Edited Transcript of Alexander & Baldwin Inc earnings conference call or presentation 8-Nov-11 10:00pm GMT

Hawaii continues to be a bright spot for Matson. Container volumes in our core Hawaii trade lane were up 3% in the quarter, completing four consecutive quarters of year-over-year growth. Real estate also performed well. Leasing operating profit was consistent with last year, despite the impact of a tenant bankruptcy. Mainland leasing activity has improved all year, and occupancy across our leasing portfolio has stabilized above 90%. Real estate sales were up slightly in the quarter, due primarily to the sale of an industrial property on Maui. Agribusiness continues to be on track for an exceptional year. Better operating performance has resulted in higher sugar production, and we continue to see favorable sugar and power prices.

We continue to pay close attention to our operating and overhead costs, and have instituted a number of cost saving initiatives throughout the Company. Among the more significant of those measures is a decision to freeze benefits under the traditionally defined benefit pension plan for non-bargaining union employees, effective December 31. Going forward, we will be applying a cash balance formula. This transition is consistent with industry trends, and will better position us financially and competitively, for the years ahead.

The outlook for Hawaii’s visitor industry continues to be promising. Visitor expenditures have been strong all year, and are up nearly 15% compared to 2010. Tourism officials continue to forecast $12.6 billion in visitor expenditures for 2011, second only to 2007’s record of $12.8 billion. September visitor data also shows a modest year-over-year increase in visitors from Japan, the first monthly increase since the March earthquake and tsunami. The Asia-Pacific Economic Cooperation Summit got under way on Oahu yesterday. The conference will attract more than 20,000 attendees, including President Obama and heads of state from 20 Pacific Rim economies, including China, Russia, Japan and Korea. With over 2,000 global media representatives covering this event, this will be a unique opportunity to showcase Hawaii, as both a business and vacation destination to the world. Historically, visitor industry conditions have been a leading indicator for the Hawaii economy, but other economic indicators are still suppressed, resulting in a mixed overall economic outlook. Additional information on the state’s economy is included in the appendices to our presentation.

Now let me turn the call over to Joel, to provide a financial update. Joel formally joined A&B in September, but has been involved in the company for nearly a decade, having served as a key adviser to me and the Board during his tenure at Goldman Sachs. Joel’s transition to CFO, completes the broader set of management changes that began in February, with the announcement of Norb Buelsing’s retirement, and promotions of Chris Benjamin and Rick Volner. I am pleased with the team we have in place, and the smooth transition they’ve made to their new roles. And with that, let me turn it over to Joel.

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Joel Wine, Alexander and Baldwin Inc – SVP, CFO, Treasurer [4]

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Thanks, Stan. Slide 8 shows the impact of CLX2 on a net income and earnings per share basis by quarter since inception. Most of the CLX2 losses were recorded as discontinued operations. However, there were $6.1 million of losses related to the repositioning of containers in the third quarter of 2011 that did not qualify as discontinued operations. Therefore, we wanted to disclose the $6.1 million to show the full income statement effect of CLX2 to investors, in order to provide the information necessary to compare ongoing operating businesses, with both prior periods and future results. This next slide, nine, shows operating profit by business segment. Excluding CLX2, Ocean Transportation operating profit was impacted by lower rates and higher fuel costs for CLX1, and lower SSAT volumes, which were the primary factors leading to year-over-year decline of $8 million in operating profit. The performance of other business segments was relatively consistent with, or slightly higher than last year’s performance.

On slide 10, operating cash flows through September decreased $39 million compared to last year, principally due to lower results in Matson’s CLX1 and CLX2 services. Moving to slide 11, through September, capital expenditures excluding 1031 exchanges were $82 million, and have mainly consisted of container purchases and real estate development project costs. Since our last earnings call, we have revised our expectations for capital expenditures excluding 1031 exchanges, downward by $39 million, from $168 million to $129 million, primarily to eliminate $30 million that was previously designated for opportunistic real estate investments, based on our outlook for the timing of new real estate investment opportunities.

