Utility Rate Regulation Expert Witness

Creative solutions to overlapping financial, technology, and policy issues

Cost of Capital Testimony

RFC provides expert witness testimony on measuring the cost of capital, which is the return a regulated utility must pay its investors to raise debt and equity financing on reasonable terms and fulfill their obligation to provide safe and reliable electric, gas, and water distribution. The cost of debt is the interest rate the company must pay their bondholders. The cost of equity is the return investors require to purchase shares and cannot be published like an interest rate on a bond. Instead, the cost of equity, often referred as return on equity (ROE) in utility rate case proceedings, must be calculated by applying financial models to published data such as stock prices, option prices, dividend yields, and expected growth.

The Discounted Cash Flow (DCF) method is widely used and often given a primary role in determining the ROE to set rates for a regulated utility company and calculating rates for transmission service. RFC uses both constant growth (sustainable retention) and non-constant growth (estimated dividend growth and capital gains) DCF methods, together with the Capital Asset Pricing Model (CAPM), to establish a reasonable range for the cost of capital. RFC’s CAPM approach, in addition to using historical betas as is commonly done, also takes into consideration forward-looking betas implied by stock option pricing.

RFC’s comprehensive and unique cost of capital calculation methodology, including the use of stock option pricing, has withstood rigorous scrutiny and has been well-received by utility commissions.

The accurate calculation of the cost of capital balances the interests of consumers and investors and promotes the efficient allocation of resources. While our testimony is an impartial evaluation, our analyses take into account commission policy, precedents, and established rules. Overall, we strive to ensure decision makers are adequately informed so as to represent the goals of their constituents as optimally as possible.