South Central Bell Tel. Co. v. Louisiana Public Service Commission

• Decision Date: 03 November 1977
• Docket Number: No. 59705,59705
• Citation: 352 So.2d 964
• Parties: SOUTH CENTRAL BELL TELEPHONE CO. v. LOUISIANA PUBLIC SERVICE COMMISSION.
• Court: Louisiana Supreme Court

Page 964

352 So.2d 964

23 P.U.R.4th 1

SOUTH CENTRAL BELL TELEPHONE CO. v. LOUISIANA PUBLIC SERVICE COMMISSION.

No. 59705.

Supreme Court of Louisiana.

Nov. 3, 1977.

Rehearing Denied Dec. 14, 1977.

Norman C. Frost, M. Robert Sutherland, Ronald W. Tweedel, New Orleans, Victor A. Sachse, Jr., Victor A. Sachse, III, Breazeale, Sachse & Wilson, Baton Rouge, for plaintiff-appellant.

Jeff McHugh David, Gen. Counsel, Saul Stone, Michael R. Fontham, Stone, Pigman, Walther, Wittmann & Hutchinson, New Orleans, for defendant-appellee.

DENNIS, Justice.

The ultimate issue in this case concerns the reasonableness of a rate order issued by the Louisiana Public Service Commission denying a rate increase requested by South Central Bell Telephone Company. 15 P.U.R.4th 87 (1976). On appeal to the district court for review of the order pursuant to La.R.S. 45:1192, the court, after remanding to the Commission for further determinations, reversed the order of the Commission in part and entered judgment granting the utility a rate increase. The case is here on appeals from the district court judgment by both the Company and the Commission. La.Const. art. 4, § 21.

South Central Bell, a Delaware corporation, is one of twenty-four operating companies included in the Bell System of the American Telephone & Telegraph Company. All of South Central Bell's outstanding capital stock is owned by A. T. & T. The Bell System includes Bell Telephone Laboratories, Inc., and Western Electric Company. The former performs research, development and design work, and the latter manufactures, purchases, repairs, and distributes apparatus, equipment and supplies, and installs central office equipment for the Bell System. Under license contracts, Bell System Laboratories provides services for the operating companies and the long lines department of A. T. &. T.

South Central Bell serves customers in Louisiana, Alabama, Kentucky, Mississippi and Tennessee. Its service covers both intrastate and interstate calls.

South Central Bell applied to the Louisiana Public Service Commission on April 18, 1975 for a rate increase sufficient to produce additional intrastate revenues of $73,000,000 annually in Louisiana. The application was based on a forecasted test year ending June 30, 1976. In November of 1975, the application was amended to base the requested increase on a new test year ending December 31, 1976 and to elevate the requested increase so as to produce an additional $16,000,000 in revenues for a total of $89,000,000 annually.

On June 18, 1976 the Commission issued an order denying South Central Bell's application for a rate increase. ¹ The Company appealed, and after proceedings were held, the district court rendered a written opinion finding that the Commission had erred in its treatment of research and development costs and in failing to grant the Company an attrition allowance. The case was remanded to the Commission for a period of forty-five days for the purpose of amending the order to conform with the views expressed by the court and for further proceedings in this connection. The Commission determined that under the court's opinion and judgment an increase would be required in intrastate rates sufficient to produce revenues of $6,714,000 for an attrition allowance and $1,728,000 for reversal of the Commission's research and development cost adjustment. In order to preserve its right to appeal the court's ruling the Commission did not amend its order but merely reported its findings to the district court. After further judicial review, the district court concluded that the attrition allowance determined by the Commission was inadequate and amended the order of the Commission to grant a rate increase to South Central Bell sufficient to produce $26,320,000 in additional intrastate revenues. Both South Central Bell and the Commission appealed to this Court.

