The Collapse of the Rock The Collapse of the Rock IslandIsland

Gregory L. SchneiderGregory L. Schneider

gschneid@emporia.edugschneid@emporia.edu

Requiem for a Requiem for a RailroadRailroad

Why Did the Rock Island Fail?Why Did the Rock Island Fail?

--Conventional Wisdom:--Conventional Wisdom:– Rock Island management was incompetent and allowed the Rock Island management was incompetent and allowed the

railroad to decline;railroad to decline;– Selfish Rock Island bondholders (Henry Crown) refused to Selfish Rock Island bondholders (Henry Crown) refused to

reinvest in the property once merger was under way with UP;reinvest in the property once merger was under way with UP;– Rock Island looked to UP and SP to save the property;Rock Island looked to UP and SP to save the property;– Interstate Commerce Commission (ICC) killed the railroad;Interstate Commerce Commission (ICC) killed the railroad;– Judge Frank McGarr killed the railroad in 1980 by his decision Judge Frank McGarr killed the railroad in 1980 by his decision

to liquidate the property (Fred Frailey in Trains magazine this to liquidate the property (Fred Frailey in Trains magazine this year)year)

– Rock Island could have been saved—some 5,000 miles of Rock Island could have been saved—some 5,000 miles of system still in use;system still in use;

– Labor Unions helped kill the Rock Island—strike in 1979 was Labor Unions helped kill the Rock Island—strike in 1979 was death knelldeath knell

Challenges to Conventional WisdomChallenges to Conventional Wisdom

--Rock Island story should be seen as a part of --Rock Island story should be seen as a part of railroad problem:railroad problem:– Regulation was a serious issue and impacted what Regulation was a serious issue and impacted what

management could do (or not do) and issues management could do (or not do) and issues regarding wages and ratesregarding wages and rates

– Merger was opportunity for corporate diplomacy and Merger was opportunity for corporate diplomacy and UP was isolationistUP was isolationist

– Could the Rock Island survive a changed Could the Rock Island survive a changed transportation economy (highways, barges, airlines)?transportation economy (highways, barges, airlines)?

– Government failure to bring prosperity to passenger Government failure to bring prosperity to passenger system and to northeastern railroads leads to only system and to northeastern railroads leads to only solution: deregulation and rationalization of systemsolution: deregulation and rationalization of system

MergerMerger

ACT ONE:ACT ONE:

Success StorySuccess Story

Source: Classic Trains Magazine, Spring 2011; personal collection of author

Postwar SuccessPostwar Success 1. Rock Island came out of 15 year reorganization in 1. Rock Island came out of 15 year reorganization in

19481948

2. Railroad had been rebuilt, was in good physical shape 2. Railroad had been rebuilt, was in good physical shape with new streamliners and dieselization (by 1954)with new streamliners and dieselization (by 1954)

3. President John Dow Farrington was a good railroad 3. President John Dow Farrington was a good railroad man and a builder (Armourdale Yard, KC; Silvis, Il.; man and a builder (Armourdale Yard, KC; Silvis, Il.; Samson of the Cimarron)Samson of the Cimarron)

4. Revenues in 1949 were $197 million with low 4. Revenues in 1949 were $197 million with low operating expense ratiooperating expense ratio

One Decade LaterOne Decade Later 1. By 1959 railroads were suffering from 1. By 1959 railroads were suffering from

competition from trucking (LCL freight), interstate competition from trucking (LCL freight), interstate highways hurt passenger trains, continued highways hurt passenger trains, continued regulation by ICC, low capital investmentregulation by ICC, low capital investment

2. Rock Island was still profitable, with peak of 2. Rock Island was still profitable, with peak of revenues ($219 million) against expenses of $172 revenues ($219 million) against expenses of $172 million—net income of only $8 millionmillion—net income of only $8 million

3. problems on horizon: territory heavily dependent 3. problems on horizon: territory heavily dependent on agriculture; increasing wages; little industry on agriculture; increasing wages; little industry online; regulationonline; regulation

Siding One: What’s the Matter with Regulation?Siding One: What’s the Matter with Regulation?

