American Electric Power Company, Inc. — Q2 2018 Form 10-Q
Business context and reporting period. AEP is an electric utility holding company with regulated generation, transmission and distribution businesses, alongside competitive generation and marketing. This combined, unaudited filing covers the quarter and six months ended June 30, 2018, and includes AEP and seven subsidiary registrants.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $4.013 billion | $3.577 billion | $8.062 billion | $7.510 billion |
| Operating income | $757 million | $733 million | $1.463 billion | $1.819 billion |
| Net income | $530 million | $376 million | $987 million | $970 million |
| Earnings attributable to AEP common shareholders | $528 million | $375 million | $983 million | $967 million |
| Diluted EPS | $1.07 | $0.76 | $1.99 | $1.96 |
| Operating cash flow | Not stated quarterly | Not stated quarterly | $2.007 billion | $1.717 billion |
- Revenue and earnings: Q2 revenue rose about 12% and common earnings rose about 41% year over year. Management attributed the earnings increase mainly to weather-related usage and favorable rate proceedings. Weather-normalized retail sales volume rose 2.0% in Q2 and 1.7% in the first half.
- Six-month comparison: Common earnings increased modestly despite lower operating income. The 2017 comparison included a $226 million pretax gain from merchant generation asset sales; no comparable gain was recorded in 2018.
- Margins and costs: AEP reports gross margin as a non-GAAP measure. Q2 gross margin increased in the Vertically Integrated and Transmission and Distribution segments, while Generation & Marketing gross margin was approximately flat. Higher depreciation, operating costs and interest expense weighed on results in parts of the business.
- Segment earnings, first half: Vertically Integrated Utilities $508 million (2017: $340 million); Transmission and Distribution Utilities $239 million ($230 million); AEP Transmission Holdco $205 million ($200 million); Generation & Marketing $57 million ($213 million); Corporate and Other loss $27 million (loss of $16 million).
- Cash flow and investment: First-half operating cash flow was $2.007 billion. Investing activities used $3.239 billion, including $3.223 billion of construction expenditures. Financing activities provided $1.207 billion. Cash, cash equivalents and restricted cash ended at $387 million; unrestricted cash and cash equivalents were $211 million.
- Debt and liquidity: At June 30, total debt was $24.621 billion, up from $22.812 billion at year-end 2017; debt was 56.8% of total capitalization, versus 55.5%. Net available liquidity under the revolving facility and cash was approximately $1.397 billion. A separate $750 million receivables securitization commitment expires June 2019.
- Dividend: AEP declared a quarterly dividend of $0.62 per share in July 2018, compared with $0.59 in Q2 2017. Management said future dividends depend on earnings, cash flow, capital needs and other conditions.
Material changes, outlook and risks
- Tax reform: The federal corporate tax rate fell from 35% to 21%, materially reducing reported income tax expense. AEP recorded estimated revenue-refund provisions totaling $144 million related to tax-rate changes. It reported approximately $4.4 billion of Excess ADIT and an associated incremental $1.2 billion liability; customer-refund mechanisms and timing remain jurisdiction-dependent. Management expects lower future cash flows from tax reform effects, but did not expect a material future net-income impact.
- Capital program: Management forecast approximately $24 billion of construction expenditures for 2018–2021, excluding Wind Catcher, funded through operating cash flow and financing. Estimates remain subject to regulatory, environmental, market and other changes.
- Wind Catcher: The proposed approximately $4.5 billion project comprises about 2,000 MW of wind generation and a 350-mile transmission tie-line. Arkansas and Louisiana approved SWEPCo’s participation; Oklahoma and Texas decisions remained pending in the filing’s discussion. Oklahoma’s administrative law judge recommended denial of PSO’s preapproval request. Regulatory decisions and cost recovery are key uncertainties.
- Hurricane Harvey: AEP Texas estimated total storm costs of $325–$375 million, including capital expenditures. By June 30, it had recorded $121 million of storm expenses as a regulatory asset and $199 million of capital expenditures, and received $10 million of insurance proceeds. Recovery and additional insurance remain uncertain; management planned to seek securitization.
- Regulatory and legal exposure: Pending matters include FERC challenges to transmission returns in PJM and SPP, Ohio’s 2016 significantly excessive earnings review, and appeals relating to SWEPCo’s recovery of Turk Plant costs. The PJM transmission settlement included an interim $50 million customer refund; the final FERC decision was pending. Failure to recover regulated investments or costs could harm earnings, cash flow and financial condition.
- Generation and environmental obligations: Management continued reviewing alternatives for merchant coal assets and warned that a sale, transfer or wind-down could cause additional losses. Environmental compliance investment was estimated at $650 million–$1.5 billion through 2025. AEP also cited nuclear fuel and decommissioning obligations and risks from evolving emissions and waste rules.
- Other unusual items: AEP recorded a $21 million pretax impairment related to an equity investee that ceased operations. AEPTCo recorded a $17 million out-of-period transmission revenue correction, which management said was not material to current or previously issued financial statements. The 2011–2015 federal tax audit settlement reversed a $72 million unrecognized tax benefit and was not material to results.
- Outlook: The filing provides construction-spending estimates and project expectations, but the supplied text does not provide a clear numerical full-year earnings or EPS guidance target.
Important facts for investors to verify
- Progress and final cost-recovery approvals for Wind Catcher, especially pending Oklahoma and Texas decisions.
- FERC outcomes on PJM and SPP transmission returns, refunds and formula rates.
- Whether AEP Texas recovers Hurricane Harvey costs through insurance and securitization, and the final storm-cost total.
- Timing and amount of tax-reform customer refunds and Excess ADIT returns, and their effects on cash flow.
- Execution, funding and recoverability of the planned construction program, including environmental investments and generation projects.
- Resolution of the Turk Plant prudence appeal and Ohio’s 2016 earnings review, as well as any resulting customer refunds or disallowances.
- Changes in debt, short-term borrowing and available liquidity as capital spending continues.