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Heartland Financial USA 10-Q 2009

Documents found in this filing:

  1. 10-Q
  2. Ex-3.1
  3. Ex-31.1
  4. Ex-31.2
  5. Ex-32.1
  6. Ex-32.2
  7. Ex-32.2
form10q063009.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934

For quarterly period ended June 30, 2009
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For transition period __________ to __________

Commission File Number: 0-24724

HEARTLAND FINANCIAL USA, INC.
(Exact name of Registrant as specified in its charter)

Delaware
(State or other jurisdiction of incorporation or organization)

42-1405748
(I.R.S. employer identification number)

1398 Central Avenue, Dubuque, Iowa  52001
(Address of principal executive offices)(Zip Code)

(563) 589-2100
(Registrant's telephone number, including area code)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ  No  ¨

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes ¨   No  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Act.
Large accelerated filer ¨                                                                   Accelerated filer þ                                        Non-accelerated filer ¨ Smaller reporting company ¨
(Do not check if a smaller reporting company)

Indicate by check mark whether the Registrant is a shell company (as defined by Rule 12b-2 of the Securities Exchange Act of 1934).  Yes  ¨  No  þ

Indicate the number of shares outstanding of each of the classes of Registrant's common stock as of the latest practicable date:  As of August 7, 2009, the Registrant had outstanding 16,309,376 shares of common stock, $1.00 par value per share.

 
 

 


 
HEARTLAND FINANCIAL USA, INC.
Form 10-Q Quarterly Report
 

 
Part I
     
Item 1.
 
Financial Statements
Item 2.
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.
 
Quantitative and Qualitative Disclosures About Market Risk
Item 4.
 
Controls and Procedures
     
Part II
     
Item 1.
 
Legal Proceedings
Item 1A.
 
Risk Factors
Item 2.
 
Unregistered Sales of Issuer Securities and Use of Proceeds
Item 3.
 
Defaults Upon Senior Securities
Item 4.
 
Submission of Matters to a Vote of Security Holders
Item 5.
 
Other Information
Item 6.
 
Exhibits
     
   
Form 10-Q Signature Page

 
 

 

PART I
ITEM 1. FINANCIAL STATEMENTS

HEARTLAND FINANCIAL USA, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share data)
 
   
June 30, 2009
 
December 31, 2008
   
(Unaudited)
   
ASSETS
               
Cash and due from banks
 
$
35,415
   
$
48,977
 
Federal funds sold and other short-term investments
   
4,546
     
2,326
 
Cash and cash equivalents
   
39,961
     
51,303
 
Securities:
               
Trading, at fair value
   
1,890
     
1,694
 
Available for sale, at fair value (cost of $1,030,521 at June 30, 2009, and $875,143 at December 31, 2008)
   
1,030,020
     
871,686
 
Held to maturity, at cost (fair value of $26,837 at June 30, 2009, and $26,326 at December 31, 2008)
   
29,301
     
30,325
 
Loans held for sale
   
24,339
     
19,695
 
Loans and leases:
               
Held to maturity
   
2,375,027
     
2,405,001
 
Allowance for loan and lease losses
   
(37,234
)
   
(35,651
)
Loans and leases, net
   
2,337,793
     
2,369,350
 
Premises, furniture and equipment, net
   
117,914
     
120,500
 
Other real estate, net
   
29,311
     
11,750
 
Goodwill, net
   
40,207
     
40,207
 
Other intangible assets, net
   
11,591
     
8,079
 
Cash surrender value on life insurance
   
54,817
     
54,431
 
Other assets
   
49,587
     
51,248
 
TOTAL ASSETS
 
$
3,766,731
   
$
3,630,268
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
LIABILITIES:
               
Deposits:
               
Demand
 
$
436,985
   
$
383,061
 
Savings
   
1,259,861
     
1,128,312
 
Time
   
1,130,657
     
1,128,859
 
Total deposits
   
2,827,503
     
2,640,232
 
Short-term borrowings
   
132,301
     
210,184
 
Other borrowings
   
457,508
     
437,833
 
Accrued expenses and other liabilities
   
31,459
     
33,396
 
TOTAL LIABILITIES
   
3,448,771
     
3,321,645
 
EQUITY:
               
Preferred stock (par value $1 per share; authorized and undesignated 102,302 shares; none issued or outstanding)
   
 
-
     
 
-
 
Series A Junior Participating preferred stock (par value $1 per share; authorized 16,000 shares; none issued or outstanding)
   
 
-
     
 
-
 
Series B Fixed Rate Cumulative Perpetual preferred stock (par value $1 per share; authorized 81,698 shares;  issued, 81,698 shares)
   
 
76,594
     
 
75,578
 
Common stock (par value $1 per share; authorized 25,000,000 shares at June 30, 2009, and 20,000,000 shares at December 31, 2008; issued 16,611,671 shares)
   
 
16,612
     
 
16,612
 
Capital surplus
   
44,047
     
43,827
 
Retained earnings
   
182,726
     
177,753
 
Accumulated other comprehensive income (loss)
   
1,213
     
(1,341
)
Treasury stock at cost (300,846 shares at June 30, 2009, and 337,181 shares at December 31, 2008)
   
(6,149
)
   
 
(6,826
 
)
TOTAL STOCKHOLDERS’ EQUITY
   
315,043
     
305,603
 
Noncontrolling interest
   
2,917
     
3,020
 
TOTAL EQUITY
   
317,960
     
308,623
 
TOTAL LIABILITIES AND EQUITY
 
$
3,766,731
   
$
3,630,268
 
 
See accompanying notes to consolidated financial statements.

