West v. Chesapeake Potomac Telephone Co of Baltimore City

• Decision Date: 03 June 1935
• Docket Number: No. 648,648
• Citation: 79 L.Ed. 1640,295 U.S. 662,55 S.Ct. 894
• Parties: WEST et al. v. CHESAPEAKE & POTOMAC TELEPHONE CO. OF BALTIMORE CITY
• Court: U.S. Supreme Court

295 U.S. 662

55 S.Ct. 894

79 L.Ed. 1640

WEST et al.

v CHESAPEAKE & POTOMAC TELEPHONE CO. OF BALTIMORE CITY.

No. 648.

Argued April 10, 11, 1935.

Decided June 3, 1935.

Appeal from the District Court of the United States for the District of Maryland.

[Syllabus from pages 662-664 intentionally omitted] Messrs. Richard F. Cleveland and John Henry Lewin, both of Baltimore, Md., for appellants.

Mr. Charles McHenry Howard, of Baltimore, Md., for appellee.

Mr. Justice ROBERTS delivered the opinion of the Court.

Early in 1933 the Public Service Commission of Maryland undertook an investigation of the rates and charges of the Chesapeake & Potomac Telephone Company of Baltimore, and after extended hearings entered an order November 28, 1933, directing the company to put into effect January 1, 1934, reductions in its rates, sufficient to diminish annual net income by $1,000,000. The company filed a bill in the District Court for temporary and final injunction; the application for interlocutory relief was heard by a court of three judges. A stipulation was made that the cause should be treated as upon final hearing and a decree was entered enjoining enforcement of the order.¹ This appeal challenges the court's action.

The commission determined the value of the property at December 31, 1932, as $32,621,190; estimated the net revenue for 1934 at $3,353,793; allowed for reasonable return 6 per cent. on value ($1,957,271), which the estimated revenue would exceed by $1,396,522. In view of the rise of the general price level during 1933, however, the commission required a reduction of but $1,000,000. In computing net income the commission accepted all the company's figures for current expense, except the annual allowance for depreciation; the amount claimed on this head being $2,173,000, and the sum allowed $1,720,724. The company insisted on a 7 1/2 per cent. return.

The controversy in the District Court revolved around three matters—value, annual depreciation expense, and rate of return. The court found the value of the property to be $39,541,921, the necessary depreciation expense $2,000,000, the probable net return under the commission's order $1,742,005, or at the rate of 4 1/2 per cent., as against 6 per cent., which the court held was the limit below which the return could not be reduced without confiscation.²

All of the figures stated embrace both intrastate and interstate business, but the parties stipulated that in respect of value, expense, and income, the former repre- sented 85 per cent. and the latter 15 per cent. of the total. As the commission dealt with the property as a whole, the parties, their witnesses, and the District Court found it convenient to do so, having in mind the fact that in the final result only 85 per cent. of the amounts involved reflected intrastate business and the commission's order must be limited accordingly. For similar reasons, and with a similar reservation, we shall pursue the same course. For the purposes of this proceeding the commission's order, therefore, is to be considered as requiring a diminution of income from intrastate operations by $850,000, rather than $1,000,000.

In 1916 the commission valued the property and prescribed rates. In 1923 the company applied for an increase, the commission after a hearing fixed value at approximately book cost, and refused to permit the rates to be raised. The District Court, pursuant to a bill filed by the company, found the actual value exceeded book value by some $6,000,000, and enjoined the commission from enforcing the current rates.³ The commission acquiesced in the decision and passed an order adopting the court's finding of value and establishing new rates. So matters stood until the initiation of the present investigation.

