The Other Half of Standard Oil
From the Magazine: Wednesday, October 29, 2008
John D. Rockefeller could not have built his empire without one of America’s greatest entrepreneurs, Henry Flagler.
In all of American industrial history, perhaps only Henry Ford is more closely identified with the company he founded than is John D. Rockefeller.
In the 1860s, Rockefeller was just one of many entrepreneurs seeking to exploit the possibilities opened up by the brand-new technology of drilling for oil. No one outside the aborning industry had ever heard of him. But by 1880, Rockefeller’s Standard Oil controlled 80 percent of the by-then vastly larger American oil refining business. In 1902 Ida Tarbell began serializing “The History of the Standard Oil Company” in McClure’s Magazine. She very deliberately made Rockefeller the personification of the company. The book, published in 1904, was a phenomenal best seller and, while highly tendentious, extremely influential.
By the time Standard Oil was ordered broken up by the Supreme Court in 1911, to most people, Standard Oil and John D. Rockefeller were one and the same. And by that time, of course, Rockefeller was the richest man in the world, with a net worth that exceeded the U.S. national debt.
But Standard Oil was never a one-man operation even in its earliest days. Soon after entering the oil business fulltime, Rockefeller had taken on as partner an Englishman named Samuel Andrews. A gifted chemist and mechanic, Andrews made numerous important improvements in refining methods. If the Rockefeller refineries were more efficient than others, Samuel Andrews was the reason.
Later, Standard Oil often acquired other refineries and, if it was interested in bringing the management into the Standard Oil operation, would offer them a very good deal. Such major figures in Standard Oil history as Charles Pratt, Henry H. Rogers, and John D. Archbold joined the company in this way.
But there was a figure far more important to the history of Standard Oil than Andrews, who took no part in the management of the enterprise, or the later major figures who managed it superbly. This was Henry M. Flagler.
Rockefeller and Flagler were so close in the early days that they functioned virtually as a single entity as they designed and executed the strategy that allowed Standard Oil to dominate the oil industry. Astonishingly, Flagler would go on to a second triumph on his own, turning the state of Florida from a subtropical wilderness into a tourist mecca and agricultural powerhouse. Few entrepreneurs in the history of capitalism accomplished as much as Henry Flagler.
How important to the story of Standard Oil is he? Well, consider this. In later years, a reporter asked John D. Rockefeller whose idea it had been to transform the partnership of Rockefeller, Andrews, and Flagler into the corporation called Standard Oil.
“I wish I’d had the brains to think of it,” Rockefeller replied. “It was Henry M. Flagler.”
Like Rockefeller, Flagler was born in upstate New York, just as the new Erie Canal was transforming what had been a semi-frontier into an area of quickly growing prosperity. Nine years older than Rockefeller, Flagler was born in 1830. His father was an itinerant Presbyterian minister who spent his whole life on the edge of poverty. In an age when early death was still common, both of his parents had been married twice before and, indeed, Flagler had been named for his mother’s first husband, Henry Morrison. She had had a son, Daniel Harkness, by her second husband, eight years older than Henry. Flagler’s father had had two daughters by his first wife and one by his second.
After completing the eighth grade, a fairly good education by the standards of the mid-19th century, Flagler decided to leave home and seek his fortune in Ohio, where his half-brother Dan was living with his Harkness relatives. He walked the nine miles to the Erie Canal and caught a freight boat, working with the crew in lieu of paying a fare. He took a boat from Buffalo to Sandusky, Ohio, and walked the 30 miles to the town of Republic, where Dan was living. He arrived with only a carpet bag of clothes, nine cents, and a French five-franc piece that he would keep the rest of his life.
Asked whose idea it had been to transform the partnership into the corporation called Standard Oil, John D. Rockefeller said, ‘I wish I’d had the brains to think of it. It was Henry M. Flagler.’
