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HORIZON BANCORP INC /IN/ - Quarter Report: 2018 September (Form 10-Q)

Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

Commission file number 0-10792

 

 

HORIZON BANCORP, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Indiana   35-1562417

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

515 Franklin Street, Michigan City, Indiana   46360
(Address of principal executive offices)   (Zip Code)

Registrant’s telephone number, including area code: (219) 879-0211

Former name, former address and former fiscal year, if changed since last report: N/A

 

 

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  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer      Accelerated Filer  
Non-accelerated Filer      Smaller Reporting Company  
Emerging growth company       

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13 (a) of the Exchange Act. [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 38,367,890 shares of Common Stock, no par value, at November 8, 2018.

 

 

 


Table of Contents

HORIZON BANCORP, INC.

FORM 10-Q

INDEX

 

PART I. FINANCIAL INFORMATION

     3  

Item 1.

   Financial Statements (Unaudited)      3  
   Condensed Consolidated Balance Sheets      3  
   Condensed Consolidated Statements of Income      4  
   Condensed Consolidated Statements of Comprehensive Income      5  
   Condensed Consolidated Statement of Stockholders’ Equity      6  
   Condensed Consolidated Statements of Cash Flows      7  
   Notes to Condensed Consolidated Financial Statements      8  

Item 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations      46  

Item 3.

   Quantitative and Qualitative Disclosures about Market Risk      63  

Item 4.

   Controls and Procedures      63  

PART II. OTHER INFORMATION

     64  

Item 1.

   Legal Proceedings      64  

Item 1A.

   Risk Factors      64  

Item 2.

   Unregistered Sales of Equity Securities and Use of Proceeds      64  

Item 3.

   Defaults Upon Senior Securities      64  

Item 4.

   Mine Safety Disclosures      64  

Item 5.

   Other Information      64  

Item 6.

   Exhibits      65  

Index to Exhibits

     65  

Signatures

     66  

 

2


Table of Contents

PART 1 — FINANCIAL INFORMATION

 

ITEM 1.

FINANCIAL STATEMENTS

HORIZON BANCORP, INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets

(Dollar Amounts in Thousands)

 

     September 30 2018     December 31 2017  
     (Unaudited)        

Assets

    

Cash and due from banks

   $ 69,697     $ 76,441  

Investment securities, available for sale

     542,305       509,665  

Investment securities, held to maturity (fair value of $219,158 and $201,085)

     223,848       200,448  

Loans held for sale

     1,980       3,094  

Loans, net of allowance for loan losses of $17,798 and $16,394

     2,939,588       2,815,601  

Premises and equipment, net

     75,348       75,529  

Federal Home Loan Bank stock

     18,073       18,105  

Goodwill

     119,880       119,880  

Other intangible assets

     10,875       12,402  

Interest receivable

     13,999       16,244  

Cash value of life insurance

     87,530       75,931  

Other assets

     47,438       40,963  
  

 

 

   

 

 

 

Total assets

   $ 4,150,561     $ 3,964,303  
  

 

 

   

 

 

 

Liabilities

    

Deposits

    

Non-interest bearing

   $ 621,475     $ 601,805  

Interest bearing

     2,507,079       2,279,198  
  

 

 

   

 

 

 

Total deposits

     3,128,554       2,881,003  

Borrowings

     477,719       564,157  

Subordinated debentures

     37,791       37,653  

Interest payable

     1,688       886  

Other liabilities

     27,215       23,526  
  

 

 

   

 

 

 

Total liabilities

     3,672,967       3,507,225  
  

 

 

   

 

 

 

Commitments and contingent liabilities

    

Stockholders’ Equity

    

Preferred stock, Authorized, 1,000,000 shares, Issued 0 shares

     —         —    

Common stock, no par value, Authorized 99,000,000 shares (Restated—See Note 1)

    

Issued 38,392,959 and 38,323,604 shares (Restated—See Note 1),
Outstanding 38,367,890 and 38,294,729 shares (Restated—See Note 1)

     —         —    

Additional paid-in capital

     275,804       275,059  

Retained earnings

     214,753       185,570  

Accumulated other comprehensive loss

     (12,963     (3,551
  

 

 

   

 

 

 

Total stockholders’ equity

     477,594       457,078  
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 4,150,561     $ 3,964,303  
  

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Income

(Unaudited)

(Dollar Amounts in Thousands, Except Per Share Data)

 

     Three Months Ended      Nine Months Ended  
     September 30      September 30  
     2018     2017      2018     2017  

Interest Income

         

Loans receivable

   $ 37,522     $ 28,113      $ 108,961     $ 79,699  

Investment securities

         

Taxable

     2,739       2,167        7,732       6,817  

Tax exempt

     2,010       1,790        5,745       5,193  
  

 

 

   

 

 

    

 

 

   

 

 

 

Total interest income

     42,271       32,070        122,438       91,709  
  

 

 

   

 

 

    

 

 

   

 

 

 

Interest Expense

         

Deposits

     5,023       1,841        11,814       5,315  

Borrowed funds

     2,876       1,753        8,127       4,028  

Subordinated debentures

     600       597        1,764       1,721  
  

 

 

   

 

 

    

 

 

   

 

 

 

Total interest expense

     8,499       4,191        21,705       11,064  
  

 

 

   

 

 

    

 

 

   

 

 

 

Net Interest Income

     33,772       27,879        100,733       80,645  

Provision for loan losses

     1,176       710        2,378       1,370  
  

 

 

   

 

 

    

 

 

   

 

 

 

Net Interest Income after Provision for Loan Losses

     32,596       27,169        98,355       79,275  
  

 

 

   

 

 

    

 

 

   

 

 

 

Non-interest Income

         

Service charges on deposit accounts

     2,009       1,672        5,804       4,638  

Wire transfer fees

     160       175        490       503  

Interchange fees

     1,410       1,251        4,293       3,809  

Fiduciary activities

     1,855       1,887        5,598       5,752  

Gains on sale of investment securities (includes $(122) and $6 for the three months ended September 30, 2018 and 2017, respectively, and $(111) and $38 for the nine months ended September 30, 2018 and 2017, respectively, related to accumulated other comprehensive earnings reclassifications)

     (122     6        (111     38  

Gain on sale of mortgage loans

     1,839       1,950        5,158       5,918  

Mortgage servicing income net of impairment

     563       369        1,423       1,175  

Increase in cash value of bank owned life insurance

     503       474        1,380       1,346  

Death benefit on bank owned life insurance

     —         —          154       —    

Other income

     469       237        1,747       613  
  

 

 

   

 

 

    

 

 

   

 

 

 

Total non-interest income

     8,686       8,021        25,936       23,792  
  

 

 

   

 

 

    

 

 

   

 

 

 

Non-interest Expense

         

Salaries and employee benefits

     14,343       12,911        42,525       37,086  

Net occupancy expenses

     2,495       2,400        7,981       7,048  

Data processing

     1,759       1,502        5,062       4,311  

Professional fees

     437       649        1,314       1,797  

Outside services and consultants

     1,204       2,504        3,735       4,991  

Loan expense

     1,722       1,215        4,504       3,572  

FDIC insurance expense

     396       270        1,051       776  

Other losses

     161       58        576       186  

Other expense

     3,103       3,004        9,651       8,755  
  

 

 

   

 

 

    

 

 

   

 

 

 

Total non-interest expense

     25,620       24,513        76,399       68,522  
  

 

 

   

 

 

    

 

 

   

 

 

 

Income Before Income Taxes

     15,662       10,677        47,892       34,545  

Income tax expense (includes $(25) and $2 for the three months ended September 30, 2018 and 2017, respectively, and $(23) and $13 for the nine months ended September 30, 2018 and 2017, respectively, related to income tax expense from reclassification items)

     2,597       2,506        7,908       9,078  
  

 

 

   

 

 

    

 

 

   

 

 

 

Net Income

   $ 13,065     $ 8,171      $ 39,984     $ 25,467  
  

 

 

   

 

 

    

 

 

   

 

 

 

Basic Earnings Per Share (Restated - See Note 1)

   $ 0.34     $ 0.24      $ 1.04     $ 0.76  

Diluted Earnings Per Share (Restated - See Note 1)

     0.34       0.24        1.04       0.75  

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Comprehensive Income

(Unaudited)

(Dollar Amounts in Thousands)

 

     Three Months Ended     Nine Months Ended  
     September 30     September 30  
     2018     2017     2018     2017  

Net Income

   $ 13,065     $ 8,171     $ 39,984     $ 25,467  
  

 

 

   

 

 

   

 

 

   

 

 

 

Other Comprehensive Income (Loss)

        

Change in fair value of derivative instruments:

        

Change in fair value of derivative instruments for the period

     639       297       1,752       743  

Income tax effect

     (134     (104     (368     (260
  

 

 

   

 

 

   

 

 

   

 

 

 

Changes from derivative instruments

     505       193       1,384       483  
  

 

 

   

 

 

   

 

 

   

 

 

 

Change in securities:

        

Unrealized appreciation (depreciation) for the period on AFS securities

     (3,712     (791     (12,655     5,444  

Amortization from transfer of securities from available for sale to held to maturity securities

     (55     (54     (153     (200

Reclassification adjustment for securities (gains) losses realized in income

     122       (6     111       (38

Income tax effect

     764       297       2,667       (1,822
  

 

 

   

 

 

   

 

 

   

 

 

 

Unrealized gains (losses) on securities

     (2,881     (554     (10,030     3,384  
  

 

 

   

 

 

   

 

 

   

 

 

 

Other Comprehensive Income (Loss), Net of Tax

     (2,376     (361     (8,646     3,867  
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive Income

   $ 10,689     $ 7,810     $ 31,338     $ 29,334  
  

 

 

   

 

 

   

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Condensed Consolidated Statement of Stockholders’ Equity

(Unaudited)

(Dollar Amounts in Thousands, Except Per Share Data)

 

     Preferred
Stock
     Common
Stock
     Additional
Paid-in
Capital
     Retained
Earnings
    Accumulated
Other
Comprehensive
Loss
    Total  

Balances, January 1, 2018

   $ —        $ —        $ 275,059      $ 185,570     $ (3,551   $ 457,078  

Net income

     —          —          —          39,984       —         39,984  

Other comprehensive loss, net of tax

     —          —          —          —         (8,646     (8,646

Amortization of unearned compensation

     —          —          45        —         —         45  

Exercise of stock options

     —          —          493        —         —         493  

Stock option expense

     —          —          207        —         —         207  

Reclassification of tax adjustment on accumulated other comprehensive loss

     —          —          —          766       (766     —    

Cash dividends on common stock ($0.30 per share)

     —          —          —          (11,567     —         (11,567
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balances, September 30, 2018

   $  —        $  —        $ 275,804      $ 214,753     $ (12,963   $ 477,594  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

(Unaudited)

(Dollar Amounts in Thousands)

 

     Nine Months Ended  
     September 30  
     2018     2017  

Operating Activities

    

Net income

   $ 39,984     $ 25,467  

Items not requiring (providing) cash

    

Provision for loan losses

     2,378       1,370  

Depreciation and amortization

     5,045       4,303  

Share based compensation

     207       238  

Mortgage servicing rights, net impairment

     26       75  

Premium amortization on securities, net

     4,436       4,476  

Gain on sale of investment securities

     111       (38

Gain on sale of mortgage loans

     (5,158     (5,918

Proceeds from sales of loans

     157,353       174,271  

Loans originated for sale

     (146,088     (163,882

Change in cash value life insurance

     (1,380     (1,346

Death benefit on bank owned life insurance

     154       —    

(Gain)/loss on sale of other real estate owned

     (167     12  

Net change in:

    

Interest receivable

     2,245       (1,811

Interest payable

     802       180  

Other assets

     (4,858     2,215  

Other liabilities

     9,549       (2,335
  

 

 

   

 

 

 

Net cash provided by operating activities

     64,639       37,277  
  

 

 

   

 

 

 

Investing Activities

    

Purchases of securities available for sale

     (130,207     (127,752

Proceeds from sales, maturities, calls and principal repayments of securities available for sale

     79,188       67,416  

Purchases of securities held to maturity

     (28,374     (20,152

Proceeds from maturities of securities held to maturity

     6,109       4,883  

Change in Federal Reserve and FHLB stock

     32       8,987  

Net change in loans

     (137,864     (154,038

Proceeds on the sale of OREO and repossessed assets

     3,298       2,125  

Change in premises and equipment, net

     (3,292     (2,667

Purchases of bank owned life insurance

     (10,450     —    

Net cash received in acquisition of branch

     —         11,000  

Net cash received in acquisition, Lafayette

     —         20,425  
  

 

 

   

 

 

 

Net cash used in investing activities

     (221,560     (189,773
  

 

 

   

 

 

 

Financing Activities

    

Net change in:

    

Deposits

     247,551       (28,860

Borrowings

     (86,300     190,814  

Proceeds from issuance of stock

     493       616  

Dividends paid on common stock

     (11,567     (8,244
  

 

 

   

 

 

 

Net cash provided by financing activities

     150,177       154,326  
  

 

 

   

 

 

 

Net Change in Cash and Cash Equivalents

     (6,744     1,830  

Cash and Cash Equivalents, Beginning of Period

     76,441       70,832  
  

 

 

   

 

 

 

Cash and Cash Equivalents, End of Period

   $ 69,697     $ 72,662  
  

 

 

   

 

 

 

Additional Supplemental Information

    

Interest paid

   $ 20,903     $ 10,836  

Income taxes paid

     6,661       10,350  

Transfer of loans to other real estate

     2,398       1,717  

Acquisition of LaPorte, measurement period adjustments

     —         704  

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

Note 1 – Accounting Policies

The accompanying unaudited condensed consolidated financial statements include the accounts of Horizon Bancorp, Inc. (“Horizon” or the “Company”) and its wholly-owned subsidiaries, including Horizon Bank (“Horizon Bank” or the “Bank”). Horizon Bank (formerly known as “Horizon Bank, N.A.”) was a national association until its conversion to an Indiana commercial bank effective June 23, 2017. All inter-company balances and transactions have been eliminated. The results of operations for the periods ended September 30, 2018 and September 30, 2017 are not necessarily indicative of the operating results for the full year of 2018 or 2017. The accompanying unaudited condensed consolidated financial statements reflect all adjustments that are, in the opinion of Horizon’s management, necessary to fairly present the financial position, results of operations and cash flows of Horizon for the periods presented. Those adjustments consist only of normal recurring adjustments.

Certain information and note disclosures normally included in Horizon’s annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in Horizon’s Annual Report on Form 10-K for 2017 filed with the Securities and Exchange Commission on February 28, 2018. The condensed consolidated balance sheet of Horizon as of December 31, 2017 has been derived from the audited balance sheet as of that date.

On May 15, 2018, the Board of Directors of the Company approved a three-for-two stock split of the Company’s authorized common stock, no par value. All share and per share amounts in the condensed consolidated financial statements and notes thereto have been retroactively adjusted, where necessary, to reflect this three-for-two stock split. The effect of the three-for-two stock split on the outstanding common shares is that shareholders of record as of the close of business on May 31, 2018, the record date, received an additional half share for each share of common stock held, with shareholders receiving cash in lieu of any fractional shares. The additional shares issued in the stock split were payable and issued on June 15, 2018, and the common shares began trading on a split-adjusted basis on June 19, 2018.

Basic earnings per share is computed by dividing net income available to common shareholders (net income less dividend requirements for preferred stock and accretion of preferred stock discount) by the weighted-average number of common shares outstanding. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock.

The following table shows computation of basic and diluted earnings per share.

 

     Three Months Ended      Nine Months Ended  
     September 30      September 30  
     2018      2017      2018      2017  

Basic earnings per share

           
Net income    $ 13,065      $ 8,171      $ 39,984      $ 25,467  

Weighted average common shares outstanding(1)

     38,365,379        33,870,240        38,340,012        33,489,681  
Basic earnings per share    $ 0.34      $ 0.24      $ 1.04      $ 0.76  
  

 

 

    

 

 

    

 

 

    

 

 

 

Diluted earnings per share

           
Net income available to common shareholders    $ 13,065      $ 8,171      $ 39,984      $ 25,467  
Weighted average common shares outstanding(1)      38,365,379        33,870,240        38,340,012        33,489,681  

Effect of dilutive securities:

           

Restricted stock

     47,603        55,123        43,926        50,686  

Stock options

     121,988        147,546        119,465        143,329  
  

 

 

    

 

 

    

 

 

    

 

 

 
Weighted average common shares outstanding      38,534,970        34,072,909        38,503,403        33,683,696  
   $ 0.34      $ 0.24      $ 1.04      $ 0.75  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Adjusted for 3:2 stock split on June 15, 2018

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

There were no shares for the three and nine months ended September 30, 2018 and 2017, respectively, which were included in the computation of diluted earnings per share because they were non-dilutive.

Horizon has share-based employee compensation plans, which are described in the notes to the financial statements included in the December 31, 2017 Annual Report on Form 10-K.

Adoption of New Accounting Standards

Financial Accounting Standards Board (FASB) Accounting Standards Update (ASU) No. 2018-02, Income Statement – Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income

The FASB has issued ASU No. 2018-02, Income Statement – Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. The amendments in this ASU allow a reclassification from accumulated other comprehensive income (AOCI) to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act. Consequently, the amendments eliminate the stranded tax effects resulting from the Tax Cuts and Jobs Act and will improve the usefulness of information reported to financial statement users. The amendments in this ASU also require certain disclosures about stranded tax effects. The amendments in this ASU are effective for all entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption of the amendments in this ASU is permitted, including adoption in any interim period, (1) for public business entities for reporting periods for which financial statements have not yet been issued and (2) for all other entities for reporting periods for which financial statements have not yet been made available for issuance. The amendments in this ASU should be applied either in the period of adoption or retrospectively to each period (or periods) in which the effect of the change in the U.S. federal corporate income tax rate in the Tax Cuts and Jobs Act is recognized. The Company early adopted ASU 2018-02 on January 1, 2018 through a $766,000 cumulative-effect adjustment from AOCI to increase retained earnings related to unrealized gains and losses on available for sale securities and derivative instruments.

FASB ASU No. 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities

The FASB has issued ASU No. 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The new guidance is intended to improve the recognition and measurement of financial instruments. The ASU affects public and private companies, not-for-profit organizations, and employee benefit plans that hold financial assets or owe financial liabilities.

The new guidance makes targeted improvements to existing U.S. GAAP by:

 

   

Requiring equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income;

 

   

Requiring public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes;

 

   

Requiring separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements;

 

   

Eliminating the requirement to disclose the fair value of financial instruments measured at amortized cost for organizations that are not public business entities;

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

   

Eliminating the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; and

 

   

Requiring a reporting organization to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk (also referred to as “own credit”) when the organization has elected to measure the liability at fair value in accordance with the fair value option for financial instruments.

The new guidance is effective for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The new guidance permits early adoption of the own credit provision. In addition, the new guidance permits early adoption of the provision that exempts private companies and not-for-profit organizations from having to disclose fair value information about financial instruments measured at amortized cost. The Company adopted ASU 2016-01 on January 1, 2018, and it did not have a material effect on its accounting for equity investments, fair value disclosures and other disclosure requirements.

FASB ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606)

The FASB has issued ASU No. 2014-09 creating, Revenue from Contracts with Customers (Topic 606). The guidance in this update affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (for example, insurance contracts or lease contracts). The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance provides steps to follow to achieve the core principle. An entity should disclose sufficient information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The amendments in this update become effective for annual periods and interim periods within those annual periods beginning after December 15, 2017. The Company adopted ASU 2014-09 on January 1, 2018 and did not identify any significant changes in the timing of revenue recognition when considering the amended accounting guidance. Additional disclosures related to revenue recognition appear in “Note 1 – Accounting Policies.”

In May 2016, the FASB issued ASU No. 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients. The amendments do not change the core revenue recognition principle in Topic 606. The amendments provide clarifying guidance in certain narrow areas and some practical expedients.

In December 2016, the FASB issued ASU No. 2016-20, Revenue from Contracts with Customers (Topic 606): Technical Corrections and Improvements. The FASB board decided to issue a separate update for technical corrections and improvements to Topic 606 and other Topics amended by ASU No. 2014-09 to increase awareness of the proposals and to expedite improvements to ASU No. 2014-09. The amendment affects narrow aspects of the guidance issued in ASU No. 2014-09.

Revenue Recognition

Accounting Standards Codification 606, “Revenue from Contracts with Customers” (ASC 606) provides that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance enumerates five steps that entities should follow in achieving this core principle. Revenue generated from financial instruments, including loans and investment securities, are not included in the scope of ASC 606. The adoption of ASC 606 did not result in a change to the accounting for any of the Company’s revenue streams that are within the scope of the amendments. Revenue-generating activities that are within the scope of ASC 606 and that are presented as non-interest income in the Company’s consolidated statements of income include:

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

   

Service charges and fees on deposit accounts – these include general service fees charged for deposit account maintenance and activity and transaction-based fees charged for certain services, such as debit card, wire transfer or overdraft activities. Revenue is recognized when the performance obligation is completed, which is generally after a transaction is completed or monthly for account maintenance services.

 

   

Fiduciary activities – this includes periodic fees due from trust and wealth management customers for managing the customers’ financial assets. Fees are charged based on a standard agreement and are recognized as they are earned.

Reclassifications

Certain reclassifications have been made to the 2017 condensed consolidated financial statements to be comparable to 2018. These reclassifications had no effect on net income.

Note 2 – Acquisitions

Wolverine Bancorp, Inc.

On October 17, 2017, Horizon completed the acquisition of Wolverine Bancorp, Inc., a Maryland corporation (“Wolverine”) and Horizon Bank’s acquisition of Wolverine Bank, a federally chartered savings bank and wholly-owned subsidiary of Wolverine, through mergers effective October 17, 2017. Under the terms of the Merger Agreement, shareholders of Wolverine received 1.5228 shares of Horizon common stock and $14.00 in cash for each outstanding share of Wolverine common stock. Wolverine shares outstanding at the closing to be exchanged were 2,129,331, and the shares of Horizon common stock issued to Wolverine shareholders totaled 3,241,045. Based upon the October 16, 2017 closing price of $19.37 per share of Horizon common stock immediately prior to the effectiveness of the merger, less the consideration used to pay off Wolverine Bancorp’s ESOP loan receivable, the transaction has an implied valuation of approximately $93.8 million. The Company incurred approximately $1.9 million in costs related to the acquisition. These expenses are classified in the non-interest expense section of the income statement and are primarily located in the salaries and employee benefits, professional services and other expense line items. As a result of the acquisition, the Company was able to increase its deposit base and reduce transaction costs. The Company also expects to reduce costs through economies of scale.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Under the acquisition method of accounting, the total purchase price is allocated to net tangible and intangible assets based on their current estimated fair values on the date of the acquisition. Based on preliminary valuations of the fair value of tangible and intangible assets acquired and liabilities assumed, which are based on estimates and assumptions that are subject to change, the final purchase price for the Wolverine acquisition is allocated as follows:

 

Assets

      Liabilities   

Cash and due from banks

   $ 44,450      Deposits   
     

Non-interest bearing

   $ 25,221  

Loans

     

NOW accounts

     8,026  

Commercial

     276,167     

Savings and money market

     129,044  

Residential mortgage

     30,603     

Certificates of deposit

     94,688  
        

 

 

 

Consumer

     3,897      Total deposits      256,979  
  

 

 

       

Total loans

     310,667        

Premises and equipment, net

     2,941      Borrowings      36,970  

FRB and FHLB stock

     2,700      Interest payable      214  

Goodwill

     26,827      Other liabilities      6,154  

Core deposit intangible

     2,024        

Interest receivable

     584        

Other assets

     3,897        
  

 

 

       

 

 

 

Total assets purchased

   $ 394,090      Total liabilities assumed    $ 300,317  
  

 

 

       

 

 

 

Common shares issued

   $ 62,111        

Cash paid

     31,662        
  

 

 

       

Total estimated purchase price

   $ 93,773        
  

 

 

       

Of the total purchase price of $93.8 million, $2.0 million has been allocated to core deposit intangible. Additionally, $26.8 million has been allocated to goodwill and none of the purchase price is deductible. The core deposit intangible is being amortized over 10 years on a straight line basis.

The Company acquired various loans in the acquisition that had evidence of deterioration of credit quality since origination and it was probable, at acquisition, that all contractually required payments would not be collected.

Loans purchased with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered to be credit impaired. Evidence of credit quality deterioration as of the purchase date may include information such as past-due and non-accrual status, borrower credit scores and recent loan-to-value percentages. Purchased credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality (ASC 310-30) and initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for credit losses related to these loans is not carried over and recorded at the acquisition date. Management estimated the cash flows expected to be collected at acquisition using our internal risk models, which incorporate the estimate of current assumptions, such as default rates, severity and prepayment speeds.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following table details the acquired loans that are accounted for in accordance with ASC 310-30 as of October 17, 2017.

 

Contractually required principal and interest at acquisition

   $  21,912  

Contractual cash flows not expected to be collected (nonaccretable differences)

     1,832  
  

 

 

 

Expected cash flows at acquisition

     20,080  

Interest component of expected cash flows (accretable discount)

     2,267  
  

 

 

 

Fair value of acquired loans accounted for under ASC 310-30

   $ 17,813  
  

 

 

 

Final estimates of certain loans, those for which specific credit-related deterioration, since origination, are recorded at fair value, reflecting the present value of the amounts expected to be collected. Income recognition of these loans is based on reasonable expectation about the timing and amount of cash flows to be collected.

Lafayette Community Bancorp

On September 1, 2017, Horizon completed the acquisition of Lafayette Community Bancorp, an Indiana corporation (“Lafayette”) and Horizon Bank’s acquisition of Lafayette Community Bank, a state-chartered bank and wholly-owned subsidiary of Lafayette, through mergers effective September 1, 2017. Under the terms of the Merger Agreement, shareholders of Lafayette received 0.8817 shares of Horizon common stock and $1.73 in cash for each outstanding share of Lafayette common stock. Lafayette shareholders owning fewer than 100 shares of common stock received $17.25 in cash for each common share. Lafayette shares outstanding at the closing to be exchanged were 1,856,679, and the shares of Horizon common stock issued to Lafayette shareholders totaled 1,636,888. Based upon the August 31, 2017 closing price of $17.45 per share of Horizon common stock immediately prior to the effectiveness of the merger, the transaction has an implied valuation of approximately $34.5 million. The Company incurred approximately $1.7 million in costs related to the acquisition. These expenses are classified in the non-interest expense section of the income statement and are primarily located in the salaries and employee benefits, professional services and other expense line items. As a result of the acquisition, the Company was able to increase its deposit base and reduce transaction costs. The Company also expects to reduce costs through economies of scale.

Horizon held 5% ownership in Lafayette immediately preceding the merger date. In accordance with ASC 805-10 – Business Combinations, Horizon was required to remeasure the equity interest in Lafayette’s common stock and recognize the resulting gain or loss, if any, in earnings. Since Lafayette was traded in the OTC market, the remeasurement was based on the closing price of Lafayette’s common stock immediately prior to the acquisition announcement and immediately prior to Horizon taking control of Lafayette. This remeasurement resulted in a gain of $530,000 which was recorded during the fourth quarter of 2017.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Under the acquisition method of accounting, the total purchase price is allocated to net tangible and intangible assets based on their current estimated fair values on the date of the acquisition. Based on preliminary valuations of the fair value of tangible and intangible assets acquired and liabilities assumed, which are based on assumptions that are subject to change, the purchase price for the Lafayette acquisition is detailed in the following table.

 

Assets

     Liabilities   

Cash and due from banks

   $ 24,846     Deposits   

Investment securities, available for sale

     6    

Non-interest bearing

   $ 34,990  
           NOW accounts    30,174  

Loans

    

Savings and money market

     53,663  

Commercial

     116,258    

Certificates of deposit

     32,520  
       

 

 

 

Residential mortgage

     12,761     Total deposits      151,347  

Consumer

     5,280       
  

 

 

      

Total loans

     134,299       

Premises and equipment, net

     7,818     Interest payable      42  

FHLB stock

     395     Other liabilities      990  

Goodwill

     15,408       

Core deposit intangible

     2,085       

Interest receivable

     338       

Other assets

     1,649       
  

 

 

      

 

 

 

Total assets purchased

   $ 186,844     Total liabilities assumed    $ 152,379  
  

 

 

      

 

 

 

Common shares issued

   $ 30,044 (1)       

Cash paid

     4,421       
  

 

 

      

Total estimated purchase price

   $ 34,465       
  

 

 

      

 

(1) 

This includes $955,000 of common shares previously held by Horizon.

Of the total estimated purchase price of $34.5 million, $2.1 million has been allocated to core deposit intangible. Additionally, $15.4 million has been allocated to goodwill and none of the purchase price is deductible. The core deposit intangible will be amortized over 10 years on a straight-line basis.

The Company acquired various loans in the acquisition that had evidence of deterioration of credit quality since origination and it was probable, at acquisition, that all contractually required payments would not be collected.

Loans purchased with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered to be credit impaired. Evidence of credit quality deterioration as of the purchase date may include information such as past-due and non-accrual status, borrower credit scores and recent loan-to-value percentages. Purchased credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality (ASC 310-30) and initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for credit losses related to these loans is not carried over and recorded at the acquisition date. Management estimated the cash flows expected to be collected at acquisition using our internal risk models, which incorporate the estimate of current key assumptions, such as default rates, severity and prepayment speeds.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following table details an estimate of the acquired loans that are accounted for in accordance with ASC 310-30 as of September 1, 2017.

 

Contractually required principal and interest at acquisition

   $  6,128  

Contractual cash flows not expected to be collected (nonaccretable differences)

     1,326  
  

 

 

 

Expected cash flows at acquisition

     4,802  

Interest component of expected cash flows (accretable discount)

     933  
  

 

 

 

Fair value of acquired loans accounted for under ASC 310-30

   $ 3,869  
  

 

 

 

Final estimates of certain loans, those for which specific credit-related deterioration, since origination, are recorded at fair value, reflecting the present value of the amounts expected to be collected. Income recognition of these loans is based on reasonable expectation about the timing and amount of cash flows to be collected.

Bargersville Branch Purchase

On February 3, 2017, Horizon completed the purchase and assumption of certain assets and liabilities of a single branch of First Farmers Bank & Trust Company, in Bargersville, Indiana. Net cash of $11.0 million was received in the transaction, representing the deposit balances assumed at closing, net of amounts paid for loans acquired in the transaction of $3.4 million and a 3.0% premium on deposits. Customer deposit balances were recorded at $14.8 million and a core deposit intangible of $452,000 was recorded in the transaction, which will be amortized over 10 years on a straight line basis. There was no goodwill generated in the transaction.

The results of operations of Wolverine and Lafayette have been included in the Company’s consolidated financial statements since the acquisition dates. The following schedule includes pro-forma results for the three and nine months ended September 30, 2017 as if the Wolverine and Lafayette acquisitions had occurred as of the beginning of the comparable prior reporting period, which was January 1, 2016.

 

     Three Months Ended      Nine Months Ended  
     September 30      September 30  
     2017      2017  

Summary of Operations:

     

Net Interest Income

   $ 32,038      $ 62,164  

Provision for Loan Losses

     (1,090      (1,337
  

 

 

    

 

 

 

Net Interest Income after Provision for Loan Losses

     33,128        63,501  

Non-interest Income

     8,662        16,565  

Non-interest Expense

     26,714        51,398  
  

 

 

    

 

 

 

Income before Income Taxes

     15,076        28,668  

Income Tax Expense

     4,549        8,412  
  

 

 

    

 

 

 

Net Income

     10,527        20,256  
  

 

 

    

 

 

 

Net Income Available to Common Shareholders

   $ 10,527      $ 20,256  
  

 

 

    

 

 

 

Basic Earnings per Share

   $ 0.32      $ 0.61  

Diluted Earnings per Share

   $ 0.31      $ 0.60  

The pro-forma information includes adjustments for interest income on loans, amortization of intangibles arising from the transaction, interest expense on deposits acquired, premises expense for the banking centers acquired and the related income tax effects.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The pro-forma financial information is presented for information purposes only and is not indicative of the results of operations that actually would have been achieved had the acquisition been consummated as of that time, nor is it intended to be a projection of future results.

Note 3 – Securities

The fair value of securities is as follows:

 

     September 30, 2018  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
     Fair
Value
 

Available for sale

           

U.S. Treasury and federal agencies

   $ 17,036      $ —        $ (464    $ 16,572  

State and municipal

     159,812        57        (3,194      156,675  

Federal agency collateralized mortgage obligations

     178,069        —          (5,398      172,671  

Federal agency mortgage-backed pools

     193,461        16        (7,502      185,975  

Corporate notes

     10,408        103        (99      10,412  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 558,786      $ 176      $ (16,657    $ 542,305  
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

State and municipal

   $ 204,619      $ 1,062      $ (5,257    $ 200,424  

Federal agency collateralized mortgage obligations

     5,262        3        (182      5,083  

Federal agency mortgage-backed pools

     13,967        27        (343      13,651  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $ 223,848      $ 1,092      $ (5,782    $ 219,158  
  

 

 

    

 

 

    

 

 

    

 

 

 
     December 31, 2017  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
     Fair
Value
 

Available for sale

           

U.S. Treasury and federal agencies

   $ 19,277      $ —        $ (225    $ 19,052  

State and municipal

     148,045        2,189        (670      149,564  

Federal agency collateralized mortgage obligations

     132,871        45        (2,551      130,365  

Federal agency mortgage-backed pools

     211,487        155        (2,985      208,657  

Private labeled mortgage-backed pools

     1,650        —          (8      1,642  

Corporate notes

     272        113        —          385  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $  513,602      $  2,502      $  (6,439)      $  509,665  
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

State and municipal

   $ 179,836      $ 3,493      $ (2,932    $ 180,397  

Federal agency collateralized mortgage obligations

     5,734        17        (69      5,682  

Federal agency mortgage-backed pools

     14,878        216        (88      15,006  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $ 200,448      $ 3,726      $ (3,089    $ 201,085  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Based on evaluation of available evidence, including recent changes in market interest rates, credit rating information, and information obtained from regulatory filings, management believes the declines in fair value for these securities are temporary. While these securities are held in the available for sale portfolio and held-to-maturity, Horizon intends, and has the ability, to hold them until the earlier of a recovery in fair value or maturity.

Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified. At September 30, 2018, no individual investment security had an unrealized loss that was determined to be other-than-temporary.

The unrealized losses on the Company’s investments in securities of state and municipal governmental agencies, U.S. Treasury and federal agencies, federal agency collateralized mortgage obligations, and federal agency mortgage-backed pools were caused by interest rate volatility and not a decline in credit quality. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. The Company expects to recover the amortized cost basis over the term of the securities. Because the Company does not intend to sell the investments and it is not likely that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be at maturity, the Company did not consider those investments to be other-than-temporarily impaired at September 30, 2018.

The amortized cost and fair value of securities available for sale and held to maturity at September 30, 2018 and December 31, 2017, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

     September 30, 2018      December 31, 2017  
     Amortized
Cost
     Fair
Value
     Amortized
Cost
     Fair
Value
 

Available for sale

           

Within one year

   $ 19,958      $ 19,861      $ 13,347      $ 13,326  

One to five years

     34,822        34,019        40,468        40,193  

Five to ten years

     96,035        94,103        50,473        51,156  

After ten years

     36,441        35,676        63,306        64,326  
  

 

 

    

 

 

    

 

 

    

 

 

 
     187,256        183,659        167,594        169,001  

Federal agency collateralized mortgage obligations

     178,069        172,671        132,871        130,365  

Federal agency mortgage-backed pools

     193,461        185,975        211,487        208,657  

Private labeled mortgage-backed pools

     —          —          1,650        1,642  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 558,786      $ 542,305      $ 513,602      $ 509,665  
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

Within one year

   $ 5,646      $ 5,628      $ 1,948      $ 1,934  

One to five years

     48,383        48,788        40,603        41,531  

Five to ten years

     102,816        101,199        89,801        91,249  

After ten years

     47,774        44,809        47,484        45,683  
  

 

 

    

 

 

    

 

 

    

 

 

 
     204,619        200,424        179,836        180,397  

Federal agency collateralized mortgage obligations

     5,262        5,083        5,734        5,682  

Federal agency mortgage-backed pools

     13,967        13,651        14,878        15,006  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $  223,848      $  219,158      $  200,448      $  201,085  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following table shows the gross unrealized losses and the fair value of the Company’s investments, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position.

 

     September 30, 2018  
     Less than 12 Months     12 Months or More     Total  
     Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
 

Investment Securities

               

U.S. Treasury and federal agencies

   $ 7,763      $ (137   $ 8,809      $ (327   $ 16,572      $ (464

State and municipal

     215,439        (3,691     56,725        (4,760     272,164        (8,451

Federal agency collateralized mortgage obligations

     72,495        (830     102,498        (4,750     174,993        (5,580

Federal agency mortgage-backed pools

     48,696        (1,270     145,787        (6,575     194,483        (7,845

Corporate notes

     8,124        (99)       —          —         8,124        (99
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total temporarily impaired securities

   $  352,517      $  (6,027   $  313,819      $  (16,412   $  666,336      $  (22,439
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     December 31, 2017  
     Less than 12 Months     12 Months or More     Total  
     Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
 

Investment Securities

               

U.S. Treasury and federal agencies

   $ 15,882      $ (180   $ 2,870      $ (45   $ 18,752      $ (225

State and municipal

     54,312        (2,758     30,691        (844     85,003        (3,602

Federal agency collateralized mortgage obligations

     54,006        (589     73,462        (2,031     127,468        (2,620

Federal agency mortgage-backed pools

     103,926        (1,019     86,846        (2,054     190,772        (3,073

Private labeled mortgage-backed pools

     1,642        (8     —          —         1,642        (8
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total temporarily impaired securities

   $ 229,768      $  (4,554 )   $ 193,869      $ (4,974   $ 423,637      $ (9,528
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Information regarding security proceeds, gross gains and gross losses are presented below.

 

     Three Months Ended      Nine Months Ended  
     September 30      September 30  
     2018      2017      2018      2017  

Sales of securities available for sale

           

Proceeds

   $  7,485      $  387      $  17,321      $  5,490  

Gross gains

     —          6        37        151  

Gross losses

     (122      —          (148      (113

 

18


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Note 4 – Loans

 

     September 30      December 31  
     2018      2017  

Commercial

     

Working capital and equipment

   $ 764,422      $ 720,477  

Real estate, including agriculture

     850,364        880,861  

Tax exempt

     46,171        36,324  

Other

     37,625        32,066  
  

 

 

    

 

 

 

Total

     1,698,582        1,669,728  

Real estate 1-4 family

     643,396        599,217  

Other

     7,854        7,543  
  

 

 

    

 

 

 

Total

     651,250        606,760  

Consumer

     

Auto

     316,925        244,003  

Recreation

     13,339        8,728  

Real estate/home improvement

     39,104        37,052  

Home equity

     161,398        165,240  

Unsecured

     4,017        3,479  

Other

     1,349        2,497  
  

 

 

    

 

 

 

Total

     536,132        460,999  

Mortgage warehouse

     71,422        94,508  
  

 

 

    

 

 

 

Total loans

     2,957,386        2,831,995  

Allowance for loan losses

     (17,798      (16,394
  

 

 

    

 

 

 

Loans, net

   $ 2,939,588      $ 2,815,601  
  

 

 

    

 

 

 

Commercial

Commercial loans are primarily based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. The cash flows of borrowers, however, may not be as expected, and the collateral securing these loans may fluctuate in value. Most commercial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and may incorporate a personal guarantee; however, some short-term loans may be made on an unsecured basis. In the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers.

Commercial real estate loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Commercial real estate lending typically involves larger loan principal amounts and the repayment of these loans is generally dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. Commercial real estate loans may be more adversely affected by conditions in the real estate markets, the general economy or fluctuations in interest rates. The properties securing the Company’s commercial real estate portfolio are diverse in terms of property type, and are monitored for concentrations of credit. Management monitors and evaluates commercial real estate loans based on collateral, cash flow and risk grade criteria. As a general rule, the Company avoids financing single purpose projects unless other underwriting factors are present to help mitigate risk. In addition, management tracks the level of owner-occupied commercial real estate loans versus non-owner occupied loans.

