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AMENDMENT 14—RIGHTS GUARANTEED
(1898), held that determination of such value necessitated consideration of at least
such factors as ‘‘the original cost of construction, the amount expended in perma-
nent improvements, the amount and market value of . . . [the utility’s] bonds and
stock, the present as compared with the original cost of construction, [replacement
cost], the probable earning capacity of the property under particular rates pre-
scribed by statute, and the sum required to meet operating expenses.
(2) Reproduction Cost.—Prior to the demise in 1944 of the Smyth v. Ames fair
value formula, two of the components thereof were accorded special emphasis with
the second quickly surpassing the first in measure of importance. These were: (1)
the actual cost of the property (‘‘the original cost of construction together with the
amount expended in permanent improvements’’) and (2) reproduction costs (‘‘the
present as compared with the original cost of construction’’). For varied application
of the reproduction cost formula, see San Diego Land Co. v. National City, 174 U.S.
739, 757 (1899); San Diego Land & Town Co. v. Jasper, 189 U.S. 439, 443 (1903);
Willcox v. Consolidated Gas Co., 212 U.S. 19, 52 (1909); Minnesota Rate Cases
(Simpson v. Shepard), 230 U.S. 352 (1913); Galveston Elec. Co. v. Galveston, 258
U.S. 388, 392 (1922); Missouri ex rel. Southwestern Bell Tel. Co. v. Public Serv.
Comm’n, 262 U.S. 276 (1923); Bluefield Co. v. Public Serv. Comm’n, 262 U.S. 679
(1923); Georgia Ry. v. Railroad Comm’n, 262 U.S. 625, 630 (1923); McCardle v. Indi-
anapolis Co., 272 U.S. 400 (1926); St Louis & O’Fallon Ry. v. United States, 279
U.S. 461 (1929).
(3) Prudent Investment (Versus Reproduction Cost).—This method of valuation,
championed by Justice Brandeis in a separate opinion in Missouri ex rel. Southwest-
ern Bell Tel. Co. v. Public Serv. Comm’n, 262 U.S. 276, 291–92, 302, 306–07 (1923),
was defined as follows: ‘‘The compensation which the Constitution guarantees an op-
portunity to earn is the reasonable cost of conducting the business. Cost includes
not only operating expenses, but also capital charges. Capital charges cover the al-
lowance, by way of interest, for the use of capital . . . the allowance for the risk
incurred; and enough more to attract capital. . . . Where the financing has been
proper, the cost to the utility of the capital, required to construct, equip and operate
its plant, should measure the rate of return which the Constitution guarantees op-
portunity to earn.’’ Advantages to be derived from ‘‘adoption of the amount pru-
dently invested as the rate base and the amount of the capital charge as the meas-
ure of the rate of return’’ would, according to Justice Brandeis, be nothing less than
the attainment of a ‘‘basis for decision which is certain and stable. The rate base
would be ascertained as a fact, not determined as a matter of opinion. It would not
fluctuate with the market price of labor, or materials, or money.
As a method of valuation, the prudent investment theory was not accorded any
acceptance until the Depression of the 1930’s. The sharp decline in prices which oc-
curred during this period doubtless contributed to the loss of affection for reproduc-
tion costs. In Los Angeles Gas Co. v. Railroad Comm’n, 289 U.S. 287 (1933) and
Railroad Comm’n v. Pacific Gas Co., 302 U.S. 388, 399, 405 (1938), the Court upheld
respectively a valuation from which reproduction costs had been excluded and an-
other in which historical cost served as the rate base. Later, in 1942, when in FPC
v. Natural Gas Pipeline Co., 315 U.S. 575, the Court further emphasized its aban-
donment of the reproduction cost factor, there developed momentarily the prospect
that prudent investment might be substituted. This possibility was quickly
negatived, however, by the Hope Gas case, (FPC v. Hope Natural Gas Co., 320 U.S.
591 (1944)), which dispensed with the necessity of relying upon any formula for the
purpose of fixing valid rates.
(4) Depreciation.—No less indispensable to the determination of the fair value
mentioned in Smyth v. Ames was the amount of depreciation to be allowed as a de-
duction from the measure of cost employed, whether the latter be actual cost, repro-
duction cost, or any other form of cost determination. Although not mentioned in
Smyth v. Ames, the Court gave this item consideration in Knoxville v. Water Co.,
212 U.S. 1, 9–10 (1909); but notwithstanding its early recognition as an allowable
item of deduction in determining value, depreciation continued to be the subject of
controversy arising out of the difficulty of ascertaining it and of computing annual