American Society of Civil Engineers.

Transactions of the American Society of Civil Engineers (Volume 81) online

. (page 120 of 167)
Online LibraryAmerican Society of Civil EngineersTransactions of the American Society of Civil Engineers (Volume 81) → online text (page 120 of 167)
Font size
QR-code for this ebook


be made on a proper interpretation of contract or franchise, and in
such cases as those cited, no expense to be borne by the city under the
contract should be appraised to the railway company, and no expense
to be borne by the railway company under the contract should be
omitted in determining the reproduction cost. The position taken in
some cases, that such an expense as paving is not a permissible capital
charge and therefore not an item of cost of reproduction in the case
of a street railway, does not seem to be tenable when the expense is
borne by the railway company.

When a corporation is required, as is usual, to remove and replace
paving when constructing works requiring such removal and replace-
ment, there can be no doubt that the existence of pavement in a street
makes the construction of tracks, or the laying of pipes or conduits,
more costly than if the pavement were not there. When pavement
exists, therefore, at the date of estimate, its effect on the cost of re-
production cannot be ignored, even though the extra cost should not be
included when using the reproduction cost as an element of "fair
value". The item when included should be scheduled separately, so
that it can be omitted if that be the will of the determining body.

This subject has already been referred to under the caption "Title
to Property N'ot Conclusive", on pages 1350 to 1353.

The item of clearing and grubbing railroad rights of way is
one concerning which question has been raised. On few if any rail-



VALUATION OF PUBLIC UTILITIES 1369

roads, is there any forest on the right of way. Along many miles of
existing railroad there is to-day no evidence that there ever was any
forest growth on the right of way, where history shows the existence
of dense forests at the time of original construction. It is true that
this is a minor question, because the rise in land values, if allowed,
will in general — but not always — more than offset any possible loss to
the company-owner by reason of the exclusion of the item of clearing
and grubbing actually paid for, but no longer in evidence as ever
having been necessary. The fact, that there may be offsetting advan-
tages and disadvantages, does not affect the principle involved. The
effort is to get a basis for the present-day value of the owners' invest-
ment. If, as a result of human progress, it would be reasonable to
suppose that, at the date of valuation, the land occupied by the rail-
road would have been cleared, regardless of the existence of the
railroad, and it is so cleared, it would seem to be fair to omit clearing
from a reproduction estimate. If, on the other hand, it is fair to assume
that, but for the presence of the railroad, the forest would still be
there, the cost of clearing and grubbing should be allowed. There are
cases in which one, or the other, of the assumptions herein made is
clearly the correct assumption, there are other cases in which it is not
so clear, as to whether the changed conditions are due to the railroad
itself. Let it, as the party bearing hazards, be given the benefit of
the doubt.

Another class of expenditures, that may be greatly affected by the
choice of historic or present-day conditions, is that including promo-
tion, organization, financing, interest during construction, and some
other overhead charges, development expense, and the excess cost of
piecemeal construction.

There will be no difficulty with respect to newly created properties.
The question occurs with respect to old properties of magnitude, that
have grown from relatively small beginnings.

In such cases most of these expenses would be relatively large for
the original enterprise, and relatively small, or nothing at all, for the
smaller additions as they have been made from time to time —
although interest would always be an expense, and the others named
would be incurred in greater or less degree on all but minor additions.
And it may very well happen that important additions may be of such
relative magnitude that all of this class of expenditures will be as
large, in percentages of the property to which they apply, as were the
original expenses of this class of the original property.

It would seem, therefore, that with respect to these items, the
policy should prevail, of referring to the history of the property, to
determine to what portion of the property, and how these items of
expense, are properly applicable, just as has been advised for the
determination of those items of physical property that are to be in-



1370 VALUATION OF PUBLIC UTILITIES

eluded, not forgetting that at least the item of interest is applicable
to the whole of the construction, but for varying lengths of time, and
that development expense attaches to practically all additions of any
considerable relative magnitude, and the excess cost of piecemeal con-
struction to all minor additions.

