Business context and reporting period
Hawthorn Bancshares, Inc. is a Missouri community banking holding company operating through Hawthorn Bank. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2023. Figures are in millions unless otherwise noted.
Financial performance and position
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Net interest income | $14.2 | $14.6 | $28.2 | $28.7 |
| Net income | $2.5 | $4.5 | $5.8 | $11.1 |
| Diluted EPS | $0.36 | $0.64 | $0.83 | $1.57 |
| Net interest margin, FTE | 3.19% | 3.64% | 3.17% | 3.57% |
| Efficiency ratio | 80.55% | 63.38% | 76.54% | 65.87% |
- Interest income rose, but funding costs rose faster: Q2 interest expense was $7.7 million versus $1.6 million a year earlier; six-month expense was $14.7 million versus $2.9 million.
- Non-interest income was $1.6 million in Q2 and $4.8 million for six months, down 56.3% and 35.2%, respectively, year over year. Non-interest expense increased 10.3% in Q2 and 6.0% for six months.
- At June 30, total assets were $1.901 billion, loans held for investment $1.563 billion, deposits $1.543 billion, total liabilities $1.774 billion, and stockholders’ equity $126.5 million. Compared with December 31, 2022, loans increased $42.0 million, deposits declined $88.8 million, and assets declined $22.8 million.
- Cash and cash equivalents were $24.6 million, down from $83.7 million at year-end. Six-month operating cash flow was $7.8 million; investing activities used $42.3 million and financing activities used $24.5 million, resulting in a $59.1 million cash decrease.
- Total borrowings were $219.3 million, including $164.3 million of FHLB advances, $49.5 million of subordinated notes, and $5.5 million of repurchase agreements. FHLB advances and other borrowings increased substantially as the company used FHLB funding for short-term liquidity needs.
- Company regulatory capital ratios included total risk-based capital of 13.99%, Tier 1 risk-based capital of 12.51%, common equity Tier 1 of 9.92%, and Tier 1 leverage of 10.46%. Management reported regulatory capital above applicable well-capitalized levels.
Material changes and unusual items
- Hawthorn adopted CECL on January 1, 2023. Adoption increased the loan allowance by $5.8 million and established a $1.3 million liability for unfunded commitments, reducing retained earnings by $5.6 million after tax. Prior-period credit-loss figures use the previous incurred-loss method and are not directly comparable.
- Q2 included a $1.8 million write-down on foreclosed property, based on a current appraisal. Other real estate owned was $6.4 million at June 30, with a valuation allowance of $4.5 million.
- Non-performing loans fell to $3.8 million from $18.7 million at December 31, primarily because three large non-accrual relationships returned to accrual status. However, substandard loans increased to $26.3 million from $12.8 million at year-end.
- The allowance for credit losses was $22.2 million, or 1.42% of loans, versus $15.6 million, or 1.02%, at year-end. Six-month net loan recoveries were $40,000.
- Available-for-sale securities had $44.7 million of gross unrealized losses at June 30, primarily attributed to interest rates. Management said it did not intend to sell the securities and did not expect to be required to sell them.
- On July 1, 2023, the company paid a 4% special stock dividend; share and EPS data were retrospectively adjusted. The quarterly cash dividend declared was $0.17 per share.
Liquidity, outlook, and risks
Management stated that available liquidity, including funding capacity at the FHLB, Federal Reserve, and correspondent banks, was more than adequate for anticipated needs. Reported unused funding capacity was $259.8 million. Core deposits were $1.401 billion, or 90.8% of deposits; estimated uninsured deposits were $359.4 million, of which $104.3 million of public funds were collateralized. The company had $401.4 million of off-balance-sheet commitments, including commitments to extend credit and standby letters of credit. Management expects to continue quarterly cash dividends, subject to Board approval and regulatory requirements. No earnings or margin guidance was provided.
Key risks identified include deposit and liquidity pressures amid banking-sector uncertainty; rising deposit and borrowing costs and interest-rate changes that could compress margins; deterioration in Missouri economic conditions or loan collateral values; potential increases in credit-loss provisions; and mortgage-market weakness. Management describes the balance sheet as liability-sensitive and notes that projected interest-rate impacts rely on assumptions and may differ from actual results. Pending litigation was not considered reasonably likely to materially adversely affect near-term financial condition or results, though some matters were too early to assess.
Important facts for investors to verify
- Whether deposit trends stabilize and FHLB funding reliance declines, particularly given the fall in cash and the level of uninsured deposits.
- Whether higher funding costs continue to outpace loan-yield increases and further pressure net interest margin and earnings.
- Whether the return of large non-accrual relationships to accrual status is sustained, and how the increase in substandard loans develops.
- Whether the $1.8 million foreclosed-property write-down and CECL allowance assumptions adequately reflect collateral values and expected losses.
- How the securities portfolio’s unrealized losses, future liquidity needs, and capital levels evolve; reported carrying-value losses and management’s no-sale expectation should be monitored.