certain expenditures that have not been incurred in the development of the existing property, but would be incurred in the reproduction of the existing property, are excluded. The following is a statement of expenditures that would be included under this interpretation of the reproduction method. "If trees were cleared, then he [the appraiser] must allow for the cost of clearing, although not a tree may now be standing. If streets were graded, then that grading must be estimated, though to-day the entire city is as level as a floor. If quicksand was encountered in laying a pipe-line, then the added cost of excavating it must be allowed, even though subsequent works have drained the line so that it no longer has a yard of quicksand. If money was spent to educate the public to the use of the commodity sold by the corporation, then that money is a development expense which must be allowed, even though the expense would not now be incurred by a new corporation of like character." 5 Pavement over mains laid at the expense of the city, on the other hand, is an example of a reproduction cost that would not be included under the modified rule above mentioned.

The consideration under the reproduction method of piecemeal construction depends upon whether the modified view of cost of reproduction above referred to is adopted. Under a strict application of the reproduction method there would be no occasion for the application of piecemeal methods. The entire property would be reconstructed by the quickest and most economical method. The actual cost of constructing gas mains has doubtless increased where from time to time additional mains have been laid in the same street to meet increased demands. In the laying of telephone conduits and cables by the piecemeal method additional cost is also incurred. On the other hand, certain overhead charges, such as organization, engineering, and interest during construction, may be lower where the property is constructed by the piecemeal process. Various authorities in using the reproduction method have considered it proper to allow for piecemeal construction. To this extent they have abandoned the strict reproduction method. A strict application of the reproduction method means that interest and profits shall be determined by present conditions. If the existing property were wiped out, upon what terms could

5 Discussion by Halbert P. Gillette in "Transactions of American Society of Civil Engineers," 1911, vol. 73, p. 382.

capital be induced to invest in a similar property under existing conditions as to interest and risk? This theory disregards entirely the risk assumed when the existing enterprise was started and when the successive additions to investment were made. Most authorities recognize, however, that a fair return on investment cannot be determined in this way. Consideration must necessarily be given to initial risks and past earnings.

The reproduction method does not fit in with depreciation and accounting methods. The annual allowance for depreciation under approved accounting methods is not the amount required to replace the existing unit, but the amount required to write off the cost of the existing unit when it is necessary to replace it. Under approved methods the actual cost of a car when replaced is deducted from the capital account, and the cost of the new car is added to the capital account. An allowance for depreciation estimated on reproduction cost is consequently inaccurate in proportion as the reproduction cost differs from the actual cost. As long as the science of accounts is predicated on actual cost it is inconsistent and confusing in any proceeding to determine cost of production, to base either the accrued depreciation or the annual allowance for depreciation, on reproduction rather than actual cost.

The question of actual cost has been usually dismissed in connection with valuation cases and discussions by the simple statement that inasmuch as its determination was entirely impracticable any consideration of the subject must be purely academic. This, it seems, has been largely the result of a somewhat confused conception of actual cost. Actual cost properly considered may in a great majority of cases be determined with much greater accuracy than reproduction cost. The term "actual cost" may possibly be taken in three senses: (1) book cost; (2) the first cost of the original units; (3) the first cost of the identical units now in use. The confusion has arisen from identification of actual cost with book cost or first cost of original units, or both. Properly speaking, actual cost is the first cost of the identical units now in use. In the past both the terms "actual cost" and "original cost" have been used, the term "original cost" being more frequently employed. The term "actual cost" should be substituted, as the term "original cost" appears to mean the first cost of the original units. Book cost would be the same as actual cost, i. e., the first cost

of the identical units now in use, assuming that approved accounting principles had been strictly applied from the initiation of the enterprise. Correct accounting principles are, however, of comparatively recent acceptance and application. Book costs as actually developed often include discount on securities issued, exorbitant profits to promoters, cost of replacing wornout or superseded property, dividends paid out of capital and money sunk in unsuccessful experiments. On the other hand, book cost may exclude various actual costs, such as improvements and betterments constructed out of earnings, and overhead construction charges included in operating expenses.

