What changed in this filing

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Item 7. Management’s Discussion and Analysis

2023-03-15 compared with 2022-03-09 · 143 added, 168 removed, 921 unchanged (25% of the section changed)

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The Bank is a full–service commercial bank offering commercial and retail banking services, corporate and individual trust and agency services, and other services incident to banking.

Fourth Quarter and Fully Year 2021 Highlights

• Net income totaled a record $87.1 million, or $1.98 diluted earnings per share for the year ended December 31, 2021 compared to $68.5 million, or $1.55 diluted earnings per share for the year ended December 31, 2020.

• Net interest income grew to a record $181.7 million for the year ended December 31, 2021, up 6.3% from the year ended December 31, 2020.

Reported net interest margin (“NIM”) was 3.13% and adjusted NIM was 3.06%, with reported NIM decreasing by 31 basis points and adjusted NIM decreasing by 32 basis points from the year ended December 31, 2020.

(See the “Non–GAAP Reconciliation of Net Interest Margin” table for the definition of this non–GAAP calculation of adjusted NIM.) Approximately 10 basis points of the NIM and adjusted NIM is attributed to Federal Paycheck Protection Program (“PPP”) lending, offset by an estimated 23 basis point compression attributed to excess liquidity during 2021.

During 2021, Horizon increased the average balance of its investment portfolio by $805.5 million to leverage capital and focus on increasing net interest income.

• The Company was asset sensitive as of December 31, 2021, resulting from the liquidity on the balance sheet, adjustable rate assets and the low betas on deposit pricing based on expected deposit rates.

Based on parallel rate shocks to the balance sheet, at a 100 basis point shock and 200 basis point shock, net interest income would increase approximately $10.0 million and $20.0 million, respectively.

• Commercial loans, excluding PPP and acquired loans, grew by 3.3% during 2021 to a record $2.15 billion, net of PPP and acquired loans, at period end.

• Consumer loans, excluding acquired loans, grew by 2.7% during 2021 to a record $727.3 million at period end, with record production of $397.1 million.

• Residential mortgage loans, excluding acquired loans, declined in–line with expectations by 13.8% during 2021 to $594.4 million at period end, as the addition of new producers and the launch of a new jumbo mortgage product aimed at second home buyers in Horizon's attractive second–home markets began to mitigate the impact of the industry–wide slowdown in mortgage lending from recent historic levels.

Mortgage loan revenues only constituted 10.8% of total revenue in 2021.

• Non–interest expense was $139.3 million in 2021, including ongoing operating expenses associated with the Michigan branch acquisition that closed on September 17, 2021.

Excluding acquisition–related expenses and non–recurring Employee Stock Ownership Plan (“ESOP”) settlement expense accrual, non–interest expense was $135.5 million, representing 2.08% of average assets for 2021, compared to $131.4 million, or 2.34%, for 2020.

Acquisition–related expenses totaled approximately $1.9 million in 2021.

(See the “Non–GAAP Reconciliation of Non–Interest Expense” table for the definition of this non–GAAP calculation of adjusted non–interest expense.)

• Horizon accrued $1.9 million of expense in December for a mediation settlement related to a dispute with the U.S.

Department of Labor (“DOL”) concerning valuations and sale transactions related to Horizon's ESOP trustee business.

Horizon is no longer in the ESOP trustee business and sold all accounts to a third party on September 30, 2021 and recorded a $2.3 million gain on the sale in the third quarter.

Fourth Quarter and Full Year 2022 Highlights

• Return on average assets (“ROAA”) was 1.24% for the year ended 2022.

• Return on average tangible equity was 18.33% for the year ended 2022.

• Total loans grew 13.4% year–to–date and 12.8% annualized during the fourth quarter.

• Commercial loans grew to a record $2.42 billion, up 13.4% year–to–date and 10.8% annualized during the fourth quarter.

• Consumer loans grew to a record $967.8 million, up 30.6% year–to–date and 21.0% annualized during the fourth quarter.

• Asset quality remained solid with total loan delinquency at 0.26% of total loans, net charge–offs to average loans of 0.02% and non–performing loans to total loans at 0.52%.

• Total deposits remained strong increasing $26.9 million during the quarter at an average cost of 71 basis points and $54.8 million year–to–date at an average cost of 30 basis points.

• An accounting revision was made to amounts reported in previously issued financial statements covering the years ended December 31, 2021 and 2020 related to immaterial errors discovered in the fourth quarter of 2022.

The errors relate to the inclusion of the dealer reserve amortization expense in loan expense in non–interest expenses for the years ended December 31, 2021 and 2020 rather than loan interest income.

The previously issued financial statements for the years ended December 31, 2021 and 2020 have been revised to correct this error, which resulted in lowering both interest income and non–interest expense by $5.9 million and $5.4 million, respectively.

In addition, net interest margin was lowered by ten basis points and eleven basis points for the years ended December 31, 2021 and 2020, respectively.

All periods presented reflect this adjustment, and there was no impact to net income.

See Note 1 of Horizon's Consolidated Financial Statements for further details.

• Non-interest expense was $35.7 million in the quarter, or 1.84% of average assets on an annualized basis, compared to $36.8 million, or 1.91%, in the third quarter of 2022.

Year–to–date non–interest expense continued to be well managed at $139.5 million, or 1.85% of average assets.

• The Bank’s capital position continues to be robust with leverage and risk based capital ratios of 8.89% and 13.59%, respectively.

The annualized dividend yield was 4.24% as of December 31, 2022.

Critical Accounting Policies

The Notes to the Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10–K for 2022 contain a summary of the Company’s significant accounting policies.

