Why did AEP post a net loss in 2002 after a strong 2001?

The loss reflected about $1.4 billion of pre-tax asset and investment impairments recorded mainly in Q4 2002, tied to the downturn in energy trading markets, lower long-term U.K. and wholesale power prices, and telecommunications and Brazilian investments. Add the $350 million SFAS 142 transitional impairment and discontinued-operations losses, and net income turned to a $519 million loss.

Is AEP's dividend safe after the reduction?

The dividend was cut about 40%, to $0.35 per quarter from $0.60, starting with the second quarter of 2003. Management says this preserves roughly $340 million a year to strengthen the balance sheet and fund debt reduction. Because 2002 earnings were negative, the 2002 payout ratio was negative at about -153%, so the reduced dividend is only covered if earnings recover.

How have the credit rating changes affected AEP's financing?

Moody's downgraded AEP's senior unsecured debt to Baa3 and its commercial paper to P-3, and S&P and Fitch lowered senior debt to BBB, all with stable outlooks. The commercial paper downgrade limits AEP's access to the commercial paper market, so the company relies more on bank facilities, subsidiary-level financing and asset sales.

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

Key risks include the Texas 2004 true-up that will determine stranded costs and fuel balances, the cost of meeting NOx and other environmental rules (estimated at $1.3 to $2 billion), the Clean Air Act enforcement case with potential penalties and retrofit costs, RTO transfer timing, further impairment of U.K. and non-core assets, and outcomes of shareholder lawsuits and federal energy-market investigations.

AEP 10-K FY2002 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K/A filed May 14, 2003. Cited figures are marked; the original filing is the authoritative source.

American Electric Power (AEP) reported a 2002 net loss of $519 million^a, or $(1.57) per share, versus net income of $971 million ($3.01 per share) in 2001.

The swing was driven by roughly $1.4 billion^b of pre-tax impairments and investment value losses recorded largely in the fourth quarter, tied to collapsing wholesale energy trading margins, weak U.K. generation prices, and telecom and foreign investments. Income before discontinued operations, extraordinary items and the cumulative accounting change fell to just $21 million from $917 million, and the $350 million SFAS 142 transitional impairment on U.K. and Australian operations further depressed results. Revenues rose 10% to $14.5 billion, but that growth reflects reclassified gross trading volumes rather than underlying profitability.

The balance sheet and dividend outlook are the central investor concerns. Common equity fell to $7.1 billion^c from $8.2 billion, and common equity to total capitalization dropped to 32%. Moody's cut AEP's senior unsecured rating to Baa3 and its commercial paper to P-3, while S&P and Fitch moved AEP to BBB, and AEP's access to commercial paper is now more limited.

Management is reducing the common dividend by about 40% to $0.35^d per quarter starting in the second quarter of 2003, saving roughly $340 million annually, and is pursuing asset sales, debt reduction, cost cuts and possible additional equity issuance. Liquidity at year-end was reported at $3.5 billion of available liquidity. The company is also exiting much of its energy trading business to focus on its regulated utility operations, which serve about five million customers across eleven states.

Key ongoing risks include Texas stranded cost and 2004 true-up proceedings, RTO transfers to PJM and MISO, nearly $1.3 to $2 billion of NOx compliance spending, the Clean Air Act enforcement suit, pending energy-market investigations, and shareholder litigation. Several of these outcomes remain unresolved, so the filing points to a company in a multi-year repair phase rather than a clean recovery.

02—Key points

Key Highlights

2002 net loss of $519 million ($1.57 per share) versus 2001 net income of $971 million ($3.01 per share), driven by about $1.4 billion of pre-tax impairments and investment value losses.
Income before discontinued operations, extraordinary items and accounting change plunged to $21 million from $917 million, with $350 million of SFAS 142 transitional goodwill impairment on U.K. and Australian operations.
Dividend cut of roughly 40% to $0.35 per quarter beginning Q2 2003, saving about $340 million a year to improve retained earnings and free cash flow for debt reduction.
Credit downgrades in early 2003: Moody's cut AEP to Baa3 and commercial paper to P-3, and S&P lowered senior unsecured debt to BBB, limiting commercial paper access.
Common equity declined to $7.1 billion from $8.2 billion, and common equity to total capitalization fell to 32% from 36%.
Strategic pivot away from wholesale energy trading and non-core assets (SEEBOARD and CitiPower sold; Texas REPs sold to Centrica) toward core regulated utility operations, with about $3.5 billion of available liquidity at year-end 2002.
Significant contingent exposures include Texas 2004 true-up stranded costs, RTO transfers, NOx compliance capex of $1.3 to $2 billion, the Federal EPA Clean Air Act suit, and shareholder and energy-market investigation litigation.

03—Questions

Frequently Asked Questions

Why did AEP post a net loss in 2002 after a strong 2001?
The loss reflected about $1.4 billion of pre-tax asset and investment impairments recorded mainly in Q4 2002, tied to the downturn in energy trading markets, lower long-term U.K. and wholesale power prices, and telecommunications and Brazilian investments. Add the $350 million SFAS 142 transitional impairment and discontinued-operations losses, and net income turned to a $519 million loss.
Is AEP's dividend safe after the reduction?
The dividend was cut about 40%, to $0.35 per quarter from $0.60, starting with the second quarter of 2003. Management says this preserves roughly $340 million a year to strengthen the balance sheet and fund debt reduction. Because 2002 earnings were negative, the 2002 payout ratio was negative at about -153%, so the reduced dividend is only covered if earnings recover.
How have the credit rating changes affected AEP's financing?
Moody's downgraded AEP's senior unsecured debt to Baa3 and its commercial paper to P-3, and S&P and Fitch lowered senior debt to BBB, all with stable outlooks. The commercial paper downgrade limits AEP's access to the commercial paper market, so the company relies more on bank facilities, subsidiary-level financing and asset sales.
What are the biggest risks to AEP's future earnings?
Key risks include the Texas 2004 true-up that will determine stranded costs and fuel balances, the cost of meeting NOx and other environmental rules (estimated at $1.3 to $2 billion), the Clean Air Act enforcement case with potential penalties and retrofit costs, RTO transfer timing, further impairment of U.K. and non-core assets, and outcomes of shareholder lawsuits and federal energy-market investigations.

04—Continue

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