EDGAR 10-K Filing

Company CIK: 1132651
Filing Year: 2021
Filename: 1132651_10-K_2021_0001437749-21-005905.json

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ITEM 1. BUSINESS
ITEM 1. BUSINESS
General
Ames National Corporation (the "Company") is an Iowa corporation and bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company owns 100% of the stock of six bank subsidiaries consisting of two national banks and four state-chartered banks, as described below. All of the Company’s operations are conducted in the State of Iowa and primarily within the central, north-central and south-central Iowa counties of Boone, Clarke, Hancock, Marshall, Polk, Story and Union where the Company’s banking subsidiaries are located. The Company does not engage in any material business activities apart from its ownership of its banking subsidiaries and the management of its own investment and loan portfolios. The principal executive offices of the Company are located at 405 5th Street, Ames, Iowa 50010. The Company’s telephone number is (515) 232-6251 and website address is www.amesnational.com.
The Company was organized and incorporated on January 21, 1975 under the laws of the State of Iowa to serve as a holding company for its principal banking subsidiary, First National Bank, Ames, Iowa ("First National") located in Ames, Iowa. In 1983, the Company acquired the stock of State Bank & Trust Co. ("State Bank") located in Nevada, Iowa; in 1991, the Company, through a newly-chartered state bank known as Boone Bank & Trust Co. ("Boone Bank"), acquired certain assets and assumed certain liabilities of the former Boone State Bank & Trust Company located in Boone, Iowa; in 1995, the Company acquired the stock of Reliance State Bank, (”Reliance Bank”) located in Story City, Iowa; in 2002, the Company chartered and commenced operations of a new national banking organization, United Bank & Trust NA (“United Bank”), located in Marshalltown, Iowa; and in 2019, the Company acquired the stock of Iowa State Savings Bank (“Iowa State Bank”) located in Creston, Iowa. First National, State Bank, Boone Bank, Reliance Bank, United Bank and Iowa State Bank are each operated as a wholly-owned subsidiary of the Company. These six financial institutions are referred to in this Form 10-K collectively as the “Banks” and individually as a “Bank”.
The principal sources of Company revenue are: (i) interest and fees earned on loans made or held by the Company and Banks; (ii) interest on investments, primarily on bonds, held by the Banks; (iii) fees on wealth management services; (iv) service charges on deposit accounts maintained at the Banks; (v) merchant and card fees; (vi) gain on the sale of loans; and (vii) securities gains. The Company’s principal expenses are: (i) interest expense on deposit accounts and other borrowings; (ii) salaries and employee benefits; (iii) data processing costs primarily associated with maintaining the Banks’ loan and deposit functions; (iv) occupancy expenses for maintaining the Banks’ facilities; (v) professional fees; and (vi) business development. The largest component contributing to the Company’s net income is net interest income, which is the difference between interest earned on earning assets (primarily loans and investments) and interest paid on interest-bearing liabilities (primarily deposit accounts and other borrowings). One of management’s principal functions is to manage the spread between interest earned on earning assets and interest paid on interest-bearing liabilities in an effort to maximize net interest income while maintaining an appropriate level of interest rate risk.
The Banks’ lending activities consist primarily of short-term and medium-term commercial and agricultural real estate loans, residential real estate loans, agricultural and business operating loans and lines of credit, equipment loans, vehicle loans, personal loans and lines of credit, home improvement loans and origination of mortgage loans for sale into the secondary market. The Banks also offer a variety of checking, savings and time deposits, cash management services, merchant credit card processing, safe deposit boxes, wire transfers, direct deposit of payroll and social security checks and automated/video teller machine access. Five of the six Banks also offer trust services, which includes wealth management services.
The Company provides various services to the Banks which include, but are not limited to, management assistance, internal auditing services, human resources services and administration, compliance management, marketing assistance and coordination, loan review, support with respect to computer systems and related procedures, financial reporting, property appraisals, training and the coordination of management activities.
Banking Subsidiaries
First National Bank, Ames, Iowa. First National is a nationally-chartered, commercial bank insured by the FDIC. It was organized in 1903 and became a wholly owned subsidiary of the Company in 1975 through a bank holding company reorganization whereby the then shareholders of First National exchanged all of their First National stock for stock in the Company. In 2014, First National completed the purchase of a bank with offices in West Des Moines and Johnston, Iowa. In 2018, First National completed the purchase of a bank with offices located in Osceola, Iowa (the “Clarke County Acquisition”). First National provides full-service banking to businesses and residents within the Ames community through its three Ames offices; the Greater Des Moines area through its four offices located in Ankeny, Johnston, and West Des Moines; and South Central Iowa through its two offices in Osceola. It provides a variety of products and services designed to meet the needs of the markets it serves. It has an experienced staff of bank officers including many who have spent the majority of their banking careers with First National and who emphasize long-term customer relationships.
As of December 31, 2020, First National had capital of $101,017,000 and 132 full-time equivalent employees. Full-time equivalents represent the number of people a business would employ if all its employees were employed on a full-time basis. It is calculated by dividing the total number of hours worked by all full and part-time employees by the number of hours a full-time individual would work for a given period of time. First National had net income for the years ended December 31, 2020 and 2019 of approximately $9,758,000 and $10,280,000, respectively. Total assets as of December 31, 2020 and 2019 were approximately $1,031,155,000 and $913,271,000, respectively.
State Bank & Trust Co., Nevada, Iowa. State Bank is an Iowa, state-chartered, FDIC insured commercial bank. State Bank was acquired by the Company in 1983 through a stock transaction whereby the then shareholders of State Bank exchanged all their State Bank stock for stock in the Company. State Bank was organized in 1939 and provides full-service banking to businesses and residents within the Nevada area from its Nevada location. It has a strong presence in agricultural, commercial and residential real estate lending.
As of December 31, 2020, State Bank had capital of $17,626,000 and 22 full-time equivalent employees. State Bank had net income for the years ended December 31, 2020 and 2019 of approximately $2,571,000 and $2,069,000, respectively. Total assets as of December 31, 2020 and 2019 were approximately $196,758,000 and $159,246,000, respectively.
Boone Bank & Trust Co., Boone, Iowa. Boone Bank is an Iowa, state-chartered, FDIC insured commercial bank. Boone Bank was organized in 1992 by the Company under a new state charter in connection with a purchase and assumption transaction whereby Boone Bank purchased certain assets and assumed certain liabilities of the former Boone State Bank & Trust Company in exchange for a cash payment. It provides full-service banking to businesses and residents within the Boone community and surrounding area. It is actively engaged in agricultural, consumer and commercial lending, including real estate, operating and equipment loans. It conducts business from its main office and a full-service office, both located in Boone.
As of December 31, 2020, Boone Bank had capital of $15,900,000 and 20 full-time equivalent employees. Boone Bank had net income for the years ended December 31, 2020 and 2019 of approximately $1,643,000 and $1,502,000, respectively. Total assets as of December 31, 2020 and 2019 were approximately $149,990,000 and $134,688,000, respectively.
Reliance State Bank, Story City, Iowa. Reliance Bank is an Iowa, state-chartered, FDIC insured commercial bank. Reliance Bank was organized in 1928. Reliance Bank was acquired by the Company in 1995 through a stock transaction whereby the then shareholders of Reliance Bank exchanged all their Reliance Bank stock for stock in the Company. In 2012, Reliance Bank completed the purchase of a bank office of Liberty Bank, F.S.B. located in Garner, Iowa. Reliance Bank provides full banking services to businesses and residents within the Story City and Garner communities and surrounding areas. While its primary emphasis is in agricultural lending, Reliance Bank also provides the traditional lending services typically offered by community banks. It conducts business from its main office located in Story City and a full-service office located in Garner.
As of December 31, 2020, Reliance Bank had capital of $29,789,000 and 33 full-time equivalent employees. Reliance Bank had net income for the years ended December 31, 2020 and 2019 of approximately $2,578,000 and $2,750,000, respectively. Total assets as of December 31, 2020 and 2019 were approximately $259,077,000 and $229,907,000, respectively.
United Bank & Trust NA, Marshalltown, Iowa. United Bank is a nationally-chartered, commercial bank insured by the FDIC. It was chartered in 2002 and offers a broad range of deposit and loan products, as well as wealth management services to customers located in the Marshalltown and surrounding Marshall County area. It conducts business from its main office and a full-service office, both located in Marshalltown.
As of December 31, 2020, United Bank had capital of $11,357,000 and 21 full-time equivalent employees. United Bank had net income for the years ended December 31, 2020 and 2019 of approximately $1,184,000 and $930,000, respectively. Total assets as of December 31, 2020 and 2019 were approximately $117,513,000 and $100,443,000, respectively.
Iowa State Savings Bank, Creston, Iowa. Iowa State Bank is an Iowa, state-chartered, FDIC insured commercial bank. Iowa State Bank was organized in 1883. Iowa State Bank was acquired by the Company in 2019 through a stock transaction for cash (“Iowa State Bank Acquisition”). Iowa State Bank provides full banking services to businesses and residents within Creston, Iowa and the surrounding areas. While its primary emphasis is in agricultural lending, Iowa State Bank also provides the traditional lending services typically offered by community banks. It conducts business from its main office located in Creston and full-service offices located in Creston and Lenox.
As of December 31, 2020, Iowa State Bank had capital of $26,846,000 and 38 full-time equivalent employees. Iowa State Bank had net income for year ended December 31, 2020 of approximately $1,679,000 and net income for the period from October 25, 2019, acquisition date, through December 31, 2019 of approximately $303,000. Total assets as of December 31, 2020 and 2019 were approximately $237,009,000 and $215,407,000, respectively.
Business Strategy and Operations
As a multi-bank holding company for six community banks, the Company emphasizes strong personal relationships to provide products and services that meet the needs of the Banks’ customers. The Company seeks to achieve growth and maintain a strong return on equity. To accomplish these goals, the Banks focus on small-to-medium size businesses that traditionally wish to develop an exclusive relationship with a single bank. The Banks, individually and collectively, have the size to give the personal attention required by business owners, in addition to the credit expertise to help businesses meet their goals.
The Banks offer a full range of deposit services that are typically available in most financial institutions, including checking accounts, savings accounts and time deposits of various types, ranging from money market accounts to longer-term certificates of deposit. One major goal in developing the Banks' product mix is to keep the product offerings as simple as possible, both in terms of the number of products and the features and benefits of the individual services. The transaction accounts and time certificates are tailored to each Bank's principal market area at rates competitive in that Bank’s market. In addition, retirement accounts such as Individual Retirement Accounts (IRAs) are available. The FDIC insures all deposit accounts up to the maximum coverage limits. The Banks solicit these accounts from small-to-medium sized businesses in their respective primary trade areas, from individuals who live and/or work within these areas, and from public entities within these areas. No material portion of the Banks' deposits has been obtained from a single person or from a few persons. Therefore, the Company does not believe that the loss of the deposits of any person or of a few persons would have an adverse effect on the Banks' operations or erode their deposit base.
Loans are provided to creditworthy borrowers regardless of their race, color, national origin, religion, sex, age, marital status, disability, receipt of public assistance or any other basis prohibited by law. The Banks intend to fulfill this commitment while maintaining prudent credit standards. In the course of fulfilling this obligation to meet the credit needs of the communities which they serve, the Banks give consideration to each credit application regardless of the fact that the applicant may reside in a low to moderate income neighborhood, and without regard to the geographic location of the residence, property or business within their market areas.
The Banks provide innovative, quality financial services, such as: Online Management, Mobile Banking, Private Banking and Wealth Management that meet the evolving banking needs of their customers and communities. The loan programs and acceptance of certain loans may vary from time-to-time depending on the funds available and regulations governing the banking industry. The Banks offer all basic types of credit to their local communities and surrounding rural areas, including commercial, agricultural and consumer loans. The types of loans within these categories are as follows:
Commercial and Construction Loans. Commercial loans are typically made to sole proprietors, partnerships, corporations, limited liability companies and other business entities including municipalities where the loan is to be used primarily for business purposes. These loans are typically secured by assets owned by the borrower and often times involve personal guarantees given by the owners of the business. Approximately 58% of the loan portfolio consists of loans made for commercial purposes.
The types of loans the Banks offer include:
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commercial real estate loans, including owner occupied properties
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multi-family real estate loans
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operating and working capital loans
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loans to finance equipment and other capital purchases
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business lines of credit
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term loans
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construction loans
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financing guaranteed under Small Business Administration programs
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letters of credit
Agricultural Loans. The Banks, by virtue of their location in central, north-central and south-central Iowa, are directly and indirectly involved in agriculture and agri-business lending. This includes short-term seasonal lending associated with cyclical crop and livestock production, intermediate term lending for machinery, equipment and breeding stock acquisition and long-term real estate lending. These loans are typically secured by the crops, livestock, equipment or real estate being financed. The basic tenets of the Banks' agricultural lending philosophy are strong, positive cash flows, adequate collateral positions, and sufficient liquidity to withstand short-term negative impacts if necessary. Applicable governmental subsidies and affiliated programs are utilized if warranted to accomplish these parameters. Approximately 22% of the loan portfolio consists of loans made for agricultural purposes.
1-4 Family Residential Loans. 1-4 family residential loans are typically available to finance homes, home improvements and home equity lines of credit. These loans are made on a secured basis. Approximately 19% of the loan portfolio consists of loans made for 1-4 family residential purposes.
Consumer Loans. Consumer loans are typically available to finance consumer purchases, such as automobiles, household furnishings and boats. These loans are made on both a secured and an unsecured basis. Approximately 1% of the loan portfolio consists of loans made for consumer purposes. The following types of consumer loans are available:
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automobiles and trucks
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boats and recreational vehicles
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personal loans and lines of credit
Other types of credit programs, such as loans to nonprofit organizations, to public entities, for community development and to other governmental programs also are available.
First National, Boone Bank, State Bank, United Bank and Iowa State Bank offer wealth management services typically found in a commercial bank with trust powers, including the administration of estates, conservatorships, personal and corporate trusts and agency accounts. Assets under management amount to $345.8 million and $293.1 million as of December 31, 2020 and 2019, respectively. The Banks also provide farm management, investment and custodial services for individuals, businesses and non-profit organizations.
The Banks earn income from the origination and referral of residential mortgages that are sold in the secondary real estate market without retaining the mortgage servicing rights.
The Banks offer traditional banking services, such as safe deposit boxes, wire transfers, direct deposit of payroll and social security checks, automated/video teller machine access and automatic drafts (ACH) for various accounts.
Lending Credit Management
The Company strives to achieve sound credit risk management. In order to achieve this goal, the Company has established uniform credit policies and underwriting criteria for the Banks’ loan portfolios. The Banks diversify the types of loans offered and are subject to regular credit examinations, annual internal audits and annual review of large loans, as well as quarterly reviews of loans experiencing deterioration in credit quality. The Company attempts to identify potential problem loans early, charge off loans promptly and maintain an adequate allowance for loan losses. The Company has established credit guidelines for the Banks’ lending portfolios which include guidelines relating to the more commonly requested loan types, as follows:
Commercial Real Estate Loans - Commercial real estate loans, including agricultural real estate loans, are normally based on loan to appraisal value ratios that do not exceed 80% and secured by a first priority lien position. Loans are typically subject to interest rate adjustments no less frequently than 5 years from origination. Fully amortized monthly repayment terms normally do not exceed twenty five years. Projections and cash flows that show ability to service debt within the amortization period are required. Property and casualty insurance is required to protect the Banks’ collateral interests. Commercial and agricultural real estate loans represent approximately 56% of the loan portfolio. Major risk factors for commercial real estate loans, as well as the other loan types described below, include a geographic concentration in our primary market areas in Iowa; the dependence of the local economy upon several large governmental entities, including Iowa State University and the Iowa Department of Transportation; and the health of Iowa’s agricultural sector that is heavily dependent on commodity prices, weather conditions, government programs and trade policies.
Commercial and Agricultural Operating Lines - These loans are typically made to businesses and farm operations with terms up to twelve months. The credit needs are generally seasonal with the source of repayment coming from the entity’s normal business cycle. Cash flow reviews are completed to establish the ability to service the debt within the terms of the loan. A first priority lien on the general assets of the business normally secures these types of loans. Loan-to-value limits vary and are dependent upon the nature and type of the underlying collateral and the financial strength of the borrower. Crop and hail insurance is required for most agricultural borrowers. Loans are generally guaranteed by the principal(s).
Commercial and Agricultural Term Loans - These loans are made to businesses and farm operations to finance equipment, breeding stock and other capital expenditures. Term loans are normally secured by the asset being financed and are often additionally secured with the general assets of the business. Loan-to-value ratios generally do not exceed 75% of the cost or value of the assets. Loans are normally guaranteed by the principal(s). In 2020, these loans also include Paycheck Protection Program loans originated as a part of the CARES Act. Commercial and agricultural operating and term loans represent approximately 20% of the loan portfolio.
Residential First Mortgage Loans - Proceeds of these loans are used to buy or refinance the purchase of residential real estate with the loan secured by a first lien on the real estate. Most of the residential mortgage loans originated by the Banks (including servicing rights) are sold in the secondary mortgage market due to the higher interest rate risk inherent in the 15 and 30 year fixed rate terms consumers prefer. Loans that are originated and not sold in the secondary market generally have fixed rates of up to fifteen years. The maximum amortization of first mortgage residential real estate loans is 30 years. First mortgage residential loans are also referred to an unaffilitated company that originates these loans in exchange for a fee. The loan-to-value ratios normally do not exceed 90% without credit enhancements such as mortgage insurance. Property insurance is required on all loans to protect the Banks’ collateral position. Loans secured by one-to-four family residential properties, home equity term loans and home equity lines of credit represent approximately 19% of the loan portfolio.
Home Equity Term Loans - These loans are normally for the purpose of home improvement or other consumer purposes and are secured by a junior mortgage on residential real estate. Loan-to-value ratios normally do not exceed 90% of market value.
Home Equity Lines of Credit - The Banks offer a home equity line of credit generally with a maximum term of 60 months. These loans are secured by a junior mortgage on the residential real estate and normally do not exceed a loan-to-market value ratio of 90% with the interest adjusted quarterly. Residential first mortgage loans, home equity term loans and home equity lines of credit represent approximately 19% of the loan portfolio.
Consumer Loans - Consumer loans are normally made to consumers under the following guidelines. Automobiles - loans on new and used automobiles generally will not exceed 90% and 75% of the value, respectively. Recreational vehicles and boats will not exceed 90% and 66% of the value, respectively. Each of these loans is secured by a first priority lien on the assets and requires insurance to protect the Banks’ collateral position. Unsecured - Terms for unsecured loans generally do not exceed 12 months. Consumer and other loans represent approximately 1% of the loan portfolio.
Investments available-for-sale
The investment policy of the Company generally is to invest funds among various categories of investments and maturities based upon the Company’s need for liquidity, to achieve the proper balance between its desire to minimize risk and maximize yield, and to fulfill the Company’s asset/liability management policies. The Company’s investment portfolios are managed in accordance with a written investment policy adopted by the Board of Directors. It is the Company’s general policy to purchase investment securities which are U.S. Government securities, U.S. government agency, state and local government obligations, corporate debt securities and overnight federal funds.
Human Capital
At December 31, 2020, the Banks had a total of 265 full-time equivalent employees and the Company had an additional 15 full-time employees. The Company and Banks provide their employees with a comprehensive program of benefits, including comprehensive medical, vision and dental plans, long-term and short-term disability coverage, and a 401(k) profit sharing plan. Management considers its relations with employees to be satisfactory. The Company has not experienced any material employment-related issues or interruptions of service due to labor disagreements and none of the employees are represented by unions.
Market Area
The Company operates six commercial banks with locations in Boone, Clarke, Hancock, Marshall, Polk, Story, Taylor and Union Counties in central, north-central and south-central Iowa that all offer a full line of business and consumer loan and retail and commercial deposit services. All banks, but Reliance Bank, offer wealth management services.
First National is headquartered in Ames, Iowa with a population of 66,023. The major employers are Iowa State University, Ames Laboratory, Iowa Department of Transportation, Mary Greeley Medical Center, Ames Community Schools, City of Ames, Danfoss and McFarland Clinic. First National maintains four offices in the Des Moines metro area with a population of approximately 699,000. The major employers in the Des Moines metro market are State of Iowa, Principal Financial Group, Wells Fargo, UnityPoint Health, Mercy Medical Center, Nationwide Insurance, Corteva Agriscience, Hy-Vee Food Corp and John Deere. First National maintains two offices in Osceola, Iowa with a population of 5,103. Osceola is the county seat of Clarke County. The major employers in Clarke County are Hormel Foods, Miller Products Co., SIMCO Drilling Equipment, Inc., Clarke County Hospital, Lakeside Casino, Paul Mueller Company and Boyt Harness Company. First National has a small exposure to agricultural lending.
Boone Bank is located in Boone, Iowa with a population of 12,487. Boone is the county seat of Boone County. The major employers are Fareway Stores, Inc., Iowa National Guard, Union Pacific Railroad, Boone County Hospital and CDS Global. Boone Bank provides lending services to the agriculture, commercial and real estate markets.
State Bank is located in Nevada, Iowa with a population of 6,754. Nevada is the county seat of Story County. The major employers are Story County Medical Center, Mid-American Manufacturing, Mid-States Millwright & Builders, Inc., Burke Corporation and Almaco. State Bank provides various types of loans with a major agricultural presence.
Reliance Bank is headquartered in Story City, Iowa with a population of 3,377. The major employers in the Story City area are Bethany Manor, American Packaging, M.H. Eby, Inc. and Record Printing. The Bank also maintains an office in Garner, Iowa with a population of 3,059. Garner is the county seat of Hancock County. The major employers in the Garner area are Iowa Mold & Tooling and Stellar Industries. All locations are in agricultural areas and the Bank has a strong presence in this type of lending.
United Bank is located in Marshalltown, Iowa with a population of 27,053. The major employers are Iowa Veterans Home, Marshalltown School District, JBS Swift & Co., Emerson Process Management/Fisher Division, Lennox Industries and UnityPoint Health. Marshalltown is the county seat of Marshall County. Loan services include primarily commercial and consumer types of credit including operating lines, equipment loans and real estate loans.
Iowa State Bank is headquartered in Union County in Creston, Iowa with a population of 7,784. Iowa State Bank has one additional office in Creston and an additional office located in Taylor Country in Lenox, Iowa. The major employers are Bunn-O-Matic Corporation, Wellman Dynamics Corporation, Southwestern Community College, Greater Regional Medical Center and Michael Foods, Inc. Creston is the county seat of Union County. All locations are in agricultural areas and the Bank has a strong presence in this type of lending.
Competition
The geographic market area served by the Banks is highly competitive with respect to both loans and deposits. The Banks compete principally with other commercial banks, savings and loan associations, credit unions, mortgage companies, finance divisions of auto and farm equipment companies, agricultural suppliers and other financial service providers. Some of these competitors are local, while others are statewide or nationwide. The major commercial bank competitors include Great Western Bank, U.S. Bank National Association and Wells Fargo Bank, each of which maintains an office or offices within the Banks’ primary central Iowa trade areas. Among the advantages such larger banks have are their ability to finance extensive advertising campaigns and to allocate their investment assets to geographic regions of higher yield and demand. These larger banking organizations have much higher legal lending limits than the Banks and thus are better able to finance large regional, national and global commercial customers.
In order to compete with the other financial institutions in their primary trade areas, the Banks use, to the fullest extent possible, the flexibility which is accorded by independent status. This includes an emphasis on specialized services, local promotional activity and personal contacts by the Banks' officers, directors and employees. In particular, the Banks compete for deposits principally by offering depositors a wide variety of deposit programs, convenient office locations, hours and other services. The Banks compete for loans primarily by offering competitive interest rates, experienced local lending personnel and quality products and services.
As of December 31, 2020, there were 54 FDIC insured institutions having approximately 135 locations within Boone, Clarke, Hancock, Marshall, Polk, Story, Taylor and Union County, Iowa where the Banks' offices are located. First National, State Bank and Reliance Bank together have the largest percentage of deposits in Story County. Reliance Bank has the largest percentage of deposits in Hancock County.
The Banks also compete with the financial markets for funds. Yields on corporate and government debt securities and commercial paper affect the ability of commercial banks to attract and hold deposits. Commercial banks also compete for funds with equity, money market, and insurance products offered by brokerage and insurance companies. This competitive trend will likely continue in the future.
The Company anticipates bank competition will continue to change materially over the next several years as more financial institutions, including the major regional and national banks, continue to consolidate. Credit unions, which are not subject to income taxes, have a significant competitive advantage and provide additional competition in the Company’s local markets.
Supervision and Regulation
The following discussion refers to certain statutes and regulations affecting the banking industry in general. These references provide brief summaries and therefore do not purport to be complete and are qualified in their entirety by reference to those statutes and regulations. In addition, due to the numerous statutes and regulations that apply to and regulate the banking industry, many are not referenced below.
The Company and the Banks are subject to extensive federal and state regulation and supervision. Regulation and supervision of financial institutions is primarily intended to protect depositors and the FDIC rather than shareholders of the Company. The laws and regulations affecting banks and bank holding companies have changed significantly over recent years. There is reason to expect that similar changes may continue in the future. Any change in applicable laws, regulations or regulatory policies may have a material effect on the business, operations and prospects of the Company. The Company is unable to predict the nature or the extent of the effects on its business and earnings that any fiscal or monetary policies or new federal or state legislation may have in the future.
The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”)
In response to the COVID-19 pandemic, the CARES Act was signed into law on March 27, 2020 to provide national emergency economic relief measures. The Coronavirus Response and Relief Supplemental Appropriations Act of 2021 (“CRRSAA”) was signed into law on December 27, 2020 to supplement and expand the CARES Act. Many of the CARES Act’s programs are dependent upon the direct involvement of U.S. financial institutions, such as the Company and the Banks, and have been implemented through rules and guidance adopted by federal departments and agencies, including the U.S. Department of Treasury, the Federal Reserve and other federal banking agencies, including those with direct supervisory jurisdiction over the Company and the Banks. Furthermore, as the on-going COVID-19 pandemic evolves, federal regulatory authorities continue to issue additional guidance with respect to the implementation, lifecycle, and eligibility requirements for the various CARES Act programs as well as industry-specific recovery procedures for COVID-19. In addition, it is possible that Congress will enact supplementary COVID-19 response legislation, including amendments to the CARES Act or new bills comparable in scope to the CARES Act. The Company continues to assess the impact of the CARES Act, CRRSA and other statues, regulations and supervisory guidance related to the COVID-19 pandemic.
Paycheck Protection Program. The CARES Act amended the SBA’s loan program, in which the Banks participate, to create a guaranteed, unsecured loan program to fund operational costs of eligible businesses, organizations and self-employed persons during COVID-19. In June 2020, the Paycheck Protection Program Flexibility Act was enacted, which among other things, gave borrowers additional time and flexibility to use Paycheck Protection Program (“PPP”) loan proceeds. On December 27, 2020 the Consolidated Appropriations Act was signed into law and provided funding to reopen the PPP to new qualifying borrowers of “First Draw” PPP loans, provide opportunities for certain borrowers of existing PPP loans to increase their First Draw loan, and create an opportunity for certain businesses to obtain a “Second Draw” PPP loan. As a participating lender in the PPP, the Banks continue to monitor legislative, regulatory, and supervisory developments related thereto.
Troubled Debt Restructuring and Loan Modifications for Affected Borrowers. The CARES Act permits banks to suspend requirements under GAAP for loan modifications to borrowers affected by COVID-19 that would otherwise be characterized as Troubled Debt Restructuring (“TDRs”) and suspend any determination related thereto if (i) the loan modification is made between March 1, 2020 and the earlier of December 31, 2020, extended to January 1, 2022 under CRRSAA, or 60 days after the end of the COVID-19 emergency declaration and (ii) the applicable loan was not more than 30 days past due as of December 31, 2019. The federal banking agencies also issued guidance to encourage banks to make loan modifications for borrowers affected by COVID-19 and to assure banks that they will not be criticized by examiners for doing so. The Company is applying this guidance to qualifying loan modifications. See Note 5 to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K for further information about the COVID-19-related loan modifications completed by the Company.
Temporary Community Bank Leverage Ratio Relief. Pursuant to the CARES Act, the federal banking agencies adopted an interim rule, effective until the earlier of the termination of the coronavirus emergency declaration or December 31, 2020, to (i) reduce the minimum Community Bank Leverage Ratio from 9% to 8% percent for 2020 and (ii) give community banks a two-quarter grace period to satisfy such ratio if such ratio falls out of compliance by no more than 1%.
The Company
The Company is a bank holding company by virtue of its ownership of the Banks, and is registered as such with the Board of Governors of the Federal Reserve System (the "Federal Reserve"). The Company is subject to regulation under the Bank Holding Company Act of 1956, as amended (the "BHCA"), which subjects the Company and the Banks to supervision and examination by the Federal Reserve. Under the BHCA, the Company files with the Federal Reserve annual reports of its operations and such additional information as the Federal Reserve may require.
Source of Strength to the Banks. The Federal Reserve takes the position that a bank holding company is required to serve as a source of financial and managerial strength to its subsidiary banks and may not conduct its operations in an unsafe or unsound manner. In addition, it is the Federal Reserve's position that in serving as a source of strength to its subsidiary banks, bank holding companies should use available resources to provide adequate capital funds to its subsidiary banks during periods of financial stress or adversity. It should also maintain the financial flexibility and capital raising capacity to obtain additional resources for providing assistance to its subsidiary banks. A bank holding company's failure to meet its obligation or to serve as a source of strength to its subsidiary banks, will generally be considered by the Federal Reserve to be an unsafe and unsound banking practice, or a violation of the Federal Reserve's regulations, or both.
Federal Reserve Approval. Bank holding companies must obtain the approval of the Federal Reserve before they: (i) acquire direct or indirect ownership or control of any voting stock of any bank if, after such acquisition, they would own or control, directly or indirectly, more than 5% of the voting stock of such bank; (ii) merge or consolidate with another bank holding company; or (iii) acquire substantially all of the assets of any additional banks.
Non-Banking Activities. With certain exceptions, the BHCA also prohibits bank holding companies from acquiring direct or indirect ownership or control of voting stock in any company other than a bank or a bank holding company unless the Federal Reserve finds the company's business to be incidental to the business of banking. When making this determination, the Federal Reserve in part considers whether allowing a bank holding company to engage in those activities would offer advantages to the public that would outweigh possible adverse effects. A bank holding company may engage in permissible non-banking activities on a de novo basis, if the holding company meets certain criteria and notifies the Federal Reserve within ten (10) business days after the activity has commenced.
Financial Holding Company. Under the Financial Services Modernization Act, eligible bank holding companies may elect (with the approval of the Federal Reserve) to become a "financial holding company." Financial holding companies are permitted to engage in certain financial activities through affiliates that had previously been prohibited activities for bank holding companies. Such financial activities include securities and insurance underwriting and merchant banking. At this time, the Company has not elected to become a financial holding company, but may choose to do so at some time in the future.
Control Transactions. The Change in Bank Control Act of 1978, as amended, requires a person or group of persons acquiring "control" of a bank holding company to provide the Federal Reserve with at least 60 days prior written notice of the proposed acquisition. Following receipt of this notice, the Federal Reserve has 60 days to issue a notice disapproving the proposed acquisition, but the Federal Reserve may extend this time period for up to another 30 days. An acquisition may be completed before the disapproval period expires if the Federal Reserve issues written notice of its intent not to disapprove the action. Under a rebuttable presumption established by the Federal Reserve, the acquisition of 10% or more of a class of voting stock of a bank holding company with a class of securities registered under Section 12 of the Securities Exchange Act of 1934, as amended, would constitute the acquisition of control. In addition, any "company" would be required to obtain the approval of the Federal Reserve under the BHCA before acquiring 25% (or 5% if the "company" is a bank holding company) or more of the outstanding shares of the Company, or otherwise obtain control over the Company.
Affiliate Transactions. The Company and the Banks are deemed affiliates within the meaning of the Federal Reserve Act, and transactions between affiliates are subject to certain restrictions. Generally, the Federal Reserve Act: (i) limits the extent to which the financial institution or its subsidiaries may engage in "covered transactions" with an affiliate; and (ii) requires all transactions with an affiliate, whether or not "covered transactions," to be on terms substantially the same, or at least as favorable to the institution or subsidiary, as those provided to a non-affiliate. The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and similar transactions.
State Law on Acquisitions. Iowa law permits bank holding companies to make acquisitions throughout the state. However, Iowa currently has a deposit concentration limit of 15% on the amount of deposits in the state that any one banking organization can control and continue to acquire banks or bank deposits (by acquisitions), which applies to all depository institutions doing business in Iowa.
Banking Subsidiaries
Applicable federal and state statutes and regulations governing a bank's operations relate, among other matters, to capital adequacy requirements, required reserves against deposits, investments, loans, legal lending limits, certain interest rates payable, mergers and consolidations, borrowings, issuance of securities, payment of dividends, establishment of branches and dealings with affiliated persons.
First National and United Bank are national banks subject to primary federal regulation and supervision by the Office of Comptroller of the Currency (“OCC”). The FDIC, as an insurer of the deposits to the maximum extent permitted by law, also has some limited regulatory authority over First National and United Bank. State Bank, Boone Bank, Reliance Bank and Iowa State Bank are state banks subject to regulation and supervision by the Iowa Division of Banking. The four state Banks are also subject to regulation and examination by the FDIC, which insures their respective deposits to the maximum extent permitted by law. The federal laws that apply to the Banks regulate, among other things, the scope of their business, their investments, their reserves against deposits, the timing of the availability of deposited funds and the nature and amount of and collateral for loans. The laws and regulations governing the Banks generally have been promulgated to protect depositors and the deposit insurance fund of the FDIC and not to protect stockholders of such institutions or their holding companies.
The OCC and FDIC each have authority to prohibit banks under their supervision from engaging in what it considers to be an unsafe and unsound practice in conducting their business. The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") requires federal banking regulators to adopt regulations or guidelines in a number of areas to ensure bank safety and soundness, including internal controls, credit underwriting, asset growth, management compensation, ratios of classified assets to capital and earnings. FDICIA also contains provisions which are intended to change independent auditing requirements, restrict the activities of state-chartered insured banks, amend various consumer banking laws, limit the ability of "undercapitalized banks" to borrow from the Federal Reserve's discount window, require regulators to perform periodic on-site bank examinations and set standards for real estate lending.
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“the Dodd-Frank Act”). Pursuant to the Dodd-Frank Act, the Banks are subject to regulations promulgated by the consumer protection bureau housed within the Federal Reserve, known as the Bureau of Consumer Financial Protection (the “Bureau” or “BCFP”). The Bureau promulgates rules and orders with respect to consumer financial products and services and has substantial power to define the rights of consumers and responsibilities of lending institutions, such as the Banks. The Bureau will not, however, examine or supervise the Banks for compliance with such regulations; rather, enforcement authority will remain with the Banks’ primary federal regulator although the Banks may be required to submit reports or other materials to the Bureau upon its request.
Borrowing Limitations. Each of the Banks is subject to limitations on the aggregate amount of loans that it can make to any one borrower, including related entities. Subject to numerous exceptions based on the type of loans and collateral, applicable statutes and regulations generally limit loans to one borrower of 15% of total equity and reserves. Each of the Banks is in compliance with applicable loans to one borrower requirements.
FDIC Insurance. The deposit insurance coverage limit is $250,000 per depositor, per insured depository institution for each account ownership category. The FDIC has adopted a risk-based insurance assessment system under which depository institutions contribute funds to the FDIC insurance fund based on their risk classification. In 2019, the FDIC announced the deposit insurance fund reserve ratio was above 1.35%. Since the reserve ratio remained 1.35% in 2020, the Banks received a small bank assessment credit in the third and fourth quarter of 2019 and the first and second quarter of 2020. The FDIC may terminate the deposit insurance of any insured depository institution if it determines after an administrative hearing that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law.
Capital Adequacy Requirements. The Federal Reserve, the FDIC and the OCC (collectively, the "Agencies") have adopted risk-based capital guidelines for banks and bank holding companies that are designed to make regulatory capital requirements more sensitive to differences in risk profiles among banks and bank holding companies and account for off-balance sheet items. The Agencies have also provided an optional community bank leverage ratio framework to provide a simple measure of capital adequacy for certain community banking organizations. Failure to achieve and maintain adequate capital levels may give rise to supervisory action through the issuance of a capital directive to ensure the maintenance of required capital levels. Each of the Banks is in compliance with capital level requirements as of December 31, 2020.
Basel III Capital Requirements. Basel III Capital Rules: (i) introduce a capital measure called “Common Equity Tier 1” (“CET1”) and related regulatory capital ratio of CET1 to risk-weighted assets; (ii) specify that Tier 1 capital consists of CET1 and “Additional Tier 1 capital” instruments meeting certain revised requirements; (iii) mandate that most deductions/adjustments to regulatory capital measures be made to CET1 and not to the other components of capital; and (iv) expand the scope of the deductions from and adjustments to capital as compared to prior regulations. Under the Basel III Capital Rules, for most banking organizations, the most common form of Additional Tier 1 capital is non-cumulative perpetual preferred stock and the most common form of Tier 2 capital is subordinated notes and a portion of the allowance for loan and lease losses, in each case, subject to the Basel III Capital Rules’ specific requirements.
Pursuant to the Basel III Capital Rules, the Company and Banks are subject to regulatory capital adequacy requirements promulgated by the Federal Reserve and the OCC. Failure by the Company or Bank to meet minimum capital requirements could result in certain mandatory and discretionary actions by the regulators that could have a material adverse effect on the Company’s consolidated financial statements. Under the capital requirements and the regulatory framework for prompt corrective action, the Company and Banks must meet specific capital guidelines that involve quantitative measures of the Company and Banks’ assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company’s and Banks’ capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings and other factors.
With respect to the Banks, the Basel III Capital Rules revise the Prompt Corrective Action (“PCA”) regulations adopted pursuant to Section 38 of the Federal Deposit Insurance Act, by: (i) introducing a CET1 ratio requirement at each PCA category (other than critically undercapitalized), with the required CET1 ratio being 6.5% for well capitalized status; (ii) increasing the minimum Tier 1 capital ratio requirement for each category, with the minimum Tier 1 capital ratio for well capitalized status being 8%; and (iii) eliminating the provision that provides that a bank with a composite supervisory rating of 1 may have a 3% leverage ratio and still be adequately capitalized. The Basel III Capital Rules do not change the total risk-based capital requirement for any PCA category.
The Basel III Capital Rules prescribe a standardized approach for risk weightings for a large and risk-sensitive number of categories, depending on the nature of the assets, generally ranging from 0% for U.S. Government and agency securities to 600% for certain equity exposures, and resulting in high-risk weights for a variety of asset classes.
Should the Company or Banks not meet the requirements of the Basel III Capital Rules, the Company and Banks would be subject to adverse regulatory action by their regulators, which action could result in material adverse consequences for the Company, Banks, and Company shareholders.
As a result of the Economic Growth, Regulatory Relief, and Consumer Protection Act, the federal banking agencies were required to develop a “Community Bank Leverage Ratio” (the ratio of a bank’s tangible equity capital to average total consolidated assets) for financial institutions with assets of less than $10 billion. A “qualifying community bank” that exceeds this ratio will be deemed to be in compliance with all other capital and leverage requirements, including the capital requirements to be considered “well capitalized” under Prompt Corrective Action statutes. The federal banking agencies may consider a financial institution’s risk profile when evaluating whether it qualifies as a community bank for purposes of the capital ratio requirement. A financial institution could elect to be subject to this new definition as of March 31, 2020.
Community Bank Leverage Ratio Requirements. The Community Bank Leverage Ratio is an optional method to compute regulatory capital requirements. The Community Bank Leverage Ratio is designed to reduce the burden of BASEL III by removing requirements for calculating and reporting risk-based capital ratios for qualifying community banking organizations that opt into the framework. Qualifying community banking organizations that elect to use the CBLR framework and that maintain a leverage ratio of greater than 9 percent are considered to have satisfied the risk-based and leverage capital requirements in the agencies’ generally applicable capital rule. Additionally, such insured depository institutions are considered to have met the well capitalized ratio requirements for purposes of section 38 of the Federal Deposit Insurance Act. The Company has elected to use the CBLR framework. The 9 percent capital ratio has been reduced to 8 percent as of June 30, 2020 and will increase to 8.5 percent beginning on March 31, 2021.
As of December 31, 2020, the Banks exceeded all of their regulatory capital requirements and were designated as “well capitalized” under federal guidelines. See Note 16 to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.
Prompt Corrective Action. Regulations adopted by the Agencies impose even more stringent capital requirements under prompt corrective action. The FDIC and other Agencies must take certain "prompt corrective action" when a bank fails to meet capital requirements. The regulations establish and define five capital levels: (i) "well capitalized," (ii) "adequately capitalized," (iii) "undercapitalized," (iv) "significantly undercapitalized" and (v) "critically undercapitalized." Increasingly severe restrictions are imposed on the payment of dividends and management fees, asset growth and other aspects of the operations of institutions that fall below the category of being "adequately capitalized." Undercapitalized institutions are required to develop and implement capital plans acceptable to the appropriate federal regulatory agency. Such plans must require that any company that controls the undercapitalized institution must provide certain guarantees that the institution will comply with the plan until it is adequately capitalized. As of December 31, 2020, each of the Banks was categorized as “well capitalized” under regulatory prompt corrective action provisions.
Restrictions on Dividends. The dividends paid to the Company by the Banks are the major source of Company cash flow. Various federal and state statutory provisions limit the amount of dividends banking subsidiaries are permitted to pay to their holding companies without regulatory approval. Federal Reserve policy further limits the circumstances under which bank holding companies may declare dividends. For example, a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition. In addition, the Federal Reserve and the FDIC have issued policy statements which provide that insured banks and bank holding companies should generally pay dividends only out of current operating earnings. Federal and state banking regulators may also restrict the payment of dividends by order.
First National Bank and United Bank, as national banks, generally may pay dividends, without obtaining the express approval of the OCC, in an amount up to its retained net profits for the preceding two calendar years plus retained net profits up to the date of any dividend declaration in the current calendar year. Retained net profits as defined by the OCC, consists of net income less dividends declared during the period. Boone Bank, Reliance Bank, State Bank and Iowa State Bank are also restricted under Iowa law to paying dividends only out of their undivided profits. Additionally, the payment of dividends by the Banks is affected by the requirement to maintain adequate capital pursuant to applicable capital adequacy guidelines and regulations, and the Banks generally are prohibited from paying any dividends if, following payment thereof, the Bank would be undercapitalized.
Reserves Against Deposits
The Federal Reserve, prior to March 26, 2020, requires all depository institutions to maintain reserves against their transaction accounts (primarily checking accounts) and non-personal time deposits. Generally, reserves of 3% had to be maintained against total transaction accounts of $127,500,000 or less (subject to an exemption not in excess of the first $16,900,000 of transaction accounts). A reserve of $3,318,000 plus 10% of amounts in excess of $127,500,000 had to be maintained in the event total transaction accounts exceeded $127,500,000. The balances maintained to meet the reserve requirements imposed by the Federal Reserve could be used to satisfy applicable liquidity requirements. Because required reserves must be maintained in the form of vault cash or a noninterest-bearing account at a Federal Reserve Bank, the effect of this reserve requirement was to reduce the earning assets of the Banks.
The Federal Reserve announced on March 15, 2020, that the reserve requirement ratios will be reduced to zero percent effective March 26, 2020. This action eliminated reserve requirements for all depository institutions. Currently the Board has no plans to re-impose reserve requirements but retains the right to do so.
Regulatory Enforcement Authority
The enforcement powers available to federal and state banking regulators are substantial and include, among other things, the ability to assess civil monetary penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions against banking organizations and institution-affiliated parties. In general, enforcement actions must be initiated for violations of laws and regulations and unsafe or unsound practices. Other actions, or inactions, may provide the basis for enforcement action, including misleading or untimely reports filed with regulatory authorities. Applicable law also requires public disclosure of final enforcement actions by the federal banking agencies.
National Monetary Policies
In addition to being affected by general economic conditions, the earnings and growth of the Banks are affected by the regulatory authorities’ policies, including the Federal Reserve. An important function of the Federal Reserve is to regulate the money supply, credit conditions and interest rates. Among the instruments used to implement these objectives are open market operations in U.S. Government securities, changes in reserve requirements against bank deposits and the Federal Reserve Discount Rate, which is the interest rate charged member banks to borrow from the Federal Reserve Bank. These instruments are used in varying combinations to influence overall growth and distribution of credit, bank loans, investments and deposits, and their use may also affect interest rates charged on loans or paid on deposits.
The monetary policies of the Federal Reserve have had a material impact on the operating results of commercial banks in the past and are expected to have a similar impact in the future. The U.S. Congress established three key objectives for monetary policy in the Federal Reserve Act: maximizing employment, stabilizing prices, and moderating long-term interest rates. The first two objectives are sometimes referred to as the Federal Reserve's dual mandate. Its duties have expanded over the years, and as of 2009 so include supervising and regulating banks, maintaining the stability of the financial system and providing financial services to depository institutions, the U.S. government, and foreign official institutions. The Federal Reserve conducts research into the economy and releases numerous publications. Also important in terms of effect on banks are controls on interest rates paid by banks on deposits and types of deposits that may be offered by banks. The Federal Open Market Committee (“FOMC”), a committee within the Federal Reserve System, is charged under the United States of America (“USA”) law with overseeing the nation's open market operations (i.e., the Federal Reserve Banks buying and selling of USA government securities). This Federal Reserve committee makes key decisions about interest rates and the growth of the USA money supply. The FOMC is the principal organization of USA national monetary policy. The Committee sets monetary policy by specifying the short-term objective for the Federal Reserve Bank's open market operations, which is usually a target level for the federal funds rate (the rate that commercial banks charge between themselves for overnight loans).
Availability of Information on Company Website
The Company files periodic reports with the Securities and Exchange Commission (“SEC”), including annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. The Company makes available on or through its website free of charge all periodic reports filed by the Company with the SEC, including any amendments to such reports, as soon as reasonably practicable after such reports have been electronically filed with the SEC. The address of the Company’s website on the Internet is: www.amesnational.com.
The Company will provide a paper copy of these reports free of charge upon written or telephonic request directed to John L. Pierschbacher, CFO, 405 5th Street, Ames, Iowa 50010 or (515) 232-6251 or by email request at info@amesnational.com. The information found on the Company’s website is not part of this or any other report the Company files with the SEC.
Information about our Executive Officers
The following table sets forth summary information about the executive officers of the Company and certain executive officers of the Banks. Each executive officer has served in his current position for the past five years with the exception of John P. Nelson, John L. Pierschbacher, Adam R. Snodgrass, and Robert A. Thomas. Mr. Nelson was appointed president and chief executive officer of the Company on June 29, 2018. Mr. Pierschbacher was appointed chief financial officer of the Company on June 29, 2018. Mr. Snodgrass was appointed as president of Iowa State Bank on October 25, 2019. Mr. Thomas was appointed as president of United Bank on July 1, 2020.
Name
Age
Position with the Company or Bank and Principal Occupation and Employment During the Past Five Years
Scott T. Bauer
President and Director of First National.
Stephen C. McGill
President and Director of State Bank.
John P. Nelson
Chief Executive Officer, President and Director of the Company. Director and Chairman of Boone Bank, Reliance Bank, State Bank and United Bank and Director of First National and Iowa State Bank; previously Chief Financial Officer and Secretary of the Company.
John L. Pierschbacher
Chief Financial Officer, Director and Secretary of the Company; previously Controller of the Company.
Jeffrey K. Putzier
President and Director of Boone Bank.
Richard J. Schreier
President and Director of Reliance Bank.
Adam R. Snodgrass
President and Director of Iowa State Bank; previously CEO, CFO and director of Iowa State Bank prior to the Iowa State Bank Acquisition.
Robert A. Thomas President and Director of United Bank; previously Senior Loan Officer of United Bank.

