===============================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Exact Name of Registrant as Commission I.R.S. Employer
Specified in Its Charter File Number Identification No.
- ------------------------------------- ----------- ------------------
HAWAIIAN ELECTRIC INDUSTRIES, INC. 1-8503 99-0208097
and Principal Subsidiary
HAWAIIAN ELECTRIC COMPANY, INC. 1-4955 99-0040500
State of Hawaii
- ---------------------------------------------------------------------------
(State or other jurisdiction of incorporation or organization)
900 Richards Street, Honolulu, Hawaii 96813
- ---------------------------------------------------------------------------
(Address of principal executive offices and zip code)
Hawaiian Electric Industries, Inc. ----- (808) 543-5662
Hawaiian Electric Company, Inc. ------- (808) 543-7771
- ---------------------------------------------------------------------------
(Registrant's telephone number, including area code)
None
- ---------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
===============================================================================
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes x No
------ ------
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class of Common Stock Outstanding May 7, 1999
- --------------------------------------------------------------------------------------------------------
Hawaiian Electric Industries, Inc. (Without Par Value) 32,185,604 Shares
Hawaiian Electric Company, Inc. ($6 2/3 Par Value). 12,805,843 Shares (not publicly traded)
===============================================================================
Hawaiian Electric Industries, Inc. and subsidiaries
Hawaiian Electric Company, Inc. and subsidiaries
Form 10-Q--Quarter ended March 31, 1999
INDEX
Page No.
Glossary of terms...................................................... ii
Forward-looking information............................................ v
PART I. FINANCIAL INFORMATION
Item 1. Financial statements
Hawaiian Electric Industries, Inc. and subsidiaries
---------------------------------------------------
Consolidated balance sheets (unaudited) -
March 31, 1999 and December 31, 1998....................... 1
Consolidated statements of income (unaudited) -
three months ended March 31, 1999 and 1998................. 2
Consolidated statements of retained earnings (unaudited) -
three months ended March 31, 1999 and 1998................. 3
Consolidated statements of cash flows (unaudited) -
three months ended March 31, 1999 and 1998................. 4
Notes to consolidated financial statements (unaudited)..... 5
Hawaiian Electric Company, Inc. and subsidiaries
------------------------------------------------
Consolidated balance sheets (unaudited) -
March 31, 1999 and December 31, 1998....................... 11
Consolidated statements of income (unaudited) -
three months ended March 31, 1999 and 1998................. 12
Consolidated statements of retained earnings (unaudited) -
three months ended March 31, 1999 and 1998................. 12
Consolidated statements of cash flows (unaudited) -
three months ended March 31, 1999 and 1998................. 13
Notes to consolidated financial statements (unaudited)..... 14
Item 2. Management's discussion and analysis of financial condition
and results of operations.................................. 24
Item 3. Quantitative and qualitative disclosures about market risk. 36
PART II. OTHER INFORMATION
Item 1. Legal proceedings.......................................... 36
Item 4. Submission of matters to a vote of security holders........ 37
Item 5. Other information.......................................... 37
Item 6. Exhibits and reports on Form 8-K........................... 39
Signatures............................................................... 40
i
Hawaiian Electric Industries, Inc. and subsidiaries
Hawaiian Electric Company, Inc. and subsidiaries
Form 10-Q--Quarter ended March 31, 1999
GLOSSARY OF TERMS
Terms Definitions
- ----- -----------
AFUDC Allowance for funds used during construction
ASB American Savings Bank, F.S.B., a wholly owned subsidiary of HEI Diversified, Inc.
and parent company of American Savings Investment Services Corp., ASB Service
Corporation, AdCommunications, Inc., American Savings Mortgage Co., Inc. and ASB
Realty Corporation
ASBR ASB Realty Corporation
BIF Bank Insurance Fund
BLNR Board of Land and Natural Resources of the State of Hawaii
CDUP Conservation District Use Permit
Company Hawaiian Electric Industries, Inc. and its direct and indirect subsidiaries,
including, without limitation, Hawaiian Electric Company, Inc., Maui Electric
Company, Limited, Hawaii Electric Light Company, Inc., HECO Capital Trust I, HECO
Capital Trust II, HEI Investment Corp., Hawaiian Tug & Barge Corp., Young Brothers,
Limited, HEI Diversified, Inc., American Savings Bank, F.S.B. and its subsidiaries,
HEIDI Real Estate Corp., Pacific Energy Conservation Services, Inc., HEI Power
Corp. and its subsidiaries, HEI District Cooling, Inc., ProVision Technologies,
Inc., Hycap Management, Inc., Hawaiian Electric Industries Capital Trust I,
Hawaiian Electric Industries Capital Trust II, Hawaiian Electric Industries Capital
Trust III, HEI Preferred Funding, LP and Malama Pacific Corp. and its subsidiaries
Consumer Division of Consumer Advocacy, Department of Commerce and Consumer Affairs of the
Advocate State of Hawaii
D&O Decision and order
DLNR Department of Land and Natural Resources of the State of Hawaii
DOH Department of Health of the State of Hawaii
Encogen Encogen Hawaii, L.P.
Enserch Enserch Development Corporation
EPA Environmental Protection Agency - federal
ii
GLOSSARY OF TERMS, continued
Terms Definitions
- ----- -----------
FASB Financial Accounting Standards Board
FDIC Federal Deposit Insurance Corporation
federal U.S. Government
FHLB Federal Home Loan Bank
FICO Financing Corporation
GAAP Generally accepted accounting principles
GPA Guam Power Authority
HCPC Hilo Coast Power Company, formerly Hilo Coast Processing Company
HECO Hawaiian Electric Company, Inc., a wholly owned electric utility subsidiary of
Hawaiian Electric Industries, Inc. and parent company of Maui Electric Company,
Limited, Hawaii Electric Light Company, Inc., HECO Capital Trust I and HECO Capital
Trust II
HEI Hawaiian Electric Industries, Inc., direct parent company of Hawaiian Electric
Company, Inc., HEI Investment Corp., Hawaiian Tug & Barge Corp., HEI Diversified,
Inc., Pacific Energy Conservation Services, Inc., HEI Power Corp., HEI District
Cooling, Inc., ProVision Technologies, Inc., Hycap Management, Inc., Hawaiian
Electric Industries Capital Trust I, Hawaiian Electric Industries Capital Trust II,
Hawaiian Electric Industries Capital Trust III and Malama Pacific Corp.
HEIDI HEI Diversified, Inc., a wholly owned subsidiary of Hawaiian Electric Industries,
Inc. and the parent company of American Savings Bank, F.S.B. and HEIDI Real Estate
Corp.
HEIIC HEI Investment Corp., a wholly owned subsidiary of Hawaiian Electric Industries, Inc.
HEIPC HEI Power Corp., a wholly owned subsidiary of Hawaiian Electric Industries, Inc.,
and the parent company of several subsidiaries
HEIPC
Group HEI Power Corp. and its subsidiaries
HELCO Hawaii Electric Light Company, Inc., a wholly owned electric utility subsidiary of
Hawaiian Electric Company, Inc.
HPG HEI Power Corp. Guam, a wholly owned subsidiary of HEI Power Corp.
iii
GLOSSARY OF TERMS, continued
Terms Definitions
- ----- -----------
HTB Hawaiian Tug & Barge Corp., a wholly owned subsidiary of Hawaiian Electric
Industries, Inc. and parent company of Young Brothers, Limited
IPP Independent power producer
KCP Kawaihae Cogeneration Partners
KWH Kilowatthour
MECO Maui Electric Company, Limited, a wholly owned electric utility subsidiary of
Hawaiian Electric Company, Inc.
MPC Malama Pacific Corp., a wholly owned subsidiary of Hawaiian Electric Industries,
Inc. and parent company of several real estate subsidiaries. On September 14, 1998,
the HEI Board of Directors adopted a plan to exit the residential real estate
development business engaged in by Malama Pacific Corp. and its subsidiaries.
MW Megawatt
NOV Notice of Violation
OTS Office of Thrift Supervision, Department of Treasury
PSD permit Prevention of Significant Deterioration/Covered Source permit
PUC Public Utilities Commission of the State of Hawaii
REIT Real estate investment trust
ROACE Return on average common equity
SAIF Savings Association Insurance Fund
SEC Securities and Exchange Commission
SFAS Statement of Financial Accounting Standards
UST Underground storage tank
YB Young Brothers, Limited, a wholly owned subsidiary of Hawaiian Tug & Barge Corp.
iv
Forward-looking information
This report and other presentations made by Hawaiian Electric Industries, Inc.
(HEI) and its subsidiaries contain forward-looking statements within the meaning
of Section 21E of the Securities Exchange Act of 1934. Except for historical
information contained herein, the matters set forth are forward-looking
statements that involve certain risks and uncertainties that could cause actual
results to differ materially from those in the forward-looking statements.
Potential risks and uncertainties include, but are not limited to, such factors
as the effect of international, national and local economic conditions,
including the condition of the Hawaii tourist and construction industries and
the Hawaii housing market; the effects of weather and natural disasters; product
demand and market acceptance risks; increasing competition in the electric
utility industry; capacity and supply constraints or difficulties; new
technological developments; governmental and regulatory actions, including
decisions in rate cases and on permitting issues; the results of financing
efforts; the timing and extent of changes in interest rates and foreign currency
exchange rates; the convertibility and availability of foreign currency;
political and business risks inherent in doing business in developing countries;
and the risks associated with the installation of new computer systems and the
avoidance of Year 2000 problems. Investors are also referred to other risks and
uncertainties discussed elsewhere in this report and in other periodic reports
previously and subsequently filed by HEI and/or Hawaiian Electric Company, Inc.
(HECO) with the Securities and Exchange Commission.
v
PART I - FINANCIAL INFORMATION
- -------------------------------------------------------------------------------
Item 1. Financial statements
- -----------------------------
Hawaiian Electric Industries, Inc. and subsidiaries
Consolidated balance sheets (unaudited)
March 31, December 31,
(in thousands) 1999 1998
- -------------------------------------------------------------------------------------------------------------------
Assets
- ------
Cash and equivalents............................................ $ 164,930 $ 412,254
Accounts receivable and unbilled revenues, net.................. 144,241 156,220
Investment and mortgage-backed securities....................... 1,960,663 1,902,927
Loans receivable, net........................................... 3,186,092 3,143,197
Property, plant and equipment, net of accumulated
depreciation and amortization of $1,091,533 and $1,063,023... 2,087,751 2,093,398
Regulatory assets............................................... 111,951 110,459
Other........................................................... 270,107 265,799
Goodwill and other intangibles.................................. 112,939 115,006
------------------ -------------------
$8,038,674 $8,199,260
================== ===================
Liabilities and stockholders' equity
- ------------------------------------
Liabilities
Accounts payable................................................ $ 112,974 $ 107,863
Deposit liabilities............................................. 3,816,271 3,865,736
Short-term borrowings........................................... 242,113 222,847
Securities sold under agreements to repurchase.................. 461,270 515,330
Advances from Federal Home Loan Bank............................ 807,581 805,581
Long-term debt.................................................. 903,232 899,598
Deferred income taxes........................................... 186,005 186,138
Contributions in aid of construction............................ 200,299 198,904
Other........................................................... 241,480 285,243
------------------ -------------------
6,971,225 7,087,240
------------------ -------------------
HEI- and HECO-obligated preferred securities of
trust subsidiaries directly or indirectly holding solely HEI
and HEI-guaranteed and HECO and HECO-guaranteed
subordinated debentures..................................... 200,000 200,000
Preferred stock of electric utility subsidiaries
Subject to mandatory redemption............................. - 33,080
Not subject to mandatory redemption......................... 34,293 48,293
Minority interests.............................................. 3,628 3,675
------------------ -------------------
237,921 285,048
------------------ -------------------
Stockholders' equity
Preferred stock, no par value, authorized 10,000 shares;
issued: none............................................... - -
Common stock, no par value, authorized 100,000 shares; issued
and outstanding: 32,176 shares and 32,116 shares............ 663,471 661,720
Retained earnings............................................... 166,057 165,252
------------------ -------------------
829,528 826,972
------------------ -------------------
$8,038,674 $8,199,260
================== ===================
See accompanying notes to consolidated financial statements.
1
Hawaiian Electric Industries, Inc. and subsidiaries
Consolidated statements of income (unaudited)
Three months ended March 31,
(in thousands, except per share amounts and -------------------------------------
ratio of earnings to fixed charges) 1999 1998
- -----------------------------------------------------------------------------------------------------------------
Revenues
Electric utility..................................................... $237,791 $258,262
Savings bank......................................................... 100,280 101,827
Other................................................................ 14,176 14,769
-------------- -----------------
352,247 374,858
-------------- -----------------
Expenses
Electric utility..................................................... 196,890 215,701
Savings bank......................................................... 85,149 85,776
Other................................................................ 16,176 16,920
-------------- -----------------
298,215 318,397
-------------- -----------------
Operating income (loss)
Electric utility..................................................... 40,901 42,561
Savings bank......................................................... 15,131 16,051
Other................................................................ (2,000) (2,151)
-------------- -----------------
54,032 56,461
-------------- -----------------
Interest expense--electric utility and other......................... (17,888) (17,609)
Allowance for borrowed funds used during construction................ 640 1,616
Preferred stock dividends of electric utility subsidiaries........... (627) (1,508)
Preferred securities distributions of trust subsidiaries............. (3,999) (3,096)
Allowance for equity funds used during construction.................. 1,039 2,776
-------------- -----------------
Income from continuing operations before income taxes................ 33,197 38,640
Income taxes......................................................... 12,443 15,821
-------------- -----------------
Income from continuing operations.................................... 20,754 22,819
Loss from discontinued operations - loss from operations
(less applicable income tax benefits of $379 in 1998)............. - (596)
-------------- -----------------
Net income........................................................... $ 20,754 $ 22,223
============== =================
Basic earnings (loss) per common share
Continuing operations............................................. $ 0.65 $ 0.72
Discontinued operations........................................... - (0.02)
-------------- -----------------
$ 0.65 $ 0.70
============== =================
Diluted earnings (loss) per common share............................. $ 0.64 $ 0.71
Continuing operations............................................. - (0.02)
-------------- -----------------
Discontinued operations........................................... $ 0.64 $ 0.69
============== =================
Dividends per common share............................................ $ 0.62 $ 0.62
============== =================
Weighted-average number of common shares outstanding................. 32,153 31,958
Dilutive effect of stock options and dividend equivalents......... 83 134
-------------- -----------------
Adjusted weighted-average shares..................................... 32,236 32,092
============== =================
Ratio of earnings to fixed charges (SEC method)
Excluding interest on ASB deposits.............................. 1.76 1.90
============== =================
Including interest on ASB deposits.............................. 1.43 1.48
============== =================
See accompanying notes to consolidated financial statements.
2
Hawaiian Electric Industries, Inc. and subsidiaries
Consolidated statements of retained earnings (unaudited)
Three months ended March 31,
-------------------------------------
(in thousands) 1999 1998
- -----------------------------------------------------------------------------------------------------------------
Retained earnings, beginning of period............................... $165,252 $159,862
Net income........................................................... 20,754 22,223
Common stock dividends............................................... (19,949) (19,826)
-------------- -----------------
Retained earnings, end of period..................................... $166,057 $162,259
============== =================
See accompanying notes to consolidated financial statements.
3
Hawaiian Electric Industries, Inc. and subsidiaries
Consolidated statements of cash flows (unaudited)
Three months ended
March 31,
------------------------------
(in thousands) 1999 1998
- ------------------------------------------------------------------------------------------------------------
Cash flows from operating activities
Income from continuing operations............................................. $ 20,754 $ 22,819
Adjustments to reconcile income from continuing operations to
net cash provided by continuing operating activities
Depreciation and amortization of property, plant and equipment.......... 27,190 24,611
Other amortization...................................................... 4,261 4,103
Provision for loan losses............................................... 2,920 2,924
Deferred income taxes................................................... (130) (1,601)
Allowance for equity funds used during construction..................... (1,039) (2,776)
Changes in assets and liabilities
Decrease in accounts receivable and unbilled revenues, net........ 11,979 5,846
Increase (decrease) in accounts payable........................... 5,111 (30,067)
Changes in other assets and liabilities........................... (53,665) 32,740
------------------------------
Net cash provided by continuing operating activities.......................... 17,381 58,599
------------------------------
Cash flows from investing activities
Held-to-maturity mortgage-backed securities purchased......................... (249,256) (132,625)
Principal repayments on held-to-maturity mortgage-backed securities........... 191,956 92,842
Loans receivable originated and purchased..................................... (208,096) (132,555)
Principal repayments on loans receivable...................................... 159,420 112,990
Capital expenditures.......................................................... (22,174) (32,011)
Cash paid to Bank of America, FSB for the purchase of loans receivable and
other assets, net of the assumption of deposit and other liabilities....... - (24,018)
Proceeds from loans returned to Bank of America, FSB.......................... - 26,864
Other......................................................................... 4,517 2,798
------------------------------
Net cash used in investing activities......................................... (123,633) (85,715)
------------------------------
Cash flows from financing activities
Net decrease in deposit liabilities........................................... (49,465) (52,940)
Net increase (decrease) in short-term borrowings with original maturities of
three months or less....................................................... 19,266 (37,514)
Proceeds from securities sold under agreements to repurchase.................. 132,000 284,000
Repurchase of securities sold under agreements to repurchase.................. (186,000) (235,000)
Proceeds from advances from Federal Home Loan Bank............................ 32,000 155,000
Principal payments on advances from Federal Home Loan Bank.................... (30,000) (156,000)
Proceeds from issuance of long-term debt...................................... 3,594 112,837
Repayment of long-term debt................................................... - (57,500)
Redemption of electric utility subsidiaries' preferred stock.................. (37,068) (2,400)
Net proceeds from issuance of common stock.................................... 2,162 4,332
Common stock dividends........................................................ (19,949) (19,826)
Preferred securities distributions of trust subsidiaries...................... (3,999) (3,096)
Other......................................................................... (3,613) (6,766)
------------------------------
Net cash used in financing activities......................................... (141,072) (14,873)
------------------------------
Net decrease in cash and equivalents.......................................... (247,324) (41,989)
Cash and equivalents, beginning of period..................................... 412,254 253,910
------------------------------
Cash and equivalents, end of period........................................... $ 164,930 $ 211,921
==============================
See accompanying notes to consolidated financial statements.
4
Hawaiian Electric Industries, Inc. and subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999 and 1998
(Unaudited)
- --------------------------------------------------------------------------------
(1) Basis of presentation
- -------------------------
The accompanying unaudited consolidated financial statements have been prepared
in conformity with generally accepted accounting principles (GAAP) for interim
financial information and with the instructions to Securities and Exchange
Commission (SEC) Form 10-Q and Article 10 of Regulation S-X. Accordingly, they
do not include all of the information and footnotes required by GAAP for
complete financial statements. In preparing the financial statements, management
is required to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities at
the date of the balance sheet and the reported amounts of revenues and expenses
for the period. Actual results could differ significantly from those estimates.
The accompanying unaudited consolidated financial statements should be read in
conjunction with the consolidated financial statements and the notes thereto
incorporated by reference in HEI's Annual Report on SEC Form 10-K for the year
ended December 31, 1998.
In the opinion of HEI's management, the accompanying unaudited consolidated
financial statements contain all material adjustments required by GAAP to
present fairly the Company's financial position as of March 31, 1999 and
December 31, 1998, and the results of its operations and its cash flows for the
three months ended March 31, 1999 and 1998. All such adjustments are of a normal
recurring nature, unless otherwise disclosed in this Form 10Q or other
referenced material. Results of operations for interim periods are not
necessarily indicative of results for the full year.
Certain reclassifications have been made to prior periods' consolidated
financial statements to conform to the 1999 presentation.
5
(2) Segment financial information
- ----------------------------------
Segment financial information was as follows:
Electric Savings Holding Elimi-
($ in thousands) utility bank Other companies nations Total
- ----------------------------------------------------------------------------------------------
Three months ended March 31, 1999
Revenues from external
customers................... 237,791 100,272 14,034 150 - 352,247
Intersegment revenues........ - 8 2,644 2,002 (4,654) -
-----------------------------------------------------------------
Revenues................. 237,791 100,280 16,678 2,152 (4,654) 352,247
=================================================================
Profit (loss)*............... 27,701 13,781 416 (8,701) - 33,197
Income taxes (benefit)....... 10,620 5,256 415 (3,848) - 12,443
-----------------------------------------------------------------
Income (loss) from
continuing operations. 17,081 8,525 1 (4,853) - 20,754
=================================================================
Three months ended March 31, 1998
Revenues from external
customers................... 258,262 101,820 14,711 65 - 374,858
Intersegment revenues........ - 7 2,616 2,036 (4,659) -
-----------------------------------------------------------------
Revenues................. 258,262 101,827 17,327 2,101 (4,659) 374,858
=================================================================
Profit (loss)*............... 32,278 14,701 343 (8,682) - 38,640
Income taxes (benefit)....... 13,016 6,341 598 (4,134) - 15,821
-----------------------------------------------------------------
Income (loss) from
continuing operations. 19,262 8,360 (255) (4,548) - 22,819
=================================================================
* Income before income taxes and discontinued operations.
Revenues attributed to foreign countries for the periods identified above were
not significant.
(3) Electric utility subsidiary
- --------------------------------
For Hawaiian Electric Company, Inc.'s consolidated financial information,
including its commitments and contingencies, see pages 11 through 23.
6
(4) Savings bank subsidiary
- ----------------------------
Selected consolidated financial information
American Savings Bank, F.S.B. and subsidiaries
Balance sheet data
March 31, December 31,
(in thousands) 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------
Assets
Cash and equivalents............................................................ $ 140,810 $ 352,566
Held-to-maturity investment securities.......................................... 112,876 111,574
Held-to-maturity mortgage-backed securities..................................... 1,847,787 1,791,353
Loans receivable, net........................................................... 3,186,092 3,143,197
Other........................................................................... 184,809 177,976
Goodwill and other intangibles.................................................. 112,939 115,006
--------------------- --------------------
$5,585,313 $5,691,672
===================== ====================
Liabilities and equity
Deposit liabilities............................................................. $3,816,271 $3,865,736
Securities sold under agreements to repurchase.................................. 461,270 515,330
Advances from Federal Home Loan Bank............................................ 807,581 805,581
Other........................................................................... 81,932 92,153
--------------------- --------------------
5,167,054 5,278,800
Minority interests.............................................................. 113 113
Preferred stock held by parent.................................................. 75,000 75,000
Common stock equity............................................................. 343,146 337,759
--------------------- --------------------
$5,585,313 $5,691,672
===================== ====================
American Savings Bank, F.S.B. and subsidiaries
Income statement data
Three months ended
March 31,
------------------------------------------------
(in thousands) 1999 1998
- ----------------------------------------------------------------------------------------------------------------------------------
Interest income................................................................... $ 92,947 $ 95,271
Interest expense.................................................................. 51,456 53,141
--------------------- ---------------------
Net interest income............................................................... 41,491 42,130
Provision for loan losses......................................................... (2,920) (2,924)
Other income...................................................................... 7,333 6,556
Operating, administrative and general expenses.................................... (30,773) (29,711)
--------------------- ---------------------
Operating income.................................................................. 15,131 16,051
Income taxes...................................................................... 5,256 6,341
--------------------- ---------------------
Income before preferred stock dividends........................................... 9,875 9,710
Preferred stock dividends......................................................... 1,350 1,350
--------------------- ---------------------
Net income........................................................................ $ 8,525 $ 8,360
===================== =====================
Deposit-insurance premiums
The Savings Association Insurance Fund (SAIF) insures the deposit accounts of
ASB and other thrifts. The Bank Insurance Fund (BIF) insures the deposit
accounts of commercial banks. The Federal Deposit Insurance Corporation (FDIC)
administers the SAIF and BIF.
7
In December 1996, the FDIC adopted a risk-based assessment schedule for SAIF
institutions, effective January 1, 1997, that was identical to the existing base
rate schedule for BIF institutions: zero to 27 cents per $100 of deposits.
Added to this base rate schedule through 1999 will be the assessment to fund the
Financing Corporation's (FICO's) interest obligations, which assessment was
initially set at 6.48 cents per $100 of deposits for SAIF institutions and 1.3
cents per $100 of deposits for BIF institutions (subject to quarterly
adjustment). In December 1997, ASB acquired BIF-assessable deposits as well as
SAIF-assessable deposits from Bank of America, FSB. As a "well-capitalized"
thrift, ASB's base deposit insurance premium effective for the March 31, 1999
quarterly payment is zero and its assessment for funding FICO interest payments
is 5.9 cents per $100 of SAIF-assessable deposits and 1.2 cents per $100 of BIF-
assessable deposits, on an annual basis, based on deposits as of December 31,
1998.
(5) Cash flows
- ---------------
Supplemental disclosures of cash flow information
Cash paid for interest (net of capitalized amounts) and income taxes was as
follows:
Three months ended
March 31,
---------------------------------------
(in thousands) 1999 1998
- ---------------------------------------------------------------------------------------------------------------------------
Interest (including interest paid by savings bank, but excluding interest paid on
nonrecourse debt on leveraged leases).............................................. $58,359 $60,083
================= =================
Income taxes........................................................................ $37,106 $ 3,239
================= =================
Supplemental disclosures of noncash activities
The allowance for equity funds used during construction, which was charged to
construction in progress as part of the cost of electric utility plant, amounted
to $1.0 million and $2.8 million for the three months ended March 31, 1999 and
1998, respectively.
(6) Accounting changes
- -----------------------
Costs of computer software developed or obtained for internal use and start-up
activities
In March 1998, the AICPA Accounting Standards Executive Committee issued
Statement of Position (SOP) 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use," which requires that certain costs,
including certain payroll and payroll-related costs, be capitalized and
amortized over the estimated useful life of the software. In April 1998, the
AICPA Accounting Standards Executive Committee issued SOP 98-5, "Reporting on
the Costs of Start-up Activities," which requires that costs of start-up
activities, including organization costs, be expensed as incurred. The
provisions of SOP 98-1 and SOP 98-5 are effective for fiscal years beginning
after December 15, 1998. The Company adopted SOP 98-1 and SOP 98-5 effective
January 1, 1999. The adoption of SOP 98-1 and SOP 98-5 did not have a material
effect on the Company's financial condition, results of operations or liquidity.
Derivative instruments and hedging activities
In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards for derivative instruments and hedging activities and requires that an
entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value. The
provisions of
8
SFAS No. 133 are effective for all fiscal quarters of fiscal years beginning
after June 15, 1999. The Company will adopt SFAS No. 133 on January 1, 2000 but
has not yet determined the impact of adoption.
(7) Commitments and contingencies
- ----------------------------------
Environmental regulation
In early 1995, the Department of Health of the State of Hawaii (DOH) initially
advised HECO, Hawaiian Tug & Barge Corp. (HTB), Young Brothers, Limited (YB) and
others that it was conducting an investigation to determine the nature and
extent of actual or potential releases of hazardous substances, oil, pollutants
or contaminants at or near Honolulu Harbor. The DOH issued letters in December
1995, indicating that it had identified a number of parties, including HECO, HTB
and YB, who appear to be potentially responsible for the contamination and/or to
operate their facilities upon contaminated land. The DOH met with these
identified parties in January 1996 and certain of the identified parties
(including HECO, Chevron Products Company, Equilon Enterprises LLC (formerly
Shell Oil Products Company), the State of Hawaii Department of Transportation
Harbors Division and others, but not including HTB and YB) formed a Technical
Work Group. Effective January 30, 1998, the Technical Work Group and the DOH
entered into a voluntary agreement and scope of work to determine the nature and
extent of any contamination, the responsible parties and appropriate remedial
actions.
On April 19, 1999, the Technical Work Group submitted to the DOH a "Data
Assimilation and Review" report, which presents the results of a study conducted
by a consultant to document environmental conditions in the Iwilei Unit of the
Honolulu Harbor study area related to potential petroleum impacts. The location
and sources (confirmed and potential) of petroleum releases were identified. The
Technical Work Group will later submit a report that will include the
identification and evaluation of potential hazardous areas, a preliminary risk
screening and recommendations for additional data gathering to allow an
assessment of the need for risk-based corrective action. Tentatively, it is
expected that this report will be submitted to the DOH in the third quarter of
1999.
Because the process for determining appropriate remedial and cleanup action, if
any, is at an early stage, management cannot predict at this time the costs of
further site analysis or future remediation and cleanup requirements, nor can it
estimate when such costs would be incurred. Certain of the costs incurred may be
claimed and covered under insurance policies, but such coverage is not
determinable at this time.
China project
In September 1998, HEI Power Corp. (HEIPC), through a wholly owned subsidiary's
80% ownership of a Mauritius Company, acquired an effective 60% interest in a
joint venture, Baotou Tianjiao Power Co., Ltd. (Tianjiao), formed to design,
construct, own, operate and manage a 200 megawatt (MW) coal-fired power plant to
be located inside Baotou Iron & Steel (Group) Co., Ltd.'s (BaoSteel's) complex
in Inner Mongolia, People's Republic of China. BaoSteel, a state-owned
enterprise and the fifth largest steel company in China, is a 25% partner in the
joint venture and will purchase all the electricity generated. Ownership of the
plant will be transferred, without charge, to BaoSteel in approximately 20
years. Construction has commenced and unit 1 is expected to be on line by the
end of 2000 and unit 2 six months thereafter. As of March 31, 1999, HEIPC and
its subsidiaries (the HEIPC Group) had invested approximately $17 million and
are committed to invest up to an additional $83 million toward the China
project.
HEI is currently arranging, on behalf of HEIPC, for the issuance by one or more
U.S. banks of standby letters of credit totaling up to approximately $64
million. The letters of credit are in support of the Tianjiao project and will
secure a portion of the payments that will be due to the project's construction
contractor upon the completion of each of the two units comprising the power
plant. The letters of credit will not shift the project's construction risk,
which remains with the contractor. It is anticipated that the letters will be
drawn against only if Tianjiao fails to pay after testing and acceptance of the
units.
9
(8) Discontinued operations--Malama Pacific Corp. (MPC)
- --------------------------------------------------------
On September 14, 1998, the HEI Board of Directors adopted a plan to exit the
residential real estate development business (engaged by MPC and its
subsidiaries) by September 1999. Accordingly, MPC management commenced a program
to sell all of MPC's real estate assets and investments and HEI reported MPC as
a discontinued operation in the Company's consolidated statements of income in
the third quarter of 1998.
Summary financial information for the discontinued operations of MPC is as
follows:
Three months ended
(in thousands) March 31, 1998
- ----------------------------------------------------------------------------------------------------------
Operations
Revenues.................................................................... $ 763
Operating loss.............................................................. $ (443)
Interest expense............................................................ (532)
Income tax benefits......................................................... 379
------------------------------
Loss from discontinued operations-loss from operations...................... $ (596)
==============================
Basic and diluted loss per common share..................................... $(0.02)
==============================
As of March 31, 1999, the remaining net assets of the discontinued residential
real estate development operations amounted to $24 million (included in "Other"
assets) and consisted primarily of real estate assets, receivables and deferred
tax assets, reduced by loans and accounts payable. The amounts that MPC will
ultimately realize from the sale of the real estate assets could differ
materially from the recorded amounts as of March 31, 1999. For the period from
September 14, 1998 to March 31, 1999, the loss from operations was approximately
$2 million.
(9) Subsequent event - issuance of medium-term notes
- -----------------------------------------------------
On March 2, 1999, HEI filed a registration statement with the SEC to register
$300 million of Medium-Term Notes, Series C (Series C Notes). On May 5, 1999,
HEI sold $100 million of its Series C Notes, with $200 million of Series C Notes
remaining available for issuance from time to time. The $100 million of Series C
Notes sold have a fixed interest rate of 6.51% with a maturity date of May 5,
2014. At the option of the holder, HEI may be required to repay the notes on May
5, 2006 at a repayment price equal to 98.1% of the principal amount to be
repaid.
10
Hawaiian Electric Company, Inc. and subsidiaries
Consolidated balance sheets (unaudited)
March 31, December 31,
(in thousands, except par value) 1999 1998
- -------------------------------------------------------------------------------------------------------------------
Assets
Utility plant, at cost
Land.................................................................. $ 28,315 $ 30,312
Plant and equipment................................................... 2,767,668 2,750,487
Less accumulated depreciation......................................... (1,007,174) (982,172)
Plant acquisition adjustment, net..................................... 497 510
Construction in progress.............................................. 147,479 144,035
------------------- ------------------
Net utility plant............................................... 1,936,785 1,943,172
------------------- ------------------
Current assets
Cash and equivalents.................................................. 19,357 54,783
Customer accounts receivable, net..................................... 62,846 69,170
Accrued unbilled revenues, net........................................ 37,902 43,445
Other accounts receivable, net........................................ 5,850 4,082
Fuel oil stock, at average cost....................................... 11,405 16,778
Materials and supplies, at average cost............................... 18,694 17,266
Prepayments and other................................................. 3,558 3,858
------------------- ------------------
Total current assets............................................ 159,612 209,382
------------------- ------------------
Other assets
Regulatory assets..................................................... 109,874 108,344
Other................................................................. 48,877 50,355
------------------- ------------------
Total other assets.............................................. 158,751 158,699
------------------- ------------------
$ 2,255,148 $2,311,253
=================== ==================
Capitalization and liabilities
Capitalization
Common stock, $6 2/3 par value, authorized
50,000 shares; outstanding 12,806 shares........................... $ 85,387 $ 85,387
Premium on capital stock.............................................. 294,933 295,344
Retained earnings..................................................... 409,530 405,836
------------------- ------------------
Common stock equity............................................. 789,850 786,567
Cumulative preferred stock - not subject to mandatory redemption...... 34,293 34,293
HECO-obligated mandatorily redeemable preferred securities
of trust subsidiaries holding solely HECO and HECO-guaranteed
subordinated debentures............................................ 100,000 100,000
Long-term debt, net................................................... 625,632 621,998
------------------- ------------------
Total capitalization............................................ 1,549,775 1,542,858
------------------- ------------------
Current liabilities
Preferred stock sinking fund and optional redemption payments......... - 47,080
Short-term borrowings - nonaffiliates................................. 129,230 133,863
Short-term borrowings - affiliate..................................... - 5,550
Accounts payable...................................................... 37,672 40,008
Interest and preferred dividends payable.............................. 17,628 11,214
Taxes accrued......................................................... 42,429 58,335
Other................................................................. 32,351 30,166
------------------- ------------------
Total current liabilities....................................... 259,310 326,216
------------------- ------------------
Deferred credits and other liabilities
Deferred income taxes................................................. 128,523 128,327
Unamortized tax credits............................................... 48,128 48,130
Other................................................................. 69,113 66,818
------------------- ------------------
Total deferred credits and other liabilities.................... 245,764 243,275
------------------- ------------------
Contributions in aid of construction..................................... 200,299 198,904
------------------- ------------------
$ 2,255,148 $2,311,253
=================== ==================
See accompanying notes to HECO's consolidated financial statements.
11
Hawaiian Electric Company, Inc. and subsidiaries
Consolidated statements of income (unaudited)
Three months ended
March 31,
------------------------------------------
(in thousands, except for ratio of earnings to fixed charges) 1999 1998
- ---------------------------------------------------------------------------------------------------------------------
Operating revenues......................................................... $236,625 $256,043
------------------ ------------------
Operating expenses
Fuel oil................................................................... 44,878 56,731
Purchased power............................................................ 59,980 66,583
Other operation............................................................ 32,323 36,086
Maintenance................................................................ 13,305 10,364
Depreciation and amortization.............................................. 23,365 21,442
Taxes, other than income taxes............................................. 22,896 24,292
Income taxes............................................................... 10,668 13,002
------------------ ------------------
207,415 228,500
------------------ ------------------
Operating income........................................................... 29,210 27,543
------------------ ------------------
Other income
Allowance for equity funds used during construction........................ 1,039 2,776
Other, net................................................................. 1,071 2,002
------------------ ------------------
2,110 4,778
------------------ ------------------
Income before interest and other charges................................... 31,320 32,321
------------------ ------------------
Interest and other charges
Interest on long-term debt................................................. 9,911 10,178
Amortization of net bond premium and expense............................... 363 349
Other interest charges..................................................... 2,069 1,634
Allowance for borrowed funds used during construction...................... (640) (1,616)
Preferred stock dividends of subsidiaries.................................. 258 638
Preferred securities distributions of trust subsidiaries................... 1,909 1,006
------------------ ------------------
13,870 12,189
------------------ ------------------
Income before preferred stock dividends of HECO............................ 17,450 20,132
Preferred stock dividends of HECO.......................................... 369 870
------------------ ------------------
Net income for common stock................................................ $ 17,081 $ 19,262
================== ==================
Ratio of earnings to fixed charges (SEC method)............................ 2.85 3.19
================== ==================
Hawaiian Electric Company, Inc. and subsidiaries
Consolidated statements of retained earnings (unaudited)
Three months ended
March 31,
------------------------------------------
(in thousands) 1999 1998
- ---------------------------------------------------------------------------------------------------------------------
Retained earnings, beginning of period..................................... $405,836 $387,582
Net income for common stock................................................ 17,081 19,262
Common stock dividends..................................................... (13,387) (15,326)
------------------ ------------------
Retained earnings, end of period........................................... $409,530 $391,518
================== ==================
HEI owns all the common stock of HECO. Therefore, per share data with respect to shares of common stock of HECO are
not meaningful.
See accompanying notes to HECO's consolidated financial statements.
12
Hawaiian Electric Company, Inc. and subsidiaries
Consolidated statements of cash flows (unaudited)
Three months ended
March 31,
------------------------------------------
(in thousands) 1999 1998
- ---------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities
Income before preferred stock dividends of HECO............................ $ 17,450 $ 20,132
Adjustments to reconcile income before preferred stock dividends of HECO
to net cash provided by operating activities
Depreciation and amortization of property,
plant and equipment............................................... 23,365 21,442
Other amortization................................................... 1,650 1,873
Deferred income taxes................................................ 196 1,353
Tax credits, net..................................................... 396 1,276
Allowance for equity funds used during construction.................. (1,039) (2,776)
Changes in assets and liabilities
Decrease in accounts receivable................................. 4,556 4,024
Decrease in accrued unbilled revenues........................... 5,543 658
Decrease in fuel oil stock...................................... 5,373 8,832
Decrease (increase) in materials and supplies................... (1,428) 660
Increase in regulatory assets................................... (23) (2,991)
Decrease in accounts payable.................................... (2,336) (5,471)
Changes in other assets and liabilities......................... (11,851) (12,357)
------------------ ------------------
Net cash provided by operating activities.................................. 41,852 36,655
------------------ ------------------
Cash flows from investing activities
Capital expenditures....................................................... (17,592) (27,081)
Contributions in aid of construction....................................... 3,750 1,264
Payments on notes receivable............................................... 395 376
------------------ ------------------
Net cash used in investing activities...................................... (13,447) (25,441)
------------------ ------------------
Cash flows from financing activities
Common stock dividends..................................................... (13,387) (15,326)
Preferred stock dividends.................................................. (369) (870)
Preferred securities distributions of trust subsidiaries................... (1,909) (1,006)
Proceeds from issuance of long-term debt................................... 3,594 60,337
Repayment of long-term debt................................................ - (57,500)
Redemption of preferred stock.............................................. (37,068) (2,400)
Net increase (decrease) in short-term borrowings from nonaffiliates
and affiliate with original maturities of three months or less.......... (10,183) 9,190
Other...................................................................... (4,509) (1,082)
------------------ ------------------
Net cash used in financing activities...................................... (63,831) (8,657)
------------------ ------------------
Net increase (decrease) in cash and equivalents............................ (35,426) 2,557
Cash and equivalents, beginning of period.................................. 54,783 1,676
------------------ ------------------
Cash and equivalents, end of period........................................ $ 19,357 $ 4,233
================== ==================
See accompanying notes to HECO's consolidated financial statements.
13
Hawaiian Electric Company, Inc. and subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999 and 1998
(Unaudited)
- --------------------------------------------------------------------------------
(1) Basis of presentation
- --------------------------
The accompanying unaudited consolidated financial statements have been prepared
in conformity with GAAP for interim financial information and with the
instructions to SEC Form 10-Q and Article 10 of Regulation S-X. Accordingly,
they do not include all of the information and footnotes required by GAAP for
complete financial statements. In preparing the financial statements, management
is required to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities at
the date of the balance sheet and the reported amounts of revenues and expenses
for the period. Actual results could differ significantly from those estimates.
The accompanying unaudited consolidated financial statements should be read in
conjunction with the consolidated financial statements and the notes thereto
incorporated by reference in HECO's Annual Report on SEC Form 10-K for the year
ended December 31, 1998.
In the opinion of HECO's management, the accompanying unaudited consolidated
financial statements contain all material adjustments required by GAAP to
present fairly the financial position of HECO and its subsidiaries as of March
31, 1999 and December 31, 1998, and the results of their operations and cash
flows for the three months ended March 31, 1999 and 1998. All such adjustments
are of a normal recurring nature, unless otherwise disclosed in this Form 10-Q
or other referenced material. Results of operations for interim periods are not
necessarily indicative of results for the full year.
Certain reclassifications have been made to prior periods' consolidated
financial statements to conform to the 1999 presentation.
(2) Cash flows
- ---------------
Supplemental disclosures of cash flow information
Cash paid for interest (net of capitalized amounts) and income taxes was as
follows:
Three months ended
March 31,
-----------------------------------------
(in thousands) 1999 1998
- --------------------------------------------------------------------------------------------------------------------
Interest.............................................................. $4,459 $4,951
================== ==================
Income taxes.......................................................... $4,095 $ 296
================== ==================
Supplemental disclosure of noncash activities
The allowance for equity funds used during construction, which was charged to
construction in progress as part of the cost of electric utility plant, amounted
to $1.0 million and $2.8 million for the three months ended March 31, 1999 and
1998, respectively.
(3) Commitments and contingencies
- ----------------------------------
HELCO power situation
Background. In 1991, HELCO identified the need, beginning in 1994, for
- ----------
additional generation to provide for forecast load growth while maintaining a
satisfactory generation reserve margin, to address uncertainties about future
deliveries of power from existing firm power producers and to permit the
retirement of older generating units. Accordingly, HELCO proceeded with plans to
install at its Keahole power plant site two 20 MW combustion turbines (CT-4 and
CT-5), followed by an 18 MW heat
14
recovery steam generator (ST-7), at which time these units would be converted to
a 58 MW dual-train combined-cycle (DTCC) unit. In January 1994, the Public
Utilities Commission of the State of Hawaii (PUC) approved expenditures for CT-
4, which HELCO had planned to install in late 1994.
The timing of the installation of HELCO's phased DTCC unit at the Keahole power
plant site has been revised on several occasions due to delays in (a) obtaining
approval from the Hawaii Board of Land and Natural Resources (BLNR) of a
Conservation District Use Permit (CDUP) amendment and (b) obtaining from the
Department of Health of the State of Hawaii (DOH) and the U.S. Environmental
Protection Agency (EPA) a Prevention of Significant Deterioration/Covered Source
permit (PSD permit) for the Keahole power plant site. The delays are primarily
attributable to lawsuits, claims and petitions filed by independent power
producers and other parties. Subject to satisfactory resolution of the CDUP
amendment, PSD permit and other matters, HELCO's current plan continues to
contemplate that CT-4 and CT-5 will be added to its system. HELCO has deferred
plans for ST-7 to approximately 2006 or 2007, unless the Encogen Hawaii, L.P.
(Encogen) facility (described below) is not placed in service as planned, and,
in December 1998, removed ST-7 costs from construction work-in-progress as
described below.
CDUP amendment. On July 10, 1997, the Third Circuit Court of the State of Hawaii
- ---------------
issued its Amended Findings of Fact, Conclusions of Law, Decision and Order
addressing HELCO's appeal of an order of the BLNR, along with other consolidated
civil cases relating to HELCO's application for a CDUP amendment. This decision
allows HELCO to use its Keahole property as requested in its application. An
amended order to the same effect was issued on August 18, 1997. Final judgments
have been entered in all of the consolidated cases. Appeals with respect to the
final judgments for certain of the cases have been filed with the Hawaii Supreme
Court. Motions filed with the Third Circuit Court to stay the effectiveness of
the judgments pending resolution of the appeals were denied in April and July
1998 (in response to a motion for reconsideration). In August 1998, the Hawaii
Supreme Court denied nonhearing motions for stay of final judgment pending
resolution of the appeals. Management believes that HELCO will ultimately
prevail on appeal and that the final judgments of the Third Circuit Court will
be upheld.
PSD permit. In November 1995, the EPA declined to sign HELCO's PSD permit for
- ----------
the combined-cycle unit. HELCO revised its permit application and, in 1997, the
EPA approved a revised draft permit and the DOH issued a final PSD permit for
HELCO's DTCC unit. Nine appeals of the issuance of the permit were filed with
the EPA's Environmental Appeals Board (EAB) in December 1997.
On November 25, 1998, the EAB issued an Order Denying Review in Part and
Remanding in Part. The EAB denied appeals of the permit that were based on
challenges to (1) the DOH's use of a netting analysis (with respect to nitrogen
oxide (NOx) emissions), (2) the DOH's determination of Best Available Control
Technology (BACT) for control of sulfur dioxide emissions, and (3) certain
aspects of the DOH's ambient air and source impact analysis. However, the EAB
concluded that the DOH had not adequately responded to comments that had been
made during the public comment period that data relating to certain ambient air
concentrations were outdated or were measured at unrepresentative locations. The
EAB remanded the proceedings and directed the DOH to reopen the permit for the
limited purpose of (1) providing an updated air quality impact report
incorporating current data on sulfur dioxide and particulate matter ambient
concentrations and (2) providing a sufficient explanation of why the carbon
monoxide and ozone data used to support the permit are reasonably
representative, or performing a new air quality analysis based on data shown to
be representative of the air quality in the area to be affected by the project.
The EAB directed the DOH to accept and respond to public comments on the DOH's
decisions with respect to these issues and ruled that any further appeals of its
decision would be limited to the issues addressed on remand. On March 3, 1999,
the EAB issued an Order denying motions for reconsideration which had been filed
by HELCO, the Keahole Defense Coalition (KDC) and Kawaihae Cogeneration Partners
(KCP).
As a result of the EAB's decision on November 25, 1998 and its denial of all
motions for reconsideration on March 3, 1999, there has been a further delay in
HELCO's construction of CT-4 and CT-5. The actual length of the delay will
depend on the actions needed to address the EAB's rulings, but
15
completion of CT-4 and CT-5 is currently expected to be delayed until 2000 or
early 2001. HELCO continues to work with the DOH to address the EAB's concerns
regarding air quality data in the PSD permit application, with the intent of
reaching a final resolution as expeditiously as possible. Despite this
additional delay, HELCO believes that the PSD permit will eventually be
obtained, and CT-4 and CT-5 will be built.
Declaratory judgment actions. In February 1997, KDC and three individuals
- ----------------------------
(Plaintiffs) filed a lawsuit in the Third Circuit Court of the State of Hawaii
against HELCO, the director of the DOH, and the BLNR, seeking declaratory
rulings with regard to five counts alleging that, with regard to the Keahole
project, one or more of the defendants had violated, or could not allow the
plant to operate without violating, the State Clean Air Act, the State Noise
Pollution Act, conditions of HELCO's conditional use permit, covenants of
HELCO's land patent and Hawaii administrative rules regarding standard
conditions applicable to land permits. The Complaint was amended in March of
1998 to add a sixth count, claiming that an amendment to a provision of the land
patent (relating to the conditions under which the State could repurchase the
land) is void and that the original provision should be reinstated. Cross
motions for summary judgment were denied without explanation by orders filed in
March 1998. In December 1998, the case was set for jury trial in May 1999. As a
result of various motions which have been filed and ruled upon since that time,
on April 12, 1999, the Court ruled that, because there were no remaining issues
of fact in the case, the May 1999 trial date was vacated, no further discovery
was authorized, and proceedings before the Court were suspended pending any
further administrative action by the DOH and BLNR.
In summary, the status of the various counts in the KDC complaint are as
follows:
1. Count I (State Clean Air Act): On April 5, 1999, the Court orally ruled
that the DOH was within its discretionary authority in granting HELCO's
requests for additional extensions of time to file its Title V air permit
applications.
2. Count II (State Noise Pollution Act): At a hearing relating to Count II on
February 16, 1999, the DOH notified the Court and the parties of a change
in its interpretation of the noise rules promulgated under the State Noise
Pollution Act. The change in interpretation would disadvantage HELCO's
Keahole plant by applying the noise standard applicable to the emitter
property (which the DOH claims to be a 55 dBA (daytime) and 45 dBA
(nighttime) standard) rather than the previously-applied noise standard of
the receptor properties in the surrounding Agricultural Park (a 70 dBA
standard).
In response to the new position announced by the DOH, on February 23, 1999
HELCO filed a declaratory judgment action against the DOH, alleging that
the noise rules were invalid on constitutional grounds. At a hearing on
March 31, 1999, the Court granted KDC's motion to dismiss the new
complaint and Plaintiffs' motion for reconsideration on Count II and ruled
that the applicable noise standard was 55 dBA daytime and 45 dBA
nighttime. The Court specifically reserved ruling on HELCO's claims or
potential claims based on estoppel and on the constitutionality of the
noise rules "as applied" to HELCO's Keahole plant. Also on March 31, 1999,
the Court granted in part and denied in part HELCO's motion for leave to
file a cross-claim and a third-party complaint, stating that HELCO may
file such motions on the "as applied" and "estoppel" claims once the DOH
actually applies the 55/45 dBA noise standard to the Keahole plant.
The DOH has not yet issued any formal enforcement action applying the
55/45 dBA standard to the Keahole plant.
3. Count III (violation of CDUP): At a hearing on April 12, 1999, the Court
granted HELCO's motion for summary judgment and suspended proceedings on
this Count pending referral of this matter to BLNR. (Should DOH find HELCO
in violation of the noise rules (see Count II), BLNR would be called to
act on the impact of such violation, if any, on the CDUP.) Discovery on
this Count was suspended until May 3, 1999.
16
4. Count IV (violations of HELCO's land patent): At a hearing on April 12,
1999, the Court granted HELCO's motion for summary judgment and suspended
proceedings on this Count pending referral of this matter to BLNR. (Should
DOH find HELCO in violation of the noise rules (see Count II), BLNR would
be called to act on the impact of such violation, if any, on the land
patent.) Discovery on this Count was suspended until May 3, 1999.
5. Count V (HELCO's ability to comply with land use regulations): At a
hearing on April 12, 1999, the Court granted HELCO's motion for summary
judgment and suspended proceedings on this Count pending referral of this
matter to BLNR for resolution of the administrative proceeding now pending
before it. (See "BLNR petition," below.)
6. Count VI (amendment of HELCO's land patent): At the March 31, 1999
hearing, the Court granted Plaintiffs' motion for summary judgment,
finding that a 1984 amendment was invalid because BLNR had failed to
comply with the statutory procedure relating to amendments. The amendment
was intended to correct an error in the original land patent with regard
to the repurchase clause in the patent and to conform the language to the
applicable statute, under which the State would have the right to
repurchase the site (as opposed to an automatic reversion) if it were no
longer used for utility purposes. While the Count is no longer an issue
for trial, BLNR must address the status of the original land patent in
light of the invalidity of the amendment.
If and when the DOH and BLNR/ Department of Land and Natural Resources of the
State of Hawaii (DLNR) act on the issues relating to Counts II, III, IV and V,
and depending upon their rulings, the KDC lawsuit may be moot.
An Order was entered on April 16, 1999 with regard to Count I. With regard to
the other counts, draft orders have been circulated and various objections
filed, reflecting disagreements among the parties as to the intended meaning of
the Court's oral rulings. With regard to the KDC complaint, on April 30, 1999,
KDC filed a motion to determine prevailing party and to tax attorney fees and
costs and a motion for discovery sanctions. A hearing on these motions is
scheduled for June 7, 1999. With regard to the separate complaint brought by
HELCO against DOH, on April 30, 1999, KDC filed a motion for sanctions under
Rule 11 of the Hawaii Rules of Civil Procedure against HELCO and its legal
counsel for bringing the lawsuit. That motion is also scheduled for hearing on
June 7, 1999.
HELCO intends to vigorously defend against the claims raised in this case and in
related administrative actions and, based on the status of these matters to
date, management believes the final resolution of these matters will not prevent
it from constructing CT-4 and CT-5 at Keahole.
Two additional cases were filed in 1998. First, in March 1998, Plaintiff Ratliff
filed a complaint for declaratory judgment against HELCO, the BLNR and the DLNR.
The complaint alleges a violation of plaintiff's constitutional due process
rights because the land use conditions (if any) which apply to HELCO's use of
the Keahole site were determined administratively by the DLNR (through a letter
issued to HELCO on January 30, 1998) rather than being decided by the BLNR in a
contested case. Also filed with the complaint was a motion to stay enforcement
of the DLNR letter, which motion was denied in April 1998. Second, in May 1998,
Waimana Enterprises, whose subsidiary is a partner in KCP, filed a lawsuit in
the Third Circuit Court of the State of Hawaii, asking for a declaration that
the January 1998 DLNR letter is void and seeking an injunction to prevent HELCO
from further construction until the Court or the BLNR, at a public hearing,
determines what conditions and limitations apply and whether HELCO is in
compliance with them. At a hearing on February 8, 1999, the parties agreed, and
the Court orally ordered, the consolidation of the Ratliff lawsuit with the KDC
lawsuit and the dismissal with prejudice of the Waimana lawsuit. Ratliff filed a
motion for summary judgment with regard to the claims in her lawsuit and BLNR
and DLNR, joined by HELCO, also filed a motion for summary judgment in that
lawsuit. At the March 31, 1999 hearing, the Court granted the BLNR/DLNR motion
and HELCO's joinder, finding that the January 30, 1998 letter was a ministerial
function properly performed by DLNR.
17
IPP complaints. Two independent power producers (IPPs), KCP and Enserch
- --------------
Development Corporation (Enserch), filed separate complaints against HELCO with
the PUC in 1993 and 1994, respectively, alleging that they are entitled to power
purchase contracts to provide HELCO with additional capacity, which they claimed
would be a substitute for HELCO's planned 58 MW DTCC unit at Keahole.
In September 1995, the PUC allowed HELCO to continue to pursue construction of
and commit expenditures for the second combustion turbine (CT-5) and the steam
recovery generator (ST-7) for its planned DTCC unit, but stated in its order
that "no part of the project may be included in HELCO's rate base unless and
until the project is in fact installed, and is used and useful for utility
purposes." The PUC also ordered HELCO to continue negotiating with the IPPs and
held that the facility to be built (i.e., either HELCO's or one of the IPP's)
should be the one that can be most expeditiously put into service at "allowable
cost."
The current status of the IPPs' PUC complaints, and of a complaint filed by Hilo
Coast Power Company (HCPC) in April 1997, is as follows:
Enserch complaint. On January 16, 1998, HELCO filed with the PUC an
-----------------
application for approval of a power purchase agreement for a 60 MW (net)
facility and an interconnection agreement with Encogen, an Enserch
affiliate, both dated October 22, 1997. The agreements were entered into
following a settlement agreement between Enserch and HELCO and are subject
to PUC approval. The parties to the proceeding include HELCO, Encogen and
the Consumer Advocate. Motions to intervene filed by KCP, HCPC and one
other IPP were denied by the PUC. KCP filed a notice of appeal, which was
denied by the Hawaii Circuit Court of the First Circuit by written order
filed on February 8, 1999. The Consumer Advocate filed a Statement of
Position on December 11, 1998, in which it recommended that an evidentiary
hearing be held, following additional discovery, to address its issues and
concerns regarding the agreements. The parties signed an amendment to the
power purchase agreement on January 14, 1999 which, in part, provides that
either party may terminate the agreement if the PUC does not issue an order
within eighteen (18) months (extended from twelve (12) months originally in
the agreement) from the submission of the application. The PUC established
a schedule of proceedings in 1999 that provides the PUC with the
opportunity to issue a decision within the amendment's six-month extension
period, which ends on July 16, 1999. The parties have filed direct
testimonies, final information requests (FIRs) and responses to FIRs. On
April 9, 1999, HELCO filed a motion to strike certain portions of the
Consumer Advocate's direct testimony and exhibits relating to the amount of
AFUDC included in the avoided cost calculation for Encogen. On April 21,
1999, the PUC granted HELCO's motion to strike and, as a result, the
remaining issues among the parties were limited. On May 3, 1999, the
parties filed a stipulation stating that the Consumer Advocate withdraws
its opposition to the PUC's approval of HELCO's agreements with Encogen,
waiving the filing of rebuttal testimonies and exhibits and the holding of
evidentiary hearings, and requesting that the parties have the opportunity
to submit proposed findings of fact on May 25, 1999. The PUC approved the
stipulation on May 5, 1999.
KCP complaint. In January 1996, the PUC ordered HELCO to continue in good
-------------
faith to negotiate a power purchase agreement with KCP. In May 1997, KCP
filed a motion for unspecified "sanctions" against HELCO for allegedly
failing to negotiate in good faith. In June 1997, KCP filed a motion asking
the PUC to designate KCP's facility as the next generating unit on the
HELCO system and to determine the "allowable cost" which would be payable
by HELCO to KCP. HELCO filed memoranda in opposition to KCP's motions. The
PUC held an evidentiary hearing in August 1997. KCP filed two other
motions, which HELCO opposed, to supplement the record. The PUC issued an
Order in June 1998 which denied all of KCP's pending motions; provided
rulings and/or guidance on certain avoided cost and contract issues;
directed HELCO to prepare an updated avoided cost calculation that includes
the Encogen agreement; and directed HELCO and KCP to resume contract
negotiations. HELCO filed a motion for partial reconsideration with respect
to one avoided cost issue. The PUC granted HELCO's motion and
18
modified its order in July 1998. HELCO resumed negotiations with KCP in
1998 in compliance with the Order, but no agreement has been reached.
HCPC complaint. In April 1997, HCPC filed a complaint against HELCO with
--------------
the PUC, requesting an immediate hearing on HCPC's offer for a new 20-year
power purchase agreement for its existing facility, which is proposed to be
expanded from 22 MW to 32 MW. HCPC's existing power purchase agreement is
scheduled to terminate at the end of 1999. The PUC converted the HCPC
complaint into a purchased power contract negotiation proceeding. HCPC
submitted a new proposal in the proceeding in March 1998 for a 32-year
power purchase agreement. An evidentiary hearing, which was limited to
three issues affecting the calculation of avoided costs, including which of
HELCO's planned unit additions could be deferred or displaced by a new
power purchase agreement (PPA) with HCPC, was held in April 1998. On
November 25, 1998, the PUC issued a Decision and Order in the HCPC
complaint docket. The Decision and Order states that (1) "whether the next
immediate unit is ultimately provided by Encogen at Hamakua or HELCO at
Keahole, HCPC can negotiate to provide the increment of power following the
next immediate unit", and "HELCO's sunk and parallel planning costs for CT-
4 and CT-5 will not be part of the avoided cost calculation", and (2) the
reconductoring of a transmission line to accept HCPC's proposed 32 MWs
would be of system-wide benefit, and the cost would not be included in the
avoided cost calculation. The decision also addressed a system-modeling
issue, and required that the avoided cost calculation be based on the same
assumptions used in the last (April 1998) avoided cost calculation. The PUC
directed that HCPC and HELCO continue to negotiate a power purchase
agreement and by February 1, 1999 submit to the PUC either a finalized
agreement or reports informing the PUC of the matters preventing the
finalization of an agreement. The parties entered into negotiations but
have not yet finalized an agreement. Status reports were filed by HCPC on
February 1, 1999 and by HELCO on February 2, 1999 (HELCO had received a
one-day extension). In its status report, HELCO requested a hearing with
respect to the pricing and avoided cost issues. On February 24, 1999, the
PUC issued an Order reopening the docket to further assist HELCO and HCPC
in negotiating an agreement and giving each party an opportunity to file
supplemental memoranda by March 12, 1999. On March 8, 1999, HELCO filed a
Motion for Partial Reconsideration of the Order, stating that it would
waive its right to a hearing if it were allowed to present oral arguments
to the PUC. The PUC granted HELCO's motion, and oral arguments were held on
March 25, 1999.
Management cannot determine at this time whether the PUC will approve the
Encogen power purchase agreement or whether the negotiations with KCP or HCPC or
related PUC proceedings will result in the execution and/or PUC approval of a
power purchase agreement. Under HELCO's current estimate of generating capacity
requirements, there is a need for capacity in addition to the capacity which
might be provided by any one of the IPPs. Management cannot determine at this
time the impact on its plans with regard to the installation of units CT-4 and
CT-5 at the Keahole power plant site if power purchase agreements with two or
more of the IPPs were to be negotiated, approved by the PUC and implemented.
BLNR petition. On August 5, 1998, KDC filed with the BLNR a Petition for
- --------------
Declaratory Ruling under Section 91-8, Hawaii Revised Statutes. The petition
alleges that all conditions in Hawaii Administrative Rules Section 13-2-21 apply
to HELCO's default entitlement to use its Keahole site, that the letter issued
to HELCO by the DLNR in January 1998 was erroneous because it failed to
incorporate all conditions applicable to the existing permits, and that the DOH
issued three separate Notices of Violation (NOVs) to HELCO in 1992 and 1998 for
violation of clean air rules, which NOVs constitute violations under the
existing permits and render such permits null and void. The petition requests
that the BLNR commence a contested case on the petition; that the BLNR determine
that HELCO has violated the terms of its existing conditional use permits,
causing such permits to be null and void; and that the BLNR determine that HELCO
has violated the conditions applicable to its default entitlement, such that
HELCO should be enjoined from using the Keahole property under such default
entitlement. The BLNR requested that each of the parties submit statements of
position on the issues and HELCO filed its statement in October 1998. The last
of the responsive submissions of the parties was filed in December 1998. The
matter has not yet been set before BLNR for a determination of whether a hearing
will be held.
19
DOH Notice of Violation. In July 1998, the DOH issued an NOV to HELCO for items
- -----------------------
allegedly constituting unauthorized construction activity at the Keahole
Generating Station prior to receipt of an effective PSD permit for CT-4 and CT-
5. The NOV required HELCO to immediately halt construction activities on pipe
rack foundations, a retaining wall and an oil/water separator, and imposed a
fine of $48,800. HELCO complied with the stop work order on the designated items
and paid the fine.
EPA Notice of Violation. In September 1998, the EPA issued an NOV to HELCO
- -----------------------
stating that HELCO violated the Hawaii State Implementation Plan by commencing
construction activities at the Keahole generating station without first
obtaining a final air permit. By law, 30 days after the NOV, the EPA may issue
an order requiring compliance with applicable laws, assessing penalties and/or
commencing a civil action seeking an injunction; however, no order has yet been
issued. HELCO has put the EPA on notice that certain construction activities not
affected by the NOV are continuing, and has received approval to proceed with
certain construction activities. However, HELCO has halted work on other
construction activities at Keahole until further notice is provided or approval
is obtained from the EPA, or until the final air permit is received.
Costs incurred. Although management believes it has acted prudently with respect
- --------------
to this project, effective December 1, 1998, HELCO decided to discontinue, for
financial reporting purposes, the accrual of an Allowance For Funds Used During
Construction (AFUDC) on CT-4 and CT-5 (which would have been approximately $0.4
million after tax per month). The length of the delays to date and potential
further delays were factors considered by management in its decision to
discontinue the accrual of AFUDC.
HELCO determined that ST-7 would not be needed in the immediate future and, in
December 1998, removed $0.8 million in costs accumulated against ST-7 from
construction work-in-progress, writing off $0.6 million and reclassifying $0.2
million in costs to inventory.
If it becomes probable that CT-4 and/or CT-5 will not be installed, HELCO may be
required to write-off a material portion of the costs incurred in its efforts to
put these units into service. As of March 31, 1999, HELCO's costs incurred in
its efforts to put CT-4 and CT-5 into service amounted to $76.1 million,
including approximately $31.2 million for equipment and material purchases,
approximately $23.4 million for planning, engineering, permitting, site
development and other costs and approximately $21.5 million for AFUDC accrued
through November 30, 1998, after which HELCO stopped accruing AFUDC.
Contingency planning. In June 1995, HELCO filed with the PUC its generation
- --------------------
resource contingency plan detailing alternatives and mitigation measures to
address the delays that have occurred in obtaining the permits necessary to
construct its combined-cycle unit at Keahole. Actions under the plan have helped
HELCO maintain its reserve margin and reduce the risk of near-term capacity
shortages. In January 1996, the PUC opened a proceeding to evaluate HELCO's
contingency resource plan and HELCO's efforts to insure system reliability.
HELCO has filed reports with the PUC from time to time updating the contingency
plan and the status of implementing the plan. The most recent update was filed
on March 1, 1999. Due to the delays in adding new generation, and the expiration
of the HCPC power purchase agreement for 22 MW at the end of 1999, HELCO's
reserve margin (based on firm capacity without considering as-available
resources such as wind and run-of-the-river hydroelectric generators) in 2000
will be less than the margin called for by its generation planning criteria
until new generation is added. The addition of new generation is not expected to
occur until April 2000, at the earliest. As a result, HELCO will have sufficient
generation to cover projected monthly system peak loads with units on scheduled
maintenance, but may not always have enough reserve margin to make up for the
unexpected outage of one of its largest generation units beginning in January
2000 until new generation is added.
Competition proceeding
On December 30, 1996, the PUC instituted a proceeding to identify and examine
the issues surrounding electric competition and to determine the impact of
competition on the electric utility infrastructure in Hawaii. After a
collaborative process involving the 19 parties to the proceeding, final
statements of position were prepared by several of the parties and submitted to
the PUC in October 1998. HECO's
20
position is that retail competition is not feasible in Hawaii, but that some of
the benefits of competition can be achieved through competitive bidding for new
generation, performance-based rate-making and innovative pricing provisions. The
other parties to the proceeding advanced numerous other proposals in their
statements of position. The PUC will determine what subsequent steps will be
followed in the proceeding, but no timetable has been set for such a
determination. Some of the parties may seek state legislative action on their
proposals. HECO cannot predict what the ultimate outcome of the proceeding will
be or which (if any) of the proposals advanced in the proceeding will be
implemented.
Environmental regulation
See discussion of the DOH NOV and the EPA NOV issued to HELCO above and note
(7), "Commitments and contingencies," in HEI's "Notes to consolidated financial
statements."
(4) HECO-obligated mandatorily redeemable preferred securities of trust
- ------------------------------------------------------------------------
subsidiaries holding solely HECO and HECO-guaranteed subordinated
-----------------------------------------------------------------
debentures
----------
In March 1997, HECO Capital Trust I (Trust I), a grantor trust and a wholly
owned subsidiary of HECO, sold (i) in a public offering, 2 million of its HECO-
Obligated 8.05% Cumulative Quarterly Income Preferred Securities, Series 1997
(1997 trust preferred securities) with an aggregate liquidation preference of
$50 million and (ii) to HECO, common securities with a liquidation preference of
approximately $1.55 million. Proceeds from the sale of the 1997 trust preferred
securities and the common securities were used by Trust I to purchase 8.05%
Junior Subordinated Deferrable Interest Debentures, Series 1997 (1997 junior
deferrable debentures) issued by HECO in the principal amount of $31.55 million
and issued by each of MECO and HELCO in the respective principal amounts of $10
million. The 1997 junior deferrable debentures, which bear interest at 8.05%
and mature on March 27, 2027, together with the subsidiary guarantees (pursuant
to which the obligations of MECO and HELCO under their respective debentures are
fully and unconditionally guaranteed by HECO), are the sole assets of Trust I.
The 1997 trust preferred securities must be redeemed at the maturity of the
underlying debt on March 27, 2027, which maturity may be shortened to a date no
earlier than March 27, 2002 or extended to a date no later than March 27, 2046,
and are not redeemable at the option of the holders, but may be redeemed by
Trust I, in whole or in part, from time to time, on or after March 27, 2002 or
upon the occurrence of certain events.
In December 1998, HECO Capital Trust II (Trust II), a grantor trust and a wholly
owned subsidiary of HECO, sold (i) in a public offering, 2 million of its HECO-
Obligated 7.30% Cumulative Quarterly Income Preferred Securities, Series 1998
(1998 trust preferred securities) with an aggregate liquidation preference of
$50 million and (ii) to HECO, common securities with a liquidation preference of
approximately $1.55 million. Proceeds from the sale of the 1998 trust preferred
securities and the common securities were used by Trust II to purchase 7.30%
Junior Subordinated Deferrable Interest Debentures, Series 1998 (1998 junior
deferrable debentures) issued by HECO in the principal amount of $31.55 million
and issued by each of MECO and HELCO in the respective principal amounts of $10
million. The 1998 junior deferrable debentures, which bear interest at 7.30% and
mature on December 15, 2028, together with the subsidiary guarantees (pursuant
to which the obligations of MECO and HELCO under their respective debentures are
fully and unconditionally guaranteed by HECO), are the sole assets of Trust II.
The 1998 trust preferred securities must be redeemed at the maturity of the
underlying debt on December 15, 2028, which maturity may be shortened to a date
no earlier than December 15, 2003 or extended to a date no later than December
15, 2047, and are not redeemable at the option of the holders, but may be
redeemed by Trust II, in whole or in part, from time to time, on or after
December 15, 2003 or upon the occurrence of certain events. All of the proceeds
from the sale were invested by Trust II in the underlying debt securities of
HECO, HELCO and MECO, who used such proceeds from the sale of the 1998 junior
deferrable debentures primarily to effect the redemption of certain series of
their preferred stock having a total par value of $47 million.
The 1997 and 1998 junior deferrable debentures and the common securities of the
Trusts have been eliminated in HECO's consolidated balance sheets as of March
31, 1999 and December 31, 1998. The 1997 and 1998 junior deferrable debentures
are redeemable only (i) at the option of HECO, MECO and
21
HELCO, respectively, in whole or in part, on or after March 27, 2002 (1997
junior deferrable debentures) and December 15, 2003 (1998 junior deferrable
debentures) or (ii) at the option of HECO, in whole, upon the occurrence of a
"Special Event" (relating to certain changes in laws or regulations).
(5) Accounting changes
- -----------------------
Costs of computer software developed or obtained for internal use and start-up
activities
In March 1998, the AICPA Accounting Standards Executive Committee issued SOP 98-
1, "Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use," which requires that certain costs, including certain payroll and
payroll-related costs, be capitalized and amortized over the estimated useful
life of the software. In April 1998, the AICPA Accounting Standards Executive
Committee issued SOP 98-5, "Reporting on the Costs of Start-up Activities,"
which requires that costs of start-up activities, including organization costs,
be expensed as incurred. The provisions of SOP 98-1 and SOP 98-5 are effective
for fiscal years beginning after December 15, 1998. HECO and its subsidiaries
adopted SOP 98-1 and SOP 98-5 effective January 1, 1999. The adoption of SOP 98-
1 and SOP 98-5 did not have a material effect on HECO's consolidated financial
condition, results of operations or liquidity.
Derivative instruments and hedging activities
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards for derivative instruments and hedging activities and requires that an
entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value. The
provisions of SFAS No. 133 are effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. HECO and its subsidiaries will adopt SFAS No. 133
on January 1, 2000 but management has not yet determined the impact of adoption.
(6) Summarized financial information
- -------------------------------------
Summarized financial information for HECO's subsidiaries, HELCO and MECO, is as
follows:
Balance sheet data
HELCO MECO
------------------------------------ -------------------------------------
March 31, December 31, March 31, December 31,
(in thousands) 1999 1998 1999 1998
- ----------------------------------------------------------------------------------------------------------------------------
Current assets........................... $ 29,975 $ 35,473 $ 37,243 $ 41,103
Noncurrent assets........................ 423,047 424,278 388,380 382,517
--------------- ------------------ --------------- ------------------
$453,022 $459,751 $425,623 $423,620
=============== ================== =============== ==================
Common stock equity...................... $156,805 $157,269 $158,745 $157,402
Cumulative preferred stock--not subject
to mandatory redemption.............. 7,000 7,000 5,000 5,000
Current liabilities...................... 53,442 62,313 31,631 32,052
Noncurrent liabilities................... 235,775 233,169 230,247 229,166
--------------- ------------------ --------------- ------------------
$453,022 $459,751 $425,623 $423,620
=============== ================== =============== ==================
22
Income statement data
HELCO MECO
------------------------------------------ ----------------------------------
Three months ended Three months ended
March 31, March 31,
------------------------------------------ ----------------------------------
(in thousands) 1999 1998 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------
Operating revenues....................... $36,900 $38,775 $35,681 $35,730
Operating income......................... 5,445 4,566 5,020 4,701
Net income for common stock.............. 2,923 3,751 2,407 3,584
HECO has not provided separate financial statements and other disclosures
concerning MECO and HELCO because management has concluded that such financial
statements and other information are not material to holders of the 1997 and
1998 junior deferrable debentures issued by MECO and HELCO which have been fully
and unconditionally guaranteed by HECO.
(7) Reconciliation of electric utility operating income per HEI and HECO
- --------------------------------------------------------------------------
consolidated statements of income
---------------------------------
Three months ended
March 31,
--------------------------------------
(in thousands) 1999 1998
- -------------------------------------------------------------------------------------------------------------------
Operating income from regulated and nonregulated activities before income
taxes (per HEI consolidated statements of income)....................... $ 40,901 $ 42,561
Deduct:
Income taxes on regulated activities.................................... (10,668) (13,002)
Revenues from nonregulated activities................................... (1,166) (2,219)
Add:
Expenses from nonregulated activities................................... 143 203
---------------- ----------------
Operating income from regulated activities after income taxes (per HECO
consolidated statements of income)...................................... $ 29,210 $ 27,543
================ ================
23
Item 2. Management's discussion and analysis of financial condition and results
-----------------------------------------------------------------------
of operations
-------------
The following discussion should be read in conjunction with the consolidated
financial statements of HEI and HECO and accompanying notes.
RESULTS OF OPERATIONS
HEI Consolidated
- ----------------
Three months ended
March 31,
(in thousands, except per ------------------------------- % Primary reason(s) for
share amounts) 1999 1998 change significant change*
- -------------------------------------------------------------------------------------------------------------------------
Revenues........................ $352,247 $374,858 (6) Decrease for all segments
Operating income................ 54,032 56,461 (4) Decreases for the electric utility and
savings bank segments, partly offset by an
increase for the "other" segment
Net income (loss)
Continuing operations........ $ 20,754 $ 22,819 (9) Lower operating income and AFUDC and
higher preferred securities distributions,
partly offset by lower preferred stock
dividends (primarily due to the redemption
of several series in January 1999) and
lower income taxes**
Discontinued operations...... - (596) NM Discontinued operations of real estate
subsidiary in 1998
-----------------------------
$ 20,754 $ 22,223 (7)
=============================
Basic earnings
per common share.............
Continuing operations........ $ 0.65 $ 0.72 (10) See explanation for "net income
(loss)--continuing operations"
Discontinued operations...... - (0.02) NM See explanation for "net income
(loss)--discontinued operations"
-----------------------------
$ 0.65 $ 0.70 (7)
=============================
Weighted-average number of
common shares outstanding...... 32,153 31,958 1 Issuances under the 1987 Stock Option and
Incentive Plan and other plans
* Also see segment discussions which follow.
** Income taxes decreased primarily due to the lower operating income and the
impact of the formation of ASB Realty Corporation (see savings bank segment
discussion which follows).
NM Not meaningful.
24
Following is a general discussion of the results of operations by business
segment.
Electric utility
- ----------------
Three months ended
March 31,
(in thousands, except per -------------------------------------- % Primary reason(s) for significant
barrel amounts) 1999 1998 change change
- ---------------------------------------------------------------------------------------------------------------------------------
Revenues................... $237,791 $258,262 (8) Lower fuel oil prices, the effects of
which are passed on to customers ($20
million), partly offset by higher rates
at MECO and slightly higher KWH sales
Expenses
Fuel oil.................. 44,878 56,731 (21) Lower fuel oil prices, partly offset by
higher KWHs generated
Purchased power........... 59,980 66,583 (10) Lower fuel prices and KWHs purchased
Other..................... 92,032 92,387 - Lower other operation expenses and taxes,
other than income taxes, partly offset by
higher maintenance and depreciation and
amortization expenses
Operating income........... 40,901 42,561 (4) Higher maintenance and depreciation and
amortization expenses, partly offset by
lower other operation expenses (note:
lower revenues were offset by lower fuel
oil and purchased power expenses and
lower taxes, other than income taxes)
Net income................ 17,081 19,262 (11) Lower operating income and lower AFUDC
Kilowatthour sales
(millions).............. 2,135 2,127 -
Fuel oil price per barrel.. $16.94 $23.59 (28)
Kilowatthour (KWH) sales in the first quarter of 1999 increased 0.4% from the
same quarter in 1998, partly due to an increase in the number of customers and
warmer weather. However, Hawaii's slow economy continues to dampen KWH sales.
Although KWH sales were slightly higher, electric utility operating income
decreased 4% from first quarter 1998, primarily due to a 28% increase in
maintenance expenses, including a major scheduled combustion turbine overhaul, a
$0.8 million write-off at MECO (see "Recent rate requests--MECO" below) and a 9%
increase in depreciation and amortization expense as a result of additions to
plant in 1998, partly offset by a 10% decrease in other operation expenses,
primarily due to lower employee benefits expense.
25
Competition
The electric utility industry is becoming increasingly competitive. Independent
power producers (IPPs) are well established in Hawaii and continue to actively
pursue new projects. Customer self-generation, with or without cogeneration, has
made inroads in Hawaii and is a continuing competitive factor. Competition in
the generation sector in Hawaii is moderated, however, by the scarcity of
generation sites, various permitting processes and lack of interconnections to
other electric utilities. HECO has been able to compete successfully by offering
customers economic alternatives that, among other things, employ energy
efficient electrotechnologies such as the heat pump water heater.
Legislation has been introduced in Congress that would restructure the electric
utility industry with a view toward increasing competition by, for example,
allowing customers to choose their generation supplier. Some of the bills would
exempt Alaska and Hawaii. Also, the Department of Energy's proposed
"Comprehensive Electricity Competition Act", submitted to Congress in June 1998,
includes a provision that would permit states to "opt out" of the proposed
retail competition deadline of not later than January 1, 2003.
On December 30, 1996, the PUC instituted a proceeding to identify and examine
the issues surrounding electric competition and to determine the impact of
competition on the electric utility infrastructure in Hawaii. See note (3) in
HECO's "Notes to Consolidated Financial Statements." In their statement of
position (SOP), HECO and its subsidiaries proposed to achieve some of the
benefits of competition through proposals for (1) competitive bidding for new
generation, (2) performance-based ratemaking (which would include an index-based
price cap, an earnings sharing mechanism and a benchmark incentive plan) and (3)
innovative pricing provisions (including rate restructuring, expanded time-of-
use rates, customer migration rates such as standby charges, flexible pricing to
encourage economic development and to compete with customer generation options,
new service options and two-part rates incorporating real-time pricing). HECO
suggests in its SOP that these proposals be implemented through PUC approval of
applications submitted in a series of separate proceedings to be initiated by
HECO in 1999 and 2000. In May 1999, the PUC approved HECO's standard form
contract for customer retention, which allows HECO to provide an option for
customers who would otherwise reduce their energy use from HECO's system by
using energy from a nonutility generator. Based on HECO's current rates, the
standard form contract provides a 2.77% discount on base energy rates for "Large
Power" customers and an 11.27% discount on base energy rates for general service
demand customers.
PUC regulation of electric utility rates
The PUC has broad discretion in its regulation of the rates charged by HEI's
electric utility subsidiaries and in other matters. Any adverse decision and
order (D&O) by the PUC concerning the level or method of determining electric
utility rates, the authorized returns on equity or other matters, or any
prolonged delay in rendering a D&O in a rate or other proceeding, could have a
material adverse effect on the Company's financial condition and results of
operations. Upon a showing of probable entitlement, the PUC is required to issue
an interim D&O in a rate case within 10 months from the date of filing a
completed application if the evidentiary hearing is completed (subject to
extension for 30 days if the evidentiary hearing is not completed). There is no
time limit for rendering a final D&O. Interim rate increases are subject to
refund with interest, pending the final outcome of the case. Management cannot
predict with certainty when D&Os in pending or future rate cases will be
rendered or the amount of any interim or final rate increase that may be
granted.
Recent rate requests
HEI's electric utility subsidiaries initiate PUC proceedings from time to time
to request electric rate increases to cover rising operating costs, the cost of
purchased power and the cost of plant and equipment, including the cost of new
capital projects to maintain and improve service reliability. As of May 5, 1999,
the return on average common equity (ROACE) found by the PUC to be reasonable in
the most recent final rate decision for each utility was 11.4% for HECO (D&O
issued on December 11, 1995 and based on a 1995 test year), 11.65% for HELCO
(D&O issued on April 2, 1997
26
and based on a 1996 test year) and 10.94% for MECO (D&O issued on April 6, 1999
and based on a 1999 test year).
Hawaii Electric Light Company, Inc.
- -----------------------------------
In March 1998, HELCO filed a request to increase rates by 11.5%, or $17.3
million in annual revenues, based on a 1999 test year and a 12.5% ROACE,
primarily to recover costs relating to (1) an agreement, which is subject to PUC
approval, to buy power from Encogen's 60 MW plant and (2) adding two combustion
turbines (CT-4 and CT-5) at HELCO's Keahole power plant. Due to the EAB's denial
of HELCO's motion for reconsideration of the EAB's November 25, 1998 decision
(see "HELCO power situation--PSD permit" in note (3) to HECO's "Notes to
consolidated financial statements") and the delay in purchasing power from
Encogen, HELCO's test year 1999 rate increase application was withdrawn in March
1999. New applications are expected to be filed closer to the time when the new
generation facilities are expected to be completed.
Maui Electric Company, Limited
- ------------------------------
In January 1998, MECO filed a request with the PUC to increase rates by 15.3%,
or $22.4 million in annual revenues, based on a 12.75% ROACE and a 1999 test
year, primarily to recover the costs related to the addition of generating unit
M17 in late 1998. In November 1998, MECO revised its requested increase to
11.9%, or $16.4 million in annual revenues, based on a 12.75% ROACE. In December
1998, MECO received an interim D&O from the PUC, effective January 1, 1999,
authorizing an 8.5%, or $11.7 million, increase in annual revenues (subject to
refund with interest, pending the final outcome of the case), based on a ROACE
of 11.12%, which was the ROACE authorized in MECO's prior rate case.
In April 1999, MECO received an amended final D&O from the PUC which authorized
an 8.2%, or $11.3 million, increase in annual revenues, based on a 1999 test
year and a 10.94% ROACE. The amended final D&O required a refund to customers
because MECO had previously received under the interim D&O an interim increase
of $11.7 million in annual revenues, or $0.4 million annually in excess of the
amount that was finally approved. MECO will refund with interest the excess
amounts collected since January 1, 1999, which amounted to approximately $0.1
million.
In March 1999, the PUC issued a D&O denying MECO's request to include $0.8
million in its rate base for exhaust flow enhancers, which were provided as part
of a settlement for a warranty claim. MECO wrote-off the $0.8 million in the
first quarter of 1999.
27
Savings bank
- ------------
Three months ended
March 31,
------------------------------ %
(in thousands) 1999 1998 change Primary reason(s) for significant change
- ----------------------------------------------------------------------------------------------------------------------------------
Revenues................. $100,280 $101,827 (2) Lower interest income as a result of lower
weighted-average yields on interest-earning
assets and lower average balances of
mortgage-backed securities, partly offset
by higher average loan and investments
balances and higher other income
Operating income......... 15,131 16,051 (6) Lower net interest income and higher office
occupancy expenses (including rent and
depreciation), Year 2000 costs, goodwill
amortization and compensation and employee
benefit expenses
Net income............... 8,525 8,360 2 Lower operating income more than offset by
lower taxes
Interest rate spread..... 3.04% 3.21% (5) 42 basis points decrease in the
weighted-average yield on interest-earning
assets, partly offset by a 25 basis points
decrease in the weighted-average rate on
interest-bearing liabilities
ASB continued to be affected by Hawaii's weak economy, including the effects of
increased delinquencies, and the relatively flat yield curve. The yield curve
has started to widen which should be favorable for ASB's net interest income
over time.
ASB's interest rate spread--the difference between the weighted-average yield on
interest-earning assets and the weighted-average rate on interest-bearing
liabilities--decreased 5%. Comparing first quarter 1999 to the same period in
1998, the weighted-average yield on interest-earning assets decreased more than
the weighted-average rate on interest-bearing liabilities decreased.
Deposits traditionally have been the principal source of ASB's funds for use in
lending, meeting liquidity requirements and making investments. ASB experienced
an outflow of deposits of $77 million ($54 million of which were certificates of
deposits) in the first quarter of 1999, partly offset by $28 million of interest
credited to accounts. ASB also derives funds from borrowings, payments of
interest and principal on outstanding loans receivable and mortgage-backed
securities, and other sources. In recent years, advances from the Federal Home
Loan Bank (FHLB) of Seattle and securities sold under agreements to repurchase
have become more significant sources of funds as the demand for deposits
decreased due in part to increased competition from money market and mutual
funds. Using sources of funds with a higher cost than deposits, such as advances
from the FHLB, puts downward pressure on ASB's interest rate spread and net
interest income.
In the slow Hawaii economy, ASB has experienced an increase in nonaccrual loans
and loan loss reserves. During the first quarter of 1999, ASB added $2.9 million
to its allowance for loan losses. As of March 31, 1999, ASB's allowance for loan
losses was 1.29% of average loans outstanding. The following table presents the
changes in the allowance for loan losses for the periods indicated.
28
Three months ended
March 31,
------------------------------------
(in thousands) 1999 1998
- -----------------------------------------------------------------------------------------------------------------
Allowance for loan losses, beginning of quarter.............................. $39,779 $29,950
Additions to provisions for losses........................................... 2,920 2,924
Allowance for losses on loans returned to Bank of America, FSB............... - (98)
Net charge-offs.............................................................. (1,861) (579)
--------------- ---------------
Allowance for loan losses, end of quarter.................................... $40,838 $32,197
=============== ===============
In March 1998, ASB formed a wholly owned operating subsidiary, ASB Realty
Corporation (ASBR), which elects to be taxed as a real estate investment trust.
This reorganization has reduced ASB's income taxes. For the first quarter of
1999, ASB and subsidiaries' income taxes decreased 17% even though operating
income only decreased 6% when compared to the same period in 1998. Although
the State of Hawaii has indicated that it may challenge the tax treatment
of this reorganization, ASB believes that its tax position is proper.
Other
- -----
Three months ended
March 31,
--------------------------------------- %
(in thousands) 1999 1998 change Primary reason(s) for significant change
- -------------------------------------------------------------------------------------------------------------------------
Revenues......... $14,176 $14,769 (4) Freight transportation subsidiaries' lower
contract work, partly offset by higher
general freight revenues
Operating loss... (2,000) (2,151) 7 Lower expenses at the holding companies
The "other" business segment includes results of operations from Hawaiian Tug &
Barge Corp. and its subsidiary, Young Brothers, Limited, maritime freight
transportation companies; HEI Investment Corp., a company primarily holding
investments in leveraged leases; the HEIPC Group, companies formed to pursue
independent power and integrated energy services projects in Asia and the
Pacific; Pacific Energy Conservation Services, Inc., a contract services company
primarily providing windfarm operational and maintenance services to an
affiliated electric utility; HEI District Cooling, Inc., a company formed to
develop, build, own, operate and/or maintain central chilled water, cooling
system facilities, and other energy related products and services; ProVision
Technologies, Inc., a company formed to sell, install, operate and maintain on-
site power generation equipment and auxiliary appliances in Hawaii and the
Pacific Rim; Hawaiian Electric Industries Capital Trust I, HEI Preferred
Funding, LP and Hycap Management, Inc., companies formed primarily for the
purpose of effecting the issuance of 8.36% Trust Originated Preferred
Securities; HEI and HEI Diversified, Inc., holding companies; and eliminations
of intercompany transactions.
Freight transportation
The freight transportation subsidiaries recorded operating income of $0.6
million and $0.7 million in the first quarters of 1999 and 1998, respectively.
The decrease was primarily due to lower contract work revenues as the freight
transportation subsidiaries continued to be negatively impacted by the slow
economic activity on the neighbor islands and the slow construction industry in
Hawaii.
Independent power and integrated energy services
HEIPC was formed in 1995 and its subsidiaries have been and will be formed from
time to time to pursue independent power and integrated energy services projects
in Asia and the Pacific. HEIPC's consolidated operating loss in the first
quarters of 1999 and 1998 was $0.6 million.
29
In September 1996, HEI Power Corp. Guam (HPG), entered into an energy conversion
agreement for approximately 20 years with the Guam Power Authority (GPA),
pursuant to which HPG has repaired and is operating and maintaining two oil-
fired 25-MW (net) units at Tanguisson, Guam. In November 1996, HPG assumed
operational control of the Tanguisson facility. HPG's total cost to repair the
two units was $15 million. The GPA project site is contaminated with oil from
spills occurring prior to HPG's assuming operational control. HPG has agreed to
manage the operation and maintenance of GPA's waste oil recovery system at the
project site consistent with GPA's oil recovery plan as approved by the U.S.
Environmental Protection Agency. GPA, however, has agreed to indemnify and hold
HPG harmless from any pre-existing environmental liability.
In September 1998, HEIPC (through a wholly owned, indirect subsidiary) acquired
an effective 60% interest in a joint venture, Baotou Tianjiao Power Co., Ltd.,
formed to design, construct, own, operate and manage a 200 MW (nominal) coal-
fired power plant to be located inside Baotou Iron & Steel (Group) Co., Ltd.'s
(BaoSteel's) complex in Inner Mongolia, Peoples Republic of China. BaoSteel, a
state-owned enterprise and the fifth largest steel company in China, is a 25%
partner in the joint venture and will purchase all the electricity generated.
Ownership of the plant will be transferred, without charge, to BaoSteel in
approximately 20 years. Construction has commenced and unit 1 is expected to be
on line by the end of 2000 and unit 2 six months thereafter. The HEIPC Group has
committed to invest up to $100 million.
In December 1998, HEIPC (through a wholly owned, indirect subsidiary) invested
$7.6 million to acquire convertible cumulative nonparticipating 8% preferred
shares in Cagayan Electric Power & Light Co., Inc. (CEPALCO), an electric
distribution company in the Philippines. The acquisition is a strategic move
which puts the HEIPC Group in a position to participate in the eventual
privatization of the National Power Corporation and growth in the electric
distribution business in the Philippines. In May 1999, the HEIPC subsidiary also
signed a memorandum of agreement to acquire 5% of CEPALCO common stock for
approximately $2.2 million.
The HEIPC Group is actively pursuing other projects in Asia and the Pacific. The
success of any project undertaken by the HEIPC Group will be dependent on many
factors, including the economic, political, monetary, technological, regulatory
and logistical circumstances surrounding each project and the location of the
project. Due to political or regulatory actions or other circumstances, projects
may be delayed or even prohibited. There is no assurance that any project
undertaken by the HEIPC Group will be successfully completed or that the HEIPC
Group's investment in any such project will not be lost, in whole or in part.
See note (7) in HEI's "Notes to consolidated financial statements" for a
discussion of the HEIPC Group's commitment with respect to the China project.
The HEIPC Group is pursuing additional international projects that are subject
to approval by the HEIPC and HEI Boards of Directors.
Discontinued operations
See note (8) in HEI's "Notes to consolidated financial statements."
Accounting for the effects of certain types of regulation
- ---------------------------------------------------------
In accordance with SFAS No. 71, "Accounting for the Effects of Certain Types of
Regulation," the Company's financial statements reflect assets and costs of HECO
and its subsidiaries and YB based on current cost-based rate-making regulations.
Management believes HECO and its subsidiaries' and YB's operations currently
satisfy the SFAS No. 71 criteria. However, if events or circumstances should
change so that those criteria are no longer satisfied, management believes that
a material adverse effect on the Company's results of operations, financial
position or liquidity may result. As of March 31, 1999, HEI's and HECO's
consolidated regulatory assets amounted to $112 million and $110 million,
respectively.
30
Contingencies
- -------------
See note (7) in HEI's "Notes to consolidated financial statements" and note (3)
in HECO's "Notes to consolidated financial statements" for discussions of
contingencies.
Year 2000 issue
- ---------------
The following discussion includes numerous forward-looking statements. See
"Forward-looking information" on page v.
HEI consolidated
The Company is aware of the Year 2000 date issues associated with the practice
of encoding only the last two digits of four digit years in computer equipment,
software and devices with embedded technology. Year 2000 date issues, if not
properly addressed, may result in computer errors that could cause a disruption
of business operations. Further, the Company could be adversely impacted by Year
2000 date issues if suppliers, customers and other related businesses do not
address the issues successfully. HEI and subsidiary management have developed
Year 2000 programs and have teams in place that are actively assessing,
renovating, validating and implementing Year 2000 ready systems. All significant
computer-based systems are being included in the inventory and assessment
process. Priority is being given to systems that are considered mission or
business critical. HEI and each business unit have appointed a Year 2000 project
manager who provides periodic reporting to their respective senior management
and board of directors.
Both the electric utility and the savings bank segments are subject to external
oversight by their respective regulators. Although substantial effort is being
devoted to the Year 2000 issue, no absolute assurance can be given that the
Company will successfully avoid all problems that may arise. Further, no
absolute assurance can be given that the Year 2000 problems of other entities
will not have a material adverse impact on the Company's systems or results of
operations.
Costs. Management believes that the cost to remediate its systems to become
- ------
Year 2000 ready will not have a material adverse effect on the Company's
financial condition, results of operations or liquidity. The total cost of
initiatives undertaken primarily for Year 2000 remediation is estimated at $11.2
million, of which approximately $5.3 million has been incurred through March 31,
1999. The cost to remediate systems and the target dates provided below
represent management's best estimates at this time. These estimates are based on
information provided by various work units within the Company and external
parties such as vendors and business partners. Numerous assumptions have been
made regarding future dates, including the continued availability of internal
and external resources, third party remediation plans and the successful testing
of mission critical systems.
Electric utility
State of readiness. HECO and its subsidiaries have identified information
- -------------------
technology (IT) and non-IT systems which will require Year 2000 remediation
work. HECO has prioritized these systems by importance, business risk and Year
2000 exposure, allocating resources accordingly. Remediation work for each of
the systems includes an assessment phase, a renovation and validation phase and
an implementation phase. Overall, the assessment phase is substantially complete
for HECO's and its subsidiaries' systems and it is roughly estimated that 50% of
the renovation and validation phase has been completed as of March 31, 1999,
with lesser amounts of work completed on the implementation phase. The scheduled
completion date for each critical system is not later than September 1999.
In December 1998, HECO and its subsidiaries replaced the majority of their
business-critical applications with an integrated application suite that is
represented to be Year 2000 ready. The installation of an integrated application
suite has both simplified and lowered the cost of Year 2000 remediation efforts.
HECO and its subsidiaries have identified third parties with whom they have
significant business relationships and are corresponding with these vendors and
service providers to determine their Year
31
2000 readiness. Significant third parties include fuel suppliers, independent
power producers, financial institutions and large customers. 287 vendors have
been contacted and 87% have responded regarding their compliance. HECO has
formed an Oahu Power Partners Year 2000 Group to provide a forum to share
information among HECO, independent power producers and fuel suppliers. HECO has
contracted with two of its major vendors of power plant equipment for their
services in assessing, remediating and testing their installed control systems.
HECO and these vendors have completed remediation of nine of HECO's 15
generating units which could be affected by Year 2000 problems and have tested
six of the nine. By June 30, 1999, HECO expects to have remediated and tested
generating units with sufficient generating capacity to meet projected peak load
on Oahu on January 1, 2000. HELCO and MECO have remediated and tested generating
units with sufficient generating capacity to meet projected peak load on Hawaii
and Lanai, respectively, on January 1, 2000. And by mid-August 1999, MECO
expects to have remediated and tested generating units with sufficient
generating capacity to meet projected peak load on Maui and Molokai on January
1, 2000.
Costs. HECO management believes that the cost to remediate its systems to
- ------
become Year 2000 ready will not have a material adverse effect on HECO's
consolidated financial condition, results of operations or liquidity. The total
cost of initiatives undertaken primarily for Year 2000 remediation is estimated
at $4.3 million, of which $1.2 million has been incurred through March 31,
1999.
Risks. The Year 2000 remediation effort addresses two distinct areas of risk--
- ------
(1) electric systems, which deliver power to customers, and (2) business
systems, which handle data processing. Importantly, with respect to the electric
systems, neither the generation nor distribution systems are fully dependent on
automated control systems. Because HECO and its subsidiaries have the capability
to manually control the generation and dispatching of power and have some degree
of diversity and redundancy in their systems, HECO believes the most reasonably
likely worst case scenario would be brief, localized power outages and billing,
payment, collection and/or reporting errors or delays.
Contingency plans. Contingency plans in the event of a Year 2000 problem are
- ------------------
being developed for HECO and its subsidiaries. HECO and its subsidiaries will
have personnel on standby at midnight on December 31, 1999 and on other critical
dates in 1999 and 2000, as deemed necessary. Work crews will be able to manually
operate equipment, making a prolonged power outage unlikely.
Savings Bank
State of readiness. ASB and its subsidiaries follow guidelines provided by the
- -------------------
Office of Thrift Supervision (OTS), which require ASB to first renovate its
mission critical systems. ASB, in its assessment, identified IT and non-IT
mission critical systems requiring Year 2000 remediation work. IT systems
include outsourced and in-house mainframe systems and applications, licensed
vendor applications, ATMs, desktop applications and high speed check sorting.
ASB has prioritized these systems by importance, business risk, and Year 2000
exposure, allocating resources accordingly.
The OTS guidelines use a five-phase approach to Year 2000 issues--an awareness
phase, assessment phase, renovation phase, validation phase and implementation
phase. As of March 31, 1999, the assessment and renovation of ASB's internal
mission critical systems has been completed. Validation (92% complete) and
implementation (63% complete) are the focal points for ASB's remaining Year 2000
effort. As of March 31, 1999, ASB had substantially completed its internal
mission critical testing. Testing with business partners, service providers and
vendors is expected to be completed by June 30, 1999. ASB is targeting to
implement all renovated mission critical systems by June of 1999.
ASB and its subsidiaries identified third parties with whom they have
significant relationships including software-hardware systems providers, large
customers and a service bureau. ASB has implemented a Customer Impact Program
that monitors the activities of its large business and deposit customers. ASB
monitors its service and supply vendors for Year 2000 compliance and 352 of 426
vendors have responded that they are compliant or are making efforts to be
compliant by January 1, 2000. Adequate time is being factored into the planning
to allow movement to an alternative service provider or suppliers. ASB should
reach decisions on whether to continue doing business with current suppliers and
vendors by June 30, 1999.
Costs. The total cost of initiatives undertaken by ASB primarily for Year 2000
- ------
remediation is estimated at $6.1 million, of which approximately $3.6 million
has been incurred through March 31, 1999.
32
Risks. The Year 2000 remediation effort addresses various areas of risk,
- ------
primarily in ASB's business systems, including in-house applications, vendor
applications, service bureau applications and electronic banking. ASB believes
that the most likely worst case scenario would be a localized disruption of
customer services. ASB believes off-line processing at all branch sites is
feasible for up to five working days.
Contingency plans. ASB's overall contingency plan provides the broad steps that
- ------------------
ASB could take if entire systems or partial systems were lost. During 1998, ASB
engaged a consultant who assisted in the development of detailed contingency
plans for mission critical systems. ASB is using these contingency plans as
models to develop similar detailed plans for other departments. ASB's
contingency plans include implementing off-line or manual procedures,
implementing stand-in programs, activating the disaster recovery plan and
relocating certain operations to the recovery site. ASB will backup critical
reports and files prior to yearend 1999. Further, ASB and its subsidiaries will
have personnel on standby at midnight on December 31, 1999 and on other critical
dates in 1999 and 2000, as deemed necessary.
Accounting changes
- ------------------
See note (6) and note (5) in HEI's and HECO's respective "Notes to consolidated
financial statements."
FINANCIAL CONDITION
Liquidity and capital resources
- -------------------------------
The Company and consolidated HECO each believes that its ability to generate
cash, both internally from operations and externally from debt and equity
issues, is adequate to maintain sufficient liquidity to fund their respective
construction programs and investments and to satisfy debt and other cash
requirements in the foreseeable future.
The consolidated capital structure of HEI was as follows:
(in millions) March 31, 1999 December 31, 1998
- --------------------------------------------------------------------------------------------------------------------------
Short-term borrowings........................... $ 242 11% $ 223 10%
Long-term debt.................................. 903 41 900 40
HEI- and HECO-obligated preferred
securities of trust subsidiaries............. 200 9 200 9
Preferred stock of electric utility subsidiaries 34 2 81 4
Minority interests.............................. 4 - 4 -
Common stock equity............................. 830 37 827 37
--------------- ------------- -------------- -------------
$2,213 100% $2,235 100%
=============== ============= ============== =============
ASB's deposit liabilities, securities sold under agreements to repurchase and
advances from the FHLB are not included in the table above.
For the first three months of 1999, net cash provided by operating activities of
HEI consolidated was $17 million. Net cash used in investing activities was $124
million, largely due to ASB's origination of loans and purchase of mortgage-
backed securities, net of repayments, and HECO's consolidated capital
expenditures. Net cash used by financing activities was $141 million as a result
of several factors, including net decreases in securities sold under agreements
to repurchase and deposit liabilities, the redemption of certain series of the
electric utilities subsidiaries' preferred stock and the payment of common stock
dividends and trust preferred securities distributions, partly offset by net
increases in short-term borrowings and long-term debt.
Total HEI consolidated financing requirements for 1999 through 2003, including
net capital expenditures (which exclude the AFUDC and capital expenditures
funded by third-party cash
33
contributions in aid of construction), long-term debt retirements (excluding
repayments of advances from the FHLB of Seattle and securities sold under
agreements to repurchase) and preferred stock retirements, are estimated to
total $1.2 billion. Of this amount, approximately $0.8 billion is for net
capital expenditures (mostly relating to the electric utilities' net capital
expenditures described below). HEI's consolidated internal sources, after the
payment of HEI dividends, are expected to provide approximately 55% of the
consolidated financing requirements, with debt financing providing the remaining
requirements. Additional debt and equity financing may be required to fund
activities not included in the 1999-2003 forecast, such as the development of
additional independent power projects by the HEIPC Group in Asia and the
Pacific, or to fund changes in requirements, such as increases in the amount of
or an acceleration of capital expenditures of the electric utilities.
See note (9) in HEI's "Notes to consolidated financial statements" for a
description of the medium-term notes issued in May 1999.
Following is a discussion of the liquidity and capital resources of HEI's
largest segments.
Electric utility
HECO's consolidated capital structure was as follows:
(in millions) March 31, 1999 December 31, 1998
- ------------------------------------------------------------------------------------------------------------------------
Short-term borrowings from nonaffiliates
and affiliate.............................. $ 129 8% $ 139 8%
Long-term debt.............................. 626 37 622 36
HECO-obligated preferred securities of
trust subsidiaries......................... 100 6 100 6
Preferred stock............................. 34 2 81 5
Common stock equity......................... 790 47 787 45
---------------- ------------- --------------- ------------
$1,679 100% $1,729 100%
================ ============= =============== ============
Operating activities provided $42 million in net cash during the first quarter
of 1999. Investing activities used net cash of $13 million, primarily for
capital expenditures. Financing activities used net cash of $64 million,
including $16 million for the payment of common and preferred dividends and
preferred securities distributions, $37 million for preferred stock redemptions
and $10 million for the repayment of short-term borrowings, partially offset by
a $4 million net increase in long-term debt.
The electric utilities' consolidated financing requirements for 1999 through
2003, including net capital expenditures, long-term debt retirements and
preferred stock retirements, are estimated to total $660 million. HECO's
consolidated internal sources, after the payment of common stock and preferred
stock dividends, are expected to provide approximately 78% of the consolidated
financing requirements, with debt and equity financing providing the remaining
requirements. As of March 31, 1999, $26 million of proceeds from previous sales
by the Department of Budget and Finance of the State of Hawaii of special
purpose revenue bonds issued for the benefit of HECO, MECO and HELCO remain
undrawn. Also as of March 31, 1999, an additional $88 million of special purpose
revenue bonds were authorized by the Hawaii Legislature for issuance for the
benefit of HECO and MECO prior to the end of 1999 and an additional $100 million
of revenue bonds were authorized for issuance for the benefit of HECO and HELCO
prior to the end of 2003. HECO estimates that it will require approximately $28
million in new common equity, in addition to retained earnings, over the five-
year period 1999 through 2003. The PUC must approve issuances of long-term debt
and equity securities by HECO, HELCO and MECO.
Capital expenditures include the costs of projects which are required to meet
expected load growth, to improve reliability and to replace and upgrade existing
equipment. Net capital expenditures for the five-year period 1999 through 2003
are currently estimated to total $608 million. Approximately 75% of forecast
gross capital expenditures, which includes the allowance for funds used during
construction and
34
capital expenditures funded by third-party cash contributions in aid of
construction, is for transmission and distribution projects, with the remaining
25% primarily for generation projects.
For 1999, electric utility net capital expenditures are estimated to be $142
million. Gross capital expenditures are estimated to be $157 million, comprised
of approximately $120 million for transmission and distribution projects,
approximately $12 million for new generation projects and approximately $25
million for general plant and existing generation projects. Drawdowns of
proceeds from previous and future sales of tax-exempt special purpose revenue
bonds, sales of common stock to HEI and the generation of funds from internal
sources are expected to provide the cash needed for the net capital
expenditures.
Management periodically reviews capital expenditure estimates and the timing of
construction projects. These estimates may change significantly as a result of
many considerations, including changes in economic conditions, changes in
forecasts of KWH sales and peak load, the availability of purchased power, the
availability of generating sites and transmission and distribution corridors,
the ability to obtain adequate and timely rate increases, escalation in
construction costs, demand-side management programs and requirements of
environmental and other regulatory and permitting authorities.
Savings bank
March 31, December 31, %
(in millions) 1999 1998 change
- ------------------------------------------------------------------------------------------------------------------
Total assets....................................... $5,585 $5,692 (2)
Mortgage-backed securities......................... 1,848 1,791 3
Loans receivable, net.............................. 3,186 3,143 1
Deposit liabilities................................ 3,816 3,866 (1)
Securities sold under agreements to repurchase..... 461 515 (10)
Advances from Federal Home Loan Bank............... 808 806 -
As of March 31, 1999, ASB was the third largest financial institution in the
state based on total assets of $5.6 billion and deposits of $3.8 billion.
For the first quarter of 1999, net cash provided by ASB's operating activities
was $1 million. Net cash used in ASB's investing activities was $108 million,
due largely to the origination of loans and purchase of mortgage-backed
securities, net of repayments. Net cash used in financing activities was $105
million largely due to a net decrease of $54 million in securities sold under
agreements to repurchase, a net of decrease of $49 million in deposit
liabilities and $5 million in common and preferred stock dividends.
Minimum liquidity levels are currently governed by the regulations adopted by
the OTS. ASB was in compliance with OTS liquidity requirements as of March 31,
1999.
ASB believes that a satisfactory regulatory capital position provides a basis
for public confidence, affords protection to depositors, helps to ensure
continued access to capital markets on favorable terms and provides a foundation
for growth. As of March 31, 1999, ASB was in compliance with the OTS minimum
capital requirements (noted in parentheses) with a tangible capital ratio of
5.5% (1.5%), a core capital ratio of 5.6% (3.0%) and a risk-based capital ratio
of 12.4% (8.0%).
FDIC regulations restrict the ability of financial institutions that are not
"well-capitalized" to compete on the same terms as "well-capitalized"
institutions, such as by offering interest rates on deposits that are
significantly higher than the rates offered by competing institutions. As of
March 31, 1999, ASB was "well-capitalized" (ratio requirements noted in
parentheses) with a leverage ratio of 5.6% (5.0%), a Tier-1 risk-based ratio of
11.4% (6.0%) and a total risk-based ratio of 12.4% (10.0%).
Significant interstate banking legislation has been enacted at both the federal
and state levels. Under the federal Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994, a bank holding company may acquire control of a bank in
any state, subject to certain restrictions. Under state law, effective June 1,
1997, a bank chartered under state law may merge with an out-of-state bank and
convert all branches of both banks into branches of a single bank, subject to
certain restrictions. Although the
35
federal and state laws apply only to banks, such legislation may nonetheless
affect the competitive balance among banks, thrifts and other financial
institutions and the level of competition among financial institutions doing
business in Hawaii.
For a discussion of the unfavorable disparity in the Financing Corporation
assessment rates that ASB and other thrifts have paid in relation to the rates
that most commercial banks have paid, see note (4) in HEI's "Notes to
Consolidated Financial Statements." By law, the Financing Corporation's
assessment rate on deposits insured by the Bank Insurance Fund must be one-fifth
the rate on deposits insured by the Savings Association Insurance Fund until the
insurance funds are merged or until January 1, 2000, whichever occurs first, at
which time the FICO interest obligation for both banks and thrifts should
thereafter be identical, at a currently estimated rate of 2.4 cents per $100 of
deposits.
Certain legislative proposals advanced to eliminate thrift charters, if adopted,
could have a material adverse effect on the Company. For example, if thrift
charters were eliminated and ASB obtained a bank charter, HEI and its
subsidiaries might become subject to the restrictions on the permissible
activities of a bank holding company. While certain of the proposals that have
been advanced would "grandfather" the activities of existing savings and loan
holding companies such as HEI, management cannot predict whether or in what form
any of these proposals might ultimately be adopted nor the extent to which the
business of HEI or ASB might be affected.
Item 3. Quantitative and qualitative disclosures about market risk
- ------------------------------------------------------------------
The Company's results are impacted by ASB's ability to manage interest rate
risk. For quantitative and qualitative information about the Company's market
risks, see pages 39 to 41 of HEI's 1998 Annual Report to Stockholders.
U.S. Treasury yields at March 31, 1999 and December 31, 1998 were as follows:
(%) March 31, 1999 December 31, 1998
----- -------------- -----------------
3 month 4.47 4.46
1 year 4.70 4.52
5 year 5.10 4.54
10 year 5.23 4.65
30 year 5.62 5.09
As interest rates (as measured by U.S. Treasury yields) have increased between 1
and 58 basis points from December 31, 1998 to March 31, 1999, management
believes there was an unfavorable, but immaterial change between those dates in
the Company's quantitative disclosures of its interest-sensitive assets,
liabilities and off-balance sheet items.
PART II - OTHER INFORMATION
- --------------------------------------------------------------------------------
Item 1. Legal proceedings
- --------------------------
There are no significant developments in pending legal proceedings except as set
forth in HECO's "Notes to consolidated financial statements," and management's
discussion and analysis of financial condition and results of operations.
36
Item 4. Submission of matters to a vote of security holders
- ------------------------------------------------------------
HEI
The Annual Meeting of Stockholders of HEI was held on April 27, 1999. Proxies
for the meeting were solicited pursuant to Regulation 14A under the Securities
Exchange Act of 1934. As of February 17, 1999, the record date for the Annual
Meeting, there were 32,176,314 shares of common stock issued and outstanding and
entitled to vote. There was no solicitation in opposition to the management
nominees to the Board of Directors as listed in the proxy statement for the
meeting and such nominees were elected to the Board of Directors.
The results of the voting for the Class III director-nominees and the
independent auditor are as follows:
Shares of Common Stock
---------------------------------------------------------------------------------------
Broker
For Withheld Against Abstain nonvotes
------------- --------------- -------------- -------------- ---------------
Election of Class III Directors
Don E. Carroll 29,520,966 395,807 --
Richard Henderson 29,461,394 455,379 --
Bill D. Mills 29,499,643 417,130 --
Oswald K. Stender 28,967,774 948,999 --
Election of KPMG LLP
as independent auditor 29,478,940 209,173 228,660 --
Class I Directors--Robert F. Clarke, A. Maurice Myers and James K. Scott--
continue in office with terms ending at the 2000 Annual Meeting. Class II
Directors--Victor Hao Li, S.J.D., T. Michael May, Diane J. Plotts, Kelvin Taketa
and Jeffrey N. Watanabe--continue in office with terms ending at the 2001 Annual
Meeting.
HECO
The Annual Meeting of the Sole Stockholder of HECO was conducted by written
consent effective April 27, 1999. The incumbent members of the Board of
Directors of HECO were re-elected. The incumbent members continuing in office
are Robert F. Clarke, Richard Henderson, T. Michael May, Paul A. Oyer, Diane J.
Plotts, James K. Scott, Anne M. Takabuki, Jeffrey N. Watanabe and Paul C. Yuen.
In addition, KPMG LLP was elected independent auditor of HECO for the fiscal
year 1999.
Item 5. Other information
- --------------------------
A. MECO underground storage tank (UST)
In June 1998, the DOH conducted a UST inspection at MECO's Kahului transmission
and distribution baseyard. In July 1998, the DOH issued a Notice of Violation
for alleged deficiencies in compliance with UST requirements. Subsequently, with
the assistance of HECO's Environmental Department, MECO determined that its UST
was in compliance with UST requirements. A certification of compliance status
was submitted to the DOH on March 3, 1999.
37
B. Ratio of earnings to fixed charges
The following tables set forth the ratio of earnings to fixed charges for HEI
and its subsidiaries for the periods indicated:
Ratio of earnings to fixed charges excluding interest on ASB deposits
Three months Years ended December 31,
ended -------------------------------------------------------------------------------------------------
March 31, 1999 1998 1997 1996 1995 1994
- -------------------- ---------------- --------------- -------------- --------------- ----------------
1.76 1.85 1.89 1.93 2.02 2.31
==================== ================ =============== ============== =============== ================
Ratio of earnings to fixed charges including interest on ASB deposits
Three months Years ended December 31,
ended -------------------------------------------------------------------------------------------------
March 31, 1999 1998 1997 1996 1995 1994
- -------------------- ---------------- --------------- -------------- --------------- ----------------
1.43 1.47 1.58 1.56 1.60 1.73
==================== ================ =============== ============== =============== ================
For purposes of calculating the ratio of earnings to fixed charges, "earnings"
represent the sum of (i) pretax income from continuing operations (excluding
undistributed net income or net loss from less than fifty-percent-owned persons)
and (ii) fixed charges (as hereinafter defined, but excluding capitalized
interest). "Fixed charges" are calculated both excluding and including interest
on ASB's deposits during the applicable periods and represent the sum of (i)
interest, whether capitalized or expensed, but excluding interest on nonrecourse
debt from leveraged leases which is not included in interest expense in HEI's
consolidated statements of income, (ii) amortization of debt expense and
discount or premium related to any indebtedness, whether capitalized or
expensed, (iii) the interest factor in rental expense, (iv) the preferred stock
dividend requirements of HEI's subsidiaries, increased to an amount representing
the pretax earnings required to cover such dividend requirements and (v) the
preferred securities distribution requirements of trust subsidiaries.
The following table sets forth the ratio of earnings to fixed charges for HECO
and its subsidiaries for the periods indicated:
Ratio of earnings to fixed charges
Three months Years ended December 31,
ended -------------------------------------------------------------------------------------------------
March 31, 1999 1998 1997 1996 1995 1994
- -------------------- ---------------- --------------- -------------- --------------- ----------------
2.85 3.33 3.26 3.58 3.46 3.47
==================== ================ =============== ============== =============== ================
For purposes of calculating the ratio of earnings to fixed charges, "earnings"
represent the sum of (i) pretax income before preferred stock dividends of HECO
and (ii) fixed charges (as hereinafter defined, but excluding the allowance for
borrowed funds used during construction). "Fixed charges" represent the sum of
(i) interest, whether capitalized or expensed, incurred by HECO and its
subsidiaries, (ii) amortization of debt expense and discount or premium related
to any indebtedness, whether capitalized or expensed, (iii) the interest factor
in rental expense, (iv) the preferred stock dividend requirements of HELCO and
MECO, increased to an amount representing the pretax earnings required to cover
such dividend requirements and (v) the preferred securities distribution
requirements of the trust subsidiaries.
38
Item 6. Exhibits and reports on Form 8-K
- -----------------------------------------
(a) Exhibits
HEI Distribution Agreement dated April 27, 1999 between HEI and Merrill Lynch &
Exhibit 1 Co., Merrill Lynch, Pierce, Fenner & Smith Incorporated and Goldman, Sachs &
Co., as Agents
HEI Second Supplemental Indenture dated as of April 1, 1999 between HEI and
Exhibit 4.1 Citibank, N.A., as Trustee, to Indenture dated as of October 15, 1988 between
HEI and Citibank, N.A., as Trustee
HEI Hawaiian Electric Industries, Inc. and subsidiaries
Exhibit 12.1 Computation of ratio of earnings to fixed charges, three months ended
March 31, 1999 and 1998
HECO Hawaiian Electric Company, Inc. and subsidiaries
Exhibit 12.2 Computation of ratio of earnings to fixed charges, three months ended
March 31, 1999 and 1998
HEI Hawaiian Electric Industries, Inc. and subsidiaries
Exhibit 27.1 Financial Data Schedule
March 31, 1999 and three months ended March 31, 1999
HEI Hawaiian Electric Industries, Inc. and subsidiaries
Exhibit 27.1(a) Restated Financial Data Schedule
March 31, 1998 and three months ended March 31, 1998
HECO Hawaiian Electric Company, Inc. and subsidiaries
Exhibit 27.2 Financial Data Schedule
March 31, 1999 and three months ended March 31, 1999
HEI Letter dated May 7, 1999 from the Hawaiian Electric Industries, Inc. Pension
Exhibit 99.1 Investment Committee to Fidelity Investments Institutional Operations Company,
Inc. relating to Schedule "D" to the Hawaiian Electric Industries Retirement
Savings Plan Trust Agreement dated as of November 28, 1988, as amended, between
HEI and Fidelity Management Trust Company for incorporation by reference into
Registration Statement on Form S-8 (Registration No. 333-02103)
HEI Letter dated May 7, 1999 from the Hawaiian Electric Industries, Inc. Pension
Exhibit 99.2 Investment Committee to Fidelity Investments Institutional Operations Company,
Inc. relating to Schedule "E" to the Hawaiian Electric Industries Retirement
Savings Plan Trust Agreement dated as of November 28, 1988, as amended, between
HEI and Fidelity Management Trust Company for incorporation by reference into
Registration Statement on Form S-8 (Registration No. 333-02103)
39
(b) Reports on Form 8-K
Subsequent to December 31, 1998, HEI and/or HECO filed Current Reports, Forms 8-
K, with the SEC as follows:
Dated Registrant/s Items reported
- ----------------------------------------------------------------------------------------------------------------
December 4, 1998 HEI/HECO Item 5: HEI's January 19, 1999 news release reporting 1998
earnings, "HEIPC subsidiary makes strategic investment in the
Philippines," "HELCO power situation," "HELCO rate request," "MECO
rate request" and the "issuance of trust preferred securities and
redemption of preferred stock," and Item 7: the final form of
documents delivered in connection with the offer and sale of
HECO-Obligated 7.30% Cumulative Quarterly Income Preferred
Securities, Series 1998
February 23, 1999 HEI/HECO Item 7, portions of HEI's 1998 Annual Report to Stockholders and
HECO's 1998 Annual Report to Stockholder
April 26, 1999 HEI/HECO Item 5: HEI's April 27, 1999 news release reporting first quarter
1999 earnings, "HELCO power situation," "MECO rate request" and
"China project," and Item 7: "Computation of ratio of earnings to
fixed charges" and the "Consent of KPMG LLP in connection with the
Registration Statement on S-3 (Regis. No. 333-73225)"
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrants have duly caused this report to be signed on their behalf by the
undersigned, thereunto duly authorized. The signature of the undersigned
companies shall be deemed to relate only to matters having reference to such
companies and any subsidiaries thereof.
HAWAIIAN ELECTRIC INDUSTRIES, INC. HAWAIIAN ELECTRIC COMPANY, INC.
(Registrant) (Registrant)
By /s/ Curtis Y. Harada By /s/ Paul Oyer
---------------------------- -----------------------------
Curtis Y. Harada Paul A. Oyer
Controller Financial Vice President and
(Principal Accounting Officer Treasurer
of HEI) (Principal Financial Officer of HECO)
Date: May 10, 1999 Date: May 10, 1999
40