It is a common incident of underwriting that no
member of the syndicate shall sell at less than the
syndicate price for a definite period, unless the
syndicate is sooner dissolved.
member of the syndicate shall sell at less than the
syndicate price for a definite period, unless the
syndicate is sooner dissolved.
Louis Brandeis - 1914 - Other People's Money, and How Bankers Use It
94 OTHER PEOPLE'S MONEY
Now, how has this great wealth been accu-
mulated? Some of it was natural accretion.
Some of it is due to special opportunities for
investment wisely availed of. Some of it is due
to the vast extent of the bankers' operations.
Then power breeds wealth as wealth breeds
power. But a main cause of these large fortunes
is the huge tolls taken by those who control the
avenues to capital and to investors. There has
been exacted as toll literally "all that the traffic
will bear. "
EXCESSIVE BANKERS' COMMISSIONS
The Pujo Committee was unfortunately pre-
vented by lack of time from presenting to the
country the evidence covering the amounts taken
by the investment bankers as promoters' fees,
underwriting commissions and profits. Noth-
ing could have demonstrated so clearly the power
exercised by the bankers, as a schedule showing
the aggregate of these taxes levied within recent
years. It would be well worth while now to re-
open the Money Trust investigation merely to
collect these data. But earlier investigations
have disclosed some illuminating, though spor-
adic facts.
The syndicate which promoted the Steel Trust,
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? WHAT PUBLICITY CAN DO 95
took, as compensation for a few weeks' work,
securities yielding $62,500,000 in cash; and of this,
J. P. Morgan & Co. received for their services, as
Syndicate Managers, $12,500,000, besides their
share, as syndicate subscribers, in the remaining
$50,000,000. The Morgan syndicate took for
promoting the Tube Trust $20,000,000 common
stock out of a total issue of $80,000,000 stock
(preferred and common). Nor were monster
commissions limited to trust promotions. More
recently, bankers' syndicates have, in many in-
stances, received for floating preferred stocks
of recapitalized industrial concerns, one-third
of all common stock issued, besides a considerable
sum in cash. And for the sale of preferred stock
of well established manufacturing concerns, cash
commissions (or profits) of from 7 1/2 to 10 per
cent. of the cash raised are often exacted. On
bonds of high-class industrial concerns, bankers'
commissions (or profits) of from 5 to 10 points
have been common.
Nor have these heavy charges been confined
to industrial concerns. Even railroad securities,
supposedly of high grade, have been subjected to
like burdens. At a time when the New Haven's
credit was still unimpaired, J. P. Morgan & Co.
took the New York, Westchester & Boston Rail-
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? 96 OTHER PEOPLE'S MONEY
way first mortgage bonds, guaranteed by the
New Haven at 92 1/2; and they were marketed
at 96 1/4. They took the Portland Terminal
Company bonds, guaranteed by the Maine Cen-
tral Railroad--a corporation of unquestionable
credit--at about 88, and these were marketed
at 92.
A large part of these underwriting commis-
sions is taken by the great banking houses, not
for their services in selling the bonds, nor in as-
suming risks, but for securing others to sell the
bonds and incur risks. Thus when the Inter-
boro Railway--a most prosperous corporation
--financed its recent $170,000,000 bond issue,
J. P. Morgan & Co. received a 3 per cent. com-
mission, that is, $5,100,000, practically for ar-
ranging that others should underwrite and sell
the bonds.
The aggregate commissions or profits so taken
by leading banking houses can only be conjec-
tured, as the full amount of their transactions
has not been disclosed, and the rate of com-
mission or profit varies very widely. But the
Pujo Committee has supplied some interesting
data bearing upon the subject: Counting the
issues of securities of interstate corporations
only, J. P. Morgan & Co. directly procured the
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? WHAT PUBLICITY CAN DO 97
public marketing alone or in conjunction with
others during the years 1902-1912, of $1,950,-
000,000. What the average commission or profit
taken by J. P. Morgan & Co. was we do not know;
but we do know that every one per cent. on that
sum yields $19,500,000. Yet even that huge
aggregate of $1,950,000,000 includes only a part
of the securities on which commissions or profits
were paid. It does not include any issue of
an intrastate corporation. It does not include
any securities privately marketed. It does not
include any government, state or municipal bonds.
It is to exactions such as these that the wealth
of the investment banker is in large part due.
And since this wealth is an important factor in
the creation of the power exercised by the Money
Trust, we must endeavor to put an end to this
improper wealth getting, as well as to improper
combination. The Money Trust is so powerful
and so firmly entrenched, that each of the sources
of its undue power must be effectually stopped,
if we would attain the New Freedom.
HOW SHALL EXCESSIVE CHAKGES BE STOPPED?
The Pujo Committee recommends, as a remedy
for such excessive charges, that interstate cor-
porations be prohibited from entering into any
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? 98 OTHER PEOPLE'S MONEY
agreements creating a sole fiscal agent to dispose
of their security issues; that the issue of the
securities of interstate railroads be placed under
the supervision of the Interstate Commerce
Commission; and that their securities should be
disposed of only upon public or private competi-
tive bids, or under regulations to be prescribed
by the Commission with full powers of investi-
gation that will discover and punish combina-
tions which prevent competition in bidding.
Some of the state public-service commissions
now exercise such power; and it may possibly
be wise to confer this power upon the interstate
commission, although the recommendation of the
Hadley Railroad Securities Commission are to
the contrary. But the official regulation as pro-
posed by the Pujo Committee would be confined
to railroad corporations; and the new security
issues of other corporations listed on the New
York Stock Exchange have aggregated in the
last five years $4,525,404,025, which is more than
either the . railroad or the municipal issues.
Publicity offers, however, another and even more
promising remedy: a method of regulating
bankers' charges which would apply automa-
tically to railroad, public-service and industrial
corporations alike.
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? WHAT PUBLICITY CAN DO 99
The question may be asked: Why have these
excessive charges been submitted to? Corpora-
tions, which in the first instance bear the charges
for capital, have, doubtless, submitted because
of banker-control; exercised directly through
interlocking directorates, or kindred relations,
and indirectly through combinations among
bankers to suppress competition. But why have
the investors submitted, since ultimately all
these charges are borne by the investors, except
so far as corporations succeed in shifting the
burden upon the community? The large army
of small investors, constituting a substantial
majority of all security buyers, are entirely free
from banker control. Their submission is un-
doubtedly due, in part, to the fact that the
bankers control the avenues to recognizedly safe
investments almost as fully as they do the
avenues to capital. But the investor's servility
is due partly, also, to his ignorance of the
facts. Is it not probable that, if each in-
vestor knew the extent to which the security he
buys from the banker is diluted by excessive
underwritings, commissions and profits, there
would be a strike of capital against these unjust
exactions?
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? 100 OTHER PEOPLE'S MONEY
THE STRIKE OF CAPITAL
A recent British experience supports this
view. In a brief period last spring nine differ-
ent issues, aggregating $135,840,000, were offered
by syndicates on the London market, and on the
average only about 10 per cent. of these loans
was taken by the public. Money was "tight,"
but the rates of interest offered were very liberal,
and no one doubted that the investors were
well supplied with funds. The London Daily
Mail presented an explanation:
"The long series of rebuffs to new loans at the
hands of investors reached a climax in the ill
success of the great Rothschild issue. It will
remain a topic of financial discussion for many
days, and many in the city are expressing the
opinion that it may have a revolutionary effect
upon the present system of loan issuing and
underwriting. The question being discussed is
that the public have become loth to subscribe
for stock which they believe the underwriters can
afford, by reason of the commission they receive,
to sell subsequently at a lower price than the
issue price, and that the Stock Exchange has
begun to realize the public's attitude. The public
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? WHAT PUBLICITY CAN DO 101
sees in the underwriter not so much one who in-
sures that the loan shall be subscribed in return
for its commission as a middleman, who, as it
were, has an opportunity of obtaining stock at
a lower price than the public in order that he
may pass it off at a profit subsequently. They
prefer not to subscribe, but to await an oppor-
tunity of dividing that profit. They feel that
if, when these issues were made, the stock were
offered them at a more attractive price, there
would be less need to pay the underwriters so
high commissions. It is another practical pro-
test, if indirect, against the existence of the
middleman, which protest is one of the features
of present-day finance. "
Compel bankers when issuing securities to
make public the commissions or profits they are
receiving. Let every circular letter, prospectus
or advertisement of a bond or stock show clearly
what the banker received for his middleman-
services, and what the bonds and stocks net
the issuing corporation. That is knowledge to
which both the existing security holder and the
prospective purchaser is fairly entitled. If the
bankers' compensation is reasonable, consider-
PUBLICITT AS A REMEDY
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? 108 OTHER PEOPLE'S MONEY
ing the skill and risk involved, there can be no
objection to making it known. If it is not
reasonable, the investor will "strike," as in-
vestors seem to have done recently in England.
Such disclosures of bankers' commissions or
profits is demanded also for another reason: It
will aid the investor in judging of the safety of
the investment. In the marketing of securities
there are two classes of risks: One is the risk
whether the banker (or the corporation) will find
ready purchasers for the bonds or stock at the
issue price; the other whether the investor will
get a good article. The maker of the security
and the banker are interested chiefly in getting it
sold at the issue price. The investor is interested
chiefly in buying a good article. The small
investor relies almost exclusively upon the banker
for his knowledge and judgment as to the quality
of the security; and it is this which makes his
relation to the banker one of confidence. But
at present, the investment banker occupies a
position inconsistent with that relation. The
bankers' compensation should, of course, vary
according to the risk he assumes. Where there
is a large risk that the bonds or stock will not be
promptly sold at the issue price, the underwriting
commission (that is the insurance premium)
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? WHAT PUBLICITY CAN DO 103
should be correspondingly large. But the banker
ought not to be paid more for getting investors
to assume a larger risk. In practice the banker
gets the higher commission for underwriting the
weaker security, on the ground that his own risk
is greater. And the weaker the security, the
greater is the banker's incentive to induce his
customers to relieve him. Now the law should
not undertake (except incidentally in connection
with railroads and public-service corporations) to
fix bankers' profits. And it should not seek to
prevent investors from making bad bargains.
But it is now recognized in the simplest mer-
chandising, that there should be full disclosures.
The archaic doctrine of caveat emptor is vanishing.
The law has begun to require publicity in aid of
fair dealing. The Federal Pure Food Law does
not guarantee quality or prices; but it helps the
buyer to judge of quality by requiring disclosure
of ingredients. Among the most important facts
to be learned for determining the real value of a
security is the amount of water it contains.
And any excessive amount paid to the banker
for marketing a security is water. Require a
full disclosure to the investor of the amount of
commissions and profits paid; and not only will
investors be put on their guard, but bankers'
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? 104 OTHER PEOPLE'S MONEY
compensation will tend to adjust itself auto-
matically to what is fair and reasonable. Ex-
cessive commissions--this form of unjustly ac-
quired wealth--will in large part cease.
REAL DISCLOSURE
But the disclosure must be real. And it must
be a disclosure to the investor. It will not suffice
to require merely the filing of a statement of facts
with the Commissioner of Corporations or with
a score of other officials, federal and state. That
would be almost as ineffective as if the Pure Food
Law required a manufacturer merely to deposit
with the Department a statement of ingredients,
instead of requiring the label to tell the story.
Nor would the filing of a full statement with the
Stock Exchange, if incorporated, as provided
by the Pujo Committee bill, be adequate.
To be effective, knowledge of the facts must be
actually brought home to the investor, and this
can best be done by requiring the facts to be
stated in good, large type in every notice, circu-
lar, letter and advertisement inviting the investor
to purchase. Compliance with this requirement
should also be obligatory, and not something
which the investor could waive. For the whole
public is interested in putting an end to the
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? WHAT PUBLICITY CAN DO 105
bankers' exactions. England undertook, years
ago, to protect its investors against the wiles of
promoters, by requiring a somewhat similar dis-
closure; but the British act failed, in large
measure of its purpose, partly because under it
the statement of facts Was filed only with a public
official, and partly because the investor could
waive the provision. And the British statute has
now been changed in the latter respect.
DISCLOSE SYNDICATE PARTICULARS
The required publicity should also include a
disclosure of all participants in an underwriting.
It is a common incident of underwriting that no
member of the syndicate shall sell at less than the
syndicate price for a definite period, unless the
syndicate is sooner dissolved. In other words,
the bankers make, by agreement, an artificial
price. Often the agreement is probably illegal
under the Sherman Anti-Trust Law. This price
maintenance is, however, not necessarily objec-
tionable. It may be entirely consistent with the
general welfare, if the facts are made known.
But disclosure should include a list of those par-
ticipating in the underwriting so that the public
may not be misled. The investor should know
whether his adviser is disinterested.
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? 106 OTHER PEOPLE'S MONEY
Not long ago a member of a leading banking
house was undertaking to justify a commission
taken by his firm for floating a now favorite pre-
ferred stock of a manufacturing concern. The
bankers took for their services $250,000 in cash,
besides one-third of the common stock, amount-
ing to about $2,000,000. "Of course," he said,
"that would have been too much if we could have
kept it all for ourselves; but we couldn't. We
had to divide up a large part. There were fifty-
seven participants. Why, we had even to give
$10,000 of stock to (naming the presi-
dent of a leading bank in the city where the busi-
ness was located). He might some day have
been asked what he thought of the stock. If he
had shrugged his shoulders and said he didn't
know, we might have lost many a customer for
the stock. We had to give him $10,000 of the
stock to teach him not to shrug his shoulders. "
Think of the effectiveness with practical Amer-
icans of a statement like this:
A. B. & Co.
Investment Bankers
We have today secured substantial control of
the successful machinery business heretofore
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? WHAT PUBLICITY CAN DO 107
conducted by at , Illinois, which
has been incorporated under the name of the
Excelsior Manufacturing Company with a capital
of $10,000,000, of which $5,000,000 is Preferred
and $5,000,000 Common.
As we have a large clientele of confiding
customers, we were able to secure from the
owners an agreement for marketing the Pre-
ferred stock--we to fix a price which shall net
the owners in cash $95 a share.
We offer this excellent stock to you at $100. 75
per share. Our own commission or profit will
be only a little over $5. 00 per share, or say,
$250,000 cash, besides $1,500,000 of the Common
stock, which we received as a bonus. This cash
and stock commission we are to divide in various
proportions with the following participants in the
underwriting syndicate:
C. D. & Co. , New York
E. F. & Co. , Boston
L. M. & Co. , Philadelphia
I. K. & Co. , New York.
O. P. & Co. , Chicago
Were such notices common, the investment
bankers would "be worthy of their hire," for
only reasonable compensation would ordinarily
be taken.
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? 108 OTHER PEOPLE'S MONEY
For marketing the preferred stock, as in the
case of Excelsior Manufacturing Co. referred to
above, investment bankers were doubtless
essential, and as middlemen they performed a
useful service. But they used their strong position
to make an excessive charge. There are, how-
ever, many cases where the banker's services
can be altogether dispensed with; and where
that is possible he should be eliminated, not
only for economy's sake, but to break up
financial concentration.
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? CHAPTER VI
WHERE THE BANKER IS SUPERFLUOUS
The abolition of interlocking directorates will
greatly curtail the bankers' power by putting an
end to many improper combinations. Publicity
concerning bankers' commissions, profits and
associates, will lend effective aid, particularly by
curbing undue exactions. Many of the specific
measures recommended by the Pujo Committee
(some of them dealing with technical details)
will go far toward correcting corporate and bank-
ing abuses; and thus tend to arrest financial
concentration. But the investment banker has,
within his legitimate province, acquired control
so extensive as to menace the public welfare,
even where his business is properly conducted.
If the New Freedom is to be attained, every
proper means of lessening that power must be
availed of. A simple and effective remedy,
which can be widely applied, even without new
legislation, lies near at hand:--Eliminate the
banker-middleman where he is superfluous.
Today practically all governments. states and
109
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? 110 OTHER PEOPLE'S MONEY
municipalities pay toll to the banker on all
bonds sold. Why should they? It is not be-
cause the banker is always needed. It is because
the banker controls the only avenue through
which the investor in bonds and stocks can or-
dinarily be reached. The banker has become the
universal tax gatherer. True, the pro rata
of taxes levied by him upon our state and city
governments is less than that levied by him upon
the corporations. But few states or cities escape
payment of some such tax to the banker on every
loan it makes. Even where the new issues of
bonds are sold at public auction, or to the highest
bidder on sealed proposals, the bankers' syndicates
usually secure large blocks of the bonds which
are sold to the people at a considerable profit.
The middleman, even though unnecessary, col-
lects his tribute.
There is a legitimate field for dealers in state
and municipal bonds, as for other merchants.
Investors already owning such bonds must have
a medium through which they can sell their
holdings. And those states or municipalities
which lack an established reputation among
investors, or which must seek more distant
markets, need the banker to distribute new issues.
But there are many states and cities which have
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? SUPERFLUOUS BANKERS 111
an established reputation and have a home
market at hand. These should sell their bonds
direct to investors without the intervention of a
middleman. And as like conditions prevail with
some corporations, their bonds and stocks should
also be sold direct to the investor. Both financial
efficiency and industrial liberty demand that the
bankers' toll be abolished, where that is possible.
The business of the investment banker must
not be confused with that of the bond and stock
broker. The two are often combined; but the
functions are essentially different. The broker
performs a very limited service. He has properly
nothing to do with the original issue of securities,
nor with^their introduction into the market. He
merely negotiates a purchase or sale as agent for
another under specific orders. He exercises no
discretion, except in the method of bringing
buyer and seller together, or of executing orders.
For his humble service he receives a moderate
compensation, a commission, usually one-eighth
of one per cent. (12 1/2 cents for each $100) on
the par value of the security sold. The invest-
ment banker also is a mere middleman. But he
is a principal, not an agent. He is also a merchant
BANKER AND BBOKEB
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? 112 OTHER PEOPLE'S MONEY
in bonds and stocks. The compensation received
for his part in the transaction is in many cases
more accurately described as profit than as com-
mission. So far as concerns new issues of
government, state and municipal bonds, espe-
cially, he acts as merchant, buying and selling
securities on his own behalf; buying commonly
at wholesale from the maker and selling at retail
to the investors; taking the merchant's risk and
the merchant's profits. On purchases of corpo-
rate securities the profits are often very large;
but even a large profit may be entirely proper;
for when the banker's services are needed and
are properly performed, they are of great value.
On purchases of government, state and munic-
ipal securities the profit is usually smaller; but
even a very small profit cannot be justified, if
unnecessary.
HOW THE BANKER CAN SERVE
The banker's services include three distinct
functions, and only three:
First: Specifically as expert. The investment
banker has the responsibility of the ordinary
retailer to sell only that merchandise which is
good of its kind. But his responsibility in this
respect is unusually heavy, because he deals in an
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? SUPERFLUOUS BANKERS 118
article on which a great majority of his customers
are unable, themselves, to pass intelligent judg-
ment without aid. The purchase by the investor
of most corporate securities is little better than a
gamble, where he fails to get the advice of some
one who has investigated the security thoroughly
as the banker should. For few investors have the
time, the facilities, or the ability to investigate
properly the value of corporate securities.
Second: Specifically as distributor. The banker
performs an all-important service in providing
an outlet for securities. His connections enable
him to reach possible buyers quickly. And good-
will--that is, possession of the confidence of regu-
lar customers--enables him to effect sales where
the maker of the security might utterly fail to
find a market.
Third: Specifically as jobber or retailer. The
investment banker, like other merchants, carries
his stock in trade until it can be marketed. In
this he performs a service which is often of great
value to the maker. Needed cash is obtained
immediately, because the whole issue of securities
can thus be disposed of by a single transaction.
And even where there is not immediate payment,
the knowledge that the money will be provided
when needed is often of paramount importance.
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? 114 OTHER PEOPLE'S MONEY
By carrying securities in stock, the banker per-
forms a service also to investors, who are thereby
enabled to buy securities at such times as they
desire.
Whenever makers of securities or investors
require all or any of these three services, the
investment banker is needed, and payment of
compensation to him is proper. Where there is
no such need, the banker is clearly superfluous.
And in respect to the original issue of many of our
state and municipal bonds, and of some corporate
securities, no such need exists.
It needs no banker experts in value to tell us
that bonds of Massachusetts or New York, of
Boston, Philadelphia or Baltimore and of scores
of lesser American cities, are safe investments.
The basic financial facts in regard to such bonds
are a part of the common knowledge of many
American investors; and, certainly, of most pos-
sible investors who reside in the particular state
or city whose bonds are in question. Where the
financial facts are not generally known, they are
so simple, that they can be easily summarized and
understood by any prospective investor without
interpretation by an expert. Bankers often
WHEEE THE BANKER SERVES NOT
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? SUPERFLUOUS BANKERS 11&
employ, before purchasing securities, their own.
accountants to verify the statements supplied by
the makers of the security, and use these account-
ants' certificates as an aid in selling. States and
municipalities, the makers of the securities,
might for the same purpose employ independent
public accountants of high reputation, who would
give their certificates for use in marketing the
securities. Investors could also be assured with-
out banker-aid that the basic legal conditions are
sound. Bankers, before purchasing an issue of
securities, customarily obtain from their own
counsel an opinion as to its legality, which inves-
tors are invited to examine. It would answer
the same purpose, if states and municipalities
should supplement the opinion of their legal
representatives by that of independent counsel
of recognized professional standing, who would
certify to the legality of the issue.
Neither should an investment banker be needed
to find investors willing to take up, in small lots,
a new issue of bonds of New York or Massa-
chusetts, of Boston, Philadelphia or Baltimore, or
a hundred other American cities. A state or
municipality seeking to market direct to the
investor its own bonds would naturally experi-
ence, at the outset, some difficulty in marketing a
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? 116 OTHER PEOPLE'S MONEY
large issue.
Now, how has this great wealth been accu-
mulated? Some of it was natural accretion.
Some of it is due to special opportunities for
investment wisely availed of. Some of it is due
to the vast extent of the bankers' operations.
Then power breeds wealth as wealth breeds
power. But a main cause of these large fortunes
is the huge tolls taken by those who control the
avenues to capital and to investors. There has
been exacted as toll literally "all that the traffic
will bear. "
EXCESSIVE BANKERS' COMMISSIONS
The Pujo Committee was unfortunately pre-
vented by lack of time from presenting to the
country the evidence covering the amounts taken
by the investment bankers as promoters' fees,
underwriting commissions and profits. Noth-
ing could have demonstrated so clearly the power
exercised by the bankers, as a schedule showing
the aggregate of these taxes levied within recent
years. It would be well worth while now to re-
open the Money Trust investigation merely to
collect these data. But earlier investigations
have disclosed some illuminating, though spor-
adic facts.
The syndicate which promoted the Steel Trust,
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? WHAT PUBLICITY CAN DO 95
took, as compensation for a few weeks' work,
securities yielding $62,500,000 in cash; and of this,
J. P. Morgan & Co. received for their services, as
Syndicate Managers, $12,500,000, besides their
share, as syndicate subscribers, in the remaining
$50,000,000. The Morgan syndicate took for
promoting the Tube Trust $20,000,000 common
stock out of a total issue of $80,000,000 stock
(preferred and common). Nor were monster
commissions limited to trust promotions. More
recently, bankers' syndicates have, in many in-
stances, received for floating preferred stocks
of recapitalized industrial concerns, one-third
of all common stock issued, besides a considerable
sum in cash. And for the sale of preferred stock
of well established manufacturing concerns, cash
commissions (or profits) of from 7 1/2 to 10 per
cent. of the cash raised are often exacted. On
bonds of high-class industrial concerns, bankers'
commissions (or profits) of from 5 to 10 points
have been common.
Nor have these heavy charges been confined
to industrial concerns. Even railroad securities,
supposedly of high grade, have been subjected to
like burdens. At a time when the New Haven's
credit was still unimpaired, J. P. Morgan & Co.
took the New York, Westchester & Boston Rail-
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? 96 OTHER PEOPLE'S MONEY
way first mortgage bonds, guaranteed by the
New Haven at 92 1/2; and they were marketed
at 96 1/4. They took the Portland Terminal
Company bonds, guaranteed by the Maine Cen-
tral Railroad--a corporation of unquestionable
credit--at about 88, and these were marketed
at 92.
A large part of these underwriting commis-
sions is taken by the great banking houses, not
for their services in selling the bonds, nor in as-
suming risks, but for securing others to sell the
bonds and incur risks. Thus when the Inter-
boro Railway--a most prosperous corporation
--financed its recent $170,000,000 bond issue,
J. P. Morgan & Co. received a 3 per cent. com-
mission, that is, $5,100,000, practically for ar-
ranging that others should underwrite and sell
the bonds.
The aggregate commissions or profits so taken
by leading banking houses can only be conjec-
tured, as the full amount of their transactions
has not been disclosed, and the rate of com-
mission or profit varies very widely. But the
Pujo Committee has supplied some interesting
data bearing upon the subject: Counting the
issues of securities of interstate corporations
only, J. P. Morgan & Co. directly procured the
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? WHAT PUBLICITY CAN DO 97
public marketing alone or in conjunction with
others during the years 1902-1912, of $1,950,-
000,000. What the average commission or profit
taken by J. P. Morgan & Co. was we do not know;
but we do know that every one per cent. on that
sum yields $19,500,000. Yet even that huge
aggregate of $1,950,000,000 includes only a part
of the securities on which commissions or profits
were paid. It does not include any issue of
an intrastate corporation. It does not include
any securities privately marketed. It does not
include any government, state or municipal bonds.
It is to exactions such as these that the wealth
of the investment banker is in large part due.
And since this wealth is an important factor in
the creation of the power exercised by the Money
Trust, we must endeavor to put an end to this
improper wealth getting, as well as to improper
combination. The Money Trust is so powerful
and so firmly entrenched, that each of the sources
of its undue power must be effectually stopped,
if we would attain the New Freedom.
HOW SHALL EXCESSIVE CHAKGES BE STOPPED?
The Pujo Committee recommends, as a remedy
for such excessive charges, that interstate cor-
porations be prohibited from entering into any
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? 98 OTHER PEOPLE'S MONEY
agreements creating a sole fiscal agent to dispose
of their security issues; that the issue of the
securities of interstate railroads be placed under
the supervision of the Interstate Commerce
Commission; and that their securities should be
disposed of only upon public or private competi-
tive bids, or under regulations to be prescribed
by the Commission with full powers of investi-
gation that will discover and punish combina-
tions which prevent competition in bidding.
Some of the state public-service commissions
now exercise such power; and it may possibly
be wise to confer this power upon the interstate
commission, although the recommendation of the
Hadley Railroad Securities Commission are to
the contrary. But the official regulation as pro-
posed by the Pujo Committee would be confined
to railroad corporations; and the new security
issues of other corporations listed on the New
York Stock Exchange have aggregated in the
last five years $4,525,404,025, which is more than
either the . railroad or the municipal issues.
Publicity offers, however, another and even more
promising remedy: a method of regulating
bankers' charges which would apply automa-
tically to railroad, public-service and industrial
corporations alike.
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? WHAT PUBLICITY CAN DO 99
The question may be asked: Why have these
excessive charges been submitted to? Corpora-
tions, which in the first instance bear the charges
for capital, have, doubtless, submitted because
of banker-control; exercised directly through
interlocking directorates, or kindred relations,
and indirectly through combinations among
bankers to suppress competition. But why have
the investors submitted, since ultimately all
these charges are borne by the investors, except
so far as corporations succeed in shifting the
burden upon the community? The large army
of small investors, constituting a substantial
majority of all security buyers, are entirely free
from banker control. Their submission is un-
doubtedly due, in part, to the fact that the
bankers control the avenues to recognizedly safe
investments almost as fully as they do the
avenues to capital. But the investor's servility
is due partly, also, to his ignorance of the
facts. Is it not probable that, if each in-
vestor knew the extent to which the security he
buys from the banker is diluted by excessive
underwritings, commissions and profits, there
would be a strike of capital against these unjust
exactions?
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? 100 OTHER PEOPLE'S MONEY
THE STRIKE OF CAPITAL
A recent British experience supports this
view. In a brief period last spring nine differ-
ent issues, aggregating $135,840,000, were offered
by syndicates on the London market, and on the
average only about 10 per cent. of these loans
was taken by the public. Money was "tight,"
but the rates of interest offered were very liberal,
and no one doubted that the investors were
well supplied with funds. The London Daily
Mail presented an explanation:
"The long series of rebuffs to new loans at the
hands of investors reached a climax in the ill
success of the great Rothschild issue. It will
remain a topic of financial discussion for many
days, and many in the city are expressing the
opinion that it may have a revolutionary effect
upon the present system of loan issuing and
underwriting. The question being discussed is
that the public have become loth to subscribe
for stock which they believe the underwriters can
afford, by reason of the commission they receive,
to sell subsequently at a lower price than the
issue price, and that the Stock Exchange has
begun to realize the public's attitude. The public
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? WHAT PUBLICITY CAN DO 101
sees in the underwriter not so much one who in-
sures that the loan shall be subscribed in return
for its commission as a middleman, who, as it
were, has an opportunity of obtaining stock at
a lower price than the public in order that he
may pass it off at a profit subsequently. They
prefer not to subscribe, but to await an oppor-
tunity of dividing that profit. They feel that
if, when these issues were made, the stock were
offered them at a more attractive price, there
would be less need to pay the underwriters so
high commissions. It is another practical pro-
test, if indirect, against the existence of the
middleman, which protest is one of the features
of present-day finance. "
Compel bankers when issuing securities to
make public the commissions or profits they are
receiving. Let every circular letter, prospectus
or advertisement of a bond or stock show clearly
what the banker received for his middleman-
services, and what the bonds and stocks net
the issuing corporation. That is knowledge to
which both the existing security holder and the
prospective purchaser is fairly entitled. If the
bankers' compensation is reasonable, consider-
PUBLICITT AS A REMEDY
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? 108 OTHER PEOPLE'S MONEY
ing the skill and risk involved, there can be no
objection to making it known. If it is not
reasonable, the investor will "strike," as in-
vestors seem to have done recently in England.
Such disclosures of bankers' commissions or
profits is demanded also for another reason: It
will aid the investor in judging of the safety of
the investment. In the marketing of securities
there are two classes of risks: One is the risk
whether the banker (or the corporation) will find
ready purchasers for the bonds or stock at the
issue price; the other whether the investor will
get a good article. The maker of the security
and the banker are interested chiefly in getting it
sold at the issue price. The investor is interested
chiefly in buying a good article. The small
investor relies almost exclusively upon the banker
for his knowledge and judgment as to the quality
of the security; and it is this which makes his
relation to the banker one of confidence. But
at present, the investment banker occupies a
position inconsistent with that relation. The
bankers' compensation should, of course, vary
according to the risk he assumes. Where there
is a large risk that the bonds or stock will not be
promptly sold at the issue price, the underwriting
commission (that is the insurance premium)
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? WHAT PUBLICITY CAN DO 103
should be correspondingly large. But the banker
ought not to be paid more for getting investors
to assume a larger risk. In practice the banker
gets the higher commission for underwriting the
weaker security, on the ground that his own risk
is greater. And the weaker the security, the
greater is the banker's incentive to induce his
customers to relieve him. Now the law should
not undertake (except incidentally in connection
with railroads and public-service corporations) to
fix bankers' profits. And it should not seek to
prevent investors from making bad bargains.
But it is now recognized in the simplest mer-
chandising, that there should be full disclosures.
The archaic doctrine of caveat emptor is vanishing.
The law has begun to require publicity in aid of
fair dealing. The Federal Pure Food Law does
not guarantee quality or prices; but it helps the
buyer to judge of quality by requiring disclosure
of ingredients. Among the most important facts
to be learned for determining the real value of a
security is the amount of water it contains.
And any excessive amount paid to the banker
for marketing a security is water. Require a
full disclosure to the investor of the amount of
commissions and profits paid; and not only will
investors be put on their guard, but bankers'
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? 104 OTHER PEOPLE'S MONEY
compensation will tend to adjust itself auto-
matically to what is fair and reasonable. Ex-
cessive commissions--this form of unjustly ac-
quired wealth--will in large part cease.
REAL DISCLOSURE
But the disclosure must be real. And it must
be a disclosure to the investor. It will not suffice
to require merely the filing of a statement of facts
with the Commissioner of Corporations or with
a score of other officials, federal and state. That
would be almost as ineffective as if the Pure Food
Law required a manufacturer merely to deposit
with the Department a statement of ingredients,
instead of requiring the label to tell the story.
Nor would the filing of a full statement with the
Stock Exchange, if incorporated, as provided
by the Pujo Committee bill, be adequate.
To be effective, knowledge of the facts must be
actually brought home to the investor, and this
can best be done by requiring the facts to be
stated in good, large type in every notice, circu-
lar, letter and advertisement inviting the investor
to purchase. Compliance with this requirement
should also be obligatory, and not something
which the investor could waive. For the whole
public is interested in putting an end to the
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? WHAT PUBLICITY CAN DO 105
bankers' exactions. England undertook, years
ago, to protect its investors against the wiles of
promoters, by requiring a somewhat similar dis-
closure; but the British act failed, in large
measure of its purpose, partly because under it
the statement of facts Was filed only with a public
official, and partly because the investor could
waive the provision. And the British statute has
now been changed in the latter respect.
DISCLOSE SYNDICATE PARTICULARS
The required publicity should also include a
disclosure of all participants in an underwriting.
It is a common incident of underwriting that no
member of the syndicate shall sell at less than the
syndicate price for a definite period, unless the
syndicate is sooner dissolved. In other words,
the bankers make, by agreement, an artificial
price. Often the agreement is probably illegal
under the Sherman Anti-Trust Law. This price
maintenance is, however, not necessarily objec-
tionable. It may be entirely consistent with the
general welfare, if the facts are made known.
But disclosure should include a list of those par-
ticipating in the underwriting so that the public
may not be misled. The investor should know
whether his adviser is disinterested.
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? 106 OTHER PEOPLE'S MONEY
Not long ago a member of a leading banking
house was undertaking to justify a commission
taken by his firm for floating a now favorite pre-
ferred stock of a manufacturing concern. The
bankers took for their services $250,000 in cash,
besides one-third of the common stock, amount-
ing to about $2,000,000. "Of course," he said,
"that would have been too much if we could have
kept it all for ourselves; but we couldn't. We
had to divide up a large part. There were fifty-
seven participants. Why, we had even to give
$10,000 of stock to (naming the presi-
dent of a leading bank in the city where the busi-
ness was located). He might some day have
been asked what he thought of the stock. If he
had shrugged his shoulders and said he didn't
know, we might have lost many a customer for
the stock. We had to give him $10,000 of the
stock to teach him not to shrug his shoulders. "
Think of the effectiveness with practical Amer-
icans of a statement like this:
A. B. & Co.
Investment Bankers
We have today secured substantial control of
the successful machinery business heretofore
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? WHAT PUBLICITY CAN DO 107
conducted by at , Illinois, which
has been incorporated under the name of the
Excelsior Manufacturing Company with a capital
of $10,000,000, of which $5,000,000 is Preferred
and $5,000,000 Common.
As we have a large clientele of confiding
customers, we were able to secure from the
owners an agreement for marketing the Pre-
ferred stock--we to fix a price which shall net
the owners in cash $95 a share.
We offer this excellent stock to you at $100. 75
per share. Our own commission or profit will
be only a little over $5. 00 per share, or say,
$250,000 cash, besides $1,500,000 of the Common
stock, which we received as a bonus. This cash
and stock commission we are to divide in various
proportions with the following participants in the
underwriting syndicate:
C. D. & Co. , New York
E. F. & Co. , Boston
L. M. & Co. , Philadelphia
I. K. & Co. , New York.
O. P. & Co. , Chicago
Were such notices common, the investment
bankers would "be worthy of their hire," for
only reasonable compensation would ordinarily
be taken.
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? 108 OTHER PEOPLE'S MONEY
For marketing the preferred stock, as in the
case of Excelsior Manufacturing Co. referred to
above, investment bankers were doubtless
essential, and as middlemen they performed a
useful service. But they used their strong position
to make an excessive charge. There are, how-
ever, many cases where the banker's services
can be altogether dispensed with; and where
that is possible he should be eliminated, not
only for economy's sake, but to break up
financial concentration.
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? CHAPTER VI
WHERE THE BANKER IS SUPERFLUOUS
The abolition of interlocking directorates will
greatly curtail the bankers' power by putting an
end to many improper combinations. Publicity
concerning bankers' commissions, profits and
associates, will lend effective aid, particularly by
curbing undue exactions. Many of the specific
measures recommended by the Pujo Committee
(some of them dealing with technical details)
will go far toward correcting corporate and bank-
ing abuses; and thus tend to arrest financial
concentration. But the investment banker has,
within his legitimate province, acquired control
so extensive as to menace the public welfare,
even where his business is properly conducted.
If the New Freedom is to be attained, every
proper means of lessening that power must be
availed of. A simple and effective remedy,
which can be widely applied, even without new
legislation, lies near at hand:--Eliminate the
banker-middleman where he is superfluous.
Today practically all governments. states and
109
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? 110 OTHER PEOPLE'S MONEY
municipalities pay toll to the banker on all
bonds sold. Why should they? It is not be-
cause the banker is always needed. It is because
the banker controls the only avenue through
which the investor in bonds and stocks can or-
dinarily be reached. The banker has become the
universal tax gatherer. True, the pro rata
of taxes levied by him upon our state and city
governments is less than that levied by him upon
the corporations. But few states or cities escape
payment of some such tax to the banker on every
loan it makes. Even where the new issues of
bonds are sold at public auction, or to the highest
bidder on sealed proposals, the bankers' syndicates
usually secure large blocks of the bonds which
are sold to the people at a considerable profit.
The middleman, even though unnecessary, col-
lects his tribute.
There is a legitimate field for dealers in state
and municipal bonds, as for other merchants.
Investors already owning such bonds must have
a medium through which they can sell their
holdings. And those states or municipalities
which lack an established reputation among
investors, or which must seek more distant
markets, need the banker to distribute new issues.
But there are many states and cities which have
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? SUPERFLUOUS BANKERS 111
an established reputation and have a home
market at hand. These should sell their bonds
direct to investors without the intervention of a
middleman. And as like conditions prevail with
some corporations, their bonds and stocks should
also be sold direct to the investor. Both financial
efficiency and industrial liberty demand that the
bankers' toll be abolished, where that is possible.
The business of the investment banker must
not be confused with that of the bond and stock
broker. The two are often combined; but the
functions are essentially different. The broker
performs a very limited service. He has properly
nothing to do with the original issue of securities,
nor with^their introduction into the market. He
merely negotiates a purchase or sale as agent for
another under specific orders. He exercises no
discretion, except in the method of bringing
buyer and seller together, or of executing orders.
For his humble service he receives a moderate
compensation, a commission, usually one-eighth
of one per cent. (12 1/2 cents for each $100) on
the par value of the security sold. The invest-
ment banker also is a mere middleman. But he
is a principal, not an agent. He is also a merchant
BANKER AND BBOKEB
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? 112 OTHER PEOPLE'S MONEY
in bonds and stocks. The compensation received
for his part in the transaction is in many cases
more accurately described as profit than as com-
mission. So far as concerns new issues of
government, state and municipal bonds, espe-
cially, he acts as merchant, buying and selling
securities on his own behalf; buying commonly
at wholesale from the maker and selling at retail
to the investors; taking the merchant's risk and
the merchant's profits. On purchases of corpo-
rate securities the profits are often very large;
but even a large profit may be entirely proper;
for when the banker's services are needed and
are properly performed, they are of great value.
On purchases of government, state and munic-
ipal securities the profit is usually smaller; but
even a very small profit cannot be justified, if
unnecessary.
HOW THE BANKER CAN SERVE
The banker's services include three distinct
functions, and only three:
First: Specifically as expert. The investment
banker has the responsibility of the ordinary
retailer to sell only that merchandise which is
good of its kind. But his responsibility in this
respect is unusually heavy, because he deals in an
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? SUPERFLUOUS BANKERS 118
article on which a great majority of his customers
are unable, themselves, to pass intelligent judg-
ment without aid. The purchase by the investor
of most corporate securities is little better than a
gamble, where he fails to get the advice of some
one who has investigated the security thoroughly
as the banker should. For few investors have the
time, the facilities, or the ability to investigate
properly the value of corporate securities.
Second: Specifically as distributor. The banker
performs an all-important service in providing
an outlet for securities. His connections enable
him to reach possible buyers quickly. And good-
will--that is, possession of the confidence of regu-
lar customers--enables him to effect sales where
the maker of the security might utterly fail to
find a market.
Third: Specifically as jobber or retailer. The
investment banker, like other merchants, carries
his stock in trade until it can be marketed. In
this he performs a service which is often of great
value to the maker. Needed cash is obtained
immediately, because the whole issue of securities
can thus be disposed of by a single transaction.
And even where there is not immediate payment,
the knowledge that the money will be provided
when needed is often of paramount importance.
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? 114 OTHER PEOPLE'S MONEY
By carrying securities in stock, the banker per-
forms a service also to investors, who are thereby
enabled to buy securities at such times as they
desire.
Whenever makers of securities or investors
require all or any of these three services, the
investment banker is needed, and payment of
compensation to him is proper. Where there is
no such need, the banker is clearly superfluous.
And in respect to the original issue of many of our
state and municipal bonds, and of some corporate
securities, no such need exists.
It needs no banker experts in value to tell us
that bonds of Massachusetts or New York, of
Boston, Philadelphia or Baltimore and of scores
of lesser American cities, are safe investments.
The basic financial facts in regard to such bonds
are a part of the common knowledge of many
American investors; and, certainly, of most pos-
sible investors who reside in the particular state
or city whose bonds are in question. Where the
financial facts are not generally known, they are
so simple, that they can be easily summarized and
understood by any prospective investor without
interpretation by an expert. Bankers often
WHEEE THE BANKER SERVES NOT
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? SUPERFLUOUS BANKERS 11&
employ, before purchasing securities, their own.
accountants to verify the statements supplied by
the makers of the security, and use these account-
ants' certificates as an aid in selling. States and
municipalities, the makers of the securities,
might for the same purpose employ independent
public accountants of high reputation, who would
give their certificates for use in marketing the
securities. Investors could also be assured with-
out banker-aid that the basic legal conditions are
sound. Bankers, before purchasing an issue of
securities, customarily obtain from their own
counsel an opinion as to its legality, which inves-
tors are invited to examine. It would answer
the same purpose, if states and municipalities
should supplement the opinion of their legal
representatives by that of independent counsel
of recognized professional standing, who would
certify to the legality of the issue.
Neither should an investment banker be needed
to find investors willing to take up, in small lots,
a new issue of bonds of New York or Massa-
chusetts, of Boston, Philadelphia or Baltimore, or
a hundred other American cities. A state or
municipality seeking to market direct to the
investor its own bonds would naturally experi-
ence, at the outset, some difficulty in marketing a
? ? Generated for (University of Chicago) on 2014-06-10 03:28 GMT / http://hdl. handle. net/2027/uc1. 32106000978228 Public Domain, Google-digitized / http://www. hathitrust. org/access_use#pd-google
? 116 OTHER PEOPLE'S MONEY
large issue.
