mistakes may occur. While some of these might have been foreseen and prevented, others may be beyond human intelligence and grasp. Many examples of this might be mentioned. Such plants may also be injured by the diversion of the growth of the city in a different direction from that expected when the plants were built; by the failure of the city to grow as rapidly as expected or as rapidly as the plant had made preparations for; by the failure of the city to grow at all, as well as by decreases in its population.

...

In view of the facts that have thus been presented in relation to this subject, it may be said that the witnesses for the respondent placed that part of the return on the investment which might properly be termed profits at rather high figures; and that under the circumstances in this case it is not unreasonable to limit the profits to from 12 to 2 per cent. on a fair valuation of the gas plant and from 2 to 21⁄2 on a fair valuation of the electric plant. Such rates, in addition to an allowance of 6 per cent. in each case for interest, would seem to be fair to present owners as well as sufficient to secure both the business capacity and capital that are required in this particular case. It would not be unreasonable to limit the returns for both interest and profit to not less than from 721⁄2 to 8 per cent. on a fair valuation of the gas plant, and to not less than 8 per cent. on a fair valuation of the electric plant. . . .

In passing upon these matters, however, it should be borne in mind that under present industrial conditions the best interests of society, as a whole, are subserved when the share of each factor of production is high enough to cause a free and unrestricted flow of labor, capital and business ability into the various utilities. If wages, interest and profits are not high enough to attract the factors which they represent, then these factors will not enter the utility business. The result of this is clear. If either or all of the factors refuse to enter this field, then no service of the kind these utilities render will be furnished, and the people may have to forego what may have become necessities to them. In order to obtain such service, therefore, it is absolutely necessary that the wages paid should be high enough to attract competent workmen, superintendence and manage

ment; that the interest paid on the capital legitimately invested should be sufficient to attract the necessary capital into these enterprises; and that the speculative and other gains should be high enough to induce employers to enter these industries as co-ordinators of the other factors of production therein and as assumers of all risks and responsibilities that are involved in their operation. From these facts there is no escape. From this it also follows that the rates fixed for the services rendered by such utilities must, in the long run, be high enough to attract the various factors of production, or to induce the employer to enter upon such enterprises and to become responsible for the risks that are involved.

§ 792. Ordinary method of financing in its relation to fair rate of return.

A

In considering a fair rate of return it is important to bear in mind that a large proportion of the capital of public service enterprises is furnished by the bondholders who receive only a prescribed rate of interest. The profits are divided among the stockholders who are supposed to assume the management and risks of the enterprise. rate of return slightly in excess of the interest rate on the bonds will therefore bring to the stockholders a very fair dividend. This fact is clearly brought out by Commissioner Maltbie in delivering the opinion of the New York Public Service Commission for the First District in Mayhew v. Kings County Lighting Company, 2 P. S. C. 1st D. (N. Y.), decided October 20, 1911. He says:

The ordinary method of raising funds must also be considered, for money can be secured by the issuance of bonds at a lower rate than stockholders demand. Other things being equal, the rate of interest which must be paid increases as the proportion of the capital raised by the issuance of bonds increases. Under ordinary circumstances, a public service corporation would be conservatively financed if one-half or two-thirds of the funds needed were secured by first mortgage bonds and the remainder by

the issuance of capital stock. In a case such as the one now being considered, probably one-half of the cost of the plant could be raised by the issuance of first mortgage bonds upon a basis of from 5 to 6 per cent. As a matter of fact, the par value of the bonds of the present company is equal to the stock. It is also probable that a return of from 8 to 10 per cent. upon the stock would attract sufficient capital to provide the remainder.

The following table illustrates the results of certain combinations of the above factors:

To illustrate, assume that the amount of money to be raised is $3,000,000 that one-half of this amount will be raised through bonds and one-half through stock, that bonds are sold upon a 5 per cent. basis, and that a 9 per cent. return is necessary to attract stockholders. The interest and dividends would be as follows:

5 per cent. interest upon the bonds (par value $1,500,000)

$75,000

9 per cent. dividends on stocks (face value

$1,500,000).

135,000

Total interest and dividends

$210,000

This is equivalent to 7 per cent. upon the total value of the property, assumed to be $3,000,000, as shown by case 3.

The above table shows that in no case would the average rate of return upon the entire amount be over 8 per cent. unless

a higher rate of return were demanded than 6 per cent. upon the bonds and 10 per cent. upon the stock. . . .

This fact is also brought out clearly in the extract from the paper by Frank F. Fowle quoted in § 644. The principle is applied by Judge Grosscup in Chicago Union Traction Company v. State Board of Equalization (see § 735).

§ 793. Three standards of reasonableness.

A fair return may be determined (1) by such rate or rates as would have been fair and necessary to induce investment at the time or times when the original plant and its subsequent additions or improvements were in fact constructed; (2) by such rate as would under present conditions be necessary to induce investment in a new enterprise of exactly the same character; (3) by the current market rate or income basis on which the securities of the company can be sold.

§ 794. Original risk standard.

(1) Fair rate of return at the time the original investment was made. The pioneers in early railroad, gas, water or electrical enterprises were doubtless entitled to returns commensurate with the risks incident to entering untried ventures. The question is whether the rate of return deemed fair at the time the investment was made should continue permanently as the fair rate to which the investor is entitled. When the New York Gas Light Company was organized in 1823 the production of gas was an uncertain venture and investors must have had the prospect of large returns in order to induce them to go into the enterprise. The expected profits were in fact realized and subsequent investments in the gas business in New York City were made on a much less speculative basis. It would of course be ridiculous to assert that because the

first money invested in the gas business in New York City was entitled to earn, say 20%, that therefore all subsequent investment in the same enterprise was entitled to the same return. But is the actual investment which when made 90 years ago was entitled to 20% as a fair return, still entitled to such return? This also seems unreasonable. Although the pioneers in this enterprise expected large returns, they could not reasonably expect such returns in perpetuity. The pioneer who undertakes the manufacture of a new commodity expects if successful to secure for a time what are practically monopoly prices and monopoly profits; but he realizes that competition will very soon reduce such profits. His chief reward comes during the period before his success has induced others to follow his example. Even if the commodity manufactured is protected by a patent, the patent will expire in 17 years. It certainly does not seem necessary to assume that a municipal monopoly is entitled to the enjoyment of the larger rate of profit due the original investment for a longer period than the 17-year period that is granted the promoter of a new invention.

§ 795. Original risk standard-Court decisions.

The doctrine that the present fair rate return shall be based on what was a fair return at the time the original investment was made has practically no legal authority. The Pennsylvania Supreme Court, however, in its decision in 1908 in the Pennsylvania Railroad Rate Case, see § 746, refers to the great risks assumed by the original investors in 1846 and concludes that the rate of return is not necessarily regulated "by what others would now make the venture for under the present circumstances and with present knowledge." A ruling by Judge Savage in one of the Maine water plant condemnation cases seems to hold that while the risks of the original investors should