Registrant's telephone number, including area code

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to section 12(g) of the Act:

_________________________________________________No par value common stock_______________________________________

(Title of class)

                

Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒

The aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2022,2023, based on the most recent sale price of $72.00$68.00 per share, and 7,771,2947,670,102 shares held was $559,533,150.$521,566,969.  Common stock held by non-affiliates excludes 1,528,9771,503,035 shares held by directors, executive officers, and under the Registrant’s Employee Stock Ownership Plan.

The number of shares outstanding of the Registrant's common stock as of February 28, 202329, 2024 is 9,219,3369,104,659 shares of no par value common stock.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement dated March 17, 202315, 2024 for the Annual Meeting of the Shareholders of the Registrant to be held April 17, 202315, 2024 (the Proxy Statement) are incorporated by reference in Part III of this Form 10-K.

HILLS BANCORPORATION

FORM 10-K

TABLE OF CONTENTS

 

Hills Bancorporation (the "Company") is a holding company principally engaged, through its subsidiary bank, in the business of banking.  The Company was incorporated December 12, 1982 and all operations are conducted within the state of Iowa.  The Company became owner of 100% of the outstanding stock of Hills Bank and Trust Company, Hills, Iowa (“Hills Bank and Trust” or the “Bank”) as of January 23, 1984 when stockholders of Hills Bank and Trust exchanged their shares for shares of the Company.  Effective July 1, 1996, the Company formed a new subsidiary, Hills Bank, which acquired for cash all the outstanding shares of a bank in Lisbon, Iowa.  Subsequently an office of Hills Bank was opened in Mount Vernon, Iowa, a community that is contiguous to Lisbon.  Effective November 17, 2000, Hills Bank was merged into the Bank.  On September 20, 1996, another subsidiary, Hills Bank Kalona, acquired cash and other assets and assumed the deposits of the Kalona, Iowa office of Boatmen's Bank Iowa, N.A.  Effective October 26, 2001, Hills Bank Kalona was merged into the Bank.

Through its internet website (www.hillsbank.com), the Company makes available the Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, all amendments to those reports, and other filings with the Securities and Exchange Commission, as soon as reasonably practicable after they are filed or furnished.

The Bank is a full-service commercial bank extending its services to individuals, businesses, governmental units and institutional customers.  The Bank is actively engaged in all areas of commercial banking, including acceptance of demand, savings and time deposits; making commercial, real estate, agricultural and consumer loans; maintaining night and safe deposit facilities; and performing collection, exchange and other banking services tailored for individual customers.  The Bank administers estates, personal trusts, and pension plans and provides farm management, investment advisory and custodial services for individuals, corporations and nonprofit organizations.  In addition, the Bank earns substantial fees from originating mortgages that are sold on the secondary residential real estate market without mortgage servicing rights being retained.

Real estate loans totaled $2.641$2.929 billion and comprised 84.97%85.18% of the Bank’s loan portfolio as of December 31, 2022.2023.  The Bank’s real estate loans include construction loans and mortgage loans.

Residential real estate loans totaled $1.256$1.366 billion and were 40.42%39.72% of the Bank’s loan portfolio as of December 31, 2022.2023.  These loans include first and junior liens on 1 to 4 family residences.  The Bank originates 1 to 4 family mortgage loans to individuals and businesses within its trade area.  The Bank sells certain mortgage loans to third parties on the secondary market.  For the loans sold on the secondary market, the Bank does not retain any percentage of ownership or servicing rights.  Interest rates for residential real estate mortgages are determined by competitive pricing factors on the secondary market and within the Bank’s trade area.  Collateral for residential real estate mortgages is generally the underlying property.  Generally, repayment of these loans is from monthly principal and interest payments from the borrower’s personal cash flows and liquidity, and collateral values are a function of residential real estate values in the markets that the Bank serves.

Commercial real estate loans totaled $402.84$416.67 million and were 12.96%12.12% of the Bank’s loan portfolio at December 31, 2022.2023.  The Bank originates loans for commercial properties to individuals and businesses within its trade area.  The primary source of repayment is the cash flow generated by the collateral underlying the loan.  The secondary repayment source would be the liquidation of the collateral.  Generally, terms for commercial real estate loans range from one to five years with an amortization period of 25 years or less.  The Bank offers both fixed and variable rate loans for commercial real estate.

Multi-family real estate loans totaled $436.95$471.01 million and were 14.06%13.70% of the Bank’s loan portfolio at December 31, 2022.2023.  Multi-family real estate loans are made to individuals and businesses in the Bank’s trade area.  These loans are primarily secured by properties such as apartment complexes.  The primary source of repayment is the cash flow generated by the collateral underlying the loan.  The secondary repayment source would be the liquidation of the collateral.  Generally, terms for commercial real estate loans range from one to five years with an amortization period of 25 years or less.  Generally, interest rates for multi-family loans are fixed for the loan term.

Mortgage loans secured by farmland totaled $256.57$281.16 million and were 8.25%8.18% of the Bank’s loan portfolio at December 31, 2022.2023.  Loans for farmland are made to individuals and businesses within the Bank’s trade area.  The primary source of repayment is the cash flow generated by the collateral underlying the loan.  The secondary repayment source would be the liquidation of the collateral.  Terms for real estate loans secured by farmland range from one to ten years with an amortization period of 25 years or less.  Generally, interest rates are fixed for mortgage loans secured by farmland.

As of December 31, 2022,2023, construction loans for personal residences totaled $92.41$80.25 million and were 2.97%2.33% of the Bank’s loan portfolio.  Construction loans for land development and commercial projects totaled $196.24$313.88 million and were 6.31%9.13% of the Bank’s loan portfolio.  In total, construction loans totaled $288.65$394.13 million and were 9.28%11.46% of the Bank’s loan portfolio as of December 31, 2022.2023.