The company's books accurately show installations and retirements of plant and from them historical cost is ascertained to be $50,025,278 as of December 31, 1933, with a depreciation reserve of $11,483,357. The commission made no appraisal of the physical plant and property, but attempted to determine present value by translating the dollar value of the plant as it was found by the District Court in the earlier case at December 31, 1923, plus net additions in dollar value in each subsequent year, into an equivalent of dollar value at December 31, 1932. Its theory was this: Value signifies in rate regulation the investment in dollars on which a utility is entitled to earn. The dollars when invested were free units of exchange value having an earning significance then and now only because they are such units of exchange. When invested they represented in the plant so many poles, miles of wires, and other items of equipment; on the other hand, the same dollar units then represented certain quantities of government bonds, apartment houses, automobiles, food and services, etc. The dollars invested in the company's plant had no value unless they were exchangeable for other requirements and desires of the stockholders, and the corresponding requirements and desires of all persons who use the dollar as a measure of value. Thus a regulating body, in finding value, must find a number of universal units of earning power and purchasing power; that is, exchangeable dollars invested in place of present exchangeable dollars. How shall the relation be ascertained?

The commission thought it found the answer in commodity indices, prepared to show price trends. It selected sixteen of these, one covering as many as 784 commodities, falling into different classes, and weighted for averaging; others much less comprehensive; and its witness calculated by the use of each index the reduction in value of the company's assets considered as a conglomerate mass of dollar value from 1923, or subsequent date of acquisition, to 1932. As might be expected the results varied widely. The lowest value found by the use of any index was $24,983,624; the highest $36,056,408, 48 per cent. higher. The commission then weighted these sixteen indices upon a principle not disclosed, giving them weights of from one to four, and thus got a divisor of thirty-one for the total obtained by adding the weighted results of all. This gave what the commission styled its 'fair value index,' which it applied to the 1923 value of the property then owned and to cost of all net additions in subsequent years, to obtain value as of 1932. The result after adding some $660,000 for working capital, was a rate base of $32,621,190. The company submitted proof of estimated reproduction cost and accrued depreciation. The commission examined and criticized this evidence, but none was offered in opposition, and the valuation was based squarely on the figures obtained by the use of its index.

In the District Court the company offered evidence of historical cost and estimates of reproduction cost less depreciation; the commission relied solely upon the figure resulting from trending the dollar value of plant owned in 1923 and cost of net additions subsequently made. The court held the indices used inappropriate for determining present value and discarded them. It purported to consider both book cost and reproduction cost; but, in fact, as plainly appears from the opinion,⁴ derived present value by the use of two figures only book cost as at December 31, 1933 ($50,025,278), less the entire depreciation reserve shown by the books ($11,483,357)—and thus fixed value at $38,541,921. To this it added $1,000,000, for working capital (instead of $660,000 allowed by the commission), giving a rate base of $39,541,921. Annual depreciation expense was raised from $1,352,284 as determined by the commission to $2,000,000. The appellants charge that in all these respects the court's action was arbitrary and cannot stand. We are not satisfied with the methods pursued either by the court or the commission.

First. The commission took the value of the physical plant in 1923 (exclusive of the then depreciation reserve), $35,147,912, and trended it to $23,689,693 as of 1932. It took annual net additions to plant (exclusive of depreciation reserves) and similarly trended them. This gave plant value exclusive of the plant represented in the depreciation reserve. It took the depreciation reserve as at 1923 (invested in plant) and the yearly net additions to the reserve and trended each figure to 1932 value. In this way it reduced the book reserve which, at cost, stood at $10,405,147, to $7,318,086, and deducted the latter from total plant value. A table found in the commission's report showing the operation in detail is copied in the margin.⁵

This method is inappropriate for obtaining the value of a going telephone plant. An obvious objection is that the indices which are its basis were not prepared as an aid to the appraisal of property. They were intended merely to indicate price trends. Indeed the record shows that one index used by the commission and given a weight of 3—that of the Interstate Commerce Commission—bears a notation that it should not be used 'in the determination of unit reproduction costs' upon individual properties. Doubtless the authors of the other indices would have issued a similar warning, if they had supposed any one would attempt such a use.

Again, the wide variation of results of the employment of different indices, already mentioned, impugns their accuracy as implements of appraisal. Sensible of this discrepancy, the commission attempted a rule of thumb corrective, by weighting the several indices upon a principle known only to itself, and thus rendered its process of valuation even more dubious and obscure. The possible factors of error are increased by the use of some indices such as that constructed by the commission's witness upon Western Electric prices. The evidence is that these apply to about 25 per cent. of the company's purchases; that during the period of rising prices, 1924—1929, they rose more slowly than prices of other commodities and...