The 1884 receivership of the Wabash, St. Louis, and Pacific Railway is widely regarded as a turning point in the development of corporate insolvency law. It is said to have created a "new-fashioned receivership," which enabled debtors to initiate and, to a great extent, control receiverships. It is said that these new-fashioned receiverships facilitated reorganization of the insolvent firm at the expense of creditors' rights. An examination of the history of railroad receiverships reveals that for decades before 1884 judges allowed managers to initiate receiverships, appointed managers as receivers, and forced creditors to accept changes in their contractual rights. Judges also refused to extend reorganization procedures to corporations outside the railroad industry, justifying their special treatment of railroads on the grounds that the foremost obligation of railroads was to serve the public. Analysis of railroad bond prices supports the conclusion that creditors' rights were not transformed by the courts in the mid-1880s.
Historians have devoted considerable attention to railroads, not just because of their immense scale and their impact on transportation costs, but also because of their influence on corporate organization, management, finance, and the law.' One area of the law that was transformed by railroads is debtor-creditor law. In 1894, 20 percent of all railroad mileage in the United States was in the hands of receivers.2 Five years later, Edward Meade declared: "The reorganization of American railways is a more noteworthy financial achievement than the payment of the French indemnity or the refunding of the United States debt."3 The insolvency of railroads in the nineteenth century presented novel problems. Their corporate form of organization, their size, and their importance to the public all militated against the piecemeal liquidation provided for by traditional creditors' remedies. Instead of liquidation, courts put insolvent railroads into the hands of receivers, to be reorganized rather than dismantled. In the 1930s, Congress grafted onto the Bankruptcy Act the procedures that courts had developed to deal with insolvent railroads.4 Nineteenth-century railroad receiverships are thus noteworthy not only because of the scale on which they occurred but because they are the source of bankruptcy reorganization law in the United States.
Nineteenth-century legal treatises typically defined a receiver as "an indifferent person between the parties to a cause, appointed by the court to receive and preserve the property or fund in litigation pendente lite, when it does not seem reasonable to the court that either party should hold it."5 How did this legal procedure, originally developed to preserve disputed assets, become a means by which managers could seek to reorganize an insolvent corporation? One possible explanation is that in the late nineteenth century the receivership underwent a revolution that paved the way for modern reorganizations by introducing a new-fashioned receivership.6 In traditional receiverships, creditors sought a receiver to help them obtain the maximum value from the assets of an insolvent corporation.7 In new-fashioned receiverships, debtors could initiate and, to a great extent, control reorganizations, which were undertaken to rehabilitate the insolvent firm rather than simply to protect creditors' rights. The new-fashioned receivership is generally thought to have originated with the 1884 receivership of the Wabash, St. Louis, and Pacific Railway.8
A different view of the origins of corporate reorganization, presented here, holds that there was no revolution and that there was nothing new in the new-fashioned receivership. The Wabash receivership should be viewed as an example of continuity rather than of change. Every important feature of the Wabash had a precedent. Judges were remarkably consistent in their treatment of insolvent railroads throughout the nineteenth century. Although they often stated the importance of protecting contractual rights, they emphasized that this would not be done at the expense of the public. This interpretation of railroad receiverships has much in common with other recent studies of the relation between law and business in the nineteenth century.' These studies call into question narrow economic interpretations of American legal history and suggest that the common law maxims salus populi suprema lex est (the welfare of the people is the supreme law) and sic utere tuo ut alienum non laedes (use your own so as not to injure another) often held the preeminent place in judges' decisions.
The Receivership of the Wabash, St. Louis, and Pacific Railway
The Wabash, St. Louis, and Pacific Railway was widely known to be in poor financial condition by May of 1884.10 Moreover, notes on part of its floating debt were to come due in late May and June. Some of these notes had been personally endorsed by Jay Gould, president of the Wabash, and by Russell Sage, Sidney Dillon, and Solon Humphreys, all directors of the railway. On May 28, Humphreys, a shareholder, a director, and the former president of the Wabash, entered the United States district court in St. Louis, informed Judge Samuel Treat that the railroad was on the verge of insolvency, and asked that a receiver be appointed to administer it. No creditors of the corporation were before the court. The company was the complainant and named ninety defendants, including the trustees of its general mortgage and the trustees of underlying mortgages. It declared that neither a cessation of operations nor the dismantling of the system would be in the interests of the creditors or of the public. Furthermore, it asked that Humphreys and James Tutt, a St. Louis banker, be appointed as the receivers. Judge Treat consulted with Judge Nathaniel Shipman, a United States district court judge in Connecticut. When Judge Shipman approved of the action, Judge Treat consulted with David Brewer, the senior circuit judge, who also approved of the plan. Because such appointments were usually made by the circuit judge, Brewer signed the order.11
Although three federal judges had approved the procedure before it was put into effect, the legitimacy of the receivership did not go undisputed. In 1886, Judge Gresham of the Seventh Circuit Court removed the original receivers, Humphreys and Tutt, of their possession of lines east of the Mississippi, on the grounds that they were not impartial parties.12 In December 1886, Brewer and Treat defended the original appointment of Humphreys and Tutt and assailed the lack of comity displayed by the Seventh Circuit Court.13 They instructed Humphreys and Tutt to turn over to Thomas Cooley, the receiver Gresham had appointed, possession of all lines east of the Mississippi, and the books and accounts related to them, but to retain all the money and rolling stock that were not part of the mortgaged lines east of the Mississippi.
Despite attacks, both in and out of court, the Wabash was eventually reorganized in 1889. The plan called for first-mortgage bondholders to exchange their old bonds, averaging 7 percent interest, for new blanket first-mortgage bonds bearing 5 percent interest. Second-mortgage bonds were likewise exchanged for blanket second-mortgage bonds bearing 5 percent.14 Jay Gould retained control of the reorganized railroad.
