Heartland Financial USA(HTLF) - 2018 Q4 - Annual Report

Part I Business Heartland Financial USA, Inc. operates as a multi-bank holding company with 11 community banks across 12 states, focusing on organic growth and strategic acquisitions while centralizing operations Financial Snapshot as of December 31, 2018 | Metric | Value (in billions) | | :--- | :--- | | Total Assets | $11.41 | | Total Loans Held to Maturity | $7.41 | | Total Deposits | $9.40 | | Total Stockholders' Equity | $1.33 | - Heartland operates through 11 independently chartered community banks with a total of 119 banking locations across Iowa, Illinois, Wisconsin, New Mexico, Arizona, Montana, Colorado, Minnesota, Kansas, Missouri, Texas, and California[15] - The company's operating philosophy is to maximize the benefits of a community banking model by creating strong local ties, providing extensive banking services, and centralizing back-office operations for efficiency[23][26] - In 2018, Heartland decided to exit the consumer finance business by selling the loan portfolios of Citizens Finance Co. and Citizens Finance of Illinois Co., a transaction that closed in January 2019[16][60] - The company outsourced its legacy residential real estate mortgage lending business in the fourth quarter of 2018, eliminating the retail mortgage banking services segment. PrimeWest Mortgage Corporation, acquired with First Bank & Trust, continues to originate mortgages[34][51] General Description Heartland Financial USA, Inc. operates as a multi-bank holding company, providing community banking services, wealth management, and insurance, with a strategy focused on organic growth and strategic acquisitions - Heartland's business model focuses on a customer-centric community banking approach with local leadership, while leveraging centralized back-office functions for efficiency in areas like loan processing, risk analysis, and IT[23][26] - The company's growth strategy involves both organic growth and acquisitions, with a focus on markets in the Midwestern and Western U.S. The goal is to reach at least $1 billion in assets in each state of operation[25][27][28] - In 2018, Heartland acquired Signature Bank (merged into Minnesota Bank & Trust) and First Bank & Trust (Texas)[30] - A definitive merger agreement was signed on January 16, 2019, to acquire Blue Valley Ban Corp. for approximately $93.9 million, which is expected to close in Q2 2019[32] Market Areas Heartland maintains a geographically diversified presence across Midwestern and Western states, operating 119 locations with total deposits of approximately $9.4 billion as of year-end 2018 Total Deposits by Bank (as of Dec 31, 2018) | Bank Name | State | Total Bank Deposits ($ thousands) | | :--- | :--- | :--- | | Dubuque Bank and Trust Company | IA | $1,214,541 | | Illinois Bank & Trust | IL | $715,482 | | Wisconsin Bank & Trust | WI | $927,821 | | New Mexico Bank & Trust | NM | $1,307,464 | | Arizona Bank & Trust | AZ | $574,762 | | Rocky Mountain Bank | MT | $424,700 | | Citywide Banks | CO | $1,848,373 | | Minnesota Bank & Trust | MN | $560,399 | | Morrill & Janes Bank and Trust Company | KS | $489,471 | | Premier Valley Bank | CA | $639,194 | | First Bank & Trust | TX | $861,629 | - The company's consumer finance subsidiary, Citizens Finance, had 14 offices across Iowa, Wisconsin, and Illinois. These offices were closed in February 2019 following the sale of the loan portfolios[60] Competition Heartland operates in a highly competitive financial services industry, competing on service, product, convenience, and technology, with regulatory changes impacting the M&A landscape - The company competes with a wide array of financial service providers, including commercial banks, credit unions, thrifts, stock brokers, mutual fund companies, and online providers[62] - The Economic Growth Act of 2018 raised the asset threshold for certain enhanced prudential standards from $50 billion to $100 billion, which could impact merger and acquisition activity by removing a deterrent for institutions approaching the previous threshold[63] Employees As of December 31, 2018, Heartland and its subsidiaries employed 2,045 full-time equivalent employees, none of whom are unionized - At year-end 2018, the company had 2,045 full-time equivalent employees[66] Internet Access Heartland provides free public access to its SEC filings, including Form 10-K, 10-Q, and 8-K reports, via its investor relations website Supervision and