Concerning facilities for doing work in general it would seem to be
logical to use those of the period of valuation, but with respect to trans-
portation agencies, this may work injustice in some cases. The Los
Angeles Aqueduct, and certain other works, all built without near-by
railroads to bring materials, men, and supplies to the site of the work,
could now have the advantage of more recently constructed railroads.
Have these great works, fully serving their several purposes, lost a
considerable portion of their value by the development of transporta-
tion facilities not in existence when they were built? It would seem
fair to say "no", even though this may seem to be inconsistent with
the position taken with respect to most old properties. The uncer-
tainties with respect to the details of facilities existing, or used in the
construction of old properties, and the effect of these on unit prices,
which, as will appear later, the Committee thinks should be as of the
period of valuation for reproduction estimates, make it seem desirable
and consistent to use present-day transportation facilities for most old
properties, and historic facilities for some exceptional cases of old or
recently constructed properties.

The conclusion of the Committee is that, while apparent present-
day conditions, that would affect the cost of reproducing the property,
must be considered in any logical estimate, yet history must also be
considered to determine what is to be reproduced, the conditions under
which it is to be reproduced, and how the estimates must be made;
that for all those items, concerning which there can be no doubt, the
engineer should use the basis plainly applying, and that for those that
are doubtful, or have been questioned, he should present the effect of
the use of the different bases clearly, that the determining body may
have the data for a wise decision.

2. — Shall Present or Original Prices Govern? — Pi-ices for labor
and materials rise and fall, and the cost of doing work varies, as new
machinery and appliances are invented.

The term "present prices" has sometimes been held to mean the
prices of the day of estimate; sometimes the average prices of a
greater or less period just preceding the day of estimate; and some-
times the prices of a similar period just following the day of esti-
mate. By the term "present prices" the Committee means prices
averaged over a period of time to produce what may be called normal
prices, as is fully discussed under the caption, "Unit Prices".

One of the recognized bases of "value" of property is the sum
that it would cost to produce that property or an exactly identical



VALUATION" OF PUBLIC UTILITIES 1371

property at the present time. Estimates of the "cost of reproduc-
tion" are made to show what the property could be produced for new at
the time of appraisal, and therefore unit prices which were actually
paid many years ago may not now apply. It would seem to he clear
that, in estimating the cost of producing any property at a given time,
unit prices which do not and cannot prevail at the time of the in-
vestigation should not be used; and, conversely, it would seem to be
eqxially clear, without argument, that the prices for materials and
labor should be those of the assumed time or period of construction.
Important decisions of the United States Supreme Court, on which
the Committee bases its conclusion, that present prices for materials
and labor should be used, are Willcox vs. Consolidated Gas Company
and the Minnesota rate case. In the former, Mr. Justice Peckham
says (212 U. S., 19, January 4th, 1909) :

"And we concur with the court below in holding that the value of
the property is to be determined as of the time when the inquiry is
made regarding the rates. If the property which legally enters into
the consideration of the question of rates has increased in value since
it was acquired, the company is entitled to the benefit of such increase.
This is at any rate the general riile."

The decision referred to is that of Judge Hough in Consolidated
Gas Co. vs. City of New York (157 Fed., 849, December 20th, 1907).

