Estimating the Cost of Capital for California Electric Utilities

35 Pages Posted: 27 May 2020

See all articles by Niso Abuaf

Niso Abuaf

Pace University - Lubin School of Business; Samuel A. Ramirez & Co., Inc.

Ray O’Connor

Samuel A. Ramirez & Co., Inc

Konstantin Semyonov

Samuel A. Ramirez & Co., Inc.

Duncan Sinclair

Samuel A. Ramirez & Co., Inc.

Date Written: May 26, 2020

Abstract

This paper sets the theoretical and empirical framework to estimate a fair rate of return for the providers of equity capital to California utilities. We triangulate this answer by: (1) estimating the cost of equity by the Dividend-Discount Model, and its close cousin the Price-to-Equity Model, (2) the Capital Asset Pricing Model in backward and forward-looking settings, and (3) an insurance type model where we impute the actuarial cost of the wildfires on the equity base. The next three sections of this paper explore the cost of equity for California utilities vs. their peers using the above three approaches. We do, indeed, show that the cost of equity for California utilities is significantly higher than their peer group. We also demonstrate that the CAPM model fails to capture many of the complexities of our existing world and propose approaches to remedy CAPM’s failings. The subsequent section demonstrates that if capital providers are not fairly compensated, California may not be able to attract sufficient capital to further its environmental and other policy objectives. That PG&E’s equity holders are now short-term type investors (hedge funds) as opposed to long-term investors reinforces the above prediction. Finally, we delineate our concluding takeaways.

Keywords: cost of capital, electric utilities

Suggested Citation

Abuaf, Niso and O’Connor, Ray and Semyonov, Konstantin and Sinclair, Duncan, Estimating the Cost of Capital for California Electric Utilities (May 26, 2020). Pace University Research Paper, Available at SSRN: https://ssrn.com/abstract=3611314 or http://dx.doi.org/10.2139/ssrn.3611314

Niso Abuaf (Contact Author)

Pace University - Lubin School of Business ( email )

1 Pace Plaza
New York, NY 10038-1502
United States

Samuel A. Ramirez & Co., Inc. ( email )

61 Broadway
New York, NY 10006
United States

Ray O’Connor

Samuel A. Ramirez & Co., Inc

Konstantin Semyonov

Samuel A. Ramirez & Co., Inc. ( email )

Duncan Sinclair

Samuel A. Ramirez & Co., Inc. ( email )

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