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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
Commission File Number: 0-24724
HEARTLAND FINANCIAL USA, INC.
(Exact name of Registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
42-1405748
(I.R.S. Employer identification number)
1398 Central Avenue, Dubuque, Iowa) (52001
(Address of principal executive offices Zip Code)
319) 589-2100
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(g) of the Act:
None
(Title of Exchange Class)
None
(Name of Each Exchange on which Registered)
Common Stock $1.00 par value
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the Registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained herein,
and will not be contained, to the best of Registrant's knowledge,
in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this
Form 10-K. (X)
The index to exhibits follows the signature page.
As of March 23, 1998, the Registrant had issued and outstanding
4,728,107 shares of the Registrant's Common Stock. The aggregate
market value of the voting stock held by non-affiliates of the
Registrant as of March 23, 1998, was $83,221,271.* Such figures
include 424,010 shares of the Registrant's Common Stock held in a
fiduciary capacity by the Trust Department of the Dubuque Bank &
Trust Company, a wholly-owned subsidiary of the Registrant.
*Based on the last reported price of an actual transaction in
Registrant's Common Stock on March 17, 1998, and reports of
beneficial ownership filed by directors and executive officers of
Registrant and by beneficial owners of more than 5% of the
outstanding shares of Common Stock of Registrant; however, such
determination of shares owned by affiliates does not constitute
an admission of affiliate status or beneficial interest in shares
of Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the 1998 Annual Meeting of
Stockholders are incorporated by reference into Part III.
HEARTLAND FINANCIAL USA, INC.
Form 10-K Annual Report
Table of Contents
Part I
Item 1. Business
A. General Description
B. Recent Developments
C. Market Areas
D. Competition
E. Employees
F. Accounting Standards
G. Supervision and Regulation
H. Governmental Monetary Policy and Economic Conditions
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of
Security Holders
Part II
Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters
Item 6. Selected Financial Data
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations
Item 8. Financial Statements and Supplementary Data
Item 9 Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure
Part III
Item 10. Directors and Executive Officers of the
Registrant
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners
and Management
Item 13. Certain Relationships and Related Transactions
Part IV
Item 14. Exhibits, Financial Statement Schedules and
Reports on Form 8-K
PART I.
ITEM 1.
BUSINESS
A. GENERAL DESCRIPTION
Heartland Financial USA, Inc. ("Heartland"), reincorporated in
the state of Delaware in 1993, is a multi-bank holding company
registered under the Bank Holding Company Act of 1956, as amended
("BHCA"). Heartland has four wholly-owned bank subsidiaries which
are located in Dubuque, Iowa, Cottage Grove, Wisconsin and Galena
and Rockford, Illinois and one wholly-owned federal savings bank
subsidiary which is located in Keokuk, Iowa (collectively, the
"Bank Subsidiaries"). All five Bank Subsidiaries are members of
the Federal Deposit Insurance Corporation ("FDIC"). Dubuque Bank
and Trust Company ("DB&T") is chartered under the laws of the
State of Iowa and has two wholly-owned subsidiaries: DB&T
Insurance, Inc. ("DB&T Insurance"), a multi-line insurance agency
and DB&T Community Development Corp. ("DB&T Development"),
majority owner of a senior housing project. Galena State Bank
and Trust Company, Galena, Illinois, ("GSB") and Riverside
Community Bank, Rockford,Illinois, ("RCB") are chartered under
the laws of the State of Illinois. First Community Bank, FSB
("FCB") is organized under the laws of the United States. FCB has
one wholly-owned subsidiary, KFS Services, Inc. Wisconsin
Community Bank, previously Cottage Grove State Bank, ("WCB") is
chartered under the laws of the State of Wisconsin and has one
subsidiary, DBT Investment Corporation ("DBT Investment"), an
investment management company. The Bank Subsidiaries operate 17
banking locations in Iowa, Illinois and Wisconsin. Heartland has
three wholly-owned non-bank subsidiaries. Citizens Finance Co.
("Citizens") is a consumer finance company. ULTEA, Inc. ("Ultea")
is a fleet leasing company headquartered in Madison, Wisconsin.
Keokuk Bancshares, Inc. ("Keokuk") is an investment management
company. During the fourth quarter of 1997, Heartland entered
into an agreement with a group of New Mexico business leaders to
establish a new bank in Albuquerque, New Mexico. Pending
regulatory approval, the new bank will begin operations in the
second quarter of 1998 and will be organized under the laws of
the state of New Mexico. Heartland will own 80% of the proposed
organization.
The Bank Subsidiaries provide full service retail banking within
Dubuque and Lee Counties in Iowa, within Jo Daviess, Hancock and
Winnebago Counties in Illinois and within Dane County in
Wisconsin. Deposit products include checking and other demand
deposit accounts, NOW accounts, savings accounts, money market
accounts, certificates of deposit, individual retirement accounts
and other time deposits. The deposits in the Bank Subsidiaries
are insured by the FDIC to the full extent permitted by law.
Loans include commercial and industrial, agricultural, real
estate mortgage, consumer, home equity, credit cards and lines of
credit. Other products and services include VISA debit cards,
automatic teller machines, safe deposit boxes and trust services.
The principal service of the Bank Subsidiaries consists of making
loans to businesses and individuals. These loans are made at the
offices of the Bank Subsidiaries. The Bank Subsidiaries also
engage in activities that are closely related to banking,
including investment brokerage.
Although each of the subsidiaries of Heartland operates under the
direction of its own Board of Directors, Heartland has standard
operating policies regarding asset/liability management,
liquidity management, investment management, lending policies and
deposit structure management. Heartland has historically
centralized certain operations where economies of scale can be
achieved.
Operating Strategy
Corporate policy, strategy and goals are established by the Board
of Directors of Heartland (the "Heartland Board"). Pursuant to
Heartland's philosophy, operational and administrative policies
for the Bank Subsidiaries are also established by the Heartland
Board. Within this framework, each of the Bank Subsidiaries
focuses on providing personalized services and quality products
to its customers to meet the needs of the communities which it
serves.
Heartland operates its banking subsidiaries as traditional
community banks with conveniently located facilities and
professional, highly motivated staffs which are active in the
communities in which they are located. Heartland focuses on long-
term relationships with customers and provides individualized
quality service. In addition, within credit and rate of return
parameters, Heartland attempts to ensure that each of the Bank
Subsidiaries meets the credit needs of its communities and
invests in local municipal obligations.
Heartland uses a variety of marketing strategies to attract and
retain customers, with a particular emphasis on a strong sales
culture within the Bank Subsidiaries and an outside officer
calling program. Many of Heartland's sales employees work on a
salary plus commission basis, thus providing them with a strong
incentive to aggressively market Heartland's financial products.
Officers of each of the Bank Subsidiaries also regularly call on
customers and potential customers of the institutions to maintain
and develop deposit and other special service relationships,
including cash management, employee benefit plan administration,
and trust services.
Heartland has an internal data processing division and has
attempted to remain at the forefront of the banking industry in
new technological innovations. Heartland believes that retaining
control of its data processing leads to decreased operating costs
and more effective service to its customers. Accordingly, during
1997, all Bank Subsidiaries converted to the Fiserv Comprehensive
Banking System program, a national leader in bank software
technology. To provide a high level of customer service and to
manage effectively its growth, acquisition and operating
strategies, Heartland also focuses on continued improvement of
the internal operating systems of the Bank Subsidiaries.
Acquisition and Expansion Strategy
Heartland seeks to diversify both its market area and asset base
while increasing profitability through acquisitions and
expansion. Heartland's goal is to expand through the acquisition
of established financial service organizations, primarily
commercial banks or thrifts, to the extent suitable candidates
can be identified and acceptable business terms negotiated.
Heartland's acquisition strategy is focused on traditional
community banks and thrifts located in stable and growing areas
of Iowa, Wisconsin, Minnesota and Illinois. Heartland intends to
look beyond these geographic areas for acquisition opportunities
as evidenced by the proposed de novo bank in Albuquerque, New
Mexico. In addition to price and terms, other factors considered
by Heartland in determining the desirability of an acquisition
candidate include financial condition, earnings potential,
quality of management, market area and competitive environment.
The Heartland Board may in the future consider establishing
branches, loan production offices or other business facilities as
a means of expanding its presence in current or new market areas.
The Heartland Board may also investigate expansion into other
lines of business closely related to banking if it believes these
lines could be profitable without undue risk to Heartland and if
Heartland can be competitive. Heartland does not currently have
any definitive understandings or agreements for any acquisitions
material to Heartland. However, Heartland will continue to look
for further expansion opportunities.
Lending Activities
General
The Bank Subsidiaries provide a range of commercial and retail
lending services to corporations, partnerships and individuals.
These credit activities include agricultural, commercial,
residential real estate and installment loans, as well as loan
participations and lines of credit.
The Bank Subsidiaries aggressively market their services to
qualified lending customers. Lending officers actively solicit
the business of new companies entering their market areas as well
as long-standing members of the Bank Subsidiaries' respective
business communities. Through professional service and
competitive pricing, the Bank Subsidiaries have been successful
in attracting new lending customers. Heartland also actively
pursues consumer lending opportunities. With convenient
locations, advertising and customer communications, the Bank
Subsidiaries have been successful in capitalizing on the credit
needs of their market areas.
Commercial Loans
The Bank Subsidiaries have a strong commercial loan base and
DB&T, in particular, continues to be a premier commercial lender
in the tri-state area of northeast Iowa, northwest Illinois and
southwest Wisconsin. The Bank Subsidiaries' areas of emphasis
include, but are not limited to, loans to wholesalers, hotel and
real estate developers, manufacturers, building contractors,
business services companies and retailers. The Bank Subsidiaries
provide a wide range of business loans, including lines of credit
for working capital and operational purposes and term loans for
the acquisition of equipment and real estate. Loans may be made
on an unsecured basis where warranted by the overall financial
condition of the borrower. Terms of commercial business loans
generally range from one to five years. The majority of the Bank
Subsidiaries' commercial business loans have floating interest
rates or reprice within one year.
DB&T has also generated loans which are guaranteed by the U.S.
Small Business Administration and has been certified as one of
that agency's Preferred Lenders. Management believes that making
these guaranteed loans helps its local communities as well as
provides Heartland with a source of income and solid future
lending relationships as such businesses grow and prosper. DB&T
is also currently one of the state of Iowa's top lenders in the
"Linked Investment for Tomorrow" program. This state-sponsored
program offers interest rate reductions to businesses opened by
minorities and those in rural areas.
The primary repayment risk for commercial loans is the failure of
the business due to economic or financial factors. In most cases,
the Bank Subsidiaries have collateralized these loans and/or
taken personal guarantees to help assure repayment.
As the credit portfolios of the Bank Subsidiaries have continued
to grow, several changes have been made in their lending
departments resulting in an overall increase in these
departments' skill levels. Loan review personnel and commercial
lenders interact with their respective Boards of Directors each
month. Heartland also utilizes an internal loan review function
to analyze credits of the Bank Subsidiaries. Management has
attempted to identify problem loans at an early date and to
aggressively seek a resolution of these situations. The result
has been a significantly below average level of problem loans
compared to the Heartland Banks' industry peer groups in recent
years.
Agricultural Loans
DB&T is one of the largest agricultural lenders in the state of
Iowa. Agricultural loans continue to be emphasized by both DB&T
and GSB due to their concentration of customers in rural markets.
Agricultural loans remain balanced, however, in proportion to the
rest of Heartland's consolidated loan portfolio. In connection
with their agricultural lending, all of the Bank Subsidiaries
have remained close to their traditional geographic market areas.
The majority of the outstanding agricultural operating and real
estate loans are within 60 miles of their main or branch offices.
Agricultural loans, many of which are secured by crops, machinery
and real estate, are provided to finance capital improvements and
farm operations as well as acquisitions of livestock and
machinery. The agricultural loan departments work closely with
all agricultural customers, including companies and individual
farmers, and review the preparation of budgets and cash flow
projections for the ensuing crop year. These budgets and cash
flow projections are monitored closely during the year and
reviewed with agricultural customers at least once a year. In
addition, the Bank Subsidiaries work closely with governmental
agencies, including the Farmers Home Administration, to assist
agricultural customers in obtaining credit enhancement products
such as loan guarantees.
Real Estate Mortgage Loans
Mortgage lending has been a focal point of the Bank Subsidiaries
as each of them continues to build real estate lending business.
A stable rate environment along with expanded production
capabilities at RCB combined to increase the number of loan
originations as compared to prior years. The majority of home
loans generated by the Bank Subsidiaries were sold to government
agencies in the secondary mortgage market with servicing rights
retained. Management believes that the retention of mortgage
servicing provides the Bank Subsidiaries with a relatively steady
source of fee income as compared to fees generated solely from
mortgage origination operations. Moreover, the retention of such
servicing rights allows each of the Bank Subsidiaries to continue
to have regular contact with mortgage customers.
Consumer Lending
The Bank Subsidiaries' consumer lending departments provide all
types of consumer loans including motor vehicle, home
improvement, home equity, student loans, credit cards, signature
loans and small personal credit lines.
Consumer loan demand is also serviced through Citizens which
currently serves the consumer credit needs of over 2,200
customers in the three state area of Iowa, Illinois and Wisconsin
from its Dubuque, Iowa, and Madison, Wisconsin, offices.
Trust Departments
The trust departments for DB&T, GSB and FCB have been providing
trust services to their respective communities for many years.
Trust personnel from DB&T also work with RCB and WCB personnel to
provide trust services to all bank subsidiaries. Currently, the
Bank Subsidiaries have over $434 million of consolidated assets
under management and provide a full complement of trust and
investment services for individuals and corporations.
The trust department of DB&T is nationally recognized as a
leading provider of socially responsible investment services and
manages investment portfolios for religious and other non-profit
organizations located throughout the United States. The Bank
Subsidiaries' trust departments are also active in the management
of employee benefit and retirement plans in their market areas.
The Bank Subsidiaries have targeted their trust departments as
primary areas for future growth.
Brokerage and Other Services
DB&T contracts with a third-party vendor, Focused Investments
LLC, an affiliate of Wayne Hummer & Co., to operate independent
securities offices within DB&T's main office, Grandview and
Kennedy Mall branch offices and GSB's main office. DB&T's Farley
office also schedules regular hours for a broker to be available
to meet with customers. Focused Investments LLC offers full-
service stock and bond trading, direct investments, annuities and
mutual funds.
DB&T Insurance has continued to grow its personal and commercial
insurance lines and the number of independent insurance companies
it represents. DB&T Insurance is a multi-line insurance agency in
the Dubuque area and offers a complete array of vehicle, property
and casualty, life and disability insurance, as well as
commercial lines and tax-free annuities.
B. MARKET AREAS
DB&T is located in the Dubuque County area of Iowa which
encompasses the city of Dubuque and a number of surrounding rural
communities. The city of Dubuque is located in northeastern Iowa,
on the Mississippi River, approximately 175 miles west of
Chicago, Illinois, and approximately 200 miles northeast of Des
Moines, Iowa. It is strategically situated at the intersection of
the state borders of Iowa, Illinois and Wisconsin. Based upon the
results of the 1990 census, the city of Dubuque had a total
population of approximately 61,000.
In addition to its main banking office, DB&T has seven branch
offices, all of which are located in the Dubuque County area. As
a subsidiary of DB&T, DB&T Insurance has substantially the same
market area as the parent organization. Citizens also operates
within this market area, and, in addition, an office was opened
in Madison, Wisconsin, during June, 1996.
GSB is located in Galena, Illinois, which is less than five miles
from the Mississippi River, approximately 20 miles east of
Dubuque and 155 miles west of Chicago. GSB also has an office in
Stockton, Illinois, and as such, services customers in Jo Daviess
County, Illinois. Based on the 1990 census, the county had a
population of approximately 22,000 people.
FCB's main office is in Keokuk, Iowa, which is located in the
southeast corner of Iowa near the borders of Iowa, Missouri and
Illinois. Due to its location, FCB serves customers in the tri-
county region of Lee County, Iowa, Hancock County, Illinois and
Clark County, Missouri. Lee, Hancock and Clark Counties have
populations of approximately 43,100, 23,900 and 8,500,
respectively. FCB has one branch office in Keokuk and another
branch in the city of Carthage in Hancock County, Illinois.
Keokuk is an industrial community with a population of
approximately 13,500.
RCB is located on the northeast edge of Rockford, Illinois, which
is approximately 75 miles west of Chicago in Winnebago County.
Based on the 1990 census, the county had a population of 284,000
and the city of Rockford had a population of 140,000.
WCB operates one office from its location in Cottage Grove,
Wisconsin, which is approximately 10 miles east of Madison in
Dane County. A branch office was opened in Middleton, a suburb of
Madison, in February, 1998. The county had a population of
390,000 and the village of Cottage Grove had a population of
1,100 according to the 1990 census.
C. COMPETITION
Heartland encounters competition in all areas of its business
pursuits. In order to compete effectively, to develop its market
base, to maintain flexibility and to move in pace with changing
economic and social conditions, Heartland continuously refines
and develops its products and services. The principal methods of
competition in the financial services industry are price, service
and convenience.
The Bank Subsidiaries' combined market area is highly
competitive. Many financial institutions based in the communities
surrounding Dubuque, Galena, Rockford, Cottage Grove and Keokuk
actively compete for customers within Heartland's market area.
The Bank Subsidiaries also face competition from finance
companies, insurance companies, mortgage companies, securities
brokerage firms, money market funds, loan production offices and
other providers of financial services.
Heartland competes for loans principally through the range and
quality of the services it provides, interest rates and loan
fees. Heartland believes that its long-standing presence in the
community and personal service philosophy enhance its ability to
compete favorably in attracting and retaining individual and
business customers. Heartland actively solicits deposit-oriented
clients and competes for deposits by offering customers personal
attention, professional service and competitive interest rates.
D. EMPLOYEES
At December 31, 1997, Heartland employed 338 full-time equivalent
employees. Heartland places a high priority on staff development
which involves extensive training, including customer service
training. New employees are selected on the basis of both
technical skills and customer service capabilities. None of
Heartland's employees are covered by a collective bargaining
agreement with Heartland. Heartland offers a variety of employee
benefits and management considers its employee relations to be
excellent.
E. ACCOUNTING STANDARDS
Statement of Financial Accounting Standards ("SFAS")- SFAS No.
125 "Accounting for Transfers and Servicing of Financial Assets
and Extinguishments of Liabilities" ("SFAS No. 125") was
effective for Heartland for transactions occurring after December
31, 1996, and provided standards for accounting recognition or
derecognition of assets and liabilities. The adoption of SFAS
No. 125 did not have a material effect on Heartland.
SFAS No. 130 "Reporting Comprehensive Income" will be effective
for Heartland for the year beginning January 1, 1998 and
establishes the standards for the reporting and display of
comprehensive income in the financial statements. Comprehensive
income represents net earnings and certain amounts reported
directly in stockholders' equity, such as the net unrealized gain
or loss on available-for-sale securities.
F. SUPERVISION AND REGULATION
General
Financial institutions and their holding companies are
extensively regulated under federal and state law. As a result,
the growth and earnings performance of Heartland can be affected
not only by management decisions and general economic conditions,
but also by the requirements of applicable state and federal
statutes and regulations and the policies of various governmental
regulatory authorities including, but not limited to, the Board
of Governors of the Federal Reserve System (the "FRB"), the FDIC,
the OTS, the Iowa Superintendent of Banking (the
"Superintendent"), the Illinois Commissioner of Banks and Real
Estate (the "Commissioner"), the Wisconsin Division of Banking
(the "Division"), the Internal Revenue Service and state taxing
authorities and the Securities and Exchange Commission (the
"SEC"). The effect of such statutes, regulations and policies can
be significant, and cannot be predicted with a high degree of
certainty.
Federal and state laws and regulations generally applicable to
financial institutions, such as Heartland and its subsidiaries,
regulate, among other things, the scope of business, investments,
reserves against deposits, capital levels relative to operations,
the nature and amount of collateral for loans, the establishment
of branches, mergers, consolidations and dividends. The system of
supervision and regulation applicable to Heartland and its
subsidiaries establishes a comprehensive framework for their
respective operations and is intended primarily for the
protection of the FDIC's deposit insurance funds and the
depositors, rather than the shareholders, of financial
institutions.
The following references to material statutes and regulations
affecting Heartland and its subsidiaries are brief summaries
thereof and do not purport to be complete, and are qualified in
their entirety by reference to such statutes and regulations.
Any change in applicable law or regulations may have a material
effect on the business of Heartland and its subsidiaries.
Recent Regulatory Developments
Pending Legislation
Legislation is pending in the Congress that would allow bank
holding companies to engage in a wider range of nonbanking
activities, including greater authority to engage in securities
and insurance activities. The expanded powers generally would be
available to a bank holding company only if the bank holding
company and its bank subsidiaries remain well-capitalized and
well-managed. Additionally, the pending legislation would
eliminate the federal thrift charter by requiring each federal
thrift to convert to a national bank or to a state bank or state
thrift. Under the pending legislation, any federal thrift that
failed to convert to a national or state bank within two years
following enactment of the legislation would, by operation of
law, become a national bank as of the second anniversary of
enactment of the legislation. The pending legislation would
combine the OTS with the Office of the Comptroller of the
Currency by the second anniversary of the enactment of the
legislation, and would merge the Bank Insurance Fund (the "BIF")
and the Savings Association Insurance Fund (the "SAIF") as of the
earlier of January 1, 2000 or the second anniversary of enactment
of the legislation. At this time, Heartland is unable to predict
whether the proposed legislation will be enacted and, therefore,
is unable to predict the impact such legislation may have on the
operations of Heartland and the Bank Subsidiaries.
Heartland
General
Heartland, as the sole shareholder of DB&T, GSB, RCB and WCB, is
a bank holding company. As a bank holding company, Heartland is
registered with, and is subject to regulation by, the FRB under
the BHCA. In accordance with FRB policy, Heartland is expected
to act as a source of financial strength to the Bank Subsidiaries
and to commit resources to support the Bank Subsidiaries in
circumstances where Heartland might not do so absent such policy.
