factor in fixing the basis for computing fair and reasonable rates." 15 To require that reproduction cost at the date of the rate hearing be given weight in fixing the rate base may subject investors to heavy losses when the high war and postwar price levels pass and the price trend is again downward.16 The aggregate of the investments which have already been made at high

15 Bay State Rate Case, 4 Ann. Rep. Mass. P. S. C. 3, P.U.R.1916F, 221, 233. And see ibid. for a quotation from an address delivered at the "Conference on Valuation" in Philadelphia, November, 1915, in which the late John M. Eshleman, first president of the California Railroad Commission, said: "If we had this problem at the beginning, and were not attacking it in the middle, we would have no difficulty in agreeing with the holder of capital upon this subject, for he would quite readily agree to take the cost of doing the business plus an earning upon the money actually invested comparable to the earning offered in other available investments. Therefore, the cost of doing the business, plus a return upon the capital necessarily invested in the business, which return shall be as great as is offered in other businesses of similar hazard, is all that ought to be accorded for the future, and it is all that will be accorded if the public has any business sense. And if more is asked by the private owner, then he may expect no sympathy when he finds the public his competitor and his earning power impaired."

No case involving the fixing of rates by a commission has ever come to this court from New England. The only case involving in any way the validity of rates is Interstate Consolidated Street R. Co. v. Massachusetts, 207 U. S. 79, 52 L. ed. 111, 28 Sup. Ct. Rep. 26, 12 Ann. Cas. 555.

See also Re Cripple Creek Water Co. (Colo.) P.U.R.1916C, 788, 799, 800; Butler v. Lewiston, A. & W. Street R. Co. (Me.) P.U.R.1916D, 25, 35.

16 Engineers testifying in recent rate cases have assumed that there will be a new plateau of prices. In Galveston Electric Co. v. Galveston, 258 U. S. 388, 66 L. ed. 678, 42 Sup. Ct. Rep. 351, the company contended that a plateau 70 per cent above the price level of 1914 should be accepted, and a plateau 33 per cent above was found probable by the master and assumed to be such by the lower court. In Bluefield Water Works & Improv. Co. v. Public

costs since 1914, and of those which will be made before prices and costs can fall heavily, may soon exceed by far the depreciated value of all the public utility investments made theretofore at relatively low cost. For it must be borne in mind that depreciation is an annual charge. That accrued on plants constructed in the long years prior to 1914 is much larger than that accruing on Service Commission (No. 256, October Term, 1922 [261 U. S. 679, 67 L. ed. 1176, 43 Sup. Ct. Rep. 675]), one 50 per cent above the 1914 level was contended for; in the case at bar a plateau 25 per cent above. But for the assumption that there will be a plateau, there is no basis in American experience. The course of prices for the last one hundred and twelve years indicates, on the contrary, that there may be a practically continuous decline for nearly a generation; that the present price level may fall to that of 1914 within a decade; and that, later, it may fall much lower. Prices rose steadily (with but slight and short recessions) for the twenty years before the United States entered the World War. From the low level of 1897 they rose 21 per cent to 1900; then rose further (with minor fluctuations, representing times of good business or bad) and reached in 1914 a point 50 per cent above the 1897 level. Then the great rise incident to the war set in. "Wholesale Prices, 1890 to 1921," U. S. Department of Labor, Bureau of Labor Statistics, Bulletin No. 320, pp. 9-26. These are averages of the wholesale prices of all commodities. In the Bureau chart the 1913 prices are taken as the datum line (100). As compared with them the 1897 level was 67, the 1900 level 81. The chart on page 10 of the pamphlet entitled, "Price Changes and Business Prospects," published by the Cleveland Trust Company, gives price fluctuations for the one hundred and ten years prior to 1921. It shows three abrupt rises in the price level, by reason of war; and some less abrupt falls, by reason of financial panic. These may be called abnormal. But the normal has never been a plateau. The chart shows that the peak price levels were practically the same during the War of 1812, the Civil War, and the World War; and it shows that practically continuous declines, for about thirty years, followed the first two wars. The experience after the third may be similar.

the properties installed in the shorter period since.17

That part of the rule of Smyth v. Ames which fixes the rate of return deemed fair at the percentage customarily paid on similar investments at the time of the rate hearing also exposes the investor and the public to danger of serious injustice. If the replacement-cost measure of value and the prevailing-rate measure of fairness of return should be applied, a company which raised, in 1920, for additions to plant, $1,000,000 on a 9 per cent basis, by a stock issue, or by long-term bond issue, may find, a decade later, that the value of the plant (disregarding depreciation) is only $600,000, and that the fair return on money then invested in such enterprise is only 6 per cent. Under the test of a compensatory rate, urged in reliance upon Smyth v. Ames, a prescribed rate would not be confiscatory if it appeared that the utility could earn under it $36,000 a year, whereas $90,000 would be required to earn the capital charges. On the other hand, if a plant had been built in times of low costs, at $1,000,000, and the capital had been raised to the extent of $750,000 by an issue at par of 5 per cent thirty-year bonds, and to the extent of $250,000 by stock at par, and ten years later the price level was 75 per cent higher and the interest rates 8 per cent, it would be a fantastic result to hold that a rate was confiscatory unless it yielded 8 per cent on the then reproduction cost of $1,750,000. For that

17 The new enterprises undertaken at the present high level, or projected, are many; among them, development and longdistance transmission of hydroelectric power, and of electric power generated at the coal mines. Moreover, nearly every utility now existing must make expenditures upon its plant to provide improvements, additions, or extensions. The growth of our communities, and increase in the demands of the individual, constantly compel enlargement of a utility's facilities.

would yield an income of $140,000, which would give the bondholders $37,500; and to the holders of the $250,000 stock, $102,500,-a return of 41 per cent per annum. Money required to establish in 1920 many necessary plants has cost the utility 10 per cent on thirty-year bonds. These long-time securities, issued to raise needed capital, will, in 1930 and thereafter, continue to bear the extra high rates of interest which it was necessary to offer in 1920 in order to secure the required capital. The prevailing rate for such investments may, in 1930, be only 7 per cent, or, indeed, 6 per cent, as it was found to be in 1904, in Stanislaus County v. San Joaquin & K. River Canal & Irrig. Co. 192 U. S. 201, 48 L. ed. 406, 24 Sup. Ct. Rep. 241; in 1909, in Knoxville v. Knoxville Water Co. 212 U. S. 1, 53 L. ed. 371, 29 Sup. Ct. Rep. 148; and in 1912, in Cedar Rapids Gaslight Co. v. Cedar Rapids, 223 U. S. 655, 670, 56 L. ed. 594, 32 Sup. Ct. Rep. 389. A rule which limits the guaranteed rate of return on utility investments to that which may prevail at the time of the rate hearing may fall far short of the capital charge then resting upon the company.

In essence, there is no difference between the capital charge and operating expenses, depreciation, and taxes. Each is a part of the current cost of supplying the service, and each should be met from current income. When the capital charges are for interest on the floating debt paid at the current rate, this is readily war was at prices for labor and materials 120 per cent above those prevailing in 1914. Recent construction was at prices 70 per cent higher. If replacement cost should become the measure of the rate base, the return on enterprises entered upon after 1914 would, obviously, be imperiled. And a serious decline of the price level would subject the return on many utilities established earlier to like dangers. A collapse of public-utility values might And the impairment of publicutility credit might be followed by the cessation of extensions and new undertakings.

seen. But it is no less true of a legal obligation to pay interest on longterm bonds, entered into years before the rate hearing, and to continue for years thereafter; and it is true also of the economic obligation to pay dividends on stock, preferred or common. The necessary cost, and hence the capital charge, of the money embarked recently in utilities, and of that which may be invested in the near future, may be more, as it may be less, than the prevailing rate of return required to induce capital to enter upon like enterprises at the time of a rate hearing ten years hence. To fix the return by the rate which happens to prevail at such future day opens the door to great hardships. Where the financing has been proper, the cost to the utility of the capital required to construct, equip, and operate its plant should measure the rate of return which the Constitution guarantees opportunity to earn.18

The adoption of the amount prudently invested as the rate base and the amount of the capital charge as the measure of the rate of return would give definiteness to these two factors involved in rate controversies which are now shifting and treacherous, and which render the proceedings peculiarly burdensome and largely futile. Such measures offer a basis for decision which is certain and stable. The rate base would be ascertained as a fact, not determined as matter of opinion. It would not fluctuate with the market price of labor, or materials, or money. It would not change with hard times or shifting populations. It would not be distorted by the fickle and varying judgments of appraisers, commissions, or courts.

18 The community may, of course, demand, in respect to financing, as in respect to operation, that the right to earn a fair return be limited by the requirement that reasonable efficiency be exercised.

19 Of course, anyone who chances to have money to invest when money rates are high gets the advantage incident to investing in a favorable market. If he

It would, when once made in respect to any utility, be fixed for all time, subject only to increases to represent additions to plant, after allowance for the depreciation included in the annual operating charges. The wild uncertainties of the present method of fixing the rate base under the so-called rule of Smyth v. Ames would be avoided; and likewise the fluctuations which introduce into the enterprise unnecessary elements of speculation, create useless expense, and impose upon the public a heavy, unnecessary burden.

In speculative enterprises the capital cost of money is always high; partly because the risks involved must be covered; partly because speculative enterprises appeal only to the relatively small number of investors who are unwilling to accept a low return on their capital. It is to the interest both of the utility and of the community that the capital be obtained at as low a cost as possible. About 75 per cent of the capital invested in utilities is represented by bonds. He who buys bonds seeks primarily safety. If he can obtain it, he is content with a low rate of interest. Through a fluctuating rate base the bondholder can only lose. He can receive no benefit from a rule which increases the rate base as the price level rises; for his return, expressed in dollars, would be the same, whatever the income of the company.19 That the stockholder does not in fact receive an increased return in time of rapidly rising prices under the rule of Smyth v. Ames, as applied, the financial record of the last six years demonstrates. But the burden upon the community is heavy, because the risk makes the capital cost high.

invests in utility bonds, the higher agreed return upon his capital would be provided for by a rule which measures fair return by capital charges, as suggested above. If he elects to invest in the stock, he would, under the rule suggested, have the opportunity of earning a return commensurate with the value of the capital at the time it was embarked as stock in the enterprise.

The expense and loss now incident to recurrent rate controversies is also very large. The most serious vice of the present rule for fixing the rate base is not the existing uncertainty, but that the method does not lead to certainty. Under it, the value for rate-making purposes must ever be an unstable factor. Instability is a standing menace of renewed controversy. The direct expense to the utility of maintaining an army of experts and of counsel is appalling. The indirect cost is far greater. The attention of officials, high and low, is, necessarily, diverted from the constructive tasks of efficient operation and of development. The public relations of the utility to the community are apt to become more and more strained. And a victory for the utility may, in the end, prove more disastrous than defeat would have been. The community defeated, but unconvinced, remembers; and may refuse aid when the company has occasion later to require its consent or cooperation in the conduct and development of its enterprise. ControControversy with utilities is obviously injurious also to the public interest. The prime needs of the community are that facilities be ample and that rates be as low and as stable as possible. The community can get cheap service from private companies only through cheap capital. It can get efficient service only if managers of the utility are free to devote themselves to problems of operation and of development. It can get ample service through private companies only if investors may be assured of receiving continuously a fair return upon the investment.

What is now termed the "prudent investment" is, in essence, the same thing as that which the court has

20 Compare Mr. Justice Field in Railroad Commission Cases, 116 U. S. 307, 343, 344, 29 L. ed. 636, 648, 6 Sup. Ct. Rep. 334, 388, 1191; Mr. Justice Harlan, id. p. 341; Dow v. Beidelman, 125 U. S. 680, 690, 691, 31 L. ed. 841, 844, 2 Inters. Com. Rep. 56, 8 Sup. Ct. Rep. 1028; and Reagan v. Farmers' Loan & T. Co. 154

always sought to protect in using the term "present value." 20 Twenty-five years ago, when Smyth v. Ames was decided, it was impossible to ascertain with accuracy, in respect to most of the utilities, in most of the states in which rate controversies arose, what it cost in money to establish the utility, or what the money cost with which the utility was established, or what income had been earned by it, or how the income had been expended. It was, therefore, not feasible then to adopt, as the rate base, the amount properly invested, or, as the rate of fair return, the amount of the capital charge. Now the situation is fundamentally different. These amounts are now readily ascertainable in respect to a large and rapidly increasing proportion of the utilities. The change in this respect is due to the enlargement, meanwhile, of the powers and functions of state utility commissions. The issue of securities is now, and for many years has been, under the control of commissions, in the leading states. Hence, the amount of capital raised (since the conferring of these powers) and its cost are definitely known, through current supervision, and prescribed accounts, supplemented by inspection of the commission's engineering force. knowledge concerning the investment of that part of the capital raised and expended before these broad functions were exercised by the utility commissions has been secured, in many cases, through investigations undertaken later, in connection with the issue of new securities or the regulation of rates. The amount and disposition of current earnings of all the companies are also known. It is, therefore, feasible now to adopt, as the measU. S. 362, 409, 412, 38 L. ed. 1014, 1027, 1028, 4 Inters. Com. Rep. 560, 14 Sup. Ct. Rep. 1047, where the necessity of limiting the broad power of regulation enunciated in Munn v. Illinois, 94 U. S. 113, 24 L. ed. 77, was first given expression. See also, "Public Utilities, Their Cost New and Depreciation," by H. V. Hayes, pp. 255. 256.

Like

ure of a compensatory rate, the annual cost, or charge, of the capital prudently invested in the utility." And, hence, it should be done.

"Value" is a word of many meanings. That with which commissions and courts in these proceedings are concerned, in so-called confiscation cases, is a special value for ratemaking purposes,-not exchange value. This is illustrated by our decisions which deal with the elements to be included in fixing the rate base. In Cedar Rapids Gaslight Co. v. Cedar Rapids, 223 U. S. 655, 669, 56 L. ed. 594, 604, 32 Sup. Ct. Rep. 389; and Des Moines Gas Co. v. Des Moines, 238 U. S. 153, 165, 59 L. ed. 1244, 1250, P.U.R.1915D, 577, 35 Sup. Ct. Rep. 811, good will and franchise value were excluded from the rate base in determining whether the prescribed charges of the public utility were confiscatory. In Galveston Electric Co. v. Galveston, 258 U. S. 388, 66 L. ed. 678, 42 Sup. Ct. Rep. 351, the cost of developing the business as a financially successful concern was excluded from the rate base. In Des Moines Gas Co. v. Des Moines, 238 U. S. 153, 171, 59 L. ed. 1244, 1253, P.U.R.1915D, 577, 35 Sup. Ct. Rep. 811, the fact that the street had been paved (and hence the reproduction cost of laying gas mains greatly increased) was not allowed as an element of

21 In 1898, when Smyth v. Ames was decided, only one state-Massachusettshad control by commission of the issue of securities by all public-utility companies. (New Hampshire controlled security issues of railroads and street railways; Maine and New York controlled increase of capital stock by railroads; and Connecticut, the issue of bonds by railroads.) In 1923 at least twenty-four states and the District of Columbia controlled through commissions the issue of securities of public-utility companies. Legislation for 1923 and 1922 (in part) has not been available. Other states may have legislated on the subject in 1923 or 1922.

In 1898 no state had control by commission of the accounting of all public utilities. Massachusetts controlled the accounting of gas, electric light, street 1ailway, and railroad companies; Iowa, of

value. But, obviously, good will and franchise value are important elements when exchange value is involved. And where the community acquires a public utility by purchase or condemnation, compensation must be made for its good will and earning power; at least, under some circumstances. Omaha v. Omaha Water Co. 218 U. S. 180, 202, 203, 54 L. ed. 991, 1000, 1001, 48 L.R.A. (N.S.) 1084, 30 Sup. Ct. Rep. 615; National Waterworks Co. v. Kansas City, 27 L.R.A. 827, 10 C. C. A. 653, 27 U. S. App. 165, 62 Fed. 853, 865. Likewise, as between buyer and seller, the good will and earning power due to effective organization are often more important elements than tangible property. These cases would seem to require rejection of a rule which measured the rate base by cost of reproduction, or by value in its ordinary sense.

The rule by which the utilities are seeking to measure the return is, in essence, reproduction cost of the utility, or prudent investment, whichever is the higher. This is indicated by the instructions contained in the Special Report on Valuation of Public Utilities, made to the American Society of Civil Engineers, October 28, 1916, Proceedings, vol. 42:

"So long as the company owner keeps a sum equivalent to the total railways and carriers; New York, Texas, and Vermont, of railroads only. In 1923 at least thirty-six states and the District of Columbia controlled through commissions the accounting of public-utility companies.

In 1898, only one state-Massachusetts -exercised, through a commission, control of all public utilities. In 1923 such control is exercised in at least thirty-nine states and the District of Columbia. This does not include those states exercising commission control over railroads and related utilities, such as street railways, express companies, telephone and telegraph companies. These states number forty-seven. The number of states having commission control of railroads in 1898 was twenty-seven. In 1922 every state except Delaware had commission control of railroads.