Nicolet Bankshares - 10-Q quarterly report FY2020 Q3

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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

_________________________

FORM 10-Q

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

For the quarterly period ended September 30, 2020

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

For the transition period from to

Commission file number: 001-37700

NICOLET BANKSHARES, INC.

(Exact Name of Registrant as Specified in its Charter)

Wisconsin

47-0871001

(State or Other Jurisdiction of Incorporation or Organization)

(I.R.S. Employer Identification No.)

111 North Washington Street

Green Bay,

Wisconsin

54301

(Address of Principal Executive Offices)

(Zip Code)

(920)

430-1400

(Registrant’s Telephone Number, Including Area Code)

N/A

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)


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

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $0.01 per share	NCBS	The NASDAQ Stock Market LLC

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

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


Large accelerated filer	☐	Accelerated filer	☒

Non-accelerated filer	☐	Smaller reporting company	☐

Emerging Growth Company	☐

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

As of October 28, 2020 there were 10,085,569 shares of $0.01 par value common stock outstanding.

Nicolet Bankshares, Inc.

Quarterly Report on Form 10-Q

September 30, 2020

TABLE OF CONTENTS

PART I – FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS:

NICOLET BANKSHARES, INC.

Consolidated Balance Sheets

(In thousands, except share and per share data)


	September 30, 2020		December 31, 2019
	(Unaudited)		(Audited)
Assets
Cash and due from banks	$	67,922	$	75,433
Interest-earning deposits	785,642		106,626

Cash and cash equivalents	853,564		182,059
Certificates of deposit in other banks	32,969		19,305
Securities available for sale (“AFS”), at fair value	535,351		449,302
Other investments	26,636		24,072
Loans held for sale	8,384		2,706
Loans	2,908,793		2,573,751
Allowance for credit losses - loans (“ACL-Loans”)	(31,388)		(13,972)
Loans, net	2,877,405		2,559,779
Premises and equipment, net	64,184		56,469
Bank owned life insurance (“BOLI”)	82,905		78,140
Goodwill and other intangibles, net	176,213		165,967
Accrued interest receivable and other assets	48,764		39,461
Total assets	$	4,706,375	$	3,577,260

Liabilities and Stockholders’ Equity
Liabilities:
Noninterest-bearing demand deposits	$	1,135,384	$	819,055
Interest-bearing deposits	2,577,424		2,135,398
Total deposits	3,712,808		2,954,453
Short-term borrowings	—		—
Long-term borrowings	405,826		67,629
Accrued interest payable and other liabilities	48,872		38,188
Total liabilities	4,167,506		3,060,270

Stockholders’ Equity:
Common stock	102		106
Additional paid-in capital	289,536		312,733
Retained earnings	234,965		199,005
Accumulated other comprehensive income (loss)	13,465		4,418
Total Nicolet Bankshares, Inc. stockholders’ equity	538,068		516,262
Noncontrolling interest	801		728
Total stockholders’ equity and noncontrolling interest	538,869		516,990
Total liabilities, noncontrolling interest and stockholders’ equity	$	4,706,375	$	3,577,260

Preferred shares authorized (no par value)	10,000,000		10,000,000
Preferred shares issued and outstanding	—		—
Common shares authorized (par value $0.01 per share)	30,000,000		30,000,000
Common shares outstanding	10,196,228		10,587,738
Common shares issued	10,215,334		10,610,259

See accompanying notes to unaudited consolidated financial statements.

ITEM 1. Financial Statements Continued:

NICOLET BANKSHARES, INC.

Consolidated Statements of Income

(In thousands, except share and per share data) (Unaudited)


	Three Months Ended September 30,				Nine Months Ended September 30,
	2020		2019		2020		2019
Interest income:
Loans, including loan fees	$	34,047	$	31,334	$	101,591	$	92,511
Investment securities:
Taxable	2,001		1,904		6,115		5,578
Tax-exempt	542		503		1,542		1,574
Other interest income	680		926		1,917		2,733
Total interest income	37,270		34,667		111,165		102,396
Interest expense:
Deposits	3,784		4,596		13,196		14,103
Short-term borrowings	—		—		65		—
Long-term borrowings	926		881		2,584		2,684
Total interest expense	4,710		5,477		15,845		16,787
Net interest income	32,560		29,190		95,320		85,609
Provision for credit losses	3,000		400		9,000		900
Net interest income after provision for credit losses	29,560		28,790		86,320		84,709
Noninterest income:
Trust services fee income	1,628		1,594		4,717		4,631
Brokerage fee income	2,489		2,113		7,080		5,925
Mortgage income, net	9,675		3,700		21,965		6,962
Service charges on deposit accounts	1,037		1,223		3,075		3,587
Card interchange income	1,877		1,735		5,076		4,815
BOLI income	531		495		1,774		1,834
Asset gains (losses), net	217		286		(1,185)		8,030
Other income	1,237		1,166		3,245		4,274
Total noninterest income	18,691		12,312		45,747		40,058
Noninterest expense:
Personnel	14,072		12,914		41,877		40,809
Occupancy, equipment and office	4,051		3,454		12,616		10,961
Business development and marketing	810		1,428		4,683		4,288
Data processing	2,658		2,515		7,620		7,220
Intangibles amortization	834		914		2,707		2,936
Other expense	1,260		1,662		5,849		5,159
Total noninterest expense	23,685		22,887		75,352		71,373
Income before income tax expense	24,566		18,215		56,715		53,394
Income tax expense	6,434		4,603		14,331		10,788
Net income	18,132		13,612		42,384		42,606
Less: Net income attributable to noncontrolling interest	30		82		249		260
Net income attributable to Nicolet Bankshares, Inc.	$	18,102	$	13,530	$	42,135	$	42,346
Earnings per common share:
Basic	$	1.75	$	1.45	$	4.04	$	4.51
Diluted	$	1.72	$	1.40	$	3.97	$	4.36
Weighted average common shares outstanding:
Basic	10,348,862		9,346,814		10,426,228		9,393,795
Diluted	10,498,552		9,696,850		10,604,732		9,706,795

See accompanying notes to unaudited consolidated financial statements.

ITEM 1. Financial Statements Continued:

NICOLET BANKSHARES, INC.

Consolidated Statements of Comprehensive Income

(In thousands) (Unaudited)


	Three Months Ended September 30,				Nine Months Ended September 30,
	2020		2019		2020		2019
Net income	$	18,132	$	13,612	$	42,384	$	42,606
Other comprehensive income (loss), net of tax:
Unrealized gains (losses) on securities AFS:
Net unrealized holding gains (losses)	394		2,053		12,708		14,165
Net realized (gains) losses included in income	(151)		—		(315)		(32)
Income tax (expense) benefit	(66)		(555)		(3,346)		(3,817)
Total other comprehensive income (loss)	177		1,498		9,047		10,316
Comprehensive income	$	18,309	$	15,110	$	51,431	$	52,922

See accompanying notes to unaudited consolidated financial statements.

ITEM 1. Financial Statements Continued:

NICOLET BANKSHARES, INC.

Consolidated Statements of Stockholders’ Equity

(In thousands) (Unaudited)


	Nicolet Bankshares, Inc. Stockholders’ Equity
	Common Stock		Additional Paid-In Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Non- controlling Interest		Total
Balances at June 30, 2020	$	104	$	301,778	$	216,863	$	13,288	$	820	$	532,853
Comprehensive income:
Net income, three months ended September 30, 2020	—		—		18,102		—		30		18,132
Other comprehensive income (loss)	—		—		—		177		—		177
Stock-based compensation expense	—		1,260		—		—		—		1,260
Exercise of stock options, net	—		94		—		—		—		94
Issuance of common stock	—		148		—		—		—		148
Purchase and retirement of common stock	(2)		(13,744)		—		—		—		(13,746)
Distribution to noncontrolling interest	—		—		—		—		(49)		(49)

Balances at September 30, 2020	$	102	$	289,536	$	234,965	$	13,465	$	801	$	538,869
Balances at June 30, 2019	$	94	$	234,963	$	173,180	$	3,178	$	733	$	412,148
Comprehensive income:
Net income, three months ended September 30, 2019	—		—		13,530		—		82		13,612
Other comprehensive income (loss)	—		—		—		1,498		—		1,498
Stock-based compensation expense	—		1,144		—		—		—		1,144
Exercise of stock options, net	—		1,200		—		—		—		1,200
Issuance of common stock	—		166		—		—		—		166
Purchase and retirement of common stock	—		(939)		—		—		—		(939)
Distribution to noncontrolling interest	—		—		—		—		(87)		(87)
Balances at September 30, 2019	$	94	$	236,534	$	186,710	$	4,676	$	728	$	428,742
Balances at December 31, 2019	$	106	$	312,733	$	199,005	$	4,418	$	728	$	516,990
Comprehensive income:
Net income, nine months ended September 30, 2020	—		—		42,135		—		249		42,384
Other comprehensive income (loss)	—		—		—		9,047		—		9,047
Stock-based compensation expense	—		4,216		—		—		—		4,216
Exercise of stock options, net	—		1,048		—		—		—		1,048
Issuance of common stock	—		482		—		—		—		482
Purchase and retirement of common stock	(4)		(28,943)		—		—		—		(28,947)
Distribution to noncontrolling interest	—		—		—		—		(176)		(176)
Adoption of new accounting pronouncement (see Note 1)	—		—		(6,175)		—		—		(6,175)
Balances at September 30, 2020	$	102	$	289,536	$	234,965	$	13,465	$	801	$	538,869
Balances at December 31, 2018	$	95	$	247,790	$	144,364	$	(5,640)	$	743	$	387,352
Comprehensive income:
Net income, nine months ended September 30, 2019	—		—		42,346		—		260		42,606
Other comprehensive income (loss)	—		—		—		10,316		—		10,316
Stock-based compensation expense	—		3,643		—		—		—		3,643
Exercise of stock options, net	2		4,380		—		—		—		4,382
Issuance of common stock	—		449		—		—		—		449
Purchase and retirement of common stock	(3)		(19,728)		—		—		—		(19,731)
Distribution to noncontrolling interest	—		—		—		—		(275)		(275)

Balances at September 30, 2019	$	94	$	236,534	$	186,710	$	4,676	$	728	$	428,742

See accompanying notes to unaudited consolidated financial statements.

ITEM 1. Financial Statements Continued:

NICOLET BANKSHARES, INC.

Consolidated Statements of Cash Flows (Unaudited)


(In thousands)	Nine Months Ended September 30,
	2020		2019
Cash Flows From Operating Activities:
Net income	$	42,384	$	42,606
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, amortization, and accretion	7,564		5,260
Provision for credit losses	9,000		900
Increase in cash surrender value of life insurance	(1,647)		(1,432)
Stock-based compensation expense	4,216		3,643
Asset (gains) losses, net	1,185		(8,030)
Gain on sale of loans held for sale, net	(22,217)		(7,042)
Proceeds from sale of loans held for sale	663,466		255,775
Origination of loans held for sale	(650,660)		(259,465)
Net change in:
Accrued interest receivable and other assets	4,781		(5,020)
Accrued interest payable and other liabilities	6,200		9,310
Net cash provided by (used in) operating activities	64,272		36,505
Cash Flows From Investing Activities:
Net (increase) decrease in loans	(244,751)		(74,131)
Net (increase) decrease in certificates of deposit in other banks	5,719		(4,402)
Purchases of securities AFS	(128,661)		(57,875)
Proceeds from sales of securities AFS	14,864		13,240
Proceeds from calls and maturities of securities AFS	69,568		38,128
Purchases of other investments	(3,815)		(1,941)
Proceeds from sales of other investments	—		17,144
Purchases of BOLI	—		(5,000)
Proceeds from redemption of BOLI	245		1,348
Net (increase) decrease in premises and equipment	(9,708)		(3,529)
Net (increase) decrease in other real estate and other assets	—		15
Net cash (paid) received in business combination	(21,820)		—
Net cash provided by (used in) investing activities	(318,359)		(77,003)
Cash Flows From Financing Activities:
Net increase (decrease) in deposits	617,373		(29,691)

Proceeds from long-term borrowings	367,841		—
Repayments of long-term borrowings	(32,029)		(20,193)
Purchase and retirement of common stock	(28,947)		(19,731)

Proceeds from issuance of common stock	482		449
Proceeds from exercise of stock options	1,048		4,382
Distribution to noncontrolling interest	(176)		(275)
Net cash provided by (used in) financing activities	925,592		(65,059)
Net increase (decrease) in cash and cash equivalents	671,505		(105,557)
Cash and cash equivalents:
Beginning	182,059		249,526
Ending *	$	853,564	$	143,969
Supplemental Disclosures of Cash Flow Information:
Cash paid for interest	$	18,130	$	16,682
Cash paid for taxes	16,353		11,690
Transfer of loans and bank premises to other real estate owned	—		1,025
Capitalized mortgage servicing rights	4,038		1,807

* Cash and cash equivalents at September 30, 2020 include restricted cash of $1.9 million pledged as collateral on interest rate swaps and no reserve balance was required with the Federal Reserve Bank. At September 30, 2019, cash and cash equivalents include restricted cash of $1.3 million pledged as collateral on interest rate swaps and $6.3 million for the reserve balance required with the Federal Reserve Bank.

See accompanying notes to unaudited consolidated financial statements.

NICOLET BANKSHARES, INC.

Notes to Unaudited Consolidated Financial Statements

Note 1 – Basis of Presentation

General

In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly the consolidated balance sheets, statements of income, comprehensive income, changes in stockholders’ equity and cash flows of Nicolet Bankshares, Inc. (the “Company” or “Nicolet”) and its subsidiaries, for the periods presented, and all such adjustments are of a normal recurring nature. All material intercompany transactions and balances have been eliminated. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the entire year.

These interim consolidated financial statements have been prepared according to the rules and regulations of the Securities and Exchange Commission and, therefore, certain information and footnote disclosures normally presented in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) have been omitted or abbreviated. These consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

Critical Accounting Policies and Estimates

Preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying disclosures. These estimates are based on management’s best knowledge of current events and actions the Company may undertake in the future. Estimates are used in accounting for, among other items, the allowance for credit losses, valuation of loans in acquisition transactions, useful lives for depreciation and amortization, fair value of financial instruments, impairment calculations, valuation of deferred tax assets, uncertain income tax positions and contingencies. Estimates that are particularly susceptible to significant change for the Company include the determination of the allowance for credit losses, the determination and assessment of deferred tax assets and liabilities, and the valuation of loans acquired in acquisition transactions; therefore, these are critical accounting policies. Factors that may cause sensitivity to the aforementioned estimates include but are not limited to: external market factors such as market interest rates and employment rates, changes to operating policies and procedures, changes in applicable banking or tax regulations, and changes to deferred tax estimates. Actual results may ultimately differ from estimates, although management does not generally believe such differences would materially affect the consolidated financial statements in any individual reporting period presented.

There have been no material changes or developments with respect to the assumptions or methodologies that the Company uses when applying what management believes are critical accounting policies and developing critical accounting estimates as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, except as disclosed in Updates to Significant Accounting Policies and Recent Accounting Developments Adopted below.

Updates to Significant Accounting Policies

Securities Available for Sale: Securities classified as AFS are those securities that the Company intends to hold for an indefinite period of time, but not necessarily to maturity. Any decision to sell a security classified as AFS would be based on various factors, including significant movements in interest rates, changes in the maturity mix of the Company’s assets and liabilities, liquidity needs, regulatory capital considerations, and other similar factors.

The Company evaluates securities AFS in unrealized loss positions on a quarterly basis to determine whether the decline in fair value below the amortized costs basis (impairment) is due to credit-related factors or noncredit-related factors. In making this evaluation, management considers the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, and the intent and ability of the Company to hold the security for a period of time sufficient to allow for any anticipated recovery in fair value. Any impairment that is not credit-related is recognized in other comprehensive income, net of related deferred income taxes. Credit-related impairment is recognized as an allowance for credit losses (“ACL”) on the balance sheet based on the amount by which the amortized cost basis exceeds the fair value, with a corresponding charge to net income. Both the ACL and the charge to net income may be reversed if conditions change. However, if the Company intends to sell an impaired AFS security or more likely than not will be required to sell such a security before recovering its amortized cost basis, the entire impairment amount must be recognized in net income with a corresponding adjustment to the security's amortized cost basis rather than through the establishment of an ACL. See Note 5 for additional disclosures on AFS securities.

Loans – Originated: Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are carried at their amortized cost basis, which is the unpaid principal balance outstanding, net of deferred loan fees and costs and any direct principal charge-offs. The Company made an accounting policy election to exclude accrued interest from the amortized cost basis of loans and report such accrued interest as part of accrued interest receivable and other assets on the consolidated balance sheets.

Interest income is accrued on the unpaid principal balance using the simple interest method. The accrual of interest income on loans is discontinued when, in the opinion of management, there is reasonable doubt as to the borrower’s ability to meet payment of interest or principal when due. Loans are generally placed on nonaccrual status when contractually past due 90 days or more as to interest or principal, though may be placed in such status earlier based on the circumstances. Loans past due 90 days or more may continue on accrual only when they are well secured and/or in process of collection or renewal. When interest accrual is discontinued, all previously accrued but uncollected interest is reversed against current period interest income. Except in very limited circumstances, cash collections on nonaccrual loans are credited to the loan receivable balance and no interest income is recognized on those loans until the principal balance is paid in full. Accrual of interest may be resumed when the customer is current on all principal and interest payments and has been paying on a timely basis for a sustained period of time. See Note 6 for additional information and disclosures on loans.

Loans – Acquired: Loans purchased in acquisition transactions are acquired loans, and are recorded at their estimated fair value at the acquisition date.

Prior to January 1, 2020, as described in further detail in the Company’s 2019 Annual Report on Form 10-K, the Company initially classified acquired loans as either purchased credit impaired (“PCI”) loans (i.e., loans that reflect credit deterioration since origination and for which it is probable at acquisition that the Company will be unable to collect all contractually required payments) or purchased non-impaired loans (i.e., “performing acquired loans”). The Company estimated the fair value of PCI loans based on the amount and timing of expected principal, interest and other cash flows for each loan. The excess of the loan’s contractual principal and interest payments over all cash flows expected to be collected at acquisition was considered an amount that should not be accreted. These credit discounts (“nonaccretable marks”) were included in the determination of the initial fair value for acquired loans; therefore, no allowance for credit losses was recorded at the acquisition date. Differences between the estimated fair values and expected cash flows of acquired loans at the acquisition date that were not credit-based (“accretable marks”) were subsequently accreted to interest income over the estimated life of the loans. Subsequent to the acquisition date for PCI loans, increases in cash flows over those expected at the acquisition date resulted in a move of the discount from nonaccretable to accretable, while decreases in expected cash flows after the acquisition date were recognized through the provision for credit losses.

