Hawaiian Electric Industries Inc (HE) 2009 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Hawaiian Electric Industries Inc. first quarter 2009 earnings conference call. My name is Mary and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions). I would now like to turn the presentation over to your host for today's call, Ms. Suzy Hollinger, Manager of Treasury and Investor Relations. Please proceed.

Aloha and good afternoon. Thanks for joining us for an update on Hawaiian Electric Industries. I wanted to introduce myself again. I'm Suzy Hollinger, HEI's Manager of Treasury and Investor Relations.

Here from senior management and speaking today are Connie Lau, HEI's President and CEO, and Jim Ajello, HEI's CFO. We also have our two subsidiary presidents here on the call, and other members of management. Our president of HECO is Dick Rosenblum, and our President of ASB is Tim Schools. Connie will begin the presentation today, and Jim will take you through the financial highlights for the quarter. Connie will then discuss the outlook for 2009, and key strategic initiatives, then open it up for your questions and answers.

Before I hand the call over to Connie I would like to alert that you forward-looking statements will be made on today's call. For more information about forward-looking statements, please reference pages IV and V of our first quarter Form 10-Q that was filed yesterday. Now let me turn the call over to Connie to begin formal comments.

Aloha, everyone, and thank you for joining us for an update on Hawaiian Electric Industries. As we reported Monday, first quarter earnings were $0.23 a share versus $0.41 a year ago, when the economy was stronger, but improved from $0.16 a share in the fourth quarter.

As we told you on our last call, the trends we saw in the fourth quarter were more representative of what could be expected in 2009. Coming into November and December of last year, the Hawaii economy had held up very well, but in December, especially, Hawaii began to feel the impact of the global financial crisis. In a moment, I will ask Jim to review first quarter numbers, then I will return to update you on the strategic opportunities we are focused on, that will improve earnings in the latter half of this year.

But before I do that, let me remind you of our overall plans and strategy. Over the last few years, we have been focusing on making fundamental changes to improve our operating companies' financial and operating performance. The key areas of focus are on implementation of the Hawaii Clean Energy Initiative and rate relief in our 2009 Oahu rate case, and the Bank's performance improvement initiative.

In the case of the utility, the Hawaii Clean Energy Initiative provides us a great opportunity to work collaboratively with government, private developers, and our community under the auspices of the ground breaking Clean Energy Initiative to help Hawaii transform its energy future. We have the opportunity to further broaden our strategic focus on renewable generation like wind and solar power, and on energy efficiency. The agreement also recognizes the importance of a reliable and smart grid, and a financially sound utility to achieve these goals, and a new regulatory framework to enable timelier cost recovery and return on investment.

The Bank's key focus remains on performance improvement, which seeks to provide market leading product and services and to optimize all areas of the Bank, including utilizing technology, streamlining processes, reducing costs, and recasting staffing levels. They continue to do all of this while ensuring that enterprise risk is being managed appropriately, especially in this tough credit and economic environment. The goal is to reduce the Bank's noninterest expenses from a 2008 run rate of $176 million to the $150 million to $155 million range by the end of 2010.

The Bank has a great opportunity to increase its profitability. Return on assets has been about 80 basis points versus an industry average of about 100 to 110 basis points, and they are targeting 120 to 130 basis points. We believe continued execution of these strategic initiatives will provide long-term growth in earnings and continued support for your dividend.

And now let me ask Jim to cover the financials.

Thanks, Connie. I will start off by discussing the state of the local economy, because it had a significant influence on first quarter results. In our last update, the decline in the Hawaii economy started to take hold. The current forecast on this slide shows a more pessimistic outlook than the one we showed in February. Visitor arrivals are now expected to be lower by 5.2% this year after being down over 10% in 2008. Year-over-year growth in arrivals is not expected to resume until after 2010.

This next slide shows historical visitor arrivals and visitor expenditures. You can see the significant drop-off in 2008 and 12-month trailing March 2009 arrivals. In this next slide, the decline in arrivals is depicted as showing as affected unemployment which rose dramatically from 5.1% at year end to 7.1% at the end of March, but still remains well below the national average. The median resale price for Oahu homes was $570,000 in the first quarter, down 8.1% from the first quarter of 2008.

Sales volumes declined 35% quarter over quarter. Although median home prices are down, Hawaii ranks down at number 30 on the list of nationwide foreclosures. The Hawaii economic downturn impacted electric sales and bank provisions for loan losses. 12% higher utility operations and maintenance expenses were also a key driver of lower quarterly earnings.

The company earned $20 million, or $0.23 per share in the quarter, down compared with $34 million or $0.41 per share earned in the first quarter of 2008. Recall that fourth quarter 2008 earnings were $14 million, or $0.16 per share, when we were just beginning to see the decline in the Hawaii economy. That result included a $4.8 million net of tax charge, or $0.05 a share, related to other than temporary impairment to bank mortgage related securities.

I will now walk you through the key drivers of the first quarter earnings decline, starting with kilowatt hour sales. Kilowatt hour sales were down 7.4% in the quarter, reducing first quarter net income by about $9 million. About two-thirds of the decline was attributable to weather and leap year day effects, and the remainder to the weak economy and customer conservation as depicted in this slide. When you factor out the effects of weather and the leap year day, this core level of sales decline is similar to what we experienced in the fourth quarter of 2008.

Because of these trends we now expect full-year sales to be down about 4%, lower than our last official forecast of 1% down. This revised estimate considers first quarter actual sales plus weather normalized sales for the rest of 2009.

The increase in utility O&M also had a significant impact on the first quarter earnings. Utility O&M increased by 12% in the quarter, slightly lower than the 13% increase that we expect for the full year, and that was discussed in our last update. The company is anticipating an interim decision for its Oahu rate case in the third quarter, which should help recover these cost increases.

Turning to bank credit quality and its impact on earnings, given the slowing economy, our credit metrics began to deteriorate in the fourth quarter of 2008. The bank recorded an $8.3 million provision for loan losses for the fourth quarter of 2009, compared with a $6.3 million provision in the fourth quarter of 2008, and less than $1 million in the quarter a year ago. This quarter's provision revoked the reclassification of a single commercial credit that accounted for about 40% of the provision and higher delinquencies in residential lot loans which accounted for 20% of the provision. In total, the nonperforming assets ratio increased from 0.48 at December 31, 2008 to 1.37 at quarter end, excluding the single commercial credit in the residential lot loans, the nonperforming assets ratio at quarter end was 0.57%.

Our net charge-offs at the bank remain relatively low versus peers at 0.2%, but represent an increase from the nominal levels of prior years. We believe we have quality assets, but like all institutions in a slowing economy, we are susceptible to higher credit costs in the near term. Specifically, we see higher credit risk in the residential lot loan portfolio in the single commercial credit we referred to in our earnings release.

A key profitability driver for the bank that we had focused on efficiency. Banking is an extremely thin margin business, so managing noninterest expense is critical. We have continued to make significant progress in reducing expenses. In the first quarter ASB had about $42 million of noninterest expense which translates into an annual run rate of $167 million, a reduction of about $9 million compared to the $176 million run rate experienced in 2008.

Excluding new expenses of about $5 million for increased FDIC premiums and pension funding requirements, as well as an additional $1 million for other one-time charges, the bank has been able to improve its efficiency ratio to 62%. With the initiatives discussed on previous calls and new opportunities for savings in the areas of automation and real-estate management we are on track for our goal of a noninterest expense run rate of $150 million to $155 million, and an efficiency ratio of about 55% by the end of 2010. Given the current economic environment, any benefits achieved through these initiatives in the near term are helping offset increased provision expense.

Moving to corporate matters, two new pieces of guidance were issued during the quarter that are expected to benefit the company. First, the Financial Accounting Standards Board issued favorable accounting treatment for other than temporary impairments of investment securities, making it less likely that our bank will have to recognize large fair value adjustments to its mortgage-related securities portfolio in future quarters. Instead, actual expected other than temporary impairments will be recognized, beginning with the adoption of the guidance in the second quarter. I am also happy to report that bank management annualized the value of the portfolio as of March 31st, and found no additional other than temporary impairment.

Second, with the recent funding relief measures granted through federal legislation and IRS guidance, we now expect the cash funding for our pension plans to be $16 million in 2009 and $42 million in 2010, after consideration of the utilities pension tracking mechanisms, much lower than previously expected. These funding levels more than satisfy the minimum required contributions to the plan under the Pension Protection Act. While summarized on this slide, further details can be found on pages 44 and 45 of our Form 10-Q that was filed yesterday.

I will now turn to an update of liquidity and capital resources. With respect to liquidity, HEI and HECO have $350 million of unused capacity in bank credit facilities at the end of the quarter, with no commercial paper outstanding. The bank's liquidity has been strong with good core deposit growth of $83 million in the quarter, access to $1.7 billion of unused borrowing capacity at the FHLB of Seattle, and inflows from higher prepayments of mortgages and securities and the sale of refinanced mortgages. For the bank, the issue has become find good ways to deploy cash in more profitable assets.

Given the company's strong capital and positive liquidity positions, management recently decided to temporarily satisfy demand for shares from our dividend reinvestment and retirement savings plans through open market purchases, rather than new share issuances. The details of the switch were announced in an 8-K filed on April 15th. Management will review this decision each quarter.

In terms of capital, despite the broader economic deterioration, we are clearly making progress. The company has a strong capital base with both operating companies solidly capitalized. Our overall consolidated equity, including preferred stock and total capitalization, is 54% at the end of the quarter, higher than the 49% a year ago. Utilities equity layer is at 57%. And the bank remains well capitalized, with an average tier 1 core leverage ratio of 8.7% for the first quarter, slightly higher than the 8.4% average for the fourth quarter of 2008.

