UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


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

For the quarterly period ended ~~March 31,~~September 30, 2021


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

For the transition period from ___________ to ___________

Commission file number: 0-12668

Hills Bancorporation


(State or other jurisdiction of incorporation or organization)			I.R.S. Employer Identification No.
Iowa			42-1208067

131 MAIN STREET, HILLS, Iowa 52235

Telephone number: (319) 679-2291

Securities registered pursuant to Section 12(b) of the Act:


Title of each class	Trading Symbol(s)	Name of each exchange on which registered

Indicate by checkmark 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 ☐ No

Indicate by checkmark whether the Registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). ☑ Yes ☐ No

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


Large accelerated filer	☐	Accelerated Filer	☑
Non-accelerated filer	☐	Small Reporting Company	☐
Emerging Growth Company	☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by checkmark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☑ No

Index

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date.


		SHARES OUTSTANDING
CLASS		~~April 30,~~October 31, 2021

Common Stock	No par value	~~9,310,687~~9,302,242

Index

HILLS BANCORPORATION

Index to Form 10-Q

Part I

FINANCIAL INFORMATION


		Page
		Number

Item 1.	Financial Statements

	Consolidated balance sheets, ~~March 31,~~September 30, 2021 (unaudited) and December 31, 2020	4
	Consolidated statements of income (unaudited) for three and nine months ended ~~March 31,~~September 30, 2021 and 2020	5
	Consolidated statements of comprehensive income (unaudited) for three and nine months ended ~~March 31,~~September 30, 2021 and 2020	6
	Consolidated statements of stockholders' equity (unaudited) for three and nin e months ended ~~March 31,~~September 30, 2021 and 2020	7
	Consolidated statements of cash flows (unaudited) for ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020	89
	Notes to consolidated financial statements (condensed)	1011

Item 2.	Management Discussion and Analysis of Financial Condition and Results of Operations	5152

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	6871

Item 4.	Controls and Procedures	6971

	Part II
	OTHER INFORMATION

Item 1.	Legal proceedings	6972

Item 1A.	Risk factors	6972

Item 2.	Unregistered sales of equity securities and use of proceeds	7173

Item 3.	Defaults upon senior securities	7274

Item 4.	Mine safety disclosures	7274

Item 5.	Other information	7274

Item 6.	Exhibits	7375

	Signatures	7476

	~~Exhibits Index~~	75

Page 3

Index

HILLS BANCORPORATION CONSOLIDATED BALANCE SHEETS (Amounts In Thousands, Except Share Amounts)


		March 31, 2021		December 31, 2020			September 30, 2021		December 31, 2020
ASSETS	ASSETS	(Unaudited)				ASSETS	(Unaudited)
Cash and cash equivalents	Cash and cash equivalents	$	819,436	$	574,310	Cash and cash equivalents	$	869,098	$	574,310
Investment securities available for sale at fair value (amortized cost March 31, 2021 $425,713; December 31, 2020 $396,670)		433,713		408,372
Investment securities available for sale at fair value (amortized cost September 30, 2021 $495,580; December 31, 2020 $396,670)						Investment securities available for sale at fair value (amortized cost September 30, 2021 $495,580; December 31, 2020 $396,670)	501,265		408,372
Stock of Federal Home Loan Bank	Stock of Federal Home Loan Bank	8,747		8,172		Stock of Federal Home Loan Bank	8,746		8,172
Loans held for sale	Loans held for sale	19,574		43,947		Loans held for sale	10,738		43,947
Loans, net of allowance for credit losses March 31, 2021 $36,620; net of allowance for loan losses December 31, 2020 $37,070		2,644,575		2,674,012
Loans, net of allowance for credit losses September 30, 2021 $35,590; net of allowance for loan losses December 31, 2020 $37,070						Loans, net of allowance for credit losses September 30, 2021 $35,590; net of allowance for loan losses December 31, 2020 $37,070	2,619,198		2,674,012
Property and equipment, net	Property and equipment, net	35,265		35,878		Property and equipment, net	34,740		35,878
Tax credit real estate investment	Tax credit real estate investment	11,284		7,273		Tax credit real estate investment	10,620		7,273
Accrued interest receivable	Accrued interest receivable	12,534		12,177		Accrued interest receivable	12,432		12,177
Deferred income taxes, net	Deferred income taxes, net	7,916		6,088		Deferred income taxes, net	8,431		6,088
Goodwill	Goodwill	2,500		2,500		Goodwill	2,500		2,500
Other assets	Other assets	7,728		7,882		Other assets	8,317		7,882
Total Assets	Total Assets	$	4,003,272	$	3,780,611	Total Assets	$	4,086,085	$	3,780,611

LIABILITIES AND STOCKHOLDERS' EQUITY	LIABILITIES AND STOCKHOLDERS' EQUITY					LIABILITIES AND STOCKHOLDERS' EQUITY

Liabilities	Liabilities					Liabilities
Noninterest-bearing deposits	Noninterest-bearing deposits	$	571,725	$	532,190	Noninterest-bearing deposits	$	581,011	$	532,190
Interest-bearing deposits	Interest-bearing deposits	2,839,605		2,660,378		Interest-bearing deposits	2,887,248		2,660,378
Total deposits	Total deposits	$	3,411,330	$	3,192,568	Total deposits	$	3,468,259	$	3,192,568

Federal Home Loan Bank borrowings	Federal Home Loan Bank borrowings	105,000		105,000		Federal Home Loan Bank borrowings	105,000		105,000
Accrued interest payable	Accrued interest payable	1,492		1,733		Accrued interest payable	1,255		1,733
Allowance for credit losses on off-balance sheet credit exposures	Allowance for credit losses on off-balance sheet credit exposures	4,340		0		Allowance for credit losses on off-balance sheet credit exposures	4,580		—
Other liabilities	Other liabilities	19,726		17,905		Other liabilities	21,856		17,905
Total Liabilities	Total Liabilities	$	3,541,888	$	3,317,206	Total Liabilities	$	3,600,950	$	3,317,206

Redeemable Common Stock Held by Employee Stock Ownership Plan (ESOP)	Redeemable Common Stock Held by Employee Stock Ownership Plan (ESOP)	$	48,134	$	47,329	Redeemable Common Stock Held by Employee Stock Ownership Plan (ESOP)	$	48,831	$	47,329

STOCKHOLDERS' EQUITY	STOCKHOLDERS' EQUITY					STOCKHOLDERS' EQUITY
Common stock, 0 par value; authorized 20,000,000 shares; issued March 31, 2021 10,331,960 shares; December 31, 2020 10,330,242 shares		$	0	$	0
Common stock, no par value; authorized 20,000,000 shares; issued September 30, 2021 10,329,937 shares; December 31, 2020 10,330,242 shares						Common stock, no par value; authorized 20,000,000 shares; issued September 30, 2021 10,329,937 shares; December 31, 2020 10,330,242 shares	$	—	$	—
Paid in capital	Paid in capital	60,611		60,233		Paid in capital	61,078		60,233
Retained earnings	Retained earnings	441,504		439,831		Retained earnings	468,239		439,831
Accumulated other comprehensive income	Accumulated other comprehensive income	6,004		8,782		Accumulated other comprehensive income	4,267		8,782
Treasury stock at cost (March 31, 2021 1,019,442 shares; December 31, 2020 999,247 shares)		(46,735)		(45,441)
Treasury stock at cost (September 30, 2021 1,042,426 shares; December 31, 2020 999,247 shares)						Treasury stock at cost (September 30, 2021 1,042,426 shares; December 31, 2020 999,247 shares)	(48,449)		(45,441)
Total Stockholders' Equity	Total Stockholders' Equity	$	461,384	$	463,405	Total Stockholders' Equity	$	485,135	$	463,405
Less maximum cash obligation related to ESOP shares	Less maximum cash obligation related to ESOP shares	48,134		47,329		Less maximum cash obligation related to ESOP shares	48,831		47,329
Total Stockholders' Equity Less Maximum Cash Obligation Related to ESOP Shares	Total Stockholders' Equity Less Maximum Cash Obligation Related to ESOP Shares	$	413,250	$	416,076	Total Stockholders' Equity Less Maximum Cash Obligation Related to ESOP Shares	$	436,304	$	416,076
Total Liabilities & Stockholders' Equity	Total Liabilities & Stockholders' Equity	$	4,003,272	$	3,780,611	Total Liabilities & Stockholders' Equity	$	4,086,085	$	3,780,611

See Notes to Consolidated Financial Statements.

Page 4

Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF INCOME (Unaudited)

(Amounts In Thousands, Except Per Share Amounts)


		Three Months Ended March 31,					Three Months Ended September 30,	Nine Months Ended September 30,
			2021		2020					2021		2020		2021		2020
Interest income:	Interest income:								Interest income:
Loans, including fees	Loans, including fees		$	29,200	$	29,893			Loans, including fees	$	29,004	$	29,750	$	86,956	$	89,975
Investment securities:	Investment securities:								Investment securities:
Taxable	Taxable		818		884				Taxable	940		889		2,629		2,656
Nontaxable	Nontaxable		945		1,037				Nontaxable	963		933		2,880		2,941
Federal funds sold	Federal funds sold		164		638				Federal funds sold	289		103		652		801
Total interest income	Total interest income		$	31,127	$	32,452			Total interest income	$	31,196	$	31,675	$	93,117	$	96,373
Interest expense:	Interest expense:								Interest expense:
Deposits	Deposits		$	4,153	$	6,492			Deposits	$	3,414	$	5,077	$	11,416	$	16,854
FHLB borrowings	FHLB borrowings		741		1,370				FHLB borrowings	758		1,388		2,248		4,118
Total interest expense	Total interest expense		$	4,894	$	7,862			Total interest expense	$	4,172	$	6,465	$	13,664	$	20,972
Net interest income	Net interest income		$	26,233	$	24,590			Net interest income	$	27,024	$	25,210	$	79,453	$	75,401
Provision for credit losses (2021); Provision for loan losses (2020)	Provision for credit losses (2021); Provision for loan losses (2020)		(2,984)		4,649				Provision for credit losses (2021); Provision for loan losses (2020)	82		(157)		(4,561)		4,500

Net interest income after credit loss expense and provision for loan losses	Net interest income after credit loss expense and provision for loan losses		$	29,217	$	19,941			Net interest income after credit loss expense and provision for loan losses	$	26,942	$	25,367	$	84,014	$	70,901
Noninterest income:	Noninterest income:								Noninterest income:
Net gain on sale of loans	Net gain on sale of loans		$	3,003	$	658			Net gain on sale of loans	$	1,512	$	2,303	$	6,243	$	4,859
Trust fees	Trust fees		3,013		2,570				Trust fees	3,568		2,494		9,645		7,450
Service charges and fees	Service charges and fees		2,540		2,529				Service charges and fees	3,075		2,636		8,729		7,427
Other noninterest income	Other noninterest income		482		400				Other noninterest income	89		77		647		462
Gain on sale of investment securities	Gain on sale of investment securities		0		10				Gain on sale of investment securities	—		—		—		10
			$	9,038	$	6,167				$	8,244	$	7,510	$	25,264	$	20,208

Noninterest expenses:	Noninterest expenses:								Noninterest expenses:
Salaries and employee benefits	Salaries and employee benefits		$	10,564	$	9,584			Salaries and employee benefits	$	10,281	$	10,108	$	31,484	$	29,818
Occupancy	Occupancy		1,138		1,152				Occupancy	955		1,067		3,135		3,248
Furniture and equipment	Furniture and equipment		1,983		1,781				Furniture and equipment	1,652		2,028		5,523		5,778
Office supplies and postage	Office supplies and postage		454		503				Office supplies and postage	428		425		1,268		1,333
Advertising and business development	Advertising and business development		535		759				Advertising and business development	496		340		1,480		1,479
Outside services	Outside services		3,188		2,685				Outside services	3,496		2,818		9,781		8,020

FDIC insurance assessment	FDIC insurance assessment		258		180				FDIC insurance assessment	267		223		777		617
Other noninterest expense	Other noninterest expense		579		583				Other noninterest expense	623		1,046		1,668		1,861
			$	18,699	$	17,227				$	18,198	$	18,055	$	55,116	$	52,154
Income before income taxes	Income before income taxes		$	19,556	$	8,881			Income before income taxes	$	16,988	$	14,822	$	54,162	$	38,955
Income taxes	Income taxes		4,359		1,806				Income taxes	3,863		3,392		12,230		8,739
Net income	Net income		$	15,197	$	7,075			Net income	$	13,125	$	11,430	$	41,932	$	30,216

Earnings per share:	Earnings per share:								Earnings per share:
Basic	Basic		$	1.63	$	0.75			Basic	$	1.41	$	1.22	$	4.50	$	3.22
Diluted	Diluted		$	1.63	$	0.75			Diluted	$	1.41	$	1.22	$	4.50	$	3.22

See Notes to Consolidated Financial Statements.

Page 5

Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited) (Amounts In Thousands)


		Three Months Ended March 31,					Three Months Ended September 30,	Nine Months Ended September 30,
			2021		2020					2021		2020		2021		2020
Net income	Net income		$	15,197	$	7,075			Net income	$	13,125	$	11,430	$	41,932	$	30,216

Other comprehensive (loss)
Other comprehensive (loss) income									Other comprehensive (loss) income
Securities:	Securities:								Securities:
Net change in unrealized (loss) income on securities available for sale	Net change in unrealized (loss) income on securities available for sale		$	(3,702)	$	564			Net change in unrealized (loss) income on securities available for sale	$	(1,510)	$	(84)	$	(6,017)	$	8,220
Reclassification adjustment for net gains realized in net income	Reclassification adjustment for net gains realized in net income		0		(10)				Reclassification adjustment for net gains realized in net income	—		—		—		(10)
Income taxes	Income taxes		924		(139)				Income taxes	377		21		1,502		(2,049)
Other comprehensive (loss) income on securities available for sale	Other comprehensive (loss) income on securities available for sale		$	(2,778)	$	415			Other comprehensive (loss) income on securities available for sale	$	(1,133)	$	(63)	$	(4,515)	$	6,161
Derivatives used in cash flow hedging relationships:	Derivatives used in cash flow hedging relationships:								Derivatives used in cash flow hedging relationships:
Net change in unrealized loss on derivatives			$	0	$	(1,098)
Net change in unrealized gain (loss) on derivatives									Net change in unrealized gain (loss) on derivatives	$	—	$	364	$	—	$	(726)
Income taxes	Income taxes		0		274				Income taxes	—		(91)		—		181
Other comprehensive loss on cash flow hedges			$	0	$	(824)
Other comprehensive income (loss) on cash flow hedges									Other comprehensive income (loss) on cash flow hedges	$	—	$	273	$	—	$	(545)

Other comprehensive loss, net of tax			$	(2,778)	$	(409)
Other comprehensive (loss) income, net of tax									Other comprehensive (loss) income, net of tax	$	(1,133)	$	210	$	(4,515)	$	5,616

Comprehensive income	Comprehensive income		$	12,419	$	6,666			Comprehensive income	$	11,992	$	11,640	$	37,417	$	35,832

See Notes to Consolidated Financial Statements.

Page 6

Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (Unaudited) (Amounts In Thousands, Except Share Amounts)

Three Months Ended March 31, 2021 and 2020
Paid In Capital Retained Earnings Accumulated Other
Comprehensive
Income (Loss) Treasury Stock Maximum Cash
Obligation Related
To ESOP Shares Total
Balance, December 31, 2019 $ 55,943 $ 409,509 $ 1,415 $ (39,830) $ (51,826) $ 375,211
Issuance of 91,274 shares of common stock 3,504 — — 2,429 — 5,933
Issuance of 1,712 shares of common stock under the employee stock purchase plan 101 — — — — 101
Unearned restricted stock compensation 202 — — — — 202
Forfeiture of 443 shares of common stock (23) (23)
Share-based compensation 6 — — — — 6
Change related to ESOP shares — — — — 1,577 1,577
Net income — 7,075 — — — 7,075
Cash dividends ($0.89 per share) — (8,324) — — — (8,324)
Purchase of 68,881 shares of common stock — — — (4,538) — (4,538)
Other comprehensive loss — — (409) — — (409)
Balance, March 31, 2020 $ 59,733 $ 408,260 $ 1,006 $ (41,939) $ (50,249) $ 376,811
Balance, December 31, 2020 $ 60,233 $ 439,831 $ 8,782 $ (45,441) $ (47,329) $ 416,076
Cumulative change in accounting principle (Note 1) — (4,751) — — — $ (4,751)
Balance, January 1, 2021 (as adjusted for change in accounting principle) 60,233 435,080 8,782 (45,441) (47,329) $ 411,325
Issuance of 657 shares of common stock 24 — — 17 — 41
Issuance of 2,018 shares of common stock under the employee stock purchase plan 114 — — — — 114
Unearned restricted stock compensation 251 — — — — 251
Forfeiture of 300 shares of common stock (17) — — — — (17)
Share-based compensation 6 — — — — 6
Change related to ESOP shares — — — — (805) (805)
Net income — 15,197 — — — 15,197
Cash dividends ($0.94 per share) — (8,773) — — — (8,773)
Purchase of 20,852 shares of common stock — — — (1,311) — (1,311)
Other comprehensive income — — (2,778) — — (2,778)
Balance, March 31, 2021 $ 60,611 $ 441,504 $ 6,004 $ (46,735) $ (48,134) $ 413,250


Three Months Ended September 30, 2021 and 2020
	Paid in Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Treasury Stock		Maximum Cash Obligation Related to ESOP Shares		Total
Balance, June 30, 2020	$	60,043	$	419,971	$	6,821	$	(42,787)	$	(45,329)	$	398,719
Issuance of 13,120 shares of common stock	458		—		—		351		—		809
Issuance of 1,861 shares of common stock under the employee stock purchase plan	104		—		—		—		—		104
Unearned restricted stock compensation	(474)		—		—		—		—		(474)
Forfeiture of 3,188 shares of common stock	(166)		—		—		—		—		(166)
Share-based compensation	7		—		—		—		—		7
Change related to ESOP shares	—		—		—		—		(1,566)		(1,566)
Net income	—		11,430		—		—		—		11,430


Purchase of 29,807 shares of common stock	—		—		—		(1,814)		—		(1,814)
Other comprehensive income	—		—		210		—		—		210
Balance, September 30, 2020	$	59,972	$	431,401	$	7,031	$	(44,250)	$	(46,895)	$	407,259

Balance, June 30, 2021	$	60,776	$	455,114	$	5,400	$	(47,187)	$	(48,726)	$	425,377
Issuance of 1,204 shares of common stock	48		—		—		32		—		80
Issuance of 1,725 shares of common stock under the employee stock purchase plan	100		—		—		—		—		100
Unearned restricted stock compensation	273		—		—		—		—		273
Forfeiture of 2,114 shares of common stock	(125)		—		—		—		—		(125)
Share-based compensation	6		—		—		—		—		6

Change related to ESOP shares	—		—		—		—		(105)		(105)
Net income	—		13,125		—		—		—		13,125


Purchase of 19,556 shares of common stock	—		—		—		(1,294)		—		(1,294)
Other comprehensive loss	—		—		(1,133)		—		—		(1,133)

Balance, September 30, 2021	$	61,078	$	468,239	$	4,267	$	(48,449)	$	(48,831)	$	436,304

Page 7

Index


Nine Months Ended September 30, 2021 and 2020
	Paid in Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Treasury Stock		Maximum Cash Obligation Related to ESOP Shares		Total
Balance, December 31, 2019	$	55,943	$	409,509	$	1,415	$	(39,830)	$	(51,826)	$	375,211
Issuance of 105,542 shares of common stock	4,005		—		—		2,810		—		6,815
Issuance of 5,430 shares of common stock under the employee stock purchase plan	304		—		—		—		—		304
Unearned restricted stock compensation	(81)		—		—		—		—		(81)
Forfeiture of 4,211 shares of common stock	(218)		—		—		—		—		(218)
Share-based compensation	19		—		—		—		—		19

Change related to ESOP shares	—		—		—		—		4,931		4,931
Net income	—		30,216		—		—		—		30,216
Cash dividends ($0.89 per share)	—		(8,324)		—		—		—		(8,324)

Purchase of 112,407 shares of common stock	—		—		—		(7,230)		—		(7,230)
Other comprehensive income	—		—		5,616		—		—		5,616
Balance, September 30, 2020	$	59,972	$	431,401	$	7,031	$	(44,250)	$	(46,895)	$	407,259

Balance, December 31, 2020	$	60,233	$	439,831	$	8,782	$	(45,441)	$	(47,329)	$	416,076
Cumulative change in accounting principle (Note 1)	—		(4,751)		—		—		—		(4,751)
Balance, January 1, 2021 (as adjusted for change in accounting principle)	60,233		435,080		8,782		(45,441)		(47,329)		411,325
Issuance of 5,957 shares of common stock	225		—		—		159		—		384
Issuance of 5,564 shares of common stock under the employee stock purchase plan	320		—		—		—		—		320
Unearned restricted stock compensation	603		—		—		—		—		603
Forfeiture of 5,869 shares of common stock	(321)		—		—		—		—		(321)
Share-based compensation	18		—		—		—		—		18

Change related to ESOP shares	—		—		—		—		(1,502)		(1,502)
Net income	—		41,932		—		—		—		41,932
Cash dividends ($0.94 per share)	—		(8,773)		—		—		—		(8,773)

Purchase of 49,136 shares of common stock	—		—		—		(3,167)		—		(3,167)
Other comprehensive loss	—		—		(4,515)		—		—		(4,515)
Balance, September 30, 2021	$	61,078	$	468,239	$	4,267	$	(48,449)	$	(48,831)	$	436,304

See Notes to Consolidated Financial Statements.

Page 78

Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Amounts In Thousands)


		Three Months Ended March 31,					Nine Months Ended September 30,
		March 31, 2021		March 31, 2020			2021		2020
Cash Flows from Operating Activities	Cash Flows from Operating Activities					Cash Flows from Operating Activities
Net income	Net income	$	15,197	$	7,075	Net income	$	41,932	$	30,216
Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:	Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:					Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:
Depreciation	Depreciation	808		874		Depreciation	2,325		2,623
Provision for credit losses (2021) and loan losses (2020)	Provision for credit losses (2021) and loan losses (2020)	(2,984)		4,649		Provision for credit losses (2021) and loan losses (2020)	(4,561)		4,500

Net gain on sale of investment securities available for sale	Net gain on sale of investment securities available for sale	0		(10)		Net gain on sale of investment securities available for sale	—		(10)
Forfeiture of common stock	Forfeiture of common stock	(17)		(23)		Forfeiture of common stock	(321)		(218)
Share-based compensation	Share-based compensation	6		6		Share-based compensation	18		19
Compensation expensed through issuance of common stock	Compensation expensed through issuance of common stock	41		89		Compensation expensed through issuance of common stock	384		971
Provision for deferred income taxes	Provision for deferred income taxes	676		(938)		Provision for deferred income taxes	738		(865)
Net gain on sale of other real estate owned and other repossessed assets	Net gain on sale of other real estate owned and other repossessed assets	(7)		0		Net gain on sale of other real estate owned and other repossessed assets	(25)		—
Increase in accrued interest receivable	Increase in accrued interest receivable	(357)		(1,249)		Increase in accrued interest receivable	(255)		(1,289)
Amortization of premium on investment securities, net	Amortization of premium on investment securities, net	264		157		Amortization of premium on investment securities, net	872		555
Decrease in other assets		3		2,649
(Increase) decrease in other assets						(Increase) decrease in other assets	(683)		1,320
Amortization of operating lease right-of-use assets	Amortization of operating lease right-of-use assets	106		95		Amortization of operating lease right-of-use assets	298		91
Increase (decrease) in accrued interest payable and other liabilities	Increase (decrease) in accrued interest payable and other liabilities	2,587		(5,918)		Increase (decrease) in accrued interest payable and other liabilities	5,072		(1,590)

Loans originated for sale	Loans originated for sale	(128,289)		(55,609)		Loans originated for sale	(356,975)		(359,531)
Proceeds on sales of loans	Proceeds on sales of loans	155,665		53,075		Proceeds on sales of loans	396,427		344,810
Net gain on sales of loans	Net gain on sales of loans	(3,003)		(658)		Net gain on sales of loans	(6,243)		(4,859)
Net cash and cash equivalents provided by operating activities	Net cash and cash equivalents provided by operating activities	$	40,696	$	4,264	Net cash and cash equivalents provided by operating activities	$	79,003	$	16,743

Cash Flows from Investing Activities	Cash Flows from Investing Activities					Cash Flows from Investing Activities
Proceeds from maturities of investment securities available for sale	Proceeds from maturities of investment securities available for sale	$	15,256	$	9,076	Proceeds from maturities of investment securities available for sale	$	76,242	$	64,096
Proceeds from sales of investment securities available for sale	Proceeds from sales of investment securities available for sale	0		313		Proceeds from sales of investment securities available for sale	—		313
Purchases of investment securities available for sale	Purchases of investment securities available for sale	(45,139)		(25,827)		Purchases of investment securities available for sale	(176,023)		(76,694)
Purchases of stock of Federal Home Loan Bank						Purchases of stock of Federal Home Loan Bank	(574)		(310)
Loans made to customers, net of collections	Loans made to customers, net of collections	29,675		(24,771)		Loans made to customers, net of collections	56,533		(129,294)
Proceeds on sale of other real estate owned and other repossessed assets	Proceeds on sale of other real estate owned and other repossessed assets	52		0		Proceeds on sale of other real estate owned and other repossessed assets	70		—
Purchases of property and equipment	Purchases of property and equipment	(195)		(495)		Purchases of property and equipment	(1,187)		(1,025)
Investment in tax credit real estate	Investment in tax credit real estate	(4,183)		0		Investment in tax credit real estate	(4,183)		—
Net changes from tax credit real estate investment	Net changes from tax credit real estate investment	172		335		Net changes from tax credit real estate investment	836		1,120
Net cash and cash equivalents used in investing activities	Net cash and cash equivalents used in investing activities	$	(4,362)	$	(41,369)	Net cash and cash equivalents used in investing activities	$	(48,286)	$	(141,794)

Cash Flows from Financing Activities	Cash Flows from Financing Activities					Cash Flows from Financing Activities
Net increase in deposits	Net increase in deposits	$	218,762	$	70,350	Net increase in deposits	$	275,691	$	453,187

Net increase in other borrowings						Net increase in other borrowings	—		43
Issuance of common stock, net of costs	Issuance of common stock, net of costs	0		5,844		Issuance of common stock, net of costs	—		5,844

Purchase of treasury stock	Purchase of treasury stock	(1,311)		(4,538)		Purchase of treasury stock	(3,167)		(7,230)
Proceeds from the issuance of common stock through the employee stock purchase plan	Proceeds from the issuance of common stock through the employee stock purchase plan	114		101		Proceeds from the issuance of common stock through the employee stock purchase plan	320		304
Dividends paid	Dividends paid	(8,773)		(8,324)		Dividends paid	(8,773)		(8,324)
Net cash and cash equivalents provided by financing activities	Net cash and cash equivalents provided by financing activities	$	208,792	$	63,433	Net cash and cash equivalents provided by financing activities	$	264,071	$	443,824

(Continued)

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Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Continued) (Amounts In Thousands)


		Three Months Ended March 31,					Nine Months Ended September 30,
		March 31, 2021		March 31, 2020			2021		2020
Increase in cash and cash equivalents	Increase in cash and cash equivalents	$	245,126	$	26,328	Increase in cash and cash equivalents	$	294,788	$	318,773
Cash and cash equivalents:	Cash and cash equivalents:					Cash and cash equivalents:
Beginning of period	Beginning of period	574,310		241,965		Beginning of period	574,310		241,965
End of period	End of period	$	819,436	$	268,293	End of period	$	869,098	$	560,738

Supplemental Disclosures	Supplemental Disclosures					Supplemental Disclosures
Cash payments for:	Cash payments for:					Cash payments for:
Interest paid to depositors	Interest paid to depositors	$	4,394	$	6,614	Interest paid to depositors	$	11,894	$	17,130
Interest paid on other obligations	Interest paid on other obligations	741		1,370		Interest paid on other obligations	2,248		4,118

Income taxes paid						Income taxes paid	6,073		7,329

Noncash activities:	Noncash activities:					Noncash activities:
Increase/(decrease) in maximum cash obligation related to ESOP shares	Increase/(decrease) in maximum cash obligation related to ESOP shares	$	805	$	(1,577)	Increase/(decrease) in maximum cash obligation related to ESOP shares	$	1,502	$	(4,931)
Transfers to other real estate owned						Transfers to other real estate owned	96		—

See Notes to Consolidated Financial Statements.

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 1.Summary of Significant Accounting Policies

Basis of Presentation:

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial reporting and with instructions for Form 10-Q and Regulation S-X. These financial statements include all adjustments (consisting of normal recurring accruals) which in the opinion of management are considered necessary for the fair presentation of the financial position and results of operations for the periods shown. Certain prior year amounts have been reclassified to conform to the current year presentation. The Company considers that it operates as 1 business segment, a commercial bank.

Operating results for the ~~three~~nine month period ended ~~March 31,~~September 30, 2021 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2021. For further information, refer to the consolidated financial statements and footnotes thereto included in the Form 10-K Annual Report of Hills Bancorporation and subsidiary (the “Company”) for the year ended December 31, 2020 filed with the Securities Exchange Commission on March 5, 2021. The consolidated balance sheet as of December 31, 2020, has been derived from the audited consolidated financial statements for that period.

The Company evaluated subsequent events through the filing date of its quarterly report on Form 10-Q with the SEC.

Accounting Estimates:

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Certain Significant Estimates:

The allowance for credit losses and loan losses, fair values of securities and other financial instruments, and share-based compensation expense involve certain significant estimates made by management. These estimates are reviewed by management routinely and it is reasonably possible that circumstances that exist at ~~March 31,~~September 30, 2021 may change in the near-term and the effect could be material to the consolidated financial statements. Actual amounts and values as of the balance sheet dates may be materially different than the amounts and values reported due to the inherent uncertainty in the estimation process.

