The Tycoons: How Andrew Carnegie, John D. Rockefeller, Jay Gould, and J. P. Morgan Invented the American Supercompany

by Charles R. Morris

  There were also many complaints of discriminatory use of the Standard’s powerful position in pipelines. But until the law was amended in 1906, pipelines were clearly not a common carrier under the Interstate Commerce Act, which covered only “the transportation of passengers or property wholly by railroad, or partly by railroad and partly by water.” And the suspicions of collusion with railroads and the payments of illegal rebates never died. Archbold, in the Industrial Commission hearings, freely admitted that the Standard had negotiated many varieties of rebates before they were outlawed by the Interstate Commerce Act, but had not done so since, producing letters from all the leading railroad presidents attesting to the truth of his assertion. But the charges persisted, most sensationally in a case brought by the government in 1906 that resulted in the Standard being assessed, in the words of Ron Chernow, “the largest fine in corporate history for a practice it supposedly had given up long before.” The case bears examining in some detail.

  In its suit, the government alleged that Standard Oil of Indiana had received a discounted rate of six cents per one hundred pounds, instead of the tariff rate of eighteen cents, on oil shipped from its Whiting, Indiana, refinery by the Chicago and Alton Railroad. After a jury had found for the government, the district court judge, Kenesaw Mountain Landis (later a famous reforming commissioner of baseball), determined that 1,462 carloads of oil had been shipped during the three-year period covered by the charge (1903–05) and imposed a penalty of $20,000 per carload, or $29,240,000, which he calculated to be about a third of the net worth of the parent, the Standard Oil Co. of New Jersey.

  According to the case record, the Alton had filed an 1895 commodity shipping tariff for eighteen cents per one hundred pounds; the tariff included a long list of covered commodities, but did not mention oil. A subsequent ruling by an Illinois commission, however, determined that oil came within one of the 1895 tariff’s classifications. In testimony that was excluded by Landis, the Standard freight manager said that when he inquired as to oil freight rates at the Alton, he was handed a headquarters freight sheet showing the six-cent rate, and a copy of the tariff application to the ICC. The railroad traffic agent, in testimony that was also excluded, confirmed the Standard manager’s account and said he had never known of another rate. Apparently in consequence of a clerical mistake, however, the six-cent oil tariff was not actually filed until after the period in question.

  The primary Standard defense was that it had reasonably relied on the railroad’s representation, and it also pointed out that the only other railroad serving that route, the Eastern Illinois, also charged the six-cent rate. But Landis found the Eastern Illinois’s rate also to be improper. The Eastern Illinois, after joining with the Alton in the original 1895 commodity tariff filing, had indeed filed a separate six-cent oil tariff a month later. In 1903, however, it had issued another tariff “confirming” the eighteen-cent tariff in the original 1895 filing. Apparently realizing that the new filing arguably conflicted with the separate 1895 oil tariff, the railroad issued an amendment the next day, reconfirming the six-cent oil tariff. But the Eastern Illinois failed to complete the filing of that amendment until after 1905. Landis ruled that it was the Standard’s responsibility to determine whether railroad tariffs were properly filed, and since there were no mitigating factors, he imposed the largest possible fine permitted under the law.

  The Standard’s position in Indiana is relevant to understanding the case. The Whiting refinery was the largest in its system, and was the largest in the world when it opened in 1890. It was very much of a personal Rockefeller project, and the Standard’s dominant position in the Indiana–Illinois area could be considered his last great bequest to his company. Oilmen had long known of large Midwest crude reserves, but it was high-sulphur “sour” oil, unusable for any commercial purposes. Rockefeller always worried about declining production from Pennsylvania wells, and pressed for major Midwest acquisitions to secure a continuing crude supply. At one point, after his partners had voted against the acquisitions, he announced that he would proceed with his own money. (They subsequently changed their minds.) After securing his midwestern crude base, it was Rockefeller who drove the creation of the Standard’s petroleum research laboratory, and recruited Herman Frasch, a German chemist and later a pioneer in the American chemical and sulphur mining industries, who, in the mid-1880s, came up with a practical and inexpensive desulphurizing process.

  After the publication of Ida Tarbell’s History of Standard Oil, the company became the country’s prime trust-busting target. Ironically, Rockefeller profited mightily from the breakup as the shares of all the separate companies soared.

  During the period covered by the suit, the Standard controlled about 70 percent of the region’s crude production, and there was effectively no local refining competition. Since its desulphurizing patents still had several years to run, the few independents were forced to concentrate on higher-cost niche products. The city of Whiting, like the Pennsylvania oil towns, had grown up around the refinery and its employees. The refinery’s output was shipped over a complex network of railroad connections, Rockefeller pipelines, and mostly Rockefeller-owned steamship lines. No other refinery or oil shipper was serviced by the two roads in question.*

  An obvious question is why did the government focus on this case? And how did it come to light in the first place? The alleged violation was subtle in the extreme. The crucial Alton tariff had to be “deciphered,” in the words of the court of appeals, since it had to be cross-referenced with material from the State of Illinois to determine whether it even applied to oil, and there was substantial evidence that the violation, if there was one, was inadvertent. There was no other shipper to complain of discrimination, and the money involved was modest; the alleged twelve-cent undercharge, over the entire three years, would have been worth about $91,000, or 0.03 percent of Landis’s fine, during a period when the Standard earned more than $200 million.

  The clear impression is that prosecutors had trawled through years of tariff filings searching for possible Standard violations, however technical. In short, it looks like harassment—an impression that is reinforced by the government’s request on retrial, after the case was thrown out on appeal, to present a separate evidential argument for each of the 1,462 carloads. Historians have frequently commented on the barely concealed scorn Archbold and Rogers sometimes displayed at government tribunals. Their lack of diplomacy was an expensive form of self-indulgence, unworthy of such senior executives, and damaging to the public perception of the company. The Indiana case, however, suggests that they may have had considerable provocation.†

  The apparently trumped-up character of the Indiana charges, of course, doesn’t demonstrate the company’s innocence. Archbold, for example, was embarrassingly exposed paying “retainers,” i.e., bribes, to, among others, a U.S. senator, a congressman, and a Pennsylvania legislator. But still it is noteworthy that even as late as the 1910 Stanley Committee hearings, hundreds and hundreds of pages of testimony mostly rake over decades-old material, like the South Improvement Company and the 1880s pipeline wars. And the very substantial government resources devoted to the Indiana case lend plausibility to McGee’s conclusions on the flimsiness of the “predatory pricing” allegations.

  The Standard, indeed, had every incentive for behaving as a law-abiding corporate citizen from at least the closing years of the nineteenth century. At a time when it was anxious not to increase its market share, predatory tactics against independents like the Tidewater and Pure Oil would have made no sense. And the company was by no means free of competition. As one of the first integrated global businesses, 70 percent of its sales were overseas. Its period of global monopoly ended when the formidable Nobel brothers opened the Russian Baku fields in the early 1880s, built railroads and pipelines into Europe, and patented refining technology arguably superior to the Standard’s. About the same time, Royal Dutch Shell made major new strikes in the East Indies and invested heavily in o
cean tanker technology. All critics admitted that the Standard’s prices fell steadily for the entire period after Rockefeller achieved his dominant industry position, and even the very hostile Bureau of Corporations acknowledged that it was the most efficient of the American producers.

  At the same time, especially under Archbold, there are clear signs that the company was beginning to settle in to enjoy its quasi-monopoly position while it lasted—at least domestically—for the Standard consistently charged lower prices in hotly contested foreign arenas than it did at home. Profits and dividends also rose quite sharply. From 1883 through 1896, under Rockefeller, average earnings on book equity were a healthy, but not unreasonable, 14.9 percent; from 1900 through 1906, they jumped to 24.5 percent; dividends over the same periods went from an average 10.1 percent of book equity to 16.4 percent (see Appendix II).

  The sharp jump in earnings is perfectly consistent with the evidence that the Standard of the early 1900s was rapidly losing its competitive edge. The political analyst Charles Ferguson has pointed out that it is not the aggressive, efficient monopoly that is most to be feared. Far greater economic costs are inflicted by complacent, dead-weight, monopolistic incumbents. For a modern example, just consider the explosion of communications that followed in the wake of the 1984 breakup of AT&T; and even today, a company like Verizon is notably more responsive and technically advanced in its competitive businesses, like wireless, than it is in traditional telephony. Signs of monopolistic complacency at the Standard came as early as the 1880s, when it tried to impose a “gummy, slow-burning” lamp oil on the European market. A groundswell of complaints was met with the bland response that customers were using the wrong wicks. The company reluctantly addressed the problem only after a “bitter” mass meeting by its European marketing representatives—although the completion of the Nobels’ trans-Caucasian/Baku railroad undoubtedly helped to concentrate minds.

  “Administrative fatigue,” as one historian put it, seems to have begun setting in, especially after Rockefeller’s departure. By the time of the breakup, despite its profitability, the Standard’s competitive outlook was ominously clouded. The center of crude production had shifted from its base in Pennsylvania and the Midwest to Texas, where it had no presence, and to the midcontinent (Kansas through Colorado) and California fields, where its position was weak. Gulf Oil, Texaco, Sun Oil, and California’s Union Oil were emerging as far more formidable independents than Tidewater and Pure Oil had ever been. Although the Standard displayed considerable inventiveness in wringing more production out of declining fields, the vast investment in eastern and midwestern extraction and distribution facilities began to be something of an albatross. As the British had discovered to their grief in steel, it is almost impossible to maintain a technology edge amid declining production, and the huge new refineries and pipelines in Texas and California were inevitably a generation ahead of the Standard’s. By the time the breakup order was finalized, the Standard’s alleged “90% share” of domestic refining was closer to 65 percent and falling, while its position in other industry sectors was much lower than that. Worst of all, its central business premise was crumbling with frightening speed. The accelerating spread of electricity was clearly going to obliterate the kerosene market, and the company had been late to appreciate the opportunity in automobiles.

  Trustbusters thought they were slaying a dangerous monster when the Standard was broken up in 1911; instead, they were doing the shareholders, and especially John Rockefeller, a large favor. Once the stock of the individual companies were listed in their own names, and they could compete freely, their market values multiplied many times over, and Rockefeller’s wealth ballooned to levels that even Andrew Carnegie had never dreamed of.

