§ 7. As a practical tool, the rule of rate making, especially in relation to the recapture of excess earnings, must be incomplete until a figure of "value" has been determined and attached to each road. This is a work upon which the Commission has been engaged since 1913. In the 1920 Increased Rate Case, the Commission was forced to use round figures, frankly tentative, for the totals in each rate group.1 But, when the final value figures of the Commission have been completed, they, of course, will be used to calculate excess earnings, if any, and to determine the aggregate value of the railroad property in the rate making

1 Commissioner Hall, testifying before the Senate Committee on Interstate Commerce, "Modification of Transportation Act," Hearings, 67th Cong., 1st Sess., presented at length a statement prepared by Commissioner Aitchison describing the method by which the Commission hit upon the figure $18,900,000,000, used in the 1920 case. This testimony is at p. 676 and following:

"All of the results produced by years of work on the part of the Bureau of Valuation were utilized, both as to particular roads and .as to general tendencies and principles. These data covered (a) information as to the original cost of the property, (b) cost of reproduction new, (c) the accrued depreciation, (d) the amount of the investment, (e) the corporate histories of the properties, (f) the values of the lands, and (g) other values and elements of value, if any.

Those were found in the working papers in our Bureau of Valuation, which had accumulated during this period of time.

We utilized the results of the work of the bureau not only in cases where reports from the engineering, land, and accounting sections were all completed, our work being done by sections, but where substantial completion had been reached in the work of any of these divisions. Some idea of the magnitude of this special task of compilation may be had from the fact that 572 employee-days' services were performed in the bureau of valuation in this phase of the work.

A thorough study was made of the results of such inspections as were made under law and as to the corrections of errors which had been made. That reference to policing the property investment accounts of the carriers might be explained. It has not been practicable with the force at our command to police these accounts of the carriers in the way we should have liked. I am speaking now merely of property investment accounts. These accounts running back prior to 1907 have been thoroughly examined by our bureau of carriers' accounts in only a few instances. We made a most serious and diligent attempt, irrespective of what was urged upon us in argument or in other ways, or presented in evidence,now, do not misunderstand me; we did not ignore the evidence; we took all the evidence and we considered it; it was our duty to do that, but we had to exercise judgment in weighing this evidence, and we reached conclusions which, after all, represent the composite of a number of minds. The amount and market value of the bonds and stocks had been developed along general lines in the evidence, but was not especially studied by us. In the compilation of the statistical matter, 494 clerk-days' labor was performed in the Bureau of Statistics. This is distinct, of course, from the labor that was done in the Bureau of Valuation. In addition, the entire time of Attorney-Examiner Flynn was taken up for more than three months with this work."

groups. The figures of valuation must, therefore, be of basic significance in the task of credit rehabilitation. Because of this fact, an understanding of the principles upon which they are being built up is essential for a clear understanding of the full scope of the regulation of management.

CHAPTER XXIII

RAILROAD VALUATION

Section 1. The Valuation Act of 1913, 335-Sec. 2. Smyth v. Ames, 337— Sec. 3. The Bureau of Valuation, 338-Sec. 4. Cost of Reproduction, 341-Sec. 5. Railroad Land, 343-Sec. 6. "Other Values, or Elements of Value," 346-Sec. 7. The Weakness of the Commission's Valuations, 347-Sec. 8. The Future of the Valuation, 350.

§ 1. The rule of rate making is a development from premises clearly established by the carriers themselves. While prominent executives were proclaiming that there existed no relationship between rates and valuation, railroad attorneys were seeking to justify increased rates, not alone by pointing to the public interest in the maintenance of railroad credit, but by insisting upon a "legal right" of the carriers to advance rates in order to secure a fair return on the value of their properties. Earlier, in the Spokane Case, reductions in rates had been fought by the railroads on the ground that to reduce their rates would leave them less than a fair return upon the value of their properties. Figures purporting to measure the value of the Great Northern and Northern Pacific were introduced, and the carriers' engineers

1Judge R. S. Lovett, of the Union Pacific R. R. Co., on December 21, 10, stated before the Railroad Securities Commission:

"It is perfectly obvious that the railroad rates of this country are not based on the value of railroad property. No railroad company has ever undertaken to base rates, on the value of its property, and no railroad man has ever attempted to make rates according to the value of the railroad. . . . Rates must of necessity be the same on all competing railroads; and yet we know that the value of such railroads varies greatly. If the more valuable should raise its rates because of its investment or value it would simply drive the competitive business to the cheaper line. . . . In short, it is just as plain that railroad rates are not and never have been based upon the value of railroad property as that they are not and never have been based upon the stock and bonds outstanding. Nor do I understand that Congress has ever authorized or required the Interstate Commerce Commission to base rates on the value of the railroad property."

But see in Advances in Rates-Western Case 20, I. C. C. 307, 337, a discussion of the Burlington's claim of legal right, given in detail in Chester M. Dawes's brief. Evidence, Proposed Advances in Freight Rates, Sen. Doc. No. 725, 61st Cong., 3d Sess.

testified at length. Some of the claims set up were manifestly absurd, upon the ground that, considering the extent of the issues, the investigations which furnished the figures of value submitted were almost perfunctory, if upon no other.2 But the Interstate Commerce Commission had no authoritative data by which to measure the adequacy of the carriers' evidence, even upon the premises used. The result was to force the hand of the Commission and of Congress. In 1913 the Valuation Act (Section 19a of the Interstate Commerce Act) was passed in answer to reiterated recommendations by the Commission. Its passing marked the high tide of Mr. LaFollette's influence in the Senate.*

3

The Commission was directed to make a variety of related, though quite separate investigations. A "physical valuation," supplemented by accounting investigation, and not a little historical research, was provided. The purpose was primarily to examine the history and organization of each railroad without emphasis upon the amount of the capitalization. The determination of the existence or non-existence of watered stock was to be one of the by-products of an investigation undertaken because of the rate problem.

1 Spokane v. N. P. Ry. Co., 15 I. C. C. 376. The methods of making their appraisals is disclosed in the Record of the Minnesota Rate Cases, 230 U. S. 352. They are discussed, p. 30 and passim, Homer B. Vanderblue, Railroad Valuation.

2 See Homer B. Vanderblue, Railroad Valuation, pp. 53, 58, 63, 71, and the Record, Minnesota Rate Cases, 230 U. S. 352.

23d Annual Report (1909), p. 6; 24th Annual Report (1910), p. 35; 25th Annual Report (1911), p. 94. These recommendations were strengthened by those of the Railroad Securities Commission (Arthur T. Hadley, President of Yale, Chairman), submitted to President Taft late in 1911. This Commission said:

"Indeed we believe it to be in the interest of the railroads, no less than of those who use them, that the Interstate Commerce Commission should be given broad powers and adequate means for valuation of the physical property of railroads as one element in determining fair values, whenever, in the judgment of the Commission, this is of sufficient importance to warrant such action. This will give the public information which it is entitled to demand, and which can, in our judgment, be better and more economically obtained in this way than in any other. The attempt to oppose a system of physical valuation of this kind tends to give countenance to exaggerated estimates of the amount of water in railroad stock." Report of the Railroad Securities Commission, p. 18.

Mr. LaFollette, indeed, led the legislative battle. He said "very frankly" that one aim of the Valuation Act was "to put into the possession of the Commission, and upon record, the data which will enable us ultimately to try out the question and determine the right of railroads to capitalize the unearned increment." 49 Cong. Rec. 3800.

In framing the Valuation Act, Congress had to take into account all probable uses of the figures ultimately to be determined. If these were to stand the tests of the Courts, it was essential that the law be drawn to conform to such principles of railroad valuation as had been voiced in the opinions of the Supreme Court. But these principles, study showed, were vaguely expressed. The governing doctrine, announced by Mr. Justice Harlan in Smyth v. Ames, had been followed by his colleagues in a series of cases in which it had not been necessary to test the logical adequacy of the rule. No clear statement of principle could be found. To be sure, the scope of the necessary investigation has been indicated; but only in very general language:

"the ascertainment of that value is not controlled by artificial rules. It is not a matter of formulas, but there must be a reasonable judgment having its basis in a proper consideration of all relevant facts."1

The weight to be given each element of "value" has been held to depend upon no set rule, but upon an appraisal of the facts as demonstrated for the individual company.

§ 2. Few recent statements of judicial doctrine have had the influence of the following words of Mr. Justice Harlan:

"In order to ascertain that value, the original cost of construction, the amount expended in permanent improvements, the amount and market value of its bonds and stock, the present as compared with the original cost of construction, the probable earning capacity . . . under particular rates prescribed by statute, and the sum required to meet operating expenses, are all matters for consideration, and are to be given such weight as may be just and right in each case. We do not say that there may not be other matters to be regarded in estimating the value of the property.""

Compare now the language of the statute. The Commission is directed to "ascertain and report in detail as to each piece of property owned or used by said common carrier, for its purposes as common carrier, the original cost to date, the cost of reproduction new, the cost of reproduction less depreciation, and an

1 Minnesota Rate Cases, 230 U. S. 352, 434.

2 Smyth v. Ames, 169 U. S. 466, 546. For a critical discussion of this "rule," an analysis of its origins and discussions of its subsequent development in the opinions of the Supreme Court, see Homer B. Vanderblue, Railroad Valuation, pp. 7-19; Railroad Valuation by the I. C. C., p. 89, an analysis of the "regulation-condemnation" analogy.