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the stockholders and their only recourse would be to change the management. If no better management could be secured the only result would be to injure the stockholder.

There is certainly a need for the flow of private capital into capital goods industries. The Government can keep up its expenditures in this field for only a limited time. I feel sure that Congress will consider all of the suggestions made for the improvement of this legislation. If it is to be enacted into law, nothing must be done that will delay recovery. Rather, everything should be done to hasten it.

It is generally recognized that the return on a fixed interest security includes two elements: first, pure interest, and second, compensation for the risk. Naturally, the risk in any industrial situation changes from time to time and fluctuations in securities are certain to develop as long as this is so. If the public could be made to understand this a great part of the demand for this regulation would cease. In the end no cure other than public education is going to be effective.

There seems to be an idea inherent in the bill that, if sufficient information regarding the affairs of any corporation is given to an investor, the latter will be able to determine the value of a security. This same idea seems to have been predominant in Mr. Pecora's questioning of Mr. Frank Altschul in regard to the activities of the committee on stock list. Mr. Pecora came back time and again to whether the committee had looked into the value of the properties being acquired by the issuance of additional shares. Mr. Altschul made the point that the committee did not attempt to go beyond the judgment of the directors of the corporation seeking listing.

So far as I am aware no student of securities, however well informed, has been able accurately to determine values. This is perfectly clear in the case of intangibles. What is the actual value of goodwill; the accumulated effect of advertising; the worth of patents or formulae? How much is a plant worth? Of course, it is possible to determine the original cost but this cost figure becomes meaningless and depends for its informative worth upon a disclosure as to when the plant was constructed, 1913, 1919, 1921, 1929, 1933. Officials within a company will spend hours arguing as to the proper basis of valuing receivables or inventory.

Accountants have labored for years in the attempt to create the understanding that a certified audit, except in a few minor particulars, is not a statement of fact, but a statement of opinion.

A sidelight might be thrown on this whole question of valuation by the very certificate of the accountants. A sophisticated person accustomed to reading balance sheets is much more apt to look, not at the careful working of the accountant's certificate, but at the name of the accountant who made the certificate. An appraisal of the carefulness of the audit is usually based not on a careful reading of the words but on the reputation of the accounting firm making the audit.

The penalties for willful violation set forth in section 24 are much smaller than the civil liabilities set forth primarily in sections 9-b and c, and section 17. The magnitude of the penlaties for violations not willful is so great that in order to make a workable law extreme care in drafting is called for. Interpretation of many sections is left to the discretion of the Federal Trade Commission, and in many other sections the language is so broad that the full effect will not be determined for years through the medium of jury trials and court decisions. Under these circumstances it is probable that the prudent will allow the law to be determined by the courageous or foolhardy as defendants in litigation. The alternatives proposed are (1) either that the bill be so carefully drawn as to cover possible violations with such clarity that any business man can understand them in the daily conduct of his business, or (2) that, if a rule of reason is to be applied the unprecedented penalty provisions be excluded from the bill and the courts allowed to determine damages under this rule of reason as is presently done in practically all damage suits. In a complex situation of this character which is subject to organic growth it would seem that the latter course is the most sensible.

I am wondering whether the extreme character of the penlaties carried under the law would not open new fields of conscienceless persons to take unfair advantage of honest men employed in a legitimate business. Have not the reactions to legislation of the past containing extreme penalties convinced us that unusual penalties are ineffective in preventing criminal acts?

APPENDIX B.-REGULATORY POWERS OF THE FEDERAL TRADE COMMISSION The question as to whether governmental supervision should be established is certainly an open one, far from conclusive in favor of governmental regulation and supervision, when one considers the full sweep of regulation and its inevitable

results. I doubt that the staff required by the Federal Trade Commission or any other new supervisory organization can be mobilized by October. It would have to be hastily mobilized and there would be no assurance that the new personnel would be either honest or efficient. If additional statutes will not solve the problem surely more supervision is not the answer but rather better supervision.

If the Federal Trade Commission were an appeal board to which complaints could be made about practices in the exchanges or among their members, or on the part of corporations whose securities were listed, there would be a tremendous pressure put upon all parties to follow sound and fair methods of procedure. The mere fact that corporation officers were subjected to an inquiry regarding the accuracy of the financial statements given out by a corporation, for example, would bring bad practices sharply to the attention of all other corporate officials. In this way moral standards would be developed.

