Rochester bank pays price for bad bets

Just about anything that could go wrong did go wrong for Home Federal Savings Bank -- and seemingly all at once.

Tom Petters' Ponzi scheme collapsed, costing the bank millions it had loaned to an investor. Residential and commercial real estate values plunged. The ethanol boom ran out of gas, right after the company made big loans to two plants.

This confluence of disasters lent a ripped-from-the-headlines quality to the financial statements of the 76-year-old Rochester-based bank, which is owned by publicly traded HMN Financial. It also forced HMN to latch on to $26 million from the U.S. Treasury's Troubled Asset Relief Program (TARP) in 2008. It was the third-largest amount granted to a Minnesota financial institution, behind only U.S. Bancorp and TCF Financial.

It was expensive money. The preferred shares have a dividend yield of 5 percent, far above the market rates HMN is able to get on its loans. Still, HMN faithfully made $2.5 million worth of quarterly dividend payments.

But last week, the bank holding company said it lost $9.9 million in the final three months of 2010. To conserve cash, it will defer a $325,000 TARP dividend payment due in February.

The Treasury permits TARP recipients to defer payments, and HMN certainly isn't the first to do so. Still, the news is further evidence that, even as the nation's biggest banks report healthy profits and put more distance between themselves and the financial crisis of 2008, the outlook for the nation's smaller community banks remains mixed. Their fortunes depend heavily on a rebound in their local economy, including real estate values, and the wait is proving interminable for all community banks, and fatal for some.

Will that ultimately be the case for HMN? Bradley Krehbiel, its president, declined to discuss the decision to defer its TARP repayment, or any other topic for that matter. "We put out a press release last week, and I'm going to leave it at that," he said.

Neither the FDIC nor Foresight discloses which institutions are on their respective lists, but it's a safe bet that HMN is there. A year ago, HMN entered into an "informal written agreement" with its primary regulator, the Office of Thrift Supervision, that required it to develop a three-year capital and business plan.

Since then, HMN has gotten far more aggressive at recognizing and writing down problem loans.

Nonperforming assets rose more than 9 percent in 2010, to $84.5 million, including a 50 percent jump in problem commercial loans. Its net loss more than doubled to $29 million from $10.8 million a year earlier.

HMN's mistakes were the same made by seemingly every other lender and investor in the United States between 2004 and 2008: It acted as though real estate values could go only up. It believed so fervently in real estate that it bought $60 million worth of mortgage-backed securities, which it ultimately was forced to sell for a $24 million loss.

The real estate woes were compounded by untimely investments in ethanol plants in Indiana and Nebraska, at least one of which went into bankruptcy. Then there was the fallout from the collapse of Petters' Ponzi scheme in September 2008.

HMN's woes have fallen heavily on shareholders, and that includes its employees, who own more than 10 percent of the company's stock. Dividend payments, which totaled $6 million in 2010, have been suspended. At Tuesday's close of $2.44, HMN's shares are more than 50 percent below the 52-week high, and a long climb from the $35 range last seen in June 2007.