You may have seen that the company filed two registration statements for the dividend reinvestment plan in the new ASB 401(k) plan today. Both plans have an HEI stock fund option that requires registered shares for issuances or purchases of stock through the plan. We are currently purchasing shares on the open market to satisfy the stock requirement's DRIP, the HEI retirement savings plans, and now the ASB 401(k). Further, the seven million shares registered for both plans are intended to cover several years of demand.

With respect to our financing plans, HEI will downstream up to $120 million in equity that we raised in December 2008. The equity infusion will be accompanied by a utility-issued revenue bond which together will finance their 2009 capital expenditures at a 54/46 equity/debt ratio. Utility expects access to debt and capital markets in the third quarter subject to PUC approval. I will stop here and turn the call back to Connie.

Thanks, Jim. Overall, we were pleased with the quarter. Going forward, we expect to continue to see the effects of the economy on our operating company, particularly on kilowatt hour sales and O&M and bank credit quality.

As Jim mentioned, we now expect sales to decline further. About 4% for full year 2009. But expect that de-coupling, when approved, help mitigate the effect on earnings. Our de-coupling proposal has two main components. The first element, revenue normalization, is included in our Oahu rate case proposal. A revenue balancing account would adjust revenues up or down based on the variance from kilowatt hour sales assumed in the rate case test year. The second element, cost based rate adjustments, is being considered under a separate de-coupling docket.

Beside the recovery of major projects, such as our new Oahu generating unit, we proposed to set the base for revenue de-coupling from kilowatt hour sales through the Oahu 2009 rate case. We also plan to file rate cases for HELCO and MECO, among other reasons, to set the base for de-coupling their revenues. We are scheduled to receive an interim decision on the Oahu case on July 2nd, while the schedule in the de-coupling proceedings allow for the PUC to be able to issue a decision in the fall of this year. The rate cases will also help us recover increased operations and maintenance costs that we expect will run 13% higher this year than last year.

The higher forecast O&M is based primarily on planned higher production, transmission and distribution costs to maintain system reliability. Additional expense is expected to be incurred for the Campbell Industrial Park CT-1 generating unit after it commences commercial operations this summer and higher costs of the two renewable initiatives. I should note here that the Hawaii Clean Energy Initiative is very ambitious and all encompassing. The PUC is extremely busy with the dockets we mentioned, as well as others like feed-in tariffs, life line rates, and a pilot PV host program. These regulatory initiatives will be our key focus for the foreseeable future.

For our bank, a key uncertainty is around credit costs. As Jim discussed, the provision for loan losses was elevated in both the fourth quarter 2008 and the first quarter this year, primarily because of one large commercial credit and residential lot loans located mainly in the resort areas of Maui and the Big Island. And credit costs could remain elevated in the near term. The good news is that our bank's performance improvement initiatives are going well, making up for increased credit costs and new costs such as the increased deposit insurance premium, pension costs, and severance Jim mentioned earlier.

In addition, our bank's core retail banking franchise is quite profitable and strong. Since the balance sheet restructuring at the end of the second quarter of last year, net interest margin has improved significantly, and now exceeds 4%, a very good number, which compares well with peers. The bank is leading the way with new products and services, like e-statements, which was rolled out just last week. Free checking, truly free checking, continues to do well, helping core deposits grow by $83 million in the quarter, and as you know, those core deposits are our lowest cost funding source. The increase in core deposits in the quarter also helped keep overall funding costs low, below 150 basis points.

This chart of pretax pre-provision income shows the earnings power of the bank's core retail franchise, including the benefits of performance improvements to date, and the balance sheet restructuring before factoring in typical credit costs and taxes. It reached a record high in the first quarter of $108 million, based on an annualized first quarter result, compared with $96 million for 2008 and $90 million in 2007. Through performance improvements the bank has been able to maintain its earnings power, but on approximately $900 million fewer average assets than it had in 2008, and approximately $1.6 billion of fewer average assets than it had in 2007.

The bank's return on average assets for the quarter was 82 basis points, and it earned a 9.16% return on average equity, both good numbers in this environment. The bank also has another good problem, as Jim mentioned, of having a lot of cash. As he said, this has resulted from good core deposit inflows and faster prepayments of investments and loans. Accordingly, because mortgage rates are at record low levels, the bank has chosen to sell its mortgage production and has shrunk its balance sheet further, allowing it to dividend additional capital to HEI. In April, the bank dividended $24 million to HEI in excess of its $11 million of first quarter earnings, while allowing its own tier 1 core leverage ratio to improve in the quarter, as Jim noted.

Overall, we feel good about our companies. They remain solid with strong capital bases and good access to liquidity. We believe we are well positioned to weather this economic downturn and to grow when the economy recovers. We will continue to work on the initiatives that will provide opportunity for future earnings growth that we discussed during this call, including good investment opportunities to grow rate base through the Hawaii Clean Energy Initiative with a better regulatory model to recover costs quicker and earn our allowed return.

