AEP Sustainability - Regulatory

Regulatory and Public Policy

The energy industry is one of the most highly regulated sectors of the U.S. economy and is undergoing a major transformation to modernize the grid – making it more reliable, resilient and customer friendly. As our industry evolves, we will continue working with our regulators and legislators at the federal, state and local levels.

AEP operates in 11 states within a variety of jurisdictional regulatory frameworks. Those frameworks are primarily governed by state legislatures that direct state regulatory commissions to achieve overarching policy goals. These regulatory and legislative environments, in conjunction with federal regulation and legislation, define the parameters of AEP’s business and planning models.

One aspect of fast change is the North American Electric Reliability Corporation (NERC) Compliance Standards and Requirements that require increased security and reliability of the bulk electric system. This means more frequent audits focusing on documentation and evaluation of controls, and increased regulatory scrutiny and pressure. It also means the potential for higher penalties and greater reputational risk for companies. In response to the constantly evolving nature of NERC Critical Infrastructure Protection (CIP) standards, we formed a separate governance structure and associated teams devoted to NERC reliability assurance.

Our priority is to maintain and operate a safe and reliable grid that is resilient and adaptive. Our generation, transmission and distribution system investments directly affect our customers and shareholders. These investments must coexist with regulation and policy considerations, such as environmental rules and affordability. Regulatory frameworks must be responsive to today’s technology and customer preference environment. As we transition to a clean energy future, we are reshaping our asset base in a reliable and affordable manner for our customers while managing the financial risk for our shareholders.

The regulatory compact is a term used to describe traditional regulation of vertically integrated utilities. It is a regulatory environment in which an energy company makes prudent investments to ensure safe and reliable electric service for all customers. Under the regulatory compact, a utility has an obligation to provide service to all customers in a certain territory. In exchange, government regulatory agencies allow the opportunity for the utility to earn a fair and reasonable profit. The company applies to its state regulatory commission for cost recovery of its investments, and the commission approves the expense with an opportunity to earn a fair rate of return on investment.

The majority of electric utilities operated in this way until the deregulation trends began in the 1990s. Now, states have varying levels of competition where the generation and/or access to retail customers is competitive. However, even in those states, the regulatory compact is still responsible for the regulation of the “wires.”

AEP embraces the regulatory compact, but we also see a need for more flexibility through alternative ratemaking models to keep pace with advances in technology and ensure timely recovery of costs. This is imperative to meeting the changing needs of our customers. For example, as more customers demand clean energy, we need support from state regulators to enable investments in renewable resources.

Today’s technologies offer creative energy solutions that were not envisioned just a few years ago. To respond to these technological advancements, we need regulatory models that give utilities the ability to explore new and evolving solutions as they determine what delivers the best value for our customers today and in the future.

The classifications of generation, transmission and distribution should also be revisited, as those boundaries are becoming blurred with the advent of new technologies and distributed resources. We also need to consider transition issues as utilities move from central station generation to more distributed energy resources.

As we look at the regulatory future of our industry, we need the ability to offer customized goods and services to our customers while maintaining system reliability and universal access to the grid. In 2018, we introduced several innovative rate offerings to maximize value for our customers. For example, Indiana Michigan Power (I&M) introduced a flat rate bill called EZ Bill for residential and small commercial customers in Indiana. The program, approved by state regulators, allows I&M to offer individualized rates to customers who sign up.

This is an important option for customers who value the predictability and convenience of receiving a predetermined, fixed monthly charge for their electric service. This makes budgeting and financial planning easier, especially for customers with fixed or limited incomes. For customers who want to know what their electric bill will be in advance, the EZ Bill program meets that need.

In Oklahoma, we introduced a pre-pay program, known as Power Pay, which functions similarly to a prepaid phone card. This program offers customers of Public Service Company of Oklahoma (PSO) a voluntary payment option, giving them more control over when and how they pay for their electric service. Dozens of authorized payment kiosks are located throughout PSO’s service territory, giving customers additional payment options. Power Pay also gives our customers information about their usage and cost so they can make informed decisions. At the end of 2018, nearly 20,000 customers were taking advantage of this program.

In 2019, Appalachian Power received approval to establish a seasonal rate in West Virginia that would apply to electricity sales above a specific threshold during winter months. With the seasonal rate structure, customers with higher winter usage, such as those with electric heat, will see little or no increase, or even a decrease, in their bills.

These are some examples of alternative rate models that are needed today to meet the changing needs of customers.

Similar to other companies, AEP has a public policy strategy that seeks to inform decisions made by Congress, Federal Energy Regulatory Commission (FERC), North American Electric Reliability Corporation (NERC), state legislatures and regulatory commissions, and Regional Transmission Organizations (RTOs).

In 2017, AEP formed the Policy Advisory Team (PAT) to create a more efficient and consistent policy strategy across the company. The team comprises senior executives across multiple business functions and departments, including some who represent the company in Washington, D.C., and the state capitals in our service territory.

The PAT considers policy options on issues of relevance to the company and supports internal policy analysis and debate. This approach ensures that AEP is speaking with one voice, and that all employees with external contacts are clear on our policy positions and objectives. Since its inception, the PAT has considered roughly a dozen issues on which we have developed positions.

In strategic discussions about how we can best align ourselves to maximize the customer benefits of new technologies, we talk about “future-proofing” our company. To adapt to the changing energy landscape, we require a regulatory and legislative framework that enables the flexibility to incorporate new technologies, including those we have not yet even envisioned.

AEP is installing fiber cable as part of our grid modernization efforts, which provides a new opportunity to piggyback on this installation to extend broadband service to unserved or underserved areas throughout our service territory. Fiber cable provides the best technology to meet our needs for upgrading the grid: it is highly resistant to corrosion and is critical to providing a modern communications infrastructure as the demand for two-way flows of data and power increase. We believe broadband technology plays an important role in the economic development and sustainable quality of life of rural and suburban America. We are exploring new options for the dual use of fiber for grid modernization and enabling Internet Service Providers to make the final connection to areas that lack broadband coverage.

In 2018, Appalachian Power (APCo) completed a Broadband Feasibility Study as required by the Virginia Grid Transformation and Security Act of 2018. The study found that several barriers prevent broadband from using distribution and transmission infrastructure, including the ability to recover costs. The study also identified potential strategies to support broadband development, including increasing the capacity of fiber that APCo would install to support its grid modernization program. For projects already planned, it would require increasing the fiber capacity with the intent of leasing the extra fiber strands to broadband service providers.

There are significant challenges including legislative restrictions in many states that prohibit us from recovering our investments if we install additional fiber to support broadband expansion. We are working with legislators and regulators in our states to gauge interest and explore options.

In a promising move, Virginia lawmakers took steps in March 2019 to address the geographic disparities in broadband coverage. Lawmakers approved House Bill 2691, giving the state’s two largest electric utilities – including APCo – the green light to create a pilot to expand “middle mile” broadband coverage. This is the infrastructure that connects the networks and core routers on the internet to local service providers and consumers directly. Importantly, the bill allows the companies to recover the cost of the pilot from ratepayers. The final connection, called the “last mile,” would be the responsibility of third-party internet providers.

In addition to delivering modern-day technology to underserved areas, this is a potential new business opportunity for AEP. Providing the means to extend high-speed internet to these areas also creates new opportunities for home-based work and helps to power economic stability for customers and communities.

Traditionally, distribution service has been totally within the purview of the local electric utility. This is true whether the retail model in a state is regulated or competitive. It provides the utility with a direct customer relationship. AEP thinks that relationship is invaluable for both assuring universal service and in optimizing service delivery; therefore, we want to do everything we can to preserve it.

New models, however, have arisen. New York and California have led the way in creating energy market platforms at the retail level very similar to regional wholesale markets. By doing so, these models allow entrants other than utilities to have full retail access to the customer. This includes those areas that traditionally have been preserved for the distribution/wires utility. It is clear that technology and potentially competitive opportunities for new entrants are challenging the existing regulatory paradigm. As distributive, non-wires and behind-the-meter technologies evolve, so will competition where appropriate. It is imperative, however, that the traditional utility not be precluded from participating in these new markets, thereby ensuring that these technologies are available to all and are deployed in a manner consistent with customer demands.

States within the AEP footprint are exploring other models, such as Ohio with its PowerForward Initiative. AEP believes conversations between the utility and regulators early in the process, similar to those ongoing as part of PowerForward, provide for an optimal model design to seamlessly enable these technologies to customers’ benefit.

The Tax Cuts and Jobs Act (TCJA) enacted in late 2017 reduced the corporate tax rate from 35 percent to 21 percent, effective in 2018, and resulted in ongoing rate reductions for customers. The tax bill also maintains the federal income tax deduction for interest expense for regulated electric companies and preserves the federal income tax deduction for state and local taxes, resulting in positive outcomes for both AEP and our customers. Additionally, AEP’s FERC jurisdictional formula rates allow the benefits of tax reform to flow through efficiently to wholesale transmission and generation customers.

The North American Electric Reliability Corporation (NERC) develops and enforces the rules and standards that protect the North American bulk power system. NERC Compliance Standards and Requirements are rapidly evolving, requiring increased security and reliability of the grid. This means increased scrutiny of compliance efforts. In response, we are changing our structure to align with our compliance requirements, ensuring the appropriate focus on the evolving regulations.

The new structure comprises of three layers of governance with distinct responsibilities. The Reliability Compliance Committee (RCC) includes AEP’s top executives who are accountable for establishing the vision, mission and culture expectations of the program. Additional governance teams are all working toward a common goal of achieving operational excellence in grid reliability and security.

In 2018, we established a multiyear strategic plan for NERC compliance operational excellence. This strategic plan is being rolled out in 2019, and will focus our work on four areas: governance, program consistency, communication and culture, and audit readiness.

Although the strategic plan will address all of the NERC standards, it will have a major focus on Critical Infrastructure Protection (CIP) Standards. The CIP Standards are evolving at a faster rate and represent increased regulation to protect against cyber threats. To date, new versions of the CIP Standards have significantly expanded the scope of cyber systems associated with grid reliability.

Our goal is to improve our program and establish AEP as an industry leader in NERC reliability.

The electric utility industry is undergoing a fundamental transformation driven by a number of factors, including new public policies. For the benefit of all stakeholders, we actively participate in the political process and in lobbying activities at the national, state and local levels.

The investments needed to modernize the power grid are in the billions of dollars, and the stakes have never been higher. To understand the policies and regulations that could affect our business, we participate in a number of organizations, lobby on our customers’ behalf and contribute to political candidates, where allowed by law.

Each year, AEP publicly discloses lobbying activities and political contributions. We also annually report on the portions of membership dues paid to organizations such as the U.S. Chamber of Commerce and Edison Electric Institute (EEI) that go toward lobbying. We post our lobbying policy online and we discuss political contributions annually with AEP’s Board of Directors’ Committee on Directors and Corporate Governance.

We have been asked by stakeholders why we belong to some organizations whose positions may conflict with AEP’s. In general, we believe it is better to be at the table and engaged in the discussion whether or not we are in total agreement. When we disagree, we voice our concerns and work to change the position. Sometimes we prevail, and sometimes we do not, but we strive to reach an appropriate position based on the facts available. In addition, many of our customers belong to these organizations, and this helps us better understand their concerns and needs.

We believe in transparency and active participation in public debate. Our experience is that open, candid discussion and a good-faith attempt to reach common ground is the best way to do business.