It was not until 1892, three years after the reorganization had been consummated, that cases involving the Wabash receivership reached the Supreme Court. The case of Quincy, Missouri and Pacific Railroad Co. v. Humphreys, 145 U.S. 82 (1892), involved questions of the obligation of railroad receivers to pay rent for lines leased prior to their appointment. Chief Justice Fuller began his opinion by describing the principle upon which the receiver was appointed. He observed, "The bill was obviously framed upon the theory that an insolvent railroad corporation has a standing in a court of equity to surrender its property into the custody of the court, to be preserved and disposed of according to the rights of its various creditors, and, in the meantime, operated in the public interest." He also pointed out that one of the counsels opposing the Wabash had described the bill as "without precedent," but he declared that the Court did not need to address that issue. 15 He agreed with the counsels opposing the railroad that it would be "dangerous in the extreme" to give the managers of a railroad the power to issue certificates that had priority over lien holders, but he observed that this had not been done. The receivers had no discretion to issue receivers' certificates but were merely the instruments of the court that had directed the issue of receivers' certificates.
Like many of Jay Gould's activities, the receivership of the Wabash was attacked in the popular and financial press as well as in the courts.16 Bradstreet wondered if the federal judiciary was actually just Jay Gould's law department.17 In August, when the New York Times reported on Gould's proposals for reorganizing the Wabash, it suggested of the Wabash bondholders that "the treatment they are getting may be taken as a sample of what other Gould bonds will get when their turn comes."18
Criticism was not restricted to the popular or financial press but extended to law reviews as well. An 1885 Central Law journal article asked, "What equity has a man who cannot pay his debts to have a court of justice take charge of his property and manage it for the mere purpose of holding his creditors at arm's length?"19 Probably the most cited of the attacks on the Wabash receivership is D. H. Chamberlain's 1896 Harvard Law Review article, "New-Fashioned Receiverships."20 Chamberlain was quite familiar with the Wabash receivership; he had argued against it several times.21 He was one of the attorneys that had sought to have Humphreys and Tutt removed of their possession of the lines east of the Mississippi. He also lost the case before the Supreme Court that disputed the validity of the Wabash receivers' certificates.22 He had declared before the Supreme Court that the appointment was unprecedented, and he elaborated on this theme in his essay on newfashioned receiverships. He denounced the appointment on three grounds: the debtor (not the creditors) had asked for the appointment; the receivers were not disinterested parties; and the interests of the creditors were not the primary concern of the court. He argued that these three features of the receivership were unprecedented and that they deprived creditors of their legal rights and remedies. In what Chamberlain regarded as a traditional receivership, a creditor or group of creditors might ask for the appointment of a receiver to prevent a diminution in the value of the insolvent debtor's assets while the best means to liquidate the estate was being determined. In the newfashioned receivership, the managers of a corporation could ask for a receiver to prevent creditors from exercising their legal rights. They could then force through a reorganization that allowed them to preserve not just the corporation but also their positions within it.
Chamberlain specifically attacked Judge Treat's justification for the appointment. In defense of the original appointment, Judge Treat had explained that the railroad presented a vast system on the verge of bankruptcy and that the corporation had many responsibilities to many groups-a variety of creditors as well as the owners and the public. Furthermore, he argued, "Their primary obligation was to the sovereign who granted them the franchise. They undertook first to pay their dues to the government in the nature of taxes; second they undertook to run a safe operating road,-safe to life and to the transportation of property. Did they do that? Suppose they cannot do it. Then they fall within the judicial administration to compel them to do the best they can. That is all there is to that branch of the inquiry."23 The court had to take into consideration all the interested parties, not just the creditors, and it mattered little who requested the appointment. In Treat's view, a receiver had to be appointed because the foremost obligation of the railroad was to continue to operate.
Judge Treat made the corporation's obligations to the public and to the state the heart of his defense, and Mr. Chamberlain made it the target of his attack. He asked his readers, "Is not the answer to all this obvious and conclusive,-that it is no part of the duty of courts to protect interests of creditors or any other persons or parties, or to enforce duties to the States or the public, except upon due and proper application of the parties or the State." In this case, no one had been before the court except the "defaulting, delinquent corporation." Chamberlain rested his case on the following axiom: "No conception of judicial duty is more clear than that the court must await the coming of the proper suit before exercising its power... courts have no function except to sit still until they are moved by parties having legal rights to assert before them."24
Historians came to agree with Chamberlain's interpretation that the Wabash receivership was unprecedented and that it dealt a blow to creditors' rights. Albro Martin declared that Humphreys' request was made "under a concept of receivership which broke nearly every important precedent of this old branch of equity law."25 Judge Treat's compliance with the request "cast out time honored concepts of the equitable rights of parties," and the equity receivership was "transformed beyond all recognition of what it had been in 1880."26 The receivership was no longer the tool of the creditors but of the managers. Managers were placed in control of the reorganization process, and the preservation of the railroad was placed above its obligations to its creditors. Rather than being an aberration, Wabash is said to have set the standard for the future. Again according to Martin, "The Wabash idea swept all before it, and remains the basis of modern railroad bankruptcy law to this day."27 Gerald Berk has even argued that when Congress enacted the 1898 Bankruptcy Act, "it did so on Wabash principles."28 In his study of the rise of corporations in America, Socializing Capital, William Roy succinctly summarized this view of the Wabash case:
There had been no precedent for receivers to be appointed to a railroad not in default or for managers to be appointed receivers. The prevailing doctrine gave control to creditors and held managers responsible for bankruptcy. The Wabash decision set a precedent by which creditors were stripped of many rights in receivership and the courts gave management the right to reorganize the business under the doctrine that the corporation itself was an entity to be preserved.29
Thus, because the managers of the railway came into court representing the corporation itself, the Wabash receivership can also be seen as part of a transformation of corporate theory in the late nineteenth and early twentieth centuries.30 The corporation was no longer viewed as an association of investors or an artificial entity, but as a natural entity. The managers of corporations became the representatives of these natural entities.31 In short, Wabash is regarded as both the origin of modern corporate reorganization and an important step in the development of the modern corporation.
