Regulator selection and financial performance for public utilities: Selection method and the returns experienced by common equity owners

Abstract

This paper extends the work of others who have analysed the relationship between regulatory process and regulatory outcome, and examines the hypothesis that there is a difference in regulatory treatment received by public utilities depending on whether their regulators are elected directly by the public or appointed. The hypothesis of differential treatment is tested using the market-based returns and risks realized by the utility's common stockholders. The relevance of these measures is based on the premise that share prices incorporate all information about the future expected cash flows of the firm and thus reveal any perceived differences in the treatment received or expected to be received from the two subsets of regulators. Raw return and risk measures indicate higher returns and lower risks for equity owners of electric utilities regulated by appointed commissioners for the periods 1964–1968 and 1970–1979. The outcome was reversed for the period 1980–1984 with the equity owners of electric utilities regulated by elected commissioners earning higher returns than owners of firms regulated by appointed commissioners. When standard statistical testswere applied, the only significant differences in risk-adjusted returns were those for 1964–1968, when the owners of firms under appointed commissioners earned higher risk-adjusted returns than did owners of firms regulated by elected commissioners.