§ 331. The various theories suggested. 332. Comparison of these theories of capital charge. 333. Cost of reproduction as a basis. 334. Money invested as a basis. 335. Outstanding capitalization as a basis. 336. Present value as a basis. 337. Competition of these different theories. TOPIC B-THE ORIGINAL COST AS THE BASIS OF REGULATION BY THE COMMON LAW. § 338. The investment as the capital entitled to return. 339. Argument for the rule of total investment. 340. What is the actual cost. 341. Cost to the public service company enhanced by fraudulent contract. 342. Unwise construction. 343. Plant unnecessarily large. 344. Portion of plant not yet in use. 345. Cost of unsuccessful experiments. TOPIC C- -OUTSTANDING CAPITALIZATION INCONCLUSIVE. § 346. Watered stock. 347. Nominal capitalization inconclusive. 348. Stock issues outstanding deceptive. 349. Bonded indebtedness beyond present value of security. 350. Cost of buying up constituent roads of the present system and converting them to electric roads. TOPIC DPRESENT VALUE AS THE BASIS OF REGULATION BY LEGISLATION. § 351. Power to set aside a statutory rate. 352. Constitutional requirements. 353. Original cost not necessarily the basis of capitalization. 354. Present value may be shown to be less than actual cost. 355. Original cost as evidence of actual value. 356. Value returned for taxation not conclusive. 357. Elements entering into the determination of present value. TOPIC E-THE COST OF REPRODUCTION AS THE BASIS OF VALUE. § 358. The rule in Minnesota. 359. Methods of the Texas commission arriving at replacement value. 360. The rule held unreasonable by Federal Courts. 361. Explanation of the California decisions. TOPIC F-FRANCHISE AND GOOD-WILL, WHETHER ENTITLED TO BE CONSIDERED. § 362. Value of franchise not considered in estimating rates. 363. Value of franchise as basis for taxation. 364. Value of franchise when the property is bought. 365. Value of an exclusive franchise. 366. Value of a non-exclusive franchise. 367. Value of a practically exclusive franchise. 368. Physical adaptation to a going business. 369. Value as a going concern. 370. Value of "going business" whether entitled to a return. 371. Consideration given to the entrepreneur. TOPIC AENUMERATION OF THE THEORIES FOR ESTIMATING 331. The various theories suggested. In order to decide upon what principles the amount of capital invested in the business of a carrier and entitled to a return should be estimated, it is important in the first place to state with precision and to examine with care the various theories which have been suggested for determining the amount. There has been no agreement of all the authorities on this question, and no theory can be preferred (if indeed any one theory can properly be adopted) until all have been considered. An excellent enumeration of the various theories for determining the true capital was made by the Railroad Commission of Massachusetts.1 It may be summarized thus: There are two bases on which, in a case like this, purchased railway properties can be capitalized: (1) their fair value without regard to the cost; and (2) their actual cost to the purchasers. There is a manifest difference between the two bases, and the one or the other will have to be selected as the correct basis. It may be well, in the first place, to consider how, and with what results, each may be applied to the facts of the present case. (1) If it be assumed, as the petitioner contends, that the "fair value" is the right basis, we at once encounter the question how this value is to be ascertained. (i) The original cost of the property. From this must be deducted an allowance for depreciation, if the plant has not been kept in good condition; and allowance must also be made for a decrease, if any, in the price of materials since the construction. (ii) The structural value of the property, by which is meant "the value of the railway as a structure for service and wear, and not its speculative value based on the probable amount of its traffic and earnings. The former, which may be called the structural value, is measured by the present cost of building and equipping a new railway of the same description and physical character, with a proper deduction for such depreciation as has taken place in the railway under valuation." (iii) The earning capacity of the property, which may be based on past experience, partly on expert prophecy. (iv) The market value of the property, which might be indicated by the price obtained upon an auction sale of the property. (2) The other basis of capitalization, actual cost, means the 1 In re Interstate Consolidated St. Ry., Mass. R. R. Coms. 1896, 165. amount which the purchased properties have actually cost the corporation or its stockholders in cash, including not only the specific price, but such other legitimate and necessary cash expenditures as actually and in good faith have been incurred in effecting the purchase, securing the title, and putting the railways in fit condition for use. One sees that in the above enumeration all possible theories of capital charge in which there is any sense have been stated by the Massachusetts commission. Each of these proposed bases for capitalization will be considered in detail in this chapter, for each of them has its advocates, as one who has followed the current discussions of the problem will know. § 332. Comparison of these theories of capital charge. Within a few years the Interstate Commerce Commission had occasion to inquire into the justification for the advance in freight rates, which was being made by the trunk lines, in respect to many parts of their schedules. It was urged by counsel that the railroads should have the right to advance rates until it was shown that they were earning more than a fair return upon their then actual capitalization. The commission therefore felt called upon to indicate their views upon this troublesome question of the proper basis of capital charges. They discussed and criticised all of the existing theories, and to make clear their transitions, these diverse theories are indicated by numbers as they appear in the rather extended quotation from their opinion which follows. § 333. Cost of reproduction as a basis. 2 [1]"The cost of reproducing railway property has been suggested as a basis upon which return should be allowed. But this, while of great assistance in arriving at a just result, could not be taken as an exclusive guide. Many of our railways were 2 Re Advance in Freight Rates, 9 I. C. C. Rep. 391 (1902). built years ago, when the cost of construction was much greater than now. In the development of that industry they have been reconstructed and improved. The first outlay has perhaps been rendered practically worthless, and a railway honestly managed, never having paid excessive dividends, may actually represent to-day much more money than the present cost of building. Those who originally invested their money in this enterprise and have kept pace with the public necessities ought not to be required to bear the entire burden of this shrinkage. Moreover, the value of a railway system does not depend upon the mere cost of its embankment or its equipment. It is rather a question of location, of connections, of terminal facilities, of enterprises along its line; and shall nothing be allowed to the foresight and ability which have marked out and perfected that system?" 3 334. Money invested as a basis. [2] "It is often urged that the money actually invested in a railway ought to furnish a basis upon which returns should be made, and this is at first thought a plausible suggestion and might in many cases be a reasonably just one. In many cases it would not. It was said in argument before the commission recently that the capitalization of the Mobile & Ohio Railway represented the actual money which had been invested in that property, and no more. This road was largely obliterated by the civil war, and was operated at great loss during that war. All this is now represented in its capital stock. Should the stockholders of that railway company be indemnified for the loss of their property when almost every species of property in that section was destroyed. Where there is no question of war, or its devastations, the money actually paid into a railway property may represent all manner of waste and extravagance. Clearly the public ought not to pay this." 4 3 Re Advance in Freight Rate, supra. 4 Re Advance in Freight Rates, supra. See §§ 358-361, infra. |