Hawaiian Electric Industries Inc (HE) 2006 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2006 Hawaiian Electric Industries Incorporated earnings conference call. My name is Melanie, and I will be your coordinator today. [OPERATOR INSTRUCTIONS] I would now like to turn the call over to Ms. Suzy Hollinger, Manager of Treasury and Investor Relations. Please proceed, ma'am.

Aloha and good afternoon. As Melanie said, my name is Suzy Hollinger and I'm HEI's Manager of Treasury and Investor Relations. Here with me from senior management and speaking today are Connie Lau, HEI and ASB President and CEO, Mike May, HECO President and CEO, and Eric Yeaman, HEI's Financial Vice President, Treasurer and CFO. Also on the call from Management are Curt Harada, HEI's Controller, Tayne Sekimura, HECO Financial Vice President, [Laurie Nagasa], HECO Treasurer, Alvin Sakamoto, ASB Executive Vice President, Finance, and Kevin Haseyama , ASB Vice President and Financial Risk Manager.

We hope that you had a chance to read our second quarter earnings press release that was issued yesterday. Today's formal comments are focused on trends and outlook for our companies and accordingly, I'd like to point out to you that forward-looking statements will be made on today's call. Please reference Roman IV of our second quarter Form 10-Q which was also filed yesterday for information about forward-looking statements.

With that, I turn it over to Connie to begin formal comments. Connie?

Good afternoon, everyone. Good morning and aloha from Hawaii. As Suzy mentioned, I will have a few brief comments about our second quarter earnings, and then Mike, Eric, and I will spend most of our time today discussing key earnings drivers and trends.

On a consolidated basis, second quarter net income declined 4%, compared with the second quarter of 2005, due primarily to lower electricity sales caused by cooler and less humid weather as well as conservation and higher operation and maintenance expenses. This was offset by higher quarter over quarter earnings at our Bank of almost 20% from strong loan growth and an improved net interest margin. Details of our results, as Suzy indicated, are included in our earnings release, which was issued yesterday, and we'll be more than happy to answer your questions on second quarter results at the end of the formal comments.

Going forward, the key drivers of earnings for HEI continue to be at our utilities, kilowatt hour sales, operation and maintenance expenses, and recovering costs via rate cases. On the banking side, the shape of the yield curve, funding costs, loan growth, and credit quality are key factors.

And now I'd like to ask Mike May, president of our utility, to discuss the utility drivers in more detail.

Thank you, Connie. Aloha and good afternoon.

Despite the healthy Hawaii economy, kilowatt hour sales this quarter were down compared to the same quarter last year. This was due in part, as Connie noted, to cooler weather and less humid weather coupled with some conservation on the part of our customers. Most likely we're seeing some price elasticity of demand, especially for residential customers as electricity costs increase due to rising fuel prices. We expect this to continue as fuel prices remain high. As we are currently reviewing our sales forecast, however given that the year to date sales are down 0.3%, we expect that our full year 2006 kilowatt hour sales will be lower than our 2005 kilowatt hour sales.

Operation and maintenance expenses continue to rise in the second quarter as peak demand remains high despite the drop in quarter over quarter sales. Retirement benefit costs and cost of maintaining our aging system were higher quarter over quarter. As we have said in the past, we don't expect this trend of increasing O&M to ease while we continue to manage our tight margin reserves. Lower sales and higher costs have impacted our ability to earn our rate -- allowed rate of return. These costs need to be recovered through electric rates, and that's our major focus.

In 2004, we filed a rate case for our largest service territory, Oahu, and are currently recording an interim increase of about $10 million a quarter since late September of 2005. We are still awaiting a final D and O in this case. In June, our commission issued an order holding up the case for a while longer, while it supplements the record to adjust some issues regarding our energy adjustment clause pass through, or ECAC. This asset is needed because of a recently passed state legislation enumerating specific factors to be considered when reviewing reasonableness if the ECAC, or energy adjustment clause.

The factors are a balanced list. While on one hand, the fee use fee has asked us to consider any level of risk between -- sharing between the ratepayers and the shareholder is appropriate for fuel costs. The list includes things such as ensuring utility provided with sufficient incentives to manage fuel costs and preserving the utility's financial integrity. I want to emphasize that having the PUC review the ECAC is not a new requirement. The PUC already examines the ECAC in our rate cases and when reviewing newly negotiated fuel contracts. This legislation simply articulated some specific considerations for that review.

Since essentially all other issues in this rate case have been settled with the consumer advocate and the Department of Defense, an intervenor in the rate case, we are trying to get the PUC to close this case and move the ECAC matter or review into the next open rate case. Our consumer advocate agrees with this approach and has signed the stipulation as such. We are awaiting the PUC's ruling on our request. The DoD has indicated does it not object to the stipulation that HECO and the CA filed, and HECO will be working with the CA and DoD to amend the stipulation which all parties would sign.

In May of this year, we filed a rate case for our Hawaii Island utility, HELCO, where we are asking for a 9.2% overall increase in rates, or $30 million annually. We estimate an interim decision in March or April of 2007. We are considering the timing of future rate cases for Maui and Oahu utilities as well. So to recap, the bigger picture for 2006 is that sales have been soft due to the effects of weather and conservation. Over the last two years, higher peak demand from the robust Hawaii economy has resulted in tight reserve margins and higher O&M costs due in part to tight energy and generation reserves. These factors have contributed to the need for the utilities to enter into a rate case cycle to earn our allowed returns over time.

Now I would like to turn things back to Connie for some comments on the Bank.

Thanks, Mike.

As mentioned earlier, the Bank's second quarter results were surprisingly strong given the flat and inverted yield curve. However, one of the more significant changes we saw at the Bank in the second quarter was a net outflow of quarter-linked deposits of $64 million, or 1.38%. For the year through June 30th, total deposits are down about a quarter of 1%, or $11 million.

We believe that with the continued fed rate increase, the difference between our deposit rate and the rates on alternative investments have become significant enough to cause customers to move deposits out of the bank in search of higher yields. Because of this, and our outlook for a prolonged flat or inverted yield curve environment, we have made tactical shifts in order to retain the deposit franchise. These include more aggressive repricing of certain deposit accounts, increased promotions, and accelerated product launches.

While our strategy continues to be to control our overall deposit costs by selectively repricing certain deposit accounts rather than the entire deposit base, we expect that accelerating deposit costs could challenge results for the remainder of the year. Our strong loan growth also helped offset increased interest expense. Both our commercial and commercial real estate portfolios saw good growth in the second quarter with commercial loans growing by 14% and commercial real estate by 7%. However, while our outlook for the Hawaii economy remains positive, we don't expect the same growth in these portfolios for the remainder of the year. In fact, the scheduled pay-down of a few large commercial loans in the second half of the year, commercial and commercial real-estate loan balances to remain flat.

Mortgage originations have been more difficult as the Hawaii real estate market have stabilized. While real-estate prices remain high, the number of sales transactions have declined, impacting our mortgage origination levels. We believe this trend of slower real-estate sales volumes will continue, although prices appear stable. Overall, delinquencies have been at very low levels for the past several years. . While that continues to be true for the second quarter, we may need to resume providing for possible loan losses if our loan portfolio continues to increase or there are changes in the economic outlook.

Now let me turn it over to Eric who will discuss our upcoming financing plans and the outlook for the holding company.

Thanks, Connie. Good afternoon.

As some of you may recall, earlier in the second quarter, we refinanced $100 million of 7.56% medium-term notes with commercial paper borrowing while we weighed our options for longer term financing. Today we launched the sale of $100 million of medium term notes, series D, maturing in 2000 -- 2011. Acting agents on the deal are Merrill Lynch and Goldman Sachs. The proceeds from the sale of these notes will be used to partially repay commercial paper borrowing which amounted to 133 million at the vend June 2006.

Let me make a few comments about our dividend. Our policy remains unchanged. We continue to be committed to our dividend. You may have seen our dividend release yesterday announcing the Board's approval of a $0.31 per share dividend on common stock. The dividend is payable on September 12th to holders of record on August 15th. The ex-dividend date is August 11th. Our dividend is generally funded with our operating subsidiary. The utility dividend policy has generally been to pay out 75% of its earnings, and the Bank has historically paid approximately 55% of earnings.

