The environment within which investor-owned electric utilities operate has changed dramatically over the past decade. Unexpected increases in fossil-fuel costs have forced utilities to increase rates, which in turn has led to decreasing demand for electricity. At the same time, historically high interest rates, combined with reductions in utilities’ bond ratings, have raised their cost of capital.
Utilities have attempted to counter these challenges to their financial health in several ways. Many have diversified into unrelated fields such as communications and construction management in order to improve profitability. Some have delayed construction work in progress or even canceled projects outright in an attempt to improve short-term performance. And, to insulate themselves from escalating fossil-fuel costs and to promote long-term price stability, utilities have shifted away from oil and natural gas to nuclear power and other capital-intensive generating capacity.
Investor reaction to these problems and utilities’ responses to them has been mixed. Empirical research suggests that investors view unfavorably increases in the price of residential power, perhaps indicating that they have become more aware of the increasing importance of price elasticity of demand to the industry. Current or potential use of nuclear power is also regarded unfavorably. Stock prices tend to respond favorably, however, to efforts at diversification.