Certain of these policies are important to the portrayal of the Company’s financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain.

Management has identified the allowance for loan losses, goodwill and intangible assets, mortgage servicing rights, derivative instruments and valuation measurements as critical accounting policies.

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(Table dollars in thousands except per share data)

• The efficiency ratio for 2021 was 58.12% compared to 57.01% for 2020.

The adjusted efficiency ratio, excluding acquisition–related expense and non–recurring ESOP settlement expense, was 57.46% for 2021 compared to 57.20% for 2020.

(See the “Non–GAAP Calculation and Reconciliation of Efficiency Ratio and Adjusted Efficiency Ratio” table below.)

• Horizon's in–market consumer and commercial deposit relationships, including those on–boarded as part of its branch acquisition near the end of the third quarter, combined with strategic pricing moves to manage deposit growth and runoff of higher–priced time deposits, contributed to continued improvement in the cost of interest bearing liabilities, which declined to 0.40% in 2021, compared to 0.87% in 2020.

• Horizon recorded a provision release of $2.1 million in 2021, compared to a provision expense of $20.8 million in 2020, as non–performing loans declined to $19.0 million, or 0.53% of total loans, on December 31, 2021.

• Horizon's book value and tangible book value per share increased to $16.61 and $12.58.

(See the “Non–GAAP Reconciliation of Tangible Stockholders' Equity and Tangible Book Value per Share” table below.) Held to Maturity (“HTM”) securities were increased in the fourth quarter through a transfer from Available for Sale (“AFS”) securities and purchases to 57.2% of the investment portfolio.

This increase in HTM securities will help manage the impact of unrealized losses to tangible capital in a rising rate environment.

• The integration of 14 branches purchase from TCF National Bank that closed on September 17, 2021 is complete and was very successful.

The deposit runoff has stabilized at approximately 8% with the plan to begin to rebuild this runoff as we enter into 2022.

The financial impact of this transaction to date is in line with management's projections.

Critical Accounting Policies

The Notes to the Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10–K for 2021 contain a summary of the Company’s significant accounting policies.

Management has identified the allowance for loan losses, goodwill and intangible assets, mortgage servicing rights, derivative instruments and valuation measurements as critical accounting policies.

Allowance for Credit Losses

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Actual losses incurred may differ materially from our estimates.

Particularly, the impact of COVID–19 on

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

both borrower credit and the greater macroeconomic environment is uncertain and changes in the duration, spread and severity of the virus will affect our loss experience.

Allowance for Credit Losses on Off–Balance Sheet Credit Exposures

The Company estimates expected credit losses over the contractual period in which the Company is exposed to credit risk via a contractual obligation to extend credit, unless that obligation is unconditionally cancellable by the Company.

The Company determines the estimated amount of expected credit extensions based on historical usage to calculate the amount of exposure for a loss estimate.

After review of the expected credit losses on off–balance sheet exposures, the Company determined the amount not being recorded as immaterial at this time.

The Company determines the estimated amount of expected credit extensions based on historical usage to calculate the amount of exposure for a loss estimate and has recorded an allowance.

Allowance for Credit Losses on Available for Sale Securities

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Losses are charged against the allowance when management believes the uncollectibility of an available for sale security is confirmed or when either of the criteria regarding intent or requirement to sell is met.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Allowance for Credit Losses on Held to Maturity Securities

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If the present value of cash flows expected to be collected is less than the amortized cost basis, a credit loss exists and an ACL is recorded for the credit loss.

After completing this assessment, management determined any credit losses as of December 31, 2020 were not material to the consolidated financial statements.

Goodwill and Intangible Assets

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The goodwill value is supported by revenue that is in part driven by the volume of business transacted.

A decrease in earnings resulting from a decline in the customer base or the inability

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

to deliver cost effective services over sustained periods can lead to impairment of goodwill that could adversely affect earnings in future periods.

A decrease in earnings resulting from a decline in the customer base or the inability to deliver cost effective services over sustained periods can lead to impairment of goodwill that could adversely affect earnings in future periods.

FASB ASC 350–10 requires an annual evaluation of goodwill for impairment.

At each reporting date between annual goodwill impairment tests, Horizon considers potential indicators of impairment.

Given the current economic uncertainty and volatility surrounding COVID–19, Horizon assessed whether the events and circumstances resulted in it being more likely than not that the fair value of any reporting unit was less than its carrying value.

Impairment indicators considered comprised the condition of the economy and banking industry;

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At the conclusion of the assessment, the Company determined that as of December 31, 2022, it was more likely than not that the fair value exceeded its carrying value.

Horizon will continue to monitor developments regarding the COVID–19 pandemic and measures implemented in response to the pandemic, market capitalization, overall economic conditions and any other triggering events or circumstances that may indicate an impairment of goodwill in the future.

Horizon will continue to monitor overall economic conditions and any other triggering events or circumstances that may indicate an impairment of goodwill in the future.

Mortgage Servicing Rights

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Future changes in management’s assessment of the impairment of these servicing assets, as a result of changes in observable market data relating to market interest rates, loan prepayment speeds, and other factors, could impact Horizon’s financial condition and results of operations either positively or negatively.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Generally, when market interest rates decline and other factors favorable to prepayments occur, there is a corresponding increase in prepayments as customers refinance existing mortgages under more favorable interest rate terms.

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These are derivative instruments, which are recorded as assets or liabilities in the consolidated balance sheets at fair value.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

the fair values of derivatives are reported in the consolidated income statements or other comprehensive income (“OCI”) depending on the use of the derivative and whether the instrument qualifies for hedge accounting.

Changes in the fair values of derivatives are reported in the consolidated income statements or other comprehensive income (“OCI”) depending on the use of the derivative and whether the instrument qualifies for hedge accounting.

The key criterion for the hedge accounting is that the hedged relationship must be highly effective in achieving offsetting changes in those cash flows that are attributable to the hedged risk, both at inception of the hedge and on an ongoing basis.

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The use of different discount rates or other valuation assumptions could produce significantly different results, which could affect Horizon’s results of operations.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Analysis of Financial Condition

Horizon’s total assets were $7.4 billion as of December 31, 2021, an increase of $1.5 billion from December 31, 2020.

The increase was primarily in investment securities of $1.4 billion, and cash and due from banks of $343.8 million, offset by decreases in net loans of $257.0 million, and other assets of $12.8 million.

Horizon’s total assets were $7.9 billion as of December 31, 2022, an increase of $460.6 million from December 31, 2021.

The increase was primarily in net loans of $503.3 million, investment securities of $307.1 million, and other assets of $72.4 million, offset by a decrease in cash and due from banks of $470.0 million.

Investment Securities

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The average life is the average amount of time that each dollar of principal is expected to be outstanding.

As of December 31, 2021, the mortgage–backed securities and collateralized mortgage obligations in

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

the investment portfolio had an average duration of 5.8 years.

As of December 31, 2022, the mortgage–backed securities and collateralized mortgage obligations in the investment portfolio had an average duration of 5 years.

Securities that have interest rates above current market rates are purchased at a premium.

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Securities classified as available for sale are carried at their fair value, with both unrealized gains and losses recorded, net of tax, directly to stockholders’ equity.

Net appreciation on these securities totaled $7.2 million, which resulted in a balance of $5.7 million, net of tax, included in stockholders’ equity at December 31, 2021.

Net depreciation on these securities totaled $140.1 million, which resulted in a balance of $110.7 million, net of tax, included in stockholders’ equity at December 31, 2022.

This compared to net appreciation on securities which totaled $5.7 million, net of tax, included in stockholders’ equity at December 31, 2021.

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In performing the valuations, the pricing service relies on models that consider security–specific details as well as relevant industry and economic factors.

The most significant of these inputs are quoted market prices, interest rate spreads on relevant benchmark securities and certain prepayment assumptions.

To verify the reasonableness of the fair value determination by the service, Horizon has a portion of the Level 2 securities priced by an independent securities broker–dealer.

Unrealized gains and losses on available for sale securities, deemed temporary, are recorded, net of income tax, in a separate component of other comprehensive income on the balance sheet.

The most significant of these inputs are quoted market prices, interest rate spreads on relevant benchmark securities and

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certain prepayment assumptions.

To verify the reasonableness of the fair value determination by the service, Horizon has a portion of the Level 2 securities priced by an independent securities broker–dealer.

Unrealized gains and losses on available for sale securities, deemed temporary, are recorded, net of income tax, in a separate component of accumulated other comprehensive income on the balance sheet.

The following is a schedule of maturities of each categories of available for sale and held to maturity debt securities and the related weighted–average yield of such securities as of December 31, 2022:

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At December 31, 2022, Horizon did not maintain a trading account.

For more information about securities, see Note 4 – Securities to the Consolidated Financial Statements at Item 8.

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For more information about securities, see Note 4 – Securities to the Consolidated Financial Statements at Item 8.

Total loans, net of deferred fees/costs, the principal earning asset of the Bank, were $4.1 billion at December 31, 2022.

The current level of total loans decreased 6.7% from the December 31, 2020, level of $3.8 billion primarily due to a decrease in mortgage warehouse loans and PPP loans originated during the year.

The current level of total loans increased 14.0% from the December 31, 2021, level of $3.6 billion primarily due to an increase in commercial, consumer, residential mortgage and residential construction loans, offset by a decrease in mortgage warehouse loans during the year.

The table below provides comparative detail on the loan categories.

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The Bank also uses an independent third-party loan review function that regularly reviews asset quality.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Changes in the mix of the loan portfolio averages are shown in the following table.

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Total average loans $ 3,841,792 $ 3,633,057 $ 3,880,556

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Maturities and Sensitivities of Loans to Changes in Interest Rates

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Commercial loans totaled $2.47 billion, or 59.3% of total loans as of December 31, 2022, compared to $2.21 billion, or 60.5% as of December 31, 2021.

The decrease during 2021 was primarily due to a decrease in PPP loans of $183.0 million to $25.8 million at December 31, 2021 compared to $208.9 million at December 31, 2020.

The increase during 2022 was due to growth in all types of commercial loans offset by a decrease in PPP loans of $25.6 million to $217,000 at December 31, 2022 compared to $25.8 million at December 31, 2021.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Commercial loans consisted of the following types of loans at December 31:

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Total 7,109 $ 2,467,422 100.2 % 6,956 $ 2,213,945 100.0 %

Fixed rate term loans with a book value of $478.8 million and a fair value of $492.4 million have been swapped to a variable rate using derivative instruments.

The loans are carried at fair value in the financial statements and the related swap is carried at fair value and is included with other liabilities in the balance sheet.

The recognition of the loan and swap fair values are recorded in the income statement and for 2021 equally offset each other.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

are determined by the counterparty using a proprietary model that uses live market inputs to value interest rate swaps.

The model is subject to daily market tests as current and future positions are priced and valued.

These are Level 3 inputs under the fair value hierarchy as described above.

At December 31, 2022, the commercial loan portfolio held $279.9 million of adjustable rate loans that had interest rate floors in the terms of the note.

