Business Context and Reporting Period
Company: Hawaiian Electric Industries, Inc. (HEI) and its principal subsidiary, Hawaiian Electric Company, Inc. (HECO).
Reporting Period: Quarterly report (Form 10-Q) for the period ended June 30, 2008.
Business Overview: HEI operates through three primary segments: Electric Utilities (HECO, HELCO, MECO), Bank (American Savings Bank, F.S.B. or ASB), and Other. The company provides regulated electric utility services to Hawaii and banking services through ASB.
Key Financial Metrics (Six Months Ended June 30, 2008)
| Metric | 2008 (in thousands) | 2007 (in thousands) |
|---|---|---|
| Total Revenues | $1,503,672 | $1,154,786 |
| Operating Income | $92,348 | $73,850 |
| Net Income | $39,103 | $24,313 |
| Diluted EPS | $0.47 | $0.30 |
| Cash from Operating Activities | $16,452 | $79,415 |
| Total Assets | $9,182,196 | $10,293,916 |
| Long-term Debt (excl. bank) | $1,206,965 | $1,242,099 |
| Stockholders' Equity | $1,296,840 | $1,275,427 |
Segment Performance Highlights
- Electric Utilities: Revenues increased 40% to $1.31 billion, driven by higher fuel costs passed to customers and interim rate relief. Operating income rose 155% to $106.4 million.
- Bank (ASB): Revenues decreased 10% to $191.8 million. The segment reported a net loss of $3.5 million, primarily due to a $40 million loss on the early extinguishment of debt and a $17.4 million loss on the sale of securities related to a balance sheet restructuring.
- Other: Reported a net loss of $9.4 million, largely due to unrealized losses on venture capital investments.
Material Changes vs. Prior Period
- Revenue Growth: Consolidated revenues increased 30% year-over-year, primarily due to the Electric Utility segment's ability to pass through higher fuel costs (average fuel oil cost per barrel rose 64% to $99.29) and interim rate increases approved by the Public Utilities Commission (PUC).
- Profitability: Net income increased 61% to $39.1 million. This improvement was driven by higher utility operating income and lower interest expenses, partially offset by the significant one-time charges in the Bank segment.
- Balance Sheet Restructuring: ASB completed a major balance sheet restructuring in June 2008, selling approximately $1.3 billion in mortgage-related securities and retiring $1.2 billion in borrowings. This resulted in a $36 million pre-tax charge but is expected to improve future profitability ratios and net interest margins.
- Cash Flow: Net cash provided by operating activities decreased significantly to $16.5 million from $79.4 million in the prior year, largely due to increased fuel oil stock purchases ($69.3 million) and changes in prepaid/accrued taxes.
Guidance, Outlook, and Risks
Management Commentary and Outlook
- Dividends: HEI maintained the quarterly dividend at $0.31 per share. The payout ratio for the first six months of 2008 was 132%, but management targets a sustainable ratio of 65% or lower.
- Capital Projects: HECO is constructing a new 110 MW combustion turbine generating unit at Campbell Industrial Park, expected to be in service by July 2009, to address reserve capacity shortfalls on Oahu.
- Renewable Energy: The utilities are pursuing a three-pronged strategy (greening assets, expanding renewables, and energy efficiency) to meet Hawaii's Renewable Portfolio Standards (RPS). HECO reported a consolidated RPS of 16.1% for 2007.
- Banking Outlook: ASB expects to pay a special dividend of approximately $75 million to HEI over the next one to three quarters following regulatory approval of the restructuring.
Risks and Contingencies
- Regulatory Risk: Future rate cases and PUC decisions on Energy Cost Adjustment Clauses (ECACs) and pension asset treatment could impact revenue recovery. The PUC is reviewing the utilities' compliance with Act 162 regarding fuel cost risk sharing.
- Environmental Compliance: Potential costs associated with the Regional Haze Rule, Hazardous Air Pollutant (HAP) controls, and Clean Water Act cooling water intake requirements remain uncertain and could require significant capital expenditures.
- Market Risk: ASB faces interest rate risk and exposure to the housing market. While ASB has limited subprime exposure, a deep recession could impair the value of its mortgage-related securities portfolio.
- Reliability: HECO faces strained generation reserve margins on Oahu, increasing the risk of outages until the new Campbell Industrial Park unit is operational.
Investor Verification Checklist
- Bank Restructuring Impact: Verify the timing and regulatory approval of the expected $75 million special dividend from ASB to HEI.
- Utility Rate Cases: Monitor the final decisions in HECO's 2007 test year rate case and the upcoming 2009 test year filing, specifically regarding the recovery of the new Campbell Industrial Park generating unit costs.
- Fuel Cost Pass-Through: Confirm the continued effectiveness of Energy Cost Adjustment Clauses (ECACs) in passing volatile fuel costs to customers without regulatory lag.
- Capital Expenditures: Track the progress and cost overruns of the Campbell Industrial Park project and the East Oahu Transmission Project.
- Environmental Liabilities: Review updates on the Honolulu Harbor investigation and potential costs related to new EPA regulations (Regional Haze, HAP, Clean Water Act).