1. Interstate Commerce Commission created in 1887—1. Interstate Commerce Commission created in 1887—railroads had monopoly on transportation—powerless railroads had monopoly on transportation—powerless until:until:

2. Hepburn Act (1906)—expanded power of ICC to set 2. Hepburn Act (1906)—expanded power of ICC to set maximum rates on railroadsmaximum rates on railroads

3. Mann-Elkins Act (1910)—expanded rate powers of ICC 3. Mann-Elkins Act (1910)—expanded rate powers of ICC and created Commerce Courtand created Commerce Court

4. WWI—railroads controlled by federal government 4. WWI—railroads controlled by federal government (USRA)—returned to private control following the war (USRA)—returned to private control following the war

Transportation Act of 1920Transportation Act of 1920

1. greatly expanded powers of ICC—how?1. greatly expanded powers of ICC—how?– Given power to set minimum rates through valuation of Given power to set minimum rates through valuation of

railroad assets (allow a fair return on investment)—who railroad assets (allow a fair return on investment)—who says what that is? ICCsays what that is? ICC

– ICC given power to determine whether railroads can ICC given power to determine whether railroads can abandon service, trackabandon service, track

– Empowered ICC to regulate railroad securitiesEmpowered ICC to regulate railroad securities– Also created Railway Labor Board for labor issuesAlso created Railway Labor Board for labor issues

2. Authorized reduction in number of railroads and money 2. Authorized reduction in number of railroads and money from rich to poor railroads—never enacted—still being from rich to poor railroads—never enacted—still being discussed into 1970sdiscussed into 1970s

Merge or DieMerge or Die

1. Railroads were hamstrung by regulations and 1. Railroads were hamstrung by regulations and inability to attract enough capital investment—inability to attract enough capital investment—average rate of return of around 4% in 1950s; 2% in average rate of return of around 4% in 1950s; 2% in 1970s1970s

2. merger was one solution and beginning in 1959 the 2. merger was one solution and beginning in 1959 the merger era beginsmerger era begins

3. Rock Island’s board seeks merger and studies begin 3. Rock Island’s board seeks merger and studies begin to merge with Milwaukee Road—rejected after several to merge with Milwaukee Road—rejected after several studiesstudies

4. In 1963 the Union Pacific becomes the partner—4. In 1963 the Union Pacific becomes the partner—Southern Pacific joins—roads file necessary paperwork Southern Pacific joins—roads file necessary paperwork with ICC in 1963—stock buyout of RI by UPwith ICC in 1963—stock buyout of RI by UP

Source: UPI Photo, 11/15/1963 (author’s collection)

Bleak HouseBleak House

1. Intervention by other railroads—7 railroads initially 1. Intervention by other railroads—7 railroads initially oppose merger, joined by 5 others—why?oppose merger, joined by 5 others—why?

2. hearings delayed until 1965—finish in 1968—2. hearings delayed until 1965—finish in 1968—then . . . A waiting game (48,000 pages of testimony, then . . . A waiting game (48,000 pages of testimony, 200,000 pages of evidence, 247 days of hearings in 200,000 pages of evidence, 247 days of hearings in total)—longest and biggest case in ICC historytotal)—longest and biggest case in ICC history

3. CNW tries takeover of Rock Island by offering stock 3. CNW tries takeover of Rock Island by offering stock swap—Ben Heineman—further delays hearingsswap—Ben Heineman—further delays hearings

4. use of Rock Island to remake western railroad map4. use of Rock Island to remake western railroad map—Nathan Klitenac—report released in 3 volumes (final —Nathan Klitenac—report released in 3 volumes (final volume in 1974 recommends merger with conditions)volume in 1974 recommends merger with conditions)

One Man Wrecking CrewOne Man Wrecking Crew

--Heineman’s strategy:--Heineman’s strategy:– Ruin the Rock Island merger with UP by offering stock Ruin the Rock Island merger with UP by offering stock

swap and exchange offer—more attractive than UP offer swap and exchange offer—more attractive than UP offer initially and UP had to renegotiate terms of the dealinitially and UP had to renegotiate terms of the deal

– Once in ICC’s hands, show how RI-UP merger would alter Once in ICC’s hands, show how RI-UP merger would alter regional rail map and propose instead a “merge a trois” regional rail map and propose instead a “merge a trois” between RI, CNW and Milwaukee Roadbetween RI, CNW and Milwaukee Road

– Delay, delay, delay—keep the merger before ICC and Delay, delay, delay—keep the merger before ICC and prevent collapse of CNW in process—”one railroad would prevent collapse of CNW in process—”one railroad would survive and it would be the CNW”survive and it would be the CNW”

– Diversification—Heineman diversifies into Northwest Diversification—Heineman diversifies into Northwest Corporation and sells railroad to employees—Larry Provo Corporation and sells railroad to employees—Larry Provo continues as intervener in Rock Island mergercontinues as intervener in Rock Island merger

Impact--Rock Island’s Impact--Rock Island’s Worsening Worsening ConditionCondition

