Business context and reporting period
Security National Financial Corporation’s unaudited Form 10-Q covers the quarter and six months ended June 30, 2019. Its three segments are life insurance, cemetery and mortuary, and mortgage. The company focuses on niche life products, funeral and cemetery services, and residential mortgage origination.
Financial performance and position
- Second quarter: Revenue was $68.45 million, down 0.6% year over year; pretax earnings were $4.62 million versus $4.16 million; net earnings were $3.48 million versus $3.24 million. Diluted EPS was $0.20 versus $0.19.
- First half: Revenue was $129.94 million, down 13.9%; pretax earnings were $7.06 million versus $25.35 million; net earnings were $5.41 million versus $20.16 million. Diluted EPS was $0.31 versus $1.17.
- Revenue drivers: Q2 mortgage fee income rose 3.9% to $32.95 million and net investment income rose 8.2% to $10.54 million; gains on investments and other assets swung to a $1.03 million loss from a $2.33 million gain. First-half mortgage fee income was nearly flat at $57.43 million; insurance premiums rose 1.8% to $38.67 million, and mortuary and cemetery sales rose 13.2% to $7.68 million.
- Margins and expenses: Benefits and expenses were 93.2% of revenue in Q2, compared with 94.0% a year earlier. For the first half, the ratio increased to 94.6% from 83.2%, reflecting lower revenue, particularly investment gains.
- Cash flow and liquidity: Operating activities used $40.73 million in the first half, versus $27.79 million used in 2018, primarily due to mortgage-loan originations. Investing activities provided $0.48 million and financing activities provided $25.89 million. Cash and equivalents were $127.83 million at June 30, down from $142.20 million at year-end; cash including restricted balances was $136.58 million.
- Debt and capital: Bank and other loans payable totaled $216.35 million, up from $187.52 million at year-end. Stockholders’ equity was $177.57 million; equity represented 45.1% of stated capitalization, down from 47.8%. Total assets were $1.11 billion.
Material changes versus the prior comparable period
- The sharp first-half earnings and revenue decline primarily reflects the absence of the $22.25 million Dry Creek apartment-sale gain recorded in Q1 2018. The 2019 period also included a $1.87 million impairment charge on a commercial property and did not include the $1.56 million Deseret Mortuary asset-sale gain recorded in Q2 2018.
- Mortgage segment pretax earnings improved to $2.38 million in Q2 from a loss of $0.85 million, and to $1.54 million for the first half from a loss of $4.23 million. Management attributed the improvement to cost reductions and process restructuring.
- Life insurance segment pretax earnings fell to $3.30 million for the first half from $26.65 million, largely because of the prior-year apartment-sale gain. Cemetery and mortuary pretax earnings declined to $2.21 million from $2.93 million.
- The company acquired Probst Family Funerals and Heber Valley Funeral Home in February for a net purchase price of $3.32 million. The acquisition contributed to higher mortuary and cemetery sales.
Outlook, commentary, risks and unusual items
- No formal earnings or revenue guidance is provided. Management said the third quarter is typically the mortgage business’s most profitable quarter and stated the segment may meet Texas Capital Bank’s profitability covenant by quarter-end.
- SecurityNational Mortgage had $27.23 million outstanding on its Texas Capital Bank warehouse line and $88.09 million on Wells Fargo’s line at June 30. The company received a Texas Capital covenant waiver after missing its profitability covenant, but had requested and not received a corresponding Wells Fargo waiver; the lines have cross-default provisions. Management said it believes it can meet requirements and could repay the lines using available cash and borrowing capacity if required.
- The company owed the Federal Home Loan Bank of Des Moines $45 million at June 30 and reported that it repaid the amount in July 2019.
- An independent appraisal of the impaired commercial property was pending; management said the appraisal could indicate that additional impairment is needed.
- SecurityNational Mortgage faces Lehman Brothers Holdings litigation concerning alleged indemnification obligations on mortgage loans, including approximately 136 loans and a separate complaint involving approximately 577 additional loans. The company denies liability and intends to defend itself. The filing does not provide a clear estimate of potential damages.
- Mortgage credit quality warrants attention: non-performing loans increased to $9.57 million from $3.64 million at year-end, and loans more than 90 days past due totaled $2.91 million. Construction and land-development loan commitments were approximately $104.22 million, of which $76.81 million had been funded.
- Management identifies significant estimation sensitivity in policy-benefit liabilities, loan-loss allowances, mortgage servicing rights, deferred acquisition costs, real-estate valuations, and taxes. The company adopted lease accounting in 2019, recognizing about $12.08 million of right-of-use assets and related liabilities at adoption; management said the effects on results were not material.
Important facts for investors to verify
- Whether Wells Fargo granted the requested covenant waiver and whether both warehouse-line covenants were satisfied in subsequent quarters.
- The independent appraisal result and any additional impairment recorded on the commercial property.
- Developments, claim amounts, and any reserve changes relating to the Lehman litigation and mortgage repurchase or indemnification claims.
- Trends in operating cash use, mortgage originations and sales, non-performing loans, and construction-loan commitments.
- Whether earnings comparisons normalize after accounting for the 2018 property-sale gains and the 2019 impairment.