10-Q
Table of Contents

 

 

United States

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

HORIZON BANCORP

FORM 10-Q

 

 

QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2016

Commission file number 0-10792

 

 

HORIZON BANCORP

(Exact name of registrant as specified in its charter)

 

 

 

Indiana   35-1562417

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

515 Franklin Square,

Michigan City, Indiana

  46360
(Address of principal executive offices)   (Zip Code)

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

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

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

    Yes  x    No  ¨

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

 

Large Accelerated Filer   ¨    Accelerated Filer   x
Non-accelerated Filer   ¨  Do not check if smaller reporting company    Smaller Reporting Company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

    Yes  ¨    No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 11,983,313 shares of Common Stock, no par value, at May 6, 2016.

 

 

 


Table of Contents

HORIZON BANCORP

FORM 10-Q

INDEX

 

PART I. FINANCIAL INFORMATION

  

Item 1.

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

Item 2.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations      41   

Item 3.

  Quantitative and Qualitative Disclosures about Market Risk      54   

Item 4.

  Controls and Procedures      54   

PART II. OTHER INFORMATION

  

Item 1.

  Legal Proceedings      55   

Item 1A. Risk Factors

     55   

Item 2.

  Unregistered Sales of Equity Securities and Use of Proceeds      55   

Item 3.

  Defaults Upon Senior Securities      55   

Item 4.

  Mine Safety Disclosures      55   

Item 5.

  Other Information      55   

Item 6.

  Exhibits      56   

Signatures

     57   

Index To Exhibits

     58   

 

2


Table of Contents

PART 1 — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

HORIZON BANCORP AND SUBSIDIARIES

Condensed Consolidated Balance Sheets

(Dollar Amounts in Thousands)

 

     March 31      December 31  
     2016      2015  
     (Unaudited)         

Assets

     

Cash and due from banks

   $ 47,612       $ 48,650   

Investment securities, available for sale

     462,476         444,982   

Investment securities, held to maturity (fair value of $188,093 and $193,703)

     180,291         187,629   

Loans held for sale

     3,168         7,917   

Loans, net of allowance for loan losses of $14,236 and $14,534

     1,705,836         1,734,597   

Premises and equipment, net

     60,190         60,798   

Federal Reserve and Federal Home Loan Bank stock

     13,823         13,823   

Goodwill

     49,600         49,600   

Other intangible assets

     7,095         7,371   

Interest receivable

     10,476         10,535   

Cash value of life insurance

     54,849         54,504   

Other assets

     32,502         31,995   
  

 

 

    

 

 

 

Total assets

   $ 2,627,918       $ 2,652,401   
  

 

 

    

 

 

 

Liabilities

     

Deposits

     

Non-interest bearing

   $ 343,025       $ 335,955   

Interest bearing

     1,535,454         1,544,198   
  

 

 

    

 

 

 

Total deposits

     1,878,479         1,880,153   

Borrowings

     430,507         449,347   

Subordinated debentures

     32,836         32,797   

Interest payable

     580         507   

Other liabilities

     24,099         22,765   
  

 

 

    

 

 

 

Total liabilities

     2,366,501         2,385,569   
  

 

 

    

 

 

 

Commitments and contingent liabilities

     

Stockholders’ Equity

     

Preferred stock, Authorized, 1,000,000 shares Series B shares $.01 par value, $1,000 liquidation value Issued 0 and 12,500 shares

     —           12,500   

Common stock, no par value Authorized, 22,500,000 shares Issued, 12,008,497 and 11,995,324 shares Outstanding, 11,983,313 and 11,939,887 shares

     —           —     

Additional paid-in capital

     106,500         106,370   

Retained earnings

     152,219         148,685   

Accumulated other comprehensive income (loss)

     2,698         (723
  

 

 

    

 

 

 

Total stockholders’ equity

     261,417         266,832   
  

 

 

    

 

 

 

Total liabilities and stockholders’ equity

   $ 2,627,918       $ 2,652,401   
  

 

 

    

 

 

 

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Condensed Consolidated Statements of Income

(Dollar Amounts in Thousands, Except Per Share Data)

 

     Three Months Ended  
     March 31  
     2016     2015  
     (Unaudited)     (Unaudited)  

Interest Income

    

Loans receivable

   $ 19,747      $ 16,862   

Investment securities

    

Taxable

     2,544        2,154   

Tax exempt

     1,237        1,077   
  

 

 

   

 

 

 

Total interest income

     23,528        20,093   
  

 

 

   

 

 

 

Interest Expense

    

Deposits

     1,491        1,232   

Borrowed funds

     1,759        1,479   

Subordinated debentures

     504        496   
  

 

 

   

 

 

 

Total interest expense

     3,754        3,207   
  

 

 

   

 

 

 

Net Interest Income

     19,774        16,886   

Provision for loan losses

     532        614   
  

 

 

   

 

 

 

Net Interest Income after Provision for Loan Losses

     19,242        16,272   
  

 

 

   

 

 

 

Non-interest Income

    

Service charges on deposit accounts

     1,238        999   

Wire transfer fees

     121        151   

Interchange fees

     1,458        1,102   

Fiduciary activities

     1,635        1,297   

Gain on sale of investment securities (includes $108 and $124 for the three months ended March 31, 2016 and 2015, respectively, related to accumulated other comprehensive earnings reclassifications)

     108        124   

Gain on sale of mortgage loans

     2,114        2,379   

Mortgage servicing income net of impairment

     447        179   

Increase in cash value of bank owned life insurance

     345        258   

Death benefit on bank owned life insurance

     —          145   

Other income

     398        432   
  

 

 

   

 

 

 

Total non-interest income

     7,864        7,066   
  

 

 

   

 

 

 

Non-interest Expense

    

Salaries and employee benefits

     10,065        8,504   

Net occupancy expenses

     1,936        1,551   

Data processing

     1,105        923   

Professional fees

     831        527   

Outside services and consultants

     1,099        626   

Loan expense

     1,195        1,257   

FDIC insurance expense

     405        337   

Other losses

     267        (45

Other expense

     2,844        2,388   
  

 

 

   

 

 

 

Total non-interest expense

     19,747        16,068   
  

 

 

   

 

 

 

Income Before Income Tax

     7,359        7,270   

Income tax expense (includes $38 and $43 for the three months ended March 31, 2016 and 2015, respectively, related to income tax expense from reclassification items)

     1,978        1,912   
  

 

 

   

 

 

 

Net Income

     5,381        5,358   

Preferred stock dividend

     (42     (31
  

 

 

   

 

 

 

Net Income Available to Common Shareholders

   $ 5,339      $ 5,327   
  

 

 

   

 

 

 

Basic Earnings Per Share

   $ 0.45      $ 0.58   

Diluted Earnings Per Share

     0.44        0.55   

 

See notes to condensed consolidated financial statements

 

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HORIZON BANCORP AND SUBSIDIARIES

Condensed Consolidated Statements of Comprehensive Income

(Dollar Amounts in Thousands)

 

     Three Months Ended March 31  
     2016     2015  
     (Unaudited)     (Unaudited)  

Net Income

   $ 5,381      $ 5,358   
  

 

 

   

 

 

 

Other Comprehensive Income (Loss)

    

Change in fair value of derivative instruments:

    

Change in fair value of derivative instruments for the period

     (562     (329

Income tax effect

     197        115   
  

 

 

   

 

 

 

Changes from derivative instruments

     (365     (214
  

 

 

   

 

 

 

Change in securities:

    

Unrealized appreciation for the period on AFS securities

     5,946        1,714   

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

     (229     (114

Reclassification adjustment for securities gains realized in income

     108        124   

Income tax effect

     (2,039     (604
  

 

 

   

 

 

 

Unrealized gains on securities

     3,786        1,120   
  

 

 

   

 

 

 

Other Comprehensive Income, Net of Tax

     3,421        906   
  

 

 

   

 

 

 

Comprehensive Income

   $ 8,802      $ 6,264   
  

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

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HORIZON BANCORP AND SUBSIDIARIES

Condensed Consolidated Statement of Stockholders’ Equity

(Unaudited)

(Dollar Amounts in Thousands, Except Per Share Data)

 

                        Accumulated        
           Additional            Other        
     Preferred     Paid-in      Retained     Comprehensive        
     Stock     Capital      Earnings     Income (Loss)     Total  

Balances, January 1, 2016

   $ 12,500      $ 106,370       $ 148,685      $ (723   $ 266,832   

Net income

          5,381          5,381   

Other comprehensive loss, net of tax

            3,421        3,421   

Redemption of preferred stock

     (12,500            (12,500

Amortization of unearned compensation

       62             62   

Stock option expense

       68             68   

Cash dividends on preferred stock (1.00%)

          (42       (42

Cash dividends on common stock ($.15 per share)

          (1,805       (1,805
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Balances, March 31, 2016

   $ —        $ 106,500       $ 152,219      $ 2,698      $ 261,417   
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

See notes to condensed consolidated financial statements

 

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HORIZON BANCORP AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

(Dollar Amounts in Thousands)

 

     Three Months Ended March 31  
     2016     2015  
     (Unaudited)     (Unaudited)  

Operating Activities

    

Net income

   $ 5,381      $ 5,358   

Items not requiring (providing) cash

    

Provision for loan losses

     532        614   

Depreciation and amortization

     1,183        956   

Share based compensation

     68        59   

Mortgage servicing rights net (recovery) impairment

     1        414   

Premium amortization on securities available for sale, net

     1,187        476   

Gain on sale of investment securities

     (108     (124

Gain on sale of mortgage loans

     (2,114     (2,379

Proceeds from sales of loans

     62,022        71,211   

Loans originated for sale

     (55,162     (68,918

Change in cash value of life insurance

     (345     (258

Gain on sale of other real estate owned

     (100     (263

Net change in

    

Interest receivable

     59        (185

Interest payable

     73        7   

Other assets

     (1,730     5,503   

Other liabilities

     (1,532     (1,287
  

 

 

   

 

 

 

Net cash provided by operating activities

     9,415        11,184   
  

 

 

   

 

 

 

Investing Activities

    

