SecProbe.io

CORRESP
1
filename1.htm

corresp

December 21, 2010

Division of Corporation Finance

Securities and Exchange Commission

100 F Street, N.E.

Washington, DC 20549

    Attn:

    Mr. Amit Pande

Accounting Branch Chief

    Re:

    Hawthorn Bancshares, Inc.

Form 10-K for the Fiscal Year Ended December 31,

2009, Filed March 15, 2010

Forms 10-Q for Fiscal Quarters Ended March 31, 2010,

June 30, 2010 and September 30, 2010

SEC File No. 000-23636

Dear Mr. Pande:

          We are writing in response to your letter dated November 22, 2010, with respect to the
above-referenced reports filed by Hawthorn Bancshares, Inc. (the “Company”). Our numbered
responses to your comments correspond to the numbered comments in your letter.

          In responding to your comments, we acknowledge that:

    •

    the Company is responsible for the adequacy and accuracy of the disclosure
in our filing with the Commission;

    •

    staff comments or changes to disclosure in our filing made in response to
staff comments do not foreclose the Commission from taking any action with
respect to the filing; and

    •

    the Company may not assert staff comments as a defense in any proceeding
initiated by the Commission or any person under the federal securities laws of
the United States.

Hawthorn Bancshares | 300 S.W. Longview Blvd. | Lee’s Summit, MO 64081-2101 | T 816.268.6318 | F 816.268.6318 | NASDAQ:HWBK

Comments

    Comment 1

     We note your disclosure on page 34 and in your Form 10-Q for the period ended
September 30, 2010 related to the three components of your allowance for loan losses. As it
relates to your expected loss component, please tell us in more detail how this component is
determined, and if it is determined based upon inherent losses in your portfolio as of your
balance sheet date consider revising the disclosures in your future filings accordingly.

    Prior to 2010, the historical loss percentages for non-impaired loans was based
on a blend between industry regulatory standards and our Company’s five year
loss experience. During 2010, our Company refined the calculation of the
expected loss component for non-impaired loans, principally through further
segmentation of the portfolio and more granular loan loss experience data
reflective of the inherent losses in the portfolio. Our historical loss
experience is now segmented by major call report codes utilizing the previous
nine quarters to analyze future expected net charge-offs over the next twelve
months. Management believes this improved analysis has given a higher degree of
precision to the adequacy of our allowance for loan losses.

    The expected loss component of our allowance for loan losses at September 30,
2010 was determined by calculating historical loss percentages for our major
categories of loans, as disclosed on page 15, over the previous nine quarters.
Management determined that the previous nine quarters were reflective of the
loss characteristics of our Company’s loan portfolio during the recent two year
economic downturn. These historical loss percentages were then applied to
determine an expected loss requirement for the current portfolio which equates
to the inherent incurred losses in the portfolio as of the balance sheet date.

    While management determines the overall adequacy of the allowance for loan
losses using the asset-specific calculation, the expected loss calculation, and
an unallocated portion to cover factors that may not be covered by the previous
two components, management considers the entire allowance for loan losses to be
available to cover losses in the entire loan portfolio.

    Comment 2

     We note your disclosure describing your methodology for measuring loans for
impairment and also your disclosure on page seven that you had approximately $34.7 million of
impaired loans with a specific valuation allowance of $7.8 million and $31.8 million of
impaired loans without a specific valuation allowances at September 30, 2010. As it relates
to these loans and taking into consideration your disclosure on page 32 regarding your active
approach to obtain current appraisals, please tell us and revise your future filings to
include the following enhanced disclosures:

    In future filings, as appropriate, we will include in our management discussion
and analysis disclosure consistent with the foregoing.

    •

    The approximate amount or percentage of impaired loans for which you relied
on current third party appraisals of the collateral to assist in

Division of Corporation Finance

Attn: Mr. Amit Pande

Page 4

    measuring impairment versus those for which current appraisals were not available;

    In accordance with the Financial Accounting Standards Board (FASB) ASC Topic
310, Accounting by Creditors for Impairment of a Loan, an analysis is prepared
for each impaired loan to determine the estimated amount of impairment. An
existing third party appraisal or an internal evaluation may be used to support
the current fair value of the impaired loan if the loan officer can document
that the existing estimate is still valid and/or can be adjusted as needed for
any current facts and circumstances such as knowledge of the subject property
type, geographic location, general market conditions and recent sales activity.
New appraisals are obtained on properties if the market has significantly
deteriorated since the date of the most recent appraisal, the property is going
into foreclosure, or to support a pending sale.

    Management considers a current appraisal one that is dated one year or less.
Impaired loans with current appraisals totaled $36,894,000, or 56%, of total
impaired loans as of September 30, 2010. Impaired loans with third party
appraisals dated over one year totaled $29,488,000, or 44%, of total impaired
loans. Such loans receive an internal evaluation and based on existing facts and
circumstances the loan officer does not believe an updated appraisal is
warranted.

    Management would not typically order a new third party appraisal to determine
impairment for loans of $500,000 or less. Impaired loans totaling less than
$500,000 at September 30, 2010, totaled $11,862,000. As mentioned above, for
loans without current appraisals, impairment is measured using an existing third
party appraisal and making appropriate adjustments to that value based upon our
knowledge of the subject property type, geographic location, general market
conditions and recent sales activity of similar properties.

    •

    The type(s) of appraisal typically received, such as “retail value” or
“as-is” value;

    For impairment calculation purposes, our Company receives “as is” appraisals
because in most instances we attempt to sell the property over a normal
marketing period. However, if it is our intention to dispose of the property
immediately upon acquiring it, then we would usually ask for a “liquidation”
value, which is typically lower than the “as is” appraisal value. A liquidation
value might help us to evaluate whether to liquidate a property at a lesser
value in order to avoid the cost and risk of carrying a property over a period
of time.

    •

    The typical timing surrounding the recognition of a collateral dependent
lending relationship and respective loans as nonperforming, when you order and
receive an appraisal, and the subsequent recognition of any

Division of Corporation Finance

Attn: Mr. Amit Pande

Page 5

    provision or related charge-off. In this regard, tell us if there have been any
significant time lapses during this process;

    Our Company determines that a loan is a collateral dependent loan if its
repayment is expected to be provided solely on the basis of the underlying
collateral.

    Our Company recognizes a collateral dependent loan as nonperforming when a
borrower is 90 days past due unless an earlier determination is made. A current
third party appraisal or internal evaluation is obtained or performed upon
recognition of the collateral dependent loan as being non-performing. Once the
fair value of the collateral dependent loan has been determined, any impaired
amount is typically charged off unless the loan has other income streams to
support repayment. For impaired loans which have other income streams to support
repayment, a specific reserve is established for the amount determined to be
impaired.

    Once a collateral dependent loan goes past due 90 days, management reviews the
credit relationship to determine if ordering a new third party appraisal is
warranted. If the independent valuation has not been received by a quarterly
regulatory reporting deadline, management utilizes the best information
available to determine fair value. If an impairment is calculated, such an
amount is included in determining the allowance for loan loss adequacy. Upon
receipt of the third party appraisal, subsequent adjustments are made to the
impairment calculations if necessary. To date there have been no significant
time lapses in this process.

    •

    In more detail, the procedures you perform to monitor these loans between
the receipt of an original appraisal and the updated appraisal;

    Management re-evaluates all credit exposures that have been specifically
provided for each quarter when evaluating the overall allowance for loan losses.
If management determines the market for an impaired loan has significantly
deteriorated from the date of the original appraisal, then an updated appraisal
would typically be obtained. As noted previously, management takes into
consideration facts and circumstances such as knowledge of the subject property
type, geographic location, general market conditions and recent sales activity.
As noted above, if the independent valuation has not been received by quarterly
regulatory reporting deadlines, management utilizes the best information
available to determine fair value. If an impairment is calculated, such an
amount is included in determining the allowance for loan loss adequacy. Upon
receipt of the third party appraisal, subsequent adjustments are made to the
impairment calculations if necessary.

    •

    Whether you have charged-off an amount different from what was determined to
be the fair value of the collateral as presented in the

Division of Corporation Finance

Attn: Mr. Amit Pande

Page 6

    appraisal for any period presented. If so please tell us the amount of the difference and corresponding reasons for the difference, as applicable;

    During the periods presented, there has not been any amounts charged-off
different than the impaired amount determined by the fair value of the
underlying collateral other than required adjustments to net realizable value
for net selling costs.

    •

    How you account for any partially charged-off loans subsequent to receiving
an updated appraisal. In this regard, specifically tell us your policies
regarding whether or not these loans return to performing or remain
non-performing status, in addition to whether or not any of the terms of the
original loans have been modified (e.g. loan extension, changes to interest
rates, etc);

    Once an updated appraisal is received on a collateral dependent loan, the
impaired amount is typically charged off and the balance remains in
non-performing status. Any interest received on a cash basis during the
non-accrual period is applied as a principal reduction of the loan balance. If
the loan has performed for a period of time, approximately 12 months, the loan
may be returned to accrual status at the loan’s current effective interest rate.

    For those loans which are modified or restructured, if such loan performs for a
reasonable period of time (generally 12 months or longer depending on the type
of loan) under the modified terms, our Company will place the loan back on
accrual status.

    •

    In the event that you do not use external appraisals to fair value the
underlying collateral for impaired loans or in cases where the appraisal has
not been updated to reflect current market conditions, please provide us with a
comprehensive response which discusses your process and procedures for
estimating the fair value of collateral for these loans; and

    Management uses independent appraisals as the basis for determining the fair
value of a collateral dependent loan. If based on existing facts and
circumstances the loan officer does not believe an updated appraisal is
warranted, then an internal evaluation of the existing appraisal would be
performed by an independent loan officer and adjustments made for factors that
have changed since the date of the original appraisal. These adjustments would
include changes in market conditions, recent sales activity of similar
properties, adjustments for an accepted contract price, or liquidation value.

    •

    For those loans you determined that no specific valuation allowance was
necessary, the substantive reasons to support this conclusion.

Division of Corporation Finance

Attn: Mr. Amit Pande

Page 7

    In accordance with FASB’s ASC Topic 310, Accounting by Creditors for Impairment
of a Loan, when the fair value of the collateral is greater than the recorded
investment in the loan, a specific valuation allowance is generally not
necessary. In some instances the net recorded investment in the impaired loan
was written down (charged-off) to a level where no allowance is required
leaving a net recorded investment in the loan that is supported by the
underlying collateral.

    Comment 3

     We note your disclosure on page 33 related to your troubled debt restructured
loans (TDR’s) and the fact that over 70% of TDR’s are still accruing as of September 30, 2010.
Please tell us and revise your future filings to clearly and comprehensively discuss your
nonaccrual policies for restructured loans. In your response and revised disclosure please
include the following:

    In accordance with FASB’s ASC Topic 310, Troubled Debt Restructurings by
Creditors, it is our Company’s policy to consider TDR status for any loans in
which concessions are made to our debtor for economic or legal reasons that we
would not otherwise consider. If a concession is made and the debtor is
experiencing financial difficulty, the modified loan is considered a TDR. Our
Company’s policy is once a loan has been classified as a TDR it remains a TDR for
the life of the loan. Our Company also includes all accruing and non-accruing
TDR’s in our impaired and non-performing asset totals.

    Of our Company’s accruing TDR’s at September 30, 2010, 70% of the balance is
represented by one credit. This credit had a LTV value of 83% and management
believes the excess collateral value was sufficient at September 30, 2010. In
addition, this loan was accruing and paying consistent with its contractual terms
when restructured. Management is currently evaluating the potential impact of the
proposed ASU for identifying troubled debt restructurings and continues to
strengthen controls for identifying TDR’s and determining specific reserve
allocations.

    •

    Clarify if you have different policies for different loan types (e.g. real
estate mortgage — commercial versus consumer);

    Our Company’s policy with regards to TDR’s is the same for all loan types except
for non-real estate installment loans to individuals. We typically do not modify
or restructure non-real estate installment loans to individuals.

    •

    How you determine if the borrower has demonstrated performance under the
previous terms and has shown the capacity to continue to perform under the
restructured terms;

    Management follows the same polices to determine the borrower’s capacity to
perform under previous or restructured loan terms by monitoring the

Division of Corporation Finance

Attn: Mr. Amit Pande

Page 8

    borrower’s ability to pay according to the terms of the loan and loan covenants. If the loan has been modified or restructured, norm