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American Electric Power (NYSE:AEP)

Q4 2013 Earnings Call

January 27, 2014 9:00 am ET

Executives

Julie Sherwood - Director of Investor Relations

Nicholas K. Akins - Chairman, Chief Executive Officer, President, Member of Executive Committee and Member of Policy Committee

Brian X. Tierney - Chief Financial Officer and Executive Vice President

Bette Jo Rozsa - Managing Director of Investor Relations

Analysts

Greg Gordon - ISI Group Inc., Research Division

Dan Eggers - Crédit Suisse AG, Research Division

Paul T. Ridzon - KeyBanc Capital Markets Inc., Research Division

Kit Konolige - BGC Partners, Inc., Research Division

Stephen Byrd - Morgan Stanley, Research Division

Paul Patterson - Glenrock Associates LLC

Steven I. Fleishman - Wolfe Research, LLC

Brian Chin - BofA Merrill Lynch, Research Division

Anthony C. Crowdell - Jefferies LLC, Research Division

Jonathan P. Arnold - Deutsche Bank AG, Research Division

Michael J. Lapides - Goldman Sachs Group Inc., Research Division

Hugh Wynne - Sanford C. Bernstein & Co., LLC., Research Division

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the American Electric Power Fourth Quarter 2013 Earnings Conference Call. [Operator Instructions] As a reminder, today's call is being recorded. I'll now turn the conference over to Ms. Julie Sherwood. Please go ahead.

Julie Sherwood

Thank you, John. Good morning, everyone, and welcome to the fourth quarter 2013 earnings webcast of American Electric Power. Our earnings release, presentation slides and related financial information are available on our website, aep.com.

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 these factors.

Joining me this morning for opening remarks are Nick Akins, our Chairman, President and Chief Executive Officer; and Brian Tierney, our Chief Financial Officer. We will take your questions following their remarks. I will now turn the call over to Nick.

Nicholas K. Akins

Thanks, Julie. Happy New Year to everyone and thanks for joining us today. Usually, the new year comes with a sense of renewed optimism that our best days lie ahead. I can tell you, here at AEP, reviewing what has been accomplished during 2013 and after a more detail review of the fundamentals during the fourth quarter, there is reason to be optimistic. The foundation has been set for continued success and perhaps, finally, a growing economy.

We talk a lot here about infrastructure development, including transmission, the customer experience and the employee experience, and this provides the focus for the actions we take.

In that context, I'm very pleased to report several significant accomplishments during 2013. Our safety performance. For the second year in a row, we accomplished 0 fatalities on our entire system with one of the best safety records we've ever had. Moreover, we also had our best year from an environmental stewardship and compliance perspective. We are very proud of both these accomplishments that, in my view, is a strong indicator of the health of the organization.

We completed corporate separation on time and accomplished many of our objectives, including the transfer of the Ohio generation assets to APCo, Kentucky and the new unregulated generation company. I want to thank all of the commissions and the other stakeholders for their cooperation to get this done.

We delivered fourth quarter '13 GAAP earnings of $0.71 per share and operating earnings of $0.60 per share, concluding the year 2013 with GAAP earnings of $3.04 per share and operating earnings of $3.23 per share, solidly in the upper range of guidance.

Rate activity was positive, with $340 million of secured rate changes across our state jurisdictions. I'm pleased to report from last week that PUCT did reverse the AFUDC decision that had previously gone against us, and I'm very thankful they did that, and indicated that we can invest in Texas in a positive fashion.

We completed 2 securitizations, totaling $648 million in APCo in Ohio, with one remaining securitization that's regarding the Ohio fuel. We exceed our performance improvement targets for the year, and our current 2014 initiatives are continuing positively and on schedule.

Our previous dividend increases announced during 2013 improved our dividend payout by 6.4% and continues our focus on maintaining the dividend commensurate with earnings. We continue to target 60% to 70% payout dividend ratio. Our total shareholder return for the year was 14.2%, so a very good year.

Our employees have clearly responded to the challenges that we faced during 2013 and came through with flying colors. Our emphasis on execution, culture and financial and strategic discipline are paying dividends, no pun intended. As an example, the Gavin plant has gone through lean activities and recognized the change in the operating practices, certainly, during this event we had with the polar vortex. So it's just early indication of the successes that we've had relative to the lean activities. I am pleased with the response and energy of our employees as we redefine the culture of AEP and in fact, the future of AEP.

So let's talk about the future, 2014. We are reaffirming our guidance ranges for 2014, '15 and '16 and the 4% to 6% growth rate. 2014 guidance is $3.20 to $3.40 per share. Our continuous improvement initiatives are progressing well with 4 plants done with the lean rollout. Now we're focusing on Cardinal, Mitchell, Rockport and others. We continue the wires lean work in Ohio and APCo, and we'll soon move ahead to I&M and SWEPCO.

Our management team, including myself, participated in the team rollouts, and we expect ITE and the Mitchell rollout coming up soon. And the energy and ingenuity of our employees is just amazing in this process. The new unregulated generation function continues to work to reform its cost structure and operating parameters in the PJM market, and many other activities are progressing as well.

Transmission growth continues on plan, and we continue to focus on even more capital, moving to transmission as we showed you earlier in the EEI presentation late last year. We are pleased with the progress being made in this segment of our business.

We have rate proceedings in Oklahoma, Ohio, Virginia, West Virginia and Kentucky during the year. We're planning for 2014 of having rate relief of $175 million and rate recovery, 82% of which is already secured. Chuck Zebula continues his work to optimize the unregulated business to ensure that it's cash positive and contributes to earnings. Of course, cold or hot weather helps, but we continue to work on PJM capacity market reforms to enable investment to occur, as well as a focus on any emerging hedging possibilities and cost-related efficiencies in this business.

Just as an aside, to quickly remark on the capacity markets and recent experience with the polar vortex, it is interesting to note that while daily gas prices are in the $5 to $6 per MBtu range and energy prices are soaring well beyond that, supported by gas price increases alone, it is clearly evident the capacity rents are being reflected in energy prices, indicating a need for further reform of capacity markets.

Looking at the physical side. When 89% of our coal capacity slated for retirement in mid 2015 is called upon and running, natural gas delivery is challenged and voltage and load reductions are occurring is another reminder that we should carefully plan and design this social safety net we call the electric grid to meet extreme requirements, not just steady-state conditions. We believe the nexus of EPA initiatives energy market development and security threats, whether physical or cyber, is a national security issue.

All of this that we've achieved in the last year certainly contributes to the customers' experience by providing electricity in a safe reliable, economical fashion and environmentally respectful way.

