This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.
Operator
Greetings. Welcome to the Hannon Armstrong Fourth Quarter and Full Year Earnings Conference Call and Webcast. At this time, all participants are in listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Neha Gautam, Senior Director, Investor Relations and Corporate Finance.
Neha Gautam
Thank you, operator. Good afternoon, everyone, and welcome. Earlier this afternoon, Henan Armstrong distributed a press release detailing our fourth quarter and full year 2022 results, a copy of which is available on our website. This conference call is being webcast live on our investor relations page of our website, where a replay will be available later today. Some of the comments made in this call are forward-looking statements which are subject to the risks and uncertainties described in the risk factors section of the company's Form 10-K and other filings with the SEC. Actual results may differ materially from those stated. Today's discussions also include some non-GAAP financial measures. Reconciliation of GAAP to non-GAAP measures is available on our posted earnings release and slide presentation. Joining me on today's call are Jeff Eckel, the company's chairman and CEO, Jeff Lipson, CFO and COO, and Mark Pangburn, Executive Vice President and Co-Chief Investment Officer. Before turning the call over to Jeff, I'd like to announce that we are hosting an Investor Day on March 21st, during which we will discuss the company in more detail and allow investors and analysts to meet more members of our leadership team. More details on the event will be forthcoming. With that, I'd like to turn the call over to Jeff, who will begin on slide three. Jeff?
Henan Armstrong
Thank you, Neha, and good afternoon, everyone. I'm pleased to report the company continues to execute in 2022 with distributable earnings of $2.08 per share, up 11% year over year. We reaffirm our guidance for annual growth and distributable EPS of 10 to 13% through 2024, and 5 to 8% annual growth on our dividend for the same period. Our board has declared a quarterly dividend of 39.5 cents per share, an increase of 5.3%. Please note that growing earnings faster than the dividend is intentional in order to provide more retained capital for the growth and investments we are anticipating. As signaled in prior calls, we executed on strong volume in the fourth quarter with over $880 million in transactions, bringing total volume for 2022 to $1.8 billion. The average yield for newly closed transactions on balance sheet was more than 8% last quarter, a notable increase in the yield of new investments compared to average portfolio yield of 7.5%. These new transactions will fund over the course of 2023. Finally, we announced our leadership transition, which will separate the role of chairman and CEO, and thus Jeff Lipson will become president and CEO March 1st. Jeff arrived four years ago as a former bank CEO and has done simply a remarkable job building out our corporate and asset finance capabilities, as well as running operations for the last two years. The board and I have the highest conviction in his leadership of the company. Mark Pangburn will be promoted to CFO from his current role as Co-Chief Investment Officer. Mark has been with the company since just after the IPO in 2013, and has been instrumental in building out the company's investment portfolio and client base. I congratulate Jeff and Mark on their promotions, and I'm highly confident we have the right people to lead the company. In the nearly 10 years since the IPO, I'm pleased to report that we have outperformed the S&P 500 by almost one and a half times on annualized total shareholder return, returning more than 18% per year. We did this while investing on the right side of the climate change line, setting the standard for measuring impact in climate solutions investing. Most importantly, We've built a deep and highly skilled team of mission-driven professionals to continue to produce superior risk-adjusted returns while making a measurable impact on carbon emissions. I'm excited to focus on my role as chairman and confident of Jeff, Mark, and the rest of the leadership team's ability to execute our growth amidst the overwhelmingly supportive public policy backdrop. Let's talk about that policy backdrop on slide four. The Inflation Reduction Act will positively affect our business, as evidenced by our clients increasing their pipelines due to the long-term ITC-PTC policy certainty and tax credits for renewable fuels. Tax credits for battery storage has made standalone projects conducive for investment, an example of policy accelerating new investable asset classes for us. The transferability of tax credits will expand the tax capacity available for renewable projects as well as provide an opportunity for us to participate in those transactions. Finally, the Infrastructure Bill and CHIPS Act provide constructive policy backdrop for new transmission and onshoring manufacturing. In my 40-plus-year career, I never imagined this level of in-length policy support for the energy transition. This is unmitigated good news for HACI. With that, I will turn it over to Jeff Tiefel.