In order to strengthen its balance sheet and support its capital expenditures programs, HECO will not be paying dividends to HEI in the second half of 2006. However, because the Bank has reached its target capital level as of the second quarter, it plans to dividend all or substantially all of its earnings to HEI. Keep in mind that the Bank's strategy does not require large amounts of capital to grow earnings. While the increase in the basic dividend provides additional liquidity, it will not completely offset the decrease in the utility dividend. This may result in an increase in our commercial paper borrowings and interest cost for the remainder of 2006.

Another factor that may affect 2006 holdings and other Company results is unrealized gains and losses on our investment in Hoku Scientific. Year to date through June, we have recorded unrealized losses, net of taxes, of $1.7 million on this investment as its stock price has declined over the last several months. Our net investment in Hoku at June 30, 2006, was approximately $2 million.

Now I'd like to turn the call back over to Connie for closing remarks.

this does conclude our formal comments. We hope we've given awe sense of the trends we are seeing and their potential impact on our 2006 results as well as highlighting Management's plans and areas of focus. Overall, our utilities are experiencing lower sales this year and increased O&M and our focus on recovering increased costs through rate cases. Our bank has done well in a challenging interest rate environment due to strong organic loan growth and improved asset yields, and is focused on continuing its transformation to a full-service community bank and managing its funding costs.

We would be happy to answer any questions you may have on this material at this time.

[OPERATOR INSTRUCTIONS]. And gentlemen, your first question comes from the line of Paul Patterson of Glenrock Associates. Please proceed.

Hi. How are you guys doing? I wanted to -- can you hear me?

Yes.

Is I wanted to ask you guys about the deposit costs that you are talking about here. It looked like you guys were actually sort of keeping them under control, and your margin was increasing. But your statements are basically that you're going to be taking more aggressive actions to stop any people from leaving, or, sorry, any deposits from leaving. I wonder if you could give us an idea how that might change your deposit costs.

Yes, Paul. When we were last back in New York we talked about how we were actually being very successful here in Hawaii at not only holding the deposit costs down but also holding the deposit base, and that was true in the first quarter. What we saw there was a shift in the mix of the deposits from the core checking savings and into certificates of deposit. But in the second quarter, what we began seeing was actually an outflow of deposits, and so we have taken tactical steps to stem that outflow, including some of the actions that I mentioned such as increased promotion.

We had a new deposit product that we are planning to launch later this year, and we have accelerated that launch into the September time frame, and probably more aggressive repricing of some of our deposit products because we actually were lagging some of the other institutions in this marketplace. If you were to look at first quarter increases in deposit costs for the institution for the marketplace, we had been more successful than most in holding those deposit costs down.

Okay. I guess what I'm trying to figure out is, in terms of what quantification, what kind of an increase are we looking at in order for -- what are you guys now targeting in terms of what you're going to have to give depositors in order to keep them or have them grow?

I'm not sure I can tell you that, Paul, but keep in mind, we're talking about a $4.5 billion deposit base, and so it's a matter -- a lot of these things occur on the margin. It's just similar on the asset side when we build our commercial banking, commercial real estate businesses, while those businesses are growing rapidly, they're still a small part of a very large base, and so the overall strategy continues to be to selectively reprice rather than repricing the entire base, but you just may not see us being able to virtually hold it flat throughout this entire time period when the Fed has been increasing rates. Now, a lot of it also depends on what Fed does, and whether they continue to increase rates, which would continue to increase that spread between our deposits and money market funds. If they start to let up, consumer sentiment may change about deposit rates.

Okay. I'll leave it at that, I guess. Let me ask you about the loan loss provision. In order for you not to have booked loan losses with an increase in loans, that would indicate that your asset quality continues to improve, correct?

That's correct.

and is that still being driven in large part by an increase in real-estate prices, or what's still driving that? And I guess, what are you looking at now, in the third quarter, we're reading about how certain select markets are beginning to cool off pretty rapidly, and considering how well your markets have done, I'm wondering how it's going over there in Hawaii.

Yes, I'd say real-estate prices here are stabilizing. As I said in the formal remarks, the sales volumes are slowing, but prices still seem to be holding in there.

So what's leading to the asset quality? If the prices are remaining flat what's the driver on the asset quality improving?

Actually, the stability of the prices is continuing to drive that. Keep in mind, we are at very, very low delinquency levels. We have virtually no delinquency. Probably what would drive our provisioning more is if you saw some of our commercial loans, those businesses begin to get into trouble, but we're not seeing weakness in the Hawaii market overall, and to comment specifically on the real estate market, because you had asked about national trends, we have been tracking the national trends very closely, and we are not seeing that occur here in Hawaii.

Then just on the electric side you mentioned elasticity. I was wondering if you could just give us a little bit more of an idea about what you're actually seeing there. What kind of price increases the fuel has actually driven. Just a reminder for year-over-year what we're looking at, and how much of this was driven by, I know it's more of an art than a science but how much would you say is elasticity versus weather?

Paul this is Mike. Good afternoon to you.

Good afternoon.

As we talked about, the elasticity, we believe is being driven by what's happening to our fuel pass-through. If you look at the average cost per barrel, it's gone up 33% in the second quarter and 35% over the first half. That is weighing in on our elasticity.

We had some studies done, and the price effect, if you were to look at, of the price change, and I'm looking principally at residential where we're seeing the change, I would say approaching a half of the total change was due to price effect, and if you look at a distribution of customer size and consumption with larger customers who have the discretion with larger bills to basically reduce their bill, we're seeing a higher level of reduction in those areas where people have choices, such as air conditioning, swimming pools, et cetera.

And so we are seeing that discretion occur as we see the price with the fuel adjustment.

Okay. Translating the 33 to 35%, obviously that's one component of the rates. If you could just give us an idea as to what's actually happened to the rate on the electric side, if you follow me. You see what I'm saying? Thanks for the difference in the decrease that you -- sounds like it's a little over 1%. But what does the 33 to 35% in higher fuel costs actually lead to in terms of bill increases? And that, I guess, also minor base rate increases as well. You follow me?

You want it's isolating out the fuel piece?

Not isolating it out, I'm just wondering year-over-year, considering what the impact of fuel was and, that's only one component so I'm just wondering what did the average bill do? Do you follow me? What was the average increase in residential rates?

Generally speaking, I would say that's approximately a third.

Okay. And just the Hoku stock what price per share do you guys have it now at?

At year end, at June 30th, it was up slightly over $3 a share.

So that's where you guys are at right now on your books, correct?

As of June.

Okay, great. thank you.

Paul, before I let you go, an additional comment on the mainland delinquencies that you're seeing in certain areas. A lot of that is caused by the ARM loans repricing. And if you remember our portfolio, we primarily have a fixed rate portfolio. I think we only have about 11% in our portfolio today, including other kinds of residential construction, it's probably maybe about 15%, so it's not a large part of our loan portfolio.

Okay, great. Thank you very much.

Gentlemen, your next question comes from the line of Dave Parker with Robert W. Baird. Please proceed.

Good morning, my questions, maybe I'll focus on the utility and the maintenance side of the equation. My first question is, with the interim rate relief approved in Oahu, did that include an assumption for increased maintenance expense?

Only to the extent of what was in the test year. To the extent we've had continuing O&M expense beyond those approved in the test year, those would not have been captured in the rates.

And the test year, refresh my memory, Mike, was 2004?

Five.

Or was it 2005?

Yes.

Okay, so, and obviously, and we exchanged quarter-over-quarter those go up dramatically. Some of the things you highlight in the press release as far as vegetation controls, reliability initiatives, are those ongoing year to year kind of increases, or are those more quarter by quarter spikes to address the specific issue?

Let me just characterize the environment that we've been living in, Dave, and it will help maybe explain this. This year has been unlike the mainland, you're, I think, suffering from heat storms. We've been suffering from cooler weather and humidity. As you may recall, in the earlier part of this year we had over 40 days of rain. The result of that was that in our transmission and in our distribution corridors we had rapid growth in our trees and had to embark on an aggressive tree trimming program, so that was as much a factor of the weather conditions, but we have routine tree trimming programs. It was just accelerated as a result of the rainy season that we had earlier this year with the 40 days of continual rain.

Okay.

So those things are creeping into our O&M numbers now.

Okay good, thanks. That answers my question there. Secondly, I think you highlight also in your prepared remarks just sort of the evaluation of future rate case activity, and thanks for the update on the pending case. Can you give us any more chore around the big Island kind of expected procedural schedule there and maybe what may happen, again, on Oahu, I believe you're looking for, you need to add some generation units, and what the timing of that may be, and if that's going to be a full-blown rate case or maybe single-issue kind of cases or if you have any thoughts there?

First of all, the question on HELCO, procedurally I think the important question you might be looking for, we're looking for an interim decision in that rate case in the second quarter of next year. Would it go to hearing much sooner than that but we would look at an interim decision sometime in the second quarter.

As far as other rate activities, as you know, we're in the middle of an aggressive capital campaign to support the growth in our utility. You're right, we have a unit scheduled for 2009. As a matter of fact, we have units scheduled for all three territories. We have the Campbell Industrial Park unit in 2009. We have the M-18 unit on Maui, , and we have the ST-7, which is the steam turbine to complete the dual trained combined cycle on the big island. It's reasonable to expect that as we go into that capital period and are experiencing the sales that we are now, that we would be -- it's reasonable to expect we'd be into a rate case cycle. We're evaluating those. The HELCO I can tell you about because it has been filed and is in process, but I will leave you with that general overview.

Any speculation on Oahu? The case was settled, any potential for settlement to maybe accelerate the HELCO activity?

The issue, there has been settlement on all tissues except the energy cost adjustment clause. What happened, as probably have heard, is that the legislature passed a law called Act 162. The Act 162 basically instructed the Public Utilities Commission to look at ECAC, which they do in the normal course of rate case activity. What the commissioner did was suspended action on the final rate case until the ECAC matter was closed. What the parties have done, and the parties of the rate case are the consumer advocate and the department of defense, because they are our largest customer, have agreed to a stipulation to ask the commission to settle on all matters excepting the ECAC, and then take up the ECAC in subsequent rate case. And that will matter before the PUC to decide.

And the commission I think issued that order to you and other intervenors to maybe file either your positions or some kind of procedural issue in 45 days, and I'm assuming that they don't move this to a separate proceeding, then it could get done in fairly short order, I guess.

Or, as we've requesting, in a stipulation that it be handled in a subsequent rate case.

Okay. Perfect. Would you also refresh my memory on your estimates for kilowatt hour sales growth in 2006? You obviously gave us your revised look or maybe a lower growth but what was your previous growth estimate?

To answer your question, we're looking at sales growth -- in our prepared remarks, we said we were looking for sales growth below our 2005 actual. Our previous published forecast was for 3.4% growth.

And now you're looking for -- no growth.

No growth.

And year to date again, Mike, I'm sorry, was about 0.3%?

0.3. 0.3 negative.

and that's all because of residential slowed growth. Do you know what commercial and/or industrial growth has been year-to-date or quarter, year-over-year?

actually, the biggest change that we've experienced has been in the residential, less so in the commercial. As you might understand, when a customer checks into a hotel, for example, they're not particularly concerned with the rate effect on their bill because there is none. There's no electricity surcharge, so we see less price effect in our commercial hotel markets, as you might expect.

Overall, same thing is true with commercial as it is with residential is the weather effect, relative humidity and also the cooling degree daze. I might add, the cooling degree days was 26% less than last year's second quarter.

I can't recall it having that kind of a dip. Usually you've got, pretty consistent weather, obviously it's surprising. Really, that your weather could get that mild.

Exactly, and David, the other effect is that as we've seen new construction come into our market, we've seen higher penetration of air conditioning. And we haven't historically talk about wet bulb temperature, which is a measure of atmospheric humidity. We've been tracking that since 1997, and the numbers again for the second quarter in particular were lower than our 1997 to 2000 average, lower than our 2004 actual, 2005 actual. So we're seeing not only cooler weather but less humid weather.

Great. Thank you very much. Sorry for all the questions.

Thank you.

And gentlemen your next question comes from the line of Mr. Bill Dunn of Fort Washington Investments. Please proceed.

Thanks for taking the call. I've got some follow-up on the rate case issue. When the interim came out, what was the equity return allowed at Oahu?

10.7.

10.7? Was that changed from the previous rate case?

Yes, we previously had an 11.4 allowed return.

And what do you actually earn there?

We're earning -- let me get the numbers here. Give me just one second.

Sure. What was the rationale, while you're looking, what was the rationale used to buy the commission to cut your equity return?

I think it was general condition of finance markets, what was happening with interest rates at the time.

Okay.