Revenue Recognition:

Accounting Standards Codification ("ASC") 606, Revenue from Contracts with Customers ("ASC 606"), establishes principles for reporting information about the nature, amount, timing and uncertainty of revenue and cash flows arising from the Company’s contracts to provide goods or services to customers. The core principle requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration that it expects to be entitled to receive in exchange for those goods or services recognized as performance obligations are satisfied.

The majority of the Company’s revenue-generating transactions are not subject to ASC 606, including revenue generated from financial instruments, such as loans, letters of credit and investment securities. Interest income on loans and investment securities is recognized on the accrual method in accordance with written contracts.

Descriptions of the Company’s revenue-generating activities that are within the scope of ASC 606 are the following: Service charges and fees on deposit accounts represent general service fees for monthly account maintenance and activity- or transaction-based fees and consist of transaction-based revenue which includes interchange income, time-based revenue (service period), item-based revenue or some other individual attribute-based revenue. Revenue is recognized when the Company’s performance obligation is completed which is generally monthly for account maintenance services or when a transaction has been completed (such as a wire transfer). Payment for such performance obligations are generally received at

Page 1011

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

the time the performance obligations are satisfied. Trust income represents monthly fees due from wealth management customers as consideration for managing the customers' assets. Wealth management and trust services include custody of assets, investment management, fees for trust services and similar fiduciary activities. Revenue is recognized when our performance obligation is completed each month, which is generally the time that payment is received.

A contract asset balance occurs when an entity performs a service for a customer before the customer pays consideration (resulting in a contract receivable) or before payment is due (resulting in a contract asset). A contract liability balance is an entity's obligation to transfer a service to a customer for which the entity has already received payment (or payment is due) from the customer. As of ~~March 31,~~September 30, 2021, the Company did not have any significant contract balances.

An entity is required to capitalize, and subsequently amortize into expense, certain incremental costs of obtaining a contract with a customer if these costs are expected to be recovered. The incremental costs of obtaining a contract are those costs that an entity incurs to obtain a contract with a customer that it would not have incurred if the contract had not been obtained (for example, sales commission). The Company utilizes the practical expedient which allows entities to immediately expense contract acquisition costs when the asset that would have resulted from capitalizing these costs would have been amortized in one year or less. The Company has not incurred or capitalized any contract acquisition costs as of ~~March 31,~~September 30, 2021.

Tax Credit Real Estate:

Tax credit real estate represents 3 multi-family rental properties, 3 assisted living rental properties, a multi-tenant rental property for persons with disabilities, and a multi-family senior living rental property, all of which are affordable housing projects as of ~~March 31,~~September 30, 2021. The Bank has a 99% or greater limited partnership interest in each limited partnership. The investment in each was completed after the projects had been developed by the general partner. The Company evaluates the recoverability of the carrying value on a regular basis. If the recoverability was determined to be in doubt, a valuation allowance would be established by way of a charge to expense. Depreciation expense is provided on a straight-line basis over the estimated useful life of the assets. Expenditures for normal repairs and maintenance are charged to expense as incurred.

In 2016, the Company adopted ASU 2015-02 and the investments in tax credit real estate are recorded for all years presented using the equity method of accounting, with the exception of the investment in the affordable housing project described below. The operations of the properties are not expected to contribute significantly to the Company’s income before income taxes. However, the properties do contribute in the form of income tax credits, which lowers the Company’s effective tax rate. Once established, the credits on each property last for ten years and are passed through from the limited partnerships to the Bank and reduces the consolidated federal tax liability of the Company.

In February ~~2019,~~2021, the Company ~~entered into a Letter~~provided construction financing and contributed capital of ~~Intent~~$4.18 million to ~~invest in~~ Del Ray Ridge LP, as limited partner, which ~~will own~~owns and ~~operate~~operates an affordable housing property in Iowa City, Iowa. ~~The Company provided construction financing for the project and contributed capital of $4.18 million in February 2021.~~ The Company accounts for the investment in this tax credit real estate using the proportional amortization method as provided for under Accounting Standards Codification (ASC) 323-740. The investment qualifies for the proportional amortization method as it meets all of the criteria under ASC 323-740-25-1. Substantially all of the projected benefits are from tax credits and other tax benefits due to the minimum buyout clause included in the partnership agreement.

Adoption of New Financial Accounting Standard Codification 326 (ASC 326 (CECL)):

On January 1, 2021, the Company adopted ASU 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires the recognition of the allowance for credit losses be estimated using the current expected credit loss (CECL) methodology. The measurement of expected credit losses under the CECL methodology is applicable to financial assets measured at amortized cost, including loan receivables and held-to-maturity debt securities. It also applies to off-balance sheet (OBS) credit exposures not accounted for as insurance (loan commitments, standby letters of credit, financial guarantees, and other similar instruments) and net investments in leases recognized by a lessor in accordance with Topic 842 on leases. In addition, ASC 326 made changes to the accounting for available-for-sale debt securities. One such change is to require credit losses to be presented as an allowance rather than as a write-down on available-for-sale debt securities management does not intend to sell or believes that it is more likely than not they will be required to sell.

The Company adopted ASC 326 using the modified retrospective method for all financial assets measured at amortized cost and OBS credit exposures. Results for reporting periods beginning January 1, 2021 are presented under ASC 326 while prior period amounts continue to be reported in accordance with previously applicable GAAP. The Company recorded a net decrease to

Page 1112

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

~~amounts continue to be reported in accordance with previously applicable GAAP. The Company recorded a net decrease to~~ retained earnings of $4.75 million as of January 1, 2021 for the cumulative effect of adopting ASC 326, which includes deferred taxes of $1.58 million. The transition adjustment includes a $2.75 million increase to the Allowance for Credit Losses and the recording of a $3.58 million Allowance for Credit Losses on OBS Credit Exposures.

The following table illustrates the impact of ASC 326 (amounts in thousands).


		January 1, 2021							January 1, 2021
		As Reported Under ASC 326		Pre-ASC 326 Adoption		Impact of ASC 326 Adoption			As Reported Under ASC 326		Pre-ASC 326 Adoption		Impact of ASC 326 Adoption
Assets:	Assets:							Assets:
Loans	Loans							Loans
Allowance for credit losses on loans	Allowance for credit losses on loans	$	39,816	$	37,070	$	2,746	Allowance for credit losses on loans	$	39,816	$	37,070	$	2,746

Liabilities:	Liabilities:							Liabilities:
Allowance for credit losses on off-balance sheet credit exposures	Allowance for credit losses on off-balance sheet credit exposures	$	3,584	$	0	$	3,584	Allowance for credit losses on off-balance sheet credit exposures	$	3,584	$	—	$	3,584

Available-For-Sale Debt Securities and the Allowance For Credit Losses On Available-For-Sale Debt Securities: Debt securities that we might not hold until maturity are classified as available for sale ("AFS") and are reported at the fair value in the balance sheet. Fair value measurement is based upon quoted market prices in active markets, if available. If quoted prices in active markets are not available, fair value is measured using pricing models or other model-based valuation techniques such as present value of future cash flows, which consider prepayment assumptions and other factors such as credit losses and market liquidity. Unrealized gains and losses are excluded from earnings and reported, net of tax, in other comprehensive income ("OCI"). Purchase premiums and discounts are recognized in interest income using the effective interest method over the life of the securities. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

AFS debt securities in unrealized loss positions are evaluated for impairment related to credit losses at least quarterly. For AFS debt securities, a decline in fair value due to credit loss results in recording an allowance for credit losses to the extent the fair value is less than the amortized cost basis. Declines in fair value that have not been recorded through an allowance for credit losses, such as declines due to changes in market interest rates, are recorded through other comprehensive income, net of applicable taxes.

Impairment may result from credit deterioration of the issuer or collateral underlying the security. In performing an assessment of whether any decline in fair value is due to a credit loss, all relevant information is considered at the individual security level. For asset-backed securities performance indicators considered related to the underlying assets include default rates, delinquency rates, percentage of nonperforming assets, debt-to-collateral ratios, third-party guarantees, current levels of subordination, vintage, geographic concentration, analyst reports and forecasts, credit ratings and other market data. In assessing whether a credit loss exists, we compare the present value of cash flows expected to be collected from the security with the amortized cost basis of the security. If the present value of cash flows expected to be collected is less than the amortized cost basis for the security, a credit loss exists and an allowance for credit losses is recorded, limited to the amount the fair value is less than amortized cost basis.

If we intend to sell a debt security or more likely than not we will be required to sell the security before recovery of its amortized cost basis, the debt security is written down to its fair value and the write down is charged against the allowance for credit losses with any incremental impairment reported in earnings.

Accrued interest receivable on AFS debt securities totaled ~~$2.07~~$2.18 million at ~~March 31,~~September 30, 2021 and is excluded from the estimate of credit losses.

Allowance for Credit Losses on Tax Credit Real Estate Investments: On a regular basis, the Company evaluates recoverability of the carrying value of the tax credit real estate investments to determine if an allowance for credit losses is necessary. The

~~Page 12~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

allowance for credit losses is measured by a comparison of the carrying amount of the investments to the future undiscounted

Page 13

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

cash flows expected to be generated by the investment properties, including the low-income housing tax credits and any estimated proceeds from eventual disposition. If there is an indication of impairment, the allowance for credit losses would be established with a charge to credit loss expense. There were no indications of impairment based on management's evaluation and therefore no allowance for credit losses was determined necessary as of ~~March 31,~~September 30, 2021.

Loans Held for Sale: Loans held for sale are stated at the lower of aggregate cost or estimated fair value. Loans are sold on a non-recourse basis with servicing released and gains and losses are recognized based on the difference between sales proceeds and the carrying value of the loan. The Company has had very few experiences of repurchasing loans previously sold into the secondary market. A specific reserve was not considered necessary based on the Company’s historical experience with repurchase activity.

Loans Held For Investment: Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at amortized cost net of the allowance for credit losses. Amortized cost is the principal balance outstanding, net of deferred loan fees and costs. Accrued interest receivable on loans held for investment totaled ~~$10.46~~$10.13 million at ~~March 31,~~September 30, 2021 and is excluded from the estimate of credit losses. Interest income is accrued on the unpaid principal balance. Nonrefundable loan fees and origination costs are deferred and recognized as a yield adjustment over the life of the related loan.

The policy for charging off loans is consistent throughout all loan categories. A loan is charged off based on criteria that includes but is not limited to: delinquency status, financial condition of the entire customer credit line and underlying collateral coverage, economic or external conditions that might impact full repayment of the loan, legal issues, overdrafts, and the customer’s willingness to work with the Company.

The accrual of interest income on loans is discontinued when, in the opinion of management, there is reasonable doubt as to the

borrower's ability to meet payments of interest or principal when they become due, which is generally when a loan is 90 days or

more past due unless the loan is well secured and in the process of collection. When a loan is placed on nonaccrual status, all previously accrued and unpaid interest is reversed against interest income. Loans are returned to an accrual status when all of the principal and interest amounts contractually due are brought current and repayment of the remaining contractual principal and interest is expected. A loan may also return to accrual status if additional collateral is received from the borrower and, in the opinion of management, the financial position of the borrower indicates that there is no longer any reasonable doubt as to the collection of the amount contractually due. Payment received on nonaccrual loans are applied first to principal. Once principal is recovered, any remaining payments received are applied to interest income.

A loan is accounted for and reported as a troubled debt restructuring ("TDR") when, for economic or legal reasons, we grant a concession to a borrower experiencing financial difficulty that we would not otherwise consider. These concessions may include rate reductions, principal forgiveness, extension of maturity date and other actions intended to minimize potential losses to the Company. A restructuring that results in only an insignificant delay in payment is not considered a concession. A delay may be considered insignificant if the payments subject to the delay are insignificant relative to the unpaid principal or collateral value and the contractual amount due, or the delay in timing of the restructured payment period is insignificant relative to the frequency of payments, the debt's original contractual maturity or original expected duration.

TDRs that are performing and on accrual status as of the date of the modification remain on accrual status. TDRs that are nonperforming as of the date of modification generally remain as nonaccrual until the prospect of future payments in accordance with the modified loan agreement is reasonably assured, generally demonstrated when the borrower maintains compliance with the restructured terms for a predetermined period, normally at least six months. TDRs with temporary below-market concessions remain designated as a TDR regardless of the accrual or performance status until the loan is paid off. However, if the TDR loan has been modified in a subsequent restructure with market terms and the borrower is not currently experiencing financial difficulty, then the loan may be de-designated as a TDR. Management evaluates loans where there is a reasonable expectation at the reporting date that a troubled debt restructuring will be executed with an individual borrower for purposes of estimating the allowance for credit losses.

Section 4013 of the Coronavirus Aid, Relief and Economic Security (CARES) Act, “Temporary Relief From Troubled Debt Restructurings,” allows financial institutions the option to temporarily suspend certain requirements under GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. In March 2020, various regulatory agencies, including the FRB and the FDIC, issued an interagency statement, effective immediately, on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The agencies confirmed with the staff of the FASB that short-term

Page 1314

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not to be considered TDRs. This includes short-term (e.g., six months) modifications, such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. See Note 5 for further discussion.

Allowance for Credit Losses For Loans Held For Investment: Credit quality within the loans held for investment portfolio is continuously monitored by management and is reflected within the allowance for credit losses for loans. The allowance for credit losses is an estimate of expected losses inherent within the Company's existing loans held for investment portfolio. Expected credit loss inherent in non-cancelable off-balance-sheet credit exposures is accounted for as a separate liability on the balance sheet. The allowance for credit losses for loans held for investment, as reported in our consolidated balance sheet, is adjusted by a credit loss expense, which is reported in earnings, and reduced by the charge-off of loan amounts, net of recoveries.

The loan loss estimation process involves procedures to appropriately consider the unique characteristics of loan portfolio segments which consist of agricultural, 1 to 4 family first and junior liens, commercial, and consumer lending. These segments are further disaggregated into loan classes, the level at which credit risk is monitored. When computing allowance levels, credit loss assumptions are estimated using a model that categorizes loan pools based on loss history, delinquency status and other credit trends and risk characteristics, including current conditions and reasonable and supportable forecasts about the future. The key components in this estimation process include the following:

•An initial forecast period of one year for all portfolio segments and OBS credit exposures. This period reflects management's expectation of losses based on forward-looking economic scenarios over that time.

•A historical loss forecast period covering the remaining contractual life, adjusted for prepayments, by portfolio segment based on the change in key historical economic variables.

•A reversion period of up to 3 years connecting the initial loss forecast to the historical loss forecast based on economic conditions at the measurement date.

•We primarily utilize the discounted cash flow (DCF) method to estimate credit losses by portfolio segment. The DCF methods obtain estimated life-time credit losses using the conceptual components described above. The exceptions being for the credit card and overdraft portfolios which ~~will~~ utilize a remaining life methodology to estimate credit losses.

Determining the appropriateness of the allowance is complex and requires judgment by management about the effect of matters that are inherently uncertain. In future periods evaluations of the overall loan portfolio, in light of the factors and forecasts then prevailing, may result in significant changes in the allowance and credit loss expense in those future periods.

Credit quality is assessed and monitored by evaluating various attributes and the results of those evaluations are utilized in underwriting new loans and in our process for estimation of expected credit losses. The following provides the credit quality indicators and risk elements that are most relevant and most carefully considered and monitored for each loan portfolio segment.

Agricultural - Agricultural operating loans include loans made to finance agricultural production and other loans to farmers and farming operations. Agricultural loans also include mortgage loans secured by farmland. Agricultural operating 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 operating loans is dependent upon the profitable operation or management of the agricultural entity. Agricultural operating loans generally have a term of one year and may have a fixed or variable rate.

Mortgage loans secured by farmland are made to individuals and businesses within the Company'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. Key economic forecasts used in estimating expected credit losses for this segment include the Iowa unemployment rate and the national real gross domestic product (GDP).

1 to 4 Family First and Junior Liens - The 1 to 4 family first and junior liens portfolio segment is comprised of the single family and home equity loan classes, which are underwritten after evaluating a borrower's capacity to repay, credit, and collateral. Several factors are considered when assessing a borrower's capacity, including the borrower's employment, income,

Page 1415

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

~~collateral. Several factors are considered when assessing a borrower's capacity, including the borrower's employment, income,~~ current debt, assets, and level of equity in the property. Credit refers to how well a borrower manages their current and prior debts as documented by a credit report that provides credit scores and the borrower's current and past information about their credit history. Collateral refers to the type and use of property, occupancy, and market value. Property appraisals are obtained to assist in evaluating collateral. Loan-to-property value and debt-to-income ratios, loan amount, and lien position are also considered in assessing whether to originate a loan. These borrowers are particularly susceptible to downturns in economic trends such as conditions that negatively affect housing prices and demand and levels of unemployment. Key economic forecasts used in estimating expected credit losses for this segment include the Iowa unemployment rate and the all-transactions house price index for Iowa.

Commercial - The commercial loan portfolio segment is comprised of the commercial real estate mortgage, multifamily residential mortgage, construction/land development and commercial and financial loan classes, whose underwriting standards consider the factors described for single family and home equity loan classes as well as others when assessing the borrower's and associated guarantors or other related party's financial position. These other factors include assessing liquidity, the level and composition of net worth, leverage, considering all other lender amounts and position, an analysis of cash expected to flow through the obligors including the outflow to other lenders, vacancies and prior experience with the borrower. This information is used to assess adequate financial capacity, profitability, and experience. Ultimate repayment of these loans is sensitive to interest rate changes, general economic conditions, liquidity, and availability of long-term financing. Key economic forecasts used in estimating expected credit losses for this segment include the Iowa unemployment rate, the all-transactions house price index for Iowa, the ~~national and~~ Iowa real ~~GDPs~~GDP and the commercial real estate price index (for commercial real estate).

Consumer Lending - The Bank offers consumer loans to individuals including personal loans and automobile loans. These consumer loans typically have shorter terms, lower balances, higher yields and higher risks of default than real estate-related loans. Consumer loans collections are dependent on the borrower's continuing financial stability and are more likely to be affected by adverse personal circumstances. Collateral for these loans generally includes automobiles, boats, recreational vehicles and real estate. However, depending on the overall financial condition of the borrower, some loans are made on an unsecured basis. The collateral securing these loans may depreciate over time, may be difficult to recover and may fluctuate in value based on condition. Key economic forecasts used in estimating expected credit losses for this segment include the Iowa unemployment rate and the Iowa real GDP.

Determining the Contractual Term: Expected credit losses are estimated over the contractual term of the loans, adjusted for expected prepayments when appropriate. The contractual term excludes expected extensions, renewals and modifications unless either of the following applies: management has a reasonable expectation at the reporting date that a troubled debt restructuring will be executed with an individual borrower or the extension or renewal options are included in the original or modified contract at the reporting date and are not unconditionally cancellable by the Company.

Credit Loss Measurement: The allowance level is influenced by loan volumes, loan credit quality indicator migration or delinquency status, historic loss experience and other conditions influencing loss expectations, such as reasonable and supportable forecasts of economic conditions. The methodology for estimating the amount of expected credit losses reported in the allowance for credit losses 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.

For a loan that does not share risk characteristics with other loans, expected credit loss is measured based on net realizable value, that is, the difference between the discounted value of the expected future cash flows, based on the original effective interest rate, and the amortized cost basis of the loan. For these loans, we recognize expected credit loss equal to the amount by which the net realizable value of the loan is less than the amortized cost basis of the loan (which is net of previous charge- offs and deferred loan fees and costs), except when the loan is collateral dependent, that is, when the borrower is experiencing financial difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. In these cases, expected credit loss is measured as the difference between the amortized cost basis of the loan and the fair value of the 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.

The fair value of collateral used by the Company is determined by obtaining an observable market price or by obtaining an appraised value from an independent, licensed or certified appraiser, using observable market data. This data includes information such as selling price of similar properties and capitalization rates of similar properties sold within the market,

~~Page 15~~

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~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

expected future cash flows or earnings of the subject property based on current market expectations, and other relevant factors.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

All appraised values are adjusted for market-related trends based on the Company's experience in sales and other appraisals of similar property types as well as estimated selling costs. Each quarter management reviews all collateral-dependent loans on a loan-by-loan basis to determine whether updated appraisals are necessary based on loan performance, collateral type and guarantor support. At times, the Company measures the fair value of collateral-dependent loans using appraisals with dates prior to one year from the date of review. These appraisals are discounted by applying current, observable market data about similar property types such as sales contracts, estimations of value by individuals familiar with the market, other appraisals, sales or collateral assessments based on current market activity until updated appraisals are obtained. Depending on the length of time since an appraisal was performed, the data provided through reviews and estimated selling costs, collateral values are typically discounted by 0-35%. The use of an appraisal that exceeds twelve months needs approval by the credit underwriting department. Third-party appraisals are obtained from a pre-approved list of independent, third-party, local appraisal firms maintained by the credit underwriting department. Approval and addition to the list is based on experience, reputation, character, consistency and knowledge of the respective real estate market. Generally, appraisals are internally reviewed by the credit underwriting department to ensure the quality of the appraisal and the expertise and independence of the appraiser. Once the expected credit loss amount is determined an allowance is provided for equal to the calculated expected credit loss and included in the allowance for credit losses. If the calculated expected credit loss is determined to be permanent or not recoverable, the amount of expected credit loss will be charged off. Factors considered by management in determining if the expected credit loss is permanent or not recoverable include whether management judges the loan to be uncollectible, repayment is deemed to be protracted beyond reasonable time frames, or the loss becomes evident owing to the borrower's lack of assets or, for single family loans, the loan is 90 days or more past due unless both well-secured and in the process of collection.

In estimating the component of the allowance for credit losses for loans that share similar risk characteristics with other loans, such 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. In determining the allowance for credit losses, we derive an estimated credit loss assumption from a model that categorizes loan pools based on loan type and purpose. This model calculates an expected loss percentage for each loan class by considering the probability of default, using life-of-loan analysis periods for all loan segments, and the historical severity of loss, based on the aggregate net lifetime losses incurred per loan class. The default and severity factors used to calculate the allowance for credit losses for loans that share similar risk characteristics with other loans are adjusted 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: (1) lending policies and procedures; (2) international, national, regional and local economic business conditions and developments that affect the collectability of the portfolio; (3) the nature and volume of the loan portfolio including the terms of the loans; (4) the experience, ability, and depth of the lending management and other relevant staff; (5) the volume and severity of past due and adversely classified or graded loans and the volume of nonaccrual loans; (6) the quality of our loan review system and (7) the value of underlying collateral for collateralized loans. Additional factors include the existence and effect of any concentrations of credit, and changes in the level of such concentrations and the effect of external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in the existing portfolio. 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.

Credit card receivables do not have stated maturities. In determining the estimated life of a credit card receivable, management first estimates the future cash flows expected to be received and then applies those expected future cash flows to the credit card balance. Expected credit losses for credit cards are determined through use of the remaining life method. The remaining life method utilizes average annual charge-off rates and remaining life to estimate the allowance for credit losses. This is done by estimating the amount and timing of principal payments expected to be received as payment for the balance outstanding as of the reporting period and applying those principal payments against the balance outstanding as of the reporting period along with the average annual charge-off rate until the expected payments have been fully allocated.

Allowance for Credit Losses on Off-Balance Sheet Credit Exposures, Including Unfunded Loan Commitments: The Company maintains a separate allowance for credit losses from off-balance-sheet credit exposures, including unfunded loan commitments, which is disclosed on the balance sheet. Management estimates the amount of expected losses by calculating a commitment usage factor over the contractual period for exposures that are not unconditionally cancellable by the Company and applying the loss factors used in the allowance for loan loss methodology to the results of the usage calculation to estimate

~~Page 16~~

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~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

the liability for credit losses related to unfunded commitments for each loan type. No credit loss estimate is reported for ~~off-balance-sheet~~off-

Page 17

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

balance-sheet credit exposures that are unconditionally cancelable by the Company, such as credit card receivables, or for undrawn amounts under such arrangements that may be drawn prior to the cancellation of the arrangement. The allowance for credit losses on OBS credit exposures is adjusted as a provision for credit loss expense. Categories of OBS credit exposures correspond to the loan portfolio segments described previously.

Effect of New Financial Accounting Standards:

In ~~January 2017, the FASB issued ASU No. 2017-04, Intangibles - Goodwill and Other (Topic 250),~~ ~~Simplifying the Test for Goodwill Impairment.~~ The ASU simplifies the goodwill impairment test by requiring a company to perform its annual or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized when the carrying amount exceeds fair value. For public companies, ASU 2017-04 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The adoption of ASU No. 2017-04 by the Company on January 1, 2020 did not have a material impact on the financial statements.

~~In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820),~~ ~~Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement~~. The amendments in this ASU modify the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement, including removal of the requirement to disclose the valuation processes for Level 3 fair value measurements and the additional requirement to disclose the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. ASU 2018-13 is effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption. All other amendments should be applied retrospectively to all periods presented upon their effective date. Early adoption is permitted upon issuance of this ASU. An entity is permitted to early adopt any removed or modified disclosures upon issuance of this ASU and delay adoption of the additional disclosures until their effective date. The adoption of ASU 2018-13 by the Company on January 1, 2020 did not have

~~a material impact on the financial statements.~~

~~In August 2018, the FASB issued ASU No. 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40),~~ ~~Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract~~. The amendments in this ASU align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). ASU 2018-15 is effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Early adoption of the amendments in this ASU is permitted, including adoption in any interim period, for all entities. The amendments in this ASU should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. The adoption of ASU 2018-15 by the Company on January 1, 2020 did not have a material impact on the

~~financial statements.~~

In December 2019, the ~~FASB~~Financial Accounting Standards Board (FASB) issued ~~ASU~~Accounting Standards Update (ASU) No. 2019-12, Income Taxes (Topic 740), Simplifying the Accounting for Income Taxes. The amendments in this ASU simplify the accounting for income taxes by removing specific exceptions included in Topic 740, introducing other simplifications and making technical corrections. For public business entities, the amendments in this ASU are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. Early adoption is permitted. The adoption of ASU ~~2018-15~~2019-12 by the Company on January 1, 2021 did not have a material impact on the

financial statements.

In October 2020, the FASB issued ASU 2020-08, Codification Improvements to Subtopic 310-20, Receivables - Nonrefundable Fees and Other Costs. The amendments in this Update clarify that an entity should reevaluate whether a callable debt security is within the scope of paragraph 310-20-35-33 for each reporting period. For each reporting period, to the extent that the amortized cost basis of an individual callable debt security exceeds the amount repayable by the issuer at the next call date, the excess (that is, the premium) shall be amortized to the next call date, unless the guidance in paragraph 310-20-35-26 is applied to consider estimated prepayments. For public business entities, the amendments in this Update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. Early application is not permitted. The adoption of the ASU by the Company on January 1, 2021 did not have a material impact on the financial statements.

~~Page 17~~

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~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

In October 2020, the FASB issued ASU 2020-10, Codification Improvements, which consists of two sections. The first applicable section contains amendments that improve the consistency of the Codification by including all disclosure guidance in

the appropriate disclosure section and provide the option to give certain information either on the face of the financial statements or in the notes to the financial statements. The second section contains Codification improvements that vary in nature. The amendments in this Update do not change GAAP and, therefore, are not expected to result in a significant change in practice. For public business entities, these amendments are effective for annual periods beginning after December 15, 2020. The adoption of the ASU by the Company on January 1, 2021 did not have a material impact on the financial statements.

In May 2021, the FASB issued ASU 2021-04, Earnings Per Share (Topic 260), Debt-Modifications and Extinguishments (Subtopic 470-50), Compensation-Stock Compensation (Topic 718), and Derivatives and Hedging-Contracts in Entity's Own Equity (Subtopic 815-40), Issuer's Accounting for Certain Modifications or Exchanges of Freestanding Equity-Classified Written Call Options. The amendments in this ASU affect entities that issue freestanding written call options that are classified in equity. Specifically, the amendments affect those entities when a freestanding equity-classified written call option is modified or exchanged and remains equity classified after the modification or exchange. An entity should recognize the effect of a modification or an exchange of a freestanding equity-classified written call option to compensate for goods or services in accordance with the guidance in Topic 718, Compensation-Stock Compensation. The amendments in this ASU are effective for all entities for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years. An entity should apply the amendments prospectively to modifications or exchanges occurring on or after the effective date of the amendments. The Company is in the process of evaluating the impact of this ASU on the financial statements.

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(Unaudited)

Note 2.Earnings Per Share

Basic earnings per share is computed using the weighted average number of actual common shares outstanding during the period. Diluted earnings per share reflects the potential dilution that would occur from the exercise of common stock options outstanding. ESOP shares are considered outstanding for this calculation unless unearned.

The computation of basic and diluted earnings per share for the periods presented is as follows:


		Three Months Ended March 31,				Three Months Ended September 30,		Nine Months Ended September 30,
		March 31, 2021		March 31, 2020				2021		2020		2021		2020
Common shares outstanding at the beginning of the period	Common shares outstanding at the beginning of the period	9,330,995		9,351,694			Common shares outstanding at the beginning of the period	9,306,252		9,364,062		9,330,995		9,351,694
Weighted average number of net shares (redeemed) issued	Weighted average number of net shares (redeemed) issued	(7,222)		46,232			Weighted average number of net shares (redeemed) issued	(7,539)		(7,765)		(21,234)		28,137
Weighted average shares outstanding (basic)	Weighted average shares outstanding (basic)	9,323,773		9,397,926			Weighted average shares outstanding (basic)	9,298,713		9,356,297		9,309,761		9,379,831
Weighted average of potential dilutive shares attributable to stock options granted, computed under the treasury stock method	Weighted average of potential dilutive shares attributable to stock options granted, computed under the treasury stock method	3,480		3,754			Weighted average of potential dilutive shares attributable to stock options granted, computed under the treasury stock method	3,731		3,592		3,605		3,673
Weighted average number of shares (diluted)	Weighted average number of shares (diluted)	9,327,253		9,401,680			Weighted average number of shares (diluted)	9,302,444		9,359,889		9,313,366		9,383,504
Net income (In thousands)	Net income (In thousands)	$	15,197	$	7,075		Net income (In thousands)	$	13,125	$	11,430	$	41,932	$	30,216
Earnings per share:	Earnings per share:						Earnings per share:
Basic	Basic	$	1.63	$	0.75		Basic	$	1.41	$	1.22	$	4.50	$	3.22
Diluted	Diluted	$	1.63	$	0.75		Diluted	$	1.41	$	1.22	$	4.50	$	3.22

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Note 3.Accumulated Other Comprehensive Income

The following table summarizes the balances of each component of accumulated other comprehensive income (AOCI), included in stockholders’ equity, at ~~March 31,~~September 30, 2021 and December 31, 2020:


		March 31, 2021		December 31, 2020			September 30, 2021		December 31, 2020
		(amounts in thousands)					(amounts in thousands)
Net unrealized gain on available-for-sale securities	Net unrealized gain on available-for-sale securities	$	8,000	$	11,702	Net unrealized gain on available-for-sale securities	$	5,685	$	11,702

Tax effect	Tax effect	$	(1,996)	$	(2,920)	Tax effect	(1,418)		(2,920)
Net-of-tax amount	Net-of-tax amount	$	6,004	$	8,782	Net-of-tax amount	$	4,267	$	8,782

Note 4.Securities

The carrying values of investment securities at ~~March 31,~~September 30, 2021 and December 31, 2020 are summarized in the following table (dollars in thousands):


		March 31, 2021				December 31, 2020					September 30, 2021				December 31, 2020
		Amount		Percent		Amount		Percent			Amount		Percent		Amount		Percent
Securities available for sale	Securities available for sale									Securities available for sale
U.S. Treasury	U.S. Treasury	$	167,719	38.67	%	$	148,646	36.40	%	U.S. Treasury	$	221,414	44.17	%	$	148,646	36.40	%
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	37,422		8.63		35,160		8.61		Other securities (FHLB, FHLMC and FNMA)	34,891		6.96		35,160		8.61
State and political subdivisions	State and political subdivisions	228,572		52.70		224,566		54.99		State and political subdivisions	235,207		46.92		224,566		54.99
Mortgage-backed securities and collateralized mortgage obligations										Mortgage-backed securities and collateralized mortgage obligations	9,753		1.95		—		—
Total securities available for sale	Total securities available for sale	$	433,713	100.00	%	$	408,372	100.00	%	Total securities available for sale	$	501,265	100.00	%	$	408,372	100.00	%

Investment securities have been classified in the consolidated balance sheets according to management’s intent. Available-for-sale securities consist of debt securities not classified as trading or held to maturity. Available-for-sale securities are stated at fair value, and unrealized holding gains and losses, net of the related deferred tax effect, are reported as a separate component of stockholders' equity. Municipal bonds are comprised of general obligation bonds and revenue bonds issued by various municipal corporations. As of ~~March 31,~~September 30, 2021 and December 31, 2020, all securities held were rated investment grade based upon external ratings where available and, where not available, based upon management knowledge of the local issuers and their financial situations. There were no trading or held to maturity securities as of ~~March 31,~~September 30, 2021 or December 31, 2020. ~~The carrying amount of available-for-sale securities, fair values and allowance for credit losses were as follows as of March 31, 2021 and December 31, 2020 (in thousands):~~

Amortized Cost Gross
Unrealized
Gains Gross
Unrealized
(Losses) Allowance for Credit Losses Estimated Fair
Value
March 31, 2021
U.S. Treasury $ 163,616 $ 4,392 $ (289) $ 0 $ 167,719
Other securities (FHLB, FHLMC and FNMA) 37,926 3 (507) 0 37,422
State and political subdivisions 224,171 5,161 (760) 0 228,572
Total $ 425,713 $ 9,556 $ (1,556) $ 0 $ 433,713
December 31, 2020:
U.S. Treasury $ 143,467 $ 5,179 $ 0 $ 0 $ 148,646
Other securities (FHLB, FHLMC and FNMA) 35,195 35 (70) 0 35,160
State and political subdivisions 218,008 6,674 (116) 0 224,566
Total $ 396,670 $ 11,888 $ (186) $ 0 $ 408,372

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The carrying amount of available-for-sale securities, fair values and allowance for credit losses were as follows as of September 30, 2021 and December 31, 2020 (in thousands):


	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)		Allowance for Credit Losses		Estimated Fair Value
September 30, 2021
U.S. Treasury	$	219,281	$	3,065	$	(932)	$	—	$	221,414
Other securities (FHLB, FHLMC and FNMA)	35,377		—		(486)		—		34,891
State and political subdivisions	231,120		5,160		(1,073)		—		235,207
Mortgage-backed securities and collateralized mortgage obligations	9,802		—		(49)		—		$	9,753
Total	$	495,580	$	8,225	$	(2,540)	$	—	$	501,265
December 31, 2020:
U.S. Treasury	$	143,467	$	5,179	$	—	$	—	$	148,646
Other securities (FHLB, FHLMC and FNMA)	35,195		35		(70)		—		35,160
State and political subdivisions	218,008		6,674		(116)		—		224,566
Total	$	396,670	$	11,888	$	(186)	$	—	$	408,372

The amortized cost and estimated fair value of available-for-sale securities classified according to their contractual maturities at ~~March 31,~~September 30, 2021, were as follows (in thousands): below. Expected maturities of MBS may differ from contractual maturities because the mortgages underlying the securities may be called or prepaid without any penalties. Therefore, these securities are not included in the maturity categories in the following summary.


		Amortized Cost		Fair Value			Amortized Cost		Fair Value
Due in one year or less	Due in one year or less	$	64,447	$	64,709	Due in one year or less	$	51,863	$	52,206
Due after one year through five years	Due after one year through five years	248,112		252,817		Due after one year through five years	270,805		273,962
Due after five years through ten years	Due after five years through ten years	84,990		88,381		Due after five years through ten years	118,465		120,965
Due over ten years	Due over ten years	28,164		27,806		Due over ten years	44,645		44,379
Total		$	425,713	$	433,713
							$	485,778	$	491,512
Mortgage-backed securities and collateralized mortgage obligations						Mortgage-backed securities and collateralized mortgage obligations	9,802		9,753
							$	495,580	$	501,265

As of ~~March 31,~~September 30, 2021 investment securities with a carrying value of ~~$10.17~~$10.14 million were pledged to collateralize other borrowings. As of ~~March 31,~~September 30, 2021, there were no holdings of securities of any one issuer, other than the U.S. government and its agencies, in an amount greater than 10% of stockholders' equity.

There were no sales of available-for-sale securities for the three months ended ~~March 31, 2021.~~September 30, 2021 and 2020. Sales proceeds and gross realized gains and losses on available-for-sale securities were as follows for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020 (in thousands):


	September 30, 2021		~~March 31,~~September 30, 2020
Sales proceeds	$	—	$	313
Gross realized gains	—		10
Gross realized losses	—		0—

Page 21

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The following table shows the fair value, gross unrealized losses and the percentage of fair value represented by gross unrealized losses of applicable investment securities owned by the Company, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at ~~March 31,~~September 30, 2021 and December 31, 2020 (in thousands):


		Less than 12 months							12 months or more							Total											Less than 12 months											12 months or more											Total
March 31, 2021 Description of Securities		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss				%
September 30, 2021 Description of Securities																					September 30, 2021 Description of Securities	#				Fair Value		Unrealized Loss			%			#			Fair Value		Unrealized Loss			%			#			Fair Value		Unrealized Loss			%
U.S. Treasury	U.S. Treasury	16	$	40,770	$	(289)	0.71	%	0	$	0	$	0	0	%	16	$	40,770	$	(289)			0.71	%	U.S. Treasury		41		$	103,163		$	(932)		0.90	%		—		$	—		$	—		—	%		41		$	103,163		$	(932)	0.90	%

Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	14	34,919		(507)		1.45		0	0		0		0		14	34,919		(507)				1.45		Other securities (FHLB, FHLMC and FNMA)		8		20,059			(265)			1.32			6		14,832			(221)			1.49			14		34,891			(486)		1.39

State and political subdivisions	State and political subdivisions	132	57,326		(754)		1.32		4	364		(6)		1.65		136	57,690		(760)				1.32		State and political subdivisions		189		65,805			(1,038)			1.58			10		1,915			(35)			1.83			199		67,720			(1,073)		1.58

Mortgage-backed securities and collateralized mortgage obligations																					Mortgage-backed securities and collateralized mortgage obligations	4				9,753		(49)			0.50			—			—		—			—			4			9,753		(49)			0.50

Total temporarily impaired securities	Total temporarily impaired securities	162	$	133,015	$	(1,550)	1.17	%	4	$	364	$	(6)	1.65	%	166	$	133,379	$	(1,556)			1.17	%	Total temporarily impaired securities		242		$	198,780		$	(2,284)		1.15	%		16		$	16,747		$	(256)		1.53	%		258		$	215,527		$	(2,540)	1.18	%

~~Page 20~~

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~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~


		Less than 12 months							12 months or more							Total								Less than 12 months							12 months or more							Total
December 31, 2020 Description of Securities	December 31, 2020 Description of Securities	#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%		December 31, 2020 Description of Securities	#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%
U.S. Treasury	U.S. Treasury	0	$	0	$	0	0	%	0	$	0	$	0	0	%	0	$	0	$	0	0	%	U.S. Treasury	—	$	—	$	—	—	%	—	$	—	$	—	—	%	—	$	—	$	—	—	%

Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	8	20,019		(70)		0.35		0	0		0		0		8	20,019		(70)		0.35		Other securities (FHLB, FHLMC and FNMA)	8	20,019		(70)		0.35		—	—		—		—		8	20,019		(70)		0.35

State and political subdivisions	State and political subdivisions	35	14,168		(110)		0.78		4	370		(6)		1.62		39	14,538		(116)		0.80		State and political subdivisions	35	14,168		(110)		0.78		4	370		(6)		1.62		39	14,538		(116)		0.80

Total temporarily impaired securities	Total temporarily impaired securities	43	$	34,187	$	(180)	0.53	%	4	$	370	$	(6)	1.62	%	47	$	34,557	$	(186)	0.54	%	Total temporarily impaired securities	43	$	34,187	$	(180)	0.53	%	4	$	370	$	(6)	1.62	%	47	$	34,557	$	(186)	0.54	%

The Company considered the following information in reaching the conclusion that the impairments disclosed in the table above are temporary and not other-than-temporary impairments. None of the unrealized losses in the above table was due to the deterioration in the credit quality of any of the issues that might result in the non-collection of contractual principal and interest. The unrealized losses are due to changes in interest rates. The Company has not recognized any unrealized loss in income because management does not have the intent to sell the securities included in the previous table. Management has concluded that it is more likely than not that the Company will not be required to sell these securities prior to recovery of the amortized cost basis. The securities are of high credit quality (investment grade credit ratings) and principal and interest payments are made timely with no payments past due as of ~~March 31,~~September 30, 2021. The fair value is expected to recover as the securities approach maturity. The U.S. Treasury and other securities are issued and guaranteed by U.S. government-sponsored entities and agencies. The mortgage-backed securities and collateralized mortgage obligations have implied U.S. government guarantees of the agency securities. The Company evaluates if a credit loss exists by monitoring to ensure it has adequate credit support considering the nature of the investment, number and significance of investments in an unrealized loss position, ~~collectibility~~collectability or delinquency issues, the underlying financial statements of the issuers, credit ratings and subsequent changes thereto, and other available relevant information. Considering the above factors and total unrealized losses being insignificant

Page 22

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

as of ~~March 31,~~September 30, 2021, management has determined that no allowance for credit losses is necessary for the securities portfolio as of ~~March 31,~~September 30, 2021.

~~Page 21~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

Note 5.Loans

Classes of loans are as follows:


		March 31, 2021		December 31, 2020			September 30, 2021		December 31, 2020
		(Amounts In Thousands)					(Amounts In Thousands)
Agricultural	Agricultural	$	96,042	$	94,842	Agricultural	$	94,210	$	94,842
Commercial and financial	Commercial and financial	281,337		286,242		Commercial and financial	228,181		286,242
Real estate:	Real estate:					Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	73,162		71,117		Construction, 1 to 4 family residential	73,167		71,117
Construction, land development and commercial	Construction, land development and commercial	110,850		111,913		Construction, land development and commercial	118,623		111,913
Mortgage, farmland	Mortgage, farmland	246,665		247,142		Mortgage, farmland	241,650		247,142
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	876,585		892,089		Mortgage, 1 to 4 family first liens	898,333		892,089
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	119,794		127,833		Mortgage, 1 to 4 family junior liens	115,308		127,833
Mortgage, multi-family	Mortgage, multi-family	376,867		374,014		Mortgage, multi-family	389,805		374,014
Mortgage, commercial	Mortgage, commercial	413,964		417,139		Mortgage, commercial	410,050		417,139
Loans to individuals	Loans to individuals	30,070		31,325		Loans to individuals	32,235		31,325
Obligations of state and political subdivisions	Obligations of state and political subdivisions	54,788		56,488		Obligations of state and political subdivisions	52,299		56,488
		$	2,680,124	$	2,710,144		$	2,653,861	$	2,710,144
Net unamortized fees and costs	Net unamortized fees and costs	1,071		938		Net unamortized fees and costs	927		938
		$	2,681,195	$	2,711,082		$	2,654,788	$	2,711,082
Less allowance for credit losses (2021) and loan losses (2020)	Less allowance for credit losses (2021) and loan losses (2020)	36,620		37,070		Less allowance for credit losses (2021) and loan losses (2020)	35,590		37,070
		$	2,644,575	$	2,674,012		$	2,619,198	$	2,674,012

As of ~~March 31,~~September 30, 2021 and December 31, 2020, the Company has outstanding balances of ~~$82.35~~$24.55 million and $86.50 million, respectively, of loans issued under the Paycheck Protection Program (PPP) and ~~$3.45~~$0.33 million and $2.12 million, respectively, of deferred PPP loan fees recorded with commercial and financial loans. For the ~~three~~nine months ended ~~March 31,~~September 30, 2021, the Company has recognized ~~$1.88~~$5.48 million of deferred PPP loan fees in interest income and has received total forgiveness payments ~~totaling $90.31~~of $160.48 million from the SBA. For the ~~three~~nine months ended ~~March 31,~~September 30, 2020, there were 0$1.26 million PPP loan fees recognized and 0 forgiveness payments received from the SBA.

Page 2223

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Changes in the allowance for credit losses, the allowance for credit losses applicable to individually evaluated loans and the related loan balance of individually evaluated loans for the three and nine months ended ~~March 31,~~September 30, 2021 were as follows:

Three Months Ended March 31, 2021
Agricultural Commercial and
Financial Real Estate:
Construction and
land development Real Estate:
Mortgage,
farmland Real Estate:
Mortgage, 1 to 4
family Real Estate:
Mortgage, multi-
family and
commercial Other Total
(Amounts In Thousands)
Allowance for credit losses:
Beginning balance, prior to adoption of ASC 326 $ 2,508 $ 4,885 $ 2,319 $ 4,173 $ 12,368 $ 9,415 $ 1,402 $ 37,070
Impact of adopting ASC 326 (328) 298 327 763 522 1,396 (232) 2,746
Charge-offs 0 (30) 0 0 (75) 0 (66) (171)
Recoveries 32 234 34 0 239 139 37 715
Credit loss expense (65) (273) (392) (268) (1,558) (1,329) 145 (3,740)
Ending balance $ 2,147 $ 5,114 $ 2,288 $ 4,668 $ 11,496 $ 9,621 $ 1,286 $ 36,620
Ending balance, individually evaluated for credit losses $ 1 $ 299 $ 0 $ 0 $ 62 $ 166 $ 79 $ 607
Ending balance, collectively evaluated for credit losses $ 2,146 $ 4,815 $ 2,288 $ 4,668 $ 11,434 $ 9,455 $ 1,207 $ 36,013
Loans:
Ending balance $ 96,042 $ 281,337 $ 184,012 $ 246,665 $ 996,379 $ 790,831 $ 84,858 $ 2,680,124
Ending balance, individually evaluated for credit losses $ 1,387 $ 1,947 $ 521 $ 1,916 $ 7,338 $ 6,145 $ 79 $ 19,333
Ending balance, collectively evaluated for credit losses $ 94,655 $ 279,390 $ 183,491 $ 244,749 $ 989,041 $ 784,686 $ 84,779 $ 2,660,791


	Three Months Ended September 30, 2021
	Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
	(Amounts In Thousands)
Allowance for credit losses:
Beginning balance	$	2,055	$	4,802	$	2,483	$	4,904	$	10,879	$	9,707	$	1,110	$	35,940

Charge-offs	—		(14)		—		—		(181)		(255)		(138)		(588)
Recoveries	29		431		2		—		140		23		21		646
Credit loss expense	34		(871)		(188)		(241)		26		743		89		(408)

Ending balance	$	2,118	$	4,348	$	2,297	$	4,663	$	10,864	$	10,218	$	1,082	$	35,590

	Nine Months Ended September 30, 2021
	Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
	(Amounts In Thousands)
Allowance for credit losses:
Beginning balance, prior to adoption of ASC 326	$	2,508	$	4,885	$	2,319	$	4,173	$	12,368	$	9,415	$	1,402	$	37,070
Impact of adopting ASC 326	(328)		298		327		763		522		1,396		(232)		2,746
Charge-offs	—		(90)		(3)		(1)		(263)		(265)		(234)		(856)
Recoveries	117		966		93		25		648		240		98		2,187
Credit loss expense	(179)		(1,711)		(439)		(297)		(2,411)		(568)		48		(5,557)

Ending balance	$	2,118	$	4,348	$	2,297	$	4,663	$	10,864	$	10,218	$	1,082	$	35,590

Ending balance, individually evaluated for credit losses	$	3	$	4	$	128	$	4	$	59	$	5	$	—	$	203

Ending balance, collectively evaluated for credit losses	$	2,115	$	4,344	$	2,169	$	4,659	$	10,805	$	10,213	$	1,082	$	35,387

Loans:
Ending balance	$	94,210	$	228,181	$	191,790	$	241,650	$	1,013,641	$	799,855	$	84,534	$	2,653,861

Ending balance, individually evaluated for credit losses	$	1,426	$	1,394	$	1,028	$	1,583	$	5,566	$	5,758	$	—	$	16,755

Ending balance, collectively evaluated for credit losses	$	92,784	$	226,787	$	190,762	$	240,067	$	1,008,075	$	794,097	$	84,534	$	2,637,106

Page 2324

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Changes in the allowance for loan losses for the three and nine months ended ~~March 31,~~September 30, 2020 were as follows:

Three Months Ended March 31, 2020
Agricultural Commercial and
Financial Real Estate:
Construction and
land development Real Estate:
Mortgage,
farmland Real Estate:
Mortgage,
1 to 4 family Real Estate:
Mortgage, multi-
family and
commercial Other Total
(Amounts In Thousands)
Allowance for loan losses:
Beginning balance $ 2,400 $ 4,988 $ 2,599 $ 3,950 $ 10,638 $ 7,859 $ 1,326 $ 33,760
Charge-offs (4) (15) 0 0 (229) (2) (190) (440)
Recoveries 10 108 2 0 187 14 50 371
Provision 354 1,599 20 146 1,156 1,192 182 4,649
Ending balance $ 2,760 $ 6,680 $ 2,621 $ 4,096 $ 11,752 $ 9,063 $ 1,368 $ 38,340
Ending balance, individually evaluated for impairment $ 217 $ 1,534 $ 0 $ 3 $ 176 $ 0 $ 2 $ 1,932
Ending balance, collectively evaluated for impairment $ 2,543 $ 5,146 $ 2,621 $ 4,093 $ 11,576 $ 9,063 $ 1,366 $ 36,408
Loans:
Ending balance $ 96,811 $ 228,074 $ 186,265 $ 246,203 $ 1,054,395 $ 767,394 $ 84,666 $ 2,663,808
Ending balance, individually evaluated for impairment $ 1,884 $ 3,853 $ 418 $ 4,130 $ 8,773 $ 3,669 $ 2 $ 22,729
Ending balance, collectively evaluated for impairment $ 94,927 $ 224,221 $ 185,847 $ 242,073 $ 1,045,622 $ 763,725 $ 84,664 $ 2,641,079


	Three Months Ended September 30, 2020
	Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
	(Amounts In Thousands)
Allowance for loan losses:
Beginning balance	$	2,547	$	5,777	$	2,433	$	4,089	$	12,282	$	9,173	$	1,319	$	37,620
Charge-offs	(8)		(478)		—		—		(115)		(210)		(63)		(874)
Recoveries	26		165		27		—		201		10		42		471
Provision	30		(119)		(167)		(41)		(210)		320		30		(157)

Ending balance	$	2,595	$	5,345	$	2,293	$	4,048	$	12,158	$	9,293	$	1,328	$	37,060

	Nine Months Ended September 30, 2020
	Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
	(Amounts In Thousands)
Allowance for loan losses:
Beginning balance	$	2,400	$	4,988	$	2,599	$	3,950	$	10,638	$	7,859	$	1,326	$	33,760
Charge-offs	(43)		(1,253)		(43)		(1)		(576)		(290)		(276)		(2,482)
Recoveries	44		374		81		—		636		33		114		1,282
Provision	194		1,236		(344)		99		1,460		1,691		164		4,500

Ending balance	$	2,595	$	5,345	$	2,293	$	4,048	$	12,158	$	9,293	$	1,328	$	37,060

Ending balance, individually evaluated for impairment	$	80	$	477	$	87	$	1	$	86	$	—	$	14	$	745

Ending balance, collectively evaluated for impairment	$	2,515	$	4,868	$	2,206	$	4,047	$	12,072	$	9,293	$	1,314	$	36,315

Loans:

Ending balance	$	96,321	$	335,463	$	184,797	$	243,689	$	1,031,701	$	788,209	$	86,945	$	2,767,125

Ending balance, individually evaluated for impairment	$	1,742	$	5,949	$	7,933	$	2,440	$	6,980	$	3,614	$	14	$	28,672

Ending balance, collectively evaluated for impairment	$	94,579	$	329,514	$	176,864	$	241,249	$	1,024,721	$	784,595	$	86,931	$	2,738,453

Page 2425

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Changes in the allowance for credit losses for off-balance sheet credit exposures for the three and nine months ended ~~March 31,~~September 30, 2021 were as follows:


																			Three Months Ended September 30, 2021
																			Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
																			(Amounts In Thousands)
Allowance for credit losses for off-balance sheet credit exposures:																		Allowance for credit losses for off-balance sheet credit exposures:
Beginning balance																		Beginning balance	$	494	$	1,529	$	864	$	107	$	791	$	275	$	30	$	4,090

Credit loss expense																		Credit loss expense	15		117		132		61		13		156		(4)		490
(Charge-offs), net recoveries																		(Charge-offs), net recoveries	—		—		—		—		—		—		—		—

Ending balance																		Ending balance	$	509	$	1,646	$	996	$	168	$	804	$	431	$	26	$	4,580

		Three Months Ended March 31, 2021																	Nine Months Ended September 30, 2021
		Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total			Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
		(Amounts In Thousands)																	(Amounts In Thousands)
Allowance for credit losses for off-balance sheet credit exposures:	Allowance for credit losses for off-balance sheet credit exposures:																	Allowance for credit losses for off-balance sheet credit exposures:
Beginning balance, prior to adoption of ASC 326	Beginning balance, prior to adoption of ASC 326	$	0	$	0	$	0	$	0	$	0	$	0	$	0	$	0	Beginning balance, prior to adoption of ASC 326	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Impact of adopting ASC 326	Impact of adopting ASC 326	385		1,585		736		180		471		212		15		3,584		Impact of adopting ASC 326	385		1,585		736		180		471		212		15		3,584
Credit loss expense	Credit loss expense	58		239		197		22		175		38		27		756		Credit loss expense	124		61		260		(12)		333		219		11		996
(Charge-offs), net recoveries	(Charge-offs), net recoveries	0		0		0		0		0		0		0		0		(Charge-offs), net recoveries	—		—		—		—		—		—		—		—

Ending balance	Ending balance	$	443	$	1,824	$	933	$	202	$	646	$	250	$	42	$	4,340	Ending balance	$	509	$	1,646	$	996	$	168	$	804	$	431	$	26	$	4,580

Credit loss expense for off-balance sheet credit exposures is included in credit loss expense on the consolidated statement of income for the three and nine months ended ~~March 31,~~September 30, 2021.

Management regularly reviews loans in the portfolio to assess credit quality indicators and to determine appropriate loan classification and grading in accordance with applicable bank regulations. The Company's risk rating methodology assigns risk ratings ranging from 1 to 6, where a higher rating represents higher risk. The Company differentiates its lending portfolios into loans sharing common risk characteristics for which expected credit loss is measured on a pool basis and loans not sharing common risk characteristics for which credit loss is measured individually.

Page 26

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The below are descriptions of the credit quality indicators:

Excellent – Excellent rated loans are prime quality loans covered by highly liquid collateral with generous margins or supported by superior current financial conditions reflecting substantial net worth, relative to total credit extended, and based on assets of a stable and non-speculative nature whose values can be readily verified. Identified repayment source or cash flow is abundant and assured. Loans are secured with cash, cash equivalents, or collateral with very low loan to values. The borrower would qualify for unsecured debt and guarantors provide excellent secondary support to the relationship. The borrower has a long-term relationship with Hills Bank, maintains high deposit balances and has an established payment history with Hills Bank and an established business in an established industry.

Good – Good rated loans are adequately secured by readily marketable collateral or good financial condition characterized by liquidity, flexibility and sound net worth. Loans are supported by sound primary and secondary payment sources and timely and accurate financial information. The relationship is not quite as strong as a borrower that is assigned an excellent rating but still has a very strong liquidity position, low leverage, and track record of strong performance. These loans have a strong collateral position with limited risk to bank capital. The collateral will not materially lose value in a distressed liquidation. Guarantors provide additional secondary support to mitigate possible bank losses. The borrower has a long-term relationship with Hills Bank with an established track record of payments; loans with shorter remaining loan amortization; deposit balances are consistent; loan payments could be made from cash reserves in the interim period; and source of income is coming from a stable industry.

~~Page 25~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

Satisfactory – Satisfactory rated loans are loans to borrowers of average financial means not especially vulnerable to changes in economic or other circumstances, where the major support for the extension is sufficient collateral of a marketable nature, and the primary source of repayment is seen to be clear and adequate. The borrower's financial performance is consistent, ratios and trends are positive and the primary repayment source can clearly be identified and supported with acceptable financial information. The loan relationship could be vulnerable to changes in economic or industry conditions but have the ability to absorb unexpected issues. The loan collateral coverage is considered acceptable and guarantors can provide financial support but net worth might not be as liquid as a 1 or 2 rated relationship. The borrower has an established relationship with Hills Bank. The relationship is making timely loan payments, any operating line is revolving and deposit balances are positive with limited to no overdrafts. Management and industry is considered stable.

Monitor – Monitor rated loans are identified by management as warranting special attention for a variety of reasons that may bear on ultimate collectability. This may be due to adverse trends, a particular industry, loan structure, or repayment that is dependent on projections, or a one-time occurrence. The relationship liquidity levels are minimal and the borrower’s leverage position is brought into question. The primary repayment source is showing signs of being stressed or is not proven. If the borrower performs as planned, the loan will be repaid. The collateral coverage is still considered acceptable but there might be some concern with the type of real estate securing the debt or highly dependent on chattel assets. Some loans may be better secured than others. Guarantors still provide some support but there is not an abundance of financial strength supporting the guaranty. A monitor credit may be appropriate when the borrower is experiencing rapid growth which is impacting liquidity levels and increasing debt levels. Other attributes to consider would include if the business is a start-up or newly acquired, if the relationship has significant financing relationships with other financial institutions, the quality of financial information being received, management depth of the company, and changes to the business model. The track history with Hills Bank has some deficiencies such as slow payments or some overdrafts.

Special Mention – Special mention rated loans are supported by a marginal payment capacity and are marginally protected by collateral. There are identified weaknesses that if not monitored and corrected may adversely affect the Company’s credit position. A special mention credit would typically have a weakness in one of the general categories (cash flow, collateral position or payment history) but not in all categories. Potential indicators of a special mention would include past due payments, overdrafts, management issues, poor financial performance, industry issues, or the need for additional short-term borrowing. The ability to continue to make payments is in question; there are “red flags” such as past due payments, non-revolving credit lines, overdrafts, and the inability to sell assets. The borrower is experiencing delinquent taxes, legal issues, etc., obtaining financial information has become a challenge, collateral coverage is marginal at best, and the value and condition could be brought into question. Collateral document deficiencies have been noted and if not addressed, could become material. Guarantors provide minimal support for this relationship. The credit may include an action plan or follow up established in the asset quality process. There is a change in the borrower’s communication pattern. Industry issues may be impacting the relationship. Adverse credit scores or history of payment deficiencies could be noted.

Page 27

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Substandard – Substandard loans are not adequately supported by the paying capacity of the borrower and may be inadequately collateralized. These loans have a well-defined weakness or weaknesses. Full repayment of the loan(s) according to the original terms and conditions is in question or not expected. For these loans, it is more probable than not that the Company could sustain some loss if the deficiency(ies) is not corrected. There are identified shortfalls in the primary repayment source such as carry over debt, past due payments, and overdrafts. Obtaining quality and timely financial information is a weakness. The loan is under secured with exposure that could impact bank capital. It appears the liquidation of collateral has become the repayment source. The collateral may be difficult to foreclose or have little to no value. Collateral documentation deficiencies have been noted during the review process. Guarantor(s) provide minimal to no support of the relationship. The borrower’s communication with the bank continues to decrease and the borrower is not addressing the situation. There is some concern about the borrower’s ability and willingness to repay the loans. Problems may be the result of external issues such as economic or industry related issues.

~~Page 26~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

The following tables present the credit quality indicators and origination years by type of loan in each category as of ~~March 31,~~September 30, 2021 (amounts in thousands):


		Agricultural																	Agricultural
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	301	$	252	$	64	$	27	$	—	$	0	$	3,519	$	4,163	Excellent	$	424	$	235	$	30	$	17	$	—	$	—	$	5,138	$	5,844
Good	Good	214		2,573		853		85		71		45		7,791		11,632		Good	999		1,912		634		75		58		30		4,923		8,631
Satisfactory	Satisfactory	2,571		11,070		2,476		3,160		768		237		21,427		41,709		Satisfactory	6,883		6,649		1,966		2,003		501		141		23,082		41,225
Monitor	Monitor	4,586		7,247		1,394		752		193		538		15,406		30,116		Monitor	5,535		4,762		1,073		630		171		312		17,887		30,370
Special Mention	Special Mention	998		1,410		215		215		17		22		3,602		6,479		Special Mention	2,615		442		86		166		7		—		3,303		6,619
Substandard	Substandard	460		732		132		316		0		0		303		1,943		Substandard	875		85		210		116		—		—		235		1,521
Total	Total	$	9,130	$	23,284	$	5,134	$	4,555	$	1,049	$	842	$	52,048	$	96,042	Total	$	17,331	$	14,085	$	3,999	$	3,007	$	737	$	483	$	54,568	$	94,210


		Commercial and Financial																	Commercial and Financial
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	2,464	$	1,951	$	27	$	300	$	65	$	3	$	3,451	$	8,261	Excellent	$	6,153	$	1,007	$	5	$	260	$	42	$	—	$	1,231	$	8,698
Good	Good	7,092		17,883		3,605		1,427		562		3,213		10,025		43,807		Good	9,514		9,687		2,381		1,135		382		1,921		19,170		44,190
Satisfactory	Satisfactory	39,203		56,992		11,322		5,557		3,429		1,741		39,126		157,370		Satisfactory	42,268		24,288		8,225		3,956		2,686		1,255		35,106		117,784
Monitor	Monitor	10,463		24,354		5,822		1,848		1,588		889		15,028		59,992		Monitor	20,191		11,791		3,938		1,438		450		520		11,371		49,699
Special Mention	Special Mention	873		1,306		793		127		10		1,332		621		5,062		Special Mention	1,332		582		529		124		3		6		266		2,842
Substandard	Substandard	1,703		2,197		320		133		154		0		2,338		6,845		Substandard	3,156		1,019		294		68		131		—		300		4,968
Total	Total	$	61,798	$	104,683	$	21,889	$	9,392	$	5,808	$	7,178	$	70,589	$	281,337	Total	$	82,614	$	48,374	$	15,372	$	6,981	$	3,694	$	3,702	$	67,444	$	228,181

~~Page 27~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

Real Estate: Construction, 1 to 4 Family Residential
March 31, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0
Good 0 1,212 0 0 0 0 14,281 15,493
Satisfactory 3,046 4,372 0 0 0 0 36,137 43,555
Monitor 1,023 487 0 0 0 0 10,889 12,399
Special Mention 0 878 0 0 0 0 726 1,604
Substandard 111 0 0 0 0 0 0 111
Total $ 4,180 $ 6,949 $ 0 $ 0 $ 0 $ 0 $ 62,033 $ 73,162

Real Estate: Construction, Land Development and Commercial
March 31, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 0 $ 56 $ 0 $ 0 $ 156 $ 8 $ 0 $ 220
Good 981 3,143 125 0 156 174 10,160 14,739
Satisfactory 5,375 11,714 4,091 443 1,057 215 40,034 62,929
Monitor 1,313 2,819 352 170 267 0 19,221 24,142
Special Mention 41 0 0 0 0 0 0 41
Substandard 0 7,304 202 0 0 0 1,273 8,779
Total $ 7,710 $ 25,036 $ 4,770 $ 613 $ 1,636 $ 397 $ 70,688 $ 110,850

Real Estate: Mortgage, Farmland
March 31, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 0 $ 4,354 $ 161 $ 230 $ 106 $ 124 $ 147 $ 5,122
Good 3,602 15,048 3,748 2,452 6,152 6,715 3,907 41,624
Satisfactory 16,262 52,610 14,115 11,481 13,570 17,553 10,140 135,731
Monitor 1,004 24,907 8,879 5,049 2,168 8,253 4,746 55,006
Special Mention 3,985 718 0 0 1,175 213 0 6,091
Substandard 1,765 458 608 52 0 208 0 3,091
Total $ 26,618 $ 98,095 $ 27,511 $ 19,264 $ 23,171 $ 33,066 $ 18,940 $ 246,665

Page 28

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


		Real Estate: Mortgage, 1 to 4 Family First Liens																	Real Estate: Construction, 1 to 4 Family Residential
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	470	$	949	$	447	$	28	$	291	$	468	$	0	$	2,653	Excellent	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Good	Good	947		15,344		3,718		3,802		3,961		12,895		4,843		45,510		Good	212		487		—		—		—		—		13,796		14,495
Satisfactory	Satisfactory	36,959		213,829		92,157		93,035		81,556		162,303		6,363		686,202		Satisfactory	4,403		1,882		—		—		—		—		42,675		48,960
Monitor	Monitor	5,387		61,787		8,405		8,158		10,407		17,989		2,591		114,724		Monitor	956		1,668		—		—		—		—		6,394		9,018
Special Mention	Special Mention	455		5,104		1,685		1,656		1,296		2,507		44		12,747		Special Mention	—		—		—		—		—		—		583		583
Substandard	Substandard	707		1,781		1,426		1,599		858		8,378		0		14,749		Substandard	111		—		—		—		—		—		—		111
Total	Total	$	44,925	$	298,794	$	107,838	$	108,278	$	98,369	$	204,540	$	13,841	$	876,585	Total	$	5,682	$	4,037	$	—	$	—	$	—	$	—	$	63,448	$	73,167


	Real Estate: Construction, Land Development and Commercial
September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	5,079	$	—	$	—	$	—	$	147	$	8	$	—	$	5,234
Good	1,925		2,235		—		—		154		247		9,774		14,335
Satisfactory	20,602		7,731		2,529		276		1,023		122		32,038		64,321
Monitor	6,465		1,429		7		39		262		—		18,354		26,556
Special Mention	86		—		—		—		—		—		—		86
Substandard	7,000		548		196		—		—		—		347		8,091
Total	$	41,157	$	11,943	$	2,732	$	315	$	1,586	$	377	$	60,513	$	118,623

Real Estate: Mortgage, 1 to 4 Family Junior Liens
March 31, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 0 $ 17 $ 0 $ 0 $ 0 $ 0 $ 48 $ 65
Good 34 1,076 295 0 113 524 1,773 3,815
Satisfactory 2,095 12,904 7,933 10,255 7,843 10,421 55,990 107,441
Monitor 116 1,300 369 460 295 367 2,454 5,361
Special Mention 65 547 63 93 96 177 419 1,460
Substandard 0 394 80 461 141 196 380 1,652
Total $ 2,310 $ 16,238 $ 8,740 $ 11,269 $ 8,488 $ 11,685 $ 61,064 $ 119,794


		Real Estate: Mortgage, Multi-Family																	Real Estate: Mortgage, Farmland
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	0	$	13,713	$	0	$	0	$	0	$	749	$	0	$	14,462	Excellent	$	—	$	3,591	$	124	$	60	$	102	$	58	$	139	$	4,074
Good	Good	5,322		36,331		2,017		2,022		3,443		10,460		0		59,595		Good	7,918		16,961		2,733		3,144		6,489		5,556		3,915		46,716
Satisfactory	Satisfactory	3,852		118,889		26,494		926		14,977		19,132		14,672		198,942		Satisfactory	38,291		42,353		12,483		9,244		9,152		12,934		9,822		134,279
Monitor	Monitor	17,033		40,166		799		1,199		1,625		1,726		7,856		70,404		Monitor	5,351		17,330		5,791		4,138		1,324		7,079		5,796		46,809
Special Mention	Special Mention	0		13,604		1,695		0		0		0		0		15,299		Special Mention	4,232		694		—		—		1,168		206		—		6,300
Substandard	Substandard	12,398		76		0		0		0		5,691		0		18,165		Substandard	2,477		450		294		48		—		203		—		3,472
Total	Total	$	38,605	$	222,779	$	31,005	$	4,147	$	20,045	$	37,758	$	22,528	$	376,867	Total	$	58,269	$	81,379	$	21,425	$	16,634	$	18,235	$	26,036	$	19,672	$	241,650

Page 29

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


		Real Estate: Mortgage, Commercial																	Real Estate: Mortgage, 1 to 4 Family First Liens
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	2,219	$	18,520	$	0	$	0	$	3,676	$	1,042	$	0	$	25,457	Excellent	$	465	$	1,358	$	434	$	22	$	153	$	306	$	—	$	2,738
Good	Good	10,557		46,563		3,598		3,449		10,292		7,965		10,516		92,940		Good	7,476		12,322		3,272		3,301		3,851		11,023		4,164		45,409
Satisfactory	Satisfactory	13,590		70,748		18,743		16,757		21,038		31,772		13,042		185,690		Satisfactory	187,076		190,199		75,462		72,729		64,914		115,599		8,590		714,569
Monitor	Monitor	7,281		60,428		6,487		1,875		2,619		3,542		3,765		85,997		Monitor	20,445		48,859		6,675		7,530		9,409		15,824		2,975		111,717
Special Mention	Special Mention	0		8,461		308		929		2,031		6,549		0		18,278		Special Mention	1,249		3,118		1,212		1,090		753		2,078		—		9,500
Substandard	Substandard	316		3,650		0		221		0		1,415		0		5,602		Substandard	1,709		1,827		1,534		1,610		802		6,918		—		14,400
Total	Total	$	33,963	$	208,370	$	29,136	$	23,231	$	39,656	$	52,285	$	27,323	$	413,964	Total	$	218,420	$	257,683	$	88,589	$	86,282	$	79,882	$	151,748	$	15,729	$	898,333


		Loans to Individuals																	Real Estate: Mortgage, 1 to 4 Family Junior Liens
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	0	$	0	$	0	$	0	$	0	$	0	$	1	$	1	Excellent	$	—	$	14	$	—	$	—	$	—	$	—	$	463	$	477
Good	Good	5		6		86		27		10		0		1		135		Good	33		637		291		—		109		496		1,437		3,003
Satisfactory	Satisfactory	3,402		9,971		4,002		2,067		412		9,273		55		29,182		Satisfactory	10,451		10,780		6,266		8,046		5,893		6,676		55,630		103,742
Monitor	Monitor	143		240		59		79		7		1		2		531		Monitor	239		1,232		197		440		113		322		2,735		5,278
Special Mention	Special Mention	13		51		40		15		9		5		2		135		Special Mention	118		522		96		74		140		126		156		1,232
Substandard	Substandard	0		50		18		9		7		0		2		86		Substandard	100		354		104		418		102		200		298		1,576
Total	Total	$	3,563	$	10,318	$	4,205	$	2,197	$	445	$	9,279	$	63	$	30,070	Total	$	10,941	$	13,539	$	6,954	$	8,978	$	6,357	$	7,820	$	60,719	$	115,308


	Real Estate: Mortgage, Multi-Family
September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	2,562	$	4,570	$	—	$	—	$	—	$	717	$	—	$	7,849
Good	5,682		42,254		1,817		165		2,836		9,333		—		62,087
Satisfactory	57,636		96,776		21,265		1,627		1,628		15,880		14,490		209,302
Monitor	38,871		41,629		178		1,175		1,600		1,461		6,312		91,226
Special Mention	644		—		826		—		—		—		—		1,470
Substandard	12,250		—		—		—		—		5,621		—		17,871
Total	$	117,645	$	185,229	$	24,086	$	2,967	$	6,064	$	33,012	$	20,802	$	389,805

Page 30

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


	Real Estate: Mortgage, Commercial
September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	99	$	17,194	$	—	$	—	$	3,436	$	365	$	—	$	21,094
Good	11,312		48,976		3,462		4,337		5,379		7,364		10,031		90,861
Satisfactory	49,134		51,957		16,814		13,058		18,510		25,967		15,679		191,119
Monitor	10,640		57,522		6,064		1,737		2,542		3,487		3,658		85,650
Special Mention	168		7,689		303		843		2,000		6,431		—		17,434
Substandard	1,362		2,213		—		212		—		105		—		3,892
Total	$	72,715	$	185,551	$	26,643	$	20,187	$	31,867	$	43,719	$	29,368	$	410,050


		Obligations of State and Political Subdivisions																	Loans to Individuals
March 31, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
September 30, 2021																		September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	0	$	0	$	0	$	0	$	0	$	6,617	$	0	$	6,617	Excellent	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Good	Good	0		3,306		0		0		0		9,572		0		12,878		Good	—		—		72		23		7		—		2		104
Satisfactory	Satisfactory	0		2,171		1,797		892		11,664		1,599		7,234		25,357		Satisfactory	10,340		6,988		2,737		1,223		195		9,813		56		31,352
Monitor	Monitor	0		851		217		104		189		5,008		3,422		9,791		Monitor	292		201		40		54		4		—		3		594
Special Mention	Special Mention	0		0		0		0		0		145		0		145		Special Mention	44		65		25		5		—		—		2		141
Substandard	Substandard	0		0		0		0		0		0		0		0		Substandard	5		14		15		1		3		3		3		44
Total	Total	$	0	$	6,328	$	2,014	$	996	$	11,853	$	22,941	$	10,656	$	54,788	Total	$	10,681	$	7,268	$	2,889	$	1,306	$	209	$	9,816	$	66	$	32,235


	Obligations of State and Political Subdivisions
September 30, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	—	$	—	$	—	$	6,259	$	—	$	6,259
Good	—		3,216		—		—		—		9,225		—		12,441
Satisfactory	660		2,143		1,778		711		11,477		3,881		9,534		30,184
Monitor	—		836		208		249		179		1,800		—		3,272
Special Mention	—		—		—		—		—		143		—		143
Substandard	—		—		—		—		—		—		—		—
Total	$	660	$	6,195	$	1,986	$	960	$	11,656	$	21,308	$	9,534	$	52,299

Page 3031

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The following table presents the credit quality indicators by type of loans in each category as of December 31, 2020 (amounts in thousands):


		Agricultural		Commercial and Financial		Real Estate: Construction, 1 to 4 family residential		Real Estate: Construction, land development and commercial			Agricultural		Commercial and Financial		Real Estate: Construction, 1 to 4 family residential		Real Estate: Construction, land development and commercial
December 31, 2020	December 31, 2020									December 31, 2020
Grade:	Grade:									Grade:
Excellent	Excellent	$	3,761	$	9,024	$	0	$	227	Excellent	$	3,761	$	9,024	$	—	$	227
Good	Good	12,369		62,310		13,675		15,187		Good	12,369		62,310		13,675		15,187
Satisfactory	Satisfactory	42,015		144,999		41,616		64,301		Satisfactory	42,015		144,999		41,616		64,301
Monitor	Monitor	29,381		56,439		13,654		23,368		Monitor	29,381		56,439		13,654		23,368
Special Mention	Special Mention	5,143		8,258		1,857		7,137		Special Mention	5,143		8,258		1,857		7,137
Substandard	Substandard	2,173		5,212		315		1,693		Substandard	2,173		5,212		315		1,693
Total	Total	$	94,842	$	286,242	$	71,117	$	111,913	Total	$	94,842	$	286,242	$	71,117	$	111,913


	Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family first liens		Real Estate: Mortgage, 1 to 4 family junior liens		Real Estate: Mortgage, multi- family
December 31, 2020
Grade:
Excellent	$	5,706	$	2,303	$	204	$	14,650
Good	41,878		47,233		3,707		57,281
Satisfactory	129,210		701,273		115,731		197,493
Monitor	61,298		114,207		5,153		70,885
Special Mention	6,074		12,890		1,307		15,374
Substandard	2,976		14,183		1,731		18,331
Total	$	247,142	$	892,089	$	127,833	$	374,014


		Real Estate: Mortgage, commercial		Loans to individuals		Obligations of state and political subdivisions		Total			Real Estate: Mortgage, commercial		Loans to individuals		Obligations of state and political subdivisions		Total
December 31, 2020	December 31, 2020									December 31, 2020
Grade:	Grade:									Grade:
Excellent	Excellent	$	26,940	$	1	$	6,752	$	69,568	Excellent	$	26,940	$	1	$	6,752	$	69,568
Good	Good	92,699		145		13,094		359,578		Good	92,699		145		13,094		359,578
Satisfactory	Satisfactory	196,310		30,487		26,571		1,690,006		Satisfactory	196,310		30,487		26,571		1,690,006
Monitor	Monitor	77,125		479		9,924		461,913		Monitor	77,125		479		9,924		461,913
Special Mention	Special Mention	19,731		127		147		78,045		Special Mention	19,731		127		147		78,045
Substandard	Substandard	4,334		86		0		51,034		Substandard	4,334		86		—		51,034
Total	Total	$	417,139	$	31,325	$	56,488	$	2,710,144	Total	$	417,139	$	31,325	$	56,488	$	2,710,144

Page 3132

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Past due loans as of ~~March 31,~~September 30, 2021 and December 31, 2020 were as follows:


		30 - 59 Days Past Due		60 - 89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans Receivable		Accruing Loans Past Due 90 Days or More			30 - 59 Days Past Due		60 - 89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans Receivable		Accruing Loans Past Due 90 Days or More
		(Amounts In Thousands)															(Amounts In Thousands)
March 31, 2021
September 30, 2021																September 30, 2021
Agricultural	Agricultural	$	422	$	486	$	295	$	1,203	$	94,839	$	96,042	$	0	Agricultural	$	377	$	—	$	249	$	626	$	93,584	$	94,210	$	152
Commercial and financial	Commercial and financial	1,435		174		122		1,731		279,606		281,337		2		Commercial and financial	1,062		2,370		41		3,473		224,708		228,181		—
Real estate:	Real estate:															Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	642		97		0		739		72,423		73,162		0		Construction, 1 to 4 family residential	2,085		124		422		2,631		70,536		73,167		423
Construction, land development and commercial	Construction, land development and commercial	478		0		0		478		110,372		110,850		0		Construction, land development and commercial	7,024		7,000		96		14,120		104,503		118,623		—
Mortgage, farmland	Mortgage, farmland	463		201		0		664		246,001		246,665		0		Mortgage, farmland	—		167		204		371		241,279		241,650		204
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	3,872		649		2,283		6,804		869,781		876,585		0		Mortgage, 1 to 4 family first liens	948		1,481		2,522		4,951		893,382		898,333		264
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	179		2		107		288		119,506		119,794		0		Mortgage, 1 to 4 family junior liens	60		24		106		190		115,118		115,308		—
Mortgage, multi-family	Mortgage, multi-family	0		14		0		14		376,853		376,867		0		Mortgage, multi-family	3,905		—		—		3,905		385,900		389,805		—
Mortgage, commercial	Mortgage, commercial	871		0		461		1,332		412,632		413,964		0		Mortgage, commercial	—		829		—		829		409,221		410,050		—
Loans to individuals	Loans to individuals	177		42		4		223		29,847		30,070		0		Loans to individuals	205		10		5		220		32,015		32,235		—
Obligations of state and political subdivisions	Obligations of state and political subdivisions	0		0		0		0		54,788		54,788		0		Obligations of state and political subdivisions	—		—		—		—		52,299		52,299		—
		$	8,539	$	1,665	$	3,272	$	13,476	$	2,666,648	$	2,680,124	$	2		$	15,666	$	12,005	$	3,645	$	31,316	$	2,622,545	$	2,653,861	$	1,043

December 31, 2020	December 31, 2020															December 31, 2020
Agricultural	Agricultural	$	438	$	0	$	629	$	1,067	$	93,775	$	94,842	$	111	Agricultural	$	438	$	—	$	629	$	1,067	$	93,775	$	94,842	$	111
Commercial and financial	Commercial and financial	867		195		140		1,202		285,040		286,242		20		Commercial and financial	867		195		140		1,202		285,040		286,242		20
Real estate:	Real estate:															Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	190		0		536		726		70,391		71,117		536		Construction, 1 to 4 family residential	190		—		536		726		70,391		71,117		536
Construction, land development and commercial	Construction, land development and commercial	0		0		0		0		111,913		111,913		0		Construction, land development and commercial	—		—		—		—		111,913		111,913		—
Mortgage, farmland	Mortgage, farmland	279		28		0		307		246,835		247,142		0		Mortgage, farmland	279		28		—		307		246,835		247,142		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	4,969		1,342		2,486		8,797		883,292		892,089		342		Mortgage, 1 to 4 family first liens	4,969		1,342		2,486		8,797		883,292		892,089		342
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	436		21		155		612		127,221		127,833		47		Mortgage, 1 to 4 family junior liens	436		21		155		612		127,221		127,833		47
Mortgage, multi-family	Mortgage, multi-family	0		0		0		0		374,014		374,014		0		Mortgage, multi-family	—		—		—		—		374,014		374,014		—
Mortgage, commercial	Mortgage, commercial	783		0		461		1,244		415,895		417,139		0		Mortgage, commercial	783		—		461		1,244		415,895		417,139		—
Loans to individuals	Loans to individuals	218		59		4		281		31,044		31,325		0		Loans to individuals	218		59		4		281		31,044		31,325		—
Obligations of state and political subdivisions	Obligations of state and political subdivisions	0		0		0		0		56,488		56,488		0		Obligations of state and political subdivisions	—		—		—		—		56,488		56,488		—
		$	8,180	$	1,645	$	4,411	$	14,236	$	2,695,908	$	2,710,144	$	1,056		$	8,180	$	1,645	$	4,411	$	14,236	$	2,695,908	$	2,710,144	$	1,056

Page 3233

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The Company does not have a material amount of loans that are past due less than 90 days where there are serious doubts as to the ability of the borrowers to comply with the loan repayment terms.

Certain nonaccrual and TDR loan information by loan type at ~~March 31,~~September 30, 2021 and December 31, 2020, was as follows:


		March 31, 2021								December 31, 2020							September 30, 2021								December 31, 2020
		Non-accrual loans (1)		Interest income recognized on non-accrual		Accruing loans past due 90 days or more		TDR loans		Non- accrual loans (1)		Accruing loans past due 90 days or more		TDR loans			Non-accrual loans (1)		Interest income recognized on non-accrual		Accruing loans past due 90 days or more		TDR loans		Non- accrual loans (1)		Accruing loans past due 90 days or more		TDR loans
		(Amounts In Thousands)								(Amounts In Thousands)							(Amounts In Thousands)								(Amounts In Thousands)
Agricultural	Agricultural	$	1,167	0		$	0	$	221	$	1,252	$	111	$	85	Agricultural	$	708	—		$	152	$	377	$	1,252	$	111	$	85
Commercial and financial	Commercial and financial	447		0		2		1,189		479		20		1,263		Commercial and financial	112		—		—		1,139		479		20		1,263
Real estate:	Real estate:															Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	111		0		0		0		315		536		0		Construction, 1 to 4 family residential	111		—		423		—		315		536		—
Construction, land development and commercial	Construction, land development and commercial	202		0		0		208		204		0		211		Construction, land development and commercial	293		—		—		203		204		—		211
Mortgage, farmland	Mortgage, farmland	350		0		0		1,566		446		0		1,616		Mortgage, farmland	353		—		204		1,206		446		—		1,616
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	4,660		0		0		1,735		4,331		342		1,751		Mortgage, 1 to 4 family first liens	3,900		—		264		1,348		4,331		342		1,751
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	190		0		0		20		193		47		20		Mortgage, 1 to 4 family junior liens	184		—		—		20		193		47		20
Mortgage, multi-family	Mortgage, multi-family	75		0		0		1,695		79		0		1,695		Mortgage, multi-family	—		—		—		1,470		79		—		1,695
Mortgage, commercial	Mortgage, commercial	1,528		0		0		3,580		1,550		0		3,610		Mortgage, commercial	2,057		—		—		2,231		1,550		—		3,610
		$	8,730	$	0	$	2	$	10,214	$	8,849	$	1,056	$	10,251		$	7,718	$	—	$	1,043	$	7,994	$	8,849	$	1,056	$	10,251

(1)There were ~~$2.70~~$2.76 million and $2.97 million of TDR loans included within nonaccrual loans as of ~~March 31,~~September 30, 2021 and December 31, 2020, respectively.

Loans 90 days or more past due that are still accruing interest decreased ~~$1.05~~$0.01 million from December 31, 2020 to ~~March 31,~~September 30, 2021. As of ~~March 31,~~September 30, 2021 there ~~was 1~~were 6 accruing ~~loan~~loans past due 90 days or ~~more. The~~more with an average ~~accruing loans past due as~~loan balance of ~~March 31, 2021 are $0.00~~$0.17 million. There were 12 accruing loans past due 90 days or more as of December 31, 2020 ~~and the~~with an average loan balance ~~was~~of $0.09 million. The accruing loans past due 90 days or more balances are believed to be adequately collateralized and the Company expects to collect all principal and interest as contractually due under these loans.

The Company may modify the terms of a loan to maximize the collection of amounts due. Such a modification is considered a troubled debt restructuring (“TDR”). In most cases, the modification is either a reduction in interest rate, conversion to interest only payments or an extension of the maturity date. The borrower is experiencing financial difficulties or is expected to experience difficulties in the near-term, so a concessionary modification is granted to the borrower that would otherwise not be considered. TDR loans accrue interest as long as the borrower complies with the revised terms and conditions and has demonstrated repayment performance at a level commensurate with the modified terms over several payment cycles.

Section 4013 of the CARES Act, “Temporary Relief From Troubled Debt Restructurings,” allows financial institutions the option to temporarily suspend certain requirements under GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. In March 2020, various regulatory agencies, including the FRB and the FDIC, issued an interagency statement, effective immediately, on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not to be considered TDRs. This includes short-term (e.g., six months) modifications, such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. As of ~~March 31,~~September 30, 2021, the total amount of the eligible loans in deferral (deferral of principal and/or interest) that met the requirements set forth under the ~~interagency statement~~CARES Act and therefore were not considered TDRs was 16 ~~loans, totaling $9.6 million. As of December 31, 2020, there were 13 loans, totaling $9.4 million.~~

~~Page 33~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

Throughout 2020, COVID-19 related payment deferrals provided for customers totaled approximately 14.82% of total loans. As of March 31, 2021 and December 31, 2020, COVID-19 related payment deferrals were approximately 0.50% and 1.20% of total loans, respectively.

~~Below is a summary of information for TDR loans as of March 31, 2021 and December 31, 2020:~~

March 31, 2021 December 31, 2020
Number
of
contracts Recorded
investment Commitments
outstanding Number
of
contracts Recorded
investment Commitments
outstanding
(Amounts In Thousands) (Amounts In Thousands)
Agricultural 5 $ 1,079 $ 0 6 $ 1,028 $ 0
Commercial and financial 17 1,635 60 17 1,743 35
Real estate:
Construction, 1 to 4 family residential 0 0 0 0 0 0
Construction, land development and commercial 1 208 52 1 211 4
Mortgage, farmland 6 1,865 0 6 2,009 0
Mortgage, 1 to 4 family first liens 15 1,829 0 17 1,898 0
Mortgage, 1 to 4 family junior liens 1 20 0 1 20 0
Mortgage, multi-family 2 1,695 0 2 1,695 0
Mortgage, commercial 12 4,578 0 13 4,621 0
Loans to individuals 0 0 0 0 0 0
59 $ 12,909 $ 112 63 $ 13,225 $ 39

Page 34

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

~~The following~~loans, totaling $9.5 million. As of December 31, 2020, there were 13 loans, totaling $9.4 million that met the requirements and were not considered TDRs.

Throughout 2020, COVID-19 related payment deferrals provided for customers totaled approximately 14.82% of total loans. As of September 30, 2021 and December 31, 2020, COVID-19 related payment deferrals were approximately 0.13% and 1.20% of total loans, respectively.

Below is a summary of information for TDR loans ~~that were modified during the three months ended March~~as of September 30, 2021 and December 31, ~~2021:~~

Three Months Ended March 31, 2021
Number
of
contracts Pre-modification
recorded
investment Post-modification
recorded
investment
(Amounts In Thousands)
Agricultural 1 $ 178 $ 178
Commercial and financial 0 0 0
Real estate:
Construction, 1 to 4 family residential 0 0 0
Construction, land development and commercial 0 0 0
Mortgage, farmland 0 0 0
Mortgage, 1 to 4 family first lien 0 0 0
Mortgage, 1 to 4 family junior liens 0 0 0
Mortgage, multi-family 0 0 0
Mortgage, commercial 0 0 0
1 $ 178 $ 178
2020:

The Company has allocated $0.40 million of allowance for TDR loans and the Company had commitments to lend $0.11 million in additional borrowings to restructured loan customers as of March 31, 2021. The Company had commitments to lend $0.04 million in additional borrowings to restructured loan customers as of December 31, 2020. These commitments were in the normal course of business. The additional borrowings were not used to facilitate payments on these loans. The modifications of the terms of loans performed during the three months ended March 31, 2021 included extensions of the maturity date.


	September 30, 2021					December 31, 2020
	Number of contracts	Recorded investment		Commitments outstanding		Number of contracts	Recorded investment		Commitments outstanding
		(Amounts In Thousands)					(Amounts In Thousands)
Agricultural	4	$	974	$	160	6	$	1,028	$	—
Commercial and financial	14	1,211		—		17	1,743		35
Real estate:
Construction, 1 to 4 family residential	—	—		—		—	—		—
Construction, land development and commercial	1	203		—		1	211		4
Mortgage, farmland	5	1,512		—		6	2,009		—
Mortgage, 1 to 4 family first liens	11	1,351		—		17	1,898		—
Mortgage, 1 to 4 family junior liens	1	20		—		1	20		—
Mortgage, multi-family	2	1,470		—		2	1,695		—
Mortgage, commercial	11	4,010		—		13	4,621		—
Loans to individuals	—	—		—		—	—		—
	49	$	10,751	$	160	63	$	13,225	$	39

~~There were 0 TDR loans that were in payment default (defined as past due 90 days or more) during the period ended March 31, 2021 and the year ended December 31, 2020.~~

Page 35

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The following table presents the amortized cost basis of collateral dependent loans, by the primary collateral type, which are individually evaluated to determine expected credit losses, and the related ACL allocated to these loans:

Primary Type of Collateral
Real Estate Accounts Receivable Equipment Other Total ACL Allocation
(Amounts In Thousands)
March 31, 2021
Agricultural $ 1,333 $ 0 $ 54 $ 0 $ 1,387 $ 1
Commercial and financial 1,657 0 290 0 1,947 299
Real estate:
Construction, 1 to 4 family residential 111 0 0 0 111 0
Construction, land development and commercial 410 0 0 0 410 0
Mortgage, farmland 1,916 0 0 0 1,916 0
Mortgage, 1 to 4 family first liens 7,148 0 0 0 7,148 46
Mortgage, 1 to 4 family junior liens 190 0 0 0 190 16
Mortgage, multi-family 1,770 0 0 0 1,770 0
Mortgage, commercial 4,375 0 0 0 4,375 166
Loans to individuals 79 0 0 0 79 79
Obligations of state and political subdivisions 0 0 0 0 0 0
$ 18,989 $ 0 $ 344 $ 0 $ 19,333 $ 607
The following is a summary of TDR loans that were modified during the three and nine months ended September 30, 2021:


	Three Months Ended September 30, 2021					Nine Months Ended September 30, 2021
	Number of contracts	Pre-modification recorded investment		Post-modification recorded investment			Number of contracts	Pre-modification recorded investment		Post-modification recorded investment
		(Amounts In Thousands)					(Amounts In Thousands)
Agricultural	—	$	—	$	—		1	$	178	$	178
Commercial and financial	—	—		—			—	—		—
Real estate:
Construction, 1 to 4 family residential	—	—		—			—	—		—
Construction, land development and commercial	—	—		—			—	—		—
Mortgage, farmland	—	—		—			1	319		319
Mortgage, 1 to 4 family first lien	—	—		—			—	—		—
Mortgage, 1 to 4 family junior liens	—	—		—			—	—		—
Mortgage, multi-family	—	—		—			—	—		—
Mortgage, commercial	—	—		—			1	232		232
	—	$	—	$	—		3	$	729	$	729

The Company has allocated $0.02 million of allowance for TDR loans and the Company had commitments to lend $0.16 million in additional borrowings to restructured loan customers as of September 30, 2021. The Company had commitments to lend $0.04 million in additional borrowings to restructured loan customers as of December 31, 2020. These commitments were in the normal course of business. The additional borrowings were not used to facilitate payments on these loans. The modifications of the terms of loans performed during the nine months ended September 30, 2021 included extensions of the maturity date.

There were no TDR loans that were in payment default (defined as past due 90 days or more) during the period ended September 30, 2021 and the year ended December 31, 2020.

Page 36

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


	Primary Type of Collateral
	Real Estate		Accounts Receivable		Equipment		Other		Total		ACL Allocation
	(Amounts In Thousands)
September 30, 2021
Agricultural	$	1,372	$	—	$	54	$	—	$	1,426	$	3
Commercial and financial	1,239		—		155		—		1,394		4
Real estate:
Construction, 1 to 4 family residential	533		—		—		—		533		115
Construction, land development and commercial	495		—		—		—		495		13
Mortgage, farmland	1,583		—		—		—		1,583		4
Mortgage, 1 to 4 family first liens	5,362		—		—		—		5,362		47
Mortgage, 1 to 4 family junior liens	204		—		—		—		204		12
Mortgage, multi-family	1,470		—		—		—		1,470		—
Mortgage, commercial	4,288		—		—		—		4,288		5
Loans to individuals	—		—		—		—		—		—
Obligations of state and political subdivisions	—		—		—		—		—		—
	$	16,546	$	—	$	209	$	—	$	16,755	$	203

Page 37

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Pre-ASC 326 (CECL) adoption impaired loans information as of December 31, 2020 is as follows:


		Recorded Investment		Unpaid Principal Balance		Related Allowance			Recorded Investment		Unpaid Principal Balance		Related Allowance
With no related allowance recorded:	With no related allowance recorded:	(Amounts In Thousands)						With no related allowance recorded:	(Amounts In Thousands)
Agricultural	Agricultural	$	1,337	$	1,928	$	0	Agricultural	$	1,337	$	1,928	$	—
Commercial and financial	Commercial and financial	1,520		2,907		0		Commercial and financial	1,520		2,907		—
Real estate:	Real estate:							Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	315		337		0		Construction, 1 to 4 family residential	315		337		—
Construction, land development and commercial	Construction, land development and commercial	415		421		0		Construction, land development and commercial	415		421		—
Mortgage, farmland	Mortgage, farmland	2,061		2,598		0		Mortgage, farmland	2,061		2,598		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	6,253		8,013		0		Mortgage, 1 to 4 family first liens	6,253		8,013		—
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	108		350		0		Mortgage, 1 to 4 family junior liens	108		350		—
Mortgage, multi-family	Mortgage, multi-family	1,773		1,898		0		Mortgage, multi-family	1,773		1,898		—
Mortgage, commercial	Mortgage, commercial	4,124		4,960		0		Mortgage, commercial	4,124		4,960		—
Loans to individuals	Loans to individuals	0		47		0		Loans to individuals	—		47		—
		$	17,906	$	23,459	$	0		$	17,906	$	23,459	$	—

With an allowance recorded:	With an allowance recorded:							With an allowance recorded:
Agricultural	Agricultural	$	206	$	206	$	86	Agricultural	$	206	$	206	$	86
Commercial and financial	Commercial and financial	671		724		411		Commercial and financial	671		724		411
Real estate:	Real estate:							Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	536		536		7		Construction, 1 to 4 family residential	536		536		7
Construction, land development and commercial	Construction, land development and commercial	0		0		0		Construction, land development and commercial	—		—		—
Mortgage, farmland	Mortgage, farmland	0		0		0		Mortgage, farmland	—		—		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	924		975		56		Mortgage, 1 to 4 family first liens	924		975		56
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	132		158		37		Mortgage, 1 to 4 family junior liens	132		158		37
Mortgage, multi-family	Mortgage, multi-family	0		0		0		Mortgage, multi-family	—		—		—
Mortgage, commercial	Mortgage, commercial	303		304		14		Mortgage, commercial	303		304		14
Loans to individuals	Loans to individuals	51		51		51		Loans to individuals	51		51		51
		$	2,823	$	2,954	$	662		$	2,823	$	2,954	$	662

Total:	Total:							Total:
Agricultural	Agricultural	$	1,543	$	2,134	$	86	Agricultural	$	1,543	$	2,134	$	86
Commercial and financial	Commercial and financial	2,191		3,631		411		Commercial and financial	2,191		3,631		411
Real estate:	Real estate:							Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	851		873		7		Construction, 1 to 4 family residential	851		873		7
Construction, land development and commercial	Construction, land development and commercial	415		421		0		Construction, land development and commercial	415		421		—
Mortgage, farmland	Mortgage, farmland	2,061		2,598		0		Mortgage, farmland	2,061		2,598		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	7,177		8,988		56		Mortgage, 1 to 4 family first liens	7,177		8,988		56
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	240		508		37		Mortgage, 1 to 4 family junior liens	240		508		37
Mortgage, multi-family	Mortgage, multi-family	1,773		1,898		0		Mortgage, multi-family	1,773		1,898		—
Mortgage, commercial	Mortgage, commercial	4,427		5,264		14		Mortgage, commercial	4,427		5,264		14
Loans to individuals	Loans to individuals	51		98		51		Loans to individuals	51		98		51
		$	20,729	$	26,413	$	662		$	20,729	$	26,413	$	662

Page 3738

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Post-ASC 326 CECL Adoption:

The changes in the ACL in 2021 compared to December 31, 2020 is the result of the following factors: $2.75 million increase upon adoption of ASC 326 (CECL) on January 1, 2021; changes after adoption for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 include improvements in the economic factor forecasts, primarily Iowa unemployment, used in the ACL calculation which resulted in a decrease of ~~$1.12~~$1.14 million; decrease in loan volume which resulted in a decrease of ~~$0.64~~$0.75 million; changes in prepayment and curtailment rates resulting in a decrease of ~~$0.55~~$1.03 million; ~~and~~ decreases in historical loss rates along with net recoveries in the first ~~quarter~~half of 2021 resulting in a decrease of ~~$0.89~~$1.59 million; decreases in the individually analyzed loans reserve of $0.42 million; and increases in qualitative factors determined necessary by management which resulted in an increase of $0.71 million.

The extent to which collateral secures collateral-dependent loans is provided in the previous individually analyzed loans table and changes in the extent to which collateral secures its collateral-dependent loans are described below. Collateral-dependent loans decreased ~~$1.40~~$3.97 million from December 31, 2020 to ~~March 31,~~September 30, 2021. Collateral-dependent loans include any loan that has been placed on nonaccrual status, accruing loans past due 90 days or more and TDR loans. Collateral-dependent loans also include loans that, based on management’s evaluation of current information and events, the Company expects to be unable to collect in full according to the contractual terms of the original loan agreement. Collateral-dependent loans were ~~0.72%~~0.63% of loans held for investment as of ~~March 31,~~September 30, 2021 and 0.76% as of December 31, 2020. The decrease in collateral-dependent loans is due to a decrease of ~~$0.19~~$0.52 million in loans with a specific reserve, a decrease in nonaccrual loans of ~~0.12,~~$1.13 million, a decrease in 90 days or more accruing loans of ~~$1.05~~$0.01 million and a decrease in TDR loans of ~~$0.04~~$2.26 million from December 31, 2020 to ~~March 31,~~September 30, 2021. There were no significant changes noted in the extent to which collateral secures collateral-dependent loans.

The Company regularly reviews a substantial portion of the loans in the portfolio and assesses whether the loans share common risk characteristics for which expected credit loss is measured on a pool basis or if the loans do not share common risk characteristics and therefore expected credit loss is measured on an individual loan basis. If the loans are assessed for credit losses on an individual basis, the Company determines if a specific allowance is appropriate. In addition, the Company's management also reviews and, where determined necessary, provides allowances for particular loans based upon (1) reviews of specific borrowers and (2) management’s assessment of areas that management considers are of higher credit risk, including loans that have been restructured or where a TDR is reasonably possible. Loans that are determined not to be collateral-dependent and for which there are no specific allowances are classified into one or more risk categories and expected credit loss is measured on a pool basis. See Note 1 Adoption of New Financial Accounting Standard for further discussion of the allowance for credit losses for loans held for investment.

Specific allowances for credit losses on loans assessed individually are established if the loan balances exceed the net present value of the relevant future cash flows or the fair value of the relevant collateral based on updated appraisals and/or updated collateral analysis for the properties if the loan is collateral dependent. The Company may recognize a charge off or record a specific allowance related to an individually analyzed loan if there is a collateral shortfall or it is unlikely the borrower can make all principal and interest payments as contractually due.

For loans that are collateral-dependent, losses are evaluated based on the portion of a loan that exceeds the fair market value of the collateral. In general, this is the amount that the carrying value of the loan exceeds the related appraised value less estimated costs to sell the collateral. Generally, it is the Company’s policy not to rely on appraisals that are older than one year prior to the date the credit loss is being measured. The most recent appraisal values may be adjusted if, in the Company’s judgment, experience and other market data indicate that the property’s value, use, condition, exit market or other variables affecting its value may have changed since the appraisal was performed. The charge off or loss adjustment supported by an appraisal is considered the minimum charge off. Any adjustments made to the appraised value are to provide an additional charge off or specific reserve based on the applicable facts and circumstances. In instances where there is an estimated decline in value, a specific reserve may be provided or a charge off taken pending confirmation of the amount of the loss from an updated appraisal. Upon receipt of the new appraisals, an additional specific reserve may be provided or charge off taken based on the appraised value of the collateral. On average, appraisals are obtained within one month of order.

Note 6.Leases

The Bank leases branch offices, parking facilities and certain equipment under operating leases. The leases have remaining lease terms of 1 year to 15 years, some of which include options to extend the leases for up to 10 years, and some of which

Page 39

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

include options to terminate the leases within 1 year. As the options are reasonably certain to be exercised, they are recognized as part of the right-of-use assets and lease liabilities.

~~Page 38~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

For the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020, total operating lease expense was ~~$0.14~~$0.44 million and ~~$0.14~~$0.42 million respectively, and is included in occupancy expenses in the consolidated statements of income. Included in this for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020 were ~~$0.12~~$0.37 million and ~~$0.11~~$0.35 million, respectively, of operating lease costs, ~~$0.01~~$0.03 million and ~~$0.01~~$0.03 million, respectively, of short term lease costs, and ~~$0.01~~$0.04 million and ~~$0.02~~$0.04 million, respectively, of variable lease costs.

For the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020, cash paid for amounts included in the measurement of operating lease liabilities was ~~$0.12~~$0.38 million and ~~$0.12~~$0.35 million, respectively.

As of ~~March 31,~~September 30, 2021 and December 31, 2020, operating lease right-of-use assets included in other assets was ~~$2.77~~$2.57 million and $2.86 million respectively. Operating lease liabilities were ~~$2.82~~$2.63 million and $2.91 million as of ~~March 31,~~September 30, 2021 and December 31, 2020. As of ~~March 31,~~September 30, 2021 and December 31, 2020, the weighted average remaining lease term for operating leases was ~~10.18~~10.01 years and 10.27 years, respectively, and the weighted average discount rate for operating leases was ~~3.46%~~3.48% and 3.45%, respectively. Discount rates used were determined from FHLB borrowing rates for comparable terms.

As of ~~March 31,~~September 30, 2021, maturities of lease liabilities were as follows:


Year ending December 31:	Year ending December 31:	(Amounts In Thousands)		Year ending December 31:	(Amounts In Thousands)
2021 (excluding the three months ended March 31, 2021)		$	354
2021 (excluding the nine months ended September 30, 2021)				2021 (excluding the nine months ended September 30, 2021)	$	117
2022	2022	464		2022	464
2023	2023	317		2023	317
2024	2024	250		2024	250
2025	2025	254		2025	254
Thereafter	Thereafter	1,755		Thereafter	1,755
Total lease payments	Total lease payments	3,394		Total lease payments	3,157
Less imputed interest	Less imputed interest	(576)		Less imputed interest	(529)
Total operating lease liabilities	Total operating lease liabilities	$	2,818	Total operating lease liabilities	$	2,628

Page 3940

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Note 7.Fair Value Measurements

The carrying value and estimated fair values of the Company's financial instruments as of ~~March 31,~~September 30, 2021 are as follows:


		March 31, 2021											September 30, 2021
		Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)			Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)
		(Amounts In Thousands)											(Amounts In Thousands)
Financial instrument assets:	Financial instrument assets:											Financial instrument assets:
Cash and cash equivalents	Cash and cash equivalents	$	819,436	$	819,436	$	819,436	$	0	$	0	Cash and cash equivalents	$	869,098	$	869,098	$	869,098	$	—	$	—
Investment securities	Investment securities	442,460		442,460		167,719		274,741		0		Investment securities	510,011		510,011		221,414		288,597		—
Loans held for sale	Loans held for sale	19,574		19,574		0		19,574		0		Loans held for sale	10,738		10,738		—		10,738		—
Loans	Loans											Loans
Agricultural	Agricultural	93,896		94,173		0		0		94,173		Agricultural	92,092		92,185		—		—		92,185
Commercial and financial	Commercial and financial	276,222		277,028		0		0		277,028		Commercial and financial	223,833		223,726		—		—		223,726
Real estate:	Real estate:											Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	72,392		72,441		0		0		72,441		Construction, 1 to 4 family residential	72,405		72,481		—		—		72,481
Construction, land development and commercial	Construction, land development and commercial	109,332		109,150		0		0		109,150		Construction, land development and commercial	117,088		116,577		—		—		116,577
Mortgage, farmland	Mortgage, farmland	241,997		241,958		0		0		241,958		Mortgage, farmland	236,987		236,664		—		—		236,664
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	869,683		870,665		0		0		870,665		Mortgage, 1 to 4 family first liens	891,338		889,507		—		—		889,507
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	116,271		116,946		0		0		116,946		Mortgage, 1 to 4 family junior liens	112,366		112,320		—		—		112,320
Mortgage, multi-family	Mortgage, multi-family	373,457		371,395		0		0		371,395		Mortgage, multi-family	386,092		384,065		—		—		384,065
Mortgage, commercial	Mortgage, commercial	407,753		409,341		0		0		409,341		Mortgage, commercial	403,545		403,004		—		—		403,004
Loans to individuals	Loans to individuals	29,163		29,970		0		0		29,970		Loans to individuals	31,602		31,710		—		—		31,710
Obligations of state and political subdivisions	Obligations of state and political subdivisions	54,409		55,064		0		0		55,064		Obligations of state and political subdivisions	51,850		52,119		—		—		52,119
Accrued interest receivable	Accrued interest receivable	12,534		12,534		0		12,534		0		Accrued interest receivable	12,432		12,432		—		12,432		—
Total financial instrument assets	Total financial instrument assets	$	3,938,579	$	3,942,135	$	987,155	$	306,849	$	2,648,131	Total financial instrument assets	$	4,021,477	$	4,016,637	$	1,090,512	$	311,767	$	2,614,358
Financial instrument liabilities	Financial instrument liabilities											Financial instrument liabilities
Deposits	Deposits											Deposits
Noninterest-bearing deposits	Noninterest-bearing deposits	$	571,725	$	571,725	$	0	$	571,725	$	0	Noninterest-bearing deposits	$	581,011	$	581,011	$	—	$	581,011	$	—
Interest-bearing deposits	Interest-bearing deposits	2,839,605		2,852,090		0		2,852,090		0		Interest-bearing deposits	2,887,248		2,895,755		—		2,895,755		—

Other borrowings												Other borrowings	—		—		—		—		—
Federal Home Loan Bank borrowings	Federal Home Loan Bank borrowings	105,000		114,805		0		114,805		0		Federal Home Loan Bank borrowings	105,000		113,880		—		113,880		—

Accrued interest payable	Accrued interest payable	1,492		1,492		0		1,492		0		Accrued interest payable	1,255		1,255		—		1,255		—
Total financial instrument liabilities	Total financial instrument liabilities	$	3,517,822	$	3,540,112	$	0	$	3,540,112	$	0	Total financial instrument liabilities	$	3,574,514	$	3,591,901	$	—	$	3,591,901	$	—

		Face Amount											Face Amount
Financial instrument with off-balance sheet risk:	Financial instrument with off-balance sheet risk:											Financial instrument with off-balance sheet risk:
Loan commitments	Loan commitments	$	571,888	$	0	$	0	$	0	$	0	Loan commitments	$	616,208	$	—	$	—	$	—	$	—
Letters of credit	Letters of credit	8,310		0		0		0		0		Letters of credit	7,523		—		—		—		—
Total financial instrument liabilities with off-balance-sheet risk	Total financial instrument liabilities with off-balance-sheet risk	$	580,198	$	0	$	0	$	0	$	0	Total financial instrument liabilities with off-balance-sheet risk	$	623,731	$	—	$	—	$	—	$	—

(1)Considered Level 1 under Accounting Standards Codification (“ASC”) Topic 820, Fair Value Measurements and Disclosures (“ASC 820”).

(2)Considered Level 2 under ASC 820.

(3)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.

Page 4041

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The carrying value and estimated fair values of the Company's financial instruments as of December 31, 2020 are as follows:


		December 31, 2020											December 31, 2020
		Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)			Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)
		(Amounts In Thousands)											(Amounts In Thousands)
Financial instrument assets:	Financial instrument assets:											Financial instrument assets:
Cash and cash equivalents	Cash and cash equivalents	$	574,310	$	574,310	$	574,310	$	0	$	0	Cash and cash equivalents	$	574,310	$	574,310	$	574,310	$	—	$	—
Investment securities	Investment securities	416,544		416,544		148,646		267,898		0		Investment securities	416,544		416,544		148,646		267,898		—
Loans held for sale	Loans held for sale	43,947		43,947		0		43,947		0		Loans held for sale	43,947		43,947		—		43,947		—
Loans	Loans											Loans
Agricultural	Agricultural	92,334		92,922		0		0		92,922		Agricultural	92,334		92,922		—		—		92,922
Commercial and financial	Commercial and financial	281,357		282,015		0		0		282,015		Commercial and financial	281,357		282,015		—		—		282,015
Real estate:	Real estate:											Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	70,210		70,432		0		0		70,432		Construction, 1 to 4 family residential	70,210		70,432		—		—		70,432
Construction, land development and commercial	Construction, land development and commercial	110,501		110,039		0		0		110,039		Construction, land development and commercial	110,501		110,039		—		—		110,039
Mortgage, farmland	Mortgage, farmland	242,969		242,978		0		0		242,978		Mortgage, farmland	242,969		242,978		—		—		242,978
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	882,156		890,409		0		0		890,409		Mortgage, 1 to 4 family first liens	882,156		890,409		—		—		890,409
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	126,336		124,945		0		0		124,945		Mortgage, 1 to 4 family junior liens	126,336		124,945		—		—		124,945
Mortgage, multi-family	Mortgage, multi-family	369,552		370,538		0		0		370,538		Mortgage, multi-family	369,552		370,538		—		—		370,538
Mortgage, commercial	Mortgage, commercial	412,186		413,409		0		0		413,409		Mortgage, commercial	412,186		413,409		—		—		413,409
Loans to individuals	Loans to individuals	30,573		31,164		0		0		31,164		Loans to individuals	30,573		31,164		—		—		31,164
Obligations of state and political subdivisions	Obligations of state and political subdivisions	55,838		59,300		0		0		59,300		Obligations of state and political subdivisions	55,838		59,300		—		—		59,300
Accrued interest receivable	Accrued interest receivable	12,177		12,177		0		12,177		0		Accrued interest receivable	12,177		12,177		—		12,177		—
Total financial instrument assets	Total financial instrument assets	$	3,720,990	$	3,735,129	$	722,956	$	324,022	$	2,688,151	Total financial instrument assets	$	3,720,990	$	3,735,129	$	722,956	$	324,022	$	2,688,151
Financial instrument liabilities:	Financial instrument liabilities:											Financial instrument liabilities:
Deposits	Deposits											Deposits
Noninterest-bearing deposits	Noninterest-bearing deposits	$	532,190	$	532,190	$	0	$	532,190	$	0	Noninterest-bearing deposits	$	532,190	$	532,190	$	—	$	532,190	$	—
Interest-bearing deposits	Interest-bearing deposits	2,660,378		2,673,815		0		2,673,815		0		Interest-bearing deposits	2,660,378		2,673,815		—		2,673,815		—

Federal Home Loan Bank borrowings	Federal Home Loan Bank borrowings	105,000		115,259		0		115,259		0		Federal Home Loan Bank borrowings	105,000		115,259		—		115,259		—
Interest rate swaps		0		0				0

Accrued interest payable	Accrued interest payable	1,733		1,733		0		1,733		0		Accrued interest payable	1,733		1,733		—		1,733		—
Total financial instrument liabilities	Total financial instrument liabilities	$	3,299,301	$	3,322,997	$	0	$	3,322,997	$	0	Total financial instrument liabilities	$	3,299,301	$	3,322,997	$	—	$	3,322,997	$	—

		Face Amount											Face Amount
Financial instrument with off-balance sheet risk:	Financial instrument with off-balance sheet risk:											Financial instrument with off-balance sheet risk:
Loan commitments	Loan commitments	$	483,602	$	0	$	0	$	0	$	0	Loan commitments	$	483,602	$	—	$	—	$	—	$	—
Letters of credit	Letters of credit	8,056		0		0		0		0		Letters of credit	8,056		—		—		—		—
Total financial instrument liabilities with off-balance-sheet risk	Total financial instrument liabilities with off-balance-sheet risk	$	491,658	$	0	$	0	$	0	$	0	Total financial instrument liabilities with off-balance-sheet risk	$	491,658	$	—	$	—	$	—	$	—

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

(3)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.

Page 4142

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Fair value of financial instruments: FASB ASC 820, Fair Value Measurements and Disclosures (“ASC 820”) provides a single definition for fair value, a framework for measuring fair value and expanded disclosures concerning fair value. Fair value is defined under ASC 820 as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

The Company determines the fair market value of its financial instruments based on the fair value hierarchy established in ASC 820. There are three levels of inputs that may be used to measure fair value as follows:


			Level 1			Quoted prices in active markets for identical assets or liabilities.


			Level 2			Observable inputs other than quoted prices included within Level 1. Observable inputs include the quoted prices for similar assets or liabilities in markets that are not active and inputs other than quoted prices that are observable for the asset or liability.


			Level 3			Unobservable inputs supported by little or no market activity for financial instruments. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

It is the Company’s policy to maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements. The Company is required to use observable inputs, to the extent available, in the fair value estimation process unless that data results from forced liquidations or distressed sales.

The following is a description of valuation methodologies used for assets and liabilities recorded at fair value.

ASSETS

Investment securities available for sale: Investment securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If a quoted price is not available, the fair value is obtained from benchmarking the security against similar securities. U.S. Treasury securities are considered Level 1 with the remaining securities considered Level 2.

The pricing for investment securities is obtained from an independent source. There are no Level 3 investment securities owned by the Company. The Company obtains an understanding of the independent source’s valuation methodologies used to determine fair value by level of security. The Company validates assigned fair values on a sample basis using an additional third-party provider pricing service to determine if the fair value measurement is reasonable. Due to the nature of our investment portfolio, we do not expect significant and unusual fluctuations as fair value changes primarily relate to interest rate changes. No unusual fluctuations were identified during the ~~three~~nine months ended ~~March 31,~~September 30, 2021. If a fluctuation requiring investigation was identified, the Company would research the change with the independent source or other available information.

Loans held for sale and Loans: ASU 2016-01, Financial Instruments -Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes. Methodologies utilized for this financial statement period are as follows:

•Income Approach: Fair value is determined based on a discounted cash flow analysis. The discounted cash flow analysis was based on the contractual maturity of the loan and market indications of rates, prepayment speeds, defaults and credit risk.

•Asset Approach: Fair value is determined based on the estimated values of the underlying collateral or individual analysis of receipts. This provides a better indication of value than the contractual income streams as these loans are not performing or exhibit strong signs indicative of non-performance.

Page 4243

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Fair value has been estimated in accordance with ASC 820, Fair Value Measurements and Disclosures, and is intended to represent the price that would be received in an orderly transaction between market participants as of the measurement date. In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, at least one significant assumption not observable in the market was utilized. These unobservable assumptions reflect estimates that market participants would use in pricing the asset or liability. Inputs to these valuation techniques are subjective in nature, involve uncertainties and require significant judgment and therefore cannot be determined with precision. Accordingly, the fair value estimates presented are not necessarily indicative of the amounts to be realized in a current market exchange. Loans are classified as Level 3.

Loans held for sale are carried at historical cost. The carrying amount is a reasonable estimate of fair value because of the short time between origination of the loan and its sale on the secondary market (Level 2). The market is active for these loans and as a result prices for similar assets are available.

Individually analyzed loans under ASC 326 CECL: See Note 1 for further discussion of individually analyzed loans under CECL.

Impaired loans pre-ASC 326: A loan is considered to be impaired when it is probable that all of the principal and interest due may not be collected according to its contractual terms. Generally, when a loan is considered impaired, the amount of reserve required under ASC 310, Receivables, is measured based on the fair value of the underlying collateral. The Company makes such measurements on all material loans deemed impaired using the fair value of the collateral for collateral dependent loans or based on the present value of the estimated future cash flows of interest and principal discounted at the loans effective interest rate or the fair value of the loan if determinable. The fair value of collateral used by the Company is determined by obtaining an observable market price or by obtaining an appraised value from an independent, licensed or certified appraiser, using observable market data. This data includes information such as selling price of similar properties and capitalization rates of similar properties sold within the market, expected future cash flows or earnings of the subject property based on current market expectations, and other relevant factors. All appraised values are adjusted for market-related trends based on the Company's experience in sales and other appraisals of similar property types as well as estimated selling costs. Each quarter management reviews all collateral dependent impaired loans on a loan-by-loan basis to determine whether updated appraisals are necessary based on loan performance, collateral type and guarantor support. At times, the Company measures the fair value of collateral dependent impaired loans using appraisals with dates prior to one year from the date of review. These appraisals are discounted by applying current, observable market data about similar property types such as sales contracts, estimations of value by individuals familiar with the market, other appraisals, sales or collateral assessments based on current market activity until updated appraisals are obtained. Depending on the length of time since an appraisal was performed, the data provided through reviews and estimated selling costs, collateral values are typically discounted by 0-35%. These loans are considered Level 3 as the instruments used to determine fair market value require significant management judgment and estimation.

Foreclosed assets: The Company does not record foreclosed assets at fair value on a recurring basis. Foreclosed assets consist mainly of other real estate owned but may include other types of assets repossessed by the Company. Foreclosed assets are adjusted to the lower of carrying value or fair value less the cost of disposal. Fair value is generally based upon independent market prices or appraised values of the collateral, and may include a marketability discount as deemed necessary by management based on its experience with similar types of real estate. The value of foreclosed assets is evaluated periodically as a nonrecurring fair value adjustment. Foreclosed assets are classified as Level 3.

Off-balance sheet instruments: Fair values for outstanding letters of credit are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing. The fair value of the outstanding letters of credit is not significant. Unfunded loan commitments are not valued since the loans are generally priced at market at the time of funding (Level 2).

Page 4344

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

The table below represents the balances of assets and liabilities measured at fair value on a recurring basis:


		March 31, 2021									September 30, 2021
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value			Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value
Securities available for sale	Securities available for sale	(Amounts In Thousands)								Securities available for sale	(Amounts In Thousands)
U.S. Treasury	U.S. Treasury	$	167,719	$	0	$	0	$	167,719	U.S. Treasury	$	221,414	$	—	$	—	$	221,414
State and political subdivisions	State and political subdivisions	0		228,572		0		228,572		State and political subdivisions	—		235,207		—		235,207
Mortgage-backed securities and collateralized mortgage obligations										Mortgage-backed securities and collateralized mortgage obligations	—		9,753		—		9,753
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	0		37,422		0		37,422		Other securities (FHLB, FHLMC and FNMA)	—		34,891		—		34,891

Total	Total	$	167,719	$	265,994	$	0	$	433,713	Total	$	221,414	$	279,851	$	—	$	501,265


		December 31, 2020									December 31, 2020
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value			Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value
Securities available for sale	Securities available for sale	(Amounts In Thousands)								Securities available for sale	(Amounts In Thousands)
U.S. Treasury	U.S. Treasury	$	148,646	$	0	$	0	$	148,646	U.S. Treasury	$	148,646	$	—	$	—	$	148,646
State and political subdivisions	State and political subdivisions	0		224,566		0		224,566		State and political subdivisions	—		224,566		—		224,566
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	0		35,160		0		35,160		Other securities (FHLB, FHLMC and FNMA)	—		35,160		—		35,160

Total	Total	$	148,646	$	259,726	$	0	$	408,372	Total	$	148,646	$	259,726	$	—	$	408,372

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

(3)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.

There were no transfers between Levels 1, 2 or 3 during the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and the year ended December 31, 2020.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis

The Company is required to measure certain assets at fair value on a nonrecurring basis in accordance with GAAP. These adjustments to fair value usually result from application of lower-of-cost-or-market accounting or write-downs of individual assets. The valuation methodologies used to measure these fair value adjustments are described above. The following tables present the Company’s assets that are measured at fair value on a nonrecurring basis.


		March 31, 2021								Three Months Ended March 31, 2021			September 30, 2021								Three Months Ended September 30, 2021		Nine Months Ended September 30, 2021
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses			Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses
		(Amounts in Thousands)											(Amounts in Thousands)
Loans (4)	Loans (4)											Loans (4)
Agricultural	Agricultural	$	0	$	0	$	1,182	$	1,182	$	0	Agricultural	$	—	$	—	$	886	$	886	$	—	$	—
Commercial and financial	Commercial and financial	0		0		1,585		1,585		0		Commercial and financial	—		—		1,188		1,188		—		—
Real Estate:	Real Estate:											Real Estate:											—
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	0		0		410		410		0		Construction, 1 to 4 family residential	—		—		386		386		—		—
Construction, land development and commercial	Construction, land development and commercial	0		0		111		111		0		Construction, land development and commercial	—		—		96		96		—		—
Mortgage, farmland	Mortgage, farmland	0		0		1,573		1,573		0		Mortgage, farmland	—		—		1,217		1,217		—		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	0		0		6,224		6,224		93		Mortgage, 1 to 4 family first liens	—		—		5,084		5,084		114		147
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	0		0		194		194		0		Mortgage, 1 to 4 family junior liens	—		—		193		193		9		9
Mortgage, multi-family	Mortgage, multi-family	0		0		1,770		1,770		0		Mortgage, multi-family	—		—		1,470		1,470		—		—
Mortgage, commercial	Mortgage, commercial	0		0		4,879		4,879		0		Mortgage, commercial	—		—		4,222		4,222		255		255
Loans to individuals	Loans to individuals	0		0		0		0		0		Loans to individuals	—		—		—		—		—		—
Foreclosed assets (5)	Foreclosed assets (5)	0		0		0		0		0		Foreclosed assets (5)	—		—		—		—		—		—
Total	Total	$	0	$	0	$	17,928	$	17,928	$	93	Total	$	—	$	—	$	14,742	$	14,742	$	378	$	411

~~(1)Considered Level 1 under ASC 820.~~

~~(2)Considered Level 2 under ASC 820.~~

~~(3)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.~~

~~(4)Represents carrying value and related write-downs of loans for which adjustments are based on the value of the collateral. The carrying value of loans fully-charged off is zero.~~

~~(5)Represents the fair value and related losses of foreclosed real estate and other collateral owned that were measured at fair value subsequent to their initial classification as foreclosed assets.~~

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~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

~~Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis (continued)~~

December 31, 2020 Year Ended December 31, 2020
Readily
Available
Market
Prices(1) Observable
Market
Prices(2) Company
Determined
Market
Prices(3) Total at Fair
Value Total Losses
(Amounts in Thousands)
Loans (4)
Agricultural $ 0 $ 0 $ 1,081 $ 1,081 $ 0
Commercial and financial 0 0 1,692 1,692 385
Real Estate:
Construction, 1 to 4 family residential 0 0 414 414 0
Construction, land development and commercial 0 0 315 315 0
Mortgage, farmland 0 0 1,718 1,718 0
Mortgage, 1 to 4 family first liens 0 0 5,906 5,906 252
Mortgage, 1 to 4 family junior liens 0 0 176 176 19
Mortgage, multi-family 0 0 1,773 1,773 0
Mortgage, commercial 0 0 5,082 5,082 250
Loans to individuals 0 0 0 0 0
Foreclosed assets (5) 0 0 0 0 0
Total $ 0 $ 0 $ 18,157 $ 18,157 $ 906

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

(3)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.

(4)Represents carrying value and related write-downs of loans for which adjustments are based on the value of the collateral. The carrying value of loans fully-charged off is zero.

(5)Represents the fair value and related losses of foreclosed real estate and other collateral owned that were measured at fair value subsequent to their initial classification as foreclosed assets.

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis (continued)


	December 31, 2020								Year Ended December 31, 2020
	Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses
	(Amounts in Thousands)
Loans (4)
Agricultural	$	—	$	—	$	1,081	$	1,081	$	—
Commercial and financial	—		—		1,692		1,692		385
Real Estate:
Construction, 1 to 4 family residential	—		—		414		414		—
Construction, land development and commercial	—		—		315		315		—
Mortgage, farmland	—		—		1,718		1,718		—
Mortgage, 1 to 4 family first liens	—		—		5,906		5,906		252
Mortgage, 1 to 4 family junior liens	—		—		176		176		19
Mortgage, multi-family	—		—		1,773		1,773		—
Mortgage, commercial	—		—		5,082		5,082		250
Loans to individuals	—		—		—		—		—
Foreclosed assets (5)	—		—		—		—		—
Total	$	—	$	—	$	18,157	$	18,157	$	906

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

(3)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.

(4)Represents carrying value and related write-downs of loans for which adjustments are based on the value of the collateral. The carrying value of loans fully-charged off is zero.

(5)Represents the fair value and related losses of foreclosed real estate and other collateral owned that were measured at fair value subsequent to their initial classification as foreclosed assets.

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Note 8.Stock Repurchase Program

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”). The Company’s Board of Directors has authorized the 2005 Stock Repurchase Program through December 31, 2022. 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 Company has purchased ~~1,370,477~~1,398,761 shares of its common stock in privately negotiated transactions from August 1, 2005 through ~~March 31,~~September 30, 2021. Of these ~~1,370,477~~1,398,761 shares, ~~20,852~~19,556 shares were purchased during the quarter ended ~~March 31,~~September 30, 2021, at an average price per share of ~~$62.88.~~$66.15.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Note 9. Commitments and Contingencies

Concentrations of credit risk: The Bank’s loans, commitments to extend credit, unused lines of credit and outstanding letters of credit have been granted to customers within the Bank's market area. Investments in securities issued by state and political subdivisions within the state of Iowa totaled approximately ~~$96.41~~$86.49 million. The concentrations of credit by type of loan are set forth in Note 5 to the Consolidated Financial Statements. Outstanding letters of credit were granted primarily to commercial borrowers. Although the Bank has a diversified loan portfolio, a substantial portion of its debtors' ability to honor their contracts is dependent upon the economic conditions in Johnson, Linn and Washington Counties, Iowa.

Contingencies: In the normal course of business, the Company and its subsidiaries are subject to pending and threatened legal actions, some of which seek substantial relief or damages. While the ultimate outcome of such legal proceedings cannot be predicted with certainty, after reviewing pending and threatened litigation with counsel, management believes at this time that the outcome of such litigation will not have a material adverse effect on the Company’s business, financial conditions, or results of operations.

The outbreak of Coronavirus Disease 2019 (“COVID-19”) ~~has and will continue~~continues to adversely impact a broad range of industries in which the Company’s customers operate and impair their ability to fulfill their financial obligations to the Company. The World Health Organization ~~has~~ declared COVID-19 to be a global pandemic indicating that almost all public commerce and related business activities must be, to varying degrees, curtailed with the goal of decreasing the rate of new infections.

The spread of the outbreak has caused significant disruptions in the U.S. economy and is highly likely to disrupt banking and other financial activity in the areas in which the Company operates and could also potentially create widespread business continuity issues for the Company. The Company’s business is dependent upon the willingness and ability of its employees and customers to conduct banking and other financial transactions. If the global response to contain COVID-19 escalates or is unsuccessful, the Company could experience a material adverse effect on its business, financial condition, results of operations and cash flows. See Note 5 for further discussion regarding the financial impact of COVID-19.

Financial instruments with off-balance sheet risk: The Bank is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, credit card participations and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the consolidated balance sheets.

The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit, credit card participations and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. A summary of the Bank’s commitments at ~~March 31,~~September 30, 2021 and December 31, 2020 is as follows:


		March 31, 2021		December 31, 2020			September 30, 2021		December 31, 2020
		(Amounts In Thousands)					(Amounts In Thousands)
Firm loan commitments and unused portion of lines of credit:	Firm loan commitments and unused portion of lines of credit:					Firm loan commitments and unused portion of lines of credit:
Home equity loans	Home equity loans	$	75,059	$	69,974	Home equity loans	$	79,686	$	69,974
Credit cards	Credit cards	61,828		60,535		Credit cards	64,910		60,535
Commercial, real estate and home construction	Commercial, real estate and home construction	155,666		118,186		Commercial, real estate and home construction	173,754		118,186
Commercial lines and real estate purchase loans	Commercial lines and real estate purchase loans	279,335		234,907		Commercial lines and real estate purchase loans	297,858		234,907
Outstanding letters of credit	Outstanding letters of credit	8,310		8,056		Outstanding letters of credit	7,523		8,056

Note 10.Income Taxes

Federal income tax expense for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020 was computed using the consolidated effective federal tax rate. The Company also recognized income tax expense pertaining to state franchise taxes payable individually by the subsidiary bank. The Company files a consolidated tax return for federal purposes and separate tax returns for State of Iowa purposes. The tax years ended December 31, 2020, 2019, and 2018 remain subject to examination by the

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Internal Revenue Service. For state tax purposes, the tax years ended December 31, 2020, 2019, and 2018 remain open for

~~Page 48~~

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~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

examination. There were no material unrecognized tax benefits at ~~March 31,~~September 30, 2021 and December 31, 2020 and therefore no interest or penalties on unrecognized tax benefits has been recorded. As of ~~March 31,~~September 30, 2021, the Company does not anticipate any significant increase in unrecognized tax benefits during the twelve-month period ending ~~March 31,~~September 30, 2022. Income taxes as a percentage of income before taxes were ~~22.29%~~22.58% for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and ~~20.34%~~22.43% for the same period in 2020.

Note 11.Derivative Financial Instruments

In the normal course of business, the Bank may use derivative financial instruments to manage its interest rate risk. These instruments carry varying degrees of credit, interest rate and market or liquidity risks. Derivative instruments are recognized as either assets or liabilities in the accompanying financial statement and are measured at fair value. The Bank’s objectives are to add stability to its net interest margin and to manage its exposure to movements in interest rates. The contract or notional amount of a derivative is used to determine, along with the other terms of the derivative, the amount to be exchanged between the counterparties. The Bank is exposed to credit risk in the event of nonperformance by counterparties to financial instruments. The Bank minimizes this risk by entering into derivative contracts with large, stable financial institutions. The Bank has not experienced any losses from nonperformance by counterparties. The Bank monitors counterparty risk in accordance with the provisions of ASC 815. In addition, the Bank’s interest rate-related derivative instruments contain language outlining collateral pledging requirements for each counterparty. Collateral must be posted when the market value exceeds certain threshold limits which are determined by credit ratings of each counterparty. The Bank terminated one interest rate swap in December 2020 and the other matured in November 2020, therefore the Bank was not required to pledge collateral as of ~~March 31,~~September 30, 2021 and December 31, 2020.

Cash Flow Hedges:

The Bank executed 2 forward-starting interest rate swap transactions on November 7, 2013. NaN of the interest rate swap transactions had an effective date of November 9, 2015, and an expiration date of November 9, 2020, effectively converting $25.00 million of variable rate debt to fixed rate debt. The other interest rate swap transaction had an effective date of November 7, 2016 and an expiration date of November 7, 2023, effectively converting $25.00 million of variable rate debt to fixed rate debt. For accounting purposes, these swap transactions were designated as a cash flow hedge of the changes in cash flows attributable to changes in three-month LIBOR, the benchmark interest rate being hedged, associated with the interest payments made on an amount of the Bank’s debt principal equal to the then-outstanding swap notional amount. At inception, the Bank asserted that the underlying principal balance would remain outstanding throughout the hedge transaction making it probable that sufficient LIBOR-based interest payments would exist through the maturity date of the swaps. The Bank terminated the remaining interest rate swap in December 2020 and in connection with the termination paid $2.684 million ~~million~~ to the counterparty. The losses realized on the interest rate swap were reclassified into the income statement from other comprehensive income. In connection with the termination of the swap, the related FHLB borrowings were paid off. There were no remaining derivative instruments designated as cash flow hedges as of ~~March 31,~~September 30, 2021 and December 31, 2020.

~~Page 49~~

~~Index~~

~~HILLS BANCORPORATION~~

~~NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)~~

~~(Unaudited)~~

There were no gains ~~and~~or losses recognized on the Bank's derivative instruments designated as cash flow hedges for the ~~three~~nine months ended ~~March 31,~~September 30, 2021. The table below identifies the gains and losses recognized on the Bank’s derivative instruments designated as cash flow hedges for the ~~three~~nine months ended ~~March 31,~~September 30, 2020:

Recognized
in OCI Reclassified from AOCI into
Income Recognized in Income on
Derivatives
Amount of
Gain (Loss) Category Amount
of Gain
(Loss) Category Amount
of Gain
(Loss)
(Amounts in Thousands)
March 31, 2020
Interest rate swap $ (58) Interest Expense $ 0 Other Income $ 0
Interest rate swap (766) Interest Expense 0 Other Income 0

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Recognized
in OCI

Reclassified from AOCI into
Income

Recognized in Income on
Derivatives

Amount of
(Loss)

Category

Amount
of Gain
(Loss)

(Amounts in Thousands)

September 30, 2020

Interest rate swap

Interest Expense

—

Other Income

—

Interest rate swap

(626)

Interest Expense

—

Other Income

—

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Item 2.			Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following is management’s discussion and analysis of the financial condition of Hills Bancorporation (“Hills Bancorporation” or “the Company”) and its banking subsidiary Hills Bank and Trust Company (“the Bank”) for the dates and periods indicated. The discussion and analysis should be read in conjunction with the consolidated financial statements and the accompanying footnotes.

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:

•The strength of the United States economy in general and the strength of the local economies in which the Company conducts its operations which may be less favorable than expected and may result in, among other things, a deterioration in the credit quality and value of the Company’s assets.

•The effects of recent financial market disruptions and/or an economic recession, and monetary and other governmental actions designed to address such ~~disruptions.~~disruptions, including in response to the COVID-19 pandemic.

•The financial strength of the counterparties with which the Company or the Company’s customers do business and as to which the Company has investment or financial exposure.

•The credit quality and credit agency ratings of the securities in the Company’s investment securities portfolio, a deterioration or downgrade of which could lead to recognition of an allowance for credit losses or other-than-temporary impairment of the affected securities and the recognition of an impairment loss.

•The effects of, and changes in, laws, regulations and policies affecting banking, securities, insurance and monetary and financial matters as well as any laws otherwise affecting the ~~Company.~~Company, including, but not limited to, potential changes in U.S. tax laws and regulations.

•The effects of changes in interest rates (including the effects of changes in the rate of prepayments of the Company’s assets) and the policies of the Board of Governors of the Federal Reserve System.

•The ability of the Company to compete with other financial institutions as effectively as the Company currently intends due to increases in competitive pressures in the financial services sector.

•The ability of the Company to obtain new customers and to retain existing customers.

•The timely development and acceptance of products and services, including products and services offered through alternative electronic delivery channels.

•Technological changes implemented by the Company and by other parties, including third party vendors, which may be more difficult or more expensive than anticipated or which may have unforeseen consequences to the Company and its customers.

•The ability of the Company to develop and maintain secure and reliable technology systems.

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HILLS BANCORPORATION

•The ability of the Company to retain key executives and employees and the difficulty that the Company may experience in replacing key executives and employees in an effective manner.

•Consumer spending and saving habits which may change in a manner that affects the Company’s business adversely.

•The economic impact of natural disasters, diseases and/or pandemics, ~~such as~~including any extended impact from the COVID-19 pandemic, and terrorist attacks and military actions.

•Business combinations and the integration of acquired businesses and assets which may be more difficult or expensive than expected.

•The costs, effects and outcomes of existing or future litigation.

•Changes in accounting policies and practices that may be adopted by state and federal regulatory agencies and the Financial Accounting Standards Board.

•The ability of the Company to manage the risks associated with the foregoing as well as anticipated.

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.

COVID-19: ~~What the~~Update on Company ~~knows~~Action and ~~what steps we have taken.~~Ongoing Risks

~~The outbreak of Coronavirus Disease~~In December 2019, ~~(“COVID-19”) has~~a novel coronavirus (COVID-19) was reported in China, and, ~~will continue to adversely impact a broad range of industries~~ in ~~which~~March 2020, the ~~Company’s customers operate and impair their ability to fulfill their financial obligations to the Company. The~~ World Health Organization ~~has~~ declared it a pandemic. On March 12, 2020, the President of the United States declared the COVID-19 outbreak in the United States a national emergency. The COVID-19 pandemic caused significant economic dislocation in the United States as many state and local governments ordered non-essential businesses to beclose and residents to shelter in place at home, which resulted in an unprecedented slow-down in economic activity and a ~~global pandemic indicating that almost all public commerce~~related increase in unemployment throughout most of 2020 and ~~related business activities must be, to varying degrees, curtailed with the goal of decreasing the rate of new infections.~~into 2021.

~~The spread~~Government response to the COVID-19 pandemic was sweeping, including passage of the ~~outbreak has caused significant~~Coronavirus Aid, Relief and Economic Security (CARES) Act which was signed into law on March 27, 2020. Congress, the Federal Reserve Bank and the other U.S. state and federal financial regulatory agencies have taken actions to mitigate disruptions to economic activity and financial stability resulting from the COVID-19 pandemic. In addition, the federal banking agencies have encouraged financial institutions to prudently work with affected borrowers and passed measures to provide relief from reporting loan classifications due to modifications related to the COVID-19 outbreak.

The broader U.S. and global economies slowly began reopening during the first half of 2021 as vaccines against COVID-19 became widely available.However, labor and supply disruptions resulting from the global pandemic continue, and the emergence of a new and more infectious variant of COVID-19 is creating ongoing health and safety concerns that may lead to further disruptions in local, national and global economies.

While significant progress has been made to combat the ~~U.S. economy~~outbreak of COVID-19, and while it appears that the epidemiological and macroeconomic conditions are trending in a positive direction as of September 30, 2021, if there is ~~highly likely to disrupt banking and other financial activity~~a resurgence in the areas in which the Company operates and could also potentially create widespread business continuity issues for the Company. The Company’s business is dependent upon the willingness and ability of its employees and customers to conduct banking and other financial transactions. If the global response to contain COVID-19 escalates or is unsuccessful,virus, the Company could experience ~~a material~~further adverse ~~effect~~effects on its business, financial condition, results of operations and cash flows.

~~Communities~~

~~Offices~~

~~With the health of our employees and customers being our top concern, the Bank implemented the following changes in response to the pandemic:~~

•~~Plexiglass windows on our teller stations and reception areas~~

•~~A limit on the number of people who can be in the lobbies at one time~~

•~~Transaction areas and reusable items will be frequently cleaned~~

•~~Hand sanitizing stations located at each entrance~~

•~~Floor stickers to guide social distancing while waiting in line~~

•~~Require both customers and employees to wear protective face coverings, among other social distancing requirements for both customers and employees.~~

Drive-thru services remain available as well as all ATM’s to complete needed transactions. Customers are also able to directly contact our bankers through calling the customer contact center, engaging with a digital banker via the HERE by Hills Bank app, or through Hills Bank Online which is available 24/7.

Lending Assistance

The Bank continues to ~~promote social distancing by encouraging employees who can~~ work ~~remotely to do so and in other cases, departments have been dispersed to keep the team separated. The Bank has also arranged for vaccinations to be available for~~

~~Page 52~~

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~~HILLS BANCORPORATION~~

employees. We do not anticipate significant challenges to our ability to maintain our systems and controls in light of the measures we have taken to prevent the spread of COVID-19. No material operational or internal control challenges or risks have been identified to date.

~~Customers~~

~~Loans~~

With the Federal Reserve rate decreases, a surge in home loan activity has occurred, a significant portion of which is refinance related. The Bank sells most of its home loans into the secondary market and has seen a significant increase in the net gain on the sale of these loans.

~~The Bank is working~~ with customers ~~who request forbearance agreements and has also provided~~to determine how best to serve them, including providing short-term modifications for customers primarily through deferrals of principal only payments for three to six months. Throughout 2020, COVID-19 related payment deferrals provided for customers totaled approximately 14.82% of total loans. As of ~~March 31,~~September 30, 2021 and December 31, 2020, COVID-19 related payment deferrals were approximately ~~0.50%~~0.13% and 1.20% of total loans, respectively.

The Bank continues to assist customers through this difficult time in the best manner possible by providing $127.10 million of Paycheck Protection Program (PPP) loans through December 31, 2020. With the passage of the Coronavirus Response and

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Relief Supplemental Appropriations Act 2021 in late December 2020, the Bank ~~has~~ provided additional PPP loans in 2021 totaling ~~$46.65~~$58.34 million through ~~March 31,~~September 30, 2021 to further assist our customers. The PPP loans have a two or five year term and earn interest at 1%. Loans funded through the PPP program are fully guaranteed by the U.S. government if certain criteria are met. The Bank believes that the majority of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program. As of ~~March 31,~~September 30, 2021, the Bank has outstanding PPP loan balances of ~~$82.35~~$24.55 million and has received total forgiveness payments ~~totaling $90.31~~of $160.48 million from the SBA.

Financial - Exposures

As discussed above, throughout the first quarter of 2021 and the year ended 2020, the Company provided a significant number of PPP loans to customers as well as short-term loan modifications deferring principal and interest or principal only for three to six months. During late summer and fall, a significant number of the COVID-19 related short-term loan modifications expired with the majority of customers able to return to scheduled payments. A small percentage of customers have requested additional pandemic-related modifications described above.

Section 4013 of the CARES Act, “Temporary Relief From Troubled Debt Restructurings,” allows financial institutions the option to temporarily suspend certain requirements under GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. In March 2020, various regulatory agencies, including the FRB and the FDIC, issued an interagency statement, effective immediately, on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not to be considered TDRs. This includes short-term (e.g., six months) modifications, such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. As of March 31, 2021, the total amount of the eligible loans in deferral (deferral of principal and/or interest) that met the requirements set forth under the interagency statement and therefore were not considered TDRs was 16 loans, totaling $9.6 million. The Bank anticipates that the current and future economic conditions will continue to have an impact on the initial modifications that were made that qualified under such criteria.

The COVID-19 pandemic ~~represents~~continues to represent an unprecedented challenge to the global economy in general and the financial services sector in particular. However, given the emergence of a new and more infectious variant of COVID-19 along with the hesitancy of a significant portion of the U.S. population to become vaccinated, there is still significant uncertainty regarding the overall length of the pandemic and the aggregate impact that it will have on global and regional economies, including uncertainties regarding the potential positive effects of governmental actions taken in response to the pandemic during 2020. With so much uncertainty, it is impossible for the Bank to accurately predict the impact that the pandemic will have on the Bank’s primary markets and the overall extent to which it will affect the Bank’s financial condition and results of operations into 2021. Nonetheless, management believes that the Bank’s current regulatory capital position is adequate to face the coming challenges.

To account for potential exposures resulting from the pandemic, the Bank has increased its allowance for credit losses under CECL for the quarter ended March 31, 2021 by approximately $2.86 million when compared to the allowance for loan losses under the incurred loss methodology as of December 31, 2019. The Bank is fully prepared to make additional provisions as warranted by the COVID-19 situation. The Bank anticipates that a significant portion of the Bank’s borrowers in the hospitality

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industry, which represents approximately 0.2% of our loan portfolio, will endure significant economic distress which will adversely affect their ability to repay existing indebtedness. These developments, together with economic conditions generally, are also expected to impact the value of certain collateral securing our loans.

pandemic. Our credit administration iscontinues to closely ~~monitoring~~monitor and ~~analyzing~~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, we currently expect to be able to manage the economic risks and uncertainties associated with the pandemic and remain adequately capitalized. However, the Company may be required to make additional loan loss provisions as warranted by the fluid COVID-19 situation.

~~The Company continued to maintain the payment of its annual dividend consistent with its past practices.~~

~~Government Response~~

Congress, the FRB and the other U.S. state and federal financial regulatory agencies have taken actions to mitigate disruptions to economic activity and financial stability resulting from the COVID-19 pandemic. The federal banking agencies have encouraged financial institutions to prudently work with affected borrowers and passed measures to provide relief from reporting loan classifications due to modifications related to the COVID-19 outbreak. The descriptions below summarize additional significant government actions taken in response to the COVID-19 pandemic. The descriptions are qualified in their entirety by reference to the particular statutory or regulatory provisions or government programs summarized.

~~The CARES Act~~

The Coronavirus Aid, Relief and Economic Security (CARES) Act was signed into law on March 27, 2020. Among other provisions, the CARES Act includes funding for the SBA to expand lending, relief from certain U.S. GAAP requirements to allow COVID-19-related loan modifications to not be categorized as troubled debt restructurings and a range of incentives to encourage deferment, forbearance or modification of consumer credit and mortgage contracts. One of the key CARES Act programs is the Paycheck Protection Program, which temporarily expanded the SBA’s business loan guarantee program to include forgivable loans used for permissible purposes, which were issued under the program through August 8, 2020. Paycheck Protection Program loans are available to a broader range of entities than ordinary SBA loans, and the loan may be forgiven in an amount equal to payroll costs and certain other expenses during either an eight-week or twenty-four week “covered period.” The Bank is participating in this program as described above.

The CARES Act contains additional protections for homeowners and renters of properties with federally-backed mortgages, including a 60-day moratorium on the initiation of foreclosure proceedings beginning on March 18, 2020 and a 120-day moratorium on initiating eviction proceedings effective March 27, 2020. These foreclosure and eviction moratoriums have been extended through June 2021 by the Federal Housing Administration. Borrowers of federally-backed mortgages have the right under the CARES Act to request up to 360 days of forbearance on their mortgage payments if they experience financial hardship directly or indirectly due to the coronavirus-related public health emergency.

Also pursuant to the CARES Act, the U.S. Treasury has the authority to provide loans, guarantees and other investments in support of eligible businesses, states and municipalities affected by the economic effects of COVID-19. Some of these funds have been used to support several FRB programs and facilities described below or additional programs or facilities that are established by its authority under Section 13(3) of the Federal Reserve Act and meeting certain criteria.

~~Coronavirus Response and Relief Supplemental Appropriations Act 2021~~

On December 21, 2020, the House and Senate passed legislation to supply the latest round of COVID-19 relief, authorizing more than $900 billion in economic aid to small businesses and consumers—the second largest stimulus in history, behind only the CARES (Coronavirus Aid Relief and Economic Security) Act that Congress enacted in March. The bill also includes appropriations provisions to keep the government funded through September 30, 2021, as well as a host of miscellaneous items.

The summary below focuses on key banking provisions while omitting significant provisions on many other important topics, including an extension of enhanced unemployment insurance and funding for vaccine distribution, school reopening, and the airline industry.

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~~In particular, the banking aspects of the package include the following:~~

a.~~An additional $284.6 billion in Paycheck Protection Program (PPP) funding for loans to small businesses, including for borrowers who have previously received a PPP loan.~~

b.~~A one-page simplified forgiveness process for PPP loans under $150,000.~~

c.~~Clarification to various CARES Act provisions, the tax treatment of PPP expenses, lender responsibilities for agent fees, and lender “hold harmless” protections under the PPP and other laws.~~

d.~~A further delay in Troubled Debt Restructuring (TDR) accounting until 60 days after the termination of the national emergency, or January 1, 2022.~~

e.~~A further optional delay in Current Expected Credit Loss (CECL) accounting until January 1, 2022.~~

f.~~A new round of Economic Impact Payments (EIPs) for consumers, with aggressive distribution timelines and new exemptions from garnishments.~~

g.~~Significant added support for Community Development Financial Institutions (CDFIs) and Minority Depository Institutions (MDIs).~~

h.~~Funding for agricultural support programs and for renter assistance programs.~~

i.~~Termination of existing Federal Reserve emergency lending authority under the CARES Act, while preserving the Fed’s general 13(3) emergency authority existing prior to that Act.~~

~~FRB Actions~~

The FRB has taken a range of actions to support the flow of credit to households and businesses. For example, on March 15, 2020, the FRB reduced the target range for the federal funds rate to 0 to 0.25% and announced that it would increase its holdings of U.S. Treasury securities and agency mortgage-backed securities and begin purchasing agency commercial mortgage-backed securities. The FRB has also encouraged depository institutions to borrow from the discount window and has lowered the primary credit rate for such borrowing by 150 basis points while extending the term of such loans up to 90 days. Reserve requirements have been reduced to zero as of March 26, 2020.

In addition, the FRB has established, or has taken steps to establish, a range of facilities and programs to support the U.S. economy and U.S. marketplace participants in response to economic disruptions associated with COVID-19. Through these facilities and programs, the FRB, relying on its authority under Section 13(3) of the Federal Reserve Act, has taken steps to directly or indirectly purchase assets from, or make loans to, U.S. companies, financial institutions, municipalities and other market participants.

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Critical Accounting Policies

On January 1, 2021, the Company adopted ASU 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires the allowance for credit losses use the current expected credit loss (CECL) methodology. The following is a discussion of the methodologies used by the Company both pre- and post-adoption of ASC 326.

Post-ASC 326 CECL Adoption:

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 5 - Loans and Note 4 - Securities) and the fair value of debt securities (see Note 4 - 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-Q.

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

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segregated into loan classes. Loans are designated into loan classes based on loans pooled by product types and similar risk

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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:

•Lending policies and procedures;

•International, national, regional and local economic business conditions and developments that affect the collectability of the portfolio, including the condition of various markets;

•The nature of the loan portfolio, including the terms of the loans;

•The experience, ability and depth of the lending management and other relevant staff;

•The volume and severity of past due and adversely classified or graded loans and the volume of nonaccrual loans;

•The quality of our loan review and process;

•The value of underlying collateral for collateral-dependent loans;

•The existence and effect of any concentrations of credit and changes in the level of such concentrations; and

•The effect of external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in the existing portfolio.

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 expense for credit loss 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 an expense for credit losses, 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 5 - Loans in the notes to the financial statements of this Form 10-Q.

Pre-ASC 326 CECL Adoption:

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 loan losses. The Company's allowance for loan losses methodology incorporates a variety of risk considerations, both quantitative and qualitative in establishing an allowance for loan losses that management believes is appropriate at each reporting date. Quantitative factors include the Company's historical loss experience, delinquency and charge-off trends, collateral values, changes in impaired loans, and other factors. Quantitative factors also incorporate known information about individual loans, including borrowers' sensitivity to interest rate movements. Qualitative factors include the general economic environment in the Company's markets, including economic conditions throughout the Midwest and the state of certain industries. Determinations relating to the possible level of future loan losses are based in part on subjective judgments by management. Future loan losses in excess of current estimates, could materially adversely affect our results of operations or financial position. Size and complexity of individual credits in relation to loan structure, existing loan policies and pace of portfolio growth are other qualitative factors that are considered in the methodology. As the Company adds new products and increases the complexity of its loan portfolio, it will enhance its methodology accordingly. This discussion of the Company’s critical accounting policies should be read in conjunction with the Company’s consolidated financial statements and the

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accompanying notes presented elsewhere herein, as well as other relevant portions of Management’s Discussion and Analysis of Financial Condition and Results of Operations. Although management believes the levels of the allowance as of December 31, 2020 was adequate to absorb probable losses inherent in the loan portfolio, a decline in local economic conditions, or other factors, could result in increasing losses that cannot be reasonably predicted at this time.

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Overview

This overview highlights selected information and may not contain all of the information that is important to you in understanding our performance during the period. For a more complete understanding of trends, events, commitments, uncertainties, liquidity, capital resources, and critical accounting estimates, you should carefully read this entire report.

The Company is a holding company engaged in the business of commercial banking. The Company’s subsidiary is Hills Bank and Trust Company, Hills, Iowa (the “Bank”), which is wholly-owned. 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. At ~~March 31,~~September 30, 2021, the Bank has nineteen full-service locations.

Net income for the ~~three~~nine month period ended ~~March 31,~~September 30, 2021 was ~~$15.20~~$41.93 million compared to ~~$7.08~~$30.22 million for the same ~~three~~nine months of 2020, an increase of ~~114.80%~~38.77%. The ~~$8.12~~$11.72 million increase in net income was caused by a number of factors. The principal factors in the increase in net income for the first ~~three~~nine months of 2021 are a reversal in the credit loss reserves of ~~$2.98~~$4.56 million, primarily due to improvements in economic factor forecasts, historical loss rates and net recoveries year-to-date; an increase in noninterest income of ~~$2.87 million,~~$5.06 million; and an increase in net interest income of ~~$1.64~~$4.05 million.

The Company achieved a return on average assets of ~~1.29%~~1.32% and a return on average equity of ~~11.67%~~12.14% for the twelve months ended ~~March 31,~~September 30, 2021, compared to the twelve months ended ~~March 31,~~September 30, 2020, which were ~~1.26%~~1.22% and ~~11.49%~~11.00%, respectively. The return on average assets and return on average equity for the nine months ended September 30, 2021 were 1.43% and 13.32%, respectively, compared to the nine months ended September 30, 2020, which were 1.16% and 10.33%, respectively. Dividends of $0.94 per share were paid in January 2021 to 2,701 shareholders. The dividend paid in January 2020 was $0.89 per share.

The Company’s net interest income is the largest component of revenue and it is primarily a function of the average earning assets and the net interest margin percentage. The Company achieved a net interest margin on a tax-equivalent basis of ~~2.90%~~2.83% for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to ~~3.16%~~3.05% for the same ~~three~~nine months of 2020. Average earning assets were ~~$3.734~~$3.823 billion year to date in 2021 and ~~$3.186~~$3.362 billion in 2020.

Highlights noted on the balance sheet as of ~~March 31,~~September 30, 2021 for the Company included the following:

•Total assets were ~~$4.003~~$4.086 billion, an increase of ~~$222.66~~$305.47 million since December 31, 2020.

•Cash and cash equivalents were ~~$819.44~~$869.10 million, an increase of ~~$245.13~~$294.79 million since December 31, 2020. ~~Cash and cash equivalents growth included approximately $104 million of temporary public funds.~~ A portion of the increase can ~~also~~ be attributed to increased savings with the current negative economic environment due to the ~~pandemic.~~pandemic and equity investors fleeing volatile capital markets in an effort to preserve principal. Also, cash and cash equivalents included approximately $100 million of temporary public funds.

•Net loans were ~~$2.664~~$2.630 billion, a decrease of ~~$53.81~~$88.02 million since December 31, 2020. The decrease is primarily attributable to the Bank receiving ~~$48.90~~$120.07 million of PPP loan forgiveness payments from the SBA for the ~~three~~nine months ended ~~March 31,~~September 30, 2021. Loans held for sale decreased ~~$24.37~~$33.21 million since December 31, 2020.

•Tax credit real estate increased by ~~$4.01~~$3.35 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021, primarily attributable to a $4.18 million investment in a multi-family affordable housing rental property.

•Deposits increased ~~$218.76~~$275.69 million since December 31, 2020. ~~Deposit~~A portion of the increase can be attributed to increased savings with the current negative economic environment due to the pandemic. Also, deposit growth included approximately ~~$104~~$100 million in temporary public funds.

•Liabilities as of ~~March 31,~~September 30, 2021 include ~~$4.34~~$4.58 million of allowance for credit losses on off-balance sheet credit exposures ~~upon~~under CECL compared to zero under the ~~adoption~~incurred loss model as of ~~CECL starting January 1, 2021.~~December 31, 2020.

Reference is made to Note 7 for a discussion of fair value measurements which relate to methods used by the Company in recording assets and liabilities on its financial statements.

~~Financial Condition~~

~~The COVID-19 pandemic has created significant uncertainty regarding projecting loan demand throughout 2021.~~

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Financial Condition

The COVID-19 pandemic has created significant uncertainty regarding projecting loan demand throughout 2021.

The following table sets forth the composition of the loan portfolio as of ~~March 31,~~September 30, 2021 and December 31, 2020:


		March 31, 2021				December 31, 2020					September 30, 2021				December 31, 2020
		Amount		Percent		Amount		Percent			Amount		Percent		Amount		Percent
		(Amounts In Thousands)				(Amounts In Thousands)					(Amounts In Thousands)				(Amounts In Thousands)
Agricultural	Agricultural	$	96,042	3.58	%	$	94,842	3.50	%	Agricultural	$	94,210	3.55	%	$	94,842	3.50	%
Commercial and financial	Commercial and financial	281,337		10.50		286,242		10.56		Commercial and financial	228,181		8.60		286,242		10.56
Real estate:	Real estate:									Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	73,162		2.73		71,117		2.62		Construction, 1 to 4 family residential	73,167		2.76		71,117		2.62
Construction, land development and commercial	Construction, land development and commercial	110,850		4.14		111,913		4.13		Construction, land development and commercial	118,623		4.47		111,913		4.13
Mortgage, farmland	Mortgage, farmland	246,665		9.20		247,142		9.12		Mortgage, farmland	241,650		9.11		247,142		9.12
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	876,585		32.71		892,089		32.92		Mortgage, 1 to 4 family first liens	898,333		33.85		892,089		32.92
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	119,794		4.47		127,833		4.72		Mortgage, 1 to 4 family junior liens	115,308		4.34		127,833		4.72
Mortgage, multi-family	Mortgage, multi-family	376,867		14.06		374,014		13.80		Mortgage, multi-family	389,805		14.69		374,014		13.80
Mortgage, commercial	Mortgage, commercial	413,964		15.45		417,139		15.39		Mortgage, commercial	410,050		15.45		417,139		15.39
Loans to individuals	Loans to individuals	30,070		1.12		31,325		1.16		Loans to individuals	32,235		1.21		31,325		1.16
Obligations of state and political subdivisions	Obligations of state and political subdivisions	54,788		2.04		56,488		2.08		Obligations of state and political subdivisions	52,299		1.97		56,488		2.08
		$	2,680,124	100.00	%	$	2,710,144	100.00	%		$	2,653,861	100.00	%	$	2,710,144	100.00	%
Net unamortized fees and costs	Net unamortized fees and costs	1,071				938				Net unamortized fees and costs	927				938
		$	2,681,195			$	2,711,082				$	2,654,788			$	2,711,082
Less allowance for credit losses (2021) and loan losses (2020)	Less allowance for credit losses (2021) and loan losses (2020)	36,620				37,070				Less allowance for credit losses (2021) and loan losses (2020)	35,590				37,070
		$	2,644,575			$	2,674,012				$	2,619,198			$	2,674,012

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The Bank has an established formal loan origination policy. In general, the loan origination policy attempts to reduce the risk of credit loss to the Bank by requiring, among other things, maintenance of minimum loan to value ratios, evidence of appropriate levels of insurance carried by borrowers and documentation of appropriate types and amounts of collateral and sources of expected payment. The collateral relied upon in the loan origination policy is generally the property being financed by the Bank. The source of expected payment is generally the income produced from the property being financed. Personal guarantees are required of individuals owning or controlling at least 20% of the ownership of an entity. Limited or proportional guarantees may be accepted in circumstances if approved by the Company’s Board of Directors. Financial information provided by the borrower is verified as considered necessary by reference to tax returns, or audited, reviewed or compiled financial statements. The Bank does not originate subprime loans. In order to modify, restructure or otherwise change the terms of a loan, the Bank’s policy is to evaluate each borrower situation individually. Modifications, restructures, extensions and other changes are done to improve the Bank’s position and to protect the Bank’s capital. If a borrower is not current with its payments, any additional loans to such borrowers are evaluated on an individual borrower basis.

The Company has not experienced any significant time lapses in recognizing the required provisions for collateral dependent loans, nor has the Company delayed appropriate charge offs. When an updated appraisal value has been obtained, the Company has used the appraisal amount in determining the appropriate charge off or required reserve. The Company also evaluates any changes in the financial condition of the borrower and guarantors (if applicable), economic conditions, and the Company’s loss experience with the type of property in question. Any information utilized in addition to the appraisal is intended to identify additional charge offs or provisions, not to override the appraised value.

In accordance with Staff Accounting Bulletin No. 102, Selected Loan Loss Allowance Methodology and Documentation Issues, and Staff Accounting Bulletin No. 119, which aligns the staff's guidance with FASB ASC Topic 326, or CECL, the Company determines and assigns ratings to loans using factors that include the following: an assessment of the financial condition of the borrower; a realistic determination of the value and adequacy of underlying collateral; the condition of the local economy and the condition of the specific industry of the borrower; an analysis of the levels and trends of loan categories; and a review of delinquent and classified loans.

Through the credit risk rating process, loans are reviewed to determine if they are performing in accordance with the original contractual terms. If the borrower has failed to comply with the original contractual terms, further action may be required by the Company, including a downgrade in the credit risk rating, movement to non-accrual status, a charge-off or the establishment of a specific reserve. In the event a collateral shortfall is identified during the credit review process, the Company will work with the borrower for a principal reduction and/or a pledge of additional collateral and/or additional guarantees. In the event that these options are not available, the loan may be subject to a downgrade of the credit risk rating. If the Company determines a loan amount or portion thereof, is uncollectible, the loan’s credit risk rating may be downgraded and the uncollectible amount charged-off or recorded as a specific allowance for losses. The Bank’s credit and legal departments undertake a thorough and ongoing analysis to determine if additional specific reserves and/or charge-offs are appropriate and to begin a workout plan for the loan to minimize actual losses.

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The following table presents the allowance for credit losses as of ~~March 31,~~September 30, 2021 and December 31, 2020 by loan category, the percentage of the allowance for each category to the total allowance, and the percentage of all loans in each category to total loans:


		March 31, 2021						December 31, 2020							September 30, 2021						December 31, 2020
		Amount		% of Total Allowance		% of Loans to Total Loans		Amount		% of Total Allowance		% of Loans to Total Loans			Amount		% of Total Allowance		% of Loans to Total Loans		Amount		% of Total Allowance		% of Loans to Total Loans
		(In Thousands)						(In Thousands)							(In Thousands)						(In Thousands)
Agricultural	Agricultural	$	2,147	5.86	%	3.58	%	$	2,508	6.77	%	3.50	%	Agricultural	$	2,118	5.95	%	3.55	%	$	2,508	6.77	%	3.50	%
Commercial and financial	Commercial and financial	5,114		13.97		10.50		4,885		13.18		10.56		Commercial and financial	4,348		12.22		8.60		4,885		13.18		10.56
Real estate:	Real estate:													Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	770		2.10		2.73		907		2.45		2.62		Construction, 1 to 4 family residential	762		2.14		2.76		907		2.45		2.62
Construction, land development and commercial	Construction, land development and commercial	1,518		4.15		4.14		1,412		3.81		4.13		Construction, land development and commercial	1,535		4.31		4.47		1,412		3.81		4.13
Mortgage, farmland	Mortgage, farmland	4,668		12.75		9.20		4,173		11.26		9.12		Mortgage, farmland	4,663		13.10		9.11		4,173		11.26		9.12
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	7,973		21.78		32.71		10,871		29.32		32.92		Mortgage, 1 to 4 family first liens	7,922		22.26		33.85		10,871		29.32		32.92
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	3,523		9.62		4.47		1,497		4.04		4.72		Mortgage, 1 to 4 family junior liens	2,942		8.27		4.34		1,497		4.04		4.72
Mortgage, multi-family	Mortgage, multi-family	3,410		9.31		14.06		4,462		12.04		13.80		Mortgage, multi-family	3,713		10.43		14.69		4,462		12.04		13.80
Mortgage, commercial	Mortgage, commercial	6,211		16.96		15.45		4,953		13.36		15.39		Mortgage, commercial	6,505		18.28		15.45		4,953		13.36		15.39
Loans to individuals	Loans to individuals	907		2.48		1.12		752		2.03		1.16		Loans to individuals	633		1.78		1.21		752		2.03		1.16
Obligations of state and political subdivisions	Obligations of state and political subdivisions	379		1.02		2.04		650		1.74		2.08		Obligations of state and political subdivisions	449		1.26		1.97		650		1.74		2.08
		$	36,620	100.00	%	100.00	%	$	37,070	100.00	%	100.00	%		$	35,590	100.00	%	100.00	%	$	37,070	100.00	%	100.00	%

The allowance for credit losses (ACL) totaled ~~$36.62~~$35.59 million at ~~March 31,~~September 30, 2021 compared to the allowance for loan losses under the incurred loss method of $37.07 million at December 31, 2020. The percentage of the allowance to outstanding loans was ~~1.37%~~1.34% and 1.37% at ~~March 31,~~September 30, 2021 and December 31, 2020, respectively. The allowance was based on management’s consideration of a number of factors, including composition of the loan portfolio, loans with higher credit risks and the overall amount of loans outstanding. Due to the adoption of ASC 326 (CECL) in 2021, the ACL under CECL will not be comparable to the allowance for loan losses in 2020. The changes in the ACL in 2021 compared to December 31, 2020 is the result of the following factors: $2.75 million increase upon adoption of ASC 326 (CECL) on January 1, 2021; changes after adoption for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 include improvements in the economic factor forecasts, primarily Iowa unemployment, used in the ACL calculation which resulted in a decrease of ~~$1.12~~$1.14 million; decrease in loan volume which resulted in a decrease of ~~$0.64~~$0.75 million; changes in prepayment and curtailment rates resulting in a decrease of ~~$0.55~~$1.03 million; ~~and~~ decreases in historical loss rates along with net recoveries ~~in the first quarter of 2021~~ resulting in a decrease of ~~$0.89~~$2.07 million; decreases in the individually analyzed loans reserve of $0.42 million; and increases in qualitative factors determined necessary by management which resulted in an increase of $0.71 million.

The adequacy of the allowance is reviewed quarterly and adjusted as appropriate after consideration has been given to the impact of economic conditions on the borrowers’ ability to repay, loan collateral values, past collection experience, the risk characteristics of the loan portfolio and such other factors that deserve current recognition. The growth of the loan portfolio and the trends in problem and watch loans are significant elements in the determination of the provision for credit losses. Quantitative factors include the Company’s historical loss experience, which is then adjusted for levels and trends in past due, levels and trends in charged-off and recovered loans, trends in volume growth, trends in problem and watch loans, trends in restructured loans, local economic trends and conditions, industry and other conditions, and effects of changing interest rates.

Management has determined that the allowance for credit losses was adequate at ~~March 31,~~September 30, 2021, and that the loan portfolio is diversified and secured, without undue concentration in any specific risk area. This process involves a high degree of management judgment; however, the allowance for credit losses is based on a comprehensive, well documented, and

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consistently applied analysis of the Company’s loan portfolio. This analysis takes into consideration all available information existing as of the financial statement date, including environmental factors such as economic, industry, geographical and

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~~HILLS BANCORPORATION~~

political factors. The relative level of allowance for credit losses is reviewed and compared to industry data. This review encompasses levels of total collateral-dependent loans, portfolio mix, portfolio concentrations, current geographic risks and overall levels of net charge-offs.

Investment securities available for sale held by the Company increased by ~~$25.34~~$92.89 million from December 31, 2020 to ~~March 31,~~September 30, 2021. The fair value of securities available for sale was ~~$8.00~~$5.69 million more than the amortized cost of such securities as of ~~March 31,~~September 30, 2021. At December 31, 2020, the fair value of the securities available for sale was $11.70 million more than the amortized cost of such securities.

Deposits increased ~~$218.76~~$275.69 million in the first ~~three~~nine months of 2021 primarily due to ~~temporary public funds of approximately $104 million and the start of disbursement of 2021 PPP loan funds to customers' accounts. A portion of the increase can also be attributed to~~increased savings with the current negative economic ~~environment creating volatility in the equity markets.~~environment. In the opinion of the Company’s management, the Company continues to have sufficient liquidity resources available to fund expected additional loan growth.

Brokered deposits are included in total deposits and totaled ~~$73.19~~$51.58 million as of ~~March 31,~~September 30, 2021 with an average rate of ~~0.33%~~0.36%. Brokered deposits were $74.08 million as of December 31, 2020 with an average interest rate of 0.34%. As of ~~March 31,~~September 30, 2021 and December 31, 2020, brokered deposits were ~~2.15%~~1.49% and 2.32% of total deposits, respectively.

Federal Home Loan Bank (FHLB) borrowings were $105 million as of ~~March 31,~~September 30, 2021 and December 31, 2020. ~~It is expected that the~~The FHLB funding source ~~will be~~is considered ~~in the future if~~when loan growth exceeds core deposit increases and the interest rates on funds borrowed from the FHLB are favorable compared to other funding alternatives.

Dividends and Equity

In January 2021, Hills Bancorporation paid a dividend of $8.77 million or $0.94 per share. The dividend paid in January 2020 was $0.89 per share. After payment of the dividend and the adjustment for accumulated other comprehensive income, stockholders’ equity as of ~~March 31,~~September 30, 2021 totaled ~~$413.25~~$436.30 million. 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.

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. As of March 31, 2020, 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 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 ~~March 31,~~September 30, 2021 and December 31, 2020, the Company had regulatory capital in excess of the Federal Reserve’s minimum and well-capitalized definition requirements. The actual amounts and capital ratios as of ~~March 31,~~September 30, 2021 and December 31, 2020 are presented below (amounts in thousands):


		Actual				For Capital Adequacy Purposes			Actual				For Capital Adequacy Purposes
		Amount		Ratio		Ratio			Amount		Ratio		Ratio
As of March 31, 2021:
As of September 30, 2021:								As of September 30, 2021:
Company:	Company:							Company:
Community Bank Leverage ratio	Community Bank Leverage ratio	$	452,880	11.77	%	8.500	%	Community Bank Leverage ratio	$	478,368	11.99	%	8.500	%

Bank:	Bank:							Bank:
Community Bank Leverage ratio	Community Bank Leverage ratio	453,527		11.80		8.500		Community Bank Leverage ratio	478,951		12.01		8.500

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	Actual				For Capital Adequacy Purposes
	Amount		Ratio		Ratio
As of December 31, 2020:
Company:
Community Bank Leverage ratio	$	452,123	11.91	%	8.00	%

Bank:
Community Bank Leverage ratio	453,073		11.94		8.00

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Discussion of operations for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020

Net Income Overview

Net income increased ~~$8.12~~$11.72 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to the first ~~three~~nine months of 2020. Total net income was ~~$15.20~~$41.93 million in 2021 and ~~$7.08~~$30.22 million in the comparable period in 2020, an increase of ~~114.80%~~38.77%. The changes in net income in 2021 from the first ~~three~~nine months of 2020 were primarily the result of the following:

•Net interest income increased by ~~$1.64~~$4.05 million, before credit loss expense, attributable in large part to a $7.31 million decrease in interest rate expense.

•For the ~~three~~nine months ended ~~March 31,~~September 30, 2021, a reversal of credit loss reserves was recorded totaling ~~$2.98~~$4.56 million. This represents a decrease of ~~$7.63~~$9.06 million from the provision for loan losses under the incurred loss model of ~~$4.65~~$4.50 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2020.

•Noninterest income increased by ~~$2.87~~$5.06 million.

•Noninterest expenses increased by ~~$1.47~~$2.96 million.

•Income tax expense increased by ~~$2.55~~$3.49 million.

For the ~~three~~nine month period ended ~~March 31,~~September 30, 2021 and ~~March 31,~~September 30, 2020 basic earnings per share was ~~$1.63~~$4.50 and ~~$0.75,~~$3.22, respectively. Diluted earnings per share was ~~$1.63~~$4.50 for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to ~~$0.75~~$3.22 for the same period in 2020.

The Company’s net income for the period was driven primarily by three important factors. The first important factor is credit loss expense recorded under CECL. The majority of the Company’s interest-earning assets are in loans outstanding, which amounted to more than ~~$2.664~~$2.630 billion at ~~March 31,~~September 30, 2021. Expected credit loss expense is computed on a quarterly basis and is a result of management’s determination of the quality of the loan portfolio. The expense reflects a number of factors, including the size of the loan portfolio, the overall composition of the loan portfolio and loan concentrations, the borrowers’ ability to repay, past loss experience, loan collateral values, the level of collateral-dependent loans and loans past due ninety days or more. In addition, management considers the credit quality of the loans based on management’s review of problem and watch loans, including loans with historically higher credit risk. Credit loss expense was a reduction of expense of ~~$2.98~~$4.56 million in 2021 under CECL compared to an expense of ~~$4.65~~$4.50 million in 2020 under the incurred loss model. The decrease is ~~primarily~~ attributable to improvements in the economic factor forecasts, primarily Iowa unemployment, and continued improvement in asset quality, relative to the sizable expense taken for the first ~~quarter~~half of 2020 from management increases to qualitative factors as a result of the significant economic uncertainties surrounding the pandemic, used in the determination of the allowance for credit losses which resulted in a decrease of $1.12 million; a decrease in loan volume which resulted in a decrease of $0.64 million; and decreases in historical loss rates along with net recoveries in the first quarter of 2021 resulting in a decrease of $0.89 million.pandemic. The Company believes that credit loss expense is expected to be dependent on the Company’s loan growth, local economic conditions, including, but not limited to, conditions associated with the COVID-19 pandemic and the attendant risks and uncertainties related thereto, asset quality and will continue to have potential volatility for the foreseeable future resulting from the adoption of CECL in the first quarter and the uncertainties due to the COVID-19 pandemic.

The second important factor affecting the Company’s net income is the interaction between changes in net interest margin and changes in average volumes of the Bank's earnings assets. Net interest income of ~~$26.23~~$79.45 million for the first ~~three~~nine months of 2021 was derived from the Company’s ~~$3.734~~$3.823 billion of average earning assets during that period and its tax-equivalent net interest margin of ~~2.90%~~2.83%. Average earning assets in the ~~three~~nine months ended ~~March 31,~~September 30, 2020 were ~~$3.186~~$3.362 billion and the tax-equivalent net interest margin was ~~3.16%~~3.05%. Net interest income for the Company increased primarily as a result of the continued low interest rates on interest bearing deposits resulting in decreased interest expenses. The Company expects net interest compression to impact earnings for the foreseeable future due to competition for loans and deposits combined with the interest rate decreases by the Federal Reserve Board. The Company believes growth in net interest income will be contingent on the growth of the Company’s earning assets and maintaining yield on loans. ~~A significant portion of the increase in the loan portfolio is attributable to PPP loans. The Company anticipates most PPP loans will be forgiven in accordance with the SBA's requirements.~~

The third significant factor affecting the Company’s net income is noninterest income, primarily net gain on the sale of ~~loans.~~loans and trust fees. The net gain on the sale of loans was ~~$3.00~~$6.24 million and ~~$0.66~~$4.86 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020, respectively, an increase of ~~356.38%~~28.48% for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to the same period in 2020. ~~Loans originated for sale in the first three months of 2021 totaled $128.29 million compared to $55.61 million in the same period in 2020, an increase of 130.70%.~~ The amount of the net gain on sale of secondary market mortgage loans in each year can vary significantly. The volume of activity in these types of loans is directly related to the level of interest rates and has been significantly impacted by the Federal Reserve Board's reduction of the federal funds rate to 0.25%, resulting in a significant amount of mortgage loan refinance activity. Trust fees were $9.65 million and $7.45 million for the nine months ended September 30, 2021 and 2020, respectively, an increase of 29.46% for the nine months ended September 30, 2021 compared to the same period in 2020. This is primarily driven by the increase in assets under management of $0.45 billion from $1.98 billion as of September 30, 2020 to $2.43 billion as of September 30, 2021.

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Discussion of operations for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020

Net Interest Income

Net interest income increased for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to the comparable period in 2020. The increase was a result of the continued low interest rates on interest bearing deposits resulting in decreased interest expenses. The decrease in interest expense more than compensated for the decrease in interest income associated with the low rate environment. Net interest income is the excess of the interest and fees earned on interest-earning bearing assets over the interest expense of the interest-bearing liabilities. The factors that have the greatest impact on net interest income are the average volume of earning assets for the period and the net interest margin. The net interest margin for the first ~~three~~nine months of 2021 was ~~2.90%~~2.83% compared to ~~3.16%~~3.05% in 2020 for the same period. Interest expense decreased ~~$2.97~~$7.31 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to the ~~three~~nine months ended ~~March 31,~~September 30, 2020 primarily due to decreasing interest rates on deposits. The measure is shown on a tax-equivalent basis using a tax rate of 21% to make the interest earned on taxable and non-taxable assets more comparable. The change in average balances and average rates between periods and the effect on the net interest income on a tax equivalent basis for the ~~three~~nine months ended in 2021 compared to the comparable period in 2020 are shown in the following table:


						Increase (Decrease) in Net Interest Income											Increase (Decrease) in Net Interest Income
		Change in Average Balance		Change in Average Rate		Volume Changes		Rate Changes		Net Change			Change in Average Balance		Change in Average Rate		Volume Changes		Rate Changes		Net Change
		(Amounts in Thousands)											(Amounts in Thousands)
Interest income:	Interest income:											Interest income:
Loans, net	Loans, net	$	49,578	(0.17)	%	$	688	$	(1,383)	$	(695)	Loans, net	$	(40,757)	(0.07)	%	$	(1,648)	$	(1,406)	$	(3,054)
Taxable securities	Taxable securities	37,716		(0.56)		115		(181)		(66)		Taxable securities	58,102		(0.52)		607		(634)		(27)
Nontaxable securities	Nontaxable securities	7,606		(0.30)		52		(173)		(121)		Nontaxable securities	23,396		(0.33)		468		(548)		(80)
Federal funds sold	Federal funds sold	452,815		(1.16)		1,408		(1,882)		(474)		Federal funds sold	419,563		(0.24)		1,134		(1,283)		(149)
		$	547,715			$	2,263	$	(3,619)	$	(1,356)		$	460,304			$	561	$	(3,871)	$	(3,310)

Interest expense:	Interest expense:											Interest expense:
Interest-bearing demand deposits	Interest-bearing demand deposits	$	241,137	(0.48)	%	$	(438)	$	1,223	$	785	Interest-bearing demand deposits	$	200,364	(0.32)	%	$	(804)	$	2,423	$	1,619
Savings deposits	Savings deposits	193,898		(0.39)		(176)		895		719		Savings deposits	219,772		(0.19)		(499)		1,434		935
Time deposits	Time deposits	98		(0.47)		42		793		835		Time deposits	(37,519)		(0.46)		638		2,246		2,884
FHLB borrowings	FHLB borrowings	(80,000)		(0.11)		601		28		629		FHLB borrowings	(80,000)		(0.10)		1,789		81		1,870
Interest-bearing other liabilities	Interest-bearing other liabilities	(1)		(1.29)		—		—		—		Interest-bearing other liabilities	(1)		(0.79)		—		—		—
		$	355,132			$	29	$	2,939	$	2,968		$	302,616			$	1,124	$	6,184	$	7,308
Change in net interest income	Change in net interest income					$	2,292	$	(680)	$	1,612	Change in net interest income					$	1,685	$	2,313	$	3,998

Rate/volume variances are allocated on a consistent basis using the absolute values of changes in volume compared to the absolute values of the changes in rates. Interest on nontaxable securities and loans is shown on a tax-equivalent basis.

A summary of the net interest spread and margin is as follows:


(Tax Equivalent Basis)	2021		2020
Yield on average interest-earning assets	3.30	%	3.88	%
Rate on average interest-bearing liabilities	0.63		1.08
Net interest spread	2.67	%	2.80	%
Effect of noninterest-bearing funds	0.16		0.25
Net interest margin (tax equivalent interest income divided by average interest-earning assets)	2.83	%	3.05	%

(Tax Equivalent Basis) 2021 2020
Yield on average interest-earning assets 3.43 % 4.15 %
Rate on average interest-bearing liabilities 0.70 1.27
Net interest spread 2.73 % 2.88 %
Effect of noninterest-bearing funds 0.17 0.28
Net interest margin (tax equivalent interest income divided by average interest-earning assets) 2.90 % 3.16 %

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Discussion of operations for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020

In pricing loans and deposits, the Bank considers the U.S. Treasury indexes as benchmarks in determining interest rates. The Federal Open Market Committee met ~~three~~six times during the first ~~three~~nine months of 2021. The target rate decreased to 0.25% as of March 31, 2020. Interest rates on loans are generally affected by the target rate since interest rates for the U.S. Treasury market normally increase or decrease when the Federal Reserve Board raises or lowers the federal funds rate. As of ~~March 31,~~September 30, 2021, the rate indexes for the one, three and five year indexes were ~~0.07%~~0.09%, ~~0.35%~~0.53% and ~~0.92%~~0.98%, ~~respectively~~.respectively. The one year index decreased ~~58.82%~~25.00% from ~~0.17%~~0.12% at ~~March 31,~~September 30, 2020, the three year index increased ~~17.14%~~231.25% and the five year index increased ~~148.65%~~250.00%. The three year index was ~~0.29%~~0.16% and the five year index was ~~0.37%~~0.28% at ~~March 31,~~September 30, 2020. The targeted federal funds rate was 0.25% ~~and 0.25%~~ at ~~March 31,~~September 30, 2021 and ~~2020, respectively.~~2020. The Company anticipates short term and long term rates in the indexes to remain consistent ~~for~~throughout 2021.

Credit Loss Expense

Credit loss expense was a reduction of expense of ~~$2.98~~$4.56 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to an expense of ~~$4.65~~$4.50 million in 2020 under the incurred loss model, a decrease of expense of ~~$7.63~~$9.06 million. Credit loss expense is the amount necessary to adjust the allowance for credit losses to the level considered by management to appropriately account for the estimated current expected credit losses within the Bank's loan portfolio. The credit loss expense taken to fund the allowance for credit losses is computed on a quarterly basis and is a result of management’s determination of the quality of the loan portfolio. The expense reflects a number of factors, including the size of the loan portfolio, the overall composition of the loan portfolio and loan concentrations, the impact on the borrowers’ ability to repay, past loss experience, loan collateral values, the level of collateral-dependent loans and loans past due ninety days or more. In addition, management considers the credit quality of the loans based on management’s review of problem and watch loans, including loans with historically higher credit risks. Also, under CECL, a significant component in estimating expected credit losses are economic forecasts such as Iowa unemployment, national real gross domestic product (GDP), all-transactions house price index for Iowa, Iowa real GDP, and the commercial real estate price index (CRE Index). The Company believes that credit loss expense is expected to be dependent on the Company’s loan growth, local economic conditions, including, but not limited to, conditions associated with the COVID-19 pandemic and the attendant risks and uncertainties related thereto, asset quality and will continue to have potential volatility for the foreseeable future resulting from the adoption of CECL in the first quarter and the uncertainties due to the COVID-19 pandemic.

The allowance for credit losses balance is affected by charge-offs, net of recoveries, for the periods presented. For the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020, recoveries were ~~$0.72~~$2.19 million and ~~$0.37~~$1.28 million, respectively; and charge-offs were ~~$0.17~~$0.86 million in 2021 and ~~$0.44~~$2.48 million in 2020. The allowance for credit losses totaled ~~$36.62~~$35.59 million at ~~March 31,~~September 30, 2021 compared to $37.07 million for the allowance for loan losses under the incurred loss model as of December 31, 2020. The allowance represented ~~1.37%~~1.34% and 1.37% of loans held for investment at ~~March 31,~~September 30, 2021 and December 31, 2020.

Noninterest Income

The following table sets forth the various categories of noninterest income for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020.


		Three Months Ended March 31,									Nine Months Ended September 30,
		2021		2020		$ Change		% Change			2021		2020		$ Change		% Change
		(Amounts in thousands)									(Amounts in thousands)
Net gain on sale of loans	Net gain on sale of loans	$	3,003	$	658	$	2,345	356.38	%	Net gain on sale of loans	$	6,243	$	4,859	$	1,384	28.48	%
Trust fees	Trust fees	3,013		2,570		443		17.24		Trust fees	9,645		7,450		2,195		29.46
Service charges and fees	Service charges and fees	2,540		2,529		11		0.43		Service charges and fees	8,729		7,427		1,302		17.53
Other noninterest income	Other noninterest income	482		400		82		20.50		Other noninterest income	647		462		185		40.04
Gain on sale of investment securities	Gain on sale of investment securities	—		10		(10)		(100.00)		Gain on sale of investment securities	—		10		(10)		(100.00)
		$	9,038	$	6,167	$	2,871	46.55			$	25,264	$	20,208	$	5,056	25.02

~~Loans originated for sale in the first three~~

months of 2021 totaled $128.29 million compared to $55.61 million in the same period in 2020, an increase of 130.70%. In the three months ended March 31, 2021 and 2020, the net gain on sale of loans was

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Discussion of operations for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020

~~$3.00~~In the nine months ended September 30, 2021 and 2020, the net gain on sale of loans was $6.24 million and ~~$0.66~~$4.86 million, respectively. The amount of the net gain on sale of secondary market mortgage loans in each year can vary significantly. The volume of activity, margin and demand in these types of loans is directly related to the level of interest rates. The primary reason for the increase in 2021 compared to 2020 is the increased margin per loan in 2021. The servicing of the loans sold into the secondary market is not retained by the Company so these loans do not provide an ongoing stream of income.

Trust fees increased ~~$0.44~~$2.20 million to ~~$3.01~~$9.65 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 compared to the same period in 2020. This is due to the increase in assets under management of ~~$0.60~~$0.45 billion from ~~$1.65~~$1.98 billion as of ~~March 31,~~September 30, 2020 to ~~$2.26~~$2.43 billion as of ~~March 31,~~September 30, 2021.

Service charges and fees increased $1.30 million to $8.73 million for the nine months ended September 30, 2021 compared to the same period in 2020, primarily due to increased debit card interchange fees from increased volume of transactions.

Other noninterest income categories experienced marginal period-to-period fluctuations for the nine months ended September 30, 2021.

Noninterest Expenses

The following table sets forth the various categories of noninterest expenses for the nine months ended September 30, 2021 and 2020.


	Nine Months Ended September 30,
	2021		2020		$ Change		% Change
	(Amounts in thousands)
Salaries and employee benefits	$	31,484	$	29,818	$	1,666	5.59	%
Occupancy	3,135		3,248		(113)		(3.48)
Furniture and equipment	5,523		5,778		(255)		(4.41)
Office supplies and postage	1,268		1,333		(65)		(4.88)
Advertising and business development	1,480		1,479		1		0.07
Outside services	9,781		8,020		1,761		21.96
FDIC insurance assessment	777		617		160		25.93
Other noninterest expense	1,668		1,861		(193)		(10.37)
	$	55,116	$	52,154	$	2,962	5.68

In the nine months ended September 30, 2021 and 2020, salaries and employee benefits expense increased $1.67 million. The increase is primarily the result of increased variable compensation due to the increase in loans originated for sale and processing of PPP loans.

Outside services increased $1.76 million to $9.78 million for the nine months ended September 30, 2021 compared to the same period in 2020, primarily due to increases in data processing expenses with the continued increases in mortgage refinance activity and other non-interest income.

Other noninterest expense categories experienced marginal period-to-period fluctuations for the nine months ended September 30, 2021.

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HILLS BANCORPORATION

Discussion of operations for the three months ended ~~March 31,~~September 30, 2021 and 2020

Net Income Overview

Net income increased $1.70 million for the three months ended September 30, 2021 compared to the same period in 2020. Total net income was $13.13 million in 2021 and $11.43 million in the comparable period in 2020, an increase of 14.83%. For the three month periods ended September 30, 2021 and 2020 basic earnings per share was $1.41 and $1.22, respectively. Diluted earnings per share was $1.41 for the three months ended September 30, 2021 compared to $1.22 for the same period in 2020.

Net Interest Income

Net interest income increased for the three months ended September 30, 2021 compared to the comparable period in 2020. The increase was a result of the continued low interest rates on interest bearing deposits resulting in decreased interest expenses. The decrease in interest expense more than compensated for the decrease in interest income associated with the low rate environment. Net interest income is the excess of the interest and fees earned on interest-earning bearing assets over the interest expense of the interest-bearing liabilities. The factors that have the greatest impact on net interest income are the average volume of earning assets for the period and the net interest margin. Interest expense decreased $2.29 million for the three months ended September 30, 2021 compared to the three months ended September 30, 2020 primarily due to decreasing interest rates on deposits. The net interest margin for the three months ended September 30, 2021 was 2.82% compared to 2.90% in 2020 for the same period. The measure is shown on a tax-equivalent basis using a tax rate of 21% to make the interest earned on taxable and non-taxable assets more comparable. The change in average balances and average rates between periods and the effect on the net interest income on a tax equivalent basis for the three months ended in 2021 compared to the comparable period in 2020 are shown in the following table:


					Increase (Decrease) in Net Interest Income
	Change in Average Balance		Change in Average Rate		Volume Changes		Rate Changes		Net Change
	(Amounts in Thousands)
Interest income:
Loans, net	$	(111,056)	0.07	%	$	(1,428)	$	663	$	(765)
Taxable securities	79,512		(0.49)		295		(244)		51
Nontaxable securities	35,003		(0.35)		231		(194)		37
Federal funds sold	350,448		0.05		89		97		186
	$	353,907			$	(813)	$	322	$	(491)

Interest expense:
Interest-bearing demand deposits	$	155,850	(0.20)	%	$	(159)	$	541	$	382
Savings deposits	235,776		(0.09)		(143)		249		106
Time deposits	(85,287)		(0.48)		435		740		1,175
FHLB borrowings	(80,000)		(0.12)		600		30		630
Interest-bearing other liabilities	(3)		0.12		—		—		—
	$	226,336			$	733	$	1,560	$	2,293
Change in net interest income					$	(80)	$	1,882	$	1,802

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HILLS BANCORPORATION

Discussion of operations for the three months ended September 30, 2021 and 2020

A summary of the net interest spread and margin is as follows:


(Tax Equivalent Basis)	2021		2020
Yield on average interest-earning assets	3.24	%	3.62	%
Rate on average interest-bearing liabilities	0.57		0.96
Net interest spread	2.67	%	2.66	%
Effect of noninterest-bearing funds	0.15		0.24
Net interest margin (tax equivalent interest income divided by average interest-earning assets)	2.82	%	2.90	%

Credit Loss Expense

Credit loss expense was an expense of $0.08 million for the three months ended September 30, 2021 compared to a reduction of expense of $0.16 million in 2020 under the incurred loss model, an increase of expense of $0.24 million. Credit loss expense is the amount necessary to adjust the allowance for credit losses to the level considered by management to appropriately account for the estimated current expected credit losses within the Bank's loan portfolio. The credit loss expense taken to fund the allowance for credit losses is computed on a quarterly basis and is a result of management’s determination of the quality of the loan portfolio. The expense reflects a number of factors, including the size of the loan portfolio, the overall composition of the loan portfolio and loan concentrations, the impact on the borrowers’ ability to repay, past loss experience, loan collateral values, the level of collateral-dependent loans and loans past due ninety days or more. In addition, management considers the credit quality of the loans based on management’s review of problem and watch loans, including loans with historically higher credit risks. The Company believes that credit loss expense is expected to be dependent on the Company’s loan growth, local economic conditions, including, but not limited to, conditions associated with the COVID-19 pandemic and the attendant risks and uncertainties related thereto, asset quality and will continue to have potential volatility for the foreseeable future resulting from the adoption of CECL in the first quarter and the uncertainties due to the COVID-19 pandemic.

The allowance for credit losses balance is affected by charge-offs, net of recoveries, for the periods presented. For the three months ended September 30, 2021 and 2020, recoveries were $0.65 million and $0.47 million, respectively; and charge-offs were $0.59 million in 2021 and $0.87 million in 2020.

Noninterest Income

The following table sets forth the various categories of noninterest income for the three months ended September 30, 2021 and 2020.


	Three Months Ended September 30,
	2021		2020		$ Change		% Change
	(Amounts in thousands)
Net gain on sale of loans	$	1,512	$	2,303	$	(791)	(34.35)	%
Trust fees	3,568		2,494		1,074		43.06
Service charges and fees	3,075		2,636		439		16.65
Other noninterest income	89		77		12		15.58

	$	8,244	$	7,510	$	734	9.77

Trust fees increased $1.07 million to $3.57 million for the three months ended September 30, 2021 compared to the same period in 2020. This is due to the increase in assets under management of $0.45 billion from $1.98 billion as of September 30, 2020 to $2.43 billion as of September 30, 2021. Service charges and fees increased $0.44 million to $3.08 million for the three months ended September 30, 2021 compared to the same period in 2020, primarily due to increased debit card interchange fees from increased volume of transactions. Other noninterest income categories experienced marginal period-to-period fluctuations for the three months ended September 30, 2021.

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HILLS BANCORPORATION

Discussion of operations for the three months ended September 30, 2021 and 2020

Noninterest Expenses

The following table sets forth the various categories of noninterest expenses for the three months ended ~~March 31,~~September 30, 2021 and 2020.

Three Months Ended March 31,
2021 2020 $ Change % Change
(Amounts in thousands)
Salaries and employee benefits $ 10,564 $ 9,584 $ 980 10.23 %
Occupancy 1,138 1,152 (14) (1.22)
Furniture and equipment 1,983 1,781 202 11.34
Office supplies and postage 454 503 (49) (9.74)
Advertising and business development 535 759 (224) (29.51)
Outside services 3,188 2,685 503 18.73
FDIC insurance assessment 258 180 78 43.33
Other noninterest expense 579 583 (4) (0.69)
$ 18,699 $ 17,227 $ 1,472 8.54

In the three months ended March 31, 2021 and 2020, salaries and employee benefits expense increased $0.98 million. The increase is primarily the result of annual salary adjustments, hiring of additional employees to staff growth, increased variable compensation due to the increase in loans originated for sale described above and increased overtime due to the increase in loans originated for sale and processing of PPP loans.


	Three Months Ended September 30,
	2021		2020		$ Change		% Change
	(Amounts in thousands)
Salaries and employee benefits	$	10,281	$	10,108	$	173	1.71	%
Occupancy	955		1,067		(112)		(10.50)
Furniture and equipment	1,652		2,028		(376)		(18.54)
Office supplies and postage	428		425		3		0.71
Advertising and business development	496		340		156		45.88
Outside services	3,496		2,818		678		24.06
FDIC insurance assessment	267		223		44		19.73
Other noninterest expense	623		1,046		(423)		(40.44)
	$	18,198	$	18,055	$	143	0.79

Outside services increased ~~$0.50~~$0.68 million to ~~$3.19~~$3.50 million compared to the same period in 2020, primarily due to ~~anticipated~~ increases in data and card processing expenses with the continued ~~significant~~increase in mortgage refinance activity and other ~~professional services.~~non-interest income.

Other noninterest expense ~~categories experienced marginal period-to-period fluctuations~~decreased for the three months ended ~~March 31, 2021.~~September 30, 2021 compared to the same period in 2020 due to a legal settlement in 2020 that did not recur.

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HILLS BANCORPORATION

Income Taxes

Federal and state income tax expenses were ~~$4.36~~$12.23 million and ~~$1.81~~$8.74 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2021 and 2020, respectively. Income taxes as a percentage of income before taxes were ~~22.29%~~22.58% in 2021 and ~~20.34%~~22.43% in 2020.

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~~HILLS BANCORPORATION~~

Liquidity

The Company actively monitors and manages its liquidity position with the objective of maintaining sufficient cash flows to fund operations, meet client commitments, take advantage of market opportunities and provide a margin against unforeseeable liquidity needs. Federal funds sold and investment securities available for sale are readily marketable assets. Maturities of all investment securities are managed to meet the Company’s normal liquidity needs, to respond to market changes or to adjust the Company’s interest rate risk position. Investment securities available for sale comprised ~~10.83%~~12.27% of the Company’s total assets at ~~March 31,~~September 30, 2021 compared to 10.80% at December 31, 2020.

The Company has historically maintained a stable deposit base and a relatively low level of large deposits, which has mitigated the volatility in the Company’s liquidity position. As of ~~March 31,~~September 30, 2021, the Company had borrowed $105.00 million from the Federal Home Loan Bank (“FHLB”) of Des Moines. Advances are used as a means of providing both long and short-term, fixed-rate funding for certain assets and for managing interest rate risk. The Company had additional borrowing capacity available from the FHLB of approximately ~~$747.37~~$748.05 million at ~~March 31,~~September 30, 2021.

As additional sources of liquidity, the Company has the ability to borrow up to $10.00 million from the Federal Reserve Bank of Chicago, and has lines of credit with three banks totaling ~~$513.53~~$538.95 million. The borrowings under these credit lines would be secured by the Bank’s investment securities. The combination of high levels of potentially liquid assets, low dependence on volatile liabilities and additional borrowing capacity provided sources of liquidity for the Company which management considered sufficient at ~~March 31,~~September 30, 2021.

As of ~~March 31,~~September 30, 2021, investment securities with a carrying value of ~~$10.17~~$10.14 million were pledged to collateralize public and trust deposits, derivative financial instruments, and other borrowings. As of December 31, 2020, investment securities with a carrying value of $10.23 million were pledged.

Contractual Obligations

There have been no material changes with regard to contractual obligations disclosed in the Company’s Form 10-K for the year ended December 31, 2020.

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HILLS BANCORPORATION


Item 3.			Quantitative and Qualitative Disclosures about Market Risk

The Company's primary market risk exposure is to changes in interest rates. Interest rate risk is the risk to current or anticipated earnings or capital arising from movements in interest rates. Interest rate risk arises from repricing risk, basis risk, yield curve risk and options risk. Repricing risk is the difference between the timing of rate changes and the timing of cash flows. Basis risk is the difference from changing rate relationships among different yield curves affecting Bank activities. Yield curve risk is the difference from changing rate relationships across the spectrum of maturities. Option risk is the difference resulting from interest-related options imbedded in Bank products. The Bank’s primary source of interest rate risk exposure arises from repricing risk. To measure this risk the Bank uses a static gap measurement system that identifies the repricing gaps across the full maturity spectrum of the Bank’s assets and liabilities and an earnings simulation approach. The gap schedule is known as the interest rate sensitivity report. The report reflects the repricing characteristics of the Bank’s assets and liabilities. The report details the calculation of the gap ratio. This ratio indicates the amount of interest-earning assets repricing within a given period in comparison to the amount of interest-bearing liabilities repricing within the same period of time. A gap ratio of 1.0 indicates a matched position, in which case the effect on net interest income due to interest rate movements will be minimal. A gap ratio of less than 1.0 indicates that more liabilities than assets reprice within the time period, and a ratio greater than 1.0 indicates that more assets reprice than liabilities.

The Company's asset/liability management, or its management of interest rate risk, is focused primarily on evaluating and managing net interest income given various risk criteria. Factors beyond the Company's control, such as market interest rates and competition, may also have an impact on the Company's interest income and interest expense. In the absence of other factors, the Company's overall yield on interest-earning assets will increase as will its cost of funds on its interest-bearing liabilities when market interest rates increase over an extended period of time. Inversely, the Company's yields and cost of funds will decrease when market rates decline. The Company is able to manage these swings to some extent by attempting to control the maturity or rate adjustments of its interest-earning assets and interest-bearing liabilities over given periods of time.

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~~HILLS BANCORPORATION~~

The Bank maintains an Asset/Liability Committee, which meets at least quarterly to review the interest rate sensitivity position and to review and develop various strategies for managing interest rate risk within the context of the following factors: 1) capital adequacy, 2) asset/liability mix, 3) economic outlook, 4) market characteristics and 5) the interest rate forecast. In addition, the Bank uses a simulation model to review various assumptions relating to interest rate movement. The model attempts to limit rate risk even if it appears the Bank’s asset and liability maturities are perfectly matched and a favorable interest margin is present. The Bank’s policy is to generally maintain a balance between profitability and interest rate risk.

In order to minimize the potential effects of adverse material and prolonged increases or decreases in market interest rates on the Company's operations, management has implemented an asset/liability program designed to mitigate the Company's interest rate sensitivity. The program emphasizes the origination of adjustable rate loans, which are held in the portfolio, the investment of excess cash in short or intermediate term interest-earning assets, and the solicitation of transaction deposit accounts, which are less sensitive to changes in interest rates and can be re-priced rapidly.

There have been no material changes in the Bank's interest rate risk, as monitored by management, since December 31, 2020. Such risk remains elevated due to the significant Federal Reserve rate cuts in the first quarter of 2020 and the continued low interest rate environment.


Item 4.			Controls and Procedures

The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective, as of the end of the period covered by this report, in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by the Company in the reports it files with the Securities and Exchange Commission. There have been no changes in the Company’s internal controls over financial reporting during the ~~three~~nine months ended ~~March 31,~~September 30, 2021 that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.

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HILLS BANCORPORATION

PART II - OTHER INFORMATION


Item 1.			Legal Proceedings

None.


Item 1A.			Risk Factors

Except as otherwise provided below, there have been no material changes from the risk factors disclosed in the Company’s Form 10-K for the year ended December 31, 2020.

Our allowances for credit losses for loans and debt securities may prove inadequate or we may be negatively affected by credit risk exposures. Also, future additions to our allowance for credit losses will reduce our future earnings.

Our business depends on the creditworthiness of our customers. As with most financial institutions, we maintain allowances for credit losses for loans and debt securities to provide for defaults and nonperformance, which represent an estimate of expected losses over the remaining contractual lives of the loan and debt security portfolios. This estimate is the result of our continuing evaluation of specific credit risks and loss experience, current loan and debt security portfolio quality, present economic, political and regulatory conditions, industry concentrations, reasonable and supportable forecasts for future conditions and other factors that may indicate losses. The determination of the appropriate levels of the allowances for loan and debt security credit losses inherently involves a high degree of subjectivity and judgment and requires us to make estimates of current credit risks and future trends, all of which may undergo material changes. Generally, our nonperforming loans and OREO reflect operating difficulties of individual borrowers and weaknesses in the economies of the markets we serve. The allowances may not be adequate to cover actual losses, and future allowance for credit losses could materially and adversely affect our financial condition, results of operations and cash flows.

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~~Index~~

Our accounting policies and methods are fundamental to how we report our financial condition and results of operations, and we use estimates in determining the fair value of certain of our assets, the expected credit losses related to loans and debt securities, and the amount of other loss contingencies as of the balance sheet date, which estimates are subject to very large uncertainty.

A portion of our assets are carried on the balance sheet at fair value, including debt securities available for sale. Generally, for assets that are reported at fair value, we use quoted market prices or internal valuation models that utilize observable market data inputs to estimate their fair value as of the balance sheet date. In certain cases, observable market prices and data may not be readily available or their availability may be diminished due to market conditions. We use financial models to value certain of these assets. These models are complex and use asset-specific collateral data and market inputs for interest rates. Although we have processes and procedures in place governing internal valuation models and their testing and calibration, such assumptions are complex as we must make judgments about the effect of matters that are inherently uncertain. Different assumptions could have resulted in significant changes in valuation, which in turn would have affected earnings or resulted in significant changes in the dollar amount of assets reported on the balance sheet or both.

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Item 2.			Unregistered Sales of Equity Securities and Use of Proceeds

The following table sets forth information about the Company’s stock purchases, all of which were made pursuant to the 2005 Stock Repurchase Program, for the three months ended ~~March 31,~~September 30, 2021:

Period Total number of shares
purchased Average price paid per
share Total number of
shares purchased
as part of publicly
announced plans
or programs Maximum number
of shares that may
yet be purchased
under the plans
or programs (1)
January 1 to January 31 11,148 $ 61.60 11,148 139,227
February 1 to February 28 1,702 62.50 1,702 137,525
March 1 to March 31 8,002 63.50 8,002 129,523
Total 20,852 $ 62.88 20,852 129,523


Period	Total number of shares purchased	Average price paid per share		Total number of shares purchased as part of publicly announced plans or programs	Maximum number of shares that may yet be purchased under the plans or programs (1)
July 1 to July 31	6,627	$	65.50	6,627	114,168
August 1 to August 31	1,928	66.37		1,928	112,240
September 1 to September 30	11,001	66.50		11,001	101,239
Total	19,556	$	66.15	19,556	101,239

(1) On July 26, 2005, the Company’s Board of Directors authorized a program to repurchase up to 1,500,000 shares of the Company’s common stock (the “2005 Stock Repurchase Program”). The Company’s Board of Directors has authorized the 2005 Stock Repurchase Program through December 31, 2022. 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.

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Item 3.			Defaults upon Senior Securities

Hills Bancorporation has no senior securities.


Item 4.			Mine Safety Disclosure

Not applicable.


Item 5.			Other Information

None.

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Item 6.			Exhibits


3.1			Restated Articles of Incorporation, incorporated by reference to Exhibit 3.1 to the Company's Form 10-Q Filed with the Commission on May 6, 2015.
3.2			Amended and Restated Bylaws of Hills Bancorporation, incorporated by reference to Exhibit 3.2 to the Company's Form 10-Q Filed with the Commission on May 6, 2019.
4.1			Description of Registered Securities, incorporated by reference to Exhibit 4.1 to the Company's Form 10-K filed with the Commission on March 6, 2020.
~~10.1~~			~~Employment Agreement between the Company and Joseph A. Schueller, dated March 29, 2021.~~.
~~10.2~~			~~Restricted Stock Agreement between the Company and Joseph A. Schueller, dated March 29, 2021.~~.
31			Certifications under Section 302 of the Sarbanes-Oxley Act of 2002
32			Certifications under Section 906 of the Sarbanes-Oxley Act of 2002
101.INS			XBRL Instance Document (1), (2)
101.SCH			XBRL Taxonomy Extension Schema Document (1)
101.CAL			XBRL Taxonomy Extension Calculation Linkbase Document (1)
101.DEF			XBRL Taxonomy Extension Definition Linkbase Document (1)
101.LAB			XBRL Taxonomy Extension Label Linkbase Document (1)
101.PRE			XBRL Taxonomy Extension Presentation Linkbase Document (1)

(1)Users of this data are advised that, pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Section 11 or 12 of the Securities Act of 1933 or Section 18 of the Securities Exchange Act of 1934, and are otherwise not subject to liability under these sections.

(2)The instance document does not appear in the interactive data file because its XBRL tags are embedded within the inline XBRL document.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


		HILLS BANCORPORATION

Date:	~~May 7~~November 5, 2021	By: /s/ Dwight O. Seegmiller
		Dwight O. Seegmiller, Director, President and Chief Executive Officer

Date:	~~May 7~~November 5, 2021	By: /s/ Joseph A. Schueller
		Joseph A. Schueller, Treasurer, Chief Financial Officer and Chief Accounting Officer

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~~HILLS BANCORPORATION~~

~~QUARTERLY REPORT OF FORM 10-Q FOR THE~~

~~QUARTER ENDED MARCH 31, 2021~~

Exhibit
Number Description Page Number In The Sequential
Numbering System
March 31, 2021 Form 10-Q
10.1
Employment Agreement between the Company and Joseph A. Schueller, dated March 29, 2021..
76-79
10.2
Restricted Stock Agreement between the Company and Joseph A. Schueller, dated March 29, 2021..
80-85
31
Certifications under Section 302 of the Sarbanes-Oxley Act of 2002
86-87

32
Certifications under Section 906 of the Sarbanes-Oxley Act of 2002
88

~~Page 75~~


	Three Months Ended March 31, 2020
	Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
	(Amounts In Thousands)
Allowance for loan losses:
Beginning balance	$	2,400	$	4,988	$	2,599	$	3,950	$	10,638	$	7,859	$	1,326	$	33,760
Charge-offs	(4)		(15)		0		0		(229)		(2)		(190)		(440)
Recoveries	10		108		2		0		187		14		50		371
Provision	354		1,599		20		146		1,156		1,192		182		4,649

Ending balance	$	2,760	$	6,680	$	2,621	$	4,096	$	11,752	$	9,063	$	1,368	$	38,340

Ending balance, individually evaluated for impairment	$	217	$	1,534	$	0	$	3	$	176	$	0	$	2	$	1,932

Ending balance, collectively evaluated for impairment	$	2,543	$	5,146	$	2,621	$	4,093	$	11,576	$	9,063	$	1,366	$	36,408

Loans:

Ending balance	$	96,811	$	228,074	$	186,265	$	246,203	$	1,054,395	$	767,394	$	84,666	$	2,663,808

Ending balance, individually evaluated for impairment	$	1,884	$	3,853	$	418	$	4,130	$	8,773	$	3,669	$	2	$	22,729

Ending balance, collectively evaluated for impairment	$	94,927	$	224,221	$	185,847	$	242,073	$	1,045,622	$	763,725	$	84,664	$	2,641,079


Exhibit Number	Description	Page Number In The Sequential Numbering System March 31, 2021 Form 10-Q

10.1	Employment Agreement between the Company and Joseph A. Schueller, dated March 29, 2021..	76-79

10.2	Restricted Stock Agreement between the Company and Joseph A. Schueller, dated March 29, 2021..	80-85

31	Certifications under Section 302 of the Sarbanes-Oxley Act of 2002	86-87

32	Certifications under Section 906 of the Sarbanes-Oxley Act of 2002	88