MOVING TOWARD VALUE IN UTILITY COMPENSATION PART 2 – REGULATORY ALTERNATIVES

The paper argues that traditional Cost of Service Regulation (COSR) creates a capital bias that motivates utilities to pursue expensive infrastructure projects over more cost-effective, non-utility-owned, or distributed energy resource (DER) alternatives. Through three case studies—distribution circuit upgrades, grid modernization, and regional capacity requirements—the author demonstrates that COSR often misaligns shareholder value with public interest. The analysis finds that multiyear revenue caps, particularly those with 'stretch factors' to encourage efficiency, and Performance Incentive Mechanisms (PIMs) targeting specific outcomes like CO2 reduction or peak demand, are more effective at aligning utility motivation with societal goals. The document recommends a gradual transition toward these PBR tools to manage investor risk while accelerating the energy transition.

• Cost of Service Regulation (COSR) creates a financial incentive for utilities to prioritize capital-intensive infrastructure over non-infrastructure or third-party alternatives, even when the latter are more cost-effective for society.
• In a case study on distribution circuit load growth, a benchmarked revenue cap provided the strongest alignment between utility shareholder value and customer savings, whereas a rate of return on third-party DERs was insufficient to overcome the capital bias of COSR.
• For grid modernization, revenue caps motivate utilities to identify operational efficiencies and third-party solutions that COSR ignores, as operational costs are typically treated as pass-throughs under COSR.
• The use of 'stretch factors' in revenue caps further encourages cost containment by reducing the revenue cap below the conventional cost of service requirement, creating a financial downside for pursuing sub-optimal conventional strategies.
• Performance Incentive Mechanisms (PIMs) can effectively monetize non-monetized societal goals, such as carbon reduction, by offering financial rewards or penalties based on specific performance targets.
• In the regional capacity case, a CO2 emissions intensity PIM combined with a revenue cap most effectively aligned utility motivation with goals of affordability and environmental performance.
• Shifting fuel price risk from consumers to utilities through modified fuel adjustment clauses can motivate utilities to adopt clean energy resources as a hedge against fossil fuel price volatility.
• The author suggests a gradual transition to PBR to manage investor risk and avoid increasing the cost of equity, recommending starting with measurement-only PIMs or project-specific revenue caps.

APA

Aas, D., & O’Boyle, M. (2016). MOVING TOWARD VALUE IN UTILITY COMPENSATION PART 2 – REGULATORY ALTERNATIVES. Energy Innovation. https://energyinnovation.org/wp-content/uploads/2016_Aas-OBoyle_Reg-Alternatives-1.pdf

Chicago

Aas, Dan, and Michael O’Boyle. MOVING TOWARD VALUE IN UTILITY COMPENSATION PART 2 – REGULATORY ALTERNATIVES. Energy Innovation, 2016. https://energyinnovation.org/wp-content/uploads/2016_Aas-OBoyle_Reg-Alternatives-1.pdf.

Wikipedia

{{cite report |last1=Aas |first1=Dan |last2=O’Boyle |first2=Michael |title=MOVING TOWARD VALUE IN UTILITY COMPENSATION PART 2 – REGULATORY ALTERNATIVES |publisher=Energy Innovation |date=June 2016 |url=https://energyinnovation.org/wp-content/uploads/2016_Aas-OBoyle_Reg-Alternatives-1.pdf |access-date=17 August 2026 |via=Climate Insights Directory}}

BibTeX

@techreport{aas2016moving, author = {Aas, Dan and O’Boyle, Michael}, title = {{MOVING TOWARD VALUE IN UTILITY COMPENSATION PART 2 – REGULATORY ALTERNATIVES}}, institution = {Energy Innovation}, year = {2016}, month = jun, url = {https://energyinnovation.org/wp-content/uploads/2016_Aas-OBoyle_Reg-Alternatives-1.pdf}, urldate = {2026-08-17}, note = {Indexed by Climate Insights Directory} }