interest. The investor's control of his own destiny would thus be seriously curtailed. Such provisions seem to proceed on the theory that bankruptcy of his corporate debtor is the best way to serve the investor's welfare.

In the indenture commonly in use, the bondholders control their destiny in practically all respects after default. Section 7 (m) of the bill apparently will preserve only a very limited modicum of such control.

Mr. Brown's fourth and insistent objection before the Senate committee had to do with the degree of responsibility put on the corporate trustee after default under the corporate indenture. He expressed it in this language in his testimony-I am going to add a little bit in this respect. I am well within my time allotment, I think.

This is found on page 123 of the hearings before a subcommittee of the Committee on Banking and Currency, United States Senate, Seventy-fifth Congress, first session, S. 2344.

As to the first-that a responsible corporate trustee shall be named in every indenture I assume from the bill and the Commission's report, and the tenor of the testimony before the committee, that the Commission feels that the only institutions, generally speaking with sufficient capital resources and experience properly to undertake the responsibilities of being corporate trustee are banks of deposit, whether called banks or trust companies, and that it is the expectation that most corporate trustees under indenture conforming to the bill will be banks of deposit. With this I have no quarrel except to point out that the primary duty of a bank of deposit is to its depositors and that it is not good public policy to allow or encourage a bank of deposit to accept contingent liabilities which might possibly exhaust its entire capital resources and put its depositors in jeopardy. The failure of one or two large banks or a number of smaller banks, through liabilities imposed upon them as the result of trust operations, might easily produce another national banking crisis. It seems to me obvious that the entire capital of a bank should not be put at the risk of its trust operations as against its liability to depositors, both commercial and saving.

It is for these two reasons-first, the danger to the banks and banking structure of the country of the imposition of liabilities contemplated by this bill, and, secondly, the danger that trustees, under fear of liability, will force concerns that could otherwise be saved, into bankruptcy or 77B—that I think the provisions of this bill in respect to the liabilities assumed by the trustee should be qualified, and exoneration of the trustee should be greatly liberalized and definitely stated in the bill.

In his letter to Senator Wagner he suggested an amendment in the following language:

As to the trustee:

Reiterating my testimony of last Tuesday, I fear the potential danger to the banking structure contained in the proposal to impose affirmative active duties on the trustee and denying protection to the trustee except on the narrow test of simple negligence. The existing test commonly used of gross negligence may be too broad but by the same token the proposed test of negligence is clearly too narrow; I suggest, therefore, there be added at the end of subsection (j) on page 38 (of the bill then before the Senate) the following language:

"But may contain provisions protecting the trustee from liability for any error of judgment; for any action taken or inaction deliberately suffered (a) at the request of the holders of not less than a majority in principal amount of the indenture securities at the time outstanding or (b) independently of the security holders, in good faith and without negligence; and for any omission in the execution of the trust not the result of bad faith or negligence. Such indenture may also provide that as to claims against the indenture trustee predicated on negligence reasonable doubt in respect thereof shall be resolved in favor of the indenture trustee."

Now, in this respect there has been no change in the proposed bill as I read it since it was before the Senate committee, in the form that

it then was. import is missing. We submit that the provisions relating to the responsibility of trustees, section 7 (j), page 37, far from liberalizing exoneration of the indenture trustee, inferentially increase it by qualifying the exoneration from liability "for any error of judgment made in good faith by a responsible officer or officers of the trustee" with the condition "unless it shall be proved that the trustee was negligent in ascertaining the pertinent facts." There is a clear invitation to charge disastrous consequences of the trustee's action after default to negligence in gathering his facts as the cause of his error in judgment. Incidentally there has never been a liability on a trustee or any one else for a nonnegligent error in judgment, in good faith.

The suggested amendment or some other of equivalent

The prospect of an indenture trustee being held liable for any act on his part, if the results are disastrous, is increased to the danger point, if not almost to the point of certainty, by the provisions of section 7 (i) relating to duties of the trustee in case of default.

I would like to call, Mr. Chairman, your attention to section 7 (i). This subsection reads as follows:

(i) The indenture to be qualified shall contain provisions requiring the identure trustee to exercise in case of default (as such term is defined in the indenture) such of the rights and powers vested in it by the indenture, and to use the same degree of care and skill in their exercise, as a prudent man would exercise under the circumstances if he were a fiduciary and had the degree of skill which the indenture trustee has, or which, at the time of the offering of the indenture securities, the indenture trustee represents itself as having, as indenture trustee, whichever is higher.

It is axiomatic in law that the higher the degree of duty the narrower the margin of nonnegligent conduct. The test of care and skill set forth in section 7 (i) is such that a prudent man might automatically stand convicted of negligence by accepting it. It carries a test far beyond anything that common law ever contemplated and the common law generally reflects fair standards of conduct. In fact its alternative aspects are almost metaphysical in their indefiniteness. Apparently, the nature of a corporate trustee's advertising in respect of his trust functions is to be interpreted by a jury of laymen and, under the instructions of a court, the degree of represented care and skill, on which the negligence or nonnegligence of the trustee is to be determined, is to be fixed by the jury.

Now let us look at the practical side of it. Looking at the proposed duties and responsibilities of the corporate trustee from the viewpoint of practical considerations, the prospect of the corporate trustee being liable for disastrous consequences of any action it may take after default becomes shockingly real. By what token may it be assumed that any corporate trustee has within its four walls the skill and capacity to function without subjecting itself to a charge of negligence under the proposed set-up. The decisions that face an indenture trustee when a corporate debtor is in failing circumstances are extremely delicate and difficult. One of the most difficult functions a trustee under personal trusts faces is the direction of smaller flourishing corporations inherited through stock ownership on the death of the owner, who in his lifetime had supplied the effective management. How much greater the problem of a corporate indenture trustee to have a large corporation in faltering circumstances dropped suddenly into its lap.

Shall the trustee base his conduct on the advice of the existing management or seek advice from other sources, generally competitive with the corporate debtor? Shall outside financial advice be sought and, if so, shall it be from the original house of issue or some competitive house? Shall the company be allowed to continue under the existing management or shall the trustee, being unqualified to do the managing itself, put in new management? Shall a petition in bankruptcy be filed or avoided? If a petition in bankruptcy be filed, what recommendation shall the trustee make to the court, or if it fails to make any recommendation, being uncertain, has it thereby stamped itself as an unskillful trustee? If whatever it does turns out disastrously, can it reasonably expect to escape at least a suit to test its negligence? It should be borne in mind that any bondholder can start a class suit for all the bondholders and that the defense of the suit itself is a costly matter. Incidentally, such expenses and the expense of additional duties placed on the trustee in the proposed bill bids fair to far out-balance any fees for the trustee that private corporate financing has, heretofore at least, commanded. If by chance the trustee is held to have been negligent, and in depression times the chances are that before a jury it will, the bondholder can look to it to pay damages. What those damages are, no one can prophesy.

It will be noted that section 7 (a) requires that at least one of the trustees shall be an institution incorporated under the laws of the United States or of any State or Territory or the District of Columbia authorized to execute trust powers, and that:

(2) If the Commission deems it necessary or appropriate in the public interest or for the protection of investors, in view of the type of indenture, the amount of securities outstanding and thereafter issuable thereunder, the duties and responsibilities imposed thereby on the trustee or trustees, the indenture to be qualified shall require that such institutional trustee have at all times a combined capital and surplus of such specified minimum amount as the Commission deems adequate, having due regard to the public interest and the interests of investors.

And I call your attention to the preamble of this bill on which its interpretation in the courts is predicated. On page 3, I think, reading over from page 1:

SEC. 1 (a). Upon the basis of facts disclosed by the reports of the Securities and Exchange Commission made to the Congress pursuant to section 211 of the Securities Exchange Act of 1934 and otherwise disclosed and ascertained, it is hereby declared that the national public interest and the interest of investors in notes, bonds, debentures, evidences of indebtedness, and certificates of interest or participation therein, which are offered to the public, are adversely affected— And jumping (1), (2), and over to page 3

(3) When the trustee does not have resources commensurate with its responsibilities.

It was considerations such as set forth above in regard to the responsibility of the indenture trustee that led Mr. Brown to testify before the Senate committee as follows:

My purpose today is to address my remarks primarily to the fourth means proposed for protecting the investor, namely, the mandatory imposition of active duties on the trustee, both before and after default, with the prohibition of exoneration clauses such as are now universally found in corporate trust deeds. I assume that the committee clearly realizes that the bill prohibits the freedom of a borrower to contract with prospective investors regarding the duties and obligations which the trustee is to assume, and gives overriding rights to the Commission to write the provisions of the contract if one is to be made. I am not here today to discuss the question as to whether such a policy is in the interest of

the investor or of the public. But I do want to point out that in the bill as drafted the imposition of such active duties on the trustee, both before and after default, imposes very grave liabilities on the trustee, and such liabilities, coupled with the prohibition of adequate exoneration clauses, may cause corporate trustees to suffer losses which, if they are banks of deposit, may threaten their solvency, and with them the integrity of our banking structure and also cause many bankruptcies that would otherwise be avoided.

I shall make no further comments as to the details of the bill although, in passing, I submit that there are many requirements which may be included in indentures in the discretion of the Securities and Exchange Commission, to the extent that the Commission deems them adequate or advisable to protect "the public interest and the interests of investors." Some of them which are specified in general terms, such as the one in section 7 (m) (2) (A) in regard to entry into possession of the trust estate after default, should be analyzed in the light of respective States laws and the propriety of allowing indenture trustees to accept such a responsibility in view of the liabilities entailed under existing State law. It is one thing to enter into possession of an apartment building and quite another to take dominion over a large manufacturing concern. It must be remembered that the laws of the respective States control to a considerable degree the consequences of the trustee's action and if the debtor has plants in different States, what to do about it.

Finally, all human endeavor, be it in industry, politics, or anything else, has its practical aspects and cannot be carried on in a theoretical

vacuum.

So much for this bill from its trustee point of view.

Briefly, in regard to two general aspects of the proposed bill from the point of view of the investor in corporate bonds and the point of view of unsecured bank and trade creditors of the corporate debtor: Practically all of the banks in the country, big and little and regardless of any trust indenture operations, invest considerable portions of their funds in corporate bonds and debentures and, to the extent that under the terms of the indenture any such investor loses control of his own destiny, such as being denied the right to waive a default in principle to help his failing debtor, his interests may suffer. Possibly the alternative prospect of an all-wise trustee or of recovery from the trustee for negligent conduct is proposed as a compensation for the control of the investors surrenders to the trustee.

Speaking for our bank, we would much rather retain control of our own destinies as a bondholder and be in a position to participate with the other bondholders in the control of the conduct of the trustee, who might be located in New York and be directing the destiny of an industry physically located in Chicago, or be located in Chicago and be directing a concern operating in Iowa, the securities of which are held primarily by citizens of Iowa.

The second general aspect of the proposed legislation, aside from the trusteeship features, bears on the consequences to unsecured bank and trade creditors of the defaulting corporation. It may be said with confidence that the last thing an unsecured creditor deems to be to his interest, other things being equal, is to have his debtor propelled into bankruptcy. He will fight and make concessions, if he has the opportunity, to avoid such a result. Such creditors can create mechanics of common action with astonishing speed. The tendency of the proposed bill, plus some proposed amendments in the so-called Chandler

bill, dealing with bankruptcy (H. R. 8046) and the so-called Lea bill, dealing with rights of stockholders and creditors to form protective committees (H. R. 6968), all carry the inevitable tendency of prematurely precipitating the faltering debtor corporation into prolonged bankruptcy, even though practical considerations, if freedom of action were preserved, might dictate and result in a different course. The difference between railroads and utilities, on the one hand, and industrial corporations, on the other, must be clearly recognized. A railroad or utility can jog along indefinitely in bankruptcy proceedings. They are protected in their operations by the very nature of a geographical monopoly which they enjoy. Their customers, to a great extent, have no choice but to continue to do business with them. An industrial corporation is entirely different. It can lose its goodwill, its distribution facilities, and its customers with lamentable rapidity.

In seeking a means to protect investors in a faltering corporation, we should be careful lest predetermined immutable regulations, as to what instruments may be used and how extensively they must be sterilized, doom the patient regardless of the skill and alertness of the surgeons. In the case of an industrial corporation, the corpse will consist of brick, mortar, and machinery, around which the chief mourners will be all classes of investors, bondholders, unsecured creditors, and stockholders alike.

I had, Mr. Chairman and Mr. Boren, something to do with the amendment of the bankruptcy law, 77B. The bankruptcy law was changed with a view to aiding harassed debtors, particularly corporate debtors. It was conceived as an aid to them and consequently an aid and protection to investors in their securities. I submit that these proposed bills involve a reversal of that policy.

In conclusion, speaking for a bank which was organized in 1863, under charter No. 8 of the National Bank System, and which through the 75 years of its existence has been an integral part of the industrial growth of the Middle West, we renew our alternative plea: First, that the subject of the reform of indenture trustee practice and procedure receive extensive exploration by your Committee before any particular theories are crystallized into law, and secondly, if the proposed legislation, or the bill as it is, is to be passed, that the three suggested amendments referred to in our letter to the Senate committee, more particularly the one with regard to responsibility and exoneration of trustees, be adopted. I say untimely, because, regardless of the skill and diligence of the Commission, the mechanics of passing on individual indentures will in my opinion, entail delay and discouragement in private industrial financing.

I have just two final comments. Under this bill, so far as our bank is concerned, our concern would be that, if we should accept trusteeships under it, we would not be able to protect the interests of the investors as well as we have in the past, a record of which we are proud.

As to what banks in this country have positively approved this bill, as distinguished from not opposing it, I do not know. Mr. Douglas has introduced a letter, which he was kind enough to show me after the hearings this morning, from Mr. Blaine B. Coles, who was president of the Trust Division of the American Bankers Association during the time this bill was under consideration, who stated