2019
ANNUAL REPORT
TO
SHAREHOLDERS
HAWTHORN BANCSHARES, INC.
Jefferson City, Missouri
March 16, 2020
Dear Shareholders:
I am pleased to report that in 2019, the Company finished the year with increased net income, strong capital levels and excellent asset quality.
Net income in 2019 was $16.1 million ($2.57 per diluted share) compared to $10.7 million ($1.71 per diluted share) in 2018. This includes
a pre-tax gain on the 2019 sale of our Branson branch of $2.2 million ($1.7 million after tax), or $0.27 per diluted common share.
Excluding this gain, non-GAAP net income for the current year was $14.4 million, or $2.30 per diluted common share, and represented a
34.5% increase over the prior year. This was achieved despite a higher effective tax rate in 2019 of 19.2% compared to 13.5% in the prior
year.
Commercial loan production is the primary driver of our increased earnings. In 2019, our loan team increased net loans by $21.8 million.
Average loans increased $57.1 million, or 5.2%, over 2018.
This additional loan volume, coupled with an increase in our net interest margin of 20 basis points, contributed to a $4.1 million, or a 9.2%
increase in net interest income over the prior year.
This significant growth was achieved without a deterioration in loan quality. The ratio of total nonperforming loans to total loans was 0.43%
at December 31, 2019, compared to 0.49% at December 31, 2018.
Additionally, in late 2019, we began to expand the bank’s capacity for secondary market home lending. This initiative will position the bank
for the capacity to handle larger mortgage volume with greater efficiency, and has included the hiring of additional experienced lending
officers and support staff, adding to the bank’s available loan products and upgrading our operating systems. An expanded mortgage program
creates greater potential for non-interest income in 2020 and beyond.
Total 2019 non-interest income was $8.9 million, excluding the Branson branch sale gain. This represents a 4.3% decrease from 2018 non-
interest income and is mostly due to market value write-downs of our mortgage servicing rights.
The bank was able to reduce total non-interest expense to $38.7 million in 2019, a $1.6 million, or 4.0%, decrease from non-interest expense
in 2018. This decrease was mostly due to a $1.5 million savings in salaries and benefits resulting from a 16.5% reduction in full-time
equivalent staff since year-end 2017. The bank remains committed to preserving local jobs while also investing in new technologies that
meet customer demands for accessible and economical tools and services, all the while maintaining the high level of service our customers
have come to expect from our bank.
The bank continues to maintain a strong capital position and finished the year with 10.73% in leverage capital and 14.89% in total risk-based
capital, far exceeding the minimum regulatory requirements.
In 2019, we maintained strong asset quality while achieving sustainable growth. We have increased our net interest margin and reduced
costs to improve efficiencies. I am committed to further improving earnings performance, sustaining sound and proper capital levels, and
paying regular dividends.
As we begin 2020 with a strong capital base and healthy loan volume, we look forward to providing accessible and competitive banking
services for our community. Hawthorn's staff, management, Board of Directors and Advisory Board members are committed to continuing
the growth of our strong local bank and delivering long-term value to our shareholders.
We appreciate your support and the referrals you give prospective customers to your bank.
Sincerely,
David T. Turner,
Chairman & Chief Executive Officer
A WORD CONCERNING FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements with respect to the financial condition, results of operations, plans, objectives, future
performance and business of the Company, Hawthorn Bancshares, Inc., and its subsidiaries, including, without limitation:
•
•
statements that are not historical in nature, and
statements preceded by, followed by or that include the words believes, expects, may, will, should, could, anticipates, estimates,
intends or similar expressions.
Forward-looking statements are not guarantees of future performance or results. They involve risks, uncertainties and assumptions. Actual
results may differ materially from those contemplated by the forward-looking statements due to, among others, the following factors:
•
•
•
•
•
•
•
competitive pressures among financial services companies may increase significantly,
changes in the interest rate environment may reduce interest margins,
general economic conditions, either nationally or in Missouri, may be less favorable than expected and may adversely affect the
quality of our loans and other assets,
increases in non-performing assets in the Company's loan portfolios and adverse economic conditions may necessitate increases to
our provisions for loan losses,
costs or difficulties related to the integration of the business of the Company and its acquisition targets may be greater than expected,
legislative, regulatory, or tax law changes may adversely affect the business in which the Company and its subsidiaries are engaged,
and
changes may occur in the securities markets.
We have described under the caption Risk Factors in the Company's Annual Report on Form 10-K for the year ended December 31, 2019,
and in other reports filed with the SEC from time to time, additional factors that could cause actual results to be materially different from
those described in the forward-looking statements. Other factors that have not been identified in this report could also have this effect. You
are cautioned not to put undue reliance on any forward-looking statement, which speak only as of the date they were made.
2
HAWTHORN BANCSHARES, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
CONSOLIDATED FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
Crucial to the Company's community banking strategy is growth in its commercial banking services, retail mortgage lending and retail
banking services. Through the branch network of its subsidiary bank, Hawthorn Bank (the Bank), the Company, with $1.5 billion in assets
at December 31, 2019, provides a broad range of commercial and personal banking services. The Bank's specialties include commercial
banking for small and mid-sized businesses, including equipment, operating, commercial real estate, Small Business Administration (SBA)
loans, and personal banking services including real estate mortgage lending, installment and consumer loans, certificates of deposit,
individual retirement and other time deposit accounts, checking accounts, savings accounts, and money market accounts. Other financial
services that the Company provides include trust services that include estate planning, investment and asset management services and a
comprehensive suite of cash management services. The geographic areas in which the Company provides products and services include the
Missouri communities in and surrounding Jefferson City, Columbia, Clinton, Warsaw, Springfield, and the greater Kansas City metropolitan
area.
The Company's primary source of revenue is net interest income derived primarily from lending and deposit taking activities. Much of the
Company's business is commercial, commercial real estate development, and residential mortgage lending. The Company's income from
mortgage brokerage activities is directly dependent on mortgage rates and the level of home purchases and refinancing activity.
The success of the Company's growth strategy depends primarily on the ability of its banking subsidiary to generate an increasing level of
loans and deposits at acceptable risk levels and on acceptable terms without significant increases in non-interest expenses relative to revenues
generated. The Company's financial performance also depends, in part, on its ability to manage various portfolios and to successfully
introduce additional financial products and services by expanding new and existing customer relationships, utilizing improved technology,
and enhancing customer satisfaction. Furthermore, the success of the Company's growth strategy depends on its ability to maintain sufficient
regulatory capital levels during periods in which general economic conditions are unfavorable and despite economic conditions being beyond
its control.
The Company's subsidiary bank is a full-service bank conducting a general banking business, offering its customers checking and savings
accounts, debit cards, certificates of deposit, safety deposit boxes and a wide range of lending services, including commercial and industrial
loans, residential real estate loans, single payment personal loans, installment loans and credit card accounts. In addition, the Bank provides
trust services.
The deposit accounts of the Bank are insured by the Federal Deposit Insurance Corporation (FDIC) to the extent provided by law. The
operations of the Bank are supervised and regulated by the FDIC and the Missouri Division of Finance. Periodic examinations of the Bank
are conducted by representatives of the FDIC and the Missouri Division of Finance. Such regulations, supervision and examinations are
principally for the benefit of depositors, rather than for the benefit of shareholders. The Company is subject to supervision and examination
by the Board of Governors of the Federal Reserve System.
3
SELECTED CONSOLIDATED FINANCIAL DATA
The following table presents selected consolidated financial information for the Company as of and for each of the years in the five-years
ended December 31, 2019. The selected consolidated financial data should be read in conjunction with the Consolidated Financial Statements
of the Company, including the related notes, presented elsewhere herein.
Selected Financial Data
Income Statement Data
(In thousands, except per share data)
Interest income
Interest expense
Net interest income
Provision for loan losses
Net interest income after provision for loan losses
Non-interest income
Investment securities (losses) gains, net
Gain on branch sale, net
Non-interest expense
Income before income taxes
Income tax expense
Net income
Per Share Data
Basic earnings per share
Diluted earnings per share
Cash dividends paid on common stock
Common stock dividend
Book value per share
Market price per share
Basic weighted average shares of common stock outstanding
Diluted weighted average shares of common stock outstanding
2019
63,970 $
15,232
48,738
1,150
47,588
8,937
(40)
2,183
38,731
19,937
3,823
16,114 $
$
$
2018
57,779 $
13,186
44,593
1,475
43,118
9,341
255
—
40,332
12,382
1,668
10,714 $
2017
50,935 $
8,007
42,928
1,765
41,163
8,950
5
—
38,802
11,316
7,902
3,414 $
2016
46,010 $
5,663
40,347
1,425
38,922
8,315
602
—
36,807
11,032
3,750
7,282 $
2015
45,756
4,999
40,757
250
40,507
9,158
8
—
36,494
13,179
4,580
8,599
$
2.57 $
2.57
2,684
5,795
18.33
25.50
1.35
1.35
1,058
2,847
13.72
13.46
6,276,236 6,268,050 6,300,237 6,339,556 6,361,220
6,276,236 6,273,294 6,305,954 6,339,556 6,361,220
0.54 $
0.54
1,474
4,166
14.50
19.18
1.71 $
1.71
1,993
5,014
15.86
20.22
1.15 $
1.15
1,097
3,149
14.36
15.74
4
2020
2019
2018
2017
2016
(In thousands)
Balance Sheet Data (at year end)
Total assets
Net loans
Investment securities
Total deposits
Federal Home Loan Bank advances and other borrowings
Subordinated notes
Total stockholders' equity
Balance Sheet Data (average balances)
Total assets
Net loans
Investment securities
Total deposits
Federal Home Loan Bank advances and other borrowings
Subordinated notes
Total stockholders' equity
$ 1,492,962
1,156,748
180,901
1,186,521
96,919
49,486
115,038
$ 1,479,035
1,142,495
205,598
1,185,216
97,443
49,486
109,103
$ 1,492,962
1,156,748
180,901
1,186,521
96,919
49,486
115,038
$ 1,446,160
1,086,163
242,806
1,169,243
81,945
49,486
93,615
$ 1,429,216
1,057,580
237,579
1,125,812
121,382
49,486
91,371
$ 1,352,343
1,013,702
226,911
1,068,487
98,383
49,486
95,116
$ 1,287,048
964,143
224,308
1,010,666
93,392
49,486
91,017
$ 1,251,741
904,069
243,169
997,514
67,212
49,486
91,401
$ 1,200,921
856,476
243,091
947,197
50,000
49,486
87,286
$ 1,199,061
852,514
242,740
975,036
48,474
49,486
84,818
Key Ratios
Earnings Ratios
Return on average total assets
Return on average common stockholders' equity
Efficiency ratio (3)
Net interest spread
Net interest margin
Asset Quality Ratios
Allowance for loan losses to loans
Non-performing loans to loans (1)
Non-performing assets to loans (2)
Non-performing assets to assets (2)
Allowance for loan losses to non-performing loans
Net loan charge-offs to average loans
Capital Ratios
Average stockholders' equity to average total assets
Period-end stockholders' equity to period-end assets
Total risk-based capital ratio
Tier 1 risk-based capital ratio
Common equity Tier 1 capital
Tier 1 leverage ratio
1.09 %
0.74 %
14.77
67.15
3.20
3.51
11.45
74.78
3.06
3.31
0.25 %
3.59
74.79
3.24
3.41
0.58 %
7.97
75.64
3.36
3.48
0.72 %
10.14
73.10
3.59
3.69
1.07 %
0.43
1.53
1.20
246.09
0.03
1.02 %
0.49
1.60
1.30
208.97
0.06
1.02 %
0.56
1.80
1.34
180.87
0.08
1.02 %
0.36
1.81
1.37
282.94
0.02
1.00 %
0.51
2.36
1.70
194.48
0.09
7.38 %
7.71
14.89
13.04
9.86
10.73
6.47 %
6.71
13.28
11.21
8.48
9.55
7.03 %
6.39
12.93
10.72
8.04
9.33
7.30 %
7.07
13.88
11.42
8.61
9.87
7.07 %
7.27
14.78
12.03
9.04
9.84
(1) Non-performing loans consist of nonaccrual loans, non-performing troubled debt restructurings and loans contractually past due 90 days or more and still accruing
interest.
(2) Non-performing assets consist of nonperforming loans and other real estate owned and repossessed assets.
(3) Efficiency ratio is calculated as non-interest expense as a percentage of revenue. Total revenue includes net interest income and non-interest income.
Non-GAAP Financial Measures
The financial measures in the table below include items that are non-GAAP, meaning they are not presented in accordance with generally
accepted accounting principles (GAAP) in the U.S. The non-GAAP items presented are non-GAAP net income, non-GAAP basic earnings
per share, non-GAAP diluted earnings per share, non-GAAP return on average assets and non-GAAP return on average common equity. In
2019, these measures include the adjustment to exclude the impact of the gain on the sale of the Company's Branson branch that closed
during the quarter ended March 31, 2019, which is non-recurring and not considered indicative of underlying earnings performance. In 2017,
these measures include adjustments to exclude the transitional impact of the Tax Cuts and Jobs Act (Tax Act) and the Company's
implementation of new tax planning initiatives, which are non-recurring and not considered indicative of underlying earnings performance.
The adjustments do not include the ongoing impacts of the lower U.S. statutory rate under the Tax Act on 2018 earnings. The Company
believes that the exclusion of these items provides a useful basis for evaluating the Company's underlying performance, but should not be
5
considered in isolation and is not in accordance with, or a substitute for, evaluating performance utilizing GAAP financial information. The
Company uses non-GAAP measures to analyze its financial performance and to make financial comparisons to prior periods presented on a
similar basis. The Company believes that providing such adjusted results allows investors to better understand the Company's comparative
operating performance for the periods presented. Non-GAAP measures are not formally defined by GAAP or codified in the federal banking
regulations, and other entities may use calculation methods that differ from those used by the Company. The Company has reconciled each
of these measures to a comparable GAAP measure below:
Income Statement Data
(In thousands, except per share data)
Net income - GAAP
Effect of net deferred tax asset adjustments (a)
Effect of net gain on branch sale (b)
Net income - non-GAAP
Per Share Data
Basic earnings per share - GAAP
Effect of net deferred tax asset adjustments (a)
Effect of net gain on branch sale (b)
Basic earnings per share - non-GAAP
Diluted earnings per share - GAAP
Effect of net deferred tax asset adjustments (a)
Effect of net gain on branch sale (b)
Diluted earnings per share - non-GAAP
Key Ratios
Return on average total assets - GAAP
Effect of net deferred tax asset adjustments (a)
Effect of net gain on branch sale (b)
Return on average total assets - non-GAAP
Return on average stockholders' equity - GAAP
Effect of net deferred tax asset adjustments (a)
Effect of net gain on branch sale (b)
Return on average stockholders' equity - non-GAAP
2019
$ 16,114
—
(1,725)
$ 14,389
2018
$ 10,714
—
—
$ 10,714
2017
$ 3,414
4,105
—
$ 7,519
2016
$ 7,282
—
—
$ 7,282
2015
$ 8,599
—
—
$ 8,599
$ 2.57
—
(0.27)
$ 2.30
$ 2.57
—
(0.27)
$ 2.30
$
$
$
$
1.71
—
—
1.71
1.71
—
—
1.71
$
$
$
$
0.54
0.68
—
1.22
0.54
0.68
—
1.22
$ 1.15
—
—
$ 1.15
$ 1.15
—
—
$ 1.15
$ 1.35
—
—
$ 1.35
$ 1.35
—
—
$ 1.35
1.09 %
— %
(0.12)%
0.97 %
0.74 %
— %
— %
0.74 %
14.77 % 11.45 %
— %
— %
13.19 % 11.45 %
— %
(1.58)%
0.25 %
0.31 %
— %
0.56 %
3.59 %
4.32 %
— %
7.91 %
0.72 %
0.58 %
— %
— %
— %
— %
0.58 %
0.72 %
7.97 % 10.14 %
— %
— %
7.97 % 10.14 %
— %
— %
(a) Calculated using the difference in combined statutory rates of 38% for 2017 and 21% for subsequent years.
(b) The pre-tax gain on the sale of the Branson Branch was $2.2 million and $1.7 million after tax for the year ended December 31, 2019.
CRITICAL ACCOUNTING POLICIES
The following accounting policies are considered most critical to the understanding of the Company's financial condition and results of
operations. These critical accounting policies require management's most difficult, subjective and complex judgments about matters that are
inherently uncertain. Because these estimates and judgments are based on current circumstances, they may change over time or prove to be
inaccurate based on actual experiences. In the event that different assumptions or conditions were to prevail, and depending upon the severity
of such changes, the possibility of a materially different financial condition and/or results of operations could reasonably be expected. The
impact and any associated risks related to the Company's critical accounting policies on its business operations are discussed throughout
Management's Discussion and Analysis of Financial Condition and Results of Operations, where such policies affect the reported and
expected financial results.
Allowance for Loan Losses
Management has identified the accounting policy related to the allowance for loan losses (ALL) as critical to the understanding of the
Company's results of operations, since the application of this policy requires significant management assumptions and estimates that could
result in materially different amounts to be reported if conditions or underlying circumstances were to change. Further discussion of the
methodology used in establishing the allowance and the impact of any associated risks related to these policies on the Company's business
operations is provided in Note 1 to the Company's consolidated financial statements and is also discussed in the Lending and Credit
Management section below.
6
RESULTS OF OPERATIONS ANALYSIS
The Company has prepared all of the consolidated financial information in this report in accordance with accounting principles generally
accepted in the United States of America (U.S. GAAP). In preparing the consolidated financial statements in accordance with U.S. GAAP,
the Company makes estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and
liabilities at the date of the consolidated financial statements, and the reported amounts of revenue and expenses during the reporting period.
There can be no assurances that actual results will not differ from those estimates.
$ Change
% Change
(In thousands)
Net interest income
Provision for loan losses
Non-interest income
Investment securities (losses) gains, net
Gain on branch sale, net
Non-interest expense
Income before income taxes
Income tax expense
Net income
NM - not meaningful
2019
2018
2017
'19-'18
18-'17
'19-'18
$ 48,738 $ 44,593 $ 42,928 $ 4,145 $ 1,665
(290)
391
250
—
1,530
1,066
(6,234)
$ 16,114 $ 10,714 $ 3,414 $ 5,400 $ 7,300
1,765
8,950
5
—
38,802
11,316
7,902
1,475
9,341
255
—
40,332
12,382
1,668
1,150
8,937
(40)
2,183
38,731
19,937
3,823
(325)
(404)
(295)
2,183
(1,601)
7,555
2,155
9.3 %
'18-'17
3.9 %
(22.0)
(4.3)
(115.7)
100.0
(4.0)
61.0
129.2
50.4 % 213.8 %
(16.4)
4.4
NM
—
3.9
9.4
(78.9)
Consolidated net income increased $5.4 million to $16.1 million, or $2.57 per diluted share, for the year ended December 31, 2019 compared
to $10.7 million, or $1.71 per diluted share, for the year ended December 31, 2018. For the year ended December 31, 2019, the return on
average assets (ROA) was 1.09%, the return on average stockholders' equity (ROE) was 14.77%, and the efficiency ratio was 67.15%.
Consolidated net income increased $7.3 million to $10.7 million, or $1.71 per diluted share, for the year ended December 31, 2018 compared
to $3.4 million, or $0.54 per diluted share, for the year ended December 31, 2017. For the year ended December 31, 2018, the return on
average assets (ROA) was 0.74%, the return on average stockholders' equity (ROE) was 11.45%, and the efficiency ratio was 74.78%.
Net interest income was $48.7 million for the year ended December 31, 2019 compared to $44.6 million and $42.9 million for the years
ended December 31, 2018 and 2017, respectively. The net interest margin was 3.51% for the year ended December 31, 2019 compared to
3.31% and 3.41% for the years ended December 31, 2018 and 2017, respectively.
A $1.2 million provision for loan losses was recorded for the year ended December 31, 2019 compared to a $1.5 million and $1.8 million
provision for the years ended December 31, 2018 and 2017, respectively.
The Company's net charge-offs for the year ended December 31, 2019, were $325,000, or 0.03% of average loans compared to $675,000,
or 0.06% of average loans for the year ended December 31, 2018, and $799,000, or 0.08% of average loans for the year ended December
31, 2017.
Non-performing loans totaled $5.1 million, or 0.43% of total loans, at December 31, 2019 compared to $5.6 million, or 0.49% of total loans
at December 31, 2018, and $6.0 million, or 0.56% of total loans, at December 31, 2017.
Non-interest income decreased $404,000, or 4.3%, for the year ended December 31, 2019 compared to the year ended December 31, 2018,
and increased $391,000, or 4.4%, for the year ended December 31, 2018 compared to the year ended December 31, 2017. These changes are
discussed in greater detail below under Non-interest Income.
Investment securities (losses) gains, net of $(40,000) were recorded for the year ended December 31, 2019 compared to $255,000 and
$5,000 for the years ended December 31, 2018 and 2017, respectively. Securities gains for the year ended December 31, 2018 included gains
realized from a series of short term sales of U.S. Treasury securities with repurchase agreements in order to generate capital gains to offset
capital losses expiring in 2018 and 2019.
Non-interest expense decreased $1.6 million, or 4.0%, for the year ended December 31, 2019 compared to the year ended December 31,
2018, and increased $1.5 million, or 3.9%, for the year ended December 31, 2018, compared to the year ended December 31, 2017. These
changes are discussed in greater detail below under Non-interest Expense.
7
Average Balance Sheets
Net interest income is the largest source of revenue resulting from the Company's lending, investing, borrowing, and deposit gathering
activities. It is affected by both changes in the level of interest rates and changes in the amounts and mix of interest earning assets and interest
bearing liabilities. The following table presents average balance sheets, net interest income, average yields of earning assets, average costs
of interest bearing liabilities, net interest spread and net interest margin on a fully taxable equivalent basis for each of the years in the three
year periods ended December 31, 2019, 2018, and 2017, respectively.
(In thousands)
ASSETS
Loans: (2) (3)
Commercial
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total loans
Investment securities:
U.S. Treasury
U.S. government and federal agency
obligations
Obligations of states and political subdivisions
Mortgage-backed securities
Other debt securities
Total investment securities
Other investment securities
Federal funds sold and interest bearing
deposits in other financial institutions
Total interest earning assets
All other assets
Allowance for loan losses
Total assets
LIABILITIES AND STOCKHOLDERS'
EQUITY
NOW accounts
Savings
Interest checking
Money market
Time deposits
Total interest bearing deposits
Federal funds purchased and securities sold
under agreements to repurchase
Federal Home Loan Bank advances and other
borrowings
Subordinated notes
Total borrowings
Total interest bearing liabilities
Demand deposits
Other liabilities
Total liabilities
Stockholders' equity
Total liabilities and stockholders' equity
Net interest income (FTE)
Net interest spread
Net interest margin
2019
Interest
Rate
Income/ Earned/
Average
Expense(1) Paid(1) Balance
2018
Interest
Rate
Income/ Earned/
Average
Expense(1) Paid(1) Balance
2017
Interest
Rate
Income/ Earned/
Expense(1) Paid(1)
Average
Balance
$ 201,062 $
25,953
116,944
248,688
530,090
31,741
$ 1,154,478 $
11,051
1,553
6,086
12,697
25,939
1,393
58,719
5.50 % $ 199,448 $
5.98
5.20
5.11
4.89
4.39
5.09 % $ 1,097,384 $
29,481
103,880
245,737
485,911
32,927
10,039
1,562
5,072
11,850
22,704
1,285
52,512
5.03 % $ 186,140 $
5.30
4.88
4.82
4.67
3.90
4.79 % $ 1,024,210 $
21,466
78,861
255,091
450,427
32,225
8,644
998
3,550
11,706
20,697
1,253
46,848
4.64 %
4.65
4.50
4.59
4.60
3.89
4.57 %
$
1,866 $
40
2.14 % $
13,092 $
215
1.64 % $
312 $
6
1.92 %
40,425
34,916
118,197
4,380
5,814
47,967
$ 199,784 $
$ 1,408,043 $
82,975
(11,983)
$ 1,479,035
$ 199,323 $
96,621
18,561
278,429
331,882
$ 924,816 $
780
978
2,487
251
4,536
272
53,856
41,807
124,492
4,455
1.93
2.80
2.10
5.73
2.27 % $ 237,702 $
4.68
5,104
951
1,122
2,631
247
5,166
218
47,665
46,716
122,124
4,486
1.77
2.68
2.11
5.54
2.17 % $ 221,303 $
4.27
5,608
693
1,041
2,258
232
4,230
158
1.45
2.23
1.85
5.17
1.91 %
2.82
1,125
64,652
2.38
4.59 % $ 1,372,332 $
32,142
699
58,595
2.17
4.27 % $ 1,273,965 $
22,844
267
51,503
1.17
4.04 %
85,049
(11,221)
$ 1,446,160
88,886
(10,508)
$ 1,352,343
1,978
89
330
2,845
5,155
10,397
0.99 % $ 218,328 $
0.09
1.78
1.02
1.55
1.12 % $ 922,904 $
94,964
3,249
295,982
310,381
2,131
48
34
3,220
3,419
8,852
0.98 % $ 210,780 $
0.05
1.05
1.09
1.10
0.96 % $ 829,148 $
98,051
1,514
224,076
294,727
1,114
50
12
1,153
2,230
4,559
0.53 %
0.05
0.79
0.51
0.76
0.55 %
22,528
140
0.62
39,564
603
1.52
29,512
113
0.38
97,443
49,486
$ 169,457 $
$ 1,094,273 $
260,400
15,259
1,369,932
109,103
$ 1,479,035
2,338
2,376
4,854
15,251
81,945
49,486
2.40
4.80
2.86 % $ 170,995 $
1.39 % $ 1,093,899 $
1,517
2,229
4,349
13,201
98,383
49,486
1.85
4.50
2.54 % $ 177,381 $
1.21 % $ 1,006,529 $
1,590
1,751
3,454
8,013
1.62
3.54
1.95 %
0.80 %
246,339
12,307
1,352,545
93,615
$ 1,446,160
239,339
11,359
1,257,227
95,116
$ 1,352,343
$
49,401
$
45,394
$
43,490
3.20 %
3.51 %
3.06 %
3.31 %
3.24 %
3.41 %
(1)
Interest income and yields are presented on a fully taxable equivalent basis using the federal statutory income tax rate of 21%, net of nondeductible interest expense for
the years ended December 31, 2019 and 2018, and 34%, net of nondeductible interest expense for the year ended December 31, 2017. Such adjustments totaled $682,000,
$816,000 and $568,000 for the years ended December 31, 2019, 2018 and 2017, respectively.
