1. In determining the present value of the property of a public
utility for ratemaking purposes, consideration must be given to
prices and wages prevailing at the time of the investigation, and,
in the light of all the circumstances, there must be an honest and
intelligent forecast as to probable price and wage levels during a
reasonable period in the immediate future. P.
272 U. S.
408.
2. In every confiscation case, the future as well as the present
must be regarded. It must be determined whether the rates
complained of are yielding and will yield, over and above the
amounts required to pay taxes and proper operating charges, a sum
sufficient to constitute just compensation for the use of the
property employed to furnish the service -- that is, a reasonable
rate of return on the value of the property at the time of the
investigation and for a reasonable time in the immediate future. P.
272 U. S.
408.
3. It is well established that values of utility properties
fluctuate, and that owners must bear the decline and are entitled
to the increase. P.
272 U. S.
410.
4 The weight to be given to the original and present costs of
construction and other items or classes of evidence is to be
determined in the light of the facts of the case in hand. P.
272 U. S.
410.
5. In this case, prices and values have so greatly changed that
the amount paid for land in the early years of the enterprise and
the cost of plant elements constructed prior to the great rise of
prices due to the war do not constitute any real indication of
their value at the present time. P.
272 U. S.
410.
6. The reasonable cost of a system of waterworks, well planned
and efficient for the public service, is good evidence of its value
at the time of construction. And such actual cost will continue
fairly well to measure the amount to be attributed to the physical
elements of the property so long as there is no change in the level
of applicable prices. P.
272 U. S.
411.
7. If the tendency or trend of prices is not definitely upward
or downward and it does not appear probable that there will be a
substantial change of prices, then the present value of lands
plus
Page 272 U. S. 401
the present cost of constructing the plant, less depreciation,
if any, is a fair measure of the value of the physical element of
the property. P.
272 U. S.
411.
8. The validity of rates fixed for a public utility depends on
property value as of the effective date of the order and for a
reasonable time thereafter. P.
272 U. S.
411.
9. While the values of such properties do not vary with frequent
minor fluctuations in the prices of material and labor required to
produce them, they are affected by and generally follow the
relatively permanent levels and trends of such prices. P.
272 U. S.
411.
10. Judicial notice taken of the facts that, since the end of
the year 1923, there has been no general decline in the prices of
labor and materials, and that the trend has been upward, rather
than downward. P.
272 U. S.
412.
11. In valuing the property of a water works company for
ratemaking, the value of its water rights should be included, and
likewise the "going concern value" of the plant. P.
272 U. S.
413.
12. In determining what shall be deducted for depreciation, the
testimony of competent valuation engineers who examined the
property and made estimates in respect of its condition is to be
preferred to mere calculations based on averages and assumed
probabilities. P.
272 U. S.
416.
13. The plant to be valued is the plant used to give the
service, and not the estimated cost of a different plant. Save
under exceptional circumstances, the court is not required to enter
into a comparison of the merits of different systems. P.
272 U. S.
417.
14. Evidence
held more than sufficient to sustain 7% a
a reasonable rate of return for a water company. P.
272 U. S.
419.
15. Rates of yield on investments in bonds plus brokerage are
substantially less than the rate of return required to constitute
just compensation for the use of properties in the public service.
P.
272 U. S.
419.
16. In a suit like this, the district court should make specific
findings as to value, reasonable rate of return, and net earnings.
P.
272 U. S.
420.
17. But, to avoid prolonging such a litigation, this Court may
determine whether the facts in the record justify the conclusion
below, rather than remand for further findings. P.
272 U. S.
420.
Affirmed.
Appeal by the members of the Public Service Commission of
Indiana and the City of Indianapolis from a decree
Page 272 U. S. 402
of the district court, entered without opinion, enjoining
enforcement of the commission's order fixing the rates of the Water
Company.
MR. JUSTICE BUTLER delivered the opinion of the Court.
June 8, 1923, the water company filed with the commission its
petition, in which it stated that its rates were too low and
proposed a higher schedule. The City of Indianapolis answered,
alleging that the rates in force were adequate. After hearing the
parties, the commission found that, as of May 31, 1923, the value
of the property used was not less than $15,260,400; that the annual
return under existing rates would be approximately $800,000; that 7
percent was a reasonable rate of return; that the rates in force
were insufficient, and that those proposed would be exorbitant and
discriminatory, and the commission made an order, effective January
1, 1924, prescribing a schedule increasing some of the rates. In
its report, it stated that the rates authorized might not produce a
7 percent return for the immediate future, but it expressed belief
that, on the average over a period of approximately three years,
the schedule would produce an adequate return.
This suit was brought by the company against the members of the
commission to enjoin the enforcement of that order on the ground
that the rates prescribed are confiscatory. The members of the
commission answered. The
Page 272 U. S. 403
city intervened and answered. There was involved the value of
the property used, probable earnings, operating expenses, and the
amount required to constitute just compensation safeguarded by the
Fourteenth Amendment.
The decree states that the court, in an opinion given orally,
sustained as proved the material averments of the complaint, and
held that the amount as found by the commission was less than the
fair value of the property as of January 1, 1924, by more than
$3,500,000, and that
"the fair value of complainant's said property at said time was
and is not less than $19,000,000, and that the water rates imposed
in that order . . . are too low, and are confiscatory of
complainant's said property,"
and it enjoins the enforcement of the order. The members of the
commission and the city appeal jointly. � 238, Judicial Code.
Appellants contend that the court adopted as the measure of
value the cost of reproduction new less depreciation, estimated on
the basis of spot prices as of January 1, 1924, or gave that figure
controlling weight. The appellee says that the cost of reproduction
less depreciation, estimated at such prices, was shown to be more
than $22,500,000, and that the court did not adopt such costs as a
measure or give them undue weight as evidence of value.
