Case Title: In re Vermont Telephone Co.

Citation: 169 Vt. 476, 739 A.2d 671

Docket Number: 

State: vermont

Court: Vermont Supreme Court

Date: 1999-08-27T00:00:00Z

Document:
In re Vermont Telephone Co. (98-332); 169 Vt. 476; 739 A.2d 671

[Filed 27-Aug-1999]

       NOTICE:  This opinion is subject to motions for reargument under
  V.R.A.P. 40 as well as  formal revision before publication in the Vermont
  Reports.  Readers are requested to notify the  Reporter of Decisions,
  Vermont Supreme Court, 109 State Street, Montpelier, Vermont 05609-0801 of
  any errors in order that corrections may be made before this opinion goes
  to press.

                                 No. 98-332

In re Investigation Into the Existing	              Supreme Court
Rates of Vermont Telephone Company, Inc.
	                                              On Appeal from
     		                                      Public Service Board

	                                              April Term, 1999

Richard H. Cowart, Chair

       Michael Marks of Tarrant, Marks & Gillies, Montpelier, for Appellant.

       Leslie A. Cadwell, Montpelier, for Appellee.

PRESENT:  Amestoy, C.J., Dooley, Morse, Johnson and Skoglund, JJ.

       AMESTOY, C.J.  	Appellant Vermont Telephone Company (VTel) appeals
  from a  Public Service Board order requiring VTel to eliminate over a
  ten-year amortization period the  value of what the Board characterized as
  a goodwill cost in the purchase price to be borne by the  shareholders and
  not the ratepayers.  We affirm.

       This matter arises out of the sale of Contel of Vermont, Inc.'s
  (Contel) assets to three  separate operating companies, one of which was
  VTel, and the impact of the structure of the  acquisition on the rate base. 
  The three acquiring companies sought permission from the Board to  acquire
  Contel's assets and to provide local telephone service in Vermont.  Both
  the asset  acquisition  and the operation of local telephone service
  required approval by the Board pursuant  to 30 V.S.A. §§ 109 and 207
  respectively.  Under § 109, approval could only occur if the Board 

 

  concluded that the acquisition would "promote the general good of the
  state."  The Board  conducted a detailed evaluation of the proposed
  transaction and on June 14, 1994, granted the  acquiring companies' request
  to purchase the assets of Contel and issued VTel and the other two 
  companies Certificates of Public Good.  The Board based its June 14, 1994,
  order (settlement  order) on a proposed settlement among the parties to the
  acquisition proceeding, including VTel  and the Department of Public
  Service. 

       In approving the acquisitions and issuing the certificates, the Board
  considered seven  separate criteria for each of the three new operators. 
  Addressing the seventh criterion - the  impact of the proposed acquisition
  on established rates, terms and conditions of service - the  Board stated
  that for each of the three companies, local rates were expected to remain
  at their  existing levels for at least two years.  The settlement order
  contained additional provisions  relevant to rates and the rate base,
  beginning with the condition that the operating companies not  seek an
  increase in local rates for two years after the closing, unless "exogenous
  changes" made  such an increase necessary. At the end of the two years, a
  service quality assessment of the  companies was to occur to review, among
  other things, appropriate rate levels and whether  continuation of the
  franchises granted by the settlement order would be in the public interest.  

       The settlement order also addressed the investment it would allow the
  acquiring  companies to recover in the future through rates.  The Board
  stated: "The Operating Companies  shall not include in future rates
  acquisition costs above regulatory book value for intrastate  ratemaking,
  except as may be specifically authorized by law."  The Board explained that
  its  approval of the transactions did not imply inclusion in rates of all
  the costs associated with the  debt and equity financings, stating:

 

     The proposed purchases include "goodwill," and/or a market 
     premium, approaching some forty million dollars ($40,000,000).  
     Expenditures to support such premiums will not be included in 
     rates.  This Board's long standing policy has been to consider only 
     the book value, or historical cost, of tangible assets for rate-
     making purposes.

       At the center of this appeal is the impact on ratepayers of the
  treatment of a Contel  account called the accumulated deferred income tax
  account (ADITs or ADIT account).  ADIT  accounts allow a utility to finance
  investments with money owed to the federal government for  taxes, thereby
  relieving the utility of having to finance that portion of the investment
  with its own  equity or debt.  Ratepayers pay the taxes reflected in the
  ADIT account in advance, providing the  utility with a cost-free source of
  capital until it must pay the taxes.  (FN1)  The Board, in setting  just
  and reasonable rates pursuant to 30 V.S.A. § 218, recognizes these
  prepayments and makes  adjustments to reflect the cost-free capital.  In
  the case of Contel and VTel, the ADIT has been  treated as an offset to the
  rate base.  The value of the ADIT to ratepayers is that, over time, as  the
  offsets are made, the reduced rate base translates into lower rates than
  would be paid if the  ADIT offset was eliminated.  In essence, the utility
  is gaining a cost-free "loan" from ratepayers  between the time in which it
  collects the taxes and the eventual payment of the taxes to the IRS.   The
  ratepayers benefit when and if the utility's use of the money is reflected
  by an ADIT offset

 

  to the rate base.  

