Note: New material since last update is highlighted, otherwise there are no changes.
Overview
Honolulu-based Hawaiian Electric Industries, Inc. (HE) is a diversified holding company with subsidiaries engaged in electric utilities, banking, freight transportation, real estate development, and other businesses, predominantly in Hawaii. The company also pursues the development of independent power projects in Asia and the Pacific. Electricity is provided by the company’s three subsidiaries: The Hawaiian Electric Co. (HECO),Maui Electric Co.(MECO), and Hawaiian Electric Light Co. (HELCO). These companies engage in the production, transmission, distribution, and sale of electricity on the Islands of Hawaii, Oahu, Maui, Lanai, and Molokai. Approximately 70% of the company’s electric revenue is generated by HECO, which owns and operates three generating plants with a capacity of 1,263 megawatts (MW) on Oahu. The other two regulated utilities each contribute 15% toward the company’s electric utility revenue. The utility supplies power to more than 400,000 customers, or 93%, of the Hawaii market. The company also operates American Savings Bank (ASB), which has $6.5B in assets and deposits of $4B, is Hawaii’s third largest financial institution. ASB provides a wide array of banking services and is located solely in Hawaii with approx 16% market share.Hawaiian Electric Industries is the largest Hawaii-based company and the only electric utility in the U.S. to own a bank.The corporate website is
In December 2004, the Company settled a long-running dispute with the State of Hawaii over dividend received deductions taken by the Bank for tax years 1999-2004 on dividends from its real estate investment trust subsidiary. For the full year 2004, the settlement resulted in a $20.3 million after-tax charge, or $0.25 per share.
Key Positive Arguments / Key Negative Arguments- Increasing residential and neighbor-island commercial electricity usage.
- The Hawaiian and Federal regulatory environment for utilities and banking.
- Strong KWh sales & customer growth.
- Rising inflation, higher fuel costs and unexpected maintenance and repair expenses could erode earnings.
- Improvement in the value of the bank's mortgage servicing asset.
- HE's utility & banking operations are subject to interest rate risks.
- The strong Hawaii real estate market and low interest rates continue to have a positive effect on credit quality, allowing the bank to lower its provision for loan losses.
- Hawaii's economy is driven by tourism. Therefore, a substantial drop in the number of tourists to Hawaii would materially affect the Hawaiian economy and HE's earnings.
- Slower than expected economic growth could reduce utility usages.
Of the six analysts following HE, four issue a neutral rating on the stock, while two publish a negative rating. The average target price is $27.50, within a range of$26 (D.A.Davidson, Piper Jaffray) to $30 (Robert W. Baird).
Sales
Fiscal Year ends December 31,US$ in millions. / 2Q’04A / 3Q’04A / 4Q’04A / FY’04A / 1Q’05E / FY’05E / FY’06E
Digest High / $461.8 / $506.8 / $518.4 / $1,924.1 / $454.5 / $2,015.0 / $2,095.0
Digest Low / 461.8 / 506.8 / 518.4 / 1,924.1 / 454.5 / 1,910.2 / 1,954.6
Digest Average / 461.8 / 506.8 / 518.4 / 1,924.1 / 454.5 / 1,972.7 / 2,024.8
Zacks Consensus / 461.8 / 506.8 / 518.4 / 1,924.1 / 455.0 / 1,941.0 / 2,025.0
HE generates revenue through two primary business segments: the Electric Utility and the American Savings Bank. Electricity and Savings Bank services account for 65% and 35%, respectively, of the company’s total revenue.
Q4’04 total revenue comes to $518.4MM compared to Q4’03 revenue of $454.2MM. Electric Utility revenue rose by $69.4MM, or 20% on y-o-y basis, due to the effect of undisclosed level of customer growth and a strong economy that produced nearly a 2% climb in kilowatt-hour sales.Bank revenue grew by $5MM compared to 4Q’03, due to improved interest income, investment income and also income from higher debit card fees.
FY’04 revenue was $1.92B compared to revenue $1.78B in FY’03. This reflects y-o-y growth of 8%.
The consensus model of six analysts’ brokerage models forecasts total revenue of $1.97B in FY’05 and $2.02B in FY’06. This is also consistent with y-o-y sales growth of 2.5% in FY’05 and 2.6% in FY’06. The estimated CAGR on realized FY’04 revenue comes to 2.6%.
The (Baird) analyst believes that the strong Hawaiian economy, increased home construction activity, soaring tourist traffic (near record levels), increased military investment in the state, and sale of CDO investments were the key drivers of the company’s better-than-expected results.
For more detail on HE’s revenue by segment, refer to the ‘Consensus Model’ tab of the HE spreadsheet.
Margin
During 2004,ElectricUtility net income slightly lowered on a y-o-y basis, due to effects of higher operation and maintenance expenses and increased depreciation expenses. However,offsetting this negative impact were lower interest and related charges, lower retirement benefits expenses and a 2.9% increase in KWh sales.Bank improved its result on a y-o-y basis due to loan loss reversals totaling $0.06 per share in FY’04 compared to $0.03 in FY’03.Changes in its lending portfolio also benefited the Bank’s cause. The loss in CorporateOther decreased in FY’04 compared to FY’03.
FY’04A / FY’05E / FY’06E / CAGROperating Margin / 14.1% / 14.8% / 15.3% / 6.8%
Net Income Margin / 5.7% / 6.8% / 7.5% / 17.5%
The six analysts’ consensus model forecasts operating income of $291.9MM in FY’05 and $309.2MM in FY’06. This represents y-o-y growth in operating incomeof – 7.7% in FY’05 and 5.9% in FY’06. The CAGR on realized FY’04 operating income comes to 6.8%.
The six analysts’ consensus model forecasts net income of $133.7MM FY’05 and $151.4MM in FY’06. This reflects y-o-y growth of operating incomeof 21.9% in FY’05 and 13.3% in FY’06. The CAGR on the realized FY’04 net income comes to 17.5%.
The (Merrill Lynch) analyst expects the bank to continue to face margin compression due to the flattening yield curve. However, the analyst believes effective cost management and loan portfolio growth could offset some of that pressure.
For more details on HE’s operating and performance margins refer to the ‘Consensus Model’ tab of the HE spreadsheet.
Earnings per Share
Fiscal Year ends December 31, in US $. / 2Q’04A / 3Q’04A / 4Q’04A / FY’04A / 1Q’05E / FY’05E / FY’06EDigest High / $0.44 / $0.51 / $0.26 / $1.36 / $0.40 / $1.82 / $2.00
Digest Low / 0.44 / 0.51 / 0.26 / 1.36 / 0.33 / 1.50 / 1.65
Digest Average / 0.44 / 0.51 / 0.26 / 1.36 / 0.38 / 1.66 / 1.85
Zacks Consensus / 0.44 / 0.51 / 0.26 / 1.36 / 0.37 / 1.65 / 1.85
Q4’04 earnings were $0.26 per share compared to $0.50in Q4’03. Despite higher bank income from a change in the amortization of mortgage securities, higher expenses related to unscheduled plant outage in utility and reliability spending cut earnings nearly in half.
FY’04 earnings were$1.36 compared to $1.58 in FY’03. Electric Utility earnings reflect a slight decrease compared to FY’03 earnings due to higher maintenance expenses for overhauls, repairs and other maintenance, increased other operation expenses and higher depreciation expenses. Bank earnings show a slight improvement over FY’03 earnings due to strong state economy and real estate market, lower amortization and higher average earnings asset. Corporate & Other loss fell to $0.18in FY’04 compared to $0.31 in FY’03 due to settlement of lawsuit having an impact of $5.7MM net of taxes.
Management does not provide any guidancegoing forward. The six analysts’ consensus model forecasts EPS of $1.66 in FY’05 and $1.85 in FY’06. This reflects y-o-y EPS growth of 22.3% in FY’05 and 10.92% in FY’06. The CAGR on realized FY’04 earnings comes to 16.4%.
The (A.G.Edwards) analyst lowered forward earnings estimates,primarily to reflect the expectation that an interim rate increase in the pending Oahu case is likely to be authorized in the 4thquarter rather than in 3rdquarter. Likewise, the (Davidson) analyst lowered forward earnings estimates to reflect on-going plant overhead costs, unrecovered rising utility operating expenses and margin compression at the bank. Meanwhile, the (Janney Montgomery) analyst raised forward earnings estimates to reflect the shift in O&M expenses, which were realized in FY’04 instead in the first-half of FY’05.
For detail on EPS forecasts by individual brokerage analysts, refer to the ‘EPS’ tab of the HE spreadsheet.
Target Price/Valuation
Of the six analysts following HE, four publish a neutral rating on the stock, while two issue a negative rating. The average target price is $27.50.The lowest target price is $26 (D.A.Davidson, Piper Jaffray) while the highest target price is $30 (Robert W. Baird). Most of the analysts used P/E multiple with estimated forward earnings of 2005 and 2006 to derive the price objective. The P/E multiple used for this purpose ranges from 14.0x to 16.7x.
Rating DistributionPositive / 0%
Neutral / 67%
Negative / 33%
Avg. Target Price / $27.50
Low TP / $26.00
High TP / $30.00
For more detail on valuation criteria by individual brokerage analysts, refer to the ‘Valuation’ tab of the HE spreadsheet.
Long-Term Growth
Out of the six equity analysts following HE, five forecast a long-term EPS growth rate with an average of 3.1%. Estimated LTG rates range from 2% (Piper Jaffray) to 5% (Janney Montgomery).
Future prospects of Hawaiian Electric appear bright, taking into account the stable earnings generated by regulated electric operations, and the growing contribution from banking services as a result of the improving Hawaiian and Japanese economies. In order to address rising costs at the company’s electric utilities and the current low rate of return, management plans to file for rate increases, which, if approved, will add to future earnings. Moreover, ASB, a growing thrift located solely in Hawaii with approximately 16% market share, has modified its traditional savings and loan operational focus to pursue a commercial lending and fee-based growth strategy.
The company’s Hawaiian Electric utility has filed a request with the Hawaii Public Utilities Commission for a net $74.2MM increase in electric rates for its operation on the island of Oahu. The request consists of a $98.6MM increase in base electric rates, which includes the transfer to base rates of $24.4MM of surcharge revenue for already existing energy conservation programs. The company expects the hearing to take place in Q3’05 with a decision on interim rates expected duringQ4’05. The(Merrill Lynch) analyst believes that if increased rates are accepted by the Commission it will result in $0.15 per share earnings accretion, althoughthe impact would not affect earnings until 2006.
The (Robert W. Baird) analyst believes HE is expected to benefit over the long-term from a rebound in Hawaii’s economy reflecting robust construction activity, improving tourism activity and rate relief.
Upcoming Events
Earnings Announcement / 19 th April,2005.Individual Analyst Opinions
POSITIVE RATINGS (0%)
None.
NEUTRAL RATINGS (67%)
AG Edwards –Hold ($26):The analyst reiterates Hold rating with a $26price objective. Analyst believes that a sustained flatter yield curve would likely hurt bank earnings and higher interest rates could reduce the relative attractiveness of HE’s annual dividend to investors.
Janney Montgomery – Hold – ($28): The analyst reiterates Hold rating with a $28 price target. Analyst feels that investors should be pleased with HE’s generous dividend yield. Analyst justifies the neutral rating with a belief that stock is fully-valued at current levels and particularly with a major electric rate case coming up.
Piper Jaffray–Market Perform – ($26):The analyst maintains Market Perform rating for the stock and views the company’s revenue growth outlook as positive. Analyst also believes rising inflation, higher fuel costs and unexpected maintenance and repair expenses could erode earnings going forward.
Robert W. Baird – Neutral– ($30): The analyst reiterated Neutral rating expecting average total returns from HE’s current price level near-term. Analyst believes lower business risk, improving balance sheet strength and an attractive dividend yield make HE a core utility holding.
NEGATIVE RATINGS (33%)
D.A. Davidson – Underperform – ($26): The analyst reiterates Underperform rating for the stock with $26 price objective. Analyst believes forward earnings will be aided by absence of an adverse bank franchise tax ruling, and higher electric rates will also help the cause.
Merrill Lynch – Sell:The analyst reiterates Sell rating for the stock. Analyst believes the company is currently facing a double–edged sword with respect to interest rates. The analyst believes thatif long-term interest rates remain low and the yield curve continues to flatten, the bank will face narrowing margins, while conversely, higher rates could hurt bond proxy utility stocks. Analyst further believes that, although the dividend yield of HE is slightly improved and the utility has strengthened, the stock’s high current valuation is unwarranted.