The record contains three reports of the commission dealing with
valuations of the company's property. In case No. 1400, the
commission, March 15, 1917, reported that, as of January 1, 1917,
the value of the company's property used in the public service was
not less than $9,500,000. In case No. 6613, the commission, January
2, 1923, reported that, as of December 31, 1921, the valuation of
the company's operative and nonoperative property was $16,455,000.
In case No. 7080, the commission, November 28, 1923, made the order
attacked in this suit. It reported that, as of May 31, 1923, the
value of the company's operative property was not less than
$15,260,400.
Page 272 U. S. 404
In No. 1400, the commission stated: the accounting of
complainant and its predecessor was defective in that there was not
a careful division of expenditures between capital account and
operating expenses. The plant account of the predecessor company
owning and operating the plant from 1869 to 1881, was
$1,574,840.04, but it expended more than $200,000 that is not
included in that figure. According to complainant's books, it
expended, between April 23, 1881, and January 1, 1917, for
construction $6,112,320.86. The amount of moneys actually invested
in the plant exceeded $8,000,000, and real estate value had
appreciated more than $1,500,000. The commission did not definitely
state the original cost of construction or the total expenditures
for permanent improvements. It found the cost of reproduction new,
including $328,000 for going value and $75,000 for working capital,
to be $10,406,431, and that less depreciation $9,670,191. The
estimate was based on pre-war prices, those prevailing in 1916 and
prior years. It reported that the property could not be duplicated
"today (January 1, 1917) for less than $12,500,000." This figure
covered only the physical operative property. Nevertheless the
commission fixed the "value of all the property . . . that is used
and useful for the convenience of the public at not less than
$9,500,000." This is the sum of $8,000,000, stated as the minimum
amount of money expended to produce the plant, and $1,500,000, the
increase in the value of the company's land. It is apparent that
the enhancement in the value of the plant other than land was not
taken into account, and that nothing was included for cash working
capital, or intangible elements of value.
In case No. 6613, the commission reported that, between January
1, 1917, and November 31, 1922, capital additions amounted to
$1,639, 146, which, added to $12,500,000, cost of duplication (as
reported in case No. 1400), made.$14,139,146. It said the
company
"would
Page 272 U. S. 405
be entitled to have added to this sum reasonable allowances for
working cash, going value, water rights, and such other elements as
may not have been included in the original figure, and also the
value of the nonoperative property which apparently was not
included in the original figure. The value on this basis would
exceed $16,000,000 for the whole property, without giving any
consideration to the enormous enhancement of value of all good
property in Indianapolis which has occurred since January 1,
1917."
And the commission set out a number of estimates, based on
different price levels, made by its own engineering staff, of which
Mr. Earl L. Carter was the head. There is shown, as to physical
property only, the cost of reproduction less depreciation estimated
on different price bases. Some of these estimates were on quoted
market prices of cast iron pipe, and some were on prices
approximately 10 percent less. This made a difference of about
$375,000. The estimates on the lower basis follow:
Average prices 10 years ending with 1920 . . . . . . .
$13,979,744
10 years ending with 1921 . . . . . . . 14,689,078
10 years ending with 1922 . . . . . . . 15,232,676
5 years ending with 1922 . . . . . . . 18,335,974
Prices prevailing October 1, 1922 . . . 17,328,259
These include $102,997 to cover materials and supplies.
The company submitted various estimates made by valuation
engineers Hagenah and Erickson. There is shown below, in respect of
physical property only, cost of reproduction less depreciation.
Average prices 10 years ending with 1920 . . . . . . .
$16,020,456
5 years ending with 1921 . . . . . . . 20,535,543
Prices prevailing October 1, 1922 . . . 19,447,193
There were added for materials and supplies $100,000, for
working capital $135,000, for water rights $500,000, and for going
value $2,000,000.
The company also submitted estimates and appraisals made by
valuation engineers, Sanderson and Porter.
Page 272 U. S. 406
They estimated cost of reproduction of the "bare physical
property" on prices as of October 1, 1922 at $19,087,560, and on
average of prices for ten years ending with 1920 at $16,169,257.
Neither of these included anything on account of working capital,
water rights, or going value. To cover working capital, $267,312
was added, and for water rights and going value, $2,355,050.
By its order, the commission fixed the value of the property at
$16,455,000. Its report shows that figure to have been made up as
follows:
Commission's engineering staff's appraisal,
cost of reproduction less depreciation,
on basis of average level of labor
and material prices for the 10-year period
ending December 31, 1921, including
materials and supplies . . . . . . . . . . . . . . . $14,689,000
[
Footnote 1]
Capital additions form April 1, 1922, to
October 31, 1922 at actual cost. . . . . . . . . . . 215,000
-----------
Total physical property . . . . . . . . . . . . . .
$14,904,000
Going value and water rights, 9 1/2% . . . . . . . . .
1,416,000
-----------
$16,320,000
Working cash capital . . . . . . . . . . . . . . . . .
135,000
-----------
Total value . . . . . . . . . . . . . . . . . . . .
$16,455,000
In case No. 7080, the commission's valuation of the company's
properties used in the public service, as of May 31, 1923, is
$1,194,600 less than the amount found by the commission to be the
value of all its property, operative and nonoperative, as of
October 1, 1922. The total of working capital, water rights, and
going value was reduced $571,000, and the value of the tangible
property $623,600.
Page 272 U. S. 407
At the trial in the lower court, the company introduced
estimates of the cost of reproduction less depreciation, made by
Hagenah and Erickson, as follows:
Prices prevailing December 31, 1923. . . . . . . . . .