Elements of Rate-Making

The primary purpose of the rate-making process is to set rates at such a level that the utility's revenue will be sufficient to permit the utility both to pay its legitimate operating expenses and to provide a return on investment adequate to compensate existing investors and attract new capital as it is required. See, Jones, Judicial Determination of Public Utility Rates: A Critique, 54 B.U.L.Rev. 873, 875 (1975) (hereinafter referred to as Jones). When this level is achieved the utility's revenues produce a "fair rate of return." The legal standard for determining a fair rate of return was articulated in two well known cases: Federal Power Commission v. Hope Natural Gas Co., 320 U.S. 591, 602, 64 S.Ct. 281, 88 L.Ed. 333 (1944); Bluefield Waterworks & Improvement Co. v. Public Service Commission, 262 U.S. 679, 692-93, 43 S.Ct. 675, 67 L.Ed. 1176 (1923). In Federal Power Commission v. Hope Natural Gas Co., supra, the Supreme Court observed:

"Rates which enable the company to operate successfully, to maintain its financial integrity, to attract capital, and to compensate its investors for the risks assumed certainly cannot be condemned as invalid. * * * " Id. 320 U.S. at 605, 64 S.Ct. at 289.

Once the regulatory agency has determined the amount of annual revenue required by the utility to produce a fair rate of return the agency will consider the question of rate design: that is, the rates each class of consumers should pay in order to produce the annual revenues required for a fair rate of return. In the instant case we are not concerned with rate design, but our basic concern is whether the annual revenue requirement of the utility was fairly and reasonably determined by the public service commission.

The general approach of a regulatory agency in determining whether an existing rate structure is producing inadequate or excessive revenues is well established. The agency first selects a "test year," normally the most recent annual period for which complete financial data are available, and calculates the utility's revenues, expenses and investments during the test period. The utility's revenues minus its expenses, exclusive of interest, constitute the earnings or the "return" that is available to be distributed to the utility's stockholder and creditor investors. The total amount of investment in a utility employed in providing its service, the utility's rate base, is determined by adding the investment in physical properties to an allowance for working capital. The agency then decides whether the actual "rate of return," the ratio of return to rate base, is deficient, adequate or excessive. Jones, supra, at 876. See also, J. Bonbright, Principles of Public Utility Rates, 147-283 (1961) (hereinafter referred to as Bonbright); 1 A. Priest, Principles of Public Utility Regulation, 45-226 (1969) (hereinafter referred to as Priest).

For example, if a utility's rate base during the test year was $100,000,000 its test-year revenues $35,000,000, and its test-year expenses, exclusive of interest, were $28,000,000, then the utility's return would be $7,000,000 and its rate of return would be seven per cent. If the fair rate of return is six per cent, a rate reduction would be appropriate. If seven per cent is fair, no rate change would be required. If eight per cent is the fair rate of return, a rate increase would be justified. See Jones, supra, at 876.

The final calculations involved in determining the utility's revenue requirement, as thus summarized, are relatively simple. However, to arrive at the ultimate figures used in these calculations requires extensive examination of the utility's operations and frequent exercise of informed judgment. Every aspect of the utility's operations during the test year must be examined in order to determine the extent to which the figures it has received from the utility are representative of the figures that will, or should, prevail in the future. Ideally, the agency should conduct an audit to insure that the utility's books accurately describe the revenues, expenses and investment and that proper accounting procedures have been followed. The auditing may lead the agency to question whether particular expenditures or investments are properly chargeable to utility operations, whether capital expenditures have been improperly charged to operating expenses or operating expenses improperly capitalized, whether accruals for reserves have been made at appropriate levels, and whether any expenses incurred during the test year are properly chargeable to some other period of time. If the rate making agency determines that any such matter has been improperly treated from a regulatory standpoint, appropriate adjustments must be made to the operating results. As we shall see, two of the contested issues in the instant case involve whether the public service commission acted reasonably in adjusting the utility's treatment of particular investment, expense or revenue items.

Principles of Judicial Review

In reviewing the rate making process the inquiry of the judiciary is generally confined to a determination of whether the regulatory agency acted unreasonably or arbitrarily in establishing rates for the utility. Priest, supra, at 436. The United States Supreme Court, in assessing the Federal Power Commission's performance of its statutory duty to fix "just and reasonable" rates, elaborated on this principle:

" * * * If the total effect of the rate order cannot be said to be unjust and unreasonable, judicial inquiry under the Act is at an end. The fact that the method employed to reach that result may contain infirmities is not then important. Moreover, the Commission's order does not become suspect by reason of the fact that it is challenged. It is the product of expert judgment which carries a presumption of validity. And he who would upset the rate order under the Act carries the heavy burden of making a convincing showing that it is invalid because it is unjust and unreasonable in its consequences. * * * " Id. 320 U.S. at 602, 64...