UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) FOR THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________
Commission File Number 0-24100
HMN FINANCIAL, INC.
(Exact name of Registrant as specified in its Charter)
Delaware 41-1777397
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
101 North Broadway, Spring Valley, Minnesota 55975-0231
(Address of principal executive offices) (ZIP Code)
Registrant's telephone number, including area code: (507) 346-1100
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes (X) No ( )
Indicate the number of shares outstanding of each of the issuer's common stock
as of the latest practicable date.
Class Outstanding at August 3, 2001
Common stock, $0.01 par value 4,444,139
HMN FINANCIAL, INC.
CONTENTS
PART I - FINANCIAL INFORMATION Page
Item 1: Financial Statements (unaudited)
Consolidated Balance Sheets at
June 30, 2001 and December 31, 2000 3
Consolidated Statements of Income for the
Three Months Ended and Six Months Ended
June 30, 2001 and 2000 4
Consolidated Statements of Comprehensive Income for the
Three Months Ended and Six Months Ended
June 30, 2001 and 2000 5
Consolidated Statement of Stockholders' Equity
for the Six Month Period Ended June 30, 2001 6
Consolidated Statements of Cash Flows for
the Six Months Ended June 30, 2001 and 2000 7
Notes to Consolidated Financial Statements 8-16
Item 2: Management's Discussion and Analysis of Financial
Condition and Results of Operations 17-26
Item 3: Quantitative and Qualitative Disclosures about
Market Risk Discussion included in Item 2 under Market Risk 20
PART II - OTHER INFORMATION
Item 1: Legal Proceedings 27
Item 2: Changes in Securities 27
Item 3: Defaults Upon Senior Securities 27
Item 4: Submission of Matters to a Vote of Security
Holders 27
Item 5: Other Information 28
Item 6: Exhibits and Reports on Form 8-K 28
Signatures 29
2
PART I - FINANCIAL STATEMENTS
HMN FINANCIAL, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(unaudited)
Assets June 30, 2001 December 31, 2000
--------------------- ---------------------
Cash and cash equivalents 32,049,034 14,416,861
Securities available for sale:
Mortgage-backed and related
securities (amortized cost
$71,401,478 and $76,199,237) 72,452,708 75,379,719
Other marketable securities
(amortized cost $41,734,877
and $66,392,057) 40,856,124 63,826,770
------------- ------------
113,308,832 139,206,789
------------- ------------
Loans held for sale 46,608,484 7,861,029
Loans receivable, net 503,475,798 518,765,209
Accrued interest receivable 3,465,729 4,311,747
Federal Home Loan Bank stock,
at cost 12,245,000 12,245,000
Mortgage servicing rights, net 1,479,568 1,188,928
Premises and equipment, net 9,838,874 9,459,710
Investment in limited partnerships 2,209,825 2,838,364
Goodwill 3,890,956 3,980,974
Core deposit intangible 731,614 794,363
Prepaid expenses and other assets 2,040,922 947,201
------------- ------------
Total assets $ 731,344,636 716,015,875
============= ============
Liabilities and Stockholders' Equity
Deposits $ 412,439,299 421,690,548
Federal Home Loan Bank advances 239,800,000 221,900,000
Accrued interest payable 1,109,257 1,575,521
Advance payments by borrowers
for taxes and insurance 887,813 650,348
Accrued expenses and other
liabilities 4,153,711 3,355,110
Deferred tax liabilities 1,585,200 218,700
------------- ------------
Total liabilities 659,975,280 649,390,227
------------- ------------
Commitments and contingencies
Minority interest 227,192 0
Stockholders' equity:
Serial preferred stock: authorized
500,000 shares; issued and
outstanding none 0 0
Common stock ($.01 par value):
authorized 11,000,000 shares;
issued 9,128,662 shares 91,287 91,287
Additional paid-in capital 59,362,984 59,584,176
Retained earnings, subject
to certain restrictions 75,427,844 73,380,588
Accumulated other comprehensive
income (loss) 52,844 (2,037,005)
Unearned employee stock ownership
plan shares (5,221,353) (5,318,067)
Unearned compensation restricted
stock awards (7,350) (9,800)
Treasury stock, at cost 4,695,951
and 4,737,521 shares (58,564,092) (59,065,531)
--------------- ------------
Total stockholders' equity 71,142,164 66,625,648
--------------- ------------
Total liabilities and
stockholders' equity $ 731,344,636 716,015,875
=============== ============
See accompanying notes to consolidated financial statements.
3
HMN FINANCIAL, INC. AND SUBSIDIARIES
Consolidated Statements of Income
(unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
2001 2000 2001 2000
--------------------- ---------------------
Interest Income:
Loans receivable $ 11,321,443 9,953,689 22,547,937 19,396,314
Securities available
for sale:
Mortgage-backed and
related 1,029,327 1,652,504 2,277,956 3,458,176
Other marketable 632,461 1,163,766 1,490,404 2,346,282
Cash equivalents 28,308 65,786 71,536 103,241
Other 130,842 203,173 296,728 395,935
----------- ----------- ------------ -----------
Total interest income 13,142,381 13,038,918 26,684,561 25,699,948
----------- ----------- ------------ -----------
Interest expense:
Deposits 4,909,776 4,521,544 9,971,378 8,858,165
Federal Home Loan
Bank advances 3,018,502 3,473,362 6,348,866 6,842,022
----------- ----------- ------------ -----------
Total interest expense 7,928,278 7,994,906 16,320,244 15,700,187
----------- ----------- ------------ -----------
Net interest income 5,214,103 5,044,012 10,364,317 9,999,761
Provision for loan losses 300,000 45,000 450,000 90,000
----------- ----------- ------------ -----------
Net interest income
after provision for
loan losses 4,914,103 4,999,012 9,914,317 9,909,761
----------- ----------- ------------ -----------
Non-interest income:
Fees and service charges 362,760 348,071 714,551 604,943
Mortgage servicing fees 107,457 76,664 214,231 155,907
Securities gains (losses),
net (610,000) 34,960 (332,296) (33,801)
Gain on sales of loans 1,410,864 293,848 2,263,200 476,577
Earnings (losses) in
limited partnerships (325,258) 81,858 (628,539) 118,847
Hedging valuation gain
(loss) 43,066 0 (55,274) 0
Other 199,827 181,254 329,951 301,872
----------- ----------- ------------ -----------
Total non-interest income 1,188,716 1,016,655 2,505,824 1,624,345
----------- ----------- ------------ -----------
Non-interest expense:
Compensation and benefits 2,042,047 1,488,218 3,955,058 3,184,318
Occupancy 514,572 464,721 1,079,791 890,317
Federal deposit
insurance premiums 19,969 20,783 40,772 42,234
Advertising 113,988 88,677 200,143 132,385
Data processing 240,928 191,208 471,754 376,629
Amortization of mortgage
servicing rights, net of
valuation adjustments and
servicing costs 195,395 76,263 336,038 145,280
Other 811,500 618,658 1,555,778 1,203,290
---------- ----------- ------------ -----------
Total non-interest
expense 3,938,399 2,948,528 7,639,334 5,974,453
---------- ----------- ------------ -----------
Income before income
tax expense 2,164,420 3,067,139 4,780,807 5,559,653
Income tax expense 787,300 1,187,000 1,784,900 2,149,800
---------- ----------- ------------ -----------
Income before minority
interest 1,377,120 1,880,139 2,995,907 3,409,853
---------- ----------- ------------ -----------
Minority interest 105,001 0 132,880 0
---------- ----------- ------------ -----------
Net income $ 1,272,119 1,880,139 2,863,027 3,409,853
========== =========== ============ ===========
Basic earnings per share $ 0.34 0.48 0.77 0.87
========== =========== ============ ===========
Diluted earnings per share$ 0.32 0.47 0.72 0.84
========== =========== ============ ===========
See accompanying notes to consolidated financial statements.
4
HMN FINANCIAL, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(unaudited)
Three Months Ended June 30,
2001 2000
-------------------------- ------------------------
Net income $ 1,272,119 1,880,139
Other comprehensive
income, net of tax:
Unrealized losses on
hedging valuation: (81,621) 0
Less: minority
interest in
hedging valuation (30,688) 0
--------- -------
Net unrealized
losses on
hedging valuation (50,933) 0
Unrealized gains on
securities:
Unrealized holding
gains arising
during period 585,459 50,682
Less: reclassifica-
tion adjustment
for gains (losses)
included in net
income (368,300) 21,061
-------- --------
Net unrealized gains
on securities 953,759 29,621
-------- -------
Other comprehensive income 902,826 29,621
--------- ---------
Comprehensive income $ 2,174,945 1,909,760
========= =========
Six Months Ended June 30,
2001 2000
-------------------------- ------------------------
Net income $ 2,863,027 3,409,853
Other comprehensive
income, net of tax:
Unrealized losses on
hedging valuation: (81,621) 0
Less: minority
interest in
hedging valuation (30,688) 0
--------- -------
Net unrealized
losses on
hedging valuation (50,933) 0
Unrealized gains on
securities:
Unrealized holding
gains arising
during period 1,943,193 (680,053)
Less: reclassifica-
tion adjustment
for gains (losses)
included in net
income (197,589) (20,401)
-------- --------
Net unrealized gains
on securities 2,140,782 (659,652)
--------- --------
Other comprehensive income 2,089,849 (659,652)
--------- ---------
Comprehensive income $ 4,952,876 2,750,201
========= =========
See accompanying notes to consolidated financial statements.
