RAILROAD VALUES AND RATES

[No railroad rate question ever brought before the Interstate Commerce Commission, it seems probable, has exceeded in importance that involved "in the matter of proposed advances in freight rates by carriers," decided Feb. 22, 1911. The question was as to the justness and reasonableness of certain proposed (increased) rates, considered as a whole, affecting a large part of the traffic throughout a large part of the country. The inquiry was divided into two parts, the one affecting the Western roads, and the other the Eastern roads, and separate decisions were rendered; but fundamentally one issue was involved, the right of the railroads in these territories, acting in unison and exercising a certain degree of monopoly power, to put into effect the new rates proposed. The decision of the Commission, which was in both cases unanimous, was adverse to the railroads. It had been generally predicted by railroad advocates that if an adverse decision were rendered, it would greatly depress railroad securities. A slight immediate decline did occur, followed by a quick recovery, and later by an advance. The opinions of the Commission, and the evidences presented showing the growing revenues and generally prosperous conditions of the roads, served as a certificate of soundness accepted by investors.

Among the far-reaching questions discussed in the decisions was that whether rates may justly be increased to earn dividends either on undistributed earnings in the past or on the increment of land values in city terminals or on the rights of way. This question is to some extent involved in every case of rates as connected with franchise values of public-service corporations. Neither the courts nor the commissions seem as yet to have entirely solved the problem. The Interstate Commerce Commission said in the decision on the Western Roads case (Senate Document, No. 725, 61st Congress, 3d session, in 10 volumes; extracts from pp. 5382-5391):]

The Burlington's claim of "legal right." The Chicago, Burlington & Quincy Railroad Co. presents another ground of justification for advancing the rates under consideration. It is entitled "as a matter of legal right to a fair return upon

the actual value of its property used for transportation, which value, from whatever source in the past created, is measured in its case by at least the cost of presently reproducing its physical plant. To obtain such fair return, it necessarily and equally is entitled to charge in the aggregate rates of transportation which, subject to the one limitation that the particular component rates are themselves reasonable and just to the shipper, will produce such reasonable return upon the property employed."

From this postulate the Burlington proceeds to the conclusion that it does not now enjoy a fair return, and finding itself confronted with the need of additional revenues to meet wage advances and other operation and maintenance charges and to offset diminishing net earnings, it may, as a matter of legal right, advance the rates upon the commodities selected, inasmuch as the advanced rates would be reasonable in view of the value of the service to the shipper. Logically it refuses to have its position regarded as an attempt to justify these higher charges, for in its theory it does not need to justify them, and what it presents to the commission is termed as "explanation of them and of the occasion for their imposition."

Here is a proposition at once novel and searching. The Burlington road may be taken as representative in that territory. Its traffic is diversified; its capitalization comparatively conservative; its credit excellent; its tonnage large; and management capable. When asked by the Government to explain why it has increased its charges, its reply is that it has a right to do so because it is not now receiving a fair return upon the value of the property which it uses; value being estimated cost of reproduction. This leads to a few questions: (1) What did the Burlington road cost those who built it? (2) What is its present value? (3) Whence came this value? (4) Is such increase in value a basis for increase in rates?

The controller of the company has given us the answer to

the first question. He testified that the total investment in the property from the sale of stocks and bonds was $258,000,000.

To the second question the company answers that its present value is $530,000,000.

The difference between these two figures represents (1) investment in the property made out of earnings; (2) increased value of right of way and terminals owned by the company. This is the answer to the third question.

The position therefore taken by the Burlington is that it has a right vested in it by law to add to its freight charges such amounts as will yield at the present time a fair rate of interest upon more than $270,000,000 which does not represent either the proceeds from the sale of a share of stock or a dollar of borrowed money, so long as the rate to the shipper is not unreasonable.

This contention opens up the broadest field of inquiry, as to the questions of law and fact upon which the commission could enter. We have before us a property constructed by private persons under authority of Government to be devoted to a public use. These private persons invest in that property the issues of certain sales of stocks or bonds amounting to $258,000,000. They capitalize this property at $320,000,000, one-third of which capitalization is represented by stock and two-thirds by bonds; they carry upon their books the cost of road and equipment at $364,000,000; and they now insist that the law gives them the right to a return upon $530,000,000.

Under its present capitalization, $320,000,000 ($110,000,000 of which was in stock), this corporation had available for distribution as dividends $13,975,620 in the year 1910, or 12.61 per cent. on its capital stock outstanding. "This," says the Burlington, "is an insufficient return, because it is based upon a capitalization which represents much less than value, and the courts have decided that under the Constitution property of this character is entitled to a reasonable return upon

the present fair value of its property employed in the service of the public."

In support of this proposition the leading case of Smythe v. Ames (167 U. S., 446) is cited:

We hold, however, that the basis of all calculations as to the reasonableness of rates to be charged by a corporation maintaining a highway under legislative sanction must be the fair value of the property being used by it for the convenience of the public.

Again, in Wilcox v. Consolidated Gas Co. (212 U. S., 19):

It is no longer open to dispute that under the Constitution what the company is entitled to demand in order that it may have just compensation is a fair return upon the reasonable value of the property at the time it is being used by the public.

Relying upon these cases, the Burlington's full position is that it is immaterial how the property was acquired, what it originally cost, whether the present value may be claimed to be in part the result of earnings put back into the property in betterments, or is due to growth of traffic and development of the country served. "The sole inquiry open at this time is the actual fair value of the railroad as it exists to-day as a going concern. The company cannot be lawfully required to take less than a fair and reasonable return upon this value. To be denied such return will be to appropriate in part a value that belongs to the owners for the use and benefit of the public without just compensation therefore being first paid or secured." [Cases cited.]

Notwithstanding these decisions, it remains for the Supreme Court yet to decide that a public agency, such as a railroad created by public authority, vested with governmental authority, may continuously increase its rates in proportion to the increase in its value, either (1) because of betterments which it has made out of income, or (2) because of the growth of the property in value due to the increase in value of the land which the company owns.

If the position of the Burlington is sound and is a precise expression of what our courts will hold to be the law, then, as we are told, there is certainly the danger that we may never expect railroad rates to be lower than they are at present. On the contrary, there is the unwelcome promise made in this case that they will continuously advance. In the face of such an economic philosophy if stable and equitable rates are to be maintained, the suggestion has been made that it would be wise for the Government to protect its people by taking to itself these properties at present value rather than await the day, perhaps 30 or 50 years hence, when they will have multiplied in value ten or twenty fold.

The books of the Burlington road now show some $76,000,000 in surplus, which is the accumulation from operating revenues of many years. This surplus is not all held in the form of cash, but has in part been put into the property in one form or another of additions and betterments. The stockholders, it is said, have chosen to waive their right to distribute this to themselves in the form of dividends and have reinvested it in the property. Without questioning the right of the stockholders to exercise this option, and without denying to them the right to a return upon any investment which they make, this much seems clear: That if the investment in a railroad at a given time is $100,000,000, upon which it yields a net revenue of $25,000,000, the stockholders may take that $25,000,000 entirely to themselves. But if they choose to take but one-half of this amount as their return upon their investment and to reincorporate in the same property the remaining half of the net earnings, they may not for this reason increase rates during the succeeding year so as to give them a return upon $112,500,000. It is idle to spend time in nice processes of reasoning over such a condition of fact. Public policy-the welfare of the Stateforbids the adoption of any such working theory. Because of the addition of the $12,500,000 a carrier may be entitled to an additional return upon the property, but is it entitled to