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Some special guaranteed or insured real estate loan programs do permit a higher loan to collateral value ratio.

The decrease during 2021 was primarily due to continued refinance activity during the year as a result of historically low interest rates.

The increase during 2022 was primarily due to borrowers selecting adjustable rate loans, which are held on the balance sheet, as fixed rates increased during the year.

In addition to the customary real estate loans described above, the Bank also had outstanding on December 31, 2022, $355.2 million in home equity lines of credit compared to $252.4 million at December 31, 2021.

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Total real estate loans $ 659,099 $ 606,961

The decrease in adjustable rate residential mortgage loans and increase in fixed rate residential mortgage loans during 2021 was primarily due customers moved to fixed rate products during the low interest rate environment.

The decrease in adjustable rate residential mortgage loans and increase in fixed rate residential mortgage loans was primarily due to customers moving to fixed rate products during the first half of 2022 as a result of the low interest rate environment.

In addition to the real estate loan portfolio, the Bank originates and sells real estate loans and retains the servicing rights.

During 2021 and 2020, approximately $438.1 million and $584.1 million, respectively, of residential mortgages were sold into the secondary market.

Loans serviced for others are not included in the consolidated balance sheets.

The unpaid principal balances of loans serviced for others totaled approximately $1.5 billion and $1.5 billion at December 31, 2021 and 2020.

During 2022 and 2021, approximately $221.9 million and $438.1 million,

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respectively, of residential mortgages were sold into the secondary market.

Loans serviced for others are not included in the consolidated balance sheets.

The unpaid principal balances of loans serviced for others totaled approximately $1.5 billion and $1.5 billion at December 31, 2022 and 2021.

The aggregate fair value of capitalized mortgage servicing rights at December 31, 2022, totaled approximately $20.0 million compared to the carrying value of $18.6 million.

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During 2022, Horizon processed approximately $2.6 billion in mortgage warehouse loans.

At December 31, 2021, the mortgage warehouse loan balance was $109.0 million compared to $395.6 million as of December 31, 2020.

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(Table dollars in thousands except per share data)

At December 31, 2022, the mortgage warehouse loan balance was $69.5 million compared to $109.0 million as of December 31, 2021.

Consumer Loans

Consumer loans totaled $967.8 million, or 23.3% of total loans as of December 31, 2022, compared to $741.2 million, or 20.3% as of December 31, 2021.

The increase during 2021 was due to record production during the year of approximately $397.1 million and the loans purchased through the branch acquisition completed during the third quarter of 2021.

The increase during 2022 was due to strong indirect lending during the first half of 2022 and home equity lines of credit production during the second half of 2022, in addition to approximately $52.4 million of purchased home equity lines of credit in the fourth quarter of 2022.

Allowance and Provision for Credit Losses

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At December 31, 2022, the allowance for credit losses was $50.5 million, or 1.21% of total loans outstanding, compared to $54.3 million, or 1.48%, at December 31, 2021.

During 2021, a release of provision for credit losses was recorded totaling $2.1 million compared to a provision expense of $20.8 million in 2020.

The credit loss expense recorded during 2020 reflects our January 2020 implementation of the CECL accounting method and prudent increases in the allocation for the Company's identified stressed portfolios.

During 2022, a release of provision for credit losses was recorded totaling $1.8 million compared to a release of provision for credit losses totaling $2.1 million in 2021.

Horizon assesses the adequacy of its Allowance for Credit Losses (“ACL”) by regularly reviewing the performance of all of its loan portfolios.

As a result of its quarterly reviews, a provision for credit losses is determined to bring the total ACL to a level called for by the analysis.

In addition to the adoption of the CECL accounting method, Horizon's reserve build during 2020 includes allocations for potential future loan losses related to economic factors and the nature and characteristics of its loan portfolios, primarily related to the impact on non–essential businesses caused by COVID–19 closures and the slow pace of reopening and economic recovery.

Horizon's reserve includes allocations for potential future loan losses related to economic factors and the nature and characteristics of its loan portfolios, primarily related to the impact on non–essential businesses caused by COVID–19 closures and the slow pace of reopening and economic recovery.

Through December 31, 2022, Horizon has not recorded any material specific loan losses attributed to COVID–19 closures.

As a result, the allocations related to the impact of COVID–19 were reduced during 2022 and partially reallocated to current economic factors and also released from the ACL.

No assurance can be given that Horizon will not, in any particular period, sustain loan losses that are significant in relation to the amount reserved, or that subsequent evaluations of the loan portfolio, in light of factors then prevailing, including economic conditions and management’s ongoing quarterly assessments of the portfolio, will not require increases in the allowance for credit losses.

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Total non–performing assets $ 23,980 $ 22,580 $ 28,715

Non–performing loans total 35.0%, 47.0% and 119.9% of the allowance for credit losses at December 31, 2021, 2020 and 2019, respectively.

Non–performing loans at December 31, 2021 totaled $19.0 million, a decrease from a balance of $26.8 million as of December 31, 2020 and from a balance of $21.2 million as of December 31, 2019.

Non–performing loans totaled 43.3%, 35.0% and 47.0% of the allowance for credit losses at December 31, 2022, 2021 and 2020, respectively.

Non–performing loans at December 31, 2022 totaled $21.8 million, an increase from a balance of $19.0 million as of December 31, 2021 and a decrease from a balance of $26.8 million as of

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(Table dollars in thousands except per share data)

The decrease in non–performing loans in 2021 was primarily due to the upgrade of a two previously non–performing commercial relationships to performing status during the year.

