Nicolet Bankshares Inc. Annual Report 2015

FY2015 Annual Report · Nicolet Bankshares Inc.

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111 N. Washington Street / P.O. Box 23900 / Green Bay, WI 54305 -3900
920-430-1400 / 1-800-369-0226

www.n icoletba nk.com

Statements made in this Annual Report which are not purely historical are forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995. This includes any statements regarding

management’s plans, objectives, or goals for future operations, products or services, and forecasts of its revenues, earnings, or other measures of performance. Such forward-looking statements may be identified by the

use of words such as “believe,” “expect,” “anticipate,” “intend,” “target,” “estimate,” “continue,” “positions,” “prospects,” “potential,” “plan,” “outlook,” “would”, “should,” “could,” “will,” “may,” or similar expressions.

Forward-looking statements speak only as of the date they are made and Nicolet Bankshares, Inc. (“Nicolet”) has no duty to update forward-looking statements. Forward-looking statements are based on current

management expectations and, by their nature, are subject to risks and uncertainties. Actual results may differ materially from those contained in the forward-looking statements. Factors which may cause actual results

to differ materially from those contained in such forward-looking statements include those identified in the Nicolet’s most recent Form 10-K and subsequent SEC filings.

Forward-looking Statements

2 0 1 5 A N N U A L R E P O R T

In 2015, the Nicolet National Foundation was proud to host
our annual golf outing to benefit Willow Tree Cornerstone
Child Advocacy Center in Green Bay.

Willow Tree provides assistance for child abuse victims
and their families. Each pinwheel represents a child who was
served there. The visual image of the blue pinwheels against
the green grass was a stunning and humbling reminder of what
great work Willow Tree does for our communities.

It is a pleasure to partner with great organizations like Willow Tree
to help make our communities a better place.

15 years ago...

after moving out of Mike’s basement,

Nicolet National Bank’s first office

was located in the Historic Bellin Building.

This picture was taken where our first office

used to be. Today, it is the Black and Tan Lounge.

While much has changed in 15 years, our commitment

to serve our customers, the communities and

our employees remains the same.

Thank you for your

continued support.

Dear Shareholders,

Return on average common equity (ROCE) was 12.35%, compared to 11.55% last year.

Book value per common share was $23.42 at year-end 2015, up 10% over last year end.

Our core asset quality measures were at historically strong levels, resulting in a lower

2015 loan loss provision than for 2014. Nonperforming assets fell 47% to only $3.9 million

(or 0.32% of total assets) at December 31, 2015, compared to $7.4 million (or 0.61% of

2015 was a very busy and successful year. With strong financial performance and quality

assets) at December 31, 2014. Our results reflect the strength of our customer relationships

management of our balance sheet and capital in 2015, we solidified our position as a

and the success of our strategic moves in recent years.

strategic leader in Wisconsin banking. We also have become adept at consolidation as

we have completed three acquisitions from 2010 through 2013. As we write this letter,

As part of our active capital management this year, we sold two outlying branches in

we are in the middle of two merger transactions; by the time you read this, both will have

August, issued $12 million of 5% fixed-rate, 10-year subordinated debt in the first half of

closed. In all the excitement of mergers, it is critical to run a really sound, profitable and

2015 (increasing our regulatory Tier 2 capital), redeemed $12.2 million or half of our then

growing core banking franchise. We also have to be very clear about what we are doing,

outstanding SBLF preferred stock in September at par (reducing total and regulatory Tier 1

why and the outcomes we expect. There is a lot of math involved in banking and even more

capital and the future cost of capital), and used $4.2 million during 2015 to repurchase 146,404

in bank mergers. Amidst all the math, we have to stay focused on what our company does

common shares at a weighted average per share price of $28.35 including commissions.

for customers, the community and shareholders.

We have always been a high growth story, but we do not grow for the sake of growth.

share price of 27% during 2015 (from $25 to $31.79 at year end 2015).

We are building out a financial services company that has the capital strength, profitability,

The following chart reflects our long term stock price performance

product offerings, understanding and presence to endure. We will not lose sight of the

against the SNL bank index and the S&P over the past five years. This

fact that all of our strategies depend on really making a difference to the people and

relative performance is not driven by clever financial engineering. It is

places we serve. This year’s letter will address 2015 results, offer our perspective on the

driven by commitment to our core values, as well as our understanding

regional economic climate and the banking industry within it. Most importantly, we will

of and belief in the people we work with, live with and serve.

