Security National Financial Corporation — Q2 2015 Form 10-Q
Business context and period: Unaudited results for the quarter and six months ended June 30, 2015, compared with the same 2014 periods. The company reports life insurance, cemetery and mortuary, and mortgage segments. Mortgage lending generated the largest share of revenue and drove most of the period’s growth.
Key financial results
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Total revenue | $76.0 million | $59.4 million | $140.1 million | $104.5 million |
| Pre-tax earnings | $6.2 million | $4.2 million | $9.2 million | $4.4 million |
| Net earnings | $3.9 million | $2.6 million | $5.7 million | $2.8 million |
| Diluted earnings per share | $0.28 | $0.20 | $0.42 | $0.21 |
| Operating cash flow | Not separately presented for the quarter | $(18.8) million | $40.5 million |
Margins: Pre-tax margin was about 8.2% in Q2 2015 versus 7.0% a year earlier, and 6.6% for the first half versus 4.2%. Benefits and expenses were 91.8% of revenue in Q2 and 93.4% for the first half, down from 93.0% and 95.8%, respectively.
Balance sheet at June 30, 2015: Assets were $732.6 million, liabilities $627.1 million, and stockholders’ equity $105.5 million. Cash and cash equivalents were $48.3 million, compared with $30.9 million at December 31, 2014. Bank and other loans payable were $33.4 million, up from $29.0 million. Future life, annuity, and other benefits were $511.0 million. Total capitalization was $138.8 million; equity represented 76.0% of capitalization.
Material changes versus prior periods
- Revenue increased 28.0% in Q2 and 34.1% in the first half; net earnings rose to $3.9 million and $5.7 million, respectively.
- Mortgage fee income rose 40.1% in Q2 and 51.0% in the first half, primarily from higher loan origination volume and secondary gains on loans sold. SecurityNational Mortgage originated and sold 7,636 loans totaling $1.446 billion in the first half, versus 5,021 loans totaling $937.8 million in 2014.
- Mortgage segment pre-tax earnings increased to $4.0 million in Q2 from $2.5 million and to $5.2 million for the first half from $1.2 million. Life insurance segment pre-tax earnings also improved; cemetery and mortuary revenue declined.
- Operating cash flow shifted to an $18.8 million use from $40.5 million provided in the prior-year half, primarily reflecting a $37.7 million increase in mortgage loans sold to investors and higher future policy benefits.
- Mortgage loan loss provisions increased to $2.9 million for the first half from $0.9 million. The related reserve for investor indemnification claims was $4.3 million at June 30, 2015, versus $1.7 million at year-end 2014.
Outlook, risks, and unusual items
- Management identified continued emphasis on niche insurance products, cemetery and mortuary operations, and mortgage origination. No numerical earnings or revenue guidance was provided. Management said first-half results are not necessarily indicative of full-year results.
- Green Street Mortgage elected to cease its current mortgage operations effective March 31, 2015.
- SecurityNational Mortgage is cooperating with a DOJ and HUD civil investigation concerning FHA loan compliance. No demand has been made, and the company said it cannot estimate a reasonably possible loss. The investigation covers approximately 45,900 loans originated from 2006 through May 2013, with original principal of about $7.9 billion.
- Investors have asserted repurchase or indemnification claims concerning allegedly defective mortgage loans. The company disputes the claims, recorded a $4.253 million reserve, and says legal action may follow if settlements cannot be reached. Separately, litigation involving Lehman entities includes a court order awarding SecurityNational Mortgage $3.893 million plus prejudgment interest, while offset and other issues remained pending; related proceedings were ongoing.
- The company had $44.248 million of commitments for residential construction loans, of which $28.343 million had been funded. Mortgage credit exposure is geographically concentrated: 40% of mortgage loans were to borrowers in Utah, with additional concentrations in California, Texas, Florida, and Nevada.
- At June 30, 8.7% of bond investments were in NAIC rating categories three through six, described as non-investment grade. Management reported the life insurance subsidiary complied with risk-based capital criteria.
- Management stated liquidity sources were adequate for expected obligations and expenses. Insurance subsidiary dividends to the parent require regulatory approval. Disclosure controls were reported effective, with no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether mortgage origination and secondary gains can be sustained, and how mortgage earnings respond to changes in rates, loan volume, and funding costs.
- Whether the $4.253 million mortgage investor-claim reserve is adequate; monitor new demands, settlements, and developments in FHA and Lehman-related matters.
- Drivers of negative operating cash flow and the timing of collections on mortgage loans sold to investors.
- Credit quality and geographic concentration in mortgage lending, including past-due and nonperforming loans, and the $44.248 million construction-loan commitment exposure.
- Changes in investment valuation, non-investment-grade bond exposure, and future policy benefit assumptions.