Non–performing loans as a percentage of total loans was 0.53% as of December 31, 2021, a decrease from 0.69% as of December 31, 2020 and 0.58% from December 31, 2019.

December 31, 2020.

The increase in non–performing loans in 2022 was primarily due to the downgrade of one previously performing commercial relationship to non–performing status during the year.

Non–performing loans as a percentage of total loans was 0.52% as of December 31, 2022, which was the same percentage as of December 31, 2021 and a decrease from 0.58% from December 31, 2020.

Non–Performing Loans Percent of Non–Performing Loans in Each Category to Total Loans Total Loans

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Ratio of allowance for credit losses on loans to non–performing loans 285.43 %

COVID–19 related loan deferrals decreased to $10.8 million, or 0.3% of total loans at December 31, 2021, compared to $126.7 million, or 3.3% of total loans at December 31, 2020.

Other Real Estate Owned (“OREO”) totaled $3.6 million on December 31, 2021, an increase of $1.7 million from December 31, 2020 and a decrease of $165,000 from December 31, 2019.

On December 31, 2021, OREO was comprised of 12 properties, seven of these properties were bank owned properties from branch closures, four properties were residential and one of these properties was commercial real estate.

There were no COVID–19 related loan deferrals at December 31, 2022, a decrease from $10.8 million, or 0.3% of total loans at December 31, 2021, and $126.7 million, or 3.3% of total loans at December 31, 2020.

Other Real Estate Owned (“OREO”) totaled $1.9 million on December 31, 2022, a decrease of $1.6 million from December 31, 2021 and an increase of $211,000 from December 31, 2020.

On December 31, 2022, OREO was comprised of eight properties, six of these properties were bank owned properties from branch closures and two properties were residential.

No mortgage warehouse loans were non–performing or OREO as of December 31, 2022, 2021 or 2020.

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Horizon had a net deferred tax asset totaling $3.3 million as of December 31, 2021 and a net deferred tax asset of $188,000 as of December 31, 2020.

As of December 31, 2022, other assets totaled $139.3 million, an increase of $72.4 million, or 108.4%, from $66.8 million as of December 31, 2021.

The increase in other assets was primarily due to an increase in the deferred tax asset related to unrealized gains (losses) on investment securities of $31.4 million, an increase in the fair value of hedging activities of $28.5 million and an increase in mortgage servicing rights, net of impairment, of $3.4 million.

Horizon had a net deferred tax asset totaling $40.3 million as of December 31, 2022 and a net deferred tax asset of $3.3 million as of December 31, 2021.

The following table shows the major components of deferred tax:

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Allowance for loan losses $ 12,762 $ 13,707

Net operating loss and tax credits (from acquisitions) — 3

Net operating loss and tax credits 9,313 —

Director and employee benefits 2,019 2,094

Unrealized loss on AFS securities and cash flow hedge 28,230 —

Other 555 1,785

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Fair value adjustment on acquisitions (2,807) (3,435)

Unrealized gain on AFS securities and fair value hedge (1,953) (7,404)

Unrealized gain on AFS securities and cash flow hedge — (1,953)

Other (68) (222)

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Total deposits were $5.9 billion at December 31, 2022, compared to $5.8 billion at December 31, 2021.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

Average deposits and rates by category for the three years ended December 31 are as follows:

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The $760.6 million increase in average deposits during 2022 was primarily due to the acquisition of 14 branches on September 17, 2021.

The transactional accounts average balances, as the lower cost funding sources, increased $1.0 billion and the average balances for higher cost time deposits decreased $166.5 million.

The transactional accounts average balances, as the lower cost funding sources, increased $621.3 million and the average balances for higher cost time deposits increased $139.2 million.

Horizon continually enhances its interest bearing consumer and commercial demand deposit products based on local market conditions and its need for funding to support various types of assets.

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Management’s Discussion and Analysis of

Financial Condition and Results of Operations

(Table dollars in thousands except per share data)

As of December 31, 2022 and 2021, approximately $2.4 billion and $2.4 billion, respectively, or our deposit portfolio was uninsured.

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Interest expense on time certificates of $250,000 or more was approximately $4.2 million, $1.4 million and $2.9 million for 2022, 2021 and 2020.

Interest expense on time certificates of $250,000 or more was approximately $1.4 million, $2.9 million and $7.4 million for 2021, 2020 and 2019.

Off–Balance Sheet Arrangements

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Horizon’s sources of funds and liquidity are discussed below in the section captioned “Liquidity” in this Item 7.

Results of Operations

Consolidated net income was $87.1 million, or $1.98 per diluted share, in 2021, $68.5 million or $1.55 per diluted share in 2020, and $66.5 million or $1.53 per diluted share in 2019.

The increase in net income from the previous year reflects a decrease in credit loss expense of $22.8 million and an increase in net interest income of $10.8 million, offset by an increase in non–interest expense of $7.8 million, an increase in income tax expense of $5.5 million and a decrease in non–interest income of $1.7 million.

The increase in diluted earnings per share compared to the previous year reflects an increase in net income and a decrease in diluted shares.

Adjusted net income for the year ended December 31, 2021 was $88.6 million, or $2.00 diluted earnings per share, compared to $67.8 million, or $1.53 diluted earnings per share, for the year ended December 31, 2020.

(See the “Non–GAAP Reconciliation of Net Income and Diluted Earnings per Share” table under the heading “Use of Non–GAAP Financial Measures” below for the definition of adjusted net income.)

HORIZON BANCORP, INC.

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(Table dollars in thousands except per share data)

Results of Operations

Consolidated net income was $93.4 million, or $2.14 per diluted share, in 2022, $87.1 million or $1.98 per diluted share in 2021, and $68.5 million or $1.55 per diluted share in 2020.

The increase in net income from the previous year reflects an increase in net interest income of $23.7 million and a decrease in income tax expense of $3.2 million, offset by an increase in non–interest expense of $9.8 million and a decrease in non–interest income of $10.5 million.

The increase in diluted earnings per share compared to the previous year reflects an increase in net income and a decrease in diluted shares.

Adjusted net income for the year ended December 31, 2022 was $92.8 million, or $2.13 diluted earnings per share, compared to $88.6 million, or $2.00 diluted earnings per share, for the year ended December 31, 2021.

Net Interest Income

The largest component of net income is net interest income.

The largest component of income is net interest income.

Net interest income is the difference between interest income, principally from loans and investment securities, and interest expense, principally on deposits and borrowings.

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Net interest income during 2022 was $199.5 million, an increase of $23.7 million, or 13.5%, over the $175.8 million earned in 2021.

Yields on the Company’s interest earning assets decreased by 68 basis points to 3.43% during 2021 from 4.11% in 2020.

Interest income decreased $5.4 million to $200.0 million for 2021 from $205.4 million in 2020.

This decrease was due to the overall decrease in interest rates during 2021 and a decrease in the recognition of interest income from the acquisition–related purchase accounting adjustments of approximately $2.4 million from $6.9 million in 2020 to $4.5 million in 2021, offset by an increase in the average balance of interest earning assets of $901.6 million.

Interest expense decreased $16.1 million from $34.4 million in 2020 to $18.3 million in 2021.

This decrease was due to the overall decrease in interest rates during 2021 and $3.8 million in prepayment penalties on borrowings paid during 2020.

The prepayment penalties on borrowings were incurred as part of a deleverage strategy in which $83.0 million in FHLB advances with an average cost of 2.61% were paid off during the 4th quarter of 2020.

The decrease in rates paid on interest bearing liabilities in addition to the decrease in the yield on the Company’s interest earning assets resulted in a decrease in the net interest margin of 31 basis points from 3.44% for 2020 to 3.13% in 2021.

Yields on the Company’s interest earning assets increased by 17 basis points to 3.50% during 2022 from 3.33% in 2021.

Interest income increased $41.9 million to $236.0 million for 2022 from $194.1 million in 2021.

This increase was due to the overall increase in interest rates during 2022 and the increase in the average balance of interest earning assets of $942.2 million.

Interest expense increased $18.2 million from $18.3 million in 2021 to $36.5 million in 2022.

This increase was due to the overall increase in interest rates during 2022 and the increase in average balance of interest bearing liabilities of $905.1 million.

The increase in rates paid on interest bearing liabilities of 27 basis points was greater than the increase in the yield of interest earning assets of 17 basis points that resulted in a decrease in the net interest margin of 5 basis points from 3.03% for 2021 to 2.98% in 2022.

Excluding interest income recognized from acquisition–related purchase accounting adjustments and prepayment penalties on borrowings, the margin would have been 2.93% for 2022 compared to 2.96% for 2021.

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Loan totals are shown net of unearned income and deferred loan fees.

(4) Loan fees and late fees included in interest on loans aggregated $19.8 million, $16.6 million and $9.8 million in 2021, 2020 and 2019, respectively.

(4) Net loan fees included in interest on loans aggregated $5.2 million, $13.9 million and $11.2 million in 2022, 2021 and 2020, respectively.

HORIZON BANCORP, INC.

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Interest income decreased $5.9 million to $194.1 million for 2021 from $200.0 million in 2020.

This decrease was due to the overall decrease in interest rates during 2020, offset by an increase in the recognition of interest income from the acquisition–related purchase accounting adjustments of approximately $1.3 million from $5.6 million in 2019 to $6.9 million in 2020.

This decrease was due to the overall decrease in interest rates during 2021 and a decrease in the recognition of interest income from acquisition–related purchase accounting adjustments of approximately $2.4 million from $6.9 million in 2020 to $4.5 million in 2021, offset by an increase in the average balance of interest earning assets of $901.6 million.

Interest expense decreased $16.1 million from $34.4 million in 2020 to $18.3 million in 2021.

This decrease was due to the overall decrease in interest rates during 2020 and was partially offset by $3.8 million in prepayment penalties on borrowings.

The prepayment penalties on borrowings were incurred as part of a deleverage strategy in $83.0 million in FHLB advances with an average cost of 2.61% were paid off during the 4th quarter of 2020.

This decrease was due to the overall decrease in interest rates during 2021 and $3.8 million in prepayment penalties on borrowings paid in 2020.

The decrease in rates paid on interest bearing liabilities in addition to the decrease in the yield on the Company's interest earning assets resulted in a decrease in the net interest margin of 30 basis points from 3.33% for 2020 to 3.03% in 2021.

Excluding interest income recognized from acquisition–related purchase accounting adjustments and prepayment penalties on borrowings, the margin would have been 2.96% for 2021 compared to 3.27% for 2020.

Management believes that the current level of interest rates is driven by external factors and therefore impacts the results of the Company's net interest margin.

2022 - 2021 2021 - 2020

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Horizon assesses the adequacy of its ACL by regularly reviewing the performance of its loan portfolios.

Credit loss expense totaled a recovery of $2.1 million in 2021 compared to an expense of $20.8 million in 2020.

Total loan net charge–offs were $1.6 million, which included commercial loan net charge–offs of $1.1 million, residential mortgage loan net charge–offs of $9,000 and consumer loan net charge–offs of $533,000 for the year ending December 31, 2021.

