Rockefeller's Use of Market Power to Eliminate Investment Risk
Long before the secret dealings and illegal activity headlining the business world today, John D. Rockefeller used foresight and market power to amass millions of dollars in wealth during the late 1800’s through the beginning of the 20th century. However, unlike today’s scandals, the government and the public were both suspicious of Rockefeller’s activities for years as his profit increased. The power Rockefeller developed through his company, Standard Oil, is likely a basis for the regulations which today maintain trust in our financial markets and provide opportunity for many citizens. Rockefeller went from making $400 in his first year of work as a clerk in a merchant firm’s office to a few years later co-managing his own commodities trading company that made $17,000 in a year. (Flynn 424-425). He knew that growth and expansion were keys to profit, and Rockefeller was looking for new ventures, demonstrating a preference for risk. Thus, he decided to buyout his partner in the vegetable merchant business and pursue oil. As it is today, capital was the backbone to the pursuit of new business ideas. Rockefeller partnered with Samuel Andrews who would be able to provide capital to fund the endeavor. (Flynn 426) At the time, financial markets were not as large and did not provide as much liquidity as they do today, so partnership was a popular way to raise funds. As the oil boom grew, Rockefeller had well positioned himself as a key player. He incorporated his firm as the Standard Oil Company in 1870. He invested approximately one million dollars in the business and had leveraged it in part with bank loans up to $350,000. (Flynn 429) Investment banking at this time existed primarily to provide capital for state and federal and needs, but securities began to emerge in the US when railroad stocks were sold. The difficulty was encountered when funds were needed for a new venture, which was what Rockefeller mostly sought. Investors tend to be risk-averse, yet seek returns. Rockefeller’s key to success and secured funding was through the minimization of risk that he achieved through market power. Similar to Schumpeter’s theories that capital should be organized and redistributed in such a way to maximize efficiency, Rockefeller recognized that by buying out small firms he could gain market power and maximize his firm’s profits. It was through this effort that Rockefeller and his partners became involved in dark activity. “First came the general spread of the idea of controlling prices, production, and such, by association… The second phase was the cartel system… Rockefeller would attempt to take into his company the leading refiners of Cleveland; to buy out the balance, and to crush those who refused to surrender.” (Flynn 441) It was brutal business. Rockefeller used his power to land agreements with companies that provided services which would impact his profits (oil shippers, extractors, etc). One of the main tactics he used was arranging for “rebates” from the railroad shipping companies. The rebates were pure price discrimination. For example, “in March, 1879, [Standard Oil Company] shipped 18,556,000 barrels of oil on which it got an average rebate of over fifty-five cents, amount to something over $10,000,000.” (Flynn 444) Though Rockefeller argued that this was a quantity discount, it was such a discount not open to any of his competitors. In fact, Rockefeller had garnered so much market power that railroads “paid rebates on competitor shipments but the rebate went to Rockefeller and not to the shipper.” (Flynn 445). Although Rockefeller had a great mind and was always thinking ahead, he abused the economy and returns to scale. As the abuse heightened, it was no wonder Rockefeller’s corporation could easily find investors. The virtual monopoly created a high return, low risk investment; an ideal opportunity. Rockefeller did not need to use questionable accounting practices to inflate his company’s value. Shares of Standard Oil “formed the subject of no market operations.” (Flynn 448) Instead, he took advantage of the economy to become such a large player that he was even able to buyout the state and federal governments when the People pressured politicians to investigate Standard Oil’s near-monopoly. It was virtually a laughing matter for individuals involved with Standard Oil. “When a Standard [Oil] official wrote Rockefeller from Annapolis that he had arranged ‘to kill the two bills in the Maryland legislature at comparatively small expense,’ he was only putting on paper what everyone knew.” (Carr 53) The dark deals continued until 1911(even after Rockefeller had stepped down from overseeing operations) when the Supreme Court ordered Standard Oil be broken down into 39 companies. But, at this point, Standard Oil had already achieved a virtual monopoly and gained immense power; Standard Oil controlled over 90% of US oil production and pricing. (http://www.financialhistory.org/rock-timeline.html). When Rockefeller withdrew from overseeing the day-to-day operations of Standard Oil in 1896, it was estimated that he as an individual was worth $200,000,000 – in the 19th century! (Flynn 449). Rockefeller had built his wealth ingeniously during a time when the financial markets and government regulations were much less evolved that they are today. He knew how to use his power to gain the attention of financiers and partners. While he initially exposed himself to a high degree of risk, as his company grew, his risk was nearly insignificant, yet the returns were immense. It is no doubt that the practices employed by Rockefeller were catalysts for changes in laws and operations of financial markets that we see today. Although there are still a relatively small number of very wealthy individuals in society, the present-day regulation of financial markets and corporations provides a greater chance at free enterprise and opportunity for many citizens to enjoy financial success. The financial markets today serve us all directly.
REFERENCED: 1. Carr, Albert. "John D. Rockefeller's Secret Weapon". McGraw-Hill. New York, 1962. 2. Flynn, John T. "Men of Wealth". Simon and Schuster. New York, 1941. 3. Lathman, Earl, ed. "John D. Rockefeller: Robber Baron of Industrial Statesman?". D.C. Heath and Company. Boston, 1949. 4. Manchester, William. "A Rockefeller Family Portrait". Little, Brown and Company. Boston, 1959. 5. Morris, Joe Alex. "Those Rockefeller Brothers". Harper & Brothers. New York, 1953. 6. "Museum of American Financial History". (http://www.financialhistory.org/rock-timeline.html) 02-Oct-2002