Security National Financial Corporation — Q3 2014 Form 10-Q
Business context and reporting period. Unaudited results cover the three and nine months ended September 30, 2014, compared with the same periods in 2013. The company operates life insurance, cemetery and mortuary, and mortgage businesses. It filed on November 14, 2014.
Financial results and position
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Total revenue | $61.7 million | $50.6 million | $166.2 million | $166.7 million |
| Earnings before tax | $3.4 million | $2.0 million | $7.7 million | $9.7 million |
| Net earnings | $2.1 million | $1.3 million | $4.9 million | $6.1 million |
| Diluted earnings per share | $0.17 | $0.10 | $0.40 | $0.49 |
| Operating cash flow | Not separately reported | Not separately reported | $36.4 million | $43.2 million |
- Margins: Benefits and expenses were 94.5% of revenue in Q3 2014, down from 96.1% a year earlier. For the nine-month periods, the ratio rose to 95.3% from 94.2%.
- September 30 balance sheet: Total assets were $660.5 million, liabilities $566.7 million, and stockholders’ equity $93.8 million. Cash and equivalents were $32.6 million, down from $38.2 million at December 31, 2013.
- Debt and capitalization: Bank and other loans payable were $22.1 million versus $18.3 million at year-end. Total capitalization, including equity and debt, was $116.0 million; equity represented 80.9%, versus 82.8% at year-end.
- Investments and insurance obligations: Total investments were $431.6 million. Future life, annuity and other benefit liabilities were $475.1 million.
Material changes and operating drivers
- Q3 revenue increased 22.1%, with mortgage fee income up $7.3 million and net investment income up $2.9 million. Q3 net earnings rose to $2.1 million from $1.3 million.
- Nine-month revenue was nearly flat, but pretax earnings fell 20.0% and net earnings fell 19.6%. Mortgage fee income declined $8.1 million, primarily reflecting lower secondary gains and reduced refinancing activity as mortgage rates increased.
- Mortgage segment pretax earnings declined 63% for the first nine months to $2.7 million; Q3 earnings increased 78% to $1.5 million. The company originated and sold 7,981 loans totaling $1.50 billion in the first nine months of 2014, down from 9,064 loans totaling $1.69 billion a year earlier.
- Life insurance pretax earnings increased to $4.8 million for the nine months from $2.4 million, supported by higher premiums and investment income. Cemetery and mortuary pretax earnings were $0.2 million versus $0.2 million; that segment recorded a Q3 pretax loss of $0.1 million.
- Operating cash flow declined by $6.8 million year over year. Investing activities used $42.6 million, including substantial net lending, real estate purchases, and a $3.0 million cash payment for an acquisition. Financing activities provided $0.6 million.
Outlook, risks, contingencies and unusual items
- Management provided no quantified earnings or revenue guidance. It described ongoing priorities as niche insurance products, cemetery and mortuary operations, and mortgage lending. Management said operating cash flows were adequate for expected obligations and operating needs; it cautioned that nine-month results are not necessarily indicative of full-year results.
- Mortgage credit and repurchase claims: The company accrued approximately $6.8 million for investor claims involving alleged loan defects, defaults or representation breaches. It disputes the demands and says further claims and potential losses are difficult to estimate. A separate $6.8 million loan-loss reserve is reported in other liabilities; confirm how these disclosures relate before treating them as separate exposures.
- Lehman/Aurora litigation: A May 2014 summary judgment ruling favored SecurityNational Mortgage, but reconsideration and the amount potentially owed remained under court advisement. Lehman Holdings’ separate claims, initially stated to exceed $5 million, also remained unresolved. The company had not accrued losses under the indemnification agreement at quarter-end and claimed approximately $4 million in affirmative relief in related litigation.
- Other exposures: A JP Morgan/EMC indemnification demand relating to 21 loans remained disputed. A Wells Fargo settlement requires payments tied to mortgage loan sale proceeds through March 2017 and sharing certain real estate sale proceeds.
- Commitments: Residential construction loan commitments totaled $46.9 million, of which $29.6 million was funded. Insurance subsidiaries were reported in compliance with risk-based capital requirements; statutory insurance capital cannot be distributed without regulatory approval.
- Acquisition: The company acquired American Funeral Financial on June 4, 2014, paying $3.0 million cash plus $12.0 million for receivables, with estimated earn-out consideration of $1.4 million. The business provides funding to funeral homes and mortuaries.
- Capital change: A 1-for-10 reverse split of Class C shares and a change to ten votes per Class C share became effective August 1, 2014. Class C shares became convertible one-for-one into Class A shares.
Most important facts for investors to verify
- Whether mortgage investor claims and the related reserves are adequate, and whether reported reserve amounts overlap.
- Outcomes and potential financial effects of the Lehman/Aurora, Lehman Holdings, and JP Morgan/EMC matters.
- Whether mortgage origination volumes, secondary gains, and refinancing activity continue to weaken or recover.
- Credit quality and geographic concentration of mortgage loans: 39% of mortgage loans were in Utah, 22% California, and 13% Texas; nonperforming loans totaled $6.9 million.
- Cash generation, borrowing needs, and the ability to fund construction commitments and other obligations as investment and lending activity expands.
- Results and integration of American Funeral Financial, including actual receivable collections and earn-out payments.