HE

Business Context and Reporting Period

Company: Hawaiian Electric Industries, Inc. (HEI) and principal subsidiary Hawaiian Electric Company, Inc. (HECO).
Reporting Period: Quarter and nine months ended September 30, 2006.
Operations: HEI operates through three primary segments: Electric Utilities (HECO, MECO, HELCO), Bank (American Savings Bank, F.S.B.), and Other (investments and holding companies). The company serves the Hawaiian market, heavily influenced by tourism, federal government spending, and fuel oil prices.

Key Financial Metrics (Nine Months Ended Sept 30, 2006)

Segment Performance (Nine Months)

• Electric Utility: Revenues increased 20% to $1,548.9 million; Net Income increased 13% to $61.9 million. Growth driven by higher fuel costs passed through to customers and interim rate relief.
• Bank (ASB): Revenues increased 7% to $305.9 million; Net Income decreased 2% to $46.5 million. Margin compression due to flat/inverted yield curves and higher deposit costs offset loan growth.
• Other: Reported a net loss of $16.6 million (vs. $11.9 million loss in 2005), primarily due to unrealized losses on Hoku Scientific, Inc. shares.

Material Changes vs. Prior Period

• Fuel Costs: Average fuel oil cost per barrel increased 31% year-over-year to $69.09. This significantly increased utility operating expenses but was largely offset by higher revenues via energy cost adjustment clauses.
• Rate Relief: HECO received interim rate relief of approximately $53.3 million in annual base revenues (effective Sept 2005), contributing to higher operating income.
• Bank Margins: Net interest margin for ASB declined from 3.25% (2005) to 3.23% (2006) due to rising funding costs and a flat yield curve environment.
• Investment Losses: The "Other" segment saw a reversal of gains from the prior year to losses due to the performance of Hoku Scientific stock.

Guidance, Outlook, and Risks

Management Commentary & Outlook

• Dividends: HEI maintained the quarterly dividend at $0.31 per share. Management stated they will not consider increasing the dividend until the payout ratio improves to a sustainable 65%.
• Utility Sales: Full-year 2006 KWH sales are estimated to be down 0.3% compared to 2005 due to cooler weather and conservation. Sales are projected to grow moderately in 2007 and 2008.
• Capital Needs: HECO does not plan to pay dividends to HEI in the second half of 2006 to strengthen its balance sheet for reliability investments.

Key Risks and Contingencies

• Regulatory (SFAS 158): Adoption of SFAS No. 158 (pension accounting) at year-end 2006 is expected to increase liabilities by approximately $184 million and reduce equity. The utilities are seeking PUC approval to record these amounts as regulatory assets to mitigate the impact on rate base and equity.
• Rate Cases: Pending final decisions on HECO's 2005 test year rate case and HELCO's 2006 test year case. Interim revenues of $71 million are subject to refund if final orders are lower.
• Reliability: Generation reserve margins on Oahu and Maui remain strained. A reserve capacity shortfall of 170-200 MW is projected for 2006-2009, increasing the risk of outages.
• Recent Outages: Earthquakes on October 15, 2006, caused widespread outages. The PUC has opened an investigative proceeding regarding the cause and response to these outages.
• Legislation: Act 162 imposes new requirements on energy cost adjustment clauses, potentially affecting how fuel costs are recovered.

Investor Verification Checklist

• Regulatory Asset Treatment: Verify the status of the PUC's decision on the AOCI Docket regarding SFAS 158 pension liabilities.
• Rate Case Finalization: Monitor the final Decision and Order for HECO's 2005 test year rate case to confirm the $71 million in interim revenues will not be refunded.
• Generation Reliability: Assess the progress of HECO's mitigation measures (distributed generation, load management) to address the projected 170-200 MW reserve shortfall.
• Bank Liquidity: Review ASB's ability to maintain net interest margins in a prolonged flat yield curve environment and the impact of rising deposit costs.
• Earthquake Impact: Review the PUC's investigative findings regarding the October 2006 outages for potential penalties or required operational changes.