Purchases of securities available for sale

     (33,716     (30,406

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

     26,663        25,260   

Purchases of securities held to maturity

     (8,677     —     

Proceeds from maturities of securities held to maturity

     10,319        735   

Net change in loans

     29,354        (81,515

Proceeds on the sale of OREO and repossessed assets

     663        1,414   

Change in premises and equipment, net

     (237     (2,168
  

 

 

   

 

 

 

Net cash provided by (used in) investing activities

     24,369        (86,680
  

 

 

   

 

 

 

Financing Activities

    

Net change in

    

Deposits

     (1,674     (17,224

Borrowings

     (18,801     89,255   

Redemption of preferred stock

     (12,500     —     

Dividends paid on common shares

     (1,805     (1,304

Dividends paid on preferred shares

     (42     (31
  

 

 

   

 

 

 

Net cash (used in) provided by financing activities

     (34,822     70,696   
  

 

 

   

 

 

 

Net Change in Cash and Cash Equivalents

     (1,038     (4,800

Cash and Cash Equivalents, Beginning of Period

     48,650        43,476   
  

 

 

   

 

 

 

Cash and Cash Equivalents, End of Period

   $ 47,612      $ 38,676   
  

 

 

   

 

 

 

Additional Supplemental Information

    

Interest paid

   $ 3,681      $ 3,199   

Income taxes paid

     1,250        —     

Transfer of loans to other real estate owned

     1,379        (772

See notes to condensed consolidated financial statements

 

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Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

Note 1 - Accounting Policies

The accompanying unaudited condensed consolidated financial statements include the accounts of Horizon Bancorp (“Horizon” or the “Company”) and its wholly-owned subsidiaries, including Horizon Bank, N.A. (“Bank”). All inter-company balances and transactions have been eliminated. The results of operations for the periods ended March 31, 2016 and March 31, 2015 are not necessarily indicative of the operating results for the full year of 2016 or 2015. The accompanying unaudited condensed consolidated financial statements reflect all adjustments that are, in the opinion of Horizon’s management, necessary to fairly present the financial position, results of operations and cash flows of Horizon for the periods presented. Those adjustments consist only of normal recurring adjustments.

Certain information and note disclosures normally included in Horizon’s annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in Horizon’s Annual Report on Form 10-K for 2015 filed with the Securities and Exchange Commission on February 29, 2016. The condensed consolidated balance sheet of Horizon as of December 31, 2015 has been derived from the audited balance sheet as of that date.

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

 

     Three Months Ended  
     March 31  
     2016      2015  
     (Unaudited)      (Unaudited)  

Basic earnings per share

     

Net income

   $ 5,381       $ 5,358   

Less: Preferred stock dividends

     42         31   
  

 

 

    

 

 

 

Net income available to common shareholders

   $ 5,339       $ 5,327   

Weighted average common shares outstanding

     11,949,416         9,216,011   

Basic earnings per share

   $ 0.45       $ 0.58   
  

 

 

    

 

 

 

Diluted earnings per share

     

Net income available to common shareholders

   $ 5,339       $ 5,327   

Weighted average common shares outstanding

     11,949,416         9,216,011   

Effect of dilutive securities:

     

Warrants

     —           321,652   

Restricted stock

     21,033         30,510   

Stock options

     38,035         41,333   
  

 

 

    

 

 

 

Weighted average shares outstanding

     12,008,484         9,609,506   

Diluted earnings per share

   $ 0.44       $ 0.55   
  

 

 

    

 

 

 

There were zero dilutive shares for the three months ended March 31, 2016 and 62,445 shares for the three months ended March 31, 2015 which were not included in the computation of diluted earnings per share because they were non-dilutive.

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Horizon has share-based employee compensation plans, which are described in the notes to the financial statements included in the December 31, 2015 Annual Report on Form 10-K.

Reclassifications

Certain reclassifications have been made to the 2015 condensed consolidated financial statements to be comparable to 2016. These reclassifications had no effect on net income.

Note 2 – Acquisitions

On July 1, 2015, Horizon completed the acquisition of Peoples Bancorp, an Indiana corporation (“Peoples”) and Horizon Bank N.A.’s acquisition of Peoples Federal Savings Bank of DeKalb County (“Peoples FSB”), through mergers effective July 1, 2015. Under the terms of the acquisition, the exchange ratio was 0.95 shares of Horizon common stock (the “Exchange Ratio”) and $9.75 in cash for each outstanding share of Peoples common stock. Peoples shareholders owning fewer than 100 shares of common stock received $33.14 in cash for each common share. Peoples shares outstanding at the closing were 2,311,858, and the shares of Horizon common stock issued to Peoples shareholders totaled 2,192,202. Horizon’s stock price was $25.32 per share at the close of business on July 1, 2015. Based upon these numbers, the total value of the consideration for the acquisition was $78.1 million. The Company had approximately $4.9 million in costs related to the acquisition as of December 31, 2015. These expenses were classified in the other expense section of the income statement and primarily located in the salaries and employee benefits, professional services and other expense line items. As a result of the acquisition, the Company will have an opportunity to increase its deposit base and reduce transaction costs. The Company also expects to reduce cost through economies of scale.

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

 

ASSETS       

Cash and due from banks

   $ 205,054   

Investment securities, held to maturity

     2,038   

Commercial

     67,435   

Residential mortgage

     137,331   

Consumer

     19,593   
  

 

 

 

Total loans

     224,359   

Premises and equipment, net

     5,524   

FRB and FHLB stock

     2,743   

Goodwill

     21,424   

Core deposit intangible

     4,394   

Interest receivable

     1,279   

Cash value of life insurance

     13,898   

Other assets

     4,364   
  

 

 

 

Total assets purchased

   $ 485,077   
  

 

 

 

Common shares issued

   $ 55,506   

Cash paid

     22,641   
  

 

 

 

Total estimated purchase price

   $ 78,147   
  

 

 

 
LIABILITIES       

Deposits

  

Non-interest bearing

   $ 28,251   

NOW accounts

     65,771   

Savings and money market

     125,176   

Certificates of deposits

     131,889   
  

 

 

 

Total deposits

     351,087   

Borrowings

     48,884   

Interest payable

     21   

Other liabilities

     6,938   
  

 

 

 

Total liabilities assumed

   $ 406,930   
  

 

 

 

 

 

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Of the total purchase price of $78.1 million, $4.4 million has been allocated to core deposit intangible. Additionally, $21.0 million has been allocated to goodwill and none of the purchase price is deductible. The core deposit intangible will be amortized over seven years on a straight line basis.

The Company acquired the $228.6 million loan portfolio at a fair value discount of $4.8 million. The performing portion of the portfolio, $223.4 million, had an estimated fair value of $220.0 million. The excess of expected cash flows above the fair value of the performing portion of loans will be accreted to interest income over the remaining lives of the loans in accordance with ASC 310-20.

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

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

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

The following table details the acquired loans that are accounted for in accordance with ASC 310-30 as of July 1, 2015.

 

Contractually required principal and interest at acquisition

   $ 5,730   

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

     715   
  

 

 

 

Expected cash flows at acquisition

     5,015   

Interest component of expected cash flows (accretable discount)

     647   
  

 

 

 

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

   $ 4,368   
  

 

 

 

The results of operations of Peoples and Peoples FSB have been included in the Company’s consolidated financial statements since the acquisition dates. The following schedule includes pro forma results for the periods ended March 31, 2016 and 2015 as if the Peoples and Peoples FSB acquisitions had occurred as of the beginning of the comparable prior reporting period.

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

     Three Months Ended  
     March 31,      March 31,  
     2016      2015  

Summary of Operations:

     

Net Interest Income

   $ 19,774       $ 19,865   

Provision for Loan Losses

     532         644   

Net Interest Income after Provision for Loan Losses

     19,242         19,221   

Non-interest Income

     7,864         7,966   

Non-Interest Expense

     19,747         19,270   

Income before Income Taxes

     7,359         7,917   

Income Tax Expense

     1,978         1,939   

Net Income

     5,381         5,978   

Net Income Available to Common Shareholders

   $ 5,339       $ 5,984   
  

 

 

    

 

 

 

Basic Earnings Per Share

   $ 0.45       $ 0.52   

Diluted Earnings Per Share

   $ 0.44       $ 0.51   

The pro forma information includes adjustments for interest income on loans, amortization of intangibles arising from the transaction, interest expense on deposits acquired, premises expense for the banking centers acquired and the related income tax effects. The pro forma information for the three months ended March 31, 2015 includes $657,000, net of tax, of operating revenue from Peoples and approximately $95,000, net of tax, of non-recurring expenses directly attributable to the Peoples acquisition.

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

 

11


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 3 – Securities

The fair value of securities is as follows:

 

            Gross      Gross         
March 31, 2016    Amortized      Unrealized      Unrealized      Fair  
     Cost      Gains      Losses      Value  

Available for sale

           

U.S. Treasury and federal agencies

   $ 15,412       $ 60       $ (2    $ 15,470   

State and municipal

     69,204         1,840         (2      71,042   

Federal agency collateralized mortgage obligations

     155,687         1,836         (210      157,313   

Federal agency mortgage-backed pools

     215,167         3,648         (239      218,576   

Corporate notes

     32         43         —           75   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 455,502       $ 7,427       $ (453    $ 462,476   
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

State and municipal

   $ 145,520       $ 6,753       $ (188    $ 152,085   

Federal agency collateralized mortgage obligations

     8,731         136         —           8,867   

Federal agency mortgage-backed pools

     26,040         1,149         (48      27,141   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $ 180,291       $ 8,038       $ (236    $ 188,093   
  

 

 

    

 

 

    

 

 

    

 

 

 
            Gross      Gross         
December 31, 2015    Amortized      Unrealized      Unrealized      Fair  
     Cost      Gains      Losses      Value  

Available for sale

           

U.S. Treasury and federal agencies

   $ 5,940       $ 3       $ (17    $ 5,926   

State and municipal

     73,829         1,299         (33      75,095   

Federal agency collateralized mortgage obligations

     157,291         567         (1,655      156,203   

Federal agency mortgage-backed pools

     206,970         2,080         (1,346      207,704   

Corporate notes

     32         22         —           54   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 444,062       $ 3,971       $ (3,051    $ 444,982   
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

U.S. Treasury and federal agencies

   $ 5,859       $ 93       $ —         $ 5,952   

State and municipal

     146,331         5,375         (253      151,453   

Federal agency collateralized mortgage obligations

     9,051         27         (124      8,954   

Federal agency mortgage-backed pools

     26,388         1,141         (185      27,344   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $ 187,629       $ 6,636       $ (562    $ 193,703   
  

 

 

    

 

 

    

 

 

    

 

 

 

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

Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified. At March 31, 2016, no individual investment security had an unrealized loss that was determined to be other-than-temporary.

