On September 7, 2011, Ohio Power Company (“OP”) and Columbus Southern Power Company (“CSP”, collectively “AEP-Ohio”) as well as numerous intervening parties, filed a settlement before the Public Utilities Commission of Ohio (“PUCO”) seeking approval of a 53-month electric security plan (“ESP”) designed to transition AEP-Ohio to a fully competitive market for electric generation services. The settlement is summarized below.

  1. BACKGROUND

Under Ohio law, the electric price for customers who do not elect to shop for generation from a competitive retail electric service (“CRES”) provider is set by the PUCO in one of two ways: through an ESP, which is based upon a hybrid of cost of service and market-based components; or through a market rate offer (“MRO”), which uses a competitive bidding process (“CBP”) to establish the default price.

AEP-Ohio’s current default pricing is set by an ESP that was approved by the PUCO in March 2009 that extends through the end of 2011. AEP-Ohio filed an application for a new ESP on January 28, 2011. The new plan would have lasted only 29 months, redesigned rates to prohibit the opportunity to shop for competitive generation, and dramatically increased prices, particularly for residential and industrial customers. All intervening parties filed testimony on the plan originally proposed by AEP-Ohio universally opposing the initial plan.

In August 2011, a settlement framework emerged that would result in AEP-Ohio pricing all of its nonshopping load through a CBP beginning in 2015. As AEP-Ohio’s rates have never been based upon market, the proposal was a dramatic shift for AEP-Ohio, its shareholders and customers. Nonetheless, after several weeks of negotiations, the settlement was reached by most parties and filed on September 7, 2011.

The parties opposing the settlement include FirstEnergy Solutions (“FES”), Industrial Energy Users-Ohio (“IEU-Ohio”), Ohio Partners for Affordable Energy (“OPAE”) and the Office of the Ohio Consumers Counsel (“OCC”). The parties supporting the settlement include: AEP-Ohio, Staff of the PUCO, the OMA Energy Group, the Ohio Hospital Association, the Ohio Energy Group, the Sierra Club, Grove City, Hilliard, the COMPETE Coalition, PJM Power Providers Group, the Kroger Company, WalMart, Sam’s, Constellation NewEnergy, Dominion Retail, Exelon Generation Company, Duke Energy Retail, the Natural Resources Defense Council, the Association of Independent Colleges and Universities, the Ohio Environmental Council, and the Environmental Law and Policy Center.

  1. SUMMARY OF THE MAJOR PROVISIONS OF SETTLEMENT

Term: The settlement establishes an ESP term of 53 months; from January 1, 2012 through May 31, 2016. However, the transition period within the ESP ends on May 31, 2015, and AEP-Ohio will be fully at market as of June 1, 2015.

Elimination of Riders: As part of the compromise, AEP-Ohio gave up pursuing a number of nonbypassable riders. By eliminating these proposed riders, customers gain more rate certainty, avoid potential rate increases, and improve the prospects of gaining value in the competitive market.

Redesign of Generation Rates: The settlement changes AEP-Ohio’s rate schedules in a way that would decrease the price per kWh for customers with poor/low load factors (generally smaller manufacturers and commercial customers) and increase the price per kWh for customers with very good/high load factors (larger manufacturers). Accordingly, the settlement includes several mechanisms to mitigate the rate design.1

Generation Resource Rider (“GRR”): A placeholder rider to recover costs associated with the construction of new generation facilities that AEP-Ohio demonstrates satisfy all of the requirements in Ohio law, specifically, the Turning Point solar project and a project to repower an old coal-fired unit with Ohio shale gas.

Base Generation Rates: During the term of the ESP, there will be known generation rates that are fully avoidable if customers elect to shop for generation. Moreover, other non-fuel generation related charges have been eliminated, including the environmental investment carrying cost rider and the POLR rider. Customers who shop for generation will be able to avoid all of AEP-Ohio’s generation related charges.

Significantly Excessive Earnings Test (“SEET”): The agreed upon threshold for determining whether AEP-Ohio’s earnings are excessive will be a return on equity of 13.5%. This is significantly lower than the 17.6% the PUCO authorized AEP-Ohio to earn in the past and ensures that AEP-Ohio will not over-earn under this plan.

Distribution Investment Rider (“DIR”): AEP-Ohio filed a base distribution rate case in February 2011 to increase base distribution rates. The settlement zeroes out AEP-Ohio’s requested rate increase but implements the DIR to allow AEP-Ohio to recover a return on incremental distribution system investments incurred since 2000, as AEP-Ohio’s last distribution rate case was in the early 1990s.

Corporate Separation: The settlement authorizes AEP-Ohio to spin off generation assets to a different entity. Once AEP-Ohio has separated, the distribution companies will not have sufficient generating assets to serve the Ohio load and will be forced to purchase generation from the open market. In other words, AEP-Ohio will not be able to return to cost-based regulation.

Shopping: The opportunity to shop will be limited to 21% of AEP's total load in 2012, 29% (or 31% if securitization legislation is passed) in 2013, and 41% in 2014-15. The ability to shop will be on a first-come, first-served basis. However, for the first four months after the settlement is filed, the ability to shop will be allocated to customer classes on a pro rata basis such that unless and until industrial customers have exceeded their shopping allotment, no residential or commercial customers may cut in to the industrial share.

Phase In Recovery Rider (“PIRR”): Under AEP-Ohio’s last ESP case, the PUCO authorized AEP-Ohio to defer approximately $650 million in fuel costs for future recovery plus carrying costs. The settlement delays collection from residential customers, reduces the carrying costs and encourages the parties to securitize the deferrals to permanently reduce carrying costs.

Market Rate Offer Comparison to ESP: For the PUCO to be able to approve an ESP, it must be more favorable in the aggregate than the expected results of an MRO. The settling parties agree that the ESP package included in the settlement is more favorable than an MRO.

  1. ANALYSIS AND NEXT STEPS

While most of the manufacturing customers are not happy about losing the protection of a quasi-cost-based SSO, it was all parties’ assessment that a competitive market as the end result was inevitable. Given that starting point, the settlement provides a transition to market that is fair, balanced and protects customers from volatility and rate uncertainty.

Because the settlement is not unanimous, there will still be a contested hearing in this case. The hearing will begin on October 4, 2011. It is expected that the PUCO will issue a decision to finally resolve the case before the end of this year.