... the Commission shall permit a declaration regarding the issue or sale of a security to become effective unless the Commission finds that ... financing by the issue and sale of the particular security is not necessary or appropriate to the economical and efficient operation of a business in which the applicant lawfully is engaged or has an interest. It was under this section that a majority of the Commission made its adverse findings in the Consumers Power Company case as to the issuance and sale of $10,000,000 of bonds which increased the corporate debt in that amount." Since we have found that the applicant meets the statutory requisites for exemption under Section 6 (b), our next problem is to determine whether any of the circumstances of this case require us to impose, in accordance with the provisions of Section 6 (b), "such terms and conditions" as appear "appropriate in the public interest or for the protection of investors and consumers." CAPITALIZATION The capitalization (including surplus) of the applicant as of October 31, 1939, before and after giving effect to the proposed financing, is as follows: It will be noted that the proposed financing will increase the proportion of debt to total capitalization from 48.2 to 54.6 percent and will increase the proportion of debt and preferred to total capitalization from 71.7 to 75.2 percent. Conversely, the ratio of common stock and surplus will be decreased from 28.2 percent to 24.8 percent. In that case, the Commission permitted the issuance and sale of $18,594,000 of bonds for refunding, at a lower rate of interest, of outstanding debt. FIXED ASSETS The book value of the applicant's fixed assets at October 31, 1939, was $51,040,454. The reserve for retirements was stated at $8,245,779, leaving net property of $42,794,675. The presently outstanding debt of the applicant is equivalent to 40.1 percent of gross property and to 47.8 percent of net property. After the proposed financing, these ratios would be increased to 46.6 and 54.5 percent, assuming that all the new money of approximately $5,717,000 were expended for new property. The financing will also result in an increase of the ratio of debt and preferred to net property from 71.2 to 75.2 percent." The second supplemental indenture dated January 1, 1940, under which the proposed bonds are to be issued provides that the applicant shall pay annually to the trustee as a sinking fund a sum in cash equal to 12 percent of the greatest principal amount of bonds of the series due 1970 which shall have been authenticated less the amount of bonds canceled other than through the operation of the sinking fund for the acquisition (and subsequent retirement) of such bonds at the lowest prices at which the bonds can be obtained but not to exceed the redemption price. This sinking fund will result in an annual reduction of the proposed $25,000,000 issue by a minimum of approximately $350,000 to $375,000 a year or a total minimum reduction at the maturity of the bonds in 1970 of from 40 to 45 percent of the entire issue of $25,000,000. Moreover, under the applicant's original indenture with the Irving Trust Company and the two supplemental indentures thereto, further additional bonds against equal additions to property can only be issued up to $899,000; thereafter additional bonds can be issued only to the extent of 66% percent of the cost or fair value (whichever is less) of property additions after first deducting retirements. This provision, together with the annual retirement of existing debt through the operations of the sinking fund, appears substantially to minimize the possibility that the present financing is a step in a process of constantly increasing the proportion of debt to total capitalization and property. In fact, the applicant's officers testified that it was 'As more fully explained in our previous opinion In the matter of The Dayton Power and Light Company, 3 S. E. C. 1098 (1938), the applicant estimates that the original cost of its properties (cost to the person first devoting the property to public service) is about $2,000,000 less than their book value. If the property account were adjusted to estimated original cost, the ratios of debt to gross and net property after the proposed financing would be 48 and 56.5 percent, respectively, and the ratio of debt and preferred stock to net property would be 77.9 percent. 'The applicant has a similar sinking fund provision in the first supplemental indenture under which the presently outstanding $1,457,000 first and refunding mortgage bonds, 34% series due 1962, were issued. anticipated that future needs for additional funds will be satisfied principally through common stock financing. RESERVE FOR RETIREMENTS The reserve for retirements at October 31, 1939, was equivalent to 16.5 percent of the total property account after deducting therefrom $1,091,256 of construction work in progress, and to 16.8 percent of depreciable property (excluding land). According to a memorandum segregation of the reserve account, the portion applicable to electric property amounts to 12.4 percent of depreciable electric property; the portion applicable to gas property is equal to 31.6 percent of depreciable gas property; and the reserve applicable to other utility property equals 21.6 percent of depreciable other utility property. The reserve applicable to electric property will be reduced substantially in the near future, as it is estimated that the current construction program will involve retirements of $871,645 from electric property. If this full amount were deducted from the reserve and property accounts at October 31, 1939, the reserve for electric property would be equal to only 10.2 percent of the electric depreciable property account. A representative of the company testified that although the reserve is, in his opinion, adequate to meet retirements, it is not as much as it would be had the company operated on a straight-line depreciation policy based on expected service life of the property." The company has agreed that in order to avoid any question as to possible inadequacy of this reserve, it will pay no dividends on its common stock by a charge to its earned surplus prior to January 1, 1938, except upon application to and approval by order of this Commission. Such surplus, amounting to $3,102,596, as of October 31, 1939, is already unavailable to the parent company, Columbia Gas & Electric Corporation, as income. See In the matter of Columbia Gas & Electric Corporation, 4 S. E. C. 406 (1939). The applicant's earned surplus since December 31, 1937, is not affected by this condition. EARNINGS The following tabulation shows the earnings available to each of the applicant's three classes of security holders for 1938, 12 months The accrual to the reserve for electric property is equal to 2 mills per kilowatt-hour sold. Expressed as a percentage of the electric property account at the end of the year, the accruals to the reserve for electric property in the last 4 years have been as follows: ended October 31, 1939, and pro forma for the latter period, giving effect to the proposed financing: • Adjusted for the effect of financing on federal income taxes. UNDERWRITING SPREAD As noted heretofore, the proposed issue will be offered to the public at a price of 104, with a spread of 134 points, or underwriting discounts or commissions totaling $437,500. Of the spread of 13⁄4 points, Morgan Stanley & Co., Incorporated, is to receive one-fourth of a point for services as syndicate manager; underwriters will receive seven-eighths of a point for wholesale sales and five-eighths of a point will be received by the retail dealers. The total fees to be received by Morgan Stanley & Co., Incorporated, assuming a successful placement, aggregate $138,625. Under Article II of the underwriting agreement between Morgan Stanley & Co., Incorporated, and the other underwriters, Morgan Stanley & Co., Incorporated, is authorized, with respect to the bonds which the underwriters purchase from the company, to reserve for sale and to sell on their behalf any or all of such bonds to dealers in such amounts as Morgan Stanley & Co., Incorporated, in its discretion shall determine. According to the record, $10,550,000 will be reserved by Morgan Stanley & Co., Incorporated, to the other underwriters for their own distribution at retail. Pursuant to the general policy of that firm, Morgan Stanley & Co., Incorporated, reserves no bonds for its own distribution. It will, therefore, contribute its total underwriting commitments of $4,350,000 for sale to dealers. Thus, of the total of $14,450,000 to be offered to dealers, $4,350,000 is involved in the affiliation proceeding under Rule U-12F-2 have been determined. The Commission ought not to permit itself to be jockeyed, under the goad of a "deadline," into deciding a single case in a piecemeal fashion. Our views on this question are stated in the Consumers Power case and there is no need to restate them here. But the situation before us is peculiarly aggravated. Ten months ago, in April of 1939, Dayton Power and Morgan Stanley were put on notice that their relationship would have to be scrutinized in the light of minimum standards set up by our rule. Notwithstanding that notice they refrained from requesting such a hearing, although had such action been taken there would have been ample time for disposition of the issues. To accept another impounding offer, without protest, under these circumstances, is to put a premium on flouting the requirements of our rule and the objectives of the Act. On the merits, we agree that the applicable statutory provisions require us to exempt this issue. But the circumstances surrounding the issue are curious indeed. The amount of new money involved is not large, and could readily have been raised in other ways. As a matter of fact, the record indicates that when the company approached the bankers, it was considering the issuance of common stock or bonds in an amount sufficient to raise such new money as might be needed. It was the bankers who countered with the suggestion that the new money be raised by bonds and that all of the outstanding bonds be refunded. To be sure, the company will get cheap money, money which costs only 2.9 percent, but in order to obtain this cheap money the company is required to pay substantial call premiums of $855,675, and estimated expenses of $125,625. The net result is that Morgan Stanley gets $138.625; the other underwriters, together with the dealers, get $298,875; the company gets a maturity extended from 1960 to 1970, and effects a maximum annual saving of $48,000; and present investors are deprived of $95,075 per annum. In addition, present investors are put to the trouble and expense of obtaining payment of their old bonds and reinvesting in new. Whether this refunding was undertaken simply because the bankers controlled the financing, remains, however, to be seen. In our view, the revised underwriting terms, as compared with the fees and commissions in the Consumers Power case, far from evidencing some unexpected generosity tend rather to demonstrate that the present haphazard mechanism of private negotiation with a favorite underwriter is unfair to the company and inimical to the interests we have been directed to protect. In the Consumers Power case we were earnestly assured that the two-point spread and the 3 management fee were entirely justified and proper, especially in view of the favorable price for the securities. Here, by the same stand |