Opinion ID: 1929636
Heading Depth: 1
Heading Rank: 3

Heading: market pressure and flotation costs adjustment

Text: WGL asserts that the Commission erred in disallowing its request for an adjustment to its rate of return for market pressure and flotation costs associated with the issuance of new stock. Market pressure refers to the depression in the price of stock which occurs when additional stock is issued; flotation costs are costs incurred in issuing the additional stock, for example, underwriting costs, attorneys' and accountants' fees, etc. When new stock is issued by a utility, these costs properly are considered in calculating the rate of return. Among the factors a regulatory agency must consider in setting a utility's rate of return is the return an investor must receive in order to enable the utility to compete successfully for capital. The regulatory agency is obliged to allow a rate of return to equity holders that is sufficient to assure confidence in the financial integrity of the enterprise, so as to maintain its credit and attract capital. Federal Power Commission v. Hope Natural Gas Co., supra at 603. See also Bluefield Water Works & Improvement Co. v. Public Service Commission of the State of West Virginia, 262 U.S. 679, 43 S.Ct. 675, 67 L.Ed. 1176 (1923). The rate of return required to attract capital investment is referred to as the cost of equity. The Commission calculated WGL's cost of equity by the discounted cash flow (DCF) method. That method takes into account an investor's anticipated income from dividends and capital gain upon eventual sale of the stock in order to arrive at an estimated rate of return which the investor must receive in order to induce him to invest in the utility stock. The cost of equity arrived at by the DCF method is referred to as the bare-bones cost of equity, i.e., the cost of equity determined solely on the basis of current dividend returns and anticipated growth, without adjustment for factors such as the issuance of additional stock. In the instant case, the Commission set the cost of equity to WGL as a return on equity of 13.25%. [4] WGL does not appeal this determination of the bare-bones cost of equity, but appeals the Commission's refusal to adjust the rate of return upward to reflect market pressure and flotation costs expected to result from WGL's anticipated issuance of additional common stock in 1981. The Commission concedes that the rate of return allowed to equity holders should include an allowance for market pressure and flotation costs when additional stock is issued, but justifies its refusal to grant the allowance here on the grounds that WGL did not present sufficient evidence that it would issue additional stock in the near future to warrant granting the allowance. [5] The record reflects that WGL Chief Financial Officer, Patrick J. Maher, in testimony filed with the Commission on March 31, 1980, stated that WGL planned a public offering of common stock in 1981, and that on April 8, 1980, Mr. Maher testified that a five-year plan to issue stock, including a projected issuance of fifteen to twenty million dollars worth of common stock in 1981, had been approved by the WGL Board of Directors in March, 1980. In its Proposed Order, the Commission noted that Mr. Maher was probably in the best position to determine [WGL's] need for new equity, and that he indicated quite strongly that approximately fifteen to twenty million dollars in new equity would be needed in 1981. Yet, the Commission concluded that the evidence submitted to it indicated little more than a possibility of a new issuance of common stock. [6] We disagree. The evidence before the Commission in the form of testimony of the company's Chief Financial Officer was that the Board of Directors had approved the issuance of common stock having a value of approximately fifteen to twenty million dollars. As the Commission itself concedes, WGL's failure to announce a more specific plan regarding the issuance was not unusual since such information commonly is released only shortly in advance [of actual issuance]. [7] We conclude that the evidence concerning WGL's projected issuance of common stock in 1981 was such that it was unreasonable for the Commission to deny an adjustment to the rate of return to reflect the market pressure and flotation costs associated with the issuance. [8] We hold, therefore, that the Commission's refusal to grant the adjustment was error.