MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FIRSTENERGY'S BUSINESS
FE and its subsidiaries are principally involved in the transmission, distribution and generation of electricity through its reportable segments, Regulated Distribution and Regulated Transmission.
The Regulated Distribution segment distributes electricity through FirstEnergy's ten utility operating companies, serving approximately six million customers within 65,000 square miles ofOhio ,Pennsylvania ,West Virginia ,Maryland ,New Jersey andNew York , and purchases power for its POLR, SOS, SSO and default service requirements inOhio ,Pennsylvania ,New Jersey andMaryland . This segment also controls 3,580 MWs of regulated electric generation capacity located primarily inWest Virginia andVirginia . The segment's results reflect the costs of securing and delivering electric generation from transmission facilities to customers, including the deferral and amortization of certain related costs. The Regulated Transmission segment provides transmission infrastructure owned and operated by the Transmission Companies and certain of FirstEnergy's utilities (JCP&L, MP, PE and WP) to transmit electricity from generation sources to distribution facilities. The segment's revenues are primarily derived from forward-looking formula rates. Under forward-looking formula rates, the revenue requirement is updated annually based on a projected rate base and projected costs, which is subject to an annual true-up based on actual rate base and costs. The segment's results also reflect the net transmission expenses related to the delivery of electricity on FirstEnergy's transmission facilities. OnNovember 6, 2021 , FirstEnergy, along with FET, entered into the FET P&SA, withBrookfield and Brookfield Guarantors pursuant to which FET agreed to issue and sell toBrookfield at the closing, andBrookfield agreed to purchase from FET, certain newly issued membership interests of FET, such thatBrookfield will own 19.9% of the issued and outstanding membership interests of FET, for a purchase price of$2.375 billion . The transaction closed onMay 31, 2022 . Corporate/Other reflects corporate support and other costs not charged or attributable to the Utilities or Transmission Companies, including FE's retained Pension and OPEB assets and liabilities of theFES Debtors, interest expense on FE's holding company debt and other investments or businesses that do not constitute an operating segment. Additionally, reconciling adjustments for the elimination of inter-segment transactions are included in Corporate/Other. As ofJune 30, 2022 , 67 MWs of electric generating capacity, representing AE Supply's OVEC capacity entitlement, was also included in Corporate/Other for segment reporting. As ofJune 30, 2022 , Corporate/Other had approximately$5.5 billion of FE holding company debt. 32
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EXECUTIVE SUMMARY
FirstEnergy is a forward-thinking, electric utility centered on integrity, powered by a diverse team of employees, committed to making customers' lives brighter, the environment better and our communities stronger.
FirstEnergy's core values encompass what matters most to the company. They guide the decisions we make and the actions we take. FirstEnergy's core values should inspire our actions today and shine a light on who we aspire to be in the future.
FirstEnergy Core Values:
•Integrity: We always act ethically with honesty, humility and accountability.
•Safety: We keep ourselves and others safe.
•Diversity, Equity and Inclusion: We embrace differences, ensure every employee is treated fairly and create a culture where everyone feels they belong.
•Performance Excellence: We pursue excellence and seek opportunities for growth, innovation and continuous improvement.
•Stewardship: We positively impact our customers, communities and other stakeholders, and strive to protect the environment.
Employees are encouraged and expected to have conversations with their leaders and peers about the core values and FirstEnergy's commitment to building a culture centered on integrity.
At FirstEnergy, we are dedicated to staying true to our mission and core values. We understand the impact our company can make in the world around us, which means pursuing initiatives and goals that align with our foundational principles, support our ESG and strategic priorities, and positively impact our stakeholders. To solidify our role as an industry leader, we have developed a long-term strategy with priorities that are centered on our mission statement. These priorities reflect a strong foundation with an unrelenting customer focus that emphasizes modern experiences, new growth and affordable energy bills, and is leading and enabling the energy transition to a clean, resilient and secure electric grid.
We are proud of the steps we have already taken to demonstrate our commitment to our strategy and look forward to improving our performance and executing on these strategic priorities.