5
HMN FINANCIAL, INC. AND SUBSIDIARIES
Consolidated Statement of Stockholders' Equity
For the Six Month Period Ended June 30, 2001
(unaudited)
Accumulated
Additional Other
Common Paid-in Retained Comprehensive
Stock Capital Earnings Income (Loss)
---------------------------------------------------------
Balance,
December 31, 2000 $ 91,287 59,584,176 73,380,588 (2,037,005)
Net income 2,863,027
Other comprehensive income 2,089,849
Treasury stock purchases
Employee stock options
exercised (385,085)
Tax benefits of exercised
stock options 118,822
Tax expenses of restricted
stock awards (2,479)
Amortization of restricted
stock awards
Dividends paid (815,771)
Earned employee stock
ownership plan shares 47,550
--------- ---------- ---------- ----------
Balance,
June 30, 2001 $ 91,287 59,362,984 75,427,844 52,844
========= ========== ========== ==========
Unearned
Employee
Stock Unearned
Ownership Compensation Total
Plan Restricted Stockholders'
Shares Stock Awards Treasury Stock Equity
---------------------------------------------------------
Balance,
December 31, 2000 $ (5,318,067) (9,800) (59,065,531) 66,625,648
Net income 2,863,027
Other comprehensive income 2,089,849
Treasury stock purchases (74,152) (74,152)
Employee stock options
exercised 575,591 190,506
Tax benefits of exercised
stock options 118,822
Tax expenses of restricted
stock awards (2,479)
Amortization of restricted
stock awards 2,450 2,450
Dividends paid (815,771)
Earned employee stock
ownership plan shares 96,714 144,264
--------- ---------- ----------- ----------
Balance,
June 30, 2001 $ (5,221,353) (7,350) (58,564,092) 71,142,164
========= ========== =========== ==========
See accompanying notes to consolidated financial statements.
6
HMN FINANCIAL, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(unaudited)
Six Months Ended
June 30,
2001 2000
- ---------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 2,863,027 3,409,853
Adjustments to reconcile net income
to cash provided (used) by operating
activities:
Provision for loan losses 450,000 90,000
Depreciation 496,208 436,284
Amortization of premiums, net 46,564 1,686
Amortization of deferred loan fees (260,738) (101,535)
Amortization of goodwill 90,018 90,012
Amortization of core deposit intangible 62,749 116,220
Amortization of other purchase
accounting adjustments 6,220 (45,989)
Amortization of mortgage servicing rights
and net valuation adjustments 329,604 128,301
Capitalized mortgage servicing rights (620,244) (163,946)
Deferred income taxes 132,375 125,500
Securities (gains) losses, net 332,296 33,801
Gains on sales of real estate (16,921) 0
Gain on sales of loans (2,263,200) (476,577)
Proceeds from sale of loans held for sale 383,937,788 50,899,525
Disbursements on loans held for sale (420,124,178) (51,498,211)
Decrease in hedging valuation 55,274 0
Principal collected on loans held for sale 40,905 10,759
Amortization of restricted stock awards 2,450 83,033
Amortization of unearned ESOP shares 96,714 96,912
Earned employee stock ownership shares
priced above original cost 47,550 23,211
Decrease (increase) in accrued
interest receivable 846,018 (263,582)
Increase (decrease) in accrued interest
payable (466,264) 145,539
Equity (earnings) losses of limited
partnerships 628,539 (118,847)
Equity earnings of minority interest 132,880 0
Increase in other assets (1,260,404) (145,864)
Increase in other liabilities 1,028,834 432,649
Other, net 11,152 3,503
----------- ----------
Net cash provided (used) by
operating activities (33,374,784) 3,312,237
----------- ----------
Cash flows from investing activities:
Proceeds from sales of securities
available for sale 15,000,567 21,512,948
Principal collected on securities
available for sale 5,351,723 4,024,688
Proceeds collected on maturity of
securities available for sale 8,695,000 2,500,000
Purchases of securities available for sale 0 (4,442,111)
Proceeds from sales of loans receivable 12,156 196,851
Purchase of Federal Home Loan Bank stock 0 (775,000)
Net decrease (increase) in loans receivable 14,227,463 (36,496,177)
Proceeds from sale of real estate 311,544 0
Purchases of premises and equipment (875,372) (992,333)
---------- -----------
Net cash provided (used) by
investing activities 42,723,081 (7,844,660)
---------- -----------
Cash flows from financing activities:
Increase (decrease) in deposits (9,279,172) 1,303,721
Purchase of treasury stock (74,152) (2,705,970)
Stock options exercised 190,506 150,888
Dividends to stockholders (815,771) (786,479)
Proceeds from Federal Home Loan Bank advances 194,200,000 118,000,000
Repayment of Federal Home Loan Bank advances (176,300,000) (102,500,000)
Minority interest in mortgage services 125,000 0
Increase in advance payments by borrowers
for taxes and insurance 237,465 84,515
----------- ------------
Net cash provided by financing activities 8,283,876 13,546,675
----------- ------------
Increase in cash and cash equivalents 17,632,173 2,387,778
Cash and cash equivalents, beginning of period 14,416,861 9,051,380
----------- ------------
Cash and cash equivalents, end of period $ 32,049,034 11,439,158
=========== ============
Supplemental cash flow disclosures:
Cash paid for interest $ 16,786,508 15,554,648
Cash paid for income taxes 2,163,000 1,313,800
Supplemental noncash flow disclosures:
Loans securitized and transferred to
securities available for sale 0 8,106,230
Loans transferred to loans held for sale 801,947 912,171
Transfer of loans to real estate 81,242 49,653
Transfer of real estate to loans 0 50,140
See accompanying notes to consolidated financial statements.
7
HMN FINANCIAL, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(unaudited)
June 30, 2001 and 2000
(1) HMN FINANCIAL, INC.
HMN Financial, Inc.(HMN) is a stock savings bank holding company which owns 100
percent of Home Federal Savings Bank (the Bank or Home Federal). Home Federal
has a community banking philosophy and operates retail banking facilities in
Minnesota and Iowa. The Bank has one wholly owned subsidiary, Osterud
Insurance Agency, Inc. (OAI), doing business as Home Federal Investment
Services, which offers financial planning products and services. HMN has
another wholly owned subsidiary, Security Finance Corporation (SFC). Prior to
2000, SFC invested in commercial loans and commercial real-estate loans located
throughout the United States which were originated by third parties. During
2000 SFC sold many of its assets to the Bank and discontinued investing in
commercial loans. The Bank has another subsidiary, Home Federal Mortgage
Services, LLC (HFMS), which is a mortgage banking and mortgage brokerage
business located in Brooklyn Park, Minnesota. Prior to 2001 the business was
operated as a wholly owned subsidiary of HMN and was known as HMN Mortgage
Services, Inc. (MSI). In January 2001, HMN sold 100% of the MSI stock to the
Bank. The Bank formed HFMS and merged MSI into HFMS. Effective February 1, 2001
the business sold a 49% membership interest in HFMS to two individuals.
The consolidated financial statements included herein are for HMN, SFC, MSI,
through January 31, 2001, the Bank and the Bank's subsidiaries, OAI and HFMS.
All significant intercompany accounts and transactions have been eliminated in
consolidation.
(2) BASIS OF PREPARATION
The accompanying unaudited consolidated financial statements were prepared in
accordance with instructions for Form 10-Q and therefore, do not include all
disclosures necessary for a complete presentation of the consolidated balance
sheets, consolidated statements of income, consolidated statements of
comprehensive income, consolidated statements of stockholders' equity and
consolidated statements of cash flows in conformity with generally accepted
accounting principles. However, all adjustments consisting of only normal
recurring adjustments which are, in the opinion of management, necessary for
the fair presentation of the interim financial statements have been included.
The statement of income for the three month and six month periods ended June
30, 2001 are not necessarily indicative of the results which may be expected
for the entire year.
Certain amounts in the consolidated financial statements for prior periods have
been reclassified to conform with the current period presentation.
(3) NEW ACCOUNTING STANDARDS
In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 141, BUSINESS
COMBINATIONS, and SFAS No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. SFAS No.
141 requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001 as well as all purchase method
business combinations completed after June 30, 2001. SFAS No. 141 also
specifies criteria intangible assets acquired in a purchase method business
combination must meet to be recognized and reported apart from goodwill, noting
that any purchase price allocable to an assembled workforce may not be
accounted for separately. SFAS No. 142 will require that goodwill and
intangible assets with indefinite useful lives no longer be amortized, but
instead tested for impairment at least annually in accordance with the
provisions of SFAS No. 142. SFAS No. 142 will also require that intangible
assets with definite useful lives be amortized over their respective estimated
useful lives to their estimated residual values, and reviewed for
8
impairment in accordance with SFAS No. 121, ACCOUNTING FOR THE IMPAIRMENT OF
LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF.
HMN is required to adopt the provisions of SFAS No. 141 immediately and it will
adopt SFAS No. 142 effective January 1, 2002. Furthermore, any goodwill and
any intangible asset determined to have an indefinite useful life that are
acquired in a purchase business combination completed after June 30, 2001 will
not be amortized, but will continue to be evaluated for impairment in
accordance with the appropriate pre-SFAS No. 142 accounting literature.
Goodwill and intangible assets acquired in business combinations completed
before July 1, 2001 will continue to be amortized prior to the adoption of SFAS
No. 142.
SFAS No. 141 will require upon adoption of SFAS No. 142, that HMN evaluate its
existing intangible assets and goodwill that were acquired in a prior purchase
business combination, and to make any necessary reclassifications in order to
conform with the new criteria in SFAS No. 141 for recognition apart from
goodwill. Upon adoption of SFAS No. 142, HMN will be required to reassess the
useful lives and residual values of all intangible assets acquired in purchase
business combinations, and make any necessary amortization period adjustments
by the end of the first interim period after adoption. In addition, to the
extent an intangible asset is identified as having an indefinite useful life,
HMN will be required to test the intangible asset for impairment in accordance
with the provisions of SFAS No. 142 within the first interim period. Any
impairment loss will be measured as of the date of adoption and recognized as
the cumulative effect of a change in accounting principle in the first interim
period.
In connection with the transitional goodwill impairment evaluation, SFAS No.
