HF Financial 10-Q 2009
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
For the Quarterly Period Ended March 31, 2009
For the transition period from to
HF FINANCIAL CORP.
(Exact name of registrant as specified in its charter)
(Registrants telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or Section 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 o
Indicate by check mark whether the Registrant (1) has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
As of May 8, 2009, there were 4,025,982 shares of the Registrants common stock outstanding.
Quarterly Report on Form 10-Q
HF FINANCIAL CORP.
(Dollars in Thousands)
See accompanying notes to unaudited consolidated financial statements.
HF FINANCIAL CORP.
(Dollars in Thousands, except share data)
See accompanying notes to unaudited consolidated financial statements.
HF FINANCIAL CORP.
(Dollars in Thousands)
See accompanying notes to unaudited consolidated financial statements.
For The Nine Months Ended March 31, 2009 and 2008
NOTE 1. SELECTED ACCOUNTING POLICIES
Basis of presentation:
The consolidated financial information of HF Financial Corp. (the Company) and its wholly-owned subsidiaries included in this Quarterly Report on Form 10-Q is unaudited. However, in the opinion of management, adjustments (consisting of normal recurring adjustments) necessary for a fair presentation for the interim periods have been included. Results for any interim period are not necessarily indicative of results to be expected for the fiscal year. Interim consolidated financial statements and the notes thereto should be read in conjunction with the consolidated financial statements and notes thereto included in the Companys Annual Report on Form 10-K for the fiscal year ended June 30, 2008 (Fiscal 2008), filed with the Securities and Exchange Commission. The accounting and reporting policies of the Company and its subsidiaries conform to accounting principles generally accepted in the United States of America (GAAP) and to general practice within the industry.
The interim consolidated financial statements include the accounts of the Company, its wholly-owned subsidiaries, Home Federal Bank (the Bank), HF Financial Group, Inc. (HF Group) and HomeFirst Mortgage Corp. (the Mortgage Corp.), and the Banks wholly-owned subsidiaries, Mid America Capital Services, Inc. (Mid America Capital), Hometown Investment Services, Inc. (Hometown), Home Federal Securitization Corp. (HFSC), Mid-America Service Corporation and PMD, Inc. The interim consolidated financial statements reflect the deconsolidation of the wholly-owned subsidiary trusts of the Company: HF Financial Capital Trust III (Trust III), HF Financial Capital Trust IV (Trust IV), HF Financial Capital Trust V (Trust V) and HF Financial Capital Trust VI (Trust VI). See Note 10 of Notes to Consolidated Financial Statements. All intercompany balances and transactions have been eliminated in consolidation.
NOTE 2. REGULATORY CAPITAL
The following table sets forth the Banks compliance with its minimum capital requirements for a well-capitalized institution at March 31, 2009:
NOTE 3. EARNINGS PER COMMON SHARE
Basic earnings per common share is computed by dividing income available to common stockholders (the numerator) by the weighted-average number of common shares outstanding (the denominator) during the period. Shares issued during the period and shares reacquired during the period are weighted for the portion of the period they were outstanding. The weighted average number of basic common shares outstanding for the three months ended March 31, 2009 and 2008 was 4,024,335 and 3,960,315, respectively. The weighted average number of basic common shares outstanding for the nine months ended March 31, 2009 and 2008 was 4,000,456 and 3,976,414, respectively.
Dilutive earnings per common share is similar to the computation of basic earnings per common share except the denominator is increased to include the number of additional common shares that would have been outstanding if the dilutive options outstanding had been exercised. The weighted average number of common and dilutive potential common shares outstanding for the three months ended March 31, 2009 and 2008 was 4,034,659 and 4,014,770, respectively. The weighted average number of common and dilutive potential common shares outstanding for the nine months ended March 31, 2009 and 2008 was 4,025,426 and 4,035,416, respectively.
