Non-Physical Values and Methods for Their Determination.
In the published articles treating on the subject of valuation, much stress is laid on the intangible or non-physical elements of value. They have been termed "going concern values," "business values," "good will values," "franchise values," as well as "non-physical" and "intangible" values.
So much of the argument of many writers has been taken up with this phase of the question that it is impracticable to recapitulate the various arguments in support of giving these elements a place in the appraisal.
The writer cannot agree with those who would place any of these elements of value in the physical appraisal.
Value is given to a property, either by reason of the fact that it is an instrument for earning profit, or that it does earn profit or gives promise of profit. The actual investment of capital in a new plant is made with the expectation of earnings. It is not reasonable to attach as physical value, to such a plant, any value in excess of the actual investment. Nor does it appear to be any more reasonable, in the case of an old plant, to assign arbitrary and fictitious values over and above the actual investment remaining in the plant, unless such values are justified and supported by actual earnings in excess of such a rate of interest on the money invested, as it would earn if invested in some non-hazardous security, and—carrying out the clearly-expressed idea of the Courts—such intangible value can only accrue when the rates charged for the service are fair and proper.
The capitalist seeking investment bases his ideas of value on:
(a) The market price of stocks and bonds, an estimate of worth based primarily on actual earnings of the property, but affected to some extent by outside conditions; or
(b) On the capitalized net income, or actual earnings, of the property; or,
(c) In the case of a new property, on an estimate of what the probable earning capacity of the property will be, where the business is more fully developed.
Methods (a) and (b) ignore cost of construction, or present investment in physical property, and base a value on past performances. Method (c) is based purely on hypothetical earnings, but the only real measure of value in this instance is the actual amount of capital that has been invested.
No appraiser would be justified in placing a "going concern" value, in excess of original cost, on a new property, nor would he be justified in placing such a value on a property 3 years old, or 10 years old, unless the net earnings were such as to indicate that the property had a business or commercial value in excess of the physical property value.
It would seem reasonable to say that this difference between the physical value and the value based on earnings represents the "good will," "established business," or "going value," and all the other non-physical elements of value.
To take a specific example: it would be impossible to separate the different elements of intangible value of the Michigan Central Railroad, and say that a certain sum of money represented "good will," another sum "established business," still another sum the "franchise value," and still another sum the "going concern."
The "going concern value" of the Michigan Central Railroad is exactly analogous to the going concern value of the hypothetical water-works cited by Mr. Alvord. Instead of having water pipes connected with buildings along the mains, and considerable sums invested in appliances for using the water, there are manufacturing plants located along the railroad, connected with it by side-tracks built by the industry, and depending on the transportation facilities of the road for their connections with their customers, the very life of the manufacturing plant dependent on its connection with the road. This is "connected good will" of the same kind as described by Mr. Alvord. Yet, to fix a value on it by the method described by him involves going into the realm of conjecture and speculation to a degree that could never be sustained.
Difficulties as great would be encountered in an effort to separate and set up any other elements which go to make up the intangible value, and any figure thus determined would be absolutely incapable of proof.
The Courts say that the value must be the "fair value of the property being used," all the conditions being taken into account (169 U. S., 466).
It can be readily seen that the physical present value is not always—indeed, is not often—the "fair value." The "fair value" may be more, or less, than the present value of the physical property. It would seem to be reasonable to interpret the Court's meaning of the term "fair value" to be the value as a business or commercial property, taking into account the actual investment existing in the property, together with any favorable conditions which would enable it to earn, on rates which were fair and reasonable to the consumer, an income in excess of a usual rate of interest on the actual investment, or any unfavorable ones which under the same rates would reduce its earnings to less than usual interest. If such an interpretation be allowable, it would appear to be correct practice to use a "fair value" made up of two elements: a physical value, representing the investment, and a non-physical value, representing all the elements which affect that investment to give it favorable or unfavorable financial returns. Is it not, then, proper to conclude that the non-physical or intangible value, composed of all these various elements of value, can only be determined absolutely by a study of the earnings and operating expenses? Is not this clearly what the Court had in mind in the Nebraska Rate Case?
Much of the argument on the subject of "going" values and other kindred elements of value consists of statements of theory and generalities, and may be said to be merely argument to support the theory that there is an intangible element of value. If work of valuation is to be of any real benefit, must it not give a definite result? Must not this result be based on absolute facts?
In securing the present value of any physical property the fixed and certain facts are:
The inventory of property owned.—This is absolute.