Neha
Thanks, Jeff. Now that we have moved forward with our leadership transition, I would like to take a moment and recognize the enormous achievements that have occurred under Jeff's tenure. Jeff has overseen the growth of this company from a small enterprise into a significant industry trailblazer and leader in climate solutions. The investment thesis that he developed was well ahead of its time, but has proven to be a superior and durable strategic focus. Jeff has built a talented team which will carry on his legacy. Personally, I am honored to be selected as the next CEO and look forward to continuing to work closely with Jeff as executive chairman. I will note we are not announcing a strategic change as part of this succession plan. Our current strategy is working, and we will continue to grow the business with a similar approach, adapting the strategy as necessary. Before discussing our results, I'd like to recognize our incoming CFO, Mark Pangburn. Mark has been an integral part of our investment team for many years. and I look forward to continuing to work with him in his new role. Mark will discuss our fourth quarter investment volume. Mark?
Jeff
Thank you, Jeff. And thank you, Jeff. It is a privilege to support you both in our growth to date and on the capitalization of the opportunity ahead. I have spent the past nine years with the company building deep relationships with the best clients in the business. I look forward to building similar relationships with our investors and analysts. Now, On slide five, we are pleased to report a great quarter with approximately $883 million of closed transactions across our markets. A significant majority of these investments will remain on balance sheet with an average yield above 8%, highlighting the upward trend in yields discussed on previous calls. The diversity of clients and asset classes is a noteworthy feature of our business. In the fourth quarter, we closed 18 transactions with multiple clients, eight programmatic clients, two with whom we've expanded existing relationships into new asset classes, and one new client. These clients will continue to drive our business forward in the years to come. I would also like to highlight the carbon count on one of our transactions we closed last quarter. It was an equity investment with AES and a 1.3 gigawatt portfolio of 18 projects across six states, and we calculate a carbon count of 1.1. significantly higher than the portfolio average reported carbon count of 0.4, with the difference being driven by the specific location of the underlying assets. As a reminder, carbon count is heavily influenced by the energy mix of the applicable grid. These assets are displacing a larger amount of carbon emissions per dollar invested. I will conclude by restating that fourth quarter volume represents a strong diversity of clients, markets, and asset classes. They provide long-term recurring income with an upward trend on yield and play a key role in the energy transition. With that, I'll turn back to Jeff Bell.
Neha
Thank you, Mark. Slide 6 displays our volume of $1.8 billion in 2022, consistent with recent history. One of the key reasons that we have successfully grown our portfolio is that our strategy incorporates multiple asset classes. If we were reliant on a single asset class, our growth would unlikely be as consistent. In 2020, grid-connected wind was a primary driver of volume. In 2021, grid-connected solar and public sector transactions led to volume growth. And in 2022, volume was spread evenly across grid-connected solar, resi-solar, and public sector. And we also made strong progress in sustainable infrastructure. This diversity is the result of a significant number of clients that we work closely with. many of them involved in multiple asset classes, as well as our ability to pivot towards opportunities quickly. Our business is becoming even more diverse, as recent transactions in renewable natural gas and transportation indicate. Likewise, our 12-month pipeline of greater than $4.5 billion is also well-balanced, as our behind-the-meter pipeline is benefiting from increasing utility rates, our grid-connected pipeline is primarily solar opportunities, and our sustainable infrastructure pipeline is mostly clean fuels, transportation, and nature-based solutions. This balanced profile allows investors to participate across the entire clean energy transition market. Turning to slide seven, we show our $4.3 billion balance sheet portfolio as of year-end 2022, which represents growth of 19% over the prior year. The average yield of our investments is 7.5%, up slightly from the third quarter. The projects underlying these investments represent over 12 gigawatts of clean energy, in addition to the non-power-related investments in the sustainable infrastructure market. Our investments are non-cyclical, resilient across economic cycles, and represent real assets with long-term income generation. On the right side of the page, we detail our portfolio reconciliation. The portfolio increased nearly 10 percent for the quarter as we funded $458 million of investments. Funding expectations of previously closed transactions is now over $750 million, including the recently announced AES grid-connected investment, which we expect to fund in the first quarter. Summarizing our 2022 results on slide 8, we report distributable EPS of $2.08, an 11% growth rate versus 2021, and consistent with our guidance range. The growth is primarily driven by distributable net investment income, which grew by 34% to $180 million in 2022, reflecting a larger portfolio and strong margins. We had another outstanding year securitizing assets, resulting in gain on sale and fees of $79 million in 2022, very consistent with 2021. These fees are primarily driven by asset mix and unaffected by interest rate changes or the ABS market. We expect our gain in sale and fees to remain roughly in the same range for 2023 and over time to represent a lower percentage of revenue as we continue to grow our net investment income. I will note our GAAP EPS was 47 cents for 2022, a lower result than 2021. This was substantially driven by mark-to-market losses on power price swaps at the project level. As energy prices rose, the project's value was increased, which does not show up in the GAAP numbers, but the swaps incur losses, which does result in non-cash unrealized losses. As we remind investors consistently, this project level HLBV accounting is not a good indicator of our period economics, which is better represented by our non-GAAP measures. Slide 9 summarizes the long-term consistent success of the business, utilizing a variety of metrics. Our distributable EPS has experienced consistent growth despite all the challenges of the last few years, including the pandemic, supply chain, and interest rates, achieving an 11% compound average growth rate for the five years ending 2022. Likewise, our distributable NII has experienced an average growth rate of 28% over the last five years, as we have continued to build the balance sheet with accretive investments. Our managed assets and portfolio, as well as our investment margins, have also experienced healthy growth over the last five years. The multi-year demonstrated success of our business, as represented on this slide, represents a strong foundation on which to build, which brings us to slide 10, reflecting that we continue to affirm our 10% to 13% EPS guidance, despite the macroeconomic challenges and market volatility. We expect to achieve our 2024 EPS guidance growing approximately radically over the next two years. Turning to slide 11, we discussed our funding platform. Our liquidity as of year end 2022 stands at over $870 million, even after making all the aforementioned accretive investments in the fourth quarter. In the upper right, we note we've been successful raising capital from diverse sources over the last two years. In 2022, we raised approximately $1.5 billion from our term loan A, our unsecured revolver, commercial paper, convertible debt, and equity. Whereas in 2021, we focused more prominently on unsecured bonds. In 2023, we expect to continue to raise capital to support our growth, utilizing diverse funding sources, including securitization, incremental secured, convertible, and unsecured debt, and revolver utilization, plus equity issuance to maintain our leverage. We have no material refinancing risk until 2026, and our leverage and fixed rate debt percentage remain consistent with historical ranges. I will also note we included our cash flow reconciliation in the appendix, consistent with the disclosure we began providing in the second quarter. In conclusion, our track record of earnings growth has been outstanding, and we are well positioned for further growth, while our diverse funding platform continues to provide ongoing sources of capital and liquidity. And with that, I'll turn the call back over to Jeff.
Henan Armstrong
Thanks, Jeff, and congratulations. The company is in great hands under your leadership. Turning to slide 12, we note a number of ESG accomplishments, as well as our periodic carbon and water count disclosures. Last quarter, in collaboration with other leading corporates, we co-founded the Emissions First Partnership to improve corporate and investor emissions accounting by moving beyond megawatt hour, matching and focusing more on quantified emissions impact. We declared a social dividend to the Hasse Foundation to support climate justice initiatives. Some of those projects in 2022 include energy efficiency projects for nonprofits, resilience hubs for disadvantaged communities, scholarships and fellowships for climate-focused young professionals. Finally, we have enhanced our governance protocol with the announced executive succession that would separate the roles of the chairman and the CEO. We'll conclude on slide 13. The business outlook is the brightest it has ever been in this company's history. The energy transition to a lower carbon world is accelerating with support of public policy in the IRA, the bipartisan infrastructure bill, and the CHIPS Act. Because of this, our clients' aspirations are expanding, and we believe our long participation in this industry positions us well for continued programmatic investments with our top-tier client base. We have a proven strategy executed by our mission-driven team. The announced leadership succession sets up the company to prosper in its next chapter. I will close by thanking our clients who are doing the hard work engineering this energy transition, our investors and analysts who have appreciated the opportunity for this business, my fellow directors who have guided me through this succession process, and finally the HACI team, which continues to inspire me and for whom working with them day to day has been an honor. With that, I'll ask the operator to open the line for questions. Operator?
Operator
Thank you. We'll now be conducting a question and answer session. If you'd like to ask a question, please press star 1 on your telephone keypad, and the confirmation tone will indicate your line is in the question queue. You may press star 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Thank you, and our first question is from the line of Noah Kay with Oppenheimer. Please proceed with your questions.
Noah Kay
Thanks very much for taking the questions, and I guess let me be the first in the analyst community to congratulate you all for the leadership transitions and wishing you all the best of success. Thanks, Noah. I guess, you know, not to take any attention away from analysts today, because I'm sure you'll spend some time talking about this there, but this is at a high level Can you talk about why now is the right time for the leadership transition? You know, we'd love to hear each of your perspectives.
Henan Armstrong
Oh, great question. No, we've been doing this as a public company for 10 years. I'll be 65 in April, and there seems to be some symmetry around that. But really, the growth in the opportunity is such that there's a real role for me as chairman of working on strategy, some client issues, public policy, and thinking more about carbon. But this is going to be a much, much bigger business, and Jeff and Mark are the right two people to take this on. When I left Hannah Armstrong in 89, Mike Hannon sent me a note saying, I should have created more space for you to stay with us. And I feel that's true now. There's so much opportunity that it's good for this organization to evolve and grow, and this is, I think, the best way to do that.
Neha
And I would just add, Noah, I think on Investor Day, one of our themes will be how deep a team we have, and you'll get an opportunity to meet more members of the team in addition to Mark and myself. And so I think we're... particularly able now to make this transition effectively given all the talent we hired. And this was entirely Jeff's unilateral decision of when he decided it was the right time for him. So I think it's really worked out well for everybody.
Noah Kay
Okay. Appreciate that. I'm looking forward to it. And now to switch over to a very in the weeds question just around the equity method income. It looks like on a non-GAAP basis, you know, equity method income actually increased sequentially. It grew sequentially and was pretty consistent with last quarter. But can you just give us a little bit more color on, you know, how the marked market price swaps impacted the GAAP losses and just, you know, remind us what, you know, the underlying economics represented by the non-GAAP actually reflect?
Neha
Sure. So to reiterate, the non-GAAP accounting for equity method investments is fundamentally the IRR that we expect to achieve and earn over the life of the investments taken on a ratable basis. And we do adjust that accruing IRR level for changes in the projects, as we did in the first quarter of 2022. But other than for incremental changes in the project, that accruing rate tends to stay in place for a very long time, and we do believe reflects fundamentally the economics of our investment, which is why the non-GAAP measure is very helpful for investors and analysts. At the GAAP level, we're required to use HLBV, as you know, and one of the items that occurs there is we have these power price swaps down at the project levels, and as I mentioned in the prepared remarks, as power prices increase, The project itself becomes more valuable, but there's no actual immediate accounting associated with that. But the swaps themselves become less valuable and are more out of the money. They're doing the exact hedge that they're designed to do, but they, on a mark-to-market basis, are now worth less. That does have immediate accounting. So you have losses at the project level that then become part of the HLBV calculation and part of the GAAP earnings on those projects. Likewise, if there were a second item to mention is when utility-scale solar projects are put in service, there tends to be an immediate one-time increase through the ITC that also flows through our HLBV financials. And there are a lot more of those in 2021 than 2022, which also affects the GAAP income. So hopefully that's a helpful way to understand the difference between GAAP and non-GAAP for the equity method investments.
Noah Kay
Yeah, and so just to reflect back, fundamentally these projects are more valuable now. They have higher revenue associated with them because energy prices are higher, and you haven't changed your IRR assumptions regardless. Is that a fair start? That's a good thing. All right. Thanks very much. I'll turn it over. Thanks, Tom.
Operator
The next question is from the line of Chris Seller with B. Reilly. Please proceed with your question. Sure.
Chris Seller
Hey guys, thanks for taking my questions here and congrats on the new roles all around here. Maybe just, yeah, maybe on the gain on sale, you know, historically that was pretty lumpy. Recently it hasn't been. It's been like really steady. until this quarter is down. I assume that's just a function of low public sector volumes in the quarter, not any change in spreads for that business. In fact, it looks like there's a high receivables held for sale at the quarter end. So I'm just kind of curious if you could talk about both the gain on sale and how the public sector market activity looks in the near term. Obviously, it's a portion of the buy from the meter stuff, but I wanted to get a sense of how that particular segment is looking these days.
Neha
Sure. There's no real trend to report there, Chris. I think, as you know, it can get lumpy by quarter, and I think you picked up on There are some things that we didn't get a chance to securitize in the fourth quarter that I'll spill into next year. So I wouldn't read anything into that other than from one quarter to the next. In terms of the public sector pipeline, it remains very consistent. There are several transactions in the pipeline on the public sector side, and there are several transactions not in the public sector that include investments that we'll also securitize. So that's where I was comfortable saying in my prepared remarks we expect our gain on sale to be very similar again in 2023. Okay.
Chris Seller
Got it. Makes sense. And then, you know, I was curious, you know, obviously you guys have had, you know, significant liquidity that you've, you know, been highlighting for, you know, several quarters, right? But, you know, looking at kind of the current liquidity and taking the AES deal closing in the first quarter, that probably cuts it in half or so. Do you guys have like a target around, you know, liquidity that you'd have, you know, at any given point going forward? Just kind of curious, you know, it seemed to kind of hover, you know, around where it is now or, you know, had been kind of trending up. So I'm curious if there's If you guys are looking at that as like a metric we should continue to watch.
Neha
We do have a couple of liquidity targets internally that we've agreed upon with our board. We've not disclosed them formally, but they are a function of items that you might expect, including availability on our revolver and near-term closings that we expect in our pipeline. And I would say it's a very conservative measure, and we tend to maintain quite a bit of liquidity. Even going back all the way to 2020, when the pandemic hit, we started to hold more liquidity, much more than we had previously in 2019 and previous years. And we've maintained that trend, even as obviously markets have settled in a post-pandemic way. And I suppose, given your question, we may consider disclosing a liquidity metric, but I will confirm we do have very specific Minimum liquidity targets here internally.
Chris Seller
Okay. That makes sense. And maybe just my last one, you called out they had a new client. I'm curious what sector.
Jeff
Excuse me. That was in the grid connected space.
Chris Seller
Okay. Great. That's all I had. Thanks, guys. I'll hop in the queue.
Operator
Thanks, Marcus. Our next question is from the line of Mark Strauss with J.P. Morgan. Pleased to see you with your questions.
Marcus
And yeah, congratulations to all of you. Well deserved. So good to see. Can I start with just the comments going back to the policy support, Jeff Eckel? Just can you talk about what you're seeing in the market as far as, I mean, so the transaction volume you have is, in my opinion, pretty impressive. To the extent that you are able to tell, I mean, how much of that can you directly tie back to the IRA or some of these other bills that have been passed? And maybe more specific to the IRA, your expectations for timing, what you're hearing from some of your counterparts as far as getting some guidelines from Treasury, whatever it might be, if we can see a more material uplift as we progress throughout the year.
Henan Armstrong
Thanks, Mark. I think we can attribute zero in 2022 to the IRA since it only passed in 2022 and hasn't really had an impact on our client's development pipeline. I think our optimism about that impact, it does come from our clients when they say we've got a gigawatt in development and now they're saying, well, now it's two gigawatts. Now we We see projects penciling that weren't penciling before. And we query our clients periodically and get updates on their view, and they're just really quite optimistic. Is it 2023 or 2024 or 2025? We don't know. I'm not sure our clients actually know. You asked about the Treasury guidelines. Some are coming out, but that's still a gating item before You can actually implement the law. You have to have the guidance, and that's not done yet. But I think it's important to take a big step back and say, with tax credit certainty for 10 years that this industry's never had, our clients are able to plan for much, much larger businesses in the U.S., and it's, as I said, an unmitigated positive for the business. But always, timing is the key.
Marcus
Yeah, got it. Okay, thank you. Just one quick follow-up. Just fully appreciating, like you said, how diversified your in-markets are. Just curious for your take on the state of the U.S. residential solar market this year. There's been some mixed commentary from some of the industry participants so far. I'm just curious kind of how how you're thinking about that as your outlook for this year. I'm going to have Mark Pineburn answer that.
Jeff
Thanks, Jeff. Along the lines of Jeff's taking a step back, we believe the long-term fundamentals of the U.S. residential solar market remain very strong, driven both by the IRA and increasing utility rates. Obviously, there are some short-term headwinds which have all been identified, but as it relates to our business, we're seeing the increasing cost of capital have a much smaller impact on leases and PPAs, which have been a majority of our focus to date. So we expect the industry will work through these and that our business will continue to benefit from this focus on leasing PPAs. Versus loans. Versus loans, yeah. Right. Makes sense. Okay. Thank you.
Henan Armstrong
Thanks, Mark. Thanks, Mark. Thank you.
Disclaimer