1964—last profitable year--$3.8 million net income1964—last profitable year--$3.8 million net income 1965—(1.4 million)--loss1965—(1.4 million)--loss 1966—(2.6 million)1966—(2.6 million) 1967—(18 million)1967—(18 million) 1968—(9.8 million)1968—(9.8 million) 1969—(11.3 million)1969—(11.3 million) 1971—(6.7 million)1971—(6.7 million) 1972—(6.1 million)1972—(6.1 million) 1973—(14.9 million)1973—(14.9 million) 1974—(23 million)1974—(23 million)

Impact—Rock Island’s Working CapitalImpact—Rock Island’s Working Capital

1961--$37 million1961--$37 million 1962--$16 million—funded improvements & paid 1962--$16 million—funded improvements & paid

debtdebt 1963--$14 million1963--$14 million 1964--$9 million1964--$9 million 1965--$6 million1965--$6 million 1966--$2.8 million1966--$2.8 million 1967—($4.6 million)1967—($4.6 million) 1970—($15.7 million)1970—($15.7 million) 1971—($15.2 million)1971—($15.2 million) 1973—($27 million)1973—($27 million)

What were the Problems?What were the Problems?

1. declining traffic base—loss of some agriculture 1. declining traffic base—loss of some agriculture to trucks who could offer lower shipping ratesto trucks who could offer lower shipping rates

2. passenger trains are expensive and operate at 2. passenger trains are expensive and operate at loss—Rock can’t afford Amtrak entry fee ($4.8 loss—Rock can’t afford Amtrak entry fee ($4.8 million) and operate two intercity trains from 1971-million) and operate two intercity trains from 1971-1978 (both lose $1 million per year even with 1978 (both lose $1 million per year even with subsidy)—Rock also has Chicago commuter service subsidy)—Rock also has Chicago commuter service as cash drain (RTA created in 1976)as cash drain (RTA created in 1976)

3. little industry on line3. little industry on line 4. not enough cars and locomotives4. not enough cars and locomotives 5. declining maintenance (no money for track 5. declining maintenance (no money for track

repair)—who is to blame?repair)—who is to blame?

BankruptcyBankruptcy

ACT TWO:ACT TWO:

No One Likes John IngramNo One Likes John Ingram

FRA Administrator who was named RI President in FRA Administrator who was named RI President in October 1974 (a sort of coup)—Henry Crown was October 1974 (a sort of coup)—Henry Crown was not present at meetingnot present at meeting

Why was he a choice of some board members?Why was he a choice of some board members?– Thought he could supervise the government loan—in Thought he could supervise the government loan—in

February 1975 Rock is granted $9 million, rather than February 1975 Rock is granted $9 million, rather than $100 million requested$100 million requested

– Problem was that he was hated in Washington—brash Problem was that he was hated in Washington—brash and acerbic figure, he had antagonized many of the and acerbic figure, he had antagonized many of the people who could have helped the railroad—he himself people who could have helped the railroad—he himself thought Rock Island should wither and die (1972)thought Rock Island should wither and die (1972)

– Penn Central kept tabs on his remarks and stalked him Penn Central kept tabs on his remarks and stalked him during early 1970sduring early 1970s

John IngramJohn Ingram

Bankruptcy—Key IssuesBankruptcy—Key Issues

1. Rock files for bankruptcy (cashless) on March 1. Rock files for bankruptcy (cashless) on March 17, 1975—Ford administration refuses to bailout RI17, 1975—Ford administration refuses to bailout RI—notes of phone call to Crown in Ford Library—notes of phone call to Crown in Ford Library

2. Judge Frank McGarr appoints William Gibbons as 2. Judge Frank McGarr appoints William Gibbons as Trustee pursuant to Section 77 reorganization—Trustee pursuant to Section 77 reorganization—Gibbons and Rock President John Ingram decide to Gibbons and Rock President John Ingram decide to reorganize the railroadreorganize the railroad

3. No help from federal government to repair track 3. No help from federal government to repair track (request for $100 million loan in 1974 from FRA—(request for $100 million loan in 1974 from FRA—Rock gets $9 million)Rock gets $9 million)

4. Intervention against reorganization by Henry 4. Intervention against reorganization by Henry CrownCrown

William Gibbons, TrusteeWilliam Gibbons, Trustee

Henry CrownHenry Crown

Crown InterventionCrown Intervention

1. Henry Crown was rags to riches tale—started 1. Henry Crown was rags to riches tale—started aggregate business in Chicago with his brothers—aggregate business in Chicago with his brothers—became Material Services Corp., largest in Midwestbecame Material Services Corp., largest in Midwest

2. smart investor in railroads (Frisco, BN, Rock Island) 2. smart investor in railroads (Frisco, BN, Rock Island) and in real estate (original investor in Hilton Hotel and in real estate (original investor in Hilton Hotel Corp., owned the Empire State Building in 1950s)Corp., owned the Empire State Building in 1950s)

3. majority owner of General Dynamics in 1950s, 3. majority owner of General Dynamics in 1950s, 1970s1970s

4. majority owner of RI stock (150,000 shares) and of 4. majority owner of RI stock (150,000 shares) and of first mortgage bondsfirst mortgage bonds

5. served on RI Board from 1948-1975 (headed up 5. served on RI Board from 1948-1975 (headed up Finance and Executive Committees)Finance and Executive Committees)

What Crown WantedWhat Crown Wanted

1. After 1974 Crown believed RI should be 1. After 1974 Crown believed RI should be liquidatedliquidated

2. Fought against the Trustee’s efforts to save RI 2. Fought against the Trustee’s efforts to save RI in Courtin Court

3. Retained the Chicago firm of Jenner and Block3. Retained the Chicago firm of Jenner and Block 4. Argued that the Trustee was using assets of 4. Argued that the Trustee was using assets of

road and hurting bondholders (Continental Bank, road and hurting bondholders (Continental Bank, First National Bank of Chicago both agreed)First National Bank of Chicago both agreed)

5. after liquidation supported Trustee’s efforts to 5. after liquidation supported Trustee’s efforts to reorganize—Jenner and Block worked with reorganize—Jenner and Block worked with Trustee after 1980Trustee after 1980

Major Problems with ReorganizationMajor Problems with Reorganization

1. Bad weather—historically bad Midwestern winters in 1. Bad weather—historically bad Midwestern winters in 1978 and 19791978 and 1979

2. inflation—interest rates of 18% by 19802. inflation—interest rates of 18% by 1980 3. diesel fuel shortages—another result of government 3. diesel fuel shortages—another result of government

regulation (Rock Island down to 6 day supply by 1979)regulation (Rock Island down to 6 day supply by 1979) 4. continuing record losses (between 1975-1980 RI 4. continuing record losses (between 1975-1980 RI

accumulates an additional $100 million in losses)accumulates an additional $100 million in losses) 5. labor issues—no willingness to negotiate to save 5. labor issues—no willingness to negotiate to save

railroad by BRAC and UTU--strike on Aug. 28, 1979 railroad by BRAC and UTU--strike on Aug. 28, 1979 ends in ICC directed serviceends in ICC directed service

6. reorganization plan submitted to court in Dec. 19796. reorganization plan submitted to court in Dec. 1979—rejected and railroad order liquidated in Jan. 1980—rejected and railroad order liquidated in Jan. 1980

Improvements by TrusteeImprovements by Trustee

1. Acquisition of motive power through lease 1. Acquisition of motive power through lease arrangements (EMD GP-38, SD 40-2)arrangements (EMD GP-38, SD 40-2)

2. Rebuild program for older GP-7s2. Rebuild program for older GP-7s 3. Car acquisition program—jumbo hoppers 3. Car acquisition program—jumbo hoppers 4. Unit grain trains from Iowa to Houston4. Unit grain trains from Iowa to Houston 5. Track maintenance program with states and 5. Track maintenance program with states and

shippers (Iowa branchlines)shippers (Iowa branchlines) 6. Problems: slow orders (over 5,000 miles of 6. Problems: slow orders (over 5,000 miles of

system plagued by slow orders increasing system plagued by slow orders increasing operating costs substantially); delay of plan of operating costs substantially); delay of plan of reorganization—whyreorganization—why??

Siding Two—Federal Siding Two—Federal ResponseResponse

1. BIG EVENT—Bankruptcy of Penn Central 1. BIG EVENT—Bankruptcy of Penn Central Transportation Co. in June 1970—formed in Feb. Transportation Co. in June 1970—formed in Feb. 1968, merger between Pennsylvania and New York 1968, merger between Pennsylvania and New York CentralCentral

2. PC losses are staggering—over $1 billion per year2. PC losses are staggering—over $1 billion per year—threatens entire economy (threat of liquidation)——threatens entire economy (threat of liquidation)—PC carries 1/3 of passengers; 1/8 of freightPC carries 1/3 of passengers; 1/8 of freight

3. Nixon admin. And Congress react—form Amtrak 3. Nixon admin. And Congress react—form Amtrak (1971) to remove passenger train burden from RRs(1971) to remove passenger train burden from RRs

4. passage of 3R Act (Regional Rail Reorganization 4. passage of 3R Act (Regional Rail Reorganization Act) in Jan. 1974 to study plan for NE railroads—Act) in Jan. 1974 to study plan for NE railroads—created FRA and led towards Conrail in 1976created FRA and led towards Conrail in 1976

Ford and Choo-ChoosFord and Choo-Choos 1. 4R Act (1976)—1. 4R Act (1976)—

creates Conrail and creates Conrail and offers financial offers financial assistance to struggling assistance to struggling RRsRRs

2. No aid to Rock Island 2. No aid to Rock Island from federal govt.from federal govt.

3. Discussions of 3. Discussions of regulatory reformregulatory reform

4. differences between 4. differences between WH and Dept. of WH and Dept. of TransportationTransportation

Carter—DeregulatorCarter—Deregulator 1. Push towards 1. Push towards

deregulation of deregulation of transportationtransportation

2. Airlines and trucking 2. Airlines and trucking deregulated first—RRs take deregulated first—RRs take longer—what about longer—what about privatization of Conrail? Not privatization of Conrail? Not time. Amtrak? No supporttime. Amtrak? No support

3. Congress acts with WH to 3. Congress acts with WH to secure Staggers Act (1980) secure Staggers Act (1980) which deregulates RRs and which deregulates RRs and frees them from rate control frees them from rate control by ICC; designed to speed by ICC; designed to speed up mergers and process of up mergers and process of track abandonmentstrack abandonments

LiquidationLiquidation

ACT THREE:ACT THREE:

Reorganization and RebirthReorganization and Rebirth

1. Rock Island is liquidated—Trustee Gibbons sells 1. Rock Island is liquidated—Trustee Gibbons sells estate (5,000 of 7,500 miles is still in use today; estate (5,000 of 7,500 miles is still in use today; remainder abandoned and sold for scrap)remainder abandoned and sold for scrap)

2. assets of railroads—real estate, locomotives, etc. 2. assets of railroads—real estate, locomotives, etc. all sold or scrappedall sold or scrapped

3. Trustee secures major Supreme Court victory 3. Trustee secures major Supreme Court victory ((Railway Labor Executives vs. GibbonsRailway Labor Executives vs. Gibbons, 1982), , 1982), freeing Rock from paying labor unions $75 million in freeing Rock from paying labor unions $75 million in vacation pay from estate (argued by Jenner and vacation pay from estate (argued by Jenner and Block, firm used to argue against reorganization)Block, firm used to argue against reorganization)

4. Successful reorganization plan filed with Court in 4. Successful reorganization plan filed with Court in 19821982

Reorganization and RebirthReorganization and Rebirth

5. Rock emerges from reorganization in 1984 as 5. Rock emerges from reorganization in 1984 as Chicago Pacific Corp.—Trustee had paid all debts Chicago Pacific Corp.—Trustee had paid all debts (which amounted to $250 million in 1980) with (which amounted to $250 million in 1980) with interest; repaid stock and bondholders and taxesinterest; repaid stock and bondholders and taxes

6. Chicago Pacific is capitalized with $400 million 6. Chicago Pacific is capitalized with $400 million from liquidation of railroad—board includes from liquidation of railroad—board includes Thomas Ayers, Bill Ayer’s fatherThomas Ayers, Bill Ayer’s father

7. investment company led by Harvey Kapnick—7. investment company led by Harvey Kapnick—acquires Hoover Vacuum Cleaners; fights attempts acquires Hoover Vacuum Cleaners; fights attempts at hostile takeoversat hostile takeovers

8. Bought out by Maytag (Newton, Iowa) in 1989—8. Bought out by Maytag (Newton, Iowa) in 1989—end of Rock Island RRend of Rock Island RR

Major Changes in LinesMajor Changes in Lines

1. Southern Pacific buys Golden State Route from 1. Southern Pacific buys Golden State Route from NM to SL in 1979 ($58 million)NM to SL in 1979 ($58 million)

2. bidding war for Spine Line between 2. bidding war for Spine Line between Minneapolis and KC (won by CNW)Minneapolis and KC (won by CNW)

3. Branch lines in Iowa spun off to shortlines, 3. Branch lines in Iowa spun off to shortlines, CNWCNW

4. Iowa Interstate created (1985) to takeover 4. Iowa Interstate created (1985) to takeover Chicago to Omaha traffic—CSX buys main from Chicago to Omaha traffic—CSX buys main from Chicago to Bureau, Il. and PeoriaChicago to Bureau, Il. and Peoria

5. RTA (later Metra) buys Rock Island main in 5. RTA (later Metra) buys Rock Island main in Chicago and controls commuter serviceChicago and controls commuter service