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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
Commission File Number: 0-24724
HEARTLAND FINANCIAL USA, INC.
(Exact name of Registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
42-1405748
(I.R.S. Employer identification number)
1398 Central Avenue, Dubuque, Iowa) (52001
(Address of principal executive offices Zip Code)
(319) 589-2100
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(g) of the Act:
None
(Title of Exchange Class)
None
(Name of Each Exchange on which Registered)
Common Stock $1.00 par value
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed
all reports required to be filed by Section 13 or 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
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained herein,
and will not be contained, to the best of Registrant's knowledge,
in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this
Form 10-K. (X)
The index to exhibits follows the signature page.
As of March 22, 1999, the Registrant had issued and outstanding
9,518,805 shares of the Registrant's Common Stock. The aggregate
market value of the voting stock held by non-affiliates of the
Registrant as of March 22, 1999, was $108,576,625.* Such figures
include 733,908 shares of the Registrant's Common Stock held in a
fiduciary capacity by the Trust Department of the Dubuque Bank &
Trust Company, a wholly-owned subsidiary of the Registrant.
*Based on the last reported price of an actual transaction in
Registrant's Common Stock on March 22, 1999, and reports of
beneficial ownership filed by directors and executive officers of
Registrant and by beneficial owners of more than 5% of the
outstanding shares of Common Stock of Registrant; however, such
determination of shares owned by affiliates does not constitute
an admission of affiliate status or beneficial interest in shares
of Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the 1999 Annual Meeting of
Stockholders are incorporated by reference into Part III.
HEARTLAND FINANCIAL USA, INC.
Form 10-K Annual Report
Table of Contents
Part I
Item 1. Business
A. General Description
B. Recent Developments
C. Market Areas
D. Competition
E. Employees
F. Accounting Standards
G. Supervision and Regulation
H. Governmental Monetary Policy and Economic Conditions
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of
Security Holders
Part II
Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters
Item 6. Selected Financial Data
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations
Item 8. Financial Statements and Supplementary Data
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure
Part III
Item 10. Directors and Executive Officers of the
Registrant
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners
and Management
Item 13. Certain Relationships and Related Transactions
Part IV
Item 14. Exhibits, Financial Statement Schedules and
Reports on Form 8-K
PART I.
ITEM 1.
BUSINESS
A. GENERAL DESCRIPTION
Heartland Financial USA, Inc. ("Heartland"), reincorporated in
the state of Delaware in 1993, is a multi-bank holding company
registered under the Bank Holding Company Act of 1956, as amended
("BHCA"). Heartland has five bank subsidiaries which are located
in Dubuque, Iowa, Cottage Grove, Wisconsin, Galena and Rockford,
Illinois and Albuquerque, New Mexico and one federal savings bank
subsidiary which is located in Keokuk, Iowa (collectively, the
"Bank Subsidiaries"). All six Bank Subsidiaries are members of
the Federal Deposit Insurance Corporation ("FDIC"). Dubuque Bank
and Trust Company ("DB&T") is chartered under the laws of the
State of Iowa and has two wholly-owned subsidiaries: DB&T
Insurance, Inc. ("DB&T Insurance"), a multi-line insurance agency
and DB&T Community Development Corp. ("DB&T Development"),
majority owner of a senior housing project. Galena State Bank
and Trust Company, Galena, Illinois, ("GSB") and Riverside
Community Bank, Rockford,Illinois, ("RCB") are chartered under
the laws of the State of Illinois. First Community Bank, FSB
("FCB")is a federal savings association organized under the laws
of the United States. FCB has one subsidiary, KFS Services, Inc.
Wisconsin Community Bank, previously Cottage Grove State Bank,
("WCB") is chartered under the laws of the State of Wisconsin and
has one subsidiary, DBT Investment Corporation ("DBT
Investment"), an investment management company. New Mexico Bank &
Trust ("NMB") is chartered under the laws of the state of New
Mexico. The Bank Subsidiaries operate 19 banking locations in
Iowa, Illinois, Wisconsin and New Mexico. Heartland has three non-
bank subsidiaries. Citizens Finance Co. ("Citizens") is a
consumer finance company. ULTEA, Inc. ("ULTEA") is a fleet
leasing company headquartered in Madison, Wisconsin. Keokuk
Bancshares, Inc. ("Keokuk") is an investment management company.
All subsidiaries are wholly-owned with the exception of NMB, of
which Heartland is the 80% owner.
The Bank Subsidiaries provide full service retail banking within
Dubuque and Lee Counties in Iowa, within Jo Daviess, Hancock and
Winnebago Counties in Illinois, within Dane County in Wisconsin
and Bernalillo County in New Mexico. Deposit products include
checking and other demand deposit accounts, NOW accounts, savings
accounts, money market accounts, certificates of deposit,
individual retirement accounts and other time deposits. The
deposits in the Bank Subsidiaries are insured by the FDIC to the
full extent permitted by law. Loans include commercial and
industrial, agricultural, real estate mortgage, consumer, home
equity, credit cards and lines of credit. Other products and
services include VISA debit cards, automatic teller machines,
safe deposit boxes and trust services. The principal service of
the Bank Subsidiaries consists of making loans to businesses and
individuals. These loans are made at the offices of the Bank
Subsidiaries. The Bank Subsidiaries also engage in activities
that are closely related to banking, including investment
brokerage.
Although each of the subsidiaries of Heartland operates under the
direction of its own Board of Directors, Heartland has standard
operating policies regarding asset/liability management,
liquidity management, investment management, lending policies and
deposit structure management. Heartland has historically
centralized certain operations where economies of scale can be
achieved.
Operating Strategy
Corporate policy, strategy and goals are established by the Board
of Directors of Heartland (the "Heartland Board"). Pursuant to
Heartland's philosophy, operational and administrative policies
for the Bank Subsidiaries are also established by the Heartland
Board. Within this framework, each of the Bank Subsidiaries
focuses on providing personalized services and quality products
to its customers to meet the needs of the communities which it
serves.
Heartland operates its banking subsidiaries as traditional
community banks with conveniently located facilities and
professional, highly motivated staffs which are active in the
communities in which they are located. Heartland focuses on long-
term relationships with customers and provides individualized
quality service. In addition, within credit and rate of return
parameters, Heartland attempts to ensure that each of the Bank
Subsidiaries meets the credit needs of its communities and
invests in local municipal obligations.
Heartland uses a variety of marketing strategies to attract and
retain customers, with a particular emphasis on a strong sales
culture within the Bank Subsidiaries and an outside officer
calling program. Many of Heartland's sales employees work on a
salary plus commission basis, thus providing them with a strong
incentive to aggressively market Heartland's financial products.
Officers of each of the Bank Subsidiaries also regularly call on
customers and potential customers of the institutions to maintain
and develop deposit and other special service relationships,
including cash management, employee benefit plan administration,
and trust services.
Heartland has an internal data processing division and has
attempted to remain at the forefront of the banking industry in
new technological innovations. Heartland believes that retaining
control of its data processing leads to decreased operating costs
and more effective service to its customers. Accordingly, during
1997, all Bank Subsidiaries converted to the Fiserv Comprehensive
Banking System program, a national leader in bank software
technology. To provide a high level of customer service and to
manage effectively its growth, acquisition and operating
strategies, Heartland also focuses on continued improvement of
the internal operating systems of the Bank Subsidiaries.
Acquisition and Expansion Strategy
Heartland seeks to diversify both its market area and asset base
while increasing profitability through acquisitions and
expansion. Heartland's goal is to expand through the acquisition
of established financial service organizations, primarily
commercial banks or thrifts, to the extent suitable candidates
can be identified and acceptable business terms negotiated.
Heartland's acquisition strategy has focused primarily on
traditional community banks and thrifts located in stable and
growing areas of Iowa, Wisconsin, Minnesota and Illinois.
Heartland intends to look beyond these geographic areas for
acquisition opportunities as evidenced by the de novo bank in
Albuquerque, New Mexico. In addition to price and terms, other
factors considered by Heartland in determining the desirability
of an acquisition candidate include financial condition, earnings
potential, quality of management, market area and competitive
environment.
The Heartland Board may in the future consider establishing
branches, loan production offices or other business facilities as
a means of expanding its presence in current or new market areas.
The Heartland Board may also investigate expansion into other
lines of business closely related to banking if it believes these
lines could be profitable without undue risk to Heartland and if
Heartland can be competitive. Heartland does not currently have
any definitive understandings or agreements for any acquisitions
material to Heartland. However, Heartland will continue to look
for further expansion opportunities.
Lending Activities
General
The Bank Subsidiaries provide a range of commercial and retail
lending services to corporations, partnerships and individuals.
These credit activities include agricultural, commercial,
residential real estate and installment loans, as well as loan
participations and lines of credit.
The Bank Subsidiaries aggressively market their services to
qualified lending customers. Lending officers actively solicit
the business of new companies entering their market areas as well
as long-standing members of the Bank Subsidiaries' respective
business communities. Through professional service and
competitive pricing, the Bank Subsidiaries have been successful
in attracting new lending customers. Heartland also actively
pursues consumer lending opportunities. With convenient
locations, advertising and customer communications, the Bank
Subsidiaries have been successful in capitalizing on the credit
needs of their market areas.
Commercial Loans
The Bank Subsidiaries have a strong commercial loan base and
DB&T, in particular, continues to be a premier commercial lender
in the tri-state area of northeast Iowa, northwest Illinois and
southwest Wisconsin. The Bank Subsidiaries' areas of emphasis
include, but are not limited to, loans to wholesalers, hotel and
real estate developers, manufacturers, building contractors,
business services companies and retailers. The Bank Subsidiaries
provide a wide range of business loans, including lines of credit
for working capital and operational purposes and term loans for
the acquisition of equipment and real estate. Loans may be made
on an unsecured basis where warranted by the overall financial
condition of the borrower. Terms of commercial business loans
generally range from one to five years. The majority of the Bank
Subsidiaries' commercial business loans have floating interest
rates or reprice within one year.
DB&T has also generated loans which are guaranteed by the U.S.
Small Business Administration and has been certified as one of
that agency's Preferred Lenders. Management believes that making
these guaranteed loans helps its local communities as well as
provides Heartland with a source of income and solid future
lending relationships as such businesses grow and prosper. DB&T
is also currently one of the state of Iowa's top lenders in the
"Linked Investment for Tomorrow" program. This state-sponsored
program offers interest rate reductions to businesses opened by
minorities and those in rural areas.
The primary repayment risk for commercial loans is the failure of
the business due to economic or financial factors. In most cases,
the Bank Subsidiaries have collateralized these loans and/or
taken personal guarantees to help assure repayment.
As the credit portfolios of the Bank Subsidiaries have continued
to grow, several changes have been made in their lending
departments resulting in an overall increase in these
departments' skill levels. Loan review personnel and commercial
lenders interact with their respective Boards of Directors each
month. Heartland also utilizes an internal loan review function
to analyze credits of the Bank Subsidiaries. Management has
attempted to identify problem loans at an early date and to
aggressively seek a resolution of these situations. The result
has been a significantly below average level of problem loans
compared to the Heartland Banks' industry peer groups in recent
years.
Agricultural Loans
DB&T is one of the largest agricultural lenders in the state of
Iowa. Agricultural loans continue to be emphasized by both DB&T
and GSB due to their concentration of customers in rural markets.
Agricultural loans remain balanced, however, in proportion to the
rest of Heartland's consolidated loan portfolio. In connection
with their agricultural lending, all of the Bank Subsidiaries
have remained close to their traditional geographic market areas.
The majority of the outstanding agricultural operating and real
estate loans are within 60 miles of their main or branch offices.
Agricultural loans, many of which are secured by crops, machinery
and real estate, are provided to finance capital improvements and
farm operations as well as acquisitions of livestock and
machinery. The agricultural loan departments work closely with
all agricultural customers, including companies and individual
farmers, and review the preparation of budgets and cash flow
projections for the ensuing crop year. These budgets and cash
flow projections are monitored closely during the year and
reviewed with agricultural customers at least once a year. In
addition, the Bank Subsidiaries work closely with governmental
agencies, including the Farmers Home Administration, to assist
agricultural customers in obtaining credit enhancement products
such as loan guarantees.
Real Estate Mortgage Loans
Mortgage lending has been a focal point of the Bank Subsidiaries
as each of them continues to build real estate lending business.
A declining rate environment along with expanded production
capabilities combined to increase the number of loan originations
as compared to prior years. The majority of home loans generated
by the Bank Subsidiaries were sold to government agencies in the
secondary mortgage market with servicing rights retained on over
one-half of these sales. Management believes that the retention
of mortgage servicing provides the Bank Subsidiaries with a
relatively steady source of fee income as compared to fees
generated solely from mortgage origination operations. Moreover,
the retention of such servicing rights allows each of the Bank
Subsidiaries to continue to have regular contact with mortgage
customers.
Consumer Lending
The Bank Subsidiaries' consumer lending departments provide all
types of consumer loans including motor vehicle, home
improvement, home equity, student loans, credit cards, signature
loans and small personal credit lines.
Consumer loan demand is also serviced through Citizens which
currently serves the consumer credit needs of over 2,500
customers in the three state area of Iowa, Illinois and Wisconsin
from its Dubuque, Iowa, Madison and Appleton, Wisconsin, and
Loves Park, Illinois offices.
Trust Departments
The trust departments for DB&T, GSB and FCB have been providing
trust services to their respective communities for many years.
Trust personnel from DB&T also work with RCB and WCB personnel to
provide trust services to all bank subsidiaries. Currently, the
Bank Subsidiaries have over $496 million of consolidated assets
under management and provide a full complement of trust and
investment services for individuals and corporations.
The trust department of DB&T is nationally recognized as a
leading provider of socially responsible investment services and
manages investment portfolios for religious and other non-profit
organizations located throughout the United States. The Bank
Subsidiaries' trust departments are also active in the management
of employee benefit and retirement plans in their market areas.
The Bank Subsidiaries have targeted their trust departments as
primary areas for future growth.
Brokerage and Other Services
DB&T contracts with a third-party vendor, Focused Investments
LLC, an affiliate of Wayne Hummer & Co., to operate independent
securities offices within DB&T's main office, Grandview and
Kennedy Mall branch offices and GSB's main office. DB&T's Farley
office also schedules regular hours for a broker to be available
to meet with customers. Focused Investments LLC offers full-
service stock and bond trading, direct investments, annuities and
mutual funds.
DB&T Insurance has continued to grow its personal and commercial
insurance lines and the number of independent insurance companies
it represents. DB&T Insurance is a multi-line insurance agency in
the Dubuque area and offers a complete array of vehicle, property
and casualty, life and disability insurance, as well as
commercial lines and tax-free annuities.
B. MARKET AREAS
DB&T is located in Dubuque County,Iowa, which encompasses the
city of Dubuque and a number of surrounding rural communities.
The city of Dubuque is located in northeastern Iowa, on the
Mississippi River, approximately 175 miles west of Chicago,
Illinois, and approximately 200 miles northeast of Des Moines,
Iowa. It is strategically situated at the intersection of the
state borders of Iowa, Illinois and Wisconsin. Based upon the
results of the 1990 census, the city of Dubuque had a total
population of approximately 61,000.
In addition to its main banking office, DB&T has seven branch
offices, all of which are located in the Dubuque County area. As
a subsidiary of DB&T, DB&T Insurance has substantially the same
market area as the parent organization. Citizens also operates
within this market area, and, in addition, offices were opened in
Madison, Wisconsin, during June, 1996, Appleton, Wisconsin,
during August, 1998 and Loves Park, Illinois during February,
1999.
GSB is located in Galena, Illinois, which is less than five miles
from the Mississippi River, approximately 20 miles east of
Dubuque and 155 miles west of Chicago. GSB also has an office in
Stockton, Illinois, and as such, services customers in Jo Daviess
County, Illinois. Based on the 1990 census, the county had a
population of approximately 22,000 people.
FCB's main office is in Keokuk, Iowa, which is located in the
southeast corner of Iowa near the borders of Iowa, Missouri and
Illinois. Due to its location, FCB serves customers in the tri-
county region of Lee County, Iowa, Hancock County, Illinois and
Clark County, Missouri. Lee, Hancock and Clark Counties have
populations of approximately 43,100, 23,900 and 8,500,
respectively. FCB has one branch office in Keokuk and another
branch in the city of Carthage in Hancock County, Illinois.
Keokuk is an industrial community with a population of
approximately 13,500.
RCB is located on the northeast edge of Rockford, Illinois, which
is approximately 75 miles west of Chicago in Winnebago County.
Based on the 1990 census, the county had a population of 284,000
and the city of Rockford had a population of 140,000.
WCB operates one office from its location in Cottage Grove,
Wisconsin, which is approximately 10 miles east of Madison in
Dane County. A branch office was opened in Middleton, a suburb of
Madison, in February, 1998. According to the 1990 census, the
county had a population of 390,000, and the village of Cottage
Grove had a population of 1,100.
NMB operates one office in the northeast section of Albuquerque,
New Mexico in Bernalillo County. Based upon the 1990 census, the
county had a population of 480,000 and the city had a population
of 385,000.
C. COMPETITION
Heartland encounters competition in all areas of its business
pursuits. In order to compete effectively, to develop its market
base, to maintain flexibility and to move in pace with changing
economic and social conditions, Heartland continuously refines
and develops its products and services. The principal methods of
competition in the financial services industry are price, service
and convenience.
The Bank Subsidiaries' combined market area is highly
competitive. Many financial institutions based in the communities
surrounding Dubuque, Galena, Rockford, Cottage Grove, Keokuk and
Albuquerque actively compete for customers within Heartland's
market area. The Bank Subsidiaries also face competition from
finance companies, insurance companies, mortgage companies,
securities brokerage firms, money market funds, loan production
offices and other providers of financial services.
Heartland competes for loans principally through the range and
quality of the services it provides, interest rates and loan
fees. Heartland believes that its long-standing presence in the
community and personal service philosophy enhance its ability to
compete favorably in attracting and retaining individual and
business customers. Heartland actively solicits deposit-oriented
clients and competes for deposits by offering customers personal
attention, professional service and competitive interest rates.
D. EMPLOYEES
At December 31, 1998, Heartland employed 396 full-time equivalent
employees. Heartland places a high priority on staff development
which involves extensive training, including customer service
training. New employees are selected on the basis of both
technical skills and customer service capabilities. None of
Heartland's employees are covered by a collective bargaining
agreement with Heartland. Heartland offers a variety of employee
benefits and management considers its employee relations to be
excellent.
E. ACCOUNTING STANDARDS
Effect of New Financial Accounting Standards -Heartland adopted
SFAS No. 130,"Reporting Comprehensive Income,"on January 1, 1998.
SFAS No. 130 establishes standards for the reporting and display
of comprehensive income in the financial statements.
Comprehensive income consists of net income and certain amounts
reported directly in stockholders' equity, such as the net
unrealized gains or losses on available for sale securities. The
statement requires only additional disclosures in the
consolidated financial statements; it does not affect Heartland's
financial position or results of operations. Prior year
financial statements have been reclassified to conform to the
requirements of SFAS No. 130.
SFAS No. 131,"Disclosure About Segments of an Enterprise and
Related Information," was effective for Heartland for the year
beginning January 1, 1998, and established disclosure
requirements for segment operations. The adoption had no effect
on Heartland's financial statement disclosures.
SFAS No. 132,"Employers' Disclosures About Pensions and Other
Postretirement Benefits," was effective for Heartland for the
year beginning January 1, 1998, and revises the disclosure
requirements for pension and other postretirement benefit plans.
The adoption had no effect on Heartland's financial statement
disclosures.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," will be effective for Heartland for the year
beginning January 1, 2000. Heartland expects to adopt SFAS No.
133 when required. Management does not believe the adoption of
SFAS No. 133 will have a material impact on the consolidated
financial statements.
F. SUPERVISION AND REGULATION
General
Financial institutions and their holding companies are
extensively regulated under federal and state law. As a result,
the growth and earnings performance of Heartland can be affected
not only by management decisions and general economic conditions,
but also by the requirements of applicable state and federal
statutes and regulations and the policies of various governmental
regulatory authorities, including the Board of Governors of the
Federal Reserve System (the "Federal Reserve"), the FDIC, the
OTS, the Iowa Superintendent of Banking (the "Iowa
Superintendent"), the Illinois Commissioner of Banks and Real
Estate (the "Illinois Commissioner"), the Division of Banking of
the Wisconsin Department of Financial Institutions (the
"Wisconsin DFI"), the New Mexico Financial Institutions Division
(the "New Mexico Division"), the Internal Revenue Service and
state taxing authorities and the Securities and Exchange
Commission (the "SEC"). The effect of applicable statutes,
regulations and regulatory policies can be significant, and
cannot be predicted with a high degree of certainty.
Federal and state laws and regulations generally applicable to
financial institutions, such as Heartland and its subsidiaries,
regulate, among other things, the scope of business, investments,
reserves against deposits, capital levels relative to operations,
the nature and amount of collateral for loans, the establishment
of branches, mergers, consolidations and dividends. The system of
supervision and regulation applicable to Heartland and its
subsidiaries establishes a comprehensive framework for their
respective operations and is intended primarily for the
protection of the FDIC's deposit insurance funds and the
depositors, rather than the shareholders, of financial
institutions.
The following is a summary of the material elements of the
regulatory framework that applies to Heartland and its
subsidiaries. It does not describe all of the statutes,
regulations and regulatory policies that apply to Heartland and
its subsidiaries, nor does it restate all of the requirements of
the statutes, regulations and regulatory policies that are
described. As such, the following is qualified in its entirety by
reference to the applicable statutes, regulations and regulatory
policies. Any change in applicable law, regulations or
regulatory policies may have a material effect on the business of
Heartland and its subsidiaries.
Recent Regulatory Developments
Pending Legislation
Legislation has been introduced in the Congress that would allow
bank holding companies to engage in a wider range of nonbanking
activities, including greater authority to engage in securities
and insurance activities. The expanded powers generally would be
available to a bank holding company only if the bank holding
company and its bank subsidiaries remain well-capitalized and
well-managed. Unlike prior financial modernization bills
considered by the Congress, the pending legislation does not
include provisions eliminating the federal savings association
charter and requiring all federal savings associations to convert
to banks. At this time, Heartland is unable to predict whether
the proposed legislation will be enacted and, therefore, is
unable to predict the impact such legislation may have on
Heartland and the Bank Subsidiaries.
Heartland
General
Heartland, as the sole shareholder of DB&T, GSB, RCB and WCB and
the controlling shareholder of NMB, is a bank holding company.
As a bank holding company, Heartland is registered with, and is
subject to regulation by, the Federal Reserve under the Bank
Holding Company Act, as amended (the "BHCA"). In accordance with
Federal Reserve policy, Heartland is expected to act as a source
of financial strength to the Bank Subsidiaries and to commit
resources to support the Bank Subsidiaries in circumstances where
Heartland might not otherwise do so. Under the BHCA, Heartland
is subject to periodic examination by the Federal Reserve.
Heartland is also required to file with the Federal Reserve
periodic reports of Heartland's operations and such additional
information regarding Heartland and its subsidiaries as the
Federal Reserve may require.
Heartland's ownership of FCB makes Heartland a savings and loan
holding company, as defined in the HOLA. Although savings and
loan holding companies generally are subject to supervision and
regulation by the OTS, companies that, like Heartland, are both
bank holding companies and savings and loan holding companies are
generally exempt from OTS supervision. Federal law, however,
requires the Federal Reserve to consult with the OTS, as
appropriate, in establishing the scope of a Federal Reserve
examination of any such holding company, to provide the OTS, upon
request, with copies of Federal Reserve examination reports and
other supervisory information concerning any such holding
company, and to cooperate with the OTS in any enforcement action
against any such holding company if the conduct at issue involves
the company's savings association subsidiary.