 

19


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Real Estate and Consumer

With respect to residential loans that are secured by 1-4 family residences and are generally owner occupied, the Company generally establishes a maximum loan-to-value ratio and requires private mortgage insurance if that ratio is exceeded. Home equity loans are typically secured by a subordinate interest in 1-4 family residences, and consumer loans are secured by consumer assets such as automobiles or recreational vehicles. Some consumer loans are unsecured such as small installment loans and certain lines of credit. Repayment of these loans is primarily dependent on the personal income of the borrowers, which can be impacted by economic conditions in their market areas such as unemployment levels. Repayment can also be impacted by changes in property values on residential properties. Risk is mitigated by the fact that the loans are of smaller individual amounts and spread over a large number of borrowers.

Mortgage Warehousing

Horizon’s mortgage warehouse lending has specific mortgage companies as customers of Horizon Bank. Individual mortgage loans originated by these mortgage companies are funded as a secured borrowing with a pledge of collateral under Horizon’s agreement with the mortgage company. Each mortgage loan funded by Horizon undergoes an underwriting review by Horizon to the end investor guidelines and is assigned to Horizon until the loan is sold to the secondary market by the mortgage company. In addition, Horizon takes possession of each original note and forwards such note to the end investor once the mortgage company has sold the loan. At the time a loan is transferred to the secondary market, the mortgage company reacquires the loan under its option within the agreement. Due to the reacquire feature contained in the agreement, the transaction does not qualify as a sale and therefore is accounted for as a secured borrowing with a pledge of collateral pursuant to the agreement with the mortgage company. When the individual loan is sold to the end investor by the mortgage company, the proceeds from the sale of the loan are received by Horizon and used to pay off the loan balance with Horizon along with any accrued interest and any related fees. The remaining balance from the sale is forwarded to the mortgage company. These individual loans typically are sold by the mortgage company within 30 days and are seldom held more than 90 days. Interest income is accrued during this period and collected at the time each loan is sold. Fee income for each loan sold is collected when the loan is sold, and no costs are deferred due to the term between each loan funding and related payoff, which is typically less than 30 days.

Based on the agreements with each mortgage company, at any time a mortgage company can reacquire from Horizon its outstanding loan balance on an individual mortgage and regain possession of the original note. Horizon also has the option to request that the mortgage company reacquire an individual mortgage. Should this occur, Horizon would return the original note and reassign the assignment of the mortgage to the mortgage company. Also, in the event that the end investor would not be able to honor the purchase commitment and the mortgage company would not be able to reacquire its loan on an individual mortgage, Horizon would be able to exercise its rights under the agreement.

 

20


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following table shows the recorded investment of individual loan categories.

 

     September 30, 2018  
     Loan
Balance
     Interest
Due
     Deferred
Costs/(Fees)
    Recorded
Investment
 

Owner occupied real estate

   $ 583,261      $ 1,690      $ (1,693   $ 583,258  

Non-owner occupied real estate

     704,284        1,091        (2,128     703,247  

Residential spec homes

     7,254        16        (2     7,268  

Development & spec land

     43,889        127        (27     43,989  

Commercial and industrial

     364,151        2,919        (407     366,663  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total commercial

     1,702,839        5,843        (4,257     1,704,425  

Residential mortgage

     630,955        1,995        (2,099     630,851  

Residential construction

     22,394        41        —         22,435  

Mortgage warehouse

     71,422        480        —         71,902  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total real estate

     724,771        2,516        (2,099     725,188  

Direct installment

     37,895        107        586       38,588  

Indirect installment

     303,579        696        —         304,275  

Home equity

     192,397        931        1,675       195,003  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total consumer

     533,871        1,734        2,261       537,866  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total loans

     2,961,481        10,093        (4,095 )        2,967,479  

Allowance for loan losses

     (17,798      —          —         (17,798
  

 

 

    

 

 

    

 

 

   

 

 

 

Net loans

   $ 2,943,683      $ 10,093      $ (4,095   $ 2,949,681  
  

 

 

    

 

 

    

 

 

   

 

 

 
     December 31, 2017  
     Loan
Balance
     Interest
Due
     Deferred
Costs/(Fees)
    Recorded
Investment
 

Owner occupied real estate

   $ 575,816      $ 1,511      $ (1,917   $ 575,410  

Non-owner occupied real estate

     683,901        1,138        (2,478     682,561  

Residential spec homes

     16,591        63        (80     16,574  

Development & spec land

     49,996        117        (579     49,534  

Commercial and industrial

     349,085        2,572        (607     351,050  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total commercial

     1,675,389        5,401        (5,661     1,675,129  

Residential mortgage

     593,108        1,776        (2,375     592,509  

Residential construction

     16,027        39        —         16,066  

Mortgage warehouse

     94,508        480        —         94,988  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total real estate

     703,643        2,295        (2,375     703,563  

Direct installment

     36,737        113        552       37,402  

Indirect installment

     227,659        528        (168     228,019  

Home equity

     194,860        889        1,359       197,108  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total consumer

     459,256        1,530        1,743       462,529  
  

 

 

    

 

 

    

 

 

   

 

 

 

Total loans

     2,838,288        9,226        (6,293     2,841,221  

Allowance for loan losses

     (16,394      —          —         (16,394
  

 

 

    

 

 

    

 

 

   

 

 

 

Net loans

   $ 2,821,894      $ 9,226      $ (6,293   $ 2,824,827  
  

 

 

    

 

 

    

 

 

   

 

 

 

 

21


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Note 5 – Accounting for Certain Loans Acquired in a Transfer

The Company acquired loans in acquisitions and the transferred loans had evidence of deterioration of credit quality since origination and it was probable, at acquisition, that all contractually required payments would not be collected.

Loans purchased with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered to be credit impaired. Evidence of credit quality deterioration as of the purchase date may include information such as past-due and non-accrual status, borrower credit scores and recent loan-to-value percentages. Purchased credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality (ASC 310-30) and initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for credit losses related to these loans is not carried over and recorded at the acquisition date. Management estimated the cash flows expected to be collected at acquisition using our internal risk models, which incorporate the estimate of current key assumptions, such as default rates, severity and prepayment speeds.

The carrying amounts of those loans included in the balance sheet amounts of loans receivable are as follows:

 

     September 30, 2018  
     Commercial      Real Estate      Consumer      Outstanding
Balance
     Allowance
for Loan
Losses
     Carrying
Amount
 

Heartland

   $ 242      $ 185      $ —        $ 427      $ —        $ 427  

Summit

     1,463        575        —          2,038        —          2,038  

Peoples

     280        103        —          383        —          383  

Kosciusko

     769        199        —          968        —          968  

LaPorte

     811        962        29        1,802        106        1,696  

Lafayette

     3,245        —          —          3,245        15        3,230  

Wolverine

     9,488        —          —          9,488        —          9,488  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 16,298      $ 2,024      $ 29      $ 18,351      $ 121      $ 18,230  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     December 31, 2017  
     Commercial      Real Estate      Consumer      Outstanding
Balance
     Allowance
for Loan
Losses
     Carrying
Amount
 

Heartland

   $ 390      $ 229      $ —        $ 619      $ —        $ 619  

Summit

     3,653        870        —          4,523        —          4,523  

Peoples

     315        126        —          441        —          441  

Kosciusko

     838        403        —          1,241        —          1,241  

LaPorte

     1,034        1,004        33        2,071        —          2,071  

Lafayette

     4,271        —          —          4,271        —          4,271  

Wolverine

     16,697        —          —          16,697        —          16,697  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 27,198      $ 2,632      $ 33      $ 29,863      $ —        $ 29,863  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

22


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Accretable yield, or income expected to be collected for the nine months ended September 30, is as follows:

 

     Nine Months Ended September 30, 2018  
     Beginning
balance
     Additions      Accretion     Reclassification
from
nonaccretable
difference
     Disposals     Ending
balance
 

Heartland

   $ 452      $ —        $ (77   $ —        $ (193   $ 182  

Summit

     147        —          (48     —          (9     90  

Kosciusko

     386        —          (60     —          —         326  

LaPorte

     980        —          (110     —          (7     863  

Lafayette

     933        —          (229     —          (16     688  

Wolverine

     2,267        —          (686     —          (681     900  
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total

   $ 5,165      $ —        $ (1,210   $ —        $ (906   $ 3,049  
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 
     Nine Months Ended September 30, 2017  
     Beginning
balance
     Additions      Accretion     Reclassification
from
nonaccretable
difference
     Disposals     Ending
balance
 

Heartland

   $ 557      $ —        $ (99   $ —        $ (6   $ 452  

Summit

     502        —          (268     —          (2     232  

Peoples

     389        —          (388     —          (1     —    

Kosciusko

     530        —          (80     —          (42     408  

LaPorte

     1,479        —          (194     —          (264     1,021  
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total

   $ 3,457      $ —        $ (1,029   $ —        $ (315   $ 2,113  
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

During the nine months ended September 30, 2018 and 2017 the Company increased the allowance for loan losses on purchased loans by a charge to the income statement of $121,000 and $71,000, respectively.

 

23


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Note 6 – Allowance for Loan Losses

The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Company over the prior one to five years. Management believes using the highest of the one, two or five-year historical loss experience is an appropriate methodology in the current economic environment, as it captures loss rates that are comparable to the current period being analyzed. The actual allowance for loan loss activity is provided below.

 

     Three Months Ended      Nine Months Ended  
     September 30      September 30  
     2018      2017      2018      2017  
     (Unaudited)      (Unaudited)      (Unaudited)      (Unaudited)  

Balance at beginning of the period

   $ 17,071      $ 15,027      $ 16,394      $ 14,837  

Loans charged-off:

           

Commercial

           

Owner occupied real estate

     97        12        110        12  

Non-owner occupied real estate

     —          20        —          20  

Residential spec homes

     —          —          —          —    

Development & spec land

     —          —          —          1  

Commercial and industrial

     109        232        109        491  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     206        264        219        524  

Real estate

           

Residential mortgage

     2        37        17        89  

Residential construction

     —          —          —          —    

Mortgage warehouse

     —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     2        37        17        89  

Consumer

           

Direct installment

     20        84        124        113  

Indirect installment

     432        254        1,302        862  

Home equity

     11        24        142        95  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total consumer

     463        362        1,568        1,070  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loans charged-off

     671        663        1,804        1,683  

Recoveries of loans previously charged-off:

           

Commercial

           

Owner occupied real estate

     7        7        19        8  

Non-owner occupied real estate

     5        4        22        29  

Residential spec homes

     2        2        6        6  

Development & spec land

     —          —          —          —    

Commercial and industrial

     13        93        71        234  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     27        106        118        277  

Real estate

           

Residential mortgage

     4        13        15        35  

Residential construction

     —          —          —          —    

Mortgage warehouse

     —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     4        13        15        35  

Consumer

           

Direct installment

     10        249        42        281  

Indirect installment

     107        119        378        384  

Home equity

     74        25        277        85  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total consumer

     191        393        697        750  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loan recoveries

     222        512        830        1,062  
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loans charged-off

     449        151        974        621  
  

 

 

    

 

 

    

 

 

    

 

 

 

Provision charged to operating expense

           

Commercial

     1,895        429        1,589        1,357  

Real estate

     (243      361        (612      (113

Consumer

     (476      (80      1,401        126  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total provision charged to operating expense

     1,176        710        2,378        1,370  
  

 

 

    

 

 

    

 

 

    

 

 

 

Balance at the end of the period

   $ 17,798      $ 15,586      $ 17,798      $ 15,586  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

24


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Certain loans are individually evaluated for impairment, and the Company’s general practice is to proactively charge down impaired loans to the fair value of the underlying collateral, which is the appraised value less estimated selling costs.

Consistent with regulatory guidance, charge-offs on all loan segments are taken when specific loans, or portions thereof, are considered uncollectible. The Company’s policy is to promptly charge these loans off in the period the uncollectible loss is reasonably determined.

For all loan portfolio segments except 1-4 family residential properties and consumer, the Company promptly charges-off loans, or portions thereof, when available information confirms that specific loans are uncollectible based on information that includes, but is not limited to, (1) the deteriorating financial condition of the borrower, (2) declining collateral values, and/or (3) legal action, including bankruptcy, that impairs the borrower’s ability to adequately meet its obligations. For impaired loans that are considered to be solely collateral dependent, a partial charge-off is recorded when a loss has been confirmed by an updated appraisal or other appropriate valuation of the collateral.

The Company charges-off 1-4 family residential and consumer loans, or portions thereof, when the Company reasonably determines the amount of the loss. The Company adheres to timeframes established by applicable regulatory guidance which provides for the charge-down or specific allocation of 1-4 family first and junior lien mortgages to the net realizable value less costs to sell when the value is known but no later than when a loan is 180 days past due. Pursuant to such guidelines, the Company also charges-off unsecured open-end loans when the loan is contractually 90 days past due, and charges down to the net realizable value other secured loans when they are contractually 90 days past due. Loans at these respective delinquency thresholds for which the Company can clearly document that the loan is both well-secured and in the process of collection, such that collection in full will occur regardless of delinquency status, are not charged off.

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment analysis:

 

     September 30, 2018  
     Commercial      Real Estate      Mortgage
Warehousing
     Consumer      Total  

Allowance For Loan Losses

              

Ending allowance balance attributable to loans:

              

Individually evaluated for impairment

   $ 924      $ —        $ —        $ —        $ 924  

Collectively evaluated for impairment

     9,657        1,574        1,030        4,613        16,874  

Loans acquired with deteriorated credit quality

     —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 10,581      $ 1,574      $ 1,030      $ 4,613      $ 17,798  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

              

Individually evaluated for impairment

   $ 8,358      $ —        $ —        $ —        $ 8,358  

Collectively evaluated for impairment

     1,696,067        653,286        71,902        537,866        2,959,121  

Loans acquired with deteriorated credit quality

     —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $ 1,704,425      $ 653,286      $ 71,902      $ 537,866      $ 2,967,479  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

25


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

     December 31, 2017  
     Commercial      Real Estate      Mortgage
Warehousing
     Consumer      Total  

Allowance For Loan Losses

              

Ending allowance balance attributable to loans:

              

Individually evaluated for impairment

   $ 184      $ —        $ —        $ —        $ 184  

Collectively evaluated for impairment

     8,909        2,188        1,030        4,083        16,210  

Loans acquired with deteriorated credit quality

     —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 9,093      $ 2,188      $ 1,030      $ 4,083      $ 16,394  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

              

Individually evaluated for impairment

   $ 7,187      $ —        $ —        $ —        $ 7,187  

Collectively evaluated for impairment

     1,667,942        608,575        94,988        462,529        2,834,034  

Loans acquired with deteriorated credit quality

     —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $  1,675,129      $  608,575      $  94,988      $  462,529      $  2,841,221  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Note 7 – Non-performing Loans and Impaired Loans

The following table presents the non-accrual, loans past due over 90 days still on accrual, and troubled debt restructured (“TDRs”) by class of loans:

 

     September 30, 2018  
     Non-accrual      Loans Past
Due Over 90
Days Still
Accruing
     Non-peforming
TDRs
     Performing
TDRs
     Total
Non-performing
Loans
 

Commercial

              

Owner occupied real estate

   $ 5,341      $  —        $ —        $ —        $ 5,341  

Non-owner occupied real estate

     527        —          501        —          1,028  

Residential spec homes

     —          —          —          —          —    

Development & spec land

     71        —          —          —          71  

Commercial and industrial

     1,915        —          —          —          1,915  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     7,854        —          501        —          8,355  

Real estate

              

Residential mortgage

     1,702        142        429        1,481        3,754  

Residential construction

     —          —          —          —          —    

Mortgage warehouse

     —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     1,702        142        429        1,481        3,754  

Consumer

              

Direct installment

     62        —          —          —          62  

Indirect installment

     608        60        —          —          668  

Home equity

     1,191        —          147        349        1,687  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total consumer

     1,861        60        147        349        2,417  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $  11,417      $ 202      $  1,077      $  1,830      $  14,526  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

26


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

     December 31, 2017  
     Non-accrual      Loans Past
Due Over 90
Days Still
Accruing
     Non-peforming
TDRs
     Performing
TDRs
     Total
Non-performing
Loans
 

Commercial

              

Owner occupied real estate

   $ 4,877      $  —        $ 11      $ 1      $ 4,889  

Non-owner occupied real estate

     115        —          440        —          555  

Residential spec homes

     —          —          —          —          —    

Development & spec land

     176        —          —          —          176  

Commercial and industrial

     1,734        —          —          —          1,734  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     6,902        —          451        1        7,354  

Real estate

              

Residential mortgage

     3,693        —          351        1,450        5,494  

Residential construction

     —          —          —          222        222  

Mortgage warehouse

     —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     3,693        —          351        1,672        5,716  

Consumer

              

Direct installment

     160        —          —          —          160  

Direct installment purchased

     —          —          —          —          —    

Indirect installment

     1,041        167        —          —          1,208  

Home equity

     1,480        —          211        285        1,976  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total consumer

     2,681        167        211        285        3,344  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 13,276      $ 167      $ 1,013      $ 1,958      $ 16,414  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Included in the $11.4 million of non-accrual loans and the $1.1 million of non-performing TDRs at September 30, 2018 were $2.2 million and $0, respectively, of loans acquired for which accretable yield was recognized.

From time to time, the Bank obtains information that may lead management to believe that the collection of payments may be doubtful on a particular loan. In recognition of this, it is management’s policy to convert the loan from an “earning asset” to a non-accruing loan. The entire balance of a loan is considered delinquent if the minimum payment contractually required to be made is not received by the specified due date. Further, it is management’s policy to generally place a loan on a non-accrual status when the payment is delinquent in excess of 90 days or the loan has had the accrual of interest discontinued by management. The officer responsible for the loan and the Chief Commercial Banking Officer and/or the Chief Operations Officer must review all loans placed on non-accrual status. Subsequent payments on non-accrual loans are recorded as a reduction of principal, and interest income is recorded only after principal recovery is reasonably assured. Non-accrual loans are returned to accrual status when, in the opinion of management, the financial position of the borrower indicates there is no longer any reasonable doubt as to the timely collection of interest or principal in accordance with the loan terms. The Company requires a period of satisfactory performance of not less than six months before returning a non-accrual loan to accrual status.

A loan becomes impaired when, based on current information, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. When a loan is classified as impaired, the degree of impairment must be recognized by estimating future cash flows from the debtor. The present value of these cash flows is computed at a discount rate based on the interest rate contained in the loan agreement. However, if a particular loan has a determinable market value for its collateral, the creditor may use that value. Also, if the loan is secured and considered collateral dependent, the creditor may use the fair value of the collateral. Interest income on loans individually classified as impaired is recognized on a cash basis after all past due and current principal payments have been made.

Smaller-balance, homogeneous loans are evaluated for impairment in total. Such loans include residential first mortgage loans secured by 1–4 family residences, residential construction loans, automobile, home equity, second mortgage loans and mortgage warehouse loans. Commercial loans and mortgage loans secured by other properties are evaluated individually for impairment. When analysis of borrower operating results and financial condition indicate that underlying cash flows of a borrower’s business are not adequate to meet its debt service requirements, the loan is evaluated for impairment. Often this is associated with a delay or shortfall in payments of 30 days or more. Loans are generally moved to non-accrual status when they are 90 days or more past due. These loans are often considered impaired. Impaired loans, or portions thereof, are charged off when deemed uncollectible.

 

27


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Loans for which it is probable that the Company will not collect all principal and interest due according to contractual terms, including TDRs, are measured for impairment. Allowable methods for determining the amount of impairment include the three methods described above.

The Company’s TDRs are considered impaired loans and included in the allowance methodology using the guidance for impaired loans. At September 30, 2018, the type of concessions the Company has made on restructured loans has been temporary rate reductions and/or reductions in monthly payments and there have been no restructured loans with modified recorded balances. Any modification to a loan that is a concession and is not in the normal course of lending is considered a restructured loan. A restructured loan is returned to accruing status after six consecutive payments but is still reported as TDR unless the loan bears interest at a market rate. As of September 30, 2018, the Company had $2.9 million in TDRs and $1.8 million were performing according to the restructured terms and $32,000 in TDRs were returned to accrual status during the first nine months of 2018. There were $70,000 specific reserves allocated to TDRs at September 30, 2018 based on the discounted cash flows or when appropriate the fair value of the collateral.

The following table presents commercial loans individually evaluated for impairment by class of loan:

 

     September 30, 2018  
                          Three Months Ended     Nine Months Ended  
     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance for
Loan Loss
Allocated
     Average
Balance in
Impaired
Loans
     Cash/Accrual
Interest
Income
Recognized
    Average
Balance in
Impaired
Loans
     Cash/Accrual
Interest
Income
Recognized
 

With no recorded allowance

                   

Commercial

                   

Owner occupied real estate

   $  4,496      $  4,490      $  —        $  5,014      $ (25   $  5,077      $ 71  

Non-owner occupied real estate

     841        857        —          936        (5     1,119        5  

Residential spec homes

     —          —          —          —          —         —          —    

Development & spec land

     71        69        —          69        —         72        —    

Commercial and industrial

     1,165        1,160        —          1,418        5       1,241        12  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

Total commercial

     6,573        6,576        —          7,437        (25     7,509        88  

With an allowance recorded

                   

Commercial

                   

Owner occupied real estate

     845        845        145        852        —         874        —    

Non-owner occupied real estate

     187        187        30        189        4       178        4  

Residential spec homes

     —          —          —          —          —         —          —    

Development & spec land

     —          —          —          —          —         —          —    

Commercial and industrial

     750        750        749        750        4       750        4  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

Total commercial

     1,782        1,782        924        1,791        8       1,802        8  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 8,355      $ 8,358      $ 924      $ 9,228      $  (17   $ 9,311      $ 96  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 
     September 30, 2017  
                          Three Months Ended     Nine Months Ended  
     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance for
Loan Loss
Allocated
     Average
Balance in
Impaired
Loans
     Cash/Accrual
Interest
Income
Recognized
    Average
Balance in
Impaired
Loans
     Cash/Accrual
Interest
Income
Recognized
 

With no recorded allowance

                   

Commercial

                   

Owner occupied real estate

   $ 923      $ 934      $ —        $ 1,167      $ 4     $ 1,033      $ 4  

Non-owner occupied real estate

     701        701        —          468        —         308        2  

Residential spec homes

     —          —          —          —          —         —          —    

Development & spec land

     102        102        —          222        —         230        —    

Commercial and industrial

     1,707        1,714        —          2,066        3       1,071        19  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

Total commercial

     3,433        3,451        —          3,923        7       2,642        25  

With an allowance recorded

                   

Commercial

                   

Owner occupied real estate

     —          —          —          —          —         —          —    

Non-owner occupied real estate

     —          —          —          —          —         —          —    

Residential spec homes

     —          —          —          —          —         —          —    

Development & spec land

     —          —          —          —          —         —          —    

Commercial and industrial

     —          —          —          —          —         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

Total commercial

     —          —          —          —          —         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 3,433      $ 3,451      $ —        $ 3,923      $ 7     $ 2,642      $ 25  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

    

 

 

 

 

28


Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following table presents the payment status by class of loan:

 

     September 30, 2018  
     30-59 Days
Past Due
    60-89 Days
Past Due
    90 Days or
Greater
Past Due
    Total
Past Due
    Loans Not
Past Due
    Total  

Commercial

            

Owner occupied real estate

   $ 448     $ 58     $ —       $ 506     $ 582,755     $ 583,261  

Non-owner occupied real estate

     370       34       —         404       703,880       704,284  

Residential spec homes

     —         —         —         —         7,254       7,254  

Development & spec land

     —         —         —         —         43,889       43,889  

Commercial and industrial

     1,388       343       —         1,731       362,420       364,151  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     2,206       435       —         2,641       1,700,198       1,702,839  

Real estate

            

Residential mortgage

     2,642       156       142       2,940       628,015       630,955  

Residential construction

     123       —         —         123       22,271       22,394  

Mortgage warehouse

     —         —         —         —         71,422       71,422  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     2,765       156       142       3,063       721,708       724,771  

Consumer

            

Direct installment

     67       20       —         87       37,808       37,895  

Indirect installment

     1,025       313       60       1,398       302,181       303,579  

Home equity

     815       112       —         927       191,470       192,397  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total consumer

     1,907       445       60       2,412       531,459       533,871  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $  6,878     $  1,036     $ 202     $  8,116     $  2,953,365     $  2,961,481  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     0.23     0.03     0.01     0.27     99.73  
     December 31, 2017  
     30-59 Days
Past Due
    60-89 Days
Past Due
    90 Days or
Greater
Past Due
    Total
Past Due
    Loans Not
Past Due
    Total  

Commercial

            

Owner occupied real estate

   $ 1,613     $ 1,950     $ —       $ 3,563     $ 572,253     $ 575,816  

Non-owner occupied real estate

     512       122       —         634       683,267       683,901  

Residential spec homes

     —         —         —         —         16,591       16,591  

Development & spec land

     31       —         —         31       49,965       49,996  

Commercial and industrial

     520       1       —         521       348,564       349,085  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     2,676       2,073       —         4,749       1,670,640       1,675,389  

Real estate

            

Residential mortgage

     1,248       49       —         1,297       591,811       593,108  

Residential construction

     63       —         —         63       15,964       16,027  

Mortgage warehouse

     —         —         —         —         94,508       94,508  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     1,311       49       —         1,360       702,283       703,643  

Consumer

            

Direct installment

     78       10       —         88       36,649       36,737  

Indirect installment

     1,859       244       167       2,270       225,389       227,659  

Home equity

     502       527       —         1,029       193,831       194,860  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total consumer

     2,439       781       167       3,387       455,869       459,256  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $ 6,426     $ 2,903     $ 167     $ 9,496     $ 2,828,792     $ 2,838,288  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     0.23     0.10     0.01     0.33     99.67  

The entire balance of a loan is considered delinquent if the minimum payment contractually required to be made is not received by the specified due date.

Horizon Bank’s processes for determining credit quality differ slightly depending on whether a new loan or a renewed loan is being underwritten, or whether an existing loan is being re-evaluated for credit quality. The latter usually occurs upon receipt of current financial information or other pertinent data that would trigger a change in the loan grade.

 

   

For new and renewed commercial loans, the Bank’s Credit Department, which acts independently of the loan officer, assigns the credit quality grade to the loan. Loan grades for loans with an aggregate credit exposure that exceeds the authorities in the respective markets (ranging from $1,000,000 to $3,500,000) are validated by the Loan Committee, which is chaired by the Chief Commercial Banking Officer (CCBO).

 

   

Commercial loan officers are responsible for reviewing their loan portfolios and reporting any adverse material change to the CCBO or Loan Committee. When circumstances warrant a change in the credit quality grade, loan officers are required to notify the CCBO and the Credit Department of the change in the loan grade. Downgrades are accepted immediately by the CCBO, however, lenders must present their factual information to either the Loan Committee or the CCBO when recommending an upgrade.

 

29


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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

   

The CCBO, or his designee, meets weekly with loan officers to discuss the status of past-due loans and classified loans. These meetings are also designed to give the loan officers an opportunity to identify an existing loan that should be downgraded to a classified grade.

 

   

Monthly, senior management meets with the Watch Committee, which reviews all of the past due, classified, and impaired loans and the relative trends of these assets. This committee also reviews the actions taken by management regarding foreclosure mitigation, loan extensions, troubled debt restructures, other real estate owned and personal property repossessions. The information reviewed in this meeting acts as a precursor for developing management’s analysis of the adequacy of the Allowance for Loan and Lease Losses.

For residential real estate and consumer loans, Horizon uses a grading system based on delinquency. Loans that are 90 days or more past due, on non-accrual, or are classified as a TDR are graded “Substandard.” After being 90 to 120 days delinquent a loan is charged off unless it is well secured and in the process of collection. If the latter case exists, the loan is placed on non-accrual. Occasionally a mortgage loan may be graded as “Special Mention.” When this situation arises, it is because the characteristics of the loan and the borrower fit the definition of a Risk Grade 5 described below, which is normally used for grading commercial loans. Loans not graded Substandard are considered Pass.

Horizon Bank employs a nine-grade rating system to determine the credit quality of commercial loans. The first five grades represent acceptable quality, and the last four grades mirror the criticized and classified grades used by the bank regulatory agencies (special mention, substandard, doubtful, and loss). The loan grade definitions are detailed below.

Risk Grade 1: Excellent (Pass)

Loans secured by liquid collateral, such as certificates of deposit, reputable bank letters of credit, or other cash equivalents; loans that are guaranteed or otherwise backed by the full faith and credit of the United States government or an agency thereof, such as the Small Business Administration; or loans to any publicly held company with a current long-term debt rating of A or better.

Risk Grade 2: Good (Pass)

Loans to businesses that have strong financial statements containing an unqualified opinion from a CPA firm and at least three consecutive years of profits; loans supported by unaudited financial statements containing strong balance sheets, five consecutive years of profits, a five-year satisfactory relationship with the Bank, and key balance sheet and income statement trends that are either stable or positive; loans secured by publicly traded marketable securities where there is no impediment to liquidation; loans to individuals backed by liquid personal assets and unblemished credit history; or loans to publicly held companies with current long-term debt ratings of Baa or better.

Risk Grade 3: Satisfactory (Pass)

Loans supported by financial statements (audited or unaudited) that indicate average or slightly below average risk and having some deficiency or vulnerability to changing economic conditions; loans with some weakness but offsetting features of other support are readily available; loans that are meeting the terms of repayment, but which may be susceptible to deterioration if adverse factors are encountered. Loans may be graded Satisfactory when there is no recent information on which to base a current risk evaluation and the following conditions apply:

 

   

At inception, the loan was properly underwritten, did not possess an unwarranted level of credit risk, and the loan met the above criteria for a risk grade of Excellent, Good, or Satisfactory;

 

   

At inception, the loan was secured with collateral possessing a loan value adequate to protect the Bank from loss.

 

   

The loan has exhibited two or more years of satisfactory repayment with a reasonable reduction of the principal balance.

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

   

During the period that the loan has been outstanding, there has been no evidence of any credit weakness. Some examples of weakness include slow payment, lack of cooperation by the borrower, breach of loan covenants, or the borrower is in an industry known to be experiencing problems. If any of these credit weaknesses is observed, a lower risk grade may be warranted.

Risk Grade 4 Satisfactory/Monitored:

Loans in this category are considered to be of acceptable credit quality, but contain greater credit risk than Satisfactory loans. Borrower displays acceptable liquidity, leverage, and earnings performance within the Bank’s minimum underwriting guidelines. The level of risk is acceptable but conditioned on the proper level of loan officer supervision. Loans that normally fall into this grade include acquisition, construction and development loans and income producing properties that have not reached stabilization.

Risk Grade 4W Management Watch:

Loans in this category are considered to be of acceptable quality, but with above normal risk. Borrower displays potential indicators of weakness in the primary source of repayment resulting in a higher reliance on secondary sources of repayment. Balance sheet may exhibit weak liquidity and/or high leverage. There is inconsistent earnings performance without the ability to sustain adverse economic conditions. Borrower may be operating in a declining industry or the property type, as for a commercial real estate loan, may be unstablized, high risk or in decline. These loans require an increased level of loan officer supervision and monitoring to assure that any deterioration is addressed in a timely fashion.

Risk Grade 5: Special Mention

Loans which possess some credit deficiency or potential weakness which deserves close attention. Such loans pose an unwarranted financial risk that, if not corrected, could weaken the loan by adversely impacting the future repayment ability of the borrower. The key distinctions of a Special Mention classification are that (1) it is indicative of an unwarranted level of risk and (2) weaknesses are considered “potential,” not “defined,” impairments to the primary source of repayment. These loans may be to borrowers with adverse trends in financial performance, collateral value and/or marketability, or balance sheet strength.

Risk Grade 6: Substandard

One or more of the following characteristics may be exhibited in loans classified Substandard:

 

   

Loans which possess a defined credit weakness. The likelihood that a loan will be paid from the primary source of repayment is uncertain. Financial deterioration is under way and very close attention is warranted to ensure that the loan is collected without loss.

 

   

Loans are inadequately protected by the current net worth and paying capacity of the obligor.

 

   

The primary source of repayment is gone, and the Bank is forced to rely on a secondary source of repayment, such as collateral liquidation or guarantees.

 

   

Loans have a distinct possibility that the Bank will sustain some loss if deficiencies are not corrected.

 

   

Unusual courses of action are needed to maintain a high probability of repayment.

 

   

The borrower is not generating enough cash flow to repay loan principal; however, it continues to make interest payments.

 

   

The lender is forced into a subordinated or unsecured position due to flaws in documentation.

 

   

Loans have been restructured so that payment schedules, terms, and collateral represent concessions to the borrower when compared to the normal loan terms.

 

   

The lender is seriously contemplating foreclosure or legal action due to the apparent deterioration in the loan.

 

   

There is a significant deterioration in market conditions to which the borrower is highly vulnerable.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Risk Grade 7: Doubtful

One or more of the following characteristics may be present in loans classified Doubtful:

 

   

Loans have all of the weaknesses of those classified as Substandard. However, based on existing conditions, these weaknesses make full collection of principal highly improbable.

 

   

The primary source of repayment is gone, and there is considerable doubt as to the quality of the secondary source of repayment.

 

   

The possibility of loss is high but because of certain important pending factors which may strengthen the loan, loss classification is deferred until the exact status of repayment is known.

Risk Grade 8: Loss

Loans are considered uncollectible and of such little value that continuing to carry them as assets is not feasible. Loans will be classified Loss when it is neither practical nor desirable to defer writing off or reserving all or a portion of a basically worthless asset, even though partial recovery may be possible at some time in the future.

The following table presents loans by credit grades.

 

     September 30, 2018  
     Pass     Special
Mention
    Substandard     Doubtful     Total  

Commercial

          

Owner occupied real estate

   $ 563,429     $ 5,176     $ 14,656     $ —       $ 583,261  

Non-owner occupied real estate

     692,995       5,903       5,386       —         704,284  

Residential spec homes

     7,254       —         —         —         7,254  

Development & spec land

     41,084       2,734       71       —         43,889  

Commercial and industrial

     350,617       5,021       8,513       —         364,151  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     1,655,379       18,834       28,626       —         1,702,839  

Real estate

          

Residential mortgage

     627,343       —         3,612       —         630,955  

Residential construction

     22,394       —         —         —         22,394  

Mortgage warehouse

     71,422       —         —         —         71,422  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     721,159       —         3,612       —         724,771  

Consumer

          

Direct installment

     37,833       —         62       —         37,895  

Indirect installment

     302,911       —         668       —         303,579  

Home equity

     190,710       —         1,687       —         192,397  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total consumer

     531,454       —         2,417       —         533,871  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $  2,907,992     $  18,834     $  34,655     $ —       $  2,961,481  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     98.19     0.64     1.17     0.00  

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

     December 31, 2017  
     Pass     Special
Mention
    Substandard     Doubtful     Total  

Commercial

          

Owner occupied real estate

   $ 548,992     $ 8,622     $ 18,202     $ —       $ 575,816  

Non-owner occupied real estate

     675,030       3,864       5,007       —         683,901  

Residential spec homes

     16,591       —         —         —         16,591  

Development & spec land

     48,884       886       226       —         49,996  

Commercial and industrial

     327,970       7,448       13,667       —         349,085  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     1,617,467       20,820       37,102       —         1,675,389  

Real estate

          

Residential mortgage

     587,614       —         5,494       —         593,108  

Residential construction

     15,805       —         222       —         16,027  

Mortgage warehouse

     94,508       —         —         —         94,508  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     697,927       —         5,716       —         703,643  

Consumer

          

Direct installment

     36,577       —         160       —         36,737  

Indirect installment

     226,451       —         1,208       —         227,659  

Home equity

     192,884       —         1,976       —         194,860  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total consumer

     455,912       —         3,344       —         459,256  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $  2,771,306     $  20,820     $  46,162     $ —       $  2,838,288  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     97.64     0.73     1.63     0.00  

Note 8 – Repurchase Agreements

The Company transfers various securities to customers in exchange for cash at the end of each business day and agrees to acquire the securities at the end of the next business day for the cash exchanged plus interest. The process is repeated at the end of each business day until the agreement is terminated. The securities underlying the agreement remained under the Bank’s control.

The following table shows repurchase agreements accounted for as secured borrowings:

 

     September 30, 2018  
     Remaining Contractual Maturity of the Agreements  
     Overnight
and
Continuous
     Up to one
year
     One to three
years
     Three to five
years
     Five to ten
years
     Beyond ten
years
     Total  

Repurchase Agreements and repurchase-to-maturity transactions

                    

Repurchase Agreements

   $ 56,629      $ —        $ —        $ —        $ —        $ —        $ 56,629  

Securities pledged for Repurchase Agreements

                    

Federal agency collateralized mortgage obligations

   $  32,535      $  —        $  —        $  —        $  —        $  —        $  32,535  

Federal agency mortgage-backed pools

     29,467        —          —          —          —          —          29,467  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 62,002      $ —        $ —        $ —        $ —        $ —        $ 62,002  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Note 9 – Derivative Financial Instruments

Cash Flow Hedges –As a strategy to maintain acceptable levels of exposure to the risk of changes in future cash flow due to interest rate fluctuations, the Company entered into interest rate swap agreements for a portion of its floating rate debt. The agreements provide for the Company to receive interest from the counterparty at three month LIBOR and to pay interest to the counterparty at a weighted average fixed rate of 5.81% on a notional amount of $30.5 million at September 30, 2018 and December 31, 2017. Under the agreements, the Company pays or receives the net interest amount monthly, with the monthly settlements included in interest expense.

The Company assumed additional interest rate swap agreements as the result of the LaPorte acquisition in July 2016. The agreements provide for the Company to receive interest from the counterparty at one month LIBOR and to pay interest to the counterparty at a weighted average fixed rate of 2.31% on a notional amount of $30.0 million at September 30, 2018 and December 31, 2017. Under the agreements, the Company pays or receives the net interest amount monthly, with the monthly settlements included in interest expense.

On July 20, 2018, the Company entered into an interest rate swap agreement for an additional portion of its floating rate debt. The agreement provides for the Company to receive interest from the counterparty at one month LIBOR and to pay interest to the counterparty at a rate of 2.81% on a notional amount of $50.0 million at September 30, 2018. Under the agreement, the Company pays or receives the net interest amount monthly, with the monthly settlements included in interest expense.

Management has designated the interest rate swap agreement as a cash flow hedging instrument. For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings. At September 30, 2018, the Company’s cash flow hedge was effective and is not expected to have a significant impact on the Company’s net income over the next 12 months.

Fair Value Hedges

Fair value hedges are intended to reduce the interest rate risk associated with the underlying hedged item. The Company enters into fixed rate loan agreements as part of its lending policy. To mitigate the risk of changes in fair value based on fluctuations in interest rates, the Company has entered into interest rate swap agreements on individual loans, converting the fixed rate loans to a variable rate. For derivative instruments that are designated and qualify as a fair value hedge, the gain or loss on the derivative as well as the offsetting gain or loss on the hedged item attributable to the hedged risk are recognized in current earnings. At September 30, 2018, the Company’s fair value hedges were effective and are not expected to have a significant impact on the Company’s net income over the next 12 months.

The change in fair value of both the hedge instruments and the underlying loan agreements are recorded as gains or losses in interest income. The fair value hedges are considered to be highly effective and any hedge ineffectiveness was deemed not material. The notional amounts of the loan agreements being hedged were $205.8 million at September 30, 2018 and $154.6 million at December 31, 2017.

Other Derivative Instruments

The Company enters into non-hedging derivatives in the form of mortgage loan forward sale commitments with investors and commitments to originate mortgage loans as part of its mortgage banking business. At September 30, 2018, the Company’s fair value of these derivatives were recorded and over the next 12 months are not expected to have a significant impact on the Company’s net income.

The change in fair value of both the forward sale commitments and commitments to originate mortgage loans were recorded and the net gains or losses included in the Company’s gain on sale of loans.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following tables summarize the fair value of derivative financial instruments utilized by Horizon:

 

     Asset Derivatives      Liability Derivatives  
     September 30, 2018      September 30, 2018  
     Balance Sheet
Location
     Fair
Value
     Balance Sheet
Location
     Fair
Value
 

Derivatives designated as hedging instruments

           

Interest rate contracts

     Other Assets      $ 4,918        Loans      $  4,918  

Interest rate contracts

     Other Assets        24        Other liabilities        —    
     

 

 

       

 

 

 

Total derivatives desginated as hedging instruments

        4,942           4,918  
     

 

 

       

 

 

 

Derivatives not designated as hedging instruments

           

Mortgage loan contracts

     Other assets        231        Other liabilities        92  
     

 

 

       

 

 

 

Total derivatives not designated as hedging instruments

        231           92  
     

 

 

       

 

 

 

Total derivatives

      $ 5,173         $ 5,010  
     

 

 

       

 

 

 
     Asset Derivatives      Liability Derivatives  
     December 31, 2017      December 31, 2017  
     Balance Sheet
Location
     Fair
Value
     Balance Sheet
Location
     Fair
Value
 

Derivatives designated as hedging instruments

           

Interest rate contracts

     Loans      $ —          Loans      $ 811  

Interest rate contracts

     Other Assets        811        Other liabilities        1,728  
     

 

 

       

 

 

 

Total derivatives desginated as hedging instruments

        811           2,539  
     

 

 

       

 

 

 

Derivatives not designated as hedging instruments

           

Mortgage loan contracts

     Other assets        143        Other liabilities        3  
     

 

 

       

 

 

 

Total derivatives not designated as hedging instruments

        143           3  
     

 

 

       

 

 

 

Total derivatives

      $ 954         $ 2,542  
     

 

 

       

 

 

 

The effect of the derivative instruments on the condensed consolidated statements of income for the three and nine-month periods ending September 30 is as follows:

 

     Amount of Loss Recognized in Other Comprehensive Income on Derivative
(Effective Portion)
 
     Three Months Ended      Nine Months Ended  
     September 30, 2018      September 30, 2017      September 30, 2018      September 30, 2017  

Derivatives in cash flow hedging relationship

           

Interest rate contracts

   $  505      $  193      $  1,384      $  483  

FASB Accounting Standards Codification (“ASC”) Topic 820-10-20 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Topic 820-10-55 establishes a fair value hierarchy that emphasizes the use of observable inputs and minimizes the use of unobservable inputs when measuring fair value.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

     Location of gain
(loss)

recognized on
derivative
     Amount of Gain (Loss) Recognized on Derivative  
     Three Months Ended     Nine Months Ended  
     September 30, 2018     September 30, 2017     September 30, 2018     September 30, 2017  

Derivative in fair value hedging relationship

           

Interest rate contracts

    

Interest income -

loans

 

 

   $ 2,768     $ (4   $ 574     $ 423  

Interest rate contracts

    

Interest income -

loans

 

 

     (2,768     4       (574     (423
     

 

 

   

 

 

   

 

 

   

 

 

 

Total

      $ —       $  —       $ —       $ —    
     

 

 

   

 

 

   

 

 

   

 

 

 
     Location of gain
(loss)

recognized on
derivative
     Amount of Gain (Loss) Recognized on Derivative  
     Three Months Ended     Nine Months Ended  
     September 30, 2018     September 30, 2017     September 30, 2018     September 30, 2017  

Derivative not designated as hedging relationship

           

Mortgage contracts

    


Other income -

gain on sale of
loans

 

 
 

   $ 112     $ (112   $ 195     $ (324

Note 10 – Disclosures about Fair Value of Assets and Liabilities

The Fair Value Measurements topic of the FASB ASC defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. There are three levels of inputs that may be used to measure fair value:

 

Level 1

Quoted prices in active markets for identical assets or liabilities

 

Level 2

Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities

 

Level 3

Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

Following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis and recognized in the accompanying condensed consolidated financial statements, as well as the general classification of such instruments pursuant to the valuation hierarchy. There have been no significant changes in the valuation techniques during the period ended September 30, 2018. For assets classified within Level 3 of the fair value hierarchy, the process used to develop the reported fair value is described below.

Available for sale securities

When quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows. Level 2 securities include U.S. Treasury and federal agency securities, state and municipal securities, federal agency collateralized mortgage obligations and mortgage-backed pools and corporate notes. Level 2 securities are valued by a third party pricing service commonly used in the banking industry utilizing observable inputs. Observable inputs include dealer quotes, market spreads, cash flow analysis, the U.S. Treasury yield curve, trade execution data, market consensus prepayment spreads and available credit information and the bond’s terms and conditions. The pricing provider utilizes evaluated pricing models that vary based on asset class. These models incorporate available market information including quoted prices of securities with similar characteristics and, because many fixed-income securities do not trade on a daily basis, apply available information through processes such as benchmark curves, benchmarking of like securities, sector grouping, and matrix pricing. In addition, model processes, such as an option adjusted spread model, is used to develop prepayment and interest rate scenarios for securities with prepayment features.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Hedged loans

Certain fixed rate loans have been converted to variable rate loans by entering into interest rate swap agreements. The fair value of those fixed rate loans is based on discounting the estimated cash flows using interest rates determined by the respective interest rate swap agreement. Loans are classified within Level 2 of the valuation hierarchy based on the unobservable inputs used.

Interest rate swap agreements

The fair value of the Company’s interest rate swap agreements is estimated by a third party using inputs that are primarily unobservable including a yield curve, adjusted for liquidity and credit risk, contracted terms and discounted cash flow analysis, and therefore, are classified within Level 2 of the valuation hierarchy.

The following table presents the fair value measurements of assets and liabilities recognized in the accompanying condensed consolidated financial statements measured at fair value on a recurring basis and the level within the FASB ASC fair value hierarchy in which the fair value measurements fall at the following:

 

     September 30, 2018  
     Fair Value      Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Available for sale securities

           

U.S. Treasury and federal agencies

   $ 16,572      $ —        $ 16,572      $ —    

State and municipal

     156,675        —          156,675        —    

Federal agency collateralized mortgage obligations

     172,671        —          172,671        —    

Federal agency mortgage-backed pools

     185,975        —          185,975        —    

Corporate notes

     10,412        —          10,412        —    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale securities

     542,305        —          542,305        —    

Hedged loans

     205,778        —          205,778        —    

Forward sale commitments

     231        —          231        —    

Interest rate swap agreements

     4,942        —          4,942        —    

Commitments to originate loans

     (92      —          (92      —    
     December 31, 2017  
     Fair Value      Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Available for sale securities

           

U.S. Treasury and federal agencies

   $ 19,052      $ —        $ 19,052      $ —    

State and municipal

     149,564        —          149,564        —    

Federal agency collateralized mortgage obligations

     130,365        —          130,365        —    

Federal agency mortgage-backed pools

     208,657        —          208,657        —    

Private labeled mortgage-backed pools

     1,642        —          1,642        —    

Corporate notes

     385        —          385        —    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale securities

     509,665        —          509,665        —    

Hedged loans

     154,575        —          154,575        —    

Forward sale commitments

     143        —          143        —    

Interest rate swap agreements

     (917      —          (917      —    

Commitments to originate loans

     (3      —          (3      —    

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Realized gains and losses included in net income for the periods are reported in the condensed consolidated statements of income as follows:

 

     Three Months Ended      Nine Months Ended  
     September 30, 2018      September 30, 2017      September 30, 2018      September 30, 2017  

Non-interest Income

           

Total gains and losses from:

           

Hedged loans

   $ 364      $ (4    $ 4,108      $ 423  

Fair value interest rate swap agreements

     (364      4        (4,108      (423

Derivative loan commitments

     (184      (112      (1      (324
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ (184    $ (112    $ (1    $ (324
  

 

 

    

 

 

    

 

 

    

 

 

 

Certain other assets are measured at fair value on a non-recurring basis in the ordinary course of business and are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment):

 

     Fair Value      Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

September 30, 2018

           

Impaired loans

   $ 7,431      $ —        $ —        $ 7,431  

Mortgage servicing rights

     12,044        —          —          12,044  

December 31, 2017

           

Impaired loans

   $ 6,957      $ —        $ —        $ 6,957  

Mortgage servicing rights

     11,602        —          —          11,602  

Impaired (collateral dependent): Loans for which it is probable that the Company will not collect all principal and interest due according to contractual terms are measured for impairment. Allowable methods for determining the amount of impairment include estimating fair value using the fair value of the collateral for collateral-dependent loans.

If the impaired loan is identified as collateral dependent, then the fair value method of measuring the amount of impairment is utilized. This method requires obtaining a current independent appraisal of the collateral and applying a discount factor to the value.

Impaired loans that are collateral dependent are classified within Level 3 of the fair value hierarchy when impairment is determined using the fair value method.

Mortgage Servicing Rights (MSRs): MSRs do not trade in an active market with readily observable prices. Accordingly, the fair value of these assets is classified as Level 3. The Company determines the fair value of MSRs using an income approach model based upon the Company’s month-end interest rate curve and prepayment assumptions. The model utilizes assumptions to estimate future net servicing income cash flows, including estimates of time decay, payoffs and changes in valuation inputs and assumptions. The Company reviews the valuation assumptions against this market data for reasonableness and adjusts the assumptions if deemed appropriate. The carrying amount of the MSRs’ fair value due to impairment decreased by $26,000 during the first nine months of 2018 and decreased by $75,000 during the first nine months of 2017.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

The following table presents qualitative information about unobservable inputs used in recurring and non-recurring Level 3 fair value measurements, other than goodwill.

 

     September 30, 2018
     Fair
Value
     Valuation
Technique
   Unobservable
Inputs
  

Range
(Weighted Average)

Impaired loans

   $ 7,431      Collateral based measurement    Discount to reflect current market

conditions and ultimate

collectability

   0%-100% (11.1%)

Mortgage servicing rights

     12,044      Discounted cash flows    Discount rate,

Constant prepayment rate,

Probability of default

  

10.3%-11.3% (10.3%),

9.3%-14.9% (9.5%),

0.1%-0.8% (0.6%)

     December 31, 2017
     Fair
Value
     Valuation
Technique
   Unobservable
Inputs
  

Range

(Weighted Average)

Impaired loans

   $ 6,957      Collateral based measurement    Discount to reflect current market

conditions and ultimate

collectability

   0%-46.8% (2.6%)

Mortgage servicing rights

     11,602      Discounted cash flows    Discount rate,

Constant prepayment rate,

Probability of default

  

9.6%-10.8% (9.7%),

9.2%-27.7% (10.5%),

0%-1.5% (0.2%)

Note 11 – Fair Value of Financial Instruments

The estimated fair value amounts of the Company’s financial instruments were determined using available market information, current pricing information applicable to Horizon and various valuation methodologies. Where market quotations were not available, considerable management judgment was involved in the determination of estimated fair values. Therefore, the estimated fair value of financial instruments shown below may not be representative of the amounts at which they could be exchanged in a current or future transaction. Due to the inherent uncertainties of expected cash flows of financial instruments, the use of alternate valuation assumptions and methods could have a significant effect on the estimated fair value amounts.

The estimated fair values of financial instruments, as shown below, are not intended to reflect the estimated liquidation or market value of Horizon taken as a whole. The disclosed fair value estimates are limited to Horizon’s significant financial instruments at September 30, 2018 and December 31, 2017. These include financial instruments recognized as assets and liabilities on the condensed consolidated balance sheet as well as certain off-balance sheet financial instruments. The estimated fair values shown below do not include any valuation of assets and liabilities, which are not financial instruments as defined by the FASB ASC fair value hierarchy.

The following methods and assumptions were used to estimate the fair value of each class of financial instrument:

Cash and Due from Banks — The carrying amounts approximate fair value.

Held-to-Maturity Securities — For debt securities held to maturity, fair values are based on quoted market prices or dealer quotes. For those securities where a quoted market price is not available, carrying amount is a reasonable estimate of fair value based upon comparison with similar securities.

Loans Held for Sale — The carrying amounts approximate fair value.

Net Loans — At September 30, 2018, the fair value of net loans are estimated on an exit price basis incorporating discounts for credit, liquidity and marketability factors. This is not comparable with the fair values disclosed at December 31, 2017, which were based on an entrance price basis. At December 31, 2017, the fair value of portfolio loans were 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.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

FHLB and FRB Stock — Fair value of FHLB and FRB stock is based on the price at which it may be resold to the FHLB and FRB.

Interest Receivable/Payable — The carrying amounts approximate fair value.

Deposits — The fair value of demand deposits, savings accounts, interest-bearing checking accounts and money market deposits is the amount payable on demand at the reporting date. The fair value of fixed maturity certificates of deposit is estimated by discounting the future cash flows using rates currently offered for deposits of similar remaining maturity.

Borrowings — Rates currently available to Horizon for debt with similar terms and remaining maturities are used to estimate fair values of existing borrowings.

Subordinated Debentures — Rates currently available for debentures with similar terms and remaining maturities are used to estimate fair values of existing debentures.

Commitments to Extend Credit and Standby Letters of Credit — The fair value of commitments is estimated using 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. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date. Due to the short-term nature of these agreements, carrying amounts approximate fair value.

The following table presents estimated fair values of the Company’s financial instruments and the level within the fair value hierarchy in which the fair value measurements fall (unaudited).

 

     September 30, 2018  
     Carrying
Amount
     Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Assets

           

Cash and due from banks

   $ 69,697      $ 69,697      $ —        $ —    

Investment securities, held to maturity

     223,848        —          219,158        —    

Loans held for sale

     1,980        —          —          1,980  

Loans (excluding loan level hedges), net

     2,733,810        —          —          2,610,426  

Stock in FHLB

     18,073        —          18,073        —    

Interest receivable

     13,999        —          13,999        —    

Liabilities

           

Non-interest bearing deposits

   $ 621,475      $ 621,475      $ —        $ —    

Interest bearing deposits

     2,507,079        —          2,373,715        —    

Borrowings

     477,719        —          471,265        —    

Subordinated debentures

     37,791        —          35,811        —    

Interest payable

     1,688        —          1,688        —    

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

     December 31, 2017  
     Carrying
Amount
     Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Assets

           

Cash and due from banks

   $ 76,441      $ 76,441      $ —        $ —    

Investment securities, held to maturity

     200,448        —          201,085        —    

Loans held for sale

     3,094        —          —          3,094  

Loans (excluding loan level hedges), net

     2,661,026        —          —          2,585,879  

Stock in FHLB

     18,105        —          18,105        —    

Interest receivable

     16,244        —          16,244        —    

Liabilities

           

Non-interest bearing deposits

   $ 601,805      $ 601,805      $ —        $ —    

Interest bearing deposits

     2,279,198        —          2,156,487        —    

Borrowings

     564,157        —          560,057        —    

Subordinated debentures

     37,653        —          35,994        —    

Interest payable

     886        —          886        —    

Note 12 – Accumulated Other Comprehensive Income

 

     September 30
2018
     December 31
2017
 

Unrealized loss on securities available for sale

   $ (16,481    $ (3,937

Unamortized gain on securities held to maturity, previously transferred from AFS

     47        200  

Unrealized loss on derivative instruments

     24        (1,728

Tax effect

     3,447        1,914  
  

 

 

    

 

 

 

Total accumulated other comprehensive loss

   $ (12,963    $ (3,551
  

 

 

    

 

 

 

Note 13 – Regulatory Capital

Horizon and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies and are assigned to a capital category. Failure to meet the minimum regulatory capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators, which if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective actions, the Bank must meet specific capital guidelines involving quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are 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 Bank to maintain minimum amounts and ratios of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined), or leverage ratio. Basel III rules require the Bank to maintain minimum amounts and ratios of common equity Tier I capital (as defined in the regulation) to risk-weighted assets (as defined). Additionally, under Basel III rules, the decision was made to opt-out of including accumulated other comprehensive income in regulatory capital.

To be categorized as well capitalized, the Bank must maintain minimum Total risk-based, Tier I risk-based, common equity Tier I risk-based and Tier I leverage ratios as set forth in the table below. As of September 30, 2018 and December 31, 2017, the Bank met all capital adequacy requirements to be considered well capitalized. There have been no conditions or events since the end of the third quarter of 2018 that management believes have changed the Bank’s classification as well capitalized. There is no threshold for well-capitalized status for bank holding companies.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Horizon and the Bank’s actual and required capital ratios as of September 30, 2018 and December 31, 2017 were as follows:

 

     Actual     Required for Capital1
Adequacy Purposes
    Required For Capital1
Adequacy Purposes
with Capital Buffer
    Well Capitalized Under
Prompt1

Corrective Action
Provisions
 
     Amount      Ratio     Amount      Ratio     Amount      Ratio     Amount      Ratio  

September 30, 2018

                    

Total capital1 (to risk-weighted assets)

                    

Consolidated

   $ 417,728        13.31   $ 251,097        8.00   $ 290,331        9.25     N/A        N/A  

Bank

     397,610        12.66     251,262        8.00     290,522        9.25   $ 314,078        10.00

Tier 1 capital1 (to risk-weighted assets)

                    

Consolidated

     399,885        12.74     188,323        6.00     227,557        7.25     N/A        N/A  

Bank

     379,767        12.09     188,447        6.00     227,706        7.25     251,262        8.00

Common equity tier 1 capital1 (to risk-weighted assets)

                    

Consolidated

     361,422        11.52     141,242        4.50     180,476        5.75     N/A        N/A  

Bank

     379,767        12.09     141,335        4.50     180,595        5.75     204,150        6.50

Tier 1 capital1 (to average assets)

                    

Consolidated

     399,885        10.05     159,098        4.00     159,098        4.00     N/A        N/A  

Bank

     379,767        9.53     159,405        4.00     159,405        4.00     199,257        5.00

December 31, 2017

                    

Total capital1 (to risk-weighted assets)

                    

Consolidated

   $ 384,800        12.91   $ 238,543        8.00   $ 275,816        9.25     N/A        N/A  

Bank

     382,788        12.85     238,386        8.00     275,634        9.25   $ 297,982        10.00

Tier 1 capital1 (to risk-weighted assets)

                    

Consolidated

     368,355        12.35     178,907        6.00     216,180        7.25     N/A        N/A  

Bank

     366,343        12.29     178,790        6.00     216,038        7.25     238,386        8.00

Common equity tier 1 capital1 (to risk-weighted assets)

                    

Consolidated

     329,892        11.06     134,181        4.50     171,454        5.75     N/A        N/A  

Bank

     366,343        12.29     134,092        4.50     171,340        5.75     193,689        6.50

Tier 1 capital1 (to average assets)

                    

Consolidated

     368,355        9.92     148,503        4.00     148,503        4.00     N/A        N/A  

Bank

     366,343        9.89     148,116        4.00     148,116        4.00     185,145        5.00

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

Note 14 – Future Accounting Matters

Financial Accounting Standards Board (FASB) Accounting Standards Update (ASU) No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement

The FASB has issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement. These amendments modify the disclosure requirements in Topic 820 as follows:

Removals: the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy; the policy for timing of transfers between levels; and the valuation processes for Level 3 fair value measurements.

Modifications: for investments in certain entities that calculate net asset value, an entity is required to disclose the timing of liquidation of an investee’s assets and the date when restrictions from redemption might lapse only if the investee has communicated the timing to the entity or announced the timing publicly; and the amendments clarify that the measurement uncertainty disclosure is to communicate information about the uncertainty in measurement as of the reporting date.

Additions: the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period; and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements.

The guidance is effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should all be applied prospectively for only the most recent interim or annual period presented in the initial year of adoption. All other amendments should be applied retrospectively to all periods presented upon their effective date. Early adoption is permitted. An entity is permitted to early adopt any removed or modified disclosures upon issuance of ASU No. 2018-13 and delay adoption of the additional disclosures until their effective date. We are currently evaluating the impact of adoption of ASU 2018-13 and the impact on our accounting and disclosures.