Subsequent to January 1, 2020, acquired loans that have evidence of more-than-insignificant deterioration in credit quality since origination are considered purchased credit deteriorated (“PCD”) loans. At acquisition, an estimate of expected credit losses is made for PCD loans. This initial allowance for credit losses is allocated to individual PCD loans and added to the purchase price or acquisition date fair value to establish the initial amortized cost basis of the PCD loans. Any difference between the unpaid principal balance of PCD loans and the amortized cost basis is considered to relate to noncredit factors, resulting in a discount or premium that is amortized to interest income. For acquired loans not deemed PCD loans at acquisition, the difference between the initial fair value mark and the unpaid principal balance are recognized in interest income over the estimated life of the loans. In addition, an initial allowance for expected credit losses is estimated and recorded as provision expense at the acquisition date. The subsequent measurement of expected credit losses for all acquired loans is the same as the subsequent measurement of expected credit losses for originated loans. See Note 6 for additional information and disclosures on loans.

Allowance for Credit Losses - Loans: The ACL-Loans represents management’s estimate of expected credit losses in the Company’s loan portfolio at the balance sheet date. The Company estimates the ACL-Loans based on the amortized cost basis of the underlying loan and has made an accounting policy election to exclude accrued interest from the loan’s amortized cost basis and the related measurement of the ACL-Loans. Estimating the amount of the ACL-Loans is a function of a number of factors, including but not limited to changes in the loan portfolio, net charge-offs, trends in past due and nonaccrual loans, and the level of potential problem loans, all of which may be susceptible to significant change.

Prior to January 1, 2020, as described in further detail in the Company’s 2019 Annual Report on Form 10-K, the Company used an incurred loss impairment model. This methodology assessed the overall appropriateness of the allowance for credit losses and included allocations for specifically identified impaired loans and loss factors for all remaining loans, with a component primarily based on historical loss rates and another component primarily based on other qualitative factors. Impaired loans were individually assessed and measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price or the fair value of the collateral if the loan was collateral dependent. Loans that were determined not to be impaired were collectively evaluated for impairment, stratified by type and allocated loss ranges based on the Company’s actual historical loss ratios for each strata, and adjustments were also provided for certain environmental and other qualitative factors.

Subsequent to January 1, 2020, the Company uses a current expected credit loss model (“CECL”). This methodology also considers historical loss rates and other qualitative adjustments, as well as a new forward-looking component that considers reasonable and supportable forecasts over the expected life of each loan. To develop the ACL-Loans estimate under the CECL

model, the Company segments the loan portfolio into loan pools based on loan type and similar credit risk elements; performs an individual evaluation of PCD loans; calculates the historical loss rates for the segmented loan pools; applies the loss rates over the calculated life of the pooled loans; adjusts for forecasted macro-level economic conditions; and determines qualitative adjustments based on factors and conditions unique to Nicolet's portfolio.

Recent Accounting Developments Adopted

In August 2018, the FASB issued Accounting Standards Update (“ASU”) 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement. This ASU modifies the disclosure requirements for fair value measurements by removing, modifying or adding certain disclosures. The updated guidance was effective for annual reporting periods, including interim periods within those fiscal years, beginning after December 15, 2019. The Company adopted the updated guidance effective January 1, 2020, with no material impact on its consolidated financial statements as the new ASU only revises disclosure requirements. See Note 9 for fair value disclosures.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments intended to improve the financial reporting by requiring earlier recognition of credit losses on loans and certain other financial assets. Topic 326 replaces the incurred loss impairment model (which recognizes losses when a probable threshold is met) with a requirement to recognize lifetime expected credit losses immediately when a financial asset is originated or purchased. The measurement of lifetime expected credit losses is based on historical experience, current conditions, and reasonable and supportable forecasts. The ASU was effective for SEC filers for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The Company adopted the new accounting standard on January 1, 2020, as required, and recorded a cumulative-effect adjustment of $6 million to retained earnings. See Updates to Significant Accounting Policies above for changes to accounting policies and see Notes 5 and 6 for additional disclosures related to this new accounting pronouncement.

Reclassifications

Certain amounts in the 2019 consolidated financial statements have been reclassified to conform to the 2020 presentation.

Note 2 – Acquisitions

Completed Acquisitions:

Choice Bancorp, Inc. (“Choice”): On November 8, 2019, the Company consummated its merger with Choice, pursuant to the terms of the Agreement and Plan of Merger dated June 26, 2019, (the “Choice Merger Agreement”), whereby Choice (at 12% of Nicolet’s then pre-merger asset size) was merged with and into Nicolet, and Choice Bank, the wholly owned bank subsidiary of Choice, was merged with and into the Company's banking subsidiary, Nicolet National Bank (the “Bank”). The system integration was completed, and the two branches of Choice opened on November 12, 2019, as Nicolet National Bank branches, expanding its presence in the Oshkosh marketplace. The Company closed its legacy Oshkosh location concurrently with the consummation of the Choice merger.

The purpose of the merger was to continue Nicolet’s interest in strategic growth, consistent with its plan to improve profitability through efficiency, leverage the strengths of each bank across the combined customer base, and add shareholder value. With the merger, Nicolet became the leading community bank to serve the Oshkosh marketplace.

Pursuant to the Choice Merger Agreement, the final purchase price consisted of issuing 1,184,102 shares of the Company's common stock (given the final stock-for-stock exchange ratio of 0.497, and not exchanging the Choice shares owned by the Company immediately prior to the time of the merger), for common stock consideration of $79.8 million (based on $67.39 per share, the volume weighted average closing price of the Company's common stock over the preceding 30 trading day period) plus cash consideration of $1.7 million. Approximately $0.2 million in direct stock issuance costs for the merger were incurred and charged against additional paid-in capital.

Upon consummation, the Company added $457 million in assets, including $348 million in loans, $289 million in deposits, $1.7 million in core deposit intangible, and $45 million of goodwill. The Company accounted for the transaction under the acquisition method of accounting, and thus, the financial position and results of operations of Choice prior to the consummation date were not included in the accompanying consolidated financial statements. The accounting required assets purchased and liabilities assumed to be recorded at their respective estimated fair values at the date of acquisition.

Advantage Community Bancshares, Inc. (“Advantage”): On August 21, 2020, Nicolet completed its merger with Advantage, pursuant to the terms of the definitive merger agreement dated March 2, 2020, whereby Advantage merged with and into Nicolet, and Advantage Community Bank, the wholly owned bank subsidiary of Advantage, was merged with and into the Bank. Advantage's four branches in Dorchester, Edgar, Mosinee, and Wausau opened as Nicolet National Bank branches on August 24, 2020, expanding our presence in Central Wisconsin and the Wausau area. Due to the small size of the transaction, terms of the all-cash deal were not disclosed.

Upon consummation, Advantage added total assets of approximately $172 million (representing approximately 4% of Nicolet's then pre-merger asset size), loans of $88 million, deposits of $141 million, core deposit intangible of $1 million, and goodwill of $12 million.

Terminated Acquisition:

Commerce Financial Holdings, Inc. (“Commerce”): On February 17, 2020, Nicolet entered into a definitive merger agreement (“Merger Agreement”) with Commerce Financial Holdings, Inc. (“Commerce”) pursuant to which Nicolet would acquire Commerce and its wholly-owned banking subsidiary, Commerce State Bank. On May 18, 2020, Nicolet and Commerce announced a mutual agreement to terminate their Merger Agreement. Nicolet paid Commerce $0.5 million and surrendered its $0.1 million of Commerce common stock.

Note 3 – Earnings per Common Share

Basic earnings per common share are calculated by dividing net income available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted earnings per common share are calculated by dividing net income available to common shareholders by the weighted average number of shares adjusted for the dilutive effect of common stock awards (outstanding stock options and unvested restricted stock), if any. Presented below are the calculations for basic and diluted earnings per common share.


	Three Months Ended September 30,				Nine Months Ended September 30,
(In thousands, except per share data)	2020		2019		2020		2019
Net income attributable to Nicolet Bankshares, Inc.	$	18,102	$	13,530	$	42,135	$	42,346
Weighted average common shares outstanding	10,349		9,347		10,426		9,394
Effect of dilutive common stock awards	150		350		179		313
Diluted weighted average common shares outstanding	10,499		9,697		10,605		9,707
Basic earnings per common share*	$	1.75	$	1.45	$	4.04	$	4.51
Diluted earnings per common share*	$	1.72	$	1.40	$	3.97	$	4.36

*Cumulative quarterly per share performance may not equal annual per share totals due to the effects of the amount and timing of capital increases. When computing earnings per share for an interim period, the denominator is based on the weighted average shares outstanding during the interim period, and not on an annualized weighted average basis. Accordingly, the sum of the earnings per share data for the quarters will not necessarily equal the year to date earnings per share data.

For the three and nine months ended September 30, 2020, options to purchase approximately 0.2 million and 0.1 million shares, respectively, are excluded from the calculation of diluted earnings per common share as the effect of their exercise would have been anti-dilutive. For both the three and nine months ended September 30, 2019, options to purchase less than 0.1 million shares are excluded from the calculation of diluted earnings per common share as the effect of their exercise would have been anti-dilutive.

Note 4 – Stock-Based Compensation

The Company may grant stock options and restricted stock under its stock-based compensation plans to certain officers, employees and directors. These plans are administered by a committee of the Board of Directors, and at September 30, 2020, approximately 1.4 million shares were available for grant under these stock-based compensation plans.

A Black-Scholes model is utilized to estimate the fair value of stock option grants, while the market price of the Company’s stock at the date of grant is used to estimate the fair value of restricted stock awards. The weighted average assumptions used in the Black-Scholes model for valuing stock option grants were as follows.


	Nine Months Ended September 30,
	2020			2019
Dividend yield	—		%	—		%
Expected volatility	25		%	25		%
Risk-free interest rate	1.72		%	2.37		%
Expected average life	7 years			7 years
Weighted average per share fair value of options	$	23.74		$	19.23

A summary of the Company’s stock option activity is summarized below.


Stock Options	Option Shares Outstanding	Weighted Average Exercise Price		Weighted Average Remaining Life (Years)	Aggregate Intrinsic Value (in thousands)
Outstanding - December 31, 2019	1,443,733	$	48.75
Granted	44,500	70.09
Exercise of stock options *	(47,237)	(23.26)
Forfeited	—	—
Outstanding - September 30, 2020	1,440,996	$	50.24	6.8	$	10,300
Exercisable - September 30, 2020	747,746	$	44.44	6.2	$	7,727

* The terms of the stock option agreements permit having a number of shares of stock withheld, the fair market value of which as of the date of exercise is sufficient to satisfy the exercise price and/or tax withholding requirements. For the nine months ended September 30, 2020, 17,699 such shares were surrendered to the Company.

Intrinsic value represents the amount by which the fair market value of the underlying stock exceeds the exercise price of the stock options. The intrinsic value of options exercised for the nine months ended September 30, 2020 and 2019 was approximately $2.0 million and $6.9 million, respectively.

A summary of the Company’s restricted stock activity is summarized below.


Restricted Stock	Weighted Average Grant Date Fair Value		Restricted Shares Outstanding
Outstanding - December 31, 2019	$	44.94	22,521
Granted	55.52		10,450
Vested *	43.87		(13,865)
Forfeited	—		—
Outstanding - September 30, 2020	$	51.50	19,106

* The terms of the restricted stock agreements permit the surrender of shares to the Company upon vesting in order to satisfy applicable tax withholding requirements at the minimum statutory withholding rate, and accordingly, 1,482 shares were surrendered during the nine months ended September 30, 2020.

The Company recognized approximately $3.8 million and $3.4 million of stock-based compensation expense (included in personnel on the consolidated statements of income) for the nine months ended September 30, 2020 and 2019, respectively, associated with its common stock awards granted to officers and employees. In addition, during first nine months of 2020, the Company recognized approximately $0.4 million of director expense (included in other expense on the consolidated statements of income) for a total restricted stock grant of 7,950 shares with immediate vesting to directors, while during first nine months of 2019, the Company recognized approximately $0.3 million of director expense for a total restricted stock grant of 4,257 shares with immediate vesting to directors, representing the annual stock retainer fee paid to external board members. As of September 30, 2020, there was approximately $10.4 million of unrecognized compensation cost related to equity award grants. The cost is expected to be recognized over the remaining vesting period of approximately three years. The Company recognized a tax benefit of approximately $0.4 million and $1.0 million for the nine months ended September 30, 2020 and 2019, respectively, for the tax impact of stock option exercises and vesting of restricted stock.

Note 5 – Securities Available for Sale

Amortized cost and fair value of securities available for sale are summarized as follows.


	September 30, 2020
(in thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value		Fair Value as % of Total
U.S. government agency securities	$	64,006	$	328	$	—	$	64,334	12	%
State, county and municipals	210,567		4,934		22		215,479		40	%
Mortgage-backed securities	164,282		7,521		48		171,755		32	%
Corporate debt securities	78,050		5,733		—		83,783		16	%
Total	$	516,905	$	18,516	$	70	$	535,351	100	%


	December 31, 2019
(in thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value		Fair Value as % of Total
U.S. government agency securities	$	16,516	$	4	$	60	$	16,460	4	%
State, county and municipals	155,501		1,049		157		156,393		35	%
Mortgage-backed securities	193,223		2,492		697		195,018		43	%
Corporate debt securities	78,009		3,422		—		81,431		18	%
Total	$	443,249	$	6,967	$	914	$	449,302	100	%

All mortgage-backed securities included in the table above were issued by U.S. government agencies and corporations. Securities AFS with a fair value of $147 million and $166 million as of September 30, 2020 and December 31, 2019, respectively, were pledged as collateral on public deposits and for other purposes as required or permitted by law. Accrued interest on securities AFS totaled $2.6 million and $2.2 million at September 30, 2020 and December 31, 2019, respectively, and is included in accrued interest receivable and other assets on the consolidated balance sheets.

The following table presents gross unrealized losses and the related estimated fair value of securities AFS for which an allowance for credit losses has not been recorded, aggregated by investment category and length of time individual securities have been in a continuous unrealized loss position.


	September 30, 2020
	Less than 12 months				12 months or more				Total
($ in thousands)	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Number of Securities

State, county and municipals	$	8,867	$	22	$	—	$	—	$	8,867	$	22	18
Mortgage-backed securities	5,440		42		481		6		5,921		48		20

Total	$	14,307	$	64	$	481	$	6	$	14,788	$	70	38


	December 31, 2019
	Less than 12 months				12 months or more				Total
($ in thousands)	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Number of Securities
U.S. government agency securities	$	1,035	$	2	$	11,091	$	58	$	12,126	$	60	6
State, county and municipals	22,451		132		7,605		25		30,056		157		56
Mortgage-backed securities	49,626		245		47,271		452		96,897		697		150

Total	$	73,112	$	379	$	65,967	$	535	$	139,079	$	914	212

The Company evaluates securities AFS in unrealized loss positions to determine whether the impairment is due to credit-related factors or noncredit-related factors. In making this evaluation, management considers the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, and the intent and ability of the Company to hold the security for a period of time sufficient to allow for any anticipated recovery in fair value.

As of September 30, 2020, no allowance for credit losses on securities AFS was recognized. The Company does not consider its securities AFS with unrealized losses to be attributable to credit-related factors, as the unrealized losses in each category have occurred as a result of changes in noncredit-related factors such as changes in interest rates, market spreads and market conditions subsequent to purchase, not credit deterioration. Furthermore, the Company does not have the intent to sell any of these securities AFS and believes that it is more likely than not that we will not have to sell any such securities before a recovery of cost. During 2019, there were no other-than-temporary impairments charged to earnings.

The amortized cost and fair value of securities AFS by contractual maturity are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties; as this is particularly inherent in mortgage-backed securities, these securities are not included in the maturity categories below.


	September 30, 2020
(in thousands)	Amortized Cost		Fair Value
Due in less than one year	$	35,899	$	36,133
Due in one year through five years	224,042		231,540
Due after five years through ten years	72,838		74,829
Due after ten years	19,844		21,094
	352,623		363,596
Mortgage-backed securities	164,282		171,755
Securities AFS	$	516,905	$	535,351

Proceeds and realized gains / losses from the sale of securities AFS were as follows.


	Nine Months Ended September 30,
(in thousands)	2020		2019
Gross gains	$	315	$	152
Gross losses	—		(120)
Gains (losses) on sales of securities AFS, net	$	315	$	32
Proceeds from sales of securities AFS	$	14,864	$	13,240

Note 6 – Loans, Allowance for Credit Losses - Loans, and Credit Quality

The loan composition is summarized as follows.


	September 30, 2020					December 31, 2019
(in thousands)	Amount			% of Total		Amount			% of Total
Commercial & industrial	$	735,531		25	%	$	806,189		31	%
Paycheck Protection Program (“PPP”) loans	335,236			12		—			—
Owner-occupied commercial real estate (“CRE”)	499,605			17		496,372			19
Agricultural	111,022			4		95,450			4
CRE investment	475,050			16		443,218			17
Construction & land development	121,647			4		92,970			4
Residential construction	57,496			2		54,403			2
Residential first mortgage	428,017			15		432,167			17
Residential junior mortgage	112,173			4		122,771			5
Retail & other	33,016			1		30,211			1
Loans	2,908,793			100	%	2,573,751			100	%
Less allowance for credit losses - Loans (“ACL-Loans”)	31,388					13,972
Loans, net	$	2,877,405				$	2,559,779
Allowance for credit losses - Loans to loans	1.08		%			0.54		%

Accrued interest on loans totaled $8 million and $7 million at September 30, 2020 and December 31, 2019, respectively, and is included in accrued interest receivable and other assets on the consolidated balance sheets. See Note 1 for the Company's accounting policy on accrued interest with respect to loans and the allowance for credit losses.

Allowance for Credit Losses-Loans:

The majority of the Company’s loans, commitments, and letters of credit have been granted to customers in the Company’s market area. Although the Company has a diversified loan portfolio, the credit risk in the loan portfolio is largely influenced by general economic conditions and trends of the counties and markets in which the debtors operate, and the resulting impact on the operations of borrowers or on the value of underlying collateral, if any.

A roll forward of the allowance for credit losses - loans is summarized as follows.


	Nine Months Ended				Year Ended
(in thousands)	September 30, 2020		September 30, 2019		December 31, 2019
Beginning balance	$	13,972	$	13,153	$	13,153
Adoption of CECL	8,488		—		—
Initial PCD ACL	797		—		—
Total impact for adoption of CECL	9,285		—		—
Provision for credit losses	9,000		900		1,200
Charge-offs	(1,002)		(629)		(927)
Recoveries	133		196		546
Net (charge-offs) recoveries	(869)		(433)		(381)
Ending balance	$	31,388	$	13,620	$	13,972

The following table presents the balance and activity in the ACL-Loans by portfolio segment.


