assets you have over the debts that you have to meet within the next 12 months. That is what you do business with.

Mr. SPRINGER. Then, as shown from one of your charts, you are deducting those due in less than 12 months.

Mr. BEVAN. No, sir. We put into our current liabilities all debt due within a year. The reason I pointed that out was because under the Interstate Commerce Commission's accounting we do not put in debt due in one year under current liabilities, but since all other industries do that, and since we fail to see why a dollar that has to be met in debt is any different than a dollar in accounts payable, we do not think that procedure is sound, so we put debt due in 12 months in current liabilities and use that in subtracting it from our current assets, to arrive at our working capital.

Mr. SPRINGER. Thank you, Mr. Chairman.

The CHAIRMAN. You may proceed.

Mr. BEVAN. Thank you, Mr. Chairman.

The CHAIRMAN. I believe you were on page 18 of your statement. Mr. BEVAN. Thank you.

I said it might be argued that these other industries need more working capital since they have to carry large inventories, which is not true to the same extent with the railroad industry. On the other hand, it is certainly true that their inventories constitute a better current asset than our materials and supplies which are included in current assets for purposes of comparison. However, if we take out inventories in the case of other industries, and materials and supplies in the case of the railroad industry, you will notice the Pennsylvania Railroad still has the smallest working capital as a percentage of volume of business done, as shown in the next chart, and, with one exception, the class I railroads smaller than any of the other industries with which a comparison is made.

It may also be contended that the railroads should be able to get along with smaller working capital because they do not have to carry a large volume of accounts receivable, since the bulk of transportation bills are payable within 48 or 96 hours. There is one exception to this, however, and this is certainly true in the case of the Pennsylvania Railroad. Fairly substantial accounts receivable are due by various agencies of the Federal Government, and these are carried for longer periods of time.

In addition, and I will cover this later on, the debt of the railroads represents a higher percentage of their capitalization than in the case of any of the other industries shown in these charts.

Further, as we have seen from the chart on debt, the railroads have a very substantial amount of annual equipment maturities which are peculiar to this industry, and overall the debt service of the railroads is much higher than in any of the other industries with which comparisons are made.

In any event, the working capital position of the industry, and this is particularly true of the Pennsylvania Railroad, has deteriorated and it now seems clear that the situation has not been eased by what transpired in the past year. Preliminary figures indicate that the class I railroads lost about $200 million in working capital in 1956, and if we exclude materials and supplies as a current asset, they lost more than $250 million. To put it another way, the railroad industry ended

1956 with working capital of approximately $1 billion, and if we exclude materials and supplies, the figure is around $275 million.

To illustrate what this deterioration in the railroads' working capital means from the standpoint of their daily operations, the monthly payroll of the railroads, including the current wage settlement pattern, averages about $465 million. Compare this figure with the current working capital of $275 million, excluding materials and supplies since to a great extent they do not constitute a liquid asset, and you will find that working capital is equal to little more than the semimonthly payroll. As of the end of 1955, working capital, excluding materials and supplies, was equal to the payroll for about 40 days, while in 1945 it was equal to 412 months.

As far as the Pennsylvania Railroad is concerned, our working capital at the end of 1956 was $72 million, a loss of $14 million of our working capital for the year. Excluding materials and supplies, working capital of the Pennsylvania Railroad was $5 million. If you compare the latter amount with our current monthly payroll of about $47 million you will find that it is equivalent to our payroll for just about 3 days. As of the end of 1955, our working capital, excluding materials and supplies, was equivalent to about 3 weeks' payroll, and in 1945 slightly better than 211⁄2 months.

I think it is clear that the railroad industry has brought its working capital down to a very minimum, if not dangerous point. Therefore, with inadequate working capital, the railroads are now in a position where they must meet current expenses out of current receipts and in the event of decline of business, they have no alternative but to reduce expenses accordingly, because we have no cushion to go on.

In addition to inadequate working capital, there is another serious problem with which the railroads have been struggling and which is going to increase their difficulties as far ahead as we can see.

Mr. HALE. On your statement you have skipped something? Mr. BEVAN. I am on page 12 of my statement. I see you are following the long statement.

This is a condensation of that, because that will take more time than I have been allotted. I am sorry. This is hitting the high spots of that. That is about twice the length of this.

