Heartland Financial USA(HTLF) - 2021 Q3 - Quarterly Report

Part I - Financial Information Item 1. Financial Statements This section presents the unaudited consolidated financial statements for Heartland Financial USA, Inc. (HTLF) as of September 30, 2021, and for the three and nine-month periods then ended It includes the Consolidated Balance Sheets, Statements of Income, Statements of Comprehensive Income, Statements of Cash Flows, Statements of Changes in Equity, and the accompanying notes which provide detailed explanations of accounting policies and financial data Consolidated Balance Sheets As of September 30, 2021, total assets grew to $19.00 billion, a 6% increase from $17.91 billion at year-end 2020 This growth was driven by increases in securities and deposits Total loans receivable, net, slightly decreased to $9.74 billion from $9.89 billion Total liabilities increased to $16.82 billion, primarily due to a 7% rise in total deposits to $16.02 billion Total stockholders' equity rose to $2.17 billion Consolidated Balance Sheet Highlights (in thousands) | Account | Sep 30, 2021 (Unaudited) | Dec 31, 2020 | | :--- | :--- | :--- | | Total Assets | $18,996,225 | $17,908,339 | | Cash and cash equivalents | $327,405 | $337,903 | | Securities | $7,535,290 | $6,216,814 | | Loans receivable, net | $9,737,374 | $9,891,445 | | Goodwill | $576,005 | $576,005 | | Total Liabilities | $16,823,973 | $15,829,108 | | Total deposits | $16,022,243 | $14,979,905 | | Total Stockholders' Equity | $2,172,252 | $2,079,231 | Consolidated Statements of Income For the third quarter of 2021, net income available to common stockholders was $53.9 million, or $1.27 per diluted share, an 18% increase from $45.5 million, or $1.23 per diluted share, in Q3 2020 The improvement was driven by a 16% increase in net interest income to $142.5 million and a significant provision benefit for credit losses of $4.5 million, compared to a $1.7 million provision expense in the prior-year quarter For the nine months ended September 30, 2021, net income available to common stockholders surged 72% to $164.3 million from $95.7 million year-over-year Income Statement Highlights (in thousands, except per share data) | Metric | Q3 2021 | Q3 2020 | Nine Months 2021 | Nine Months 2020 | | :--- | :--- | :--- | :--- | :--- | | Net Interest Income | $142,543 | $122,497 | $423,366 | $359,154 | | Provision (benefit) for credit losses | ($4,534) | $1,678 | ($12,262) | $49,994 | | Noninterest Income | $32,724 | $31,216 | $96,205 | $87,670 | | Noninterest Expenses | $110,627 | $90,396 | $316,426 | $271,694 | | Net Income | $55,924 | $47,958 | $170,343 | $98,129 | | Net Income Available to Common Stockholders | $53,911 | $45,521 | $164,305 | $95,692 | | Earnings Per Common Share - Diluted | $1.27 | $1.23 | $3.88 | $2.59 | Consolidated Statements of Cash Flows For the nine months ended September 30, 2021, net cash provided by operating activities was $232.9 million, a significant increase from $83.0 million in the same period of 2020 Net cash used in investing activities was $1.29 billion, primarily due to the purchase of securities Net cash provided by financing activities was $1.05 billion, driven by a net increase in demand and savings deposits Overall, cash and cash equivalents experienced a net decrease of $10.5 million during the period Cash Flow Summary for Nine Months Ended Sep 30 (in thousands) | Activity | 2021 | 2020 | | :--- | :--- | :--- | | Net Cash Provided by Operating Activities | $232,851 | $83,044 | | Net Cash Used by Investing Activities | ($1,291,359) | ($2,312,742) | | Net Cash Provided by Financing Activities | $1,048,010 | $2,182,619 | | Net Decrease in Cash and Cash Equivalents | ($10,498) | ($47,079) | Note 2: Acquisitions In December 2020, HTLF completed two key acquisitions Its subsidiary, Arizona Bank & Trust, acquired four Johnson Bank branches in Arizona, adding assets of $419.7 million and deposits of $415.5 million Additionally, HTLF acquired AIM Bancshares, Inc. and its subsidiary AimBank in Texas for approximately $264.5 million, which added $1.97 billion in assets and $1.67 billion in deposits The AimBank systems conversion was completed in February 2021 - Completed the acquisition of Johnson Bank's four Arizona branches, acquiring $419.7 million in assets and $415.5 million in deposits[23] - Completed the acquisition of AIM Bancshares, Inc. for approximately $264.5 million, adding $1.97 billion in assets and $1.67 billion in deposits The systems conversion was finished in February 2021[24] Note 3: Securities The total securities portfolio grew to $7.62 billion as of September 30, 2021, from $6.29 billion at year-end 2020 Securities available for sale, carried at a fair value of $7.45 billion, comprised the majority of the portfolio