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PPL > SEC Filings for PPL > Form 10-Q on 3-May-2013All Recent SEC Filings

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Form 10-Q for PPL CORP


3-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following should be read in conjunction with PPL's Condensed Consolidated Financial Statements and the accompanying Notes and with PPL's 2012 Form 10-K. Capitalized terms and abbreviations are defined in the glossary. Dollars are in millions, except per share data, unless otherwise noted.

"Management's Discussion and Analysis of Financial Condition and Results of Operations" includes the following information:

"Overview" provides a description of PPL and its business strategy, a summary of Net Income Attributable to PPL Shareowners and a discussion of certain events related to PPL's results of operations and financial condition.

"Results of Operations" provides a summary of PPL's earnings, a review of results by reportable segment and a description of key factors by segment expected to impact future earnings. This section ends with explanations of significant changes in principal line items on PPL's Statements of Income, comparing the three months ended March 31, 2013 with 2012.

"Financial Condition - Liquidity and Capital Resources" provides an analysis of PPL's liquidity position and credit profile. This section also includes a discussion of rating agency actions.

"Financial Condition - Risk Management" provides an explanation of PPL's risk management programs relating to market and credit risk.

Overview

Introduction

PPL is an energy and utility holding company with headquarters in Allentown, Pennsylvania. Through subsidiaries, PPL generates electricity from power plants in the northeastern, northwestern and southeastern U.S., markets wholesale and retail energy primarily in the northeastern and northwestern portions of the U.S., delivers electricity to customers in Pennsylvania, Kentucky, Virginia, Tennessee and the U.K. and delivers natural gas to customers in Kentucky.

PPL's principal subsidiaries are shown below (* denotes an SEC registrant):

PPL Corporation*

PPL Capital Funding

                        LKE*                      PPL Global                     PPL Electric*                  PPL Energy Supply*
                                              ? Engages in the               ? Engages in the
                                              regulated                      regulated transmission
                                              distribution of                and distribution of
                                              electricity in the             electricity in
                                              U.K.                           Pennsylvania


        LG&E*                         KU*                                                          PPL EnergyPlus              PPL Generation
? Engages in the            ? Engages in the                                                    ? Performs energy             ? Engages in the
regulated generation,       regulated generation,                                               marketing and trading         competitive
transmission,               transmission,                                                       activities                    generation of
distribution and sale       distribution and sale of                                            ? Purchases fuel              electricity,
of electricity in           electricity, primarily                                                                            primarily in
Kentucky, and               in Kentucky                                                                                       Pennsylvania and
distribution and sale                                                                                                         Montana
of natural gas in
Kentucky

Kentucky Regulated U.K. Regulated Pennsylvania Regulated Supply Segment Segment Segment Segment


Business Strategy

PPL's strategy for its regulated electricity and gas delivery businesses is to achieve stable, long-term growth in earnings and rate base. Rate base is expected to grow as a result of significant capital expenditure programs aimed at maintaining existing assets and improving system reliability at each of the regulated subsidiaries. These regulated businesses focus on timely recovery of costs, efficient operations, strong customer service and constructive regulatory relationships.

PPL's strategy for its energy supply business is to achieve disciplined optimization of energy supply margins while mitigating volatility in both cash flows and earnings. More specifically, PPL's strategy is to optimize the value from its competitive generation and marketing portfolios. PPL endeavors to do this by matching energy supply with load, or customer demand, under contracts of varying durations with creditworthy counterparties to capture profits while effectively managing exposure to energy and fuel price volatility, counterparty credit risk and operational risk. PPL is focused on maintaining profitability for its energy supply business during the current and projected period of low commodity prices by controlling its capital and operation and maintenance expenditures.

To manage financing costs and access to credit markets and to fund its capital expenditure program, a key objective for PPL is to maintain strong credit profiles and liquidity positions. In addition, PPL has financial and operational risk management programs that, among other things, are designed to monitor and manage exposure to earnings and cash flow volatility related to changes in energy and fuel prices, interest rates, foreign currency exchange rates, counterparty credit quality and the operating performance of its generating units.

Financial and Operational Developments

Net Income Attributable to PPL Shareowners

Net Income Attributable to PPL Shareowners for the periods ended March 31 by
segment, and reconciled to PPL's consolidated results, was:

                                                              Three Months
                                                            2013       2012

Kentucky Regulated                                         $    85    $    42
U.K. Regulated                                                 313        165
Pennsylvania Regulated                                          64         33
Supply                                                         (46)       301
Corporate and Other (a)                                         (3)
Net Income Attributable to PPL Shareowners                 $   413    $   541

EPS - basic                                                $  0.70    $  0.93
EPS - diluted (b)                                          $  0.65    $  0.93

(a) Primarily represents costs incurred at the corporate level that have not been allocated or assigned to the segments, which is presented to reconcile segment information to PPL's consolidated results. For 2012 there were no significant amounts in this category.

(b) See "Equity Units" below for information on the Equity Units' impact on the calculation of 2013 diluted EPS.

Earnings for the three months ended March 31, 2013 decreased 24% compared with 2012. See "Results of Operations" below for further discussion of PPL's business segments, details of special items and analysis of the consolidated results of operations.

Economic and Market Conditions

Unregulated Gross Energy Margins associated with PPL Energy Supply's competitive generation and marketing business are impacted by changes in market prices and demand for electricity and natural gas, power plant availability, competition in the markets for retail customers, fuel costs and availability, fuel transportation costs and other costs. Current depressed wholesale market prices for electricity and natural gas have resulted from general weak economic conditions and other factors, including the impact of expanded domestic shale gas development. As a result of these factors, lower future energy margins are expected to continue compared to the energy margins in 2012. As has been PPL Energy Supply's practice in periods of changing business conditions, PPL Energy Supply continues to review its future business and operational plans, including capital and operation and maintenance expenditures, as well as its hedging strategies.


PPL Energy Supply continues to monitor its Corette plant (which as previously announced will be placed in long-term reserve status, suspending the plant's operation due to expected market conditions and the costs to comply with the MATS beginning in April 2015) for impairment. The Corette plant asset group's carrying value at March 31, 2013 was $65 million. Although the Corette plant was not impaired at March 31, 2013, it is reasonably possible that an impairment could occur in future periods, as higher priced sales contracts settle, adversely impacting projected cash flows.

PPL cannot predict the future impact that economic and market conditions and regulatory requirements may have on its financial condition or results of operations.

Susquehanna Turbine Blade Inspection

In the spring of 2013, PPL Energy Supply will begin making modifications to address the causes of turbine blade cracking at the PPL Susquehanna nuclear plant that was first identified in 2011. The modifications will be made during the Unit 2 refueling outage and an additional planned outage for Unit
1. Following completion of the modifications, PPL Energy Supply plans to continue monitoring the turbine blades using enhanced diagnostic equipment.

Rate Case Proceedings

Pennsylvania

In December 2012, the PUC approved a total distribution revenue increase of about $71 million, using a 10.4% return on equity. The approved rates became effective January 1, 2013.

Kentucky

In December 2012, the KPSC approved a rate case settlement agreement providing for increases in annual base electricity rates of $34 million for LG&E and $51 million for KU and an increase in annual base gas rates of $15 million for LG&E using a 10.25% return on equity. The approved rates became effective January 1, 2013.

RIIO-ED1

In October 2010, Ofgem announced changes to the regulatory framework that will be effective for the U.K. electricity distribution sector, including WPD, beginning April 2015. The framework, known as RIIO (Revenues = Incentives + Innovation + Outputs), is intended to encourage investment in regulated infrastructure. The next electricity distribution price control review is referred to as RIIO-ED1. Key components of the RIIO-ED1 are: an extension of the price review period to eight years, increased emphasis on outputs and incentives, enhanced stakeholder engagement including network customers, a stronger incentive framework to encourage more efficient investment and innovation, and continued use of a single weighted average cost of capital. Ofgem has also indicated that the depreciation of the RAV, for RAV additions after April 1, 2015, will change from 20 years to 45 years, but that they will consider transition arrangements. WPD published a draft of its 2015 - 2023 business plan on its website in March 2013 in order to solicit feedback from stakeholders on its plan prior to submission to Ofgem in July 2013. See "Item 1. Business - Background - U.K. Regulated Segment - Revenue and Regulation" in the 2012 Form 10-K for additional information. At this time, WPD cannot predict the outcome or the future financial impact of this matter.