Now let's move to my equalizer chart. We've -- that's on Page 5 of the presentation. The overall is approximately 9.9% ROE. This comes down a little bit but primarily reflects rate recovery lag from rate cases and the heavy project spend in transmission. We expect this to improve.

So if you look at the chart in the APCo area, we have the Virginia biannual case, the West Virginia rate case, so we expect that to continue to improve. Ohio Power is coming down because of the customer switching that's occurring. Kentucky, it's in the midst of the Mitchell transition that's occurring. We expect the base rate case to move Mitchell over in the base rates. And then I&M continues to improve at 9.3%. PSO will have a rate case this year. SWEPCO has some transmission-related costs to recover and also, some Dolet Hills related generation cost in Arkansas.

And then, AEP Texas continues to have a significant load growth and amortization of stranded costs is included in that number as well. And then on the TransCo Holdco side, it's 9.5%, but there's obviously rapid rate of investment that's occurring there and the developmental expense related to Transource. And also, CREZ Texas has a TCOS filing that's occurring as well. So we're seeing a continued improvement in there, and we'll continue to address that.

So as we move into 2014, we're watching clearly some very positive indicators from the fourth quarter of 2013 regarding our loan. If you exclude Ormet, the bank rep diluted a manufacturer for the first time and not just several quarters, but several years. In fact, back to 2007, all of our categories, residential, commercial and industrial load increased in the same quarter. That's the first time that's happened in years. We are seeing significant shale gas and other load-related activity improve, so we are optimistic based upon the quarter that this trend could continue. Brian will address this in more detail.

2014 will be a year of significant strategic importance to AEP. Our management and the board will focus much attention on transmission growth, our regulated businesses, the utility model for the future and what that means and we will continue to review the progress in the unregulated business as well.

So since we last talked to you all at EEI late last year, we've made some significant progress in several strategic areas, corporate separation, the transmission allocation of capital, the infrastructure investment, focus on our regulated business, defining the business case for our unregulated business, producing quality dividends and earnings for our shareholders and quality service to our customers, and defining a culture for AEP for the future. In a nutshell, sticking to our knitting, that of a focus regulated business. I'll turn it over to Brian at this point.

Brian X. Tierney

Thank you, Nick, and good morning, everyone. On Slide 6, you will see our comparison of 2013 results to 2012 for both the fourth quarter and the full year. In the interest of time, I'll focus my remarks on the full year column and only add comments for the quarterly comparison when necessary.

Operating earnings for the fourth quarter were $2 -- $296 million or $0.60 per share, up $0.10 per share compared to the fourth quarter of 2012. These results bring the full year earnings to $1.573 billion or $3.23 per share compared to $1.497 billion or $3.09 per share recorded in 2012, an improvement of $0.14 per share.

Stepping through the detail from top to bottom, you can see that the annual comparison was adversely affected by a combination of certain Ohio transition items that were unfavorable by $0.26 per share. This effect on earnings was driven by an increasing customer switching net of the capacity deferrals, lower capacity payments from competitive retail energy suppliers and the overall -- and the reversal of 2012 prior-period unfavorable provisions.

The effective income tax rate was unfavorable at $0.17 per share for the year due to unfavorable year-on-year tax-to-book differences accounted for on a flow-through basis, as well as positive adjustments to the state income tax returns that were recorded in 2012. A significant portion of this effect was recorded during the fourth quarter. Allowance for funds used during construction, or AFUDC, was off $0.10 per share for the year, due primarily to the start-up of the Turk Plant in December of 2012.

O&M expense net of offsets was unfavorable $0.05 per share for the year, primarily due to increased spending for planned outages in 2013. The unfavorable variance for the quarter reflects higher storm and employee-related costs.

On a total system basis, excluding earnings offsets and River Operations, O&M for 2013 was $2.8 billion, which was flat to 2012. As you may recall, we expect to hold O&M at this level in 2014 as well. Off-system sales margins net of sharing for the year were down $0.05 per share. This decline was driven by lower RPM capacity revenues that hurt results by $0.03 per share and lower trading results.

The annual decline in regulated retail load of $0.02 per share is driven by the lower industrial demand across much of our service territories. I will discuss the economy and our retail sales data in more detail in upcoming slides. AEP River Operations began to rebound during the fourth quarter but was still off $0.01 per share for the year. This decline in earnings reflects the lingering impact of the drought of 2012. Weather helped our annual earnings by $0.04 per share versus 2012 and was favorable $0.07 per share versus normal weather.

Favorable interest income contributed $0.07 per share for the year, due primarily to the recognition of the interest income from the resolution of the U.K. windfall tax issue earlier in 2013. Transmission Holdco continues to grow, adding $0.02 per share for the quarter and $0.07 per share for the year, reflecting significant investment in this area. Consistent with our goal to allocate available capital to Transmission, earnings for this segment were $0.16 per share, $0.02 higher than originally forecasted with guidance for 2013. Our guidance for 2014 reflects $0.29 per share of ongoing earnings from this segment.

The quarterly comparison of the parent added $0.11 per share and was due to the make-whole premium for debt retired late in 2012. The annual comparison for the parent shows a benefit of $0.15 per share due to that debt retirement and the resulting lower interest expense realized through 2013.

Rate changes were favorable by $0.11 per share for the fourth quarter. This quarterly result pushes our favorable year-to-date comparison to $0.45 per share. This improvement in earnings reflects constructive regulatory outcomes in multiple jurisdictions. Finally, other items for the annual comparison were favorable by $0.02 per share, primarily driven by lower long-term interest and lower depreciation expenses.

In summary, despite considerable headwinds in Ohio, we were able to deliver results near the upper end of our guidance range. The better-than-expected results were aided some by weather, but more importantly, we executed on our regulatory and strategic plans. In all, 2013 was a successful year for American Electric Power.

Turning to Slide 7. You will see our usual detail in normalized retail load with the new feature. On the bottom half of the slide, you will see a light blue line that adjusts the gross industrial and overall normalized load trends by factoring out the impact of the Ormet load. We felt that this presentation was helpful because although the loss of the Ormet load was significant in terms of volume, AEP did not earn significant margin on that load.

On the bottom right quadrant, you can see that weather-normalized total load was down 0.8% for the quarter and 1.6% for the year. Excluding Ormet, the quarterly number is actually positive 0.9% and was down only 0.6% for the year.

For 2014, we are forecasting total normalized load to be down 1.1%, but the forecast is essentially flat when Ormet is excluded. Industrial load was down 3.2% for the quarter and 4.5% for the year. Excluding Ormet, quarterly industrial sales were actually up 1.6% and the annual comparison was down only 1.6%. For 2014, we are forecasting gross industrial load to be down 2.2%, but positive 1.2% when adjusted for Ormet.

