Hawthorn Bancshares, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Hawthorn Bank provides community banking, lending, mortgage, and trust services in Missouri. Financial statements are unaudited.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net interest income | $12.2 million | $11.0 million | $23.8 million | $21.8 million |
| Net income | $3.52 million | $2.91 million | $8.19 million | $5.00 million |
| Diluted EPS | $0.56 | $0.46 | $1.30 | $0.80 |
| Net interest margin, fully taxable equivalent | 3.50% | 3.25% | 3.39% | 3.28% |
| Efficiency ratio | 67.73% | 74.11% | 69.86% | 76.59% |
Q2 pretax income was $4.36 million; provision for loan losses was $250,000 and noninterest expense was $9.67 million. For the first half, pretax income was $10.11 million and the loan-loss provision was $400,000. Noninterest income fell 11.3% in Q2 and 8.5% year to date, partly reflecting lower mortgage-servicing-rights valuation and mortgage-sale income. Noninterest expense declined 2.7% in Q2 and 3.2% year to date, with lower salaries and benefits contributing.
Balance sheet at June 30: Assets were $1.471 billion, down from $1.482 billion at year-end 2018. Loans were $1.157 billion, up from $1.147 billion; deposits were $1.186 billion, down from $1.198 billion. Stockholders’ equity was $109.4 million, up from $99.4 million. Cash and cash equivalents were $28.9 million, down from $42.1 million.
Cash flow and liquidity: First-half operating cash flow was $9.3 million; investing activities used $10.1 million and financing activities used $12.4 million, resulting in a $13.2 million decrease in cash and cash equivalents. Reported liquid assets totaled $232.6 million, including $213.2 million of available-for-sale securities. Core deposits were $1.044 billion, or 88.0% of deposits. Available borrowing capacity under stated collateral and lines was approximately $159.2 million.
Debt and capital: At June 30, borrowings included $85.0 million of FHLB advances, $49.5 million of subordinated notes, and $25.3 million of repurchase agreements. The company reported total risk-based capital of 13.74%, Tier 1 risk-based capital of 11.86%, Common Equity Tier 1 of 8.96%, and a Tier 1 leverage ratio of 10.03%; management stated the company and bank exceeded applicable well-capitalized levels.
Material changes and unusual items
- Net interest income rose 10.2% in Q2 and 9.2% in the first half year over year. Higher loan balances and yields supported interest income; higher deposit and borrowing costs partly offset the benefit.
- Q1 included a $2.1 million pretax ($1.6 million after-tax) gain on the February sale of the Branson branch, which transferred approximately $10.6 million of deposits. Excluding that gain, first-half net income was $6.55 million and diluted EPS was $1.04, versus reported GAAP figures of $8.19 million and $1.30.
- Cash provided by operations included the branch-sale gain adjustment; investing cash flows included a $6.7 million net branch-sale payment. The filing does not explain that cash-flow line further in the text provided.
- Effective January 1, 2019, lease accounting added $2.3 million of operating right-of-use assets and $2.3 million of lease liabilities; management said adoption had no material effect on other financial statements.
- A 4% special stock dividend was paid July 1, 2019. Share information and EPS were retroactively adjusted for all periods presented.
Credit, risks, outlook, and contingencies
- Allowance for loan losses was $11.9 million, or 1.03% of loans. First-half net charge-offs were $169,000, compared with $390,000 in the prior-year period. Nonperforming loans were reported at $5.84 million (0.50% of loans); nonperforming assets were $18.95 million, or 1.29% of assets.
- Other real estate owned was $13.1 million. Commercial real estate mortgage loans comprised 45.7% of total loans. Management noted that collateral values and local economic conditions affect credit-loss estimates.
- Management expanded the allowance methodology’s historical loss look-back to begin in Q1 2012, citing the extended economic recovery. The company was evaluating the upcoming CECL standard, had begun parallel credit-risk modeling, and had not determined the adoption impact.
- Off-balance-sheet commitments totaled $363.3 million, including $236.7 million of credit commitments and $120.7 million of standby letters of credit. No estimated losses were accrued; management said current liquidity resources were adequate and that commitments are not necessarily expected to be drawn in full.
- The company disclosed routine litigation and did not believe it would materially adversely affect near-term financial condition or results. No specific earnings or revenue guidance was provided.
- Risks identified include competition, interest-rate and margin changes, economic deterioration and credit losses, regulatory or tax changes, securities-market changes, and execution risks related to acquisitions or integrations. Interest-rate models showed projected net interest income increasing under the disclosed rate-shock scenarios, but management cautioned actual outcomes may differ substantially.
Most important facts for investors to verify
- How much of first-half earnings growth is sustainable after removing the Branson branch gain.
- Whether loan growth, margin expansion, and deposit pricing trends continue as funding costs rise.
- Credit quality trends, particularly commercial real estate exposure, nonperforming loans, watch-list loans, and collateral-dependent assets.
- The adequacy of liquidity and pledged collateral, including the effect of sizable credit commitments and standby letters.
- The eventual CECL transition impact and the assumptions supporting the allowance for loan losses.
- Capital ratios, dividend capacity, and the effects of the July stock dividend on per-share comparisons.