The CHAIRMAN. We have been able to follow you very closely thus far, Mr. Bevan. However, sometimes you do go off and it takes three or four pages to catch up.

Mr. BEVAN. I am sorry. At any place I do digress, if you will just tell me, I will slow up until you find it.

Mr. HALE. You took quite a big jump the last time.

Mr. BEVAN. That is on page 26, I believe, sir. I do not have that before me. I understand it is in the middle or bottom of page 26,

I am told.

Mr. WOLVERTON. Mr. Chairman, I understand that the witness desires that his entire statement be made a part of this record.

The CHAIRMAN. Yes.

Mr. BEVAN. Yes, sir.

The CHAIRMAN. Permission will be given, of course, for that at the proper time.

Mr. BEVAN. The entire statement will be filed.

The notorious lack of earning power of the railroad industry has made it extremely unpopular as an outlet for capital seeking invest

ment. There are only about a handful of common stocks of railroad companies today that even to a small degree are being purchased by institutional investors. Naturally with the low earnings of the railroads and with the large number of companies that went through reorganization in the thirties, their basic credit standing has been substantially undermined.

As a practical matter today the only important vehicle to the majority of American railroads for raising new funds is through the sale of equipment trust obligations, which I just mentioned, secured by liens on new rolling stock. Equipment trust obligations mature serially over a period of years, generally speaking, 10 to 15 years, and usually the railroads put up in cash 20 percent to 25 percent of the cost of the equipment involved. These obligations also cannot be refunded so at maturity must be met out of the cash drawer. There has been a very substantial increase in these obligations in the postwar period. This is natural in view of the fact that the railroads have been forced to rely almost entirely on this method to obtain funds to purchase a vast majority of the equipment.

I might explain equipment trust obligations mature serially over a period of years, generally speaking, 10 to 15 years, as I have said, and usually the railroads put up 20 to 25 percent of the total cost, and the rest is borrowed against the equipment involved, and you have either annual or semiannual maturity payments, and you cannot refund those; as they come due you have got to meet them.

Mr. O'HARA. Mr. Chairman.

The CHAIRMAN. Mr. O'Hara.

Mr. O'HARA. What interest do you usually pay on those certificates? Mr. BEVAN. Sir, it has varied pretty widely recently. Back in 1955, we sold some equipments on a 2.79 basis. That was the average cost over the whole period for this trust. In January this year our interest

cost on those was 4.32.

Mr. O'HARA. Is there any fixed charge in addition to that?

Mr. BEVAN. Yes, you have the legal fees involved, and you have the trustees' fees involved, but interest costs have gone up with the change in the money rates in the market. They have gone up very substantially. There has been a slight lull in the last two or three months.

Mr. O'HARA. Do your interest rates cover the legal expenses and fees, or is that in addition?

Mr. BEVAN. No, sir; that is just your pure interest costs. The trustees' fees, and the counsel fees are separate from that.

Mr. O'HARA. You have an estimate of what the overall cost is to the railroads, for that type of trust, do you?

Mr. BEVAN. We have not, because the legal fee is generally a onetime proposition. It would not vary that 15-year cost very much. Now, as I said, there has been a very substantial increase in these obligations in the postwar period. This is natural in view of the fact that the railroads have been forced to rely almost entirely on this method to obtain funds to purchase a vast majority of the equipment. As of January 1, 1946, the total outstanding equipment obligations in the industry were $773 million, and at the end of 1955 they were $2,537 million.

This is going to have to be increased by at least another $500 million in the next 10 years if we can sell them. This has tended to saturate

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the market and it has only been with increasing difficulty that the investment bankers purchasing equipment trust issues have been able to dispose of them. As an indication of the decreasing interest in railroad equipment obligations, as of today the industry is in effect dependent almost entirely on two investment banking groups for the sale of their equipments. Between them these two groups handle about 85 percent of all equipment trust obligations marketed.

If either of these should go out of the equipment business, we would no longer be able to sell our equipments competitively.

To further accentuate the seriousness of the situation, the size of the potential market has been materially reduced. In the past, savings banks have been one of the major outlets for equipment trust obligations. However, in the past few years a number of States, including New York and Pennsylvania, have empoyered the savings banks to buy preferred and common stocks. This fact, coupled with the fact that most savings banks have been very substantially increasing their mortgage portfolios, has resulted in a very limited demand on their part for equipment trust obligations.

On top of this, the commercial banks of the country, long-time purchasers of equipment obligations, have been hard pressed to find sufficient funds to meet loan demands, and I think you are well aware of the tightness of money at the present time. As a result, and we see no immediate prospect of relief in this connection, the commercial banks are primarily reducing their investment portfolios in order to raise funds for additional loans. Despite this liquidation, as of the beginning of this year the commercial banks of this country were in debt to the Federal Reserve to the extent of $370 million. Therefore it seems apparent that there will be a further liquidation of securities by the commercial banks. Consequently, it may be many years before they again, if ever, become an important factor in the equipment market.

In other words, the credit standing of the railroads has deteriorated, they have been more and more restricted for their source of funds to the equipment trust market, and that in turn has become saturated and from a supply standpoint the size of the market is shrinking.

Many railroad companies are extremely worried at the present time as to how they are going to be able to finance equipment purchases, not in the year 1960 or 1965, but in 1957. If it should become impossible to finance equipment purchases, obviously it will become impossible for the railroads not only to meet expanding demand but to replace equipment which is wearing out each year. If this is true, then in turn, they will be unable to provide the service necessary to industry in general and will obviously not have the ability to meet the demands in the case of war. This sounds like a bleak picture, but factually it is true, and the only possible effect is that we are hopeful that through the solution of a number of the problems cited today such a tragic eventuality will ultimately be averted.

Again to show how the popularity of the railroads from an investment standpoint has decreased and the credit of the industry eroded contrasted to other industries, Chart M shows that of the new securities issued by the railroads in the period 1948 through 1955, as compiled by the Securities and Exchange Commission, only $12 million, or twotenths of 1 percent, represented stock or equity financing. Most of this can be traced to two railroads. In 1951, the Nickel Plate raised

$5,065,000 through the sale of common stock to reimburse its treasury for capital expenditures made, and in 1955 the Western Maryland realized $5,272,000 in this manner to provide a part of the funds required to pay off the accumulated arrears of dividends on its preferred stock.

Contrasted with this is the showing in manufacturing industries where 21 percent of the new securities issued represented stock or equity financing, or 28 percent for electric, gas and water, utility industry, 10 percent for communications, and 23 percent for all other industries.

In the communications industry, nearly half of the securities classed as bonds were of the convertible type issued by one company, and its experience indicates that 99 percent of such bonds are converted ultimately into common stock. If adjustment is made for this conversion, then 53 percent of the communications industry financing was represented by equity financing. Furthermore, of the $5 billion 352 million of bonds issued by railroads, $3 billion 721 million, or 70 percent, were equipment obligations, and again I repeat they mature serially over a 15-year period, or less, are not subject to refunding, and, therefore, must be met from the cash earnings of the railroads.

Therefore, to finance improvements to the road, to obtain downpayments for equipment financing, and to finance any expansion, until some drastic change for the better occurs in the railroad industry we must depend almost entirely on retained earnings and depreciation cash. Depreciation, as you know, is the amount that we charge out each year on the estimated wearing out of the equipment and the road. It is a noncash item. But that goes back into the property plus retained earnings. Depreciation charges also are based on original cost, and are unrealistic because of the obsolescence factor and because of the inflationary spiral in the postwar period, there is a further gap representing the difference between our cost initially, dating back some years, and the fact that when we come to buy the new equipment it costs two or three times what we paid for it originally or the rate at which we have depreciated it.

Now let us examine the future outlook from a financial standpoint. In chart P, a comparison is made with the same industry groups and in connection with my remarks concerning working capital. Approximately 35 percent of the total capitalization of class I railroads is in the form of debt and for Pennsylvania Railroad 34 percent. For the other industries shown the percentage of debt to total capitalization ranges from a low of 8 percent in the case of the metals and mining industry to a high of 28 percent in the case of the tire and rubber industry. Not only does the debt of the railroads constitute a higher percentage of capitalization than is generally found in other industries, but more important, as we have seen from the chart dealing with the composition of debt, a higher proportion of that debt is in the form of equipment obligations which are nonrefundable and which impose an ever-increasing drain on cash. This condition is not found in the other industries.

Looking ahead 10 years, it appears from chart Q that the cash outlay for payment of existing debt maturities, both bond and equipment, plus an estimate of future equipment maturities, will mean that over this period the class I railroads will be called upon to put out $4