  The “Good” Tycoon

  Ironically, whenever an official body wanted to point to an honest, competitive industrialist to contrast with robber barons like Rockefeller, they would hold up the example of Andrew Carnegie. By any measure, however, the record of all the steel companies, including Carnegie’s, in the wake of the Interstate Commerce and Sherman Antitrust Acts was one of persistent, flagrant law-breaking.

  For years Carnegie had assailed the Pennsylvania’s practice of charging higher rates to Pittsburgh steel mills than to their competition around Chicago and the Great Lakes. He finally caught their attention by starting his own railroad out of Pittsburgh in 1896, and extracted major rebates—precisely one of the very few practices clearly forbidden under the ICA. The arrangement came undone when A. J. Cassatt assumed the presidency of the Pennsylvania in 1899 and ended all rebates.* Carnegie was outraged, threatening a barrage of countermoves, undeterred by a somewhat shocked message from a Cassatt intermediary that the company was not allowed to provide rebates—Carnegie surely understood that “the rebates you were getting were not only unlawful but if [Cassatt] had continued them after he knew all about them, he would have been committing a criminal offense.” Of course Carnegie understood that, but it counted for nothing when profits were at stake.

  Board minutes from June 1900 include a clear case of rebate laundering. Carnegie Steel had an ore freight contract providing for a 40 percent rebate on posted shipping rates, but the railroad was worried about paying it in violation of the law. Since the road had recently been acquired by Federal Steel, Carnegie Steel—working directly with Elbert Gary—devised a window-dressing long-term shipping contract that provided rebate-equivalent payments from Federal Steel for shipments over the ore line, in order, as the minutes bluntly put it, “to avoid the appearance of rebating freight.”

  Similarly, among the few practices clearly forbidden by the Sherman Act were price-maintenance pools among competitors. But Carnegie and his fellow steel executives assiduously created such pools throughout the 1890s: there were contractual pricing and market-sharing arrangements covering rails, tin plate, hoops, and wire, as well as multiple other “associations” for pig iron, billet makers, and others, all of which had some element of price maintenance. Carnegie, notwithstanding his frequent public statements against pooling, entered them as readily as the next executive, reaping high profits when times were good. His main distinction was his willingness to break pooling arrangements; ever the devotee of “running full,” he quickly deserted pools when markets turned flat. (The pools were openly reported in Iron Age, but a congressional committee professed to be shocked when they were revealed a decade later.)

  Most egregious was the collusion with Bethlehem Steel on ship armor contracts. Bethlehem once had the armor business entirely to itself, but the Carnegie company gained entrance in 1890, in part by securing advance copies of confidential bidding documents. After some head-banging, the two companies reached a market-sharing agreement in 1893 that was followed “with arithmetic precision” for the next decade. (In 1895, when the companies were charging $600 a ton to the government, Bethlehem was caught selling the same product to Russia for $250.) The shamelessness of the horse-trading is captured by a proposal from a third company, Midvale Steel, which was hoping to enter the business in 1900. As Schwab summarized it for the Carnegie Steel board: “the proposition was that they were to have 3/4 of the forgings made in this country, whether for guns or otherwise, and, in addition, $2,000,000.00 in cash. If their proposition was accepted they would not bid on armor.” Several years later, the three companies instead agreed to allocate a fixed amount of business to Midvale: as a Bethlehem memo put it, “Probably the least suspicious procedure would be if Carnegie and Bethlehem were to follow the general practice of each bidding the same price for the entire tonnage, and letting [Midvale] cut under to the extent of a few dollars per ton to secure the 2060 tons referred to above.” Bid rigging produced extraordinary margins: in the late 1890s the companies collected $345–420 per ton of armor (a compromise after the Russia–Bethlehem embarrassment) against production costs of perhaps $150. With that kind of money at stake, what patriot could pass up the chance to defraud his fellow citizens?

  *Today we call it “trans
fer pricing.” It is one of the fiercest of intracompany battlegrounds, since there is no “right” way to allocate cost and revenue, and minor changes can materially affect executive bonuses.

  *Both the two- and three-shift systems were on seven-day weeks. At Carnegie’s plants, Christmas was the only scheduled day off. As a practical matter, men had time off when orders slowed or plants were renovated (which usually took a week or more in January), but those periods operated as minilayoffs, so the men were not paid. There were no benefits in the modern sense, although Jones instituted a system to help men finance company homes at favorable rates. Finally, all plants apparently had some mixture of shift lengths. Men doing very heavy work, of the kind that was most frequently mechanized, were generally allowed to work shorter shifts; and even in the three-shift days at the ET, a man who was truly just pulling levers would likely be put on a two-shift system.

  *In a long, querulous cable to Frick listing Frick’s shortcomings, Carnegie instructed, “Please read to managers.” He also had the habit of mixing his instructions with airy travel notes: “But Good night. Off for Venice tomorrow.” Or: “Yours of 19th received upon my return from Yachting,” as if to underscore the difference between his position and the workaholic Frick’s.