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ITEM 1A. RISK FACTORS
ITEM 1A. RISK FACTORS
Set forth below is a description of risk factors related to the Company’s business, provided to enable investors to assess, and be appropriately apprised of, certain risks and uncertainties the Company faces in conducting its business. An investor should carefully consider the risks described below and elsewhere in this Report, which could materially and adversely affect the Company’s business, results of operations or financial condition. The risks and uncertainties discussed below are also applicable to forward-looking statements contained in this Report and in other reports filed by the Company with the Securities and Exchange Commission. Given these risks and uncertainties, investors are cautioned not to place undue reliance on forward-looking statements.
Economic and Market Risk Conditions
Changes in general business, economic and political conditions may adversely affect the Company’s business.
Our earnings and financial condition are affected by general business, economic and political conditions. For example, a depressed economic environment increases the likelihood of lower employment levels and recession, which could adversely affect our earnings and financial condition. General business and economic conditions that could affect us include short-term and long-term interest rates, inflation, fluctuations in both debt and equity capital markets and the strength of the national and local economies in which we operate. Political conditions can also affect our earnings through the introduction of new regulatory policies, changes in tax laws and changes in trade policies.
Our financial performance generally, and in particular the ability of customers to pay interest on and repay principal of outstanding loans and the value of collateral securing those loans, as well as demand for loans and other products and services we offer, is highly dependent upon the business environment not only in the markets where we operate but also in the state of Iowa generally and in the United States as a whole. A favorable business environment is generally characterized by, among other factors: economic growth; efficient capital markets; low inflation; low unemployment; high business and investor confidence; and strong business earnings. Unfavorable or uncertain economic and market conditions can be caused by: declines in economic growth, business activity, or investor or business confidence; limitations on the availability or increases in the cost of credit and capital; increases in inflation or interest rates; high unemployment; natural disasters; or a combination of these or other factors.
Economic conditions in our market, the state of Iowa, and the United States have been largely unfavorable and highly volatile in 2020 primarily due to the COVID-19 pandemic. If the COVID-19 pandemic wanes economic conditions may improve, but there can be no assurance that this improvement will continue or occur at a meaningful rate. Stagnant or declining economic conditions, whether due to continuing adverse effects of the pandemic or otherwise, could materially and adversely affect our results of operations and financial condition.
The ongoing COVID-19 pandemic and resulting adverse economic conditions have adversely impacted, and could continue to adversely impact, our business, financial condition and results of operations.
The COVID-19 pandemic has adversely impacted the national, Iowa and local economies in which the Company conducts business, created significant volatility and disruption in financial markets, increased unemployment levels and created hardships for our customers. The spread of COVID-19 has caused illness, quarantines, cancellation of events and travel, business and school shutdowns, reduction in commercial activity and financial transactions, supply chain interruptions, increased unemployment, and overall economic and financial market instability.
Although the Company continued operating during the initial shutdowns, the COVID-19 pandemic has caused disruptions to our business and could continue to cause material disruptions in the future. Impacts to our business have included costs due to remote access for our employees and additional health and safety precautions implemented at our offices; increases in customers' inability to make scheduled loan payments; increases in requests for loan modifications; and an adverse effect on accounting estimates that we use to determine our provision and allowance for credit losses. A worsening or prolonged continuation of the current unfavorable economic conditions could further impact our provision and allowance for credit losses, and could impact the value of certain assets that we carry on our balance sheet such as goodwill.
While we have taken and are continuing to take precautions to protect the safety and well-being of our employees and customers, no assurance can be given that the steps being taken will be adequate or appropriate. The continued or renewed spread of COVID-19, including the new variants of the virus recently discovered, could negatively impact the availability of key personnel necessary to conduct our business, the business and operations of our third-party service providers who perform critical services for our business, or the businesses of many of our customers.
Among the factors outside our control that are likely to affect the impact the COVID-19 pandemic will ultimately have on our business are:
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the pandemic's course, duration and severity;
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the direct and indirect results of the pandemic, such as recessionary economic trends, including with respect to employment, wages and benefits, commercial activity, consumer spending and real estate market values;
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the continuing impact of the pandemic on the ability of our loan customers to perform their loan obligations;
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declines in collateral values;
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political, legal and regulatory actions and policies in response to the pandemic, including the effects of restrictions on commerce and banking, such as moratoria and other suspensions of collections, foreclosures, and related obligations;
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the timing, magnitude and effect of public spending, directly or through subsidies, its direct and indirect effects on commercial activity and incentives of employers and individuals to resume or increase employment, wages and benefits and commercial activity;
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the timing and availability of direct and indirect governmental support for various financial assets;
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potential longer-term effects of increased government spending on the interest rate environment and borrowing costs for non-governmental parties;
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the ability of our employees and our third-party vendors to work effectively during the course of the pandemic; and
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any increase in cyber and payment fraud related to COVID-19, as cybercriminals attempt to profit from disruption, given increased online banking, e-commerce and other online activity.
We are continuing to monitor the COVID-19 pandemic and related risks, although the rapid development and fluidity of the situation precludes any specific prediction as to its ultimate impact on us. However, if the pandemic continues to spread or otherwise result in a continuation or worsening of the current economic environment, our business, financial condition, and results of operations could be materially adversely affected.
Credit Risks
The Company’s business depends on our ability to successfully manage credit risk.
The operation of our business requires us to manage credit risk. As a lender, we are exposed to the risk that our borrowers will be unable to repay their loans according to their terms, and that the collateral securing repayment of their loans, if any, may not be sufficient to ensure repayment. In addition, there are risks inherent in making any loan, including risks with respect to the period of time over which the loan may be repaid, risks relating to proper loan underwriting, risks resulting from changes in economic and industry conditions and risks inherent in dealing with individual borrowers. In order to successfully manage credit risk, we must, among other things, maintain disciplined and prudent underwriting standards, implement and observe appropriate procedures for monitoring our outstanding loans and ensure that our bankers follow those standards and procedures. The weakening of these standards or procedures for any reason, such as an attempt to attract higher yielding loans, a lack of discipline or diligence by our employees in underwriting and monitoring loans, our inability to adequately adapt policies and procedures to changes in economic or any other conditions affecting borrowers may negatively impact the quality of our loan portfolio, result in loan defaults, foreclosures and additional charge-offs and necessitate that we significantly increase our allowance for loan losses, therefore reducing our earnings. As a result, our inability to successfully manage credit risk, particularly during the period of economic disruption caused by the COVID-19 pandemic, could have a material adverse effect on our business, financial condition or results of operations.
The commercial real estate loan portfolio is a significant part of the Company’s business.
Commercial real estate loans were a significant portion of our total loan portfolio as of December 31, 2020. The market value of real estate securing these loans can fluctuate significantly in a short period of time as a result of market conditions in the geographic area in which the real estate is located. Adverse developments affecting real estate values in one or more of our markets could increase the credit risk associated with our loan portfolio. Additionally, real estate lending typically involves higher loan principal amounts, and the repayment of the loans generally is dependent, in large part, on sufficient income from the properties securing the loans to cover operating expenses and debt service. Economic events or governmental regulations outside of the control of the borrower or lender could negatively impact the future cash flow and market values of the affected properties.
The COVID-19 pandemic has had a negative impact on the national, Iowa and local economies and in turn the Company’s borrowers. In particular, the Company’s management believes that the credit risk associated with the hospitality and entertainment loans included in the Company’s commercial real estate portfolio may be affected more quickly than other areas of the Company’s loan portfolio if the COVID-19 pandemic continues. The credit management team has remained in regular contact with these borrowers.
If the loans that are collateralized by real estate become troubled and the value of the real estate has been significantly impaired, then we may not be able to recover the full contractual amount of principal and interest that was anticipated at the time of originating the loan, which could cause an increase in charge-offs, resulting in the need to increase our provision for loan losses and adversely affecting our operating results and financial condition.
If the Company’s actual loan losses exceed the allowance for loan losses or increase significantly, the Company’s net income will decrease.
We maintain an allowance for loan losses at a level believed to be adequate to absorb estimated losses inherent in the existing loan portfolio. The level of the allowance reflects management’s continuing evaluation of industry concentrations; specific credit risks; credit loss experience; current loan portfolio quality; present economic, political and regulatory conditions; and unidentified losses inherent in the current loan portfolio.
Determination of the allowance is inherently subjective, and has become more challenging with the uncertainty of the effects and duration of the COVID-19 pandemic, as it requires significant estimates and management’s judgment of credit risks and future trends, all of which may undergo material changes. Continuing deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require an increase in the allowance for loan losses. In addition, bank regulatory agencies periodically review our allowance and may require an increase in the provision for loan losses or the recognition of additional loan charge-offs, based on judgments different from those of management. Also, if charge-offs in future periods exceed the allowance for loan losses or increase significantly; we will need additional provisions to increase the allowance. Any increases in provisions will result in a decrease in net income and capital and may have a material adverse effect on our financial condition and results of operations.
Loans to agricultural-related borrowers are subject to factors beyond the Company’s control, including fluctuations in commodity and livestock prices, government trade policies and other risks, which could negatively impact the Company’s loan portfolio.
A significant portion of our loan portfolio consists of loans to borrowers who are directly or indirectly affected by the health of the Iowa agricultural economy. During 2019 and 2020, the agricultural economy has experienced low grain prices which placed downward pressure on cash flow and profits from agricultural activities. Grain prices have recovered during the 4th quarter of 2020 and should relieve some of the pressure on cash flow and profits from agricultural activities. An extended period of low commodity and/or livestock prices, together with other risks to which our agricultural borrowers are subject, including poor weather conditions, higher input costs, changes in governmental support programs and uncertainty regarding governmental mandates affecting ethanol production, could result in reduced cash flows and profit margins, negatively affecting these borrowers and making it more difficult for them to repay their loan obligations to us. Moreover, recent changes in the U.S. trade policy, including uncertainty as to the imposition of tariffs, together with current tariffs, on products that our agricultural borrowers export to foreign markets could result in further volatility and deterioration of the price of agricultural products, providing further challenges and risk to our portfolio of agricultural loans. A general decline in the agricultural economy could also negatively affect us by reducing the value of agricultural real estate which secures some of our agricultural loans, creating the potential for greater losses if these borrowers are unable to repay their loans and we are forced to rely on this collateral. Moreover, a general decline in the agricultural economy could also negatively impact some of our commercial borrowers whose businesses are directly or indirectly dependent on the health of the agricultural economy. All of these risks, which are beyond our control, could produce losses in our loan portfolio and adversely affect our financial condition or results of operations.
Credit risk related to PPP loans.
There is credit risk on PPP loans if a determination is made by the SBA that there is a deficiency in the manner in which the loan was originated, funded, or serviced by the Company, such as an issue with the eligibility of a borrower to receive a PPP loan, which may or may not be related to the ambiguity in the laws, rules, and guidance regarding the operation of the PPP, or if the borrowers fraudulently obtained a PPP loan. In the event of a loss resulting from a default on a PPP loan and a determination by the SBA that there is a deficiency in the manner in which the PPP loan was originated, funded, or serviced by us, the SBA may deny its liability under the guaranty, reduce the amount of the guaranty, or if it has already paid under the guaranty, seek recovery of any loss related to the deficiency from us.
Liquidity and Interest Rate Risks
Fair values of investments in the Company’s securities portfolio may adversely change.
As of December 31, 2020, the fair value of our securities portfolio was approximately $597.0 million. Factors beyond our control can significantly influence the fair value of securities in our portfolio and can cause potential adverse changes to the fair value of those securities. These factors include, but are not limited to, changes in interest rates, an unfavorable change in the liquidity of an investment, rating agency downgrades of the securities, reinvestment risk, liquidity risk, defaults by the issuer or individual mortgagors with respect to the underlying securities, and instability in the credit markets. Any of the foregoing factors could cause us to recognize an other-than- temporary impairment (OTTI) in future periods and result in realized losses that negatively impact earnings. The success of any investment activity is affected by general economic conditions. Unexpected volatility or illiquidity in the markets in which we hold securities could reduce our liquidity and stockholders' equity. To mitigate these risks, we have access to lines of credit that provide additional liquidity, if needed.
Our investment securities are analyzed quarterly to determine whether, in the opinion of management, any of the securities have OTTI. To the extent that any portion of the unrealized losses in our portfolio of investment securities is determined to have OTTI and is credit loss related, we will recognize a charge to our earnings in the quarter during which such determination is made, and our earnings and capital ratios will be adversely impacted. Generally, a fixed income security is determined to have OTTI when it appears unlikely that we will receive all of the principal and interest due in accordance with the original terms of the investment. In addition to credit losses, losses are recognized for a security having an unrealized loss if we have the intent to sell the security or if it is more likely than not that we will be required to sell the security before collection of the principal amount.
Changes in interest rates could adversely affect the Company’s results of operations and financial condition.
Short-term federal funds interest rates have fallen 1.50% in 2020 after falling 0.75% in 2019. Intermediate and longer-term rates have also decreased during the same period in 2020 and 2019. This decrease in rates put pressure on the Company’s net interest margin as our earning assets (primarily our loan and investment portfolio) have longer maturities than our interest-bearing liabilities (primarily our deposits and other borrowings). With interest rates now at historically low levels, the Company’s challenge will be that rates remain at these historical low levels for an extended period of time or there is a potential for quickly rising interest rates in the future. In an extended period of low interest rates, interest income may decrease more quickly than interest expense. In a rising interest rate environment, interest expense will increase more quickly than interest income, as the interest-bearing liabilities reprice more quickly than earning assets, placing downward pressure on the net interest margin. A reduction in the net interest margin could negatively affect our results of operations, including earnings. In response to this challenge, we model quarterly the changes in income that would result from various changes in interest rates. Management believes our earning assets have the appropriate maturity and repricing characteristics to optimize earnings and interest rate risk positions.
The inability to deploy excess liquidity may adversely affect the Company’s business.
Maintaining adequate liquidity is essential to the banking business. Excess liquidity or the inability to maintain liquidity through deposits, borrowing, sale of securities or other sources could have a substantial negative impact on our liquidity.
We maintain liquidity primarily through customer deposits and through access to other short-term funding sources, including advances from the Federal Home Loan Bank (FHLB), Federal Reserve Bank (FRB) overnight borrowings and purchased federal funds. If governmental programs or economic conditions change so that we continue to have excess liquidity due to increases in deposit balances, we might experience excess liquidity issues. Our efforts to monitor and manage liquidity risk may not be successful or sufficient to deal with dramatic or unanticipated increase or reductions in our liquidity. In such events, our cost of funds may decrease, but our investments options become limited thereby reducing our net interest income. This situation could have a material adverse impact on our results of operations and financial condition.
The Company relies on dividends and other payments from its Banks for substantially all of its revenue.
We are a separate and distinct legal entity from our Banks, and we receive substantially all of our operating cash flows from dividends and other payments from our Banks. These dividends and payments are the principal source of funds to pay dividends on our common stock. Various federal and state laws and regulations limit the amount of dividends that our Banks may pay to us. In addition, our right to participate in a distribution of assets upon a subsidiary’s liquidation or reorganization is subject to the prior claims of the subsidiary’s creditors. In the event our Banks are unable to pay dividends to us, we may not be able to pay our obligations or pay dividends on our common stock. The inability to receive dividends from our Banks could have a material adverse effect on our business, financial condition or results of operations.
Operational Risks
The Company may not be able to attract and retain key personnel and other skilled employees.
Our success depends, in large part, on the skills of our management team and our ability to retain, recruit and motivate key officers and employees. Our senior management team has significant industry experience, and their knowledge and relationships would be difficult to replace. None of our executive officers have employment agreements in keeping with the past practice of the Company and the Banks. Leadership changes will occur from time to time, and we cannot predict whether significant resignations will occur or whether we will be able to recruit additional qualified personnel. Competition for senior executives and skilled personnel in the financial services and banking industry is considerable, which means the cost of hiring, incentivizing and retaining skilled personnel may continue to increase. We need to continue to attract and retain key personnel and to recruit qualified individuals to succeed existing key personnel to ensure the continued growth and successful operation of our business. In addition, as a provider of commercial and agricultural banking services, we must attract and retain qualified banking personnel to continue to grow our business, and competition for such personnel can be intense. Our ability to effectively compete for senior executives and other qualified personnel by offering competitive compensation and benefit arrangements may be restricted by applicable banking laws and regulations. The loss of the services of any senior executive or other key personnel, or the inability to recruit and retain qualified personnel in the future, could have a material adverse effect on our business, financial condition or results of operations. In addition, to attract and retain personnel with appropriate skills and knowledge to support our business, we may offer a variety of benefits, which could reduce our earnings or have a material adverse effect on our business, financial condition or results of operations.
The Company is subject to certain operational risks, including, but not limited to, data processing system failures, errors, data security breaches and customer or employee fraud.
There have been a number of publicized cases involving errors, fraud or other misconduct by employees of financial services firms in recent years. Misconduct by our employees could include hiding unauthorized activities from us, improper or unauthorized activities on behalf of our customers or improper use of confidential information. Employee fraud, errors and employee and customer misconduct could subject us to financial losses or regulatory sanctions and seriously harm our reputation. It is not always possible to prevent employee errors and misconduct, and the precautions we take to prevent and detect this activity may not be effective in all cases. Employee errors or misconduct could also subject us to civil claims for negligence.
Although we maintain a system of internal controls and procedures designed to reduce the risk of loss from employee or customer fraud or misconduct and employee errors as well as insurance coverage to mitigate against some operational risks, including data processing system failures and errors and customer or employee fraud; these internal controls may fail to prevent or detect such an occurrence, or such an occurrence may not be insured or exceed applicable insurance limits.
In addition, there have also been a number of cases where financial institutions have been the victim of fraud related to unauthorized wire and automated clearinghouse transactions. The facts and circumstances of each case vary but generally involve criminals posing as customers (i.e., stealing bank customers’ identities) to transfer funds out of the institution quickly in an effort to place the funds beyond recovery prior to detection. Although we have policies and procedures in place to verify the authenticity of our customers and prevent identity theft, we can provide no assurances that these policies and procedures will prevent all fraudulent transfers. In addition, although we have safeguards in place, it is possible that our computer systems could be infiltrated by hackers or other intruders resulting in loss, destruction or misuse of our data or confidential information about our customers. We can provide no assurances that these safeguards will prevent all unauthorized infiltrations or breaches. Identity theft, successful unauthorized intrusions and similar unauthorized conduct could result in reputational damage and financial losses to the Company.
An impairment charge of goodwill or other intangibles could have a material adverse impact on the Company’s results of operations and financial condition.
Because the Company has grown in part through acquisitions, goodwill and intangible assets are included in the consolidated assets. Goodwill and intangible assets were $15.6 million as of December 31, 2020. Under generally accepted accounting principles (“GAAP”), we are required to test the carrying value of goodwill and intangible assets at least annually or sooner if events occur that indicate impairment could exist. These events or circumstances could include a significant change in the business climate, including a sustained decline in a reporting unit’s fair value, legal and regulatory factors, operating performance indicators, competition and other factors. GAAP requires us to assign and then test goodwill at the reporting unit level. If over a sustained period of time we experience a decrease in our stock price and market capitalization, which may serve as an estimate of the fair value of our reporting unit, this may be an indication of impairment. If the fair value of our reporting unit is less than its net book value, we may be required to record goodwill impairment charges in the future. In addition, if the revenue and cash flows generated from any of our other intangible assets is not sufficient to support its net book value, we may be required to record an impairment charge. The amount of any impairment charge could be significant and could have a material adverse impact on our financial condition and results of operations for the period in which the charge is taken.
Changes in accounting policies or accounting standards, or changes in how accounting standards are interpreted or applied, could materially affect how the Company reports its results of operations and financial condition.
Our accounting policies are fundamental to determining and understanding our results of operation and financial condition. Some of these policies require use of estimates and assumptions that may affect the value of our assets or liabilities and financial results. Any changes in our accounting policies could materially affect our financial statements. From time to time, the Financial Accounting Standards Board (the “FASB”) and the SEC change the financial accounting and reporting standards that govern the preparation of our financial statements In addition, accounting standard setters and those who interpret the accounting standards (such as the FASB, the SEC, banking regulators and our outside auditors) may change positions on how these standards should be applied. Changes in financial accounting and reporting standards and changes in current interpretations may be beyond our control, can be difficult to predict and could materially affect how we report our results of operations and financial condition. We may be required to apply a new or revised standard retroactively or apply an existing standard differently and retroactively, which may result in the Company being required to restate prior period financial statements in material amounts. In particular, the FASB issued a new accounting standard requiring companies to estimate current expected credit losses. The standard, which is a major change for banking organizations, becomes effective for the Company on January 1, 2023. The new standard is likely to result in more timely recognition of credit losses than under the previous incurred loss model, and the Company is evaluating the extent to which the new guidance will affect results of operations.
The Company’s operations are concentrated in Iowa.
Our operations are concentrated primarily in central, north-central and south-central Iowa. As a result of this geographic concentration, our results of operations may correlate to the economic conditions in this area. Any deterioration in economic conditions in central, north-central or south-central Iowa, particularly in the industries on which the area depends (including agriculture which, in turn, is dependent upon commodity prices, weather conditions, trade policies and government support programs), may adversely affect the quality of our loan portfolio and the demand for our products and services, and accordingly, our financial condition and results of operations.
Damage to the Company’s reputation could adversely affect our business.
Our business depends upon earning and maintaining the trust and confidence of our customers, investors, and employees. Damage to our reputation could cause significant harm to our business. Harm to our reputation could arise from numerous sources, including employee misconduct, compliance failures, litigation, breach of information security, or governmental investigations, among other things. In addition, a failure to deliver appropriate standards of service, or a failure or perceived failure to treat customers and clients fairly could result in customer dissatisfaction, litigation, breach of information security, and heightened regulatory scrutiny, all of which could lead to lost revenue, higher operating costs and harm to our reputation. Adverse publicity about us, whether or not true, may also result in harm to our business. Should any events or circumstances that could undermine our reputation occur, there can be no assurance that the additional costs and expenses that we may incur in addressing such issues would not adversely affect our financial condition and results of operations.
Changes in technology could be costly.
The financial services industry is continually undergoing technological changes with frequent introductions of new technology-driven products and services. In addition to improving customer services, the effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success will depend, in part, on our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for convenience, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements and there is a risk we could become less competitive if we are unable to take advantage of these improvements due to the cost limitations or otherwise.
A breach of information security, compliance breach, or error by one of the Company’s agents or vendors could negatively affect the Company’s reputation and business.
We depend on data processing, communication and information exchange on a variety of computing platforms and networks and over the Internet. A cyber-attack on our systems could result in the theft, loss or destruction of our information or the theft or improper use of confidential information about our customers, any of which could harm our reputation. We cannot be certain all of our systems are entirely free from vulnerability to attack, despite safeguards which have been installed. We also outsource certain key aspects of our data processing and communication to certain third-party providers. While we have selected these third-party providers carefully, we cannot control their actions or their degree of compliance with their own systems of internal control. If information security is breached, or one of our service providers or vendors breaches compliance procedures, our or our customers’ information could be lost or misappropriated, resulting in financial loss or costs to us or damage to our customers or others. If information security is breached either on our systems or those of our vendors, our financial condition, results of operations, reputation and future prospects could be adversely affected.
The Company’s accounting policies and methods require management to make estimates about matters that are inherently uncertain.
Our accounting policies and methods are fundamental to how we record and report our financial condition and results of operations. Our management must exercise judgment in selecting and applying many of these accounting policies and methods in order to ensure they comply with GAAP and reflect management's judgment as to the most appropriate manner in which to record and report our financial condition and results of operations. In some cases, management must select the accounting policy or method to apply from two or more alternatives, any of which might be reasonable under the circumstances. The application of that chosen accounting policy or method might result in us reporting different amounts than would have been reported under a different alternative. If management's estimates or assumptions are incorrect, we may experience a material loss.
We have identified three accounting policies as being "critical" to the presentation of our financial condition and results of operations because they require management to make particularly subjective and complex judgments about matters that are inherently uncertain and because of the likelihood that materially different amounts would be reported under different conditions or using different assumptions. These critical accounting policies relate to (1) the fair value and possible impairment losses on investment securities available for sale, (2) the allowance for loan losses, and (3) impairment of goodwill. Because of the inherent uncertainty of the estimates required to apply these policies, no assurance can be given that application of alternative policies or methods might not result in the reporting of different amounts of the fair value of securities available for sale, the allowance for loan losses, goodwill valuation and, accordingly, net income.
From time to time, the FASB and the SEC change the financial accounting and reporting standards or the interpretation of those standards that govern the preparation of our external financial statements. These changes are beyond our control, can be difficult to predict and could materially impact how we report our financial condition and results of operations.
Changes in these standards are continuously occurring, and given the current economic and regulatory environment, more significant changes may occur. The implementation of such changes could have a material adverse effect on our financial condition and results of operations.
Strategic and External Risks
The Company may have difficulty continuing to grow, and even if we do grow, our growth may strain our resources and limit our ability to expand operations successfully.
Our future profitability will depend in part on our continued ability to grow both loans and deposits; however, we may not be able to sustain our historical growth rate or be able to grow at all. In addition, our future success will depend on competitive factors and on the ability of our senior management to continue to maintain an appropriate system of internal controls and procedures and manage a growing number of customer relationships. We may not be able to implement changes or improvements to these internal controls and procedures in an efficient or timely manner and may discover deficiencies in existing systems and controls. Consequently, continued growth, if achieved, may place a strain on our operational infrastructure, which could have a material adverse effect on our financial condition and results of operations.
The Company faces competition from larger financial institutions.
The banking and financial services business in our market area continues to be a highly competitive field and is becoming more competitive as a result of:
●
changes in regulations;
●
changes in technology and product delivery systems; and
●
the accelerating pace of consolidation among financial services providers.
It may be difficult for us to compete effectively in the market, and our results of operations could be adversely affected by the nature or pace of change in competition. We compete for loans, deposits and customers with various bank and non-bank financial services providers, many of which are much larger in total assets and capitalization, have greater access to capital markets, offer a broader array of financial services or do not pay federal income taxes. Our strategic planning efforts continue to focus on capitalizing on our strengths in local markets while working to identify opportunities for improvement to gain competitive advantages.
Federal Government Spending and increase in monetary supply could adversely affect our business.
The banking and financial services business is negatively affected by increased federal government spending and the increased monetary supply. The increase in the balances of customers deposit accounts due to government stimulus programs and increase in the monetary supply puts a strain on the Company’s capital ratios. The increase in the money supply also keeps interest rates at historically low levels and may cause inflation. Our business, financial condition and results of operations may be adversely affected by these changes if continued over a period of time.
The Company may be adversely affected by risks associated with completed and potential acquisitions.
We have in the past, and may in the future, acquire other financial institutions or bank offices when we believe such acquisitions support our business strategy. Acquisitions involve many risks including: (i) incurring time and expense associated with identifying, evaluating and negotiating potential acquisitions, resulting in management’s attention being diverted from operation of our existing business, (ii) the risk that the acquired business will not perform to our expectations, including a failure to realize anticipated synergies or costs savings, (iii) entering markets in which we have limited or no direct prior experience, (iv) difficulties or increased expenses associated with integrating the operations of the acquired business, (v) the potential for claims or unexpected liabilities arising out of the acquired business, and (vi) the potential loss of key employees or customers of the acquired business. There can be no assurance that we will be successful in overcoming these risks or any other problems encountered in connection with acquisitions we may undertake.
Current and future government regulations may increase the Company’s costs of doing business.
Current and future legislation and the policies established by federal and state regulatory authorities will affect our operations. We are subject to extensive supervision of, and examination by, federal and state regulatory authorities which may limit our growth and the return to our shareholders by restricting certain activities, such as:
●
the payment of dividends to our shareholders;
●
the payment of dividends to the Company by the Banks;
●
possible mergers with or acquisitions of or by other institutions;
●
investment policies;
●
loans and interest rates on loans;
●
interest rates paid on deposits;
●
expansion of branch offices; and/or
●
the ability to provide or expand securities or trust services.
The Dodd-Frank Act represented a comprehensive overhaul of the financial services industry within the United States and, among many other things, established the federal BCFP and required the BCFP and other federal agencies to implement many significant rules and regulations. Compliance with the law and regulations has resulted in additional costs, and not all the rules and regulations have been finalized.
We cannot predict what changes, if any, will be made to existing federal and state legislation and regulations or the effect that any changes may have on future business and earnings prospects, although the pace of the new and proposed regulations have slowed. The cost of compliance with future regulatory requirements may adversely affect our net income.
Severe weather, natural disasters, pandemics, acts of war or terrorism or other adverse external events could significantly impact our business.
Severe weather, natural disasters, widespread disease or pandemics, acts of war or terrorism or other adverse external events could have a significant impact on our ability to conduct business. In addition, such events could affect the stability of our deposit base, impair the ability of borrowers to repay outstanding loans, impair the value of collateral securing loans, cause significant property damage, result in loss of revenue or cause us to incur additional expenses. The COVID-19 pandemic may have an adverse impact on our customers that are directly or indirectly engaged in industries that could be affected by the pandemic, such as, hospitality and entertainment. Their businesses may be adversely affected by quarantines and travel restrictions in areas most affected by the COVID-19 pandemic. In addition, entire industries, such as agriculture, may be adversely impacted due to lower exports caused by reduced economic activity in the affected areas. As a result, the COVID-19 pandemic may materially and adversely impact various aspects of our operations and financial results, by requiring us to take certain responsive actions, including but not limited to, increasing our loan loss reserves, incurring costs for emergency preparedness, closing branch offices or branch operations and requiring that employees work remotely, which may lead to personnel shortages. The occurrence of any of the events in the future could have a material adverse effect on our business, financial condition, results of operations and growth prospects.
Risks related to the Company’s Stock
The Company may not pay dividends on its common stock in the future.
Holders of our common stock are entitled to receive only such dividends as our Board of Directors may declare out of funds legally available for such payments. However, our Board of Directors may, in its sole discretion, change the amount or frequency of dividends or discontinue the payment of dividends entirely. In addition, we are a bank holding company, and our ability to declare and pay dividends is dependent on certain federal regulatory considerations, including the guidelines of the Federal Reserve regarding capital adequacy and dividends. In addition, our ability to pay dividends depends primarily on our receipt of dividends from our Banks, the payment of which is subject to numerous limitations under federal and state banking laws, regulations and policies. See "Item 1. Business-Supervision and Regulation-Dividends." As a consequence of these various limitations and restrictions, we may not be able to make, or may have to reduce or eliminate, the payment of dividends on our common stock. Any change in the level of our dividends or the suspension of the payment thereof could have a material adverse effect on the market price of our common stock.
Risk related to volatility of the Company’s stock.
The trading volume in our common stock on the NASDAQ Capital Market is relatively limited compared to those of companies with larger capitalization listed on the NASDAQ Capital Market, the NASDAQ Global Markets, the New York Stock Exchange or other consolidated reporting systems or stock exchanges. A change in the supply or demand for our common stock, or other events affecting our business, may have a more significant impact on the price of our stock than would be the case for more actively traded companies.
The Company’s common stock is currently included in the Russell 3000 index. Stocks that are to be included in the Russell 3000 index are determined annually based on market capitalization in May. Stocks that are no longer included in the Russell 3000 index when it is reconstituted in June of this year may have less market demand for the purchase of their stock, which may put downward pressure on their stock price. There is a possibility that the Company’s market capitalization will no longer qualify for its inclusion in the Russell 3000 index when it is reconstituted in June.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.

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ITEM 2. PROPERTIES
ITEM 2. PROPERTIES
The Company's office is housed in the main office of First National located at 405 5th Street, Ames, Iowa and occupies approximately 4,200 square feet. There is a lease agreement between the Company and First National. The main office owned by First National, consists of approximately 45,000 square feet. In addition to its main office, First National conducts its business through eight full-service offices, the West Ames office, North Grand office, Ankeny office, West Glen office, Valley Junction office, Johnston office, Downtown Osceola office, and Jeffreys office. The West Ames and North Grand offices are located in Ames, Iowa. The office in Ankeny, Iowa occupies approximately 14,000 square feet, of which approximately 2,188 square feet is leased to three tenants for business purposes. The West Glenn office is located in West Des Moines, Iowa and occupies approximately 12,500 square feet and is leased from the Company. The West Glen office leases approximately 2,000 square feet to one tenant. The Valley Junction office is located in West Des Moines, Iowa. The Johnston office is leased and consists of 3,800 square feet. The Downtown Osceola and Jefferies offices are located in Osceola, Iowa. All of the properties owned by the Company and First National are free of any mortgages.
State Bank conducts its business from its main office located at 1025 Sixth Street, Nevada, Iowa. This property is owned by State Bank free of any mortgage.
Boone Bank conducts its business from its main office located at 716 Eighth Street, Boone, Iowa and from one additional office also located in Boone, Iowa. All properties are owned by Boone Bank free of any mortgage.
Reliance Bank conducts its business from its main office located at 606 Broad Street, Story City, Iowa. Approximately 11,400 square feet of the Story City office is leased to twelve individual tenants and one commercial tenant. Reliance also has a full-service office located in Garner, Iowa. All properties are owned by Reliance Bank free of any mortgage.
United Bank conducts its business from its main office located at 2101 South Center Street, Marshalltown, Iowa and from a full-service office also located in Marshalltown, Iowa. All properties are owned by United Bank free of any mortgage.
Iowa State Bank’s main office is located at 401 West Adams Street, Creston, Iowa. In addition to its main office, Iowa State Bank conducts its business through two full-service offices, the Highway 34 office and Lenox office. The Highway 34 office is located in Creston, Iowa. All properties are owned by Iowa State Bank free of any mortgage.

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ITEM 3. LEGAL PROCEEDINGS
ITEM 3. LEGAL PROCEEDINGS
The Banks are from time-to-time parties to various legal actions arising in the normal course of business. The Company believes that there is no threatened or pending proceeding against the Company or the Banks, which, if determined adversely, would have a material adverse effect on the business or financial condition of the Company or the Banks.

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ITEM 4. MINE SAFETY DISCLOSURE
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
PART II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
On February 26, 2021, the Company had approximately 285 shareholders of record and approximately 2,185 additional beneficial owners whose shares were held in nominee titles through brokerage or other accounts. The Company’s common stock is traded on the NASDAQ Capital Market under the symbol “ATLO”. Trading in the Company’s common stock is, however, relatively limited. The closing price of the Company’s common stock was $22.86 on February 26, 2021.
The Company declared aggregate annual cash dividends in 2020 and 2019 of approximately $6,859,000 and $8,861,000, respectively, or $0.75 per share in 2020 and $0.96 per share in 2019. In January 2021, the Company declared a quarterly cash dividend of approximately $2,281,000 or $0.25 per share.
The decision to declare cash dividends in the future and the amount thereof rests within the discretion of the Board of Directors of the Company and will be subject to, among other things, the future earnings, capital requirements and financial condition of the Company and certain regulatory restrictions imposed on the payment of dividends by the Banks. Such restrictions are discussed in greater detail in Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources and in Note 16 (Regulatory Matters) to the Company’s financial statements included herein.
The Company does not maintain or sponsor any equity compensation plans covering its executives or employees of the Company or the Banks.
No Stock Repurchase Plan is in place as of December 31, 2020, as the previous Stock Repurchase Plan was completed in 2020 and no new Stock Repurchase Plan was approved. In November 2019, the Board of Directors approved a Stock Repurchase Plan which provided for the repurchase of up to 100,000 shares of the Company’s common stock. This Stock Repurchase Plan replaced the previous Stock Repurchase Plan (approved in November 2018) that expired in November 2019. The Company purchased 100,000 shares in 2020 and 70,558 shares in 2019 under the Stock Repurchase Plans that were in effect during 2020 and 2019.
The following table provides information with respect to purchases made by or on behalf of the Company or any “affiliated purchaser” (as defined in rule 10b-18(a)(3) under the Securities Exchange Act of 1934), of the Company’s common stock during the three months ended December 31, 2020.
Total
Number
Maximum
of Shares
Number of
Purchased as
Shares that
Total
Part of
May Yet Be
Number
Average
Publicly
Purchased
of Shares
Price Paid
Announced
Under
Period
Purchased
Per Share
Plans
The Plan
October 1, 2020 to October 31, 2020 (1)
-
$ -
-
-
November 1, 2020 to November 30, 2020 (1) and (2)
-
$ -
-
-
December 1, 2020 to December 31, 2020 (2)
-
$ -
-
-
Total
-
-
(1)
The Stock Repurchase Plan adopted in November, 2019 expired in November, 2020 and no shares remain available for purchase under this plan. No purchases were made under this plan during October or November, 2020.
(2)
There is no Stock Repurchase Plan in effect after the Stock Repurchase Plan expired in November, 2020.

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ITEM 6. SELECTED FINANCIAL DATA
ITEM 6. SELECTED FINANCIAL DATA
The following financial data of the Company for the five years ended December 31, 2016 through 2020 is derived from the Company's historical audited financial statements and related footnotes. The information set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operation" and the consolidated financial statements and related notes contained elsewhere in this Annual Report.
Selected Financial Data
Years Ended December 31,
(dollars in thousands, except per share amounts)
STATEMENT OF INCOME DATA
Interest income
$ 62,941
$ 56,177
$ 49,727
$ 45,794
$ 44,046
Interest expense
8,098
10,929
7,603
5,581
4,135
Net interest income
54,843
45,248
42,124
40,213
39,911
Provision for loan losses
5,681
1,314
1,520
Net interest income after provision for loan losses
49,162
43,934
41,485
38,693
39,387
Noninterest income
10,620
8,629
7,901
7,993
8,088
Noninterest expense
36,551
31,522
27,966
25,405
24,935
Income before provision for income tax
23,231
21,041
21,420
21,281
22,540
Provision for income tax
4,381
3,847
4,406
7,584
6,805
Net income
$ 18,850
$ 17,194
$ 17,014
$ 13,697
$ 15,735
DIVIDENDS AND EARNINGS PER SHARE DATA
Cash dividends declared*
$ 6,859
$ 8,861
$ 10,890
$ 8,194
$ 7,821
Cash dividends declared per share*
$ 0.75
$ 0.96
$ 1.17
$ 0.88
$ 0.84
Basic and diluted earnings per share
$ 2.06
$ 1.86
$ 1.83
$ 1.47
$ 1.69
Weighted average shares outstanding
9,148,244
9,236,989
9,309,649
9,310,913
9,310,913
BALANCE SHEET DATA
Total assets
$ 1,975,648
$ 1,737,183
$ 1,455,687
$ 1,375,060
$ 1,366,453
Net loans
1,129,505
1,048,147
890,461
771,500
752,182
Deposits
1,716,446
1,493,175
1,221,084
1,134,391
1,109,409
Stockholders' equity
209,486
187,579
172,865
170,753
165,105
Equity to assets ratio
10.60 %
10.80 %
11.88 %
12.42 %
12.08 %
FIVE YEAR FINANCIAL PERFORMANCE
Net income
$ 18,850
$ 17,194
$ 17,014
$ 13,697
$ 15,735
Average assets
1,866,188
1,504,176
1,384,740
1,368,680
1,330,906
Average stockholders' equity
198,880
181,300
168,703
170,762
167,750
Return on assets (net income divided by average assets)
1.01 %
1.14 %
1.23 %
1.00 %
1.18 %
Return on equity (net income divided by average equity)
9.48 %
9.48 %
10.09 %
8.02 %
9.38 %
Net interest margin (net interest income divided by average earning assets)**
3.13 %
3.21 %
3.23 %
3.25 %
3.36 %
Efficiency ratio (noninterest expense divided by noninterest income plus net interest income)
55.83 %
58.51 %
55.90 %
52.70 %
51.95 %
Dividend payout ratio (dividends per share divided by net income per share)*
36.41 %
51.61 %
63.93 %
59.86 %
49.70 %
Dividend yield (dividends per share divided by closing year-end market price)*
3.12 %
3.42 %
4.60 %
3.16 %
2.55 %
Equity to assets ratio (average equity divided by average assets)
10.66 %
12.05 %
12.18 %
12.48 %
12.60 %
* Prior to 2020, dividends were declared in one quarter and then paid in the subsequent quarter. For the quarter ended December 31, 2020 the dividend was not declared until January 13, 2021 and will be paid in the first quarter of 2021.
** See page 32 for further discussion of this Non-GAAP financial measure.

---

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
The following discussion is provided for the consolidated operations of the Company and its Banks. The purpose of this discussion is to focus on significant factors affecting the Company's financial condition and results of operations.
The Company does not engage in any material business activities apart from its ownership of the Banks. Products and services offered by the Banks are for commercial and consumer purposes, including loans, deposits and wealth management services. Some Banks also offer investment services through a third-party broker-dealer. The Company employs 15 individuals to assist with financial reporting, human resources, marketing, audit, compliance, technology systems, property appraisals, training and the coordination of management activities, in addition to 265 full-time equivalent individuals employed by the Banks.
The Company’s primary competitive strategy is to utilize seasoned and competent Bank management and local decision-making authority to provide customers with prompt response times and flexibility in the products and services offered. This strategy is viewed as providing an opportunity to increase revenues through the creation of a competitive advantage over other financial institutions. The Company also strives to remain operationally efficient to improve profitability while enabling the Banks to offer more competitive loan and deposit rates.
The principal sources of Company revenues and cash flows are: (i) interest and fees earned on loans made or held by the Company and Banks; (ii) interest on investments, primarily on bonds, held by the Banks; (iii) fees on wealth management services; (iv) service charges on deposit accounts maintained at the Banks; (v) merchant and card fees; (vi) gain on the sale of loans held for sale; and (vii) securities gains. The Company’s principal expenses are: (i) interest expense on deposit accounts and other borrowings; (ii) salaries and employee benefits; (iii) data processing costs primarily associated with maintaining the Banks’ loan and deposit functions; (iv) occupancy expenses for maintaining the Banks’ facilities; (v) professional fees; and (vi) business development. The largest component contributing to the Company’s net income is net interest income, which is the difference between interest earned on earning assets (primarily loans and investments) and interest paid on interest-bearing liabilities (primarily deposit accounts and other borrowings). One of management’s principal functions is to manage the spread between interest earned on earning assets and interest paid on interest-bearing liabilities in an effort to maximize net interest income while maintaining an appropriate level of interest rate risk.
The Company reported net income of $18,850,000 for the year ended December 31, 2020 compared to $17,194,000 for the year ended December 31, 2019. This represents an increase in net income of 9.6% when comparing 2020 with 2019. The improvement in earnings in 2020 from 2019 is primarily the result of the Iowa State Bank Acquisition (the “Acquisition”) and a reduction in interest expense due to declines in market rates, offset in part by an increase in the provision for loan losses. Earnings per share for 2020 were $2.06 compared to $1.86 in 2019. All six Banks demonstrated profitable operations during 2020 and 2019.
The Company’s return on average equity for 2020 and 2019 was 9.48% for both periods. The return on average assets for 2020 was 1.01% compared to 1.14% in 2019. The decrease in return on return on average assets when comparing 2020 to 2019 was primarily a result of a higher asset base due to the increase in deposits.
The following discussion will provide a summary review of important items relating to:
●
Challenges and COVID-19 Status, Risks and Uncertainties
●
Key Performance Indicators
●
Industry Results
●
Critical Accounting Policies
●
Non-GAAP Financial Measures
●
Income Statement Review
●
Balance Sheet Review
●
Asset Quality Review and Credit Risk Management
●
Liquidity and Capital Resources
●
Interest Rate Risk
●
Inflation
●
Forward-Looking Statements and Business Risks
Challenges and COVID-19 Status, Risks and Uncertainties
Management has identified certain events or circumstances that have the potential to negatively impact the Company’s financial condition and results of operations in the future and is attempting to position the Company to best respond to those challenges.
●
If interest rates increase significantly over a relatively short period of time due to higher inflationary numbers or other factors, the interest rate environment may present a challenge to the Company. Increases in interest rates may negatively impact the Company’s net interest margin if interest expense increases more quickly than interest income, thus placing downward pressure on net interest income. The Company’s earning assets (primarily its loan and investment portfolio) have longer maturities than its interest-bearing liabilities (primarily deposits and other borrowings); therefore, in a rising interest rate environment, interest expense will tend to increase more quickly than interest income as the interest-bearing liabilities reprice more quickly than earning assets, resulting in a reduction in net interest income. In response to this challenge, the Banks model quarterly the changes in income that would result from various changes in interest rates. Management believes Bank earning assets have the appropriate maturity and repricing characteristics to optimize earnings and the Banks’ interest rate risk positions.
●
If market interest rates in the three to five year term remain at low levels as compared to the short term interest rates, the interest rate environment may present a challenge to the Company. The Company’s earning assets (typically priced at market interest rates in the three to five year range) will reprice at lower interest rates, but the deposits will not reprice at significantly lower interest rates, therefore the net interest income may decrease. Management believes Bank earning assets have the appropriate maturity and repricing characteristics to optimize earnings and the Banks’ interest rate risk positions.
●
The agricultural community is subject to commodity price fluctuations. Extended periods of low commodity prices, higher input costs or poor weather conditions could result in reduced profit margins, reducing demand for goods and services provided by agriculture-related businesses, which, in turn, could affect other businesses in the Company’s market area. Moreover, changes in U.S. trade policy could create further volatility for commodities prices as the volume of exports of agricultural products to these foreign markets could be adversely impacted. Lastly, uncertainty regarding governmental mandates affecting ethanol production could reduce the demand for corn in the Company’s trade area, thus introducing further price volatility for this commodity. Any combination of these factors could produce losses within the Company's agricultural loan portfolio and in the commercial loan portfolio with respect to borrowers whose businesses are directly or indirectly impacted by the health of the agricultural economy.
The Company conducts business in the State of Iowa and Iowa began to place significant restrictions on companies and individuals on March 9, 2020 as a result of the COVID-19 pandemic. The State of Iowa has eased many of the restrictions related to the COVID-19 pandemic. As an organization that focuses on community banking, we are concerned about the health of our customers, employees and local communities and keep that thought at the forefront of our decisions. The Company’s bank lobbies are open to the public, with business also being transacted through our drive up facilities, online, telephone or by appointment.
The onset and continuation of the COVID-19 pandemic has significantly heightened the level of challenges, risks and uncertainties facing our business and continuation of operations, including the following:
●
As the economic slowdown continues to evolve due to the pandemic, some of the Company’s customers may experience decreased revenues, which may correlate to an inability to make timely loan payments or maintain payrolls. This, in turn, could adversely impact the revenues and earnings of the Company by, among other things, requiring further increases in the allowance for loan losses and increases in the level of charge-offs in the loan portfolio. Management anticipates additional increases in the allowance if the effects of the COVID-19 pandemic continue to negatively impact the loan portfolio.
●
Market interest rates have declined significantly and these reductions, especially if prolonged, could adversely affect our net interest income, net interest margin and earnings;
●
We may experience a potential slowdown in demand for our products and services, including the demand for traditional loans, although we believe the decline may be offset, in whole or in part, due to the new volume of PPP loans under the CARES Act and other governmental programs established in response to the pandemic;
●
We have experienced, and anticipate we will continue to experience, an increase in risk of delinquencies, defaults and foreclosures, as well as declining collateral values and further impairment of the ability of our borrowers to repay their loans, all of which may result in additional credit charges and other losses in our loan portfolio;
●
Goodwill is currently evaluated for impairment quarterly and goodwill has been determined to not be impaired as of December 31, 2020. In the future goodwill may be impaired if the effects of the economic slowdown negatively impacts our net income and fair value, particularly of our most recent acquisition. An impairment of goodwill would decrease the Company’s earnings during the period in which the impairment is recorded;
●
Declines in fair value of investment securities in our portfolio could result in impairment charges and reduce the unrealized gains reported as part of our consolidated comprehensive income (loss); and
●
In meeting our objective to maintain our capital levels and liquidity position through the COVID-19 pandemic, our Board of Directors could reduce or determine to altogether forego payment of future dividends in order to maintain and/or strengthen our capital and liquidity position.
Key Performance Indicators
Certain key performance indicators for the Company and the industry are presented in the following chart. The industry figures are compiled by the Federal Deposit Insurance Corporation (FDIC) and are derived from 5,001 commercial banks and savings institutions insured by the FDIC. Management reviews these indicators on a quarterly basis for purposes of comparing the Company’s performance from quarter to quarter against the industry as a whole.
Selected Indicators for the Company and the Industry
Years Ended December 31,
Company
Industry
Company
Industry
Company
Industry
Return on assets
1.01 %
0.72 %
1.14 %
1.29 %
1.23 %
1.35 %
Return on equity
9.48 %
6.88 %
9.48 %
11.38 %
10.09 %
11.98 %
Net interest margin
3.13 %
2.82 %
3.21 %
3.36 %
3.23 %
3.40 %
Efficiency ratio
55.83 %
59.78 %
58.51 %
56.63 %
55.90 %
56.27 %
Capital ratio
10.66 %
8.81 %
12.05 %
9.66 %
12.18 %
9.70 %
Key performance indicators include:
●
Return on Assets
This ratio is calculated by dividing net income by average assets. It is used to measure how effectively the assets of the Company are being utilized in generating income. The Company’s return on assets ratio was higher than the industry average for 2020.
●
Return on Equity
This ratio is calculated by dividing net income by average equity. It is used to measure the net income or return the Company generated for the shareholders’ equity investment in the Company. The Company’s return on equity ratio was higher than the industry average for 2020.
●
Net Interest Margin
This ratio is calculated by dividing tax-equivalent net interest income by average earning assets. Earning assets consist primarily of loans and investments that earn interest. This ratio is used to measure how well the Company is able to maintain interest rates on earning assets above those of interest-bearing liabilities, which is the interest expense paid on deposit accounts and other borrowings. The Company’s net interest margin was higher than the industry average for 2020.
●
Efficiency Ratio
This ratio is calculated by dividing noninterest expense by net interest income and noninterest income. The ratio is a measure of the Company’s ability to manage noninterest expenses. The Company’s efficiency ratio was lower than the industry average for 2020.
●
Capital Ratio
The capital ratio is calculated by dividing average total equity capital by average total assets. It measures the level of average assets that are funded by shareholders’ equity. Given an equal level of risk in the financial condition of two companies, the higher the capital ratio, generally the more financially sound the company. The Company’s capital ratio was higher than the industry average for 2020.
Industry Results
The FDIC Quarterly Banking Profile reported the following results for the fourth quarter of 2020:
Full-Year 2020 Net Income Declines 36.5% to $147.9 Billion
For the 5,001 FDIC-insured commercial banks and savings institutions, full-year 2020 net income totaled $147.9 billion, a decline of $84.9 billion (36.5%) from 2019. The decline was primarily attributable to higher provision expenses in the first half of 2020 tied to pandemic-related deterioration in economic activity. Provision expenses increased by $77.1 billion (140%), and net interest income declined by $20 billion (3.7%). Average net interest margin (NIM) declined by 54 basis points from 2019 to 2.82%, as the yield on average earning assets declined at a faster rate than the cost of funds. The average return on assets (ROA) ratio declined from 1.29% in 2019 to 0.72% in 2020.
Quarterly Net Income Increases 9.1% From a Year Ago to $59.9 Billion
Fourth quarter 2020 quarterly net income totaled $59.9 billion, an increase of $5 billion (9.1%) from a year ago. The primary driver of higher net income this quarter was the reduction in provision expenses. More than half of all banks (57.4%) reported year-over-year increases in quarterly net income. The share of unprofitable institutions remained relatively stable from a year ago at 7.3%. The average ROA ratio was 1.11% during fourth quarter 2020, down 8 basis points from a year ago but below a recent high of 1.41% in third quarter 2018.
Net Interest Margin Remains Unchanged From Third Quarter and at a Record Low Level
The banking industry reported aggregate net interest income of $131.3 billion during the fourth quarter, a decline of $5.4 billion (3.9%) from a year ago. This marks the fifth consecutive quarter that net interest income declined. Almost 43% of all banks reported annual declines in net interest income. The average NIM was 2.68% in fourth quarter 2020, unchanged from the third quarter but down 60 basis points from fourth quarter 2019. Banks of all asset size groups featured in the Quarterly Banking Profile (QBP) reported average NIM compression relative to a year ago, as the contraction in earning asset yields exceeded the decline in funding costs. At fourth quarter 2020, both earning asset yields and funding costs dropped to the lowest levels ever reported in the QBP.
Noninterest Income Expands 6.5% From the Year-Ago Quarter
Noninterest income rose by $4.3 billion (6.5%) from a year ago, with nearly 61% of all banks reporting annual increases. The annual improvement in noninterest income was led by the growth in net gains on loan sales, which rose by $3.9 billion (104%), and net gains on sales of other assets, which increased by $1.6 billion. Trading revenue, which was the largest dollar contributor to the overall increase in noninterest income during second quarter 2020, declined for the second consecutive quarter and was down $799.7 million (11%) from fourth quarter 2019.
Noninterest Expense Increases Almost 3% From a Year Ago
Noninterest expense rose by $3.3 billion (2.7%) from a year ago, as almost two-thirds of all banks (66.4%) reported annual increases. The rise in noninterest expense was driven by higher salary and employee benefit expenses, which expanded by $3.7 billion (6.6%). The average assets per employee increased from $9 million in fourth quarter 2019 to $10.6 million in fourth quarter 2020.
Provisions for Credit Losses Decline to the Lowest Level Since Second Quarter 1995
With the improving economic outlook, provisions for credit losses decreased by $11.4 billion (76.5%) from a year ago to $3.5 billion, the lowest level since second quarter 1995. The decline in provisions for credit losses was not broad-based, as less than one-third (31.2%) of all banks reported year-over-year declines. In the fourth quarter, 279 banks used the current expected credit losses (CECL) accounting standard and reported an aggregate $1.4 billion in provisions for credit losses, down $ 11.2 billion (88.9%) from a year ago. For non-CECL adopters, provisions for credit losses totaled $2.1 billion, down $ 186.6 million (8.2%) from a year ago.
The Net Charge-Off Rate Falls 13 Basis Points From Fourth Quarter 2019
The net charge-off rate fell by 13 basis points from fourth quarter 2019 to 0.41%. Net charge-offs totaled $11.2 billion, down $2.8 billion (19.7%) from a year ago. The year-over-year decline in net charge-offs was driven by the reduction in credit card loan charge offs (down $3.4 billion, or 39.7%). Net charge-offs on nonfarm nonresidential (NFNR) properties increased by $657.9 million (348.3%) from a year ago. The net charge-off rate for NFNR properties increased by 17 basis points from a year ago to 0.22% but remained below the high of 1.40% in fourth quarter 2010. The net charge-off rate for the commercial and industrial (C&I) loan portfolio increased by 4 basis points from a year ago to 0.47%, below the recent high of 0.64% in second quarter 2020.
The Noncurrent Loan Rate Expands Modestly to 1.18%
The noncurrent rate rose by 1 basis point from third quarter 2020 to 1.18%. Noncurrent loan balances (90 days or more past due or in nonaccrual status) increased by $944.9 million (0.7%) from the previous quarter. One-third of all banks (33.3%) reported quarterly increases in noncurrent loan balances. The quarterly increase in noncurrent loan balances was led by NFNR properties (up $2.1 billion, or 15.7%) and credit card balances (up $1.4 billion, or 17%). The noncurrent rate for NFNR properties increased by 13 basis points to 1.00% in the fourth quarter 2020, while the noncurrent rate for credit card balances rose by 13 basis points to 1.16%.
Total Assets Increase 3.1% From the Previous Quarter
Total assets increased by $664 billion (3.1%) from third quarter 2020. The banking industry’s liquidity position continued to strengthen. Cash and balances due from depository institutions rose by $357 billion (12.6%), and security holdings posted a record high quarterly dollar increase of $321.4 billion (6.7%). Mortgage-backed securities increased by $244.9 billion (8.8%).
Loan Balances Decline From the Previous Quarter, Led by Lower Commercial and Industrial Lending Activity
Total loan and lease balances totaled $10.9 trillion in fourth quarter 2020, $47.7 billion (0.4%) less than third quarter 2020. The quarterly decline in total loan and leases balances was led by the C&I loan portfolio, which fell by $103.8 billion (4.1%). Small Business Administration-guaranteed Paycheck Protection Program loans declined by $83.9 billion (17.1%) from the previous quarter. The decline in the C&I loan portfolio was partially offset by increases in loans to nondepository financial institutions (up $30.2 billion, or 5.5%) and credit card balances (up $25.6 billion, or 3.2%). Total loan and lease balances increased by $345 billion (3.3%) from a year ago, the lowest annual growth rate since fourth quarter 2013. The annual increase in total loan and lease balances was driven by the C&I loan portfolio, which rose by $232.8 billion (10.6%), primarily in the first half of 2020.
Deposits Increase 4.1% From Third Quarter 2020
Total deposit balances rose by $706.9 billion (4.1%) between the third and fourth quarters of 2020. While the quarterly growth in deposits is below the levels reported in the first half of 2020, it is the third largest quarterly dollar increase ever reported in the QBP. Interest-bearing account balances rose by $399.2 billion (3.5%), and noninterest-bearing account balances expanded by $220.5 billion (5%). Deposits in accounts with balances larger than $250,000 increased by $467.5 billion (5.4%) from the previous quarter. Nondeposit liabilities fell by $124.2 billion (11.1%) from the previous quarter, led by Federal Home Loan Bank advances that declined by $48.5 billion (15.9%).
Equity Capital Increases Almost 2% From the Previous Quarter
Equity capital totaled $2.2 trillion in fourth quarter 2020, up $41.9 billion (1.9%) from the previous quarter. Declared dividends totaled $21.8 billion, down $27.4 billion (55.7%) from fourth quarter 2019. Seven insured institutions with $498.4 million in total assets were below the requirements for the well-capitalized category as defined for Prompt Corrective Action.
Three New Banks Open in Fourth Quarter 2020
The number of FDIC-insured commercial banks and savings institutions that filed quarterly Call Reports declined from 5,033 in third quarter 2020 to 5,001 in fourth quarter 2020. Three new banks were added, 31 institutions were absorbed by mergers, two banks failed, one bank sold most of its assets to a credit union, and one bank did not file in time for this analysis. For full-year 2020, six new banks were added, 168 institutions were absorbed by mergers, and four banks failed. The number of institutions on the FDIC’s “Problem Bank List” remained unchanged from the previous quarter at 56. Total assets of problem banks increased from $53.9 billion in third quarter 2020 to $55.8 billion in fourth quarter 2020.
Critical Accounting Policies
The discussion contained in this Item 7 and other disclosures included within this Annual Report are based on the Company’s audited consolidated financial statements which appear in Item 8 of this Annual Report. These statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The financial information contained in these statements is, for the most part, based on the financial effects of transactions and events that have already occurred. However, the preparation of these statements requires management to make certain estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses.
The Company’s significant accounting policies are described in the “Notes to Consolidated Financial Statements” accompanying the Company’s audited financial statements. Based on its consideration of accounting policies that involve the most complex and subjective estimates and judgments, management has identified the allowance for loan losses, the fair value determination of investment securities and the assessment of goodwill to be the Company’s most critical accounting policies.
Allowance for Loan Losses
The allowance for loan losses is established through a provision for loan losses that is treated as an expense and charged against earnings. Loans are charged against the allowance for loan losses when management believes that collectability of the principal is unlikely. The Company has policies and procedures for evaluating the overall credit quality of its loan portfolio, including timely identification of potential problem loans. On a quarterly basis, management reviews the appropriate level for the allowance for loan losses, incorporating a variety of risk considerations, both quantitative and qualitative. Quantitative factors include the Company’s historical loss experience, delinquency and charge-off trends, collateral values, known information about individual loans and other factors. Qualitative factors include various considerations regarding the general economic environment in the Company’s market area. To the extent actual results differ from forecasts and management’s judgment, the allowance for loan losses may be greater or lesser than future charge-offs. Due to potential changes in conditions, including the economic disruption and uncertainties resulting from the COVID-19 pandemic, it is at least reasonably possible that change in estimates will occur in the near term and that such changes could be material to the amounts reported in the Company’s financial statements.
For further discussion concerning the allowance for loan losses and the process of establishing specific reserves, see the section of this Annual Report entitled “Asset Quality Review and Credit Risk Management” and “Analysis of the Allowance for Loan Losses”.
Fair Value of Investment Securities
The Company’s securities available-for-sale portfolio is carried at fair value with “fair value” being defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability is not adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact, and (iv) willing to transact.
Declines in the fair value of available-for-sale securities below their cost that are deemed to be other-than-temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses, management considers (1) the intent to sell the investment securities and the more likely than not requirement that the Company will be required to sell the investment securities prior to recovery (2) the length of time and the extent to which the fair value has been less than cost and (3) the financial condition and near-term prospects of the issuer. Due to potential changes in conditions, including the economic disruption and uncertainties resulting from the COVID-19 pandemic, it is at least reasonably possible that changes in management’s assessment of other-than-temporary impairment will occur in the near term and that such changes could be material to the amounts reported in the Company’s financial statements.
Goodwill
Goodwill arose in connection with four acquisitions consummated in previous periods. Goodwill is tested annually for impairment or more often if conditions indicate a possible impairment. For the purposes of goodwill impairment testing, determination of the fair value of a reporting unit involves the use of significant estimates and assumptions. Impairment would arise if the fair value of a reporting unit is less than its carrying value. Due to the economic weakness resulting from the COVID-19 pandemic, the Company completed a quantitative assessment of goodwill as of May 31, 2020 which indicated that goodwill was not impaired. Subsequently, the Company determined there were no adverse changes in criteria and key considerations to the previous assessment. Accordingly, the Company concluded that there is no impairment of goodwill as of December 31, 2020. Goodwill may be impaired in the future if actual future test results differ from the present evaluation of impairment due to changes in the conditions used in the current evaluation. The effects of the COVID-19 pandemic may negatively impact our net income, fair value and correspondingly goodwill. An impairment of goodwill would decrease the Company’s earnings during the period in which the impairment is recorded.
Non-GAAP Financial Measures
This Annual report contains references to financial measures that are not defined in GAAP. Such non-GAAP financial measures include the Company’s presentation of net interest income and net interest margin on a fully taxable equivalent (FTE) basis. Management believes these non-GAAP financial measures are widely used in the financial institutions industry and provide useful information to both management and investors to analyze and evaluate the Company’s financial performance. Limitations associated with non-GAAP financial measures include the risks that persons might disagree as to the appropriateness of items included in these measures and that different companies might calculate these measures differently. These non-GAAP disclosures should not be considered an alternative to the Company’s GAAP results. The following table reconciles the non-GAAP financial measures of net interest income and net interest margin on an FTE basis to GAAP (dollars in thousands).
Reconciliation of net interest income and annualized net interest margin on an FTE basis to GAAP:
Net interest income (GAAP)
$ 54,843
$ 45,248
Tax-equivalent adjustment (1)
1,076
Net interest income on an FTE basis (non-GAAP)
55,808
46,324
Average interest-earning assets
$ 1,784,285
$ 1,442,707
Net interest margin on an FTE basis (non-GAAP)
3.13 %
3.21 %
(1) Computed on a tax-equivalent basis using an incremental federal income tax rate of 21 percent for the years ended December 31, 2020 and 2019, adjusted to reflect the effect of the nondeductible interest expense associated with owning tax-exempt securities and loans.
Income Statement Review
The following highlights a comparative discussion of the major components of net income and their impact for the last two years.
Average Balances and Interest Rates
The following two tables are used to calculate the Company’s non-GAAP net interest margin on an FTE basis. The first table includes the Company’s average assets and the related income to determine the average yield on earning assets. The second table includes the average liabilities and related expense to determine the average rate paid on interest-bearing liabilities. The net interest margin is equal to the interest income less the interest expense divided by average earning assets. Refer to the net interest income discussion following the tables for additional detail. (dollars in thousands)
ASSETS
Average
Revenue/
Yield/
Average
Revenue/
Yield/
balance
expense
rate
balance
expense
rate
Interest-earning assets
Loans (1)
Commercial
$ 131,006
$ 6,441
4.92 %
$ 81,669
$ 4,440
5.44 %
Agricultural
105,662
5,703
5.40 %
85,527
5,267
6.16 %
Real estate
883,849
37,404
4.23 %
736,598
33,707
4.58 %
Consumer and other
17,748
5.19 %
16,855
5.15 %
Total loans (including fees)
1,138,265
50,470
4.43 %
920,649
44,282
4.81 %
Investment securities
Taxable
343,107
7,764
2.26 %
268,643
6,484
2.41 %
Tax-exempt (2)
168,700
4,593
2.72 %
190,856
5,123
2.68 %
Total investment securities
511,807
12,357
2.41 %
459,499
11,607
2.53 %
Other interest-earning assets
134,213
1,079
0.80 %
62,559
1,364
2.18 %
Total interest-earning assets
1,784,285
$ 63,906
3.58 %
1,442,707
$ 57,253
3.97 %
Noninterest-earning assets
Cash and due from banks
26,150
24,494
Premises and equipment, net
17,538
16,107
Other, less allowance for loan losses
38,215
20,868
Total noninterest-earning assets
81,903
61,469
TOTAL ASSETS
$ 1,866,188
$ 1,504,176
(1) Average loan balance includes nonaccrual loans, if any. Interest income collected on nonaccrual loans has been included.
(2) Tax-exempt income has been adjusted to a tax-equivalent basis using an incremental tax rate of 21% for the years ended December 31, 2020 and 2019.
Average Balances and Interest Rates (continued)
LIABILITIES AND STOCKHOLDERS' EQUITY
Average
Revenue/
Yield/
Average
Revenue/
Yield/
balance
expense
rate
balance
expense
rate
Interest-bearing liabilities
Deposits
Savings, interest-bearing checking and money markets accounts
$ 1,024,725
$ 3,234
0.32 %
$ 810,306
$ 6,016
0.74 %
Time deposits
273,803
4,587
1.68 %
232,989
4,184
1.80 %
Total deposits
1,298,528
7,821
0.60 %
1,043,295
10,200
0.98 %
Other borrowed funds
43,972
0.63 %
44,887
1.62 %
Total interest-bearing liabilities
1,342,500
8,098
0.60 %
1,088,182
10,929
1.00 %
Noninterest-bearing liabilities
Noninterest-bearing checking
312,774
224,672
Other liabilities
12,034
10,022
Stockholders' equity
198,880
181,300
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
$ 1,866,188
$ 1,504,176
Net interest income (FTE)(3)
$ 55,808
3.13 %
$ 46,324
3.21 %
Spread Analysis (FTE)(3)
Interest income/average assets
$ 63,906
3.42 %
$ 57,253
3.81 %
Interest expense/average assets
8,098
0.43 %
10,929
0.73 %
Net interest income/average assets
55,808
2.99 %
46,324
3.08 %
(3)
Net interest income (FTE) and Spread Analysis (FTE) are non-GAAP financial measures. For further information, refer to the Non-GAAP Financial Measures section of this report.
Rate and Volume Analysis
The rate and volume analysis is used to determine how much of the change in interest income or expense is the result of a change in volume or a change in interest rate. For example, real estate loan interest income increased $3,697,000 in 2020 compared to 2019. Increased volume of real estate loans increased interest income in 2020 by $6,405,000 and lower interest rates decreased interest income in 2020 by $2,708,000.
The following table sets forth, on a tax-equivalent basis, a summary of the changes in net interest income resulting from changes in volume and rates (in thousands).
2020 Compared to 2019
Volume
Rate
Total (1)
Interest income
Loans
Commercial
$ 2,461
$ (460 )
$ 2,001
Agricultural
1,139
(703 )
Real estate
6,405
(2,708 )
3,697
Consumer and other
Total loans (including fees)
10,052
(3,864 )
6,188
Investment securities
Taxable
1,704
(424 )
1,280
Tax-exempt
(605 )
(530 )
Total investment securities
1,099
(349 )
Other interest and dividend income
(1,213 )
(285 )
Total interest-earning assets
12,079
(5,426 )
6,653
Interest-bearing liabilities
Deposits
Savings, interest-bearing checking and money market
1,280
(4,062 )
(2,782 )
Time deposits
(295 )
Total deposits
1,978
(4,357 )
(2,379 )
Other borrowed funds
(15 )
(437 )
(452 )
Total interest-bearing liabilities
1,963
(4,794 )
(2,831 )
Net interest income-earning assets
$ 10,116
$ (632 )
$ 9,484
(1)
The change in interest due to both volume and yield/rate has been allocated to change due to volume and change due to yield/rate in proportion to the absolute value of the change in each.
Net Interest Income
The Company’s largest contributing component to net income is net interest income, which is the difference between interest earned on earning assets and interest paid on interest-bearing liabilities. The volume of and yields earned on earning assets and the volume of and the rates paid on interest-bearing liabilities determine net interest income. Refer to the tables preceding this paragraph for additional detail. Interest earned and interest paid is also affected by general economic conditions, particularly changes in market interest rates, by government policies and the action of regulatory authorities. Net interest income divided by average earning assets is referred to as net interest margin. For the years December 31, 2020 and 2019, the Company's non-GAAP net interest margin was 3.13% and 3.21%, respectively, computed on an FTE basis. For further information, refer to the Non-GAAP Financial Measures section of this report.
Net interest income during 2020 and 2019 totaled $54,843,000 and $45,248,000, respectively, representing a 21.2% increase in 2020 compared to 2019. Net interest income increased in 2020 as compared to 2019 due primarily to the Acquisition, reduction in interest expense due to declines in market rates on deposits, and PPP loans and related fees, offset in part by a reduction in interest rates on loans. PPP loans of approximately $50.9 million are outstanding as of December 31, 2020. In addition to interest income on PPP loans, fee income of $2.3 million was recognized into interest income for the year ended December 31, 2020.
The high level of competition in the local markets will continue to put downward pressure on the net interest margin of the Company. Currently, the Company’s primary market in Ames, Iowa, has eleven banks, six credit unions and several other financial investment companies. Multiple banks are also located in the Company’s other market areas in central, north-central and south-central Iowa creating similarly competitive environments.
Provision for Loan Losses
The provision for loan losses reflects management's judgment of the expense to be recognized in order to maintain an adequate allowance for loan losses. The Company’s provision for loan losses for the year ended December 31, 2020 was $5,681,000 compared to $1,314,000 for the previous year. Net charge offs totaled $1,085,000 for the year ended December 31, 2020 compared to $379,000 for the previous year. The increase in provision for loan losses was primarily due to the effects of the economic slowdown associated with the COVID-19 pandemic on our loan portfolio and was necessary to maintain an adequate allowance for loan losses on the increasing outstanding loan portfolio. Classified loans, excluding 1-4 family and consumer loans, increased $35.7 million to $79.2 million in 2020 primarily due to effects of the COVID-19 pandemic on the credit quality of our loan portfolio. This increase was primarily in the commercial real estate portfolio and related mainly to hospitality and entertainment loans. Refer to the “Asset Quality Review and Credit Risk Management” discussion for additional details with regard to loan loss provision expense.
Management believes the allowance for loan losses is adequate to absorb probable losses in the current portfolio. This statement is based upon management's continuing evaluation of inherent risks in the current loan portfolio, current levels of classified assets and general economic factors. The Company will continue to monitor the allowance and make future adjustments to the allowance as conditions dictate. Due to potential changes in conditions, including the economic disruption and uncertainties resulting from the COVID-19 pandemic, it is at least reasonably possible that change in estimates will occur in the near term and that such changes could be material to the amounts reported in the Company’s financial statements.
Noninterest Income and Expense
Total noninterest income is comprised primarily of fee-based revenues from wealth management and trust services, bank-related service charges on deposit activities, net securities gains, merchant and card fees related to electronic processing of merchant and cash transactions and gain on the sale of loans held for sale.
Noninterest income during the years ended 2020 and 2019 totaled $10,620,000 and $8,629,000, respectively. The increase in noninterest income in 2020 compared to 2019 is primarily due to an increase in gains on sale of residential loans held for sale due to increased refinancing in a low interest rate environment, the Acquisition, and security gains.
Noninterest expense for the Company consists of all operating expenses other than interest expense on deposits and other borrowed funds. Salaries and employee benefits are the largest component of the Company’s operating expenses and comprise 63% and 62% of noninterest expense in 2020 and 2019, respectively.
Noninterest expense during the years ended 2020 and 2019 totaled $36,551,000 and $31,522,000, respectively, representing a 16% increase in 2020 compared to 2019. Most of the increase in 2020 was due to the Acquisition. Excluding the Acquisition, the increase was primarily related to salaries and employee benefits due to normal increases including health insurance. The percentage of noninterest expense to average assets was 2.0% in 2020, compared to 2.1% during 2019.
Provision for Income Taxes
The provision for income taxes for 2020 and 2019 was $4,381,000 and $3,847,000, respectively. This amount represents an effective tax rate of 18.9% and 18.3%, respectively. The Company's federal income tax rate was 21% for the years ended December 31, 2020 and 2019. The lower than expected tax rate was due primarily to tax-exempt interest income and New Markets Tax Credits recognized in both years. These tax credits were generated by First National’s investment in qualified community development entities. The credits totaled $6.0 million and are recognized over a seven-year period beginning in 2019.
Balance Sheet Review
The Company’s assets are comprised primarily of loans and investment securities. The majority of average earning asset maturity or repricing dates are generally five years or less for the combined portfolios as the assets are funded for the most part by short term deposits with either immediate availability or less than one-year average maturities. This exposes the Company to risk with regard to changes in interest rates.
Total assets increased to $1,975,648,000 in 2020 compared to $1,737,183,000 in 2019, a 13.7% increase. The increase is primarily due to investment securities, Paycheck Protection Program loans, organic loan growth and to a lesser extent growth in interest-bearing deposits in financial institutions. This growth was funded by deposit growth driven by government stimulus programs.
Loan Portfolio
Net loans as of December 31, 2020 totaled $1,129,505,000, an increase of 7.8% from the $1,048,147,000 as of December 31, 2019. Loans increased primarily due to organic growth in the commercial real estate loan portfolio and government guaranteed loans under the Paycheck Protection Program. Loans are the primary contributor to the Company’s revenues and cash flows. The average yield on loans was 202 and 228 basis points higher in 2020 and 2019, respectively, in comparison to the average tax-equivalent investment portfolio yields.
Types of Loans
The following table sets forth the composition of the Company's loan portfolio for the past five years ending at December 31, 2020 (dollars in thousands):
Real Estate
Construction
$ 45,497
$ 47,895
$ 51,364
$ 50,309
$ 61,042
1-4 family residential
213,562
201,510
169,722
146,258
149,507
Commercial
496,357
435,850
389,532
350,626
315,702
Agricultural
151,992
160,771
103,652
81,790
73,032
Commercial
122,535
84,084
86,194
73,816
74,378
Agricultural
102,586
111,945
85,202
69,806
76,994
Consumer and other
15,048
18,791
16,566
10,345
12,130
Total loans
1,147,577
1,060,846
902,232
782,950
762,785
Deferred loan fees and costs, net
(857 )
(80 )
(87 )
(79 )
(96 )
Total loans net of deferred fees
$ 1,146,720
$ 1,060,766
$ 902,145
$ 782,871
$ 762,689
The Company's loan portfolio consists of real estate, commercial, agricultural and consumer loans. As of December 31, 2020, gross loans totaled approximately $1,147,577,000, which equals approximately 66.9% of total deposits and 58.1% of total assets. The Iowa State Average Report (consisting of 253 banks in the State of Iowa) loan to deposit ratio as of December 31, 2020 was 71%. As of December 31, 2020, the majority of the loans were originated directly by the Banks to borrowers within the Banks’ principal market areas. There are no foreign loans outstanding during the years presented.
Real estate loans include various types of loans for which the Banks hold real property as collateral and consist of loans primarily on commercial, agricultural and multifamily properties and single-family residences. Real estate loans typically have fixed rates for up to five years, with the Company’s loan policy permitting a maximum fixed rate maturity of up to 15 years. The majority of construction loan volume is given to contractors to construct 1-4 family residence and commercial buildings and these loans generally have maturities of up to 12 months. The Banks also originate residential real estate loans for sale to the secondary market for a fee.
Commercial loans consist primarily of loans to businesses for various purposes, including revolving lines to finance current operations, floor-plans, inventory and accounts receivable; capital expenditure loans to finance equipment and other fixed assets; and letters of credit. These loans generally have short maturities, have either adjustable or fixed rates and are unsecured or secured by inventory, accounts receivable, equipment and/or real estate.
Agricultural loans play an important part in the Banks’ loan portfolios. Iowa is a major agricultural state and is a national leader in both grain and livestock production. The Banks play a significant role in their communities in financing operating, livestock and real estate activities for area producers.
Consumer loans include loans extended to individuals for household, family and other personal expenditures not secured by real estate. The majority of the Banks’ consumer lending is for vehicles, consolidation of personal debts and improvements.
The interest rates charged on loans vary with the degree of risk and the amount and maturity of the loan. Competitive pressures, market interest rates, the availability of funds and government regulation further influence the rate charged on a loan. The Banks follow a loan policy, which has been approved by both the board of directors of the Company and the Banks, and is overseen by both Company and Bank management. These policies establish lending limits, review and grading criteria and other guidelines such as loan administration and allowance for loan losses. Loans are approved by the Banks’ board of directors and/or designated officers in accordance with respective guidelines and underwriting policies of the Company. Credit limits generally vary according to the type of loan and the individual loan officer’s experience. Loans to any one borrower are limited by applicable state and federal banking laws.
Maturities and Sensitivities of Loans to Changes in Interest Rates as of December 31, 2020
The contractual maturities of the Company's loan portfolio are as shown below. Actual maturities may differ from contractual maturities because individual borrowers may have the right to prepay loans with or without prepayment penalties (in thousands).
After one
year but
Within
within
After
one year
five years
five years
Total
Real Estate
Construction
$ 20,499
$ 21,571
$ 3,427
$ 45,497
1-4 family residential
20,173
81,360
112,029
213,562
Commercial
22,316
263,461
210,580
496,357
Agricultural
5,864
25,969
120,159
151,992
Commercial
32,991
76,113
13,431
122,535
Agricultural
80,236
20,543
1,807
102,586
Consumer and other
1,407
9,027
4,614
15,048
Total loans
$ 183,486
$ 498,044
$ 466,047
$ 1,147,577
After one
year but
within
After
five years
five years
Loan maturities after one year with:
Fixed rates
$ 472,482
$ 200,003
Variable rates
25,562
266,044
$ 498,044
$ 466,047
Loans Held For Sale
There was $1,621,000 of mortgage origination funding awaiting delivery to the secondary market as of December 31, 2020 and $2,777,000 as of December 31, 2019. Residential mortgage loans are originated by the Banks and sold to several secondary mortgage market outlets based upon customer product preferences and pricing considerations. The mortgages are sold in the secondary market to eliminate interest rate risk and to generate secondary market fee income. It is not anticipated at the present time that loans held for sale will become a significant portion of total assets.
Investment Portfolio
Total investments as of December 31, 2020 were $596,999,000, an increase of $117.2 million or 24.4% from the prior year end. As of December 31, 2020 and 2019, the investment portfolio comprised 30% and 28% of total assets, respectively. The increase in investments is primarily due to purchases in excess of maturities of mortgage-backed securities and municipal bonds as deposit growth was deployed.
The following table presents the fair values, which represent the carrying values due to the available-for-sale classification, of the Company’s investment portfolio as of December 31, 2020 and 2019. This portfolio provides the Company with a significant amount of liquidity (in thousands).
U.S. government treasuries
$ 12,053
$ 9,452
U.S. government agencies
111,199
126,433
U.S. government mortgage-backed securities
150,195
81,128
State and political subdivisions
251,584
195,302
Corporate bonds
71,968
67,528
Total
$ 596,999
$ 479,843
Investments in states and political subdivisions represent purchases of municipal bonds located primarily in the state of Iowa and contiguous states.
During the years ended December 31, 2020 and 2019, the Company did not recognize an other-than-temporary impairment. Management estimates at the present time there exists no other-than-temporary impairments in the securities available-for-sale portfolio at December 31, 2020; however, it is possible that the Company may incur impairment losses in 2021 and thereafter.
As of December 31, 2020, the Company did not have securities from a single issuer, except for the United States Government or its agencies, which exceeded 10% of consolidated stockholders’ equity.
Management’s process for obtaining and validating the fair value of investment securities is discussed in Note 17 of the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.
Investment Maturities as of December 31, 2020
The investments in the following table are reported by contractual maturity. Expected maturities may differ from contractual maturities because issuers of the securities may have the right to call or prepay obligations with or without prepayment penalties (in thousands).
After one
After five
year but
years but
Within
within
within
After
one year
five years
ten years
ten years
Total
U.S. government treasuries
$
$ 8,309
$ 3,234
$ -
$ 12,053
U.S. government agencies
12,377
62,559
36,263
-
111,199
U.S. government mortgage-backed securities
2,263
78,880
69,052
-
150,195
States and political subdivisions (1)
19,938
66,438
112,424
52,784
251,584
Corporate bonds
10,241
35,138
26,589
-
71,968
Total
$ 45,329
$ 251,324
$ 247,562
$ 52,784
$ 596,999
Weighted average yield
U.S. government treasuries
1.67 %
1.90 %
0.44 %
n/a
1.49 %
U.S. government agencies
2.23 %
1.99 %
2.27 %
n/a
2.11 %
U.S government mortgage-backed securities
2.76 %
2.24 %
0.33 %
n/a
1.36 %
States and political subdivisions (1)
2.95 %
2.72 %
2.47 %
2.52 %
2.59 %
Corporate bonds
2.28 %
2.69 %
3.00 %
n/a
2.74 %
Total
2.58 %
2.36 %
1.85 %
2.52 %
2.18 %
(1)
Yields on tax-exempt obligations of states and political subdivisions have been computed on a tax-equivalent basis.
At December 31, 2020 and 2019, the Company’s investment securities portfolio included securities issued by 279 and 251 government municipalities and agencies located within 24 and 18 states with a fair value of $251,584,000 and $195,302,000, respectively. No one municipality or agency represents a concentration within this segment of the investment portfolio. Storm Lake, Iowa, general obligation bonds with a fair value of $8.7 million (approximately 3.5% of the fair value of the government municipalities and subdivisions) represent the largest exposure to any one municipality or subdivision for the Company as of December 31, 2020; the bonds are repayable from the levy of continuing annual tax on all the taxable property within the territory of the city of Storm Lake.
The Company’s procedures for evaluating investments in states, municipalities and political subdivisions include but are not limited to reviewing the offering statement and the most current available financial information, comparing yields to yields of bonds of similar credit quality, confirming capacity to repay, assessing operating and financial performance, evaluating the stability of tax revenues, considering debt profiles and local demographics, and for revenue bonds, assessing the source and strength of revenue structures for municipal authorities. These procedures, as applicable, are utilized for all municipal purchases and are utilized in whole or in part for monitoring the portfolio of municipal holdings. The Company does not utilize third party credit rating agencies as a primary component of determining if the municipal issuer has an adequate capacity to meet the financial commitments under the security for the projected life of the investment, and, therefore, does not compare internal assessments to those of the credit rating agencies. Credit rating downgrades are utilized as an additional indicator of credit weakness and as a reference point for historical default rates.
The following table summarizes the total general obligation and revenue bonds in the Company’s investment securities portfolios as of December 31, 2020 and 2019 identifying the state in which the issuing government municipality or agency operates (in thousands):
Estimated
Estimated
Amortized
Fair
Amortized
Fair
Cost
Value
Cost
Value
Obligations of states and political subdivisions:
General Obligation bonds:
Iowa
$ 69,943
$ 72,442
$ 58,457
$ 59,072
Nebraska
15,019
15,446
3,414
3,427
Texas
11,253
11,927
11,243
11,382
Washington
7,329
7,702
6,530
6,629
Oregon
6,783
7,047
3,441
3,505
Other (2020: 13 states; 2019: 11 states)
25,231
25,942
19,208
19,432
Total general obligation bonds
$ 135,558
$ 140,506
$ 102,293
$ 103,447
Revenue bonds:
Iowa
$ 65,461
$ 67,048
$ 78,281
$ 78,624
Texas
8,625
9,189
Nebraska
6,588
6,753
-
-
Washington
5,548
5,642
Other (2020: 16 states; 2019: 10 states)
21,658
22,446
12,186
12,241
Total revenue bonds
$ 107,880
$ 111,078
$ 91,452
$ 91,855
Total obligations of states and political subdivisions
$ 243,438
$ 251,584
$ 193,745
$ 195,302
As of December 31, 2020 and 2019, the revenue bonds in the Company’s investment securities portfolios were issued by government municipalities and agencies to fund public services such as community school facilities, college and university dormitory facilities and water utilities. The revenue bonds are to be paid from 14 and 13 revenue sources in 2020 and 2019, respectively. The revenue sources that represent 5% or more, individually, as a percent of the total revenue bonds are summarized in the following table (in thousands):
Estimated
Estimated
Amortized
Fair
Amortized
Fair
Cost
Value
Cost
Value
Revenue bonds by revenue source
Sales tax
$ 32,654
$ 33,380
$ 37,928
$ 38,173
Water
21,934
22,660
14,016
14,103
College and universities, primarily dormitory revenues
11,332
11,810
7,271
7,272
Electric power & light revenues
7,075
7,279
4,370
4,405
Leases
7,050
7,253
7,291
7,351
Sewer
11,302
11,724
4,612
4,645
Other
16,533
16,972
15,964
15,906
Total revenue bonds by revenue source
$ 107,880
$ 111,078
$ 91,452
$ 91,855
Other Assets
Other assets were $5,678,000 and $6,041,000 as of December 31, 2020 and 2019, respectively. The decrease of $363,000 between periods can be primarily attributed to amortization of Iowa-based New Markets Tax Credit projects in 2020.
Deposits
Total deposits were $1,716,446,000 and $1,493,175,000 as of December 31, 2020 and 2019, respectively. The increase of $223,271,000 between the periods can be primarily attributed to federal government stimulus programs and increases in core deposits, including retail and commercial funds. Balances fluctuate as customer’s liquidity needs vary and could be impacted by distressed economic conditions or additional government stimulus.
The Company’s primary source of funds is customer deposits. The Banks attempt to attract noninterest-bearing deposits, which are a low-cost funding source. In addition, the Banks offer a variety of interest-bearing accounts designed to attract both short-term and longer-term deposits from customers. Interest-bearing accounts earn interest at rates established by Bank management based on competitive market factors and the Company’s need for funds. While 68.2% of the Banks’ certificates of deposit mature in the next year, it is anticipated that a majority of these certificates will be renewed. Rate sensitive certificates of deposits in excess of $100,000 are subject to somewhat higher volatility with regard to renewal volume as the Banks adjust rates based upon funding needs. In the event a substantial volume of certificates is not renewed, the Company has sufficient liquid assets and borrowing lines to fund significant runoff. A sustained reduction in deposit volume would have a significant negative impact on the Company’s operations and liquidity. The Company had $8,730,000 and $7,118,000 of brokered deposits as of December 31, 2020 and 2019, respectively.
Average Deposits by Type
The following table sets forth the average balances for each major category of deposit and the weighted average interest rate paid for deposits during the years ended December 31, 2020 and 2019 (dollars in thousands).
Average
Average
Amount
Rate
Amount
Rate
Non-interest bearing checking deposits
$ 312,774
0.00 %
$ 224,672
0.00 %
Interest bearing checking deposits
489,224
0.30 %
385,666
0.82 %
Money market deposits
362,053
0.38 %
290,285
0.81 %
Savings deposits
173,448
0.22 %
134,355
0.39 %
Time certificates
273,803
1.68 %
232,989
1.80 %
$ 1,611,302
$ 1,267,967
Deposit Maturity
The following table shows the amounts and remaining maturities of time certificates of deposit that had balances of $100,000 and over as of December 31, 2020 and 2019 (in thousands).
3 months or less
$ 25,365
$ 18,756
Over 3 through 12 months
66,997
54,888
Over 12 through 36 months
26,803
58,899
Over 36 months
8,412
10,667
Total
$ 127,577
$ 143,210
Borrowed Funds
Borrowed funds that may be utilized by the Company are comprised of FHLB advances, federal funds purchased and securities sold under agreements to repurchase (repurchase agreements). Borrowed funds are an alternative funding source to deposits and can be used to fund the Company’s assets and unforeseen liquidity needs. FHLB advances are loans from the FHLB that can mature daily or have longer maturities for fixed or floating rates of interest. Federal funds purchased are borrowings from other banks that mature daily. Repurchase agreements are similar to deposits as they are funds lent by various Bank customers; however, investment securities are pledged to secure such borrowings. The Company’s repurchase agreements reprice daily.
The following table summarizes the outstanding amount of, and the average rate on, borrowed funds as of December 31, 2020 and 2019 (dollars in thousands).
Average
Average
Balance
Rate
Balance
Rate
Repurchase agreements
$ 37,293
0.30 %
$ 42,034
1.25 %
FHLB advances
3,000
1.57 %
5,000
1.57 %
Total
$ 40,293
0.40 %
$ 47,034
1.28 %
Average Annual Borrowed Funds
The following table sets forth the average amount of, the average rate paid and maximum outstanding balance on, borrowed funds for the years ended December 31, 2020 and 2019 (dollars in thousands).
Average
Average
Average
Average
Balance
Rate
Balance
Rate
Federal funds purchased and repurchase agreements
$ 40,613
0.55 %
$ 40,376
1.58 %
FHLB advances
3,359
1.54 %
4,511
1.99 %
Total
$ 43,972
0.63 %
$ 44,887
1.62 %
Maximum Amount Outstanding during the Year
Federal funds purchased and repurchase agreements
$ 49,117
$ 52,196
FHLB advances
$ 5,000
$ 27,800
Dividends Payable
There were no dividends payable as of December 31, 2020 as compared to $2,213,000 as of December 31, 2019. In the past, dividends were declared in one quarter and then paid in the subsequent quarter. For the quarter ended December 31, 2020 the dividend was not declared until January 13, 2021 and will be paid on February 15, 2021.
Off-Balance-Sheet Arrangements
The Company is party to financial instruments with off-balance-sheet risk in the normal course of business. These financial instruments include commitments to extend credit and standby letters of credit that assist customers with their credit needs to conduct business. The instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet. As of December 31, 2020, the most likely impact of these financial instruments on revenues, expenses, or cash flows of the Company would come from unidentified credit risk causing higher provision expense for loan losses in future periods. These financial instruments are not expected to have a significant impact on the liquidity or capital resources of the Company. For additional information, including quantification of the amounts involved, see Note 15 of the “Notes to Consolidated Statements” and the “Liquidity and Capital Resources” section of this discussion.
Asset Quality Review and Credit Risk Management
The Company’s credit risk is centered in the loan portfolio, which on December 31, 2020, totaled $1,129,505,000 as compared to $1,048,147,000 as of December 31, 2019, an increase of 7.8%. Net loans comprise approximately 57% of total assets as of the end of 2020. The objective in managing loan portfolio risk is to reduce the risk of loss resulting from a customer’s failure to perform according to the terms of a transaction and to quantify and manage credit risk on a portfolio basis. As the following chart indicates, the Company’s non-performing assets have increased by 72% from December 31, 2019 and total $15,530,000 as of December 31, 2020. The Company’s level of non-performing loans as a percentage of loans of 1.33% as of December 31, 2020, is higher than the Iowa State Average peer group of FDIC insured institutions as of December 31, 2020, of 0.66%. Management believes that the allowance for loan losses as of December 31, 2020 remains adequate based on its analysis of the non-performing assets and the portfolio as a whole.
Non-performing Assets
The following table sets forth information concerning the Company's non-performing assets for the past five years ended December 31, 2020 (dollars in thousands):
Non-performing assets:
Nonaccrual loans
$ 15,273
$ 4,788
$ 3,234
$ 4,810
$ 5,077
Loans 90 days or more past due
Total non-performing loans
15,312
5,043
3,384
4,828
5,099
Securities available-for-sale
-
-
-
-
-
Other real estate owned
4,004
Total non-performing assets
$ 15,530
$ 9,047
$ 4,214
$ 5,214
$ 5,645
The accrual of interest on nonaccrual and other impaired loans is generally discontinued at 90 days or when, in the opinion of management, the borrower may be unable to meet payments as they become due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received and when principal obligations are expected to be recoverable. Interest income on restructured loans is recognized pursuant to the terms of the new loan agreement. Interest income on other impaired loans remaining on accrual is monitored and income is recognized based upon the terms of the underlying loan agreement. However, the recorded net investment in impaired loans, including accrued interest, is limited to the present value of the expected cash flows of the impaired loan or the observable fair value of the loan’s collateral.
Non-performing loans totaled $15,312,000 as of December 31, 2020 and were $10,269,000 higher than the non-performing loans as of December 31, 2019. The increase in non-performing loans was due primarily to one hospitality loan relationship in the commercial real estate portfolio. The Company considers non-performing loans to generally include nonaccrual loans, loans past due 90 days or more and still accruing and other loans that may or may not meet the former nonperforming criteria but are considered to meet the definition of impaired.
As of December 31, 2020, the Company had 24 COVID-19 related loan modifications still in the modification period with a total outstanding principal balance of $45.9 million. In addition to these modifications, there were $572,000 of modified loans more than 30 days past due after the modification period was completed. Modified loans continue to accrue interest and are evaluated for past due status based on the revised payment terms.
The allowance for loan losses related to these impaired loans was approximately $1,819,000 and $209,000 at December 31, 2020 and 2019, respectively. The average balances of impaired loans for the years ended December 31, 2020 and 2019 were $14,412,000 and $4,328,000, respectively. For the years ended December 31, 2020 and 2019, interest income, which would have been recorded under the original terms of nonaccrual loans, was approximately $975,000 and $473,000, respectively. There was $39,000 of loans greater than 90 days past due and still accruing interest as of December 31, 2020 and there was $255,000 of loans greater than 90 days past due and still accruing interest at December 31, 2019.
Summary of the Allowance for Loan Losses
The provision for loan losses represents an expense charged against earnings to maintain an adequate allowance for loan losses. The allowance for loan losses is management’s best estimate of probable losses inherent in the loan portfolio as of the balance sheet date. Factors considered in establishing an appropriate allowance include: an assessment of the financial condition of the borrower; a realistic determination of value and adequacy of underlying collateral; historical charge-offs; the condition of the local economy; the condition of the specific industry of the borrower; an analysis of the levels and trends of loan categories; and a review of delinquent and classified loans.
The adequacy of the allowance for loan losses is evaluated quarterly by management, the Company and respective Bank boards. This evaluation focuses on specific loan reviews, changes in the type and volume of the loan portfolio given the current economic conditions and historical loss experience. Any one of the following conditions may result in the review of a specific loan: concern about whether the customer’s cash flow or collateral are sufficient to repay the loan; delinquent status; criticism of the loan in a regulatory examination; the accrual of interest has been suspended; or other reasons, including when the loan has other special or unusual characteristics which warrant special monitoring.
While management uses available information to recognize losses on loans, further reductions in the carrying amounts of loans may be necessary based on changes in economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the estimated losses on loans. Such agencies may require the Company to recognize additional losses based on their judgment about information available to them at the time of their examination. Due to potential changes in conditions, including the economic disruption and uncertainties resulting from the COVID-19 pandemic, it is at least reasonably possible that change in estimates will occur in the near term and that such changes could be material to the amounts reported in the Company’s financial statements.
Analysis of the Allowance for Loan Losses
The Company’s policy is to charge-off loans when, in management’s opinion, the loan is deemed uncollectible, although concerted efforts are made to maximize future recoveries. The following table sets forth information regarding changes in the Company's allowance for loan losses for the most recent five years (dollars in thousands):
Balance at beginning of period
$ 12,619
$ 11,684
$ 11,321
$ 10,507
$ 9,988
Charge-offs:
Real estate
Construction
-
-
-
-
-
1-4 Family residential
Commercial
-
-
-
Agricultural
-
-
-
-
-
Commercial
Agricultural
-
-
-
Consumer and other
Total charge-offs
1,410
Recoveries:
Real estate
Construction
-
-
-
1-4 Family residential
Commercial
-
-
-
Agricultural
-
-
-
-
-
Commercial
Agricultural
-
-
-
-
-
Consumer and other
Total recoveries
Net charge-offs (recoveries)
1,085
Provisions charged to operations
5,681
1,314
1,520
Balance at end of period
$ 17,215
$ 12,619
$ 11,684
$ 11,321
$ 10,507
Average loans outstanding
$ 1,138,265
$ 920,649
$ 814,201
$ 772,168
$ 726,838
Ratio of net charge-offs (recoveries) during the period to average loans outstanding
0.10 %
0.04 %
0.03 %
0.09 %
0.00 %
Ratio of allowance for loan losses to total loans net of deferred fees
1.50 %
1.19 %
1.30 %
1.45 %
1.38 %
General reserves for loan categories range from 1.10% to 2.79% of the outstanding loan balances as of December 31, 2020. In general as loan volume increases, the general reserve levels increase with that growth and as loan volume decreases, the general reserve levels decrease with that decline. The higher level of reserves at the top end of the range was due to historical charge-offs at one bank affiliate in the commercial operating loan category. The allowance relating to commercial real estate is the largest reserve component. Construction, commercial operating and agricultural operating loans have higher general reserve levels as a percentage than the other loan categories as management perceives more risk in this type of lending. Elements contributing to the higher risk level include a higher percentage of watch, special mention, substandard and impaired loans and less favorable economic conditions for those portfolios. As of December 31, 2020, commercial real estate loans have general reserves ranging from 1.39% to 1.64%.
Other factors considered when determining the adequacy of the general reserve include historical losses; watch, substandard and impaired loan volume; the ability to collect past due loans; loan growth; loan-to-value ratios; loan administration; collateral values; and economic factors. The Company’s concentration risks include geographic concentration in Iowa; the local economy’s dependence upon several large governmental entity employers, including Iowa State University; and the health of Iowa’s agricultural sector that, in turn, is dependent on crop and livestock prices, weather conditions, trade policies and government programs. No assurances can be made that losses will remain at the relatively favorable levels experienced over the past five years.
Loans that the Banks have identified as having higher risk levels are reviewed individually in an effort to establish adequate loss reserves. These reserves are considered specific reserves and are directly impacted by the credit quality of the underlying loans. The specific reserves are dependent upon assumptions regarding the liquidation value of collateral and the cost of recovering collateral including legal fees. Changing the amount of specific reserves on individual loans has historically had a significant impact on the reallocation of the allowance among different parts of the portfolio. The following table sets forth information regarding changes in the Company's specific reserve on loans individually evaluated for impairment and loans individually evaluated for impairment for the most recent five years (dollars in thousands):
Specific reserve on loans individually evaluated for impairment
$ 1,819
$
$
$
$
Loans individually evaluated for impairment
$ 15,273
$ 4,788
$ 3,234
$ 4,810
$ 5,077
Percentage increase (decrease) in specific reserve on loans individually evaluated for impairment
%
%
%
%
%
Percentage increase (decrease) in loans individually evaluated for impairment
%
%
%
%
%
Allocation of the Allowance for Loan Losses
The following table sets forth information concerning the Company’s allocation of the allowance for loan losses for the most recent five years (dollars in thousands):
Amount
% *
Amount
% *
Amount
% *
Amount
% *
Amount
% *
Balance at end of period
applicable to:
Real Estate
Construction
$
%
$
%
$
%
$
%
$
%
1-4 family residential
2,581
%
2,122
%
1,820
%
1,716
%
1,711
%
Commercial
8,930
%
5,362
%
4,615
%
4,734
%
3,960
%
Agricultural
1,595
%
1,326
%
1,198
%
%
%
Commercial
1,453
%
1,458
%
1,777
%
1,739
%
1,728
%
Agricultural
1,696
%
1,478
%
1,384
%
1,171
%
1,216
%
Consumer and other
%
%
%
%
%
$ 17,215
%
$ 12,619
%
$ 11,684
%
$ 11,321
%
$ 10,507
%
* Percent of loans in each category to total loans.
Liquidity and Capital Resources
Liquidity management is the process by which the Company, through its Banks’ Asset and Liability Committees (ALCO), ensures adequate liquid funds are available to meet its financial commitments on a timely basis, at a reasonable cost and within acceptable risk tolerances. These commitments include funding credit obligations to borrowers, funding of mortgage originations pending delivery to the secondary market, withdrawals by depositors, maintaining adequate collateral for pledging for public funds, trust deposits and borrowings, paying dividends to shareholders, payment of operating expenses, funding capital expenditures and maintaining deposit reserve requirements.
Liquidity is derived primarily from core deposit growth and retention; principal and interest payments on loans; principal and interest payments, sale, maturity and prepayment of investment securities; net cash provided from operations; and access to other funding sources. Other funding sources include federal funds purchased lines, FHLB advances and other capital market sources.
As of December 31, 2020, the level of liquidity and capital resources of the Company remain at a satisfactory level and compare favorably to that of other FDIC insured institutions. Management believes that the Company's liquidity sources will be sufficient to support its existing operations for the foreseeable future.
The liquidity and capital resources discussion will cover the following topics:
●
Review of the Company’s Current Liquidity Sources
●
Review of the Consolidated Statements of Cash Flows
●
Review of Company Only Cash Flows
●
Review of Commitments for Capital Expenditures, Cash Flow Uncertainties and Known Trends in Liquidity and Cash Flow Needs
●
Capital Resources
Review of the Company’s Current Liquidity Sources
Liquid assets of cash on hand, balances due from other banks and interest-bearing deposits in financial institutions for December 31, 2020 and 2019 totaled $191,523,000 and $143,565,000, respectively. The higher balance of liquid assets at December 31, 2020 primarily relates to increased funds on deposit at the Federal Reserve Bank and a lack of other fixed income alternatives.
Other sources of liquidity available to the Banks as of December 31, 2020 include available borrowing capacity with the FHLB of $208,017,000 and federal funds borrowing capacity at correspondent banks of $107,771,000. As of December 31, 2020, the Company had outstanding FHLB advances of $3,000,000, no federal funds purchased, securities sold under agreements to repurchase of $37,293,000 and no other borrowings.
Total investments as of December 31, 2020, were $596,999,000 compared to $479,843,000 as of year-end 2019. As of December 31, 2020 and 2019, the investment portfolio as a percentage of total assets was 30% and 28%, respectively. The investment portfolio provides the Company with a significant amount of liquidity since all investments are classified as available-for-sale as of December 31, 2020 and 2019 and have pretax net unrealized gains of $21,363,000 and $5,486,000, respectively.
The investment portfolio serves an important role in the overall context of balance sheet management in terms of balancing capital utilization and liquidity. The decision to purchase or sell securities is based upon the current assessment of economic and financial conditions, including the interest rate environment, liquidity and credit considerations. The portfolio’s scheduled maturities represent a significant source of liquidity.
Review of the Consolidated Statements of Cash Flows
Net cash provided by operating activities for the years ended December 31, 2020 and 2019 totaled $29,712,000 and $20,180,000, respectively. The change in net cash provided by operating activities in 2020 was primarily due to an increase in net income and the provision for loan losses.
Net cash (used in) investing activities for the years ended December 31, 2020 and 2019 was $(245,343,000) and $(78,961,000), respectively. The change in net cash (used in) investing activities in 2020 was primarily due to an increase in purchases of securities and a higher level of loans, partially offset by an increase in maturities and calls of securities available-for-sale.
Net cash provided by financing activities for the years ended December 31, 2020 and 2019 totaled $205,833,000 and $63,014,000, respectively. The change in net cash provided by financing activities in 2020 was due primarily to an increase in deposits.
Review of Company Only Cash Flows
The Company’s liquidity on an unconsolidated basis is heavily dependent upon dividends paid to the Company by the Banks. The Company requires adequate liquidity to pay its expenses and pay stockholder dividends. In 2020, dividends from the Banks amounted to $9,599,000 compared to $25,068,000 in 2019. The higher amount of dividends in 2019 was used to partially fund the purchase of the Iowa State Bank Acquisition. Various federal and state statutory provisions limit the amount of dividends banking subsidiaries are permitted to pay to their holding companies without regulatory approval. Federal Reserve policy further limits the circumstances under which bank holding companies may declare dividends. For example, a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition. In addition, the Federal Reserve and the FDIC have issued policy statements which provide that insured banks and bank holding companies should generally pay dividends only out of current operating earnings. Federal and state banking regulators may also restrict the payment of dividends by order.
First National and United Bank, as national banks, generally may pay dividends, without obtaining the express approval of the Office of the Comptroller of the Currency (“OCC”), in an amount up to their retained net profits for the preceding two calendar years plus retained net profits up to the date of any dividend declaration in the current calendar year. Retained net profits, as defined by the OCC, consists of net income less dividends declared during the period. Boone Bank, Reliance Bank, State Bank and Iowa State Bank are also restricted under Iowa law to paying dividends only out of their undivided profits. Additionally, the payment of dividends by the Banks is affected by the requirement to maintain adequate capital pursuant to applicable capital adequacy guidelines and regulations, and the Banks generally are prohibited from paying any dividends if, following payment thereof, the Bank would be undercapitalized.
The Company has unconsolidated cash and interest-bearing deposits totaling $2,588,000 that is available at December 31, 2020 to provide additional liquidity to the Banks.
Review of Commitments for Capital Expenditures, Cash Flow Uncertainties and Known Trends in Liquidity and Cash Flow Needs
Commitments to extend credit totaled $222,660,000 as of December 31, 2020 compared to a total of $207,168,000 at the end of 2019. The timing of these credit commitments varies with the underlying borrowers; however, the Company has satisfactory liquidity to fund these obligations as of December 31, 2020. The primary cash flow uncertainty would be a sudden decline in deposits causing the Banks to liquidate securities. Historically, the Banks have maintained an adequate level of short-term marketable investments to fund the temporary declines in deposit balances. There are no other known trends in liquidity and cash flow needs as of December 31, 2020, that are of concern to management.
Capital Resources
The Company’s total stockholders’ equity increased to $209,486,000 at December 31, 2020, from $187,579,000 at December 31, 2019. At December 31, 2020 and 2019, stockholders’ equity as a percentage of total assets was 10.6 % and 10.8%, respectively. The increase in stockholders’ equity was primarily the result of net income and an increase in accumulated other comprehensive income, offset in part by dividends declared and stock repurchases. The capital levels of the Company currently exceed applicable regulatory guidelines to be considered “well capitalized” as of December 31, 2020.
From time to time, the Company’s board of directors has authorized stock repurchase plans. No stock repurchase plans are currently in place at the Company. Stock repurchase plans allow the Company to proactively manage its capital position and return excess capital to shareholders. 100,000 shares of common stock were repurchased under stock repurchase plans in 2020 and 70,558 shares of common stock were repurchased in 2019. Also see Part II, Item 5 - Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities, included elsewhere in this Annual Report.
Interest Rate Risk
Interest rate risk refers to the impact that a change in interest rates may have on the Company’s earnings and capital. Management’s objectives are to control interest rate risk and to ensure predictable and consistent growth of earnings and capital. Interest rate risk management focuses on fluctuations in net interest income identified through computer simulations to evaluate volatility, varying interest rate, spread and volume assumptions. The risk is quantified and compared against tolerance levels.
The Company uses a third-party computer software simulation modeling program to measure its exposure to potential interest rate changes. For various assumed hypothetical changes in market interest rates, numerous other assumptions are made such as prepayment speeds on loans, the slope of the Treasury yield curve, the rates and volumes of the Company’s deposits and the rates and volumes of the Company’s loans. This analysis measures the estimated change in net interest income in the event of hypothetical changes in interest rates.
Another measure of interest rate sensitivity is the gap ratio. This ratio indicates the amount of interest-earning assets repricing within a given period in comparison to the amount of interest-bearing liabilities repricing within the same period of time. A gap ratio of 1.0 indicates a matched position, in which case the effect on net interest income due to interest rate movements will be minimal. A gap ratio of less than 1.0 indicates that more liabilities than assets reprice within the time period, while a ratio greater than 1.0 indicates that more assets reprice than liabilities.
The simulation model process provides a dynamic assessment of interest rate sensitivity, whereas a static interest rate gap table is compiled as of a point in time. The model simulations differ from a traditional gap analysis, as a traditional gap analysis does not reflect the multiple effects of interest rate movement on the entire range of assets and liabilities and ignores the future impact of new business strategies.
Inflation
The primary impact of inflation on the Company’s operations is to increase asset yields, deposit costs and operating overhead. Unlike most industries, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on a financial institution’s performance than they would on non-financial companies. Although interest rates do not necessarily move in the same direction or to the same extent as the price of goods and services, increases in inflation generally have resulted in increased interest rates. The effects of inflation can magnify the growth of assets and, if significant, require that equity capital increase at a faster rate than would be otherwise necessary.
Forward-Looking Statements and Business Risks
Certain statements contained in the foregoing Management’s Discussion and Analysis and elsewhere in this Annual Report that are not statements of historical fact constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (the “Act”), notwithstanding that such statements are not specifically identified. In addition, certain statements may be contained in the Company’s future filings with the SEC, in press releases and in oral and written statements made by or with the Company’s approval that are not statements of historical fact and constitute forward-looking statements within the meaning of the Act. Examples of forward-looking statements include, but are not limited to: (i) projections of revenues, expenses, income or loss, earnings or loss per share, the payment or nonpayment of dividends, capital structure and other financial items; (ii) statements of plans, objectives and expectations of the Company or its management, including those relating to products or services; (iii) statements of future economic performance; and (iv) statements of assumptions underlying such statements. Words such as “believes”, “anticipates”, “expects”, “intends”, “targeted”, “projected”, “continue”, “remain”, “will”, “should”, “may” and other similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements.
Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those in such statement. The effects of the COVID-19 pandemic have magnified these risks and uncertainties. Factors that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited to:
●
The severity, magnitude and duration of the COVID-19 pandemic and the direct and indirect impact of such pandemic, as well as responses to the pandemic by the government, business and consumers, on our operations and personnel, commercial activity and demand across our business and our customers' business.
●
The disruption of global, national, state and local economies associated with the COVID-19 pandemic, which could affect our liquidity and capital positions, impair the ability of our borrowers to repay outstanding loans, impair collateral values and further increase our allowance for credit losses.
●
Local, regional and national economic conditions and the impact they may have on the Company and its customers, and management’s assessment of that impact on its estimates including, but not limited to, the allowance for loan losses and fair value of other real estate owned. Of particular relevance are the economic conditions in the concentrated geographic area in central, north-central and south-central Iowa in which the Banks conduct their operations.
●
Adequacy of the allowance for loan losses and changes in the level of nonperforming assets and charge-offs.
●
Changes in the fair value of securities available-for-sale and management’s assessments of other-than-temporary impairment of such securities.
●
The effects of and changes in trade and monetary and fiscal policies and laws, including the changes in assessment rates established by the Federal Deposit Insurance Corporation for its Deposit Insurance Fund and interest rate policies of the Federal Open Market Committee of the Federal Reserve Board.
●
Changes in sources and uses of funds, including loans, deposits and borrowings, including the ability of the Banks to maintain unsecured federal funds lines with correspondent banks.
●
Changes imposed by regulatory agencies to increase capital to a level greater than the level currently required for well capitalized financial institutions.
●
Inflation and interest rate, securities market and monetary fluctuations.
●
Political instability, acts of war or terrorism and natural disasters.
●
The timely development and acceptance of new products and services and perceived overall value of these products and services by customers.
●
Revenues being lower than expected.
●
Changes in consumer spending, borrowings and savings habits.
●
Changes in the financial performance and/or condition of the Company’s borrowers.
●
Credit quality deterioration, which could cause an increase in the provision for loan losses.
●
Technological changes and risks related to breaches of data security and cyber-attacks.
●
The ability to increase market share and control expenses.
●
Changes in the competitive environment among financial or bank holding companies and other financial service providers.
●
The effect of changes in laws and regulations with which the Company and the Banks must comply, including developments and changes related to the implementation of the Dodd-Frank Act and the effect of any Federal tax reform on the operations of the Company and its customers.
●
Changes in the securities markets.
●
The effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies, as well as the Public Company Accounting Oversight Board, the FASB and other accounting standard setters, including the International Financial Reporting Standards.
●
The costs and effects of legal and regulatory developments, including the resolution of regulatory or other governmental inquiries and the results of regulatory examinations or reviews.
●
Recent changes in the U.S. trade policy, including imposition of tariffs by the U.S. government and retaliatory tariffs imposed by foreign governments and the potential negative effect of these actions on the Company’s borrowers.
●
The ability of the Company to successfully integrate the operations of financial institutions it has acquired or may acquire in the future.
●
The Company’s success at managing the risks involved in the foregoing items.
Certain of the foregoing risks and uncertainties are discussed in greater detail under the heading “Risk Factors” in Item 1A herein.
These factors may not constitute all factors that could cause actual results to differ materially from those discussed in any forward-looking statement. The Company operates in a continually changing business environment and new facts emerge from time to time. The Company cannot predict such factors nor can it assess the impact, if any, of such factors on its financial condition or its results of operations. Accordingly, forward-looking statements should not be relied upon as a predictor of actual results. The Company disclaims any responsibility to update any forward-looking statement provided in this document.

---

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.

---

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The management of Ames National Corporation is responsible for establishing and maintaining adequate internal control over financial reporting. Ames National Corporation’s internal control system was designed to provide reasonable assurance to the Company’s management and board of directors regarding the preparation and fair presentation of published financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Ames National Corporation’s management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2020. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework (2013). Based on our assessment we determined that, as of December 31, 2020, the Company’s internal control over financial reporting is effective based on those criteria.
/s/ John P. Nelson
John P. Nelson, Chief Executive Officer
/s/ John L. Pierschbacher
John L. Pierschbacher, Chief Financial Officer
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the shareholders and the Board of Directors of Ames National Corporation
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Ames National Corporation and subsidiaries (the “Company”) as of December 31, 2020 and 2019, the related consolidated statements of income, comprehensive income, stockholders’ equity and cash flows for the years then ended, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matters
The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.
Allowance for loan losses
As described in Notes 1 and 5 to the consolidated financial statements, the Company’s allowance for loan losses is a valuation account that reflects the Company’s estimate of incurred losses in its loan portfolio to the extent they are both probable and reasonable to estimate. The allowance for loan losses was $17.2 million at December 31, 2020, which consists of two components (i) specific reserves based on probable losses on specific loans (“specific reserves”), representing $1.8 million, and (ii) a general allowance based on historical loan loss experience, general economic conditions and other qualitative risk factors both internal and external to the Company (“general reserves”), representing $15.4 million. The general component of the allowance for loan losses is based on a variety of risk considerations, both quantitative and qualitative. Quantitative factors include the Company’s historical loss experience, delinquency and charge-off trends, collateral values, known information about individual loans and other factors. Qualitative factors include various considerations regarding the general economic environment in the Company’s market area. The qualitative adjustment for the general reserve includes management’s consideration of industry concentrations; specific credit risks; credit loss experience; current loan portfolio quality; present economic, political and regulatory conditions; and unidentified losses inherent in the current loan portfolio.
The qualitative adjustment contributes significantly to the general reserve component of the allowance for loan losses. Management’s identification and analysis of these considerations and related adjustments requires significant judgment. We identified the estimate of the qualitative adjustment of the general reserve for the allowance for loan losses as a critical audit matter as they represent a significant portion of the total general reserve and because management’s estimate relies on a qualitative analysis to determine a quantitative adjustment which required especially subjective auditor judgment.
The primary procedure we performed to address this critical audit matter included:
●
Perform substantive testing, including evaluating management’s judgments and assumptions for developing the general reserve qualitative adjustments for the allowance for loan losses, including:
o
Evaluating the completeness and accuracy of data inputs used as a basis for the adjustments relating to qualitative general reserve factors and considering whether the sources of data and factors that management used in forming the assumptions are relevant, reliable, and sufficient for the purpose based on the information gathered.
o
Evaluating the reasonableness of management’s judgments related to the qualitative and quantitative assessment of the data used in the determination of the general reserve qualitative adjustments for consistency with each other, the supporting data, relevant historical data, and industry data.
o
Assessing whether historical data is comparable and consistent with data of the current year and considering whether the data is sufficiently reliable. Among other procedures, our evaluation considered evidence from internal and external sources, loan portfolio performance and whether such assumptions were applied consistently period to period.
o
Analytically evaluating the qualitative adjustment in the current year compared to prior year for directional consistency and reasonableness.
o
Testing the calculations used by management to translate the assumptions and key factors into the calculation.
/s/ CliftonLarsonAllen LLP
We have served as the Company’s auditor since 2006.
West Des Moines, Iowa
March 12, 2021
AMES NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2020 and 2019
ASSETS
Cash and due from banks
$ 24,818,619 $ 34,616,880
Interest-bearing deposits in financial institutions and federal funds sold
166,704,001 108,947,624
Securities available-for-sale
596,999,072 479,843,448
Federal Home Loan Bank (FHLB) and Federal Reserve Bank (FRB) stock, at cost
3,147,500 3,138,900
Loans receivable, net
1,129,505,157 1,048,147,496
Loans held for sale
1,620,801 2,776,785
Bank premises and equipment, net
17,340,250 17,810,605
Accrued income receivable
11,142,897 11,788,409
Other real estate owned
217,856 4,003,684
Bank-owned life insurance
2,915,715 2,842,713
Deferred income taxes, net
- 1,151,016
Other intangible assets, net
3,133,240 3,959,260
Goodwill
12,424,434 12,114,559
Other assets
5,678,201 6,041,126
Total assets
$ 1,975,647,743 $ 1,737,182,505
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Deposits
Noninterest-bearing checking
$ 349,500,268 $ 267,441,988
Interest-bearing checking
528,795,635 461,857,728
Savings and money market
581,223,880 481,642,221
Time, $250,000 and over
60,019,296 74,206,421
Other time
196,907,101 208,026,740
Total deposits
1,716,446,180 1,493,175,098
Securities sold under agreements to repurchase
37,293,019 42,033,570
FHLB advances
3,000,000 5,000,000
Dividends payable
- 2,213,459
Deferred income taxes, net
1,731,211 -
Accrued expenses and other liabilities
7,690,907 7,180,906
Total liabilities
1,766,161,317 1,549,603,033
STOCKHOLDERS' EQUITY
Common stock, $2 par value, authorized 18,000,000 shares; issued and outstanding 9,122,747 and 9,222,747 shares as of December 31, 2020 and 2019, respectively
18,245,494 18,445,494
Additional paid-in capital
17,001,736 18,794,141
Retained earnings
158,216,626 146,225,085
Accumulated other comprehensive income
16,022,570 4,114,752
Total stockholders' equity
209,486,426 187,579,472
Total liabilities and stockholders' equity
$ 1,975,647,743 $ 1,737,182,505
See Notes to Consolidated Financial Statements.
AMES NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 2020 and 2019
Interest and dividend income:
Loans, including fees
$ 50,469,873
$ 44,282,197
Securities:
Taxable
7,763,684
6,483,893
Tax-exempt
3,628,123
4,047,054
Other interest and dividend income
1,078,967
1,364,349
Total interest and dividend income
62,940,647
56,177,493
Interest expense:
Deposits
7,820,828
10,200,626
Other borrowed funds
276,982
728,723
Total interest expense
8,097,810
10,929,349
Net interest income
54,842,837
45,248,144
Provision for loan losses
5,680,656
1,314,104
Net interest income after provision for loan losses
49,162,181
43,934,040
Noninterest income:
Wealth management income
3,848,497
3,596,770
Service fees
1,523,189
1,619,269
Securities gains, net
429,925
17,031
Gain on sale of loans held for sale
2,111,893
1,044,798
Merchant and card fees
1,772,469
1,525,309
Other noninterest income
934,164
826,221
Total noninterest income
10,620,137
8,629,398
Noninterest expense:
Salaries and employee benefits
22,868,601
19,675,952
Data processing
5,181,705
4,130,506
Occupancy expenses, net
2,667,788
2,275,882
FDIC insurance assessments
313,069
193,593
Professional fees
1,537,254
1,753,531
Business development
1,081,537
1,242,271
Intangible asset amortization
826,020
609,624
New Markets Tax Credit projects amortization
638,851
581,563
Other operating expenses, net
1,436,430
1,058,747
Total noninterest expense
36,551,255
31,521,669
Income before income taxes
23,231,063
21,041,769
Provision for income taxes
4,381,000
3,847,600
Net income
$ 18,850,063
$ 17,194,169
Basic and diluted earnings per share
$ 2.06
$ 1.86
See Notes to Consolidated Financial Statements.
AMES NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years Ended December 31, 2020 and 2019
Net income
$ 18,850,063
$ 17,194,169
Other comprehensive income, before tax:
Unrealized gains on securities before tax:
Unrealized holding gains arising during the period
16,307,017
10,936,820
Less: reclassification adjustment for gains realized in net income
429,925
17,031
Other comprehensive income before tax
15,877,092
10,919,789
Tax expense related to other comprehensive income
3,969,274
2,729,946
Other comprehensive income, net of tax
11,907,818
8,189,843
Comprehensive income
$ 30,757,881
$ 25,384,012
See Notes to Consolidated Financial Statements.
AMES NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
Years Ended December 31, 2020 and 2019
Common Stock
Additional Paid-in Retained Accumulated
Other
Comprehensive Total
Stockholders'
Shares
Amount
Capital Earnings Income (Loss) Equity
Balance, December 31, 2018
9,293,305 $ 18,586,610 $ 20,461,724 $ 137,891,821 $ (4,075,091 ) $ 172,865,064
Net income
- - 17,194,169 - 17,194,169
Other comprehensive income
- - - 8,189,843 8,189,843
Retirement of stock
(70,558 ) (141,116 ) (1,667,583 ) - - (1,808,699 )
Cash dividends declared, $0.96 per share
- - (8,860,905 ) - (8,860,905 )
Balance, December 31, 2019
9,222,747 18,445,494 18,794,141 146,225,085 4,114,752 187,579,472
Net income
- - 18,850,063 - 18,850,063
Other comprehensive income
- - - 11,907,818 11,907,818
Retirement of stock
(100,000 ) (200,000 ) (1,792,405 ) - - (1,992,405 )
Cash dividends declared, $0.75 per share
- - (6,858,522 ) - (6,858,522 )
Balance, December 31, 2020
9,122,747 $ 18,245,494 $ 17,001,736 $ 158,216,626 $ 16,022,570 $ 209,486,426
See Notes to Consolidated Financial Statements.
AMES NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2020 and 2019
CASH FLOWS FROM OPERATING ACTIVITIES
Net income
$ 18,850,063
$ 17,194,169
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses
5,680,656
1,314,104
Provision for off-balance sheet commitments
51,000
17,000
Amortization of securities available-for-sale, loans and deposits, net
983,296
1,066,378
Amortization of intangible assets
826,020
609,624
Depreciation
1,445,509
1,235,378
Provision (credit) for deferred income taxes
(1,087,046 )
(32,250 )
Securities gains, net
(429,925 )
(17,031 )
Gain on sales of loans held for sale
(2,111,893 )
(1,044,798 )
Proceeds from the sales of loans held for sale
95,272,224
51,213,713
Originations of loans held for sale
(92,004,347 )
(52,544,413 )
(Gain) on sale and foreclosure of other real estate owned, net
(21,617 )
(44,433 )
Loss on sale and disposal of bank premises and equipment, net
106,142
9,360
Amortization of investment in new markets tax credit projects
638,851
581,563
Change in assets and liabilities:
Decrease in accrued income receivable
645,512
514,915
(Increase) decrease in other assets
408,345
(784,589 )
Increase in accrued expenses and other liabilities
459,001
891,022
Net cash provided by operating activities
29,711,791
20,179,712
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of securities available-for-sale
(238,174,382 )
(82,387,547 )
Proceeds from sale of securities available-for-sale
5,462,657
8,211,157
Proceeds from maturities and calls of securities available-for-sale
129,702,317
98,514,145
Net decrease in federal funds sold
-
2,792,000
Purchase of FHLB stock
(1,148,900 )
(4,060,600 )
Proceeds from the redemption of FHLB stock
1,134,300
4,477,200
Net (increase) in interest-bearing deposits in financial institutions
(57,756,377 )
(61,855,282 )
Net (increase) in loans
(86,302,370 )
(23,459,602 )
Net proceeds from the sale of other real estate owned
3,818,183
833,721
Proceeds from the sale of bank premises and equipment
-
4,000
Purchase of bank premises and equipment
(1,248,831 )
(780,440 )
Proceeds from sale of bank-owned life insurance
-
2,501,521
Purchase of investment in new market tax credit projects
(446,856 )
(4,536,378 )
Cash paid net of cash received for acquired bank
(309,875 )
(19,143,271 )
Other
(73,002 )
(71,565 )
Net cash (used in) investing activities
(245,343,136 )
(78,960,941 )
CASH FLOWS FROM FINANCING ACTIVITIES
Increase in deposits
223,638,021
83,595,584
(Decrease) in securities sold under agreements to repurchase
(4,740,551 )
(387,936 )
Proceeds from short-term borrowings
-
3,000,000
Payments on FHLB and other borrowings
(2,000,000 )
(12,600,000 )
Dividends paid
(9,071,981 )
(8,784,906 )
Stock repurchases
(1,992,405 )
(1,808,699 )
Net cash provided by financing activities
205,833,084
63,014,043
Net increase (decrease) in cash and due from banks
(9,798,261 )
4,232,814
CASH AND DUE FROM BANKS
Beginning
34,616,880
30,384,066
Ending
$ 24,818,619
$ 34,616,880
AMES NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
Years Ended December 31, 2020 and 2019
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash payments for:
Interest
$ 8,798,822
$ 10,550,529
Income taxes
5,499,334
3,958,213
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING ACTIVITIES
Transfer of loans to other real estate owned
$ 10,738
$ 381,600
Business Combination:
Fair value of interest bearing deposits in financial institutions acquired
$ -
$ 21,034,829
Fair value of federal funds sold acquired
-
2,792,000
Fair value of securities available-for-sale acquired
-
33,615,135
Fair value of FHLB stock at cost
-
364,300
Fair value of loans receivable acquired
-
137,776,266
Fair value of bank premises and equipment acquired
-
2,452,021
Fair value of accrued interest receivable acquired
-
2,887,754
Fair value of other real estate owned acquired
-
3,581,769
Fair value of other tangible assets acquired
-
203,866
Fair value of bank-owned life insurance acquired
-
2,498,940
Goodwill
309,875
2,370,087
Core deposit intangible acquired
-
1,891,000
Deposits assumed
-
188,631,294
Securities sold under agreement to repurchase assumed
-
1,747,020
Other liabilities assumed
-
1,946,382
See Notes to Consolidated Financial Statements.
Notes to Consolidated Financial Statements
Note 1. Summary of Significant Accounting Policies
Description of business: Ames National Corporation and subsidiaries (the Company) operates in the commercial banking industry through its subsidiaries in Ames, Boone, Story City, Nevada, Marshalltown and Creston, Iowa. Loan and deposit customers are located primarily in Boone, Clarke, Hancock, Polk, Marshall, Story and Union counties and adjacent counties in Iowa.
Segment information: The Company uses the “management approach” for reporting information about segments in annual and interim financial statements. The “management approach” is based on the way the chief operating decision-maker organizes segments within a company for making operating decisions and assessing performance. Based on the “management approach” model, the Company has determined that its business is comprised of one operating segment: banking. The banking segment generates revenues through personal, business, agricultural and commercial lending, management of the investment securities portfolio, deposit account services and wealth management services.
Consolidation: The consolidated financial statements include the accounts of Ames National Corporation (the Parent Company) and its wholly-owned subsidiaries, First National Bank, Ames, Iowa (FNB); State Bank & Trust Co., Nevada, Iowa (SBT); Boone Bank & Trust Co., Boone, Iowa (BBT); Reliance State Bank, Story City, Iowa (RSB); United Bank & Trust NA, Marshalltown, Iowa (UBT); and Iowa State Savings Bank, Creston, Iowa (ISSB) (collectively, the Banks). All significant intercompany transactions and balances have been eliminated in consolidation.
Use of estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the assessment of goodwill impairment and the fair value and assessment of other-than-temporary impairment for certain financial instruments.
Cash and due from banks: For purposes of reporting cash flows, cash and due from banks include cash on hand and amounts due from banks. The Company reports net cash flows for customer loan transactions, deposit transactions and short-term borrowings with maturities of 90 days or less.
Securities available-for-sale: The Company classifies all securities as available-for-sale. Securities available-for-sale are those securities the Company may decide to sell if needed for liquidity, asset-liability management or other reasons. Securities available-for-sale are reported at fair value, with the change in the net unrealized gains reported as other comprehensive income and as accumulated other comprehensive income, net of taxes, a separate component of stockholders’ equity.
Gains and losses on the sale of securities are determined using the specific identification method based on amortized cost and are reflected in results of operation at the time of sale. Interest and dividend income, adjusted by amortization of purchase premium or discount over the estimated life of the security using the level yield method, is included in income as earned.
Declines in the fair value of securities available-for-sale below their cost that are deemed to be other-than-temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses, management considers (i) the intent to sell the investment securities and the more likely than not requirement that the Company will be required to sell the investment securities prior to recovery, (ii) the length of time and the extent to which the fair value has been less than cost and (iii) the financial condition and near-term prospects of the issuer. Due to potential changes in conditions, it is at least reasonably possible that change in management’s assessment of other-than-temporary impairment will occur in the near term and that such changes could be material to the amounts reported in the Company’s financial statements.
FHLB and FRB stock: The Banks, as members of the FHLB system, are required to maintain an investment in capital stock of the FHLB in an amount equal to 0.12 percent of the member bank’s total assets plus 4.00 percent of outstanding advances from the FHLB and the outstanding principal balance of loans previously issued through the Mortgage Partnership Finance Program (MPF). All shares of FHLB stock are issued and redeemed at par value. The Banks, as members of the FRB system, must subscribe to the capital stock of its District Federal Reserve Bank in an amount equal to 6 percent of the member bank's paid-up capital and surplus and must pay in half of that amount. The other half is subject to call by the Board of Governors. The stock is issued and redeemed at par value. No ready market exists for the FHLB and FRB stock, and it has no quoted market value. The Company evaluates these assets for impairment on a quarterly basis and determined there was no impairment as of December 31, 2020.
Loans: Loans are stated at the principal amount outstanding, net of deferred loan fees, deferred loan costs, and the allowance for loan losses. Interest on loans is credited to income as earned based on the principal amount outstanding. The Banks’ policy is to discontinue the accrual of interest income on any loan 90 days or more past due unless the loans are well collateralized and in the process of collection. Income on nonaccrual loans is subsequently recognized only to the extent that cash payments are received and principal obligations are expected to be recoverable. Nonaccrual loans are returned to an accrual status when, in the opinion of management, the financial position of the borrower indicates there is no longer any reasonable doubt as to timely payment of principal or interest.
The restructuring of a loan is considered a “troubled debt restructuring” (“TDR”) if both the borrower is experiencing financial difficulties and the creditor has granted a concession. Section 4013 of the CARES Act, “Temporary Relief From Troubled Debt Restructurings,” allows financial institutions the option to temporarily suspend certain requirements under U.S. GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. Federal banking regulators also issued interagency statements that include similar guidance on loan modifications and reporting for financial institutions working with customers affected by COVID-19.
Allowance for loan losses: The allowance for loan losses is established through a provision for loan losses and maintained at a level deemed appropriate by management to provide for known and inherent risks in the loan portfolio. The allowance is based upon an ongoing review of past loan loss experience, current economic conditions, the underlying collateral value securing the loans and other adverse situations that may affect the borrower’s ability to repay. Loans which are deemed to be uncollectible are charged-off and deducted from the allowance. Recoveries on loans charged-off are added to the allowance. This evaluation is inherently subjective and requires estimates that are susceptible to significant revisions as more information becomes available. Due to potential changes in conditions, it is at least reasonably possible that changes in estimates will occur in the near term and that such changes could materially affect the amounts reported in the Company’s financial statements.
The Company’s allowance for loan losses consists of two components (i) specific reserves based on probable losses on specific loans and (ii) a general allowance based on historical loan loss experience, general economic conditions and other qualitative risk factors both internal and external to the Company.
The allowances established for probable losses on specific loans are based on a regular analysis and evaluation of problem loans. Loans are classified based on an internal credit risk rating process that evaluates, among other things: (i) the obligor’s ability to repay; (ii) the underlying collateral, if any; and (iii) the economic environment and industry in which the borrower operates. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Smaller balance homogeneous loans are evaluated for impairment in total. Such loans include residential first mortgage loans secured by one-to-four family residences, residential construction loans, and automobile loans. Commercial and agricultural loans and mortgage loans secured by other properties are evaluated individually for impairment when analysis of borrower operating results and financial condition indicates that underlying cash flows of the borrower’s business are not adequate to meet its debt service requirements. Often this is associated with a delay or shortfall in payments of 90 days or more. Nonaccrual loans are often also considered impaired. Impaired loans or portions thereof, are charged-off when deemed uncollectible.
The general component of the allowance for loan losses is based on historical loan loss experience, general economic conditions and other qualitative risk factors both internal and external to the Company. The general component is determined by evaluating, among other things: (i) actual charge offs; (ii) the experience, ability and effectiveness of the Company’s lending management and staff; (iii) the effectiveness of the Company’s loan policies, procedures and internal controls; (iv) changes in asset quality; (v) changes in loan portfolio volume; (vi) the composition and concentrations of credit; (vii) the impact of competition on loan structuring and pricing; (viii) the effectiveness of the internal audit loan review function; (ix) the impact of environmental risks on portfolio risks; and (x) the impact of rising interest rates on portfolio risk (collectively, the variables). Management evaluates the degree of risk that each one of these variables has on the quality of the loan portfolio on a quarterly basis. Each variable is determined to have either a high, moderate or low degree of risk. The results are then input into a “general allocation matrix” to determine an appropriate general allocation of the allowance for losses. Also included in the general component is an allocation for groups of loans with similar risk characteristics.
Loans held for sale: Loans held for sale are the loans the Banks have the intent to sell in the foreseeable future. They are carried at the lower of aggregate cost or fair value. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income. Gains and losses on sales of loans are determined by the difference between the sale proceeds and the carrying value of the loans, recognized at settlement date and recorded as noninterest income.
Bank premises and equipment: Premises and equipment are stated at cost less accumulated depreciation. Depreciation expense is computed using straight-line and accelerated methods over the estimated useful lives of the respective assets. Depreciable lives range from 3 to 7 years for equipment and 15 to 39 years for premises.
Other real estate owned: Real estate properties acquired through or in lieu of foreclosure are initially recorded at the fair value less estimated selling cost at the date of foreclosure. Any write-downs based on the asset’s fair value at the date of acquisition are charged to the allowance for loan losses. Costs of significant property improvements are capitalized, whereas costs relating to holding property are expensed. The portion of interest costs relating to development of real estate is capitalized. Valuations are periodically performed by management and property held for sale is carried at the lower of the new cost basis or fair value less cost to sell and any subsequent write-downs are charged to operations. This evaluation is inherently subjective and requires estimates that are susceptible to significant revisions as more information becomes available.
Bank-owned life insurance: The carrying amount of bank-owned life insurance consists of the initial premium paid, plus increases in cash value, less the carrying amount associated with any death benefit received. Death benefits paid in excess of the applicable carrying amount are recognized as income. A portion of the increases in cash value and the death benefits recognized as income are exempt from income taxes.
Goodwill and other intangible assets: Goodwill represents the excess of cost over fair value of net assets acquired. Goodwill resulting from acquisitions is not amortized, but is tested for impairment annually or whenever events change and circumstances indicate that it is more likely than not that impairment has occurred. Goodwill is tested for impairment and begins with an estimation of the fair value of a reporting unit. Impairment would arise if the fair value of a reporting unit is less than its carrying value.
Significant judgment is applied when goodwill is assessed for impairment. This judgment includes developing cash flow projections, selecting appropriate discount rates, identifying relevant market comparables, incorporating general economic and market conditions and selecting an appropriate control premium. Due to the economic weakness resulting from the COVID-19 pandemic, the Company completed a quantitative assessment of goodwill as of May 31, 2020 which indicated that goodwill was not impaired. Subsequently, the Company determined there were no adverse changes in criteria and key considerations to the previous assessment. Accordingly, the Company concluded that there is no impairment of goodwill as of December 31, 2020. Further goodwill impairment evaluations, which may result in goodwill impairment, may be necessary if events or circumstance changes would more likely than not reduce the fair value of a reporting unit below its carrying amount.
The only other significant intangible assets are core deposit intangible and customer list assets. The core deposit intangible and customer list asset is determined to have a definite life and is amortized over the estimated useful life. The core deposit intangible asset and customer list asset are both customer-based relationship valuation attributed to the expectation of a lower net cost of these deposits versus alternative sources of funds. The core deposit intangible and customer list asset are reviewed for impairment whenever events occur or circumstances indicate that the carrying amount may not be recoverable.
Wealth management department assets: Property held for customers in fiduciary or agency capacities are not included in the accompanying consolidated balance sheets, as such items are not assets of the Banks.
Revenue from contracts with customers: Interest revenue from loans and investments is recognized on the accrual basis of accounting as the interest is earned according to the terms of the particular loan or investment. Income from service and other customer charges is recognized as earned. Revenue from service charges are earned in accordance with the terms of the various products or services provided. Services within the scope of Accounting Standards Codification (“ASC”) 606 include service charges on deposits, interchange income, wealth management fees, investment brokerage fees, and the net gain on sale of foreclosed assets.
Advertising costs: Advertising costs are expensed as incurred.
Income taxes: Deferred income taxes are provided on temporary differences between financial statement and income tax reporting. Temporary differences are differences between the amounts of assets and liabilities reported for financial statement purposes and their tax bases. Deferred tax assets are recognized for temporary differences that will be deductible in future years’ tax returns and for operating loss and tax credit carry forwards. Deferred tax assets are reduced by a valuation allowance if it is deemed more likely than not that some or all of the deferred tax assets will not be realized. Deferred tax liabilities are recognized for temporary differences that will be taxable in future years’ tax returns. Accounting for uncertainty in income taxes sets out a consistent framework to determine the appropriate level of tax reserves to maintain for uncertain tax positions. Benefits from tax positions taken or expected to be taken in a tax return are not recognized if the likelihood that the tax position would be sustained upon examination by a taxing authority is considered to be 50 percent or less. Interest and penalties are accounted for as a component of income tax expense.
The Company files a consolidated federal income tax return, with each entity computing its taxes on a separate company basis. For state tax purposes, the Banks file franchise tax returns, while the Parent Company files a corporate income tax return.
Comprehensive income: Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on securities available-for-sale, are reported as accumulated other comprehensive income, a separate component of the stockholders’ equity section of the consolidated balance sheet, and such items, along with net income, are components of the statement of comprehensive income. Gains and losses on securities available-for-sale are reclassified to net income as the gains or losses are realized upon sale of the securities. Other-than-temporary impairment charges are reclassified to net income at the time of the charge.
Financial instruments with off-balance-sheet risk: The Company, in the normal course of business, makes commitments to make loans which are not reflected in the consolidated financial statements. A summary of these commitments is disclosed in Note 15.
Transfers of financial assets and participating interests: Transfers of an entire financial asset or a participating interest in an entire financial asset are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
The transfer of a participating interest in an entire financial asset must also meet the definition of a participating interest. A participating interest in a financial asset has all of the following characteristics: (1) from the date of the transfer, it must represent a proportionate (pro rata) ownership in the financial asset; (2) from the date of transfer, all cash flows received, except any cash flows allocated as any compensation for servicing or other services performed, must be divided proportionately among participating interest holders in the amount equal to their share ownership; (3) the rights of each participating interest holder must have the same priority; and (4) no party has the right to pledge or exchange the entire financial asset unless all participating interest holders agree to do so.
Earnings per share: Basic earnings per share computations for the years ended December 31, 2020 and 2019 were determined by dividing net income by the weighted-average number of common shares outstanding during the years then ended. The Company had no potentially dilutive securities outstanding during the periods presented.
The following information was used in the computation of basic earnings per share (EPS) for the years ended December 31, 2020 and 2019:
Basic earning per share computation:
Net income
$ 18,850,063 $ 17,194,169
Weighted average common shares outstanding
9,148,244 9,236,989
Basic EPS
$ 2.06 $ 1.86
New and Pending Accounting Pronouncements: In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The ASU requires an organization to measure all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. Additionally, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. In October 2019, the FASB voted to approve amendments to the effective date of ASU No. 2016-13 for smaller reporting companies, as defined by the SEC, and other non-SEC reporting entities. The amendment delays the effective date for our Company until interim and annual periods beginning after December 15, 2022. The Company continues collecting and retaining loan and credit data and evaluating various loss estimation models, along with refining the implementation of a software product and its approach for determining the expected credit losses under the new guidance. The Company’s preliminary evaluation indicates the provisions of ASU No. 2016-13 are expected to impact the Company’s financial statements. The Company is continuing to evaluate the extent of the potential impact.
In January 2017, the FASB issued ASU 2017-04, Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. The guidance in this update eliminates the Step 2 from the goodwill impairment test. For public companies, this update became effective for interim and annual periods beginning after December 15, 2019. The Company adopted this guidance effective January 1, 2020 and the adoption did not have a material impact on the Company’s consolidated financial statements.
In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement. The amendments in this update modify the disclosure requirements for fair value measurements by removing, modifying, or adding certain disclosures. The update became effective for interim and annual periods in fiscal years beginning after December 15, 2019, with early adoption permitted for the removed disclosures and delayed adoption until fiscal year 2020 permitted for the new disclosures. The removed and modified disclosures were adopted on a retrospective basis, and the new disclosures were adopted on a prospective basis. The Company adopted this guidance effective January 1, 2020 and the adoption of this guidance did not have a material impact on the Company’s consolidated financial statements.
Note 2. Bank Acquisitions
On October 25, 2019, the Company completed the purchase of ISSB, including its’ four branches in Creston, Diagonal, Lennox and Corning, Iowa (the “ISSB Acquisition”). The ISSB Acquisition was consistent with the Bank’s strategy to strengthen and expand its Iowa market share. The ISSB’s acquired assets and liabilities were recorded at fair value at the date of acquisition. This bank was purchased for cash consideration of $22.6 million. As a result of the acquisition, the Company recorded a core deposit intangible asset of $1,891,000 and goodwill of approximately $2,680,000. The results of operations for this acquisition have been included since the transaction date of October 25, 2019. Since the acquisition date, there has been no significant credit deterioration of the acquired loans. Non-routine expenses associated with this transaction were approximately $195,000 for the year ended December 31, 2019.
The following table summarizes the fair value of the total consideration transferred as a part of the ISSB Acquisition as well as the fair value of identifiable assets acquired and liabilities assumed as of the effective date of the transactions (in thousands):
Cash consideration transferred
$ 22,643
Recognized amounts of identifiable assets acquired and liabilities assumed:
Cash and due from banks
$ 3,188
Federal funds sold
2,792
Interest-bearing deposits in financial institutions
21,035
Securities available-for-sale
33,615
Federal Home Loan Bank stock at cost
Loans receivable
137,776
Accrued interest receivable
2,888
Bank premises and equipment
2,452
Other real estate owned
3,582
Bank-owned life insurance
2,499
Core deposit intangible asset
1,891
Other assets
Deposits
(188,631 )
Securities sold under repurchase agreements
(1,747 )
Accrued interest payable and other liabilities
(1,946 )
Total identifiable net assets
19,963
Goodwill
$ 2,680
On October 25, 2019, associated with the ISSB Acquisition, the contractual balance of loans receivable acquired was $139,703,000 and the contractual balance of the deposits assumed was $188,068,000. Loans receivable acquired include commercial real estate, 1-4 family real estate, agricultural real estate, commercial operating, agricultural operating and consumer loans. During the first quarter of 2020, an additional $310,000 of goodwill was recorded due to an adjustment to the initial purchase price.
The acquired loans associated with the ISSB Acquisition at contractual values as of October 25, 2019 were determined to be risk rated as follows (in thousands):
Pass
$ 121,346
Watch
12,333
Special Mention
-
Substandard
6,024
Total loans acquired at book value
$ 139,703
The core deposit intangible asset associated with the ISSB Acquisition is amortized to expense on a declining basis over a period of ten years. The loan market valuation is accreted to income on a declining basis over a ten-year period. The time deposits market valuation is amortized to expense on a declining basis over a two-year period.
Note 3. Concentrations and Restrictions on Cash and Due from Banks and Interest-Bearing Deposits in Financial Institutions
The Federal Reserve announced on March 15, 2020, that the reserve requirement ratios will be reduced to zero percent effective March 26, 2020. This action eliminated reserve requirements for all depository institutions. Prior to March 26, 2020, the Federal Reserve Bank requires member banks to maintain certain cash and due from bank reserves. The subsidiary banks’ did not have a reserve requirement at December 31, 2020 and the reserve requirement totaled approximately $8,734,000 at December 31, 2019. The Federal Reserve Board currently has no plans to reinstate the reserve requirement, but retains the right to reinstate it.
At December 31, 2020, the Company had approximately $160,950,000 on deposit at various financial institutions. Management does not believe these balances carry a significant risk of loss but cannot provide absolute assurance that no losses would occur if these institutions were to become insolvent.
Note 4. Debt Securities
The amortized cost of securities available-for-sale and their approximate fair values are summarized below (in thousands):
Gross
Gross
Amortized
Unrealized
Unrealized
Estimated
Cost
Gains
Losses
Fair Value
2020:
U.S. government treasuries
$ 11,725 $ 328 $ - $ 12,053
U.S. government agencies
106,337 4,875 (13 ) 111,199
U.S. government mortgage-backed securities
146,889 3,337 (31 ) 150,195
State and political subdivisions
243,438 8,182 (36 ) 251,584
Corporate bonds
67,247 4,722 (1 ) 71,968
Total
$ 575,636 $ 21,444 $ (81 ) $ 596,999
Gross
Gross
Amortized
Unrealized
Unrealized
Estimated
Cost
Gains
Losses
Fair Value
2019:
U.S. government treasuries
$ 9,392 $ 64 $ (4 ) $ 9,452
U.S. government agencies
124,913 1,609 (89 ) 126,433
U.S. government mortgage-backed securities
80,295 867 (34 ) 81,128
State and political subdivisions
193,745 1,852 (295 ) 195,302
Corporate bonds
66,012 1,542 (26 ) 67,528
Total
$ 474,357 $ 5,934 $ (448 ) $ 479,843
The amortized cost and fair value of debt securities available-for-sale as of December 31, 2020, are shown below by expected maturity. 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 (in thousands).
Amortized
Estimated
Cost
Fair Value
Due in one year or less
$ 44,983 $ 45,329
Due after one year through five years
242,363 251,324
Due after five years through ten years
237,913 247,562
Due after ten years
50,377 52,784
Total
$ 575,636 $ 596,999
At December 31, 2020 and 2019, securities with a carrying value of approximately $201,979,000 and $180,063,000, respectively, were pledged as collateral on public deposits, securities sold under agreements to repurchase and for other purposes as required or permitted by law. Securities sold under agreements to repurchase are held by the Company’s safekeeping agent.
The proceeds, gains, and losses from securities available-for-sale are summarized below (in thousands):
Proceeds from sales of securities available-for-sale
$ 5,463 $ 8,211
Gross realized gains on securities available-for-sale
430 37
Gross realized losses on securities available-for-sale
- 20
No other-than-temporary impairments were recognized as a component of income for the years ended December 31, 2020 and 2019.
Gross unrealized losses and fair value aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position as of December 31, 2020 and 2019, are summarized as follows (in thousands):
2020:
Less than 12 Months
12 Months or More
Total
Estimated
Gross
Estimated
Gross
Estimated
Gross
Fair
Unrealized
Fair
Unrealized
Fair
Unrealized
Value
Losses
Value
Losses
Value
Losses
Securities available for sale:
U.S. government agencies
$ 6,016 $ (7 ) $ 896 $ (6 ) $ 6,912 $ (13 )
U.S. government mortgage-backed securities
5,097 (31 ) - - 5,097 (31 )
State and political subdivisions
7,875 (34 ) 180 (2 ) 8,055 (36 )
Corporate bonds
534 (1 ) - - 534 (1 )
Total
$ 19,522 $ (73 ) $ 1,076 $ (8 ) $ 20,598 $ (81 )
2019:
Less than 12 Months
12 Months or More
Total
Estimated
Gross
Estimated
Gross
Estimated
Gross
Fair
Unrealized
Fair
Unrealized
Fair
Unrealized
Value
Losses
Value
Losses
Value
Losses
Securities available for sale:
U.S. government treasuries
$ 3,023 $ (4 ) $ - $ - $ 3,023 $ (4 )
U.S. government agencies
23,827 (85 ) 2,520 (4 ) 26,347 (89 )
U.S. government mortgage-backed securities
14,885 (28 ) 1,934 (6 ) 16,819 (34 )
State and political subdivisions
17,512 (125 ) 5,954 (170 ) 23,466 (295 )
Corporate bonds
4,129 (26 ) - - 4,129 (26 )
Total
$ 63,376 $ (268 ) $ 10,408 $ (180 ) $ 73,784 $ (448 )
At December 31, 2020, debt securities have unrealized losses of $81,000. These unrealized losses are generally due to changes in interest rates or general market conditions. In analyzing an issuer’s financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and industry analysts’ reports. Management concluded that the unrealized losses on debt securities were temporary. Due to potential changes in conditions, it is at least reasonably possible that changes in fair values and management’s assessments will occur in the near term and that such changes could materially affect the amounts reported in the Company’s financial statements.
Note 5. Loans Receivable and Credit Disclosures
The composition of loans receivable is as follows (in thousands):
Real estate - construction
$ 45,497 $ 47,895
Real estate - 1 to 4 family residential
213,562 201,510
Real estate - commercial
496,357 435,850
Real estate - agricultural
151,992 160,771
Commercial 1
122,535 84,084
Agricultural
102,586 111,945
Consumer and other
15,048 18,791
1,147,577 1,060,846
Less:
Allowance for loan losses
(17,215 ) (12,619 )
Deferred loan fees and costs, net 2
(857 ) (80 )
Total loans receivable, net
$ 1,129,505 $ 1,048,147
Commercial loan portfolio as of December 31, 2020 includes $50.9 million Paycheck Protection Program ("PPP") loans
Deferred loan fees as of December 31, 2020 includes $0.9 million of fees related to the PPP loans.
Construction loans are underwritten utilizing independent appraisals, sensitivity analysis of absorption, vacancy and lease rates and financial analysis of the developers and property owners. Construction loans are generally based upon estimates of costs and value associated with the completed project. These estimates may be inaccurate. Construction loans often involve the disbursement of funds with repayment substantially dependent on the success of the ultimate project. These loans are closely monitored by on-site inspections and are considered to have higher risks than other real estate loans due to their ultimate repayment being sensitive to interest rate changes, general economic conditions and the availability of long-term financing. The Company may require guarantees on these loans. The Company’s construction loans are secured primarily by properties located in its primary market area.
The Company originates 1-4 family real estate, consumer and other loans utilizing credit reports to supplement the underwriting process. The Company’s underwriting standards for 1-4 family loans are generally in accordance with FHLMC and FNMA manual underwriting guidelines. Properties securing 1-4 four-family real estate loans are appraised by either staff appraisers or fee appraisers, both of which are independent of the loan origination function and have been approved by the Board of Directors. The loan-to-value ratios normally do not exceed 90% without credit enhancements such as mortgage insurance. The Company will lend up to 100% of the lesser of the appraised value or purchase price for conventional 1-4 family real estate loans, provided private mortgage insurance is obtained. The Company’s 1-4 family real estate loans are secured primarily by properties located in its primary market area. The underwriting standards for consumer and other loans include a determination of the applicant’s payment history on other debts and an assessment of their ability to meet existing obligations and payments on the proposed loan. To monitor and manage loan risk, policies and procedures are developed and modified, as needed by management. This activity, coupled with smaller loan amounts that are spread across many individual borrowers, minimizes risk. Additionally, market conditions are reviewed by management on a regular basis.
Commercial and agricultural real estate loans are subject to underwriting standards and processes similar to commercial and agricultural operating loans, in addition to those unique to real estate loans. These loans are viewed primarily as cash flow loans and, secondarily, as loans secured by real estate. Commercial and agricultural real estate lending typically involves higher 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. Loan-to-value generally does not exceed 80% of the cost or value of the assets. Appraisals on properties securing these loans are generally performed by fee appraisers approved by the Board of Directors. Because payments on commercial and agricultural real estate loans are often dependent on the successful operation or management of the properties, repayment of such loans may be subject to adverse conditions in the real estate market or the economy. Management monitors and evaluates commercial and agricultural real estate loans based on collateral and risk rating criteria. The Company may require guarantees on these loans. The Company’s commercial and agricultural real estate loans are secured primarily by properties located in its primary market areas.
Commercial and agricultural operating loans are underwritten based on the Company’s examination of current and projected cash flows to determine the ability of the borrower to repay their obligations as agreed. This underwriting includes the evaluation of cash flows of the borrower, underlying collateral, if applicable, and the borrower’s ability to manage its business activities. The cash flows of borrowers and the collateral securing these loans may fluctuate in value after the initial evaluation. A first priority lien on the general assets of the business normally secures these types of loans. Loan-to-value limits vary and are dependent upon the nature and type of the underlying collateral and the financial strength of the borrower. Crop and hail insurance is required for most agricultural borrowers. Loans are generally guaranteed by the principal(s). The Company’s commercial and agricultural operating lending is primarily in its primary market area.
The Paycheck Protection Program (PPP) was established by the Coronavirus Aid, Relief and Economic Security Act (CARES Act), enacted on March 27, 2020, in response to the Coronavirus Disease 2019 (COVID-19) pandemic. On December 27, 2020 the Consolidated Appropriations Act was signed into law and provided funding to reopen the PPP to new qualifying borrowers of “First Draw” PPP loans, provide opportunities for certain borrowers of existing PPP loans to increase their First Draw loan, and create an opportunity for certain businesses to obtain a “Second Draw” PPP loan. The PPP is administered by the Small Business Administration (SBA). PPP loans may be forgiven by the SBA and are 100 percent guaranteed by the SBA.
The Company maintains an internal audit department that reviews and validates the credit risk program on a periodic basis. Results of these reviews are presented to management and the audit committee. The loan review process complements and reinforces the risk identification and assessment decisions made by lenders and credit personnel, as well as the Company’s policies and procedures.
Summary changes in the allowance for loan losses for the years ended December 31, 2020 and 2019 are as follows (in thousands):
Balance, beginning
$ 12,619 $ 11,684
Provision for loan losses
5,681 1,314
Recoveries of loans charged-off
325 72
Loans charged-off
(1,410 ) (451 )
Balance, ending
$ 17,215 $ 12,619
Activity in the allowance for loan losses, on a disaggregated basis, for the years ended December 31, 2020 and 2019 is as follows (in thousands):
2020:
1-4 Family
Construction
Residential
Commercial
Agricultural
Consumer
Real Estate
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
and Other
Total
Balance, beginning
$ 672 $ 2,122 $ 5,362 $ 1,326 $ 1,458 $ 1,478 $ 201 $ 12,619
Provision (credit) for loan losses
52 471 3,986 269 609 266 28 5,681
Recoveries of loans charged-off
1 6 26 - 14 - 278 325
Loans charged-off
- (18 ) (444 ) - (628 ) (48 ) (272 ) (1,410 )
Balance, ending
$ 725 $ 2,581 $ 8,930 $ 1,595 $ 1,453 $ 1,696 $ 235 $ 17,215
2019:
1-4 Family
Construction
Residential
Commercial
Agricultural
Consumer
Real Estate
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
and Other
Total
Balance, beginning
$ 699 $ 1,820 $ 4,615 $ 1,198 $ 1,777 $ 1,384 $ 191 $ 11,684
Provision (credit) for loan losses
(27 ) 372 732 128 (24 ) 94 39 1,314
Recoveries of loans charged-off
- 5 15 - 36 - 16 72
Loans charged-off
- (75 ) - - (331 ) - (45 ) (451 )
Balance, ending
$ 672 $ 2,122 $ 5,362 $ 1,326 $ 1,458 $ 1,478 $ 201 $ 12,619
Allowance for loan losses disaggregated on the basis of the impairment analysis method as of December 31, 2020 and 2019 is as follows (in thousands):
2020:
1-4 Family
Construction
Residential
Commercial
Agricultural
Consumer
Real Estate
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
and Other
Total
Ending balance: Individually evaluated for impairment
$ - $ 150 $ 1,486 $ - $ 115 $ 40 $ 28 $ 1,819
Ending balance: Collectively evaluated for impairment
725 2,431 7,444 1,595 1,338 1,656 207 15,396
Ending balance
$ 725 $ 2,581 $ 8,930 $ 1,595 $ 1,453 $ 1,696 $ 235 $ 17,215
2019:
1-4 Family
Construction
Residential
Commercial
Agricultural
Consumer
Real Estate
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
and Other
Total
Ending balance: Individually evaluated for impairment
$ - $ 209 $ - $ - $ - $ - $ - $ 209
Ending balance: Collectively evaluated for impairment
672 1,913 5,362 1,326 1,458 1,478 201 12,410
Ending balance
$ 672 $ 2,122 $ 5,362 $ 1,326 $ 1,458 $ 1,478 $ 201 $ 12,619
Loans receivable disaggregated on the basis of the impairment analysis method as of December 31, 2020 and 2019 is as follows (in thousands):
2020:
1-4 Family
Construction
Residential
Commercial
Agricultural
Consumer
Real Estate
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
and Other
Total
Ending balance: Individually evaluated for impairment
$ 167 $ 1,340 $ 10,258 $ 1,664 $ 940 $ 859 $ 45 $ 15,273
Ending balance: Collectively evaluated for impairment
45,330 212,222 486,099 150,328 121,595 101,727 15,003 1,132,304
Ending balance
$ 45,497 $ 213,562 $ 496,357 $ 151,992 $ 122,535 $ 102,586 $ 15,048 $ 1,147,577
2019:
1-4 Family
Construction
Residential
Commercial
Agricultural
Consumer
Real Estate
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
and Other
Total
Ending balance: Individually evaluated for impairment
$ - $ 1,204 $ 83 $ 84 $ 462 $ 2,951 $ 4 $ 4,788
Ending balance: Collectively evaluated for impairment
47,895 200,306 435,767 160,687 83,622 108,994 18,787 1,056,058
Ending balance
$ 47,895 $ 201,510 $ 435,850 $ 160,771 $ 84,084 $ 111,945 $ 18,791 $ 1,060,846
Credit Quality Indicators. As part of the on-going monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators including trends related to (i) the risk ratings of construction, commercial and agricultural real estate loans and commercial and agricultural operating loans, (ii) the level of classified loans, (iii) net charge-offs, (iv) non-performing loans and (v) the general economic conditions in our market areas.
The Company utilizes a risk rating matrix to assign risk ratings to each of its construction, commercial and agricultural loans. Loans are rated on a scale of 1 to 7. A description of the general characteristics of the 7 risk ratings is as follows:
Ratings 1, 2 and 3 - These ratings include loans of average to excellent credit quality borrowers. These borrowers generally have significant capital strength, moderate leverage and stable earnings and growth commensurate to their relative risk rating. These ratings are reviewed at least annually. These ratings also include performing loans less than $100,000.
Rating 4 - This rating includes loans on management’s “watch list” and is intended to be utilized for pass rated borrowers where credit quality has begun to show signs of financial weakness that now requires management’s heightened attention. This rating is reviewed at least quarterly.
Rating 5 - This rating is for “Special Mention” loans in accordance with regulatory guidelines. This rating is intended to be temporary and includes loans to borrowers whose credit quality has clearly deteriorated and are at risk of further decline unless active measures are taken to correct the situation. This rating is reviewed at least quarterly.
Rating 6 - This rating includes “Substandard” loans in accordance with regulatory guidelines, for which the accrual of interest has not been stopped. By definition under regulatory guidelines, a “Substandard” loan has defined weaknesses which make payment default or principal exposure likely, but not yet certain. Such loans are apt to be dependent upon collateral liquidation, a secondary source of repayment or an event outside of the normal course of business. This rating is reviewed at least quarterly.
Rating 7 - This rating includes “Substandard-Impaired” loans in accordance with regulatory guidelines, for which the accrual of interest has generally been stopped. This rating includes loans: (i) where interest is more than 90 days past due, (ii) not fully secured, (iii) where a specific valuation allowance may be necessary, or (iv) where the borrower is unable to make contractual principle and interest payments. This rating is reviewed at least quarterly.
The credit risk profile by internally assigned grade, on a disaggregated basis, at December 31, 2020 and 2019 is as follows (in thousands):
2020:
Construction
Commercial
Agricultural
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
Total
Pass
$ 39,980 $ 346,591 $ 110,925 $ 101,858 $ 80,075 $ 679,429
Watch
5,350 88,113 33,144 15,897 20,793 163,297
Special Mention
- 23,753 175 52 - 23,980
Substandard
- 27,642 6,084 3,788 859 38,373
Substandard-Impaired
167 10,258 1,664 940 859 13,888
Total
$ 45,497 $ 496,357 $ 151,992 $ 122,535 $ 102,586 $ 918,967
2019:
Construction
Commercial
Agricultural
Real Estate
Real Estate
Real Estate
Commercial
Agricultural
Total
Pass
$ 41,073 $ 387,274 $ 118,692 $ 62,655 $ 90,083 $ 699,777
Watch
6,822 29,209 32,780 16,147 15,248 100,206
Special Mention
- 4,581 - - - 4,581
Substandard
- 14,703 9,215 4,820 3,663 32,401
Substandard-Impaired
- 83 84 462 2,951 3,580
Total
$ 47,895 $ 435,850 $ 160,771 $ 84,084 $ 111,945 $ 840,545
The credit risk profile based on payment activity, on a disaggregated basis, at December 31, 2020 and 2019 is as follows (in thousands):
2020:
1-4 Family
Residential
Consumer
Real Estate
and Other
Total
Performing
$ 212,282 $ 15,003 $ 227,285
Non-performing
1,280 45 1,325
Total
$ 213,562 $ 15,048 $ 228,610
2019:
1-4 Family
Residential
Consumer
Real Estate
and Other
Total
Performing
$ 200,117 $ 18,782 $ 218,899
Non-performing
1,393 9 1,402
Total
$ 201,510 $ 18,791 $ 220,301
A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payment of principal and interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. The Company will apply its normal loan review procedures to identify loans that should be evaluated for impairment.
The following is a recap of impaired loans, on a disaggregated basis, at December 31, 2020 and 2019 and the average recorded investment and interest income recognized on these loans for the years ended December 31, 2020 and 2019 (in thousands):
2020:
Unpaid
Average
Interest
Recorded
Principal
Related
Recorded
Income
Investment
Balance
Allowance
Investment
Recognized
With no specific reserve recorded:
Real estate - construction
$ 167 $ 167 $ - $ 66 $ -
Real estate - 1 to 4 family residential
416 475 - 318 -
Real estate - commercial
242 578 - 6,625 16
Real estate - agricultural
1,664 1,698 - 1,295 6
Commercial
274 318 - 524 23
Agricultural
377 542 - 1,592 344
Consumer and other
8 10 - 22 128
Total loans with no specific reserve:
3,148 3,788 - 10,442 517
With an allowance recorded:
Real estate - construction
- - - - -
Real estate - 1 to 4 family residential
924 1,278 150 935 66
Real estate - commercial
10,016 10,157 1,486 2,198 -
Real estate - agricultural
- - - - -
Commercial
666 1,247 115 418 -
Agricultural
482 484 40 400 -
Consumer and other
37 39 28 19 92
Total loans with specific reserve:
12,125 13,205 1,819 3,970 158
Total
Real estate - construction
167 167 - 66 -
Real estate - 1 to 4 family residential
1,340 1,753 150 1,253 66
Real estate - commercial
10,258 10,735 1,486 8,823 16
Real estate - agricultural
1,664 1,698 - 1,295 6
Commercial
940 1,565 115 942 23
Agricultural
859 1,026 40 1,992 344
Consumer and other
45 49 28 41 220
Total
$ 15,273 $ 16,993 $ 1,819 $ 14,412 $ 675
2019:
Unpaid
Average
Interest
Recorded
Principal
Related
Recorded
Income
Investment
Balance
Allowance
Investment
Recognized
With no specific reserve recorded:
Real estate - construction
$ - $ - $ - $ - $ -
Real estate - 1 to 4 family residential
460 796 - 336 31
Real estate - commercial
83 435 - 323 133
Real estate - agricultural
84 97 - 80 -
Commercial
462 517 - 285 -
Agricultural
2,951 3,071 - 1,472 -
Consumer and other
4 4 - 1 -
Total loans with no specific reserve:
4,044 4,920 - 2,497 164
With an allowance recorded:
Real estate - construction
- - - - -
Real estate - 1 to 4 family residential
744 755 209 329 -
Real estate - commercial
- - - - -
Real estate - agricultural
- - - - -
Commercial
- - - 1,494 -
Agricultural
- - - - -
Consumer and other
- - - 8 1
Total loans with specific reserve:
744 755 209 1,831 1
Total
Real estate - construction
- - - - -
Real estate - 1 to 4 family residential
1,204 1,551 209 665 31
Real estate - commercial
83 435 - 323 133
Real estate - agricultural
84 97 - 80 -
Commercial
462 517 - 1,779 -
Agricultural
2,951 3,071 - 1,472 -
Consumer and other
4 4 - 9 1
Total
$ 4,788 $ 5,675 $ 209 $ 4,328 $ 165
The interest foregone on nonaccrual loans for the years ended December 31, 2020 and 2019 was approximately $975,000 and $473,000, respectively.
Nonaccrual loans at December 31, 2020 and 2019 were $15,273,000 and $4,788,000, respectively.
Troubled Debt Restructurings. The restructuring of a loan is considered a TDR if both the borrower is experiencing financial difficulties and the creditor has granted a concession. Concessions may include interest rate reductions or below market interest rates, extension of payments terms beyond the original maturity date, principal forgiveness, restructuring amortization schedules and other actions intended to minimize potential losses.
Certain troubled debt restructurings are on nonaccrual status at the time of restructuring. These borrowings are typically returned to accrual status after sustained repayment performance in accordance with the restructuring agreement for a reasonable period of at least six months and management is reasonably assured of future performance. If the TDR meets these performance criteria and the interest rate granted at the modification is equal to or greater than the rate that the Company was willing to accept at the time of the restructuring for a new loan with comparable risk, then the loan will return to performing status. If the TDR loan has a below market interest rate at the time of restructuring, it will be considered impaired until fully collected.
For TDR loans that were on nonaccrual status before the modification, a specific reserve may already be recorded. In periods subsequent to modification, the Company will continue to evaluate all troubled debt restructurings for possible impairment and, as necessary, recognizes impairment through the allowance. The Company had charge offs related to TDRs for the years ended December 31, 2020 and 2019 of $31,000 and $315,000, respectively.
The Company had loans meeting the definition of TDR of $11,293,000 as of December 31, 2020, all of which were included as impaired and nonaccrual loans. The Company had loans meeting the definition of TDR of $1,171,000 as of December 31, 2019, all of which were included as impaired and nonaccrual loans.
The Company’s TDRs, on a disaggregated basis, occurring in the years ended December 31 is as follows (dollars in thousands):
Pre-Modification
Post-Modification
Pre-Modification
Post-Modification
Outstanding
Outstanding
Outstanding
Outstanding
Number of
Recorded
Recorded
Number of
Recorded
Recorded
Contracts
Investment
Investment
Contracts
Investment
Investment
Real estate - construction
- $ - $ - - $ - $ -
Real estate - 1 to 4 family residential
- - - 3 1,035 1,035
Real estate - commercial
2 10,192 10,192 - - -
Real estate - agricultural
- - - - - -
Commercial
- - - - - -
Agricultural
3 54 54 - - -
Consumer and other
1 27 27 - - -
Total
6 $ 10,273 $ 10,273 3 $ 1,035 $ 1,035
During the year ended December 31, 2020, the Company granted concessions to four borrowers, with six contracts, experiencing financial difficulties. One loan was restructured with interest rates less than a market interest rate and the remaining loans were restructured with payment deferrals.
During the year ended December 31, 2019 the Company granted concessions to one borrower, with three contracts, experiencing financial difficulties. These loans were restructured with terms less than normal amounts of collateral.
There were no TDR loans that were modified during the year ended December 31, 2020 and 2019 with a payment default. A TDR loan is considered to have payment default when it is past due 60 days or more.
There was no significant financial impact from specific reserves or from charge-offs for the TDR loans included in the previous table.
Section 4013 of the CARES Act, “Temporary Relief From TDRs,” allows financial institutions the option to temporarily suspend certain requirements under U.S. GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. This temporary suspension may only be applied to modifications of loans that were not more than 30 days past due as of December 31, 2019 and may not be applied to modifications that are not related to the COVID-19 pandemic. If elected, the temporary suspension may be applied to eligible modifications executed during the period beginning on March 1, 2020 and ending on the earlier of December 31, 2020, extended to January 1, 2022 under the Coronavirus Response and Relief Supplemental Appropriations Act, or 60 days after the termination of the COVID-19 national emergency. In March 2020, federal banking regulators in consultation with the FASB issued interagency statements that include similar guidance on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The interagency statement provided that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not to be considered TDRs.
As of December 31, 2020, the Company had 24 COVID-19 related loan modifications still in the modification period with a total outstanding principal balance of $45.9 million. In addition to these modifications, there were $572,000 of modified loans more than 30 days past due after the modification period was completed. Modified loans continue to accrue interest and are evaluated for past due status based on the revised payment terms.
An aging analysis of the recorded investment in loans, on a disaggregated basis, as of December 31, 2020 and 2019, are as follows (in thousands):
2020:
30-89 90 Days
90 Days
Days
or Greater
Total
or Greater
Past Due
Past Due
Past Due
Current
Total
Accruing
Real estate - construction
$ 169 $ 167 $ 336 $ 45,161 $ 45,497 $ -
Real estate - 1 to 4 family residential
1,523 176 1,699 211,863 213,562 6
Real estate - commercial
152 56 208 496,149 496,357 -
Real estate - agricultural
574 1,618 2,192 149,800 151,992 -
Commercial
283 3 286 122,249 122,535 3
Agricultural
79 458 537 102,049 102,586 30
Consumer and other
18 16 34 15,014 15,048 -
Total
$ 2,798 $ 2,494 $ 5,292 $ 1,142,285 $ 1,147,577 $ 39
2019:
30-89 90 Days
90 Days
Days
or Greater
Total
or Greater
Past Due
Past Due
Past Due
Current
Total
Accruing
Real estate - construction
$ 1,796 $ - $ 1,796 $ 46,099 $ 47,895 $ -
Real estate - 1 to 4 family residential
811 290 1,101 200,409 201,510 188
Real estate - commercial
387 - 387 435,463 435,850 -
Real estate - agricultural
422 - 422 160,349 160,771 -
Commercial
518 237 755 83,329 84,084 -
Agricultural
666 2,587 3,253 108,692 111,945 62
Consumer and other
146 6 152 18,639 18,791 5
Total
$ 4,746 $ 3,120 $ 7,866 $ 1,052,980 $ 1,060,846 $ 255
There are no other known problem loans that cause management to have serious doubts as to the ability of such borrowers to comply with the present loan repayment terms.
As of December 31, 2020, there were no material commitments to lend additional funds to customers whose loans were classified as impaired.
Loans are made in the normal course of business to certain directors and executive officers of the Company and to their affiliates. The terms of these loans, including interest rates and collateral, are similar to those prevailing for comparable transactions with others and do not involve more than a normal risk of collectability. Loan transactions with related parties at December 31, 2020 and 2019 were as follows (in thousands):
Balance, beginning of year
$ 10,235 $ 7,807
New loans
15,750 5,854
Repayments
(13,407 ) (6,974 )
Change in status
439 3,548
Balance, end of year
$ 13,017 $ 10,235
Note 6. Bank Premises and Equipment
The major classes of bank premises and equipment and the total accumulated depreciation at December 31, 2020 and 2019 (in thousands):
Land
$ 4,038 $ 4,056
Buildings and improvements
21,803 21,560
Furniture and equipment
8,143 7,768
33,984 33,384
Less accumulated depreciation
16,644 15,573
Total bank premises and equipment, net
$ 17,340 $ 17,811
Note 7. Other Real Estate Owned
Changes in the other real estate owned at December 31, 2020 and 2019 are as follows (in thousands):
Balance, beginning of year
$ 4,004 $ 830
Transfer of loans
11 382
Acquired as a part of the acquisition
- 3,582
Net proceeds from sale
(3,819 ) (834 )
Gain on sale and foreclosure, net
22 44
Balance, end of year
$ 218 $ 4,004
The following table provides the composition of other real estate owned at December 31, 2020 and 2019 are as follows (in thousands):
Agricultural land
$ - $ 3,602
1 to 4 family residential houses
218 402
Total other real estate owned
$ 218 $ 4,004
Note 8. Goodwill
On October 25, 2019, the Company acquired ISSB located in Creston and Lenox, Iowa, which resulted in the recognition of $2.7 million of additional goodwill. Goodwill recognized in the ISSB Acquisition was primarily attributable to an expanded market share and economies of scale expected from combining ISSB with the Company. The goodwill related to the ISSB Acquisition is deductible for income tax purposes.
Goodwill also arose in connection with three other acquisitions in previous periods. Accounting standards allow for goodwill to be tested for impairment by performing a qualitative assessment to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying value. There was no impairment of the carrying amount of goodwill in 2020 and 2019.
Note 9. Intangible Assets
The following sets forth the carrying amounts and accumulated amortization of all intangible assets at December 31, 2020 and 2019 (in thousands):
Gross
Accumulated
Gross
Accumulated
Amount
Amortization
Amount
Amortization
Core deposit intangible asset
$ 6,411
$ 3,493
$ 6,411
$ 2,745
Customer list
Total
$ 6,946
$ 3,813
$ 6,946
$ 2,987
The weighted average life of the intangible assets is 3.6 and 4.2 years as of December 31, 2020 and 2019, respectively.
The amortization expense for the intangible assets totaled $826,000 and $610,000 for the years ended December 31, 2020 and 2019, respectively. Estimated remaining amortization expense on intangible assets is as follows for the years ending December 31 (in thousands):
$
After
Total
$ 3,133
The following sets forth the activity related to intangible assets for the years ended December 31, 2020 and 2019 (in thousands):
Beginning intangibles, net
$ 3,959
$ 2,678
Acquisition
-
1,891
Amortization
(826 )
(610 )
Ending intangible asset, net
$ 3,133
$ 3,959
Note 10. Deposits
At December 31, 2020, the maturities of time deposits are as follows (in thousands):
$ 175,323
45,294
18,270
11,550
6,489
Total time deposits
$ 256,926
Interest expense on deposits for the years ended December 31, 2020 and 2019 is summarized as follows (in thousands):
Interest-bearing checking
$ 1,465 $ 3,147
Savings and money market
1,769 2,870
Time deposits
4,587 4,184
Total deposit interest expense
$ 7,821 $ 10,201
Deposits held by the Company from related parties at December 31, 2020 and 2019 totaled approximately $18,900,000 and $17,428,000, respectively.
Note 11. Pledged Collateral Related to Securities Sold Under Repurchase Agreements
The following sets forth the pledged collateral at estimated fair value related to securities sold under repurchase agreements (repurchase agreements) as of December 31, 2020 and 2019 (in thousands):
Remaining Contractual Maturity of the Agreements
Overnight
Overnight
Securities sold under agreements to repurchase:
U.S. government treasuries
$ 2,069
$ 3,528
U.S. government agencies
39,362
35,557
U.S. government mortgage-backed securities
14,320
19,614
Total pledged collateral
$ 55,751
$ 58,699
Note 12. Borrowings
At December 31, 2020, FHLB advances consisted of the following (dollars in thousands):
Weighted
Average
Amount
Interest Rate
FHLB advances maturing in:
3,000 1.57 %
Total FHLB advances
$ 3,000 1.57 %
Borrowed funds at December 31, 2020 and 2019 consisted of FHLB advances. FHLB advances are collateralized by FHLB stock, certain 1-4 family residential real estate loans, multifamily real estate loans, commercial real estate loans and agricultural real estate loans. The Banks had available borrowing capacity with the FHLB of Des Moines, Iowa of $208,017,000 and $222,558,000 at December 31, 2020 and 2019, respectively.
Note 13. Employee Benefit Plans
The Company has a qualified 401(k) profit-sharing plan. For the years ended December 31, 2020 and 2019, the Company matched employee contributions up to a maximum of 3% and also contributed an amount equal to 3% of the participating employee’s compensation. For the years ended December 31, 2020 and 2019, Company contributions to the plan were approximately $1,064,000 and $869,000, respectively. The plan covers substantially all employees.
Note 14. Income Taxes
The components of income tax expense for the years ended December 31, 2020 and 2019 are as follows (in thousands):
Federal:
Current
$ 4,102 $ 2,824
Deferred
(886 ) 8
Total federal income tax expense
3,216 2,832
State:
Current
1,366 1,056
Deferred
(201 ) (40 )
Total state income tax expense
1,165 1,016
Total income tax expense
$ 4,381 $ 3,848
Total income tax expense differed from the amounts computed by applying the U.S. federal income tax rate of 21% to income before income taxes for the years ended December 31, 2020 and 2019 as a result of the following (in thousands):
Income taxes at 21%
$ 4,879 $ 4,419
Increase (decrease) resulting from:
Tax-exempt interest
(761 ) (836 )
State taxes, net of federal tax benefit
1,076 877
New Markets Tax Credits
(764 ) (693 )
Other
(49 ) 81
Total income tax expense
$ 4,381 $ 3,848
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities at December 31, 2020 and 2019 are as follows (in thousands):
Deferred tax assets:
Allowance for loan losses
$ 4,294 $ 3,114
State operating and alternative minimum tax carryforward
503 469
Fair value adjustments from acquisitions
164 214
Accrued vacation
272 224
Off balance sheet reserve
149 136
Other deferred tax assets
433 473
Total deferred tax assets
5,815 4,630
Deferred tax liabilities:
Net unrealized gains on securities available-for-sale
(5,341 ) (1,372 )
Goodwill and other intangible assets
(1,058 ) (1,029 )
Bank premises and equipment
(609 ) (661 )
Deferred loan costs
(62 ) -
Other deferred tax liabilities
(250 ) (191 )
Total deferred tax liabilities
(7,320 ) (3,253 )
Valuation allowance
(226 ) (226 )
Net deferred tax asset (liability)
$ (1,731 ) $ 1,151
Income taxes currently payable of approximately $55,000 and $86,000 is included in other liabilities as of December 31, 2020 and 2019, respectively.
The Company has approximately $226,000 of state alternative minimum tax (“AMT”) credit carryforwards available to offset future state alternative minimum taxable income as of December 31, 2020 and 2019. The Company has recorded a valuation allowance against the tax effect of the AMT credit carryforwards, as management believes it is more likely than not that such carryforwards will not be utilized.
The Company and its subsidiaries file one income tax return in the U.S. federal jurisdiction and separate tax returns for the state of Iowa. The Company is no longer subject to U.S. federal income and state tax examinations for years before 2017.
The Company follows the accounting requirements for uncertain tax positions. Management has determined that the Company has no material uncertain tax positions and no material accrued interest or penalties as of or for the years ended December 31, 2020 and 2019 that would require recognition. The Company had no significant unrecognized tax benefits as of December 31, 2020, that if recognized, would affect the effective tax rate. The Company had no positions for which it deemed that it is reasonably possible that the total amounts of the unrecognized tax benefit will significantly increase or decrease within the next 12 months as of December 31, 2020 and 2019.
Note 15. Commitments, Contingencies and Concentrations of Credit Risk
The Company is party to financial instruments with off-balance-sheet risk in the normal course of business. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet.
The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as they do for on-balance-sheet instruments. A summary of the Company’s commitments at December 31, 2020 and 2019 is as follows (in thousands):
Commitments to extend credit
$ 222,660 $ 207,168
Standby letters of credit
7,168 7,633
Total commitments
$ 229,828 $ 214,801
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. At December 31, 2020 and 2019, approximately $131,862,000 and $135,679,000 of the commitments to extend credit were fixed interest rates. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Banks evaluate each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Banks upon extension of credit, is based on management’s credit evaluation of the party.
Standby letters of credit are conditional commitments issued by the Banks to guarantee the performance of a customer to a third-party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies and is required in instances which the Banks deem necessary. In the event the customer does not perform in accordance with the terms of the agreement with the third party, the Banks would be required to fund the commitment. The maximum potential amount of future payments the Banks could be required to make is represented by the contractual amount shown in the summary above. If the commitments were funded, the Banks would be entitled to seek recovery from the customer.
At December 31, 2020 and 2019, the Banks have established liabilities totaling approximately $713,000 and $662,000, respectively to cover estimated credit losses for off-balance-sheet loan commitments and standby letters of credit.
In the normal course of business, the Company is involved in various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the Company’s financial statements.
Concentrations of credit risk: The Banks originate real estate, consumer, and commercial loans, primarily in Boone, Clarke, Hancock, Marshall, Polk, Story and Union counties in Iowa, as well as adjacent counties. Although the Banks have diversified loan portfolios, a substantial portion of their borrowers’ ability to repay loans is dependent upon economic conditions in the Banks’ market areas.
Note 16. Regulatory Matters
The Company and the Banks are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s and Banks’ financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Banks must meet specific capital guidelines that involve quantitative measures of their assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Regulators also have the ability to impose higher limits than those specified by capital adequacy guidelines if they so deem necessary.
On March 31, 2020, the Banks qualified for the community bank leverage ratio (CBLR) framework. In order to qualify for the CBLR framework, a community banking organization must have a tier 1 leverage ratio of greater than 9 percent, less than $10 billion in total consolidated assets, and limited amounts of off-balance-sheet exposures and trading assets and liabilities. The CARES ACT lowered the CBLR to 8% beginning in the second quarter of 2020 through the end of the year. Beginning in 2021, the CBLR will increase to 8.5% for the calendar year and will increase to 9% beginning January 1, 2022. A qualifying community banking organization that opts into the CBLR framework and meets all requirements under the framework will be considered to have met the well capitalized ratio requirements under the Prompt Corrective Action regulations and will not be required to report or calculate risk-based capital.
Prior to 2020, the Company and each subsidiary bank were subject to final rules issued by the Federal Reserve Board and the FDIC implementing the Basel III regulatory capital framework and related Dodd-Frank Wall Street Reform and Consumer Protection Act changes. The rules revised minimum capital requirements and adjust prompt corrective action thresholds. The final rules revised the regulatory capital elements, added a new common equity Tier I capital ratio, increased the minimum Tier 1 capital ratio requirements and implemented a new capital conservation buffer. On August 28, 2018, the Board of Governors of the Federal Reserve System issued an interim rule revising the Small Bank Holding Company Policy Statement (the “Policy Statement”) that, among other things, raised from $1 billion to $3 billion the asset threshold to qualify for the Policy Statement. The Company qualifies for treatment under the Policy Statement and is no longer subject to consolidated capital rules.
Beginning in 2016, an additional capital conservation buffer was added to the minimum requirements for capital adequacy purposes, subject to a three year phase-in period. The capital conservation buffer was fully phased-in on January 1, 2019 at 2.5 percent. A banking organization with a conservation buffer of less than 2.5 percent (or the required phase-in amount in years prior to 2019) was subject to limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers. As of December 31, 2019, the ratios for the Banks were sufficient to meet the fully phased-in conservation buffer.
Management believes, as of December 31, 2020 and 2019, that the Company and each subsidiary bank met all capital adequacy requirements to which they are subject. As of December 31, 2020, the most recent notification from the federal banking regulators categorized the Banks are well capitalized under the CBLR regulatory framework for prompt corrective action. To be categorized as well capitalized, the Banks must maintain minimum Community Bank Leverage Ratios as set forth in the following table. Management believes there are no conditions or events since that notification that have changed the institution’s category. The Company’s and each of the subsidiary bank’s actual capital amounts and ratios as of December 31, 2020 and 2019 are also presented in the tables. (dollars in thousands)
To Be Well
Capitalized Under
Prompt Corrective
Actual
Action Provisions
Amount
Ratio
Amount
Ratio
As of December 31, 2020:
Community Bank Leverage Ratio:
(Tier 1 capital to average assets)
Boone Bank & Trust
$ 13,967 9.2 % $ 12,170 8.0 %
First National Bank
86,071 8.6 80,393 8.0
Iowa State Savings Bank
21,610 9.4 18,321 8.0
Reliance State Bank
23,278 9.4 19,741 8.0
State Bank & Trust
16,564 8.5 15,657 8.0
United Bank & Trust
10,539 9.2 9,180 8.0
To Be Well
Capitalized Under
For Capital
Prompt Corrective
Actual
Adequacy Purposes *
Action Provisions
Amount
Ratio
Amount
Ratio
Amount
Ratio
As of December 31, 2019:
Total capital (to risk-weighted assets):
Consolidated
$ 180,834 14.3 % $ 132,878 10.50 % N/A N/A
Boone Bank & Trust
14,205 14.1 10,610 10.50 $ 10,105 10.0 %
First National Bank
87,375 13.9 66,180 10.50 63,028 10.0
Iowa State Savings Bank
20,495 14.2 15,200 10.50 14,476 10.0
Reliance State Bank
24,487 13.0 19,778 10.50 18,836 10.0
State Bank & Trust
16,800 13.5 13,115 10.50 12,490 10.0
United Bank & Trust
10,775 14.3 7,910 10.50 7,534 10.0
Tier 1 capital (to risk-weighted assets):
Consolidated
$ 167,514 13.2 % $ 107,568 8.50 % N/A N/A
Boone Bank & Trust
13,274 13.1 8,589 8.50 $ 8,084 8.0 %
First National Bank
80,665 12.8 53,574 8.50 50,423 8.0
Iowa State Savings Bank
20,151 13.9 12,305 8.50 11,581 8.0
Reliance State Bank
22,166 11.8 16,010 8.50 15,069 8.0
State Bank & Trust
15,233 12.2 10,617 8.50 9,992 8.0
United Bank & Trust
9,955 13.2 6,403 8.50 6,027 8.0
Tier 1 capital (to average-assets):
Consolidated
$ 167,544 10.1 % $ 66,234 4.00 % N/A N/A
Boone Bank & Trust
13,274 9.5 5,604 4.00 $ 7,005 5.0 %
First National Bank
80,665 9.3 34,702 4.00 43,378 5.0
Iowa State Savings Bank
20,151 9.5 8,621 4.00 10,776 5.0
Reliance State Bank
22,166 10.0 8,886 4.00 11,108 5.0
State Bank & Trust
15,233 9.5 6,384 4.00 7,980 5.0
United Bank & Trust
9,955 9.8 4,073 4.00 5,091 5.0
Common equity tier 1 capital (to risk-weighted assets):
Consolidated
$ 167,544 13.2 % $ 88,585 7.00 % N/A N/A
Boone Bank & Trust
13,274 13.1 7,074 7.00 $ 6,568 6.5 %
First National Bank
80,665 12.8 44,120 7.00 40,968 6.5
Iowa State Savings Bank
20,151 13.9 10,133 7.00 9,410 6.5
Reliance State Bank
22,166 11.8 13,185 7.00 12,243 6.5
State Bank & Trust
15,233 12.2 8,743 7.00 8,119 6.5
United Bank & Trust
9,955 13.2 5,273 7.00 4,897 6.5
* These ratios for December 31, 2019 include a capital conservation buffer of 2.50%, except for the Tier 1 capital to average assets ratios.
Federal and state banking regulations place certain restrictions on dividends paid and loans or advances made by the Banks to the Company. Dividends paid by each Bank to the Company would be prohibited if the effect thereof would cause the Bank’s capital to be reduced below applicable minimum capital requirements. Management believes that these restrictions currently do not have a significant impact on the Company.
Note 17. Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact, and (iv) willing to transact.
The standards require the use of valuation techniques that are consistent with the market approach, the income approach, and/or the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement cost). Valuation techniques are consistently applied. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the Company’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, a fair value hierarchy was established for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:
Level 1: Inputs to the valuation methodology are quoted prices, unadjusted, for identical assets or liabilities in active markets. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to measure fair value whenever available.
Level 2: Inputs to the valuation methodology include: quoted prices for similar assets or liabilities in active markets; quoted process for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatility, prepayment speeds, credit risk); or inputs derived principally from or can be corroborated by observable market data by correlation or other means.
Level 3: Inputs to the valuation methodology are unobservable and significant to the fair value measurement. Level 3 assets and liabilities include financial instruments whose value is determined using discounted cash flow methodologies, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
The following table presents the balances of assets measured at fair value on a recurring basis by level as of December 31, 2020 and 2019 (in thousands):
Description
Total
Level 1
Level 2
Level 3
U.S. government treasuries
$ 12,053 $ 12,053 $ - $ -
U.S. government agencies
111,199 - 111,199 -
U.S. government mortgage-backed securities
150,195 - 150,195 -
State and political subdivisions
251,584 - 251,584 -
Corporate bonds
71,968 - 71,968 -
Total assets at fair value on a recurring basis
$ 596,999 $ 12,053 $ 584,946 $ -
U.S. government treasuries
$ 9,452 $ 9,452 $ - $ -
U.S. government agencies
126,433 - 126,433 -
U.S. government mortgage-backed securities
81,128 - 81,128 -
State and political subdivisions
195,302 - 195,302 -
Corporate bonds
67,528 - 67,528 -
Total assets at fair value on a recurring basis
$ 479,843 $ 9,452 $ 470,391 $ -
Level 1 securities include U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets. U.S. government agencies, mortgage-backed securities, state and political subdivisions, and most corporate bonds are reported at fair value utilizing Level 2 inputs. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the security’s terms and conditions, among other things.
Certain assets are measured at fair value on a nonrecurring basis; that is, they are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment or a change in previously recognized impairment). The following table presents the assets carried on the balance sheet (after specific reserves) by caption and by level with the valuation hierarchy as of December 31, 2020 and 2019 (in thousands):
Description
Total
Level 1
Level 2
Level 3
Loans
$ 10,306 $ - $ - $ 10,306
Other real estate owned
218 - - 218
Total assets at fair value on a nonrecurring basis
$ 10,524 $ - $ - $ 10,524
Loans
$ 535 $ - $ - $ 535
Other real estate owned
4,004 - - 4,004
Total assets at fair value on a nonrecurring basis
$ 4,539 $ - $ - $ 4,539
The significant inputs used in the fair value measurements for Level 3 assets measured at fair value on a nonrecurring basis as of December 31, 2020 and 2019 are as follows (in thousands):
Fair Value
Valuation
Range of
Range
Techniques
Unobservable Inputs (Average)
Loans
$ 10,306 Evaluation of collateral
Estimation of value
NM*
Other real estate owned
$ 218 Appraisal
Appraisal adjustment
6% - 8% (7%)
Fair Value
Valuation
Range of
Range
Techniques
Unobservable Inputs (Average)
Loans
$ 535 Evaluation of collateral
Estimation of value
NM*
Other real estate owned
$ 4,004 Appraisal
Appraisal adjustment
6% - 8% (7%)
* Not Meaningful.
Evaluations of the underlying assets are completed for each impaired collateral dependent loan with a specific reserve. The types of collateral vary widely and could include accounts receivables, inventory, a variety of equipment and real estate. Collateral evaluations are reviewed and discounted as appropriate based on knowledge of the specific type of collateral. In the case of real estate, an independent appraisal may be obtained. Types of discounts considered included aging of receivables, condition of the collateral, potential market for the collateral and estimated disposal costs. These discounts will vary from loan to loan, thus providing a range would not be meaningful.
GAAP requires disclosure of the fair value of financial assets and financial liabilities, including those that are not measured and reported at fair value on a recurring basis or nonrecurring basis. The following table includes the carrying amounts and estimated fair values of financial assets and liabilities as of December 31, 2020 and 2019 (in thousands):
Fair Value
Estimated
Estimated
Hierarchy
Carrying
Fair
Carrying
Fair
Level
Amount
Value
Amount
Value
Financial assets:
Cash and due from banks
Level 1
$ 24,819 $ 24,819 $ 34,617 $ 34,617
Interest-bearing deposits
Level 1
166,704 166,704 108,948 108,948
Securities available-for-sale
See previous table
596,999 596,999 479,843 479,843
FHLB and FRB stock
Level 2
3,148 3,148 3,139 3,191
Loans receivable, net
Level 2
1,129,505 1,116,352 1,048,147 1,025,032
Loans held for sale
Level 2
1,621 1,621 2,777 2,777
Accrued income receivable
Level 1
11,143 11,143 11,788 11,788
Financial liabilities:
Deposits
Level 2
$ 1,716,446 $ 1,720,023 $ 1,493,175 $ 1,495,155
Securities sold under agreements to repurchase
Level 1
37,293 37,293 42,034 42,034
FHLB advances
Level 2
3,000 3,111 5,000 4,935
Accrued interest payable
Level 1
829 829 1,163 1,163
Commitments to extend credit and standby letters of credit: The fair values of commitments to extend credit and standby letters of credit are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreement and credit worthiness of the counterparties. The carrying value and fair value of the commitments to extend credit and standby letters of credit are not considered significant.
Limitations: Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Note 18. Subsequent Events
Management evaluated subsequent events through the date the financial statements were issued. There were no significant events or transactions occurring after December 31, 2020, but prior to March 12, 2021, that provided additional evidence about conditions that existed at December 31, 2020. Except for dividends declared on January 13, 2020, there were no other significant events or transactions that provided evidence about conditions that did not exist at December 31, 2020.
Note 19. Ames National Corporation (Parent Company Only) Financial Statements
Information relative to the Parent Company’s balance sheets at December 31, 2020 and 2019, and statements of income and cash flows for each of the years in the two-year period ended December 31, 2020, is as follows (in thousands):
CONDENSED BALANCE SHEETS
December 31, 2020 and 2019
ASSETS
Cash and due from banks
$ 32 $ 29
Interest-bearing deposits in banks
2,556 5,097
Investment in bank subsidiaries
202,534 180,503
Loans receivable, net
1,842 1,949
Premises and equipment, net
2,844 2,649
Accrued income receivable
6 6
Other assets
171 106
Total assets
$ 209,985 $ 190,339
LIABILITIES
Dividends payable
$ - $ 2,213
Accrued expenses and other liabilities
499 547
Total liabilities
499 2,760
STOCKHOLDERS' EQUITY
Common stock
18,245 18,445
Additional paid-in capital
17,002 18,794
Retained earnings
158,217 146,225
Accumulated other comprehensive income
16,022 4,115
Total stockholders' equity
209,486 187,579
Total liabilities and stockholders' equity
$ 209,985 $ 190,339
CONDENSED STATEMENTS OF INCOME
Years Ended December 31, 2020 and 2019
Operating income:
Equity in net income of bank subsidiaries
$ 19,413 $ 17,834
Interest
101 221
Rental income
432 432
(Loss) on sale of other real estate owned
- (11 )
Other income
2,187 2,033
22,133 20,509
Provision for loan losses
- -
Operating income after provision for loan losses
22,133 20,509
Operating expenses
3,496 3,534
Income before income taxes
18,637 16,975
Income tax (benefit)
(213 ) (219 )
Net income
$ 18,850 $ 17,194
CONDENSED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2020 and 2019
CASH FLOWS FROM OPERATING ACTIVITIES
Net income
$ 18,850 $ 17,194
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation
97 100
Provision for deferred income taxes
(60 ) (88 )
Loss on sale of other real estate owned
- 11
Equity in net income of bank subsidiaries
(19,413 ) (17,834 )
Dividends received from bank subsidiaries
9,599 25,068
Decrease in accrued income receivable
- 2
(Increase) in other assets
(4 ) (1 )
Increase (decrease) in accrued expense and other liabilities
(48 ) 51
Net cash provided by operating activities
9,021 24,503
CASH FLOWS FROM INVESTING ACTIVITIES
Decrease in interest-bearing deposits in banks
2,541 9,638
Decrease in loans
107 220
Proceeds from the sale of other real estate owned
- 254
Investments in bank subsidiary
(310 ) (24,033 )
Purchase of premises and equipment
(292 ) (6 )
Net cash provided by (used in) investing activities
2,046 (13,927 )
CASH FLOWS FROM FINANCING ACTIVITIES
Dividends paid
(9,072 ) (8,785 )
Stock repurchases
(1,992 ) (1,809 )
Net cash (used in) financing activities
(11,064 ) (10,594 )
Net increase (decrease) in cash and cash equivalents
3 (18 )
CASH AND DUE FROM BANKS
Beginning
29 47
Ending
$ 32 $ 29
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash receipts for income taxes
$ 173 $ 99

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.

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ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9A. CONTROLS AND PROCEDURES
As of the end of the period covered by this Annual Report, an evaluation was performed under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer of the effectiveness of the Company’s disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)). Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer have concluded that the Company’s current disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.
Management’s annual report on internal control over financial reporting is contained in Item 8 of this Annual Report.
There were no changes in the Company’s internal control over financial reporting that occurred during the quarter ended December 31, 2020 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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ITEM 9B. OTHER INFORMATION
ITEM 9B. OTHER INFORMATION
None.
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERANCE
Directors
Refer to the information under the captions “Corporate Governance” and "Proposals to be Voted on at Meeting - Proposal 1 - Election of Directors” contained in the Company's definitive proxy statement prepared in connection with its Annual Meeting of Shareholders to be held April 28, 2021, as filed with the SEC on March 12, 2021 (the "Proxy Statement"), which information is incorporated herein by this reference.
Executive Officers
The information required by Item 10 regarding the executive officers appears in Item 1 of Part I of this Annual Report under the heading “Information About our Executive Officers”.
Section 16(a) Beneficial Ownership Reporting Compliance
Refer to the information under the caption “Delinquent Section 16(a) Reports” in the Proxy Statement, which information is incorporated herein by this reference.
Audit Committee
The Company has established an Audit Committee as a standing committee of the Board of Directors. Refer to the information under the caption “Corporate Governance - Board Committees” in the Proxy Statement, which information is incorporated herein by this reference.
Audit Committee Financial Expert
The Board of Directors of the Company has determined that Lisa M. Eslinger, a director and member of the Audit Committee, qualifies as an "audit committee financial expert" under applicable SEC rules. The Board of Directors has further determined that Ms. Eslinger qualifies as an "independent" director under applicable SEC rules and the corporate governance rules of the NASDAQ stock market. The Board's affirmative determination was based, among other things, upon Ms. Eslinger's experience as Chief Financial and Administrative Officer for the Iowa State Foundation. Prior to joining the foundation, Ms. Eslinger was a senior manager with KPMG LLP.
Code of Ethics
The Company has adopted an Ethics and Confidentiality Policy that applies to all directors, officers and employees of the Company, including the Chief Executive Officer and the Chief Financial Officer of the Company. A copy of this policy is posted on the Company's website at www.amesnational.com. In the event that the Company makes any amendments to, or grants any waivers of, a provision of the Ethics and Confidentiality Policy that requires disclosure under applicable SEC rules, the Company intends to disclose such amendments or waiver and the reasons therefor on its website.

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ITEM 11. EXECUTIVE COMPENSATION
ITEM 11. EXECUTIVE COMPENSATION
Refer to the information under the caption “Executive Compensation” in the Proxy Statement, which information is incorporated herein by this reference.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED SHAREHOLDER MATTERS
Refer to the information under the caption “Security Ownership of Management and Certain Beneficial Owners” in the Proxy Statement, which information is incorporated herein by this reference. The Company does not maintain any equity compensation plans covering its directors, officers or employees or the directors, officers or employees of the Banks.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE
Refer to the information under the captions “Loans to Directors and Executive Officers and Related Party Transactions” and “Corporate Governance - Director Independence” in the Proxy Statement, which information is incorporated herein by this reference.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Refer to the information under the caption "Relationship with Independent Registered Public Accounting Firm" in the Proxy Statement, which information is incorporated herein by this reference.
PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a)
List of Financial Statements and Schedules.
1.
Financial Statements
Report of CliftonLarsonAllen LLP, Independent Registered Public Accounting Firm
Consolidated Balance Sheets, December 31, 2020 and 2019
Consolidated Statements of Income for the Years ended December 31, 2020 and 2019
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2020 and 2019
Consolidated Statements of Stockholders' Equity for the Years ended December 31, 2020 and 2019
Consolidated Statements of Cash Flows for the Years ended December 31, 2020 and 2019
Notes to Consolidated Financial Statements
2.
Financial Statement Schedules
All schedules are omitted because they are not applicable or not required, or because the required information is included in the consolidated financial statements or notes thereto.
(b)
List of Exhibits.
The exhibits listed below are filed with or incorporated by reference in this Annual Report on Form 10-K. Where such exhibit is incorporated by reference to a previously filed registration statement or report, such registration statement or report is identified in parentheses. Management contracts and compensatory plans or arrangements are specifically identified below.
Exhibit
Number
Description
3.1
- Restated Articles of Incorporation of the Company, as amended (incorporated by reference to Exhibit 3.1 to Annual Report on Form 10-K filed on March 12, 2015).
3.2
- Bylaws of the Company (incorporated by reference to Exhibit 3.2 to Annual Report on Form 10-K filed on March 12, 2015).
4.1
- Description of Securities**
10.1
- Management Incentive Compensation Plan (incorporated by reference to Exhibit 99.2 filed with the Company’s Form 8-K on November 19, 2012)*.
21**
- Subsidiaries of the Company
23**
- Consent of Independent Registered Public Accounting Firm
31.1**
- Certification of Principal Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2**
- Certification of Principal Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1**
- Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350
32.2**
- Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350
101.INS
Inline XBRL Instance Document (the Instance Document does not appear in the Interactive Data File because its XBRL (1)
101.SCH
Inline XBRL Taxonomy Extension Schema Document (1)
101.CAL
Inline XBRL Taxonomy Extension Calculation Linkbase Document (1)
101.LAB
Inline XBRL Taxonomy Extension Label Linkbase Document (1)
101.PRE
Inline XBRL Taxonomy Extension Presentation Linkbase Document (1)
101.DEF
Inline XBRL Taxonomy Extension Definition Linkbase Document (1)
Cover page Interactive Data File (embedded withinthe Inline XBRL document)
* Indicates a management compensatory plan or arrangement.
**Filed herewith
(1)These interactive data files shall not be deemed filed for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under those sections, and shall not be deemed incorporated by reference in any prior or future filing made by the Company under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, except to the extent the Company specifically incorporates such information by reference.