In January 1918 the American Telephone and Telegraph Company notified each of the licensees and offered to make the originating commission 25 per cent not to exceed 20 cents on any one message where the licensee did the operating, and not to exceed 12 cents on any one message where the American Telephone and Telegraph Company did the operating. The American Telephone and Telegraph Company reserved the right to discontinue this arrangement at its election. It has been continued in force up to this time.

Independent companies have recognized the benefits of this contract. The Consolidated Telephone Company of Pennsylvania, operating in and around Wilkesbarre, Scranton and Reading, voluntarily entered into the license contract, although not a controlled company; the same is true with regard to the Cincinnati Company, operating in the city of Cincinnati and surrounding territory, and the Southern New England Telephone Company, operating in the state of Connecticut. The last mentioned company made a license contract with the American Bell Company in 1885 and at that time 35 per cent of its stock was given to the licensor company. Today the American Telephone and Telegraph Company owns one-third of the stock of the Southern New England Telephone Company and the remainder is owned by 3671 stockholders. The company in 1921 had 182,000 stations and a total yearly income of $8,080,000. The president of the Southern New England Company testified that the services rendered were valuable to his company and that he did not know of any other means of securing similar services.

From the evidence we believe that the license contract with the American Telephone and Telegraph Company is of benefit to the New York Telephone Company. We do not say that it has been worth less in the past than it has cost the New York Telephone Company. The basis of payment under the contract, however, is not proper under the existing circumstances. Under the 412 per cent basis of payment, if the cost of materials or the wages of employees increase, rates necessarily follow the same course, and the license payment to the American Telephone and Telegraph Company increases in proportion. As an illustration of this, in 1921 the former Public Service Commission granted, on the application of the New York Telephone Company, certain rate increases affecting the city of New York. The New York Telephone Company petitioned for such increases on the ground that it was necessary to raise the wages of its operating force to retain the operators under the then existing conditions in the labor market. The increases in rates so granted totaled more than $11,000,000 per year; and the American Telephone and Telegraph Company was thus a beneficiary, because operators' wages were increased, in an annual amount of more than $450,000.

Any method allowing the computation of a license payment on gross revenues necessarily tends to increase expenses automatically with rate increases. The more the revenues, the more the charge against those revenues, and the more the rates; such calculations constitute a never ending progression. "The value of the use as

measured by return, cannot be the criterion when the return itself is in question." (Minnesota Rate Cases, 230 U. S. 461.)

The payments made for services under this contract should be so far as possible definitely related to the services performed. If the license payment be thus allocated it may not bring about material reductions in telephone rates, but it will, nevertheless, by providing for payments bearing a more direct relation to the services rendered, tend to remove the suspicious uncertainty with which the 412 per cent contract has been regarded.

If there were no contract, the New York Telephone Company would buy its instruments and charge the cost to capital account. Only repair and depreciation would be charged to Operating Expenses. Payments for instrument services can be put upon such a basis.

INSTRUMENT CHARGES

Average fair annual cost of transmitter, receiver and induction coil,
taking into consideration past and present market prices and prob-
able trend of prices in the future.
Return on investment....

Depreciation and replacement expense.
Maintenance and repairs.

Taxes

Administration and general expenses.
Contingencies

Total

Annual cost

$4.00

8%

8%

3%

2%

1%

12%

2312%

.94

The annual cost as above must be increased to provide a surplus of instruments to ensure continuity of supply (in shops and storerooms), and also to provide special telephone instruments such as operators' sets, plant testing sets, etc. Allowing 6%1 increase

1

for this item Thus, the fair total annual cost per station in service for transmitter, receiver and induction coil would be $.996 or $1.00.2

1 See license contract. 2 See Appendix I.

.056

The benefits to the associated companies, including the New York Telephone Company, from the money spent for national advertising by the American Telephone and Telegraph Company may seem rather remote, yet this Commission would hesitate to say that the New York Telephone Company, as a unit of the Bell System, does not receive benefits, in a business way, from these expenditures.

The research and development services are for the benefit of all the associated companies. An obligation is imposed upon the entire Bell System to keep abreast of development in the art of telephony and to pursue all reasonable research and investigation because each associated company enjoys, in its field, a practical monopoly. Enjoyment of a monopoly carries with it the duty of giving the best possible service. This work as carried on by the general staff has resulted in the improvement of telephone service throughout the entire Bell System. The same may be said of the

expenditures for accounting, legal, commercial, engineering, operating, executive, relief department and pension system services. The benefits to the New York Telephone Company from these services are apparent, but it should not pay more than its proper proportion of the fair annual costs.

So far as the loans to the New York Telephone Company and moneys held in reserve for loans are concerned, the arrangement is at present of greater value to the New York Telephone Company as a part of the Bell System than to the New York Telephone Company standing alone. The fact that it can borrow money from the American Telephone and Telegraph Company at a flat rate of 5.88 per cent has been of much value to the New York Telephone Company in the past and may be so again in the future. At present it makes little practical difference from the rate-making viewpoint whether the New York Telephone Company continues the present arrangement or finances itself. The difference between what it would cost to finance itself and what it costs under the license contract can be fairly accurately estimated. And it is the same with moneys held in reserve for loans. This large cash reserve is of the greatest benefit to the American Telephone and Telegraph Company because it operates to give financial prestige and stability to the entire Bell System. But the New York Telephone Company is the largest telephone company in the United States. It operates in the most fertile telephone field. Its latest offering of preferred stock (paying 62 per cent) was over-subscribed 8 times. It has proven its present ability to finance itself. As a public utility it should not pay for something it does not need or have, or for moneys held in reserve by the parent company which are not used and useful in the public service in the State of New York.

The costs of patents and patent rights have already been paid. They are written off the books of the American Telephone and Telegraph Company. They have been incurred for the benefit of the entire system and such future costs as may arise in connection therewith might properly be added in the prices charged by the Western Electric Company for articles manufactured under these patents, and the cost reflected in the capital account of the associated companies; the savings, because of their use, if any, inuring to the benefit of the associated companies and of the American Telephone and Telegraph Company as the principal stockholder in those companies.

The fact that universal connection is possible with all other telephones in the Bell System, under the license agreement, is extremely important and valuable. But it works to the advantage of the American Telephone and Telegraph Company, as the owner of the Long Lines Department, quite as much as to the advantage of any associated company. No method of computation could place a valuation to the New York Telephone Company on this service. Payment therefor comes to the American Telephone and Telegraph Company in its dividends on stock of the associated

companies, including the Long Lines Department, and in view of the dividend history of the parent company, we must assume that this payment has been compensatory and fair.

We are of the opinion, after the most careful consideration of all these matters, the benefits to the New York Telephone Company in the past, the present need for a continuance of the services, and the probable future value of the services to the New York Telephone Company, that it should pay to the American Telephone and Telegraph Company, instead of 42 per cent of its gross revenues, the fair costs of furnishing instrument services and its proportionate share, as near as it may be arrived at, of the cost of such other services rendered as are of benefit and advantage to the New York Telephone Company. To pay more than this would be unfair and discriminatory to subscribers of the New York Telephone Company; to pay less would in effect be a repudiation of a contract which has been of the greatest value to all telephone. users and to the entire telephone business of the country.

In arriving at such proportionate share the best unit upon which to base the payment seems to be that of the company station, because, in the main, the larger the company, the greater its station development and, other things being equal, the greater the amount and cost of the services required and furnished.

If payment under the license contract to the American Telephone and Telegraph Company be placed on such a basis, the amount of the annual payment will not fluctuate directly with changes in revenue or in rates. We therefore find that, in the future period for which the rates herein ordered are to be effective, the payment by the New York Telephone Company to the American Telephone and Telegraph Company, for instrument services and all other services now rendered under the license contract should be as follows:

Fair annual cost per station for instrument services.
Fair annual cost per station of all other services.

Total

$1

1

$2

It is of course understood that, as a matter of law, the discretion of the directors of the New York Telephone Company, in entering upon this license contract, without proof of fraud or unreasonableness, is controlling; and that we may not substitute our judgment for theirs on such matters. The power of regulation is not the power of management. (People v. Stevens, 197 N. Y. 1; Northern Pacific Railway Co. v. North Dakota, 236 U. S. 585.)

Under the law we can not rewrite this contract, but we can and do say that annual payments under the contract, as a revenue deduction, for all practical purposes an operating expense, in the fixing of rates for the future, should not exceed $2 per company station in service in this State.

LONG LINES DEPARTMENT, TOLL ARRANGEMENT The Long Lines Department of the American Telephone and Telegraph Company has central office equipment located in a number of cities within the State of New York, with test board apparatus, power plants, etc., and owns and operates toll lines for long distance business within the State. These lines are units of long haul toll lines carrying interstate toll business. It has lines. on either side of the Hudson river from New York to Albany, extending northerly to Montreal, with branches to Connecticut, Rhode Island, Massachusetts and Vermont; and through lines to Buffalo generally following the lines of the New York Central railroad; lines through New Jersey and Pennsylvania via Scranton to Buffalo; lines from Syracuse to Ogdensburg, from Syracuse southerly through the central part of the State to Binghamton, from Albany to Binghamton, and from various cities in the central part of the State southerly through Elmira to Scranton and Baltimore.

In the early development of the telephone business in New York state, these toll lines were built by the American Telephone and Telegraph Company, or its predecessor, because the local operating companies were at the time unable or unwilling to construct such lines, and were giving their entire attention to the development of exchange business. Gradually, however, the cities which the local companies had developed, began to feed toll business to these American Telephone and Telegraph Company lines. While various licensee companies had short toll lines, the problem of switching calls from one company to the next, for more or less infrequent long distance toll business, presented so many difficulties, and the long distance toll business was so unattractive, in comparison with the greater volume of short haul toll business, that none of the licensee companies attempted to build long toll lines. The American Telephone and Telegraph Company, therefore, built through toll lines handling long distance calls between the larger centers such as Boston, New York, Buffalo, Chicago and St. Louis and naturally handled toll business between the various associated Bell companies. The development of the long distance toll lines in New York state has been in a natural, normal way. The American Telephone and Telegraph Company has built very few toll lines in addition to the lines carrying interstate traffic, except where it was apparent that the business could be handled more efficiently and economically by it than by the New York Telephone Company.

The present practice is to divide the money received by the New York Telephone Company for toll calls handled in part over its lines and in part over the lines of the American Telephone and Telegraph Company, or some other associate or connecting company. The net effect of this so far as subscribers are concerned, is that the same rates are charged for toll calls whether handled over New York Telephone Company lines or over American Tele