Under the BHCA, Heartland is subject to periodic examination by
the FRB and is required to file with the FRB periodic reports of
its operations and such additional information as the FRB may
require.
Heartland's ownership of FCB makes Heartland a savings and loan
holding company as defined in the HOLA. Although savings and
loan holding companies generally are subject to supervision and
regulation by the OTS, companies that, like Heartland, are both
bank holding companies and savings and loan holding companies are
exempt from OTS supervision, although federal law requires the
FRB to consult with the OTS, as appropriate, in establishing the
scope of an FRB examination of any such company, to provide the
OTS, upon request, with copies of FRB examination reports and
other supervisory information concerning any such company and to
cooperate with the OTS in any enforcement action against any such
holding company if the conduct at issue involves the company's
savings association subsidiary.
Investments and Activities
Under the BHCA, a bank holding company must obtain FRB approval
before: (i) acquiring, directly or indirectly, ownership or
control of any voting shares of another bank or bank holding
company if, after such acquisition, it would own or control more
than 5% of such shares (unless it already owns or controls the
majority of such shares); (ii) acquiring all or substantially all
of the assets of another bank; or (iii) merging or consolidating
with another bank holding company. Subject to certain conditions
(including certain deposit concentration limits established by
the BHCA), the FRB may allow a bank holding company to acquire
banks located in any state of the United States without regard to
whether the acquisition is prohibited by the law of the state in
which the target bank is located. In approving interstate
acquisitions, however, the FRB is required to give effect to
applicable state law limitations on the aggregate amount of
deposits that may be held by the acquiring bank holding company
and its insured depository institution affiliates in the state in
which the target bank is located (provided that those limits do
not discriminate against out-of-state depository institutions or
their holding companies) or which require that the target bank
have been in existence for a minimum period of time (not to
exceed five years) before being acquired by an out-of-state bank
holding company.
The BHCA also prohibits, with certain exceptions, Heartland from
acquiring direct or indirect ownership or control of more than 5%
of the voting shares of any company which is not a bank and from
engaging in any business other than that of banking, managing and
controlling banks or furnishing services to banks and their
subsidiaries. The principal exception to this prohibition allows
bank holding companies to engage in, and to own shares of
companies engaged in, certain businesses found by the FRB to be
"so closely related to banking ... as to be a proper incident
thereto." Under current regulations of the FRB, Heartland and
its non-bank subsidiaries are permitted to engage in, among other
activities, such banking-related businesses as the operation of a
thrift, sales and consumer finance, equipment leasing, a computer
service bureau, including software development, and mortgage
banking and brokerage. The BHCA generally does not place
territorial restrictions on the domestic activities of non-bank
subsidiaries of bank holding companies.
Federal law also prohibits acquisition of "control" of federally-
insured depository institutions, such as the Bank Subsidiaries,
or bank holding companies, such as Heartland, without prior
notice to certain federal bank regulators. "Control" is defined
in certain cases as acquisition of 10% of the outstanding shares
of a depository institution or bank holding company.
Capital Requirements
Bank holding companies are required to maintain minimum levels of
capital in accordance with FRB capital adequacy guidelines. If
capital falls below minimum guideline levels, a bank holding
company, among other things, may be denied approval to acquire or
establish additional banks or non-bank businesses.
The FRB's capital guidelines establish the following minimum
regulatory capital requirements for bank holding companies: a
risk-based requirement expressed as a percentage of total
risk-weighted assets and a leverage requirement expressed as a
percentage of total assets. The risk-based requirement consists
of a minimum ratio of total capital to total risk-weighted assets
of 8%, at least one-half of which must be Tier 1 capital. The
leverage requirement consists of a minimum ratio of Tier 1
capital to total assets of 3% for the most highly-rated
companies, with minimum requirements of 4% to 5% for all others.
For purposes of these capital standards, Tier 1 capital consists
primarily of permanent stockholders' equity less intangible
assets (other than certain mortgage servicing rights and
purchased credit card relationships) and total capital means Tier
1 capital plus certain other debt and equity instruments which do
not qualify as Tier 1 capital and a portion of the allowance for
loan and lease losses.
The risk-based and leverage standards described above are minimum
requirements, and higher capital levels will be required if
warranted by the particular circumstances or risk profiles of
individual banking organizations. For example, the FRB's capital
guidelines contemplate that additional capital may be required to
take adequate account of, among other things, interest rate risk,
or the risks posed by concentrations of credit, nontraditional
activities or securities trading activities. Further, any
banking organization experiencing or anticipating significant
growth would be expected to maintain capital ratios, including
tangible capital positions (i.e., Tier 1 capital less all
intangible assets), well above the minimum levels.
As of December 31, 1997, Heartland had regulatory capital in
excess of the FRB's minimum requirements, with a risk-based
capital ratio of 12.71% and a leverage ratio of 8.76%.
Dividends
The FRB has issued a policy statement with regard to the payment
of cash dividends by bank holding companies. In the policy
statement, the FRB expressed its view that a bank holding company
should not pay cash dividends which exceed its net income or
which can only be funded in ways that weaken the bank holding
company's financial health, such as by borrowing. Additionally,
the FRB possesses enforcement powers over bank holding companies
and their non-bank subsidiaries to prevent or remedy actions that
represent unsafe or unsound practices or violations of applicable
statutes and regulations. Among these powers is the ability to
proscribe the payment of dividends by banks and bank holding
companies. In addition to the restrictions on dividends that may
be imposed by the FRB, the Delaware General Corporation Law (the
"DGCL") allows Heartland to pay dividends only out of its surplus
(as defined and computed in accordance with the provisions of the
DGCL), or if Heartland has no such surplus, out of its net
profits for the fiscal year in which the dividend is declared
and/or the preceding fiscal year.
Federal Securities Regulation
Heartland's common stock is registered with the SEC under the
Securities Act of 1933, as amended, and the Securities Exchange
Act of 1934, as amended (the "Exchange Act"). Consequently,
Heartland is subject to the information, proxy solicitation,
insider trading and other restrictions and requirements of the
SEC under the Exchange Act.
The Bank Subsidiaries
General
DB&T is an Iowa-chartered bank, the accounts of which are insured
by the BIF of the FDIC. As a BIF-insured, Iowa-chartered bank,
DB&T is subject to the examination, supervision, reporting and
enforcement requirements of the Superintendent, as the chartering
authority for Iowa banks, and the FDIC, as administrator of the
BIF.
GSB and RCB are Illinois-chartered banks, the deposit accounts of
which are insured by the BIF of the FDIC. As BIF-insured,
Illinois-chartered banks, GSB and RCB are subject to the
examination, supervision, reporting and enforcement requirements
of the Commissioner, as the chartering authority for Illinois
banks, and the FDIC, as administrator of the BIF.
WCB is a Wisconsin-chartered bank, the deposit accounts of which
are insured by the BIF of the FDIC. As a BIF-insured, Wisconsin-
chartered bank, WCB is subject to the examination, supervision,
reporting and enforcement requirements of the Division, as the
chartering authority for Wisconsin banks, and the FDIC, as
administrator of the BIF.
FCB is a federally chartered savings association, the deposits of
which are insured by the SAIF of the FDIC. As a SAIF-insured,
federally chartered savings association, FCB is subject to the
examination, supervision, reporting and enforcement requirements
of the OTS, as the chartering authority for federal savings
associations, and the FDIC as administrator of the SAIF.
Deposit Insurance
As FDIC-insured institutions, the Bank Subsidiaries are required
to pay deposit insurance premium assessments to the FDIC. The
FDIC has adopted a risk-based assessment system under which all
insured depository institutions are placed into one of nine
categories and assessed insurance premiums based upon their
respective levels of capital and results of supervisory
evaluations. Institutions classified as well-capitalized (as
defined by the FDIC) and considered healthy pay the lowest
premium while institutions that are less than adequately
capitalized (as defined by the FDIC) and considered of
substantial supervisory concern pay the highest premium. Risk
classification of all insured institutions is made by the FDIC
for each semi-annual assessment period.
During the year ended December 31, 1997, FDIC deposit insurance
assessments for both BIF and SAIF members ranged from 0% of
deposits to 0.27% of deposits. For the semi-annual assessment
period beginning January 1, 1998, assessment rates for both BIF
and SAIF members will continue to range from 0% of deposits to
0.27% of deposits.
The FDIC may terminate the deposit insurance of any insured
depository institution if the FDIC determines, after a hearing,
that the institution has engaged or is engaging in unsafe or
unsound practices, is in an unsafe or unsound condition to
continue operations or has violated any applicable law,
regulation, order, or any condition imposed in writing by, or
written agreement with, the FDIC. The FDIC may also suspend
deposit insurance temporarily during the hearing process for a
permanent termination of insurance if the institution has no
tangible capital. Management of Heartland is not aware of any
activity or condition that could result in termination of the
deposit insurance of any of the Bank Subsidiaries.
FICO Assessments
Since 1987, a portion of the deposit insurance assessments paid
by SAIF members has been used to cover interest payments due on
the outstanding obligations of the FICO, the entity created to
finance the recapitalization of the Federal Savings and Loan
Insurance Corporation, the SAIF's predecessor insurance fund.
Pursuant to federal legislation enacted September 30, 1996,
commencing January 1, 1997, both SAIF members and BIF members
became subject to assessments to cover the interest payments on
outstanding FICO obligations. Such FICO assessments are in
addition to amounts assessed by the FDIC for deposit insurance.
Until January 1, 2000, the FICO assessments made against BIF
members may not exceed 20% of the amount of the FICO assessments
made against SAIF members. Between January 1, 2000 and the
maturity of the outstanding FICO obligations in 2019, BIF members
and SAIF members will share the cost of the interest on the FICO
bonds on a pro rata basis. During the year ended December 31,
1997, the FICO assessment rate for SAIF members was approximately
0.063% of deposits while the FICO assessment rate for BIF members
was approximately 0.013% of deposits. During the year ended
December 31, 1997, the Bank Subsidiaries paid FICO assessments
totaling $116,000.
Supervisory Assessments
All Iowa banks, Illinois banks, Wisconsin banks, and Federal
savings associations are required to pay supervisory fees to the
Superintendent, the Commissioner, the Division, and the OTS,
respectively, to fund the operations of such agencies. The
amount of such supervisory fees is based upon each institution's
total assets. During the year ended December 31, 1997, the Bank
Subsidiaries paid supervisory assessments totaling $61,000.
Capital Requirements
The FDIC has established the following minimum capital standards
for state-chartered insured non-member banks, such as DB&T, GSB,
RCB and WCB: a leverage requirement consisting of a minimum
ratio of Tier 1 capital to total assets of 3% for the most highly-
rated banks with minimum requirements of 4% to 5% for all others,
and a risk-based capital requirement consisting of a minimum
ratio of total capital to total risk-weighted assets of 8%, at
least one-half of which must be Tier 1 capital. For purposes of
these capital standards, Tier 1 capital and total capital consist
of substantially the same components as Tier 1 capital and total
capital under the FRB's capital guidelines for bank holding
companies (see "--Heartland--Capital Requirements").
