NICOLET BANKSHARES, INC. The following discussion is management's analysis to assist in the understanding and evaluation of the consolidated financial condition and results of operations of Nicolet. It should be read in conjunction with the consolidated financial statements and footnotes presented elsewhere in this report. The Company's financial performance and certain balance sheet line items were impacted by the timing and size of Nicolet's 2022 and 2021 acquisitions. Nicolet acquiredCharter Bankshares, Inc. ("Charter") onAugust 26, 2022 ,County Bancorp, Inc. ("County") onDecember 3, 2021 , andMackinac Financial Corporation ("Mackinac") onSeptember 3, 2021 . Certain income statement results, average balances and related ratios for 2022 include partial contributions from Charter, while 2021 results include partial contributions from County and Mackinac, each from the respective acquisition date. Additional information on Nicolet's recent acquisition activity is included in Note 2, "Acquisitions" in the Notes to Consolidated Financial Statements, under Part II, Item 8. The detailed financial discussion that follows focuses on 2022 results compared to 2021. For a discussion of 2021 results compared to 2020, see the information under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2021 , filed with theSEC onFebruary 25, 2022 , which information under that caption is incorporated herein by reference. Historical results of operations are not necessarily predictive of future results.
Overview
Economic Outlook
Growth in economic activity and demand for goods and services, combined with labor shortages, supply chain complications and geopolitical matters, have contributed to rising inflation. In response, theFederal Reserve has raised interest rates from a target range of 0.00%-0.25% in earlyMarch 2022 to 4.25%-4.50% at the end ofDecember 2022 . In addition, theFederal Reserve raised the target range to 4.50%-4.75% in earlyFebruary 2023 , and continues to signal the potential for additional increases in the target range to mitigate the hardships caused by the ongoingRussia -Ukraine conflict, continued supply chain disruptions, and elevated global uncertainty. The tightening of theFederal Reserve's monetary policies, including these increases in the target range and the tapering of theFederal Reserve's balance sheet, combined with ongoing economic and political instability, increases the risk of an economic recession. While forecasts vary, many economists are projecting thatU.S. economic growth will slow and inflation will remain elevated in the coming quarters, potentially resulting in a contraction of theU.S. gross domestic output in 2023. The timing and impact of inflation and rising interest rates on our business and related financial results will depend on future developments, which are highly uncertain and difficult to predict. 2022 Highlights In 2022, Nicolet delivered on growth, profitability, capital positioning, and sound asset quality management. OnAugust 26, 2022 , Nicolet completed its acquisition of Charter for a total purchase price of$137 million , including the issuance of 1.26 million shares of common stock valued at$98 million and the remainder in cash consideration. Charter added total assets of$1.1 billion , loans of$827 million , and deposits of$870 million , at acquisition. Net income for the year endedDecember 31, 2022 was$94 million and earnings per diluted common share was$6.56 , compared to net income of$61 million and earnings per diluted common share of$5.44 for 2021. Net income reflected non-core items and the related tax effect of each, including merger and integration related expenses, Day 2 credit provision expense required under the CECL model, branch optimization costs, and gains on other assets and investments. For the full year, non-core items negatively impacted diluted earnings per common share$0.34 for 2022 and$1.13 for 2021. AtDecember 31, 2022 , Nicolet had total assets of$8.8 billion , an increase of$1.1 billion (14%) overDecember 31, 2021 , largely due to the acquisition of Charter. Total loans increased$1.6 billion (34%) fromDecember 31, 2021 , including the Charter acquisition and the repurchase of approximately$100 million previously participated agriculture loans, as well as strong organic loan growth. Excluding the$827 million of loans acquired with Charter and the repurchased agriculture loans, organic loan growth was 14% fromDecember 31, 2021 . Total deposits increased$713 million (11%) fromDecember 31, 2021 , also largely due to the acquisition of Charter, while total borrowings increased$325 million , with approximately half acquired with Charter and the remainder related to new FHLB advances. Total stockholders' equity was$973 million atDecember 31, 2022 , an increase of$81 million sinceDecember 31, 2021 , mostly due to the common stock issued in the Charter acquisition, as well as solid earnings, offset by unfavorable changes in the fair value of available for sale securities and common stock repurchases executed early in 2022. Nonperforming assets were$40 million and represented 0.46% of total assets atDecember 31, 2022 , compared to$56 million or 0.73% at year-end 2021, with the decline due to a$6 million improvement in nonaccrual loans and a$10 million reduction in other real estate owned (primarily sales of closed bank branches). The allowance for credit losses-loans increased to$62 million (1.00% of loans), mostly due to the Day 2 allowance increase from the Charter acquisition. 29 -------------------------------------------------------------------------------- Nicolet remains well positioned to execute its core strategy of providing shared success to its employees, customers, and shareholders after recording a record year of net income and earnings per share during 2022. The board and management team met several challenges throughout the year, most notably positioning the bank to manage the rapid increase in interest rates as theFederal Reserve aggressively attempted to curb inflationary pressures. The swift change in interest rates in the first half of the year caused a notable change in the market value of Nicolet's securities portfolio, thus negatively impacting common equity, book values, and certain non-regulatory capital ratios. The additional pressure on common equity balances caused management to pause its share repurchase program for the first time in several years inApril 2022 . Additionally, while the acquisition ofCharter Bankshares was successfully announced, closed, and integrated during 2022, the cash consideration in the transaction coupled with changes in mark-to-market accounting due to rapidly changing interest rates placed additional pressure on Nicolet's capital. We view this pressure as temporary, as the combination of strong earnings, a stable balance sheet, and more predictable interest rates is expected to cause an increase in our common equity and related metrics and ratios. In 2023, Nicolet's board and management team have outlined certain strategic objectives it hopes to achieve, including the continued integration of the Charter acquisition, the cultural assimilation in the wealth management area due to high profile hires in late 2022, and a renewed focus on gathering core deposits. While the financial and physical integration of Charter was completed shortly after closing the merger, the cultural integration will continue well into 2023. As we have experienced with all of our past eight bank acquisitions, melding two cultures takes patience and effort by our entire employee base. While we are encouraged by what we've experienced through the first few months since closing, we also understand it takes time for employees and customers in new markets to understand how we operate. Nicolet has quickly made significant investments in our new communities ofEau Claire andChetek, Wisconsin , andChaska andChanhassen, Minnesota , including a new branch inLake Hallie ,Wisconsin , which is expected to open in mid-2023. Similarly, Nicolet hired a highly experienced, well-known, and highly regarded financial advisor to its wealth team in fourth quarter 2022 and assembled a seasoned team of private bankers and wealth professionals in northernMichigan . Those hires have already resulted in several new account openings and added assets under management in a short period. This allows management the opportunity to assess its current product offerings and staffing levels, which will likely evolve during 2023. The new interest rate environment has placed additional challenges on the banking industry as a whole, which Nicolet is certainly not immune to. We are in an interest rate environment last seen more than 15 years ago. Higher rates have caused our funding costs to increase more quickly than the yield earned from our securities and loan portfolios due to their fixed rate concentration. While we see ourselves as an asset sensitive bank, meaning our net interest income increases in a rising rate environment, we also require the benefit of time for our loan portfolio to price. As a result, we expect our net interest margin to remain under some pressure during the first quarter of 2023, and begin to steadily improve once theFederal Reserve pauses interest rate hikes. Management has also placed a renewed emphasis on core deposit gathering in 2023, as the cost of core deposits is typically lower than wholesale borrowing options. However, several other banks and credit unions are in a similar position, and thus, we expect competition for local deposits will be intense throughout the year. Finally, higher rates have lowered the market value of our securities portfolio, thus lowering our common equity through mark-to-market accounting. While we see this as temporary, it did cause management to take a more conservative approach to managing capital, and thus pause the share buyback program inApril 2022 . The program remains on pause through early 2023 (beyond a small private purchase transaction), and management expects it to restart at some point during 2023, as common equity levels have rebounded due to strong retained earnings, and a shift in interest rates has improved the unrealized losses on securities available for sale. 30 --------------------------------------------------------------------------------
Table 1: Earnings Summary and Selected Financial Data
At and for the years ended December 31,
(in thousands, except per share data) 2022 2021 2020
Results of operations:
Net interest income $ 239,961 $ 157,955 $ 129,338
Provision for credit losses 11,500 14,900 10,300
Noninterest income 57,920 67,364 62,626
Noninterest expense 160,644 129,297 100,719
Income before income tax expense 125,737 81,122 80,945
Income tax expense 31,477 20,470 20,476
Net income 94,260 60,652 60,469
Net income attributable to noncontrolling interest - - 347
Net income attributable to
$ 60,652 $ 60,122 Earnings per common share: Basic$ 6.78 $ 5.65 $ 5.82 Diluted$ 6.56 $ 5.44 $ 5.70 Common shares: Basic weighted average 13,909 10,736 10,337 Diluted weighted average 14,375 11,145 10,541 Year-End Balances: Loans$ 6,180,499 $ 4,621,836 $ 2,789,101 Allowance for credit losses - loans ("ACL-Loans") 61,829 49,672 32,173 Total assets 8,763,969 7,695,037 4,551,789 Deposits 7,178,921 6,465,916 3,910,399 Stockholders' equity (common) 972,529 891,891 539,189 Book value per common share$ 66.20 $ 63.73 $ 53.86 Tangible book value per common share (1)$ 38.81 $ 39.47 $ 36.34 Financial Ratios: Return on average assets 1.20 % 1.15 % 1.41 % Return on average common equity 10.63 9.74 11.40 Return on average tangible common equity (1) 17.96 14.74 16.76 Stockholders' equity to assets 11.10 11.59 11.85 Tangible common equity to tangible assets (1) 6.82 7.51 8.31 Reconciliation of Non-GAAP Financial Measures: Adjusted net income reconciliation: (2) Net income attributable to Nicolet (GAAP)$ 94,260 $ 60,652 $ 60,122 Adjustments: Provision expense related to merger 8,000 14,400 - Assets (gains) losses, net (3,130) (4,181) 1,805 Merger-related expense 1,664 5,651 1,020 Branch closure expense - 944 500 Adjustments subtotal 6,534 16,814 3,325 Tax on Adjustments (25% effective tax rate) 1,634 4,204 831 Adjustments, net of tax 4,901 12,611 2,494
Adjusted net income attributable to Nicolet (Non-GAAP)
$ 73,263 $ 62,616 Adjusted Diluted earnings per common share (Non-GAAP)$ 6.90 $ 6.57 $ 5.94 Tangible assets: Total assets$ 8,763,969 $ 7,695,037 $ 4,551,789 Goodwill and other intangibles, net 402,438 339,492 175,353 Tangible assets$ 8,361,531 $ 7,355,545 $ 4,376,436 Tangible common equity: Stockholders' equity (common)$ 972,529 $ 891,891 $ 539,189 Goodwill and other intangibles, net 402,438 339,492 175,353 Tangible common equity$ 570,091 $ 552,399 $ 363,836 Tangible average common equity: Average stockholders' equity (common)$ 886,385 $ 622,903 $ 527,428 Average goodwill and other intangibles, net 361,471 211,463 168,802 Average tangible common equity$ 524,914
(1) The ratios of tangible book value per common share, return on average
tangible common equity, and tangible common equity to tangible assets exclude
goodwill and other intangibles, net. These non-GAAP financial ratios have been
included as they are considered to be critical metrics with which to analyze and
evaluate financial condition and capital strength.