NOTE 4. INVESTMENTS IN SECURITIES
The amortized cost and fair values of investments in securities, all of which are classified as available for sale according to managements intent, are as follows
During the third quarter of Fiscal 2009, the Company early adopted FASB Staff Position(FSP) No. FAS 115-2, The Recognition and Presentation of Other-Than-Temporary Impairments, which changes the recognition and presentation of other-than-temporary impairments. Management has implemented a process to identify securities that could potentially have a credit impairment that is other than temporary. This process involves evaluation of the length of time and extent to which the fair value has been less than the amortized cost basis, review of available information regarding the financial position of the issuer, monitoring the rating of the security, cash flow projections, and the Companys intent to sell a security or whether it is more likely than not we will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity. To the extent we determine that a security is deemed to be other-than-temporarily impaired, an impairment loss is recognized.
For all securities that are considered temporarily impaired, the Company does not intend to sell these securities (has not made a decision to sell) and it is not more likely than not that the Company will be required to sell the security before recovery of its amortized cost, which may occur at maturity. The Company believes that it will collect all principal and interest due on all investments that have amortized cost in excess of fair value that are considered only temporarily impaired.
The following table presents the fair value and age of gross unrealized losses by investment category at March 31, 2009, in accordance with FSP FAS 115-2:
The unrealized losses reported for municipal bonds relate to 21 municipal general obligation or revenue bonds. The unrealized losses are primarily attributed to changes in credit spreads or market interest rate increases since the securities were originally acquired, rather than due to credit or other causes. Management does not believe any individual unrealized losses as of March 31, 2009, represent an other-than-temporary impairment for these investments. The Company does not have the intent to sell these securities (has not made a decision to sell) and has assessed that it is not more likely than not that the Company will be required to sell these securities before anticipated recovery of fair value.
The unrealized losses reported for residential mortgage-backed securities relate to 68 securities issued by the Federal National Mortgage Association (FNMA), the Government National Mortgage Association (GNMA), or the Federal Home Loan Mortgage Corporation (FHLMC). These unrealized losses are primarily attributable to changes in interest rates and the contractual cash flows of those investments which are guaranteed by an agency of the U.S. government. Residential mortgage-backed securities also include one private-label collateralized mortgage obligation with an amortized amount of $2.1 million, which has maintained its AAA rating as of March 31, 2009. Management does not believe any of these unrealized losses as of March 31, 2009, represent an other-than-temporary impairment for those investments. The Company does not have the intent to sell these securities (has not made a decision to sell) and has assessed that it is not more likely than not that the Company will be required to sell these securities before anticipated recovery of fair value.
The unrealized losses reported for trust preferred securities are attributable to six rated pooled securities. Rating downgrades regarding these investments have occurred during the current fiscal year placing each in a below investment grade rating. The securities have an amortized cost of $3.7 million rated B3, $2.5 million rated Caa1, and $5.7 million rated Ca. The market for these securities is currently inactive. The Company performed assessments of available information for each security during the third quarter ended March 31, 2009, and also considered factors such as overall deal structure and its position within the structure, quality of underlying issuers within each pool, defaults and recoveries, loss severities and prepayments. Based upon scenarios developed in regard to this information, management compared the present value of best estimates of cash flows expected to be collected from each security at the securitys effective interest rate to the amortized cost basis of each security. Management determined that three securities exhibited an other-than-temporary impairment. The difference between the present value of cash flows and the amortized cost basis for each of the three securities was recorded as credit loss impairment and recognized in earnings in the amount of $361,000. The amortized cost basis of the three securities was reduced by the amount of credit loss. The remaining impairment amount related to other factors of $2.8 million was recognized in other comprehensive income, net of applicable taxes. The unrealized losses on these trust preferred securities can primarily be attributed to changes in credit spreads since the securities were acquired. See Note 6 Fair Value Measurement for additional information related to the determination of fair value. The Company does not have the intent to sell these six securities (has not made a decision to sell) and has assessed that it is not more likely than not that the Company will be required to sell these securities before anticipated recovery of fair value. Within this segment, five securities with amortized cost of $9.9 million are quarterly variable-rate securities tied to 3-month LIBOR.
The following table presents the amounts recognized in the Consolidated Statements of Income for other-than-temporary impairments related to credit losses:
NOTE 5. SEGMENT REPORTING
Operating segments are defined as components of an enterprise for which separate financial information is available that is evaluated regularly by the chief operating decision makers in deciding how to allocate resources and in assessing performance. The Companys reportable segments are banking (including leasing activities) and other. The banking segment is conducted through the Bank and Mid America Capital and the other segment is composed of smaller non-reportable segments, the Company and inter-segment eliminations.
The management approach is used as the conceptual basis for identifying reportable segments and is based on the way that management organizes the segments within the enterprise for making operating decisions, allocating resources and monitoring performance, which is primarily based on products.
NOTE 6. FAIR VALUE MEASUREMENT
Effective July 1, 2008, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements. In accordance with the FASB Staff Position 157-2, Effective Date of SFAS No. 157, the Company has not applied the provisions of this statement to non-financial assets and liabilities. The Company early adopted FASB Staff Position 157-4, dated April 9, 2009, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly, during the third quarter of Fiscal 2009 which amended FASB Staff Postion 157-3, dated October 10, 2008, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active. SFAS 157 defines fair value and establishes a consistent framework for measuring fair value under GAAP and expands disclosure requirements for fair value measurements. Fair values represent the estimated price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date under current market conditions. The standard describes three levels of inputs that may be used to measure fair value:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a companys own assumptions about the assumptions that market participants would use in pricing an asset or liability. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
The table below presents the Companys balances of financial instruments measured at fair value on a recurring basis by level within the hierarchy at March 31, 2009:
The Company used the following methods and significant assumptions to estimate the fair value of items:
Securities available for sale: The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs), or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities relationship to other benchmark quoted securities (Level 2 inputs). The Company outsources this valuation primarily to a third party provider which utilizes several sources for valuing fixed-income securities. Sources utilized by the third party provider include pricing models that vary based by asset class and include available trade, bid, and other market information. This methodology includes broker quotes, proprietary models, descriptive terms and conditions databases, as well as extensive quality control programs. As further valuation sources, the third party provider uses a proprietary valuation model and capital markets trading staff. This proprietary valuation model is used for valuing municipal securities. This model includes a separate curve structure for Bank-Qualified municipal securities. The grouping of municipal securities is further broken down according to insurer, credit support, state of issuance, and rating to incorporate additional spreads and municipal curves.
The securities shown in Level 3 relate to trust preferred securities which are currently part of an inactive market. The inactivity was evidenced first by a significant widening of the bid-ask spread in the brokered markets in which these securities trade, and then by a significant decrease in the volume of trades relative to historical levels. The new issue market for pooled trust preferred securities have been issued since 2007. Given conditions in the debt markets and the absence of observable orderly transactions in the secondary and new issue markets, management determined that an income valuation approach technique (present value technique) that maximizes the use of relevant observable inputs and minimizes the use of unobservable inputs will be equally or more representative of fair value than the market approach valuation technique.
During the third quarter of Fiscal 2009, the Company modified the valuation technique used to measure fair value of trust preferred securities. In addition to the previous valuation approach utilizing trust preferred security valuations prepared by an independent third party, management derived valuations under various cash flow scenarios. The results of the third party valuation and the valuation derived by management were weighted each at 50% and used to measure fair value for each security. If the Company had not modified the valuation technique, other comprehensive income would have decreased by an additional $1.3 million, net of taxes. The approaches to determining fair value included the following factors:
1. The credit quality of the collateral estimated using average probability of default values.
2. The loss given default was assumed to be 95% (i.e. a 5% recovery) for third party valuations. Management utilized a range of loss given default based upon a review of the financial condition of underlying issuers in each pool.
3. The cash flows were forecasted for the underlying collateral and applied to each tranche to determine the resulting distribution among the securities.
