Battle for the Erie Railroad

Just before the ‘second industrial revolution’ created new industries and their accompanying fortunes in areas like electricity, steel, oil, and telephones, new investment in the United States was concentrated in railways. Railroad projects attracted huge amounts of private and public resources. It also attracted speculators and their machinations as well as the unscrupulous business practices of some industrialists. Occasionally, these were pitted against each other, such as during an 1860s battle for control of the Erie Railroad.

Erie

The Erie Railroad, formed in 1832, connected New York City to Buffalo and eventually onward to Chicago. The company’s shares were one of the most frequently-traded on the New York Stock Exchange in the mid-1850s and by the mid-1860s, it had a stock capitalization of $25 million. For its scale though, the railroad was not particularly profitable or adequately provisioned with good equipment. In fact, the Erie Railroad was frequently in financial trouble and usually poorly managed.

Drew, Gould, and Fisk

The figures most often associated with the Erie Railroad in the 1860s were the trio of businessmen and speculators, Daniel Drew, Jay Gould, and James Fisk. Drew was a cattle driver and tavern manager turned securities broker and steamship and railroad entrepreneur. He was known for engaging in all sorts of manipulative schemes. In one instance, he had a note dropped in front of some fellow speculators containing a fake order to purchase a large volume of shares; the speculators bought the shares in question, anticipating the fake order that never came would drive up prices. Drew simply used the ploy to offload some shares he had already owned to those speculators at rising prices caused by their bidding.

This was the man who came to control the Erie Railroad in mid-1857. Drew had previously helped rescue the company from distress by guaranteeing some $1.5 million of its debts and loaning it $500,000 more. The Erie Railroad eventually defaulted on debts and control over it passed to Drew as a result.

From 1866, Drew was joined at Erie by Jay Gould and James Fisk, both of whom he made fellow directors. Gould first became involved in railways by buying the depressed mortgage bonds of struggling small railroads, as well as through occasional share manipulation. Like Drew, Gould also formed a securities brokerage firm specializing in railway shares. Fisk, a former peddler turned circus manager, was a broker to Gould and often joined in the latter’s speculations. Under their management, the Erie Railroad continued to operate in financially precarious condition and remained in default on secured bonds.

Cornelius Vanderbilt

Another famous 19th century robber baron involved in the Erie Railroad, and one more firmly established by now than the others, was Cornelius Vanderbilt, the ferryboat operator based in New York. He had, by this point, owned steamships operating on longer-distance routes and found his way to the railroads. Indeed, back in 1833, Vanderbilt was a passenger on the carriage involved in the very first fatal railway accident in America. He was seriously injured and became dismissive of railways as a result; nonetheless, Vanderbilt would eventually invest in and manage railway companies, starting from the late-1850s.

In 1857, Vanderbilt became a director in, and later controlled, the Harlem Railroad and for its benefit obtained a concession to run a track through Manhattan. He also came to control other New York railroads like the Hudson River Railroad, which ran along the east side of the Hudson from New York City to just outside Albany, and the New York Central Railroad, connecting Albany to Buffalo, New York.

While he was building his railroad business, Vanderbilt had come across Drew’s own speculations. At the time, various speculators were short selling shares in Vanderbilt’s companies, sometimes lobbying or bribing legislators to revoke the privileges of these railroads. Because short selling, by selling borrowed shares at one price and repaying the loan by repurchasing shares at a later date, is a bet against the value of a security, these speculators were hoping to send the share prices lower through their actions.

Daniel Drew was engaged in at least some of these schemes against Vanderbilt. However, Drew was unsuccessful. Vanderbilt responded by buying up all available shares, triggering a short squeeze where those speculators, including Drew, could not close out their positions by repurchasing shares except by bargaining for shares Vanderbilt owned. With his controlling position, Vanderbilt could more-or-less dictate the price he wanted and the loss borne by the other side.

Takeover Attempt

Regardless of having been on the opposite side of some trades from time to time, Vanderbilt became a director of the Erie Railroad in 1859 which brought him into closer contact with Drew. Vanderbilt saw Erie as a logical next target; he thought taking ownership of the Erie Railroad would allow him to raise freight rates and help his railroad investments pay off for himself. So, he next attempted to gain control of the company from Drew. The two came to something of a truce in 1866 when Vanderbilt obtained enough control to appoint directors as he wished but agreed to keep Drew on the board of the company after previously working to remove him.

The truce did not entail future cooperation. Indeed, before long, the truce was strained when Drew sought to expand Erie in a way that threatened Vanderbilt’s other railroads with stronger competition. A plot to fix freight rates between the railroads was also coming apart, to Vanderbilt’s disadvantage. In fact, Drew cut Erie’s freight rates to compete with Vanderbilt’s own railways. However, even if the truce could survive this, it would not survive the contrary financial maneuverings of Vanderbilt and Drew.

Drew was short selling shares in the Erie Railroad, despite his role with the company, and Vanderbilt was trying to further his own control by buying shares, setting the two on a collision course. Drew had obtained some shares, and bonds convertible into shares, as security for a loan to Erie he had made. This meant Drew had no difficulty closing out his short positions with shares he possessed, notwithstanding Vanderbilt buying up so many of the Erie shares in public hands for his own ends. Unfortunately for Vanderbilt, the shares Drew possessed and could come to possess through his convertible bonds, diluted Vanderbilt’s ownership in the company.

Making matters worse for Vanderbilt, Drew and his fellow directors were willing to simply have more shares issued to keep Vanderbilt short of majority control. So, while Vanderbilt attempted to take control of Erie by buying up its shares, Drew, Gould, and Fisk were short selling the same shares and protecting themselves from a short squeeze by having the Erie Railroad they controlled simply issue more shares. This also prevented Vanderbilt from ever obtaining control no matter how much he invested.

Legal Battles

Now firmly in a public battle for the railroad, in February 1868, Vanderbilt succeeded in getting a New York Supreme Court judge, George G. Barnard, to issue an injunction prohibiting new share issuance by Erie and requiring the company to repurchase some recently issued shares and convertible bonds. Drew was specifically targeted; he was also prohibited from trading Erie shares until he returned those Erie securities he had previously received as collateral for an 1866 loan. Judge Barnard was close to Vanderbilt’s business interests at a time when some robber barons kept judges just as close at hand as they had attorneys.

Following this development, Erie’s share price rebounded to the mid-$70s. However, Drew, Gould, and Fisk managed to extract from other judges some injunctions in their own favor. They also found shady work-arounds to issue new Erie shares that amounted to defiance of the original injunction by Judge Barnard. As a result, the stock price fell, briefly as low as $65, on account of all this new share issuance.

For their actions though, Drew and his conspiring directors each risked imminent arrest and established themselves in a Jersey City hotel, outside the jurisdiction of Judge Barnard. Because the warrant for their arrest was backed up by a cash bonus for apprehending them that was made more generous by Vanderbilt himself, they armed themselves in the hotel which turned into something of a fortress.

Disengagement

With the directors in exile from New York, the battle for the Erie Railroad continued with Vanderbilt’s buying and the directors’ illicit issuances sending the shares bouncing between prices of $71.5 and $83 over just a few days in March 1868. Among the conspiring directors, Jay Gould was assigned to arrange bribes for New York state legislators willing to pass a law legalizing the Erie share issuances.

Upon arriving in Albany, Gould was arrested but released on bail. While free, he was busy buying the votes of the legislators. At a cost of an estimated $500,000 in bribes, the directors succeeded. One state senator reportedly accepted $75,000 from Vanderbilt and $100,000 from Gould, kept both amounts, and voted as Gould asked.

Still possessing some leverage because he owned many Erie shares and had civil lawsuits in progress against Drew and his fellow directors, Vanderbilt was nonetheless in a predicament. So, he backed off and worked with Drew, Gould, and Fisk to settle the whole matter. Vanderbilt agreed on a price of $3.75 million in cash and bonds to part with 50,000 shares he owned and for another $1 million, he sold an option to the directors allowing them to buy another 50,000 of his Erie shares. Nonetheless, Vanderbilt realized a loss amounting to nearly $2 million on the whole thing. Among the victorious directors, this was not a happy and final ending of the Erie story either. Later in the 1860s, the Drew, Gould, and Fisk team broke up when they took opposite sides in further speculations in Erie shares amongst themselves.

Lesson

Except when coordinating to fix prices, the business practices of 19th century American robber barons were not collegial. As it happens, even price fixing could not bring many business personalities together for long. In any case, business life was certainly not good natured or bounded by rules. Among the many episodes that defined the careers of these people, the robber barons’ battle for control of the Erie Railroad stands out. It has it all: collusion, manipulation, corruption, and defiance of the law.

Of course, through all this, there remained a public market in Erie shares and it was one of the most actively-traded securities in the country. Those taking bets in the February-March 1868 period stood to benefit if one side or the other won and once the legal war began, their maneuvers were well known public information. The corrupt politicians who sold their votes for cash also took corresponding bets on the shares to make more money still. When it came to corruption, the securities business was nearly as much a knowing participant in all this, if usually one layer removed, as were Vanderbilt or Drew themselves.

More from the Tontine Coffee-House

Read about the role of railroads in giving rise to the American bond market and a speculative fever for railway shares in 1840s Britain. Consider subscribing to this blog’s newsletter or checking out book recommendations, which include many of the sources often referenced in my posts.