The unrealized losses on the Company’s investments in securities of state and municipal governmental agencies, U.S. Treasury and federal agencies, federal agency collateralized mortgage obligations, and federal agency mortgage-backed pools were caused by interest rate volatility and not a decline in credit quality. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. The Company expects to recover the amortized cost basis over the term of the securities. Because the Company does not intend to sell the investments and it is not likely that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be at maturity, the Company did not consider those investments to be other-than-temporarily impaired at March 31, 2016.

 

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Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

The amortized cost and fair value of securities available for sale and held to maturity at March 31, 2016 and December 31, 2015, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

     March 31, 2016      December 31, 2015  
     Amortized      Fair      Amortized      Fair  
     Cost      Value      Cost      Value  

Available for sale

           

Within one year

   $ 6,786       $ 6,816       $ 7,192       $ 7,232   

One to five years

     46,633         47,547         38,197         38,894   

Five to ten years

     15,505         16,047         16,807         17,152   

After ten years

     15,724         16,178         17,605         17,797   
  

 

 

    

 

 

    

 

 

    

 

 

 
     84,648         86,588         79,801         81,075   

Federal agency collateralized mortgage obligations

     155,687         157,313         157,291         156,203   

Federal agency mortgage-backed pools

     215,167         218,575         206,970         207,704   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 455,502       $ 462,476       $ 444,062       $ 444,982   
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

Within one year

   $ —         $ —         $ —         $ —     

One to five years

     15,360         16,126         17,815         18,403   

Five to ten years

     98,023         102,861         106,167         110,026   

After ten years

     32,137         33,098         28,208         28,976   
  

 

 

    

 

 

    

 

 

    

 

 

 
     145,520         152,085         152,190         157,405   

Federal agency collateralized mortgage obligations

     8,731         8,867         9,051         8,954   

Federal agency mortgage-backed pools

     26,040         27,141         26,388         27,344   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity investment securities

   $ 180,291       $ 188,093       $ 187,629       $ 193,703   
  

 

 

    

 

 

    

 

 

    

 

 

 

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

 

     Less than 12 Months     12 Months or More     Total  
     Fair      Unrealized     Fair      Unrealized     Fair      Unrealized  
March 31, 2016    Value      Losses     Value      Losses     Value      Losses  

U.S. Treasury and federal agencies

   $ 1,998       $ (2   $ —         $ —        $ 1,998       $ (2

State and municipal

     1,931         (186     1,812         (4     3,743         (190

Federal agency collateralized mortgage obligations

     6,684         (54     24,739         (156     31,423         (210

Federal agency mortgage-backed pools

     29,691         (239     3,833         (48     33,524         (287
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total temporarily impaired securities

   $ 40,304       $ (481   $ 30,384       $ (208   $ 70,688       $ (689
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     Less than 12 Months     12 Months or More     Total  
     Fair      Unrealized     Fair      Unrealized     Fair      Unrealized  
December 31, 2015    Value      Losses     Value      Losses     Value      Losses  

U.S. Treasury and federal agencies

   $ 5,468       $ (17   $ —         $ —        $ 5,468       $ (17

State and municipal

     17,353         (280     446         (6     17,799         (286

Federal agency collateralized mortgage obligations

     89,459         (1,123     25,428         (655     114,887         (1,779

Federal agency mortgage-backed pools

     113,244         (1,212     16,506         (319     129,750         (1,531
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total temporarily impaired securities

   $ 225,524       $ (2,632   $ 42,380       $ (980   $ 267,904       $ (3,613
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

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Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

     Three Months Ended
March 31
 
     2016      2015  

Sales of securities available for sale (Unaudited)

     

Proceeds

   $ 7,297       $ 13,332   

Gross gains

     108         147   

Gross losses

     —           (23

Note 4 Loans

 

     March 31      December 31  
     2016      2015  

Commercial

     

Working capital and equipment

   $ 381,425       $ 381,245   

Real estate, including agriculture

     381,256         391,668   

Tax exempt

     9,072         8,674   

Other

     26,001         23,408   
  

 

 

    

 

 

 

Total

     797,754         804,995   

Real estate

     

1–4 family

     438,391         433,015   

Other

     4,415         4,129   
  

 

 

    

 

 

 

Total

     442,806         437,144   

Consumer

     

Auto

     164,600         168,397   

Recreation

     5,021         5,365   

Real estate/home improvement

     49,114         47,015   

Home equity

     125,556         127,113   

Unsecured

     3,836         4,120   

Other

     11,509         10,290   
  

 

 

    

 

 

 

Total

     359,636         362,300   

Mortgage warehouse

     119,876         144,692   
  

 

 

    

 

 

 

Total loans

     1,720,072         1,749,131   

Allowance for loan losses

     (14,236      (14,534
  

 

 

    

 

 

 

Loans, net

   $ 1,705,836       $ 1,734,597   
  

 

 

    

 

 

 

Commercial

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

Commercial real estate loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Commercial real estate lending typically involves larger loan principal amounts and the repayment of these loans is generally dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. Commercial real estate loans may be more adversely affected by conditions in the real estate markets, the general economy or fluctuations in interest rates. The

 

14


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

properties securing the Company’s commercial real estate portfolio are diverse in terms of property type, and are monitored for concentrations of credit. Management monitors and evaluates commercial real estate loans based on collateral, cash flow and risk grade criteria. As a general rule, the Company avoids financing single purpose projects unless other underwriting factors are present to help mitigate risk. In addition, management tracks the level of owner-occupied commercial real estate loans versus non-owner occupied loans.

Real Estate and Consumer

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

Mortgage Warehousing

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

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

 

15


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

 

March 31, 2016    Loan
Balance
     Interest
Due
     Deferred
Fees / (Costs)
     Recorded
Investment
 

Owner occupied real estate

   $ 264,899       $ 611       $ 1,205       $ 266,715   

Non owner occupied real estate

     324,824         336         506         325,666   

Residential spec homes

     7,011         12         17         7,040   

Development & spec land loans

     19,961         46         18         20,025   

Commercial and industrial

     179,006         1,101         307         180,414   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     795,701         2,106         2,053         799,860   

Residential mortgage

     421,422         1,283         2,364         425,069   

Residential construction

     19,020         34         —           19,054   

Mortgage warehouse

     119,876         480         —           120,356   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     560,318         1,797         2,364         564,479   

Direct installment

     56,767         160         (360      56,567   

Direct installment purchased

     140         —           —           140   

Indirect installment

     147,574         304         —           147,878   

Home equity

     156,160         621         (645      156,136   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total consumer

     360,641         1,085         (1,005      360,721   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loans

     1,716,660         4,988         3,412         1,725,060   

Allowance for loan losses

     (14,236      —           —           (14,236
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loans

   $ 1,702,424       $ 4,988       $ 3,412       $ 1,710,824   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

December 31, 2015    Loan
Balance
     Interest
Due
     Deferred
Fees / (Costs)
     Recorded
Investment
 

Owner occupied real estate

   $ 268,281       $ 613       $ 1,328       $ 270,222   

Non owner occupied real estate

     326,399         306         497         327,202   

Residential spec homes

     5,018         9         17         5,044   

Development & spec land loans

     18,183         33         26         18,242   

Commercial and industrial

     184,911         1,246         335         186,492   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     802,792         2,207         2,203         807,202   

Residential mortgage

     414,924         1,275         2,470         418,669   

Residential construction

     19,751         34         —           19,785   

Mortgage warehouse

     144,692         480         —           145,172   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     579,367         1,789         2,470         583,626   

Direct installment

     54,341         168         (359      54,150   

Direct installment purchased

     153         —           —           153   

Indirect installment

     151,523         323         —           151,846   

Home equity

     157,164         628         (522      157,270   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total consumer

     363,181         1,119         (881      363,419   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loans

     1,745,340         5,115         3,792         1,754,247   

Allowance for loan losses

     (14,534      —           —           (14,534
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loans

   $ 1,730,806       $ 5,115       $ 3,792       $ 1,739,713   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

16


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 5 – Accounting for Certain Loans Acquired in a Transfer

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

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

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

 

     March 31      March 31      March 31      March 31  
     2016      2016      2016      2016  
     Heartland      Summit      Peoples      Total  

Commercial

   $ 1,282       $ 5,494       $ 962       $ 7,738   

Real estate

     676         1,199         289         2,164   

Consumer

     1         9         —           10   
  

 

 

    

 

 

    

 

 

    

 

 

 

Outstanding balance

   $ 1,959       $ 6,702       $ 1,251       $ 9,912   
  

 

 

    

 

 

    

 

 

    

 

 

 

Carrying amount, net of allowance of $0

            $ 9,912   
           

 

 

 
     December 31
2015
Heartland
     December 31
2015
Summit
     December 31
2015

Peoples
     December 31
2015

Total
 

Commercial

   $ 1,633       $ 5,567       $ 1,061       $ 8,261   

Real estate

     693         1,216         179         2,088   

Consumer

     6         35         —           41   
  

 

 

    

 

 

    

 

 

    

 

 

 

Outstanding balance

   $ 2,332       $ 6,818       $ 1,240       $ 10,390   
  

 

 

    

 

 

    

 

 

    

 

 

 

Carrying amount, net of allowance of $63

            $ 10,327   
           

 

 

 

Accretable yield, or income expected to be collected for the three months ended March 31, is as follows:

 

     Three Months Ended March 31, 2016  
     Heartland      Summit      Peoples      Total  

Balance at January 1

   $ 795       $ 708       $ 555       $ 2,058   

Additions

     —           —           —           —     

Accretion

     (36      (55      (42      (133

Reclassification from nonaccretable difference

     —           —           —           —     

Disposals

     (10      (4      (30      (44
  

 

 

    

 

 

    

 

 

    

 

 

 

Balance at March 31

   $ 749       $ 649       $ 483       $ 1,881   
  

 

 

    

 

 

    

 

 

    

 

 

 
     Three Months Ended March 31, 2015  
     Heartland      Summit      Peoples      Total  

Balance at January 1

   $ 2,400       $ 1,268       $ —         $ 3,668   

Additions

     —           —           —           —     

Accretion

     (107      (99      —           (206

Reclassification from nonaccretable difference

     —           —           —           —     

Disposals

     (88      (49      —           (137
  

 

 

    

 

 

    

 

 

    

 

 

 

Balance at March 31

   $ 2,205       $ 1,120       $ —         $ 3,325   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

17


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

During the three months ended March 31, 2016 and 2015, the Company decreased the allowance for loan losses on purchased loans by a recovery to the income statement of $63,000 and $105,000, respectively.

Note 6 – Allowance for Loan Losses

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

 

     Three Months Ended  
     March 31  
     2016      2015  
     (Unaudited)      (Unaudited)  

Balance at beginning of the period

   $ 14,534       $ 16,501   

Loans charged-off:

     

Commercial

     

Owner occupied real estate

     147         —     

Non owner occupied real estate

     299         16   

Residential development

     —           —     

Development & Spec Land Loans

     —           —     

Commercial and industrial

     39         —     
  

 

 

    

 

 

 

Total commercial

     485         16   

Real estate

     

Residential mortgage

     115         22   

Residential construction

     —           —     

Mortgage warehouse

     —           —     
  

 

 

    

 

 

 

Total real estate

     115         22   

Consumer

     

Direct Installment

     58         59   

Direct Installment Purchased

     —           —     

Indirect Installment

     276         369   

Home Equity

     175         200   
  

 

 

    

 

 

 

Total consumer

     509         628   
  

 

 

    

 

 

 

Total loans charged-off

     1,109         666   

Recoveries of loans previously charged-off:

     

Commercial

     

Owner occupied real estate

     25         8   

Non owner occupied real estate

     23         —     

Residential development

     2         —     

Development & Spec Land Loans

     —           —     

Commercial and industrial

     32         19   
  

 

 

    

 

 

 

Total commercial

     82         27   

Real estate

     

Residential mortgage

     32         2   

Residential construction

     —           —     

Mortgage warehouse

     —           —     
  

 

 

    

 

 

 

Total real estate

     32         2   

Consumer

     

Direct Installment

     16         29   

Direct Installment Purchased

     —           —     

Indirect Installment

     94         101   

Home Equity

     55         26   
  

 

 

    

 

 

 

Total consumer

     165         156   
  

 

 

    

 

 

 

Total loan recoveries

     279         185   
  

 

 

    

 

 

 

Net loans charged-off (recovered)

     830         481   
  

 

 

    

 

 

 

Provision charged to operating expense

     

Commercial

     (332      (45

Real estate

     (592      933   

Consumer

     1,456         (274
  

 

 

    

 

 

 

Total provision charged to operating expense

     532         614   
  

 

 

    

 

 

 

Balance at the end of the period

   $ 14,236       $ 16,634   
  

 

 

    

 

 

 

 

18


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

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

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

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

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

 

March 31, 2016    Commercial      Real Estate      Mortgage
Warehousing
     Consumer      Total  

Allowance For Loan Losses

              

Ending allowance balance attributable to loans:

              

Individually evaluated for impairment

   $ 900       $ —         $ —         $ —         $ 900   

Collectively evaluated for impairment

     5,560         1,794         1,014         4,968         13,336   

Loans acquired with deteriorated credit quality

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 6,460       $ 1,794       $ 1,014       $ 4,968       $ 14,236   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

              

Individually evaluated for impairment

   $ 5,788       $ —         $ —         $ —         $ 5,788   

Collectively evaluated for impairment

     794,072         444,123         120,356         360,721         1,719,272   

Loans acquired with deteriorated credit quality

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $ 799,860       $ 444,123       $ 120,356       $ 360,721       $ 1,725,060   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
December 31, 2015    Commercial      Real Estate      Mortgage
Warehousing
     Consumer      Total  

Allowance For Loan Losses

              

Ending allowance balance attributable to loans:

              

Individually evaluated for impairment

   $ 202       $ —         $ —         $ —         $ 202   

Collectively evaluated for impairment

     6,739         2,476         1,007         3,856         14,078   

Loans acquired with deteriorated credit quality

     254         —           —           —           254   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 7,195       $ 2,476       $ 1,007       $ 3,856       $ 14,534   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

              

Individually evaluated for impairment

   $ 7,019       $ —         $ —         $ —         $ 7,019   

Collectively evaluated for impairment

     798,454         438,454         145,172         363,419         1,745,499   

Loans acquired with deteriorated credit quality

     1,729         —           —           —           1,729   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $ 807,202       $ 438,454       $ 145,172       $ 363,419       $ 1,754,247   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

19


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 7 – Non-performing Loans and Impaired Loans

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

 

March 31, 2016    Non-accrual      Loans Past
Due Over 90
Days Still
Accruing
     Non-
Performing
TDRs
     Performing
TDRs
     Total Non-
Performing
Loans
 

Commercial

              

Owner occupied real estate

   $ 1,089       $ —         $ —         $ —         $ 1,089   

Non owner occupied real estate

     2,934         —           1,615         60         4,609   

Residential development

     —           —           —           —           —     

Development & Spec Land Loans

     —           —           —           —           —     

Commercial and industrial

     76         —           —           —           76   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     4,099         —           1,615         60         5,774   

Real estate

              

Residential mortgage

     3,950         1         815         962         5,728   

Residential construction

     —           —           246         —           246   

Mortgage warehouse

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     3,950         1         1,061         962         5,974   

Consumer

              

Direct Installment

     496         —           —           —           496   

Direct Installment Purchased

     —           —           —           —           —     

Indirect Installment

     739         —           —           —           739   

Home Equity

     1,611         —           181         209         2,001   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Consumer

     2,846         —           181         209         3,236   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 10,895       $ 1       $ 2,857       $ 1,231       $ 14,984   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
December 31, 2015    Non-accrual      Loans Past
Due Over 90
Days Still
Accruing
     Non-
Performing
TDRs
     Performing
TDRs
     Total Non-
Performing
Loans
 

Commercial

              

Owner occupied real estate

   $ 1,749       $ —         $ —         $ —         $ 1,749   

Non owner occupied real estate

     3,034         —           1,915         60         5,009   

Residential development

     —           —           —           —           —     

Development & Spec Land Loans

     71         —           —           —           71   

Commercial and industrial

     176         —           —           —           176   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     5,030         —           1,915         60         7,005   

Real estate

              

Residential mortgage

     4,354         1         824         808         5,987   

Residential construction

     —           —           250         —           250   

Mortgage warehouse

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     4,354         1         1,074         808         6,237   

Consumer

              

Direct Installment

     541         —           —           —           541   

Direct Installment Purchased

     —           —           —           —           —     

Indirect Installment

     601         27         —           —           628   

Home Equity

     1,736         —           183         350         2,269   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Consumer

     2,878         27         183         350         3,438   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 12,262       $ 28       $ 3,172       $ 1,218       $ 16,680   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

20


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Included in the $10.9 million of non-accrual loans and the $2.9 million of non-performing TDRs at March 31, 2016 were $2.4 million and $95,000, respectively, of loans acquired for which accretable yield was recognized.

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

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

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

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

The Company’s TDRs are considered impaired loans and included in the allowance methodology using the guidance for impaired loans. At March 31, 2016, the type of concessions the Company has made on restructured loans has been temporary rate reductions and/or reductions in monthly payments and there have been no restructured loans with modified recorded balances. Any modification to a loan that is a concession and is not in the normal course of lending is considered a restructured loan. A restructured loan is returned to accruing status after three consecutive payments but is still reported as TDR unless the loan bears interest at a market rate. As of March 31, 2016, the Company had $4.1 million in TDRs and $1.2 million were performing according to the restructured terms and zero TDRs were returned to accrual status during the first three months of 2016. There was $140,000 of specific reserves allocated to TDRs at March 31, 2016 based on the discounted cash flows or when appropriate the fair value of the collateral.

 

21


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

 

                          Three Months Ending  
March 31, 2016    Unpaid
Principal
Balance
     Recorded
Investment
     Allowance For
Loan Loss
Allocated
     Average
Balance in
Impaired
Loans
     Cash/Accrual
Interest
Income
Recognized
 

With no recorded allowance

              

Commercial

              

Owner occupied real estate

   $ 1,089       $ 1,089       $ —         $ 1,106       $ —     

Non owner occupied real estate

     1,851         1,856         —           2,063         1   

Residential development

     —           —           —           —           —     

Development & Spec Land Loans

     —           —           —           —           —     

Commercial and industrial

     76         76         —           330         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     3,016         3,021         —           3,499         1   

With an allowance recorded

              

Commercial

              

Owner occupied real estate

     —           —           —           —           —     

Non owner occupied real estate

     2,757         2,767         900         2,767         —     

Residential development

     —           —           —           —           —     

Development & Spec Land Loans

     —           —           —           —           —     

Commercial and industrial

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     2,757         2,767         900         2,767         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 5,773       $ 5,788       $ 900       $ 6,266       $ 1   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
                          Three Months Ending  
March 31, 2015    Unpaid
Principal
Balance
     Recorded
Investment
     Allowance For
Loan Loss
Allocated
     Average
Balance in
Impaired
Loans
     Cash/Accrual
Interest
Income
Recognized
 

With no recorded allowance

              

Commercial

              

Owner occupied real estate

   $ 1,076       $ 1,077       $ —         $ 1,329       $ 2   

Non owner occupied real estate

     3,907         3,912         —           4,534         6   

Residential development

     —           —           —           —           —     

Development & Spec Land Loans

     —           —           —           —           —     

Commercial and industrial

     609         609         —           649         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     5,592         5,598         —           6,512         8   

