Commercial Paper Market
THE INSOLVENCY OF HERMAN SCHAFFNER & CO.
Within a day or so of the disappearance of Herman Schaffner,
Meyer Levy, one of Chicago's most prominent attorneys and counsel
for the assignee American Trust & Savings Bank, said: "none
of the depositors will lose anything." Lyman Gage, President
of the First National Bank of Chicago, is quoted as saying "I
think Herman Schaffner & Co. will pay dollar for dollar."
As another more skeptical commentator noted, however, statements
of this type coming from financial leaders were unfortunately
rather routine and offered as a way to calm the waters and reduce
the chances of a general bank panic.
On Saturday, June 3, possibly in the evening, a representative
of A. G. Becker -- probably his counsel, Jacob Newman -- issued
a statement on behalf of A. G. Becker, as below linked. As can
be seen, at this point, even Herman Schaffner's younger partner
"entertained no doubt" that the Bank would be "amply
able to pay all its liabilities."
Statement of A. G. Becker
Despite Herman Schaffner's mysterious absence, there was a broadly
held view in the Chicago financial community, and among many friends
of Messrs. Schaffner and Becker, that the problems of the Schaffner
bank were temporary, the assignment would be quickly terminated,
and all liabilities of the bank would be met. Herman Schaffner
was held in the highest esteem, throughout the Chicago and national
financial community. He was considered to be an honest and conservative
financier, with a fine judgment of credit. As Lyman Gage said,
"Mr. Schaffner is an honorable man, considered safe and conservative
by all who know him." Schaffner's deposit banking business
was considered a small part of the bank, a modest adjunct to a
much larger scale commercial paper brokerage business conducted
strictly on a consignment/agency business and not involving any
risk as a principal or endorser.
Within a few weeks, however, a more sobering view of Herman Schaffner
and the condition of the Schaffner bank was emerging, especially
when, on June 18, 1893, the assignee published its preliminary
evaluation of the Bank's assets and liabilities. Only available
publicly (as far as has been determined) in the Chicago Tribune,
the text in this report is in good part unreadable in microfiche,
and a copy of the actual newspaper is not available for direct
viewing. However, the essence of the report can be ascertained.
Upon inventory, the assets of Herman Schaffner & Co. consisted
of $1,482,000 in marketable securities and perhaps bills receivable
-- with caveats about uncertain and fluctuating values -- collateralizing
and essentially offsetting $1,465,000 in borrowings. It is not
clear whether the marketable securities were in firm or nominee
name and form, and whether therefore they were purchased on behalf
of the firm, or held for customers, in whole or in part. In addition,
the bank reportedly had $412,000 in cash and other apparently
good assets, along with some $407,000 of assets deemed to be of
doubtful or questionable value, and thus possibly worthless.
On the liability side of the balance sheet, unsecured deposits
totaled $867,000, an amount which surprised some people.
In other words, on a preliminary basis, the Bank had no book
equity, and, in fact, given the very doubtful nature of some $400,000
in assets still carried on the books, and assuming the collateralized
assets would cover the secured borrowings, Schaffner had an equity
deficit -- accumulated losses -- in the order of $450,000.
On that basis, depositors would not likely receive even 50 cents
on the dollar. This was a shock. The Schaffner bank was clearly
insolvent. As time passed, it became evident that bank probably
had been insolvent, on a widening basis, for some 2-3 years, since
1890-91. By 1898, with the final liquidation of the bank, holders
of approved claims in fact received only 12 ½ cents on
the dollar. How could this have happened?
Actual facts about the Schaffner deposit banking business began
to emerge in the early fall of 1893 and continued over the next
few years. It was increasingly obvious that Herman Schaffner was
a very poor banker and businessman, quite in contrast to his public
reputation. One commentator put it even more strongly, and accused
him of being a "reckless" banker. In a series of newspaper
articles, it came out that, starting as early as 1890, Mr. Schaffner
had made several large and loosely conditioned credits to some
men who were trying to resuscitate a downtown Chicago theater.
Delinquency in repayment had existed for some time, while in some
cases additional advances were being made, lending good money
after bad, perhaps even to disguise rollovers with new funds,
as opposed to realistically writing off bad loans. As was said,
Herman Schaffner was considered "a soft mark."
Starting as early as 1889, Schaffner financed the business of
a certain Joseph Deimel, who turned out to be a real swindler.
Within a few years, his business went into receivership. The Judge
in the matter scored Herman Schaffner: "I cannot believe
for an instant that Herman Schaffner & Co. couldn't see through
all these things . . . Gentlemen, this may be banking, I don't
know. But I think whatever it may be, I don't think there can
be any doubt .. that (all the people involved) must, long before
the failure of Deimel Bros., have been perfectly aware of what
was (going on) . . . ."
In May, 1895, the receiver for the "Whisky Trust" (The
Distilling and Cattle Feeding Company) alleged with reasonable
authority that about a week before Herman Schaffner disappeared,
he had committed the Schaffner bank to the purchase from the company
of $1 million of the its bonds, at a purchase price of $500,000,
with the understanding and intent to resell the bonds rather quickly
and quietly to certain insiders at a small markup over his cost.
With Schaffner's death and the assignment of the bank, the Whisky
Trust insiders turned to another firm to complete this transaction,
as planned, which subsequently came under scrutiny of the receiver.
When Herman Schaffner's disappearance was announced, a newspaper
account reported that the bank had in fact suffered withdrawals
of some $100,000 in the months prior to June. A. G. Becker, in
his late June testimony before the assignee, reported withdrawals
during March-May had in fact been in the $300-400,000 range. This
cash drain was most certainly in part due to the general unease
among depositors in light of various business failures throughout
the nation being reported daily in the newspapers. Also, there
was broad unease among depositors about the uncertain effect of
the govennment's unwavering commitment to purchase silver as a
backing for the dollar (along with gold). Even Mr. Becker, looking
back as of July 29, 1893, was quoted as attributing the Schaffner
bank's deposit drain to the "silver question." But certainly
there was also the hint that some depositors were beginning to
sense unsoundness within the Schaffner bank, and to have concerns
about the safety of their deposits.
On top of these issues, it is probably likely, that the bank
was having declining monthly profits and cash flow from its commercial
paper business in the early part of 1893, as the volume of commercial
paper business throughout the nation was reported to be substantially
lower than the 1892 level.
Early in the week of Schaffner's disappearance, a rumor was circulating
that the Schaffner bank had loaned funds to a person or persons
who were speculating in the stock of the West Chicago Railway,
and perhaps borrowed funds to finance its loans. The share values
of West Chicago suffered a steep decline during the week of June
2. According to this rumor, margin calls were not being met, and
collateral shares were being sold at a significant loss to Schaffner.
Finally, it also came out in the course of the assignee's inquiry
that the Schaffner bank was increasingly short in its daily clearances,
and had been required to post collateral to cover these shortages.
Herman Schaffner was reported to have been warned by his primary
bank that clearing services would be withdrawn if remedial steps
were not taken. In this regard, it was reported that on the morning
of June 2, 1893, Herman Schaffner did not visit his primary clearing
bank, even though it had been his practice to do so in the morning
of every business day for the prior two years.
Looking at the record, with the hindsight of over 100 years,
the Schaffner bank was failing as early as 1892. A slow decline,
at first, led to a downward spiral. The bank was out of control,
with many adverse forces coming to bear. But overall, the bank
appears to have suffered all the cumulative effects of loose and
poor -- if not to some extent, dishonest -- banking practices.
It appears that Herman Schaffner just could not face the enormous
realities of his situation, as they unfolded, and in denial, kept
all his troubles to himself. There are of course mysteries, too,
as to what A. G. Becker knew, or should have known, and what actions
he took, or should or might have taken, given the situation, a
topic which hopefully might be covered later in this chronicle.
But, whatever the true facts, Herman Schaffner chose to terminate
his life and place on the shoulders of his young brother-in-law,
with the assistance of lawyers and a court, the task of sorting
out a large mess, and salvaging any residual goodwill the failed
bank might possess, particularly as relates to its long established
commercial paper business.
Posted: July 12, 2007