[Federal Register: September 25, 2006 (Volume 71, Number 185)]
[Notices]
[Page 55825-55826]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr25se06-66]
-----------------------------------------------------------------------
DEPARTMENT OF TRANSPORTATION
Surface Transportation Board
[STB Ex Parte No. 664]
Methodology To Be Employed in Determining the Railroad Industry's
Cost of Capital
AGENCY: Surface Transportation Board.
ACTION: Request for comments.
-----------------------------------------------------------------------
SUMMARY: The Board is seeking comments on the appropriate methodology
to be employed in determining the railroad industry's estimated cost of
capital to be used in future annual cost-of-capital determinations. We
are also soliciting comments on how evidence should be submitted and
analyzed in future cost-of-capital proceedings.
DATES: Comments are due on or before November 6, 2006.
ADDRESSES: Send comments (an original and 10 copies) referring to STB
Ex Parte No. 664 to: Surface Transportation Board, 1925 K Street, NW.,
Washington, DC 20423-0001.
FOR FURTHER INFORMATION CONTACT: Paul Aguiar, (202) 565-1527.
[Assistance for the hearing impaired is available through the Federal
Information Relay Service (FIRS) at 1-800-877-8339.]
SUPPLEMENTARY INFORMATION: Section 205 of the Railroad Revitalization
and Regulatory Reform Act of 1976 (4R Act) first codified the
requirement for the Board or its predecessor to establish and maintain
standards for railroad revenue adequacy. This provision stated that
railroad revenues should provide a flow of net income plus depreciation
adequate to support prudent capital outlays, assure the repayment of a
reasonable level of debt, permit the raising of needed equity capital,
cover the effects of inflation, and attract and retain capital in
amounts adequate to provide a sound transportation system in the United
States. Subsequent laws (including the ICC Termination Act of 1995)
have retained this requirement. Thus, each year the Board makes a
determination of which railroads are or are not revenue adequate.
The annual determination of the railroad industry's cost of capital
is used in evaluating the adequacy of railroad
[[Page 55826]]
revenues each year. It may also be utilized in other Board proceedings,
including, but not necessarily limited to, those involving the
prescription of maximum reasonable rate levels.
The cost-of-capital calculation has three elements: (1) The
railroads' cost-of-debt capital; (2) the railroads' cost of preferred
stock equity capital; (3) the railroads' cost of common stock equity
capital; and (4) the capital structure mix of the railroad industry on
a market value basis. With respect to the cost of equity, there are
essentially two general approaches. It can be estimated directly by
estimating its component parts, the factors for which investors ask
compensation. These parts are the real time value of money, a premium
for expected inflation, and a premium for risk. This is commonly
referred to as the Capital Asset Pricing Model (CAPM) methodology.
Alternatively, it can be estimated indirectly on the basis of the
return expectations embodied in the prices investors are willing to pay
for stocks, the Discounted Cash Flow (DCF) methodology. The point has
often been raised, most notably by the railroads, that investors place
less importance on historical growth factors than on the analysts'
forecasts, thus making the forecast more meaningful. Other parties
contend that investors do rely on historical trends and tend to
discount the analysts' forecasts as being overly optimistic.
The Board has, for all previous cost-of-capital determinations,
relied upon the DCF methodology to determine the railroads' cost of
capital. We have also used the Institutional Brokers Estimate System
(IBES) consensus forecast data to determine the growth rate (``g'')
component of the DCF formula. While the Board has relied on the use of
the DCF methodology for determining the cost of common equity, there
are other methodologies that could be employed. These include the CAPM,
risk premium methods other than CAPM, earnings-price ratios, and the
comparable earnings method.
We are seeking comments on the appropriate techniques and
methodologies to be used to develop and evaluate the evidence submitted
for the cost of capital. Parties should discuss any changes in
underlying railroad industry economic conditions that would create the
need to change the methodology currently employed by the Board, and how
any proposed methodology will overcome the shortcomings, if any, of the
currently used DCF method.
This proceeding will provide all interested parties an opportunity
to comment on the DCF model, the proper source for the inputs to that
model, and whether the Board should adopt an alternative to that
method, such as the CAPM model, for future cost of capital
determinations.
This action will not significantly affect either the quality of the
human environment or the conservation of energy resources.
Pursuant to 5 U.S.C. 605(b), we certify that the proposed action
would not have a significant economic impact on a substantial number of
small entities within the meaning of the Regulatory Flexibility Act.
Board decisions and notices are available on our Web site at http://www.stb.dot.gov
.
Decided: September 15, 2006.
By the Board, Chairman Nottingham, Vice Chairman Mulvey, and
Commissioner Buttrey.
Vernon A. Williams,
Secretary.
[FR Doc. 06-8098 Filed 9-22-06; 8:45 am]
BILLING CODE 4915-01-P