142 will require HMN to perform an assessment of whether there is an indication
that goodwill [and equity-method goodwill] is impaired as of the date of
adoption. To accomplish this HMN must identify its reporting units and
determine the carrying value of each reporting unit by assigning the assets and
liabilities, including the existing goodwill and intangible assets, to those
reporting units as of the date of adoption. HMN will then have up to six
months from the date of adoption to determine the fair value of each reporting
unit and compare it to the reporting unit's carrying amount. To the extent a
reporting unit's carrying amount exceeds its fair value, an indication exists
that the reporting unit's goodwill may be impaired and HMN must perform the
second step of the transitional impairment test. In the second step, HMN must
compare the implied fair value of the reporting unit's goodwill, determined by
allocating the reporting unit's fair value to all of it assets (recognized and
unrecognized) and liabilities in a manner similar to a purchase price
allocation in accordance with SFAS No. 141, to its carrying amount, both of
which would be measured as of the date of adoption. This second step is
required to be completed as soon as possible, but no later than the end of the
year of adoption. Any transitional impairment loss will be recognized as the
cumulative effect of a change in accounting principle in HMN's income
statement.
And finally, any unamortized negative goodwill [and negative equity-method
goodwill] existing at the date SFAS No. 142 is adopted must be written off as
the cumulative effect of a change in accounting principle.
On January 1, 2002 the adoption date, HMN expects to have unamortized goodwill
in the amount of $3,800,938, unamortized identifiable intangible assets in the
amount of $685,509 and no unamortized negative goodwill , all of which will be
subject to the transition provisions of SFAS No. 141 and 142. Amortization
expense related to goodwill was $180,024 and $90,018 for the year ended
December 31, 2000 and the six months ended June 30, 2001, respectively. Because
of the extensive effort needed to comply with adopting SFAS No. 141 and 142, it
is not practicable to reasonably estimate the impact of adopting these
Statements on HMN's financial statements at the date of this report, including
whether any transitional impairment losses will be required to be recognized as
the cumulative effect of a change in accounting principle.
(4) DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
HMN adopted SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES, in the first quarter of 2001. HMN is using an interest rate swap,
whereby it pays interest based upon three month London Inter-Bank Offer Rate
(LIBOR) and receives interest payments based upon a fixed rate of 7.5% on a
notional value of $10 million in a fair value hedge with no ineffectiveness.
The hedge is offsetting a callable certificate of deposit for $10
9
million which was issued by HMN. A transition adjustment of $75,637 was
recorded on January 1, 2001 as a debit to other assets and also as a credit to
the related certificate of deposit. On June 30, 2001 the interest rate swap was
marked to a market value of $27,923 which is included in other assets and the
corresponding certificate of deposit was adjusted to the same value and is
reflected in deposits in the consolidated balance sheet of HMN. The interest
rate swap was deemed to be totally effective and therefore no gain or loss was
recorded in the income statement.
HMN originates and purchases single family residential loans for sale into the
secondary market and enters into commitments to sell or securitize those loans
in order to mitigate the interest rate risk associated with holding the loans
until they are sold. At the beginning of the second quarter, commitments to
sell Loans Held for Sale were designated as a cash flow hedge of a forecasted
transaction and were accounted for in accordance with SFAS No. 133. On June
30, 2001, the carrying value of the derivatives were marked to market by a
$131,621 credit to Loans Held for Sale, a deferred tax asset was established
for $50,000 and other comprehensive loss was debited for $81,621. The
derivative adjustment in the balance sheet is a consolidated number that is
partially owned by a minority interest. The adjustment to other comprehensive
loss was $30,688 related to the minority interest and therefore the net
adjustment to other comprehensive loss for HMN was $50,933.
As the Loans Held for Sale are ultimately sold, the losses currently in
accumulated other comprehensive income will be reclassified in the gains and
losses on sale of loans in the income statement. It is estimated that all of
the Loans Held for Sale at June 30, 2001 will be sold in the next three months.
HMN has commitments outstanding to extend credit to future borrowers or to
purchase loans that had not closed prior to the end of the quarter which it
refers to as its mortgage pipeline. As commitments to originate or purchase
loans enter into the mortgage pipeline, HMN simultaneously enters into
commitments to sell the mortgage pipeline into the secondary market. As a
result of marking the mortgage pipeline and the related commitments to sell the
mortgage pipeline to market during the second quarter of 2001 HMN recorded a
credit to Loans Held for Sale of $423,193, a debit to Other Liabilities of
$381,398 and a loss due to economic hedging valuations of $41,795. As a
result of marking the mortgage pipeline and the related commitments to sell the
mortgage pipeline to market during the six month period ended June 30, 2001,
HMN had recorded a credit to Loans Held for Sale of $301,539, a debit to Other
Liabilities of $246,265 and a loss in hedging valuations of $55,274.
(5) COMPREHENSIVE INCOME
Comprehensive income is defined as the change in equity during a period from
transactions and other events from nonowner sources. Comprehensive income is
the total of net income and other comprehensive income, which for HMN is
comprised of unrealized gains and losses on securities available for sale and
unrealized gains and losses on hedging activity for loans held for sale and
certificates of deposit with matching interest rate swaps.
The gross unrealized losses in hedging valuation for the second quarter of 2001
was $132,000, the income tax benefit would have been $50,000 and therefore, the
net loss was $82,000. The gross minority interest in hedging valuation for the
second quarter of 2001 was $49,000, the income tax benefit would have been
$18,000 and therefore, the net loss was $31,000. There was no hedging valuation
in the second quarter of 2000. The gross unrealized holding gains on securities
for the second quarter of 2001 was $975,000, the income tax expense would have
been $390,000 and therefore, the net gain was $585,000. The gross
reclassification adjustment for the second quarter of 2001 was $610,000, the
income tax benefit would have been $242,000 and therefore the net loss was
$368,000. The gross unrealized holding gains on securities for the second
quarter of 2000 was $76,000, the income tax expense would have been $25,000 and
therefore, the net gain was $51,000. The gross reclassification adjustment in
the second quarter of 2000 was $35,000, the income tax expense would have been
$14,000 and therefore, the net reclassification adjustment was $21,000.
The gross unrealized losses in hedging valuation for the six month period ended
June 30, 2001 was $132,000, the
10
income tax benefit would have been $50,000 and therefore, the net loss was
$82,000. The gross minority interest in hedging valuation for the six month
period ended June 30, 2001 was $49,000, the income tax benefit would have been
$18,000 and therefore, the net loss was $31,000. There was no hedging valuation
in the six month period ended June 30, 2000. The gross unrealized holding gains
on securities for the six month period ended June 30, 2001 was $3,225,000, the
income tax expense would have been $1,282,000 and therefore, the net gain was
$1,943,000. The gross reclassification adjustment in the six month period ended
June 30, 2001 was $332,000, the income tax benefit would have been $134,000 and
therefore, the net reclassification adjustment was $198,000. The gross
unrealized holding losses on securities for the six month period ended June 30,
2000 was $1,108,000, the income benefit would have been $428,000 and therefore,
the net loss was $680,000. The gross reclassification adjustment in the six
month period ended June 30, 2000 was $34,000, the income tax benefit would have
been $14,000 and therefore, the net reclassification adjustment was $20,000.
(6) CASH DIVIDEND
On July 24, 2001 HMN's Board of Directors announced a cash dividend of $0.14
per share, payable on September 11, 2001 to stockholders of record on August
28, 2001.
(7) INVESTMENT IN MORTGAGE SERVICING RIGHTS
A summary of mortgage servicing activity is as follows:
- -------------------------------------------------------------------------------
Six Months Twelve Months Six Months
ended ended ended
June 30, 2001 Dec 31, 2000 June 30, 2000
-------------- --------------- ---------------
Mortgage servicing rights
Balance, beginning of period $ 1,188,928 1,148,774 1,148,774
Originations 620,244 367,531 163,946
Amortization (329,604) (327,377) (149,201)
---------- ---------- ----------
Balance, end of period 1,479,568 1,188,928 1,163,519
---------- ---------- ----------
Valuation reserve
Balance, beginning of period 0 (25,100) (25,100)
Reductions 0 25,100 20,900
---------- ---------- ----------
Balance, end of period 0 0 (4,200)
---------- ---------- ----------
Mortgage servicing rights, net $ 1,479,568 1,188,928 1,159,319
========== ========== ==========
Fair value of mortgage
servicing rights $ 1,632,000 1,476,000 1,418,000
========== ========== ==========
- ------------------------------------------------------------------------------
Mortgage servicing costs, which include professional services for valuing
mortgage servicing rights, were $6,434 at June 30, 2001, and $16,980 and
$31,415 for the six and twelve months ended in June and December 2000,
respectively.
All of the loans being serviced were single family loans serviced for FNMA
under the mortgage-backed security program or the individual loan sale program.
The following is a summary of the risk characteristics of the loans being
serviced at June 30, 2001.
11
- ------------------------------------------------------------------------------
Weighted Weighted
Loan Principal Average Average Number of
Balance Interest Rate Remaining Term Loans
------------- --------------- --------------- ---------
Original term 30 year
fixed rate $ 84,967,000 7.46 % 334 1,053
Original term 15 year
fixed rate 89,478,000 6.76 % 159 1,437
Seven year balloon 292,000 6.97 % 321 4
Adjustable rate 3,893,000 8.50 % 314 30
- ------------------------------------------------------------------------------
(8) INVESTMENT IN LIMITED PARTNERSHIPS
Investments in limited partnerships were as follows:
- --------------------------------------------------------------------------
June 30, December 31,
Primary partnership activity 2001 2000
- ------------------------------- ------------ -------------
Mortgage servicing rights $ 1,649,042 2,257,941
Common stock of financial
institutions 278,884 285,524
Low to moderate income housing 281,899 294,899
------------ ----------
$ 2,209,825 2,838,364
============ ==========
- --------------------------------------------------------------------------
During the second quarter of 2001 HMN's proportionate loss from a mortgage
servicing partnership (which included additional impairment reserves of
$67,000) was $333,400, its proportionate share of gains from the common stock
investments in financial institutions was $14,600 and it recognized $6,500 of
losses on the low income housing partnerships. During 2001 HMN anticipates
receiving low income housing credits totaling $84,000, of which
$21,000 were credited to current income tax benefits in the second quarter of
2001. During the second quarter of 2000 HMN's proportionate revenue from a
mortgage servicing partnership (which included the reduction of previously
established impairment reserves of $108,400) was $123,500, its proportionate
share of losses from common stock investments in financial institutions was
$35,100 and it recognized $6,500 of losses on low income housing partnerships.
During 2000 HMN received low income housing credits totaling $80,000, of which
$20,000 were credited to current income tax benefits in the second quarter.
During the six month period ended June 30, 2001 HMN's proportionate loss from a
mortgage servicing partnership (which included additional impairment reserves
of $164,300) was $608,900, its proportionate share of losses from the common
stock investments in financial institutions was $6,600 and it recognized
$13,000 of losses on the low income housing partnerships. During 2001 HMN
anticipates receiving low income housing credits totaling $84,000, of which
$42,000 were credited to current income tax benefits in the six month period
ended June 30, 2001. During the six month period ended June 30, 2000 HMN's
proportionate revenue from a mortgage servicing partnership (which included the
reduction of previously established impairment reserves of $118,000) was
$171,800, its proportionate share of losses from the common stock investments
in financial institutions was $39,200 and it recognized $13,800 of losses on
the low income housing partnerships. During 2000 HMN received low-income
housing credits totaling $80,000, of which $40,000 were credited to current
income tax benefits in the six month period ended June 30, 2000.
12
(9) EARNINGS PER SHARE
The following table reconciles the weighted average shares outstanding and the
income available to common shareholders used for basic and diluted EPS:
Three months ended Six Months ended
June 30, June 30,
-------------------- -------------------
2001 2000 2001 2000
-------------------- -------------------
Weighted average number of
common shares outstanding
used in basic earnings per
common share calculation 3,745,151 3,881,190 3,733,951 3,939,614
Net dilutive effect of:
Options 219,121 114,259 217,913 114,612
Restricted stock awards 585 1,881 660 2,584
---------- ---------- ------------ ------------
Weighted average number of
shares outstanding
adjusted for effect of
dilutive securities 3,964,857 3,997,330 3,952,524 4,056,810
========== ========== ============ ============
Income available to common
shareholders $ 1,272,119 1,880,139 2,863,027 3,409,853
Basic earnings per
common share $ 0.34 0.48 0.77 0.87
Diluted earnings per common
share $ 0.32 0.47 0.72 0.84
(10) REGULATORY CAPITAL
The Bank is subject to various regulatory capital requirements administered by
the federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory and possibly additional discretionary actions by
regulators that, if undertaken, could have a direct material effect on HMN's
financial statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Bank must meet specific capital
guidelines that involve quantitative measures of the Bank's assets,
liabilities, and certain off-balance sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
Quantitative measures established by regulations to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the
following table) of Tier I or Core capital and Risk-based capital (as defined
in the regulations) to total assets (as defined). Management believes, as of
June 30, 2001, that the Bank meets all capital adequacy requirements to which
it is subject.
Management believes that based upon the Bank's capital calculations at June 30,
2001 and other conditions consistent with the Prompt Corrective Actions
Provisions of the OTS regulations, the Bank would be categorized as well
capitalized.
On June 30, 2001 the Bank's tangible assets and adjusted total assets were
$719.8 million and its risk-weighted assets were $460.5 million. The following
table presents the Bank's capital amounts and ratios at June 30, 2001 for
actual capital, required capital and excess capital including ratios in order
to qualify as being well capitalized under the Prompt Corrective Actions
regulations.
13
Required to be
Adequately
Actual Capitalized
---------------------- -------------------------
Percent of Percent of
Amount Assets <F1> Amount Assets <F1>
(in thousands)
--------- ------------ ------------ ------------
Bank stockholder's equity $ 57,589
Plus:
Net unrealized loss on
certain securities
available for sale
and cash flow hedges 560
Minority interest
in consolidated
subsidiaries 227
Less:
Goodwill and other
intangibles 4,623
Excess mortgage servicing
rights 165
------
Tier I or core capital 53,588
------
Tier I capital to adjusted
total assets 7.44% $ 28,793 4.00%
Tier I capital to risk-
weighted assets 11.64% $ 18,422 4.00%
Plus:
Allowable allowance for
Loan losses 3,216
------
Risk-based capital $ 56,804 $ 36,843
======
Risk-based capital to risk-
Weighted assets 12.33% 8.00%
To Be Well Capitalized
Under Prompt Corrective
Excess Capital Actions Provisions
---------------------- -------------------------
Percent of Percent of
Amount Assets <F1> Amount Assets <F1>
(in thousands)
--------- ------------ ------------ ------------
Bank stockholder's equity $
Plus:
Net unrealized loss on
certain securities
available for sale
and cash flow hedges
Minority interest
in consolidated
subsidiaries
Less:
Goodwill and other
intangibles
Excess mortgage servicing
rights
Tier I or core capital
Tier I capital to adjusted
total assets 24,795 3.44% $ 35,991 5.00%
Tier I capital to risk-
weighted assets 35,166 7.64% $ 27,632 6.00%
Plus:
Allowable allowance for
Loan losses
Risk-based capital $ 19,961 $ 46,054
Risk-based capital to risk-
Weighted assets 4.33% 10.00%
<FN>
<F1> Based upon the Bank's adjusted total assets for the purpose of the
tangible and core capital ratios and risk-weighted assets for the purpose of
the risk-based capital ratio.
</FN>
The tangible capital of the Bank was in excess of the minimum 2% required at
June 30, 2001 but is not reflected in the table above.
(11) BUSINESS SEGMENTS
HMN's wholly owned subsidiaries, Home Federal Savings Bank and MSI (through
January 31, 2001), have been identified as reportable operating segments in
accordance with the provisions of SFAS 131. MSI and its successor through
merger, Home Federal Mortgage Services, LLC, were deemed to be a segment
because its operations were conducted independently from the Bank. MSI and
HFMS, jointly called Mortgage Services, have been segmented further into
Mortgage Servicing Rights and Mortgage Banking activities. The mortgage
servicing segment owns servicing rights on loans which have either been sold to
FNMA or securitized into mortgage backed instruments which were issued by FNMA.
MSI receives a servicing fee which is based upon the outstanding balance of the
loan being serviced and pays a subservicer a monthly fee to service the loan.
MSI's mortgage banking activity includes an origination function and it also
purchases loans from other loan originators. All loans acquired either by
origination or by purchase are intended to be resold in the secondary loan
market.
Security Finance Corporation and HMN, the holding company, did not meet the
quantitative thresholds for determining reportable segments and therefore are
included in the "Other" category.
HMN evaluates performance and allocates resources based on the segment's net
income or loss, return on average assets and return on average equity. Each
corporation is managed separately with its own president, who reports directly
to HMN's chief operating decision maker, and board of directors.
The following table sets forth certain information about the reconciliations of
reported profit or loss and assets for each of HMN's reportable segments.
14
HMN Mortgage Services, Inc.
-----------------------------
Home Federal Mortgage Mortgage
(Dollars in thousands) Savings Bank Servicing Rights Banking
- ------------------------------------------------------------------------
At or for the three
months ended
June 30, 2001:
Interest income -
external customers $ 12,126 0 911
Non-interest income -
external customers 610 12 800
Earnings (loss) on
limited partnerships (339) 0 0
Intersegment interest
income 834 0 0
Intersegment non-
interest income 230 0 0
Interest expense 7,975 0 869
Amortization of mortgage
servicing rights and
net valuation
adjustments 166 23 0
Other non-interest
expense 2,910 5 611
Income tax expense
(benefit) 771 0 0
Minority interest 105 0 0
Net income (loss) 1,234 (16) 231
Total assets 723,447 134 46,511
Net interest margin 2.92 % NM NM
Return on average assets 0.68 % (44.97) 1.72 %
Return on average
realized common equity 8.62 % (1,991.20) 77.20 %
At or for the three
months ended
June 30, 2000:
Interest income -
external customers $ 12,817 0 68
Non-interest income -
external customers 762 7 163
Earnings (loss) on
limited partnerships 117 0 0
Intersegment interest
income 0 0 0
Intersegment non-
interest income 100 0 0
Interest expense 7,995 0 52
Amortization of mortgage
servicing rights
and net valuation
adjustments 61 6 0
Other non-interest
expense 2,593 9 236
Income tax expense
(benefit) 1,217 (3) (23)
Net income (loss) 1,885 (5) (34)
Total assets 702,155 210 6,229
Net interest margin 2.88 % NM NM
Return on average assets 1.09 % (9.59) % (3.81) %
Return on average
realized common equity 14.38 % (30.17) % (11.61) %
NM - Not meaningful
Total
Reportable Consolidated
Segments Other Eliminations Total
- -------------------------------------------------------------------------------
At or for the three
months ended
June 30, 2001:
Interest income -
external customers 13,037 105 0 13,142
Non-interest income -
external customers 1,422 92 0 1,514
Earnings (loss) on
limited partnerships (339) 14 0 (325)
Intersegment interest
income 834 85 (919) 0
Intersegment non-
interest income 230 1,364 (1,594) 0
Interest expense 8,844 3 (919) 0
Amortization of mortgage
servicing rights and
net valuation
adjustments 189 0 0 189
Other non-interest
expense 3,526 369 (146) 3,749
Income tax expense
(benefit) 771 16 0 787
Minority interest 105 0 0 105
Net income (loss) 1,449 1,272 (1,449) 1,272
Total assets 769,696 71,156 (109,507) 731,345
Net interest margin NM NM NM 2.98
Return on average assets NM NM NM 0.70
Return on average
realized common equity NM NM NM 7.11
At or for the three
months ended
June 30, 2000:
Interest income -
external customers 12,885 154 0 13,039
Non-interest income -
external customers 932 2 0 934
Earnings (loss) on
limited partnerships 117 (35) 0 82
Intersegment interest
income 0 64 (64) 0
Intersegment non-
interest income 100 1,854 (1,954) 0
Interest expense 8,047 12 (64) 7,995
Amortization of mortgage
servicing rights
and net valuation
adjustments 67 0 0 67
Other non-interest
expense 2,838 143 (100) 2,881
Income tax expense
(benefit) 1,191 (4) 0 1,187
Net income (loss) 1,846 1,888 (1,854) 1,880
Total assets 708,594 65,903 (58,288) 716,209
Net interest margin NM NM NM 2.95%
Return on average assets NM NM NM 1.06%
Return on average
realized common equity NM NM NM 11.07%
NM - Not meaningful
15
HMN Mortgage Services, Inc.
-----------------------------
Home Federal Mortgage Mortgage
(Dollars in thousands) Savings Bank Servicing Rights Banking
- ------------------------------------------------------------------------
At or for the six
months ended
June 30, 2001:
Interest income -
external customers $ 25,095 0 1,373
Non-interest income -
external customers 1,519 28 1,246
Earnings (loss) on
limited partnerships (622) 0 0
Intersegment interest
income 1,252 0 0
Intersegment non-
interest income 381 0 0
Interest expense 16,385 0 1,345
Amortization of mortgage
servicing rights and
net valuation
adjustments 284 46 0
Other non-interest
expense 6,028 6 1,048
Income tax expense 1,699 0 (28)
Minority interest 133 0 0
Net income (loss) 2,646 (24) 254
Total assets 723,447 134 46,115
Net interest margin 2.93 % NM NM
Return on average assets 0.74 % (29.69) 1.24 %
Return on average
realized common equity 9.55 % (567.43) 44.14 %
At or for the six
months ended
June 30, 2000:
Interest income -
external customers $ 25,238 0 116
Non-interest income -
external customers 1,209 29 263
Earnings (loss) on
limited partnerships 158 0 0
Intersegment interest
income 0 0 0
Intersegment non-
interest income 191 0 0
Interest expense 15,700 0 85
Amortization of mortgage
servicing rights
and net valuation
adjustments 116 12 0
Other non-interest
expense 5,284 17 483
Income tax expense
(benefit) 2,198 0 (76)
Net income (loss) 3,408 0 (113)
Total assets 702,155 210 6,229
Net interest margin 2.86 % NM NM
Return on average assets 0.99 % (0.04) % (10.68) %
Return on average
realized common equity 13.10 % (1.20) % (26.02) %
NM - Not meaningful
Total
Reportable Consolidated
Segments Other Eliminations Total
- -------------------------------------------------------------------------------
At or for the six
months ended
June 30, 2001:
Interest income -
external customers 26,468 216 0 26,684
Non-interest income -
external customers 2,793 342 0 3,135
Earnings (loss) on
limited partnerships (622) (7) 0 (629)
Intersegment interest
income 1,252 173 (1,425) 0
Intersegment non-
interest income 381 2,765 (3,146) 0
Interest expense 17,730 15 (1,425) 16,320
Amortization of mortgage
servicing rights and
net valuation
adjustments 330 0 0 330
Other non-interest
expense 7,082 497 (270) 7,309
Income tax expense 1,671 14 0 1,785
Minority interest 133 0 0 133
Net income (loss) 2,876 2,863 (2,876) 2,863
Total assets 769,696 71,156 (109,507) 731,345
Net interest margin NM NM NM 2.97
Return on average assets NM NM NM 0.79
Return on average
realized common equity NM NM NM 8.13
At or for the six
months ended
June 30, 2000:
Interest income -
external customers 25,354 346 0 25,700
Non-interest income -
external customers 1,501 4 0 1,505
Earnings (loss) on
limited partnerships 158 (39) 0 119
Intersegment interest
income 0 127 (127) 0
Intersegment non-
interest income 191 3,315 (3,506) 0
Interest expense 15,785 2 (127) 15,700
Amortization of mortgage
servicing rights
and net valuation
adjustments 128 0 0 128
Other non-interest
expense 5,784 253 (191) 5,846
Income tax expense
(benefit) 2,122 28 0 2,150
Net income (loss) 3,295 3,430 (3,315) 3,410
Total assets 708,594 65,903 (58,288) 716,209
Net interest margin NM NM NM 2.94%
Return on average assets NM NM NM 0.97%
Return on average
realized common equity NM NM NM 10.04%
NM - Not meaningful
16
HMN FINANCIAL, INC.
Item 2: MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
HMN's net income is dependent primarily on its net interest income, which is
the difference between interest earned on its loans and investments and the
interest paid on interest-bearing liabilities. Net interest income is
determined by (i) the difference between the yield earned on interest-earning
assets and rates paid on interest-bearing liabilities (interest rate spread)
and (ii) the relative amounts of interest-earning assets and interest-bearing
liabilities. HMN's interest rate spread is affected by regulatory, economic
and competitive factors that influence interest rates, loan demand and deposit
flows. Net interest margin is calculated by dividing net interest income by
the average interest-earning assets and is normally expressed as a percentage.
Net interest income and net interest margin are affected by changes in interest
rates, the volume and the mix of interest-earning assets and interest-bearing
liabilities, and the level of non-performing assets. HMN's net income is also
affected by the generation of non-interest income, which primarily consists of
gains from the sale of securities, gains from sale of loans, service charges,
fees and other income. In addition, net income is affected by the level of
operating expenses, provisions made for loan losses and impairment reserve
adjustments required on mortgage servicing assets.
The operations of financial institutions, including the Bank, are significantly
affected by prevailing economic conditions, competition and the monetary and
fiscal policies of governmental agencies. Lending activities are influenced by
the demand for and supply of housing, competition among lenders, the level of
interest rates and the availability of funds. Deposit flows and costs of funds
are influenced by prevailing market rates of interest primarily on competing
investments, account maturities and the levels of personal income and savings
in the market area of the Bank.
NET INCOME
HMN's net income for the second quarter of 2001 was $1.3 million, a decrease of
$608,000, or 32%, compared to net income of $1.9 million for the second quarter
of 2000. Basic earnings per share were $0.34 for the quarter ended June 30,
2001, a decrease of $0.14 per share or 29.2%, from $0.48 basic earnings per
share for the same quarter of 2000. Diluted earnings per share for the second
quarter of 2001 were $0.32, a decrease of $0.15 or 31.9%, from $0.47 for the
second quarter of 2000. During the second quarter of 2001, HMN recognized
$610,000 of impairment losses on corporate debt securities because the
underlying debtor corporation filed for bankruptcy. It also recognized
$333,000 in losses on a limited partnership investment in mortgage servicing
assets that declined in value during the quarter. Diluted earnings per share
for the second quarter of 2001 decreased by a total of $0.15 due to the
impairment losses and the limited partnership losses recognized during the
quarter.
HMN's net income for the six months ended June 30, 2001 was $2.9 million, a
decrease of $547,000, or 16.0%, compared to net income of $3.4 million for the
six month period ended June 30, 2000. Basic earnings per share were $0.77 for
the six months ended June 30, 2001, a decrease of $0.10 or 11.5%, from $0.87
for the same six month period in 2000. Diluted earnings per share for the
six-month period in 2001 were $0.72, a decrease of $0.12 or 14.3%, from $0.84
for the same six-month period in 2000. During the first six months of 2001, HMN
recognized $610,000 of impairment losses on corporate debt securities because
the underlying debtor corporation filed for bankruptcy. It also recognized
$609,000 losses on a limited partnership investment in mortgage servicing
assets that declined in value during the period. Diluted earnings per share
for the first six months of 2001 decreased by a total of $0.19 due to the
impairment losses and the limited partnership losses recognized during the
period.
17
NET INTEREST INCOME
Net interest income for the second quarter of 2001 was $5.2 million, an
increase of $170,000 or 3.4%, compared to $5.0 million for the second quarter
of 2000. Interest income for the second quarter of 2001 was $13.1 million, an
increase of $103,000 or 0.8%, compared to $13.0 for the second quarter of 2000.
Interest income increased by $411,000 due to a $15.2 million net increase in
average interest-earning assets from the second quarter of 2000 to the second
quarter of 2001. The increase in average interest-earning assets is the result
of HMN's emphasis on originating and/or purchasing commercial real estate
loans, commercial business loans and consumer loans which generally have higher
interest rates and shorter terms to maturity than single family fixed-rate
residential loans. Interest income decreased by $308,000 due to a decrease in
interest rates from the second quarter of 2000 to the second quarter of 2001.
The yield on interest-earning assets decreased from 7.63% at June 30, 2000 to
7.50% at June 30, 2001. During the first six months of 2001 the Federal
Reserve Board substantially cut short-term interest rates which in turn caused
the yield on the floating rate loan portfolio and the yield on new loans
originated to be less than the yields that were earned in the loan portfolio
during a comparable period in 2000.
Interest expense was $7.93 million for the second quarter of 2001, a decrease
of $67,000 or 0.8%, compared to $7.99 million for the same quarter in 2000.
Interest expense on deposit accounts was $4.9 million, an increase of $388,000
or 8.6%, from $4.5 million for the second quarter of 2000. Interest expense on
deposits increased because HMN was required to pay higher rates in order to
retain the deposits. Interest expense on Federal Home Loan Bank (FHLB)
advances was $3.0 million for the second quarter of 2001, a decrease of
$455,000 or 13.1%, from $3.5 million for the second quarter of 2000. Interest
expense on FHLB advances decreased by $178,000 due to a decline in the average
outstanding advances between the two quarters. Interest expense also declined
by $277,000 due to a decline in the interest rates paid on FHLB advances
between the two quarters. HMN has many advances which are tied to a London
Inter-Bank Offer Rates (LIBOR) index and the interest rate on those advances
adjusts monthly to changes in the index. During the first six months of 2001
as the Federal Reserve Board reduced short-term interest rates the LIBOR index
also decreased.
Net interest margin (net interest income divided by average interest earning
assets) for the second quarter of 2001 was 2.98%, a 3 basis point increase,
compared to 2.95% for the second quarter of 2000.
Net interest income for the six month period ended June 30, 2001 was $10.4
million, an increase of $365,000 or 3.6%, compared to $10.0 million for the
same period of 2000. Interest income for the six month period of 2001 was
$26.7 million, an increase of $985,000 or 3.8%, compared to $25.7 million for
the same period of 2000. Interest income increased by $663,000 due to an $18.8
million net increase in average interest-earning assets from the six month
period of 2000 to the same period of 2001. The increase in average
interest-earning assets is the result of HMN's emphasis on originating and/or
purchasing commercial real estate loans, commercial business loans and consumer
loans which generally have higher interest rates and shorter terms to maturity
than single family fixed-rate residential loans. Interest income increased by
$317,000 due to higher interest rates being earned on the types of assets being
added to the loan and loans held for sale portfolios which replaced lower
yielding assets in the securities portfolio. The change in asset mix improved
the yield on interest earning assets from 7.55% at June 30, 2000 to 7.65% at
June 30, 2001 despite the fact that interest rates declined from the first six
months of 2000 to the same period in 2001.
Interest expense was $16.3 million for the six months ended June 30, 2001, an
increase of $620,000 or 3.9%, compared to $15.7 million for the same six month
period of 2000. Interest expense on deposits was $10.0 million for the six
month period ended June 30, 2001, an increase of $1.1 million or 12.6%,
compared to $8.9 million for the same period of 2000. Interest expense on
deposits increased because HMN was required to pay higher rates in order to
retain the deposits. Interest expense on FHLB advances was $6.3 million for
the six month period of 2001, a decrease of $493,000 or 7.2%, from $6.8 million
for the same period of 2000. Interest expense decreased by $224,000 due to a
$7.5 million decrease in the average outstanding advances from the FHLB.
Interest expense decreased by $269,000 due to a decrease in the cost of
borrowing from the FHLB. HMN has many advances which are tied to a London
Inter-Bank Offer Rates (LIBOR) index and the interest rate on those advances
adjusts monthly to changes in the index. During 2001 as the Federal Reserve
Board reduced short-term interest rates the LIBOR index also decreased. The
average interest rate paid on average
18
interest-bearing liabilities was 5.11% during the six months ended June 30,
2001, compared to 4.99% for the same period of 2000.
Net interest margin (net interest income divided by average interest earning
assets) for the six months ended June 30, 2001, was 2.97%, an increase of 3
basis points, compared to 2.94% for the same period of 2000.
PROVISION FOR LOAN LOSSES
*The provision for loan losses for the second quarter ended June 30, 2001 was
$300,000, an increase of $255,000, or 567.0%, compared to $45,000 for the
second quarter of 2000. The provision for loan losses for the six months ended
June 30, 2001 was $450,000, an increase of $360,000, or 400.0% compared to
$90,000 for the same six month period ended in 2000. The provision is the
result of management's evaluation of the composition of the loan portfolio, the
historical level of non-performing loans, increases in loan charge-off
experience, and its assessment of the general economic conditions in the
geographic area where properties securing the loan portfolio are located such
as national and regional unemployment data, local single family construction
permits and local economic growth rates. Management's evaluation of probable
losses inherent in the loan portfolio revealed conditions that resulted in
increasing the 2001 loan loss provision compared to the provision for 2000.
This increase was due primarily to the growth that was experienced in the
commercial and consumer loan portfolios. HMN will continue to monitor its
allowance for losses as these conditions dictate. Future economic conditions
and other unknown factors will impact the need for future provisions for loan
losses. As a result, no assurances can be given that increases in the
allowance for loan losses will not be required during future periods.
A reconciliation of HMN's allowance for loan losses is summarized as follows:
2001 2000
------------- ---------------
Balance at January 1, $3,143,746 $ 3,273,311
Provision 450,000 90,000
Charge-offs (68,830) (2,993)
Recoveries 326 425
----------- ------------
Balance at June 30, $ 3,525,242 $ 3,360,743
=========== ============
NON-INTEREST INCOME
Non-interest income was $1.2 million for the second quarter of 2001, an
increase of $172,000, or 16.9%, from $1.0 million for the second quarter of
2000. Non-interest income increased by $1.2 million primarily due to increased
gains recognized on the sale of single family residential loans and increased
fees collected. Interest rates on fixed rate single family residential loans
were very favorable during the second quarter of 2001, which caused the loan
volume of new home purchases and existing home refinances in HMN's markets to
exceed our expectations. Since HMN sells the majority of its fixed rate single
family loan activity, gain on the sale of loans improved from the second
quarter of 2000 to the second quarter of 2001. The increase in non-interest
income was offset by a $645,000 decline in gain on the sale of securities and a
$407,000 decrease in earnings from limited partnerships. Gain on the sale of
securities declined primarily due to a $610,000 impairment loss recognized in
the securities portfolio. The low interest rates on single family home loans
have caused many homeowners to refinance their mortgages. The increased
refinance volume has caused the value of HMN's investment in a limited
partnership that invests in mortgage servicing rights to decline.
Non-interest income was $2.5 million for the six months ended June 30, 2001, an
increase of $881,000, or 54.3%, from $1.6 million for the same six month period
of 2000. Non-interest income increased by $2.0 million primarily due to
increased gains recognized on the sale of single family residential loans and
increased fees collected. Interest rates on fixed rate single family
residential loans were very favorable during 2001, which caused the loan volume
of new home purchases and home refinances in HMN's markets to exceed our
expectations. Since HMN sells the majority of its fixed rate single family
loan activity, gain on the sale of loans improved from 2000 to 2001. The
increase in non-interest income was offset by a $298,000 decline in gain on the
sale of securities and a $747,000 decrease in earnings from limited
partnerships. Gain on the sale of securities declined primarily due to a
$610,000 impairment loss recognized in the securities portfolio during the
second quarter of 2001. The low interest rates on single family home loans
have caused many homeowners to refinance their mortgages. The increased
refinance volume has caused the value of HMN's investment in a limited
partnership that invests in mortgage servicing rights to decline.
* This paragraph contains a forward-looking statement(s). Refer to information
regarding Forward-looking Information on page 25 of this discussion.
19
NON-INTEREST EXPENSE
Non-interest expense was $3.9 million for the second quarter of 2001, an
increase of $1.0 million or 33.6%, from $2.9 million for the second quarter of
2000. Compensation and benefits expense increased by $554,000, or 37.2%, due
primarily to increased commissions being paid on more loan production,
increased claims experience for the self funded health benefit plan, annual pay
increases and increases in the number of employees in the work force.
Occupancy costs increased by $49,000 primarily due to additional depreciation
on remodeled facilities and other costs related to equipment. Amortization of
mortgage servicing rights, net of valuation adjustments and servicing costs
increased by $119,000 due to a change in the estimated time over which the
servicing fees will be collected. Advertising expenses and other expense
increased a total of $218,000 between the two quarters. The increase in other
expenses is partially due to the increased loan origination and brokerage
activity.
Non-interest expense was $7.64 million for the six months ended June 30, 2001,
an increase of $1.67 million or 27.9%, from $5.97 million for the same six
month period of 2000. Compensation and benefits expense increased by $770,000,
or 24.2%, due primarily to increased commissions being paid on increased loan
production, annual pay increases, increases in the number of employees in the
work force and an increase in claims on the self funded health benefit plan.
Occupancy costs increased by $189,000 primarily due to additional depreciation
on remodeled facilities and other costs related to equipment. Amortization of
mortgage servicing rights, net of valuation adjustments and servicing costs
increased by $191,000 due to a change in the estimated time over which the
servicing fees will be collected. Advertising expenses and other expenses
increased a total of $420,000 between the two six month periods. The increase
in other expenses is partially due to the increased loan origination and
brokerage activity.
INCOME TAX EXPENSE
Income tax expense was $787,000 for the second quarter of 2001, a decrease of
$400,000 compared to $1.2 million for the second quarter of 2000. Income tax
expense was $1.8 million for the six months ended June 30, 2001, a decrease of
$365,000 compared to $2.2 million for the same six month period of 2000. The
decreases in income taxes are primarily due to decreases in taxable income.
20
NON-PERFORMING ASSETS
The following table sets forth the amounts and categories of non-performing
assets in the Bank's portfolio at
June 30, 2001 and December 31, 2000.
June 30, December 31,
(Dollars in Thousands) 2001 2000
----------- ------------
Non-Accruing Loans
One-to-four family real estate $ 498 775
Nonresidential real estate 68 0
Consumer 91 142
Commercial business 563 95
------ -------
Total 1,220 1,012
------ -------
Accruing loans delinquent 90
days or more 6 405
Other assets 1,390 0
Foreclosed Assets
Real estate:
One-to-four family 0 195
------ -------
Total non-performing assets $ 2,616 $ 1,612
====== =======
Total as a percentage of total assets 0.36% 0.23%
====== =======
Total non-performing loans $ 1,220 $ 1,417
====== =======
Total as a percentage of total
loans receivable, net 0.24% 0.27%
====== =======
Total non-performing assets at June 30, 2001 were $2,616,000, an increase of
$1,004,000, from $1,612,000 at December 31, 2000. The net increase of
$1,004,000 was the result of a $208,000 increase in non-accruing loans, a
$1,390,000 increase in non-accruing investments due to bankruptcy filed by the
underlying debtors, which were offset by a $399,000 decrease in accruing loans
delinquent 90 days or more and a decrease of $195,000 in real estate owned.
DIVIDENDS
On July 24, 2001 HMN declared a cash dividend of $.14 per share, payable on
September 11, 2001 to shareholders of record on August 28, 2001.
During 2001, HMN has declared and paid dividends as follows:
Record date Payable date Dividend per share Dividend Payout Ratio
- ---------------- ------------- ------------------- ---------------------
February 22, 2001 March 8, 2001 $0.12 29.27%
April 24, 2001 June 11, 2001 $0.12 30.0 %
The annualized dividend payout ratio for the past four quarters, ending with
the September 11, 2001 payment will be 31.85%.
The declaration of dividends are subject to, among other things, HMN's
financial condition and results of operations, the Bank's compliance with its
regulatory capital requirements, including the fully phased-in capital
requirements, tax considerations, industry standards, economic conditions,
regulatory restrictions, general business practices and other factors.
21
LIQUIDITY
For the six months ended June 30, 2001, the net cash used by operating
activities was $33.4 million. HMN collected $15.0 million from the sale of
securities, $14.0 million from principal repayments and the maturity of
securities and $312,000 in proceeds from the sale of real estate. It purchased
premises and equipment of $875,000 and net loans receivable decreased by $14.2
million due to loan prepayments and payoffs. HMN had a net decrease in deposit
balances of $9.3 million for the six month period. It received net proceeds of
$17.9 million from FHLB advances and $237,000 from increased advance payments
from borrowers for taxes and insurance. HMN received $125,000 from the sale of
a minority interest in HFMS and it also received $190,506 related to the
exercise of HMN stock options. HMN purchased $74,000 of its own stock and paid
$816,000 in dividends to its shareholders.
*HMN has certificates of deposits with outstanding balances of $237.2 million
that come due over the next 12 months. Based upon past experience management
anticipates that the majority of the deposits will renew for another term. HMN
believes that deposits that do not renew will be replaced with deposits from
other customers, or funded with advances from the FHLB, or will be funded
through the sale of securities. Management does not anticipate that it will
have a liquidity problem due to maturing deposits.
*HMN has $25.0 million of FHLB advances which mature after 2003 but have call
features that can be exercised by the FHLB during the next 12 months. If the
call features are exercised HMN has the option of requesting any advance
otherwise available to it pursuant to the Credit Policy of the FHLB. HMN also
has $18.5 million of FHLB advances which will mature during the next 12 months.
Since HMN has the ability to request another advance to replace the advance
that is being called or is maturing, management does not anticipate that it
will have a liquidity problem due to advances being called by the FHLB during
the next 12 month period.
MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and
rates. HMN's market risk arises primarily from interest rate risk inherent in
its investing, lending and deposit taking activities. Management actively
monitors and manages its interest rate risk exposure.
HMN's profitability is affected by fluctuations in interest rates. A sudden
and substantial increase in interest rates may adversely impact HMN's earnings
to the extent that the interest rates borne by assets and liabilities do not
change at the same speed, to the same extent, or on the same basis. HMN
monitors the projected changes in net interest income that occur if interest
rates were to suddenly change up or down. The Rate Shock Table located below
in the Asset/Liability Management section of this report discloses HMN's
projected changes in net interest income based upon immediate interest rate
changes called rate shocks.
*HMN utilizes a model which uses the discounted cash flows from its
interest-earning assets and its interest-bearing liabilities to calculate the
current market value of those assets and liabilities. The model also
calculates the changes in market value of the interest-earning assets and
interest-bearing liabilities due to different interest rate changes. HMN
believes that over the next twelve months interest rates could conceivably
fluctuate in a range of 200 basis points up or down from where the rates were
at June 30, 2001. HMN does not have a trading portfolio. The following table
discloses the projected changes in market value to HMN's interest-earning
assets and interest-bearing liabilities based upon incremental 100 basis point
changes in interest rates from interest rates in effect on June 30, 2001.
* This paragraph contains a forward-looking statement(s). Refer to information
regarding Forward-looking Information on page 25 of this discussion.
22
- ----------------------------------------------------------------------------
Other than trading portfolio Market Value
--------------------------------------------------
(Dollars in thousands)
Basis point change
in interest rates -200 -100 0 +100 +200
- -----------------------------------------------------------------------------
Cash equivalents $32,029 32,019 32,009 31,998 31,988
Securities available
for sale:
Fixed-rate CMOs 10,734 10,776 10,639 10,316 9,970
Variable-rate CMOs 55,660 56,060 57,480 57,874 57,807
Fixed-rate available
for sale mortgage-backed
and related securities 2,885 2,837 2,747 2,659 2,563
Variable-rate available
for sale mortgage-
backed and related
securities 1,600 1,593 1,587 1,578 1,570
Fixed-rate available for
sale other marketable
securities 43,018 41,881 40,741 39,447 38,318
Variable-rate available
for sale other
marketable securities 112 110 115 111 111
Federal Home Loan Bank
stock 12,221 12,211 12,245 12,190 12,180
Fixed-rate loans held
for sale 49,072 48,278 46,608 44,934 44,144
Loans receivable, net:
Fixed-rate real estate
loans 245,937 242,198 235,653 227,945 220,319
Variable-rate real
estate loans 148,479 145,755 143,169 140,654 138,291
Fixed-rate other loans 76,173 75,485 77,815 76,055 74,492
Variable-rate other loans 66,203 65,049 63,917 63,355 62,981
Mortgage servicing
rights, net 598 1,032 1,632 1,959 1,900
Investment in limited
partnerships 1,286 1,564 2,209 2,549 2,673
------- ------- ------ ------ ------
Total market risk
sensitive assets 746,007 736,848 728,566 713,624 699,307
------- ------- ------- ------- -------
NOW deposits 46,400 46,400 46,400 46,400 46,400
Passbook deposits 32,605 32,605 32,605 32,605 32,605
Money market deposits 37,501 37,501 37,501 37,501 37,501
Certificate deposits 295,932 295,932 295,932 295,932 295,932
Fixed-rate Federal Home
Loan Bank advances 179,590 171,018 163,993 162,340 160,363
Variable-rate Federal
Home Loan Bank advances 77,585 77,555 77,524 77,492 77,461
------- -------- ------- ------ ------
Total market risk
sensitive liabilities 669,613 661,011 653,955 652,270 650,262
------- -------- ------- ------- -------
Off-balance sheet
financial instruments:
Commitments to extend
credit 3,799 2,505 0 (3,260) (4,536)
Commitments to sell or
deliver loans (5,704) (3,749) 0 4,743 6,676
------- -------- ------- ------- ------
Net market risk $ 78,299 77,081 74,611 59,871 46,905
======= ======== ======= ======= =======
Percentage change from
current market value 4.94% 3.31% 0.00% (19.76)% (37.13)%
======= ======== ======= ======= =======
- ----------------------------------------------------------------------------
The preceding table was prepared utilizing the following assumptions (the
"Model Assumptions") regarding prepayment and decay ratios which were
determined by management based upon their review of historical prepayment
speeds and future prepayment projections. Fixed rate loans were assumed to
prepay at annual rates of
23
between 7% to 37%, depending on the note rate and the period to maturity.
Adjustable rate mortgages ("ARMs") were assumed to prepay at annual rates of
between 11% and 28%, depending on the note rate and the period to maturity.
Growing Equity Mortgage (GEM) loans were assumed to prepay at annual rates of
between 7% and 37% depending on the note rate and the period to maturity.
Mortgage-backed securities and Collateralized Mortgage Obligations (CMOs) were
projected to have prepayments based upon the underlying collateral securing the
instrument and the related cash flow priority of the CMO tranche owned.
Certificate accounts were assumed not to be withdrawn until maturity. Passbook
and money market accounts were assumed to decay at an annual rate of 9%. FHLB
advances were projected to be called at the first call date where the projected
interest rate on similar remaining term advances exceeded the interest rate on
HMN's callable advance.
*Certain shortcomings are inherent in the method of analysis presented in the
foregoing table. The interest rates on certain types of assets and liabilities
may fluctuate in advance of changes in market interest rates, while interest
rates on other types of assets and liabilities may lag behind changes in market
interest rates. The model assumes that the difference between the current
interest rate being earned or paid compared to a treasury instrument or other
interest index with a similar term to maturity (the "Interest Spread") will
remain constant over the interest changes disclosed in the table. Changes in
Interest Spread could impact projected market value changes. Certain assets,
such as ARMs, have features which restrict changes in interest rates on a
short-term basis and over the life of the assets. The market value of the
interest-bearing assets which are approaching their lifetime interest rate caps
could be different from the values disclosed in the table. In the event of a
change in interest rates, prepayment and early withdrawal levels may deviate
significantly from those assumed in calculating the foregoing table. The
ability of many borrowers to service their debt may decrease in the event of an
interest rate increase.
ASSET/LIABILITY MANAGEMENT
*HMN's management reviews the impact that changing interest rates will have on
its net interest income projected for the twelve months following June 30, 2001
to determine if its current level of interest rate risk is acceptable. The
following table projects the estimated annual impact on net interest income of
immediate interest rate changes called rate shocks.
Rate Shock Net Interest Percentage
in Basis Points Income Change
--------------- -------------- ------------
+200 24,443 1.68 %
+100 24,673 2.64 %
0 24,039 0.00 %
-100 22,043 -8.30 %
-200 19,904 -17.20 %
The preceding table was prepared utilizing the Model Assumptions regarding
prepayment and decay ratios which were determined by management based upon
their review of historical prepayment speeds and future prepayment projections.
*Certain shortcomings are inherent in the method of analysis presented in the
foregoing table. In the event of a change in interest rates, prepayment and
early withdrawal levels would likely deviate significantly from those assumed
in calculating the foregoing table. The ability of many borrowers to service
their debt may decrease in the event of a substantial increase in interest
rates and could impact net interest income.
In an attempt to manage its exposure to changes in interest rates, management
closely monitors interest rate risk. The Bank has an Asset/Liability Committee
consisting of executive officers which meets at least quarterly to review the
interest rate risk position and projected profitability. The committee makes
recommendations for adjustments to the asset/liability position of the Bank to
the Board of Directors of the Bank. This committee also reviews the Bank's
portfolio, formulates investment strategies and oversees the timing and
implementation of transactions to assure attainment of the Board's objectives
in the most effective manner. In addition, the Board reviews on a quarterly
basis the Bank's asset/liability position, including simulations of the effect
on the Bank's capital of various interest rate scenarios.
*This paragraph contains a forward-looking statement(s). Refer to information
regarding Forward-looking Information on page 25 of this discussion.
24
In managing its asset/liability mix, the Bank, at times, depending on the
relationship between long- and short-term interest rates, market conditions and
consumer preference, may place more emphasis on managing net interest margin
than on better matching the interest rate sensitivity of its assets and
liabilities in an effort to enhance net interest income. Management believes
that the increased net interest income resulting from a mismatch in the
maturity of its asset and liability portfolios can, during periods of declining
or stable interest rates, provide high enough returns to justify the increased
exposure to sudden and unexpected increases in interest rates.
To the extent consistent with its interest rate spread objectives, the Bank
attempts to reduce its interest rate risk and has taken a number of steps to
restructure its assets and liabilities. The Bank has primarily focused its
fixed rate one-to-four family residential lending program on loans with
contractual terms of 20 years or less. The Bank generally follows the practice
of selling all of its fixed rate single family loans which conform to the
secondary market guidelines. HMN has focused its portfolio lending on the
origination of commercial loan products and consumer loans which generally have
shorter weighted average terms to maturity and/or interest rates which adjust
at least every three years. At times, depending on its interest rate
sensitivity, the Bank may sell fixed rate single family loans with shorter
contractual maturities than thirty years in order to reduce interest rate risk
and record a gain on the sale of loans.
FORWARD-LOOKING INFORMATION
The following paragraphs within Management's Discussion and Analysis of
Financial Condition and Results of Operations contain forward-looking
statements and actual results may differ materially from the expectations
disclosed within this Discussion and Analysis. These forward-looking
statements are subject to risks and uncertainties, including those
discussed below. HMN assumes no obligations to publicly release results
of any revision or updates to these forward-looking statements to reflect
future events or unanticipated occurrences.
PROVISION FOR LOAN LOSSES
The provision for loan losses for the second quarter ended June 30, 2001
was $300,000, an increase of $255,000, or 567.0%, compared to $45,000 for
the second quarter of 2000. The provision for loan losses for the six
months ended June 30, 2001 was $450,000, an increase of $360,000, or
400.0% compared to $90,000 for the same six month period ended in 2000.
The provision is the result of management's evaluation of the composition
of the loan portfolio, the historical level of non-performing loans,
increases in loan charge-off experience, and its assessment of the general
economic conditions in the geographic area where properties securing the
loan portfolio are located such as national and regional unemployment
data, local single family construction permits and local economic growth
rates. Management's evaluation of probable losses inherent in the loan
portfolio revealed conditions that resulted in increasing the 2001 loan
loss provision compared to the provision for 2000. This increase was due
primarily to the growth that was experienced in the commercial and
consumer loan portfolios. HMN will continue to monitor its allowance for
losses as these conditions dictate. Future economic conditions and other
unknown factors will impact the need for future provisions for loan
losses. As a result, no assurances can be given that increases in the
allowance for loan losses will not be required during future periods.
LIQUIDITY
HMN has certificates of deposits with outstanding balances of $237.2
million that come due over the next 12 months. Based upon past experience
management anticipates that the majority of the deposits will renew for
another term. HMN believes that deposits that do not renew will be
replaced with deposits from other customers, or funded with advances from
the FHLB, or will be funded through the sale of securities. Management
does not anticipate that it will have a liquidity problem due to maturing
deposits.
HMN has $25.0 million of FHLB advances which mature after 2003 but have
call features that can be exercised by the FHLB during the next 12 months.
If the call features are exercised HMN has the option of requesting any
advance otherwise available to it pursuant to the Credit Policy of the
FHLB. HMN also has $18.5 million of FHLB advances which will mature
during the next 12 months. Since HMN has the ability to request another
advance to replace the advance that is being called or is maturing,
management does not anticipate that it will have a liquidity problem due
to advances being called by the FHLB during the next 12 month period.
25
Competitive pricing by other institutions, the desire of a competitor to
pay interest rates on deposits that are above the current rates paid by
HMN, or the desire by customers to put more of their funds into
nontraditional bank products such as stocks and bonds could be
circumstances that would cause the maturing certificates to become a
liquidity problem.
MARKET RISK
HMN utilizes a model which uses the discounted cash flows from its
interest-earning assets and its interest-bearing liabilities to calculate
the current market value of those assets and liabilities. The model also
calculates the changes in market value of the interest-earning assets and
interest-bearing liabilities due to different interest rate changes. HMN
believes that over the next twelve months interest rates could conceivably
fluctuate in a range of 200 basis points up or down from where the rates
were at June 30, 2001. HMN does not have a trading portfolio. The
following table discloses the projected changes in market value to HMN's
interest-earning assets and interest-bearing liabilities based upon
incremental 100 basis point changes in interest rates from interest rates
in effect on June 30, 2001.
Certain shortcomings are inherent in the method of analysis presented in
the foregoing table. The interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates,
while interest rates on other types of assets and liabilities may lag
behind changes in market interest rates. The model assumes that the
difference between the current interest rate being earned or paid compared
to a treasury instrument or other interest index with a similar term to
maturity (the "Interest Spread") will remain constant over the interest
changes disclosed in the table. Changes in Interest Spread could impact
projected market value changes. Certain assets, such as ARMs, have
features which restrict changes in interest rates on a short-term basis
and over the life of the assets. The market value of the interest-bearing
assets which are approaching their lifetime interest rate caps could be
different from the values disclosed in the table. In the event of a
change in interest rates, prepayment and early withdrawal levels may
deviate significantly from those assumed in calculating the table in the
market risk section. The ability of many borrowers to service their debt
may decrease in the event of an interest rate increase.
ASSET/LIABILITY MANAGEMENT
HMN's management reviews the impact that changing interest rates will have
on its net interest income projected for the twelve months following June
30, 2001 to determine if its current level of interest rate risk is
acceptable. The table in the asset/liability section projects the
estimated annual impact on net interest income of immediate interest rate
changes called rate shocks.
Certain shortcomings are inherent in the method of analysis presented in
the foregoing table. In the event of a change in interest rates,
prepayment and early withdrawal levels would likely deviate significantly
from those assumed in calculating the foregoing table. The ability of
many borrowers to service their debt may decrease in the event of a
substantial increase in interest rates and could impact net interest
income.
26
HMN FINANCIAL, INC.
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings.
None.
ITEM 2. Changes in Securities and Use of Proceeds.
Not applicable.
ITEM 3. Defaults Upon Senior Securities.
Not applicable.
ITEM 4. Submission of Matters to a Vote of Security Holders.
The Annual Meeting of Stockholders of the Company was held on April 24,
2001 at 10:00 a.m.
The following is a record of the votes cast in the election of directors of the
Company:
For Withhold
Term expiring in 2004:
Susan K. Kolling 2,978,492 297,764
Roger P. Weise 3,112,116 164,140
Richard J. Ziebell * 3,173,129 103,127
Terms for Directors continuing in office are as follows:
Term
Michael McNeil 2003
Timothy P. Johnson 2002
Duane D. Benson 2003
Timothy R. Geisler 2002
Allan R. DeBoer 2002
Mahlon C. Schneider 2003
Accordingly the individuals named above were declared to be duly elected
directors of the Company for terms to expire as stated above.
The following is a record of the votes cast in the approval of the HMN
Financial, Inc. 2001 Omnibus Stock Plan (the "Plan") and reservation of 400,000
shares under the Plan.
NUMBER PERCENTAGE OF
OF VOTES VOTES ACTUALLY CAST
FOR 1,883,575 57.49%
AGAINST 398,708 12.17%
ABSTAIN 354,332 10.82%
BROKER NON-VOTE 639,641 19.52%
* Mr. Ziebell has resigned from his position on the Board of Directors
effective June 30, 2001.
27
The following is a record of the votes cast in respect of the proposal to
ratify the appointment of KPMG LLP as the Company's auditors for the fiscal
year ending December 31, 2001.
NUMBER PERCENTAGE OF
OF VOTES VOTES ACTUALLY CAST
FOR 3,245,488 99.06%
AGAINST 19,613 0.60%
ABSTAIN 11,155 0.34%
BROKER NON-VOTE 0 0.00%
Accordingly, the proposal described above was declared to be duly adopted by
the stockholders of the Company.
ITEM 5. Other Information.
None.
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibits. See Index to Exhibits on page 27 of this report.
(b) Reports on Form 8-K - None.
28
SIGNATURES
Pursuant to the requirement of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HMN FINANCIAL, INC.
Registrant
Date: August 13, 2001 /s/ Michael McNeil
Michael McNeil,
President
(Principal Executive Officer)
Date: August 13, 2001 /s/ Timothy P. Johnson
Timothy P. Johnson,
Chief Financial Officer
(Principal Financial Officer)
29
HMN FINANCIAL, INC.
INDEX TO EXHIBITS
FOR FORM 10-Q
Reference Sequential
to Prior Page Numbering
Filing or Where Attached
Exhibit Exhibits Are
Regulation S-K Number Located in This
Exhibit Number Document Attached Hereto Form 10-Q Report
3.1 Amended and Restated Articles of
Incorporation *1 N/A
3.2 Amended and Restated By-laws *2 N/A
4 Form of Common Stock *3 N/A
Including indentures
11 Computation of Earnings Per
Common Share 11 Filed electronically
*1 Incorporated by reference to the same numbered exhibit to the Company's
Quarterly Report on Form 10-Q for the period ended March 31, 1998 (File No.
0-24100).
*2 Incorporated by reference to the same numbered exhibit to the Company's
Quarterly Report on Form 10-Q for the period ended September 30, 1997 (File
0-24100).
*3 Incorporated by reference to the same numbered exhibit to the Company's
Registration Statement on Form S-1 dated April 1, 1994 (File No. 33-77212).
30