$22,669,026
Average prices 5 years ending with 1923 . . . . . . .
22,652,799
3 years ending with 1923 . . . . . . . 21,625,358
10 years ending with 1923 . . . . . . . 19,624,354
To each of these were added $235,000 to cover working capital,
consisting of materials, supplies and cash, $500,000 for water
rights, and $2,000,000 for going value.
And the company also introduced similar estimates by Sanderson
and Porter, as follows:
Prices prevailing December 31, 1923. . . . . . . . . .
$21,898,662
Average prices 5 years ending with 1923 . . . . . . .
21,863,858
3 years ending with 1923 . . . . . . . 20,968,127
10 years ending with 1923 . . . . . . . 18,931,979
To each of these were added $361,245 to cover working capital
(consisting of materials and supplies $127,939, being the average
amount on hand in 1923, and $233,306 cash, being one-eighth of one
year's gross earnings), $500,000 for water rights, and $2,098,000,
going value.
Mr. Carter testified that his estimate, $14,689,078, adopted by
the commission in No. 6613, was based on average prices in the ten
years ending with 1921, on the inventory as of April 1, 1922. He
said that, based on average prices in ten years ending with 1923,
the cost of reproduction less depreciation was $16,006,370, and
that, between April 1, 1922, and December 31, 1923, there had been
made net additions amounting to $1,010,105, making a total in round
figures of $17,000,000. And he also testified that, on the basis of
prices prevailing January 1, 1924, the cost of reproduction less
depreciation was $19,500,000. All his estimates covered fixed
physical property, material, and supplies, but include nothing for
cash working capital, water rights or going value.
Page 272 U. S. 408
The commission's report in No. 6613 highly commends the
estimates made by its chief engineer and his assistants. It states
that the valuation engineers employed by the company are firms of
national reputation and unquestioned standing, and that the
difference between appraisals made by its own staff and those
presented for the company are due to differences of opinion as to
the "application of the cost of reproduction theory to the ten-year
period prices," details of the work necessary to construct the
property, amount to be included for structural overheads, and the
condition of certain items of the property . It says that these
differences have been analyzed and explained by the parties, and
that further analysis and careful weighing of the evidence would be
likely to lead to a compromise figure between the two extremes.
"However that may be, the commission is inclined to accept the
report of its staff as a basis of value, believing it to be
conservative and accurate. Considering all the facts, including all
the appraisals and the other evidence concerning the trend of
prices, the commission is of the opinion that, in this case, the
average of prices for the ten-year period ending with 1921, the
last full ten years available, most nearly represents the fair
value of petitioner's physical property."
But, in determining present value, consideration must be given
to prices and wages prevailing at the time of the investigation,
and, in the light of all the circumstances, there must be an honest
and intelligent forecast as to probable price and wage levels
during a reasonable period in the immediate future. In every
confiscation case, the future as well as the present must be
regarded. It must be determined whether the rates complained of are
yielding and will yield, over and above the amounts required to pay
taxes and proper operating charges, a sum sufficient to constitute
just compensation for the use of the property employed to furnish
the service -- that is, a reasonable rate of return on the value of
the property at the
Page 272 U. S. 409
time of the investigation and for a reasonable time in the
immediate future.
S.W. Tel. Co. v.Pub. Serv. Comm'n,
262 U. S. 276,
262 U. S.
287-288;
Bluefield Co. v.Pub. Serv. Comm'n,
262 U. S. 679,
262 U. S. 692.
Cf. Board of Utility Commissioners v. New York Telephone
Co., 271 U. S. 23,
271 U. S.
31.
The commission further said:
"If it were known that the present price level would continue
indefinitely in the future and that the purchasing power of the
dollar would remain the same, then the cost of reproduction at the
time of the inquiry would be the true measure of value. . . . It is
likely that there will be some reduction from the present price
level. . . . The value is being fixed not for today, but for a
reasonable period in the future. Consequently the reasonableness of
the use of average prices is apparent. It is extremely doubtful if,
at any time within the next ten years, prices will be as low as the
prices used (those in the ten years ending with 1921), . . . and it
is equally certain that the average prices for the next, say, five
years will be at least as high as the ten-year average used in this
valuation. . . . The iron and steel industries are enjoying greatly
increased business and a general increase of about 20 percent in
wages has been made. The increase in the wage scale has been
reflected in the increased cost of iron pipe and other material.
There seems to be no prospect of lower prices for such products.
However much we may deplore the situation, the fact is that prices
are on a permanently high level as compared with pre-war times, and
there is no likelihood whatever that a price level anywhere near
approximating the low level of pre-war times will prevail for many
years in the future."
The commission pointed out that enhancement of value
"may occur first when there is no change in the purchasing power
of the dollar by reason of various circumstances such as the
natural increment of land values in a growing city, and second, by
a decrease in the purchasing power or value of the dollar."
And it added: "Both factors affect this property."
Page 272 U. S. 410
In explanation of the price levels used, the commission
said:
"By adopting the appraisal [the estimate of cost of reproduction
less depreciation made by its own staff] on the basis of the
average prices of labor and material for the ten-year period ending
with 1921, the Commission recognizes the influence of the original
cost factor. It is believed that the fair original cost of the
physical property was from 12 to 20 percent less than the
$14,904,000 used as a basis herein. On the other hand, the evidence
shows that the cost of reproducing the physical property today
would be from $4,500,000 to $5,000,000, or from 30 to 35 percent
more than the said sum of $14,904,000. . . . There is no doubt that
the element of original cost has been recognized sufficiently.
There is doubt as to whether or not the element of the cost of
reproduction new today has been given sufficient weight."
