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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

   



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