The higher level of credit loss expense for 2020 was due to the adoption of CECL at the beginning of 2020 increasing credit loss expense for economic factors due to the economic shutdown and exposures to loans with nature and characteristics that have greater loss exposure due to economic uncertainty brought on by COVID–19.

Credit loss expense totaled a recovery of $1.8 million in 2022 compared to a recovery of $2.1 million in 2021.

Total loan net charge–offs were $843,000, which included commercial loan net recoveries of $80,000, residential mortgage loan net recoveries of $53,000 and consumer loan net charge–offs of $976,000 for the year ending December 31, 2022.

The recovery of the ACL in 2022 was the result of allocations related to the impact of COVID–19 being reduced during the year and partially reallocated to current economic factors and also required some release from the ACL.

HORIZON BANCORP, INC.

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(Table dollars in thousands except per share data)

Credit loss expense totaled $20.8 million in 2020 compared to $2.0 million in 2019.

Total loan net charge–offs were $1.9 million, which included commercial loan net charge–offs of $497,000, residential mortgage loan net charge–offs of $167,000 and consumer loan net charge–offs of $1.2 million for the year ending December 31, 2020.

Credit loss expense totaled a recovery of $2.1 million in 2021 compared to an expense of $20.8 million in 2020.

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During 2022, the Company originated approximately $221.9 million of mortgage loans to be sold on the secondary market, compared to $438.1 million in 2021 as long–term interest rates began to increase during 2022.

This decrease in volume, in addition to a decrease in the percentage earned on the sale of mortgage loans, resulted in a decrease in the overall gain on sale of mortgage loans of $12.0 million compared to the prior year.

Gain on the sale of investment securities decreased $914,000 in 2022 as there were no sales in 2022.

Fiduciary activities income decreased $2.0 million during 2022 primarily due to the sale of ESOP trustee accounts which was completed during the third quarter 2021.

Mortgage servicing net of impairment increased by $2.4 million during 2022 compared to 2021 primarily due to the recovery net impairment charges of $2.6 million recorded during 2022.

Other income decreased $2.0 million during 2022 primarily due to the gain on sale of ESOP trustee accounts of $2.3 million recorded in 2021.

The increase in interchange fee income in 2022 compared to 2021 was the result of the branch acquisition in September 2021 and organic growth in transactional deposit accounts and volume during 2022.

During 2021, the Company originated approximately $438.1 million of mortgage loans to be sold on the secondary market, compared to $584.1 million in 2020 as long–term interest rates began to increase during 2021.

This decrease in volume, in addition to a slight decrease in the percentage earned on the sale of mortgage loans, resulted in a decrease in the overall gain on sale of mortgage loans of $7.6 million compared to the prior year.

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The increase in interchange fee income in 2021 compared to 2020 was the result of organic growth in transactional deposit accounts and volume during 2021.

During 2020, the Company originated approximately $584.1 million of mortgage loans to be sold on the secondary market, compared to $269.7 million in 2019 primarily due to the decrease in long–term interest rates.

This increase in volume in addition to an increase in the percentage earned on the sale of mortgage loans, resulted in an increase in the overall gain on sale of mortgage loans of $17.5 million compared to the prior year.

Gain on the sale of investment securities increased $4.4 million in 2020 due to the deleverage strategy executed during the year.

Mortgage servicing net of impairment decreased by $5.6 million during 2020 compared to 2019 primarily due to net impairment charges of $4.5 million recorded during 2020.

The increase in interchange fee income in 2020 compared to 2019 was the result of organic growth in transactional deposit accounts and volume during 2020.

The decrease in service charges on deposit accounts income in 2020 was due to an increase in digital transactions and stimulus funds resulting in a decrease in non–sufficient funds fee income.

HORIZON BANCORP, INC.

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FDIC deposit insurance 2,558 2,377 181 7.6 % 2,377 1,855 522 28.1 %

Core deposit intangible amortization 3,702 3,644 58 1.6 % 3,644 3,723 (79) (2.1) %

Other losses 1,046 2,283 (1,237) (54.2) % 2,283 1,162 1,121 96.5 %

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Total non–interest expense $ 143,201 $ 133,394 $ 9,807 7.4 % $ 133,394 $ 120,154 $ 13,240 11.0 %

For the twelve months ended December 31, 2022, salaries increased $6.0 million reflecting annual merit increases and the additional employees from the branch acquisition completed during the third quarter of 2021.

Outside services and consultants increased $2.4 million from additional consulting services performed during the year.

Other losses decreased $1.2 million primarily due to $1.9 million in ESOP settlement expenses recorded during the fourth quarter of 2021.

For the twelve months ended December 31, 2021, salaries increased $2.4 million reflecting annual merit increases and the additional employees from the branch acquisition completed during the third quarter.

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Other losses increased $1.1 million primarily due to $1.9 million in ESOP settlement expenses recorded during the fourth quarter of 2021.

For the twelve months ended December 31, 2020, commission and bonuses increased by $3.6 million reflecting record mortgage origination volume and related commission expense.

Salaries increased $2.4 million reflecting a full year of additional employees from the Salin acquisition and annual merit increases.

Loan expense increased $2.0 million primarily due to the increased volume in commercial and mortgage lending.

The increase of $1.6 million in FDIC deposit insurance was due to the assessment credits the Bank received during the third quarter of 2019 as the FDIC reserve was overfunded at that time.

Offsetting these increases was a decrease of $1.5 million in other expenses.

Income tax expense totaled $12.2 million for the year ended December 31, 2022, a decrease of $3.2 million when compared to the year ended December 31, 2021.

The decrease was primarily due to the additional benefit related to investments that generate tax credits, an increase in tax exempt investments, offset slightly by an increase in income before income taxes of $3.1 million in 2022.

Income tax expense totaled $15.4 million for the year ended December 31, 2021, an increase of $5.5 million when compared to the year ended December 31, 2020.

The increase was primarily due to an increase in income before income taxes of $24.1 million in 2021 and fewer tax credits recognized due to delays in projects the Company has invested in offset by an increase in tax exempt municipal investments.

Income tax expense totaled $9.9 million for the year ended December 31, 2020, a decrease of $3.4 million when compared to the year ended December 31, 2019.

The decrease was primarily due to the ability to recognize solar tax credits from completed projects the Company has invested in along with an increase in tax exempt municipal investments.

HORIZON BANCORP, INC.

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(Table dollars in thousands except per share data)

Expected Replacement of London Interbank Offered Rate

The ARRC continues its work to the goal of finding suitable replacements for LIBOR.

It is expected that a transition away from the widespread use of LIBOR to alternative reference rates and other potential interest rate benchmark reforms will occur beginning potentially in 2022.

Although the full impact of such reforms and actions, together with any transition away from LIBOR remains unclear, we are preparing to transition from the LIBOR to an alternative reference rate.

Our transition plan includes a number of key steps, including continued engagement with central bank and industry working groups and regulators, active client engagement, internal operational readiness, and risk management, among other things, to promote the transition to alternative reference rates.

We are identifying on-balance sheet and off-balance sheet references to LIBOR, determining appropriate language to replace the LIBOR index language, and determining disclosures necessary for customers, with appropriate procedures and schedules to complete the LIBOR transition.

There remain, however, a number of unknown factors regarding the transition from LIBOR or interest rate benchmark reforms that could impact our business, including, for example, the pace of the transition to replacement or reformed rates, the specific terms and parameters for and market acceptance of the alternative reference rates, prices of and the liquidity of trading markets for products based on the alternative reference rates, and our ability to transition to and develop appropriate systems and analytics for one or more alternative reference rates.

For a further discussion of the various risks we face in connection with the expected replacement of LIBOR and reform of interest rate benchmarks on our operations, see “Risk Factors – Risks Related to Our Business.”

Replacement of London Interbank Offered Rate

In 2017, the United Kingdom's Financial Conduct Authority (the authority that regulates LIBOR) (the “FCA”) announced that after 2021 it would no longer compel banks to submit the rates required to calculate LIBOR.

Subsequently, on March 5, 2021, the FCA announced that all LIBOR settings will either cease to be provided by any administrator or no longer be representative immediately after December 31, 2021, in the case of 1–week and 2–month LIBOR, and immediately after June 30, 2023, in the case of the remaining LIBOR settings.

On March 15, 2022, the President of the United States signed into law the Adjustable Interest Rate (LIBOR) Act (the “LIBOR Act”).

This legislation establishes a uniform benchmark replacement process for certain contracts that do not contain clearly defined or practicable fall–back provisions.

Under the LIBOR Act, such contracts will automatically transition as a matter of law to a Secured Overnight Financing Rate (“SOFR”) based replacement rate identified by the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”).

The legislation also creates a safe harbor that shields lenders from litigation if they choose to utilize a replacement rate recommended by the Federal Reserve.

We have loans, borrowings and other financial instruments with attributes that are directly or indirectly dependent on LIBOR and do not provide a replacement rate or include other fall–back provisions that would apply after June 30, 2023.

Thus, Horizon has elected to allow the LIBOR under these contracts to automatically convert into the CME Term SOFR after June 30, 2023 pursuant to an in accordance with the LIBOR Act.

Use of Non–GAAP Financial Measures

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(Table dollars in thousands except per share data)

During 2021, cash flows were generated primarily from net cash received from the branch acquisition totaling $622.2 million, the sales, maturities, and prepayments of investment securities of $318.3 million, a net decrease in loans of $488.9 million and an increase in deposits of $425.4 million.

Cash flows were primarily used to purchase investments totaling $1.8 billion.

The net cash and cash equivalent position increased by $94.1 million during 2021.

During 2022, cash flows were generated primarily from the proceeds from borrowings totaling $675.0 million, the sales, maturities, and prepayments of investment securities of $142.1 million and an increase in deposits of $54.8 million.

Cash flows were primarily used to purchase investments totaling $610.7 million, an increase in net loans of $448.3 million and the repayment of borrowings totaling $755.6 million.

The net cash and cash equivalent position decreased by $470.0 million during 2022.

At December 31, 2022, the Bank had $1.5 billion in commitments to extend credit outstanding, excluding interest rate lock commitments for residential mortgage loans intended for sale in the secondary market that meet the definition of a derivative.

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Cumulative GAP $ 226,326 $ 87,807 $ (128,056)

The Company was asset sensitive as of December 31, 2021, resulting from the liquidity on the balance sheet, adjustable rate assets and the low beta's on deposit pricing based on expected deposit rates.

Based on parallel rate shocks to the balance sheet, at a 100 basis point shock and 200 basis point shock, net interest income increases approximately $10.0 million and $20.0 million, respectively.

The Company was liability sensitive as of December 31, 2022, resulting from longer term fixed rate assets on the balance sheet not repricing as quickly as deposits pricing based on expected deposit repricing betas.

Based on parallel rate shocks to the balance sheet, at a 100 basis point shock and 200 basis point shock up, net interest income decreases approximately $5.1 million and $10.5 million, respectively.

At a 100 basis point shock and 200 basis point shock down, net interest income increases approximately $5.1 million and $6.8 million, respectively.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis