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Executives

Shelee Kimura – Manager, IR and Strategic Planning

Connie Lau – President and CEO

Jim Ajello – EVP, CFO and Treasurer

Richard Rosenblum – President and CEO, Hawaiian Electric Company, Inc.

Analysts

Ashar Khan – Visium

Andrew Weisel – Macquarie Capital

Bryce Rowe – Robert W. Baird

David Paz – Bank of America Merrill Lynch

Jim Krapfel – Morningstar

Jackie Shemara – KBW

Hawaiian Electric Industries, Inc. (HE) Q4 2011 Earnings Call February 9, 2012 1:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the 2011 and Fourth Quarter Hawaiian Electric Industries Earnings Conference Call. My name is Alisha, and I will be your operator 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 Instruction) As a reminder, this conference is being recorded for replay purposes.

I would now like to introduce Ms. Shelee Kimura, Manager of Investor Relations and Strategic Planning. Please proceed Ma’am.

Shelee Kimura

Thank you, Alisha, and welcome to Hawaiian Electric Industries’ 2011 yearend and fourth quarter earnings conference call. I am Shelee Kimura, and joining me today 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.

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.

Connie Lau

Thank you, Shelee and aloha to everyone. I’m pleased to report that 2011 was a strong year for the company. Earnings per share was up 19% for the year. Similarly our 2011 consolidate ROE improved to 9.2% from 7.8% in 2010. The bank’s strong ROE of 12% contributed to the consolidated results as the utilities’ ROE of 7.3% continues to improve. The regulatory restructuring for our Oahu utility was largely completed this year. But we also recognize there is more to do. Our bank continued to deliver strong performance and increased earnings in a challenging regulatory and economic environment. Profitability metrics remains strong, credit quality improved and our loan portfolio improved.

Our bank is one of the better performing banks in its class across the country. Other result HE achieved a 22% total return to shareholders in 2011. We believe we are well positioned to continue to deliver attractive risk adjusted returns, good yield and earnings growth to our investors in 2012 and beyond.

Turning to slide three, our utilities worked with Hawaaii Public Utilities Commission to achieve several key milestones in 2011. We initiated the regulatory restructuring needed to align with the state’s clean energy policy with the commencement of the decoupling for our Oahu utility in March 2011. In July, we were granted an interim rate increase in our Oahu 2011 rate case. Under the three years cycle instituted under the couplings Oahu will not file for another rate case until the 2014 test year.

Our Maui utility filed a 2012 rate case and we are currently preparing to file the 2013 rate case this summer for our Hawaii Island facility. Late yesterday we received HELCO’s final decision for its 2010 rate case, which included the following key items. Approval of the couplings and allowed ROE of 10% which is consisted with HECO Oahu’s decoupling ROE and the setting of heat rate targets and debt bond also similar to HECO overall. As noted previously, the debt bound is expected to eliminate efficiency gained, which added 100 basis points to HECO earns returns in 2011. We will issue an 8-K shortly which will provide detail, but we wanted to provide you with a quick summary now.

We also initiated another program reviewed and improved by the PUC all of which contribute to our Clean Energy success including lower time of use rate per electric vehicle charging and now approximately one-third of new EV owners are taking advantage of this program. And Tier 3 of our feed-in tariff which focuses on larger generating units such as wind with projects ranging from 501 kilowatt up to 5 megawatts.

In 2011 we added 145 megawatts of renewables for a total of approximately 550 megawatt. In 2011, renewable energy supplied more than 10% of our customers’ energy use and as high as 40% on the Island of Oahu. Much of the renewable energy we are contracting for today is cost competitive with our fossil fuel generation and will provide long-term price stabilization for our customers.

In terms of customer bills it has gotten much harder for the average customer in the last year, but not from rate increases. On the Island of Oahu the typical electric bill went from $158 per month at the beginning of 2011 to $219 per month at the end of the year, an increase of 39% with $57 due to rise in fuel cost and $4 or just about 2% from rate increases and other adjustments such as the public benefits fund.

As this chart shows oil price increases have dramatically increased what our customer pay and as the overwhelming reason for higher builds and the reason that are state policy maker want to reduce of Hawaii’s dependence on oil. For those of you not familiar with the Hawaii oil situation, our prices are determined by the Asia-Pacific market and they have been significantly higher than the crude oil prices on the Mainland U.S. owing to the disruption occasions that is tragic earthquake and tsunami in 2010 in March, 2011. The dramatic reduction in nuclear production has increased regional demand for oil.

As slide five shows while Mainland U.S. crisis declined from a peak in April, our prices have remain consistently high for most of the year. In this environment replacing imported oil with local renewal resources makes not only environmental but economic sense for our customers and our utility.

Looking forward to 2012, we have three major regulatory priorities, decoupling implementation for our Maui County utility, the Maui Country 2012 test year rate case and resolution of the regulatory audits include in the HECO 2011 test year interim decisions, one of which was recently settled and which Jim will discuss later.