	Nine Months Ended September 30, 2020
(in thousands)	Commercial & industrial			Owner- occupied CRE			Agricultural			CRE investment			Construction & land development			Residential construction			Residential first mortgage			Residential junior mortgage			Retail & other			Total
ACL-Loans *
Beginning balance	$	5,471		$	3,010		$	579		$	1,600		$	414		$	368		$	1,669		$	517		$	344		$	13,972
Adoption of CECL	2,962			1,249			361			1,970			51			124			1,286			351			134			8,488
Initial PCD ACL	797			—			—			—			—			—			—			—			—			797
Provision	2,061			1,616			636			2,205			462			93			1,561			182			184			9,000
Charge-offs	(602)			(257)			—			(20)			—			—			—			—			(123)			(1,002)
Recoveries	90			—			—			—			—			—			7			18			18			133
Net (charge-offs) recoveries	(512)			(257)			—			(20)			—			—			7			18			(105)			(869)
Ending balance	$	10,779		$	5,618		$	1,576		$	5,755		$	927		$	585		$	4,523		$	1,068		$	557		$	31,388
As % of ACL-Loans	34		%	18		%	5		%	18		%	3		%	2		%	14		%	4		%	2		%	100		%

*The PPP loans are fully guaranteed by the SBA; thus, no ACL-Loans has been allocated to these loans.

For comparison purposes, the following table presents the balance and activity in the ACL-Loans by portfolio segment for the prior year-end period.


	Year Ended December 31, 2019
(in thousands)	Commercial & industrial			Owner- occupied CRE			Agricultural			CRE investment			Construction & land development			Residential construction			Residential first mortgage			Residential junior mortgage			Retail & other			Total
ACL-Loans
Beginning balance	$	5,271		$	2,847		$	422		$	1,470		$	510		$	211		$	1,646		$	472		$	304		$	13,153
Provision	(61)			254			157			130			(96)			383			9			86			338			1,200
Charge-offs	(159)			(93)			—			—			—			(226)			(22)			(80)			(347)			(927)
Recoveries	420			2			—			—			—			—			36			39			49			546
Net (charge-offs) recoveries	261			(91)			—			—			—			(226)			14			(41)			(298)			(381)
Ending balance	$	5,471		$	3,010		$	579		$	1,600		$	414		$	368		$	1,669		$	517		$	344		$	13,972
As % of ACL-Loans	39		%	22		%	4		%	11		%	3		%	3		%	12		%	4		%	2		%	100		%

The ACL-Loans at September 30, 2020 was estimated using the current expected credit loss model. See Note 1 for the Company's accounting policy on loans and the allowance for credit losses.

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 appropriateness of the ACL-Loans, an allocation methodology is applied by Nicolet 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 nonperforming 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 numerous factors involves significant judgment.

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, 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. 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 factors mentioned above. Consideration is given to those current qualitative or environmental factors that are likely to cause estimated credit losses as of 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.

A loan is considered to be collateral dependent when, based upon management's assessment, the borrower is experiencing financial difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. For collateral dependent loans, expected credit losses are based on the fair value of the collateral at the balance sheet date, with consideration for estimated selling costs if satisfaction of the loan depends on the sale of the collateral. The following table presents collateral dependent loans by portfolio segment and collateral type, including those loans with and without a related allowance allocation as of September 30, 2020.


September 30, 2020	Collateral Type
(in thousands)	Real Estate		Other Business Assets		Total		Without an Allowance		With an Allowance		Allowance Allocation
Commercial & industrial	$	—	$	2,579	$	2,579	$	—	$	2,579	$	848
PPP loans	—		—		—		—		—		—
Owner-occupied CRE	1,986		—		1,986		1,986		—		—
Agricultural	625		1,455		2,080		727		1,353		164
CRE investment	897		—		897		897		—		—
Construction & land development	533		—		533		533		—		—
Residential construction	—		—		—		—		—		—
Residential first mortgage	—		—		—		—		—		—
Residential junior mortgage	—		—		—		—		—		—
Retail & other	—		—		—		—		—		—
Total loans	$	4,041	$	4,034	$	8,075	$	4,143	$	3,932	$	1,012

The following table presents impaired loans and their respective allowance for credit loss allocations at December 31, 2019, as determined in accordance with historical accounting guidance.


	Total Impaired Loans – December 31, 2019
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial	$	5,932	$	7,950	$	625	$	5,405	$	1,170
Owner-occupied CRE	3,430		4,016		—		3,677		256
Agricultural	2,134		2,172		116		2,311		37
CRE investment	2,426		2,790		—		2,497		364
Construction & land development	382		382		—		460		—
Residential construction	—		—		—		—		—
Residential first mortgage	2,357		2,629		—		2,412		178
Residential junior mortgage	218		349		—		224		58
Retail & other	12		12		—		12		—
Total	$	16,891	$	20,300	$	741	$	16,998	$	2,063

Past Due and Nonaccrual Loans:

The following tables present past due loans by portfolio segment.


	September 30, 2020
(in thousands)	30-89 Days Past Due (accruing)			90 Days & Over or nonaccrual			Current			Total
Commercial & industrial	$	40		$	3,011		$	732,480		$	735,531
PPP loans	—			—			335,236			335,236
Owner-occupied CRE	1,380			2,471			495,754			499,605
Agricultural	127			2,297			108,598			111,022
CRE investment	—			911			474,139			475,050
Construction & land development	68			533			121,046			121,647
Residential construction	—			—			57,496			57,496
Residential first mortgage	543			1,312			426,162			428,017
Residential junior mortgage	75			411			111,687			112,173
Retail & other	401			51			32,564			33,016
Total loans	$	2,634		$	10,997		$	2,895,162		$	2,908,793
Percent of total loans	0.1		%	0.4		%	99.5		%	100.0		%


	December 31, 2019
(in thousands)	30-89 Days Past Due (accruing)			90 Days & Over or nonaccrual			Current			Total
Commercial & industrial	$	1,729		$	6,249		$	798,211		$	806,189
Owner-occupied CRE	112			3,311			492,949			496,372
Agricultural	—			1,898			93,552			95,450
CRE investment	—			1,073			442,145			443,218
Construction & land development	2,063			20			90,887			92,970
Residential construction	302			—			54,101			54,403
Residential first mortgage	2,736			1,090			428,341			432,167
Residential junior mortgage	217			480			122,074			122,771
Retail & other	110			1			30,100			30,211
Total loans	$	7,269		$	14,122		$	2,552,360		$	2,573,751
Percent of total loans	0.3		%	0.5		%	99.2		%	100.0		%

The following table presents nonaccrual loans by portfolio segment. The nonaccrual loans without a related allowance for credit losses have been reflected in the collateral dependent loans table above.


	September 30, 2020					December 31, 2019
(in thousands)	Nonaccrual Loans			% of Total		Nonaccrual Loans			% of Total
Commercial & industrial	$	3,011		27	%	$	6,249		44	%
PPP loans	—			—		—			—
Owner-occupied CRE	2,471			23		3,311			23
Agricultural	2,297			21		1,898			14
CRE investment	911			8		1,073			8
Construction & land development	533			5		20			—
Residential construction	—			—		—			—
Residential first mortgage	1,312			12		1,090			8
Residential junior mortgage	411			4		480			3
Retail & other	51			—		1			—
Nonaccrual loans	$	10,997		100	%	$	14,122		100	%
Percent of total loans	0.4		%			0.5		%

Credit Quality Information:

The following table presents total loans by risk categories and year of origination.


September 30, 2020	Amortized Cost Basis by Origination Year
(in thousands)	2020		2019		2018		2017		2016		Prior		Revolving		Revolving to Term		TOTAL
Commercial & industrial (a)
Grades 1-4	$	429,518	$	135,539	$	107,712	$	78,205	$	26,209	$	55,141	$	188,738	$	—	$	1,021,062
Grade 5	649		3,300		3,584		588		1,427		2,483		15,098		—		27,129
Grade 6	73		21		765		5,604		176		33		2,405		—		9,077
Grade 7	1,959		1,153		1,562		714		460		4,941		2,710		—		13,499
Total	$	432,199	$	140,013	$	113,623	$	85,111	$	28,272	$	62,598	$	208,951	$	—	$	1,070,767
Owner-occupied CRE
Grades 1-4	$	52,625	$	67,705	$	82,734	$	56,258	$	47,267	$	160,406	$	1,796	$	—	$	468,791
Grade 5	42		842		1,060		7,416		361		6,883		489		—		17,093
Grade 6	—		—		—		1,723		—		729		—		—		2,452
Grade 7	—		334		279		2,170		1,747		6,739		—		—		11,269
Total	$	52,667	$	68,881	$	84,073	$	67,567	$	49,375	$	174,757	$	2,285	$	—	$	499,605
Agricultural
Grades 1-4	$	11,683	$	6,138	$	8,095	$	9,328	$	3,046	$	33,620	$	22,828	$	—	$	94,738
Grade 5	304		375		717		570		667		5,374		683		—		8,690
Grade 6	—		—		—		328		392		—		—		—		720
Grade 7	—		—		33		111		1,139		5,543		48		—		6,874
Total	$	11,987	$	6,513	$	8,845	$	10,337	$	5,244	$	44,537	$	23,559	$	—	$	111,022
CRE investment
Grades 1-4	$	67,988	$	81,809	$	44,047	$	69,685	$	35,332	$	156,073	$	6,742	$	—	$	461,676
Grade 5	—		—		101		1,295		840		5,636		—		—		7,872
Grade 6	—		104		—		804		652		1,122		—		—		2,682
Grade 7	—		—		—		—		142		2,678		—		—		2,820
Total	$	67,988	$	81,913	$	44,148	$	71,784	$	36,966	$	165,509	$	6,742	$	—	$	475,050
Construction & land development
Grades 1-4	$	46,088	$	36,507	$	15,573	$	3,067	$	2,192	$	8,930	$	4,211	$	—	$	116,568
Grade 5	—		470		2,683		545		—		24		457		—		4,179
Grade 6	—		—		—		—		—		—		—		—		—
Grade 7	—		—		—		—		—		900		—		—		900
Total	$	46,088	$	36,977	$	18,256	$	3,612	$	2,192	$	9,854	$	4,668	$	—	$	121,647
Residential construction
Grades 1-4	$	29,372	$	26,039	$	1,216	$	449	$	—	$	50	$	—	$	—	$	57,126
Grade 5	—		315		—		55		—		—		—		—		370
Grade 6	—		—		—		—		—		—		—		—		—
Grade 7	—		—		—		—		—		—		—		—		—
Total	$	29,372	$	26,354	$	1,216	$	504	$	—	$	50	$	—	$	—	$	57,496
Residential first mortgage
Grades 1-4	$	94,370	$	69,301	$	45,425	$	45,798	$	47,449	$	118,317	$	364	$	—	$	421,024
Grade 5	—		821		908		197		324		2,232		—		—		4,482
Grade 6	—		—		261		—		—		—		—		—		261
Grade 7	—		653		198		17		—		1,382		—		—		2,250
Total	$	94,370	$	70,775	$	46,792	$	46,012	$	47,773	$	121,931	$	364	$	—	$	428,017
Residential junior mortgage
Grades 1-4	$	3,650	$	4,613	$	4,390	$	1,475	$	1,730	$	3,794	$	90,596	$	1,478	$	111,726
Grade 5	—		—		—		—		—		33		—		—		33
Grade 6	—		—		—		—		—		—		—		—		—
Grade 7	—		—		—		28		—		258		128		—		414
Total	$	3,650	$	4,613	$	4,390	$	1,503	$	1,730	$	4,085	$	90,724	$	1,478	$	112,173
Retail & other
Grades 1-4	$	7,693	$	6,027	$	2,208	$	1,808	$	876	$	1,514	$	12,839	$	—	$	32,965
Grade 5	—		—		—		—		—		—		—		—		—
Grade 6	—		—		—		—		—		—		—		—		—
Grade 7	—		—		—		—		—		51		—		—		51
Total	$	7,693	$	6,027	$	2,208	$	1,808	$	876	$	1,565	$	12,839	$	—	$	33,016

Total loans	$	746,014	$	442,066	$	323,551	$	288,238	$	172,428	$	584,886	$	350,132	$	1,478	$	2,908,793

(a) For purposes of this table, the $335 million net carrying value of PPP loans were originated in 2020, have a Pass risk grade (Grades 1-4) and have been included with the Commercial & industrial loan category.

The following tables present total loans by risk categories.


	September 30, 2020
(in thousands)	Grades 1- 4			Grade 5			Grade 6			Grade 7			Total
Commercial & industrial	$	685,826		$	27,129		$	9,077		$	13,499		$	735,531
PPP loans	335,236			—			—			—			335,236
Owner-occupied CRE	468,791			17,093			2,452			11,269			499,605
Agricultural	94,738			8,690			720			6,874			111,022
CRE investment	461,676			7,872			2,682			2,820			475,050
Construction & land development	116,568			4,179			—			900			121,647
Residential construction	57,126			370			—			—			57,496
Residential first mortgage	421,024			4,482			261			2,250			428,017
Residential junior mortgage	111,726			33			—			414			112,173
Retail & other	32,965			—			—			51			33,016
Total loans	$	2,785,676		$	69,848		$	15,192		$	38,077		$	2,908,793
Percent of total	95.8		%	2.4		%	0.5		%	1.3		%	100.0		%


	December 31, 2019
(in thousands)	Grades 1- 4			Grade 5			Grade 6			Grade 7			Total
Commercial & industrial	$	765,073		$	20,199		$	7,663		$	13,254		$	806,189
Owner-occupied CRE	464,661			20,855			953			9,903			496,372
Agricultural	77,082			6,785			3,275			8,308			95,450
CRE investment	430,794			8,085			2,578			1,761			443,218
Construction & land development	90,523			2,213			15			219			92,970
Residential construction	53,286			1,117			—			—			54,403
Residential first mortgage	424,044			4,677			668			2,778			432,167
Residential junior mortgage	122,249			35			—			487			122,771
Retail & other	30,210			—			—			1			30,211
Total loans	$	2,457,922		$	63,966		$	15,152		$	36,711		$	2,573,751
Percent of total	95.5		%	2.5		%	0.6		%	1.4		%	100.0		%

An internal loan review function rates loans using a grading system based on different risk categories. Loans with a Substandard grade are considered to have a greater risk of loss and may be assigned allocations for loss based on specific review of the weaknesses observed in the individual credits. Such loans are constantly monitored by the loan review function to ensure early identification of any deterioration. A description of the loan risk categories used by the Company follows.

Grades 1-4, Pass: Credits exhibit adequate cash flows, appropriate management and financial ratios within industry norms and/or are supported by sufficient collateral. Some credits in these rating categories may require a need for monitoring but elements of concern are not severe enough to warrant an elevated rating.

Grade 5, Watch: Credits with this rating are adequately secured and performing but are being monitored due to the presence of various short-term weaknesses which may include unexpected, short-term adverse financial performance, managerial problems, potential impact of a decline in the entire industry or local economy and delinquency issues. Loans to individuals or loans supported by guarantors with marginal net worth or collateral may be included in this rating category.

Grade 6, Special Mention: Credits with this rating have potential weaknesses that, without the Company’s attention and correction may result in deterioration of repayment prospects. These assets are considered Criticized Assets. Potential weaknesses may include adverse financial trends for the borrower or industry, repeated lack of compliance with Company requests, increasing debt to net worth, serious management conditions and decreasing cash flow.

Grade 7, Substandard: Assets with this rating are characterized by the distinct possibility the Company will sustain some loss if deficiencies are not corrected. All foreclosures, liquidations, and nonaccrual loans are considered to be categorized in this rating, regardless of collateral sufficiency.

Troubled Debt Restructurings: At September 30, 2020, there were six loans classified as troubled debt restructurings with a current outstanding balance of $1.1 million and pre-modification balance of $1.9 million. In comparison, at December 31, 2019, there were five loans classified as troubled debt restructurings with an outstanding balance of $1.1 million and pre-modification balance of $1.4 million. There were no loans classified as troubled debt restructurings during the previous twelve months that

subsequently defaulted during the nine months ended September 30, 2020. As of September 30, 2020, there were no commitments to lend additional funds to debtors whose terms have been modified in troubled debt restructurings.

Note 7 – Goodwill and Other Intangibles and Mortgage Servicing Rights

Management periodically reviews the carrying value of its intangible assets to determine if any impairment has occurred, in which case an impairment charge would be recorded as an expense in the period of impairment, or whether changes in circumstances have occurred that would require a revision to the remaining useful life which would impact expense prospectively. In making such determination, management evaluates whether there are any adverse qualitative factors indicating that an impairment may exist, as well as the performance, on an undiscounted basis, of the underlying operations or assets which give rise to the intangible. In the first nine months of 2020, management considered the potential impacts of the COVID-19 pandemic on the valuation of our franchise value, stability of deposits, and of the wealth client base, underlying our goodwill, core deposit intangible, and customer list intangibles, and determined no impairments were indicated. However, the impacts of the COVID-19 pandemic, which began in March 2020, continue to evolve. The Company’s assessment in 2019 resulted in an $0.8 million full impairment charge on non-bank goodwill related to a change in business strategy. A summary of goodwill and other intangibles was as follows.


	Nine Months Ended		Year Ended
(in thousands)	September 30, 2020		December 31, 2019
Goodwill	$	163,151	$	151,198
Core deposit intangibles	9,570		10,897
Customer list intangibles	3,492		3,872
Other intangibles	13,062		14,769
Goodwill and other intangibles, net	$	176,213	$	165,967

Goodwill: A summary of goodwill was as follows. During 2020, goodwill increased due to the Advantage acquisition and during 2019, goodwill increased due to the Choice acquisition. See Note 2 for additional information on the Company's acquisitions.


	Nine Months Ended		Year Ended
(in thousands)	September 30, 2020		December 31, 2019
Goodwill:
Goodwill at beginning of year	$	151,198	$	107,366
Acquisition	11,953		44,594
Impairment	—		(762)
Goodwill at end of period	$	163,151	$	151,198

Other intangible assets: Other intangible assets, consisting of core deposit intangibles and customer list intangibles, are amortized over their estimated finite lives. During 2020, core deposit intangibles increased due to the Advantage acquisition and during 2019, core deposit intangibles increased due to the Choice acquisition. See Note 2 for additional information on the Company's acquisitions.