Original cost, or the first cost of the original units, is extremely difficult of ascertainment in the case of all the older enterprises. Accounts and records are lacking, and even if at hand would not necessarily be illuminating, inasmuch as the accounting principles and methods applied are not in evidence. A particular unit may have been replaced many times; there may be no record of the time when it was originally installed or of the character and quality of the unit when installed. To the first cost of the original unit there would be added or deducted at the time of successive replacements the proportion of the cost of the new unit represented by any increase or diminution in the capacity of such unit. When a street car with a carrying capacity of 24 is replaced by one having a carrying capacity of 30, one-fifth of the cost of the new car would be added to capital cost. When in turn the 30 passenger car came to be replaced by a 40 passenger car, one-fourth of the cost of such new car would be added to capital cost. Thus the determination of original cost in this sense would require a complete knowledge of the physical and accounting history of the enterprise.

If actual cost be taken in the sense of original cost or first cost of the original unit, it may be ruled out as impracticable of ascertainment in the majority of cases. Under approved accounting principles, however, actual cost is not the first cost of the original unit, but the first cost of the identical unit now in use. Under approved accounting methods, when a given unit is replaced, the cost of the replaced unit is deducted from the capital account and the cost of the new unit is added to capital account. Thus the true book cost corresponds with the first cost of the identical unit now in use. This greatly simplifies the problem of determining actual cost.

Assuming that existing accounts and records may be only partially relied upon, an estimate of actual cost can be ascertained by much the same methods and with greater accuracy than an estimate of reproduction cost. The first essential in either case is a complete inventory of property units in use. A second requirement in both cases is the determination of the approximate time at which each such unit was installed. This information is essential under the reproduction method in order to determine the age and accrued depreciation of each unit or class of units. It is essential under the actual cost method in order that unit costs varying with the period of purchase may be applied. Records are available showing for any period the prevailing prices of labor and materials entering into construction costs. From such records, supplemented in many cases by fragmentary data obtainable from the books of the company, it is possible to apply unit costs. In the electrical industries particularly, a large part of the property is short-lived, so that even if records are at hand for the past five or ten years, only data that will fix within narrow limits the actual cost of a large proportion of the existing property can be ascertained. The actual cost of land, even in the case of old enterprises, can often be obtained from the company's records. If such records are entirely lacking, the value of the land at the time of its purchase may be estimated from tax assessments and records of purchases and sales at the time. Such an estimate will, in most cases, come nearer to the true purchase price than present estimates of reproduction cost of the land will come to the true reproduction cost. A succinct statement of the method to be employed by the engineer in estimating actual cost is contained in a recent book by Hammond V. Hayes, entitled "Public Utilities, their Cost New and Depreciation" (at page 108):

"By far the larger part of these difficulties is removed if the original cost is determined in substantially the same manner as was the replacement cost. An inventory is prepared showing all plant units now in useful service. Such an inventory is identical with that required for ascertaining replacement cost. The age of each unit is ascertained and entered in the inventory. As will be explained later, this figure for age is necessary for a determination of the loss in value of the investment arising from depreciation. From this age figure it is possible to find how many units of each class of elements were constructed in each year in

the past. The engineer and an accountant familiar with the company's records can ascertain the unit costs of all elements for each year in the past. The sum of the products of the numbers of units constructed each year by the unit costs for that year will give the original cost. Overhead charges can be found for each year and applied to the cost of construction each year in a manner similar in all respects to that described under replacement cost. Thus it is seen that the method of determining original cost is practically the same as replacement cost, except that in the case of the original cost there are several unit costs, one for each year in the past, for each element, whereas for replacement cost there is but one unit cost applicable to all units of the same kind.”

If public service industries were not already long established and our problem was that of devising a general policy that would serve as an adequate but not excessive inducement to obtain the establishment of the desired services, it seems clear that the actual and necessary outlay would naturally be taken as the normal capital cost upon which a fair rate of return would be allowed. The future cost of production of the service in a particular community would therefore depend somewhat on the prices of land, labor, and materials prevailing at the time the particular plant was established or last renewed. This seems natural and fair. The normal price of a virtual monopoly is necessarily something of an average. It cannot be determined wholly without reference either to past or future. The normal price is not the present moment hypothetical cost of production, assuming a reproduction at the present moment of the existing plant. Utilities requiring a large fixed investment cannot be permanently carried on on this basis, with justice to the investor and economy to the public.

But our public service industries have for the most part been long established. A vested right to increments, especially in land values, is claimed. In the past, theories of public control have been but vaguely formulated and very imperfectly applied. Consequently many believe that the cost of reproduction method of determining capital cost or fair value is essential as a starting point, but for the future, fluctuations in the price of land, labor, and materials should result neither in an unearned increment nor an unmerited loss to the investor.

What is equitable and just as regards the past depends upon the nature of the implied understanding between the public utility and