FirstEnergy's Business
As a fully regulated electric utility, FirstEnergy is focused on stable and predictable earnings and cash flow from its Regulated Distribution and Regulated Transmission businesses that deliver enhanced customer service and reliability.
FirstEnergy's Regulated Distribution business is comprised of a geographically and regulatory diverse collection of electric utilities delivering customer-focused sustainable growth. This business operates in a territory of 65,000 square miles, across the Midwest & Mid-Atlantic regions, one of the largest contiguous territories inthe United States , and allows the Utilities to be uniquely positioned for growth through investments that strengthen the grid and enable the clean energy transition, with approximately$9 billion in investment plans (or 53% of the total FirstEnergy investment plan) from 2021 to 2025. Through its investment plan, Regulated Distribution has improved reliability and added operating flexibility to the distribution infrastructure, which provide benefits to the customers and communities those Utilities serve.
In addition to our investments to rebuild critical infrastructure and improve reliability, current and future distribution investment opportunities that support our ESG and strategic priorities include:
•Advanced Metering Infrastructure - install smart meters and related infrastructure; •Grid Modernization Investments that support distribution automation and voltage and var optimization; •Installation of electric vehicle charging stations; •Connected LED Streetlights - strategic goal to convert 100% of streetlights owned by the Utilities to smart LEDs by 2030; •Alternative Generation that lowers our carbon footprint; •Information Systems - enhance our core information infrastructure of our distribution systems; and •Supporting economic development to attract new business. FirstEnergy's Regulated Transmission business is a premier, high quality transmission business, with approximately 24,000 miles of transmission lines in operation and one of the largest transmission systems in PJM. The Transmission Companies and certain 33 -------------------------------------------------------------------------------- of FirstEnergy's utilities (JCP&L, MP, PE and WP) are focused on "Energizing the Future" with investments that support clean energy, improve grid reliability and resiliency and support a carbon neutral future. "Energizing the Future" is the centerpiece of FirstEnergy's regulated investment strategy with all investments recovered underFERC -regulated forward-looking formula rates, and approximately$8 billion in investment plans (or 45% of the total FirstEnergy investment plan) from 2021 to 2025. FirstEnergy believes there are incremental investment opportunities for its existing transmission infrastructure of over$20 billion beyond those identified through 2025, which are expected to strengthen grid and cyber-security and make the transmission system more reliable, robust, secure and resistant to extreme weather events, with improved operational flexibility.
In addition to our Energizing the Future investments, current and future transmission investment opportunities that support our ESG and strategic priorities include:
•Transmission Asset Health Center: real-time monitoring to reduce outages and lower expenses; •Integrating digital technology to enhance equipment monitoring and lower costs; •Exploring real-time technologies: emerging technologies to enhance data collection; and •Making smart investments to modernize the grid to integrate future renewables. OnNovember 6, 2021 , FirstEnergy, along with FET, entered into the FET P&SA withBrookfield and the Brookfield Guarantors, pursuant to which FET agreed to issue and sell toBrookfield at the closing, andBrookfield agreed to purchase from FET, certain newly issued membership interests of FET, such thatBrookfield will own 19.9% of the issued and outstanding membership interests of FET, for a purchase price of$2.375 billion . The transaction closed onMay 31, 2022 . OnDecember 13, 2021 , FE privately issued toBIP Securities II-B L.P. , an affiliate ofBlackstone Infrastructure Partners L.P. , 25,588,535 shares of FE's common stock, par value$0.10 per share, at a price of$39.08 per share, representing an investment of$1.0 billion . OnApril 21, 2022 ,FERC approved theBlackstone representative's ability to participate as a voting member of the FE Board.Sean T. Klimczak , theBlackstone Infrastructure Partners -selected representative, was elected to the FE Board at the 2022 annual shareholders' meeting. OnOctober 18, 2021 , FE, FET, the Utilities, and the Transmission Companies entered into six separate senior unsecured five-year syndicated revolving credit facilities. These new credit facilities provide substantial liquidity to support the Regulated Distribution and Regulated Transmission businesses, and each of the operating companies within the businesses. See "Capital Resources and Liquidity" below for additional details. Together, these transactions enhance FirstEnergy's credit profile, provide funding for the strategic investments discussed above, and address all of FirstEnergy's equity plans, with the exception of annual issuances of up to$100 million under regular dividend reinvestment plans and employee benefit stock investment plans, through at least 2025. Also, as with the recently completed FET transaction, premium valuations of our businesses could provide FirstEnergy future optionality to further strengthen the balance sheet and enhance shareholder value.
FE Forward
FirstEnergy is also working to transform how it conducts business and serves its customers to achieve value potential in a sustainable way and help FirstEnergy achieve its strategic priorities. InFebruary 2021 , FirstEnergy announced a new initiative to build upon FirstEnergy's strong operations and business fundamentals and deliver immediate value and resilience, with substantial working capital improvements and capital efficiencies reaching full impact by 2024. Called "FE Forward," the initiative plays a critical first step in FirstEnergy's transformation journey as it looks to enhance the organization, focus on performance excellence, and refocus the investment strategy through a range of opportunities. By 2024, FE Forward is projected to generate approximately$380 million in annualized capital expenditure efficiencies, as well as approximately$250 million in working capital improvements by 2023. This program includes an estimated$150 million of costs to achieve through 2023, which are expected to be self-funded through these efficiencies. FirstEnergy plans to redeploy the capital expenditure efficiencies in a more diverse capital program that over the long-term continues to support our strategy as discussed above, and using 2022 as baseline operating expenses are projected to naturally decline 1% annually allowing for strategic flexibility and customer affordability. FE Forward is not a downsizing effort and there will not be any involuntary employee reductions in connection with this program. FirstEnergy expects that FE Forward will be a significant catalyst to augment its growth potential by taking a more strategic approach to operating expenditures and reinvesting in a more diverse capital program that over the long-term continues to support a smarter and cleaner electric grid, and maintain affordable customer bills. Specifically, FirstEnergy currently expects to redeploy these capital efficiencies into several projects, including, grid modernization, energy efficiency programs, smart meter and electric vehicle charging, and solar generation investments. FirstEnergy is additionally evaluating the legal, financial, operational and branding benefits of consolidating the Ohio Companies and Pennsylvania Companies into single entities per state. As part of these efforts, FirstEnergy will evaluate the appropriate cadence to initiate rates cases on a state-by-state basis to best support FirstEnergy's customer-focused strategic priorities. 34 -------------------------------------------------------------------------------- 35 -------------------------------------------------------------------------------- For the Years Ended December 31, FE Forward Expected Capital Expenditure 2021 2022 2023 2024 2025 Efficiencies and Working Capital Actual Forecast Forecast Forecast Forecast Total
Improvements
(In millions)
Gross Capital Expenditure Efficiencies
(40) (80) (30) - - (150)
Net Capital Expenditure Efficiencies
$ 350 $ 380 $ 380 $ 1,480 Working Capital Improvements 130 120 - - - 250 Total Cash Flow Improvements$ 300 $ 320 $ 350 $ 380 $ 380 $ 1,730 Climate Story Our long-term strategy reiterates and supports our position that climate change is among the most important issues of our time and our commitment to doing our part to ensure a bright and sustainable future for the communities we serve. As part of our Climate Strategy, we are focused on enabling our customers to thrive in a reduced carbon future. This includes transmission and distribution investments discussed above, investments in solar generation and supporting clean energy options, our efforts towards electrifying the economy, and driving energy efficiency. Additionally, we plan to reduce our company-wide GHG emissions within our direct operational control (Scope 1) by 30% by 2030 (from our 2019 baseline), as we work toward carbon neutrality by 2050. Key steps in reducing our emissions and improving the efficiency of our operations include: •Replacing Aging Equipment: We are responsibly replacing aging equipment on our transmission system that contains SF6, a greenhouse gas commonly used in electric utility equipment; •Electrifying our Vehicle Fleet: We are targeting 30% electrification of our light-duty and aerial truck fleet by 2030 and 100% electrification by 2050. To reach our electrification goal, we've committed to 100% electric or hybrid vehicle purchases for our light-duty and aerial truck fleet moving forward, beginning with the first hybrid electric vehicle additions to the fleet in 2021; •Using Generation Efficiencies and Flexibility: We are utilizing operational flexibilities, such as heat rate improvements through equipment upgrades, operational monitoring systems, and auxiliary power reductions at our generation facilities that will enable us to reach our interim 2030 goal of a 30% GHG reduction from 2019 levels, while continuing to provide customers with safe and reliable electricity; and •Transitioning Away from Coal Generation: We expect to thoughtfully transition away from our regulated coal generation fleet no later than 2050, and inApril 2022 , FirstEnergy received approval to construct 50 MWs of solar generation inWest Virginia . Also in 2021, FirstEnergy filed plans with the WVPSC to comply withEPA ELG rules that would keep MP's generation plants responsibly operating beyond 2028, however, FirstEnergy intends to begin a broad stakeholder dialogue regarding planned operational end dates of 2035 and 2040 for Ft. Martin and Harrison, respectively. Future resource plans to achieve carbon reductions, including potential changes in operations or any determination of retirement dates of the regulated coal-fired generating facilities, will be developed by working collaboratively with regulators inWest Virginia . Determination of the useful life of the regulated coal-fired generating facilities could result in changes in depreciation, and/or continued collection of net plant in rates after retirement, securitization, sale, impairment or regulatory disallowances. If MP is unable to recover these costs, it could have a material adverse effect on FirstEnergy's and/or MP's financial condition, results of operations, and cash flow.
HB 6 and Related Investigations
OnJuly 21, 2021 , FE entered into a three-year DPA with theU.S. Attorney's Office that, subject to court proceedings, resolves theU.S. Attorney's Office investigation into FirstEnergy relating to FirstEnergy's lobbying and governmental affairs activities concerning HB 6 related to the federal criminal allegations made inJuly 2020 , against former Ohio House SpeakerLarry Householder and other individuals and entities allegedly affiliated withMr. Householder . Among other things, the DPA required FE to pay a monetary penalty of$230 million , which FE paid in the third quarter of 2021. Under the DPA, FE agreed to the filing of a criminal information charging FE with one count of conspiracy to commit honest services wire fraud. The$230 million payment will neither be recovered in rates or charged to FirstEnergy customers nor will FirstEnergy seek any tax deduction related to such payment. The criminal information will be dismissed after FirstEnergy fully complies with its obligations under the DPA. The OAG, certain FE shareholders and FE customers filed several lawsuits against FirstEnergy and certain current and former directors, officers and other employees, each relating to the allegations against the now former Ohio House SpeakerLarry Householder and other individuals and entities allegedly affiliated withMr. Householder . OnFebruary 9, 2022 , FE, acting through the SLC, agreed to a settlement term sheet to resolve multiple shareholder derivative lawsuits that were filed in the S.D.Ohio , the N.D.Ohio , and theOhio Court of Common Pleas ,Summit County . OnMarch 11, 2022 , the parties executed a stipulation and 36 -------------------------------------------------------------------------------- agreement of settlement, and filed a motion the same day requesting preliminary settlement approval in the S.D.Ohio . The settlement agreement, if approved, will fully resolve these shareholder derivative lawsuits and includes a series of corporate governance enhancements, that has resulted or is expected to result in the following: •Six members of the FE Board, Messrs.Michael J. Anderson ,Donald T. Misheff ,Thomas N. Mitchell ,Christopher D. Pappas andLuis A. Reyes , and Ms.Julia L. Johnson did not stand for re-election at FE's 2022 annual shareholder meeting; •A special FE Board committee of at least three recently appointed independent directors was formed to initiate a review process of the current senior executive team. OnJune 15, 2022 , the FE Board appointed Ms.Lisa Winston Hicks and Messrs.Paul Kaleta ,Sean T. Klimczak ,Jesse A. Lynn ,Andrew Teno , andMelvin D. Williams to serve on that committee. After completing its review, which is expected to conclude not later thanmid-September 2022 , the committee will make recommendations to the full FE Board, which retains the authority to make final determinations regarding any such recommendations; •The FE Board will oversee FE's lobbying and political activities, including periodically reviewing and approving political and lobbying action plans prepared by management; •An FE Board committee of recently appointed independent directors will oversee the implementation and third-party audits of the FE Board-approved action plans with respect to political and lobbying activities; •FE will implement enhanced disclosure to shareholders of political and lobbying activities, including enhanced disclosure in its annual proxy statement; and •FE will further align financial incentives of senior executives to proactive compliance with legal and ethical obligations.
The settlement also includes a payment to FE of
In addition, onAugust 10, 2020 , theSEC , through itsDivision of Enforcement , issued an order directing an investigation of possible securities laws violations by FE, and onSeptember 1, 2020 , issued subpoenas to FE and certain FE officers. Subsequently, onApril 28, 2021 , andJuly 11, 2022 , theSEC issued additional subpoenas to FE. Further, in letters datedJanuary 26 , andFebruary 22, 2021 , staff ofFERC's Division of Investigations notified FirstEnergy that it is investigating FirstEnergy's lobbying and governmental affairs activities concerning HB 6. FirstEnergy has taken numerous steps to address challenges posed by the HB 6 investigations and improve its compliance culture, including the refreshment of the FE Board, the hiring of key senior executives committed to supporting transparency and integrity, and strengthening and enhancing FirstEnergy's compliance culture through several initiatives. Although the outcome of the HB 6 investigations and state regulatory audits remain unknown, FirstEnergy has also taken several proactive steps to reduce regulatory uncertainty affecting the Ohio Companies. FE terminatedCharles E. Jones as its chief executive officer effectiveOctober 29, 2020 . As a result ofMr. Jones' termination, and due to the determination of a committee of independent members of the FE Board thatMr. Jones violated certain FirstEnergy policies and its code of conduct, all grants, awards and compensation under FirstEnergy's short-term incentive compensation program and long-term incentive compensation program with respect toMr. Jones that were outstanding on the date of termination were forfeited. InNovember 2021 , after a determination by theCompensation Committee of the FE Board that a demand for recoupment was warranted pursuant to the Recoupment Policy, FE made a recoupment demand toMr. Jones of compensation previously paid toMr. Jones totaling approximately$56 million , the maximum amount permissible under the Recoupment Policy. As such, any amounts payable toMr. Jones under the EDCP will be set off against FE's recoupment demand. There can be no assurance that the efforts to seek recoupment fromMr. Jones will be successful and the approximately$56 million recoupment demand has not been recognized in FirstEnergy's financial statements as ofJune 30, 2022 . Despite the many disruptions FirstEnergy is currently facing, the leadership team remains committed and focused on executing its strategy and running the business. See "Outlook - Other Legal Proceedings" below for additional details on the government investigations, the DPA, and subsequent litigation surrounding the investigation of HB 6. See also "Outlook - State Regulation -Ohio " below for details on the PUCO proceeding reviewing political and charitable spending and legislative activity in response to the investigation of HB 6. The outcome of the government investigations, PUCO proceedings, legislative activity, and any of these lawsuits is uncertain and could have a material adverse effect on FirstEnergy's financial condition, results of operations, and cash flows. 37 --------------------------------------------------------------------------------
FINANCIAL OVERVIEW AND RESULTS OF OPERATIONS
(In millions) For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Revenues$ 2,818 $ 2,622 $ 196 7 %$ 5,807 $ 5,348 $ 459 9 % Operating expenses 2,371 2,310 61 3 % 4,801 4,477 324 7 % Operating income 447 312 135 43 % 1,006 871 135 15 % Other expenses, net (206) (158) (48) (30) % (394) (295) (99) (34) % Income before income taxes 241 154 87 56 % 612 576 36 6 % Income taxes 49 96 (47) (49) % 132 183 (51) (28) % Net income $ 192$ 58 $ 134 231 %$ 480 $ 393 $ 87 22 % Income attributable to noncontrolling interest 5 - 5 NM 5 - 5 NM Earnings attributable to FE $ 187$ 58 $ 129 222 %$ 475 $ 393 $ 82 21 % * NM = not meaningful The financial results discussed below include revenues and expenses from transactions among FirstEnergy's business segments. A reconciliation of segment financial results is provided in Note 9, "Segment Information," of the Notes to Consolidated Financial Statements. 38
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