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I still believe Andrew Jackson was right when he said if anything here was too complicated for the average individual to act on that the program ought to be left out of the category and abolished.

I still sometimes feel that way about provisions in some of these technical bills; but if you cannot convince the average citizen of America of the need for this bill, cannot present it in terminology which is understandable, then I am going to be one of those who cannot be convinced.

Mr. BURKE. I shall have to assume that responsibility, sir.
Mr. BOREN. All right.

Mr. MAPES, Mr. Chairman?

Mr. COLE. Mr. Mapes.

Mr. MAPES. I was temporarily out of the room when you started your statement. Did you tell us your experience before you went with the Commission?

Mr. BURKE. I shall be very glad to do that, if you wish.

Mr. MAPES. Yes.

Mr. BURKE. I have been a member of the New York Bar for about 12 years. From 1927 until 1933 I was associated with a large finan cial law firm in New York City.

Mr. MAPES. What firm?

Mr. BURKE. Cotton & Franklin. That firm, of course, from time to time represented underwriters of bond issues; issuers of bond issues, and very frequently the indenture trustee under the issue. Mr. MAPES. Did you go with that firm as soon as you came out of school?

Mr. BURKE. Yes, sir. During my last 3 years with that firm I did about one-half of the corporate trust work of a substantial New York bank, with assets of about 650 millions.

Mr. MAPES. What bank was that?

Mr. BURKE. The Chemical Bank & Trust Co., of 165 Broadway. Mr. MAPES. When did you complete your law course?

Mr. BURKE. 1927, sir.

My work for the Chemical covered all phases of trust-indenture practice from the original drafting of the indenture right on through to foreclosure. I passed on any number of indentures under which the Chemical was asked to act as trustee. I followed through on questions coming up in the course of the administration of the trust. Then, in case of default, we had the problem of what to do. In a number of cases we had to follow through with foreclosures.

From 1933 to 1935 I was on the legal staff of the Public Works Administration here in Washington. One of my assignments there was to pass on all trust indentures drafted in the legal division— there must have been at least 40 or 50 of them. P. W. A. bought the bonds, but, just as underwriters do, it hoped to dispose of them to the public, and a great many of them have been sold. In view of that fact, we drafted our own trust indentures and tried to improve them from the point of view of the prospective purchasers. Even at that time we made progress in the direction of prohibitions against conflicting interests and in the direction of the eliminating exculpatory clauses; and we found that responsible trust institutions were willing to accept them.

Mr. MAPES. What is your official connection with the Commission now?

Mr. BURKE. I am now Assistant Director of the Reorganization Division, sir, in charge of corporate reorganization work in the New York regional office of the Commission. That office covers New

York, New Jersey, and Pennsylvania.

Mr. MAPES. You have your office in New York?

Mr. BURKE. Yes, sir.

Mr. MAPES. How big an organization do you have in New York! Mr. BURKE. In my unit we have a dozen lawyers, three or four financial analysts, and 4 or 5 accountants.

Mr. MAPES. You are in charge of the office?

Mr. BURKE. I am in charge of that unit of the New York office, sir. Mr. Chairman, I would like to submit for the record the summary of defects in trust indentures examined by the Commission which Mr. Reece referred to yesterday. There have been some changes since a similar summary was presented for the record last year. You will find in this summary citations to various portions of the Commission's report of Chairman Douglas' studies of protective committees. That report, of course, covered the 400-odd indentures that were examined in connection with that study.

(The summary referred to is as follows:)

SUMMARY OF DEFECTS IN TRUST INDENTURES

In the course of its studies made pursuant to section 211 of the Securities Exchange Act of 1934, the Securities and Exchange Commission examined more than 400 indentures of issuers of all types. There follows a brief summary of the deficiencies found by the Commission to exist in the forms of trust indenture now in common use. Page references are to the various parts of the Commission's report of this study.

(1) Trust indentures frequently fail to provide the trustee with the necessary tools for making an effective check on the performance of even the more important obligations assumed by the obligor in the indenture.

Where property is mortgaged or pledged under the indenture, the first essential is to see that the indenture is properly recorded. Failure to do so may mean disaster for the bondholders. Nevertheless, in 86 percent of the indentures examined there was an express provision to the effect that the trustee was to be under no obligation to see that such recording was effected. (See pt. VI, Trustees Under Indentures, p. 24.)

In many cases it is not only proper but essential that the trustee make some check upon the disposition of the proceeds of the bonds issued under the indenture. The trustee received and disbursed the proceeds in the case of onefourth of the indentures examined by the Commission. In practically none of the remaining indentures was any machinery established for a check by the trustee upon the disposition of the proceeds. (See pt. VI, p. 127.)

It is also essential, in many cases, that proper machinery be established whereby the trustee may make an effective check upon the performance of the conditions precedent to the issuance of additional securities. The failure to make such a check may be definitely prejudicial to the bondholders. (See pt VI, pp. 26-29.)

If the indenture fails to establish adequate restrictions and conditions upon the release and substitution of property mortgaged or pledged under the indenture, the bondholders may find, when trouble arises, that the assets upon which they have relied for security have been whisked away out of their reach (See pt. VI, pp. 16-23.)

(2) Indentures commonly failed to require the obligor to make reasonably informative periodic reports to the trustee. More than one-third of the indentures examined made no provision whatsoever even for annual reports by the obligor. (See pt. VI, p. 125.)

(3) None of the indentures examined contained provisions requiring the obligor to file with the trustee information as to the names and addresses of the bondholders, or provisions requiring the trustee to make such information or the use thereof available to the bondholders themselves. Such provisions are

an essential part of the necessary machinery for the transmission of information to the bondholders, and for the organization of the bondholders for the protection of their own interests.

It is, of course, impracticable for the average bondholder to attempt to enforce his rights by individual action. Some form of concerted action, ordinarily through the formation of a protective committee, is not only advisable it is essential, under the terms of the typical indenture provisions referred to in paragraph 5 below. And access to a list of bondholders is a practical prerequisite to concerted action. (See pt. I, Strategies and Techniques of Protective and Reorganization Committees, pp. 408-457.)

The obligor itself and its investment bankers now have practically complete control over bondholders' lists. (See pt. I, pp. 436-446.) The indenture trustee frequently has no list at all, or only an incomplete one, and, even if it has a list, it is very likely to refuse to make it available to the bondholders except upon court order. (See pt. VI, pp. 130, 131.) Out of a total of 943 protective committees which reported to the Commission, nearly 88 percent obtained their lists of security holders from the underwriters or from the company itself. (See pt. I p. 439.) Under the circumstances it is not at all surprising to find that protective committees are so largely composed of persons connected with either the issuer or its underwriters. (See pt. II, Committees and Conflicts of Interest, pp. 536, 537.)

Control of bondholders' lists has been a major basis for banker-management domination of the reorganization process. Section 311 of the bill, even standing alone, would do much to restore to the bondholders control of their own destinies.

(4) Not a single one of the indentures examined imposed upon the trustee any obligation to notify the bondholders of the occurrence of even the most serious defaults. (See pt. VI, p. 125.) In fact, although the trustee usually learns of a default before the bondholders do, nearly two-thirds of the indentures examined contained the so-called ostrich clause, which permits the trustee to shut its eyes to the existence of a default unless formally notified of it by the holders of a specified percentage of the bonds. (See pt. VI, p. 38.) The practical consequences are illustrated by the case histories which appear at pages 31 to 42 of part VI.

(5) Indentures commonly make inaction the path of least resistance for the trustee, even where action is imperative, first, by absolving the trustee from any duty to act unless it receives notice of default, demand for action, and indemnity, from substantial percentages of the bondholders, and second, by protecting the trustee from liability even for its own negligence.

The trustee was generally given ample power to bring suit to collect the principal of the bonds, and almost invariably it was vested with the exclusive power to enforce the rights under the indenture against the property mortgaged or pledged thereunder. (See pt. VI, pp. 42, 43.) But practically all of the indentures examined absolved the trustee from any duty to act unless the trustee received a demand for action from upward of 25 percent of the bonds, and indemnity against possible expense or liability, notwithstanding the fact that indentures commonly give the trustee a prior lien for such expenses and liability, upon the property mortgaged or pledged under the indenture or upon the proceeds of suit. (See pt. VI, p. 43.) It is understood that the committees of trust institutions regard this lien as affording adequate protection. Further, under most of the indentures examined, even after the necessary demand and indemnity had been received, the trustee retained the power to elect the remedy to be pursued, unless the holders of a majority of the bonds directed it to take a particular type of action. (See pt. VI, pp. 43, 44.) In addition, practically all of the indentures expressly exempted the trustee from liability except for gross negligence or willful misconduct. (See pt. VI, p. 125.)

(6) Finally, trust indentures rarely contained provisions prohibiting the possession by the trustee of interests which materially conflicted with those of the bondholders and not infrequently specifically authorized the trustee to possess such materially conflicting interests.

The foregoing summary is based upon the Commission's examination of more than 400 trust indentures in the course of our studies pursuant to section 211 of the Securities Exchange Act. In addition, the Commission has had occasion to examine a large number of indentures filed with it under the Securities Act, many of them filed after the publication of the part of its report in which those deficiencies were pointed out (June 18, 1936.) The results of that examination clearly show that with a few recent and notable exceptions no substantial

progress has been made in the correction of those deficiencies in the 3 years since that part of its report was published.

The more conscientious trust institutions will use their best efforts to protect and enforce the rights of the bondholders, with he limitations imposed by the deficiencies in the indenture itself, notwithstanding the fact that they could safely refrain from acting. But the traditional view is that the indenture trustee is merely a mechanical, clerical agency. (See pt. VI, pp. 4, 23.) The practical consequences, to the bondholders, of the adoption of such a view are illustrated by the case histories cited in part VI, pages 20-23, 48-61, 68, 69, and 129, and in part I, pages 329–341.

The obligor and its underwriters ordinarily control the lists of bondholders. They therefore are in the best position to galvanize a reluctant trustee into action, and to direct the action to be taken by the trustee. The net effect of the deficiencies referred to is to deprive the bondholders of control of their own destinies, and to vest such control in the underwriters and in the obligor itself. The correction of those deficiencies in the manner provided in the bill would make it possible for the indenture trustee and the bondholders themselves to take whatever action their interests might require, independently of the obligor and the underwriters.

The committees of the trust institutions themselves do not oppose the correction of those deficiencies. Opposition, on the part of the underwriting houses, must in large part be based upon the theory that the bondholder should continue to rely, and to have to rely, almost exclusively on the underwriting house for protection. But if, when trouble arises, the underwriting house has ceased to exist, or if it fails to discharge its moral obligation, or if its Judgment is in error, these deficiencies in the indenture itself constitute a serious handicap to any effort by the bondholders to work out their own salvation.

Mr. MAPES. When were the 400 indentures that the Commission examined written and entered into?

Mr. BURKE. Most of them were executed after 1920. The dates of execution are listed on page 124 of Part VI of the Commission's report.

Mr. MAPES. How many of them were issued since the passage of the Securities and Exchange Act?

Mr. BURKE. I am perfectly willing to accept the statement which I believe was made here at the hearings, that not more than 24 were executed after the enactment of the Securities and Exchange Act. Mr. MAPES. Have you any information as to whether that statement is correct or not?

Mr. BURKE. Well, I would assume that it is correct, sir, because of the fact that the study was conducted during the period from November 1934, through June of 1936.

Mr. MAPES. Assuming that there were 24 executed after the passage of the Securities and Exchange Act, how many of those contained the defects which you think ought to be corrected?

Mr. BURKE. How many of those 24?

Mr. MAPES. Yes.

Mr. BURKE. The summary of defects is not broken down as between the indentures executed before the passage of the 1934 act and those executed afterward.

Mr. MAPES. Does the report indicate whether or not there were any defects in those 24?

Mr. BURKE. The report does not indicate specifically whether those particular 24 indentures contained a particular defect.

DEFECTS PERSIST IN SECURITIES ACT INDENTURES

In that connection, Mr. Mapes, I would like to emphasize a point which I think Mr. Eicher mentioned the other day, that our examina

tion of the six hundred-and-odd trust indentures filed with us under the Securities Act confirms the conclusions reached in Mr. Douglas' report. The defects in the indentures listed in the report are still present in indentures today, notwithstanding the disclosure requirements of the Securities Act.

I do not think anybody will say that he can pick up an indenture executed more than a few months ago and show these defects are not present in that indenture.

Mr. MAPES. Do you propose in your statement to go through some indenture or indentures that have been filed with the Commission and point out to the committee in what respect they are defective?

Mr. BURKE. I have been proposing, sir, to take a recent indenture to which Mr. Eicher also referred, executed by the North American Co., covering the issuance of $80,000,000 debentures. That indenture was executed within the past 2 months. I propose to go through that indenture and show the way in which the defects have been corrected. Mr. MAPES. That is covered by the Public Utility Act, is it not? Mr. BURKE. That is covered by the Public Utility Act. Mr. MAPES. I assume that that complies with the law?

Mr. BURKE. It is approximately 85 percent, or 90 percent a "Cole bill indenture."

Mr. MAPES. You are asking for no change in the filing of indentures, so far as public utilities are concerned; is that correct?

Mr. BURKE. This bill would apply to indentures filed under the Utilities Act also.

Mr. MAPES. You are satisfied with the requirements of the publicutility law so far as filing indentures is concerned?

Mr. BURKE. This bill makes those requirements more specific. From that point of view this bill will be an advantage to the utility companies, and to the Commission as well, for it is easier to administer, and

Mr. MAPES (interposing). Speaking generally, you do not anticipate any radical changes so far as the filing of public-utility indentures is concerned; is that correct?

Mr. BURKE. The North American indenture is the first indenture which makes as close an approach to achieving the objectives of this bill.

Mr. MAPES. As I understand it, you are going to refer to the North American indenture as a model indenture?

Mr. BURKE. That is quite right, sir.

Mr. MAPES. What I was more interested in was whether you are going to refer us to one as a horrible example.

Mr. BURKE. I had not proposed to do that, sir.

Mr. MAPES. Can you suggest one to the committee, so that we could examine one of that nature?

Mr. BURKE. I will be very glad to take any indenture that you would like me to examine, sir, and point out the differences between that indenture and the Cole bill.

Mr. MAPES. As for myself, I am not familiar with them, but I would be glad to have you present an indenture here which you think has got a lot of defects in it. Have you examined, for example, the Firestone Tire & Rubber Co. indenture referred to by one of the witnesses?

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