Flagler quickly got a job in a store owned by Daniel’s uncle, Lamon Harkness, earning five dollars a month plus room and board. He soon showed a gift for salesmanship and for making friends. By the time he was 19, Flagler was working for Chapman and Harkness, which owned the store he had started in, and earning $400 a year in salary. Chapman and Harkness, besides owning a chain of retail stores, was also involved in the wholesale grain and liquor business. Ohio was then the center of the American grain belt, and Flagler quickly mastered the business and was made a partner in the firm.
In 1853 he married Lamon Harkness’s daughter Mary. Together they made an impressive couple. Although in frail health, Mary had a dark-haired, dark-eyed beauty. He was tall, strikingly handsome, and with eyes the rarest of colors, a deep lavender blue.
The early 1850s were a very prosperous time in the United States, thanks in part to the California gold strike, and Flagler flourished. His network of connections in the wholesale grain business expanded rapidly. One of the most important of these was Stephen V. Harkness, Mary’s first cousin (and his half-brother Dan’s older half-brother).
By the beginning of the Civil War, Flagler, still only 31, had two daughters, a large, comfortable house in Bellevue, Ohio, and about $50,000 in capital, a moderate fortune by the standards of the mid-19th century. But he was getting bored with the wholesale grain and liquor trade, which was a mature business, routine and unexciting. Flagler would always be happiest creating a new business, not merely running a successful one.
The war, with its wholly unprecedented demands for materiel and equipment, produced an enormous boom. And the army’s need for salt to preserve food caused demand for that commodity to soar. Salt mines had recently been discovered near Saginaw, Michigan, and the state encouraged their development by making them tax free and offering a bounty of 10 cents a bushel.
Flagler and his brother-in-law, Barney York, invested $50,000 each in a salt property and moved to Saginaw. Competition was intense and they had to learn the salt business from scratch. They made money while the war was on, but with its end, the boom in salt ended too. Flagler’s company went broke and he ended up being $50,000 in the hole, a sum he had to borrow from his father-in-law. He moved back to Bellevue, but instead of living in a large house, he and his family rented rooms in a boarding house.
Flagler soon went to Cleveland and got a job as a grain commission merchant with the firm of Maurice Clark (a former partner of John D. Rockefeller), with which he had dealt before the war. Unlike the salt business, Flagler knew the grain business backwards and forwards and with his gifts as a salesman was soon prospering once again. He paid back his father-in-law and moved his family to Cleveland. Before long he was living on Euclid Avenue, Cleveland’s most fashionable street, near Rockefeller’s house, and the two would often walk to and from work together, discussing the grain and oil businesses.
Edwin Drake had successfully drilled for oil in northwest Pennsylvania in 1859, showing that a substance that had previously been skimmed from ponds and brooks and used for patent medicine could be obtained in huge amounts. This made possible oil’s use as a cheap lubricant and, distilled into kerosene, as fuel for lamps, replacing ever more expensive whale oil. By the end of the Civil War, Rockefeller and Samuel Andrews were running the largest and most profitable oil refining business in Cleveland.
Rockefeller, expanding relentlessly, needed more capital and he approached Stephen Harkness, by this time one of the richest men in Ohio. Harkness was happy to invest $100,000 but wanted someone in the firm he could rely on to watch his interests. So he asked Rockefeller to take on Henry Flagler as a partner. Rockefeller was more than happy to do so, and in fact had already asked Flagler to join the firm, renamed Rockefeller, Andrews, and Flagler.
Rockefeller and Flagler were so close that they functioned virtually as a single entity as they designed and executed the strategy that allowed Standard Oil to dominate the oil industry.
Soon the two were sharing an office, their desks facing each other, as intimate as any two business partners have ever been. Besides discussing everything as they walked to and from their houses on Euclid Avenue, they would routinely pass drafts of documents back and forth between them until each was satisfied.
Rockefeller noted that Flagler had a remarkable ability to express clearly the intent of a document and the obligations of both sides in a contract. “Some lawyers,” Rockefeller wrote, “might sit at his feet and learn things about drawing contracts good for them to know.”
