Hawaiian Electric Industries Inc (HE) 2012 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first-quarter 2012 Hawaiian Electric Industries earnings conference call. My name is Stacy and I will be your Conference Moderator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of the conference. (Operator Instructions) As a reminder, this conference call is being recorded for replay purposes.

I would now like to turn the presentation over to Ms. Shelee Kimura, Manager of Investor Relations and Strategic Planning. Please proceed.

Thank you, Stacy, and welcome to Hawaiian Electric Industries' first-quarter 2012 earnings conference call. Joining us this morning are Connie Lau, HEI President and Chief Executive Officer; Jim Ajello, HEI Executive Vice President, Chief Financial Officer and Treasurer; Dick Rosenblum, Hawaiian Electric Company President and Chief Executive Officer; and Rich Wacker, American Savings Bank President and Chief Executive Officer, as well as other members of Senior Management. Connie will provide an overview of the quarter and an update on our strategy. Jim will then update you on Hawaii's economy, our results for the quarter and outlook for the remainder of the year. Then we will conclude with questions and answers.

Forward-looking statements will be made on today's call. Please reference the accompanying disclosure to the webcast slides located on our website.

I'll now turn the call over to our CEO, Connie Lau.

Thanks, Shelee and aloha to everyone. We are off to a good start in 2012 with our performance tracking against 2012 objectives. At the utility, there were many constructive regulatory actions since the start of the year, with all 3 utilities now decoupled under Hawaii's new regulatory framework. Our bank continued to deliver solid performance. Profitability metrics remained strong, credit quality improved and our loan portfolio grew for the sixth consecutive quarter, even as we remixed the portfolio away from loan mortgages to control interest rate risk. Our bank remains one of the better performing banks in it's class across the country. Hawaii's economy continues to improve, albeit slowly, and we remain cautiously optimistic about continued economic recovery going forward. We continue to make progress on our strategies and believe we are well positioned to continue to deliver attractive risk adjusted returns and earnings growth to our investors.

First quarter 2012 earnings were $0.40 per share, up from $0.30 per share in the same quarter last year primarily reflecting the recovery of costs approved for our Oahu utility in July of last year. As you can see on slide 4, there has been positive momentum in our utilities with numerous decisions rendered by the Hawaii Public Utilities Commission in just the last few months. Most notable were the final decisions in the Hawaii Island and Maui County 2010 test year rate cases, which implemented decoupling. We are pleased to be able to report that all our utilities are now on the new regulatory model. Jim will discuss the impact of our recent regulatory decision shortly.

On the clean energy front, our utilities remain focused on integrating more renewable energy into our system. Diversifying our fuel sources by adding renewable's can stabilize customer bills in our jurisdiction, which increased approximately 40% in the last year, 90% of which was caused by higher oil prices. In the quarter, the utilities added 16 megawatt's of renewable energy contracts. Renewable energy generation currently accounts for 12% of electric sales towards an RPS requirement of 15% by 2015 under Hawaii law. In addition, HELCO filed a request with the PUC to acquire up to 60 megawatt's of geothermal generation on the Island of Hawaii through a competitive procurement process. On a broader note, our state achieved a clean energy milestone in it's 2012 legislative session with the passage of a bill that establishes a framework for a future undersea cable project anticipated to be developed and owned by a third party. Our utility continues to work towards contracting an additional 200 megawatt's of renewable energy through the PUC ordered RFP, which could include the cable.

Turning to the bank, we had a solid first quarter, and we are on track to meet our 2012 performance targets. We continue to track favorably with our high performing peers. We are consistently growing our loan portfolio at a steady rate in the low to mid single-digit range while holding our operating costs down, and we continue to post strong profitability metrics in a difficult interest rate environment. The bank continues to maintain its low risk profile, strong balance sheet, terrific funding base and straight forward business model.

Looking ahead, we expect continued improvement in Hawaii's economy, which provides a constructive context for our businesses. The outlook for our Company will be largely driven by our utilities' ability to transition their operations to fully align with the new regulatory model and to manage the timely recovery of costs. We expect our bank to continue to be a strong contributor to the consolidated enterprise, and it should provide upside leverage as the economy recovers. Overall, the combination of our 2 companies continues to provide value for shareholders. With the bank providing it's strong and steady source of cash and capital and our utility investing to help meet Hawaii's aggressive public policy goals to reduce our state's dependence on oil.

Jim will now discuss the details of our fourth-quarter results and drivers for the year.

Thanks, Connie. As a backdrop to our results and outlook, I'll briefly comment on Hawaii's economy, which continues its gradual improvement. The tourism industry, a significant driver of Hawaii's economy, maintained a positive growth trend that started almost two years ago. Year-to-date March, visitor arrivals were up 7.8%, and expenditures were up 12.5% compared to last year. March was the 23rd consecutive month of year-over-year growth in expenditures. And the 2012 outlook for the visitor industry remains positive. Locally economists expect construction to begin its gradual recovery in 2012, due to an increase in non-residential and public sector project. Overall, we continue to be cautiously optimistic about the continued recovery in Hawaii.

At the utility, net income for the first quarter of 2012 was $27.3 million, compared to $19.2 million in the first quarter of 2011. The main driver of net income improvement was $7 million, attributable to the recovery of costs for our Oahu utilities reliability and clean energy investment. Operations and maintenance expense was slightly lower than the prior year, largely due to lower A&G expense of $2 million after tax from the change in the capitalization of costs, which was effective with the July 2011 HECO interim decision. In addition, there were two unusual O&M items that net to $1 million after tax increase. An increase in the reserves for environmental costs of $2 million, offset by the reversal of $1 million for deferred costs that were previously expensed in 2011. Our O&M outlook for the year remains at 6% higher than 2011.

At the bank, net income for the first quarter of 2012 was $15.9 million, compared to $13.9 million in the first quarter of 2011. The $2 million improvement was primarily due to $1 million of higher non interest income due to higher gains on sales which fluctuate depending upon interest rates and loan origination volumes, $1 million in lower provision for loan losses and $1 million due to the release of reserves for a tax position discussed earlier. Compared to the linked quarter, bank net income was up $500,000 higher primarily due to the aforementioned $1 million reserve release. $1 million in lower net interest income resulted from the continued low interest rate environment, which was offset by lower non interest expense and provision for loan losses.

Now we'll look at the utility more closely. Slide 9 shows our actual ROEs for the trailing 12 months as a percent of the allowed ROE. Our March 2012 consolidated utility ROE of 7.9% improved from 5.9% in March 2011. Our largest utility in Oahu earned 7.7% ROE over the last year, approximately 77% of its allowed return, and we are on track to achieve an ROE of 8.5% for 2012. The implementation of the heat rate deadband associated with decoupling our Maui County and Hawaii Island utility's reset their respective heat rate. As a result, about $3 million of annual heat rate savings for our Hawaii Island utility will be eliminated. This represents roughly 100 basis points of the Hawaii Island utility's ROE.

This quarter, our customer information system, which handles all three utilities was expected to go in service. The total estimated deferred and capital cost of this system at completion is approximately $60 million and would normally be recovered for each utility in its next general rate case. But this timing could be affected by the pending regulatory audit. The recovery of $32 million of costs per CT-1 is also pending a regulatory audit. We also expect the gap to our allowed returns to continue as a result of the timing of our general rate case decision, or in non-rate case years, the effective date of the revenue adjustment mechanism, both of which generally take place halfway through the year.

With respect to our capital expenditures forecast on slide 10, in the first quarter we invested $41 million in infrastructure and are on track to invest approximately $300 million this year with work weighted toward the second half of the year. We expect-- we continue to expect rate base growth of 4% to 5% in 2012.

On slide 11, we summarize for you the key utility earnings drivers for 2012, some of which we have already covered. Last month, our Maui Utility entered into a settlement agreement in its 2012 test year rate case, if approved it would result in an increase in annual revenues of $14.9 million, an interim decision is scheduled for later this month. Effective in the second quarter, HECO's 2011 test year interim decision was increased by $5.5 million to recover the East Oahu transmission project costs. And HELCO's and MECO's 2010 final decisions resulted in annual revenue reduction totaling $4.4 million, which reflects a lower ROE associated with decoupling and $2.3 million lower depreciation expense. Also, all three utilities allowed for their 2012 revenue adjustment mechanisms, which together represent $5.7 million in annual consolidated revenues. Of this amount, $3.3 million is expected in 2012. Overall, we are focused on effectively executing our new regulatory model and our clean energy and reliability CapEx programs.