Pursuant to the HOLA and OTS regulations, savings associations,
such as FCB, are subject to the following minimum capital
requirements: a core capital requirement, consisting of a
minimum ratio of core capital to total assets of 3%; a tangible
capital requirement consisting of a minimum ratio of tangible
capital to total assets of 1.5%; and a risk-based capital
requirement, consisting of a minimum ratio of total capital to
total risk-weighted assets of 8%, at least one-half of which must
consist of core capital. For purposes of these capital
standards, core capital consists primarily of permanent
stockholders' equity less intangible assets other than certain
supervisory goodwill, certain mortgage servicing rights and
certain purchased credit card relationships and less investments
in subsidiaries engaged in activities not permitted for national
banks; tangible capital is substantially the same as core capital
except that all intangible assets other than certain mortgage
servicing rights must be deducted; and total capital means core
capital plus certain debt and equity instruments that do not
qualify as core capital and a portion of the allowances for loan
and lease losses.
The capital requirements described above are minimum
requirements. Higher capital levels will be required if warranted
by the particular circumstances or risk profiles of individual
institutions. For example, the regulations of the FDIC and the
OTS provide that additional capital may be required to take
adequate account of, among other things, interest rate risk or
the risks posed by concentrations of credit or nontraditional
activities.
During the year ended December 31, 1997, none of the Bank
Subsidiaries was required by its primary federal regulator to
increase its capital to an amount in excess of the minimum
regulatory requirements. As of December 31, 1997, each of the
Bank Subsidiaries exceeded its minimum regulatory capital
requirements, as follows:
Total Risk-Based Leverage Tangible
Capital Ratio Capital Ratio Capital Ratio
DB&T 10.92% 7.81% N/A
GSB 13.09 7.06 N/A
RCB 12.04 7.79 N/A
WCB 18.32 11.11 N/A
FCB 11.05 7.53 7.69%
The OTS has proposed to amend its regulations to establish a
minimum core capital requirement of 3% of total assets for any
savings association assigned a composite rating of 1 under the
Uniform Financial Institutions Rating System ("UFIRS") as of the
association's most recent OTS examination, with a minimum core
capital requirement of 4% of total assets for all other savings
associations. It is not anticipated that the adoption of this
proposal would affect FCB's ability to comply with the OTS
capital requirements.
Federal law provides the federal banking regulators with broad
power to take prompt corrective action to resolve the problems of
undercapitalized institutions. The extent of the regulators'
powers depends on whether the institution in question is "well
capitalized," "adequately capitalized," "undercapitalized,"
"significantly undercapitalized" or "critically
undercapitalized." Depending upon the capital category to which
an institution is assigned, the regulators' corrective powers
include: requiring the submission of a capital restoration plan;
placing limits on asset growth and restrictions on activities;
requiring the institution to issue additional capital stock
(including additional voting stock) or to be acquired;
restricting transactions with affiliates; restricting the
interest rate the institution may pay on deposits; ordering a new
election of directors of the institution; requiring that senior
executive officers or directors be dismissed; prohibiting the
institution from accepting deposits from correspondent banks;
requiring the institution to divest certain subsidiaries;
prohibiting the payment of principal or interest on subordinated
debt; and, ultimately, appointing a receiver for the institution.
Additionally, institutions insured by the FDIC may be liable for
any loss incurred by, or reasonably expected to be incurred by,
the FDIC in connection with the default of commonly controlled
FDIC insured depository institutions or any assistance provided
by the FDIC to commonly controlled FDIC-insured depository
institutions in danger of default.
Dividends
Iowa law provides that an Iowa-chartered bank, such as DB&T, may
not pay dividends in an amount greater than its undivided
profits. Under the laws of Illinois and Wisconsin, Illinois-
chartered banks, such as GSB and RCB, and Wisconsin-chartered
banks, such as WCB, respectively, are subject to a substantially
similar limitation on dividends.
OTS regulations impose limitations upon all capital distributions
by savings associations, including cash dividends. The rule
establishes three tiers of institutions. An institution that
exceeds all fully phased-in capital requirements before and after
the proposed capital distribution (a "Tier 1 Institution") can,
after prior notice to, but without the approval of, the OTS, make
capital distributions during a calendar year in an aggregate
amount of up to the higher of (i) 100% of its net income to date
during the calendar year plus the amount that would reduce by
one-half its "surplus capital ratio" (i.e., the excess capital
over its fully phased-in capital requirements) at the beginning
of the calendar year, or (ii) 75% of its net income over the most
recent preceding four quarter period. Any additional capital
distributions would require prior OTS approval. As of December
31, 1997, FCB was a Tier 1 Institution.
The payment of dividends by any financial institution or its
holding company is affected by the requirement to maintain
adequate capital pursuant to applicable capital adequacy
guidelines and regulations, and a financial institution generally
is prohibited from paying any dividends if, following payment
thereof, the institution would be undercapitalized. As described
above, each of the Bank Subsidiaries exceeded its minimum capital
requirements under applicable guidelines as of December 31, 1997.
Further, under applicable regulations of the OTS, FCB may not pay
dividends in an amount which would reduce its capital below the
amount required for the liquidation account established in
connection with FCB's conversion from the mutual to the stock
form of ownership in 1991. As of December 31, 1997,
approximately $21.7 million was available to be paid as dividends
to Heartland by the Bank Subsidiaries. Notwithstanding the
availability of funds for dividends, however, the banking
regulators may prohibit the payment of any dividends by the Bank
Subsidiaries if such payment is deemed to constitute an unsafe or
unsound practice.
The OTS has proposed to amend its regulations governing capital
distributions (including cash dividends) by savings associations,
such as FCB. The proposed amendment would require prior OTS
approval for any capital distribution by a savings association
that is not eligible for expedited processing under the OTS's
application processing regulations. In order to qualify for
expedited processing, a savings association must: (i) have a
composite UFIRS rating of 1 or 2; (ii) have a Community
Reinvestment Act rating of satisfactory or better; (iii) have a
compliance rating of 1 or 2; (iv) meet all applicable regulatory
capital requirements; and (v) not have been notified by the OTS
that it is a problem association or an association in troubled
condition. Savings associations that qualify for expedited
processing would be required to obtain OTS approval prior to
making a capital distribution only if the amount of the proposed
capital distribution, when aggregated with all other capital
distributions during the same calendar year, would exceed an
amount equal to the association's year-to-date net income plus
its retained net income for the preceding two years. The
proposed amendment will continue to require that the OTS be given
prior notice of certain types of capital distributions, including
any capital distribution by a savings association that, like FCB,
is a subsidiary of a savings and loan holding company.
Insider Transactions
The Bank Subsidiaries are subject to certain restrictions imposed
by the Federal Reserve Act on extensions of credit to Heartland
and its subsidiaries, on investments in the stock or other
securities of Heartland and its subsidiaries and the acceptance
of the stock or other securities of Heartland or its subsidiaries
as collateral for loans. Certain limitations and reporting
requirements are also placed on extensions of credit by the Bank
Subsidiaries to their respective directors and officers, to
directors and officers of Heartland and its subsidiaries, to
principal stockholders of Heartland, and to "related interests"
of such directors, officers and principal stockholders. In
addition, federal law and regulations may affect the terms upon
which any person becoming a director or officer of Heartland or
one of its subsidiaries or a principal stockholder of Heartland
may obtain credit from banks with which any of the Bank
Subsidiaries maintains a correspondent relationship.
Safety and Soundness Standards
The federal banking agencies have adopted guidelines which
establish operational and managerial standards to promote the
safety and soundness of federally-insured depository
institutions. The guidelines set forth standards for internal
controls, information systems, internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset
growth, compensation, fees and benefits, asset quality and
earnings. In general, the guidelines prescribe the goals to be
achieved in each area, and each institution is responsible for
establishing its own procedures to achieve those goals. If an
institution fails to comply with any of the standards set forth
in the guidelines, the institution's primary federal regulator
may require the institution to submit a plan for achieving and
maintaining compliance. The preamble to the guidelines states
that the agencies expect to require a compliance plan from an
institution whose failure to meet one or more of the guidelines
is of such severity that it could threaten the safety and
soundness of the institution. Failure to submit an acceptable
plan, or failure to comply with a plan that has been accepted by
the appropriate federal regulator, would constitute grounds for
further enforcement action.
Branching Authority
Iowa law strictly regulates the establishment of bank offices.
Under the Iowa Banking Act, an Iowa state bank, such as DB&T, may
not establish a bank office outside the boundaries of the
counties contiguous to or cornering upon the county in which the
principal place of business of the bank is located. Further,
Iowa law prohibits an Iowa bank from establishing de novo
branches in a municipality other than the municipality in which
the bank's principal place of business is located, if another
bank already operates one or more offices in the municipality in
which the de novo branch is to be located. The number of offices
an Iowa bank may establish in a particular municipality is also
limited depending upon the municipality's population.
Illinois banks, such as GSB and RCB, have the authority under
Illinois law to establish branches anywhere in the State of
Illinois, subject to receipt of all required regulatory
approvals. Likewise, under Wisconsin law, Wisconsin banks may,
subject to regulatory approval, establish branch offices anywhere
in the State of Wisconsin.
Federally chartered savings associations which qualify as
"domestic building and loan associations," as defined in the
Internal Revenue Code, or meet the qualified thrift lender test
(see "-The Bank Subsidiaries -- Qualified Thrift Lender Test")
have the authority, subject to receipt of OTS approval, to
establish branch offices anywhere in the United States, either de
novo or through acquisitions of all or part of another financial
institution. If a federal savings association fails to qualify
as a "domestic building and loan association," as defined in the
Internal Revenue Code, and fails to meet the qualified thrift
lender test, the association may branch only to the extent
permitted for national banks located in the savings association's
home state. As of December 31, 1997, FCB qualified as a
"domestic building and loan association," as defined in the
Internal Revenue Code, and met the QTL test.
Effective June 1, 1997 (or earlier if expressly authorized by
applicable state law), the Riegle-Neal Interstate Banking and
Branching Efficiency Act of 1994 (the "Riegle-Neal Act") allows
banks to establish interstate branch networks through
acquisitions of other banks, subject to certain conditions,
including certain limitations on the aggregate amount of deposits
that may be held by the surviving bank and all of its insured
depository institution affiliates. The establishment of de novo
interstate branches or the acquisition of individual branches of
a bank in another state (rather than the acquisition of an out-of-
state bank in its entirety) is allowed by the Riegle-Neal Act
only if specifically authorized by state law. The legislation
allows individual states to "opt-out" of certain provisions of
the Riegle-Neal Act by enacting appropriate legislation prior to
June 1, 1997. The laws of Iowa, Illinois and Wisconsin permit
interstate bank mergers, subject to certain conditions,
including, in each case, a prohibition against interstate mergers
unless any Iowa, Illinois or Wisconsin bank involved has been in
existence and continuous operation for more than five years.
