Security National Financial Corporation — Q2 2011 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2011; unaudited. The company operates life insurance, cemetery and mortuary, and mortgage businesses. Comparisons below are with the corresponding 2010 period unless noted.
Key financial results
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Total revenue | $36.47 million | $43.05 million | $70.64 million | $81.02 million |
| Pre-tax earnings (loss) | $141,178 | $84,781 | ($1.18 million) | ($1.59 million) |
| Net earnings (loss) | $204,867 | $419,419 | ($313,606) | ($531,814) |
| Net earnings (loss) per Class A equivalent share | $0.02 | $0.05 | ($0.04) | ($0.06) |
| Operating cash flow | Not separately presented | Not separately presented | $31.02 million | ($31.58 million) |
Q2 revenue declined 15.3%; six-month revenue fell 12.8%. Mortgage fee income was the main drag, down 35.5% for Q2 and 34.7% for the first half. Lower loan production and secondary gains were partly offset by higher insurance premiums and gains on asset sales. Benefits and expenses were 99.6% of revenue in Q2 and 101.7% for the first half, compared with 99.8% and 102.0%, respectively, in 2010.
- Segment performance: Q2 external revenue was $16.14 million in mortgage, $16.60 million in life insurance and $3.72 million in cemetery/mortuary. Pre-tax results were mortgage loss of $860,000, life insurance earnings of $338,000 and cemetery/mortuary earnings of $663,000. For the first half, mortgage lost $3.41 million before tax, while life insurance earned $1.42 million and cemetery/mortuary earned $814,000.
- Balance sheet at June 30: Total assets were $491.77 million, up from $465.63 million at December 31, 2010. Cash and equivalents were $37.78 million versus $39.56 million; stockholders’ equity was $59.98 million versus $59.93 million.
- Debt and liquidity: Bank loans payable were $9.31 million, compared with $6.87 million at year-end; notes and contracts payable were $92,000. Management reported total capitalization of $69.38 million, with equity representing 86.4%, down from 89.5%. First-half investing cash use was $35.15 million and financing cash provided was $2.36 million. Management said operating cash flows and invested assets were adequate for expected obligations; life subsidiaries exceeded risk-based capital requirements.
Material changes and unusual items
- Insurance premiums rose 25.1% for the first half, primarily reflecting a coinsurance transaction with North America Life, effective December 1, 2010 and completed March 30, 2011. Security National Life assumed certain policy liabilities and received $15.70 million in assets, including $12.99 million cash, against $19.23 million in statutory reserves; it also paid a $3.53 million ceding commission.
- Mortgage originations and sales fell to 3,452 loans totaling $570.66 million in the first half, from 5,459 loans totaling $967.24 million a year earlier. Management attributed the decline to reduced refinancing activity, weak housing demand and changing interest rates. The company anticipated 2011 monthly volume of approximately $80 million–$150 million, versus $125 million–$200 million in 2010, and said it had reduced staff and funding costs.
- The May sale of substantially all operating assets of Greer-Wilson and Crystal Rose funeral homes generated $2.225 million proceeds and contributed to an $887,000 realized gain. The company also sold certain other assets and securities; total first-half realized gains on investments and other assets were $1.60 million.
- A Wells Fargo settlement required a total initial payment of $4.30 million, including $3.30 million paid after the April agreement. Through March 31, 2017, the mortgage subsidiary must remit 10 basis points from loan-sale proceeds and 50% of net proceeds from specified property sales.
Risks, contingencies and management commentary
- Mortgage investors asserted estimated potential claims of $24 million for repurchases, indemnification and other loan issues. The company accrued $2.817 million, believes it has significant defenses and says any additional loss cannot currently be estimated. It warned that an adverse judgment beyond the mortgage subsidiary’s capacity to pay could force it to curtail or cease operations.
- Lehman-related litigation is active. SecurityNational Mortgage sued Aurora Bank and Aurora Loan Services and seeks more than $4 million; Lehman Holdings separately sued the mortgage subsidiary. Lehman had previously asserted approximately $3.745 million in claimed losses. The company had not accrued losses under the indemnification agreement as of June 30, 2011.
- Mortgage loans held for investment included $18.56 million nonperforming, of which $11.44 million was in foreclosure. The allowance for these loans was $6.65 million. Loans are concentrated geographically: 36% in Utah, 11% in Florida and 15% in California. Management identified borrower and regional economic conditions as credit risks.
- The warehouse loan purchase agreement had $55 million available and was due to expire November 18, 2011; renewal discussions were in progress. A separate investor had terminated its business relationship, reducing the mortgage subsidiary’s pricing flexibility.
- Fixed-maturity securities held to maturity had $1.02 million in unrealized losses at June 30; the company reported $65,129 of first-half investment impairment losses. Management also noted significant valuation uncertainty in a collateralized mortgage obligation and was accruing $10,000 monthly.
- No consolidated earnings guidance was provided. Management cautioned that interim results are not necessarily indicative of full-year results. The filing reported effective disclosure controls and no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether the mortgage investor claims, the $2.817 million reserve and the Wells Fargo settlement provisions ultimately prove sufficient.
- Developments and potential exposure in both Lehman-related lawsuits, including the disputed claims and the company’s asserted recovery.
- Renewal of the warehouse agreement before November 18, 2011, available funding capacity and mortgage production trends versus management’s stated range.
- Mortgage delinquencies, foreclosure outcomes, geographic concentration and changes in loan-loss allowances and reserves.
- Performance and asset quality of the North America Life reinsured policies and the transferred real-estate-secured promissory notes.
- Whether recurring operations improve without reliance on asset-sale gains, given the first-half consolidated net loss and decline in mortgage revenue.