AEP

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended September 30, 1997, for American Electric Power Company, Inc. (AEP) and its operating subsidiaries: AEP Generating Company, Appalachian Power Company, Columbus Southern Power Company, Indiana Michigan Power Company, Kentucky Power Company, and Ohio Power Company. AEP is a holding company for electric utility subsidiaries operating primarily in the Midwest and Southeastern United States. The filing includes consolidated financial statements and separate reports for each subsidiary.

Key Financial Metrics (Consolidated)

All figures in thousands, except per-share amounts.

Material Changes vs. Prior Period

• Net Income Decline: Consolidated net income decreased $71.1 million (44%) for the quarter and $70.1 million (15%) year-to-date compared to 1996. This decline is primarily driven by an extraordinary loss of $110.6 million related to a U.K. windfall tax on the Yorkshire Electricity Group plc investment.
• Revenue Growth: Operating revenues increased 7% for the quarter and 1% year-to-date. This was driven by a 43% increase in wholesale sales due to new power marketing transactions initiated in July 1997, offset by flat retail revenues due to rate decreases and mild weather.
• Expense Increases: Fuel and purchased power expenses rose 26% for the quarter and 7% year-to-date, largely due to increased electricity purchases for power marketing and higher coal-fired generation following the shutdown of the Cook Nuclear Plant units in September.
• Nonoperating Income: Nonoperating income surged $29.2 million for the quarter, reflecting earnings from the Yorkshire Electricity investment (excluding the windfall tax) and nonrecurring tax benefits.
• Capital Structure: The company redeemed over 4.2 million shares of cumulative preferred stock during the first nine months of 1997, reducing preferred dividend requirements by 73% for the quarter.

Guidance, Outlook, Risks, and Unusual Items

• Extraordinary Loss (U.K. Windfall Tax): A one-time tax of approximately $221 million was imposed by the British government on Yorkshire Electricity Group plc. AEP's 50% share ($110.6 million) is recorded as an extraordinary loss. The liability is payable in two installments.
• Cook Nuclear Plant Shutdown: Units 1 and 2 of the Cook Nuclear Plant were shut down in September 1997 following an NRC inspection regarding safety system documentation. Management cannot currently estimate the return-to-service date, posing a risk to operations and financial condition if the outage is prolonged.
• Revised Air Quality Standards: The EPA published revised ozone and fine particulate matter standards in July 1997. AEP is appealing these standards. Compliance costs are currently unestimable but could have a material adverse effect if significant and unrecoverable.
• IRS COLI Audit: The IRS is reviewing interest deductions related to Corporate Owned Life Insurance (COLI) for 1991-1993. A disallowance could reduce earnings by approximately $276 million (consolidated) inclusive of interest. Management intends to contest this vigorously.
• Joint Ventures: In October 1997, AEP and Conoco signed a letter of intent to form joint ventures for energy management and capital, targeting approximately $1 billion in industrial energy assets.

Investor Verification Checklist

• Extraordinary Tax Impact: Verify the final settlement amount and payment schedule for the U.K. windfall tax liability.
• Cook Plant Status: Monitor NRC communications for the expected return-to-service date for Cook Nuclear Plant Units 1 and 2.
• Regulatory Appeals: Track the outcome of the appeal regarding the EPA's revised air quality standards and potential compliance cost estimates.
• Tax Contingency: Review updates on the IRS audit regarding COLI interest deductions and the potential $276 million exposure.
• Wholesale Market Exposure: Assess the sustainability of revenue growth from new power marketing transactions outside the AEP transmission system.