Elkhart Tel. Co., Inc. v. State Corp. Commission

• Citation: 7 Kan.App.2d 235,640 P.2d 335
• Decision Date: 04 February 1982
• Docket Number: No. 53665,53665
• Parties: ELKHART TELEPHONE CO., INC., Appellant, v. The STATE CORPORATION COMMISSION of the State of Kansas; Richard C. "Pete" Loux, Chairman and Commissioner; Jane T. Roy, Commissioner; Phillip R. Dick, Commissioner; and their respective successors in office, Appellees.
• Court: Court of Appeals of Kansas

Page 335

640 P.2d 335

7 Kan.App.2d 235

ELKHART TELEPHONE CO., INC., Appellant, v. The STATE CORPORATION COMMISSION of the State of Kansas;

Richard C. "Pete" Loux, Chairman and Commissioner; Jane T.

Roy, Commissioner; Phillip R. Dick, Commissioner; and their

respective successors in office, Appellees.

No. 53665.

Court of Appeals of Kansas.

Feb. 4, 1982.

Syllabus by the Court

1. When the business of a public utility is determined to be both interstate and intrastate, separation of interstate and intrastate operations may be required for two related reasons: (1) to avoid jurisdictional conflicts between state and federal regulatory agencies, and (2) to avoid discriminatory rates which result in one class of ratepayers subsidizing another.

2. Notwithstanding the fact there may be no method provided whereby interstate earnings may be increased or decreased through regulatory action, separation of interstate and intrastate operations is required when considering the issue of whether an increase in intrastate rates is justified.

3. Upon review, it is held that the order of the KCC was based upon substantial evidence, and was both lawful and reasonable.

Thomas E. Gleason of Thomas E. Gleason, Chartered, Ottawa, for appellant.

LuAnn C. Dixon, Asst. Gen. Counsel, and Brian J. Moline, Gen. Counsel, Topeka, for appellees.

Before FOTH, C. J., and SPENCER and MEYER, JJ.

SPENCER, Judge:

In this matter, we are required to review an order of the Kansas Corporation Commission by which it denied the utility an increase in rates.

Elkhart Telephone Co., Inc. (Elkhart), is a public utility within the meaning of K.S.A. 66-104, which furnishes local exchange and toll telephone service to approximately 1148 customers in southwest Kansas. Its business is both interstate and intrastate. Approximately 48 percent of its investment in facilities and the revenues and expenses associated therewith were allocated to interstate operations under the provisions of the NARUC-FCC Separations Manual. The KCC found it necessary to separate interstate and intrastate operations "to avoid jurisdictional conflicts between state and federal regulatory agencies and to avoid discriminatory rates which result in one class of ratepayers subsidizing another."

On December 3, 1980, Elkhart filed its original application requesting permission to put into effect rate schedules to produce additional gross revenues of $74,731. This was tied to a rate base of $854,275, an overall rate of return of 10.62 percent, and a rate of return on equity of 13 percent.

Duzel D. Yates, a senior utility regulatory auditor for the KCC, testified that in connection with his investigation of Elkhart's application, it was discovered Elkhart had not separated the interstate and intrastate portions of its operations. Staff did so, using an existing separations study prepared by an independent accounting firm for Elkhart. This study, based on the NARUC-FCC Separations Manual, determined Elkhart's costs of providing services handled jointly with Southwestern Bell. Essentially, this is termed the "toll" service and includes both interstate telephone calls and intrastate calls outside Elkhart's local "exchange" area. The study was used as a basis for dividing the revenue for such "toll" calls between Elkhart and Southwestern Bell. Staff used the factors developed by this study to separate Elkhart's rate base, revenues, and expenses, into intrastate (both "exchange" and "toll") and interstate. This resulted in a "Kansas jurisdictional rate base" of $430,569 and net income of $53,920 for the test year. Elkhart was therefore already earning a 12.52 percent overall rate of return on its intrastate rate base. An examination of the company's capitalization with the adoption of the requested 13 percent return on equity showed that only an 11.31 percent overall rate of return was needed. Thus, for the test year, Elkhart had intrastate revenues in excess of its requirement. On cross-examination, Yates stated that to his knowledge, the Commission had never before required separation of interstate and intrastate operations for independent telephone companies.