"Upon authority, I consider this method of valuation correct. What
the court should ascertain is the 'fair value of the property being
used' (Smyth v. Ames, 169 U. S., at page 546, 18 Sup. Ct., at page
434 (42 L. ed. 819)); the 'present' as compared with 'original' cost;
what complainant 'employs for the piiblic convenience' (169 U. S.,
at page 547, 18 Sup. Ct, at page 434 (42 L. ed. 819)); and it is also
the 'value of the property at the time it is being used' (San Diego
Land Co. v. ISTational City, 174 U. S., at page 757, 10 Sup. Ct., at page
811 (43 L. ed, 115)). And see, also, Stanislaus Co. v. San Joaquin Co.,
192 U. S., 201, 24 Sup. Ct., 241, 48 L. ed., 406. It is impossible to
observe this continued use of the present tense in these decisions of the
higher court without feeling that the actual or reproductive value at
the time of inquiry is the first and most important figure to be ascer-
tained, and these views are amplified by San Diego Land Co. v. Jasper
(C. C), 110 Fed., at page 714, and Getting v. Kansas City Stock
Yards (C. C), 82 Fed., at page 854, where the subject is more fully
discussed. Upon reason, it seems clear that in solving this equation
the plus and minus quantities should be equally considered, the appre-
ciation and depreciation treated alike. * * * The so-called 'money
value' of real or personal property is but a conveniently short method
of expressing present potential usefulness, and 'investment' becomes
meaningless if construed to mean what the thing invested in cost gen-
erations ago. Property, whether real or personal, is only valuable
when useful. Its usefulness commonly depends on the business pur-
poses to which it is or may be applied. Such business is a living thing.



1372 VALUATION OF PUBLIC UTILITIES

and may flourish or wither, appreciate or depreciate; but, whatever
happens, its present usefulness, expressed in financial terms, must be
its value."

"As applied to a private merchant or manufacturer, the foregoing
would seem elementary; but some difference is alleged to exist where
the manufacturer transacts his business only by governmental license —
whether called a franchise or by another name. Such license, however,
cannot change an economic law, unless a different rule be prescribed
by the terms of the license, which is sometimes done. No such un-
usual condition exists here, and, in the absence thereof, it is not to be
inferred that any American government intended, when granting a
franchise, not only to regulate the business transacted thereunder, and
reasonably to limit the profits thereof, but to prevent the valuation of
purely private property in the ordinary economic manner, and the
property now under consideration is as much the private property of
this complainant as are the belongings of any private citizen. Nor
can it be inferred that such government intended to deny the applica-
tion of economic laws to valuation of increments earned or unearned,
while insisting upon the usual results thereof in the case of equally
unearned, and possibly unmerited, depreciation."

"I think the method of valuation applied by the report to land,
plant, mains, services, and meters lawful."

In the Minnesota rate cases, Mr. Justice Hughes says (230 U. S.,
352, June 9th, 1913) :

"It is clear that in ascertaining the present value we are not limited
to the consideration of the amount of the actual investment. If that
has been reckless or improvident, losses may be sustained which the
community does not underwrite. As the company may not be pro-
tected in its actual investment, if the value of its property be plainly
less, so the making of a just return for the use of the property involves
the recognition of its fair value if it be more than its cost. The
property is held in private ownership and it is that property, and not
the original cost of it, of which the owner may not be deprived with-
out due process of law."

The Committee believes that the foregoing decisions require the
use of present rather than original prices in estimating reproduction
cost. It recognizes, however, that undesirable fluctuations in the es-
timated value of property valued at intervals would occur owing to
changes in prices. It suggests that this may be avoided and the value
from year to year of a property which has been once properly valued
may be determined if proper methods of accounting are adopted.

In the case of a new or recently created property, which has had
from the beginning, under continuous and proper regulation, a modern
system of accounting, which has taken account of all proper capital
charges and credits, so that the amount of invested capital would be
known at all times, such invested capital would be entitled to greater
weight on equitable grounds as an indication of the so-called "fair



VALUATION OF PUBLIC UTILITIES 1373

value" than an estimate of cost of reproduction less depreciation which
might involve radical changes of prices; but we are not now discussing
original cost to date, nor what is the proper basis for "fair value". For
reproduction cost the Committee recommends that, in estimating, the
prices prevailing at the assumed time of reproduction shall be used,
meaning the normal prices obtained by averaging prices for a proper
period, as is fully discussed subsequently in this chapter under the
caption, "Unit Prices".

3. — Shall Identical or Substitute Plant he Considered? — Occasion-
ally an estimate has been made, not of what it would cost to reproduce
the existing unit, but of what it would cost to produce some substitute
unit which would perform the same function as the existing unit.

For example, in a valuation of an old railroad, it was found that
all the bridge piers and abutments and retaining walls built in the
early years of the property were of stone masonry which would cost to
reproduce new from $12 to $16 per cu. yd., and that all work built dur-
ing the last 10 years was of concrete costing from $7 to $11 per cu. yd.
It was argued that the modem construction, built at less expense, ful-
filled exactly the same fimctions, and that, if the property were actually
to be reproduced, stone would not be thought of. Undoubtedly, the
original construction was used because it was the best available, and,
in the judgment of the engineer and directors, this was a proper
expenditure.

In one other case an engineer was making an appraisal of a large
electric plant furnishing lights to a large city and power to several
hundred miles of railroad. The power plant as originally built had
been outgrown, and a second plant had been built alongside with about
equal capacity. Both plants were working to capacity during the peak
load, and both plants were well maintained. It was argued that one
modern, up-to-date plant could be built which would cost less than the
reproduction cost of the two and perform the same function.

Other illustrations of properties, which have been expanded to meet
the need of rapidly growing cities and which in their present form
represent very much larger investments of capital than would be
necessary were actual new construction to take place at the present
time, are afforded by the water supplies of some American cities. One
western State capital affords an excellent example. The first water
supply was obtained by pumping from a near-by source. Later, a
supply was secured some 20 miles distant, but, in order to make use of
an infiltration gallery, the water was taken at a point elevated only
slightly above the distributing reservoir in the city, so that the capacity
of the pipe was small in proportion to its size, on account of the
limited fall. Large filter beds were located at this place; still later,
an intake was located farther up stream, which made available a
greater fall to the reservoir in the city; another feature is a large



1374 VALUATION OF PUBLIC UTILITIES

natural lake used as a reservoir, fed by a small stream, not very far
from the pipe line between the main source and the city, but at a
higher level; still later, a great reservoir with a dam more than 200 ft.
high was built in the mountains, far above the main source of supply.

It probably cannot be said that the company did not use reasonable
judgment in the laying of each of the pipes and the building of the
reservoirs and filters referred to, but if one were to design an equally
efficient plant at the present day the water could be taken from farther
up stream, so as to have an adequate head; it could be brought quite
near to the city in a masonry conduit which would cost much less for
the same quantity of water than the existing pipes; the lake or reser-
voir could be utilized at this level as a storage reservoir connected
with the main supply ; a single filter plant at the proper elevation, much
higher than the present one, could be located comparatively near the
city as a substitute for several independent filter plants; and two pipes
having the same aggregate capacity as all the existing pipes leading
from this filter plant to the city would cost much less than the existing
pipes because of the much greater available fall. To use the estimated
cost of the substitute plant in this city in lieu of the estimated repro-
duction cost of the present property would ignore a large investment
actually and properly made by the Water company.

The cost of reproduction being always required for the establish-
ment of some relation between the public and its servant, the service
corporation, either with respect to rates for service, purchase price,
capitalization, or taxation, it would seem that the company should be
credited with what it has actually produced in good faith and with
what seemed to be good judgment at the time the property was created.

In the cases cited, the cost of substitute plants or property units
altogether different from those actually built would vary very much
from the reproduction cost of the existing property, and although
such a substitute property, much less costly than the existing plant,
might furnish equal or better service, it is not reproduction of service,
but of property, that is under consideration; and clearly the estimate
should be of existing property created with public approval, rather
than of a substituted property.

In the case of the valuation of obsolete units of property still in
service, where the tmit is of a type not on the market and not possible
to reproduce in kind at the present time at reasonable cost, it may
be desirable to use the cost of a modern unit capable of performing
the same service, but this would appear to be the only exception, and
would seem to apply only to individual units, such as machines, which
are not capable of being estimated by ordinary standards used in
reproduction.

Reproduction in kind deals with facts, with properties that have
physical existence and can be measured, inspected, and in many cases



VALUATION OF PUBLIC UTILITIES 1375

their actual cost determined. Production of a substitute would be
based more largely on speculation; different engineers would un-
doubtedly differ in their views as to the location, design, and cost
of the substitute plant, and an estimate based on such a plant would
be more difficult to support than one based on an existing plant,
by reason of conflicting expert opinion as to the proper procedure.

Although the cost and efficiency of the substitute plant may have
some bearing on the value of the existing plant, remote though it
may be, it has none on reproduction cost of the existing property.

These views are in accord with the general practice of engineers
who have engaged in appraisal work. These engineers have valued
the identical property, and this method of valuation, when brought
before the various Courts, including the Supreme Court of the United
States, has met with approval, although the relative merits of the
two methods have not been discussed by the Supreme Court. The
principle that the identical property should be valued has been
accepted apparently without discussion.

In the case of the Consolidated Gas Co. vs. City of ISTew York,
Judge Hough says:

"In every instance, however, the value assigned in the report
is what it would cost presently to reproduce each item of property
in its present condition and capable of giving service neither better
nor worse that it now does. * * * Upon authority, I consider this
method of valuation correct."

In the case of the Kennebec Water District vs. City of Waterville,
Judge Savage says (at page 19) :

"We think the inquiry along the line of reproduction should,
however, be limited to the replacing of the present system by one
substantially like it. To enter upon a comparison of the merits of
different systems — to compare this one with more modern systems —
would be to open a wide door to speculative inquiry, and lead to dis-
cussions not germane to the subject. It is this system that is to
be appraised, in its present condition and with its present efficiency."

In harmony with the foregoing arguments, it is recommended that,
for whatever purpose in connection with the relations of the public
and the service corporation the cost of reproduction is required or
desired, the estimate should be made with respect to the identical
property, and not with respect to some substitute property to perform
the same service.

4. — What is Meant hy the Word "New", in the Phrase "Cost of
Reproduction New"? — The words "Cost of Reproduction New" are of
such frequent occurrence in valuation cases, and seem to have given
rise to such diverse views, that, before the proper conception can be
finally determined, it is necessary to give consideration to the proper
weight to attach to the word "New".



1376 VALUATION OF PUBLIC UTILITIES

For example, a certain logging railroad is 51 miles long. It was
laid entirely with relayer rails; ten second-hand locomotives and
certain second-hand cars were purchased and have been used for some
years. It would be permissible under some conceptions of reproduc-
tion to estimate all this rail and equipment as new, but, such a con-
ception would not appear to be proper. The term "new" in a case
of this kind would apply to the character and condition of the second-
hand materials as they were originally installed, and their depreciation
would be measured by the difference between their condition at that
time and at the date of valuation. The rail and the equipment are
larger and more expensive than the road would be justified in buying
if it bought them new. The property as "reproduced", if conceived to
be new rail and equipment, is not identical with the original prop-
erty when it was "neV or first built. There are costs estimated which
did not enter into the original investment.

Another example. — On a little draw-bridge a motor has been
installed which is in fact an old street railway motor capable of
performing its new function indefinitely. It is of much greater
capacity than would be needed for the bridge, and if a new motor
had been installed a much smaller and less expensive type would
have been selected.

In the examples cited it would seem that the properties when
created "new" were partly second-hand, and the reproduction esti-
mate should include relayer rails at relayer prices, second-hand equip-
ment and second-hand motor at prices fair for the actual items at
second-hand.

The Federal Valuation Act particularly requires that there shall be
found: "The original cost to date; the cost of reproduction new; the
cost of reproduction less depreciation.''



Online LibraryAmerican Society of Civil EngineersTransactions of the American Society of Civil Engineers (Volume 81) → online text (page 120 of 167)