Innovation in the electric energy system and the empowerment of customers means that there is a need to reform traditional cost-of-service regulation of utilities. Performance-based regulation (PBR), which recompenses utilities based upon their performance outputs, enables regulators to reform hundred-year-old regulatory structures to meet these challenges. This white paper, produced for the Michigan Public Service Commission, examines the characteristics of a well-designed PBR mechanism. A stable program time frame, robust oversight, clear goals and metrics, a transparent process, simple design, and effective evaluation and verification are key elements of a successful approach. The paper also explores lessons learned from the United Kingdom’s RIIO (Revenues = Incentives + Innovation + Outputs) approach; outlines key considerations in designing a system of cost cap regulation; examines the relationship between performance incentive mechanisms and energy efficiency; and offers examples of how PBR can promote utility and customer innovation.