AEP

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended March 31, 2007, for American Electric Power Company, Inc. (AEP) and its registrant subsidiaries. AEP is a large accelerated filer operating primarily in the electric utility sector, with segments including Utility Operations, MEMCO Operations (barging), and Generation and Marketing. The filing includes consolidated financial statements and management discussion for the parent company and ten subsidiary registrants, including Appalachian Power Company, Ohio Power Company, and AEP Texas Central Company.

Key Financial Metrics

Note: The decrease in Net Income was primarily driven by a $112 million decline in Utility Operations earnings, offset partially by a $60 million decrease in income tax expense.

Material Changes vs. Prior Period

• Utility Operations Earnings: Decreased $112 million to $253 million. Drivers included higher operation and maintenance expenses ($111 million increase), higher regulatory amortization, lower earnings-sharing payments from Centrica, and the elimination of SECA revenues. These were partially offset by higher retail margins due to new rates and favorable weather (increased heating degree days).
• MEMCO Operations: Earnings decreased from $21 million to $15 million due to a return to normal winter river operating conditions and lower spot market rates.
• Generation and Marketing: Shifted from a $4 million profit to a $1 million loss, primarily due to planned and forced outages at the Oklaunion plant.
• Acquisitions: Completed the acquisition of the 480 MW Darby Electric Generating Station in April 2007 for $102 million. Agreed to purchase the 1,096 MW Lawrenceburg Generating Station for approximately $325 million, expected to close in May 2007.
• Accounting Changes: Adopted FIN 48 ("Accounting for Uncertainty in Income Taxes") effective January 1, 2007, resulting in an unfavorable adjustment to retained earnings of $17 million.

Guidance, Outlook, and Risks

• Regulatory Outlook:
  • Texas (TCC/TNC): Pursuing base rate increases of $70 million and $22 million, respectively. A Texas District Court reversed a preliminary decision, concluding the "sale of assets" method for valuing nuclear plant stranded costs was appropriate, though appeals continue regarding carrying cost rates.
  • Virginia (APCo): A Hearing Examiner recommended a $76 million base rate increase (vs. $225 million requested). New legislation re-regulating generation rates is effective July 1, 2007, shortening the transition period to 2008.
  • Ohio (CSPCo/OPCo): Implemented rate increases subject to refund to recover government-mandated costs. A settlement agreement regarding Rate Stabilization Plans (RSPs) was adopted by the PUCO in May 2007.
• Investment Activity: Forecast approximately $2.6 billion in construction expenditures for the remainder of 2007, plus $427 million for announced gas-fired unit purchases. Major projects include Integrated Gasification Combined Cycle (IGCC) plants in Ohio and West Virginia.
• Key Risks:
  • Environmental Litigation: Ongoing New Source Review (NSR) litigation regarding coal-fired plant modifications. A U.S. Supreme Court ruling in April 2007 clarified EPA authority but did not resolve liability; a remedy trial is expected in Q3 2007.
  • SECA Revenues: Approximately $150 million of gross SECA revenues remain unsettled and subject to potential refund if an Administrative Law Judge's initial decision is upheld.
  • Enron/BOA Litigation: Disputes regarding the Bammel gas storage facility and indemnification obligations related to the 2001 HPL acquisition remain unresolved.

Investor Verification Checklist

• Regulatory Rate Cases: Verify the final outcomes of pending rate cases in Texas (TCC/TNC), Virginia (APCo), and Ohio (CSPCo/OPCo), as these significantly impact future revenue recovery.
• SECA Refund Liability: Monitor the FERC's final decision on the SECA rate design, which could require refunds of up to $126 million of unsettled revenues.
• Environmental Compliance Costs: Track the resolution of NSR litigation and the associated capital expenditures required for pollution control equipment.
• Acquisition Integration: Confirm the closing and integration of the Lawrenceburg Generating Station acquisition and the operational performance of the newly acquired Darby plant.
• Debt Covenants: Monitor the debt-to-capitalization ratio (currently 54.5% under contract definition) to ensure compliance with credit facility covenants (limit 67.5%).