officers and supervisory employees since the merger. We will retire 143 more by the end of the year, and every department is being asked to submit a list of candidates who will be eligible in the near future.

In the fourth quarter, we expect to cut our per diem payments (to other railroads for their freight cars on our lines) by about $6.5 million, and we estimate that these costs will run some $9 million less than for the last half of 1968.

In addition, a recent Supreme Court decision upholding a time-mileage formula for per diem payments is expected to become effective in the near future and should produce additional savings of $16 million in 1970.

As you are aware, Penn Central is burdened with a far greater passenger service deficit than any other railroad, since we now operate more than a third of all the Nation's rail passenger service. We are continuing to develop public assistance plans for improving commuter service and cutting operating deficits in the Philadelphia, New York, New Jersey, and Boston areas.

Under terms of an agreement executed on November 25, Penn Central will sell for $11.1 million its equipment and part of its right-of-way and will receive approximately $4 million in annual rentals from the States of New York and Connecticut for its commuter line between New York City and New Haven. The two States and the Federal Government will spend $80 million to acquire new equipment and modernize facilities.

Our railroad's new Metroliner trains are producing a 14-percent gain in overall passenger traffic between New York and Washington.

Penn Central has spent nearly $600 million for merger-connected capital projects since the merger of the Pennsylvania and New York Central railroads in February 1968. The biggest single new facility for 1969, a $26-million electronic classification yard at Columbus, Ohio, will be opened in December. Several other key yards have been expanded to accommodate heavier traffic.

The largest and most costly of our merger projects are now behind us. We have combined 32 major terminals and have made virtually all important rail connections. These new facilities are tools with which we can improve our efficiency and productivity in the years ahead.

Our new president, Paul A. Gorman, took office today. He was formerly president of Western Electric Company, an organization larger than Penn Central, and an executive vice president of American Telephone & Telegraph Company. Mr. Gorman, I am sure, will give fresh impetus to cost control and management efficiency programs. He is recognized as a leading expert in corporation management and we are fortunate to get him.

Our diversification program has been extremely successful since the former Pennsylvania Railroad initiated it in 1963. We have branched out in two direc tions (1) development of our own railroad-related property and (2) acquisition of real estate properties in California, Texas, Florida, and Georgia, and a pipeline system in the Northeast.

We are expanding our wholly owned subsidiary, Buckeye Pipe Line Company, which now operates a 7,800-mile distribution network. Buckeye, together with our two real estate subsidiaries, Great Southwest Corporation and Arvida Corporation, contributed more than $50 million to our consolidated income during the first 9 months of this year.

We are in the process of acquiring three companies which will add more than $100 million to our revenues next year. Southwest Oil & Refining Company operates a 50,000-barrel-per-day refinery and Royal Petroleum Corporation wholesales fuel oil and operates a deepwater marine terminal in the New York City area.

Richardson Homes Corporation of Indiana, which is being acquired through Great Southwest, a Penn Central subsidiary, has built mobile homes for more than 25 years. Its 1969 sales volume will reach $25 million. Richardson has plants in Indiana, North Carolina, Texas, and Florida, and is now planning to enter the modular home field, for the manufacture and distribution of prefabricated housing, I would like to call your attention to legislation pending in Congress which will provide Federal aid for passenger-carrying railroads. We are seeking Federal assistance to cover deficits incurred in operating passenger trains which cannot pay their own way and to finance acquisition of modern passenger equipment. Penn Central's best hope for real progress in curtailing its passenger deficit lies in this legislation. Propects for its enactment are better than they have ever been. I urge you to write immediately to the Members of Congress whom you know or represent you asking them to approve this vitally essential measure. Favorable action by the 91st Congress will be in the public interest as well as your own. Sincerely,

STUART T. SAUNDERS, Chairman.

II-A. SALE OF PENN CENTRAL STOCK
BY INSTITUTIONS

INTRODUCTION

During the optimistic period before and shortly after the merger, Penn Central stock was favored by many institutional investors including mutual funds and banks. As Penn Central's fortunes declined, most of these institutions sold their holdings. A number of these institutions had possible means of obtaining confidential information.

To explore the possibility of sales based on inside information, the staff sought the identity of these institutions through questionnaires sent to brokers, through reports to the Commission from registered investment companies, and through various other means. Where a pattern or relationship raised some question, further information was sought. Over 100 institutions were subpenaed for the production of documents. This information was analyzed to determine whether trading on inside information had occurred.

The analysis of possible insider trading was made difficult by the existence of some public adverse information throughout the period. Although there was significant adverse information that was nonpublic, sellers were able to cite the public information as a reason for selling. The staff, therefore, paid particular attention to trading at significant times or where there was a significant relationship between the company and the seller. Affidavits or testimony were sought where unresolved questions existed.

As a result of the analysis, the inquiry focused on five institutions which sold stock at a critical period (late May and early June 1970) and which had, or may have had, a relationship to Penn Central: Chase Manhattan Bank, Morgan Guaranty Trust Co., Continental Illinois National Bank & Trust Co., Investors Mutual Fund and Alleghany Corp. The staff's findings on these institutions are described separately in this section.1 Testimony was taken from officers and employees of these institutions. The witnesses denied that inside information was used in any way in the decision to sell Penn Central stock. In each case they cited public information cr particular internal circumstances as the reason for the sales. It is clear, however, that the sales of the banks point up inherent conflicts of interest. As a lender to corporations, a bank is obviously entitled to nonpublic information. As a manager of trust accounts, a bank seeks out information to advance the interest of these accounts. It is clear, however, that no

Investors Mutual Fund and Alleghany are described together because of common control of Alleghany and Investors Diversified Services, Inc. (management company for Investors Mutual) and because of relationships in the timing of the sales.

confidential information gathered in a commercial banking capacity may be used to benefit the trust accounts. Banks have an affirmative duty to see that appropriate procedures are established to prevent any transmittal of information. In the case of these banks, Chase described certain procedures it had instituted to separate the functions, whereas Morgan, on the other hand, had no such meaningful procedures. Officers from both units routinely attended joint meetings, and, until almost the hour of Morgan's sales, one analyst served both the commercial and trust departments.

There is also a question of confidential information passing by way of interlocking directors. Stuart Saunders was a common director of Penn Central and Chase. Thomas Perkins and John Dorrance were common directors of Penn Central and Morgan. Although any conveyance of confidential information by this route was denied, on at least the Morgan board and its trust committee a common director spoke on Penn Central's affairs in the presence of trust officers. Interlocking directors should not be put in the position where they might disclose confidential information to bank trust officers.

Although at this point serious questions exist about whether sales were made on inside information, it should be noted that proof of insider trading is always difficult. The difficulty is increased where, as here, there is some public adverse information which might explain the trade. Unless direct testimony or documents can be obtained on the use of inside information it is difficult to sustain a charge of misuse of information.2

CHASE MANHATTAN BANK, N.A.

Chase Manhattan Bank, N.A., as one of the largest commercial banks in the United States, had extensive relationships with Penn Central, including among others, participation in various term loans to Penn Central by banking syndicates and an interlocking directorship in that Stuart Saunders, chairman of the board of Penn Central, was a member of the board of directors of Chase.

During the period of May 1-June 21, 1970, Chase sold 7,618 shares for its personal trust accounts and 3,597 shares for its investment advisory accounts. During the period May 6-June 21, 1970, Chase sold 543,500 shares from its pension trust accounts."

4

5

The activity in these various accounts at Chase may be illustrated by the following table:

2 Both of the commercial lending departments of Morgan and Continental had inside information at the time the trust department was selling Penn Central stock, but the parties to the decision to sell deny under oath that the trust department had access to the information.

3 In personal trust accounts Chase usually did not have discretionary authority but rather was limited by the terms of the trust instrument and by the control exercised by the co-trustee(s).

4 In investment advisory accounts Chase merely furnished advice with no authority to purchase or sell securities for the account.

From figures made public by Chase. It should be noted that a staff review of the confirmation sheets submitted by Chase indicates a lesser total. However, we will assume that public statistics are correct.

In almost all pension trust accounts, Chase acted as Manager, i.e., it had full discretionary authority to purchase or sell securities held by the Trust as it deemed appropriate.

Thus, holdings of Penn Central stock decreased by 529,318 shares or 78 percent. The foregoing figures should be compared with the following table II, which indicates Chase's holdings at various dates prior to this period:

Moreover, it should be noted that Chase as a bank subject to regulation by the Federal Reserve Board and subject to the restrictions of the Glass-Steagall Act did not own or trade any Penn Central stock for its own account.

As the foregoing statistics indicate, the overwhelmingly majority of sales by Chase of Penn Central stock were made for its pension accounts. The following table indicates also that these sales were clustered during the period May 6-June 10, 1970.

Thus, during the period from May 22 to June 4, 1970, Chase sold from its managed pension accounts a total of 509,850 shares or approximately 94 percent of the total Penn Central sales made by Chase in the period May 1-June 21, 1970.

In order to examine the reasons why these transactions occurred, four employees of Chase were deposed. They were Paul T. Walker, Vice President, U.S. Department (commercial division of Chase); James M. Lane, executive vice president, Fiduciary Investment Department (trust division of Chase); Paul P. Lehr, financial analyst, Fiduciary Investment Department; and James S. Martin, vice president, Fiduciary Investment Department.

Walker was a vice president in the commercial division of Chase who had responsibility for the commercial and correspondent bank business in certain mid-Atlantic States. One of his accounts was the Penn Central complex.

Chase was a participant in various term loans and revolving credits made to Penn Central and was also a depositary bank for Penn Central. However, Chase did not directly loan funds to Penn Central as Stuart Saunders was a member of the board of directors of Chase, and apparently a direct loan would constitute a conflict of interest.

7 However, it should be noted that the apparent discrepancy between the amount held at Mar. 26, 1970, and the amount held at June 23, 1970, may be attributable to a number of factors, including purchases of Penn Central stock, and transfer of accounts holding Penn Central to or from Chase.

Walker normally represented Chase in its dealing with other banks relative to loans to Penn Central. Walker did not attend nor was he aware of the content of the May 21, 1970, meeting between David Bevan and First National City and Chemical banks, wherein Bevan discussed Penn Central's current financial condition, the postponement of the Pennsylvania Company's $100 million debenture offering and Penn Central's intent to seek a $225 million Government guaranteed loan. Walker did attend the May 28, 1970, meeting of the banks regarding Penn Central.

8

Walker maintained that the only persons he ever talked with at Chase about Penn Central financial matters were other officers of the commercial department. Walker specifically denied talking with Mr. Lehr or Mr. Martin of the Fiduciary Investment Department of Chase about Penn Central. Moreover, although Chase was represented at the May 28, 1970, meeting and although it did receive the "Confidential Memorandum" dated May 22, 1970, regarding the financial condition of Penn Central, it was claimed such information was not given to the Fiduciary Investment Department." Walker made reference to Chase's internal policy regarding communication between the commercial and trust divisions of Chase. This policy was stated by David Rockefeller in testimony to Congress as follows:

By executive letter, last revised under date of November 4, 1968, which was issued by the chairman of the board and the president of the bank, all personnel were instructed that there is to be no flow or incidental communication of inside information from the commercial departments or divisions of the bank to the investment department or the pension or personal trust divisions of the trust department.

Chase has erected a "Chinese wall" between its commercial and trust divisions with the intent that neither act with or for the other, and that although, organizationally, they are divisions of the same bank, they should be functionally independent.

Lane, as executive vice president, was in charge of the Fiduciary Investment Department of Chase. Lane was chairman of the investment policy committee which had the responsibility for determining broad investment policy and strategy. Lane was also chairman of the trust investment committees, which were four committees, one each for pension, personal trust, corporate trust, and discretionary investment management accounts.

The investment policy committee in addition to setting broad policy has final authority to accept or reject the specific market ratings of the Fiduciary Investment Department's research group. Thus the investment policy committee in setting broad investment guidelines and approving specific ratings of particular securities determines the parameters within which the individual portfolio managers may act, subject to any applicable restrictions in a trust instrument. However, 8 Walker did receive a telephone call from Jonathan O'Herron at his home on Saturday night, May 23. O'Herron apologized to Walker about Penn Central's not having kept the banks adequately informed. Walker considered this to be an extraordinary call, In a letter dated Mar. 3, 1971, addressed to William Kuehnle, Roy C. Haberkern, Jr., Counsel to Chase states: "After investigation, we have determined that the "confidential" memorandum dated May 22, 1970, concerning Penn Central Transportation Co. was received by one or both of two officers in the Commercial department of the Chase Manhattan Bank (National Association), Paul T. Walker and Peter E. Lengyel, both vice-presidents. It is their recollection that said memorandum was received from representatives of First National City Bank at a meeting held at First National City Bank on May 28, 1970, or shortly thereafter. We are further advised by Messrs. Walker and Lengyel that neither of them had any conversations with any officer-or employee of the Fiduciary Investment Department of Chase with respect to said memorandum or with respect to any other subject involving either Penn Central Co. or any of its affiliates. As you know, the memorandum was not contained in the files of the Fiduciary Investment Department."