State Bank Activities
Under federal law and FDIC regulations, FDIC-insured state banks
are prohibited, subject to certain exceptions, from making or
retaining equity investments of a type, or in an amount, that are
not permissible for a national bank. Federal law and FDIC
regulations also prohibit FDIC-insured state banks and their
subsidiaries, subject to certain exceptions, from engaging as
principal in any activity that is not permitted for a national
bank or its subsidiary, respectively, unless the bank meets, and
continues to meet, its minimum regulatory capital requirements
and the FDIC determines the activity would not pose a significant
risk to the deposit insurance fund of which the bank is a member.
Impermissible investments and activities must be divested or
discontinued within certain time frames set by the FDIC. These
restrictions have not had, and are not currently expected to
have, a material impact on the operations of DB&T, GSB, RCB or
WCB.
Qualified Thrift Lender Test
The HOLA requires every savings association to satisfy a
"qualified thrift lender" ("QTL") test. Under the HOLA, a
savings association will be deemed to meet the QTL test if it
either (i) maintains at least 65% of its "portfolio assets" in
"qualified thrift investments" on a monthly basis in nine out of
every 12 months or (ii) qualifies as a "domestic building and
loan association," as defined in the Internal Revenue Code. For
purposes of the QTL test, "qualified thrift investments" consist
of mortgage loans, mortgage-backed securities, education loans,
small business loans, credit card loans and certain other housing-
and consumer-related loans and investments. "Portfolio assets"
consist of a savings association's total assets less goodwill and
other intangible assets, the association's business properties
and a limited amount of the liquid assets maintained by the
association pursuant to the liquidity requirements of the HOLA
and OTS regulations (see "--The Bank Subsidiaries--Liquidity
Requirements"). A savings association that fails to meet the QTL
test must either convert to a bank charter or operate under
certain restrictions on its activities. A savings association
that fails the QTL test may requalify as a QTL but it may do so
only once. As of December 31, 1997, FCB satisfied the QTL test,
with a ratio of qualified thrift investments to portfolio assets
of 74.25% and qualified as a "domestic building and loan
association," as defined in the Internal Revenue Code.
Liquidity Requirements
OTS regulations currently require each savings association to
maintain, for each calendar quarter, an average daily balance of
liquid assets (including cash, certain time deposits, bankers'
acceptances, and specified United States Government, state or
federal agency obligations) equal to at least 4% of either (i)
its liquidity base (i.e., its net withdrawable accounts plus
borrowings repayable in 12 months or less) as of the end of the
preceding calendar quarter or (ii) the average daily balance of
its liquidity base during the preceding calendar quarter. This
liquidity requirement may be changed from time to time by the OTS
to an amount within a range of 4% to 10% of the liquidity base,
depending upon economic conditions and the deposit flows of
savings associations. The OTS may also require a savings
association to maintain a higher level of liquidity than the
minimum 4% requirement if the OTS deems necessary to ensure the
safe and sound operation of the association. Penalties may be
imposed for failure to meet liquidity ratio requirements. At
December 31, 1997, FCB was in compliance with OTS liquidity
requirements, with a liquidity ratio of 8.91%.
Federal Reserve System
FRB regulations, as presently in effect, require depository
institutions to maintain non-interest earning reserves against
their transaction accounts (primarily NOW and regular checking
accounts), as follows: for transaction accounts aggregating
$47.8 million or less, the reserve requirement is 3% of total
transaction accounts; and for transaction accounts aggregating in
excess of $47.8 million, the reserve requirement is $1.434
million plus 10% of the aggregate amount of total transaction
accounts in excess of $47.8 million. The first $4.7 million of
otherwise reservable balances are exempted from the reserve
requirements. These reserve requirements are subject to annual
adjustment by the FRB. The Bank Subsidiaries are in compliance
with the foregoing requirements. The balances used to meet the
reserve requirements imposed by the FRB may be used by FCB to
satisfy liquidity requirements imposed by the OTS.
G. GOVERNMENTAL MONETARY POLICY AND ECONOMIC CONDITIONS
The earnings of Heartland are affected by the policies of
regulatory authorities, including the Federal Reserve System
whose monetary policies have had a significant effect on the
operating results of commercial banks in the past and are
expected to continue to do so in the future. Because of changing
conditions in the economy and in the money markets, as a result
of actions by monetary and fiscal authorities, interest rates,
credit availability and deposit levels may change due to
circumstances beyond the control of Heartland. Future policies of
the Federal Reserve System and other authorities cannot be
predicted, nor can their effect on future earnings be predicted.
ITEM 2.
PROPERTIES
The principal offices of Heartland are located in DB&T's main
office at 1398 Central Avenue, Dubuque, Iowa 52001. This office
is owned by DB&T and consists of a three-story glazed terra cotta
building constructed in 1922. The main office building currently
comprises approximately 59,500 square feet, all of which is
occupied by DB&T and Heartland. Construction of a three-story
addition of approximately 32,000 square feet was completed in
1994.
DB&T has a total of seven branch offices in addition to its main
office. Five of these offices are located in the city of Dubuque,
and three branches are located in the surrounding Iowa
communities of Epworth, Farley and Holy Cross. DB&T owns all of
its branch offices without material encumbrances, except its
branch located at Kennedy Mall. DB&T owns the buildings but
leases the land under long term agreements at its Kennedy Mall
branch and Main Street office location. The DB&T subsidiaries,
operate out of the main office.
Citizens' Dubuque office is located in the Main Street Office
location of DB&T. The Madison office for Citizens is located in
a leased building at 1771 Thierer Road, Madison, Wisconsin 53707.
GSB's main office is located at 971 Gear Street on the west side
of Galena, Illinois. Construction of this new 18,000 square foot
brick banking facility was completed in 1996. A drive-up facility
is also located in downtown Galena. One branch office is located
in Stockton, Illinois, which is located approximately 24 miles
east of Galena. Each of these offices is owned without material
encumbrances.
The main office of FCB is located at 4th and Concert Street,
Keokuk, Iowa 52632. The property was purchased by FCB in 1983 and
consists of a one-story brick building constructed in 1951. This
building comprises approximately 6,000 square feet, all of which
is occupied by FCB. During 1996, FCB opened a 2,100 square foot
branch on the northwest side of Keokuk. FCB also has one branch
office located in Carthage, Illinois, which is located
approximately 15 miles east of Keokuk, Iowa. The one-story wooden
frame building constructed in 1976 comprises approximately 3,000
square feet, all of which is occupied by FCB. Each of these
offices are owned without material encumbrances.
RCB operates from an 8,000 square foot one-story brick building
located at 6700 East Riverside Boulevard, Rockford, Illinois
61114.
The main office of WCB is located at 580 N. Main Street, Cottage
Grove, Wisconsin 53527. The property was constructed by WCB in
1972 and consists of a one-story stucco building. This building
comprises approximately 6,000 square feet, all of which is
occupied by WCB. A branch facility was purchased in Middleton,
Wisconsin in 1997. This branch facility is a one-story wood
building totaling 2,500 square feet, all of which is occupied by
WCB and is owned without material encumbrances.
ULTEA leases a 1900 square foot facility at 2976 Triverton Pike,
Madison, Wisconsin 53711.
ITEM 3.
LEGAL PROCEEDINGS
There are no material pending legal proceedings, other than
ordinary routine litigation incidental to the business, to which
Heartland or any of its subsidiaries is a party or of which any
of their property is the subject.
ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of 1997 to a
vote of security holders.
PART II
ITEM 5.
MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Heartland's Common Stock was held by approximately 750
shareholders of record as of March 23, 1998, and is traded in the
over-the-counter market.
The following table shows, for the periods indicated, the range
of reported prices per share of Heartland's Common Stock in the
over-the-counter market. These quotations represent inter-dealer
prices without retail markups, markdowns or commissions and do
not necessarily represent actual transactions.
Heartland Common Stock Actual
Calendar Quarter High Low
1996:
First $17 11/16 $16 3/16
Second 20 17 1/4
Third 25 17 1/4
Fourth 24 3/4 24
1997:
First $24 $26 19/32
Second 25 1/4 27 9/32
Third 25 30 9/32
Fourth 26 30
Cash dividends have been declared by Heartland quarterly during
the past two years ending December 31, 1997. The following table
sets forth the cash dividends per share paid on Heartland's
Common Stock for the past two years:
Calendar Quarter
1997 1996
First $.13 $.10
Second .13 .10
Third .13 .10
Fourth .13 .10
ITEM 6.
SELECTED FINANCIAL DATA
(Dollars in thousands, except per share data)
For the Years Ended December 31,
1997 1996 1995
--------------------------------
STATEMENT OF INCOME DATA
Interest income $ 59,261 $ 51,886 $ 49,149
Interest expense 31,767 27,644 25,529
-------- -------- --------
Net interest income 27,494 24,242 23,620
Provision for loan and
lease losses 1,279 1,408 820
-------- -------- --------
Net interest income after
provision for loan and
lease losses 26,215 22,834 22,800
Noninterest income 8,565 7,364 4,981
Noninterest expense 22,927 19,507 17,323
Provision for income taxes 3,338 2,685 2,884
-------- -------- --------
Net income $ 8,515 $ 8,006 $ 7,574
======== ======== ========
PER COMMON SHARE DATA
Net income-basic $ 1.80 $ 1.70 $ 1.58
Net income-diluted 1.78 1.69 1.58
Cash dividends 0.52 .40 .30
Dividend payout ratio 28.96% 23.53% 19.03%
Book value $ 16.38 $ 14.84 $ 13.76
Weighted average shares
outstanding-basic 4,738,171 4,715,009 4,805,184
BALANCE SHEET DATA
Investments and federal
funds sold $234,666 $183,966 $171,726
Total loans and leases,
net of unearned 556,406 484,085 454,905
Allowance for loan and lease
losses 7,362 6,191 5,580
Total assets 852,060 736,552 677,313
Total deposits 623,532 558,343 534,587
Long-term obligations 43,023 42,506 45,400
Redeemable preferred stock - - -
Stockholders' equity 77,772 70,259 64,506
EARNINGS PERFORMANCE DATA
Return on average total assets 1.09% 1.16% 1.18%
Return on average stockholders'
equity 11.59 12.00 12.28
Net interest margin ratio (1) 3.89 3.98 4.13
ASSET QUALITY RATIOS
Nonperforming assets to total
assets 0.34% 0.34% 0.28%
Nonperforming loans and leases
to total loans and leases 0.37 0.41 0.26
Net loan and lease charge-offs
to average loans and leases 0.08 0.17 0.08
Allowance for loan and lease
losses to total loans and
leases 1.32% 1.28% 1.23%
Allowance for loan and lease
losses to nonperforming
loans and leases 362.30 313.63 463.84
CAPITAL RATIOS
Average equity to average
assets 9.39% 9.66% 9.59%
Total capital to risk-adjusted
assets 12.71 14.28 14.46
Tier 1 leverage 8.76 9.54 9.47
SELECTED FINANCIAL DATA
(Dollars in thousands, except per share data)
For the Years Ended
December 31,
1994 1993
--------------------
STATEMENT OF INCOME DATA
Interest income $43,373 $ 43,265
Interest expense 20,128 21,126
-------- --------
Net interest income 23,245 22,139
Provision for loan and lease losses 811 1,014
-------- --------
Net interest income after provision
for loan and lease losses 22,434 21,125
Noninterest income 4,965 5,470
Noninterest expense 17,244 16,338
Provision for income taxes 3,015 3,251
-------- --------
Net income $ 7,140 $ 7,006
======== ========
PER COMMON SHARE DATA
Net income-basic $ 1.47 $ 1.47
Net income-diluted 1.47 1.47
Cash dividends .26 .20
Dividend payout ratio 17.99% 13.33%
Book value $ 11.76 $ 11.52
Weighted average shares
outstanding-basic 4,845,648 4,774,718
BALANCE SHEET DATA
Investments and federal funds sold $162,968 $211,394
Total loans and leases, net of unearned 422,216 374,778
Allowance for loan and lease losses 5,124 4,433
Total assets 626,490 620,214
Total deposits 513,239 498,279
Long-term obligations 23,562 25,055
Redeemable preferred stock - 67
Stockholders' equity 56,930 55,098
EARNINGS PERFORMANCE DATA
Return on average total assets 1.18% 1.17%
Return on average stockholders' equity 12.82 14.20
Net interest margin ratio (1) 4.32 4.11
ASSET QUALITY RATIOS
Nonperforming assets to total assets 0.17% 0.30%
Nonperforming loans and leases
to total loans and leases 0.21 0.32
Net loan and lease charge-offs
to average loans and leases
Allowance for loan and lease losses 0.03 0.04
to total loans and leases 1.21% 1.18%
Allowance for loan and lease losses
to nonperforming loans and leases 580.95 374.09
CAPITAL RATIOS
Average equity to average assets 9.22% 8.23%
Total capital to risk-adjusted assets 15.04 14.37
Tier 1 leverage 9.32 8.49
(1) Tax equivalent using a 34% tax rate.
ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS
The following presents management's discussion and analysis of
the consolidated financial condition and results of operations of
Heartland Financial USA, Inc. ("Heartland") as of the dates and
for the periods indicated. This discussion should be read in
conjunction with the Selected Financial Data, Heartland's
Consolidated Financial Statements and the Notes thereto and other
financial data appearing elsewhere in this report.
The consolidated financial statements include the accounts of
Heartland and its wholly-owned subsidiaries: Dubuque Bank and
Trust Company ("DB&T"); DB&T Insurance, Inc.; DB&T Community
Development Corp.; Galena State Bank and Trust Company ("GSB");
Riverside Community Bank ("RCB"); First Community Bank, FSB
("FCB"); Wisconsin Community Bank ("WCB"; previously Cottage
Grove State Bank); Citizens Finance Co. ("Citizens"); ULTEA, Inc.
("ULTEA"); DBT Investment Corporation and Keokuk Bancshares, Inc.
This report, including the Chairman's Report to Stockholders and
President's Message, contains certain forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933,
as amended, and Section 21E of the Securities Exchange Act of
1934, as amended. Heartland intends such forward-looking
statements to be covered by the safe harbor provisions for
forward-looking statements contained in the Private Securities
Reform Act of 1995, and is including this statement for purposes
of these safe harbor provisions. Forward-looking statements,
which are based on certain assumptions and describe future plans,
strategies and expectations of Heartland are generally
identifiable by use of the words "believe," "expect," "intend,"
"anticipate," "estimate," "project" or similar expressions.
Heartland's ability to predict results or the actual effect of
future plans or strategies is inherently uncertain. Factors
which could have a material adverse affect on the operations and
future prospects of Heartland and the subsidiaries include, but
are not limited to, changes in: interest rates, general economic
conditions, legislative/regulatory changes, monetary and fiscal
policies of the U.S. Government, including policies of the U.S.
Treasury and the Federal Reserve Board, the quality or
composition of the loan or investment portfolios, demand for loan
products, deposit flows, competition, demand for financial
services in Heartland's market area and accounting principles,
policies and guidelines. These risks and uncertainties should be
considered in evaluating forward-looking statements and undue
reliance should not be placed on such statements. Further
information concerning Heartland and its business, including
additional factors that could materially affect Heartland's
financial results, is included in Heartland's filings with the
Securities and Exchange Commission.
OVERVIEW
Heartland recorded its seventh consecutive year of increased
annual earnings during 1997, up $509,000 (6.36%) from 1996. On a
basic per common share basis, the 1997 earnings increased 5.88%.
These sustained increases are particularly gratifying given the
increased emphasis and the related costs associated with the
expansion of Heartland's asset base and development of other
noninterest income sources. The initiatives undertaken included:
The conversion of all Heartland banks to new banking software.
The acquisition of WCB on March 1 and its purchase of a branch
facility in Middleton, Wisconsin.
Expansion into the vehicle leasing and fleet management
business with the purchase of ULTEA in December, 1996.
Enhancement of banking operations in Rockford, Illinois and
the recently announced de novo expansion into Albuquerque, New
Mexico.
Net income increased $432,000 (5.70%) in 1996 from 1995. On a
basic per common share basis, 1996 net income increased 7.59%
from 1995. This performance reflected significantly improved
noninterest income during 1996, which was partially mitigated by
increased costs related to the first full year of operation of
RCB and the one-time Savings Association Insurance Fund ("SAIF")
special assessment at FCB.
Total noninterest income increased 16.31% during 1997 compared to
an increase of 47.84% during 1996. Gains on sales of securities
accounted for 61.94% of the $2,383,000 change during 1996.
During 1997, gains on sales of securities decreased $443,000.
Exclusive of these gains on sales of securities, noninterest
income increased 30.03% during 1997. During both years, there
were substantial increases in core noninterest income components
which include service charges, trust fees and gains on the sale
of loans. Rental income on operating leases at ULTEA was also a
major contributor to the 1997 growth in noninterest income.
Concurrent with the growth of the Heartland organization,
noninterest expense increased $3,420,000 (17.53%) and $2,184,000
(12.61%) during 1997 and 1996, respectively, compared to the
previous year. The increases were largely due to costs
associated with the initiatives discussed earlier. While
management remains committed to the control of overhead, they are
also committed to investing sufficient resources to profitably
expand the franchise.
RESULTS OF OPERATIONS
NET INTEREST INCOME
Net interest income is the difference between interest income
earned on earning assets and interest expense paid on interest
bearing liabilities. As such, net interest income is affected by
changes in the volume and yields on earning assets and the volume
and rates paid on interest bearing liabilities. Net interest
margin is the ratio of tax equivalent net interest income to
average earning assets.
Net interest income on a fully tax equivalent basis was
$28,280,000, $25,476,000 and $24,721,000 for 1997, 1996 and 1995,
respectively, an increase of 11.01% for 1997 and 3.05% for 1996.
Expressed as a percentage of average earning assets, Heartland's
net interest margin decreased to 3.89% in 1997 and 3.98% in 1996,
compared to 4.13% in 1995. These decreases occurred for several
reasons:
The return on Heartland's securities portfolio declined as
several higher-yielding securities matured or were called and
the average life of the portfolio was reduced to 1.75 years at
December 31, 1997.
The additional investment during 1996 of nearly $3 million in
low-income housing projects, while the investment generates
income tax credits, negatively impacted the net interest
margin calculation.
With strong loan demand, rates paid on interest bearing
deposits were elevated somewhat to sustain deposit growth.
Growth in noninterest bearing deposits remained relatively
flat during both years.
Heartland bank subsidiaries increased their reliance on
Federal Home Loan Bank ("FHLB") funding, which is typically
more expensive than core deposits.
Heartland continues to manage its balance sheet on a proactive
basis. The following table sets forth certain information
relating to Heartland's average consolidated balance sheets and
reflects the yield on average earning assets and the cost of
average interest bearing liabilities for the years indicated.
Such yields and costs are derived by dividing income or expense
by the average balance of assets or liabilities. Average balances
are derived from daily balances, and nonaccrual loans are
included in each respective loan category.
ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS AND RATES (1)
(Dollars in thousands)
For the Year Ended
December 31, 1997
Average
Balance Interest Rate
------- -------- ----
EARNING ASSETS
Securities:
Taxable $169,086 $ 10,393 6.15%
Nontaxable (1) 19,700 1,773 9.00
--------- --------- ------
Total securities 188,786 12,166 6.44
--------- --------- ------
Interest bearing deposits 2,972 98 3.30
Federal funds sold 12,570 681 5.42
--------- --------- ------
Loans and leases:
Commercial and commercial
real estate (1) 222,157 19,683 8.86
Residential mortgage 178,362 14,083 7.90
Agricultural and agricultural
real estate (1) 66,294 6,037 9.11
Consumer 55,218 5,672 10.27
Direct financing leases, net 6,739 501 7.43
Fees on loans - 1,126 -
Less: allowance for loan
and lease losses (6,998) - -
--------- --------- ------
Net loans and leases 521,772 47,102 9.03
--------- --------- ------
Total earning assets 726,100 60,047 8.27
--------- --------- ------
NONEARNING ASSETS
Total nonearning assets 56,596 - -
--------- --------- ------
TOTAL ASSETS $782,696 $ 60,047 7.67%
========= ========= ======
INTEREST BEARING LIABILITIES
Interest bearing deposits:
Savings accounts $237,730 $ 8,317 3.50%
Time, $100,000 and over 34,913 1,961 5.62
Other time deposits 268,201 15,487 5.77
Short-term borrowings 70,313 3,740 5.32
Other borrowings 36,406 2,262 6.21
--------- --------- ------
Total interest bearing
liabilities 647,563 31,767 4.91
--------- --------- ------
NONINTEREST BEARING LIABILITIES
Noninterest bearing deposits 51,770 - -
Accrued interest and other
liabilities 9,906 - -
--------- --------- ------
Total noninterest bearing
liabilities 61,676 - -
--------- --------- ------
Stockholders' Equity 73,457 - -
--------- --------- ------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $782,696 $ 31,767 4.06%
========= ========= ======
Net interest income (1) $ 28,280
=========
Net interest income
to total earning assets (1) 3.89%
======
Interest bearing liabilities
to earning assets 89.18%
=========
ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS AND RATES (1)
(Dollars in thousands)
For the Year Ended
December 31, 1996
Average
Balance Interest Rate
------- -------- ----
EARNING ASSETS
Securities:
Taxable $136,107 $ 8,392 6.17%
Nontaxable (1) 31,005 3,108 10.02
--------- --------- ------
Total securities 167,112 11,500 6.88
--------- --------- ------
Interest bearing deposits 4,332 163 3.76
Federal funds sold 11,532 610 5.29
--------- --------- ------
Loans and leases:
Commercial and commercial
real estate (1) 195,372 17,058 8.73
Residential mortgage 160,511 12,637 7.87
Agricultural and agricultural
real estate (1) 58,975 5,377 9.12
Consumer 41,302 4,250 10.29
Direct financing leases, net 7,502 549 7.32
Fees on loans - 976 -
Less: allowance for loan
and lease losses (6,026) - -
--------- --------- ------
Net loans and leases 457,636 40,847 8.93
--------- --------- ------
Total earning assets 640,612 53,120 8.29
--------- --------- ------
NONEARNING ASSETS
Total nonearning assets 50,473 - -
--------- --------- ------
TOTAL ASSETS $691,085 $ 53,120 7.69%
========= ========= ======
INTEREST BEARING LIABILITIES
Interest bearing deposits:
Savings accounts $214,401 $ 7,474 3.49%
Time, $100,000 and over 37,806 2,131 5.64
Other time deposits 239,300 13,585 5.68
Short-term borrowings 37,100 1,943 5.24
Other borrowings 41,936 2,511 5.99
--------- --------- ------
Total interest bearing
liabilities 570,543 27,644 4.85
--------- --------- ------
NONINTEREST BEARING LIABILITIES
Noninterest bearing deposits 45,205 - -
Accrued interest and other
liabilities 8,606 - -
--------- --------- ------
Total noninterest bearing
liabilities 53,811 - -
--------- --------- ------
Stockholders' equity 66,731 - -
--------- --------- ------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $691,085 $ 27,644 4.00%
========= ========= ======
Net interest income (1) $ 25,476
=========
Net interest income
to total earning assets (1) 3.98%
======
Interest bearing liabilities
to earning assets 89.06%
=========
ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS & RATES (1)
(Dollars in thousands)
For the Year Ended
December 31, 1995
Average
Balance Interest Rate
------- -------- ----
EARNING ASSETS
Securities:
Taxable $116,683 $ 7,562 6.48%
Nontaxable (1) 25,518 2,671 10.47
-------- ------- ------
Total securities 142,201 10,233 7.20
-------- ------- ------
Interest bearing deposits 3,059 116 3.79
Federal funds sold 12,765 740 5.80
-------- -------- ------
Loans and leases:
Commercial and commercial
real estate (1) 186,062 16,403 8.82
Residential mortgage 155,208 12,211 7.87
Agricultural and agricultural
real estate (1) 60,171 5,422 9.01
Consumer 35,881 3,650 10.17
Direct financing leases, net 9,362 670 7.16
Fees on loans - 805 -
Less: allowance for loan
and lease losses (5,454) - -
--------- -------- ------
Net loans and leases 441,230 39,161 8.88
--------- -------- ------
Total earning assets 599,255 50,250 8.39
--------- -------- ------
NONEARNING ASSETS
Total nonearning assets 43,501 - -
--------- -------- ------
TOTAL ASSETS $642,756 $50,250 7.82%
========= ======== ======
INTEREST BEARING LIABILITIES
Interest bearing deposits:
Savings accounts $206,353 $ 7,338 3.56%
Time, $100,000 and over 30,091 1,658 5.51
Other time deposits 233,983 13,033 5.57
Short-term borrowings 21,665 1,236 5.71
Other borrowings 37,253 2,264 6.08
--------- -------- ------
Total interest bearing
liabilities 529,345 25,529 4.82
--------- -------- ------
NONINTEREST BEARING LIABILITIES
Noninterest bearing deposits 43,467 - -
Accrued interest and other
liabilities 8,281 - -
--------- -------- ------
Total noninterest bearing
liabilities 51,748 - -
--------- -------- ------
Stockholders' equity 61,663 - -
--------- -------- ------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $642,756 $25,529 3.97%
========= ======== ======
Net interest income (1) $24,721
========
Net interest income 4.13%
to total earning assets (1) ======
Interest bearing liabilities
to earning assets 88.33%
=========
(1) Tax equivalent basis is calculated using an effective tax
rate of 34%.
The following table allocates the changes in net interest income
to differences in either average balances or average rates for
earning assets and interest bearing liabilities. The changes have
been allocated proportionately to the change due to volume and
change due to rate. Interest income is measured on a tax
equivalent basis using a 34% tax rate.
ANALYSIS OF CHANGES IN NET INTEREST INCOME
(Dollars in thousands)
For the Year Ended
December 31,
1997 Compared to 1996
Change Due to
Volume Rate Net
-----------------------
EARNING ASSETS/
INTEREST INCOME
Securities
Taxable $2,033 $ (32) $2,001
Nontaxable (1,133) (202) (1,335)
Interest bearing deposits (51) (14) (65)
Federal funds sold 55 16 71
Loans and leases 5,725 530 6,255
------- ------- -------
TOTAL EARNING ASSETS 6,629 298 6,927
LIABILITIES/INTEREST EXPENSE
Interest bearing deposits
Savings accounts 813 30 843
Time, $100,000 and over (163) (7) (170)
Other time deposits 1,641 261 1,902
Short-term borrowings 1,739 58 1,797
Other borrowings (331) 82 (249)
------- ------- -------
TOTAL INTEREST BEARING
LIABILITIES 3,699 424 4,123
------- ------- -------
NET INTEREST INCOME $2,930 $ (126) $2,804
======= ======= =======
ANALYSIS OF CHANGES IN NET INTEREST INCOME
(Dollars in thousands)
For the Year Ended
December 31,
1996 Compared to 1995
Change Due to
Volume Rate Net
-----------------------
EARNING ASSETS/
INTEREST INCOME
Securities
Taxable $1,260 $ (430) $ 830
Nontaxable 574 (137) 437
Interest bearing deposits 48 (1) 47
Federal funds sold (71) (59) (130)
Loans and leases 1,456 230 1,686
------- ------- -------
TOTAL EARNING ASSETS 3,267 (397) 2,870
LIABILITIES/INTEREST EXPENSE
Interest bearing deposits
Savings accounts 286 (150) 136
Time, $100,000 and over 425 48 473
Other time deposits 296 256 552
Short-term borrowings 883 (176) 707
Other borrowings 285 (38) 247
------- ------- -------
TOTAL INTEREST BEARING
LIABILITIES 2,175 (60) 2,115
------- ------- -------
NET INTEREST INCOME $1,092 $(337) $ 755
======= ======= =======
ANALYSIS OF CHANGES IN NET INTEREST INCOME
(Dollars in thousands)
For the Year Ended
December 31,
1995 Compared to 1994
Change Due to
Volume Rate Net
-----------------------
EARNING ASSETS/
INTEREST INCOME
Securities
Taxable $(1,267) $ 582 $ (685)
Nontaxable (154) (385) (539)
Interest bearing deposits 12 32 44
Federal funds sold 363 185 548
Loans and leases 3,831 2,413 6,244
-------- ------- -------
TOTAL EARNING ASSETS 2,785 2,827 5,612
LIABILITIES/INTEREST EXPENSE
Interest bearing deposits
Savings accounts (36) 1,851 1,815
Time, $100,000 and over 368 270 638
Other time deposits 658 1,112 1,770
Short-term borrowings (111) 387 276
Other borrowings 737 165 902
-------- ------- -------
TOTAL INTEREST BEARING
LIABILITIES 1,616 3,785 5,401
------- ------- -------
NET INTEREST INCOME $ 1,169 $ (958) $ 211
======= ======= =======
PROVISION FOR LOAN AND LEASE LOSSES
The provision expense for loan and lease losses decreased
$129,000 (9.16%) during 1997 compared to an increase of $588,000
(71.71%) during 1996. The additional provision expense during
1996 resulted from a $433,000 (118.96%) increase in net charge-
offs, primarily due to a $469,000 writedown on a pool of leases
purchased from the Bennett Funding Group. The allowance for loan
and lease losses as a percentage of total loans and leases was
1.32% at December 31, 1997, 1.28% at December 31, 1996 and 1.23%
at December 31, 1995.
NONINTEREST INCOME
(Dollars in thousands)
For the Years Ended
December 31,
1997 1996 1995
------------------------
Service charges and fees $ 2,723 $ 2,437 $ 2,106
Trust fees 2,009 1,810 1,472
Brokerage commissions 324 212 110
Insurance commissions 563 650 611
Securities gains, net 1,446 1,889 413
Rental income on operating leases 811 - -
Gains on sale of loans 373 131 73
Other noninterest income 316 235 196
-------- -------- --------
Total noninterest income $ 8,565 $ 7,364 $ 4,981
======== ======== ========
The above table shows Heartland's noninterest income for the
years indicated. Total noninterest income increased $1,201,000
(16.31%) during 1997, as compared to an increase of $2,383,000
(47.84%) during 1996.
One of the most significant components of noninterest income is
service charges and fees, which increased $286,000 (11.74%)
during 1997 when compared to 1996. Of this increase, $173,000
was attributable to the acquisition of WCB. During 1996, service
charges and fees increased $331,000 (15.72%) compared to 1995.
The growth experienced during 1996 reflected the addition of new
merchants in the credit card processing area. The increased
emphasis Heartland has placed on enhancing revenues from services
provided to customers has influenced the growth of fee income
over the two-year period.
Trust fees increased $199,000 (10.99%) in 1997 and $338,000
(22.96%) in 1996, as compared to the respective previous year's
total. This strong performance resulted from the increase in
assets under management, ending 1997 at $434,003,000, an increase
of $67,845,000 (18.53%) during 1997 and $76,813,000 (26.55%)
during 1996. This growth reflected especially strong equity and
debt markets, combined with the development of new trust
relationships through continued calling efforts.
Brokerage commissions increased $112,000 (52.83%) in 1997 from
the previous year's total. During 1996, brokerage commissions
increased $102,000 (92.73%) from 1995's total. Results for both
years benefited from the replacement of two sales personnel lost
in 1995, combined with continued efforts to integrate the
brokerage area into Heartland's retail divisions.
Securities gains decreased $443,000 (23.45%) during 1997 compared
to 1996. During 1996, securities gains increased $1,476,000
(357.38%) over the 1995 total. The significant increase
experienced during 1996 resulted from the recognition of a gain
of $1,174,000 on the sale of Federal Home Loan Mortgage
Corporation common stock held in the investment portfolio at FCB.
Heartland was able to sustain a portion of those gains during
1997 due to the strong performance of its equity portfolio.
The expansion into the vehicle leasing and fleet management
business with the first full year of operation of ULTEA as a
Heartland subsidiary contributed an additional $811,000 to
noninterest income during 1997.
NONINTEREST EXPENSE
(Dollars in thousands)
For the Years Ended
December 31,
1997 1996 1995
------------------------
Salaries and employee
benefits $13,070 $11,035 $ 9,730
Occupancy, net 1,354 1,268 1,059
Furniture and equipment 1,880 1,336 1,315
Outside services 1,439 1,155 1,164
FDIC deposit insurance
assessment 116 746 681
Advertising 826 996 696
Depreciation on equipment under
operating leases 584 - -
Other noninterest expense 3,658 2,971 2,678
-------- -------- --------
Total noninterest expense $22,927 $19,507 $17,323
======== ======== ========
Efficiency ratio (1) 64.77% 63.03% 59.15%
======== ======== ========
(1) Noninterest expense divided by the sum of net interest
income and noninterest income less securities gains.
The above table shows Heartland's noninterest expense for the
years indicated. Noninterest expense increased $3,420,000
(17.53%) in 1997 as compared to 1996. Total 1996 noninterest
expense represented an increase of $2,184,000 (12.61%) from the
1995 total.
Salaries and employee benefits expense represented 57.01% of the
total 1997 noninterest expense, increasing $2,035,000 (18.44%)
from the total for 1996. During 1996, salaries and employee
benefits expense increased $1,305,000 (13.41%) over the 1995
total. In addition to the normal merit and cost of living
raises, these increases were attributable to Heartland's
continued expansion efforts, particularly the additions of RCB,
WCB and ULTEA. Also recorded during 1997 was $267,000 in
compensation expense associated with the final distribution of
stock under the Heartland Executive Restricted Stock Purchase
Plan.
The $209,000 (19.74%) increase in occupancy costs for 1996
represented additional depreciation and property tax costs
associated with the construction of new facilities at the
subsidiary banks.
Equipment expenses increased $544,000 (40.72%) during 1997
compared to the 1996 total. The conversion to Fiserv's
Comprehensive Banking Systems software was the major component of
this increase. Heartland elected to maintain the data processing
function in-house to provide its subsidiary banks with enhanced
technology and flexibility.
The addition of ULTEA added $584,000 to noninterest expense
during 1997 for the depreciation on equipment under operating
leases.
Federal Deposit Insurance Corporation ("FDIC") premium expense
decreased $630,000 (84.45%) during 1997 compared to 1996. The
one-time special assessment on all savings associations to
capitalize the SAIF amounted to $545,000 at FCB and was recorded
during 1996. Exclusive of this one-time charge, FDIC premiums
decreased $480,000 (70.48%) in 1996 compared to 1995. During
1995, the FDIC premium expense was reduced when the premium
charged to members of the Bank Insurance Fund ("BIF") dropped
from .23% to .04% of deposits and subsequently to $2,000 per year
for well capitalized banks. Three of Heartland's four banks were
affected by this reduction, which took effect in September of
1995. FCB, as a SAIF member, experienced a reduction in FDIC
premium expense on January 1, 1997, when the assessment dropped
from .23% to .065% of deposits.
Advertising and public relations expense was reduced $170,000
(17.07%) during 1997, compared to the 1996 total. During 1996,
advertising and public relations expense experienced the largest
single percentage increase within the noninterest expense
category, rising $300,000 (43.10%) compared to the 1995 total.
The contribution of stock from FCB's securities portfolio to a
public charitable trust during 1996 at a cost basis of $220,000,
with an associated market value of $820,000, during 1996 was the
primary component of the changes during both years.
Heartland utilizes and is dependent upon data processing systems
and software to conduct its business. The data processing
systems and software include those developed and maintained by
Heartland's third-party data processing vendor and purchased
software which is run on personal computer networks. Heartland
has completed an assessment and work plan to assure that all
hardware and software utilized by Heartland subsidiaries will
function properly in the year 2000. Management is working with
vendors to become compliant by the end of 1998. Noninterest
expense includes the cost of such projects. Heartland management
continues to review the cost associated with the year 2000
project and presently has not identified any situations that will
require material cost expenditures to become fully compliant.
INCOME TAXES
Income tax expense for 1997 increased $653,000 (24.32%) over
1996. The effective tax rate increased from 25.11% in 1996 to
28.16% in 1997. A reduction in tax-exempt income during 1997
contributed to this increase. The $199,000 (6.90%) decrease in
total tax expense for 1996, despite the increase in net income,
was driven primarily by the addition of $195,000 in tax credits
associated with the investment in low-income housing projects.
The one-time contribution of appreciated property to a public
charitable trust also was a factor in this decrease.
FINANCIAL CONDITION
LENDING ACTIVITIES
Heartland's major source of income is interest on loans and
leases. The table below presents the composition of Heartland's
loan portfolio at the end of the years indicated.
LOAN PORTFOLIO
(Dollars in thousands)
At
December 31,
1997 1996
Amount Percent Amount Percent
------ ------- ------ -------
Commercial and commercial
real estate $242,868 43.46% $206,523 42.46%
Residential mortgage 175,268 31.37 166,999 34.33
Agricultural and
agricultural real estate 69,302 12.40 57,526 11.83
Consumer 64,223 11.49 48,361 9.94
Lease financing, net 7,171 1.28 7,042 1.44
-------- ------- -------- -------
Gross loans and leases 558,832 100.00% 486,451 100.00%
======= =======
Unearned discount (2,077) (1,962)
Deferred loan fees (349) (404)
--------- ---------
Total loans and leases 556,406 484,085
Allowance for loan and
lease losses (7,362) (6,191)
--------- ---------
Loans and leases, net $549,044 $477,894
========= =========
LOAN PORTFOLIO
(Dollars in thousands)
At
December 31,
1995 1994
Amount Percent Amount Percent
------ ------- ------ -------
Commercial and commercial
real estate $191,866 42.00% $170,998 40.32%
Residential mortgage 158,324 34.66 150,147 35.41
Agricultural and
agricultural real estate 59,089 12.94 56,736 13.38
Consumer 38,988 8.54 36,068 8.51
Lease financing, net 8,530 1.86 10,076 2.38
-------- ------- -------- -------
Gross loans and leases 456,797 100.00% 424,025 100.00%
======= =======
Unearned discount (1,510) (1,438)
Deferred loan fees (382) (371)
--------- ---------
Total loans and leases 454,905 422,216
Allowance for loan and
lease losses (5,580) (5,124)
--------- ---------
Loans and leases, net $449,325 $417,092
========= =========
LOAN PORTFOLIO
(Dollars in thousands)
At
December 31,
1993
Amount Percent
------ -------
Commercial and commercial
real estate $156,117 41.49%
Residential mortgage 124,118 32.98
Agricultural and
agricultural real estate 54,998 14.61
Consumer 36,236 9.63
Lease financing, net 4,855 1.29
-------- -------
Gross loans and leases 376,324 100.00%
=======
Unearned discount (1,256)
Deferred loan fees (290)
---------
Total loans and leases 374,778
Allowance for loan and
lease losses (4,433)
---------
Loans and leases, net $370,345
=========
The table below sets forth the remaining maturities by loan and
lease category.
MATURITY AND RATE SENSITIVITY OF LOANS AND LEASES (1)
December 31, 1997
(Dollars in thousands)
Over 1 Year
Through 5 Years
One Year Fixed Floating
or less Rate Rate
------------------------------
Commercial and commercial
real estate $ 97,759 $ 86,592 $ 35,414
Residential mortgage 15,354 21,413 15,314
Agricultural and
agricultural real estate 34,861 22,402 6,103
Consumer 18,272 31,882 6,188
Lease financing, net 2,203 4,724 -
-------- -------- --------
Total $168,449 $167,013 $ 63,019
======== ======== ========
Over 5 Years
Fixed Floating
Rate Rate Total
-------------------------------
Commercial and commercial
real estate $ 5,596 $ 17,507 $242,868
Residential mortgage 25,103 98,084 175,268
Agricultural and
agricultural real estate 859 5,077 69,302
Consumer 1,649 6,232 64,223
Lease financing, net 244 - 7,171
-------- -------- --------
Total $ 33,451 $126,900 $558,832
======== ======== ========
(1) Maturities based upon contractual dates.
Net loans and leases grew $71,150,000 (14.89%) from December 31,
1996, to December 31, 1997, compared to $28,569,000 (6.36%) from
December 31, 1995, to December 31, 1996. The loan portfolio at
WCB accounted for $22,906,000 (32.19%) of the growth during 1997.
The largest dollar growth occurred in commercial and commercial
real estate loans, which increased $36,345,000 (17.60%) compared
to $14,657,000 (7.64%) during 1996. The WCB acquisition accounted
for $10,789,000 (29.68%) of the growth in commercial and
commercial real estate loans during 1997.
Exclusive of the WCB loan portfolio, agricultural and consumer
loan outstandings experienced the most significant percentage
growth during 1997. Agricultural and agricultural real estate
loans, exclusive of WCB, increased $10,569,000 (18.37%) during
1997 compared to a decrease of $1,563,000 (2.65%) during 1996.
The 1996 decrease reflected the consolidation occurring in the
agricultural sector and loan paydowns resulting from strong
commodity prices. Consumer loan outstandings grew $11,474,000
(23.73%) during 1997, exclusive of the WCB loan portfolio,
compared to $9,373,000 (24.04%) during 1996. These increases were
attributed to significant growth in consumer lines of credit and
dealer paper, partially as a result of the expansion of Citizens
into Madison, Wisconsin.
Growth in residential mortgage loan outstandings declined during
1997 as customers elected to take fixed rate 15- and 30- year
mortgages which the subsidiary banks elected to sell into the
secondary market while retaining servicing. In 1997, exclusive
of WCB, and 1996 Heartland's total outstanding residential
mortgage loans increased $1,406,000 (.84%) and $8,675,000
(5.48%), respectively.
Although the risk of nonpayment for any reason exists with
respect to all loans, specific risks are associated with each
type of loan. The primary risks associated with commercial and
agricultural loans are the quality of the borrower's management
and the impact of national and regional economic factors. Risks
associated with real estate loans include fluctuating land values
and concentrations of loans in a specific type of real estate.
Consumer loans also have risks associated with concentrations of
loans in a single type of loan and the risk of a borrower's
unemployment as a result of deteriorating economic conditions.
Heartland monitors its loan concentrations and does not believe
it has concentrations in any specific industry other than
agriculture.
Heartland's strategy with respect to the management of these
types of risks, whether loan demand is weak or strong, is to
encourage the Heartland banks to follow tested and prudent loan
policies and underwriting practices which include: (i) granting
loans on a sound and collectible basis; (ii) investing funds
profitably for the benefit of stockholders and the protection of
depositors; (iii) serving the needs of the community and each
bank's general market area while obtaining a balance between
maximum yield and minimum risk; (iv) ensuring that primary and
secondary sources of repayment are adequate in relation to the
amount of the loan; (v) administering loan policies through a
Board of Directors and an officers' loan committee; (vi)
developing and maintaining adequate diversification of the loan
portfolio as a whole and of the loans within each loan category;
and (vii) ensuring that each loan is properly documented and, if
appropriate, guaranteed by government agencies and that insurance
coverage is adequate.
NONPERFORMING LOANS AND LEASES AND OTHER NONPERFORMING ASSETS
The table below sets forth the amounts of nonperforming loans and
leases and other nonperforming assets on the dates indicated.
NONPERFORMING ASSETS
(Dollars in thousands)
December 31,
1997 1996 1995 1994 1993
----------------------------------
Nonaccrual loans and
leases $1,819 $1,697 $ 977 $ 748 $ 979
Loan and leases
contractually past
due 90 days or more 187 247 226 134 206
Restructured loans
and leases 26 30 - - -
------ ------ ------ ------ ------
Total nonperforming
loans and leases 2,032 1,974 1,203 882 1,185
Other real estate 774 532 640 134 623
Other repossessed assets 124 21 51 39 23
------ ------ ------- ------ ------
Total nonperforming assets $2,930 $2,527 $1,894 $1,055 $1,831
====== ====== ====== ====== ======
Nonperforming loans and
leases to total loans
and leases 0.37% 0.41% 0.26% 0.21% 0.32%
Nonperforming assets
to total loans and
leases plus repossessed
property 0.53% 0.52% 0.42% 0.25% 0.49%
Nonperforming assets to
total assets 0.34% 0.34% 0.28% 0.17% 0.30%
Under Heartland