FASB ASU No. 2017-12, Derivatives and Hedging (Topic 815), Targeted Improvements to Accounting for Hedging Activities

The FASB has issued ASU No. 2017-12, Derivatives and Hedging (Topic 815), Targeted Improvements to Accounting for Hedging Activities. The new guidance improves the financial reporting of hedging relationships to better portray the economic results of an entity’s risk management activities in its financial statements. The amendments in this ASU also make certain targeted improvements to simplify the application of the hedge accounting guidance in current GAAP. For public entities, the new guidance will be effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2019, and interim periods beginning after December 15, 2020. Early application is permitted in any interim period after issuance of the ASU. All transition requirements and elections should be applied to hedging relationships existing (that is, hedging relationships in which the hedging instrument has not expired, been sold, terminated, or exercised or the entity has not removed the designation of the hedging relationship) on the date of adoption. The effect of adoption should be reflected as of the beginning of the fiscal year of adoption (that is, the initial application date). We are currently evaluating the impact of adopting the new guidance on the consolidated financial statements, but it is not expected to have a material impact.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

FASB ASU No. 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment

The FASB has issued ASU No. 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. The new guidance is intended to simplify the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. The annual, or interim, goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. In addition, the income tax effects of tax deductible goodwill on the carrying amount of the reporting unit should be considered when measuring the goodwill impairment loss, if applicable. The amendments also eliminate the requirements for any reporting unit with a zero or negative carrying amount to perform Step 2 of the goodwill impairment test. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the qualitative impairment test is necessary. The amendments should be applied on a prospective basis. The nature of and reason for the change in accounting principle should be disclosed upon transition. The amendments in this update should be adopted for annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted on testing dates after January 1, 2017. We are currently evaluating the impact of adopting the new guidance on the consolidated financial statements, but it is not expected to have a material impact.

FASB ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments

The FASB has issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The main objective of this amendment is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. The amendment requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to enhance their credit loss estimates. The amendment requires enhanced disclosures to help investors and other financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The amendments in this update become effective for annual periods and interim periods within those annual periods beginning after December 15, 2019. Early adoption will be permitted beginning after December 15, 2018. We expect a one-time cumulative-effect adjustment to the allowance for loan losses will be recognized in retained earnings on the consolidated balance sheet as of the beginning of the first reporting period in which the new standard is effective, as is consistent with regulatory expectations set forth in interagency guidance issued at the end of 2016. We are currently implementing third-party software that was purchased and are validating the data loaded into the solution. Our implementation team meets on a regular basis to oversee activities and monitor progress. Methodologies are still being evaluated at this time so the magnitude of any such adjustment or the overall impact of the new standard on the financial condition or results of operations cannot yet be determined.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Data)

 

FASB Accounting Standards Updates No. 2016-02, Leases (Topic 842)

The FASB has issued Accounting Standards Update (ASU) No. 2016-02, Leases. Under the new guidance, lessees will be required to recognize the following for all leases, with the exception of short-term leases, at the commencement date: (1) a lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. The amendments in this update become effective for annual periods and interim periods within those annual periods beginning after December 15, 2018. Based on leases outstanding as of December 31, 2017, we do not expect the new standard to have a material impact on our balance sheet or income statement.

Note 15 – General Litigation

The Company is subject to claims and lawsuits that arise primarily in the ordinary course of business. It is the opinion of management that the disposition or ultimate resolution of such claims and lawsuits will not have a material adverse effect on the consolidated financial position, results of operation and cash flows of the Company.

Note 16 – Business Combinations

On October 29, 2018, Horizon entered into an Agreement and Plan of Merger (the “Merger Agreement”) providing for Horizon’s acquisition of Salin Bancshares, Inc. (“Salin”). Pursuant to the Merger Agreement, Salin will merge with and into Horizon, with Horizon surviving the merger (the “Merger”), and Salin Bank and Trust Company, a wholly-owned subsidiary of Salin, will merge with and into Horizon Bank, with Horizon Bank as the surviving bank.

The boards of directors of each of Horizon and Salin have approved the Merger and the Merger Agreement. Subject to the approval of the Merger by Salin shareholders, regulatory approvals and other closing conditions, the parties anticipate completing the Merger during the first quarter of 2019.

In connection with the Merger, shareholders of Salin will receive fixed consideration of 23,907.5 shares of Horizon common stock and $84,417.17 in cash for each share of Salin common stock. Based on the closing price of Horizon’s common stock on October 26, 2018 of $16.95 per share, the transaction value for the shares of common stock is approximately $135.3 million.

The Merger Agreement also provides for certain termination rights for both Horizon and Salin, and further provides that upon termination of the Merger Agreement under certain circumstances, Salin will be obligated to pay Horizon a termination fee.

As of September 30, 2018, Salin had total assets of approximately $918.4 million and total deposits of approximately $752.1 million and total loans of approximately $595.7 million.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward–Looking Statements

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, with respect to Horizon Bancorp, Inc. (“Horizon” or the “Company”) and Horizon Bank (the “Bank”). Horizon 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 the purposes of these safe harbor provisions. Statements in this report should be considered in conjunction with the other information available about Horizon, including the information in the other filings we make with the Securities and Exchange Commission. The forward-looking statements are based on management’s expectations and are subject to a number of risks and uncertainties. We have tried, wherever possible, to identify such statements by using words such as “anticipate,” “expect,” “estimate,” “project,” “intend,” “plan,” “believe,” “could,” “will” and similar expressions in connection with any discussion of future operating or financial performance. Although management believes that the expectations reflected in such forward-looking statements are reasonable, actual results may differ materially from those expressed or implied in such statements.

Actual results may differ materially, adversely or positively, from the expectations of the Company that are expressed or implied by any forward-looking statement. Risks, uncertainties, and factors that could cause the Company’s actual results to vary materially from those expressed or implied by any forward-looking statement include but are not limited to:

 

   

economic conditions and their impact on Horizon and its customers;

 

   

changes in the level and volatility of interest rates, spreads on earning assets and interest-bearing liabilities, and interest rate sensitivity;

 

   

rising interest rates and their impact on mortgage loan volumes and the outflow of deposits;

 

   

loss of key Horizon personnel;

 

   

increases in disintermediation, as new technologies allow consumers to complete financial transactions without the assistance of banks;

 

   

loss of fee income, including interchange fees, as new and emerging alternative payment platforms (e.g. Apple Pay or Bitcoin) take a greater market share of the payment systems;

 

   

estimates of fair value of certain of Horizon’s assets and liabilities;

 

   

volatility and disruption in financial markets;

 

   

prepayment speeds, loan originations, credit losses and market values, collateral securing loans and other assets;

 

   

sources of liquidity;

 

   

potential risk of environmental liability related to lending activities;

 

   

changes in the competitive environment in Horizon’s market areas and among other financial service providers;

 

   

legislation and/or regulation affecting the financial services industry as a whole, and Horizon and its subsidiaries in particular, including the effects resulting from the reforms enacted by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) and the adoption of regulations by regulatory bodies under the Dodd-Frank Act;

 

   

the possible impact of whole or partial dismantling of provisions of the Dodd-Frank Act under the current federal administration;

 

   

the potential for additional changes in tax laws, particularly corporate income tax reform, that may affect current returns, Horizon’s deferred tax assets and liabilities, the ability to utilize federal and state net operating loss carryforwards, and the market’s perception on overall value;

 

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Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

   

the impact of the Basel III capital rules;

 

   

changes in regulatory supervision and oversight, including monetary policy and capital requirements;

 

   

changes in accounting policies or procedures as may be adopted and required by regulatory agencies;

 

   

rapid technological developments and changes;

 

   

the risks presented by cyber terrorism and data security breaches, and the increasing costs of cybersecurity for the Company;

 

   

ability to contain costs and expenses;

 

   

an economic slowdown and/or possible recession;

 

   

the ability of the U.S. federal government to manage federal debt limits; and

 

   

the risks of expansion through mergers and acquisitions, including unexpected credit quality problems with acquired loans, difficulty integrating acquired operations and material differences in the actual financial results of such transactions compared with Horizon’s initial expectations, including the full realization of anticipated cost savings.

The foregoing list of important factors is not exclusive, and you are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this document or, in the case of documents incorporated by reference, the dates of those documents. We do not undertake to update any forward-looking statements, whether written or oral, that may be made from time to time by us or on our behalf. For a detailed discussion of the risks and uncertainties that may cause our actual results or performance to differ materially from the results or performance expressed or implied by forward-looking statements, see “Risk Factors” in Item 1A of Part I of our 2017 Annual Report on Form 10-K and in the subsequent reports we file with the SEC.

Overview

Horizon is a registered bank holding company incorporated in Indiana and headquartered in Michigan City, Indiana. Horizon provides a broad range of banking services in Northern and Central regions of Indiana and the Southern, Central and Great Lakes Bay regions of Michigan through its bank subsidiary. Horizon operates as a single segment, which is commercial banking. Horizon’s common stock is traded on the NASDAQ Global Select Market under the symbol HBNC. The Bank was originally chartered as a national banking association in 1873 and has operated continuously since that time and converted to an Indiana state-chartered bank effective on June 23, 2017. The Bank is a full-service commercial bank offering commercial and retail banking services, corporate and individual trust and agency services, and other services incident to banking. Upon approval of a name change by Horizon’s shareholders at the annual meeting on May 3, 2018, Horizon’s full corporate name became “Horizon Bancorp, Inc.”

On October 17, 2017, Horizon completed the acquisition of Wolverine Bancorp, Inc., a Maryland corporation (“Wolverine”) and Horizon Bank’s acquisition of Wolverine Bank, a federally-chartered savings bank and wholly-owned subsidiary of Wolverine, through mergers effective October 17, 2017. Under the terms of the Merger Agreement, shareholders of Wolverine received 1.5228 shares of Horizon common stock and $14.00 in cash for each outstanding share of Wolverine common stock. Wolverine shares outstanding at the closing to be exchanged were 2,129,331 and the shares of Horizon common stock issued to Wolverine shareholders totaled 3,241,045. Based upon the October 16, 2017 closing price of $19.37 per share of Horizon common stock immediately prior to the effectiveness of the merger, less the consideration used to pay off Wolverine Bancorp’s ESOP loan receivable, the transaction has an implied valuation of approximately $93.8 million.

On September 1, 2017, Horizon completed the acquisition of Lafayette Community Bancorp, an Indiana corporation (“Lafayette”) and Horizon Bank’s acquisition of Lafayette Community Bank, a state-chartered bank and wholly-owned subsidiary of Lafayette, through mergers effective September 1, 2017. Under the terms of the Merger Agreement, shareholders of Lafayette received 0.8817 shares of Horizon common stock and $1.73 in cash for each outstanding share of Lafayette common stock. Lafayette shareholders owning fewer than 100 shares of common stock received $17.25 in cash for each common share. Lafayette shares outstanding at the closing to be exchanged

 

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Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

were 1,856,679, and the shares of Horizon common stock issued to Lafayette shareholders totaled 1,636,888. Based upon the August 31, 2017 closing price of $17.45 per share of Horizon common stock immediately prior to the effectiveness of the merger, the transaction has an implied valuation of approximately $34.5 million.

On February 3, 2017, Horizon completed the purchase and assumption of certain assets and liabilities of a single branch of First Farmers Bank & Trust Company, located in Bargersville, Indiana. Net cash of $11.0 million was received in the transaction, representing the deposit balances assumed at closing, net of amounts paid for loans acquired in the transaction and a premium on deposits assumed in the transaction.

Following are some highlights of Horizon’s financial performance through the first nine months of 2018:

 

   

Net income for the quarter ended September 30, 2018 was $13.1 million, or $0.34 diluted earnings per share, compared to $8.2 million, or $0.24 diluted earnings per share, for the quarter ended September 30, 2017 resulting in a 41.7% increase in diluted earnings per share.

 

   

Net income for the first nine months of 2018 was $40.0 million, or $1.04 diluted earnings per share, compared to $25.5 million, or $0.75 diluted earnings per share, for the first nine months of 2017 resulting in a 38.7% increase in diluted earnings per share. This represents the highest year-to-date net income and diluted earnings per share as of September 30th in the Company’s 145-year history.

 

   

Return on average assets was 1.26% for the third quarter of 2018 compared to 0.96% for the third quarter of 2017. Return on average assets for the first nine months of 2018 was 1.33% compared to 1.05% for the first nine months of 2017.

 

   

Return on average equity was 10.87% for the third quarter of 2018 compared to 8.92% for the third quarter of 2017. Return on average equity was 11.43% for the first nine months of 2018 compared to 9.59% for the first nine months of 2017.

 

   

Total loans increased by an annualized rate of 4.3%, or $31.8 million, during the three months ended September 30, 2018. Total loans, excluding loans held for sale and mortgage warehouse loans, increased by an annualized rate of 9.9%, or $70.5 million, during the three months ended September 30, 2018.

 

   

Total loans increased by an annualized rate of 5.9%, or $124.3 million, during the first nine months of 2018. Total loans, excluding loans held for sale and mortgage warehouse loans, increased by an annualized rate of 7.3%, or $148.5 million, during the first nine months of 2018.

 

   

Commercial loans increased by an annualized rate of 6.1%, or $25.6 million, during the third quarter of 2018.

 

   

Residential mortgage loans increased by an annualized rate of 10.4%, or $16.6 million, during the third quarter of 2018.

 

   

Consumer loans increased by an annualized rate of 22.1%, or $28.3 million, during the third quarter of 2018.

 

   

Total deposits increased by an annualized rate of 11.5%, or $247.6 million, during the first nine months of 2018.

 

   

Net interest income increased $5.9 million, or 21.1%, to $33.8 million for the three months ended September 30, 2018 compared to $27.9 million for the three months ended September 30, 2017. Net interest income increased $20.1 million, or 24.9%, to $100.7 million for the nine months ended September 30, 2018 compared to $80.6 million for the nine months ended September 30, 2017.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

   

Net interest margin was 3.67% for the three months ended September 30, 2018 compared to 3.71% for the three months ended September 30, 2017. Net interest margin was 3.74% for the nine months ended September 30, 2018 and 3.77% for the nine months ended September 30, 2017.

 

   

Horizon’s tangible book value per share increased to $9.04 at September 30, 2018 compared to $8.48 and $8.25 at December 31, 2017 and September 30, 2017, respectively. This represents the highest tangible book value per share in the Company’s 145-year history.

Critical Accounting Policies

The notes to the consolidated financial statements included in Item 8 of the Company’s Annual Report on Form 10-K for 2017 contain a summary of the Company’s significant accounting policies. Certain of these policies are important to the portrayal of the Company’s financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Management has identified as critical accounting policies the allowance for loan losses, goodwill and intangible assets, mortgage servicing rights, hedge accounting and valuation measurements.

Allowance for Loan Losses

An allowance for loan losses is maintained to absorb probable incurred loan losses inherent in the loan portfolio. The determination of the allowance for loan losses is a critical accounting policy that involves management’s ongoing quarterly assessments of the probable incurred losses inherent in the loan portfolio. The identification of loans that have probable incurred losses is subjective; therefore, a general reserve is maintained to cover all probable losses within the entire loan portfolio. Horizon utilizes a loan grading system that helps identify, monitor and address asset quality problems in an adequate and timely manner. Each quarter, various factors affecting the quality of the loan portfolio are reviewed. Large credits are reviewed on an individual basis for loss potential. Other loans are reviewed as a group based upon previous trends of loss experience. Horizon also reviews the current and anticipated economic conditions of its lending market as well as transaction risk to determine the effect they may have on the loss experience of the loan portfolio.

Goodwill and Intangible Assets

Management believes that the accounting for goodwill and other intangible assets also involves a higher degree of judgment than most other significant accounting policies. FASB ASC 350-10 establishes standards for the amortization of acquired intangible assets and impairment assessment of goodwill. At September 30, 2018, Horizon had core deposit intangibles of $10.9 million subject to amortization and $119.9 million of goodwill, which is not subject to amortization. Goodwill arising from business combinations represents the value attributable to unidentifiable intangible assets in the business acquired. Horizon’s goodwill relates to the value inherent in the banking industry and that value is dependent upon the ability of Horizon to provide quality, cost effective banking services in a competitive marketplace. The goodwill value is supported by revenue that is in part driven by the volume of business transacted. A decrease in earnings resulting from a decline in the customer base or the inability to deliver cost effective services over sustained periods can lead to impairment of goodwill that could adversely affect earnings in future periods. FASB ASC 350-10 requires an annual evaluation of goodwill for impairment. The evaluation of goodwill for impairment requires the use of estimates and assumptions. Market price at the close of business on September 30, 2018 was $19.75 per share compared to a book value of $12.45 per common share.

Horizon has concluded that, based on its own internal evaluation, the recorded value of goodwill is not impaired.

Mortgage Servicing Rights

Servicing assets are recognized as separate assets when rights are acquired through purchase or through the sale of financial assets on a servicing-retained basis. Capitalized servicing rights are amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets. Servicing assets are evaluated regularly for impairment based upon the fair value of the rights as compared to

 

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Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

amortized cost. Impairment is determined by stratifying servicing rights by predominant characteristics, such as interest rates, original loan terms and whether the loans are fixed or adjustable rate mortgages. Fair value is determined using prices for similar assets with similar characteristics, when available, or based upon discounted cash flows using market-based assumptions. When the book value of an individual stratum exceeds its fair value, an impairment reserve is recognized so that each individual stratum is carried at the lower of its amortized book value or fair value. In periods of falling market interest rates, accelerated loan prepayment can adversely affect the fair value of these mortgage-servicing rights relative to their book value. In the event that the fair value of these assets was to increase in the future, Horizon can recognize the increased fair value to the extent of the impairment allowance but cannot recognize an asset in excess of its amortized book value. Future changes in management’s assessment of the impairment of these servicing assets, as a result of changes in observable market data relating to market interest rates, loan prepayment speeds, and other factors, could impact Horizon’s financial condition and results of operations either positively or negatively.

Generally, when market interest rates decline and other factors favorable to prepayments occur, there is a corresponding increase in prepayments as customers refinance existing mortgages under more favorable interest rate terms. When a mortgage loan is prepaid, the anticipated cash flows associated with servicing that loan are terminated, resulting in a reduction of the fair value of the capitalized mortgage servicing rights. To the extent that actual borrower prepayments do not react as anticipated by the prepayment model (i.e., the historical data observed in the model does not correspond to actual market activity), it is possible that the prepayment model could fail to accurately predict mortgage prepayments and could result in significant earnings volatility. To estimate prepayment speeds, Horizon utilizes a third-party prepayment model, which is based upon statistically derived data linked to certain key principal indicators involving historical borrower prepayment activity associated with mortgage loans in the secondary market, current market interest rates and other factors, including Horizon’s own historical prepayment experience. For purposes of model valuation, estimates are made for each product type within the mortgage servicing rights portfolio on a monthly basis. In addition, on a quarterly basis Horizon engages a third party to independently test the value of its servicing asset.

Derivative Instruments

As part of the Company’s asset/liability management program, Horizon utilizes, from time-to-time, interest rate floors, caps or swaps to reduce the Company’s sensitivity to interest rate fluctuations. These are derivative instruments, which are recorded as assets or liabilities in the consolidated balance sheets at fair value. Changes in the fair values of derivatives are reported in the consolidated income statements or other comprehensive income (“OCI”) depending on the use of the derivative and whether the instrument qualifies for hedge accounting. The key criterion for the hedge accounting is that the hedged relationship must be highly effective in achieving offsetting changes in those cash flows that are attributable to the hedged risk, both at inception of the hedge and on an ongoing basis.