Regulation Heartland and its banks are extensively regulated by federal and state authorities, with new requirements like the Durbin Amendment impacting operations after crossing the $10 billion asset threshold - The Economic Growth, Regulatory Relief and Consumer Protection Act of 2018 raised the asset threshold for company-run stress tests from $10 billion to $100 billion, exempting Heartland from this requirement[74][91] - As a bank holding company with over $10 billion in assets, Heartland will be subject to the Durbin Amendment starting July 1, 2019. This is expected to reduce debit card income by approximately $6.0 million on an annualized basis[140] - Heartland and its banks are subject to Basel III capital requirements. As of December 31, 2018, all were considered "well-capitalized" under these rules[86][89] - The Banks are subject to the Bank Secrecy Act and PATRIOT Act, which require robust anti-money laundering programs. A new rule effective May 2018 requires identification and verification of beneficial owners of legal entity customers, increasing compliance costs[111] Risk Factors Heartland faces diverse risks including economic downturns, interest rate fluctuations, credit concentrations in commercial and agricultural loans, operational and cybersecurity threats, and significant regulatory changes like CECL and Durbin Amendment impacts - A significant portion of the loan portfolio is concentrated in commercial loans ($5.73 billion, or 77% of total loans) and commercial real estate loans ($3.71 billion, or 65% of commercial loans), which carry greater underwriting complexity and risk[152][153] - The upcoming implementation of the Current Expected Credit Loss (CECL) accounting standard is expected to significantly change how credit losses are recognized and may require a material increase in the allowance for loan losses[188] - As a result of exceeding $10 billion in assets, Heartland is subject to additional regulatory requirements, including the Durbin Amendment, which will reduce interchange income[204][206] - Goodwill from acquisitions totaled $391.7 million, representing approximately 30% of stockholders' equity, which is subject to impairment tests that could negatively impact earnings[187] Unresolved Staff Comments As of December 31, 2018, Heartland Financial USA, Inc. had no unresolved comments from the Securities and Exchange Commission staff Properties This section lists Heartland's principal operating facilities as of December 31, 2018, detailing main office addresses, ownership status, and total locations for the parent company and its 11 subsidiary banks Principal Operating Facilities Overview (as of Dec 31, 2018) | Name | Main Facility Address | Owned or Leased | Number of Locations | | :--- | :--- | :--- | :--- | | Heartland Financial USA, Inc. | Dubuque, IA | Owned | 3 | | Dubuque Bank and Trust Company | Dubuque, IA | Owned | 10 | | Illinois Bank & Trust | Rockford, IL | Owned | 10 | | Wisconsin Bank & Trust | Madison, WI | Owned | 17 | | New Mexico Bank & Trust | Albuquerque, NM | Leased | 17 | | Arizona Bank & Trust | Phoenix, AZ | Owned | 7 | | Rocky Mountain Bank | Billings, MT | Owned | 9 | | Citywide Banks | Denver, CO | Leased | 25 | | Minnesota Bank & Trust | Edina, MN | Leased | 2 | | Morrill & Janes Bank and Trust Company | Merriam, KS | Owned | 9 | | Premier Valley Bank | Fresno, CA | Leased | 8 | | First Bank & Trust | Lubbock, TX | Owned | 15 | Legal Proceedings As of December 31, 2018, Heartland and its subsidiaries were not party to any material pending legal proceedings, with routine litigation not expected to materially impact financial results Mine Safety Disclosures This item is not applicable to Heartland Financial USA, Inc. Executive Officers This section lists Heartland's executive officers as of December 31, 2018, detailing their names, ages, positions, and professional biographies - Lynn B. Fuller served as Executive Operating Chairman, having been CEO from 1999 to 2018[218] - Bruce K. Lee was named Chief Executive Officer in 2018, having joined as President in 2015[219] - Bryan R. McKeag served as Executive Vice President and Chief Financial Officer[221] Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Heartland's common stock trades on the Nasdaq Global Select Market under "HTLF", with no share repurchases in 2018, and its five-year performance is compared against market indices - Heartland's common stock is listed on the Nasdaq Global Select Market under the ticker symbol "HTLF"[230] - The company made no purchases of its common stock during the year ended December 31, 2018[231] Five-Year Cumulative Total Return Comparison | Period Ending | Heartland Financial USA, Inc. | Nasdaq Composite Index | SNL U.S. Bank NASDAQ Index | SNL Bank and Thrift Index | | :--- | :--- | :--- | :--- | :--- | | 12/31/2013 | $100.00 | $100.00 | $100.00 | $100.00 | | 12/31/2014 | $95.67 | $114.75 | $103.57 | $111.63 | | 12/31/2015 | $112.17 | $122.74 | $111.80 | $113.89 | | 12/31/2016 | $174.05 | $133.62 | $155.02 | $143.78 | | 12/31/2017 | $196.62 | $173.22 | $163.20 | $169.07 | | 12/31/2018 | $162.83 | $168.30 | $137.56 | $140.45 | Selected Financial Data This section provides a five-year summary of Heartland's key financial data from 2014 to 2018, highlighting significant growth in assets, loans, and deposits, largely driven by acquisitions, and includes non-GAAP reconciliations Selected Financial Data (2016-2018) | (in thousands, except per share data) | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Income Statement | | | | | Net Interest Income | $413,954 | $330,308 | $294,666 | | Net Income Available to Common Stockholders | $116,959 | $75,226 | $80,108 | | Net Income – Diluted (per share) | $3.52 | $2.65 | $3.22 | | Balance Sheet (Year-End) | | | | | Total Assets | $11,408,006 | $9,810,739 | $8,247,079 | | Total Loans Receivable | $7,407,697 | $6,391,464 | $5,351,719 | | Total Deposits | $9,396,429 | $8,146,909 | $6,847,411 | | Common Stockholders' Equity | $1,325,175 | $990,519 | $739,559 | | Performance Ratios | | | | | Return on Average Total Assets | 1.09% | 0.83% | 0.98% | | Return on Average Common Equity | 9.93% | 8.63% | 11.80% | | Net Interest Margin (GAAP) | 4.26% | 4.04% | 3.95% | | Efficiency Ratio, FTE (non-GAAP) | 63.54% | 65.40% | 66.25% | - The report provides reconciliations for non-GAAP measures, including Tangible Book Value Per Common Share, Tangible Common Equity Ratio, Return on Average Tangible Common Equity, Net Interest Margin (FTE), and the Efficiency Ratio (FTE)[237][242][244] Management's Discussion and Analysis of Financial Condition and Results of Operations Management's discussion analyzes Heartland's 2018 financial performance, highlighting significant growth from acquisitions, a 55% increase in net income to $117.0 million, improved net interest margin, and strategic initiatives, while anticipating future regulatory impacts - Net income for 2018 was $117.0 million ($3.52 per diluted share), a 55% increase from $75.3 million ($2.65 per diluted share) in 2017. The increase was driven by acquisitions and a lower effective tax rate[262] - Total assets grew 16% to $11.41 billion at year-end 2018, primarily due to the acquisitions of Signature Bancshares, Inc. and First Bank Lubbock Bancshares, Inc.[265] - Net interest income increased 25% to $414.0 million in 2018, with net interest margin improving to 4.26% from 4.04% in 2017, aided by purchase accounting accretion[285][292] - The efficiency ratio (FTE) improved to 63.54% in 2018 from 65.40% in 2017, reflecting management's focus on cost control amid growth[331] - In January 2019, Heartland announced a definitive agreement to acquire Blue Valley Ban Corp., which had approximately $715.1 million in assets as of December 31, 2018[282] Quantitative and Qualitative Disclosures About Market Risk Heartland's primary market risk is interest rate risk, managed through sensitivity analysis showing a 4.31% increase in net interest income from a 200 basis point rate hike and a 2.67% decrease from a 100 basis point rate drop over 12 months, with derivatives used for hedging Net Interest Margin Sensitivity Analysis (as of Dec 31, 2018) | Interest Rate Scenario | Year 1 % Change From Base | Year 2 % Change From Base | | :--- | :--- | :--- | | Down 100 Basis Points | (2.67)% | (5.72)% | | Up 200 Basis Points | 4.31% | 11.08% | - The company uses derivative financial instruments, including interest rate swaps and forward commitments, to manage interest rate risk and hedge exposures from its mortgage banking activities[432][433] Financial Statements and Supplementary Data This section contains Heartland's complete audited consolidated financial statements for 2018, including balance sheets, income statements, and cash flows, with detailed notes on accounting policies, acquisitions, loans, and capital, along with KPMG LLP's unqualified audit opinion Consolidated Balance Sheets The Consolidated Balance Sheets show Heartland's total assets grew to $11.41 billion in 2018 from $9.81 billion in 2017, driven by increased loans and goodwill from acquisitions, with deposits rising to $9.40 billion and equity to $1.33 billion Consolidated Balance Sheet Highlights (in thousands) | | Dec 31, 2018 | Dec 31, 2017 | | :--- | :--- | :--- | | Total Assets | $11,408,006 | $9,810,739 | | Loans Receivable, Net | $7,345,734 | $6,335,778 | | Securities | $2,715,388 | $2,492,866 | | Goodwill | $391,668 | $236,615 | | Total Liabilities | $10,082,831 | $8,819,282 | | Total Deposits | $9,396,429 | $8,146,909 | | Total Stockholders' Equity | $1,325,175 | $991,457 | Consolidated Statements of Income The Consolidated Statements of Income show Heartland's 2018 net interest income at $414.0 million and noninterest income at $109.2 million, resulting in a net income of $117.0 million, a significant increase from $75.3 million in 2017 Consolidated Income Statement Highlights (in thousands) | | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Net Interest Income | $413,954 | $330,308 | $294,666 | | Provision for Loan Losses | $24,013 | $15,563 | $11,694 | | Noninterest Income | $109,160 | $102,022 | $113,601 | | Noninterest Expenses | $353,888 | $297,675 | $279,668 | | Net Income | $116,998 | $75,272 | $80,349 | | Earnings Per Share - Diluted | $3.52 | $2.65 | $3.22 | Note 2: Acquisitions This note details Heartland's 2018 acquisitions of Signature Bancshares for $61.4 million and First Bank Lubbock Bancshares for $189.9 million, which generated significant goodwill, and also notes the pending 2019 acquisition of Blue Valley Ban Corp. for $93.9 million - On February 23, 2018, Heartland acquired Signature Bancshares, Inc. for ~$61.4 million, adding assets of $427.1 million[510] - On May 18, 2018, Heartland acquired First Bank Lubbock Bancshares, Inc. for ~$189.9 million, adding assets of $1.12 billion and recognizing $121.4 million in goodwill[511][512] - On January 16, 2019, Heartland entered into a definitive agreement to acquire Blue Valley Ban Corp. for approximately $93.9 million in stock[509] Note 5: Loans This note details Heartland's loan portfolio, totaling $7.41 billion at year-end 2018, with 77% concentrated in commercial and commercial real estate loans, and nonaccrual loans at $71.9 million (0.98% of total loans) Loan Portfolio Composition (Gross, in thousands) | Loan Category | Dec 31, 2018 | % of Total | Dec 31, 2017 | % of Total | | :--- | :--- | :--- | :--- | :--- | | Commercial | $2,020,231 | 27.3% | $1,646,606 | 25.8% | | Commercial Real Estate | $3,711,481 | 50.1% | $3,163,269 | 49.5% | | Agricultural & Ag Real Estate | $565,408 | 7.6% | $511,588 | 8.0% | | Residential Mortgage | $673,603 | 9.1% | $624,279 | 9.8% | | Consumer | $440,158 | 5.9% | $447,484 | 7.0% | | Total Gross Loans | $7,410,881 | 100.0% | $6,393,226 | 100.0% | Asset Quality Indicators | Metric | Dec 31, 2018 | Dec 31, 2017 | | :--- | :--- | :--- | | Total Nonaccrual Loans | $71,943 thousand | $62,581 thousand | | Nonperforming Loans to Total Loans | 0.98% | 0.99% | | Loans 30-89 Days Past Due to Total Loans | 0.21% | 0.27% | Note 6: Allowance for Loan Losses This note details the allowance for loan losses (ALL), which increased to $62.0 million at year-end 2018, with a $24.0 million provision and $17.7 million in net charge-offs (0.25% of average loans) Allowance for Loan Losses Activity (in thousands) | | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Beginning Balance | $55,686 | $54,324 | $48,685 | | Provision for Loan Losses | $24,013 | $15,563 | $11,694 | | Charge-offs | ($21,285) | ($17,871) | ($11,394) | | Recoveries | $3,549 | $3,670 | $5,339 | | Ending Balance | $61,963 | $55,686 | $54,324 | | Net Charge-offs to Average Loans | 0.25% | 0.24% | 0.11% | Note 12: Derivative Financial Instruments Heartland uses derivative financial instruments, primarily interest rate swaps, as cash flow and fair value hedges to manage interest rate risk, including converting variable-rate funding to fixed and fixed-rate loans to floating, with customer swaps totaling $211.2 million at year-end 2018 - Heartland uses interest rate swaps as cash flow hedges to effectively convert variable-rate subordinated debentures (trust preferred securities) to fixed-rate debt[607] - The company uses fair value hedges to convert certain long-term fixed-rate loans to floating rates[613] - For mortgage banking, Heartland uses interest rate lock commitments and forward commitments to hedge interest rate risk on loans held for sale. These are not designated for hedge accounting[620] - The notional amount of back-to-back loan swaps with customers increased to $211.2 million at year-end 2018 from $126.8 million in 2017[619] Note 19: Regulatory Capital Requirements and Restrictions on Subsidiary Dividends This note outlines Heartland's and its subsidiary banks' regulatory capital requirements under Basel III, confirming all entities were "well capitalized" as of December 31, 2018, with $311.3 million in retained earnings available for parent company dividends Consolidated Capital Ratios (as of Dec 31, 2018) | Ratio | Actual | Well Capitalized Requirement | | :--- | :--- | :--- | | Total Capital (to Risk-Weighted Assets) | 13.72% | 10.00% | | Tier 1 Capital (to Risk-Weighted Assets) | 12.16% | 8.00% | | Common Equity Tier 1 (to Risk-Weighted Assets) | 10.66% | 6.50% | | Tier 1 Capital (to Average Assets) | 9.73% | 5.00% | - As of December 31, 2018, the FDIC categorized each of the Heartland banks as well capitalized under the regulatory framework for prompt corrective action[667] - Approximately $311.3 million of retained earnings at the subsidiary banks was available for dividend payment to the parent company as of December 31, 2018, while maintaining well-capitalized status[671] Changes in and Disagreements with Accountants on Accounting and Financial Disclosure There were no changes in or disagreements with accountants on accounting and financial disclosure during the reporting period Controls and Procedures Management concluded that Heartland's disclosure controls and internal control over financial reporting were effective as of December 31, 2018, with the assessment excluding the recently acquired First Bank Lubbock Bancshares, Inc. - Management concluded that disclosure controls and procedures were effective as of December 31, 2018[745] - Management's assessment of internal control over financial reporting concluded that the controls were effective as of December 31, 2018[746] - The assessment of internal controls excluded the recently acquired First Bank Lubbock Bancshares, Inc., which represented 10% of total assets at year-end[747][753] Other Information There was no other information to report for this period Part III Directors, Executive Officers and Corporate Governance Information regarding directors, executive officers, and corporate governance is incorporated by reference from Heartland's 2019 Proxy Statement - Required information is incorporated by reference from the 2019 Proxy Statement[758] Executive Compensation Information regarding executive and director compensation is incorporated by reference from Heartland's 2019 Proxy Statement - Required information is incorporated by reference from the 2019 Proxy Statement[759] Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Information regarding security ownership of certain beneficial owners and management is incorporated by reference from Heartland's 2019 Proxy Statement, with a table detailing securities authorized for issuance under equity compensation plans Equity Compensation Plan Information (as of Dec 31, 2018) | Plan Category | Number of shares to be issued upon exercise of outstanding options, warrants and rights | Weighted-average exercise price of outstanding options, warrants and rights | Number of shares remaining available for future issuance under equity compensation plans | | :--- | :--- | :--- | :--- | | Equity compensation plans approved by stockholders | 266,995 | $ — | 882,745 | | Equity compensation plans not approved by stockholders | — | $ — | — | | Total | 266,995 | $ — | 882,745 | Certain Relationships and Related Transactions, and Director Independence Information regarding related person transactions and director independence is incorporated by reference from Heartland's 2019 Proxy Statement - Required information is incorporated by reference from the 2019 Proxy Statement[763] Principal Accountant Fees and Services Information regarding principal accountant fees and services is incorporated by reference from Heartland's 2019 Proxy Statement - Required information is incorporated by reference from the 2019 Proxy Statement[764] Part IV Exhibits and Financial Statement Schedules This section lists the documents filed as part of the Annual Report on Form 10-K, confirming consolidated financial statements are in Item 8 and providing a detailed index of all exhibits Form 10-K Summary None provided