CHAPTER XIII

STEEL FROM THE INVESTOR’S VIEWPOINT Although throughout the chapters of this history stress has been constantly laid upon the activities of the United States Steel Corporation in promoting better relations between capital and labor, in improving the working conditions of its employees, in introducing new and more honorable methods into competition, and in blazing the pathway for corporate publicity, it must be recollected that the Corporation has been a business enterprise first and last. In the final analysis it was and is a money-making institution. The paying of dividends to stockholders was the basic reason for its existence. United States Steel, both in capitalization and output, was the largest business in the world. But its management was not satisfied with this. It has always been the ambition of Judge Gary and his associates to make its stock the premier industrial security in the United States and, for that matter, in any country. Final decision as to the measure of their success rests with the investor; and he has decided and made his decision evident. To-day United States Steel common stock sells in the market at an investment yield lower than most, if not all, other industrial and railroad securities, a yield, in fact, that compares not unfavorably with that on securities of the Government of the United States itself. Nor is the reason far to seek. As the Corporation has earned and enjoys the confidence of its competitors, customers, and most of its workers, so it has earned the confidence of the great mass of the investing public which regards it, not without justification, as the principal bulwark of the country’s business. The investor knows that the big company has great earning power and enormous assets behind every dollar of its securities. He knows, moreover, that its activities have always been open to the light of day. They have undergone the most rigid scrutiny by various public investigating bodies and by the U. S. Department of Justice. And every revelation made has but served to convince the public more and more of the ability of the Corporation’s management, its financial strength, and the justice of its policies. In an earlier chapter it was suggested that United States Steel common stock at the time of organization in 1901 had no actual investment behind it, that in a sense it represented pure water or “blue sky.” An enormous amount in securities had been paid for good will, the value of which was, at best, a matter of personal opinion. The Corporation’s earning power, despite the sanguine hopes of its organizers, was uncertain or, at least, not proven. And these facts were fully realized by Judge Gary and his colleagues. While probably believing that full value in earning power had been received for the hundreds of millions paid for good will, they were not satisfied to let matters remain in that state, and bent their energies, at the sacrifice of immediate dividends to stockholders, toward squeezing out every possible drop of water behind the stock, and putting at least one hundred cents of tangible assets behind every dollar of securities of any kind in the hands of the public. In this they have more than succeeded. The bonds and preferred stock of the Steel Corporation are to-day recognized as being absolutely gilt-edged, and even the most captious critics do not attempt to deny that every share of common stock is backed up by assets far exceeding its face value. Reference has already been made to Judge Gary’s statement, in October, 1919, before the Senate Committee on Education and Labor, then investigating the steel strike, that the Corporation’s properties were worth at least $2,200,000,000. Competent steel men, outside the Corporation, express the opinion that this valuation was ultra conservative. They point to the fact that the Judge’s valuation was obviously based upon expenditures of approximately $900,000,000 for new plants between 1901 and 1919, and assert that it will never be possible to replace these plants for less than $1,250,000,000. But accepting Judge Gary’s valuation as accurate, Steel common has between $260 and $270 in assets behind it. Just as the investment behind the stock has been increased and accumulated, so has earning power been strengthened. So great is the Corporation’s capacity to-day and so strong is it financially that it is almost inconceivable that it will at any time in the future be unable to maintain its present dividend rate of $5.00 a share annually on the junior stock. From the date of its incorporation in 1901, to December, 1919, the big company expended for new construction, increasing its capacity and modernizing its plants, $888,301,355, or the equivalent of $159 on every share of its common stock, and $19,717,755 more than its entire stock capitalization, common and preferred. Nor did this include approximately $108,000,000 spent for