There were a number of new industrial expansions especially related to the Oil and Gas sector that we expected to come online earlier in 2013, but were delayed until the second half of the year.

Looking forward to 2014, we expect an additional 270 megawatts of new industrial load to come online. This will help to offset the negative drag on industrial growth caused by the loss of Ormet. We will take a closer look at industrial load on the next slide.

Residential sales, shown in the upper left quadrant, were up 0.9% for the quarter, which brings the annual sales flat to 2012. We continue to see modest customer growth in our Western service areas, while our East customer accounts were essentially flat. Average usage per customer has been impacted by home energy efficiency programs. For these reasons, we are expecting normalized residential sales to be down nearly 1% in 2014.

Finally, in the upper right-hand quadrant, you can see the commercial sales were essentially flat for the quarter and the year. Commercial sales saw some growth in Texas, Ohio and Oklahoma, where we have seen stronger employment gains. We are forecasting commercial sales to be roughly flat in 2014.

Let me stop here and provide an update on the economy within AEP's footprint. AEP service territory continues to experience economic growth despite the drag that the federal fiscal austerity measures placed on our economy. Most economists predicted that the third quarter would be most impacted by the sequestration, and this was true for us.

For the fourth quarter, GDP growth in AEP service territory was 1.3%, which is an improvement over the 1.1% growth we saw in the third quarter, but still below the projected fourth quarter growth for the U.S. of 2.3%. Fortunately, employment statistics, which are a better indicator of electricity sales and GDP, were not as weak and remained steady through 2013. Job growth in AEP's Western footprint was up 1.4% and just below the U.S. at 1.7%, while job growth in the East moderated recently to 0.8%.

With that segue, let's turn to Slide 8, where you will see the quarterly and annual results from our 5 largest industrial sectors. Our largest sector, Primary Metals, was down 23% for the quarter and 18% for the year. Earlier, I mentioned the curtail of production of Ormet, and excluding this effect, this sector would have been down closer to 7.7% in 2013. That customer has now fully ceased operations until we expect to see this impact through the third quarter of 2014.

Chemical Manufacturing sales were up nearly 5% for the quarter, bringing the annual decline to 0.3%. We saw a number of customers increase their production towards the end of 2013. As global markets for chemicals continue to recover, we expect this export industry will grow. Petroleum & Coal Products sales were down 2.5% for the quarter and 1.6% for the year. This was mostly due to 3 specific refineries that were down for routine maintenance in 2013. Excluding these 3 customers, sales for this sector were up 2.5% for the year.

The Mining sector, excluding Oil and Gas, was up 0.6% for the quarter, but still down 1.4% for the year. This decline reflects the continued impact of low natural gas prices and weak demand from utilities and metals producers.

Paper Manufacturing was up 7.5% for the quarter and 3.3% for the year, driven by a major expansion in Ohio, along with Ohio -- along with higher demand in our Western footprint. Although not in our top 5 sectors, we continue to see growth in the Oil and Gas Extraction and Pipeline Transportation sectors, driven by continued gains related to shale gas activity.

Slide 9 provides a picture of the financial health of the company. Our total debt-to-capitalization improved in 2013, ending the year at 54.3%. We look back as far as 1999, and 2013 had the lowest percentage of debt-to-capitalization over that timeframe. Other important metrics, FFO interest coverage and FFO-to-debt continued to be solidly in the BBB and Baa2 range and 4.7x and 18.8%, respectively. We also ended the year with a strong liquidity position of $3.5 billion, bolstered by our 2 revolving credit lines and our term loan facility.

On the bottom left-hand side of the page, you will see that our qualified pension funding has increased to fully 99%. The company has aggressively funded this plan to the benefit of our employees, retirees, shareholders and bondholders. In addition to the funding, the company has been working hard to match the duration of the assets to the liabilities and to derisk the plan as it approaches full funding.

In addition to our pension results, our other post-employment benefit plan is now more than fully funded at 117%. This is as a result of changes that we made in 2012 to our post-employment medical plans for future retirees. The financial strength depicted on this slide demonstrates the commitment that our board and management have to growing the company and at the same time, maintaining a very strong balance sheet.

Turning to Slide 10. We can review some of our assumptions and sensitivities underpinning our 2014 guidance range of $3.20 per share to $3.40 per share. As you would expect, the key sensitivities, retail sales volumes, which we have already discussed, remember that we base our guidance on normal weather.

While you'll be right to think that load has been strong so far with the extreme January weather, please be cautioned that this is only one month in what should work out to be yet another 12-month year. Our regulated and competitive businesses have different sensitivities to wholesale prices for power at $0.01 and $0.02 per share per dollar for the year, respectively.

And of course, O&M expenses and taxes are also key to earnings, with a 1% change in O&M having a $0.04 per share impact and a 1% change in the effective tax rate having a $0.05 per share impact on earnings. At this point in the year, we do not anticipate much variability in the tax rate for 2014.

A significant driver for 2014 earnings is rate changes of $175 million. As Nick said earlier in his remark, of this amount, the company has already secured 82%. Most of the remaining amount is expected to come from wholesale FERC formula rate customers where annual rate adjustments are fairly routine.

You can see the power and natural gas prices that were used in formulating our guidance. Prices have changed since we developed this guidance last year. But at just 27 days into the new year, it makes a lot of sense to maintain our operating earnings guidance and to keep it steady as she goes.

More than ever, with some of the market challenges we face in 2015 through 2017, we will be actively managing outage schedules and expenses in response to revenue changes in order to keep inside the guidance cone you see on the left-hand side of the next page.

So turning to Slide 11. I want to reiterate a point that Nick made earlier in his remarks. Our 4% to 6% growth rate is predicated on continued investment in our regulated properties and by our continued focus on sustainable cost savings and O&M discipline. The green flags on the right highlight the major initiatives that are underway.

Let me provide some granularity on 2 of the work programs in order to provide insight that this is a serious focus of management and employees as we begin 2014. Management is providing our employees with the tools and processes to advance continuous improvement, and our employees are providing the ingenuity and the know-how to get the job done.

On the generation side, 4 of our larger generating plants have engaged in employee-led sustainable improvement programs beginning in 2013. These plants have already experienced expense savings through more efficient work practices, heat rate improvements and better utilization of the contracted workforce. Similar programs have started at additional plants already in 2014, with 5 more to go during the year. In 2015, 4 additional plants will be engaged.