The Bank’s commercial and financial loan portfolio totaled $269.57$307.19 million and comprised 8.67%8.93% of the total loan portfolio at December 31, 2022.2023.  The Bank’s commercial and financial loans include loans to contractors, retailers and other businesses.  The Bank provides a wide range of business loans, including lines of credit for working capital and operational purposes and term loans for the acquisition of equipment.  Although most loans are made on a secured basis, loans may be made on an unsecured basis where warranted by the overall financial condition of the borrower.  Terms of commercial and financial loans generally range from one to five years.  Interest rates for commercial loans can be fixed or variable.

The Bank’s commercial and financial loans are primarily made based on the reported cash flow of the borrower and secondarily on the underlying collateral provided by the borrower.  The collateral support provided by the borrower for most of these loans and the probability of repayment is based on the liquidation of the pledged collateral and enforcement of personal guarantees, if applicable.  The primary repayment risks of commercial loans are that the cash flows of the borrower may be unpredictable, and the collateral securing these loans may fluctuate in value.

Agricultural loans include loans made to finance agricultural production and other loans to farmers and farming operations.  These loans totaled $112.71$115.79 million and constituted 3.63%3.37% of the total loan portfolio at December 31, 2022.2023.  Agricultural loans, most of which are secured by crops and machinery, are provided to finance capital improvement and farm operations as well as acquisitions of livestock and machinery.  The ability of the borrower to repay may be affected by many factors outside of the borrower’s control including adverse weather conditions, loss of livestock due to disease or other factors, declines in market prices for agricultural products and the impact of government regulations.  The ultimate repayment of agricultural loans is dependent upon the profitable operation or management of the agricultural entity.  Agricultural loans generally have a term of one year and may have a fixed or variable rate.

The Bank offers consumer loans including personal loans and automobile loans.  These consumer loans typically have shorter terms and lower balances.  At December 31, 2022,2023, consumer loans totaled $36.68$40.21 million and were 1.18%1.17% of the Bank’s total loan portfolio.

Loans to State and Political Subdivisions include only tax-exempt loans. These loans totaled $48.21$46.45 million and comprised 1.55%1.35% of the Bank’s total loan portfolio at December 31, 2022.2023.

The Bank’s primary funding source for its loan portfolio and other investments consist of the acceptance of demand, savings and time deposits.

The following table shows average balances of assets, liabilities and stockholders’ equity:

AVERAGE BALANCES

(Average Daily Basis)

The Bank’s business is not seasonal.  As of December 31, 2022,2023, the Company had notwo employees per the table below and the Bank had 477474 full-time and 5043 part-time employees.

For additional discussion of the impact of the economy on the financial condition and results of operations of the Company, see Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The executive officers of the Company and the Bank, along with their respective ages and positions held, are identified in the table below.

The Bank’s trade area includes the Johnson County communities of Iowa City, Coralville, Hills and North Liberty, located near Interstate 80 and Interstate 380 in Eastern Iowa.  These communities have a combined population of approximately 125,200.122,500.  Johnson County, Iowa has a population of approximately 155,000.157,700.  The University of Iowa in Iowa City has approximately 31,30031,500 students and 34,40030,500 full and part-time employees, including 11,40011,600 employees of The University of Iowa Hospitals and Clinics.

The Bank's trade area includes the Linn County, Iowa communities of Lisbon, Marion, Mount Vernon and Cedar Rapids, Iowa.  Lisbon has a population of approximately 2,200 and Mount Vernon, located two miles from Lisbon, has a population of approximately 4,600. Both communities are within easy commuting distances to Cedar Rapids and Iowa City, Iowa.  Cedar Rapids has a metropolitan population of approximately 178,000180,100 including approximately 42,00042,400 from adjoining Marion, Iowa and is located approximately 10 miles west of Lisbon, Iowa and 25 miles north of Iowa City on Interstate 380.  The total population of Linn County is approximately 229,000.231,000.  The largest employer in the Cedar Rapids area is Collins Aerospace, manufacturer of communications instruments, with approximately 10,0009,000 employees.

The Bank's trade area includes the Washington County, Iowa communities of Kalona, Washington and Wellman, Iowa.  Kalona is located approximately 14 miles north of Washington. Wellman is located approximately 5 miles west of Kalona.  Kalona has a population of approximately 2,900, Washington has a population of approximately 7,400 and Wellman has a population of approximately 1,500.  The population of Washington County is approximately 22,500.22,600.  Kalona, Washington and Wellman are primarily agricultural communities, but are located within easy driving distance for employment in Iowa City, Coralville and North Liberty.

Competition among financial institutions in attracting and retaining deposits and making loans is intense.  Traditionally, the Company’s most direct competition for deposits has come from commercial banks, savings institutions and credit unions doing business in its areas of operation.  Increasingly, the Company has experienced competition for deposits from nonbanking sources, such as securities firms, insurance companies, money market mutual funds and financial services subsidiaries of commercial and manufacturing companies.  Competition for loans comes primarily from other commercial banks, savings institutions, consumer finance companies, credit unions, mortgage banking companies, insurance companies and other institutional lenders.  The Company competes primarily on the basis of products offered, customer service and price.  A number of institutions with which the Company competes enjoy the benefits of fewer regulatory constraints and lower cost structures including favorable income tax treatments.  Some have greater assets and capital than the Company does and, thus, are better able to compete on the basis of price than the Company.  Technological advances, which may diminish the importance of depository institutions and other financial intermediaries in the transfer of funds between parties, could make it more difficult for the Company to compete in the future.

The Bank is in direct competition for loans and deposits and financial services with a number of other banks and credit unions in Johnson, Linn and Washington County.  A comparison of the number of office locations and deposits in the three counties as of June, 20222023 (most recent date of available data from the FDIC and national credit union websites) is as follows:

Financial institutions and their holding companies are extensively regulated under federal and state law. As a result, the growth and earnings performance of the Company can be affected not only by management decisions and general economic conditions but also by the requirements of applicable state and federal statutes and regulations and the policies of various governmental regulatory authorities, including the Iowa Superintendent of Banking (the “Superintendent”), the Board of Governors of the Federal Reserve System (the “Federal Reserve”), the Federal Deposit Insurance Corporation (the “FDIC”), the Internal Revenue Service and state taxing authorities and the Securities and Exchange Commission (the “SEC”).  The effect of applicable statutes, regulations and regulatory policies can be significant and cannot be predicted with a high degree of certainty.

Federal and state laws and regulations generally applicable to financial institutions regulate, among other things, the scope of business, investments, reserves against deposits, capital levels relative to operations, the nature and amount of collateral for loans, the establishment of branches, mergers, consolidations and dividends.  The system of supervision and regulation applicable to the Company and its subsidiary Bank establishes a comprehensive framework for their respective operations and is intended primarily for the protection of the FDIC’s deposit insurance funds and the depositors, rather than the stockholders, of financial institutions.  The enforcement powers available to federal and state banking regulators are substantial and include, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions.

The following is a summary of the material elements of the regulatory framework applicable to the Company and its subsidiary Bank.  It does not describe all of the statutes, regulations and regulatory policies that apply, nor does it restate all of the requirements of the statutes, regulations and regulatory policies that are described.  As such, the following is qualified in its entirety by reference to the applicable statutes, regulations and regulatory policies.  Any change in applicable law, regulations or regulatory policies may have a material effect on the business of the Company and its subsidiary Bank.

The BHCA also generally prohibits the Company from acquiring direct or indirect ownership or control of more than 5% of the voting shares of any company which is not a bank and from engaging in any business other than that of banking, managing and controlling banks or furnishing services to banks and their subsidiaries.  This general prohibition is subject to a number of exceptions.  The principal exception allows bank holding companies to engage in, and to own shares of companies engaged in, certain businesses found by the Federal Reserve to be “so closely related to banking as to be a proper incident thereto.”  Under current regulations of the Federal Reserve, the Company either directly or through non-bank subsidiaries would be permitted to engage in a variety of banking-related businesses, including the operation of a thrift, sales and consumer finance, equipment leasing, the operation of a computer service bureau (including software development) and mortgage banking and brokerage.  The BHCA generally does not place territorial restrictions on the domestic activities of non-bank subsidiaries of bank holding companies.

Federal law also prohibits any person from acquiring “control” of a bank holding company without prior notice to the appropriate federal bank regulator.  “Control” is defined in certain cases as the acquisition of 10% or more of the outstanding shares of a bank or a bank holding company depending on the circumstances surrounding the acquisition.

On January 1, 2015, the final rules of the Federal Reserve Board went into effect implementing in the United States the Basel III regulatory capital reforms from the Basel Committee on Banking Supervision. The final rule also adopted changes to the agencies’ regulatory capital requirements that meet the requirements of section 171 and section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act.  The rule includes a new Common Equity Tier 1 Capital Ratio, an increased Tier 1 Leverage Capital Ratio and an increased Tier 1 Risk-Based Capital Ratio. Bank holding companies are required to include in Common Equity Tier 1 capital the effects of other comprehensive income adjustments, such as gains and losses on securities held to maturity, that are currently excluded from the definition of Tier 1 capital, but were allowed to make a one-time election not to include those effects. The Company and the Bank meet the well-capitalized requirements under the regulatory framework for prompt corrective action and have made the one-time election to exclude the effects of other comprehensive income adjustments on Tier 1 capital. Under the BASEL III rules, the minimum capital ratios are 4% for Tier 1 Leverage Capital Ratio, 4.5% for the Common Equity Tier 1 Capital Ratio, 6% for the Tier 1 Risk-Based Capital Ratio and 8% for the Total Risk-Based Capital Ratio.

The Bank elected to use the Community Bank Leverage Ratio (CBLR) framework as provided for in the Economic Growth, Regulatory Relief and Consumer Protection Act. Under the CBLR framework, the Bank is required to maintain a CBLR of greater than 9%. The Coronavirus Aid, Relief and Economic Security ("CARES") Act reduced the minimum ratio to 8% beginning in the 2nd quarter of 2020 through December 31, 2020, increasing to 8.5% for 2021 and returning to 9% beginning January 1, 2022. As of December 31, 2022,2023, the Company had regulatory capital in excess of the Federal Reserve’s minimum requirement, with a CBLR of 13.27%12.77%.

In addition, all institutions with deposits insured by the FDIC are required to pay assessments to fund interest payments on bonds issued by the Financing Corporation (FICO), a mixed-ownership government corporation established in the 1980’s to recapitalize the Federal Savings and Loan Insurance Corporation.  The current annualized assessment rate is 3.005.00 basis points.

Capital adequacy for banks took on an added dimension with the establishment of a formal system of prompt corrective action under the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) which provides the federal banking regulators of the Bank with broad power to take prompt corrective action to resolve the problems of undercapitalized banking institutions.  The extent of the regulators’ powers depends on whether the institution in question is “well-capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” or “critically undercapitalized,” in each case as defined by regulation.  Under prompt corrective action, banks that are inadequately capitalized face a variety of mandatory and discretionary supervisory actions.  For example, “undercapitalized banks” must restrict asset growth, obtain prior approval for business expansion, and have an approved plan to restore capital.  “Critically undercapitalized banks” must be placed in receivership or conservatorship within 90 days unless some other action would result in lower long-term costs to the deposit insurance fund.

The actual amounts of risk-based capital and risk-based capital ratios as of December 31, 20222023 and the minimum regulatory requirements for the Company and the Bank are presented below (amounts in thousands):

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”) posed a significant impact on financial regulations.  The Dodd-Frank Act created an independent regulatory body, the Bureau of Consumer Financial Protection (“Bureau”), with authority and responsibility to set rules and regulations for most consumer protection laws applicable to all banks – large and small - which adds another regulator to scrutinize and police financial activities.  The Bureau has responsibility for mortgage reform and enforcement, as well as broad new powers over consumer financial activities which could impact what consumer financial services would be available and how they are provided.  The following consumer protection laws are the designated laws that fall under the Bureau’s rulemaking authority: the Alternative Mortgage Transactions Parity Act of 1928, the Consumer Leasing Act of 1976, the Electronic Fund Transfer Act, the Equal Credit Opportunity Act, the Fair Credit Billing Act, the Fair Credit Reporting Act subject to certain exclusions, the Fair Debt Collection Practices Act, the Home Owners Protection Act, certain privacy provisions of the Gramm-Leach-Bliley Act, the Home Mortgage Disclosure Act (HMDA), the Home Ownership and Equity Protection Act of 1994, the Real Estate Settlement Procedures Act (RESPA), the S.A.F.E. Mortgage Licensing Act of 2008 (SAFE Act), and the Truth in Lending Act.

the Company, and to related interests of such directors, officers and principal stockholders.  In addition, federal law and regulations may affect the terms upon which any person becoming a director or officer of the Company or one of its subsidiaries or a principal stockholder of the Company may obtain credit from banks with which the Bank maintains a correspondent relationship.

In general, the safety and soundness guidelines prescribe the goals to be achieved in each area, and each institution is responsible for establishing its own procedures to achieve those goals.  If an institution fails to comply with any of the standards set forth in the guidelines, the institution’s primary federal regulator may require the institution to submit a plan for achieving and maintaining compliance.  If an institution fails to submit an acceptable compliance plan, or fails in any material respect to implement a compliance plan that has been accepted by its primary federal regulator, the regulator is required to issue an order directing the institution to cure the deficiency.  Until the deficiency cited in the regulator’s order is cured, the regulator may restrict the institution’s rate of growth, require the institution to increase its capital, restrict the rates the institution pays on deposits or require the institution to take any action the regulator deems appropriate under the circumstances.  Noncompliance with the standards established by the safety and soundness guidelines may also constitute grounds for other enforcement action by the federal banking regulators, including cease and desist orders and civil money penalty assessments.

Under the Riegle-Neal Act, both state and national banks are allowed to establish interstate branch networks through acquisitions of other banks, subject to certain conditions including limitations on the aggregate amount of deposits that may be held by the surviving bank and all of its insured depository institution affiliates.  The establishment of new interstate branches or the acquisition of individual branches of a bank in another state (rather than the acquisition of an out-of-state bank in its entirety) is allowed by the Riegle-Neal Act only if specifically authorized by state law.  Iowa permits interstate bank mergers, subject to certain restrictions, including a prohibition against interstate mergers involving an Iowa bank that has been in existence and continuous operation for fewer than five years.

The performance of our Company is subject to various risks.  We consider the risks described below to be the most significant risks we face, but such risks are not the only risk factors that could affect us.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially and adversely affect our business, financial condition or results of operations.  For a discussion of the impact of risks on our financial condition and results of operations in recent years and on forward looking statements contained in this report, reference is made to Item 7 below.

Economic and Market Risks

We may be adversely affected by economic conditions in the local economies in which we conduct our operations, and in the United States in general, including global economic, geopolitical instability, inflationary risks and ongoing impact of the COVID-19 pandemic.other global pandemics.

Our primary market includes the Iowa counties of Johnson, Linn and Washington.  Our market has been one of the strongest economic areas in Iowa over the past ten years.  The unemployment rate for our prime market area is favorable and the rate historically has been lower than the unemployment rates for both the United States and the State of Iowa.  However, unfavorable or uncertain economic and market conditions may adversely affect our business and profitability.  Our business faces various material risks, including credit risk, liquidity risk and the risk that the demand for our products and services will decrease.  Consumer confidence, real estate values, interest rates and investment returns could make the types of loans we originate less profitable and could increase our credit risk and litigation expense.  And, while the presence of the University of Iowa and its affiliated institutions has a significant favorable impact upon the regional economy, it is unclear what impact the State budget and funding models will have on the University of Iowa and the University of Iowa Hospitals and Clinics.

Instability in global economic conditions and geopolitical matters, as well as volatility in financial markets, could have a material adverse effect on the Company’s results of operations and financial condition. The macroeconomic environment in the United States is susceptible to global events and volatility in financial markets. For example, global demand for products continues to exceed supply during the economic recovery from the COVID-19 pandemic, creating significant inflationary pressures which, in turn, may adversely impact regional and global economic conditions, as well as the Company’s financial condition and results of operations.

 

All transactions under the 2005 Stock Repurchase Program were at a price equal to the most recent quarterly independent appraisal of the shares of the Company's common stock. The most recent independent current quarterly appraisal value of the stock is $72.00$68.00 a share. The closing bid for the Company's stock on February 14, 20232024 was $71.60$65.25 a share as reported by the OTC Markets Group, Inc.

The Company currently pays an annual dividend on its common stock to stockholders, and it expects to continue to maintain its annual dividend for the foreseeable future periods.

The following performance graph provides information regarding cumulative, five-year shareholder returns on an indexed basis of the Company's Common Stock compared to the NASDAQ Market Index prepared by MORNINGSTAR of Chicago, IL and a custom peer group of Midwest community banks. The latter index reflects the performance of bank holding companies operating principally in the Midwest in the following states: Iowa, Illinois, Kansas, Minnesota, Missouri, Nebraska, North Dakota, South Dakota and Wisconsin. The indexes assume the investment of $100 on December 31, 20172018 in Company Common Stock, the NASDAQ Index and the Midwest Community Banks Index, with all dividends reinvested.

The following table sets forth the Company’s equity compensation plan information as of December 31, 2022,2023, all of which relates to stock options issued under stock option plans approved by stockholders of the Company:

 

On July 26, 2005, the Company’s Board of Directors authorized a program to repurchase up to a total of 1,500,000 shares of the Company’s common stock (the “2005 Stock Repurchase Program”).  On August 9, 2022, the Company's Board of Directors authorized the expansion of the 2005 Stock Repurchase Program to allow an additional 750,000 shares for repurchase and the continuation through December 31, 2027.  The Company expects the purchases pursuant to the 2005 Stock Repurchase Program to be made from time to time in private transactions at a price equal to the most recent quarterly independent appraisal of the shares of the Company’s common stock and with the Board reviewing the overall results of the 2005 Stock Repurchase Program on a quarterly basis.  All purchases made pursuant to the 2005 Stock Repurchase Program since its inception have been made on that basis.  The amount and timing of stock repurchases will be based on various factors, such as the Board’s assessment of the Company’s capital structure and liquidity, the amount of interest shown by shareholders in selling shares of stock to the Company at their appraised value, and applicable regulatory, legal and accounting factors.

The following table sets forth information about the Company’s stock purchases pursuant to the 2005 Stock Repurchase Program for the quarter ended December 31, 2022:2023:

The following discussion by management is presented regarding the financial results for the Company for the dates and periods indicated.  The discussion should be read in conjunction with the consolidated financial statements and the accompanying notes thereto included or incorporated by reference elsewhere in this document. For a discussion on the comparison of results of operations for the years ended December 31, 20212022 and 2020,2021, refer to Item 7. “Management's Discussion and Analysis of Financial Condition and Results of Operation” in the Company’s Annual Form 10-K filed with the SEC on March 4, 2022.3, 2023.

An overview of the year 20222023 is presented following the section discussing a special note regarding forward looking statements.

This report contains, and future oral and written statements of the Company and its management may contain, forward-looking statements within the meaning of such term in the Private Securities Litigation Reform Act of 1995 with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Actual results may differ materially from those included in the forward-looking statements.  Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company’s management and on information currently available to management, are generally identifiable by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “intend,” “estimate,” “may,” “will,” “would,” “could,” “should” or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events.

The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations and future prospects of the Company include, but are not limited to, the following:

These risks and uncertainties should be considered in evaluating forward-looking statements, and undue reliance should not be placed on such statements. Additional information concerning the Company and its business, including other factors that could materially affect the Company’s financial results, is included in the Company’s filings with the Securities and Exchange Commission.

U.S. economic activity slowed in the first half of 2022 reflecting the impacts of significantly higherThe global economy continues to shrug off elevated inflation and rising interest rates, as well as repercussions from the Russia-Ukraine war alongside continuedthough economic impacts from the COVID-19 pandemic which have resulted ingrowth is likely to moderate into 2024. Global inflation may also continue to moderate slowly, with some supply chain disruptions and increased energy prices.constraints a key risk. After contracting during thea strong first two quarters of the year, U.S. Gross Domestic Product ("GDP") grew 2.9% for 2022, while the personal consumption expenditures price index declined to an annual rate of 5.0 percent in December 2022, though still well above the FRB's target inflation rate. The FRB increased short-termhalf, higher interest rates by a total of 425 basis points during 2022are likely to begin dampening U.S. consumer spending going in 2024 and has indicated that it will increase short-term interest rates further duringtemper inflation somewhat in the first quarter of 2023 in order to fight inflation.

Our credit administration continues to closely monitor and analyze the higher risk segments within the loan portfolio, tracking loan payment deferrals, customer liquidity and providing timely reports to senior management and the board of directors. Based on the Company’s capital levels, prudent underwriting policies, loan concentration diversification and our geographic footprint, senior management is cautiously optimistic that the Company is positioned to continue managing the impact of the varied set of risks and uncertainties currently impacting the economy and remain adequately capitalized. However, the Company may be required to make additional credit loss provisions as warranted by the extremely fluid economic condition.

The Company is a bank holding company engaged, through its wholly-owned subsidiary bank, in the business of commercial banking.  The Company’s subsidiary is Hills Bank and Trust Company, Hills, Iowa.  The Bank was formed in Hills, Iowa in 1904.  The Bank is a full-service commercial bank extending its services to individuals, businesses, governmental units and institutional customers primarily in the communities of Hills, Iowa City, Coralville, North Liberty, Lisbon, Mount Vernon, Kalona, Wellman, Cedar Rapids, Marion and Washington, Iowa.

The Company’s net income for 20222023 was $47.75$38.18 million compared to $47.75 million in 2022 and $48.09 million in 2021 and $38.65 million in 2020.2021. Diluted earnings per share were $4.16, $5.15, $5.16, and $4.12$5.16 for the years ended December 31, 2023, 2022 2021 and 2020,2021, respectively.

The Bank’s net interest income is the largest component of the Bank’s revenue, and is a function of the average earning assets and the net interest margin percentage.  Net interest margin is the ratio of net interest income to average earning assets.  For the years ended December 31, 20222023 and 2021,2022, the Bank achieved a net interest margin of 3.00%2.86% and 2.75%3.00%, respectively. For the year ended December 31, 2023, net interest income on a tax equivalent basis decreased by $0.86 million. In 2023, interest income increased $16.00 million due to growth of $151.91 million in the Bank's average earning assets and increased $24.09

year ended December 31, 2022, net interest income on a tax equivalent basis increased by $10.60 million. In 2022, net interest income increased $9.30 million due to growth of $38.05 million in the Bank's average earning assets, increased $3.98 million due to decreases in certificates of deposit and FHLB borrowings andinterest rates. This was offset by decreasesincreased interest expense of $2.67$24.22 million due to interest rate changes.increases and $16.73 million due to increased volume of certificates of deposit and borrowings.

Highlights with respect to items on the Company’s balance sheet as of December 31, 20222023 included the following:

Reference is made to Note 14 of the Company’s consolidated financial statements for a discussion of fair value measurements which relate to methods used by the Company in recording certain assets and liabilities on its consolidated financial statements.

The return on average equity was 8.63% in 2023 compared to 11.32% in 2022 compared to 11.29% in 2021.2022. The Company remains well-capitalized as of December 31, 20222023 with a CBLR of 13.27%12.77%. The minimum regulatory guideline is 9%.  The Company paid a dividend per share of $1.05 in 2023, $1.00 per share in 2022 and $0.94 in 2021 and $0.89 in 2020.2021.

A detailed discussion of the financial position and results of operations follows this overview.

The Company's consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The financial information contained within these financial statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred. Based on its consideration of accounting policies that involve the most complex and subjective decisions and assessments, management has identified its most critical accounting policies to be those which are related to the allowance for credit losses.

The preparation of financial statements in accordance with the accounting principles generally accepted in the United States ("U.S. GAAP") requires management to make a number of judgments, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expense in the financial statements. Various elements of our accounting policies, by their nature, involve the application of highly sensitive and judgmental estimates and assumptions. Some of these policies and estimates relate to matters that are highly complex and contain substantial inherent uncertainties. Management has made significant estimates in several areas, including the allowance for credit losses (see Note 3 - Loans and Note 2 - Securities) and the fair value of debt securities (see Note 2 - Securities).

We have identified the following accounting policies and estimates that, due to the inherent judgments and assumptions and the potential sensitivity of the financial statements to those judgments and assumptions, are critical to an understanding of our financial statements. We believe that the judgments, estimates and assumptions used in the preparation of the Company's financial statements are appropriate. For a further description of our accounting policies, see Note 1 - Summary of Significant Accounting Policies in the financial statements included in this Form 10-K.

The allowance for credit losses for loans represents management's estimate of all expected credit losses over the expected contractual life of our existing loan portfolio. Determining the appropriateness of the allowance is complex and requires judgment by management about the effect of matters that are inherently uncertain. Subsequent evaluations of the then-existing loan portfolio, in light of the factors then prevailing, may result in significant changes in the allowance for credit losses in those future periods.

We employ a disciplined process and methodology to establish our allowance for credit losses that has two basic components: first, an asset-specific component involving individual loans that do not share risk characteristics with other loans and the measurement of expected credit losses for such individual loans; and second, a pooled component for estimated expected credit losses for pools of loans that share similar risk characteristics.

Based upon this methodology, management establishes an asset-specific allowance for loans that do not share risk characteristics with other loans based on the amount of expected credit losses calculated on those loans and charges off amounts determined to be uncollectible. Factors we consider in measuring the extent of expected credit loss include payment status, collateral value, borrower financial condition, guarantor support and the probability of collecting scheduled principal and interest payments when due.

When a loan does not share risk characteristics with other loans, we measure expected credit loss as the difference between the amortized cost basis in the loan and the present value of expected future cash flows discounted at the loan's effective interest rate except that, for collateral-dependent loans, credit loss is measured as the difference between the amortized cost basis in the loan and the fair value of the underlying collateral. The fair value of the collateral is adjusted for the estimated cost to sell if repayment or satisfaction of a loan is dependent on the sale (rather than only on the operation) of the collateral. In accordance with our appraisal policy, the fair value of collateral-dependent loans is based upon independent third-party appraisals or on collateral valuations prepared by in-house evaluations. Once a third-party appraisal is greater than one year old, or if its determined that market conditions, changes to the property, changes in intended use of the property or other factors indicate that an appraisal is no longer reliable, we perform an internal collateral valuation to assess whether a change in collateral value requires an additional adjustment to carrying value. When we receive an updated appraisal or collateral valuation, management reassesses the need for adjustments to the loan's expected credit loss measurements and, where appropriate, records an adjustment. If the calculated expected credit loss is determined to be permanent, fixed or nonrecoverable, the credit loss portion of the loan will be charged off against the allowance for credit losses. Loans designated having significantly increased credit

risk are generally placed on nonaccrual and remain in that status until all principal and interest payments are current and the prospects for future payments in accordance with the loan agreement are reasonably assured, at which point the loan is returned to accrual status.

In estimating the component of the allowance for credit losses for loans that share common risk characteristics, loans are segregated into loan classes. Loans are designated into loan classes based on loans pooled by product types and similar risk characteristics or areas of risk concentration. Credit loss assumptions are estimated using a model that categorizes loan pools based on loan type and purpose. This model calculates an expected life-of-loan loss percentage for each loan category by considering the probability of default using historical life-of-loan analysis periods for agricultural, 1 to 4 family first and junior liens, commercial and consumer segments, and the severity of loss, based on the aggregate net lifetime losses incurred per loan class.

The component of the allowance for credit losses for loans that share common risk characteristics also considers factors for each loan class to adjust for differences between the historical period used to calculate historical default and loss severity rates and expected conditions over the remaining lives of the loans in the portfolio related to:

Such factors are used to adjust the historical probabilities of default and severity of loss so that they reflect management expectation of future conditions based on a reasonable and supportable forecast. To the extent the lives of the loans in the portfolio extend beyond the period for which a reasonable and supportable forecast can be made, the bank reduces, on a straight-line basis over the remaining life of the loans, the adjustments so that model reverts back to the historical rates of default and severity of loss.

The credit loss expense recorded through earnings is the amount necessary to maintain the allowance for credit losses at the amount of expected credit losses inherent within the loans held for investment portfolio. The amount of expense and the corresponding level of allowance for credit losses for loans are based on our evaluation of the collectability of the loan portfolio based on historical loss experience, reasonable and supportable forecasts, and other significant qualitative and quantitative factors.

The allowance for credit losses for loans, as reported in our consolidated balance sheet, is adjusted by a credit loss expense, which is recognized in earnings, and reduced by the charge-off of loan amounts, net of recoveries. For further information on the allowance for credit losses for loans, see Note 1 - Summary of Significant Accounting Policies and Note 3 - Loans in the notes to the financial statements of this Form 10-K.

This discussion of the Company’s critical accounting policies should be read in conjunction with the Company’s consolidated financial statements and the accompanying notes presented elsewhere herein, as well as other relevant portions of Management’s Discussion and Analysis of Financial Condition and Results of Operations. 

 

Total assets at December 31, 2022 decreased $64.082023 increased $361.19 million, or 1.58%9.07%, from the prior year-end. The largest decrease in assets in 2022 occurred in cash and cash equivalents, which decreased $745.28 million as of December 31, 2022 compared to December 31, 2021. A substantial portion of the decrease can be attributed to increased investments of approximately $280.92 million since December 31, 2021, primarily in U.S. Treasury and mortgage-backed securities as well as loan growth of approximately $447.84 million since December 31, 2021. The largest growth in assets in 20222023 occurred in net loans which increased $441.92$322.39 million for the year ended December 31, 2022.2023.  Loans held for sale to the secondary market decreased $4.05increased $0.36 million for the year ended December 31, 2022.2023.  Loans held for investment represent the largest component of the Bank’s earning assets. Loans held for investment were $3.108$3.439 billion and $2.661$3.108 billion at December 31, 20222023 and 2021,2022, respectively.

The local economy that generated consistent demand for loans was a significant factor in the increase in net loans. Significant loan growth was noted in the following areas: approximately $81.14$105.49 million in construction loans, $221.43$90.31 million in 1 to 4 family first mortgages, $54.16$34.06 million in multi-family mortgages, $47.57$37.62 million in commercial and financial loans, and $23.83$24.59 million in farmland mortgages, and $19.57 million in junior mortgages. Given the current economic environment and the potential for a recession in 2023,2024, the increase in net loans in 20222023 may not continue into 2023,2024, and as a result, may not be indicative of future performance.

On a net basis, the Company originated $447.84$337.69 million in loans to customers for the year ended December 31, 20222023 compared to loan collectionsloans originated of $52.02$447.84 million for the year ended December 31, 2021, primarily due to the collections from the forgiveness of PPP loans.2022. The Company has not historically engaged in significant participation activity and does not purchase participations from outside its established trade area.  The Company’s policy allows for the purchase or sale of participations related to existing customers or to participate in community development activity.  The Company held participations purchased of $17.04, $16.20 $17.18 and $19.83$17.18 million as of December 31, 2023, 2022 2021 and 2020,2021, respectively.  The participations purchased were less than one percent of loans held for investment for each of the three years.

The Company did experience significant overall increases in its loans held for investment in 20222023 compared to 20212022 though the loan composition in 20222023 remained comparable to 2021.2022. Residential real estate loans, including first and junior liens, were $1,255.94$1,365.82 million and $1,023.91$1,255.94 million as of December 31, 20222023 and 2021,2022, respectively.  The dollar total of residential real estate loans increased 8.75% in 2023 and increased 22.66% in 2022 and increased 0.39% in 2021.2022.  Residential real estate loans were 40.41%39.72% of the loan portfolio at December 31, 20222023 and 38.49%40.41% at December 31, 2021.2022.  Agricultural loans, including production and mortgages, were $369.28$396.95 million and $339.68$369.28 million as of December 31, 20222023 and 2021,2022, respectively, an increase of 8.71%7.49% in 20222023 compared to 2021.2022. Agricultural loans represented 11.88%11.54% and 12.77%11.88% of the Company's loan portfolio as of December 31, 20222023 and 2021,2022, respectively. Construction loans were $288.65$394.13 million and $207.51$288.65 million as of December 31, 20222023 and 2021,2022, respectively, an increase of 39.10%36.54% in 20222023 compared to 2021.2022. Construction loans represented 9.29%11.46% and 7.80%9.29% of the Company's loan portfolio as of December 31, 20222023 and 2021,2022, respectively. Commercial and financial loans were $269.57$307.19 million and $222.00$269.57 million as of December 31, 20222023 and 2021,2022, respectively, an increase of 21.43%13.96% in 20222023 compared to 2021.2022. Commercial and financial loans represented 8.67%8.93% and 8.35%8.67% of the Company's loan portfolio as of December 31, 20222023 and 2021,2022, respectively. Multi-family real estate loans were $436.95$471.01 million and $382.79$436.95 million as of December 31, 20222023 and 2021,2022, respectively, an increase of 14.15%7.79% in 20222023 compared to 2021.2022. Multi-family real estate loans represented 14.06%13.70% and 14.39%14.06% of the Company's loan portfolio as of December 31, 20222023 and 2021,2022, respectively. Commercial real estate loans totaled $402.84$416.67 million at December 31, 2022,2023, a 0.36%3.43% increase over the December 31, 20212022 total of $401.38$402.84 million.  Commercial real estate loans decreased 3.78%increased 0.36% in 2021.2022.  Commercial real estate loans represented 12.96%, 15.09%12.12% and 15.39%12.96% of the Company’s loan portfolio as of December 31, 2022, 20212023 and 2020,2022, respectively.  The Company monitors its commercial real estate level so that

The following table shows the composition of loans (before deducting the allowance for credit losses) as of December 31 for each of the last five years.  The table does not include loans held for sale to the secondary market.

There were no foreign loans outstanding for any of the years presented.

The following table shows the principal payments due on loans as of December 31, 2022:2023:

 

The overall economy in the Company’s trade area, Johnson, Linn and Washington Counties, remains in stable condition with levels of unemployment below national and state levels.  The following table shows unemployment and estimated median income information as of December 31, 2023, 2022 2021 and 2020.2021.

 

Competition for quality loans and deposits may continue to be a challenge.  The increased competition for both loans and deposits could result in a lower interest rate margin that could result in lower net interest income if the volume of loans and deposits does not increase to offset any such reduction in the interest margin.

Total deposits decreased by $74.59 million in 2023.  Deposits decreased by $176.63 million in 2022.  Deposits increased by $341.43 million in 2021.  As of June 30, 20222023 (latest data available from the FDIC), Johnson County total deposits were $13.018$13.862 billion and the Company’s deposits were $2.317$2.213 billion, which represent a 17.80%15.96% market share.  The Company had nineeight office locations in Johnson County as of June 30, 2022.2023.  The total banking locations in Johnson County were 4748 as of June 30, 2022.2023.  At June 30, 2021,2022, the Company’s deposits were $2.272$2.317 billion or a 20.51%17.80% market share.  As of June 30, 2022,2023, Linn County total deposits were $8.487$8.522 billion and there were 101102 total banking locations in the county.  The seven Linn County offices of the Company had deposits of $813$747 million or a 9.6%8.8% share of the market.  The Company’s Linn County deposits at June 30, 20212022 were $764$813 million and represented a 8.9%9.6% market share.  As of June 30, 2022,2023, the Company’s three Washington County offices had deposits of $317$324 million which was 33.5%33.9% of the County’s total deposits of $945$955 million.  Washington County had a total of 1413 banking locations as of June 30, 2022.2023.  In 2021,2022, the Company’s Washington County deposits were $287$317 million or a 34.5%33.5% market share.

The following tables show the amounts of the Company's average deposits and average rates paid on such deposits for the years ended December 31, 2023, 2022 2021 and 20202021 and the composition of the certificates of deposit issued in denominations in excess of $250,000 as of December 31, 2023, 2022 2021 and 2020:2021:

Investment securities increased $226.67$12.60 million in 2022.2023.  In 2021,2022, investment securities increased by $139.36$226.67 million.  The investment portfolio consists of $776.10$779.42 million of securities that are stated at fair value, with any unrealized gain or loss, net of

income taxes, reported as a separate component of stockholders’ equity.  The securities portfolio is used for liquidity and pledging purposes and to provide a rate of return that is acceptable to management.

The following tables show the carrying value of the investment securities held by the Bank, including stock of the Federal Home Loan Bank, as of December 31, 2023, 2022 2021 and 20202021 and the maturities and weighted average yields of the investment securities, computed using amortized cost on a tax-equivalent basis using a federal tax rate of 21%, as of December 31, 2022:2023:

 

As of December 31, 2022,2023, the Company held no investment securities exceeding 10% of stockholders’ equity, other than securities of the U.S. Government agencies and corporations.  The Company does not hold any investments in FNMA preferred stock, any pooled trust preferred stocks or other preferred stock type investments.  See Note 2 to the Company’s Consolidated Financial Statements.

During 2022,2023, the major funding source for the growth in loans and other assets was from short-term borrowings in addition to FHLB borrowings.  In 2022, the major source of funding for the growth in loans was cash and cash equivalents in addition to federal funds purchased and FHLB borrowings.  In 2021, the major source of funding for the growth in loans was deposit growth of $341.43 million.  Brokered deposits totaled $31.74$24.22 million and $51.59$31.74 million as of December 31, 20222023 and 2021,2022, respectively. Total advances from the FHLB were $40.00$296.65 million at December 31, 20222023 and none$40 million in 2021.2022.  Total federal funds purchased were $82.06 millionnone as of December 31, 2023 and $0.25$82.06 million as of December 31, 20222022. Total funds purchased from the Bank Term Funding program was $219.00 million as December 31, 2023, and 2021, respectively.none in 2022. The federal funds purchased, Bank Term Funding Program, and FHLB funding sources are considered when loan growth exceeds core deposit increases and the interest rates on funds borrowed from the FHLB or other sources are favorable compared to other funding alternatives.

Stockholders’ equity was $470.29 million at December 31, 2023 compared to $428.26 million at December 31, 2022 compared to $438.45 million at December 31, 2021.2022.  The Company’s capital resources are discussed in detail in the Liquidity and Capital Resources section.  Over the last five years, the Company has realized cumulative earnings of $216.57$217.98 million and paid shareholders dividends of $41.06$43.75 million, or 18.96%20.07% of earnings, while maintaining capital ratios in excess of regulatory requirements.

The following table presents the return on average assets, return on average stockholders' equity, the dividend payout ratio and average stockholders’ equity to average assets ratio for the years ended December 31, 2023, 2022 2021 and 2020:2021: