美國電力 (AEP) 2010 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the first quarter 2010 earnings conference all. At this time, all participants are in a listen-only mode and later we will conduct a question-and-answer session with instructions being given at that time. (Operator Instructions). As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Chuck Zebula. Please go ahead, sir.

Thank you, Keely. Good morning and welcome to the 2010 first quarter earnings webcast of American Electric Power. Our earnings release and related financial information are available on our website, aep.com. The presentation slides are also available on our website.

Today we will be making forward-looking statements during the call. There are many factors that may cause future results to differ materially from these statements. Please refer to our SEC filings for a discussion of the factors that may cause results to differ from management's forecast. Joining me this morning are Mike Morris, our Chairman, President and CEO and Brian Tierney, our CFO. We will take your questions following their remarks. I will now turn the call over to Mike.

Thanks, Chuck. I thought we were going to go right to Q&A there for a minute. Good morning, everybody. Thank you for being with us. We appreciate the opportunity to update you on the first quarter performance in a very interesting year, 2010.

As I know you've already seen from our press release, we did accomplish our ongoing earnings of $0.76 a share. We had to make a GAAP adjustment, thanks to our friends who passed the Patient Protection and Affordability Care Act, which of course is anything but that, to reflect the change in the tax treatment for retiree medical benefits under Subpart D. Having said that, we continue to feel comfortable about reaffirming our guidance of $2.80 to $3.20 a share.

We, like so many other utilities, were treated reasonably well by weather throughout the first quarter. We actually saw some encouraging sales results in our Western footprint, but sales results are a concern in our Eastern footprint. Revenues were up. Earnings were up and earnings per share, as I said, were $0.76. We are concerned, however, about activities here in the Eastern footprint and I'll address that later. The overall performance would surely helped by successful rate proceedings through 2009 and early here in 2010.

We did have some very strong sales volumes in the offsystem market here in the first quarter. However, we have some concern about that again as we go forward and we'll address that in a minute. Moody's finally saw the light and moved us from a negative outlook to a stable outlook, and we really appreciate the deep diligence that they went through to come to that conclusion. We obviously agree with them 100%.

On the corporate actions activity, let me just diverge for a moment because Tuesday of this week at our annual meeting, we did in fact announce to our shareholders the 400th consecutive quarterly dividend. In fact, the Board voted to raise that dividend by 2.4%. That may not seem like a lot to many of you, but when you reflect back on a company that has paid dividends through all of the gyrations that this great country has gone through since 1910, it really is something. In fact, Chuck put together some unique factoids for me. Our first dividend was paid to 35 shareholders who owned 50,000 shares and William Howard Taft, a great resident of Cincinnati, Ohio was in the White House.

And when we pay our dividend on the 10th of June this year, of course Barack Obama, our 44th President will be in the White House, and we will pay dividends to 350,000 shareholders who own 478 million shares; really quite an amazing story when you think about that and something that we are very, very proud of. We also did something unique this year, we were the first company to combine our sustainability and annual report in a single integrated accountability report and we hope that you'll take full advantage of looking at that. It surely is worth the read.

We have, as most of you know, two weeks ago announced an effort here at American Electric Power to take a very serious look at and some significant reductions in our overall cost structures here in 2010. This really is driven by the comments that I said just a few moments ago. The sales volumes in the Eastern footprint continue to be of some concern, although residential sales were relatively steady. The aluminum manufacturers are yet to come back in business in Ohio and West Virginia, and that's obviously a volume metric and a revenue stream issue for us. And we're seeing, as we had seen before in the 1980s and in some of the other shorter recessions, a real lag in recovery of commercial sales.

So with an eye toward that and a commitment to make certain that we stay within our previously announced guidance range and deliver to our shareholders, we're going through a very significant voluntary and involuntary headcount reduction as well as realignment of O&M expenses, and we're taking a real hard look at that. This is the first time we've really had the occasion or the need to do this at American Electric Power. And as we've told you many times before, when revenues are down, we adjust our spending profile. When revenues are up, we adjust that spending profile in an upward direction. We are being, I think, very cautious here. I think we are being very responsible and I assure you that we will achieve whatever number needs to be achieved so we can stay well within our guidance.

On on the regulatory front, we feel very, very comfortable that we will accomplish the remainder of the rate proceedings that are out there to hit our target goal of $320 million that we had talked about before. We feel comfortable that those will move in the right direction. Obviously there are a few unique rate cases and rate proceedings in front of us. The Ohio [SEP] proceeding being the leader in those categories. We await as do all other Ohio utilities and I know many of you for the results out of the PUCO. Although they are very informative and I thought very appropriate [on the hearing] on the 1st of April so that all parties could make their comments about significant excess earnings tests and what it might be and where it might lead.

As you can imagine, we came prepared to that open hearing to discuss the fact that we don't believe that any of the Ohio operating companies, particularly in our portfolio but even our brothers across the state, failed the SEET test and await the commission's directions so that we can file the required papers. We have sought an extension to that filing for obvious reasons. I believe that the commission is supportive of that and we look forward to that result. As I've said many times before, this is an interesting and a pretty serious look at the performance of all of the utilities here in Ohio, but I doubt very seriously that it will lead to anything of a major consequence for any of us, clearly AEP Ohio and it's operating companies, Ohio Power and Columbus and Southern.

Two really important rate cases in Virginia. There has been a bit of a political flap and we continue to address that issue. We have had a chance to meet with the governor and the leaders of the state, and have promised that we will continue to work diligently toward finding some rational answer to the filings that were made. In fact, pursuant to those discussions, we did stop collecting the interim rates, which of course under Virginia statute you're allowed to recover. We had our hearing back in March and will have our final briefs on the 18th of May. There are positions taken by various parties in the case; all of them for a rate increase.

None of them for the substantial increase that we feel we deserve for the capital that's been invested in Virginia over the last handful of years. But we believe that case will come to some reasonable conclusion as well. The Virginia Corporation Commission has been a very solid and very balanced commission, and we would expect that to be the case. Another pretty significant case filed in Kentucky; we will have our hearing on the 25th of May. We, again, hope that an order will come out about mid-year in both of those cases. We expect that they will come out in a reasonable performance for us.

On the operational side, some really good news at long last in the transmission space. The Southwest Power Pool has come to a rational conclusion on cost allocation, something that we've been a champion of for a long time. It's called the Highway/Byway approach. It's logical in saying that on the higher voltage transmission system, all kilowatt hours that transfer over that system should pay their fair share of the costs, and we think that that's a very appropriate way. We're equally encouraged by the FERC nominees going in front of the Senate and have what appears to be a pretty safe walkthrough on confirmation because many of them housed the same concept of allocating costs throughout the RTOs and we think that that's an appropriate way to go.

More specifically, and really more importantly, the SBP has announced their priority projects. I'm happy to tell that you our partnerships at ETA are included in many of those activities, as well as some transmission investment at our public service of Oklahoma operating company, which of course will be done through the AEP transmission company, which we announced a year or so ago. Everything in Texas seems to be moving exactly as it we hoped that it would. I know that you know Electric Transmission Texas, our partnership with Mid-American has been in business for a number of years now. The fact of the matter is, we continue to see capital being deployed and transferred into that operating company as we had planned it to be.

In fact, just a week or two ago, we had a very significant public unveiling of the largest battery, a four megawatt battery at Presidio, Texas attended by all kinds of Texas dignitaries. It's a shame you didn't have a chance to be there because that's the second creative investment that we've done on the transmission system; something that I know both Chairman Wellinghoff at the FERC is very much encouraged by. We have the variable frequency transformer at Laredo and the Presidio battery at four megawatts, two creative breakthroughs for American Electric Power in the transmission space as well. I really am encouraged by what we see in the transmission plants. It has taken an inordinately long time, but it is now moving forward to pace and we're pleased with that.

Lastly, and I won't spend too much time on this because I actually think it could take up the entirety of the call, touching on the federal legislation and the EPA's approach to the continued discussions on how America will address the issue of global warming and CO2 emissions from the coal fleet. I know you know that that's a very important subject at American Electric Power since we are the largest consumer of coal and have the largest CO2 footprint of any of the US utilities. The fact of the matter is the Kerry Graham Lieberman legislation as it moved toward its final stages a week ago was something that the American Electric Power was very, very strongly behind and very much in favor of, driven almost 100% by the full allocation of credits, very similar to the Clean Air act as it approached the handling of CO2 emissions by the US electric utility fleet, both coal and natural gas fired electrons.

Unfortunately, politics reared its head as it occasionally does in Washington over the weekend, and a very important Monday unveiling of the -- the bill I should say, was set aside. As we understand it, the Senators continue to work diligently. The leader of the Senate, Harry Reid, mentioned mid-week that he thought we would set immigration beside because we don't really have a bill to work with and take up energy because in fact, with Kerry Graham Lieberman, we have a bill to bring to the floor. But I know most of you know that last night they decided to first debate the financial regulatory approach.

The only thing I can say about Kerry Graham Lieberman is that it finally set the stage for what is absolutely essential for the United States to go forward, and that's the mirror the undertakings of the Clean Air Act. Utilities like American Electric Power and other carbon intensive utilities are dedicated to the notion of protecting our customers, the economies and the states that we do business in by seeing to it that there's a full allocation of credits for the entire footprint of the electric utilities. This is really the only way to start this kind of an undertaking.

There were many other pieces in Kerry Graham Lieberman that we liked a lot. Since it has been sent to the EPA for what they call scoring in Washington, we believe that when we finally get back to this debate, whether it's yet this year or next year, will be the template that we begin with and we're encouraged by that. We have said many, many times that we doubted very seriously in a robust economy or a challenged economy, as we are seeing in the United States today, that Congress would ultimately have to come to a reasoned conclusion if they intended to pass legislation that would approach addressing the issue of global warming.

The Environmental Protection Agency continues to be, we think, very reasonable in the way that they approach their obligations under the Massachusetts EPA Supreme Court decision of 2007. All of us, from the administrator of the EPA to the President of the United States, are hopeful that a legislative approach is the appropriate way to go, rather than an administrative regulatory approach. Administrator Jackson has said that the chair of her -- or the lead of her heir subgroup has said that. Clearly, I think every utility has said that, but you're already beginning to see signs that there is a tempering of the approach that the EPA might take if in fact, we don't reach a legislative resolution.

There remains, of course, the challenges of Senator Murkowski and the informational delay requests of Senator Rockefeller, and those issues need to be addressed as well. As we have said to you on many occasions, the AEP generation fleet is robust. It will continue to be robust. It is flexible. It is adjustable and we will adjust it as we need to do. There's no question that we will be proactive and aggressive in addressing emissions of our larger already retrofitted facilities and that we will husband our capital when it comes to the smaller facilities with higher heat rates and capital not invested to address the Clean Air act requirements.

That's a very familiar tune from us to you, and one that I think you should take full confidence in. We are capacity strong. We are energy strong, and we will continue to be that way, no matter what legislation or regulations come out of Washington. With that, I'll turn the call over to Brian and allow him to give you some granularity about the financial performance. Then we'll get to Chuck's already suggested Q&A undertaking. Brian?

Thank so you much, Mike. I'd lake to start on page four where I'll take us through a quarter-on-quarter reconciliation of this year's results to last year's first quarter. As Mike previously stated, ongoing earnings for the quarter were $365 million, that compares favorably by $5 million to last year's $360 million. Last year's results put up an $0.89 per share number versus this year's $0.76 per share. That full difference could be explained by the dilutive effect of last year's equity offering, but there's some other important ins and outs that I think are worth noting.

Rate changes accounted for a positive $0.13 a share and it came from multiple of our operating jurisdictions. As Mike stated, we're on target to meet our annual number for rate relief of $320 million. Weather-normalized load was down 1.6% and accounted for a negative $0.06 per share versus last year's number. We'll go into some more detail on that in the next two slides. Weather offset that negative $0.06 per share by being positive $0.06 per share, and resulted from heating degree days being up 4% in the Eastern part of our system and 48% in the Western part of our system.

Offsystem sales accounted for a positive $0.02 variance versus last year and we'll talk more about that on slide seven. Other utility operations net accounted for a negative $0.11 a share and was primarily associated with the absence of the Cook accidental outage insurance, higher interest expense, higher depreciation and amortization, and other taxes. Nonutility operations and parent expenses accounted for negative $0.04 per share, but was mostly associated with reduced deal flow at our Texas marketing business, again resulting in $0.76 per share for the first quarter.

If we turn to slide five, we'll look at the normalized load trends, which were positive overall -- the most positive overall for the first time in the last four quarters. Starting with residential, we're encouraged by the fact that residential load on a normalized basis was up 2.1%. On the top right-hand side of the slide, you'll see that commercial -- the commercial sector continues to struggle. It was down 1.6% versus the prior quarter. Our economists here tell us that the commercial sector lags going into and out of recessions. And given what we're seeing in the residential and industrial sectors, we're anticipating an improvement in that sector shortly.

In the bottom left-hand side of the page, you'll see that industrial sales were down only 1% versus prior quarter. The decline in this sector has clearly abated somewhat and it's the best quarter we variance in this category in over a year. We'll dig into some more detail on that in the next slide. Overall, total normalized sales at retail were down 1.6%. In terms of some more color on that, in our Eastern utilities, they all showed declines in the commercial sector. However, on a combined basis, our Western utilities showed positive improvement in residential, commercial, and industrial sectors.

Turning to slide six, we'll do a little bit of a deeper dive in terms of industrial sales. What you see there are the five sectors that accounted for 61% of our industrial sales in the first quarter of 2010. We showed trends from March of 2003 through March of 2010. What I think you'll be interested in, and this is not just the overall trends, but some quarter-on-quarter changes versus the prior year's first quarter. Primary metals manufacturing was down 10.5% on an aggregate basis. If you were to take out the two large aluminum customers in the Eastern part of our territory, the sector grew by 11%.

Chemical manufacturing marked a positive 2.9% growth quarter on quarter. And petroleum and coal manufacturing was essentially flat being down a 0.1%. Mining is off slightly at negative 2.5%, but is not unexpected given the reduced demand that we've seen for coal. Paper manufacturing was up 4.3%. Other industrial sectors that I think you'd be interested in hearing about are transportation which was up 6.4% and fabricated metals which are up 10% quarter on quarter.

Turning to slide seven, we'll take a little bit of a deeper dive in terms of offsystem sales. In 2010, we made $74 million in offsystem sales versus $62 million in 2009. This is despite the fact that wholesale electricity prices liquidated lower in 2010 than they did in 2009. The volumes were up 83% and this is mostly associated with the return of the Cook unit one to service.

We experienced continued strong performance by the trading organization. On the right-hand side of the page, you'll see the balance of your prices are above 2009 liquidations, but they are certainly less than they were three and six months ago. This certainly puts pressure on the balance of the year and full-year estimates for offsystem sales. Ultimately, we expect wholesale prices and demand to improve with an improving economy.

Turning to page eight, we'll take a look at what we're seeing overall in summary for the balance of the year. As we stated a couple of times in terms of regulatory proceedings, we're on track to hit our annual forecasted numbers of $320 million. In terms of retail load, although we're seeing positive indications in both residential and industrial sectors, the commercial and industrial classes are recovering at a slower rate than we had anticipated. In terms of off system sales, despite the fact that we had a good quarter, given how prices are flagging there, that's certainly putting pressure on our year round estimate and we're concerned about how we will be able to bring in our full-year estimate for offsystem sales.

Given the impacts of retail load, recovery lagging in anticipating and offsystem sales wholesale prices being down, as Mike stated, we've embarked on a significant O&M cost reduction effort to allow us to hit the middle of our earnings guidance range for the year. It's with bold actions that we're reiterating our 2010 earnings guidance of $2.80 per share to $3.20 per share. With that, I'll turn it over to the operator and we'll have some questions.

(Operator Instructions). We'll go to the line of David Frank of Catapult Capital. Please go ahead.

Hi. Good morning, Mike.

Good morning, David. Good. How are you doing?

All right. Question on the regulatory process in Ohio. Do you think that there will be a final ruling, regarding the seat by the commission prior to your actually making a filing? Or do you think the commission might wait to accept your filing and use that as [litmus] and decide on everything in your filing?

I think that from the hearing on the first of April, we all walked away with the conclusion that the commission would be issuing a road map if you will; here's what we expect to you file. Here's how we'd like you to file and here's the schedule that we'll take up the various utility filings. We have no reason to believe that that isn't the case. We're all somewhat surprised that it's now turning to May and they haven't issued some result of that earring. But as you know it was very fulsome. There were lots of folks with lots of ideas. I think that the PUCO was trying to get a good handle on how they might best go about it.

The bottom line of this whole matter, I do believe, as you've heard us say many times before, David, is this is an intriguing and interesting event, but I hope and doubt that it will lead to anything of a very substantial nature at the end of the day. It was part of Senate Bill 221. I think the commission rightfully so is struggling with exactly how to go about doing it and trying to do it in as balanced a fashion as they can. We applaud them for that approach.

Just one follow-up, Mike, on the commission and these ESPs. The ESP has proven to be a really unique process for the utilities in states that craft constructive rate plans. Are traditional rate cases dead in the state? Why would a utility ever file a traditional rate case again? Why wouldn't you just continue to file ESPs every three years where you are removed from more of the scrutiny, and potentially even a lower ROE that you get as a result of an ESP?

Well it's clear that the electric security plan, just like its predecessor, have proven to be extremely rewarding to all of the economy here in Ohio. It's a certain amount of predictability for our large volume commercial industrial customers and it dampens the overall year-to-year volatility in rates to the homeowners and it allows for a much smoother approach. But recall that inside of the ESP, even as it's functioning year-over-year, if inside of your overall operating facilities, for instance, distribution as a perfect example, as the AEP Ohio companies deploy the grid smart technology that the commission is in full support of as is the DOE, we may need to, in fact, have a distribution tracker or a distribution rate adjuster. All of those things, we think, make a great deal of sense.

We also, as you know, are in the process of recovering fuel 100% for the dollars expended. And on occasion, particularly we hope in the not too distant future, we'll see fuel prices come down as coal adjusts to the reality of natural gas prices in the marketplace. We would want to make adjustments to lower costs there. I appreciate the notion of not wanting to go through the scrutiny of a full rate review in the more traditional sense, but I think Ohio, both from Senate Bill 221 and the way that the commission has decided to, in such a balanced fashion, employ the ESPs, I think it's working really quite well.

I would expect that the Ohio companies at American Electric Power will file yet another ESP to cover another three-year cycle, hopefully sometime in the not too distant future. I'm encouraged by what my friends up in Akron filed and the commission's warmth with which they accepted that. It's almost a perfect regulatory setup that's been created. Save one or two pieces, I think it's going to be very difficult going forward for any of us to build new central generating facilities here in Ohio with the way that 221 was written, but it there's plenty of time to address that before anyone's going to need to build a new central station here in Ohio. I think it needs to be addressed.

Thank you.

You bet.

Thank you. Next we'll go to the line of Hugh Wynne of Sanford Bernstein. Please go ahead.

Morning. Congratulations on taking these cost cutting steps. That's very important. I had a question regarding environmental developments in Washington. You had spent some time talking about CO2. I was wondering if you might comment on expected upcoming EPA regulations, regarding SO2, coal ash, and perhaps most importantly, hazardous air pollutants like mercury and acid gases. Are these -- could you comment perhaps on the direction of the impact on your offsystem sales, both volume and price, as well as the direction of the impact on your regulated utilities? Will these regulations offer opportunities for investment and rate-based growth? Or are they going to be problematic in terms of base rate increases that could cause any pushback?

Again, as I mentioned in my comments at the outset here, I think that the EPA, under the leadership of Administrator Jackson, is being very balanced in the way that they're going about this. There are requirements for them to issue those particular adjustments under the care and camera undertaking, and we expect they'll do that in the not too distant future. They have told all of us that they are coming. Again, I think there will be time toll react to them and an appropriate way to deal with them, all of which might call for additional investments in some facilities, which would be logical.

I doubt they would be so massive that it would run into rate pushback as you go forward to continue to produce electricity at very handsome kilowatt hour costs out of our larger units that have already been retrofitted and may need to be adjusted. It may lead to, as we've said and many of my colleagues have said, some electrical premature shutdown of facilities or at least lay up of facilities that probably still have plenty of electric life, but not enough environmental life to make those kinds of capital investments.

All in all, I think it will be a reasoned approach to the endeavor. The commission -- or excuse me, the EPA has been very accepting of ideas that our folks and others have given them on all of those issues, including the HAPs, including the coal ash handling. We're encouraged by what we see. No question it will change the profile, but it should. The quality of air in this country continues to improve. The volume of coal-based electricity continues to grow, and I don't think that these changes will change that profile.

You see it as a material impact on the offsystem sales, volumes or prices?

It clearly will have the effect, but I doubt very much that it will be more so than what we're seeing with the price of natural gas going forward. Obviously that will have an impact as the cost of a coal-based kilowatt hour might go up some. But don't forget at the end of the day, the gas machines are not free of their own emissions and sooner or later they will be adjusting the same issues and there will be cost increases there as well.

Great. Thank you very much.

You bet.

Thank you. Next we go to the line of (inaudible) at Deutsche Bank.

Good morning.

I was wondering if you could provide us with a little more color in terms of what drove the long-term decline in industrial sales. Is it further planned shutdowns and shift cuts or is there a shift away from your existing customer base to other providers in your geography?

This is Brian. We're not seeing much of a shift at all. In fact, we're seeing almost none in terms of industrial to third-party suppliers. What really was the main drivers in terms of year-on-year industrial change is what happened in primary metals. Really, most of that wasn't associated with the broad swap of our customer base, but it was associated with two large aluminum customers in the Eastern part of our system. Despite those customers in particular that we've talked about, we've seen really some broad-based improvement in terms of the industrial sector.

That's great. Thanks. And also in terms of the O&M reductions that you have announced between your voluntary and involuntary plans, when do you think you will be able to give us a range in terms of the overall dollar impact?

Our intent is to have everything fully implemented on the human resources side of it in the very near future. This week is the last week that we do the voluntary acceptance. That has been very robust. We're quite encouraged by what we see. Middle of next month, we will resolve the rest of the involuntary undertaking and some of the realignment of facilities. It's clear that service centers might be closed. Certain power plants might be laid up. We're looking at all of those opportunities as well. Our plan, of course, is to take advantage of all of the cost reductions to the benefit of our investors for the entirety of the second half of 2010. We'll share with you the results of all of those endeavors along those lines and on that time cycle.

Great. Thank you very much.

You bet.

Thank you. Next we'll go to the line of [Leslie Rich] of Columbia Management. Please go ahead.

Hi. I wondered if we could go back to slide seven and your comments about offsystem sales, and how you saw that there were some head winds for the rest of the year to hit your target.

Yes.

As I look at the chart on page seven, it looks like 2010 is nicely above 2009, particularly for the summer months. And if we get normal weather as opposed to last year's abnormally cool weather and potentially some improvement in industrial sales, I'm just not clear why with these percentage changes that you show at the bottom of that table, why you are so bearish on offsystem sales?

We have certainly had positive weather in the first quarter of this year. I'd love to bank on that for the balance of the year, but clearly we can't. I think we have to assume that weather will normalize over the course of the year. I can't bank on the weather.

In terms of what we have on the slide on page seven, certainly it's above 2000 -- the balance of the year pricing is certainly above 2009 levels. But when we put our forecast for the year together, five, six months ago, prices were considerably higher than even that. Given what prices -- have prices have fallen off and given our yearly guidance for offsystem sales that is on page 14 of our presentation, we don't anticipate being able to hit that $329 million net of sharing number. I anticipate it will be somewhat higher than the $247 million that we had last year, but I think it's going to be bounded in that range somewhere.

Of course, Leslie, the salesman in me says there's nothing wrong with praying for warm weather in the summer. There surely is nothing wrong with hoping that natural gas prices rebound. That downward pressure on natural gas is really affecting some of the spreads, and also as you know.

Thank you.

Thank you. We'll go next to the line of Paul Patterson of Glenrock Associates. Please go ahead.

Good morning, Paul.

Good morning. I want to ask about the cost reduction efforts. Are they sustainable past this year? Is there anything that is temporary in these cost reductions that will have to come back or are these pretty much permanent cost reduction efforts here that should benefit you in the future as well?

They are absolutely sustainable. And it will be up to the discipline of this team to see to it that that happens. We really -- as we've said here on the call, looking at the impacts of what we're seeing in the marketplace, particularly here in the East for 2010. We really are viewing the recovery as being over a longer period of time. I read like you read all of the economic data, but I also continue to read that the employment numbers simply aren't moving much.

That means that our commercial customer footprint, not big buildings, not the Wal-Marts or the hospitals, but things like mom and dad pizza places, and carryout stores and dry cleaners and those kinds of things are going to continue to be affected. Restaurants, all of which add up to a tremendous amount of demand on our system through the footprint. We're really adjusting with an eye toward 2011, 2012.

Having said that, Paul, I think you can absolutely count on these being sustainable. Period. One of the challenges that we'll have because of the size of the head count reduction is for this management team, many of whom you are familiar with, to take a hard look at how we operate the various facilities. Customer service and employee safety reign tall in the saddle, along with performance for the investor. But these reductions will in fact, be sustainable and will serve our investors well over the near-term years.

Okay. Great. Just a quick accounting question on slide 12 on the cash flow. The application of new accounting guidance, the securitized and debt receivables, which hits your operating cash flow, but benefits your financing cash flow. If I understand that correctly, that's the first question. And secondly, is this treated as short-term debt? Do I understand this correctly? Is that the way to think about this, basically?

First of all, you do understand it correctly. And yes, that is short-term debt.

Okay. Great. Thanks a lot.

If you are looking for a job, Paul, FASB is looking for some people that understand these rules.

I think I'll pass. Thanks.

Thank you. And next we'll go to the line of Paul Ridzon of Keybanc. Please go ahead.

Good morning, Paul.

How are you?

Good.

If you strip out the impact of the two smelters that shut down, what happened to industrial sales? Maybe I missed that.

They would be booming. They would. They would --

I'll let Brian give you the granularity because he has it, but they would be substantially up. Go ahead, Brian.

Paul, the number is 11% up.

Then you indicated you are not seeing any industrial migration. Are you seeing any other migration, particularly with First Energy?

We're seeing a small, less than one half of 1% on Columbus Southern in the commercial space. But as I know you all know, we have decided to react to that in both an aggressive, defensive and offensive approach. We have made the requisite filings and have almost in hand, the authority to move forward with our own retail activity. [FE] is not having much of an effect. Direct Energy is and they continue to pursue a lot of our customers so we will react to that defensively first through our retail marketing arm. Then we think there's some places here in Ohio, in the South and the West, where we can do some of our own farming.

It's intriguing. It's exactly what the open market in Ohio was intended to do. Our price structures for the last half decade have been such that we were untouchable, but in the commercial space at Columbus Southern now, there is some margin to be gained by those offering discounts from our current rates. We'll react to that aggressively.

Then if you look at slide seven, if we just wanted to look at gross margin, how far step down below that curve would gross margin be?

Those are wholesale prices, Paul. I think you probably need to look at slide 14 to get some sense for gross margin for the balance of the year. And if we were at [13.70] before given the fallout of prices, we would expect it to come in below that as we look at our year-end estimated number.

Another way to phrase it is, how far has it fallen?

It's certainly fallen not all the way to 2009, but well below what we forecasted for the year.

Okay. Thank you.

Thank you. Next we'll go to the line of Michael Lapides of Goldman Sachs. Please go ahead.

Hi, guys. Nice quarter.

Thanks, Michael.

Mike, question for you. When you think about making significant structural changes to how you get regulated by the various PFCs and PUCs, are there any places you're looking at and saying, okay this is a jurisdiction where we think we can go from historical test years to forward test years? Or this is a jurisdiction that doesn't have formula rate plans that we think we might be able to get formula rate plans? Or one you would even consider and maybe you wouldn't do it at this point of the economic cycle, but you would consider asking for decoupling? Just thinking about the two or three big structural changes in regulation that can improve earnings.

As you know, Michael, we're a big believer in a new approach to the regulatory compact in that sense. As you also know, in many, many jurisdictions, we have automatic rate adjusters and trackers for all kinds of expenses that are incurred to ensure greater reliability, greater vegetation management, more aggressive treatment of the meter technology interfaced with the customer. Michigan, as you know, has gone to a forecasted rate here. We think that's very appropriate and have taken advantage of that at our I&M operating subsidiary.

We will continue to dialog with regulators and legislative bodies in all of our jurisdictions. We've been very, very active in Oklahoma and Kentucky. We, of course, were instrumental along with Dominion. And we were clearly second chair in Virginia to Dominion -- but the restructuring that went on a couple of years back. We will continue to push the envelope there. Decoupling is still a very intriguing undertaking.

We think there are much better ways to go about it than a simple decoupling approach. Our favorite approach is to go to a formula-based rate and create a band of returns on equity, where one would surcharge customers in a shortfall of the band and refund the customers in excess performance under the band. We think that's a unique approach to take and one that has a lot more stability to it. One of the issues that is difficult in decoupling is for the customers and their legislative representatives to understand why one would raise their prices as their volumes shrink. That's the simplest phrase for a legislator to listen to when you are in a declining gigawatt hour sales cycle, which is what decoupling really is all about.

We think that band on equity approach is much better because then, to the legislator who is very unfamiliar with our business, you go in and simply say look, if we in a band that's acceptable and maybe 150 basis points up and down of a central figure, all things are steady and everyone's in good shape. If you go above that, however, you begin to lower your costs to the customer. As you can well imagine, an elected official loves that kind of language. They do understand the balance if, for the shareholders and therefore the capital invested in their state for jobs to be created in their state, get too low. They can understand the logic for adjusting up.

They do that every, single day as they try to lure other companies and customers to their jurisdiction for economic development. And all of us who are in jurisdictions continue to tell our governors and our legislators -- and this is from General Motors to American Electric Power to The Gap and everyone else. It's great to attract new folks, but don't forget about those of us who have been here for a long time. We are very active in that space and continue to try to find exactly the right formula that will yield stability for those who invest in us, as well as stability in the price of electricity for the economies that we're trying to serve.

Thank you, Mike.

You bet.

Thank you. And next we'll go to the line of [Anthony Crandall] of Jefferies. Please go ahead.

Good morning. My questions focus on the offsystem sales guidance on page 14. Brian had said earlier that the biggest headwind, or maybe Mike said it, the biggest head wind facing you guys will be the price of natural gas. Can you tell us -- when you guys provided 2010 guidance, what gas price you baked in there?

Anthony, I'm not -- it was in the timeframe of October when we did that, back at EEI, so it was some time ago. You can just pull up the strip and see what the prices were back then. They were certainly higher than what they are, balance of year-to-date.

It's important, Anthony, that Brian's point is spot on. When we do the formulation of offsystem sales revenues, we really peg that to the strip for natural gas because that's such a determining factor as we put together our budgets a quarter or more before you get to the actual performance. We are not aggressive in that sense. If the strip was $5.02 for all of 2010, we would not -- we would probably put in $4.98 or some conservative number, rather than saying, let's be bullish and hope that gas gets to $6.

I can assure you this, with shale gas developing as it is, the Katrina-led $14 a million Btu price of natural gas is in the rearview mirror, not out in our headlights. Although I would never want Katrina to happen again, I would love to have those prices come back for a short period of time, but I don't see that happening.

Anthony, it's Brian again. I think the Q2 through Q4 strip that we were looking at at that time was about $6.

Great. Thank you very much.

You bet.

Thank you. We'll go next to the line of Phyllis Gray at Dwight Asset Management.

Good morning.

Good morning, Phyllis.

Would you please provide just a little more color on the two aluminum plants' decline in energy consumption and whether you think that decline is a permanent reduction by those facilities?

Yes. On that, which is located here in Ohio, is at two-thirds production. It's a six-pot line facility and they're running four pot lines most typically. Century Aluminum, which is located over in West Virginia near our Mountaineer station, is offline and had been since early 2009. Governor Mansion, Dana Waldo, the President of our Appalachian Power Company, myself and others worked diligently with Century to see if we couldn't find some rate activity that would allow them to continue to produce, and fluctuate the costs of their power to the LME numbers on aluminum in the world marketplace. Unfortunately, we were not able to do that.

Both of them have said, LMEs north of $2100 a ton would probably encourage them to continue to look at bringing their facilities back online, and those numbers have been there now for a good chunk of calendar year 2010. They continue to see some potential upside. The LME has fluctuated from about $1900 to $2300 and they're looking for a bit more stability. It isn't as though they're gone. They are clearly there.

Every time I go to Mountaineer, I crane my neck to see what is going on at Century and I'm always happy to see they are cutting the grass and polishing the aluminum sign out front. That tells me that they are eager to get back in business themselves. They have some labor price issues that I know they're working hard on. For jobs in West Virginia and for electric sales at AEP, we wish them well in that endeavor.

Thanks very much.

You bet.

Thank you. Next we go to the line of Ali Agha of Suntrust Robinson Humphrey. Please go ahead.

Thank you. Good morning.

Good morning.

Mike or Brian, when you had highlighted the remaining rates cases for the year that are important, obviously you highlighted Virginia and Kentucky. I was just wondering is there any possibility that you may reach settlements in either one or both of those rate cases, other than waiting for the final decision from the commission? Is that a possibility?

Of course it is, Ali. We constantly work on those approaches. In fact, Monday next week, there's a settlement discussion in Kentucky. We have had very serious settlement discussions in Virginia. We offered what we thought was a very, very reasoned approach to touch on the issues that were important to the governor, as well as the members of the Senate and house that we had met with.

There are different ways of going about it. In Virginia, for instance, a settlement doesn't need to be unanimous, and that may lend itself to the more likely approach of settling that case. In Kentucky, you do need all parties to join in the settlement. And as you can well imagine, there are representatives in the rate case proceedings who are looking out for retired citizens on fixed incomes. It's very difficult for them to stand behind and support a settlement.

We're encouraged by what we saw in Kentucky. One of the principal interveners suggested that rates might go up by some $40 odd million. That's not near what we filed for. We're equally encouraged by the positions taken that parties in the Virginia case, ranging from rate increases of $30 million, $40 million, up to as high as $90 million, which again is a little south of what we filed for. But we're encouraged by those activities. If I were to forecast, I would argue there's probably higher potential to settle in Virginia than there is in Kentucky because of the unanimous requirement. But we'll see. We are always striving to do that.

Thanks. And separate question, just to be clear, Brian, on some of your earlier marks, you highlighted all system sales probably our challenged with the original budget. Also commercial and industrial load growth is so far somewhat lower than anticipated. When you look at the cost savings that you folks have announced from the head count reduction and you look at the market of the shipping as of right now, did I hear you correctly that you believe the cost savings should be able to offset any lower margins from the businesses? The mid-point of the range is still where you're comfortable with? Am I hearing that right?

That's correct. We're seeking to offset with offsystem sales -- with O & M savings, what we're not going to be getting in terms of retail sales and offsystem sales.

Again, I think it's important that we stress to all of you on the phone that this is not different from anything that we've done before, except the magnitude of what we feel we need to do now and the sustainability of what we intend to accomplish going forward. In answer to Paul's question earlier on, we have always told you that when revenues begin to get weak, you'll see us throttle back on operating and maintenance expenses.

We've done that -- if I think back to 2007, we made some major adjustments in our tree trimming programs. Followed shortly thereafter by going with track area adjustments for tree trimming investments in many of our jurisdictions. This is not uncommon to us. The size of this one and the dedication of the change that it will yield by reducing head count now north of 10%, clearly it's a challenge, but it's one that this team is more than capable of handling.

Last question, Mike. The Ohio seat, any sense at all on when you may hear from the commission on the framework?

No. In conversations with the commission, I know they continue to deliberate the issue. The political season in Ohio and throughout the country, is beginning to heat up. I doubt very much if the commission wants to get crosswise in the current administration versus the party and the candidates running. That may say, it could come early just to get it behind us or that really could say that it could be delayed substantially later in the year post election cycle. It's an intriguing issue.

The most important thing here -- and you've all had many opportunities to speak with the chair of the PUCO and other commissioners. This is a very balanced and a very fair group of individuals who see the benefit of strong, healthy financial utilities here in Ohio, which enables our manufacturing base and the Ohio economy to continue to recover. This is not Michigan in an economic sense, but Ohio has been hit pretty hard by the economic downturn. You are beginning to see signs of recovery, but nothing too dramatic yet. I think it will be balanced. It will be fair, but it's really difficult to forecast when they might move.

Thank you.

You bet.

Thank you. Next we'll go to the line of Danielle Seitz of Dudad Research. Please go head.

Thank you. In the last conference call on earnings, you were mentioning expecting some upside in the industrial sector of about 5%. I know now the reality is setting in. It seems that -- do you have again some [acre] from the industrial sector, regarding next year and what is expected in terms of growth as well?

Danielle, we're still, as you know, in the recovery of sales in industrial volumes. In the 2007/2008 timeline, you will remember that we shared with you before, we didn't see a downturn in industrial demand because many of our large volume customers are exporters, until quite honestly December of '08. We struggled through quarter after quarter after quarter in '09. And as Brian said, but for the aluminum folks, quarter one was really strong industrially. We'd love to have the aluminum folks come back. We think, again, we're beginning to see good export volumes.

You read, as I read, about the economic recovery in China and India and other Asian nations, where much of the exported products end up going to market -- or export parts end up going to the ultimate manufacturing then back to market. When we look at 2011 and 2012, we're comfortable that we'll continue to see recovery. And then ultimately, we are hoping in 2012 and beyond timeline, growth in the industrial sales themselves. Those are many of the reasons why we're taking this -- what we think to be a sustainable reduction in the cost structure and cost profile at American Electric Power.

Thank you.

You bet. Thank you.

Thank you. We'll go to the line of (inaudible) with Millennium. Pleads go ahead.

Hi. It's [Jeff Gildersleeve]. Good morning.

Hi, Jeff.

Sorry if I missed it, but I just wanted to clarify. On the cost-cutting initiative, basically that starts -- gives you roughly a half year in 2010, so that would be a full year impact in 2011?

Yes. That's exactly right.

If all of the other assumptions for 2011 were flat or equal to previous assumptions, then this would be incremental of that?

Yes, it would be. It would, again, give us more comfort that our going forward basic growth numbers are on that 2% to 4% range.

Okay. Great. Thank you.

You bet. You must have been on that other phone call about some pending merger.

Thank you. Gentlemen, I'll turn it back to you for closing remarks.

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