer
its of Big Four, it should now be evident
that its troubles have been much less
serious than St. Paul's and its present
condition far more fortunate. Although
neither company pays common dividends
at present, Big Four
has good prospects
while St. Paul has none. While the last
report shows the former road to be by no
means over-strong in cash, there has been
a gratifying improvement since the heavy
drain caused by the flood. The large
earnings now being retained in the treas
ury should very soon result in the re
sumption of common dividends. (The
preferred has received regular payments
since 1916.) St. Paul, on the contrary,
reports a continuous impairment of its
once so affluent cash position. The 1918
report admits that even preferred divi
dends are out of the question, and the
writer believes that the common stock
holders have a long and weary wait be
fore they receive another distribution.
Despite the drastic decline in St. Paul
common, it may be doubted if the market
has fully realized how complete has been
this property's fall from grace just as it
has been slow to reflect the remarkable
improvement in Big Four's operating re
sults and financial conditions. Instead of
idly dreaming of vanished glories or
clinging to their stock with the blind
apathy of despair, holders of St. Paul
common should save what they can from
the ruins, and transfer their interest into
a road with a future as well as a past.
As time goes on the difference in value
between Big Four and Saint Paul will
be more fully expressed by their market
price —and the spread should then be
more than two points!

THRIFTOGRAMS BY ABRAHAM LINCOLN

Keep pegging away. What is it that we hold most dear? Our
Answer with facts, not arguments. liberty and prosperity.
Get ready and the chance will come. Be a patriot! Don't mar the immortal em
We all like the man who "sticks through blem of humanity, the Declaration of Inde
thick and thin."
pendence.
The value of life is to improve one's con
dition. Every blade of grass is a study, and to pro
Nothing is so local as not to be of some duce two where there was but one is both a
general benefit. profit and a pleasure.
May the vast future not have to lament The hired laborer of yesterday labors on
that you neglected it. his own account today and will hire others to
Shall he who cannot do much be for that labor for him tomorrow.
reason excused if he do nothing?
When an occasion is piled high with diffi Teach economy — that is one of the first and
culty, we must rise to the occasion. highest virtues. It begins with saving money.
 Northern Pacific Outstrips Great
Northern
By BENJAMIN GRAHAM
The See-saw Race of the Grangers—Physical and Financial
Peculiarities Analyzed–Northern Pacific's Hid
den Assets—A Preferred in Name Only

April Record prior to Government con

O”
4, 1919, Northern Pacific 1.
sold higher than Great North trol.
ern—for the first time probably 2. Results under federal operation.
in ten years. Back of this incident lies 3. Relative growth of fixed charges.
an interesting tale of railroad develop 4. Northern Pacific's valuable land
ment, centering about the great per grant.
sonality of James J. Hill. Great Record Prior to Government Control
Northern has often been referred to
In 1917, the last year of private oper
as “Hill's favorite,” and to his genius ation, the two Hill roads reported
was largely due its erstwhile ascend practically the same gross revenues,
ancy over its sister road. although three years before Great
The varying careers of the two sys Northern's traffic was $6,500,000 larger.
tems are pictured in striking fashion
in the appended graphs, which show TABLE I–EARNINGS UNDER FED
how Northern Pacific has first lost and ERAL CONTROL
No. Pacific Gt. Northern
recently regained its leadership in Gross ...... . . . . . . . $102,908,000 $100,661,000
traffic and earning power. These Net after Taxes. . . . 24,887,000 10,639,000
graphs are constructed in a rather Net after rents-act
ual . . . . . . . . . . . . . . 28,209,000 11,979,000
novel fashion. For instead of using Net after rents-Gov.
two lines—one for each company—the guar. . . . . . . . . . . . 30,090,000 28,754,000
difference between their respective *Fixed charges (net) 7,213,000 est 7,815,000
figures is shown by a single curve. All Bal for Divs.-guar. 22,877,000 20,939,000
of the elements considered—Gross Earned on stocks—
guar. . . . . . . . . . . . 9.24% 8.39%
Revenue, Net after Taxes, Earnings Earned on stocks—ac
on Stock, and Average Quotations— tual 8.48%
. . . . . . . . . . . . 1.67%
follow the same course. *Includes war taxes and corporate ex
penses but excludes items prior to 1918 and
Practical interest will center chiefly depreciation of equipment.
about the relative movement of stock
earnings and stock prices. Here the Northern Pacific's gain in net earnings
graph shows plainly that the market is even more pronounced—this item
has lagged somewhat in reflecting being $4,990,000 larger in 1917, where
Northern Pacific’s recent substantial as in 1915 it was fully $4,117,000
gains. In 1909 N. P. earned 1.62% smaller than Great Northern's, a dif
more than Great Northern, and sold ference equivalent to $3.65 per share.
at practically the same level; in 1917 it It is evident that N. P. must have been
earned 2.66% more and its price aver operated much more economically than
aged about 6 points lower. the other road in 1917; but in seeking
The question is thus raised whether to analyze this advantage we run into
Northern Pacific is not now a better all kinds of difficulties.
investment purchase than Great North First, consider the question of main
ern. After careful investigation, the tenance. For years it has been ap
writer concludes decidedly in the parent that Northern Pacific has been
affirmative. His judgment is based up spending much less on the upkeep of
on the following considerations: its equipment than either Great North
(314)
 NORTHERN PACIFIC OUTSTRIPS GREAT NORTHERN 315

ern or the jointly owned C. B. & Q. In stands it in good stead when it comes
1918, for example, with the same traffic to transportation costs. This is the
on both roads, Great Northern ex chief source of N. P.'s advantage, since
pended $745,000 (or nearly 7%) more Great Northern's expenses are here
for this purpose than did N. P. In 1916 $4,550,000 larger. Just how Northern
the difference was $1 ,704,000— in other Pacific does the trick cannot be fully
words, 12.41% of gross for Great explained, particularly since the other
Northern, against 10.47% for N. P. road does not publish detailed figures
From this incriminating evidence at of its operating expenses. In looking
hand, one would straightway conclude through some State Commission re
that N.P.'s operating expenses have ports, the writer came across the sig-
been held down by neglecting its cars
and locomotives. Yet on further in TABLE II— NORTHERN PACIFIC'S
LAND SALES
vestigation it transpires that North Price per
ern Pacific's unkeep costs per unit of Year Acres sold Proceeds Acre
equipment are actually higher than 1912-13 526,374 $ 3,040,126 $ 5.75
Great Northern's; and that the lower 1913-14 588,734 3,458,379 5.88
1914-15 1,004,018 4,124,580 4.11
expenditure in the aggregate is due to 1915-46 1,283,069 6,432,518 5.01
its owning a much smaller number of 1916(6mos)741,863 3,789,570 5.11
engines and freight cars. But how — 1917 994,635 7,775,603 7.82
one asks — can Northern Pacific handle 1918 162,315 1,989,261 12.25
as much traffic as the parallel line, Total
when it has 20% less freight capacity 1912-8 5,301,008 $30,610,007 $5.77
and 10% less locomotive power? Sure
ly it must hire more equipment from nificantfact that during 1916 Great
other roads, or lend less to them. Northern's fuel bill for train locomo
Wrong again! In 1917, Northern Pa tives was $1,000,000, or 20%, larger
cific's net income from hire of equipment than Northern Pacific's figure, al
was $1,237,000— against only $511,000 though its gross business was but
for Great Northern. 1^4% greater. This is a big item, and
Here is a company with the same there are doubtless similar reasons to
traffic and much less equipment, yet it account for the remaining difference.
can spare more cars and engines to Under Federal Control
other lines. What is the reason? Does The word has gone forth that the rail
it get more freight in a car, or more ways are to be returned to their owners —
cars to a train? Not at all: its train- willing or unwilling — at the end of 1919.
load has regularly been less than Wall Street thus appears in the unprece
"GNR's," although in 1917 the differ dented position of putting its trust in
ence was only 9 tons. After careful Congress to stand between the stockhold
search, the answer finally appears. In ers and the alarming deficits now being
1917 the average haul per ton was 385 rolled up by their properties. It is de
miles, or 111 miles more than for Great voutly to be wished that such childlike
Northern. This is in itself a peculiar confidence will not be misplaced. And
circumstance, since the latter operated yet — January 1 is but six months away,
8,232 miles of main track against only Congress has much to do, and a definite
6,522 for the other line — a difference of plan of relief is still far from passage.
over 26%. With a 40% larger haul This is not an especially pleasing position
for its traffic, Northern Pacific must for the security owner who sees the 1918
evidently be able to keep its equipment earnings of his railroad about 50% of
in use a larger proportion of the time, the 1917 figures. The writer has al
and thus get along with a smaller ways claimed that there is much mental
quantity of freight cars. satisfaction— if not eventual financial ad
Greater Transportation Efficiency vantage — in holding stock of a carrier
Northern Pacific's heavier traffic which has prospered under Government
density ($13,526 per mile against $10,- control, rather than one of the numerous
504 for Great Northern in 1917) also "lame ducks."
316 THE MAGAZINE OF WALL STREET
Now, while it cannot be said the
Northern Pacific has made a brilliant
showing under Messrs. McAdoo and
Hines, its setback has indeed been rela
tively slight — for the net earnings after
rents, as shown in Table 1, were only
$1,921,000 less than the guaranteed com
pensation. Great Northern, on the other
hand, has been a very poor proposition
for Uncle Sam, returning a deficit of no
less than $15,775,000, after charging the
rental paid to the stockholders.
The extraordinarily poor showing of
"G. N. R." is due chiefly to its very heavy
maintenance expenses, which were more
than $7,000,000 in excess of Northern
Pacific's outlay for this purpose. But
even in transportation costs, N. P. has
continued its progress, and reports a rel
ative saving here of over $6,500,000. It
is difficult to determine the exact signifi
cance of Great Northern's far heavier up
keep expenditures in 1918. But the ad
vantage in transportation economy is
certainly of prime importance — and
promises to show up strongly after the
roads are returned.
Fixed Charges
So far, we have been considering only
the question of gross and net revenues.
An equal influence on the dividend bal
ance is exerted by the fixed charges,
which must next claim our attention.
Even experienced investors are quite
generally under the impression that
Great Northern's interest requirements
are much lower than Northern Pacific's.
But an examination of the past, the
present, and the future status of the
roads in this respect, reveals the inaccu
racy of the popular ideas on the subject.
The 1917 report of the two systems
showed interest charges of $12,244,000
for Northern Pacific, compared with
$6,773,000 for Great Northern. But
much of the significance of this contract
disappears when it is remembered that
Great Northern excludes from its income
account the interest paid on its share of
the C, B. & Q. collateral 4s, due 1921,
offsetting it against the dividends received
on the Burlington stock. Northern Pa
cific more properly includes both items
in its statement, thus making an appar
ent but not a real difference of $4,254,-
000. The actual excess of Great North
ern's interest charges in 1917 was only
$1,217,000.
But even this difference has practically
disappeared because of the sale by Great
Northern in Sept, 1917, of $20,000,000
5% notes. On this account, the 1918 re
port will show an additional charge of
$667,000, while Northern Pacific's inter
est payments decreased $100,000.
As for the future course of interest
charges, attention must here be directed
to the large land holdings of Northern
Pacific, through the sale of which an an
nual reduction is made in the amount of
prior lien bonds outstanding. Because of
its importance, this land grant will be
given further consideration below. We
would merely remark that indications
point to a speedy disapppearance of
Great Northern's present slight advan
tage in the matter of interest charges.
In fact, in a few years "the shoe should
be on the other foot."
Miscellaneous Charges and Income
But the question of fixed charges does
not depend solely upon the companies'
bonded debt. There are several other
items — often of great significance — which
serve either to increase or reduce the
burden of interest payments. Take the
question of rentals; both of leased lines
and of equipment. Where these rentals
are paid, they are practically equivalent
to interest on the money which would
have been necessarily borrowed if the
properties had been built instead of
leased. Similarly, where a road derives
income through renting its property to
others, this is properly an offset against
the interest it pays on the investment in
volved.
The writer has always believed, there
fore, that in order properly to study the
element of fixed charges, the difference
between "other income" and "other de
ductions" should be added to or sub
tracted from the interest payments.
When this practice is applied to the two
roads under discussion, Northern Pacific
is found to enjoy a great advantage. For
in 1917 its other income (excluding C,
B. & Q. dividends) was $1,350,000 more,
and its rentals and other deductions
$209,000 less than in the case of Great
Northern. The final result was that a
 NORTHERN PACIFIC OUTSTRIPS GREAT NORTHERN 317

been enjoying a steady income of large margin of $4,996,000 in net after taxes
proportions through the sale of its farm was increased to an advantage of $6,463,-
000 in surplus available for dividends
—
lands, which are located principally in
Montana and Washington. On Dec. 31 equivalent to $2.66 per share.
last there remained 4,800,000 acres avail The Land Grant
able for sale. Assuming these holdings Northern Pacific's land holdings have
have an average value of $6 per acre — ■
in 1918 the land brought $12.25— there is
COMPARATIVE PROGRESS Of H0.PAC.& GREAT NORTHERN
here a "hidden asset" worth $30,000,000, No Pac Figures Minus Great Northern Figures
which is steadily being converted into
cash. The funds so realized are applied
to the retirement of the prior lien bonds
and so increase the net income available
for dividends. Great Northern's land
holdings, however, are entirely negligible.
now aggregating only 101,543 acres.

Conclusion
Every Wall Street man is aware that
Great Northern "preferred" is not a pre
ferred stock at all. When the old com
mon was retired in 1901, the present is
sue was left as the only class of stock,
and thus became common in everything
but name. The retention of the old title
is generally regarded as illogical, but
harmless. Yet the writer has seen not
only experienced investors, but even Wall
Street brokers themselves, list Great
Northern among their preferred stocks.
When the common stock of National
Sugar Refining was retired in 1913, the
old preferred was exchanged for new
common stock.. The same should have
been done long ago in the case of Great
Northern preferred.
The above is not entirely a digression,
because the writer feels that Great
Northern may be favored by some read
ers over Northern Pacific on account of
the "preferred" in its title. With this
error corrected the superior merit of
Northern Pacific should now be entirely
clear.
For on the basis of its operating and
financial results we have shown that
Northern Pacific is entitled to sell on at
*Achjol earnings
least as high a level as Great Northern
•— in fact should command a better price.

If to these considerations is added the been briefly referred to above, in connec

value of its land holdings — amounting to
certainly more than $10 per share — it
should then seem only a question of time
when Northern Pacific, for ten years the
"under dog," shall once more claim the
ascendancy.
tion with the future course of its interest
charges. This is an element of such im
portance, however, that it is remarkable
that it is hardly ever referred to — if at
all — in analyses of the company's status.
Table II shows that Northern Pacific has

r
 Three Switches in New York Tractions
By BENJAMIN GRAHAM
Securities Selling Out of Line–Suggestions to Holders of
Third Avenue Stock, Interboro Preferred, and

Diº
Interboro Rapid Transit Fives
ISCREPANCIES-and hence op dividends until all accumulations on the
securities originate adjustment 5s are discharged.
most often when events move Third, This cannot happen for another
faster than quotations. The kaleidoscopic year at least.
change in the New York traction situa It follows therefore that present pur
tion since 1916 is an instance of this kind; chasers of the adjustment 5s must in
for while all the issues have naturally evitably receive at least 15% in interest,
suffered, the declines have been strangely before the stockholders can even think of
uneven and the resulting relative prices getting a dividend. By selling the stock
decidedly illogical. at 25 and buying the bonds around 40, the
Let us consider first the peculiar situa stockholder is really able to switch from
tion in the stock and 5% adjustment the junior to the senior security at the
bonds of the Third Avenue Ry. At this same price. If traction conditions im
writing (June 21) the bonds are selling. prove, it is evident that the adjustment
at 39% and the stock at 25—a difference 5s will reach 60 much sooner than the
of 14% points. The interest on the
adjustment is a contingent charge—i. e. TABLE I–PRICE RANGE OF THIRD
it is payable only if earned—and conse ADJUSTMENT 5s AND STOCK
quently no payment has been paid since Adjustments Stock
Year High Low High Low
October 1st, 1917. Nevertheless the inter . . 80%
1912 . . . . . . ... . 70 53%. 33%
est charge is cumulative and all arrears 1913 . . . . . . . . . . . . 79 63% 43%. 27%
must be paid up before the stock can be 1914 . . . . . . . . . . . . 74% 72 4334 33
eligible for dividends. Now, as of July 1915 . . . . . . . . . . . . 82 75 64% 35
1916 . . . . . . . . . . . . 843% 75 68%. 48
1st, 1919, there is exactly 10% accumu
1917 . . . . . .. . . . . . 73% 27 48%. 14
lated on the adjustment 5s, so that a year 1918 . . . . . . . . . . . . 38%. 27% 213%. 12%
from now there will be either paid or 1919 to date. . . . . 42% 25 25% 13%
accrued a greater amount of interest than
the present difference between the bonds stock. The appended price record of the
and the stock. Needless to say dividends two issues shows that the average price
on the stock are out of the question dur of the bonds in more prosperous times
ing this period, so that in effect the pur was about 20 points higher than that of
chaser of the adjustments at their pres the stock.
ent level is getting a 5% income bond The longer it takes for Third Avenue's
(equivalent to a cumulative preferred prosperity to return, the more there is
stock) at a net price lower than the non to be gained by changing from the stock
dividend paying common. into the bonds; since the claim for ac
To give the matter a concrete bearing crued interest will steadily grow larger.
let us take the case of an investor who If matters turn for the worse and a re
has bought Third Avenue stock around ceivership is necessary, the bondholders
60 and is patiently waiting for the public are of course in a far stronger position;
utility muddle to right itself and his in since they are certain to retain their
vestment to return to its former level. equity, while the stockholders would face
Now three facts must be self-evident: elimination—or at best an assessment.
First, Third Avenue stock is not going Under the most favorable circumstances
to sell at 60 again unless dividends are for the stock, the bondholders are sure to
resumed, or at least are in immediate be receiving interest over a considerable
prospect, period while nothing whatever is paid
Second, There can be no thought of on the shares.
(509)
 510 THE MAGAZINE OF WALL STREET
An Opportunity in Interboro portunity to the stockholders to save
Consolidated more than they deserve from an un
The relation between Interborough- fortunate situation. For even if a bank
Metropolitan Collateral 4y2s and Inter- ruptcy sale is avoided and the relative
borough Consolidated preferred stock is position of the various securities remains
very similar to that of the Third Avenue substantially unchanged, dividends on the
issues. The respective prices are here preferred shares are sure to be deferred
41 for the bonds and 29 for the stock. In for many years during which the bond-
this case the weakness of the shares lies owners will be receiving their interest.
not in the accumulation of prior charges, Interborough 5s versus 7s
TABLE II— PRICE RANGE OF INTER- The numerous holders of Interboro
MET. 454s AND INTER-BORO CON Rapid Transit 5s have now an excellent
SOLIDATED PREFERRED opportunity to improve their position
Inter-Met. 4^s I. B.C. Pfd. greatly from the standpoint of both se
Year Higb Low High Low curity and yield, without in any way
1915 7954 7354 82 70
i9i6 76y2 ny2 69
sacrificing the possibility of complete re
7754
1917 7354 50 7254 39}4
covery of the original cost of their invest
1918 585/6 38 47J4 1754 ment. This can be done by switching
1919 to date 43?4 27 3154 \\% from the 5% bonds at 75 an equivalent
but in an actual
amount of the Interboro Rapid Transit
default. The failure to convertible secured 7% notes, due Sept.
pay the April 1st. interest on the Inter-
Met. 4y2s gives the bondholders the 1st, 1922, at 90. The 7% notes are
secured by deposit of 15% of their face
right, through foreclosure sale, to take
value in 5% bonds, and are therefore bet
complete possession of the holding com
ter, protected proportionally than the Re
pany's property (chiefly the stock of the
funding 5s themselves. They are con
operating company), and thus to wipe out
vertible into the 5% bonds at 87% and
altogether both the preferred and com
can therefore share fully in any recovery
mon issues of the Interboro Consolidated.
This is precisely what was done in the of the bonds to their former levels.
bankruptcy of the old Rock Island Co.,
To make the matter clearer, let us
when the bondholders foreclosed on their again consider the concrete case of an
collateral and eliminated the old stock owner of say $8,000 I. R. T. 5s of 1966
holders.
It is clearly in his interest to sell these
The fact that IBC pfd. sells at 29 al holdings at 75 and buy in their stead
$7,000 par value of the 7% notes. He
though threatened with utter extinction
will have the right to exchange the seven
may be taken to indicate that such drastic
action will be avoided, and the stock notes back into the eight bonds he sold
holders permitted to retain some equity at any time before Sept. 1st, 1922. (Of
in the reorganized company. Yet the TABLE III— PRICE RANGE OF INTER
plain facts are that the shareholders are BORO RAPID TRANSIT 5s AND 7s
entitled to no consideration whatever, I.R.T. Ss I.R.T. 7s
and only the traditional helplessness and 1913 98^-98
stupidity of the bondowners can prevent
1914 99J4-96
1915 9934-9654 -v'.V..>...
them from asserting their right to com 1916 ■ 4*5.
9934-9754
plete possession. The Interboro Con 1917 99^-7654 ,JL
solidated stocks have represented nothing 1919 to date 7554-65 92 -83'4
1918 85 -69
but water from the beginning, and the 9954-90
payment of preferred dividends in course he would make the conversion
1916-7 was in effect a crime against the only if
the 5% bonds are? selling above
bondholders. 875^ ; otherwise he would take par in
In view of the danger of foreclosure, cash for his notes and repurchase the
the difference of but 12 points between bonds in the market.) It is true that he
the bonds and preferred shares of the realizes only $6,000 for his bonds, while
holding company appears ridiculously in the notes will cost $6,300. But the an
adequate, and presents a wonderful op nual interest on his new security would
 THREE SWITCHES IN NEW YORK TRACTIONS 511

be $490 against $400 on the 5% bonds—
a gain of about $200 by the maturity of
the notes. Under the most favorable
conditions for the bonds therefore, the
maximum loss through making the ex
change could not exceed $12.50 per bond.
But let us pass now to the other ex
treme and assume that the improvement
in the traction situation is so long de
ferred as to necessitate default on these
notes ; either of interest or principal. The
noteholder would then become entitled to
receive $1,560 in 5% bonds for each
$1,000 note: so that at 90 for the notes,
the collateral, if distributed, would cost
him only 57^4 — or 16J4 less than what
he can now obtain for his bonds. In the
event of default it is evident that the gain
through the proposed exchange would be
very substantial.
But let us consider finally the third
possibility — which lies midway between
the other two, and in the writer's opinion
appears most likely — namely, that de
fault is avoided, but that the 5% bonds
are slow to return to their pre-war levels.
In other words, assume that on Sept. 1st,
1922 the 7% notes are paid off at par, but
the bonds are selling about 80. The in
vestor would then gain $700 on the cost
of seven notes, whereas his eight bonds
would be worth only $400 more than he
sold them at. Moreover the $700 profit
is certain if the company keeps out of re
ceivership; while any advance in the
bonds must depend on general market
conditions.
To summarize : the exchange from the
5% bonds into the 7y2 notes is clearly
desirable because (1) under the most
probable conditions it will show a con
siderable profit; (2) if bankruptcy
should intervene — which is at least pos
sible — the switch would prove extremely
advantageous; and (3) under the most
unfavorable conditions it can show only
a very nominal loss. Surely a maximum
cost of $12.50 per bond is a very small
price to pay for the favored position held
by the noteholders.

FUTURE OF OIL
A banker who has a broad view says : "I believe the oil boom is here to stay. Not only
are increasing current demands for oil products keeping well up to the advance in production,
but European stocks which were exhausted at the time the armistice was signed must be built
up to former levels.
"The extent of this European demand is not wholly appreciated. It is estimated that
Germany alone will require 1,100,000 tons of petroleum and petroleum products within the
next twelve months. Other European countries are little better off in this respect. It will
probably be a long time before production catches up with consumption, and the demand
created by the necessity for building European surplus stocks up to former and normal levels.
"For this reason I believe active development of new oil fields should proceed vigorously
and there is every reason to believe such a program can be followed out with success and
profit.
"In this connnection I am of the opinion that too much money has been made out of oil
development by a few individuals and not enough by the general investing public. The public
should be given an opportunity to share in the profits from development of oil lands, whereas
the rule has been that the opportunity for big profits has come to only a few men of large
capital resources.
"My opinion of a legitimate and equitable oil development is to secure well located leases
in proven or partly proven territory after consultation with the most expert oil men and
geologists that money can procure. Then reputable men of the highest standing should take
an interest in this development and give the general public not only the benefit of their
ability and business experience, but an opportunity to benefit from the discovery of oil,
should development prove successful.
"Every mine and every oil development is in its initial stages a prospect. The public, if
assured that men of ability and integrity are conducting the affairs of such a company, would
gladly invest their funds in a development which, under these circumstances, would promise
the most favorable outcome within the limitations of the situation."

CT /O

r^S>pS
The Goal Situation and Goal Stocks
Is a Coal Shortage Imminent? — Speculative Versus Invest
ment Position of the Leading Issues — Pittsburgh
Coal and Pittsburgh & West Virginia
By BENJAMIN GRAHAM
market history of soft coal sumers, apparently still obsessed by
THE during the past few years has
closely followed that of copper.
the hope of cheaper coal, are doing
practically nothing now to provide for
In 1916 and 1917 war demands induced next Fall's requirements. For this rea
a continuous advance in price, which son experts in the coal trade confi
was finally checked by Government dently predict a fuel shortage next
price fixing. The signing of the armis winter rivalling that of 1917-18 in
tice resulted in a radical curtailment of severity.
consumption, which in turn has com When the public finally awakes to
pelled substantial concessions by the the situation, the sudden rush of de
sellers. But even the decline in quota- mand is certain to result in feverish
lions has so far failed to stimulate activity and rising prices. If the stock
buying to any extent and hence the market runs true to form, it will have
output still remains well below last anticipated this development by activ
year's figures. ity and strength in the coal issues,
The shrinkage in demand since last which hitherto have been lagging
November has been due to three somewhat in the general upswing.
causes: (1) Reduced requirements, From the speculative standpoint there
(2) Expectation of further price reces fore, such stocks as Pittsburgh Coal,
sions, (3) Seasonal lull in consumption. Pittsburgh & West Virginia and Pond
With all three factors in operation at Creek Coal should soon offer inviting
this moment statistics show that pro possibilities.
duction is now fully 30% below the But when we come to analyze their
1918 figure, and practically no surplus investment statue, the position of the
stocks are being accumulated. Con coal issues is found to be much more

MACHINERY IS EXTENSIVELY USED BY COAL OPERATORS

ill

y^#^
0

\ re
1

Thin Illustration Conveys An Adequnte Iden of the Extent to Which American Mine
Owner* Supplement Hnnd Work With Mechanical Time Saving- Device*.
(601)
602 THE MAGAZINE OF WALL STREET
complicated. The above mentioned the average. Allowing the 1918
companies are all producing bitumin amount of 30 cents per ton for all fixed
ous or soft coal, and we shall accord charges (other than war taxes) it is
ingly confine our attention to that evident that the present earnings must
commodity. be very small.
Prior to the war the margin of profit A study of the exhibit of the past
in the soft coal trade was relatively years is not fruitful of encouraging
small, and the earnings on the issues in conclusions. In the period prior to
question were by no means encourag
ing, as we shall show in detail later.
War prices brought sudden prosperity PITTSBURG COAL
and large surpluses; but while current

"18
'14

'15

'16

'17

19
131? 13
assets have been substantially in
creased, it is not evident how this will
result in either expanded output or
lowered costs.
The fact is that production expense
has grown so rapidly that even a con
siderable advance over the pre-war
selling price might be inadequate for
profitable operations. Furthermore, +*•
the coal trade" has of late been greatly
disturbed by the menace of oil. competi 52

/J
tion, in which the actual cost of pro
^

1
duction is almost negligible, and which —
LOSrpernjn
threatens therefore largely to displace

i
coal, unless the price of the latter can
be reduced.
So while the immediate prospects
favor a boom in the coal issues, the
long range view is full of uncertainties.
This may be brought out more clearly
by a consideration of the individual
companies.
Pittsburg Coal
This company claims to be the larg
est producer of soft coal in the world.
It has now outstanding $20,500,000 of
bonds and mortgages, $36,000,000 pre
ferred stock and $32,169,000 common
stock.
The appended graph shows the pro
duction, selling price, and cost of its
coal since 1912, and also the earning
on its present stock capitalization.
Production costs are stated without
including interest, depletion, depreci
ation, or war taxes. Figures given by
Pennsylvania coal producers for April,
1919, show a slight increase over 1918.
At the same time the current selling *ToJuly7.
price of soft coal is well below the
$2.89 figure, reported by this company 1916, preferred dividends were cov
for the preceding year. Pittsburg ered in but one year, 1913, in which the
Coal's output is probably now fetching small sum of $1.76 was earned on the
no more than $2.25 to $2.50 per ton on common shares. further appears
It
 THE COAL SITUATION AND COAL STOCKS
that the output has shown a declining
tendency in general, while the curve
of production costs has turned stead
ily upwards. The very large profits of
1917 were due to an advance of 90
cents per ton in selling price, and only
34 cents in costs. But in 1918 the shoe
was on the other foot, as a further ad
vance of 22 cents per ton in price was
completely overshadowed by a jump of
51 cents in costs.
The only reason to expect a better
post-war than pre-war record for
Pittsburg Coal would seem to lie in its
stronger current asset position. As
compared with 1913, its holdings of
cash and Liberty Bonds show an in
CUTTING DOWN THE COST OF PRODUCTION
The Sullivan Iron-Clad Coal Cutter.
crease of about $8,000,000, or $25 per
share. At the same time the present
price of the common stock is about 45
points above the maximum quotation
of six years ago. From a purely in
vestment standpoint the market seems
to have sufficiently discounted the war
prosperity of Pittsburgh Coal.
Pittsburg and West Virginia
The interest of Pittsburg and West
Virginia in the soft coal industry arises
from its ownership of all the stock and
some of the bonds of the Pittsburg
Terminal and Coal Co.; which holds
about 15,000 acres in the Pittsburg
Vein. While the market appeal of the
603
parent company during the past two
years has been based almost entirely
upon the supposedly large coal earn
ings, it is rather remarkable that no
effort has apparently been made to de
termine the earning power of these
coal properties in the pre-war period.
The writer has consulted all availa
ble data regarding the Pittsburg Term
inal and Coal Co.'s operations since
1912, and has accordingly prepared the
annexed graph which shows the annual
output and also the earnings accruing
to Pittsburg & West Virginia since
1912.
Detailed financial results are at
hand only for the years ended June,
It Has a Ten-Foot Cutter Bar.
1914 to May, 1917. The 1912 and 1913
income is reconstructed from the bal
ance sheet, and estimates for the last
half of 1917 and the calendar year
1918 are taken from fairly reliable
SOU11 CeS.
An analysis of these figures leads to
the same general conclusion as in the
case of Pittsburg Coal—namely, that
the recent large earnings were due en
tirely to the high price of coal in war
time, and that prior to 1916 the profits
of the enterprise were very meagre.
The Pittsburg & West Virginia Ry.
has been receiving dividends at the rate
of 6% on the $14,000,000 Coal Co. stock
604 THE MAGAZINE OF WALL STREET

it,
owned by since the middle of 1917. be expected that sharp advance in

a
These dividends together with the in coal prices later in the year will greatly
terest received on its bond holdings augment the Coal Co.'s earnings,
brought total income from its coal which must now be running at very

it
a

a
subsidiary in 1918 of $1,100,000— equi
valent to the full preferred dividends PITTS. &W.VA. COAL PROPERTIES
and $2.20 per share of common stock.

1
Because of the very poor earnings
during the test period 1911-1913, the

■
standard compensation for the use of
^ ,*— ■—
\

\
■

V
the railroad properties amounts only

////
\
\f\\\
to about $300,000, or but $3.30 per
=
share of preferred stock. Because of

Z
the large expenditures made during the
receivership, the company would seem
to be entitled to some extra allowance, g

'15

'16
'14
1913 '17 '17*
but so far the Government has shown

V
.,
///
\
no signs of generosity to this road, or

'di

\
Earn

\\\\
ff/
in fact to most of the other roads

'
which have claimed special treatment.

A
///
The guaranteed railroad compensation
plus the coal earnings of $1,500,000 //

'
lo

*
would make total income of $1,800,-
a

000, equivalent to slightly over $4 per

share for the common stock. * Years endedDec

31
preiiousyears endedJuneM-tW
While this exhibit would in itself
perhaps justify the present price of 40 low rate. It must be admitted, there
for the junior shares, the extremely fore, that the stock has good specu
poor record in pre-war years gives rise lative possibilities over the next few
to serious misgivings as regards its fu months but as long pull investment,
a
;

ture earning power. Of course to appears none too inviting.

it
is
it

Another Goal Shortage Threatened

Decline in Production of Bituminous— Output per Day
Dropped from 1,600,000 Tons in January
to 1,200,000 in April
By R. M. BRYAN, Eastern Manager, "The Black Diamond"

country being threatened tumn will be too late! A big coal

is

THE with another coal shortage. shortage coming. Thousands of

is

Some of the coal men predict miners are going back to Europe, Coal
that will be fully as serious as that production has fallen off considerably
it

of the winter of 1917-18, unless the and shortage of many millions of

a

buyer pays more interest to the situ tons looks probable. My advice to
ation than he doing at the moment. consumers to buy now while they
is
is

At the recent annual convention of can get seledtion and delivery."

a

the National Coal Association, Harry
A. Garfield, United States Fuel Admin
istrator, issued this warning
:
Dr. Garfield had abundant reasons
for issuing this warning. While the
Fuel Administration, of which he
is

"Buy now — in August or the au the head, early in the year, ceased to

Strategic Switches
What Do With Railroad Preferred Stocks— The Elements of Un
to
certainty in the Railroad Situation — Unsatisfactory Features
of Non-Cumulative Preferred Issues — Some Ad
vantageous Changes Into Junior Bonds
By BENJAMIN GRAHAM
immobility of the rails during the
THE excited advance of the rest of the
market occasioned no little surprise
among investors. The truth is that all
along there had been a fundamental weak
ness in the position of the carriers, which
had received much less attention than it
deserved, until brought rudely to the fore
by the recent radical demands of the em
ployees.
For some months there have been three
basic elements in the railroad situation,
which may be summarized as follows:
(i) After January ist next the stock
holders will be fully responsible for the
finances of the carriers.
(2) If the present operating results
were then to continue, a majority of the
systems would soon be in bankruptcy.
(3) Remedial legislation by Congress
has been confidently expected to avert the
otherwise inevitable disaster.
Observe that otherwise the danger ex
pressed in (1) and (2) is a definite in
controvertible fact, the relief indicated in
(3) has been an absolute necessity, a near
probability — but still not a certainty. With
prudent investors probabilities — no matter
how imminent — count less than actualities.
Hence the hesitation to purchase the rail
road issues despite the buoyancy of the
general market.
The scare created by the uncompromising
attitude of the railroad brotherhoods has
intensified the element of danger to our
transportation system. The writer has
contended that the railroad muddle has
contained some possibility of financial
disaster, and that until this doubt is
definitely removed, it would be wise for in
vestors to guard against trouble, even
should it never come. Hence his repeated
counsel to switch from roads doing particu
larly badly under Federal operation to the
few which have prospered — from B. & O.
into Chesapeake; from St. Paul into Big
Four; from Great Northern into Northern
Pacific.
The purpose of this article is to suggest
means by which investors may strengthen
their position, through changing, not from
one railroad into another, but from pre
(759)
r u
in Railroad Issues
ferred shares of small equity and unsatis
factory records into better secured and
more desirable funded obligations.
Drawbacks of Non-Cumulative Stocks
as the most attractive form of in
Just
vestment is theoretically the Convertible
Bond, so the least attractive is the Non-
Preferred Stock. The two
Cumulative
types are diametrically opposed. A good
convertible can share fully marketwise in
a company's prosperity, but is well protected
Its price can
against adverse conditions.
advance further and more easily than it
can decline. The ordinary preferred shares
can participate in no direct manner in in
creased earnings; and if they are non-
cumulative, they suffer quick and irrep
Their
arable loss when income diminishes.
value can never increase greatly; it often
undergoes decided shrinkage.
These issues are especially vulnerable
when the common stock is not receiving
dividends. For in the usual case where
the directors represent chiefly the junior
shares, there is no incentive to continue dis
bursements on the preferred. The man
agement is likely rather to cast about for
any plausible pretext to eliminate payments
on the senior issue, and thus conserve earn
ings for later distribution to the common
stockholders. The weakness of the non-
cumulative preferred shareholders' position
in this respect is strikingly shown by the
passing of the dividends on St. Paul Pfd.
soon after that of the common.
When the inherent disadvantage of non-
cumulative preferred issues are coupled
with the present uncertainty in the trans
portation field, the status of such railroad
shares becomes particularly unfavorable.
Although all may still turn out for the best,
the writer believes that holders of B. &. O.
Preferred, Southern Railway Preferred,
Erie, ist Preferred and similar issues are
in a fundamentally unsound position. The
following definite suggestions for improve
ment are, therefore, made on the theory
that prevention is better than cure.
Baltimore & Ohio Preferred
The lesson of St. Paul should be of par
ticular significance to holders of B. & O.
760 THE MAGAZINE OF WALL STREET
Preferred who have just seen the dividend into Buffalo & Susquehanna 4% cumulaiiu
passed on the junior shares. Since both preferred selling at 51. This issue, although
the bondholders and common stockholders listed in both Philadelphia and New York,
have now nothing to lose, and a substantial is but little known and not sufficiently
amount to gain, from the withholding of
preferred dividends, it would not take much Ry. Pref.
TABLE II.— Price Range of So.
of an emergency to result in such action. Gen. & Dev. 4s
The B. & O. situation has enough unfavor Pfd. Gen. ADeT.fc
able elements to make it unnecessary to High Low High U
Year
cast around for pretexts. Operating re 1912 87% 68% 79% :■-.
sults have been miserable ; interest charges 1913 81% 72 78% ::\
have been steadily rising, and the company 1914 85% 58 76% r>:
has recently obligated itself to lay aside the 1915 65 42 72%
sum of $3,500,000 yearly for additions and 1916 73% 56 78 w
1917 70% 51% 77 5(>',
working capital before paying preferred ss
1918 75% 57 73
dividends. 69 t>-
1919 to date 72% 66%
Holders of B. & O. Preferred who have
faith in the ultimate salvation of the system
and are averse to parting with their shares appreciated. In 19 17 — the last year before
at these low levels, can improve their posi Federal operation — preferred dividends
tion materially at slight cost by switching were earned four times, and $16 per share
was shown for the common.
The 4% dividend on the preferred haf
TABLE I.— Dividend Record of Southern Ry. been paid since the beginning of 1915 and
Pref.
the common has been receiving 7% since
Paid Paid Paid January, 1917. A peculiar feature of Buf
Year Per Ct. Year Per Ct. Year Per Ct.
falo & Susquehanna is that its fixed charge;
1897-8. 1907 4 1914 4% and preferred dividends combined are more
1899.. 1908-10.. None 1915-6... None
1900... 1911 2
than covered by its income from invest
1917 2%
1901.. 1912 4% 1918 5
ments and equipment hire, exclusive of di
1902-6.. 1913 5 1919 2% rect operating profits. It is extraordinarily
well supplied with cars and engines for a
road of its size.
into the Toledo-Cincinnati Division 4s, due Southern Railway Preferred
1959. These bonds were recently issued as
An interesting commentary on our gen
the result of the C. H. & D. reorganization.
eral idea of switching from non-cumulative
They are secured by general mortgage on
the latter mileage ; but what is more im
preferred stocks into junior bonds is found
portant, they are the direct and uncondi
tional obligation of the B. & O. They sell TABLE III.— Price Range of Erie 1st Pfd. and
at 61, only six points above the preferred 4s, "Series B"
stock. 1st Pfd. 4s,"Series B"
The strategic advantage of such an ex Year High Low High Lot
change is at once evident from the fact 1912 57% 47% 80% 75
that the bond interest must be paid or else 1913 49% 33% 77% 65
49% 32 76
receivership ensues, and hence the road will 1914 62
1915 59% 32% 86% 63%
do everything possible to avoid default.
1916 59% 46 84 6t
But the preferred dividend can be passed
1917 49% 18% 68% 37%
without inconvenience to any one except the 1918 36% 23% 59 42%
preferred stockholders, who are powerless 1919 to date... 33 24% 52 46
to protect themselves. It would need only
two years' suspension of dividends to bring
the cost of the 4% bonds below that of the in a colloquy recorded in the minutes of
preferred. On the other hand, even were the annual meeting of the Southern Rail
dividends continued, a mortgage obligation way held in 1917. A stockholder remarks
would surely be worth at least six points that the irregularity of the preferred divi
more than the 4% non-cumulative pre dend is a great disadvantage and that many
ferred of the same road. owners of this issue would be willing tc
To those who are anxious to part com have the nominal rate of payment reduced
pany with B. & O, and yet are averse to if they could be assured of a continuous
reducing their income or increasing their income. To this an investment banker re
investment, the writer suggests a switch plies that precisely this result can he ob
 STRATEGIC SWITCHES IN RAILROAD ISSUES 761

ained by switching from the 5% non-
umulative preferred into the 4% General
ind Development 4s, then selling at the
ame price.
At this writing the bonds are quoted two
>oints below the preferred, and the advan-
age of the exchange is even more apparent
han three years ago. Investors should not
>e misled by the apparent difference of
.% in the face return of the two issues.
\ glance at the accompanying dividend
•ecord of Southern Railway Preferred will
:stablish that the 5% rate on this security
las been pretty much of a snare and a delu
sion. For only six years out of the last
:wcnty has the full 5% been paid, and the
iverage return for the two decades has
aeen but 2.82%.
There is significance in the fact that even
this year — when the road's financial posi-
:ion appeared so much stronger than before
the war — the April dividend was deferred
for three months. Despite the advantages
brought by the great war boom in the
than Missouri Pacific Preferred —despite
the difference in price — because the rail
road situation hardly holds forth much
promise of early dividends on the stock.
Erie First Preferred
No doubt there are many unwilling
owners of Erie First Preferred at much
higher than present levels, who cannot sum
mon the courage to admit their mistake,
pocket their loss — heavy as it may be — and
put their money into an asset in place of a
liability. For those who, like Mrs. Micaw-
ber, will never desert their Erie, there is a
chance to obtain at least a return on their
capital and a prior claim on the road's
earnings, by switching from the First Pre
ferred at 30 into the "Series B" 4% Bonds
at 46. The many who will hesitate to pay
the sixteen point difference involved would
do well to reflect that it is twelve years
since Erie First Preferred has received a
dividend, while the bond interest has been
paid regularly during all this period. A
similar switch made at a twenty point dif-

TABLE IV.— Price Range of M., K. & T. Pfd., St. Louis Div. 4s and Tex. & Okla. 5s
Pfd. St. L. 4s T. & O. 5s Pfd. St.L.4s T.&0.5«
Year High Low High Low High Low Year High Low High Low High Low
1912 66 57 78 76 — — 1916 24% 10 46 37 69 49
1913 64% 52 78% 77% 101% 101% 1917 20% 7 — — 49 45%
1914 60 26 — — 99% 97 1918 13% 6% — — 40 30
1915 40 10% 60% 51 69% 68 1919 25% 8% 27 25 50 50

South, the permanence of the Southern fcrence in 1908 would now show the in
Railway preferred dividend is still far from vestor forty point profit, because of the
a

L'stablished. But ever since the 4% bonds
were issued, their interest payments have
jf course been met promptly and in full.
To paraphrase the Scriptures — better a 4%
is,
advantage of payments of interest over
prospects of dividends.
In 1916 the company's sudden prosperity
inspired high hopes in the oft-deceived

aond where safety than 5% preferred stockholders, but these too were doomed
a

md uncertainty withal. to disappointment. The subsequent fall in

Missouri Pacific Preferred Erie's earnings was even more precipitous
than their rise; and judging from the
There striking similarity between
is
a

miserable exhibit since 1917, preferred

he situation in Southern Railway and in
dividends appear as far away as ever.
Missouri Pacific, with respect to their pre
Those who switch now into the 4% bonds
ferred stocks and 4% bonds. About year
a

will be rapidly recovering, in the form of

igo "MOP" general 4's were selling at the interest, the additional capital investment
same price as the preferred, but they have
involved at this time. But should in the
since been forging ahead and now range
meantime the hapless Erie be swept into
ibout five points higher. The greater
the outstretched hands of the ever-ready
■elative strength of the bonds here than in
receiver, then the difference in equity be
he case of Southern Railway doubtless
is

tween bonds and preferred shares should

lue to the failure of Missouri Pacific to
be well worth the margin in price.
nitiate preferred dividends. But Missouri
Missouri Kansas Texas Preferred
&

Pacific preferred cumulative from June

is

(O, 1918, and thus enjoys an important ad The traditional immortality of pussy cats
vantage over Southern Railway Preferred. again exemplified by the sudden recru
is

Jnder the present circumstances, however, descence of "Kitty," after all the financial
ve would much rather own the general 4's doctors had pronounced her dead. But
762 THE MAGAZINE OF WALL STREET
while the multitude may applaud the phe
nomenon, 'tis a spectacle to make the
judicious grieve. For those who have been
paying court to "K-K-Katy" common at 14,
and preferred at 23, are probably not aware
that a 4% bond, carrying 12% in accu
mulated interest, is selling at 27, and
certificates of deposit for a 5% bond with six
unpaid coupons have recently been offered
"over the counter" at 28. We refer re
spectively to the St. Louis Division Re
funding 4's and the Texas & Oklahoma
First Mortgage 5's. It is worthy of note
that in 1916 the former issue sold 25 points
and the latter fully 40 points above the
preferred stock.
American Can Common a Near
Dividend Payer
"Plowing In" of Earnings Has Placed Stock in Strong Position-
Five Per Cent Rate Is Intimated
By SCOTT B. MASON
of a dividend on American Can
TALK common has been so prevalent in
the past that to mention it at this
time might seem commonplace except for
the significant statement of President
Wheeler at the company's annual meeting
in February.
Mr. Wheeler then stated, in effect, that
dividends on the common could not be con-
sidered until August, at least. That time
has now arrived, and it would not be sur-
prising if the directors reached an affirma-
tive decision within the near future.
In support of this theory, it is pointed
out that President Wheeler's remarks evi-
dently were carefully considered before
they were made public — that profits from
government contracts would be realized
this year and last, but not least, that the
company would be sufficiently readjusted,
to a more normal basis so as to be in a
better cash position through the reduction
of its large inventories. This item has had
a remarkable annual jump during the last
three years as the following figures indi-
cate:
1916 $13,254,321
1917 24,136,484
1918 35,484,402
The large expansion, however, is in line
with the great development of the industry
as a whole, and while it appears that the
Needless to say, we are not dealing hen
with the choicest liens of this many mon
gaged system. Our analysis of these
issues in the October 12, 1918, number of
The Magazine of Wall Street explah-
why they rank among the lowliest of M. K
& T. obligations. But a bond, however
humble, enjoys unquestioned priority over
the preferred stock of the same road. Thr
long deferred reorganization is expected c
be consummated soon after "Katy" is re
turned to private operation. At that time,
with assessments to be levied and holding
to be cut down, the advantage of a mort
gage bond over a stock issue should K
brought home in unmistakable fashion.
company was carrying too much tin plate
and other materials as of December 31.
1918, it rnust be remembered that all signs
pointed and, as a matter of fact, still favor
a continuance of large production this year
and next,
President Wheeler stated to stockholders
in this connection: "Contracts already
taken and trade reasonably assured, promise
a volume of business for 1919 which should
compare favorably with 1918, last year.
being the largest in the company's history
for the number of cans and packages nude
and delivered."
The basis of valuation, of course, is an
important item, but it was officially stated
that "the inventory has been conservative'1
taken on the same plan as last year." This
indicates that the tin plate stocks were
taken into account at pre-war prices which
was the plan pursued in 191 7. Conse-
quently, it would appear that the compan.'
has little to fear from a loss due to any
decline in trade prices. This thought is
further reenforced by omission of the usual
"Reserve Against Falling Prices" (which
so many corporations set up during the
war) in Can's 1918 balance sheet. As tir
plate prices have remained on a relatively
higher level, it would not be surprising i'
actual values were now considerably
greater than the report showed.
 A Neglected Chain Store Issue
— Its Present Low Price
The Inconspicuous Merits of McCrory
Makes It Attractive — Comparison with Its More
Pretentious Rivals
By BENJAMIN GRAHAM

recent death of F. W. Wool worth out any serious attempt to draw helpful
THE has attracted general attention to the conclusions therefrom.
interested in
five and ten cent store industry, of The investor is chiefly
which he was the founder. While the knowing which of the four common stocks
is intrinsically the cheapest at present
organization that bears his name is at once
the oldest and largest of its kind, there are market prices. Now if we merely compare
the gross or net earnings of the various
several other systems of importance, the
common stocks of which are publicly held. TABLE I.
In order of gross sales, these are S. S.
Percentage of Earnings to Market Price
Kresge, S. H. Kress and McCrory. Kresge
1918
of Common.
and Kress (strange similarity of names)
enjoy with Woolworth the advantage of Balance
Net After After

II11
Gross Taxes Pfd. Divs.

m m
■
w W 1917 1918
Woolworth
Kresge
171%
227
9.4%
10.6
7.84%
9.76
1500
Kress 209 11.4 8.81
- •JMtt&fbOrSTORlS' McCrory 768 27.8 20.96
- 1-McCroryl-Kress
- i=Kre5ge- Q=Woolwor IK. enterprises we will not get far in our in
—n
1000
n vestigation, because a company's leader
ship in gross business may be more than
offset by heavier capitalization, or over-
■ discount by its higher market price. We
note for example that in 1918 Woolworth's
1
500 sales were eleven times, and its net profits
seventeen times, greater than those of Mc
Crory. For many readers this would seem
conclusive evidence that Woolworth is a

0
|l| nil much more desirable investment. Yet it is
of equal significance that the smaller com
pany has only one-tenth as many shares,
and that each share is selling at only one-
listing on the New York Stock Exchange, fifth the price of Woolworth common.
but McCrory is an inactive issue, dealt in In other words, while Woolworth may be
•over the counter" only. For this reason earning seventeen times as much as Mc
investors generally are but little acquainted Crory, its market valuation is fifty times
with the latter company, their knowledge as great. Consequently McCrory earned
being restricted to the vague impression last year 21 per cent, on its market price,
that this is a small and none too prosperous against only 7.48 per cent, in the case of
enterprise. Let us see to what extent this Woolworth. Despite the latter company's
opinion is justified by the facts. enormously greater business, from the
Since all five and ten cent systems oper standpoint of earning power, McCrory
ate under substantially similar conditions, would appear more than twice as attractive
they are especially well adapted to com at 25 as Woolworth is at 125.
parative treatment and a study of the bare
Comparative Earning Power
figures should yield more than ordinarily
illuminating results. But while the chain This primary of value is applied to
test
stores have of late supplied a favorite sub all common stocks in Table I, which shows
ject for investment house circulars, these the gross and net earnings (after taxes) per
have confined themselves simply to the dollar of market price. Since Woolworth
presentation of a mass of statistics, with- has not yet received its 1918 taxes, these
939
940 THE MAGAZINE OF WALL STREET
are arbitrarily assumed at the 1917 figure.
The table shows clearly that on the basis of
last year's income account, McCrory com
mon is selling far out of line with the other
three issues— and in fact makes more than
twice as good a showing on its present
market price as does its nearest competitor,
Kresge.
These results should be interesting
enough to tempt us further into an ex
amination of the tangible asset position of
McCrory as compared with its more pre
tentious rivals. These figures, given in
Table II, contain not a few surprises. In
the first place it is rather startling to note
that McCrory preferred, which goes beg
ging around 92, has actually more tangible
assets behind it per share than Woolworth
preferred, one of the highest priced and
form system in the accompanying graphs.
But to return to McCrory it is indeed
astonishing to discover that the tangible
asset value per share of this humble com
mon stock is fully as large as that of Wool-
worth, which sells five times as high.
Moreover, if allowance is made for 19 18
taxes (which are not provided for in the
Woolworth balance sheet), McCrory would
actually be found to have more dollars of
real assets behind each share of common.
If the very low market price of McCrory
is taken into account, its tangible asset
position — like its earning power — places it
distinctly at the head of the four com
panies. It is the only one of all the com
mon stocks which is selling for less than
the real assets behind it. These represent
160 per cent, of its market price, against

125

•GR.OS5SML5- NET- PROFITS-

I I
BtFOIU-TMS-
■"McCrory. I'Kress. ■ -McCrory. 1-Kress
100 HI- Kresge.. B-WoolwortK =Kresge ■B-WoolworHv

oo

0
1913 19U 1915 1916 19 7 1918 1913 19M- 1915 1?1b 1917 1918
* lifter Taxw. ■y&

best regarded issues of this type of invest
ment. In this connection attention should
be drawn to the excellent showing made by
Kresge preferred, which — because of the
small size of this issue compared with the
common — is far
better protected than
many better known preferred stocks sell
It is nothing short
ing ten points higher.
of ludicrous that Kress preferred should be
Kresge preferred, as the
quoted above
former has not a single point in its favor.
Not only is Kresge in a much stronger
position with respect to both assets and
earning power, but its past record also
shows a healthier and more rapid growth.
This is true whether we consider the in
crease in number of stores or in gross sales
per store or in net profits per dollar of
sales— all of which can be traced for the
only 33 per cent, for Woolworth and Kress
and 86 per cent, for Kresge.
Reasons for McCrory's Backwardness
McCrory is selling so much lower than
its statistical position would justify (as
compared with the other companies) that
we are impelled to seek the reasons under
lying its apparent bargain-counter (or five
and ten cent counter) price. The first ex
planation that presents itself is the absence
of a common dividend. This is an im
portant drawback, it is true, yet not a fatal
defeat. The value of an industrial com
mon stock is rarely definitely determined
by its dividend rate at any particular time.
Speculative issues have sold at fabulous
figures while returning nothing whatever to
their owners. But a more cogent argument
 A NEGLECTED CHAIN STORE ISSUE 941

is found right among the other chain store not that working capital insufficient—

is
issues. The price of 160 for Kresge is this could have been more logically argued
certainly not governed by against Kresge—but rather that

its
dividend,

Io $5
has

it
yield growth

of
so
which gives only per cent. few signs the past.

of
shown

in
3.
it
a
Even Kress, which pays $4, returns only Since December, 1917, net current assets

23
have increased only $236,000,

or
4.70 per cent. its present price—less than

at
about
per cent., while gross sales have practically
TABLE II. doubled. The surplus earnings have gone

up
Tangible Asset Values Dec. 31, 1918. chiefly into fitting additional stores, and
the subsidiary which ac

to
Per into advances

of
Mkt.

Ø
Per Share Share of Price of quires real estate for the new locations.
of Pfd. Common Common

so
With sales increasing much faster than
Woolworth ......... $265 $41 33% working capital, the company would doubt
Kresge .............. 490 138 86 spare the cash for com

to
less find hard

it
Kress ... 190 28 33 mon dividends.
.
.
.
.
.
.
.
.
.
.
.
.

McCrory ... 272 41 160

Now since the writer's purpose

to
not

is
.
.
.
.
.
.
.
.
.

sell McCrory stocks but only analyze

to
Victory bond. Woolworth has the great them impartially,

he

of
has no intention
a

est dividend yield

its
all despite position
of

belittling this really serious objection. No

as dean of the chain store issues. This doubt this the “true inwardness” of Mc

is
by

would indicate the realization investors Crory's extraordinarily low market price,
that, the last analysis, the current divi
in

less importance than the =7|

of

dend rate
is

-
'17

'18
as

"14
possibilities future dividends,
of

meas

15

16
1913
ured by earning power and asset value. 15

-
McCrory, the withholding
In

of

the case
NHPROFITSpirpolar

of
i

of dividends has enabled

to

build up the
it

uncommonly strong tangible asset position. Bff()RE-TAYES.–|-

which we have already discovered behind lworth-HK
10

At the time recapi

of

its common stock.

talization 1915, the company started off
in

with $20 per share

of

real value for its

;

junior issue.
In

three years and half

it
a

has just doubled this figure, although the

market price
of

the common has stood

practically still. Incidentally this indicates
that the average earnings since reincor
poration have been about $5.60 per share,

TABLE III.
0

After Taxes AVAZ

t

Capitalization and Dividends.

Preferred
which otherwise would have provided too
Outstanding Price Rate good opportunity neglected by the
be
an

to

Woolworth ....... $12,500,000 116 7% few who are really familiar with the com
Kresge ...........
2,000,000 108
7 7 7

pany's affairs. One point out,

to

moved
is

Kress ............. 3,740,000 110

however, that very similar situation ob
McCrory .......... 1,179,000
a

92
tained with regard Kresge, less
to
S.
S.

Common
than two years ago. This company's stock

--
Yield Outstanding Price Yield was then selling which price
at

at

Rate 80,
of it

6.03% $50,000,000 125 8% 6.40% appeared remarkable bargain view

in
a

6.48 10,000,000 160 3.12

4 5

its

exceptionally high earning power and

6.36 12,000,000 84% 4.70
working capital had
its

7.61 5,000,000 25 asset backing. But

failed keep pace with the rapid expan
to

pro
to its
of

sion business and was lower

of in
or

per cent. its market price.

22

of

Hence
portion any
of

the investor need not fear that the 1918 sales than that the
exhibit may have been isolated and mis other chain store systems, McCrory in
an

cluded. Hence the directors were, and

leading one.
still are, compelled pursue very con
to

is a

Working Capital
servative dividend policy. likely that
to It

more valid objection McCrory than

is to

buy into this

A

even the insiders hesitated

based upon its
of

the absence dividends extremely prosperous enterprise, because

current asset position. The trouble here they feared long time before
be
is

would
it

a
942 THE MAGAZINE
it could spare the cash for liberal dividends
—unless new capital was raised, which
seemed improbable. Nevertheless, value —
like murder — "will out," and although
Kresge has added only $i to its dividend
rate, its market price has doubled, as in
vestors have at last realized its strong
position and brilliant possibilities.
Will McCrory Follow Kresge?
Encouraged by this example, the writer
is tempted to utter a prediction that Mc
Crory, marketwise, will prove a second
Kresge, despite its handicap of insufficient
operating funds and consequent deferment
of dividends. But a fundamental element
in Kresge's success is lacking in the case of
McCrory —namely, the steady increase
from year to year in the net earnings avail
able for the common stock. The graphs
reveal that practically all the advantage
gained through the continuous expansion
of McCrory's business has been lost
through the equally persistent shrinkage in
the net profit per dollar of sales. In 1913
the net earnings amounted to 7.24 per cent,
of gross, whereas last year the ratio had
fallen to 3.72 per cent. While some in
determinate portion of the poor showing of
1918 and 1917 is due to war taxes (not
stated separately by McCrory) comparison
with the other companies shows that this
factor cannot account for all of the
trouble. No doubt the great increase in the
cost of goods purchased, coupled with the
necessity of retaining a fixed selling price,
had a good deal to do with this unsatisfac
tory showing.
It would be easier to grow enthusiastic
over McCrory's future if, like Kresge, it
had doubled its net profits in six years, in
stead of maintaining them practically un
changed. But what McCrory lacks in pro-
gressiveness it makes up in stability, since
OF WALL STREET
in no year in the past seven has less than
$4 been earned per share of common stock.
It ought to be asked further whether there
is any good reason why McCrory should
not be able to establish a ratio of net
profits to gross sales, somewhat approxi
mating that of the other three systems.
With a $10,000,000 business this year, it
should not be greatly handicapped in its
purchases, and by skilful management it
should be able to achieve considerable im
provement in this respect.
The Crux of the Problem
Here we have the fundamental elements
in the McCrory situation. The stock is
undeniably selling at much less than is
warranted by its present asset value and
earnings. This would indicate the belief
by investors that the company may be go
ing backward —or at least is stagnating —
a belief strongly supported by McCrory's
inability to increase its net earnings during
the last seven years. But in the vitally
important respects, the company has not
stagnated. Since 1916 its gross business
has increased faster than that of Kress or
Woolworth, and nearly as fast as that of
Kresge ; and it leads all the rest in the rela
tive growth of the number of stores. Mc
Crory is therefore in a fundamentally
sound position, and there are possibilities
of a sharp expansion in net profits, de
pendent upon the capabilities of its man
agement.
All things considered, it is difficult to
imagine McCrory's being worth less than
25 under any circumstances, while there
are good reasons to look forward to seeing
its price much higher one of these days.
It is a good stock for the patient investor,
the kind that usually makes the largest
profits and incidentally isn't worried by day
to day fluctuations.

SOUTHWEST BANKER SUMS UP LOCAL CONDITIONS

The outlook for money and credit in the Southwest together with a local view of for
eign investments is summed up briefly by J. W. Perry, president of the Southwest Na
tional Bank of Commerce, of Kansas City, one of the largest banks west of Chicago. He
says:
"Our territory is in good condition, credits are freely granted, and funds plentifuL The
people of this community know little of the European financing plan and, therefore, will not
be liberal investors in the securities offered.

"The rehabilitation
of our own industries, land buying and payment for Liberty Bonds,
seem to be absorbingour surplus fairly well. On account of the newness of our country
and the development going on around us, we have never been large buyers of outside se
curities."
 Switching in Interborough
The 5% Bonds
following letter from the senior
THEmember of a well-known firm of
Canadian engineers raises some in
teresting questions, not only about Inter-
boroughs, but also in connection with the
idea of ''switching" in general. We, there
fore, reprint it with copy of Mr. Graham's
reply.
Editor of The Magazine of Wail Stkeet:
On page 511 of your July 5 issue it is
pointed out that in the ei'cnt of default on the
7 per cent Interborough notes, "it is evident
that the gain through the proposed exchange
would be very substantial," the point being
made that in the event of the holder of the
7 per cent notes realizing on the collateral be
hind them, namely the 5 per cent bonds, "they
would cost him only 57^4, or 16J4 less than
what he can now obtain for his S per cent
bonds."
I do not see the substantial gain in the
event of default you refer to. My reasoning
is based on the following facts :
Five per cent bonds at present outstanding
$160,585,000, worth as per current price in
article 75, giving a total equity for these
bonds at this price of $120,438^50.
For the security of the 7 per cent notes,
$52,187,000 5 per cent bonds have been
pledged as collateral security. These bonds,
however, are not a part of the outstanding
issue of $160,585,000, but are additional
bonds from the same issue not now in hands
of the public.
In the event of default on the notes there
will then be outstanding of the 5 per cent
bonds, $160,585,000 plus $52,187,000. making
a total of $212,772,000.
Dividing the equity of the 5 per cent bonds
as above, namely, $120,438,750 by the total
outstanding after the assumed default,
namely, $212,772,000, we find that the equity
for the increased issue of the 5 per cent
bonds is 57, which coincides closely with the
price of 57$i which you mention as a most
favorable cost of the collateral security to
the holder of the then defaulted 7 per cent
notes.
I agree with Mr. Graham that a switch to
the 7 per cent notes is desirable, for it would
appear that the current market quotations for
the notes are figured on a defaulting basis. In
the event, however, of such default occurring,
I fear that the proposed exchange would not
give the very substantial advantage hoped for
by Mr. Graham for the reason fully set forth
above.
I have been very much interested in Mr.
Graham's articles on "switches" in securities
and have indeed profited by his B. & O. vs. C.
& O. switch. The more I think of the matter,
Securities
vs. the 7% Notes
however, the more am I inclined to believe
that the whole merit of switching is a psycho
logical one rather than a financial one.
The psychological advantage which I see is
that a "switch" may overcome the inertia of
an ini'estor and induce him to sell a security
at a loss on a switching basis, which he would
not sell at the same loss on a cash basis. Am
I or am I not correct in this? — Judson F.
Clark.
Your contention in regard to the exchange
of Interborough 5per cent bonds for the 7
per cent notes is apparently based on the idea
that the value of the bonds to be received by
the note-holders in case of default would not
be larger than the present value of the notes
themselves, and that, therefore, nothing would
be gained by the exchange.
It appears to me that you missed the point
of my recommendation. The idea is not that
there is a profit to be made by purchasing the
notes at 88 and then receiving 156 per cent in
5 per cent bonds. It is merely that in such a
contingency the note-holder at 88 is much bet
ter protected than the bond-holder at 71. As
suming your forecast of the value of the 5 per
cent bonds to be correct, the note-holder will
have lost nothing, whereas the bond-holder
would find his security worth 14 points less
than the price at which he could have made
the exchange. This would represent a clear
saving of 14 points by selling the bonds at 71
and buying the notes at 88.
I was very much interested by your com
ment on the general theory of switching. The
impression that you gather that the one issue
should be sold under all circumstances and
the other one purchased, regardless of the
element of exchange, is due to the fact that
writers are usually averse to recommending
exchanges unless they are absolutely convinced
of the superiority of one issue to another. The
is most easily proved by showing that one is
selling too high, while the other is selling too
low.
That the latter is not always the case, how
ever, might be shown by my suggestion some
time ago that American Agricultural Chemical
at par be exchanged for Virginia Carolina
Chemical at 54. While both issues were at
tractive investments and both advanced sub
sequently, the showing of "V. C." has been
very much the better.
You are absolutely correct in your idea that
by suggesting a switch the inertia of an in
vestor can be overcome much better than by
merely advising him to dispose of undesirable
holdings at less than cost price. The investor
rarely does the latter, and this is one of the
chief reasons for the heavy losses so often
ultimately sustained. I trust the foregoing will
answer your queries.— Benjamin Graham.
963
 r
-
-
-

------

-
-
---------------
-
-

-
-
- - - --- - - -

-
-
-- -- -- - -

--
-

-
- - - --- * **

\O
ch
*
Investors' Indicator of Public Utiliti

to
on

a
NOTE–The minus sign (–) before figures below, indicates DEFICIT for the year equal the per cent stock given. Additions and betterments
of

of
improvements the

in
are included earnings given, wherever, distinguishable from ordinary expenses maintenance, since earnings, invested,
its
by

inbe

of
a

position

of
property increase the equity the stockholders and therefore render the stock more valuable. The value stock cannot judged
as
as
A

be
amount.

as
with view.tº, stability and growth well

in
the talle ONLY. Earnings for successive years, given should carefully examined,

its

in
is
poor stock may sometimes stand up well this table because price low compared with latest available earnings.
Earnings
Last Fisc. INTENDING PURCHASERS should read all
Year
|-3 T.

Yield notes carefully, and consult “Financial News

all

Present on Dollars Earned Per Share: on and Comment.” We gladly answer inqui
tr;
of

High Low Div. Recent —— –––. Recent Recent ries yearly subscribers.
.
.

to
-
-

1916 Date Rate Price 1915. 1916. 1917. 1918. Price. Price. ---

-
-
--
-
V

55

..
Ohio Cities Gas. 144 3174 29.09 1.92 2.30 8.70 30.32 55.12 Qil developments dominant. Big equities.
2

89 1878 0.00 7.40 7.53 6.97 25 22.08 Fare, increases bitterly opposed.
Brooklyn, Rapid Transit.
its

-
-
-
11.70 9.57 10.18 12.96 .73 60

&
Am. W. W. El., 1st pſd - 17.71 Holds, own, despite high, cost handicap.

16O. 7

-
-
-
14

&
.. ..
Rep. Ry. Lt. com. 11.70 2.97 3.55 5.88 –2.37 16.92 New Cleveland, franchise plan helps: Q
3.15 5.03 3.70 6.7th 43
3: > >

Standard Gas Elec., pfd. #8 18.20 15.58 Going into “oil” and paying back dividends.
h

4
15.14

-
- - - -
-
- - -- -
6.51 43

....
...
4.41 8.68

&&
... 9.30 2.41 improved
-

United Light Ry., com.

t

- N
-

##" --- jºr ...

-
- º: K
s.s.,
3.3s
i""

44;
2,

0.00
3.06

Ry.
14.08 “...","ä", "ºº"

In
vºted mid.......... 39%. 10%
z

105% 76 8.10 10.19 13.59 14.40 11.64 86 13.53 Business, shows constant expansion.
Western Union Telegraph......
Cities Service, com. 478 100% 1.26 15.27 36.74 60.73 61.67 475 12.98 Qil developments still going forward. tr;

tº
Detroit United Railway. 128 80 7.80 15.69 23.05 14.50 12.96 102 12.70 Suffers from high labor costs.
Phila. Co., com. 47%. 21%. 17.10 4.44 5.14 6.22 4.26 35 12.16 Going into ‘oil.” Good showing consistent.
O

&
Columbia Gas Elec. 54 25.7% 6.30 .76 2.31 5.87 6.40 64 10.00 -
t

-
º§

Hiß º: *º .." 'ri

sº

Montana Power, com. 115 64 7.70 3.73 8.52 7.08 6.19 65 9.52 ºutailed
North American Co. 76 39 8.80 6.06 7.26 6.05 5.38 57 9.43 Rate increases have helped considerably.
8.81 100

........ .. .. ..
:

9.28

.. .
.. ... . ... ...
........ .. ... ..
Brooklyn Edison 131 87 8.00 11.66 11.88 9.28 Gross increasing. Net, well maintained.
7 $686 4 5 5 8 0
9.06
-

Lacleue Gas Lt. com......... 104 50 0.00 9.24 11.21 8.58 4.53 50 increases badly
>

"Sºlº",

-
-
-
-
rate

º º

-
-
-
-
-
8

&
9.93 101
sº

Amer. Tel. Tel..... 124% 90% 7.90 9.09 9.61 9.65 ſºlº uncertain New financins
-
-

"

...
t
&

W.

Kern River require-

7.55 89 8.48
| ,|

So. Cal. Edison, com 89 73 7.90 6.79 8.61 5.05 sºyalley

of

.
Detroit Edison 149 98 7.00 13.70 14.61 10.28 9.08 115 7.89 Conservative handling resources helps.
7 86

70 5.28 5.36 6.35 5.87 75 7.84 kept

.....
Mackay Co., com. 91 8.00
t 3

-
ydro-electric
º: developments big. Stron gly 3.

&
9.10 5.20 7.64
Cortº 7.40 10.48 5.57 68
º º
}
:0

Pacific Gas 75%. 2834 fortified working capital.

Elec.
a

-
-

-
-
-

4.21 6.37 4.57 -- 64

&
Amer. Power Light, com. --- 6.30 7.14 High operating costs factor. tr;
5 46

7.92 6.10 86
.. .... ... .... 82 7.88 11.77
.. .... .... ...
. ..... . .J.
137 7.00
-

Pub. Serv. Corp., N. 7.09 Zoning plan helps company and user.
tr;

&
H

14
ass
*

220

Am Lt. Trac., com..........

is

to
as

durins
...
...
4s

2.62 209s {*:::::::::::: *ful

*
a

Cons. Gas of N. Y.
.. 145 76% 7.20 9.29 8.99 7.14 5.70 96 5.93 High operating costs severe handicap.
70

....

&
2.00
....
...
Pac. Tel. Tel., com. 44 17 0.00 0.56 1.25 1.79 38 5.26 Hºlding own despite handicaps.
in

as
|

produce
90

Twin city Rapid Transit, com.. 39% 0.00 6,83 9.22 6.04 2.19 4.87 "..."." "is"
--- 0.00 3.83 5.35 7.18 –0.62
gº,

Amer. Pub. Util., com.

:

ſº winot. Dam comple

0

–0.67
&
0.00 7.42 8.80 5.77 27
.. .

Comm. Pr. Ry. Lt., com. 0.00 Earnings show upward trend.
-
-
- -

2.11 0.00
.. ...
..

3.22 5.91 68
a

Northern States Power, com. 0.00 0.00 Aggressive expansion program feature.
&
as

diminishins through post

11s

People's Gas Lt. Coke........ 000 s.39 s.39 4.44 –3.5s 0.00 Wººl
0.

0.
4.
*

as is

o 0 0 0o
- -

The Art of Hedging

Maximum Profits and Minimum Losses—Convertible Issues as a Trading Medium–
Safety First Operations in a Dangerous Market

By BENJAMIN GRAHAM

EBSTER defines “to hedge” as “to is evident that the bonds will not suffer as bonds about 4 point higher than the stock.
protect oneself from loss by bet severely, because their investment rating The supply of bonds was forthcoming
ting on both sides.” Hedging as alone assures them of a certain minimum from specialists who had been able to
a commercial operation is practiced quite value. In actual fact, at this writing the sell stock on rallies, above the correspond
generally among flour millers and cotton stock is down to 83, while the bonds hold ing price of the five per cent bonds, and
spinners. While the details thereof might firm around 94. We could therefore undo who were about to present the bonds for
appear rather complicated, in essence it our little operation by selling the bonds conversion. They of course were glad
consists of selling “futures” short at the for $9,400 and buying back our stock far enough to obtain an extra 4 point profit
time the staple is purchased, so as to $8,300. This would show a net credit of by buying the stock and selling the bonds
guard against fluctuations in price during $1,100, from which expenses and the instead of converting. As it turned out,
the period of manufacture. original difference of $25 are to be de the trader who took over the bonds on
In the securities market a form of hedg ducted, still leaving a net profit of over this basis would have fared better than
ing very common on foreign Stock Ex $1,000. the original owner, because on the subse
changes is the use of puts or calls against Here then was a venture which under quent break he could have bought back
long or short stock respectively. If a man the most unfavorable conditions could the stock and sold his bonds at a five
purchases one hundred shares of U. S. have shown a maximum loss of only points difference. This would have meant
Steel at 106, for instance, he might limit $56.50, but contained by no means remote about 4% points “easy money” for a
his possible loss by buying also a put possibilities of a thousand dollar profit. shrewd hedger.
good for thirty days at 102. This means Not a bad chance, was it? Add further Even experienced “hedge artists” often
that however low the stock may break, he that it required little capital (as the forego the chance of excellent profits be
has the right to sell it at any time within money really tied up was negligible), and cause they wait in vain for the possibility
the next month at 102, so that his maxi that the carrying charge was insignificant of loss to be reduced to too small a figure.
mum loss under the worst possible condi since the bond interest almost offset the For example, in the ill-fated boom of
tions would be $400 plus the cost of the dividends on the stock. How much safer Allied Packers stock last October, it sold
put (and commissions). This arrange this is than the ordinary market com at 66, while the convertible 6 per cent
ment is often preferable to a stop loss mitment is apparent when we consider bonds were quoted at 91. Each $1,000
order, because it guards against loss that the man who bought the 100 Lacka bond was convertible at any time for
through a temporary fluction. Should wanna at par is out $1,700, if he still holds thirteen shares of stock, so if bought at
Steel drop to 101% and then rally to 115 it; while on the other hand if Republic 91 they constituted a call on the stock at
during the month, the man with a stop had been sold short when it reached par, $70 per share. The purchase of eight
loss order at 102 would have been forced the speculator would soon afterwards bonds at that time, together with the sale
out at his limit, while a put would have have faced a forty point loss. of 100 shares of stock at 66, would have
carried him safely through to a large This is a good opportunity to point out subsequently shown no less than $3,200
ultimate profit. the technical difference between hedging, profit, for the stock sold down to 26 with
The purpose of this article is not, how as described above, and arbitraging. An the bonds at 82. On the other hand, no
ever, to discuss either hedging in com arbitrage is supposed to assure a definite matter how much higher the stock might
modities or the use of privileges in trad profit within a fairly definite time. If, for have gone, the loss on this deal was
ing, although both might well deserve ex instance, it had been possible (as no doubt absolutely limited to $400—the difference
tended treatment. We intend to discuss a it was for the bond specialist) to buy between 66 and 70. In this case, however,
similar class of market operations, which Lack. Steel convert. 5s at par, and simul the temptation was to buy the bonds, and
is little understood or appreciated even taneously sell the stock at 100%, such to wait for the stock to go a little higher
by professionals, and which nevertheless an operation would have constituted a real before selling. Alas! the wait would have
affords the opportunity of excellent profits arbitrage. For the bonds could have im been in vain.
with very moderate risk. mediately been converted and the new
Hedging Between Bonds Preferred Stocks
and Stocks stock delivered, with a $25 profit.
What we have in mind is the simul The arbitrageur always expects to ex Convertible preferred stocks present the
taneous purchase of one security and sale change the security he buys for the one he same opportunities for hedging operations
of another, because the first is relatively sells; the hedger will only do so if he as do the bonds. A current example is
cheaper than the second. Where the must, and usually suffers a small loss Gilliland preferred,
Oil which is ex
security bought sells lower than the one thereby. His profit is found in selling out changeable at any time for twice as many
sold, there must be good reason for be what he buys and buying in what he sells shares of common. On January 15, the
lieving that the price of the two will come at a more favorable difference, or preferred could have been bought at 100
closer together, and conversely for the “spread,” then at the beginning of the and the common sold at 49. The maxi
opposite circumstance. operation. The arbitrageur may of course mum loss, in case of a great advance of
Without further tarrying on the general delay converting in the hope of undoing the common, would have been two points
theory involved, let us hasten to a concrete his operation to better advantage in the per share of preferred, which in fact
example. On November 2, last, let us market. He then becomes a hedger, but would have been made up by the $2
say, we purchase $10,000 of Lackawanna with an assured minimum profit instead of dividend coming off the latter on February
Steel convertible 5 per cent bonds, due merely a miximum loss. 2. As it happened, two days later the
1950, and at the same time sell short 100 The relation of these two operations is common was down to 43, while the pre
shares of Lackawanna Steel stock at 100. very prettily shown by the Southern ferred was actually higher at 101. Thus
Should Lackawanna continue its head Pacific situation last October. At that on a hundred shares of preferred and two
long advance, we might be forced to con time any one could have sold a large hundred common, there was a chance for
vert our bonds into stock, in order to quantity of stock and replaced it by the $1,300 gross profit in two days, with
make delivery of the shares we sold. In convertible 5 per cent bonds at apparently negligible risk.
this case our operation would have proved % point cheaper. In reality, however, the If someone with a little nerve had sold
unsuccessful—we should have lost $25 and adjustment of accrued dividend and in Pierce Arrow at 99 against a purchase of
commissions. But if the stock declines it terest on conversion would have made the the preferred at 110, his courage would

452 THE MAGAZINE OF WALL STREET

 have been well rewarded. Yet his very carry more attractive option, pro Stamped.” The man who exchanged from

in
a
greatest loss could not have exceeded portion cost, than the former into the latter would now be

to
their does the
eleven points, since the preferred is ex ordinary 30-day privilege. ahead exactly ten points, since the Stock
changeablefor common, share for share– the types hedging heretofore con Exchange has abolished the stamp dis

of
In
andin addition had the advantage of an

as

so
always position crimination entirely these bonds,

in

to
sidered the trader

is

a
8 per cent dividend against nothing obtain the security he has sold, that they all have exactly the same value.

to

at
on

a
of the

common. There today fixed price—either through conversion or The latter point in

to
made order

in
difference

is
is

in by
dicate that the three operations

of
about thirty-five points between the subscription. Yet one often justified switch

is
ing, arbitraging and hedging all have very
so

two issues, that this not especially selling one security against purchase

of
risky operation would now show profit another, with no other safeguard than the much common, and that we may easily

in
a
well over twenty points. definite knowledge that the two prices are pass from one They are all

to
of

another.
Rights far out of line. based upon exact information and analy
to

to
subscribe new stock can
sis, and their success usually entirely
be

29

R.
profitable
of
On December last,

T.

is
B.
sometimes made the basis certificates
independent of market movements. At

5,
hedging operations, especially when the deposit sold while the undeposited

of

at
the present time, when the outlook so

is
selling close the subscription stock was quoted above 10.
to

stock was true

It
is

clouded with uncertainty, the trader might

be
price. such cases the rights can that the deposit agreement made with
In

well turn his attention for

to
bought and the stock sold against them, drawal unusually difficult, but this was an while the

a
with the idea that should the shares fall entirely inadequate reason for the free unspectacular, but safely profitable, busi
hedging.

of
below the subscription figure the rights stock selling twice the price ness

of
at
the
can then be discarded and the stock certificates. The two represented exactly
bought profit. Unfortunately for the same property rights, and further
at
in

such schemes, inside manipulation usually there was enough stock Prices Move Upward

of
the control

it in
up

keep the price most probably

of

the issue until the

to
the committee enable
rights expire, stimulate sub force the undeposited shares accept on Vienna Exchange
to

to

to
order
in

scriptions. The severe declines, as their reorganization plan, when finally

in

the
Sinclair Oil and Pan American Hence the investor was running IENNA, The up

–
of

case adopted. December, 1919.

Petroleum, usually come very little risk buying 200 prices on the Vienna

of
little after the

of T.
R.
B.
in ward trend
a

is,

expiration the rights,

of

and selling 100 shares Bourse has not ceased. While the
at

that too late certificates

5

the hedger. free stock against them Tem

as
danger general economic collapse

of of
to

at
for value Studebaker and 10%.

a
Saxon Motors are recent instances of the porarily the spread might have widened result the peace treaty and the con

a
stock falling below the offering price

an
independent German-Aus
of

of
perhaps, but ultimately the two prices tinuance
the new stock before the last day for approach each other. The trian state draws nearer and nearer, while
to

were bound
subscribing. factories closing down be

of
as
latter happened very quickly effect,
in
the number
few days later the certificates had ad coal increases daily, and

of

of
cause lack
a

The “Straddle” vanced to while the stock remained at while the government,

at

to
loss how
7

a
Today the trader could sell his pay for food, deciding

to
10%. sell the art

is
Perhaps the best way operate with
to

10

gain $1,000, the former Hapsburg mon

of

of
at

certificates with treasures

a

rights straddle, play the

to

to

that
is

is

archs, the stocks listed on the Bourse con

of
at

market for both an advance and break. and cover his stock 13%—a loss
a

only $300—showing an excellent net profit

10
100%, and

to

to
tinue advance from
by

selling only half the

be

This can done

an
very modest commitment. some cases even more. To give idea
of in

the ‘rights pur

on
a

stock corresponding
to

very similar opportunity was pre the movements during the last month.
A

chased. very important here that

It
is

sented last November, when Interborough have pictured the following table:
be

the price the rights very low, and

of

Metropolitan 4%.s broke 1334, while the

to

they still have substantial period

to

run.
a

preferred stock was selling 12%. Con

at

good current example

of

that Simms
is
A

Price Price

in

in
sidering the priority lien “enjoyed” by Kronen, Kronen,
of

Petroleum. On January 15, when the news

only 1% points be Decem-Novem- Increase
the bonds, spread
of

salt water in the Homer Field was

of

Name of Stock. ber. ber. in 96

published, this stock declined 47, and tween the two issues was ridiculously
to

Zivnostenska Banka. 1475 687 115

This has now widened six points
to

small.
the rights The latter entitled the Pfl.
to
1.

Southern Rwy. 669 447 50

holder to obtain one new share of Simms (which still insufficient), but which
is

Rima muranyer...... 1480 1082 37

nevertheless would allow handsome
on

for each two rights, payment $47.50,

a 2. of

Rouston 1140 605 90

.
.
.
.
.
..
.
.
.
.
.

the privilege expiring February profit the man who bought the bonds
to

Since Skoda 1210 826 46

1334 and 12% re
.
.
.
.
..
.
.
.
.
.
.
.
.

highly
at

the oil stocks and sold the stock

in

were then Danube Steamship... 2895 2.238 30

At the present time one
or

speculative position, Simms Petroleum spectively.

Frederick's Works. 3370 2200 53
,

held possibilities big further two of the Missouri, Kansas Texas

of

&

either Prague Iron.... 30

a

3820 2998
bond issues—the St. Louis Division 4s, for
.
.
.
.
.
or

slump radical recovery within the 70

Veitsch Mang. WRs.
a

5100 3000
next two weeks. appeared good idea, example, can be bought only few points
It

Schoell Sugar 1920 1475 30

a

re
.
.
.
.
.
.

per cent non-cumulative

to

therefore, purchase say 400 Simms above the

4

ferred stock; while the large

of

view
in
1,

rights and sell only 100 shares

of
at

interest and their prior lien, The main reason for this wild advance,
of

the stock against them 47. The trader accruals

at

right
be

they should selling previous com

of

in
at

position much which was described

to

would then have been

in

a
a
a

make profit from wide move either wider spread. munication to THE MAGAZINE of WALL
to in
a

STREET, lies the fact that people seek

in

direction. Had the stock fallen 40, for

Discrepancies
of

Are Common rid themselves the Krone. “Die

to

example, he could have covered his 100

Krone,”
is as

Flucht vor der Professor

gain $650, and thrown
al
of

shares with Discrepancies

of

this kind occur

a

in

it,

away his rights, which cost him $400– Schumpeter

to

calls
and difficult
it

most endless variety and most

of

them
leaving him still over $200 the good. see how Austria will emerge from this
to

advantage. But
in
to
of

can be availed
recovery 55, however (which hopeless chaotic situation.
to

On many cases the outside trader cannot con

a

subsequently happened) he would have veniently go short

of

the overvalued
his rights replace his short
of

necessary ingredient
of
to

used 200 bor Patience

is

security, because the difficulty

of

of

stock, and disposed genius-DISRAELI.

–
the other 200 rights
of

rowing for an indefinite period and the

nice profit. The reader can easily
at

interest problem. Nevertheless those who

a

calculate that in this case he would have

are holding the issue which selling too But what minutes. Count them by sen
is

made $300, less commissions. high have every reason the world for sation, and not by calendars, and each
in

involving
of

Operations kind, switching into the cheaper security. day, and the race life.—
In

this moment
is
a

rights, are very similar puts DisRAELI.

of

the very first article the present writer

of
to

the use
A

and calls for hedging purposes alluded

to

appear THE MAGAZINE of WALL

to

in

the beginning Rights STREET (in September, 1917), he pointed suc

of

The disappointment
of of of
to at

this article. manhood

subscribe are neither more nor less out that there was no adequate reason for youth: let
us
to

ceeds the delusion

by

than calls issued the company. But the ten point spread then existing between hope that the heritage old age not
is

practically speaking, these rights usually Japanese 4%s, “plain” and “German despair.—DISRAELI.

FEBRUARY
7,

for 1920 453

 The Two “American Ships”
Extraordinary Exhibition of American Shipbuilding of Cleveland—Twofold Interest of Amer
ican Ship & Commerce Corporation—Two Leading Shipbuilding Enterprises Compared

By BENJAMIN GRAHAM
' HE potent influence of advertising Commerce owned 51%% of the total fore that each share of Am. Ship & Com
upon demand is clearly shown by Cramp shares outstanding. Since then it merce may be fairly considered as repre
the wide difference in popularity be has acquired additional shares in ex senting one-fifth share of Cramp. The
tween two issues closely related in both change for its own stock, of which 511,000 present price of 28 for the former is there
name and activity—to wit, the American shares are now issued. The original offer fore equivalent to 140 for the latter—as
Shipbuilding Company and the American to Cramp stockholders was five shares of ‘against 120, the last sale of Am. Ship
Ship & Commerce Corporation. As a re Am. Ship & Commerce for one of Cramp. building in Chicago.
sult of the very effective publicity attend— If we assume that the 50,000 Am. Ship 81 Wm. Cramp & Son is a very old ship
ing the launching of the latter enterprise Commerce shares issued since Aug. 21 building concern of Philadelphia, now
last July, its general features are fairly were exchanged on the same basis, then capitalized at $6,098,000 of stock, all one
well familiar to both traders and investors. the company should now hold $4,135.000 class, par $100. and $4,473,000 in bonds.
But what percentage of our readers know par value of Cramp stock, or about 68% American Shipbuilding Co. was formed
even of the existence of the American of the total. in 1899, and owns construction and repair
Shipbuilding Co. of the Great Lakes? And The first point to make clear is there plants at eight different points on the
what percentage of this percentage are
aware that its shares are listed on the
New York Stock Exchange, as well as in
Cleveland and Chicago?
Considering the almost complete igno—
rance of the general public in regard to this
company, it might be supposed that it is
a small and unimportant proposition, with
little in its record to attract the investor's
attention. Nothing could be further from
the truth. In its last fiscal year this con
cern turned out 109 ships of 422,800 gross
tons, which alone is considerably larger
than the pre-war output of the entire
country. The dividend record, the income
- statements, and the balance sheets of
American Shipbuilding in recent years
rank among the most remarkable exhibits
of the industrial enterprises of the na
tion. And yet its shares were selling only
sporadically and in small lots in Chicago,
while the public was growing widely ex
cited over Cramp Ship 8: Engine in Phila
delphia and American Ship & Commerce
in New York (the two being closely re
lated as will soon be explained). Which
of these issues was most worthy of mar
ket enthusiasm should appear from the
following comparison.
Amer. Ship. 8: Com. Assets
But first it is necessary to outline briefly
the nature of the assets of American Ship
& Commerce. According to the initial
balance sheet, dated Aug. 21, 1919, it own
ed $3,l35,400 par value of the stock of the
Wm. Cramp Ship & Engine Co. (carried
at $5,979,200, or $191 per share), and
76,000 "B" shares of the Kerr Navigation
Co. (new). For the latter it had con
tracted to pay $100 per share, for which
it held the requisite cash and a surplus of
$868,000. Its only liability was 461,615
shares of no par, which accordingly had a
book value of $31.50 per share. The in
terests of the new company are therefore
twofold, divided fairly equally between its
holdings of Wm. Cramp, a shipbuilding
concern, and Kerr Navigation, an operat
ing enterprise. The value of the latter
will be discussed below, but for purposes
of comparison with Am. Shipbuilding Co. A GREAT LAKES RECORD
of Cleveland, it is naturally the Cramp
holdings of Am. Ship & Commerce which American Shipbuilding Company of the Great Lakes in its last fiscal year
invite our chief attention. turned out gross tonnage considerably larger than the pre-war output of
the entire country
At the time of listing, Am. Ship &
291
for JANUARY 10, 1920
 previous eight months, we arrive at the
Z50 comparative earnings on the common '12 '15 '14 15 '16 '11 '18 '19
shares shown in the appended Graph. In 5‘51910'11

@
the last three fiscal years Am. Shipbuild
AMLRIClN-SHIPBUHapl
Comjtocktarrurr A
PRlCERlllGE OF STOCK ing earned after all deduction an aggre
Z00 gate of $167.70 for its common stock,

llll
Amer.Shipbuilding
Wm. Cramp. compared with $77.70 for Wm. Cramp.

I
The Great Lakes Company thus exhibits

7.5
an earning power more than twice as
150
large as its Philadelphia competitor.
But the superiority of Am. Shipbuild 7.0
ing becomes much more remarkable when
100 the figures in the annual reports are ana
lyzed, as done in Table II. Strange to

is
say, the adjusted statements show exactly
the same earnings for the common in
1918 and 1919, before deducting mainten
ance, depreciation and taxes. In both
years these profits reached the astound
ing total of $18,480,000, or over $243 per
'15

share. The much smaller final surplus in

16

'll

1913 '14 '18 '19“,

.— 1919 due to much more liberal charges

is
Years ended Apr. 30. .s'a'
for upkeep and amortization, these aggre
Great Lakes. Its capitalization consists gating practically $100 per share, against terprise with total capitalization of

a
of $7,600,000 common stock and $7,900,000
$57.50 in 1918. The tax deduction alone $15,500,000, reporting aggregate assets of
7% non-cumulative preferred, par value 1919 exceeded $96, or 80% of the
in

$152,000,000. Of this, $23,638,0(X) or $231

of both $100, with no bonds. present market price. While the exact per share of common held in cash and

is
In comparing Cramp at 140 with Am. amount of taxes reserved by Wm. Cramp Liberty Bonds alone, against which there
Shipbuilding at 120, the first item'that not stated in the report, the balance
is

are current liabilities of only $2,272,111),

stands out in favor of the Great Lakes sheet figures show to be much smaller tax reserve of $9,618,000. The pre
it
and

a
company its far more liberal dividend than in the case of Am. Shipbuilding, and
is

dominant items in this statement are on

the depreciation charges are certainly in the assets side $100,431,000 of work in
significant in comparison. In the last two
TABLE process, and on the liabilities side $107,
I

. fiscal years these have averaged only 337,000 advanced by the Government.
Dividend Record Since 1899
$360,000, or $6 per share, against $6,300, These figures indicate first the enormous
Am. Shipbldg. Cramp
1899-1901. . . . . . . . . . . . . . . — 000, or $43% per share, for the Great scale upon which the operations of the
$5
.

1902. . . . . . . . . . . . . . . . . . . . . $1 3% Lakes company. company have been conducted, and sec

.

1903.. . . . . . . . . . . . . . . . . . . . —— The most extraordinary feature of all ondly that the entire financial burden in
3
.

1904.. . . . . . . . . . . . . . . . . . . — —
.

1905. . . . . . . . . . . . . . . . . . . . ——
4 7 2 6 2
.

1906-1907. . . . . . . . . . . . . . . . — TABLE II—ANALYSIS OF INCOME ACCOUNT AMERICAN SHIPBLDC, 1916-1919

. .

1908-1909. . ... . .. —
Figures Given as Per Share of Common
.

.
.
.
.

1910.. . . . . . . . .. .. .. .. . —
.

1911.. . . . . . . . . . . . . . . . . . . — Year ended June 30 1919 1918 1917 1916 .

.

1912-1916. . . . . . . . . . -— ~— Net for Common Before Taxes,

.
.
.
.

.
.
.

1917. . . . . . . . . . . . . . . . . . . . maintenance and depreciation . . . . . . . $243.3 $243.3 $60.8 811.4

7%
.
.
6 3
.

1918.. . . . . . . . . . . . Taxes . . . . . . . . . . . .. .. .. .. .. .. . .. .. . 96.2 88.1 20.3 1.9

. . . . 27
.
.

.
. .
.
.
.
.

1919. . . . . . . . . . . . . . . . . Maintenance 47.4 22.7 9.9 4.8

16 .6
.
.

Depreciation . . . . . . . . . . . . . . . . 52.5 34.7 7.9 4.3

.
.
.

.
.
.
.
.
.
.

policy. starts 1920 with Total deductions

It

quarterly .. . . . . . . . . . . . . . . . . $196.1 $145.5 $38.1 $11.0

a

dividend of $4, payable Feb. which rate

1,

Final balance for Common . . . . . . . . .

.4
was maintained throughout 1919, in the $47.2 $97.8 $22.7
form of 7% regular and 9% extra. In
1918 disbursed $27 per share, of which
it

in connection with Am. Shipbuilding tohnection therewith

is

15% was in 3%% Liberty Bonds. Cramp, has been assumed by

certainly its balance sheet as appeared the United States.
it

on the other hand, has only paid $6 per

on June 30 last. This given in con
is

share during these past two years. Another important entry appears under
densed form in Table III. Here an en
is

Of course the dividend rate alone may the title of “\Var Plant to be Amortized,"
be very misleading criterion of relative carried at $8,641,000, against which re
a
a

value, unless fairly reflects the com '11 '13 'u 115 ‘16 '17 '1a '19 serve of $4,500,000 has already been set
it

“715191011 up out of profits. This indicates that the

parative earning power. In analyzing the
income account of the two companies, the company will close its Government busi
WM. CRkMP' ness with substantial additions to its
statistician must make important adjust '
(om.§lotk 1d' plant, the value of which will not be car
ments of the official figures, because of
subsequent revisions made through the ried in its balance sheet at all, their cost
75

surplus account in the next year’s report. having been absorbed in the construction
The fiscal years of both companies do not expense of the ships themselves.
correspond with the calendar year, that of Considering that Wm. Cramp has en
Cramp ending April 30, and that of Am. gaged in very similar activities, one might
Shipbuilding June 30. Hence, consider make similar expansion in its balance
a

50
able additions to the tax reserves had to sheet. Quite the contrary, the latter
is

be made, as required by Revenue Acts remarkable rather for the very moderate
passed after the annual reports were pub increase in both the plant and materials
lished. These changes are stated clearly account. In place of $100,000.“ of work
in the reports of the Am. Shipbuilding process, the only corresponding
in

7.5 item in
Co. but we have to dig them out of the the Cramp statement “Materials and
is

balance sheet figures in the case of Cramp. Supplies" carried at but $2,726,011).
American Shipbuilding far more
is
a

Comparative Earnings
extensive proposition than Wm.
is

After making these tax adjustments, Cramp. The latter carries its property
and estimating the Jam-April, 1919. profits Years ended June '50. wJ account at $15,788,000 against $8,140,000.
of Cramp at the same rate as for the (Continued on page 322.)
292 THE MAGAZINE OF WALL STREET
 The Two “American Ships”
(Continuud from Page 292.)

for the Cleveland company; yet American

Shipbuilding owns certainly much the
larger and more valuable facilities. An
analysis of the fixed property as given
in the Stock Exchange listing application
furnishes the following results:
7
Viim.
American
Cramp,
Shipbldg.,
Oct.,l9l7. Sept.,1919.
Number of plants... 8 3
Number of building
berths . . . . . . . . . . .. l3 8
Total length . . . . . . .. 5,714 ft. 5,000 ft.
Number of drydocks. 15 1
Number of wet basins .. 3

The difference in earning capacity be

comes even clearer when the output of
the past five years is considered. Cramp
Shipbuilding does not state the tonnage
of the vessels it constructs, but in num
ber of ships completed the two companies
compare as follows:

shares on especially favorable terms the mated by the writer. There will be out
American William holding company may have helped out its standing 40,000 shares of “A” stock, with
Year Shipbuilding. Cramp. apparently too expensive investment in out par, but entitled to a prior dividend of
1918-19 . ......... 109 21 The property of the Kerr Com
Cramp. $7 per annum, and therefore equivalent to
1917-18 . ......... 45 15 pany will consist of 50,000 deadweight a $4,000,000 preferred issue; also 111,000
1916-17 . ......... 31 7 tons of ships, eight in number, valued on shares of "B" or common stock, of which
1915-16 . ......... 4 9 Jan. 1 last at $3,900,000, and about $9, American Ship 81 Commerce owns 76,000,
1914-15 . ......... 1 6 000,000 in cash, of which $7,600,000 is be or 68%. Although the latter company
ing raised through the sale of stock and pays $100 per share for these holdings,
On 7157: so, 1019,77krnericwz; Shipbuild; the balance represents the net earnings of their book value figures out at only $80
ing still had uncompleted orders for 63 the predecessor company up to Aug. 1, per share.
vessels, more than the entire output of 1919, less accrued taxes as roughly esti For the seven months ended July 31,
19l9, gross receipts of the Kerr Com
TABLE III—BALANCE SHEET AMERICAN SHIPBUILDING CO, JUNE 30, 1919 pany were at the annual rate of $6,500,
Assets Liabilities 000, compared with $14,840,000 in 1918.
Plant . . . . . . . . . . . . . . . . . . . . . . . $8,141,000 Preferred stock . . . . . . . . . . . . . . $7,900,000 Net before taxes and special amortization
Good will . . . . . . . . . . . . . . . . . . . 5,492,000 Common stock .. . . . . . . . . . . . . . 7,600,000 shows a relatively larger shrinkage, the
Cash and Liberty Bonds . . . . . . 23,638,000 Current liabilities . . . . . . . . . . . . 2,772,000 1919 figures being at the rate of $3,672,
Other current assets . . . . . . . . .. 5,547,000 Advanced by Government.. . . . 107,337,000 000, for the year, against $l0,079,000, a
Govt. contracts in process... . 100,431,000 Reserve for taxes. . . . . . . . . . . . . 9,618,000 Assuming
decrease of nearly two-thirds.
War plants . . . . . . . . . . . . . . . . . . 8,641,000 Reserve for amortization. . . . . 4,500,000
a deduction of say $1,000,000 for war
(To be amortized) . . . . . . . . . . Miscellaneous reserves . . . . . . . . 1,000,000
.. . . . . . . . . . . . . . 694,000 Surplus . . . . . . . . . . . . . . . . . . . . . 11,857,000 taxes, the interest of American Ship &
Miscellaneous
Commerce in these profits would amount
$152,584,000 $152,584,000 to about $1,600,000, or $5.25 per share for
the stock issued to acquire this subsid
iary. These earnings are satisfactory
William Cramp during the war period.
enough on the present market price of
So much for the relative merits of
American Ship, especially since the Kerr
these two shipbuilding companies. All
Navigation Co. has a large cash balance
the facts given above go to show that
available for new investments. The real
while the outbreak of the war found both
question, however, is whether this rate of
concerns with very medioere earning
earnings can be maintained in the future.
power (Cramp being in somewhat better
and of this there is at least room for
shape), American Shipbuilding has since
doubt.
forged ahead at a rate beside which
Cramp appears to have practically stood To sum up, American Ship 8: Com
still. After the war was over and the merce is about 40% William Cramp and
cream had been skimmed from the ship 60% Kerr Navigation. Whether the prof
building industry, large financial interests its of the latter interest will fully justify
succeeded in doubling the price of the its cost it is hard to say; but it is cer
less prosperous enterprise, while the tain that the price paid for the William
really extraordinary record of the Great Cramp shares was far too high as com
Lakes company has been virtually neg pared with the market quotations at that
time for American Shipbuilding Co. The
lected.
latter company would seem to have
It is time now to turn to the other
reaped such enormous profits in the re
asset of the American Ship & Commerce CUTTING AWAY METAL
Corp, namely the 76,000 shares of the cent past as to be worth substantially
An acetylene torch is used in cutting
Kerr Navigation Co. “B” stock, in order used in ship construction. more than its current price, without re
the plates
to determine whether by acquiring these This illustrates the process _ gard to future developments.

322
THE MAGAZINE OF WALL STREET
value of collateral shall be maintained at Quality of Security closed at 49%, a difference of % of a
125% of the par value of these notes. The point. The holder of a divisional four
present market value of the Reading col— Of the eight bonds described in the has a reasonable degree of assurance that
lateral is about $29.000.000. Omitting con foregoing paragraphs, I believe the his bond will be worth 100 in 39 years,
sideration of the Baltimore & Ohio bond security is ample for five of_ them. In and gradually approach par in the inter
Reading collateral at the case of a reorganization, it might be de val. A holder of the preferred stock has
collateral.
cided to detach and surrender the old no such assurance, and could count on a
market secures these notes up to 83 and
they have sold as low as 81%.
Cincinnati, Hamilton & Dayton. In that profit only by assuming that money rates
event, the holders of the Toledo & Cin will fall materially and Baltimore 8: Ohio
The convertible 4%5 of 1933, originally cinnati divisional fours might have to credit improve likewise. I should cer
debentures, are secured equally with the take the property, but such a course seems tainly not continue to hold the preferred
refunding and general mortgage bonds. unlikely. Unless the improvement in stock if I could make the switch at a cost
They have sold this year as low as 59, at operating conditions is prompt and pro of a point.
which they yield about 10% per cent. nounced, the position of the refunding A few years ago several large railroad
The southwestern division 3%5 of 1925, and general fives and the convertible 4725 systems were confronted with the prob
of which about $45,000,000 is authorized may well be questioned. At the prices lems that now face Baltimore 8: Ohio.
and issued, are secured by a first col— of some of the better secured issues, they Most of them went through reorganiza
lateral lien on 921 miles of road, and are are not the most attractive among Balti tions, with the result that their stocks
outstanding at the rate of $48,859 a mile. more & Ohio’s bonds. The recent advance rest nearer the rails than they used to
The company reserves the right in the re— in Reading common has made the security and nearer than Baltimore8zOhio's stocks
funding and general mortgage to extend for the ten-year notes ample, especially if rest at present. I believe some of them
this issue to July 1, 1950, but such an ex— it be considered that they are selling at a are nearer dividends than Baltimore &
tension, of course, would depend on the big discount for a short-term issue. Ohio common, and among them may be
consent of the holders. The bonds are At the close of the market on March mentioned Pere Marquette, Western
senior to the refunding and general bonds 13, Baltimore & Ohio preferred sold at Pacific and St. Louis-San Francisco. In
and to the convertible 4%5. With only 48%. The stock is paying 4%, and is each instance the switch can be made at
five years to run. they have sold in 1920 limited to 4%. On the same day the a profit of seven to .thirteen points. Vol.
as low as 69%., Toledo 8: Cincinnati divisional fours 25, P. 506.

Which Is the Best Sugar Stock?

Strong Market Position of the Commodity—Comparative Analysis of Five Listed Issues—
Importance of Capitalization Structure and Operating Efficiency
By BENJAMIN GRAHAM

T
HE sugar issues as a class enjoyed
considerably more than the average
advance in the bull movement of
1919, and in the February decline they
suffered less than most other industrials.
This favorable showing has been due pri
marily to the continued advance in the
price of the commodity. During the war
the price of sugar was fixed by the In
ternational Sugar Committee and the
Sugar Equalization Board, which in the
crop years 1917-8 and 1918-9 purchased
the entire Cuban output at 4.60c. and
5.50c. respectively. For the current year
the regulatory policy has been abandoned.
and the price of the staple has advanced
sharply in response to purely natural con‘
ditions. The scarcity of sugar—with
which most of our readers are ruefully
familiar—has been due, first, to the sharp
falling off in European beet sugar pro
duction, secondly, to the shortage of ton
nage for the transportation of the Javan
crop, and thirdly, to a recent substantial
increase in the per capita consumption of
this country.
Cuba—far from the firing line—has been
able to take advantage of this situation
by raising record crops and selling them
at record prices. Producers in Porto
Rico and other islands have enjoyed sim
ilar prosperity. The sugar industry in
the United States, which relies chiefly
on beets, was severely handicapped during
the last crop year by adverse weather.
The securities of eight companies en
gaged in the production of sugar are now
listed on the New York Stock Exchange.
Of these, five operate under substantially
similar conditions and are therefore sus
ceptible of fairly accurate comparison.
These five concerns are Cuba Cane,
Cuban-American, Punta Alegre and Man
ati, located in Cuba; and South Porto
Rico,‘ operating in that island and in
San Domingo.
Of the other three companies the most
important is probably American Sugar
Refining, which is primarily a refining en
terprise, and is interested in raw sugar
production only indirectly, through
stock holdings in six western companies.
United Fruit Co. is the fourth largest fac
tor in the Cuban sugar output, but its
other interests are so numerous—com
prising shipping, fruit growing, livestock,
etc.-- that it cannot well be compared with
sugar producers, pure and simple. Finally
there is the Am. Beet Sugar Co., the only
direct representative of this industry on
the New York Stock Exchange. Since
beet sugar leaves the factory in the re
fined state, neither the selling price nor
the operating costs of this enterprise is
comparable with those of the cane sugar
companies. Moreover the weather con'
ditions affecting the size of the crop may
be entirely different for the two indus
tries—as indeed they were last year.
For the reason stated above, therefore,
it seems advisable to confine this article
to an intensive comparison of the five cane
sugar producers, leaving the remaining
companies—important as they are—out of
the picture.
The 1919 Reports
In the last analysis that stock is cheap
est which will ultimately yield the largest
return on its purchase price. With this
criterion in mind, we begin by examining
the last annual reports of the'five com
panies—all covering the crop year 1918-9
—to determine therefrom the amounts
earned on the respective common shares.
These preliminary results are given in
Table I. Since what we are seeking is
not merely the amount earned per share,
but chiefly the relation of the earnings
to the price, the figures are stated both in
dollars per share and in percentage of
its market value (market price as of March
23, 1920, being used). These profits are
stated, moreover, both before and after
deduction of depreciation and taxes. The
amount charged to expense for deprecia
tion is more or less arbitrary with each
cotnpany, so that the net income can be
made unduly large or small by curtailing
or inflating this item. While there is
nothing voluntary about taxes, the pos
sibility of modification of at least the ex
cess profits levy gives a comparison of
profits before the tax deduction consid
erable potential value.
The table would indicate that, both be
fore and after these two deductions, Cuba
Cane Sugar earned last year the largest
percentage of its present market value.
On the second basis its figure of 16.2%
earned on the price of its common com
pares with 16.1% for South Porto Rico
Sugar, 1.5% for Cuban-American, 14.5%
for Punta Alegre and 8.6% for Manati.
Cuba Cane leads therefore from the
standpoint of 1919 earnings per dollar of
market price of the common stock. Does
this fact make Cuba Cane intrinsically the
most attractive of the five issues? This
question suggests a new consideration—
one much too little regarded in view of
its vital importance—namely the capital
ization structure of the various companies.

for APRIL 3. 1920 799

Cuba Cane Sugar’s good showing is due Cane in earning power into a woeful in final results—which after all are the only
in great measure to the very large pro feriority. It will doubtless be argued that things which really count. But in order
portion of its total securities represented all this is purely academic, since there is to obtain some idea of how these results
by bonds and preferred stock, bearing a no possibility of any such readjustment in are likely to run in the future, it is neces
fixed charge of 7 per cent. Hence the Cuban-American's securities as that im sary to pay some attention to the operat
surplus profits are distributed over a rela agined above. Admitted that the direct ing details reported by the various com
tively small common stock issue, making offer of exchange for senior issues is most panies. The salient features are given in
the earnings per share in prosperous years unlikely, there is still the possibility that Table III, and exhibit a great diversity in
unduly high as compared with other com— Cuban-American might seek to increase costs and profits. The advantage enjoyed
panies having a larger proportion of com the earning power of the present com by Cuban-American in the matter of re
ceipts per pound is clearly due to the fact
TABLE I.—EA.RNED ON COMMON SHARES—1918-'10. that, alone of all five companies, it re
Before Depreciationand Taxes After Depreciationand Taxes fines a portion of its output (about 30%)
Per Share ‘70of Mkt. Price Per Share 7.,of fit. Price
Cuba Cane . . . . . . . . . . . . . ........ $13.11 27.8% $7.76
for which of course it obtains a higher
16.2%
Cuban-Amer. . . . . . . . . . . . . . . . . . . . . 117.66 26.9 67.67 15.0 price. To this cause is also due in part
50. Porto Rico . . . , . .. . . . . . . . . .. 49.10 21.7 86.78 10.1
Punta Alegre . . . . . . . . _. . . . . . . . .. 17.21 20.5 12.21 14.5 its leadership in net earnings per pound
Manati . . . . . . . . . . 17.8 10.00 8.8 produced.
The outstanding feature of Table III is
TABLE 11.—RELATION OF CAPITAL STRUCTURE T0 EARNINGS. the very poor showing in profits per
Present. Capitalization. CommonStock pound made by Cuba Cane. This figure is
V—V~**A“__&b_—q
% of Total Pfd. Stk. 75of Total No. of Shrl. mu. Value '70of Total less than 40% of that reported by
Cuba Cane . 25,-3% “0.000.000 60.5% 500,000 $24,000,000 20.2% Manati, which is also under Rionda man
Cuban-Amer 3.7 7,898,000 14.1 '100,000 45,000,000 81.9
So. Porto Bic . 5.000.000 28.! 56,028 12,850,000 71.8 agement. It must seem strange that the
Punta Alegre . ..... ... ... 228,600 15,792,000 100.0 estates selected as the pick of all Cuba,
Manati . . . . . . . . . . . . . . . 8.500.000 28.2 100,000 11,600,000 76.8
Per- Bent. Earned on Total Capitalization-1818-‘19. entrusted to the foremost sugar men and
Before Depreciation After Depreciation supplied with the best scientific talent,
and Taxel and Taxes
Cuba Cane . . . . . . . . . . . . . . . . . . . . . . . . . .. 10.7% 3,017, should make such a miserable operating
Cuban-Amer. . . . . . . . . . . . . . . . . . . . . . . . . 24.9 14,0 exhibit compared with any of the other
80. Porto Rico . . . . . . . . . . . . . . . . . . .. 17.2 13,4
Punta Alegre . . . - . . . . . . . . . . . . .. 19.9 14,5 companies. No doubt this disappointing
Xanati . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. 18.1 8.2 element was chiefly instrumental in caus
'To be exchangedfor 100,000shares par $10.
ing the Goethals investigation.
Opportunities for detailed comparison
mon stock to total securities. In times of mon by the issuance of new bonds or pre are lacking; for while Cuba Cane is most
depression, however, the margin for the ferred for the acquisition of new prop liberal with its information, this is ren
common shares quickly melts away, and erties. Precisely this course was followed dered useless through the reticence of its
before long even the payments on the by American Steel Foundry. For when competitors. One or two facts are per
senior issues are impaired. This danger its directors realized that it could earn haps worth stating. The cost of marine
is clearly reflected in the lbwer price of more on its common if part of its cap freight last year was about 10%
Cuba Cane preferred compared with the italization were in preferred stock they higher for Cuba Cane than for Manati, al
others. created a preferred issue and acquired though the latter’s plantations are no
the Griffin Wheel Co. with the proceeds. nearer the Atlantic seaboard. The yield
The Capitalization Structure
A thorough discussion of the relation of raw sugar for Cuba Cane was ll.lS%
The significance of this point becomes of capitalization of the total cane ground, against 11.45%
structure to common
immediately apparent when we compare
stock values would require a separate for Cuban-American, showing greater
the earnings of the various companies on manufacturing efficiency for the latter,
article—and a long one at that. We can
their total capitalization instead of merely
not leave it however without drawing at since the gross content of the cane was
on their common stock. This capitaliza
tention to the important influence of this . no larger. Cuba Cane, however, is mak
tion is computed by valuing the bonds and
element upon the exhibit of Punta Alegre ing gradual progress towards obtaining
preferred stock at par, and the common
Sugar. The securities of this company a larger percentage of extraction.
shares at market value. The 1919 re
are all of one class—since the equivalent
sults on this basis are given in Table II, Conclusions
in common stock must be substituted for
and indicate that both before and after
the convertible bonds. For this reason Coming now to a final valuation of the
deductions for taxes and depreciation
it ranks fourth in Table I, from the stand five issues, we must at the outset dis
Cuba Cane now makes the poorest show
point of actual earnings in 1919 on the tinguish Cuba Cane from all the other
ing of all, instead of the best. In fact,
present market value of the common stock. companies. That enterprise is character
before these deductions, Cuban-American
But when all the companies are reduced ized by large production, high operating
actually reveals an earning power about
two and one-half times as great as does
the larger company. TABLE {IL—OPERATING DATA—1918-‘19.
Production Grosl Receipts Net Profit per lb. DepreciationCharged
To demonstrate the practical bearing (3504b.ban) (Per lb.) (Before Deprao.Tax) Per lb. % of Prop. Acct.
of this matter, let us suppose that Cuban Cuba Cane . . . . .. . . . . . . . . .. 4 810,189 5.900. .600. .120. 2.8%
Cuban Amer . . . . . . . . . . . . .. 1,985,041 7.84 1.96 .16 8.2
American reorganized its securities so as So. Porto Rico . . . . . . . . . . .. 010,400 6.28 1.58 .86 5.8
to conform to the capitalization structure Pnnta Alegre . . . . - . . . . . .. 605,150 5.00' 1.81 .27 l.7
Manati . . . . . - . . . . . . . . .. 607,888 5.90 1.56 .81 3,7
of Cuba Cane. This it could easily do by 'Eatimated.
offering to issue 7 per cent bonds or pre
ferred stock at par in exchange for three TABLE IV.—PBICES AND DIVIDENDS.
Preferred ,_Comruon——1
quarters of the new common (par $10), Price Rate Yield Price Rate Yield
.
valued at 45. If that were done, Cuban Cuba Cane . . . . . . . . . . . . . . . . . . . . . . . .. BB 7% 8.56% 47 ... ..
Cuban-Amer . . . . . . . . . . . . . . . . . . . . . . . . 100 '1 0.00 450 $10 2.2%
American’s capitalization would then con So. Porto Rico .. . . . . . . . . . . . . . . . .. 110 0 7.07 280 20 8.7
sist of about $43,000,(X)0 in bonds and pre Turns Alegre ... . ................ . .. .. ... 84 5 8,0
Manetl . . . . . . . . . . . . . . . . . . . . . . . . . . . .. 100 7 7.00 116 10 8.0
ferred, and 250,000 shares of common.
This would make it almost the exact
replica of Cuba Cane, but on just half to the same level of capitalization—as is costs and heavy interest and preferred
as large a scale. With such an arrange done in Table II—Punta Alegre Sugar dividend charges. This is a combination
ment, however, Cuban-American would jumps to the very first place. Cuban which makes for excellent earnings on
have earned last year $37.30 per new American follows a fairly close second, the common during periods of high sugar
share (par $10), before deduction of de with South Porto Rican Sugar a good prices, but a very rapid shrinkage in
preciation and taxes, against $13.11 for third. Cuba Cane and Manati are far profits when the price of the commodity
Cuba Cane. And yet the latter is now out of the running. declines. In a word, Cuba Cane common
selling at a higher price! is essentially a speculative issue, carrying
Operating Data possibilities both of sharp advances and
A little “juggling of figures" can thus
transform the apparent advantage of Cuba So far we have been dealing with the sharp recession.

800 THE MAGAZINE OF WALL STREET

 The new 7% convertible debentures,
however, having a first claim on the earn
ings and assets of the company, appear
to be very well secured, and their con
version privilege into the common stock
' at 60 might some day acquire substantial
value.
have sold a good portion of this year's cially as the new unit will be operating
crop at excellent prices. only partially during the current year of
Between South Porto Rico Sugar and high prices. A good deal will~depend on
Cuban-American there is little to choose. the success of this new venture, the pros
The latter's stock should enjoy a much pects of which at this writing are said to
better market, now that the par is to be be very favorable.
reduced from $100 to $10, and the divi-. Manati Sugar, while successful com

South Porto Rico Sugar yields the
highest dividend return (see Table IV).
As compared with the Cuban producers
it enjoys the advantage of exemption from
the one cent import duty levied on the
latter. We would point out further that
the depreciation charges of South Porto
dend rate will no doubt be increased.
And besides its reputation as the oldest
and most successful Cuban producer
should not be ignored'in any'comparison.
Punta Alegre made intrinsically the best
showing of all the companies in 1919, but
that was on the basis of its capitalization
a
pany, certainly seems to be selling too high
compared with the other issues.
To sum up, we would group Cuban
American, South Porto Rico and Punta
Alegre rather closely together in the class
of conservative common stocks. Manati
too high, and Cuba Cane must be re—

is
Sugar on paper bag basis were unusually before the recent expansion. Since then garded as essentially speculative. If the
large last year (Table III),
a fact which it has increased its stock issue by 56% writer must select one issue as “the best,”
made the final profits appear somewhat for the purpose of adding about 40% he would name Cuban-American Sugar—
lower than was really the case. The com to its mill capacity. This dispro but by slender margin—Cuba Cane, Vol.

a
pany is planning to increase the output of portion would tend to diminish the at 25, p. 750; Cuba Amer. Vol. 25, p. 338;
its San Domingo central, and is said to tractiveness of the issue somewhat, espe Punta Alegre, Vol. 25, p. 676.

'
American Linseed the Sphinx of Wall Street
Management’s Policy of Silence Has Resulted in Confusion of Rumors About the Company’s
Abilities.
By PERRY A. EMERSON
INCE that period some ten or twelve companies have the various facilities subsidiaries, the following comment pub
years ago, when Theodore Roose necessary to handling fiaxsecd products, lished by leading brokerage house last

a
velt was attacking “bad trusts," and their manufactures including linseed oil, fall to the point:

is
a long-suffering public was supporting varnishes, oil cakes, etc. Their separate “In the fiscal year to September 30,
him, American corporations have, as a and individual earning powers are not 1918, American Linseed stated its profits
rule, gone far. Painted black—whether as equal to 12.75% on the preferred, or
rightly or wrongly does not matter now— StockOutlllnqu, Plasma. n tnnut:and dividends.
7"Inon-cumulnm 1wSIN!USmm. Commrev 5.75% on the common, after deduction of
it became their efi'ort to show themselves H00) $16,750,000
ynlended
NoIundel
September
M The'Ow"
I, tin m the19111
lo!IN
Inwhxh nu 7% preferred dividends. Because of the
to the public in a new light by the adop~ tomnlnypresented awalnut-emutant Ibo-m9 |oml fact that Linseed in part holding

is

a
nuts,habit-tin and "may atme“and atthwtn-m
tion of publicity methods. 95 mosTmumum own in.tumplny'l company there has been strong sus

a
Today, the largest corporations
United States are not only answering any
in the mtheNews
rmrel-able
W 01mm have
Way I! $1,132,000.
Buttev
wow-t,that
been
mm,50",01the
Mung(mm \NI
MI
It>1lhled picion that neither in 1917 or 1918 did the
corporation take up in its own income the
Pun-aunt Adams in “noney u uymg l! theannual
and all questions (with the reasonable meetingvaumtm to,tsp,that "any an annually full earnings of its subsidiaries.
as adding toIMplant attheNucoa Covmny A
reservations) put to them by the public’s “Monty InNmmbu. tsts,munthat theNuenl Com “American Linseed has for so many
panyOllnfld I" pumapm In theAutumn Lmued
most powerful representatives—its press metI you Yr»tmhal
A"alittle nu noel-led years pursued policy of comparative

a
dnndond
—but they are actually encouraging such 80 on the
common mu onNovember 11,ms.atthe rule secrecy and the facts of its business de
ol$3pmannum payableintowuulrtlriytutahmnu d
questions. Perhaps the most illustrious ' 7:nullcanbqlmllhfi Daemon 15.1919. Thenbu velopment have been so carefully screened
75 been mutual-nu “maytothe nutmu M"!m
yea!
example of this changed attitude would shun-mumm"I "W 01 2090ml: abovesomonths' with that the company's shares have many of
thepubllcatlon
d more 0!la:“vorablenew;
be that of the Standard Oil Company of
El
the elements of “mystery stocks." At least,
New Jersey, which has now one of the the financial community chooses to re
if

largest publicity departments in the city. gard them as such, there will be sound
Managed by a former newspaper man, it American LinkedCn arguments to support such course."

a
is through the single agency of this de l In explanation of its policy of silence,
partment that Standard Oil has built up l an ofiicial of the American Linseed Com
a degree of cordiality between its organi~ a:
a; pany has been quoted as saying that, be
zation and the public never dreamed of cause the subsidiary companies were
before. going through formative period,
a

it
There are a few corporations left, how would not be to the stockholders’ best
ever, who still adhere to the policies of advantage to publish their earnings. True
a generation ago. Their annual reports as this suggestion may be, seems be
it

are incomplete; at their annual meetings
they appear to discourage a healthy in
terest in their affairs; and to members of
the press, who come in spirit of co-opera
'8
yond question that ignorance of the earn
Muttth ing power of such important subsidiaries,
Common Stock for example, as the Nucoa Butter Com
pany, would be even more disadvantage
._.__ 1...

tion to learn the facts, they accord a curt ous to these same holders than would
dismissal. It publicity about their earnings be to the
That the affairs of the American Lin companies themselves.
seed Co. should still be so conducted as 8 What is, apparently, the strongest unit
to give the impression, whether true or in the American Linseed organization
is

not, of desiring to discourage public in ‘i

the subsidiary purchased in 1917 and
terest in its affairs is all the more sur known as the Nucoa Butter Company.
prising when it is noted that this com This property was purchased for cash at
pany is, or is said to be, Rockefeller 7” I915 M6 I9” 7910 mil?” price believed to have been in the neigh
a
.

'controlled. Most of the other concerns Copyrighted by Graphic Record: Corp. borhood of $1,500,000 and within two
under the control of this illustrious years from the time of its acquisition was
family long since discarded "silence" as made public, however; and except for reported to have more than earned its
a corporate motto; and it is a mystery current rumors about them and some in purchase price.
why American Linseed has not followed flation of the holding company's earnings The Nucoa Butter Company’s product,
in their lead. resulting from the addition, in 1919, of substitute for real butter, manufac
is
a

The American Linseed Company, being their combined profits, quite impos— tured largely from cocoanut oil. As com
is
it

in part a holding company, has a string sible to analyze them or gauge their pos pared with another vegetable product,
of subsidiary companies upon whose re sibilities. put on the market some time before, this
sults its earnings largely depend. These With regard to past results from these cocoanut preparation said to have
is

APRIL 1920
3.

for 801
American International Corporation

The "Collapse" of American International

Great Expectations Cruelly Disappointed — Is theStock Cheap at 42? — Facts and Figures
About the Company and Its Subsidiaries

By BENJAMIN GRAHAM
corporate events in recent years holders might have doubled or tripled suspicion of inexperience, or poor judg
FEW
have made as deep and painful an their stake. Instead, ill fortune was en ment, or mismanagement, might well
impression upon the financial world countered, and so half the investment was arise.
as the spectacular decline of American wiped out — unpleasant, but inevitable. However, if we accept the more opti
International from its high price of 132J4 On the other hand the directors may mistic view and consider that the break
in 1919, culminating in the passing of the say that the corporation is not responsible in the market price was greatly overdone
dividend and the resultant break to a low for the market action of its stock. The — the intrinsic value having suffered to
of 3&'A. Not, indeed, that the 94 point mere fact that dividends are suspended no such degree — even the responsibility
slump or the omission of the dividend does not cut the intrinsic value in two. for this collapse cannot be entirely
were in themselves such striking oc- This action was taken in the interest of avoided by the management. For months
cniTences. The Street unfortunately is conservatism, and because adverse condi there had been persistent and mysterious
fairly well inured to the bursting of bub tions involved a heavy strain ( io doubt selling of the stock which carried it
steadih to lower levels. All this time tl e
corpor ition gave no intimation that an. -
TABLE I.— COMPARATIVE INCOME ACCOUNT 1916-1919
thing was wrong and countless investo s
(In Thousands).
1916 1917 1918 1919 bought the issue on the basis of the latest
Interest and $602 $8,026 12,468 84,175 reports available, believing the stock to
Dividends 8,888 8,804 5,888 8,168
be a great bargain. In the light of what
Operations $8,840 86,880 $7,846 812,828 subsequently happened, Wall Street is
Taxes and Expenses 1,866 8,084 4,180 7,608
now asking, "Who did all the selling be-;
Net Income $2,484 88,746 $3,716 $4,719 fore the dividend was passed?" Certainly
Dividends 875 1,574 1,817 8,888
Adjustments 165 588 886 495 not the general public, who were rather
1,584 2,235 1,826

it,
Surplusfor Tear 1.844 buying with misplaced confidence.
Earnedon Average Capital 15.68% 14.81% 12.40% 12.48% Hence the men in the brokerage offices are
saying that the selling must have been
done by insiders, who knew the dividend
bles. But American International from temporary) upon the cash resources. The
was to be passed and who took advantage
the very first was regarded as an entirely company's assets are intact and its posi
of the public's ignorance to sell out their
different and sounder proposition than the tion fundamentally sound. So runs the of
holdings well in advance.
ordinary common stock. To begin with, ficial statement.
it was supposed to have the finest Board But by neither of these arguments can In view of the high character of the
of Directors in the country, comprising the management entirely escape blame for men identified with American Inter
twenty-four of the leaders of American what has happened. If the decline in the national these charges no doubt are en
tirely unfounded, but not their own

is
it
banking and business. Secondly, every market price really reflects an equal in
dollar of its $50,000,000 capitalization was intrinsic value, the disaster cannot be fault that their secretive policy has per
And, thirdly, its ascribed solely to bad luck. mitted such rumors to gain credence?
issued for cash at par. Exchange, it
field of activities— foreign trade and for is true, has suffered extreme weakness From this point of view there was much
eign investment — was considered to hold this year, notably in the South American warrant for the phrase used recently by
for profitable centers, where the corporation's prominent factor in Stock Exchange
a

forth unusual opportunities sub

growth. sidiaries do a large business. But in' its circles, who referred to "that disgraceful
that an enterprise most recent report, the president stated American International incident."
Small wonder
launched under these excellent auspices that these enterprises avoided at all times So much for the moral aspects of the
should have immediately taken rank as an the accumulation of uncovered balances, case. After all what the public would
investment favorite. It was well nigh
universally regarded as an issue to be
bought and "put away," with the confi TABLE II.—COMPARATIVE BALANCE SHEET 1916-1919
dent hope that in a few years its value (In Thousands).
would have increased manifold. It is the Assets- 191* 1917 1918 1919
Investment. »*8,287 $27,814 $27,847 880,816
sharp contrast between this great expec Cash and Call Loans 2,954 2,876 1,688 7,768
tation and the disastrous event that makes Other Current *,»1 »•*» 10,779 40,627
Inter
Fixed " Mg 2,040 2,433
the market collapse of American Miscellaneous 48 *" 1,557 1,943
national an episode of such disturbing $30,405 $43,861 $88,587
Total $37,106
significance.
LiSe1,:
Accusation and Defense gSSS :::::::::::::::.::
Current and Reserves
«
»«.00»
3,482
$29,970
jgg
»■'"''
$29,970
5,743
8,148
$50,000
7,669
26,018
The aim of this article is to reach as
impartial a judgment as possible upon Total *8M°5 *37'106 $43,861 $83,687
what has transpired. Many bitter things
are being said on the subject; and while
the criticisms may be wholly unfounded and so eliminated direct risks from ex chiefly like to know whether the stock
is

they are certainly not without provoca change fluctuations so far as possible. still dear at 42, or whether its tremen
is

tion. For when the public is not told the Nor should the decline in commodity dous decline has not placed on the bar
it

"inside truth," it must necessarily decide prices have ordinarily involved an enor gain counter. The difficulty of answering
by the outside appearances. mous loss to the company, for the total these questions with 'any degree of ac
Now, the whole matter might be dis inventories carried at the end of last curacy must' be obvious. Not only
is
it

missed with the easy observation that year amounted to only $15,000,000, or $30 impossible even to surmise what has hap
where there are large possibilities of per share. If, therefore, the actual worth pened to the corporation in the past year;
profit there must also be great risks of uf the enterprise has really shrunk 65% but even in the years for which rep rts
loss. Had things gone well the stock- or $35,000,000 since last January, some are available the lack of definite litres

for DECEMBER 11, 1920 175

as to investment holdings and gross earn — after expenses — of $2,123. In 1917 the amount has not been published. In June,
ings makes a valuation well nigh impos net profits had been $470,000. Considering 1919, International corporation was unof-
sible. Nevertheless, we shall marshal the size of American International, this ficially reported to hold 82,745 shares of
what facts we have, with a view to giv does not appear to have been a subsidiary I. M. M. preferred, and the average cost
ing some picture of what American In of exceptional importance — at least prior is said to be about $75 per share,
ternational owns and does and possibly to 1919. On Dec. 31, 1918, it had total 17. United Fruit. « Interest acquired
of raaching some fairly plausible conclu current assets of $11,383,000, of which 1916. No further data available.
sion as to the dearness or cheapness of $471,000 was in cash and $3,165,000 in in- 18. N. Y. Shipbuilding. In 1916, cor-
the issue today. ventory. Current liabilities were $8,- poration, together with W. R. Grace Co,
526,000 of which $2,906,000 was in notes Pacific Mail and International Mercantile
The Corporation's Holdings
payable. Presumably at the present time Marine, acquired the entire property,
American International, in addition to its business and obligations are both on Subsequently some stock was sold to the
conducting some operations in its own a much larger scale. It is stated that public.
name, has acquired securities in no less 40% of its requirements are financed by 19. U. S. Rubber. Interest acquired
than 24 companies. These are divided the banks and the balance by the parent 1917, but amount unknown.
into appropriate groups, and briefly com company. 20. International Products. American
mented upon as follows : 10. Carter, Macy & Co. Incorporated International apparently owns some bonds
Group A. Proprietary Companies—Operations 1916. Capital $2,000,000, all owned by of this South American packing concern.
Included in 1919Report American International. Imports tea and Amount unknown.
sells same here and abroad. In the last 21. Simms Petroleum. Corporation is
1. Allied Machinery of America. In
8 months of 1916 its gross profits were said to have acquired 75,000 shares at 47.
corporated 1911. Capital $1,500,000, all
$423,000 and net $216,000. If this is true, the present price of 7
owned by American International. Does
11. Rosin and Turpentine Export Co. would mean a loss of $3,000,000 on this
a large export business in machinery and
Incorporated 1916. Capital $800,000, all investment.
tools. Income account 1912-1916 is avail
owned by American International. Deals 22. U. S. Industrial Alcohol. An un-
able, viz. :
in naval stores. , stated interest in this company was ac-
Year Gross Profit Net Income
1916 $1,863,000 $834,000 The peculiar point about all these sub- quired in 1917 and apparently disposed of
1915 662,000 467,000 sidiaries is that none of them appears to in 1919.
1914 350.000 Def. 22,000
1913 19,000 Def. 29,000 have been a really big proposition, as far In addition, the corporation was at one
1912 2,000 Def. 41,000 as can be judged by the meagre data time interested in two other companies,
at hand. It follows, therefore, that either probably of small importance, viz :
2. Allied Machinery Co. of France,
Inc., 1916. Capital, fcs. 250,000—all owned some of these concerns have since done a 23. Symington Forge Co., organized
by Allied Mach. Co. of America — French far larger business than the reports of to carry out a munition contract. Stock
earlier years indicate, or else the major since sold.
agency for machines, etc.
3. Allied Machinery Co. of Italy. In part of American International's operat- 24. American International Terminals
ing profits came from its own business. Co. Now dissolved.
corporated 1918. Capital, lire 1,000,000,
all owned by Allied Mach. Co. of Amer These operating profits are stated sepa- _ „ ,. ,
The 0ut8lde Investments
,
ica — Italian agency for machines, etc. rately in the income account for 1916-
1919, in Table I. The only proposition Particular attention is directed to the
4. Allied Construction Machinery Corp.
Incorporated 1917. Capital $250,000. 84% which the statements mention as having item of investments in the comparative
been handled by American International balance-sheet for 1916-1919, given in Table
owned by Allied Machinery Co. of Amer
ica. In 1918 earned $275,000 gross and direct was a sewerage construction job II. The changes in this account from
$50,000 net. Deals in construction ma for Uruguay, the gross amount of which year to year were chiefly due to the pur-
chinery for export. was $4,000,000, payable in bonds. One chase of stock interests in outside compa-
5. Allied Sugar Machinery In might suspect that part of the reported nies (called participations), but they have
Corp.
corporated 1916. Capital $200,000, 85% earnings were profits on the sale of se- also been affected by the transfer of the
owned by Allied Machinery Co. of Amer curities, but the company insists that it holdings in various subsidiaries from the
ica. In' 1918 earned $350,000 gross, but does not speculate in stocks. This point investment account to the other assets,
is somewhat mysterious. Furthermore temporary investments in
showed net loss of $82,000, after expenses.
6. Home Co. Ltd.' Incorporated 1918. B. Proprietary Conn.anie.-Operation. b°ndS a"d "0teS amounting to $9il22,000
Not
Capital, yen 600,000, all owned by Allied Included in 1919Report were made tne nrst >'ear- A Iarge part
Machinery Co. of America. Controls °f th"e sold
12. American Balsa Co. Incorporated j? 19u17'whiIf oth5s
Yamato Iron Works of Japan, and does have \ere added subsequently. The
1918. Capital $1,000,000, of which $693,- ™f°w,n* tablebeke" summarizes

fff
an export business with the Orient. the progress
600 owned by American Interna-
7. American International Steel Corp. tbe '"ves ment account, as far as can
tional. Manufactures life-saving appara-
Incorporated 1917. Paid in capital be from the rePorts mi r'stlnS
tus. In the last 4 months of 1918 its ,?,caned .
$100,000, all owned by American Interna applications
gross was $372,000 and net $225,000.
tional. Does a general export business 13. China Co. Incorporated 1916. Year Securities Bo^°St>
in steel, with numerous foreign connec Capital $1,000,000, of which American In- 1916—Pacific Mailt Int. Merc. Marine,
tions.
.N;

.Y;

ternational owns $500,000. Presumably

— U.
^'din* t™t;. . .Ship."$13,ooo,ooo
.