The portfolio is primarily composed of obligations of states and political subdivisions, and various mortgage-backed securities As of September 30, 2021, securities with a carrying value of $1.88 billion were pledged to secure deposits and borrowings Securities Portfolio Composition (in thousands) | Security Type | Fair Value (Sep 30, 2021) | Fair Value (Dec 31, 2020) | | :--- | :--- | :--- | | Total Debt Securities (Available for Sale) | $7,429,146 | $6,108,346 | | Obligations of states and political subdivisions | $1,823,465 | $1,635,227 | | Mortgage-backed securities - agency | $2,371,264 | $1,355,270 | | Mortgage-backed securities - non-agency | $1,627,903 | $1,449,116 | | Asset-backed securities | $877,646 | $1,069,266 | | Total Held to Maturity Securities | $95,010 | $100,041 | - As of September 30, 2021, securities with a carrying value of $1.88 billion were pledged to secure public and trust deposits and short-term borrowings, down from $2.12 billion at year-end 2020[28] - The allowance for credit losses on held-to-maturity securities was reduced to $0 at September 30, 2021, from $51,000 at December 31, 2020[36] Note 4: Loans Total loans held to maturity decreased by 2% to $9.85 billion at September 30, 2021, from $10.02 billion at year-end 2020 This was primarily due to a 57% reduction in Paycheck Protection Program (PPP) loans, which fell to $409.2 million Excluding PPP loans, the portfolio grew by 4% The largest segments are commercial and industrial loans (25.8%) and owner-occupied commercial real estate (21.7%) Credit quality showed improvement, with nonpass loans decreasing to 9.15% of total loans from 10.80% at year-end 2020 Loan Portfolio Composition (in thousands) | Loan Category | Sep 30, 2021 | Dec 31, 2020 | | :--- | :--- | :--- | | Commercial and industrial | $2,538,369 | $2,534,799 | | Paycheck Protection Program (PPP) | $409,247 | $957,785 | | Owner occupied commercial real estate | $2,135,227 | $1,776,406 | | Non-owner occupied commercial real estate | $2,020,487 | $1,921,481 | | Total loans receivable held to maturity | $9,854,907 | $10,023,051 | - Nonaccrual loans decreased to $82.4 million at Q3 2021 from $87.4 million at year-end 2020 Loans delinquent 30-89 days also fell significantly to 0.12% of total loans from 0.23%[55] - Nonpass loans (rated watch, substandard, doubtful, or loss) decreased to $901.4 million (9.15% of total loans) at Q3 2021, down from $1.08 billion (10.80% of total loans) at year-end 2020[53][249] Note 5: Allowance for Credit Losses The allowance for credit losses on loans decreased to $117.5 million at September 30, 2021, from $131.6 million at year-end 2020 This reduction was driven by a provision benefit of $10.9 million for the first nine months of 2021, reflecting improved economic forecasts and credit quality trends The allowance for unfunded commitments also decreased slightly to $14.0 million from $15.3 million over the same period Changes in Allowance for Credit Losses - Loans (in thousands) | Period | Beginning Balance | Provision (Benefit) | Net Charge-offs | Ending Balance | | :--- | :--- | :--- | :--- | :--- | | Q3 2021 | $120,726 | ($4,448) | ($1,255) | $117,533 | | Nine Months 2021 | $131,606 | ($10,898) | ($3,175) | $117,533 | - The allowance for unfunded commitments decreased to $14.0 million at Q3 2021 from $15.3 million at year-end 2020, with a provision benefit of $1.3 million recorded for the nine-month period[61] Note 6: Goodwill, Core Deposit Premium and Other Intangible Assets Goodwill remained stable at $576.0 million as of September 30, 2021, with no impairment identified during the annual assessment Net amortizing intangible assets, including core deposit intangibles and servicing rights, decreased to $41.5 million from $48.4 million at year-end 2020 due to amortization Mortgage loans serviced for others were approximately $711.6 million, and the fair value of related mortgage servicing rights was estimated at $5.8 million - Goodwill was unchanged at $576.0 million at September 30, 2021 The most recent annual assessment as of September 30 found no goodwill impairment[62] Intangible Assets (in thousands) | Asset Type | Net Carrying Amount (Sep 30, 2021) | Net Carrying Amount (Dec 31, 2020) | | :--- | :--- | :--- | | Core deposit intangibles | $35,016 | $42,215 | | Mortgage servicing rights | $5,801 | $5,189 | | Commercial servicing rights | $550 | $863 | | Total Amortizing Intangibles | $41,508 | $48,435 | Note 7: Derivative Financial Instruments HTLF utilizes derivative instruments, primarily interest rate swaps and forward commitments, to manage interest rate risk As of September 30, 2021, the company had no derivative instruments designated as cash flow hedges, having terminated the remaining ones during Q3 The largest derivative