And I submit that this productive power is the natural and proper criterion of the value of the physical plant, as for any unit or group of capital goods. Whatever the purposes of an appraisal, one can hardly imagine appraisers setting the same valuation upon two plants precisely alike except that one was brand new and the other in the state of normal average depreciation. If we could imagine a perfect market for physical plants of going concerns, we could not conjure up the spectacle of business men paying, at one and the same time, the same amount for a new and a well-worn plant of the same type. And true as it is that there is no actual present market value to afford evidence of the proper valuation for purposes of rate control, the difference between probable present market values of new and comparatively old plants would suggest an underlying difference which is significant for the valuation of the plants in going concerns. The burden of proof to show that this difference in productive power may for practical purposes be disregarded in valuations for purposes of rate control is much heavier than the advocates of the new doctrine seem to have realized.

On the other hand, Professor Young would make productive efficiency " the criterion of present investment: proper repairs and replacements being made, a large and varied plant does not decline in productive efficiency, and if it does not so decline, then the amount of the investment remains essentially, "in every real sense," intact. But " productive efficiency" is a somewhat elusive phrase. If it signifies output at a given time, or perhaps even output at an unchanging cost for inevitable expenditures connected with production, we may agree that productive efficiency does not decline. But must it not mean something else? Repairs and replacements Professor Young himself asserts are part

of the operating expenses. These expenses are inevitably small early in the life of a plant and larger when it has reached its stage of normal average depreciation. The output per unit of total operating expense, if depreciation is neglected and the plant merely maintained at a given size and capacity, therefore inevitably declines as the plant "settles down." This Professor Young admits when he acknowledges that the "profits" may be expected to be larger during this interval than later. Only by counting into operating expenses from the start an item for depreciation to represent productive power exhausted and not replaced will the total operating expenses per unit of product remain constant. Adequately interpreted, it seems to me, productive efficiency must have reference to this relation between output and the total cost of producing it; and, if this be true, only by allowing for depreciation from the start can the productive efficiency be said not to decline.

It is the failure to differentiate between productive efficiency in a too narrow sense and productive power that led astray the railway officials above mentioned; and Professor Young seems to have run afoul of the same snag.

We may therefore conclude that the decline in productive power and consequent depreciation in value must in some way be taken into consideration if we are to arrive at even an approximate figure for the present value of a partly worn or partly aged physical plant. Neglect of it, whatever its large or small consequences, will at least distort the accuracy of this figure by the amount of such depreciation. Of course this statement carries with it no censure upon public service companies for failure to take regular account of depreciation or neglect to carry a depreciation reserve in days before the law or accounting practice required such actions.

It

simply means that if they have not done so, their figures for plant value are so far inaccurate; their profits have been, perhaps innocently enough, overstated; their dividends, if they have distributed all their calculated profits, have included part of their investment; their stated surplus, if they have refrained from distributing all their calculated profits, is at least in part a spurious one, the right to distribute which to the stockholders may well be called in question.

This is the principal question but not the whole one. When a public service company has operated for years without making such allowance for depreciation, under a well-warranted understanding that such allowance was at most unnecessary, is it just to require that henceforth rates be adjusted so as to afford a proper income on the actual investment rather than on the amount the proprietors considered still to remain invested? Professor Young writes: (p. 653) "In general, there is a reasonable presumption that the investments in undertakings which have not accumulated a depreciation reserve were not made with the expectation that it would be necessary to charge depreciation accruals to operating expenses. It follows that it cannot in general be presumed that the profits of such undertakings have contained an element which should unquestionably be considered a repayment of part of the invested principal. Accordingly, serious objection might properly be made to a system of compulsory accounts which requires that property already on hand be written down for depreciation." I have already adverted to the question of profits; but the question of justice remains.

It is clear that such a writing down as would be entailed by the "retroactive" operation would affect future rates and future dividends, and consequently the present value of securities outstanding. Yet no

regulation of past actions or profits is involved.

The investors are not required to disgorge the sums they received in the false guise of profits; they are not required to return the profits actually secured for years when rates were allowed to remain at a level to yield normal income on a capital sum higher than the actual investment; nor will rates or the value of the securities be now reduced below what they would have been had the company kept regular account of depreciation but otherwise followed the same policies. The company is merely dislodged for the future from a position unwarranted by present facts, and this, while no doubt irritating, seems hardly unjust.

Moreover, no breaking of contracts, express or implied, is involved. The risk of regulation of rates is one of the many which investors in public service undertakings had to take. No guarantee of immunity from this was given, nor was any assurance given that the company's figures would be accepted as the basis for rate making in case such a policy should be instituted. It may be that the promoters with characteristic optimism expected no such action, and aroused similar expectations in the purchasers of their securities. The legal decisions that no depreciation reserve or reserve fund was required to be accumulated may have cultivated expectations that in possible regulation of rates depreciation would not be considered; but the two were not necessarily connected. In any case, past "expectations" are notoriously difficult to ascertain and notoriously unsafe as a basis for present action; and it is not safe to presume that if an allowance for depreciation had been required from the outset investments would not have been made or would have been smaller.

Another aspect of this ethical question, however, must be noticed. Justice implies impartiality, equality of

treatment. Compare now the situations of two concerns which started out at the same time with equal plants, which have been conducted with equal efficiency, under identical conditions, and which have maintained equal outputs; but one has regularly charged depreciation to operating expenses while the other has not. If they pursued the same dividend policies, therefore, at the end of any period after both have reached the state of normal average depreciation, the more conservative company will show a smaller net figure for plant and at the same time a smaller capital stock account if the surplus earnings due to the "settling down" period have been actually divided to stockholders, or a smaller surplus and no larger item for outside investments if they have refrained from dividing such surplus earnings. If now a public service commission differentiates between them on the ground that one expected to allow for depreciation while the other did not, and prescribes rates to yield the same income on the nominal investment of each, the rates will be considerably higher for the concern which did not allow for depreciation, despite equality of productive power and productive efficiency. Relatively speaking, therefore, the company which adopted standards in advance of its time is penalized for the indefinite future for having been so wide-awake!

Numerous changes might easily be rung on this illustration, but they would yield similar results. In short, to make allowance for depreciation in valuation for purposes of rate control not only involves no injustice to companies which have been only abreast of their day, but it involves actual inequality of treatment among companies which for one reason or another have adopted different policies in this regard, with relatively unfavorable treatment for the most advanced managements.