Why did AEP's net income decline in 1997 even though operating results improved?

Net income fell 13% to $511 million because of a one-time $109 million extraordinary loss from the UK windfall tax, which retroactively raised the privatization value of Yorkshire Electricity. Excluding this charge, income rose 6% to $620 million, or $3.28 per share.

What is the status and value of the proposed merger with CSW?

AEP and Central and South West Corporation agreed in December 1997 to a stock-for-stock merger in which each CSW share converts into 0.6 AEP shares, valuing the deal at about $6.6 billion. Completion is expected in the first half of 1999, pending shareholder and regulatory approvals; the combination is expected to be accounted for as a pooling of interests.

How serious is the Cook Plant shutdown for AEP?

Both Cook Plant units were shut down in September 1997 after NRC questions about safety systems, and management could not say when they would return to service. The plant has about 2,110 MW of capacity, and a prolonged outage could adversely affect results, cash flows and possibly financial condition, although the timing and extent of the impact are unknown.

Is AEP's dividend and balance sheet at risk?

The annual dividend was maintained at $2.40 per share ($0.60 quarterly), with a payout ratio of about 73% before the extraordinary item. The common equity ratio was 45.5%, above the company's 40% target, and subsidiaries continued refinancing to lower costs, though the company's debt rose with the Yorkshire investment and non-regulated growth.

What are the biggest regulatory risks to AEP's future earnings?

Key risks include the transition to retail competition and recovery of stranded costs, possible repeal of PUHCA affecting intra-system cost-based transactions, proposed NOx emission limits about 85% below 1990 levels, the costs of meeting the new ozone and fine particulate standards, and a potential $286 million disallowance of COLI interest deductions. Management says it cannot predict the outcome, and some of these costs may not be recoverable from customers.

AEP 10-K FY1997 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed March 27, 1998. Cited figures are marked; the original filing is the authoritative source.

American Electric Power Company, Inc. (AEP) reported 1997 operating revenues of $6.16 billion^a, up 5% from $5.85 billion in 1996, driven mainly by new wholesale power marketing (launched July 1997) and rising transmission service revenues.

Operating income fell 2% to $984 million^b, and purchased power expense jumped 384% to $416 million as the marketing business scaled up. Net income declined 13% to $511 million because of a one-time $109 million extraordinary loss from the UK windfall tax tied to the April 1997 acquisition of Yorkshire Electricity. Income before that extraordinary item rose 6% to $620 million, or $3.28 per share, and the dividend was held at $2.40 per share.

The most consequential risks for investors are the pending merger with Central and South West Corporation (CSW), valued at about $6.6 billion^c and expected to close in the first half of 1999, and the shutdown of both Cook Plant nuclear units since September 1997 following NRC safety concerns, with no restart date set. The company also faces uncertain electric industry restructuring and stranded-cost recovery, the possible repeal of PUHCA, a potentially material disallowance of about $286 million in COLI interest deductions, and costly NOx and other air-quality rules. Management frames these as threats to earnings if costs cannot be recovered from customers.

Financially, the balance sheet remains solid, with a common equity ratio of 45.5%, against a company target of at least 40%. Total assets reached $16.6 billion^d, and the company issued $882 million of long-term debt while retiring $433 million of preferred stock. Its investments in new ventures, including Yorkshire, a China generation project, and an energy joint venture with Conoco, add growth options but also increase risk and borrowing.

02—Key points

Key Highlights

Revenue reached a record $6.16 billion (+5%), surpassing $6 billion for the first time, helped by the new power marketing business that launched in July 1997 and a $33 million rise in transmission service revenues.
Net income fell 13% to $511 million, or $2.70 per share, because of a $109 million extraordinary loss from the UK windfall tax on Yorkshire Electricity.
Income before the extraordinary item rose 6% to $620 million, or $3.28 per share (vs. $3.14 in 1996), supported by lower preferred dividends and $34 million in Yorkshire equity earnings.
Pending merger with Central and South West Corp. (approx. $6.6 billion, 0.6 AEP shares per CSW share) is expected to close in the first half of 1999, subject to shareholder and regulatory approvals.
Both Cook Plant nuclear units (about 2,110 MW) have been shut down since September 1997 after NRC safety-system concerns, with no restart timeline; a prolonged outage could materially hurt results.
Balance sheet strength: common equity ratio of 45.5% (target at least 40%), total assets of $16.6 billion, and a $2.40 annual dividend held flat with a $1.2 billion... (see note) common equity of $4.68 billion.
Significant regulatory and environmental exposure: proposed NOx reductions of about 85%, Phase II Clean Air Act rules, potential mine closures, and a possible $286 million COLI interest-deduction disallowance.

03—Questions

Frequently Asked Questions

Why did AEP's net income decline in 1997 even though operating results improved?
Net income fell 13% to $511 million because of a one-time $109 million extraordinary loss from the UK windfall tax, which retroactively raised the privatization value of Yorkshire Electricity. Excluding this charge, income rose 6% to $620 million, or $3.28 per share.
What is the status and value of the proposed merger with CSW?
AEP and Central and South West Corporation agreed in December 1997 to a stock-for-stock merger in which each CSW share converts into 0.6 AEP shares, valuing the deal at about $6.6 billion. Completion is expected in the first half of 1999, pending shareholder and regulatory approvals; the combination is expected to be accounted for as a pooling of interests.
How serious is the Cook Plant shutdown for AEP?
Both Cook Plant units were shut down in September 1997 after NRC questions about safety systems, and management could not say when they would return to service. The plant has about 2,110 MW of capacity, and a prolonged outage could adversely affect results, cash flows and possibly financial condition, although the timing and extent of the impact are unknown.
Is AEP's dividend and balance sheet at risk?
The annual dividend was maintained at $2.40 per share ($0.60 quarterly), with a payout ratio of about 73% before the extraordinary item. The common equity ratio was 45.5%, above the company's 40% target, and subsidiaries continued refinancing to lower costs, though the company's debt rose with the Yorkshire investment and non-regulated growth.
What are the biggest regulatory risks to AEP's future earnings?
Key risks include the transition to retail competition and recovery of stranded costs, possible repeal of PUHCA affecting intra-system cost-based transactions, proposed NOx emission limits about 85% below 1990 levels, the costs of meeting the new ozone and fine particulate standards, and a potential $286 million disallowance of COLI interest deductions. Management says it cannot predict the outcome, and some of these costs may not be recoverable from customers.

04—Continue

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