The Odessa Independent Phone Company (OIPC) is currently engaged in a rate case that will set rates for its Midland-Odessa area customer base. OIPC has total assets of $20 million. The Texas Public Utility Commission has determined that an 11 percent return on assets is fair. OIPC has estimated its annual demand function as follows:
P = 3,514 − 0.08Q
Its total cost function (not including the cost of capital) is
TC = 2,300,000 + 130Q
a. OIPC has proposed a rate of $250 per year for each customer. If this rate is approved, what return on assets will OIPC earn?
b. What rate can OIPC charge if the commission wants to limit the return on assets to 11 percent?
c. What problem of utility regulation does this exercise illustrate?