AEP 2014 3Q 10Q


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Quarterly Period Ended September 30, 2014
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Transition Period from ____ to ____
Commission
 
Registrants; States of Incorporation;
 
I.R.S. Employer
File Number
 
Address and Telephone Number
 
Identification Nos.
 
 
 
 
 
1-3525
 
AMERICAN ELECTRIC POWER COMPANY, INC. (A New York Corporation)
 
13-4922640
1-3457
 
APPALACHIAN POWER COMPANY (A Virginia Corporation)
 
54-0124790
1-3570
 
INDIANA MICHIGAN POWER COMPANY (An Indiana Corporation)
 
35-0410455
1-6543
 
OHIO POWER COMPANY (An Ohio Corporation)
 
31-4271000
0-343
 
PUBLIC SERVICE COMPANY OF OKLAHOMA (An Oklahoma Corporation)
 
73-0410895
1-3146
 
SOUTHWESTERN ELECTRIC POWER COMPANY (A Delaware Corporation)
 
72-0323455
 
 
1 Riverside Plaza, Columbus, Ohio 43215-2373
 
 
 
 
Telephone (614) 716-1000
 
 
Indicate by check mark whether the registrants (1) have filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrants were required to file such reports), and (2) have been subject to such filing requirements for the past 90 days.
 
 
 
 
 
 
Yes
X
 
No
 
 
Indicate by check mark whether the registrants have submitted electronically and posted on their corporate websites, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrants were required to submit and post such files).
 
 
 
 
 
 
Yes
X
 
No
 
 
Indicate by check mark whether American Electric Power Company, Inc. is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
X
 
Accelerated filer
 
 
 
 
 
 
 
 
Non-accelerated filer
 
 
Smaller reporting company
 
 
Indicate by check mark whether Appalachian Power Company, Indiana Michigan Power Company, Ohio Power Company, Public Service Company of Oklahoma and Southwestern Electric Power Company are large accelerated filers, accelerated filers, non-accelerated filers or smaller reporting companies.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
 
 
Accelerated filer
 
 
 
 
 
 
 
 
Non-accelerated filer
X
 
Smaller reporting company
 
 
Indicate by check mark whether the registrants are shell companies (as defined in Rule 12b-2 of the Exchange Act).
 
 
 
 
 
 
Yes
 
 
No
X
 
Appalachian Power Company, Indiana Michigan Power Company, Ohio Power Company, Public Service Company of Oklahoma and Southwestern Electric Power Company meet the conditions set forth in General Instruction H(1)(a) and (b) of Form 10-Q and are therefore filing this Form 10-Q with the reduced disclosure format specified in General Instruction H(2) to Form 10-Q.





 
Number of shares
of common stock
outstanding of the
registrants as of
 
October 23, 2014
 
 
American Electric Power Company, Inc.
489,240,481

 
($6.50 par value)

Appalachian Power Company
13,499,500

 
(no par value)

Indiana Michigan Power Company
1,400,000

 
(no par value)

Ohio Power Company
27,952,473

 
(no par value)

Public Service Company of Oklahoma
9,013,000

 
($15 par value)

Southwestern Electric Power Company
7,536,640

 
($18 par value)





AMERICAN ELECTRIC POWER COMPANY, INC. AND SUBSIDIARY COMPANIES
INDEX OF QUARTERLY REPORTS ON FORM 10-Q
September 30, 2014
 
 
 
 
 
 
 
 
 
Page
 
 
 
 
Number
Glossary of Terms
 
 
 
 
 
Forward-Looking Information
 
 
 
 
 
Part I. FINANCIAL INFORMATION
 
 
 
 
 
 
 
Items 1, 2, 3 and 4 - Financial Statements, Management’s Discussion and Analysis of Financial Condition and Results of Operations, Quantitative and Qualitative Disclosures About Market Risk, and Controls and Procedures:
 
 
 
 
 
 
American Electric Power Company, Inc. and Subsidiary Companies:
 
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
Condensed Consolidated Financial Statements
 
Index of Condensed Notes to Condensed Consolidated Financial Statements
 
 
 
 
 
Appalachian Power Company and Subsidiaries:
 
 
Management’s Narrative Discussion and Analysis of Results of Operations
 
Condensed Consolidated Financial Statements
 
Index of Condensed Notes to Condensed Financial Statements of Registrant Subsidiaries
 
 
 
 
 
Indiana Michigan Power Company and Subsidiaries:
 
 
Management’s Narrative Discussion and Analysis of Results of Operations
 
Condensed Consolidated Financial Statements
 
Index of Condensed Notes to Condensed Financial Statements of Registrant Subsidiaries
 
 
 
 
 
Ohio Power Company and Subsidiaries:
 
 
Management’s Narrative Discussion and Analysis of Results of Operations
 
Condensed Consolidated Financial Statements
 
Index of Condensed Notes to Condensed Financial Statements of Registrant Subsidiaries
 
 
 
 
 
Public Service Company of Oklahoma:
 
 
Management’s Narrative Discussion and Analysis of Results of Operations
 
Condensed Financial Statements
 
Index of Condensed Notes to Condensed Financial Statements of Registrant Subsidiaries
 
 
 
 
 
Southwestern Electric Power Company Consolidated:
 
 
Management’s Narrative Discussion and Analysis of Results of Operations
 
Condensed Consolidated Financial Statements
 
Index of Condensed Notes to Condensed Financial Statements of Registrant Subsidiaries
 
 
 
 
 
Index of Condensed Notes to Condensed Financial Statements of Registrant Subsidiaries
 
 
 
 
 
Combined Management’s Narrative Discussion and Analysis of Registrant Subsidiaries
 
 
 
 
 
Controls and Procedures




 
 
 
 
 
Part II.  OTHER INFORMATION
 
 
 
 
 
 
 
Item 1.
  Legal Proceedings
 
Item 1A.
  Risk Factors
 
Item 2.
  Unregistered Sales of Equity Securities and Use of Proceeds
 
Item 4.
  Mine Safety Disclosures
 
Item 5.
  Other Information
 
Item 6.
  Exhibits:
 
 
 
Exhibit 12
 
 
 
 
Exhibit 31(a)
 
 
 
 
Exhibit 31(b)
 
 
 
 
Exhibit 32(a)
 
 
 
 
Exhibit 32(b)
 
 
 
 
Exhibit 95
 
 
 
 
Exhibit 101.INS
 
 
 
 
Exhibit 101.SCH
 
 
 
 
Exhibit 101.CAL
 
 
 
 
Exhibit 101.DEF
 
 
 
 
Exhibit 101.LAB
 
 
 
 
Exhibit 101.PRE
 
 
 
 
 
 
SIGNATURE
 
 
 
 
 
 
 
 
 
 
 
 
This combined Form 10-Q is separately filed by American Electric Power Company, Inc., Appalachian Power Company, Indiana Michigan Power Company, Ohio Power Company, Public Service Company of Oklahoma and Southwestern Electric Power Company.  Information contained herein relating to any individual registrant is filed by such registrant on its own behalf. Each registrant makes no representation as to information relating to the other registrants.




GLOSSARY OF TERMS

When the following terms and abbreviations appear in the text of this report, they have the meanings indicated below.
Term
 
Meaning
 
 
 
AEGCo
 
AEP Generating Company, an AEP electric utility subsidiary.
AEP or Parent
 
American Electric Power Company, Inc., an electric utility holding company.
AEP Consolidated
 
AEP and its majority owned consolidated subsidiaries and consolidated affiliates.
AEP Credit
 
AEP Credit, Inc., a consolidated variable interest entity of AEP which securitizes accounts receivable and accrued utility revenues for affiliated electric utility companies.
AEP East Companies
 
APCo, I&M, KPCo and OPCo.
AEP Energy
 
AEP Energy, Inc., a wholly-owned retail electric supplier for customers in Ohio, Illinois and other deregulated electricity markets throughout the United States.
AEP System
 
American Electric Power System, an electric system, owned and operated by AEP subsidiaries.
AEP Transmission Holdco
 
AEP Transmission Holding Company, LLC, a wholly-owned subsidiary of AEP.
AEPSC
 
American Electric Power Service Corporation, an AEP service subsidiary providing management and professional services to AEP and its subsidiaries.
AEPTCo
 
AEP Transmission Company, LLC, a subsidiary of AEP Transmission Holdco and an intermediate holding company that owns seven wholly-owned transmission companies.
AGR
 
AEP Generation Resources Inc., a nonregulated AEP subsidiary in the Generation & Marketing segment.
AFUDC
 
Allowance for Funds Used During Construction.
AOCI
 
Accumulated Other Comprehensive Income.
APCo
 
Appalachian Power Company, an AEP electric utility subsidiary.
Appalachian Consumer Rate Relief Funding
 
Appalachian Consumer Rate Relief Funding LLC, a wholly-owned subsidiary of APCo and a consolidated variable interest entity formed for the purpose of issuing and servicing securitization bonds related to the under-recovered ENEC deferral balance.
ASU
 
Accounting Standards Update.
CAA
 
Clean Air Act.
CLECO
 
Central Louisiana Electric Company, a nonaffiliated utility company.
CO2
 
Carbon dioxide and other greenhouse gases.
Cook Plant
 
Donald C. Cook Nuclear Plant, a two-unit, 2,191 MW nuclear plant owned by I&M.
CRES provider
 
Competitive Retail Electric Service providers under Ohio law that target retail customers by offering alternative generation service.
CSPCo
 
Columbus Southern Power Company, a former AEP electric utility subsidiary that was merged into OPCo effective December 31, 2011.
CWIP
 
Construction Work in Progress.
DCC Fuel
 
DCC Fuel II LLC, DCC Fuel IV LLC, DCC Fuel V LLC and DCC Fuel VI LLC, consolidated variable interest entities formed for the purpose of acquiring, owning and leasing nuclear fuel to I&M.
DHLC
 
Dolet Hills Lignite Company, LLC, a wholly-owned lignite mining subsidiary of SWEPCo.
EIS
 
Energy Insurance Services, Inc., a nonaffiliated captive insurance company and consolidated variable interest entity of AEP.
ENEC
 
Expanded Net Energy Charge.
Energy Supply
 
AEP Energy Supply LLC, a nonregulated holding company for AEP’s competitive generation, wholesale and retail businesses, and a wholly-owned subsidiary of AEP.
ERCOT
 
Electric Reliability Council of Texas regional transmission organization.
ESP
 
Electric Security Plans, a PUCO requirement for electric utilities to adjust their rates by filing with the PUCO.

i



Term
 
Meaning
 
 
 
ETT
 
Electric Transmission Texas, LLC, an equity interest joint venture between AEP and Berkshire Hathaway Energy Company formed to own and operate electric transmission facilities in ERCOT.
FAC
 
Fuel Adjustment Clause.
FASB
 
Financial Accounting Standards Board.
Federal EPA
 
United States Environmental Protection Agency.
FERC
 
Federal Energy Regulatory Commission.
FGD
 
Flue Gas Desulfurization or scrubbers.
FTR
 
Financial Transmission Right, a financial instrument that entitles the holder to receive compensation for certain congestion-related transmission charges that arise when the power grid is congested resulting in differences in locational prices.
GAAP
 
Accounting Principles Generally Accepted in the United States of America.
I&M
 
Indiana Michigan Power Company, an AEP electric utility subsidiary.
IEU
 
Industrial Energy Users-Ohio.
IGCC
 
Integrated Gasification Combined Cycle, technology that turns coal into a cleaner-burning gas.
Interconnection Agreement
 
An agreement by and among APCo, I&M, KPCo and OPCo, which defined the sharing of costs and benefits associated with their respective generation plants. This agreement was terminated January 1, 2014.
IRS
 
Internal Revenue Service.
IURC
 
Indiana Utility Regulatory Commission.
KGPCo
 
Kingsport Power Company, an AEP electric utility subsidiary.
KPCo
 
Kentucky Power Company, an AEP electric utility subsidiary.
KPSC
 
Kentucky Public Service Commission.
KWh
 
Kilowatthour.
LPSC
 
Louisiana Public Service Commission.
MISO
 
Midwest Independent Transmission System Operator.
MMBtu
 
Million British Thermal Units.
MPSC
 
Michigan Public Service Commission.
MTM
 
Mark-to-Market.
MW
 
Megawatt.
MWh
 
Megawatthour.
NOx
 
Nitrogen oxide.
Nonutility Money Pool
 
Centralized funding mechanism AEP uses to meet the short-term cash requirements of certain nonutility subsidiaries.
NSR
 
New Source Review.
OCC
 
Corporation Commission of the State of Oklahoma.
Ohio Phase-in-Recovery Funding
 
Ohio Phase-in-Recovery Funding LLC, a wholly-owned subsidiary of OPCo and a consolidated variable interest entity formed for the purpose of issuing and servicing securitization bonds related to phase-in recovery property.
OPCo
 