Our generating plants are leading the rest of the company in continuous improvement initiatives, demonstrating the gains that can be realized through these efforts. Similar programs have been launched by our distribution employees. 2 districts began initiatives in 2013, with 16 scheduled for 2014, 9 in 2015 and 2 in 2016. These districts are using employee-led idea generation, benchmarking and whiteboarding to streamline their processes, better engage our workforce and to focus on customer service and savings.

Our transmission, supply chain, procurement and corporate center organizations are engaged in similar programs, demonstrating that continuous improvement and employee engagement are part of our culture. Our employees are well aware of the opportunities and challenges presented by our changing business environment. They also have the passion and drive to make the most of the opportunities, to meet the challenges and to serve our customers as they expect to be served.

On Wednesday of this week, Nick will lead another employee meeting on these subjects as a way of ensuring that all 18,500 employees are informed, motivated and engaged as we move forward. With that, I will turn the call over to the operator for your questions.

Question-and-Answer Session

Operator

[Operator Instructions] And first, we'll go to the line of Greg Gordon with ISI Group.

Greg Gordon - ISI Group Inc., Research Division

A couple of questions. First, can you repeat what you said about your -- what was the build-up for your assumptions on residential sales? And then can you extrapolate on what that means sort of going forward over the next several years of your forecast?

Brian X. Tierney

Yes. So we're anticipating residential sales to be down almost 1 percentage point in 2014. And we think it's largely being impacted by a lot of the energy efficiency programs that we have across our service territory, with Ohio, Indiana and some other states having some pretty aggressive programs. So it is impacting load, also customer accounts are an impact as well. We're seeing positive customer account growth in the western part of our service territory and pretty stagnant customer growth in the eastern part of our service territory. So when you put those effects together, it's definitely a drag. We'll see how things work out as we go through the year, and we'll obviously be updating you quarter by quarter. But we are anticipating some load decline in the residential sector in 2014.

Nicholas K. Akins

So Greg, the last quarter of the year indicated some positive strength to that. But I think you -- we're going to have to sort of see that play out before we make any changes.

Greg Gordon - ISI Group Inc., Research Division

I guess what I'm asking is, as we think about the guidance ranges for '15 and '16 -- I'm not asking you to give specific drivers across all the factors of the business, but would it be fair to say you're assuming continued reductions in residential demand through time due to federal and state energy efficiency standards? Or do you think that your base case for economic growth beats [ph] into that and you could get back to a positive net residential growth?

Nicholas K. Akins

Our load growth assumptions through '16 are very, very conservative. So I mean, we are not forecasting to hit our numbers. The classic 1% to 2% load growth that we had seen earlier in the century, we're anticipating that negative 0.5% to positive 0.5% load across the timeframe.

Brian X. Tierney

So it's relatively flat. It's less than 0.5%.

Greg Gordon - ISI Group Inc., Research Division

Great. Second question is on what you're seeing. I know you have a de minimus footprint in -- relative to a lot of the other companies when it comes to competitive generation and retail, but it's still significant for you. Have you seen behavior change on the part of retail consumers and wholesale buyers in the last several weeks with regard to what they're willing to pay for longer-term power contracts? Wholesale prices are up quite a bit in '14, last 3 weeks, not as much altitude [ph], but are you starting see some depth and breadth of the market come back as volatility comes back or not?

Nicholas K. Akins

Yes. Greg, we really haven't seen much of that yet. Obviously, there's going to have to be a little history that plays out here with the weather. But also, it's pretty clear that capacity rents are included in energy prices. So with the market reforms that are occurring plus the experiences people are having relative to this extreme weather, there may be opportunities for additional hedging to occur and also, for customers to finally see that we need to sort of lock things up for the long term. So it may be helpful, but at this point, it's too early to tell.

Operator

Next question is from Dan Eggers with Crédit Suisse.

Dan Eggers - Crédit Suisse AG, Research Division

Nick, just kind of -- now that the transition for competitor generation in Ohio is kind of on its way, can you just share your thoughts on the future of competitive generation in the AEP business mix? And maybe to what Greg was asking, are you're starting to see or are you able to engage in conversations about some long-term supply agreements to help put some more visibility in that business?

Nicholas K. Akins

Yes, I think we stand by originally what we said relative to this business that it'll hinge upon our ability to see this additional hedging occur, that we can firm up the supply and make it look quasi-regulated. At this point, because capacity markets have been depressed and now recent experience aside, it's difficult to tell how successful we'll be in our ability to hedge that up because -- but we're not standing on our laurels with that. We're aggressively looking at the cost structure of the business. We're also reforming the way we operate as our plants -- because they know full well their survival is at risk there. And so we're going to do everything we can do to position this fleet to where it's positive and also address the market reforms that are occurring for now. And then, hopefully, with the events that have transpired recently with the weather, it could help us in terms of -- and get additional hedges in place. But that business, our retail operation, together now with that generation fleet, there are some opportunities there, so we're working on all fronts to ensure that we're able to position this business as best we can. And at the end of the day, it needs to look quasi-regulated to us.

Dan Eggers - Crédit Suisse AG, Research Division

I guess, yes, Nick, from a market reform perspective, given the time horizon, even to the next RPM results actually affecting your earnings contribution, are there changes going to happen in a reasonable time period of giving you guys comfort to wait it out? Or are you going to need a customer to come in and buy and -- rather than having policy reform to do it?

Nicholas K. Akins

Yes, that sort of -- that remains to be seen. We have -- I think there's 2 or 3 of the changes -- market changes that PJM has filed at FERC. We expect another to get filed. And then with the strainer review of the curve itself, there are some opportunities there if it's done in a positive fashion. But we're going to have to see the results actually of what FERC approves. And it's important for us to see that FERC understands the issues that are in play here and that they obviously make wise decisions on what that market reform should be. And certainly, this is its first round of -- the 2 or 3 filings that have been made by PJM will be instructive in terms of what FERC's mood is relative to market reform.

Dan Eggers - Crédit Suisse AG, Research Division

I guess, just one last question, Nick. Just on -- Greg asked about residential load, but commercial also looking pretty flat for '14 versus '13 with sustained GDP growth and that sort of thing. Is there a potential that, that number will start to spruce up, or are you just not seeing kind of the growth construction or commercial space to give you confidence that's coming back?

Nicholas K. Akins

No, I think there's a chance it will. We just -- I think one quarter, a trend doesn't make. So we've got to look at the numbers for this quarter that's occurring now, and we'll continue to adjust accordingly. And not just only adjust our forecast accordingly, but adjust our cost structure accordingly as well, and our employees are well tuned in to that process at this point. So this is very much about optimization business now.

Operator

Our next question is from Paul Ridzon with KeyBanc.