The Federal Trade Commission is given power by the bill to ruin any security dealer or broker (1) through the operation of the provision allowing the Commission to investigate the firm, to fix the cost of the investigation, and to make the investigated firm pay such cost, and (2) through the power to fix brokerage charges. These two provisions would permit the Federal Trade Commission effectively to wreck any part of the security distribution system.

The special powers of the Federal Trade Commission outlined in section 18 are so arbitrary that, if they were exercised, businesses might be seriously embarrassed or even destroyed and all without recourse. There is almost no limita. tion upon the acts of the Commission.

There might well be included in these_rigorous provisions a requirement that members and employees of the Federal Trade Commission should be required to reveal their interests in securities.

Paragraph (e), last sentence, goes so far as to make it a misdemeanor for a witness before the Commission to tell his wife or his personal counsel that he was a witness.

Section 20, paragraph (b), subsection (iii), permits the Commission to order the expulsion of an exchange member for effecting “any transaction for any other person who he has reason to believe is violating' either the act or the Commission's rules. The query naturally arises as to whether the Commission would have this right, even though the other party were not violating the act, but the member of the exchange had reason to suppose that he was.

In addition to the specific sections outlining the powers of the Federal Trade Commission there are references throughout the bill to the discretionary powers of the Commission. For example, section 13, dealing with proxies, and section 14, dealing with over-the-counter market, are practically meaningless as they stand. A blank check is being drawn in favor of Federal Trade Commissioners yet to be named by many future administrations yet to be elected.

Leaving aside all questions of personalities and outside pressure, the amount of responsibility to be assumed by an official will be difficult of determination. People with a sense of responsibility may very well hesitate to make decisions under the various ramifications of the bill.

The problems confronting the insurance commissioner of New York State are in point. From the record it would seem that a company selling mortgages in New York State broke the law and the insurance commissioner, by strict interpretation, undoubtedly should have closed that mortgage company; yet in the exercise of discretion the commissioner apparently took a chance in the hope that the panic would not be increased and financial distress augmented. If by keeping the institution alive he had prevented the collapse he could have had the innate satisfaction of having done a socially desirable thing, even though the law might have been transgressed. If his judgment was wrong and the depression continued and the mortgage company collapsed anyway, as it did, then the commissioner violated the law and did not fulfill his duties. There had to be a determination between social responsibility and personal responsibility. I do not know whether the insurance commissioner was able or not (but I think he was able). I do know that he was appointed to office by the now President of the United States.

It is argued that all forms of regulation have been opposed, and that that is the reason this form of regulation is being opposed. While the argument is certainly pertinent, it is far from conclusive. The Federal Trade Commission is known, and its makeup since its creation has probably been as good as it will be in the future. It is still discussing matters of fair business practice which it was created some 20 years ago to settle. These questions of fair business practice did

not approach in difficulty the questions presented by this bill for final decision and action by the Federal Trade Commission.

As instances of governmental supervision which have not been effective it is noted that supervision did not stop the opening of unnecessary and unsound banks, or insurance companies. There doesn't seem to have been any question about the capacity of the men doing the supervisory work, but the difficulties of effecting adequate supervision are tremendous.. If the supervising agency limits the number of banks in a period of expansion it is accused of favoring a monopoly. If it hasn't limited the number of banks it will find itself accused of allowing too many banks when the next period of depression rolls around. It is obviously much easier to criticize the supervisory organization after the event but it is impossible to insure sound supervision at the time the supervisory action has to be taken.

If authority is to be given to the Federal Trade Commission, must there not be a clear definition of its responsibility so that there may not later be a question as to whether the exchange authorities were responsible or whether the Federal Trade Commission was responsible? It looks like too much management to have two such organizations both doing the same job, and without any separation of duties or responsibilities.

APPENDIX CADDITIONAL NOTES AND QUERIES ON SPECIFIC SECTIONS Section 3, paragraphs 11 and 12, have very broad definitions for the words “buy” and “sell”, “buy” including an attempt to acquire an offer to sell, and “sell” including an attempt to secure an offer to buy. This makes a 'mere conversation have the same legal effect as the action resulting from this conversation.

Section 6.—The margin requirements in section 6 are less strict in connection with new securities which are entirely unseasoned, for obviously they cannot have been in the market for 3 years. After a new security has been listed for 1 day, customers would be free to borrow 80 percent on it. Another security of far better character, outstanding during a 3-year period, would quite likely have a much lower loan value. Under today's market conditions a newly issued, highly speculative security could be borrowed upon more liberally on the day after its listing than a seasoned security of a well established business.

