Horizon Bancorp, Inc.

Good morning, everyone, and welcome to the Horizon Bancorp conference call to discuss financial results for the third month ending December 31, 2020. All participants are in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touchtone phone. To withdraw your question, please press star, then two. Please limit yourself to one question and one follow-up. If you have further questions, you may re-enter the question queue. Please note this event is being recorded. Before turning the call over to management, please remember that today's call may contain statements that are forward-looking in nature. These statements are subject to risks, uncertainties, and other factors that could cause actual results to differ materially from those discussed, including those factors noted in the slide presentation. Additional information about factors that could cause actual results to differ materially is contained in Horizon's current 10-K and later foulings. In addition, management may refer to certain non-GAAP financial measures that are intended to help investors understand Horizon's business. Reconciliations for these measures are contained in the presentation. The company assumes no obligation to update any forward-looking statements made during the call. If anyone does not already have a copy of the press release and supplemental presentation issued by Horizon yesterday, you can access it at the company's website, www.horizonbank.com. Representing Horizon today are Chairman and Chief Executive Officer Craig Dwight and Executive Vice President and Chief Financial Officer Mark Secorre. They will be joined by Executive Vice President and Chief Commercial Banking Officer, Dennis Kuhn, for the question and answer session. At this time, I'd like to turn the call over to Horizon's Chairman and CEO, Craig Dwight. Please go ahead.

Thank you, Anita, and good morning, and thank you for participating in Horizon Bancorp's fourth quarter earnings conference call. Our comments today will follow the investor presentation we published yesterday, January 27th. Starting on slide four, you'll find highlights that summarize Horizon's excellent year as evidenced by net income for 2020 increased by 3% over the prior year. Given all the obstacles that we had to confront, it was an impressive year and a true testament to the quality of our employees. Key drivers during the year were record one to four family mortgage loan production and mortgage warehouse volume, good expense control, and our ability to maintain a stable net interest margin. In addition, we maintain solid asset quality as evidenced by low NPAs to total assets at 49 basis points and net charge-offs at five basis points of total loans. We are also proud to state that for over 30 years we have made uninterrupted dividend payments to our shareholders, and we have approximately 18 quarters of cash on hand at the holding company to cover fixed costs, including future dividends. Next slide, five, titled Season Management Team. You will observe that we are a seasoned leadership team. We have managed through multiple recessions and have overseen history of strong financial performance over the past 18 years. Of special note, in December 2020, we promoted Senior Commercial Credit Administration Officer Lynn Kerber and our General Counsel Todd Etzler as our newest Executive Vice Presidents. As you'll see on slide six, we've completed 11 new organic market expansions and 14 mergers and acquisitions during this time continuum. We're a company on the move, and we continue to look for new opportunities in our current and adjacent Indiana and Michigan markets. With our proven track record as a successful consolidator and the pressures that other banks are facing related to low interest rates in the challenging operating environment, We believe M&A opportunities will once again be available in 2021. Slide 7 clearly demonstrates Horizon's track record for achieving our well-established long-term goals, which include meaningfully outpacing GDB and industry growth and achieving balanced growth with 50% organic and 50% through mergers and acquisitions. In 2020, Horizon grew the balance sheet by 8% excluding PPP loans. On slide 8, we highlighted our primary market area in dark brown and dark green. Horizon's markets represent diversified economies and excellent growth opportunities. Horizon's expansion and growth has occurred primarily in college and university towns and state or county government seats. Therefore, a majority of our footprint has an economic base that is traditionally more stable than other areas of Indiana and Michigan. Verizon's footprint is positioned well to take advantage of the outbound migration from Illinois, which continues to increase as consumers and businesses exit dense living spaces, high taxes, and the high cost of living. Both Indiana and Michigan continue to show improving economies, as evidenced by a reduction in unemployment rates. As of December 31st, Indiana's unemployment rate was 4.3%, which is below the U.S. national unemployment rate of 6.7. While Michigan's overall unemployment rate was 7.5%, a slight increase from November 30th, the regions we serve in the western and central parts of the state are reporting levels ranging from 3.7% in Grand Rapids to 4.9% in Bay City Midland area. Horizon's footprint helps to geographically disperse credit risk with 60% of our loans in Indiana and 40% in Michigan. Slide 9 highlights the primary markets where we are engaged in some exciting economic events that are taking place that will continue to enhance our markets. Now moving to slide 10 titled COVID-19 Response. We continue to closely monitor the impacts of COVID-19 pandemic on the communities, customers, and businesses where we operate. Indiana's numbers of daily reported positive COVID-19 cases were elevated in November and December and have started to trend downwards in January. Indiana's current restrictions are comparable to the prior quarters and are driven by county by county color code risk system. Michigan's positivity rates continue to trend downward, and their protocols are still more restrictive than Indiana. The safety and well-being of our employees is our first priority, and therefore we continue to adhere to safety protocols as we navigate the reopening stages in our markets. Currently, all offices are open by appointment only. Prior to COVID-19, Horizon was well on its way to transforming its customer base to our digital platform. though the impact of the pandemic due to limited branch access has accelerated the use of digital banking. In slide 11, looking at the chart on the right, Horizon's average monthly transactions have shifted away from taking place in branches to the majority being processed through our digital and virtual channels. In December 2020, 73% of all transactions took place through our digital channels compared to 57% one year ago. As you'll see in the chart on the left, In December 2020, 75% of all checked accounts were active online banking users, an increase from 66% one year ago. Horizon was well prepared for this increase in digital activity. Other technology investments made in 2020 that focused on enhancing the customer's experience included adding a fourth call center location to increase service capacity and shorten wait times. Expanding our interactive teller machines to allow virtual teller interactions at over 27 locations with expanded virtual teller hours from 6 a.m. to 8 p.m. six days a week. The addition of chat and online account opening to improve customer experience. As of month end December, over 85% of Verizon's online chats are answered by bots. Now for the financial highlights, it's my privilege to introduce to you Horizons Bank's Chief Financial Officer and Executive Vice President, Mark Secor. Mark?

Thank you, Craig. Horizons' fourth quarter results continue to demonstrate our ability to realize strong operating results and drop record earnings to the bottom line as we navigate the current environment. Starting with slide 13, the company's fourth quarter results were the highest stated in and adjusted net income, net interest income, pre-tax pre-provision income, non-interest income and earnings per share in the company's history. Several activities during the fourth quarter impacted these record results. We incurred prepayment expense on the retirement of high-cost long-term debt, recognized PPP forgiveness fees through net interest income and recorded tax benefits from solar tax credit investments. We continued to build allowance with additional credit expense primarily for the stress loan sectors that have been identified. We believe we are appropriately reserved given the current state of our portfolio, additional government stimulus, and our CECL modeling. Slide 14, the 17 basis point increase in the adjusted margin during the quarter was positively impacted by 18 basis points from PPP lending as net fee income was recognized for loan forgiveness. compared to four basis points of margin contraction in the third quarter. In addition, excess liquidity compressed the margin an additional seven basis points compared to three basis points in the third quarter. Slide 15. The loan yield was also positively impacted from PPP net loan fees recognized during the quarter, adding 15 basis points to the yield compared to a 13 basis point reduction in the third quarter. Higher purchase accounting income recognized in the fourth quarter compared to the third also positively impacted the loan yield. As loans continue to reprice and new product is originated at lower rates, some additional downward pressure on asset yield is expected, along with a mix of additional investments, resulting in some margin pressure during 2021 as the opportunities to lower funding costs are realized. Slide 16, our strong core deposits continue to help reduce our funding costs. The CD portfolio's 30 basis point decrease in pricing led the reduction in total funding costs as high-cost term deposits matured during the quarter. 445 million of CDs with an average cost of 93 basis points will mature during 2021 and continue to reduce our cost of funds. The 4% growth in noninterest-bearing deposits and two basis point drop in interest-bearing deposit costs also contributed to margin stabilization in the fourth quarter. Slide 17. Since the first quarter of 2020, we've maintained a conservative and strong liquidity position. We also expect additional liquidity from PPP loan forgiveness and, in the longer term, warehouse loan balances returning to normal levels when long-term interest rates start to escalate. To help utilize a portion of the liquidity building up in cash, we increased the investment portfolio over $100 million during the fourth quarter. Also, we prepaid $83 million of FHLB advances with a weighted average cost of 2.61%, utilizing $62 million of cash and selling $21 million of investments. While our fourth quarter results reflected a net one-time pre-tax loss of $1.2 million on the prepayment Thank you. Thank you. Record mortgage revenue from the gain on sale and the mortgage-related income drove our record non-interest income as we saw non-cash impairment charges to the mortgage servicing right asset flow in the quarter. The continued high level of mortgage production and strong percentage gains are the primary contributors to our solid non-interest income for the quarter. We also saw all other fee-based income increase over the third quarter. Based on local and national refinancing activity, we expect strong top-line contributions to continue from the mortgage business going into 2021. Slide 19, during the fourth quarter, we saw an increase in operating expenses, but improved the adjusted efficiency ratio to 56.5%. Increased salary and benefit costs were the primary driver of the increased expenses as our very strong fourth quarter and full year results merited higher performance-based compensation payments and accruals. There were also increases in other operating line items as investments were made for future efficiency efforts. As our increase in customer activity and the one-time write-downs to reduce the company's bank-owned real estate assets. As many of you know, part of Horizon's normal operating process includes a rigorous annual branch evaluation, which has led to consolidation of 25 retail locations over the last five years. We are currently in the process of another rigorous branch review as customer habits have changed as more digital channels are being used. Looking ahead, we intend to continue our record of maximizing the efficiency and scalability of our retail franchise while further leveraging the investments we have already made in digital, mobile, and remote banking, as well as our call centers. Slide 20, as we have discussed, we did adopt CECL on the start of 2020, and the $708,000 reserve bill in the fourth quarter was primarily driven by allocations for sectors of loans with potentially higher risk are all eligible for a PPP loan. The percentage of allowance to total loans was 1.47 at December 31, or 1.55 when excluding PPP loans. A balance of $11.5 million remains for discounts on acquired loans. Slide 21, Horizon continues to maintain a strong capital position in these uncertain times, supplemented by our $60 million subordinated debt raise in June. Accordingly, at December 31st, the holding company had just over $127 million in cash, representing approximately 18 quarters of fixed costs, which included interest on all debt, operating expenses at the holding company, and the current shareholder dividend level, which we are committed to maintaining. Overall, we are very pleased with our financial performance for 2020 in this very challenging year. We believe we are well positioned from a credit, liquidity, and capital perspective to and look forward to refining our operating model to further improve our results in the quarters ahead. For some additional comments on our loan portfolios, I'll turn it back over to Craig.