It is well established that values of utility properties
fluctuate, and that owners must bear the decline and are entitled
to the increase. The decision of this Court in
Smyth v.
Ames, 169 U. S. 466,
169 U. S. 547,
declares that, to ascertain value, "the present as compared with
the original cost of construction" are, among other things, matters
for consideration. But this does not mean that the original cost or
the present cost or some figure arbitrarily chosen between these
two is to be taken as the measure. The weight to be given to such
cost figures and other items or classes of evidence is to be
determined in the light of the facts of the case in hand. By far
the greater part of the company's land and plant was acquired and
constructed long before the war. The present value of the land is
much greater than its cost, and the present cost of construction of
those parts of the plant is much more than their reasonable
original cost. In fact, prices and values have so changed that the
amount paid for land in the early years of the enterprise and the
cost of plant elements constructed prior to the great rise of
prices due to
Page 272 U. S. 411
the war do not constitute any real indication of their value at
the present time.
Standard Oil Co. v. So. Pacific Co.,
268 U. S. 146,
268 U. S. 157;
Georgia Ry. v. R. Co. Comm'n, 262 U.
S. 625,
262 U. S.
630-631;
Bluefield Co. v.Pub. Serv. Comm'n,
supra, 262 U. S.
691-692;
S.W. Tel. Co. v.Pub. Serv. Comm'n,
supra, 262 U. S. 287.
Undoubtedly, the reasonable cost of a system of waterworks, well
planned and efficient for the public service, is good evidence of
its value at the time of construction. And such actual cost will
continue fairly well to measure the amount to be attributed to the
physical elements of the property so long as there is no change in
the level of applicable prices. And, as indicated by the report of
the commission, it is true that, if the tendency or trend of prices
is not definitely upward or downward and it does not appear
probable that there will be a substantial change of prices, then
the present value of lands plus the present cost of constructing
the plant, less depreciation, if any, is a fair measure of the
value of the physical elements of the property.
The validity of the rates in question depends on property value
January 1, 1924, and for a reasonable time following. While the
values of such properties do not vary with frequent minor
fluctuations in the prices of material and labor required to
produce them, they are affected by and generally follow the
relatively permanent levels and trends of such prices. The fact
that original cost was probably 12 to 20 percent less than the
estimate of the commission's engineer based on the average of
prices for the ten years ending with 1921 -- two years before the
rate order became effective does not tend to support the
commission's adoption of that estimate. The cost of reproduction on
price levels prevailing January 2, 1923, was found to be 30 to 35
percent or from $4,500,000 to $5,000,000 more. The average of
prices in the ten years ending with 1923 -- the effective date of
the rate order -- was shown by the testimony of the commission's
chief engineer to produce a result nearly 14 percent higher than
the figure adopted,
Page 272 U. S. 412
and, on the basis of prices prevailing on the effective date of
the order, cost of reproduction less depreciation would be about 32
percent higher than that taken by the commission. The high level of
prices and wages prevailing in 1922 and 1923 should be taken into
account in finding value as of January 1, 1924, and in the years
immediately following. Moreover, there is nothing in the record to
indicate that the prices prevailing at the effective date of the
rate order were likely to decline within a reasonable time -- one,
two, or three years -- to the level of the average in the ten years
ending with 1923. And we may take judicial notice of the fact that
there has been no substantial general decline in the prices of
labor and materials since that time. The trend has been upward,
rather than downward. The price level adopted by the commission --
the average for ten years ending with 1921 -- was too low. And it
is clear that a level of prices higher than the average prevailing
in the ten years ending with 1923 should be taken as the measure of
value of the structural elements on and following the effective
date of the rate order complained of.
For working capital, the commission's chief engineer included
$102,997 to cover materials and supplies. He did not include
anything to cover cash working capital. The commission adopted his
total and added $135,000 for cash, making $237,997 in all. The
testimony of the company's witnesses supports a higher figure, and
there was no other evidence on the subject. The amount is low when
compared with those included in other cases. [
Footnote 2]
Page 272 U. S. 413
The commission, in No. 6613, discussed the company's water
rights. It said:
"Petitioner has acquired and now owns the right or privilege of
taking and using all the water in White River and Fall Creek for
the purposes incident to its business. This right is an
extraordinarily valuable part of the whole value of this property.
The right to use the water of White River has saved the water
company and likewise the citizens of Indianapolis millions of
dollars over what it would have cost to secure sufficient water for
the needs of the city in any other possible way. . . . The water
company is entitled to share in the benefit of this valuable
possession by reason of the fact that, by its foresight, ingenuity,
and initiative, it has taken this stream of uncertain flow of
impure water and has converted it into an immense asset both to
itself and to the public. . . . This whole plant . . . has been
planned and constructed with an ingenuity and economy and foresight
for the future needs of the city that is unequalled under any
similar circumstances anywhere in the country. Indianapolis is
probably the most unfortunately situated of any large city so far
as the natural available water is concerned, yet the possibilities
of an insignificant stream flowing through a thickly populated
countryside have been so thoroughly developed that Indianapolis now
has, and if it doubles in population will have, an amply supply of
potent [potable] water at a cost much below the cost in many other
cities more favorably located. This development of its water
rights, which has been accomplished by the water company at times
with extreme difficulty, does actually largely increase the value
of the property."
The value of these water rights must be included.
San
Joaquin Co. v. Stanislaus County, 233 U.
S. 454,
233 U. S.
459.
The report further stated:
"A good property has an intangible value or going concern value
over and above the value of the component parts of the physical
property.
