TRANSPORTATION Prepared by: SOLLEGUE, Shanica

39 – REPUBLIC OF THE PHILS. V. MANILA ELECTRIC COMPANY

TOPIC: Regulatory Power (Enforcement) – Rate Fixing
Court Supreme Court
Ponente Puno, J.
Citation G.R. No. 141314; G.R. No. 141369.
Date November 15, 2002
Petitioners G.R. No. 141314: REPUBLIC OF THE PHILIPPINES, REPRESENTED BY ENERGY
REGULATORY BOARD (ERB)

G.R. No. 141369: LAWYERS AGAINST MONOPOLY AND POVERTY (LAMP) consisting of
CEFERINO PADUA, Chairman, G. FULTON ACOSTA, GALILEO BRION, ANATALIA
BUENAVENTURA, PEDRO CASTILLO, NAPOLEON CORONADO, ROMEO ECHAUZ,
FERNANDO GAITE, ALFREDO DE GUZMAN, ROGELIO KARAGDAG, JR., MA. LUZ
ARZAGA-MENDOZA, ANSBERTO PAREDES, AQUILINO PIMENTEL III, MARIO REYES,
EMMANUEL SANTOS, RUDEGELIO TACORDA, members, and ROLANDO ARZAGA,
Secretary-General, JUSTICE ABRAHAM SARMIENTO, SENATOR AQUILINO PIMENTEL, JR.
and COMMISSIONER BARTOLOME FERNANDEZ, JR., Board of Consultants, and Lawyer
GENARO LUALHATI

Respondent G.R. No. 141314: MANILA ELECTRIC COMPANY (MERALCO)

G.R. No. 141369: MERALCO

Relevant Codal
Provision
Case Doctrine Related to Topic
The regulation of rates to be charged by public utilities is founded upon the police powers of the State and statutes
prescribing rules for the control and regulation of public utilities are a valid exercise thereof. When private property
is used for a public purpose and is affected with public interest, it ceases to be juris privati only and becomes
subject to regulation.

While the power to fix rates is a legislative function, whether exercised by the legislature itself or delegated through
an administrative agency, a determination of whether the rates so fixed are reasonable and just is a purely judicial
question and is subject to the review of the courts.
Case Summary
The Energy Regulatory Board (ERB) was created through EO no 172 for the purpose of regulating energy resource
distribution and rate fixing, among others. In 1993, Meralco filed with the ERB an application for the revision of its
rate schedule, causing a P 0.21 centavos/kwh increase in its distribution charge. A provisional increase of P 0.184/kw
was approved instead, with the condition that ERB must either refund or credit any excess amounts that may be
calculated based on Commission on Audit’s (COA) audit report. The ERB then rendered a decision adopting COA’s
audit report, which recommended that (1) income taxes shall not be considered as an operating expense for the
purpose of rate determination and (2) the net average investment method should be utilized by Meralco in computing
the rate base. Consequently, it directed Meralco to refund or credit the excess amount of P 0.167/kwh to its
consumers. The CA, however, set aside ERB’s decision.

As regards to income tax being part of operating expenses, the Supreme Court ruled that such is not the case, for
operating expenses are those reasonably incurred in connection with business operations to yield revenue or
income, whereas income tax is imposed on the entity for the privilege of earning income and for the benefits
received by the taxpayer from the State. On the second issue, the Court the use of net average investment method
is proper for it is consistent with the settled rule in rate regulation that the determination of the rate base of a public
utility entitled to a return must be based on properties and equipment actually being used or are useful to the
operations of the public utility.

FACTS:
1. 23 Dec 1993: Meralco filed with the ERB (1) an application for the revision of its rate schedule, causing a P 0.21
centavos/kwh increase in its distribution charge and (2) a prayer for its provisional approval:
○ Included income tax as part of its operating expenses to determine a “just and reasonable” return; and
○ Used the average investment method in computing the values of its properties for the purpose of
determining the rate base:
■ Average investment method: aka "trending method;" computes the average value of the property
at the beginning and at the end of the test year.
2. 38 Jan 1994: ERB granted the rate’s provisional increase of P.0184/ through an Order, with the condition that any
excess amounts collected – pursuant to Commission on Audit’s (COA) Audit Report findings – shall either be
refunded or credited to the consumers.

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 TRANSPORTATION Prepared by: SOLLEGUE, Shanica
39 – REPUBLIC OF THE PHILS. V. MANILA ELECTRIC COMPANY
TOPIC: Regulatory Power (Enforcement) – Rate Fixing
3. The following recommendations by COA, as reflected in its Audit Report, were adopted by the ERB:
○ not to include income taxes paid by Meralco as part of its operating expenses for purposes of rate
determination; and
○ to utilize the net average investment method for the computation of proportionate values of the properties
used during the test year to determine the rate base.
4. Meralco was further directed to refund or credit the excess amount of P0.167/kwh, beginning Feb 1994 until Feb
1998. However, CA reversed ERB’s decision. Separate MRs were filed by both ERB and Meralco but were
dismissed.
ISSUE – HELD – RATIO:
ISSUE # 1 HELD
WON income tax is considered as part of operating expenses, and NO. Income tax should be borne by
hence shall be considered in the proposed rate increase by Meralco. the taxpayer alone as they are
payments made in exchange for
benefits received by the taxpayer
from the State. In this case, this
benefit on the part of Meralco is the
privilege of earning income from its
consumers.
RATIO
1. Income tax is inconsistent with the concept of operating expenses:
○ Operating expenses:
■ reasonably incurred in connection with business operations to yield revenue or income;
■ items of expenses which contribute or are attributable to the production of income or revenue;
■ "should be a requisite of or necessary in the operation of a utility, recurring, and that it redounds to
the service or benefit of customers.
○ Income Tax:
■ Imposed on an individual or entity as a form of excise tax or a tax on the privilege of earning
income.
■ Its purpose is for the taxpayer’ protection by the State; thus, by its nature, income tax payments of
a public utility are not expenses which contribute to or are incurred in connection with the production
of profit of a public utility.
■ No benefit is derived by the customers of a public utility for the taxes paid by such entity and no
direct contribution is made by the payment of income tax to the operation of a public utility for
purposes of generating revenue or profit:
● APPLICATION TO THE CASE: the burden of paying income tax should be Meralco's alone
and should not be shifted to the consumers by including the same in the computation of its
operating expenses.
■ By charging their income tax payments to their customers, public utilities virtually become "tax
collectors" rather than taxpayers.
2. The principle behind the inclusion of operating expenses in the determination of a just and reasonable rate
is to allow the public utility to recoup the reasonable amount of expenses it has incurred in connection with
the services it provides.
ISSUE – HELD – RATIO:
ISSUE #2 HELD
What methodology shall be used in computing the properties’ values: COA and ERB’s Net Average
Meralco’s Average Investment Method or COA and ERB’s Net Average Investment Method should be used.
Investment Method? The determination of the rate base of
a public utility entitled to a return
must be based on properties and
equipment actually being used or
are useful to the operations of the
public utility.
RATIO
1. Net Average Investment Method reflects the real status of the property in terms of usage.
○ Net Average Investment Method:
■ Properties and equipment used in the operation of a public utility are entitled to a return only on the
actual number of months they are in service during the period.
● APPLICATION TO THE CASE: ERB and COA considered for determination of the rate
base the value of properties and equipment used by MERALCO in proportion to the period
that the same were actually used during the period in question.

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TRANSPORTATION Prepared by: SOLLEGUE, Shanica
39 – REPUBLIC OF THE PHILS. V. MANILA ELECTRIC COMPANY
TOPIC: Regulatory Power (Enforcement) – Rate Fixing
■ This treatment is consistent with the settled rule in rate regulation that the determination of the rate
base of a public utility entitled to a return must be based on properties and equipment actually being
used or are useful to the operations of the public utility.
○ Average Investment Method (AIM):
■ Computes the proportionate value of the property by adding the value of the property at the
beginning and at the end of the test year with the resulting sum divided by two.
● APPLICATION TO THE CASE: Meralco’s reliance on the average investment method due
to the following is belied by COA’s Audit Report, finding that Meralco’s properties are
recorded in its books as these are actually placed in service:
○ AIM used due to Meralco’s franchise covering a wide area, and
○ due to the volume of properties and equipment put into service and the amount of
paper work required to be accomplished for recording in the books of the company.
2. If the application of the "average investment method" was sustained the public utility may easily manipulate
the valuation of its property entitled to a return (rate base) by simply including a highly capitalized asset in
the computation of the rate base even if the same was used for a limited period of time during the test year.

IMPORTANT DISCUSSION ON THE POWER OF THE STATE TO REGULATE RATES:

1. The regulation of rates to be charged by public utilities is founded upon the police powers of the State and
statutes prescribing rules for the control and regulation of public utilities are a valid exercise thereof.
2. When private property is used for a public purpose and is affected with public interest, it ceases to be juris privati
only and becomes subject to regulation.
3. Submission to regulation may be withdrawn by the owner by discontinuing use; but as long as use of the property
is continued, the same is subject to public regulation.
4. Balancing of interests: the rates prescribed by the State must be one that yields a fair return on the public utility
upon the value of the property performing the service and one that is reasonable to the public for the services
rendered.
5. While the power to fix rates is a legislative function, whether exercised by the legislature itself or delegated
through an administrative agency, a determination of whether the rates so fixed are reasonable and just
is a purely judicial question and is subject to the review of the courts.
6. What is a just and reasonable rate is a question of fact calling for the exercise of discretion, good sense, and a
fair, enlightened and independent judgement. It must not be so low as to be confiscatory, or too high as to be
oppressive:
a. Factors to consider WON a rate is confiscatory: given situation, requirements, and opportunities of the
utility.
7. Factual findings of administrative bodies on technical matters within their area of expertise should be accorded
not only respect but even finality if they are supported by substantial evidence even if not overwhelming or
preponderant:
a. APPLICATION TO THE CASE AT BAR: ERB’s findings must be respected so long as there has not
been any arbitrary or capricious exercise of its power.
8. Three major factors to consider in determining the “just and reasonable” rate:
a. Rate of return: judgment percentage; not prescribed by statute but by administrative and judicial
pronouncements.
i. SC has consistently adopted a 12% rate of return for public utilities.
b. Rate base: evaluation of the property devoted by the utility to the public service or the value of invested
capital or property which the utility is entitled to a return
c. Return itself or the computed revenue to be earned by the public utility: Rate of return x rate base
RULING:
WHEREFORE, in view of the foregoing, the instant petitions are GRANTED and the decision of the Court of Appeals in
C.A. G.R. SP No. 46888 is REVERSED. Respondent MERALCO is authorized to adopt a rate adjustment in the amount
of P0.017 per kilowatt hour, effective with respect to MERALCO's billing cycles beginning February 1994. Further, in
accordance with the decision of the ERB dated February 16, 1998, the excess average amount of P0.167 per kilowatt
hour starting with the applicant's billing cycles beginning February 1998 is ordered to be refunded to MERALCO's
customers or correspondingly credited in their favor for future consumption

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