We now expect total capital expenditures for the year to be $129 million before 1031 exchanges, and $160 million after 1031 exchanges. Compared to last year, capital expenditures excluding 1031exchanges, have declined significantly due to the absence of startup costs for CLX2 and the completion of the amenities at Kukui’ula in 2010. Slide 12 shows our condensed balance sheet. Debt levels increased by $48 million during the first nine months of the year, due mainly to CLX2 operating and shutdown losses. Despite that fact, our balance sheet remains strong, and our leverage remained low at 33% debt-to-debt plus equity. Now let me turn the presentation over to Matt to begin operating — to begin the operating segment updates.

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Matt Cox, Alexander and Baldwin Inc – President, Matson Navigation [5]

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Thanks, Joel. Before we look at performance for the quarter, let me spend a few minutes updating you on the shutdown of CLX2. Joel discussed the historical financial impact of the CLX2 shut down. From an operational perspective, we’ve off-hired three of the five time-chartered vessels, and nearly half of the 9,000 containers leased for the service. We continue to work on subletting the remaining two vessels that are on charter until July of 2012, and repositioned owned containers for use in our other services. And consistent with the guidance, we provided on our last earnings call, in total from the third quarter on, we expect to record between $20 million and $25 million of op — million of losses net of tax, related to the operation and shutdown of CLX2.

This estimate considers the possibility that we may be unable to sublease the remaining two vessels. $18 million net of taxes was recorded in the third quarter, and the balance of the remaining losses are expected to be recorded over the next several quarters. Excluding the CLX2 losses, Ocean Transportation posted an operating profit of $35 million in the quarter, compared to an operating profit of $43 million last year. The $8 million decline is due principally to reduced performance from CLX1, which faced the same headwinds of lower freight rates and higher bunker fuel costs as we’ve experienced with CLX2, but a decrease in earnings from our SSAT joint venture due to lower volumes was also a factor. Better year-over-year performance in our Hawaii trade lane, however, helped partially offset the decline.

Transpacific fundamentals remain weak in the third quarter. Vessel overcapacity and tepid demand continue to keep freight rates down, resulting in a nominal peak season, and impacting CLX1’s performance in the quarter. Volume was modestly higher due to an increase in west-bound containers. However, because of CLX1’s operating advantages to having both an east- and west-bound head haul, it remains a fundamentally profitable and sound business for us.

In Guam, we continued to see the impact of the change in Horizon Line’s schedule earlier in the year to sail directly to Guam, and declining overall market demand on container volume for the quarter, which was down 3% compared to last year. As you may know, Horizon recently announced the discontinuation of their service to Guam, effective November 10. In the near term, we are prepared to fully service any displaced customers, and no new fleet deployments will be needed to maintain the current level of customer service. While we fully expect a new entrant to succeed Horizon Lines in the Guam trade, we will be able to provide the needed stability in the trade over both the near-term and long-term.

As Stan mentioned, our Hawaii service continues to be a bright spot for Matson. Container volume was up 3% for the quarter compared to last year, reflecting the impact of a connecting carrier agreement with an international carrier and other customer gains. This makes four straight quarters of year-over-year volume growth, which is encouraging, as the Hawaii trade represents a majority of our total container volume. Vessel utilization in this service remains high at 95%.

On slide 18, I am also happy to report that Logistics Management magazine recently chose to honor Matson with it’s Quest for Quality Award in the Ocean Carrier category for a ninth consecutive year. This award, which is based on annual survey of customers, is regarded in the transportation and logistics industry as the most important measure of customer satisfaction and performance excellence. At Matson, we take great pride in our reputation as a quality carrier and leader in Pacific shipping, so it was particularly gratifying to be acknowledged for our continued excellence in operations and customer service.

Lastly, an update on logistics, Matson logistics results were modestly higher in the quarter, compared to last year, due principally to higher to intermodal volumes. So far this year, performance has been driven principally by increased international intermodal volumes, but increases in domestic intermodal and expedited margins have also contributed. We continue to expect that full-year 2011 performance will be consistent with 2010. And, now let me ask Chris to update you on Real Estate and Agribusiness.

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Chris Benjamin, Alexander and Baldwin Inc – President, A&B Land Group [6]

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Thank you, Matt. I will start with Real Estate Leasing, where third quarter operating profit of $9.2 million was relatively flat, compared to last year. Gains from improving mainland occupancies were offset by the impact of a tenant bankruptcy in the quarter. At 92%, mainland occupancy was up significantly from last year’s 85% level, and stable compared to 93% for the second quarter. Hawaii occupancy has been steady, holding at 91% for the quarter, the same as for the second quarter, and for last year’s third quarter. Market rents, both on the Mainland and in Hawaii, remained relatively stable in the quarter. Thanks to recent stability in market rents and improved occupancy in the Company’s mainland portfolio, we expect modest improvement in overall full-year leasing results, as compared to 2010. However, performance for the fourth quarter is expected to be relatively flat with last year.

Moving now to real estate sales. Second quarter operating profits from Real Estate Sales was $600,000 higher than last year, due to the September sale of the commercial property on Maui. There were no comparable sales of commercial properties last year, although last year’s results benefited from $5 million of joint venture gains on the settlement of two mortgage loans. Sales in the fourth quarter are expected to be minimal due to the timing of our closings. In the third quarter, we acquired the Issaquah Office Center in Washington State. The property is well-located east of downtown Seattle, in close proximity to the headquarters and offices of a number of prominent companies. The property is fully occupied by Siemens. With this acquisition, the Company’s real estate portfolio is now 7.9 million square feet.

And now I will turn to development activity. In our existing pipeline, development of the Maui Business Park II project and Waihonua project, and sales at Kukui’ula are all progressing. By year-end, the offsite infrastructure work for Maui Business Park is anticipated to be completed, and the on-site work will have commenced. Favorable construction bids were received for both on-site and off-site work. A sales team was selected, and marketing is expected to begin in early 2012. As we mentioned on our last call, we anticipate that marketing and pre-sales at 345-unit Waihonua high-rise condominium development on Oahu will commence in December.

We believe this project is well-positioned and well-timed to take advantage of steady market demand for high-rise condos, amid a shortage of new condo product. Pre-sale activity will gauge the strength of this demand, and help us determine the optimal timing of construction. And marketing efforts at our Kukui’ula joint venture continue to ramp up, and are beginning to bear fruit. With two binding sale contracts recently executed for cottages, we are pleased with positive momentum we are seeing, and attributed partly to broader promotional campaign we’ve launched. In addition to favorable progress by a developer that we partnered with on a bulk parcel, who has commenced construction and is offering 15 house and lot packages for sale, we are actively negotiating with two other developers for similar agreements for bulk parcels.

Now let me update you on Agribusiness. I’m happy to report that Agribusiness continued it’s strong performance in the third quarter, posting an operating profit of $4 million, compared to $1 million in the same quarter of last year. The year-over-year earnings improvement resulted primarily from higher power sales margins, and specialty sugar margin compared to last year. We expect our strong performance to continue through year-end, with earnings for the fourth quarter likely approximating last year’s fourth quarter. Despite the non- recurrence, I’m sorry — it’s going to approximate last year, despite the fact that last year we had a federal disaster relief payment that will not recur this year. I will now turn the call back over to Stan, for closing remarks.

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Stan Kuriyama, Alexander and Baldwin Inc – President, CEO [7]

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Thank you, Chris. Aside from the CLX2 losses, the Company’s overall performance in the third quarter was relatively consistent with last year, which speaks to the ability of our core businesses to generate stable earnings, despite a difficult economic environment. And we continue to be well-positioned for a market recovery. For the balance of the year, we expect Matson’s performance to continue to be tempered by soft Transpacific rates for CLX1, and lower container volumes for SSAT, stable year-over-year performance in Logistics and Real Estate leasing, lower property sales, and continued strong performance in agribusiness. And that concludes our presentation this afternoon, and we’ll be happy now to take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions).

And the first question comes from the line of Sheila McGrath with KBW. Please proceed.

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Sheila McGrath, Keefe, Bruyette & Woods – Analyst [2]

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Yes, good afternoon. Stan or Matt, I was wondering if you could give us some more insight on how you think fourth quarter is shaping up thus far in Ocean Transportation? And specifically, do you see your retail-related customers being more cautious on inventory levels?

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Matt Cox, Alexander and Baldwin Inc – President, Matson Navigation [3]

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Hi, Sheila. Let me take a crack at that, and as Stan wants to supplement, he can. I think the story is a little bit different by trade lane, so I will just touch on each. In the Transpacific east-bound, I think we have seen our customers be very cautious about inventory level. In fact, we’ve thought that during the good part of this year, our main customers have done a pretty good job of reducing inventory levels, given what I think is the macro uncertainties. I think that is one of the factors that has led to the relatively soft demand picture in the Transpacific trade. I mean, I think in the Hawaii trade, we have seen it as relatively stable. We’ve — we did see some modest growth earlier in the year, but overall I think we are seeing a relatively flat, and again cautious buying picture emerging in the Hawaii trade, overall. And then, in our broader Logistics business, the peak season there, I think has been a relatively modest as well. I think owing to the same kind of fundamentals, that we are seeing in the Transpacific east-bound.

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Sheila McGrath, Keefe, Bruyette & Woods – Analyst [4]

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Okay. And Matt, can you also give us any more specific insight on how you expect Horizon’s exit from the China-Guam service, how that will impact Matson going forward?

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Matt Cox, Alexander and Baldwin Inc – President, Matson Navigation [5]

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Sure. I mean I think the short answer is, that it’s a little too early to tell. We do fully expect another competitor to enter the Guam trade. As you will know, it does require a US flag service. And at that point, we will see who steps in, and what kind of service they provide. But in the meantime, we are ramping up, and are able to carry the entire market for as long as needed. And we have assured our customers in Guam, that we will be able to carry all of the freight during this transition period. But as I said, it’s just a little early to tell, who may come in and when, and what kind of service. But in the meantime, we are fully capable of handling the trade.

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Sheila McGrath, Keefe, Bruyette & Woods – Analyst [6]

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Okay. And then Chris, on the builder arrangements, that you had mentioned, do you expect impact from actual sales this year, like in the fourth quarter at Kukui’ula? Or is that more the — closings in next year?

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Chris Benjamin, Alexander and Baldwin Inc – President, A&B Land Group [7]

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Well, Sheila, it will be somewhat gradual. We will have some cash coming in from those sales this year. The revenue recognition and profit recognition as you know, is subject to percentage of completion, so it will — it will stretch over the next few years actually. But the cash will begin to come in this year. Typically the way these deals are structured, is that there is a minimum — there is a minimum guaranteed payment for the lot in these arrangements with these builders. And then there is also profit participation on the back end. So we will begin to get the guaranteed payments this year, and then we will hope for more upside down the road on these deals. But the impact, especially from two sales will not be significant this year.

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Sheila McGrath, Keefe, Bruyette & Woods – Analyst [8]

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Okay. Alright. Thank you.

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Operator [9]

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The next question comes from the line of Brendan Maiorana with Wells Fargo. Please proceed.

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Brendan Maiorana, Wells Fargo Securities, LLC – Analyst [10]

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Thanks. So Chris, just a follow-up on the Kukui’ula with the builders. The minimum payment, how does that kind of compare to the lot pricing, which I think on average was $1.2 million per lot that you were expecting, how does that kind of compare, if you look at the minimum versus the profit participation?

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Chris Benjamin, Alexander and Baldwin Inc – President, A&B Land Group [11]

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Well, first of all, that’s a little bit hard because the $1.2 million is sort of an average. And these are actually cottage lots that, the ones I’m referring to right now. And so those are — market price for those lots is a little bit lower than $1.2 million. But I think it’s fair to say, that these minimum payments are the vast majority of what would be normal market value for these lots. And then there is a little bit at risk, and then some upside, but I would guess, Stan, you might want to jump in here, but I would guess they are probably 80% of traditional market values?

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Stan Kuriyama, Alexander and Baldwin Inc – President, CEO [12]

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Right. So Brendan, there would be some discount to retail sale prices. But the big value we get from these deals, is that these developers and builders are building homes. And as you know, it is a lot easier to sell a built product than a vacant lot. And so it’s really our objective here, to get as much vertical home construction activity going as possible. And that’s why we really like these deals with these particular developers and builders.