Page 272 U. S. 414
. . . Any reasonable man with a knowledge of this property and
the local conditions would unhesitatingly affirm that it had a
value far in excess of the value of the pipe, buildings, grounds,
and machinery. Consider its earning power with low rates, the
business it has attached, its fine public relations, its credit,
the nature of the city and the certainty of large future growth,
the way the property is planned and is being extended with the
future needs of the city in view, its operating efficiency and
standard of maintenance, its desirability as compared with similar
properties in other cities and with other utilities of comparable
size in this city. These things make up an element of value that is
actual, and not speculative. It would be considered by a buyer or
seller of the property or by a buyer or seller of its
securities."
The decisions of this Court declare:
"That there is an element of value in an assembled and
established plant, doing business and earning money, over one not
thus advanced, is self-evident. This element of value is a property
right, and should be considered in determining the value of the
property, upon which the owner has a right to make a fair return
when the same is privately owned although dedicated to public
use."
Des Moines Gas Co. v. Des Moines, 238 U.
S. 153,
238 U. S. 165;
Denver v. Denver Union Water Co., 246 U.
S. 178,
246 U. S.
191-192.
And see National Waterworks Co. v. Kansas
City, 62 F. 853, 865;
Omaha v. Omaha Water Co.,
218 U. S. 180,
218 U. S.
202-203, and cases cited.
The commission, January 2, 1923, in No. 6613 included
$1,416,000, being 9.5 percent of the amount attributed to the
physical elements, to cover water rights and going value. November
28, 1923, in No. 7080, it included only $980,000 to cover working
capital, water rights and going value. There is no specification of
the amount assigned to each. It stated that the amount was a
smaller percentage of the value of the physical property than
is
Page 272 U. S. 415
usually allowed in such cases. There is nothing in the record to
justify the reduction. Deducting $135,000 for cash working capital,
the amount included for water rights and going value is less than
six percent of the value of the physical elements as fixed by it.
Having regard to the character of the system, that amount is
clearly too low. The valuation engineers called by the company
appraised water rights and going value separately. Each fixed the
value of water rights at $500,000, and one put going value at
$2,000,000, and the other at a slightly higher figure. The
commission's engineer made no appraisal of water rights or going
value. The evidence is more than sufficient to sustain 9.5 percent
for going value. And the reported cases showing amounts generally
included by commissions and courts to cover intangible elements of
value indicate that 10 percent of the value of the physical
elements would be low when the impressive facts reported by the
commission in this case are taken into account. [
Footnote 3]
The commission and the city submit the same brief. Some of their
contentions are opposed to the commission's findings above referred
to. They support an estimate or appraisal made by Walter S. Bemis,
an engineer
Page 272 U. S. 416
called by the city. He reported that, as of December 31, 1923,
the cost of reproduction new was $12,216,508.05, and that less
depreciation, $9,220,214.18. The estimate is based on "ten-year
average prices from 1911 to 1920." It gives no consideration to the
prices prevailing in the three years preceding the effective date
of the order. The price basis is substantially lower than the
average for ten years ending 1923. There is deducted approximately
25 percent of estimated cost new to cover accrued depreciation. The
deduction was not based on an inspection of the property. It was
the result of a "straight line" calculation based on age and the
estimated or assumed useful life of perishable elements. The
commission's report indicates that the property is well planned,
well maintained, and efficient. Its chief engineer inspected it,
and estimated its condition by giving effect to results of the
examination and to the age of the property. He deducted about 6
percent to cover depreciation. Mr. Hagenah made an estimate of
existing depreciation based on actual inspection and a
consideration of the probable future life as indicated by the
conditions found. He deducted less than 6 percent. Mr. Elmes
testified that he made an inspection and estimate of all the actual
depreciation. He estimated $443,044 would be required to restore
the property as of appraisal date to its condition when first
installed and put in practical operation. He deducted that amount.
The testimony of competent valuation engineers who examined the
property and made estimates in respect of its condition is to be
preferred to mere calculations based on averages and assumed
probabilities. The deduction made in the city's estimate cannot be
approved.
Pacific Gas Co. v. San Francisco, 265 U.
S. 403,
265 U. S. 406;
Standard Oil Co. v. So. Pacific Co., supra, 268 U. S. 159;
Landon v. Court of Industrial Relations, 269 F. 433, 445;
City of Winona v. Wisconsin-Minnesota Light & P. Co.,
276 F. 996, 1004;
New York Telephone
Page 272 U. S. 417
Co. v. Prendergast, 300 F. 822, 826;
Southern Bell
Tel. & Tel. Co. v. Railroad Commission, 5 F.2d 77,
95.
The company owns a canal in which water flows from the river to
filter beds and to a power plant below them, where that not taken
for filtration is used to pump water into the mains for
distribution. The estimate of Mr. Bemis for the city eliminates the
lower part of the canal and suggests the substitution of a steam
plant. This reduces cost of reproduction new by $1,073,539.60 and
that less depreciation by $785,013.11. The whole canal was included
in the estimate of Mr. Carter, which was adopted. The commission,
in its report in No. 7080, described the canal and the uses to
which it is put including the production of power for pumping, and
said: "This shows the work of a competent construction engineer."
And in No. 6613, the commission said:
"The canal appears to have been perfectly adapted to become a
part of the water plant of the city. It intercepts the waters of
White River near Broad Ripple. This is so far upstream that the
source of supply has been free from the contamination arising from
densely settled districts of the city for nearly half a century. .
. . It saves the lift of millions of gallons of water daily from
White River to the level of the filter beds. . . . The economic
value of the canal is very large when regard is given to the
savings it effects, and the revenue it produces. . . . Its great
value lies in the fact that it has never failed to do efficiently
the work that must be done by some instrumentality of the water
plant. The cost of a steel or concrete main or conduit, that would
carry a far less quantity of water, would exceed the cost of
reconstruction of the canal, and its structural parts. The entire
canal property is used and useful in the performance of the service
this utility was created to perform."
There is to be ascertained the value of the plant used to give
the service, and not the estimated cost of a different
Page 272 U. S. 418
plant. Save under exceptional circumstances, the court is not
required to enter upon a comparison of the merits of different
systems. Such an inquiry would lead to collateral issues and
investigations having only remote bearing on the fact to be found,
viz., the value of the property devoted to the service of
the public.
The estimate made for the city is not useful as a guide for
ascertainment of value of the company's property for 1924.
For convenient comparison, there follows a statement of the
estimates based on prices prevailing January 1, 1924, and those
based on average prices in the ten years ending with 1923.
Spot Prices Average Prices
Carter . . . . . . . . . . . $19,500,000 $17,000,000
Hagenah and Erickson . . . . 22,669,000 19,624,000
Sanderson and Porter . . . . 21,898,000 18,931,000
While some expressions of the district judge indicate that he
was of opinion that dominant or controlling weight should be given
to cost of reproduction less depreciation estimated on spot prices
as of January 1, 1924, it is clear that the $19,000,000, fixed by
him as the minimum value could not have been arrived at on that
basis. The commission's chief engineer testified that his estimate
on prices as of that date was $19,500,000. This was exclusive of
cash working capital, water rights, and going value for which
Hagenah and Erickson included $2,735,000 and Sanderson and Porter
$2,961,245. But the commission in No. 6613 added $135,000 for such
working capital. It also added 9.5 percent of the value of the
physical elements to cover water rights and going value, amounting
to $1,416,000. If only these additions be made to Mr. Carter's spot
price estimate, there is produced $21,051,000. And if 9,5 percent
of $19,500,000 were taken to cover water rights and going value,
the total would exceed $21,487,000. Moreover, the estimates on the
basis of
Page 272 U. S. 419
spot prices introduced by the company are considerably higher
than Mr. Carter's figure.
The commission November 28, 1923, in No. 7080 found 7 percent to
be a reasonable rate of return. It stated that was the rate the
city's appraiser, Mr. E. W. Bemis, testified to be reasonable. At
the trial, the company introduced testimony supporting higher
rates. Mr. Hagenah and Mr. Elmes testified that 8 percent was a
reasonable rate of return. Mr. Metcalf, consulting engineer for the
company, supported a rate from 7.5 percent to 8 percent. Appellants
offered a study by Mr. E. W. Bemis of the rates of yield to
investors on certain public utility bonds. He took into account 524
flotations put out at different times between July, 1921, and
February, 1924, inclusive. The average yield in the last six months
of 1921 was 7.33 percent and in February, 1924, 6.11 percent. The
trend was not downward throughout the whole period. It was upward
from the last half of 1922 through all of 1923. And he testified
that there should be added .4 of 1 percent to cover brokerage. It
is obvious that rates of yield on investments in bonds plus
brokerage is substantially less than the rate of return required to
constitute just compensation for the use of properties in the
public service. Bonds rarely constitute the source of all the money
required to finance public utilities. And investors insist on
higher yields on stock than current rates of interest on bonds.
Obviously, the cost of money to finance the whole enterprise is not
measured by interest rates plus brokerage on bonds floated for only
a part of the investment. The evidence is more than sufficient to
sustain the rate of 7 percent found by the commission. And recent
decisions support a higher rate of return. [
Footnote 4]
Page 272 U. S. 420
There was controversy as to probable net earnings for 1924. The
company's estimate is $958,000; the city's, $1,121,550.19. The
principal difference arises from the city's contention that the
company's estimate of revenue was too low by $67,758.92 and of
operating expenses was too high by $95,791.27.
While the facts stated in the court's decision are sufficient to
sustain the decree, the findings as to value, the reasonable rate
of return, and the net earnings are not as specific as good
practice requires. As the litigation would be prolonged
considerably if the case were remanded for further findings, we
have examined the record to determine whether the facts proved
justify the court's conclusion.
Knoxville v. Water Co.,
212 U. S. 1,
212 U. S. 8;
Chicago M. & St. P. Ry. v. Tompkins, 176 U.
S. 167,
176 U. S. 179;
Lincoln Gas Co. v. Lincoln, 223 U.
S. 349,
223 U. S. 361;
Denver v. Denver Union Water Co., supra, 246 U. S. 182;
Cole v. Ralph, 252 U. S. 286,
252 U. S.
290.
And we are satisfied that the decree is right. As indicated
above, a reasonable rate of return is not less than 7 percent. In
his decision, the district judge plainly intimated that he was of
opinion that probable net earnings for 1924 were not sufficient to
pay more than 5 percent on $19,000,000. The amount of net earnings
in 1924, as estimated by appellants, is only sufficient to pay 7
percent on $16,022,145. The evidence requires a finding that,
exclusive of the items classified by Mr. Carter as nonoperative,
the value of the property is much more than that amount. It is
shown that, if due consideration be given to the price level and
trend prevailing
Page 272 U. S. 421
in the years immediately before and those probable during a
reasonable time following the effective date of the order, January
1, 1924, the $17,000,000 estimated by Mr. Carter on the basis of
average prices in the ten years ending with 1923 is substantially
less than the amount fairly attributable to the physical elements
of the property. The evidence sustains an amount in excess of 10
percent to cover water rights and going value and also $135,000 for
cash working capital. On a consideration of the evidence, it is
held that the value of the property as of January 1, 1924, and
immediately following was not less than $19,000,000.
Decree affirmed.
MR. JUSTICE HOLMES concurs in the result.
[
Footnote 1]
This includes $648,921 estimated by Mr. Carter to cover items of
property classified by him as nonoperative. Mr. Metcalf, consulting
engineer for the company, finds $68,000 to be the value of the
items he classifies as nonuseful. And Mr. Hagenah so classifies
items to which he assigns $119,000.
[
Footnote 2]
New York & Queens Gas Co. v. Newton, 269 F. 277,
284;
New York & Queens Gas Co. v.
Prendergast, 10 F.2d
167, 209, 210;
Bronx Gas Gas Co. v. Nixon, 2 F.2d 118;
Kings County Lighting Co. v. Prendergast, 7 F.2d 192,
201, 217;
New York & Richmond Gas Co. v.
Prendergast, 10 F.2d
167, 209, 210;
Bronx Gas & Electric Co. v. Public
Service Commission, 28 N.Y.State Dept. Reports, 329, 364,
aff'd 208 App.Div. 780.
[
Footnote 3]
Omaha v. Omaha Water Co., 218 U.
S. 180,
218 U. S. 202;
Denver v. Denver Union Water Co., 246 U.
S. 178,
246 U. S. 184;
Bluefield Co. v. Pub. Serv. Com., 262 U.
S. 679,
262 U. S. 686;
Streator Aqueduct Co. v. Smith, 295 F. 385, 390;
Westinghouse Electric Co. v. Denver Tramway
Co., 3 F.2d 285,
298;
Southern Bell Tel. & Tel. Co. v. Railroad
Commission, 5 F.2d 77,
87;
Consolidated Gas Co. of N.Y. v.
Prendergast, 6 F.2d 243,
259;
Kings County Lighting Co. v.
Prendergast, 7 F.2d 192,
217;
Citizens' Gas Co. v. Public Service
Commission, 8 F.2d 632;
New York & Richmond Gas Co. v.
Prendergast, 10 F.2d
167, 208, 210;
Pioneer Telephone Co. v. Westenhaver,
29 Okl. 429, 448;
Public Service Co. v. Public Utility
Bd., 84 N.J.Law 463, 479;
Oshkosh Waterworks Co. v.
Railroad Commission, 161 Wis. 122, 129, 131 (
cf. Appleton
Waterworks v. Railroad Commission, 154 Wis. 121);
Northern
Pacific Ry. Co. v. State, 84 Wash. 510;
State v. Telephone
Co., 115 Kan. 236, 241.
[
Footnote 4]
Lincoln Gas Co. v. Lincoln, 250 U.
S. 256,
250 U. S. 268;
Galveston Elec. Co. v. Galveston, 258 U.
S. 388,
258 U. S. 400;
Bluefield Co. v.Pub. Serv. Com., 262 U.
S. 679,
262 U. S. 692,
et seq.; Landon v. Court of Industrial Relations, 269 F.
433, 445;
Minneapolis v. Rand, 285 F. 818, 830;
Mobile
Gas Co. v. Patterson, 293 F. 208, 221;
Southwestern Bell
Telephone Co. v. City of Ft. Smith, 294 F. 102, 108;
New
York Telephone Co. v. Prendergast, 300 F. 822, 826;
Southern Bell Tel. & Tel. Co. v. Railroad
Commission, 5 F.2d 77,
89;
Brooklyn Union Gas Co. v. Prendergast, 7 F.2d 628,
672.
MR. JUSTICE BRANDEIS, dissenting.
In the case at bar, as in
Galveston Electric Co. v.
Galveston, 258 U. S. 388, and
Georgia Railway & Power Co. v. Railroad Commission,
262 U. S. 625,
both the ratemaking body and the lower court purported to adopt the
rule of
Smyth v. Ames, 169 U. S. 466, by
which the value of the property, as of the time of the rate
hearing, is taken as the rate base. Hence, the soundness of that
rule -- the question on which this Court divided in
Missouri ex
rel. Southwestern Bell Telephone Co. v. Public Service
Commission, 262 U. S. 276, and
in
Pacific Gas & Electric Co. v. San Francisco,
265 U. S. 403 --
is not involved here. Nor is the general question involved on which
the Court divided in
Ohio Valley Water Co. v. Ben Avon
Borough, 253 U. S. 287,
253 U. S.
297.
The commission and the lower court likewise agreed that
reproduction cost was evidence as to value. The primary questions
on which they differed are these. Is a finding of reproduction cost
tantamount to a finding of value? Is the reproduction cost which
should be ascertained by the tribunal, the "spot" reproduction cost
-- that is, cost at prices prevailing at the time of the
hearing?
Page 272 U. S. 422
The district court, as I read its opinion, answered both of
these questions in the affirmative.
*
The learned judge assumed that spot reproduction cost is the legal
equivalent of value. He found that $19,000,000 was, on the
evidence, the lowest conceivable spot reproduction cost. He assumed
that, since the utility was willing to accept this minimum as
reproduction cost, no amount less than that could be found by him
to be the value, or rate base. He believed that recent decisions of
this Court required him so to hold. In this belief, he was clearly
in error.
That reproduction cost is not conclusive evidence of value has
been repeatedly stated by a unanimous court. The rule of
Smyth
v. Ames, 169 U. S. 466,
169 U. S. 547
required not only that each class of other evidence of value be
considered, but also that each class of evidence "be given such
weight as may be just and right in each case."
Page 272 U. S. 423
Similarly, it was stated in the
Georgia Railway &
Power case,
262 U. S. 625,
262 U. S.
630:
"The refusal of the commission and of the lower court to hold
that, for ratemaking purposes, the physical properties of a utility
must be valued at the replacement cost less depreciation was
clearly correct. As was said in
Minnesota Rate Cases,
230 U. S.
352,
230 U. S. 434:"
"The ascertainment of that value is not controlled by artificial
rules. It is not a matter of formulas, but there must be a
reasonable judgment having its basis in a proper consideration of
all relevant facts."
There is, so far as I recall, no statement by this Court that
value is tantamount to reproduction cost.
Nor do I find in the decisions of this Court any support for the
view that a peculiar sanction attaches to "spot" reproduction cost,
as distinguished from the amount that it would actually cost to
reproduce the plant if that task were undertaken at the date of the
hearing. "Spot" reproduction would be impossible of accomplishment
without
Page 272 U. S. 424
the aid of Aladdin's lamp. The actual cost of a plant may
conceivably indicate its actual value at the time of completion or
at some time thereafter. Estimates of cost may conceivably
approximate what the cost of reproduction would be at a given time.
But, where a plant would require years for completion, the estimate
would be necessarily delusive if it were based on "spot" prices of
labor, materials, and money. The estimate, to be in any way worthy
of trust, must be based on a consideration of the varying costs of
labor, materials, and money for a period at least as long as would
be required to construct the plant and put it into operation.
Moreover, the estimate must be made in the light of a longer
experience, and with due allowances for the hazards which attend
all prophecies in respect to prices. The search for value can
hardly be aided by a hypothetical estimate of the cost of replacing
the plant at a particular moment, when actual reproduction would
require a period that must be measured by years.
When a court declares that the rate base shall be the value,
instead of the historical cost, or the amount prudently invested in
the enterprise, it selects the standard for measuring the property
on which compensation is to be paid. It lays down a rule of law,
and, in the performance of that function, there is always a
legitimate field for theory. But when, having selected value as the
standard for the rate base, the court undertakes to find what that
value is at the date of the rate hearing, it purports to make a
finding of fact. The process of determining facts will inevitably
be misleading unless each step bears a close relation to the
realities of life.
The evidence introduced before the trial court, which seems to
be in substance the same as that introduced before the commission,
is now before this Court. We have power to examine the evidence and
to enter such decree as may be appropriate.
Compare Denver v.
Denver Union Water Co., 246 U. S. 178. But
the better practice
Page 272 U. S. 425
requires that the case be remanded to the district court, so
that the evidence may be reexamined there in the light of the
applicable rules.
Oklahoma Natural Gas Co. v. Russell,
261 U. S. 290,
261 U. S. 293;
Pacific Tel. & Tel. Co. v. Kuykendall, 265 U.
S. 196.
Compare Chicago, M. & St. P. Ry. Co. v.
Tompkins, 176 U. S. 167,
176 U. S. 179;
Lutcher & Moore Lumber Co. v. Knight, 217 U.
S. 257,
217 U. S. 267;
Brown v. Fletcher, 237 U. S. 583;
Gerdes v. Lustgarten, 266 U. S. 321,
266 U. S. 327.
To this end, the decree should, in my opinion, be reversed.
To avoid the possibility of misunderstanding, I add merely that,
in my opinion, the facts of record, considered in connection with
those of which we have judicial notice, do not justify holding that
rates which yield a return of less than 7 percent would be so
unreasonably low as to be confiscatory.
MR. JUSTICE STONE joins in this dissent.
*
"Granting that these cases [
Missouri ex rel. Southwestern
Bell Tel. Co. v. Public Service Commission, 262 U. S.
276;
Bluefield Water Works v. Public Service
Commission, 262 U. S. 679;
Georgia Ry.
& Power Co. v. Railroad Commission, 262 U. S.
625] were decided at a time when the Court had, as a
matter of history in this particular field of jurisprudence, full
cognizance of the probative character and the propriety of
considering evidence such as is popularly called evidence of
historical cost, evidence of reproduction cost upon a certain price
level, evidence of value which is called prudent in vestment value,
and, fourth, evidence of what is strictly and technically
reproduction spot depreciated at the time of the inquiry, these
cases press upon us sharply the query of why these cases, in their
results, disclose the emphasis given to the last-named of these
four character[s] of evidence, and I am entirely content to accept
the characterization made by the judges in the Sixth Circuit in the
so-called
Monroe Gas case; that the necessary implication
from their results is that dominating consideration should be given
to evidence of reproduction value, and, if that means anything, it
means that evidence of reproduction value spot at the time of the
inquiry must be considered as evidence of a primarily different
character from either of the other three kinds of evidence. . . .
Now the court is required, as it seems to me, to apply the
principles that are to be discussed and to be accepted, as I
indicated in my preliminary remarks, as to what the Supreme Court
meant by what it said in these three cases. Is it possible, . . .
or can the court now rationally say, that the commission here, and,
in order to test it out, include the court here, can, by any sort
of examination of the evidence, reach a conclusion that, upon
unimpeached evidence showing a minimum of spot reproduction values
at $19,000,000, it will still find reasonable value at $15,260,000?
. . . Now that brings us to the evidence in this case, and, as I
said, can the commission, or can this court now, say that there can
be a rational reconcilement between unimpeached evidence of
$19,000,000, as a minimum cost reproduction value spot, and any
other price level, particularly one showing a disparity of
$5,000,000 -- $4,000,000 to $5,000,000? . . . I am not confronted
with the problem of fixing a valuation within the range of dispute
upon spot reproduction. I say I am not confronted with that
problem, because the complainant comes into this court and offers
to accept $19,000,000 as a fair basis of valuation, even though, as
it says, and I think has reason to say, and could support it, it
could, upon the record, sustain a higher valuation."
The decree itself recited "that the fair value of complainants"
said property was and is not less than $19,000,000.