Rebalancing “Return on Equity” to Accelerate an Affordable Clean Energy Future

This RMI guide argues that allowed Return on Equity (ROE) for US electric utilities is currently set too high, exceeding the actual Cost of Equity (COE) required by investors. This discrepancy creates a 'capex bias,' incentivizing expensive capital projects over cost-effective solutions and increasing customer bills. By correcting flawed model assumptions—such as overestimating growth rates and using arithmetic instead of geometric means—and debunking myths about capital access and credit ratings, regulators can lower ROEs to reduce consumer costs and accelerate the transition to clean energy.

• Allowed utility Return on Equity (ROE) has become increasingly generous since the 1990s, falling less than prevailing interest rates and costs of capital. Current ROEs are higher than the return investors require (Cost of Equity or COE), which creates a "capex bias" where utilities are incentivized to prefer capital-intensive solutions over more cost-effective options like energy efficiency.
• High ROEs significantly impact consumer costs and the energy transition. ROE accounts for 15%–20% of customer bills. It is estimated that US electric consumers could save $4 billion annually for every 1 percentage point reduction in authorized ROE, which equates to approximately $2.33 per month (2%–3%) per customer.
• Market data indicates that the 20 largest investor-owned utilities in the United States trade at an average of 1.81x book value (an 81% premium). Because market value exceeds book value, the ROE these companies are expected to deliver is greater than the COE. For example, while the expected ROE for these utilities is 11.0%, a Discounted Cash Flow (DCF) model estimate puts the implied COE at 7.9%.
• Several common model assumptions used by expert witnesses tend to inflate COE estimates. These include using forecasted interest rates instead of current rates (which can overstate rates by an average of 1.05% per year), applying unsustainable long-term earnings growth rates that exceed nominal US GDP growth (estimated by OECD at 4.0% per year), and using arithmetic means instead of geometric means for historical returns.
• The document challenges the myth that lower ROEs limit access to capital, noting that from 1973 to 1985, typical utility stocks traded below book value while the industry continued to add plants. It also argues that credit rating downgrades resulting from lower ROEs may not increase customer costs, as the net impact can still be beneficial due to tax considerations and the fact that the spread between credit ratings is currently less than 50 basis points.
• High ROEs make regulated utilities less competitive than independent renewable developers, who may have lower costs of capital due to more efficient capital structures and tax-subsidized debt. This can lead utilities to resist the pace of renewable deployment to maintain ownership and profit from the system.

APA

RMI (2025). Rebalancing “Return on Equity” to Accelerate an Affordable Clean Energy Future. https://rmi.org/resources/rebalancing-return-on-equity-to-accelerate-an-affordable-clean-energy-future/

Chicago

RMI. Rebalancing “Return on Equity” to Accelerate an Affordable Clean Energy Future. 2025. https://rmi.org/resources/rebalancing-return-on-equity-to-accelerate-an-affordable-clean-energy-future/.

Wikipedia

{{cite report |author=RMI |title=Rebalancing “Return on Equity” to Accelerate an Affordable Clean Energy Future |date=21 February 2025 |url=https://rmi.org/resources/rebalancing-return-on-equity-to-accelerate-an-affordable-clean-energy-future/ |access-date=17 August 2026 |via=Climate Insights Directory}}

BibTeX

@techreport{rmi2025rebalancing, author = {{RMI}}, title = {{Rebalancing “Return on Equity” to Accelerate an Affordable Clean Energy Future}}, institution = {RMI}, year = {2025}, month = feb, url = {https://rmi.org/resources/rebalancing-return-on-equity-to-accelerate-an-affordable-clean-energy-future/}, urldate = {2026-08-17}, note = {Indexed by Climate Insights Directory} }