Opinion ID: 2006220
Heading Depth: 1
Heading Rank: 3

Heading: illegality of rates.

Text: Mass. Electric argues that the 12% return on equity was itself confiscatory because it would result in forced dilution of the existing shareholders' equity and because it did not incorporate an attrition adjustment. Since Mass. Electric does not allege any other grounds by reason of which the cost of equity may be challenged as confiscatory, we consider its confiscation argument only in the context of these claims. See Boston Gas Co. v. Department of Pub. Utils., 368 Mass. 780, 791 (1975).
Relying on New England Tel. & Tel. Co. v. Department of Pub. Utils., 371 Mass. 67, 75-78 (1976), Mass. Electric argues that the 12% return on equity is confiscatory because it is not sufficient to maintain the market price of Mass. Electric's stock above the stock's book value. In Boston Edison Co. v. Department of Pub. Utils., 375 Mass. 1, 15-17 (1978), we considered in detail, and rejected, the contention that the capital attraction test requires the adoption of a per se rule that the rate of return on equity must be sufficient to maintain market price above book value. See Fitchburg Gas & Elec. Light Co. v. Department of Pub. Utils., 375 Mass. 571, 577 (1978). Mass. Electric has not argued nor has it shown that the utility has a demonstrable inability to attract capital and ... [that] investors face a risk of continual dilution even as the utility finances its normal operations. Boston Edison Co. v. Department of Pub. Utils., supra at 16. See New England Tel. & Tel. Co. v. Department of Pub. Utils., supra . We have declined to mandate a rule requiring rates which enable market price to exceed book value. Therefore, since Mass. Electric has not demonstrated any compelling reason why the market price of its stock must be maintained above book value, the fact that the allowed return on equity would not achieve this result does not render the rate confiscatory.
Mass. Electric also argues that due to inflation it has not been able to earn its allowed rate of return for the past five years. It therefore contends that the rate of return on equity was confiscatory because it did not incorporate an attrition adjustment. Attrition is the `tendency of the rate of return to diminish in a period of comparatively high construction costs' [quoting from New England Tel. & Tel. Co. v. Department of Pub. Utils., 331 Mass. 604, 622 (1954)]. In times of inflation, as old plant is retired, the new plant built to replace it costs more. If investment increases more rapidly than revenue, the rate of return is diminished. See Boston Gas Co. v. Department of Pub. Utils., 359 Mass. 292, 307 n. 19 (1971). New England Tel. & Tel. Co. v. Department of Pub. Utils., 371 Mass. 67, 72 (1976). Mass. Electric's bald assertion that it has been unable to earn its allowed rate of return primarily due to the effects of inflation is insufficient to entitle it to an attrition adjustment. It does not necessarily follow, even given the presence of inflation, that a failure to earn the allowed rate of return entitles a company to an attrition adjustment. The return earned depends on many factors, some of which, such as operating efficiency, are within the control of the company. Mass. Electric has not sought to demonstrate that its failure to earn the allowed rate of return is the result of the Department's decisions, rather than the result of factors which are under its own control. See Boston Gas Co. v. Department of Pub. Utils., 368 Mass. 780, 791 (1975). Cf. New England Tel. & Tel. Co. v. Department of Pub. Utils., supra at 72-74; Boston Gas Co. v. Department of Pub. Utils., 359 Mass. 292, 307-311 (1971). Moreover, Mass. Electric has not sought to demonstrate that the gap between the allowed return and the earned return is the result of an expansion in the rate base due to increased construction costs, the hallmark of attrition. See New England Tel. & Tel. Co. v. Department of Pub. Utils., supra at 72-74; Boston Gas Co. v. Department of Pub. Utils., 359 Mass. 292, 307-311 (1971). Indeed, the record indicates that there has been no large growth in plant in the recent past, and that no substantial growth is contemplated in the near future. The Department found that plant in service increased less than 3% from September 30, 1975, to September 30, 1976. In 1977, when Mass. Electric applied to redeem 100,000 shares of its preferred stock, it represented to the Securities and Exchange Commission that it did not expect to undertake any permanent financing within the next four or five years, and that one reason for this decision was that its construction had been substantially reduced from its previous level. Since Mass. Electric has not specifically indicated the reasons for its failure to earn the allowed rate of return and since, in particular, it has not linked this failure to construction, it has failed to satisfy its burden of proof on the attrition issue.
As indicated, the Department's rejection of the proxy approach was justified by substantial evidence. Since the experts who testified on the cost of equity based their conclusions on the cost of equity of NEES, there was no independent evidence of the cost of equity of Mass. Electric. And, as just discussed, Mass. Electric failed to demonstrate that the return on equity should be sufficient to maintain the market price of its stock above the stock's book value and that an attrition adjustment was necessary. In these circumstances, it was appropriate for the Department to maintain the rate of return on equity which it had established in D.P.U. 18204. See Fryer v. Department of Pub. Utils., 374 Mass. 685, 690-692 (1978). See also Boston Gas Co. v. Department of Pub. Utils., 368 Mass. 780, 803-804 (1975). [9]