Accordingly, our board maintained the dividend on Monday, payable June 10, to shareholders of record on May 21, the next dividend date will be May 19th. Based on yesterday's closing price of just over $16, our dividend yield at 7.7% remains attractive.

Let me now open it up to your questions.

(Operator Instructions). And we'll wait a moment to compile questions. Our first question comes from the line of Paul Patterson from Glenrock Associates.

Good morning, guys.

Hi, Paul.

The loan loss provisions for the residential lots and the commercial customer that you were talking about, how should we think of that going forward? Are these sort of unusual? You do in the release mention what the loan loss provisions would have been without those two things happening. On the other hand, you are talking about a deteriorating economy. So how should we think about the loan loss provision, directionally, whatever?

Paul, I don't think I would think about it as being unusual. This is the part of the credit cycle when credit costs are higher. What we pointed out, even in the fourth quarter is that particular with the commercial credit, these can be lumpy, depending on how the credit is doing at any particular point in time. And then we had also wanted to point out that we do have some weakness in the residential lot area. As Jim mentioned in the statistics that he quoted in his area, the rest of the portfolio is actually holding up quite well during this time.

Okay. Talking about the portfolio and I guess on page 77 and 79 of the 10-Q, there is some language about how in the fourth quarter, there was some down-grades of certain securities that you guys have, some going as low as in the CCC and CC range. I realize the industry has a favorable mark to market accounting change that should help out with the tier 1 capital, but could you address that as to how we should think about those securities?

Sure. It's actually very similar to the loan portfolio. These are assets that we just to have watch continually, and we did not, as Jim noted, adopt the new accounting standards for the first quarter, meaning that we did not have additional OTTI impairment under the old rules in the first quarter, but again, we have to continue watching the security, and with the new accounting standards, the one good thing is that the risk of further OTTI is diminished, particularly when it relates to market illiquidity.

Is that because the market value of these securities didn't change that much relative to these downgrades, or is it because you guys -- you mention here that you may hold them to maturity. I guess CC and CCC I just was wondering, that would indicate to me there may be an issue in terms of holding them to maturity, if you follow me.

This is Tim. Obviously, that's a sign of weakness, right. It's not the typical grade you would want to purchase at initial purchase, but the way that the accounting rules have changed is you would only provide a provision or expense for that like a loan now, so before, the way that the treatment for securities worked is if you felt there was any chance would you not recollect $1, you had to mark it to the actual current fair value, which could be $0.60 on the dollar. And that's what caused a lot of stink nationwide is like the FHLBs were taking $100 million charges for bonds that they thought they may lose $3 million. And so that's what changed.

So what would happen now, like for instance, the one that we done fourth quarter, if we had that again under this accounting treatment, our charge would have been about $600,000 pretax instead of $7 million, because at the time, when we analyzed the credit, based on a number of different ways, the credit rating, discounted cash flow, all kinds of stuff, both internal and independent, it was about $600,000.

So the good news on these securities -- I don't want to scare you -- they're more complex than a regular, like just if you bought a house from me and I've got a loan on my books, they are a pool of mortgages. The way they are structured is you buy certain tranches within the mortgage pool, and most banks are conservative and buy the latter tranches. And what that means is any losses taken in the portfolio are picked up by the earlier tranches before it gets to us. They have to absorb the losses.

Let's just say that this pool in general earned 7%. The way that works, if you buy in tranche 3, you may get 6%, and tranche 1 may get 8.5%. So they take a little higher yield for the risk they're going to take the losses, so while these are not great credit ratings, two positive things. One is we are in the latter tranches on these. Number two is that prepayment speeds picked up in first quarter. So that means that these mortgages in here are paying off much more quickly than had been anticipated.

So if we look at these CCC or CC, that's referring to the entire security, and you may be in a better --

Correct, they don't rate the tranches. That's part of the thing. I don't know if you guys followed Warren Buffett's call this week, but he actually poked fun at Moody's, which he owns 20%, and was commenting about how everything was rated AAA, and if Moody's had rated them lower the SEC and the Federal Government would have pulled them in and chastised them for hurting the US housing market. It's a whole industry thing. They probably shouldn't have been rated AAA, but they also don't rate the tranches, and there's different risks within the tranches.

When we look at the stock of the FHLB of Seattle and we look at the dividend suspension, on the one hand we should have, I guess, a benefit from what you are just talking about, helping out the FHLB. Is that how we should think about it? I guess what I'm saying ia, you mention on page 79 there's potential for an impairment that you review it periodically, but it would seem to me because of just the things you are talking about that would be less of a scenario now as well.

I think it was moderate to low in the first place, just being good stewards, we wanted to put that before you, that that is a risk. We don't want to hide risks, so I still think it was moderate to low, but in this environment, I think the FHLBs have really been helped, because the treatment -- we just had $8 million but most FHLBs had hundreds of millions they had to take in OTTI. What will happen for them is I don't want to get too much into it, when they adopt the accounting rule, most of that will come immediately back to the regulatory capital, so they're going to become better capitalized immediately April 1, when they adopt this, which, therefore, will make it -- which will then make it stronger that if we ever wanted to redeem we could get our money back.

Just on that quickly as it relates to the FHLB of Seattle, they were here in town probably a month and a half ago. They actually -- it's five-year redemption. We've turned in -- our issue is we have too much FHLB. So we have $100 million. We probably really need $20 million. So that's an $80 million nonearning asset that at some point this company will benefit. At some point we'll get $80 million of cash back that I either can pay down wholesale funding or I can invest in securities at 4%, that's an earnings upside for our company.

But FHLB came to town. They had someone that issued a five-year redemption, and it came due in the first quarter, and they were able to redeem it, number one. And number two, I've heard, I can't confirm this, that they've actually had new customers sign up and purchase shares at par. So that's two good signs to support the value of our stock.

Okay, and then just finally, the average tier 1 leverage ratio is 8.7, sounds like you guys are fine for that, which, you know, the OTS is at 8% level. I just noticed in that your statistics you guys had a 7.81 in March 2008. I guess I'm wondering, did the OTS have no issue? That obviously is below 8, so you guys were paying a dividend. How should we think about that?

Paul, I don't know if you remember, but we used to talk about having a target capital ratio of about 7.5%, and that was during pretty good times, but capital ratio is one of the things that you watch in banking, and depending on the risk levels in the industry, you may increase that. So we actually moved from that target capital ratio of 7.5, up to 8, and we've actually -- which you noted is what our agreement with OTS is regarding dividends but we have as management decision decided that we would allow the capital levels to rise even beyond that level. So that's why it's gone up over the last couple of quarters. It's prudent to carry more capital at this time.

Okay, great, thanks a lot, guys.

Paul, I also just wanted to comment, because we had fairly lengthy discussion about Federal Home Loan Bank and the rest of potential impairment there, and overall, as Jim said, we included it in the Q as a risk item, although we believe the risk is on the low side.

Your next question comes from the line of Bobby Bohlen, KBW.

Thanks for taking my questions. Just looking on the noninterest income at the bank level, and you mentioned you're selling most of your mortgages right now. How much of the noninterest income was coming from mortgage banking this quarter versus last quarter?

Hold on just a moment, Bobby. Alvin is looking that up. It's not a huge number.

It's not a huge number. We're selling about $60 million a month, and we're probably getting fees of 1.2, 1.3% on it. So that's probably $600,000 a month. So I'd say $1.8 million to $2 million for the quarter. I'm not sure about last quarter.

This is Alvin Sakamoto. This year we have been selling almost all of our low yielding loans, instead of putting them on our books, so that's why really we've been generating a little higher fee income.

Would you expect that to continue in this current rate environment?

It depends on refi. Last year we didn't really sell. We have a little bit different asset structure, right? So we're a legacy thrift so we have a very bank like liability side but our asset side, both our securities and loans, are very thrift like. A lot of low risk, 30-year fixed rate mortgages. So what's happened is rates have fallen to the historically low levels ever, and as we have, say, 6% mortgages refi, they're refiing at 4.8%. That would be toxic to put those on your balance sheet from an interest rate risk perspective.

We're talking about credit risk now, and two years from now we'd be talking about a lot of interest rate risk. So we're trying to do right thing and let those refi to help our customers, sell them to the secondary market, and that's what Connie and Jim spoke to, that's leading to a buildup of cash. But the refis picked up in February. They weren't that high in the fall. You can't really compare to the fourth quarter because we started selling December, January 1, 100%.

Bobby, I know you follow some of the other financial institutions in town. Some of them have very aggressive mortgage banking type operations. You would not be looking for a lot of mortgage banking type income to come from us, because we just don't run our business that way.

Okay. Just looking at the current environment, with what appears to be fairly strong demand for refi, I was just trying to count how much of it was mortgage banking, but that was helpful, Thank you.

Thank you. (Operator Instructions). Our next question comes from the line of David Post, Farallon.

Hello, this is David Post. I just had a question on the -- if I look at the nonperforming assets for the quarter, it looks like the new nonperforming assets for this quarter were around $35 million, and you provisioned $8 million. The total nonperforming assets were around $55 million. There was $2 million of charge-offs. The provision on the charge-offs just seems low if I compare to the some of your peers and some of the other banks, so I'm just wondering how you think about provisioning and how sustainable that provision level is. Should we expect it to stay at that level or go up over the next several quarters or year?

Good question. And we heard that this week. You have to really look at the risk profile of banks. Again, our bank primarily is a collateralized lender. When you look at our mix of assets, our securities are about 97% residential mortgages. Of our loans, it's primarily about 60% residential mortgages.

So as an example, let's just say you had zero nonperforming assets, and $20 million moved into nonperforming assets. You would not necessarily provision $20 million, because we would not expect to lose $20 million. Your provision is a provision for expected losses.

So what happens is when something goes nonperforming, we actually get an appraisal, and we look at our current loan amount versus the current estimated value of that property, then we provision for the difference, for the delta. And so, you could have a different situation where you have zero to start with and $20 million goes NPA and is totally unsecured. In that case you would have to provision one to one. You can't really relate your provision expense to your increase or rate of increase of NPAs, but it's a great question.

Great. And then --

I would reiterate what Connie said. This is a slowing economy, when you look at our delinquencies, they are extremely low versus the industry. I've got some numbers here real quick. On our mortgage portfolio, of $2.6 billion roughly of mortgages, 1% is delinquent of $2.6 billion. That means 30 days or more. That would be very good versus the industry, and our numbers from Fannie Mae, Freddie Mac, shows it's actually the best if not one of the best in Hawaii.

David, remember, we have a lot of fixed rate 30-year mortgages.

Right. And when you look specifically at NPAs -- my thing didn't print out correctly -- but when you look specifically at NPAs, our whole portfolio, excluding those two items, is like 0.54. We don't have the other one that breaks out NPAs.

Right there.

There's one by product type. So our first mortgages on NPAs only 0.57 is nonperforming. When you look at our total consumer portfolio, which would be home equities and everything it's 1.99. Our total commercial portfolio excluding that one credit is 0.64. So really our NPA percentages and our delinquency percentages are really low. It's the one commercial credit, the land loan. So if I could speak to the land loans for one minute, it's really a unique situation.

We have about $120 million to $130 million of land loans or lots where either people in Hawaii or people on the mainland say, wow, I'm going to purchase a lot, and probably for the most part are intending that they will build a house there one day. A smaller portion, maybe, was doing it for an investment to flip it. But typically nationally those loans are one, two, or three-year loans, that's it. They're short-term loans with the intention that they'll be built on. And so they turn over pretty quickly, right. That shows that they're going to mature at a rapid pace.

We've got about 450 of these loans, and really a very low percentage, this is a key point, a very low percentage has ever been delinquent. And so what's happened is historically, these things have matured when the loan is over, and they've built a house. What's happening now is these people are not in the position to build a house, so they've lost their job, or their income is down, or they're just being conservative on spending.

You've heard the consumer spending data is down. Or the small percentage that were investors, there's no market to flip it. But the key point, these people have never been delinquent, they can handle the payments. So what's happened is they're maturing at a rapid pace and we are working to refinance them, and we feel comfortable that a large percentage of these will be able to refinance and carry their payment and go into a new loan. So the way it works, to be conservative, is when they mature, we're just, to be conservative, putting them in the past-due status, which causes provision. But we have a dedicated team that's working to refinance these.

Okay, great. Another question was just on the dividend at the bank, if I look at the dividend, it looks like about $18 million of the dividend came from bank this quarter, and the net income was $10 million. So going forward, would we expect the dividend to be more supported by the utility, or can the bank continue to pay out more than its net income? How should we think about that?

That number for the bank was actually $24 million against almost $11 million in first quarter earnings.

I was looking through the 10-Q and it looked like the utility had paid out $10 million. Maybe I'm just reading it wrong.

You might be looking at the last quarter number.

The ability for the bank to dividend out more will be there for a little bit, but the real opportunity was, is we had, as you know if you've been following, we had the wholesale portfolio which was requiring a lot of capital that really wasn't earning, so there was a chance to take that off and dividend more. I think the bank in total dividended like $100 million last year, and normally the bank dividends like $50 million.

So that was a huge advantage to return capital that was not being earned on, and then this year, as you've seen, we've continued to shrink. I ended first quarter at, I think like $5.1 billion. And so that's down from like $5.4 billion. So we were able to shrink another $300 million.

There are still modest opportunities like FHLB. I've got $80 million I'm not earning on. That $80 million requires 8% capital, so, there's, what, $6.4 million of equity there that's not earning anything. So if I could get that $80 million back, one opportunity would be to pay off wholesale funding and dividend $8 million back to the parent. I'd be earnings neutral and my return on equity would go up.

So there's limited small opportunities from here out. It's going to get closer to just earnings.

David, when we adopt the new accounting standard we'll get a little bit back in our regulatory capital ratios. But overall, and the reason we're doing it, as I think we've explained before, we're looking at the banking environment and whether it is a good time to actually grow the asset side of the business, particularly on the mortgage side, as we've talked about. We just don't believe that those are good assets to put on the books at this time, and so we've allowed the cash levels to go up, and rather than just leaving that cash in the bank, we have shrunk it to return the capital to the utility side, where we certainly have a need for that with the capital investment program that is going on. But should the banking environment become more attractive, we might reverse that.

I'll just add that last year was actually $108 million, roughly half and half of the return and the dividend level we talked about.

Right, and by contrast, the utility dividend at $14 million, and that was because we had it retained most of the earnings, because of the capital expenditure programs there and the opportunity to draw the rate base.

I don't know what chart number it would be, but the pre-provision slide that Connie showed, that's really the key story for the bank. You've got to break it into two things, or you can miss the improvement that's going on. Basically, this is a company in this environment with a low-risk profile that has not really had any charge-offs for almost 10 to 15 years, and very modest provisions. And so now all of a sudden, the economy is slowing down, and first quarter times four is $32 million. Fourth quarter times four is $24 million. And we're addressing that.

But when you look at the pretax pre-provision you can see the improvement, and there's just a good opportunity to reduce expenses. As Connie said, they've gone from the last two years of $176 million to when you take out our severance and things that we don't expect or intend to recur we're at about $161 million, $162 million, so that's already down $15 million. And we had $5 million of new expense that were introduced this year from FDIC and from a decline in our pension fund, so really the bank team has taken out $20 million of expenses in about 12 to 18 months, and fortunately, it has really not been related to people.

When we look at March 31 of this year versus December 31, 2007 before we started, we're only down a net 32 people in our entire company. Now, we have actually changed some skill sets out where we have worked with people to -- maybe they need to be in another job in the company, or maybe they're not the right fit for the company, but we've replaced them, but as a whole we're only down net 32 while lowering $20 million. So there's a lot of neat stuff going on.

And just one last really quick question. I saw you guys had applied for TARP, I think last year. What's the status of that, and should we expect a TARP infusion into the bank?

We had filed that application at the time that TARP was new, just to make sure we had a place in line. As you can tell, we really don't need the capital. In fact, American has been dividending excess capital up to the holding company, so we've withdrawn that application.

The story really switched on that. At the very beginning, all the large law firms were -- not in town, but nationally, were calling and saying, hey, you need to apply for TARP, or it is going to look bad in the community. They are going to think you're weak, that you couldn't get TARP. Then all of a sudden towards the end it got viewed that only the weak banks were taking TARP. So it really switched. It was sort of confusing.

And the restrictions increased significantly.

Thank you, guys. Appreciate the time.

your next question comes from the line of James Bellessa, DA Davidson & Company.

Good morning. On that pretax pre-provision chart, I'm looking at it, or I looked at it, then I looked at the most recent quarter, and it looks like you had pretax pre-provision at the bank of a little over $25 million for the quarter. Annualize that, that's a little over $100 million. But the chart seems like they went up to almost $110 million. What am I missing for the increment?

The pretax pre-provision was $108 million. So that's annualized. So it should be your net interest income, plus your noninterest income, minus your noninterest expense, and if you take that number times four, you would get the annualized number, and it should be about $108 million.

That's the difference, Jim, is that we're showing the chart because it's compared to full year on the left of the chart is that we annualized the first.

That bar should probably say 1Q 2009 annualized. When I took $17 million of pretax income, $8 million provision, and that's $25 million, and multiplied that by four I was coming up a little over $100 million, and you're saying the chart is really $108 million.

Yes.

And I'm just trying to see if I'm missing something between how I calculated and $108 million. I'm still a little puzzled, but I'll go on.

I think what it may be is on the chart, I'll have to talk to Suzy, she's here, in first quarter we had about $700,000 of severance. We had $100,000 where we retained PriceWaterhouse to come in and do a companywide SOX 404 review, which a lot of companies have done as a result of Accounting Standard 5 that came out a couple years ago. And so as it relates to the bank, there was $1 million of unusual stuff that we would not expect to continue in the future.

Okay, that explains it.

If you annualize times four that's $4 million, so that may be part of the piece.

Right. On this undersea cable that you're talking about, I'm wondering if you're running out of time, because the federal stimulus spending monies are being kind of locked in or committed to, and I'm just wondering if you were hoping in this stimulus spending time that you might get some of those monies.

This is Dick Rosenblum. Certainly, we're looking at the stimulus monies, as is everybody else, to see what's applicable to us. We do not see the cable as likely to be subject to stimulus money. It may well be subject to some other form of loan guarantee outside the stimulus arena.

And does it require some type of congressional action to get the funding that you're asking for this, or would like to see?

Well, we haven't asked for anything, but we would certainly anticipate that there might be some congressional action at some later date should we, or the state, really, try to use federal funds as part of the financing.

Keep in mind that the intention was not for us to build the cable. It's really intended to be a state project in the nature of state infrastructure.

On page 26 of the Q, you have a comment about MECO being denied its test year request. And then they come back, and it looked like they said you could file a split test year or 2010 calendar test period. That sounds better than the one they denied. Am I getting that wrong?

This is TayneSekimura.We are looking at our options, clearly looking at those two options laid on the table right now.

Jim, as I mentioned with all of the initiatives going on right now with Hawaii Clean Energy the PUC is very, very busy, so we're looking at all of the schedules.

And then the customer information system project comment, it looks like there's been a cost overrun, and you're in disputes with the software vendor named Peak Software. Does this look like it's going to be a belly flop, or are you going to be able to get a recovery? Are you going to get your feet back on the ground in this project?

This is Dick Rosenblum. It is a difficult project, as are many customer information system projects in our sphere. We're working with the vendor to reformulate the project and move forward. We believe we will ultimately be successful in installing a CIS and we're hopeful and look forward to recovery of the entirety of the expense.

Thank you very much.

Your next question comes from the line of Steve Fleishman, Catapult Capital Management.

Hi.

Hi, Steve.

Just -- Connie, just based on the current outlook you had for this year, what kind of ROE do you think the utilities will end up earning? Earned ROE?

This is TayneSekimura.Hold on, Steve. Steve, I can share with you where we are today in the ROE space.

That's great.

For HECO we're at 7.32%.

Is that 12 months to March?

13 months trailing. It's actually a simple average rate making calculation.

Okay.

HELCO is at 7.98%. And MECO is at 7.13%. As both Jim and Connie noted as part of their prepared remarks, we are working on HECO Oahu rate case, and according to the schedule, the interim decision is expected out in the early July time frame.

Okay. If you look at overall, this level of underearning, versus, let's say, a normal 10 or 11% return, I think the consumer advocate in the HECO case recommended -- I can't remember exactly what they recommended, but somewhere mid to high tens.

What the consumer advocate recommended was in the 9.5 to 10.5% range.

So 10%. What would the earnings power up side be of just to getting normal returns at the utilities?

What we're looking at is, in combination with what we're requesting out of the cases of revenue decoupling, we're hoping, obviously, to earn closer to our allowed. But if you take a look at this year, the first half of the year will be stressed, as we await a decision on the Oahu case.

Right. But starting in midyear with the interim rate you should be getting closer to the allowed?

Definitely, but, of course, we can't determine right now what the amount of that interim might be.

Okay.

We're scheduled for the interim, but, of course, we don't know the amount yet.

Okay. Thank you.

Thank you. Your next question comes from the line of James Heckler, Levin Capital Strategies.

It's actually Neil Stein, and I had a quick question, if I could.

Hi, Neil.

In the proxy, you had various net income targets. I just was wondering how we should of these. There was a stretch target and more of a mid-range target. It's unclear what brings you to kind of one end versus the other end. If you could talk about just kind of what went into formulating the assumptions in those targets.

Well, I think certainly on the bank side, we were looking at the return on asset target that Tim has over time, and as you know, that's a longer term target, and then backing back into that, as to where we might be for 2009, based on where we are in the performance improvement project, which does go for another year after that. And then on the utility side, it's looking at what we should be able to earn as we put in place the Hawaii Clean Energy Initiative and de-coupling and the rate adjustment mechanism coming back in that would allow to us earn closer to the allowed return.

At this point do you think you're tracking more along what you labeled the stretch target? I don't have the proxy in front of me. I'm doing this from memory. I think it was called stretch. And then you had something else was labeled a target. It was a target goal, and then there was a minimum threshold.

Well, I mean, right now, we feel like we are pretty much on plan. The first quarter, I think, came in not only as the market expected, but as we were expecting. So we're feeling as if the initiatives that we are pursuing are delivering the results that they've been intended to.

Neil, it is a relates to the bank, I think that actually we are quite a bit ahead of schedule. If you --

There's an offset.

Right. If you take first quarter times four it is $32 million in provision. If you just divide that in half, which would be a lot higher than historical levels, right, so that would be about $16 million. If you add $16 million after tax to our numbers, divided by our assets, I believe it's about a 120 return on assets. And our company the last ten years, 15 years, has earned about a 0.8. So I think the actions the bank has taken has clearly led it to where we would be on a run rate of 120 ROA right now.

Okay. I'm trying to think if there was anything else. I'll take it off-line. I appreciate your answering those questions. Thank you.

One thing before, we forget, Connie, I want to mention for everybody, if you all follow the bank industry, there likely is going to be an FDIC special assessment this quarter for all banks, period. And for us, when it came out, it originally was a 20-basis-point assessment, and this is to replenish the FDIC insurance fund. It's unfortunate that the good performers that survived have to replenish for the ones that didn't survive but that's the way the world works.

The ABA took a position on that and is working to get that lowered to a 10-basis-point special assessment. For us that would equate to about a $4 million one-time charge, pretax. So I would rather mention that to you ahead of time than on the next earnings call, say we added $4 million. So if everybody could just be on the lookout for that.

That alone I think pretax is going to increase the possible insurance premium for the bank about $9.2 million when you add in the earlier -- when you add in the earlier increase in the premium.

That's supposed to be a one-time this quarter, so it should just be a one-time charge, so it shouldn't be in our full earnings.

Thank you. And there are no other questions in queue at this time. I would like to hand the call to Suzy Hollinger for closing remarks.

Thanks, everyone, for being on the call and for your questions. If you have further questions, please contact me at 808-543-7385. Thanks again.

Thank you for your participation in today's conference. This concludes the presentation, and you may now disconnect. Have a great day.