Hawthorn Bancshares, Inc. — Q2 2015 Form 10-Q
Business context and period. Hawthorn Bancshares is a Missouri community banking company operating through Hawthorn Bank, serving communities in and around Jefferson City, Columbia, Springfield and other Missouri markets. This unaudited filing covers the three and six months ended June 30, 2015; balance-sheet comparisons are with December 31, 2014. Dollar amounts below are in millions unless otherwise noted.
Financial results and position
- Q2 earnings: Net income was $1.927 million, down 8.2% from $2.098 million a year earlier. Diluted EPS was $0.35 versus $0.39. Income before taxes fell 9.0% to $2.928 million.
- First-half earnings: Net income was $4.065 million, down 0.5% from $4.085 million; diluted EPS was $0.75 in both periods.
- Revenue and margin: Q2 net interest income increased 1.4% to $9.984 million; noninterest income rose 12.7% to $2.461 million. For the first half, those amounts were $19.962 million, up 2.4%, and $4.448 million, up 4.2%. Net interest margin declined to 3.63% in Q2 from 3.70%, and to 3.67% for the first half from 3.71%.
- Expenses and profitability: Noninterest expense rose 5.2% in Q2 to $9.267 million and 2.6% in the first half to $17.975 million. The efficiency ratio was 74.46% for Q2 versus 73.24%; first-half ratio was 73.64% versus 73.70%. Q2 return on average assets/equity was 0.65%/9.21%; first-half was 0.69%/9.89%.
- Assets and loans: Total assets were $1.204 billion, up from $1.170 billion at year-end. Loans were $863.7 million, slightly above $861.2 million; net loans were $853.7 million. Available-for-sale securities increased to $239.5 million from $199.0 million.
- Deposits, borrowings and equity: Deposits rose to $988.9 million from $969.5 million. Borrowings totaled $122.3 million, including $49.5 million subordinated notes, $47.0 million FHLB advances and $25.8 million repurchase agreements, versus $110.5 million at year-end. Stockholders’ equity was $83.8 million, or 6.96% of assets.
- Cash flow and liquidity: First-half operating cash flow was $6.5 million; investing activities used $46.7 million and financing activities provided $30.7 million. Cash and cash equivalents declined $9.5 million to $33.3 million. Management reported $250.4 million of cash and available-for-sale securities, $252.4 million of stated borrowing availability, and $671.7 million of core deposits.
- Credit quality: The allowance for loan losses was $10.0 million, 1.16% of loans, versus $9.1 million, or 1.06%, at year-end. Nonperforming loans were $18.1 million (2.09% of loans), down from $36.0 million (4.18%); nonperforming assets were $30.6 million versus $47.9 million. First-half net recoveries were $637,000, compared with $1.6 million of net charge-offs in first-half 2014.
- Capital: June 30 regulatory table reports company total capital ratio of 14.97%, Tier 1 risk-based ratio of 11.82%, common equity Tier 1 ratio of 8.82%, and leverage ratio of 9.36%. The bank’s corresponding ratios were 14.19%, 13.11%, 13.11%, and 10.44%. Management said the company and bank met capital adequacy requirements.
Material changes versus comparable periods
- Q2 net income and EPS declined despite higher net interest and noninterest income, as provision expense and operating costs increased.
- First-half net interest income grew, but margin narrowed; management attributed income growth mainly to higher average earning assets and margin pressure to a slightly lower net interest spread.
- Mortgage loan sale gains increased to $781,000 for the first half from $448,000, with loan sales of $28.9 million versus $14.5 million, partly reflecting refinancing activity.
- Nonperforming loans and TDR balances fell materially. TDRs were $7.7 million at June 30 versus $19.3 million at year-end, including $6.1 million performing TDRs. Other real estate and repossessed assets edged up to $12.5 million from $11.9 million.
- Unrealized securities losses contributed to first-half other comprehensive loss of $326,000, compared with $1.554 million of other comprehensive income in 2014.
Outlook, risks and unusual items
- The filing provides no quantified earnings or revenue guidance. Management said future short-term liquidity needs were not expected to vary significantly during 2015 and considered current liquidity adequate.
- Key stated risks include competitive pressure, interest-rate changes that could reduce margins, weaker national or Missouri economic conditions, deterioration in loan quality and higher credit provisions, regulatory changes, securities-market changes, and acquisition-integration risks.
- The company recorded a $250,000 loan-loss provision in 2015, primarily related to increased specific reserves on two loan relationships. First-half recoveries were substantially influenced by two loan relationships; assess sustainability rather than treating them as recurring.
- Legal, examination and professional fees increased, partly due to legal costs related to a class-action lawsuit. Management did not believe pending litigation was reasonably likely to materially adversely affect near-term financial condition or results, while noting some matters were too early to estimate. No loss was accrued for $151.5 million of off-balance-sheet commitments and standby letters of credit.
- A 4% special stock dividend was paid July 1, 2015; per-share data was retroactively adjusted. The 2015 pension contribution was $716,000, paid in April; the filing states pension relief provisions reduced the minimum required contribution from approximately $1.034 million.
- Management said securities unrealized losses were attributable to interest-rate changes rather than credit quality and did not consider the securities other-than-temporarily impaired. Mortgage servicing rights remain sensitive to prepayment assumptions, interest rates and compliance costs.
Most important facts for investors to verify
- Reconcile the capital-ratio presentation: selected financial data lists a 14.87% total capital ratio, while the regulatory capital table reports 14.97% for the company.
- Review the two loan relationships driving specific reserve increases, and monitor allowance adequacy, collateral values, nonperforming loans and TDR performance.
- Assess whether mortgage loan sale gains and first-half net recoveries are repeatable, and whether rising expenses and margin compression continue.
- Evaluate funding and liquidity exposure, including $317.1 million of time deposits, $122.3 million of borrowings and $151.5 million of off-balance-sheet commitments.
- Review the class-action matter, mortgage repurchase reserve ($160,000), and any developments affecting the company’s estimates or contingencies.