(2) Non-accruing loans are included in the average amounts outstanding.
(3) Fees and costs on loans are included in interest income.
8
$ 1,012 $
82 $
Rate and volume analysis
The following table summarizes the changes in net interest income on a fully taxable equivalent basis, by major category of interest earning
assets and interest bearing liabilities, identifying changes related to volumes and rates for the years ended December 31, 2019, compared to
December 31, 2018, and for the years ended December 31, 2018 compared to December 31, 2017. The change in interest due to the combined
rate/volume variance has been allocated to rate and volume changes in proportion to the absolute dollar amounts of change in each.
2019
Change due to
2018
Change due to
Total
Average
Change Volume
Average
Rate
Total
Average
Change Volume
Average
Rate
(In thousands)
Interest income on a fully taxable equivalent basis: (1)
Loans: (2) (4)
Commercial
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Investment securities: (3)
U.S. Treasury
U.S. government and federal agency obligations
Obligations of states and political subdivisions
Mortgage-backed securities
Other debt securities
Other investment securities
Federal funds sold and interest bearing deposits in other financial institutions
Total interest income
Interest expense:
NOW accounts
Savings
Interest checking
Money market
Time deposits
Federal funds purchased and securities sold under agreements to repurchase
Federal Home Loan Bank advances and other borrowings
Subordinated notes
Total interest expense
Net interest income on a fully taxable equivalent basis
(9)
1,014
847
3,235
108
(175)
(171)
(144)
(144)
4
54
426
6,057
(153)
41
296
(375)
1,736
(463)
821
147
2,050
$ 4,007 $
(199)
666
143
2,128
(47)
(226)
(253)
(191)
(132)
(4)
32
367
2,366
(189)
1
258
(185)
251
(195)
320
—
261
930 $ 1,395 $
190
348
704
1,107
155
564
1,522
144
2,007
32
51
82
47
(12)
8
22
59
3,691
36
40
38
(190)
1,485
(268)
501
147
1,789
209
258
81
373
15
60
432
7,092
1,017
(2)
22
2,067
1,189
490
(73)
478
5,188
2,105 $ 1,902 $ 1,904 $
642 $
411
1,201
(438)
1,653
27
753
153
321
582
354
5
210
97
(117)
45
(2)
(15)
139
3,853
(1)
161
198
328
17
76
293
3,240
41
(2)
17
462
124
50
(287)
—
405
976
—
5
1,605
1,065
440
214
478
4,783
3,448 $ (1,543)
(1)
Interest income and yields are presented on a fully taxable equivalent basis using the federal statutory income tax rate of 21%, net of nondeductible interest expense for
the years ended 2019 and 2018, and 34%, net of nondeductible interest expense for the year ended 2017. Such adjustments totaled $682,000, $816,000 and $568,000 for
the years ended December 31, 2019, 2018 and 2017, respectively.
(2) Non-accruing loans are included in the average amounts outstanding.
(3) Fees and costs on loans are included in interest income.
Financial results for the year ended December 31, 2019 compared to the year ended December 31, 2018 reflected an increase in net interest
income, on a tax equivalent basis, of $4.0 million, or 8.8%, and financial results for the year ended December 31, 2018 compared to the year
ended December 31, 2017 reflected an increase of $1.9 million, or 4.4%.
Measured as a percentage of average earning assets, the net interest margin (expressed on a fully taxable equivalent basis) increased to 3.51%
for the year ended December 31, 2019, compared to 3.31% and 3.41% for the years ended December 31, 2018 and 2017, respectively.
The increase in net interest income and net interest margin for 2019 over 2018 was primarily due to an increase in average balances and
rates earned on loans. This was coupled with a more moderate increase in rates paid on interest-bearing liabilities primarily due to reducing
the rate paid on a money market special account in February 2019 and the loss of a high earning public fund account in June 2019. The
increase in net interest income for 2018 over 2017 was primarily due to an increase in average earning assets while the decrease in the net
interest margin was primarily due to a 41 basis point increase in the rates paid on average interest bearing liabilities. The prime rate was
4.75% at December 31, 2019 compared to 5.50% and 4.50% at December 31, 2018 and 2017, respectively.
9
Average interest-earning assets increased $35.7 million, or 2.6%, to $1.41 billion for the year ended December 31, 2019 compared to $1.37
billion for the year ended December 31, 2018, and average interest bearing liabilities increased $374,000, or 0.03%, to $1.09 billion for the
year ended December 31, 2019 compared to $1.09 billion for the year ended December 31, 2018.
Average interest-earning assets increased $98.4 million, or 7.72%, to $1.37 billion for the year ended December 31, 2018 compared to $1.27
billion for the year ended December 31, 2017, and average interest bearing liabilities increased $87.4 million, or 8.7%, to $1.09 billion for
the year ended December 31, 2018 compared to $1.00 billion for the year ended December 31, 2017.
Total interest income (expressed on a fully taxable equivalent basis) increased to $64.7 million for the year ended December 31, 2019
compared to $58.6 million and $51.5 million for the years ended December 31, 2018 and 2017, respectively. The Company's rates earned
on interest earning assets were 4.59% for the year ended December 31, 2019 compared to 4.27% and 4.04% for the years ended December
31, 2018 and 2017, respectively.
Interest income on loans increased to $58.7 million for the year ended December 31, 2019 compared to $52.5 million and $46.8 million for
the years ended December 31, 2018 and 2017, respectively.
Average loans outstanding increased $57.1 million, or 5.2%, to $1.15 billion for the year ended December 31, 2019 compared to $1.10
billion for the year ended December 31, 2018. The average yield on loans receivable increased to 5.09% during the year ended December
31, 2019 compared to 4.79% for the year ended December 31, 2018.
Average loans outstanding increased $73.2 million, or 7.1%, to $1.10 billion for the year ended December 31, 2018 compared to $1.02
billion for the year ended December 31, 2017. The average yield on loans receivable increased to 4.79% during the year ended December
31, 2018 compared to 4.57% for the year ended December 31, 2017. See the Lending and Credit Management section for further discussion
of changes in the composition of the lending portfolio.
Total interest expense was $15.3 million for the year ended December 31, 2019 compared to $13.2 million and $8.0 million for the years
ended December 31, 2018 and 2017, respectively. The Company's rates paid on interest bearing liabilities was 1.39% for the year ended
December 31, 2019 compared to 1.21% and 0.80% for the years ended December 31, 2018 and 2017, respectively. See the Liquidity
Management section for further discussion.
Interest expense on deposits was $10.4 million for the year ended December 31, 2019 compared to $8.9 million and $4.6 million for the
years ended December 31, 2018 and 2017, respectively.
Average interest bearing deposits increased $1.9 million, or 0.21%, to $924.8 million for the year ended December 31, 2019 compared to
$922.9 million for the year ended December 31, 2018. The average cost of deposits increased to 1.12% during the year ended December 31,
2019 compared to 0.96% for the year ended December 31, 2018.
Average interest bearing deposits increased $93.8 million, or 11.3%, to $922.9 million for the year ended December 31, 2018 compared to
$829.1 million for the year ended December 31, 2017. The average cost of deposits increased to 0.96% during the year ended December 31,
2018 compared to 0.55% for the year ended December 31, 2017.
Interest expense on borrowings was $4.9 million for year ended December 31, 2019 compared to $4.3 million and $3.5 million for the
years ended December 31, 2018 and 2017, respectively. Average borrowings were $169.5 million for the year ended December 31, 2019
compared to $171.0 million and $177.4 million for the years ended December 31, 2018 and 2017, respectively. See the Liquidity Management
section for further discussion.
10
Non-interest Income and Expense
Non-interest income for the years ended December 31, 2019, 2018, and 2017 was as follows:
(In thousands)
Non-interest income
Service charges and other fees
Bank card income and fees
Trust department income
Real estate servicing fees, net
Gain on sales of mortgage loans, net
Other
Total non-interest income
Non-interest income as a % of total revenue *
2019
2018
2017
'19-'18
'18-'17
'19-'18
'18-'17
`
$ Change
% Change
$
$ 3,611
3,061
1,237
39
771
218
$ 8,937
$ 3,736
2,754
1,166
794
721
170
$ 9,341
$ 3,437
2,614
1,137
740
770
252
$ 8,950
15.5 %
17.3 %
$
17.3 %
(125) $
307
71
(755)
50
48
(404) $
299
140
29
54
(49)
(82)
391
(3.3) %
11.1
6.1
(95.1)
6.9
28.2
(4.3) %
8.7 %
5.4
2.6
7.3
(6.4)
(32.5)
4.4 %
* Total revenue is calculated as net interest income plus non-interest income.
Total non-interest income decreased $404,000, or 4.3%, to $8.9 million for the year ended December 31, 2019 compared to the year ended
December 31, 2018, and increased $391,000, or 4.4%, to $9.3 million for the year ended December 31, 2018 compared to the year ended
December 31, 2017.
Bank card income and fees increased $307,000, or 11.1%, to $3.1 million for the year ended December 31, 2019 compared to the year
ended December 31, 2018, and increased $140,000, or 5.4%, to $2.8 million for the year ended December 31, 2018 compared to the year
ended December 31, 2017. The increase in all years presented was mainly the result of higher transaction volume in debit and credit card
fees.
Real estate servicing fees, net of the change in valuation of mortgage serving rights (MSRs) decreased $755,000, or 95.1%, to $39,000 for
the year ended December 31, 2019 compared to the year ended December 31, 2018, and increased $54,000, or 7.3%, to $794,000 for the
year ended December 31, 2018 compared to the year ended December 31, 2017. The decrease in the year ended 2019 over the year ended
2018 was primarily due to decreases in fair value of the MSRs from increased loan prepayments assumptions resulting from lower market
interest rates. The increase in the year ended 2018 over the year ended 2017 was primarily due to higher MSR valuations resulting from
slower prepayment speed assumptions in a higher rate environment.
Mortgage loan servicing fees earned on loans sold were $778,000 for the year ended December 31, 2019 compared to $821,000 and $833,000
for the years ended 2018 and 2017, respectively. The Company was servicing $271.4 million of mortgage loans at December 31, 2019
compared to $279.9 million and $285.8 million at December 31, 2018 and 2017, respectively.
Gain on sales of mortgage loans increased $50,000, or 6.9%, to $771,000 for the year ended December 31, 2019 compared to the year
ended December 31, 2018, and decreased $49,000, or 6.4%, to $721,000 for the year ended December 31, 2018 compared to the year ended
December 31, 2017. The Company sold loans totaling $44.3 million for the year ended December 31, 2019 compared to $37.0 million and
$33.8 million for the years ended December 31, 2018 and 2017, respectively. The increase for the year ended 2019 over the year ended 2018
was primarily due to an increase in refinancing activity due to the decrease in market interest rates. Although the volume of loans sold in
2018 increased from 2017, the marginal price of the 2018 volume was lower than 2017 leading to reduced income.
Other income increased $48,000, or 28.2%, to $218,000 for the year ended December 31, 2019 compared to the year ended December 31,
2018, and decreased $82,000, or 32.5%, to $170,000 for the year ended December 31, 2018 compared to the year ended December 31, 2017.
The increase in the year ended 2019 over 2018 was primarily due to an increase in rental income received from other real estate owned. The
decrease in the year ended 2018 over 2017 was primarily due to changes in brokerage income. During 2018, the Company transitioned into
a new relationship with a financial services provider causing a temporary disruption in brokerage services.
11
Investment securities (losses) gains, net for the years ended December 31, 2019, 2018, and 2017 was as follows:
(in thousands)
Investment securities (losses) gains, net
Available for sale securities:
Gains realized on sales
Losses realized on sales
Other-than-temporary impairment recognized
Other investment securities:
Fair value adjustments, net
Investment securities (losses) gains, net
2019
2018
2017
$
6 $
253 $
(46)
—
—
—
$
—
(40) $
2
255 $
38
(33)
—
—
5
During the year ended December 31, 2019, the Company received $21.5 million of proceeds from the sale of available for sale debt securities
and recognized a net loss of $40,000, compared to $77.2 million and $11.7 million of proceeds and recognized net gains of $253,000 and
$5,000 for the years ended December 31, 2018 and 2017, respectively.
The sale transaction in 2019 provided liquidity necessary to fund the replacement of a major deposit account relationship. During 2018, the
Company entered into a sale of a series of short term U.S. Treasury securities purchased with repurchase agreements in order to generate
capital gains to offset capital losses that were to expire during 2018 and 2019. The sale transaction in 2017 was the result of bond sales and
purchases to replace several smaller holdings with fewer, larger investments without materially changing the duration or yield of the
investment portfolio.
Non-interest expense for the years ended December 31, 2019, 2018, and 2017 was as follows:
(In thousands)
Non-interest expense
Salaries
Employee benefits
Occupancy expense, net
Furniture and equipment expense
Processing, network and bank card expense
Legal, examination, and professional fees
Advertising and promotion
Postage, printing, and supplies
Other
Total non-interest expense
Efficiency ratio*
Number of full-time equivalent employees
2019
2018
2017
19-'18
'18-'17
19-'18
'18-'17
$ Change
% Change
$ 15,876
5,721
3,122
2,847
3,882
1,211
1,256
871
3,945
$ 38,731
$ 17,109
5,995
2,957
3,001
3,484
1,223
1,233
996
4,334
$ 40,332
$ 16,227
5,492
2,782
2,683
3,643
1,308
1,255
925
4,487
$ 38,802
$ (1,233) $ 882
(7.2)%
503
(4.6)
175
5.6
318
(5.1)
(159)
11.4
(85)
(1.0)
1.9
(22)
71 (12.6)
(9.0)
(4.0)%
(274)
165
(154)
398
(12)
23
(125)
(389)
(153)
$ (1,601) $ 1,530
5.4 %
9.2
6.3
11.9
(4.4)
(6.5)
(1.8)
7.7
(3.4)
3.9 %
67.2 %
278
74.8 %
288
74.8 %
333
* Efficiency ratio is calculated as non-interest expense as a percentage of total revenue. Total revenue includes net interest income and non-interest
income.
Total non-interest expense decreased $1.6 million, or 4.0%, to $38.7 million for the year ended December 31, 2019 compared to the year
ended December 31, 2018, and increased $1.5 million, or 3.9%, to $40.3 million for the year ended December 31, 2018 compared to the
year ended December 31, 2017.
Salaries decreased $1.2 million, or 7.2%, to $15.9 million for the year ended December 31, 2019 compared to the year ended December 31,
2018, and increased $882,000, or 5.4%, to $17.1 million for the year ended December 31, 2018 compared to the year ended December 31,
2017. The decrease for the year ended 2019 over the year ended 2018 was primarily due to a reduction of full-time equivalent (FTE)
employees during the year. FTE staff decreased 55, or 16.5%, since December 31, 2017. The increase for the year ended 2018 over the year
ended 2017 was primarily due to a bonus that was paid in February 2018 to all eligible full-time and part-time employees as a result of the
expected tax savings from the Tax Act, and 3.0% average cost of living increases paid in January 2018.
12
Employee benefits decreased $274,000, or 4.6%, to $5.7 million for the year ended December 31, 2019 compared to the year ended
December 31, 2018, and increased $503,000, or 9.2%, to $6.0 million for the year ended December 31, 2018 compared to the year ended
December 31, 2017. The decrease for the year ended 2019 over the year ended 2018 was primarily due to a reduction in medical plan
premiums due to a reduction of staff mentioned above, and a reduction in the periodic pension cost due to a higher assumed discount rate,
partially offset by an increase in the 401(k) and profit-sharing contribution. The increase for the year ended 2018 over the year ended 2017
was primarily due to an increase in periodic pension cost due to a lower assumed discount rate.
Furniture and equipment expense decreased $154,000, or 5.1%, to $2.8 million for the year ended December 31, 2019 compared to the
year ended December 31, 2018, and increased $318,000, or 11.9%, to $3.0 million for the year ended December 31, 2018 compared to the
year ended December 31, 2017. The changes in the Company's furniture and equipment expense in the years presented were primarily due
to expenses incurred for the new Columbia branch opening in 2019, upgrades to the Company's data processing infrastructure changing to
a hosted network environment that began in 2017, and replacement of several computers below the Company's capitalization threshold.
Processing, network, and bank card expense increased $398,000, or 11.4%, to $3.9 million for the year ended December 31, 2019 compared
to the year ended December 31, 2018, and decreased $159,000, or 4.4%, to $3.5 million for the year ended December 31, 2018 compared to
the year ended December 31, 2017. The increase for the year ended 2019 over 2018 was primarily due to a credit card software conversion
and an increase in debit and credit card processing expenses. The decrease in the year ended 2018 over 2017 was due to additional one-time
costs associated with a corporate wide network upgrade and changes in processing service providers during 2017. This was partially offset
by increased debit card processing expense during 2018.
Other non-interest expense decreased $389,000, or 9.0%, to $3.9 million for the year ended December 31, 2019 compared to the year ended
December 31, 2018, and decreased $153,000, or 3.4%, to $4.3 million for the year ended December 31, 2018 compared to the year ended
December 31, 2017. The decrease for the year ended 2019 over 2018 was primarily related to a FDIC assessment credit that began reducing
the quarterly assessment in the third quarter of 2019 and will continue through the first quarter of 2020. The decrease in the year ended 2018
over 2017 was primarily due to a decrease in real estate foreclosure expenses.
Income taxes
Income taxes as a percentage of earnings before income taxes as reported in the consolidated financial statements were 19.2% for the year
ended December 31, 2019 compared to 13.5% and 69.8% for the years ended December 31, 2018 and 2017, respectively.
The year-over-year changes in the effective tax rate are primarily attributable to the prior impacts of the Tax Cuts and Jobs Act (Tax Act),
the prior impacts of the Company's state tax planning initiatives, and the increased earnings and branch sale gain in 2019. The Company's
tax rate is lower than the federal statutory rate primarily as a result of tax-exempt income. The Company expects the effective tax rate to
range between 18.5% and 19.5% going forward as the mix between taxable and tax-exempt income shifts.
Lending and Credit Management
Interest earned on the loan portfolio is a primary source of interest income for the Company. Net loans represented 77.5% of total assets as
of December 31, 2019 compared to 76.6% as of December 31, 2018.
Lending activities are conducted pursuant to an established loan policy approved by the Bank's Board of Directors. The Bank's credit review
process is overseen by regional loan committees with established loan approval limits. In addition, a senior loan committee reviews all credit
relationships in aggregate over an established dollar amount. The senior loan committee meets weekly and is comprised of senior managers
of the Bank.
13
A summary of loans, by major class within the Company's loan portfolio as of the dates indicated is as follows:
(In thousands)
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total loans
Percent of categories to total loans:
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total
2019
$ 199,022
23,035
84,998
253,071
576,635
32,464
$ 1,169,225
2018
$ 207,720
28,610
106,784
241,517
529,536
32,460
$ 1,146,627
2017
$ 192,238
26,492
98,340
246,754
472,455
32,153
$ 1,068,432
2016
$ 182,881
18,907
55,653
259,900
426,470
30,218
$ 974,029
2015
$ 149,091
16,895
33,943
256,086
385,869
23,196
$ 865,080
17.0 %
2.0
7.3
21.6
49.3
2.8
100.0 %
18.1 %
2.5
9.3
21.1
46.2
2.8
100.0 %
18.0 %
2.5
9.2
23.1
44.2
3.0
100.0 %
18.8 %
1.9
5.7
26.7
43.8
3.1
100.0 %
17.2 %
2.0
3.9
29.6
44.6
2.7
100.0 %
The Company extends credit to its local community market through traditional real estate mortgage products. The Company does not
participate in extending credit to sub-prime residential real estate markets. The Company does not lend funds for the type of transactions
defined as “highly leveraged” by bank regulatory authorities or for foreign loans. Additionally, the Company does not have any
concentrations of loans exceeding 10% of total loans that are not otherwise disclosed in the loan portfolio composition table. The Company
does not have any interest-earning assets that would have been included in nonaccrual, past due, or restructured loans if such assets were
loans.
The contractual maturities of loan categories at December 31, 2019, and the composition of those loans between fixed rate and floating rate
loans are as follows:
(In thousands)
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total loans
Loans with fixed rates
Loans with floating rates
Total loans
Principal Payments Due
Over One
Five Years
Over
Five
Years
72,172 $ 54,157 $
One Year Year Through
Or Less
$ 72,693 $
17,520
28,040
27,816
71,118
3,443
Total
199,022
23,035
84,998
253,071
576,635
32,464
$ 220,630 $ 436,553 $ 512,042 $ 1,169,225
1,351
19,740
192,102
238,761
5,931
4,164
37,218
33,153
266,756
23,090
112,998
107,632
623,064
546,161
$ 220,630 $ 436,553 $ 512,042 $ 1,169,225
124,470
387,572
385,596
50,957
The Company generally does not retain long-term fixed rate residential mortgage loans in its portfolio. Fixed rate loans conforming to
standards required by the secondary market are offered to qualified borrowers, but are not funded until the Company has a non-recourse
purchase commitment from the secondary market at a predetermined price. For the year ended December 31, 2019, the Company sold
approximately $44.3 million of loans to investors compared to $37.0 million and $33.8 million for the years ended December 31, 2018 and
2017, respectively. At December 31, 2019, the Company was servicing approximately $271.4 million of loans sold to the secondary market
compared to $279.9 million at December 31, 2018, and $285.8 million at December 31, 2017.
Risk Elements of the Loan Portfolio
Management, the senior loan committee, and internal loan review, formally review all loans in excess of certain dollar amounts (periodically
established) at least annually. Loans in excess of $2.0 million in aggregate and all adversely classified credits identified by management are
reviewed by the senior loan committee. In addition, all other loans are reviewed on a risk weighted selection process. The senior loan
14
committee reviews and reports to the board of directors, on a monthly basis, past due, classified, and watch list loans in order to classify or
reclassify loans as loans requiring attention, substandard, doubtful, or loss. During this review, management also determines which loans
should be considered impaired. Management follows the guidance provided in the FASB's ASC Topic 310-10-35 in identifying and
measuring loan impairment. If management determines that it is probable that all amounts due on a loan will not be collected under the
original terms of the loan agreement, the loan is considered to be impaired. These loans are evaluated individually for impairment, and in
conjunction with current economic conditions and loss experience, specific reserves are estimated as further discussed below. Loans not
individually evaluated are aggregated and reserves are recorded using a consistent methodology that considers historical loan loss experience
by loan type, delinquencies, current economic conditions, loan risk ratings and industry concentration. Management believes, but there can
be no assurance, that these procedures keep management informed of potential problem loans. Based upon these procedures, both the
allowance and provision for loan losses are adjusted to maintain the allowance at a level considered necessary by management to provide
for probable losses inherent in the loan portfolio.
Nonperforming Assets
The following table summarizes nonperforming assets at the dates indicated:
(In thousands)
Nonaccrual loans:
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total
Loans contractually past - due 90 days or more and still
accruing:
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total
Total non-performing loans (a)
Other real estate owned and repossessed assets
Total non-performing assets
Loans (c)
Allowance for loan losses to loans
Non-performing loans to loans (a)
Non-performing assets to loans (b)
Non-performing assets to assets (b)
Allowance for loan losses to non-performing loans
2019
2018
2017
2016
2015
$
$
$
$
$
982
—
137
2,135
1,359
141
4,754
—
—
—
304
—
12
316
5,070
12,781
17,851
$
$
$
$
$
1,857
—
153
2,720
474
210
5,414
—
—
—
156
—
6
162
5,576
13,691
19,267
$
$
$
$
$
2,507
—
97
1,956
936
176
5,672
$
$
982
—
50
1,888
420
89
3,429
$
$
308
—
102
2,322
1,542
144
4,418
2
275
—
28
—
23
328
6,000
13,182
19,182
$
—
—
—
54
—
11
65
3,494
14,162
$ 17,656
$
$
1
—
—
—
—
5
6
4,424
15,992
$ 20,416
$
$ 1,168,797
$ 1,146,044
$ 1,068,049
$ 973,867
$ 863,390
1.07 %
0.43 %
1.53 %
1.20 %
246.09 %
1.02 %
0.49 %
1.68 %
1.30 %
208.97 %
1.02 %
0.56 %
1.80 %
1.34 %
1.00 %
0.51 %
2.36 %
1.70 %
180.87 % 282.94 % 194.48 %
1.02 %
0.36 %
1.81 %
1.37 %
(a) Non-performing loans include loans 90 days past due and accruing, nonaccrual loans, and non-performing TDRs included in nonaccrual loans.
(b) Non-performing assets include non-performing loans and other real estate owned and repossessed assets.
(c) Loan totals do not include loans held for sale.
Total non-performing assets were $17.9 million, or 1.53% of total loans, at December 31, 2019 compared to $19.3 million, or 1.68% of total
loans, at December 31, 2018. Non-performing loans included $1.6 million and $2.0 million of loans classified as TDRs at December 31,
2019 and 2018, respectively.
As of December 31, 2019, approximately $9.0 million compared to $5.2 million at December 31, 2018, of loans classified as substandard,
which include performing TDRs, and are not included in the non-performing asset table, were identified as potential problem loans having
more than normal risk which raised doubts as to the ability of the borrower to comply with present loan repayment terms. Management
15
believes the general allowance was sufficient to cover the risks and probable losses related to such loans at December 31, 2019 and December
31, 2018, respectively.
Total non-accrual loans at December 31, 2019 decreased $660,000, or 12.2%, to $4.8 million compared to $5.4 million at December 31,
2018. The decrease in non-accrual loans primarily consisted of decreases in commercial, financial, and agricultural loans and real estate
mortgage residential loans, partially offset by an increase in real estate mortgage commercial loans.
Loans past due 90 days and still accruing interest at December 31, 2019, were $316,000 compared to $162,000 at December 31, 2018. Other
real estate owned and repossessed assets at December 31, 2019 were $12.8 million compared to $13.7 million at December 31, 2018. During
the year ended December 31, 2019, $452,000 of non-accrual loans, net of charge-offs taken, moved to other real estate owned and repossessed
assets compared to $1.1 million for the year ended December 31, 2018.
The following table summarizes the Company's TDRs at the dates indicated:
(In thousands)
Performing TDRs
Commercial, financial and agricultural
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total performing TDRs
Non-performing TDRs
Commercial, financial and agricultural
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total non-performing TDRs
Total TDRs
December 31, 2019
December 31, 2018
Number of Recorded Specific Number of Recorded Specific
contracts Investment Reserves
contracts Investment Reserves
532 $ 177
5 $
33
1,615
6
7
352
2
2
36
2
15 $ 2,535 $ 219
99
496 $
6 $
117
782
6
—
266
2
2
7
72
16 $ 1,616 $ 223
31 $ 4,151 $ 442
570 $ 174
6 $
72
2,073
9
8
377
2
4
44
3
20 $ 3,064 $ 258
94
5 $ 1,042 $
182
867
5
—
—
—
2
9
72
12 $ 1,981 $ 285
32 $ 5,045 $ 543
At December 31, 2019, loans classified as TDRs totaled $4.1 million, with $442,000 of specific reserves compared to $5.0 million of loans
classified as TDRs, with $543,000 of specific reserves at December 31, 2018. Both performing and non-performing TDRs are considered
impaired loans. When an individual loan is determined to be a TDR, the amount of impairment is based upon the present value of expected
future cash flows discounted at the loan's effective interest rate, or the fair value of the underlying collateral less applicable selling costs if
the loan is collateral dependent. The net decrease in total TDRs from December 31, 2018 to December 31, 2019 was primarily due to
approximately $1.2 million of payments received, partially offset by $347,000 of new loans designated as TDRs during the year ended
December 31, 2019.
Allowance for Loan Losses and Provision
Allowance for Loan Losses
The following table is a summary of the allocation of the allowance for loan losses:
(In thousands)
Allocation of allowance for loan losses at end of period:
2019
2018
2017
2016
2015
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Unallocated
Total
16
$ 2,918 $ 3,237 $ 3,325 $ 2,753 $ 2,153
59
644
2,439
2,935
273
101
$ 12,477 $ 11,652 $ 10,852 $ 9,886 $ 8,604
108
413
2,385
3,793
274
160
170
807
1,689
4,437
345
79
140
757
2,071
4,914
334
199
64
369
2,118
6,547
381
80
The allowance for loan losses was $12.5 million, or 1.07%, of loans outstanding at December 31, 2019 compared to $11.7 million, or 1.02%,
of loans outstanding at December 31, 2018. The ratio of the allowance for loan losses to non-performing loans was 246.09% at December
31, 2019, compared to 208.97% at December 31, 2018.
The following table is a summary of the general and specific allocations of the allowance for loan losses:
(In thousands)
Allocation of allowance for loan losses:
Individually evaluated for impairment - specific reserves
Collectively evaluated for impairment - general reserves
Total
2019
2018
2017
2016
2015
$
615 $ 1,194 $ 1,333 $ 1,080 $ 1,540
7,064
9,519
$ 12,477 $ 11,652 $ 10,852 $ 9,886 $ 8,604
10,458
11,862
8,806
The specific reserve component applies to loans evaluated individually for impairment. The net carrying value of impaired loans is generally
based on the fair values of collateral obtained through independent appraisals and/or internal evaluations, or by discounting the total expected
future cash flows. Once the impairment amount is calculated, a specific reserve allocation is recorded. At December 31, 2019, $615,000 of
the Company's allowance for loan losses was allocated to impaired loans totaling approximately $7.4 million compared to $1.2 million of
the Company's allowance for loan losses allocated to impaired loans totaling approximately $8.5 million at December 31, 2018. Management
determined that $2.6 million, or 35%, of total impaired loans required no reserve allocation at December 31, 2019 compared to $2.1 million,
or 25%, at December 31, 2018 primarily due to adequate collateral values, acceptable payment history and adequate cash flow ability.
The incurred loss component of the general reserve, or loans collectively evaluated for impairment, is determined by applying loss rates to
pools of loans by asset type. Loans not individually evaluated are aggregated by risk characteristics and reserves are recorded using a
consistent methodology that considers historical loan loss experience by loan type. In the first quarter 2019, management adjusted the look-
back period to begin with loss history in the first quarter 2012 as the starting point through the current quarter and it will continue to include
this starting point going forward. Management determined that with the extended current economic recovery, the look-back period should
be expanded to include the current economic cycle. This increasing look-back period will then be adjusted once a loss producing downturn
is recognized by allowing the look-back period to shift forward by eliminating the earliest loss period and replenishing it with losses from
the most recent period. Prior to 2019, the Company utilized a five-year look-back period, which was considered a representative historical
loss period. The look-back period is consistently evaluated for relevance given the current facts and circumstances.
These historical loss rates for each risk group are used as the starting point to determine loss rates for measurement purposes. The historical
loan loss rates are multiplied by loss emergence periods (LEP) which represent the estimated time period between a borrower first
experiencing financial difficulty and the recognition of a loss.
The Company’s methodology includes qualitative risk factors that allow management to adjust its estimates of losses based on the most
recent information available and to address other limitations in the quantitative component that is based on historical loss rates. Such risk
factors are generally reviewed and updated quarterly, as appropriate, and are adjusted to reflect changes in national and local economic
conditions and developments, the nature, volume and terms of loans in the portfolio, including changes in volume and severity of past due
loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans, loan concentrations, assessment
of trends in collateral values, assessment of changes in the quality of the Company’s internal loan review department, and changes in lending
policies and procedures, including underwriting standards and collections, charge-off and recovery practices.
The specific and general reserve allocations represent management's best estimate of probable losses inherent in the loan portfolio at the
evaluation date. Although the allowance for loan losses is comprised of specific and general allocations, the entire allowance is available to
absorb any credit losses.
The more significant changes from December 31, 2018 to December 31, 2019 in the allocations of the allowance for loan losses to the loan
portfolios listed above included the following:
Real estate mortgage – commercial increased by $1.6 million primarily due to higher historical loss rates resulting from extending the look-
back period back to the first quarter 2012. Real estate construction – commercial decreased $388,000 primarily due to a reduction in the
qualitative risk factors associated with this portfolio and commercial, financial, and agriculture decreased by $320,000 primarily due to a
reduction in the qualitative risk factors partially offset by the higher historical loss rates associated with this portfolio.
17
Provision
A $1.2 million provision for loan losses was required for the year ended December 31, 2019 compared to $1.5 million for the year ended
December 31, 2018, and $1.8 million for the year ended December 31, 2017. The decrease in the year ended 2019 over the years ended 2018
and 2017 was primarily due to improved credit quality and economic conditions used in assessing the risk in the portfolio and slower loan
growth during 2019 that resulted in a slower growth in the calculated allowance for loan losses.
The following table summarizes loan loss experience for the years ended as indicated:
(In thousands)
Analysis of allowance for loan losses:
Balance beginning of period
Charge-offs:
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total charge-offs
Recoveries:
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total recoveries
Net charge-offs
Provision for loan losses
Balance end of period
Net Loan Charge-offs
2019
2018
2017
2016
2015
$ 11,652 $ 10,852 $ 9,886 $ 8,604 $ 9,099
295
—
—
277
25
196
793
484
48
30
186
38
255
1,041
649
—
—
219
45
268
1,181
389
—
1
495
147
258
1,290
1,131
—
15
379
363
302
2,190
144
50
—
129
40
105
468
325
1,150
672
322
—
138
165
148
1,445
745
250
$ 12,477 $ 11,652 $ 10,852 $ 9,886 $ 8,604
299
—
502
60
140
146
1,147
143
1,425
74
88
—
83
32
105
382
799
1,765
100
62
—
52
58
94
366
675
1,475
The Company's net loan charge-offs were $325,000, or 0.03% of average loans, for the year ended December 31, 2019 compared to net
charge-offs of $675,000, or 0.06% of average loans, for the year ended December 31, 2018, and $799,000, or 0.08% of average loans for
the year ended December 31, 2017.
The decrease in net charge-offs for the year ended December 31, 2019 compared to the years ended December 31, 2018 and 2017 was
primarily due to an increase in recoveries primarily related to one commercial loan relationship recovery and one real estate mortgage –
residential recovery received during the first quarter of 2019, and an overall reduction of loan charge-offs year over year.
Investment Portfolio
The Company's investment portfolio consists of securities which are classified as available-for-sale, equity or other. The largest component,
available-for-sale debt securities are carried at estimated fair value. Unrealized holding gains and losses from available-for-sale securities
are excluded from earnings and reported, net of applicable taxes, as a separate component of stockholders' equity until realized.
The Company does not engage in trading activities and accordingly does not have any debt or equity securities classified as trading securities.
Historically the Company's practice had been to purchase and hold debt instruments until maturity unless special circumstances exist.
However, since the investment portfolio's major function is to provide liquidity and to balance the Company's interest rate sensitivity
position, all debt securities are classified as available-for-sale.
At December 31, 2019, the investment portfolio classified as available-for-sale represented 11.7% of total consolidated assets. Future levels
of investment securities can be expected to vary depending upon liquidity and interest sensitivity needs as well as other factors.
18
Available for sale securities
The following table presents the composition of the investment portfolio and related fair value by major category:
(In thousands)
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgaged-backed securities
Other debt securities (a)
Bank issued trust preferred securities (a)
Total available for sale debt securities, at fair value
2019
995
8,047
22,283
33,789
105,616
3,053
1,310
175,093
$
$
2018
1,952
9,966
43,335
40,386
118,192
3,000
1,374
218,205
$
$
(a) Certain hybrid instruments possessing characteristics typically associated with debt obligations.
As of December 31, 2019, the maturity of debt securities in the investment portfolio was as follows:
(In thousands)
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
States and political subdivisions (2)
Mortgage-backed securities (1)
Other debt securities
Bank issued trust preferred securities
Total available-for-sale debt securities
Over One Over Five
One Year
Or Less
$
245
—
8,043
3,736
4,899
—
—
$ 16,923
Through
Five Years
750
$
4,235
8,291
13,766
94,670
—
—
$ 121,712
Through
Ten Years
—
$
3,262
5,949
8,181
5,764
3,053
—
$ 26,209
Over
Ten Years
—
$
550
—
8,106
283
—
1,310
$ 10,249
Weighted
Average
Yield
2.20 %
2.19
1.99
2.68
2.18
6.00
4.21
2.33 %
Total
$
995
8,047
22,283
33,789
105,616
3,053
1,310
$ 175,093
Weighted average yield
2.17 %
2.15 %
2.98 %
3.17 %
2.33 %
(1) Mortgage-backed securities have been included using historic repayment speeds. Repayment speeds were determined from actual portfolio experience during the twelve
months ended December 31, 2019 calculated separately for each mortgage-backed security. These repayment speeds are not necessarily indicative of future repayment
speeds and are subject to change based on changing mortgage interest rates.
(2) Rates on obligations of states and political subdivisions have been adjusted to fully taxable equivalent rates using the statutory federal income tax rate of 21%.
At December 31, 2019, $14.8 million of debt securities classified as available-for-sale in the table above had variable rate provisions with
adjustment periods ranging from one week to twelve months.
Other investment securities
Other investment securities include equity securities with readily determinable fair values and other investments securities that do not have
readily determinable fair values. Investments in Federal Home Loan Bank (FHLB) stock, and Midwest Independent Bank (MIB) bankers
bank stock, that do not have readily determinable fair values, are required for membership in those organizations.
(In thousands)
Federal Home Loan Bank of Des Moines stock
Midwest Independent Bank stock
Equity securities with readily determinable fair values
Total other investment securities
Liquidity and Capital Resources
Liquidity Management
2019
2018
5,644
151
13
5,808
$
$
5,512
151
12
5,675
$
$
The role of liquidity management is to ensure funds are available to meet depositors' withdrawal and borrowers' credit demands while at the
same time maximizing profitability. This is accomplished by balancing changes in demand for funds with changes in the supply of those
19
funds. Liquidity to meet the demands is provided by maturing assets, short-term liquid assets that can be converted to cash and the ability to
attract funds from external sources, principally depositors. Due to the nature of services offered by the Company, management prefers to
focus on transaction accounts and full service relationships with customers.
The Company's Asset/Liability Committee (ALCO), primarily made up of senior management, has direct oversight responsibility for the
Company's liquidity position and profile. A combination of daily, weekly, and monthly reports provided to management detail the following:
internal liquidity metrics, composition and level of the liquid asset portfolio, timing differences in short-term cash flow obligations, available
pricing and market access to the financial markets for capital, and exposure to contingent draws on the Company's liquidity.
The Company has a number of sources of funds to meet liquidity needs on a daily basis. The Company's most liquid assets are comprised of
available for sale investment securities, federal funds sold, and excess reserves held at the Federal Reserve Bank.
(In thousands)
Federal funds sold and other overnight interest-bearing deposits
Certificates of deposit in other banks
Available-for-sale investment securities
Total
2019
55,545
10,862
175,093
241,500
$
$
2018
18,396
12,247
218,205
248,848
$
$
Federal funds sold and resale agreements normally have overnight maturities and are used for general daily liquidity purposes. The fair value
of the available for sale investment portfolio was $175.1 million at December 31, 2019 and included an unrealized net loss of $30,000. The
portfolio includes projected maturities and mortgage-backed securities pay-downs of approximately $16.9 million over the next twelve
months, which offer resources to meet either new loan demand or reductions in the Company's deposit base.
The Company pledges portions of its investment securities portfolio to secure public fund deposits, federal funds purchase lines, securities
sold under agreements to repurchase, borrowing capacity at the Federal Reserve Bank, and for other purposes required by law. The
Company's unpledged securities in the available for sale portfolio totaled approximately $35.3 million and $65.2 million at December 31,
2019 and 2018, respectively.
Total investment securities pledged for these purposes were as follows:
(In thousands)
Investment securities pledged for the purpose of securing:
Federal Reserve Bank borrowings
Federal funds purchased and securities sold under agreements to repurchase
Other deposits
Total pledged, at fair value
2019
2018
$
$
9,385
38,238
92,189
139,812
$
$
9,397
32,529
111,090
153,016
Liquidity is available from the Company's base of core customer deposits, defined as demand, interest checking, savings, money market
deposit accounts, and time deposits less than $250,000, less all brokered deposits under $250,000. Such deposits totaled $1.03 billion and
represented 87.0% of the Company's total deposits at December 31, 2019, compared to $1.07 billion and represented 89.2% of the Company's
total deposits at December 31, 2018. These core deposits are normally less volatile and are often tied to other products of the Company
through long lasting relationships.
Core deposits at December 31, 2019 and 2018 were as follows:
(In thousands)
Core deposit base:
Non-interest bearing demand
Interest checking
Savings and money market
Other time deposits
Total
2019
2018
$
$
261,166
227,662
346,593
197,089
1,032,510
$
$
262,857
215,432
378,484
211,715
1,068,488
Time deposits and certificates of deposit of $250,000 and greater at December 31, 2019 and 2018 were $104.3 million and $104.9 million,
respectively. The Company had brokered deposits totaling $45.2 million and $39.8 million at December 31, 2019 and 2018, respectively.
20
Other components of liquidity are the level of borrowings from third party sources and the availability of future credit. The Company's
outside borrowings are comprised of securities sold under agreements to repurchase, Federal Home Loan Bank advances, and subordinated
notes. Federal funds purchased are overnight borrowings obtained mainly from upstream correspondent banks with which the Company
maintains approved credit lines. As of December 31, 2019, under agreements with these unaffiliated banks, the Bank may borrow up to
$50.0 million in federal funds on an unsecured basis and $16.0 million on a secured basis. There were no federal funds purchased outstanding
at December 31, 2019. Securities sold under agreements to repurchase are generally borrowed overnight and are secured by a portion of the
Company's investment portfolio. At December 31, 2019, there were $27.3 million in repurchase agreements. The Company may periodically
borrow additional short-term funds from the Federal Reserve Bank through the discount window; although no such borrowings were
outstanding at December 31, 2019.
The Bank is a member of the Federal Home Loan Bank of Des Moines (FHLB). As a member of the FHLB, the Bank has access to credit
products of the FHLB. As of December 31, 2019, the Bank had $96.9 million in outstanding borrowings with the FHLB. In addition, the
Company has $49.5 million at December 31, 2019 in outstanding subordinated notes issued to wholly-owned grantor trusts, funded by
preferred securities issued by the trusts.
Borrowings outstanding at December 31, 2019 and 2018 were as follows:
(In thousands)
Borrowings:
Federal funds purchased and securities sold under agreements to repurchase
Federal Home Loan Bank advances
Subordinated notes
Other borrowings
Total
2019
2018
$
$
27,272
96,895
49,486
24
173,677
$
$
24,647
95,126
49,486
27
169,286
The Company pledges certain assets, including loans and investment securities to the Federal Reserve Bank, FHLB, and other correspondent
banks as security to establish lines of credit and borrow from these entities. Based on the type and value of collateral pledged, the Company
may draw advances against this collateral.
The following table reflects the advance equivalent of the assets pledged, borrowings, and letters of credit outstanding, in addition to the
estimated future funding capacity available to the Company.
December 31,
2019
Federal
Reserve Bank
Federal
Funds
Purchased
Lines
December 31,
2018
Federal
Reserve Bank
Federal
Funds
Purchased
Lines
Total
Total
FHLB
9,190 $ 56,839 $ 350,842 $ 301,606 $
—
—
—
—
(115,000)
(96,895)
(80,000)
(95,126)
9,190 $ 56,839 $ 138,947 $ 126,480 $
9,160 $ 57,235 $ 368,001
(80,000)
—
(103,126)
(8,000)
9,160 $ 49,235 $ 184,875
—
—
FHLB
$ 284,813 $
(115,000)
(96,895)
72,918 $
$
(In thousands)
Advance equivalent
Letters of credit
Advances outstanding
Total available
At December 31, 2019, loans of $512.3 million were pledged to the Federal Home Loan Bank as collateral for borrowings and letters of
credit. At December 31, 2019, investments with a market value of $18.3 million were pledged to secure federal funds purchase lines and
borrowing capacity at the Federal Reserve Bank.
Sources and Uses of Funds
Cash and cash equivalents were $78.1 million at December 31, 2019 compared to $42.1 million at December 31, 2018. The $36.0 million
increase resulted from changes in the various cash flows produced by operating, investing, and financing activities of the Company, as shown
in the accompanying consolidated statement of cash flows for the year ended December 31, 2019. Cash flow provided from operating
activities consists mainly of net income adjusted for certain non-cash items. Operating activities provided cash flow of $19.1 million for the
year ended December 31, 2019.
Investing activities consisting mainly of purchases, sales and maturities of available for sale securities, and changes in the level of the loan
portfolio, provided total cash of $16.6 million. The cash inflow primarily consisted of $77.1 million in proceeds from maturities, calls and
21
sales of investment securities, partially offset by a $23.5 million increase in the loan portfolio, and $31.1 million purchases of investment
securities.
Financing activities provided cash of $389,000, resulting primarily from a $3.5 million increase in interest-bearing transaction accounts,
$4.0 million increase in demand deposits, and $1.8 net FHLB advances, partially offset by a $8.9 million decrease in time deposits. Future
short-term liquidity needs arising from daily operations are not expected to vary significantly during 2020.
In the normal course of business, the Company enters into certain forms of off-balance-sheet transactions, including unfunded loan
commitments and letters of credit. These transactions are managed through the Company's various risk management processes. Management
considers both on-balance sheet and off-balance-sheet transactions in its evaluation of the Company's liquidity. The Company had $342.1
million in unused loan commitments and standby letters of credit as of December 31, 2019. Although the Company's current liquidity
resources are adequate to fund this commitment level, the nature of these commitments is such that the likelihood of such a funding demand
is very low.
The Company is a legal entity, separate and distinct from the Bank, which must provide its own liquidity to meet its operating needs. The
Company's ongoing liquidity needs primarily include funding its operating expenses and paying cash dividends to its shareholders. The
Company paid cash dividends to its common shareholders totaling approximately $2.7 million and $2.0 million for the years ended December
31, 2019 and 2018, respectively. A large portion of the Company's liquidity is obtained from the Bank in the form of dividends. The Bank
declared and paid $8.0 million and $5.0 million in dividends to the Company during the years ended December 31, 2019 and 2018,
respectively. At December 31, 2019 and 2018, the Company had cash and cash equivalents totaling $2.6 million and $1.3 million,
respectively.
Capital Management
The Company and the Bank are subject to various regulatory capital requirements administered by federal and state banking agencies. Failure
to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if
undertaken, could have a direct material effect on the Company's consolidated financial statements. Under capital adequacy guidelines,
the Company and the Bank must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain
off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification of the Company and the
Bank are subject to qualitative judgments by the regulators about components, risk-weightings, and other factors.
In July 2013, the federal banking agencies issued final rules to implement the Basel III regulatory capital reforms and changes required by
the Dodd-Frank Act. The phase-in period for the Company began on January 1, 2015. The Federal Reserve System's (FRB) capital adequacy
guidelines require that bank holding companies maintain a Common Equity Tier 1 risk-based capital ratio equal to at least 4.5% of its risk-
weighted assets, a Tier 1 risk-based capital ratio equal to at least 6% of its risk-weighted assets and a total risk-based capital ratio equal to
at least 8% of its risk-weighted assets. In addition, bank holding companies generally are required to maintain a Tier 1 leverage ratio of at
least 4%.
In addition to the higher requirements, the Basel III Rules established bank holding companies are required to maintain a common equity
Tier 1 capital conservation buffer of at least 2.5% of risk-weighted assets over and above the minimum risk-based capital requirements.
Institutions that do not maintain the required capital buffer will become subject to progressively more stringent limitations on the percentage
of earnings that can be paid out in dividends or used for stock repurchases and on the payment of discretionary bonuses to senior executive
management. The capital conservation buffer requirement began being phased in over four years beginning in 2016. On January 1, 2016,
the first phase of the requirement went into effect at 0.625% of risk-weighted assets, and increased each subsequent year by an additional
0.625 percentage points, to reach its final level of 2.5% of risk weighted assets on January 1, 2019. At December 31, 2019, the capital
conservation buffer requirement of 2.5%, effectively raised the minimum required risk-based capital ratios to 7% Common Equity Tier 1
Capital, 8.5% Tier 1 Capital and 10.5% Total Capital on a fully phased-in basis.
22
Under the Basel III requirements, at December 31, 2019, the Company met all capital adequacy requirements and had regulatory capital
ratios in excess of the levels established for well-capitalized institutions, as shown in the following table as of December 31, for the years
indicated:
2019
2018
2017
2016
2015
Minimum Required
to be Considered
Well-Capitalized
Minimum Capital
Required - Basel III
Fully Phased-In *
Under Prompt
Corrective Action
Banks
Risk-based capital ratios:
Total capital ratio
Tier 1 capital ratio
Common Equity Tier 1 capital ratio
Tier 1 leverage ratio
*At December 31, 2019 the Basel III capital conservation buffer requirement of 2.5% had been fully phased-in.
12.93 %
10.72
8.04
9.33
14.78 %
12.03
9.04
9.84
13.88 %
11.42
8.61
9.87
14.89 %
13.04
9.86
10.73
13.28 %
11.21
8.48
9.55
10.5 %
8.5
7.0
4.0
10.0 %
8.0
6.5
5.0
Stock Dividend For the eleventh consecutive year, on July 1, 2019, the Company distributed a four percent stock dividend to common
shareholders of record at the close of business on June 15, 2019. For all periods presented, share information, including basic and diluted
earnings per share, has been adjusted retroactively to reflect the stock dividend.
Repurchase Plan On September 18, 2019, the Company's Board of Directors authorized the purchase of up to $5.0 million market value of
the Company's common stock. Management was given discretion to determine the number and pricing of the shares to be purchased, as well
as, the timing of any such purchases. There were no purchases made by or on behalf of the Company or any "affiliated purchaser" (as defined
by applicable rules of the SEC) of shares of the Company's common stock during the fourth quarter of the year ended December 31, 2019.
Commitments, Contractual Obligations, and Off-Balance-Sheet Arrangements
The required payments of time deposits and other borrowed money, not including interest, at December 31, 2019 are as follows:
(In thousands)
Time deposits
Federal Home Loan Bank advances and other borrowed money
Subordinated notes
Total
Payments due by Period
Less than 1
1-3
3-5
Total
Year
Years
Years
Over 5
Years
$ 311,024 $ 201,397 $ 93,586 $ 16,041 $
96,919
49,486
457,429
49,236
—
250,633
33,683
—
127,269
6,000
—
22,041
—
8,000
49,486
57,486
In the normal course of business, the Company is party to activities that contain credit, market and operational risk that are not reflected in
whole or in part in the Company's consolidated financial statements. Such activities include traditional off-balance-sheet credit related
financial instruments.
