Heartland Financial USA, Inc. Reports Third Quarter 2018 Results

Systems conversion of First Bank & Trust on August 17, 2018

Monday, October 29, 2018

Heartland Financial USA, Inc. (NASDAQ: HTLF) today reported net income available to common stockholders of $33.7 million, or $0.97 per diluted common share, for the quarter ended September 30, 2018, compared to $21.6 million, or $0.72 per diluted common share, for the third quarter of 2017. Return on average common equity was 10.58% and return on average assets was 1.18% for the third quarter of 2018, compared to 8.99% and 0.89%, respectively, for the same quarter in 2017.

Net income available to common stockholders for the nine months ended September 30, 2018, was $84.8 million or $2.59 per diluted common share, compared to $61.6 million or $2.21 per diluted common share for the nine months ended September 30, 2017. Return on average common equity was 9.95% and return on average assets was 1.07% for the first nine months of 2018, compared to 9.88% and 0.94% for the same period in 2017.

Commenting on Heartland’s third quarter results, Lynn B. Fuller, Heartland’s executive operating chairman, said, "Heartland reported another excellent quarter with net income available to common stockholders of $33.7 million or $0.97 per diluted common share, which was driven by a strong net interest margin on a fully tax-equivalent basis of 4.38 percent and continued improvement in our efficiency ratio."

On May 18, 2018, Heartland completed the acquisition of Lubbock, Texas based First Bank Lubbock Bancshares, Inc. ("FBLB"), parent company of First Bank & Trust, and PrimeWest Mortgage Corporation, which is a wholly-owned subsidiary of First Bank & Trust. Based on Heartland's closing common stock price of $55.05 per share on May 18, 2018, the aggregate consideration paid to FBLB common shareholders was $189.9 million, with approximately 3% of the consideration paid in cash and 97% paid by delivery of Heartland common stock. As a result of the transaction, First Bank & Trust became a wholly-owned subsidiary of Heartland and its 11th state-chartered bank. First Bank & Trust and PrimeWest Mortgage Corporation continue to operate under their present brands and management teams. As of the closing date, FBLB had, at fair value, total assets of $1.12 billion, total loans held to maturity of $681.1 million and total deposits of $893.8 million. Heartland also assumed, at fair value, $8.2 million of trust preferred debt. The systems conversion for this transaction occurred on August 17, 2018.

In the third quarter of 2018, Heartland closed three branch locations, consisting of one branch at Dubuque Bank and Trust Company, Arizona Bank & Trust and Rocky Mountain Bank. Additionally, Wisconsin Bank & Trust announced the sale of two branches, which resulted in the classification of $31.4 million of loans and $50.3 million of deposits as held for sale at September 30, 2018 . The sales transaction is expected to close in the first quarter of 2019, pending regulatory approval. Excluding the pending branch sales, Heartland operated 122 branch locations across its footprint at September 30, 2018.

Bruce K. Lee, Heartland's president and chief executive officer, stated, "We continue to optimize our branch network and capitalize on the favorable market value of our branches. We are focusing our efforts in markets where we are well-positioned for growth."

Net Interest Margin Increases from Third Quarter of 2017
Net interest margin, expressed as a percentage of average earning assets, was 4.32% (4.38% on a fully tax-equivalent basis, non-GAAP) during the third quarter of 2018, compared to 4.08% (4.26% on a fully tax-equivalent basis, non-GAAP) during the third quarter of 2017 and 4.23% (4.30% on a fully tax-equivalent basis, non-GAAP) during the second quarter of 2018.

"We are very pleased with our tax-equivalent net interest margin of 4.38 percent for the third quarter of 2018, which increased 12 basis points from 4.26 percent for the third quarter of 2017. The improved margin was driven by an increase in average earning assets and a favorable deposit mix," Lee said.

Total interest income for the third quarter of 2018 was $124.9 million compared to $99.0 million recorded in the third quarter of 2017, an increase of $25.9 million or 26%. The taxable equivalent adjustment for income taxes saved on the interest earned on nontaxable securities and loans was $1.5 million for the third quarter of 2018 and $3.9 million for the third quarter of 2017. With these adjustments, total interest income on a tax-equivalent basis was $126.4 million for the third quarter of 2018, an increase of $23.5 million or 23%, compared to total interest income on a tax-equivalent
basis of $102.9 million for the third quarter of 2017. Average earning assets increased $1.43 billion or 16% from the third quarter of 2017, which was primarily attributable to the acquisitions completed in the first half of 2018. The average rate on earning assets increased 26 basis points to 4.94% for the third quarter of 2018 compared to 4.68% for the same quarter in 2017. The increase in interest income on a tax-equivalent basis was primarily due to recent increases in market interest rates and the increase in average earning assets.

