amount largely in excess not only of the original cost of the land but also of its present market value.34 If the cost of reproduction is estimated, to ascertain the value, it has been held that a reasonable amount for interest on the capital invested in the properties of the plant during the period of construction should be allowed; 35 and of course a due allowance must be made for depreciation.36 If the valuation is based on the cost of reproduction, less depreciation, it is held that the cost of taking up and replacing pavements to put the pipes in, should not be included, where the pipes were put in when the streets were not paved.37 But it would seem that these decisions which hold that the cost of cutting through existing pavements to lay mains is not a part of the valuation, in effect reject reproduction cost in favor of actual cost. § 4544. Overhead charges. It is said that "overhead charges," while not very clearly defined, "appears to include the expenses that would necessarily be incurred in the reproduction of the property," such as "the legal expenses of organization, and the expenses for office, engineering, inspection, supervision, and management during the period of construction" as well as "fire and casualty insurance, taxes, and interest during the period, contractor's profits, and other minor expenses of like character. 88 Whether the expense of engineering and superintendence, contractors' profits, contingencies, interest and taxes during construction, promoters' profits, legal expenses connected with the organization of the company, insurance 34 Minnesota Rate Cases, 230 U. S. 352, 57 L. Ed. 1511, 48 L. R. A. (N. S.) 1151, 1196, Ann. Cas. 1916 A 18, with extensive note on "Valuation of publie-utility lands.'' 35 Pioneer Telephone & Telegraph 36 See § 4541, supra. 37 Des Moines Gas Co. V. Des Moines, 238 U. S. 153, 171, 59 L. Ed. 1244, aff'g 199 Fed. 204, 207; People v. Willcox, 210 N. Y. 479, 494, 51 L. R. A. (N. S.) 1, 104 N. E. 911, rev'g on this ground 156 N. Y. App. Div. 603, 141 N. Y. Supp. 677. In estimating the value of gas mains and pipes, which were laid at a time when the streets were not paved, "In rate-making cases reproduction 54. 38 Bonbright v. Geary, 210 Fed. 44, M 1 charges, etc., are to be valued as overhead charges is the subject of considerable doubt, at least as to some of the items. These charges, some or all of which must be incurred before a physical plant can be reproduced to serve the public, are generally allowed either separately itemized or as a lump sum. However, it has been said that "this group of overhead charges has received the most unsatisfactory treatment of all the subjects discussed in the reports. The commis sions, while prescribing uniform systems of accounting for the corporations, have adopted no settled method of treatment of these charges. Possibly this is unavoidable. However that may be, the expenses are so differently combined by different commissions and in different cases, that their value for comparison is very much lessened. The underlying principle to be emphasized is that these items. are allowed because they are legitimate costs of the enterprise." 39 § 4545. Cost of next available substitutional system. In fixing the value of a water plant, the cost of the next available substitutional system is rejected as a criterion.40 The argument to the con 39 See elaborate note on this subject in 48 L. R. A. (N. S.) 1037. on the cost of hauling freight by mule teams, that mode of transportation being the next most available substitute. The owner of private property sets the price at which others may buy or use it; he cannot be compelled to accept less; this is his right of contract; but when he devotes his property to public use, he must submit to the right of the public to regulate his compensation for such use down to what is just both to himself and to the public, and that compensation is to be based, not on the cost of the next available substitute, but on a fair, reasonable value of the property at the time it is used for public convenience. While the cost of a substitute system may be considered in finding the reasonable value of the Spring Valley plant, it cannot be a controlling element. Otherwise, by securing control of all available sources from which water can be brought to San Francisco, the company might force a greatly exaggerated value upon its plant for ratefixing purposes, and thus absolutely 40 Even if permissible, a valuation of the plant, based on the estimated cost of the next available substitutional system, is at best problematical. There may be other equivalent substitutes which are cheaper. We must reckon, not only with the uncertainties of the estimate itself, with the relative serviceability and permanency of the substitute system, with the relative quantity and quality of water which it is capable of furnishing, but also with undiscovered and overlooked elements which may greatly affect the cost. There is, however, a still more serious objection to this method of valuation. To say the value of the Spring Valley land and water rights for rate-fixing purposes is to be measured by the cost of the Tuolumne system is to say that the price of Spring Valley water should be fixed by comparison with the cost of bringing water from Hetch Hetchy. The same method was applied to railroad charges when rates were based trary is well set forth in a federal case where the contention of counsel appears verbatim, and it is so clearly stated that it is inserted in full in the note below.41 defeat the very object of government regulation." Spring Valley Water Co. v. San Francisco, 165 Fed. 667. 41 We submit that this announces the principle that appreciation in total value, due to the monopolistic feature growing out of the ownership of all available sources, shall not be allowed, because the service is impressed with a public use, and that this item of valuation, inseparable from the whole, will be disregarded. We have previously demonstrated the error of this view. The property may be subject to rights in the public, but it continues to be a subject of private ownership. There has been an exercise of supervisory police power only -no element of value has been taken by the public, and subtracted from corporate assets, and, when valuation is at issue, the element of monopoly, if it exists, has as much value in the case of a public as in the case of a private corporation. The very fact that 'water is a necessity of life' proves the value of its control. It must be given to the public, but that in no way lessens its value. The fact that all surrounding sources are in the hands of one corporation is an element of value accruing to the corporation, and not to the public. In other words, regulation extends only to use and income. It neither attempts to, nor does it in fact, lessen value. We believe that the court has failed to make this distinction. There * # # # The showing made is that San Francisco must have water. There is no intimation that she can get it cheaper than from the Tuolumne. The unqualified showing is that the Tuolumne is the most available system. We do not say that the value of our plant is the cost of the Tuolumne system simply because it is the Tuolumne system, but that it is the value of the Tuolumne system because the Tuolumne system has been shown to be the cheapest and the most available. I have never contended, and I do not now contend, that your honor is compelled to take as the measure of value of this property what it would cost to bring a supply of water from the Tuolumne. I do claim, however, that one of the circumstances which are no lands and no water rights within fifty miles of the city which might serve to form even the nucleus of a waterworks to supply San Francisco with water. Nearly all such properties are owned by complainant, and what are not owned by it are in the ownership of other companies, actu * * * J § 4546. Operating expenses-In general. What items may be deducted as operating expenses and what may not be so deducted, including the various complicated phases relating to depreciation as an operating expense, cannot be considered in detail in this work. As already stated, rates which do not enable the corporation to earn at least sufficient to pay operating expenses are, under ordinary cir cumstances, not only unreasonable but confiscatory. Looking at the question from another viewpoint, the fair return to which the corporation is generally held to be entitled is ordinarily figured by taking the gross earnings and then deducting the operating expenses, and then figuring what proportion the net income bears to the value of the property so as to ascertain if the company will obtain a fair return upon the value of its property employed in the business. The question then arises as to what items may be deducted as operating expenses, concerning which there is considerable conflict of opinion and which often is more of an economic question than a legal one. Generally it is held that salaries of officials as well as those of employees, reasonable expenditures to get business, taxes,46 rent paid for property used in the public service, and the like are properly deducted as operating expenses. So the cost of necessary repairs and improvements are generally held to be an operating expense, as well as a depreciation fund; 49 but permanent improvements,' 50 42 For extensive note dealing with this question, see 52 L. R. A. (N. S.) 15, and see 2 Wyman, Public Service Corporations, §§ 1150-1180. 43 See 4517, supra. 44 But exorbitant and unreasonable salaries cannot be included. Chicago & G. T. R. Co. v. Wellman, 143 U. S. 339, 36 L. Ed. 176. 45 Pannell V. Louisville Tobacco Warehouse Co., 113 Ky. 630, 82 S. W. 1141, 68 S. W. 662. 46 But not invalid taxes (Lincoln Gas & Electric Light Co. v. Lincoln, 182 Fed. 926), nor taxes on property 48 not devoted to the public service (Cedar Rapids Gaslight Co. V. Cedar Rapids, 144 Iowa 426, 48 L. R. A. (N. S.) 1025, 138 Am. St. Rep. 299, 120 N. W. 966). 47 St. Louis & S. F. R. Co. v. Hadley, 168 Fed. 317; Southern Pac. R. Co. v. Board of Railroad Com'rs of California, 78 Fed. 236. Otherwise where property not used in the service. Capital City Gaslight Co. v. Des Moines, 72 Fed. 829. 48 See Reagan v. Farmers Loan & Trust Co., 154 U. S. 362, 38 L. Ed. 1014. 49 See infra, next section. 50 The cost of permanent improvements must be distributed over the years of their duration. Illinois Cent. R. Co. v. Interstate Commerce Commission, 206 U. S. 441, 462, 51 L. Ed. 1128. including the cost of new construction,51 are not operating expenses, nor are dividends on the stock.52 So the expenses of a suit to enjoin enforcement of rates fixed by the municipality cannot be charged as a part of the operating expenses, nor can the expense of a reorganization of the company.53 And if water can profitably be served from a near source of supply at a certain rate, the company ought not to be permitted to charge a higher rate based upon the expense of bringing it from a farther and more expensive source, and this is so even if in attempting to serve the municipality and other communities together it might be more profitable to the company to do so.54 Whether interest on the bonded debt is an operating expense, should, it seems, be answered in the negative.55 The regulations of the Interstate Commerce Commission prescribe a uniform system of bookkeeping for the carriers subject to the act, and fix what shall be regarded as operating expenses.56 § 4547.- Depreciation fund. Depreciation is to be looked at from two viewpoints. First, accrued depreciation over and above repairs, at the time of the valuation for rate-making purposes. 57 Second, the yearly allowance of a certain sum or per cent of the value of the property for depreciation as an operating expense to be deducted from the gross income. It is only the latter phase of the question which is to be considered at this time.58 The question whether a depreciation reserve is a proper operating charge has been definitely settled in the affirmative 59 by the Supreme 51 Illinois Cent. R. Co. v. Interstate Commerce Commission, supra. 52 State v. Minneapolis & St. L. R. Co., 80 Minn. 191, 89 Am. St. Rep. 514, 83 N. W. 60, aff'd 186 U. S. 257, 46 L. Ed. 1151. 53 Spring Valley Waterworks v. San Francisco, 192 Fed. 137, 190. 54 Brunswick & T. Water Dist. v. Maine Water Co., 99 Me. 371, 59 Atl. 537. 55 See Union Pac. R. Co. v. United States, 99 U. S. 402, 25 L. Ed. 274. But see Chicago, M. & St. P. Ry. Co. v. Smith, 110 Fed. 473. 56 Kansas City Southern R. Co. v. United States, 231 U. S. 423, 58 L. Ed. 296, 52 L. R. A. (N. S.) 1. 57 See § 4541, supra. 58 It has been said that "no prob- See generally, 2 Wyman, Public "Before coming to the point of |