The Company provides customers with off-balance-sheet credit support through loan commitments and standby letters of credit.
Summarized credit-related financial instruments, including both commitments to extend credit and letters of credit at December 31, 2019
are as follows:
(In thousands)
Unused loan commitments
Commitments to originate residential first and second mortgage loans
Standby letters of credit
Total
Amount of Commitment Expiration per Period
Less than 1
Year
1-3
3-5
Over 5
Years
Total
Years
$ 240,758 $ 165,173 $ 29,137 $ 10,515 $ 35,933
—
—
$ 342,086 $ 266,460 $ 29,178 $ 10,515 $ 35,933
3,980
97,307
3,980
97,348
—
—
—
41
Years
Since many of the unused commitments are expected to expire or be only partially used, the total amount of commitments in the preceding
table does not necessarily represent future cash requirements.
23
Quantitative and Qualitative Disclosures about Market Risk
Asset/Liability and Interest Rate Risk
Management and the Board of Directors are responsible for managing interest rate risk and employing risk management policies that monitor
and limit this exposure. Interest rate risk is measured using net interest income simulations and market value of portfolio equity analyses.
These analyses use various assumptions, including the nature and timing of interest rate changes, yield curve shape, prepayments on loans
and securities, deposit decay rates, pricing decisions on loans and deposits, and reinvestment/replacement of asset and liability cash flows.
The principal objective of the Company's asset and liability management function is to evaluate the interest rate risk within the balance sheet
and pursue a controlled assumption of interest rate risk while maximizing earnings and preserving adequate levels of liquidity and capital.
The asset and liability management function is under the guidance of the Asset Liability Committee from direction of the Board of Directors.
The Asset Liability Committee meets monthly to review, among other things, the sensitivity of the Company's assets and liabilities to interest
rate changes, local and national market conditions and rates. The Asset Liability Committee also reviews the liquidity, capital, deposit mix,
loan mix and investment positions of the Company.
Instantaneous parallel rate shift scenarios are modeled and utilized to evaluate risk and establish exposure limits for acceptable changes in
net interest margin. These scenarios, known as rate shocks, simulate an instantaneous change in interest rates and use various assumptions,
including, but not limited to, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, reinvestment
and replacement of asset and liability cash flows.
Management analyzes the economic value of equity as a secondary measure of interest rate risk. This is a complementary measure to net
interest income where the calculated value is the result of the market value of assets less the market value of liabilities. The economic value
of equity is a longer term view of interest rate risk because it measures the present value of the future cash flows. The impact of changes in
interest rates on this calculation is analyzed for the risk to our future earnings and is used in conjunction with the analyses on net interest
income.
The table below illustrates the impact of an immediate and sustained 200 and 100 basis point increase and a 200 and 100 basis point decrease
in interest rates on net interest income based on the interest rate risk model at December 31, 2019 and 2018.
Hypothetical shift in interest rates
(bps)
200
100
(100)
(200)
% Change in projected net interest income
December 31,
2019
2018
1.07 %
1.61 %
0.78 %
(0.51) %
0.26 %
1.17 %
3.39 %
4.19 %
The change in our interest rate risk exposure from December 31, 2018 to December 31, 2019 was primarily due to the Company’s balance
sheet becoming relatively more sensitive to a rising rate environment. Conversely, in a falling rate environment, projected net interest income
would decrease more than at the prior year-end. In addition, due to the low level of market interest rates at December 31, 2019, funding rates
can only drop to zero while earning asset rates are at levels that allow for additional decreases. Management believes the change in projected
net interest income from interest rate shifts of up 200 bps and down 200 bps is an acceptable level of interest rate risk.
Many assumptions are used to calculate the impact of interest rate fluctuations. Actual results may be significantly different than our
projections due to several factors, including the timing and frequency of rate changes, market conditions and the shape of the yield curve.
The computations of interest rate risk shown above do not include actions that management may undertake to manage the risks in response
to anticipated changes in interest rates and actual results may also differ due to any actions taken in response to the changing rates.
Effects of Inflation
The effects of inflation on financial institutions are different from the effects on other commercial enterprises since financial institutions
make few significant capital or inventory expenditures, which are directly affected by changing prices. Because bank assets and liabilities
are virtually all monetary in nature, inflation does not affect a financial institution as much as do changes in interest rates. The general level
of inflation does underlie the general level of most interest rates, but interest rates do not increase at the rate of inflation as do prices of goods
and services. Rather, interest rates react more to changes in the expected rate of inflation and to changes in monetary and fiscal policy.
Inflation does have an impact on the growth of total assets in the banking industry, often resulting in a need to increase capital at higher than
normal rates to maintain an appropriate capital to asset ratio. In the opinion of management, inflation did not have a significant effect on the
Company's operations for the three months ended December 31, 2019.
24
Impact of New Accounting Standards
Intangibles In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Topic 350-40)
Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. This ASU aligns
the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for
capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use
software license). ASU 2018-15 is effective for annual reporting periods beginning after December 15, 2019 and is not expected to have a
significant impact on the Company's consolidated financial statements.
Pension In August 2018, the FASB issued ASU 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans -General (Subtopic
715-20) Disclosure Framework – Changes to the Disclosure Requirements for Defined Benefit Plans. These amendments modify the
disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. ASU 2018-14 is effective for
annual reporting periods beginning after December 15, 2020 and is not expected to have a significant impact on the Company’s consolidated
financial statements.
Fair Value Measurement In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820) - Changes to the Disclosure
Requirements for Fair Value Measurement. ASU 2018-13 removes the requirement to disclose the amount of and reasons for transfers
between Level 1 and Level 2 fair value measurement methodologies, the policy for timing of transfers between levels and the valuation
processes for Level 3 fair value measurements. It also adds a requirement to disclose changes in unrealized gains and losses for the period
included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period and the range
and weighted average of significant unobservable inputs used to develop Level 3 measurements. For certain unobservable inputs, entities
may disclose other quantitative information in lieu of the weighted average if the other quantitative information would be a more reasonable
and rational method to reflect the distribution of unobservable inputs used to develop Level 3 fair value measurements. ASU 2018-13 is
effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The Company is currently
evaluating the impact of the adoption on the Company's consolidated financial statements and disclosures.
Financial Instruments In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of
Credit Losses on Financial Instruments (CECL). The revised accounting guidance will remove all recognition thresholds and will require a
company to recognize an allowance for credit losses for the difference between the amortized cost basis of a financial instrument and the
amount of amortized cost that the company expects to collect over the instrument's contractual life. It also amends the credit loss
measurement guidance for available-for-sale debt securities and beneficial interests in securitized financial assets. This new accounting
guidance will be effective for interim and annual reporting periods beginning after December 15, 2022. While the Company generally expects
to recognize a one-time cumulative effect adjustment to the allowance for loan losses as of the beginning of the first reporting period in
which the new standard is effective, the Company has not determined the magnitude of any such one-time adjustment or the overall impact
of the new guidance on the Company's consolidated financial statements. The Company has formed a committee and is continuing to evaluate
the impact of the ASU's adoption on the Company's consolidated financial statements by assessing different credit risk models. As a result
of the FASB issuing a delay in the implementation of this ASU, the Company will extend its evaluation process over the new implementation
deadline of January 1, 2023.
25
CONSOLIDATED FINANCIAL STATEMENTS
The following consolidated financial statements of the Company and report of the Company's independent auditors appear on the pages
indicated.
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2019 and 2018
Consolidated Statements of Income for each of the years ended December 31, 2019, 2018, and 2017
Consolidated Statements of Comprehensive Income for each of the years ended December 31, 2019, 2018, and 2017
Consolidated Statements of Stockholders' Equity for each of the years ended December 31, 2019, 2018, and 2017
Consolidated Statements of Cash Flows for each of the years ended December 31, 2019, 2018, and 2017
Notes to the Consolidated Financial Statements
Page
27
28
28
28
28
28
28
26
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Hawthorn Bancshares, Inc. and Subsidiaries:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Hawthorn Bancshares, Inc. and subsidiaries (the Company) as of
December 31, 2019 and 2018, the related consolidated statements of income, comprehensive income, stockholders' equity, and cash flows
for each of the years in the three-year period ended December 31, 2019, and the related notes (collectively, the consolidated financial
statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company
as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the years in the three-year period ended
December 31, 2019, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the
Company's internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control – Integrated
Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated March 16,
2020 expressed an adverse opinion on the effectiveness of the Company's internal control over financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to
be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of
the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or
fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements,
whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis,
evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting
principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial
statements. We believe that our audits provide a reasonable basis for our opinion.
We have served as the Company's auditor since 1993.
St. Louis, Missouri
March 16, 2020
/s/ KPMG LLP
27
HAWTHORN BANCSHARES, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands, except per share data)
ASSETS
Cash and due from banks
Federal funds sold and other interest-bearing deposits
Cash and cash equivalents
Certificates of deposit in other banks
Available-for-sale debt securities, at fair value
Other investments
Total investment securities
Loans
Allowances for loan losses
Net loans
Premises and equipment - net
Mortgage servicing rights
Other real estate owned - net
Accrued interest receivable
Cash surrender value - life insurance
Other assets
Total assets
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits
Non-interest bearing demand
Savings, interest checking and money market
Time deposits $250,000 and over
Other time deposits
Total deposits
Federal funds purchased and securities sold under agreements to repurchase
Federal Home Loan Bank advances and other borrowings
Subordinated notes
Operating lease liabilities
Accrued interest payable
Other liabilities
Total liabilities
Stockholders’ equity:
Common stock, $1 par value, authorized 15,000,000 shares; issued 6,519,874 and 6,278,481 shares,
respectively
Surplus
Retained earnings
Accumulated other comprehensive loss, net of tax
Treasury stock; 243,638 shares, at cost
Total stockholders’ equity
Total liabilities and stockholders’ equity
See accompanying notes to the consolidated financial statements.
December 31,
2019
2018
$
22,576
55,545
78,121
10,862
175,093
5,808
180,901
1,169,225
(12,477)
1,156,748
35,388
2,482
12,781
6,481
2,398
6,800
$ 1,492,962
$
23,687
18,396
42,083
12,247
218,205
5,675
223,880
1,146,627
(11,652)
1,134,975
34,894
2,931
13,691
6,162
2,542
8,277
$ 1,481,682
$
261,166
614,331
104,262
206,762
1,186,521
27,272
96,919
49,486
2,224
1,136
14,366
1,377,924
$
262,857
614,040
104,900
216,671
1,198,468
24,647
95,153
49,486
—
1,035
13,479
1,382,268
6,520
55,727
61,590
(3,755)
(5,044)
115,038
$ 1,492,962
6,279
50,173
54,105
(6,099)
(5,044)
99,414
$ 1,481,682
28
Years Ended December 31,
2018
2017
2019
$
58,414
$
52,151
$
46,596
3,623
536
1,125
272
63,970
5,242
2,110
3,026
10,378
140
2,338
2,376
4,854
15,232
48,738
1,150
47,588
3,611
3,061
1,237
39
771
218
8,937
(40)
2,183
21,597
3,122
2,847
3,882
1,211
1,256
871
3,945
38,731
19,937
3,823
16,114
2.57
2.57
$
$
$
4,114
597
699
218
57,779
5,433
1,272
2,132
8,837
603
1,517
2,229
4,349
13,186
44,593
1,475
43,118
3,736
2,754
1,166
794
721
170
9,341
255
—
23,104
2,957
3,001
3,484
1,223
1,233
996
4,334
40,332
12,382
1,668
10,714
1.71
1.71
$
$
$
3,257
657
267
158
50,935
2,329
469
1,755
4,553
113
1,590
1,751
3,454
8,007
42,928
1,765
41,163
3,437
2,614
1,137
740
770
252
8,950
5
—
21,719
2,782
2,683
3,643
1,308
1,255
925
4,487
38,802
11,316
7,902
3,414
0.54
0.54
$
$
$
HAWTHORN BANCSHARES, INC. AND SUBSIDIARIES
Consolidated Statements of Income
(In thousands, except per share amounts)
INTEREST INCOME
Interest and fees on loans
Interest on investment securities:
Taxable
Nontaxable
Federal funds sold, other interest-bearing deposits, and certificates of deposit in other banks
Dividends on other investments
Total interest income
INTEREST EXPENSE
Interest on deposits:
Savings, interest checking and money market
Time deposit accounts $250,000 and over
Time deposits
Total interest expense on deposits
Interest on federal funds purchased and securities sold under agreements to repurchase
Interest on Federal Home Loan Bank advances
Interest on subordinated notes
Total interest expense on borrowings
Total interest expense
Net interest income
Provision for loan losses
Net interest income after provision for loan losses
NON-INTEREST INCOME
Service charges and other fees
Bank card income and fees
Trust department income
Real estate servicing fees, net
Gain on sale of mortgage loans, net
Other
Total non-interest income
Investment securities (losses) gains, net
Gain on branch sale, net
NON-INTEREST EXPENSE
Salaries and employee benefits
Occupancy expense, net
Furniture and equipment expense
Processing, network, and bank card expense
Legal, examination, and professional fees
Advertising and promotion
Postage, printing, and supplies
Other
Total non-interest expense
Income before income taxes
Income tax expense
Net income
Basic earnings per share
Diluted earnings per share
See accompanying notes to the consolidated financial statements.
29
HAWTHORN BANCSHARES, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(In thousands)
Net income
Other comprehensive income (loss), net of tax
Investment securities available-for-sale:
Years Ended December 31,
2018
10,714 $
2019
16,114 $
2017
3,414
$
Unrealized losses (gains) on investment securities available-for-sale, net of tax
Adjustment for losses (gains) on sale of investment securities, net of tax
3,400
32
(955)
—
(23)
(3)
Defined benefit pension plans:
Net (loss) gain arising during the year, net of tax
Amortization of prior service cost included in net periodic pension cost, net of tax
Total other comprehensive income (loss)
Total comprehensive income
(1,150)
62
2,344
18,458 $
345
173
(437)
10,277 $
(673)
56
(643)
2,771
$
See accompanying notes to the consolidated financial statements.
30
HAWTHORN BANCSHARES, INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(In thousands)
Balance, December 31, 2016
Net income
Other comprehensive loss
Amounts reclassified from accumulated other comprehensive loss
per ASU 2018-02
Stock based compensation expense
Stock dividend ($0.04 per share)
Purchase of treasury stock
Cash dividends declared, common stock ($0.27 per share)
Balance, December 31, 2017
Net income
Other comprehensive loss
Issuance of stock under equity compensation plan
Purchase of treasury stock
Stock dividend ($0.04 per share)
Cash dividends declared, common stock ($0.37 per share)
Balance, December 31, 2018
Net income
Other comprehensive income
Stock dividend ($0.04 per share)
Cash dividends declared, common stock ($0.46 per share)
Balance, December 31, 2019
See accompanying notes to the consolidated financial statements.
Common
Stock
Surplus Earnings
$ 5,822 $ 41,498 $ 51,671 $
Accumulated
Other
Retained Comprehensive Treasury
Loss
Stock
(3,801) $ (4,173) $ 91,017
3,414
(643)
Total
Stock -
holders'
Equity
3,414
—
—
(643)
—
—
—
—
—
—
—
—
—
(878)
—
(1,218)
—
—
—
—
—
3
—
(878)
(1,542)
(5,662) $ (5,051) $ 91,371
10,714
(437)
135
(179)
—
(2,190)
(6,099) $ (5,044) $ 99,414
16,114
2,344
—
(2,834)
(3,755) $ (5,044) $ 115,038
—
(437)
—
—
—
—
—
—
186
(179)
—
—
—
2,344
—
—
—
—
—
—
—
—
225
—
—
—
3
3,941
—
—
1,218
—
(4,166)
—
(1,542)
$ 6,047 $ 45,442 $ 50,595 $
—
—
—
—
232
—
—
—
(51)
—
4,782
—
10,714
—
—
—
(5,014)
(2,190)
$ 6,279 $ 50,173 $ 54,105 $
—
—
241
—
—
—
5,554
—
16,114
—
(5,795)
(2,834)
$ 6,520 $ 55,727 $ 61,590 $
31
HAWTHORN BANCSHARES, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses
Depreciation expense
Net amortization of investment securities, premiums, and discounts
Change in fair value of mortgage servicing rights
Investment securities (losses) gains, net
Loss on sales and dispositions of premises and equipment
Gain on sales and dispositions of other real estate
Gain on branch sale, net
Provision for other real estate owned
Operating lease expense
Increase in accrued interest receivable
Increase in cash surrender value - life insurance
Decrease (increase) in other assets
Decrease in deferred tax asset due to tax reform reclass
Increase in accrued interest payable
Decrease (increase) in other liabilities
Origination of mortgage loans for sale
Proceeds from the sale of mortgage loans
Gain on sale of mortgage loans, net
Other, net
Net cash provided by operating activities
Cash flows from investing activities:
Purchase of certificates of deposit in other banks
Proceeds from maturities of certificates of deposit in other banks
Net increase in loans
Purchase of available-for-sale debt securities
Proceeds from maturities of available-for-sale debt securities
Proceeds from calls of available-for-sale debt securities
Proceeds from sales of available-for-sale debt securities
Purchases of FHLB stock
Proceeds from sales of FHLB stock
Purchases of premises and equipment
Proceeds from sales of premises and equipment
Proceeds from Bank owned life insurance policy
Payment for branch sale, net
Proceeds from sales of other real estate and repossessed assets
Net cash provided by (used in) investing activities
Cash flows from financing activities:
Net increase in demand deposits
Net increase in interest-bearing transaction accounts
Net (decrease) increase in time deposits
Net increase (decrease) in federal funds purchased and securities sold under agreements to repurchase
Repayment of FHLB advances and other borrowings
FHLB advances
Issuance of stock under equity compensation plan
Purchase of treasury stock
Cash dividends paid - common stock
Net cash provided by financing activities
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of year
Cash and cash equivalents, end of year
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest
Income taxes
Noncash investing and financing activities:
Other real estate and repossessed assets acquired in settlement of loans
Net deposits and fixed assets transferred to other assets related to the Branson branch sale
Right of use assets obtained in exchange for new operating lease liabilities
Stock dividends
See accompanying notes to the consolidated financial statements.
32
Years Ended December 31,
2018
2019
2017
$
16,114
$
10,714
$
3,414
1,150
2,062
1,386
739
40
48
(122)
(2,183)
49
(201)
(319)
(78)
1,142
—
101
(718)
(43,355)
44,281
(771)
(274)
19,091
(988)
2,373
(23,530)
(31,106)
39,467
16,165
21,503
(6,522)
6,390
(2,168)
17
222
(6,700)
1,435
16,558
3,999
3,548
(8,865)
2,625
(176,708)
178,474
—
—
(2,684)
389
36,038
42,083
78,121
15,150
3,620
452
(8,885)
2,424
5,795
$
$
$
$
$
$
$
1,475
1,797
1,506
27
(255)
3
(14)
—
26
—
(535)
(58)
854
—
481
667
(36,469)
36,990
(721)
(186)
16,302
(8,787)
—
(79,298)
(103,078)
34,586
1,685
77,168
(4,713)
5,591
(2,326)
13
—
—
585
(78,574)
17,477
29,572
25,607
(2,913)
(220,542)
194,313
135
(179)
(1,993)
41,477
(20,795)
62,878
42,083
12,719
241
1,106
—
—
5,014
1,765
1,735
1,664
93
(5)
123
(45)
—
284
—
(444)
(75)
(808)
4,105
56
923
(33,245)
33,794
(770)
(85)
12,479
(3,460)
1,000
(95,355)
(64,611)
31,053
8,175
11,653
(2,483)
1,242
(1,266)
12
—
—
1,115
(112,925)
9,405
115,737
(9,996)
(3,947)
(183,188)
211,670
—
(878)
(1,474)
137,329
36,883
25,995
62,878
7,951
3,975
374
—
—
4,166
$
$
$
$
$
$
$
$
$
$
$
$
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(1) Summary of Significant Accounting Policies
Hawthorn Bancshares, Inc. (the Company) through its subsidiary, Hawthorn Bank (the Bank), provides a broad range of banking services to
individual and corporate customers located within the communities in and surrounding Jefferson City, Columbia, Clinton, Warsaw,
Springfield, and the greater Kansas City metropolitan area. The Company is subject to competition from other financial and nonfinancial
institutions providing financial products. Additionally, the Company and its subsidiaries are subject to the regulations of certain regulatory
agencies and undergo periodic examinations by those regulatory agencies.
The accompanying consolidated financial statements of the Company have been prepared in conformity with U.S. generally accepted
accounting principles (U.S. GAAP). The preparation of the consolidated financial statements includes all adjustments that, in the opinion of
management, are necessary in order to make those statements not misleading. Management is required to make estimates and assumptions,
including the determination of the allowance for loan losses, real estate acquired in connection with foreclosure or in satisfaction of loans,
and fair values of investment securities available-for-sale that affect the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. The Company's management has evaluated and did not identify any
subsequent events or transactions requiring recognition or disclosure in the consolidated financial statements.
The significant accounting policies used by the Company in the preparation of the consolidated financial statements are summarized
below:
Principles of Consolidation
In December of 2008, the Company formed Hawthorn Real Estate, LLC, (the Real Estate Company); a wholly owned subsidiary of the
Company. In December of 2017, the Company formed Hawthorn Risk Management, Inc., (the Insurance Captive); a wholly owned
subsidiary of the Company. The consolidated financial statements include the accounts of the Company, Hawthorn Bank (the Bank), the
Real Estate Company, and the Insurance Captive. All significant intercompany accounts and transactions have been eliminated in
consolidation.
Loans
Loans that the Company has the intent and ability to hold for the foreseeable future or to maturity are held for investment at their stated
unpaid principal balance amount less unearned income and the allowance for loan losses. Income on loans is accrued on a simple-interest
basis. Loan origination fees and certain direct costs are deferred and recognized over the life of the loan as an adjustment to yield.
Loans Held for Sale
Loans originated, primarily one-to-four family residential mortgage loans, with the intent to be sold in the secondary market are classified
as held for sale and are accounted for at the lower of adjusted cost or fair value. Adjusted cost reflects the funded loan amount and any loan
origination costs and fees. In order to manage the risk associated with such activities, the Company upon locking in an interest rate with the
borrower enters into an agreement to sell such loans in the secondary market. Loans held for sale are typically sold with servicing rights
retained and without recourse except for normal and customary representation and warranty provisions. Mortgage loans held for sale were
$428,000 at December 31, 2019 compared to $583,000 at December 31, 2018.
Impaired Loans
A loan is considered impaired when it is probable the Company will be unable to collect all amounts due, both principal and interest,
according to the contractual terms of the loan agreement. Included in impaired loans are all non-accrual loans and loans whose terms have
been modified in a troubled debt restructuring. Impaired loans are individually evaluated for impairment based on fair values of the
underlying collateral, obtained through independent appraisals or internal valuations for a collateral dependent loan or by discounting the
total expected future cash flows.
33
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Non-Accrual Loans
Loans are placed on nonaccrual status when management believes that the borrower's financial condition, after consideration of business
conditions and collection efforts, is such that collection of interest is doubtful. Loans that are contractually 90 days past due as to principal
and/or interest payments are generally placed on non-accrual, unless they are both well-secured and in the process of collection. Consumer
loans and real estate loans secured by one to four family residential properties are exempt from these non-accrual guidelines. These loans
are placed on non-accrual after 120 days past due. Subsequent interest payments received on such loans are applied to principal if doubt
exists as to the collectability of such principal; otherwise, such receipts are recorded as interest income on a cash basis. A loan remains on
nonaccrual status until the loan is current as to payment of both principal and interest and/or the borrower demonstrates the ability to pay
and remain current.
Restructured Loans
A loan is accounted for as a troubled debt restructuring (TDR) if the Company, for economic or legal reasons related to the borrowers'
financial difficulties, grants a concession to the borrower that it would not otherwise consider. A TDR typically involves (1) modification of
terms such as a reduction of the stated interest rate, loan principal, accrued interest, or an extended maturity date (2) a loan renewal at a
stated interest rate lower than the current market rate for a new loan with similar risk, or (3) debt that was not reaffirmed in bankruptcy.
Nonperforming TDRs are returned to performing status once the borrower demonstrates the ability to pay under the terms of the restructured
note through a sustained period of repayment performance, which is generally six months. The Company includes all performing and non-
performing TDRs in the impaired and non-performing asset totals. The Company measures the impairment loss of a TDR in the same manner
as described below. TDRs which are performing under their contractual terms continue to accrue interest which is recognized in current
earnings.
Allowance for Loan Losses
Management has identified the accounting policy related to the allowance for loan losses as critical to the understanding of the Company's
results of operations, since the application of this policy requires significant management assumptions and estimates that could result in
materially different amounts to be reported if conditions or underlying circumstances were to change. The fair value of impaired loans
deemed collateral dependent, for purposes of the measurement of the impairment loss, can be subject to changing market conditions, supply
and demand, condition of the collateral and other factors over time. Such volatility can have an impact on the financial performance of the
Company.
Loans, or portions of loans, are charged off to the extent deemed uncollectible or a loss is confirmed. When loans become 90 days past due,
they are generally placed on nonaccrual status or charged off unless extenuating circumstances justify leaving the loan on accrual basis.
When loans reach 120 days past due and there is little likelihood of repayment, the uncollectible portion of the loans are charged off. Loan
charge-offs reduce the allowance for loan losses, and recoveries of loans previously charged off are added back to the allowance. If
management determines that it is probable that all amounts due on a loan will not be collected under the original terms of the loan agreement,
the loan is considered to be impaired.