Bob Boaldin, president and manager of Elkhart, testified the company received revenues for its "toll" services under a settlement agreement with Southwestern Bell and that the agreement was based on a toll cost study, apparently the same study referred to by Yates. Under the agreement, Elkhart earns Southwestern Bell's rate of return (8.4 percent for the test year in question) for such toll service. This is disadvantageous to Elkhart, however, because it has a higher cost of debt than Southwestern Bell and a lower plant investment per station. In rebuttal to Yates' testimony, Boaldin stated that, although Elkhart agreed there should be a separation of interstate from intrastate operations, such did not affect the request for overall dollar relief. Thus, if separation was required, the company requested a higher overall rate of return and return on equity than had been sought in the original application.

Larry D. Cheeseman, a management consultant hired by Elkhart, also testified in rebuttal to Yates. He noted that Elkhart's modified request, if separation was taken into account, was for $67,720 in additional revenues, with a 19.8 percent return on equity and a 14.4 percent overall rate of return. He stated that separation was unfair to Elkhart because it had high interest debt which could not be paid with the return it received under the toll settlement agreement with Southwestern Bell. "Therefore, an adequate return on intrastate service does not provide sufficient income to meet earning requirements established by commercial lending institutions.... It is not possible to obtain a loan only on intrastate service; rather the loans are made on a total company basis."

The Commission adopted the rationale of Yates and denied relief in toto. In doing so, the Commission adopted as a reasonable overall rate of return the existing rate of 12.46 percent disclosed in Staff's computations. Elkhart filed a timely motion for rehearing which was denied, then filed its application for judicial review with this court.

Elkhart first contends the order requiring separation of its interstate and intrastate operations is unlawful and unreasonable under the statutory standard of K.S.A. 66-118d. It also contends the order results in confiscation of its property without due process of law. Rules governing review by this court under the statutory standards were set forth in Midwest Gas Users Ass'n v. Kansas Corporation Commission, 3 Kan.App.2d 376, 380, 595 P.2d 735, rev. denied, 226 Kan. 792 (1979). The standard of review under the confiscation argument was addressed in Kansas-Nebraska Natural Gas Co. v. Kansas Corporation Commission, 4 Kan.App.2d 674, 675, 610 P.2d 121, rev. denied, 228 Kan. 806 (1980):

"The statutory standard of K.S.A.1979 Supp. 66-118d requiring 'reasonable' utility rates is higher than the constitutional standard for due process. In other words, a rate cannot be confiscatory if it is reasonable. Therefore, even if the scope of review is broader for a due process complaint, a determination that a rate order is reasonable would logically preclude consideration of an allegation of confiscation. In Power Comm'n v. Hope Gas Co., 320 U.S. 591, 64 S.Ct. 281, 88 L.Ed. 333 (1944), the U.S. Supreme Court said, 'If the total effect of the rate order cannot be said to be unjust and unreasonable, judicial inquiry ... is at an end.' Hope, 320 U.S. at 602 (64 S.Ct. at 287). The Court also said, 'Since there are no constitutional requirements more exacting than the standards of the Act, a rate order which conforms to the latter does not run afoul of the former.' Hope, 320 U.S. at 607 (64 S.Ct. at 290). Accordingly, our review is limited to the statutory standard of K.S.A.1979 Supp. 66-118d."

The cases establishing the principle of separation were discussed most recently and perhaps most thoroughly in United States v. RCA Alaska Communications, Inc., 597 P.2d 489, 499-506 (Alaska 1978). It was there noted that separation of intrastate and interstate operations has been required by the United States Supreme Court for two related reasons: (1) to avoid jurisdictional conflicts between state and federal regulatory agencies, and (2) to avoid discriminatory rates which result in one class of ratepayers subsidizing another.

The starting point for the first line of cases is Smith v. Illinois Bell Tel. Co., 282 U.S. 133, 148-149, 51 S.Ct. 65, 68-69, 75 L.Ed. 255 (1930), wherein the court stated:

"The separation of the intrastate and interstate property, revenues and expenses of the Company is important not simply as a theoretical allocation to two branches of the business. It is essential to the appropriate recognition of the competent governmental authority in each field of regulation.... But the interstate tolls are the rates applicable to interstate commerce, and neither these interstate rates nor the division of the revenue arising from interstate rates was a matter for the determination either of the Illinois Commission or of the court in dealing with the order of that Commission. The Commission would have had no authority to impose intrastate rates, if as such they would be confiscatory, on the theory that the interstate review of the Company was too small and could be increased to make good the loss. The interstate service of the Illinois Company, as well as that of the American Company, is subject to the jurisdiction of the Interstate Commerce Commission.... The proper regulation of rates can be had only by maintaining the limits of state and federal jurisdiction, and this cannot be accomplished unless there are findings of fact underlying the conclusions reached with respect to the exercise of each authority. In view of the questions presented in this case, the validity of the order of the state commission can be suitably tested...