Good morning, and welcome to the Hawaiian Electric Industries, Inc. Third Quarter 2020 Earnings Call. All participants will be in a listen-only mode. [Operator Instructions] Please note, this event is being recorded. I would now, like to turn the conference over to Julie Smolinski, Director of Investor Relations. Please go ahead..

Thank you, Eli. Welcome, everyone to Hawaiian Electric Industries Third Quarter 2020 Earnings Call. Joining me today are Connie Lau, HEI President and CEO; Greg Hazelton, HEI Executive Vice President and CFO; Scott Seu, Hawaiian Electric President and CEO; Rich Wacker, American Savings Bank President and CEO and other members of senior management.

Our press release and presentation are posted in the Investor Relations section of our website. As a reminder, forward-looking statements will be made on today's call. Factors that could cause actual results to differ materially from expectations can be found in our presentation, our SEC filings and in the Investor Relations section of our website.

Now, Connie will begin with her remarks..

net income of $65 million and earnings per share of $0.59 compared to $63.4 million and earnings per share of $0.58 in the same quarter last year. I'll start with an update on the virus and economic conditions in Hawaii, before turning to an update on our companies. Then, Greg will review our financial results and outlook.

While there is still uncertainty, regarding the course of the virus and the timing of economic recovery, we've seen some positive signs. First, daily new COVID cases are down significantly from the surge we saw this summer.

The seven-day average of new cases is down to 92, with about a 2% positivity rate after a second stay-at-home order on Oahu, starting in late August. Oahu's local economy largely reopened in late September under a tiered framework. And since then, we've been able to move to the second tier, allowing more business activity.

On October 15, Hawaii's tourism sector reopened with a program allowing domestic travelers, with a negative COVID test to bypass the 14-day quarantine. Since then, we've seen an average of 5,600 arrivals per day, up from the roughly 2,000 a day that we saw before the 15th.

Starting today, this program also includes travelers from Japan, and Hawaii is working to extend it to other countries. While the tourism reopening is encouraging, the timing of a sustained reopening depends on how the virus plays out.

The federal government and military, our second largest economic driver, have maintained stability throughout the COVID period. Residential real estate values have also remained strong. Year-to-date September, Oahu single-family home prices were up 3.3%.

And compared to the month of September last year, Oahu single-family home prices were up more than 13%, driven by low inventory and low interest rates.

The latest forecast from the University of Hawaii Economic Research Organization, or UHERO, whose outlooks have informed our own estimates, projects Hawaii's economic recovery starting in 2021 and accelerating into 2022. Turning to our companies. Keeping customer rates down has been a central focus for our utility.

That began before the onset of COVID and remains a core priority. Fortunately, customers have seen some bill relief this year.

Lower fuel costs and a lower revenue balancing account component from higher-than-projected electricity sales last year meant that an Oahu residential customer using 500 kilowatt hours of electricity in October paid 13% less than in March. The commission has extended the suspension of disconnections for non-payment through year-end.

We continue working with customers on repayment options and connecting them with services to help them through this time, including with utility bills. Last month, the commission approved our settlement with the consumer advocate to not increase base rates in our Oahu rate case.

In approving the settlement, the commission maintained Hawaiian Electric's current allowed return on equity of 9.5% and 58% equity capitalization, lifted the 90% cap on Schofield generating station project cost recovery, ended the 2017 Rate case customer benefit adjustments, and deemed the enterprise resource planning system benefits commitment to be flowed through to customers as part of the zero base rate increase.

To help offset the lack of a base rate increase and deliver on our commitment to ramp up to $25 million in customer savings by year-end 2022, our utility is executing on its multiyear efficiency improvement program, which began earlier this year. While we pursue cost efficiencies, we're also pressing forward aggressively on our clean energy goals.

We're on track to exceed the 2020 RPS milestone of 30% for the year. Since the RPS calculation divides renewable energy by sales, lower sales, due to COVID temporarily pushed our RPS above 35% as of the second quarter. With electricity sales expected to increase in the fourth quarter, we expect RPS to moderate but still exceed 30% by year-end.