 
 

 
HEARTLAND FINANCIAL USA, INC.
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
(Dollars in thousands, except per share data)
 
   
Three Months Ended
 
Six Months Ended
   
June 30, 2009
 
June 30, 2008
 
June 30, 2009
 
June 30, 2008
INTEREST INCOME:
                               
Interest and fees on loans and leases
 
$
38,423
   
$
40,555
   
$
77,906
   
$
83,454
 
Interest on securities and other:
                               
Taxable
   
10,039
     
7,885
     
18,460
     
14,500
 
Nontaxable
   
2,025
     
1,679
     
3,908
     
3,326
 
Interest on federal funds sold and other short-term investments
   
-
     
51
     
1
     
182
 
Interest on interest bearing deposits in other financial institutions
   
-
     
2
     
1
     
7
 
TOTAL INTEREST INCOME
   
50,487
     
50,172
     
100,276
     
101,469
 
INTEREST EXPENSE:
                               
Interest on deposits
   
13,576
     
15,657
     
27,698
     
32,753
 
Interest on short-term borrowings
   
173
     
1,087
     
385
     
3,273
 
Interest on other borrowings
   
4,360
     
4,593
     
8,738
     
8,870
 
TOTAL INTEREST EXPENSE
   
18,109
     
21,337
     
36,821
     
44,896
 
NET INTEREST INCOME
   
32,378
     
28,835
     
63,455
     
56,573
 
Provision for loan and lease losses
   
10,041
     
5,369
     
16,706
     
7,130
 
NET INTEREST INCOME AFTER PROVISION FOR LOAN AND LEASE LOSSES
   
22,337
     
23,466
     
46,749
     
 
49,443
 
NONINTEREST INCOME:
                               
Service charges and fees
   
3,109
     
2,880
     
5,996
     
5,495
 
Loan servicing income
   
3,311
     
1,195
     
6,097
     
2,491
 
Trust fees
   
1,971
     
2,068
     
3,668
     
4,089
 
Brokerage and insurance commissions
   
715
     
883
     
1,596
     
1,775
 
Securities gains, net
   
2,206
     
648
     
5,171
     
1,010
 
Gain (loss) on trading account securities
   
348
     
(227
)
   
62
     
(434
)
Impairment loss on securities
   
-
     
(30
)
   
-
     
(116
)
Gains on sale of loans
   
2,231
     
480
     
4,039
     
984
 
Income on bank owned life insurance
   
213
     
380
     
343
     
843
 
Other noninterest income
   
560
     
41
     
454
     
655
 
TOTAL NONINTEREST INCOME
   
14,664
     
8,318
     
27,426
     
16,792
 
NONINTEREST EXPENSES
                               
Salaries and employee benefits
   
14,952
     
14,666
     
31,385
     
29,459
 
Occupancy
   
2,176
     
2,193
     
4,551
     
4,537
 
Furniture and equipment
   
1,695
     
1,771
     
3,342
     
3,539
 
Professional fees
   
2,151
     
2,382
     
4,321
     
4,587
 
FDIC assessments
   
2,818
     
266
     
3,865
     
571
 
Advertising
   
949
     
1,046
     
1,532
     
1,841
 
Intangible assets amortization
   
234
     
236
     
469
     
472
 
Net loss on repossessed assets
   
2,532
     
42
     
3,152
     
190
 
Other noninterest expenses
   
2,970
     
2,978
     
6,146
     
6,148
 
TOTAL NONINTEREST EXPENSES
   
30,477
     
25,580
     
58,763
     
51,344
 
INCOME BEFORE INCOME TAXES
   
6,524
     
6,204
     
15,412
     
14,891
 
Income taxes
   
1,812
     
1,643
     
4,631
     
4,063
 
NET INCOME
   
4,712
     
4,561
     
10,781
     
10,828
 
Net income attributable to noncontrolling interest, net of tax
   
44
     
142
     
103
     
142
 
NET INCOME ATTRIBUTABLE TO HEARTLAND
   
4,756
     
4,703
     
10,884
     
10,970
 
Preferred dividends and discount
   
(1,336
)
   
-
     
(2,672
)
   
-
 
NET INCOME AVAILABLE TO COMMON STOCKHOLDERS
 
 
$
 
3,420
   
 
$
 
4,703
   
 
$
 
8,212
   
 
$
 
10,970
 
                                 
EARNINGS PER COMMON SHARE – BASIC
 
$
.21
   
$
.29
   
$
0.50
   
$
0.67
 
EARNINGS PER COMMON SHARE – DILUTED
 
$
.21
   
$
.29
   
$
0.50
   
$
0.67
 
CASH DIVIDENDS DECLARED PER COMMON SHARE
 
$
.10
   
$
.10
   
$
0.20
   
$
0.20
 
                                 
See accompanying notes to consolidated financial statements.
               
 
             

 
 

 

HEARTLAND FINANCIAL USA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(Dollars in thousands, except per share data)
 
   
Six Months Ended
   
June 30, 2009
 
June 30, 2008
CASH FLOWS FROM OPERATING ACTIVITIES:
               
Net income
 
$
10,781
   
$
10,828
 
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation and amortization
   
4,620
     
4,603
 
Provision for loan and lease losses
   
16,706
     
7,130
 
Net amortization of premium on securities
   
2,011
     
(246
)
Securities gains, net
   
(5,171
)
   
(1,010
)
(Increase) decrease in trading account securities
   
(196
)
   
328
 
Loss on impairment of securities
   
-
     
(116
)
Stock-based compensation
   
477
     
589
 
Loans originated for sale
   
(556,129
)
   
(153,029
)
Proceeds on sales of loans
   
564,812
     
155,255
 
Net gains on sales of loans
   
(4,039
)
   
(984
)
Decrease in accrued interest receivable
   
1,066
     
1,517
 
Decrease in accrued interest payable
   
(788
)
   
(2,222
)
Other, net
   
(2,928
)
   
(7,639
)
NET CASH PROVIDED BY OPERATING ACTIVITIES
   
31,222
     
15,004
 
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
Proceeds from the sale of securities available for sale
   
138,040
     
70,080
 
Proceeds from the maturity of and principal paydowns on securities available for sale
   
80,303
     
116,846
 
Proceeds from the maturity of and principal paydowns on securities held to maturity
   
1,247
     
19
 
Purchase of securities available for sale
   
(370,784
)
   
(300,579
)
Purchase of securities held to maturity
   
-
     
(2,700
)
Net increase in loans and leases
   
(24,062
)
   
(18,525
)
Capital expenditures
   
(1,892
)
   
(2,106
)
Proceeds on sale of OREO and other repossessed assets
   
10,067
     
1,410
 
NET CASH USED BY INVESTING ACTIVITIES
   
(167,081
)
   
(135,555
)
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
Net increase in demand deposits and savings accounts
   
185,473
     
40,675
 
Net increase (decrease) in time deposit accounts
   
1,798
     
(8,089
)
Net decrease in short-term borrowings
   
(77,883
)
   
(91,009
)
Proceeds from other borrowings
   
55,098
     
201,905
 
Repayments of other borrowings
   
(35,423
)
   
(21,506
)
Purchase of treasury stock
   
(32
)
   
(5,375
)
Proceeds from issuance of common stock
   
379
     
1,421
 
Excess tax benefits on exercised stock options
   
2
     
225
 
Common and preferred dividends paid
   
(4,895
)
   
(3,236
)
NET CASH PROVIDED BY FINANCING ACTIVITIES
   
124,517
     
115,011
 
Net decrease in cash and cash equivalents
   
(11,342
)
   
(5,540
)
Cash and cash equivalents at beginning of year
   
51,303
     
46,832
 
CASH AND CASH EQUIVALENTS AT END OF PERIOD
 
$
39,961
   
$
41,292
 
Supplemental disclosures:
               
Cash paid for income/franchise taxes
 
$
5,003
   
$
7,163
 
Cash paid for interest
 
$
37,609
   
$
47,118
 
Loans transferred to OREO
 
$
29,400
   
$
3,286
 
 
See accompanying notes to consolidated financial statements.

 
 

 



HEARTLAND FINANCIAL USA, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY AND COMPREHENSIVE INCOME (Unaudited)
(Dollars in thousands, except per share data)
                                 
   
Heartland Financial USA, Inc. Stockholders’ Equity
       
   
 
 
Preferred
Stock
 
 
 
Common
Stock
 
 
 
Capital
Surplus
 
 
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Income (Loss)
 
 
 
Treasury
Stock
 
 
 
Non-controlling
Interest
 
 
 
Total
Equity
Balance at January 1, 2008
 
$
-
   
$
16,612
   
$
37,269
   
$
173,100
   
$
6,506
   
$
(3,678
)
 
$
-
   
$
229,809
 
Net income
                           
10,970
                     
(142
)
   
10,828
 
Unrealized loss on securities available for sale arising during the period
                                   
 
(10,693
 
)
                   
 
(10,693
 
)
Unrealized gain on derivatives arising during the period
                                   
 
611
                     
611
 
Reclassification adjustment for net security gains realized in net income
                                   
 
(894
 
)
                   
 
(894
 
)
Reclassification adjustment for net derivatives gains realized in net income
                                   
 
 
(103
 
 
)
                   
 
 
(103
 
 
)
Income taxes
                                   
4,189
                     
4,189
 
Comprehensive income
                                                           
3,938
 
Cash dividends declared:
                                                               
Common, $0.20 per share
                           
(3,236
)
                           
(3,236
)
Purchase of 269,356 shares of common stock
                                           
 
(5,375
 
)
           
 
(5,375
 
)
Issuance of 113,212 shares of common stock
                   
 
(497
 
)
                   
 
2,328
             
 
1,831
 
Commitments to issue common stock
                   
589
                                     
589
 
Initial capital investment
                                                   
3,300
     
3,300
 
Balance at June 30, 2008
 
$
-
   
$
16,612
   
$
37,361
   
$
180,834
   
$
(384
)
 
$
(6,725
)
 
$
3,158
   
$
230,856
 
                                                                 
Balance at January 1, 2009
 
$
75,578
   
$
16,612
   
$
43,827
   
$
177,753
   
$
(1,341
)
 
$
(6,826
)
 
$
3,020
   
$
308,623
 
Net income
                           
10,884
                     
(103
)
   
10,781
 
Unrealized gain on securities available for sale arising during the period
                                   
 
8,127
                     
 
8,127
 
Unrealized gain on derivatives arising during the period
                                   
 
1,011
                     
 
1,011
 
Reclassification adjustment for net security gains realized in net income
                                   
 
(5,171
 
)
                   
 
(5,171
 
)
Reclassification adjustment for net derivatives gains realized in net income
                                   
 
 
(100
 
 
)
                   
 
 
(100
 
 
)
Income taxes
                                   
(1,313
)
                   
(1,313
)
Comprehensive income
                                                           
13,335
 
Cumulative preferred dividends accrued and discount accretion
   
 
1,016
                     
 
(1,016
 
)
                           
 
-
 
Cash dividends declared:
                                                               
Preferred, $25.00 per share
                           
(1,656
)
                           
(1,656
)
Common, $0.20 per share
                           
(3,239
)
                           
(3,239
)
Purchase of 1,957 shares of common stock
                                           
 
(32
 
)
           
 
(32
 
)
Issuance of 27,251 shares of common stock
                   
 
(257
 
)
                   
 
709
             
 
452
 
Commitments to issue common stock
                   
477
                                     
477
 
Balance at June 30, 2009
 
$
76,594
   
$
16,612
   
$
44,047
   
$
182,726
   
$
1,213
   
$
(6,149
)
 
$
2,917
   
$
317,960
 
                                                                 
See accompanying notes to consolidated financial statements.

 
 

 

HEARTLAND FINANCIAL USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1: BASIS OF PRESENTATION

The interim unaudited consolidated financial statements contained herein should be read in conjunction with the audited consolidated financial statements and accompanying notes to the consolidated financial statements for the fiscal year ended December 31, 2008, included in Heartland Financial USA, Inc.’s ("Heartland") Form 10-K filed with the Securities and Exchange Commission on March 16, 2009. Accordingly, footnote disclosures, which would substantially duplicate the disclosure contained in the audited consolidated financial statements, have been omitted.

The financial information of Heartland included herein has been prepared in accordance with U.S. generally accepted accounting principles for interim financial reporting and has been prepared pursuant to the rules and regulations for reporting on Form 10-Q and Rule 10-01 of Regulation S-X. Such information reflects all adjustments (consisting of normal recurring adjustments), that are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations for the periods presented. The results of the interim period ended June 30, 2009, are not necessarily indicative of the results expected for the year ending
December 31, 2009.

Earnings Per Share

Basic earnings per share is determined using net income available to common stockholders and weighted average common shares outstanding. Diluted earnings per share is computed by dividing net income available to common stockholders by the weighted average common shares and assumed incremental common shares issued. Amounts used in the determination of basic and diluted earnings per share for the three-month and six-month periods ended June 30, 2009 and 2008, are shown in the tables below:

   
Three Months Ended
(Dollars and numbers in thousands, except per share data)
 
June 30, 2009
 
June 30, 2008
Net income attributable to Heartland
   
4,756
     
4,703
 
Preferred dividends and discount
   
(1,336
)
   
-
 
Net income available to common stockholders
 
$
3,420
     
4,703
 
Weighted average common shares outstanding for basic earnings per share
   
16,298
     
16,317
 
Assumed incremental common shares issued upon exercise of stock options
   
26
     
72
 
Weighted average common shares for diluted earnings per share
   
16,324
     
16,389
 
Earnings per common share – basic
 
$
0.21
   
$
0.29
 
Earnings per common share – diluted
 
$
0.21
   
$
0.29
 
Number of antidilutive stock options excluded from diluted earnings per share computations
   
212
     
36
 

   
Six Months Ended
(Dollars and numbers in thousands, except per share data)
 
June 30, 2009
 
June 30, 2008
Net income attributable to Heartland
   
10,884
     
10,970
 
Preferred dividends and discount
   
(2,672
)
   
-
 
Net income available to common stockholders
 
$
8,212
     
10,970
 
Weighted average common shares outstanding for basic earnings per share
   
16,287
     
16,347
 
Assumed incremental common shares issued upon exercise of stock options
   
23
     
66
 
Weighted average common shares for diluted earnings per share
   
16,310
     
16,413
 
Earnings per common share – basic
 
$
0.50
   
$
0.67
 
Earnings per common share – diluted
 
$
0.50
   
$
0.67
 
Number of antidilutive stock options excluded from diluted earnings per share computations
   
230
     
48
 

Stock-Based Compensation

Options are typically granted annually with an expiration date ten years after the date of grant. Vesting is generally over a five-year service period with portions of a grant becoming exercisable at three years, four years and five years after the date of grant. A summary of the status of the stock options as of June 30, 2009 and 2008, and changes during the six months ended June 30, 2009 and 2008, follows:

   
2009
 
2008
   
 
 
 
Shares
 
Weighted-Average Exercise Price
 
 
 
 
Shares
 
Weighted-Average Exercise Price
Outstanding at January 1
   
743,363
   
$
19.79
     
733,012
   
$
18.61
 
Granted
   
-
     
-
     
164,400
     
18.60
 
Exercised
   
(1,125
)
   
8.80
     
(88,299
)
   
11.72
 
Forfeited
   
(1,000
)
   
24.13
     
(10,750
)
   
25.40
 
Outstanding at June 30
   
741,238
   
$
19.81
     
798,363
   
$
19.27
 
Options exercisable at June 30
   
338,088
   
$
16.03
     
288,046
   
$
13.48
 
Weighted-average fair value of options granted during the six-month periods ended June 30
 
 
$
 
-
           
 
$
 
4.81
         

At June 30, 2009, the vested options totaled 338,088 shares with a weighted average exercise price of $16.03 per share and a weighted average remaining contractual life of 4.09 years. The intrinsic value for the vested options as of June 30, 2009, was $535 thousand. The intrinsic value for the total of all options exercised during the six months ended June 30, 2009, was $6 thousand, and the total fair value of shares vested during the six months ended June 30, 2009, was $477 thousand. At June 30, 2009, shares available for issuance under the 2005 Long-Term Incentive Plan totaled 465,810.

No options were granted during the first six months of 2009. The fair value of the 2008 stock options granted was estimated utilizing the Black Scholes valuation model. The fair value of a share of common stock on the grant date of the 2008 options was $18.60. Significant assumptions include:

         
2008
Risk-free interest rate
       
3.10%
Expected option life
       
6.4 years
Expected volatility
       
26.96%
Expected dividends
       
1.99%

The option term of each award granted was based upon Heartland’s historical experience of employees’ exercise behavior. Expected volatility was based upon historical volatility levels and future expected volatility of Heartland’s common stock. Expected dividend yield was based on a set dividend rate. Risk free interest rate reflects the average of the yields on the 5 year and 7 year zero coupon U.S. Treasury bond. Cash received from options exercised for the six months ended June 30, 2009, was $10 thousand, with a related tax benefit of $2 thousand. Cash received from options exercised for the six months ended June 30, 2008, was $1.0 million, with a related tax benefit of $225 thousand.

Total compensation costs recorded were $477 thousand and $589 thousand for the six months ended June 30, 2009 and 2008, respectively, for stock options, restricted stock awards and shares to be issued under the 2006 Employee Stock Purchase Plan. As of June 30, 2009, there was $1.9 million of total unrecognized compensation costs related to the 2005 Long-Term Incentive Plan for stock options and restricted stock awards which is expected to be recognized through 2012.
 
Fair Value Measurements

On January 1, 2008, Heartland adopted Statement of Financial Accounting Standards No. 157 (“FAS 157”), Fair Value Measurements. FAS 157 defines fair value, establishes a framework for measuring fair value under U.S. generally accepted accounting principles, and expands disclosures about fair value measurements. FAS 157 applies to reported balances that are required or permitted to be measured at fair value under existing accounting pronouncements; accordingly, the standard does not require any new fair value measurements of reported balances. Fair value is defined as the exchange price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. FAS 157 clarifies that fair value should be based on the assumptions market participants would use when pricing an asset or liability and establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. The fair value hierarchy gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data. FAS 157 requires fair value measurements to be separately disclosed by level within the fair value hierarchy. Under FAS 157, Heartland bases fair values on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. For assets and liabilities recorded at fair value, it is Heartland’s policy to maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements, in accordance with the fair value hierarchy in FAS 157.

Fair value measurements for assets and liabilities where there exists limited or no observable market data, and therefore, are based primarily upon estimates, are often calculated based upon current pricing policy, the economic and competitive environment, the characteristics of the asset or liability and other such factors. Therefore, the results cannot be determined with precision and may not be realized in an actual sale or immediate settlement of the asset or liability. Additionally, there may be inherent weaknesses in any calculation technique, and changes in the underlying assumptions used, including discount rates and estimates of future cash flows, could significantly affect the results of current or future values. Additional information regarding disclosures of fair value is presented in Note 5.

Heartland now applies the fair value measurement and disclosure provisions of FAS 157 effective January 1, 2009, to nonfinancial assets and nonfinancial liabilities measured on a nonrecurring basis. Heartland measures the fair value of the following on a nonrecurring basis: (1) long-lived assets, (2) foreclosed assets, (3) goodwill and other intangibles and (4) indefinite-lived assets.

Effect of New Financial Accounting Standards

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (Revised 2007) Business Combinations (“FAS 141R”), which requires significant changes in the accounting and reporting for business acquisitions. Among many changes under FAS 141R, an acquirer will record 100% of all assets and liabilities at fair value at the acquisition date with changes possibly recognized in earnings, and acquisition related costs will be expensed rather than capitalized. FAS 141R applies prospectively to business combinations for which the acquisition date is on or after January 1, 2009. The adoption of FAS 141R by Heartland on January 1, 2009, had no effect on Heartland’s accompanying consolidated financial statements. Subsequent to June 30, 2009, Heartland did complete an acquisition for which the provisions of FAS 141R will be applied. For a description of this acquisition, see the Other Events section of Management’s Discussion and Analysis of Financial Condition and Results of Operations included with this report.

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51 (“FAS 160”), which establishes new accounting and reporting standards for the noncontrolling interest in a subsidiary. Key changes under FAS 160 are that noncontrolling interests in a subsidiary are to be reported as part of equity, losses allocated to a noncontrolling interest can result in a deficit balance, and changes in ownership interests that do not result in a change of control are accounted for as equity transactions and upon a loss of control, the resultant gain or loss is recognized and the remaining interest is remeasured at fair value on the date control is lost. Effective January 1, 2009, FAS 160 requires retroactive adoption of the presentation and disclosure requirements for existing consolidated minority interests and prospective application for any new minority interests. The presentation and disclosure requirements of FAS 160 have been applied for the current period and retrospectively for prior periods on Heartland’s accompanying consolidated financial statements.

In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161 (“FAS 161”), Disclosures about Derivative Instruments and Hedging Activities, an amendment of FASB Statement No. 133, which changes the disclosure requirements for derivative instruments and hedging activities. Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flows. FAS 161 is effective for all financial statements issued for fiscal years and interim periods beginning after November 15, 2008. For further detail on Heartland’s derivative instruments and hedging activities, see Note 4.

In April 2009, the FASB issued Staff Position FAS 107-1 (“FAS 107-1”), Interim Disclosures About Fair Value of Financial Instruments, which extends the disclosure requirements of Statement of Financial Accounting Standards No. 107, Disclosures About Fair Value of Financial Instruments, to interim financial statements of publicly traded companies. FAS 107-1 is effective for interim periods ending after June 15, 2009. Heartland adopted FAS 107-1 for the period ended June 30, 2009. For further detail on the fair value of Heartland’s financial instruments, see Note 5.

In April 2009, the FASB issued Staff Position FAS 115-2 (“FAS 115-2”), Recognition and Presentation of Other-Than-Temporary Impairments, which revises the guidance for determining whether an impairment is other than temporary for debt securities, requires bifurcation of any other than temporary impairment between the amount representing credit loss and the amount related to all other factors and requires additional disclosures on other than temporary impairment of debt and equity securities. FAS 115-2 is effective for interim and annual reporting periods ending after June 15, 2009. Heartland adopted FAS 115-2 for the period ended June 30, 2009. For further detail on Heartland’s securities, see Note 2.

In April 2009, the FASB issued Staff Position FAS 157-4 (“FAS 157-4”), Determining Fair Value When the Volume and Level of Activity for the Asset or Liability have Significantly Decreased and Identifying Transactions that are not Orderly , which provides additional guidance on estimating fair value when the volume and level of activity for an asset or liability have significantly decreased in relation to normal market activity for the asset or liability, provides guidance on circumstances that may indicate that a transaction is not orderly and requires additional disclosures about fair value measurements in annual and interim reporting periods.  FAS 157-4 is effective for interim and annual reporting periods ending after June 15, 2009. Heartland adopted FAS 157-4 for the period ended June 30, 2009, and the adoption did not have a material impact on its consolidated financial statements.

In May 2009, the FASB issued Statement of Financial Accounting Standards No. 165 (“FAS 165”), Subsequent Events . The objective of FAS 165 is to establish general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. In particular, FAS 165 sets forth the period after the balance sheet date during which management of a reporting entity should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements and the disclosures that an entity should make about events or transactions that occurred after the balance sheet date. FAS 165 is effective for financial statements issued for interim and annual periods ending after June 15, 2009, and did not have any impact on Heartland’s consolidated financial statements. Heartland evaluated subsequent events through the filing date of its quarterly 10-Q with the SEC on August 10, 2009.

In June 2009, the FASB issued Statement of Financial Accounting Standards No. 166 (“FAS 166”), Accounting for Transfers of Financial Assets – an amendment of FASB Statement No. 140. FAS 166 amends SFAS 140 and removes the concept of a qualifying special-purpose entity from Statement 140 and removes the exception from applying FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities, on qualifying special-purpose entities. FAS 166 is effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter and is not anticipated to have any material impact on Heartland’s consolidated financial statements.
 
In June 2009, the FASB issued Statement of Financial Accounting Standards No. 167 (“FAS 167”), Amendments to FASB Interpretation No. 46(R). FAS 167 amends FASB 46(R) to require an enterprise to perform an analysis and ongoing reassessments to determine whether the enterprise’s variable interest or interests give it a controlling financial interest in a variable interest entity and amends certain guidance for determining whether an entity is a variable interest entity. It also requires enhanced disclosures that will provide users of financial statements with more transparent information about an enterprise’s involvement in a variable interest entity. FAS 167 is effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, and for all interim reporting periods after that and is not anticipated to have any material impact on Heartland’s consolidated financial statements.

In June 2009, the FASB issued Statement of Financial Accounting Standards No. 168 (“FAS 168”), The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles – a replacement of FASB Statement No. 162, The Hierarchy of Generally Accepted Accounting Principles. FAS 168 establishes the Codification as the source of authoritative GAAP recognized by the FASB to be applied by nongovernmental entities. Rules and interpretive releases of the SEC under federal securities laws are also sources of authoritative GAAP for SEC registrants. All guidance contained in the Codification carries an equal level of authority. Following FAS 168, the FASB will not issue new standards in the form of Statements, FASB Staff Positions, or Emerging Issues Task Force Abstracts. Instead, it will issue Accounting Standard Updates that will serve only to update the Codification. FAS 168 is effective for financial statements issued for interim and annual periods ending after September 15, 2009, and is not anticipated to have any impact on Heartland’s consolidated financial statements.

 
 
 

 

NOTE 2: SECURITIES

The amortized cost, gross unrealized gains and losses and estimated fair values of available for sale securities as of June 30, 2009 and December 31, 2008 are summarized in the tables below, in thousands:
 
   
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
June 30, 2009
                               
Securities available for sale:
                               
U.S. government corporations and agencies
 
$
295,502
   
$
2,811
   
$
(960
)
 
$
297,353
 
Mortgage-backed securities
   
526,759
     
5,801
     
(9,909
)
   
522,651
 
Obligations of states and political subdivisions
   
173,917
     
2,972
     
(1,673
)
   
175,216
 
Corporate debt securities
   
4,429
     
19
     
-
     
4,448
 
Total debt securities
   
1,000,607
     
11,603
     
(12,542
)
   
999,668
 
Equity securities
   
29,914
     
438
     
-
     
30,352
 
Total
 
$
1,030,521
   
$
12,041
   
$
(12,542
)
 
$
             1,030,021
 


   
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
December 31, 2008
                               
Securities available for sale:
                               
U.S. government corporations and agencies
 
$
190,599
   
$
4,832
   
$
(75
)
 
$
195,356
 
Mortgage-backed securities
   
505,711
     
4,688
     
(16,409
)
   
493,990
 
Obligations of states and political subdivisions
   
145,534
     
4,230
     
(981
)
   
148,783
 
Corporate debt securities
   
4,479
     
185
     
-
     
4,664
 
Total debt securities
   
846,323
     
13,935
     
(17,465
)
   
842,793
 
Equity securities
   
28,820
     
73
     
-
     
28,893
 
Total
 
$
875,143
   
$
14,008
   
$
(17,465
)
 
$
871,686
 

The amortized cost, gross unrealized gains and losses and estimated fair values of held to maturity securities as of June 30, 2009 and December 31, 2008 are summarized in the tables below, in thousands:

   
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
June 30, 2009
                               
Securities held to maturity:
                               
Mortgage-backed securities
 
$
14,680
   
$
35
   
$
(2,482
)
 
$
12,233
 
Obligations of states and political subdivisions
   
14,621
     
-
     
(17
)
   
14,604
 
Total
 
$
29,301
   
$
35
   
$
(2,499
)
 
$
26,837
 


   
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
December 31, 2008
                               
Securities held to maturity:
                               
Mortgage-backed securities
 
$
15,511
   
$
57
   
$
(4,108
)
 
$
11,460
 
Obligations of states and political subdivisions
   
14,814
     
60
     
(8
)
   
14,866
 
Total
 
$
30,325
   
$
117
   
$
(4,116
)
 
$
26,326
 

More than 75% of our mortgage-backed securities are issuances of government-sponsored enterprises.

 
 

 
The following tables summarize, in thousands, the amount of unrealized losses, defined as the amount by which cost or amortized cost exceeds fair value, and the related fair value of investments with unrealized losses in Heartland’s securities portfolio as of June 30, 2009 and December 31, 2008. The investments were segregated into two categories: those that have been in a continuous unrealized loss position for less than 12 months and those that have been in a continuous unrealized loss position for 12 or more months. The reference point for determining how long an investment was in an unrealized loss position was June 30, 2008 and December 31, 2007, respectively.

 
Unrealized Losses on Securities Available for Sale
June 30,  2009
                                           
   
Less than 12 months
 
12 months or longer
 
Total
   
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
U.S. government corporations and agencies
 
$
93,402
 
$
(960
)
 
$
-
 
$
-
   
$
93,402
 
$
(960
)
Mortgage-backed securities
   
82,004
   
(4,549
)
   
41,521
   
(5,360
)
   
123,525
   
(9,909
)
Obligations of states and political subdivisions
   
45,515
   
(1,443
)
   
4,724
   
(230
)
   
50,239
   
(1,673
)
Corporate debt securities
   
-
   
-
     
-
   
-
     
-
   
-
 
Total debt securities
   
220,921
   
(6,952
)
   
46,245
   
(5,590
)
   
267,166
   
(12,542
)
Equity securities
   
-
   
-
     
-
   
-
     
-
   
-
 
Total temporarily impaired securities
 
$
220,921
 
$
(6,952
)
 
$
46,245
 
$
(5,590
)
 
$
267,166
 
$
(12,542
)

 
Unrealized Losses on Securities Available for Sale
December 31, 2008
                                           
   
Less than 12 months
 
12 months or longer
 
Total
   
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
U.S. government corporations and agencies
 
$
18,022
 
$
(75
)
 
$
-
 
$
-
   
$
18,022
 
$
(75
)
Mortgage-backed securities
   
231,056
   
(8,820
)
   
31,366
   
(7,589
)
   
262,422
   
(16,409
)
Obligations of states and political subdivisions
   
32,280
   
(981
)
   
-
   
-
     
32,280
   
(981
)
Corporate debt securities
   
-
   
-
     
-
   
-
     
-
   
-
 
Total debt securities
   
281,358
   
(9,876
)
   
31,366
   
(7,589
)
   
312,724
   
(17,465
)
Equity securities
   
-
   
-
     
-
   
-
     
-
   
-
 
Total temporarily impaired securities
 
$
281,358
 
$
(9,876
)
 
$
31,366
 
$
(7,589
)
 
$
312,724
 
$
(17,465
)

A majority of the unrealized losses on Heartland’s mortgage-backed securities are the result of changes in market interest rates or widening of market spreads subsequent to the initial purchase of the securities and not related to concerns regarding the underlying credit of the issuers or the underlying collateral. It is expected that the securities will not be settled at a price less than the amortized cost of the investment. Because the decline in fair value is attributable to changes in interest rates or widening market spreads and not credit quality, and because Heartland has the ability to hold these investments until a market price recovery or to maturity, the unrealized losses on these investments are not considered other-than-temporarily impaired.

A majority of the unrealized losses on Heartland’s obligations of states and political subdivisions are the result of changes in market interest rates or widening of market spreads subsequent to the initial purchase of the securities. Management monitors the published credit ratings of these securities and has noted credit rating reductions in a number of these securities, primarily due to the downgrade in the credit ratings of the insurance companies providing credit enhancement to that of the issuing municipalities. In nearly all cases, the municipalities themselves have not experienced adverse ratings changes since the date of purchase. Because the decline in fair value is attributable to changes in interest rates or widening market spreads and not underlying credit quality, and because Heartland has the ability to hold these investments until a market price recovery or to maturity, the unrealized losses on these investments are not considered other-than-temporarily impaired.

NOTE 3: CORE DEPOSIT PREMIUM AND OTHER INTANGIBLE ASSETS

The gross carrying amount of intangible assets and the associated accumulated amortization at June 30, 2009, and December 31, 2008, are presented in the table below, in thousands:

   
June 30, 2009
 
December 31, 2008
   
Gross Carrying Amount
 
 
Accumulated
Amortization
 
Gross Carrying Amount
 
 
Accumulated Amortization
Amortized intangible assets:
                               
Core deposit intangibles
 
$
9,757
   
$
7,510
   
$
9,757
   
$
7,092
 
Mortgage servicing rights
   
11,505
     
2,958
     
7,799
     
3,233
 
Customer relationship intangible
   
1,177
     
380
     
1,177
     
329
 
Total
 
$
22,439
   
$
10,848
   
$
18,733
   
$
10,654
 
Unamortized intangible assets
         
$
11,591
           
$
8,079
 

Projections of amortization expense for mortgage servicing rights are based on existing asset balances and the existing interest rate environment as of June 30, 2009. Heartland’s actual experience may be significantly different depending upon changes in mortgage interest rates and market conditions. There was no valuation allowance on mortgage servicing rights at June 30, 2009, or December 31, 2008. The fair value of Heartland’s mortgage servicing rights was estimated at $9.9 million and $6.2 million at June 30, 2009, and December 31, 2008, respectively.

 
 

 
The following table shows the estimated future amortization expense for amortized intangible assets, in thousands:

   
Core
Deposit
Intangibles
 
Mortgage
Servicing
Rights
 
Customer
Relationship
Intangible
 
 
 
Total
                                 
Six months ending December 31, 2009
 
$
335
   
$
1,834
   
$
51
   
$
2,220
 
                                 
Year ending December 31,
                               
2010
   
466
     
1,918
     
100
     
2,484
 
2011
   
450
     
1,598
     
99
     
2,147
 
2012
   
422
     
1,279
     
55
     
1,756
 
2013
   
405
     
959
     
45
     
1,409
 
2014
   
169
     
639
     
43
     
851
 
Thereafter
   
-
     
320
     
404
     
724
 

 
The following table summarizes, in thousands, the changes in capitalized mortgage servicing rights:

   
2009
 
2008
Balance at January 1
 
$
4,566
   
$
3,912
 
Originations
   
6,370
     
1,496
 
Amortization
   
(2,389
)
   
(959
)
Balance at June 30
 
$
8,547
   
$
4,449