Ohio Power Company, an AEP electric utility subsidiary.
OPEB
 
Other Postretirement Benefit Plans.
Operating Agreement
 
Agreement, dated January 1, 1997, as amended, by and among PSO and SWEPCo governing generating capacity allocation, energy pricing, and revenues and costs of third party sales. AEPSC acts as the agent.
OTC
 
Over the counter.
OVEC
 
Ohio Valley Electric Corporation, which is 43.47% owned by AEP.
PIRR
 
Phase-In Recovery Rider.
PJM
 
Pennsylvania – New Jersey – Maryland regional transmission organization.
PM
 
Particulate Matter.
POLR
 
Provider of Last Resort revenues.
PSO
 
Public Service Company of Oklahoma, an AEP electric utility subsidiary.
PUCO
 
Public Utilities Commission of Ohio.
PUCT
 
Public Utility Commission of Texas.

ii



Term
 
Meaning
 
 
 
Registrant Subsidiaries
 
AEP subsidiaries which are SEC registrants; APCo, I&M, OPCo, PSO and SWEPCo.
Risk Management Contracts
 
Trading and nontrading derivatives, including those derivatives designated as cash flow and fair value hedges.
Rockport Plant
 
A generation plant, consisting of two 1,310 MW coal-fired generating units near Rockport, Indiana.  AEGCo and I&M jointly-own Unit 1.  In 1989, AEGCo and I&M entered into a sale-and-leaseback transaction with Wilmington Trust Company, an unrelated, unconsolidated trustee for Rockport Plant, Unit 2.
RPM
 
Reliability Pricing Model.
RSR
 
Retail Stability Rider.
RTO
 
Regional Transmission Organization, responsible for moving electricity over large interstate areas.
Sabine
 
Sabine Mining Company, a lignite mining company that is a consolidated variable interest entity for AEP and SWEPCo.
SEC
 
U.S. Securities and Exchange Commission.
SEET
 
Significantly Excessive Earnings Test.
SIA
 
System Integration Agreement, effective June 15, 2000, as amended, provides contractual basis for coordinated planning, operation and maintenance of the power supply sources of the combined AEP.
SNF
 
Spent Nuclear Fuel.
SO2
 
Sulfur dioxide.
SPP
 
Southwest Power Pool regional transmission organization.
SSO
 
Standard service offer.
Stall Unit
 
J. Lamar Stall Unit at Arsenal Hill Plant, a 534 MW natural gas unit owned by SWEPCo.
SWEPCo
 
Southwestern Electric Power Company, an AEP electric utility subsidiary.
TCC
 
AEP Texas Central Company, an AEP electric utility subsidiary.
Texas Restructuring Legislation
 
Legislation enacted in 1999 to restructure the electric utility industry in Texas.
TNC
 
AEP Texas North Company, an AEP electric utility subsidiary.
Transition Funding
 
AEP Texas Central Transition Funding I LLC, AEP Texas Central Transition Funding II LLC and AEP Texas Central Transition Funding III LLC, wholly-owned subsidiaries of TCC and consolidated variable interest entities formed for the purpose of issuing and servicing securitization bonds related to Texas Restructuring Legislation.
Transource Energy
 
Transource Energy, LLC, a consolidated variable interest entity formed for the purpose of investing in utilities which develop, acquire, construct, own and operate transmission facilities in accordance with FERC-approved rates.
Transource Missouri
 
A 100% wholly-owned subsidiary of Transource Energy.
Turk Plant
 
John W. Turk, Jr. Plant, a 600 MW coal-fired plant in Arkansas that is 73% owned by SWEPCo.
Utility Money Pool
 
Centralized funding mechanism AEP uses to meet the short-term cash requirements of certain utility subsidiaries.
VIE
 
Variable Interest Entity.
Virginia SCC
 
Virginia State Corporation Commission.
WPCo
 
Wheeling Power Company, an AEP electric utility subsidiary.
WVPSC
 
Public Service Commission of West Virginia.
 

iii



FORWARD-LOOKING INFORMATION

This report made by AEP and its Registrant Subsidiaries contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934.  Many forward-looking statements appear in “Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the 2013 Annual Report, but there are others throughout this document which may be identified by words such as “expect,” “anticipate,” “intend,” “plan,” “believe,” “will,” “should,” “could,” “would,” “project,” “continue” and similar expressions, and include statements reflecting future results or guidance and statements of outlook.  These matters are subject to risks and uncertainties that could cause actual results to differ materially from those projected.  Forward-looking statements in this document are presented as of the date of this document.  Except to the extent required by applicable law, we undertake no obligation to update or revise any forward-looking statement.  Among the factors that could cause actual results to differ materially from those in the forward-looking statements are:
Ÿ
The economic climate, growth or contraction within and changes in market demand and demographic patterns in our service territory.
Ÿ
Inflationary or deflationary interest rate trends.
Ÿ
Volatility in the financial markets, particularly developments affecting the availability of capital on reasonable terms and developments impairing our ability to finance new capital projects and refinance existing debt at attractive rates.
Ÿ
The availability and cost of funds to finance working capital and capital needs, particularly during periods when the time lag between incurring costs and recovery is long and the costs are material.
Ÿ
Electric load, customer growth and the impact of retail competition.
Ÿ
Weather conditions, including storms and drought conditions, and our ability to recover significant storm restoration costs.
Ÿ
Available sources and costs of, and transportation for, fuels and the creditworthiness and performance of fuel suppliers and transporters.
Ÿ
Availability of necessary generation capacity and the performance of our generation plants.
Ÿ
Our ability to recover increases in fuel and other energy costs through regulated or competitive electric rates.
Ÿ
Our ability to build or acquire generation capacity and transmission lines and facilities (including our ability to obtain any necessary regulatory approvals and permits) when needed at acceptable prices and terms and to recover those costs.
Ÿ
New legislation, litigation and government regulation, including oversight of nuclear generation, energy commodity trading and new or heightened requirements for reduced emissions of sulfur, nitrogen, mercury, carbon, soot or particulate matter and other substances or additional regulation of fly ash and similar combustion products that could impact the continued operation, cost recovery and/or profitability of our generation plants and related assets.
Ÿ
Evolving public perception of the risks associated with fuels used before, during and after the generation of electricity, including nuclear fuel.
Ÿ
A reduction in the federal statutory tax rate could result in an accelerated return of deferred federal income taxes to customers.
Ÿ
Timing and resolution of pending and future rate cases, negotiations and other regulatory decisions, including rate or other recovery of new investments in generation, distribution and transmission service and environmental compliance.
Ÿ
Resolution of litigation.
Ÿ
Our ability to constrain operation and maintenance costs.
Ÿ
Our ability to develop and execute a strategy based on a view regarding prices of electricity and other energy-related commodities.
Ÿ
Prices and demand for power that we generate and sell at wholesale.
Ÿ
Changes in technology, particularly with respect to new, developing, alternative or distributed sources of generation.
Ÿ
Our ability to recover through rates or market prices any remaining unrecovered investment in generation units that may be retired before the end of their previously projected useful lives.

iv



Ÿ
Volatility and changes in markets for capacity and electricity, coal and other energy-related commodities, particularly changes in the price of natural gas.
Ÿ
Changes in utility regulation and the allocation of costs within regional transmission organizations, including ERCOT, PJM and SPP.
Ÿ
The transition to market for generation in Ohio, including the implementation of ESPs.
Ÿ
Our ability to successfully and profitably manage our separate competitive generation assets.
Ÿ
Changes in the creditworthiness of the counterparties with whom we have contractual arrangements, including participants in the energy trading market.
Ÿ
Actions of rating agencies, including changes in the ratings of our debt.
Ÿ
The impact of volatility in the capital markets on the value of the investments held by our pension, other postretirement benefit plans, captive insurance entity and nuclear decommissioning trust and the impact of such volatility on future funding requirements.
Ÿ
Accounting pronouncements periodically issued by accounting standard-setting bodies.
Ÿ
Other risks and unforeseen events, including wars, the effects of terrorism (including increased security costs), embargoes, cyber security threats and other catastrophic events.
The forward looking statements of AEP and its Registrant Subsidiaries speak only as of the date of this report or as of the date they are made.  AEP and its Registrant Subsidiaries expressly disclaim any obligation to update any forward-looking information.  For a more detailed discussion of these factors, see “Risk Factors” in Part I of the 2013 Annual Report and in Part II of this report.



v





AMERICAN ELECTRIC POWER COMPANY, INC. AND SUBSIDIARY COMPANIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS


EXECUTIVE OVERVIEW

Customer Demand

In comparison to 2013, heating degree days for the nine months ended September 30, 2014 were up 32% in our western region and 20% in our eastern region while cooling degree days were down 7% for the same period in both the eastern and western regions. Our weather-normalized retail sales volumes for the third quarter of 2014 increased by 0.1% from their levels for the third quarter of 2013 and increased by 0.4% for the first nine months of 2014 from their levels for the first nine months of 2013. In comparison to 2013, our industrial sales volume increased 1.2% for the three months ended September 30, 2014 and decreased 0.7% for the nine months ended September 30, 2014. The decrease in industrial sales volume is due mainly to the closure of Ormet, a large aluminum company. Excluding Ormet, our nine months ended September 30, 2014 industrial sales volumes increased 3.8% over the nine months ended September 30, 2013.

Ohio Electric Security Plan Filings

2009 - 2011 ESP

In August 2012, the PUCO issued an order in a separate proceeding which implemented a PIRR to recover OPCo’s deferred fuel costs in rates beginning September 2012. As of September 30, 2014, OPCo’s net deferred fuel balance was $395 million, excluding unrecognized equity carrying costs. Decisions from the Supreme Court of Ohio are pending related to various appeals which, if ordered, could reduce OPCo’s net deferred fuel costs balance up to the full amount.
 
June 2012 - May 2015 Ohio ESP Including Capacity Charge

In August 2012, the PUCO issued an order which adopted and modified a new ESP that establishes base generation rates through May 2015. This ruling was generally upheld in PUCO rehearing orders in January and March 2013.

In July 2012, the PUCO issued an order in a separate capacity proceeding which stated that OPCo must charge CRES providers the RPM price and authorized OPCo to defer a portion of its incurred capacity costs not recovered from CRES providers up to $188.88/MW day. The OPCo RPM price collected from CRES providers, which includes reserve margins, was approximately $34/MW day through May 2014 and is $150/MW day from June 2014 through May 2015. In December 2012, various parties filed notices of appeal of the capacity costs decision with the Supreme Court of Ohio.

As part of the August 2012 ESP order, the PUCO established a non-bypassable RSR, effective September 2012. The RSR was collected from customers at $3.50/MWh through May 2014 and is currently collected at $4.00/MWh for the period June 2014 through May 2015, with $1.00/MWh applied to the recovery of deferred capacity costs. In April and May 2013, OPCo and various intervenors filed appeals with the Supreme Court of Ohio challenging portions of the PUCO’s ESP order, including the RSR. As of September 30, 2014, OPCo’s incurred deferred capacity costs balance was $409 million, including debt carrying costs.


1



In November 2013, the PUCO issued an order approving OPCo’s competitive bid process with modifications. The modifications include the delay of the energy auctions that were originally ordered in the ESP order. In February 2014, OPCo conducted an energy-only auction for 10% of the SSO load with delivery beginning April 2014 through May 2015. In May and September 2014, OPCo conducted energy-only auctions for an additional 50% of the SSO load with delivery beginning November 2014 through May 2015. The PUCO also ordered OPCo to conduct energy-only auctions for the remaining 40% of the SSO load for delivery from January 2015 through May 2015. OPCo will conduct energy and capacity auctions for its entire SSO load for delivery starting in June 2015. The PUCO also approved the unbundling of the FAC into fixed and energy-related components and an intervenor proposal to blend the $188.88/MW day capacity price in proportion to the percentage of energy planned to be auctioned. Additionally, the PUCO ordered that intervenor concerns related to the recovery of the fixed fuel costs through potentially both the FAC and the approved capacity charges be addressed in subsequent FAC proceedings. Management believes that these intervenor concerns are without merit. In January 2014, the PUCO denied all rehearing requests and agreed to issue a supplemental request for an independent auditor in the 2012 - 2013 FAC proceeding to separately examine the recovery of the fixed fuel costs, including OVEC. In March 2014, the PUCO approved OPCo’s request to implement riders related to the unbundling of the FAC. In May 2014, an independent auditor was selected by the PUCO and an audit of the recovery of the fixed fuel costs began in June 2014. In October 2014, the independent auditor filed its report for the period August 2012 through May 2015 with the PUCO. If the PUCO ultimately concludes that a portion of the fixed fuel costs are also recovered through OPCo's $188.88 capacity charge, the independent auditor recommends a methodology for calculating a refund of a portion of certain fixed fuel costs. The retail share of these fixed fuel costs is approximately $90 million annually. A hearing related to this matter has not been scheduled. Management believes that no over-recovery of costs has occurred and intends to oppose the findings in the audit report.

If OPCo is ultimately not permitted to fully collect its ESP rates, including the RSR, its deferred fuel balance and its deferred capacity cost, it could reduce future net income and cash flows and impact financial condition.

Proposed June 2015 - May 2018 ESP

In December 2013, OPCo filed an application with the PUCO to approve an ESP that includes proposed rate adjustments and the continuation and modification of certain existing riders effective June 2015 through May 2018. The proposal includes a recommended auction schedule, a return on common equity of 10.65% on capital costs for certain riders and estimates an average decrease in rates of 9% over the three-year term of the plan for customers who receive their RPM capacity and energy auction-based generation through OPCo. The proposal also includes a purchased power agreement (PPA) rider that would allow retail customers to receive a rate stabilizing charge or credit by hedging market-based prices with a cost-based purchase power agreement. In May 2014, intervenors and the PUCO staff filed testimony that provided various recommendations including the rejection and/or modification of various riders, including the Distribution Investment Rider and the proposed PPA. Hearings at the PUCO in the ESP case were held in June 2014. Additionally, in July 2014, OPCo submitted a separate application to continue the RSR established in the June 2012 - May 2015 ESP to collect the unrecovered portion of the deferred capacity costs at the rate of $4.00/MWh until the balance of the capacity deferrals has been collected. In October 2014, OPCo filed a separate application with the PUCO to propose a new PPA for inclusion in the PPA rider, discussed above. The new PPA would include an additional 2,671 MW to be purchased from AGR over the life of the respective generating units.

If OPCo is ultimately not permitted to fully collect its ESP rates, including the RSR, its deferred capacity cost and its proposed PPA rider, it could reduce future net income and cash flows and impact financial condition. See “Ohio Electric Security Plan Filings” section of Note 4.

2012 Texas Base Rate Case

Upon rehearing in January 2014, the PUCT reversed its initial ruling and determined that AFUDC was excluded from the Turk Plant’s Texas jurisdictional capital cost cap.  As a result, in the fourth quarter of 2013, SWEPCo reversed $114 million of previously recorded regulatory disallowances.  The resulting annual base rate increase is approximately $52 million.  In May 2014, intervenors filed appeals of the order with the Texas District Court.  In June 2014, SWEPCo intervened in those appeals and filed initial responses.  If certain parts of the PUCT order are overturned it could reduce future net income and cash flows and impact financial condition.  See the “2012 Texas Base Rate Case” section of Note 4.

2




2012 Louisiana Formula Rate Filing

In 2012, SWEPCo initiated a proceeding to establish new formula base rates in Louisiana, including recovery of the Louisiana jurisdictional share of the Turk Plant. In February 2013, a settlement was approved by the LPSC that increased Louisiana total rates by approximately $2 million annually, effective March 2013. The March 2013 base rates are based upon a 10% return on common equity and cost recovery of the Louisiana jurisdictional share of the Turk Plant and Stall Unit, subject to refund. The settlement also provided that the LPSC will review base rates in 2014 and 2015 and that SWEPCo will recover non-fuel Turk Plant costs and a full weighted-average cost of capital return on the prudently incurred Turk Plant investment in jurisdictional rate base, effective January 2013. If the LPSC orders refunds based upon the pending staff review of the cost of service or the prudence review of the Turk Plant, it could reduce future net income and cash flows and impact financial condition. See the “2012 Louisiana Formula Rate Filing” section of Note 4.

2014 Oklahoma Base Rate Case

In January 2014, PSO filed a request with the OCC to increase annual base rates by $38 million, based upon a 10.5% return on common equity. This revenue increase includes a proposed increase in depreciation rates of $29 million. In addition, the filing proposed recovery of advanced metering costs through a separate rider over a three-year deployment period requesting $7 million of revenues in year one, increasing to $28 million in year three. The filing also proposed expansion of an existing transmission rider currently recovered in base rates to include additional transmission-related costs that are expected to increase over the next several years.

In June 2014, a non-unanimous stipulation agreement between PSO, the OCC staff and certain intervenors was filed with the OCC. The parties to the stipulation recommended no overall change to the transmission rider or to annual revenues, other than additional revenues through a separate rider related to advanced metering costs, and that the terms of the stipulation be effective November 2014. The advanced metering rider would provide $7 million of revenues in 2014 and increase to $27 million in 2016. New depreciation rates are recommended for advanced metering investments and existing meters, also to be effective November 2014. Additionally, the stipulation recommends recovery of regulatory assets for 2013 storms and regulatory case expenses. In July 2014, the Attorney General joined in the stipulation agreement. A hearing at the OCC was held in July 2014. An order is anticipated in the fourth quarter of 2014. If the OCC were to disallow any portion of this settlement agreement, it could reduce future net income and cash flows and impact financial condition. See the “2014 Oklahoma Base Rate Case” section of Note 4.

2014 Virginia Biennial Base Rate Case

In March 2014, APCo filed a biennial generation and distribution base rate case with the Virginia SCC. In accordance with a Virginia statute, APCo did not request an increase in base rates as its Virginia retail combined rate of return on common equity for 2012 and 2013 is within the statutory range of the approved return on common equity of 10.9%. The filing included a request to decrease generation depreciation rates, effective February 2015, primarily due to the change in the expected service life of certain plants. Additionally, the filing included a request to amortize $7 million annually for two years, beginning February 2015, related to IGCC and other deferred costs.

In August 2014, the Virginia SCC staff and intervenors filed testimony concluding that APCo's adjusted earned rate of return on common equity for 2012 and 2013, reflecting their recommended adjustments, was above the allowed threshold. Recommendations included (a) refunds to customers ranging from $15 million to $22 million, (b) the write-off of certain APCo assets, including IGCC pre-construction costs and previously approved 2009 storm costs, totaling $27 million and (c) $38 million in increased depreciation expense annually, retroactive to January 1, 2014, primarily related to accelerating depreciation on APCo generation assets to be retired in the second quarter of 2015. Hearings at the Virginia SCC were held in September 2014. A decision is expected in November 2014. If any of these costs are not recoverable, it could reduce future net income and cash flows and impact financial condition. See the “2014 Virginia Biennial Base Rate Case” section of Note 4.


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2014 West Virginia Base Rate Case

In June 2014, APCo filed a request with the WVPSC to increase annual base rates by $181 million, based upon a 10.62% return on common equity, to be effective in the second quarter of 2015. The filing included a request to increase generation depreciation rates and requested recovery of $89 million over five years related to 2012 West Virginia storm costs, IGCC and other deferred costs. In addition to the base rate request, the filing also included a request to implement a rider of approximately $45 million annually to recover vegetation management costs, including a return on capital investment. In October 2014, the WVPSC approved APCo's motion to revise the procedural schedule which included the extension of the intervention period to November 2014 and a delay in the implementation of new rates from April 2015 to May 2015. Hearings at the WVPSC are scheduled for January 2015. If any of these costs are not recoverable, it could reduce future net income and cash flows and impact financial condition. See the “2014 West Virginia Base Rate Case” section of Note 4.

Plant Transfer

APCo and WPCo provide retail electric service at bundled rates approved by the WVPSC, with rates set on a cost-of-service basis. West Virginia generally allows for timely recovery of fuel costs through an expanded net energy cost which trues-up to actual expenses. In March 2014, APCo and WPCo filed a request with the WVPSC for approval to transfer at net book value to WPCo a one-half interest in the Mitchell Plant, comprising 780 MW of average annual generating capacity presently owned by AGR. In April 2014, APCo and WPCo filed testimony that supported their request and proposed a base rate surcharge of $113 million, to be offset by an equal reduction in the ENEC revenues, to be effective upon the transfer of the Mitchell Plant to WPCo. In June 2014, the FERC issued an order approving AGR and WPCo's request to transfer AGR’s one-half interest in the Mitchell Plant to WPCo.

In October 2014, a stipulation agreement between APCo, WPCo, the WVPSC staff and intervenors in the case was filed with the WVPSC. The stipulation agreement recommended approval for WPCo to acquire, at net book value, the one-half interest in the Mitchell Plant, excluding $20 million of certain assets, which will be paid by WPCo and recovered as a regulatory asset over the life of the plant. Additionally, the agreement stated that 82.5% of the costs associated with the acquired interest will be reflected in rates effective from the date of the transfer via a surcharge with an offset in ENEC revenues. The remaining 17.5% of the costs associated with the acquired interest is to be included in rates by January 2020. The agreement also proposed that WPCo share the energy margins for 82.5% of the plant’s output with ratepayers and that WPCo retain all of the energy margins from sales into the wholesale market on the remaining 17.5%, to offset fixed costs associated with this portion, until the remaining portion is approved for inclusion in rates. Management anticipates an order related to the proposed plant transfer will be issued in the fourth quarter of 2014. If any of these costs are not recoverable, it could reduce future net income and cash flows and impact financial condition. See the “Plant Transfer” section of APCo Rate Matters in Note 4.

Kentucky Fuel Adjustment Clause Review

In August 2014, the KPSC issued an order initiating a review of KPCo's FAC from November 2013 through April 2014. An intervenor has requested and received a revised procedural schedule to determine if the allocation of fuel costs has been applied appropriately. In October 2014, intervenors filed testimony that recommended the KPSC direct KPCo to modify its fuel allocation methodology and order a refund to customers of approximately $13 million, plus carrying charges at a weighted average cost of capital, related to the period January 1, 2014 through April 30, 2014. A hearing at the KPSC is scheduled for November 2014. Management believes the methodology used to determine fuel costs is appropriate and intends to oppose the recommendations filed by intervenors. If the KPSC directs KPCo to modify its fuel allocation methodology, it could affect the allocation of costs for all periods beginning January 2014, and if any of these costs are not recoverable, it could reduce future net income and cash flows and impact financial condition. See the “Kentucky Fuel Adjustment Clause Review” section of Note 4.


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PJM Capacity Market

AGR is required to offer all of its available generation capacity in the PJM RPM auction, which is conducted three years in advance of the actual delivery year. Therefore, the majority of AGR generation assets are subject to PJM capacity prices for periods after May 2015. Through May 2015, AGR will provide generation capacity to OPCo for both switched and non-switched OPCo generation customers. For switched customers, OPCo pays AGR $188.88/MW day for capacity. For non-switched OPCo generation customers, OPCo pays AGR its blended tariff rate for capacity consisting of $188.88/MW day for auctioned load and the non-fuel generation portion of its base rate for non-auctioned load. AGR’s excess capacity is subject to the PJM RPM auction. Shown below are the current auction prices for capacity, as announced/settled by PJM:
 
 
PJM Base
PJM Auction Period
 
Auction Price
 
 
(per MW day)
June 2013 through May 2014
 
$
27.73

June 2014 through May 2015
 
 
125.99

June 2015 through May 2016
 
 
136.00

June 2016 through May 2017
 
 
59.37

June 2017 through May 2018
 
 
120.00


We expect a significant decline in AGR capacity revenues after May 2015 when the Power Supply Agreement between AGR and OPCo ends. Additionally, we expect a decline in AGR capacity revenues from June 2016 through May 2017 based upon the decrease in the PJM base auction price.

In 2013, AEP formed a coalition with other utility companies to address mutual concerns related to the PJM capacity auction process. The advocacy work included: (a) assuring that capacity imports had firm transmission and could be dispatched by PJM as well as establishing more limiting criteria, (b) placing limits on the number of MWs of summer-only demand response to assure more year-round reliability, (c) modification and enforcement of the dispatch of demand response to better reflect real-time capacity requirements and (d) tightening of rules for incremental auctions in which speculative bidders sell resources in the base auction and buy back that capacity in an incremental auction, resulting in no additional capacity and artificially suppressing market prices.

PJM made four FERC filings related to these four issues beginning in the fall of 2013. FERC accepted the majority of the PJM recommendations in the first three filings. However, FERC rejected the fourth filing on incremental auctions, but set the docket for a technical conference for further discussion.

Welsh Plant, Units 1 and 3 - Environmental Projects

To comply with pending Federal EPA regulations, SWEPCo is currently constructing environmental control projects to meet mercury and air toxics standards for Welsh Plant, Units 1 and 3 at a cost of approximately $410 million, excluding AFUDC. Management currently estimates that the total environmental projects to be completed through 2020 for Welsh Plant, Units 1 and 3 will cost approximately $600 million, excluding AFUDC. As of September 30, 2014, SWEPCo has incurred costs of $112 million and has contractual construction obligations of $84 million related to these projects.  SWEPCo will seek to recover these project costs from customers through filings at the state commissions and FERC. These environmental projects could be adversely impacted by pending carbon emission regulations.  See "CO2 Regulation" section of “Environmental Issues” below.  As of September 30, 2014, the net book value of Welsh Plant, Units 1 and 3 was $335 million, before cost of removal, including materials and supplies inventory and CWIP.  If any of these costs are not recoverable, it could reduce future net income and cash flows and impact financial condition. 


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LITIGATION

In the ordinary course of business, we are involved in employment, commercial, environmental and regulatory litigation. Since it is difficult to predict the outcome of these proceedings, we cannot predict the eventual resolution, timing or amount of any loss, fine or penalty. We assess the probability of loss for each contingency and accrue a liability for cases that have a probable likelihood of loss if the loss can be estimated. For details on our regulatory proceedings and pending litigation see Note 4 - Rate Matters, Note 6 - Commitments, Guarantees and Contingencies and the “Litigation” section of “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the 2013 Annual Report. Additionally, see Note 4 - Rate Matters and Note 5 - Commitments, Guarantees and Contingencies included herein. Adverse results in these proceedings have the potential to reduce future net income and cash flows and impact financial condition.

Rockport Plant Litigation

In July 2013, the Wilmington Trust Company filed a complaint in U.S. District Court for the Southern District of New York against AEGCo and I&M alleging that it will be unlawfully burdened by the terms of the modified NSR consent decree after the Rockport Plant, Unit 2 lease expiration in December 2022. The terms of the consent decree allow the installation of environmental emission control equipment, repowering or retirement of the unit. The plaintiff further alleges that the defendants’ actions constitute breach of the lease and participation agreement. The plaintiff seeks a judgment declaring that the defendants breached the lease, must satisfy obligations related to installation of emission control equipment and indemnify the plaintiff. The New York court granted our motion to transfer this case to the U.S. District Court for the Southern District of Ohio. Our motion to dismiss the case, filed in October 2013, is pending. We will continue to defend against the claims. We are unable to determine a range of potential losses that are reasonably possible of occurring.

ENVIRONMENTAL ISSUES

We are implementing a substantial capital investment program and incurring additional operational costs to comply with environmental control requirements. We will need to make additional investments and operational changes in response to existing and anticipated requirements such as CAA requirements to reduce emissions of SO2, NOx, PM and hazardous air pollutants (HAPs) from fossil fuel-fired power plants, proposals governing the beneficial use and disposal of coal combustion products, proposed clean water rules and renewal permits for certain water discharges that are currently under appeal.

We are engaged in litigation about environmental issues, have been notified of potential responsibility for the clean-up of contaminated sites and incur costs for disposal of SNF and future decommissioning of our nuclear units. We, along with various industry groups, affected states and other parties have challenged some of the Federal EPA requirements in court. We are also engaged in the development of possible future requirements including the items discussed below and reductions of CO2 emissions to address concerns about global climate change. We believe that further analysis and better coordination of these environmental requirements would facilitate planning and lower overall compliance costs while achieving the same environmental goals.

See a complete discussion of these matters in the “Environmental Issues” section of “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the 2013 Annual Report. We will seek recovery of expenditures for pollution control technologies and associated costs from customers through rates in regulated jurisdictions. Environmental rules could result in accelerated depreciation, impairment of assets or regulatory disallowances. If we are unable to recover the costs of environmental compliance, it would reduce future net income and cash flows and impact financial condition.


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Environmental Controls Impact on the Generating Fleet

The rules and proposed environmental controls discussed in the next several sections will have a material impact on the generating units in the AEP System. We continue to evaluate the impact of these rules, project scope and technology available to achieve compliance. As of September 30, 2014, the AEP System had a total generating capacity of 37,600 MWs, of which 23,700 MWs are coal-fired. We continue to refine the cost estimates of complying with these rules and other impacts of the environmental proposals on our generating facilities. Based upon our estimates, investment to meet these requirements ranges from approximately $3 billion to $3.5 billion through 2020. Several proposed regulations issued during 2014, including CO2 and the Clean Water Act, are currently under review and we cannot currently predict the impact these programs may have on future resource plans or our existing generating fleet; however, the costs may be substantial. These amounts include investments to convert some of our coal generation to natural gas. If natural gas conversion is not completed, the units could be retired sooner than planned.

The cost estimates will change depending on the timing of implementation and whether the Federal EPA provides flexibility in the final rules. The cost estimates will also change based on: (a) the states’ implementation of these regulatory programs, including the potential for state implementation plans (SIPs) or federal implementation plans (FIPs) that impose more stringent standards, (b) additional rulemaking activities in response to court decisions, (c) the actual performance of the pollution control technologies installed on our units, (d) changes in costs for new pollution controls, (e) new generating technology developments, (f) total MWs of capacity retired and replaced, including the type and amount of such replacement capacity and (g) other factors. In addition, we are continuing to evaluate the economic feasibility of environmental investments on both regulated and nonregulated plants.

Subject to the factors listed above and based upon our continuing evaluation, we intend to retire the following plants or units of plants before or during 2016:
 
 
 
 
Generating
Company
 
Plant Name and Unit
 
Capacity
 
 
 
 
(in MWs) 
AGR
 
Kammer Plant
 
630

AGR
 
Muskingum River Plant
 
1,440

AGR
 
Picway Plant
 
100

APCo
 
Clinch River Plant, Unit 3
 
235

APCo
 
Glen Lyn Plant
 
335

APCo
 
Kanawha River Plant
 
400

APCo/AGR
 
Sporn Plant
 
600

I&M
 
Tanners Creek Plant
 
995

KPCo
 
Big Sandy Plant, Unit 2
 
800

PSO
 
Northeastern Station, Unit 4
 
470

SWEPCo
 
Welsh Plant, Unit 2
 
528

Total
 
 
 
6,533


As of September 30, 2014, the net book value of the AGR units listed above was zero. The net book value before cost of removal, including related material and supplies inventory and CWIP balances, of the regulated plants in the table above was $973 million.

In addition, we are in the process of obtaining permits following the KPSC's approval for the conversion of KPCo's 278 MW Big Sandy Plant, Unit 1 to natural gas.  As of September 30, 2014, the net book value before cost of removal, including related material and supplies inventory and CWIP balances, of Big Sandy Plant, Unit 1 was $99 million.

PSO received Federal EPA approval of the Oklahoma SIP, in February 2014, related to the environmental compliance plan for Northeastern Station, Unit 3.

Volatility in fuel prices, pending environmental rules and other market factors could also have an adverse impact on the accounting evaluation of the recoverability of the net book values of coal-fired units. For regulated plants that we

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may close early, we are seeking regulatory recovery of remaining net book values. To the extent existing generation assets and the cost of new equipment and converted facilities are not recoverable, it could materially reduce future net income and cash flows and impact financial condition.

Clean Air Act Requirements

The CAA establishes a comprehensive program to protect and improve the nation’s air quality and control sources of air emissions. The states implement and administer many of these programs and could impose additional or more stringent requirements.

The Federal EPA issued the Clean Air Interstate Rule (CAIR) in 2005 requiring specific reductions in SO2 and NOx emissions from power plants. The Federal EPA issued the Cross-State Air Pollution Rule (CSAPR) in August 2011 to replace CAIR. The CSAPR was challenged in the courts. The U.S. Court of Appeals for the District of Columbia Circuit issued an order in 2011 staying the effective date of the rule pending judicial review. In 2012, a panel of the U.S. Court of Appeals for the District of Columbia Circuit issued a decision vacating and remanding CSAPR to the Federal EPA with instructions to continue implementing CAIR until a replacement rule is finalized. That decision was appealed to the U.S. Supreme Court, which reversed the decision in part and remanded the case to the U.S. Court of Appeals for the District of Columbia Circuit. Nearly all of the states in which our power plants are located are covered by CAIR. See "Cross-State Air Pollution Rule (CSAPR)" section below.

The Federal EPA issued the final maximum achievable control technology (MACT) standards for coal and oil-fired power plants in 2012. See “Mercury and Other Hazardous Air Pollutants (HAPs) Regulation” section below.

The Federal EPA issued a Clean Air Visibility Rule (CAVR), detailing how the CAA’s requirement that certain facilities install best available retrofit technology (BART) to address regional haze in federal parks and other protected areas. BART requirements apply to facilities built between 1962 and 1977 that emit more than 250 tons per year of certain pollutants in specific industrial categories, including power plants. CAVR will be implemented through individual SIPs or, if SIPs are not adequate or are not developed on schedule, through FIPs. The Federal EPA proposed disapproval of SIPs in a few states, including Arkansas. The Arkansas SIP was disapproved and the state is developing a revised submittal. In June 2012, the Federal EPA published revisions to the regional haze rules to allow states participating in the CSAPR trading programs to use those programs in place of source-specific BART for SO2 and NOx emissions based on its determination that CSAPR results in greater visibility improvements than source-specific BART in the CSAPR states. This rule is being challenged in the U.S. Court of Appeals for the District of Columbia Circuit.

In 2009, the Federal EPA issued a final mandatory reporting rule for CO2 and other greenhouse gases covering a broad range of facilities emitting in excess of 25,000 tons of CO2 emissions per year. The Federal EPA issued a final endangerment finding for greenhouse gas emissions from new motor vehicles in 2009. The Federal EPA determined that greenhouse gas emissions from stationary sources will be subject to regulation under the CAA beginning January 2011 and finalized its proposed scheme to streamline and phase-in regulation of stationary source CO2 emissions through the NSR prevention of significant deterioration and Title V operating permit programs through the issuance of final federal rules, SIP calls and FIPs. The Federal EPA has proposed to include CO2 emissions in standards that apply to new electric utility units and will consider whether such standards are appropriate for other source categories in the future. See "CO2 Regulation" section below.

The Federal EPA has also issued new, more stringent national ambient air quality standards (NAAQS) for PM, SO2 and is currently reviewing the NAAQS for ozone. States are in the process of evaluating the attainment status and need for additional control measures in order to attain and maintain the new NAAQS and may develop additional requirements for our facilities as a result of those evaluations. We cannot currently predict the nature, stringency or timing of those requirements.

Notable developments in significant CAA regulatory requirements affecting our operations are discussed in the following sections.


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Cross-State Air Pollution Rule (CSAPR)

In 2011, the Federal EPA issued CSAPR. Certain revisions to the rule were finalized in 2012. CSAPR relies on newly-created SO2 and NOx allowances and individual state budgets to compel further emission reductions from electric utility generating units in 28 states. Interstate trading of allowances is allowed on a restricted sub-regional basis. Arkansas and Louisiana are subject only to the seasonal NOx program in the rule. Texas is subject to the annual programs for SO2 and NOx in addition to the seasonal NOx program. The annual SO2 allowance budgets in Indiana, Ohio and West Virginia were reduced significantly in the rule. A supplemental rule includes Oklahoma in the seasonal NOx program. The supplemental rule was finalized in December 2011 with an increased NOx emission budget for the 2012 compliance year. The Federal EPA issued a final Error Corrections Rule and further CSAPR revisions in 2012 to make corrections to state budgets and unit allocations and to remove the restrictions on interstate trading in the first phase of CSAPR.

Numerous affected entities, states and other parties filed petitions to review the CSAPR in the U.S. Court of Appeals for the District of Columbia Circuit. Several of the petitioners filed motions to stay the implementation of the rule pending judicial review. In 2011, the court granted the motions for stay. In 2012, the court issued a decision vacating and remanding CSAPR to the Federal EPA with instructions to continue implementing the CAIR until a replacement rule is finalized. The majority determined that the CAA does not allow the Federal EPA to “overcontrol” emissions in an upwind state and that the Federal EPA exceeded its statutory authority by failing to allow states an opportunity to develop their own implementation plans before issuing a FIP. The Federal EPA and other respondents filed petitions for rehearing but in January 2013, the U.S. Court of Appeals for the District of Columbia Circuit denied all petitions for rehearing. The petition for further review filed by the Federal EPA and other parties in the U.S. Supreme Court was granted in June 2013. In April 2014, the U.S. Supreme Court issued a decision reversing in part the decision of the U.S. Court of Appeals for the District of Columbia Circuit and remanding the case for further proceedings consistent with the opinion. The parties have filed motions to govern further proceedings. The Federal EPA has filed a motion to lift the stay and allow Phase I of CSAPR to take effect on January 1, 2015 and Phase II to take effect on January 1, 2017. Until the court acts on this motion, CAIR will remain in effect. Separate appeals of the Error Corrections Rule and the further revisions have been filed but no briefing schedules have been established. We cannot predict the outcome of the pending litigation.

Mercury and Other Hazardous Air Pollutants (HAPs) Regulation

In 2012, the Federal EPA issued a rule addressing a broad range of HAPs from coal and oil-fired power plants. The rule establishes unit-specific emission rates for mercury, PM (as a surrogate for particles of several nonmercury metals) and hydrogen chloride (as a surrogate for acid gases) for units burning coal on a site-wide 30-day rolling average basis. In addition, the rule proposes work practice standards, such as boiler tune-ups, for controlling emissions of organic HAPs and dioxin/furans. The effective date of the final rule was April 16, 2012 and compliance is required within three years. Petitions for administrative reconsideration and judicial review were filed. In 2012, the Federal EPA published a notice announcing that it would accept comments on its reconsideration of certain issues related to the new source standards, including clarification of the requirements that apply during periods of start-up and shut down, measurement issues and the application of variability factors that may have an impact on the level of the standards. The Federal EPA issued revisions to the new source standards consistent with the proposed rule, except the start-up and shut down provisions in March 2013. The Federal EPA is still considering additional changes to the start-up and shut down provisions. In April 2014, the U.S. Court of Appeals for the District of Columbia Circuit denied all of the petitions for review of the April 2012 final rule. Industry and environmental groups filed petitions for further review in the U.S. Supreme Court.

The final rule contains a slightly less stringent PM limit for existing sources than the original proposal and allows operators to exclude periods of startup and shutdown from the emissions averaging periods. The compliance time frame remains a serious concern. We have obtained a one-year administrative extension at several units to facilitate the installation of controls or to avoid a serious reliability problem. In addition, the Federal EPA issued an enforcement policy describing the circumstances under which an administrative consent order might be issued to provide a fifth year for the installation of controls or completion of reliability upgrades. We remain concerned about the availability

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of compliance extensions, the inability to foreclose citizen suits being filed under the CAA for failure to achieve compliance by the required deadlines and the lack of coordination among the Mercury and Air Toxics Standards schedule and other environmental requirements.

CO2 Regulation

President Obama issued a memorandum to the Administrator of the Federal EPA directing the agency to develop and issue a new proposal regulating carbon emissions from new electric generating units. The new proposal was issued in September 2013 and requires new large natural gas units to meet 1,000 pounds of CO2 per MWh of electricity generated and small natural gas units to meet 1,100 pounds of CO2 per MWh. New coal-fired units are required to meet the 1,100 pounds of CO2 per MWh limit, with the option to meet the tighter limits if they choose to average emissions over multiple years. The proposal was published in the Federal Register in January 2014.

The Federal EPA was also directed to develop and issue a separate proposal regulating carbon emissions from modified and reconstructed electric generating units (EGUs) and to issue guidelines for existing EGUs before June 2014, to finalize those standards by June 2015 and to require states to submit revisions to their implementation plans including such standards no later than June 2016. The President directed the Federal EPA, in developing this proposal, to directly engage states, leaders in the power sector, labor leaders and other stakeholders, to tailor the regulations to reduce costs, to develop market-based instruments and allow regulatory flexibilities and “assure that the standards are developed and implemented in a manner consistent with the continued provision of reliable and affordable electric power.” The guidelines use a “portfolio” approach to reducing emissions from existing sources that includes efficiency improvements at coal plants, displacing coal-fired generation with increased utilization of natural gas combined cycle units, expanding renewable resources and increasing customer energy efficiency. The Federal EPA issued proposed guidelines establishing state goals for CO2 emissions from existing EGUs and comments are due December 1, 2014. The Federal EPA also issued proposed regulations governing emissions of CO2 from modified and reconstructed EGUs in June 2014 and comments are due in October 2014. The standards for modified and reconstructed units include several options, including use of historic baselines or energy efficiency audits to establish source-specific CO2 emission rates or to limit CO2 emissions to no more than 1,900 pounds per MWh at larger coal units and 2,100 pounds per MWh at smaller coal units. These proposed regulations are currently under review. We cannot currently predict the impact these programs may have on future resource plans or our existing generating fleet, but the costs may be substantial.

In 2012, the U.S. Court of Appeals for the District of Columbia Circuit issued a decision upholding, in all material respects, the Federal EPA’s endangerment finding, its regulatory program for CO2 emissions from new motor vehicles and its plan to phase in regulation of CO2 emissions from stationary sources under the Prevention of Significant Deterioration (PSD) and Title V operating permit programs. In 2012, the U.S. Court of Appeals for the District of Columbia Circuit denied a petition for rehearing. In June 2014, the U.S. Supreme Court determined that the Federal EPA was not compelled to regulate CO2 emissions from stationary sources under the Title V or PSD programs as a result of its adoption of the motor vehicle standards, but that sources otherwise required to obtain a PSD permit may be required to perform a Best Available Control Technology analysis for CO2 emissions if they exceed a reasonable level. The Federal EPA must undertake additional rulemaking to implement the court’s decision and establish an appropriate level.

Coal Combustion Residual Rule

In 2010, the Federal EPA published a proposed rule to regulate the disposal and beneficial re-use of coal combustion residuals, including fly ash and bottom ash generated at coal-fired electric generating units and also FGD gypsum generated at some coal-fired plants.  The rule contains two alternative proposals. One proposal would impose federal hazardous waste disposal and management standards on these materials and another would allow states to retain primary authority to regulate the disposal of these materials under state solid waste management standards, including minimum federal standards for disposal and management. Both proposals would impose stringent requirements for the construction of new coal ash landfills and would require existing unlined surface impoundments to upgrade to the new standards or stop receiving coal ash and initiate closure within five years of the issuance of a final rule. In 2011, the Federal EPA issued a notice of data availability requesting comments on a number of technical reports and other data

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received during the comment period for the original proposal and requesting comments on potential modeling analyses to update its risk assessment. In 2013, the Federal EPA also issued a notice of data availability requesting comments on a narrow set of issues.

Various environmental organizations and industry groups filed a petition seeking to establish deadlines for a final rule. The Federal EPA opposed the petition and sought additional time to coordinate the issuance of a final rule with the issuance of new effluent limitations under the Clean Water Act (CWA) for utility facilities. In October 2013, the U.S. District Court for the District of Columbia issued a final order partially ruling in favor of the Federal EPA for dismissal of two counts, ruling in favor of the environmental organizations on one count and directing the Federal EPA to provide the court with a proposed schedule for completion of the rulemaking.  The court established December 19, 2014 as the Federal EPA’s deadline for publication of the rule. 

In February 2014, the Federal EPA completed a risk evaluation of the beneficial uses of coal fly ash in concrete and FGD gypsum in wallboard and concluded that the Federal EPA supports these beneficial uses.  Currently, approximately 40% of the coal ash and other residual products from our generating facilities are re-used in the production of cement and wallboard, as structural fill or soil amendments, as abrasives or road treatment materials and for other beneficial uses. Certain of these uses would no longer be available and others are likely to significantly decline if coal ash and related materials are classified as hazardous wastes. In addition, we currently use surface impoundments and landfills to manage these materials at our generating facilities. We will incur significant costs to upgrade or close and replace these existing facilities under the proposed solid waste management alternative. Regulation of these materials as hazardous wastes would significantly increase these costs. As the rule is not final, we are unable to determine a range of potential costs that are reasonably possible of occurring but expect the costs to be significant.

Clean Water Act Regulations

In 2011, the Federal EPA issued a proposed rule setting forth standards for existing power plants that will reduce mortality of aquatic organisms pinned against a plant’s cooling water intake screen (impingement) or entrained in the cooling water. Entrainment is when small fish, eggs or larvae are drawn into the cooling water system and affected by heat, chemicals or physical stress. In 2012, the Federal EPA issued additional Notices of Data Availability and requested public comments. The final rule was released by the Federal EPA in May 2014 and affects all plants withdrawing more than two million gallons of cooling water per day. The rule offers seven technology options to comply with the impingement standard and requires site-specific studies to determine appropriate entrainment compliance measures at facilities withdrawing more than 125 million gallons per day. Additional requirements may be imposed as a result of consultation with other federal agencies to protect threatened and endangered species and their habitats. Facilities with existing closed cycle recirculating cooling systems, as defined in the rule, are not expected to require any technology changes. Facilities subject to both the impingement standard and site-specific entrainment studies will typically be given at least three years to conduct and submit the results of those studies to the permit agency. Compliance timeframes will then be established by the permit agency through each facility’s National Pollutant Discharge Elimination System (NPDES) permit for installation of any required technology changes, as those permits are renewed over the next five to eight years. Petitions for review of the final rule have been filed by industry and environmental groups and have been consolidated in the U.S. Court of Appeals for the Fourth Circuit.

In addition, the Federal EPA issued an information collection request and is developing revised effluent limitation guidelines for electricity generating facilities. A proposed rule was signed in April 2013 with a final rule expected in September 2015. The Federal EPA proposed eight options of increasing stringency and cost for fly ash and bottom ash transport water, scrubber wastewater, leachate from coal combustion byproduct landfills and impoundments and other wastewaters associated with coal-fired generating units, with four labeled preferred options. Certain of the Federal EPA's preferred options have already been implemented or are part of our long-term plans. We continue to review the proposal in detail to evaluate whether our plants are currently meeting the proposed limitations, what technologies have been incorporated into our long-range plans and what additional costs might be incurred if the Federal EPA's most stringent options were adopted. We submitted detailed comments to the Federal EPA in September 2013 and participated in comments filed by various organizations of which we are members.


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In April 2014, the Federal EPA and the U.S. Army Corps of Engineers jointly issued a proposed rule to clarify the scope of the regulatory definition of “waters of the United States” in light of recent U.S. Supreme Court cases and published the proposed rule in the Federal Register. The CWA provides for federal jurisdiction over “navigable waters” defined as “the waters of the United States.” This proposed jurisdictional definition will apply to all CWA programs, potentially impacting generation, transmission and distribution permitting and compliance requirements. Among those programs are: permits for wastewater and storm water discharges, permits for impacts to wetlands and water bodies and oil spill prevention planning. We agree that clarity and efficiency in the permitting process is needed. We are concerned that the proposed rule introduces new concepts and could subject more of our operations to CWA jurisdiction, thereby increasing the time and complexity of permitting. We will continue to evaluate the rule and its financial impact on the AEP System. We plan to submit comments and also participate in the preparation of comments to be filed by various organizations of which we are members. Comments are due in October 2014.

Climate Change

National public policy makers and regulators in the 11 states we serve have diverse views on climate change. We are currently focused on responding to these emerging views with prudent actions, such as improving energy efficiency, investing in developing cost-effective and less carbon-intensive technologies and evaluating our assets across a range of plausible scenarios and outcomes. We are also active participants in a variety of public policy discussions at state and federal levels to assure that proposed new requirements are feasible and the economies of the states we serve are not placed at a competitive disadvantage.

While comprehensive economy-wide regulation of CO2 emissions might be achieved through future legislation, Congress has yet to enact such legislation. The Federal EPA continues to take action to regulate CO2 emissions under the existing requirements of the CAA.

Several states have adopted programs that directly regulate CO2 emissions from power plants. The majority of the states where we have generating facilities have passed legislation establishing renewable energy, alternative energy and/or energy efficiency requirements. We are taking steps to comply with these requirements.

Future federal and state legislation or regulations that mandate limits on the emission of CO2 would result in significant increases in capital expenditures and operating costs, which in turn, could lead to increased liquidity needs and higher financing costs. Excessive costs to comply with future legislation or regulations might force our utility subsidiaries to close some coal-fired facilities and could lead to possible impairment of assets. As a result, mandatory limits could reduce future net income and cash flows and impact financial condition.

For additional information on climate change, other environmental issues and the actions we are taking to address potential impacts, see Part I of the 2013 Form 10-K under the headings entitled “Environmental and Other Matters” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

RESULTS OF OPERATIONS

SEGMENTS

Our primary business is the generation, transmission and distribution of electricity. Within our Vertically Integrated Utilities segment, we centrally dispatch generation assets and manage our overall utility operations on an integrated basis because of the substantial impact of cost-based rates and regulatory oversight. Intersegment sales and transfers are generally based on underlying contractual arrangements and agreements.

During the fourth quarter of 2013, we changed the structure of our internal organization which resulted in a change in the composition of our reportable segments. In accordance with authoritative accounting guidance for segment reporting, prior period financial information has been recast in the financial statements and footnotes to be comparable to the current year presentation of reportable segments.


12



Our reportable segments and their related business activities are outlined below:

Vertically Integrated Utilities

Generation, transmission and distribution of electricity for sale to retail and wholesale customers through assets owned and operated by AEGCo, APCo, I&M, KGPCo, KPCo, PSO, SWEPCo and WPCo.

Transmission and Distribution Utilities

Transmission and distribution of electricity for sale to retail and wholesale customers through assets owned and operated by OPCo, TCC and TNC.
OPCo purchases energy to serve SSO customers and provides capacity for all connected load.

AEP Transmission Holdco

Development, construction and operation of transmission facilities through investments in our wholly-owned transmission subsidiaries and transmission only joint ventures.  These investments have PUCT-approved or FERC-approved returns on equity.

Generation & Marketing

Nonregulated generation in ERCOT and PJM.
Marketing, risk management and retail activities in ERCOT, PJM and MISO.

AEP River Operations

Commercial barging operations that transport liquids, coal and dry bulk commodities primarily on the Ohio, Illinois and lower Mississippi Rivers.

The table below presents Earnings Attributable to AEP Common Shareholders by segment for the three and nine months ended September 30, 2014 and 2013.
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
2014
 
2013
 
(in millions)
Vertically Integrated Utilities
$
219

 
$
173

 
$
651

 
$
505

Transmission and Distribution Utilities
92

 
119

 
279

 
281

AEP Transmission Holdco
43

 
22

 
114

 
53

Generation & Marketing
117

 
112

 
378

 
188

AEP River Operations
11

 
(1
)
 
17

 
(12
)
Corporate and Other (a)
11

 
8

 
4

 
119

Earnings Attributable to AEP Common Shareholders
$
493

 
$
433

 
$
1,443

 
$
1,134

(a)
While not considered a reportable segment, Corporate and Other primarily includes the purchasing of receivables from certain AEP utility subsidiaries. This segment also includes Parent’s guarantee revenue received from affiliates, investment income, interest income and interest expense and other nonallocated costs.

13




AEP CONSOLIDATED

Third Quarter of 2014 Compared to Third Quarter of 2013

Earnings Attributable to AEP Common Shareholders increased from $433 million in 2013 to $493 million in 2014 primarily due to:

Impairments during the third quarter of 2013 related to the following:
A decision by the PUCT determining that AFUDC on the Turk Plant was included in the Texas capital cost cap.
A decision from the KPSC disallowing scrubber costs on KPCo's Big Sandy Plant.
Successful rate proceedings in our various jurisdictions.
An increase in transmission investment which resulted in higher revenues and income.

These increases were partially offset by:

A decrease in weather-related usage.
An increase in plant maintenance.
An increase in vegetation management expenses.

Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013

Earnings Attributable to AEP Common Shareholders increased from $1.1 billion in 2013 to $1.4 billion in 2014 primarily due to:

Impairments during 2013 related to the following:
Muskingum River Plant, Unit 5.
A decision by the PUCT determining that AFUDC on the Turk Plant was included in the Texas capital cost cap.
A decision from the KPSC disallowing scrubber costs on KPCo's Big Sandy Plant.
Successful rate proceedings in our various jurisdictions.
A net increase in weather-related usage.
Higher market prices and increased sales volumes.
An increase in transmission investment which resulted in higher revenues and income.

These increases were partially offset by:

A favorable U.K. Windfall Tax decision by the U.S. Supreme Court in the second quarter of 2013.
An increase in depreciation expense due to increased investments.
An increase in vegetation management expenses.
An increase in plant maintenance.


14



Our results of operations by operating segment are discussed below.

VERTICALLY INTEGRATED UTILITIES
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 Vertically Integrated Utilities
 
2014
 
2013
 
2014
 
2013
 
 
(in millions)
Revenues
 
$
2,450

 
$
2,738

 
$
7,288

 
$
7,555

Fuel and Purchased Electricity
 
1,010

 
1,325

 
3,038

 
3,590

Gross Margin
 
1,440

 
1,413

 
4,250

 
3,965

Other Operation and Maintenance
 
615

 
524

 
1,809

 
1,653

Asset Impairments and Other Related Charges
 

 
144

 

 
144

Depreciation and Amortization
 
257

 
233

 
772

 
702

Taxes Other Than Income Taxes
 
95

 
93

 
278

 
277

Operating Income
 
473

 
419

 
1,391

 
1,189

Interest and Investment Income
 
2

 

 
3

 
7

Carrying Costs Income
 
1

 
5

 
2

 
10

Allowance for Equity Funds Used During Construction
 
12

 
9

 
33

 
27

Interest Expense
 
(133
)
 
(136
)
 
(396
)
 
(408
)
Income Before Income Tax Expense and Equity Earnings
 
355

 
297

 
1,033

 
825

Income Tax Expense
 
135

 
123

 
380

 
318

Equity Earnings of Unconsolidated Subsidiaries
 

 

 
1

 
1

Net Income
 
220

 
174

 
654

 
508

Net Income Attributable to Noncontrolling Interests
 
1

 
1

 
3

 
3

Earnings Attributable to AEP Common Shareholders
 
$
219

 
$
173

 
$
651

 
$
505


Summary of KWh Energy Sales for Vertically Integrated Utilities
 
Three Months Ended 
 September 30,
 
 
Nine Months Ended 
 September 30,
 
 
2014
 
2013
 
 
2014
 
2013
 
 
(in millions of KWhs)
 
Retail:
 

 
 

 
 
 

 
 

 
Residential
8,505

 
9,043

 
 
26,126

 
25,710

 
Commercial
6,743

 
6,910

 
 
18,980

 
18,913

 
Industrial
8,962

 
8,634

 
 
26,319

 
25,602

 
Miscellaneous
608

 
602

 
 
1,740

 
1,717

 
Total Retail
24,818

 
25,189

 
 
73,165

 
71,942

 
 
 
 
 
 
 
 
 
 
 
Wholesale (a)
8,632

 
NM

(b)
 
27,418

 
NM

(b)

(a)
Includes off-system sales, municipalities and cooperatives, unit power and other wholesale customers.
(b)
2014 is not comparable to 2013 due to the 2013 asset transfers related to corporate separation in Ohio on December 31, 2013 and the termination of the Interconnection Agreement effective January 1, 2014.
NM
Not meaningful.


15



Heating degree days and cooling degree days are metrics commonly used in the utility industry as a measure of the impact of weather on revenues.  In general, degree day changes in our eastern region have a larger effect on net income than changes in our western region due to the relative size of the two regions and the number of customers within each region.

Summary of Heating and Cooling Degree Days for Vertically Integrated Utilities
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
2014
 
2013
 
(in degree days)
Eastern Region
 

 
 

 
 

 
 

Actual  Heating (a)
2

 
1

 
2,248

 
1,854

Normal  Heating (b)
5

 
6

 
1,736

 
1,741

 
 
 
 
 
 
 
 
Actual  Cooling (c)
559

 
657

 
921

 
1,007

Normal  Cooling (b)
733

 
733

 
1,062

 
1,062

 
 
 
 
 
 
 
 
Western Region
 

 
 

 
 

 
 

Actual  Heating (a)

 

 
1,233

 
1,009

Normal  Heating (b)
1

 
2

 
921

 
923

 
 
 
 
 
 
 
 
Actual  Cooling (c)
1,246

 
1,387

 
1,926

 
2,070

Normal  Cooling (b)
1,399

 
1,396

 
2,109

 
2,106


(a)
Eastern Region and Western Region heating degree days are calculated on a 55 degree temperature base.
(b)
Normal Heating/Cooling represents the thirty-year average of degree days.
(c)
Eastern Region and Western Region cooling degree days are calculated on a 65 degree temperature base.


16



Third Quarter of 2014 Compared to Third Quarter of 2013
Reconciliation of Third Quarter of 2013 to Third Quarter of 2014
Earnings Attributable to AEP Common Shareholders from Vertically Integrated Utilities
(in millions)
 
 
 
Third Quarter of 2013
 
$
173

 
 
 

Changes in Gross Margin:
 
 

Retail Margins
 
23

Off-system Sales
 
15

Transmission Revenues
 
1

Other Revenues
 
(12
)
Total Change in Gross Margin
 
27

 
 
 

Changes in Expenses and Other:
 
 

Other Operation and Maintenance
 
(91
)
Asset Impairments and Other Related Charges
 
144

Depreciation and Amortization
 
(24
)
Taxes Other Than Income Taxes
 
(2
)
Interest and Investment Income
 
2

Carrying Costs Income
 
(4
)
Allowance for Equity Funds Used During Construction
 
3

Interest Expense
 
3

Total Change in Expenses and Other
 
31

 
 
 

Income Tax Expense
 
(12
)
 
 
 
Third Quarter of 2014
 
$
219


The major components of the increase in Gross Margin, defined as revenues less the related direct cost of fuel, including consumption of chemicals and emissions allowances, and purchased electricity were as follows:

Retail Margins increased $23 million primarily due to the following:
The effect of successful rate proceedings in our service territories which include:
APCo - $43 million.
KPCo - $14 million.
For the rate increases described above, $35 million of these increases relate to riders/trackers which have corresponding increases in expense items below.    
These increases were partially offset by:
A $36 million decrease in weather-related usage primarily due to a decrease in cooling degree days.
Margins from Off-system Sales increased $15 million primarily due to changes in margin sharing.
Other Revenues decreased $12 million primarily due to a decrease in barging. This decrease in barging is a result of the River Transportation Division (RTD) no longer serving plants transferred from OPCo to AGR effective December 31, 2013 as a result of corporate separation in Ohio. This decrease in RTD revenue has a corresponding decrease in Other Operation and Maintenance expenses for barging as discussed below.


17



Expenses and Other and Income Tax Expense changed between years as follows:

Other Operation and Maintenance expenses increased $91 million primarily due to the following:
A $19 million increase in plant outage and maintenance expenses.
A $17 million increase in recoverable expenses, including PJM expenses, currently fully recovered in rate recovery riders/trackers partially offset by RTD expenses for barging activities.
A $17 million increase in employee-related expenses.
An $11 million increase in transmission and distribution expenses primarily due to storms and non-recoverable SPP services.
A $10 million increase in uncollectible accounts primarily due to the favorable resolution of contingencies related to pole attachments in the third quarter of 2013.
A $9 million increase in approved incremental vegetation management expenses.
An $8 million increase due to an accrual for expected environmental remediation costs.
Asset Impairments and Other Related Charges decreased $144 million primarily due to the following:
A $111 million decrease due to the third quarter 2013 write-off of AFUDC on the Turk Plant.
A $33 million decrease due to KPCo's third quarter 2013 write-off of scrubber costs on the Big Sandy Plant and other generation in accordance with the KPSC's October 2013 order.
Depreciation and Amortization expenses increased $24 million primarily due to overall higher depreciable base.
Income Tax Expense increased $12 million primarily due to an increase in pretax book income partially offset by other book/tax differences which are accounted for on a flow-through basis.

18



Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013
Reconciliation of Nine Months Ended September 30, 2013 to Nine Months Ended September 30, 2014
Earnings Attributable to AEP Common Shareholders from Vertically Integrated Utilities
(in millions)
 
 
 
Nine Months Ended September 30, 2013
 
$
505

 
 
 

Changes in Gross Margin:
 
 

Retail Margins
 
186

Off-system Sales
 
121

Transmission Revenues
 
17

Other Revenues
 
(39
)
Total Change in Gross Margin
 
285

 
 
 

Changes in Expenses and Other:
 
 

Other Operation and Maintenance
 
(156
)
Asset Impairments and Other Related Charges
 
144

Depreciation and Amortization
 
(70
)
Taxes Other Than Income Taxes
 
(1
)
Interest and Investment Income
 
(4
)
Carrying Costs Income
 
(8
)
Allowance for Equity Funds Used During Construction
 
6

Interest Expense
 
12

Total Change in Expenses and Other
 
(77
)
 
 
 

Income Tax Expense
 
(62
)
 
 
 

Nine Months Ended September 30, 2014
 
$
651


The major components of the increase in Gross Margin, defined as revenues less the related direct cost of fuel, including consumption of chemicals and emissions allowances, and purchased electricity were as follows:

Retail Margins increased $186 million primarily due to the following:
The effect of successful rate proceedings in our service territories which include:
APCo - $114 million.
KPCo - $41 million.
SWEPCo - $28 million.
I&M - $28 million.
For the rate increases described above, $87 million of these increases relate to riders/trackers which have corresponding increases in expense items below.
A $16 million increase due to favorable weather conditions.
These increases were partially offset by:
A $39 million increase in PJM expenses net of recovery or offsets.
Margins from Off-system Sales increased $121 million primarily due to higher market prices.
Transmission Revenues increased $17 million primarily due to increased investment in the PJM region.
Other Revenues decreased $39 million primarily due to a decrease in barging. This decrease in barging is a result of the RTD no longer serving plants transferred from OPCo to AGR as of December 31, 2013 as a result of corporate separation in Ohio. This decrease in RTD revenue has a corresponding decrease in Other Operation and Maintenance expenses for barging as discussed below.


19



Expenses and Other and Income Tax Expense changed between years as follows:

Other Operation and Maintenance expenses increased $156 million primarily due to the following:
A $38 million increase in recoverable expenses, including PJM expenses, currently fully recovered in rate recovery riders/trackers partially offset by RTD expenses for barging activities.
A $38 million increase in transmission expenses primarily related to PJM and SPP services.
A $29 million increase in plant outage and maintenance expenses.
A $25 million increase due to an agreement reached to settle an insurance claim in the first quarter of 2013.
A $20 million increase in employee-related expenses.
A $14 million increase in distribution and transmission vegetation management expenses.
These increases were partially offset by:
A $30 million write-off in the first quarter of 2013 of previously deferred 2012 Virginia storm costs resulting from the 2013 enactment of a Virginia law.
Asset Impairments and Other Related Charges decreased $144 million primarily due to the following:
A $111 million decrease due to the third quarter 2013 write-off of AFUDC on the Turk Plant.
A $33 million decrease due to KPCo's third quarter 2013 write-off of scrubber costs on the Big Sandy Plant and other generation in accordance with the KPSC's October 2013 order.
Depreciation and Amortization expenses increased $70 million primarily due to overall higher depreciable base.
Carrying Cost Income decreased $8 million primarily due to the November 2013 securitization of the West Virginia ENEC deferral balance.
Allowance for Equity Funds Used During Construction increased $6 million primarily due to an increase in environmental construction projects.
Interest Expense decreased $12 million primarily due to the following:
A $5 million decrease due to the retirement of KPCo Senior Unsecured Notes in the third quarter of 2013.
A $4 million decrease due to rate approvals in Louisiana and Texas as well as an increase in the debt component of AFUDC due to increased transmission and environmental projects.
Income Tax Expense increased $62 million primarily due to an increase in pretax book income.


20



TRANSMISSION AND DISTRIBUTION UTILITIES
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
Transmission and Distribution Utilities
 
2014
 
2013
 
2014
 
2013
 
 
(in millions)
Revenues
 
$
1,231

 
$
1,195

 
$
3,580

 
$
3,393

Fuel and Purchased Electricity
 
377

 
406

 
1,123

 
1,260

Amortization of Generation Deferrals
 
27

 

 
83

 

Gross Margin
 
827

 
789

 
2,374

 
2,133

Other Operation and Maintenance
 
329

 
254

 
920

 
717

Depreciation and Amortization
 
182

 
165

 
499

 
449

Taxes Other Than Income Taxes
 
117

 
118

 
344

 
327

Operating Income
 
199

 
252

 
611

 
640

Interest and Investment Income
 
3

 

 
9

 
1

Carrying Costs Income
 
6

 
3

 
20

 
10

Allowance for Equity Funds Used During Construction
 
3

 
2

 
8

 
4

Interest Expense
 
(68
)
 
(72
)
 
(210
)
 
(219
)
Income Before Income Tax Expense
 
143

 
185

 
438

 
436

Income Tax Expense
 
51

 
66

 
159

 
155

Net Income
 
92

 
119

 
279

 
281

Net Income Attributable to Noncontrolling Interests
 

 

 

 

Earnings Attributable to AEP Common Shareholders
 
$
92

 
$
119

 
$
279

 
$
281


Summary of KWh Energy Sales for Transmission and Distribution Utilities
 
Three Months Ended 
 September 30,
 
 
Nine Months Ended 
 September 30,
 
 
2014
 
2013
 
 
2014
 
2013
 
 
(in millions of KWhs)
 
Retail:
 

 
 

 
 
 

 
 

 
Residential
7,194

 
7,371

 
 
20,280

 
19,589

 
Commercial
6,796

 
6,827

 
 
19,012

 
18,693

 
Industrial
5,489

 
5,648

 
 
16,262

 
17,277

 
Miscellaneous
187

 
195

 
 
540

 
535

 
Total Retail (a)
19,666

 
20,041

 
 
56,094

 
56,094

 
 
 
 
 
 
 
 
 
 
 
Wholesale (b)
575

 
NM

(c)
 
1,727

 
NM

(c)

(a)
Represents energy delivered to distribution customers.
(b)
Ohio's contractually obligated purchases of OVEC power sold into PJM.
(c)
2014 is not comparable to 2013 due to the 2013 asset transfers related to corporate separation in Ohio on December 31, 2013 and the termination of the Interconnection Agreement effective January 1, 2014.
NM
Not meaningful.


21



Heating degree days and cooling degree days are metrics commonly used in the utility industry as a measure of the impact of weather on revenues.  In general, degree day changes in our eastern region have a larger effect on net income than changes in our western region due to the relative size of the two regions and the number of customers within each region.

Summary of Heating and Cooling Degree Days for Transmission and Distribution Utilities
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
2014
 
2013
 
(in degree days)
Eastern Region
 

 
 

 
 

 
 

Actual  Heating (a)
1

 
1

 
2,540

 
2,165

Normal  Heating (b)
7

 
8

 
2,074

 
2,083

 
 
 
 
 
 
 
 
Actual  Cooling (c)
581

 
645

 
943

 
991

Normal  Cooling (b)
663

 
660

 
946

 
940

 
 
 
 
 
 
 
 
Western Region
 

 
 

 
 

 
 

Actual  Heating (a)

 

 
302

 
143

Normal  Heating (b)

 

 
200

 
205

 
 
 
 
 
 
 
 
Actual  Cooling (d)
1,367

 
1,387

 
2,309

 
2,464

Normal  Cooling (b)
1,346

 
1,339

 
2,358

 
2,346


(a)
Heating degree days are calculated on a 55 degree temperature base.
(b)
Normal Heating/Cooling represents the thirty-year average of degree days.
(c)
Eastern Region cooling degree days are calculated on a 65 degree temperature base.
(d)
Western Region cooling degree days are calculated on a 70 degree temperature base.


22



Third Quarter of 2014 Compared to Third Quarter of 2013
Reconciliation of Third Quarter of 2013 to Third Quarter of 2014
Earnings Attributable to AEP Common Shareholders from Transmission and Distribution Utilities
(in millions)
 
 
 
Third Quarter of 2013
 
$
119

 
 
 

Changes in Gross Margin:
 
 

Retail Margins
 
25

Transmission Revenues
 
12

Other Revenues
 
1

Total Change in Gross Margin
 
38

 
 
 

Changes in Expenses and Other:
 
 

Other Operation and Maintenance
 
(75
)
Depreciation and Amortization
 
(17
)
Taxes Other Than Income Taxes
 
1

Interest and Investment Income
 
3

Carrying Costs Income
 
3

Allowance for Equity Funds Used During Construction
 
1

Interest Expense
 
4

Total Change in Expenses and Other
 
(80
)
 
 
 

Income Tax Expense
 
15

 
 
 

Third Quarter of 2014
 
$
92


The major components of the increase in Gross Margin, defined as revenues less the related direct cost of purchased electricity and amortization of generation deferrals were as follows:

Retail Margins increased $25 million primarily due to the following:
A $23 million increase in TCC and TNC revenues primarily due to increased transmission investment in Texas as well as increased usage.
A $2 million increase in revenues primarily associated with Ohio rate riders/trackers and PJM revenues, partially offset by regulatory provisions. These increases have corresponding increases in expense items discussed below.
Transmission Revenues increased $12 million primarily due to increased transmission investment, increased transmission revenues from customers who have switched to alternative CRES providers and rate increases for customers in the PJM region.  This increase in transmission revenues related to CRES providers primarily offsets lost revenues included in Retail Margins above.

23



Expenses and Other and Income Tax Expense changed between years as follows:

Other Operation and Maintenance expenses increased $75 million primarily due to the following:
A $74 million increase in expenses, including PJM expenses and the Ohio storm amortization, currently fully recovered in rate recovery riders/trackers.
A $9 million increase in employee-related expenses.
These increases were partially offset by:
A $7 million decrease in transmission expenses primarily related to PJM services.    
Depreciation and Amortization expenses increased $17 million primarily due to the following:
A $9 million increase in amortization related to TCC and OPCo securitizations, which are offset in Retail Margins above.
An $8 million increase due to an increase in the depreciable base of transmission and distribution assets.
Interest Expense decreased $4 million primarily due to reduced long-term debt outstanding.
Income Tax Expense decreased $15 million primarily due to a decrease in pretax book income.


24



Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013
Reconciliation of Nine Months Ended September 30, 2013 to Nine Months Ended September 30, 2014
Earnings Attributable to AEP Common Shareholders from Transmission and Distribution Utilities
(in millions)
 
 
 
Nine Months Ended September 30, 2013
 
$
281

 
 
 

Changes in Gross Margin:
 
 

Retail Margins
 
172

Transmission Revenues
 
59

Other Revenues
 
10

Total Change in Gross Margin
 
241

 
 
 

Changes in Expenses and Other:
 
 

Other Operation and Maintenance
 
(203
)
Depreciation and Amortization
 
(50
)
Taxes Other Than Income Taxes
 
(17
)
Interest and Investment Income
 
8

Carrying Costs Income
 
10

Allowance for Equity Funds Used During Construction
 
4

Interest Expense
 
9

Total Change in Expenses and Other
 
(239
)
 
 
 

Income Tax Expense
 
(4
)
 
 
 

Nine Months Ended September 30, 2014
 
$
279


The major components of the increase in Gross Margin, defined as revenues less the related direct cost of purchased electricity and amortization of generation deferrals were as follows:

Retail Margins increased $172 million primarily due to the following:
A $101 million increase in revenues primarily associated with Ohio rate riders/trackers and PJM revenues, partially offset by regulatory provisions. These increases have corresponding increases in expense items discussed below.
A $71 million increase in TCC and TNC revenues primarily due to increased transmission investment in Texas as well as increased usage.
Transmission Revenues increased $59 million primarily due to increased transmission investment, increased transmission revenues from customers who have switched to alternative CRES providers and rate increases for customers in the PJM region.  This increase in transmission revenues related to CRES providers primarily offsets lost revenues included in Retail Margins above.
Other Revenues increased $10 million primarily due to an increase in Texas securitization revenues which is offset in Depreciation and Amortization below. This increase is also partially offset by a $4 million demand side management bonus recorded in 2013.


25



Expenses and Other changed between years as follows:

Other Operation and Maintenance expenses increased $203 million primarily due to the following:
A $150 million increase in recoverable expenses, including PJM expenses and the Ohio storm amortization, currently fully recovered in rate recovery riders/trackers.
A $19 million increase in expenses related to various distribution services and vegetation management.
A $14 million increase in remitted Universal Service Fund (USF) surcharge payments to the Ohio Department of Development to fund an energy assistance program for qualified Ohio customers.  This increase has corresponding increases in Retail Margins above.
An $11 million increase in employee-related expenses.
A $7 million increase in storm-related expenses primarily in OPCo's service territory.
Depreciation and Amortization expenses increased $50 million primarily due to the following:
A $32 million increase in amortization related to TCC and OPCo securitizations, which are offset in Retail Margins.
An $18 million increase due to an increase in the depreciable base of transmission and distribution assets.
Taxes Other Than Income Taxes increased $17 million primarily due to increased property taxes.
Interest and Investment Income increased $8 million primarily due to interest on affiliated notes resulting from corporate separation.
Carrying Costs Income increased $10 million primarily due to increased capacity deferral carrying charges.
Interest Expense decreased $9 million primarily due to reduced long-term debt outstanding.

26



AEP TRANSMISSION HOLDCO

Third Quarter of 2014 Compared to Third Quarter of 2013

Earnings Attributable to AEP Common Shareholders from our AEP Transmission Holdco segment increased from $22 million in 2013 to $43 million in 2014 primarily due to an increase in investments by our wholly-owned transmission subsidiaries and ETT.

Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013

Earnings Attributable to AEP Common Shareholders from our AEP Transmission Holdco segment increased from $53 million in 2013 to $114 million in 2014 primarily due to an increase in investments by our wholly-owned transmission subsidiaries and ETT. During this period, net plant increased from $1.3 billion to $2.4 billion.

GENERATION & MARKETING
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
Generation & Marketing
 
2014
 
2013
 
2014
 
2013
 
 
(in millions)
Revenues
 
$
901

 
$
1,001

 
$
3,065

 
$
2,813

Fuel, Purchased Electricity and Other
 
529

 
648

 
1,894

 
1,764

Gross Margin
 
372

 
353

 
1,171

 
1,049

Other Operation and Maintenance
 
122

 
106

 
363

 
342

Asset Impairments and Other Related Charges
 

 

 

 
154

Depreciation and Amortization
 
56

 
57

 
169

 
180

Taxes Other Than Income Taxes
 
12

 
11

 
37

 
44

Operating Income
 
182

 
179

 
602

 
329

Interest and Investment Income
 
2

 

 
4

 
2

Interest Expense
 
(12
)
 
(10
)
 
(35
)
 
(44
)
Income Before Income Tax Expense
 
172

 
169

 
571

 
287

Income Tax Expense
 
55

 
57

 
193

 
99

Net Income
 
117

 
112

 
378

 
188

Net Income Attributable to Noncontrolling Interests
 

 

 

 

Earnings Attributable to AEP Common Shareholders
 
$
117

 
$
112

 
$
378

 
$
188


Summary of MWhs Generated for Generation & Marketing
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
2014
 
2013
 
(in millions of MWhs)
Fuel Type:
 

 
 

 
 

 
 

Coal
16

 
10

 
37

 
29

Natural Gas
2

 
2

 
6

 
5

Total MWhs
18

 
12

 
43

 
34



27



Third Quarter of 2014 Compared to Third Quarter of 2013
Reconciliation of Third Quarter of 2013 to Third Quarter of 2014
Earnings Attributable to AEP Common Shareholders from Generation & Marketing
(in millions)
 
 
 
Third Quarter of 2013
 
$
112

 
 
 

Changes in Gross Margin:
 
 

Generation
 
19

Total Change in Gross Margin
 
19

 
 
 

Changes in Expenses and Other:
 
 

Other Operation and Maintenance
 
(16
)
Depreciation and Amortization
 
1

Taxes Other Than Income Taxes
 
(1
)
Interest and Investment Income
 
2

Interest Expense
 
(2
)
Total Change in Expenses and Other
 
(16
)
 
 
 

Income Tax Expense
 
2

 
 
 

Third Quarter of 2014
 
$
117


The major components of the increase in Gross Margin, defined as revenues less the related direct cost of fuel, including consumption of chemicals and emissions allowances, and purchased electricity were as follows:

Gross Margin increased $19 million primarily due to lower fuel expenses.

Expenses and Other changed between years as follows:

Other Operation and Maintenance expenses increased $16 million primarily due to an increase in plant maintenance.

28



Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013
Reconciliation of Nine Months Ended September 30, 2013 to Nine Months Ended September 30, 2014
Earnings Attributable to AEP Common Shareholders from Generation & Marketing
(in millions)
 
 
 
Nine Months Ended September 30, 2013
 
$
188

 
 
 

Changes in Gross Margin:
 
 

Generation
 
118

Retail, Trading and Marketing
 
4

Total Change in Gross Margin
 
122

 
 
 

Changes in Expenses and Other:
 
 

Other Operation and Maintenance
 
(21
)
Asset Impairments and Other Related Charges
 
154

Depreciation and Amortization
 
11

Taxes Other Than Income Taxes
 
7

Interest and Investment Income
 
2

Interest Expense
 
9

Total Change in Expenses and Other
 
162

 
 
 

Income Tax Expense
 
(94
)
 
 
 

Nine Months Ended September 30, 2014
 
$
378


The major components of the increase in Gross Margin, defined as revenues less the related direct cost of fuel, including consumption of chemicals and emissions allowances, and purchased electricity were as follows:

Generation increased $118 million primarily due to increased demand and market prices driven by cold temperatures in the first quarter of 2014.

Expenses and Other and Income Tax Expense changed between years as follows:

Other Operation and Maintenance expenses increased $21 million primarily due to increased plant maintenance.
Asset Impairments and Other Related Charges decreased by $154 million primarily due to the 2013 impairment of Muskingum River Plant, Unit 5.
Depreciation and Amortization expenses decreased $11 million primarily due to the 2013 impairment of Muskingum River Plant, Unit 5.
Taxes Other Than Income Taxes decreased $7 million primarily due to a decrease in property taxes related to the 2012 and 2013 plant impairments.
Interest Expense decreased $9 million primarily due to lower outstanding long-term debt balances and lower long-term interest rates.
Income Tax Expense increased $94 million primarily due to an increase in pretax book income.


29



AEP RIVER OPERATIONS

Third Quarter of 2014 Compared to Third Quarter of 2013

Earnings Attributable to AEP Common Shareholders from our AEP River Operations segment increased from a loss of $1 million in 2013 to income of $11 million in 2014 due to a 20% increase in barge freight revenue for the third quarter of 2014 compared to the third quarter of 2013. The increase in freight revenue is primarily due to improvements in barge freight demand.

Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013

Earnings Attributable to AEP Common Shareholders from our AEP River Operations segment increased from a loss of $12 million in 2013 to income of $17 million in 2014 due to a 30% increase in barge freight revenue for 2014 compared to 2013. The additional revenue resulted from improvements in river conditions and increased barge freight demand.

CORPORATE AND OTHER

Third Quarter of 2014 Compared to Third Quarter of 2013

Earnings Attributable to AEP Common Shareholders from Corporate and Other increased from $8 million in 2013 to $11 million in 2014 primarily due to the recording of federal and state income tax adjustments in the third quarter of 2014.

Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013

Earnings Attributable to AEP Common Shareholders from Corporate and Other decreased from $119 million in 2013 to $4 million in 2014 primarily due to a favorable U.K. Windfall Tax decision by the U.S. Supreme Court in the second quarter of 2013.

AEP SYSTEM INCOME TAXES

Third Quarter of 2014 Compared to Third Quarter of 2013

Income Tax Expense increased $12 million primarily due to an increase in pretax book income, partially offset by the recording of federal and state income tax adjustments in the third quarter of 2014.

Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013

Income Tax Expense increased $271 million primarily due to an increase in pretax book income and by a favorable U.K. Windfall Tax decision by the U.S. Supreme Court in the second quarter of 2013.


30



FINANCIAL CONDITION

We measure our financial condition by the strength of our balance sheet and the liquidity provided by our cash flows.

LIQUIDITY AND CAPITAL RESOURCES

Debt and Equity Capitalization
 
September 30, 2014
 
December 31, 2013
 
(dollars in millions)
Long-term Debt, including amounts due within one year
$
18,058

 
49.9
%
 
$
18,377

 
52.2
%
Short-term Debt
1,282

 
3.5

 
757

 
2.1

Total Debt
19,340

 
53.4

 
19,134

 
54.3

AEP Common Equity
16,868

 
46.6

 
16,085

 
45.7

Noncontrolling Interests
4

 

 
1

 

 
 
 
 
 
 
 
 
Total Debt and Equity Capitalization
$
36,212

 
100.0
%
 
$
35,220

 
100.0
%

Our ratio of debt-to-total capital improved from 54.3% as of December 31, 2013 to 53.4% as of September 30, 2014 primarily due to an increase in our common equity from earnings.

Liquidity

Liquidity, or access to cash, is an important factor in determining our financial stability.  We believe we have adequate liquidity under our existing credit facilities.  As of September 30, 2014, we had $3.5 billion in aggregate credit facility commitments to support our operations.  Additional liquidity is available from cash from operations and a receivables securitization agreement.  We are committed to maintaining adequate liquidity.  We generally use short-term borrowings to fund working capital needs, property acquisitions and construction until long-term funding is arranged.  Sources of long-term funding include issuance of long-term debt, sale-and-leaseback or leasing agreements or common stock.

Commercial Paper Credit Facilities

We manage our liquidity by maintaining adequate external financing commitments.  As of September 30, 2014, our available liquidity was approximately $3.1 billion as illustrated in the table below:
 
 
Amount
 
Maturity
 
 
(in millions)
 
 
Commercial Paper Backup:
 

 
 
 
Revolving Credit Facility
$
1,750

 
June 2016
 
Revolving Credit Facility
1,750

 
July 2017
Total
3,500

 
 
Cash and Cash Equivalents
194

 
 
Total Liquidity Sources
3,694

 
 
Less:
AEP Commercial Paper Outstanding
532

 
 
 
Letters of Credit Issued
76

 
 
 
 
 
 
 
Net Available Liquidity
$
3,086

 
 

We have credit facilities totaling $3.5 billion to support our commercial paper program.  The credit facilities allow us to issue letters of credit in an amount up to $1.2 billion.

We use our commercial paper program to meet the short-term borrowing needs of our subsidiaries.  The program is used to fund both a Utility Money Pool, which funds the utility subsidiaries, and a Nonutility Money Pool, which funds the majority of the nonutility subsidiaries.  In addition, the program also funds, as direct borrowers, the short-term

31



debt requirements of other subsidiaries that are not participants in either money pool for regulatory or operational reasons.  The maximum amount of commercial paper outstanding during the first nine months of 2014 was $877 million.  The weighted-average interest rate for our commercial paper during 2014 was 0.26%.

Other Credit Facilities

In January 2014, we issued letters of credit under an $85 million uncommitted facility signed in October 2013. As of September 30, 2014, the maximum future payment for letters of credit issued under the uncommitted facility was $78 million with maturity dates through January 2015. An uncommitted facility gives the issuer of the facility the right to accept or decline each request we make under the facility.

Securitized Accounts Receivable

Our receivables securitization agreement provides a commitment of $750 million from bank conduits to purchase receivables. The agreement was increased from $700 million and expires in June 2016.

Debt Covenants and Borrowing Limitations

Our revolving credit agreements contain certain covenants and require us to maintain our percentage of debt to total capitalization at a level that does not exceed 67.5%. The method for calculating outstanding debt and capitalization is contractually defined in our credit agreements. Debt as defined in the revolving credit agreements excludes securitization bonds and debt of AEP Credit. As of September 30, 2014, this contractually-defined percentage was 49.9%. Nonperformance under these covenants could result in an event of default under these credit agreements. As of September 30, 2014, we complied with all of the covenants contained in these credit agreements. In addition, the acceleration of our payment obligations, or the obligations of certain of our major subsidiaries, prior to maturity under any other agreement or instrument relating to debt outstanding in excess of $50 million, would cause an event of default under these credit agreements. This condition also applies in a majority of our non-exchange traded commodity contracts and would similarly allow lenders and counterparties to declare the outstanding amounts payable. However, a default under our non-exchange traded commodity contracts does not cause an event of default under our credit agreements.

The revolving credit facilities do not permit the lenders to refuse a draw on any facility if a material adverse change occurs.

Utility Money Pool borrowings and external borrowings may not exceed amounts authorized by regulatory orders. As of September 30, 2014, we had not exceeded those authorized limits.

Dividend Policy and Restrictions

The Board of Directors declared a quarterly dividend of $0.53 per share in October 2014. Future dividends may vary depending upon our profit levels, operating cash flow levels and capital requirements, as well as financial and other business conditions existing at the time. Our income primarily derives from our common stock equity in the earnings of our utility subsidiaries. Various financing arrangements and regulatory requirements may impose certain restrictions on the ability of our utility subsidiaries to transfer funds to us in the form of dividends.

We do not believe restrictions related to our various financing arrangements and regulatory requirements will have any significant impact on Parent’s ability to access cash to meet the payment of dividends on its common stock.

Credit Ratings

We do not have any credit arrangements that would require material changes in payment schedules or terminations as a result of a credit downgrade, but our access to the commercial paper market may depend on our credit ratings.  In addition, downgrades in our credit ratings by one of the rating agencies could increase our borrowing costs.  Counterparty concerns about the credit quality of AEP or its utility subsidiaries could subject us to additional collateral demands under adequate assurance clauses under our derivative and non-derivative energy contracts.

32




CASH FLOW

Managing our cash flows is a major factor in maintaining our liquidity strength.
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
(in millions)
Cash and Cash Equivalents at Beginning of Period
$
118

 
$
279

Net Cash Flows from Operating Activities
3,725

 
3,040

Net Cash Flows Used for Investing Activities
(3,081
)
 
(2,520
)
Net Cash Flows Used for Financing Activities
(568
)
 
(652
)
Net Increase (Decrease) in Cash and Cash Equivalents
76

 
(132
)
Cash and Cash Equivalents at End of Period
$
194

 
$
147


Cash from operations and short-term borrowings provides working capital and allows us to meet other short-term cash needs.
 
Operating Activities
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
(in millions)
Net Income
$
1,446

 
$
1,137

Depreciation and Amortization
1,441

 
1,310

Other
838

 
593

Net Cash Flows from Operating Activities
$
3,725

 
$
3,040


Net Cash Flows from Operating Activities were $3.7 billion in 2014 consisting primarily of Net Income of $1.4 billion and $1.4 billion of noncash Depreciation and Amortization partially offset by $106 million of Ohio capacity deferrals as a result of the PUCO's July 2012 approval of a capacity deferral mechanism. Other changes represent items that had a current period cash flow impact, such as changes in working capital, as well as items that represent future rights or obligations to receive or pay cash, such as regulatory assets and liabilities. Deferred Income Taxes increased primarily due to provisions in the Taxpayer Relief Act of 2012 and an increase in tax/book temporary differences from operations. The reduction in Fuel, Material and Supplies balances reflects a decrease in fuel inventory due to the cold winter weather and increased generation.

Net Cash Flows from Operating Activities were $3 billion in 2013 consisting primarily of Net Income of $1.1 billion, and $1.3 billion of noncash Depreciation and Amortization and $298 million of Asset Impairments related to Muskingum River Plant, Unit 5, Turk and Big Sandy Plants, partially offset by $157 million of Ohio capacity deferrals as a result of the PUCO's July 2012 approval of a capacity deferral mechanism. Other changes represent items that had a current period cash flow impact, such as changes in working capital, as well as items that represent future rights or obligations to receive or pay cash, such as regulatory assets and liabilities. Deferred Income Taxes increased primarily due to provisions in the Taxpayer Relief Act of 2012 and an increase in tax/book temporary differences from operations. Net cash flows for Accrued Taxes were a result of recording the estimated federal tax loss associated with tax/book temporary differences and the recognition of the tax benefit related to the U.K. Windfall Tax.


33



Investing Activities
 
Nine Months Ended 
 September 30,
 
2014
 
2013
 
(in millions)
Construction Expenditures
$
(2,899
)
 
$
(2,481
)
Acquisitions of Nuclear Fuel
(109
)
 
(110
)
Acquisitions of Assets/Businesses
(45
)
 
(6
)
Insurance Proceeds Related to Cook Plant Fire

 
72

Proceeds from Sales of Assets
2

 
14

Other
(30