The cost of reproduction of the different elements.—This is capable of determination within very close limits.
The depreciation.—This is in a measure a matter of judgment, based on the experience, not only of the engineers making the appraisal, but of the entire scientific world; and, if properly made and properly checked, there should be no very wide divergencies in results.
The items of general expense.—These, based on available statistics, must be estimated. The exact determination of these items will be made comparatively easy as statistics based on the uniform classification of accounts become available.
It is believed that the physical values, when secured along the lines suggested, are definite enough to be accepted as a fair estimate of the amount of capital actually invested in the property, and that, if a sufficiently large force of men experienced in the construction, operation, and financial management of the kind of property under investigation is engaged on the work, the element of uncertainty due to errors of personal judgment can be largely eliminated.
The next question to be determined is whether there is, at the time of the appraisal, any non-physical value, and, if so, to select a method for computing it that will give a result that can be definitely supported as to the particular property under investigation. A study of the income accounts of the property being valued should be made. If the property is not earning a sufficient sum to pay its operating expenses, and taxes, and to set aside a fund to cover depreciation and obsolescence, there is clearly no intangible value of any sort to be added to the physical value. If, however, after all these charges are taken care of, there is a net earning which is large enough to pay 4 or 5% on the physical property and still leave a surplus, is it not perfectly reasonable and proper to hold that this surplus represents earnings on all intangible elements of value?
The contention that all the different elements of non-physical value merge into one intangible value, not capable of separation, will doubtless be objected to by many engineers and corporation managers.
Among the elements adding value to property have been described:
1.—"Going Concern" Value.—Professor Mead defines this as the value due to the fact that a plant has consumers actually utilizing its product, and that it is in actual and successful operation and has its business developed. This value is the worth of the plant in excess of a similar plant without connections, and constitutes an asset in the consideration of its physical value. Mr. Alvord has used the term "connected good will" as applicable to this element of value.
The writer does not concede that "going concern" is a proper element to consider in the physical value, as it does not represent any part of the cost chargeable to capital, and the physical valuation should be confined to the determination of capital invested.
It has already been argued that to the physical property as inventoried should be added proper figures to cover organization, legal expense, administration, engineering, and contingencies. All these items are in the nature of additions on account of the fact that the property is a "going concern." It is maintained that these costs should carry to the present value column as values, for the reason that all these services rendered in connection with the creation of the property remain, unimpaired in value, as long as the property is operated. When, however, a property ceases to be operated, and is abandoned and dismantled, not only do all these elements absolutely disappear, but also all increments of value by reason of the special use of the property are wiped out, and there exist only a lot of partly worn out and partly obsolete machinery and equipment, salable at scrap values, buildings constructed for a purpose which renders them unfit for other use, and land partly salable at going prices and much that will not sell at all.
As long as a gas-works, a water-works, or a railroad is in operation and earning, it is a "going concern," and all increments which attach to its physical property as a whole continue to exist, even if the physical value of the property is greater than a fair value. That fair value can be determined and reached by means of a negative non-physical value.
In view of these things, it would seem to be highly improper to add to physical value anything more for "going concern." In the final report of U. S. Judge R. W. Tayler, Arbitrator in the Cleveland Street Railway matter, in December, 1909, the following language supports the above contention:
"I allow nothing for going value, except in so far as that is the result of the necessary expenditure of money in building the road, acquiring its land, power-houses, and equipment, and putting them into successful operation. The expenditures for these purposes are, and necessarily must be, included in the valuation of the physical property."
2.—Developed Business.—It is perfectly clear that the "fair value" of a property must take into account the established business of the concern. This really is covered by the "going concern values," as defined by Messrs. Mead and Alvord. The only manner in which this can be determined intelligently is by an analysis of income accounts.
3.—Cost of Handling Business.—A railroad with heavy grades, bad curves, poor equipment, or unskilful management is not nearly as valuable a property as one having good line and grades, and far-sighted, economical, and skilful management, and which handles its business at a lower cost per unit.
In such cases the differences in location and management are bound to show in the earnings, adding to the physical value of one property and possibly taking from the value as shown by the physical appraisal in the case of another.
4.—Good Will and Established Organization.—These are valuable assets. It is difficult, indeed, to attach exact weight to these elements of value, except as they are shown in the intangible value indicated by the earnings. In most cases of public service companies, as is argued elsewhere, it is doubtful if such elements are entitled to any place in a public valuation.
