argued: May 2, 1988.
CONSOLIDATED RAIL CORPORATION, PETITIONER NO. 86-3798
UNITED STATES OF AMERICA AND INTERSTATE COMMERCE COMMISSION, RESPONDENTS, ASSOCIATION OF AMERICAN RAILROADS, INTERVENOR, BESSEMER AND LAKE ERIE RAILROAD COMPANY, INTERVENOR, EDISON ELECTRIC INSTITUTE, INTERVENOR, THE FERTILIZER INSTITUTE, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR; ASSOCIATION OF AMERICAN RAILROADS, PETITIONER NO. 86-3799 V. UNITED STATES OF AMERICA AND INTERSTATE COMMERCE COMMISSION, RESPONDENTS, CONSOLIDATED RAIL CORPORATION, INTERVENOR, BESSEMER AND LAKE ERIE RAILROAD COMPANY, INTERVENOR, EDISON ELECTRIC INSTITUTE, INTERVENOR, THE FERTILIZER INSTITUTE, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR; BESSEMER AND LAKE ERIE RAILROAD COMPANY, PETITIONER NO. 87-3002 V. UNITED STATES OF AMERICA AND INTERSTATE COMMERCE COMMISSION, RESPONDENTS, ASSOCIATION OF AMERICAN RAILROADS, INTERVENOR, CONSOLIDATED RAIL CORPORATION, INTERVENOR, EDISON ELECTRIC INSTITUTE, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR; ALABAMA POWER COMPANY, GEORGIA POWER COMPANY, GULF POWER COMPANY, MISSISSIPPI POWER COMPANY, AND SOUTHERN COMPANY SERVICES, INC., (COLLECTIVELY, THE "SOUTHERN ELECTRIC SYSTEM"), PETITIONERS NO. 87-3325 V. INTERSTATE COMMERCE COMMISSION AND UNITED STATES OF AMERICA, RESPONDENTS, ASSOCIATION OF AMERICAN RAILROADS, INTERVENOR, EDISON ELECTRIC INSTITUTE, INTERVENOR, CONSOLIDATED RAIL CORPORATION, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR; WESTERN COAL TRAFFIC LEAGUE, PETITIONER NO. 87-3326 V. UNITED STATES OF AMERICA AND INTERSTATE COMMERCE COMMISSION, RESPONDENTS, ASSOCIATION OF AMERICAN RAILROADS, INTERVENOR, EDISON ELECTRIC INSTITUTE, INTERVENOR, NATIONAL ASSOCIATION OF REGULATORY UTILITY COMMISSIONERS, INTERVENOR, CONSOLIDATED RAIL CORPORATION, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR; CONSUMER OWNED POWER COALITION, PETITIONER NO. 87-3327 V. UNITED STATES OF AMERICA AND INTERSTATE COMMERCE COMMISSION, RESPONDENTS, ASSOCIATION OF AMERICAN RAILROADS, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR, CONSOLIDATED RAIL CORPORATION, INTERVENOR, NATIONAL ASSOCIATION OF REGULATORY UTILITY COMMISSIONERS, INTERVENOR; ATLANTIC CITY ELECTRIC COMPANY, COMMONWEALTH EDISON COMPANY, MADISON GAS AND ELECTRIC COMPANY, NEW YORK STATE ELECTRIC AND GAS CORPORATION, PENNSYLVANIA POWER & LIGHT COMPANY, THE CLEVELAND ELECTRIC ILLUMINATING COMPANY, UNION ELECTRIC COMPANY, WISCONSIN ELECTRIC POWER COMPANY, AND WISCONSIN POWER & LIGHT COMPANY, PETITIONERS NO. 87-3328 V. INTERSTATE COMMERCE COMMISSION AND UNITED STATES OF AMERICA, RESPONDENTS, ASSOCIATION OF AMERICAN RAILROADS, INTERVENOR, EDISON ELECTRIC INSTITUTE, INTERVENOR, CONSOLIDATED RAIL CORPORATION, INTERVENOR, NATIONAL ASSOCIATION OF REGULATORY UTILITY COMMISSIONERS, INTERVENOR, NATIONAL INDUSTRIAL TRANSPORTATION LEAGUE, INTERVENOR (ICC EX PARTE NO. 393)
On Petition for review of an order of the interstate Commerce Commission.
Gibbons, Chief Judge, Higginbotham and Cowen, Circuit Judges.
Various shipper and carrier interests*fn1 petition for review of an order of the Interstate Commerce Commission (the ICC.), 3 I.C.C. 2d 261 (1986), which partially revises the decision in Ex Parte No. 393 (Sub.- No. 1), Standards for Railroad Adequacy, 364 I.C.C. 803 (1981), which this court in Bessemer and Lake Erie R. Co. v. I.C.C., 691 F.2d 1104 (3d Cir. 1982), cert. denied, 462 U.S. 1110, 103 S. Ct. 2463, 77 L. Ed. 2d 1340 (1983) (Bessemer) reviewed and affirmed. The order is the product of notice and comment rulemaking. 5 U.S. at § 553(c) (1982). This court has jurisdiction pursuant to 28 U.S.C. § 2321(a) and 28 U.S.C. § 2342(5) (1982). The scope of our review is determined under 5 U.S.C. § 706(2) (1982). We will affirm 3 I.C.C. 2d 261 (1986) in all respects.
The subject of our review is the most recent ICC revision of the appropriate standard for measuring railroad revenue adequacy. "The effect of an ICC determination that a carrier is revenue inadequate . . . is to permit rail carriers to raise rates on services as to which they have market dominance, without ICC approval, within the zones of flexibility specified in" the Staggers Rail Act of 1980, Pub.L. 96-448, 94 Stat. 1895 ("the Staggers Act"). Bessemer and Lake Erie R. Co. v. I.C.C., 691 F.2d 1104, 1109 (3d Cir. 1982). The revised standard is the ICC's fourth attempt to define and refine a standard of revenue adequacy since the direction to the ICC to develop a revenue adequacy standard issued in the Railroad Revitalization and Regulatory Reform Act of 1976, Pub.L. 94-210, 90 Stat. 31 (codified as amended at 49 U.S.C. § 10704 (1982)) (the "4R Act"). We described the legislative background of the railroad revenue adequacy standard in Bessemer:
The second salient feature of the 4R Act is the enactment of a section dealing with the standard for ratemaking for those market dominant carriers still subject to ICC ratemaking jurisdiction. Section 205 of that Act directed the ICC:
within 24 months after the date of enactment of this paragraph, after notice and an opportunity for a hearing, [to] develop and promulgate (and thereafter revise and maintain) reasonable standards and procedures for the establishment of revenue levels adequate under honest, economical, and efficient management to cover total operating expenses, including depreciation and obsolescence, plus a fair, reasonable, and economic profit or return (or both) on capital employed in the business.
Congress further directed that: such revenue levels should (a) provide a flow of net income plus depreciation adequate to support prudent capital outlays, assure the repayment of a reasonable level of debt, permit the raising of needed equity capital, and cover the effects of inflation and (b) insure retention and attraction of capital in amounts adequate to provide a sound transportation system in the United States. [49 U.S.C. 10704 (a)(2).]
Acting under the mandate of section 205 the Commission conducted two revenue adequacy proceedings [issuing in Ex Parte No. 338, Standards and Procedures for the Establishment of Adequate Revenue Levels, 358 I.C.C. 844 (1978); Ex Parte No. 353, Adequacy of Railroad Revenue (1978 Determination), 362 I.C.C. 199 (1980)]. Meanwhile two major midwestern railroads went bankrupt, necessitating emergency federal legislation. Congress, apparently dissatisfied with the pace of the ICC's revenue adequacy proceedings, passed [the Staggers Act]. That Act amended the 4R Act in several respects. In an effort to increase railroad revenues, it created zones of rail carrier rate flexibility in which even market dominant carriers, if found to be revenue inadequate, could increase rates without ICC approval. The Staggers Act also amended section 205 of the 4R Act to provide that "the commission shall maintain and revise as necessary standards and procedures for establishing revenue levels." Pub.L. 96-448, § 205(b)(1). Moreover the ICC was directed to conclude a section 205 proceeding within 180 days after the effective date of the Staggers Act. Pub.L. 96-448 § 205(b)(3).
Bessemer, 691 F.2d at 1108-09 (footnotes omitted). In response to the passage of the Staggers Act, the ICC conducted a third notice and comment rulemaking proceeding issuing in Ex Parte No. 393, 364 I.C.C. 803 (1981). That revenue adequacy standard differed from those adopted earlier in Ex Parte Nos. 338 and 353 in that it (1) "determined that a railroad would be considered revenue adequate when it received a rate of return on net investment equal to the current cost of capital"; (2) "determined to measure current cost of capital by examining current cost of debt, rather than embedded or historical cost of debt, together with current cost of equity"; and (3) "included reserves for deferred taxes, authorized use of betterment accounting for valuation of track assets, valued assets at depreciated book value, and included in the investment base unused and unusable assets" in determining the rate base. Bessemer, 691 F.2d at 1109. This court affirmed the revenue adequacy standard adopted in Ex Parte No. 393 in all respects. Bessemer, 691 F.2d at 1116.
Following Bessemer, in March 1983 the ICC issued a rulemaking notice "proposing substantial changes in Ex Parte No. 393." I.C.C. March 9 Decision, J.A. at 1. The ICC indicated that the reason for the proposed revisions was "to provide a more accurate reflection of the profitability of railroad operations." Id. Specifically, the ICC proposed to consider:
(1) calculation of Return On Investment (ROI) to consider exclusively all transportation elements of income, expense, and investment; (2) Use of normalized or weighted normalized data to compute ROI; (3) Computation of ROI on a consolidated basis to include railroad affiliates; and (4) Conversion from an original cost investment base to one based on current or replacement costs in revenue adequacy determinations. . . .
Id. In addition, the ICC invited comment on the treatment in revenue adequacy determinations of the deferred tax reserves created under the Economic Recovery Tax Act of 1981 ("ERTA"). Id.
The 1983 notice elicited lengthy comments from both railroads and shippers. After considering those comments for nearly three years, the ICC issued a notice of its decision to expand the scope of its proceedings due to its "increasing concern that the annual revenue adequacy calculations produced under [the Ex Parte No. 393] standard may not have provided what we would consider to be a realistic picture of the current state of the rail industry." Standards for Railroad Revenue Adequacy, Decision of May 30, 1986 (order served June 5, 1986, J.A. at 557). (The ICC expressed the same concern about the inaccuracy of the standard one month earlier in an unpublished decision, served May 5, 1986 under the title Ex Parte No. 463, Railroad Revenue Adequacy-1984 Determination.) The perception that the standard might be inaccurate stemmed from the observation that no Class I railroads had been found to be revenue adequate under the prevailing standard since 1980. Id. at 558. According to the ICC, this conflicted with the expectation that the passage of the Staggers Act would improve the financial condition of the railroads, and with the "widely held perception that the railroad industry is now in reasonably good financial condition". Id. at 574 From this, the ICC concluded that the current standard was not "sufficiently realistic." Id. To remedy the asserted lack of realism and accuracy, the ICC now proposed:
1. To substitute depreciation for betterment accounting for road and track structures. Id. at 572-73.
2. To substitute the embedded cost for the current cost of debt to compute the cost of capital. Id. at 570.
3. To adjust the measurement for the deferred tax reserves accumulated under the ERTA. Id. at 568-69.
The ICC invited comment on these and other factors relating to the measurement of railroad revenue adequacy.
In response to this notice, the railroads and shippers filed voluminous comments and reply comments. The shippers supported the new proposals advanced in the June 5, 1986 notice with the qualification that in converting from betterment to depreciation accounting, measures were required to prevent charging previously expensed assets a second time as depreciation. Shippers' Opening Comments at 3, J.A. at 613. By contrast the railroads opposed many of the proposed measures including -- notably for the purposes of this appeal -- the proposal to substitute embedded for current cost of debt in the computation of capital, Supplemental Comments of the AAR at 64-74, J.A. at 887-92, and the proposal to exclude the value of deferred taxes from the investment base, id. at 59-63, J.A. at 1759-63.
On December 31, 1986 the ICC issued its final decision. Ex Parte No. 393 (Sub. No. 1), Standards for Railroad Revenue Adequacy, 3 I 2d 261 (1986), J.A. at 2019 ("the final decision"). The final decision, containing five key provisions, adopted only some of the changes proposed. It adhered to the original No. 393 decision, affirmed in Bessemer, by (1) continuing the use of the cost of capital as the sole test of revenue adequacy, (2) retaining the current cost, as opposed to the embedded cost, of debt in computing the cost of capital, and (3) continuing the policy of making no adjustment for unused and useless assets. The ICC did adopt two of the proposed ...
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