Now we'll look more closely at the bank's strong performance metrics. On slide 13, our net interest margin was 4.04% in the first quarter of 2012, and continues to exceed that of our high performing peers. The 12 basis point decline in net interest margin from both the linked quarter and prior year was primarily due to lower yields on interest earning assets consistent with the low interest rate environment as the bank continued to reduce its exposure to long maturity fixed-rate residential mortgages, to control unfavorable interest rate risk. In addition, existing adjustable rate commercial zones also repriced down in line with lower market indices and new loans were funded at lower than average portfolio rates. This pressures them in the near term but we are managing our interest rate portfolio mix to be well positioned when interest rates rise.

There are other dynamics that caused net interest margin volatility quarter to quarter. Such as the recognition of income on loan prepayments, which were elevated in the fourth quarter of 2011. Normalizing these variables, net interest margin compression has been in line with our expectation and we continue to expect 2012 net interest margin to be about 4%. Rates on interest-bearing deposits have declined over the last year to offset some of the decline in asset yield.

Our liability costs of 28 basis points in the first quarter is extremely low by industry comparison and is driven by our low, low cost deposit base. The bank recorded $3.5 million in provision for loan losses in the first quarter of 2012, down from the prior year quarter of $4.6 million and the linked quarter of $4.1 million. The decline in provision was due to the lower net charge-offs particularly in the residential portfolio, and improved credit quality associated with the gradual improvement in Hawaii's economy.

As shown on slide 15, loans have been growing steadily over the last six quarters. In the first quarter of 2012, loans grew by $30 million, or 3.2% annualized. This is in line with our expectations. Growth was driven primarily from home equity lines of credit, commercial real estate, commercial lending, which more than offset our deliberate decline in residential mortgages. Although our residential loan production increased by approximately 73%, or $70 million in the first quarter of 2012 compared to the prior year quarter, we still have those that don't meet our portfolio yield threshold, and that was over 50% of our loan production this quarter. In addition to quarterly loan growth, the bank reported a return on assets of 1.29%, and return on equity of 12.9%. While these metrics benefited from the $1 million in tax related reserves discussed earlier, they are still quite strong.

Slide 16 is our balance sheet, which shows you the asset and funding mix of both American and our peer banks. 97% of our loan portfolio was funded with low cost deposit, versus our peer banks at 85%. Core deposits increased a healthy $62 million in the quarter, or $3.6 billion, which helped fund our loan growth while maintaining a very low average cost of funds. We remain well capitalized with a Tier 1 leverage ratio of 9.1%. Tangible common equity to total asset was 8.5% and total risk-based capital ratio of 12.9%, all at March 31, 2012. In addition, American continues to pay a healthy dividend to HEI. In the first quarter, American paid $10 million in dividends to HEI and expects to pay an annual dividend of $45 million. The bank will retain a portion of its earnings in 2012 to fund its planned loan growth while maintaining its capital ratios of 9% Tier 1 leverage and 13% total risk-based.

Turning to credit quality, American's nonperforming asset ratio remained relatively flat at 2.02% at the end of the first quarter, versus the linked quarter and remains better than it's high performing peers. The $900,000 increase in nonperforming assets was primarily due to one commercial borrower, that is payment current, a modest increase in residential mortgages partially offset by a sustained runoff in vacant land loans. Our primary credit risks are in the three rapidly shrinking loan portfolios. First, the residential land loan. Second, neighbor island one to four family mortgages produced from 2005, 2007. And thirdly, our purchased mainland residential loans. These three portfolios totaling $354 million were down $29 million, or approximately 8% from December 31, 2011.

On slide 18, our net loan charge off ratio of 0.28% remains low and improved by 20 basis points from 0.48% in the linked quarter, primarily due to higher recoveries and lower charge-offs in the residential mortgage portfolio. The allowance for loan losses currently represents 1.05% of outstanding loans, at $38 million -- $38.8 million, relatively unchanged from 1.03% as of December 31, 2011. Looking forward, there are no changes to our expectations. Consistent with what we have said previously, we expect to see continued downward pressure on net interest margins quarter over quarter, we expect full year NIM around 4%, slightly higher than the first half and below that in the second half. Non interest income will be impacted by gains on sales of loans, which will fluctuate depending on interest rates and loan origination volumes. We continue to expect at least $1 million in lower interchange revenues in 2012 compared to last year, due to changes from our interchange network, partially offset by volume increases from account growth. Our expectation for 2012 net income to be approximately 3% to 5% lower compared to 2011 remains unchanged. Overall, we are targeting to deliver strong results with our low cost funding base, efficient cost structure and lower risk profile.

Turning to our financing and liquidity picture, on April 19, all three utilities issued a combined total of $417 million of taxable unsecured senior notes through a private placement with interest rates ranging from 3.79%, to 5.39%. $267 million of the notes were used to redeem utilities special purpose revenue bond with higher interest rates ranging from 5.45% to 6.20%. The remainder, or $150 million, was used to fund this capital expenditure program. HEI continues to remain-- maintain a strong capital structure with 51% consolidated equity to total capitalization. And based on our current assumptions we do not require additional equity other than through our dividend reinvestment program through 2012. On our dividend policy, we will consider an increase when we can consistently maintain a 65% payout ratio.

Now I'll turn the call over back over to Connie.

Thanks, Jim. We are pleased with the strategies we adopted in 2008 to focus on instituting fundamental changes in our two operating businesses are working well and delivering improved results. Our utility continues to focus on successfully fulfilling its clean energy role in our state, and achieving returns that will enable us to compete for capital and fund the upfront investments necessary to support Hawaii's move to clean energy. And all three of our utilities are now fully decoupled under our state's new regulatory model to encourage this transition to clean energy.

At the bank, we've maintained the gains from our performance improvement projects and continue to deliver high performing results, and we are on track to meet our 2012 target. Our dividend yield remains attractive and above the average for utility peers. As of yesterday's close, our dividend yields were 4.6%. And 2012 will mark our 111th year of paying continuous dividends. We believe we are well positioned to continue to deliver a unique investment combination of attractive earnings growth with reduced risk and volatility and an above average dividend yield.

And now we look forward to hearing your questions.

(Operator Instructions) Ashar Khan with Visium.

Hi, good morning. I just wanted to go over this slide 11, if I can. I'm just trying to get a sense, the positives and the negatives for the rest of the kind of the year. So am I right, 6% higher O&M, right? We had flat O&M for the first quarter, is that still expected in the remaining three quarters? Is that equal to something like $24 million or something or could you quantify that?

Sure, this is Jim Ajello. I'll start by saying that yes, the short answer is that we expect to have a 6% O&M increase year over year.

Okay. And, Jim, is that accretive to like $24 million or my number wrong?

It is very close to that number, yes. You're correct on that.

Okay. And then we would have the MECO rate case, right, that would be in fact starting like July 1, so we would get something more than half of that in additional revenues in the last half of the year, is that correct?

That is correct.

So that's not in your-- in one of these bullets or am I missing it somewhere? Or it's in the top bullet, is that what it is, the MECO --

The reference on slide 11 to the very first point is the MECO.

Okay. The MECO thing. Okay, okay. And is this the updated interim, the $5.5 million, is that incremental or is that just the same of what we had before?

This is Tayne, $5.5 million is incremental.

So that's incremental, that's what I thought. So that's incremental this year, and that started when, January 1, or when did that start?

That started in the beginning of the second quarter.

So that's--

$5.5 million, this is Tayne, relates to the recovery of remaining costs for the East Oahu transmission project. It was a second quarter item.

Okay, so that will show up in the second quarter going forward?

Correct.

Okay. Okay. And then the next bullet, if I can just follow through, is the -- you said there is revenue reduction of $4.4 million, but $2.3 million is depreciation. So from an earnings perspective, it's only negative $2 million, is that correct?

This is Tayne. In terms of how to look at that, it's really offsetting, it's not a negative, because a lower rate increase is equal to the lower depreciation expense. In other words, we didn't need the revenue to cover that lower depreciation expense. So it's a net income neutral item.

And then, Ashar, the other piece of that is the lower ROE as decoupling begins, so yes, it does go down by the $2 million, but then we do have the decoupling mechanism that will kick in.

That would make-- kick in. Okay.

Right.

Okay, so the RAMs are all positive, right? The 5.7 is like a positive starting from June, right? That's additional revenue, right?

Yes, that's right.

Okay. So if one-- and then if-- am I right, the higher CapEx that should lead to higher AFUDC, or no?