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Brendan Maiorana, Wells Fargo Securities, LLC – Analyst [13]

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Right. No, that’s helpful. Okay. And then, in terms of the CapEx for real estate that is down now, because I guess the opportunity — that was maybe a little lower than what you guys expected previously, is that because you are pulling back a little bit, or your return requirements are moving higher? Or is it just that the opportunity of — the opportunity set of investments out there, is lower than what you had forecast three months ago?

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Chris Benjamin, Alexander and Baldwin Inc – President, A&B Land Group [14]

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Yes, I think that it — is probably more the latter. I don’t think that our return expectations have changed significantly over time. In fact, that’s one of the things that we’ve prided ourselves on, that we weren’t making investments in the 2007, 2008 time frame, when we could not meet those investment objectives. And so I think on that front, we have been fairly consistent. It’s really been more about identifying opportunities that are attractive to us. We do have some things that we have — that we have been looking at and that are in the pipeline. But, it just hasn’t been as plentiful. The opportunities haven’t been as plentiful as we had hoped. And as you know, we always talk about budgeting at a somewhat aspirational level, hoping that we will be able to place a significant amount of capital. We do that for capital budgeting purposes, but we always acknowledge that it’s completely subject to finding the right opportunities.

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Brendan Maiorana, Wells Fargo Securities, LLC – Analyst [15]

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Sure. And then Chris, on Agribusiness, if I look back at operating profit over the past kind of five years or so, it sort of bounced around a lot, but probably peaked out before this year, at somewhere around $6 million or $7 million. This year, it seems like you are probably going to be, give or take $20 million or so, depending on what happens in Q4. There’s kind of been a lot of adjustment in that line of business over the past few years. Given the market dynamics that are out there, given what has happened in the portfolio of investments of operations that you have, is what you are doing this year is sustainable, as you look out over the next few years? Is this a reasonable level of profit that we could expect?

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Chris Benjamin, Alexander and Baldwin Inc – President, A&B Land Group [16]

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Yes, Brendan, the short answer, but I’m to give you a slightly longer answer, the short answer is, it really depends on what happens with sugar prices. But what I will say, is that what we have tried to do over the last couple years is address the volatility of the earnings in the Agribusiness segment. We have done a number of things to try to reduce volatility. With our farming practices, we have implemented much more consistent farming practices that I think will avoid a situation, where we have a huge drop-off in production like we did a few years ago. So I think on the production side, we will have much more stability.

As you know, we undertook a transaction with our coffee operation to remove the volatility from that, and increased the — no, increased earnings, but increased the stability. And we are taking a lot of steps to try to remove some of the volatility from the pricing side as well. We’ve priced out through — most of our crop, for next year is already priced at very attractive levels. And we are very actively working right now, on trying to extend that pricing out for at least a couple more years. So we are trying to do everything we can to minimize volatility, and do so at very high levels. And so it looks good for next year, and hopefully it will look good for next year too, after that.

But we have to always remember, that we are subject to sugar pricing. And that is the unpredictable thing, as we go further out. We see some things in the pricing markets, in the sugar markets that we like, and suggest more sustainable high prices, but they are still commodity markets, and anything can happen. So to predict, continued $20 million profit going forward is tough, the further you go out. But I do feel good about next year, and hopefully, the next one or two years after that.

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Brendan Maiorana, Wells Fargo Securities, LLC – Analyst [17]

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Okay. Great. That’s helpful. Thanks.

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Operator [18]

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(Operator Instructions).

Okay, ladies and gentlemen, this concludes the question and answer session for today’s call. I would now like hand the call back over to Suzy Hollinger for closing remarks.

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Suzy Hollinger, Alexander and Baldwin Inc – Director,IR [19]

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Thanks, everyone for being on today’s call. If you have additional questions, please call me at 808-525-8422. Thank you.

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Stan Kuriyama, Alexander and Baldwin Inc – President, CEO [20]

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Thank you everyone.

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Operator [21]

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Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect.