Introductory.

The industrial and economic development of the past two decades has opened many new lines of special work in the Profession of Engineering, none of which is more difficult and complicated or of greater ultimate value to the public at large than that of the appraisal or valuation of the property owned and operated by public service corporations; and none of the fields of engineering specialization requires greater care or calls for more skill, experience, integrity, or sound judgment.

The individual engineer, or commission of engineers, entering upon an appraisal of large magnitude, particularly one including properties of more than one company, will find conditions varying in every one, and each property presenting new, complex, and confusing elements of value to pass upon and determine.

Prior to 1900 there had been few calls on engineers for large appraisals, and the literature descriptive of engineering effort along 2this line was practically nothing. Since 1900 many extensive appraisals have been undertaken by States, by railroad and banking corporations, and by cities; certain well-defined lines of practice have been developed; many differing opinions as to certain methods and principles have been brought out; and enough has been added to the printed literature to enable one to compare methods of work and to fix with reasonable certainty upon some as correct, and to discard others as improper.

There are so many complex factors entering into the problem of valuation, so many widely different plans have been presented, and there are so many thinking men who have opposed and do honestly and sincerely oppose any form of valuation, that a most thorough study of the subject should be made. It should be examined from all angles, and every possibility of danger from legislation regarding it should be weighed with utmost care.

The question of railroad valuation, involving as it does the largest industry of the nation, naturally takes first place in such a discussion, but so many of the general principles of railroad valuation are applicable to the appraisement of corporate property, so many arguments have been advanced by engineers and others, and so many judgments of the Courts have been rendered in connection with water-works and gas-works valuations, that it is not desirable to limit this discussion wholly to the problem of railroad valuations.

The reasons for requiring that valuations be made may be broadly divided into two general classes:

First.—As a Matter of Public Interest.—The public, and particularly the investing public, requires valuations in order to guard against unworthy and dishonest corporation securities, to be assured that corporations are bearing their legitimate and proper share of the burden of taxation, and to furnish a proper basis for fixing equitable and just rates for the services rendered by the corporation.

Under this class would come all appraisals made for information to be used as a basis for legislation relative to:

(a) Taxation of Corporations.—Such were the valuations in Michigan and Wisconsin.

(b) Rate Regulation.—This was the reason which prompted the work in Minnesota and Nebraska.

(c) Limitation of Capitalization.—The regulation of issue of stocks and bonds was the purpose of the Texas valuation.

3(d) Fixing a Price for Sale.—Many of the water-works and electric light valuations were made in order to determine a fair price to be paid for the property at the expiration of the franchise.

(e) The General Information of the Public.—To be used in connection with the fixing of terms for franchise renewals, etc., etc.

Second.—As a Matter of Corporation Necessity or Expediency.—Valuations are made in order to guide large investors, to secure a safe and up-to-date basis on which to negotiate a sale, a purchase, or a reorganization of the property, or a consolidation with other like properties, and to secure justice to honestly administered corporations.

The great majority of appraisals under this head have been in accordance with some other methods than those adopted in the State valuations. It is not intended in this paper to engage in any argument as to the various purposes of appraisals, or even to urge the necessity or desirability of a general appraisal of properties. An absolutely accurate and correct statement of the cost of reproduction of all the physical properties of the railroads of the country, a correct statement of the actual capital needed to reproduce these properties as they exist, and, along with this, a statement of the actual physical depreciation, would be a document of vital interest.

This paper is confined to a discussion of the methods which should be used in arriving at a correct figure of cost of reproduction and depreciation—it does not take up questions involving the propriety of those figures when reached. The propriety or legality of using such figures as a basis for an assessed valuation, as a basis for rate-making (rate-making being an art in itself involving complications as great as those encountered in valuation), or any arguments as to the justice or injustice of legislation restricting issues of stocks or bonds, will be conceded no place in this paper. It is assumed that all these questions would have been taken up and a satisfactory answer reached before a valuation could have been ordered.

The different elements of value in property, the relations of this property to the public, the method of determining the worth of these elements of value which have been adopted in the past by men engaged on valuation work, a comparison of these methods, a discussion of the objections that have been made to them, and a presentation, not only 4of the writer's views as to proper methods, but those in which he disagrees with usages adopted by others—these define the scope of this paper.

