Hawthorn Bancshares, Inc. — Q1 2016 Form 10-Q
Business context and reporting period
Unaudited results for the three months ended March 31, 2016, compared primarily with Q1 2015; balance-sheet changes are compared with December 31, 2015. Hawthorn Bancshares provides community banking, lending, mortgage, trust, and related services in Missouri through Hawthorn Bank. Figures below are in U.S. dollars; financial-statement amounts are generally in millions unless stated otherwise.
Financial and operating performance
- Profit: Net income was $2.00 million, down 6.5% from $2.14 million; diluted EPS was $0.37 versus $0.39. Pretax income declined 9.0% to $2.96 million.
- Revenue and margins: Net interest income was $9.85 million, down 1.3%. On a fully taxable-equivalent basis, net interest margin fell to 3.51% from 3.71%, as yields on earning assets declined more than funding costs. Total noninterest income rose 23.2% to $2.45 million, including a $472,000 securities-sale gain. Noninterest expense increased 4.5% to $9.08 million; the efficiency ratio worsened to 73.87% from 72.78%.
- Credit costs: The company recorded a $250,000 loan-loss provision versus none in Q1 2015. Net charge-offs were $223,000, compared with net recoveries of $662,000 a year earlier. The allowance was $8.63 million, or 0.99% of loans.
- Cash flow: Operating activities provided $3.59 million; investing activities used $18.85 million; financing activities provided $29.65 million. Cash and cash equivalents increased $14.39 million during the quarter to $42.77 million.
- Balance sheet and liquidity: Total assets were $1.234 billion, up from $1.201 billion at year-end. Loans were $875.3 million, up $10.2 million; deposits were $992.6 million, up $45.4 million. Available-for-sale securities were $245.8 million. Management reported $270.4 million in federal funds/overnight deposits and available-for-sale securities, and $264.2 million of estimated remaining borrowing capacity.
- Debt and capital: Borrowings totaled $141.0 million: $41.5 million in repurchase agreements, $50.0 million in FHLB advances, and $49.5 million in subordinated notes. Company regulatory ratios were 14.65% total risk-based capital, 12.03% Tier 1 risk-based capital, 9.02% Common Equity Tier 1, and 9.84% Tier 1 leverage. The filing states the company and bank exceeded applicable capital requirements.
Material changes versus comparable periods
- Q1 net income and EPS declined despite higher noninterest income, as net interest margin compressed, provision expense was recorded, and noninterest expenses rose.
- Loan quality improved versus year-end: nonperforming loans decreased to $8.99 million, or 1.03% of loans, from $10.27 million, or 1.19%; nonperforming assets declined to $24.46 million from $26.27 million. Nonaccrual loans fell to $3.07 million from $4.42 million.
- Cash and deposits increased from year-end, while repurchase-agreement balances declined by $15.3 million. Available-for-sale securities increased by $10.7 million.
- The company sold $44.1 million of securities and recorded a $472,000 gain, explaining a material part of the increase in noninterest income. Management described the transactions as portfolio repositioning without materially changing duration or yield.
Outlook, risks, contingencies, and unusual items
- No quantified earnings or revenue guidance is provided. Management said short-term liquidity needs from daily operations were not expected to vary significantly during 2016.
- Management identifies risks from competition, interest-rate changes and resulting margin pressure, economic conditions and loan quality, potential higher credit-loss provisions, regulatory or legislative changes, securities-market movements, and acquisition integration costs.
- Off-balance-sheet commitments totaled $239.8 million, including $232.7 million of commitments to extend credit, $5.6 million of mortgage-origination commitments, and $1.5 million of standby letters of credit. No loss accrual was recorded; the company notes some commitments may expire undrawn.
- Pending litigation is described as incidental to the business; management does not believe it is reasonably possible the matters will materially adversely affect near-term financial condition or results. Some matters are too early to assess for probable loss or estimation.
- Other items to monitor include the change in the allowance methodology’s historical look-back period, which began increasing from three years toward five years and contributed to the Q1 provision; higher foreclosure-property maintenance costs; and increased debit-card fraud charge-offs. The company repurchased 8,635 shares for approximately $129,000 under its $2.0 million authorization.
- Management said available-for-sale securities’ unrealized losses were attributable to interest-rate changes, not credit quality, and did not consider them other-than-temporary impairments. Disclosure controls were judged effective; no material change in internal control over financial reporting was reported.
Important facts for investors to verify
- Whether net interest margin and asset yields stabilize, and how rate changes affect deposit costs and securities income.
- Whether credit performance, charge-offs, foreclosed assets, and the allowance remain consistent with management’s estimates and the longer loss-history look-back period.
- How much of reported noninterest-income growth depends on securities gains, and whether such gains recur.
- The quality and expected drawdown of the $239.8 million in off-balance-sheet commitments, alongside the company’s available liquidity and borrowing capacity.
- Capital ratios, dividend capacity, and the effects of future regulatory capital-buffer requirements; also review the detailed terms and fair value of subordinated notes.