Richard S. Bower

The capital recovery question: An overview

Abstract This paper deals with the question, what path through time should capital recovery have if regulation is to maximize welfare? It offers a three-part answer. First, the time path of capital recovery that maximizes welfare and satisfies regulatory criteria is the one that, in other industries, competition would provide. Second, economic depreciation, which provides a capital recovery schedule that matches the net cash savings used to justify a project, not straight-line depreciation, is the best approximation of that path. Third, there are no problems associated with implementing economic depreciation so great that they offset the benefits of following a better time path.

Regulatory procedures, investment opportunities and stock valuation

Abstract Electric utilities differ in their accounting procedures. By regulatory commission directive some use normalization and some use flow through to arrive at their earnings figures. Because regulation is on an allowed return on investment standard these reported earnings are relevant for stock valuation. Any variation in price/earnings ratios between flow through and normalizing companies therefore must be explained by differences in risk to equity investors, differences in investment opportunities, or market inefficiency involving erroneous restatement of earnings. Empirical work demonstrates that there is a difference in price/earnings ratios. Firms that normalize enjoy a premium. The evidence also indicates that the premium is not explained by risk difference. Because the perverse form of market inefficiency required as an explanation seems unlikely, the most reasonable conclusion is that the premium relates to investment opportunities associated with regulatory climate. If so it promises no excess return to stock buyers because it is already impounded in stock price.

Of lessees, lessors, and discount rates and whether pigs have wings

Abstract Recent articles on leasing suggest five principles that should aid analysts to understand this durable, much misunderstood financial instrument. The principles are 1) the lessor must be happy too, 2) the operating inflows have nothing to do with the case, 3) financial, like physical, matter tends to be preserved, 4) debt is a function of after-tax flows, and 5) inability to use tax shelters cuts two ways. In this paper we illustrate these principles and use illustrations to demonstrate that each of these principles has merit. We argue as well that the impression, often left by the principles, that leasing seldom benefits all parties to the transaction is incorrect.