Opinion ID: 1188758
Heading Depth: 1
Heading Rank: 11

Heading: The Cost Approach

Text: The Cost approach is less reliable than would normally be the case because of the difficulty of determining the degree of functional and economic obsolescence. All witnesses agreed that, under the Cost approach, a deduction from net book value should be made for functional and economic obsolescence. John Green described obsolescence as follows:    But then the obsolescence category, two  two types: functional, and this would be problems within the property itself, such as improvement in the locomotives, improvement in the freight yards going to the larger capacity, the better hitches, the capacity to dump  totally dump the cars at  for coal or other type things. Improvements that have been made that are not reflected in the current property. Functional problems within the property itself. Then economic obsolescence are losses in value or losses in income from factors outside the property itself. And with railroads, major problems there have been competition from the trucks. The railroads provide their own rights-of-way. Trucks are provided theirs. Subsidizing in some cases of some types of transportation. Barges are a big mover of traffic. They pay limited tax impact. Government intervention in wage disputes. Government control of operating characteristics. Government control of tariff rates. So many things outside of the property itself. But they have a negative effect on income and, as such, they are substantial and they are classified as economic obsolescence. Arlo Woolery testified that the percentage of obsolescence was 75.18 percent. John Green stated that the percentage of obsolescence was 55.34 percent. The state's appraiser, Richard Green, made no specific deduction for obsolescence. His initial determination of market value resulted from weighting the Cost and Income approaches, using a 30 percent weight for the Cost approach and a 70 percent weight for the Income approach. [14] Richard Green's explanation of the calculation of obsolescence is unconvincing. Many witnesses referred to an article by Lionel W. Thatcher and Richard C. Dubielzig entitled, Obsolescence in Railroad Ad Valorem Tax Assessments, 1967 Wisconsin Commerce Reports 7-37. John Green's appraisal report includes this explanation: It is my opinion that the most reliable method for estimating obsolescence in railroad property is to compare the subject railroad with the so-called `super blue chip' factors.    This method compares various quality and efficiency factors of a representative group of railroads with the same factors for the subject railroad. The `super blue chip' factors are used as a standard of measurement for comparison purposes. The comparison of the quality and efficiency factors will give a ratio which tends to measure the loss in income which is attributable to the subject railroad and which is crought about by its lack of efficiency. This method compares favorably with the normal method of estimating obsolescence by capitalizing loss in revenue arising from the deficiency. Lionel W. Thatcher and Richard C. Dubielzig in their study entitled `Obsolescence in Railroad Ad Valorem Tax Assessments,' which was published by the University of Wisconsin, Bureau of Business Research and Service in May, 1967 used four `blue chip' railroads. In this appraisal, I have used data compiled from a study of thirteen railroads. The average of the three highest values calculated for each quality and efficiency factor is used as a standard of measurement for comparison purposes. It is my opinion that the use of the larger number of railroads represents a much better comparison for measurement of the quality and efficiency of the Burlington Northern Inc.    Appendix D, below, sets forth the results of John Green's study. Green determined that the properties had a depreciated value of $2,645,707,000 which he reduced to $1,206,972,000 by application of an obsolescence factor of 54.38 percent. To this he added $160,726,000 for materials and supplies on hand, for a total value, under the Cost approach, of $1,367,698,000, which he rounded to $1,368,000,000. John Green concluded that factors 1, 2, 7, and 8 of Appendix D should be given a double weight because those factors are the most meaningful in the sense that they more directly reflect the ability of the railroad to obtain a return upon investment. There can be no denying that factors 1, 7, and 8, in particular, directly reflect a return upon investment. At the same time, it is obvious that by giving these four factors an additional weight in the calculations, a higher obsolescence percentage results, for these four factors, when compared to the standard, show the greatest departure from the standard. The factors listed in Appendix D reflect qualities of the plaintiffs' railroads other than obsolescence. These factors reflect, as well, such things as the quality of management, the skill of the work force, wages and salaries paid to labor and management, competition from other railroads, and a host of other influences which, apart from obsolescence, contribute to the plaintiffs' ability to compete in the market place. We believe that it is more realistic to determine obsolescence in this case by giving no factor a greater weight than any other, with the result that the percentage of obsolescence for 1976 is 46.565 percent, and for 1977, 47 percent. Under our analysis, the value using the Cost approach is as follows: 1976 1977 Net investment $2,645,707,000 $2,744,117,000 Less obsolescence (46.565% and 47%) 1,231,973,400 1,289,734,900 ______________________________ System value 1,413,733,600 1,454,382,100 Add: Materials and supplies 160,726,000 178,196,000 ______________________________ Total value under Cost approach $1,574,459,600 $1,632,578,100