Investments and Activities
Under the BHCA, a bank holding company must obtain Federal
Reserve approval before: (i) acquiring, directly or indirectly,
ownership or control of any voting shares of another bank or bank
holding company if, after the acquisition, it would own or
control more than 5% of the shares of the other bank or bank
holding company (unless it already owns or controls the majority
of such shares); (ii) acquiring all or substantially all of the
assets of another bank; or (iii) merging or consolidating with
another bank holding company. Subject to certain conditions
(including certain deposit concentration limits established by
the BHCA), the Federal Reserve may allow a bank holding company
to acquire banks located in any state of the United States
without regard to whether the acquisition is prohibited by the
law of the state in which the target bank is located. In
approving interstate acquisitions, however, the Federal Reserve
is required to give effect to applicable state law limitations on
the aggregate amount of deposits that may be held by the
acquiring bank holding company and its insured depository
institution affiliates in the state in which the target bank is
located (provided that those limits do not discriminate against
out-of-state depository institutions or their holding companies)
and state laws which require that the target bank have been in
existence for a minimum period of time (not to exceed five years)
before being acquired by an out-of-state bank holding company.
The BHCA also generally prohibits Heartland from acquiring direct
or indirect ownership or control of more than 5% of the voting
shares of any company which is not a bank and from engaging in
any business other than that of banking, managing and controlling
banks or furnishing services to banks and their subsidiaries.
This general prohibition is subject to a number of exceptions.
The principal exception allows bank holding companies to engage
in, and to own shares of companies engaged in, certain businesses
found by the Federal Reserve to be "so closely related to banking
... as to be a proper incident thereto." Under current
regulations of the Federal Reserve, Heartland and its non-bank
subsidiaries are permitted to engage in a variety of banking-
related businesses, including the operation of a thrift, sales
and consumer finance, equipment leasing, the operation of a
computer service bureau (including software development), and
mortgage banking and brokerage. The BHCA generally does not
place territorial restrictions on the domestic activities of non-
bank subsidiaries of bank holding companies.
Federal law also prohibits any person or company from acquiring
"control" of an FDIC-insured depository institution or its
holding company without prior notice to the appropriate federal
bank regulator. "Control" is defined in certain cases as the
acquisition of 10% of the outstanding shares of an institution or
holding company.
Capital Requirements
Bank holding companies are required to maintain minimum levels of
capital in accordance with Federal Reserve capital adequacy
guidelines. If capital falls below minimum guideline levels, a
bank holding company, among other things, may be denied approval
to acquire or establish additional banks or non-bank businesses.
The Federal Reserve's capital guidelines establish the following
minimum regulatory capital requirements for bank holding
companies: a risk-based requirement expressed as a percentage of
total risk-weighted assets, and a leverage requirement expressed
as a percentage of total assets. The risk-based requirement
consists of a minimum ratio of total capital to total risk-
weighted assets of 8%, at least one-half of which must be Tier 1
capital. The leverage requirement consists of a minimum ratio of
Tier 1 capital to total assets of 3% for the most highly rated
companies, with a minimum requirement of 4% for all others. For
purposes of these capital standards, Tier 1 capital consists
primarily of permanent stockholders' equity less intangible
assets (other than certain mortgage servicing rights and
purchased credit card relationships). Total capital consists
primarily of Tier 1 capital plus certain other debt and equity
instruments which do not qualify as Tier 1 capital and a portion
of the company's allowance for loan and lease losses.
The risk-based and leverage standards described above are minimum
requirements. Higher capital levels will be required if warranted
by the particular circumstances or risk profiles of individual
banking organizations. For example, the Federal Reserve's capital
guidelines contemplate that additional capital may be required to
take adequate account of, among other things, interest rate risk,
or the risks posed by concentrations of credit, nontraditional
activities or securities trading activities. Further, any
banking organization experiencing or anticipating significant
growth would be expected to maintain capital ratios, including
tangible capital positions (i.e., Tier 1 capital less all
intangible assets), well above the minimum levels.
As of December 31, 1998, Heartland had regulatory capital in
excess of the Federal Reserve's minimum requirements, with a risk-
based capital ratio of 12.13% and a leverage ratio of 8.58%.
Dividends
The Delaware General Corporation Law (the "DGCL") allows
Heartland to pay dividends only out of its surplus (as defined
and computed in accordance with the provisions of the DGCL) or if
Heartland has no such surplus, out of its net profits for the
fiscal year in which the dividend is declared and/or the
preceding fiscal year. Additionally, the Federal Reserve has
issued a policy statement with regard to the payment of cash
dividends by bank holding companies. The policy statement
provides that a bank holding company should not pay cash
dividends which exceed its net income or which can only be funded
in ways that weaken the bank holding company's financial health,
such as by borrowing. The Federal Reserve also possesses
enforcement powers over bank holding companies and their non-bank
subsidiaries to prevent or remedy actions that represent unsafe
or unsound practices or violations of applicable statutes and
regulations. Among these powers is the ability to proscribe the
payment of dividends by banks and bank holding companies.
Federal Securities Regulation
Heartland's common stock is registered with the SEC under the
Securities Exchange Act of 1934, as amended (the "Exchange Act").
Consequently, Heartland is subject to the information, proxy
solicitation, insider trading and other restrictions and
requirements of the SEC under the Exchange Act.
The Bank Subsidiaries
General
DB&T is an Iowa-chartered bank, the deposit accounts of which are
insured by the FDIC's Bank Insurance Fund ("BIF"). As a BIF-
insured, Iowa-chartered bank, DB&T is subject to the examination,
supervision, reporting and enforcement requirements of the Iowa
Superintendent, as the chartering authority for Iowa banks, and
the FDIC, as administrator of the BIF.
GSB and RCB are Illinois-chartered banks, the deposit accounts of
which are insured by the BIF of the FDIC. As BIF-insured,
Illinois-chartered banks, GSB and RCB are subject to the
examination, supervision, reporting and enforcement requirements
of the Illinois Commissioner, as the chartering authority for
Illinois banks, and the FDIC, as administrator of the BIF.
WCB is a Wisconsin-chartered bank, the deposit accounts of which
are insured by the BIF of the FDIC. As a BIF-insured, Wisconsin-
chartered bank, WCB is subject to the examination, supervision,
reporting and enforcement requirements of the Wisconsin DFI, as
the chartering authority for Wisconsin banks, and the FDIC, as
administrator of the BIF.
NMB is a New Mexico-chartered bank, the deposit accounts of which
are insured by the BIF of the FDIC. As a BIF-insured, New Mexico-
chartered bank, NMB is subject to the examination, supervision,
reporting and enforcement requirements of the New Mexico
Division, as the chartering authority for New Mexico banks, and
the FDIC, as administrator of the BIF.
FCB is a federally chartered savings association, the deposits of
which are insured by the FDIC's Savings Association Insurance
Fund ("SAIF"). As a SAIF-insured, federally chartered savings
association, FCB is subject to the examination, supervision,
reporting and enforcement requirements of the OTS, as the
chartering authority for federal savings associations, and the
FDIC as administrator of the SAIF.
Deposit Insurance
As FDIC-insured institutions, the Bank Subsidiaries are required
to pay deposit insurance premium assessments to the FDIC. The
FDIC has adopted a risk-based assessment system under which all
insured depository institutions are placed into one of nine
categories and assessed insurance premiums based upon their
respective levels of capital and results of supervisory
evaluations. Institutions classified as well-capitalized (as
defined by the FDIC) and considered healthy pay the lowest
premium while institutions that are less than adequately
capitalized (as defined by the FDIC) and considered of
substantial supervisory concern pay the highest premium. Risk
classification of all insured institutions is made by the FDIC
for each semi-annual assessment period.
During the year ended December 31, 1998, both BIF and SAIF
assessments ranged from 0% of deposits to 0.27% of deposits. For
the semi-annual assessment period beginning January 1, 1999, both
BIF and SAIF assessment rates will continue to range from 0% of
deposits to 0.27% of deposits.
The FDIC may terminate the deposit insurance of any insured
depository institution if the FDIC determines, after a hearing,
that the institution (i) has engaged or is engaging in unsafe or
unsound practices, (ii) is in an unsafe or unsound condition to
continue operations or (iii) has violated any applicable law,
regulation, order, or any condition imposed in writing by, or
written agreement with, the FDIC. The FDIC may also suspend
deposit insurance temporarily during the hearing process for a
permanent termination of insurance if the institution has no
tangible capital. Management of Heartland is not aware of any
activity or condition that could result in termination of the
deposit insurance of the Bank Subsidiaries.
FICO Assessments
Since 1987, a portion of the deposit insurance assessments paid
by SAIF members has been used to cover interest payments due on
the outstanding obligations of the Financing Corporation
("FICO"). FICO was created in 1987 to finance the
recapitalization of the Federal Savings and Loan Insurance
Corporation, the SAIF's predecessor insurance fund. As a result
of federal legislation enacted in 1996, beginning as of January
1, 1997, both SAIF members and BIF members became subject to
assessments to cover the interest payments on outstanding FICO
obligations. These FICO assessments are in addition to amounts
assessed by the FDIC for deposit insurance. Until January 1,
2000, the FICO assessments made against BIF members may not
exceed 20% of the amount of the FICO assessments made against
SAIF members. Between January 1, 2000 and the final maturity of
the outstanding FICO obligations in 2019, BIF members and SAIF
members will share the cost of the interest on the FICO bonds on
a pro rata basis. During the year ended December 31, 1998, the
FICO assessment rate for SAIF members ranged between
approximately 0.061% of deposits and approximately 0.063% of
deposits, while the FICO assessment rate for BIF members ranged
between approximately 0.012% of deposits and approximately 0.013%
of deposits. During the year ended December 31, 1998, the Bank
Subsidiaries paid FICO assessments totaling $118.
Supervisory Assessments
All Iowa banks, Illinois banks, Wisconsin banks, New Mexico banks
and federal savings associations are required to pay supervisory
assessments to the Iowa Superintendent, the Illinois
Commissioner, the Wisconsin DFI, the New Mexico Division and the
OTS, respectively, to fund the operations of such agencies. In
general, the amount of such supervisory assessments is based upon
each institution's total assets. During the year ended December
31, 1998, the Bank Subsidiaries paid supervisory assessments
totaling $42.
Capital Requirements
The FDIC has established the following minimum capital standards
for state-chartered insured non-member banks, such as DB&T, GSB,
RCB, WCB and NMB: a leverage requirement consisting of a minimum
ratio of Tier 1 capital to total assets of 3% for the most highly-
rated banks with a minimum requirement of at least 4% for all
others, and a risk-based capital requirement consisting of a
minimum ratio of total capital to total risk-weighted assets of
8%, at least one-half of which must be Tier 1 capital. For
purposes of these capital standards, Tier 1 capital and total
capital consist of substantially the same components as Tier 1
capital and total capital under the Federal Reserve's capital
guidelines for bank holding companies (see "--Heartland--Capital
Requirements").
Pursuant to the HOLA and OTS regulations, savings associations,
such as FCB, are subject to the following minimum capital
requirements: a core capital requirement, consisting of a
minimum ratio of core capital to total assets of 3%; a tangible
capital requirement, consisting of a minimum ratio of tangible
capital to total assets of 1.5%; and a risk-based capital
requirement, consisting of a minimum ratio of total capital to
total risk-weighted assets of 8%, at least one-half of which must
consist of core capital. Core capital consists primarily of
permanent stockholders' equity less (i) intangible assets other
than certain supervisory goodwill, certain mortgage servicing
rights and certain purchased credit card relationships and (ii)
investments in subsidiaries engaged in activities not permitted
for national banks. Tangible capital is substantially the same as
core capital except that all intangible assets other than certain
mortgage servicing rights must be deducted. Total capital
consists primarily of core capital plus certain debt and equity
instruments that do not qualify as core capital and a portion of
the Bank's allowances for loan and leases losses.
The capital requirements described above are minimum
requirements. Higher capital levels will be required if warranted
by the particular circumstances or risk profiles of individual
institutions. For example, the regulations of the FDIC and the
OTS provide that additional capital may be required to take
adequate account of, among other things, interest rate risk or
the risks posed by concentrations of credit or nontraditional
activities.
During the year ended December 31, 1998, none of the Bank
Subsidiaries was required by its primary federal regulator to
increase its capital to an amount in excess of the minimum
regulatory requirement. As of December 31, 1998, each of the
Bank Subsidiaries exceeded its minimum regulatory capital
requirements, as follows:
Total
Risk-Based Leverage Tangible
Capital Capital Capital
Ratio Ratio Ratio
--------- --------- ---------
DB&T 10.10 7.38 N/A
GSB 13.66 7.76 N/A
RCB 11.23 7.03 N/A
WCB 13.60 9.14 N/A
NMB 45.85 40.62 N/A
FCB 13.53 8.36 8.25
The OTS has proposed to amend its regulations to establish a
minimum core capital requirement of 3% of total assets for any
savings association assigned a composite rating of 1 as of the
association's most recent OTS examination, with a minimum core
capital requirement of 4% of total assets for all other savings
associations. It is not anticipated that the adoption of this
proposal would affect FCB's ability to comply with the OTS
capital requirements.
Federal law provides the federal banking regulators with broad
power to take prompt corrective action to resolve the problems of
undercapitalized institutions. The extent of the regulators'
powers depends on whether the institution in question is "well
capitalized," "adequately capitalized," "undercapitalized,"
"significantly undercapitalized" or "critically
undercapitalized," in each case as defined by regulation.
Depending upon the capital category to which an institution is
assigned, the regulators' corrective powers include: requiring
the institution to submit a capital restoration plan; limiting
the institution's asset growth and restricting its activities;
requiring the institution to issue additional capital stock
(including additional voting stock) or to be acquired;
restricting transactions between the institution and its
affiliates; restricting the interest rate the institution may pay
on deposits; ordering a new election of directors of the
institution; requiring that senior executive officers or
directors be dismissed; prohibiting the institution from
accepting deposits from correspondent banks; requiring the
institution to divest certain subsidiaries; prohibiting the
payment of principal or interest on subordinated debt; and
ultimately, appointing a receiver for the institution. As of
December 31, 1998, each of the Bank Subsidiaries was "well
capitalized," as defined by applicable regulations.
Additionally, institutions insured by the FDIC may be liable for
any loss incurred by, or reasonably expected to be incurred by,
the FDIC in connection with the default of commonly controlled
FDIC insured depository institutions or any assistance provided
by the FDIC to commonly controlled FDIC insured depository
institutions in danger of default. Because Heartland owns more
than 25% of the outstanding stock of each of the Bank
Subsidiaries, the Bank Subsidiaries are deemed to be commonly
controlled.
Dividends
In general, under applicable state law, DB&T, GSB, RCB, WCB and
NMB may not pay dividends in excess of their undivided profits.
OTS regulations impose limitations upon all capital distributions
by savings associations, including cash dividends. Under the OTS
rule that is presently in effect, an institution that exceeds all
applicable capital requirements both before and after the
proposed capital distribution (a "Tier 1 Institution") may,
after prior notice to, but without the approval of, the OTS, make
capital distributions during a calendar year in an aggregate
amount of up to the higher of (i) 100% of its net income to date
during the calendar year plus the amount that would reduce by
one-half its "surplus capital ratio" (i.e., the amounts of its
capital in excess of its capital requirements) at the beginning
of the calendar year, or (ii) 75% of its net income over the most
recent preceding four quarter period. Any additional capital
distributions would require prior OTS approval. As of December
31, 1998, FCB was a Tier 1 Institution.
The OTS has amended its regulations governing capital
distributions (including cash dividends) by savings associations.
The amended rule, which takes effect April 1, 1999, will require
prior OTS approval for any capital distribution by a savings
association that is not eligible for expedited processing under
the OTS's application processing regulations. In order to
qualify for expedited processing, a savings association must:
(i) have a composite examination rating of 1 or 2; (ii) have a
Community Reinvestment Act rating of satisfactory or better;
(iii) have a compliance rating of 1 or 2; (iv) meet all
applicable regulatory capital requirements; and (v) not have been
notified by the OTS that it is a problem association or an
association in troubled condition. Savings associations that
qualify for expedited processing will be required to obtain OTS
approval prior to making a capital distribution if: (a) the
amount of the proposed capital distribution, when aggregated with
all other capital distributions during the same calendar year,
will exceed an amount equal to the association's year-to-date net
income plus its retained net income for the preceding two years;
(b) after giving effect to the distribution, the association will
not be at least "adequately capitalized" (as defined by OTS
regulation); or (c) the distribution would violate a prohibition
contained in an applicable statute, regulation or agreement with
the OTS or the FDIC or violate a condition imposed in connection
with an OTS-approved application or notice. The amended
regulation will continue to require that the OTS be given prior
notice of certain types of capital distributions, including any
capital distribution by a savings association that, like FCB, is
a subsidiary of a holding company, or by a savings association
that, after giving effect to the distribution, would not be "well-
capitalized" (as defined by OTS regulation).
The payment of dividends by any financial institution or its
holding company is affected by the requirement to maintain
adequate capital pursuant to applicable capital adequacy
guidelines and regulations, and a financial institution generally
is prohibited from paying any dividends if, following payment
thereof, the institution would be undercapitalized. As described
above, each of the Bank Subsidiaries exceeded its minimum capital
requirements under applicable guidelines as of December 31, 1998.
Further, under applicable regulations of the OTS, FCB may not pay
dividends in an amount which would reduce its capital below the
amount required for the liquidation account established in
connection with FCB's conversion from the mutual to the stock
form of ownership in 1991. As of December 31, 1998,
approximately $33 million was available to be paid as dividends
to Heartland by the Bank Subsidiaries. Notwithstanding the
availability of funds for dividends, however, the banking
regulators may prohibit the payment of any dividends by the Bank
Subsidiaries if such payment is deemed to constitute an unsafe or
unsound practice.
Insider Transactions
The Bank Subsidiaries are subject to certain restrictions imposed
by federal law on extensions of credit to Heartland and its
subsidiaries, on investments in the stock or other securities of
Heartland and its subsidiaries and the acceptance of the stock or
other securities of Heartland or its subsidiaries as collateral
for loans. Certain limitations and reporting requirements are
also placed on extensions of credit by the Bank Subsidiaries to
their respective directors and officers, to directors and
officers of Heartland and its subsidiaries, to principal
stockholders of Heartland, and to "related interests" of such
directors, officers and principal stockholders. In addition,
federal law and regulations may affect the terms upon which any
person becoming a director or officer of Heartland or one of its
subsidiaries or a principal stockholder of Heartland may obtain
credit from banks with which one of the Bank Subsidiaries
maintains a correspondent relationship.
Safety and Soundness Standards
The federal banking agencies have adopted guidelines which
establish operational and managerial standards to promote the
safety and soundness of federally insured depository
institutions. The guidelines set forth standards for internal
controls, information systems, internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset
growth, compensation, fees and benefits, asset quality and
earnings. In addition, in October 1998, the federal banking
regulators issued safety and soundness standards for achieving
Year 2000 compliance, including standards for developing and
managing Year 2000 project plans, testing remediation efforts and
planning for contingencies.
In general, the safety and soundness guidelines prescribe the
goals to be achieved in each area, and each institution is
responsible for establishing its own procedures to achieve those
goals. If an institution fails to comply with any of the
standards set forth in the guidelines, the institution's primary
federal regulator may require the institution to submit a plan
for achieving and maintaining compliance. If an institution fails
to submit an acceptable compliance plan, or fails in any material
respect to implement a compliance plan that has been accepted by
its primary federal regulator, the regulator is required to issue
an order directing the institution to cure the deficiency. Until
the deficiency cited in the regulator's order is cured, the
regulator may restrict the institution's rate of growth, require
the institution to increase its capital, restrict the rates the
institution pays on deposits or require the institution to take
any action the regulator deems appropriate under the
circumstances. Noncompliance with the standards established by
the safety and soundness guidelines may also constitute grounds
for other enforcement action by the federal banking regulators,
including cease and desist orders and civil money penalty
assessments.
Branching Authority
Iowa law strictly regulates the establishment of bank offices.
Under the Iowa Banking Act, an Iowa state bank, such as DB&T, may
not establish a bank office outside the boundaries of the
counties contiguous to or cornering upon the county in which the
principal place of business of the bank is located. Further,
Iowa law prohibits an Iowa bank from establishing de novo
branches in a municipality other than the municipality in which
the bank's principal place of business is located, if another
bank already operates one or more offices in the municipality in
which the de novo branch is to be located. The number of offices
an Iowa bank may establish in a particular municipality is also
limited depending upon the municipality's population.
Illinois banks, such as GSB and RCB, have authority under
Illinois law to establish branches anywhere in the State of
Illinois, subject to receipt of all required regulatory
approvals. Likewise, under the laws of Wisconsin and New Mexico,
Wisconsin banks and New Mexico banks, respectively, have
statewide branching authority, subject to regulatory approval.
Under the Riegle-Neal Interstate Banking and Branching Efficiency
Act of 1994 (the "Riegle-Neal Act"), both state and national
banks are allowed to establish interstate branch networks through
acquisitions of other banks, subject to certain conditions,
including certain limitations on the aggregate amount of deposits
that may be held by the surviving bank and all of its insured
depository institution affiliates. The establishment of new
interstate branches or the acquisition of individual branches of
a bank in another state (rather than the acquisition of an out-of-
state bank in its entirety) is allowed by the Riegle-Neal Act
only if specifically authorized by state law. The legislation
allowed individual states to "opt-out" of certain provisions of
the Riegle-Neal Act by enacting appropriate legislation prior to
June 1, 1997. The laws of Iowa, Illinois, Wisconsin and New
Mexico permit interstate bank mergers, subject to certain
conditions, including a prohibition against interstate mergers
involving an Iowa, Illinois, Wisconsin or New Mexico bank,
respectively, that has been in existence and continuous operation
for fewer than five years.
Federally chartered savings associations which qualify as
"domestic building and loan associations," as defined in the
Internal Revenue Code, or meet the qualified thrift lender test
(see "-The Bank -- Qualified Thrift Lender Test") have the
authority, subject to receipt of OTS approval, to establish or
acquire branch offices anywhere in the United States. If a
federal savings association fails to qualify as a "domestic
building and loan association," as defined in the Internal
Revenue Code, and fails to meet the qualified thrift lender test
the association may branch only to the extent permitted for
national banks located in the savings association's home state.
As of December 31, 1998, First Community qualified as a "domestic
building and loan association," as defined in the Internal
Revenue Code and met the qualified thrift lender test.
State Bank Activities
Under federal law and FDIC regulations, FDIC insured state banks
are prohibited, subject to certain exceptions, from making or
retaining equity investments of a type, or in an amount, that are
not permissible for a national bank. Federal law and FDIC
regulations also prohibit FDIC insured state banks and their
subsidiaries, subject to certain exceptions, from engaging as
principal in any activity that is not permitted for a national
bank or its subsidiary, respectively, unless the bank meets, and
continues to meet, its minimum regulatory capital requirements
and the FDIC determines the activity would not pose a significant
risk to the deposit insurance fund of which the bank is a member.
These restrictions have not had, and are not currently expected
to have, a material impact on the operations of DB&T, GSB, RCB,
WCB or NMB.
Qualified Thrift Lender Test
The HOLA requires every savings association to satisfy a
"qualified thrift lender" ("QTL") test. Under the HOLA, a
savings association will be deemed to meet the QTL test if it
either (i) maintains at least 65% of its "portfolio assets" in
"qualified thrift investments" on a monthly basis in nine out of
every 12 months or (ii) qualifies as a "domestic building and
loan association," as defined in the Internal Revenue Code. For
purposes of the QTL test, "qualified thrift investments" consist
of mortgage loans, mortgage-backed securities, education loans,
small business loans, credit card loans and certain other housing
and consumer-related loans and investments. "Portfolio assets"
consist of a savings association's total assets less goodwill and
other intangible assets, the association's business properties
and a limited amount of the liquid assets maintained by the
association pursuant to the liquidity requirements of the HOLA
and OTS regulations (see "--The Bank--Liquidity Requirements").
A savings association that fails to meet the QTL test must either
convert to a bank charter or operate under certain restrictions
on its operations and activities. Additionally, within one year
following the loss of QTL status, the holding company for the
savings association will be required to register as, and will be
deemed to be, a bank holding company. A savings association that
fails the QTL test may requalify as a QTL but it may do so only
once. As of December 31, 1998, FCB satisfied the QTL test, with
a ratio of qualified thrift investments to portfolio assets of
83.87%, and qualified as a "domestic building and loan
association," as defined in the Internal Revenue Code.