The utility continues to work with the commission and others on the timely recovery of cost as we continue to implement our new regulatory model. However, the commission continues to be resource constrained and burdened numerous sockets stemming from Hawaii Clean Energy initiative. With HECO Oahu decoupled, our utility is focused on aligning its operation to the new business models across all three utilities and we continue to target an 8.5% ROE for HECO Oahu or 85% of our allowed returns in 2012.

Turning to the bank on slide seven, we outperformed the average of our high performing peers and net or exceeded almost all of our performance targets. We maintained the efficiency gains achieved in our 2010 performance improvement projects and achieved higher returns. All this despite the headwinds of the prolonged low interest rate environment, flat yield curve and regulatory impacts.

Return on assets was 1.23% higher than last year and significantly higher than peers. Net interest margin of 4.12% for 2011 was consistent with our target of plus 4% and exceeded our high performing peers. Non-interest expense of $143 million meet our target and our efficiency ratio of 57% was also favorable to our high performing peers. Pre-tax, pre-provision income was $107 million, which is within the $105 million to $110 million range we guided last quarter. This is slightly below our original target, which did not assume the prolonged flat yield curve, which became evident in mid 2011.

In executing the bank’s strategy to grow its loans, it made nice progress in the home equity line of credit or HELOC portfolio ranking number one in HELOC production in the state and growing the portfolio by 29%. And home equity loans in other parts of the nation are exhibiting weakness, HELOC remain an attractive asset class in Hawaii.

In addition the bank’s commercial markets or C&I portfolio also grew by 30% in 2011. The bank also introduced new products such as clean energy customer financing for TVs and solar water installation vendors. The bank continues to deliver strong performance while maintaining its low ricks profile, strong balance sheet, terrific funding base, and straight forward business model.

Looking forward, the bank continues to execute on its strategic plan to prudently grow the franchise and remain a safe and high performing community bank. For 2012 we’re targeting return on assets of 115 basis points to 120 basis points, low to mid single-digit loan growth; net interest margin of approximately 4%, an efficiency ratio in the mid 50s comparables to last year and pre-tax pre-provision income of $100 million to $105 million. While our targets are slightly lower than last year they reflect the sustained low interest environment and should continue to be attractive relative to peers.

I’ll now ask Jim to provide additions details and insight of the results and outlook for 2012.

Jim Ajello

Thanks, Connie. As a backdrop to our results and outlook we are cautiously optimistic about the Hawaii economy. Tourism industry, a significant driver of Hawaii’s economy maintained a positive growth trend in 2011. December visitor arrivals rose to 7.8% and visitor expenditure grew an outstanding 20.5% compared to the same month last year. This marks the 20th straight month of increases in visitor expenditures and the highest one month total on record.

December strong performance resulted in the full year visitor expenditures increasing for the second highest level of visitor spending in the Ireland just short of the 2007 peak. For the full year 2011, visitor arrivals were up 3.8%, with double-digit performance gains from Canada and Australia that enjoyed favorable exchange rate. 2012 outlook for the visitor industry remains positive. Hawaii’s unemployment rate of 6.6% continues to attract significantly better than the national rate of 8.5% in December. In Honolulu County, December unemployment rate dipped to 5.3% from 5.7% in November.

December residential home prices were up and sales volumes were down on most island. Overall despite the downside risk in Mainland, U.S. and Europe Hawaii economists expect modest growth of the Hawaii economy in 2012.

Turning to our earnings results on slide 10, full year 2011 EPS was $1.44 up 19% compared to $1.21 in 2010. Fourth quarter 2011 EPS was $0.36 per share compared to $0.26 per share in the same quarter last year. At the holding company quarter fourth quarter included the $3 million contribution by the holding company with the HEI Charitable Foundation in 2011. On a net income basis HEI earned $138 million in 2011, $45 million higher than 2010.

On slide 11, utility net income for the fourth quarter of 2011 was $25.8 million compared to $18.9 million in the fourth quarter of 2010. The $7 million increase was largely driven by $7 million of additional after tax revenue attributed to the rate cases for our Oahu and Hawaii Island utilities and the implementation of decoupling for Oahu, $9 million of lower O&M expenses, largely due to the timing of major overhauls occurring in the fourth quarter of 2010, regulatory changes associated with capital position of cost across, higher retirement benefit expense and a non-recurring insurance claims settlement in 2011 of $1 million.

These were partially offset by $6 million for non-recurring tax settlement items in 2010, $6 million for partial write-down of the East Oahu transmission project resulting from recent settlement agreement and subject to PUC approval.

At the bank net income for the fourth quarter of 2011 was $15.3 million compared to $15.5 million in the linked quarter and $13.3 million in 2010. The linked quarter was essentially flat and the $2 million increase compared to the fourth quarter of 2010 is primarily attributable to lower provisions for loan losses. Now, we’ll look at the utilities more closely.

Slide 13 shows our actual versus allowed ROEs for 2011 as a percent of allowed. Our consolidated utility ROE was 7.3% in 2011, improved from 5.8% in 2010. Our largest utility on Oahu earned 6.4% ROE approximately 64% of its allowed return. As Connie mentioned, we are targeting to achieve an ROE of 8.5% through Oahu.

