Lately I'm reading up on the new Telecommunications Act. Last week I printed a copy from the Internet and stuffed it in my briefcase. Each night on the train I give it a go and skim a few sections...
is Never Lost
In spite of ample arithmetical examples, the basic point made by Lawrence Kolbe and William Tye in "The Cost of Capital Does Not Compensate for Stranded-Cost Risk" (May 15, 1995) is simply wrong. The authors claim that "even if the cost of capital [reflects] full knowledge of the risk of stranded costs," it will not compensate for that risk. This conclusion is nonsensical on its face, since the very notion of efficient capital markets is to account fully for all known risks.
The heart of the authors' error lies in their failure to distinguish between the ex ante and ex post cost of capital. Yes, the ex ante cost of capital (that anticipated before the stranded cost issue arose) will always be insufficient. I do submit, however, that an efficient capital market will fully reflect the probability of stranded costs in the ex post cost of capital (that determined after the issue became known).
The authors' arithmetic is correct, given their assumption that the hypothesized risk of stranded cost warrants a 20-percent cost of capital. But that only means that an efficient market would cause stock prices to fall so as to generate a cost of capital of 20 percent. The mistake is simple: The assumed 12.5-percent cost of capital is internally inconsistent and would not occur under the conditions they postulate.
Michael D. Yokell
Director, Hagler Bailly
HB Capital, Inc.
Merger Spin Was Misspelled
Thank you for your June 1 article entitled, "'Merger of Equals' Primes NSP, WEPCO for Competition," reporting on the proposed merger of Northern States Power Co. and Wisconsin Energy Corp. It offered a different "spin" from other publications, and I appreciate that you brought up the issue of the North American Electric Reliability Council (NERC) regions. Here at MAPP, our members continue to work diligently to form a regional transmission group in the region, undeterred by the announcement.
I do have one correction, however. The name of our Reliability Council is the Mid-Continent Area Power Pool (MAPP), not
(MAPP), Minneapolis, MN
For the Record
A table that appeared in your April 1, 1995, issue (Trends) presented the highest- and lowest-cost utilities in the Northeast. I do not dispute the facts, but I do take issue with the inference.
Eastern Edison Co. and Blackstone Valley Electric Co. are distribution subsidiaries of Eastern Utilities Associates. They purchase 100 percent of their power requirements. The cost of this power represents a blend of baseload, intermediate, and peaking capacity, as well as energy from a diverse mix of fuels. It also includes transmission, dispatching and control, central planning, and administrative costs.
Not all the utilities listed in the table are structured in this way. Since the table does not explain how much purchased power goes into each utility's total power mix, the data on cost of power is misleading.
Dennis St. Pierre
Director of Rates
EUA Service Corp.
West Bridgewater, MA
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