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Hawaiian Electric Industries (HE)Stock (Electric Utilities Industry, Energy Industry, Services Industry)
 Between HE's electric utilities and its banking services, the company has tied its fate to the state of Hawaii. Hawaiian Electric Industries (HEI)'s monopoly on Hawaiian electricity customers is an enormous barrier to entry for would-be competitors. HE's banking unit earns nearly 84% of revenues from fees and interest income on its loan portfolio and interest and dividends from investments. In 2007, ASB earned $425 million in revenue and $84 million in net income[6]. As the only source of electricity to the majority of the state's population, HEI is also heavily regulated and vulnerable to Hawaiian energy policy changes. Since nearly 76% of HEI's generation capacity is fossil fuel based, Sociopolitical pressures like the push to reduce energy dependence on fossil fuels are are also a major component of the company's plans for future development[7]. The bank is facing pressures from lower interest yields that threaten the company's net interest margin, or the weighted average interest rate on the overall loan portfolio[8]. ASB is relatively unaffected by the downturn of Mortgage-Backed Securities (MBS) as the bank has mostly stayed out of these troubled securities[9].
[edit] Business OverviewAs a holding company, Hawaiian Electric Industries operates its electric utilities and banking unit separately and collects dividends as a parent company, which are then passed to shareholders. While many utility companies often use holding companies as parents to the overall utility group, HEI is a combination of a electric utility holding company and a banking unit it acquired in 1998. Its combined electric utilities control 95% of the retail electrical market across the Hawaiian archipelago and are responsible for the delivery of electricity to over 439,000 retail customers. American Savings Bank, HEI's banking unit, provides a full range of banking and insurance services to individual and business customers through its 63 branch offices and insurance agency subsidiary. It is the third largest bank in Hawaii by total deposits, and accounts for over a third of HEI's net operating income[10]. Due to Hawaii's increasing demand for electricity (1.63% annualized growth from 1990 to 2006 [11]), Hawaiian Electric Company (HECO), HEI's utility company, has encouraged local efforts to develop alternative energy sources in addition to welcoming efforts by some customers to generate their own power using renewable resources, like solar water heating[12]. This, combined with the company's plans to add 500MW of generation capacity by 2016, should help the electric utilities improve its generating efficiency assuming that Hawaii's electricity demand continues to increase at historical rates[13]. [edit] Business and Financial Metrics
HE had revenues of $2.536 billion in 2007, up 3% from 2006. Net income fell 22% to $85 million in 2007 due primarily to a 30% decrease in its electric utilities's net income. The electric utilities had combined revenues of $2.106 billion in 2007, up 2.5% from 2006. The 30% drop in HE utility revenues was partially due to a $16 million refund paid to electric utility customers, a $12 million dollar plant write-down[14], and a combined increase of $43.1 million in operating expenses. This was partially offset by a $32 million increase in revenues from electricity rate increases[15]. HE's banking unit's revenues were $425.5 million in 2007, up 4.19% from 2006. HE's banking unit's net income fell 4.8% from $55.8 million in 2006 to $53.1 million in 2007 due to a flattening yield curve and increasing competition in attracting loans and new deposits[16]. net interest income fell by $5.5 million to $197.2 million in 2007 from increased funding costs for loans, and a smaller investment and mortgage portfolio (fewer interest & fees). In addition, ASB increased its provisions for loan losses from $1.4 million in 2006 to $5.7 million in 2007. The bank claims that deliquencies were historically low, and expects them to rise with the weakening outlook on the economy[17]. ASB's non-interest income rose $8.8 million in 2007, up 14.8% from 2006 primarily from an increase in deposit fees. Non interest expenses rose by $3.6 in 2007, up 2% from 2006 from increases in management compliance costs.
  Rising demand has put pressure on HE's electric utility subsidiary's generating facilities and forced the company to purchase more than 4.2 million kilowatt hours (KWH) of power in 2007, which accounted for 41.8% of total 2007 KWH sales (up from 40.4% in 2006) [20]. Electric utilities typically purchase other utilities' excess generating capacity to meet abnormally high customer demand, although they usually do so through Electricity Transfer Markets (systems that allow utilities to buy and sell excess power at wholesale prices determined by supply and demand). Since Hawaii is so isolated from the mainland, HE's electric utilities are not able to take advantage of Electricity Transfer Markets, and are forced to contract any additional capacity in advance. In order meet rising electricity demand, HE's electric utility subsidiaries, Hawaiian Electric Company (HECO), Maui Electric Company (MECO) and Hawaiian Electric Light Company (HELCO) have committed $151 million as of 2007 to expand their generation capacity in both conventional and renewable energy platforms[21]. [edit] Business SegmentsHEI has three main electric utilities, Hawaiian Electric Company (HECO), Maui Electric Company (MECO) and Hawaiian Electric Light Company (HELCO), whose revenues accounted for 83% of revenues and 61% of net operating income in 2007. While they operate independently, both MECO and HELCO are considered subsidiaries of HECO in HEI's annual report. HEI's other segment, American Savings Bank, accounted for nearly 17% of revenues and 39% of net operating income in 2007[22]. [edit] Electric Utilities (83% Revenue, 61% Net Operating Income)Through its electric utility subsidiaries and contracted partners, Hawaiian Electric Industries had a combined generation capacity of 2223 Megawatts (MW) and served 439,897 retail customers in 2007. In order to provide the additional power necessary to meet peak energy demand, HE has purchase agreements with AES Hawaii, Kalaeloa Partners, L.P., Apollo Energy Corporation, Hamakua Energy Partners, HPOWER, and Kaheawa Wind Power for an additional 540 MW of capacity[23]. HE's energy portfolio (sources of power generation) consists almost exlusively of oil and diesel combustion with only 140 MW of capacity devoted to renewable sources as of 2006, though this excludes the 540 MW of contracted wind power. As of 2007, HE has plans to expand its renewable energy generation capacity to 500 MW by 2016[24].
[edit] American Savings Bank (17% Revenue, 39% Net Operating Income)American Savings Bank, HEI's banking unit, provides a full range of banking and insurance services to individual and business customers through its 63 branch offices and is the third largest bank in Hawaii by total assets[28]. It accounts for over a third of HE's net operating income and over half of HE's net income. ASB's earnings depend for the most part on net interest income, the net interest rate spread of its loan portfolio, noninterest income (fees) and its deposit liabilities and other borrowings. In 2007, the bank generated 85.4% of its revenues from interest and fees from loans and investments in mortgage-related securities, with the other 16% generated primarily through noninterest (fee) income from other financial services, deposit liabiilities, and other financial products. As of 2007, the bank's loan and mortgage investment portfolio had over $6.18 billion in assets, up from the 2006 balance of just under $6 billion. [edit] Key Trends and Forces[edit] Hawaiian Electric Industries is tied to Hawaiian Economic Strength & Population GrowthHawaii's extreme geographic isolation from the mainland (1,988 mi southwest of North America) forces the state to be largely self-sufficient. Since the cost of imports is so high, the islands have a relatively high cost of living with inflation outpacing the national average by 2% (on average) since 2003. In many ways, the need for self-sustainability has forced the state's economy to include a diverse mix of industries, though tourism remains the dominant industry followed by transportation and real estate. Hawaiian Electric Industries' huge presence in the hawaiian marketplace means that its fate is closely tied to that of Hawaii's. With rising airline ticket costs and global recession fears looming, tourism spending has dropped to 4% in 2007 from nearly 10% in 2006[29] . Following the national trend, Hawaiian real estate sales fell by 31% for single-family homes and 24% for condos[30]. Although the electric utilities are less vulnerable to a shrinking market given their counter-cyclical nature, American Savings Bank's real estate mortgage portfolio is at risk of shrinking. [edit] Regulatory & Political ForcesAs both an electric utility and a commercial bank, HEI is heavily regulated by numerous agencies. Prices and rates for the company's utilities are set by Public Utility Commissions, while the bank is regulated by agencies like the Department of the Treasury and the Federal Reserve.
[edit] Generating Capacity & Upgrades are Needed to Improve MarginsWith only 1685 MW of firm generating capacity and 538 MW of additional capacity under contract, Hawaiian Electric Company is one of the smaller electric utilities in the United States. Unlike mainland utilities, HEI is geographically isolated and is solely responsible for delivering power to 95% of the Hawaiian islands. Normally, electric utilities can purchase electricity on wholesale electricity markets to meet unanticipated spikes and fluctuations in demand in order to avoid activating older and less efficient plants. HEI can only purchase power from local sources and thus, is extremely limited by on-island generating capacity. The company's reserve margin, or the amount of excess capacity over peak demand, was 38.6% overall and as low as 27.3% on Maui in 2007. Should HEI face a sudden surge in electricity demand, it may have trouble meeting it profitably if it was forced to activate less efficient plants. As of 2007, HEI has allocated over $151 million in utility construction costs[35], and has plans to expand capacity by 500MW as of 2016[36]. [edit] Global Climate Change Could Strain HE's Reserve MarginThe impact of Global Climate Change on Hawaii's weather also affects HE's business, where unusually hot weather and the associated rise in electricity demand from heavy air conditioning can put pressure on HE's already strained generation capacity. Severe weather like hurricanes can damage generating facilities and transmission services. [edit] Severe Weather & Geological Risk to Electric Utility & Banking UnitSince 2000, Hawaii has been affected by six hurricanes[37], with Iniki causing over $2 billion in damages to the Hawaiian islands[38]. Unless permitted by Hawaii's Public Utility Commission (PUC), HEI may be unable to recover outage and property damage costs incurred by destructive hurricanes. Since Hawaii is in an active geological zone, it is affected by earthquakes, volcanic erruptions, and even tsunamis. In 2006, Hawaii experienced two earthquakes above a 6.0 magnitude causing upwards of $100 million in damages. HECO faced power outages across the islands and managed to restore 99% of power with 18 hours. While the impact of the outages on costs was not assessed[39], HEI has an estimated $4 billion in uninsured overhead and underground transmission and disribution systems that could potentially be affected by future natural disasters. Additionally, HEI's banking unit faces risks to its mortgage portfolios[40] with over $3.375 billion in real estate loans across Hawaii (54.6% of its entire loan portfolio)[41]. [edit] Interest Rate Decreases Could Decrease Bank ProfitabilityThe subprime lending crisis, the resulting credit crunch, and the weight of recession fears has pushed interest rates to levels that may threaten HEI's businesses. Increasingly tight credit markets could restrict the electric utilities ability to finance acquisitions & development of new power facilities. Should interest rate yields continue to decrease, ASB could also see decreases in its net interest margin. With 84% of bank revenues generated by interest on loans and mortgage related securities, continued cuts to net interest margin could have a serious detrimental impact to ASB's net income[42]. [edit] CompetitionDue to its monopoly of the Hawaiian electricity market, HEI has no true local competitors. HEI's banking unit, however, competes with several other banks in the region.
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