Turning to slide 14, we continue our progress in narrowing the ROE gap beyond 2012 in addition to our expected normal three-year rate case cycle for each utility; we need to address the ROE leakage inherent in our new decoupled regulatory model. Few elements standout as the primary focus. Eliminating the five months lag in rate case interim decision and the decoupling round, obtaining the appropriate mechanism for including large software projects into the rate base in a timely manner. In particular our customer information system that’s scheduled to go live in second quarter of 2012 without an appropriate mechanism recovery for each utility will not commence until each utility’s next rate case. As of 2011 yearend $43 million has been incurred on this project.

In addition we’re focused on resolving the regulatory audits for our CT-1 biofueled generating unit in our customer information system discussed above. Settlement agreement for the east Oahu transmission project is subject to PUC approval.

We have increased our five year capital expenditure forecast to approximately $2.6 billion to $3 billion, which is about 2 to 4 times depreciation each year. There are significant items included in our five year forecast that could change overtime. These include $600 million to $800 million of new generations, $500 million to $600 million of environmental compliance, $250 million to $300 million for fuel infrastructure investment and $70 million to $100 million for Interisland wind shore-side facilities.

These expenditures depend on external factors such as the ultimate timing and technical requirements for environmental compliance and regulatory approval and timing of fuel infrastructure, interisland wind shore-side facilities, which are also dependent on permitting third party activity.

New generation is subject to competitive bidding. Balance of our capital expenditure forecast or approximately $1.2 billion is comprised mainly of routine system capital and this forecast could change overtime. The five-year compounded annual growth rate for rate base is estimated to range between 7% to 9%.

Slide 16, summarizes the key utility earnings drivers for 2012 that I discussed as well as few additional items. We expect to implement our Oahu RAMs effective June 2012 subject to PUC review. Having just received approval yesterday, we implement decoupling at our Hawaii Island utility kilowatt hour sales will only continue to be a key driver for MECO.

We expect MECO kilowatt hour sales to be 1% higher than 2011, which equates to about $1 million in net income impact. In 2012, O&M expenditures are expected to increase by 6% and rate base growth is expected to be 4% to 5%. Overall, our utility continues to focus on the major regulatory tasks ahead aligning its operation to the new regulatory model and executing the clean energy and reliability CapEx program.

Now, we’ll look more closely at the bank’s strong performance metrics. On slide 18, our net interest margin was 4.12% in 2011 and 4.16% in the fourth quarter of 2011, 5 basis points above the linked quarter and well above our high performing peers. The 5 basis point improvement in net interest margin in the linked quarter was primarily due to lower cost to funds and the recognition of deferred loan fees from higher residential mortgage refinancing. Our liability cost of 29 basis points in the fourth quarter 2011 is extremely low by industry comparison and is driven by our lower cost deposit base. We do not expect our liability cost to decrease further. The bank reported $4.1 million of provisions for loan losses for the fourth quarter, compared to $3.8 million in the linked quarter.

The annual provision of $15 million improved by $5.9 million compared to 2010 and was consistent with our expectations of being in the lower end of our 2011 guidance of $15 million to $20 million. The overall improvement is due to the improvement in the asset mix with higher risk loans, specifically land loans being replaced with lower risk loan. In addition, we saw improved credit quality associated with the modest year-over-year recovery in the Hawaii economy.

We are very pleased with the bank’s loan growth with five consecutive quarters of increase. In the fourth quarter, loans grew by $20 million. Growth primarily in commercial market or C&I in the home equity lines of credit more than offset the planned decline in residential mortgages, related to controlling interest rate risk in this environment. For the year, loans increased by $148 million or 4.2%, which was in line with our expectation of mid-single digit loan growth in 2011.

Slide 21 is our balance sheet, which shows you the asset and funding mix of both ASB and our peer bank. 96% of our loan portfolio was funded with our low cost core deposit versus our peer banks of 84%. Over the year, deposits increased by $95 million, we’re able to reduce our higher cost in CDs by $122 million or 18% and grow our lower costing core deposits by $217 million or 7%. This result is an additional reduction in the cost of funds which benefited around NIM in 2011. Going forward we expect CDs to remain stable or gradually rise as we lengthen the duration of our liabilities in order to manage interest rate risk.

We remain well capitalized with a Tier 1 leverage ratio of 9%, tangible common equity to total assets of 8.3% and total risk based capital of 12.9% at December 31, 2011. In addition ASB paid dividend of $58 million to HEI in 2011 or 97% of its earnings.

Turning to credit quality ASB’s non-performing assets ratio was 2.01% at the end of the fourth quarter and remained better than its high performance periods. The 7 basis points increase from the linked quarter was primarily due to two commercial loans that remained as current. Our primary credit risk continue to be in pre-rapidly shrinking loan portfolio.

These include $45 million in residential loans primarily on the neighbor island, land loans on the neighbor island, $261 million of neighbor island 1-to-4 residential family mortgages produced from 2005 to 2007. And $77 million of self-amortizing portfolio of Mainland residential loans purchased. These three portfolios totaling $383 million were down $83 million or 18% prior year.

On slide 23, our net loan charge-off ratio was 48 basis points for the quarter and remains low and as an improvement from the 54 basis points in the last quarter. The allowance for loan losses currently represents roughly 1% of the outstanding loan at $37.9 million essentially flat with the last quarter and $2.7 million lower than the prior year level of $40.6 million. The reduction in the allowance was due to the improvement in our asset mix, higher quality loans which require lower levels of allowance. Looking forward and with a solid 2011 to build on, the primary drivers for 2012 are we capped here on slide 24.

Net interest income will be driven by our ability to achieve continued modest loan growth, but based on our expectation of the continued low interest rates; we expect pressure on our net interest income and NIM. We will focus on shorter duration adjustable rate products and control our interest rate risk to be well positioned to benefit from interest rate rise.

Non-interest income will be impacted by three primary drivers, first, the bank is focusing on improving fee revenue through expanded fee based products and services to better serve our customers. Second, we expect 2012 interchange revenues be approximately $1 million lower due to recent changes from our interchanged networks.

Lastly gains on sales loans are expected to lower in 2012 as refinancing subside, but actual results will depend on interest rates and loan origination volumes. On provision expense, we expect credit quality to gradually improve and as the economy improves, we expect provisions in the range of $13 million to $15 million for 2012. The improvement in credit quality should result in lower provisions related to charge-offs, but will be somewhat offset by higher loan loss reserves associated with expected loan growth.

On non-interest expense, we expect to maintain our run rate of $145 million with disciplined spending and efficient operation even as we grow the core franchise. Based on these expectations, net income is expected to be approximately 35 to 5% lower in 2012. Overall we are targeting to deliver strong results compared to our industry peers on our low cost funding base, efficient cost structure and lower risk profile.

Turning to our financing and liquidity picture, we continue to maintain a strong capital structure with a 52% consolidated equity total capitalization. Effective last month we switched back to new issuances of common stock to satisfy our dividend reinvestment plan, and other stock plan purchases. We expect to raise approximately $45 million in 2012 from these plans to invest in the utility. Based on our current assumptions we do not expect to require additional equity other than thru DRIP through 2012. ASP will continue to pay healthy dividend to HEI, but expects to reduce its $58 million cash dividend paid in 2011 to $45 million in 2012 in order to fund its planned growth while maintaining its target capital ratios of 9% in Tier 1 leverage and 13% total risk-based capital.

While we do not expect any long term debt financing at the holding company, the utility has PUC authorization to issue up to a $170 million of new debt and to refinance up to $311 million of existent debt in 2012 subject to market condition. In terms of our credit facilities HEI and HECO amended an extended their respective $125 million and $175 million line of credit facilities from the original termination date in 2013 to 2016.

Our financing plans assume consolidated pension contributions of $104 million in 2012 and $45 million in bonus depreciation, cash tax benefit. Many of you have asked about a dividend increase. We will consider an increase when we kind of consistently maintain a 65% payout ratio. At that point we will balance the dividend decision with consideration for other capital allocation options such as a capital expenditure program.

We will also consider our relative yields. Before I end, let me inform that the Office of the Comptroller of the Currency reporting requirements require our bank to file its financial results with ERCC 30 days after the end of quarter. As these filings are publically available we plan to issue a separate bank earnings release concurrent with the OCC filing starting with the first quarter of 2012.

Now, I would like to turn the call back to Connie.

Connie Lau

Thanks Jim. In summary, we have made significant strategic progress and it is now being reflected in our financial results. The utility continues to focus on successfully fulfilling our clean energy role in the state and achieving returns that will enable us to compete for capital and fund the upfront investments necessary to support Hawaii’s move to clear energy. At the bank, despite the significant challenges posed by the interest rate and regulatory environment, we continue to perform as a higher performing community bank and are focus on modest long growth.

Our dividend yield remains attractive and above the average for utility peers. As of yesterday our dividend yield was 4.7%. 2011 marked our 110th year of paying continuous dividends. Overall, we believe we are well positioned to continue to deliver attractive earnings growth with reduced risk and volatility and an above average dividend yield.

And with that we look forward to hearing your questions.

Question-and-Answer Session

Operator

Ladies and gentlemen (Operator Instructions)

The first question comes from the line of Ashar Khan with Visium. Please proceed.

Ashar Khan – Visium

Good morning Connie and the group.

Connie Lau

Good morning.

Ashar Khan – Visium

I want to go through Connie, I guess one think which you don’t give us like the EPS and I was just trying if you can just from the data that you’ve provided if I can, if you can just correct me, my different assumptions as we go along from the slides. One thing I heard at the end was that bank earnings could be like if I heard 3% to 5% lower than 2011 is that correct?

Connie Lau

Yes. That’s correct.

Ashar Khan – Visium

So that would be something like on average around $0.20 to $0.30?

Shelee Kimura

That’s correct, Ashar, it’s Jim Ajello, right.

Ashar Khan – Visium

Okay. Then just going back to, Jim and I’m just trying to use this as a kind of like a guide and tell me if I’m doing this wrong or right. You mentioned the utility ROE improved from 5.8 to 7.3 from 2010 to 2011 and if I’m right utility net income went up by like $0.22 unlike a 150 basis points improvement. Correct? If I’m doing my numbers right.

Shelee Kimura

Okay.

Ashar Khan – Visium

So I’m just trying to imitate a similar kind of a relationship if I’m not right that say we’re going from 7.3 to now 8.5, that would be like a 130 bps which could imply if I use the same math like an $0.18 increase in utility earnings. If I use the same kind o f mathematical relationship that happened last year 2010 or 2011, am I end up rough ballparks or am I doing something wrong crazy in terms of interpolating one to the other?

Shelee Kimura

I will start – Ashar, I will look to attain for some support on the topic. It’s not quite so correlated with that. There are different levels of expenditures some year-over-year that you got to take into account. For example we guided here that O&M expenditures would be up $6 million.

We mentioned a number of things. For example the continuation of expenditures on the customer information system that is not in a – right now on a recovery mode. So it is not exactly easy to extrapolate between the two points that you gave and get any sense of increase in earnings straight forwardly.

Connie Lau

Yeah. And Ashar this is Connie really just to add in too, that if you recall we’re now on a three year cycle for rate cases under the annuity company model and so it depends also on which utility is going in that year because the Oahu utility is so much larger than the other utility.

Ashar Khan – Visium

Okay. So, Connie what you are saying is because of the higher O&M and certain other stuffs that might be because of the cycles, it’s harder to achieve this higher level but then I guess, it gets normalized as we go toward but this might be a year where because of these expenses and everything, it could be harder to achieve that level. Am I missing something?

Connie Lau

No, that’s absolutely correct and particularly in this year as Jim pointed out, our customer information system, the software project is expected to go live in summer and of course, ASVDC would stop at that point and then we’ll have to get recovery and also as Jim pointed out in his remarks that recovery at the moment absent some software rate adjustment mechanism around would come in with each utilities rate case.

Ashar Khan – Visium

Okay. Okay. And then, Connie how should we look with this CapEx thing if I’m right, the projects you’ve kind of like mentioned, right, there are not all approved and yet which are supporting the higher capital growth rate, is that correct? Or how should we look at the timeline with this forecast really sound, is there like dates, which you kind of tell us how we should monitor it in terms of the CapEx?

Connie Lau

No. There are not. I mean particularly with the environmental cost, as you know that’s really watching what the legislation is, of course our forecast are anticipating that we would have to meet the most aggressive deadlines under the legislation that could change.

Jim Ajello

Yeah, Ashar, I’ll point out one other thing too. There is a very large amount of expenditures we generation for new generation here and I’ll reemphasize that this is subject to competitive bidding. Our utility may or may not win some are all of the requirements. So that’s $600 million to $800 million into the schedule.

Connie Lau

And on that you would see the RFP go out for the competitive bid on the generation and then there would a schedule and you could then track that. But of course, it’s too early for those RFPs.

Ashar Khan – Visium

Okay. And then, can I just ask if I can end up with you mentioned your CapEx regarding the thing, so should we kind of like – sorry, the cash flow statement that you provided, how much grip is going on. So I’m assuming than that if we have to fund this higher CapEx we would then require more equity right, I’m taking to this correctly?

Connie Lau

Yes, that’s correct.

Jim Ajello

Right, but we’ve mentioned that Ashar is that we would not need to issue equity through 2012.

Ashar Khan – Visium

I understand, I understand but then you have CapEx is like doubling in some of the – further years. I’m just trying to understand that then we have to issue equity in those years to support that CapEx rate because we don’t get immediate recovery of some of these investments or I’m missing something.

Jim Ajello

You’re not missing something there will definitely need to be other than direct equity issue to support the CapEx plans has been around 2015.

Ashar Khan – Visium

Okay.

Connie Lau

We’ll be doing the same thing that you’re doing which is watching the capital expenditures watching the development of the environmental regulation, going through the competitive bidding process and when we know what the actual CapEx will be then that will also determine whether we have to issue new equity or not for that particular year, because what we will do is we will always manage to balance capital structure.

Jim Ajello

Right. And we have not issued equity since 2008, that’s the other benchmark.

Ashar Khan – Visium

I understand, I understand. Thank you so much. I’m sorry I took so much time.

Connie Lau

Thank you.

Operator

The next question comes from the line of Andrew Weisel with Macquarie Capital. Please proceed.

Andrew Weisel – Macquarie Capital

Hi, good morning, guys. Couple of quick ones on the utility, first I want to make sure I heard you right. Did you say that HELCO got decoupling approved last night?

Connie Lau

Yes, correct.

Andrew Weisel – Macquarie Capital

Okay, great. Congratulations. And then MECO you expect a positive 1% growth in kilowatt hour sales in 2012 versus 2011, just curious what gives you that kind of optimism after a decline in 2011?

Richard Rosenblum

This is Dick Rosenblum. Really we see a significant rebound in tourism and the economy and that’s primarily what we are looking to.

Andrew Weisel – Macquarie Capital

Okay, great. And then just two quick one down on the bank, if I’m doing my math right, the return on tangible equity in 2011 improved to about 14.5%?

Jim Ajello

No, I think that’s too high. We are going to be pretty comparable to where we are now.

Connie Lau

There is only about $80 million of goodwill in the equity number.

Andrew Weisel – Macquarie Capital

Okay. So what is that return then?

Jim Ajello

We will get back to you Andrew on that.

Andrew Weisel – Macquarie Capital

Okay. That’s fine. And then lastly as far as market share dynamics, are you seeing any changes as far as share losses from first Hawaiian giving pressure for the apparent company or share gains from central pacific as they try to regain some share.

Connie Lau

I think there is definitely pressure in the market because our market is not a fast growth – fast loan growth market. It’s fairly stable, so I think everyone has good liquidity and is quite interested to show that they are putting that liquidity to use. So we’re seeing competition out there. We think that we’ll be able to do the modest asset growth that we said at the net interest margin levels that we’ve indicated. So we’re trying to make sure that competition while healthy stays doesn’t damage the economics of the market.

Jim Ajello

Andrew, I’d just add, Hawaii has a long history of being a pretty disciplined banking market and so we are hoping that that continues forward, although as you noted it’s getting more competitive. But certainly on our side we will maintain our disciplined process of underwriting.

Andrew Weisel – Macquarie Capital

Great. Thank you very much.

Operator

The next question comes from the line of Bryce Rowe with Robert W. Baird. Please proceed.

Bryce Rowe – Robert W. Baird

Hi, thanks. Few questions on the bank here. Obviously showing some nice growth in loans in 2011. The C&I growth that we saw, are there some syndicated loans within that bucket?

Shelee Kimura

Yeah, right. About half of the growth came out of the local market, about half came out of the shared national credit participations that we’ve done in there.

Bryce Rowe – Robert W. Baird

Okay. And what is the absolute level of the shared national credits now?

Shelee Kimura

I think it’s $132 million.

Bryce Rowe – Robert W. Baird

Okay. And I think that you continue to see some level of pressure on the 1-to-4 family mortgage book. What kind of pressure that you see there in the fourth quarter on that portfolio?

Shelee Kimura

Well, when you say pressured which aspect? We saw...

Bryce Rowe – Robert W. Baird

From a volume perspective or the prepayments.

Shelee Kimura

Volume remained – our volume quarter-over-quarter was up strongly. We are not portfolio-ing has much because of the levels of rate. So we ended up selling more that’s one of the reasons we had a very good gain on sale number, we’re up I think about $1.6 in gains compared to third quarter as we sold stuff. Our total volume, the residential mortgage portfolio was down I think $80 million quarter-over-quarter.

Connie Lau

One second, Andrew.

Shelee Kimura

The total residential book was down $64 million because we added very little to the portfolio at these rates. So we continue – over 2012 we think we’ll hold that decline to somewhere in the range of 100 million. We’ll try to manage the decline of that on – we wanted to be a smaller proportion of our book, but we need to make sure that that decline is not too rapid.

Connie Lau

Yeah. And Andrew as Rich just mentioned remember that we are from a long-term strategic standpoint shifting our asset mix, because we are coming out of the thrift background that was very heavy in the mortgage portfolio. And so we have really been building the shorter duration, higher yielding asset that will move when interest rates move up so that from equity loans to C&I loans is what you’re seeing and focus on and just holding residential portfolio to a slight decline.

Bryce Rowe – Robert W. Baird

Right. I certainly understand that. As far as the prepayment within – the prepayment impact within the net interest margin, Jim do you have the basis point impact that helped the margin for the quarter.

Jim Ajello

We had four basis points that came from the accelerated recognition of the fees associated with those pay downs.

Bryce Rowe – Robert W. Baird

Okay. And were there any bond sale gains in the quarter?

Connie Lau

No.

Bryce Rowe – Robert W. Baird

Okay, great. Thank you guys. I appreciate it.

Operator

Next question comes from the line of David Paz with Bank of America Merrill Lynch. Please proceed.

David Paz – Bank of America Merrill Lynch

Hi, guys.

Jim Ajello

Hi, David.

David Paz – Bank of America Merrill Lynch

Just a few questions, just on the 2010 ROE target, that’s for the full year, right. So the average – that’s on average equity number, correct.

Jim Ajello

That’s correct and that’s for Oahu.

David Paz – Bank of America Merrill Lynch

Correct, okay. And are you guys assuming in that target that those – I guess items that you have on slide 14 are fixed or not or resolve I guess is the better way of putting it. So that’s as if nothing has status quote.

Jim Ajello

Yes, that’s correct.

David Paz – Bank of America Merrill Lynch

Okay, all right. And then on L&M growth of 6%, how much of that gets recovered through the decoupling I guess the tartars that you have in place for labor and non-labor?

Connie Lau

David, this is Connie. Of that amount I would say maybe about half gets covered and remember now the RAM mechanism has a five months delay. And then also we have to be aware of rate cases which we get interim decisions half the year. So, with that I would say about half of it.

David Paz – Bank of America Merrill Lynch

Got it. All right. And then just beyond 2012 if – I guess you are not – you guys aren’t – you didn’t bring up the 2014 target that you had I guess earlier last year. Any – I guess a good way of putting it is when do you expect to earn you allowed ROE at HECO and then now I guess HELCO and that now that you have decoupling.

Connie Lau

David I don’t think we had put out guidance previously for 2014. But what we have said and this continues to be true is that the items that are typically disallowed things like incentive compensation are around 40 basis points to 50 basis points for the Oahu utility and 10 basis point to 15 basis points towards the neighbor island utilities.

We now have as you know decoupling came in with the (inaudible) way on the ramp and so that’s worth another 50 basis points, roughly. And then, also as you know, our rate case cycle does not give us an interim decision until approximately another five months delay within a particular test year and that’s worth roughly another 50 basis points. So that’s going to kind of either cycle depending on which utility is in for rate case in that calendar year.

David Paz – Bank of America Merrill Lynch

Okay. Okay. And then, on just yearend 2011, what were the equity – what was the equity ratio at each of the utilities?

Jim Ajello

Yearend equity ratio for each of the utilities.

David Paz – Bank of America Merrill Lynch

I can follow up later on that.

Jim Ajello

Yes. Shelee can give you a call back on that.

David Paz – Bank of America Merrill Lynch

Yeah. On just turning to equity, Jim, I know you’re discussing this; I missed some of the discussion you had earlier with Ashar. But I mean, just should we be expecting, you guys are saying no equity needs through 2012, we see this ramp up in CapEx, means we don’t assume that 2013 will be the year you start looking in at equity needs?

Jim Ajello

It really depends on whether the 2013 or 2014 schedule. I mean, we’re reasonably confident about the 2012 schedules, right. It’s right before us that you see there. But you see a pretty big slope slow building in 2013 to 2014, so it is not an unreasonable assumption to expect it will be required at that point of time. That’s really when the larger amount of expenditures increase.

Connie Lau

David, we really will manage through that balanced capital structure and with the drift that gives us a lot of flexibility you know as we saw us last year we turned it off for the last two quarters, it’s back on again now. But we will dial the capital ratios to balance capital structure.

Jim Ajello

Our reply here also assumes that the bank continues at a steady level, because the bank is contributing significantly even in 2012 with lower amount of dividends I’ve cited, so that’s a significant support to the overall capitalization of the company and our ability to support the utilities rate base growth.

David Paz – Bank of America Merrill Lynch

And conversely we also are expecting and targeting the bank at a mid-single digit loan growth, if the economy happens to pick up and there is more that’s available, we’ve always said that we will support the growth of the bank, as you know it’s a very high performing bank, doing well and so we’ll take advantage of that upward swing in the economy should it come.

Connie Lau

Okay. And then the last question, Jim just to clarify your comments on the dividends, are you saying that you guys are going to keep the yield competitive did – I maybe I missed, can you just clarify what’s there around the dividend.

Jim Ajello

Sure, David. You know what I said was really a response to many questions we get so I thought I would simply reply all in one thought for everybody here and which is to say that we don’t expect to change the dividend until we’re consistently producing a 65% payout ratio, I’m assuming basic utility industry payout ratios.

I’ll just as a side step say that 4.7% yield in the banking sector and we’re 40% back is a very and very unusual number. So our yield is 4.7 is quite stout right now I think you’d say either as compared to the mid-cap utility for considering the composition of the businesses.

But bottom line is we’ll keep it where it is until we consistently produce a 65% payout ratio. And then we get to that point, I expect we’ll have some capital allocation choices. If we look at relative yields, which is actually what I said and we’ll look at further capital needs. There may be an opportunity to fund more growth at the utility as well. So there’ll be a number of options available to us and I will correct you that actually.

David Paz – Bank of America Merrill Lynch

Great, all right. Thank you so much.

Operator

The next question comes from the line of Jim Krapfel with Morningstar. Please proceed.

Jim Krapfel – Morningstar

Hi, good morning to you and Hawaii.

Connie Lau

Very good morning.

Jim Krapfel – Morningstar

So the 8.5% how did you have for ROE for HECO that’s 210 basis points higher than what you achieved in 2011. Is that primarily coming from then the NOI’s affect of the rate increase and then incremental RAM revenue or the other things in there as well that drive that increase?

Connie Lau

I think your qualitative statements are correct. The actual numbers are a little bit different because our 8.5% target is solely for Hawaii, which is the largest utility. So the numbers don’t quite match out but you are correct that the qualitative reasons you gave are the right ones.

Jim Krapfel – Morningstar

Okay. You did 6.4% though in 2011, right?

Connie Lau

6.4% is for Oahu is that what you’re looking at?

Jim Krapfel – Morningstar

Yes.

Connie Lau

Compared to the 8.5 guidance, so that is.

Jim Ajello

Yes.

Connie Lau

Yes. That’s correct.

Jim Krapfel – Morningstar

Okay. That’s all I have. Thank you.

Connie Lau

Thanks.

Operator

Your next question comes from the like of Jackie Shemara with KBW. Please proceed.

Jackie Shemara – KBW

Hi, good morning everyone.

Connie Lau

Hi.

Jackie Shemara – KBW

I had a question about the home equity loan growth that you saw in the quarter. Was that from a new customer base or are you seeing higher utilization rates from existing customers?

Jim Ajello

Predominantly new account generation. We’re increasing the utilization over the year we saw utilization pick up about 3 points.

Jackie Shemara – KBW

Okay.

Jim Ajello

That was good for us but we’re continuing to generate new accounts and new customers for the bank.

Jackie Shemara – KBW

And is that more marketing on your part to diversify the portfolio or is it more of being able to take market share within, just an increasing demand in general?

Jim Ajello

I think in general the lending’s going up that’s we’re leading the market on this, but they’ll look the home equity lending is going up for all the major participants there.

Jackie Shemara – KBW

Okay.

Connie Lau

Jackie, if you remember it wasn’t just marketing, but Rich has been retooling all of the back office processes so that we can give very quick loan approvals, so it’s a whole combination that is making them much more competitive in the marketplace.

Jackie Shemara – KBW

Okay.

Jim Ajello

Well, reviewed loan approvals.

Connie Lau

Yes. Quick loan review.

Jackie Shemara – KBW

Yes. No I’m not concerned about your credits, so I assume that your under writing standards are definitely above par.

Jim Ajello

And Jackie it’s Jim. I just wanted to follow up, that you said in the quarter the stats that we presented about our growth in HELOC you know were excellent the yearly stats.

Connie Lau

Yeah.

Jackie Shemara – KBW

Okay. So that the three point increase in utilization is from a year ago. Okay.

Jim Ajello

Across the year.

Connie Lau

And the growth rate as well overall as a percentage.

Jackie Shemara – KBW

Okay, thank you for that clarification. And looking to the loan to deposit ratio, I am calculating that around 90%, is that a level that you’re comfortable with or would you also allow it to go higher?

Jim Ajello

We like that level. We don’t want to be bidding up deposit cost. We think we’re in a – it’s very good level for us overall from our HELCO strategy. So we like it.

Jackie Shemara – KBW

Okay. So you would assume that net deposit that net deposit growth will batch loan growth over the coming year?

Connie Lau

Yes.

Jackie Shemara – KBW

Okay. And did you see, you had mentioned the interchanged income effects in the next year I believe in your prepared remarks, did you have an effect from Durban in the fourth quarter?

Jim Ajello

There is the indirect effect coming around. So the interchange networks also within in Durban beyond the cap, there we’re changes in the rules on who could direct transactions to which networks and things.

So the merchants have more decision making around where they’re directing and that’s resulting in price completion among the networks. And so we continue to periodically get price updates from the carriers and recently the recent visa price changes that come in for April are reductions in the rates on signature particularly and so we are seeing – that’s what’s driving the pressure on them.

Jackie Shemara – KBW

Okay. So they did manage to find that loophole for the sub 10 billion bank, but it’s sounds like.

Connie Lau

Yeah.

Jim Ajello

The (inaudible)

Jackie Shemara – KBW

I figure that they would, I did not figure it would happen this quickly so.

Connie Lau

Right.

Jim Ajello

We’ve been saying since the initiation of this rule exactly that that the indirect economic effect could occur, but this- this time they’re starting to show off.

Jackie Shemara – KBW

Yeah. I had expected it, but this is a little sooner than I would have anticipated. So, okay, great. Thank you for the additional color. I appreciate it.

Operator

There are no more questions in the queue at this time.

Jim Ajello

We have just one another point for Andrew on the response and the return on tangible equity. We would look based on the fact that we’re going to be retaining a little bit more capital as we grow. We would view that that return level probably be a shade under 2014 as we come into 2012.

Operator

So we do have one follow up question from the line of David Paz with Bank of America Merrill Lynch. Please proceed, sir.

David Paz – Bank of America Merrill Lynch

Hi, sorry. Just want to ask quick question on the $226 million of CapEx since 2011, how much of that was allocated to HECO as opposed to the other two?

Connie Lau

David, this is Connie. I think that $226 million you are referring to is from our statement of cash flow, right?

David Paz – Bank of America Merrill Lynch

Right.

Connie Lau

Yeah, I just wanted to add in that, this item is, we take out some – I’d back out non-cash items. So you remember back in the third quarter we guided all of you that we would under spending by about 10% and 270 was our CapEx. I just wanted to point out that the 270 where we ended up with that 284 and how the 284 relate to the 226, as we back out non-cash items related to things like accruals for invoices or equity portion of ASVDC projecting non-cash items.

So I just wanted to ask to make that point, that’s point number one. Now in terms of HECO it’s roughly about 70% of that relates to Oahu.

David Paz – Bank of America Merrill Lynch

Okay. Great. Thank you.

Operator

Those are the questions that we have, sir.

Connie Lau

Thank you everybody for joining us today and please free to call me as if have additional questions. Aloha.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the presentation and you may now disconnect. Have a great day.

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