	Nine Months Ended		Year Ended
(in thousands)	September 30, 2020		December 31, 2019
Core deposit intangibles:
Gross carrying amount	$	31,715	$	30,715
Accumulated amortization	(22,145)		(19,818)
Net book value	$	9,570	$	10,897
Additions during the period	$	1,000	$	1,700
Amortization during the period	$	2,327	$	3,365
Customer list intangibles:
Gross carrying amount	$	5,523	$	5,523
Accumulated amortization	(2,031)		(1,651)
Net book value	$	3,492	$	3,872
Additions during the period	$	—	$	—
Amortization during the period	$	380	$	507

Mortgage servicing rights: Mortgage servicing rights are amortized in proportion to and over the period of estimated net servicing income, and assessed for impairment at each reporting date, with the amortization recorded in mortgage income, net, in the consolidated statements of income. Mortgage servicing rights are carried at the lower of the initial capitalized amount, net

of accumulated amortization, or estimated fair value, and are included in other assets in the consolidated balance sheets. A summary of the changes in the mortgage servicing rights asset was as follows.


	Nine Months Ended			Year Ended
(in thousands)	September 30, 2020			December 31, 2019
Mortgage servicing rights ("MSR") asset:
MSR asset at beginning of year	$	5,919		$	3,749
Capitalized MSR	4,038			2,876
MSR asset acquired	529			160
Amortization during the period	(1,001)			(866)
MSR asset at end of period	$	9,485		$	5,919
Valuation allowance at beginning of year	$	—		$	—
Additions	(800)			—
Valuation allowance at end of period	$	(800)		$	—
MSR asset, net	$	8,685		$	5,919
Fair value of MSR asset at end of period	$	10,332		$	8,420
Residential mortgage loans serviced for others	$	1,204,856		$	847,756
Net book value of MSR asset to loans serviced for others	0.72		%	0.70		%

The Company periodically evaluates its mortgage servicing rights asset for impairment. At each reporting date, impairment is assessed based on estimated fair value using estimated prepayment speeds of the underlying mortgage loans serviced and stratifications based on the risk characteristics of the underlying loans (predominantly loan type and note interest rate). A valuation allowance of $0.8 million was recorded for the nine months ended September 30, 2020, while no valuation allowance was recorded for the year ended December 31, 2019. See Note 9 for additional information on the fair value of the MSR asset.

The following table shows the estimated future amortization expense for amortizing intangible assets and the MSR asset. The projections are based on existing asset balances, the current interest rate environment and prepayment speeds as of September 30, 2020. The actual amortization expense the Company recognizes in any given period may be significantly different depending upon acquisition or sale activities, changes in interest rates, prepayment speeds, market conditions, regulatory requirements and events or circumstances that indicate the carrying amount of an asset may not be recoverable.


(in thousands)	Core deposit intangibles		Customer list intangibles		MSR asset
Year ending December 31,
2020 (remaining three months)	$	733	$	127	$	434
2021	2,643		507		1,568
2022	2,150		507		1,535
2023	1,633		483		1,419
2024	1,130		449		1,202
2025	670		449		784
Thereafter	611		970		2,543
Total	$	9,570	$	3,492	$	9,485

Note 8 – Short and Long-Term Borrowings

Short-Term Borrowings:

Short-term borrowings include any borrowing with an original maturity of one year or less. At both September 30, 2020 and December 31, 2019, the Company did not have any outstanding short-term borrowings.

Long-Term Borrowings:

The components of long-term borrowings (borrowing with an original maturity greater than one year) were as follows.


(in thousands)	September 30, 2020		December 31, 2019
PPP Liquidity Facility (“PPPLF”)	$	333,876	$	—
FHLB advances	29,015		25,061
Junior subordinated debentures	30,935		30,575
Subordinated notes	12,000		11,993
Total long-term borrowings	$	405,826	$	67,629

PPPLF: To support the effectiveness of the PPP loans, the Federal Reserve introduced the PPPLF to extend credit to financial institutions that made PPP loans, with the related PPP loans used as collateral on the borrowings. The PPPLF borrowings have a fixed interest rate of 0.35% and a maturity date equal to the maturity date of the related PPP loans, with the PPP loans maturing either two or five years from the origination date of the PPP loan. The Company's PPP loans and related PPPLF funding have a weighted average life of approximately two years. Given the level of all other funding combined, the Company intends to repay the PPPLF during fourth quarter 2020.

FHLB Advances: The FHLB advances bear fixed rates, require interest-only monthly payments, and have maturity dates through 2027. The weighted average rate of the FHLB advances was 0.73% at September 30, 2020 and 1.57% at December 31, 2019.

Junior Subordinated Debentures: The following table shows the breakdown of junior subordinated debentures. Interest on all debentures is current. Any applicable discounts (initially recorded to carry an acquired debenture at its then estimated fair value) are being accreted to interest expense over the remaining life of the debentures. All the debentures below are currently callable and may be redeemed in part or in full at par plus any accrued but unpaid interest. The Company intends to redeem in full its 2004 Nicolet Bankshares Statutory Trust junior subordinated debentures ($6 million at 8%) on the next interest payment date of December 31, 2020, and has received all necessary regulatory approvals for such redemption. At September 30, 2020 and December 31, 2019, $29.8 million and $29.4 million, respectively, qualify as Tier 1 capital.


		Junior Subordinated Debentures
		September 30, 2020						December 31, 2019
(in thousands)	Maturity Date	Par		Unamortized Discount		Carrying Value		Carrying Value
2004 Nicolet Bankshares Statutory Trust (1)	7/15/2034	$	6,186	$	—	$	6,186	$	6,186
2005 Mid-Wisconsin Financial Services, Inc. (2)	12/15/2035	10,310		(3,022)		7,288		7,138
2006 Baylake Corp. (3)	9/30/2036	16,598		(3,706)		12,892		12,715
2004 First Menasha Bancshares, Inc. (4)	3/17/2034	5,155		(586)		4,569		4,536
Total		$	38,249	$	(7,314)	$	30,935	$	30,575

(1)The interest rate is 8.00% fixed.

(2)The debentures, assumed in April 2013 as the result of an acquisition, have a floating rate of the three-month LIBOR plus 1.43%, adjusted quarterly. The interest rates were 1.68% and 3.32% as of September 30, 2020 and December 31, 2019, respectively.

(3)The debentures, assumed in April 2016 as a result of an acquisition, have a floating rate of the three-month LIBOR plus 1.35%, adjusted quarterly. The interest rates were 1.57% and 3.31% as of September 30, 2020 and December 31, 2019, respectively.

(4)The debentures, assumed in April 2017 as the result of an acquisition, have a floating rate of the three-month LIBOR plus 2.79%, adjusted quarterly. The interest rates were 3.04% and 4.69% as of September 30, 2020 and December 31, 2019, respectively.

Subordinated Notes: In first half 2015, the Company placed an aggregate of $12 million in subordinated Notes in private placements with certain accredited investors. All Notes were issued with 10-year maturities, have a fixed annual interest rate of 5% payable quarterly, and may be called on or after the fifth anniversary of their respective issuances dates. The Company has received regulatory approval to call the Notes and has provided notice of its election to call all Notes effective November 16, 2020. The subordinated Notes qualify for Tier 2 capital for regulatory purposes, and are discounted in accordance with regulations when the debt has five years or less remaining to maturity.

Note 9 – Fair Value Measurements

Fair value represents the estimated price at which an orderly transaction to sell an asset or transfer a liability would take place between market participants at the measurement date under current market conditions (i.e., an exit price concept), and is a market-based measurement versus an entity-specific measurement.

The Company records and/or discloses financial instruments on a fair value basis. These financial assets and financial liabilities are measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the observability of the assumptions used to determine fair value. These levels are:

•Level 1 – quoted market prices in active markets for identical assets or liabilities that a company has the ability to access at the measurement date

•Level 2 – inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly

•Level 3 – significant unobservable inputs for the asset or liability, which are typically based on an entity’s own assumptions, as there is little, if any, related market activity

In instances where the fair value measurement is based on inputs from different levels, the level within which the entire fair value measurement will be categorized is based on the lowest level input that is significant to the fair value measurement in its entirety. This assessment of the significance of an input requires management judgment.

Recurring basis fair value measurements:

The following table presents the balances of assets and liabilities measured at fair value on a recurring basis for the periods presented.


(in thousands)			Fair Value Measurements Using
Measured at Fair Value on a Recurring Basis:	Total		Level 1		Level 2		Level 3
September 30, 2020
U.S. government agency securities	$	64,334	$	—	$	64,334	$	—
State, county and municipals	215,479		—		215,479		—
Mortgage-backed securities	171,755		—		171,755		—
Corporate debt securities	83,783		—		80,653		3,130
Securities AFS	$	535,351	$	—	$	532,221	$	3,130
Other investments (equity securities)	$	3,124	$	3,124	$	—	$	—
December 31, 2019
U.S. government agency securities	$	16,460	$	—	$	16,460	$	—
State, county and municipals	156,393		—		156,393		—
Mortgage-backed securities	195,018		—		195,018		—
Corporate debt securities	81,431		—		78,301		3,130
Securities AFS	$	449,302	$	—	$	446,172	$	3,130
Other investments (equity securities)	$	3,375	$	3,375	$	—	$	—

The following is a description of the valuation methodologies used by the Company for the securities AFS and equity securities measured at fair value on a recurring basis, noted in the tables above. Where quoted market prices on securities exchanges are available, the investments are classified as Level 1. Level 1 investments primarily include exchange-traded equity securities. If quoted market prices are not available, fair value is generally determined using prices obtained from independent pricing vendors who use pricing models (with typical inputs including benchmark yields, reported trades for similar securities, issuer spreads or relationship to other benchmark quoted securities), or discounted cash flows, and are classified as Level 2. Examples of these investments include U.S. government agency securities, mortgage-backed securities, obligations of state, county and municipals, and certain corporate debt securities. Finally, in certain cases where there is limited activity or less transparency around inputs to the estimated fair value, investments are classified within Level 3 of the hierarchy. Examples of these include private municipal bonds and corporate debt securities, which include trust preferred security investments. At September 30, 2020 and December 31, 2019, it was determined that carrying value was the best approximation of fair value for these Level 3 securities, based primarily on the internal analysis on these securities.

The following table presents the changes in the Level 3 securities AFS measured at fair value on a recurring basis.


(in thousands)	Nine Months Ended		Year Ended
Level 3 Fair Value Measurements:	September 30, 2020		December 31, 2019
Balance at beginning of year	$	3,130	$	8,490
Acquired balance	—		300
Paydowns/Sales/Settlements	—		(5,660)
Balance at end of period	$	3,130	$	3,130

Nonrecurring basis fair value measurements:

The following table presents the Company’s assets measured at fair value on a nonrecurring basis, aggregated by level in the fair value hierarchy within which those measurements fall.


(in thousands)			Fair Value Measurements Using
Measured at Fair Value on a Nonrecurring Basis:	Total		Level 1		Level 2		Level 3
September 30, 2020
Collateral dependent loans	$	7,063	$	—	$	—	$	7,063
Other real estate owned (“OREO”)	1,000		—		—		1,000
MSR asset	10,332		—		—		10,332
December 31, 2019
Impaired loans	$	16,150	$	—	$	—	$	16,150
OREO	1,000		—		—		1,000
MSR asset	8,420		—		—		8,420

The following is a description of the valuation methodologies used by the Company for the items noted in the table above. For individually evaluated collateral dependent loans and impaired loans, the amount of impairment is based upon the present value of expected future cash flows discounted at the loan’s effective interest rate, the estimated fair value of the underlying collateral for collateral-dependent loans, or the estimated liquidity of the note. For OREO, the fair value is based upon the estimated fair value of the underlying collateral adjusted for the expected costs to sell. To estimate the fair value of the MSR asset, the underlying serviced loan pools are stratified by interest rate tranche and term of the loan, and a valuation model is used to calculate the present value of the expected future cash flows for each stratum. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as costs to service, a discount rate, ancillary income, default rates and losses, and prepayment speeds. Although some of these assumptions are based on observable market data, other assumptions are based on unobservable estimates of what market participants would use to measure fair value.

Financial instruments:

The carrying amounts and estimated fair values of the Company’s financial instruments are shown below.


September 30, 2020
(in thousands)	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
Financial assets:
Cash and cash equivalents	$	853,564	$	853,564	$	853,564	$	—	$	—
Certificates of deposit in other banks	32,969		35,112		—		35,112		—
Securities AFS	535,351		535,351		—		532,221		3,130
Other investments, including equity securities	26,636		26,636		3,124		19,472		4,040
Loans held for sale	8,384		8,712		—		8,712		—
Loans, net	2,877,405		2,962,975		—		—		2,962,975
BOLI	82,905		82,905		82,905		—		—
MSR asset	8,685		10,332		—		—		10,332
Financial liabilities:
Deposits	$	3,712,808	$	3,720,344	$	—	$	—	$	3,720,344

Long-term borrowings	405,826		405,787		—		363,471		42,316


December 31, 2019
(in thousands)	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
Financial assets:
Cash and cash equivalents	$	182,059	$	182,059	$	182,059	$	—	$	—
Certificates of deposit in other banks	19,305		19,310		—		19,310		—
Securities AFS	449,302		449,302		—		446,172		3,130
Other investments, including equity securities	24,072		24,072		3,375		16,759		3,938
Loans held for sale	2,706		2,753		—		2,753		—
Loans, net	2,559,779		2,593,110		—		—		2,593,110
BOLI	78,140		78,140		78,140		—		—
MSR asset	5,919		8,420		—		—		8,420
Financial liabilities:
Deposits	$	2,954,453	$	2,956,229	$	—	$	—	$	2,956,229
Long-term borrowings	67,629		66,816		—		25,075		41,741

The carrying value of certain assets and liabilities such as cash and cash equivalents, BOLI, nonmaturing deposits, and short-term borrowings, approximate their estimated fair value. For those financial instruments not previously disclosed, the following is a description of the valuation methodologies used.

Certificates of deposits in other banks: Fair values are estimated using discounted cash flow analysis based on current interest rates being offered by instruments with similar terms and represents a Level 2 measurement.

Other investments: The valuation methodologies utilized for exchange-traded equity securities are discussed under “Recurring basis fair value measurements” above. The carrying amount of Federal Reserve Bank and FHLB stock is a reasonably accepted fair value estimate given their restricted nature. Fair value is the redeemable (carrying) value based on the redemption provisions of the instruments which is considered a Level 2 measurement. The carrying amount of the remaining other investments (particularly common stocks of companies or other banks that are not publicly traded) approximates their fair value, determined primarily by analysis of company financial statements and recent capital issuances of the respective companies or banks, if any, and represents a Level 3 measurement.

Loans held for sale: The fair value estimation process for the loans held for sale portfolio is segregated by loan type. The estimated fair value was based on what secondary markets are currently offering for portfolios with similar characteristics and represents a Level 2 measurement.

Loans, net: For variable-rate loans that reprice frequently and with no significant change in credit risk or other optionality, fair values are based on carrying values. Fair values for all other loans are estimated by discounting contractual cash flows using estimated market discount rates, which reflect the credit and interest rate risk inherent in the loan. Collateral-dependent impaired loans are included in loans, net. The fair value of loans is considered to be a Level 3 measurement due to internally developed discounted cash flow measurements.

Deposits: The fair value of deposits with no stated maturity (such as demand deposits, savings, interest and noninterest checking, and money market accounts) is, by definition, equal to the amount payable on demand at the reporting date. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered in the market place on certificates of similar remaining maturities. Use of internal discounted cash flows provides a Level 3 fair value measurement.

Long-term borrowings: The fair value of the FHLB advances is obtained from the FHLB which uses a discounted cash flow analysis based on current market rates of similar maturity debt securities and represents a Level 2 measurement. The PPPLF funding has a fixed rate of 0.35% for all participants; thus, carrying value approximates the estimated fair value and represents a Level 2 measurement. The fair values of the junior subordinated debentures and subordinated notes utilize a discounted cash flow analysis based on an estimate of current interest rates being offered by instruments with similar terms and credit quality. Since the market for these instruments is limited, the internal evaluation represents a Level 3 measurement.

Lending-related commitments and derivative financial instruments: At September 30, 2020 and December 31, 2019, the estimated fair value of letters of credit, interest rate lock commitments on residential mortgage loans, outstanding mandatory commitments to sell residential mortgage loans into the secondary market, and mirror interest rate swap agreements were not significant.

Limitations: Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Fair value estimates may not be realizable in an

immediate settlement of the instrument. In some instances, there are no quoted market prices for the Company’s various financial instruments, in which case fair values may be based on estimates using present value or other valuation techniques, or based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of the financial instruments, or other factors. Those techniques are significantly affected by the assumptions used, including the discount rate and estimate of future cash flows. Subsequent changes in assumptions could significantly affect the estimates.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Nicolet Bankshares, Inc. (the “Company” or “Nicolet”) is a bank holding company headquartered in Green Bay, Wisconsin. Nicolet provides a diversified range of traditional banking and wealth management services to individuals and businesses in its market area and through the branch offices of its banking subsidiary, Nicolet National Bank (the “Bank”), in northeastern and central Wisconsin and in Menominee, Michigan.

Forward-Looking Statements

Statements made in this document and in any documents that are incorporated by reference which are not purely historical are forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, including any statements regarding descriptions of management’s plans, objectives, or goals for future operations, products or services, and forecasts of its revenues, earnings, or other measures of performance. Forward-looking statements are based on current management expectations and, by their nature, are subject to risks and uncertainties. These statements generally may be identified by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “estimate,” “should,” “will,” “intend,” or similar expressions. Shareholders should note that many factors, some of which are discussed elsewhere in this document, could affect the future financial results of Nicolet and could cause those results to differ materially from those expressed in forward-looking statements contained in this document. These factors, many of which are beyond Nicolet’s control, include, but are not necessarily limited to the following:

•the effects of the COVID-19 pandemic on the business, customers, employees and third-party service providers of Nicolet or any of its acquisition targets;

•operating, legal and regulatory risks, including the effects of legislative or regulatory developments affecting the financial industry generally or Nicolet specifically;

•economic, market, political and competitive forces affecting Nicolet’s banking and wealth management businesses;

•changes in interest rates, monetary policy and general economic conditions, which may impact Nicolet’s net interest income;

•diversion of management time on pandemic-related issues;

•adoption of new accounting standards, including the effects from the adoption of the CECL model on January 1, 2020, or changes in existing standards;

•changes to statutes, regulations, or regulatory policies or practices resulting from the COVID-19 pandemic;

•compliance or operational risks related to new products, services, ventures, or lines of business, if any, that Nicolet may pursue or implement; and

•the risk that Nicolet’s analysis of these risks and forces could be incorrect and/or that the strategies developed to address them could be unsuccessful.