       In the instant case, prior to VTel's acquisition, Contel's books
  included approximately  $5.1 million in ADITs.  The account reduced
  Contel's rate base until the money became payable  to the federal
  government. (FN2)  When VTel purchased a portion of Contel's assets,
  however,  the tax repayment schedule changed.  The structure of Contel's
  sale of its assets to the three  acquiring companies triggered an Internal
  Revenue Service rule which required Contel to pay the  taxes to the federal
  government before the acquisition was completed.  Therefore, no portion of 
  the ADIT account transferred to VTel.   

       In their proposed order, VTel and the settling parties asked the Board
  to include in the  settlement order a condition related to Contel's $5.1
  million ADIT account.  The condition, as  proposed by the parties and
  included in the Board's final order, provided:

     Within 90 days after Closing, the Operating Companies shall 
     provide to the Board and the Department the methodology which 
     was used to allocate among the three Operating Companies the 
     depreciation reserve and deferred income taxes accrued by Contel 
     of Vermont, Inc., as well as the results of such allocation 
     methodology.  

  After the closing, VTel and the other acquiring companies filed a letter
  with the Board asking for  an extension of time to file the explanation on
  the allocation methodology relating to the ADITs.  The letter, dated
  October 28, 1994, stated that the three companies had reached a tentative 
  agreement as to the appropriate methodology to allocate among them the
  ADITs accrued by  Contel, and the results of the methodology.  The letter
  did not state that the ADIT account had 

 

  been eliminated as a result of the transaction.  In their follow-up letter
  dated January 3, 1995, the  operating companies explained that in order to
  meet IRS requirements, "all pre-acquisition  deferred taxes must be
  eliminated from the company's ratemaking books." The letter stated that 
  based on the companies' interpretation of the tax laws, "the successor
  corporations report that  there were no deferred income taxes on the books
  of Contel of Vermont to allocate among  themselves."     

       On July 31, 1996, in accordance with the settlement order, the Board
  opened a rate  investigation of VTel pursuant to its authority under 30
  V.S.A. § 227(b).  During the  investigation, the Department recommended
  that the Board exclude from VTel's rate base  approximately $1.8 million
  dollars relating to the ADIT account.  VTel moved for dismissal of  all
  issues relating to the ADIT account, and for summary judgment on the
  grounds that the  settlement order precluded the Department's proposed
  elimination of the $1.8 million from the  rate base and compelled the
  treatment of the ADITs elected by VTel.  The Board's hearing  officer
  denied the motions, ruling that the Board had not analyzed the effect of
  Contel's ADIT  account in the settlement order except to require - as
  proposed by the companies themselves - that the three operating companies
  provide to the Board and the Department at a later date the  methodology
  used to allocate the ADIT account and the results of such allocation
  methodology.  

       According to the Department's critique of the acquisition structure,
  when VTel acquired  its portion of Contel, the ratepayer-generated ADIT
  account, which allowed for a rate base  offset, did not transfer to VTel,
  but was nonetheless included in the rate base upon which VTel  shareholders
  were entitled to a rate of return.  Evidentiary hearings followed before a
  hearing  officer of the Board, who concurred with the Department's proposal
  that VTel's rates be adjusted 

 

  due to the non-transference of the ADIT account.  The Board agreed that an
  adjustment was  necessary, reiterating that when the sales transaction
  occurred, VTel paid cash to acquire its  assets and, "[p]art of the assets
  it acquired was cost-free capital, provided by ratepayers and held  by
  Contel as deferred taxes."  The structure of the transaction, however,
  caused an acceleration  of the income tax payments for which the ADIT
  account was reserved.  Thus, "ratepayers lost  the time-value benefit of
  the money they had provided, cost-free, to Contel in advance of the  taxes
  being due."  Rather than ordering a reduction in rate base that would
  mirror the ratemaking  treatment that would have occurred had the ADIT been
  transferred to VTel, the Board ordered  that VTel amortize "the total value
  of the additional goodwill" over a ten-year period as an  adjustment to its
  cost of service.  (FN3) VTel requested reconsideration of this order, and
  the  Board denied any relief.  VTel appeals.

       VTel presents three points of contention with the Board's order. 
  First, it argues that the  adjustment is unlawful because it reduces VTel's
  revenues below the level of legitimate expenses  and return on investment. 
  Second, VTel disagrees with the Board's characterization of the 
  amortization as an adjustment to eliminate goodwill; instead, VTel argues,
  the amortization  disallows the return on investment in real assets. 
  Third, VTel contends that the amortization  collaterally attacks the
  Board's settlement order in which it approved VTel's acquisition of a 
  portion of Contel.  We address these arguments, presuming, as we must, that
  the Board's  decision was valid.  See In re Green Mountain Power Co., 162
  Vt. 378, 380,