The specific reserve component applies to loans evaluated individually for impairment. The net carrying value of impaired loans is generally
based on the fair values of collateral obtained through independent appraisals and/or internal evaluations, or by discounting the total expected
future cash flows. Once the impairment amount is calculated, a specific reserve allocation is recorded.
The incurred loss component of the general reserve, or loans collectively evaluated for impairment, is determined by applying loss rates to
pools of loans by loan type. Loans not individually evaluated are aggregated by risk characteristics and reserves are recorded using a
consistent methodology that considers historical loan loss experience by loan type. The Company believes that the look-back period
beginning January 1, 2012 provides a representative historical loss period in the current economic environment. These historical loss rates
for each risk group are used as the starting point to determine loss rates for measurement purposes. The historical loan loss rates are multiplied
by loss emergence periods (LEP) which represent the estimated time period between a borrower first experiencing financial difficulty and
the recognition of a loss.
34
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The Company's methodology includes qualitative risk factors that allow management to adjust its estimates of losses based on the most
recent information available and to address other limitations in the quantitative component that is based on historical loss rates. Such risk
factors are generally reviewed and updated quarterly, as appropriate, and are adjusted to reflect changes in national and local economic
conditions and developments, the nature, volume and terms of loans in the portfolio, including changes in volume and severity of past due
loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans, loan concentrations, assessment
of trends in collateral values, assessment of changes in the quality of the Company's internal loan review department, and changes in lending
policies and procedures, including underwriting standards and collections, charge-off and recovery practices.
Certificates of Deposit in other banks
Certificates of deposit are investments made by the Company with other financial institutions, in amounts less than $250,000 each in order
to qualify for FDIC insurance coverage, that are carried at cost which approximates fair values.
Investment Securities
Available for sale securities
The largest component of the Company's investment portfolio consists of debt securities which are classified as available-for-sale and are
carried at fair value. Changes in fair value, excluding certain losses associated with other-than-temporary impairment, are reported in other
comprehensive income, net of taxes, a component of stockholders' equity. Securities are periodically evaluated for other-than-temporary
impairment in accordance with guidance provided in the FASB ASC Topic 320, Investments – Debt Securities. For those securities with
other-than-temporary impairment, the entire loss in fair value is required to be recognized in current earnings if the Company intends to sell
the securities or believes it more likely than not that it will be required to sell the security before the anticipated recovery. If neither condition
is met, but the Company does not expect to recover the amortized cost basis, the Company determines whether a credit loss has occurred,
which is then recognized in current earnings. The amount of the total other-than-temporary impairment related to all other factors is
recognized in other comprehensive income.
Premiums and discounts are amortized using the interest method over the lives of the respective securities, with consideration of historical
and estimated prepayment rates for mortgage-backed securities, as an adjustment to yield. Dividend and interest income are recognized when
earned. Realized gains and losses for securities classified as available-for-sale are included in earnings based on the specific identification
method for determining the cost of securities sold.
Other investment securities
Other investment securities include equity securities with readily determinable fair values and other investment securities that do not have
readily determinable fair values. Investments in Federal Home Loan Bank (FHLB) stock, and Midwest Independent Bank (MIB) bankers
bank stock, that do not have readily determinable fair values, are required for membership in those organizations.
Equity securities with readily determinable fair values are recorded at fair value, with changes in fair value reflected in earnings. Equity
securities that do not have readily determinable fair values are carried at cost and are periodically assessed for impairment.
Capital Stock of the Federal Home Loan Bank
The Bank, as a member of the Federal Home Loan Bank System administered by the Federal Housing Finance Agency, is required to
maintain an investment in the capital stock of the Federal Home Loan Bank of Des Moines (FHLB) in an amount equal to 12 basis points of
the Bank's year-end total assets plus 4.00% of advances from the FHLB to the Bank. These investments are recorded at cost, which represents
redemption value.
35
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Premises and Equipment
Premises and equipment are stated at cost, less accumulated depreciation. Depreciation applicable to buildings and improvements and
furniture and equipment is charged to expense using straight-line and accelerated methods over the estimated useful lives of the assets. Such
lives are estimated to be 5 to 40 years for buildings and improvements and 3 to 15 years for furniture and equipment. Maintenance and
repairs are charged to expense as incurred.
Mortgage Servicing Rights
The Company originates and sells residential mortgage loans in the secondary market and typically retains the right to service the loans sold.
Servicing involves the collection of payments from individual borrowers and the distribution of those payments to the investors or master
servicer. Upon a sale of mortgage loans for which servicing rights are retained, the retained mortgage servicing rights asset is capitalized at
the fair value of future net cash flows expected to be realized for performing servicing activities.
Mortgage servicing rights are carried at fair value in the consolidated balance sheet with changes in the fair value recognized in earnings.
As most servicing rights do not trade in an active market with readily observable prices, the Company determines the fair value of mortgage
servicing rights by estimating the fair value of the future cash flows associated with the mortgage loans being serviced. Key assumptions
used in measuring the fair value of mortgage servicing rights include, but are not limited to, prepayment speeds, discount rates, delinquencies,
ancillary income, and cost to service. These assumptions are validated on a periodic basis. The fair value is validated on a quarterly basis
with an independent third party valuation specialist firm.
In addition to the changes in fair value of the mortgage servicing rights, the Company also recorded loan servicing fee income as part of real
estate servicing fees, net in the consolidated statements of income. Loan servicing fee income represents revenue earned for servicing
mortgage loans. The servicing fees are based on contractual percentage of the outstanding principal balance and recognized as revenue as
the related mortgage payments are collected. Corresponding loan servicing costs are charged to expense as incurred.
Other Real Estate Owned and Repossessed Assets
Other real estate owned and repossessed assets consist of loan collateral that has been repossessed through foreclosure. This collateral is
comprised of commercial and residential real estate and other non-real estate property, including autos, manufactured homes, and
construction equipment. Other real estate owned assets are initially recorded as held for sale at the fair value of the collateral less estimated
selling costs. Any adjustment is recorded as a charge-off against the allowance for loan losses. The Company relies on external appraisals
and assessment of property values by internal staff. In the case of non-real estate collateral, reliance is placed on a variety of sources,
including external estimates of value and judgment based on experience and expertise of internal specialists. Subsequent to foreclosure,
valuations are updated periodically, and the assets may be written down to reflect a new cost basis. The valuation write-downs are recorded
as other non-interest expense. The Company establishes a valuation allowance related to other real estate owned and repossessed assets on
an asset-by-asset basis. The valuation allowance is created during the holding period when the fair value less cost to sell is lower than the
cost of the asset.
Pension Plan
The Company provides a noncontributory defined benefit pension plan for all full-time employees. The benefits are based on age, years of
service and the level of compensation during the employees highest ten years of compensation before retirement. Net periodic costs are
recognized as employees render the services necessary to earn the retirement benefits. The Company records annual amounts relating to its
pension plan based on calculations that incorporate various actuarial and other assumptions including discount rates, mortality, assumed
rates of return, compensation increases, and turnover rates. The Company reviews its assumptions on an annual basis and may make
modifications to the assumptions based on current rates and trends when it is appropriate to do so. The Company believes that the
assumptions utilized in recording its obligations under its plan are reasonable based on its experience and market conditions.
36
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The Company follows authoritative guidance included in the FASB ASC Topic 715, Compensation – Retirement Plans under the subtopic
Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans. ASC Topic 715 requires an employer to recognize the
overfunded or underfunded status of a defined benefit postretirement plan (other than a multiemployer plan) as an asset or liability in its
consolidated balance sheet and to recognize changes in the funded status in the year in which the changes occur through comprehensive
income. This guidance also requires an employer to measure the funded status of a plan as of the date of its fiscal year-end, with limited
exceptions. Additional disclosures are required to provide users with an understanding of how investment allocation decisions are made,
major categories of plan assets, and fair value measurement of plan assets as defined in ASC Topic 820, Fair Value Measurements and
Disclosures.
Income Taxes
Income taxes are accounted for under the asset / liability method by recognizing the amount of taxes payable or refundable for the current
period and deferred tax assets and liabilities for future tax consequences of events that have been recognized in the Company's financial
statements or tax returns. Deferred income tax assets and liabilities are provided as temporary differences between the tax basis of an asset
or liability and its reported amount in the consolidated financial statements at the enacted tax rate expected to be applied in the period the
deferred tax item is expected to be realized. A valuation allowance, if needed, reduces deferred tax assets to the expected amount most likely
to be realized. Realization of deferred tax assets is dependent upon the generation of a sufficient level of future taxable income and
recoverable taxes paid in prior years.
A tax position is initially recognized in the financial statements when it is more likely than not the position will be sustained upon examination
by the tax authorities. Such tax positions are initially and subsequently measured as the largest amount of tax benefit that is greater than 50%
likely of being realized upon ultimate settlement with the tax authority assuming full knowledge of the position and all relevant facts.
Penalties and interest incurred under the applicable tax law are classified as income tax expense. The Company has not recognized any tax
liabilities or any interest or penalties in income tax expense related to uncertain tax positions as of December 31, 2019, 2018, and 2017.
Trust Department
Property held by the Bank in a fiduciary or agency capacity for customers is not included in the accompanying consolidated balance sheets,
since such items are not assets of the Company. Trust department income is recognized on the accrual basis.
Consolidated Statements of Cash Flows
For the purpose of the consolidated statements of cash flows, cash and cash equivalents consist of short-term federal funds sold and securities
sold or purchased under agreements to resell, overnight interest earning deposits with banks, cash, and due from banks.
Stock-Based Compensation
The Company's stock-based employee compensation plan (the plan) is described in Note 14, Stock Compensation. In accordance with FASB
ASC Topic 718, Compensation – Stock Compensation, the Company measures the cost of the stock-based compensation based on the grant-
date fair value of the award, recognizing the cost over the requisite service period. The fair value of an award is estimated using the Black-
Scholes option-pricing model. The Company adopted ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, on
January 1, 2017 and elected to recognize forfeitures as they occur. Prior to the adoption of the ASU, the expense was recognized based on
an estimation of the number of awards for which the requisite service is expected to be rendered, and is included in salaries and employee
benefits in the accompanying Consolidated Statements of Income. The plan expired on February 28, 2010, except as to outstanding options
under the plan, and no further options may be granted pursuant to the plan. All options were fully expensed as of September 30, 2017.
Treasury Stock
The purchase of the Company's common stock is recorded at cost. Purchases of the stock are made both in the open market and through
negotiated private purchases based on market prices. At the date of subsequent reissue, the treasury stock account is reduced by the cost
37
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
associated with such stock on a first-in-first-out basis. Gains on the sale of treasury stock are credited to additional paid-in-capital. Losses
on the sale of treasury stock are charged to additional paid-in-capital to the extent of pervious gains, otherwise charged to retained
earnings.
Stock Dividend On July 1, 2019, the Company paid a special stock dividend of four percent to shareholders of record at the close of business
on June 15, 2019. For all periods presented, share information, including basic and diluted earnings per share, has been adjusted retroactively
to reflect this change.
Summary of Recent Transactions and Events On February 8, 2019, Hawthorn Bank, a wholly-owned subsidiary of the Company, completed
the sale of its branch located in Branson, Missouri with total deposits of approximately $10.6 million to Branson Bank in Branson, Missouri.
The transaction excludes loans assigned to the branch. The sale resulted in a pre-tax gain of approximately $2.2 million, or $1.7 million after
tax.
Reclassifications Certain prior year information has been reclassified to conform to the 2019 presentation.
The following represents significant new accounting principles adopted in 2019:
Leases On January 1, 2019, the Company adopted ASU No. 2016-02, Leases (Topic 842) which requires that lessees and lessors recognize
lease assets and lease liabilities on the balance sheet and disclose key information about leasing arrangements. The ASU primarily affects
lessee accounting, which requires the lessee to recognize a right-of-use asset (ROU) and a liability to make lease payments for those leases
classified as operating leases. For leases with a term of 12 months or less, an election by class of underlying asset not to recognize lease
assets and lease liabilities is permitted. The ASU also provides additional guidance as to the definition of a lease, identification of lease
components, and sale and leaseback transactions. The Company's operating leases primarily relate to office space and bank branches.
In January 2018, the FASB issued ASU 2018-01, which allows entities the option to apply the provisions of the new lease guidance at the
effective date without adjusting the comparative periods presented. In July 2018, the FASB issued ASU 2018-10, which provides narrow-
scope improvements to the lease standard and ASU 2018-11, which allows entities to choose an additional transition method, under which
an entity initially applies the new lease standard at the adoption date and recognizes a cumulative-effect adjustment to the opening balance
of retained earnings in the period of adoption. Under this transitional method, the entity shall recognize and measure the leases that exist at
the adoption date and the prior comparative periods are not adjusted. The Company adopted this ASU as of January 1, 2019 using the
transitional method. In addition, the Company utilized the practical expedients that allowed it to retain the classifications of existing leases,
not re-assess if existing leases have initial direct costs, and hindsight when determining the lease term and assessment of impairment. The
adoption of ASU 2016-02 and related transition guidance resulted in the recording of right-of-use assets and lease liabilities on the
consolidated balance sheets of $2.3 million and $2.3 million at the adoption date, respectively; however, it did not have a material impact
on the Company's other consolidated financial statements. See Note 9 - Leases for additional information.
Derivatives and Hedging The FASB issued guidance within ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities
(Topic 815) in August 2017. The amendments in ASU 2017-12 to Topic 815, Derivatives and Hedging, are intended to more closely align
hedge accounting with companies' risk management strategies, simplify the application of hedge accounting, and increase transparency as
to the scope and results of hedging programs. The guidance also amends the presentation and disclosure requirements and changes how
companies assess effectiveness. Under the new guidance, public companies will have until the end of the first quarter in which a hedge is
designated to perform an initial assessment of a hedge's effectiveness. After initial qualification, the new guidance permits a qualitative
effectiveness assessment for certain hedges instead of a quantitative test if the company can reasonably support an expectation of high
effectiveness throughout the term of the hedge. Additional disclosures include cumulative basis adjustments for fair value hedges and the
effect of hedging on individual income statement line items. The amendments in this Update are effective for fiscal years beginning after
December 15, 2018, and interim periods within those fiscal years. The ASU did not have a significant effect on the Company's Consolidated
Financial Statements.
38
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(2) Loans and Allowance for Loan Losses
Loans
A summary of loans, by major class within the Company's loan portfolio, at December 31, 2019 and 2018 is as follows:
(in thousands)
Commercial, financial, and agricultural
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total loans
$
$
2019
199,022
23,035
84,998
253,071
576,635
32,464
1,169,225
2018
207,720
28,610
106,784
241,517
529,536
32,460
1,146,627
$
$
The Bank grants real estate, commercial, installment, and other consumer loans to customers located within the communities surrounding
Jefferson City, Columbia, Clinton, Warsaw, Springfield, and the greater Kansas City metropolitan area. As such, the Bank is susceptible to
changes in the economic environment in these communities. The Bank does not have a concentration of credit in any one economic sector.
Installment and other consumer loans consist primarily of the financing of vehicles. At December 31, 2019, $512.3 million of loans were
pledged to the Federal Home Loan Bank as collateral for borrowings and letters of credit.
The following is a summary of loans to directors and executive officers or to entities in which such individuals had a beneficial interest of
the Company:
(in thousands)
Balance at December 31, 2018
New loans
Amounts collected
Balance at December 31, 2019
$
$
6,004
1,197
(1,600)
5,601
Such loans were made in the normal course of business on substantially the same terms, including interest rates and collateral requirements,
as those prevailing at the same time for comparable transactions with other persons, and did not involve more than the normal risk of
collectability or present unfavorable features.
39
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Allowance for loan losses
The following table illustrates the changes in the allowance for loan losses by portfolio segment:
(in thousands)
Balance at December 31, 2016
Additions:
Provision for loan losses
Deductions:
Loans charged off
Less recoveries on loans
Net loans charged off
Balance at December 31, 2017
Additions:
Provision for loan losses
Deductions:
Loans charged off
Less recoveries on loans
Net loans charged off
Balance at December 31, 2018
Additions:
Provision for loan losses
Deductions:
Loans charged off
Less recoveries on loans
Net loans charged off
Balance at December 31, 2019
$
Commercial, Real Estate
Financial, & Construction - Construction - Mortgage - Mortgage -
Agricultural Residential Commercial Residential Commercial Consumer allocated Total
$
Real Estate Real Estate Installment
413 $ 2,385 $
274 $ 160 $ 9,886
3,793 $
2,753 $
Real Estate
108 $
and other
Un-
1,147
(26)
394
(560)
657
234
(81)
1,765
649
(74)
575
3,325 $
$
—
(88)
(88)
170 $
—
—
—
219
(83)
136
807 $ 1,689 $
45
(32)
13
4,437 $
268
(105)
163
345 $
1,181
—
(382)
—
—
799
79 $ 10,852
296
(44)
(20)
516
457
150
120
1,475
484
(100)
384
3,237 $
$
48
(62)
(14)
140 $
30
—
30
186
(52)
134
757 $ 2,071 $
38
(58)
(20)
4,914
1,041
—
255
(366)
—
(94)
161
—
675
334 $ 199 $ 11,652
(168)
(126)
(388)
195
1,618
138
(119)
1,150
295
(144)
151
2,918 $
—
(50)
(50)
64 $
—
—
—
277
(129)
148
369 $ 2,118 $
25
(40)
(15)
6,547 $
196
(105)
91
381 $
793
—
(468)
—
—
325
80 $ 12,477
Loans, or portions of loans, are charged off to the extent deemed uncollectible or a loss is confirmed. Loan charge-offs reduce the allowance
for loan losses, and recoveries of loans previously charged off are added back to the allowance. If management determines that it is probable
that all amounts due on a loan will not be collected under the original terms of the loan agreement, the loan is considered to be impaired.
These loans are evaluated individually for impairment, and in conjunction with current economic conditions and loss experience, specific
reserves are estimated as further discussed below. Loans not individually evaluated are aggregated by risk characteristics and reserves are
recorded using a consistent methodology that considers historical loan loss experience by loan type, delinquencies, current economic
conditions, loan risk ratings and industry concentration.
Beginning with the first quarter 2019, management adjusted the look-back period to begin with loss history in the first quarter 2012 and
continue to include this starting point going forward. Management determined that with the current economic recovery continuing to set
records for its length, the look-back period needed to be expanded to account for this extended economic cycle. This ever increasing look-
back period will then be adjusted once a loss producing downturn is recognized by allowing the look-back period to shift forward by
eliminating the earliest loss period and replenishing it with losses from the most recent period. Prior to 2019, the Company utilized a five-
year look-back period, which was considered a representative historical loss period. The look-back period is consistently evaluated for
relevance given the current facts and circumstances.
40
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The following table illustrates the allowance for loan losses and recorded investment by portfolio segment:
(in thousands)
December 31, 2019
Allowance for loan losses:
Individually evaluated for impairment
Collectively evaluated for impairment
Total
Loans outstanding:
Individually evaluated for impairment
Collectively evaluated for impairment
Total
December 31, 2018
Allowance for loan losses:
Individually evaluated for impairment
Collectively evaluated for impairment
Total
Loans outstanding:
Individually evaluated for impairment
Collectively evaluated for impairment
Total
Impaired loans
Commercial,
Financial, and Construction - Construction - Mortgage - Mortgage -
Agricultural Residential Commercial Residential Commercial Consumer allocated
Real Estate Real Estate Installment
and Other Un-
Real Estate
Real Estate
Total
$
$
$
$
$
$
$
$
311 $
2,607
2,918 $
— $
64
64 $
— $
369
369 $
264 $
1,854
2,118 $
23 $
6,524
6,547 $
17 $
364
381 $
— $
80
80 $
615
11,862
12,477
1,514 $
197,508
199,022 $
— $
23,035
23,035 $
137 $
3,856 $
1,711 $
177 $
84,861
84,998 $ 253,071 $
249,215
574,924
576,635 $
32,287
32,464 $
7,395
— $
—
1,161,830
— $ 1,169,225
551 $
2,686
3,237 $
— $
140
140 $
— $
757
757 $
579 $
1,492
2,071 $
37 $
4,877
4,914 $
27 $
307
334 $
— $
199
199 $
1,194
10,458
11,652
2,428 $
205,292
207,720 $
— $
28,610
28,610 $
153 $
4,793 $
850 $
254 $
106,631
106,784 $ 241,517 $
236,724
528,686
529,536 $
32,206
32,460 $
8,478
— $
—
1,138,149
— $ 1,146,627
Loans evaluated under ASC 310-10-35 include loans which are individually evaluated for impairment. All other loans are collectively
evaluated for impairment under ASC 450-20. Impaired loans individually evaluated for impairment totaled $7.4 million and $8.5 million at
December 31, 2019 and 2018, respectively, and are comprised of loans on non-accrual status and loans which have been classified as troubled
debt restructurings (TDRs).
The net carrying value of impaired loans is based on the fair values of collateral obtained through independent appraisals or internal
evaluations, or by discounting the total expected future cash flows. At December 31, 2019, $3.0 million of impaired loans were evaluated
based on the fair value less estimated selling costs of the loans' collateral compared to $3.8 million at December 31, 2018. Once the
impairment amount is calculated, a specific reserve allocation is recorded. At December 31, 2019, $615,000 of the Company's allowance for
loan losses was allocated to impaired loans totaling $7.4 million compared to $1.2 million of the Company's allowance for loan losses
allocated to impaired loans totaling approximately $8.5 million at December 31, 2018. Management determined that $2.6 million, or 35%,
of total impaired loans required no reserve allocation at December 31, 2019 compared to $2.1 million, or 25%, at December 31, 2018
primarily due to adequate collateral values, acceptable payment history and adequate cash flow ability.
The categories of impaired loans at December 31, 2019 and 2018 are as follows:
(in thousands)
Non-accrual and non-performing TDRs
Performing TDRs
Total impaired loans
2019
2018
$
$
4,860
2,535
7,395
$
$
5,414
3,064
8,478
41
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The following tables provide additional information about impaired loans at December 31, 2019 and 2018, respectively, segregated between
loans for which an allowance has been provided and loans for which no allowance has been provided.
(in thousands)
December 31, 2019
With no related allowance recorded:
Commercial, financial and agricultural
Real estate - construction commercial
Real estate - residential
Real estate - commercial
Installment and other consumer
Total
With an allowance recorded:
Commercial, financial and agricultural
Real estate - residential
Real estate - commercial
Installment and other consumer
Total
Total impaired loans
(in thousands)
December 31, 2018
With no related allowance recorded:
Commercial, financial and agricultural
Real estate - construction commercial
Real estate - residential
Real estate - commercial
Total
With an allowance recorded:
Commercial, financial and agricultural
Real estate - residential
Real estate - commercial
Installment and other consumer
Total
Total impaired loans
Recorded
Investment
Unpaid
Principal
Balance
Specific
Reserves
$
$
$
$
$
342 $
137
697
1,388
12
2,576 $
1,172 $
3,159
323
165
4,819 $
7,395 $
487 $
173
784
1,433
12
2,889 $
1,470 $
3,482
425
189
5,566 $
8,455 $
—
—
—
—
—
311
264
23
17
615
615
Recorded
Investment
Unpaid
Principal
Balance
Specific
Reserves
$
$
$
$
$
1,264 $
153
561
115
2,093 $
1,164 $
4,232
735
254
6,385 $
8,478 $
1,550 $
180
602
119
2,451 $
1,236 $
4,458
1,093
280
7,067 $
9,518 $
—
—
—
—
—
551
579
37
27
1,194
1,194
42
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The following table presents by class, information related to the average recorded investment and interest income recognized on impaired
loans for the years ended December 31, 2019 and 2018:
(in thousands)
With no related allowance recorded:
Commercial, financial and agricultural
Real estate - construction commercial
Real estate - residential
Real estate - commercial
Installment and other consumer
Total
With an allowance recorded:
Commercial, financial and agricultural
Real estate - construction residential
Real estate - residential
Real estate - commercial
Installment and other consumer
Total
Total impaired loans
2019
2018
Average
Recorded
Investment
Interest
Recognized
For the
Period Ended
Average
Recorded
Investment
Interest
Recognized
For the
Period Ended
$
$
$
$
$
805
145
685
1,062
6
2,703
1,097
—
3,583
334
199
5,213
7,916
$
$
$
$
$
—
—
—
6
—
6
40
—
88
28
3
159
165
$
$
$
$
$
1,302
120
901
59
34
2,416
1,394
15
4,169
763
206
6,547
8,963
$
$
$
$
$
—
—
10
22
—
32
32
—
99
34
2
167
199
The recorded investment varies from the unpaid principal balance primarily due to partial charge-offs taken resulting from current appraisals
received. The amount recognized as interest income on impaired loans continuing to accrue interest, primarily related to troubled debt
restructurings, was $165,000 and $199,000, for the years ended December 31, 2019 and 2018, respectively. The average recorded investment
in impaired loans is calculated on a monthly basis during the years reported.
Delinquent and Non-Accrual Loans
The delinquency status of loans is determined based on the contractual terms of the notes. Borrowers are generally classified as delinquent
once payments become 30 days or more past due. The Company's policy is to discontinue the accrual of interest income on any loan when,
in the opinion of management, the ultimate collectability of interest or principal is no longer probable. In general, loans are placed on non-
accrual when they become 90 days or more past due. However, management considers many factors before placing a loan on non-accrual,
including the delinquency status of the loan, the overall financial condition of the borrower, the progress of management's collection efforts
and the value of the underlying collateral. Subsequent interest payments received on non-accrual loans are applied to principal if any doubt
exists as to the collectability of such principal; otherwise, such receipts are recorded as interest income on a cash basis. Non-accrual loans
are returned to accrual status when, in the opinion of management, the financial condition of the borrower indicates that the timely
collectability of interest and principal is probable and the borrower demonstrates the ability to pay under the terms of the note through a
sustained period of repayment performance, which is generally six months.
