Good service from its water works is so essential to the health and industrial success of the public that a period of prosperity to these works may reasonably be expected, if their managers are persistent in their efforts to obtain fair recognition of the difficulties under which they still labor. CHAPTER XXII VALUATION OF WATER WORKS It is necessary to value water works properties for a number of purposes, transfer of ownership; determination of an equitable rate base; the issuance of securities, and for other purposes. Up to 1875 only a few of the larger cities had public water supplies, and practically all the work that had been done was planned, financed and executed by municipalities. Between 1875 to 1880 there was a great advance in sanitary science. In this period municipal water works construction had its beginning upon a large scale. Between 1880 and 1890 there was great activity of construction. Nearly all the cities over 5000 in population were supplied, many of them by private corporations. By 1900 most municipalities, including many small villages, had public supplies. During the past twenty years many of the franchises granted to water works companies expired. In this period the sentiment for municipal ownership grew. Many valuations were required on which to base transfer of ownership from the private company to the municipality. In most cases where a franchise expires, a valuation is necessary as a basis for the establishment of rates for water. Recently, valuations for change of ownership have been less frequent, but the necessity for changes in rates has occurred with increasing frequency, resulting from the now generally accepted rule at law, that rates must be equitable, regardless of prior contract stipulations. The wide fluctuations in prices, accompanying and following the world war, has also compelled frequent rate changes. Value in general Value as it relates to material things may be briefly defined as "worth expressed in money." In the case of objects frequently transferred, value is usually determined by the price that the object brings in the market. Market price is generally based upon supply and demand. If these factors are evenly adjusted, value is governed by the cost of production. When demand slackens, values fall. The same effect may be produced by an increase in the supply relative to demand. The converse is true in both cases. Decreased supply or increased demand enhances value. Thus the valuation of things frequently exchanged involves simply a study of recent statistics. Values are automatically recorded from moment to moment upon the Board of Trade and the Stock Exchange. They are determined from month to month in the record of real estate transfers. Many things are valued on the basis of what they will produce. Thus manufacturing enterprises are commonly transferred on the basis of what they produce or can be made to produce in net revenues. This is true generally only in enterprises not subject to the regulation of earnings by governmental bodies. Valuation of utilities The laws of this country, as interpreted by the Courts, make no distinctions in the valuation of property. All property is subject to the same general laws, although value may necessarily be determined by different methods in different cases. The public utility cannot be valued by the same method as a bushel of wheat. Although subject to the same laws of ownership. in other respects, it differs from ordinary property by reason of the infrequency of sales and the restriction of the law of supply and demand by regulation. Otherwise it is subject to the laws governing property. It may not be taken without just compensation. Rates may not be enforced that do not produce a fair return on fair value. Water works valuation is a matter of considerable intricacy, and should be attempted only by persons having some accomplishment in three fields of knowledge. 1. A knowledge of the law; especially its fundamental principles as affecting "property." 2. A knowledge of finance, that is to say, the economics of business, including investment, the varying value of money, the special hazards of various enterprises and the economic operation of utility properties. 3. A knowledge of engineering with especial emphasis on that branch of engineering that deals with the conceiving, planning and building of utility structures, involving a knowledge of costs and methods, both in construction and operation. In the consideration of this subject much confusion is occasioned by misunderstandings as to meanings of terms. John W. Alvord has suggested the following definitions as useful in this respect. Property. That which is owned; that which belongs exclusively to an individual; that to which a person has a legal title (whether in his possession or not); the exclusive right of possession, including all the rights which accompany ownership and is its incident. Value. The sum of the desirable qualities which render a thing useful and sought measured in money; a measure of the relation of two services growing out of the adjustment of mutual needs. Market value. The adjustment of two services, i.e., as between a willing solvent seller and a willing solvent buyer under open conditions of competition. Cost. The amount of money, or its equivalent, actually expended in the past in creating and building up a property. Reproduction cost. An estimate of the cost of recreating a property at the present time under conditions that are humanly possible and practicable. Depreciation. The lessened value of any property, structure, or machine, due either to its wear, loss or usefulness, growing lack of adaptation, or approaching abandonment. Appreciation. The increase in worth of a property, structure, or machine, due to its increased use, strategic location, the increasing need for its service, or other like influences. Public utility. A business supplying a public need, and based on a public grant. Monopoly. A business having exclusive power of dealing in a service, and thus conducted without competition. Franchise. A grant by the public of the necessary rights to do a specific business. Evidence as to value In the consideration of this subject let it be understood at the beginning that value is a matter of well informed opinion. There is no rule or formula applicable to all cases. No court has stated the procedure to be followed in determining value. However, the courts have repeatedly stated certain factors that bear evidence of value. which must be considered in the formation of correct opinion. It is well recognized that the cost of a thing often throws light upon its value. It is also well recognized that a thing may be worth much more or much less than it cost. It is well recognized that the expenditure required to reproduce a thing, as of the time when valued, usually has an important bearing in the determination of present value. The courts have said that the need for a service affects the value of a device designed to supply that service. A similar fact is noted by everybody as applied to common articles of every day use. This fundamental consideration must be given. due weight in the valuation of water works. In the valuation of a commercial enterprise, such as a water works, the prosperity of the business has a bearing upon value. There are other matters including excellence of design and capability of management that should be properly weighed. The wise appraiser will not attempt to determine value until all the evidence is in and has been carefully examined. No factor should be neglected. Each should be given its proper weight and a decision reached which takes proper cognizance of all the evidence. In the following paragraphs the development of the various lines of evidence relating to the value of water works will be discussed. Reproduction The courts have repeatedly stated that, while it is useful to know what a property cost at sometime in the past, or what it may be worth at sometime in the future, value now is the thing to be determined in a valuation proceeding; therefore, the expenditure required to reproduce a property as nearly as possible like the one valued, in a manner humanly possible, throws an important light upon value. Particularly in the case of a public utility, reproduction cost often proves to be a determining factor. Schedule of property It is evident in the valuation of a complicated plant, such as a water works property, that the appraiser must know all about it before the pertinent lines of evidence can be successfully presented. It often happens that several appraisers are engaged upon the same problem. A good inventory of the property greatly assists the determination of fair value. It eliminates many discrepancies likely to creep in when each appraiser makes his own canvass of the details, and it greatly reduces the detailed labor by the appraisers and therefore tends toward economy through the elimination of duplication of work. In the valuation of a water works facts must be obtained from a |