Paul T. Ridzon - KeyBanc Capital Markets Inc., Research Division

A couple of questions. At EEI, you kind of indicated that your forecast didn't have any project on the transmission side that weren't pretty ironclad. What kind of upside is there from here from what you've done since then?

Nicholas K. Akins

Yes. So as you recall there in EEI, we had the presentation of the real projects that are in the plan right now, and then we had this incremental bandwidth above that graph that showed the incremental real projects that are also in hand that we're finding capital for. As you recall, we -- for 2013, I think we moved $120 million of capital over to transmission as a part of our regular ongoing process, primarily from generation, and that's been positive for us. We'll continue to do that to achieve the capital associated with those particular projects that's still well in hand, moving forward very well. And in fact, now, we're in the process of defining a ridge even above that, but that's going to be -- that's going to have to play itself out in terms of our ability to come up with the real projects. We also -- we aren't standing aside on the sidelines with Transource and other activities. We continue to pursue projects outside of our footprint, as evidenced by the -- I know you probably saw that we were 1 of 5 bidders for a Canadian project in the Murray 500 kV project. So all that's going on in all cylinders. And we're very happy with the progress in there, and we'll continue to identify those real projects that can be done.

Paul T. Ridzon - KeyBanc Capital Markets Inc., Research Division

And then just -- you indicated you're not changing your forecast for gas or power pricing. But I assume it's safe to think that so far in the year, it's been a nice tailwind. In other words, you're not having to go buy power in the east-side markets to fulfill some obligations.

Nicholas K. Akins

Yes, that's right.

Brian X. Tierney

Yes. So most of what we have for off systems, that's for -- particularly for the generation resources side of the business is hedged with its contract to Ohio for the year. So although our units are performing well, demand is strong, I wouldn't want to get -- have irrational exuberance over the fact that it's been cold and prices have been high at this point.

Paul T. Ridzon - KeyBanc Capital Markets Inc., Research Division

But you aren't that long so you are participating?

Brian X. Tierney

What AGR is, and we are participating, but some of our operating companies are having to buy to meet their needs. And we've offered capacity to some of those companies to help fill that need, and some have taken it and some haven't. And we're hoping to get positive resolution to that. But not all of our operating companies are long through this event, but AGR is.

Paul T. Ridzon - KeyBanc Capital Markets Inc., Research Division

Then lastly, just what your early read on what's going to happen in the next capacity auction? Or is it just too many things still up in the air here to predict that?

Nicholas K. Akins

Well, I think if the market reforms that FERC has in front of it now, are approved, that could be helpful. Whether it's enough, remains to be seen. And that's something I think that all the generators are looking at in terms of how matured you're going to get around the continued investment in generation for the long-term within PJM. But that remains to be seen. I think some have said a slight uptick. Some have said more than that. But it remains to be seen.

Operator

And next, we'll go to Kit Konolige with BGC.

Kit Konolige - BGC Partners, Inc., Research Division

A good number of my questions have been answered already. I was just wondering if you could give us a little more color on, Nick, your equalizer slide, as you always call it.

Nicholas K. Akins

Yes.

Kit Konolige - BGC Partners, Inc., Research Division

And just go through it again which is improving and which is deteriorating. And also, could you provide a little detail on the transmission spend and why it's -- why there's a lag there and can that be caught up or is that just going to, the lag, going to stabilize and we'll start to see earnings grow with investment?

Nicholas K. Akins

Yes, sure. So I'll go through it, in terms of the Ohio Power, the 11.3%, that will probably continue to come down slightly because customer switching continues and as part of the Ohio situation. APCo should improve. There is a West Virginia base case that needs to be filed during the year. And then there is also the Virginia by annual case. As far as Kentucky Power is concerned, that's in sort of a middle of the settlement that occurred relative to the Mitchell transfer. Right now, there is sort of a rider in place. But later in the year, our base rate case will be filed that includes Mitchell being moved over. And then, also, as part of that settlement, also some sales revenues come back to the company, 100%. So that's helpful during the interim process. So we expect that to come up. I&M continues to improve. When you get the full value of the rate, and all the rate activities that they've been involved with. I think the last report had 9.1 or something like that, so up to 9.3, which is positive and will continue to improve. That's where we have the legislation for the nuclear life cycle management projects, the environmental projects. So we have a really, really good recovery mechanism there. And then, PSO is in the midst of a rate case. They just filed it, I think, a week ago, a little over a week ago. $45 million rate case and asking for a 10.5% ROE. That's some smart grid activity involved with that. So we expect the positive result there. And then, as far as SWEPCO is concerned, the only lagging part of SWEPCO we have is the portion of Turk that wasn't included in Arkansas retail rates. And that's being sold on the wholesale market. But there are some increases there related to transmission-related costs filings that need to be made in the jurisdictions. And then there are some dollar deals expense that needs to be filed in Arkansas. So they're working on that as well. So we expect that to improve. And it's moved, it originally, I think, was at 7%, it's up to 7.4%. So it's on its way back up. And then, AEP Texas. It stands pretty good in terms of load growth. It's really helping out there. And that number also includes the amortization of the stranded cost. So it looks high, but it includes that. And then, as far as the Transco, ATT is an area where a TCOS filing has been made. And it still lags. So it will lag until the TCOS filing is made, which that's a pretty standard filing that we've, actually we've already made that. But it's a pretty standard filing works much like a fuel cost recovery mechanism. But we expect that to continue to improve. And then, we've obviously, as we try to -- as we address moving capital over to transmission remember, the capital is moving the transmission and we're spending at a pretty accelerated rate there. So the project spends getting out a little bit ahead of the recovery mechanisms, even though the recovery mechanisms are good. So it's a good place to be, as long as we're meeting our earnings objectives and are able to move our capital around, that's a good place to be. So -- and then, we have some, a little bit of developmental expense there related to Transource facilities group reflected through with the construction going on within Transource. So we expect that to continue to improve as well. So really, probably the only one that could move down is Ohio Power because of the everything associated with the transition to Ohio. But the other's -- the other jurisdictions are on their way up and doing well.

Kit Konolige - BGC Partners, Inc., Research Division

And just one other. To be clear, how much is essentially all of the transmission spend adjudicated by FERC and then passed through the operating companies? Or are there -- is there state-level transmission rate case activity?

Nicholas K. Akins

Yes, there is some transmission and the operating companies. By and large, most of it is Transco related. It's FERC regulated. And then, of course, Texas is PUCT regulated. So it's pretty straightforward. I mean, we've got the projects. We know what the projects are. They're real projects, and they're just plowing through the process with some favorable recovery mechanisms. So we're particularly happy with where the transmission business is going.