5.—Franchise Values.—These cover various specific items arising out of the ownership of special franchises, or, out of the general rights granted by law to corporations.
All these elements of value have been presented, and have been supported by able arguments. No one has offered a method of separating them. While there is universal recognition of their existence, in the case of many properties, they are supported by nothing visible or tangible. They are practically inseparable, one from another. They are not always present, and the application of any such arbitrary rule as that suggested by Mr. Alvord would make it possible to place values which were purely fictitious. Therefore, it follows that, if they are to be considered at all, they must be treated as parts of one intangible value, and that value must be derived from a study of the income account of the property.
There are other points to be noted as reasons why no such elements of value may attach to the physical property.
Any value of an old and well-established property in excess of a fair return on its physical property (in other words, any intangible value) must be limited and restricted, when used for rate-making purposes, by the value to the consumer of the services rendered. The Courts hold so squarely that the rates charged for services must not be more than the particular service is worth, and that the Company may exact a fair return on property actually being used, that it is not conceivable that any valuation which attempts to attach fictitious elements of value to physical property can be sustained.
This argument is not intended as an attempt to show that intangible values are improper and that where they exist rates should be lowered. It is contended that the determination of rates that will be just and fair to all competing companies involves other consideration than the valuation of either physical or intangible properties, and that when all these rate-making problems are properly solved, there will remain large intangible values on the well-designed plants. It is further contended that the work of valuation should separate the tangible and intangible elements, so that the further work of rate-making or assessment may not be complicated by improper elements which are included among the items of the physical properties.
In consideration of franchise value, the history of the corporation should be investigated with a view to determine what part the public played in the creation of the property.
The granting of aid bonds, of public lands, and of aid money to railroads, the giving of encouragement to water-works companies by the payment of excessive hydrant rentals, are illustrations of the fostering and development of public service utilities by the public to such an extent as to justify in a large measure the claim that in many cases the allowance of an intangible value is improper as against the public.
A further consideration in the matter of intangible values is the fact that they all partake more or less of the nature of "good will," and the question very properly arises, in the case of a purchase by the public, or of a rate-making valuation: "Should the public be compelled to pay for its own good will?" In the case of such a corporation as a street-railway company in a large city, any value arising from a surplus of earnings is due to the franchise, established business, or going value, or good will of the citizens of that city. This element of value frequently sustains an excessive bond indebtedness. At the expiration of the franchise period the citizens of that city consider a purchase, and are asked to pay, among other things, for their own good will. In view of the attitude of the Federal Courts in the Consolidated Gas Case, and the language of the lower Court in disallowing the item of "good will," which judgment was sustained by the Supreme Court, it is very evident that any attempt to fix arbitrarily a value on such an item in an appraisal is not likely to be supported successfully. The grounds named by the Court are:
Tangible property has a value apart from any franchise or good will value.
The franchise, conferring the privilege to be a corporation, to use public property, to be free from competition, and to enjoy many other privileges, has some value apart from tangible property.
Good will can have no existence as apart from or detached from the franchise conferring the necessary privilege. Such good will (by itself) is not capable of being capitalized and distributed among stockholders.
Citizens are entitled to have gas (or water) because they pay for it, exactly as they are entitled to have clean streets (and, in the same way, police protection or fire protection), because they pay taxes among other things for that.
The Court, therefore, finds that there is no good will value in connection with the gas business in the City of New York, although it is said, elsewhere in the finding, that it is the best, most favorably located, and most prosperous business of its kind in the country.
Judge Tayler, in the Cleveland Railway arbitration, says:
"I allow nothing for good will. A street railway company which has a monopoly, and especially if it has a franchise value remaining, can have no good will value."
Judge Lurton, in the Omaha Water-Works Case, says:
"That kind of good will, as suggested in Willcox vs. Consolidated Gas Co., is of little or no commercial value when the business is, as here, a natural monopoly with which he must deal, whether he will or no."
In connection with a consideration of franchise values, the following points are raised by the Federal Court in the Consolidated Gas Cases (157 Fed., 872-879):
"Should a corporation have a right to demand an income return, separable from any return upon its tangible property, from its right to place gas mains in the public streets and maintain them for its private profit, a right which it did not buy from city or state or pay therefor any legal valuable consideration? The Court thinks not, because 'Return can be expected only from investment, and he that invests must part with something in the act of investing.' Does any company invest its franchise in its business? It does not part with its franchise in the same way it parted with money or money's worth in acquiring or creating mains or plants. The investment of property was made, not in the franchise, but under the franchise, and on the faith thereof. The franchise is but a part of the power or sovereignty, allotted to a private person for the benefit of all, and only incidentally given for private emoluments.
"What is the value of a franchise to perform a certain service, under which no money is invested and no service yet performed? What is it worth apart from performance under it?
"Unless it can be seen to possess inherent value entirely apart from the earning capacity of the subsequent investment or from the actual earnings resulting from such investment, the value asserted or claimed is but a duplication of that derived from the use of the tangible property when so invested.
"The concepts of the nature and value of franchises are seen dimly and confusedly because of the failure to distinguish between productive and non-productive property. Land, money, chattels may by industry and intelligence be made productive without a franchise; but no excellence in these desirable qualities can ultimately render a franchise productive without the use of money, chattels, and land in connection therewith, and when the juncture is made the earning capacity of the real and personal property, plus the franchise and plus intelligence and industry, is really no greater than it would be without the franchise, for the franchise has added no producing power to the realty or personalty; it has but authorized their employment in a particular way and protected the owners while so employing them."
The Court emphasized the fact that the particular way in which they are used is in performing a function of the State—in doing a service for the public which the public might do equally well for itself, in the following language:
"I can imagine no more than three ways in which the value of a franchise can be stated. It is valuable: (1) because it authorizes the gainful use of private property in a particular manner; (2) because once obtained it is often difficult or impossible to get another like it; (3) because it may be used to injure or hinder another enterprise, although itself conferring or securing nothing of value.
"The third method of statement has been accurately, though colloquially, described as a 'nuisance value,' and is so obviously illegitimate as to require no discussion. The second method of statement, when carefully considered, asserts that because the sovereign has deemed it advisable to entrust a public work to one citizen or a body of citizens such quasi monopolistic grant confers the right to charge for the service more than would be just or lawful were the occupation open to all. Nor does it change the truth of the last statement that the difficulty of procuring franchises produces, and long has produced, a traffic in them. On every private sale of franchise property, the price paid is so much money lost to the public by official incompetence or worse, and such sale can confer on the vendee no right to compel the consumer to repay him a price that should have been paid to the State. For these reasons, I believe that on principle a franchise should be held to have no value except that arising from its use as a shield to protect those investing their property on the faith thereof, and that, it renders fruitful, it possesses no more economic value for the investor than does an actual shield possess fighting value, apart from the soldier who bears it."
It will not do to leave this decision without calling attention to the fact that the foregoing quotations are but argument advanced by the Court, and that he found a franchise value, following the reasoning of the Supreme Court in cases cited heretofore, and other cases, and upon the doctrine that:
"Private citizens may acquire vested property rights through a series of even erroneous decisions; rights so firmly vested that it becomes unconstitutional for the court which persisted in error suddenly to rectify its mistakes to the detriment of those who had securely rested upon the decisions sought to be invalidated."
After citing numerous cases, and considering methods of valuing franchises, the Court says:
"I think it obvious, as I have endeavored heretofore to point out, that either for the purpose of condemnation or regulation the value of a franchise depends wholly upon what is earned under it and I believe the best way of finding out how much a franchise, separately considered, is worth, is to ascertain what those persons desirous of continuing operation under it consider it to be worth. In a corporation whose stock is freely bought and sold, such value is measured by the success attending the sale of stock based entirely upon capitalization of the franchise; yet the value of stock issued only in consideration of the franchise is obviously dependent on earnings after the stock based on tangible property has received a satisfactory dividend * * * yet it will always be true that, unless the whole net return, compared with the value of tangibles, is above a satisfactory return on tangible investment alone, the addition of stock issued for franchise will be regarded as 'water,' and detract from the value of the entire issue, and I think this conclusive proof that value on a franchise depends wholly on what actual investment can earn."