No matter what particular end is to be served by a valuation, the commission engaged upon it will be asked to furnish a fair value, perhaps with reasonable limitations in the instructions, perhaps with a general and indefinite instruction to find the value. They will encounter, among other difficulties:

First.—The fact that human machines are not exact duplicates, and that allowance must be made for a large measure of error, on account of the personal equation of the men engaged on the work, as individual errors of judgment are frequent on any work of magnitude. This personal element must be corrected by uniformity of method, by constant checking, and, as far as possible, by subordination of personality to system.

Second.—The fact that human selfishness is a dominant quality—the railroad manager who opposes methods which he believes will increase values in an appraisal for taxation, or who, on the other hand, uses every possible argument to increase values if the work be as a basis for rate-making or for restriction of bond issues, or the State official who is desirous of using original cost on a valuation to be used for rate-making in order to keep the valuation down to a minimum, and the politician who depends on an unenlightened public opinion to create sufficient outcry to influence the work to his advantage—are all actuated by a perfectly human wish to attain ends which seem to them desirable, and are but typical of men who will endeavor to influence every appraisal.

In view of these considerations, it is a question whether results are not frequently affected by the knowledge of their intended use, and whether a system which will entirely remove such causes of error can be applied to the work.

If an engineer, or a commission of engineers, is directed to examine a certain property and report the true cost of reproduction, depreciation, or present value, taking into account all facts connected therewith, the final figures should not differ, whether the report is to be used as a basis for reorganization, sale to another corporation, or is to be used by a State legislature as a basis for formulating a rate bill, or as a basis for a value for taxation. The result secured is a 5necessary preliminary on which depends the accuracy, fairness, and justice of the other work which is to follow. This is an engineering work, a statement of certain physical property, the estimated cost of reproducing it new, less the estimated depreciation, and, beyond the differences due to personal judgment, these figures may not vary.

The word "value" is in common use, and yet, in the minds of many people, its exact meaning is vague. It is true that the "value" of a property is an unstable figure, subject to fluctuations due to natural or artificial causes, and that a material change in value may occur suddenly, but the "value" of any given property on any given date is, or should be, from an engineering standpoint, a definite sum which may not be varied or changed to suit the whim or will of the people for whom the work is done.

In all the subsequent discussion of values and methods of obtaining values, it is assumed that, unless specifically limited to a determination of cost of reproduction and depreciation, a valuation commission should be governed by the following rules:

1.—No account may be taken of the purpose for which the resultant figure of value is to be used; and the result should not vary, no matter what that purpose may be.

2.—The resultant figure should be the honest judgment of the men composing the commission, as to the actual cost of reproduction, present physical value, or "fair value," and should be ascertained by a systematic and scientific method which takes into account all the facts concerning the property, its physical value, its strategic location, its operating revenues and expenses, and its franchises, rights, competition, opposition, and all other tangible or intangible elements which would affect values. The method of valuation should be such as to minimize or entirely eliminate all differences due to errors of personal judgment.

3.—All properties being appraised are considered as operating properties. One which is dead, inert, and not in use, cannot be considered as coming under such a discussion as this, and such properties are not treated in this paper. The term "going concern" is not used in connection with the physical property, any element of value implied by the term, over and above the "overhead charges," being treated as an intangible or non-physical element of value.

6In stating this position, the writer is aware that it is a difficult matter indeed to get away from the fact that some specific purpose—taxation, for example—is the definite end in view in every valuation, and that, instinctively, men engaged on the appraisal will find themselves modifying their figures to meet some real or fancied condition which they conceive might arise, or to prevent some injustice which they believe might be done. Every subordinate employee needs to be watched, every man in charge must watch himself, or he will find himself unwittingly, almost instinctively, coloring his results by some old prejudice of his early years of employment, or some loyalty to his own ideas of governmental or economic policy. The writer has noted this in every appraisal on which he has been engaged, and calls particular attention to it as the first difficulty which must be overcome in the organization of the force for a large appraisal.

In the following pages all complications which might arise from the purpose of the appraisement are considered as eliminated, and the possibility of erroneous conclusions being reached by reason of the personal factor (while recognized as being ever present) will not be specially emphasized.