While there is widespread agreement that the Wabash receivership was unprecedented, there is debate as to why judges would have accepted such a transformation of the law. Chamberlain saw it simply as bad law and a whittling away of creditors' rights.32 Martin has argued that, given the importance of the railroads to the public, judges had no other choice than to accept the new-fashioned receivership.33 Berk has recently argued that the judges did have a choice but were ideologically inclined toward support of large-scale, national businesses.34 Many contemporary observers saw it as just another example of Jay Gould's ability to buy whatever he wanted, including federal judges.
I show that judges generally accepted the Wabash and similar receiverships because they were consistent with a long line of decisions on insolvent railroads. All the important features of the Wabash had precedents. Moreover, the Wabash receivership was consistent with the principle that had governed railroad law since the 1840s: the primary obligation of a railroad was not to its creditors or stockholders but to the public. Creditors took whatever claims they had subject to this constraint.
Railroad Receiverships and the Public Interest
Three features of the Wabash receivership are said to mark it off from previous receiverships: submission of the request by the debtor rather than by a creditor; the appointment of interested parties as receivers; and its secondary focus on the protection of creditors' interests. All three were in fact common features of railroad receiverships prior to 1884 and were defended by judges as responses to the quasipublic nature of railroads.
The first feature of the Wabash receivership that Chamberlain attacked was the source of the request for its creation: the debtor corporation rather than its creditors. It is thus ironic that, in one of the earliest railroad receiverships in the United States, the request for a receiver was made by the corporation. In 1845, the Munroe Railway Company, owner of a Georgia railway of approximately one hundred miles in length, filed a bill for the general liquidation of the corporation, and a receiver was appointed. The railroad was reorganized and operated under the name of the Macon and Western Railway.35
One of the railroad's creditors later challenged the appointment of the receiver, but the appointment was upheld by the Supreme Court of Georgia in 1851. In that court's opinion, written by Judge Lumpkin, it was a well-accepted practice in chancery that an executor or administrator of an insolvent debtor's estate may obtain a receivership restraining creditors from prosecuting their claims.36 This restraint would apply to all creditors, not just to those who may have participated in the request. Lumpkin asked, "What disastrous consequences would have resulted, if each judgement creditor had been allowed to seize and sell separate portions of the road, at different sales in the six different Counties through which it passed and to different purchasers! Would not this valuable property have been utterly sacrificed-the rights and interests of the creditors as well as the objects and intentions of the Legislature in granting this charter entirely defeated?"37 Thus the appointment was not just to benefit the creditors but also to protect the public.
Lumpkin's interpretation of equity jurisprudence stands in stark contrast to that offered by Chamberlain. In Lumpkin's view, the matter of who approached the court was of little concern because receivership proceedings had always affected individuals who did not participate in the request for the proceedings. Furthermore, the objective of equity was to protect all interested parties, not just the creditors who had participated in the request, or even just the creditors as a whole. In particular, the court had to consider the interests of the legislature, which granted the charter, and the public, which depended upon the railroad. The corporation existed by virtue of its charter, which had been granted by the state of Georgia. It had received this charter to serve the people of that state. Judge Lumpkin declared, "This precedent will stand out in bold relief, as a landmark for future adjudication."38
Justice Lumpkin's prediction about the precedent turned out to be prescient. In an 1858 United States Supreme Court opinion, which upheld the appointment of a receiver over a drawbridge in Indiana, Justice Catron declared that "the subject was well examined by the Supreme Court of Georgia in the case of the Macon and Western Railroad Company v. Parker," and he quoted approvingly from Judge Lumpkin's opinion "that the whole of equity jurisprudence does not present a case which made the interposition of its powers not only highly expedient, but so indispensably necessary in adjusting the rights of creditors to an insolvent estate as this did."39 In his Practical Treatise on the Law of Railways, Isaac Redfield, the chief justice of the Supreme Court of Vermont, also cited Lumpkin as an authority on the question of whether a railroad could be sold piecemeal to satisfy its creditors.40
Even if the Munroe Railway receivership was just a curious anomaly, it would be misleading to suggest that corporations had been unable to obtain the appointment of a receiver when they desired one. The use of a friendly creditor was a practice of long standing in AngloAmerican debtor-creditor law. Like the equity receivership, bankruptcy in both the United States and England began as a creditor-initiated proceeding. Even after the discharge of the debtor was introduced into English bankruptcy law in 1705, debtors were unable to commence a bankruptcy proceeding themselves. The first U.S. bankruptcy law, enacted in 1800, did not provide for a voluntary bankruptcy petition.41 With the lure of a discharge at hand, it was not long before a solution was discovered: the "friendly creditor."42 All a debtor needed was one creditor who would agree to institute the case, and all other creditors would be blocked from proceeding outside of bankruptcy.