In this particular instance stock to the amount of $7,781,000 had been issued in 1884 and divided among stockholders without any consideration, which stock represented the company's own valuation of its franchise at that date. The Court, in fixing a value, held that it would be proper to increase it proportionately to the increase in tangible property; this he did, fixing the franchise value at more than $12,000,000. The Supreme Court of the United States, in disposing of this, says (212 U. S., 47):
"But although the state ought for these reasons [applicable to this case—not general], to be bound to recognize the value agreed upon in 1884 as part of the property upon which a reasonable return can be demanded, we do not think an increase in that valuation ought to be allowed upon the theory suggested by the Court below. Because the amount of gas supplied has increased to the extent stated, and the other and tangible property of the corporations has increased so largely in value, is not, as it seems to us, any reason for attributing a like proportional increase in the value of the franchises. Real estate may have increased in value very largely, as also the personal property, without any necessary increase in the value of the franchises. Its past value was founded upon the opportunity of obtaining these enormous and excessive returns upon the property of the company, without legislative interference with the price for the supply of gas, but that immunity for the future was, of course, uncertain, and the moment it ceased and the legislature reduced the earnings to a reasonable sum, the great value of the franchises would be at once and unfavorably affected, but how much so it is not possible for us to see. The value would most certainly not increase."
The Court did not concur in the increase of the franchise value, and, in dismissing this subject, says:
"What has been said herein regarding the value of the franchises in this case has been necessarily founded upon its own peculiar facts, and the decision can form no precedent in regard to the valuation of franchises generally where the facts are not similar to those in the case before us."
It appears, then, from this, the latest case, that:
1.—The view of the lower Court that a franchise or intangible value is not separable, and that if there be a value it must be determined from the earnings, is concurred in by the Supreme Court.
2.—That the arbitrary increase of franchise value, by the lower Court, proportional to the normal increase of the physical property, is not concurred in.
3.—Inferentially, it appears that the acquiescence of the State in the franchise value of 1884 is the main reason for permitting that value to stand, and it would seem to follow, from the reasoning of the Court, that it is very questionable whether any franchise or intangible value based on excessive rates should be allowed to stand.
Another view of franchise values, as stated by George H. Benzenberg, Past-President, Am. Soc. C. E., in discussing water-works franchises, is as follows:
"Some contend that a franchise is simply and purely a privilege given by the municipality to a water company to utilize the streets for the purpose of laying a system of pipes through which it may distribute and deliver water. It is not a license to do business, but a privilege to use public streets, alleys, and grounds. * * * If that interpretation is the proper one, the value of the franchise, if the property is to be purchased by a municipality, is comparatively nothing. If the property is to be purchased by another company, it represents all of the great value that such franchise possesses to the original holder, together with all the privilege it confers; but in the event it is purchased by the city, it is dispossessed of that certain element of value, and I think for that reason it is stipulated in many of the ordinances that no value shall be placed on the franchise by appraisers."
In the paragraph just quoted, it is evident that the term "franchise" is used in a restricted sense, and refers to the ordinance or contract from a municipal corporation granting the right to operate on specific terms, rather than the broad use of the word as indicating all rights derived from general laws or special contracts or grants. The point, however, is applicable to the case of any corporation occupying public ground.
It is believed that enough argument has been adduced to show that any attempt to give separate value to the different elements that enter into the intangible value of a property is a very risky proceeding on the part of appraisers, and to support further the contention that, as a business proposition, the value of any property depends on its earnings; that the franchise simply protects the owners of the property in their enjoyment of those earnings; that the value of the franchise merges in the "fair value" of the property, and that the franchise can have no special value of itself unless the earnings of the property are in excess of a usual and fair rate on the actual investment. In case there are surplus earnings, they measure and determine not only the value of the franchise, but also the value of all other non-physical elements. If this be true, any readjustment of rates, any restriction of operations, or other form of legislative control which would unfavorably and violently affect earnings, is bound to hold down franchise or non-physical values; as it would not seem possible to read into the various decisions any intention on the part of the Court to base the right to demand fair return on anything but the "fair value of the property being used."
The writer, therefore, reaches the following conclusions regarding non-physical values:
1.—That all the different non-physical elements of value are inseparable.
2.—That in the case of very many properties, no non-physical value can attach, and in many cases this value will be a negative or subtractive quantity.
3.—That in the case of properties located so as to secure either a monopoly of business in a congested territory, or in which the construction, location, strategic position, or economic excellence of design, is such that, on a schedule of rates which is fair and reasonable for competitors less advantageously situated, an earning is secured which is in excess of usual returns, a non-physical value of considerable magnitude may very properly be assigned.
4.—That, for the computation of non-physical values, the income account of the property under consideration affords the only legitimate basis, but even then consideration must be given to duration of franchise, reasonableness of rates, and other modifying conditions, and also, possibly, the purpose for which the appraisal is made may determine whether or not a non-physical value may be used. The language of the Court in the Knoxville and Omaha cases apparently leaves this a very open question.
This brings us substantially to the conclusion reached by Professor Adams in 1900, and a careful study of the method laid down by him shows nothing that cannot be accepted as fair and reasonable. His plan should be extended so as to cover subtractive values or the case of properties showing a deficit.
This method has the merit of being based on the actual earnings and expenses of the company under investigation and on the value of the physical property as already computed. It does not introduce a mass of purely supposititious figures, nor depend on hypothesis. The proposition is simply this: If a property earns only its operating expenses, including therein proper depreciation reserves, taxes, and such a percentage on its actual invested capital as could be earned by that capital if invested in good non-taxable bonds or other like security, it is worth no more than its physical property is worth. If it earns more than that, it is due to the franchise, going concern, or other intangible elements of value, and, to determine that value, capitalize the surplus.
It takes several years for a property to reach its normal earning capacity after construction is completed, and, in the investigation of a property of comparatively recent construction, where the gross and net earnings show a steady annual increase, the application of a negative or subtractive value should be made with great caution; but where the earnings have been fairly uniform and stationary for a period of years, and the property does not earn a sufficient sum to care for depreciation and annuity, it is clear that the value as an earning investment is less than the determined physical value, and that the physical valuation should be reduced by some amount to arrive at the "fair value."
The Courts hold that public service corporations are entitled to earn:
(a) Operating expenses,
(b) Expenses of maintenance and running repair,
(c) Taxes,
(d) A sinking fund from earnings to cover depreciation and obsolescence, and
(e) A reasonable profit on the fair value of the property.
An investigation of non-physical values should then include an analysis of operating expenses, to determine that additions and betterments to property are not included therein.
The general practice of corporations in the past has been to ignore any reserve to cover depreciation and obsolescence. If, at the beginning of operations of any property, such a sum should be annually set aside out of earnings as should, when invested as a sinking fund, maintain the integrity of the investment, then this amortization fund at any period, plus the depreciated value of the physical property, should equal the amount of the total capital actually invested in the property. In most cases this has not been done, and the Supreme Court in the Knoxville Water Case holds that, by reason of the failure to create such a fund, whether due to carelessness, excessive dividends, or other cause, the company must lose the amount of capital represented by the depreciation that has taken place. In making a computation of intangible values, it is certainly proper to consider the income account as averaged over a period of years, to avoid violent fluctuations of gross or net earnings, and a depreciation reserve should be determined for such years, as it cannot be claimed that, unless such an amortization fund is earned, in addition to other operating expenses and taxes, there is any non-physical value.
Professor Adams covered the depreciation in the Michigan work in the 4% annuity which was deducted before non-physical values were computed. The writer is inclined to go a step farther than Professor Adams, and hold that, before any intangible values can be attached to the property, it should earn not only all operating expenses, taxes, and reserve for depreciation, but also interest on the actual investment equivalent to the return that would be had were the money invested in a non-taxable bond, say 4%, and that any earnings in excess of such a sum might be termed properly "earnings on franchise," or intangible values.
On this basis, then, a rule would be formulated, being that of Professor Adams, with some modifications:
1.—Deduct from gross earnings from operation the aggregate of operating expenses, including in operating expenses an annual sinking fund to amortize the depreciation and obsolescence, and the remainder may be termed "income from operation."
2.—To this income from operation add income from investment, giving "total income," which represents the amount at the disposal of the corporation for the support of its capital and for the determination of its annual surplus.
3.—From "total income," deduct taxes, rents paid for lease of operated property (provided such property is not included in the appraisal), and improvements chargeable to income. The remainder represents the income after all charges against operation of property, and maintenance of the integrity of the capital investment have been cared for.
4.—From this remainder (3) deduct such a percentage of the value of the physical property (representing invested capital) as would equal the income of that capital if invested in government or other non-taxable bonds. The remainder would represent surplus, which, capitalized at a proper rate, would equal the value of intangible or non-physical properties, which is to be added to the appraised value of the "physical property."
5.—If, instead of a surplus, a deficit occurs, a careful study of all the conditions surrounding the operations of the property should be made, and, if there be no reasonable expectation of increase of earnings, or other modifying conditions, a proper figure, based on the average deficit, should be determined, and, as a negative intangible value, deducted from the value of the physical property.
6.—In the determination of rates, to be used in computing income and for capitalizing surplus or deficit, the greatest of care must be exercised to adopt such figures as will be proper and absolutely just.