THE CONTROL OF RETURN ON PUBLIC UTILITY A INVESTMENTS CTIVE regulation of public utilities has become quite generally established in this country, and for the most part has probably justified itself. The purpose and methods of regulation, however, have not been very clearly conceived or definitely worked out in the form of legislative policies. The theories underlying regulation have not been thoroughly and consistently developed, and their practical application has been unduly laborious, spasmodic and indefinite. Our commissions have doubtless been tremendously busy, and have been quite generally actuated by genuine public interest, but they have been hindered in their work by lack of legislative authority and they have been overwhelmed by excessive responsibilities, inconsistent duties, and strangling details. They do only what they are authorized by law, but the statement of the law is usually so general and vague that practically they must resort to interpretations and thus come in conflict with the views of the courts. While they possess combined functions of legislators, administrators and courts, they have not the power to construct a clear and logical plan of regulation that will work systematically along clear lines of common sense. It is true that the development of sound policy and of efficient administrative machinery requires time. A complete regulative policy could not be evolved by a closet philosopher. It must necessarily grow out of experience. But we have now an abundance of accumulated experience, which should be thoroughly analyzed and on the basis of which our policies should be re-stated along desirable lines. The purpose of this paper is to point out the fundamental difficulties in present procedure and to suggest how they may be reasonably overcome, so as to establish clearly defined relations between the companies and the public, free the commissions from present irksome and irritating details, and make possible important constructive work in behalf of the public service. I Both the Interstate Commerce Act and the various publicutility laws of the different states deal with regulation primarily from the standpoint of rates, either neglecting entirely, or treating only incidentally, the regulation of return to investors. In practice, however, the regulation of rates has involved the return to investors to such an extent, and public discussion has centered so much around it, that regulation of return, rather than of rates, has become the primary and more important consideration before the commissions. But the entire policy or procedure in regulating the return to the investors has been tacitly and indirectly left to the determination of the commissions duly restricted by legislative indefiniteness and conservative judicial control. The Interstate Commerce Act makes unreasonable rates illegal, forbids various forms of discrimination in rates, and gives the Interstate Commerce Commission power to fix reasonable rates. Nothing is said as to the regulation of return to investors. The Public Service Commission Law of New York, for years perhaps the most carefully constructed public-utility act in the country, likewise provides chiefly for the regulation of rates, requiring that they be reasonable and non-discriminatory, and giving the Public Service Commission power to establish reasonable rates. It provides only incidentally that, in the determination of rates, the commission shall have due regard to the fair value of, and to a reasonable return on, the property of the company. In like manner, all the public-utility laws, patterned more or less after the federal and the New York acts, provide chiefly for reasonable rates, and make little or no reference to control of return on investment. It is quite clear, however, that an excessive return to investors is usually the determining element in the conclusion that any schedule of rates is unreasonably high. A commission in exercising its authority to prescribe rates may not make the schedule so low as to result in confiscation of property. The investors are entitled to receive a fair return on the property devoted to the public service. Consequently, in any important rate case, the primary question before the commission is the rea sonableness, not of the rates, but of the return which the rates will bring. This determination must be reached by the commissions with practically no guidance in the statement of the law, and with no grant of authority to institute a thorough-going and consistent policy from their own conception of what is desirable. Moreover, in any endeavor to form such a conception they are limited by the decisions laid down by the courts. Although to establish regulation is clearly a legislative function, the commissions are hampered by the lack of a definitely formulated legislative policy and are compelled therefore to submit to judicial restriction-which has resulted in obstruction to, rather than construction of, a clear and sensible method of control. It seems to the writer that the time has come when the importance of the regulation of return should be recognized and provided for directly by law. To formulate a policy would be a simple matter. The general terms could be easily expressed. It seems absurd that we should continue indefinitely through the future with the present ill-defined methods. If we wish to control the return on public-utility investments, why not declare the fact through legislation and provide directly the machinery of control? If we regard public-service corporations as really public agencies and consider their investment as quasi-public loans, why not establish the fact clearly in law and then proceed with positive regulation accordingly? Why continue blundering by indirection, when we can proceed by direct methods? II The first important step in a rate case is the determination of the investment on which the company has a right to earn a return. This requires the valuation of the property devoted to the public service. Nothing is said in the law as to the basis on which the valuation shall be made. There is simply the general judicial declaration that a reasonable return must be allowed on the fair value of the property used in serving the public. The proper procedure in a case is unclear and indefinite. This naturally incites the hostility of the company toward the commission. The interests are made needlessly antagonistic. The commission's time is wasted in routine, in long hearings and deliberations, which usually result in a compromise decision, leaving still undefined the relation of the public to the investors in the utility. The only guiding principle is the fair value of the property. But what is fair value? The moment this question is raised, the flood-gates are opened to indeterminable arguments and discussions. The company's theory in a case is naturally altogether different from the commission's. It will contend that fair value means actual market value or exchange value, which, of course, is based on earning power, and which if accepted in a case would defeat all regulation except such as would result in no diminution of return. Undoubtedly the courts do not mean exchange value, but rather fair valuation for rate control-a cost and not a value category. But this is a matter of interpretation and has been the subject of much acrimonious discussion. Still, this matter has been pretty well threshed out, and the conclusion seems to be that it is a fair valuation and not the value of the property on which return is to be primarily based. But what is a fair valuation? Shall it be actual cost or the cost of reproduction of the property? Shall any deduction be made from cost new to provide for the age, wear and tear of the property? What provisions for intangibles, interest and taxes during construction, engineering and organization expenses and similar items? What allowance for developmental expenses? Should any addition be made for deficiency in return during the early years of operation? To what extent should deficiency in return be capitalized against the public? What allowance should be made for working capital? Are there any peculiar features in the valuation that deserve special consideration? Every step in the course of the valuation constitutes debatable ground, and thus it is that an important case drags along through weeks and months, and runs into years before a decision is finally reached. But, when all the important matters have been threshed out in great detail, it often happens that the decision represents a rough compromise, based but remotely on the facts that were laboriously accumulated and over-seriously discussed in the course of the hearings. And after all the effort, nothing is definitely settled for the future. If the company accepts the rate schedules as determined by the commission, it proceeds with operation as before, making all the profits that it can under the new conditions, and continuing on its books the same property values that it had before the case was started. If in the future, because of inventions and the growth of population, the return obtained by the company again seems unreasonable and a movement for a reduction in rates is started, the laborious process of a rate case must be repeated. The earlier valuation will be of little assistance; the composition of the property will have changed, the level of prices will have shifted and new special considerations will have arisen. Nothing permanent is gained by the valuation in determining the equitable relation between private investors and the public. This procedure is too irregular and spasmodic. To be effective, the regulation of return should be automatic and consistent. The company's accounts should show definitely at any time the investment on which a return is allowed. The valuation should not be a shifting matter, varying with time, place, and other circumstances. It should be a definite thing, which should be regularly determined as a matter of accounting between the company and the public. If we do not accept this idea in our system of regulation, there is little use in the detailed accounting requirements that we impose on the companies or in the attempt to regulate the return earned by the companies. The investment on which the return is based should be an exact thing, fixed practically by agreement between investors and public, subject to precise accounting, involving no debatable factors. It should not require any of the commission's time for deliberation and determination. This should be but an incidental and self-operating process in the course of regulation. For new companies and for future investments, the process could be made very simple. First, a definite legislative policy should be enacted, stating clearly that the return allowed shall be based on actual investment. Then, in determining the valuation, we should have simply a question of accounting. |