Legislation - Regulatory Procedures and Mechanisms

Act 11 authorizes the PUC to approve two specific ratemaking mechanisms - the use of a fully projected future test year in base rate proceedings and, subject to certain conditions, the use of a DSIC. Such alternative ratemaking procedures and mechanisms provide opportunity for accelerated cost-recovery and, therefore, are important to PPL Electric as it begins a period of significant capital investment to maintain and enhance the reliability of its delivery system, including the replacement of aging distribution assets. In August 2012, the PUC issued a final implementation order adopting procedures, guidelines and a model tariff for the implementation of Act 11. Act 11 requires utilities to file an LTIIP as a prerequisite to filing for recovery through the DSIC. The LTIIP is mandated to be a five- to ten-year plan describing projects eligible for inclusion in the DSIC. In September 2012, PPL Electric filed its LTIIP describing projects eligible for inclusion in the DSIC.

The PUC approved the LTIIP on January 10, 2013 and, on January 15, 2013, PPL Electric filed a petition requesting permission to establish a DSIC. Several parties have filed responses to PPL Electric's petition. The case remains pending before the PUC. PPL Electric does not expect any new rates to be effective before the third quarter of 2013.


FERC Formula Rates

Transmission rates are regulated by the FERC. PPL Electric's transmission revenues are billed in accordance with a FERC-approved PJM open access transmission tariff that utilizes a formula-based rate recovery mechanism. The formula rate is calculated, in part, based on financial results as reported in PPL Electric's annual FERC Form No. 1, filed under FERC's Uniform System of Accounts (USOA). PPL Electric must follow FERC's USOA, which requires subsidiaries to be presented, for FERC reporting purposes, using the equity method of accounting unless a waiver has been issued. The FERC has granted waivers of this requirement to other utilities when such waiver would more accurately present the integrated operations of the utilities and their subsidiaries. In March 2013, as part of a routine FERC audit of PPL and its subsidiaries, PPL Electric determined that it never obtained a waiver of the use of the equity method of accounting for PPL Receivables Corporation (PPL Receivables). PPL Receivables is a wholly owned subsidiary of PPL Electric, formed in 2004 to purchase eligible accounts receivable and unbilled revenue of PPL Electric to collateralize commercial paper issuances to reduce borrowing costs. In March 2013, PPL Electric filed a request for waiver with FERC that, if approved, would allow it to continue to consolidate the results of PPL Receivables with the results of PPL Electric, as it has done since 2004. While PPL Electric may ultimately be successful in obtaining a waiver from FERC, FERC may require PPL Electric to re-issue one or more of its prior FERC Form No. 1 filings in either the audit proceeding or the waiver proceeding. If re-issuance of FERC Form No. 1 filings were required by FERC, PPL Electric's revenue requirement calculated under the formula rate could be negatively impacted. The impact, if any, is not known at this time but could range between $0 and $40 million, pre-tax. PPL Electric cannot predict the outcome of the waiver or audit proceedings, which remain pending before the FERC.

Equity Forward Agreements

In connection with an April 2012 registered public offering of 9.9 million shares of PPL common stock, PPL entered into forward sale agreements with two counterparties. In conjunction with that offering, the underwriters exercised an overallotment option and PPL entered into additional forward sale agreements covering 591 thousand shares of PPL common stock.

In April 2013, PPL settled the initial forward sale agreements by the issuance of 8.4 million shares of PPL common stock and cash settlement of the remaining 1.5 million shares. PPL received net cash proceeds of $205 million, which was calculated based on an initial forward price of $27.02 per share reduced during the period the contracts were outstanding as specified in the forward sale agreements. PPL used the net proceeds to repay short-term debt obligations and for other general corporate purposes. Settlement of the forward sale agreements covering 591 thousand remaining shares will occur no later than July 2013. PPL may elect to issue common stock, cash settle or net share settle all or a portion of its rights or obligations under the forward sale agreements.

The forward sale agreements are classified as equity transactions. As a result, no amounts were recorded in the consolidated financial statements until the April 2013 settlement of the initial forward sale agreements. However, prior to the April 2013 settlement, incremental shares were included within the calculation of diluted EPS using the treasury stock method. See Note 4 to the Financial Statements for the impact on the calculation of diluted EPS.

Equity Units

During 2013, two events will occur related to the components of the 2010 Equity Units. On July 1, PPL will receive proceeds of $1.150 billion through the issuance of PPL common stock to settle the 2010 Purchase Contracts, and in the second quarter of 2013, PPL Capital Funding expects to remarket the 4.625% Junior Subordinated Notes due 2018. During the first quarter of 2013, financing plans were finalized to remarket the debt component of the Equity Units.

The If-Converted Method of calculating diluted EPS was applied to the Equity Units beginning in the first quarter of 2013 resulting in $15 million of interest charges (after-tax) being added back to net income available to PPL common shareowners and 72 million shares of PPL common stock being treated as outstanding. See Note 4 to the Financial Statements for the impact on the calculation of diluted EPS.

Results of Operations

The following discussion provides a review of results by reportable segment and a description of key factors by segment expected to impact future earnings. This section ends with "Statement of Income Analysis," which includes explanations of Kentucky Gross Margins, Pennsylvania Gross Delivery Margins and Unregulated Gross Energy Margins and significant changes in principal line items on PPL's Statements of Income, comparing the three months ended March 31, 2013 with 2012.


The results for interim periods can be disproportionately influenced by numerous factors and developments and by seasonal variations. As such, the results of operations for interim periods do not necessarily indicate results or trends for the year or future periods.

Tables analyzing changes in amounts between periods within "Segment Results" and "Statement of Income Analysis" are presented on a constant U.K. foreign currency exchange rate basis, where applicable, in order to isolate the impact of the change in the exchange rate on the item being explained. Results computed on a constant U.K. foreign currency exchange rate basis are calculated by translating current year results at the prior year weighted-average U.K. foreign currency exchange rate.

Segment Results

Kentucky Regulated Segment

The Kentucky Regulated segment consists primarily of LKE's regulated electricity
generation, transmission and distribution operations. This segment also includes
LKE's regulated distribution and sale of natural gas. In addition, the Kentucky
Regulated segment is allocated certain financing costs.

Net Income Attributable to PPL Shareowners for the periods ended March 31
includes the following results:

                                                       Three Months
                                                2013      2012     % Change

Utility revenues                               $  800    $  705         13
Fuel                                              231       213          8
Energy purchases                                   86        74         16
Other operation and maintenance                   197       206         (4)
Depreciation                                       82        86         (5)
Taxes, other than income                           12        11          9
    Total operating expenses                      608       590          3
Other Income (Expense) - net                       (2)       (3)       (33)
Interest Expense                                   55        55
Income Taxes                                       50        15        233
Net Income Attributable to PPL Shareowners     $   85    $   42        102

The changes in the components of the Kentucky Regulated segment's results between these periods were due to the following factors, which reflect reclassifications for items included in Kentucky Gross Margins and certain items that management considers special. See additional detail of these special items in the table below.

                                  Three Months

Kentucky Gross Margins            $         75
Other operation and maintenance             10
Depreciation                                (9)
Taxes, other than income                    (1)
Income Taxes                               (29)
Special items, after-tax                    (3)
Total                             $         43

See "Statement of Income Analysis - Margins - Changes in Non-GAAP Financial Measures" for an explanation of Kentucky Gross Margins.

Lower other operation and maintenance primarily due to $14 million of lower costs due to the timing and scope of scheduled coal plant maintenance outages, partially offset by $4 million of adjustments to regulatory assets and liabilities.

Higher depreciation due to environmental costs related to the elimination of the 2005 and 2006 ECR plans now being included in base rates, which added $13 million to depreciation that is excluded from Margins, partially offset by lower depreciation of $5 million due to revised rates that were effective January 1, 2013. Both of these events are the result of the 2012 Kentucky rate case proceedings.

Higher income taxes primarily due to higher pre-tax income.

The following after-tax gains (losses), which management considers special items, also impacted the Kentucky Regulated segment's results during the periods ended March 31.


                                                       Income Statement       Three Months
                                                          Line Item        2013        2012

LKE acquisition-related adjustments:
                                                       Income Taxes and
                                                       Other Operation
             Net operating loss carryforward and other
             tax-related adjustments                   and Maintenance                $     4
Other:
                                                       Other Income
             EEI adjustments, net of tax of $0, $0     (Expense)-net      $     1
Total                                                                     $     1     $     4

2013 Outlook

Excluding special items, PPL projects higher segment earnings in 2013 compared with 2012, primarily driven by electric and gas base rate increases, returns on additional environmental capital investments, and load growth, partially offset by higher operation and maintenance expense.

Earnings in future periods are subject to various risks and uncertainties. See "Forward-Looking Information," the rest of this Item 2, and Notes 6 and 10 to the Financial Statements in this Form 10-Q and "Item 1. Business" and "Item 1A. Risk Factors" in PPL's 2012 Form 10-K for a discussion of the risks, uncertainties and factors that may impact future earnings.

U.K. Regulated Segment

The U.K. Regulated segment consists of WPD's regulated electricity distribution
operations and PPL Global. In addition, the U.K. Regulated segment includes
certain U.S. income taxes and certain administrative costs, as well as allocated
financing costs.

Net Income Attributable to PPL Shareowners for the periods ended March 31
includes the following results:

                                                       Three Months
                                                2013      2012     % Change

Utility revenues                               $  638    $  552         16
Energy-related businesses                          10        10
    Total operating revenues                      648       562         15
Other operation and maintenance                   117       113          4
Depreciation                                       74        67         10
Taxes, other than income                           37        36          3
Energy-related businesses                           7         5         40
    Total operating expenses                      235       221          6
Other Income (Expense) - net                      120       (20)       700
Interest Expense                                  107       103          4
Income Taxes                                      113        53        113
Net Income Attributable to PPL Shareowners     $  313    $  165         90

The changes in the components of the U.K. Regulated segment's results between these periods were due to the following factors, which reflect reclassifications for certain items that management considers special. See additional detail of these special items in the table below.

                                                         Three Months

U.K.
   Utility revenues                                       $        75
   Other operation and maintenance                                 (6)
   Interest expense                                                (3)
   Other                                                           (3)
   Income taxes                                                   (10)
U.S.
   Income taxes                                                     1
Foreign currency exchange rates, after-tax (a)                      1
Special items, after-tax                                           93
Total                                                    $        148

(a) Includes the effect of realized gains (losses) on foreign currency economic hedges.


U.K.

Higher utility revenues due to the April 1, 2012 price increases that resulted in $57 million of higher utility revenues, $8 million of additional third-party engineering work, $5 million of higher volumes due primarily to weather and a $5 million reduction of regulatory over-recovery in 2013.

Higher other operation and maintenance due to $8 million of additional third-party engineering work and $7 million of higher network maintenance expense, primarily tree trimming, partially offset by $4 million of lower employee-related expenses.

Higher income taxes due to higher pre-tax income, which increased income taxes by $16 million, partially offset by $6 million of lower income taxes due to lower tax rates.

The following after-tax gains (losses), which management considers special items, also impacted the U.K. Regulated segment's results during the periods ended March 31.

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