Kit Konolige - BGC Partners, Inc., Research Division

And the final question. Do you have any kind of middle-term, 3-year view on the transmission, earnings contribution and what that's going to mean for where you are in that cone of earnings guidance after 3 years?

Nicholas K. Akins

Yes. So the high case by '15 is $0.39 a share. And which was, I guess, the original modeling we had have $0.36 a share. So additional $0.03 a share. And then, by '16, we're looking at $0.43 a share. And that they could be upwards toward $0.51 a share. So that's -- and that's based upon those real projects, as I said before. Now if we have incremental projects above that, then there could be additional opportunities there, particularly if some of these projects that we have in PJM that are -- that have been proposed, or the Canadian projects or anything else, that will also contribute beyond what we show and what we did show in the graph back at EEI. But that EEI graph is pretty solid. In that matter, it is solid. And that's pretty solid, it is solid. The issue for us here is making sure we replow the capital back in to get that top side of the transmission, and then also, identify anything beyond that.

Kit Konolige - BGC Partners, Inc., Research Division

And so, just to be clear, if you were to hit the top side of transmission, say, in '15 to $0.39, would that -- would that mean you come in at the top side of that consolidated EPS range?

Nicholas K. Akins

We continue to hold onto our 4% to 6%. Based upon that original guidance in '13 we gave, that had a 3 15 mid-point. It's a broad bandwidth. And certainly, there's a lot of things that could happen, and ins and outs in the process. So it's sort of difficult to tell at this point. But we'll certainly let you know as it gets closer.

Operator

Our next question is from Stephen Byrd with Morgan Stanley.

Stephen Byrd - Morgan Stanley, Research Division

I wanted to talk a little bit more about transmission. Nick, you had laid out on one of there earlier slides about a 9.5% Transco earned ROE for the year, but there are a number of sort of near-term impacts to that. Wondering if you could just flush that out a little bit more and then talk about, going forward. And then I'll shift to a bigger picture question.

Nicholas K. Akins

So as far as the transmission is concerned, the TCOS filing is already made. So I think they have a 6 months, is it, to come up with a solution there, I think. And it's sort of -- it's -- actually, we've been very successful with our TCOS filing. So I wouldn't suspect we would have any issues there. And then, really, the return, the ROE of 9.5% doesn't reflect the authorized return at all. We're just getting out ahead and we're intentionally getting out ahead to make sure that we plow as much capital as we can into transmission.

Brian X. Tierney

And Stephen, you also remember that our authorized ROE in PJM is 11.49% and in SPP, it's 11.2%. And with the formula rates that we have for those Transcos, they get updated on an annual basis. So the longest lag we have is 365 days and the average is 180. But we're piling so much money into that business right now that there is some lag, and that's being reflected in the 9.5% combined ROE.

Nicholas K. Akins

So again, when you look at it, we're not too concerned about the numbers, I mean, actually, we're not very concerned at all at this point, the 9.5% because the authorized is there, the recovery mechanism is there, the real projects are there. So we just keep plowing away. And I think we're benefiting from the years that we started this transmission business. And we're reaching the critical mass in our own type of investments. And we feel very good about what we're spending, how we're spending it, and certainly, the recovery mechanisms that are in play. So you'll see -- I mean, I guess, last since last year we've been saying we're going to plow as much capital as we can in the transmission. And when you get out ahead of the recovery mechanisms in transmission, you're doing a lot. And -- but we're happy with the progress.

Stephen Byrd - Morgan Stanley, Research Division

Nick, your last comment goes to my broader sort of question, when I think about execution risks or transmission. At EEI, you laid out the categories of projects, and many of those looked, honestly to me, as relatively low risk projects. But at a high level, can you talk about execution risk to get to that higher case? What are the key things on your mind when you think about that?

Nicholas K. Akins

I think there's minimal execution risk. These are actual projects that are on the same thing. We're not gold plating anything. We're focused on refurbishing the grid and enhancing the grid to respond to retirements, generation retirements. RTO-related projects. All those kind of things that are in that plan. And there's a minimal execution risk. As long as we perform well, stay on budget, stay with the projects that we've got and ensure that we're -- we've got the right message in terms of optimization, and the activities we do in transmission are needed. And that's something -- what you're seeing in that list is really needed projects for reliability, not economic projects. Those are additive, if they ever occur. So -- and the other positive benefit is that once again, the diversity of all our states is a positive because we're investing, not only in our states, but the adjacent states. And we've added Kansas and Missouri to Transource. So we have some distinct opportunities in all those jurisdictions and the adjacent areas to really have some tremendous benefits here. And really, ultimately, tremendous benefits for our customers and as well, the optimization of the grid itself.

Operator

And we'll go to Paul Patterson with Glenrock Associates.

Paul Patterson - Glenrock Associates LLC

Just wanted to first touch base on this capacity market rent that you're seeing in the Energy markets. Could you elaborate a little bit on that? I mean, where do you see it going forward with respect to this? And I know it's cold out there and what have you, but it would serve an unusually high prices, it seemed, in some jurisdictions, some zones and what have you. And I'm just wondering if you could just elaborate a little bit more as to what you think is actually going on there in the long-term outlook.

Nicholas K. Akins

Yes, I think you're right. I think we're seeing higher energy prices earlier than what we thought. We really thought that it really take off when the units that we are running with retirement. We're retiring 7,150 megawatts of coal fire generation, and 89% of that is running now. And if you start to see which we're seeing and economies start to improve, and on the heels, you're trying to retire that generation, you -- I mean, certainly, we expect that energy prices to continue to improve. But this shows to me, it's shows where the real world and the play world collides. And it reflects through in the energy prices. And if the capacity market is not well thought out in terms of enabling investors to invest and advance relative to construction and everything else associated with the grid itself, then you wind up having this kind of thing happened.

Brian X. Tierney

Hey, Paul, we've been paying in our market area for gas in the PJM part of our footprint, around $6 in MMBtu for gas. You're seeing PJM prices that are $1,000 a megawatt hour during emergencies, going up to $,1,800 a megawatt hour. Do you think that people being paid those prices are being paid for energy? They're not? PJM is basically paying people for the value of their capacity to keep the lights on. It's not energy that they're being paid for, it's capacity. We need to getting some of those capacity rents back in the capacity auction because PJM is showing the real value of having that capacity when they're willing to pay someone $,1,800 when the price of gas is $6 in MMBtu.

Nicholas K. Akins

I think if, I remember back in 1984, I was in system operations, and the same thing happened, where you had a very cold winter, caps gets frozen. instrumentation gets frozen, natural gas isn't available and it winds up being an energy prices goes out the roof. And then every one of your coal units and every other resource that you have is brought on the run. And you also have, with cold weather, obviously, coal piles can get frozen. But we haven't run into too much of that. We've been successful in getting through this process. But I think it shows the value of a balanced portfolio. And when that portfolio is no longer balanced, you're going to have additional risks that are placed upon the grid that we really do need to think about. And you brought up a great question that I guess we can talk about all day. But it's clearly a message that I think everyone needs to really focus on the future of the grid and what it actually means to service for our customers.

Paul Patterson - Glenrock Associates LLC

Okay. I didn't want to take a full day on it because I think you're right. We probably could. But interesting topic. Just back on transmission for a second. I mean, you mentioned that none of this stuff is economic. But do we -- should we expect really no impact on re-rating of the lines, and the improvement on the actual transmission lines in terms of deliverability across regions of LBA as a result of [indiscernible] ?

Nicholas K. Akins

No, no, we're improving the deliverability. We're expanding the ratings of lines. We are putting in additional transformers. We're putting in additional substations. And a substation, I mean, we're building a substation that cost $250 million. So these aren't small investments that are being made, but they're investments to reinforce and increase the capabilities of the grid itself. and then as well with the generation retirements. There's a lot of planning around additional transmission resources to support those retirements as well.

Paul Patterson - Glenrock Associates LLC

Right. But I mean, should we think it perhaps there being an improvement in terms of transmission between LBAs at all? Or I mean, in terms of the actual change in the of, I guess, the ability of power to go places where, more power to go into certain areas?

Nicholas K. Akins

Yes, you'll see it from a reliability perspective. From an economic perspective, it just takes longer to do. Because, I mean, if we cross multi states then you get involved with with cost allocation and the issues between RTOs, and that could be sort of a limiting factor until all of this gets fully rationalized. But ultimately, with the retirements, with the changes in the way the system is being used, it is clear that transmission investment will be a continued positive, at least through the next decade.

Paul Patterson - Glenrock Associates LLC

Okay. And then just finally on the why a first refusal in order of 1,000. Is there any risk that third parties might compete for this transmission CapEx?

Nicholas K. Akins

Oh, yes. But a lot of it, a lot of the transmission that we're doing is our transmission project. So when you get into the competitive projects, that's where order 1,000 comes into play. And we think we're well-positioned to compete in that environment because we've been doing it for a while. And so, not only do we have our own projects that are providing the top line for that critical mass, but we also have those other projects that we're competitively bidding that now we're seeing success in.

Brian X. Tierney

Hey, Paul, what you see in our forecast for transmission spent in earnings, is not subject to Rover. Those are projects that we control, that we have the ability to invest in that are not going to be taken from us by someone else competing for it.

Nicholas K. Akins

And that included those incremental projects that we showed on top as well.

Operator

Our next question is from Steven Fleishman with Wolfe Research.

Steven I. Fleishman - Wolfe Research, LLC

Just, I think Brian mentioned, in his remarks, that prices are a lot higher in near-term than was in your plan, but that you'll be kind of over this multi year period actively managing outages and expenses to kind of stay within that range, roughly. Could you just maybe elaborate? I read that as kind of as you're having a really good period, you'll use that to invest more to benefit kind of the future periods. Is that...

Nicholas K. Akins

Yes, you're right.

Brian X. Tierney

Yes, Steve, obviously, as we're working our way into '15, '16 and '17, and you and others have identified some of the shortfall that we have associated with the transition in Ohio, and then the RPM pricing that we're facing, we're going to be doing things, like moving outages around during that time period, maybe pulling some forward, if we find ourselves a bit hot on earnings in an earlier period, maybe pushing them out into the '17, '18 timeframe. And we're really going to be managing our way through this to a very high degree as we work our way through to make sure we stay in that cone that we've identified. So if we come in -- if we see things particularly hot, whether it's weather or pricing, in 2014, we might pull some outages or expenses out of '15, '16 into '14' to help us manage our way through that process. So I think your description of it makes me think that you understand very well what we're doing.

Nicholas K. Akins

And that's a process that we've put in place here that I think is working just extremely well. It not only gets capital to transmission, but it also enables us to move projects from one year to another into the year. And that's really a positive process for us that we put in place. It's worked very well. We continue to look at it. We look at numbers on a pretty regular basis to ensure that we're managing the year in the proper fashion. We'll continue to do that. Because, as you all have pointed out, this '14, '15, '16 years are critical for us, particularly '16, because of the capacity markets. But we're managing to it. And so far, we're doing very well.

Steven I. Fleishman - Wolfe Research, LLC

Okay. And just, in 2014, what is your specific savings in pension and OPEBs? I know that's within your O&M budget. But just that specific line, what are the savings versus '13?

Brian X. Tierney

So let me give you some detail on that. '13, and you talked about 2 different things, Steve, we'll talk about the pension costs and then the pension expense, okay. So the cost for '13 was $114 million, and the expense ended up coming in being about $64 million, okay, the O&M expense. And then we're forecasting for '14 the cost to be about $84 million. And we're anticipating that the expense will be about $52 million. So the difference year-on-year, the $64 million to the $31 million, is about $33 million.

Operator

And we'll go to Brian Chin with Bank of America.

Brian Chin - BofA Merrill Lynch, Research Division

Just given the recent weather, and a little bit of how the current situation is unfolding. Can you give us some color on cold days of inventory on hand? And does this prompt you to think that there might be some changes to how you head into the contract of season for cold later this year?

Nicholas K. Akins

Yes, typically, we pull down inventories during the winter months. And we've been on the order of 30 to 35 days on average for just about the whole year. I think it was at the top, it was around 40 days. And it's down to 30, 35 days, and we're fine with that. And we'll be very sensitive about how much additional coal procurement we do as a result. We have a pretty flexible system. And some -- well, and all of our contracts are pretty flexible. So we feel pretty good about where we're at now. I don't think -- we don't have any changing conditions or requirements that we're placing on our coal buying efforts because of the weather. We're just performing as we thought we would.

Brian X. Tierney

We've got more cold than the country has cold right now. We're good to go.

Operator

And our next question is from Anthony Crowdell with Jefferies.

Anthony C. Crowdell - Jefferies LLC, Research Division

I have a question on, Nick, save the slide, the equalizer slide. And just 2 part. Where do you think the ROEs could go or where do you think is the normalized level of ROE? And what type of sensitivity could you give us, say, for every 50 basis point change in this regulated operation ROE. We could see the $0.10 improvement in earnings or something?

Nicholas K. Akins

Yes. So I think we look at the equalizer chart I like for it to be with the 10 handle on it. And certainly, we'll -- we said long-term. And we're looking around 10.2, 10.3, in that range. And you're seeing in sort of a quarterly perturbation of a lot of activity that's coming into play here. So as long as it just stays in that range, we're in good shape. And Brian, you got anything you want to add.

Brian X. Tierney

I don't, Anthony. We could get you some type of sensitivity for across the system what the 50 basis point change in overall ROE would be, we can get that for you.

Operator

And we'll go to Jonathan Arnold with Deutsche Bank.

Jonathan P. Arnold - Deutsche Bank AG, Research Division

Quickly on rate. So 2014, you had the EEI of 1 97 penciled in, now it's 1 75. Is that change any things that came in lower or lower assumption on the things you haven't yet got?

Brian X. Tierney

'13 came in a little bit higher. The difference is a little bit lower.

Jonathan P. Arnold - Deutsche Bank AG, Research Division

So it's basically the '13 starting point?

Brian X. Tierney

Yes.

Nicholas K. Akins

Yes.

Jonathan P. Arnold - Deutsche Bank AG, Research Division

Great. And then secondly, just coming back to this demand question and in the context some of your comments about sort of managing within the curve. I mean, you did take down the residential forecast to this year by, I think, 80 basis points and commercial by 90 in what's, less than 3 months. So are you genuinely seeing that much more concern versus what you're seeing in November? Or is this a little kind of conservatism to offset other stuff?

Brian X. Tierney

Yes, so you asked us 2 different questions with the same answer. The answer for your prior question is the same as this one. '13 came in a little bit higher.

Operator

We'll move to Michael Lapides with Goldman Sachs.

Michael J. Lapides - Goldman Sachs Group Inc., Research Division

Yes, 2 questions unrelated. First, on the transmission side. We've seen in the MISO and in New England dockets where interveners are seeking lower transmission base ROEs. If same things happens in some of -- whether it's the Southwest Power Pool, whether it's in PJM, how -- what do you think that tipping point is where we change or, I don't know, you're incentive or your desire to be a sizable investor in transmission in the U.S.?

Nicholas K. Akins

I think, as long as transmission is, at a premium or equal to the state rates, we're in good shape. And I think, clearly, there is an incentive being placed on building transmission. We're happy with that. And if -- really, once again, the FERC needs to send some messages here that from a policy perspective that we want to continue building transmission in this country. And as long as that premium is at or above the state rates, then we're in good shape.

Brian X. Tierney

FERC was clearly, Michael, looking to attract a capital into this space. And what they've done with their ROEs has done exactly what FERC wanted to happen. So as long as they, as Nick was saying, as long as they continue to send a signal that they want increased investment in this area, we'll respond to that signal.

Nicholas K. Akins

Okay, I think it's good -- I think, it continues to be part and parcel to the overall grid expansion that's going on in the resilience of the grid. And there's going to continue to be spin regardless. The question is, do you really want to satisfy that precursor of transmission being build out to respond to the generation retirements and so forth to optimize the grid so that you can do that as a prerequisite and then focus on the rest of the underlying system. That's what key. I think you got to get through this transitional process we're at in this industry. So transmission needs to be incentivized in that regard because that will provide the greatest benefit in terms of resiliency of the grid, but also in terms of the optimization of the resources that are attached to the grid.

Michael J. Lapides - Goldman Sachs Group Inc., Research Division

Got it. And just looking at your non-transmission investments. So the jurisdictions where you have -- distribution and/or generation right base. Where do you see the greatest year-over-year changes in capital spending? Where do you see kind of a slowing of capital spending?

Brian X. Tierney

Incrementally more, Michael, in the OPCo T investments across our system is where we're seeing significantly more investment. We're also seeing increased investment in our Cook Nuclear Power Plant and associated with some of the environmental investments that we're having to make to be responsive demands by 2015. So those are general areas where we're seeing incremental investment.

Nicholas K. Akins

Yes, I think we're $3.5 billion to $4 billion on the environmental spend now over the period. And then, when you look at the other capital that we're spending, it's block and tackle spending that typically is recovered from a regulated standpoint. So we're sort of in a position where we're not having to build a large central station generation, but we are able to focus on Transmission and Distribution investments that are clearly beneficial to customers. And customers actually see, and that's a positive.

Operator

And we'll go to Hugh Wynne with Sanford Bernstein.

Hugh Wynne - Sanford C. Bernstein & Co., LLC., Research Division

My question is on Page 11. It appears there that probably, half or more of your expected pretax earnings improvement by 2016 will be driven by generation and perhaps, a quarter or less by distribution. When I think of the Generation segment, that's obviously one that's transitioning the combination in environments of $60 per megawatt day capacity prices. Distribution, on the other hand, is probably, I would imagine, half of your rate base, half of your O&M. A lot of that at utilities that are under earning. Why -- I'm wondering if you can give me some color on the SKU of these earnings improvements towards generation and relatively strong contribution from Distribution?

Nicholas K. Akins

I think it’s just a matter that your generation typically has to the big ticket items that can be adjusted. And when you look at consumables for a scrubber, the way that all of the parasitic load operates within the plant. Certainly, the way that you contract for the activity is associated with it, particularly in terms of use of contractors versus use of employees, all those types of things are substantial within the generation framework. And there, again, generation sort of functions each plant, functions as its own profit center. And so, doing that, it can focus more readily on the benefits associated with optimization of how they operate. And from a distribution standpoint, it really is a matter of outage scheduling, management with the customers, the processes that are in place that goes back through the organization. So it's probably, at least in our view, when you reach from the customer side of things, you want the distribution side to be very robust in terms of the way that it operates to provide the customer experience that we're asking for. From a generation side, that's all done sort of as a back-office function and it contributes heavily to the benefits from an OEM perspective, but also from a capital perspective. And that's our expectation as we get through this. Nuclear, that process hasn't been through lean activities. They start the lean activities. obviously, we're very careful because Nuclear is different. But it's a heavy capital and OEM spend. And there are opportunities for optimization there as well. So I think we've got the right balance when you look at generation. And then when you look at Transmission and Distribution together, you're -- we're on par.

Operator

And to the presenters, we have no further questions in queue.

Brian X. Tierney

Okay. Well, thank you all very much.

Bette Jo Rozsa

Yes, thank you for joining us on today's call. As always, the IR team will be available to answer any additional questions you may have. John, can you please give the replay information.

Operator

Certainly. Ladies and gentlemen, this conference is available for replay. It starts today at 11:00 a.m. Eastern will last until February 3, 2013 at midnight. You may access the replay at any time by dialing (800) 475-6701 or (320) 365-3844, and the access code is 313839. That does conclude your conference for today. Thank you for your participation, and you may now disconnect.

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