plants for producing war materials and written off as operating expenses. Construction expenditures in 1920 were, approximately, $102,000,000, making a total on this account since incorporation of a billion dollars in round figures. Appropriations for depreciation, sinking funds, and repairs to plants have been enormous, aggregating in nineteen years $1,424,415,590, or almost as great a sum as that at which the property account is now carried, $1,573,661,547. The Corporation has expended, for ordinary repairs alone, $835,900,568, or about the actual investment value of the properties acquired at incorporation. As a result of these enormous expenditures, it has: Increased its pig-iron manufacturing capacity from 7,440,000 tons in April, 1901, to 18,400,000 tons in December, 1919, a gain of 147 per cent.; Increased its steel ingot capacity in the same time from 9,425,000 tons to 22,350,000 tons, or 137 per cent.; Increased its finished steel capacity from 7,719,000 tons to 16,200,000 tons, or 110 per cent.; Increased its cement capacity from 500,000 to 13,500,000 barrels, or 2,600 per cent.; Created from zero a by-product coke capacity of about 45,000,000 gallons of benzol, toluol, and other light oils, as well as built up enormous capacity for other coke by-products including ammonia sulphate, tar, fertilizers, etc.; Increased the railroad mileage it owns and operates from 2,007 to 3,775 miles or 88 per cent.; the number of cars owned from 27,481 to 62,258, and of locomotives from 593 to 1,445. Increased the number of steamers, barges, and other marine units owned from 112 to 371. Increased its working capital from $138,110,545 to $569,988,259, or 313 per cent.; Its iron-ore holdings, estimated at 700,000,000 tons in 1901, are now placed at 1,600,000,000 tons. A better grasp of the Corporation’s expansion between 1901 and the beginning of 1920 is obtained by comparing capacity at the date of incorporation with what has been added since: 1901 ADDED SINCE Pig iron 7,440,000 tons 10,960,000 tons Steel ingots 9,425,000 ” 12,925,000 ” Finished steel 7,719,000 ” 8,481,000 ” Cement 500,000 bbls. 13,000,000 bbls. Benzol ---------- 45,000,000 gals. Railroad mileage owned 2,007 miles 1,768 miles Railroad cars owned 27,481 34,767 Locomotives owned 593 852 Steamers, etc. 112 259 Iron ore deposits 700,000,000 tons 900,000,000 tons Working capital $138,110,545 $431,877,714 As these figures show, additions since 1901 would constitute a new company larger in practically every respect than was the Steel Corporation at its birth. And this expansion has been achieved with little addition to the book value of the properties, which at the end of 1901 was carried at $1,437,494,863 and in 1919 at $1,573,661,547. And, of course, there have been further additions during 1920. Complete figures for that year are not available at the time of writing but property account as of December 31st, is estimated at $1,620,140,000 and working capital at $595,952,000. Nor has this expansion been accompanied by the addition of a single penny to stock capitalization. In fact, the amount of preferred stock has been reduced, as has the annual charge on earnings for bond interest and preferred stock dividends. When formed the Steel Corporation had a total bonded debt, including funded indebtedness of subsidiaries, of $364,735,900, and its bond-interest charges were at the rate of $23,964,175. Its preferred stock was $510,281,100 with an annual dividend charge of $35,719,677, or a total of $59,683,852, which had to be deducted from earnings before there could be any distribution made on the junior security issue. At the end of 1919 total bonds of the Corporation itself and its subsidiaries amounted to $568,727,932. Interest charges thereon were $29,210,898. But preferred stock has been reduced to $360,281,100 and the dividend requirements thereon to $25,219,677, making total deductions from earnings before arriving at the balance available for distribution to common stockholders of $54,430,575, or $5,253,277 less than in 1901. This saving in interest on preferred dividend charges is equal to a little over a dollar a share on the common stock, which has remained at the same figure throughout the twenty years of the Corporation’s existence. In discussing the investment value of Steel common, it is necessary to lay considerable emphasis on the actual tangible assets, at cost, behind the stock. Tangible investment is of particular importance because earning power is based largely on it, and on earning power depend dividends. Although Judge Gary’s estimate of the worth of the Corporation’s properties is considered by experts very conservative, the writer proposes to disregard it for a moment and to discuss the value behind U. S. Steel stock on the most conservative basis--that of tangible assets in 1901 plus tangible additions since. Even on this basis, which is certainly a bed-rock computation, it will be seen that the assets behind “Little Steel” are considerably larger than its par value. Eliminating from the balance sheet $508,302,500 common stock under the plea that it represents nothing but good will, we still have $741,019,795 surplus accumulated in nineteen years, or sufficient to restore with tangible value the common stock item wiped out and still leave a surplus of about $233,000,000. Or, deducting from present book capital and liabilities, plus surplus and reserves which may fairly be regarded as surplus, the common stock item, leaves a balance, representing tangible investment of $1,670,028,825. On this basis the assets behind the common stock are not far from $150 a share. There is still another way of calculating values, and here again let us eliminate the original common stock for reasons already given and place the value of the investment in the Corporation in 1901 at $815,000,000 in round figures, or approximately the aggregate of the bond- and preferred-stock issue. The ingot capacity based on this investment was 9,425,000 tons. The ingot capacity on December 31, 1919, was 22,350,000 tons. Presuming that investment has increased proportionately with its capacity, the value behind the Corporation’s securities is now $1,930,000,000 and this makes no allowance for values represented by coke by-product plants, cement plants, increased ore reserves, shipyards, etc. Ingots alone are taken as the base of the calculation since this product is generally regarded as the measure of a steel company’s capacity. In studying the Corporation’s annual reports, the analytical investor will find certain indications that appear discouraging at first glance. They must be examined in the light of other facts and particularly in the light of comparative tangible investments. Reference is here made to the increasing tendency shown in the operating ratio of the big company. Normally, an increasing operating ratio, a tendency toward diminution of the margin between operating expenses and gross receipts, is not a healthy sign in any business, and the Corporation undoubtedly shows just such a diminution. But in the case of United States Steel this usually unfavorable factor is really a tower of strength. It is, in fact, deliberate. It is part and parcel of the Corporation’s policy of giving the wage earner as large a share as possible in the proceeds of operations. And it has been possible to increase the worker’s share of gross sales in recent years without injustice to stockholders only because of the ploughing back of profits of previous years into new plants, increasing the investment, and enlarging capacity. Because of this policy, it has been possible for the Corporation to show increasingly large earnings on its shares, although capital’s percentage in gross receipts has declined. It is hardly necessary to say that there is no intention of letting the decline go beyond just limits. Although the Corporation’s management has always shown recognition of the rights of the worker in this as in other ways it has never lost sight of the equally important rights of the investor and the latter has no cause to fear that it will ever do so. In 1901 on a net investment of approximately $815,000,000 the Corporation, to pay bond interest, preferred dividends and 5 per cent. on its common stock, had to earn approximately $85,000,000. To-day, to pay the $80,000,000 required for the same purposes, it has a net tangible investment of between $1,700,000,000 and $2,000,000,000. The following table illustrates how increased investment and capacity permit the big company to show large earnings on its stock with a much smaller return on its investment or capacity to-day than was possible in 1901. ------------------------------------+----------------+------------- | 1920 | 1901 ------------------------------------+----------------+------------- | | Actual investment | $1,800,000,000 | $815,000,000 Interest and dividends at 5 per | | cent. on common stock. | 80,000,000 | 85,000,000 Per cent. on investment. | 4.4 | 10.5 Per ton earnings needed on iron | | capacity to earn interest and | | dividends | $4.34 | $11.42 Per ton earnings needed on ingot | | capacity to earn interest and | | dividends | 3.58 | 9.02 Per ton earnings needed on finished | | steel capacity to earn interest | | and dividends | 4.94 | 11.01 ------------------------------------+----------------+------------- Thus it is both good business and good policy for the Corporation to give the wage earner a larger share in gross receipts, and its enormous investment and great capacity enable it to do this without prejudicing interests of stockholders. Further, the very fact that so small a margin of net profit is needed, whether calculated on investment or capacity, to pay dividends, is of itself satisfactory assurance of the safety of the dividend rate. A great steel maker said, some years ago, that the demand for steel, the most important metal of the present age, doubles every twenty years. Experience educates that the actual rate of the growth of demand for the metal is even faster. The needs of the world for steel, as they expand, can only be met by the putting of new capital into the production of more steel, and this capital, to be attracted, must be allowed an earning power of at least 6 per cent. The Corporation, as shown, needs to earn less than 4½ per cent. on its investment to continue the present dividend rate on its common stock. Obviously it has nothing to fear from possible future competition. It can hold its own and be generous to stockholders in the face of any competition that can occur. Another factor of the highest importance in considering United States Steel stock as an investment is that of production costs. Here again the Corporation is in an enviable position. That its production costs are lower than those of most, probably all other manufacturers, is not challenged even by competitors themselves. It is indisputable. Presuming the possibility of a bitter trade war, the Corporation would unquestionably emerge the victor. But a trade war seems out of the question. The Corporation could not, for politic reasons, initiate it, and its competitors could not afford to. It stands in the position of a strong man armed, keeping his house, and, it may be added, its stockholders may be at peace. The immense spread of the Corporation’s activities, the wide diversification of its products, the enormous area over which its plants are scattered, all these are further elements of strength. A company making only a limited line of goods is subject to adverse or favorable influences arising out of the changing demands for these lines. But the law of averages protects the company making a wide variety. A loss here is made up by a gain there, and the general tendency is toward greater stability. Influences that affect one section of the country unfavorably often do not extend to other sections, and the Corporation operates in all sections. In the foregoing discussion of the value of United States Steel stock as an investment the factor of good will has been deliberately ignored, eliminated. Nevertheless, good will is probably the Corporation’s most valuable asset. During twenty years its management, under the able leadership of Judge Gary, has been steadily building up good will. It has endeavored to gain the favorable opinion, not of its customers alone, but of its competitors, its employees, and the public at large; and it has succeeded. Its policy of a square deal to all is as old as the Corporation itself; the events of the past year afford an illustration of one phase of this policy and its effect on good will that has a direct bearing on the present discussion. Throughout the year, during which a great advance in the price of steel occurred, the big company steadfastly refused to depart from the prices it had agreed on in March, 1919, with the Industrial Board appointed by the President of the United States. The fact that the Government itself had abrogated this agreement gave it ample warrant to do as other manufacturers were doing and to sell steel at prices from $10 to $50 a ton above those it charged. But in order to help deflate living costs to the public and to assist in the readjustment of business, which its management saw was inevitable, it rejected with open eyes the enormous profit it might have made and contented itself with moderate earnings. In addressing the stockholders of the Steel Corporation at the annual meeting of April 19, 1920, the chairman said: Inquiry has been made by some of our stockholders as to why, in view of the great demand, the cost of production, and the prices received by other manufacturers, we hold the selling prices of our commodities down to those which were fixed by agreement between the Industrial Board and steel manufacturers at Washington, March 21, 1919. It seems to us the problem of high cost of living is of convincing importance. When the increasing tendency is to insist upon payment of unreasonable sums for every commodity and for every service, so that the vicious whirl of advancement seems to be unending, we think there is a moral obligation on the part of everyone to use all reasonable efforts to check this carnival of greed and imposition, even at some sacrifice.... It should be the effort of all to establish and maintain a reasonable basis of prices; certainly to prevent further advances. By this policy it has built up in a single year good will of incalculable value which will show on future earnings. And even though good will may be eliminated in discussing the investment value of steel, if for no other reason than that it is too immense to permit of computation, the steel stockholder knows that it is behind his investment all the time.