43
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The following table provides aging information for the Company's past due and non-accrual loans at December 31, 2019 and 2018.
(in thousands)
December 31, 2019
Commercial, Financial, and Agricultural
Real Estate Construction - Residential
Real Estate Construction - Commercial
Real Estate Mortgage - Residential
Real Estate Mortgage - Commercial
Installment and Other Consumer
Total
December 31, 2018
Commercial, Financial, and Agricultural
Real Estate Construction - Residential
Real Estate Construction - Commercial
Real Estate Mortgage - Residential
Real Estate Mortgage - Commercial
Installment and Other Consumer
Total
Credit Quality
Current or
Less Than
30 Days
Past Due
90 Days
Past Due
30 - 89 Days And Still
Past Due Accruing
Non-Accrual
Total
$
197,828 $
22,468
84,861
249,944
575,140
32,179
$ 1,162,420 $
$
205,597 $
28,404
106,531
235,734
527,968
32,002
$ 1,136,236 $
212 $
567
—
688
136
132
1,735 $
266 $
206
100
2,907
1,094
242
4,815 $
— $
—
—
304
—
12
316 $
— $
—
—
156
—
6
162 $
—
137
2,135
1,359
141
982 $ 199,022
23,035
84,998
253,071
576,635
32,464
4,754 $ 1,169,225
—
153
2,720
474
210
1,857 $ 207,720
28,610
106,784
241,517
529,536
32,460
5,414 $ 1,146,627
The Company categorizes loans into risk categories based upon an internal rating system reflecting management’s risk assessment. Loans
are placed on watch status when one or more weaknesses are identified that may result in the borrower being unable to meet repayment
terms or the Company’s credit position could deteriorate at some future date. Loans classified as substandard are inadequately protected by
the current sound worth and paying capacity of the obligor or by the collateral pledged, if any. Loans so classified may have a well-defined
weakness or weaknesses that jeopardize the repayment of the debt. Such loans are characterized by the distinct possibility that the Company
may sustain some loss if the deficiencies are not corrected. A loan is classified as a troubled debt restructuring (TDR) when a borrower is
experiencing financial difficulties that lead to the restructuring of a loan, and the Company grants concessions to the borrower in the
restructuring that it would not otherwise consider. Loans classified as TDRs that are accruing interest are classified as performing TDRs.
Loans classified as TDRs, that are not accruing interest or is 90 days past due are classified as nonperforming TDRs. It is the Company’s
policy to discontinue the accrual of interest income on loans when management believes that the collection of interest or principal is doubtful.
44
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The following table presents the risk categories by class at December 31, 2019 and 2018.
(in thousands)
At December 31, 2019
Watch
Substandard
Performing TDRs
Non-accrual and non-performing TDRs
Total
At December 31, 2018
Watch
Substandard
Performing TDRs
Non-accrual and non-performing TDRs
Total
Troubled Debt Restructurings
Commercial, Real Estate Real Estate Real Estate Real Estate Installment
Financial, & Construction - Construction - Mortgage - Mortgage -
Agricultural Residential
Residential Commercial Consumer
Commercial
and other
Total
$ 16,288 $
3,249
532
982
$ 21,051 $
$
8,871 $
53
570
1,857
$ 11,351 $
763 $
—
—
—
763 $
588 $
—
—
—
588 $
8,484 $ 15,280 $ 37,271 $
273
—
137
2,291
1,615
2,241
677
352
1,359
8,894 $ 21,427 $ 39,659 $
— $ 78,086
6,490
—
2,535
36
141
4,860
177 $ 91,971
4,063 $ 12,790 $ 36,408 $
—
—
153
1,411
2,073
2,720
702
377
474
4,216 $ 18,994 $ 37,961 $
8 $ 62,728
2,169
3
3,064
44
5,414
210
265 $ 73,375
At December 31, 2019, loans classified as TDRs totaled $4.1 million, of which $1.6 million were classified as non-performing TDRs and
$2.5 million were classified as performing TDRs. At December 31, 2018, loans classified as TDRs totaled $5.0 million, of which $2.0
million were classified as non-performing TDRs and $3.0 million were classified as performing TDRs. Both performing and nonperforming
TDRs are considered impaired loans. When an individual loan is determined to be a TDR, the amount of impairment is based upon the
present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the underlying collateral less
applicable selling costs. Accordingly, specific reserves of $442,000 and $543,000 related to TDRs were allocated to the allowance for loan
losses at December 31, 2019 and 2018, respectively.
The following table summarizes loans that were modified as TDRs during the years ended December 31, 2019 and 2018.
(in thousands)
Troubled Debt Restructurings
Commercial, financial and agricultural
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total
2019
Recorded Investment (1)
Pre-
2018
Recorded Investment (1)
Pre-
Number of
Contracts Modification Modification Contracts Modification Modification
Number of
Post-
Post-
2 $
—
2
—
4 $
80 $
—
267
—
347 $
58
—
266
—
324
3 $
2
—
5
10 $
510 $
149
—
185
844 $
502
147
—
117
766
(1) The amounts reported post-modification are inclusive of all partial pay-downs and charge-offs, and no portion of the debt was forgiven. Loans
modified as a TDR that were fully paid down, charged-off, or foreclosed upon during the period ended are not reported.
The Company's portfolio of loans classified as TDRs include concessions for the borrower due to deteriorated financial condition such as
interest rates below the current market rate, deferring principal payments, and extending maturity dates. During the year ended December
31, 2019, four loans meeting the TDR criteria were modified compared to ten loans during the year ended December 31, 2018.
The Company considers a TDR to be in default when it is 90 days or more past due under the modified terms, a charge-off occurs, or it is
the process of foreclosure. There was one commercial loan modified as a TDR with a $7,000 balance, where a concession was made and
subsequently defaulted and was moved to non-accrual status and some collateral was liquidated to pay down the balance during the year
45
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
ended December 31, 2019, within twelve months of its modification date. This is compared to one consumer TDR with a $3,000 balance,
where a concession was made and subsequently defaulted and was charged off during the year ended December 31, 2018, within twelve
months of its modification date. See Lending and Credit Management section for further information.
(3) Other Real Estate Acquired in Settlement of Loans
(in thousands)
Commercial
Real estate construction - residential
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Total
Less valuation allowance for other real estate owned
Total other real estate owned
Changes in the net carrying amount of other real estate owned for the years indicated:
Balance at December 31, 2017
Additions
Proceeds from sales
Charge-offs against the valuation allowance for other real estate owned, net
Net gain on sales
Balance at December 31, 2018
Additions
Proceeds from sales
Charge-offs against the valuation allowance for other real estate owned, net
Net gain on sales
Total other real estate owned
Less valuation allowance for other real estate owned
Balance at December 31, 2019
2019
2018
$
$
$
1,155
—
11,553
230
2,799
15,737
(2,956)
12,781
$
$
$
$
$
$
1,168
179
12,101
336
2,909
16,693
(3,002)
13,691
16,403
1,106
(585)
(245)
14
16,693
452
(1,435)
(95)
122
15,737
(2,956)
12,781
At December 31, 2019, $252,000 of consumer mortgage loans secured by residential real estate properties were in the process of foreclosure
compared to $200,000 of consumer mortgage loans in the process of foreclosure at December 31, 2018.
Activity in the valuation allowance for other real estate owned in settlement of loans for the years indicated:
(in thousands)
Balance, beginning of period
Provision for other real estate owned
Charge-offs
Balance, end of period
$
$
2019
2018
3,002 $
49
(95)
2,956 $
3,221 $
26
(245)
3,002 $
2017
3,129
284
(192)
3,221
46
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(4) Investment Securities
The amortized cost, gross unrealized gains and losses, and fair value of debt securities classified as available-for-sale at December 31, 2019
and 2018 were as follows:
(in thousands)
December 31, 2019
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgage-backed securities
Other debt securities (a)
Bank issued trust preferred securities (a)
Total available-for-sale securities
December 31, 2018
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgage-backed securities
Other debt securities (a)
Bank issued trust preferred securities (a)
Total available-for-sale securities
Total
Amortized
Gross Unrealized
Cost
Gains
Losses
Fair
Value
$
987 $
8,124
22,300
33,704
105,522
3,000
1,486
$ 175,123 $
8 $
—
41
144
522
53
—
768 $
995
— $
8,047
(77)
22,283
(58)
33,789
(59)
105,616
(428)
3,053
—
1,310
(176)
(798) $ 175,093
$
1,984 $
10,235
43,784
40,859
121,230
3,000
1,486
— $
—
23
28
72
—
—
$ 222,578 $
123 $
(32) $
(269)
(472)
(501)
(3,110)
—
(112)
1,952
9,966
43,335
40,386
118,192
3,000
1,374
(4,496) $ 218,205
(a) Certain hybrid instruments possessing characteristics typically associated with debt obligations.
The Company's investment securities are classified as available for sale. Agency bonds and notes, Small Business Administration guaranteed
loan certificates (SBA), residential and commercial agency mortgage-backed securities, and agency collateralized mortgage obligations
(CMO) include securities issued by the Government National Mortgage Association (GNMA), a U.S. government agency, the Federal
National Mortgage Association (FNMA), the Federal Home Loan Mortgage Corporation (FHLMC) and the Federal Home Loan Bank
(FHLB), which are U.S. government-sponsored enterprises.
Debt securities with carrying values aggregating approximately $139.8 million and $153.0 million at December 31, 2019 and December 31,
2018, respectively, were pledged to secure public funds, securities sold under agreements to repurchase, and for other purposes as required
or permitted by law.
47
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The amortized cost and fair value of debt securities classified as available-for-sale at December 31, 2019, by contractual maturity are shown
below. Expected maturities may differ from contractual maturities because borrowers have the right to call or prepay obligations with or
without prepayment penalties.
(in thousands)
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Total
Mortgage-backed securities
Total available-for-sale securities
Other investment securities
Amortized
Cost
12,023
27,002
20,448
10,128
69,601
105,522
175,123
$
$
$
$
Fair
Value
12,023
27,043
20,445
9,966
69,477
105,616
175,093
Other investment securities include equity securities with readily determinable fair values and other investment securities that do not have
readily determinable fair values. Investments in Federal Home Loan Bank (FHLB) stock, and Midwest Independent Bank (MIB) bankers
bank stock, that do not have readily determinable fair values, are required for membership in those organizations.
(in thousands)
Other securities:
FHLB stock
MIB stock
Equity securities with readily determinable fair values
Total other investment securities
2019
2018
$
$
5,644 $
151
13
5,808 $
5,512
151
12
5,675
Gross unrealized losses on debt securities and the fair value of the related securities, aggregated by investment category and length of time
that individual securities have been in a continuous unrealized loss position at December 31, 2019 and December 31, 2018 were as follows:
(in thousands)
At December 31, 2019
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgage-backed securities
Bank issued trust preferred securities
Total
(in thousands)
At December 31, 2018
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgage-backed securities
Bank issued trust preferred securities
Total
Less than 12 months
Fair
Value
Unrealized
Losses
12 months or more
Fair
Value
Losses
Unrealized
Total
Fair
Value
Total
Unrealized
Losses
$ 6,238 $
5,949
10,729
5,444
—
(69) $ 1,809 $
(47)
(53)
(37)
—
7,488
1,931
40,120
1,310
$ 28,360 $
(206) $ 52,658 $
(8) $ 8,047 $
13,437
12,660
45,564
1,310
(11)
(6)
(391)
(176)
(592) $ 81,018 $
(77)
(58)
(59)
(428)
(176)
(798)
(32) $ 1,952 $
(32)
— $ 1,952 $
(269)
(269)
—
(472)
(469)
(3)
(501)
(485)
(16)
(3,110)
(3,049)
(61)
—
(112)
(112)
(80) $ 174,791 $ (4,416) $ 192,724 $ (4,496)
9,966
35,343
34,683
109,406
1,374
9,966
33,346
28,832
99,321
1,374
$
— $
—
1,997
5,851
10,085
—
$ 17,933 $
48
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The total available for sale portfolio consisted of approximately 368 securities at December 31, 2019. The portfolio included 128 securities
having an aggregate fair value of $81.0 million that were in a loss position at December 31, 2019. Securities identified as temporarily
impaired which had been in a loss position for 12 months or longer had a fair value of $52.7 million at December 31, 2019. The $798,000
aggregate unrealized loss included in accumulated other comprehensive loss at December 31, 2019 was caused by interest rate fluctuations.
The total available for sale portfolio consisted of approximately 366 securities at December 31, 2018. The portfolio included 317 securities
having an aggregate fair value of $192.7 million that were in a loss position at December 31, 2018. Securities identified as temporarily
impaired which had been in a loss position for 12 months or longer totaled $174.8 million at fair value at December 31, 2018. The $4.5
million aggregate unrealized loss included in accumulated other comprehensive loss at December 31, 2018 was caused by interest rate
fluctuations.
Because the decline in fair value is attributable to changes in interest rates and not credit quality, these investments were not considered
other-than-temporarily impaired at December 31, 2019 and 2018, respectively. In the absence of changes in credit quality of these
investments, the fair value is expected to recover on all debt securities as they approach their maturity date, or re-pricing date or if market
yields for such investments decline. In addition, the Company does not have the intent to sell these investments over the period of recovery,
and it is not more likely than not that the Company will be required to sell such investment securities.
The table presents the components of investment securities gains and losses, which have been recognized in earnings:
(in thousands)
Investment securities (losses) gains, net
Available for sale securities:
Gains realized on sales
Losses realized on sales
Other-than-temporary impairment recognized
Other investment securities:
Fair value adjustments, net
Investment securities (losses) gains, net
(5) Premises and Equipment
A summary of premises and equipment at December 31, 2019 and 2018 is as follows:
(in thousands)
Land and land improvements
Buildings and improvements
Furniture and equipment
Operating leases - right of use asset
Construction in progress
Total
Less accumulated depreciation
Premises and equipment, net
2019
2018
2017
$
6 $
253 $
(46)
—
—
—
$
—
(40) $
2
255 $
38
(33)
—
—
5
2019
2018
$
$
9,433
34,926
14,081
2,425
77
60,942
25,554
35,388
$
$
9,917
35,674
14,163
—
754
60,508
25,614
34,894
Depreciation expense for the years ended December 31, 2019, 2018, and 2017 was as follows:
(in thousands)
Depreciation expense
2019
2,062 $
2018
1,797 $
2017
1,735
$
49
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(6) Intangible Assets
Mortgage Servicing Rights
At December 31, 2019 the Company was servicing $271.4 million of loans sold to the secondary market compared to $279.9 million and
$285.8 million at December 31, 2018 and 2017, respectively. Mortgage loan servicing fees, reported in real estate servicing fees, net, earned
on loans sold and serviced for others were $778,000, $821,000, and $833,000, for the years ended December 31, 2019, 2018, and 2017,
respectively.
The table below presents changes in mortgage servicing rights (MSRs) for the years ended December 31, 2019, 2018, and 2017.
(in thousands)
Balance at beginning of period
Originated mortgage servicing rights
Changes in fair value:
Due to changes in model inputs and assumptions (1)
Other changes in fair value (2)
Total changes in fair value
Balance at end of period
$
2019
2,931 $
290
2018
2,713 $
245
2017
2,584
222
(434)
(305)
(739)
2,482 $
286
(313)
(27)
2,931 $
364
(457)
(93)
2,713
$
(1) The change in fair value resulting from changes in valuation inputs or assumptions used in the valuation model reflects the change in discount rates and prepayment speed
assumptions primarily due to changes in interest rates.
(2) Other changes in fair value reflect changes due to customer payments and passage of time.
Total changes in fair value are reported in real estate servicing fees, net, reported in non-interest income in the Company's consolidated
statements of income.
The following key data and assumptions were used in estimating the fair value of the Company's mortgage servicing rights as of December
31, 2019 and 2018:
Weighted average constant prepayment rate
Weighted average note rate
Weighted average discount rate
Weighted average expected life (in years)
(7) Deposits
2019
13.42 %
3.93 %
8.61 %
4.8
2018
8.87 %
3.95 %
10.28 %
6.3
The aggregate amount of time deposits with balances that met or exceeded the Federal Deposit Insurance Corporation (FDIC) insurance
limit of $250,000 was $104.3 million and $104.9 million at December 31, 2019 and 2018, respectively. The Company had brokered deposits
totaling $45.2 million and $39.8 million at December 31, 2019 and 2018, respectively.
50
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The scheduled maturities of total time deposits at December 31, 2019 were as follows:
(in thousands)
Due within:
2020
2021
2022
2023
2024
Thereafter
Total
$
$
201,397
60,286
33,300
15,302
739
—
311,024
The Federal Reserve Bank required the Bank to maintain cash or balances of $1.3 million at December 31, 2019 compared to $1.8 million
at December 31, 2018 to satisfy reserve requirements. Average compensating balances held at correspondent banks were $1.5 million and
$787,000 at December 31, 2019 and 2018, respectively. The Bank maintains such compensating balances with correspondent banks to offset
charges for services rendered by those banks.
(8) Federal funds purchased and securities sold under agreements to repurchase
Information relating to federal funds purchased and repurchase agreements is as follows:
(in thousands)
2019
Federal funds purchased
Short-term repurchase agreements - Bank
Total
2018
Federal funds purchased
Short-term repurchase agreements - Bank
Short-term repurchase agreements - Company
Total
Year End Average Average
Balance
Weighted Weighted
Maximum
Balance at
Outstanding at
Outstanding any Month End December 31,
Rate
Rate
2.00 %
0.45
2.65 % $
0.45
$
329 $
22,198
22,527 $
2.64 %
0.35
—
2.29 % $
0.67
3.51
$
1,242 $
27,142
11,180
39,564 $
1,950 $
27,272
29,222 $
12,863 $
36,103
25,944
74,910 $
—
27,272
27,272
8,000
16,647
—
24,647
The securities underlying the agreements to repurchase are under the control of the Bank. All securities sold under agreements to repurchase
are secured by a portion of the Bank's investment portfolio. Under agreements with unaffiliated banks, the Bank may borrow federal funds
up to $50.0 million on an unsecured basis and $16.0 million on a secured basis at December 31, 2019.
During 2018, the Company had purchased U.S. Treasury securities with repurchase agreements in order to generate capital gains to offset
capital losses expiring in 2018 and 2019.
The Company offers a sweep account program whereby amounts in excess of an established limit are “swept” from the customer's demand
deposit account on a daily basis into retail repurchase agreements pursuant to individual repurchase agreements between the Company and
its customers. Repurchase agreements are agreements to sell securities subject to an obligation to repurchase the same or similar securities.
They are accounted for as collateralized financing transactions, not as sales and purchases of the securities portfolio. The securities collateral
pledged for the repurchase agreements with customers is maintained by a designated third party custodian. The collateral amounts pledged
51
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
to repurchase agreements by remaining maturity in the table below are limited to the outstanding balances of the related asset or liability;
thus amounts of excess collateral are not shown.
Repurchase Agreements
Remaining Contractual Maturity of the Agreements
(in thousands)
At December 31, 2019
U.S. Treasury
U.S. government-sponsored enterprises
Asset-backed securities
Total
At December 31, 2018
U.S. Treasury
U.S. government-sponsored enterprises
Asset-backed securities
Total
(9) Leases
Overnight
and
continuous
Less
than
90 days
Greater
than
90 days
Total
$
754 $
12,853
13,665
27,272 $
$
$
1,464 $
12,976
2,207
$
16,647 $
— $
—
—
— $
— $
—
—
— $
— $
—
—
— $
754
12,853
13,665
27,272
— $
—
—
— $
1,464
12,976
2,207
16,647
The Company's leases primarily consist of office space and bank branches with remaining lease terms of generally 1 to 10 years. As of
December 31, 2019, operating right-of-use (ROU) assets and liabilities were $2.4 million and $2.2 million, respectively. As of December
31, 2019, the weighted-average remaining lease term on these operating leases is approximately 8.5 years and the weighted-average discount
rate used to measure the lease liabilities is approximately 4.0%.
Operating leases in which the Company is the lessee are recorded as operating lease right-of-use assets and operating lease liabilities.
Currently, the Company does not have any finance leases. The ROU assets are included in premises and equipment, net on the consolidated
balance sheets.
Operating lease ROU assets represent the Company's right to use an underlying asset during the lease term and operating lease liabilities
represent the Company's obligation to make lease payments arising from the lease. ROU assets and operating lease liabilities are recognized
at lease commencement based on the present value of the remaining lease payments using a discount rate that represents the Company's
incremental borrowing rate at the lease commencement date.
Operating lease cost, which is comprised of amortization of the ROU asset and the implicit interest accreted on the operating lease liability,
is recognized on a straight-line basis over the lease term, and is recorded in net occupancy expense in the consolidated statements of income.
The operating lease cost for the year ended December 31, 2019 was $288,000.
At adoption of ASU 2016-02 on January 1, 2019, lease and non-lease components of new lease agreements are accounted for separately.
Lease components include fixed payments including rent, real estate taxes and insurance costs and non-lease components include common-
area maintenance costs. Leases with an initial term of 12 months or less are not recorded on the balance sheet; the Company recognizes lease
expense for these leases on a straight-line basis over the lease term. Operating lease expense for these leases was $163,000 for the year ended
December 31, 2019 compared to $169,000 for the year ended December 31, 2018.
52
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The table below summarizes the maturity of remaining operating lease liabilities:
Lease payments due in:
(in thousands)
2020
2021
2022
2023
2024
Thereafter
Total lease payments
Less imputed interest
Total lease liabilities, as reported
(10) Borrowings
Operating
Lease
334
317
310
312
258
1,087
2,618
(394)
2,224
$
$
Federal Home Loan Bank and other borrowings of the Company consisted of the following:
2019
2018
Year End
Year End
Maturity Year End Weighted Year End Weighted
(in thousands)
FHLB advances
Borrower
Date
The Bank
2019 $
2020
2021
2022
2023
2024
Thereafter
Balance
—
49,236
29,241
4,418
3,000
3,000
8,000
Rate
Balance
— % $ 28,231
2.61 % 42,236
2.52 % 20,241
2.14 % 4,418
—
1.90 %
—
1.93 %
—
2.15 %
Other borrowings
Total Bank
2022
24
$ 96,919
4.00 %
27
$ 95,153
Rate
1.63 %
2.49 %
2.77 %
2.14 %
— %
— %
— %
4.00 %
Subordinated notes
The Company
Total Company
2034 $ 25,774
23,712
2035
$ 49,486
4.60 % $ 25,774
3.73 % 23,712
$ 49,486
5.49 %
4.62 %
The Bank is a member of the Federal Home Loan Bank of Des Moines (FHLB) and has access to term financing from the FHLB. These
borrowings, which are all fixed rate, are secured under a blanket agreement which assigns all investment in FHLB stock, as well as qualifying
first mortgage loans as collateral to secure amounts borrowed by the Bank. As of December 31, 2019, the Bank had $96.9 million in
outstanding borrowings with the FHLB. Based upon the collateral pledged to the FHLB at December 31, 2019, the Bank could borrow up
to an additional $72.9 million under the agreement.
On March 17, 2005, Exchange Statutory Trust II, a business trust and subsidiary of the Company, issued $23.0 million of 30-year floating
rate Trust Preferred Securities (TPS) to a TPS Pool. The floating rate is equal to a three-month LIBOR rate plus 1.83% and reprices quarterly
(3.73% at December 31, 2019). The TPS can be prepaid without penalty at any time after five years from the issuance date.
53
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The TPS represent preferred interests in the trust. The Company invested approximately $712,000 in common interests in the trust and the
purchaser in the private placement purchased $23.0 million in preferred interests. The proceeds were used by the trust to purchase from the
Company its 30-year deeply subordinated debentures whose terms mirror those stated above for the TPS. The debentures are guaranteed by
the Company pursuant to a subordinated guarantee. Distributions on the TPS are payable quarterly on March 17, June 17, September 17,
and December 17 of each year that the TPS are outstanding. The trustee for the TPS holders is U.S. Bank, N.A. The trustee does not have
the power to take enforcement action in the event of a default under the TPS for five years from the date of default. In the event of default,
however, the Company would be precluded from paying dividends until the default is cured.
On March 17, 2004, Exchange Statutory Trust I, a business trust and subsidiary of the Company issued $25.0 million of floating rate TPS
to a TPS Pool. The floating rate is equal to the three-month LIBOR rate plus 2.70% and reprices quarterly (4.60% at December 31, 2019).
The TPS are fully, irrevocably, and unconditionally guaranteed on a subordinated basis by the Company.
The TPS represent preferred interests in the trust. The Company invested approximately $774,000 in common interests in the trust and the
purchaser in the private placement purchased $25.0 million in preferred interests. The proceeds of the TPS were invested in junior
subordinated debentures of the Company. Distributions on the TPS are payable quarterly on March 17, June 17, September 17, and December
17 of each year that the TPS are outstanding. The TPS mature on March 17, 2034. That maturity date may be shortened if certain conditions
are met.
The Exchange Statutory Trusts are not consolidated in the Company's financial statements. Accordingly, the Company does not report the
securities issued by the Exchange Statutory Trusts as liabilities, and instead reports the subordinated notes issued by the Company and held
by the Exchange Statutory Trusts as liabilities. The amount of the subordinated notes as of December 31, 2019 and 2018 was $49.5 million,
respectively. The Company has recorded the investments in the common securities issued by the Exchange Statutory Trusts aggregating
$1.3 and $1.4 million at December 31, 2019 and 2018, respectively, and the corresponding obligations under the subordinated notes, as well
as the interest income and interest expense on such investments and obligations in its consolidated financial statements.
(11) Income Taxes
The composition of income tax expense for the years ended December 31, 2019, 2018, and 2017 was as follows:
2019
2018
2017
$ 3,830 $ 1,175 $ 2,761
385
3,146
—
3,830
(181)
994
(7)
—
(7)
3,189
1,567
4,756
$ 3,823 $ 1,668 $ 7,902
674
—
674
(in thousands)
Current:
Federal
State
Total current
Deferred:
Federal
State
Total deferred
Total income tax expense
54
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Applicable income tax expense for financial reporting purposes differs from the amount computed by applying the statutory federal income
tax rate for the reasons noted in the table for the years ended December 31, 2019, 2018, and 2017 are as follows:
2019
2018
2017
(in thousands)
Income before provision for income tax expense
Tax at statutory federal income tax rate
Tax Cuts and Jobs Act
State restructuring
Tax-exempt income, net
State income tax, net of federal tax benefit
Other, net
Provision for income tax expense
Amount %
Amount %
Amount %
$ 19,937
$ 4,187
—
—
(408)
—
44
$ 12,382
21.00 % $ 2,600
(343)
(143)
(432)
—
(14)
—
—
(2.04)
—
0.22
$ 11,316
21.00 % $ 3,847
3,139
(2.77)
966
(1.16)
(394)
(3.49)
323
—
21
(0.11)
34.00 %
27.74
8.54
(3.48)
2.85
0.18
$ 3,823 19.18 % $ 1,668 13.47 % $ 7,902 69.83 %
Income taxes as a percentage of earnings before income taxes as reported in the consolidated financial statements were 19.2% for the year
ended December 31, 2019 compared to 13.5% and 69.8% for the years ended December 31, 2018 and 2017, respectively.
The year-over-year changes in the effective tax rate are primarily attributable to the prior impacts of the Tax Cuts and Jobs Act (Tax Act),
the prior impacts of the Company's state tax planning initiatives, and the increased earnings and branch sale gain in 2019. The Company's
tax rate is lower than the federal statutory rate primarily as a result of tax-exempt income.
The provisional adjustments recorded in the fourth quarter of 2017 related to the enactment of the Tax Act were finalized during the third
quarter of 2018 with the filing of the Company's 2017 tax return, within the one-year measurement period provided under Staff Accounting
Bulletin No. 118 in regards to the application of FASB's ASC Topic 740, Income Taxes. The finalization of the Company's Tax Act
adjustments in 2018 included a $343,000 benefit, while the Company's additional tax planning initiatives included a $143,000 benefit. The
total benefits are comprised of $306,000 benefit attributable to the pension contribution and a $180,000 benefit attributable to various
accounting method changes made on the Company's 2017 tax return.
55
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The components of deferred tax assets and deferred tax liabilities at December 31, 2019 and 2018 were as follows:
(in thousands)
Deferred tax assets:
Allowance for loan losses
Pension
Securities
Other real estate owned
Deferred loan fees
Lease Liability
Intangible assets
Accrued / deferred compensation
Other
Total deferred tax assets
Deferred tax liabilities:
Premises and equipment
Mortgage servicing rights
Deferred loan costs
Right-of-Use Asset
Prepaid expenses
Securities
Other
Total deferred tax liabilities
Net deferred tax assets
2019
2018
$
$
$
$
2,564 $
1,747
—
621
131
467
103
399
95
6,127 $
625 $
521
273
465
328
9
10
2,231
3,896 $
2,285
1,516
915
630
—
—
343
327
188
6,204
483
616
261
—
321
—
10
1,691
4,513
The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income of the appropriate character during
the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities,
projected future taxable income, and tax planning initiatives in making this assessment. In management's opinion, the Company will more
likely than not realize the benefits of its deferred tax assets and, therefore, has not established a valuation allowance against its deferred tax
assets as of December 31, 2019. Management arrived at this conclusion based upon the level of historical taxable income and projections
for future taxable income of the appropriate character over the periods in which the deferred tax assets are deductible. The Company follows
ASC Topic 740, Income Taxes, which addresses the accounting for uncertain tax positions.
The Company follows ASC Topic 740, Income Taxes, which addresses the accounting for uncertain tax positions. For each of the years
ended December 31, 2019 and 2018, respectively, the Company did not have any uncertain tax provisions, and did not record any related
tax liabilities.
56
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(12) Stockholders' Equity
Accumulated Other Comprehensive Loss
The following details the change in the components of the Company's accumulated other comprehensive loss for the years ended December
31, as indicated.
Accumulated
Unrecognized Net
Pension and
Other
Comprehensive
(in thousands)
Balance, December 31, 2017
Other comprehensive (loss) income, before reclassifications
Amounts reclassified from accumulated other comprehensive loss
Other comprehensive (loss) income, before tax
Income tax benefit (expense)
Other comprehensive (loss) income, net of tax
Balance, December 31, 2018
Other comprehensive income, before reclassifications
Amounts reclassified from accumulated other comprehensive loss
Other comprehensive (loss) income, before tax
Income tax (expense) benefit
Other comprehensive (loss) income, net of tax
Balance, December 31, 2019
Unrealized Loss
Postretirement
on Securities (1)
$
(2,500) $
(1,209)
—
(1,209)
254
(955)
(3,455) $
4,304
40
4,344
(912)
3,432
Costs (2)
(3,162) $
219
436
655
(137)
518
(2,644) $
79
(1,455)
(1,376)
288
(1,088)
(3,732) $
(Loss)
Income
(5,662)
(990)
436
(554)
117
(437)
(6,099)
4,383
(1,415)
2,968
(624)
2,344
(3,755)
$
(23) $
$
(1) The pre-tax amounts reclassified from accumulated other comprehensive (loss) income are included in (losses) gains on sale of investment securities
in the consolidated statements of income.
(2) The pre-tax amounts reclassified from accumulated other comprehensive (loss) income are included in the computation of net periodic pension cost.
See Note 13.
(13) Employee Benefit Plans
Employee benefits charged to operating expenses are summarized in the table below for the years ended December 31, as indicated.
(in thousands)
Payroll taxes
Medical plans
401(k) match and profit sharing
Periodic pension cost
Other
Total employee benefits
2019
1,112 $
1,826
1,290
1,430
63
5,721 $
2018
1,156 $
2,109
956
1,707
67
5,995 $
2017
1,167
2,026
873
1,343
83
5,492
$
$
The Company's profit-sharing plan includes a matching 401(k) portion, in which the Company matches the first 3% of eligible employee
contributions. The Company made annual contributions in an amount up to 6% of income before income taxes and before contributions to
the profit-sharing and pension plans for all participants, limited to the maximum amount deductible for federal income tax purposes, for each
of the years shown. In addition, employees were able to make additional tax-deferred contributions.
57
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Other Plans
On November 7, 2018, the Board of Directors of the Company adopted a supplemental executive retirement plan (SERP) which became
effective on January 1, 2018. The SERP provides select employees who satisfy certain eligibility requirement with certain benefits upon
retirement, termination of employment or death.
As of December 31, 2019, the accrued liability was $640,000 and the expense for this plan of $320,000 for both the years ended December
31, 2019 and 2018, respectively, was accrued and recognized over the required service period.
Pension
The Company provides a noncontributory defined benefit pension plan for all full-time employees. Beginning January 1, 2018 and for all
retrospective periods presented, the Company adopted the guidance under ASU 2017-07, Improving the Presentation of Net Periodic Pension
Cost and Net Periodic Postretirement Benefit Cost. Under the new guidance, only the service cost component of the net periodic benefit cost
is reported in the same income statement line item as salaries and benefits, and the remaining components are reported as other non-interest
expense. An employer is required to recognize the funded status of a defined benefit postretirement plan as an asset or liability in its balance
sheet and to recognize changes in that funded status in the year in which the changes occur through comprehensive income. Under the
Company’s funding policy for the defined benefit pension plan, contributions are made to a trust as necessary to provide for current service
and for any unfunded accrued actuarial liabilities over a reasonable period. To the extent that these requirements are fully covered by assets
in the trust, a contribution might not be made in a particular year. The Company made a pension contribution of $1.6 million on April 17,
2019. Effective July 1, 2017, the Company amended the pension plan to effectuate a “soft freeze” such that no individual hired (or rehired
in the case of a former employee) by the Company after September 30, 2017, whether or not such individual is or was a vested member in
the plan, will be eligible to be an active member and be entitled to accrue any benefits under the plan.
Obligations and Funded Status at December 31,
(in thousands)
Change in projected benefit obligation:
Balance, January 1
Service cost
Interest cost
Actuarial loss (gain)
Benefits paid
Balance, December 31,
Change in plan assets:
Fair value, January 1
Actual return on plan assets
Employer contribution
Expenses paid
Benefits paid
Fair value, December 31,
Funded status at end of year
Accumulated benefit obligation
2019
2018
$
$
$
$
$
$
26,892 $
1,430
1,169
5,164
(646)
34,009 $
27,871
1,707
1,037
(3,122)
(601)
26,892
19,672 $
5,164
1,610
(111)
(646)
25,689 $
(8,320) $
26,380 $
19,924
(1,329)
1,800
(122)
(601)
19,672
(7,220)
21,244
58
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Components of Net Pension Cost and Other Amounts Recognized in Accumulated Other Comprehensive Income
The following items are components of net pension cost for the years ended December 31, as indicated:
(in thousands)
Service cost - benefits earned during the year
Interest costs on projected benefit obligations (a)
Expected return on plan assets (a)
Expected administrative expenses (a)
Amortization of prior service cost (a)
Amortization of unrecognized net loss (a)
Net periodic pension cost
(a) The components of net periodic pension cost other than the service cost component are included in other non-interest expense.
2018
1,707 $
1,037
(1,327)
93
79
140
1,729 $
2019
1,430 $
1,169
(1,467)
122
79
—
1,333 $
2017
1,343
1,009
(1,127)
88
79
11
1,403
$
$
Net periodic pension benefit costs include interest costs based on an assumed discount rate, the expected return on plan assets based on
actuarially derived market-related values, and the amortization of net actuarial losses. Net periodic postretirement benefit costs include
service costs, interest costs based on an assumed discount rate, and the amortization of prior service credits and net actuarial gains.
Differences between expected and actual results in each year are included in the net actuarial gain or loss amount, which is recognized in
other comprehensive income. The net actuarial gain or loss in excess of a 10% corridor is amortized in net periodic benefit cost over the
average remaining service period of active participants in the Plans. The prior service credit is amortized over the average
remaining service period to full eligibility for participating employees expected to receive benefits.
Amounts not yet reflected in net periodic benefit cost and included in accumulated other comprehensive (loss) income at December 31, 2019
and 2018 are shown below, including amounts recognized in other comprehensive income during the periods. All amounts are shown on a
pre-tax basis.
(in thousands)
Prior service costs
Net accumulated actuarial net loss
Accumulated other comprehensive loss
Net periodic benefit cost in excess of cumulative employer contributions
Net amount recognized at December 31, balance sheet
Net (loss) gain arising during period
Prior service cost amortization
Amortization of net actuarial loss
Total recognized in other comprehensive (loss) income
Total recognized in net periodic pension cost and other comprehensive
income
2019
(49) $
(4,675)
(4,724)
(3,596)
(8,320) $
(1,455) $
79
—
(1,376) $
2018
(128)
(3,219)
(3,347)
(3,873)
(7,220)
436
79
140
655
$
$
$
$
$
2,709 $
1,074
Assumptions utilized to determine benefit obligations as of December 31, 2019, 2018 and 2017 and to determine pension expense for the
years then ended are as follows:
Determination of benefit obligation at year end:
Discount rate
Annual rate of compensation increase
Determination of pension expense for year ended:
Discount rate for the service cost
Annual rate of compensation increase
Expected long-term rate of return on plan assets
2019
2018
2017
3.45 %
4.00 %
4.40 %
4.00 %
3.75 %
4.00 %
4.40 %
4.00 %
6.75 %
3.75 %
4.00 %
6.75 %
4.40 %
4.00 %
6.75 %
59
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The assumed overall expected long-term rate of return on pension plan assets used in calculating 2019 pension expense was 6.75%.
Determination of the plan's rate of return is based upon historical returns for equities and fixed income indexes. During the past five years,
the Company's plan assets have experienced the following annual returns: 25.8% in 2019, -6.2% in 2018, 17.4% in 2017, 8.2% in 2016, and
-0.4% in 2015. The rate used in plan calculations may be adjusted by management for current trends in the economic environment. With a
traditional investment mix of over half of the plan's investments in equities, the actual return for any one plan year may fluctuate significantly
with changes in the stock market. Primarily due to an increase in the discount rate used in the actuarial calculation of plan income, the
Company expects to incur $1.8 million of expense in 2020 compared to $1.3 million 2019.
Plan Assets
The investment policy of the pension plan is designed for growth in value while minimizing risk to the overall portfolio. The Company
diversifies the assets through investments in domestic fixed income securities and domestic and international equity securities. The assets
are readily marketable and can be sold to fund benefit payment obligations as they become payable. The Company regularly reviews its
policies on the investment mix and may make changes depending on economic conditions and perceived investment mix.
The fair value of the Company's pension plan assets at December 31, 2019 and 2018 by asset category was as follows:
Fair Value Measurements
Quoted Prices
in Active
(in thousands)
December 31, 2019
Cash equivalents
U.S government agency obligations
Corporate bonds
Equity securities
Mutual funds
Total
December 31, 2018
Cash equivalents
U.S government agency obligations
Corporate bonds
Equity securities
Mutual funds
Total
The following future benefit payments are expected to be paid:
Year
(in thousands)
2020
2021
2022
2023
2024
2025 to 2029
Markets for
Fair Value
Identical
Assets
(Level 1)
Other
Significant
Observable Unobservable
Inputs
(Level 2)
Inputs
(Level 3)
$ 1,940 $
300
307
1,436
21,706
$ 25,689 $
1,940 $
—
—
1,436
21,706
25,082 $
— $
300
307
—
—
607 $
$
707 $
1,778
295
1,236
15,656
$ 19,672 $
707 $
—
—
1,236
15,656
17,599 $
— $
1,778
295
—
2,073 $
—
—
—
—
—
—
—
—
—
$
Pension
benefits
819
888
1,022
1,065
1,066
6,985
60
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(14) Stock Compensation
The Company has one equity compensation plan for its employees pursuant to which options were granted.
The following table summarizes the Company's stock option activity:
Number of shares
December 31,
Weighted average
exercise price
December 31,
Weighted average
Contractual Term
(in years)
Aggregate
Intrinsic Value
($000)
2019 2018 2017 2019 2018 2017 2019 2018 2017 2019 2018 2017
Outstanding, beginning of year
Granted
—
—
21,745
—
50,021 $
—
— $
—
13.65 $
—
17.88
—
Exercised
— (21,745)
—
—
13.65
—
Forfeited or expired
—
— (28,276)
—
—
20.38
Outstanding, end of year
—
—
21,745 $
— $
— $
13.65
0.00
0.00
0.73 $
0 $
0 $
125,052
Exercisable, end of year
—
—
21,745 $
— $
— $
13.65
0.00
0.00
0.73 $
0 $
0 $
125,052
Options have been adjusted to reflect a 4% stock dividend paid on July 1, 2019.
Total stock-based compensation expense for the years ended December 31, 2019, 2018, and 2017 was zero, zero, and $3,000, respectively.
There is no remaining unrecognized compensation expense related to non-vested stock awards. The Plan expired on February 28, 2010,
except as to outstanding options under the Plan, and no further options may be granted pursuant to the Plan. During the third quarter of 2018,
the remaining 21,745 options to purchase common shares were exercised at a weighted average price of $13.65 per share.
(15) Earnings per Share
Stock Dividend On July 1, 2019, the Company paid a special stock dividend of four percent to common shareholders of record at the close
of business on June 15, 2019. For all periods presented, share information, including basic and diluted earnings per share, has been adjusted
retroactively to reflect this change.
Basic earnings per share is computed by dividing income available to common shareholders by the weighted average number of common
shares outstanding during the year. Diluted earnings per share gives effect to all dilutive potential common shares that were outstanding
during the year.
61
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Presented below is a summary of the components used to calculate basic and diluted earnings per common share, which have been restated
for all stock dividends.
(dollars in thousands, except per share data)
Basic earnings per share:
Net income available to shareholders
Average shares outstanding
Basic earnings per share
Diluted earnings per share:
Net income available to shareholders
Average shares outstanding
Effect of dilutive stock options
Average shares outstanding including dilutive stock options
Diluted earnings per share
2019
2018
2017
$
16,114 $
10,714 $
6,276,236
6,268,050
$
2.57 $
$
16,114 $
1.71 $
10,714 $
6,276,236
—
6,276,236
6,268,050
5,244
6,273,294
$
2.57 $
1.71 $
3,414
6,300,237
0.54
3,414
6,300,237
5,717
6,305,954
0.54
Under the treasury stock method, outstanding stock options are dilutive when the average market price of the Company’s common stock,
when combined with the effect of any unamortized compensation expense, exceeds the option price during the period, except when the
Company has a loss from continuing operations available to shareholders. In addition, proceeds from the assumed exercise of dilutive options
along with the related tax benefit are assumed to be used to repurchase common shares at the average market price of such stock during the
period. There were no shares for the year ended December 31, 2019 that were omitted from the computation of diluted earnings per share as
a result of being considered anti-dilutive.
Repurchase Program On September 18, 2019, the Company's Board of Directors authorized the purchase of up to $5.0 million market
value of the Company's common stock. Management was given discretion to determine the number and pricing of the shares to be purchased,
as well as, the timing of any such purchases. During the year ended December 31, 2019, no shares of the Company's common stock were
purchased by or on behalf of the Company or affiliated purchasers.
(16) Capital Requirements
The Company and the Bank are subject to various regulatory capital requirements administered by federal and state banking agencies. Failure
to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if
undertaken, could have a direct material effect on the Company's consolidated financial statements. Under capital adequacy guidelines,
the Company and the Bank must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain
off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification of the Company and the
Bank are subject to qualitative judgments by the regulators about components, risk-weightings, and other factors.
In July 2013, the federal banking agencies issued final rules to implement the Basel III regulatory capital reforms and changes required by
the Dodd-Frank Act. The phase-in period for the Company began on January 1, 2015. The Federal Reserve System's (FRB) capital adequacy
guidelines require that bank holding companies maintain a Common Equity Tier 1 risk-based capital ratio equal to at least 4.5% of its risk-
weighted assets, a Tier 1 risk-based capital ratio equal to at least 6% of its risk-weighted assets and a total risk-based capital ratio equal to
at least 8% of its risk-weighted assets. In addition, bank holding companies generally are required to maintain a Tier 1 leverage ratio of at
least 4%.
In addition, the final rules establish a common equity tier 1 capital conservation buffer of 2.5% of risk-weighted assets applicable to all
banking organizations. Institutions that do not maintain the required capital buffer will become subject to progressively more stringent
limitations on the percentage of earnings that can be paid out in dividends or used for stock repurchases and on the payment of discretionary
bonuses to senior executive management. The capital conservation buffer requirement began being phased in over four years beginning in
2016. On January 1, 2016, the first phase of the requirement went into effect at 0.625% of risk-weighted assets, and increased each subsequent
year by an additional 0.625 percentage points, to reach its final level of 2.5% of risk weighted assets on January 1, 2019. At December 31,
62
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
2019, the capital conservation buffer of 2.5%, effectively raised the minimum required risk-based capital ratios to 7% Common Equity Tier
1 Capital, 8.5% Tier 1 Capital and 10.5% Total Capital on a fully phased-in basis.
Under the Basel III requirements, at December 31, 2019 and December 31, 2018, the Company met all capital adequacy requirements and
had regulatory capital ratios in excess of the levels established for well-capitalized institutions, as shown in the following table as of periods
indicated:
(in thousands)
December 31, 2019
Total Capital (to risk-weighted assets):
Company
Bank
Tier 1 Capital (to risk-weighted assets):
Company
Bank
Common Equity Tier 1 Capital (to risk-weighted assets):
Company
Bank
Tier 1 leverage ratio (to adjusted average assets):
Company
Bank
Actual
Minimum Capital
Required - Basel III
Fully Phased-In *
Required to be
Considered Well-
Capitalized
Amount
Ratio
Amount
Ratio
Amount
Ratio
$ 179,430
175,459
14.89 % $ 126,511
126,165
14.60
10.50 % $
10.50
—
120,158
N.A %
10.00
$ 157,139
162,822
13.04 % $ 102,414
102,134
13.55
8.50 % $
8.50
—
96,126
N.A %
8.00
$ 118,793
162,822
9.86 % $ 84,341
84,110
13.55
7.00 % $
7.00
—
78,102
N.A %
6.50
$ 157,139
162,822
10.73 % $ 58,562
58,280
11.18
4.00 % $
4.00
—
72,850
N.A %
5.00
* At December 31, 2019 the Basel III capital conservation buffer requirement of 2.5% had been fully phased-in.
(in thousands)
December 31, 2018
Total Capital (to risk-weighted assets):
Company
Bank
Tier 1 Capital (to risk-weighted assets):
Company
Bank
Common Equity Tier 1 Capital (to risk-weighted
assets)
Company
Bank
Tier 1 leverage ratio (to adjusted average assets):
Company
Bank
Minimum Capital
Required Under
Basel III Phase-In
Minimum Capital
Required - Basel III
Fully Phased-In
Required to be
Considered Well-
Capitalized
Actual
Amount
Ratio Amount
Ratio Amount
Ratio Amount
Ratio
$ 165,325 13.28 %$ 122,916 9.875 %$ 130,696 10.50 % $
122,607 9.875
163,814 13.19
130,367 10.50
— N.A. %
124,159 10.00
$ 139,532 11.21 %$ 98,022 7.875 %$ 105,802
105,535
152,002 12.24
97,775 7.875
8.50 % $
8.50
— N.A. %
99,327
8.00
$ 105,513
152,002 12.24
8.48 %$ 79,351 6.375 %$ 87,131
86,911
79,151 6.375
7.00 % $
7.00
— N.A. %
80,703
6.50
$ 139,532
152,002 10.43
9.55 %$ 58,467 4.000 %$ 58,467
58,272
58,272 4.000
4.00 % $
4.00
— N.A. %
72,839
5.00
63
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(17) Fair Value Measurements
Fair value represents the amount expected to be received to sell an asset or paid to transfer a liability in its principal or most advantageous
market in an orderly transaction between market participants at the measurement date.
Depending on the nature of the asset or liability, the Company uses various valuation methodologies and assumptions to estimate fair value.
The measurement of fair value under US GAAP uses a hierarchy intended to maximize the use of observable inputs and minimize the use
of unobservable inputs. This hierarchy uses three levels of inputs to measure the fair value of assets and liabilities as follows. During the
year ended December 31, 2019 there were no transfers into or out of Levels 1-3.
The fair value hierarchy uses three levels of inputs to measure the fair value of assets and liabilities as follows:
Level 1 – Inputs are unadjusted quoted prices for identical assets or liabilities in active markets. A quoted price in an active market
provides the most reliable evidence of fair value and is used to measure fair value whenever available. A contractually binding sales
price also provides reliable evidence of fair value.
Level 2 – Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.
These might include quoted prices for similar assets and liabilities in active markets, such as interest rates and yield curves that are
observable at commonly quoted intervals.
Level 3 – Inputs are unobservable inputs for the asset or liability and significant to the fair value. These may be internally developed
using the Company's best information and assumptions that a market participant would consider.
In accordance with fair value accounting guidance, the Company measures, records, and reports various types of assets and liabilities at
fair value on either a recurring or non-recurring basis in the Consolidated Financial Statements. Nonfinancial assets measured at fair
value on a nonrecurring basis would include foreclosed real estate, long-lived assets, and core deposit intangible assets, which are
reviewed when circumstances or other events indicate that impairment may have occurred.
Valuation methods for instruments measured at fair value on a recurring basis
Following is a description of the Company's valuation methodologies used for assets and liabilities recorded at fair value on a recurring
basis:
Available-for-sale securities
The fair value measurements of the Company’s investment securities are determined by a third party pricing service which considers
observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade
execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. The
fair value measurements are subject to independent verification to another pricing source by management each quarter for
reasonableness.
Other investment securities
Other investment securities include equity securities with readily determinable fair values and other investment securities that do not
have readily determinable fair values. Investments in Federal Home Loan Bank (FHLB) stock, and Midwest Independent Bank (MIB)
bankers bank stock, that do not have readily determinable fair values, are required for membership in those organizations. Equity
securities that are not actively traded are classified in level 2.
64
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Equity securities with readily determinable fair values are recorded at fair value, with changes in fair value reflected in earnings. Equity
securities that do not have readily determinable fair values are carried at cost and are periodically assessed for impairment. The Company
uses level 1 inputs to value equity securities that are traded in active markets.
Mortgage servicing rights
The fair value of mortgage servicing rights is based on the discounted value of estimated future cash flows utilizing contractual cash
flows, servicing rates, constant prepayment rate, servicing cost, and discount rate factors. Accordingly, the fair value is estimated based
on a valuation model that calculates the present value of estimated future net servicing income. The model incorporates assumptions
that market participants use in estimating future net servicing income, including estimates of prepayment speeds, market discount rates,
cost to service, float earnings rates, and other ancillary income, including late fees. The valuation models estimate the present value of
estimated future net servicing income. The Company classifies its servicing rights as Level 3.
Fair Value Measurements
Quoted Prices
in Active
Markets for
Fair Value
Identical
Assets
(Level 1)
Other
Significant
Observable Unobservable
Inputs
(Level 2)
Inputs
(Level 3)
$
995 $
8,047
22,283
33,789
105,616
3,053
1,310
13
2,482
$ 177,588 $
— $
995
8,047
—
22,283
—
—
33,789
— 105,616
—
—
13
—
3,053
1,310
—
—
1,008 $ 174,098 $
(in thousands)
December 31, 2019
Assets:
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgage-backed securities
Other debt securities
Bank-issued trust preferred securities
Equity securities
Mortgage servicing rights
Total
December 31, 2018
Assets:
U.S. Treasury
U.S. government and federal agency obligations
U.S. government-sponsored enterprises
Obligations of states and political subdivisions
Mortgage-backed securities
Other debt securities
Bank-issued trust preferred securities
Equity securities
Mortgage servicing rights
Total
$ 1,952 $
9,966
43,335
40,386
118,192
3,000
1,374
12
2,931
$ 221,148 $
— $
1,952
9,966
—
43,335
—
—
40,386
— 118,192
—
—
12
—
3,000
1,374
—
—
1,964 $ 216,253 $
65
—
—
—
—
—
—
—
—
2,482
2,482
—
—
—
—
—
—
—
—
2,931
2,931
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
The changes in Level 3 assets and liabilities measured at fair value on a recurring basis are summarized as follows:
(in thousands)
Balance at December 31, 2017
Total (losses) or gains (realized/unrealized):
Included in earnings
Included in other comprehensive income
Purchases
Sales
Issues
Settlements
Balance at December 31, 2018
Total (losses) or gains (realized/unrealized):
Included in earnings
Included in other comprehensive income
Purchases
Sales
Issues
Settlements
Balance at December 31, 2019
Fair Value Measurements Using
Significant Unobservable Inputs
(Level 3)
Mortgage Servicing Rights
2,713
(27)
—
—
—
245
—
2,931
(739)
—
—
—
290
—
2,482
$
$
$
Valuation methods for instruments measured at fair value on a nonrecurring basis
Following is a description of the Company's valuation methodologies used for assets and liabilities recorded at fair value on a
nonrecurring basis:
Collateral dependent impaired loans
While the overall loan portfolio is not carried at fair value, the Company periodically records nonrecurring adjustments to the
carrying value of impaired loans based on fair value measurements for partial charge-offs of the uncollectible portions of those
loans. Nonrecurring adjustments also include certain impairment amounts for collateral dependent loans when establishing the
allowance for loan losses. Such amounts are generally based on the fair value of the underlying collateral supporting the loan. In
determining the fair value of real estate collateral, the Company relies on external and internal appraisals of property values
depending on the size and complexity of the real estate collateral. The appraisals may be discounted based on the Company's
historical knowledge, changes in market conditions from the time of appraisal, or other information available. The Company
maintains staff that is trained to perform in-house evaluations and also review third party appraisal reports for reasonableness. In
the case of non-real estate collateral, reliance is placed on a variety of sources, including external estimates of value and judgments
based on the experience and expertise of internal specialists. Fair values of all loan collateral are regularly reviewed by senior loan
committee. Because many of these inputs are not observable, the measurements are classified as Level 3. As of December 31, 2019,
the Company identified $3.0 million in impaired loans that had specific allowances for losses aggregating $316,000. Related to
these loans, there were $207,000 in charge-offs recorded during the year ended December 31, 2019. As of December 31, 2018, the
Company identified $3.8 million in impaired loans that had specific allowances for losses aggregating $867,000. Related to these
loans, there were $370,000 in charge-offs recorded during the year ended December 31, 2018.
66
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Other Real Estate Owned and Repossessed Assets
Other real estate owned (OREO) and repossessed assets consisted of loan collateral that has been repossessed through foreclosure.
This collateral is comprised of commercial and residential real estate and other non-real estate property, including autos,
manufactured homes, and construction equipment. Subsequent to foreclosure, these assets initially are carried at fair value of the
collateral less estimated selling costs. Fair value, when recorded, is generally based upon appraisals by approved, independent state
certified appraisers. Like impaired loans, appraisals on OREO may be discounted based on the Company's historical knowledge,
changes in market conditions from the time of appraisal or other information available. During the holding period, valuations are
updated periodically, and the assets may be written down to reflect a new cost basis. Because many of these inputs are not
observable, the measurements are classified as Level 3.
Fair Value Measurements Using
Quoted Prices
in Active
(in thousands)
December 31, 2019
Assets:
Collateral dependent impaired loans:
Commercial, financial, & agricultural
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total
Other real estate and repossessed assets
December 31, 2018
Assets:
Collateral dependent impaired loans:
Commercial, financial, & agricultural
Real estate construction - commercial
Real estate mortgage - residential
Real estate mortgage - commercial
Installment and other consumer
Total
Other real estate and repossessed assets
Markets for
Other
Significant
Observable Unobservable
Total
Fair Value
Identical
Assets
(Level 1)
Inputs
(Level 2)
Inputs
(Level 3)
Total Gains
(Losses)*
$
379 $
137
1,028
1,119
12
$ 2,675 $
$ 12,781 $
— $
—
—
—
—
— $
— $
— $
—
—
—
—
— $
— $
379 $
137
1,028
1,119
12
2,675 $
12,781 $
(132)
—
(45)
(18)
(12)
(207)
(157)
$ 1,320 $
153
1,317
115
—
$ 2,905 $
$ 13,691 $
— $
—
—
—
—
— $
— $
— $
—
—
—
—
— $
— $
1,320 $
153
1,317
115
—
2,905 $
13,691 $
(244)
(27)
(44)
(20)
(35)
(370)
(15)
* Total gains (losses) reported for other real estate owned and repossessed assets includes charge-offs, valuation write-downs, and net
losses taken during the periods reported.
(18) Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable
to estimate such value:
67
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Loans
Fair values are estimated for portfolios with similar financial characteristics. Loans are segregated by type, such as commercial,
real estate, and consumer. Each loan category is further segmented into fixed and variable interest rate categories. The fair value of
loans, or exit price, is estimated by using the future value of discounted cash flows using comparable market rates for similar types
of loan products and adjusted for market factors. The discount rates used are estimated using comparable market rates for similar
types of loan products adjusted to be commensurate with the credit risk, overhead costs, and optionality of such instruments.
Investment Securities
A detailed description of the fair value measurement of the debt instruments in the available-for-sale sections of the investment
security portfolio is provided in the Fair Value Measurement section above. A schedule of investment securities by category and
maturity is provided in the notes on Investment Securities.
Other investment securities
Other investment securities include equity securities with readily determinable fair values and other investment securities that do
not have readily determinable fair values. Investments in Federal Home Loan Bank (FHLB) stock, and Midwest Independent Bank
(MIB) bankers bank stock, that do not have readily determinable fair values, are required for membership in those organizations.
Equity securities that are not actively traded are classified in level 2.
Equity securities with readily determinable fair values are recorded at fair value, with changes in fair value reflected in earnings.
Equity securities that do not have readily determinable fair values are carried at cost and are periodically assessed for impairment.
The Company uses level 1 inputs to value equity securities that are traded in active markets.
Federal Funds Sold, Cash, and Due from Banks
The carrying amounts of short-term federal funds sold and securities purchased under agreements to resell, interest earning deposits
with banks, and cash and due from banks approximate fair value. Federal funds sold and securities purchased under agreements to
resell classified as short-term generally mature in 90 days or less.
Certificates of Deposit in other banks
Certificates of deposit are other investments made by the Company with other financial institutions that are carried at cost which is
equal to fair value.
Cash Surrender Value – Life Insurance
The fair value of Bank owned life insurance (BOLI) approximates the carrying amount. Upon liquidation of these investments, the
Company would receive the cash surrender value which equals the carrying amount.
Accrued Interest Receivable and Payable
For accrued interest receivable and payable, the carrying amount is a reasonable estimate of fair value because of the short maturity
for these financial instruments.
68
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Deposits
The fair value of deposits with no stated maturity, such as noninterest-bearing demand, NOW accounts, savings, and money market,
is equal to the amount payable on demand. The fair value of time deposits is based on the discounted value of contractual cash
flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities.
Federal funds purchased and Securities Sold under Agreements to Repurchase
For Federal funds purchased and securities sold under agreements to repurchase, the carrying amount is a reasonable estimate of
fair value, as such instruments reprice in a short time period.
Subordinated Notes and Other Borrowings
The fair value of subordinated notes and other borrowings is based on the discounted value of contractual cash flows. The discount
rate is estimated using the rates currently offered for other borrowed money of similar remaining maturities.
Operating Lease Liabilities
The fair value of operating lease liabilities are recognized at lease commencement based on the present value of the remaining lease
payments using a discount rate that represents the Company's incremental borrowing rate at the lease commencement date.
69
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
A summary of the carrying amounts and fair values of the Company's financial instruments at December 31, 2019 and 2018 is as
follows:
December 31, 2019
Fair Value Measurements
Quoted Prices
in Active
Markets for
Other
Net
Significant
December 31, 2019
Carrying
amount
Fair
value
Identical
Assets
(Level 1)
Observable Unobservable
Inputs
(Level 2)
Inputs
(Level 3)
$
22,576 $
22,576 $
22,576 $
— $
—
55,545
10,862
175,093
5,808
1,156,748
2,482
2,398
6,481
55,545
10,862
175,093
5,808
1,148,339
2,482
2,398
6,481
$ 1,437,993 $ 1,429,584 $
—
—
174,098
5,795
55,545
10,862
995
13
—
—
—
6,481
—
—
—
—
— 1,148,339
2,482
—
—
2,398
—
—
96,472 $ 182,291 $ 1,150,821
(in thousands)
Assets:
Cash and due from banks
Federal funds sold and overnight
interest-bearing deposits
Certificates of deposit in other banks
Available for sale securities
Other investment securities
Loans, net
Mortgage servicing rights
Cash surrender value - life insurance
Accrued interest receivable
Total
Liabilities:
Deposits:
$ 261,166 $ 261,166 $
261,166 $
— $
—
Non-interest bearing demand
Savings, interest checking and money
market
Time deposits
Federal funds purchased and securities
sold under agreements to repurchase
Federal Home Loan Bank advances
and other borrowings
Subordinated notes
Operating lease liabilities
Accrued interest payable
614,331
311,024
614,331
311,489
614,331
—
—
—
—
311,489
27,272
27,272
27,272
—
96,919
49,486
2,224
1,136
97,833
43,640
2,224
1,136
—
—
97,833
43,640
2,224
1,136
—
903,905 $ 143,697 $ 311,489
—
—
—
—
Total
$ 1,363,558 $ 1,359,091 $
70
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
December 31, 2018
Fair Value Measurements
(in thousands)
Assets:
Cash and due from banks
Federal funds sold and overnight
interest-bearing deposits
Certificates of deposit in other banks
Available-for-sale securities
Other investment securities
Loans, net
Mortgage servicing rights
Cash surrender value - life insurance
Accrued interest receivable
Liabilities:
Deposits:
Non-interest bearing demand
Savings, interest checking and money
market
Time deposits
Federal funds purchased and securities
sold under agreements to repurchase
Federal Home Loan Bank advances and
other borrowings
Subordinated notes
Accrued interest payable
December 31, 2018
Carrying
amount
Fair
value
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
Other
Net
Significant
Observable Unobservable
Inputs
(Level 2)
Inputs
(Level 3)
$
23,687 $
23,687 $
23,687 $
— $
—
18,396
12,247
218,205
5,675
1,134,975
2,931
2,542
6,162
18,396
12,247
218,205
5,675
1,115,003
2,931
2,542
6,162
$ 1,424,820 $ 1,404,848 $
—
—
216,253
5,663
18,396
12,247
1,952
12
—
—
—
6,162
—
—
—
—
— 1,115,003
2,931
—
—
2,542
—
—
62,456 $ 224,458 $ 1,117,934
$
262,857 $
262,857 $ 262,857 $
— $
—
614,040
321,571
614,040
318,949
614,040
—
—
—
—
318,949
24,647
24,647
24,647
—
—
95,153
49,486
1,035
—
—
—
$ 1,368,789 $ 1,361,603 $ 902,579 $ 140,075 $ 318,949
94,326
45,749
—
94,326
45,749
1,035
—
—
1,035
Off-Balance-Sheet Financial Instruments
The fair value of commitments to extend credit and standby letters of credit is estimated using the fees currently charged to enter into
similar agreements, taking into account the remaining terms of the agreements, the likelihood of the counterparties drawing on such
financial instruments, and the present creditworthiness of such counterparties. The Company believes such commitments have been
made on terms that are competitive in the markets in which it operates.
Limitations
The fair value estimates provided are made at a point in time based on market information and information about the financial
instruments. Because no market exists for a portion of the Company's financial instruments, fair value estimates are based on judgments
regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other
factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be
determined with precision. Changes in assumptions could significantly affect the fair value estimates.
71
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(19) Commitments and Contingencies
The Company issues financial instruments with off-balance-sheet risk in the normal course of business of meeting the financing needs of its
customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments may involve,
to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated balance sheets.
The Company's extent of involvement and maximum potential exposure to credit loss in the event of nonperformance by the other party to
the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of these
instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for financial
instruments included on its consolidated balance sheets. At December 31, 2019, no amounts have been accrued for any estimated losses for
these financial instruments.
The contractual amount of off-balance-sheet financial instruments as of December 31, 2019 and 2018 is as follows:
(in thousands)
Commitments to extend credit
Commitments to originate residential first and second mortgage loans
Standby letters of credit
Total
Commitments
2019
2018
$ 240,758 $ 267,314
1,759
82,895
351,968
3,980
97,348
342,086
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the
contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since certain
of the commitments and letters of credit are expected to expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of
collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation of the
customer. Collateral held varies, but may include accounts receivable, inventory, furniture and equipment, and real estate.
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party.
These standby letters of credit are primarily issued to support contractual obligations of the Company's customers. The approximate
remaining term of standby letters of credit range from one month to five years at December 31, 2019.
Pending Litigation
The Company and its subsidiaries are defendants in various legal actions incidental to the Company's past and current business activities.
Based on the Company's analysis, and considering the inherent uncertainties associated with litigation, management does not believe that it
is reasonably possible that these legal actions will materially adversely affect the Company's consolidated financial condition or results of
operations in the near term. The Company records a loss accrual for all legal matters for which it deems a loss is probable and can be
reasonably estimated. Some legal matters, which are at early stages in the legal process, have not yet progressed to the point where a loss
amount can be estimated.
(20) Revenue Recognition
On January 1, 2018, the Company adopted ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606) and all subsequent ASUs
that modified Topic 606.
Topic 606 does not apply to revenue associated with financial instruments, including revenue from loans and securities. In addition, certain
noninterest income streams such as fees associated with mortgage servicing rights, financial guarantees, derivatives, and certain credit card
fees are not in the scope of the new guidance. Topic 606 is applicable to noninterest revenue streams such as trust department revenue,
72
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
service charges and fees, debit card income, ATM surcharge income, and sales of other real estate owned. However, the recognition of these
revenue streams did not change current business practices or result in any changes to the Company’s consolidated financial statements.
Descriptions of our revenue-generating activities within the scope of this guidance, which are presented in our income statement as
components of noninterest income are as follows:
• Service charges on deposit accounts - represents fees generated from a variety of deposit products and services provided to
customers under a day-to-day contract. These fees are recognized on a daily or monthly basis.
• Bank card income and fees – represents fees, exchange, and other service charge revenue earned from merchant, debit and credit
cards that are recognized when the services are rendered or upon completion. These fees are recognized on a daily or monthly
basis.
• Gain on sale of other real estate - represents income recognized at the time of control of a property is transferred to the buyer.
(21) Condensed Financial Information of the Parent Company Only
Following are the condensed financial statements of Hawthorn Bancshares, Inc. (Parent only) as of and for the years indicated:
Condensed Balance Sheets
December 31,
2019
2018
$
2,576 $
1,310
1,334
1,374
167,196 152,735
1,307
403
$ 174,339 $ 157,153
1,928
1,329
$ 49,486 $ 49,486
8,253
99,414
$ 174,339 $ 157,153
9,815
115,038
(in thousands)
Assets
Cash and due from bank subsidiaries
Investment in bank-issued trust preferred securities
Investment in subsidiaries
Deferred tax asset
Other assets
Total assets
Liabilities and Stockholders’ Equity
Subordinated notes
Other liabilities
Stockholders’ equity
Total liabilities and stockholders’ equity
73
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
Condensed Statements of Income
Income
Interest and dividends received from subsidiaries
Other
Total income
Expenses
Interest on subordinated notes
Other
Total expenses
Income before income tax benefit and equity in undistributed income of
subsidiaries
Income tax benefit
Equity in undistributed income of subsidiaries
Net income
Condensed Statements of Cash Flows
(in thousands)
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash provided by operating
activities:
Equity in undistributed income of subsidiaries
Stock based compensation expense
(Increase) decrease in deferred tax asset
Other, net
Net cash provided by operating activities
Cash flows from investing activities:
Decrease (increase) in investment in subsidiaries, net
Net cash provided by (used in) investing activities
Cash flows from financing activities:
Cash dividends paid - common stock
Issuance of stock under equity compensation plan
Purchase of treasury stock
Net cash used in financing activities
Net increase (decrease) in cash and due from banks
Cash and due from banks at beginning of year
Cash and due from banks at end of year
74
For the Years Ended December 31,
2018
2019
2017
$ 8,071 $ 5,067 $ 2,653
—
5,495 2,653
—
8,071
428
2,376
2,461
4,837
2,229 1,751
3,461 2,358
5,690 4,109
3,234
1,001
11,879
(195) (1,456)
1,397
191
9,512 4,679
$ 16,114 $ 10,714 $ 3,414
For the Years Ended December 31,
2018
2017
2019
$ 16,114 $ 10,714 $ 3,414
(11,879)
—
(319)
10
(9,512) (4,679)
3
—
881
370
453
(116)
72
3,926 $ 1,456 $
— $
— $
500 $ (250)
500 $ (250)
$
$
$
—
—
135
(179)
$ (2,684) $ (1,993) $ (1,474)
—
(878)
$ (2,684) $ (2,037) $ (2,352)
(81) (2,530)
1,242
1,334
1,415 3,945
2,576 $ 1,334 $ 1,415
$
HAWTHORN BANCSHARES, INC.
AND SUBSIDIARIES
Notes to the Consolidated Financial Statements
December 31, 2019, 2018, and 2017
(22) Quarterly Financial Information (Unaudited)
(In thousands except per share data)
Year Ended December 31, 2019
Interest income
Interest expense
Net interest income
Provision for loan losses
Noninterest income
Investment gains (losses), net
Gain on branch sale, net
Noninterest expense
Income tax expense
Net income
Net income per share:
Basic earnings per share
Diluted earnings per share
Year Ended December 31, 2018
Interest income
Interest expense
Net interest income
Provision for loan losses
Noninterest income
Investment gains (losses), net
Noninterest expense
Income tax expense
Net income
Net income per share:
Basic earnings per share
Diluted earnings per share
First
quarter
Second
quarter
Third
quarter
Fourth
quarter
Year
to
Date
$ 15,915 $ 16,184 $ 15,925 $ 15,946 $ 63,970
3,355 15,232
12,591 48,738
1,150
8,937
(40)
2,183
9,582 38,731
3,823
$ 4,666 $ 3,520 $ 3,860 $ 4,068 $ 16,114
3,564
12,361
450
2,424
(40)
109
9,590
954
4,027
12,157
250
2,121
—
—
9,671
837
4,286
11,629
150
2,091
1
2,074
9,888
1,091
300
2,301
(1)
—
941
$
0.74 $
0.74
0.56 $
0.56
0.62 $
0.62
0.65 $
0.65
2.57
2.57
$ 13,544 $ 14,288 $ 14,751 $ 15,196 $ 57,779
3,692 13,186
11,504 44,593
1,475
9,341
255
10,207 40,332
1,668
$ 2,090 $ 2,907 $ 3,098 $ 2,619 $ 10,714
3,443
11,308
250
2,364
50
9,928
446
3,261
11,027
450
2,390
108
9,943
225
2,790
10,754
300
2,203
98
10,254
411
475
2,384
(1)
586
$
0.34 $
0.34
0.46 $
0.46
0.49 $
0.49
0.42 $
0.42
1.71
1.71
75
MARKET PRICE OF AND DIVIDENDS ON EQUITY SECURITIES AND RELATED MATTERS
Market Price
The Company's common stock trades on Nasdaq's global select market under the stock symbol of HWBK. The following table sets
forth the range of high and low bid prices of the Company's common stock by quarter for each quarter in 2019 and 2018 in which
the stock was traded.
2019
2018
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Shares Outstanding
High
Low
$
$
$
$
23.08 $
27.52 $
27.75 $
26.00 $
19.66
22.12
20.53
23.06
$
$
$
$
19.60 $
21.37 $
23.85 $
23.92 $
18.49
18.77
20.82
19.28
As of December 31, 2019, the Company had issued 6,519,874 shares of common stock, of which 6,276,236 shares were outstanding.
The outstanding shares were held of record by approximately 1,795 shareholders.
Dividends
The following table sets forth information on dividends paid by the Company in 2019 and 2018.
Month Paid
January, 2019
April, 2019
July, 2019
October, 2019
Total for 2019
January, 2018
April, 2018
July, 2018
October, 2018
Total for 2018
Dividends Paid
Per Share
$
$
$
$
0.10
0.10
0.12
0.12
0.44
0.07
0.07
0.10
0.10
0.34
The board of directors intends that the Company will continue to pay quarterly dividends. The actual amount of quarterly dividends
and the payment, as well as the amount, of any special dividend ultimately will depend on the payment of sufficient dividends by
the subsidiary Bank to the Company. The payment by the Bank of dividends to the Company will depend upon such factors as the
Bank's financial condition, results of operations and current and anticipated cash needs, including capital requirements.
Stock Performance Graph
The following performance graph shows a comparison of cumulative total returns for the Company, the Nasdaq Stock Market (U.S.
Companies), and a peer index of financial institutions having total assets of between $1 billion and $5 billion for the period from
December 31, 2014, through December 31, 2019. The cumulative total return on investment for each of the periods for the
Company, the Nasdaq Stock Market (U.S. Companies) and the peer index is based on the stock price or index at December 31,
2014. The performance graph assumes that the value of an investment in the Company's common stock and each index was $100
76
at December 31, 2014 and that all dividends were reinvested. The information presented in the performance graph is historical in
nature and is not intended to represent or guarantee future returns.
Total Return Performance
250
200
Hawthorn Bancshares, Inc.
NASDAQ Composite Index
SNL Bank $1B-$5B Index
l
e
u
150
a
V
x
e
d
n
I
100
50
12/31/14
12/31/15
12/31/16
12/31/17
12/31/18
12/31/19
The comparison of cumulative total returns presented in the above graph was plotted using the following index values and
common stock price values:
12/31/14 12/31/15 12/31/16 12/31/17 12/31/18 12/31/19
Hawthorn Bancshares, Inc.
$ 100.00 $ 116.58 $ 138.15 $ 170.65 $ 183.62 $ 235.94
$ 100.00 $ 106.96 $ 116.45 $ 150.96 $ 146.67 $ 200.49
Nasdaq Composite (U.S. Companies)
Index of financial institutions ($1 billion to $5 billion) $ 100.00 $ 111.94 $ 161.04 $ 171.69 $ 150.42 $ 182.85
Year Ending
77
DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Name
Position with the Company
Position with Subsidiary Bank
Principal Occupation
David T. Turner
Chairman, Chief Executive
Chairman, Chief Executive Officer,
Officer, President and Director -
Class III
President and Director
Position with Hawthorn
Bancshares, Inc. and
Hawthorn Bank
Kathleen L.
Bruegenhemke
Senior Vice President, Chief
Risk Officer, Corporate
Secretary, and Director-Class I
Senior Vice President, Chief Operating
Officer, Chief Risk Officer, Secretary to
the Board, and Director
Position with Hawthorn
Bancshares, Inc. and
Hawthorn Bank
W. Bruce Phelps
Senior Vice President and Chief
Financial Officer
Senior Vice President and Chief
Financial Officer
Kevin L. Riley
Director-Class III
Director
Frank E. Burkhead
Director-Class II
Director
Philip D. Freeman
Director-Class I
Director
Gus S. (Jack) Wetzel III Director-Class II
Director
Jonathan D. Holtaway
Director – Class I
Director
Position with Hawthorn
Bancshares, Inc. and
Hawthorn Bank
Co-owner, Riley
Chevrolet, Buick, GMC,
Cadillac, Toyota, Inc.,
Riley Brothers, LLC, and
Riley Brothers II, LLC,
Jefferson City, Missouri
Owner, Burkhead Wealth
Management, Co-owner,
Burkhead & Associates,
LLC, Pro 356, LLC, and
FACT Properties, LLC,
Jefferson City, Missouri
Owner, Freeman
Properties, JCMO, LLC,
Jefferson City, Missouri
Co-owner, Meadows
Contracting LLC, and
Meadows Development
Company, Clinton,
Missouri
Co-owner, Ategra GP,
LLC, and Ategra Capital
Management LLC, and
Managing Member of
Ategra Financial
Institution Fund, LP, all of
Vienna, Virginia
ANNUAL REPORT ON FORM 10-K
A copy of the Company's Annual Report on Form 10-K for the year ended December 31, 2019, as filed with the Securities and Exchange
Commission, excluding exhibits, will be furnished without charge to shareholders entitled to vote at the 2019 annual meeting of shareholders
upon written request to Kathleen L. Bruegenhemke, Corporate Secretary, Hawthorn Bancshares, Inc., 132 East High Street, Jefferson City,
Missouri 65101. The Company will provide a copy of any exhibit to the Form 10-K to any such person upon written request and the payment
of the Company's reasonable expenses in furnishing such exhibits.
78