(2) The adjusted net income measure and related reconciliation provide
information useful to investors in understanding the operating performance and
trends of Nicolet and also to aid investors in the comparison of Nicolet's
financial performance to the financial performance of peer banks.
31
--------------------------------------------------------------------------------Non-GAAP Financial Measures
We identify "tangible book value per common share," "return on average tangible common equity," "tangible common equity to tangible assets" "adjusted net income," and "adjusted diluted earnings per common share" as "non-GAAP financial measures." In accordance with theSEC's rules, we identify certain financial measures as non-GAAP financial measures if such financial measures exclude or include amounts in the most directly comparable measures calculated and presented in accordance with generally accepted accounting principles ("GAAP") in effect inthe United States in our statements of income, balance sheets or statements of cash flows. Non-GAAP financial measures do not include operating and other statistical measures, ratios or statistical measures calculated using exclusively financial measures calculated in accordance with GAAP. Management believes that the presentation of these non-GAAP financial measures (a) are important metrics used to analyze and evaluate our financial condition and capital strength and provide important supplemental information that contributes to a proper understanding of our operating performance and trends, (b) enables a more complete understanding of factors and trends affecting our business, and (c) allows investors to compare our financial performance to the financial performance of our peers and to evaluate our performance in a manner similar to management, the financial services industry, bank stock analysts, and bank regulators. Management uses non-GAAP measures as follows: in the preparation of our operating budgets, financial performance reporting, and in our presentation to investors of our performance. However, we acknowledge that these non-GAAP financial measures have a number of limitations. Limitations associated with non-GAAP financial measures include the risk that persons might disagree as to the appropriateness of items comprising these measures and that different companies might calculate these measures differently. These disclosures should not be considered an alternative to our GAAP results. A reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measures is presented in the table above.
INCOME STATEMENT ANALYSIS
Net Interest Income
Net interest income is the primary source of Nicolet's revenue, and is the
difference between interest income on earning assets, such as loans and
investment securities, and interest expense on interest-bearing liabilities,
such as deposits and other borrowings. Net interest income is directly impacted
by the sensitivity of the balance sheet to changes in interest rates and by the
amount, mix and composition of interest-earning assets and interest-bearing
liabilities, including characteristics such as the fixed or variable nature of
the financial instruments, contractual maturities, and repricing frequencies.
Tax-equivalent net interest income is a non-GAAP measure, but is a preferred
industry measurement of net interest income (and is used in calculating a net
interest margin) as it enhances the comparability of net interest income arising
from taxable and tax-exempt sources. Tables 2 and 3 present information to
facilitate the review and discussion of selected average balance sheet items,
tax-equivalent net interest income, interest rate spread, and net interest
margin.
32
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Table 2: Average Balance Sheet and Net Interest Income Analysis - Tax-Equivalent
Basis
Years Ended December 31,
(in thousands) 2022 2021 2020
Average Average Average Average Average Average
Balance Interest Yield/Rate Balance Interest Yield/Rate Balance Interest Yield/Rate
ASSETS
Interest-earning assets
PPP Loans $ 4,872 $ 1,392 28.57 % $ 141,510 $ 16,672 11.78 % $ 220,544 $ 8,062 3.66 %
All other commercial-based loans 4,377,313 202,692 4.63 % 2,477,608 114,089 4.60 % 2,088,149 105,643 5.06 %
Retail-based loans 873,461 39,735 4.55 % 564,563 25,883 4.58 % 478,894 22,776 4.76 %
Total loans, including loan fees (1)(2) 5,255,646 243,819 4.64 % 3,183,681 156,644 4.92 % 2,787,587 136,481 4.90 %
Investment securities:
Taxable 1,389,956 21,383 1.54 % 592,561 9,934 1.68 % 354,430 8,118 2.29 %
Tax-exempt (2) 229,316 6,192 2.70 % 145,979 3,113 2.13 % 135,779 2,961 2.18 %
Total investment securities 1,619,272 27,575 1.70 % 738,540 13,047 1.77 % 490,209 11,079 2.26 %
Other interest-earning assets 232,531 4,437 1.91 % 797,196 2,909 0.36 % 572,016 2,611 0.46 %
Total non-loan earning assets 1,851,803 32,012 1.73 % 1,535,736 15,956 1.04 % 1,062,225 13,690
1.29 %
Total interest-earning assets 7,107,449$ 275,831 3.88 % 4,719,417$ 172,600 3.66 % 3,849,812$ 150,171 3.90 % Other assets, net 730,246 552,046 405,395 Total assets$ 7,837,695 $ 5,271,463 $ 4,255,207 LIABILITIES AND STOCKHOLDERS' EQUITY Interest-bearing liabilities Savings$ 875,530 $ 2,075 0.24 %$ 644,525 $ 382 0.06 %$ 422,171 $ 700 0.17 % Interest-bearing demand 999,700 4,382 0.44 % 725,686 2,816 0.39 % 562,370 3,938 0.70 % Money market accounts ("MMA") 1,553,131 6,696 0.43 % 994,866 613 0.06 % 749,877 1,502 0.20 % Core time deposits 558,840 2,171 0.39 % 364,069 2,846 0.78 % 390,216 6,023 1.54 % Total interest-bearing core deposits 3,987,201 15,324 0.38 % 2,729,146 6,657 0.24 % 2,124,634 12,163 0.57 % Brokered deposits 490,871 6,428 1.31 % 308,091 3,791 1.23 % 289,489 4,478 1.55 % Total interest-bearing deposits 4,478,072 21,752 0.49 % 3,037,237 10,448 0.34 % 2,414,123 16,641 0.69 % PPPLF - - - % - - - % 161,634 571 0.35 % Other interest-bearing liabilities 298,852 12,205 4.08 % 103,156 3,156 3.06 % 84,751 2,652
3.13 %
Total wholesale funding 298,852 12,205 4.08 % 103,156 3,156 3.06 % 246,385 3,223
1.31 %
Total interest-bearing liabilities 4,776,924 33,957 0.71 % 3,140,393 13,604 0.43 % 2,660,508 19,864 0.75 % Noninterest-bearing demand deposits 2,135,852 1,461,850 1,025,625 Other liabilities 38,534 46,317 41,646 Stockholders' equity 886,385 622,903 527,428 Total liabilities and stockholders' equity$ 7,837,695 $ 5,271,463 $ 4,255,207 Tax-equivalent net interest income and rate spread$ 241,874 3.17 %$ 158,996 3.23 %$ 130,307 3.15 % Tax-equivalent adjustment and net free funds 1,913 0.23 % 1,041 0.14 % 969 0.23 % Net interest income and net interest margin$ 239,961 3.40 %$ 157,955 3.37 %$ 129,338 3.38 %
(1)Nonaccrual loans and loans held for sale are included in the daily average loan balances outstanding.
(2)The yield on tax-exempt loans and tax-exempt investment securities is computed on a tax-equivalent basis using a federal tax rate of 21% and adjusted for the disallowance of interest expense.
33
--------------------------------------------------------------------------------Table 3: Volume/Rate Variance - Tax-Equivalent Basis
2022 Compared to 2021 2021 Compared to 2020
(in thousands) Increase (Decrease) Due to Changes in Increase (Decrease) Due to Changes in
Volume Rate Net (1) Volume Rate Net (1)
Interest-earning assets
PPP Loans $ (19,160) $ 3,880
(13,202) 88,603 19,329 (10,883) 8,446
Retail-based loans 12,804 1,048 13,852 4,919 (1,812) 3,107
Total loans, including loan fees
(2) (3) 95,449 (8,274) 87,175 20,398 (235) 20,163
Investment securities:
Taxable 10,595 854 11,449 2,723 (907) 1,816
Tax-exempt (3) 2,100 979 3,079 218 (66) 152
Total investment securities 12,695 1,833 14,528 2,941 (973) 1,968
Other interest-earning assets (480) 2,008 1,528 552 (254) 298
Total non-loan earning assets 12,215 3,841 16,056 3,493 (1,227) 2,266
Total interest-earning assets
$ 103,231 $ 23,891 $ (1,462) $ 22,429 Interest-bearing liabilities Savings $ 181$ 1,512 $ 1,693 $ 261$ (579) $ (318) Interest-bearing demand 1,167 399 1,566 943 (2,065) (1,122) MMA 520 5,563 6,083 382 (1,271) (889) Core time deposits 1,128 (1,803) (675) (380) (2,797) (3,177) Total interest-bearing core deposits 2,996 5,671 8,667 1,206 (6,712) (5,506) Brokered deposits 2,379 258 2,637 274 (961) (687) Total interest-bearing deposits 5,375 5,929 11,304 1,480 (7,673) (6,193) PPPLF - - - (286) (285) (571) Other interest-bearing liabilities 7,897 1,152 9,049 1,195 (691) 504 Total wholesale funding 7,897 1,152 9,049 909 (976) (67) Total interest-bearing liabilities 13,272 7,081 20,353 2,389 (8,649) (6,260) Net interest income$ 94,392 $ (11,514) $ 82,878 $ 21,502 $ 7,187 $ 28,689
(1)The change in interest due to both rate and volume has been allocated in proportion to the relationship of dollar amounts of change in each.
(2)Nonaccrual loans and loans held for sale are included in the daily average loan balances outstanding.
(3)The yield on tax-exempt loans and tax-exempt investment securities is computed on a tax-equivalent basis using a federal tax rate of 21% and adjusted for the disallowance of interest expense.
Comparison of 2022 versus 2021
TheFederal Reserve raised short-term interest rates a total of 425 bps sincemid-March 2022 , increasing the Federal Funds rate to a range of 4.25% to 4.50% as ofDecember 31, 2022 . Prior to this, short-term interest rates remained steady sinceMarch 2020 , with a Federal Funds rate of 0.00% to 0.25%. Tax-equivalent net interest income was$242 million for 2022, comprised of net interest income of$240 million ($82 million or 52% higher than 2021) and a$2 million tax-equivalent adjustment. The increase in tax-equivalent net interest income was attributable to net favorable volumes (which added$94 million , mostly from interest-earning asset volumes added with the recent acquisitions, as well as solid loan growth and strategic investment purchases in fourth quarter 2021) and net unfavorable rates (which decreased net interest income$12 million from higher deposit rates and the lag in repricing the loan portoflio to current market interest rates). Average interest-earning assets were$7.1 billion for 2022,$2.4 billion (51%) higher than 2021, primarily due to the acquisitions of Mackinac, County, and Charter (inSeptember 2021 ,December 2021 , andAugust 2022 , respectively). Average loans increased$2.1 billion (65%) to$5.3 billion , largely due to the timing of the acquisitions (with Mackinac adding$940 million at acquisition, County adding$1.0 billion at acquisition, and Charter adding$827 million at acquisition). In addition, average loans reflected strong organic loan growth and the repurchase of approximately$100 million previously participated agricultural loans. Average investment securities increased$881 million , including growth related to the acquisitions, as well as the re-investment of approximately$0.5 billion excess cash liquidity intoU.S. Treasury securities of varying yields and durations during fourth quarter 2021. Other interest-earning assets declined$565 million , mostly lower cash from the re-investment of excess cash liquidity noted above. As a result, the mix of average interest-earning assets shifted to 74% loans, 23% investment securities, and 3% other interest-earning assets (mostly cash) for 2022, compared to 67%, 16%, and 17%, respectively, for 2021. 34 -------------------------------------------------------------------------------- Average interest-bearing liabilities were$4.8 billion for 2022, an increase of$1.6 billion (52%) from 2021, also primarily due to the timing of the acquisitions. Average interest-bearing core deposits increased$1.3 billion and average brokered deposits grew$183 million , largely due to the acquisitions. Other interest-bearing liabilities increased$196 million , reflecting the private placement of$100 million in fixed-to-floating subordinated notes inJuly 2021 , wholesale funding acquired with the acquisitions, and other funding needs in 2022 to support the strong loan growth. The mix of average interest-bearing liabilities was 84% core deposits, 10% brokered deposits, and 6% other funding for 2022, compared to 87% core deposits, 10% brokered deposits, and 3% other funding in 2021. The interest rate spread decreased 6 bps between the periods, as our liabilities have repriced faster than our assets in the rapidly rising interest rate environment of 2022. The 2022 interest-earning asset yield increased 22 bps to 3.88% for 2022, largely due to the changing mix of interest-earning assets (to a higher percentage of loan assets, as noted above). The loan yield declined 28 bps to 4.64% for 2022, due to several factors: a lower percentage of PPP loans between the years, the impact of the low interest rate environment through early 2022 given the fixed nature of a portion of our loan portfolio, and competitive pricing pressures on new, renewed and variable rate loans. The investment yield declined 7 bps to 1.70%, attributable to the low rate environment through early 2022 and the re-investment of excess cash intoU.S. Treasuries. The cost of funds increased 28 bps to 0.71% for 2022, reflecting the impact of a rising interest rate environment on core interest-bearing deposits (up 14 bps to 0.38%), as well as the changing mix of interest-bearing liabilities (as noted above). The contribution from net free funds increased 9 bps, attributable to the higher value in a rising interest rate environment and an increase in average net free funds (largely from higher average noninterest-bearing demand deposits and stockholders' equity) between the years. As a result, the net interest margin was 3.40% for 2022, up 3 bps compared to 3.37% for 2021. Tax-equivalent interest income was$276 million , up$103 million (60%) over 2021. Interest income on loans increased$87 million (56%) over 2021, mostly due to strong volumes from the acquisitions and organic loan growth. Between the years, interest income on investment securities increased$15 million to$28 million , with$13 million from higher average volumes due to the acquisitions and re-investment of excess cash (as noted above) and$2 million from higher rates. Interest expense was$34 million for 2022, up$20 million (150%) from 2021. Interest expense on deposits increased$11 million from 2021 given higher average deposit balances and a higher overall cost (up 15 bps to 0.49%). Interest expense on wholesale funding increased$9 million over 2021 mostly due to higher average balances from theJuly 2021 subordinated notes issuance, as well as wholesale funding acquired with the acquisitions.
Provision for Credit Losses
The provision for credit losses in 2022 was$11.5 million (comprised of$11.0 million related to the ACL-Loans, and the remainder for the ACL on unfunded commitments). The 2022 provision for credit losses included$8 million for the required Day 2 ACL increase from the acquisition of Charter, and the remaining increase to support the strong loan growth. Comparatively, the 2021 provision for credit losses was largely due to the required Day 2 ACL increase from the acquisitions of County and Mackinac. Asset quality trends have been solid and net charge-offs were negligible for both years. The provision for credit losses is predominantly a function of Nicolet's methodology and judgment as to qualitative and quantitative factors used to determine the appropriateness of the ACL-Loans. The appropriateness of the ACL-Loans is affected by changes in the size and character of the loan portfolio, changes in levels of collateral-dependent and other nonperforming loans, historical losses and delinquencies in each portfolio segment, the risk inherent in specific loans, concentrations of loans to specific borrowers or industries, existing and future economic conditions, the fair value of underlying collateral, and other factors which could affect potential credit losses. For additional information regarding asset quality and the ACL-Loans, see "BALANCE SHEET ANALYSIS - Loans," and "- Allowance for Credit Losses - Loans" and "-Nonperforming Assets." 35 --------------------------------------------------------------------------------
Noninterest Income
Table 4: Noninterest Income
(in thousands) Years Ended December 31, Change From Prior Year
$ Change % Change $ Change % Change
2022 2021 2020 2022 2022 2021 2021
Trust services fee income $ 7,947 $ 7,774 $ 6,463 $ 173 2 % $ 1,311 20 %
Brokerage fee income 12,923 12,143 9,753 780 6 % 2,390 25 %
Mortgage income, net 8,497 22,155 29,807 (13,658) (62) % (7,652) (26) %
Service charges on deposit
accounts 6,104 5,023 4,208 1,081 22 % 815 19 %
Card interchange income 11,643 9,163 6,998 2,480 27 % 2,165 31 %
Bank owned life insurance
("BOLI") income 3,818 2,380 2,710 1,438 60 % (330) (12) %
Deferred compensation plan asset
market valuations (2,040) 609 590 (2,649) N/M 19 N/M
LSR income, net (1,366) - - (1,366) N/M - N/M
Other income 7,264 3,936 3,902 3,328 85 % 34 1 %
Noninterest income without net
gains 54,790 63,183 64,431 (8,393) (13) % (1,248) (2) %
Asset gains (losses), net 3,130 4,181 (1,805) (1,051) N/M 5,986 N/M
Total noninterest income $ 57,920 $ 67,364 $ 62,626 $ (9,444) (14) % $ 4,738 8 %
Trust services fee income
& Brokerage fee income combined $ 20,870 $ 19,917 $ 16,216 $ 953 5 % $ 3,701 23 %
N/M means not meaningful.
Comparison of 2022 versus 2021
Noninterest income was$58 million for 2022, a decrease of$9 million (14%) from 2021, primarily due to lower net mortgage income. Notable contributions to the change in noninterest income were: •Trust services fee income and brokerage fee income combined were$21 million for 2022, up$1 million (5%) from 2021, as growth in accounts and assets under management outpaced unfavorable market-related declines. •Mortgage income represents net gains received from the sale of residential real estate loans into the secondary market, capitalized mortgage servicing rights ("MSRs"), servicing fees net of MSR amortization, fair value marks on the mortgage interest rate lock commitments and forward commitments ("mortgage derivatives"), and MSR valuation changes, if any. Net mortgage income was$8 million for 2022, down$14 million (62%) between the years, mostly due to the rising interest rate environment reducing secondary market volumes and the related gains on sales. See also "Off-Balance Sheet Arrangements, Lending-Related Commitments and Contractual Obligations" and Note 6, "Goodwill and Other Intangibles and Servicing Rights" in the Notes to Consolidated Financial Statements, under Part II, Item 8.
•Service charges on deposit accounts were up
•Card interchange income grew
•BOLI income increased
•The Company sponsors a nonqualifed deferred compensation ("NQDC") plan for
certain employees, that fluctuates based upon market valuations of the
underlying plan assets. See also "Noninterest Expense" for the offsetting fair
value change to the NQDC plan liabilities and Note 10, "Employee and Director
Benefit Plans" in the Notes to Consolidated Financial Statements, under Part II,
Item 8, for additional information on the NQDC plan.
•Loan servicing rights ("LSR") income includes agricultural loan servicing fees
net of the related LSR amortization. Nicolet is not adding new loans to this
servicing portfolio and repurchased approximately $100 million of these
previously participated loans during second quarter 2022; thus, the LSR
amortization is currently outpacing the loan servicing fees. See also Note 6,
"Goodwill and Other Intangibles and Servicing Rights" in the Notes to
Consolidated Financial Statements, under Part II, Item 8, for additional
information on the LSR asset.
•Other income grew
•The$3 million net asset gains in 2022 were primarily attributable to gains on sales of other real estate owned (mostly closed bank branch locations). Net asset gains in 2021 of$4 million were primarily attributable to favorable fair value marks on equity securities (including$3.5 million related to the initial public offering of an equity investment). Additional 36 -------------------------------------------------------------------------------- information on the net gains is also included in Note 16, "Asset Gains (Losses), Net," in the Notes to Consolidated Financial Statements, under Part II, Item 8. Noninterest Expense Table 5: Noninterest Expense ($ in thousands) Years Ended December 31, Change From Prior Year Change % Change Change % Change 2022 2021 2020 2022 2022 2021 2021 Personnel$ 88,713 $ 70,618 $ 57,121 $ 18,095 26 %$ 13,497 24 % Occupancy, equipment and office 29,722 21,058 16,718 8,664 41 % 4,340 26 % Business development and marketing 8,472 5,403 5,396 3,069 57 % 7 - % Data processing 14,518 11,990 10,495 2,528 21 % 1,495 14 % Intangibles amortization 6,616 3,494 3,567 3,122 89 % (73) (2) % FDIC assessments 1,920 2,035 707 (115) (6) % 1,328 188 % Merger-related expense 1,664 5,651 1,020 (3,987) (71) % 4,631 454 % Other expense 9,019 9,048 5,695 (29) - % 3,353 59 % Total noninterest expense$ 160,644 $ 129,297 $ 100,719 $ 31,347 24 %$ 28,578 28 % Non-personnel expenses$ 71,931 $ 58,679 $ 43,598 $ 13,252 23 %$ 15,081 35 % Average full-time equivalent employees 881 626 553 255 41 % 73 13 %
Comparison of 2022 versus 2021
Noninterest expense was$161 million , an increase of$31 million (24%) over 2021. Personnel costs increased$18 million (26%), while non-personnel expenses combined increased$13 million (23%) over 2021. Notable contributions to the change in noninterest expense were: •Personnel expense (including salaries, overtime, cash and equity incentives, and employee benefit and payroll-related expenses) was$89 million for 2022, an increase of$18 million (26%) over 2021. Salary expense increased$15 million (25%) over 2021, reflecting higher salaries from the larger employee base (with average full-time equivalent employees up 41%) as well as merit increases between the years and investments in our wealth team. Salary expense also reflected increases in hourly pay and base salaries effective at the end ofMarch 2022 , which benefited the majority of our employee base. Fringe benefits increased$3 million (30%) over 2021, also mainly due to the larger employee base. Personnel expense was also impacted by the change in the fair value of the NQDC plan liabilities. See also "Noninterest Income" for the offsetting fair value change to the NQDC plan assets and Note 10, "Employee and Director Benefit Plans" in the Notes to Consolidated Financial Statements, under Part II, Item 8, for additional information on the NQDC plan. •Occupancy, equipment and office expense was$30 million for 2022, up$9 million (41%) from 2021, largely due to the expanded branch network with the recent acquisitions, as well as additional expense for software and technology solutions to drive operational efficiencies, and enhance products or services. 2021 also included approximately$1 million of accelerated depreciation and write-offs related to branch closures. •Business development and marketing expense was$8 million for 2022, up$3 million (57%) from 2021, largely due to higher travel and entertainment expenses, as well as additional marketing donations, promotions, and media to support our expanded branch network and community base. •Data processing expense was$15 million for 2022, up$3 million (21%) over 2021, mostly due to volume-based increases in core processing charges, including the larger operating base following the Charter, County, and Mackinac acquisitions.
•Intangible amortization increased
•Other expense was$9 million for 2022, minimally changed from 2021, with 2022 including higher professional fees, director fees, fraud losses, and higher overall expenses related to our larger operating base, while 2021 included a$2 million contract termination charge.
Income Taxes
Income tax expense was$31 million (effective tax rate of 25.0%) for 2022, compared to$20 million (effective tax rate of 25.2%) for 2021. The accounting for income taxes requires deferred income taxes to be analyzed to determine if a valuation allowance is required. A valuation allowance is required if it is more likely than not that some portion of the deferred tax asset will not be realized. This analysis involves the use of estimates and assumptions concerning accounting pronouncements and federal and state tax codes; therefore, income taxes are considered a critical accounting estimate. AtDecember 31, 2022 and 2021, no valuation allowance was determined to be necessary. Additional information on the subjectivity of income taxes is discussed further under 37 -------------------------------------------------------------------------------- "Critical Accounting Estimates-Income Taxes." The Company's income taxes accounting policy is described in Note 1, "Nature of Business and Significant Accounting Policies," and additional disclosures relative to income taxes are included in Note 13, "Income Taxes" in the Notes to Consolidated Financial Statements, under Part II, Item 8.
BALANCE SHEET ANALYSIS
Loans
Nicolet services a diverse customer base throughoutWisconsin ,Michigan andMinnesota , including the following industries: manufacturing, wholesaling, paper, packaging, food production and processing, agriculture, forest products, hospitality, retail, service, and businesses supporting the general building industry. The Company concentrates on originating loans in its local markets and assisting current loan customers. Nicolet actively utilizes government loan programs such as those provided by theU.S. Small Business Administration ("SBA") and theU.S. Department of Agriculture's Farm Service Agency ("FSA"). In addition to the discussion that follows, accounting policies, general loan portfolio characteristics, and credit risk are described in Note 1, "Nature of Business and Significant Accounting Policies," and additional loan related disclosures are included in Note 4, "Loans, Allowance for Credit Losses - Loans, and Credit Quality," in the Notes to Consolidated Financial Statements, under Part II, Item 8. An active credit risk management process is used to ensure that sound and consistent credit decisions are made. The credit management process is regularly reviewed and has been modified over the past several years to further strengthen the controls. Factors that are important to managing overall credit quality are sound loan underwriting and administration, systematic monitoring of existing loans and commitments, effective loan review on an ongoing basis, early problem loan identification and remedial action to minimize losses, an appropriate ACL-Loans, and sound nonaccrual and charge-off policies.
Table 6: Period End Loan Composition
December 31, 2022 December 31, 2021 December 31, 2020
% of % of % of
(in thousands) Amount Total Amount Total Amount Total
Commercial & industrial $ 1,304,819 21 % $ 1,042,256 23 % $ 936,734 34 %
Owner-occupied CRE 954,599 15 % 787,189 17 % 521,300 19 %
Agricultural 1,088,607 18 % 794,728 17 % 109,629 4 %
Commercial 3,348,025 54 % 2,624,173 57 % 1,567,663 57 %
CRE investment 1,149,949 19 % 818,061 18 % 460,721 16 %
Construction & land development 318,600 5 % 213,035 5 % 131,283 5 %
Commercial real estate 1,468,549 24 % 1,031,096 23 % 592,004 21 %
Commercial-based loans 4,816,574 78 % 3,655,269 80 % 2,159,667 78 %
Residential construction 114,392 2 % 70,353 1 % 41,707 1 %
Residential first mortgage 1,016,935 16 % 713,983 15 % 444,155 16 %
Residential junior mortgage 177,332 3 % 131,424 3 % 111,877 4 %
Residential real estate 1,308,659 21 % 915,760 19 % 597,739 21 %
Retail & other 55,266 1 % 50,807 1 % 31,695 1 %
Retail-based loans 1,363,925 22 % 966,567 20 % 629,434 22 %
Total loans $ 6,180,499 100 % $ 4,621,836 100 % $ 2,789,101 100 %
As noted in Table 6 above, year-end 2022 loans were broadly 78% commercial-based
and 22% retail-based compared to 80% commercial-based and 20% retail-based at
year-end 2021. Commercial-based loans are considered to have more inherent risk
of default than retail-based loans, in part because the commercial balance per
borrower is typically larger than that for retail-based loans, implying higher
potential losses on an individual customer basis.
Total loans were
38
--------------------------------------------------------------------------------Table 7: Loan Maturity Distribution
The following table presents the maturity distribution of the loan portfolio atDecember 31, 2022 . (in thousands) Loan Maturity One Year After One Year After Five Years After Fifteen or Less to Five Years to Fifteen Years Years Total Commercial & industrial$ 433,319 $ 660,560 $ 197,352 $ 13,588 $ 1,304,819 Owner-occupied CRE 78,759 639,093 208,719 28,028 954,599 Agricultural 350,752 328,495 367,913 41,447 1,088,607 CRE investment 129,770 737,869 250,256 32,054 1,149,949 Construction & land development 64,169 131,889 92,379 30,163 318,600 Residential construction * 41,049 6,922 2,091 64,330 114,392 Residential first mortgage 22,985 263,810 202,514 527,626 1,016,935 Residential junior mortgage 6,814 19,941 33,201 117,376 177,332 Retail & other 27,814 15,002 8,021 4,429 55,266 Total loans$ 1,155,431 $ 2,803,581 $ 1,362,446 $ 859,041 $ 6,180,499 Percent by maturity distribution 19 % 45 % 22 % 14 % 100 % Fixed rate loans: Commercial & industrial$ 76,338 $ 597,734 $ 126,546 $ 3,429 $ 804,047 Owner-occupied CRE 78,646 598,540 121,776 1,235 800,197 Agricultural 182,188 313,641 343,130 30,956 869,915 CRE investment 112,036 704,001 160,816 1,812 978,665 Construction & land development 29,361 127,088 64,675 6,855 227,979 Residential construction * 19,340 6,922 1,926 39,440 67,628 Residential first mortgage 19,953 260,201 155,600 228,323 664,077 Residential junior mortgage 839 8,457 5,402 309 15,007 Retail & other 1,834 14,711 7,354 3,623 27,522 Total fixed rate loans$ 520,535 $ 2,631,295 $ 987,225 $ 315,982 $ 4,455,037 Floating rate loans: Commercial & industrial$ 356,981 $ 62,826 $ 70,806 $ 10,159 $ 500,772 Owner-occupied CRE 113 40,553 86,943 26,793 154,402 Agricultural 168,564 14,854 24,783 10,491 218,692 CRE investment 17,734 33,868 89,440 30,242 171,284 Construction & land development 34,808 4,801 27,704 23,308 90,621 Residential construction * 21,709 - 165 24,890 46,764 Residential first mortgage 3,032 3,609 46,914 299,303 352,858 Residential junior mortgage 5,975 11,484 27,799 117,067 162,325 Retail & other 25,980 291 667 806 27,744 Total floating rate loans$ 634,896 $ 172,286 $ 375,221 $ 543,059 $ 1,725,462
* The residential construction loans with a loan maturity after five years represent a construction to permanent loan product.
Allowance for Credit Losses - Loans
In addition to the discussion that follows, accounting policies for the
allowance for credit losses - loans are described in Note 1, "Nature of Business
and Significant Accounting Policies," and additional ACL-Loans disclosures are
included in Note 4, "Loans, Allowance for Credit Losses - Loans, and Credit
Quality," in the Notes to Consolidated Financial Statements, under Part II, Item
8.
Credit risks within the loan portfolio are inherently different for each loan
type. Credit risk is controlled and monitored through the use of lending
standards, a thorough review of potential borrowers, and ongoing review of loan
payment performance. Active asset quality administration, including early
problem loan identification and timely resolution of problems, aids in the
management of credit risk and minimization of loan losses. Loans charged off are
subject to continuous review, and specific efforts are taken to achieve maximum
recovery of principal, interest, and related expenses. For additional
information regarding nonperforming assets see "BALANCE SHEET ANALYSIS -
Nonperforming Assets."
39
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The ACL-Loans represents management's estimate of expected credit losses in the
Company's loan portfolio at the balance sheet date. To assess the overall
appropriateness of the ACL-Loans, management applies an allocation methodology
which focuses on evaluation of qualitative and environmental factors, including
but not limited to: (i) evaluation of facts and issues related to specific
loans; (ii) management's ongoing review and grading of the loan portfolio; (iii)
consideration of historical loan loss and delinquency experience on each
portfolio segment; (iv) trends in past due and nonaccrual loans; (v) the risk
characteristics of the various loan segments; (vi) changes in the size and
character of the loan portfolio; (vii) concentrations of loans to specific
borrowers or industries; (viii) existing economic conditions; (ix) the fair
value of underlying collateral; and (x) other qualitative and quantitative
factors which could affect expected credit losses. Assessing these factors
involves significant judgment; therefore, management considers the ACL-Loans a
critical accounting estimate, as further discussed under "Critical Accounting
Estimates - Allowance for Credit Losses - Loans."
Management allocates the ACL-Loans by pools of risk within each loan portfolio
segment. The allocation methodology consists of the following components. First,
a specific reserve is established for individually evaluated credit deteriorated
loans, which management defines as nonaccrual credit relationships over
$250,000 , collateral dependent loans, purchased credit deteriorated loans, and
other loans with evidence of credit deterioration. The specific reserve in the
ACL-Loans for these credit deteriorated loans is equal to the aggregate
collateral or discounted cash flow shortfall. Second, management allocates the
ACL-Loans with historical loss rates by loan segment. The loss factors are
measured on a quarterly basis and applied to each loan segment based on current
loan balances and projected for their expected remaining life. Next, management
allocates the ACL-Loans using the qualitative and environmental factors
mentioned above. Consideration is given to those current qualitative or
environmental factors that are likely to cause estimated credit losses at the
evaluation date to differ from the historical loss experience of each loan
segment. Lastly, management considers reasonable and supportable forecasts to
assess the collectability of future cash flows.
Management performs ongoing intensive analysis of its loan portfolio to allow
for early identification of customers experiencing financial difficulties,
maintains prudent underwriting standards, understands the economy in its
markets, and considers the trend of deterioration in loan quality in
establishing the level of the ACL-Loans. In addition, various regulatory
agencies periodically review the ACL-Loans. These agencies may require the
Company to make additions to the ACL-Loans or may require that certain loan
balances be charged off or downgraded into classified loan categories when their
credit evaluations differ from those of management based on their judgments of
collectability from information available to them at the time of their
examination.
At December 31, 2022 , the ACL-Loans was $62 million (representing 1.00% of
period end loans) compared to $50 million at December 31, 2021 . The increase in
the ACL-Loans was largely due to the acquisition of Charter, which added $8
million of provision for the Day 2 allowance and $2 million related to purchased
credit deteriorated loans. Net charge-offs (0.01% of average loans) remain
negligible. The components of the ACL-Loans are detailed further in Tables 8 and
9 below.
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--------------------------------------------------------------------------------Table 8: Allowance for Credit Losses - Loans
(in thousands) Years
Ended
2022 2021 2020
Allowance for credit losses - loans:
Beginning balance $ 49,672 $ 32,173 $ 13,972
Adoption of CECL - - 8,488
Initial PCD ACL - - 797
Total impact for adoption of CECL - - 9,285
ACL on PCD loans acquired 1,937 5,159 -
Net charge-offs:
Commercial & industrial (86) 50 (692)
Owner-occupied CRE (555) - (449)
Agricultural - (48) -
CRE investment 169 (2) (190)
Construction & land development - - -
Residential construction - - -
Residential first mortgage (57) (93) 9
Residential junior mortgage 1 4 67
Retail & other (202) (71) (129)
Total net charge-offs (730) (160) (1,384)
Provision for credit losses 10,950 12,500 10,300
Ending balance of ACL-Loans $ 61,829 $ 49,672 $ 32,173
Ratio of net charge-offs to average loans by
loan composition
Commercial & industrial 0.01 % (0.01) % 0.07 %
Owner-occupied CRE 0.06 % - % 0.09 %
Agricultural - % 0.02 % - %
CRE investment (0.02) % - % 0.04 %
Construction & land development - % - % - %
Residential construction - % - % - %
Residential first mortgage 0.01 % 0.02 % - %
Residential junior mortgage - % - % (0.06) %
Retail & other 0.38 % 0.18 % 0.42 %
Total net charge-offs to average loans 0.01 % 0.01 % 0.05 %
The allocation of the ACL-Loans by loan category for each of the past three
years is shown in Table 9. The largest portions of the ACL-Loans were allocated
to commercial & industrial loans and CRE investment loans, representing 26% and
21%, respectively, of the ACL-Loans at December 31, 2022 . In comparison, the
largest portions of the ACL-Loans were allocated to commercial & industrial
loans and agricultural loans, representing 25% and 19%, respectively, of the
ACL-Loans at December 31, 2021 . This change in allocated ACL-Loans was
attributable to the change in loan portfolio composition, as well as changes in
current and forecasted risk trends within loan categories.
Table 9: Allocation of the Allowance for Credit Losses - Loans
December 31, 2022 December 31, 2021 December 31, 2020 Allocated % of Loan ACL Category as Allocated % of Loan ACL Category as Allocated % of Loan ACL Category as (in thousands) Allowance Portfolio a % of Total ACL Allowance Portfolio a % of Total ACL Allowance Portfolio a % of Total ACL Commercial & industrial *$ 16,350 21 % 26 %$ 12,613 23 % 25 %$ 11,644 34 % 36 % Owner-occupied CRE 9,138 15 % 15 % 7,222 17 % 14 % 5,872 19 % 18 % Agricultural 9,762 18 % 16 % 9,547 17 % 19 % 1,395 4 % 4 % CRE investment 12,744 19 % 21 % 8,462 18 % 17 % 5,441 16 % 17 % Construction & land development 2,572 5 % 4 % 1,812 5 % 4 % 984 5 % 3 % Residential construction 1,412 2 % 2 % 900 1 % 2 % 421 1 % 1 % Residential first mortgage 6,976 16 % 11 % 6,844 15 % 14 % 4,773 16 % 15 % Residential junior mortgage 1,846 3 % 3 % 1,340 3 % 3 % 1,086 4 % 4 % Retail & other 1,029 1 % 2 % 932 1 % 2 % 557 1 % 2 % Total ACL-Loans$ 61,829 100 % 100 %$ 49,672 100 % 100 %$ 32,173 100 %
100 % * The PPP loans are fully guaranteed by the SBA; thus, no ACL-Loans has been allocated to these loans.
41
--------------------------------------------------------------------------------Nonperforming Assets
As part of its overall credit risk management process, management is committed to an aggressive problem loan identification philosophy. This philosophy has been implemented through the ongoing monitoring and review of all pools of risk in the loan portfolio to identify problem loans early and minimize the risk of loss. Management continues to actively work with customers and monitor credit risk from the ongoing economic uncertainty. In addition to the discussion that follows, accounting policies for loans and the ACL-Loans are described in Note 1, "Nature of Business and Significant Accounting Policies," and additional credit quality disclosures are included in Note 4, "Loans, Allowance for Credit Losses - Loans, and Credit Quality," in the Notes to Consolidated Financial Statements, under Part II, Item 8. Nonperforming loans are considered one indicator of potential future loan losses. Nonperforming loans are defined as nonaccrual loans and loans 90 days or more past due but still accruing interest. Loans are generally placed on nonaccrual status when contractually past due 90 days or more as to interest or principal payments. Additionally, whenever management becomes aware of facts or circumstances that may adversely impact the collectability of principal or interest on loans, it is management's practice to place such loans on nonaccrual status immediately. Nonperforming assets (which include nonperforming loans and other real estate owned "OREO") were$40 million and represented 0.46% of total assets atDecember 31, 2022 , compared to$56 million or 0.73% atDecember 31, 2021 . The decline in nonperforming assets between the years included a$6 million improvement in nonaccrual loans and a$10 million reduction in other real estate owned (primarily sales of closed bank branches). The level of potential problem loans is another predominant factor in determining the relative level of risk in the loan portfolio and in determining the appropriate level of the ACL-Loans. Potential problem loans are generally defined by management to include loans rated as Substandard by management but that are in performing status; however, there are circumstances present which might adversely affect the ability of the borrower to comply with present repayment terms. The decision of management to include performing loans in potential problem loans does not necessarily mean that Nicolet expects losses to occur, but that management recognizes a higher degree of risk associated with these loans. The loans that have been reported as potential problem loans are predominantly commercial-based loans covering a diverse range of businesses and real estate property types. Potential problem loans were$53 million (1% of total loans) at bothDecember 31, 2022 and 2021. Potential problem loans require a heightened management review given the pace at which a credit may deteriorate, the potential duration of asset quality stress, and uncertainty around the magnitude and scope of economic stress that may be felt by Nicolet's customers and on underlying real estate values.
Table 10: Nonperforming Assets
(in thousands) December 31, 2022 December 31, 2021 December 31, 2020
Nonperforming loans:
Commercial & industrial $ 3,328 $ 1,908 $ 2,646
Owner-occupied CRE 5,647 4,220 1,869
Agricultural 20,416 28,367 1,830
CRE investment 3,832 4,119 1,488
Construction & land development 771 1,071 327
Residential construction - - -
Residential first mortgage 3,780 4,132 823
Residential junior mortgage 224 243 384
Retail & other 82 94 88
Total nonaccrual loans 38,080 44,154 9,455
Accruing loans past due 90 days or more - - -
Total nonperforming loans 38,080 44,154 9,455
OREO:
Commercial real estate owned 628 1,549 -
Residential real estate owned - 99 -
Bank property real estate owned 1,347 10,307 3,608
Total OREO 1,975 11,955 3,608
Total nonperforming assets (NPAs) $ 40,055 $ 56,109 $ 13,063
Performing troubled debt restructurings $ - $ 5,443 $ 2,120
Ratios:
Nonperforming loans to total loans 0.62 % 0.96 % 0.34 %
NPAs to total loans plus OREO 0.65 % 1.21 % 0.47 %
NPAs to total assets 0.46 % 0.73 % 0.29 %
ACL-Loans to nonperforming loans 162 % 112 % 340 %
ACL-Loans to total loans 1.00 % 1.07 % 1.15 %
42--------------------------------------------------------------------------------
Investment Securities Portfolio
The investment securities portfolio is intended to provide Nicolet with adequate
liquidity, flexible asset/liability management and a source of stable income.
The portfolio is structured with minimal credit exposure to Nicolet. All
investment securities are classified at the time of purchase as available for
sale ("AFS") or held to maturity ("HTM"). In addition to the discussion that
follows, the investment securities portfolio accounting policies are described
in Note 1, "Nature of Business and Significant Accounting Policies," and
additional disclosures are included in Note 3, "Securities and Other
Investments," in the Notes to Consolidated Financial Statements, under Part II,
Item 8.
At December 31, 2022 , the investment securities portfolio totaled $1.6 billion
(representing 18% of total assets), comprised of $918 million securities AFS and
$679 million securities HTM, minimally changed from $1.6 billion (representing
20% of total assets) at December 31, 2021 , comprised of $922 million securities
AFS and $652 million securities HTM. The primary changes in the investment
securities portfolio during 2022, included the acquisition of Charter, (which
added investment securities of $218 million at acquisition), and the unfavorable
change in the fair value of the securities AFS portfolio (from an unrealized
gain of $4 million at December 31, 2021 to an unrealized loss of $79 million at
December 31, 2022 ) due to the dramatic increase in interest rates.
Nicolet also had other investments of $65 million and $44 million at December
31, 2022 and 2021, respectively, consisting of capital stock in the Federal
Reserve and the Federal Home Loan Bank ("FHLB") (required as members of the
Federal Reserve Bank System and the FHLB System), equity securities with readily
determinable fair values, and to a lesser degree equity investments in other
private companies. The FHLB and Federal Reserve investments are "restricted" in
that they can only be sold back to the respective institutions or another member
institution at par, and are thus not liquid, have no ready market or quoted
market value, and are carried at cost. The private company equity investments
have no quoted market prices, and are carried at cost less impairment charges,
if any. The other investments are evaluated periodically for impairment,
considering financial condition and other available relevant information.
Table 11: Investment Securities Portfolio Maturity Distribution (1)
After One After Five Mortgage- Total Total
Securities AFS at Within but Within but Within After backed Amortized Fair
December 31, 2022 One Year Five Years Ten Years Ten Years Securities Cost Value
(in thousands) Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Amount
U.S. Treasury securities $ 149,896 0.1 % $ 26,039 0.5 % $ 16,181 2.6 % $ - - % $ - - % $ 192,116 0.4 % $ 183,830
U.S. government agency
securities 19 2.4 % 1,025 1.2 % 644 7.2 % 445 7.0 % - - % 2,133 4.0 % 2,100
State, county and
municipals 44,590 2.6 % 116,656 2.2 % 140,134 2.6 % 132,353 3.6 % - - % 433,733 2.8 % 398,188
Mortgage-backed
securities - - % - - % - - % - - % 227,650 2.6 % 227,650 2.6 % 200,932
Corporate debt
securities 27,664 3.4 % 28,571 3.8 % 72,801 4.5 % 11,676 5.6 % - - % 140,712 4.3 % 132,568
Total amortized cost $ 222,169 1.1 % $ 172,291 1.1 % $ 229,760 3.3 % $ 144,474 3.9 % $ 227,650 2.6 % $ 996,344 2.5 % $ 917,618
Total fair value $ 218,033 $ 163,466 $ 203,039 $ 132,148 $ 200,932 $ 917,618
24 % 18 % 22 % 14 % 22 % 100 %
After One After Five Mortgage- Total Total
Securities HTM at Within but Within but Within After backed Amortized Fair
December 31, 2022 One Year Five Years Ten Years Ten Years Securities Cost Value
(in thousands) Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Amount
U.S. Treasury securities $ - - % $ 497,648 0.7 % $ - - % $ - - % $ - - % $ 497,648 0.7 % $ 461,926
U.S. government agency
securities - - % 1,108 7.0 % 0 7,636 7.3 % - - % - - % 8,744 8,790
State, county and
municipals 1,774 2.8 % 14,425 2.8 % 14,964 2.0 % 3,711 4.9 % - - % 34,874 2.7 % 31,525
Mortgage-backed
securities - - % - - % - - % - - % 137,862 2.2 % 137,862 2.2 % 121,111
Total amortized cost $ 1,774 2.8 % $ 513,181 1.1 %$ 22,600 3.3 %$ 3,711 4.9 %$ 137,862 2.2 %$ 679,128 1.2 %$ 623,352 Total fair value$ 1,748 $ 476,365 $ 20,485 $ 3,643 $ 121,111 $ 623,352 - % 76 % 3 % 1 % 20 % 100 %
(1) The yield on tax-exempt investment securities is computed on a tax-equivalent basis using a federal tax rate of 21% adjusted for the disallowance of interest expense.
Deposits
Deposits represent Nicolet's largest source of funds. The deposit levels in 2021
were influenced by economic uncertainty and government stimulus payments related
to the pandemic, which reduced spending and increased liquidity of consumers and
businesses, as well as by PPP loan proceeds retained on deposit by commercial
borrowers. In contrast, the deposit levels in 2022
43
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reflected a transition back to normal operations and activities, with consumers
and businesses starting to use the excess liquidity. In addition, Charter added
deposits of $870 million at acquisition.
Deposits levels may also be impacted by competition with other bank and nonbank
institutions, as well as with a number of non-deposit investment alternatives
available to depositors, such as mutual funds, money market funds, annuities,
and other brokerage investment products. Deposit challenges include competitive
deposit product features, price changes on deposit products given movements in
the interest rate environment and other competitive pricing pressures, and
customer preferences regarding higher-costing deposit products or non-deposit
investment alternatives. Additional disclosures on deposits are included in Note
8, "Deposits," in the Notes to Consolidated Financial Statements, under Part II,
Item 8. See Table 2 for information on average deposit balances and deposit
rates.
Table 12: Period End Deposit Composition
(in thousands) December 31, 2022 December 31, 2021 December 31, 2020
% of % of % of
Amount Total Amount Total Amount Total
Noninterest-bearing demand $ 2,361,816 33 % $ 1,975,705 31 % $ 1,212,787 31 %
Money market and interest-bearing demand 2,987,469 42 % 2,834,824 44 % 1,551,325 40 %
Savings 931,417 13 % 803,197 12 % 521,814 13 %
Time 898,219 12 % 852,190 13 % 624,473 16 %
Total deposits $ 7,178,921 100 % $ 6,465,916 100 % $ 3,910,399 100 %
Brokered transaction accounts $ 252,829 3 % $ 234,306 4 % $ 46,340 1 %
Brokered time deposits 339,066 5 % 209,857 3 % 278,521 7 %
Total brokered deposits $ 591,895 8 % $ 444,163 7 % $ 324,861 8 %
Customer transaction accounts $ 6,027,873 84 % $ 5,379,420 83 % $ 3,239,586 83 %
Customer time deposits 559,153 8 % 642,333 10 % 345,952 9 %
Total customer deposits (core) $ 6,587,026 92 % $ 6,021,753 93 % $ 3,585,538 92 %
Total deposits were
On average, deposits grew$2.1 billion (47%) between 2022 and 2021 (as detailed in Table 2), primarily due to the timing of the acquisitions (Mackinac inSeptember 2021 , County inDecember 2021 , and Charter inAugust 2022 ) and the liquidity objectives of our customers in uncertain economic times. Average customer deposits (core) increased$1.9 billion (46%), while average brokered deposits increased$183 million (59%) over the prior year. AtDecember 31, 2022 , Nicolet had$77 million of time deposits that exceed theFederal Deposit Insurance Corporation ("FDIC") insurance limit of$250,000 . The following table provides information on the maturity distribution of those time deposits, including the portion of those time deposits in excess of theFDIC insurance limits (over$250,000 ) as ofDecember 31, 2022 .
Table 13: Maturity Distribution of Uninsured Time Deposits
Portion of Time Deposits
Time Deposits Over FDIC in Excess of FDIC
(in thousands) Insurance Limits Insurance Limits
3 months or less $ 14,369 $ 5,619
Over 3 months through 6 months 15,764 6,514
Over 6 months through 12 months 17,875 5,875
Over 12 months 28,823 14,631
Total $ 76,831 $ 32,639
Total uninsured deposits were
Other Funding Sources
Other funding sources include short-term and long-term borrowings. Short-term borrowings (with an original contractual maturity of one year or less) consist mainly of short-term FHLB advances, customer repurchase agreements or federal funds purchased. Long-term borrowings (with an original contractual maturity of over one year) include FHLB advances, junior subordinated debentures, and subordinated notes. The interest on all long-term borrowings is current. Short-term borrowings were$317 million and zero atDecember 31, 2022 and 2021, respectively, all in FHLB advances, with approximately half acquired with Charter. Long-term borrowings were$225 million and$217 million atDecember 31, 2022 and 44 -------------------------------------------------------------------------------- 2021, respectively. See Note 9, "Short and Long-Term Borrowings," of the Notes to Consolidated Financial Statements under Part II, Item 8 for additional disclosures and see section "Liquidity Management," for information on available funding sources atDecember 31, 2022 .
RISK
Liquidity Management
Liquidity management refers to the ability to ensure that adequate liquid funds are available to meet the current and future cash flow obligations arising in the daily operations of the Company. These cash flow obligations include the ability to meet the commitments to borrowers for extensions of credit, accommodate deposit cycles and trends, fund capital expenditures, pay dividends to stockholders (if any), and satisfy other operating expenses. The Company's most liquid assets are cash and due from banks, interest-earning deposits, and federal funds sold, which totaled$155 million and$595 million atDecember 31, 2022 and 2021, respectively. Balances of these liquid assets are dependent on our operating, investing, and financing activities during any given period. The$441 million decrease in cash and cash equivalents since year-end 2021 included$117 million net cash provided by operating activities (mostly earnings), more than offset by$516 million net cash used in investing activities (primarily to fund loan growth) and$42 million net cash used in financing activities (with funds from short-term borrowings offset by a net decrease in deposits and common stock repurchases). As ofDecember 31, 2022 , management believed that adequate liquidity existed to meet all projected cash flow obligations. Nicolet's primary sources of funds include the core deposit base, repayment and maturity of loans, investment securities calls, maturities, and sales, and procurement of brokered deposits or other wholesale funding. AtDecember 31, 2022 , approximately 55% of the investment securities portfolio was pledged as collateral to secure public deposits and borrowings, as applicable, and for liquidity or other purposes as required by regulation. Additional funding sources atDecember 31, 2022 , consist of$195 million of available and unused Federal funds lines, available borrowing capacity at the FHLB of$607 million , and borrowing capacity in the brokered deposit market. Management is committed to the Parent Company being a source of strength to the Bank and its other subsidiaries, and therefore, regularly evaluates capital and liquidity positions of the Parent Company in light of current and projected needs, growth or strategies.The Parent Company uses cash for normal expenses, debt service requirements and, when opportune, for common stock repurchases or investment in other strategic actions such as mergers or acquisitions. AtDecember 31, 2022 , the Parent Company had$64 million in cash. Additional cash sources available to the Parent Company include access to the public or private markets to issue new equity, subordinated notes or other debt. Dividends from the Bank and, to a lesser extent, stock option exercises, represent significant sources of cash flows for the Parent Company. The Bank is required by federal law to obtain prior approval of the OCC for payments of dividends if the total of all dividends declared by the Bank in any year will exceed certain thresholds, as more fully described in "Business-Regulation of the Bank - Payment of Dividends" and in Note 17, "Regulatory Capital Requirements," in the Notes to the Consolidated Financial Statements under Part II, Item 8. Management does not believe that regulatory restrictions on dividends from the Bank will adversely affect its ability to meet its cash obligations.
Interest Rate Sensitivity Management and Impact of Inflation
A reasonable balance between interest rate risk, credit risk, liquidity risk and maintenance of yield, is highly important to Nicolet's business success and profitability. As an ongoing part of its financial strategy and risk management, Nicolet attempts to understand and manage the impact of fluctuations in market interest rates on its net interest income. The consolidated balance sheet consists mainly of interest-earning assets (loans, investments and cash) which are primarily funded by interest-bearing liabilities (deposits and other borrowings). Such financial instruments have varying levels of sensitivity to changes in market rates of interest. Market rates are highly sensitive to many factors beyond our control, including but not limited to general economic conditions and policies of governmental and regulatory authorities. Our operating income and net income depends, to a substantial extent, on "rate spread" (i.e., the difference between the income earned on loans, investments and other earning assets and the interest expense paid to obtain deposits and other funding liabilities). Asset-liability management policies establish guidelines for acceptable limits on the sensitivity to changes in interest rates on earnings and market value of assets and liabilities. Such policies are set and monitored by management and the board of directors'Asset and Liability Committee . To understand and manage the impact of fluctuations in market interest rates on net interest income, Nicolet measures its overall interest rate sensitivity through a net interest income analysis, which calculates the change in net interest income in the event of hypothetical changes in interest rates under different scenarios versus a baseline scenario. Such scenarios can involve static balance sheets, balance sheets with projected growth, parallel (or non-parallel) yield curve slope changes, immediate or gradual changes in market interest rates, and one-year or longer time horizons. The simulation modeling uses assumptions involving market spreads, prepayments of rate-sensitive instruments, renewal rates on maturing or new loans, deposit retention rates, and other assumptions. 45 -------------------------------------------------------------------------------- Among other scenarios, Nicolet assessed the impact on net interest income in the event of a gradual +/-100 bps and +/-200 bps change in market rates (parallel to the change in prime rate) over a one-year time horizon to a static (flat) balance sheet. The results provided include the liquidity measures mentioned above and reflect the changed interest rate environment. The interest rate scenarios are used for analytical purposes only and do not necessarily represent management's view of future market interest rate movements. Based on financial data atDecember 31, 2022 and 2021, the projected changes in net interest income over a one-year time horizon, versus the baseline, are presented in Table 14 below. The results were within Nicolet's guidelines of not greater than -10% for +/- 100 bps and not greater than -15% for +/- 200 bps.
Table 14: Interest Rate Sensitivity
December 31, 2022 December 31 ,
2021
200 bps decrease in interest rates (0.7) % (0.3) % 100 bps decrease in interest rates (0.4) % (0.3) % 100 bps increase in interest rates - % (0.1) % 200 bps increase in interest rates 0.1 %
(0.3) %
Actual results may differ from these simulated results due to timing, magnitude and frequency of interest rate changes, as well as changes in market conditions and their impact on customer behavior and management strategies. The effect of inflation on a financial institution differs significantly from the effect on an industrial company. While a financial institution's operating expenses, particularly salary and employee benefits, are affected by general inflation, the asset and liability structure of a financial institution consists largely of monetary items. Monetary items, such as cash, investments, loans, deposits and other borrowings, are those assets and liabilities which are or will be converted into a fixed number of dollars regardless of changes in prices. As a result, changes in interest rates have a more significant impact on a financial institution's performance than does general inflation. Inflation may also have impacts on the Bank's customers, on businesses and consumers and their ability or willingness to invest, save or spend, and perhaps on their ability to repay loans. As such, there would likely be impacts on the general appetite of banking products and the credit health of the Bank's customer base.
Capital
Management regularly reviews the adequacy of its capital to ensure that sufficient capital is available for current and future needs and is in compliance with regulatory guidelines. The capital position and strategies are actively reviewed in light of perceived business risks associated with current and prospective earning levels, liquidity, asset quality, economic conditions in the markets served, and level of returns available to shareholders. Management intends to maintain an optimal capital and leverage mix for growth and for shareholder return. Capital balances and changes in capital are presented in the Consolidated Statements of Changes in Stockholders' Equity in Part II, Item 8. Further discussion of capital components is included in Note 12, "Stockholders' Equity," and a summary of dividend restrictions, as well as regulatory capital amounts and ratios for Nicolet and the Bank is presented in Note 17, "Regulatory Capital Requirements," of the Notes to Consolidated Financial Statements under Part II, Item 8. The Company's and the Bank's regulatory capital ratios remain above minimum regulatory ratios, including the capital conservation buffer. AtDecember 31, 2022 , the Bank's regulatory capital ratios qualify the Bank as well-capitalized under the prompt-corrective action framework. This strong base of capital has allowed Nicolet to be opportunistic in the current economic environment and in strategic growth. For a discussion of the regulatory restrictions applicable to the Company and the Bank, see section "Business-Regulation of Nicolet" and "Business-Regulation of the Bank," included within Part I, Item 1. A summary of Nicolet's and the Bank's regulatory capital amounts and ratios, as well as selected capital metrics are presented in Table 15. 46 --------------------------------------------------------------------------------
Table 15: Capital
($ in thousands) December 31, 2022 December 31, 2021 Company Stock Repurchases: * Common stock repurchased during the year (dollars) $ 61,483 $ 61,464 Common stock repurchased during the year (shares) 671,662 793,064Company Risk-Based Capital : Total risk-based capital$ 889,763 $ 793,410 Tier 1 risk-based capital 684,280 604,199 Common equity Tier 1 capital 646,341 567,095 Total capital ratio 12.3 % 13.8 % Tier 1 capital ratio 9.5 % 10.5 % Common equity tier 1 capital ratio 9.0 % 9.9 % Tier 1 leverage ratio 8.2 % 9.4 %Bank Risk-Based Capital : Total risk-based capital$ 816,951 $ 700,869 Tier 1 risk-based capital 764,090 664,688 Common equity Tier 1 capital 764,090 664,688 Total capital ratio 11.3 % 12.2 % Tier 1 capital ratio 10.6 % 11.6 % Common equity tier 1 capital ratio 10.6 % 11.6 % Tier 1 leverage ratio 9.1 % 10.3 %
* Reflects only the common stock repurchased under board of director authorizations.
In managing capital for optimal return, we evaluate capital sources and uses, pricing and availability of our stock in the market, and alternative uses of capital (such as the level of organic growth or acquisition opportunities) in light of strategic plans. Through an ongoing repurchase program, the Board has authorized the repurchase of Nicolet's common stock as an alternative use of capital. AtDecember 31, 2022 , there remained$48 million authorized under this repurchase program, as modified, to be utilized from time to time to repurchase shares in the open market, through block transactions or in private transactions.
Off-Balance Sheet Arrangements, Lending-Related Commitments and Contractual Obligations
Nicolet is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. AtDecember 31, 2022 , interest rate lock commitments to originate residential mortgage loans held for sale of$9 million (included in the commitments to extend credit) and forward commitments to sell residential mortgage loans held for sale of$9 million are considered derivative instruments. Further information and discussion of these commitments is included in Note 14, "Commitments and Contingencies" of the Notes to Consolidated Financial Statements, under Part II, Item 8. The table below outlines the principal amounts and timing of Nicolet's contractual obligations. The amounts presented below exclude amounts due for interest, if applicable, and include any unamortized premiums / discounts or other similar carrying value adjustments. As ofDecember 31, 2022 , Nicolet had the following contractual obligations. Further discussion of the nature of each obligation is included in the referenced note of the Notes to Consolidated Financial Statements, under Part II, Item 8.
Table 16: Contractual Obligations
(in thousands) Note Maturity by Years
Reference Total 1 or less 1-3 3-5 Over 5
Time deposits 8 $ 898,219 $ 464,568 $ 400,343 $ 32,538 $ 770
Long-term borrowings 9 225,342 - 5,000 - 220,342
Operating leases 5 11,137 2,437 4,076 3,207 1,417
Total long-term contractual
obligations $ 1,134,698 $ 467,005 $ 409,419 $ 35,745 $ 222,529
Critical Accounting Estimates
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles ("GAAP") requires management to make estimates,
assumptions or judgments that affect the amounts reported in the financial
statements and accompanying notes. These estimates and assumptions are based on
historical experience, current information, and other factors deemed to be
relevant; accordingly, as this information changes, actual results could differ
from those estimates. Nicolet considers accounting estimates to be critical to
reported financial results if the accounting estimate requires management to
make assumptions about matters that are highly uncertain and different estimates
that management reasonably could have used for the accounting estimate in the
current period, or changes in the accounting estimate that are reasonably likely
to occur from period to period, could
47
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have a material impact on the financial statements. The accounting estimates we
consider to be critical include business combinations and the valuation of loans
acquired, the determination of the allowance for credit losses, and income
taxes. In addition to the discussion that follows, the accounting policies
related to these critical estimates are included in Note 1, "Nature of Business
and Significant Accounting Policies," in the Notes to Consolidated Financial
Statements, under Part II, Item 8.
Business Combinations and Valuation of Loans Acquired in Business Combinations
We account for acquisitions underFinancial Accounting Standards Board ("FASB") ASC Topic 805, Business Combinations, which requires the use of the acquisition method of accounting. Assets acquired and liabilities assumed in a business combination are recorded at the estimated fair value on their purchase date. As provided for under GAAP, management has up to 12 months following the date of the acquisition to finalize the fair values of acquired assets and assumed liabilities, where it was not possible to estimate the acquisition date fair value upon consummation. Management finalizes the fair values of acquired assets and assumed liabilities within this 12-month period and management currently considers such values to be the Day 1 Fair Values for the acquisition transactions. In particular, the valuation of acquired loans involves significant estimates and assumptions based on information available as of the acquisition date. Loans acquired in a business combination are evaluated either individually or in pools of loans with similar characteristics; including consideration of a credit component. A number of factors are considered in determining the estimated fair value of purchased loans including, among other things, the remaining life of the acquired loans, estimated prepayments, estimated loss ratios, estimated value of the underlying collateral, estimated holding periods, contractual interest rates compared to market interest rates, and net present value of cash flows expected to be received.
Allowance for Credit Losses - Loans
Management's evaluation process used to determine the appropriateness of the ACL-Loans is inherently subjective as it requires material estimates and assumptions. This evaluation process involves gathering and interpreting many qualitative and quantitative factors which could affect our estimate of lifetime expected credit losses. Because interpretation and analysis involves judgment, current economic or business conditions can change, and future events are inherently difficult to predict, the anticipated amount of estimated credit losses and therefore the appropriateness of the ACL-Loans could change significantly. The allowance methodology applied by Nicolet is designed to assess the appropriateness of the ACL-Loans and includes allocations for individually evaluated credit-deteriorated loans and loss factor allocations for all remaining loans, with a component primarily based on historical loss rates and a component primarily based on other qualitative and environmental factors. The methodology includes evaluation and consideration of several factors, including but not limited to: management's ongoing review and grading of the loan portfolio, evaluation of facts and issues related to specific loans, consideration of historical loan loss and delinquency experience on each portfolio segment, trends in past due and nonaccrual loans, the risk characteristics of specific loans or various loan segments, changes in the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, the fair value of underlying collateral, existing economic conditions, and other qualitative and quantitative factors which could affect expected credit losses. In addition, the model considers reasonable and supportable economic forecasts to assess the collectability of future cash flows. While management uses the best information available to make its evaluation, future adjustments to the ACL-Loans may be necessary if there are significant changes in economic conditions (both current and forecast) or circumstances underlying the collectability of loans. Because each of the criteria used is subject to change, the allocation of the ACL-Loans is made for analytical purposes and is not necessarily indicative of the trend of future credit losses in any particular loan category. The ACL-Loans is available to absorb losses from any segment of the loan portfolio. Management believes the ACL-Loans is appropriate atDecember 31, 2022 . The allowance analysis is reviewed by the board of directors on a quarterly basis in compliance with regulatory requirements. Consolidated net income and stockholders' equity could be affected if management's estimate of the ACL-Loans necessary to cover expected credit losses is subsequently materially different, requiring a change in the level of provision for credit losses to be recorded. While management uses currently available information to recognize expected credit losses on loans, future adjustments to the ACL-Loans may be necessary based on newly received appraisals, updated commercial customer financial statements, rapidly deteriorating customer cash flow, and changes in economic conditions or forecasts that affect Nicolet's customers. As an integral part of their examination process, federal regulatory agencies also review the ACL-Loans. Such agencies may require additions to the ACL-Loans or may require that certain loan balances be charged-off or downgraded into classified loan categories when their credit evaluations differ from those of management based on their judgments about information available to them at the time of their examination.
Income Taxes
Nicolet is subject to the federal income tax laws ofthe United States , and the tax laws of the states and other jurisdictions where we conduct business. Due to the complexity of these laws, taxpayers and the taxing authorities may subject these laws to different interpretations. Management must make conclusions and estimates about the application of these innately intricate laws, related 48
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regulations, and case law. When preparing the Company's income tax returns, management attempts to make reasonable interpretations of the tax laws. Taxing authorities have the ability to challenge management's analysis of the tax law or any reinterpretation management makes in its ongoing assessment of facts and the developing case law. Management assesses the reasonableness of its effective tax rate quarterly based on its current estimate of net income and the applicable taxes expected for the full year. On a quarterly basis, management also reviews circumstances and developments in tax law affecting the reasonableness of deferred tax assets and liabilities and reserves for contingent tax liabilities.
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