Section 6 (a).-Has any study been made of the comparative advantages of owning listed stocks or securities as compared with unlisted stocks or securi· ties over recent years? Why should one class be singled out for regulation in a different way than the other?

Section 6 (b).- Under the powers proposed for the Federal Trade Commission, it apparently would be able to fix the rules for liquidation of margin accounts. Under this power could it go so far as to freeze security loans?

Could it practically prevent a foreclosure? There was a social argument for delaying foreclosures on homes. Might not this be used as a precedent for preventing foreclosure on collateral loans?

Section 6 (d).-With regard to the making of rules by the Federal Trade Commission in connection with selling out a customer's securities in order to pay off a collateral loan, suppose the broker demanded one procedure for his protection and the Federal Trade Commission would not allow him to proceed in accordance with his request. Suppose, too, that as a result of this Federal Trade Commission attitude or ruling the broker lost money and the customer lost money also.

Sections 6–7.—This legislation would allow the Federal Trade Commission to have jurisdiction and control over loans on securities. On account of the present powers of the Federal Reserve Board it would not be at all surprising to find the Federal Trade Commission trying to force a deflation at the time the Federal Reserve Board was trying to force an inflation. Certainly the responsibility ought to be fixed.

Section 7 (a).—This section would forbid borrowing on securities except from a member of the Federal Reserve System. It might be possible to borrow from foreign sources or even from private sources in this country at a time when the Federal Reserve member banks which might be approached would decline to make a loan. Time might not permit going to other banks which might be perfectly willing to make the loan. Would not an exception be in order in the event a loan were refused by one or two members of the Federal Reserve System?

Section 7 (b).-Has any work been done to show that the requirements under section 7 (b) are reasonable, or whether some other percentage might not be thoroughly safe?

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Section 7 (c).-Does section 7 (c) prevent a broker from employing his capital in anything except Government securities?

Section 8 (a) (5).—This prohibits the circulation of false or misleading information in the belief that the circulation may induce the purchase or sale of a security. Careful houses of issue have proceeded on the theory that they were not liable if they did not overstate the facts. They have taken unusual care to avoid unfair favorable inferences from prospectuses. If an additional issue were to be sold now by or through a banking firm it would no longer be any protecton to follow the previous sound practice, for an understatement would be as misleading as an overstatement. If a company now states its inventory as of the end of the year at cost or market, whichever is lower, that is the conservative and accepted practice. Under the bill it would be necessary to state also the replacement cost at market as of the end of the year. This might well lead to the inference that the "paper profit” in inventory at the end of the year would inure to the company's benefit during the coming year. This would be as likely to be false as to be true.

Section 8 (a) (4)–(5). - This whole question of what are misleading statements is a very involved one and leads to a very dangerous situation. From an ethical point of view I assume it is as wrong for the corporation officer to understate earnings as to overstate them. It is certainly true that a material understatement may do as much harm as a similar overstatement; yet every honest corporation officer recognizes that both balance sheets and earnings statements are not statements of fact but are statements of opinion. The honest officer's desire is to err, if at all, on the conservative side. This has been the custom generally accepted for many years and has been generally sanctioned. From the social point of view it is probably the soundest attitude. It tends to avoid stirring up unusual enthusiasm on account of unusual earnings in a short period. It is quite a violent proceeding to rule that an officer carrying out his conscientious duty as he sees it shall be held liable to the extent provided by the statute, even when he has no possible interest and takes no advantage of any stockholders through his action.

Section 8 (a) (5).—The valuation of tangible property is difficult and inconclusive at best. Almost nothing conclusive can be set as its value; yet our accounting systems and our custom of reporting corporate affairs are based upon the publication of balance sheets. The value of the property carried on the balance sheet would be open to question even if the amount carried in the balance sheet represented purchase price in currency less reasonable and proper depreciation. Such a figure might be thoroughly unrelated to liquidating value or present market value, or present replacement value, but added difficulties would be established in setting up any figure if the property were acquired for stock. In the same way no valuation of patents could be made; if they were valued at one dollar there would be the air of gross under-valuation, and if any other figure were used, there would be the risk of overstatement.

SECTION 8 (a) (5):—Would not the bill go so far as to prevent an honest man from presenting his views as to adverse conditions in a company or its management, even to its annual stockholders' meeting? A frank, open statement at this place might make the person liable to suit. Unless he could feel sure of effecting the reforms he desired, he would be slow to speak and the benefit of his criticism would not be secured. It is best in such cases to bring all criticism into the open, but if the critic were to be required to face the liability under this legislation he would be slow to criticize.

SECTION 8 (a) (5).—Is the commission to be privileged and free of liability in the information it gives out, or in its opinions, which undoubtedly will affect security values?

SECTION 8 (a) (5).-Would not this provision result in the destruction of existing financial and credit reporting and advisory agencies? Those advisory services which are doing a good job would be frightened by their liability, leaving in existence only those which are irresponsible. Would not the same restriction apply even to credit agencies, such as Dun and Bradstreet and the National Credit Bureau?

SECTION 8 (a) (7).-On the matter of the pegging of prices, it seems to make some difference who does the pegging. Congress has just been satisfied to allow two billion dollars for a stabilization fund for gold and foreign exchange. The people's money may be lost in the transaction but it wasn't a vice when the Government set up the fund for this purpose. The Government stabilizes the bond market in preparation for its large issues. Bankers who do exactly the same thing in connection with their issues are condemned for doing it. If the practice is right in one case what makes it immoral in the other?

SECTION 8 (a) (9).-Would not this provision effectively destroy property rights in existing options which were given for proper consideration and without reference to any manipulation of the market price of any security?

It would prevent trading in any securities with warrants attached and would also effectively prevent a corporation from issuing rights to buy additional capital stock.

SECTION 10.—Some statements have been made to the effect that the purposes of segregation, section 10, would be met by the British method of splitting commissions. That is exactly the method we have in effect now. The banking firms which are also members of the exchanges but have no “floor member" now give up part of their commissions to the floor brokers.

One of the theories back of the segregation provision is that no man can serve two masters. It will be readily admitted that a man may not serve two masters either to their satisfaction or his own, but there is scarcely a transaction in life in which counter interests do not arise. Even in the ordinary affairs of home life the desires of some individual members are not met and the desires of other individual members are met. The parent making the decision has to view the interests of the family as governing his action; he cannot avoid a charge of selfinterest or of misjudgment. The whole competitive system is based upon the idea that the seller who best serves the buyer's interest will himself profit by doing so.

SECTION 11 (a) and (b).—The bill appears to preclude the possibility of any "when-issued” market in new securities. Further, it prevents the purchase of new issues (which would be unlisted for at least 30 days) for other than cash by customers.

SECTION 11.—This section establishes new difficulties in the marketing of new securities probably not contemplated by the authors of the bill. Under the Securities Act the new issue must be registered with the Trade Commission at least 20 days before it is sold. Under the present bill in order to have a security listed on any exchange it must be passed upon by the exchange authorities and 30 days after that the final decision is made by the Trade Commission. Furthermore, as noted above, the bill appears to preclude a “when-issued” market. In any case, it seems likely that a period of weeks or months might have to elapse before a new security could be listed and used for collateral purposes.

The above is based on the assumption that section 6 (a) as presently drafted means that a bank or broker cannot lend on a security not listed on an exchange. Newspaper reports are that the bill will be redrafted so that banks can lend on unlisted security. If this happens a new issue would have higher collateral value than an issue which is listed and seasoned on a stock exchange.

In the case of all of those old issues where the 80 percent margin provision is the lower (true at present of practically all established stocks) the listed security is good as collateral for a loan of only 40 percent of its market value. In the case of a new issue which is hovering around the issue price the 80 percent provision would apply, and the new issue could be used as collateral for 80 percent of the lowest price at which it sold in 3 years, which would be approximately the issue price.

Section 12 (2). The cost of compiling quarterly audited reports is out of all proportion to the benefits secured. In the larger companies the audited report would come out so late that it would be only history and would have no effect upon current market quotations. It is doubted that there are auditors available in the country for carrying out the provision of the bill. The accountants should be better able to testify on this point.

Section 13. The unusual character of the bill is evident in section 13 wherein the requirement exists that companies sending out proxies must furnish the Federal Trade Commission and each stockholder the names and addresses of the persons from whom proxies are being solicited. The cost of these stockholders lists would be material, and no possible reason is seen for furnishing them, nor would any probable use be made of them if they were sent. If the company's own list is required to be made available is not that sufficient?

Section 13 provides for information being given to the Federal Trade Commission about proxies and the interests of the persons requesting proxies. It should be pointed out that in many corporations where the stock is widely held it is difficult to secure proxies sufficient to hold an annual meeting. If the Commission by its regulations makes it difficult to the point of impossibility to secure proxies the result will be that no meetings can be held. Under the existing law if there is no meeting of stockholders to elect directors the present directors continue in power. This point is cited because in the attempt to cover certain evils it seems

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