4. The best estimates of expected cash flows were discounted to calculate the present value of the security. Management considered a range of discount rates based upon three factors: (1) a risk-free rate based on the rate of return on government debt securities, (2) the credit spread for AA or A Bank Corporate Debt Indices, and (3) a liquidity or risk premium of 200 basis points.
5. The calculations were modeled in several thousand scenarios and the average price was used for the third party valuations. Management utilized an average price derived from various cash flow scenarios.
Interest Rate Swaps: The fair values of interest rate swaps relate to cash flow hedges of trust preferred debt securities issued by the Company. The fair value is estimated by a third party using inputs that are observable or that can be corroborated by observable market data and, therefore, are classified within Level 2 of the valuation hierarchy. These fair value estimations include primarily market observable inputs, such as yield curves, and include the value associated with counterparty credit risk.
The following table reconciles the beginning and ending balances of the assets or liabilities of the Company that are measured at fair value on a recurring basis using significant unobservable inputs.
The table below presents the Companys balances of financial instruments measured at fair value on a nonrecurring basis by level within the hierarchy at March 31, 2009:
Impaired loans are evaluated and valued at the time the loan is identified as impaired, at the lower of cost or market value. Market value is measured based on the value of the collateral securing these loans. Collateral is primarily real estate and its fair value is generally determined based on real estate appraisals or other evaluations by qualified professionals. Impaired loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the same factors identified above. Impaired loans that are collateral dependent are written down to their fair value, less costs to sell, through the establishment of specific reserves or by recording charge-offs when the carrying value exceeds the fair value. Valuation techniques consistent with the market approach, income approach, and/or cost approach were used to measure fair value and primarily included observable inputs such as recent sales of similar assets or observable market data for operational or carrying costs.
NOTE 7. DEFINED BENEFIT PLAN
The Company has a noncontributory (cash balance) defined benefit pension plan covering all employees of the Company and its wholly-owned subsidiaries who have attained the age of 21 and have completed 1,000 hours of service in a plan year. The benefits are based on 6% of each eligible participants annual compensation, plus income earned in the accounts at a rate determined annually based on 30-year Treasury note rates. The Companys funding policy is to make the minimum annual required contribution plus such amounts as the Company may determine to be appropriate from time to time. The Company has adopted all plan provisions required by the Pension Protection Act of 2006. These provisions are effective with the plan year beginning July 1, 2008. Information relative to the components of net periodic benefit cost for the Companys defined benefit plan is presented below:
The Company previously disclosed in its consolidated financial statements for Fiscal 2008, which are included in Part II, Item 8 Financial Statements and Supplementary Data of the Companys Annual Report on Form 10-K for Fiscal 2008, that it contributed $532,000 to fund its qualified pension plan. During the second quarter of the fiscal year ending June 30, 2009 (Fiscal 2009), the Company made contributions of $2.35 million to fund its qualified pension plan. The Company anticipates no additional contributions for Fiscal 2009.
NOTE 8. SELF-INSURED HEALTHCARE PLAN
The Company has had a self-insured health plan for its employees, subject to certain limits, since January 1994. The Bank is named the plan administrator for this plan and has retained the services of an independent third party administrator to process claims and handle other duties for this plan. The third party administrator does not assume liability for benefits payable under this plan.
The Company assumes the responsibility for funding the plan benefits out of general assets; however, employees cover some of the costs of covered benefits through contributions, deductibles, co-pays and participation amounts. An employee is eligible for coverage upon completion of 30 calendar days of regular employment. The plan, which is on a calendar year basis, is intended to comply with, and be governed by, the Employee Retirement Income Security Act of 1974, as amended.
The accrual estimate for pending and incurred but not reported health claims is based upon a pending claims lag report provided by a third party provider. Although management believes that it uses the best information available to determine the accrual, unforeseen health claims could result in adjustments and net earnings being significantly affected if circumstances differ substantially from the assumptions used in estimating the accrual. Net healthcare costs are inclusive of health claims expenses and administration fees offset by stop loss and employee reimbursement.
Reported below is a summary of net healthcare costs by quarter during Fiscal 2009 and Fiscal 2008: