17
THE CHICAGO BANKER
September 12, iqo8]
( Department of Chicago Banker )
An Open Forum Dedicated to the Associated Chapters A. I. of B. in Which to Advance the Great Movement for Independent Action and Universal Membership
Co-operation in Commercial Credits
bility. If anything, the notebroker selling the paper of a large mercantile house occupies a closer and more confidential relationship than the officers of its banks. He possesses thoroughly his client’s confidence, and the heart of the house is laid bare before him to a greater degree than to the officers of its banks. But human nature has its weaknesses which cannot be ignored, and must be reckoned with, and among the resultant abuses may be enumerated a tendency to float excessive loans when the street absorbs paper readily, the outstanding amount at the moment being unknown to the buyer; a tendency to demoralize rates; a tendency to ignore and obliterate classifications of paper. Nothing is more dangerous to a merchant than cheap credit. Demoralization of rates usually results in an increased volume of the notebrokers’ sales. His commission is fixed, and his compensation is, therefore, in proportion to volume of business. Rate cutting, however, not only decreases the profit of the paper buying bank on the paper bought, but lowers also the profit of the bank with which the firm deals, and affects rates on the entire volume of paper discounted thereafter by the bank. When money is easy names are sought, offered and trafficked in which are inconsidera-able and would remain unheard of but for this system.
The loaning of money to merchants, manufacturers and individuals upon single name paper is said to be exclusively an American custom. In England and the Continent no bank discounts paper unless it bears two commercial names and represents an actual business transaction. Single name borrowing is supposed to be based upon the statement of the borrower. The banks have made great headway in recent years in requiring signed detailed statements from borrowers and in perfecting a uniform blank for such statements. But experience has taught us that most of the losses occur among people who make excellent statements which are afterwards found to have been false in fact, if not fraudulently false. A great many banks have been through such experiences, and as a consequence have concluded that in buying any single name paper from note-brokers, where there is no personal acquaintance with the borrower, they should have something more than the borrower’s statement. There is a well defined sentiment in banking circles demanding audits by certified public accountants and the verification of statements by independent auditors and appraisers. What constitutes a proper audit? Certified accountants are employed not only for the verification of statements rendered banks but to collect data for the use of directors and stockholders and for the use of the officers themselves in the pursuance of their duties. Such audits involve the accurate determination of the amount of obligations and a conservative and careful valuation of the different classes of assets. It is not necessary that such an audit should involve all the processes which must of necessity be carried out in investigating the honesty of an employee or tracing the peculations of an embezzler. An audit may be too elaborate and expensive or too cheap and superficial. In this as in other things we must seek a happy medium. Such a system is not infallible
By William A. Law of Philadelphia at
the Bedford Springs Convention
capital borrowing, against continuous loans, against the shifting of obligations from one lender to another in lieu of accomplishing actual and thorough liquidation, for overtrading is the supreme and insidious temptation of American commerce. In a strenuous, growing, prosperous country like ours, what temptation appeals more strongly to a successful and ambitious man than to expand and enlarge his operations. To increase one’s business in reasonable proportion to capital is all right; to enlarge altogether upon the basis of borrowed money is all wrong, and is eventually disastrous alike to both borrower and lender. Whom the Gods would destroy they first make blind to the difference between borrowed money and capital.
But by far the most popular and effective device for attaining a measure of elasticity in assets is the buying of commercial paper through notebrokers, which has become not only an exceedingly important but in many instances an essential feature in banking operations.
Some banks are located in sections where there is only a moderate demand for money, and to invest their funds they must seek other fields ; others are operating under conditions where they require at certain seasons outside paper in order to utilize their funds the year round, and others prudently organize their business so as to maintain at all times a portion of their assets invested in bought paper maturing at regular intervals, thereby providing a fixed income every week to meet the requirements of heavy seasonal borrowing customers. To all these the note-broker renders invaluable help. Conversely, mam־ large corporations and mercantile firms require heavy temporary accommodations at certain seasons. They obtain these funds by selling their paper through note brokers upon the theory that they have large unutilized lines open in the banks with which they carry accounts, and are thus ready at all times to protect their street paper by the shifting of loans if necessary. Single name borrowing through notebrokers has thus become a recognized custom in American banking, and the ultimate buyers rely almost invariably upon the statement of the borrower, as personal acquaintance between the two parties to the transaction is exceedingly rare, and generally information obtained from other sources can be finally sifted down to a common origin. A number of wealthy and able firms employ large capital continuously in buying and afterwards selling the paper of a few firms and corporations whom they have selected after most careful scrutiny and investigation, distributing it throughout the country among paper buying banks,—oftentimes through the medium of several score of salesmen, and by the use of the United States mail, the telegraph and the telephone. The annual volume of commercial paper sold by notebrokers has been estimated at two billion dollars. This is an honorable and legitimate business, requiring and demanding financial and commercial ability of a high order, the sternest integrity, judicious policies and a clear sense of personal responsi-
The paramount problem in American banking is the selection of such loans as will furnish at all events by payment at maturity a continuous cash income as needed to meet fluctuations in deposits and the requirements of other deserving borrowers. A daily battle against steady borrowing is waged eternally in the average well conducted bank.
The inability of our banks, under existing state and federal laws, to exercise helpfully the note issuing function—a function most effective and useful in the banking systems of other civilized nations—multiplies the necessity for, as well as the difficulty of, selecting and acquiring liquid assets. Different banks meet this situation by different policies, usually adapting their methods to local conditions and to the character of the accounts they handle. If all time loans were invariably paid at maturity it would be an easy task to meet the fluctuations in deposits. But this seems generally impracticable with our present commercial usages. Hence, the development in some of the big financial centres of a call loan system based upon securities listed and actively dealt in upon the stock exchange, and so we have become habituated to the custom of loaning to borrowers who do not promise to pay at any definite date, and who can pay when demand is made only by borrowing elsewhere or by selling the securities pledged. Some old-fashioned banks prefer loaning strictly to seasonal borrowers, who automatically liquidate in due course of business and other banks are fortunately located at points where the marketing of the great crops imposes the annual burden of furnishing funds for their movement but eventually brings about a flood tide of liquidation, resulting in a general clean up in all commercial lines at least once a year.
To digress a moment. This annual liquidation is a world old custom in commerce and banking. The great Chinese merchants of the Orient invariably and universally shape their affairs so as to accomplish liquidation at the Chinese New Year and this tradition is religiously observed whatever the sacrifice. If credit can be maintained only by the slaughter of goods, the goods are slaughtered in due time, and obligations wiped out. In the older towns throughout the great farming districts of Pennsylvania, April 1st is settlement day, when all debts are to be paid, and similarly in the South Atlantic and Gulf states there is an unwritten law that the cotton planter must settle his scores with the fertilizer dealer, the merchant and the bank during the cotton movement, say before January 1st. An honest, genuine annual clean up benefits alike both debtor and creditor.
In almost every line of manufacturing and merchandising there is a period of the year when liquidation is natural and appropriate. It is the part of wisdom that the banker shall realize and recognize the existence of this period and shall at that time exact and require liquidation on the part of any single name borrowing customers, who do not clean up loans voluntarily and readily. Habitual overtrading and annual liquidation cannot co-exist. It is the custom as well as the plain duty of every far-sighted bank management to exercise its influence strongly against