Yes, as we build out the project, there's AFUDC on that.

On that? Okay. So I'm just trying to get a sense as you look at the last three quarters, we're doing additional subtraction, it seems like utility earnings should still be able to go up. Am I missing something, or wrong?

I think what you're missing, there's a couple of items write off, and then if Jim wants to add anything, as you note on that slide 11, in the-- now that we have the HELCO final decision, that will reset the heat rate, and we had been getting heat rate savings previously because we had installed a steam unit that was very efficient since the last rate case. So those heat rate savings will go away with the reset, of the heat rate in the rate case.

And then as we've talked about before, we have a very large customer information system that is going in for all three utilities. The actual cut over date is scheduled for Memorial Day weekend. And once that goes into service, we then would have to recover those costs through the normal rate case process, which now is every three years on a staggered basis for each utility. So that will be a drag until we can get it into each rate case.

I would just say, or clarify, Ashar it's Jim, that the-- we estimate the reduction in the heat rate associated with the deadbands is about a $3 million item just to put a number on that. And then to add to what Connie said the-- both the CIS system and the $32 million of CT-1 expense are still pending a regulatory audit or review. So the timing of the recovery of those is a bit uncertain right now because there is no precise schedule for those reviews yet set up.

And CIS is a $60 million figure.

Okay. Connie, now you've gotten decoupling in all three jurisdictions, if I'm right. You had mentioned that you would think about giving -- introducing guidance once you achieve that, any thought on that process?

Yes, Ashar, because we just got the final decisions in last week, we actually don't have an update for you today. And that is something that we are looking at doing, and we will likely talk about that in the next webcast.

Okay. Thank you so much.

Jim Krapfel with Morningstar.

It looks like 12-months trailing ROE at MECO declined about 130 basis points quarter over quarter, what drove that? And then where do you expect ROEs to trend at MECO once the new rate case revenues go into effect later this year?

This is Tayne. In terms of the ROE is lower and trending, you see that downward trend and that's mostly because we're awaiting the MECO 2012 rate increase decision that we talked about expected sometime later this month. So that's the main reason for that. Thereafter, we do expect the ROE to pop up a bit in 2012.

Okay. Maybe about what rate do you expect once those rates are into effect, what ROE you can generate?

It's Jim Ajello. We don't provide that particular information, but the allowed ROEs now across all three utilities units are about 10%. So our goal is to obviously achieve as much as we possibly can of those allowed ROEs.

Okay, great. Thanks.

(Operator Instructions) James Bellessa with D.A. Davidson.

The HECO resetting of the heat rate, that savings was found in what line item up to now and--

Jim, that was in HELCO for Hawaii Electric Light on the Big Island.

Right. And what line item does that savings show up in? Is it a revenue item or it's offset, is it an offset to an expense item?

It shows as an offset to an expense item, you'll accrue at fuel expense.

And this customer information system going in on September, a total cost of $60 million, was it? Is there an expense of operating that system that isn't yet built into your numbers?

Just a correction, Jim. It's actually going to go into use after Memorial Day weekend, so that will be June. And then I'll let Tayne talk about the operating costs for that.

The operating costs associated with the system were not included in the 2011 rate case, and so those costs are -- part of the costs that we're seeing in terms of the increase for the remainder of the year when we talk about -- it's part of that 6% increase.

Is it an O&M expense built in -- not built into the $145 million figure that you're putting out?

Jim, I'm sorry. What $145 million are you referring to?

I thought you had expense, excuse me, it was 6% increase in O&M expenses for the utility is what you were talking about.

Yes. That was the approximate $24 million figure we talked about earlier.

This is Dick Rosenblum. That extra O&M for our customer information system is in that 6%. It is not incremental to the 6%.

Thanks for that clarification. The slide number 17 talks about nonperforming assets and the nonperforming assets ratio. I went through your Q and didn't even find that concept in your Q. Isn't that a required data point that needs to be put in to discuss a bank's operations?

Jim, I'm sure we must have that in there and we can give you the reference to that.

Thank you very much.

Sure.

And with no further questions in the queue, I'd like to turn the call back to Management for closing remarks.

Thank you, everyone, for joining us today and if you have any follow-up questions as always, please feel free to reach out to me. Thanks so much, bye.

We thank you for your participation in today's conference. This does conclude your presentation. You may now disconnect and have a great day.