Total interest expense for the third quarter of 2018 was $14.2 million, an increase of $5.1 million or 56% from $9.1 million in the third quarter of 2017. Average interest bearing deposits increased $938.3 million or 18% to $6.13 billion for the quarter ended September 30, 2018, from $5.19 billion in the same quarter in 2017, which was primarily attributable to recent acquisitions. The average interest rate paid on Heartland's interest bearing deposits increased 26 basis points to 0.65% for the third quarter of 2018 compared to 0.39% for the same quarter in 2017. Average borrowings declined $91.1 million or 18% to $419.0 million during the third quarter of 2018 from $510.0 million during the same quarter in 2017. The average interest rate paid on Heartland's borrowings was 3.91% for the third quarter of 2018 compared to 3.16% in the third quarter of 2017. The increase of 75 basis points in the average interest rate paid on Heartland's interest bearing liabilities was primarily due to recent increases in market interest rates.

Net interest income was $110.7 million during the third quarter of 2018 compared to $89.8 million during the third quarter of 2017, an increase of $20.8 million or 23%. After the tax-equivalent adjustment discussed above, net interest income on a tax-equivalent basis totaled $112.2 million during the third quarter of 2018 compared to net interest income on a tax-equivalent basis of $93.8 million during the third quarter of 2017, an increase of $18.5 million or 20%.

Noninterest Income and Noninterest Expense Increase from Third Quarter of 2017
Total noninterest income was $29.8 million during the third quarter of 2018 compared to $25.0 million during the third quarter of 2017, an increase of $4.8 million or 19%. Service charges and fees increased $2.8 million or 27% to $12.9 million for the third quarter of 2018 compared to $10.1 million for the same quarter of 2017. Service charges related to credit card income increased $1.1 million or 54% to $3.1 million for the third quarter of 2018 from $2.0 million for the same quarter of 2017. The remainder of the increase in service charges was primarily attributable to Heartland's
larger customer base as a result of recent acquisitions. Securities losses, net, totaled $145,000 for the third quarter of 2018 compared to net securities gains of $1.7 million for the third quarter of 2017. Net gains on sale of loans held for sale totaled $7.4 million during the third quarter of 2018 compared to $5.0 million during the same quarter in 2017, which was an increase of $2.4 million or 48%, primarily due to the acquisition of PrimeWest Mortgage Corporation in the second quarter of 2018.


For the third quarter of 2018, total noninterest expense was $92.5 million compared to $78.8 million during the third quarter of 2017, an increase of $13.8 million or 17%. Salaries and employee benefits increased $4.7 million or 10% to $49.9 million for the third quarter of 2018 compared to $45.2 million for the same quarter in 2017, which was primarily due to the increase in full time equivalent employees from recent acquisitions. Heartland had 2,211 full time equivalent employees at September 30, 2018, compared to 2,024 full time equivalent employees at September 30, 2017. Professional fees increased $3.2 million or 38% to $11.7 million for the third quarter of 2018 compared to $8.5 million for the same period in 2017, which was primarily attributable to the outsourcing of mortgage loan processing, underwriting and loan closing functions. Advertising expenses increased $1.4 million or 103% to $2.8 million for the third quarter of 2018 compared to $1.4 million for the third quarter of 2017, which related to increased marketing efforts to support Heartland's expanding footprint. Other noninterest expenses were $12.9 million for the third quarter of 2018
compared to $10.0 million for the third quarter of 2017, which was an increase of $2.9 million or 29%. Included in this increase was a write-down of $338,000 on a partnership investment that qualifies for solar energy tax credits. The remainder of the increase was primarily attributable to recent acquisitions.


Heartland's effective tax rate was 20.99% for the third quarter of 2018 compared to 28.74% for the third quarter of 2017. Federal low-income housing tax credits included in the determination of Heartland's income taxes totaled $307,000 during both the third quarter of 2018 and 2017. Included in Heartland's third quarter 2018 tax calculation was a solar energy tax credit totaling $223,000. Heartland's effective tax rate was also affected by the passage of the Tax Cuts and Jobs Act in December 2017, which reduced the federal income tax rate from a maximum of 35% to 21% beginning January 1, 2018. Due to the lower federal tax rate, the level of tax-exempt interest income as a percentage of pre-tax income declined to 13.62% during the third quarter of 2018 from 24.01% during the third quarter of 2017.

Loans and Deposits Increase Since December 31, 2017
Total assets were $11.34 billion at September 30, 2018, an increase of $1.52 billion or 16% from $9.81 billion at yearend 2017. Excluding $427.1 million of assets acquired at fair value in the Signature Bancshares, Inc. transaction and $1.12 billion of assets acquired at fair value in the FBLB transaction, total assets decreased $20.1 million or less than 1% since December 31, 2017. Securities represented 22% and 25% of total assets at September 30, 2018, and December 31, 2017, respectively.


Total loans held to maturity were $7.37 billion at September 30, 2018, compared to $6.39 billion at year-end 2017, an increase of $974.0 million or 15%. This change includes $324.5 million of total loans held to maturity acquired at fair value in the Signature Bancshares, Inc. transaction and $681.1 million of total loans held to maturity acquired at fair value in the FBLB transaction. During the third quarter of 2018, the sale of two branches at Wisconsin Bank & Trust was announced, which included $31.4 million of loans that were classified as held for sale at September 30, 2018.
Exclusive of these transactions, total loans held to maturity decreased $140,000 or less than 1% since year-end 2017.