8. American International Steel Corp., intends to obtain concessions in China. Of 1917 S. Rubber, Int. Products,
Ltd. Incorporated 1917. Paid in capital the $1,000,000 capital, $950,000 represented lYierj. In.dustd. .A.'??h°! .(s°!d 2,500,000
£3, of which £1 owned by American In "contracts and concessions." In 1918 its 1918—Unspecified 5!boo]ooo
.. — Unspecified
1919 w
Is English agency of Amer 8.000000
•

ternational.
_
1

operations were only nominal.

ican International Steel Corp. 14. Siems-Carev Rv. and Canal Co. $28,500,000
9. American International Ship Build Proprietary Co.. and Mile 2-316.000
Incorporated 1916. Capital $500,000, of
ing Corp. Incorporated 1917. Capital which American International owns $212,- Total Dec. 31, 1919 $30,816,000
.
$2,000, all owned by American Interna 500. Its object construction work in The reports for 191g and mg sta{e ^
is

tional. Constructed and operated by Hog China In 1918 operations were nominal, no important changes were made in the
Island shipyard which built 122 ships for and showed loss of $40,000.
a

the Government. Corporation is no longer

"participations group" of investments.
None of the above three compan.es ap- xhis makes thg disposition of the $13(.
interested in this yard. pears very important. 000000 spent ;„ these years somewhat
10. G. Amsinck Co. Incorporated
1916. Capital $6,000,000, all owned by C. Outside Investments mysterious. About $3,500,000, apparently,
went into Petroleum, but the bal-
American International. The corpora 15. Pacific Mail S.S. Co. Incorpo- SLimms
may the form of temporary
m,

tion's recent troubles seem to have cen rated 1916, American International, to- an«.
bf

h°W>ngs of bonds or notes.

tered in this subsidiary, which does a gcther with W. R. Grace Co., acquired
large export and import business, chiefly joint control of this enterprise. This question of outside investments
is

with South America. In 1918 it reported 16. International Mercantile Marine. ot' the utmost importance, not only be-
gross income of $1,363,000, but a net loss This interest was acquired in 1916, but the (Continued on page 217)

176 THE MAGAZINE OF WALL STREET

 months ended October 1, 1920, was $4,-
470,304. Gross earnings were $20,172,-
675,net earnings, $5,420,317, and surplus
after dividends, $2,437,260, not includ
ing dividends paid in common stock
amounting to $921,975. On October 1,
last, the company had a total profit
and loss surplus of $57,680,683, with
total assets and liabilities of $137,939,-
152.
Skelly Oil Co. — Gross earnings of the
38 YEARS EUROPEAN AND AMERICAN BANKING.
company for October amounted to Oldest German Banking House In Chicago. Direct connections
$701,571. This is a new high record for
history, with Betrrsche lank, Dresdner Bank und Blsoentogesellsehaft, Berlin;
any month in the company's
and compares with $645,822 for Sep Wiener Baafcverein, Vienna, Prague, Budapest, Czernewttz ami Agram;
tember. Warsaw Discount Bank, Warsaw, and ether leafing banks In Europe.
Standard Oil Co. of New Jersey. — Our facilities are perfect for the transmission ef money te any eity
Capital readjustment. The directors er village in Europe, either by check, cable er wireless; opening el
have voted to submit to the stockhold
ers a plan to change the par value of aooeivts hi foreign backs and Investment it foreign exchange and
the common stock from $100 a share foreign Bovernment and City bends. Prices are very low and
to $25 a share, and to increase the com favorable for investment. Circulars and price lists with full details
mon capital by $10,000,000, making the free en reaoest. 7 percent First Mortgage Real Estate Gold
total $110,000,000. There will be no
change in the $200,000,000 preferred
Bends (rem $180 upwards for safe Investment. Write for illustrated
stock. circulars. We have sold millions ef First Mortgage Real Estate Gold
The proposed reduction of the par Bean's, and never have our customers suffered one cent loss, nor
value of the common stock is for the one day delay in the payment of principal er Merest en such bonds.
purpose of making effective a plan to

WOLLENBERGER a CO
enableemployees, with the assistance of
the company, to acquire an investment
interest therein. The plan includes all
employees who have been for one year
actively engaged in the conduct of the
company's business.
W Investment BanKers
JOS So. La Salle Stre<
CHICAGO
THE "COLLAPSE" OF AMERI
CAN INTERNATIONAL
{Continued from page 176)

cause their book value represented $60

per share of Am. International stock, but w u:s.iiuuik u mmwiMiniiiiii
mmmmmm
chiefly because in 1919 they contributed
$4,174,000,or $8.34 per share in interest
and dividends. This was over 88% of the,
total income available for Am. Interna
tional stock.
It is true that the market value of all
these holdings has shrunk considerably of
late, but their cost to American Interna
tional was understood to have been far
below the high levels of the past two
years. It seems reasonable to suppose that
We own and offer for immediate delivery
these investments are now worth at least (subject to prior sale)
$20,000,000,or $40 per share. This would
about equal the present price of the issue,
and would still leave the assets invested
CITY OF COBLENZ 4% BONDS OF 1920
'n the proprietary companies, amounting Printed in English and German
last year to $27,000,000. That these should
have been entirely destroyed is incredible, Also large blocks of the following 4% issues
especially in view of the direct denial en Saarbruken Berlin Greater Berlin
tered by President Stone, who declared
that "statements that American Interna Crefeld German Community Loan Kiel
tional had made large losses in South
America or anywhere else are untrue."
We redeem all coupons
Conclusion
After making allowances for the most
unfavorable possibilities, it is hard to be
lieve that American International is not
worth more than 42. The chief result of
Von Polenz & Co., Inc.
this inquiry has been to indicate that the
corporation's foreign business has been
60 Broadway, New York
apparently of insufficient size to swallow
up the larger portion of its capital, even Berlin, Germany-
at worst. If this is true, then the domestic Pittsburgh Boston Philadelphia
investments should assure a minimum as
Cincinnati Denver Chicago Milwaukee
set value and minimum income large
enough to justify the purchase of the Write, today, for our Circular UM*
stock at or below present levels. — vol. 25,
p. 621. :i;:i:'[[llll!!!!!llD!tt!ll!l!III!!lllllU

for DECEMBER 11, 1920

 Industrials
Bonds and Stocks

Goodyear Tire & Rubber Co.

The Goodyear Reorganization

Unofficial Insolvency Caused by Ill-Timed Expansion — Sudden Disaster Follows Wonderful
Growth–Details of Proposed Reorganization and Discussion of Company's Prospects
By BENJAMIN GRAHAM

N A few figures paint the suddenness of common, which had been offered

of
the midst of general commercial one
gloom, optimists have found much en the débâcle. In March, 1920, Goodyear last summer for $300, were worth only
couragement in the relatively few im In the following

of
common sold at 415. $61—about one-fifth cost.
portant To July a stock dividend of 150% was paid, General Significance the Catastrophe

of
failures recorded. a great
extent, however, and the new shares sold at 136. At the affair,

In
this condition reflects considering the Goodyear
not so much underlying financial strength, same time the company offered for sale at three questions arise:
Just what the present situation?

3. 2. 1.

is
How was brought about?

it
TABLE I.–GROWTH OF GOODYEAR'S BALANCE SHEET
the prospects under the
What are
oct. 31, 1915-1920(,000 omitted) proposed readjustment?
Assets—
in

be

to
1915 1916 1917 1918 1919 1920 may objected that idle

It

is
it
Fixed . . . . . . . . . . . . . . . . . 11,442 17,908 30,704 89,155 43,464 *98,041
quire into the cause Goodyear's trouble.

of
Current . . . . . . . . . . . . . . . . 14,888 31,309 51,858 54,464 76,813 55,036
can do nothing re

to
Liabilities— The stockholders
Stock . . . . . . . . . . . . . . . . . . 15,028 35,000 44,672 59,250 57,429 126,028
Surplus and Reserves 9,807 5,050 16,764 26,053 40,831 –13,931 trieve the past; their hopes and fears are
. ...

Current ,945 9,167 21,126 8,314 22,017 40,980 with the future. Yet for every investor,
..
..
.
.
.
.
..
..
.
.
.

Goodyear stockholder

or
not, the sudden
Total 26,280 49,217 82,562 93,619 120,277 153,077
collapse enterprise dis

of
..
.
.
..
.
.
.
.
..
.
.

•Includes $3,568,445due from Pres. Seiberling, later settled by transfer this raised
of

a
fixed assets.
quieting question. Goodyear's

If
reverses
result entirely ill-luck, and

of
were the
par $30,000,000 additional preferred and
as

handling business efficient management

of

technique
in

new the most had been

a

troubles. For when occur, in common. Less than three months later, powerless prevent them, then this in
to
difficulties
its balance sheet dated Oct. 31, 1920, shows very disturbing side
of

stead appointing receiver, the credi cident would throw

a
a

tors now usually establish profit and loss deficit $15,670,000, light on the hidden risks underlying even
of
to

committee
a
a

with $19,000,000 further losses expected the safest appearing

in

company
of

whom the affairs the are industrial investment.

Many con on purchase contracts. important
In

turned over unreservedly. ask, therefore, whether

It

another three to
is

cerns have thus been passing through the months (Dec. 31, 1920) the deficit had in was purely an accident that this company
it

$24,400,000, and the estimated succumbed to business depression which

or

to

insolvency, reorganization,
of

throes creased
a

liquidation, without Dun's loss on materials contracted for was placed its rivals were able to withstand.
or

Bradstreet's
quarter
In

officially being any the wiser. $18,247,000. year and we study the summary Goodyear's

of
at

If
a

striking example the current liabilities rose from 22 mil history, given
of

Table
in
these new finan financial we
A

I
cial methods furnished by Goodyear Tire
is

and Rubber, the affairs

of

which are now

undergoing “readjustment.” Had the
present situation arisen few years ago,
a

receivership would have been inevitable, GOODY A.R TIRE RUBBER

&
L.
a

and the mortality records would have been In GR.O.55 SALES

NET CURRENT A35ETſ
-
by

swollen $66,000,000 failure—a figure

TS4 wn
a

CAPITAL SURPLUS
B

that would put the famous Rumely in 1

solvency quite the shade.
in

c.
Remarkable Incident
-
‘s

Goodyear
of

The downfall remark

is
a

r:

able incident even the present plenitude

in

.9
of

For the victims

of

business disasters.
3.

deflation, though many, have for the most

part, represented the weaker type of en
terprise—either engaged especially
or in

speculative undertakings, equipped

general es
or

with insufficient capital,

in
on

an

tablished insecure, inflated basis.

Goodyear, however, suffered from none
of

these weaknesses. But short time

a

ago the strongest

of

was considered one

it

the country lions 66 millions, and the merchandise quickly perceive the weak point
to

the
in

and soundest enterprises

in

the leader among tire producers, with the commitments to another 55 millions. company's armor. Two figures alone
highest reputation both the commercial
As this state of affairs became known practically tell the story.
in

the public, the stock quotations fell pre Fixed assets Oct. 31, 1920. .398,041,000
to

and financial field. And yet this company

11

prosperity the cipitately. At the recent low prices Fixed assets Oct. 31, 1919. 43,464,000
of

fell from the height

in of

to

bewilderingly
25

depth insolvency and for the common and preferred,

of

preferred and - - --- - - $54,577,000

of

of

short space the units two shares Increase

of

time.
-
-
-
-

-
-
-
-
-
-

- -r-a-rºr a -- *:: _--

=
a
*

-
 the shrinkage inventory values, justment,

of
Just as the industrial boom was reaching which will involve the issuance

to
fined
its climax, Goodyear invested $54,000,000 Goodyear the following securities:

of
no doubt could pulled
have
Twenty-Year

A.
in new plant facilities and subsidiary en through, Leather, despite $35,000,000 First

as
did Central
Mortgage 8% Bonds, presumably

be
its
terprises. In one year it increased its colossal losses.

to
fixed
by130%; five years by 750%. sold the general public.

in
assets
Details the Company's Position

of
Present

of
That

B.
theinvestment these enormous $25,000,000 Ten-Year 8% Deben
permanent assets 250,000

at
sums such time used together, with
in

be
The recently published
Readjustment

ofto
tures,

a
grave error judgment can pay off

of
Plan contains of the various

to
constituted statement shares new common similar

of a

a
a
hardly Huge inventory losses amount of bank debt. These debentures
be

obligations

31

an
out

as
denied. Dec. last, and

-
the ground

be
be

on
may excused, perhaps, present stockholders

to

to
the proposed method financing

of

of
line are offered
par with

of
same through the issuance

so
stagnation

of
ten shares com

of

at
that the business came new securi bonus

a
swiftly and suddenly that escape was im No complete picture the com mon with each $1,000 bond.

or of
ties.
after re Prior Preference

C.
possible—the only possible preparation pany's finances either before $35,000,000 8%
being the voluntary curtailment opera organization To be used pay merchandise

its of
This can

to
given, however. Stock.

is

to
height. only by and contingent creditors and

be
tions while the demand was fund one
at
constructed careful piecing

-
a
policy
its

headlong expansion quarter

of
But
in

together

of
the available material. the merchandise commitments.
Goodyear went the opposite extreme, For this purpose the Prior Preference
to

thought the stock will be valued 80, and evidently

at
as

and built new plants

if
it

will

to
feverish activity stockholders

at
1919 was merely the TABLE II.-Approximate
of

Balance Sheet be offered that

prelude new and unparalleled Dec. 31, 1920,
of
price.
to

era
a

Assets— $65,000,000 7% Preferred Stock,

D.
industrial prosperity.

to
Fixed $98,041,000

..
..
.
..
.
.
..
.
.
..
.
.
.
the lavishness and variety

be
71,267,000 exchanged share for share for present
of

Some idea Current

..
..
.
..
.
..
..
.
.
..
.
Liabilities—
be

these capital expenditures can gleaned

of

Stock 126,028,000 preferred.

of
from the following partial chronology: 900,000 shares no par

of
E.
Deficit - 24,400,000 common
pre Current 65,964,000

be
Feb., 1920. $2,000,000 guaranteed value, exchanged share for share

to
.
.
.
.
Reserves

--
1,716,000 shares);

to
Goodyear Textile Mills
to of

of

ferred stock for present common (610,000

º
Total $169,308,000

be
Cal. offered public.

as
given bonus with the debentures

.
.
.
.
.
..
.
..
.
..
.
.

a
March, 1920. Naval Air Station at (250,000
- shares); and for “other pur
Akron, Ohio, pur pose s” (40,000
chased for manu shares).
- Further

*
- more,
facture of commer-
cial dirigibles. TABLE III.-APPROXIMATEBALANCE SHEET AFTER REORGANZATION theremay be cre
March, 1920. Re- (Allowing for $18,247,000loss on Merchandise Commitments) ated an unstated

|
ported
- Assets— Liabilities— amount of manage
that com Fixed $98,041,000 1st Mtge Bonds $25,000,000
ment stock to be
..
.
.
.
..
.
.
.
.
..
.
..
.
.
.
.
.
.

pany intends estab- Net Current 65,056,000 Debentures 25,000,000

-
..
.
.
.
.
..
.
..
.
..
.

.
.
..
.
..
.
85,000,000 -
lishing plant
#.
in

to
*
65,000,000 entitled aggre.
a

rel erreol
-

Brazil. .. gate dividends

..
.
.
.
.
.
1,716,000

of
Reserves
March, 1920. of 900,000
.."; not more than

--
ares Common 11,381,000
Company leases $30,000 per annum,
Total $163,097,000 Total $163,097,000 priority to the

in
5,200 acres
of

coal
-
-
--
-
-
-
--
-
--
-
--
-
--
-
-
.
.
.
.
..
..
.
..
..
.
..
.
.

lands Ohio. preferred and com

in

April, 1920. Sub mon; also to ex

sidiary buys Ford clusive voting

di
an approximate power for the election majority

of
Long lsland City for $2,000,000. give

of
In

Table
II

plant we
in

May, 1920. Company Dec. 31, 1920, prior This means that control of the
as

of

buys cotton balance sheet rectors.

a

Cal. for $1,000,000. to the creation of the new securities. The company will be vested the Creditors'

in
ranch
in

June, 1920. 7,800 acres Arizona any bonds or de

in

as

as
$24,400,000, and we long
to

deficit has increased Committee

bought for raising cotton. assume, therefore, that the working capi bentures are outstanding—quite probably
the previous year the company had tal has been correspondingly for twenty years.
In

reduced since
31

acquired 20,000 acres

at

Oct. by $7,880,000, and thus stands

of

in

rubber lands
only $5,200,000. Since current liabilities Working Capital and Fixed Charges After
Sumatra and had organized the Goodyear
Tire and Rubber Co. of Cal. with $66,000,000 we put the cur Reorganization
at

are stated
a

capital $20,000,000. No doubt much rent assets therefore $71,200,000.

of

at

The total par value

of
new securities
money was spent on these two ventures This balance sheet, however, replace existing debt
to

reflects
in

thus $85,000,000.
is

no way the commitments $55,000,000

of

1920. But since the Prior Preference stock

in

is
good part these heavy out merchandise, upon
of

be
of

While for future deliveries 80, the actual amount

to

at

issued
a

through the sale

be

lays were financed $18,287,000

of

of

which an estimated loss realized will $78,000,000. from this

If

about $30,000,000 new preferred and will be sustained. this loss were
of

If

figure the previous working capital deficit

$8,000,000 common, large balance charged off, there would result an excess
of

$13,000,000
of

deducted (which includes

is
a

be paid for out cur about $13,000,000

of

of

of

still remained current liabilities

to

the future losses on merchandise contracts)

rent assets. was this drain on the cash over quick assets.
It

the reconstructed company will start off

critical time which brought Table III summarizes the company's po with net current assets of about $65,000
at

resources
a

disaster. For had the difficulty been con sition after consummation of the read 000. This will cover the two bond issues
|

#Nº

Photo Brown Bros.

MAIN PLANT OF THE GOODYEAR TIRE RUBBER COMPANY AT AKRON, OHIO
&

zoa - rr-rrºr ** ºr ~ *r- --

A

A
a

*
*
r*
r

--
-
-
 fully $43 per share, for available. Hence we do not know how its lative, resumption

to is
and leave about since dividend not
Prior Preference Valuing the working capital has fared the price re yet sight. as

in
the seems reasonable

It
in
stock.
fixed assets at their book figure of $98, adjustment. Last June $70,000, sume that the re-establishment of normal

at
stood

it
000,000, the total assets behind the pre 000—a comfortable figure—but has conditions the motor industry should

in
if
it
ferred works out at $117 per share; but since shrunk considerably this factor may enable the company pay something

to
on
for the new common, at only $12% per offset the apparent superiority over Good 30 the preferred stock

at
this issue. Hence
fairly attractive long-pull specu

its
share—or just about present price. year. appears

a
Interest and dividends on the two bond lation. In this connection must be re

it
The Common Fundamentally Speculative
issues and prior preference stock will ag membered that Goodyear's troubles are
gregate $4,800,000. But

be
$13,000,000 net for mainly financial.

to

of
this must Our estimate Its products have not
sinking fund lost their prestige, and the valuable good

on
added $1,250,000 the of Goodyear leaves nothing for the common.
a

First Mortgage bonds, and another for the Its dilution through the issuance will built up by years

of

of
the national advertis
debentures, the amount bonus stock makes the establishment of
of
which not ing and honest merchandise should be

is
fu
be

any large earning power preserved unimpaired.

in
stated but may $500,000.
a at
estimated the near
In valuing

of
These two items would make total ture rather improbable. At the present the Goodyear issues we have
$8,550,000 charges ahead the 7% pre moment the salient point about the com assumed that the reorganization plan
of

of

is
Hence total annual payments mon that the total market value of the successfully completed. As this written
of
ferred.

is

is
only $11,000,000,
be

as
$13,100,000 would have met, before against the company announces that while over
to

new issue

is
anything par value prior se

of
for the common. $150,000,000 the creditors have consented

of

of

to
available 75%
is

Nor will the sinking fund operations re a

curities. the proposal, the co-operation the re

of
This relationship

be
duce these charges gradually, since what

of
the earmark the plan

If
an mainder must obtained.

is
ever amount
in

essentially speculative

of
adoption, receivership

of
thus saved interest must valueissue—the fails will then
is

a
go to redeem the Prior Preference stock. which will fluctuate widely with each appear inevitable, with more drastic treat
relatively small change the company's ment ultimately accorded the stockholders.

in
the Outlook?
Is

What
This possibility has served

to
earnings. Goodyear common must, there depress the
typical speculation; current market price

as
The great obstacle fore, be regarded lower level than
to

determining

to
what

a
are the reorganized company's prospects its market price will rise and fall with the warranted by the long-range prospects

of is
the impossibility general outlook the tire industry. the preferred
of
an

the issues, especially

of
selecting
of

lies
in

average The preferred stock also mainly specu

or

p.
normal year's operations on stock.-vol. 26, 166.
earning is
an

of

which
to

base estimate
power. As the graph shows,
in

twelve
years the company's sales grew from WHAT AMERICAN BUSINESS NEEDS
$2,000,000 $200,000,000, and
to

the assets
(Continued from page 666)
and capitalization were similarly expand
ing hundredfold. Hence the company's
a

or

exhibit five even two years ago may France's insistence upon large indemnity too long neglected. The time has come
a

afford very little indication future re

of

and her impatience with attempts miti when we must turn our attention to them
at

sults.
or

gation, postponement. Once and see that they are settled

in
evasion wise and

a
One thing
of

course clear—that for has been set

is

the question indemnity prudent fashion.

of
be

the time being sales cannot expected tled, Germany's creditors will know where The United States the most fortunate

is
to

approach year's record figure

of

be

last they stand and will plan for the among the earth today. We

of
to

able the nations

$206,000,000. reported that the com
is
It

future. the full enjoyment political se

of
are
in

pany will double shortly, of the in

its

operations Furthermore the settlement curity, ample resources and abundant capi
60,000 tires per week; but
to

of

basis demnity question

will aid clarifying the tal. am confident that we shall employ
a

in

this schedule probably means gross busi international situation and promoting the these advantages not only

to
rebuild our
less than $60,000,000 per annum.
of

ness international exchange nor

of

return own business machinery, but

to

to
aid the
a

we estimate the turnover under rather

lf

Until this readjustment the world, less fortunate

of
mal basis. has other nations
quiet (but not stagnant) conditions at, say,
been effected the resumption
of

normal than we, regain their feet.

to
a

$130,000,000, and the ratio profit after

of

2322.2%.
foreign trade cannot be expected, and upon
taxes at, say, 10%, this would give net depends
of

that the restoration business

earnings $13,000,000—or not quite
of

activity
at

home.
enough cover the preferred dividend.
to

In brief, then, would say that any

I

The bond interest should then be well

plan that helps
to

secured, and the Prior Preference dividend restore international

normal trade conditions will facilitate BANK WITH 221,788 DEPOSITORS
A

covered with fair margin, and doubt

normal business ac
a

the resumption
of

comparative figures
of

less paid. the preferred On the basis for

of

The situation tivity. There no cause for alarm

in
is

eastern institutions, the Bank Italy ap

be

stock, however, dubious,

of

would with Although peace has been de

the situation.
the likelihood against any disbursements parently has more depositors than any
clared, we are still enduring the war. This
for some time. United States.
in

other bank the

aftermath could not have been avoided."
be

Another angle on the problem can

The world's wealth was wasted and de 221,788 depositors are shown by the
obtained by comparison with Goodrich,
a

stroyed by the great struggle for the main Italy,

as

31, 1920,
of

of

the company's ancient rival. Since Good Bank December

liberty, and we must make up
of

year preferred quoted only 30, tenance approximately 25,000 more the next
at

can than
is

it

our minds frugality and unceasing in

to

be set off against Goodrich common, which largest institution reporting. These figures
dustry until the deficit has been supplied.
six points higher.
In

sells about 1919 represent depositor gain 32,277

of

the
in
a

Goodyear's sales exceeded those Good

of

Necessity Co-operation
of

Public last year.

The average deposit $630.
is

rich by about 20%. We may assume that

Of the present situation bears Italy moving into its
of

Goodyear's gross $130, course The Bank

is
to

reduced
if

is

000,000, the other company's might drop heavily upon business. trust that the new building on Market street, San Fran
I

public general will keep this mind

in

largest build
in

10% profit basis, cisco, one the country's

of
to

$105,000,000. On
a

may be re
as

and that such legislation ings devoted exclusively

of

Goodrich's earnings could then be $10,500, the purposes

to

000. Deducting note interest $2,100,000 quired from the incoming Congress and bank.
of

a
as

and preferred dividend $2,660,000, the such encouragement may be needed Among the be incor
of

to

new features
balance left for the 600,000 shares of com irom the new Administration will not porated
of

in of

the Bank
in

the new services

arouse opposition. Italy will
be

am sure that neither women's department,

or

$5,740,000 $9.50 per share. From

is

mon
I

view Goodrich common ap

Congress nor the new officials will grant an experienced and capable ex
this point charge
a of
of

pears attractive than Goodyear

more pre anything improper, and trust that no ecutive; children's department devoted
I

business undertaking will make any im

to

the interest and development

of

has the further advantage

of

ferred. school
It

savings; ca
be

paying proper request; but business must en safe deposit vault with
$6

dividend—for the time being,

a

a
a

diffi couraged rather than discouraged, pacity 26,000 boxes; large international
of

not being and

at

least—and financial
in

many reforms, both

an

taxation and department, and auditorium seating 250

in

• culties.
in

Z The 1920 Goodrich report not yet laws affecting our foreign trade, have been people.
is
United Drug C o.

is United Drug Cheap at 53?

Factors in the Collapse from 83
By BENJAMIN GRAHAM
NITED DRUG common, which on Highly distasteful as it is to discuss investor is satisfied with increased divi
the financial reverses of an individual, dends and a rising market, and cares very
July 25 sold at 83%, on July 27
any study of the United Drug situation little about dry statistics. But in these
touched 54, a decline of 29% points or
must necessarily turn about Mr. Liggett’s difficult times the security owner would
35% in two days. Wall Street inured personal statement. For despite the dearly like to know as frequently as pos
long since to such pyrotechnics, at first shrinkage of' 50% in the market value of sible just how his enterprise is weather
the common stock since Jan. 1, this docu ing the storm, and he is entitled to this
viewed the collapse with dull indifference.
ment contains the only information pub knowledge. The organization of the
But finally the ticker flashed the news that opera New York Stock Exchange has ap
lished regarding the company's
Louis K. Liggett, president of the com tions so far this year. It is significant parently not yet reached the point
pany, had placed his affairs in the hands where it can independently make sure
of trustees. Here was the personal ele that all the agreements contained in the
United Drug be listing applications are regularly ob
ment, and immediately
served. But when its attention is called
came interesting. The next day the af
to any default in this respect, it quickly
fair progressed into the picturesque stage energetically brings pressure to
and
upon publication of an intimate letter bear to have the conditions remedied.
from Mr. Liggett to his stockholders. Hence, if wide-awake stockholders will
insist upon obtaining the reports at the
This was headed, rather pathetically, '
periods agreed upon, they can get what
“Dear Partner," contained a rather vague they want.
and emotional account of the president's
A good many reasons are advanced by
difficulties, and insisted that the United companies for their failures to publish
Drug Company as such was in no way statements as frequently as promised.
involved in his embarrassment, but on the Some are merely frivolous, such as the
difficulty of computing income taxes—
contrary “is as sound as a nut."
when the earnings can readily be stated
The letter is extremely optimistic about before tax allowance. Others, with more
the condition and prospects of the com
logic, stress the difficulty of frequent
pany. Mr. Liggett calls United Drug a physical inventories in their line of busi
“sounder industrial than any I know,"
ness. But the cold facts are that there
and says it has no basic right “to be sell are very few large corporations now
ing at its present price,” because “the whose offices are not supplied with a
business has been in no way affected." fairly accurate income account and bal
ance sheet at least every quarter. United
Paradoxical
Drug Company itself‘ is a perfect case in
Yet, if these things are so, it is not \: '. '1: QT‘Y'-. point. The last listing application was
entirely clear why Mr. Liggett should Photo by Brawn Bros. dated May 15, 1920, and contained an
have come to grief. He insists he has earnings statement and balance sheet for
not lost heavily in outside operations, nor
LOUIS K. LIGGETT
the quarter ended March 31, only 45 days
It seems his financial Founder and head of the United Drug
gambled in stocks. before. It is now twelve weeks since May
from the decline Company, who declares his personal as
troubles arise entirely 15, but the earnings for the first quarter .
in United Drug, and the decline in the sets have shrunk $5,000,000 in eight of 1921 are still to be made public.
United Drug is due entirely to his per— months. It is at least possible that if last May
sonal difficulties. This sounds paradox the stockholders had been advised of the
ical, to say the least. that the prospectus of the new 8% bonds, company’s sales, profits, and financial po
At the outset we must express a doubt dated May 31 last, contained no figures sition, some of the more alert and intelli
as to whether either statement is entirely more recent than Dec. 21, 1920. The gent among them might have sensed dan
accurate. The indications are first—— writer is at present advised that a report ger ahead and acted accordingly.
which is of lesser importance—that Mr. will be published in “a week or ten days.”
But in the meantime seven full months Brief History of the Enterprise
Liggett’s losses are not confined exclusive
ly to United Drug; and second—of more have passed without the publication of a Leaving the field of conjecture, it is
significance—that the break in the stock single figure. The bewildered and appre time to consult the company’s financial
has more behind it than the president‘s hensive stockholder is thus reduced to a records for a more solid basis on which to
insolvency. There are grounds for both critical and even skeptical examination rest our analysis of its present position.
conclusions in the famous letter itself. of Mr. Liggett’s manifesto for some clue Handicapped as we are in that they reach
For Mr. Liggett declares he holds 39,000 as to the real status of his investments. no farther than Dec. 21, 1920, they may
shares of United Drug and Liggett's In At this point a brief digression regarding yet be found to shed some light upon
ternational common, and that his assets earning statements may not be entirely subsequent developments.
haVe shrunk $5,000,000 in eight months. inappropriate. When United Drug listed The business was originated in 1902
The range of prices during this period its stock in New York in October, l9l6, by forty retail druggists, headed by Louis
would point to a maximum loss of $2, its application contained an agreement “to K. Liggett, as a co-operative proposition
500,000 from United Drug stock, leaving publish quarterly an income account and for manufacturing and dealing in various
the balance of the same amount to come a balance sheet." In common with a great products usually sold in drug stores.
from other sources. As for the company many other corporations, this agreement From the first. therefore, the stockholders
itself, “the letter also acknowledges that has been quietly ignored from the very have been chiefly druggists owning so
“these are tough times," that inventory first. and for a full year at a time the called “Rexall” stores, who handled the
losses in sugar, rubber, etc., have been stockholders have remained ignorant of company’s merchandise. At the present
taken, and that business for the first six their company’s condition. time there are 8,000 such stockholder
months of 1921 fell 12% below 1920. In the halcyon days of prosperity, the agents, while the total number of stock

for AUGUST 20, 1921 549

holders was last' December unofiicially ing for taxes and excluding the Vivaudou tions. This was indeed astriking achier
placed at 16,600. In addition to manu profit—properly credit direct to surplus. ment of Mr. Liggett's, but we must not

a
facturing and distributing goods to re— Taken in conjunction with the fact that forget that corporations, like individuals,
tailers, the company also operates retail the tangible asset value of the stock was rarely acquire something for nothing.
stores of its own, known as Liggett Drug but $40 per share, clear that the The price paid for the Boot’s enterprise

is
it
Stores. In 1916, United Drug merged profits of $9 were far from justifying the was apparently $22,000,000 of which $12,
with the Riker-Hegeman-Iaynes inter high price of $175 touched by the issue 750.000 in preferred stock (apparently

is
ests, increasing the number of its retail in 1919. 6%) of the English company. The capi
stores to 145. At the end of 1920, 226 talization of the new enterprise cer—

is
Balance Sheet Items
stores were in operation. tainly topheavy, since the preferred stock
Our graphs present a picture of the Table traces the development of the aggregates $20,500,(X)0, against only $7,

I
growth of the number of stores, total chief balance sheet accounts from 1916 000,000 of common stock. Of the latter,
sales, net profits (before and after taxes) through 1920. In the first three years we $2,000,000 called class B, has sole vot

is
for the six years 1915-1920 inclusive. We note that fixed assets were increased but ing power, and all owned by United

is
also separate the sales of the retail and moderately, financed through corre Drug. The $5,000,000 of class non

A
sponding small expansion in capitalization. voting stock was offered to the public.
Inventories, however, grew from $8,000,

in
The net earnings, after preferred divi
000 to $14,000,000 or 75% against_a 40% dends but before British income tax, were
'17

'18

“16* increase in sales. Practically all this estimated at $1,000,000, of which 9%,“
$6,000,CK)0 addition to inventory was would accrue to United Drug. But to
UN! ED DRUG
financed by the expansion of current lia obtain this moderate income, United Drug
SALES éPROFlTS bilities. In 1919, the company sold $7, guaranteed the 8% dividend on $7,5(XMXII
500,000 of preferred stock, increased its of Liggett’s International preferred—thus
surplus by $1,600,000, and realized $700, assuming contingent liability of $6“),

a
000 on the sale of the intangible assets of 000 per annum. Even more, in order to
O
\n

Vivaudou. 1t
also reduced its invento persuade United Drug preferred stock
OIDOii¢r$‘

ries slightly, despite 14% addition to holders to invest in the new International

a
sales. These operations gave cash
3

it
a
issue, those who subscribed were offered
fund of $10,000,000 of which $3,000,000
was expended on new plants, and the bal
ance of current assets—excluding inven
‘VNITF. DRUG»

o
I
position. ended 1919, therefore, in ex
It
\N
0

OF RETHL DUSIIUI
Millions

cellent financial condition.

2.
5OCLROWIH
In 1920, however, we witness com~
H llll

(LFOS Sales
a
5

I
plete reversal of the tendency toward

ill]
Net before Taxes NO OF STORU
N

Ills-l” liter Taxes liquid strength exhibited the previous

SALES PER STOR
year. During the next twelve months
6 fixed assets were expanded over $11,001
0(X) and inventories more than $9,000,000.
Permanent capital raised, however, to
talled only $2,400,001 The result was
in
0

evitably tremendous increase in floating

a

Oirfllltd
You IVBiUdOU
W beforededudm br Inventors
Shrinkage indebtedness, and the balance sheet shows
t

notes payable of $20,790,000, against none

in the previous report. Stated differently,
wholesale departments. should be bal
It

whereas in 1919 the company had

a

pointed out here that the annual reports ance of current assets—excluding inven
all state earnings before allowance for tories—over current liabilities of $3,100, Sale: per Share ooo
taxes, which are deducted from surplus 000, 1920 this figure was transformed
a in

in the next year’s statement. The result into deficit of $14,700,000.

GROSS SALES
has been undoubtedly to give many people The wisdom of separating inventories
an impression of larger net profits than from the current assets in analyzing
a

\II
of Dollars
0

were actually realized. We have revised company's position has been taught the
the income accounts to allow for war investor by many hard experiences in re
taxes, and have estimated the deduction cent months. In fact the basic difficulty
for 1920. with industrials as whole_ may be
O
N
a

In order further to picture the progress summed up in the statement that their
ions

of normal earnings, apart from accidental inventories had ceased to be current or

charges or credits to income, we have sets.
'Mill

from the statement for 1919

O

eliminated The financial condition revealed in the

the profit of about $1,000,000 realized on 1920 balance sheet called imperatively for
the sale of Vivaudou, the perfume sub new capital, and hence in June of this
sidiary, and also from the report of 1920 year, United Drug sold $15,000,000 of
the loss of $687,000 written off for depre twenty year convertible 8% debentures. 1916 191'! 1918 1919 1920
ciation of inventories. The cash thus received has undoubtedly W *1MONTH LSIIMATED.
To reduce the profits to proper per placed the company in much sounder
a

share basis, we have treated all the sec liquid asset position.
ond preferred as the equivalent of com the right to exchange their present hold
Liggett’s International ings, par for par, for additional guaran
mon stock from the very beginning, as in
has practically all been converted An event of first importance during teed 8% stock. Hence, all the pre
if

fact
it

into common. When the figures are thus 1920, was the acquisition of Boot's Pure ferred stock had been so exchanged,
recast so as to give an insight into the Drug Co. stock of England and the mer United Drug would now have substituted
real performance of the company, we are ger of this enterprise with the British yearly fixed charge of $1,Z)0,000 for an
a

struck by the exceedingly moderate earn and Canadian subsidiaries of United optional preferred dividend payment of
ings shown by the common stock. The Drug. The new combination started $1,050,000.
1920 profits, before inventory shrinkage, with annual gross sales of $37,000,000 of No figures have been published as to
were the largest on record, and yet were which $32,000,000 was contributed by the the amount of United Drug first pre
only slightly above the 8% dividend rate Boot‘s stores. ferred exchanged for the Intematioml
established early in the year. The earn By thus adding over 50% to the busi preferred, so we do not know what the
is

ings for 1920 are referred to by Mr. Lig ness under its control, United Drug ex company‘s liability on account of the
gett as about $14.28 per share, but re pects to and undoubtedly will efiect im guaranteed dividends. clear that the
in

It
is

ality were only $9 per share, after allow portant savings in overhead and opera control of the Boot's Company must have

550 THE MAGAZINE OF WALL STREET

been of great value in order to justify the 1. Its plant account and inventory of 1921 was smaller in volume and
assumption of a possible annual obligation have 'both expanded tremendously at no doubt much poorer in profits than
of $1,800,000 to acquire it. This deal was the peak of costs, threatening severe in the previous year.
efiected on the eve of world-wide defla losses in marking them down to a With the most recent figures more than
tion, and whether all its results will be deflated valuation. seven months old, it seems rash to hazard
satisfactory is very much of a moot ques 2. In floating its new bond issue an opinion on prospects and stock values.
11011. the company has saddled itself with Yet, the writer believes that the facts set
The $15,000,000 bond issue referred to heavy interest and sinking fund re forth above make the maintenance of
above has greatly added to the fixed
obligations of the company. In addition
to interest of $1,200,000 the first year,
the company must pay $750,000 annually UNITED DRUG CO. COMPARISONS
as a sinking fund. Furthermore it must _ (000 omitted)
TABLE 1.—EABNINGS, DIVIDENDS AND PRICE RANGE, 1915—20.
maintain its current assets at 125% of
fiEarnod or Dividend
current liabilities, including the bonds, Net Preferred Balance for common paid on Price Range
failing which common dividends must be Year after taxes dividends common per share common High Low
1915 . . . . . . . . .. 1,608,000 525,000 1,081,000 8.71 ... ... ..
suspended until the required ratio is re '1910 . . . . . . . . .. 2 198,000 525,000 1,473,000 5.05 ... 80 72
stored. On Dec. 31 last, current assets 1917 . . . . . . . . . . 2,817,000 525,000 2,292,000 7.86 $8.75 80 64
1018 . . . . . . . . . . 2,507,000 525,000 1,982,000 6.79 0,00 90% 69
were $34,200,000 or only 135% of the cur '1819 . . . . . . . . .. 8 398,000 700,000 2,696,000 9.00 7.50 175% 901/,
rent liabilities, which amounted to $25, '1920 . . . . . . . . . . 3,981,000 1,100,000 2,876,000 9.51 7.75 148 91
1921 (to date). ...... .. ... . . . . .. .. 18.00 108 52%
370,000. It, therefore, the value of the in 'Proflt on Vivnudou omitted. TSee text. TAnnual rate.
ventories is reduced by only $2,500,000
(about 11%) the working capital would TABLE II.—DEVELOPMENT OF BALANCE SHEET ITEMS, 1915-1920.
fall below the required percentage and 'Other current Fixed assets Capitaliza
Year Inventory % Sales assetsnot less reserves tion 'Surplus
common dividends would have to be de 1916 . . . . . . . ,. 5,509 18.30} 229
fer-red. 1916 . . . . . . . .. 8,074 22.2 1,226 6,079 87.464 1,410
Conclusion 1917 . . . . . . . .. 10,593 26.2 Def. 357 7,832 35,119 2,885
1918 . . . . . . , .. 14,119 27.7 Def. 8,927 7,257 35,184 2,762 i
United Drug has been a successful en 1919 . . . . . . . .. 18,978 28.9 8,097 10,892 $5,878 4,381
192 . . . . . . . . . 28,118 88.8 Def. 14,776 21,410 48,297 4,245 I
terprise, conducted on sound principles, 'Adjustod for tax reserve. l
and enjoying very able leadership. But , a Q
it started with practically no tangible as
sets behind the common stock; and while
the earnings have been satisfactory, they quirements, and a working capital common dwidends very questionable.
have at no time compared with the war agreement which may seriously jeop— Further than that, with the uncertain,
record of many other industrials. Yet, ardize the common dividend. but potentially heavy losses facing the
though denied the extreme benefits of in 3. It has rendered its future still company in inventory shrinkage, and with
flation, United Drug has not escaped its more difficult by indefinitely guaran a dubious factor marketwise in President
ill effects. Since the end of 1919, its teed 8% dividends on a large amount Liggett's trusteeship, the stock holds forth
position has been greatly weakened by a of Liggett International preferred. very few attractions even at its present
number of unfavorable circumstances: 4. Its business during the first half low price of 53.

Railway Steel-Spring Co. Pressed Steel Car Co.

The Difference
Between the Investment Qualities of Two Equipment Stocks
By B. A. BERNSTORFF

HE Pressed Steel Car 1C0. manufac
tures the bodies and trucks
way ears, passenger, freight and street
cars. The Railway Steel-Spring Co., as
its name signifies, produces
springs, wheels and tires. Since
engaged in the same general field—railroad
equipment—it would seem that in order for
one of these companies to get much new
business the other must benefit also,
Such was the case until the government
took over the control of the railroads.
But during the period of government con
trol, which lasted more than two years,
very little new equipment was purchased
for the roads, expenditures being confined
very largely to repair work; and the for
tunes of the two companies mentioned dur
ing the period were very divergent. The
Railway Steel-Spring Co. (which company
did a flourishing business in repair work)
scored an increase in the amount earned on
the common stock in 1920 over 1919 of
about 2%; while earnings on the common
stock of the Pressed Steel Car Co. fell off
more than 50% because this concern did steel springs. In later years one or two
of rail not share in the repair work. of the plants were sold and other plants
were acquired. Among the properties ac
Railway Steel-Spring quired were the plants of the Steel Tired
Wheel Co. and the Latrobe Steel Company.
The Railway Steel-Spring Company is
the steel one of the largest, if not the largest, At the present time the company owns
both are manufacturer in the world of steel springs in fee, five plants for the manufacture of
for cars and locomotives, steel tired car steel springs, covering approximately 15
wheels, locomotive and car wheel tires, acres and having a combined annual ca
etc. It is only logical to expect that pacity of 155,000 tons; two plants (one of
when the railroads begin placing their or which also manufactures steel springs) for
ders for cars and locomotives the Rail the manufacture of tires, which have a
way Steel-Spring Company, being the larg combined annual capacity of 150,000 tons;
est manufacturer of its kind, will receive and four plants for the manufacture of
a large part of the orders for the steel steel-tired wheels, the combined annual
springs, tires, etc. If railroad buying does capacity of these four plants being 62,000
not commence at once, however, it is not tons.
to be presumed that Railway Steel—Spring In January, 1920, operations were be
will necessarily be idle. On the contrary, gun at the company's new plant at Mont
as instanced above, the company can be real, Canada. This plant is owned by the
counted on during a period of restricted Canadian Steel-Tire 8: Wheel Co., Ltd,
new buying to do a large business in re- . a company with a capital of $1,000,000, all
pair work which, at least, is inevitable. of the stock being owned by the Railway
The company was incorporated under Steel-Spring Company, While the figures
the laws of New Jersey in 1902, at which covering the operations of the plant for
time it acquired the properties of five the year 1920 are not reported separately
companies engaged in the manufacture of (the company showing only a consolidated

for AUGUST 20, 1921 551


Missouri, Kansas
Six Year Receivership at Last to be Terminated — Salient Features of the Reorganization
Value of New Issues Analyzed by Comparison with Similar Securities of St. Louis
& San Francisco
one of the most protracted
AFTER
financial illnesses
M. K. & T. is
in recent history,
at last about to
undergo a surgical operation that is con
fidently expected to restore it to corporate
health. Following six years of discussion,
delay and disappointment, its innumerable
doctors have finally agreed upon the
remedy required. The many investors
attached to the hapless patient by keen
personal interest will greet this announce
ment with all but incredulous relief.
Now that the Reorganization Plan has
at last been published, it is found to be a
workmanlike job, constructed on ap
proved modern principles. Its major
achievements will be the following:
A. It raises $i8,4od!boo in new cash
to be supplied by the stockholders.
B. It replaces eighteen individual bond
issues with only two mortgages.
C. It reduces the annual fixed interest
charges from $6,808,000 to $4,917,000.
D. It discards from the system 415
miles of unprofitable branch lines.
Nothing would be gained by presenting
a detailed analysis of the treatment ac
corded each of the countless old issues;
this article must rather confine itself to
a brief discussion of the essential features
of the readjustment scheme. In its gen
eral outline this is patterned rather closely
upon that of the St. Louis & San Fran
cisco, which discharged its receiver in
1916. Here very much the same problems
are solved in much the same way. The
financial structure is greatly simplified;
the fixed charges are substantially reduced;
while holders of the weaker issues are
given bonds bearing contingent interest
("income" or "adjustment" bonds) the
return on which depends upon the avail
able earnings of the system.
In determining the fate of each security,
chief consideration was given to the earn-
Railroads
& Texas Emerges
By BENJAMIN GRAHAM
ing power of the mileage which it covered.
Hence a junior lien on the main line — such
as the Second 4s— received better treat
ment than a first mortgage on an unprofit
able branch — e. g. the First Extension Ss.
In most cases provision was made for the
accumulated interest. Where payments
had merely been regularly deferred for six
months, the accruals are discharged in
cash. Holders of the less favorably situ
ated issues receive additional income bonds
or preferred stock for their unpaid
coupons.
The back interest for which provision
is thus made exceeds $25,000,000. More
over, new securities must be issued in re-
TABLE I— SUMMARY OF CAPITALIZATION CHANGES
Missouri, Kansas & Texas Reorganization.
Bonds with Fixed Interest
Bonds with Contingent Interest
Interest Accrued and Unpaid
Total Debt
Preferred Stock
CommonStock
turn for the $18,400,000 contributed by the
stockholders. Hence, despite the fact that
part of the existing debt is converted into
preferred stock, the total of both bonds
and interest charges of the new company
will actually exceed that of the old. The
summary of capitalization and interest re
quirements given in Table I, however,
demonstrates that the fixed charges on the
new basis will be considerably reduced.
The strong feature of the reorganization
is that over one-third of the funded debt
is in the form of adjustment bonds, the
interest on which need not be paid unless
earned. This elastic arrangement will be
found to benefit the holders of all the new
securities, including the adjustment issue
For in a year of extraordinarily
itself.
poor earnings the road can radically cur
tail its interest payments without penalty ;
whereas if all the charges were obligatory,
such a condition might entail another dis
astrous receivership.
How Some of the Old Issues Fare
A little over three years ago, the writer
contributed an article to The Magazine
of Wall Street, analyzing the position
of the various M. K. & T. bond issues,
then selling at unprecedentedly low figures.
It was therein pointed out that the com
pany had been making a much better ex-
, Old Company , , New Company-
Annual Annual
Principal Interest Principal Interest
$146,543,142 86,808,128 8100,329.818 84,917,717
57,500,000 2,875,OC0
25,252,288
8171.795.380 $6,808,123 $157,829,913 $7,792,717
18,000.000 24,600.000
682,882shares 783,156shares
(par, 8100) (no par)
hibit than the market indicated, and that
many of the issues carried possibilities of
substantial profit to the discriminating in
vestor. Now despite the upward rush of
the past few months, the general average
of bond prices is only slightly above its
figure in Oct., 1918. But it is interesting
to note the changes in the price of "Katy"
securities. The first and second 4s, which
were highly recommended, have advanced
from 62 and 32 to 75 and 47 respectively.
The Missouri, Kansas & Oklahoma 5s are
wortli 80, against 60 three years ago. On
the other hand, two of the issues then de
scribed as in a particularly weak position,
are being left entirely out of the reor-

TABLE II — COMPARISON OF SECURITIES

Reorganized M., K. & T. and St. Louis & San Francisco
, K A T T , , E I S C 0
Principal Interest Current Principal Interest Current
Amount Due Rate Price Yield Amount Due Bate Price
Equipment Bonds $7,247,691 ... ... ... ... $16,878,500
Underlying Issues ... ... ... ... 71,408,882
Prior Lien Bonds, Series A 62,942,752 1962 6% 77% 6.60% 86.198.650 1950 4% 70 6.27%
Prior Lien Bonds, Series B 27,286,000 1962 4% 65'/, 6.40% 24,950.000 1950 5-; 83% 6.25%
Prior Lien Bonds, Series C 12,894,570 1932 6% 98% 6.90% - 10,598.000 1928 6"! 96% 6.70%
Adjustment Bonds 67,500,000 1967 5% 42 *»I2.00'. 89,219.643 1955 6r; 74 *S.0*)%
Income Bonds ... ... ... ... 35,192,000 19C0 6% 56U 4:10.60%
Total Bonds $167,820,913 ... ... ... ... $282,940,675
Preferred Stock 24,500.000 ... ... 24 ... 7,500,000 88%
Common*Stock 783,155shares ... ... 10 ... 604,470shares 28%
(no par) (par, $100)

•Assuming full interest is paid. JStraight return.

172 THE MAGAZINE OF WALL STREET

ganized system. These are the Texas &
Oklahoma 5s and the Sherman, Shreveport
& Southern 5s, for which no fair bid can
be obtained at the present.
The most detailed treatment in the pre
vious article was given to the Missoui,
Kansas & Eastern 5s— which, though a
first mortgage on an important part of
the main line, were then selling at only 37.
At that time the bond was threatened with
unfavorable action in the reorganization,
tor reasons which appeared to the writer
wholly inequitable. It is reassuring to
TABLE III— INCOME ACCOUNT YEAR ENDED SEPT.
Miles operated
Gross revenues
Hot after taxes
Het for interest
Fixed interest charges
Times earned
Contingent interest charges
Total interest earned ...
Balance for Preferred
Earned per share of preferred
Balance for common
Earned per share of common
Gross per mile
% of total maintenanceto gross
% of other operating expensesto gross.
note that the issue is well taken care of
in the present plan, so that its value is
now over 75, or more than double its price
in 1918.
The New Securities
Outside of the small total of equipment
trust, the new company will have only four
security issues— Prior Lien Mortgage
Bonds, Adjustment Mortgage Bonds, Pre
ferred Stock, and Common Stock.
should be remembered, however, that
holders of some of the present senior liens
may not turn in their bonds for exchange,
in which case the old securities will no
doubt remain outstanding, the amount of
the new issues being reduced according
ly.) To obtain a definite idea of the
position of these new securities, it is
necessary to examine briefly the status of
the "Katy" itself. And to clarify our
judgment, it might be well to compare the
operating results and financial structure
of the new company with those of some
similar and well established system.
The St. Louis & San Francisco imme
diately suggests itself as admirably suited
for this purpose. For not only do Frisco
and Katy operate in the same territory
and enjoy the same density of traffic, but
their capitalization is arranged in nearly
identical fashion, making comparison not
only easy but inevitable.
Before considering the recent showing
of the two systems, some reference should
be made to the really remarkable growth
of M. K. & T. during the period of receiv
ership. From 1915 to 1920 gross revenues
increased from $32,453,000 to $72,915,000
—or 125%. Higher rates of course played
a great part in this result, but the tons
hauled one mile actually rose 52%.
the same time the improved technical effi
ciency is shown by the advance in the
train load from 364 to 504 tons. At an ex
penditure of $17,500,000, the physical con
dition of the system — grades, rails, ties, bal
last, signals, etc.— has been rehabilitated.
An additional $11,500,000 has been de
voted to enlarging and bettering the roll
ing stock. Furthermore the total outlay
for maintenance during these years has
for DECEMBER 10, 1921
a normal rate of about 34%. The differ- sion is not adequately reflected in the ul-
averaged 41% of gross receipts, against come account under discussion, because of
ence represents largely expenditures on the intrusion of an arbitrary factor-
the upbuilding of the property, charged namely, the much higher "Maintenance
to income instead of to capital. Ratio" of Katy. For while Frisco spent
T,
32.7% of its gross for upkeep, M. K. &
M. K. & T. versus Frisco vindicated the reputation of receivers by
The salient features of the capitalization appropriating 37.1% of revenues for the
of the two properties are given in Table good of the property. The similarity of
II, while the operating results for the location and traffic conditions marks this
twelvemonth ended Sept. 30, 1921, are divergence as one of policy, rather than
compared in Table III. The latter figures necessity. It operates of course to make
are the most recent available, and the Frisco's net earnings appear unnaturally
large in relation to Katy's exhibit.
A study of the figures of other roads
30, 1921 leads to the conclusion that while Katy
M. K. & T. Frisco has been overliberal in its maintenance,
3,784 5,129 Frisco has been inclined to skimp. For
$68,119,000 $91,416,000 an even figure, 35% of gross would have
11,493,000 16,328,000
9,522,000 15,027,000 been a reasonable allowance for upkeep
9,630,000
4,917,717 on both systems. To obtain a really sig
1.94times 1.56 times
2,875,000 4,450,000 nificant basis of comparison, we have re
1.22times 1.07times stated the income account on this basis
1,729,000 947,000
in Table IV, and have applied the new
$7.05 $17.00
14,000 497,000 results to the respective securities.
$.02 $.98
$18,000 $17,800 How the Prior Lien Issues Compare
37.1% 82.7%
42.7% 45.4% The above discussion affords a sound
basis for maintaining that the M. K. & T.
Prior Lien issues are more desirable than
period covered commenced after the ter their Frisco correlatives. In fact, three
mination of the Federal Guarantee and the distinct reasons may be stated for this,
inauguration of the increased rates. Can preference :
dor exacts the remark that our exhibit
1. The Katy bonds are "closer to the rails."
is not entirely accurate. The data is based Assuming all the old bonds exchanged un
der the plan, these prior lien bonds will be
on the monthly reports to the Interstate
an absolute first mortgage on the entire
Commerce Commission, which are usually property ; while in the Frisco readjustment
subject to year-end modifications. Some underlying securities aggregating $58,000,000
and covering 2,200 miles of the most valu
unimportant mileage of the Frisco is left able lines were left undisturbed.
out, and some discarded mileage of the 2. The interest charges appear better secured.
Even despite Katy's heavier maintenance
(It Katy is left in. Also minor items of mis expenditures, the actual margin above fixed
cellaneous income and deductions are ig interest was 94%, against 56% for Frisco.
On the basis of equalized maintenance, the
nored, being unavailable. With all these former road would cover its fixed interests
imperfections, the income account pre 2.23 times, the latter only 1.34 times.
3. The price is lower.
sented is nevertheless near enough to the Katy prior lien bonds are advancing faster
truth to afford a fair basis for deadly than this article can be written. Today
(Nov. 28) the 5s have reached 78, against
comparisons. 71 last week, but they are still five points
From Tables II and III
together we
under the Frisco Series B issue.
obtain the following significant relation The above remarks are not intended as
of total fixed charges to gross earnings : strictures against the St. Louis & San
TABLE IV — INCOME ACCOUNT YEAR ENDED SEPT. 30, 1921
Rated on the Basis of 85% MaintenanceRatio
Net available for interest $10,958,000 $12,926,000
Fixed interest earned 2.J3 times 1.34times
Total interest earned 1.41times .92
Earned per share of preferred stock $12.89
Earned per share of commonstock 1.84
Ratio Francisco Prior Lien bonds, which are-
Frisco to
Katy Frisco Katy attractive enough at the present price. But
(A.) Gross reve from a comparative standpoint, the M. K.
nues $68,119,000 $91,415,000 134%
& T. issues would seem to offer better op
(B.) Fixed in
terest .... 4,917,717 9.6.30,000 194% portunities to investors, especially those
Ratio (W) who are willing to hold these new securi
to (A)... 7.22% 10.53% 146%
ties until they have acquired some degree
Katy has the great initial advantage of "seasoning."
over Frisco of requiring only 7j4c. of
each dollar of receipts to cover fixed in The Income Bonds
At terest payments, against IOV2C. for the Judging from the same factors, the
other road. A second important source Katy Adjustment 5s would appear dis
of superiority is its lower cost of trans tinctly more desirable than the Frisco In
portation. For total operating expenses, come 6s:
other than maintenance, consumed 42.7% 1. The Katy bonds are directly junior to the
prior lien issues, while the Frisco Income
of gross, compared with 45.4% in the case 6s are subject also to $39,220,000of Ad
justment Mortgage 6s. Hence the former
of St. Louis & San Francisco. Under or
securities will be entirely a second lien,
dinary circumstances, these two basic ele while the Frisco Incomes have at best a
ments of strength would assure M. K. third lien, and to a certain extent only a
fourth lien on the property.
& T. a far greater margin of safety above 2. The Adjustment 5s should be better pro-
its fixed charges. This important conclu- (Continucd on page 208.)
173
 statement in Table IV makes the contrast
TRADE TENDENCIES much sharper. Not only are the Katy
charges now earned 1.41 times, but we see

Holders of page 199.) that Frisco actually fails to cover its full
(Continued front Income Bond interest. In other words,
taking the twelve months ended Sept. 30
as a criterion, St. Louis ft San Francisco

Low Priced production will be further curtailed until has been able to maintain full contingent
interest payments only at the expense of
there is greater stability in demand. the property.
Export trade in textiles is not particu 3. The M. K. & T. Adjustments 5s will be

Stocks larly good. This situation will probably
continue for some time yet. Small buying
in a number of foreign countries has led
have pre
WE
to curtailment of stocks and the demand
would now be greater were it not for the
pared a special difficulty encountered in securing credit
cumulative from Jan. 1, 1925, while the
Frisco Incomes are permanently non-cumu
lative. During the next three years at least
50% of the earnings available for interest on
the Katy Adjustments must be paid to the
bondholders. On the basis of the current
returns, this would mean that the Adjust
ments must receive at least 4% the first
year. It is eminently proper to give the

memorandum
- directors considerable discretion as regards
facilities. Improvement in this branch of
the portion of the earnings to be paid in
our foreign trade as well as in others is adjustment interest; in fact one of the criti
which should prove dependent to a large degree on improve cisms leveled against the Frisco reorganiza
tion has been that the contingent interest
of interest to hol ment in credit conditions. Should this
situation be rectified there is no doubt that
has been absorbing practically all the in
come, leaving very little to be ploughed into

ders of low-priced
the property.
a considerable volume of business would
At the present price of 42, these Katy
stocks with no spring up as the underlying demand abroad
is very large.
Adjustment 5s would yield just 12%

present dividend Jobbers have been disconcerted by the

straight, provided
full.
interest were paid in
Since current earnings exceed the
alternating character of the cotton mar
prospects. ket. When the latter market was on a
requirements, and since the prospects are
excellent for lower operating costs, these
low basis earlier in the year, the jobbing
A copy will ba gladly mailed on second mortgage bonds appear an attrac
interests were able to do a very large
tive speculative purchase. (This issue is
request for M. W. M business as their prices were low. With
convertible into the new 7% preferred
the advance in cotton, the jobbers had to
stock, par for par, until 1932; but if this
NEWBURGEP raise their prices, which had an adverse
effect on buying. Now with the decline
provision has any value, it must assuredly
be remote.)

HENDERSON in raw cotton, prices on cotton goods

have again declined, upsetting the confi M. K. & T. Preferred

6c LOEB
dence of the trade in this market.
Conditions in woolen manufacturing are
Member, tf New York and Pkiladeipkia not so favorable as several months ago.
Stock Exchange! This is accounted for by high-priced cloth
100 Broadway, New York ing and ladies' garments. The still high
Phone, Rector 7M* prices have affected demand and a num
ber of manufacturers are forced into rela
tive idleness. The outlook is that woolen
production will be further curtailed in
succeeding weeks.
Silk prices have advanced. Conditions in
this industry are irregular. Where pro
duction of silk fabric is very small, fac
Trustworthy tories engaged in silk hosiery manufacture
is still very good with a number of mills
Investment Service operating at capacity.
Ifyou desire to purchase
securities, you will do well
This security invites comparison, not
with Frisco preferred (of which only
$7,500,000 is issued), but with Frisco com
mon, since both are selling about 23.
While Katy new preferred is limited to
7% (cumulative after Jan., 1928), at its
present price it may be regarded virtually
as a common issue, because for years to
come it will doubtless absorb whatever
dividends are paid. Katy preferred makes
an incalculably better showing than Frisco
common. The former earns a full $7 per
share, against less than $1 for the latter.
Turning to the corrected maintenance fig
ures, we find that Katy's earnings have
risen to 12.89% on the preferred, while
Frisco would report nothing available for
cither class of stock. When this signifi
cant exhibit is studied with reference also

to investigate the unusually

MOTORS to Katy's smaller funded debt, the wis
dom of switching from Frisco common
complete service which we into M. K. & T. 7% preferred becomes
can place at your disposal. Downward Trend quite evident.
It includes facilities for pur Present conditions among automobile The New Common
chasing Odd Lots of stock, manufacturing establishments are not as Katy common starts its career with two
favorable as a few months ago. Demand
Foreign Exchange and all peculiarities. In the first place it is given
has fallen off as a natural consequence of
listed or unlisted stocks and no par value, — the first of the larger rails
the season and with the exception of the
bonds. to adopt this sensible arrangement. Sec
more popular closed-body vehicles, practi
ondly, while the amount to be created is
cally no types of cars are moving at what
tentatively fixed in the reorganization
might be termed a satisfactory rate. Sev
You can start investing plan, the right is reserved to reduce the
eral of the more important and better
with a small sum. We allotments to the old stockholders, should
established companies are operating at 75%
any regulatory body so decree. Just why
shall be glad to send you which is about the highest figure for any
a Commission might want to restrict the
full information regarding automobile company, but the bulk of these
number of no par value shares is hard to
companies are operating at 40-50% capa
the above.
city and the weaker companies are not
understand. A company cannot be over
capitalized by dividing the stockholders'
even producing that much. Several have
WRITE FOR BOOKLET M.W. already ceased production.
equity into a larger number of parts. To
prevent embarrassment to traders through
any radical change in the number of new
common shares to be issued, the New
MISSOURI, KANSAS & TEXAS
(hjsholm & (hapman EMERGES
York Curb is now dealing also in Katy
"Stubs." which represent whatever amount
Members New York Stock Exchange (Continued from page 173.) of new common will eventually be given
to the holder of one share of old pre
71 Broadway, New York City
tected by earnings. The actual figures show ferred or common.
total interest charges— fixed and contingent Our tables show that while the actual
— earned 1.22 times, compared with but
1.07 times for Frisco. But the revised figures for the Sept. 30 year leave practi

20K THF MAGAZINE OF WALL STREET

eally nothing for the new common shares, a
less liberal expenditure on maintenance
would have resulted in a balance of over
r
$1.80 per share, or 18% of the current
price. Any low priced railroad stock investment bankers
which is not in danger of receivership may
be said to have good speculative possibili
CHICAGO, 111.
10 S. La Salle St.
need our co-operation
ties. For every few years, with mechani
cal regularity, the "cheap rails are given
a whirl," which frequently means a profit Qualifying meritorious stock and
of 50% or more to the trader wise ST. LOUIS, Mo. bond issues under the Securities
enough to unload in time. Katy com Boat mans Bank
Laws of all states is an important
mon, at 10, sells under the stocks of any Bldg.
feature of our "Complete Service."
of the larger reorganized properties, with
the exception of Wabash. Mot only for Also, we are called upon, from time
these reasons, but also because it may soon MINNEAPOLIS to time, to place entire issues for
establish a respectable earning power of Minn. distribution. We invite correspon
its own, M. K. & T. common may be Security Bldg. dence from investment bankers who
recommended to those of speculative pro
T need such aid in widening: their
clivities.
service to the public.
WILMINGTON
Del.
Booklet M 11 describes what ive do
THE TREND IN DENMARK 927 Market St.
in qualifying securities. Sendfor it.
(Continued from page 161.)

WASHINGTON
August, we get the summary shown in D. C. Corporation Maintenance
Table II. Union Trust Bldg.
The Bank Rate and Service Company
The National Bank rate which at the
beginning of the fiscal year was 7 per JERSEY CITY
cent., was reduced to 6Yi per cent, on May N. J.
5, 1921, and further reduced on July 6 to
586 Newark Ave.
6 per cent. These reductions took place
at the same time, or nearly at the same
time, as the reductions in the English.
Swedish and Norwegian rates. The rates
of these countries are now respectively
5yi per cent., 6 per cent., and 6]/2 per cent.
It is maintained now, just as it was
during the war, that the influence of the
Bank rate on industry is not as great now'
as it was formerly, the fluctuations in the
rates of exchange and in prices being so
great that the Bank rate became of sub
ordinate importance. When, on the other Investment Securities
hand, industry was in a state of stagna
tion and the note circulation was declin
ing', there were no reasons for maintain
ing an abnormal Bank rate, and it was
only necessary to maintain such a rate
as would indicate that the Bank still in
tended to put a brake on too much free
dom in the granting of credits, while at
the same time making the indispensable
WHITEHOUSE & CO.
credit less burdensome than before.
Established
WHAT TO DO WITH PROFITS ON 1828
SHORT TERM BONDS
(Continued from page 167.)

preferred and common issues. The writer

cannot resist the temptation to point out Members of the
the fact that this preferred stock was
recommended as a conservative investment New York Stock Exchange
when it was selling at about 31 and to
quote the following from the article :
"The new preferred is not speculative,
but can be classed as a conservative in
vestment and at its present price it is de
cidedly out of line with other preferred
in Broadway
stocks of like character. It is the writer's New York
opinion that judging the stock on its
merits, it should be selling (even in the
present market) at a price to yield not 186 Remsen St. Keyser Bldg.
over 7j4%, and that when the investing Brooklyn, N. Y. Baltimore, Md.
public becomes thoroughly acquainted
with its soundness it will sell at a price
ten points or more above current quota
tions."

for DECEMBER 10, 1921 209

 Railroads
The Problems of Pennsylvania
Significance of Its Persistent Decline — Pennsylvania Railroad and Pennsylvania System in Sharp
Contrast — An Attempt to Gauge the Uncertain Future
By BENJAMIN GRAHAM
33, Pennsylvania is now selling at the March 20, 1920, issue of The Maga fer into some other security making a

AT practically its lowest price within

the memory of man. In the face
zine of Wall Street, and discreet doubts
were expressed regarding the maintenance
more satisfactory exhibit.

of substantial advances registered by many of the then 6% dividend. The following

The Latest Earning* Statement*
of the standard roads, the stock of Amer May The Magazine suggested a switch To return to Pennsylvania's current
ica's premier transportation system -has from Pennsylvania at 43 into Atchison at earnings, we find that the last three
suffered a gradual, but continuous decline. 80 (present prices 33 and 92). A year monthly reports are not only more satis
What is the significance of this disappoint later the "Pennsy" dividend was cut from factory than for some time past, but
ing market action? Is it occasioned by $3 to $2. Yet the failure of the market actually show the dividend requirements
the current earnings exhibit? Yet the in adequately to reflect these changed condi fully covered. (See Table I.) For the
come account so far this year shows an tions made it possible three months ago total net operating income from August
to October, inclusive, was $18,100,000.
while the net deductions for interest and
TABLE I.— RECENT EARNINGS OF THE PENNSYLVANIA SYSTEM. other charges are about $12,500,000, and
, Grow , , Net after Rent! > the quarterly dividend amounts to $5,000,-
1921 1920 1821 1920 000. Nevertheless, conclusions based only
January-July $382,876,000 $878,(96.000 J16.024.000 Def. $39,340,000
August 58,176,000 66,299.000 6.679.COO Def. 88,648000 on the results of these three months are
September 55,714,000 76,246,000 4,923,000 3,836,000 likely to be very misleading. For, this pe
October 59,538,000 78,513,000 6,498,000 4,429.000
riod is normally about the best of the
Total to October 81 $566,804,000 $698,664,000 $84,124,000 Def. $69,723,000 year, and the remaining months cannot
properly be expected to make nearly as
good a showing. During the past ten
enormous improvement over the 1920 fig for The Magazine of Wall Street years, August, September and October
ures, the increase in net revenue to Octo again to recommend an exchange from have been found to contribute about three-
ber 31 being no less than $105,000,000. Pennsylvania at 38 into Reading Pre eighths of the total net income, instead of
How is it that despite this extraordinary ferred selling at the same price. In the their proportionate one-quarter. If allow
progress, and contrary to the general mar meantime both issues have moved five ance is made for this seasonal variation,
ket tone, Pennsylvania shares have shown points — but in opposite directions — to the as it is called, the last three months are
persistent weakness? substantial benefit of those who may have found only to cover their fair percentage
This question admits of two answers. followed the advice tendered. of the year's fixed charges. There is no
The first is that current earnings, while These incidents are worth recalling be sign as yet of anything being earned to
far better than last year's, are still very cause they illustrate a peculiarity of estab wards the dividend.
poor. It is doubtful whether 1921 will lished investment issues which can be In Table II
we have constructed an in
show even the interest charges fully turned to great advantage by the alert, come account for the Pennsylvania Sys
earned. And, secondly, the market action intelligent investor. For, not only are tem for the year ended October 31, 1921.
of Pennsylvania is directly opposite to that such issues ordinarily strongly entrenched, The fixed charges are based on the 1920
of a speculative issue. Instead of nimbly but even should their safety actually be figures, later ones not being available.
discounting the future, it has been belated come impaired, the price of the issue is After making these deductions a deficit of
ly reflecting the past. Not a little of the
recent selling may have come from (Phila
delphia) investors who have just been TABLE II.— PENNSYLVANIA RAILROAD VERSUS PENNSYLVANIA SYSTEM.
studying the results for 1918. IncomeAocountof IncomeAooonntof
For, the unfavorable exhibit of Pennsyl Pennsylvania System Pennsylvania Railroad
Year endedOct. 81, 1921 Calendaryear 1917
vania dates back at least four years. The
(.000 omitted) (.000 omitted)
actual earnings of the system under Fed 11,622 % of Gross 4.641 % of Gross
unsatisfactory, Gross revenues $702,000 100.0% $255,093 100.0%
eral control were highly 265,933 37.3 82,228 82.8
the results being bad in 1918 and much All other operating expenses 352,841 50.3 118.365 46.4
Total operatingexpenses.... 618,774 88.1 200.588
worse in 1919. At that time there was a Taxes 28,672
78.7
4.1 10,120 S.S
widespread tendency to minimize the im Equipment and other rents. . 13,328 1.9 8.390 1.4
portance of these figures because of the 41,226 5.9 40,874 16.0
Total fixed oharges •77,762 21,701
abnormal operating conditions of the war •27,526 i20,108
period. 50,222 7.2 1.598 .6
Def. 8,997 Def. 1.8 39.281 15.4
Yet what grounds were there for tl9,968 2.8 29.951 11.7
the calm assumption that the return of Surplus after dividends Def. 28,960 Def. 4.1 9,830 3.7
•1920figures. tAt 4%.
the roads to their private owners would
immediately eliminate all the disparities of
Government control, and restore instanter
the pre-war earning power? For in truth very slow to respond to its new status. nearly $9,000,000 appears, before any al
the first six months of private operation Investors venerate their old gods long lowance whatever for the $20,000,000 divi
resulted in a larger deficit for "Pennsy" after their divinity is departed. Hence the dend. When it is considered on the one
than ever before, against which the road wide-awake iconoclast, who keeps track hand that there is no Federal Guarantee
was providentially protected by the con of developments affecting his holdings, has to make up this deficit, and on the other
tinuance of the guaranteed rental. plenty of time to dispose of the doubtful hand that these results reflect a full year
The situation was carefully discussed in issue, with slight, if any, loss, and to trans- of increased rates, it is small wonder that

318 THE MAGAZINE OF WALL STREET

"Pennsy" stockholders have become seri or indirectly senior to the $500,000,000 of nary conditions a well situated railroad
ously disturbed. "Pennsy'' stock. This is a far different should have no difficulty in saving 10%
But can these meagre results be fairly story than the $305,000,000 of funded debt of its total receipts for return on capital.
taken as a criterion of Pennsylvania's which made so favorable an impression The real trouble of Pennsylvania lies in
future earning power? Would they, there in the 1917 report of the Railroad Com its operating expenses. Out of each dollar
fore, justify us in definitely relegating the pany alone. of revenue, it has spent this year about
37'/2c. for maintenance, against a pre-war
average of about 33c. The remaining op
ni.— PENNSYLVANIA erating costs — for transportation, traffic
TABLE HAILB0AD VERSUS PENNSYLVANIA SYSTEM
(Continued). and general — consumed 50% of the gross,
Capitalization Structure. against a previous normal of about 42%.
Fennsylvania System Pennsylvania Railroad More concretely stated, if Pennsylvania
Dec. 81. 1920% of total Dec. 31, 1917% of total could have operated this year on its pre
3817.000.000 57.7% $895,470,000 48.7%
ranteed and minority stocks 101,000.000 7.1 10,085,000 1.1 war proportion of expenses to receipts, its
499,173,000 85.2 499,178,000 55.2 net income would have been fully $85,000,-
Total 31,417,178,000 100.0% $904,788,000 100.0% 000 greater— a little matter of $8.50 per
share of stock.
The question "Can Fennsylvania Come
Back?" discussed many months ago in
leading railroad of the country to the These facts rather rudely shatter the
The Magazine of Wall Street, might
category of damaged investments? So time-honored belief in the super-conserva
be restated as "Can Pennsylvania Reduce
serious a verdict cannot be based on the tive capitalization structure of Pennsyl
Its Operating Ratio?" The writer has
operating results of one year, or even sev vania. In this important respect the sys
faith in the ability of the road's manage
eral years. Confronted as we are by a tem is found to rank well below Atchison
ment, and expects to see it gradually ob
catastrophic shrinkage in net earnings, or Union Pacific. Nevertheless, its ratio
tain a firmer grip upon its operating costs.
dating as far back as 1918, we must ascer of stock to bonds is higher than for most
other roads — considerably better than New
The reader will realize the difficulties in
tain to what extent it has sprung from
volved in making a definite prediction of
temporary causes, and how far it has been York Central or Chesapeake & Ohio, for
future earning power. Volume of traffic,
caused by underlying, though unsuspected,
rate levels, wage scales and labor rules,
defects in the constitution of the system.
all have a direct bearing on this knotty
TABLE IV.— ESTIMATED NORMAL FTT-
Railroad versus System problem.
TTJBE INCOME ACCOUNT OF THE
PENNSYLVANIA SYSTEM. In Table IV there is hazarded a very
Some instructive and perhaps startling tentative and theoretical
% of Gross guess at what
information may be obtained by a study of Gross revenues $625,000,000100.0% might be called a normal post-war income
Tables II and III. The first presents a Maintenance £18,760.000 86,
Other op'ting expenses281,260,000 46. account for the Pennsylvania System.
condensed income account of the Pennsyl Taxes and rents 87,600,000 8, The primary assumption here is that both
vania System for the year ended October Bal. for fixed charges 87,500,000 14.
Net deductions 60,000,000 8, rates and wages will ultimately be sub
31, last, compared with the corresponding Balance for dividends 37,500,000 6. ject to further substantial reductions.
figures from the 1917 report of the Penn Dividends at 4% 20.000.000 8.2
Surplus after div'ends 17.600,000 2.8 The estimated ratio of expenses to reve
sylvania Railroad. This table exhibits nues is still considerably above the old-
side by side the facts of the present status time levels, but represents a great im
of Pennsylvania and the fiction upon provement over the current exhibit. This
which its past prestige was in some meas example, and comparing favorably with
imaginary statement shows the fixed
ure based. For, by confining its attention Southern Pacific.
charges covered about one and two-thirds
to the annual statements of the Pennsyl times, and a balance of about $3.50 per
vania Railroad alone, the investing public
High Operating Costs the Chief Difficulty
share of stock. A result of this kind
has obtained a highly incomplete and er Hence, while the fixed charges of the would permit the continuance of the cur
roneous conception of the company's Pennsylvania System are far greater than rent dividend, but would hardly be con
financial structure. In 1917 the railroad is popularly imagined, they are not so ducive to a return to the former $3 rate.
company proper operated only 4,540 miles, heavy as to constitute a structural weak To this hesitating and unenthusiastic
as against over 11,000 miles comprised in ness. It would require only 7% of the conclusion the facts at hand must lead us.
the system as a whole. A score of other gross earnings of the last twelve months The best that can be said is that there is
lines formed an integral part of the same to cover all charges, and an additional reason to hope that Pennsylvania's earn-
transportation unit. And while the Penn
3% to pay the $2 dividend. Under ordi (Continucd on page 359)
sylvania stockholders derived a good part
of their revenue from these affiliated com
panies, this income was first subject to
heavy deductions for prior interest and
other charges. The bonds and minority
stocks of these subsidiaries aggregated in
1917 over $400,000,000—an enormous lia
bility which in no way appeared in the
Pennsylvania Railroad Company's balance
sheet.
For the great bulk of these securities,
the Pennsylvania Railroad is nevertheless
ultimately responsible. In most cases the
interest and dividends are directly guaran
teed ; in others they are covered by rental
agreements. A large proportion of the
minority stocks have been acquired by is
suance of guaranteed bonds in exchange,
a procedure which is tending to elevate all
these stock issues to the class of obliga
tions ranking ahead of the Pennsylvania
shares. Table III reveals the true capi
talization of the Pennsylvania System on
December 31, 1920. The bonded debt is
no less than $817,000,000; the subsidiary
stocks represent another $101,000,000—a
total of $918,000,000 of securities directly

for JANUARY 7, 1922 319

only out of production, and that restric
tion of output holds down the real earn
ing power of the worker. But it is in
relation to rate-making that Mr. Lee
finds the greatest need of public help.
"In this matter," he says, "we feel
that the railroad managers should be
given more discretionary powers than
they possess under the present law. We
believe they should have the power to Nipple
Chicago
initiate such rate changes as in their
judgment are required, based upon the
needs of the railroads and the nature of
Manufacturing Company
the traffic involved. Such rates, we Class "A" Stock
hold, should then be allowed to go into
effect without interference by the reg We have prepared a circular describing the position
ulative bodies, unless objection is raised of these shares, on which Ayifo dividends have now
by interested shippers, either upon the
ground that' the rates proposed are con
accumulated. The Company's sales since organization
sidered discriminatory, or unreasonably in 1910 have increased from $28,336.76 in that year to
high for the service rendered. Upon $1,104,489.16 in 1920. Only $90,000 per year is required
such objections it should be the func to pay the 6% dividend on the Class "A" shares, which
tion of the regulative commissions to dividend is cumulative. The stock is listed on the New
hold hearings and determine the ques York Curb Exchange.
tions involved in a purely judicial man
ner. So broad a latitude with reference Ask for Circular A-\
to rates is perhaps too much to hope

Pell & White

for in the present state of politics, but
we feel that the position I have outlined
is perfectly sound and constitutes a goal
toward which we should work." Members New York Stock Exchange
Expansion Depends Upon Investors 43 Exchange Place New. York
That railroad men are under no illu
sions as to where the money is to come
from for the expansion that will be so
urgently needed when business revives
is made clear by Mr. Lee. "It has
turned out," he says, "that the railroads
can no more thrive and grow on mini
mum returns than men and animals can
thrive and grow on the minimum diet
which will theoretically support life.
For a long period of time very few peo
ple of the kind who are industrious
enough and wise enough to accumulate
savings have seen any inducement to
risk those savings in the financing of
railroad extensions in which there was
no hope for profit. For a minimum re
turn is not profit. Nothing to gain NON-CALLABLE BONDS
and everything to lose is a poor slogan
in the investment market. It correctly With continued improvement in credit conditions
describes the condition brought about
by restrictive and punitive regulation of advantage will probably be taken of the callable
the railroads, persisted in over a long attached to many bonds now outstanding.
privilege
series of years."
In other words, he says, the program
Non-callable bonds purchased at present prices
of extension that must be started
eventually is dependent on investors; assures prevailing high rates until maturity. \4
and until they are insured against ex
perimental tampering with the railroads We have selected a list of such high grade issues
the funds will not be forthcoming.
There is no question in the mind of the which will be forwarded upon request for circular
Pennsylvania official that this insurance W-53.
ultimately will be provided.

THE PROBLEM OF PENNSYLVANIA HORNBLOWER & WEEKS

(Continued from page 319.) 42 Broadway, New York City
Boston Chicago Detroit
ings may ultimately justify its present
price. The prospects for any substantial Providence Portland
market recovery must be set down as re Established 1888
mote. On the other hand, if the expected
improvement in net earnings does not ma
terialize — or is too long deferred — Penn
sylvania's stockholders may have to face
new disappointments.
Speculative Opportunities in Stocks
New Conditions Affecting Railroad Values — An Attempt to Estimate Future Earning Power —
Detailed Discussion of Six Issues
By BENJAMIN GRAHAM
purpose of this article is to dis lay chiefly in their relative interest mained for interest and other charges—

THE
cuss a number of railroad
which have good speculative
issues
possi
bilities, i. e., which under favorable condi
tions may increase substantially in market
price. Our attention must therefore be
confined to the low-priced issues, because
—as is well known — they are subject to
much wider fluctuations proportionately
than the standard shares. To use a ready
example, it would be by no means impos
sible for M. K. & T. new common to ad
vance from 8 to 16 in a good rail market ;
but a corresponding doubling in the price
of Union Pacific (from 120 to 240) is
practically out of the question. In con
nection with the issues treated, we must
inquire, first, "What are the factors which
will contribute most directly to an in
crease in value?," and second, "What are
the prospects of these factors being real
ized in the near future?"
But in order to judge intelligently of
the position of the individual companies,
it is essential that the reader have some
idea of the very extraordinary present
status of the railroads as a whole. The
developments of the past few years have
injected into the country's transportation
system a new speculative feature of the
greatest importance. For, in determining
the prosperity of any one road the empha
from capitaliza
sis has been transferred
tion (a fixed element) to operating costs
(a distinctly variable element). The test
of strength has come to lie in a highly un
certain factor, and hence the status of the
carriers as a class has grown essentially
speculative.
Theoretical as all this may sound, it has
so vital a bearing upon the future of the
low-priced rails that some elaboration of
the idea is necessary. Some two years
ago, John E. Oldham, once vice-president
of the Investment Bankers Association,
published a treatise entitled "A Compre
hensive Plan for Railroad Consolidations,"
which included a study of the position of
railway credit before Federal control. It
was here pointed out that the distinction
between the strong and the weak systems
charges. In character of traffic, rates, and
operating costs the two groups of carriers
showed very similar results. By taking
the so-called Test Period as a basis (July
I, 1914, to June 30, 1917), it appeared that
while in the case of the strong roads only
II. 5% of gross receipts were required for
interest and other charges, the correspond
ing figure for the weak roads was almost
double, or 222%. This latter amount rep
resented nearly four-fifths of the net earn
ings of these systems, so that the small
margin remaining was not sufficient to per
mit dividends on the stocks, or even to
assure the safety of the bonds.
Hence the poor credit of second-grade
roads was found to arise primarily from
over-capitalization, in particular, from too
large a proportion of bonded debt to gross
revenues. But the enormous expansion of
both receipts and expenses in recent years
has greatly reduced the relative impor
tance of the fixed charges. For, in 1920
interest requirements consumed only 7.7%
of revenues, as against 11.7% four years
previously. Given a normal operating
ratio, any read would now have no dif
ficulty in meeting its interest charges, and
almost all would be earning substantial
amounts on their stocks.
Operating Cost* Now the Ruling Factor
The primary requisite of a prosperous
railroad is therefore no longer conserva
tive capitalisation, but rather operating
economy. The extraordinary variations in
the operating ratio since 1917 stand out
most prominently when contrasted with its
stability in previous years. (By operating
ratio is meant the percentage of gross
revenues consumed by all working ex
penses other than taxes). From 1908 to
1917 this ratio was never more than 73%
or less than 6Sy2% ; in five years the fig
ure stood between 70% and 71%. But in
1918 it jumped to 81.4%, in 1919 to 85.1%,
and in 1920 it reached the incredible figure
of 94.5%. In that year, after making fur
ther deductions for taxes and equipment
rentals, only 1% of the total receipts re
to say nothing of dividends. In 1921, how
ever, another wide swing was registered in
the opposite direction, the operating ratio
having been reduced probably to about
84%.
The effect of such fluctuations upon the
exhibit of any individual road is nothing
short of magical. Take Rock Island as
an example. A reduction of 10% in its
operating ratio would mean an annua!
saving of about $14,000,000 (based on 1920
gross), equivalent to over $18 per share
of common stock. Hence with revenues
on their present scale, even a moderate
change in the rate of expenses will pro
foundly affect the position of railroad
stocks.
Given this kaleidoscopic background of
the railroad situation, how shall we go
about judging the position of the various
low-priced shares? The difficulty lies evi
dently in finding some definite basis for an
estimate of future earning power. The
results of the pre-control days are cer
tainly too remote to be of much help un
der the present greatly changed conditions
On the other hand, the exhibit of the las-
four years have been so dominated by the
distorting effects of Government operation
as to make it a very questionable guide to
future performance. The 1921 figures, of
course, deserve careful attention;
but in
the present state of flux they can hanlK
be accepted as conclusive.
The facts at hand being thus insufficient
for our needs, we are driven to supple
ment them with an admixture of theory
The future earning power of the carrier?
must be estimated — "guessed at" is proba
bly the more accurate term — in accordance
with some arbitrary principles. The two
uncertain elements involved are the gross
receipts and the operating costs — the for
mer depending on both volume and rate*,
the latter on wages and material prices.
Tn preparing the appended tabulation of
expected normal earning power, the tota'
revenues have been taken at 80% of the
1920 figures, while the net earnings, after
taxes, are assumed to equal 20% of the

TABLE I.
SIX SELECTED LOW-PRICED RAILROAD ISSUES
ESTIMATED FUTURE EARNING POWER
Interest and
Other Balance
*
Earned on
Estimated Balance Equipment Deductions Preferred for Per Present Present
Road Gross After Taxes Rentals, eto. (Net) Dividends Common Share Price Price
Revenues (20% of Gross) (Net) (Est.) (1920figures)
St. Louis Southwestern... $24,800,000 $4,860,000 $2,140,000 $1,000,000 $1,820,000 $11.03 21 82.4~r
Pere Marquette 82.S00.0O0 6,460,000
22,600,000
$1,500,000
8,500,000
2,097.000
10,502.000
1.072,000
3,640.000
1,791000 S.98 20 lO^
Rock Island 118.000.000 4.948000 6.G5 SI 21.4%
Chic. * East 111 24.720.000 4,944.000 6.800,000 2,327,000 1,828,000 1,594,000 6.CO 14V, 45.t"-c
Balanoefor
Preferred
M. X. * T 58.40O.0O0 11,6(0,000 1,400,000 7.793,000 $2,498,000 •10.17 •40.0
Pfd.24 1
1,880,000 500.000 463.000 917,000 t9.17 Com 14f t24.2«l
Toledo. St. Louis ft West'n 9.400.000
•Per share of Preferred. tPer unit of one share Preferred and one share Common.

392 THE MAGAZINE OF WALL STREET

gross. Neither of these percentages can
be justified on mathematical grounds, but
they represent the writer's best judgment
on a very uncertain subject. The estimate
of revenues is equivalent to a decline of
about 12% from the 1921 totals, and at
the same time operating costs are expected
to be reduced far more radically.
After a careful study of the entire low-
priced railroad lists, six issues have been
selected as appearing to have the best spec
ulative possibilities. The position of these
companies is analyzed in Table I on the
basis of theoretical future earning power,
and in Table II on the basis of the actual
operating results of the year ended No
vember 30, 1921. In both cases the net
rixed charges are taken from the 1920 re
ports, and hence are likely to be somewhat
understated. The six issues chosen will
now be discussed in the order of prefer
ence.
1. St. Louis Southwestern. — This
common stock makes by far the best sta
tistical exhibit in the entire railroad list.
Its actual earnings for the past year were
no less than $9.50 per share, or about 45%
of the present price. The estimated future
earnings arc even larger, and, if realized,
would exceed 50% of the current quota
tion of 21.
This road also made an excellent show
ing in 1920, having earned $8.75 per share
without reference to the Federal Guaranty.
The latter result is the more noteworthy
when it is considered that the company
lad expended over 40% of its revenues for
maintenance. In the first ten months of
1921this percentage was reduced to 35%,
the saving in upkeep going to offset a loss
of 20% in gross receipts. While the cur
rent maintenance figures are therefore a
little low, it can hardly be asserted that
the property is being skimped.
Those who remember the "Cotton Belt"
as a struggling little system, its general
reputation perhaps not of the best, may
wonder at the reason for its sudden rise
to prosperity. The primary factor has
been an extraordinary growth in revenue,
which expanded from $10,627,000 in 1915
to $31,020,000 in 1920—practically three
fold. (In the same period the receipts of
all the lines were a little more than dou
bled.) By far the greater part of this in
crease is due to heavier traffic, the higher
rates having played a minor role.
The chief question in regard to St.
Louis Southwestern is therefore whether
it can retain the greater part of its in
creased business. Added point is given
to this query by the fact that the decline
in its gross last year has already been
more substantial than the average. Yet,
even allowing for a greater shrinkage in
future traffic than is provided for in our
tabular estimate, the Cotton Belt should
still possess sufficient earning power to
justify a higher price than 21 for its com
mon stock.
2. Missouri, Kansas & Texas New
Preferred. — The prospects of the reor
ganized Katy were discussed in detail by
the writer in a recent issue of The Maga
zine of Wall Street. While its very low
price makes the new common decidedly
attractive as a pure speculation, the 7%
preferred has, of course, far more intrinsic
merit. Its theoretical earning power is
given in Table I as $10 per share, while
the actual earnings last year were equiva
for JANUARY 21, 1922
lent to about $7.90 per share. The recent
exhibit would have been still better, were
it not for the abnormal maintenance ex
penditures that always accompany a re
ceivership.
Under ordinary circumstances a railroad
common stock selling at 8 would seem to
have better speculative possibilities than a
preferred issue at 25^. But M. K. & T.
new preferred has three special points in
its favor. The first is its 7% rate— as
against 4% to 6% for most other railroad
preferred stocks. This no doubt gives the
preferred shares a claim on all the earn
ings that will be distributable for many
years. Secondly, this issue will ultimately
be cumulative, a feature which will greatly
strengthen its position. And finally, there
will be only one-third as many preferred
as common shares, so that the entire senior
issue is now selling in the market for no
more than the entire junior issue. Because
of these considerations, the writer believes
TABLE II.
EARNINGS FOR THE YEAR ENDED
Grots
Boad Revenues
St. Louie Southwestern $26,604,000 14,660,000
Fere Marquette 38,619,000
Book Island 141,048,000 18,810,000
Chic, ft Eeet HI 26,171,000
M. K. T 68,085,000
Toledo, 8. L. ft Western. 9,729,000
tSee Text for Source of Figures. 'Preferred Stocks, $PerT7nit of one ihare Preferred and
one snare Common.
that Katy preferred, in addition to repre
senting a more conservative commitment,
is likely to double in price almost as soon
as the common.
3. Toledo, St. Louis & Western
(Clover Leaf). — As this article is written,
the final details are being wound up of a
protracted litigation, which has kept the
property under the cloud of receivership
for many years. The matter under dispute
was the validity of $11,527,000 collateral
trust 4% bonds, issued to acquire Chicago
& Alton stock. Under the settlement re
cently arranged, all of these bonds are to
be cancelled, in return for a cash payment
of $1,130,000 and various amounts of Alton
and Clover Leaf stocks. To provide these
securities the stockholders of the Toledo,
St. Louis & Western will be required to
contribute 10% of their holdings, against
which they will receive scrip.
The elimination of these collateral trust
bonds will cut the Clover Leafs interest
charges almost in two. Taken in conjunc
tion with the recent excellent showing of
the road, this development will result in
a very substantial earning power for the
stock. At present prices both the pre
ferred and common issues offer separate
advantages, and in buying into this situa
tion it would probably be wise to acquire
equal amounts of the two classes A com
bination of one share each of common and
preferred (4% non-cumulative) will cost
only $38, and will give the investor a fixed
interest in future earnings estimated at
over $9, regardless of how they are ulti
mately divided between the two issues.
The actual earnings the first year appear
to have been nearly $11 on such a com
bination.
Special allowance must be made for the
10% reduction in holdings provided by the
pending settlement, and also for a proba
ble slight increase in fixed charges because
of the cash payment to be made by the
road. Nevertheless, the exhibit — both
actual and potential — is extremely favor
able, and would seem to justify substan
tially higher prices for both issues after
the receivership is finally lifted.
4. Pese Marquette. — This road was
reorganized in 1917 with a greatly re
duced bonded debt, and its record of earn
ings since then has been much better than
the average. In 1919 it actually returned
more than $9 per share on the common. It
will be seen that the income available for
dividends last year (Table II)
was some
what larger than our estimate of future
earnings (Table I). The strong current
exhibit is in some measure due to a re
duction of maintenance charges to but
33.2% of gross
— a figure which looks in
sufficient. The small sums expended on
NOV. 30, 1921t
Balanoefor % of
Net after MaintenanceCommon Per Market
Rents Batio Btook Share Prloe
85.0% $1,520,000 39.60 45.2%
6,225.000 83.8% 2,066,000 4.66 tS.8%
86.6% 1,668,000 8,16 7.2%
8,447.000 42.87c Deficit
9,629,000 87.0% •1,886.000 •7.90 •ii.o%
1,668,000 36.7% •1,096,000 $10.85 *28.8%
upkeep in 1921 may be explained as a re
action from the overliberal policy of the
year before.
There are two classes of 5% cumulative
preferred stock ahead of the common. On
the prior issue dividends have been paid
regularly from the start. A dividend of
10% has just been paid on the second pre
ferred, leaving 5% additional still accumu
lated up to January 1, 1922. If the road
is able to continue its present showing, it
should have no difficulty bringing its pre
ferred payments up to date in a short time,
after which the common may be in line
for a small disbursement.
5. Rock Island. — The chairman of the
Board recently announced that Rock Island
closed 1921 with about $3 per share earned
on the common. The figures for the
twelve months ended November 30 show
only $2.25 earned on the junior shares.
These are based on the I. C C. reports
for gross and net, using the 1920 items of
interest and other charges and credits. It
should be pointed out in connection with
all these figures that the totals of the
monthly statements are often subject to
rather substantial adjustments in the com
plete annual reports.
While Table II shows only 7% actually
earned on the present market price. Chair
man Hayden's estimate is equivalent to
nearly 10%. Furthermore, our estimate
of future earnings is over $6.50 per share.
Rock Island serves a rapidly growing ter
ritory, as is shown by the fact that its
gross receipts were maintained in 1921 at
very close to the 1920 record figure. The
preferred dividends have been paid regu
larly from the outset, but the company
suffers from the lack of an adequate medi-
on page 429)
{Continucd
39.1
tock, in recent years, has received large
onuses, in the form of cash and stock
dividends. The payments for the last five
uarters to date were as follows:

anuary, "21 1$4%

ipril, '21 154%
uly, 71 iyA%
ktober, '21 1*J%
anuary, '22 ty*%, plus 3% extra

Without knowledge of the actual earn- 25 Year External 6% Gold Bonds of

ngs record of this company, it is unde-
iirable to take too emphatic a position
cgarding the common shares. On the
>ther hand, the company's record shows
i prejudice in favor of generous dividend
DUTCH EAST INDIES
lisbursements ; sales last year were four
(One of the richest of all colonial possessions.)
imes as large as they were seven years Not Redeemable During First Ten Years.
jefore; the company is strong in cash and
Price 94 V2 and Interest
aijoys an established market for its prod-
lcts. These factors certainly entitle Ward To yield 6.75 to earliest redemption date, Jan. I, 1932
Paking common to a very high specula 6.45 if held to maturity.
te rating.

Lawrence Chamberlain & Company, Inc.

SPECULATIVE OPPORTUNITIES NEW YORK
115 BROADWAY
IN RAILROAD STOCKS
(Continued from page 393.)

urn for future financing. If this obstacle

is removed, Rock Island common should
eventually grow much more valuable.
6. Chicago & Eastern Illinois. — This
is the youngest full-fledged member of the
Reorganization Lodge, its final degree hav
ing just been awarded. The engineers who
examinedthe property for the bankers esti
mated the normal future balance available
for interest charges at $5,300,000. This
corresponds closely with the figure arrived REORGANIZATION OF
at in Table I. On this basis the road
should earn $6.60 per share of common
stock, or 45% of its current price. The
Missouri, Kansas & Texas Railway Company.
actual results in 1921, however, were very
disappointing, as only a nominal balance
was shown over interest charges. This un
expectedly poor exhibit was caused in Notice is hereby given that the Reorganization Mana
good measure by the abnormally heavy gers have declared operative the Plan and Agreement of
maintenance outlay, which consumed no Reorganization of Missouri, Kansas & Texas Railway
less than 45l/2% of gross. There was also Company, dated November 1, 1921.
a peculiar shrinkage in the credit for The time in which deposits of bonds and notes of the
equipment and joint facilities rentals. In
1920the company had realized about $1,-
System may be made under said Plan and Agreement, and
667,000 net from these sources, but last within which Certificates of Deposit which are required to
year this extra income well nigh disap be stamped as assenting to the Plan and Agreement may be
peared. presented for such stamping, is extended until and includ
Considering the low price of C. & E. I. ing February 4, 1922.
common, the speculator may well afford
to ignore the mediocre performance of last The time within which holders of Preferred Stock and
year, and place his reliance on lower op Common Stock may deposit the same under the Plan and
erating costs in the future. Agreement is extended until and including February 4,
1922, but stockholders depositing on or after January 11,
Apologia 1922, must pay at the time of deposit, in addition to the
Because of the wide rang, of the sub first instalment payable under the Plan, interest thereon at
ject under discussion, it has been neces the rate of 6% per annum from January 7, 1922, to the date
sary to omit many details considered in of payment.
arriving at the conclusions stated. Despite
the great amount of time and care ex Copies of the Plan and Agreement may be had from the
pended in this study, the recommendations
undersigned Reorganization Managers.
made can be set forth only in tentative
and undogmatic fashion. For the reader
no doubt realizes to what extent more or
less arbitrary estimates have unavoidably
J. & W. Seligman & Co. Hallgarten & Co.
entered into these calculations. But, after Reorganization Managers
all, judgment and not mathematical pre
cision is the basis of all speculation, and
it must not be forgotten that the oppor Dated, New York, January 11, 1922.
tunities herein described are primarily for
the speculator.

for JANUARY 21, 1922 42?

 Industrials
Arithmetic and Stock Values
Capitalization Structure as Affecting Earning Power—Magical Re
sults of a Little Slight-of-Hand—Owning a Corporation on Margin

By BENJAMIN GRAHAM
NOTE:-The influence of capitalization
structure upon the carning power of cont
mon stocks is cartremely important,
little understood.
but
This article show's 2–Old
JULIUS KAY SER
No. Shares *Price
Capitalization—
& CO.
,
—-New Capitalization——
Total Value No. Shares *Price Total Value
through actual cramples how changes in
the proportion of common stock to pre
Preferred . . . . . . . . . . . 16,400
Com.mon . . . . . . . . . . . . 60.100
120
100
$2,000,000
6,600,000
66,100
115,000
95
20
$6,300,000
2,300,000
ferred will vitally affect the carnings for
Total. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $8,600,000 $8,600,000
share. The application of this principle
to certain issues has had a striking effect Net Earnings (Average) . . . $1,500,000... . . . . . . . . . . . . . . . . . . . . . $1,500,000
Per Cent of Total Capital. - .4% 17.4%
upon their market price. Balance for Common. . . . . . $1,370,000 $971,000
Per Cent of Market Price. . . . . . . . . . . . . . . 42.2%
N a recent issue of THE MAGAZINE * Price at Date of Recapitalization.
of WALL STREET, one of the leading
articles was devoted to a comparison NORTH AMERICAN CO. |
of a number of listed common stocks
from the standpoint
–old
No. Shares *Price
capitalization—,
Total Value
2 —New
No. Shares
Capitalization——
*Price Total Value
of the percentage
Preferred . . . . . . . . . . ... - - - - - -- -- - - - - - - - --- 300,000 32% $9,750,000
of current earnings upon their market Common . . 300,000 65 $19,500,000 300,000 32% 9.750,000
price. It was pointed out very properly
that in the last analysis earning power Total. . . . . . . . . . ... . - - - - - - - - - - - - - - - - $19,500,000 $19,500,000

must always be the chief criterion of Net Earnings After Depreciation (Year
Endºd July 31, 1921). . . . . . . . . . . . . . . . $3,000,000... . . . . . . . . . . . . . . . . . . . . . $3,000.000
stock values—exceeding in importance Per Cent of Total Capital. . . . . . . . . . . . . . . .
Balance for Common. . . . . . . . . . . . . . . . . . . . . $3,000,000... . . . . . . . . . . . . . . . .
.
15.2% . . . . . . . . . . . . . . . . . . . . . 15.2°,
$2,100,000

. ...
asset backing, financial condition, and
Per Cent of Market Price. 15.2% 21.5°s
dividend return. For it is the

..
.
.
.
.
..
.
.
.
.
.

.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
..
even
.
.
.

.
..
average rate of earnings which deter * Price at Date of Recapitalization.
mines the real value of the physical
assets, which weakens or strengthens the
cash position, and which finally must con
trol the dividend policy. pre
of

the smaller the ratio company with the larger earning power
to

common
The study of corporation earnings as ferred stock and bonds, the more “specu on its common stock has decided:

its a
on
related to security values involves certain latively" the company capitalized. smaller earning power total capi.
is

on the first basis, Mack Truck

If

elements which usually receive slight con We are now ready for concrete ex tal.
the
be

on
sideration, yet which are not only inter amples. appears selling 10% too low,
to

White Motor and Mack Truck

esting in theory, but often of great prac naturally invite comparison, since both second would seem with greater rea
be it

the motor-truck industry selling 20% too high.

to

Unless properly inter are leaders son

in

tical importance.
preted, a comparative table of earnings and are fairly similar size and market This paradox has simple explanation
in

per share of common stock may result at quotation. Taking the most recent esti White Motors has only one kind stock of
1922 profits, the two common
of

times in quite misleading conclusions. mates but Mack Truck's capital divided abºut
is

For some of the companies showing the stocks would size up

as

follows: evenly between 7% preferred (First and

largest profits on their common may at Second) and common. The effect
of

Ratio of this
the same time be earning a relatively Current Current Earnings arrangement detail."
is

worked out
in

Price Earnings
to

small percentage of their total capitali Market

of

the table. Since half Mack's capital

*

Per Share Per Share I’rice

Zation. 7% dividend, the earninks
to

Mack Truck.... 5S restricted

i $9

15%
a
º

Pº
go

White Motor. 50 1.4% above the dividend

to

swell the
..

What Is Conservative Capitalization?

basis,
centage available for the common. Whº
On this Mack would appear
to

Motor, however, must evidently earn the

be

selling
as

In this article, capitalization is always about 10% too low compared

as

same proportion on its common stock

measured by m (rket value. (Par values with White, and therefore have greater the
to

*
does on its total capital, because
it

are just as irrelevant here as the Prohi intrinsic merit present prices. But
at

two are identical. sº"

If

to

White were
bition Amendment. let us consider these companies from an
the

In fact, the removal

as up

its

on

capitalization same
of the par value is growing as customary other and more fundamental standpoint.
Mack, then—as our table shows
".

among stocks as that of the appendix How do their earnings compare with this
on
of

its

stead earning 14% common.

among humans—and for the same rea their total capital? Here
is

different automatically raised

tº

figure would
be
a

figures:
of

son, namely that it is of no earthly use set

Current 20%.
and often cause grave annoyance.) For Total Net Earnings
of

The Case American Ice

reasons that may soon appear clearer, Capitalization Profits on Total
Mºket Value) 1922 (est.) Capital stock
ap The smaller the ratio
of

is usually commo"
(

the term “conservative”

plied to a capitalization Mack Truck. $31,500,000 $3,700,000 11.70%
total capital, the less dependa".
to

structure wherein
.

3,500,000 14.00%
"

White Motor. 25,000,000 the

inº."
an

the amount of common stock represents

as

the profits per share

a large percentage of the total. Con To illus
of

The result the second comparison company's real earning power-

example,
by

versely, it will be convenient to say that directly contradicts that importan"

an

trate this point

of

the first. The

()08 THE MAGAZINE OF WALL- STREET
 in the table we analyze the 1921 results on its capitalization, shows a decidedly More important still, the monthly in
of the American Ice Co. A striking con smaller percentage earned on its common creases in earnings were now made ap
trast is afforded by the inclusion of the stock. If May Department Stores had plicable to only 10 millions in market
corresponding figures of All America boen capitalized on the same basis as value of common, instead of 20 millions,
Cables, which sells at about the same Associated Dry Goods, it would have as before; and so amounted to just twice
price. (This is a listed issue of great earned last year 21.9% on its common as much per share. The result was a
merit, entirely neglected.) The cable stock, against 16.6% for the other con speedy and continuous advance in the
company is readily seen to have a smaller cern. Once more we observe that a sim price of the new stock. The preferred
capitalization and much larger earnings. ple transformation of common into pre is now at 46 and the common at 100.
Nevertheless American Ice common ferred stock will suddenly double the ap Hence one share of each is together
earned 18% on its present price, while parent earning power of the junior issue. worth 146, against 65 for the old com
All America shows but 12%%. The ex At this point the reader well might mon at the time when the exchange was
cellent exhibit of American Ice common ask: “If a little juggling of capitalization operative. And we have not considered
is found, upon analysis, to be due not can work such wonders, why hasn't it the large additional value of subscription
so much to extraordinary prosperity as been done?" The answer is that this rights accorded in the interim.
to the fact that the common stock repre very thing has been and is being done— A transaction similar in purpose and
sents only 30% of the total capital. This both directly and indirectly. result, but more complicated in detail,
means that whatever surplus is available The best example of a direct exchange was the recapitalization of Julius Kay
above bond interest and preferred divi of common for preferred stock, without ser, the glove enterprise. The effect of
dends is divided among a relatively small trimmings and with the avowed purpose this operation upon the position of the
number of junior shares. Hence a very of marking up the earnings per share, is common is shown in the table. In this
moderate increase in the percentage found in the case of North American Co. case the relative proportions of preferred
earned on the total capital results in a The directors here decided that the capi and common were directly reversed.
very substantial rise in the profits per talization structure was too conservative, Whereas the company previously had
share of common. i.e. that too large a percentage of the to about 2 millions preferred and 6.6 mil
If All America Cables were anxious tal was in common stock, thus making lions common, the new arrangement
to mark up the earnings on its common too slow the annual increase in earnings raised the preferred to 6.3 millions and
stock, it would need only to exchange per share. So in August, 1921, the com reduced the common to 2.3 millions (ini
two-thirds of its present shares for new pany issued one share of new 6% pre tial market value).
7% preferred. In this way, as indicated ferred stock and one share of new com This was undoubtedly a bold departure
in Table 2, it would achieve a capitaliza mon, both par $50, in exchange for each from accepted standards of conservative
tion structure similar to that of Ameri share of old common, par $100. financing. On paper, however, it made
can Ice. Then, with the same earnings This simple operation effected an im the new common at 20 look far more at
and the same total capital as before, it mediate transformation in the exhibit of tractive than the old at 100. For the
would be able to report earnings of 25% the company. The details are given in same figure of average profits which gave
on its common stock, instead of 12%%. the table. Whereas the profits after de an earning power of 20% to the old stock,
A third example of our thesis is pro preciation for the year ended July, 1921, worked out as 42% upon the market
vided by a comparison of May Depart had been equivalent to 15.2% on the mar value of the new common. Without
ment Stores and Associated Dry Goods, ket price of the old common, the same much trouble, therefore, the new shares
as given in the table. Here again the ºarnings amounted to 21.5% on the cor have doubled in price; and at 46 they are
company, which earns considerably more responding price of the new common. (Continued on page 1035)

COMPARISON OF CAPITAL STRUCTURE

MACK truck WHITE MOTOR WHITE MOTOR
No. Total 2––Present Capitalization—, ,—Recapitalized on Basis of Mack Tk.—,
Capitalization: Shares Price Value No. Shares Price Total Value No. Shares Price Total Value
First Preferred. . . . . . . . . . . ... 109,219 94 $10,300,000 - - - -- - - -- --- - - - - - - 250,000 50 $12,500,000
Second Preferred. . . . . . . . . . . 53,317 88 4,700,000 - - - -- - - -- --- - - - - - - - - - - -- - - -- --- - - - - - - -
Common . . . . . . . . . . . . . . . . . . 283,109 58 16,500,000 500,000 50 $25,000,000 250,000 50 12,500,000

£ºr.
Total . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . $31,500,000 $25,000,000 $25,000,000
-
1922 (Estimated). . . . . . . . . . . . . . . . . . . . $3,700,000.. . . . . . . . . . . . . . . . . . . . . . . . .. $3,500,000. . . . . . . . . . . . . . . . . . . . . . . . . . . $3,500,000
N: Capital. . . . . . . . . . . . . . . . . . . . . . . . . . 11.7%.. . . . . . . . . . . . . . . . . . . . . . . . . . 14.0%.. . . . . . . . . . . . . . . . . . . . . . . . . . 14.0%
Balance for Common . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,562,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $3,500,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $2,500,000
Per Cent on Market Price. . . . . . . . . . . . . . . . . . . . . . . . . . . 15.5%.. . . . . . . . . . . . . . . . . . . . . . . . . . .0%. . . . . . . . . . . . . . . . . . . . . . . . . . . 20.0%

AMERICAN ICE ALL AMERICA CABLES ALL AMERICA CABLES

No. Total 2––Present Capitalization—, ,-Recapitalized on Basis of Amer. Ice—
Capitalization : Shares Price Value No. Shares Price Total Value No. Shares Price Total Value
; ;; ; ; ;
Bonds . . . . . . . . . . . . . . . . . . ..147,590 -- $5,569,000 . . . .. . . -- - - - -- - - -- --- - - - - - - -
90 18,280,000 - - - -- - - -- --- - - - - - - - 180,000 100 $18,000,000
Preferred . . . . . . . . . . . . . . . . . 8,031,000
Connnnon . . . . . . . . . . . . . . . . ..” 71,070 113 221,300 11.7% $26,000,000 68,000 1.17% 8,000,000

£º
Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $26,900,000 $26,000,000 $26,000,000
ings, 1921. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,769,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $3,256,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $3,256,000
N: Total Capital. . . . . . . . . . . . . . . . . . . . . . . . . . 10.8%.. . . . . . . . . . . . . . . . . . . . . . . . . . 12.5%.. . . . . . . . . . . . . . . . . . . . . . . . . .
$1,453,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $3,256,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $2,000,000
12.5%
Balance for Common; : . . . . . . . . . . . . . . . . ... . . . . . . . . .
Per Cent on Market Price. . . . . . . . . . . . . . . . . . . . . . . . . . 18.1%.. . . . . . . . . . . . . . . . . . . . . . . . . . 2.5%. . . . . . . . . . . . . . . . . . . . . . . . . . . 25%

ASSOCIATED DRY GOODS MAY DEPARTMENT STORES MAY DEPARTMENT STORES

ãº
2–Recapitalized on Basis of Assoc.—
No. Total 2–Present Capitalization—, Dry Goods
Capitalization : Shares Price Value No. Shares Price Total Value No. Shares Price Total Value
First Preferred . . . . . . . . . . . .” 67.
rred. . . . . . . . . ... #:
. . . . . . . . . . . . ... 149,850
%
62
*:::::::
**** *
9,290,000
55,690
- - - -- - -
200,000
115
--
137
$6,400,000
-- - - - - - - - -
27,400,000
225,000
- - - -- - -
82,500
100
--
137
$22,500,000
-- - - - - - - - -
11,300,000

Jºe:
$27,365,000 $33,800,000 $33,800,000
Total. . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . . . .
- 1921. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,836,900.... . . . . . . . . . . . . . . . . . . . . . . . $4,053,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $4,053,000
N: dº
£º.º.º.º.º
Capital........................... $1,538,000.
non . .
..... .... ...............
10.4%.. . . . . . . . . . . . . . . . . . . . . . . . . . 12%. . . . . . . . . . . . . . . . . . . . . . . . . . . 12%
. . . . . . . . . .. . . . . . . . . . . . . . . . $8,663,000.. . . . . . . . . . . . . . . . . . . . . . . . . . $2,478,000
Balance
Per Cent on Market Price. . . . . . . . . . . . . . . . . . . . . . . . . . 16.6%. . . . . . . . . . . . . . . . . . . . . . . . . . . 13.4%.. . . . . . . . . . . . . . . . . . . . . . . . . . 21.9%

28,
r OCTOBER 1922
 Nevertheless, Freeport Texas stock is
not to be measured by the estimated value
of sulphur reserves—the main problem is
to mine and sell this sulphur at profitable
figures. It now seems likely that the
company is recovering slightly from the
unsettled conditions of the past two years
which were precipitated by the large
amount of sulphur left on hand at the
end of the war—followed by the general
business depression. It is evident, how
ever, that the earning power back of
the shares is not yet at a substantial

Look for this design

figure and until it increases the stock
is entirely in speculative ground and
an issue whose permanent rise seems
destined to be slow.
on the corner of
UNION SULPHUR COM
PANY AN INACTIVE
ISSUE
your checks
TheUnion Sulphur Company is one This little design bearing the words
of the best-known companies that mines "Super-Safety Insured Bank Checks” on
sulphur in the United States and yet
the upper right corner of your checks
there is probably as little known about means that your banker provides you
the company's corporate affairs as there with checks that are covered by
is about any corporation in any line of
- industry.
Union Sulphur was incorporated in
$1000.00 of insurance against
through fraudulent alteration.
loss

It means that you don't have to trust

owns a sulphur mine located
to ingenuity for protection, but can write On
1896 and
near Lake Charles, Louisiana, the de
your checks with pen and ink or type
writer with positive assurance that you bank doors
posit being known for years as one of the
richest and most productive in the coun This transparent win
try. There is outstanding $200,000 capi are protected from check raisers. yel
dow sign in black,
tal stock and no funded debt—no earn These checks are “The Safest Checks low and gold on your
bank's door is evidence of

-
ings statements are issued—the dividend in the World.” Insurance makes them this added protection.
record is not made public and yet it is so. This is the only positive protection
quite generally known that the company you can get for a check, just as the only
has made big profits for years as mea positive protection against any other
loss, such as fire, theft, hold-up, tornado
sured on capitalization. The shares have
or flood is insurance.
no open or general market, but once in
a while there may be private transactions Banks displaying the door and grill
in the stock which commands undoubt signs pictured in the circle are banks
edly a very large premium above par, that will gladly accommodate you with
which is $100. Outside of the company's this added protection. There are thou
importance to the industry in which it is sands of them in the United States.
engaged there is no public interest and Look for them in your city.
of course the shares are unattainable by
Ask your banker for these checks
the average investor. today and get your free $1000.00 certi
ficate of insurance protecting you
through loss from fraudulent alteration. On
ARITHMETIC AND If you cannot find a banker in your
STOCK VALUES locality who can supply you with these the “cage”
checks, write us for the name of one Alongside the teller’s
(Continued from page 999) window in banks that
who will gladly accommodate you. give this protection you -
will find this aluminum
hanger.
still being recommended as among the
most desirable of industrial common Bankers Supply Company
TheLargest
The Manufacturers
of Bank checksin the world
issues. NEw York CHICAGO E
DEnvert
Indirect Methods ATLANTA Des Moines san Francisco

Where companies feel handicapped

through having only one class of stock,
they sometimes revise their capitaliza
tion through the payment of a large ex
tra dividend in new preferred shares.
Special distributions of this kind, amount
I ns u red in the
ing to 50%, have been made by Ameri H A R T F O R. D.
can Zinc and by Virginia Iron Coal and againstlossthroughfraud.
Coke. Unfavorable market conditions di ulentorfeloniousalterations
rectly following these operations make
it difficult to judge to what extent the
stockholders have benefited thereby.
A very interesting case of indirect capi
talization is presented by American Steel
Foundries. For many years this was the
This $1000.00 of insurance
only one of the equipment companies is issued without charge to all depositors of banks
furnishing these insured checks. Ask your banker
without preferred stock. On this account, for one today.
its large earnings during the war period

for OCTOBER 28, 1922 1035

 thing

as

as
did not show up spectacularly

as
those over-conservatism capitali

(#)

in
a
of Baldwin or American Locomotive,

as
and zation, well
as under-conservatism
its stock ranged considerably industry,

of
lower. The

in
Concerns stable field

a
was changed 1919 through normally exempt from wide fluctuations

in
situation
the acquisition another large enter earnings, are justified having

of
rea

Profitable

in

in

a
prise—Griffin Wheel Co.—by issuance sonable part their capital

of
of
the form

in
new preferred stock. of securities with fixed dividends in

or
of
Thrift
about millions

9
Since Griffin Wheel normally earned sub

so
terest, that the common stock may
stantially more than the 7% dividend re the profits which this

of
have the benefit
Just “saving” isn't any fun— quired by this preferred, its surplus prof capital regularly produces

its
of
excess

in
but saving that starts returning its now go increase the earning power has been considered quite

to
annual cost.

It
you profit right away of American Steel Foundries common. proper, for example, that public utility

is
a

by
mighty pleasant and interesting The success of this transaction from enterprises should have far the greater

a
now becoming evi portion their capitalization

of
market standpoint senior

in
is
way increasing your income.
is of

dent. Steel Foundries keeping pace securities—a financial policy which has

is
That why we developed the often been carried disastrous ex

to
the other equipment

of
with the advance
Herkins Partial Payment Plan companies, whereas the previous boom tremes. In the case of North American

in
—an agreeable way accumu period had lagged behind. Co., however, the old common stock un
of

it
lating high-grade, income pay These concrete examples have been doubtedly represented much larger per

a
centage of the total capital the sys

of
so
ing bonds. order dispel

in

to
made numerous

a
— namely that capi

or
natural impression tem than was usual, probably neces
We offer only the best bonds primarily sary. Hence the recent readjustment may
talization structure theo

is

a
listed on the New York Stock be characterized as stroke of sound
retical conception, with remote practical

a
Exchange equal quality,
of
or

judgment; for while

in
significance. must not be imagined, substantially

It

it
paying good rate interest,
of

the earnings

of
however, the expedients
that described creased the common
a

reliable, and salable any time. above can be applied indiscriminately shares, did not expand the prior
at

to

to it
You make your own choice from all companies, with unvarying success charges an uncomfortable total. Simi
larly, American Steel Foundries was

its no
our list and your income starts and without compensating disadvantages.
doubt well justified rearranging

in
In prosperous years undeniably

is
it
from the day you make your first capitalization
the smaller the proportion of basis comparable with

to
true that

a
payment.
the other equipment companies.

of
total capital, the larger that
to

common stock
Send for our current list of per share. On the other hand,

of
the directors

if
the earnings The company
offerings and booklet ex with the most speculative capitalization White Motor were asked why they did
plaining this attractive plan.
makes the best showing. But when pe not follow suit and recapitalize on the
basis, say, Mack Truck, they might

of
ADDRESS DEPT. M.W. depression bring sharp shrink
of

riods
a

profits, then the situation re plausibly point out that the absence

of
age
is
in

Herkins Company preferred dividend

&

versed. Not only do the large earnings requirements stood

Bonds for Investment the company good stead during the

in
on such common stocks decline with
115 BROADWAY, NEW YORK alarming rapidity, but frequently the pre trying times

of
1920-1921. Hence White
ferred dividend and even the bond in

to
was able continue its 8% ($4) common

its
not covered, resulting dividend, while Mack has yet

to
make
in
is

terest serious
embarrassment. But the conservatively first cash payment on its junior shares.
capitalized company has no problem Obviously there this subject

to
is
more
of

be

an
heavy fixed charges, and comes through presented

of
than can article

in
hard times with far less difficulty. this size. Scientific inquiry might deter
m () Z }> () X IT

capitalization
of
The situation here has its direct coun mine what basis best

is
adapted various types enterprises,

of
terpart the stock market itself—among
to
in
I

be
so

outright that the over-conservative might

those who own their securities
and those who carry them on margin. readjusted with profit, and those too spec
A

ulatively constituted
be
rise prices evidently brings larger might avoided
in

In

profit on the capital the marginal passing, the writer might express his
of

the outright pur

opinion that the Five-and-Ten-Cent
of

trader than on that

But when prices break, the for
as

chaser. Store companies, class, have not

a

a
fades away just sufficient percentage preferred
of
so

mer's capital much stock

Their remarkably stable record
of

faster—and he has debt to his broker

Odd Lots
earn
a

ings justifies
of se
take care of, while the other man can higher proportion
of
to

sit tight and wait for the storm nior securities—which would mean
far blow
to

very real and

of

are very analogous fashion, the com course correspondingly larger profits per
In

over.
reaching service
to

the From this point

of

of

speculatively capitalized share common.

of

mon stock
a

small investor. view, Woolworth pre

of

company represents marginal ownership the retirement

of the enterprise. will be found that ferred, just announced, while following
It

You can diversify your the major swings the market, such conventionally accepted financial prac
of
in

tice, might not prove truly beneficial

investments among good usually fluctuate over relatively
to

issues
a

wider range. They advance furthest the common stockholders. One would
in

listed securities. imagine that the cash might more suc

boom times, but suffer the greatest de
cessfully
be

employed the further ex

in

clines when prices break.

We specialize the execu
in

pansion that remarkable business. Un

of

tion of Odd Lot orders doubtedly Woolworth, Kresge, and simi

for any listed securities— An Important Distinction
lar issues, would have much better pros
booklet on request. pects
of

To conclusions does this investi

what renewed substantial advances
They might well appear from their present high levels, good
if

gation
a

lead
2

Ask for No. MW part their common capitalization were

of

contradictory and inconclusive. simple

A

readjustment capitalization transformed into preferred shares.

of

found
to
is

The analysis security values

of

is

produce dazzling effects upon the earn not

GsHolM GAPMAN an abstruse science. While essence
in

ings exhibit, but analysis shows this stim

&

mathematical,
entirely artificial. Yet ad does not soar into the
be

it

Members New York Stock Erchange ulus

to

if

fact, rarely gets

as of

realms calculus—in
it

mittedly artificial necessarily mean

is
it

52 Broadway, New York City the above dis

as

as

ingless, or even harmful Like most far algebra. But,

?

Telephone BOW ling Green 6500

general questions, this one must be an cussion may illustrate, does require
it

swered by distinction. There such fair acquaintance with arithmetic.

is
a

)36 THE MAGAZINE OF WALL STREET

 - ||FLATION-8, DEFLATION-IN-LEMIHER:
=l
125

Central Leather 100

CENTRAL LEATH

-
m 5 A.L.E.5
5 u R. P. Lu 5t
| N.W.E.N.To R.Y
75
Which Has the Greater Earning-Power?—
Unusual Position of Hide and Leather Pre- 50

ferred—An Estimate of Future Earnings o 25

…
By BENJAMIN GRAHAM o
-
c. 0
1914

T!
third quarter of 1922 apparent
ly marked the turning point in the
leather industry. After a period of
depression almost unexampled in length
and intensity, the leading companies are
again on a profitable basis. Hide prices
have scored substantial advances,
lowed to a lesser degree by strength
the leather market. The report of Cen
tral Leather for the three months ended
September 30 shows the preferred divi
dend covered with a slight margin, as
contrasted with a long series of previous
deficits. The corresponding figures of
American Hide & Leather have not been
published at this writing, but estimates
considered reliable place the profits for
the period at the annual rate of about
$10 per share of preferred stock.
With the hectic chapter of war infla
tion and deflation at last brought to a
close, it may be well to ascertain in what
condition and with what prospects these
two leading companies are embarking
once more upon a normal basis of opera
tions. We shall try to form some esti
mate of their average future earning
power, thereby to determine how their
various securities compare in attractive
ness at present prices. The elements to
be considered are the following:
1. The actual and relative position of the
two companies before the war.
2. The permanent effects of the war and
post-war periods.
3. The current financial condition and
earning power, as evidenced by recent
data.
Central Leather is a very much larger
enterprise—as measured both by capitali
zation and turnover. Its product is chief
ly sole leather while the American com
pany concentrates on the manufacture of
upper leathers. Thus the two companies
are not competitors, yet the prosperity
of both is vitally affected by conditions
in the shoe trade. Sole leather is tanned
by oak and hemlock bark, while upper
leather is tanned by chemicals. Hence
Central Leather finds it necessary to hold
extensive timber lands, equipped with
saw-mills, logging lines, etc. These op
erations in turn lead to heavy sales of
hard-wood lumber, as an important by
2S
- © 50
product. Am. Hide & 2
Leather, however, finds it o
-
advisable to purchase its #40
tanning materials.
30
Both companies were
formed during the trust
fol era of twenty-odd years 20
in ago as amalgamations of
inunnerous competing 10
units. Following the usual
practice, a liberal propor
tion of water was inject 1944 *2+ 20: 20+ 2
ed in the property ac
* Not available.
count. While neither com + before reduction to eliminate good will.
# Adjusted to reflect modified depreciation-charges
pany made an especially way * Ye’ºrs ended June 30.4 Years ended Dec. *ſ.
brilliant exhibit prior to
the war, Central Leather
shone at least by comparison. It suc devised for a recapitalization involving
ceeded in maintaining uninterrupted the discharge of the back dividends
dividends on its preferred, and was through a distribution of bonds or
gradually building up a moderate earning stock. These schemes were not ac
power for its common. But American cepted, nor can any logical reason be
Hide and Leather seemed unable to adduced for the preferred stockholders
realize an adequate profit on its sales. to commute their claims in order to
It was handicapped further by the un benefit the common shares.
usually onerous sinking fund provisions Am. Hide & Leather preferred, rep
of its bond issue, so that the balance resenting thus the entire capitalization
available for the preferred shares was of the company, has a current market
made to appear even scantier than the value of only about half the average
meagre reality. In seventeen years it pre-war sales. Central Leather's three
was able to pay a total of just 3% in classes of securities aggregate $67,000,-
preferred dividends, the accumulations 000 in market price, or somewhat in ex
finally exceeding 100%. cess of its annual turnover. Otherwise
stated, Central Leather is capitalized
Their Pre-War Record
twice as heavily in comparison with its
Table entitled Average Pre-War volume of business. This should be an
important advantage in favor of the
income account presents an income
account based on the average results American company, for with the same
for the five years preceding the war, but margin of profit on its sales it should
with certain adjustments for bond in earn double as much on its capital. The
terest and depreciation in order to re actual results, however, have been just
flect current requirements. These fig the opposite, because its ratio of net to
ures must be considered in connection gross has always been abnormally low.
with the present capitalization of the The average pre-war figures, given in
companies, as detailed in Table show our table, show a profit margin of only
ing present capitalization. We leave 454% on its total business, as against
Am. Hide & Leather common out of over 9% for Central Leather. After
account entirely, because the 125% of allowing for depreciation, American
unpaid dividends on the 7% cumulative Hide & Leather's net works out as only
preferred entitle the senior shares to all 5.40% on its capitalization, while Cen
conceivable future earnings of the en tral Leather has earned 6.85%. On the
terprise. The common stockholders latter's stock capitalization alone the
seem condemned to maintain a purely available balance averages over 8%.
academic interest in the affairs of their These figures of pre-war income in
company. During the war, plans were dicate a great potential advantage for
T |H . \! \t , \/IN E () | \\,\LL STR ]: I.T
 Am. H. & L. (in its simpler and smaller present $6,800,000 deficit in profit-and future. American Hide and Central
capitalization), but an equally great loss. Leather entered 1922 with very nearly
actual superiority of Central Leather in Said deficit is undeniably a serious the same resources and capacity as in
its final net profits. It may be thought matter for the preferred shareholders. 1912. In fact, their policy has consist
that the extraordinary changes wrought It implies the postponement of all divi ently aimed towards reducing their
by war influences would completely dends until it is made up out of earn over-numerous plants and concentrat
destroy the significance of such ancient ings—a two-year wait, or even longer, ing their interests on fewer products.
statistics. Yet the influence of the it would seem. It is true that the com For these reasons the earnings of 1910–
war on these enterprises was most pany may “doctor” its balance-sheet, 1914 were given such detailed attention
peculiar—exceptionally violent, and still either by restoring the good-will item above.
strangely transitory. To most indus (as Hendee Mfg. did recently), or by It is reasonable to hope, however, that
trials the great upheaval has left some changing the par value of its common Am. Hide & Leather will be able to
permanent legacy—increased plant ca (cf. Montgomery Ward). But any such report better average operating results
pacity, larger working capital—or, con procedure must be regarded as im from now on than in the unsatisfactory
versely, a heritage of debt. But the probable. years preceding the war. A determined
leather companies were borne high on There is presented in the table show effort has since been made to attain
the crest of war prosperity, then dashed ing Comparative Balance Sheets a skele greater efficiency. From 1915 to 1920
into the lowest abyss of deflation—to ton balance-sheet of Central Leather the company succeeded in reducing
land finally almost exactly where they at the end of 1921 and 1911. No one somewhat Central Leather's former
started a decade before.
could guess from these figures the great advantage with respect to mar
colossal vicissitudes of the intervening gin of profit on sales. Although this
Back Where They Started years. The inventory, the working progress may perhaps have been due
capital, the surplus, are all nearly iden solely to war conditions, there is no
The appended graph traces the rise tical in both exhibits. The only signifi reason why the company should not
and fall of gross sales, inventories, and cant change is a substantial reduction maintain the improvement.
surplus during the past ten years. The in fixed assets on one side, and in fund
lines show clearly the fictitious charac ed debt on the other. This represents The Current Situation
ter of their dazzling profits—their pros chiefly the steady depletion of the com
perity based entirely on price and not pany's timber holdings, with a corre This view is supported by more re
on volume; their enormous surplus rep sponding amortization of the bond issue. cent figures, which indicate that Am.
resenting merely the marking up of With American Hide & Leather, the Hide & Leather has weathered the
inventory values. For comparative pur case is very similar. But here the re storm of deflation somewhat more suc
poses we have omitted from our fig tirement of the funded debt, first effect cessfully than the larger concern. Its
ures the arbitrary reduction of $8,126,- ed out of surplus cash, seems now to inventory losses were proportionately
000 made in Central Leather's surplus have necessitated the reduction of in as heavy, but they were concentrated
in 1919, through writing off the good ventories to an abnormally low figure. within a shorter space of time—from
will item in the property account. This The absence of any considerable met July, 1920, to March, 1921. From that
conservative action seemed well justi change in the companies' position since date to the last quarter it operated at
fied by the huge surplus balance at the 1914 leads us back to the results of the a slight profit, while Central Leather
time, but it is directly responsible for earlier years for guidance in judging the was still reporting sizable deficits. Fur

| AMERICAN HIDE & LEATHER VS. CENTRAL LEATHER

PRESENT CAPITALIZATION
2– CENTRAL LEATHER—y 2–AM. HIDE & LEATHER—s
Market price Market price
Par value (Oct. 27) Market value Par value (Oct. 27) Market value
26,330,000 99 $26,067,000 ... ..... -- --- -- -
Preferred stock . *::::3% *77 25,640,000
15,483,000
$12,548,000
11,224,000
#70
13
$8,784,000
1,459,000
Common stock . . 39,701,000 39
$67,190,000 $10,243,000

* 10.4% accumulated dividends to date. f 125% accumulated dividends to date.

COMPARATIVE BALANCE SHEETS

2–CENTRAL LEATHER—s 2–AM. HIDE & LEATHER—,
Dec. 31, 1911 Dec. 31, 1921 June 30, 1912 Dec. 31, 1921
$41,250,000 $24,106,000 $22,342,000
Fixed assets (net). . . . . . . . . . . . . . . . . . . . . . . . . . - - - - - - - - *$57,845,000 48,404,000 8,819,000 5,887,000
Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - - - - - - - - 45,675,000
2,751,000 2,782,000 103,000 –94,000
Net current assets. . . . . . . . . . . . . . . . . . . . . . . . . . . - - - - - - - -
Capital and surplus. . . . . . . . . . . . . . . . . . . . . . . - - - - - - - - *$66,644,000 $66,106,000 $27,203,000 $28,135,000
39,626,000 26,330,000 5,825,000 ....... .
Bonded debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - - - - - - - -
$92,436,000 $33,028,000 $28,135,000
Total both sides. . . . . . . . . . . . . . . . . . . . . . . . . . - - - - - - - - $106,270,000

• Adjusted for $8,126,000 reduction in good-will item made in 1919.

AVERAGE PRE-WAR INCOME ACCOUNT ESTIMATED FUTURE IN COME ACCOUNT

cºlº
Dec. 31, 1913)
*****
June 30, 1914)
$17,470,000 Depreciation . . . . . . .
Central Leather
Gross sales . . . . .. . . . . . . . . . . . $70,000,000
Net profits . . . . . . . . . . . . . . . . . 7,000,000
750,000
Am. Hide & Leather
$20,000,000
1,600,000
250,000
Gross sales . . . . . . . . . . . . . . . $58,000,000

§§ sº
736,000 Bond interest . . . . . . . . . . . . . . 1,300,000 ......
Net income . . . . . . . . . . . . . . . . 5,349.999
- - -- - - - - - - - - -

#:
Balance for preferred. . . . . . . . 4,950,000 1,350,000
:::::::::::::...' 1.
3,290,000 486,000 Balance for common. . . . . . . . . 2,619,000 .. ....
for preferred. - .
Balance for common . . . . . . . . 959,000 . ..... Earned per share preferred. . . $14.90 $10.75
Earned per share preferred.. $3.88 Earned per share common....
per share common. . . *:::
--- -- --- - 6.60 .... ..
Earned Earned on total capital (present
• Adjusted to present requirements. market value). . . . . . . . . . . . 9.33% 15.37%

--
for NOVEMBER 11, 1922
thermore, if the estimates of the Sep
tember Quarter's results may be relied
-
º -º

The results of the above investiga

tion may be summed up as follows:
º
The Catawba Tannery of the Central Leather Co. at Old Fort, N. C.

charges, and secondly in its claim

upon, American Hide is now enjoying
a higher earning power than its rival.
The unofficial figures of $325,000 net
after taxes for this period would be at
the annual rate of over $10 per share of
preferred—nearly 15% on the present
market price of 70. Central Leather's
statement showed profits equivalent to
about $9 on the preferred and $1.75 on
the common. On its preferred and
common combined, the results work out
as 7%% of market value—only half as
attractive as the Am. Hide & Leather
showing.
The financial condition of both com
panies at the close of 1921 was sound.
The notes payable were relatively small
and are said to have since been reduced.
American Hide has undoubtedly a dis
tinct advantage in the absence of fund
ed debt, as contrasted with the maturity
of $26,000,000 of 5% bonds which Cen
tral Leather will have to meet in 1925.
These bonds, however, have enabled
Central Leather to carry a larger rela
tive inventory, which may now prove
fortunate through the recent advance in
hide prices. The slower rise in finished
leather is threatening to cut into the
tanners' margin of profit, but this dis
crepancy should be corrected in the
natural course of events.
1. The end of the war period finds
both companies in about the same
position as before the conflict. Am.
Hide & Leather, however, has gained
through the retirement of its bond
issue, with its onerous sinking fund
provisions.
2. Central Leather is the larger
enterprise, better thought of in the
trade, and with a far superior pre-war
record.
3. But American Hide & Leather's
unsatisfactory exhibit of ten years ago
seems due to a remediable defect—
namely an abnormally low ratio of net
profits to turnover. At present prices,
its capitalization is only half as large
as Central Leather's, in proportion to
average sales.
4. Am. Hide & Leather has made
somewhat better progress in recover
ing from the collapse of 1920, and is
reported to be enjoying relatively
larger current earnings.
5. In comparison with Central
Leather Preferred, Am. H. & L. Pre
ferred has a double advantage—first
in the absence of prior interest
150
CE. NTR AL LEA I HER
upon all the future earnings of the
company. Furthermore, the large
profit and loss deficit in Central
Leather's balance-sheet will apparent
ly delay dividend resumption for
quite a while.
6. Central Leather Common is
much further removed from divi
dends, and the heavy prior claims of
the bonds and preferred stock make
its position essentially more specula
tive than that of American Hide &
Leather Preferred.
The above analysis reveals a variety
affecting
of conflicting factors the
leather industry as a whole, and the two
leading companies as contrasted with
each other. The past undoubtedly fa
vors Central Leather, but on the basis
of present position and future prospects,
the writer would be inclined to select
Am. Hide & Leather Preferred as hav
ing more investment merit than Cen
tral Leather Common and better specu
lative possibilities than Central Leather
Preferred, though the present uncertain
position of the market would seem to
preclude possibilities of advance in any
of these issues in the near future.
; :5
:
tº:

Estimated Income Account

M

*§

-
The table presents the writer's idea
§

of a normal future income account for

10

*Hoo
& is

the two companies. Needless to say, it

3

is strictly tentative. American Hide & -> wº

Leather, be it noted, should earn a sub U
E w

stantially higher percentage on its pres

s5

ent capital. These figures would per Jº 50 ->

3
3. 6 º §

haps justify the payment of $7 per share

X 4.w Jº 5
:

on Am. H. & L. Preferred and $4 per

share on Central Leather common—in
both cases about 10% on the present
price. But the absence of senior securi -
O

O
22

18
2ſ
T

2.

1 Hſ

ly

1911
ties should entitle the former issue to vºy To Nov.
*

sell on a lower basis of yield.

30 THE MAGAZINE OF WALL STREET