These factors should be considered in evaluating the forward-looking statements, and you should not place undue reliance on such statements. Nicolet specifically disclaims any obligation to update factors or to publicly announce the results of revisions to any of the forward-looking statements or comments included herein to reflect future events or developments.

Overview

The following discussion is management’s analysis of the consolidated financial condition as of September 30, 2020 and December 31, 2019 and results of operations for the three and nine-month periods ended September 30, 2020 and 2019. It should be read in conjunction with Nicolet’s audited consolidated financial statements included in Nicolet’s Annual Report on Form 10-K for the year ended December 31, 2019.

The timing of Nicolet’s acquisitions of Choice Bancorp, Inc. (“Choice”) on November 8, 2019, at 12% of pre-merger assets, and Advantage Community Bancshares, Inc. (“Advantage”) on August 21, 2020, at 4% of pre-merger assets, impacts financial comparisons. Certain income statement results, average balances and related ratios for the three and nine-month periods ended September 30, 2020 include full contribution from Choice and a partial period of Advantage in third quarter 2020, while the same periods in 2019 include no contribution from Choice or Advantage.

The World Health Organization declared the coronavirus COVID-19 a pandemic in March 2020. The initial impacts of the COVID-19 pandemic resulted in, among other things, stock and global markets decline, disruption in business and leisure activities as nation-wide stay-at-home orders were mandated, significant strain on the health care industry as it addressed the severity of the health crisis, and shift in the general economy (such as high unemployment, negative GDP expectations, a 150 bps decline in Federal funds rates, and unprecedented government stimulus), triggering a 2020 recession. The dramatic events surrounding the pandemic, fluctuating social and economic changes since the onset of the pandemic, and the uncertainty about the longevity of the pandemic's affects will continue to impact future expectations about credit costs and margins, as well as fee income and expenses.

Amid the uncertainty, Nicolet took action to increase liquidity (largely through procurement of term brokered CDs in late March to early April), significantly increased the credit loss provision in the first nine months of 2020 for the dramatically changed circumstances that continue to evolve, and recorded market losses on equity investments held (in response to the market decline). Initial actions to keep customers and employees safe included reducing on-site staff, increasing remote staff, segregating leadership and key functional departments (and adding redundancy to ensure continuity of operations should there be a COVID-19 related incident), limiting branch access through appointment-only lobbies and temporarily closing 11 locations. In second quarter 2020 we supplemented the pay of our front-line employees working on-site, eliminated senior management incentive accruals, and aggressively procured masks and other protective supplies. Costs associated with on-site bonuses, testing, and protective supplies totaled $0.6 million for second quarter 2020.

We sharpened our focus on configuring the Bank to more efficiently and effectively meet customers needs. We closely evaluated our branch network for redundancy and permanently closed seven (18%) of our 39 branches in second quarter, which also reduced headcount by 56 employees (nearly 10% of our workforce). As a result, $1.7 million of one-time costs were recorded during second quarter 2020 related to lease terminations, severance, accelerated depreciation and write-offs. At September 30, 2020, Nicolet operates 36 branches, which includes the four branches acquired with Advantage. During fourth quarter 2020, Nicolet plans to close its Rib Mountain location (near Wausau) and open an additional Appleton location that is currently under construction.

Given the extent of uncertainty, we guided numerous customers through new loans, temporary loan modifications, or participation in the Paycheck Protection Program (“PPP”). Through September 30, 2020, Nicolet originated $351 million of PPP loans for 2,725 business customers, which supported over 40,000 employees in those underlying businesses. The PPP loans provided low 1% coupon and potentially forgivable funds to small businesses, and are fully guaranteed by the SBA warranting no credit loss provision. Nicolet earned on average a 3.5% fee or $12.3 million gross from the SBA to process and service the PPP loans. This aggregate fee was deferred and will be accreted ratably into interest income over the life of the PPP loan pool, which may accelerate if loans payoff sooner. Nicolet recognized $2.7 million of the aggregate fee into interest income for year-to-date 2020. At September 30, 2020, the net carrying value of the PPP loans was $335 million. Using the PPP loans as collateral, Nicolet funded the PPP loans through the Federal Reserve's Paycheck Protection Program Liquidity Facility (“PPPLF”), which cost 0.35% and totaled $334 million at September 30, 2020. PPP loans are given a zero risk-weight in regulatory risk-based capital ratios and are also excluded from average assets in the regulatory leverage ratio if pledged as collateral on the related PPPLF funding. We created a micro-grant program, providing $1.25 million of funds in second quarter 2020 directly to 325 customers who otherwise qualified for a small PPP loan of less than $5,000, no strings attached, as a more cost beneficial, timely and impactful result for the customer and the Company. Since the pandemic started, payment modifications were made on approximately 980 loans totaling $462 million, most of which were commercial. As of September 30, only $60 million or 2% of loans excluding PPP loans, remained on modified terms. For retail customers purchasing new homes or refinancing, we closed over 1,200 mortgage loans in third quarter and nearly 3,300 for year-to-date 2020.

In summary, net income has been very strong at $42.1 million for the 2020 year-to-date period, despite the magnitude of unforeseen changes in the economy from the pandemic and other events. Most notably, exceptionally strong secondary mortgage income, steadily rising net interest income (despite tighter margins), and expense control (except for one-time costs of the second quarter) have supported earnings against elevated credit loss provisions for potential credit challenges which remain largely unseen and difficult to yet quantify. The 2020 balance sheet has continued to grow since year end 2019 to $4.7 billion in assets at September 30, 2020, in part from our recent acquisition, but more so from extraordinarily high cash attributable to strong deposit growth as customers remain focused on liquidity and safety.


Performance Summary
Table 1: Earnings Summary and Selected Financial Data
	At or for the Three Months Ended															At or for the Nine Months Ended
(In thousands, except per share data)	9/30/2020			6/30/2020			3/31/2020			12/31/2019			9/30/2019			9/30/2020			9/30/2019
Results of operations:
Interest income	$	37,270		$	36,892		$	37,003		$	36,192		$	34,667		$	111,165		$	102,396
Interest expense	4,710			5,395			5,740			5,723			5,477			15,845			16,787
Net interest income	32,560			31,497			31,263			30,469			29,190			95,320			85,609
Provision for credit losses	3,000			3,000			3,000			300			400			9,000			900
Net interest income after provision for credit losses	29,560			28,497			28,263			30,169			28,790			86,320			84,709
Noninterest income	18,691			17,471			9,585			13,309			12,312			45,747			40,058
Noninterest expense	23,685			27,813			23,854			25,426			22,887			75,352			71,373
Income before income tax expense	24,566			18,155			13,994			18,052			18,215			56,715			53,394
Income tax expense	6,434			4,576			3,321			5,670			4,603			14,331			10,788
Net income	18,132			13,579			10,673			12,382			13,612			42,384			42,606
Net income attributable to noncontrolling interest	30			101			118			87			82			249			260
Net income attributable to Nicolet Bankshares, Inc.	$	18,102		$	13,478		$	10,555		$	12,295		$	13,530		$	42,135		$	42,346
Earnings per common share:
Basic	$	1.75		$	1.29		$	1.00		$	1.22		$	1.45		$	4.04		$	4.51
Diluted	$	1.72		$	1.28		$	0.98		$	1.18		$	1.40		$	3.97		$	4.36
Common Shares:
Basic weighted average	10,349			10,417			10,516			10,061			9,347			10,426			9,394
Diluted weighted average	10,499			10,520			10,801			10,452			9,697			10,605			9,707
Outstanding (period end)	10,196			10,424			10,408			10,588			9,363			10,196			9,363
Period-End Balances:
Loans	$	2,908,793		$	2,821,501		$	2,607,424		$	2,573,751		$	2,242,931		$	2,908,793		$	2,242,931
Allowance for credit losses - loans	31,388			29,130			26,202			13,972			13,620			31,388			13,620
Securities available-for-sale, at fair value	535,351			510,809			511,860			449,302			419,300			535,351			419,300
Goodwill and other intangibles, net	176,213			164,094			164,974			165,967			121,371			176,213			121,371
Total assets	4,706,375			4,541,228			3,732,554			3,577,260			3,105,671			4,706,375			3,105,671
Deposits	3,712,808			3,537,805			3,023,466			2,954,453			2,584,447			3,712,808			2,584,447
Stockholders’ equity	538,068			532,033			510,971			516,262			428,014			538,068			428,014
Book value per common share	52.77			51.04			49.09			48.76			45.71			52.77			45.71
Tangible book value per common share (2)	35.49			35.30			33.24			33.08			32.75			35.49			32.75
Average Balances:
Loans	$	2,871,256		$	2,823,866		$	2,584,584		$	2,438,908		$	2,218,307		$	2,760,309		$	2,195,742
Interest-earning assets	4,216,106			3,917,499			3,167,505			2,974,974			2,763,997			3,768,676			2,733,870
Goodwill and other intangibles, net	169,353			164,564			165,532			147,636			121,895			166,493			122,869
Total assets	4,633,359			4,310,088			3,555,144			3,339,283			3,094,546			4,167,902			3,054,840
Deposits	3,636,260			3,403,188			2,920,071			2,756,295			2,563,821			3,320,994			2,545,017
Interest-bearing liabilities	2,933,737			2,741,199			2,218,592			2,023,448			1,895,754			2,632,280			1,911,395
Stockholders’ equity	537,826			520,177			513,558			478,645			420,864			523,904			405,521
Financial Ratios: (1)
Return on average assets	1.55		%	1.26		%	1.19		%	1.46		%	1.73		%	1.35		%	1.85		%
Return on average common equity	13.39			10.42			8.27			10.19			12.75			10.74			13.96
Return on average tangible common equity (2)	19.54			15.24			12.20			14.74			17.95			15.75			20.03
Average equity to average assets	11.61			12.07			14.45			14.33			13.60			12.57			13.27
Stockholders' equity to assets	11.43			11.72			13.69			14.43			13.78			11.43			13.78
Tangible common equity to tangible assets (2)	7.99			8.41			9.70			10.27			10.28			7.99			10.28
Net interest margin	3.06			3.21			3.94			4.06			4.19			3.35			4.17
Net loan charge-offs to average loans	0.10			0.01			0.01			(0.01)			0.06			0.04			0.03
Nonperforming loans to total loans	0.38			0.43			0.57			0.55			0.41			0.38			0.41
Nonperforming assets to total assets	0.25			0.29			0.42			0.42			0.34			0.25			0.34
Efficiency ratio	46.18			55.69			57.16			57.57			55.19			52.71			60.27
Effective tax rate	26.19			25.21			23.73			31.41			25.27			25.27			20.20
Selected Items:
Interest income from resolving PCI loans (rounded)	N/A			N/A			N/A			$	1,400		$	1,800		N/A			$	3,300
Tax-equivalent adjustment on net interest income	$	249		$	229		$	231		257			251			$	709		786
Tax benefit on stock-based compensation	(14)			(24)			(323)			(1,275)			(128)			(361)			(1,011)

(1) Income statement-related ratios for partial-year periods are annualized.

(2) 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 financial ratios have been included as they are considered to be critical metrics with which to analyze and evaluate financial condition and capital strength.

Net income was $42.1 million for the nine months ended September 30, 2020, compared to $42.3 million for the nine months ended September 30, 2019. Earnings per diluted common share was $3.97 for the first nine months of 2020, compared to $4.36 for the first nine months of 2019.

•During second quarter 2019, net income favorably included $5.4 million (or $0.55 of diluted earnings per common share) related to two actions combined, the sale of 80% of Nicolet's equity investment in UFS, LLC, a data processing and e-banking entity ($7.4 million after-tax gain included in noninterest income under asset gains) and retirement-related compensation declared to benefit all employees after that sale ($2.75 million, or $2.0 million after-tax cost, included in noninterest expense under personnel), impacting the 2019 year-to-date and quarter comparisons.

•Net interest income was $95.3 million for the first nine months of 2020, up $9.7 million or 11% over the first nine months of 2019. Interest income grew $8.8 million attributable to favorable volumes (mostly higher loan volumes from the Choice acquisition in November 2019, PPP loans in second quarter 2020, the Advantage acquisition in August 2020, and higher cash), partly offset by net unfavorable rates, influenced by Federal Reserve rate cuts in late 2019 and again in March 2020. Interest expense favorably decreased $0.9 million between the nine-month periods with the impact of lower interest rates mostly offset by a higher volume of deposits. Net interest margin was 3.35% for the nine months ended September 30, 2020, compared to 4.17% for the nine months ended September 30, 2019, heavily influenced by the changing balance sheet mix in the lower rate environment. For additional information regarding net interest income, see “Income Statement Analysis — Net Interest Income.”

•Noninterest income was $45.7 million for the first nine months of 2020, up $5.7 million or 14% from the comparable 2019 period. Excluding net asset gains (losses), noninterest income was $46.9 million for the first nine months of 2020, up $14.9 million or 47% over 2019, predominantly on record net mortgage income spurred by strong refinance activity. For additional information regarding noninterest income, see “Income Statement Analysis — Noninterest Income.”

•Noninterest expense was $75.4 million, $4.0 million or 6% higher than the first nine months of 2019, largely due to the expanded operating base following the Choice and Advantage acquisitions, as well as one-time expenses in second quarter 2020 associated with the announced branch closures, safety efforts related to the pandemic, a micro-grant program and a merger termination charge (collectively $4.0 million), while second quarter 2019 included $2.75 million of nonrecurring retirement-related compensation declared. Personnel costs increased $1.1 million, and non-personnel expenses combined increased $2.9 million or 10% over the comparable 2019 period. For additional information regarding noninterest expense, see “Income Statement Analysis — Noninterest Expense.”

•Nonperforming assets were only $12 million, representing 0.25% of total assets at September 30, 2020, compared to 0.42% at December 31, 2019 and 0.34% at September 30, 2019. For additional information regarding nonperforming assets, see “Balance Sheet Analysis – Nonperforming Assets.”

•At September 30, 2020, assets were $4.7 billion, up $1.1 billion or 32% from December 31, 2019, largely due to higher cash and cash equivalents (commensurate with the increase in total deposits) and an increase in loans (driven by PPP loans originated in second quarter 2020), as well as the acquisition of Advantage, which added $172 million in assets, $88 million in loans and $141 million in deposits at acquisition. Compared to September 30, 2019, assets increased $1.6 billion or 52%, attributable to the noted increases since year-end 2019 as well as the acquisition of Choice, which added $457 million in assets, $348 million in loans and $289 million in deposits at acquisition. For additional balance sheet discussion see “Balance Sheet Analysis.”

•At September 30, 2020, loans were $2.9 billion, 13% higher than December 31, 2019 and 30% higher than September 30, 2019. On average, loans grew $565 million or 26% over the first nine months of 2019. For additional information regarding loans, see “Balance Sheet Analysis — Loans.”

•Total deposits were $3.7 billion at September 30, 2020, an increase of 26% from December 31, 2019 and 44% higher than September 30, 2019. Year-to-date average deposits were $776 million or 30% higher than the first nine months of 2019. For additional information regarding deposits, see “Balance Sheet Analysis – Deposits.”

INCOME STATEMENT ANALYSIS

Net Interest Income

Tax-equivalent net interest income is a non-GAAP measure, but is a preferred industry measurement of net interest income (and its use in calculating a net interest margin) as it enhances the comparability of net interest income arising from taxable and tax-exempt sources. The tax-equivalent adjustments bring tax-exempt interest to a level that would yield the same after-tax income by applying the effective Federal corporate tax rates to the underlying assets. 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.

Table 2: Average Balance Sheet and Net Interest Income Analysis - Tax-Equivalent Basis


	For the Nine Months Ended September 30,
	2020						2019
(in thousands)	Average Balance		Interest		Average Yield/Rate		Average Balance		Interest		Average Yield/Rate
ASSETS
Interest-earning assets
PPP Loans	$	199,662	$	4,263	2.80	%	$	—	$	—	—	%
Commercial-based loans ex PPP	2,083,768		80,224		5.06	%	1,745,835		74,558		5.63	%
Retail-based loans	476,879		17,190		4.81	%	449,907		18,092		5.36	%
Total loans, including loan fees (1)(2)	2,760,309		101,677		4.85	%	2,195,742		92,650		5.58	%
Investment securities:
Taxable	349,202		6,115		2.34	%	269,663		5,578		2.76	%
Tax-exempt (2)	130,714		2,165		2.21	%	134,166		2,221		2.21	%
Total investment securities	479,916		8,280		2.30	%	403,829		7,799		2.57	%
Other interest-earning assets	528,451		1,917		0.48	%	134,299		2,733		2.69	%
Total non-loan earning assets	1,008,367		10,197		1.35	%	538,128		10,532		2.60	%
Total interest-earning assets	3,768,676		$	111,874	3.91	%	2,733,870		$	103,182	4.99	%
Other assets, net	399,226						320,970
Total assets	$	4,167,902					$	3,054,840
LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities
Savings	$	395,961	$	588	0.20	%	$	311,438	$	1,136	0.49	%
Interest-bearing demand	551,018		3,092		0.75	%	490,661		3,748		1.02	%
Money market accounts (“MMA”)	723,323		1,313		0.24	%	569,850		2,858		0.67	%
Core time deposits	400,198		4,901		1.64	%	397,530		6,070		2.04	%
Total interest-bearing core deposits	2,070,500		9,894		0.64	%	1,769,479		13,812		1.04	%
Brokered deposits	279,165		3,302		1.58	%	64,588		291		0.60	%
Total interest-bearing deposits	2,349,665		13,196		0.75	%	1,834,067		14,103		1.03	%
PPPLF	191,535		507		0.35	%	—		—		—	%
Other interest-bearing liabilities	91,080		2,142		3.10	%	77,328		2,684		4.59	%
Total wholesale funding	282,615		2,649		1.23	%	77,328		2,684		4.59	%
Total interest-bearing liabilities	2,632,280		15,845		0.80	%	1,911,395		16,787		1.17	%
Noninterest-bearing demand deposits	971,329						710,950
Other liabilities	40,389						26,974
Stockholders’ equity	523,904						405,521
Total liabilities and stockholders’ equity	$	4,167,902					$	3,054,840
Net interest income and rate spread			$	96,029	3.11	%			$	86,395	3.82	%
Tax-equivalent adjustment			$	709					$	786
Net interest margin					3.35	%					4.17	%
Selected Additional Information:
Total loans ex. PPP	$	2,560,647	$	97,414	5.01	%	$	2,195,742	$	92,650	5.58	%
Total interest-earning assets ex PPP	3,569,014		107,611		3.98	%	2,733,870		103,182		4.99	%
Total interest-bearing liabilities ex PPPLF	2,440,745		15,338		0.84	%	1,911,395		16,787		1.17	%
Net interest rate spread ex PPP & PPPLF					3.14	%					3.82	%

(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.

Table 2: Average Balance Sheet and Net Interest Income Analysis - Tax-Equivalent Basis (Continued)


	For the Three Months Ended September 30,
	2020						2019
(in thousands)	Average Balance		Interest		Average Yield/Rate		Average Balance		Interest		Average Yield/Rate
ASSETS
Interest-earning assets
PPP Loans	$	332,816	$	2,477	2.91	%	$	—	$	—	—	%
Commercial-based loans ex PPP	2,064,191		26,021		4.93	%	1,765,520		25,277		5.60	%
Retail-based loans	474,249		5,577		4.70	%	452,787		6,103		5.39	%
Total loans, including loan fees (1)(2)	2,871,256		34,075		4.66	%	2,218,307		31,380		5.56	%
Investment securities:
Taxable	356,908		2,001		2.24	%	271,632		1,904		2.80	%
Tax-exempt (2)	139,245		763		2.19	%	127,458		708		2.22	%
Total investment securities	496,153		2,764		2.23	%	399,090		2,612		2.62	%
Other interest-earning assets	848,697		680		0.32	%	146,600		926		2.49	%
Total non-loan earning assets	1,344,850		3,444		1.02	%	545,690		3,538		2.58	%
Total interest-earning assets	4,216,106		$	37,519	3.50	%	2,763,997		$	34,918	4.97	%
Other assets, net	417,253						330,549
Total assets	$	4,633,359					$	3,094,546
LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities
Savings	$	443,121	$	127	0.11	%	$	323,222	$	384	0.47	%
Interest-bearing demand	585,528		844		0.57	%	480,395		1,199		0.99	%
MMA	777,696		233		0.12	%	571,194		873		0.61	%
Core time deposits	374,230		1,337		1.42	%	389,033		2,010		2.05	%
Total interest-bearing core deposits	2,180,575		2,541		0.46	%	1,763,844		4,466		1.00	%
Brokered deposits	336,026		1,243		1.47	%	54,661		130		0.94	%
Total interest-bearing deposits	2,516,601		3,784		0.60	%	1,818,505		4,596		1.00	%
PPPLF	335,865		297		0.35	%	—		—		—	%
Other interest-bearing liabilities	81,271		629		3.05	%	77,249		881		4.48	%
Total wholesale funding	417,136		926		0.87	%	77,249		881		4.48	%
Total interest-bearing liabilities	2,933,737		4,710		0.64	%	1,895,754		5,477		1.14	%
Noninterest-bearing demand deposits	1,119,659						745,316
Other liabilities	42,137						32,612
Stockholders’ equity	537,826						420,864
Total liabilities and stockholders’ equity	$	4,633,359					$	3,094,546
Net interest income and rate spread			$	32,809	2.86	%			$	29,441	3.83	%
Tax-equivalent adjustment			$	249					$	251
Net interest margin					3.06	%					4.19	%
Selected Additional Information:
Total loans ex. PPP	$	2,538,440	$	31,598	4.89	%	$	2,218,307	$	31,380	5.56	%
Total interest-earning assets ex PPP	3,883,290		35,042		3.55	%	2,763,997		34,918		4.97	%
Total interest-bearing liabilities ex PPPLF	2,597,872		4,413		0.67	%	1,895,754		5,477		1.14	%
Net interest rate spread ex PPP & PPPLF					2.88	%					3.83	%

(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.

Table 3: Volume/Rate Variance - Tax-Equivalent Basis


	For the Three Months Ended September 30, 2020 Compared to September 30, 2019:						For the Nine Months Ended September 30, 2020 Compared to September 30, 2019:
	Increase (Decrease) Due to Changes in						Increase (Decrease) Due to Changes in
(in thousands)	Volume		Rate		Net (1)		Volume		Rate		Net (1)
Interest-earning assets
PPP Loans	$	2,477	$	—	$	2,477	$	4,263	$	—	$	4,263
Commercial-based loans ex. PPP	5,524		(4,780)		744		16,787		(11,121)		5,666
Retail-based loans	288		(814)		(526)		1,072		(1,974)		(902)
Total loans (2)	8,289		(5,594)		2,695		22,122		(13,095)		9,027
Investment securities:
Taxable	345		(248)		97		944		(407)		537
Tax-exempt (2)	65		(10)		55		(57)		1		(56)
Total investment securities	410		(258)		152		887		(406)		481
Other interest-earning assets	861		(1,107)		(246)		2,285		(3,101)		(816)
Total non-loan earning assets	1,271		(1,365)		(94)		3,172		(3,507)		(335)
Total interest-earning assets	$	9,560	$	(6,959)	$	2,601	$	25,294	$	(16,602)	$	8,692

Interest-bearing liabilities
Savings	$	106	$	(363)	$	(257)	$	252	$	(800)	$	(548)
Interest-bearing demand	223		(578)		(355)		424		(1,080)		(656)
MMA	235		(875)		(640)		625		(2,170)		(1,545)
Core time deposits	(74)		(599)		(673)		40		(1,209)		(1,169)
Total interest-bearing core deposits	490		(2,415)		(1,925)		1,341		(5,259)		(3,918)
Brokered deposits	1,004		109		1,113		2,023		988		3,011
Total interest-bearing deposits	1,494		(2,306)		(812)		3,364		(4,271)		(907)
PPPLF	297		—		297		507		—		507
Other interest-bearing liabilities	23		(275)		(252)		84		(626)		(542)
Total wholesale funding	320		(275)		45		591		(626)		(35)
Total interest-bearing liabilities	1,814		(2,581)		(767)		3,955		(4,897)		(942)
Net interest income	$	7,746	$	(4,378)	$	3,368	$	21,339	$	(11,705)	$	9,634

(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)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.

The interest rate environment has experienced dramatic change. The Federal Reserve steadily raised short-term interest rates during 2017 and 2018 in support of a growing economy (up 175 bps total to 2.50% at year end 2018), and then reduced rates by 75 bps in three moves during the second half of 2019 (to 1.75% at year end 2019) largely responding to global issues and slowing growth, which contributed to a flattened yield curve with periods of inversion. In March 2020, the Federal Reserve dropped short-term rates by 150 bps (to 25 bps at March 31, 2020) in two emergency moves to respond to the unprecedented economic disruptions of the COVID-19 pandemic described in the “Overview” section, which brought slope back into the yield curve, though still fairly flat. Comparatively, short-term rates were 175 bps lower at September 30, 2020 than at September 30, 2019. While the following paragraphs will discuss the comparison of the nine months of 2020 and 2019, we expect that the COVID-19 pandemic impacts will continue to evolve and pressure future quarters even further, including continued margin pressure and potential unusual loan or deposit volume or pricing impacts.

Tax-equivalent net interest income was $96.0 million for the first nine months of 2020, comprised of net interest income of $95.3 million ($9.7 million or 11% higher than the first nine months of 2019), and a $0.7 million tax-equivalent adjustment (down nearly $0.1 million between the periods). The $9.6 million increase in tax-equivalent net interest income was attributable to net favorable volumes (which added $21.3 million, with $22.1 million from higher loan volumes, due to the inclusion of Choice and Advantage interest-earning assets, as well as PPP loans) and net unfavorable rates (which reduced net interest income by $11.7 million). The net $11.7 million decrease from rates was from interest-earning asset rate changes in the lower rate environment (decreasing net interest income by $16.6 million, of which $13.1 million was from loans, and $3.0 million was from the dramatically reduced cash rate earned), offset partly by benefits of a lower cost of funds (improving net interest income by $4.9 million, predominantly led by $5.3 million savings from non-brokered interest-bearing core deposits and $0.6 million savings from wholesale funds, partly offset by $1.0 million more interest cost from term brokered deposits which increased in both rate and volume).

Between the comparable nine-month periods, the interest rate spread decreased 71 bps, largely attributable to the lower interest rate environment between the periods and the significantly higher concentration of low-earning cash in the 2020 period. The 2020 interest earning asset yield declined 108 bps to 3.91%, largely from the 73 bps decline in loans (with approximately 16 bps related to inclusion of PPP loans at a 2.80% yield), and was also harmed by the decrease in the loans-to-earning asset mix (to 73% compared to 80% for the first nine months of 2019) given the significant increase in cash. The 2020 cost of funds declined favorably by 37 bps to 0.80%, largely from improved core deposit rates and lower variable wholesale funding rates, though offset partly by higher-costing brokered deposits (representing 10% of interest-bearing liabilities versus 3% for the first nine months of 2019) acquired with the Choice acquisition and procured in March-April 2020 under competitive conditions. The contribution from net free funds decreased 11 bps, due mostly to the reduced value in the lower rate environment, though offset partly by the 38% increase in average net free funds (largely from average noninterest-bearing demand deposits and stockholders equity) between the nine-month periods. As a result, the tax-equivalent net interest margin was 3.35% for the first nine months of 2020, down 82 bps compared to 4.17% for the comparable 2019 period.

Average interest-earning assets increased to $3.8 billion, up $1.0 billion (38%) over the 2019 comparable period, primarily due to the timing of the acquisitions (Choice in November 2019 and Advantage in August 2020), addition of PPP loans (beginning second quarter 2020), and significantly higher cash starting in second quarter 2020. Between the comparable nine-month periods, average loans increased $565 million or 26% (which includes modest organic growth, $348 million of Choice loans at acquisition, $88 million of Advantage loans at acquisition, and $335 million of net PPP loans at September 30, 2020), while all other interest-earning assets combined increased $470 million (87%) on average. The mix of average interest-earning assets shifted toward lower-yielding assets, at 73% loans, 13% investments and 14% other interest-earning assets (mostly cash) for the first nine months of 2020, compared to 80%, 15% and 5%, respectively for the first nine months of 2019.

Tax-equivalent interest income was $111.9 million for the first nine months of 2020, up $8.7 million (8%) over the first nine months of 2019, while the related interest-earning asset yield was 3.91%, down 108 bps from the comparable period in 2019. Interest income on loans increased $9.0 million (10%) over the first nine months of 2019, aided by strong volumes, including Choice, Advantage, and PPP loans. The 2020 loan yield was 4.85%, down 73 bps from the first nine months of 2019, largely from the significantly lower rate environment impacting yields on new, renewed and variable rate loans, as well as from inclusion of PPP loans at a 2.80% yield. Between the comparable nine-month periods, interest income on non-loan earning assets combined was down $0.3 million to $10.2 million, impacted by a 125 bps decline in the yield (to 1.35%) in the lower rate environment, partially offset by higher average volumes (up 87%) from the significantly higher cash.

Average interest-bearing liabilities were $2.6 billion, an increase of $721 million (38%), primarily due to the timing of the Choice acquisition in November 2019 and the Advantage acquisition in August 2020, as well as the significant increase in deposits from government stimulus activities and deposited PPP loan proceeds. The mix of average interest-bearing liabilities was 79% core deposits, 10% brokered deposits and 11% other funding, compared to 93%, 3% and 4%, respectively, for the first nine months of 2019, with the mix changes (especially increased money markets and brokered deposits) influenced by the mix of the $289 million of Choice deposits acquired, and the procurement of brokered deposits in March-April 2020 as part of previously discussed liquidity actions.

Interest expense decreased to $15.8 million (down $0.9 million) for the first nine months of 2020 compared to the first nine months of 2019, on larger average interest-bearing liabilities volumes (up 38% to $2.6 billion) but at a lower overall cost of funds (down 37 bps to 0.80%). Interest expense on deposits decreased $0.9 million (6%) from the first nine months of 2019 given 28% higher average interest-bearing deposit balances but at a lower cost (down 28 bps to 0.75%). The 2020 cost of savings, interest-bearing demand, money market accounts and core time deposits decreased from the first nine months of 2019, by 29 bps, 27 bps, 43 bps and 40 bps, respectively, as product rate changes were made in the lower rate environment, and brokered deposits cost 98 bps more than the comparable nine-month period of 2019, largely from higher-costing term brokered funds acquired with the Choice acquisition in November 2019 and procured during March-April 2020 under competitive conditions as part of previously discussed liquidity actions. Interest expense on other interest-bearing liabilities was minimally changed between the comparable nine-month periods, as additional interest expense on higher average balances (up $205 million) was substantially offset by lower rates (down 336 bps to 1.23%), mostly impacted by the inclusion of the low-costing PPPLF (average balance of $192 million for the first nine months of 2020 at a 0.35% rate), and variable rate debt repricing and maturing advances replaced in the lower rate environment.

Provision for Credit Losses

The provision for credit losses increased to $9.0 million for the nine months ended September 30, 2020, compared to $0.9 million for the nine months ended September 30, 2019, largely due to the unprecedented economic disruptions and uncertainty surrounding the COVID-19 pandemic, and to a lesser extent, to the acquisition of Advantage in third quarter 2020. The provision for credit losses was significantly increased to $3 million in first quarter 2020 with nearly no forward visibility in the wake of an emerging pandemic and recession. For second and third quarter 2020, the expectations about the extent and duration of current credit stress on our customers remains extremely difficult to estimate; thus, an additional provision of $3 million per quarter was provided despite no material degradation of the current asset quality metrics. In addition, the third quarter provision for credit losses included approximately $0.6 million to establish the initial allowance for credit losses - loans related to the Advantage acquisition.

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 impaired 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 expected credit losses. See also Note 1, “Basis of Presentation” and Note 6, “Loans, Allowance for Credit Losses - Loans, and Credit Quality” of the Notes to Unaudited Consolidated Financial Statements under Part I, Item 1, for additional policy and disclosures. For additional information regarding asset quality and the ACL-Loans, see “BALANCE SHEET ANALYSIS — Loans,” “— Allowance for Credit Losses - Loans,” and “— Nonperforming Assets.”

Noninterest Income

Table 4: Noninterest Income


	Three Months Ended September 30,								Nine Months Ended September 30,
(in thousands)	2020		2019		$ Change		% Change		2020		2019		$ Change		% Change
Trust services fee income	$	1,628	$	1,594	$	34	2	%	$	4,717	$	4,631	$	86	2	%
Brokerage fee income	2,489		2,113		376		18		7,080		5,925		1,155		19
Mortgage income, net	9,675		3,700		5,975		161		21,965		6,962		15,003		215
Service charges on deposit accounts	1,037		1,223		(186)		(15)		3,075		3,587		(512)		(14)
Card interchange income	1,877		1,735		142		8		5,076		4,815		261		5
BOLI income	531		495		36		7		1,774		1,834		(60)		(3)
Other income	1,237		1,166		71		6		3,245		4,274		(1,029)		(24)
Noninterest income without net gains	18,474		12,026		6,448		54		46,932		32,028		14,904		47
Asset gains (losses), net	217		286		(69)		N/M		(1,185)		8,030		(9,215)		N/M
Total noninterest income	$	18,691	$	12,312	$	6,379	52	%	$	45,747	$	40,058	$	5,689	14	%
Trust services fee income & Brokerage fee income combined	$	4,117	$	3,707	$	410	11	%	$	11,797	$	10,556	$	1,241	12	%

N/M means not meaningful.

Noninterest income was $45.7 million for the first nine months of 2020, an increase of $5.7 million (14%) compared to $40.1 million for the comparable period of 2019, which included a $7.4 million gain on the equity investment sale noted previously. Noninterest income excluding net asset gains (losses) grew $14.9 million (47%) between the comparable nine-month periods, predominantly on strong net mortgage income.

Trust services fee income and brokerage fee income combined were $11.8 million, up $1.2 million (12%) over the first nine months of 2019, consistent with the growth in accounts and assets under management.

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 of $22.0 million, increased $15.0 million (215%) between the comparable nine-month periods, predominantly from higher sale gains and capitalized gains combined (up $15.3 million or 217%, commensurate with the increase in volumes sold into the secondary market aided by the current refinance boom and better pricing between the years), favorable changes in the fair value of the mortgage derivatives (up $0.3 million), and higher net servicing fees (up $0.2 million or 34% on the larger

portfolio serviced for others), partially offset by $0.8 million MSR asset impairment given faster paydown activity. See also “Lending-Related Commitments” and Note 7, “Goodwill and Other Intangibles and Mortgage Servicing Rights” of the Notes to Unaudited Consolidated Financial Statements under Part I, Item 1, for additional disclosures on the MSR asset.

Service charges on deposit accounts were down $0.5 million to $3.1 million for the nine months ended September 30, 2020, mainly as we waived certain fees during second quarter 2020 to provide economic relief to our customers.

Card interchange income grew $0.3 million (5%) due to higher volume and activity, especially seen in third quarter 2020, as the first half activity was tempered by cautionary spending of consumers given the economic uncertainty.

BOLI income was down $0.1 million between the comparable nine-month periods, attributable to the difference in BOLI death benefits received in each nine-month period (down $0.2 million), partly offset by income on higher average balances from $5 million additional BOLI purchased in mid-2019, $6 million BOLI acquired with Choice, and $3 million BOLI acquired with Advantage.

Other income of $3.2 million for the nine months ended September 30, 2020 was down $1.0 million from the comparable 2019 period, largely due to $0.5 million lower income from our smaller equity interest in a data processing entity after the partial sale in May 2019 and $0.3 million attributable to the fee earned on a customer loan interest rate swap in second quarter 2019.

Net asset losses of $1.2 million in the first nine months of 2020 were primarily attributable to unfavorable fair value marks on equity securities and the $0.1 million write-off of Commerce common stock in connection with the terms of the mutual termination of the Commerce merger agreement, partly offset by gains of $0.3 million on the sale of securities AFS. Net asset gains of $8.0 million in the first nine months of 2019 were comprised primarily of the $7.4 million gain on the equity investment sale and $0.9 million of favorable fair value marks on equity securities, partially offset by losses of $0.3 million on fixed asset disposals and write-downs of OREO and other investments.

Noninterest Expense

Table 5: Noninterest Expense


	Three Months Ended September 30,								Nine Months Ended September 30,
($ in thousands)	2020		2019		Change		% Change		2020		2019		Change		% Change
Personnel	$	14,072	$	12,914	$	1,158	9	%	$	41,877	$	40,809	$	1,068	3	%
Occupancy, equipment and office	4,051		3,454		597		17		12,616		10,961		1,655		15
Business development and marketing	810		1,428		(618)		(43)		4,683		4,288		395		9
Data processing	2,658		2,515		143		6		7,620		7,220		400		6
Intangibles amortization	834		914		(80)		(9)		2,707		2,936		(229)		(8)
Other expense	1,260		1,662		(402)		(24)		5,849		5,159		690		13
Total noninterest expense	$	23,685	$	22,887	$	798	3	%	$	75,352	$	71,373	$	3,979	6	%
Non-personnel expenses	$	9,613	$	9,973	$	(360)	(4)	%	$	33,475	$	30,564	$	2,911	10	%
Average full-time equivalent (“FTE”) employees	523		568		(45)		(8)	%	553		557		(4)		(1)	%

Noninterest expense was $75.4 million, an increase of $4.0 million (6%) over the first nine months of 2019, largely due to the expanded operating base following the Choice and Advantage acquisitions, as well as one-time expenses in second quarter 2020 associated with the announced branch closures, safety efforts related to the pandemic, a micro-grant program and a merger termination charge (collectively $4.0 million), while second quarter 2019 included $2.75 million of nonrecurring retirement-related compensation declared. Personnel costs increased $1.1 million (3%), while non-personnel expenses combined increased $2.9 million (10%) over the first nine months of 2019.

Personnel expense was $41.9 million for the nine months ended September 30, 2020, an increase of $1.1 million from the comparable period in 2019. Excluding the $2.75 million nonrecurring compensation from the 2019 period, personnel expense increased $3.8 million (10%). The increase is mainly due to strong merit increases between the periods (increasing salary expense and 401k expense), higher stock-based compensation, as well as higher health and other fringes. While average FTEs were minimally changed between the year-to-date periods, the three-quarter trend was increasing for 2019 and decreasing for 2020 with the additional headcount from the Choice and Advantage acquisitions, largely offset by reductions from the branch closures. Personnel expense was also impacted by $0.4 million higher overtime to process mortgage and PPP volume, $0.2 million severance related to the branch closures, and $0.4 million of on-site bonus pay.

Occupancy, equipment and office expense was $12.6 million for the first nine months of 2020, up $1.7 million (15%) compared to the first nine months of 2019, with 2020 including $0.5 million of accelerated depreciation and write-offs related to the

branch closures, higher expense for software and technology to drive operational efficiency and enhance products or services, and for additional licensing and equipment to expand remote workers in response to the COVID-19 pandemic. The comparable nine-month period of 2019 also included approximately $0.2 million of accelerated depreciation for branch facility upgrades.

Business development and marketing expense was $4.7 million, up $0.4 million or 9%, between the comparable nine-month periods, largely due to $1.25 million for the micro-grant program, partly offset by lower business development costs from less travel and entertainment during the pandemic.

Data processing expense was $7.6 million, up $0.4 million or 6% between the comparable nine-month periods, mostly due to volume-based increases in core processing charges.

Intangibles amortization decreased $0.2 million between the comparable nine-month periods mainly from declining amortization on the aging intangibles of previous acquisitions, partly offset by amortization from the new intangibles of the August 2020 Advantage and November 2019 Choice acquisitions.

Other expense was $5.8 million, up $0.7 million (13%) between the comparable nine-month periods. The first nine months of 2020 included $1.0 million of lease termination charges related to the branch closures, $0.5 million to terminate the Commerce merger agreement and a $0.3 million charge on the early repayment of FHLB advances, while the first nine months of 2019 included $0.2 million higher FDIC insurance costs and a $0.6 million fraud loss contingency.

Income Taxes

Income tax expense was $14.3 million (effective tax rate of 25.27%) for the first nine months of 2020, compared to $10.8 million (effective tax rate of 20.20%) for the comparable period of 2019. The lower effective tax rate for 2019 was due to the favorable tax treatment of the equity investment sale, BOLI death benefit proceeds, and higher tax benefit on stock-based compensation.

Income Statement Analysis – Three Months Ended September 30, 2020 versus Three Months Ended September 30, 2019

Net income was $18.1 million for the three months ended September 30, 2020, an increase of $4.6 million (34%) from $13.5 million for the three months ended September 30, 2019. Earnings per diluted common share was $1.72 for third quarter 2020, compared to $1.40 for third quarter 2019.

Tax-equivalent net interest income was $32.8 million for third quarter 2020, comprised of net interest income of $32.6 million ($3.4 million or 12% over third quarter 2019), and a tax-equivalent adjustment of $0.2 million (down minimally from third quarter 2019). Tax-equivalent interest income increased $2.6 million between the third quarter periods, with $9.6 million from stronger volumes (led by average loans which grew $653 million or 29% over third quarter 2019, mostly from the PPP loans and the loans acquired with Choice and Advantage, as well as significantly higher cash included in other interest earning assets, up $702 million to represent 20% of interest-earning assets for third quarter 2020 compared to 5% for third quarter 2019), partly offset by $7.0 million from lower yields across most interest-earning assets given the Federal Reserve interest rate cuts in second half 2019 and March 2020. Interest expense decreased $0.8 million from third quarter 2019, as the impact of the lower interest rate environment more than offset the higher average deposit and funding balances. For additional information regarding average balances, net interest income and net interest margin, see “Income Statement Analysis — Net Interest Income.”

The net interest margin for third quarter 2020 was 3.06%, down from 4.19% for third quarter 2019, heavily influenced by the changing balance sheet mix, especially to low-earning cash. The yield on interest-earning assets of 3.50% declined 147 bps from third quarter 2019 (mostly due to the dramatic increase in cash that generally earns 10 bps since March 2020, as well as the low rate on the PPP loans). The yield on loans excluding PPP loans was 4.89%, 67 bps lower than third quarter 2019 mostly attributable to the impact of the lower interest rate environment on variable loans offset partly by floors and the mix of fixed rate loans. The cost of funds of 0.64% declined 50 bps between the comparable quarters as both deposit and other funding costs were adjusted down in the lower interest rate environment, as well as the inclusion of PPPLF funds costing 35 bps.

Provision for credit losses in third quarter 2020 was $3.0 million, compared to provision for credit losses of $0.4 million for third quarter 2019 given the vastly different economic conditions between the third quarter periods and the unknown magnitude of the evolving impact of current credit stress on our customers arising from pandemic-based business disruptions and other recessionary conditions. Net charge-offs were 0.10% and 0.06%, for third quarter 2020 and 2019, respectively.

Noninterest income was $18.7 million for third quarter 2020, an increase of $6.4 million (52%) from third quarter 2019, driven by strong secondary mortgage income. Net mortgage income of $9.7 million for third quarter 2020 was up $6.0 million (161%) over third quarter 2019 from higher sale gains and capitalized gains combined (up $6.2 million or 163%, commensurate with the increase in volumes sold into the secondary market, aided by the current refinance boom, and better pricing between the years), a larger servicing portfolio, and a $0.1 million favorable change in the fair value of the mortgage derivatives, partially offset by $0.4 million MSR asset impairment given higher refinance activity. Trust services fee income and brokerage fee

income combined was up $0.4 million (11%), consistent with the growth in assets under management. Service charges on deposit accounts were down $0.2 million to $1.0 million for third quarter 2020, mainly on lower NSF charges. Card interchange income grew $0.1 million (8%) due to higher volume and activity. For additional information regarding noninterest income, see “Income Statement Analysis — Noninterest Income.”

Noninterest expense was $23.7 million for third quarter 2020, an increase of $0.8 million (3%) from third quarter 2019, including a $1.2 million increase in personnel expense partly offset by a $0.4 million decrease in non-personnel expenses. Personnel expense increased $1.2 million (9%), mainly due to strong merit increases between the periods (increasing salary expense and stock-based compensation), as well as higher health and other fringes. Average FTEs were down 8% between the comparable quarters as the timing of the additional headcount from the Choice and Advantage acquisitions, was more than offset by reductions from the branch closures. Occupancy, equipment, and office of $4.1 million was up $0.6 million (17%), attributable to the larger operating base and higher expense for software and technology to drive operational efficiency, enhance products or services, and support the expanded remote worker capabilities. Business development and marketing of $0.8 million decreased $0.6 million (43%) versus third quarter 2019 as travel, educational and entertainment costs were dramatically reduced during the pandemic. All remaining noninterest expense categories on a combined basis were down $0.3 million (7%) as third quarter 2019 included $0.2 million for a fraud loss contingency matter. For additional information regarding noninterest expense, see “Income Statement Analysis — Noninterest Expense.”

Income tax expense for third quarter 2020 was $6.4 million, with an effective tax rate of 26.19%, compared to income tax expense of $4.6 million and an effective tax rate of 25.27% for third quarter 2019.

BALANCE SHEET ANALYSIS

At September 30, 2020, assets were $4.7 billion, an increase of $1.1 billion (32%) from December 31, 2019. The increase from year-end 2019 was largely due to higher cash and cash equivalents (up $672 million to $854 million, commensurate with the increase in total deposits) and loans. Period end loans of $2.9 billion at September 30, 2020, increased $335 million from December 31, 2019, with the net carrying value of PPP loans adding $335 million and Advantage adding $88 million at acquisition, net of a decline in the remaining loan portfolio (led by commercial lines of credit). Total deposits were $3.7 billion at September 30, 2020, an increase of a $758 million from year-end 2019, with customer deposits (core) up $592 million and brokered deposits up $167 million, influenced by liquidity objectives of customers and the Bank in the very uncertain times. Borrowings increased $338 million mostly due to participation in the PPPLF to fund the PPP loans. Total stockholders’ equity was $538 million, an increase of $22 million from December 31, 2019, primarily from earnings and positive net fair value investment changes, exceeding stock repurchases and the adoption of CECL, which negatively impacted equity by $6 million. See also Notes 1, “Basis of Presentation” and 6, “Loans, Allowance for Credit Losses - Loans, and Credit Quality” of the Notes to Unaudited Consolidated Financial Statements under Part I, Item 1, for additional information on the adoption of CECL.

Compared to September 30, 2019, assets were $4.7 billion, up $1.6 billion or 52%. Loans increased $666 million (30%) and deposits increased $1.1 billion (44%) over September 30, 2019, attributable to the increases from year-end 2019 noted above, as well as the acquisition of Choice in November 2019, which added $457 million in assets, $348 million in loans and $289 million of deposits at acquisition. Stockholders’ equity increased $110 million from September 30, 2019, primarily due to common stock issued in the November 2019 Choice acquisition of $80 million, as well as net income and positive net fair value investment changes, partially offset by stock repurchases over the year.

Loans

In addition to the discussion that follows, see also Note 1, “Basis of Presentation” and Note 6, “Loans, Allowance for Credit Losses - Loans, and Credit Quality,” in the Notes to Unaudited Consolidated Financial Statements under Part I, Item 1, for additional disclosures and accounting policy on loans. For additional information regarding the allowance for credit losses and nonperforming assets see also “BALANCE SHEET ANALYSIS – Allowance for Credit Losses - Loans” and “BALANCE SHEET ANALYSIS – Nonperforming Assets.”

Nicolet services a diverse customer base throughout northeastern and central Wisconsin and in Menominee, Michigan. The Company concentrates on originating loans in its local markets and assisting its current loan customers. The loan portfolio is widely diversified by types of borrowers, industry groups, and market areas. Significant loan concentrations are considered to exist for a financial institution when there are amounts loaned to multiple numbers of borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At September 30, 2020, no significant industry concentrations existed in Nicolet’s portfolio in excess of 10% of total loans.

With the emergence of the COVID-19 pandemic and the significance of stay-at-home orders in March 2020, Nicolet began proactive discussions and/or temporary loan modifications (such as interest-only or payment deferrals) before the CARES Act passed in late March. Such modifications are further discussed under “BALANCE SHEET ANALYSIS – Nonperforming Assets.” In addition, Nicolet evaluated its collective concentration in restaurants, retail, arts, recreation, tourism and other hospitality businesses, which represented approximately 15% of its loan portfolio at the start of the pandemic in March 2020, and has declined modestly since that time. It remains unknown yet how much the Paycheck Protection Program may alleviate potential loss concerns across business operators in Nicolet’s loan portfolio who participated in the PPP. Further, it is unknown how businesses (individual customers or industry groups) will react or survive given the prolonged and evolving impact of the pandemic. These factors were part of the determination for a larger 2020 provision, and continue to be evaluated.

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 the process 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


	September 30, 2020				December 31, 2019				September 30, 2019
(in thousands)	Amount		% of Total		Amount		% of Total		Amount		% of Total
Commercial & industrial	$	735,531	25	%	$	806,189	31	%	$	763,742	34	%
PPP loans	335,236		12		—		—		—		—
Owner-occupied CRE	499,605		17		496,372		19		456,508		20
Agricultural	111,022		4		95,450		4		94,641		5
Commercial	1,681,394		58		1,398,011		54		1,314,891		59
CRE investment	475,050		16		443,218		17		336,442		15
Construction & land development	121,647		4		92,970		4		61,810		3
Commercial real estate	596,697		20		536,188		21		398,252		18
Commercial-based loans	2,278,091		78		1,934,199		75		1,713,143		77
Residential construction	57,496		2		54,403		2		41,496		2
Residential first mortgage	428,017		15		432,167		17		343,400		15
Residential junior mortgage	112,173		4		122,771		5		116,179		5
Residential real estate	597,686		21		609,341		24		501,075		22
Retail & other	33,016		1		30,211		1		28,713		1
Retail-based loans	630,702		22		639,552		25		529,788		23
Total loans	$	2,908,793	100	%	$	2,573,751	100	%	$	2,242,931	100	%
Total loans ex. PPP loans	$	2,573,557	88	%	$	2,573,751	100	%	$	2,242,931	100	%

Broadly, the loan portfolio at September 30, 2020, was 78% commercial-based and 22% retail-based. Commercial-based loans are considered to have more inherent risk of default than retail-based loans, in part because of the broader list of factors that could impact a commercial borrower negatively. In addition, the commercial balance per borrower is typically larger than that for retail-based loans, implying higher potential losses on an individual customer basis. Credit risk on commercial-based loans is largely influenced by general economic conditions and the resulting impact on a borrower’s operations or on the value of underlying collateral, if any. PPP loans, however, initially added during second quarter 2020, are fully guaranteed by the SBA, warranting no credit loss provisions.

Commercial-based loans of $2.3 billion increased $344 million (18%) since December 31, 2019, primarily due to the $335 million net carrying value added with the PPP loans and the $88 million of loans added with Advantage at acquisition, partly offset by declines in the remaining commercial-based loans (mostly commercial lines of credit), as many commercial customers funded their current needs through the PPP loans and exercised caution in this volatile and uncertain business climate. Commercial and industrial loans continue to be the largest segment of Nicolet’s portfolio and represented 25% of the total portfolio at September 30, 2020.

Residential real estate loans of $598 million were down $12 million (2%) from year-end 2019, to represent 21% of total loans at September 30, 2020. Residential first mortgage loans include conventional first-lien home mortgages, while residential junior mortgage real estate loans consist mainly of home equity lines and term loans secured by junior mortgage liens. As part of its management of originating residential mortgage loans, the vast majority of Nicolet’s long-term, fixed-rate residential real estate mortgage loans are sold in the secondary market with servicing rights retained. Nicolet’s mortgage loans are typically of high quality and have historically had low net charge-off rates.

Retail and other loans were relatively unchanged from year-end 2019, and represented approximately 1% of the total loan portfolio, and include predominantly short-term and other personal installment loans not secured by real estate.

Allowance for Credit Losses - Loans

Credit risks within the loan portfolio are inherently different for each loan type as summarized under “BALANCE SHEET ANALYSIS — Loans.” A discussion of the loan portfolio credit risk can be found in the “Loans” section in Management's Discussion and Analysis of Financial Condition and Results of Operations included in the Company's 2019 Annual Report on Form 10-K. 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. For additional information regarding nonperforming assets see also “BALANCE SHEET ANALYSIS – Nonperforming Assets.”

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, 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. 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 ACL-Loans using the qualitative factors mentioned above. Consideration is given to those current qualitative or environmental factors that are likely to cause estimated credit losses as of 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.

At September 30, 2020, the ACL-Loans was $31.4 million (representing 1.08% of period end loans and 1.22% of period end loans excluding PPP loans) compared to $14.0 million at December 31, 2019 and $13.6 million at September 30, 2019. The increase in the ACL-Loans was largely due to the $9.3 million impact from the adoption of CECL (comprised of $8.5 million for the CECL impact on the loan portfolio and $0.8 million for the PCD gross-up) and a much higher provision for credit losses in 2020 given the unprecedented economic disruptions and uncertainty surrounding the COVID-19 pandemic. The components of the ACL-Loans are detailed further in Table 7 below.

Table 7: Allowance for Credit Losses - Loans


	Nine Months Ended						Year Ended
(in thousands)	September 30, 2020			September 30, 2019			December 31, 2019
ACL-Loans:
Balance at beginning of period	$	13,972		$	13,153		$	13,153
Adoption of CECL	8,488			—			—
Initial PCD ACL	797			—			—
Total impact for adoption of CECL	9,285			—			—
Provision for credit losses	9,000			900			1,200
Charge-offs	(1,002)			(629)			(927)
Recoveries	133			196			546
Net (charge-offs) recoveries	(869)			(433)			(381)
Balance at end of period	$	31,388		$	13,620		$	13,972
Net loan (charge-offs) recoveries:
Commercial & industrial	$	(512)		$	31		$	261
Owner-occupied CRE	(257)			(11)			(91)
Agricultural	—			—			—
CRE investment	(20)			—			—
Construction & land development	—			—			—
Residential construction	—			(226)			(226)
Residential first mortgage	7			36			14
Residential junior mortgage	18			(48)			(41)
Retail & other	(105)			(215)			(298)
Total net (charge-offs) recoveries	$	(869)		$	(433)		$	(381)
Ratios:
ACL-Loans to total loans	1.08		%	0.61		%	0.54		%
ACL-Loans to total loans ex. PPP loans	1.22		%	0.61		%	0.54		%
Net charge-offs to average loans, annualized	0.04		%	0.03		%	0.02		%
Net charge-offs to average loans ex. PPP loans, annualized	0.05		%	0.03		%	0.02		%

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 ensure that problem loans are identified early and the risk of loss is minimized. Management is actively working with customers and monitoring credit risk from the unprecedented economic disruptions surrounding the COVID-19 pandemic as described in further detail in the “Overview” section. Since the pandemic started, approximately 980 loans (88% commercial and 12% retail) were provided payment modifications, consistent with the guidelines of the CARES Act, on loans totaling $462 million (65% interest only and 35% full payment deferrals). As of September 30, 2020, $384 million (83%) had returned to normal payment structures and $19 million (4%) were paid off or removed (of which one was a September charge-off for $0.5 million). The remaining $60 million (in 66 commercial and 6 retail loans) remained under modification structure, representing only 2% of September period end loans excluding PPP loans, and we expect approximately $45 million of these to end their modification periods by November. See also Note 6, “Loans, Allowance for Credit Losses - Loans, and Credit Quality” of the Notes to Unaudited Consolidated Financial Statements under Part I, Item 1, for additional disclosures on credit quality. For additional information see also “BALANCE SHEET ANALYSIS – Loans” and “BALANCE SHEET ANALYSIS – Allowance for Credit Losses-Loans.”

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. Nonaccrual loans decreased to $11 million at September 30, 2020, compared to $14 million at December 31, 2019, largely due to pay downs on a few larger commercial credits and an $0.8 million charge-off on one commercial credit relationship. Nonperforming assets (which include nonperforming loans and other real estate owned “OREO”) were $12 million at September 30, 2020 compared to $15 million at December 31, 2019. OREO was $1 million at both September 30, 2020 and December 31, 2019.

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 $27 million (0.9% of loans) and $23 million (0.9% of loans) at September 30, 2020 and December 31, 2019, respectively. Potential problem loans require a heightened management review of the pace at which a credit may deteriorate, the 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 8: Nonperforming Assets


(in thousands)	September 30, 2020			December 31, 2019			September 30, 2019
Nonperforming loans:
Commercial & industrial	$	3,011		$	6,249		$	2,279
Owner-occupied CRE	2,471			3,311			2,302
Agricultural	2,297			1,898			2,097
Commercial	7,779			11,458			6,678
CRE investment	911			1,073			1,111
Construction & land development	533			20			—
Commercial real estate	1,444			1,093			1,111
Commercial-based loans	9,223			12,551			7,789
Residential construction	—			—			—
Residential first mortgage	1,312			1,090			865
Residential junior mortgage	411			480			576
Residential real estate	1,723			1,570			1,441
Retail & other	51			1			8
Retail-based loans	1,774			1,571			1,449
Total nonaccrual loans	10,997			14,122			9,238
Accruing loans past due 90 days or more	—			—			—
Total nonperforming loans	$	10,997		$	14,122		$	9,238
OREO:
Commercial real estate owned	$	—		$	—		$	525
Residential real estate owned	—			—			—
Bank property real estate owned	1,000			1,000			800
Total OREO	1,000			1,000			1,325
Total nonperforming assets	$	11,997		$	15,122		$	10,563
Performing troubled debt restructurings	$	—		$	452		$	459
Ratios:
Nonperforming loans to total loans	0.38		%	0.55		%	0.41		%
Nonperforming assets to total loans plus OREO	0.41		%	0.59		%	0.47		%
Nonperforming assets to total assets	0.25		%	0.42		%	0.34		%
ACL-Loans to nonperforming loans	285.4		%	98.9		%	147.4		%

Deposits

Deposits represent Nicolet’s largest source of funds. The deposit composition is presented in Table 9 below.

Total deposits of $3.7 billion at September 30, 2020, increased $758 million (26%) over December 31, 2019, and was a large contributor to the current heavy cash position. This unusually large increase in deposits was influenced by the very uncertain times, government stimulus payments and pandemic stay-at-home orders, which reduced spending and increased liquidity of consumers and businesses, and by PPP loan proceeds retained on deposit by corporate borrowers. Also contributing to the increase in deposits from December 31, 2019, was the acquisition of Advantage, which added $141 million of deposits at acquisition. Noninterest-bearing demand deposits accounted for the largest increase since December 31, 2019, up $316 million (39%), primarily due to the deposited PPP loan proceeds. Transaction accounts combined (i.e., savings, money market, and interest-bearing demand) increased $341 million (22%) to $1.9 billion at September 30, 2020, and brokered deposits grew $167 million (104%) to $327 million, mainly due to our liquidity build executed in March-April offset partly by maturities of

acquired brokered deposits, while core time deposits declined $66 million (15%) to $373 million, largely moving into transaction accounts.

Compared to September 30, 2019, total deposits were up $1.1 billion (44%). The increase in total deposits since September 30, 2019 was largely due to the liquidity objectives of customers and the Bank in very uncertain times, and the acquisition of Advantage (as discussed above), as well as the acquisition of Choice, which added $289 million of deposits at acquisition.

Table 9: Period End Deposit Composition


	September 30, 2020				December 31, 2019				September 30, 2019
(in thousands)	Amount		% of Total		Amount		% of Total		Amount		% of Total
Noninterest-bearing demand	$	1,135,384	30	%	$	819,055	28	%	$	782,968	30	%
Money market and interest-bearing demand	1,432,667		39	%	1,241,642		42	%	1,079,233		42	%
Savings	480,745		13	%	343,199		11	%	329,122		13	%
Time	664,012		18	%	550,557		19	%	393,124		15	%
Total deposits	$	3,712,808	100	%	$	2,954,453	100	%	$	2,584,447	100	%
Brokered transaction accounts	$	35,975	1	%	$	48,497	1	%	$	38,078	1	%
Brokered and listed time deposits	290,827		8	%	111,694		4	%	15,450		1	%
Total brokered deposits	$	326,802	9	%	$	160,191	5	%	$	53,528	2	%
Customer transaction accounts	$	3,012,821	81	%	$	2,355,399	80	%	$	2,153,245	83	%
Customer time deposits	373,185		10	%	438,863		15	%	377,674		15	%
Total customer deposits (core)	$	3,386,006	91	%	$	2,794,262	95	%	$	2,530,919	98	%

Lending-Related Commitments

As of September 30, 2020 and December 31, 2019, Nicolet had the following off-balance sheet lending-related commitments.

Table 10: Commitments


(in thousands)	September 30, 2020		December 31, 2019
Commitments to extend credit	$	976,506	$	773,555
Financial standby letters of credit	7,871		10,730
Performance standby letters of credit	9,672		8,469

Interest rate lock commitments to originate residential mortgage loans held for sale (included above in commitments to extend credit) and forward commitments to sell residential mortgage loans held for sale are considered derivative instruments (“mortgage derivatives”) and represented $132 million and $78 million, respectively, at September 30, 2020. In comparison, interest rate lock commitments to originate residential mortgage loans held for sale and forward commitments to sell residential mortgage loans held for sale represented $43 million and $16 million, respectively, at December 31, 2019. The net fair value of these mortgage derivatives combined was a loss of $186,000 at September 30, 2020 compared to a gain of $79,000 at December 31, 2019.

Liquidity Management

Liquidity management refers to the ability to ensure that cash is available in a timely and cost-effective manner to meet cash flow requirements of depositors and borrowers and to meet other commitments as they fall due, including the ability to service debt, invest in subsidiaries, repurchase common stock, pay dividends to shareholders (if any), and satisfy other operating requirements.

Given the stable core customer deposit base, fairly consistent patterns of activity in the core deposit base (including extra growth in core deposits during the pandemic as previously discussed), and the minimal use of capacity available in numerous non-core funding sources, Nicolet's liquidity levels and resources have been sufficient to fund loans, accommodate deposit trends and cycles, and to meet other cash needs as necessary. In early March-April 2020, in response to the emerging crisis, management initiated preparatory actions to further increase on-balance sheet liquidity, and brokered deposits of approximately $200 million were procured, increasing liquid cash. These actions were initiated prior to the passing of the CARES Act. In addition to the on-balance sheet liquidity build, remaining liquidity facilities continue to provide capacity and flexibility in an uncertain time.

Funds are available from a number of basic banking activity sources including, but not limited to, the core deposit base; repayment and maturity of loans; investment securities calls, maturities, and sales; and procurement of additional brokered deposits or other wholesale funding. All securities AFS and equity securities (included in other investments) are reported at fair

value on the consolidated balance sheet. At September 30, 2020, approximately 27% of the $535 million securities AFS portfolio was pledged to secure public deposits and short-term borrowings, as applicable, and for other purposes as required by law. Additional funding sources at September 30, 2020, consist of $175 million of available and unused Federal funds lines, available borrowing capacity at the FHLB of $160 million, and borrowing capacity in the brokered deposit market.

In consideration of the funds availability for the Bank and the current high levels of cash in a very low interest rate environment, management has taken prudent pricing actions on deposits and loans, as well as actions to reduce non-deposit funding. Brokered deposits have matured without renewal and selected FHLB advances were paid early. In addition, management intends to fully repay the PPPLF funding before the end of 2020, given ample levels of all other funding combined.

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. Dividends from the Bank and, to a lesser extent, stock option exercises, represent significant sources of cash flows for the parent Company. Among others, additional cash sources available to the parent Company include access to the public or private markets to issue new equity, subordinated debt or other debt. The parent Company uses cash for normal expenses, debt service requirements, and when opportune, for common stock repurchases, repayment of debt, or investment in other strategic actions such as mergers or acquisitions. Based on this evaluation, the Company is in the process of the early redemption of its higher-costing fixed rate subordinated Notes ($12 million at 5%) and one issuance of fixed rate junior subordinated debentures ($6 million at 8%), expected to be completed before the end of 2020. At September 30, 2020, the parent Company had $49 million in cash.

Cash and cash equivalents at September 30, 2020 and December 31, 2019 were $854 million and $182 million, respectively. The increase in cash and cash equivalents since year-end 2019 was largely attributable to the significant increase in deposits, influenced by government stimulus payments and the evolving pandemic crisis, which reduced spending and increased liquidity of consumers and businesses in these uncertain times, and PPP loan proceeds retained on deposit by corporate borrowers, as well as our own liquidity actions in March-April. Management believes its liquidity resources were sufficient as of September 30, 2020 to fund loans, accommodate deposit cycles and trends, and to meet other cash needs as necessary in these unsettled times.

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.

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 earlier and reflect the changed interest rate environment in response to the current crisis. 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 at September 30, 2020 and December 31, 2019, the projected changes in net interest income over a one-year time horizon, versus the baseline, are presented in Table 11 below. The results are within Nicolet’s guidelines of not greater than -10% for +/- 100 bps and not greater than -15% for +/- 200 bps and given the relatively short nature of the Company's balance sheet, reflect a largely unchanged risk position as expected.

Table 11: Interest Rate Sensitivity


	September 30, 2020		December 31, 2019
200 bps decrease in interest rates	—	%	(1.8)	%
100 bps decrease in interest rates	(0.2)	%	(1.0)	%
100 bps increase in interest rates	2.1	%	0.8	%
200 bps increase in interest rates	4.1	%	1.7	%

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.

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 and actively reviews capital strategies 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 shareholder return. For details on the change in capital see “BALANCE SHEET ANALYSIS.”

The Company’s and the Bank’s regulatory capital ratios remain above minimum regulatory ratios, including the capital conservation buffer. At September 30, 2020, 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 environment and in strategic growth. A summary of Nicolet’s and the Bank’s regulatory capital amounts and ratios, as well as selected capital metrics are presented in the following table.

Table 12: Capital


	At or for the Nine Months Ended			At or for the Year Ended
($ in thousands)	September 30, 2020			December 31, 2019
Company Stock Repurchases: *
Common stock repurchased during the period (dollars)	$	27,635		$	18,701
Common stock repurchased during the period (full shares)	441,747			310,781
Company Risk-Based Capital:
Total risk-based capital	$	419,248		$	404,573
Tier 1 risk-based capital	388,980			378,608
Common equity Tier 1 capital	358,393			348,454
Total capital ratio	13.4		%	13.4		%
Tier 1 capital ratio	12.4		%	12.6		%
Common equity tier 1 capital ratio	11.5		%	11.6		%
Tier 1 leverage ratio	9.5		%	11.9		%
Bank Risk-Based Capital:
Total risk-based capital	$	360,074		$	323,432
Tier 1 risk-based capital	339,406			309,460
Common equity Tier 1 capital	339,406			309,460
Total capital ratio	11.5		%	10.8		%
Tier 1 capital ratio	10.9		%	10.3		%
Common equity tier 1 capital ratio	10.9		%	10.3		%
Tier 1 leverage ratio	8.3		%	9.8		%
* Reflects common stock repurchased under board of director authorizations for the common stock repurchase program.

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. Based on this evaluation, the Company is in the process of the early redemption of certain capital-equivalent debt, including its

higher-costing fixed rate subordinated Notes ($12 million at 5%) and its fixed rate junior subordinated debentures ($6 million at 8%), expected to be completed before the end of 2020. These early redemptions are expected to reduce the Company's Tier 1 risk-based capital by $6 million and Total risk-based capital by $16 million. The redemptions will have no impact on the Bank's risk-based capital.

The Company resumed its share repurchase program in late July given current conditions, market opportunities and financial performance of the Company. On August 18, 2020, Nicolet's board authorized an increase to the program of $20 million or up to 325,000 shares of common stock. As a result, at September 30, 2020, there remained $13.4 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.

Critical Accounting Policies

In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates. Estimates that are particularly susceptible to significant change include the valuation of loan acquisition transactions, as well as the determination of the allowance for credit losses and income taxes. A discussion of these policies can be found in the “Critical Accounting Policies” section in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in the Company’s 2019 Annual Report on Form 10-K. There have been no changes in the Company’s determination of critical accounting policies since December 31, 2019. See also Note 1, “Basis of Presentation” of the Notes to Unaudited Consolidated Financial Statements under Part I, Item 1, for changes to the Company's accounting policies on loans and the allowance for credit losses due to the adoption of CECL.

Future Accounting Pronouncements

Recent accounting pronouncements adopted are included in Note 1, “Basis of Presentation” of the Notes to Unaudited Consolidated Financial Statements within Part I, Item 1.

In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. This ASU provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. It provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. The updated guidance is effective for all entities as of March 12, 2020 through December 31, 2022. The Company continues to evaluate the impact of reference rate reform on its consolidated financial statements.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

See section “Interest Rate Sensitivity Management and Impact of Inflation” within Management’s Discussion and Analysis of Financial Condition and Results of Operations under Part I, Item 2.

ITEM 4. CONTROLS AND PROCEDURES

As of the end of the period covered by this report, management, under the supervision, and with the participation, of our Chairman, President and Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act pursuant to Exchange Act Rule 13a-15). Based upon, and as of the date of such evaluation, the Chairman, President and Chief Executive Officer and the Chief Financial Officer concluded that our disclosure controls and procedures were effective.

There have been no changes in the Company’s internal controls or, to the Company’s knowledge, in other factors during the quarter covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

We and our subsidiaries may be involved from time to time in various routine legal proceedings incidental to our respective businesses. Neither we nor any of our subsidiaries are currently engaged in any legal proceedings that are expected to have a material adverse effect on our results of operations or financial position.

ITEM 1A. RISK FACTORS

There have been no material changes in the risk factors previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, except as disclosed below.

The recent global coronavirus outbreak could harm business and results of operations for Nicolet.

In December 2019, a coronavirus (COVID-19) was reported in China, and has since spread to additional countries including the United States. In March 2020, the World Health Organization declared the coronavirus to be a pandemic. Given the ongoing and dynamic nature of the circumstances, it is difficult to predict the impact of the coronavirus pandemic on the businesses of Nicolet and on its customers, and there is no guarantee that efforts by Nicolet to address the adverse impacts of the coronavirus will be effective. The impact to date has included periods of significant volatility in financial, commodities and other markets. This volatility, if it continues, could have an adverse impact on Nicolet’s customers and on Nicolet’s business, financial condition and results of operations. Nicolet may also incur additional costs to remedy damages caused by business disruptions.

In addition, recent actions by U.S. federal, state and foreign governments to address the pandemic, including travel bans and school, business and entertainment venue closures, may also have a significant adverse effect on the markets in which Nicolet conducts its businesses. The extent of impacts resulting from the coronavirus pandemic and other events beyond the control of Nicolet will depend on future developments, which are highly uncertain and cannot be predicted, including new information which may emerge concerning the severity of the coronavirus pandemic and actions taken to contain the coronavirus or its impact, among others.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Following are Nicolet’s monthly common stock purchases during the third quarter of 2020.


	Total Number of Shares Purchased (a)	Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs (b)
	(#)	($)		(#)	(#)
Period
July 1 – July 31, 2020	27,571	$	56.67	27,571	314,600
August 1 – August 31, 2020	78,752	$	59.16	78,752	560,900
September 1 – September 30, 2020	128,666	$	58.41	128,591	432,200
Total	234,989	$	58.45	234,914	432,200

(a)During third quarter 2020, the Company repurchased 75 common shares for minimum tax withholding settlements on restricted stock and no common shares were repurchased to satisfy the exercise price and / or tax withholding requirements of stock options. These purchases do not count against the maximum number of shares that may yet be purchased under the board of directors' authorization.

(b)During third quarter 2020, Nicolet utilized $13.7 million to repurchase and cancel approximately 235,000 shares of common stock pursuant to our common stock repurchase program. On August 18, 2020, Nicolet's board authorized an increase to the program of $20 million or up to 325,000 shares of common stock. As a result, at September 30, 2020, approximately $13.4 million remained available under this common stock repurchase program.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS

The following exhibits are filed herewith:


Exhibit Number						Description
31.1						Certification of CEO under Section 302 of Sarbanes-Oxley Act of 2002
31.2						Certification of CFO under Section 302 of Sarbanes-Oxley Act of 2002
32.1						Certification of CEO Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of Sarbanes-Oxley Act of 2002
32.2						Certification of CFO Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of Sarbanes-Oxley Act of 2002
101.INS						The XBRL Instance Document does not appear in the Interactive Date File because its XBRL tags are embedded within the Inline XBRL document (1)
101.SCH						Inline XBRL Taxonomy Extension Schema Document
101.CAL						Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF						Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB						Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE						Inline XBRL Taxonomy Extension Presentation Linkbase Document
104						Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)

(1) Includes the following financial information included in the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2020, formatted in iXBRL (Inline eXtensible Business Reporting Language): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statements of Stockholders' Equity, (v) the Consolidated Statements of Cash Flows, and (vi) Notes to Unaudited Consolidated Financial Statements.

SIGNATURES

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


			NICOLET BANKSHARES, INC.

October 30, 2020			/s/ Robert B. Atwell
			Robert B. Atwell
			Chairman, President and Chief Executive Officer

October 30, 2020			/s/ Ann K. Lawson
			Ann K. Lawson
			Chief Financial Officer

Nicolet Bankshares - 10-Q quarterly report FY2020 Q3

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			PAGE
PART I	FINANCIAL INFORMATION

	Item 1.	Financial Statements:

		Consolidated Balance Sheets	3

		Consolidated Statements of Income	4

		Consolidated Statements of Comprehensive Income	5

		Consolidated Statements of Stockholders’ Equity	6

		Consolidated Statements of Cash Flows	7

		Notes to Unaudited Consolidated Financial Statements	8

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	27

	Item 3.	Quantitative and Qualitative Disclosures About Market Risk	46

	Item 4.	Controls and Procedures	46

PART II	OTHER INFORMATION

	Item 1.	Legal Proceedings	47

	Item 1A.	Risk Factors	47

	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	47

	Item 3.	Defaults Upon Senior Securities	47

	Item 4.	Mine Safety Disclosures	47

	Item 5.	Other Information	48

	Item 6.	Exhibits	48

		Signatures	49