exposure comes from back-to-back loan swaps with customers, with a notional amount of $428.8 billion and a corresponding fair value asset and liability of $25.8 million each Other free-standing derivatives include interest rate lock commitments and forward commitments related to mortgage banking - HTLF terminated its remaining interest rate swaps designated as cash flow hedges during the third quarter of 2021[79][80] - The company facilitates back-to-back loan swaps for customers to manage interest rate risk, with a notional amount of $428.8 billion at September 30, 2021[85] - Free-standing derivatives used for mortgage banking activities include interest rate lock commitments with a fair value of $1.2 million and forward commitments with a net fair value asset of $219,000[89] Note 8: Fair Value This note details the fair value measurement of HTLF's financial instruments As of September 30, 2021, total assets measured at fair value on a recurring basis were $7.48 billion, overwhelmingly classified as Level 2 These assets are primarily securities available for sale and derivative instruments Liabilities measured at fair value on a recurring basis were $27.8 million Assets measured on a nonrecurring basis, such as collateral-dependent loans and OREO, are primarily valued using Level 3 inputs like third-party appraisals Assets and Liabilities Measured at Fair Value on a Recurring Basis (in thousands) | Category | Sep 30, 2021 | Level 1 | Level 2 | Level 3 | | :--- | :--- | :--- | :--- | :--- | | Total Assets at Fair Value | $7,477,650 | $1,013 | $7,475,433 | $1,204 | | Securities available for sale | $7,449,936 | $1,013 | $7,448,923 | $0 | | Derivative financial instruments | $26,510 | $0 | $26,510 | $0 | | Interest rate lock commitments | $1,204 | $0 | $0 | $1,204 | | Total Liabilities at Fair Value | $27,841 | $0 | $27,841 | $0 | - The fair value of the loan portfolio was estimated at $9.76 billion, slightly above its carrying amount of $9.74 billion The valuation is based on a discounted cash flow methodology (Level 2 and Level 3 inputs)[119][125] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses the financial performance for the third quarter and first nine months of 2021, highlighting strong earnings growth driven by increased net interest income and a significant provision benefit for credit losses Total assets grew to $19.0 billion, fueled by a 22% increase in securities and a 7% increase in deposits Key strategic developments include the successful systems conversion of AimBank, a branding change to HTLF, issuance of $150 million in subordinated debt, and ongoing branch optimization Management notes improved credit quality but remains cautious due to potential economic headwinds from COVID-19 variants and supply chain issues Financial Highlights HTLF reported strong performance for Q3 2021, with net income available to common stockholders rising 18% year-over-year to $53.9 million Diluted EPS was $1.27 For the first nine months, net income available to common stockholders surged 72% to $164.3 million Key performance ratios for Q3 2021 include an annualized return on average assets of 1.19% and an annualized return on average tangible common equity (non-GAAP) of 15.14% Book value per common share increased to $48.79 from $46.11 a year prior Key Performance Ratios | Ratio | Q3 2021 | Q3 2020 | Nine Months 2021 | Nine Months 2020 | | :--- | :--- | :--- | :--- | :--- | | Annualized return on average assets | 1.19% | 1.26% | 1.25% | 0.92% | | Annualized return on average tangible common equity (non-GAAP) | 15.14% | 16.11% | 16.34% | 12.10% | | Annualized net interest margin (GAAP) | 3.30% | 3.51% | 3.37% | 3.70% | | Efficiency ratio, fully tax-equivalent (non-GAAP) | 60.38% | 54.67% | 58.05% | 57.28% | - Book value per common share increased to $48.79 at September 30, 2021, compared to $46.77 at year-end 2020[163][174] Results of Operations For Q3 2021, net interest income grew 16% to $142.5 million, though the net interest margin compressed to 3.30% from 3.51% YoY due to lower asset yields A provision benefit of $4.5 million was recorded, reflecting improved credit quality and economic outlook Noninterest income rose 5% to $32.7 million, driven by higher service charges, while noninterest expense increased 22% to $110.6 million, largely due to higher compensation and professional fees related to growth and technology projects - Q3 2021 net interest margin was 3.30% (3.34% tax-equivalent), down from 3.51% (3.55% tax-equivalent) in Q3 2020, primarily due to lower yields on earning assets[186] - A provision benefit for credit losses of $4.5 million was recorded in Q3 2021, a significant reversal from the $1.7 million provision expense in Q3 2020, driven by improved credit quality and stable macroeconomic factors[200][203] - Noninterest income increased 5% in Q3 2021, led by a 32% rise in service charges and fees, partially offset by a 41% decline in net gains on sale of loans[204] - Noninterest expenses rose 22% in Q3 2021, with notable increases in salaries and benefits (+19%), professional fees (+35%), and other expenses (+54%) related to acquisitions, technology investments, and increased business activity[213] Financial Condition As of September 30, 2021, HTLF's financial condition remained strong with total assets at $19.0 billion The loan portfolio, net of a 57% decrease in PPP loans, grew 4% since year-end 2020 Credit quality improved, with nonperforming assets decreasing to 0.46% of total assets The securities portfolio expanded by 22% to $7.62 billion as a key use of funds Deposits grew by 7% to $16.02 billion, enhancing liquidity Capital ratios remained well above regulatory minimums, with a Common Equity Tier 1 ratio of 11.40% - Excluding PPP loans, total loans held to maturity increased $380.4 million or 4% since year-end 2020, driven by a 20% increase in owner-occupied commercial real estate loans[234][237] - The total allowance for lending related credit losses was $131.5 million, or 1.39% of total loans excluding PPP loans, down from 1.62% at year-end 2020[240] - Total nonperforming assets decreased by 7% since year-end 2020 to $88.1 million, representing 0.46% of total assets[255] - Total deposits increased by $1.04 billion (7%) since year-end 2020, with demand deposits growing 15% and savings deposits growing 5%, while time deposits decreased 16%[259][260] Item 3. Quantitative and Qualitative Disclosures About Market Risk HTLF's primary market risk is interest rate risk arising from its core banking activities The company manages this risk through regular reviews by its asset/liability committee and by using simulation models As of September 30, 2021, an immediate 200 basis point increase in rates is projected to increase net interest income by 5.56% in the first year Conversely, a 100 basis point decrease is projected to reduce net interest income by 2.15% The company also uses derivative financial instruments and manages off-balance-sheet risk from credit commitments to mitigate market risk Net Interest Income Sensitivity Analysis (as of Sep 30, 2021) | Rate Scenario | Year 1 % Change From Base | Year 2 % Change From Base | | :--- | :--- | :--- | | Down 100 Basis Points | (2.15)% | (10.12)% | | Up 200 Basis Points | 5.56% | 8.10% | - HTLF uses derivative financial instruments to manage interest rate risk and enters into financial instruments with off-balance-sheet risk, such as commitments to extend credit and standby letters of credit, in the normal course of business[295][296] Item 4. Controls and Procedures Based on an evaluation conducted by management, including the CEO and CFO, as of September 30, 2021, the company's disclosure controls and procedures were concluded to be effective There were no material changes in internal controls over financial reporting during the third quarter of 2021 - Management concluded that HTLF's disclosure controls and procedures were effective as of the end of the period covered by the report[297] - No changes in internal controls over financial reporting occurred during Q3 2021 that have materially affected, or are reasonably likely to materially affect, these controls[298] Part II - Other Information Item 1. Legal Proceedings As of September 30, 2021, HTLF and its subsidiaries are involved in certain legal proceedings that are considered ordinary routine litigation incidental to their business - The company is subject to ordinary routine litigation incidental to its business[300] Item 1A. Risk Factors There have been no material changes to the risk factors applicable to HTLF from those disclosed in its 2020 Annual Report on Form 10-K - No material changes in risk factors were reported compared to the 2020 Annual Report on Form 10-K[301] Item 2. Unregistered Sales of Equity Securities and Use of Proceeds HTLF and its affiliated purchasers did not make any purchases of the company's common stock during the quarter ended September 30, 2021 A board authorization from March 2020 allows for the acquisition of up to 5% of capital as treasury shares - No purchases of the company's common stock were made during the third quarter of 2021[302] Item 6. Exhibits This section lists the exhibits filed with the Form 10-Q, including certifications by the Chief Executive Officer and Chief Financial Officer pursuant to the Securities Exchange Act and the Sarbanes-Oxley Act of 2002, as well as financial statements formatted in Inline XBRL - Exhibits filed include CEO and CFO certifications (31.1, 31.2, 32.1, 32.2) and financial statements in Inline XBRL format (101)[304]