In the next few years, we anticipate strong RPS growth from our major renewable energy and storage procurements. In the third quarter, we filed eight purchase power agreements for renewable energy and storage projects and to self-build storage applications as part of our stage two procurement.

Two of the projects selected in that procurement are still under negotiation. Last month, the PSC approved the eighth final PPA, from our Stage one procurement for a solar plus storage project on Maui.

If all Stage 1 projects and the filed Stage 2 projects come online in anticipated time frames, they would add nearly 600 megawatts of renewable energy and 3 gigawatt hours of storage to our system between now and the end of 2023. This will help in coal in Hawaii in 2022 with the expiration of one of our Oahu IPP contracts.

The Stage 2 projects, together with our recently proposed Kahului Synchronous Condenser Project, will also help us retire one of our Maui fossil plants by 2024. We're also preparing an RFP for up to 235 megawatts of community-based renewable energy. Given the scale of our system, these procurements are significant.

If you add up, what I've just talked about, you get over 800 megawatts. That's on a system, with a total peak load of just 1,200 megawatts on Oahu and 200 megawatts each on Hawaii Island and Maui County. While timing for projects to come online can be affected by many factors, there is no question we're moving forward aggressively.

As you know, we, the commission and many stakeholders have been working hard to align the regulatory framework with customer interest and Hawaii's renewable energy goals through the performance-based regulation, or PBR docket. The commission has kept the docket moving through COVID and appears on track for a December decision.

The guiding principles are set early on in PBR, including maintaining financial integrity of the utility and the collaborative stakeholder-based approach the commission established have been consistent throughout the process. We've generally summarized areas of consensus and divergence on slide 30 of our deck.

The commission's decision in order will confirm the way forward. The commission has been progressing other dockets, too, and just last week, approved a 50-year contract for Hawaiian Electric to own, operate and maintain the electric system serving the Army's 12 installations on Oahu. Turning to our banks.

American Savings Bank continues its solid execution a dynamic COVID-19 environment. Areas are returning to normal operations. We've reopened six branches we had temporarily closed.

While low interest rates continued to compress net interest margin, in the third quarter, we were able to replace much of the prior quarter's spend on sales securities through core activities, including strong mortgage banking income and redemption [Indiscernible].

We remain focused on sound risk management, with the timing of a sustained tourism opening uncertain, ASP's third quarter results again reflect elevated provisions. We think we're well provisioned and continue proactively working with customers to understand how their financial health and outlook are affected by COVID.

Cost efficiency is and will continue to be a focus, particularly in current low interest rate environment. In addition to reducing COVID costs, we've also closed five branches with two more scheduled in December. Most of these had been temporarily closed earlier in the pandemic.

We're continuing to roll out our new smart ATMs, providing more customer options and convenience. We've been impressed by how customers have conserved to manage their resources during this time. The majority of customers who sought initial loan deferrals are returning to repayment.

While some customers and sectors are more impacted, overall, we're seeing low delinquency rates and continued strong deposit growth. For customers who received PPP loans, we're now working on forgiveness and have started submitting loans to the SBA for that process.

We've continued to see robust adoption of our online and mobile banking services and high customer satisfaction with our digital offerings. And now, Greg will review our results for the quarter and our outlook..

$1 million lower AFUDC as there were fewer long-duration projects in construction work in progress; $1 million higher savings from enterprise resource planning system implementation, which are to be returned to customers; and $1 million higher depreciation due to increasing investments to integrate renewable energy and improved customer reliability and system efficiency.

Looking at the drivers of the utilities financial performance for the rest of the year. With the commission's final decision in a Hawaii Electric rate case, our rates, cost of capital and equity capitalization are now set across all three utilities.

Recall that we received a final decision in July for no base rate increase in the Hawaii Electric Light rate case and are not filing a request, a rate case for Maui Electric. The utilities multi-year efficiency program will help offset the lack of base rate increases and achieve the management audit customer savings commitment.

Cost savings initiatives are well underway with additional efficiency opportunities to be identified. COVID-related expenses from March 17th to year-end are being deferred for the commission order we received in June. We've requested an extension of that deferral through at least June 30 of next year.