Horizon’s accounting policies related to derivatives reflect the guidance in FASB ASC 815-10. Derivatives that qualify for the hedge accounting treatment are designated as either: a hedge of the fair value of the recognized asset or liability or of an unrecognized firm commitment (a fair value hedge) or a hedge of a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (a cash flow hedge). For fair value hedges, the cumulative change in fair value of both the hedge instruments and the underlying loans is recorded in non-interest income. For cash flow hedges, changes in the fair values of the derivative instruments are reported in OCI to the extent the hedge is effective. The gains and losses on derivative instruments that are reported in OCI are reflected in the consolidated income statement in the periods in which the results of operations are impacted by the variability of the cash flows of the hedged item. Generally, net interest income is increased or decreased by amounts receivable or payable with respect to the derivatives, which qualify for hedge accounting. At inception of the hedge, Horizon establishes the method it uses for assessing the effectiveness of the hedging derivative and the measurement approach for determining the ineffective aspect of the hedge. The ineffective portion of the hedge, if any, is recognized currently in the consolidated statements of income. Horizon excludes the time value expiration of the hedge when measuring ineffectiveness.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Valuation Measurements

Valuation methodologies often involve a significant degree of judgment, particularly when there are no observable active markets for the items being valued. Investment securities, residential mortgage loans held for sale and derivatives are carried at fair value, as defined in FASB ASC 820, which requires key judgments affecting how fair value for such assets and liabilities is determined. In addition, the outcomes of valuations have a direct bearing on the carrying amounts of goodwill, mortgage servicing rights, and pension and other post-retirement benefit obligations. To determine the values of these assets and liabilities, as well as the extent, to which related assets may be impaired, management makes assumptions and estimates related to discount rates, asset returns, prepayment speeds and other factors. The use of different discount rates or other valuation assumptions could produce significantly different results, which could affect Horizon’s results of operations.

Financial Condition

On September 30, 2018, Horizon’s total assets were $4.151 billion, an increase of approximately $186.3 million compared to December 31, 2017. The increase was primarily in net loans of $124.0 million, investment securities available for sale and held to maturity of $32.6 million and $23.4 million, respectively, and the cash value of life insurance of $11.6 million, which was offset by a decrease in cash and due from banks of $6.7 million.

Investment securities were comprised of the following as of (dollars in thousands):

 

     September 30, 2018      December 31, 2017  
     Amortized
Cost
     Fair
Value
     Amortized
Cost
     Fair
Value
 

Available for sale

           

U.S. Treasury and federal agencies

   $ 17,036      $ 16,572      $ 19,277      $ 19,052  

State and municipal

     159,812        156,675        148,045        149,564  

Federal agency collateralized mortgage obligations

     178,069        172,671        132,871        130,365  

Federal agency mortgage-backed pools

     193,461        185,975        211,487        208,657  

Private labeled mortgage-backed pools

     —          —          1,650        1,642  

Corporate notes

     10,408        10,412        272        385  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 558,786      $ 542,305      $ 513,602      $ 509,665  
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

State and municipal

   $ 204,619      $ 200,424      $ 179,836      $ 180,397  

Federal agency collateralized mortgage obligations

     5,262        5,083        5,734        5,682  

Federal agency mortgage-backed pools

     13,967        13,651        14,878        15,006  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $ 223,848      $ 219,158      $ 200,448      $ 201,085  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loans increased $124.3 million since December 31, 2017 to $2.959 billion as of September 30, 2018. This increase was the result of an increase in consumer loans of $75.1 million, residential mortgage loans of $44.5 million and commercial loans of $28.9 million, offset by a decrease in mortgage warehouse loans of $23.1 million and loans held for sale of $1.1 million. The growth markets of Fort Wayne, Grand Rapids, Indianapolis and Kalamazoo contributed total loan growth of $70.6 million during the first nine months of 2018. Our experienced consumer loan team and increased focus on the consumer portfolio have been the main drivers for the increase in consumer loans.

Total deposits increased $247.6 million since December 31, 2017 to $3.129 billion as of September 30, 2018. Non-interest bearing transaction accounts and time deposits increased $19.7 million and $334.3 million, respectively, during the nine months ended September 30, 2018 which was offset by a decrease in interest-bearing deposits of $106.4 million.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

The Company decreased total borrowings from $564.2 million as of December 31, 2017 to $477.7 million as of September 30, 2018. At September 30, 2018, the Company had $329.6 million in short-term funds borrowed compared to $392.3 million at December 31, 2017. The decrease in borrowings was primarily due to the increase in deposits of $247.6 million from December 31, 2017.

Stockholders’ equity totaled $477.6 million at September 30, 2018 compared to $457.1 million at December 31, 2017. The increase in stockholders’ equity during the period was due to the generation of net income, net of dividends declared and a decrease in accumulated other comprehensive income. At September 30, 2018, the ratio of average stockholders’ equity to average assets was 11.62% compared to 11.70% at December 31, 2017. Book value per common share at September 30, 2018 increased to $12.45 compared to $11.93 at December 31, 2017.

Results of Operations

Overview

Consolidated net income for the three-month period ended September 30, 2018 was $13.1 million compared to $8.2 million for the same period in 2017. Earnings per common share for the three months ended September 30, 2018 were $0.34 basic and diluted, compared to $0.24 basic and diluted for the same three-month period in the previous year. The increase in net income and earnings per share from the previous year reflects increases in net interest income of $5.9 million and non-interest income of $665,000, partially offset by increases in provision for loan losses of $466,000, non-interest expense of $1.1 million and income tax expense of $91,000. Non-interest expense increased primarily due to an increase in salaries, employee benefits, data processing, loan expense, FDIC insurance expense and other losses. Excluding acquisition-related expenses, gain/loss on sale of investment securities and purchase accounting adjustments, net income for the third quarter of 2018 was $12.5 million or $0.32 diluted earnings per share compared to $9.2 million or $0.27 diluted earnings per share in the same period of 2017.

Consolidated net income for the nine-month period ended September 30, 2018 was $40.0 million compared to $25.5 million for the same period of 2017. Earnings per common share for the nine months ended September 30, 2018 were $1.04 basic and diluted, compared to $0.76 basic and $0.75 diluted for the same nine-month period in the previous year. The increase in net income and earnings per share from the previous year reflects increases in net interest income of $20.1 million and non-interest income of $2.1 million and a decrease in income tax expense of $1.2 million, partially offset by increases in provision for loan losses of $1.0 and non-interest expense of $7.9 million. Non-interest expense increased primarily due to an increase in salaries, employee benefits, net occupancy expenses, data processing, loan expense, other losses and other expense. Excluding acquisition-related expenses, gain/loss on sale of investment securities, death benefit on bank owned life insurance and purchase accounting adjustments, net income for the nine months ended September 30, 2018 was $36.4 million or $0.94 diluted earnings per share compared to $25.4 million or $0.75 diluted earnings per share in the same period of 2017.

Net Interest Income

The largest component of net income is net interest income. Net interest income is the difference between interest income, principally from loans and investment securities, and interest expense, principally on deposits and borrowings. Changes in the net interest income are the result of changes in volume and the net interest spread, which affects the net interest margin. Volume refers to the average dollar levels of interest-earning assets and interest-bearing liabilities. Net interest spread refers to the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. Net interest margin refers to net interest income divided by average interest-earning assets and is influenced by the level and relative mix of interest-earning assets and interest-bearing liabilities.

 

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Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

The following are the average balance sheets for the three months ending (dollars in thousands):

 

     Three Months Ended     Three Months Ended  
     September 30, 2018     September 30, 2017  
     Average
Balance
    Interest      Average
Rate
    Average
Balance
    Interest      Average
Rate
 

Assets

              

Interest-earning assets

              

Federal funds sold

   $ 3,840     $ 24        2.48   $ 6,770     $ 24        1.41

Interest-earning deposits

     24,494       104        1.68     20,157       49        0.96

Investment securities - taxable

     421,681       2,611        2.46     426,145       2,094        1.95

Investment securities - non-taxable(1)

     324,289       2,010        3.11     296,716       1,790        3.36

Loans receivable(2)(3)

     2,942,835       37,522        5.07     2,328,823       28,113        4.82
  

 

 

   

 

 

      

 

 

   

 

 

    

Total interest-earning assets(1)

     3,717,139       42,271        4.58     3,078,611       32,070        4.25

Non-interest-earning assets

              

Cash and due from banks

     45,864            41,465       

Allowance for loan losses

     (17,090          (15,135     

Other assets

     359,183            278,721       
  

 

 

        

 

 

      

Total average assets

   $ 4,105,096          $ 3,383,662       
  

 

 

        

 

 

      

Liabilities and Stockholders’ Equity

              

Interest-bearing liabilities

              

Interest-bearing deposits

   $ 2,438,450     $ 5,023        0.82   $ 1,961,998     $ 1,841        0.37

Borrowings

     496,054       2,876        2.30     460,878       1,753        1.51

Subordinated debentures

     36,570       600        6.51     36,386       597        6.51
  

 

 

   

 

 

      

 

 

   

 

 

    

Total interest-bearing liabilities

     2,971,074       8,499        1.13     2,459,262       4,191        0.68

Non-interest-bearing liabilities

              

Demand deposits

     640,983            540,109       

Accrued interest payable and other liabilities

     16,080            20,915       

Stockholders’ equity

     476,959            363,376       
  

 

 

        

 

 

      

Total average liabilities and stockholders’ equity

   $ 4,105,096          $ 3,383,662       
  

 

 

   

 

 

      

 

 

   

 

 

    

Net interest income/spread

     $ 33,772        3.44     $ 27,879        3.58
    

 

 

        

 

 

    

Net interest income as a percent of average interest-earning assets(1)

          3.67          3.71

 

(1) 

Securities balances represent daily average balances for the fair value of securities. The average rate is calculated based on the daily average balance for the amortized cost of securities. The average rate is presented on a tax equivalent basis.

(2) 

Includes fees on loans. The inclusion of loan fees does not have a material effect on the average interest rate.

(3) 

Non-accruing loans for the purpose of the computations above are included in the daily average loan amounts outstanding. Loan totals are shown net of unearned income and deferred loan fees. The average rate is presented on a tax equivalent basis.

Net interest income during the three months ended September 30, 2018 was $33.8 million, an increase of $5.9 million from the $27.9 million earned during the same period in 2017. Yields on the Company’s interest-earning assets increased by 33 basis points to 4.58% for the three months ending September 30, 2018 from 4.25% for the three months ended September 30, 2017. Interest income increased $10.2 million from $32.1 million for the three months ended September 30, 2017 to $42.3 million for the same period in 2018. This was due to an increase in average interest-earning assets through organic and acquisition-related growth, in addition to an increase in yield. Interest income from acquisition-related purchase accounting adjustments was $789,000 million for the three months ending September 30, 2018 compared to $661,000 for the same period of 2017.

Rates paid on interest-bearing liabilities increased by 45 basis points for the three-month period ended September 30, 2018 compared to the same period in 2017 due to increases in the cost of interest-bearing deposits and borrowings. Interest expense increased $4.3 million compared to the three-month period ended September 30, 2017 to $8.5 million for the same period in 2018. This increase was due to higher average balances of interest-bearing deposits and borrowings in addition to the higher rates paid on both. Average balances of interest-bearing deposits increased $476.5 million and were due to the acquisitions of Lafayette and Wolverine during the third and fourth quarters of 2017, as well as organic growth during the first nine months of 2018.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

The net interest margin decreased 4 basis points from 3.71% for the three-month period ended September 30, 2017 to 3.67% for the same period in 2018. The decrease in the margin for the three-month period ended September 30, 2018 compared to the same period in 2017 was due to an increase in the cost of interest-bearing liabilities and the impact of the lower income tax rate on non-taxable interest-earning assets, offset by an increase in the yield of taxable interest-earning assets. Excluding the interest income recognized from the acquisition-related purchase accounting adjustments, the margin would have been 3.59% for the three-month period ending September 30, 2018 compared to 3.63% for the same period in 2017.

The following are the average balance sheets for the nine months ending (dollars in thousands):

 

     Nine Months Ended     Nine Months Ended  
     September 30, 2018     September 30, 2017  
     Average
Balance
    Interest      Average
Rate
    Average
Balance
    Interest      Average
Rate
 

Assets

              

Interest-earning assets

              

Federal funds sold

   $ 2,845     $ 53        2.49   $ 3,857     $ 35        1.21

Interest-earning deposits

     25,411       300        1.58     24,177       201        1.11

Investment securities - taxable

     413,617       7,379        2.39     416,323       6,581        2.11

Investment securities - non-taxable(1)

     313,168       5,745        3.00     286,007       5,193        3.39

Loans receivable(2)(3)

     2,855,236       108,961        5.06     2,210,295       79,699        4.83
  

 

 

   

 

 

      

 

 

   

 

 

    

Total interest-earning assets(1)

     3,610,277       122,438        4.55     2,940,659       91,709        4.27

Non-interest-earning assets

              

Cash and due from banks

     44,605            42,004       

Allowance for loan losses

     (16,686          (15,069     

Other assets

     383,615            279,706       
  

 

 

        

 

 

      

Total average assets

   $ 4,021,811          $ 3,247,300       
  

 

 

        

 

 

      

Liabilities and Stockholders’ Equity

              

Interest-bearing liabilities

              

Interest-bearing deposits

   $ 2,382,864     $ 11,814        0.66   $ 1,967,457     $ 5,315        0.36

Borrowings

     504,349       8,127        2.15     357,932       4,028        1.50

Subordinated debentures

     36,524       1,764        6.46     36,339       1,721        6.33
  

 

 

   

 

 

      

 

 

   

 

 

    

Total interest-bearing liabilities

     2,923,737       21,705        0.99     2,361,728       11,064        0.63

Non-interest-bearing liabilities

              

Demand deposits

     613,866            510,230       

Accrued interest payable and other liabilities

     16,341            20,221       

Stockholders’ equity

     467,867            355,121       
  

 

 

        

 

 

      

Total average liabilities and stockholders’ equity

   $ 4,021,811          $ 3,247,300       
  

 

 

   

 

 

      

 

 

   

 

 

    

Net interest income/spread

     $ 100,733        3.55     $ 80,645        3.64
    

 

 

        

 

 

    

Net interest income as a percent of average interest-earning assets(1)

          3.74          3.77

 

(1) 

Securities balances represent daily average balances for the fair value of securities. The average rate is calculated based on the daily average balance for the amortized cost of securities. The average rate is presented on a tax equivalent basis.

(2) 

Includes fees on loans. The inclusion of loan fees does not have a material effect on the average interest rate.

(3) 

Non-accruing loans for the purpose of the computations above are included in the daily average loan amounts outstanding. Loan totals are shown net of unearned income and deferred loan fees. The average rate is presented on a tax equivalent basis.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Net interest income during the nine months ended September 30, 2018 was $100.7 million, an increase of $20.1 million from the $80.6 million earned during the same period in 2017. Yields on the Company’s interest-earning assets increased by 28 basis points to 4.55% for the nine months ending September 30, 2018 from 4.27% for the nine months ended September 30, 2017. Interest income increased $30.7 million from $91.7 million for the nine months ended September 30, 2017 to $122.4 million for the same period in 2018. This was due to an increase in average interest-earning assets through organic and acquisition-related growth, in addition to an increase in yield. Interest income from acquisition-related purchase accounting adjustments was $4.5 million for the nine months ending September 30, 2018 compared to $2.6 million for the same period of 2017.

Rates paid on interest-bearing liabilities increased by 36 basis points for the nine-month period ended September 30, 2018 compared to the same period in 2017 due to increases in the cost of interest-bearing deposits and borrowings. Interest expense increased $10.6 million compared to the nine-month period ended September 30, 2017 to $21.7 million for the same period in 2018. This increase was due to higher average balances of interest-bearing deposits and borrowings in addition to the higher rates paid on both. Average balances of interest-bearing deposits increased $415.4 million and were due to the acquisitions of Lafayette and Wolverine during the third and fourth quarters of 2017, as well as organic growth during the first nine months of 2018.

The net interest margin decreased 3 basis points from 3.77% for the nine-month period ended September 30, 2017 to 3.74% for the nine-month periods ended September 30, 2018. The increase in the cost of interest-bearing liabilities and the impact of the lower income tax rate on non-taxable interest-earning assets was offset by an increase in the yield of taxable interest-earning assets when comparing the nine-month periods ended September 30, 2017 and 2018. Excluding the interest income recognized from the acquisition-related purchase accounting adjustments, the margin would have been 3.58% for the nine-month period ending September 30, 2018 compared to 3.65% for the same period in 2017.

Provision for Loan Losses

Horizon assesses the adequacy of its Allowance for Loan and Lease Losses (“ALLL”) by regularly reviewing the performance of its loan portfolio. During the three-month period ended September 30, 2018, a provision of $1.2 million was required to adequately fund the ALLL compared to $710,000 for the same period of 2017. Commercial loan net charge-offs during the three-month period ended September 30, 2018 were $179,000, residential mortgage loans had a net recovery of $2,000 and consumer loan net charge-offs were $272,000. The increase in the provision for loan losses in the third quarter of 2018 compared to the same period of 2017 was due to an increase in specific allocations of approximately $485,000, along with additional general and non-specific allocations for loan growth in new markets, higher than anticipated growth of the indirect loan portfolio and an increase in allocation for other economic factors, including the potential of a recession. The ALLL balance at September 30, 2018 was $17.8 million or 0.60% of total loans. This compares to an ALLL balance of $16.4 million at December 31, 2017 or 0.58% of total loans.

For the nine-month period ended September 30, 2018, the provision for loan losses totaled $2.4 million compared to $1.4 million in the same period of 2017. The increase in the provision for loan losses was due to an increase in specific allocations of approximately $485,000, along with additional general and non-specific allocations for loan growth in new markets, higher than anticipated growth of the indirect loan portfolio and an increase in allocation for other economic factors, including the potential of a recession.

Horizon’s loan loss reserve ratio, excluding loans with credit-related purchase accounting adjustments, stood at 0.75% as of September 30, 2018. Loan loss reserves and credit-related loan discounts on acquired loans as a percentage of total loans was 1.06% as of September 30, 2018. The table below illustrates Horizon’s loan loss reserve ratio composition as of September 30, 2018.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Non-GAAP Allowance for Loan and Lease Loss Detail

As of September 30, 2018

(Dollars in Thousands, Unaudited)

 

     Pre-discount
Loan
Balance
     Allowance
for Loan
Losses
(ALLL)
     Loan
Discount
     ALLL
+
Loan
Discount
     Loans, net      ALLL/
Pre-discount
Loan Balance
    Loan
Discount/
Pre-discount
Loan Balance
    ALLL+Loan
Discount/
Pre-discount
Loan Balance
 

Horizon Legacy

   $ 2,362,215      $ 17,677        N/A      $ 17,677      $ 2,344,538        0.75     0.00     0.75

Heartland

     9,572        —          702        702        8,870        0.00     7.33     7.33

Summit

     26,226        —          1,617        1,617        24,609        0.00     6.17     6.17

Peoples

     93,282        —          2,081        2,081        91,201        0.00     2.23     2.23

Kosciusko

     42,790        —          677        677        42,113        0.00     1.58     1.58

LaPorte

     99,931        106        3,136        3,242        96,689        0.11     3.14     3.25

CNB

     5,076        —          136        136        4,940        0.00     2.68     2.68

Lafayette

     105,797        15        1,935        1,950        103,847        0.01     1.83     1.84

Wolverine

     214,477        —          3,245        3,245        211,232        0.00     1.51     1.51
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

        

Total

   $ 2,959,366      $ 17,798      $ 13,529      $ 31,327      $ 2,928,039        0.60     0.46     1.06
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

        

No assurance can be given that Horizon will not, in any particular period, sustain loan losses that are significant in relation to the amount reserved, or that subsequent evaluations of the loan portfolio, in light of factors then prevailing, including economic conditions and management’s ongoing quarterly assessments of the portfolio, will not require increases in the allowance for loan losses. Horizon considers the allowance for loan losses to be appropriate to cover probable incurred losses in the loan portfolio as of September 30, 2018.

Non-performing loans totaled $14.5 million as of September 30, 2018, down from $16.4 million as of December 31, 2017. Non-performing real estate and consumer loans decreased by $2.0 million and $927,000, respectively, at September 30, 2018 compared to December 31, 2017. Non-performing commercial loans increased $1.0 million at September 30, 2018 compared to December 31, 2017.

Other Real Estate Owned (OREO) and repossessed assets totaled $2.3 million at September 30, 2018 compared to $838,000 on December 31, 2017 and $1.8 million on September 30, 2017. The majority of this increase was due to several bank owned properties acquired through acquisitions and listed for sale being re-classified to other real estate owned and recorded at fair value during the second quarter of 2018.

Non-interest Income

The following is a summary of changes in non-interest income (table dollar amounts in thousands):

 

     Three Months Ended                
     September 30
2018
     September 30
2017
     Amount
Change
     Percent
Change
 

Non-interest Income

           

Service charges on deposit accounts

   $ 2,009      $ 1,672      $ 337        20.2

Wire transfer fees

     160        175        (15      -8.6

Interchange fees

     1,410        1,251        159        12.7

Fiduciary activities

     1,855        1,887        (32      -1.7

Gain on sale of investment securities

     (122      6        (128      -2133.3

Gain on sale of mortgage loans

     1,839        1,950        (111      -5.7

Mortgage servicing net of impairment

     563        369        194        52.6

Increase in cash surrender value of bank owned life insurance

     503        474        29        6.1

Other income

     469        237        232        97.9
  

 

 

    

 

 

    

 

 

    

Total non-interest income

   $ 8,686      $ 8,021      $ 665        8.3
  

 

 

    

 

 

    

 

 

    

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Total non-interest income was $665,000 higher during the third quarter of 2018 compared to the same period of 2017. Service charges on deposit accounts increased $337,000 and interchange fees increased by $159,000 primarily due to overall company growth and increased volume. Residential mortgage loan activity during the third quarter of 2018 generated $1.8 million of income from the gain on sale of mortgage loans, down from $1.9 million for the same period in 2017.

The following is a summary of changes in non-interest income (table dollar amounts in thousands):

 

     Nine Months Ended         
     September 30      September 30      Amount
Change
     Percent
Change
 
     2018      2017  

Non-interest Income

           

Service charges on deposit accounts

   $ 5,804      $ 4,638      $ 1,166        25.1

Wire transfer fees

     490        503        (13      -2.6

Interchange fees

     4,293        3,809        484        12.7

Fiduciary activities

     5,598        5,752        (154      -2.7

Gain on sale of investment securities

     (111      38        (149      -392.1

Gain on sale of mortgage loans

     5,158        5,918        (760      -12.8

Mortgage servicing net of impairment

     1,423        1,175        248        21.1

Increase in cash surrender value of bank owned life insurance

     1,380        1,346        34        2.5

Death benefit on bank owned life insurance

     154        —          154        0.0

Other income

     1,747        613        1,134        185.0
  

 

 

    

 

 

    

 

 

    

Total non-interest income

   $ 25,936      $ 23,792      $ 2,144        9.0
  

 

 

    

 

 

    

 

 

    

Total non-interest income was $2.1 million higher during the first nine months of 2018 compared to the same period of 2017. Service charges on deposit accounts increased $1.2 million and interchange fees increased by $484,000 primarily due to overall company growth and increased volume. Residential mortgage loan activity during the first nine months of 2018 generated $5.2 million of income from the gain on sale of mortgage loans, down $760,000 from the same period in 2017. The decrease in the gain on sale of mortgage loans was due to a decrease in the volume of mortgage loans sold from $163.9 million during the first nine months of 2017 to $146.1 million during the same period of 2018. Total mortgage loan originations, including mortgage loans sold, increased to $281.9 million for the first nine months of 2018 compared to $271.4 million for the same period of 2017.

Non-interest Expense

The following is a summary of changes in non-interest expense (table dollar amounts in thousands):

 

     Three Months Ended         
     September 30      September 30      Amount
Change
     Percent
Change
 
     2018      2017  

Non-interest Expense

           

Salaries

   $ 10,468      $ 9,245      $ 1,223        13.2

Commission and bonuses

     1,391        1,413        (22      -1.6

Employee benefits

     2,484        2,253        231        10.3

Net occupancy expenses

     2,495        2,400        95        4.0

Data processing

     1,759        1,502        257        17.1

Professional fees

     437        649        (212      -32.7

Outside services and consultants

     1,204        2,504        (1,300      -51.9

Loan expense

     1,722        1,215        507        41.7

FDIC deposit insurance

     396        270        126        46.7

Other losses

     161        58        103        177.6

Other expenses

     3,103        3,004        99        3.3
  

 

 

    

 

 

    

 

 

    

Total non-interest expense

   $ 25,620      $ 24,513      $ 1,107        4.5
  

 

 

    

 

 

    

 

 

    

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Total non-interest expense was $1.1 million higher in the third quarter of 2018 compared to the same period of 2017. The increase was primarily due to an increase in salaries and employee benefits of $1.5 million, loan expense of $507,000, data processing of $257,000, FDIC insurance expense of $126,000 and other losses of $103,000. The increase in salaries and employee benefits, data processing and FDIC insurance expense reflect overall company growth and the acquisitions of Lafayette Community Bancorp and Wolverine Bancorp, Inc. during the third and fourth quarters of 2017. Loan expense increased due to a higher level of loan originations and indirect dealer reserve costs expenses when compared to the third quarter of 2017. Other losses increased primarily due to write-downs on other bank owned properties and additional accruals for a potential loss on a fiduciary account recorded during the third quarter of 2018.

The following is a summary of changes in non-interest expense (table dollar amounts in thousands):

 

     Nine Months Ended         
     September 30      September 30      Amount
Change
     Percent
Change
 
     2018      2017  

Non-interest Expense

           

Salaries

   $ 30,585      $ 26,867      $ 3,718        13.8

Commission and bonuses

     4,247        3,863        384        9.9

Employee benefits

     7,693        6,356        1,337        21.0

Net occupancy expenses

     7,981        7,048        933        13.2

Data processing

     5,062        4,311        751        17.4

Professional fees

     1,314        1,797        (483      -26.9

Outside services and consultants

     3,735        4,991        (1,256      -25.2

Loan expense

     4,504        3,572        932        26.1

FDIC deposit insurance

     1,051        776        275        35.4

Other losses

     576        186        390        209.7

Other expenses

     9,651        8,755        896        10.2
  

 

 

    

 

 

    

 

 

    

Total non-interest expense

   $ 76,399      $ 68,522      $ 7,877        11.5
  

 

 

    

 

 

    

 

 

    

Total non-interest expense was $7.9 million higher for the nine months ended September 30, 2018 when compared to the nine months ended September 30, 2017. The increase was primarily due to increases in salaries and employee benefits of $5.4 million, net occupancy expenses of $933,000, loan expense of $932,000, other expense of $896,000, data processing of $751,000 and other losses of $390,000. The increase in salaries and employee benefits, net occupancy expense, other expense and data processing expense reflect overall company growth and recent acquisitions. Loan expense increased due to a higher level of loan originations and indirect dealer reserve costs during the nine months ended September 30, 2018 when compared to the same period of 2017. Offsetting these increases was a decrease of $1.3 million and $483,000 in outside services and consultants expense and professional fees, respectively, primarily due to acquisition-related expenses in 2017.

Income Taxes

Income tax expense totaled $2.6 million for the third quarter of 2018, an increase of $91,000 when compared to the third quarter of 2017. The increase was primarily due to an increase in income before income tax of $5.0 million which was offset by the impact of the new corporate tax rate which was signed into law at the end of 2017 reducing the effective federal tax rate from 35% to 21% and the benefits from the exercising of stock options.

Income tax expense totaled $7.9 million for the nine months ended September 30, 2018, a decrease of $1.2 million when compared to the nine months ended September 30, 2017. The decrease was primarily due to the impact of the new corporate tax rate which was signed into law at the end of 2017 reducing the effective federal tax rate from 35% to 21% and the benefits from the exercising of stock options. This decrease was offset by an increase in income before income taxes of $13.3 million when comparing the first nine months of 2018 to the same period of 2017.

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Liquidity

The Bank maintains a stable base of core deposits provided by long-standing relationships with individuals and local businesses. These deposits are the principal source of liquidity for Horizon. Other sources of liquidity for Horizon include earnings, loan repayment, investment security sales and maturities, proceeds from the sale of residential mortgage loans, unpledged investment securities and borrowing relationships with correspondent banks, including the FHLB. During the nine months ended September 30, 2018, cash and cash equivalents decreased by approximately $6.7 million. At September 30, 2018, in addition to liquidity available from the normal operating, funding, and investing activities of Horizon, the Bank had approximately $405.1 million in unused credit lines with various money center banks, including the FHLB and the FRB Discount Window compared to $127.2 million at December 31, 2017 and $236.3 million at September 30, 2017. The Bank had approximately $600.5 million of unpledged investment securities at September 30, 2018 compared to $518.2 million at December 31, 2017 and $531.2 million at September 30, 2017.

Capital Resources

The capital resources of Horizon and the Bank exceeded regulatory capital ratios for “well capitalized” banks at September 30, 2018. Stockholders’ equity totaled $477.6 million as of September 30, 2018, compared to $457.1 million as of December 31, 2017. For the nine months ended September 30, 2018, the ratio of average stockholders’ equity to average assets was 11.62% compared to 11.15% for the twelve months ended December 31, 2017. The increase in stockholders’ equity during the period was the result of the generation of net income, net of dividends declared.

Horizon declared common stock dividends in the amount of $0.30 per share during the first nine months of 2018 and $0.25 per share for the same period of 2017. The dividend payout ratio (dividends as a percent of basic earnings per share) was 28.8% and 32.4% for the first nine months of 2018 and 2017, respectively. For additional information regarding dividends, see Horizon’s Annual Report on Form 10-K for 2017.

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Use of Non-GAAP Financial Measures

Certain information set forth in this quarterly report on Form 10-Q refers to financial measures determined by methods other than in accordance with GAAP. Specifically, we have included non-GAAP financial measures relating to net income, diluted earnings per share, net interest margin, the allowance for loan and lease losses, tangible stockholders’ equity, tangible book value per share, the return on average assets and the return on average common equity. In each case, we have identified special circumstances that we consider to be non-recurring and have excluded them, to show the impact of such events as acquisition-related purchase accounting adjustments and the tax reform bill, among others we have identified in our reconciliations. Horizon believes that these non-GAAP financial measures are helpful to investors and provide a greater understanding of our business without giving effect to the purchase accounting impacts and one-time costs of acquisitions and non-core items. These measures are not necessarily comparable to similar measures that may be presented by other companies and should not be considered in isolation or as a substitute for the related GAAP measure. See the tables and other information below and contained elsewhere in this Report on Form 10-Q for reconciliations of the non-GAAP figures identified herein and their most comparable GAAP measures.

Non-GAAP Reconciliation of Net Interest Margin

(Dollars in Thousands, Unaudited)

 

     Three Months Ended     Nine Months Ended  
     September 30     June 30     September 30     September 30     September 30  
     2018     2018     2017     2018     2017  

Non-GAAP Reconciliation of Net Interest Margin

          

Net interest income as reported

   $ 33,772     $ 33,550     $ 27,879     $ 100,733     $ 80,645  

Average interest-earning assets

     3,717,139       3,638,801       3,078,611       3,610,277       2,940,659  

Net interest income as a percentage of average interest-earning assets (“Net Interest Margin”)

     3.67     3.78     3.71     3.74     3.77

Acquisition-related purchase accounting adjustments (“PAUs”)

   $ (789   $ (1,634   $ (661   $ (4,460   $ (2,616
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Core net interest income

   $ 32,983     $ 31,916     $ 27,218     $ 96,273     $ 78,029  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Core net interest margin

     3.59     3.60     3.63     3.58     3.65
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Non-GAAP Reconciliation of Net Income and Diluted Earnings per Share

(Dollars in Thousands, Except per Share Data, Unaudited)

 

     Three Months Ended     Nine Months Ended  
     September 30     June 30     September 30     September 30     September 30  
     2018     2018     2017     2018     2017  

Non-GAAP Reconciliation of Net Income

          

Net income as reported

   $ 13,065     $ 14,115     $ 8,171     $ 39,984     $ 25,467  

Merger expenses

     —         —         2,013       —         2,213  

Tax effect

     —         —         (516     —         (586
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income excluding merger expenses

     13,065       14,115       9,668       39,984       27,094  

Loss (gain) on sale of investment securities

     122       —         (6     111       (38

Tax effect

     (25     —         2       (23     13  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income excluding gain on sale of investment securities

     13,162       14,115       9,664       40,072       27,069  

Death benefit on bank owned life insurance (“BOLI”)

     —         (154     —         (154     —    

Tax effect

     —         32       —         32       —    
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income excluding death benefit on BOLI

     13,162       13,993       9,664       39,950       27,069  

Acquisition-related purchase accounting adjustments (“PAUs”)

     (789     (1,634     (661     (4,460     (2,616

Tax effect

     166       343       231       937       916  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Core Net Income

   $ 12,539     $ 12,702     $ 9,234     $ 36,427     $ 25,369  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Non-GAAP Reconciliation of Diluted Earnings per Share

          

Diluted earnings per share (“EPS”) as reported

   $ 0.34     $ 0.37     $ 0.24     $ 1.04     $ 0.75  

Merger expenses

     —         —         0.06       —         0.07  

Tax effect

     —         —         (0.01     —         (0.01
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted EPS excluding merger expenses

     0.34       0.37       0.29       1.04       0.81  

Loss (gain) on sale of investment securities

     —         —         —         —         —    

Tax effect

     —         —         —         —         —    
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted EPS excluding gain on sale of investment securities

     0.34       0.37       0.29       1.04       0.81  

Death benefit on BOLI

     —         —         —         —         —    

Tax effect

     —         —         —         —         —    
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted EPS excluding death benefit on BOLI

     0.34       0.37       0.29       1.04       0.81  

Acquisition-related PAUs

     (0.02     (0.04     (0.02     (0.12     (0.08

Tax effect

     —         —         —         0.02       0.02  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Core Diluted EPS

   $ 0.32     $ 0.33     $ 0.27     $ 0.94     $ 0.75  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Non-GAAP Reconciliation of Tangible Stockholders’ Equity and Tangible Book Value per Share

(Dollars in Thousands Except per Share Data, Unaudited)

 

     September 30      June 30      March 31      December 31      September 30  
     2018      2018      2018      2017      2017  

Total stockholders’ equity

   $ 477,594      $ 470,535      $ 460,416      $ 457,078      $ 392,055  

Less: Intangible assets

     130,755        131,239        131,724        132,282        103,244  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total tangible stockholders’ equity

   $ 346,839      $ 339,296      $ 328,692      $ 324,796      $ 288,811  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Common shares outstanding

     38,367,890        38,362,640        38,332,853        38,294,729        34,988,189  

Tangible book value per common share

   $ 9.04      $ 8.84      $ 8.57      $ 8.48      $ 8.25  

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three and Nine Months ended September 30, 2018 and 2017

 

Non-GAAP Reconciliation of Return on Average Assets and Return on Average Common Equity

(Dollars in Thousands, Unaudited)

 

     Three Months Ended     Nine Months Ended  
     September 30     June 30     September 30     September 30     September 30  
     2018     2018     2017     2018     2017  

Non-GAAP Reconciliation of Return on Average Assets

          

Average assets

   $ 4,105,096     $ 4,017,551     $ 3,383,662     $ 4,021,811     $ 3,247,300  

Return on average assets (“ROAA”) as reported

     1.26     1.41     0.96     1.33     1.05

Merger expenses

     0.00     0.00     0.24     0.00     0.09

Tax effect

     0.00     0.00     -0.06     0.00     -0.03
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ROAA excluding merger expenses

     1.26     1.41     1.14     1.33     1.11

Gain on sale of investment securities

     0.01     0.00     0.00     0.00     0.00

Tax effect

     0.00     0.00     0.00     0.00     0.00
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ROAA excluding gain on sale of investment securities

     1.27     1.41     1.14     1.33     1.11

Death benefit on bank owned life insurance (“BOLI”)

     0.00     -0.02     0.00     -0.01     0.00

Tax effect

     0.00     0.00     0.00     0.00     0.00
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ROAA excluding death benefit on BOLI

     1.27     1.39     1.14     1.32     1.11

Acquisition-related purchase accounting adjustments (“PAUs”)

     -0.08     -0.16     -0.08     -0.15     -0.11

Tax effect

     0.02     0.03     0.03     0.03     0.04
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Core ROAA

     1.21     1.26     1.09     1.20     1.04
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Non-GAAP Reconciliation of Return on Average Common Equity

          

Average Common Equity

   $ 476,959     $ 465,968     $ 363,376     $ 467,867     $ 355,121  

Return on average common equity (“ROACE”) as reported

     10.87     12.15     8.92     11.43     9.59

Merger expenses

     0.00     0.00     2.20     0.00     0.83

Tax effect

     0.00     0.00     -0.56     0.00     -0.22
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ROACE excluding merger expenses

     10.87     12.15     10.56     11.43     10.20

Gain on sale of investment securities

     0.10     0.00     -0.01     0.03     -0.01

Tax effect

     -0.02     0.00     0.00     -0.01     0.00
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ROACE excluding gain on sale of investment securities

     10.95     12.15     10.55     11.45     10.19

Death benefit on bank owned life insurance (“BOLI”)

     0.00     -0.13     0.00     -0.04     0.00

Tax effect

     0.00     0.03     0.00     0.01     0.00
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ROACE excluding death benefit on BOLI

     10.95     12.05     10.55     11.42     10.19

Acquisition-related purchase accounting adjustments (“PAUs”)

     -0.66     -1.41     -0.72     -1.27     -0.98

Tax effect

     0.14     0.30     0.25     0.27     0.34
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Core ROACE

     10.43     10.94     10.08     10.42     9.55
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Quantitative and Qualitative Disclosures About Market Risk

For the Three and Nine Months ended September 30, 2018 and 2017

 

ITEM 3.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We refer you to Horizon’s 2017 Annual Report on Form 10-K for analysis of its interest rate sensitivity. Horizon believes there have been no significant changes in its interest rate sensitivity since it was reported in its 2017 Annual Report on Form 10-K.

 

ITEM 4.

CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Based on an evaluation of disclosure controls and procedures as of September 30, 2018, Horizon’s Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of Horizon’s disclosure controls (as defined in Exchange Act Rule 13a-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”)). Based on such evaluation, such officers have concluded that, as of the evaluation date, Horizon’s disclosure controls and procedures are effective to ensure that the information required to be disclosed by Horizon in the reports it files under the Exchange Act is recorded, processed, summarized and reported within the time specified in Securities and Exchange Commission rules and forms and are designed to ensure that information required to be disclosed in those reports is accumulated and communicated to management as appropriate to allow timely decisions regarding disclosure.

Changes in Internal Control Over Financial Reporting

Horizon’s management, including its Chief Executive Officer and Chief Financial Officer, also have concluded that during the fiscal quarter ended September 30, 2018, there have been no changes in Horizon’s internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, Horizon’s internal control over financial reporting.

 

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Table of Contents

HORIZON BANCORP, INC. AND SUBSIDIARIES

Part II – Other Information

For the Three and Nine Months ended September 30, 2018 and 2017

 

ITEM 1.

LEGAL PROCEEDINGS

Horizon and its subsidiaries are involved in various legal proceedings incidental to the conduct of their business. Management does not expect that the outcome of any such proceedings will have a material adverse effect on our consolidated financial position or results of operations.

 

ITEM 1A.

RISK FACTORS

There have been no material changes from the factors previously disclosed under Item 1A of Horizon’s Annual Report on Form 10-K for 2017.

 

ITEM 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Not Applicable

 

ITEM 3.

DEFAULTS UPON SENIOR SECURITIES

Not Applicable

 

ITEM 4.

MINE SAFETY DISCLOSURES

Not Applicable

 

ITEM 5.

OTHER INFORMATION

Not Applicable

 

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HORIZON BANCORP, INC. AND SUBSIDIARIES

Part II – Other Information

For the Three and Nine Months ended September 30, 2018 and 2017

 

 

ITEM 6.

EXHIBITS

 

  (a)

Exhibits

Exhibit Index

 

Exhibit

No.

   Description    Location  
31.1    Certification of Craig M. Dwight      Attached  
31.2    Certification of Mark E. Secor      Attached  
32    Certification of Chief Executive and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002      Attached  
101    Interactive Data Files      Attached  

 

65


Table of Contents

SIGNATURES

Pursuant to the requirements 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.

HORIZON BANCORP, INC.

 

Dated:   November 9, 2018  

/s/ Craig M. Dwight

    Craig M. Dwight
    Chief Executive Officer
Dated:   November 9, 2018  

/s/ Mark E. Secor

    Mark E. Secor
    Chief Financial Officer

 

66