Besides being close partners, they also became intimate friends. “It was,” wrote Rockefeller years later, “a friendship founded on business, which Mr. Flagler used to say was a good deal better than a business founded on friendship.”
The oil business was nothing if not volatile in its first ten years. Northwest Pennsylvania, the only oil field in the world until the 1880s, was a wild and lawless place, much as the California gold fields had been in the 1850s. Worse from the standpoint of Rockefeller and his new partner, the price of oil fluctuated wildly, reaching as low in the 1860s as 10 cents a barrel and reaching as high as $13.25, as annual production rose from 2,000 barrels in 1859 to 4,250,000 in 1869.
Meanwhile, oil refining was a deeply fragmented business. Cleveland alone had more than 30 refineries. Most of these were ramshackle affairs. Many people were unwilling to invest more capital in the oil business than absolutely necessary, afraid that the oil would cease to flow in Pennsylvania and they would be out of luck.
Rockefeller was a superb supervisor of operations, with a keen eye for waste and inefficiency. As his biographer Ron Chernow notes, he anticipated in many ways the famous efficiency studies of Frederick Winslow Taylor. He would keep a red notebook with him at all times, and his managers soon learned to dread when he pulled it out and jotted down ideas that they would have to follow up on.
In one case he was inspecting a plant in New York City that manufactured five-gallon cans of kerosene for export to Europe. He noted that the can lids were applied with 40 drops of solder and asked the manager if he had ever tried using only 38. A small percentage of cans leaked with 38 drops, but none did with 39, which became the new standard. Rockefeller noted that that one drop per can saved the plant $2,500 the first year. Applied throughout the Standard Oil empire over the years, it saved, as Rockefeller noted happily, “many hundreds of thousands of dollars.”
If Rockefeller always paid close attention to the nuts and bolts, Flagler was more of a big-picture man. He made four fundamental contributions to the strategy that turned the Cleveland partnership of Rockefeller, Andrews, and Flagler into the globe-girdling Standard Oil Corporation.
First, as we have seen, it was Flagler who convinced Rockefeller to incorporate and, indeed, he who wrote the act of incorporation despite not even being a lawyer. Being incorporated made it much easier to finance expansion without losing control of the company. The company was, at first, capitalized at $1 million, with 10,000 shares, each with a par value of $100. Rockefeller received 2,667 shares, Flagler and Andrews 1,333 each. The rest were held by Stephen Harkness, William Rockefeller (John’s younger brother), and a new investor named Oliver B. Jennings, who was William Rockefeller’s brother-in-law. The old partnership of Rockefeller, Andrews, and Flagler retained 1,000 shares.
To ensure that the interests of the stockholders would always be paramount, none of the stockholders in the company management received a salary, only the dividends from the stock. This, as it turned out, was not much of a sacrifice. In the first year, Standard Oil paid out $105 per share in dividends.
It would not be an exaggeration to say that no individual ever had as much influence on the history of a single state as Flagler had on Florida.
Second, Flagler, unlike the owners of Standard Oil’s competitors, insisted on building only state-of-the-art refineries. This was a brave financial decision but it made them the low-cost producers with all the advantages of that position.
Third, Flagler convinced Rockefeller, who needed very little convincing, to aggressively buy up their smaller competitors. This would give them increased market influence over the volatile price of oil and control of the Cleveland oil market. He devised a formula to arrive at a fair evaluation of their worth.
Fourth, Flagler realized that there was no controlling the price of crude oil, which then, just as now, fluctuated over a broad range. Demand tended to rise steadily, but supply rose in fits and starts. The reason is simple enough. Drilling for oil and exploring for new fields are always a very expensive gamble, with many dry holes. So drilling and exploration increase only when prices are high (as they are now: every offshore drilling rig in existence is engaged in exploration). But this causes the new wells and new fields to come on line in a rush, knocking the price back down as supply suddenly increases dramatically. This was as true in 1870, when the world’s annual production was less than five million barrels, as it is today, with annual production reaching 30 billion barrels.
But the price of transportation, Flagler knew, could be controlled or at least influenced, and transportation was the largest cost component of a barrel of refined oil, after the crude itself. Here Cleveland refiners had a distinct advantage over their rivals in Pittsburgh, the other center of oil refining. For while Pittsburgh was considerably closer to the oil fields, it was served only by the mighty Pennsylvania Railroad, which had no hesitation whatever to use its transportation monopoly to extract high prices. Cleveland was served not only by the Pennsylvania but also by the Erie and the Lake Shore railroads, the latter controlled by Commodore Vanderbilt’s New York Central after 1869. And Cleveland refineries in the summer months could also ship oil by boat through the Erie Canal to New York.
Flagler and Rockefeller would play the railroads like a fiddle. They not only negotiated secret rebates for their own shipments, but also were able to extract a rebate on the shipments of other refiners. In effect, their competitors, unknowingly, were paying a tax to Standard Oil in order to ship their own products.
(None of this, of course, was illegal in any way at the time. In the post–Civil War era, the United States was rapidly evolving from an economy based on agriculture and small, largely family-held enterprises to a modern industrial state with corporations employing tens of thousands. It had not yet learned what rules were necessary in the new economic conditions to assure a stable, competitive marketplace. Indeed, it can be argued that the capitalists of that era helped mightily to show what rules were needed.)
This gave Rockefeller and Flagler a formidable advantage in seeking to become the dominant company in the oil refining business. Using Flagler’s formula, they would make an offer to a rival they wanted to acquire and the rival had, in effect, three choices. It could accept the offer and take cash, accept it and take Standard Oil stock, or face ruin because of high transportation costs.
Flagler and Rockefeller always paid a fair price—or at least what they thought was a fair price. And as the great historian Allen Nevins pointed out in his book on Rockefeller, the prices that Standard Oil paid to acquire its monopoly in the 1870s and ’80s were often more generous than were the prices the Roosevelt administration paid to assemble the monopoly called the Tennessee Valley Authority in the 1930s. And, of course, those who chose to take Standard Oil stock had no complaints whatever.
As Standard expanded exponentially it found itself facing ever more of a problem with Ohio’s state incorporation law. As in all other states at that time, the law forbade corporations from owning stock in another company or property in another state. Those restrictions had not been much of a problem when the laws had been originally passed in the early and mid-19th century. But as railroads and then the telegraph increasingly unified the United States into a gigantic common market, and companies grew to supply this new, national market, these laws less and less reflected economic reality.
As electricity began to displace kerosene for lighting, Flagler pushed for Standard Oil to begin aggressively marketing gasoline as a fuel for automobiles.
Standard Oil soon had subsidiaries all over the country and, in order to comply with the law, Flagler, as secretary of the corporation, would name himself trustee to hold the stock of the subsidiaries for the benefit of the stockholders of Standard Oil. But by the end of the 1870s, there were many people acting as trustees for subsidiaries and this became increasingly unwieldy.
Again it was Flagler who, in all likelihood, found the solution. Instead of each subsidiary having its own trustee, with these trustees scattered through the ever-expanding Standard Oil empire, in 1879 three men whom today we would call “middle managers” were appointed trustees for all the subsidiaries. In theory, these three controlled all Standard Oil property outside of Ohio. In fact, of course, they did exactly what they were told. This was the beginning of the trust form of organization, a term that has echoed down American economic history ever since.
In 1882, a very talented lawyer named Samuel C. T. Dodd refined the system. He and Flagler drafted a new Standard Oil trust agreement that set up separate corporations in each state with major properties belonging to Standard Oil. Each had its own board of directors, but the stock of the various corporations was all in the hands of the trustees, who issued “certificates of interest” to the stockholders of Standard Oil of Ohio so that they would receive the dividends.
In 1892, the Ohio Supreme Court ruled that the trust was contrary to Ohio law and had to be dissolved. But in 1889, New Jersey had passed the first modern incorporation law, allowing corporations to hold stock in other corporations and property wherever located. So when a reporter asked Dodd about the decision, he replied, “The only effect will be to inconvenience us a little.” Standard Oil (New Jersey) simply took over as the dominant corporation in the Standard Oil empire, and Standard Oil’s grip on the oil industry was in no way disrupted.
As other states began to adopt the New Jersey model for incorporation law, the need for a trust form of organization for multistate companies faded. Indeed it lasted little more than ten years. So-called antitrust laws, however, are very much with us still, although they are much less used today as an instrument of government policy than earlier.
By 1892, both Flagler and Rockefeller were becoming much less involved in the day-to-day operations of the company they had created and guided to greatness, although Flagler would later make one more major contribution to the company. As electricity began to displace kerosene for lighting, Flagler pushed for Standard Oil to aggressively market gasoline as a fuel for the new automobiles that were increasingly seen on American streets and highways. Demand for gasoline soon came to dwarf the demand for kerosene. Rockefeller would increasingly devote much of the rest of his very long life (he lived to be 97) to his vast eleemosynary activities that would associate the Rockefeller name as much with good works as it had been associated with wealth and aggressive business practices.
Flagler took a different approach. He was a private man with no interest in having his name publicly associated with good works. But he was also a very generous man. When many Florida farmers were threatened with disaster after a severe freeze, Flagler wrote to a local minister and told him, “Find any and every case of real need where a chance to start again will be appreciated and see that they have that chance. The only condition I impose is that they do not know the gift comes from Henry M. Flagler.”
Always bored with routine management and now rich beyond counting, with millions more pouring into his coffers every year, Flagler decided to conquer a new world, the state of Florida, then largely uninhabited south of Jacksonville.
Flagler’s wife had been an invalid for most of her marriage, having contracted tuberculosis. In 1879, Flagler had taken her to Jacksonville for the winter but there was little to do in the town of only 7,000 people. And except for Jacksonville and Key West, there were no towns of any size in all of peninsular Florida, which was mostly swamp, scrub, and saw–grass marsh.
Flagler was a private man with no interest in having his name associated with good works. But he was also a very generous man.
Flagler couldn’t take the boredom and returned to New York, where he was by then living, after Standard Oil moved its headquarters there in 1878. He urged Mary to stay, but she refused to be alone. Within a year or two she was too weak to travel and died, aged only 47, in May 1881. Flagler felt terribly guilty, thinking he had sacrificed Mary on the altar of Standard Oil. Undoubtedly she would have died no matter how much personal attention he paid her.
It is possible that the guilt he felt over Mary’s death sparked his interest in Florida. If only the state had had more to offer by way of amusements, he may have thought, she would have been willing to stay there. In the winter of 1882–83 Flagler was hospitalized with a liver ailment and he read a great deal about Florida. He learned that the state was selling land cheaply in order to stimulate the economy. A Philadelphian had recently purchased 4 million acres (an area considerably larger than Connecticut) for only $1 million and was planning to drain it and plant sugarcane, fruits, and vegetables. Railroad mileage was rapidly increasing. A small but elegant hotel had been built in St. Augustine to cater to well-heeled vacationers.
Flagler sensed a waking giant. He decided to build a luxury hotel in St. Augustine with 540 rooms. As always, he built the best, hiring the architectural firm of Carrère and Hastings, which would later build the New York Public Library. The hotel was an immediate success, although it took a while to become profitable.
Flagler had recognized the importance of transportation to the oil business and now recognized its importance to the development of Florida. He purchased a small narrow-gauge railroad that ran between Jacksonville and St. Augustine, converted it to the standard gauge, and built a bridge over the St. Johns River to connect it to railroads further north.
He began extending his railroad southwards and soon reached as far as Daytona. As he entered a new area Flagler would build or rebuild hotels and other tourist facilities. By 1890 it was possible to board a Pullman car in New York and get to Daytona in just 36 hours. Florida, a semitropical jungle ten years earlier, was now the country’s leading winter resort.
The following year, Flagler, now 61, conceived the idea of extending his railroad not only to south Florida but all the way to Key West, then still the state’s largest city. Building a railroad across 150 miles of open ocean would rove one of the great engineering feats of the day and would not be finished until 1912. At that time Dade County, which sprawled across all of Florida south of Lake Okeechobee, was 7,200 square miles in size but had only 726 inhabitants. Flagler transformed it, bringing tourists south and sending winter produce north in the newly developed refrigerated railroad cars.
By the late 1890s he had made Palm Beach in the winter what Newport, Rhode Island, was in the summer: the most fashionable resort for the very rich. There were often a hundred private railroad cars parked on sidings in West Palm Beach at the height of the season. Flagler’s Royal Poinciana Hotel in Palm Beach, with 1,150 rooms, was the largest resort hotel in the world (and the largest wooden building ever erected).
Before the end of his life, Flagler would invest at least $50 million in his Florida enterprises, easily the equivalent of a billion dollars today. It would not be an exaggeration to say that no individual ever had as much influence on the history of a single state as Flagler had on Florida, with the possible exception of Brigham Young and Utah. But Flagler remained, as always, publicly modest. When a new town was incorporated, after the Florida East Coast Railroad reached it, the inhabitants wanted to name it after Flagler. He convinced them to name it instead after the little brook that fl owed into the Atlantic at that point. The brook was called the Miami.
Building a railroad across 150 miles of open ocean would prove one of the great engineering feats of the day and would not be finished until 1912.
But if his new empire was flourishing, his personal life was not. Two years after Mary died, Flagler married the woman he had hired to nurse her, Ida Alice Shrouds. But Ida did not easily make the transition from being a spinster who had to work for a living to being the wife of one of the country’s richest men. By the late 1890s she was hopelessly insane, confined to a hospital from which she would never emerge.
By that point, Flagler was deeply in love with Mary Lily Kenan, more than 30 years his junior. Mary Lily was everything that Ida had not been, well born and well bred, with an easygoing Southern charm. But with Ida alive he could not marry her. The only grounds for divorce in New York State were adultery, and he knew he could do nothing about that law. So Flagler moved his legal residence to Florida, where he thought he could. As he wrote to President McKinley in 1898, “my domain begins in Jacksonville.”
About $125,000 was quietly distributed among Florida state legislators, and Florida’s law was changed to include incurable insanity as grounds for divorce. Flagler married Mary Lily in 1901 and built her a 55-room mansion in Palm Beach called Whitehall. It is now the Henry Morrison Flagler Museum, visited by almost 100,000 people a year.
By the time the Florida East Coast Railway reached Key West, Flagler was 82 years old. The next year, he fell down a short flight of stairs and never recovered from his injuries, dying on May 20, 1913, at the age of 83.
Flagler’s extraordinary achievements in Florida were widely recognized. George Perkins, a partner of J. P. Morgan and Company, is typical. “That any man could have the genius to see of what this wilderness of waterless sand and underbrush was capable,” he wrote, “and then have the nerve to build a railroad here, is more marvelous than similar development anywhere else in the world.”
But because John D. Rockefeller has so dominated the story of Standard Oil, both in his time and later in history, Flager’s achievements and their remarkable partnership have not received the attention that is their due. John D. Rockefeller knew how much Flagler had contributed to the success of Standard Oil. In 1902, he wrote to Flagler, “You and I have been associated in business upwards of thirty-five years, and while there have been times when we have not agreed on questions of policy I do not know that one unkind word has ever passed or unkind thought existed between us. . . . I feel my pecuniary success is due to my association with you, if I have contributed anything to yours I am thankful.”
John Steele Gordon is the author of An Empire of Wealth: The Epic History of American Economic Power (HarperCollins).
Portrait courtesy of Flagler Museum Archives.