We'll have to file separately for recovery at a later date. COVID-related costs have been $12.4 million to-date, mostly related to bad debt expense. The suspension of customer disconnections remains in place until year-end.

Lower fuel prices have been good for our customers with a typical 500-kilowatt hour residential monthly bill on Oahu in October was down $21 since March due to fuel price savings for customers. With these savings, the utility may qualify it for a reward under the fossil fuel cost risk-sharing mechanism.

On Slide 11, based on year-to-date information, we're forecasting $340 million to $350 million of CapEx in 2020, down from $360 million communicated last quarter, primarily due to unexpected delays from COVID-19 and completion of some of our work at lower cost.

Specifically, COVID-19 delayed our smart meter deployment, completion of a generating unit overhaul on Maui and impacted transmission structural replacement work when a helicopter contractor went out of business due to COVID-19. Fortunately, we were able to bring some of that work in-house and completed at lower cost.

We also saw some other delays related to permitting. We are maintaining our longer-term CapEx and rate base guidance in the 2021 to '22 period. We still expect CapEx to average approximately $400 million per year or about two times depreciation.

While strategically important, we don't expect the recently approved Army privatization contract to have a material impact on annual earnings, which will depend on a number of factors, including the amount and timing of capital upgrades and capital replacements.

We continue to expect the utility to self-fund its forecasted CapEx through 2020 via retained earnings and access to the debt capital markets. Turning to the bank on slide 12. American's net income was $12.2 million in the quarter compared to $14 million in the prior quarter.

Although yield on earning assets continue to be impacted by the low interest rate environment, we had improvements in a number of areas, including record mortgage banking income, a record low cost of funds supporting net interest margin, increased fee income as we resumed certain fees suspended to help customers during the initial impact of COVID and lower noninterest expense.

We continue to see elevated provisioning this year, given the ongoing COVID-19-related economic uncertainty. Provision was down slightly versus the last quarter, which included amounts for unfunded commitments. Improved noninterest income from core activities and expense controls were key drivers of bank net income during the quarter.

As you may recall, we had a large onetime impact in the second quarter from $9.3 million in gains on sale of securities on a pre-tax basis.

We were able to replace much of that amount through a combination of record mortgage production, generating mortgage banking income of $7.7 million versus $6.3 million last quarter, and resumption of previously suspended fees driving $9.6 million in fee revenue compared to $7.2 million last quarter.

Expense controls were also helped offset the second quarter's gain on sales.

In the second quarter, we incurred $3.7 million in COVID-19-related expenses, consisting of additional pay to frontline employees, the payout of excess vacation days for employees unable to use vacation while working through the pandemic, purchases of PPE and sanitation supplies, employee meals to promote employee safety and support small business restaurants.

In the third quarter, our COVID-19-related costs were down $3.1 million to $0.7 million, consisting primarily of cleaning and sanitation costs. On slide 14, we as expected, ASP's net interest margin compressed more moderately in the third quarter than prior quarter, narrowing 9 basis points to 3.1%.

Record low-cost of funds and lower FAS 91 amortization helped offset the impact of the low interest rate environment on asset yields. Most of our adjustable rate loans repriced in the second quarter, while fixed price loans, which are driving most of the repricing now, reprice more gradually.

For the remainder of the year, we expect continued margin pressure, but at a moderate pace. This includes pressure from continued low interest rates and from excess liquidity due to strong deposit growth and lower reinvestment yields. For the full year, we expect to be within our previously guided NIM range of 3.35% to 3.25%.

Year-to-date net interest margin was 3.34%. Turning to credit. This quarter's provision was $14 million compared to $15.1 million in the linked-quarter.

With uncertainty regarding if we'll realize a sustained gradual reopening of tourism and strengthening of our economy, this quarter's provision included $12.3 million in additional reserves related to potential economic impacts from the pandemic.

Credit quality improved in our personal unsecured loan portfolio, and we were able to release some reserves related to that portfolio during the quarter. Net charge-offs also improved and were lower than the last two quarters. With the economic picture still in flux, we are still holding off on providing provision guidance.

Slide 16 provides an update on what we're seeing in our loan portfolio. Overall, we have a high-quality loan book that remains healthy, with only 3% of our portfolio on active deferral at the end of the quarter. 76% of deferred loans have returned to payment.

Previously deferred loans do have a somewhat higher delinquency rate of 1% compared to 0.3% for our portfolio as a whole. We continue to carefully monitor our portfolio and are working closely with our customers to understand their circumstances and outlook.

Given the enhanced monitoring, we have implemented for commercial loans as well as the overall quality of our loan book, we feel we are well provisioned as of September 30th.

As we continue -- ASB continues to maintain ample liquidity and healthy capital ratios, the bank has over $3.2 billion in available liquidity from a combination of reliable sources. ASB's Tier 1 leverage ratio of 8.35% was comfortably well above, well-capitalized levels as of the end of the quarter.

As a reminder, the bank is self-funding, and we don't anticipate that it would need capital from the holding company even under more severe stress scenarios than we anticipate from COVID-19. Turning to consolidated liquidity, we're well-positioned to withstand the impact of COVID.

As of September 30, we had $425 million of undrawn credit facility capacity, consisting of $150 million at the holding company and $275 million at the utility, with just $23 million in commercial paper outstanding, all of which was at the holding company.

We recently executed transactions to further enhance liquidity and prefund upcoming debt maturities. At the holding company, in September, we executed a $50 million private placement to prefund a March 21 maturity. In October, we launched and priced a subsequent transaction to prefund a term loan maturity coming up in April 2021.

At the utility, in October, we executed $115 million private placement, which we can draw on at any time leading up to its January funding date. The utility has no long-term debt maturities in 2021.

At the holding company, all long-term debt maturities in 2021 are now prefunded, and we maintain solid liquidity and financial flexibility and strength heading into 2021. And we remain committed to an investment grade capital structure.

On the next slide, we expect our dividend from and the equity investment in the utility to be consistent with our earlier projections.

The utility continues to perform in line with plan, has sufficient retained earnings to support its CapEx and adequate liquidity to support growth in customer account receivable balances and payment programs for customers impacted by COVID.

Bank dividends received to date are sufficient to maintain HEI's strong consolidated capital structure and liquidity. We expect to maintain our external dividend as reflected in HEI's recent dividend announcement. On slide 20, we've updated our guidance for the full year.

At the utility, we're reaffirming our guidance range of $1.46 to $1.54 per share and expect the utility to be within the bottom half of that range. While second quarter and third quarter utility results were strong, that was partially due to timing of expenses, some of which are expected to be incurred in the fourth quarter.

We're also working to offset the lack of the Hawaii Electric base rate increase. And as mentioned, we're expecting CapEx to be $10 million to $20 million lower than previously anticipated. At the bank, given economic uncertainty and its effect on provision, we're continuing to provide pre-tax pre-provision income guidance.

We've revised our pre-tax pre-provision income guidance upward to $105 million to $115 million versus the previous range of $90 million to $110 million, or a $10 million increase from midpoint to midpoint. Our holding company guidance is unchanged at $0.27 to $0.29 loss.

Since bank provision remains uncertain, we're still not providing consolidated EPS guidance. I'll now turn the call back to Connie..

Thanks, Greg. Overall, our companies continue to perform well during the pandemic. Our financial stability has enabled us to deliver value for all our stakeholders. In that vein, I'd like to close with a comment on ESG. ESG has been a focus for us for a long time, that's why we say ESG is in our DNA. We just didn't call it ESG before.

We've long talked about the linkage between the health of our state and that of our companies. Our renewable energy transition is central to our company strategy, and we talk about it on every call, along with the evolution of our regulatory framework to support that transition.

For our bank, key areas of focus include addressing affordable housing and financial fitness for our communities and customers, as well as economic diversification, and job creation. And you'll recall that Pacific Current was formed to advance sustainability, through infrastructure investments here in Hawaii.