Liquidity Requirements
OTS regulations currently require each savings association to
maintain, for each calendar quarter, an average daily balance of
liquid assets (including cash, certain time deposits, bankers'
acceptances, and specified United States Government, state or
federal agency obligations) equal to at least 4% of either (i)
its liquidity base (i.e., its net withdrawable accounts plus
borrowings repayable in 12 months or less) as of the end of the
preceding calendar quarter or (ii) the average daily balance of
its liquidity base during the preceding calendar quarter. This
liquidity requirement may be changed from time to time by the OTS
to an amount within a range of 4% to 10% of the liquidity base,
depending upon economic conditions and the deposit flows of
savings associations. The OTS may also require a savings
association to maintain a higher level of liquidity than the
minimum 4% requirement if the OTS deems necessary to ensure the
safe and sound operation of the association. Penalties may be
imposed for failure to meet liquidity ratio requirements. At
December 31, 1998, FCB was in compliance with OTS liquidity
requirements, with a liquidity ratio of 10.43%.
Federal Reserve System
Federal Reserve regulations, as presently in effect, require
depository institutions to maintain non-interest earning reserves
against their transaction accounts (primarily NOW and regular
checking accounts), as follows: for transaction accounts
aggregating $46.5 million or less, the reserve requirement is 3%
of total transaction accounts; and for transaction accounts
aggregating in excess of $46.5 million, the reserve requirement
is $1.395 million plus 10% of the aggregate amount of total
transaction accounts in excess of $46.5 million. The first $4.9
million of otherwise reservable balances are exempted from the
reserve requirements. These reserve requirements are subject to
annual adjustment by the Federal Reserve. The Bank Subsidiaries
are in compliance with the foregoing requirements. The balances
used to meet the reserve requirements imposed by the Federal
Reserve may be used to satisfy the liquidity requirements to
which FCB is subject under the HOLA and OTS regulations.
G. GOVERNMENTAL MONETARY POLICY AND ECONOMIC CONDITIONS
The earnings of Heartland are affected by the policies of
regulatory authorities, including the Federal Reserve System
whose monetary policies have had a significant effect on the
operating results of commercial banks in the past and are
expected to continue to do so in the future. Because of changing
conditions in the economy and in the money markets, as a result
of actions by monetary and fiscal authorities, interest rates,
credit availability and deposit levels may change due to
circumstances beyond the control of Heartland. Future policies of
the Federal Reserve System and other authorities cannot be
predicted, nor can their effect on future earnings be predicted.
ITEM 2.
PROPERTIES
The principal offices of Heartland are located in DB&T's main
office at 1398 Central Avenue, Dubuque, Iowa 52001. This office
is owned by DB&T and consists of a three-story glazed terra cotta
building constructed in 1922. The main office building currently
comprises approximately 59,500 square feet, all of which is
occupied by DB&T and Heartland. Construction of a three-story
addition of approximately 32,000 square feet was completed in
1994.
DB&T has a total of seven branch offices in addition to its main
office. Five of these offices are located in the city of Dubuque,
and three branches are located in the surrounding Iowa
communities of Epworth, Farley and Holy Cross. DB&T owns all of
its branch offices without material encumbrances, except its
branch located at Kennedy Mall. DB&T owns the buildings but
leases the land under long term agreements at its Kennedy Mall
branch and Main Street office location. The DB&T subsidiaries,
operate out of the main office.
Citizens' Dubuque office is located in the Main Street Office
location of DB&T. The Madison office for Citizens is located in
a leased building at 1771 Thierer Road, Madison, Wisconsin 53707,
and the Appleton office is located in a leased building at 740
West Northland Avenue, Appleton, Wisconsin 54914. The Loves Park
office is located in a leased building at 6345 North Second
Street, Loves Park, Illinois 61132.
GSB's main office is located at 971 Gear Street on the west side
of Galena, Illinois. Construction of this new 18,000 square foot
brick banking facility was completed in 1996. A drive-up facility
is also located in downtown Galena. One branch office is located
in Stockton, Illinois, which is located approximately 24 miles
east of Galena. Each of these offices is owned without material
encumbrances.
The main office of FCB is located at 4th and Concert Street,
Keokuk, Iowa 52632. The property was purchased by FCB in 1983 and
consists of a one-story brick building constructed in 1951. This
building comprises approximately 6,000 square feet, all of which
is occupied by FCB. During 1996, FCB opened a 2,100 square foot
branch on the northwest side of Keokuk. FCB also has one branch
office located in Carthage, Illinois, which is located
approximately 15 miles east of Keokuk, Iowa. The one-story wooden
frame building constructed in 1976 comprises approximately 3,000
square feet, all of which is occupied by FCB. Each of these
offices are owned without material encumbrances.
RCB operates from an 8,000 square foot one-story brick building
located at 6700 East Riverside Boulevard, Rockford, Illinois
61114.
The main office of WCB is located at 580 N. Main Street, Cottage
Grove, Wisconsin 53527. The property was constructed by WCB in
1972 and consists of a one-story stucco building. This building
comprises approximately 6,000 square feet, all of which is
occupied by WCB. A branch facility was purchased in Middleton,
Wisconsin in 1997. This branch facility is a one-story wood
building totaling 2,500 square feet, all of which is occupied by
WCB and is owned without material encumbrances.
NMB operates from its leased facility, an 8,665 square foot
facility at Suite 100, 6501 Americas Parkway NE, Albuquerque, New
Mexico 87110.
ULTEA leases a 1900 square foot facility at 2976 Triverton Pike,
Madison, Wisconsin 53711. During 1998, Heartland acquired all of
the assets and assumed certain liabilities of Arrow Motors, Inc.,
a Wisconsin corporation, doing business as Lease Associates Group
("LAG"). With the purchase of LAG, ULTEA operates a second leased
facility of 3000 square feet at 1433 West Silver Springs Drive,
Milwaukee, Wisconsin 53209.
ITEM 3.
LEGAL PROCEEDINGS
There are no material pending legal proceedings, other than
ordinary routine litigation incidental to the business, to which
Heartland or any of its subsidiaries is a party or of which any
of their property is the subject.
ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of 1998 to a
vote of security holders.
PART II
ITEM 5.
MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Heartland's Common Stock was held by approximately 800
shareholders of record as of March 22, 1999, and is traded in the
over-the-counter market.
The following table shows, for the periods indicated, the range
of reported prices per share of Heartland's Common Stock in the
over-the-counter market. These quotations represent inter-dealer
prices without retail markups, markdowns or commissions and do
not necessarily represent actual transactions.
Heartland Common Stock Actual
Calendar Quarter High Low
1997:
First $12 $13 3/16
Second 12 5/8 13 21/32
Third 12 1/2 15 1/4
Fourth 13 15
1998:
First $14 5/16 $16
Second 14 16 7/8
Third 15 3/4 19
Fourth 16 3/4 19
Cash dividends have been declared by Heartland quarterly during
the past two years ending December 31, 1998. The following table
sets forth the cash dividends per share paid on Heartland's
Common Stock for the past two years:
Calendar Quarter
1998 1997
First $.075 $.065
Second .075 .065
Third .08 .065
Fourth .08 .065
ITEM 6.
SELECTED FINANCIAL DATA
(Dollars in thousands, except per share data)
For the Years Ended December 31,
1998 1997 1996
--------------------------------
STATEMENT OF INCOME DATA
Interest income $ 64,517 $ 59,261 $ 51,886
Interest expense 36,304 31,767 27,644
-------- -------- --------
Net interest income 28,213 24,494 24,242
Provision for loan and
lease losses 951 1,179 1,408
-------- -------- --------
Net interest income after
provision for loan and
lease losses 27,262 26,215 22,834
Noninterest income 17,297 8,565 7,364
Noninterest expense 31,781 22,927 19,507
Provision for income taxes 3,757 3,338 2,685
-------- -------- --------
Net income $ 9,021 $ 8,515 $ 8,006
======== ======== ========
PER COMMON SHARE DATA (1)
Net income-basic $ 0.95 $ 0.90 $ 0.85
Net income-diluted 0.94 $ 0.89 0.84
Cash dividends 0.31 .26 .20
Dividend payout ratio 32.48% 28.96% 23.53%
Book value $ 8.84 $ 8.19 $ 7.42
Weighted average shares
outstanding 9,463,313 9,476,342 9,430,018
BALANCE SHEET DATA
Investments and federal
funds sold $259,964 $234,666 $183,966
Total loans and leases,
net of unearned 590,133 556,406 484,085
Allowance for loan and lease
losses 7,945 7,362 6,191
Total assets 953,785 852,060 736,552
Total deposits 717,877 623,532 558,343
Long-term obligations 57,623 43,023 42,506
Stockholders' equity 84,270 77,772 70,259
EARNINGS PERFORMANCE DATA
Return on average total assets 1.01% 1.09% 1.16%
Return on average stockholders'
equity 11.26 11.59 12.00
Net interest margin ratio (2) 3.58 3.89 3.98
ASSET QUALITY RATIOS
Nonperforming assets to total
assets 0.28% 0.34% 0.34%
Nonperforming loans and leases
to total loans and leases 0.30 0.37 0.41
Net loan and lease charge-offs
to average loans and leases 0.07 0.08 0.17
Allowance for loan and lease
losses to total loans and
leases 1.35 1.32 1.28
Allowance for loan and lease
losses to nonperforming
loans and leases 453.74 362.30 313.63
CAPITAL RATIOS
Average equity to average
assets 9.01% 9.39% 9.66%
Total capital to risk-adjusted
assets 12.13 12.71 14.28
Tier 1 leverage 8.58 8.76 9.54
SELECTED FINANCIAL DATA
(Dollars in thousands, except per share data)
For the Years Ended
December 31,
1995 1994
--------------------
STATEMENT OF INCOME DATA
Interest income $49,149 $ 43,373
Interest expense 25,529 20,128
-------- --------
Net interest income 23,620 23,245
Provision for loan and lease losses 820 811
-------- --------
Net interest income after provision
for loan and lease losses 22,800 22,434
Noninterest income 4,981 4,965
Noninterest expense 17,323 17,244
Provision for income taxes 2,884 3,015
-------- ---------
Net income $ 7,574 $ 7,140
======== ========
PER COMMON SHARE DATA (1)
Net income-basic $ 0.79 $ 0.74
Net income-diluted 0.78 0.74
Cash dividends .15 .13
Dividend payout ratio 19.03% 17.99%
Book value $ 6.88 $ 5.88
Weighted average shares
outstanding 9,610,368 9,691,296
BALANCE SHEET DATA
Investments and federal funds sold $171,726 $162,968
Total loans and leases, net of unearned 454,905 422,216
Allowance for loan and lease losses 5,580 5,124
Total assets 677,313 626,490
Total deposits 534,587 513,239
Long-term obligations 45,400 23,562
Stockholders' equity 64,506 56,930
EARNINGS PERFORMANCE DATA
Return on average total assets 1.18% 1.18%
Return on average stockholders' equity 12.28 12.82
Net interest margin ratio (2) 4.13 4.32
ASSET QUALITY RATIOS
Nonperforming assets to total assets 0.28% 0.17%
Nonperforming loans and leases
to total loans and leases 0.26 0.21
Net loan and lease charge-offs
to average loans and leases
Allowance for loan and lease losses 0.08 0.03
to total loans and leases 1.23 1.21
Allowance for loan and lease losses
to nonperforming loans and leases 463.84 580.95
CAPITAL RATIOS
Average equity to average assets 9.59% 9.22%
Total capital to risk-adjusted assets 14.46 15.04
Tier 1 leverage 9.47 9.32
(1) Per share data has been restated to reflect the two-for-one
stock split effected in the form of a stock dividend on June 30,
1998.
(2) Tax equivalent using a 34% tax rate.
ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Dollars in thousands)
The following presents management's discussion and analysis of
the consolidated financial condition and results of operations of
Heartland Financial USA, Inc. ("Heartland") as of the dates and
for the periods indicated. This discussion should be read in
conjunction with the Selected Financial Data, Heartland's
Consolidated Financial Statements and the Notes thereto and other
financial data appearing elsewhere in this report.
The consolidated financial statements include the accounts of
Heartland and its subsidiaries: Dubuque Bank and Trust Company
("DB&T"); Galena State Bank and Trust Company ("GSB"); Riverside
Community Bank ("RCB"); Wisconsin Community Bank ("WCB"); New
Mexico Bank & Trust ("NMB"); First Community Bank, FSB ("FCB");
Citizens Finance Co. ("Citizens"); ULTEA, Inc. ("ULTEA"); DB&T
Insurance, Inc.; DB&T Community Development Corp.; DBT Investment
Corporation and Keokuk Bancshares, Inc. (dba KBS Investment
Corp.). All of Heartland's subsidiaries are wholly-owned except
for NMB, of which Heartland is an 80% owner.
This report contains certain forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934,
as amended. Heartland intends such forward-looking statements to
be covered by the safe harbor provisions for forward-looking
statements contained in the Private Securities Reform Act of
1995, and is including this statement for purposes of these safe
harbor provisions. Forward-looking statements, which are based
on certain assumptions and describe future plans, strategies and
expectations of Heartland are generally identifiable by use of
the words "believe," "expect," "intend," "anticipate,"
"estimate," "project" or similar expressions. Heartland's
ability to predict results or the actual effect of future plans
or strategies is inherently uncertain. Factors which could have
a material adverse affect on the operations and future prospects
of Heartland and the subsidiaries include, but are not limited
to, changes in: interest rates, general economic conditions,
legislative/regulatory changes, monetary and fiscal policies of
the U.S. Government, including policies of the U.S. Treasury and
the Federal Reserve Board, the quality or composition of the loan
or investment portfolios, demand for loan products, deposit
flows, competition, demand for financial services in Heartland's
market area and accounting principles, policies and guidelines.
These risks and uncertainties should be considered in evaluating
forward-looking statements and undue reliance should not be
placed on such statements. Further information concerning
Heartland and its business, including additional factors that
could materially affect Heartland's financial results, is
included in Heartland's filings with the Securities and Exchange
Commission.
OVERVIEW
Heartland recorded its eighth consecutive year of increased
annual earnings during 1998, up $506 or 5.94% from 1997. On a
basic per common share basis, the 1998 earnings increased 5.56%.
Return on common equity was 11.26% and return on assets was 1.01%
for 1998 compared to 11.59% and 1.09% for 1997, respectively. Net
income increased $509 or 6.36% in 1997 from 1996. On a basic per
common share basis, 1997 net income increased 5.88% from 1996.
Return on common equity was 11.59% and return on assets was 1.09%
for 1997 compared to 12.00% and 1.16%, respectively, for 1996.
These sustained increases in earnings are particularly gratifying
given the additional overhead expended to develop the growth
initiatives which Heartland had underway during the previous two
years. Total assets grew $101,725 or 11.94% to $953,785 at
December 31, 1998, and $115,508 or 15.68% to $852,060 at December
31, 1997. At the same time, total deposits increased $94,345 or
15.13% during 1998 and $65,189 or 11.68% during 1997. Loans and
leases were up $33,727 or 6.06% at December 31, 1998, and $72,321
or 14.94% at December 31, 1997. The initiatives undertaken to
generate this growth and sustain earnings included:
The spring 1998 de novo expansion into Albuquerque, New Mexico
with NMB.
Expansion into the vehicle leasing and fleet management
business with the purchase of ULTEA in late 1996 and Lease
Associates Group ("LAG") in the summer of 1998.
The 1997 acquisition of WCB and its early 1998 opening of a
branch facility in Middleton, Wisconsin.
The conversion of all Heartland banks to new banking software
in early 1997.
Enhancement of banking operations at RCB, Heartland's 1995 de
novo banking operation in Rockford, Illinois.
RESULTS OF OPERATIONS
NET INTEREST INCOME
Net interest income is the difference between interest income
earned on earning assets and interest expense paid on interest
bearing liabilities. As such, net interest income is affected by
changes in the volume and yields on earning assets and the volume
and rates paid on interest bearing liabilities. Net interest
margin is the ratio of tax equivalent net interest income to
average earning assets.
Net interest income on a fully tax equivalent basis was $28,999,
$28,280 and $25,476 for 1998, 1997 and 1996, respectively, an
increase of 2.54% for 1998 and 11.01% for 1997. Expressed as a
percentage of average earning assets, Heartland's net interest
margin decreased to 3.58% in 1998 and 3.89% in 1997, compared to
3.98% in 1996. These decreases occurred for several reasons:
As a result of the acquisitions of ULTEA and LAG, additional
interest expense was incurred on debt utilized to fund the
vehicles under operating leases while the income derived from
these leases is recorded as noninterest income.
A decline and flattening of the yield curve resulted in an
acceleration of paydowns in the mortgage-backed securities and
loan portfolio and pressure from loan customers to lower rates
charged on their balances.
The return on Heartland's securities portfolio declined as
several higher-yielding securities matured or were called and
the average life of the portfolio was reduced as prepayments
accelerated on the mortgage-backed securities portfolio.
Growth in noninterest bearing deposits remained relatively
flat during 1997.
Heartland continues to manage its balance sheet on a proactive
basis. The following table sets forth certain information
relating to Heartland's average consolidated balance sheets and
reflects the yield on average earning assets and the cost of
average interest bearing liabilities for the years indicated.
Such yields and costs are derived by dividing income or expense
by the average balance of assets or liabilities. Average balances
are derived from daily balances, and nonaccrual loans are
included in each respective loan category.
ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS AND RATES (1)
For the Year Ended
December 31, 1998
Average
Balance Interest Rate
------- -------- ----
EARNING ASSETS
Securities:
Taxable $196,206 $ 11,515 5.87%
Nontaxable (1) 20,507 1,716 8.37
--------- --------- ------
Total securities 216,713 13,231 6.11
--------- --------- ------
Interest bearing deposits 8,313 386 4.64
Federal funds sold 29,830 1,582 5.30
--------- --------- ------
Loans and leases:
Commercial and commercial
real estate (1) 249,326 21,523 8.63
Residential mortgage 162,545 12,854 7.91
Agricultural and agricultural
real estate (1) 75,685 6,751 8.92
Consumer 66,138 6,702 10.13
Direct financing leases, net 8,367 625 7.47
Fees on loans - 1,649 -
Less: allowance for loan
and lease losses (7,944) - -
--------- --------- ------
Net loans and leases 554,117 50,104 9.04
--------- --------- ------
Total earning assets 808,973 65,303 8.07
--------- --------- ------
NONEARNING ASSETS
Total nonearning assets 80,317 - -
--------- --------- ------
TOTAL ASSETS $889,290 $ 65,303 7.34%
========= ========= ======
INTEREST BEARING LIABILITIES
Interest bearing deposits:
Savings accounts $266,282 $ 9,512 3.57%
Time, $100,000 and over 51,283 2,905 5.66
Other time deposits 282,142 16,228 5.75
Short-term borrowings 78,484 4,076 5.19
Other borrowings 56,137 3,583 6.38
--------- --------- ------
Total interest bearing
liabilities 734,328 36,304 4.94
--------- --------- ------
NONINTEREST BEARING LIABILITIES
Noninterest bearing deposits 60,514 - -
Accrued interest and other
liabilities 14,343 - -
--------- --------- ------
Total noninterest bearing
liabilities 74,857 - -
--------- --------- ------
Stockholders' Equity 80,105 - -
--------- --------- ------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $889,290 $ 36,304 4.08%
========= ========= ======
Net interest income (1) $ 28,999
=========
Net interest income
to total earning assets (1) 3.58%
======
Interest bearing liabilities
to earning assets 90.77%
=========
(1) Tax equivalent basis is calculated using an effective tax
rate of 34%.
ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS AND RATES (1)
For the Year Ended
December 31, 1997
Average
Balance Interest Rate
------- -------- ----
EARNING ASSETS
Securities:
Taxable $169,086 $ 10,393 6.15%
Nontaxable (1) 19,700 1,773 9.00
--------- --------- ------
Total securities 188,786 12,166 6.44
--------- --------- ------
Interest bearing deposits 2,972 98 3.30
Federal funds sold 12,570 681 5.42
--------- --------- ------
Loans and leases:
Commercial and commercial
real estate (1) 222,157 19,683 8.86
Residential mortgage 178,362 14,083 7.90
Agricultural and agricultural
real estate (1) 66,294 6,037 9.11
Consumer 55,218 5,672 10.27
Direct financing leases, net 6,739 501 7.43
Fees on loans - 1,126 -
Less: allowance for loan
and lease losses (6,998) - -
--------- --------- ------
Net loans and leases 521,772 47,102 9.03
--------- --------- ------
Total earning assets 726,100 60,047 8.27
--------- --------- ------
NONEARNING ASSETS
Total nonearning assets 56,596 - -
--------- --------- ------
TOTAL ASSETS $782,696 $ 60,047 7.67%
========= ========= ======
INTEREST BEARING LIABILITIES
Interest bearing deposits:
Savings accounts $237,730 $ 8,317 3.50%
Time, $100,000 and over 34,913 1,961 5.62
Other time deposits 268,201 15,487 5.77
Short-term borrowings 70,313 3,740 5.32
Other borrowings 36,406 2,262 6.21
--------- --------- ------
Total interest bearing
liabilities 647,563 31,767 4.91
--------- --------- ------
NONINTEREST BEARING LIABILITIES
Noninterest bearing deposits 51,770 - -
Accrued interest and other
liabilities 9,906 - -
--------- --------- ------
Total noninterest bearing
liabilities 61,676 - -
--------- --------- ------
Stockholders' Equity 73,457 - -
--------- --------- ------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $782,696 $ 31,767 4.06%
========= ========= ======
Net interest income (1) $ 28,280
=========
Net interest income
to total earning assets (1) 3.89%
======
Interest bearing liabilities
to earning assets 89.18%
=========
(1) Tax equivalent basis is calculated using an effective tax
rate of 34%.
ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS AND RATES (1)
For the Year Ended
December 31, 1996
Average
Balance Interest Rate
------- -------- ----
EARNING ASSETS
Securities:
Taxable $136,107 $ 8,392 6.17%
Nontaxable (1) 31,005 3,108 10.02
--------- --------- ------
Total securities 167,112 11,500 6.88
--------- --------- ------
Interest bearing deposits 4,332 163 3.76
Federal funds sold 11,532 610 5.29
--------- --------- ------
Loans and leases:
Commercial and commercial
real estate (1) 195,372 17,058 8.73
Residential mortgage 160,511 12,637 7.87
Agricultural and agricultural
real estate (1) 58,975 5,377 9.12
Consumer 41,302 4,250 10.29
Direct financing leases, net 7,502 549 7.32
Fees on loans - 976 -
Less: allowance for loan
and lease losses (6,026) - -
--------- --------- ------
Net loans and leases 457,636 40,847 8.93
--------- --------- ------
Total earning assets 640,612 53,120 8.29
--------- --------- ------
NONEARNING ASSETS
Total nonearning assets 50,473 - -
--------- --------- ------
TOTAL ASSETS $691,085 $ 53,120 7.69%
========= ========= ======
INTEREST BEARING LIABILITIES
Interest bearing deposits:
Savings accounts $214,401 $ 7,474 3.49%
Time, $100,000 and over 37,806 2,131 5.64
Other time deposits 239,300 13,585 5.68
Short-term borrowings 37,100 1,943 5.24
Other borrowings 41,936 2,511 5.99
--------- --------- ------
Total interest bearing
liabilities 570,543 27,644 4.85
--------- --------- ------
NONINTEREST BEARING LIABILITIES
Noninterest bearing deposits 45,205 - -
Accrued interest and other
liabilities 8,606 - -
--------- --------- ------
Total noninterest bearing
liabilities 53,811 - -
--------- --------- ------
Stockholders' Equity 66,731 - -
--------- --------- ------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $691,085 $ 27,644 4.00%
========= ========= ======
Net interest income (1) $ 25,476
=========
Net interest income
to total earning assets (1) 3.98%
======
Interest bearing liabilities
to earning assets 89.06%
=========
(1) Tax equivalent basis is calculated using an effective tax
rate of 34%.
The following table allocates the changes in net interest income
to differences in either average balances or average rates for
earning assets and interest bearing liabilities. The changes have
been allocated proportionately to the change due to volume and
change due to rate. Interest income is measured on a tax
equivalent basis using a 34% tax rate.
ANALYSIS OF CHANGES IN NET INTEREST INCOME
For the Year Ended
December 31,
1998 Compared to 1997
Change Due to
Volume Rate Net
-----------------------
EARNING ASSETS/INTEREST INCOME
Securities
Taxable $1,668 $ (546) $1,122
Nontaxable 72 (129) (57)
Interest bearing deposits 176 112 288
Federal funds sold 935 (34) 901
Loans and leases 2,920 82 3,002
------- ------- -------
TOTAL EARNING ASSETS 5,771 (515) 5,256
LIABILITIES/INTEREST EXPENSE
Interest bearing deposits
Savings accounts 999 196 1,195
Time, $100,000 and over 919 25 944
Other time deposits 805 (64) 741
Short-term borrowings 435 (99) 336
Other borrowings 1,226 95 1,321
------- ------- -------
TOTAL INTEREST BEARING
LIABILITIES 4,384 153 4,537
------- ------- -------
NET INTEREST INCOME $1,387 $ (668) $ 719
======= ======= =======
ANALYSIS OF CHANGES IN NET INTEREST INCOME
For the Year Ended
December 31,
1997 Compared to 1996
Change Due to
Volume Rate Net
-----------------------
EARNING ASSETS/INTEREST INCOME
Securities
Taxable $2,033 $ (32) $2,001
Nontaxable (1,133) (202) (1,335)
Interest bearing deposits (51) (14) (65)
Federal funds sold 55 16 71
Loans and leases 5,725 530 6,255
------- ------- -------
TOTAL EARNING ASSETS 6,629 298 6,927
LIABILITIES/INTEREST EXPENSE
Interest bearing deposits
Savings accounts 813 30 843
Time, $100,000 and over (163) (7) (170)
Other time deposits 1,641 261 1,902
Short-term borrowings 1,739 58 1,797
Other borrowings (331) 82 (249)
------- ------- -------
TOTAL INTEREST BEARING
LIABILITIES 3,699 424 4,123
------- ------- -------
NET INTEREST INCOME $2,930 $ (126) $2,804
======= ======= =======
ANALYSIS OF CHANGES IN NET INTEREST INCOME
For the Year Ended
December 31,
1996 Compared to 1995
Change Due to
Volume Rate Net
-----------------------
EARNING ASSETS/INTEREST INCOME
Securities
Taxable $1,260 $ (430) $ 830
Nontaxable 574 (137) 437
Interest bearing deposits 48 (1) 47
Federal funds sold (71) (59) (130)
Loans and leases 1,456 230 1,686
------- ------- -------
TOTAL EARNING ASSETS 3,267 (397) 2,870
LIABILITIES/INTEREST EXPENSE
Interest bearing deposits
Savings accounts 286 (150) 136
Time, $100,000 and over 425 48 473
Other time deposits 296 256 552
Short-term borrowings 883 (176) 707
Other borrowings 285 (38) 247
------- ------- -------
TOTAL INTEREST BEARING
LIABILITIES 2,175 (60) 2,115
------- ------- -------
NET INTEREST INCOME $1,092 $(337) $ 755
======= ======= =======
PROVISION FOR LOAN AND LEASE LOSSES
The provision for loan and lease losses decreased $328 or 25.65%
during 1998 and $129 or 9.16% during 1997. During 1996,
additional provision resulted from a $469 writedown in the
commercial loan portfolio at FCB on a pool of leases purchased
from the Bennett Funding Group. During 1998, provision was
reduced as a result of a $357 recovery on this same pool of
leases. The allowance for loan and lease losses as a percentage
of total loans and leases increased to 1.35% at December 31,
1998, from 1.32% at December 31, 1997 and 1.28% at December 31,
1996.
NONINTEREST INCOME
For the Years Ended
December 31,
1998 1997 1996
------------------------
Service charges and fees $ 3,013 $ 2,723 $ 2,437
Trust fees 2,284 2,009 1,810
Brokerage commissions 413 324 212
Insurance commissions 751 563 650
Securities gains, net 1,897 1,446 1,889
Rental income on operating leases 7,428 811 -
Gains on sale of loans 1,212 373 131
Other noninterest income 299 316 235
-------- -------- --------
Total noninterest income $17,297 $ 8,565 $ 7,364
======== ======== ========
The above table shows Heartland's noninterest income for the
years indicated. Total noninterest income increased $8,732 or
101.95% during 1998, as compared to an increase of $1,201 or
16.31% during 1997.
Expansion into the vehicle leasing and fleet management business
was responsible for the significant growth in noninterest income
during both years. Rental income on operating leases accounted
for 75.78% and 67.53% of the change in 1998 and 1997,
respectively. ULTEA's first full year of operation as a
Heartland subsidiary occurred in 1997. During the third quarter
of 1998, LAG was acquired and subsequently merged into ULTEA.
Gains on sale of loans increased $839 or 224.93% during 1998 and
$242 or 184.73% during 1997. Heartland experienced refinancing
activity in its real estate mortgage loan portfolio, especially
during 1998, as a result of decreasing interest rates. The
majority of these new fixed rate 15- and 30-year real estate
loans were sold into the secondary market.
Securities gains increased $451 or 31.19% during 1998 compared to
1997 and were attributable to the strong performance of
Heartland's equity portfolio. During 1997, securities gains
decreased $443 or 23.45% compared to 1996. A gain of $1,174 on
the sale of Federal Home Loan Mortgage Corporation common stock
held in the investment portfolio at FCB was recorded in 1996.
Heartland was able to sustain a portion of those gains during
1997 due to its equity portfolio performance.
Emphasis during the past several years on enhancing revenues from
services provided to customers has influenced the growth of fee
income. Service charges, trust fees and brokerage commissions
all increased by more than 10% during each of the past two years.
NONINTEREST EXPENSE
For the Years Ended
December 31,
1998 1997 1996
------------------------
Salaries and employee
benefits $15,218 $13,070 $11,035
Occupancy, net 1,695 1,354 1,268
Furniture and equipment 1,998 1,537 1,236
Outside services 1,416 1,439 1,155
FDIC deposit insurance
assessment 118 116 746
Advertising 1,150 826 996
Depreciation on equipment under
operating leases 5,296 584 -
Other noninterest expense 4,890 4,001 3,071
-------- -------- --------
Total noninterest expense $31,781 $22,927 $19,507
======== ======== ========
Efficiency ratio (1) 71.58% 64.77% 63.03%
======== ======== ========
(1) Noninterest expense divided by the sum of net interest
income and noninterest income less securities gains.
The above table shows Heartland's noninterest expense for the
years indicated. Noninterest expense increased $8,854 or 38.62%
in 1998 as compared to 1997. Total 1997 noninterest expense
represented an increase of $3,420 or 17.53% from the 1996 total.
The largest component of the increase in noninterest expense
during 1998 was related to the addition of LAG to the ULTEA
operations, as depreciation on equipment under operating leases
increased $4,712 or 806.85%. During 1997, the depreciation on
equipment under operating leases accounted for $584 of the change
in noninterest expense. Exclusive of depreciation on equipment
under operating leases, the change in noninterest expense during
1998 was $4,142 or 18.54%.
Salaries and employee benefits expense continued to experience
increases during both 1998 and 1997, growing $2,148 or 16.43% and
$2,035 or 18.44%, respectively. In addition to the normal merit
and cost of living raises, these increases were attributable to
Heartland's continued expansion efforts, particularly the
additions of NMB, WCB and ULTEA.
In addition to the increases experienced in salaries and employee
benefits, the expansion efforts underway during the past two
years have resulted in additional occupancy, furniture and
equipment and advertising/public relations costs. These expenses
increased $1,126 or 30.29% during 1998 and $217 or 6.20% during
1997. Exclusive of a one-time contribution of stock from FCB's
securities portfolio to a public charitable trust at a cost basis
of $220 during 1996, these costs increased $437 or 13.32% during
1997.
Other noninterest expenses grew $889 or 22.22% during 1998
compared to an increase of $930 or 30.28% during 1997.
Amortization and maintenance expense on software have contributed
to this increase primarily due to the conversion of the bank
subsidiaries to Fiserv's Comprehensive Banking Systems during the
spring of 1997.
Federal Deposit Insurance Corporation ("FDIC") premium expense
decreased $630 (84.45%) during 1997 compared to 1996. The one-
time special assessment on all savings associations to capitalize
the Savings Association Insurance Fund ("SAIF") amounted to $545
at FCB and was recorded during 1996. Also contributing to this
change was the reduction in FDIC premium expense on January 1,
1997, at FCB when the assessment for SAIF members dropped from
.23% to .065% of deposits.
INCOME TAXES
Income tax expense increased $419 or 12.55% for 1998 and $653 or
24.32% for 1997. The effective tax rate increased from 25.11% in
1996, to 28.16% in 1997 and 29.40% in 1998. Reductions in tax-
exempt income contributed to these increases.
FINANCIAL CONDITION
LENDING ACTIVITIES
Heartland's major source of income is interest on loans and
leases. The table below presents the composition of Heartland's
loan portfolio at the end of the years indicated.
LOAN PORTFOLIO
December 31,
1998 1997
Amount Percent Amount Percent
------ ------- ------ -------
Commercial and commercial
real estate $277,765 46.88% $242,868 43.46%
Residential mortgage 156,415 26.40 175,268 31.37
Agricultural and
agricultural real estate 77,211 13.03 69,302 12.40
Consumer 72,642 12.26 64,223 11.49
Lease financing, net 8,508 1.43 7,171 1.28
-------- ------- -------- -------
Gross loans and leases 592,541 100.00% 558,832 100.00%
======= =======
Unearned discount (2,136) (2,077)
Deferred loan fees (272) (349)
--------- ---------
Total loans and leases 590,133 556,406
Allowance for loan and
lease losses (7,945) (7,362)
--------- ---------
Loans and leases, net $582,188 $549,044
========= =========
LOAN PORTFOLIO
December 31,
1996 1995
Amount Percent Amount Percent
------ ------- ------ -------
Commercial and commercial
real estate $206,523 42.46% $191,866 42.00%
Residential mortgage 166,999 34.33 158,324 34.66
Agricultural and
agricultural real estate 57,526 11.83 59,089 12.94
Consumer 48,361 9.94 38,988 8.54
Lease financing, net 7,042 1.44 8,530 1.86
-------- ------- -------- -------
Gross loans and leases 486,451 100.00% 456,797 100.00%
======= =======
Unearned discount (1,962) (1,510)
Deferred loan fees (404) (382)
--------- ---------
Total loans and leases 484,085 454,905
Allowance for loan and
lease losses (6,191) (5,580)
--------- ---------
Loans and leases, net $477,894 $449,325
========= =========
LOAN PORTFOLIO
December 31,
1994
Amount Percent
------ -------
Commercial and commercial
real estate $170,998 40.32%
Residential mortgage 150,147 35.41
Agricultural and
agricultural real estate 56,736 13.38
Consumer 36,068 8.51
Lease financing, net 10,076 2.38
-------- -------
Gross loans and leases 424,025 100.00%
=======
Unearned discount (1,438)
Deferred loan fees (371)
---------
Total loans and leases 422,216
Allowance for loan and
lease losses (5,124)
---------
Loans and leases, net $417,092
=========
The table below sets forth the remaining maturities by loan and
lease category.
MATURITY AND RATE SENSITIVITY OF LOANS AND LEASES (1)
December 31, 1998
Over 1 Year
Through 5 Years
One Year Fixed Floating
or less Rate Rate
------------------------------
Commercial and commercial
real estate $115,214 $102,354 $ 29,232
Residential mortgage 62,947 22,622 28,761
Agricultural and
agricultural real estate 35,278 28,707 6,163
Consumer 18,618 35,961 7,514
Lease financing, net 2,571 5,737 -
-------- -------- --------
Total $234,628 $195,381 $ 71,670
======== ======== ========
Over 5 Years
Fixed Floating
Rate Rate Total
-------------------------------
Commercial and commercial
real estate $ 7,838 $ 23,127 $277,765
Residential mortgage 12,891 29,194 156,415
Agricultural and
agricultural real estate 2,279 4,784 77,211
Consumer 3,706 6,843 72,642
Lease financing, net 200 - 8,508
-------- -------- --------
Total $ 26,914 $ 63,948 $592,541
======== ======== ========
(1) Maturities based upon contractual dates.
Net loans and leases grew $33,144 or 6.04% from December 31,
1997, to December 31, 1998, compared to $71,150 or 14.89% from
December 31, 1996, to December 31, 1997. The opening of NMB
accounted for $28,829 or 86.98% of the growth during 1998 while
the WCB acquisition accounted for $22,906 or 32.19% of the growth
during 1997.
During both years, the largest dollar growth occurred in
commercial and commercial real estate loans, which increased
$34,897 or 14.37% during 1998 and $36,345 or 17.60% during 1997.
NMB made up $22,860 or 65.51% of the 1998 growth while WCB
accounted for $10,789 or 29.68% of the 1997 growth in this loan
category.
Consumer loan outstandings grew $8,419 or 13.11% during 1998.
Loans at NMB made up $2,721 or 32.32% of this change. Exclusive
of the WCB loan portfolio, consumer loan outstandings grew
$11,474 or 23.73% during 1997. These increases were attributed
to significant growth in consumer lines of credit and dealer
paper.
Agricultural and agricultural real estate loans experienced
$7,909 or 11.41% growth during 1998. This same loan category,
exclusive of WCB, grew $10,569 or 18.37% during 1997. These
increases reflected the solid reputation and expertise DB&T has
developed in agricultural lending, combined with continued
calling efforts.
Residential mortgage loan outstandings, the only loan category to
experience a decrease during 1998, declined $18,853 or 10.76%.
This decrease occurred as customers chose fixed rate 15- and 30-
year mortgages which the subsidiary banks elected to sell into
the secondary market. In 1997, exclusive of WCB, Heartland's
total outstanding residential mortgage loans increased $1,406 or
.84%.
Although the risk of nonpayment for any reason exists with
respect to all loans, specific risks are associated with each
type of loan. The primary risks associated with commercial and
agricultural loans are the quality of the borrower's management
and the impact of national and regional economic factors. Risks
associated with real estate loans include fluctuating land values
and concentrations of loans in a specific type of real estate.
Consumer loans also have risks associated with concentrations of
loans in a single type of loan and the risk of a borrower's
unemployment as a result of deteriorating economic conditions.
Heartland monitors its loan concentrations and does not believe
it has concentrations in any specific industry other than
agriculture.
Heartland's strategy with respect to the management of these
types of risks, whether loan demand is weak or strong, is to
encourage the Heartland banks to follow tested and prudent loan
policies and underwriting practices which include: (i) granting
loans on a sound and collectible basis; (ii) investing funds
profitably for the benefit of stockholders and the protection of
depositors; (iii) serving the needs of the community and each
bank's general market area while obtaining a balance between
maximum yield and minimum risk; (iv) ensuring that primary and
secondary sources of repayment are adequate in relation to the
amount of the loan; (v) administering loan policies through a
Board of Directors and an officers' loan committee; (vi)
developing and maintaining adequate diversification of the loan
portfolio as a whole and of the loans within each loan category;
and (vii) ensuring that each loan is properly documented and, if
appropriate, guaranteed by government agencies and that insurance
coverage is adequate.
NONPERFORMING LOANS AND LEASES AND OTHER NONPERFORMING ASSETS
The table below sets forth the amounts of nonperforming loans and
leases and other nonperforming assets on the dates indicated.
NONPERFORMING ASSETS
December 31,
1998 1997 1996 1995 1994
----------------------------------
Nonaccrual loans and
leases $1,324 $1,819 $1,697 $ 977 $ 748
Loan and leases
contractually past
due 90 days or more 426 187 247 226 134
Restructured loans
and leases - 26 30 - -
------ ------ ------ ------ ------
Total nonperforming
loans and leases 1,750 2,032 1,974 1,203 882
Other real estate 857 774 532 640 134
Other repossessed assets 77 124 21 51 39
------ ------ ------ ------ ------
Total nonperforming assets $2,684 $2,930 $2,527 $1,894 $1,055
====== ====== ====== ====== ======
Nonperforming loans and
leases to total loans
and leases 0.30% 0.37% 0.41% 0.26% 0.21%
Nonperforming assets
to total loans and
leases plus repossessed
property 0.45% 0.53% 0.52% 0.42% 0.25%
Nonperforming assets to
total assets 0.28% 0.34% 0.34% 0.28% 0.17%
Under Heartland's internal loan review program, a loan review
officer is responsible for reviewing existing loans and leases,
identifying potential problem loans and leases and monitoring the
adequacy of the allowance for possible loan and lease losses at
each of the Heartland banks.
Heartland constantly monitors and continues to develop systems to
oversee the quality of its loan portfolio. One integral part is a
loan rating system which assigns a rating on each loan and lease
within the portfolio based on the borrower's repayment ability,
collateral position and repayment history. This emphasis on
quality is reflected in Heartland's credit quality figures which
compare very favorably to peer data in the September 1998 Bank
Holding Company Performance Report published by the Federal
Reserve Board for bank holding companies with assets of $500
million to $1 billion. In this report, the peer group reported
nonperforming assets to total assets of .49% and .50% for
September 30, 1998, and December 31, 1997, respectively.
Heartland's ratios at December 31, 1998 and 1997, were .28% and
.34%, respectively.
ALLOWANCE FOR LOAN AND LEASE LOSSES
The adequacy of the allowance for loan and lease losses is
determined by an internally-developed system which equally weighs
formulas established by the Office of the Comptroller of the
Currency and the Bank Administration Institute, in addition to
Heartland's historical charge-offs. This system addresses loan
portfolio composition, loan and lease delinquencies, potential
and existing internally classified credits and other factors
that, in management's judgment, deserve evaluation in estimating
loan and lease losses. The adequacy of the allowance for loan and
lease losses is monitored on an ongoing basis by the loan review
staff, senior management and the Heartland Board of Directors.
Heartland increased its allowance for loan and lease losses
during 1998 and 1997 due to a number of factors considered by the
Heartland Loan Review Committee, including the following: (i) a
continued increase in higher-risk consumer and more-complex
commercial and agricultural loans from relatively lower-risk
residential real estate loans; (ii) the entrance into new markets
in which Heartland had little or no previous lending experience;
and (iii) the economies in Heartland's primary market areas have
been stable for some time and the growth of the allowance is
intended to anticipate the cyclical nature of most economies.
There can be no assurances that the allowance for loan and lease
losses will be adequate to cover all losses, but management
believes that the allowance for loan and lease losses was
adequate at December 31, 1998. While management uses available
information to provide for loan and lease losses, the ultimate
collectibility of a substantial portion of the loan portfolio and
the need for future additions to the allowance will be based on
changes in economic conditions. In addition, various regulatory
agencies, as an integral part of their examination process,
periodically review the allowance for loan and lease losses
carried by the Heartland subsidiaries. Such agencies may require
Heartland to make additional provisions to the allowance based
upon their judgment about information available to them at the
time of their examinations.
The table below summarizes activity in the allowance for loan and
lease losses for the years indicated, including amounts of loans
and leases charged off, amounts of recoveries, additions to the
allowance charged to income and the ratio of net charge-offs to
average loans and leases outstanding.
ANALYSIS OF ALLOWANCE FOR LOAN AND LEASE LOSSES
December 31,
1998 1997 1996 1995 1994
--------------------------------------
Allowance at
beginning of year $7,362 $6,191 $5,580 $5,124 $4,433
Charge-offs:
Commercial and
commercial real
estate 289 93 578 108 94
Residential mortgage 20 21 23 6 16
Agricultural and
agricultural real
estate 41 21 2 - -
Consumer 473 449 323 381 244
Lease financing - - - - -
------ ------ ------ ------ ------
Total charge-offs 823 584 926 495 354
------ ------ ------ ------ ------
Recoveries:
Commercial and
commercial
real estate 372 36 16 22 27
Residential mortgage - 8 1 15 5
Agricultural and
agricultural
real estate 1 2 45 8 43
Consumer 82 99 67 86 148
Lease financing - - - - -
------ ------ ------ ------ ------
Total recoveries 455 145 129 131 223
------ ------ ------ ------ ------
Net charge-offs 368 439 797 364 131
Provision for loan
and lease losses 951 1,279 1,408 820 811
Additions related
to acquisitions - 331 - - -
Keokuk merger
adjustments - - - - 11
------ ------ ------ ------ ------
Allowance at end
of period $7,945 $7,362 $6,191 $5,580 $5,124
====== ====== ====== ====== ======
Net charge-offs to
average loans and
leases 0.07% 0.08% 0.17% 0.08% 0.03%
====== ====== ====== ====== ======
The table below shows Heartland's allocation of the allowance for
loan and lease losses by types of loans and leases and the amount
of unallocated reserves.
ALLOCATION OF ALLOWANCE FOR LOAN AND LEASE LOSSES
As of December 31,
1998 1997
---------------------------------------
Loan/ Loan/
Lease Lease
Category Category
to Gross to Gross
Loans & Loans &
Amount Leases Amount Leases
------ --------- ------ ---------
Commercial and
commercial real
estate $2,180 46.88% $1,889 43.46%
Residential
mortgage 697 26.40 725 31.37
Agricultural and
agricultural real
estate 583 13.03 577 12.40
Consumer 1,096 12.26 1,044 11.49
Lease financing(1) 44 1.43 30 1.28
Unallocated 3,345 - 3,097 -
------- ------- ------- -------
$7,945 100.00% $7,362 100.00%
======= ======= ======= =======
ALLOCATION OF ALLOWANCE FOR LOAN AND LEASE LOSSES
As of December 31,
1996 1995
---------------------------------------
Loan/ Loan/
Lease Lease
Category Category
to Gross to Gross
Loans & Loans &
Amount Leases Amount Leases
------ --------- ------ ---------
Commercial and
commercial real
estate $1,568 42.46% $1,430 42.00%
Residential
mortgage 590 34.33 500 34.66
Agricultural and
agricultural real
estate 480 11.83 518 12.94
Consumer 818 9.94 618 8.54
Lease financing(1) 28 1.44 34 1.86
Unallocated 2,707 - 2,480 -
------- ------- ------- -------
$6,191 100.00% $5,580 100.00%
======= ======= ======= =======
ALLOCATION OF ALLOWANCE FOR LOAN AND LEASE LOSSES
As of December 31, 1994
--------------------------
Loan/
Lease
Category
to Gross
Loans &
Amount Leases
------- --------
Commercial and commercial
real estate $1,321 40.32%
Residential mortgage 501 35.41
Agricultural and agricultural
real estate 423 13.38
Consumer 593 8.51
Lease financing(1) 45 2.38
Unallocated 2,241 -
------- -------
$5,124 100.00%
======= =======
SECURITIES
The primary objective of the securities portfolio continues to be
to provide the Heartland bank subsidiaries with a source of
liquidity given their high loan-to-deposit ratios. Securities
represented 25.42% of total assets at December 31, 1998, as
compared to 23.68% at December 31, 1997 and 24.98% at December
31, 1996.
To maximize the return on the portfolio, as treasury securities
matured during 1998 and 1997, many of the replacement purchases
were made in U.S. government agencies and fixed-rate
collateralized mortgage obligations ("CMO's"). During 1998 and
1997, the portion of the securities portfolio held in U.S.
treasuries decreased to .71% and 6.62%, respectively, compared to
7.67% at December 31, 1996. Heartland continued to purchase
tightly structured tranches in well-seasoned CMO's to reduce its
exposure to prepayments. These investments closely resemble
treasury securities in their repayment predictability and
accordingly are less volatile to interest rate fluctuations,
while still providing an increased spread when compared to U.S.
treasuries with similar maturities. The state tax-exempt nature
on selected U.S. government agencies made them attractive
purchases for Heartland's Illinois bank subsidiaries.
The tables below presents the composition and maturities of the
securities portfolio by major category.
SECURITIES PORTFOLIO COMPOSITION
December 31,
1998 1997 1996
-----------------------------------------------
% of % of % of
Portfolio Portfolio Portfolio
Amount Amount Amount
-------------------------------------------------
U. S. Treasury
securities $ 1,709 0.71% $ 13,342 6.62% $ 14,117 7.67%
U. S. government
agencies 77,361 31.90 64,360 31.90 61,332 33.34
Mortgage-backed
securities 128,317 52.92 87,015 43.13 75,017 40.78
States and
political
subdivisions 21,536 8.88 20,702 10.26 18,812 10.23
Other securities 13,565 5.59 16,329 8.09 14,688 7.98
-------- ------ ------- ------ -------- ------
Total $242,488 100.00% $201,748 100.00% $183,966 100.00%
======== ======= ======== ======= ======== =======
SECURITIES PORTFOLIO COMPOSITION
Held to Maturity Available for Sale
% of % of
December 31, 1998 Amount Portfolio Amount Portfolio
---------------------------------------
U.S. Treasury
securities $ - -% $ 1,709 0.71%
U.S. government
agencies - - 77,361 31.90
Mortgage-backed
securities - - 128,317 52.92
States and political
subdivisions 2,718 1.12 18,818 7.76
Other securities - - 13,565 5.59
------ ------- -------- -------
Total $2,718 1.12% $239,770 98.88%
====== ======= ======== =======
SECURITIES PORTFOLIO COMPOSITION
Total
% of
December 31, 1998 Amount Portfolio
-------------------
U.S. Treasury securities $ 1,709 0.71%
U.S. government agencies 77,361 31.90
Mortgage-backed securities 128,317 52.92
States and political
subdivisions 21,536 8.88
Other securities 13,565 5.59
-------- -------
Total $242,488 100.00%
======== =======
SECURITIES PORTFOLIO COMPOSITION
Held to Maturity Available for Sale
% of % of
December 31, 1997 Amount Portfolio Amount Portfolio
---------------------------------------
U.S. Treasury
securities $ - -% $ 13,342 6.62%
U.S. government
agencies 598 .30 63,762 31.60
Mortgage-backed
securities 325 .16 86,690 42.97
States and political
subdivisions 2,956 1.46 17,746 8.80
Other securities - - 16,329 8.09
------ ------- -------- -------
Total $3,879 1.92% $197,869 98.08%
====== ======= ======== =======
SECURITIES PORTFOLIO COMPOSITION
Total
% of
December 31, 1997 Amount Portfolio
-------------------
U.S. Treasury securities $ 13,342 6.62%
U.S. government agencies 64,360 31.90
Mortgage-backed securities 87,015 43.13
States and political
subdivisions 20,702 10.26
Other securities 16,329 8.09
-------- -------
Total $201,748 100.00%
======== =======
SECURITIES PORTFOLIO MATURITIES
After One But
Within One Year Within Five Years
--------------- -----------------
December 31, 1998 Amount Yield Amount Yield
------------------------------------
U.S. Treasury
securities $ 1,709 6.41% $ - 0.00%
U.S. government
agencies 15,549 6.03 61,794 5.55
Mortgage-backed
securities 58,863 6.92 60,718 6.79
States and political
subdivisions (1) 45 9.99 6,107 8.67
Other securities 612 8.48 1,881 5.65
-------- ------- ------- -------
Total $ 76,778 6.74% $130,500 6.28%
======== ======= ======== =======
SECURITIES PORTFOLIO MATURITIES
After Five But
Within Ten Years After Ten Years
---------------- -----------------
Amount Yield Amount Yield
------------------------------------
U.S. Treasury
securities $ - -% $ - -%
U.S. government
agencies - - 18 10.25
Mortgage-backed
securities - - 8,736 8.17
States and political
subdivisions (1) 6,184 7.99 9,200 7.27
Other securities - - - -
------- ------- ------- ------
Total $ 6,184 7.99% $17,954 7.71%
======= ======= ======= ======
SECURITIES PORTFOLIO MATURITIES
Total
Amount Yield
-------------------
U.S. Treasury securities $ 1,709 6.41%
U.S. government agencies 77,361 5.65
Mortgage-backed securities 128,317 6.94
States and political
subdivisions (1) 21,536 7.88
Other securities 2,493 6.35
-------- -------
Total $231,416 6.59%
======== =======
(1) Rates on obligations of states and political subdivisions
have been adjusted to tax equivalent yields using a 34% income
tax rate.
DEPOSITS AND BORROWED FUNDS
Heartland has a relatively stable core deposit base drawn from
within its market areas. Total average deposits increased
$67,607 or 11.41% from the total average deposits during 1997.
All the subsidiary banks, with the exception of FCB, were able to
grow average deposits by more than seven percent during 1998 with
the de novo community banks of RCB and NMB making up $22,335 or
33.04% of this growth. Exclusive of WCB, total average deposits
increased $27,578 or 5.14% during 1997. This was an improvement
over the $22,818 or 4.44% increase experienced during 1996 and
was primarily attributable to strong growth at GSB and RCB.
Average noninterest bearing deposits grew $8,744 or 16.89% during
1998 and $2,575 or 5.70%, exclusive of WCB, during 1997. Average
interest bearing deposits increased $58,863 or 10.88% during 1998
and $25,003 or 5.09%, exclusive of WCB, during 1997. In order to
attract additional customers, all of the subsidiary banks have
continued to enhance their deposit product lines.
The mix of individual account balances to total deposits has
remained very constant over each of the past three years. The
table below sets forth the distribution of Heartland's average
deposit account balances and the average interest rates paid on
each category of deposits for the years indicated.
AVERAGE DEPOSITS
For the year ended December 31, 1998
Percent
Average of
Balance Deposits Rate
------------------------
Demand deposits $ 60,514 9.17% 0.00%
Savings accounts 266,282 40.33 3.57
Time deposits less than $100,000 282,142 42.73 5.75
Time deposits of $100,000 or more 51,283 7.77 5.66
-------- -------
Total deposits $660,221 100.00%
======== =======
AVERAGE DEPOSITS
For the year ended December 31, 1997
Percent
Average of
Balance Deposits Rate
------------------------
Demand deposits $ 51,770 8.74% 0.00%
Savings accounts 237,730 40.12 3.50
Time deposits less than $100,000 268,201 45.25 5.77
Time deposits of $100,000 or more 34,913 5.89 5.62
-------- -------
Total deposits $592,614 100.00%
======== =======
AVERAGE DEPOSITS
For the year ended December 31, 1996
Percent
Average of
Balance Deposits Rate
------------------------
Demand deposits $ 45,205 8.42% 0.00%
Savings accounts 214,401 39.95 3.49
Time deposits less than $100,000 239,300 44.59 5.68
Time deposits of $100,000 or more 37,806 7.04 5.64
-------- -------
Total deposits $536,712 100.00%
======== =======
The following table sets forth the amount and maturities of time
deposits of $100,000 or more at December 31, 1998.
Time Deposits $100,000 and Over
December 31,
1998
------------
3 months or less $17,769
Over 3 months through 6 months 14,686
Over 6 months through 12 months 12,428
Over 12 months 17,410
-------
$62,293
=======
All of the Heartland banks, except for WCB and NMB, own stock in
the Federal Home Loan Bank ("FHLB") of Des Moines and of Chicago,
enabling them to borrow funds from their respective FHLB for
short- or long-term purposes under a variety of programs. Total
FHLB borrowings at December 31, 1998 and 1997, were $40,618 and
$64,400, respectively. During 1997, Heartland used additional
FHLB advances as loan demand exceeded deposit growth. As deposit
growth exceeded loan demand during the course of 1998, no
additional advances were taken and total advances declined as
borrowings matured.
Heartland also utilizes securities sold under agreements to
repurchase as a source of funds. All the bank subsidiaries
provide repurchase agreements to their customers as a cash
management tool, sweeping excess funds from demand deposit
accounts into these agreements. This source of funding does not
increase the bank's reserve requirements, nor does it create an
expense relating to FDIC premiums on deposits. Although the
aggregate balance of repurchase agreements is subject to
variation, the account relationships represented by these
balances are principally local and have been maintained for
relatively long periods of time.
On October 31, 1997, Heartland entered into a four year,
unsecured revolving credit agreement with an unaffiliated bank.
The total borrowings under this credit line were $16,200 and
$3,500 at December 31, 1998 and 1997, respectively. This credit
line was established to provide working capital to the nonbanking
subsidiaries and to meet general corporate commitments, including
the $12,050 capital investment in NMB.
The following table reflects short-term borrowings which in the
aggregate have average balances during the period greater than
30% of stockholders equity at the end of the period.
SHORT-TERM BORROWINGS
At or for the
Year Ended December 31,
1998 1997 1996
------------------------
Balance at end of period $ 75,920 $96,239 $56,358
Maximum month-end amount
outstanding 102,313 96,239 56,358
Average month-end amount
outstanding 80,277 73,170 42,025
Weighted average interest
rate at year-end 5.00% 5.49% 5.75%
Weighted average interest
rate for the year ended 5.19 5.32% 5.24%
CAPITAL RESOURCES
Heartland's risk-based capital ratios, which take into account
the different credit risks among banks' assets, have remained
strong over the past three years. Tier 1 and total risk-based
capital ratios were 11.05% and 12.13%, respectively, on December
31, 1998, compared with 11.54% and 12.71% at December 31, 1997,
and 13.10% and 14.28% for December 31, 1996. At December 31,
1998, Heartland's leverage ratio, the ratio of Tier 1 capital to
total average assets, was 8.58% compared to 8.76% and 9.54% at
December 31, 1997 and 1996, respectively.
Commitments for capital expenditures are an important factor in
evaluating capital adequacy. Heartland completed the acquisition
of WCB on March 1, 1997. Cash payments remaining under the
agreement are $823 in 1999, $594 in 2000 and $584 in 2001, plus
interest at rates of 7.00% to 7.50%.
On July 17, 1998, Heartland completed the acquisition and merger
into ULTEA of Arrow Motors Inc., a Wisconsin corporation doing
business as LAG. In conjunction with this merger, Heartland
agreed to three equal cash payments of $643 in 1999, 2000 and
2001, plus interest at 7.50%.
In February, 1999, WCB entered into an office purchase and
assumption agreement with Bank One Wisconsin to acquire their
Monroe bank. Pending regulatory approval and the satisfaction of
certain conditions, the transaction is anticipated to close in
July with a cash payment of $11,487 and an additional capital
investment of approximately $7,000.
NMB has committed to the purchase of a $1,000 facility in north-
central Albuquerque with an anticipated closing date of April,
1999. Additionally, NMB contracted for the construction of a
$1,700 facility in Rio Rancho, a suburb northeast of Albuquerque,
with a targeted completion date of June, 1999.
Expansion efforts are also underway at RCB, as it committed to
the construction of a $1,300 facility in southeast Rockford.
Completion of this branch is targeted for June, 1999.
Heartland continues to explore other opportunities to expand its
umbrella of independent community banks through mergers and
acquisitions as well as de novo and branching opportunities.
Future expenditures relating to these efforts are not estimable
at this time.
Heartland's capital ratios are detailed in the table below.
RISK-BASED CAPITAL RATIOS(1)
December 31,
1998 1997 1996
Amount Ratio Amount Ratio Amount Ratio
-------------------------------------------------
Capital Ratios:
Tier 1 capital $ 81,149 11.05% $ 71,713 11.54% $ 67,701 13.10%
Tier 1 capital
minimum
requirement 29,379 4.00 24,854 4.00 20,667 4.00
-------- ------ -------- ------ -------- -----
Excess $ 51,770 7.05% $ 46,859 7.54% $ 47,034 9.10%
======== ====== ======== ====== ======== ======
Total capital $ 89,093 12.13% $ 78,995 12.71% $ 73,777 14.28%
Total capital
minimum
requirement 58,757 8.00 49,707 8.00 41,334 8.00
-------- ------ -------- ------ -------- -----
Excess $ 30,336 4.13% $ 29,288 4.71% $ 32,443 6.28%
======== ====== ======== ====== ======== ======
Total risk-
adjusted
assets $734,463 $621,338 $516,678
======== ======== ========
(1) Based on the risk-based capital guidelines of the Federal
Reserve, a bank holding company is required to maintain a
Tier 1 to risk-adjusted assets ratio of 4.00% and total to
risk-adjusted assets ratio of 8.00%.
LEVERAGE RATIOS(1)
December 31,
1998 1997 1996
Amount Ratio Amount Ratio Amount Ratio
------------------------------------------------
Capital Ratios:
Tier 1 capital $ 81,149 8.58% $ 71,713 8.76% $ 67,701 9.54%
Tier 1 capital
minimum
requirement(2) 37,810 4.00 32,729 4.00 28,375 4.00
-------- ------ -------- ------ -------- -----
Excess $ 43,339 4.58% $ 38,984 4.76% $ 39,326 5.54%
======== ====== ======== ====== ======== =====
Average adjusted
assets $945,242 $818,232 $709,387
======== ======== ========
(1)The leverage ratio is defined as the ratio of Tier 1 capital
to average total assets.
(2)Management of Heartland has established a minimum target
leverage ratio of 4.00%. Based on Federal Reserve
guidelines, a bank holding company generally is required to
maintain a leverage ratio of 3.00% plus an additional cushion
of at least 100 basis points.
LIQUIDITY
Liquidity refers to Heartland's ability to maintain a cash flow
which is adequate to meet maturing obligations and existing
commitments, to withstand fluctuations in deposit levels, to fund
operations and to provide for customers' credit needs.
Heartland's usual and primary sources of funding have been
deposits, loan and mortgage-backed security principal repayments,
sales of loans, cash flow generated from operations and FHLB
borrowings.
Heartland's short-term borrowing balances are dependent on
commercial cash management and smaller correspondent bank
relationships and, as such, will normally fluctuate. Heartland
believes these balances, on average, to be stable sources of
funds; however, it intends to rely on deposit growth and
additional FHLB borrowings in the future.
In the event of short term liquidity needs, the bank subsidiaries
may purchase federal funds from each other or from correspondent
banks. The bank subsidiaries may also borrow funds from the
Federal Reserve Bank, but have not done so during the periods
covered in this report. Also, the subsidiary banks' FHLB
memberships give them the ability to borrow funds for short- and
long-term purposes under a variety of programs.
Heartland's revolving credit agreement provides for total
borrowings of up to $20,000 at any one time. The agreement
contains specific covenants which, among other things, limit
dividend payments and restrict the sale of assets by Heartland
under certain circumstances. Also contained within the agreement
are certain financial covenants, including the maintenance of a
maximum nonperforming assets to total loans ratio, minimum return
on average assets ratio, maximum funded debt to total equity
capital ratio, and requires that each of the bank subsidiaries
remain well capitalized, as defined from time to time by the
federal banking regulators. At December 31, 1998, Heartland was
in compliance with the above covenants.
MARKET RISK MANAGEMENT
Market risk is the risk of loss arising from adverse changes in
market prices and rates. Heartland's market risk is comprised
primarily of interest rate risk resulting from its core banking
activities of lending and deposit gathering. Interest rate risk
measures the impact on earnings from changes in interest rates
and the effect on current fair market values of Heartland's
assets, liabilities and off-balance sheet contracts. The
objective is to measure this risk and manage the balance sheet to
avoid unacceptable potential for economic loss.
Heartland management continually develops and applies strategies
to mitigate market risk. Exposure to market risk is reviewed on a
regular basis by the asset/liability committees at the banks and,
on a consolidated basis, by the Heartland Board of Directors.
Monthly, management utilizes both the standard balance sheet GAP
report and an independently developed income statement GAP report
to analyze the effect of changes in interest rates on net
interest income and to manage interest rate risk. Also utilized
periodically during the year is an interest rate sensitivity
analysis which simulates changes in net interest income in
response to various interest rate scenarios. This analysis
considers current portfolio rates, existing maturities, repricing
opportunities and market interest rates, in addition to
prepayments and growth under different interest rate assumptions.
Through the use of these tools Heartland has determined that the
balance sheet is structured such that changes in net interest
margin in response to changes in interest rates would be minimal,
all other factors being held constant. Management does not
believe that Heartland's primary market risk exposures and how
those exposures were managed in 1998 have changed when compared
to 1997.
Derivative financial instruments include futures, forwards,
interest rate swaps, option contracts and other financial
instruments with similar characteristics. Heartland was not a
party to these types of derivatives at December 31, 1998.
However, Heartland does enter into financial instruments with off-
balance sheet risk in the normal course of business to meet the
financing needs of its customers. These financial instruments
include commitments to extend credit and standby letters of
credit. These instruments involve, to varying degrees, elements
of credit and interest rate risk in excess of the amount
recognized in the consolidated balance sheets. Commitments to
extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the
contract. Commitments generally have fixed expiration dates and
may require collateral from the borrower. Standby letters of
credit are conditional commitments issued by Heartland to
guarantee the performance of a customer to a third party up to a
stated amount and with specified terms and conditions. These
commitments to extend credit and standby letters of credit are
not recorded on the balance sheet until the instrument is
exercised.
The table below summarizes the scheduled maturities of market
risk sensitive assets and liabilities as of December 31, 1998.
QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
TABLE OF MARKET RISK-SENSITIVE INSTRUMENTS
December 31, 1998
MATURING IN: 1999 2000 2001 2002
------------------------------------
ASSETS
Federal funds sold $ 17,476 $ - $ - $ -
Time deposits in other
financial institutions 542 4,679 876 -
Securities 76,778 68,954 22,588 25,948
Loans and leases:
Fixed rate loans 140,991 65,080 67,017 32,558
Variable rate loans 91,229 37,334 17,601 9,886
-------- -------- -------- --------
Loans and leases, net 232,220 102,414 84,618 42,444
-------- -------- -------- --------
Total Market Risk-
Sensitive Assets $327,016 $176,047 $108,082 $ 68,392
======== ======== ======== ========
LIABILITIES
Savings $292,852 $ - $ - $ -
Time deposits
Fixed rate time
certificates less
than $100,000 145,662 88,870 23,438 11,944
Variable rate time
certificates less
than $100,000 139 5,247 - -
-------- -------- -------- --------
Time deposits less
than $100,000 145,801 94,117 23,438 11,944
Time deposits of
$100,000 or more 44,883 14,824 800 919
Federal funds purchased,
securities sold
under repurchase
agreements and
other short-term
borrowings 75,920 - - -
Other borrowings:
Fixed rate borrowings - 18,664 7,654 5,005
Variable rate borrowings - - 16,200 2,000
-------- -------- -------- --------
Other borrowings - 18,664 23,854 7,005
-------- -------- -------- --------
Total Market Risk-
Sensitive Liabilities $559,456 $127,605 $ 48,092 $ 19,868
======== ======== ======== ========
Average Estimated
Interest Fair
MATURING IN: 2003 Thereafter Total Rate Value
------------------------------------------
ASSETS
Federal funds sold $ - $ - $ 17,476 5.10% $ 17,476
Time deposits in
other financial
institutions - 30 6,127 5.54 6,127
Securities 13,011 35,209 242,488 6.59 242,641
Loans and leases:
Fixed rate loans 30,726 26,914 363,286 8.51 365,899
Variable rate
loans 6,849 63,948 226,847 8.03 228,286
-------- -------- -------- --------
Loans and leases,
net 37,575 90,862 590,133 594,185
-------- -------- -------- --------
Total Market Risk-
Sensitive Assets $ 50,586 $126,101 $856,224 $860,429
======== ======== ======== ========
LIABILITIES
Savings $ - $ - $292,852 3.34% $292,852
Time deposits
Fixed rate time
certificates less
than $100,000 16,434 127 286,475 5.68 289,887
Variable rate time
certificates less
than $100,000 - - 5,386 5.37 5,388
-------- -------- -------- --------
Time deposits less
than $100,000 16,434 127 291,861 295,275
Time deposits of
$100,000 or more 867 - 62,293 5.53 62,769
Federal funds purchased,
securities sold
under repurchase
agreements and
other short-term
borrowings - - 75,920 5.00 75,920
Other borrowings:
Fixed rate
borrowings 1,505 6,595 39,423 6.19 40,672
Variable rate
borrowings - - 18,200 5.54 18,200
-------- -------- -------- --------
Other borrowings 1,505 6,595 57,623 58,872
-------- -------- -------- --------
Total Market Risk
Sensitive
Liabilities $ 18,806 $ 6,722 $780,549 $785,688
======== ======== ======== ========
EFFECTS OF INFLATION
Consolidated financial data included in this report has been
prepared in accordance with generally accepted accounting
principles. Presently, these principles require reporting of
financial position and operating results in terms of historical
dollars. Changes in the relative value of money due to inflation
or recession are generally not considered.
In management's opinion, changes in interest rates affect the
financial condition of a financial institution to a far greater
degree than changes in the inflation rate. While interest rates
are greatly influenced by changes in the inflation rate, they do
not change at the same rate or in the same magnitude as the
inflation rate. Rather, interest rate volatility is based on
changes in the expected rate of inflation, as well as on changes
in monetary and fiscal policies. A financial institution's
ability to be relatively unaffected by changes in interest rates
is a good indicator of its capability to perform in today's
volatile economic environment. Heartland seeks to insulate itself
from interest rate volatility by ensuring that rate-sensitive
assets and rate-sensitive liabilities respond to changes in
interest rates in a similar time frame and to a similar degree.
YEAR 2000
Heartland began to identify and react to issues related to the
Year 2000 in 1996. A Year 2000 project team, comprised of
individuals from key areas throughout Heartland, was formed. The
mission of the Year 2000 project team was, and is, to identify
issues related to the Year 2000, to initiate remedial measures
necessary to eliminate any adverse effects on Heartland's
operations, and to continue to monitor Year 2000 related
concerns. Following the guidelines established by the Federal
Financial Institutions Examination Council, a Year 2000 Plan was
developed for Heartland and its subsidiaries. The project team
developed a comprehensive, prioritized inventory of all hardware,
software, and material third-party providers that may be
adversely affected by the Year 2000 date change, and has
contacted these vendors requesting their status as it relates to
the Year 2000. This inventory includes both information
technology ("IT") and non-IT systems, such as heating and cooling
systems, alarms, building access systems and elevators, which
typically contain embedded technology such as microcontrollers.
This inventory is periodically reevaluated to ensure that
previously assigned priorities remain accurate and to monitor the
progress each vendor is making in resolving its Year 2000
problems. Heartland relies on software purchased from third-
party vendors rather than internally-generated software. All
mission-critical software has been tested and found to be Year
2000 compliant. Testing was done on a test computer rented
specifically for this purpose, which was connected to Heartland's
existing equipment in a manner similar to the production computer.
The Year 2000 project team has also developed a communication
plan that updates the directors, management and employees on
Heartland's Year 2000 status. A customer awareness program was
implemented in late 1998 and will continue throughout 1999. In
addition, a separate plan was developed to manage the Year 2000
risks posed by commercial borrowing customers. This plan
identified material loan customers, assessed their preparedness,
evaluated their credit risk to Heartland, and implemented
appropriate controls to mitigate the risk. Surveys of customer
preparedness have been used to identify the customer risk and
will be used on all new credits going forward.
In accordance with regulatory guidelines, the project team has
begun preparing a comprehensive contingency plan in the event
that Year 2000 related failures are experienced. The plan will
list the various strategies and resources available to restore
core business processes. Testing of this plan is scheduled for
completion by April 30, 1999. In conjunction with the
development of this contingency plan, the team continues to
monitor Year 2000 progress by the public utility providers. As
the utility companies complete their testing in 1999, Heartland
will decide the appropriateness of purchasing or leasing a backup
generator for its main facility. The generator would provide an
alternative source of power for a limited time period. Also
being assessed as part of the contingency plan is the adequacy of
Heartland's sources of liquidity to meet any cash demands the
bank subsidiaries' customers may place on them during the fourth
quarter of 1999.
Management anticipates that the total out-of-pocket expenditures
required for bringing the systems into compliance for the Year
2000 will be approximately $360 of which $60 remains to be
expended during 1999. Management believes that these required
expenditures will not have a material adverse impact on
operations, cash flow, or financial condition. This amount,
including costs for upgrading equipment specifically for the
purpose of Year 2000 compliance, staff expense for testing and
contingency development, and certain administrative expenditures,
has been provided for in Heartland's Year 2000 budget. Although
management feels confident that all necessary upgrades have been
identified, and budgeted accordingly, no assurance can be made
that Year 2000 compliance can be achieved without additional
unanticipated expenditures. It is not possible at this time to
quantify the estimated future costs due to possible business
disruption caused by vendors, suppliers, customers or even the
possible loss of electric power or phone service; however, such
costs could be substantial. As a result of the Year 2000
project, Heartland has not had any material delay regarding its
information systems projects.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
CONSOLIDATED BALANCE SHEETS
December 31, 1998 and 1997
(Dollars in thousands, except per share data)
Notes 1998 1997
----- -------- --------
ASSETS
Cash and due from banks 3 $ 25,355 $ 24,267
Federal funds sold 17,476 32,918
-------- --------
Cash and cash equivalents 42,831 57,185
Time deposits in other
financial institutions 6,127 194
Securities: 4
Available for sale-at market
(cost of $236,417 for 1998
and $193,805 for 1997) 239,770 197,869
Held to maturity-at cost
(approximate market value
of $2,871 for 1998 and
$3,999 for 1997) 2,718 3,879
Loans and leases: 5
Held for sale 10,985 10,437
Held to maturity 579,148 545,969
Allowance for possible
loan and lease losses 6 (7,945) (7,362)
-------- --------
Loans and leases, net 582,188 549,044
Assets under operating leases 34,622 3,750
Premises, furniture and
equipment, net 7 19,780 17,184
Other real estate, net 857 774
Other assets 24,892 22,181
-------- --------
TOTAL ASSETS $953,785 $852,060
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Deposits: 8
Demand $ 70,871 $ 60,950
Savings 292,852 252,292
Time 354,154 310,290
-------- --------
Total deposits 717,877 623,532
Short-term borrowings 9 75,920 96,239
Accrued expenses and other
liabilities 18,095 11,494
Other borrowings 11 57,623 43,023
-------- --------
TOTAL LIABILITIES 869,515 774,288
-------- --------
STOCKHOLDERS' EQUITY: 13,14,16
Preferred stock
(par value $1 per
share; authorized
200,000 shares) - -
Common stock
(par value $1 per share;
authorized, 12,000,000
shares; issued, 9,707,252
shares at December 31,
1998, and 4,853,626 at
December 31, 1997) 9,707 4,854
Capital surplus 10,131 13,706
Retained earnings 65,007 58,914
Accumulated other
comprehensive income 2,107 2,545
Treasury stock at cost
(172,173 and 106,251 shares
at December 31, 1998, and
December 31, 1997, respectively) (2,682) (2,247)
-------- --------
TOTAL STOCKHOLDERS' EQUITY 84,270 77,772
-------- --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $953,785 $852,060
======== ========
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF INCOME
For the years ended December 31, 1998, 1997 and 1996
(Dollars in thousands, except per share data)
Notes 1998 1997 1996
----- -------- -------- --------
INTEREST INCOME:
Interest and fees on
loans and leases 5 $49,901 $46,919 $40,670
Interest on securities:
Taxable 11,515 10,393 8,392
Nontaxable 1,133 1,170 2,051
Interest on federal funds sold 1,582 681 610
Interest on interest bearing
deposits in other financial
institutions 386 98 163
-------- -------- --------
TOTAL INTEREST INCOME 64,517 59,261 51,886
-------- -------- --------
INTEREST EXPENSE:
Interest on deposits 8 28,645 25,765 23,190
Interest on short-term
borrowings 4,076 3,740 1,943
Interest on other borrowings 3,583 2,262 2,511
-------- -------- --------
TOTAL INTEREST EXPENSE 36,304 31,767 27,644
-------- -------- --------
NET INTEREST INCOME 28,213 27,494 24,242
Provision for possible
loan and lease losses 6 951 1,279 1,408
-------- -------- --------
Net interest income after
provision for possible loan
and lease losses 27,262 26,215 22,834
-------- -------- --------
OTHER INCOME:
Service charges and fees 3,013 2,723 2,437
Trust fees 2,284 2,009 1,810
Brokerage commissions 413 324 212
Insurance commissions 751 563 650
Securities gains, net 1,897 1,446 1,889
Rental income on operating leases 7,428 811 -
Gains on sale of loans 1,212 373 131
Other 299 316 235
-------- -------- --------
TOTAL OTHER INCOME 17,297 8,565 7,364
-------- -------- --------
OTHER EXPENSES:
Salaries and employee
benefits 12 15,218 13,070 11,035
Occupancy 13 1,695 1,354 1,268
Furniture and equipment 1,998 1,537 1,236
Depreciation on equipment
under operating leases 5,296 584 -
Outside services 1,416 1,439 1,155
FDIC deposit insurance
assessment 118 116 746
Advertising 1,150 826 996
Other operating expenses 4,890 4,001 3,071
-------- -------- --------
TOTAL OTHER EXPENSES 31,781 22,927 19,507
-------- -------- --------
Income before income taxes 12,778 11,853 10,691
Income taxes 10 3,757 3,338 2,685
-------- -------- --------
NET INCOME $ 9,021 $ 8,515 $ 8,006
======== ======== ========
EARNINGS PER COMMON SHARE-BASIC $ 0.95 $ 0.90 $ 0.85
======== ======== ========
EARNINGS PER COMMON SHARE-
DILUTED 1 $ 0.94 $ 0.89 $ 0.84
======== ======== ========
CASH DIVIDENDS DECLARED PER
COMMON SHARE $ 0.31 $ 0.26 $ 0.20
======== ======== ========
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
For the years ended December 31, 1998, 1997 and 1996
(Dollars in thousands, except per share data)
Common Capital Retained
Stock Surplus Earnings
------- ------- --------
Balance at January 1, 1996 $ 2,427 $13,090 $49,171
Net Income - 1996 8,006
Unrealized loss on securities
available for sale
Reclassification adjustment for
gains realized in net income
Income taxes
Comprehensive income
Cash dividends declared:(1)
Common, $.20 per share (1,886)
Two-for-one stock split 2,427 (2,427)
Purchase of 32,446 shares of
common stock
Sale of 64,943 shares of
common stock 276
------- ------- -------
Balance at December 31, 1996 4,854 13,366 52,864
Net Income - 1997 8,515
Unrealized gain on securities
available for sale
Reclassification adjustment for
gains realized in net income
Income taxes
Comprehensive income
Cash dividends declared:(1)
Common, $.26 per share (2,465)
Purchase of 32,835 shares
of common stock
Sale of 44,650 shares
of common stock 340
------- ------- -------
BALANCE AT DECEMBER 31, 1997 4,854 13,706 58,914
Net Income - 1998 9,021
Unrealized gain on securities
available for sale
Reclassification adjustment for
gains realized in net income
Income taxes
Comprehensive income
Cash dividends declared:
Common, $.31 per share (2,928)
Two-for-one stock split 4,853 (4,853)
Purchase of 166,970 shares
of common stock
Sale of 328,857 shares
of common stock 1,278
------- ------- -------
BALANCE AT DECEMBER 31, 1998 $ 9,707 $14,984 $60,154
======= ======= =======
Accumulated
Other
Comprehensive Treasury
Income Stock Total
------------- -------- -----
Balance at January 1, 1996 $ 2,620 $(2,802) $64,506
Net Income - 1996 8,006
Unrealized loss on securities
available for sale (70) (70)
Reclassification adjustment for
gains realized in net income (1,889) (1,889)
Income taxes 666 666
-------
Comprehensive income 6,713
Cash dividends declared:(1)
Common, $.20 per share (1,886)
Two-for-one stock split -
Purchase of 32,446 shares
of common stock (759) (759)
Sale of 64,943 shares
of common stock 1,409 1,685
------- ------- -------
Balance at December 31, 1996 1,327 (2,152) 70,259
Net Income - 1997 8,515
Unrealized gain on securities
available for sale 3,291 3,291
Reclassification adjustment for
gains realized in net income (1,446) (1,446)
Income taxes (627) (627)
-------
Comprehensive income 9,733
Cash dividends declared:(1)
Common, $.26 per share (2,465)
Purchase of 32,835 shares
of common stock (865) (865)
Sale of 44,650 shares
of common stock 770 1,110
------- ------- -------
Balance at December 31, 1997 2,545 (2,247) 77,772
Net Income - 1998 9,021
Unrealized gain on securities
available for sale 1,233 1,233
Reclassification adjustment for
gains realized in net income (1,897) (1,897)
Income taxes 226 226
-------
Comprehensive income 8,583
Cash dividends declared:
Common, $.31 per share (2,928)
Two-for-one stock split -
Purchase of 166,970 shares
of common stock (4,431) (4,431)
Sale of 328,857 shares of
common stock 3,996 5,274
------- ------- -------
BALANCE AT DECEMBER 31, 1998 $ 2,107 $(2,682) $84,270
======= ======= =======
(1) Restated to reflect the two-for-one stock split effected in
the form of a stock dividend on June 30, 1998.
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended December 31, 1998, 1997 and 1996
(Dollars in thousands, except per share data)
1998 1997 1996
---- ---- ----
Cash Flows from Operating
Activities:
Net income $ 9,021 $ 8,515 $ 8,006
Adjustments to reconcile net
income to net cash provided
by operating activities:
Depreciation and amortization 7,856 2,635 1,341
Provision for possible loan
and lease losses 951 1,279 1,408
Provision for income taxes (488) 114 (393)
Net amortization/(accretion)
of premium/(discount)
on securities 875 (292) (769)
Securities gains, net (1,897) (1,446) (1,889)
Loans originated for sale (139,554) (44,035) (23,408)
Proceeds on sales of loans 142,328 49,563 27,672
Net gain on sales of loans (1,212) (373) (131)
Increase in accrued
interest receivable (620) (354) (530)
Increase in accrued interest
payable 623 449 186
Other, net 470 (2,265) (1,196)
------- ------- -------
Net cash provided by operating
activities 18,353 13,790 10,297
------- ------- -------
Cash Flows from Investing
Activities:
Purchase of time deposits (5,934) (33) (122)
Proceeds on maturities of time
deposits - 201 100
Proceeds from the sale of
securities available for sale 27,928 20,053 22,747
Proceeds from the sale of
mortgage-backed securities
available for sale 2,276 3,980 1,621
Proceeds from the maturity of
and principal paydowns on
securities held to maturity 837 2,732 717
Proceeds from the maturity of
and principal paydowns on
securities available for sale 41,902 13,647 36,384
Proceeds from the maturity of
and principal paydowns on
mortgage-backed securities
held to maturity 343 - -
Proceeds from the maturity of
and principal paydowns on
mortgage-backed securities
available for sale 53,040 13,175 11,767
Purchase of securities
held to maturity - - (500)
Purchase of securities
available for sale (70,211) (24,485) (58,841)
Purchase of mortgage-backed
securities available for sale (96,543) (30,612) (49,170)
Purchase of interest in low-
income housing project - - (2,865)
Net increase in loans and
leases (36,262) (55,546) (33,384)
Increase in assets under
operating leases (12,161) (3,259) -
Capital expenditures (4,365) (2,522) (5,589)
Net cash and cash equivalents
(paid)/received in acquisition
of subsidiaries 2,730 670 (43)
Net cash received from minority
interest stockholders 2,950 - -
Proceeds on sale of fixed assets 8 1 2
Proceeds on sale of repossessed
assets 831 7 208
------- ------- -------
Net cash used by investing
activities (92,631) (61,991) (76,968)
Cash Flows from Financing
Activities:
Net increase in demand deposits
and savings accounts 50,481 17,137 19,663
Net increase in time deposit
accounts 43,864 15,182 4,093
Net increase in other
borrowings 15,250 23,886 4,500
Net increase (decrease) in
short-term borrowings (42,979) 11,483 25,039
Purchase of treasury stock (4,431) (865) (759)
Proceeds from sale of
treasury stock 669 948 1,296
Dividends (2,930) (2,465) (1,886)
------- ------- -------
Net cash provided by
financing activities 59,924 65,306 51,946
------- ------- -------
Net increase (decrease) in cash
and cash equivalents (14,354) 17,105 (14,725)
Cash and cash equivalents at
beginning of year 57,185 40,080 54,805
------- ------- -------
Cash and cash equivalents at
end of period $42,831 $57,185 $40,080
======= ======= =======
Supplemental disclosures:
Cash paid for income/franchise
taxes $ 3,303 $ 3,090 $ 3,065
Cash paid for interest $35,681 $31,318 $27,458
Securities contributed to
public charitable trust - - 220
Other borrowings transferred
to short-term borrowings $15,323 $25,500 8,000
See accompanying notes to consolidated financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share data)
ONE
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations-Heartland Financial USA, Inc. ("Heartland")
is a multi-bank holding company primarily operating full-service
retail banking offices in Dubuque and Lee Counties in Iowa; Jo
Daviess, Hancock and Winnebago Counties in Illinois; Dane County
in Wisconsin and Bernalillo County in New Mexico, serving
communities in and around those counties. The principal services
of Heartland, through its subsidiaries, are FDIC-insured deposit
accounts and related services, and loans to businesses and
individuals. The loans consist primarily of commercial and
commercial real estate and residential real estate.
Principles of Presentation-The consolidated financial statements
include the accounts of Heartland and its subsidiaries: Dubuque
Bank and Trust Company ("DB&T"); Galena State Bank and Trust
Company ("GSB"); Riverside Community Bank ("RCB"); Wisconsin
Community Bank ("WCB"), previously Cottage Grove State Bank); New
Mexico Bank & Trust ("NMB"); First Community Bank, FSB ("FCB");
Citizens Finance Co.("Citizens"); ULTEA, Inc. ("ULTEA"); DB&T
Insurance, Inc.; DB&T Community Development Corp.; DBT Investment
Corporation; and Keokuk Bancshares, Inc. dba KBS Investment Corp.
All subsidiaries are wholly-owned with the exception of NMB of
which Heartland is the 80% owner. All significant intercompany
balances and transactions have been eliminated in consolidation.
The consolidated financial statements have been prepared in
accordance with generally accepted accounting principles and with
general practice within the banking industry. In preparing such
financial statements, management is required to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities
as of the date of the balance sheet and revenues and expenses for
the period. Actual results could differ significantly from those
estimates. Material estimates that are particularly susceptible
to significant change relate to the determination of the
allowance for possible loan and lease losses.
Securities-All securities consist of debt or marketable equity
securities.
Securities Available for Sale-Available for sale securities
consist of those securities not classified as held to maturity or
trading, which management intends to hold for indefinite periods
of time or that may be sold in response to changes in interest
rates, prepayments or other similar factors. Such securities are
stated at fair value with any unrealized gain or loss, net of
applicable income tax, reported as a separate component of
stockholders' equity. Security premiums and discounts are
amortized/accreted using the interest method over the period from
the purchase date to the maturity or call date of the related
security. Gains or losses from the sale of available for sale
securities are determined based upon the adjusted cost of the
specific security sold.
Securities Held to Maturity-Securities which Heartland has the
ability and positive intent to hold to maturity are classified as
held to maturity. Such securities are stated at amortized cost,
adjusted for premiums and discounts that are amortized/accreted
using the interest method over the period from the purchase date
to the maturity date of the related security.
Loans and Leases-Interest on loans is accrued and credited to
income based primarily on the principal balance outstanding.
Income from leases is recorded in decreasing amounts over the
term of the contract resulting in a level rate of return on the
lease investment. The policy of Heartland is to discontinue the
accrual of interest income on any loan or lease when, in the
opinion of management, there is a reasonable doubt as to the
timely collection of the interest and principal. When interest
accruals are deemed uncollectible, interest credited to income in
the current year is reversed and interest accrued in prior years
is charged to the allowance for possible loan and lease losses.
Nonaccrual loans and leases are returned to an accrual status
when, in the opinion of management, the financial position of the
borrower indicates that there is no longer any reasonable doubt
as to the timely payment of interest and principal.
Under Heartland's credit policies, all nonaccrual and
restructured loans are defined as impaired loans. Loan
impairment is measured based on the present value of expected
future cash flows discounted at the loan's effective interest
rate, except where more practical, at the observable market price
of the loan or the fair value of the collateral if the loan is
collateral dependent.
Net nonrefundable loan and lease origination fees and certain
direct costs associated with the lending process are deferred and
recognized as a yield adjustment over the life of the related
loan or lease.
Loans held for sale are stated at the lower of individual cost or
estimated fair value. Loans are sold on a nonrecourse basis with
either servicing released or retained, and gains and losses are
recognized based on the difference between sales proceeds and the
carrying value of the loan.
Mortgage loan servicing rights retained on loans sold to others,
which are not material to the financial position or results of
operation, are not included in the accompanying consolidated
financial statements. The unpaid principal balances of these
loans as of December 31, 1998 and 1997, were $154,089 and
$109,203, respectively. Custodial escrow balances maintained in
connection with the loan servicing portfolio were approximately
$894 and $667 as of December 31, 1998 and 1997, respectively.
Allowance for Possible Loan and Lease Losses-The allowance for
possible loan and lease losses is maintained at a level estimated
by management to provide for known and inherent risks in the loan
and lease portfolios. The allowance is based upon a continuing
review of past loan and lease loss experience, current economic
conditions, volume growth, the underlying collateral value of the
loans and leases and other relevant factors. Loans and leases
which are deemed uncollectible are charged off and deducted from
the allowance. Provisions for possible loan and lease losses and
recoveries on previously charged-off loans and leases are added
to the allowance.
Premises, Furniture and Equipment-Premises, furniture and
equipment are stated at cost less accumulated depreciation. The
provision for depreciation of premises, furniture and equipment
is determined by straight-line and accelerated methods over the
estimated useful lives of 18 to 39 years for buildings, 15 years
for land improvements and 3 to 7 years for furniture and
equipment.
Other Real Estate-Other real estate represents property acquired
through foreclosures and settlements of loans. Property acquired
is carried at the lower of the principal amount of the loan
outstanding at the time of acquisition, plus any acquisition
costs, or the estimated fair value of the property, less cost to
dispose. The excess, if any, of such costs at the time acquired
over the fair value is charged against the allowance for possible
loan and lease losses. Subsequent write downs estimated on the
basis of later evaluations, gains or losses on sales and net
expenses incurred in maintaining such properties are charged to
operations.
Goodwill-Goodwill represents the excess of the purchase price of
acquired subsidiaries' net assets over their fair value. Goodwill
is amortized over periods from 15 to 25 years on the straight-
line basis. On a periodic basis, Heartland reviews goodwill for
events or circumstances that may indicate a change in the
recoverability of the underlying basis.
Income Taxes-Heartland and its subsidiaries file a consolidated
federal income tax return. For state tax purposes, DB&T, GSB,
RCB, FCB, WCB and NMB ("Banks")file income or franchise tax
returns as required. The other entities file corporate income or
franchise tax returns as required by the various states.
Heartland has a tax allocation agreement which provides that each
subsidiary of the consolidated group pay a tax liability to, or
receive a tax refund from Heartland, computed as if the
subsidiary had filed a separate return.
Heartland recognizes certain income and expenses in different
time periods for financial reporting and income tax purposes. The
provision for deferred income taxes is based on an asset and
liability approach and represents the change in deferred income
tax accounts during the year, including the effect of enacted tax
rate changes. Deferred tax assets are recognized if their
expected realization is "more likely than not".
Treasury Stock-Treasury stock is accounted for by the cost
method, whereby shares of common stock reacquired are recorded at
their purchase price.
Trust Department Assets-Property held for customers in fiduciary
or agency capacities is not included in the accompanying
consolidated balance sheets, as such items are not assets of the
Banks.
Earnings Per Share - Basic earning per share, pursuant to
Statement of Financial Accounting Standards ("SFAS") No. 128,
"Earnings Per Share", is determined using net income and
weighted average common shares outstanding. Diluted
earnings per share, as defined by SFAS No. 128, is computed by
dividing net income by the weighted average common shares
outstanding plus the assumed incremental common shares issued
upon exercise of stock options. Amounts used in the determination
of basic and diluted earnings per share for the years ended
December 31, 1998, 1997, and 1996 are shown in the table below.
1998 1997 1996
------ ------ -------
Net income $9,021 $8,515 $8,006
====== ====== ======
Weighted average common shares
outstanding 9,463 9,476 9,430
Assumed incremental common shares
issued upon exercise of stock
options 148 143 122
------ ------ ------
Weighted average common shares
for diluted earnings per share 9,611 9,619 9,552
====== ====== ======
Cash Flows-For purposes of reporting cash flows, cash and cash
equivalents include cash on hand, amounts due from banks and
federal funds sold. Generally, federal funds are purchased and
sold for one-day periods.
Effect of New Financial Accounting Standards - Heartland adopted
SFAS No. 130,"Reporting Comprehensive Income,"on January 1, 1998.
SFAS No. 130 establishes standards for the reporting and display
of comprehensive income in the financial statements.
Comprehensive income consists of net income and certain amounts
reported directly in stockholders' equity, such as the net
unrealized gains or losses on available for sale securities. The
statement requires only additional disclosures in the
consolidated financial statements; it does not affect Heartland's
financial position or results of operations. Prior year
financial statements have been reclassified to conform to the
requirements of SFAS No. 130.
SFAS No. 131,"Disclosure About Segments of an Enterprise and
Related Information," was effective for Heartland for the year
beginning January 1, 1998, and established disclosure
requirements for segment operations. The adoption had no effect
on Heartland's financial statement disclosures.
SFAS No. 132,"Employers' Disclosures About Pensions and Other
Postretirement Benefits," was effective for Heartland for the
year beginning January 1, 1998, and revises the disclosure
requirements for pension and other postretirement benefit plans.
The adoption had no effect on Heartland's financial statement
disclosures.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," will be effective for Heartland for the year
beginning January 1, 2000. Heartland expects to adopt SFAS No.
133 when required. Management does not believe the adoption of
SFAS No. 133 will have a material impact on the consolidated
financial statements.
TWO
ACQUISITIONS
Heartland regularly explores opportunities for acquisitions of
financial institutions and related businesses. Generally,
management does not make a public announcement about an
acquisition opportunity until a definitive agreement has been
signed.
On February 10, 1999, WCB entered into an office purchase and
assumption agreement with Bank One Wisconsin to acquire their
Monroe bank ("Monroe"). This transaction will require a cash
payment of $11,487 which will be funded by Heartland's revolving
credit line. Monroe will become a branch of WCB, headquartered
in Cottage Grove, Wisconsin. The transaction is subject to
regulatory approval and is expected to close in the third quarter
of 1999. This transaction will be accounted for as a purchase.
On July 17, 1998, Heartland acquired all of the assets and
assumed certain liabilities of Arrow Motors, Inc., a Wisconsin
corporation doing business as Lease Associates Group ("LAG") in
Milwaukee. With $28,000 in total assets, LAG was merged into
ULTEA, Heartland's wholly-owned fleet leasing subsidiary. The
stockholders of LAG, at the acquisition date, received 287,644
shares of Heartland common stock and the remaining balance of
$1,929 in a promissory note payable over three years bearing a
rate of 7.50%. The excess of the purchase price over the fair
value of net assets acquired was $632 and is being amortized
using the straight-line method over 25 years. The transaction
was accounted for as a purchase transaction, and accordingly, the
results of operations are included in the consolidated financial
statements from the acquisition date. The pro forma effect of
the acquisition was not material to the financial statements.
During 1997, Heartland entered into an agreement with a group of
New Mexico business leaders to establish a new bank in
Albuquerque. NMB opened on May 4, 1998, and Heartland funded the
remaining $10,850 of the $12,050 initial capital investment
through the use of the revolving credit line.
On March 1, 1997, Heartland acquired Cottage Grove State Bank
(subsequently named WCB), a $39,287 Wisconsin state bank located
in Cottage Grove, Wisconsin, at a cost of $7,890. The
stockholders of Cottage Grove State Bank, at the date of
acquisition, received cash of $4,892 and the remaining balance in
contracts payable over two, three or four years, at their
discretion, bearing rates of 7.00% and 7.50%. The amount paid in
excess of the equity of WCB allocated to securities and office
property and equipment was $138 and $672, respectively. The
amounts are being amortized over the remaining lives of the
assets using the methods and lives as described in note one. The
remaining purchase price paid in excess of the fair value of net
assets acquired was $2,465 and is being amortized using the
straight-line method over 25 years. This transaction was
accounted for as a purchase; accordingly, WCB's results of
operations were included in the consolidated financial statements
from the acquisition date.
Pro forma unaudited operating results, giving effect to the WCB
acquisition as if it had occurred at the beginning of the years
ended December 31, 1997 and 1996 are as follows:
1997 1996
---- ----
Interest income $59,749 $54,758
Interest expense 32,037 29,214
Provision for loan losses 1,334 1,492
Noninterest income 8,606 7,623
Noninterest expense 23,075 20,527
------- -------
Income before income taxes 11,909 11,148
Income taxes 3,374 2,913
------- -------
Net income $ 8,535 $ 8,235
======= =======
Earnings per common
share-basic $ .90 $ .87
======= =======
THREE
CASH AND DUE FROM BANKS
The Banks are required to maintain certain average cash reserve
balances as a member of the Federal Reserve System. The reserve
balance requirements at December 31, 1998 and 1997 were $1,257
and $1,420 respectively.
FOUR
SECURITIES
The amortized cost, gross unrealized gains and losses and
estimated fair values of held to maturity and available for sale
securities as of December 31, 1998 and 1997, are summarized as
follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
-------- -------- --------- --------
1998
Securities held to
maturity:
Obligations of
states and political
subdivisions $ 2,718 $ 153 $ - $ 2,871
-------- -------- -------- --------
Total $ 2,718 $ 153 $ - $ 2,871
======== ======== ======== ========
Securities available
for sale:
U.S. Treasury securities $ 1,701 $ 8 $ - $ 1,709
U.S. government
corporations and
agencies 76,471 1,005 (115) 77,361
Mortgage-backed
securities 127,732 817 (232) 128,317
Obligations of states
and political
subdivisions 17,281 1,542 (5) 18,818
Corporate debt
securities 2,454 40 (1) 2,493
-------- -------- --------- --------
Total debt
securities 225,639 3,412 (353) 228,698
Equity securities 10,778 647 (353) 11,072
-------- -------- --------- --------
Total $236,417 $ 4,059 $ (706) $239,770
======== ======== ========= ========
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
-------- -------- --------- ---------
1997
Securities held to
maturity:
U. S. government
corporations and
agencies $ 598 $ 2 $ - $ 600
Mortgage-backed
securities 325 - - 325
Obligations of
states and political
subdivisions 2,956 119 (1) 3,074
-------- -------- -------- --------
Total $ 3,879 $ 121 $ (1) $ 3,999
======== ======== ======== ========
Securities available
for sale:
U.S. Treasury securities $ 13,232 $ 110 $ - $ 13,342
U.S. government
corporations and
agencies 63,649 177 (64) 63,762
Mortgage-backed
securities 86,010 813 (133) 86,690
Obligations of states
and political
subdivisions 16,741 1,054 (49) 17,746
Corporate debt
securities 700 24 - 724
-------- -------- --------- --------
Total debt
securities 180,332 2,178 (246) 182,264
Mutual funds 548 - (36) 512
Equity securities 12,925 2,199 (31) 15,093
-------- -------- --------- --------
Total $193,805 $ 4,377 $ (313) $197,869
======== ======== ========= ========
The amortized cost and estimated fair value of debt securities
held to maturity and available for sale at December 31, 1998, by
estimated maturity, are as follows. Expected maturities will
differ from contractual maturities because issuers may have the
right to call or prepay obligations with or without penalties.
Estimated
Amortized Fair
Cost Value
--------- ---------
Securities held to maturity:
Due in 1 year or less $ 45 $ 46
Due in 1 to 5 years 1,476 1,516
Due in 5 to 10 years 852 925
Due after 10 years 345 384
-------- --------
Total $ 2,718 $ 2,871
======== ========
Securities available for sale:
Due in 1 year or less $ 76,384 $ 76,733
Due in 1 to 5 years 127,862 129,024
Due in 5 to 10 years 5,111 5,332
Due after 10 years 16,282 17,609
-------- --------
Total $225,639 $228,698
======== ========
As of December 31, 1998, securities with a market value of
$111,819 were pledged to secure public and trust deposits, short-
term borrowings and for other purposes as required by law.
Gross gains and losses related to sales of securities for the
years ended December 31, 1998, 1997 and 1996, are summarized as
follows:
1998 1997 1996
-------- -------- --------
Securities sold:
Proceeds from sales $30,204 $24,033 $24,368
Gross security gains 1,945 1,526 2,240
Gross security losses 48 80 351
FIVE
LOANS AND LEASES
Loans and leases as of December 31, 1998 and 1997, were as
follows:
1998 1997
------ ------
Loans:
Commercial and commercial
real estate $277,765 $242,868
Residential mortgage 156,415 175,268
Agricultural and agricultural
real estate 77,211 69,302
Consumer 72,642 64,223
-------- --------
Loans, gross 584,033 551,661
Unearned discount (2,136) (2,077)
Deferred loan fees (272) (349)
-------- --------
Loans, net 581,625 549,235
-------- --------
Direct financing leases:
Gross rents receivable 7,281 6,240
Estimated residual value 2,514 2,097
Unearned income (1,287) (1,166)
-------- --------
Direct financing leases, net 8,508 7,171
-------- --------
Allowance for possible loan and
lease losses (7,945) (7,362)
-------- --------
Loans and leases, net $582,188 $549,044
======== ========
Direct financing leases receivable are generally short-term
equipment leases. Future minimum lease payments as of December
31, 1998, were as follows: 1999 $2,898; 2000, $2,032; 2001,
$1,928; 2002, $1,548; 2003, $973 and thereafter, $416.
As DB&T is the largest subsidiary of Heartland, the majority of
the loan portfolio is concentrated in northeast Iowa, northwest
Illinois and southwest Wisconsin.
Loans and leases on a nonaccrual status amounted to $1,324 and
$1,819 at December 31, 1998 and 1997, respectively. The allowance
for loan and lease losses related to these nonaccrual loans was
$176 and $208, respectively. Nonaccrual loans of $314 and $1,163
were not subject to a related allowance for loan and lease losses
at December 31, 1998 and 1997, respectively, because of the net
realizable value of loan collateral, guarantees and other
factors. The average balances of nonaccrual loans for the years
ended December 31, 1998, 1997 and 1996 were $1,437, $1,585 and
$1,212, respectively. For the years ended December 31, 1998,
1997 and 1996, interest income which would have been recorded
under the original terms of these loans and leases amounted to
approximately $59, $87 and $108, respectively and interest income
actually recorded amounted to approximately $10, $9 and $7,
respectively.
Loans are made in the normal course of business to directors,
officers and principal holders of equity securities of Heartland.
The terms of these loans, including interest rates and
collateral, are similar to those prevailing for comparable
transactions and do not involve more than a normal risk of
collectibility. Changes in such loans during the year ended
December 31, 1998, were as follows:
1998
--------
Balance at beginning of year $15,415
New loans 5,910
Repayments 9,815
--------
Balance at end of year $11,510
========
SIX
ALLOWANCE FOR POSSIBLE
LOAN AND LEASE LOSSES
Changes in the allowance for possible loan and lease losses for
the years ended December 31, 1998, 1997 and 1996, were as
follows:
1998 1997 1996
------ ------ ------
Balance at beginning of year $7,362 $6,191 $5,580
Provision for possible loan and
lease losses 951 1,279 1,408
Recoveries on loans and leases
previously charged off 455 145 129
Loans and leases charged off (823) (584) (926)
Additions related to acquisitions - 331 -
------ ------ ------
Balance at end of year $7,945 $7,362 $6,191
====== ====== ======
SEVEN
PREMISES, FURNITURE AND EQUIPMENT
Premises, furniture and equipment as of December 31, 1998 and
1997, were as follows:
1998 1997
------- -------
Land and land improvements $ 3,366 $ 2,107
Buildings and building improvements 15,787 15,366
Furniture and equipment 12,349 9,831
------- -------
Total 31,502 27,304
Less accumulated depreciation (11,722) (10,120)
------- -------
Premises, furniture and equipment, net $19,780 $17,184
======= =======
Depreciation expense on premises, furniture and equipment was
$1,730 for 1998, $1,443 for 1997 and $1,121 for 1996.
EIGHT
DEPOSITS
The aggregate amount of time certificates of deposit in
denominations of one hundred thousand dollars or more as of
December 31, 1998 and 1997, were $62,293 and $38,885,
respectively. At December 31, 1998, the scheduled maturities of
time certificates of deposit were as follows:
1998
---------
1999 $190,684
2000 108,941
2001 24,238
2002 12,863
2003 thereafter 17,428
--------
Total $354,154
========
Interest expense on deposits for the years ended December 31,
1998, 1997 and 1996, was as follows:
1998 1997 1996
------ ------ ------
Savings and insured money
market accounts $ 9,512 $ 8,317 $ 7,474
Time certificates of deposit in
denominations of $100 or more 2,905 1,961 2,131
Other time deposits 16,228 15,487 13,585
------- ------- -------
Interest expense on deposits $28,645 $25,765 $23,190
======= ======= =======
NINE
SHORT-TERM BORROWINGS
Short-term borrowings as of December 31, 1998 and 1997, were as
follows:
1998 1997
------- -------
Securities sold under
agreements to repurchase $36,716 $45,328
Federal funds purchased 13,175 6,550
Federal Home Loan Bank ("FHLB")
advances 14,504 27,500
U.S. Treasury demand note 3,636 15,728
Notes payable on leased assets 6,423 310
Contracts payable to previous
owners of LAG for acquisition 643 -
Contracts payable to previous
stockholders of WCB for
acquisition 823 823
------- -------
Total $75,920 $96,239
======= =======
See Note 11 related to collateral pledged for FHLB advances.
All repurchase agreements as of December 31, 1998 and 1997, were
due within six months.
Average and maximum balances and rates on aggregate short-term
borrowings outstanding during the years ended December 31, 1998,
1997 and 1996, were as follows:
1998 1997 1996
-------- ------- -------
Maximum month-end balance $102,313 $96,239 $56,358
Average month-end balance 80,277 73,170 42,025
Weighted average interest
rate for the year 5.19% 5.32% 5.24%
Weighted average interest
rate at year-end 5.00 5.49 5.75
TEN
INCOME TAXES
Income taxes for the years ended December 31, 1998, 1997 and
1996, were as follows:
Current Deferred Total
-------------------------
1998:
Federal $2,900 $ 300 $3,200
State 577 (20) 557
------ ------ ------
Total $3,477 $ 280 $3,757
====== ====== ======
1997:
Federal $2,977 $ (47) $2,930
State 428 (20) 408
------ ------ ------
Total $3,405 $ (67) $3,338
====== ====== ======
1996:
Federal $2,291 $ (42) $2,249
State 500 (64) 436
------ ------ ------
Total $2,791 $ (106) $2,685
====== ====== ======
Temporary differences between the amounts reported in the
financial statements and the tax basis of assets and liabilities
result in deferred taxes. No valuation allowance was required
for deferred tax assets. Based upon Heartland's level of
historical taxable income and anticipated future taxable income
over the periods in which the deferred tax assets are deductible,
management believes it is more likely than not that Heartland
will realize the benefits of these deductible differences.
Deferred tax liabilities and assets for the years ended December
31, 1998 and 1997, were as follows:
1998 1997
------ ------
Deferred tax assets:
Allowance for possible loan
and lease losses $ 2,997 $ 2,710
Deferred compensation 244 240
Securities 136 -
Net operating loss 468 225
------- -------
Gross deferred tax assets $ 3,845 $ 3,175
------- -------
Deferred tax liabilities:
Unrealized gain on securities
available for sale $(1,246) $(1,519)
Fixed assets (4,470) (1,440)
Leases (1,360) (1,360)
Tax bad debt reserves (697) (830)
Securities - (145)
Prepaid expenses (165) (120)
Other (30) (35)
------- -------
Gross deferred tax liabilities $(7,968) $(5,449)
------- -------
Net deferred tax (liability) $(4,123) $(2,274)
======== ========
The actual income taxes differ from the expected amounts
(computed by applying the U.S. federal corporate tax rate of 35%
for 1998, 1997 and 1996, to income before income taxes) as
follows:
1998 1997 1996
--------------------------
Computed "expected" amount $4,472 $4,149 $3,742
Increase (decrease) resulting from:
Nontaxable interest income (511) (510) (560)
State income taxes, net of federal
tax benefit 360 260 280
Appreciated property contributed - - (230)
Graduated income tax rates (100) (100) (110)
Tax credits (440) (440) (440)
Other (24) (21) 3
------ ------ ------
Income taxes $3,757 $3,338 $2,685
====== ====== ======
Effective tax rates 29.4% 28.2% 25.1%
====== ====== =======
Heartland has investments in certain low-income housing projects
totaling $6,104 and $6,028 as of December 31, 1998 and 1997,
respectively, which are included in other assets in the
consolidated financial statements. These investments are
expected to generate federal income tax credits of approximately
$440 per year through 2005.
ELEVEN
OTHER BORROWINGS
Other borrowings at December 31, 1998 and 1997, were
as follows:
1998 1997
------- -------
Advances from the FHLB;
weighted average maturity dates at
December 31, 1998 and 1997, were
July, 2002 and August, 2001,
respectively; and weighted average
interest rates were 6.12% and 6.06%,
respectively $26,114 $36,900
Notes payable on leased assets with
interest rates varying from 5.87% to
9.50% 12,845 622
Revolving credit line 16,200 3,500
Contracts payable to previous stock-
holders of LAG for acquisition due
over a three-year schedule at 7.50%
through July, 2001. 1,286 -
Contracts payable to previous stock-
holders of WCB for acquisition due
in annual payments over two-, three- or
four-year schedules at interest rates
of 7.00% to 7.50% through March, 2001 1,178 2,001
------- ------
Total $57,623 $43,023
======= =======
DB&T, GSB, FCB and RCB are members of the FHLB of Des Moines or
of Chicago. The advances from the FHLB are collateralized by the
Banks' investment in FHLB stock of $3,659 and $6,431 at December
31, 1998, and December 31, 1997, respectively. Additional
collateral is provided by the Banks' one-to-four unit residential
mortgages totaling $116,520 at December 31, 1998, and $142,777 at
December 31, 1997.
On October 31, 1997, Heartland entered into a four-year,
unsecured revolving credit line with an unaffiliated bank, which
provides for variable-rate borrowings of up to $20,000. Under the
terms of this agreement, Heartland must maintain a minimum return
on average assets, maximum nonperforming assets to total loans
ratio, maximum funded debt to total equity capital ratio and each
of Heartland's banking subsidiaries must remain well capitalized.
Future payments at December 31, 1998, for all other borrowings
were as follows:
2000 $ 18,664
2001 23,854
2002 7,005
2003 1,505
Thereafter 6,595
--------
Total $ 57,623
========
TWELVE
EMPLOYEE BENEFIT PLANS
Heartland sponsors retirement plans covering substantially all
employees. Contributions to the plans are subject to approval by
the Heartland Board of Directors, and the Heartland subsidiaries
fund and record as an expense all approved contributions. Costs
charged to operating expenses were $435 for 1998, $418 for 1997
and $382 for 1996.
Heartland also has a non-contributory, defined contribution
pension plan covering substantially all employees. Annual
contributions are based upon 5% of qualified compensation as
defined in the plan. Costs charged to operating expense were $435
for 1998, $418 for 1997 and $382 for 1996. Heartland also has an
employee savings plan covering substantially all employees. Under
the employee savings plan, the Heartland subsidiaries make
matching contributions of up to 2% of the participants' wages.
Costs charged to operating expenses were $161 for 1998, $150 for
1997 and $140 for 1996.
THIRTEEN
COMMITMENTS AND CONTINGENT LIABILITIES
Heartland leases certain land and facilities under operating
leases. Minimum future rental commitments at December 31, 1998,
for all non-cancelable leases were as follows:
1999 $264
2000 90
2001 60
2002 22
2003 22
Thereafter 89
----
Total $547
====
Rental expense for premises and equipment leased under operating
leases was $268 for 1998, $78 for 1997 and $128 for 1996.
In the normal course of business, the Banks make various
commitments and incur certain contingent liabilities that are not
presented in the accompanying consolidated financial statements.
The commitments and contingent liabilities include various
guarantees, commitments to extend credit and standby letters of
credit.
Commitments to extend credit are agreements to lend to a customer
as long as there is no violation of any condition established in
the contract. Commitments generally have fixed expiration dates
or other termination clauses and may require payment of a fee.
Since many of the commitments are expected to expire without
being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Banks evaluate each
customer's creditworthiness on a case-by-case basis. The amount
of collateral obtained, if deemed necessary by the Banks upon
extension of credit, is based upon management's credit evaluation
of the counterparty. Collateral held varies but may include
accounts receivable, inventory, property, plant and equipment and
income-producing commercial properties. Standby letters of credit
and financial guarantees written are conditional commitments
issued by the Banks to guarantee the performance of a customer to
a third party. Those guarantees are primarily issued to support
public and private borrowing arrangements. The credit risk
involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers. At
December 31, 1998 and 1997, commitments to extend credit
aggregated $229,332 and $140,677 and standby letters of credit
aggregated $6,230 and $5,267, respectively. Heartland does not
anticipate any material loss as a result of the commitments and
contingent liabilities.
FOURTEEN
STOCK PLANS
Heartland's Stock Option Plan ("Plan") is administered by the
Compensation Committee ("Committee") of the Board of Directors
whose members determine to whom options will be granted and the
terms of each option. Under the Plan, 1,200,000 common shares
have been reserved for issuance. Directors and key policy-making
employees are eligible for participation in the Plan. Options may
be granted that are either intended to be "incentive stock
options" as defined under Section 422 of the Internal Revenue
Code or not intended to be incentive stock options ("non-
qualified stock options"). The exercise price of stock options
granted will be established by the Committee, but the exercise
price for the incentive stock options may not be less than the
fair market value of the shares on the date that the option is
granted. Each option granted is exercisable in full at any time
or from time to time, subject to vesting provisions, as
determined by the Committee and as provided in the option
agreement, but such time may not exceed ten years from the grant
date. At December 31, 1998 and 1997 respectively, there were
468,519 and 628,006 shares available for issuance under the Plan.
Under the Plan, stock appreciation rights ("SARS") may also be
granted alone or in tandem with or with reference to a related
stock option, in which event the grantee, at the exercise date,
has the option to exercise the option or the SARS, but not both.
SARS entitle the holder to receive in cash or stock, as
determined by the Committee, an amount per share equal to the
excess of the fair market value of the stock on the date of
exercise over the fair value at the date the SARS or related
options were granted. SARS may be exercisable for up to ten years
after the date of grant. No SARS have been granted under the
Plan.
A summary of the status of the Plan as of December 31, 1998, 1997
and 1996, and changes during the years ended follows:
1998 1997 1996
Weighted- Weighted- Weighted-
Average Average Average
Shares Exercise Shares Exercise Shares Exercise
(000) Price (000) Price (000) Price
------ -------- ------ -------- ------ ---------
Outstanding
at beginning
of year 522 $ 9 392 $ 8 248 $ 8
Granted 196 15 146 12 222 9
Exercised (28) 15 (4) 13 (47) 11
Forfeited (36) 16 (12) 13 (31) 11
---- ---- ---
Outstanding at
end of year 654 $10 522 $ 9 392 $ 8
==== === ===
Options
exercisable
at end of year 6 $12 6 $12 6 $12
Weighted-average
fair value of
options
granted during
the year $3.65 $3.83 $2.07
As of December 31, 1998 and 1997, options outstanding had
exercise prices ranging from $8 to $14.75 per share and a
weighted-average remaining contractual life of 7.40 and 8.00
years, respectively.
The fair value of stock options granted was determined utilizing
the Black Scholes Valuation model. Significant assumptions
include:
1998 1997 1996
------ ------ ------
Risk-free interest rate 5.75% 6.30% 5.68%
Expected option life 10 Years 10 Years 10 Years
Expected volatility 24.27% 24.27% 28.62%
Expected dividends 1.76% 2.17% 2.29%
Heartland applies APB Opinion No. 25 in accounting for its Plan
and, accordingly, no compensation cost for its stock options has
been recognized in the financial statements. Had Heartland
determined compensation cost based on the fair value at the grant
date for its stock options under SFAS No. 123 "Accounting for
Stock-Based Compensation", Heartland's net income would have been
reduced to the pro forma amounts indicated below:
1998 1997 1996
---- ---- ----
Net income as reported $9,021 $8,515 $8,006
Pro forma 8,745 8,317 7,853
Earnings per share-basic
as reported $ .95 $ .90 $ .85
Pro forma .92 .88 .83
Earnings per share-diluted
as reported $ .94 $ .89 $ .84
Pro forma .91 .86 .82
Pro forma net income reflects only options granted in 1998, 1997,
1996 and 1995. Therefore, the full impact of calculating
compensation cost for stock options under SFAS No. 123 is not
reflected in the pro forma net income amounts presented above
because compensation is reflected over the options' vesting
period, and compensation cost for options granted prior to
January 1, 1995, is not considered.
In 1996, Heartland adopted the Heartland Employee Stock Purchase
Plan ("ESPP"), which permits all eligible employees to purchase
shares of Heartland common stock at a price of not less than 85%
of the fair market value on the determination date (as determined
by the Committee). A maximum of 400,000 shares is available for
sale under the ESPP. For the years ended December 31, 1998 and
1997, Heartland approved a price of 100% of fair market value at
December 31, 1997 and December 31, 1996, respectively. At
December 31, 1998 and 1997, respectively, 15,333 and 19,146
shares were purchased under the ESPP at no charge to Heartland's
earnings.
During each of the years ended December 31, 1998, 1997 and 1996,
Heartland acquired shares for use in the executive stock purchase
plan, the Plan and the ESPP. Shares acquired totaled 290,924,
65,670 and 74,618 for 1998, 1997 and 1996, respectively.
In 1991, Heartland adopted a stock purchase plan which provides
executive officers of Heartland and the Banks the opportunity to
purchase up to a cumulative total of 400,000 common shares of
Heartland stock. Under this plan, Heartland may issue treasury
shares at a price equal to the price paid when acquired as
treasury shares. Cumulative shares sold through December 31,
1997 under the plan were 399,800. Total compensation expense
associated with this plan was $267 and $42 for 1997 and 1996,
respectively. No additional shares are anticipated to be issued
under this plan. A summary of the activity in the executive
restricted stock purchase plan for the years ended December 31,
1997 and 1996 follows:
1997 1996
------- -------
Granted 55,268 139,076
Exercised 55,068 83,808
Forfeited 200 55,268
Average Offering Price $ 8.10 $ 8.10
FIFTEEN
FAIR VALUE OF FINANCIAL INSTRUMENTS
Following are disclosures of the estimated fair value of
Heartland's financial instruments. The estimated fair value
amounts have been determined using available market information
and appropriate valuation methodologies. However, considerable
judgment is necessarily required to interpret market data to
develop the estimates of fair value. Accordingly, the estimates
presented herein are not necessarily indicative of the amounts
Heartland could realize in a current market exchange. The use of
different market assumptions and/or estimation methodologies may
have a material effect on the estimated fair value amounts.
December 31, December 31,
1998 1997
-------------------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
-------------------------------------
Financial Assets:
Cash and cash equivalents $ 42,831 $ 42,831 $ 57,185 $ 57,185
Time deposits in other
banks 6,127 6,127 194 194
Securities available for
sale 239,770 239,770 197,869 197,869
Securities held to
maturity 2,718 2,871 3,879 3,999
Loans and leases, net of
unearned 590,133 594,185 556,406 558,515
Financial Liabilities:
Demand deposits $ 70,871 $ 70,871 $ 60,950 $ 60,950
Savings deposits 292,852 292,852 252,292 252,292
Time deposits 354,154 358,044 310,290 310,869
Short-term borrowings 75,920 75,920 96,239 96,239
Other borrowings 57,623 58,872 43,023 43,288
Cash and Cash Equivalents and Time Deposits in Other Banks - The
carrying amount is a reasonable estimate of fair value.
Securities - For securities either held to maturity or available
for sale, fair value equals quoted market price if available. If
a quoted market price is not available, fair value is estimated
using quoted market prices for similar securities.
Loans and Leases - The fair value of loans is estimated by
discounting the future cash flows using the current rates at
which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities. The fair
value of loans held for sale is estimated using quoted market
prices.
Deposits - The fair value of demand deposits, savings accounts
and certain money market deposits is the amount payable on demand
at the reporting date. The fair value of fixed maturity
certificates of deposit is estimated using the rates currently
offered for deposits of similar remaining maturities.
Short-term and Other Borrowings - Rates currently available to
the Banks for debt with similar terms and remaining maturities
are used to estimate fair value of existing debt.
Commitments to Extend Credit, Unused Lines of Credit and Standby
Letters of Credit - Based upon management's analysis of the off
balance sheet financial instruments, there are no significant
unrealized gains or losses associated with these financial
instruments based upon our review of the fees currently charged
to enter into similar agreements, taking into account the
remaining terms of the agreements and the present
creditworthiness of the counterparties.
SIXTEEN
REGULATORY CAPITAL REQUIREMENTS AND RESTRICTIONS ON SUBSIDIARY
DIVIDENDS
The Banks are subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory, and
possibly additional discretionary, actions by regulators that, if
undertaken, could have a direct material effect on the Banks'
financial statements. The regulations prescribe specific capital
adequacy guidelines that involve quantitative measures of a
bank's assets, liabilities and certain off balance sheet items as
calculated under regulatory accounting practices. Capital
classification is also subject to qualitative judgments by the
regulators about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital
adequacy require the Banks to maintain minimum amounts and ratios
(set forth in the table below) of total and Tier 1 capital (as
defined in the regulations) to risk-weighted assets (as defined),
and of Tier 1 capital (as defined) to average assets (as
defined). Management believes, as of December 31, 1998 and 1997,
that the Banks met all capital adequacy requirements to which
they were subject.
As of December 31, 1998, the most recent notification from the
FDIC categorized each of the Banks as well capitalized under the
regulatory framework for prompt corrective action. To be
categorized as well capitalized, the Banks must maintain minimum
total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as
set forth in the following table. There are no conditions or
events since that notification that management believes have
changed the institution's category.
The Banks' actual capital amounts and ratios are also presented
in the table below.
To Be Well
Capitalized
Under Prompt
For Capital Corrective
Adequacy Action
Actual Purposes Provisions
-------------- -------------- --------------
Amount Ratio Amount Ratio Amount Ratio
------- ----- ------- ----- ------- -----
As of December 31, 1998
Total Capital (to Risk-
Weighted Assets)
Consolidated $89,093 12.13% $58,757 >8.0% N/A
DB&T 44,380 10.10 35,144 >8.0 $43,930 >10.0%
GSB 10,850 13.66 6,353 >8.0 7,941 >10.0
FCB 9,385 13.53 5,551 >8.0 6,939 >10.0
RCB 4,818 11.23 3,431 >8.0 4,288 >10.0
WCB 4,774 13.60 2,809 >8.0 3,511 >10.0
NMB 14,901 45.85 2,600 >8.0 3,250 >10.0
Tier 1 Capital (to Risk-
Weighted Assets)
Consolidated $81,149 11.05% $29,379 >4.0% N/A
DB&T 39,960 9.10 17,572 >4.0 $26,358 >6.0%
GSB 9,857 12.41 3,177 >4.0 4,765 >6.0
FCB 8,516 12.27 2,776 >4.0 4,163 >6.0
RCB 4,398 10.26 1,715 >4.0 2,573 >6.0
WCB 4,358 12.41 1,405 >4.0 2,107 >6.0
NMB 14,535 44.72 1,300 >4.0 1,950 >6.0
Tier 1 Capital
(to Average Assets)
Consolidated $81,149 8.58% $37,810 >4.0% N/A
DB&T 39,960 7.38 21,670 >4.0 $27,088 >5.0%
GSB 9,857 7.76 5,082 >4.0 6,353 >5.0
FCB 8,516 8.36 4,073 >4.0 5,092 >5.0
RCB 4,398 7.03 2,502 >4.0 3,127 >5.0
WCB 4,358 9.14 1,908 >4.0 2,385 >5.0
NMB 14,535 40.62 1,431 >4.0 1,789 >5.0
To Be Well
Capitalized
Under Prompt
For Capital Corrective
Adequacy Action
Actual Purposes Provisions
-------------- -------------- --------------
Amount Ratio Amount Ratio Amount Ratio
------- ----- ------- ----- ------- -----
As of December 31, 1997
Total Capital (to Risk-
Weighted Assets)
Consolidated $78,995 12.71% $49,707 >8.0% N/A
DB&T 43,180 10.92 31,629 >8.0 $39,537 >10.0%
GSB 9,526 13.09 5,821 >8.0 7,276 >10.0
FCB 9,068 11.05 6,563 >8.0 8,204 >10.0
RCB 3,710 12.04 2,465 >8.0 3,081 >10.0
WCB 4,855 18.32 2,120 >8.0 2,650 >10.0
Tier 1 Capital (to Risk-
Weighted Assets)
Consolidated $71,713 11.54% $24,854 >4.0% N/A
DB&T 38,754 9.80 15,815 >4.0 $23,722 > 6.0%
GSB 8,615 11.84 2,910 >4.0 4,366 > 6.0
FCB 8,197 9.99 3,282 >4.0 4,922 > 6.0
RCB 3,354 10.89 1,232 >4.0 1,849 > 6.0
WCB 4,524 17.07 1,060 >4.0 1,590 > 6.0
Tier 1 Capital
(to Average Assets)
Consolidated $71,713 8.76% $32,729 >4.0% N/A
DB&T 38,754 7.81 19,841 >4.0 $24,801 > 5.0%
GSB 8,615 7.06 4,883 >4.0 6,103 > 5.0
FCB 8,197 7.53 4,355 >4.0 5,444 > 5.0
RCB 3,354 7.79 1,723 >4.0 2,153 > 5.0
WCB 4,524 11.11 1,628 >4.0 2,035 > 5.0
The ability of Heartland to pay dividends to its stockholders is
dependent upon dividends paid by its subsidiaries. The Banks are
subject to certain statutory and regulatory restrictions on the
amount they may pay in dividends. To maintain acceptable capital
ratios in the Banks, certain portions of their retained earnings
are not available for the payment of dividends. Retained earnings
which could be available for the payment of dividends to
Heartland totaled approximately $33,220 as of December 31, 1998,
under the most restrictive minimum capital requirements.
SEVENTEEN
PARENT COMPANY ONLY FINANCIAL INFORMATION
Condensed financial information for Heartland Financial USA, Inc.
is as follows:
Balance Sheets
December 31, 1998 1997
--------- ---------
Assets:
Cash and interest bearing deposits $ 695 $ 716
Investment in subsidiaries 100,585 80,584
Other assets 1,442 1,703
Due from subsidiaries - 1,350
--------- ---------
Total $102,722 $ 84,353
========= =========
Liabilities
and stockholders' equity:
Liabilities:
Contracts payable for acquisition of
WCB $ 2,001 $ 2,824
Notes payable 16,200 3,500
Accrued expenses and other liabilities 251 257
--------- ---------
Total liabilities 18,452 6,581
--------- ---------
Stockholders' equity:
Common stock 9,707 4,854
Capital surplus 10,131 13,706
Retained earnings 65,007 58,914
Accumulated other comprehensive
income 2,107 2,545
Treasury stock (2,682) (2,247)
--------- ---------
Total stockholders' equity 84,270 77,772
--------- ---------
Total $102,722 $ 84,353
========= =========
Income Statements for the
Years Ended December 31, 1998 1997 1996
------ ------ ------
Operating revenues:
Dividends from subsidiaries $7,413 $2,621 $5,611
Other 173 10 4
------ ------ ------
Total operating revenues 7,586 2,631 5,615
------ ------ ------
Operating expenses:
Interest 1,115 208 -
Outside services 151 219 197
Other operating expenses 442 350 443
------ ------ ------
Total operating expenses 1,708 777 640
------ ------ ------
Equity in undistributed earnings 2,684 6,398 2,815
------ ------ ------
Income before income tax benefit 8,562 8,252 7,790
Income tax benefit 459 263 216
------ ------ ------
Net income $9,021 $8,515 $8,006
====== ====== ======
Statements of Cash Flows For
the Years Ended December 31, 1998 1997 1996
------ ------ ------
Cash flows from operating
activities:
Net income $ 9,021 $ 8,515 $ 8,006
Adjustments to reconcile net
income to net cash provided by
operating activities:
Undistributed earnings of
subsidiaries (2,684) (6,398) (2,815)
(Increase) decrease in due
from subsidiaries 1,350 (1,135) (215)
Increase (decrease) in other
liabilities (6) 167 (54)
(Increase) decrease in other
assets 261 (1,499) (178)
------- ------- -------
Net cash provided (used)
by operating activities 7,942 (350) 4,744
------- ------- -------
Cash flows from investing
activities:
Capital injections for
subsidiaries (13,152) (2,855) (543)
Payments for purchase of
subsidiaries - (7,890) -
Retirement of subsidiary stock - 4,500 -
Other 4 - -
------- ------- -------
Net cash used by
investing activities (13,148) (6,245) (543)
------- ------- -------
Cash flows from financing
activities:
Payments on other borrowings (7,018) (1,042) -
Proceeds from contracts payable - 3,865 -
Proceeds from notes payable 18,895 3,500 -
Cash dividends paid (2,930) (2,465) (1,886)
Purchase of treasury stock (4,431) (865) (759)
Sale of treasury stock 669 1,110 1,296
------- ------- -------
Net cash provided (used) by
financing activities 5,185 4,103 (1,349)
------- ------- -------
Net increase (decrease) in cash
and cash equivalents (21) (2,492) 2,852
Cash and cash equivalents at
beginning of year 716 3,208 356
------- ------- -------
Cash and cash equivalents at
end of year $ 695 $ 716 $ 3,208
======= ======= =======
Representations of Management
Management is responsible for the contents of the consolidated
financial statements and other information contained in other
sections of this annual report. The consolidated financial
statements have been prepared in conformity with generally
accepted accounting principles appropriate to reflect, in all
material respects, the substance of events and transactions that
should be included. The consolidated financial statements
reflect management's judgments and estimates as to the effects of
events and transactions that are accounted for or disclosed. The
company maintains accounting and reporting systems, supported by
an internal accounting control system, which are adequate to
provide reasonable assurance that transactions are authorized,
assets are safeguarded, and reliable consolidated financial
statements are prepared, recognizing the cost and expected
benefits of internal accounting controls. A staff of internal
auditors conducts ongoing reviews of accounting practices and
internal accounting controls.
The consolidated financial statements as of December 31, 1998,
1997 and 1996, of Heartland Financial USA, Inc. and its
subsidiaries: Dubuque Bank and Trust Company; Galena State Bank
and Trust Company; Riverside Community Bank; Wisconsin Community
Bank; New Mexico Bank & Trust; First Community Bank, FSB; DB&T
Insurance, Inc.; DB&T Community Development Corp.; Citizens
Finance Co.; ULTEA, Inc.; Keokuk Bancshares, Inc. (dba KBS
Investment Corp); and DBT Investment Corporation were audited by
independent certified public accountants. Their role is to
render independent professional opinions of the fairness of the
consolidated financial statements based upon performance of
procedures they deem appropriate under generally accepted
auditing standards.
The Audit Committees of the Boards of Directors of member banks
meet periodically with the internal auditors to review matters
relating to internal accounting controls and the nature, extent
and results of audit efforts. The internal auditors and
independent certified public accountants have free access to the
Audit Committees.
/s/ Lynn B. Fuller
Lynn B. Fuller
President, Heartland Financial USA, Inc;
President and CEO, Dubuque Bank and Trust Company
/s/ John K. Schmidt
John K. Schmidt
Executive Vice President and CFO, Heartland Financial USA, Inc.;
Senior Vice President and CFO, Dubuque Bank and Trust Company
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Heartland Financial USA, Inc.:
We have audited the accompanying consolidated balance sheets of
Heartland Financial USA, Inc. and subsidiaries as of December 31,
1998 and 1997, and the related consolidated statements of income,
stockholders' equity, and cash flows for each of the years in the
three-year period ended December 31, 1998. These consolidated
financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial
position of Heartland Financial USA, Inc. and subsidiaries as of
December 31, 1998 and 1997, and the results of their operations
and their cash flows for each the years in the three-year period
ended December 31, 1998, in conformity with generally accepted
accounting principles.
KPMG Peat Marwick LLP
Des Moines, IA
January 21, 1999
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
ITEM 10.
DIRECTORS AND EXECUTIVE OFFICERS
The information in the Heartland Proxy Statement for the 1999
annual meeting of stockholders dated April 5, 1999, (the "1999"
Proxy Statement") under the caption "Election of Directors" and
under the caption "Security Ownership of Directors and Executive
Officers and Certain Beneficial Owners" is incorporated by
reference. The information regarding executive officers is
included pursuant to Instruction 3 to Item 401 (b) and (c) of
Regulation S-K and is noted below.
EXECUTIVE OFFICERS
The term of office for the executive officers of Heartland is
from the date of election until the next annual organizational
meeting of the Board of Directors. The names and ages of the
executive officers of Heartland as of December 31, 1998, offices
held by these officers on that date and other positions held with
Heartland and its subsidiaries are set forth below.
Position with Heartland
and Subsidiaries
Name Age and Principal Occupation
Lynn B. Fuller 49 Director and President
of Heartland; Director,
President and Chief Executive
Officer of DB&T; Director of
GSB, FCB, WCB, NMB, Keokuk,
DB&T Insurance, Citizens, DBT
Investment and DB&T
Development; President of
DB&T Insurance, DB&T
Development and Citizens;
Chairman and Director of RCB;
Chairman and Director of
ULTEA.
Lynn S. Fuller 74 Chairman of the Board
and Chief Executive Officer
of Heartland; Director and
Vice Chairman of the Board of
DB&T; Director of DB&T
Insurance, Citizens and DB&T
Development
James A. Schmid 75 Vice Chairman of the
Board of Heartland; Chairman
of the Board of DB&T;
Director of DB&T Insurance,
Citizens and DB&T Development
John K. Schmidt 39 Executive Vice President
and Chief Financial Officer
of Heartland; Senior Vice
President and Chief Financial
Officer of DB&T; Treasurer of
DB&T Insurance and Citizens;
Director of DBT Investment;
Vice President and Assistant
Secretary of ULTEA
Kenneth J. Erickson 47 Senior Vice President of
Heartland; Senior Vice
President, Lending of DB&T;
Senior Vice President of Cit-
izens; Director of ULTEA
Edward H. Everts 47 Senior Vice President,
Heartland; Senior Vice
President of Operations and
Retail Banking of DB&T
Douglas J. Horstmann 45 Senior Vice President,
Lending of Heartland; Senior
Vice President, Lending of
DB&T; Executive Vice
President of DB&T Development
Paul J. Peckosh 53 Senior Vice President,
Trust of DB&T
Mr. Lynn B. Fuller is the son of Mr. Lynn S. Fuller. There are no
other family relationships among any of the directors or
executive officers of Heartland.
Lynn B. Fuller has been a director of Heartland and of DB&T since
1984 and has been President of Heartland and DB&T since 1987. He
has been a director of GSB since its acquisition by Heartland in
1992 and of Keokuk and FCB since the merger in 1994. Mr. Fuller
joined DB&T in 1971 as a consumer loan officer and was named
DB&T's Executive Vice President and Chief Executive Officer in
1985. He was named Chairman and Director of RCB in conjunction
with the opening of the de novo operation in 1995, Director of
WCB in conjunction with the purchase of Cottage Grove State Bank
in 1997 and Director of NMB in conjunction with the opening of
the de novo bank in 1998.
Lynn S. Fuller has been a director of Heartland since its
formation in 1981 and of DB&T since 1964. Mr. Fuller began his
banking career in 1946 in Minnesota, and he returned to Iowa in
1949 to serve as Executive Vice President and Cashier of Jackson
State Savings Bank in Maquoketa. Mr. Fuller joined DB&T in 1964.
He was later named President of DB&T and held this position until
1987. Mr. Fuller remains as the Chairman of the Board and Chief
Executive Officer of Heartland.
James A. Schmid has been a director of Heartland since its
formation in 1981 and of DB&T since 1966. Mr. Schmid also
currently serves as the Vice Chairman of Heartland and as the
Chairman of the Board of DB&T.
John K. Schmidt has been Heartland's Executive Vice President and
Chief Financial Officer since 1991. He has been employed by DB&T
since September, 1984 and became DB&T's Vice President, Finance
in 1986, and Senior Vice President and Chief Financial Officer in
January, 1991. Mr. Schmidt is a certified public accountant and
worked at KPMG Peat Marwick in Des Moines, Iowa, from 1982 until
joining DB&T.
Kenneth J. Erickson has been Senior Vice President of Heartland
since 1992 and Senior Vice President, Lending of DB&T since 1989.
Mr. Erickson joined DB&T in 1975 and was appointed Vice
President, Commercial Loans in 1985.
Edward H. Everts was appointed as Senior Vice President of
Heartland in 1996. Mr. Everts joined DB&T as Senior Vice
President, Operations and Retail Banking in 1992. Prior to his
service with DB&T, Mr. Everts was Vice President and Lead Retail
Banking Manager of First Bank, Duluth, Minnesota.
Douglas J. Horstmann has been Senior Vice President, Lending, of
DB&T since 1989. Mr. Horstmann joined DB&T in 1980 and was
appointed Vice President, Commercial Loans in 1985. Prior to
joining DB&T, Mr. Horstmann was an examiner for the Iowa Division
of Banking.
Paul J. Peckosh has been Senior Vice President, Trust, of DB&T
since 1991. Mr. Peckosh joined DB&T in 1975 as Assistant Vice
President, Trust and was appointed Vice President, Trust in 1980.
Mr. Peckosh is an attorney and graduated from the Marquette
University of Law School in 1970.
ITEM 11.
EXECUTIVE COMPENSATION
The information in the 1999 Proxy Statement, under the caption
"Executive Compensation" is incorporated by reference, except for
the information contained under the heading "Compensation
Committee Report on Executive Compensation" and "Stockholder
Return Performance Presentation."
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information in the 1999 Proxy Statement, under the caption
"Security Ownership of Certain Beneficial Owners and Management"
is incorporated by reference.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information in the 1999 Proxy Statement under the caption
"Transactions with Management" is incorporated by reference.
PART IV
ITEM 14.
EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The documents filed as a part of this report are listed
below:
3. Exhibits
The exhibits required by Item 601 of Regulation S-K are
included along with this Form 10-K and are listed on the "Index
of Exhibits" immediately following the signature page.
(b) Reports of Form 8-K:
There were no reports on Form 8-K filed during the last
quarter of the period covered by this report.
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities
Exchange Act of 1934, the Registrant has duly caused this report
to be signed on its behalf by the undersigned, thereunto duly
authorized on March 16, 1999.
Heartland Financial USA, Inc.
By:
/s/ Lynn S. Fuller /s/ John K. Schmidt
------------------------ ------------------------
Lynn S. Fuller John K. Schmidt
Chairman and Executive Vice President
Principal Executive Officer and Principal Financial
and Accounting Officer
Date: March 16, 1999
Pursuant to the requirements of the Securities Exchange Act of
1934, this report has been signed below by the following persons
on behalf of the Registrant and in the capacities indicated on
March 16, 1999.
/s/ Lynn B. Fuller /s/ Lynn S. Fuller
- ----------------------------- -----------------------------
Lynn B. Fuller Lynn S. Fuller
President and Director Chairman, CEO and Director
/s/ James A. Schmid /s/ Mark C. Falb
- ----------------------------- -----------------------------
James A. Schmid Mark C. Falb
Vice Chairman and Director Director
/s/ Gregory R. Miller /s/ Evangeline K. Jansen
- ----------------------------- -----------------------------
Gregory R. Miller Evangeline K. Jansen
Director and Director
Executive Vice President
/s/ Robert Woodward
- -----------------------------
Robert Woodward
Director
3. Exhibits
3.1 Certificate of Incorporation of Heartland
Financial USA, Inc. (Filed as Exhibit 3.1
to Registrant's Form S-4 for the fiscal year ended
December 31, 1993, and incorporated by reference
herein.)
3.2 Bylaws of Heartland Financial USA, Inc.
(Filed as Exhibit 3.2 to Registrant's Form S-4
for the fiscal year ended December 31, 1993, and
incorporated by reference herein.)
4.1 Specimen Stock Certificate of Heartland
Financial USA, Inc. (Exhibit 4.1 to the
Registration Statement on Form S-4 filed with the
Commission May 4, 1994, as amended (SEC File No. 33-
76228)
10.1 Heartland Financial USA, Inc. 1993 Stock
Option Plan (Filed as Exhibit 10.1 to
Registrant's Form S-4 for the fiscal year ended
December 31, 1993, and incorporated by reference
herein.)
10.2 Heartland Financial USA, Inc. Executive
Restricted Stock Purchase Plan (Filed as
Exhibit 10.2 to Registrant's Form S-4 for the fiscal
year ended December 31, 1993, and incorporated by
reference herein.)
10.3 Dubuque Bank and Trust Management Incentive
Compensation Plan (Filed as Exhibit 10.3 to
Registrant's Form S-4 for the fiscal
year ended December 31, 1993, and incorporated by
reference herein.)
10.4 Heartland Financial Money Purchase Pension Plan
and Defined Contribution Master Plan and Trust
Agreement dated January 1, 1995. (Filed as Exhibit
10.21 to Registrant's Form 10-K for the fiscal year
ended December 31, 1995, and incorporated
by reference herein.)
10.5 Dubuque Bank and Trust Company Executive Death
Benefit Program Plan Revisions, Enrollment Booklet,
and Universal Life Split-Dollar Agreement effective
December 1, 1995, and similar agreement are in place
at Galena State Bank and Trust Company, First
Community Bank, FSB, Riverside Community
Bank, Wisconsin Community Bank, New Mexico Bank & Trust
and ULTEA. (Filed as Exhibit 10.25 to Registrant's Form
10-K for the fiscal year ended December 31, 1995, and
incorporated by reference herein.)
10.6 Investment Center Agreement between Focused
Investment LLC and Heartland Financial USA, Inc.
dated August 1, 1995. (Filed as Exhibit 10.30
to Registrant's Form 10-K for the fiscal year ended
December 31, 1995, and incorporated by reference
herein.)
10.7 Heartland Financial USA, Inc. Employee Stock
Purchase Plan effective January 1, 1996.
(Filed in conjunction with Form S-8 on June 18, 1996,
and incorporated by reference herein.)
10.8 License and Service Agreement, Software License
Agreement, and Professional Services Agreement between
Fiserv and Heartland Financial USA, Inc. dated June 21,
1996. (Filed as Exhibit 10.43 to Registrant's form 10Q
for the quarter ended June 30, 1996, and incorporated
by reference herein.)
10.9 The Stock Purchase Agreement between Heartland
Financial USA, Inc. and the stockholders of Cottage
Grove State Bank dated November 8, 1996. (Filed as
Exhibit 10.36 to Registrant's Form 10K for the fiscal
year ended December 31, 1996, and incorporated by
reference herein.)
10.10 Stockholder Agreement between Heartland Financial
USA, Inc. and Investors in the Proposed New Mexico Bank
dated November 5, 1997. (Filed as Exhibit 10.23 to
Registrant's Form 10K for the fiscal year ended
December 31, 1997, and incorporated by reference
herein.)
10.11 Change of Control Agreements including Golden
Parachute Payment Adjustments and Restrictive Covenants
between Heartland Financial USA, Inc. and Executive Officers
dated January 1, 1999.
10.12 Change of Control Agreements between Heartland
Financial USA, Inc. and Executive Officers dated
January 1, 1999.
10.13 Heartland Financial USA, Inc. Health Care Plan dated
January 1, 1999.
10.14 Letter Agreement between Wisconsin Community Bank and
Bank One Wisconsin dated February 9, 1999.
10.15 Office Purchase and Assumption Agreement by and between
Bank One Wisconsin and Wisconsin Community Bank dated
February 9, 1999, excluding Schedules A through S.
11. Statement re Computation of Per Share Earnings
21.1 Subsidiaries of the Registrant
23.1 Consent of KPMG Peat Marwick LLP
27.1 Financial Data Schedule
99.1 1999 Proxy Statement (only such parts as are incorporated
by reference into this Form 10-K)