The practice of initiating proceedings through a friendly creditor was not isolated to bankruptcy cases but was also a common practice in the administration of the estates of insolvent decedents.43 By the 1880s, the practice was thoroughly established in railroad receiverships. In March 1884, a federal court not only upheld such a friendly receivership but also declared of the collusion that it was "frequently and properly the course in cases of this kind."44 Even after the Wabash case, the use of a friendly creditor remained the most common means by which the managers of a corporation obtained the appointment of a receiver. In the early twentieth century, the use of the friendly creditor was considered the standard practice for an insolvent railroad that wished its property to be placed under a receivership.45
Clearly, the appointment of a receiver at the behest of a corporation did not originate with the Wabash case, but what of the appointment of corporate insiders as receivers? Chamberlain argued that a receiver was to be a disinterested party. In this area he had a great deal of support from legal scholars. Legal treatises routinely referred to receivers as disinterested parties.46 Nonetheless, judges routinely appointed company insiders as receivers of railroads. The Vermont Central Railway is a case in point. The Vermont Central spent most of the late nineteenth century in receivership (1855-84). When it became insolvent in the 1850s, J. Gregory Smith, the president of the company, was appointed as one of the receivers. When the railroad went into receivership again in the 1890s, E. C. Smith, son of J. Gregory Smith and president of the company at the time, was appointed receiver.47
The Vermont Central was not an isolated case. Henry Swain examined 150 railroad receiverships that took place from 1870 to 1898 and discovered that insiders had been appointed in 138 of these cases. The president of the railroad was appointed in eighty cases, the general manger in twenty-five cases, superintendents in seventeen cases, and vice presidents in sixteen cases.48 In 1874, the president of the Erie was appointed as its receiver; in 1875, the president of the Northern Pacific was appointed as its receiver; and in 1880, the president of the Philadelphia and Reading was appointed as one of the receivers of that road.49 On a smaller scale, the president of the Montgomery and Eufala Railway Co. had been appointed as its receiver in 1872, and one of the directors of the Indianapolis, Cincinnati, and Lafayette Railroad was appointed receiver of that corporation in 1870.50 Swain stated that the appointment of a company insider was often the most controversial aspect of receiverships, but judges felt they had no other choice.51
judge Brewer clearly believed that appointing an insider was not only appropriate but probably also necessary in the case of a railroad. In defending the appointment of Humphreys and Tutt, he explained: "Mr. Humphreys was named to the court by not only the mortgagor, but by the mortgagees in the general mortgage, and indorsed by a large majority of the trustees in all the mortgages. Doubtless he was suggested to them by reason of his long connection with and knowledge of the affairs of the road, and by his large experience in railroad matters."52
Not surprisingly, review of the major failures that occurred in the wake of the panic of 1873 reveals a pattern of reorganizations initiated and directed by managers. For example, in May 1874, Hugh Jewett, president of the Erie, was appointed its temporary receiver at the behest of the attorney general of New York. The following month, the Farmers' Loan and Trust Co. requested that Jewett be made the permanent receiver, in what the court described as a friendly motion.' The reorganization plan eventually adopted for the Erie called on bondholders to forgo some of their interest payments and reduced fixed charges by $600,000.54
The 1874 receivership of the Northern Pacific is a revealing case, not just because of its size and the severity of its failure but also because it is the firm most closely associated with the panic of 1873. Beginning in 1870, Jay Cooke underwrote the issue of Northern Pacific bonds. Unfortunately for Cooke, the Northern Pacific Company was in financial difficulty almost from its inception. The railroad's financial difficulties eventually led to Cooke's failure, and the failure of Jay Cooke and Co. is widely regarded as a precipitant of the panic of 1873.55
The main features of the 1874 Northern Pacific receivership closely resemble those of both the 1845 Munroe receivership and the 1884 Wabash receivership. By 1874, the Northern Pacific was unable to make the interest payments on its bonds. In May 1874, six stockholders and directors of the railroad, including Frederick Billings, a future president of the company, decided to seek a receivership. Because they also owned Northern Pacific bonds, they were able to form a bondholders' committee, which asked Judge Nathaniel Shipman to appoint a receiver. Judge Shipman appointed George Cass, the acting president of the railway, as receiver. The reorganization plan, developed by Billings, called for bondholders to receive significantly altered terms, such as the exchange of bonds for preferred stock. Common stockholders, including Billings and the other directors, exchanged their stock share for share.56
There is another similarity between the Northern Pacific and the Wabash: the involvement of Nathaniel Shipman, the judge whom Samuel Treat had turned to for advice regarding the Wabash receivership. No one familiar with railroad receiverships in the 1870s and 1880s would have been surprised that Shipman supported Treat's actions. In addition to presiding over the Northern Pacific receivership in the 1870s, the judge had appointed Charles P Clark, president of the New York & New England Railroad Company, as its receiver in 1883. As in the Wabash case, the directors of the New York & New England had decided to obtain a receivership before the company actually defaulted. Unlike the Wabash, the request was formally made on behalf of a creditor, Henry Brassey. On December 31, 1883, the directors of the New York & New England requested a receivership on behalf of Brassey, the owner of five New York & New England bonds and a client of one of the directors.57 Shipman later explained, "The directors owed two duties-one to the public, that this road should be kept in running condition so that it could serve the public; the other to the stockholders and to the bondholders, that if possible the property might be kept intact and preserved, so that finally unsecured and secured creditors might be paid and the stock might be saved, and they were called upon to take all proper measures to discharge these two duties." He argued that when the company fell into financial difficulty the idea of a receivership no doubt occurred to the directors: "It would be natural that the idea of protection to the property and benefit to the public through such an instrumentality should have suggested itself.58 In defending the appointments of receivers at the behest of the corporation and the appointment of company insiders as receivers, judges considered the public interest in railroads. As Chamberlain made clear in his attack on the Wabash, this was truly the core of the matter: Whose interests were to be foremost in the receivership? He argued that, before the advent of the new-fashioned receivership, the creditors' interests were foremost. They were the ones with legal rights; they were the ones with the standing to ask for assistance from the courts. However, as early as the 1840s, courts had emphasized that the interest of the public in railroads raised difficult questions about the enforcement of creditors' rights. One of the questions that troubled Judge Lumpkin in the Munroe Railway case was whether or not creditors of a quasi-public corporation, like a railroad, could obtain the franchise as well as the physical assets through foreclosure.
The problem for creditors of a railroad was that a railroad was not just a set of tracks and equipment; it was also a franchise granted by an act of a legislature, which typically guaranteed special privileges in exchange for providing a public service. The quasi-public nature of the corporation raised questions about how this franchise related to the physical assets. Could these special rights and responsibilities be transferred with the physical assets? Judge Lumpkin was inclined to think that creditors did not have the same rights in railroads that they might in other enterprises. He declared, "Whether a railroad is subject to levy and sale at law, is seriously doubted." However, he also declared that the court did not need to decide that issue.
The court did not have to resolve the issue because the Georgia legislature had already done so. In 1847, it settled the issue by "creating Daniel Tyler, the purchaser [of the assets of the Munroe Railway], and his associates, a body politic and corporate, by the name and style of the Macon & Western Railroad Company, and conferring on them all the powers, privileges and immunities of the old company, with the exception of banking."59 However, the question of what rights creditors had in quasi-public corporations continued to trouble judges dealing with insolvent railroads. Like other creditors, the creditors of a railroad had a right to be paid, but the means by which they could enforce that right was a subject of considerable uncertainty.
When Isaac Redfield, the chief justice of Vermont, considered the rights of mortgagees in the 1859 edition of his Practical Treatise on the Law of Railways, he asked, "as the corporate franchises reside in the shareholders, if the mortgagees foreclose, what title do they obtain and how are they to make it available?"60 He warned: "This is a subject of so much importance and difficulty, in this country at least, and so little has yet been decided in regard to it, that we would desire to speak with the utmost circumspection and reserve, and not to be understood as having formed entirely settled opinions ourselves in regard to it."61 Thus, in the late 1850s, the rights of creditors of railroads remained unclear because of the quasi-public nature of railroads.
The case of the Covington Drawbridge provides an important illustration of the problem of the rights of creditors of quasi-public corporations. Unlike the Wabash, a creditor of the drawbridge had sought the appointment of a receiver. Alexander Shepherd had received a judgment of over $6,000 against the drawbridge company and requested that a receiver be appointed to operate the drawbridge and use the tolls to pay this judgment. The receiver was appointed, and the corporation appealed. The counsel for the corporation argued that a receiver should not be appointed because Shepherd had a legal remedy at law: he could execute the judgment on the property of the corporation; the property of the corporation could be sold at auction to satisfy the judgment. Shepherd's attorney argued that it was facetious to suggest such a sale. The manager of the corporation had admitted that the corporation did not own the land on which it stood but had only an easement, and he believed that the franchise to operate a drawbridge over the river would not transfer with the bridge itself. Thus, the purchasers of the corporation's property would obtain a bridge that they "could not lawfully maintain one hour over or upon that public highway, the Wabash river." He cited in support of his argument both the case of the Macon Railway and a North Carolina decision that "the tangible property of a railroad could be sold, but that its franchise could not."62
The Supreme Court upheld the appointment of the receiver for the drawbridge but left the underlying question unanswered. Justice Catron's opinion described the quasi-public nature of the enterprise and pointed out that it had received a franchise from the state legislature to serve the public. He then declared, "The tolls of the bridge being a franchise, and sole right in the corporation and the bridge a mere easement, the corporation not owning the fee in the land at either bank of the river or under the water, it is difficult to say how an execution could attach to either the franchise or the structure of the bridge as real or personal property."63 For the time being, the Court would leave this to the courts of Indiana to settle if it became necessary. Justice Catron declared it sufficient to decide the case by ruling that the court below had the power to appoint a receiver and that it had done so properly.
Later decisions, including those by the Supreme Court, continued to emphasize that creditors did not have the same rights in quasi-public corporations that they did in other enterprises. These judges also made clear that the remedies available to railroads were not available to corporations in general but were restricted to enterprises that were regarded as quasi-public, such as railroads or drawbridges. It would be left to Congress to make reorganization available to all corporations.
The Supreme Court explicitly stated the supremacy of the public interest in railroad receiverships in the case of Barton v. Barbour (1881), three years before the Wabash receivership. The issue to be settled in the case was whether a receiver could be sued for injuries received by a passenger that resulted from the corporation's negligence. The opinion of the Court, delivered by Justice Woods, declared that the receiver could not be sued and provided a broad defense of railroad receiverships. It stated that, in the case of a railroad, "the cessation of business for a day would be a public injury" It went on to explain: "A railroad is authorized to be constructed more for the public good to be subserved, than for private gain. As a highway for public transportation it is a matter of public concern, and its construction and management belong primarily to the Commonwealth, and are only put into private hands to subserve the public convenience and economy." As for the creditors, the Court declared, "They take their rights subject to the rights of the public, and must be content to enjoy them in subordination thereto."64
Even those who disliked the use of receiverships to reorganize railroads had to admit that it was the common practice. In his dissent in Barton v. Barbour, Justice Miller explained that, in his experience, railroad receiverships for the benefit of the creditors, if they had ever existed, were long gone by 1881: "If these receivers had been appointed to sell the roads, collect the means of the companies, and pay their debts, it might have been well enough. But this was hardly ever done. It is never done now. It is not the purpose for which a receiver is appointed." He went on to complain that, in his experience, railroad receivers typically take control of the property and add to the debt, often to the injury of the prior creditors, rather then paying off the debt. Although Justice Miller had an unfavorable view of railroad receiverships, both he and the justices in the majority believed that the protection of creditors was generally not the first priority of railroad receiverships.
In 1883, Chief Justice Waite used his opinion in the case of Canada Southern v. Gebhard as an opportunity to explain why creditors' rights should be made subordinate to those of the public in railroad receiverships. Canada Southern involved an American creditor's appeal against the 1878 Canada Southern Arrangement Act. In Canada the terms of railroad reorganizations were bargained over privately but finalized through legislative acts. Once enacted, the terms of the arrangement became binding on all parties. Gebhard claimed that he had not consented to the arrangement and therefore should be allowed to attempt to satisfy his claims through U.S. courts. In an opinion that ruled against Gebhard, Justice Waite pointed out that the railroad's creditors had knowingly invested in an enterprise established to serve a public purpose and that continuing to serve the public was the foremost duty of the company. He declared that such regulations as the Arrangement Act do not deprive people of due process but "simply require each individual to so conduct himself for the general good as not unnecessarily to injure another."66 In his opinion, Justice Waite relied upon the maxim sic utere tuo ut alienum non laedes. Creditors, like everyone else in society, were limited in the exercise of their rights by the injunction not to harm others unnecessarily.
Justice Waite was also involved in a case that provides one of the most forthright statements of both the importance of the public interest in railroads and the importance attached to maintaining railroad systems intact. Although he did not write the opinion, Waite was one of three judges that heard Skiddy et al. v. Atlantic, M. ds 0. Railway Co. (1879) while he was riding circuit in Virginia. The case involved a request by groups of bondholders of the Atlantic, Mississippi, and Ohio Railway to forbear their interest payments and issue receivers' certificates in order to prevent attempts at foreclosure on certain lines of the system. The request was opposed by the trustees of the first and second mortgages on the Norfolk and Petersburg division of the system. Judge Hodge issued the following opinion:
Paramount ... to the mere pecuniary interest of the bondholders and shareholders in this line of road and its several divisions, are the public interests connected with it. The court is not unmindful of the fact that the commonwealth of Virginia, in bestowing an expenditure of seven or eight millions of dollars upon the roads constituting this line, intended them to be more than local works, and especially intended that the Virginia and Tennessee road should be more than part of a line of north and south transportation for travel and light freights.... Her intention was to construct a line of east and west transportation that would bring the staple products of the Northwest, the West and Southwest across her territory to her principal cities, and at Richmond and Norfolk would place her merchants in connection with the large commercial operations of the world.
He went on to declare that, given the interest of the state and the public in the railroad, to the extent that it could legally do so, "the court will discourage separate accounts and separate sales of foreclosure in this suit; in order that ... it may enter a decree in foreclosure directing a sale of the whole line as one work under which this line of road may be rendered permanently intact and indissoluble."67 It would be difficult to tell creditors more clearly that their rights were not the first concern in the receivership.
While Judge Hughes emphasized the interest of the public, Judge Bond, the district judge, argued that the maintenance of the system was also to the benefit of the investors. In a concurring opinion, he offered as evidence of the success of the receivership the appreciation in bond prices:
The bonds of the second mortgage on the Norfolk and Petersburg division have appreciated since June, 1876, from sixty-eight cents in the dollar to seventy-eight cents. The bonds of the first mortgage of the Norfolk and Petersburg divisional road have appreciated since June, 1876, from about eighty-six cents in the dollar to about ninety cents. Certain other of the bonds secured on divisional roads have risen as much as thirty cents in the dollar since June, 1876, when the receivers took charge of the consolidated line.
He went on to explain:
The experience of all railroad management, in this country and elsewhere, is, that lines of a road broken into parts under disjointed management, cannot be conducted with economy, efficiency, or success; and are incompetent to compete with rival lines for the business of the country.68
In the view of Judge Bond, and others, the preservation of the system was not only necessary to protect the public; it was necessary to protect the creditors.69
Railroad bondholders also saw their contractual rights altered in cases involving receivers' certificates. Receivers' certificates were one of the most contentious issues in railroad receiverships. Beginning in the early 1870s, courts sometimes empowered receivers to issue certificates in order to borrow funds necessary for operating the railroad. Some of these certificates had priority even over first mortgage bonds. Opinions involving receivers' certificates demonstrate the emphasis that judges placed on protecting the public. They also demonstrate that judges allowed receivers' certificates based on the quasipublic nature of railroads rather than on their status as corporations or as large enterprises.
In one of the earliest decisions in support of the use of receivers' certificates, Meyer v. Johnston (1875), the Alabama Supreme Court relied upon a public interest justification. The Court declared that neither it nor other courts had been forced to determine the extent of a receiver's powers before: "But these properties with their appurtenances, vast in extent and value, yet very perishable if unused and neglected, existing as the estate of private individuals associated into corporations, but essentially public works, in whose operations the public and the state are concerned, when drawn into litigation must be dealt with by the courts according to the nature and circumstances of the subject."70 Like the earlier opinions written by Judge Lumpkin and Justice Catron and the later opinions written by Judge Treat, the Alabama Court emphasized the importance of protecting not just the creditors but also the public and the state.
The U.S. Supreme Court expressed similar views regarding receivers' certificates. In Wallace v. Loomis (1877), the Court upheld the issuance of receivers' certificates with priority over mortgage bonds.71 In 1886, the Court decided a group of cases in which bondholders of the Illinois Midland Railway Company disputed the priority given to receivers' certificates of the insolvent railroad. In his opinion for the Court, Justice Blatchford pointed out that a railroad was peculiar in several ways. He first observed that, unlike a piece of land, a railroad would lose much of its value if left idle. Even more important, however, was the fact that a railroad was a matter of public concern. Justice Blatchford declared:
The franchises and rights of the corporation which constructed it were given not merely for private gain to the corporators, but to furnish a public highway; and all persons who deal with the corporation as creditors or holders of its obligations, must necessarily be held to do so in the view, that, if it falls into insolvency and its affairs come into a court of equity for adjustment, involving the transfer of its franchises and property, by a sale, into other hands, to have the purposes of its creation still carried out, the court, while in charge of the property, has the power, and, under some circumstances, it may be its duty, to make such repairs as are necessary to keep the road and its structures in a safe and proper condition to serve the public.72
There were no dissenting opinions in the case.
Similar to the Supreme Court's views on receivers' certificates were its views on the priority given to the repayment of certain unsecured loans to railroads. In Turner et al. v. Indianapolis, B. and W Railway Co. et al. (1878), a federal appeals court upheld the priority of certain unsecured loans, and in Fosdick v. Schall (1879), the Supreme Court upheld the priority of unsecured loans that were necessary for the maintenance of the railroad.73 When the issue arose in the Wabash case, Judge Brewer explained:
For underlying the rule which the supreme court has laid down in respect to the payment, by receivers when they take possession of railroad property, of prior unsecured debts recently accrued, runs the thought, as expressed by the supreme court, that a railroad corporation owes a duty to the public which has given it its franchise and enabled it to construct its road; the duty of operating that road for the benefit of the public.74
The distinction between quasi-public corporations, like railroads, and other corporations was also made explicit in the special treatment given to railroad receivers' certificates. Only the certificates issued by receivers of railroads were given priority over secured debt by the courts. Receivers' certificates of other types of corporations were not so privileged.75 Most states passed legislation that put the problem of insolvent corporations into courts of equity and empowered the courts to appoint receivers to oversee the liquidation of the firm.76 Receivers were appointed for insolvent corporations in manufacturing, mining, and trade, but these receivers were not allowed to issue certificates with priority over secured creditors. Receivers of private corporations were expected to liquidate the firm's assets and distribute them among the creditors, in contrast to railroad receiverships whose primary objective was to continue to operate the road. Decisions rejecting attempts by receivers of purely private corporations to issue receivers' certificates emphasized that the difference between the two was the quasi-public nature of railroads.77 The courts declared it their duty to protect the contractual rights of creditors, a duty that was only outweighed by the interest of the public in the case of railroads.78 The issuance of receivers' certificates to facilitate the reorganization of an insolvent corporation in manufacturing required the consent of all the creditors.79 Denial of the right to issue receivers' certificates made clear that rehabilitation of the firm was not yet the primary goal in the case of industrial receiverships.
Although the courts continued to distinguish between railroad and other receiverships, James Rosenberg speculated that all that was needed was the failure of a large-enough firm for the courts to uphold the issue of receivers' certificates for industrial corporations. 80 Although courts did not put railroad and industrial corporations on the same footing, Congress did. With the additions of section 77 and 77b to the Bankruptcy Act in 1933 and 1934, and following the Chandler Act, which was enacted in 1938, reorganization became a part of federal bankruptcy law.81
In practice, even after these amendments, judgments about the public interest continued to influence the fate of an insolvent corporation. Arthur Dewing described the operation of corporate bankruptcy in the 1940s as follows:
If the going or coming of an enterprise carries slight social or economic significance the courts will exert little effort to preserve the integrity of the business. They will permit its liquidation for the benefit of its creditors; and this is true whether it is a little railroad no longer of economic importance to the region or a millinery factory which made peek-a-boo hats when the ladies preferred cartwheel sailors. On the other hand, they will preserve even at the sacrifice of underlying creditor interests, a business-whether it is a railroad, a chemical works or a steel foundry-if they are convinced it subserves an important social or economic need.82
Despite the many changes that had taken place, including a shift from judge-made law to statute, judges' conceptions of the public interest still remained at the core of corporate reorganization.
The Wabash Case and Railroad Investors
The foregoing analysis of receivership proceedings suggests that investors in 1884 should not have been surprised that the directors of a railway were able to obtain the appointment of a receiver of their choosing at a time of their choosing. Nor should they have been surprised if courts then altered their contractual rights during the course of the receivership. Federal appeals courts and the U.S. Supreme Court had repeatedly informed them that they held their rights subject to the interest of the public in the continued operation of railroads.
The treatment of the Wabash receivership in the press also suggests that, although it may not have been approved of by all investors, it hardly shocked them. On May 13, two weeks before the receivers were appointed, the New York Times reported that a spokesperson for Jay Gould had announced that "it had been determined to temporarily put the Wabash, St. Louis and Pacific Railway in the hands of a receiver."83 It also stated that Solon Humphreys was suggested as the potential receiver. The article pointed out that although no default on the bonds could take place until June 1, the appointment might be sought on the floating debt. Rather than reacting with shock to the announcement, the Times reported, "The Street took the announcement of the proposed appointment of a receiver for the Wabash with great equanimity on the whole."84 Thus, the statement by the president of a railroad, which was not in default, that he planned to have one of his business partners appointed as receiver was no surprise to investors. When the announcement was made on May 29, the Times described it as the "long awaited appointment."85
Evidence from railroad bond markets also indicates that investors did not regard the Wabash receivership as a legal innovation or as a decrease in the rights of bondholders. Surprisingly, previous studies of the Wabash case have not examined its effect on the market for railroad bonds. Numerous studies have found significant effects on financial markets from changes in legal rules.86 If the Wabash receivership were an important legal innovation that diminished the rights of railroad bondholders, then its impact should have extended beyond the bonds of the Wabash itself. One would expect all railroad bonds-as well as the railroad bond market-to have been observably affected. The yield on a railroad bond, like other corporate bonds, is equal to the risk-free rate of return plus a risk premium. The risk premium is a function of the likelihood of default and the expected payoff if the railroad does default. If the Wabash receivership adversely affected railroad bondholders, then it must have done so by increasing the probability of default or by decreasing the expected payoff in the event of default. If managers were less likely to be displaced after the Wabash decision, they may have become more likely to default on bond payments. If it were easier to obtain a friendly receiver and if the contractual rights of bondholder were less likely to be enforced after the Wabash case, bondholders might have perceived that their bargaining position in reorganizations was diminished, and they would have expected lower payoffs after default did occur. Either way, if the Wabash receivership adversely affected railroad bondholders, they should have asked for higher yields to compensate them for the greater risk.
Figure I shows three measures of the yield on railroad bonds. The Macaulay series is the average yield of railroad bonds calculated by Frederick Macaulay.87 The Macaulay yields do not include railroads that are in default, so the risk premium on them reflects investors' expectations about the probability that default will occur and about their ultimate returns in the event of default. The Carty series is the average coupon rate for new issues of railroad bonds collected by Lea Carty.88 The Edelstein series is Michael Edelstein's yield series for U.S. railroad bonds traded on the London market.89 Although the three series were derived from different sources, they track each other closely. The correlation coefficient of the Macaulay and Carty series is 0.87, and that of the Macaulay and Edelstein series is 0.91.
Contrary to what one would expect if the Wabash receivership had altered bondholders' rights to their disadvantage, the risk premium on railroad bonds decreased after the Wabash receivership. The price of railroad bonds increased and the yields fell. Not only did the yields fall but, more critically, they fell relative to the yields on less risky bonds. Figure 2 plots the yield spread as the difference between the Macaulay series and British consols and New England municipal bonds. Thus, the yield spread rather than increasing was actually decreasing in the years immediately following the Wabash decision, despite the fact that railroads went into receivership more frequently in 1884 and 1885 than at any time since the early 1870s.91
Conclusion
In retrospect, judge-made law, even that which is made with the discretion given to judges in courts of equity, does not seem a likely place to find a revolution. Neither the response of the markets nor the historical record suggests that the Wabash receivership relied on a novel interpretation of receivership or significantly altered the rights of bondholders. The elements of the Wabash receivership that have traditionally been singled out as innovations all existed well before 1884. judges routinely declared that these enterprises had a duty to the public, a concept that was invoked when the railroad receiverships were introduced and was reiterated when receivers' certificates were first issued and the Wabash receiver was appointed. In the 1930s, Congress extended the reorganization procedures developed for railroads to other corporations, but, even then, judges' perceptions of the public interest continued to influence the outcomes of cases.
Given the evidence that the Wabash receivership was not revolutionary, what explains the widespread acceptance of the interpretation D. H. Chamberlain gave to the case over one hundred years ago? Chamberlain was, after all, on the losing side in the Wabash case. Some of the success may be attributable to the notoriety of Jay Gould. Despite attempts to rehabilitate his image, Gould remains the archetype of the robber baron.92 While the prominence of Gould and the Wabash may help to explain the initial attention given to the receivership, the continuing vitality of the story appears to be attributable to its adaptability. The Wabash receivership has been offered as evidence to support a wide variety of arguments: It has been an example of bad judicial decision making.93 It has been a case of successful institutional change in response to dramatic economic developments.94 it has been an illustration of a judicial ideology that fostered the growth of a national economy at the expense of local economies.95 It has been a turning point in the transformation from a contract theory of the corporation to an entity theory of the corporation.96 It has been the model for future corporations in financial difficulty.97 Although the authors of these arguments may be at odds with each other, they all agree that a revolution took place in American business in the last two decades of the nineteenth century and that the Wabash receivership was an important part of that revolution.
Although the evidence I have presented does not support the view that the Wabash receivership initiated a revolution, it does tend to support Albro Martin's argument that judges' rulings were based on their beliefs about the importance of railroads to the public. Reorganization was not restricted to large, interstate systems. Judges supported the preservation of local systems when they believed this to be in the public interest. Judges did not see reorganization as an option available to corporations generally. Corporations in other industries were put into receivership, but judges refused to alter the contractual rights of bondholders in the way they did with railroads.
Judge Treat's argument in support of the appointment, far from being an aberration, was consistent with the opinions of the Supreme Court and other federal courts. More broadly, the development of railroad receiverships was consistent with much of the development of common law and equity in the nineteenth century. William Novak has recently argued that nineteenth-century judges were not hesitant to regulate economic activity in the name of the people's welfare.98 He argues that the common-law maxims of salus populi suprema lex est and sic utere tuo ut alienum non laedes were the philosophical foundations upon which judges tried to create a well-regulated society.99 Chief Justice Waite expressed just such a philosophy in his decision in the Canada Southern case when he issued this declaration: "Every member of a political community must necessarily part with some of the rights which, as an individual, not affected by his relation to others he might have retained. Such concessions make up the consideration he gives for the obligation of the body politic to protect him in life, liberty and property."100 This philosophy governed the development of railroad receiverships throughout the nineteenth century.
[Author Affiliation]
BRADLEY HANSEN is assistant professor of economics at Mary Washington College, Virginia.
I wish to thank Mary Eschelbach Hansen for her careful reading of several drafts and for the numerous suggestions that she offered. I also wish to thank participants at the Economics Department Seminar at the College of William and Mary, Walter Friedman, and the anonymous referees for their helpful comments.