A benefit of a very strong year was a continued sharp rise in our

push more deeply into the motivating purposes of our two recent transactions.

We remain in a season of extraordinary opportunity for regional consolidation of a rapidly

changing and stressed banking industry. Seizing on such opportunity, we announced our

agreement to merge with Baylake Corp. in September 2015. And in January 2016 we

announced the integration of a select group of financial advisors from Navigator Planning

Group in order to accelerate the growth of our wealth management business. While it

encourages industry consolidation, the current economic condition also challenges the

ability to make a sound return on the core banking business. Even so, we exceeded our

expectations for profitability and quality in 2015.

2015 Results

Nicolet’s net income was $11.4 million for 2015, 15% higher than 2014, and after preferred

stock dividends, diluted earnings per share were $2.57, 14% higher than 2014. Return on

average assets (ROA) improved to 0.96% for 2015, compared to 0.84% for 2014.

Nicolet turned 15 years old in November 2015. In its earlier years, Nicolet’s shares were

Building the Base

held by under 300 shareholders. With the April 2013 Mid-Wisconsin Financial Services,

Nicolet started as a very high growth, business oriented bank with a single location in

Inc. (Mid-Wisconsin) acquisition, a large number of new shareholders joined Nicolet.

downtown Green Bay. Our main strategy was to gather veteran commercial bankers who

At year-end 2015, we had 4.2 million outstanding shares of common stock held by

had earned the respect and loyalty of people who run businesses. Along the way we

approximately 600 shareholders, most of whom are long-term investors, and the core of

attracted a number of veteran bankers from different organizations who were motivated

those shares are held by founding investors, employees and current or former board

by a desire to return to the foundational discipline of understanding and meeting

members. In April 2016 the current Baylake shareholders become Nicolet shareholders

customer needs. For reasons that defy understanding and explanation, this customer-

in our merger of equals. Those new shareholders will own 50% of the combined voting

focused mindset was rapidly abandoned in the later 1990s by the larger banks. We knew

shares. We want to take the opportunity to express to our newer shareholders who we

the changing culture of banking was not connecting with customers and that the best

are and how we think. Reflecting first on where we have been will provide insight into

bankers found it frustrating and demeaning. Hence, Nicolet was founded and by 2007,

the current position of the company and the way we approach the future, especially as

our commercial lending strategy had propelled our growth to $700 million in assets with

a steward of the investment you have in Nicolet.

an estimated 25% market share of owner managed business in the Green Bay area at

that time. In our early years we used a lot of wholesale funds, as our local loan growth

exceeded our ability to grow local deposits. To accelerate our deposit growth, we began

investing in branches (nearly one per year) and in retail products. We also entered the

wealth management business in 2001, to serve the needs of our growing customer base.

So in this early growth phase, with our strong commercial business and growing retail

and wealth management businesses, we were profitable and we had resilient asset

quality. But clearly, our strategic imperative was growth.

The Great Recession

In 2007 the banking industry and the economy in general stood on the edge of a major

financial crisis rooted in the banking industry’s loss of its ethical bearings, which was

further aggravated by federal policies that stimulated irresponsible lending. Beginning in

2005 we had dramatically slowed the loan growth at Nicolet to approximately 13% each

year, which was still strong but well below our historical growth rate. It would not be

accurate to say that we clearly foresaw the coming collapse. It would be accurate to say

that the prevailing competitive environment did not make sense to us. We saw lending

happening at rates and terms that we did not think made sense for our shareholders. We

just knew that wasn’t sustainable. With the support of a board that owned a high

percentage of our stock, we simply accepted a much lower rate of loan growth than we

had budgeted for, and we focused on deposit growth and on maturing our profitability.

As one of our directors said at the time, “Stupid hurts. What is stupid for customers can’t

be good for shareholders and what is stupid for shareholders can’t be good for custom-

ers”. This was our Forrest Gump moment, “I am not a very smart man, but I know what

The Nicolet Story

The Nicolet story is best understood in three phases—Building the Base, the Great

banking should be.” This confidence that good business must be fair for shareholders,

Recession and Leading Consolidation.

customers and employees is foundational to who we are and drives our decision-making,

and as a result has supported much of our

success. This notion of economic fairness

runs contrary to the national economic

climate, but it remains a deeply rooted

part of culture in the northeastern and

north central Wisconsin markets we

serve—and is deeply rooted in Nicolet.

we see nationally has its local effects. The economic health of our customer base is as

strong as it has ever been because that is what happens in a well-run bank. We can and

we do work at reaching the lower income parts of our community, but we cannot really

build a business banking only the unbankable. Banking is a frequent target of current

political rhetoric. Recently there was a debate in Milwaukee between two Presidential

candidates. After two hours one could summarize this event as a heated exercise in asserting

who hates banks more and who will do more to punish bankers.

By early 2008, we knew our industry was in a major

Here is the key to understanding the pressure on community banks. There are 240

crisis that would adversely affect us and our customers.

independent banks in Wisconsin. Most of the communities they serve are aging and have

Being a commercial bank, we could see by the second

flat or declining population. The entrepreneurial business climate in our markets is not

half of 2008 our customers experiencing collapsing

flourishing as it was in the 1990s. Plenty of companies are doing really well, but we are

sales volume by around 25%. While we knew that we

not spawning new small businesses at the rate we once were. Bankers running community

would have loan problems, we knew our customer base

banks are also aging and there is fatigue for many who have just come through a

would be resilient if we helped them face their

harrowing industry crisis where they saw many of their peer banks fail and bankers they

problems and if we faced ours. During 2008 we acted

know sued by the FDIC. The crisis was caused by a combination of federal pressure to lend

aggressively to strengthen our capital, build our liquidity and deal with our emerging

aggressively, as well as the failure of the industry to live up to its ethical responsibilities.

problem loans. We also decided that there would be an extraordinary opportunity for

There are many fine banks run by upstanding people, but the industry has become the

strategic growth in the aftermath of the crisis. We knew if we had the talent, the capital

target of a massive effort to regulate all financial institutions as if they had caused a crisis

and regulatory credibility, there would be a great need and opportunity to lead the

that largely originated in the large banks, unregulated mortgage houses and in the federal

consolidation of a deeply distressed Wisconsin banking industry.

government itself. This has raised the cost of operation and created real risk for the people

Leading Consolidation

who own, run and govern banks. The use of personal judgment in lending is critically

needed, but increasingly discouraged based on the idea that if a banker acts outside of

It is impossible to formulate a coherent strategy without a clear understanding of the

“the standard” based upon knowledge of, trust for and experience with a particular

economic, social and political environment in which we operate. There is not much we

customer, then that is unfair to people that the banker has neither knowledge of nor

can do to alter these macro trends. What we can do is understand what the trends mean

experience with. In other words this regulatory overlay promotes a standardized, boilerplate

for our company, the companies we bank, our region and our communities. Traditional

model which by design supplants the customer intimacy and flexibility that are the principle

economic measures such as unemployment, inflation, corporate earnings and the stock

competitive advantages of a good community bank.

market would indicate that the economy is largely recovered from the Great Recession.

Other measures provide insight into why the political and economic climate remains

Most of the banks that didn’t fail during the crisis are now profitable and have strong

disturbingly chaotic. The labor force participation rate is at its lowest level in decades.

capital. The vast majority of community banks are very interest rate spread dependent.

Politicians talk about creating jobs; business owners talk privately about not being able to

That means they make most of their money on the difference between their loan rates

find people who can and will fill the jobs they have. Politicians speak of the concentration

earned and their deposit rates paid. They don’t have the proportion of fee revenue sources

of wealth in the top 1% of the population and loss of hope among poor. The political

that larger banks have. Federal policy has held interest rates at near zero for over seven

climate is characterized by deep anger and division. I wish that I could write that this

years in an effort to stimulate the borrowing they believe causes economic growth.

sense of alienation seen across the political spectrum were without foundation.

As economists point out, setting rates so low effectively taxes savers to subsidize

Wisconsin has historically been a pretty cohesive place, but the disintegration of culture

borrowers. Despite this unprecedented effort to induce borrowing, loan growth is quite soft.

There is apparently no rate low enough to cause our customers to borrow money they

eight Nicolet directors to govern the combined company. This is a very challenging

don’t want to borrow. Meanwhile, prolonged low rates compress bank lending spreads,

and emotional process. So why is this happening?

causing bank earnings to flatten and decline. For years banks have been hoping and

expecting that economic recovery would cause rates and lending spreads to rise. News

This is happening because both boards understand each other, the challenges in the

of slowing growth in China and negative interest rates in Europe are causing the Fed to

industry and the extraordinary financial and strategic opportunities in bringing the two

have second thoughts about letting rates rise. It is not prudent for banks to only count

organizations together. Both boards believe we are stronger together than we can be

on higher lending spreads to restore earnings.

individually. This combination has very compelling economics rooted in greater

efficiency and greater size. Efficiency is the tough part because it really means eliminating

Community banks have largely recovered, but have a totally different attitude about the

unnecessary positions. As we have worked our way through the difficult decisions, we

risks and returns in the business they grew up in. Bank stock values have recovered very

have found that the job market is very strong for qualified people, but it still means some

nicely on a relative scale, but price-to-earnings (P/E) multiples lag the general market.

people leave at a time they didn’t chose. Both boards focused on the strong economics

The investment markets accurately perceive banking to be a mature industry with

of the combination and insisted that management face the hard decisions about people

softening earnings, much higher regulatory costs and higher capital requirements.

thoughtfully and generously. At one critical juncture in the negotiations as we struggled

When we attend bank strategy conferences, the presentations and the private

with personnel questions, one of the directors looked square at management of both

conversations are all about the need to grow in order to gain efficiency or else sell.

companies and said, “If this deal doesn’t come together, you had better have a very

Many banks are talking about being a buyer, but lack a real understanding of how

good reason.” He wasn’t being heartless. He was keeping our focus on the intrinsic

difficult it is to garner the talent, the capital and regulatory credibility to be a successful

impact the combination has on profitability, share value, capital strength and the ability

acquirer. This difficult environment represents an extraordinary opportunity for

of the combined company to serve its core markets for the long term.

profitable consolidation.

In 2010 we acquired four Green Bay area branches from Anchor Bank. In 2011 we looked

material market presence in Brown and Kewaunee counties as well. The company has served

closely at six troubled banks that we expected might fail. In April 2013 we acquired

Door County for over 140 years earning over 62% deposit market share. That represents

Mid-Wisconsin Bank in an exchange of equity. We also purchased assets and liabilities of

an extraordinary amount of trust that the people in Door County have placed in one

the Bank of Wausau from the FDIC. Mid-Wisconsin was a troubled institution that saw

institution. All directors are well aware of the responsibility that comes with this community

the opportunity to recover share value more rapidly by accepting Nicolet common stock.

trust. All of the branches in Door County are staying open, and we expect to build on

Since that merger was announced in November 2012, former Mid-Wisconsin shareholders

Baylake’s legacy of community support and engagement. The decision to combine under

have seen their Nicolet stock value more than triple. Mergers are often discussed with

the Nicolet name was difficult but well thought out. The directors of both companies

the military language of conquest. We approach mergers the way we approach customer

decided that it is critical to run one integrated bank. The Baylake name has real meaning

relationships. We are looking to be creative, sincere, gutsy and fair. We will do them in

and resonance. Nicolet is a name that has strong resonance throughout Wisconsin.

places where we can make a real difference for the customers and communities and we

We decided that Nicolet better fit our broader geography and strategic growth goals.

Baylake grew out of the Bank of Sturgeon Bay. In the last 25 years Baylake earned a

will not side step the difficult decisions.

We intend to honor the Baylake legacy through careful attention to all our communities.

We will be particularly aware of the legacy of trust between this bank and the people of

The Baylake and Nicolet Merger

Door County.

Many people believe “merger” is just a more polite term than “acquisition” and many times

it is. While Nicolet is the surviving entity and the name we will use is Nicolet; this combination

When the Baylake merger was announced, we said we expected to achieve over $7 million

is as close to a true merger as I have seen. At consummation, each shareholder group

of pre-tax cost savings through combination. We will achieve that goal. While we do not

will own 50% of the combined entity and eight former Baylake directors will be joining

make public earnings projections, improved share values have materialized for banks with

additional scale that can execute with efficiency. The Nicolet/Baylake organization

together will have stronger earnings and capital and will be in a great position to continue

building the leading community bank in the State of Wisconsin.

In January we announced the integration of a select group of financial advisors of Navigator

Planning Group and the purchase of their respective books of business, as well as their

operating platform into Nicolet. Navigator has been a family-owned wealth advisory firm

based in Green Bay. We have had long standing personal and professional relationships

with the Madson family. This move will accelerate the growth of our wealth management

business, which is already substantial and profitable. We have been looking for ways to

grow and gain market share. Navigator brings an existing profitable revenue stream and

above all the right people to build on what we have.

To our original Nicolet shareholders, we are very grateful for getting us going and

sustaining us through the Great Recession. To the shareholders who joined us through

the 2013 combination with Mid-Wisconsin, thank you for trusting us to serve your

communities and increase your share price. I hope you are pleased with the results. To the

Baylake shareholders joining us, thank you for trusting us. We expect to make you proud.