Total deposits were $9.51 billion as of September 30, 2018, compared to $8.15 billion at year-end 2017, an increase of $1.37 billion or 17%. This increase included $357.3 million of deposits, at fair value, acquired in the Signature Bancshares, Inc. transaction and $893.8 million of deposits, at fair value, acquired in the FBLB transaction. The deposits classified as held for sale in conjunction with the branch sale at Wisconsin Bank & Trust totaled $50.3 million at September 30, 2018. Exclusive of these transactions, total deposits increased $164.4 million or 2% since December 31, 2017.

Demand deposits increased $444.7 million or 15% to $3.43 billion at September 30, 2018 compared to $2.98 billion at December 31, 2017. Excluding $299.0 million of demand deposits attributable to the Signature Bancshares, Inc. and FBLB transactions, demand deposits increased $145.7 million or 5% since year-end 2017. For the third quarter of 2018, demand deposits increased $28.2 million or 1% to $3.43 billion from $3.40 billion at June 30, 2018.


Savings deposits increased $718.1 million or 17% to $4.96 billion at September 30, 2018, from $4.24 billion at December 31, 2017. Excluding savings deposits of $619.0 million acquired in the Signature Bancshares, Inc. and FBLB transactions, savings deposits increased $99.1 million or 2% since year-end 2017. Savings deposits increased $93.7 million or 2% during the third quarter to $4.96 billion at September 30, 2018 from $4.86 billion at June 30, 2018.

Time deposits increased $202.5 million or 22% to $1.13 billion at September 30, 2018 from $923.5 million at December 31, 2017. Excluding time deposits acquired in 2018 of $333.1 million, time deposits decreased $130.6 million or 14% since year-end and $98.9 million or 8% since June 30, 2018.

"Organic non-time deposit growth continued to be impressive with a year-to-date increase of $244.7 million or 5 percent annualized. At September 30, 2018, non-time deposits represented 88 percent of total deposits," Lee stated.

Nonperforming Assets Increase Since December 31, 2017
Nonperforming assets were $85.6 million or 0.76% of total assets at September 30, 2018, compared to $74.6 million or 0.76% of total assets at December 31, 2017. Excluding $10.4 million of nonperforming assets acquired in the Signature Bancshares, Inc. and FBLB transactions, nonperforming assets increased $586,000 or 1% since year-end 2017. Nonperforming loans were $73.2 million or 0.99% of total loans at September 30, 2018, compared to $63.4 million or 0.99% of total loans at December 31, 2017. At September 30, 2018, loans delinquent 30-89 days were 0.62% of total loans compared to 0.27% of total loans at December 31, 2017. The increase was primarily attributable to credits from acquired portfolios that were past due at September 30, 2018.

The allowance for loan losses at September 30, 2018, was 0.83% of loans and 83.62% of nonperforming loans, compared to 0.87% of loans and 87.82% of nonperforming loans at December 31, 2017. The provision for loan losses decreased $467,000 to $5.2 million for the third quarter of 2018 compared to $5.7 million for the same quarter in 2017.

Conference Call Details
Heartland will host a conference call for investors at 5:00 p.m. EDT today. To participate, dial 877-407-0782 at least five minutes before start time. To listen to the live webcast, log on to www.htlf.com at least 15 minutes before start
time. A replay will be available until October 28, 2019, by logging on to www.htlf.com.


About Heartland Financial USA, Inc.
Heartland Financial USA, Inc. is a diversified financial services company with assets of $11.3 billion. The company provides banking, mortgage, private client, investment, insurance and consumer finance services to individuals and businesses. Heartland currently has 122 banking locations serving 91 communities in Iowa, Illinois, Wisconsin, New Mexico, Arizona, Montana, Colorado, Minnesota, Kansas, Missouri, Texas and California. Additional information about Heartland Financial USA, Inc. is available at www.htlf.com.

Safe Harbor Statement
This release, and future oral and written statements of Heartland and its management, may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 about Heartland's financial condition, results of operations, plans, objectives, future performance and business. Although these forward-looking statements are based upon the beliefs, expectations and assumptions of Heartland's management, there are a number of factors, many of which are beyond the ability of management to control or predict, that could cause actual results to differ materially from those in its forward-looking statements. These factors, which are detailed in the risk factors in Heartland's Annual Report on Form 10-K filed with the Securities and Exchange Commission, contained, among others: (i) the strength of the local and national economy; (ii) the economic impact of past and any future terrorist threats and attacks and any acts of war; (iii) changes in state and federal laws, regulations and governmental policies as they impact the company's general business; (iv) changes in interest rates and prepayment rates of the company's assets; (v) increased competition in the financial services sector and the inability to attract new customers; (vi) changes in technology and the ability to develop and maintain secure and reliable electronic systems; (vii) the potential impact of acquisitions and Heartland's ability to successfully integrate acquired banks; (viii) the loss of key executives or employees; (ix) changes in consumer spending; (x) unexpected outcomes of existing or new litigation involving the company; and (xi) changes in accounting policies and practices. All statements in this release, including forwardlooking statements, speak only as of the date they are made, and Heartland undertakes no obligation to update any statement in light of new information or future events.