Hawthorn Bancshares, Inc. — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 30, 2014; financial statements are unaudited. Hawthorn Bank provides commercial and personal banking services in Missouri. Unless stated otherwise, amounts below are in U.S. dollars.
Financial performance
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net interest income | $9.847 million | $9.815 million | $19.501 million | $19.544 million |
| Net interest margin, fully taxable equivalent | 3.70% | 3.66% | 3.71% | 3.66% |
| Provision for loan losses | — | $1.000 million | — | $2.000 million |
| Non-interest income | $2.183 million | $3.088 million | $4.269 million | $6.096 million |
| Non-interest expense | $8.811 million | $9.281 million | $17.518 million | $21.216 million |
| Net income | $2.098 million | $1.812 million | $4.085 million | $1.676 million |
| Net income available to common shareholders | $2.098 million | $1.492 million | $4.085 million | $1.061 million |
| Diluted EPS | $0.40 | $0.29 | $0.78 | $0.20 |
Q2 net income rose 16% year over year, while six-month net income more than doubled. Results benefited from no loan-loss provision in 2014 versus provisions in 2013, lower interest expense, and lower non-interest expense. These benefits were partly offset by weaker fee income, including lower mortgage-loan sale gains and no securities-sale gains. For the six months, the large expense decline also reflected substantially lower other-real-estate expense, which had included costs and write-downs associated with two Branson-area hotels sold in 2013.
Q2 return on average assets was 0.72% and return on average common equity was 10.83%; six-month figures were 0.71% and 10.75%, respectively. The reported efficiency ratio was 73.24% for Q2 and 73.70% for the first half. The filing also presents an adjusted ratio excluding other-real-estate expense and securities-sale gains: 71.81% and 72.45%, respectively.
Financial position, cash flow and liquidity
- At June 30, 2014, total assets were $1.171 billion, up from $1.140 billion at December 31, 2013. Loans were $857.5 million, up 2.1%; deposits were $988.5 million, up 3.3%.
- Cash and cash equivalents were $34.2 million, versus $28.4 million at year-end. Stockholders’ equity was $79.5 million, versus $74.4 million.
- Six-month operating cash flow was $7.5 million, compared with $12.4 million in 2013. Investing activities used $24.9 million; financing activities provided $23.2 million. Cash increased $5.8 million in the period.
- Borrowings totaled $96.3 million: $22.8 million in repurchase agreements, $24.0 million in FHLB advances and $49.5 million in subordinated notes. The company reported $286.8 million of available borrowing capacity across listed facilities at June 30.
- Available-for-sale securities were $215.7 million; $186.9 million were pledged, leaving approximately $28.8 million unpledged. Core deposits were $645.0 million, or 65.3% of deposits. Management said current liquidity resources were adequate for commitments and expected short-term liquidity needs not to vary significantly during 2014.
Credit quality, capital and material changes
- The allowance for loan losses was $12.2 million, or 1.42% of loans, down from $13.7 million, or 1.63%, at year-end. No loan-loss provision was recorded in the first half, but six-month net charge-offs were $1.6 million, compared with $1.5 million in 2013; Q2 charge-offs rose to $695,000 from $187,000.
- Nonperforming loans were $37.4 million, or 4.36% of loans, versus $35.3 million, or 4.21%, at year-end. Nonaccrual loans increased to $25.7 million from $23.7 million. Nonperforming assets, including other real estate and foreclosed assets, declined to $49.4 million from $50.2 million.
- Impaired loans totaled $36.8 million; $22.4 million had no specific allowance, primarily because management considered collateral, payment history or cash flow adequate. Troubled debt restructurings totaled $21.4 million. Commercial real-estate mortgages represented 44.4% of total loans.
- At June 30, the company’s total risk-based capital ratio was 15.55%, Tier 1 risk-based ratio 11.85%, and leverage ratio 9.00%. The Bank’s corresponding ratios were 14.57%, 13.32%, and 10.09%. Management said both met applicable capital requirements and expected Basel III changes to have no material impact.
- On July 1, 2014, the company paid a 4% special stock dividend. Share and EPS information was adjusted retroactively. The company had exited the Treasury Capital Purchase Program in 2013.
Management commentary, risks and contingencies
- Management attributed the margin improvement mainly to lower certificate-of-deposit costs, including the 2013 maturity of a $23 million, 58-month certificate paying 6.05%. Lower market rates reduced loan yields and interest income.
- Mortgage activity weakened: six-month mortgage loans sold fell to $14.5 million from $52.2 million, and management cited rising rates and subdued refinancing activity.
- Risks identified include competition, interest-rate changes, economic conditions affecting Missouri borrowers and collateral, potential increases in credit losses, regulatory changes and securities-market movements. Management noted that Dodd-Frank implementation could reduce revenue or increase costs.
- Off-balance-sheet commitments included $119.0 million to extend credit, $4.3 million of residential mortgage origination commitments and $1.4 million of standby letters of credit. No estimated loss accrual was recorded for these instruments.
- A $160,000 reserve covered estimated mortgage-loan repurchase or make-whole exposure. Freddie Mac had reviewed 15 foreclosed loans; three were settled for $119,000 in reimbursements and the remaining 12 were settled without additional cost. Management did not expect pending litigation to materially adversely affect near-term financial condition or results.
- No quantitative earnings or revenue guidance was provided. Management’s liquidity comments are not a broader earnings forecast.
Important facts for investors to verify
- Whether the absence of loan-loss provisions is sustainable given higher Q2 charge-offs, rising nonperforming loans and reduced allowance coverage of nonperforming loans (32.53%, down from 38.84%).
- Credit quality and collateral values, especially commercial real-estate exposures, impaired loans and the $21.4 million TDR portfolio.
- Whether lower deposit costs can continue to offset lower asset yields and reduced mortgage-related and other fee income.
- The quality and availability of liquidity, including pledged securities, borrowing capacity, deposit mix and potential draws on $121.6 million of commitments and standby letters of credit.
- Progress on the 2014 pension funding requirement: the company had contributed $172,000 and estimated a $1.3 million minimum contribution for the plan year; it had not determined whether to contribute more than the minimum.