With an allowance recorded

              

Commercial

              

Owner occupied real estate

     417         417         165         419         —     

Non owner occupied real estate

     1,590         1,590         184         1,590         —     

Residential development

     —           —           —           —           —     

Development & Spec Land Loans

     —           —           —           —           —     

Commercial and industrial

     942         942         680         949         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total commercial

     2,949         2,949         1,029         2,958         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 8,541       $ 8,547       $ 1,029       $ 9,470       $ 8   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

22


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

 

March 31, 2016    30 - 59 Days
Past Due
    60 - 89 Days
Past Due
    Greater than 90
Days Past Due
    Total Past Due     Loans Not Past
Due
    Total  

Commercial

            

Owner occupied real estate

   $ 161      $ 158      $ —        $ 319      $ 264,580      $ 264,899   

Non owner occupied real estate

     —          —          —          —          324,824        324,824   

Residential development

     —          —          —          —          7,011        7,011   

Development & Spec Land Loans

     —          —          —          —          19,961        19,961   

Commercial and industrial

     —          20        —          20        178,986        179,006   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     161        178        —          339        795,362        795,701   

Real estate

            

Residential mortgage

     498        —          1        499        420,923        421,422   

Residential construction

     —          —          —          —          19,020        19,020   

Mortgage warehouse

     —          —          —          —          119,876        119,876   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     498        —          1        499        559,819        560,318   

Consumer

            

Direct Installment

     51        9        —          60        56,707        56,767   

Direct Installment Purchased

     —          —          —          —          140        140   

Indirect Installment

     412        150        —          562        147,012        147,574   

Home Equity

     672        17        —          689        155,471        156,160   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total consumer

     1,135        176        —          1,311        359,330        360,641   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $ 1,794      $ 354      $ 1      $ 2,149      $ 1,714,511      $ 1,716,660   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     0.10     0.02     0.00     0.13     99.87  
December 31, 2015    30 - 59 Days
Past Due
    60 - 89 Days
Past Due
    Greater than 90
Days Past Due
    Total Past Due     Loans Not Past
Due
    Total  

Commercial

            

Owner occupied real estate

   $ 481      $ 18      $ —        $ 499      $ 267,782      $ 268,281   

Non owner occupied real estate

     49        —          —          49        326,350        326,399   

Residential development

     —          —          —          —          5,018        5,018   

Development & Spec Land Loans

     —          —          —          —          18,183        18,183   

Commercial and industrial

     32        —          —          32        184,879        184,911   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     562        18        —          580        802,212        802,792   

Real estate

            

Residential mortgage

     1,121        344        1        1,466        413,458        414,924   

Residential construction

     —          —          —          —          19,751        19,751   

Mortgage warehouse

     —          —          —          —          144,692        144,692   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     1,121        344        1        1,466        577,901        579,367   

Consumer

            

Direct Installment

     106        10        —          116        54,225        54,341   

Direct Installment Purchased

     —          —          —          —          153        153   

Indirect Installment

     1,186        268        27        1,481        150,042        151,523   

Home Equity

     1,193        203        —          1,396        155,768        157,164   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total consumer

     2,485        481        27        2,993        360,188        363,181   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $ 4,168      $ 843      $ 28      $ 5,039      $ 1,740,301      $ 1,745,340   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     0.24     0.05     0.00     0.29     99.71  

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

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

 

23


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

    For new and renewed commercial loans, the Bank’s Credit Department, which acts independently of the loan officer, assigns the credit quality grade to the loan. Loan grades for loans with an aggregate credit exposure that exceeds the authorities in the respective markets (ranging from $1,000,000 to $2,500,000) are validated by the Loan Committee, which is chaired by the Chief Credit Officer (CCO).

 

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

 

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

 

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

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

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

Risk Grade 1: Excellent (Pass)

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

Risk Grade 2: Good (Pass)

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

Risk Grade 3: Satisfactory (Pass)

Loans supported by financial statements (audited or unaudited) that indicate average or slightly below average risk and having some deficiency or vulnerability to changing economic conditions; loans with some weakness but offsetting features of other support are readily available; loans that are meeting the terms of repayment, but which may be susceptible to deterioration if adverse factors are encountered.

 

24


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Loans may be graded Satisfactory when there is no recent information on which to base a current risk evaluation and the following conditions apply:

 

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

 

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

 

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

 

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

Risk Grade 4 Satisfactory/Monitored:

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

Risk Grade 4W Management Watch:

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

Risk Grade 5: Special Mention

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

Risk Grade 6: Substandard

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

 

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

 

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

 

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

 

25


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

Risk Grade 7: Doubtful

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

 

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

 

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

 

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

Risk Grade 8: Loss

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

 

26


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

The following table presents loans by credit grades.

 

March 31, 2016    Pass     Special
Mention
    Substandard     Doubtful     Total  

Commercial

  

       

Owner occupied real estate

   $ 253,513      $ 6,118      $ 5,268      $ —        $ 264,899   

Non owner occupied real estate

     317,121        2,709        4,994        —          324,824   

Residential development

     7,011        —          —          —          7,011   

Development & Spec Land Loans

     19,961        —          —          —          19,961   

Commercial and industrial

     172,960        1,997        4,049        —          179,006   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     770,566        10,824        14,311        —          795,701   

Real estate

          

Residential mortgage

     415,694        —          5,728        —          421,422   

Residential construction

     18,774        —          246        —          19,020   

Mortgage warehouse

     119,876        —          —          —          119,876   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     554,344        —          5,974        —          560,318   

Consumer

          

Direct Installment

     56,271        —          496        —          56,767   

Direct Installment Purchased

     140        —          —          —          140   

Indirect Installment

     146,835        —          739        —          147,574   

Home Equity

     154,159        —          2,001        —          156,160   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Consumer

     357,405        —          3,236        —          360,641   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $ 1,682,315      $ 10,824      $ 23,521      $ —        $ 1,716,660   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     98.00     0.63     1.37     0.00  

 

December 31, 2015    Pass     Special
Mention
    Substandard     Doubtful     Total  

Commercial

  

       

Owner occupied real estate

   $ 257,181      $ 4,954      $ 6,146      $ —        $ 268,281   

Non owner occupied real estate

     320,216        585        5,598        —          326,399   

Residential development

     5,018        —          —          —          5,018   

Development & Spec Land Loans

     18,112        —          71        —          18,183   

Commercial and industrial

     180,581        693        3,637        —          184,911   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total commercial

     781,108        6,232        15,452        —          802,792   

Real estate

          

Residential mortgage

     408,937        —          5,987        —          414,924   

Residential construction

     19,501        —          250        —          19,751   

Mortgage warehouse

     144,692        —          —          —          144,692   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     573,130        —          6,237        —          579,367   

Consumer

          

Direct Installment

     53,800        —          541        —          54,341   

Direct Installment Purchased

     153        —          —          —          153   

Indirect Installment

     150,895        —          628        —          151,523   

Home Equity

     154,895        —          2,269        —          157,164   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Consumer

     359,743        —          3,438        —          363,181   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

   $ 1,713,981      $ 6,232      $ 25,127      $ —        $ 1,745,340   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Percentage of total loans

     98.20     0.36     1.44     0.00  

 

27


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 8 – Repurchase Agreements

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

The following table shows repurchase agreements accounted for as secured borrowings (in thousands):

 

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

Repurchase Agreements and repurchase-to-maturity transactions

                 

Repurchase Agreements

   $ 55,768      $ —         $ 85,000       $ 10,000       $ —        $ —        $ 150,768   

Securities lending transactions

                 

U.S. Treasury and federal agencies

   $ 4,024      $ —         $ —         $ —         $ —        $ —        $ 4,024   

Federal agency collateralized mortgage obligations

   $ 47,004        —           467         192         22,365        32,006        102,034   

Federal agency mortgage-backed pools

   $ 13,650        —           140         1,490         20,277        29,403        64,960   
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total

     64,678        —           607         1,682         42,642        61,409        171,018   
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total borrowings

   $ (8,910   $ —         $ 84,393       $ 8,318       $ (42,642   $ (61,409   $ (20,250
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Note 9 – Derivative Financial Instruments

Cash Flow Hedges

As a strategy to maintain acceptable levels of exposure to the risk of changes in future cash flow due to interest rate fluctuations, the Company entered into interest rate swap agreements for a portion of its floating rate debt. The agreements provide for the Company to receive interest from the counterparty at three month LIBOR and to pay interest to the counterparty at a weighted average fixed rate of 6.14% on a notional amount of $30.5 million at March 31, 2016 and December 31, 2015. Under the agreements, the Company pays or receives the net interest amount monthly, with the monthly settlements included in interest expense.

Management has designated the interest rate swap agreement as a cash flow hedging instrument. For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings. At March 31, 2016, the Company’s cash flow hedge was effective and is not expected to have a significant impact on the Company’s net income over the next 12 months.

Fair Value Hedges

Fair value hedges are intended to reduce the interest rate risk associated with the underlying hedged item. The Company enters into fixed rate loan agreements as part of its lending policy. To mitigate the risk of changes in fair value based on fluctuations in interest rates, the Company has entered into interest rate swap agreements on individual loans, converting the fixed rate loans to a variable rate. For derivative instruments that are designated and qualify as a fair value hedge, the gain or loss on the derivative as well as the offsetting gain or loss on the hedged item attributable to the hedged risk are recognized in current earnings. At March 31, 2016, the Company’s fair value hedges were effective and are not expected to have a significant impact on the Company’s net income over the next 12 months.

 

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Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

The change in fair value of both the hedge instruments and the underlying loan agreements are recorded as gains or losses in interest income. The fair value hedges are considered to be highly effective and any hedge ineffectiveness was deemed not material. The notional amounts of the loan agreements being hedged were $115.1 million at March 31, 2016 and $117.3 million at December 31, 2015.

Other Derivative Instruments

The Company enters into non-hedging derivatives in the form of mortgage loan forward sale commitments with investors and commitments to originate mortgage loans as part of its mortgage banking business. At March 31, 2016, the Company’s fair value of these derivatives were recorded and over the next 12 months are not expected to have a significant impact on the Company’s net income.

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

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

 

     Asset Derivatives      Liability Derivatives  
     March 31, 2016      March 31, 2016  
Derivatives designated as hedging instruments (Unaudited)    Balance
Sheet
Location
   Fair
Value
     Balance Sheet
Location
   Fair
Value
 

Interest rate contracts

   Loans    $ —         Other liabilities    $ 4,283   

Interest rate contracts

   Other Assets      4,283       Other liabilities      3,702   
     

 

 

       

 

 

 

Total derivatives designated as hedging instruments

        4,283            7,985   
     

 

 

       

 

 

 

Derivatives not designated as hedging instruments

           

Mortgage loan contracts

   Other assets      644       Other liabilities      —     
     

 

 

       

 

 

 

Total derivatives not designated as hedging instruments

        644            —     
     

 

 

       

 

 

 

Total derivatives

      $ 4,927          $ 7,985   
     

 

 

       

 

 

 

 

     Asset Derivatives      Liability Derivatives  
     December 31, 2015      December 31, 2015  
Derivatives designated as hedging instruments (Unaudited)    Balance
Sheet
Location
   Fair
Value
     Balance Sheet
Location
   Fair
Value
 

Interest rate contracts

   Loans    $ —         Other liabilities    $ 1,782   

Interest rate contracts

   Other Assets      1,782       Other liabilities      3,141   
     

 

 

       

 

 

 

Total derivatives designated as hedging instruments

        1,782            4,923   
     

 

 

       

 

 

 

Derivatives not designated as hedging instruments

           

Mortgage loan contracts

   Other assets      642       Other liabilities      —     
     

 

 

       

 

 

 

Total derivatives not designated as hedging instruments

        642            —     
     

 

 

       

 

 

 

Total derivatives

      $ 2,424          $ 4,923   
     

 

 

       

 

 

 

 

29


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

The effect of the derivative instruments on the condensed consolidated statement of income for the three-month periods ending March 31 is as follows:

 

    

Comprehensive Income on Derivative

(Effective Portion)

 
     Three Months Ended March 31  
Derivative in cash flow    2016      2015  

hedging relationship

   (Unaudited)      (Unaudited)  

Interest rate contracts

   $ (365    $ (214

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

 

          Amount of Gain (Loss) Recognized on Derivative  
          Three Months Ended March 31  
Derivative in fair value    Location of gain (loss)    2016     2015  

hedging relationship

  

recognized on derivative

   (Unaudited)     (Unaudited)  

Interest rate contracts

   Interest income - loans    $ 1,478      $ 719   

Interest rate contracts

   Interest income - loans      (1,478     (719
     

 

 

   

 

 

 

Total

      $ —        $ —     
     

 

 

   

 

 

 

 

          Amount of Gain (Loss) Recognized on Derivative  
          Three Months Ended March 31  
Derivative not designated as    Location of gain (loss)    2016      2015  

hedging relationship

  

recognized on derivative

   (Unaudited)      (Unaudited)  

Mortgage contracts

   Other income - gain on sale of loans    $ 2       $ 189   

Note 10 – Disclosures about Fair Value of Assets and Liabilities

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

 

Level 1    Quoted prices in active markets for identical assets or liabilities
Level 2    Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities
Level 3    Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

Following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis and recognized in the accompanying condensed consolidated financial statements, as well as the general classification of such instruments pursuant to the valuation hierarchy. There have been no significant changes in the valuation techniques during the period ended March 31, 2016. For assets classified within Level 3 of the fair value hierarchy, the process used to develop the reported fair value is described below.

 

30


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Available for sale securities

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

Hedged loans

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

Interest rate swap agreements

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

 

31


Table of Contents

HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

 

     Fair Value     

Quoted Prices in

Active Markets
for Identical
Assets

     Significant
Other
Observable
Inputs
     Significant
Unobservable
Inputs
 
      (Level 1)      (Level 2)      (Level 3)  

March 31, 2016

           

Available-for-sale securities

           

U.S. Treasury and federal agencies

   $ 15,470       $ —         $ 15,470       $ —     

State and municipal

     71,042         —           71,042         —     

Federal agency collateralized mortgage obligations

     157,313         —           157,313         —     

Federal agency mortgage-backed pools

     218,576         —           218,576         —     

Corporate notes

     75         —           75         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale securities

     462,476         —           462,476         —     

Hedged loans

     110,837         —           110,837         —     

Forward sale commitments

     644         —           644         —     

Interest rate swap agreements

     (7,985      —           (7,985      —     

Commitments to originate loans

     —           —           —           —     

December 31, 2015

           

Available-for-sale securities

           

U.S. Treasury and federal agencies

   $ 5,926       $ —         $ 5,926       $ —     

State and municipal

     75,095         —           75,095         —     

Federal agency collateralized mortgage obligations

     156,203         —           156,203         —     

Federal agency mortgage-backed pools

     207,704         —           207,704         —     

Corporate notes

     54         —           54         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale securities

     444,982         —           444,982         —     

Hedged loans

     115,472         —           115,472         —     

Forward sale commitments

     642         —           642         —     

Interest rate swap agreements

     (4,923      —           (4,923      —     

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

 

     Three Months Ended March 31  
Non Interest Income    2016      2015  
Total gains and losses from:    (Unaudited)      (Unaudited)  

Hedged loans

   $ 1,478       $ 719   

Fair value interest rate swap agreements

     (1,478      (719

Derivative loan commitments

     2         189   
  

 

 

    

 

 

 
   $ 2       $ 189   
  

 

 

    

 

 

 

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

 

           

Quoted Prices in

Active Markets

for Identical

Assets

     Significant
Other
Observable
Inputs
     Significant
Unobservable
Inputs
 
   Fair Value      (Level 1)      (Level 2)      (Level 3)  

March 31, 2016

           

Impaired loans

   $ 4,873       $ —         $ —         $ 4,873   

Mortgage servicing rights

     9,093         —           —           9,093   

December 31, 2015

           

Impaired loans

   $ 6,803       $ —         $ —         $ 6,803   

Mortgage servicing rights

     8,874         —           —           8,874   

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

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

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

Mortgage Servicing Rights (MSRs): MSRs do not trade in an active market with readily observable prices. Accordingly, the fair value of these assets is classified as Level 3. The Company determines the fair value of MSRs using an income approach model based upon the Company’s month-end interest rate curve and prepayment assumptions. The model utilizes assumptions to estimate future net servicing income cash flows, including estimates of time decay, payoffs and changes in valuation inputs and assumptions. The Company reviews the valuation assumptions against this market data for reasonableness and adjusts the assumptions if deemed appropriate. The carrying amount of the MSRs’ fair value due to impairment decreased by $1,000 during the first three months of 2016 and decreased by $76,000 during the first three months of 2015.

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

 

     Fair Value at
March 31, 2016
    

Valuation

Technique

  

Unobservable Inputs

  

Range (Weighted
Average)

Impaired loans

   $ 4,873       Collateral based measurement    Discount to reflect current market conditions and ultimate collectability    10% - 15% (12%)

Mortgage servicing rights

   $ 9,093       Discounted cashflows    Discount rate, Constant prepayment rate, Probability of default   

10% - 15% (12%),

4% -  7% (4.6%),

1% - 10% (4.5%)

     Fair Value at
December 31, 2015
    

Valuation

Technique

  

Unobservable Inputs

  

Range (Weighted
Average)

Impaired loans

   $ 6,803       Collateral based measurement    Discount to reflect current market conditions and ultimate collectability    10% - 15% (12%)

Mortgage servicing rights

   $ 8,874       Discounted cashflows    Discount rate, Constant prepayment rate, Probability of default    10% - 15% (12%),
4% - 7% (4.6%),
1% - 10% (4.5%)

Note 11 – Fair Value of Financial Instruments

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

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

The estimated fair values of financial instruments, as shown below, are not intended to reflect the estimated liquidation or market value of Horizon taken as a whole. The disclosed fair value estimates are limited to Horizon’s significant financial instruments at March 31, 2016 and December 31, 2015. These include financial instruments recognized as assets and liabilities on the condensed consolidated balance sheet as well as certain off-balance sheet financial instruments. The estimated fair values shown below do not include any valuation of assets and liabilities, which are not financial instruments as defined by the FASB ASC fair value hierarchy.

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

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

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

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

Net Loans — The fair value of portfolio loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities. The carrying amounts of loans held for sale approximate fair value.

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

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

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

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

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

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

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

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

 

     March 31, 2016  
            Quoted Prices                
            in Active      Significant         
            Markets for      Other      Significant  
            Identical      Observable      Unobservable  
     Carrying      Assets      Inputs      Inputs  
     Amount      (Level 1)      (Level 2)      (Level 3)  

Assets

           

Cash and due from banks

   $ 47,612       $ 47,612       $ —         $ —     

Investment securities, held to maturity

     180,291         —           188,093         —     

Loans held for sale

     3,168         —           —           3,168   

Loans excluding loan level hedges, net

     1,594,999         —           —           1,584,414   

Stock in FHLB and FRB

     13,823         —           13,823         —     

Interest receivable

     10,476         —           10,476         —     

Liabilities

           

Non-interest bearing deposits

   $ 343,025       $ 343,025       $ —         $ —     

Interest-bearing deposits

     1,535,454         —           1,483,711         —     

Borrowings

     430,507         —           426,966         —     

Subordinated debentures

     32,836         —           33,003         —     

Interest payable

     580         —           580         —     
     December 31, 2015  
            Quoted Prices                
            in Active      Significant         
            Markets for      Other      Significant  
            Identical      Observable      Unobservable  
     Carrying      Assets      Inputs      Inputs  
     Amount      (Level 1)      (Level 2)      (Level 3)  

Assets

           

Cash and due from banks

   $ 48,650       $ 48,650       $ —         $ —     

Investment securities, held to maturity

     187,629         —           193,703         —     

Loans held for sale

     7,917         —           —           7,917   

Loans excluding loan level hedges, net

     1,619,125         —           —           1,703,506   

Stock in FHLB and FRB

     13,823         —           13,823         —     

Interest receivable

     10,535         —           10,535         —     

Liabilities

           

Non-interest bearing deposits

   $ 335,955       $ 335,955       $ —         $ —     

Interest-bearing deposits

     1,544,198         —           1,461,314         —     

Borrowings

     449,347         —           441,547         —     

Subordinated debentures

     32,797         —           32,996         —     

Interest payable

     507         —           507         —     

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 12 – Accumulated Other Comprehensive Income

 

     March 31      December 31  
     2016      2015  

Unrealized gain on securities available for sale

   $ 6,973       $ 920   

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

     879         1,109   

Unrealized loss on derivative instruments

     (3,702      (3,142

Tax effect

     (1,452      390   
  

 

 

    

 

 

 

Total accumulated other comprehensive income (loss)

   $ 2,698       $ (723
  

 

 

    

 

 

 

Note 13 – Regulatory Capital

Horizon and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies and are assigned to a capital category. Failure to meet the minimum regulatory capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators, which if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective actions, the Bank must meet specific capital guidelines involving quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined), or leverage ratio. For March 31, 2016, Basel III rules require the Bank to maintain minimum amounts and ratios of common equity Tier I capital (as defined in the regulation) to risk-weighted assets (as defined). Additionally, under Basel III rules, the decision was made to opt-out of including accumulated other comprehensive income in regulatory capital

To be categorized as well capitalized, the Bank must maintain minimum Total risk-based, Tier I risk-based, common equity Tier I risk-based (March 31, 2016) and Tier I leverage ratios as set forth in the table below. As of March 31, 2016 and December 31, 2015, the Bank met all capital adequacy requirements to be considered well capitalized. There have been no conditions or events since the end of the first quarter of 2016 that management believes have changed the Bank’s classification as well capitalized. There is no threshold for well-capitalized status for bank holding companies.

Horizon and the Bank’s actual and required capital ratios as of March 31, 2016 and December 31, 2015 were as follows:

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

                  Required For Capital1     Well Capitalized Under Prompt1  
     Actual     Adequacy Purposes     Corrective Action Provisions  
     Amount      Ratio     Amount      Ratio     Amount      Ratio  

As of March 31, 2016

               

Total capital1 (to risk-weighted assets)

               

Consolidated

   $ 251,434         13.57   $ 159,902         8.63     N/A         N/A   

Bank

     242,478         13.10     159,739         8.63   $ 185,098         10.00

Tier 1 capital1 (to risk-weighted assets)

               

Consolidated

     203,797         12.80     105,560         6.63     N/A         N/A   

Bank

     228,242         12.33     122,729         6.63     148,089         8.00

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

               

Consolidated

     203,797         11.00     95,044         5.13     N/A         N/A   

Bank

     228,242         12.33     94,962         5.13     120,322         6.50

Tier 1 capital1 (to average assets)

               

Consolidated

     237,198         9.32     101,802         4.00     N/A         N/A   

Bank

     228,242         8.98     101,667         4.00     127,084         5.00

As of December 31, 2015

               

Total capital1 (to risk-weighted assets)

               

Consolidated

   $ 264,452         13.99   $ 151,223         8.00     N/A         N/A   

Bank

     237,348         12.57     151,057         8.00   $ 188,821         10.00

Tier 1 capital1 (to risk-weighted assets)

               

Consolidated

     249,918         13.22     113,427         6.00     N/A         N/A   

Bank

     222,814         11.80     113,295         6.00     151,060         8.00

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

               

Consolidated

     204,350         10.81     85,067         4.50     N/A         N/A   

Bank

     222,814         11.80     84,971         4.50     122,737         6.50

Tier 1 capital1 (to average assets)

               

Consolidated

     249,918         9.82     101,800         4.00     N/A         N/A   

Bank

     222,814         8.77     101,626         4.00     127,032         5.00

 

1  As defined by regulatory agencies

Note 14 – Preferred Stock Redemption

On February 1, 2016, Horizon Bancorp (“Horizon”) completed the redemption (the “Redemption”) of all 12,500 outstanding shares of Senior Non-Cumulative Perpetual Preferred Stock, Series B (the “SBLF Preferred Stock”) which were held by the U.S. Department of Treasury and issued pursuant to its Small Business Lending Fund (“SBLF”). The SBLF Preferred Stock was redeemed at its liquidation value of $1,000 per share, plus accrued dividends, for a total Redemption price of $12,510,416.67. Horizon funded the Redemption using cash on hand without borrowing and without a special dividend from its wholly owned banking subsidiary, Horizon Bank, N.A. Following the Redemption, Horizon does not have any shares of its Senior Non-Cumulative Perpetual Preferred Stock, Series B outstanding. The Redemption terminates Horizon’s participation in the SBLF.

Note 15 – Business Combinations

On February 4, 2016, Horizon entered into an Agreement and Plan of Merger (the “Merger Agreement”) providing for Horizon’s acquisition of Kosciusko Financial, Inc., an Indiana corporation (“Kosciusko”). Pursuant to the Merger Agreement, Kosciusko would merge with and into Horizon, with Horizon surviving the merger (the “Merger”), and Farmers State Bank, a state chartered bank and wholly-owned subsidiary of Kosciusko, would merge with and into a wholly-owned subsidiary of Horizon, Horizon Bank, N.A. (“Horizon Bank”), with Horizon Bank as the surviving bank.

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

The boards of directors of each of Horizon and Kosciusko have approved the Merger and the Merger Agreement. The regulatory approvals have been received. Subject to the approval of the Merger by Kosciusko shareholders and other closing conditions, the parties anticipate completing the Merger during the second quarter of 2016.

In connection with the Merger, shareholders of Kosciusko will have the option to receive $81.75 per share in cash or 3.0122 shares of Horizon common stock for each share of Kosciusko’s common stock or a combination thereof, provided the overall shares exchanged consist of 65% stock and 35% cash. Based upon the February 3, 2016, closing price of $23.99 per share of Horizon common stock, the transaction has an implied valuation of approximately $22.5 million.

Subject to certain terms and conditions, the board of directors of Kosciusko has agreed to recommend the approval and adoption of the Merger Agreement to the Kosciusko shareholders and will solicit proxies voting in favor of the Merger from Kosciusko’s shareholders.

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

As of December 31, 2015, Kosciusko reported total assets of approximately $148.2 million, total deposits of approximately $122.8 million and total loans of approximately $106.1 million.

On March 10, 2016, Horizon entered into an Agreement and Plan of Merger (the “Merger Agreement”) providing for Horizon’s acquisition of LaPorte Bancorp, Inc. (“LaPorte Bancorp”). Pursuant to the Merger Agreement, LaPorte Bancorp would merge with and into Horizon, with Horizon surviving the merger (the “Merger”), and The LaPorte Savings Bank, a state chartered bank and wholly-owned subsidiary of LaPorte Bancorp, would merge with and into a wholly-owned subsidiary of Horizon, Horizon Bank, N.A. (“Horizon Bank”), with Horizon Bank as the surviving bank.

The boards of directors of each of Horizon and LaPorte Bancorp have approved the Merger and the Merger Agreement. Subject to the approval of the Merger by LaPorte Bancorp shareholders, regulatory approvals and other closing conditions, the parties anticipate completing the Merger during the third quarter of 2016.

In connection with the Merger, shareholders of LaPorte Bancorp will have the option to receive $17.50 per share in cash or 0.629 shares of Horizon common stock for each share of LaPorte Bancorp’s common stock or a combination thereof, provided the overall shares exchanged consist of 65% stock and 35% cash. Based upon the March 9, 2016, closing price of $24.21 per share of Horizon common stock, the transaction has an implied valuation of approximately $94.1 million.

Subject to certain terms and conditions, the board of directors of LaPorte Bancorp has agreed to recommend the approval and adoption of the Merger Agreement to the LaPorte Bancorp shareholders and will solicit proxies voting in favor of the Merger from LaPorte Bancorp’s shareholders.

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

As of December 31, 2015, LaPorte Bancorp reported total assets of approximately $543.2 million, total deposits of approximately $391.0 million and total loans of approximately $348.5 million.

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 16 – Future Accounting Matters

In June 2014, the FASB issued ASU No. 2014-12 “Compensation—Stock Compensation (Topic 718)—Accounting for Share Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period.” This ASU requires that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. ASU 2014-12 became effective for interim and annual periods beginning after December 15, 2015 and did not have a significant impact on the Company’s financial condition or results of operations.

In January 2016, the FASB issued ASU No. 2016-01 “Financial Instruments—Overall (Subtopic 825-10)—Recognition and Measurement of Financial Assets and Financial Liabilities.” This ASU is intended to improve the recognition and measurement of financial instruments by requiring equity investments to be measured at fair value with changes in fair value recognized in net income; requiring public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; requiring separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or the accompanying notes to the financial statements; eliminating the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured and amortized at cost on the balance sheet; and requiring a reporting organization to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the organization has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. ASU 2016-01 is effective for interim and annual reporting periods beginning after December 15, 2017. The amendments should be applied through a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption. The amendments related to equity securities without readily determinable fair values (including disclosure requirements) should be applied prospectively to equity investments that exist as of the date of adoption. The Company will be evaluating the impact of adopting this ASU.

In February 2016, the FASB issued ASU No. 2016-02 “Leases (Topic 842).”This ASU requires lessees and lessors to classify leases as either capital leases or operating leases. The ASU also requires lessees to recognized assets and liabilities for all leases with the exception of short term leases. There are new disclosure requirements for these leases which will provide users of financial statements with information to understand the amount, timing and uncertainty of cash flows arising from leases. ASU 2016-02 will become effective for fiscal years beginning after December 31, 2018, including interim periods within those fiscal years. Early adoption is permitted. The Company will be evaluating the impact of adopting this ASU.

In March 2016, the FASB issued ASU No. 2016-05 “Derivatives and Hedging (Topic 815).” This ASU applies to all reporting entities for which there is a change in the counterparty to a derivative instrument that has been designated as a hedging instrument under Topic 815. The ASU clarifies that a change in the counterparty to a derivative instrument that has been designated as the hedging instrument under Topic 815 does not, in and of itself, require dedesignation of that hedging relationship provided that all other hedge accounting criteria as identified in Topic 815 continue to be met. ASU 2016-05 will become effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early adoption is permitted. The Company will be evaluating the impact of adopting this ASU.

In March 2016, the FASB issued ASU No. 2016-09 “Compensation—Stock Compensation (Topic 718)—Improvements to Employee Share-Based Payment Accounting.” This ASU requires all income tax effects of awards to be recognized in teh income statement when the awards vest or are settled. It also allows an employer to repurchase more of an employee’s shares than it can today for tax withholding purposes without triggering liability accounting and to make a policy election for forfeitures as they occur. ASU 2016-09 is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early adoption is permitted. The Company will be evaluating the impact of adopting this ASU.

 

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HORIZON BANCORP AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

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

 

Note 17 – General Litigation

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

 

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HORIZON BANCORP AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three Months ended March 31, 2016

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward–Looking Statements

This report contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, with respect to Horizon Bancorp (“Horizon” or the “Company”) and Horizon Bank, N.A. (the “Bank”). Horizon intends such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Reform Act of 1995, and is including this statement for the purposes of these safe harbor provisions. Statements in this report should be considered in conjunction with the other information available about Horizon, including the information in the other filings we make with the Securities and Exchange Commission. The forward-looking statements are based on management’s expectations and are subject to a number of risks and uncertainties. We have tried, wherever possible, to identify such statements by using words such as “anticipate,” “expect,” “estimate,” “project,” “intend,” “plan,” “believe,” “could,” “will” and similar expressions in connection with any discussion of future operating or financial performance. Although management believes that the expectations reflected in such forward-looking statements are reasonable, actual results may differ materially from those expressed or implied in such statements.

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

 

    economic conditions and their impact on Horizon and its customers;

 

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

 

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

 

    loss of key Horizon personnel;

 

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

 

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

 

    volatility and disruption in financial markets;

 

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

 

    sources of liquidity;

 

    potential risk of environmental liability related to lending activities;

 

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

 

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

 

    the impact of the new Basel III capital rules;

 

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

 

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

 

    rapid technological developments and changes;

 

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HORIZON BANCORP AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three Months ended March 31, 2016

 

    the risks presented by cyber terrorism and data security breaches;

 

    containing costs and expenses;

 

    the slowing or failure of economic recovery;

 

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

 

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

The foregoing list of important factors is not exclusive, and you are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this document or, in the case of documents incorporated by reference, the dates of those documents. We do not undertake to update any forward-looking statements, whether written or oral, that may be made from time to time by or on behalf of us. For a detailed discussion of the risks and uncertainties that may cause our actual results or performance to differ materially from the results or performance expressed or implied by forward-looking statements, see “Risk Factors” in Item 1A of Part I of our 2015 Annual Report on Form 10-K and in the subsequent reports we file with the SEC.

Overview

Horizon is a registered bank holding company incorporated in Indiana and headquartered in Michigan City, Indiana. Horizon provides a broad range of banking services in Northern and Central Indiana and Southwestern and Central Michigan through its bank subsidiary. Horizon operates as a single segment, which is commercial banking. Horizon’s common stock is traded on the NASDAQ Global Select Market under the symbol HBNC. The Bank was chartered as a national banking association in 1873 and has operated continuously since that time. The Bank is a full-service commercial bank offering commercial and retail banking services, corporate and individual trust and agency services, and other services incident to banking.

On July 1, 2015, Horizon completed the acquisition of Peoples Bancorp, an Indiana corporation (“Peoples”) and Horizon Bank’s acquisition of Peoples Federal Savings Bank of DeKalb County, a federally-chartered stock savings bank and wholly owned subsidiary of Peoples, through mergers effective July 1, 2015. Under the terms of the acquisition, the exchange ratio was 0.95 shares of Horizon common stock (the “Exchange Ratio”) and $9.75 in cash for each outstanding share of Peoples common stock. Peoples shareholders owning fewer than 100 shares of common stock received $33.14 in cash for each common share. Peoples shares outstanding at the closing were 2,311,858, and the shares of Horizon common stock issued to Peoples shareholders totaled 2,192,202. Horizon’s stock price was $25.32 per share at the close of business on July 1, 2015. Based upon these numbers, the total value of the consideration for the acquisition was $78.1 million.

On April 3, 2014, Horizon completed the acquisition of SCB Bancorp, Inc., a Michigan corporation (“Summit”) and Horizon Bank’s acquisition of Summit Community Bank, a Michigan-chartered commercial bank and wholly owned subsidiary of Summit, through mergers effective April 3, 2014. Under the terms of the acquisition, the exchange ratio was 0.4904 shares of Horizon common stock and $5.15 in cash for each outstanding share of Summit common stock. Summit shares outstanding at the closing were 1,164,442, and the shares of Horizon’s common stock issued to Summit shareholders totaled 570,820. Horizon’s stock price was $22.23 per share at the close of business on April 3, 2014. Based upon these numbers, the total value of the consideration for the acquisition was $18.9 million (not including the retirement of Summit debt).

Following are some highlights of Horizon’s financial performance through the first quarter of 2016:

 

    Net income for the first quarter of 2016 was $5.4 million or $.44 diluted earnings per share compared to $5.4 million or $.55 diluted earnings per share in the same period of 2015.

 

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HORIZON BANCORP AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three Months ended March 31, 2016

 

    Excluding merger expenses, gain on sale of investment securities, the death benefit on bank owned life insurance and acquisition-related purchase accounting adjustments, net income for the first quarter of 2016 increase to $5.4 million or an increase of 18.7% compared to the same period of 2015.

 

    Net interest income for the first quarter of 2016 increased $2.9 million or 17.1% compared to the same period in 2015.

 

    Non-interest income for the first quarter of 2016 increased $798,000 or 11.3% compared to the same period in 2015.

 

    Net interest margin, excluding the impact of acquisitions (“core net interest margin”), was 3.36% for the first quarter of 2016 compared to 3.38% in the prior quarter and 3.47% for the same period in 2015.

 

    Non-performing loans to total loans was .87% as of March 31, 2016 compared to .95% as of December 31, 2015 and 1.52% as of March 31, 2015.

 

    Horizon’s tangible book value per share rose to $17.08 at March 31, 2016, compared to $16.53 at December 31, 2015 and $16.80 at March 31, 2015.

 

    On February 5, 2016, Horizon announced the pending acquisition of Kosciusko Financial, Inc. (“Kosciusko”) and its wholly-owned subsidiary, Farmers State Bank, headquartered in Mentone, Indiana.

 

    On March 10, 2016, Horizon announced the pending acquisition of LaPorte Bancorp, Inc. (“LaPorte Bancorp”) and its wholly-owned subsidiary, The LaPorte Savings Bank, headquartered in La Porte, Indiana.

 

    Horizon paid off the $12.5 million in funds received through the Small Business Lending Fund with cash from the holding company on February 1, 2016.

 

    Horizon Bank’s capital ratios, including Tier 1 Capital to Average Assets of 9.03% and Total Capital to Risk Weighted Assets of 13.31% as of March 31, 2016, continue to be well above the regulatory standards for well-capitalized banks.

Critical Accounting Policies

The notes to the consolidated financial statements included in Item 8 of the Company’s Annual Report on Form 10-K for 2015 contain a summary of the Company’s significant accounting policies. Certain of these policies are important to the portrayal of the Company’s financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Management has identified as critical accounting policies the allowance for loan losses, intangible assets, mortgage servicing rights, hedge accounting and valuation measurements.

Allowance for Loan Losses

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

 

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HORIZON BANCORP AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three Months ended March 31, 2016

 

Goodwill and Intangible Assets

Management believes that the accounting for goodwill and other intangible assets also involves a higher degree of judgment than most other significant accounting policies. FASB ASC 350-10 establishes standards for the amortization of acquired intangible assets and impairment assessment of goodwill. At March 31, 2016, Horizon had core deposit intangibles of $7.1 million subject to amortization and $49.6 million of goodwill, which is not subject to amortization. Goodwill arising from business combinations represents the value attributable to unidentifiable intangible assets in the business acquired. Horizon’s goodwill relates to the value inherent in the banking industry and that value is dependent upon the ability of Horizon to provide quality, cost effective banking services in a competitive marketplace. The goodwill value is supported by revenue that is in part driven by the volume of business transacted. A decrease in earnings resulting from a decline in the customer base or the inability to deliver cost effective services over sustained periods can lead to impairment of goodwill that could adversely affect earnings in future periods. FASB ASC 350-10 requires an annual evaluation of goodwill for impairment. The evaluation of goodwill for impairment requires the use of estimates and assumptions. Market price at the close of business on March 31, 2016 was $24.72 per share compared to a book value of $21.82 per common share.

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

Mortgage Servicing Rights

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

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

 

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HORIZON BANCORP AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three Months ended March 31, 2016

 

Derivative Instruments

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

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

Valuation Measurements

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

 

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HORIZON BANCORP AND SUBSIDIARIES

Management’s Discussion and Analysis of Financial Condition

And Results of Operations

For the Three Months ended March 31, 2016

 

Financial Condition

On March 31, 2016, Horizon’s total assets were $2.6 billion, a decrease of approximately $24.5 million compared to December 31, 2015. The decrease was primarily in net loans of $28.8 million offset partially by an increase in investment securities of $10.2 million.

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

 

     March 31, 2016      December 31, 2015  
     Amortized      Fair      Amortized      Fair  
     Cost      Value      Cost      Value  

Available for sale

           

U.S. Treasury and federal agencies

   $ 15,412       $ 15,470       $ 5,940       $ 5,926   

State and municipal

     69,204         71,042         73,829         75,095   

Federal agency collateralized mortgage obligations

     155,687         157,313         157,291         156,203   

Federal agency mortgage-backed pools

     215,167         218,576         206,970         207,704   

Corporate notes

     32         75         32         54   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale investment securities

   $ 455,502       $ 462,476       $ 444,062       $ 444,982   
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

           

U.S. Treasury and federal agencies

   $ —         $ —         $ 5,859       $ 5,952   

State and municipal

     145,520         152,085         146,331         151,453   

Federal agency collateralized mortgage obligations

     8,731         8,867         9,051         8,954