Opinion ID: 1264723
Heading Depth: 1
Heading Rank: 2

Heading: Rate Base, Rate of Return and Comparable Net Operating Income

Text: Appellants assign two errors to the manner in which the jurisdictional rate base was determined in the majority opinion. They assert that the Commissioners should have rejected the peak responsibility method used by the Company's expert witness and approved the average and excess method used by the staff's expert witness. [15] In any event, they assert, the Commissioners should not have fixed the jurisdictional rate base by averaging the adjusted figures of the two experts. The Company's expert and the staff's expert each explained why he thought his method preferable to the method used by the other, and each brought in another expert witness to support his opinion. It was the province of the Commissioners to determine which method should be used. See Princess Anne Utilities Corp. v. Commonwealth, 211 Va. 620, 625, 179 S.E.2d 714, 717 (1971). Had they accepted the method used by the Company's expert, which was within their province, the result would have been higher rates than those the Commission authorized in this proceeding. Appellants therefore cannot complain of the rates fixed by averaging the results of the two methods. Turning to the details of the calculations of the jurisdictional rate base, appellants contend for the first time on appeal that the adjusted figures of the Company's expert witness are erroneous with respect to street lighting. The original figures submitted by this expert improperly included certain costs of street lighting not subject to regulation by the Commission, but another witness introduced an exhibit adjusting the street lighting figure. The amount of the adjustment was not contested by any party, and the Commission found as a fact that it was correct. We will not disturb that finding.
Appellants contend that the Company did not bear its burden of showing a proper rate of return because it brought forth no evidence, and the other parties supplied no evidence, about a proper rate of return on the Company's jurisdictional rate base. Witnesses expressed opinions as to a proper rate of return only on the Company's total capitalization, except for one witness who expressed an opinion as to a proper rate of return on the Company's total electric rate base. The staff's expert witness was of opinion that the cost of money [cost of capital] can only be determined for the Company as a whole. The determination of a fair rate of return, in his opinion, must be made on a total company basis. The Ad Hoc Committee's expert witness said: I apply it [the proper overall rate of return] to either a property base, original cost less depreciation plus working capital or to an invested capital base. I assume under regulated utility accounting there is a close approximation between these. We agree that where, as is true of the Company, total capitalization and total rate base are not significantly different, [16] opinions as to a fair rate of return on capitalization can be properly translated into a fair rate of return on total rate base. See J. Bonbright, Principles of Utility Rates 242, n. 4 (1961). [17] Moreover, a proper rate of return on total rate base may be properly applied to jurisdictional rate base. No reason has been advanced why the proper rate of return should differ for segments of an integrated electric system. Appellants also contend that no justification has been shown for the rate of return fixed in the majority opinion, 8.38% on total capitalization. As pointed out in A. Kahn, The Economics of Regulation 42 (1970), there is no single, scientifically correct rate of return but a `zone of reasonableness,' within in which [the Commission's] judgment must be exercised. Virginia cases recognize that principle. City of Lynchburg v. Chesapeake and Potomac Tel. Co., 200 Va. 706, 712, 107 S.E.2d 462, 467 (1959); Board of Supervisors v. Virginia Electric and Power Co., 196 Va. 1102, 1109, 87 S.E.2d 139, 144, 150 (1955). The rate of return should be sufficient to enable the Company to attract the necessary capital to carry out its obligation to render service to the public. FPC v. Hope Natural Gas Co., 320 U.S. 591, 64 S.Ct. 281, 88 L.Ed. 333 (1944); Bluefield Co. v. Public Serv. Comm., 262 U.S. 679, 693, 43 S.Ct. 675, 67 L.Ed. 1176 (1923); Petersburg Gas Co. v. City of Petersburg, 132 Va. 82, 90, 110 S.E. 533 (1922); see 1 A. J. Priest, Principles of Public Utility Regulation 190-93 (1969). There is a prospective element in the term `attract capital' which may be lacking in the designation of `cost of capital.' E. Nichols and F. Welch, Ruling Principles of Utility Regulation 73 (Supp. A, 1964). Accordingly, expert witnesses in this case not only considered the test year, but also directed their inquiries to and based their opinions on the Company's need to attract capital in the future. No one questioned this need or the Company's estimate that it must raise $1.4 billion of capital during the years 1970-1975. Particularly in this case, therefore, the experts were justified in looking ahead when considering and expressing their opinions on a proper rate of return. In fact, the Ad Hoc Committee on Vepco Rates conceded this point in its brief. The expert evidence supported the Commissioners' finding that a proper rate of return was in the range 8.0-8.5%. A rate of 8.38% being within the zone of reasonableness, we can only regard it legally just and reasonable. Appellants point out that an 8.38% return on total capitalization applied to the Company's capital structure at the end of the test year results in a 15.59% return on the Company's common equity. Asserting that no expert justified a 15.59% return, they contend that the rate fixed by the Commissioners is not supported by the evidence and is excessive. Appellants overlook, however, the fact that expert witnesses expressed their opinions not only in relation to the test year, but also in relation to the immediately succeeding years. Expert witnesses for the Company approved returns on common equity in the ranges 12.5-13.5% and 12.4 13.3% in terms of projected capitalization at December 31, 1972 or in terms of an average rate of return on common equity through December 31, 1972. An expert witness for the Company, who fixed the minimum interest coverage at 3.0 and the minimum rate of return on common equity at 13.5%, testified that the rate of return on common equity for the present and several years in the future should be in the range 13.5-14.5%. Applying an 8.38% rate to projected increased capitalization after the test year reduces appellants' figure of 15.59% to well within the range of these experts' testimony. [18]
The first witness for the Company offered exhibits showing expense deductions for wage increases and environmental protection expenditures to be incurred after the test year, but the Commission rejected them, ruling that it would not consider expenses beyond the test year. Later, during the cross-examination of a Company witness, the Commission modified its ruling by announcing that evidence of an established fact and not a surmise or guess, relating to subsequent years would be admitted for the Commission's consideration. During the presentation of the staff's evidence and after the Company had objected to certain out-of-test-year evidence proffered by the staff, the Commission changed its ruling: This being a purely legislative proceeding, we will permit the record to contain all material offered.    The bailiff will cross out the notation `Refused' that he has written on some of the exhibits. In computing the Company's comparable net operating income, the majority opinion excluded any deduction for the federal surtax, which was effective during the test year but eliminated in the next year. The opinion also allowed deductions for wage increases and environmental protection expenditures to be incurred after the test year, but committed for during the test year. Appellants contend that the Commission erred in allowing the wage increase and environmental protection expenses. We reject that contention. Although the use of a test year is proper, the Commission, in exercising its legislative function of fixing utility rates for the future, should not be blind to the future. It may adjust the results of the test year by allowing for known changes to make the test year representative of the future. The Commission has followed this practice in the past. City of Lynchburg v. Chesapeake and Potomac Tel. Co., 200 Va. 706, 708, 107 S.E.2d 462, 464 (1959). The staff proposed elimination of expenses incurred during the test year for promotional allowances and trade ally advertising, on the ground that by order entered in April 1970 the Commission had disapproved further use of such allowances and advertising in the form engaged in by the Company. The Commission refused to eliminate those expenses, finding it reasonable to assume that the Company would substitute some other form of sales promotion activity at an equal or greater cost. We see no reason to disturb that finding and reject appellants' complaint in that regard. On appeal, the appellants complain for the first time that after admitting evidence of future wage increases, the Commission should have admitted and considered projections of increased Company revenues under existing rates. To answer that contention, we need only point out that no such evidence was proffered to the Commission.