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HE > SEC Filings for HE > Form 10-K on 21-Feb-2014All Recent SEC Filings

Show all filings for HAWAIIAN ELECTRIC INDUSTRIES INC

Form 10-K for HAWAIIAN ELECTRIC INDUSTRIES INC


21-Feb-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

HEI and Hawaiian Electric (in the case of Hawaiian Electric, only the information related to Hawaiian Electric and its subsidiaries):
The following discussion should be read in conjunction with the Consolidated Financial Statements. The general discussion of HEI's consolidated results should be read in conjunction with the electric utility and bank segment discussions that follow.
HEI Consolidated

Executive overview and strategy. HEI is a holding company that operates subsidiaries (collectively, the Company), principally in Hawaii's electric utility and banking sectors. HEI's strategy is to build fundamental earnings and profitability of its electric utilities and bank in a controlled risk manner to support its current dividend and improve operating and capital efficiency in order to build shareholder value.
HEI, through its electric utility subsidiaries (Hawaiian Electric and its subsidiaries, Hawaii Electric Light and Maui Electric), provides the only electric public utility service to approximately 95% of Hawaii's population. HEI also provides a wide array of banking and other financial services to consumers and businesses through its bank subsidiary, ASB, one of Hawaii's largest financial institutions based on total assets. Together, HEI's unique combination of electric utilities and a bank continues to provide the Company with a strong balance sheet and the financial resources to invest in the strategic growth of its subsidiaries while providing an attractive dividend for investors. In 2013, net income for HEI common stock was $162 million, up $23 million from $139 million in 2012 primarily due to the Utilities' writedown in 2012 of $24 million (net of taxes) of project costs in lieu of conducting regulatory audits. ASB had slightly lower net income in 2013 compared to 2012 and the "other" segment had slightly lower losses. Basic earnings per share were $1.63 per share in 2013, up 14% from $1.43 per share in 2012 due to the effects of the impact of the Utilities $24 million (net of taxes) writedown in 2012. The Utilities' strategic focus has been to meet Hawaii's energy needs by modernizing and adding needed infrastructure through capital investment, placing emphasis on energy efficiency and conservation, pursuing renewable energy generation and taking the necessary steps to secure regulatory support for their plans. Electric utility net income for common stock in 2013 of $123 million increased 24% from the prior year due primarily to the 2012 writedown of $24 million (net of taxes) of project costs in lieu of conducting regulatory audits. Key to results for 2014 will be the impacts of actions taken under the Hawaii Clean Energy Initiative (HCEI) and Energy Agreement, including the steps taken toward the integration of new generation from a variety of renewable energy sources into the utility systems, and managing operation and maintenance expenses to the levels included in rates.
ASB continues to develop and introduce new products and services in order to meet the needs of both consumer and commercial customers. Additionally, ASB is making the investments in people and technology necessary to adapt to a constantly changing banking industry and remain competitive. ASB's earnings in 2013 of $57.5 million decreased $1.1 million compared to prior year net income due primarily to lower net interest and noninterest income and higher noninterest expenses, partly offset by a lower provision for loan losses. In 2013, ASB earnings were also impacted by lower debit card interchange fees as a result of being non-exempt from the Durbin Amendment from July 1, 2013 and the sale of its credit card portfolio. ASB's future financial results will continue to be impacted by the interest rate environment and the quality of ASB's loan portfolio.
HEI's "other" segment had a net loss in 2013 of $18.9 million, comparable to the net loss of $19.3 million in 2012.
Shareholder dividends are declared and paid quarterly by HEI at the discretion of HEI's Board of Directors. HEI and its predecessor company, Hawaiian Electric, have paid dividends continuously since 1901. The dividend has been stable at $1.24 per share annually since 1998. The indicated dividend yield as of December 31, 2013 was 4.8%. The dividend payout ratios based on net income for common stock for 2013, 2012 and 2011 were 76%, 87% and 86%, respectively. The HEI Board of Directors considers many factors in determining the dividend quarterly, including but not limited to the Company's results of operations, the long-term prospects for the Company, and current and expected future economic conditions.
HEI's subsidiaries from time to time consider various strategies designed to enhance their competitive positions and to maximize shareholder value. These strategies may include the formation of new subsidiaries or the acquisition or disposition of businesses. The Company may from time to time be engaged in preliminary discussions, either internally or with third parties,


regarding potential transactions. Management cannot predict whether any of these strategies or transactions will be carried out or, if so, whether they will be successfully implemented.
Economic conditions.
Note: The statistical data in this section is from public third-party sources (e.g., Department of Business, Economic Development and Tourism (DBEDT); University of Hawaii Economic Research Organization, U.S. Bureau of Labor Statistics; Blue Chip Economic Indicators; U.S. Energy Information Administration; Hawaii Tourism Authority (HTA); Honolulu Board of REALTORS®; Bureau of Economic Analysis and national and local newspapers).
Hawaii's tourism industry, a significant driver of Hawaii's economy, set a new record in 2013 with visitor arrivals growing by 2.6% over 2012 to 8.2 million arrivals. Visitor expenditures also grew 2.0% in 2013 compared to 2012 to over $14.5 billion. The good news was tempered, however, as strong growth in state visitor arrivals and expenditures in the first half of 2013 was partially offset by lower than 2012 arrivals and expenditures in the second half of the year. Hotel occupancies and average daily hotel room rates remained strong. The outlook for the visitor industry remains positive, but is expected to expand at a slower pace in 2014. The HTA expects scheduled nonstop seats to Hawaii for the first quarter of 2014 to increase by 2.4% over the first quarter of 2013, based on the expectation that airlift capacity declines in U.S. markets will be offset by increases in international flights.
For the first time since November 2008, the U.S. unemployment rate fell below 7% in December 2013. Hawaii's unemployment rate was relatively stable at 4.5% in December 2013, lower than the state's 5.1% rate in December 2012 and the December 2013 national unemployment rate of 6.7%.
Hawaii real estate activity, as indicated by the home resale market, was strong in 2013 as the median sales price for single family residential homes on Oahu increased 4.8% and the number of closed sales increased 4.6% over 2012. Oahu condominiums also maintained strong momentum as the median sales price rose 4.6% and closed sales increased 11.8% in 2013 over 2012. Strengthening interest in new housing was reflected in increased development activity. The announcements of several new planned condominium developments in Honolulu, at various price points from workforce housing to luxury projects, were met with immediate interest and generated strong pre-sale demand. In November 2013, Castle & Cooke's Koa Ridge master plan for 3,500 single- and multi-family homes received Honolulu City Council and the Mayor's approval for a zoning change from agricultural land after more than ten years of public debate.
Hawaii's petroleum product prices reflect supply and demand in the Asia-Pacific region and the price of crude oil in international markets. The dramatic reduction in Japan's nuclear production following the tragic earthquake and tsunami in March 2011 increased regional demand for energy supplies, including petroleum, and the prices of the Utilities' fuels have accordingly remained at the elevated 2011 level through 2013.
At its January 28-29, 2014 meeting, the Federal Open Market Committee (FOMC) saw quickening economic activity in recent quarters and improvement in labor market conditions as consistent with a strengthening in the broader economy. In light of the cumulative progress toward improved labor market conditions, the FOMC decided to continue to take measured steps to modestly reduce the pace of purchases of Treasury and agency mortgage-backed securities beyond the steps the FOMC had taken after its meeting in December 2013. The FOMC also indicated that if economic data continues to support the outlook of ongoing improvement, the pace of asset purchases would likely be further reduced. The FOMC emphasized that asset purchases are not on a preset course and are still contingent on FOMC evaluation.
On October 1, 2013, the U.S. government began a new fiscal year with no spending legislation enacted and as a result, a partial federal shutdown took effect. On October 16, 2013, the government shutdown ended when Congress passed legislation on a budget through January 15, 2014 and raised the government debt ceiling to provide the U.S. Treasury with borrowing authority through February 7, 2014. A final $1.1 trillion U.S. budget was approved with relative ease in January 2014. Overall, Hawaii's economy is expected to see continuing growth in 2014 and 2015. Local economic growth is expected to be supported by continued recovery in the construction industry and steady, but slower growth in the visitor industry. U.S. fiscal problems, continued uncertainty in global economies, heightened tensions in Asia and potential pandemics pose possible risks to local economic growth.
Recent tax developments. The Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 contained major tax provisions that impacted the Company through 2012, including the 50% and 100% bonus depreciation provisions for qualified property that resulted in an estimated net increase in federal tax depreciation of $131 million for 2012 over depreciation to which the Company would otherwise be entitled without the bonus provisions. The additional depreciation is attributable to the Utilities. In January 2013, the American Taxpayer Relief Act of 2012 was signed into law and provided a one year extension of 50% bonus depreciation, which increased the Company's federal tax depreciation for 2013 by an estimated


$131 million, primarily attributable to the Utilities. Congress has not extended the bonus depreciation provision and therefore no significant bonus depreciation will be taken on 2014 plant additions.
Also, see Note 12 of the Consolidated Financial Statements.
Health care reform. On June 28, 2012, the US Supreme Court upheld the Patient Protection and Affordable Care Act, the 2010 health care reform law. Currently, Hawaii's Prepaid Health Care Act generally provides greater benefits to employees and dependents because of cost sharing limitations. The Company will continue to comply with its obligations under these laws and to monitor the interaction of the state and federal laws. Results of operations.
(dollars in millions, except per share

amounts)                                   2013     % change         2012     % change         2011
Revenues                               $  3,238           (4 )   $  3,375            4     $  3,242
Operating income                            315           11          284           (2 )        290
Net income for common stock                 162           16          139            -          138
Net income (loss) by segment:
Electric utility                       $    123           24     $     99           (1 )   $    100
Bank                                         58           (2 )         59           (2 )         60
Other                                       (19 )         NM          (19 )         NM          (22 )
Net income for common stock            $    162           16     $    139            -     $    138
Basic earnings per share               $   1.63           14     $   1.43           (1 )   $   1.45
Diluted earnings per share             $   1.62           14     $   1.42           (1 )   $   1.44
Dividends per share                    $   1.24            -     $   1.24            -     $   1.24
Weighted-average number of common
shares outstanding (millions)              99.0            2         96.9            1         95.5
Dividend payout ratio                        76 %                      87 %                      86 %

NM Not meaningful.

See "Executive overview and strategy" above and the "Other segment," "Electric utility" and "Bank" sections below for discussions of results of operations. Retirement benefits. The Company's reported costs of providing retirement benefits are dependent upon numerous factors resulting from actual plan experience and assumptions about future experience. For example, retirement benefits costs are impacted by actual employee demographics (including age and compensation levels), the level of contributions to the plans, plus earnings and realized and unrealized gains and losses on plan assets, and changes made to the provisions of the plans. During 2011, for example, the qualified retirement plan for employees of HEI and Hawaiian Electric was changed for employees hired on or after May 1, 2011. Those employees will receive lower benefit accruals, different early retirement reduction factors and no automatic cost of living increases. The change is expected to decrease ongoing costs through a reduction in service cost. (See Note 10 of the Consolidated Financial Statements.) Costs may also be significantly affected by changes in key actuarial assumptions, including the expected return on plan assets and the discount rate. The Company's accounting for retirement benefits under the plans in which the employees of the Utilities participate is also adjusted to account for the impact of decisions by the Public Utilities Commission of the State of Hawaii (PUC). Changes in obligations associated with the factors noted above may not be immediately recognized as costs on the income statement, but generally are recognized in future years over the remaining average service period of plan participants.
The assumptions used by management in making benefit and funding calculations are based on current economic conditions. Changes in economic conditions will impact the underlying assumptions in determining retirement benefits costs on a prospective basis.
For 2013, the Company's retirement benefit plans' assets generated a gain of 20%, net of investment management and trustee fees, resulting in net earnings and unrealized gains of $223 million, compared to net earnings and unrealized gains of $134 million for 2012 and net losses and unrealized losses of $12 million for 2011. The market value of the retirement benefit plans' assets for December 31, 2013 and 2012 were $1.4 billion and $1.1 billion, respectively. The Company intends to make contributions to the qualified pension plan for HEI and Hawaiian Electric equal to the calculated net periodic pension cost for the year. However, if the minimum required contribution determined under the Employee Retirement Income Security Act of 1974 (ERISA), as amended by the Pension Protection Act of 2006, for the year is greater than the net periodic pension cost, then the Company will contribute the minimum required contribution and the


Utilities' difference between the minimum required contribution and the net periodic pension cost will increase their regulatory asset. In the next rate case, the regulatory asset will be amortized over five years and used to reduce the cash funding requirement based on net periodic pension cost. The regulatory asset may not be applied against the ERISA minimum required contribution. The net periodic pension cost is expected to be higher than the ERISA minimum required contribution for 2014. Therefore, to satisfy the requirements of the electric utilities' pension tracking mechanism, net periodic pension cost will be the basis of the cash funding for 2014. Based on plan assets as of December 31, 2013 and various assumptions in Note 10 of the Consolidated Financial Statements, the Company estimates that the cash contributions to the plans for 2014 will be $59 million ($1 million for HEI and $58 million for the Utilities).
Based on various assumptions in Note 10 of the Consolidated Financial Statements and assuming no further changes in retirement benefit plan provisions, information regarding consolidated HEI's and consolidated Hawaiian Electric's retirement benefits was, or is estimated to be, as follows, and constitutes "forward-looking statements:"

                        AOCI debit/(credit), net of taxes (benefits),
                                         related to                               Retirement benefits expense,                       Retirement benefits paid
                                retirement benefits liability                          net of tax benefits                               and plan expenses
                                         December 31                                 Years ended December 31                          Years ended December 31
                                                                            (Estimated)
(in millions)                    2013                            2012              2014      2013      2012      2011          2013                    2012        2011
Consolidated HEI      $            13                 $            36     $          20     $  21     $  22     $  22     $      70                 $    68     $    66
Consolidated Hawaiian
Electric                           (1 )                             1                19        18        20        21            65                      63          61

Based on various assumptions in Note 10 of the Consolidated Financial Statements, sensitivities of the projected benefit obligation (PBO) and accumulated postretirement benefit obligation (APBO) as of December 31, 2013, associated with a change in certain actuarial assumptions, were as follows and constitute "forward-looking statements."

                                                                           Impact on
                                                          Impact on       Consolidated
                                                             HEI            Hawaiian
                                    Change in assumption Consolidated       Electric
Actuarial assumption                  in basis points    PBO or APBO      PBO or APBO
(dollars in millions)
Pension benefits
Discount rate                       '+/- 50               $(95)/$106       $(87)/$97
Other benefits
Discount rate                       '+/- 50                (11)/12          (10)/11
Health care cost trend rate         '+/- 100                5/(5)            5/(5)

The impact on 2014 net income for common stock for changes in actuarial assumptions should be immaterial based on the adoption by the electric utilities of pension and postretirement benefits other than pensions (OPEB) tracking mechanisms approved by the PUC. See Note 10 of the Consolidated Financial Statements for further retirement benefits information.

Other segment.
(dollars in millions)  2013    %  change   2012    %  change    2011
Revenues 1            $  -            NM   $ -            NM   $ (1 )
Operating loss         (17 )          NM   (17 )          NM    (17 )
Net loss               (19 )          NM   (19 )          NM    (22 )

1 Including writedowns of and net gains and losses from investments.

NM Not meaningful.

The "other" business segment includes results of the stand-alone corporate operations of HEI and American Savings Holdings, Inc. (ASHI), both holding companies; HEI Properties, Inc., a company holding passive, venture capital investments (venture capital investments with a carrying value of $0.5 million as of December 31, 2013); The Old Oahu Tug Service, Inc., a maritime freight transportation company that ceased operations in 1999; and Pacific Energy Conservation Services, Inc., a contract services company which provided windfarm operational and maintenance services to an affiliated electric utility until the windfarm was dismantled in the fourth quarter of 2010 and dissolved in the second quarter of 2011; as well as eliminations of intercompany transactions.


HEI corporate-level operating, general and administrative expenses were $16 million in 2013 compared to $16 million in 2012 and $15 million in 2011. In 2013, HEI had higher administrative and general expenses, including retirement benefits, partly offset by lower executive compensation. In 2012, HEI had higher executive compensation and employee benefits expenses, including retirement benefits.
The "other" segment's interest expenses were $16 million in 2013, $16 million in 2012 and $22 million in 2011. In 2013, $50 million of long-term debt was refinanced at a lower interest rate. In 2012, HEI had lower average borrowings and interest rates. The "other" segment's income tax benefits were $14 million in 2013, $15 million in 2012 and $17 million in 2011.
Effects of inflation. U.S. inflation, as measured by the U.S. Consumer Price Index (CPI), averaged 1.5% in 2013, 2.1% in 2012 and 3.2% in 2011. Hawaii inflation, as measured by the Honolulu CPI, was 2.4% in 2012, 3.7% in 2011 and 2.1% in 2010. DBEDT estimates average Honolulu CPI to have been 1.7% in 2013 and forecasts it to be 2.1% for 2014.
Inflation continues to have an impact on HEI's operations. Inflation increases operating costs and the replacement cost of assets. Subsidiaries with significant physical assets, such as the electric utilities, replace assets at much higher costs and must request and obtain rate increases to maintain adequate earnings. In the past, the PUC has granted rate increases in part to cover increases in construction costs and operating expenses due to inflation. Recent accounting pronouncements. See "Recent accounting pronouncements and interpretations" in Note 1 of the Consolidated Financial Statements. Liquidity and capital resources. The Company believes that its ability to generate cash, both internally from electric utility and banking operations and externally from issuances of equity and debt securities, commercial paper and bank borrowings, is adequate to maintain sufficient liquidity to fund its contractual obligations and commercial commitments, its forecasted capital expenditures and investments, its expected retirement benefit plan contributions and other cash requirements in the foreseeable future.
The Company's total assets were $10.3 billion as of December 31, 2013 and $10.1 billion as of December 31, 2012.
The consolidated capital structure of HEI (excluding deposit liabilities and other bank borrowings) was as follows:

December 31                                 2013               2012
(dollars in millions)
Short-term borrowings-other than bank $   105      3 %   $    84      3 %
Long-term debt, net-other than bank     1,493     45       1,423     45
Preferred stock of subsidiaries            34      1          34      1
Common stock equity                     1,727     51       1,594     51
                                      $ 3,359    100 %   $ 3,135    100 %

HEI's short-term borrowings and HEI's line of credit facility were as follows:

                                                                 Year ended
                                                              December 31, 2013
                                                         Average           End-of-period      December 31,
(in millions)                                            balance              balance             2012
Short-term borrowings 1
Commercial paper                                   $      68             $           105     $          84
Line of credit draws                                       -                           -                 -
Undrawn capacity under HEI's line of credit
facility (expiring December 5, 2016)                                                 125               125

1 This table does not include Hawaiian Electric's separate commercial paper issuances and line of credit facilities, which are disclosed below under "Electric utility-Financial Condition-Liquidity and capital resources. At February 7, 2014, HEI's outstanding commercial paper balance was $96 million and its line of credit facility was undrawn. The maximum amount of HEI's short-term borrowings in 2013 was $105 million.

HEI utilizes short-term debt, typically commercial paper, to support normal operations, to refinance commercial paper, to retire long-term debt, to pay dividends and for other temporary requirements. HEI also periodically makes short-term loans to Hawaiian Electric to meet Hawaiian Electric's cash requirements, including the funding of loans by Hawaiian Electric to Hawaii Electric Light and Maui Electric, but no such short-term loans to Hawaiian Electric were outstanding as of December 31, 2013. HEI periodically utilizes long-term debt, historically consisting of medium-term notes and other unsecured


indebtedness, to fund investments in and loans to its subsidiaries to support their capital improvement or other requirements, to repay long-term and short-term indebtedness and for other corporate purposes.
In March 2013, HEI entered into equity forward transactions in which a forward counterparty borrowed 7 million shares of HEI's common stock from third parties and such borrowed shares were sold pursuant to an HEI registered public offering. On December 19, 2013, HEI settled 1.3 million shares under the equity forward for proceeds of $32.1 million (net of the underwriting discount of $1.3 million), which funds were ultimately used to purchase common stock of Hawaiian Electric.
In November 2011, HEI filed an omnibus registration statement to register an indeterminate amount of debt and equity securities. Under Securities and Exchange Commission (SEC) regulations, this registration statement expires on November 4, 2014.
HEI has a line of credit facility of $125 million. See Note 7 of the Consolidated Financial Statements. The credit agreement, amended in December 2011, contains provisions for revised pricing in the event of a ratings change. For example, a ratings downgrade of HEI's Issuer Rating (e.g., from BBB/Baa2 to BBB-/Baa3 by Standard & Poor's (S&P) and Moody's Investors Service (Moody's), respectively) would result in a commitment fee increase of 5 basis points and an interest rate increase of 25 basis points on any drawn amounts. On the other hand, a ratings upgrade (e.g., from BBB/Baa2 to BBB+/Baa1 by S&P or Moody's, respectively) would result in a commitment fee decrease of 2.5 basis points and an interest rate decrease of 25 basis points on any drawn amounts. In addition to their impact on pricing under HEI's credit agreement, the rating of HEI's commercial paper and debt securities could significantly impact the ability of HEI to sell its commercial paper and issue debt securities and/or the cost of such debt. The rating agencies use a combination of qualitative measures (i.e., assessment of business risk that incorporates an analysis of the qualitative factors such as management, competitive positioning, operations, markets and regulation) as well as quantitative measures (e.g., cash flow, debt, interest coverage and liquidity ratios) in determining the ratings of HEI . . .

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