We're formalizing our ESG approach, integrating it more deeply in our businesses, to the extent material to value creation. We published our first FASB-aligned report in September. And plan to expand future reporting, to include TCFD-aligned disclosures. So look to hear more from us, on ESG going forward.

And with that, we look forward to your questions..

[Operator Instructions] Our first question today comes from Julien Dumoulin-Smith with Bank of America..

Hey, good afternoon to all of your or good morning [Indiscernible], excellent time. [Indiscernible].

Hi Julien..

First off, how do you think about sustainability of O&M savings going into next year, and frankly beyond. I mean, there's a question across a lot of utilities to you guys specifically.

And in particular, can you talk about, what has driven the $10 million year-over-year improvement on utility O&M, beyond just shifting out generation maintenance costs?.

Yeah. Okay. Go ahead..

So well, we'll provide clarification of the expected savings for next year, some of which -- of the savings that we've achieved so far this year, we expect to be durable, meaning some of the staffing reductions and the efficiencies that have been put in place.

But I'll have Tayne Sekimura also comment with a little more detail on that point and the look forward..

Hi, this is Tayne. Commenting on the O&M, as we see it, our cost efficiency initiatives have included things like managing staffing levels, to meet our management audit commitments as well as to offset the no base rate increase for Hawaiian Electric.

It also includes reduced overtime and higher productivity, due to better planning, scheduling and coordination of work. And so that -- those sorts of activities are sustainable into next year. The other thing we're doing is, we're engaged in our strategic sourcing efforts to bring down the cost of our goods and services.

And that, too, will continue, as we move on into 2021. We also look for other opportunities as well as we are working differently in a teleworking virtual environment. And have found different ways to get our work done.

And so some of the things we are looking at is how much office space do we need, how big should our footprint really be, use of technology to be able to interact with one another, inside the company as well as outside the company. So those are just some of the examples..

Yeah, excellent, okay, perfect and then, maybe related to that, if you don't mind, can you discuss the improvement in utility LTM, ROE? Obviously, it's improved here to 8.4 from 7.9 in prior.

How do you think about this carrying forward, right? It kind of dovetails with the O&M?.

Yeah. So, a big part of that improvement does relate to our lower O&M expenses and so that we're seeing that in our results to-date, going forward, it's going to be really key for us to see what comes out of the PBR proceeding. And let me take you through some -- as well as what came out of the Hawaiian Electric final decision.

And so let me take you through some of those pieces. In our ROE chart, we do have a breakdown of the ROE drivers there. And if you look at some of the things like the customer benefit adjustment, is an example. In the Hawaiian Electric final decision, it was considered to be removed.

And so we're going to stop accruing that amount of the customer benefits. And a very small amount will remain for Maui. Right now, it's about 40 basis points. And what will remain later would be, for Maui, is just a couple of basis points.

The other thing is for the ERP customer benefits, that was deemed to be removed from the Hawaiian Electric final decision. All that will remain there is roughly 10 basis points for Maui Electric and Hawaii Electric Light. So those two items come from the Hawaiian Electric final decision in order. The last piece is the RAM revenue adjustment.

And the accrual right now is delayed to June 1. But in the PBR docket, there is general consensus of the parties, in PBR that this lag should be removed. Of course, that is subject to the PUC's decision in PBR that we expect in December.

In addition to that, as we look forward at PBR, our cost containment, cost management issue – management initiatives will continue and be expected as we operate our company. So that's going to be really key, our continuation of cost management efforts to close the ROE gap..

Yes. Sorry, if I can squeeze in one more, just real quickly to finish out the thought. So your full year 2020 guidance remains unchanged, ultimately.

Why does utility earnings remain in the bottom half then? And is that implicit that some of this pushed out generation maintenance spend is in 4Q, or is there something in the tail end of this year? And is there any update you can provide around ASB earnings based on the provision loss to date? Just again, trying to square that against the guidance and where you're trending..

Okay. I can speak to the utility. What is coming up in the fourth quarter, as mentioned earlier, you heard about the timing of some of our generating unit overhauls and some station maintenance work that will be performed in Q4. So there will be some elevated O&M there.