And I might add that we stipulated to it, but also our last previous rate case was in the mid-90s, 1995.

All right.

And our return on Oahu is 8.09.

so you're underearning at this point. Is that because you have to use a test year and you're always trying to catch up?

Exactly.

Okay.

You're perfectly on track with that. And hence the comments about the rate case cycle that we're in.

now, when I read the most S & P write-up they seem to be suggesting that you're right on the edge of a downgrade and if the interim doesn't come in, if they don't do at least what came from the interim that seemed like they were saying there was likely to be a downgrade at that point. Is the commission cognizant of this? Do they factor that into their deliberation?

This is Eric. Basically, that's not not necessarily our understanding. Our understanding is that if we get a final decision that's consistent with our interim that they would consider relooking at our outlook.

Okay.

Upgrading our outlook. As you may be aware, we're on negative outlook right now.

Okay. What was the equity component of the capital structure there that was factored into that interim award? What percentage of the capital was equity on that? And the reason I ask, is it sounds like you were going to try to keep more capital in the business by not paying the dividend. So would that down the road lead to higher rates as a result, because your equity structure would be increasing, or the equity component would be increasing?

The equity was 54% for HECO in the rate case, and the goal is to maintain it at 54%. So the equity -- the increase in the equity through the reduction in the dividend by HECO will be to maintain the 54% equity level?

Bill, that 54% was already in the interim increased rate. I wanted to add that the 54% we target is a consolidated number. I just wanted to point that out.

All right. So by keeping the dividends in the company that offsets additional debt that would be taken on, and that allows to you stay at 54% on a consolidated basis, I guess?

That's correct.

All right. Thank you.

Gentlemen, your next question comes from the line of Mr. Doug Fischer of A.G. Edwards. Please proceed.

Thank you. Many of my questions have been asked, but what can you do with the commission or the legislature to deal with the regulatory lag test year issue? It seems that it's going to become more of a problem as you go into a construction cycle.

Actually, Doug, I thought it was a very positive move. We had not been in for a rate case since 1995, as you recall, and in September, our commission moved from hearings to an interim decision in two weeks. So the factor that is sort of reshaping our -- or affecting the timing is the fact that the legislature was in session, looking at an energy bill that had language that would suggest that there may be implications for the PUC. And I think the lag in that decision reflects the timing of Act 162, in that the commission, if they acted too soon, would have probably had to react again to a change in law.

So we think there were some events, if you look at outside of the Act 162, I think it was an extraordinarily gratifying timing on the part of the PUC and the interim decision. So I think the complication is what's happening with this Act 162 and the consequences on regulation, because what the legislature did is in effect, flipped it back to the regulators and then outlined some conditions under which they should possibly consider ECAC which as I mentioned in my remarks they look at ECAC in our rate cases anyway.

Maybe to rephrase that a little bit, maybe it's not even so much the capital, but there's an O&M lag here. How close to the interim decision for the Oahu case was the test year adjustment? I know it was an old test year, but there were some adjustments, but there was a lag of about what was it, six to 12 months? Do you follow me?

Could you elaborate on your question? This is Tayne.

O&M is rising and it's higher than the amount you're collecting in rates in Oahu. What kind of time lag is there for that and what can you do from a regulatory policy change to reduce that lag?

Well, just for a little bit of background, we filed for a HECO 2005 test year, and we received an interim decision in the fourth quarter of 2005. So there were three-quarters of '05 where we didn't have rate relief, if that's the type of lag.

A three-quarter lag. And the question is what can you do to address that issue in the future from a commission policy standpoint?

I think the key answer there, Doug, is rate design, and working with our commission.

Has the higher energy cost, except for a little bit of slowdown in the domestic economy, showed up in tourism figures that you're seeing in Hawaii?

Well, 2005 was a record year in tourism, so we are seeing that the rates of increases in tourism are slightly below what they were in 2005.

But Doug it's still higher year-over-year. But one of the constraining factors is that there's capacity constraints in terms of availability of rooms. So the rate of growth will slow.

I'll just give you some figures. In 2005, visitor days were up by 6.8%. In the first five months of this year, visitor days were up 2.8%. So we're still getting pretty good growth, but not as strong as last year. Visitor expenditures in 2005 were up 8.7%, and in the first five months of this year up 6.6%. So slightly slower, but still pretty robust.

and one final question. Eric, are you seeing increased hotel construction to address that issue?

Actually what we're seeing, Doug, is a number of key properties being repositioned, and so I think when we were back in May we also mentioned that that has affected utility sales on Oahu because some key hotel properties are under renovation, so those rooms are not being occupied presently.

We're also seeing some condo conversions in some of that space.

Okay. Thanks.

Gentlemen, your next question comes from the line of James Bellessa of D.A. Davidson and Company. Please proceed.

The actual earnings of Oahu of 8.09% ROE, was that a trailing 12-month figure?

Yes.

And the date of that rate case interim decision was when, so I can put it in perspective, when the Act 162 was enacted? I didn't quite follow everything that was said there. When was Act 162 enacted, and when was the Oahu case put into place for interim purposes?

The interim was decided on September 27th.

2005.

of 2005. And then we went into, just to give you the calendar, we go into our legislative session at the end of January. And the energy bill was introduced in the legislature early in the session, and, therefore, the energy act that I refer to, Act 162, was signed into law on June 2nd, which resulted in the commission having to take the actions that did it on the final decision that I described earlier.

And the final decision isn't final yet, is that correct?

It is not. We have, as I mentioned earlier, we have filed a stipulation with the commission asking for them to decide on all other matters that we have agreed upon, the CA, the DoD, and the company. And then take the ECAC, which was the matter left open with the Act 162, and recommending that that be heard in a subsequent rate case.

In the discussion about the growth in loans, commercial loans, in the first half, 14%, commercial real estate up 7%, then there was some expression about because of scheduled pay-downs, scheduled pay-downs of loans? Is that what was explained? There would be a flat loan balance growth in the second half? Was I hearing correctly?

Yes, that's correct. Jim, just to elaborate, on the commercial real estate side, we have been in the construction lending and some of the residential projects that we have been involved with are completing construction and beginning to deliver their product to consumers in the second half of the year.

Thank you. Then I see -- or I saw in one of your SEC filings, I can't say which Q or K it was, you had had an expression where you thought you'd be selling Hoku. Was there somebody not quick at that time switch there and the stock kept falling and you decided not to sell?

Jim, this is Eric. The intent is to sell, and we had set some price points to sell. We periodically evaluate those price points to sell, and so the intent still is to sell, but obviously the price of the shares are not at our price point.

Do you have any lone relationships with Hoku?

No.

You indicated in your narrative about entering a rate case cycle to earn your returns over time. What were you in before you entered this rate case cycle somewhat would you describe it, and do you see an end to the rate case cycle?

We were in a cycle in the late '90s when the economy on the mainland was sort of robust and everything was growing, there was a tech cycle and so forth, economy in Hawaii was going sideways. So what we were doing at that point in time was a very aggressive cost containment, continuous improvement and redefining, redesigning the Company.

For example, for the Y2K, rather than just upgrading legacy systems, we decided to put in a whole new suite of integrated systems which allowed us to refine and redefine our costs of services, everything from production scheduling to some of our accounting systems. So the cycle that we're in is reducing our cost base to compensate. Now that we're in a capital growth period to support the growth in the economy, that's the only way you can get recovery on that is with a rate case cycle.

Thank you very much.

Jim, basically we had had sufficient facilities, including generation facilities, to serve the demand in Hawaii, and we were able to absorb increases in O&M, inflationary increases in O&M through these measures that Mike was describing.

I guess I have one more question. There was a description of a new product at the Bank that was going to be rolled out later, but it was accelerated. What would the advertising byline be for that new product? What's the hook in that advertising or that product that will attract people?

It is a -- I wonder if I should actually tell you since we haven't launched it yet. It is basically going to be a -- we had a very successful product launch a couple years ago called our I-plan plus, or our I-plan product that was a linked checking/savings account that paid tiered rates. So the more you kept on deposit with us, the higher interest rate we paid you, and it was kind of a product that didn't come with a lot of fees attached to it, and so we are rolling out a product similar to that to the mass market.

What is your average consumer retail interest rate that you pay on a CD or a balance with you? Savings balance or something. Can you give us an idea? I know I can get maybe close to 5% for cash equivalents. What are you facing? You're trying to keep as many deposits at the lowest price possible.

I can tell that you the base savings rates in Hawaii are still 40 to 50 basis points.

Meaning less than 1% is what you're saying.

Less than 1%, and the weighted average rate on our deposits today is just about 1.5%.

And you don't think people will wake up to that between the close to 5% you can get and what you're just cited as the yields?

That is one of the reasons why we are looking at our deposit pricing strategies. Keep in mind now, Jim, that we have been operating in these strategies as well as the entire market here in Hawaii for quite some time. There have been people who have paid much higher rates than our marketplace during this entire period, but if you think of the average consumer, many of them, use their -- when they look for their checking account, it's really convenient, and we have the second largest branch system in Hawaii, and we are in most of the major shopping malls.

We are the strategic partner in Hawaii for Wal-Mart in-store banking. We're in the grocery stores. We are open seven days a week and into the night, and on holidays. So when you bank with us, community bank, it isn't just about rates. A lot of it is about convenience and service as well.

Thank you.

And gentlemen your next question comes from the line of Jay Yannello with Pali Capital. Please proceed.

I'm on the road, so I apologize for the connection. Just following up on that last question, Constance, have you identified where the main competition for the deposit is starting to come from? As I think we talked about in the past, one of the concerns I had was these on-line banking things.

And I appreciate that customer service is very important and convenient, but I bank with Wachovia, their ATMs are everywhere, they're a great company, great convenience, but I'm quick to switch my money to Paypal earning 5% and switch it back. Is that beginning to be a competitive threat? Are we maybe entering a period where there could be a structural change in the fight for deposits? I know it's early, but do you have any information on that?

We obviously evaluate that continually, and we haven't seen that begin to occur here in Hawaii. It's primarily competition among the local institutions.

All right. Thank you.

[OPERATOR INSTRUCTIONS]. And, gentlemen, you have a follow-up question from the line of Bill Dunn with Fort Washington Investment.

Thanks again. Just a couple of quick ones to tidy things up. What are the reserve margins on your islands. It sounds like reserves are running tight. What levels are we at?

We are running 30% reserve margins. Last year we had dipped down to 25 with the sales that I talked about earlier reserve margins are at 30%. By the way, that is -- that reserve margin I know is higher than what you may know to be the case on the mainland. Being an isolated island system, we maintain a higher reserves, and I might add that those cost of those reserves are built into our rates.

Thanks. My other question was, is the state trying to be the champion of renewables, and how would that down the road, assuming they are, how would that affect your business and perhaps your finance results in future years?

I think much to her credit, I think our governor is a champion of energy and its impact being an isolated state and community. She, as part of her new beginnings campaign, had one of her platforms was 2020, 20% renewable by the year 2020. We are, as a company, at about 11% renewable energy as a percent of our -- achieving our goal. We think it's an exciting time, and there's some exciting possibilities. There's a very serious look at biofuels and ethanol.

The I think the that has exciting possibilities is the fact that maybe Hawaii can grow a part of its fuel with things like ethanol or blended fuels, and so we actually had a press conference in March where we felt we had a pretty critical role in shaping that industry, and we put out a notice to the ethanol biofuel industry that we were hoping for business and we're looking for firm supply and felt that we could play a role in creating and facilitating a market for creating a less dependent on oil market in Hawaii.

So we think that renewables will play a key role in our future, and as an isolated Island state, we have already made some progress. We have wind farms, purchase power wind farms, one that started up on Maui, started up a few months ago. We also have a wind farm that's starting on the big Island, and we have many others in the works in terms of renewable projects.

So to say that, I think as a community and as a state we understand the importance that we've got to do something different, and I think our governor is leading the charge, and we support a lot of the initiatives that are underway.

So at 11% -- sorry.

I was going to add, it actually is a very exciting time for our state, and this discussion is a community-wide discussion. In fact, three of the largest landowners in Hawaii recently formed a consortium to look specifically at biofuels and the possibility of turning some of the old sugar lands into production of biofuel.

So they grow sugar cane on the sugar lands?

That's one of the possibilities.

Correct.

Thanks.

And gentlemen there are no further questions in queue. I would now like to turn the call back over to management for any closing remarks.

Thank you all for participating on today's call. This ends the call. If you have further questions, you can contact me. This is Suzy Hollinger. My number is 808-543-7385. Aloha.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect.