Description

Hawaiian Electric Industries, Inc.

Hawaiian Electric Industries (ticker: HE) is the electric utility for Hawaii that also owns American Savings Bank, a $7.4B asset bank. Despite the pandemic, both the bank and utility remain net cash flow providers to the holding company. HEI is in the process of implementing one of the largest renewable procurement efforts ever undertaken by a US utility, while retiring the coal and oil-fired generation plants upon which Hawaii has historically been dependent. Near-term renewable projects should drive 2020 year-end RPS from 31% to potentially 50% by EOY 2022.

Hawaiian Electric recently added a board member from ValueAct. HEI is a position in the ValueAct Spring Fund, which seems to be ValueAct’s ESG oriented fund. Jeffrey Ubben presented a pitch of HE in October, 2018 at the Capitalize for Kids conference: https://www.marketfolly.com/2018/10/jeff-ubben-long-hawaiian-electric.html. At the time of Ubben’s presentation, the stock was trading around $35/share versus yesterday’s close of $38.90.

Hawaii has a unique path to renewable energy. The state decided that the LNG was not a suitable option as a transitional generation source given that the expenses of needed LNG infrastructure would not generate the cost savings that has occurred on the mainland as utilities have converted from coal to natural gas. Likewise, 100% renewable energy is simply not possible with utility-scale projects alone due to limited land availability. HEI estimates that 20% of the state would have to be covered with wind and solar projects to meet these energy needs. Thus, a customer-sited distribution generation is central to HEI’s renewables strategy as outlined below:

As a result, 19% of residential customers have rooftop solar. Since HEI’s distributed energy resources (DER) plans were begun in 2012, growth has averaged 24% annually.

While the majority of the stock’s value is derived from its utility, it makes sense to make a detour to the banking side in order to sort out the valuation components of HEI.

American Savings Bank (ASB) is predominantly a real estate lender, with 81% of their loan portfolio secured by real estate. This includes 21% of Home Equity Lines of Credit. 

The LTV’s across their real estate secured portfolio is remarkable, with residential at a 53.5% LTV, home equity at 40.4% LTV (with 54% of the portfolio in 1st lien position), and CRE at 50% of LTV. While one month doesn’t provide a lot of detail, April real estate transaction prices showed no evidence of decline in the Hawaiian real estate market.

American Savings Bank, prior to the introduction of COVID uncertainty, was on track toward NIM of 3.75% and ROA of 1.1%, resulting in bank EPS of $0.73 to $0.80 per share. Management has since updated their assumptions given that they have sufficient visibility to many factors, such as NIM and non-interest income and expenses, bringing pre-tax, pre-provision income expectations down from $125M to a current 2020 expectation of $90 to $110 million. However, provisions and credit outcome are simply too difficult to currently gauge, leading to no guidance on bottom line earnings or EPS.

ASB was able to secure $370 million Paycheck Protection Program (PPP) loans for 3600 small businesses, including 1,000 new customers. Hawaiian banks, in total, obtained funding for 78% of the states eligible payrolls in the first round. ASB financed these loans on its existing balance sheet, earning a fee of between 3% and 5%, and expects a significant portion of these loans to be forgiven as they come out of the second quarter.

ASB generated ROE’s of 13.5% while averaging net interest margin of 3.84% for the last two years, with efficiency ratios of 57.8% and 59.4%, respectively, for 2019 and 2018.

Hawaii is a fairly closed banking market, and as such ASB should command a decent valuation. On a simple rule-of-thumb, given a 30% cost save assumption on non-interest charges and a tax rate of 21%, a cost-saves adjusted P/E of 10x to 12x would suggest a valuation for the bank at perhaps $12.14 to $14.57 per share. Assumptions for this calculation were 2019’s net income of $89M, non-interest expense of $185M, and 109.365 million fully diluted shares.

Using yesterday’s close of $38.90, this nets out to approximately $26.50 per share for the utility.

Given HEI’s 2020 guidance for $1.46 to $1.54 in utility EPS, this approximates to 17.7x P/E for the utility:

Adjusting its P/E to 17.7x to account for its bank holding, HE’s valuation turns out to be a couple turns below its peers (the table below from Bloomberg is how most data providers would calculate its multiple):

Generally speaking, the range of multiples for electric utilities shouldn’t demonstrate much variety. It is interesting to note that a relatively pure ESG play such as Hawaii moving toward its goal of 100% renewable energy is still trading at a discount to its peers, adjusted for American Savings Bank. In December, 2014, when Nextera Energy offered to acquire HEI, the plan was that HE shareholders would receive the bank in a separate spin-off. Given HEI’s program of having a distributed energy grid, it would undoubtedly be preferable to retain the bank given it can provide financing for rooftop solar installations for its residential customers, a profitable business that further ties the customer to the lender.

Utility profitability is very much tied in to efficiencies, regulated rates, and ROI’s for generation projects. The monopoly provider of electricity in a state as isolated as Hawaii should arguably trade at a very low earnings yield, and that is without any growth assumptions. As Hawaii transitions to renewable energy, it should become a model of growth and savings in an ESG framework.

Getting back to ValueAct’s original commentary in December, 2018 (https://www.cnbc.com/2018/10/25/activist-hedge-fund-manager-ubben-adds-stake-in-hawaiian-electric.html):

“This opportunity is akin to being an open, smart resilient grid ... [it’s] an Amazon-like opportunity. You haven’t had electricity as a growth business in a long, long time,” Ubben said from the C4K conference. “We need to empower an electric power infrastructure. Hawaii is the perfect place to do that.”

The fund manager cited an independent study during his presentation that found that if current technology was fully deployed on Hawaii, the state could run on more than 80 percent renewable energy and rake in $6.5 billion in savings. In 2017, half of all petroleum burned for electricity in the United States was burned in Hawaii, according to his presentation.

Disclaimer: The views and analysis expressed in this post are solely my own and do not represent the views, analysis, or opinion of our firm or any other entity with which I have been or am now affiliated with or employed by.  The content of this post is solely for informational purposes. It is critical to perform your own independent analysis and consult with a financial professional prior to making any and all investment decisions.

Catalyst

Increased recognition of ESG attractiveness.

Awareness of bank's excellent LTV metrics and low risk profile.

Accelerated progress toward growth oriented renewables goals given ValueAct's increasing involvement.