In addition to that, we also have other expenses that were timing-related related to things like what we're doing in the community-based renewable energy, CBRE. And we had some IT software and hardware purchases that were delayed to Q4. So we'll see those O&M expenses elevated..

Yes. And Julien, if I can add, the original guidance way, way back actually was when we were looking at having the Oahu rate case. And of course, that's the one that's been settled at a no base rate increase..

Yes. So, yes. So as we go into the fourth quarter, we still have to offset the no base rate increase costs. And it is a range, Julien. So obviously, there's some movement within the range, but still some uncertainty going into fourth quarter around timing of certain expenses and when and if they materialize.

So we've kept it within the lower half of that range, but I think we're positioned well going into the fourth quarter.

And then on a consolidated basis, you did see the improvement in our pre-tax pre-provision guidance from the bank as well, which was an improvement in debt position going into the fourth quarter now just seeing how the provisioning plays out during that period as we reopen the economy..

Got it. Excellent. A sort time and patients. Yes..

Thanks for the Friday afternoon discussion..

Yes, we thought we were going to hear from Eric, not you. Thank you..

Our next question will come from Paul Patterson with Glenrock Associates..

How are you doing?.

Hi, Paul..

Hi, Paul..

So I apologize for not being able to completely – could you just – why the higher pre-tax pre-provision bank income? What's exactly driving that?.

Let me turn that over to Rich. They've had a great quarter, but go ahead..

Hi, Paul, as Greg mentioned in the comments, as he was going through, we've been able to run pretty well on our expenses and manage those down. We've got some unique things that are related to COVID that come and go. But those are tighter.

And then during the initial stages of the lockdown, we did things like waived all ATM fees and put in bigger sort of grace periods for late fees and things like that. And during the third quarter, we began to feed those back in as we tried to sort of normalize operations again. So you're seeing those things come up.

And you've also seen really strong production on the mortgage side. We're number two in the market so far year-to-date on production of mortgages, and that's played through as we work to kind of balance how much we want on the book versus how much we sell, when we sell those gains come through that mortgage banking line.

And so those are the main factors..

So just to understand this, so when you guys were doing -- when you guys were giving your guidance last quarter, you were more cautious about fee income and expense, all these things that you just mentioned, I won't repeat them all.

But basically, you were just being more cautious and things came in better than you thought, or was there any -- is that right to think about this?.

Yeah. So for example, we didn't know exactly how the phase-in of the fees would -- how much of it would come back to pre-COVID levels, the strength of the market on the mortgage side and things.

So every one of them, we're just working hard to beat what we can do, because we've got a big nut of provisions we got to pay for, right? So the team is just working hard..

Yeah.

How is the loan deferrals? Can you remind us how those are accounted for? If there's any sort of provision associated with that if it's past 90 days or something, or is there any yet?.

So we've taken what we think is a conservative approach on loan deferrals. So any -- especially on the commercial side, any customer that has asked for a payment deferral, we've classified that as a special mention loan, because the definition of special mention is there is a potential weakness.

And approaching us to say, hey, I need help to pay is -- seems like a potential weakness. And so that's been one of the reasons you've seen our provision higher. When we classify a loan, criticize a loan, you carry a higher provision. And so that's been the main difference.

The deferments -- with the deferment, we freeze the loan in the delinquency status that it is. If it's current or if it's 30 days, it just stays there until the payment period starts again and it picks up from there, but that -- the classification change is the biggest impact..

Okay. And then turning to the utility.

First, on PBR, is there any potential for a settlement as we approach the December time frame here?.

Hi, Paul. This is Scott Seu from Hawaiian Electric. This is a PUC-driven proceeding. And so where we are in that proceeding is it's in front of the PUC basically ready for their decision-making. So the PUC is considering all of the filings, statements of position.

Evidentiary hearings took place in September, and all the parties have filed their post hearing briefs. So it's basically ready for decision-making, and that's expected in December..

Okay. So -- okay. And then just in terms of what you guys are thinking about and I guess it depends on what we obviously get with the PBR and everything. But -- and I know you guys have done a bunch of stuff here with base rates and the settlements that you have.

But how should we think about the rate trajectory for total rates, right, with all the stuff that you have going on.

What's your expectation for sort of the total rates? Now obviously, subject to change because we don't know what's going to happen with certain variables, but holding fuel and stuff flat kind of thing, where do you see the trajectory of rates over the next couple of years given your rate base growth at this point?.

Hey, Paul, that's a little bit tough to answer, but I maybe the way I can frame it is, at least, as far as the context of the discussions with the PBR docket, it appears that we will be retaining most of the recovery adjustment mechanisms such as for the fuel power purchase adjustment clause and some of those other recovery mechanisms.

The commission is looking at possible adjustments to our major project interim recovery mechanism as part of the PBR docket. It's difficult for me to answer that question just because there are a variety of these moving parts.

And of course, as you even reflected, feel is going to be the biggest driver, at least for the foreseeable future, even though we are working hard to wean ourselves off that. But that is the biggest driver of what the customers see in their bills..

Okay. Fair enough, and we'll see what happens with -- in December. Thanks so much and have a good one..

Thanks, Paul. And Paul, I'd just add, remember going forward too, the performance incentive mechanisms are incentive-based so there will be benefit to customers. At the same time, there might be benefit to the company..

Great. Thank you..

And our next question comes from Jackie Bohlen with KBW..

Hi. Good morning. .

Hi, Jackie..

Hey, Jackie..

Hi. Just wanted to start on the risk rating, and understanding that you've taken a really conservative stance with how your marking your special mentions. How is that going to have an impact as those get upgraded to watch and to pass? You had a really good decline in the level of deferrals in the quarter.

So just wondering, number one, if borrowers are going back on to payment, how long you expect them to sit in the special mention bucket? And number two, how you would expect that to affect your reserve methodology as they do that?.

Right. So Jackie, it's a great point. The -- we look, kind of, for about six months of sustained payment performance before we'd look at upgrading the accounts. The -- and so we think that's right now, given still the uncertainty about will the recent opening sustain and all that. So we will take some time and watch them.

We don't want to jerk around the provision, moving them up, moving them back down if there's a closing again. So we'll look over a couple of quarters..

Okay. So I would suspect that I will call it, by the third quarter of next year, assuming that conditions continue to improve, that we could be back to a lower level of special mention and you could have some potential reserve release associated with upgrades to offset any potential charge-offs that are coming through the pipe at that point.

Is that a fair assessment?.

From your lips to God's ears, I hope. So I think the point that you're making is a really good one. And I think it's important for people as they think about banking. The provision is for potential credit losses, right? And if you think about what we're doing, we're providing for what we know is a difficult situation for our customers.

When we -- the big increase in coverage that we've had this year is around the risky environment. And we've got a lot of customers, as we said, kind of in our release that have really impressed us how they've shepherded their resources and have hunkered down to kind of work their way through. And we got to see how it plays out.

If they succeed, then, yes, when those upgrade, we'll get those provisions back. And we're in their corner fighting with them, and we hope that these provisions don't turn into charge-offs, right? And that's the game. And you've seen charge-offs have been relatively stable with our past. You haven't seen a surge in that.

And so we're -- we hope this scenario works out like you described..

Okay. Okay. And then turning to balance sheet liquidity. How are you thinking about that over the next couple of quarters, understanding that there are obviously a lot of factors that play inclusive of whether or not we're going to get more stimulus in the future..

Yes. We're cautiously optimistic that it continues to be as strong as it is. Our deposits have continued to build the customers. As we look at where they are, we're seeing it on the consumer and we're seeing it in commercial. We know people will need to spend down some, but we don't anticipate a large runoff over the next quarter or so. So it's strong.

Liquidity is good. We're staying close to the customers. The commercial customers, our guys are with them on a very regular basis, understanding what their cash flow situation is and how they look. So right now, we would expect relatively consistent performance..

Okay. And then just lastly, in terms of loan growth, on a linked-quarter basis, you had good generation in CRE balances.

Is there anything point-to-point that was unusual there, or was it just really solid growth in the quarter?.

Yes. No. There were -- we've got a terrific new leader of that CRE team that joined our bank earlier this year. And he's just good at finding the right kind of deals. We have tended to be more heavy in sort of construction-related project. He's excellent at getting the long-term investor component of the portfolio growing, too.

And we're really prudent in this environment, right? We're sitting here saying that we're not interested in bringing somebody else's troubled asset onto our book. But as you know, we've also stressed to you how Hawaii real estate is a resilient asset. So, we're being really selective.

But when we see the deal that we like, we also want to support those deals and the customers associated with them..

Okay, great. Thanks Rich..

[Operator Instructions] Our next question comes from Charles Fishman with Morningstar..

Hi, morning. I just have a couple. On Oahu breakage.

Will that now be a three-year cycle? And there was nothing in that settlement that allowed for a -- to come back for three years?.

So, Charles, the commission is no longer looking at the mandatory triennial rate case cycle because of the transition to PBR. And so that's why in the PBR framework, there's a multiyear rate plan, which is at five years..

Yes, I forgot about that. Okay. So, let's talk about CRO. I mean, on that one slide, I've lost it. You have the things that you brief to -- I realize you're still negotiating this the PVR. But on the left-hand side, as far the agreed to things.

Can you maybe discuss that? It seemed like, as I look at that list, to eliminate the RAM lag, that's a real positive.

Is there something else on that left side that I should be saying, wow, that's pretty good?.

We'll let Tayne answer you or Scott..

Charles, hi this is Tayne. Yes. And again, as a reminder, this is a summary of the consensus and differences of the parties. It is subject to PUC decision-making. But yes, it is positive that the existing -- the parties do agree that the existing RAM like should be removed because that's roughly 30 to 40 basis points..

Well, I know that's been a bottom in the past. So that's -- I thought that was good. That's on the left-hand side..

Yes, the other thing that's positive, but we'll need to see what actually comes out is the potential to earn performance incentive mechanisms consistent with the outcomes put forth by the PUC. We'll need to see how those are set up and how achievable they are. But that's another positive thing.

The other thing I would point out is the earnings sharing mechanism and again, it's the position of the parties. The general consensus was that it should be modified to be symmetrical. Currently, we have an asymmetrical mechanism, whereby earnings above and allowed ROE are shared with customers.

So, there is -- on the other side, for the company to be protected there..

Yes, symmetrical would be good. Just one more thing. I think it was the last call that the Hawaiian Economic Research Organization, I guess this is where the number came from.

The goal was to get back to a 50% level of tourism by the end of the year, which obviously would be [indiscernible] testing program being delayed and the second wave here, I suspect that's optimistic. But you provided a lot of data from the Economic Research Organization.

But is there any number like that that's comparable that I'm missing, or is that just something that they're not doing anymore? I thought that was really interesting to see just the level of recovery on the tourism..

Yeah. Charles, this is Greg. We show on slide 3, it's part of the UHERO forecast. And by the way, this information is also available on the University of Hawaii Economic Research Organization website, so it's publicly available here.

So what they showed was, and you see 2020 as 70%, almost 74% reduction from 2020 pre-COVID to where we're at, what they're projecting for the calendar year in 2020, with roughly a recovery starting in the fourth quarter. So consistent with what we're starting to see now.

And then, on a base case, they're looking at a 73%, 74% recovery back, starting off of that lower base, and then further improvement in 2022. What the indication is, it will take -- and ultimately, their forecast gets to 80% to 90% recovery of relative to pre-COVID over the three, four-year forecast. So it's a recovery.

Their revised forecast is a more gradual recovery. And it does stop short of the pre-COVID levels within the forecast period that they have. But it's still a pretty robust number when you think that pre-COVID we were at 10 million arrivals, which was a high watermark year-over-year for us coming out of 2019..

Okay. Well, thank you. That’s helpful. That’s all I have. Thanks, and stay safe..

Okay. Thanks Charles..

Thanks, Charles..

This concludes our question-and-answer session, and I would like to turn the call back over to Julie Smolinski for any closing remarks..

Yeah. Thank you all for joining us today and for your questions. And with that, have a great weekend..

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect..