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, 2021~~March 31, 2022


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

For the transition period from ___________ to ___________

Commission file number: 0-12668

Hills Bancorporation


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

131 MAIN STREET, HILLS, Iowa 52235

Telephone number: (319) 679-2291

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


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

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

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

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


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

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

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

Index

APPLICABLE ONLY TO CORPORATE ISSUERS:

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


		SHARES OUTSTANDING
CLASS		~~October 31, 2021~~April 30, 2022

Common Stock	No par value	~~9,302,242~~9,275,988

Index

HILLS BANCORPORATION

Index to Form 10-Q

Part I

FINANCIAL INFORMATION


		Page
		Number

Item 1.	Financial Statements

	Consolidated balance sheets, ~~September~~ ~~30, 2021~~March 31, 2022 (unaudited) and December 31, ~~2020~~2021	4
	Consolidated statements of income (unaudited) for three ~~and~~ ~~nine~~months ended ~~September~~ ~~30,~~March 31, 2022 and 2021 ~~and 2020~~	5
	Consolidated statements of comprehensive income (loss) (unaudited) for three ~~and~~ ~~nine~~months ended ~~September~~ ~~30,~~March 31, 2022 and 2021 ~~and 2020~~	6
	Consolidated statements of stockholders' equity (unaudited) for three ~~and~~ ~~nin~~e months ended ~~September~~ ~~30,~~March 31, 2022 and 2021 ~~and 2020~~	7
	Consolidated statements of cash flows (unaudited) for ~~nine~~three months ended ~~September~~ ~~30,~~March 31, 2022 and 2021 ~~and 2020~~	98
	Notes to consolidated financial statements (condensed)	1110

Item 2.	Management Discussion and Analysis of Financial Condition and Results of Operations	5250

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	7164

Item 4.	Controls and Procedures	7164

	Part II
	OTHER INFORMATION

Item 1.	Legal proceedings	7265

Item 1A.	Risk factors	7265

Item 2.	Unregistered sales of equity securities and use of proceeds	7366

Item 3.	Defaults upon senior securities	7467

Item 4.	Mine safety disclosures	7467

Item 5.	Other information	7467

Item 6.	Exhibits	7568

	Signatures	7669

Page 3

Index

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


		September 30, 2021		December 31, 2020			March 31, 2022		December 31, 2021
ASSETS	ASSETS	(Unaudited)				ASSETS	(Unaudited)
Cash and cash equivalents	Cash and cash equivalents	$	869,098	$	574,310	Cash and cash equivalents	$	718,938	$	781,918
Investment securities available for sale at fair value (amortized cost September 30, 2021 $495,580; December 31, 2020 $396,670)		501,265		408,372
Investment securities available for sale at fair value (amortized cost March 31, 2022 $715,565; December 31, 2021 $549,386)						Investment securities available for sale at fair value (amortized cost March 31, 2022 $715,565; December 31, 2021 $549,386)	687,769		551,354
Stock of Federal Home Loan Bank	Stock of Federal Home Loan Bank	8,746		8,172		Stock of Federal Home Loan Bank	4,862		4,546
Loans held for sale	Loans held for sale	10,738		43,947		Loans held for sale	4,704		5,716
Loans, net of allowance for credit losses September 30, 2021 $35,590; net of allowance for loan losses December 31, 2020 $37,070		2,619,198		2,674,012
Loans, net of allowance for credit losses March 31, 2022 $35,850; December 31, 2021 $35,470						Loans, net of allowance for credit losses March 31, 2022 $35,850; December 31, 2021 $35,470	2,651,942		2,625,062
Property and equipment, net	Property and equipment, net	34,740		35,878		Property and equipment, net	33,753		34,290
Tax credit real estate investment	Tax credit real estate investment	10,620		7,273		Tax credit real estate investment	9,882		9,815
Accrued interest receivable	Accrued interest receivable	12,432		12,177		Accrued interest receivable	12,946		11,437
Deferred income taxes, net	Deferred income taxes, net	8,431		6,088		Deferred income taxes, net	16,822		9,125
Goodwill	Goodwill	2,500		2,500		Goodwill	2,500		2,500
Other assets	Other assets	8,317		7,882		Other assets	8,736		8,799
Total Assets	Total Assets	$	4,086,085	$	3,780,611	Total Assets	$	4,152,854	$	4,044,562

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

Liabilities	Liabilities					Liabilities
Noninterest-bearing deposits	Noninterest-bearing deposits	$	581,011	$	532,190	Noninterest-bearing deposits	$	625,522	$	633,101
Interest-bearing deposits	Interest-bearing deposits	2,887,248		2,660,378		Interest-bearing deposits	3,036,062		2,900,893
Total deposits	Total deposits	$	3,468,259	$	3,192,568	Total deposits	$	3,661,584	$	3,533,994
Other borrowings						Other borrowings	—		249

Federal Home Loan Bank borrowings		105,000		105,000
Accrued interest payable	Accrued interest payable	1,255		1,733		Accrued interest payable	1,084		1,165
Allowance for credit losses on off-balance sheet credit exposures	Allowance for credit losses on off-balance sheet credit exposures	4,580		—		Allowance for credit losses on off-balance sheet credit exposures	4,690		3,850
Other liabilities	Other liabilities	21,856		17,905		Other liabilities	19,396		16,841
Total Liabilities	Total Liabilities	$	3,600,950	$	3,317,206	Total Liabilities	$	3,686,754	$	3,556,099

Redeemable Common Stock Held by Employee Stock Ownership Plan (ESOP)	Redeemable Common Stock Held by Employee Stock Ownership Plan (ESOP)	$	48,831	$	47,329	Redeemable Common Stock Held by Employee Stock Ownership Plan (ESOP)	$	51,939	$	50,013

STOCKHOLDERS' EQUITY	STOCKHOLDERS' EQUITY					STOCKHOLDERS' EQUITY
Common stock, no par value; authorized 20,000,000 shares; issued September 30, 2021 10,329,937 shares; December 31, 2020 10,330,242 shares		$	—	$	—
Common stock, no par value; authorized 20,000,000 shares; issued March 31, 2022 10,331,681 shares; December 31, 2021 10,329,493 shares						Common stock, no par value; authorized 20,000,000 shares; issued March 31, 2022 10,331,681 shares; December 31, 2021 10,329,493 shares	$	—	$	—
Paid in capital	Paid in capital	61,078		60,233		Paid in capital	61,334		60,938
Retained earnings	Retained earnings	468,239		439,831		Retained earnings	475,739		474,392
Accumulated other comprehensive income		4,267		8,782
Treasury stock at cost (September 30, 2021 1,042,426 shares; December 31, 2020 999,247 shares)		(48,449)		(45,441)
Accumulated other comprehensive (loss) income						Accumulated other comprehensive (loss) income	(20,861)		1,477
Treasury stock at cost March 31, 2022 1,054,536 shares; December 31, 2021 1,029,853 shares)						Treasury stock at cost March 31, 2022 1,054,536 shares; December 31, 2021 1,029,853 shares)	(50,112)		(48,344)
Total Stockholders' Equity	Total Stockholders' Equity	$	485,135	$	463,405	Total Stockholders' Equity	$	466,100	$	488,463
Less maximum cash obligation related to ESOP shares	Less maximum cash obligation related to ESOP shares	48,831		47,329		Less maximum cash obligation related to ESOP shares	51,939		50,013
Total Stockholders' Equity Less Maximum Cash Obligation Related to ESOP Shares	Total Stockholders' Equity Less Maximum Cash Obligation Related to ESOP Shares	$	436,304	$	416,076	Total Stockholders' Equity Less Maximum Cash Obligation Related to ESOP Shares	$	414,161	$	438,450
Total Liabilities & Stockholders' Equity	Total Liabilities & Stockholders' Equity	$	4,086,085	$	3,780,611	Total Liabilities & Stockholders' Equity	$	4,152,854	$	4,044,562

See Notes to Consolidated Financial Statements.

Page 4

Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF INCOME (Unaudited)

(Amounts In Thousands, Except Per Share Amounts)


		Three Months Ended September 30,				Nine Months Ended September 30,				Three Months Ended March 31,
		2021		2020		2021		2020				2022		2021
Interest income:	Interest income:										Interest income:
Loans, including fees	Loans, including fees	$	29,004	$	29,750	$	86,956	$	89,975		Loans, including fees	$	25,765	$	29,200
Investment securities:	Investment securities:										Investment securities:
Taxable	Taxable	940		889		2,629		2,656			Taxable	1,132		818
Nontaxable	Nontaxable	963		933		2,880		2,941			Nontaxable	1,004		945
Federal funds sold	Federal funds sold	289		103		652		801			Federal funds sold	335		164
Total interest income	Total interest income	$	31,196	$	31,675	$	93,117	$	96,373		Total interest income	$	28,236	$	31,127
Interest expense:	Interest expense:										Interest expense:
Deposits	Deposits	$	3,414	$	5,077	$	11,416	$	16,854		Deposits	$	3,056	$	4,153
FHLB borrowings	FHLB borrowings	758		1,388		2,248		4,118			FHLB borrowings	—		741
Total interest expense	Total interest expense	$	4,172	$	6,465	$	13,664	$	20,972		Total interest expense	$	3,056	$	4,894
Net interest income	Net interest income	$	27,024	$	25,210	$	79,453	$	75,401		Net interest income	$	25,180	$	26,233
Provision for credit losses (2021); Provision for loan losses (2020)		82		(157)		(4,561)		4,500
Credit loss expense (benefit)											Credit loss expense (benefit)	1,104		(2,984)

Net interest income after credit loss expense and provision for loan losses		$	26,942	$	25,367	$	84,014	$	70,901
Net interest income after credit loss expense (benefit)											Net interest income after credit loss expense (benefit)	$	24,076	$	29,217
Noninterest income:	Noninterest income:										Noninterest income:
Net gain on sale of loans	Net gain on sale of loans	$	1,512	$	2,303	$	6,243	$	4,859		Net gain on sale of loans	$	811	$	3,003
Trust fees	Trust fees	3,568		2,494		9,645		7,450			Trust fees	3,268		3,013
Service charges and fees	Service charges and fees	3,075		2,636		8,729		7,427			Service charges and fees	2,880		2,540
Other noninterest income	Other noninterest income	89		77		647		462			Other noninterest income	518		482
Gain on sale of investment securities		—		—		—		10

		$	8,244	$	7,510	$	25,264	$	20,208			$	7,477	$	9,038

Noninterest expenses:	Noninterest expenses:										Noninterest expenses:
Salaries and employee benefits	Salaries and employee benefits	$	10,281	$	10,108	$	31,484	$	29,818		Salaries and employee benefits	$	10,396	$	10,564
Occupancy	Occupancy	955		1,067		3,135		3,248			Occupancy	1,132		1,138
Furniture and equipment	Furniture and equipment	1,652		2,028		5,523		5,778			Furniture and equipment	1,697		1,983
Office supplies and postage	Office supplies and postage	428		425		1,268		1,333			Office supplies and postage	484		454
Advertising and business development	Advertising and business development	496		340		1,480		1,479			Advertising and business development	730		535
Outside services	Outside services	3,496		2,818		9,781		8,020			Outside services	2,950		3,188

FDIC insurance assessment	FDIC insurance assessment	267		223		777		617			FDIC insurance assessment	281		258
Other noninterest expense	Other noninterest expense	623		1,046		1,668		1,861			Other noninterest expense	405		579
		$	18,198	$	18,055	$	55,116	$	52,154			$	18,075	$	18,699
Income before income taxes	Income before income taxes	$	16,988	$	14,822	$	54,162	$	38,955		Income before income taxes	$	13,478	$	19,556
Income taxes	Income taxes	3,863		3,392		12,230		8,739			Income taxes	2,826		4,359
Net income	Net income	$	13,125	$	11,430	$	41,932	$	30,216		Net income	$	10,652	$	15,197

Earnings per share:	Earnings per share:										Earnings per share:
Basic	Basic	$	1.41	$	1.22	$	4.50	$	3.22		Basic	$	1.15	$	1.63
Diluted	Diluted	$	1.41	$	1.22	$	4.50	$	3.22		Diluted	$	1.15	$	1.63

See Notes to Consolidated Financial Statements.

Page 5

Index

HILLS BANCORPORATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Unaudited) (Amounts In Thousands)

Three Months Ended September 30, Nine Months Ended
September 30,
2021 2020 2021 2020
Net income $ 13,125 $ 11,430 $ 41,932 $ 30,216
Other comprehensive (loss) income
Securities:
Net change in unrealized (loss) income on securities available for sale $ (1,510) $ (84) $ (6,017) $ 8,220
Reclassification adjustment for net gains realized in net income — — — (10)
Income taxes 377 21 1,502 (2,049)
Other comprehensive (loss) income on securities available for sale $ (1,133) $ (63) $ (4,515) $ 6,161
Derivatives used in cash flow hedging relationships:
Net change in unrealized gain (loss) on derivatives $ — $ 364 $ — $ (726)
Income taxes — (91) — 181
Other comprehensive income (loss) on cash flow hedges $ — $ 273 $ — $ (545)
Other comprehensive (loss) income, net of tax $ (1,133) $ 210 $ (4,515) $ 5,616
Comprehensive income $ 11,992 $ 11,640 $ 37,417 $ 35,832


	Three Months Ended March 31,
		2022		2021
Net income		$	10,652	$	15,197

Other comprehensive loss
Securities:
Net change in unrealized loss on securities available for sale		$	(29,764)	$	(3,702)

Income taxes		7,426		924
Other comprehensive loss on securities available for sale		$	(22,338)	$	(2,778)





Other comprehensive loss, net of tax		$	(22,338)	$	(2,778)

Comprehensive (loss) income		$	(11,686)	$	12,419

See Notes to Consolidated Financial Statements.

Page 6

Index

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

Three Months Ended September 30, 2021 and 2020
Paid in Capital Retained Earnings Accumulated Other Comprehensive Income (Loss) Treasury Stock Maximum Cash Obligation Related to ESOP Shares Total
Balance, June 30, 2020 $ 60,043 $ 419,971 $ 6,821 $ (42,787) $ (45,329) $ 398,719
Issuance of 13,120 shares of common stock 458 — — 351 — 809
Issuance of 1,861 shares of common stock under the employee stock purchase plan 104 — — — — 104
Unearned restricted stock compensation (474) — — — — (474)
Forfeiture of 3,188 shares of common stock (166) — — — — (166)
Share-based compensation 7 — — — — 7
Change related to ESOP shares — — — — (1,566) (1,566)
Net income — 11,430 — — — 11,430
Purchase of 29,807 shares of common stock — — — (1,814) — (1,814)
Other comprehensive income — — 210 — — 210
Balance, September 30, 2020 $ 59,972 $ 431,401 $ 7,031 $ (44,250) $ (46,895) $ 407,259
Balance, June 30, 2021 $ 60,776 $ 455,114 $ 5,400 $ (47,187) $ (48,726) $ 425,377
Issuance of 1,204 shares of common stock 48 — — 32 — 80
Issuance of 1,725 shares of common stock under the employee stock purchase plan 100 — — — — 100
Unearned restricted stock compensation 273 — — — — 273
Forfeiture of 2,114 shares of common stock (125) — — — — (125)
Share-based compensation 6 — — — — 6
Change related to ESOP shares — — — — (105) (105)
Net income — 13,125 — — — 13,125
Purchase of 19,556 shares of common stock — — — (1,294) — (1,294)
Other comprehensive loss — — (1,133) — — (1,133)
Balance, September 30, 2021 $ 61,078 $ 468,239 $ 4,267 $ (48,449) $ (48,831) $ 436,304

~~Page 7~~

~~Index~~


Nine Months Ended September 30, 2021 and 2020
Three Months Ended March 31, 2022 and 2021														Three Months Ended March 31, 2022 and 2021
		Paid in Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Treasury Stock		Maximum Cash Obligation Related to ESOP Shares		Total			Paid in Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Treasury Stock		Maximum Cash Obligation Related to ESOP Shares		Total
Balance, December 31, 2019		$	55,943	$	409,509	$	1,415	$	(39,830)	$	(51,826)	$	375,211
Issuance of 105,542 shares of common stock		4,005		—		—		2,810		—		6,815
Issuance of 5,430 shares of common stock under the employee stock purchase plan		304		—		—		—		—		304
Balance, December 31, 2020														Balance, December 31, 2020	$	60,233	$	439,831	$	8,782	$	(45,441)	$	(47,329)	$	416,076
Cumulative change in accounting principle (Note 1)														Cumulative change in accounting principle (Note 1)	—		(4,751)		—		—		—		(4,751)
Balance, January 1, 2021 (as adjusted for change in accounting principle)														Balance, January 1, 2021 (as adjusted for change in accounting principle)	60,233		435,080		8,782		(45,441)		(47,329)		411,325
Issuance of 657 shares of common stock														Issuance of 657 shares of common stock	24		—		—		17		—		41
Issuance of 2,018 shares of common stock under the employee stock purchase plan														Issuance of 2,018 shares of common stock under the employee stock purchase plan	114		—		—		—		—		114
Unearned restricted stock compensation	Unearned restricted stock compensation	(81)		—		—		—		—		(81)		Unearned restricted stock compensation	251		—		—		—		—		251
Forfeiture of 4,211 shares of common stock		(218)		—		—		—		—		(218)
Forfeiture of 300 shares of common stock														Forfeiture of 300 shares of common stock	(17)		—		—		—		—		(17)
Share-based compensation														Share-based compensation	6		—		—		—		—		6
Change related to ESOP shares														Change related to ESOP shares	—		—		—		—		(805)		(805)
Net income														Net income	—		15,197		—		—		—		15,197
Cash dividends ($0.94 per share)														Cash dividends ($0.94 per share)	—		(8,773)		—		—		—		(8,773)

Purchase of 20,852 shares of common stock														Purchase of 20,852 shares of common stock	—		—		—		(1,311)		—		(1,311)
Other comprehensive income														Other comprehensive income	—		—		(2,778)		—		—		(2,778)
Balance, March 31, 2021														Balance, March 31, 2021	$	60,611	$	441,504	$	6,004	$	(46,735)	$	(48,134)	$	413,250

Balance, December 31, 2021														Balance, December 31, 2021	$	60,938	$	474,392	$	1,477	$	(48,344)	$	(50,013)	$	438,450
Issuance of 5,339 shares of common stock														Issuance of 5,339 shares of common stock	189		—		—		48		—		237
Issuance of 1,797 shares of common stock under the employee stock purchase plan														Issuance of 1,797 shares of common stock under the employee stock purchase plan	110		—		—		—		—		110
Unearned restricted stock compensation														Unearned restricted stock compensation	266		—		—		—		—		266
Forfeiture of 3,219 shares of common stock														Forfeiture of 3,219 shares of common stock	(175)		—		—		—		—		(175)
Share-based compensation	Share-based compensation	19		—		—		—		—		19		Share-based compensation	6		—		—		—		—		6

Change related to ESOP shares	Change related to ESOP shares	—		—		—		—		4,931		4,931		Change related to ESOP shares	—		—		—		—		(1,926)		(1,926)
Net income	Net income	—		30,216		—		—		—		30,216		Net income	—		10,652		—		—		—		10,652
Cash dividends ($0.89 per share)		—		(8,324)		—		—		—		(8,324)
Cash dividends ($1.00 per share)														Cash dividends ($1.00 per share)	—		(9,305)		—		—		—		(9,305)

Purchase of 112,407 shares of common stock		—		—		—		(7,230)		—		(7,230)
Other comprehensive income		—		—		5,616		—		—		5,616
Balance, September 30, 2020		$	59,972	$	431,401	$	7,031	$	(44,250)	$	(46,895)	$	407,259
Purchase of 26,412 shares of common stock														Purchase of 26,412 shares of common stock	—		—		—		(1,816)		—		(1,816)
Other comprehensive loss														Other comprehensive loss	—		—		(22,338)		—		—		(22,338)

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

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

Purchase of 49,136 shares of common stock		—		—		—		(3,167)		—		(3,167)
Other comprehensive loss		—		—		(4,515)		—		—		(4,515)
Balance, September 30, 2021		$	61,078	$	468,239	$	4,267	$	(48,449)	$	(48,831)	$	436,304
Balance, March 31, 2022														Balance, March 31, 2022	$	61,334	$	475,739	$	(20,861)	$	(50,112)	$	(51,939)	$	414,161

See Notes to Consolidated Financial Statements.

Page 87

Index

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


		Nine Months Ended September 30,					Three Months Ended March 31,
		2021		2020			2022		2021
Cash Flows from Operating Activities	Cash Flows from Operating Activities					Cash Flows from Operating Activities
Net income	Net income	$	41,932	$	30,216	Net income	$	10,652	$	15,197
Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:	Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:					Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:
Depreciation	Depreciation	2,325		2,623		Depreciation	696		808
Provision for credit losses (2021) and loan losses (2020)		(4,561)		4,500
Credit loss expense (benefit)						Credit loss expense (benefit)	1,104		(2,984)

Net gain on sale of investment securities available for sale		—		(10)

Forfeiture of common stock	Forfeiture of common stock	(321)		(218)		Forfeiture of common stock	(175)		(17)
Share-based compensation	Share-based compensation	18		19		Share-based compensation	6		6
Compensation expensed through issuance of common stock	Compensation expensed through issuance of common stock	384		971		Compensation expensed through issuance of common stock	118		41
Provision for deferred income taxes	Provision for deferred income taxes	738		(865)		Provision for deferred income taxes	(271)		676
Net gain on sale of other real estate owned and other repossessed assets	Net gain on sale of other real estate owned and other repossessed assets	(25)		—		Net gain on sale of other real estate owned and other repossessed assets	—		(7)
Increase in accrued interest receivable	Increase in accrued interest receivable	(255)		(1,289)		Increase in accrued interest receivable	(1,509)		(357)
Amortization of premium on investment securities, net	Amortization of premium on investment securities, net	872		555		Amortization of premium on investment securities, net	302		264
(Increase) decrease in other assets		(683)		1,320
Decrease in other assets						Decrease in other assets	5		3
Amortization of operating lease right-of-use assets	Amortization of operating lease right-of-use assets	298		91		Amortization of operating lease right-of-use assets	105		106
Increase (decrease) in accrued interest payable and other liabilities		5,072		(1,590)
Increase in accrued interest payable and other liabilities						Increase in accrued interest payable and other liabilities	2,693		2,587

Loans originated for sale	Loans originated for sale	(356,975)		(359,531)		Loans originated for sale	(47,760)		(128,289)
Proceeds on sales of loans	Proceeds on sales of loans	396,427		344,810		Proceeds on sales of loans	49,583		155,665
Net gain on sales of loans	Net gain on sales of loans	(6,243)		(4,859)		Net gain on sales of loans	(811)		(3,003)
Net cash and cash equivalents provided by operating activities	Net cash and cash equivalents provided by operating activities	$	79,003	$	16,743	Net cash and cash equivalents provided by operating activities	$	14,738	$	40,696

Cash Flows from Investing Activities	Cash Flows from Investing Activities					Cash Flows from Investing Activities
Proceeds from maturities of investment securities available for sale	Proceeds from maturities of investment securities available for sale	$	76,242	$	64,096	Proceeds from maturities of investment securities available for sale	$	18,494	$	15,256
Proceeds from sales of investment securities available for sale		—		313

Purchases of investment securities available for sale	Purchases of investment securities available for sale	(176,023)		(76,694)		Purchases of investment securities available for sale	(184,975)		(45,139)
Purchases of stock of Federal Home Loan Bank	Purchases of stock of Federal Home Loan Bank	(574)		(310)		Purchases of stock of Federal Home Loan Bank	(316)		—
Loans made to customers, net of collections	Loans made to customers, net of collections	56,533		(129,294)		Loans made to customers, net of collections	(27,144)		29,675
Proceeds on sale of other real estate owned and other repossessed assets	Proceeds on sale of other real estate owned and other repossessed assets	70		—		Proceeds on sale of other real estate owned and other repossessed assets	—		52
Purchases of property and equipment	Purchases of property and equipment	(1,187)		(1,025)		Purchases of property and equipment	(159)		(195)
Investment in tax credit real estate	Investment in tax credit real estate	(4,183)		—		Investment in tax credit real estate	—		(4,183)
Net changes from tax credit real estate investment	Net changes from tax credit real estate investment	836		1,120		Net changes from tax credit real estate investment	(67)		172
Net cash and cash equivalents used in investing activities	Net cash and cash equivalents used in investing activities	$	(48,286)	$	(141,794)	Net cash and cash equivalents used in investing activities	$	(194,167)	$	(4,362)

Cash Flows from Financing Activities	Cash Flows from Financing Activities					Cash Flows from Financing Activities
Net increase in deposits	Net increase in deposits	$	275,691	$	453,187	Net increase in deposits	$	127,590	$	218,762
Net increase in other borrowings		—		43
Issuance of common stock, net of costs		—		5,844
Net decrease in short-term borrowings						Net decrease in short-term borrowings	(249)		—

Stock options exercised						Stock options exercised	119		—

Purchase of treasury stock		(3,167)		(7,230)
Purchase of common stock						Purchase of common stock	(1,816)		(1,311)
Proceeds from the issuance of common stock through the employee stock purchase plan	Proceeds from the issuance of common stock through the employee stock purchase plan	320		304		Proceeds from the issuance of common stock through the employee stock purchase plan	110		114
Dividends paid	Dividends paid	(8,773)		(8,324)		Dividends paid	(9,305)		(8,773)
Net cash and cash equivalents provided by financing activities	Net cash and cash equivalents provided by financing activities	$	264,071	$	443,824	Net cash and cash equivalents provided by financing activities	$	116,449	$	208,792

(Continued)

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


		Nine Months Ended September 30,					Three Months Ended March 31,
		2021		2020			2022		2021
Increase in cash and cash equivalents		$	294,788	$	318,773
(Decrease) increase in cash and cash equivalents						(Decrease) increase in cash and cash equivalents	$	(62,980)	$	245,126
Cash and cash equivalents:	Cash and cash equivalents:					Cash and cash equivalents:
Beginning of period	Beginning of period	574,310		241,965		Beginning of period	781,918		574,310
End of period	End of period	$	869,098	$	560,738	End of period	$	718,938	$	819,436

Supplemental Disclosures	Supplemental Disclosures					Supplemental Disclosures
Cash payments for:	Cash payments for:					Cash payments for:
Interest paid to depositors	Interest paid to depositors	$	11,894	$	17,130	Interest paid to depositors	$	3,137	$	4,394
Interest paid on other obligations	Interest paid on other obligations	2,248		4,118		Interest paid on other obligations	—		741
Income taxes paid	Income taxes paid	6,073		7,329		Income taxes paid	—		—

Noncash activities:	Noncash activities:					Noncash activities:
Increase/(decrease) in maximum cash obligation related to ESOP shares		$	1,502	$	(4,931)
Transfers to other real estate owned		96		—
Increase in maximum cash obligation related to ESOP shares						Increase in maximum cash obligation related to ESOP shares	$	1,926	$	805

Right-of-use assets obtained in exchange for operating lease obligations						Right-of-use assets obtained in exchange for operating lease obligations	47		—

See Notes to Consolidated Financial Statements.

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 1.Summary of Significant Accounting Policies

Basis of Presentation:

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

Operating results for the ~~nine~~three month period ended ~~September 30, 2021~~March 31, 2022 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, ~~2021.~~2022. For further information, refer to the consolidated financial statements and footnotes thereto included in the Form 10-K Annual Report of Hills Bancorporation and subsidiary (the “Company”) for the year ended December 31, ~~2020~~2021 filed with the Securities Exchange Commission on March ~~5, 2021.~~4, 2022. The consolidated balance sheet as of December 31, ~~2020,~~2021, has been derived from the audited consolidated financial statements for that period.

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

Accounting Estimates:

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

Certain Significant Estimates:

The allowance for credit losses, ~~and loan losses,~~ fair values of securities and other financial instruments, and share-based compensation expense involve certain significant estimates made by management. These estimates are reviewed by management routinely and it is reasonably possible that circumstances that exist at ~~September 30, 2021~~March 31, 2022 may change in the near-term and the effect could be material to the consolidated financial statements. Actual amounts and values as of the balance sheet dates may be materially different than the amounts and values reported due to the inherent uncertainty in the estimation process.

Revenue Recognition:

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

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

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

Page 1110

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

A contract asset balance occurs when an entity performs a service for a customer before the customer pays consideration (resulting in a contract receivable) or before payment is due (resulting in a contract asset). A contract liability balance is an entity's obligation to transfer a service to a customer for which the entity has already received payment (or payment is due) from the customer. As of ~~September 30, 2021,~~March 31, 2022, the Company did not have any significant contract balances.

An entity is required to capitalize, and subsequently amortize into expense, certain incremental costs of obtaining a contract with a customer if these costs are expected to be recovered. The incremental costs of obtaining a contract are those costs that an entity incurs to obtain a contract with a customer that it would not have incurred if the contract had not been obtained (for example, sales commission). The Company utilizes the practical expedient which allows entities to immediately expense contract acquisition costs when the asset that would have resulted from capitalizing these costs would have been amortized in one year or less. The Company has not incurred or capitalized any contract acquisition costs as of ~~September 30, 2021.~~March 31, 2022.

Tax Credit Real Estate:

Tax credit real estate represents 3 multi-family rental properties, 3 assisted living rental properties, a multi-tenant rental property for persons with disabilities, and a multi-family senior living rental property, all of which are affordable housing projects as of ~~September 30, 2021.~~March 31, 2022. The Bank has a 99% or greater limited partnership interest in each limited partnership. The investment in each was completed after the projects had been developed by the general partner. ~~The~~On a regular basis, the Company evaluates ~~the~~ recoverability of the carrying value onof the tax credit real estate investments to determine if an allowance for credit losses is necessary. The allowance for credit losses is measured by a ~~regular basis. If~~comparison of the ~~recoverability was determined~~carrying amount of the investments to the future undiscounted cash flows expected to be ~~in doubt, a valuation~~generated by the investment properties, including the low-income housing tax credits and any estimated proceeds from eventual disposition. If there is an indication of impairment, the allowance for credit losses would be established ~~by way of~~with a charge to credit loss expense. There were no indications of impairment based on management's evaluation and therefore no allowance for credit losses was determined necessary as of March 31, 2022. Depreciation expense is provided on a straight-line basis over the estimated useful life of the assets. Expenditures for normal repairs and maintenance are charged to expense as incurred.

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

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

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

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

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

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~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

retained earnings of $4.75 million as of January 1, 2021 for the cumulative effect of adopting ASC 326, which includes deferred taxes of $1.58 million. The transition adjustment includes a $2.75 million increase to the Allowance for Credit Losses On Loans and the recording of a $3.58 million Allowance for Credit Losses on OBS Credit Exposures.

Page 11

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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


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

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

~~Available-For-Sale Debt Securities~~Available-for-sale debt securities and the ~~Allowance For Credit Losses On Available-For-Sale Debt Securities~~allowance for credit losses on available-for-sale debt securities: ~~Debt~~Available-for-sale ("AFS") securities ~~that we might~~consist of debt securities not ~~hold until maturity are~~ classified as ~~available for sale ("AFS")~~trading or held to maturity. Available-for-sale securities are stated at fair value, and unrealized holding gains and losses, net of the related deferred tax effect, are reported ~~at the fair value in the balance sheet.~~as a separate component of stockholders' equity. There were no trading or held to maturity securities as of March 31, 2022 or 2021. Fair value measurement is based upon quoted market prices in active markets, if available. If quoted prices in active markets are not available, fair value is measured using pricing models or other model-based valuation techniques such as present value of future cash flows, which consider prepayment assumptions and other factors such as credit losses and market liquidity. Unrealized gains and losses are excluded from earnings and reported, net of tax, in other comprehensive income ("OCI"). ~~Purchase premiums~~Premiums on debt securities are amortized to the earliest call date and discounts on debt securities are ~~recognized in interest income using the effective interest method~~accreted over the ~~life~~period to maturity of ~~the~~those securities. The method of amortization results in a constant effective yield on those securities (the interest method). Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

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

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

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

Accrued interest receivable on AFS debt securities totaled ~~$2.18~~$2.63 million at ~~September 30, 2021~~March 31, 2022 and is excluded from the estimate of credit losses.

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

~~Page 13~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

~~Loans Held for Sale~~sale: Loans held for sale are stated at the lower of aggregate cost or estimated fair value. Loans are sold on a non-recourse basis with servicing released and gains and losses are recognized based on the difference between sales proceeds and the carrying value of the loan. The Company has had very few experiences of repurchasing loans previously sold into the

Page 12

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

secondary market. A specific reserve was not considered necessary based on the Company’s historical experience with repurchase activity.

Loans ~~Held For Investment~~held for investment: Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at amortized cost net of the allowance for credit ~~losses.~~losses ("ACL"). Amortized cost is the principal balance outstanding, net of deferred loan fees and costs. Accrued interest receivable on loans held for investment totaled ~~$10.13~~$10.32 million at ~~September 30, 2021~~March 31, 2022 and is excluded from the estimate of credit losses. Interest income is accrued on the unpaid principal balance. Nonrefundable loan fees and origination costs are deferred and recognized as a yield adjustment over the life of the related loan.

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

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

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

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

The policy for charging off loans is consistent throughout all loan categories. A loan is ~~accounted for~~charged off based on criteria that includes but is not limited to: delinquency status, financial condition of the entire customer credit line and ~~reported as a troubled debt restructuring ("TDR") when, for~~underlying collateral coverage, economic or external conditions that might impact full repayment of the loan, legal ~~reasons, we grant a concession~~issues, overdrafts, and the customer’s willingness to a borrower experiencing financial difficulty that we would not otherwise consider. These concessions may include rate reductions, principal forgiveness, extension of maturity date and other actions intended to minimize potential losses towork with the Company. A restructuring that results in only an insignificant delay in payment is not considered a concession. A delay may be considered insignificant if the payments subject to the delay are insignificant relative to the unpaid principal or collateral value and the contractual amount due, or the delay in timing of the restructured payment period is insignificant relative to the frequency of payments, the debt's original contractual maturity or original expected duration.

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

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

~~Page 14~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

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

The loan loss estimation process involves procedures to appropriately consider the unique characteristics of loan portfolio segments which consist of agricultural, 1 to 4 family first and junior liens, commercial, and consumer lending. These segments are further disaggregated into loan classes, the level at which credit risk is monitored. ~~When computing allowance levels, credit~~For each of these pools, the Company generates cash flow projections at the instrument level wherein payment expectations are adjusted for estimated prepayment speed, curtailments, time to recovery, probability of default, and loss ~~assumptions~~given default. The modeling of expected prepayment speeds, curtailment rates, and time to recovery are ~~estimated using a model that categorizes loan pools~~ based on loss history, delinquency status and other credit trends and risk characteristics, including current conditions and reasonable and supportable forecasts about the future. The key components in this estimation process include the following:

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

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

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

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

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

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

Agricultural - Agricultural operating loans include loans made to finance agricultural production and other loans to farmers and farming operations. Agricultural loans also include mortgage loans secured by farmland. Agricultural operating loans, most of which are secured by crops and machinery, are provided to finance capital improvement and farm operations as well as acquisitions of livestock and machinery. The ability of the borrower to repay may be affected by many factors outside of the borrower’s control including adverse weather conditions, loss of livestock due to disease or other factors, declines in market prices for agricultural products and the impact of government regulations. The ultimate repayment of agricultural operating loans is dependent upon the profitable operation or management of the agricultural entity. Agricultural operating loans generally have a term of one year and may have a fixed or variable rate.

Mortgage loans secured by farmland are made to individuals and businesses within the Company's trade area. The primary source of repayment is the cash flow generated by the collateral underlying the loan. The secondary repayment source would be the liquidation of the collateral. Terms for real estate loans secured by farmland range from one to ten years with an amortization period of 25 years or less. Generally, interest rates are fixed for mortgage loans secured by farmland. Key economic forecasts used in estimating expected credit losses for this segment include the Iowa unemployment rate and the ~~national~~Iowa real gross domestic product (GDP).

Page 13

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

~~Page 15~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

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

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

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

~~Credit Loss Measurement~~: The allowance level is influenced by loan volumes, loan credit quality indicator migration or delinquency status, historic loss experience and other conditions influencing loss expectations, such as reasonable and supportable forecasts of economic conditions. The methodology for estimating the amount of expected credit losses reported in the allowance for credit losses has two basic components: first, a pooled component for estimated expected credit losses for pools of loans that share similar risk characteristics; and second, an asset-specific component involving individual loans that do not share risk characteristics with other loans and the measurement of expected credit losses for such individual ~~loans; and second,~~loans. Depending on the nature of the pool of financial assets with similar risk characteristics, the Company uses a ~~pooled component for estimated~~discounted cash flow method or remaining life method to estimate expected credit ~~losses for pools of loans that share similar risk characteristics.~~losses.

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

flow method

The fair value of collateral used by the Company is determined by obtaining an observable market price or by obtaining an appraised value from an independent, licensed or certified appraiser, using observable market data. This data includes information such as selling price of similar properties and capitalization rates of similar properties sold within the market, expected future cash flows or earnings of the subject property based on current market expectations, and other relevant factors.

~~Page 16~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

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

Page 14

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

concentrations of credit, and changes in the level of such concentrations and the effect of external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in the existing portfolio. Such factors are used to adjust the historical probabilities of default and severity of loss so that they reflect management expectation of future conditions based on a reasonable and supportable forecast. ~~To the extent the lives~~The Company uses regression analysis of historical internal and peer data to determine which variables are best suited to be economic variables utilized when modeling lifetime probability of default and loss given default. This analysis also determines how expected probability of default and loss given default will react to forecasted levels of the ~~loans in the portfolio extend beyond the period for which~~economic variables.

For all DCF models, management has determined that four quarters represents a reasonable and supportable forecast ~~can be made, the bank reduces,~~period and reverts back to a historical loss rate over twelve quarters on a straight-line ~~basis over~~basis. Other internal and external indicators of economic forecasts are also considered by management when developing the ~~remaining life of the loans, the adjustments so that model reverts back to the historical rates of default and severity of loss.~~forecast metrics.

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

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

The Company’s estimate of the ACL reflects losses expected over the contractual life of the assets, adjusted for estimated prepayments or curtailments. The contractual term does not consider extensions, renewals or modifications unless the Company has identified an expected troubled debt restructure (TDR). A loan that has been modified or renewed is considered a TDR when two conditions are met: 1) the borrower is experiencing financial difficulty and 2) concessions are made for the borrower's benefit that would not otherwise be considered for a borrower or transaction with similar credit risk characteristics. The Company’s ACL reflects all effects of a TDR when an individual asset is specifically identified as a reasonably expected TDR. The Company has determined that a TDR is reasonably expected no later than the point when the lender concludes that modification is the best course of action and it is at least reasonably possible that the troubled borrower will accept some form of concession from the lender to avoid a default. Reasonably expected TDRs and executed non-performing TDRs are evaluated individually to determine the required ACL. TDRs performing in accordance with their modified contractual terms for a reasonable period of time may be included in the Company’s existing pools based on the underlying risk characteristics of the loan to measure the ACL.

Allowance for ~~Credit Losses~~credit losses on ~~Off-Balance Sheet Credit Exposures, Including Unfunded Loan Commitments~~off-balance sheet credit exposures, including unfunded loan commitments:: The Company maintains a separate allowance for credit losses from off-balance-sheet credit exposures, including unfunded loan commitments, which is disclosed on the balance sheet. Management estimates the amount of expected losses by calculating a commitment usage factor over the contractual period for exposures that are not unconditionally cancellable by the Company and applying the loss factors used in the ~~allowance for loan loss~~ACL methodology to the results of the usage calculation to estimate the liability for credit losses related to unfunded commitments for each loan type. No credit loss estimate is reported for ~~off-~~

~~Page 17~~

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~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

Troubled debt restructurings (“TDR loans”): A loan is accounted for and reported as a troubled debt restructuring ("TDR") when, for economic or legal reasons, we grant a concession to a borrower experiencing financial difficulty that we would not otherwise consider. These concessions may include rate reductions, principal forgiveness, extension of maturity date and other actions intended to minimize potential losses to the Company. A restructuring that results in only an insignificant delay in

Page 15

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

payment is not considered a concession. A delay may be considered insignificant if the payments subject to the delay are insignificant relative to the unpaid principal or collateral value and the contractual amount due, or the delay in timing of the restructured payment period is insignificant relative to the frequency of payments, the debt's original contractual maturity or original expected duration.

TDRs that are performing and on accrual status as of the date of the modification remain on accrual status. TDRs that are nonperforming as of the date of modification generally remain as nonaccrual until the prospect of future payments in accordance with the modified loan agreement is reasonably assured, generally demonstrated when the borrower maintains compliance with the restructured terms for a predetermined period, normally at least six months. TDRs with temporary below-market concessions remain designated as a TDR regardless of the accrual or performance status until the loan is paid off. However, if the TDR loan has been modified in a subsequent restructure with market terms and the borrower is not currently experiencing financial difficulty, then the loan is no longer classified as a TDR in the quarter following the modification. Management evaluates loans where there is a reasonable expectation at the reporting date that a troubled debt restructuring will be executed with an individual borrower for purposes of estimating the allowance for credit losses.

Section 4013 of the CARES Act, “Temporary Relief From Troubled Debt Restructurings,” allows financial institutions the option to temporarily suspend certain requirements under GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. Under Section 4013 of the CARES Act, loan modifications that qualify for such suspension are those where the borrower was not more than 30 days past due as of December 31, 2019. In addition, the loan modification being made in response to the COVID-19 pandemic must include a deferral or delay in the payment of principal or interest, or change in the interest rate on the loan. Borrowers considered current are those that are less than 30 days past due on their contractual payments at the time a modification program is implemented. The relief related to TDRs expired on January 1, 2022. See Note 5 for further discussion.

Effect of New Financial Accounting Standards:

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

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

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

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

In May 2021, the FASB issued ASU 2021-04, Earnings Per Share (Topic 260), Debt-Modifications and Extinguishments (Subtopic 470-50), Compensation-Stock Compensation (Topic 718), and Derivatives and Hedging-Contracts in Entity's Own Equity (Subtopic 815-40), Issuer's Accounting for Certain Modifications or Exchanges of Freestanding Equity-Classified Written Call Options. The amendments in this ASU affect entities that issue freestanding written call options that are classified in equity. Specifically, the amendments affect those entities when a freestanding equity-classified written call option is modified or exchanged and remains equity classified after the modification or exchange. An entity should recognize the effect of a modification or an exchange of a freestanding equity-classified written call option to compensate for goods or services in accordance with the guidance in Topic 718, Compensation-Stock Compensation. The amendments in this ASU are effective for all entities for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years. An entity should apply the amendments prospectively to modifications or exchanges occurring on or after the effective date of the amendments. The adoption of the ASU by the Company on January 1, 2022 did not have a material impact on the financial statements.

In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 815) Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The amendments in this Update require that an entity (acquirer) recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with Topic 606. At the acquisition date, an acquirer should account for the related revenue contracts in accordance with Topic 606 as if it had originated the contracts. To achieve this, an acquirer may assess how the acquiree applied Topic 606 to determine what to record for the acquired revenue contracts. The amendments in this ASU are effective for all entities for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. An entity should apply the amendments prospectively to business combinations occurring on or after the effective date of the amendments. The Company is in the process of evaluating the impact of this ASU on the financial statements.

In March 2022, the FASB issued ASU 2022-02, Financial Instruments - Credit Losses (Topic 326)

Troubled Debt Restructurings and Vintage Disclosures

. The FASB issued these amendments to eliminate accounting guidance for TDRs by creditors in Subtopic 310-40,

Receivables-Troubled Debt Restructurings by Creditors

, while enhancing disclosure requirements for certain loan refinancings and restructurings by creditors when a borrower is experiencing financial difficulty, and to require that an entity disclose current-period gross writeoffs by year of origination for financing receivables and net investments in leases within the scope of Subtopic 326-20,

Financial Instruments-Credit Losses-Measured at Amortized Cost

. The amendments in this Update are effective for fiscal years beginning after December 15, 2022, including interim periods within

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(Unaudited)

those fiscal years, and should be applied prospectively, except as provided in the next sentence. For the transition method related to the recognition and measurement of TDRs, an entity has the option to apply a modified retrospective transition method, resulting in a cumulative-effect adjustment to retained earnings in the period of adoption. Early adoption is permitted if an entity has adopted the amendments in Update 2016-03, including adoption in an interim period. The Company is in the process of evaluating the impact of this ASU on the financial statements.

Note 2.Earnings Per Share

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

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


		Three Months Ended September 30,				Nine Months Ended September 30,						Three Months Ended March 31,
		2021		2020			2021		2020				2022		2021
Common shares outstanding at the beginning of the period	Common shares outstanding at the beginning of the period	9,306,252		9,364,062			9,330,995		9,351,694		Common shares outstanding at the beginning of the period		9,299,640		9,330,995
Weighted average number of net shares (redeemed) issued	Weighted average number of net shares (redeemed) issued	(7,539)		(7,765)			(21,234)		28,137		Weighted average number of net shares (redeemed) issued		(9,053)		(7,222)
Weighted average shares outstanding (basic)	Weighted average shares outstanding (basic)	9,298,713		9,356,297			9,309,761		9,379,831		Weighted average shares outstanding (basic)		9,290,587		9,323,773
Weighted average of potential dilutive shares attributable to stock options granted, computed under the treasury stock method	Weighted average of potential dilutive shares attributable to stock options granted, computed under the treasury stock method	3,731		3,592			3,605		3,673		Weighted average of potential dilutive shares attributable to stock options granted, computed under the treasury stock method		3,194		3,480
Weighted average number of shares (diluted)	Weighted average number of shares (diluted)	9,302,444		9,359,889			9,313,366		9,383,504		Weighted average number of shares (diluted)		9,293,781		9,327,253
Net income (In thousands)	Net income (In thousands)	$	13,125	$	11,430		$	41,932	$	30,216	Net income (In thousands)		$	10,652	$	15,197
Earnings per share:	Earnings per share:										Earnings per share:
Basic	Basic	$	1.41	$	1.22		$	4.50	$	3.22	Basic		$	1.15	$	1.63
Diluted	Diluted	$	1.41	$	1.22		$	4.50	$	3.22	Diluted		$	1.15	$	1.63

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Note 3.Accumulated Other Comprehensive Income

The following table summarizes the balances of each component of accumulated other comprehensive (loss) income (AOCI), included in stockholders’ equity, at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020:~~2021:


		September 30, 2021		December 31, 2020			March 31, 2022		December 31, 2021
		(amounts in thousands)					(amounts in thousands)
Net unrealized gain on available-for-sale securities		$	5,685	$	11,702
Net unrealized (loss) gain on available-for-sale securities						Net unrealized (loss) gain on available-for-sale securities	$	(27,796)	$	1,968

Tax effect	Tax effect	(1,418)		(2,920)		Tax effect	6,935		(491)
Net-of-tax amount	Net-of-tax amount	$	4,267	$	8,782	Net-of-tax amount	$	(20,861)	$	1,477

Note 4.Securities

The carrying values of investment securities at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 are summarized in the following table (dollars in thousands):


		September 30, 2021				December 31, 2020					March 31, 2022				December 31, 2021
		Amount		Percent		Amount		Percent			Amount		Percent		Amount		Percent
Securities available for sale	Securities available for sale									Securities available for sale
U.S. Treasury	U.S. Treasury	$	221,414	44.17	%	$	148,646	36.40	%	U.S. Treasury	$	360,449	52.41	%	$	243,925	44.24	%
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	34,891		6.96		35,160		8.61		Other securities (FHLB, FHLMC and FNMA)	32,865		4.78		34,467		6.25
State and political subdivisions	State and political subdivisions	235,207		46.92		224,566		54.99		State and political subdivisions	245,172		35.65		263,516		47.80
Mortgage-backed securities and collateralized mortgage obligations	Mortgage-backed securities and collateralized mortgage obligations	9,753		1.95		—		—		Mortgage-backed securities and collateralized mortgage obligations	49,283		7.16		9,446		1.71
Total securities available for sale	Total securities available for sale	$	501,265	100.00	%	$	408,372	100.00	%	Total securities available for sale	$	687,769	100.00	%	$	551,354	100.00	%

Investment securities have been classified in the consolidated balance sheets according to management’s intent. Available-for-sale securities consist of debt securities not classified as trading or held to maturity. Available-for-sale securities are stated at fair value, and unrealized holding gains and losses, net of the related deferred tax effect, are reported as a separate component of stockholders' equity. Municipal bonds are comprised of general obligation bonds and revenue bonds issued by various municipal corporations. As of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, all securities held were rated investment grade based upon external ratings where available and, where not available, based upon management knowledge of the local issuers and their financial situations. There were no trading or held to maturity securities as of ~~September 30, 2021~~March 31, 2022 or December 31, ~~2020.~~2021.

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(Unaudited)

The carrying amount of available-for-sale securities, fair values and allowance for credit losses were as follows as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 (in thousands):


		Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)		Allowance for Credit Losses		Estimated Fair Value			Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)		Allowance for Credit Losses		Estimated Fair Value
September 30, 2021
March 31, 2022												March 31, 2022
U.S. Treasury	U.S. Treasury	$	219,281	$	3,065	$	(932)	$	—	$	221,414	U.S. Treasury	$	371,515	$	354	$	(11,420)	$	—	$	360,449
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	35,377		—		(486)		—		34,891		Other securities (FHLB, FHLMC and FNMA)	35,328		—		(2,463)		—		32,865
State and political subdivisions	State and political subdivisions	231,120		5,160		(1,073)		—		235,207		State and political subdivisions	257,241		502		(12,571)		—		245,172
Mortgage-backed securities and collateralized mortgage obligations	Mortgage-backed securities and collateralized mortgage obligations	9,802		—		(49)		—		$	9,753	Mortgage-backed securities and collateralized mortgage obligations	51,481		—		(2,198)		—		$	49,283
Total	Total	$	495,580	$	8,225	$	(2,540)	$	—	$	501,265	Total	$	715,565	$	856	$	(28,652)	$	—	$	687,769
December 31, 2020:
December 31, 2021:												December 31, 2021:
U.S. Treasury	U.S. Treasury	$	143,467	$	5,179	$	—	$	—	$	148,646	U.S. Treasury	$	244,192	$	2,011	$	(2,278)	$	—	$	243,925
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	35,195		35		(70)		—		35,160		Other securities (FHLB, FHLMC and FNMA)	35,353		—		(886)		—		34,467
State and political subdivisions	State and political subdivisions	218,008		6,674		(116)		—		224,566		State and political subdivisions	260,266		4,420		(1,170)		—		263,516
Mortgage-backed securities and collateralized mortgage obligations												Mortgage-backed securities and collateralized mortgage obligations	9,575		—		(129)		—		9,446
Total	Total	$	396,670	$	11,888	$	(186)	$	—	$	408,372	Total	$	549,386	$	6,431	$	(4,463)	$	—	$	551,354

The amortized cost and estimated fair value of available-for-sale securities classified according to their contractual maturities at ~~September 30, 2021,~~March 31, 2022, were as follows (in thousands) below. Expected maturities of MBS may differ from contractual maturities because the mortgages underlying the securities may be called or prepaid without any penalties. Therefore, these securities are not included in the maturity categories in the following summary.


		Amortized Cost		Fair Value			Amortized Cost		Fair Value
Due in one year or less	Due in one year or less	$	51,863	$	52,206	Due in one year or less	$	74,647	$	74,734
Due after one year through five years	Due after one year through five years	270,805		273,962		Due after one year through five years	440,843		427,454
Due after five years through ten years	Due after five years through ten years	118,465		120,965		Due after five years through ten years	109,517		103,584
Due over ten years	Due over ten years	44,645		44,379		Due over ten years	39,077		32,714
		$	485,778	$	491,512		$	664,084	$	638,486
Mortgage-backed securities and collateralized mortgage obligations	Mortgage-backed securities and collateralized mortgage obligations	9,802		9,753		Mortgage-backed securities and collateralized mortgage obligations	51,481		49,283
		$	495,580	$	501,265		$	715,565	$	687,769

As of ~~September 30, 2021~~March 31, 2022, investment securities with a carrying value of ~~$10.14~~$9.54 million were pledged to collateralize other borrowings. As of ~~September 30, 2021,~~March 31, 2022, there were no holdings of securities of any one issuer, other than the U.S. government and its agencies, in an amount greater than 10% of stockholders' equity.

There were no sales of available-for-sale securities for the three months ended ~~September 30, 2021~~March 31, 2022 and ~~2020. Sales proceeds and gross realized gains and losses on available-for-sale securities were as follows for the nine months ended September 30, 2021 and 2020 (in thousands):~~2021.


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

Page 2119

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The following table shows the fair value, gross unrealized losses and the percentage of fair value represented by gross unrealized losses of applicable investment securities owned by the Company, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 (in thousands):


		Less than 12 months							12 months or more							Total											Less than 12 months											12 months or more											Total
September 30, 2021 Description of Securities		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss				%
March 31, 2022 Description of Securities																					March 31, 2022 Description of Securities	#				Fair Value		Unrealized Loss			%			#			Fair Value		Unrealized Loss			%			#			Fair Value		Unrealized Loss			%
U.S. Treasury	U.S. Treasury	41	$	103,163	$	(932)	0.90	%	—	$	—	$	—	—	%	41	$	103,163	$	(932)			0.90	%	U.S. Treasury		101		$	288,928		$	(9,977)		3.45	%		9		$	21,431		$	(1,443)		6.73	%		110		$	310,359		$	(11,420)	3.68	%

Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	8	20,059		(265)		1.32		6	14,832		(221)		1.49		14	34,891		(486)				1.39		Other securities (FHLB, FHLMC and FNMA)		—		—			—			—			14		32,865			(2,463)			7.49			14		32,865			(2,463)		7.49

State and political subdivisions	State and political subdivisions	189	65,805		(1,038)		1.58		10	1,915		(35)		1.83		199	67,720		(1,073)				1.58		State and political subdivisions		523		165,019			(11,330)			6.87			29		12,751			(1,241)			9.73			552		177,770			(12,571)		7.07

Mortgage-backed securities and collateralized mortgage obligations	Mortgage-backed securities and collateralized mortgage obligations	4	9,753		(49)		0.50		—	—		—		—		4	9,753		(49)				0.50		Mortgage-backed securities and collateralized mortgage obligations		14		41,797			(2,198)			5.26			—		—			—			—			14		41,797			(2,198)		5.26

Total temporarily impaired securities	Total temporarily impaired securities	242	$	198,780	$	(2,284)	1.15	%	16	$	16,747	$	(256)	1.53	%	258	$	215,527	$	(2,540)			1.18	%	Total temporarily impaired securities		638		$	495,744		$	(23,505)		4.74	%		52		$	67,047		$	(5,147)		7.68	%		690		$	562,791		$	(28,652)	5.09	%


		Less than 12 months							12 months or more							Total											Less than 12 months											12 months or more											Total
December 31, 2020 Description of Securities		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss		%		#	Fair Value		Unrealized Loss				%
December 31, 2021 Description of Securities																					December 31, 2021 Description of Securities	#				Fair Value		Unrealized Loss			%			#			Fair Value		Unrealized Loss			%			#			Fair Value		Unrealized Loss			%
U.S. Treasury	U.S. Treasury	—	$	—	$	—	—	%	—	$	—	$	—	—	%	—	$	—	$	—			—	%	U.S. Treasury		55		$	136,867		$	(2,203)		1.61	%		1		$	2,416		$	(75)		3.10	%		56		$	139,283		$	(2,278)	1.64	%

Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	8	20,019		(70)		0.35		—	—		—		—		8	20,019		(70)				0.35		Other securities (FHLB, FHLMC and FNMA)		5		12,484			(303)			2.43			9		21,984			(583)			2.65			14		34,468			(886)		2.57

State and political subdivisions	State and political subdivisions	35	14,168		(110)		0.78		4	370		(6)		1.62		39	14,538		(116)				0.80		State and political subdivisions		231		70,542			(1,055)			1.50			14		9,248			(115)			1.24			245		79,790			(1,170)		1.47

Mortgage-backed securities and collateralized mortgage obligations																					Mortgage-backed securities and collateralized mortgage obligations	4				9,446		(129)			1.37			—			—		—			—			4			9,446		(129)			1.37

Total temporarily impaired securities	Total temporarily impaired securities	43	$	34,187	$	(180)	0.53	%	4	$	370	$	(6)	1.62	%	47	$	34,557	$	(186)			0.54	%	Total temporarily impaired securities		295		$	229,339		$	(3,690)		1.61	%		24		$	33,648		$	(773)		2.30	%		319		$	262,987		$	(4,463)	1.70	%

The Company considered the following information in reaching the conclusion that the impairments disclosed in the table above are temporary and not other-than-temporary impairments. None of the unrealized losses in the above table was due to the deterioration in the credit quality of any of the issues that might result in the non-collection of contractual principal and interest. The unrealized losses are due to changes in interest rates. The Company has not recognized any unrealized loss in income because management does not have the intent to sell the securities included in the previous table. Management has concluded that it is more likely than not that the Company will not be required to sell these securities prior to recovery of the amortized cost basis. The securities are of high credit quality (investment grade credit ratings) and principal and interest payments are made timely with no payments past due as of ~~September 30, 2021.~~March 31, 2022. The fair value is expected to recover as the securities approach maturity. The U.S. Treasury and other securities are issued and guaranteed by U.S. government-sponsored entities and agencies. The mortgage-backed securities and collateralized mortgage obligations have implied U.S. government

Page 20

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

guarantees of the agency securities. The Company evaluates if a credit loss exists by monitoring to ensure it has adequate credit support considering the nature of the investment, number and significance of investments in an unrealized loss position, collectability or delinquency issues, the underlying financial statements of the issuers, credit ratings and subsequent changes thereto, and other available relevant information. Considering the above factors, ~~and total unrealized losses being insignificant~~

~~Page 22~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

~~as of September 30, 2021,~~ management has determined that no allowance for credit losses is necessary for the securities portfolio as of ~~September 30, 2021.~~March 31, 2022.

Note 5.Loans

Classes of loans are as follows:


		September 30, 2021		December 31, 2020			March 31, 2022		December 31, 2021
		(Amounts In Thousands)					(Amounts In Thousands)
Agricultural	Agricultural	$	94,210	$	94,842	Agricultural	$	104,900	$	106,933
Commercial and financial	Commercial and financial	228,181		286,242		Commercial and financial	223,702		222,002
Real estate:	Real estate:					Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	73,167		71,117		Construction, 1 to 4 family residential	87,390		80,486
Construction, land development and commercial	Construction, land development and commercial	118,623		111,913		Construction, land development and commercial	135,353		127,021
Mortgage, farmland	Mortgage, farmland	241,650		247,142		Mortgage, farmland	236,573		232,744
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	898,333		892,089		Mortgage, 1 to 4 family first liens	919,734		909,564
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	115,308		127,833		Mortgage, 1 to 4 family junior liens	111,278		114,342
Mortgage, multi-family	Mortgage, multi-family	389,805		374,014		Mortgage, multi-family	381,942		382,792
Mortgage, commercial	Mortgage, commercial	410,050		417,139		Mortgage, commercial	404,769		401,377
Loans to individuals	Loans to individuals	32,235		31,325		Loans to individuals	31,568		32,687
Obligations of state and political subdivisions	Obligations of state and political subdivisions	52,299		56,488		Obligations of state and political subdivisions	50,397		50,285
		$	2,653,861	$	2,710,144		$	2,687,606	$	2,660,233
Net unamortized fees and costs	Net unamortized fees and costs	927		938		Net unamortized fees and costs	186		299
		$	2,654,788	$	2,711,082		$	2,687,792	$	2,660,532
Less allowance for credit losses (2021) and loan losses (2020)		35,590		37,070
Less allowance for credit losses						Less allowance for credit losses	35,850		35,470
		$	2,619,198	$	2,674,012		$	2,651,942	$	2,625,062

As of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, the Company has outstanding balances of ~~$24.55~~$0.91 million and ~~$86.50~~$5.34 million, respectively, of loans issued under the Paycheck Protection Program (PPP). For the three months ended March 31, 2022 and ~~$0.33 million~~2021, the Company recognized none and ~~$2.12~~$1.88 million, respectively, of deferred PPP loan fees ~~recorded with commercial and financial loans. For the nine months ended September 30, 2021, the Company has recognized $5.48 million of deferred PPP loan fees~~ in interest income and has received total forgiveness payments of $160.48 million from the SBA. For the nine months ended September 30, 2020, there were $1.26 million PPP loan fees recognized and 0 forgiveness payments received from the SBA.

income.

Page 2321

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Changes in the allowance for credit losses, the allowance for credit losses applicable to individually evaluated loans and the related loan balance of individually evaluated loans for the three ~~and nine~~ months ended ~~September 30, 2021~~March 31, 2022 were as follows:


		Three Months Ended September 30, 2021																	Three Months Ended March 31, 2022
		Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total			Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
		(Amounts In Thousands)																	(Amounts In Thousands)
Allowance for credit losses:	Allowance for credit losses:																	Allowance for credit losses:
Beginning balance	Beginning balance	$	2,055	$	4,802	$	2,483	$	4,904	$	10,879	$	9,707	$	1,110	$	35,940	Beginning balance	$	2,261	$	4,269	$	2,300	$	3,433	$	11,498	$	10,498	$	1,211	$	35,470

Charge-offs	Charge-offs	—		(14)		—		—		(181)		(255)		(138)		(588)		Charge-offs	—		(48)		—		—		(140)		(1)		(150)		(339)
Recoveries	Recoveries	29		431		2		—		140		23		21		646		Recoveries	14		123		3		43		207		22		43		455
Credit loss expense		34		(871)		(188)		(241)		26		743		89		(408)

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

		Nine Months Ended September 30, 2021
		Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
		(Amounts In Thousands)
Allowance for credit losses:
Beginning balance, prior to adoption of ASC 326		$	2,508	$	4,885	$	2,319	$	4,173	$	12,368	$	9,415	$	1,402	$	37,070
Impact of adopting ASC 326		(328)		298		327		763		522		1,396		(232)		2,746
Charge-offs		—		(90)		(3)		(1)		(263)		(265)		(234)		(856)
Recoveries		117		966		93		25		648		240		98		2,187
Credit loss expense		(179)		(1,711)		(439)		(297)		(2,411)		(568)		48		(5,557)
Credit loss expense (benefit)																		Credit loss expense (benefit)	139		551		44		(166)		(127)		(285)		108		264

Ending balance	Ending balance	$	2,118	$	4,348	$	2,297	$	4,663	$	10,864	$	10,218	$	1,082	$	35,590	Ending balance	$	2,414	$	4,895	$	2,347	$	3,310	$	11,438	$	10,234	$	1,212	$	35,850

Ending balance, individually evaluated for credit losses	Ending balance, individually evaluated for credit losses	$	3	$	4	$	128	$	4	$	59	$	5	$	—	$	203	Ending balance, individually evaluated for credit losses	$	1	$	191	$	59	$	1	$	40	$	312	$	1	$	605

Ending balance, collectively evaluated for credit losses	Ending balance, collectively evaluated for credit losses	$	2,115	$	4,344	$	2,169	$	4,659	$	10,805	$	10,213	$	1,082	$	35,387	Ending balance, collectively evaluated for credit losses	$	2,413	$	4,704	$	2,288	$	3,309	$	11,398	$	9,922	$	1,211	$	35,245

Loans:	Loans:																	Loans:
Ending balance	Ending balance	$	94,210	$	228,181	$	191,790	$	241,650	$	1,013,641	$	799,855	$	84,534	$	2,653,861	Ending balance	$	104,900	$	223,702	$	222,743	$	236,573	$	1,031,012	$	786,711	$	81,965	$	2,687,606

Ending balance, individually evaluated for credit losses	Ending balance, individually evaluated for credit losses	$	1,426	$	1,394	$	1,028	$	1,583	$	5,566	$	5,758	$	—	$	16,755	Ending balance, individually evaluated for credit losses	$	581	$	1,981	$	1,040	$	1,276	$	5,582	$	5,154	$	159	$	15,773

Ending balance, collectively evaluated for credit losses	Ending balance, collectively evaluated for credit losses	$	92,784	$	226,787	$	190,762	$	240,067	$	1,008,075	$	794,097	$	84,534	$	2,637,106	Ending balance, collectively evaluated for credit losses	$	104,319	$	221,721	$	221,703	$	235,297	$	1,025,430	$	781,557	$	81,806	$	2,671,833

Page 2422

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Changes in the allowance for loan losses for the three ~~and nine~~ months ended ~~September 30, 2020~~March 31, 2021 were as follows:


		Three Months Ended September 30, 2020																	Three Months Ended March 31, 2021
		Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total			Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
		(Amounts In Thousands)																	(Amounts In Thousands)
Allowance for loan losses:	Allowance for loan losses:																	Allowance for loan losses:
Beginning balance		$	2,547	$	5,777	$	2,433	$	4,089	$	12,282	$	9,173	$	1,319	$	37,620
Beginning balance, prior to adoption of ASC 326																		Beginning balance, prior to adoption of ASC 326	$	2,508	$	4,885	$	2,319	$	4,173	$	12,368	$	9,415	$	1,402	$	37,070
Impact of adopting ASC 326																		Impact of adopting ASC 326	(328)		298		327		763		522		1,396		(232)		2,746
Charge-offs	Charge-offs	(8)		(478)		—		—		(115)		(210)		(63)		(874)		Charge-offs	—		(30)		—		—		(75)		—		(66)		(171)
Recoveries	Recoveries	26		165		27		—		201		10		42		471		Recoveries	32		234		34		—		239		139		37		715
Provision		30		(119)		(167)		(41)		(210)		320		30		(157)

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

		Nine Months Ended September 30, 2020
		Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
		(Amounts In Thousands)
Allowance for loan losses:
Beginning balance		$	2,400	$	4,988	$	2,599	$	3,950	$	10,638	$	7,859	$	1,326	$	33,760
Charge-offs		(43)		(1,253)		(43)		(1)		(576)		(290)		(276)		(2,482)
Recoveries		44		374		81		—		636		33		114		1,282
Provision		194		1,236		(344)		99		1,460		1,691		164		4,500
Credit loss expense (benefit)																		Credit loss expense (benefit)	(65)		(273)		(392)		(268)		(1,558)		(1,329)		145		(3,740)

Ending balance	Ending balance	$	2,595	$	5,345	$	2,293	$	4,048	$	12,158	$	9,293	$	1,328	$	37,060	Ending balance	$	2,147	$	5,114	$	2,288	$	4,668	$	11,496	$	9,621	$	1,286	$	36,620

Ending balance, individually evaluated for impairment	Ending balance, individually evaluated for impairment	$	80	$	477	$	87	$	1	$	86	$	—	$	14	$	745	Ending balance, individually evaluated for impairment	$	1	$	299	$	—	$	—	$	62	$	166	$	79	$	607

Ending balance, collectively evaluated for impairment	Ending balance, collectively evaluated for impairment	$	2,515	$	4,868	$	2,206	$	4,047	$	12,072	$	9,293	$	1,314	$	36,315	Ending balance, collectively evaluated for impairment	$	2,146	$	4,815	$	2,288	$	4,668	$	11,434	$	9,455	$	1,207	$	36,013

Loans:	Loans:																	Loans:

Ending balance	Ending balance	$	96,321	$	335,463	$	184,797	$	243,689	$	1,031,701	$	788,209	$	86,945	$	2,767,125	Ending balance	$	96,042	$	281,337	$	184,012	$	246,665	$	996,379	$	790,831	$	84,858	$	2,680,124

Ending balance, individually evaluated for impairment	Ending balance, individually evaluated for impairment	$	1,742	$	5,949	$	7,933	$	2,440	$	6,980	$	3,614	$	14	$	28,672	Ending balance, individually evaluated for impairment	$	1,387	$	1,947	$	521	$	1,916	$	7,338	$	6,145	$	79	$	19,333

Ending balance, collectively evaluated for impairment	Ending balance, collectively evaluated for impairment	$	94,579	$	329,514	$	176,864	$	241,249	$	1,024,721	$	784,595	$	86,931	$	2,738,453	Ending balance, collectively evaluated for impairment	$	94,655	$	279,390	$	183,491	$	244,749	$	989,041	$	784,686	$	84,779	$	2,660,791

Page 2523

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Changes in the allowance for credit losses for off-balance sheet credit exposures for the three ~~and nine~~ months ended ~~September 30, 2021~~March 31, 2022 were as follows:


		Three Months Ended September 30, 2021																	Three Months Ended March 31, 2022
		Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total			Agricultural		Commercial and Financial		Real Estate: Construction and land development		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family		Real Estate: Mortgage, multi- family and commercial		Other		Total
		(Amounts In Thousands)																	(Amounts In Thousands)
Allowance for credit losses for off-balance sheet credit exposures:	Allowance for credit losses for off-balance sheet credit exposures:																	Allowance for credit losses for off-balance sheet credit exposures:
Beginning balance	Beginning balance	$	494	$	1,529	$	864	$	107	$	791	$	275	$	30	$	4,090	Beginning balance	$	383	$	1,118	$	849	$	113	$	794	$	559	$	34	$	3,850

Credit loss expense		15		117		132		61		13		156		(4)		490
Credit loss expense (benefit)																		Credit loss expense (benefit)	130		302		277		(13)		131		34		(21)		840
(Charge-offs), net recoveries	(Charge-offs), net recoveries	—		—		—		—		—		—		—		—		(Charge-offs), net recoveries	—		—		—		—		—		—		—		—

Ending balance	Ending balance	$	509	$	1,646	$	996	$	168	$	804	$	431	$	26	$	4,580	Ending balance	$	513	$	1,420	$	1,126	$	100	$	925	$	593	$	13	$	4,690

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

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

Credit loss expense for off-balance sheet credit exposures is included in credit loss expense on the consolidated statement of income for the three ~~and nine~~ months ended ~~September 30,~~March 31, 2022 and 2021.

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

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The below are descriptions of the credit quality indicators:

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

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

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

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

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

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

The following tables present the credit quality indicators and origination years by type of loan in each category as of ~~September 30, 2021~~March 31, 2022 (amounts in thousands):


		Agricultural																	Agricultural
September 30, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
March 31, 2022																		March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	424	$	235	$	30	$	17	$	—	$	—	$	5,138	$	5,844	Excellent	$	603	$	327	$	254	$	77	$	7	$	—	$	3,147	$	4,415
Good	Good	999		1,912		634		75		58		30		4,923		8,631		Good	687		1,401		1,317		516		44		61		4,540		8,566
Satisfactory	Satisfactory	6,883		6,649		1,966		2,003		501		141		23,082		41,225		Satisfactory	5,221		9,284		3,785		1,389		1,667		349		23,079		44,774
Monitor	Monitor	5,535		4,762		1,073		630		171		312		17,887		30,370		Monitor	8,817		5,899		3,187		943		729		409		21,817		41,801
Special Mention	Special Mention	2,615		442		86		166		7		—		3,303		6,619		Special Mention	189		1,652		5		177		—		—		2,753		4,776
Substandard	Substandard	875		85		210		116		—		—		235		1,521		Substandard	—		213		53		102		—		—		200		568
Total	Total	$	17,331	$	14,085	$	3,999	$	3,007	$	737	$	483	$	54,568	$	94,210	Total	$	15,517	$	18,776	$	8,601	$	3,204	$	2,447	$	819	$	55,536	$	104,900


		Commercial and Financial																	Commercial and Financial
September 30, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
March 31, 2022																		March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	6,153	$	1,007	$	5	$	260	$	42	$	—	$	1,231	$	8,698	Excellent	$	446	$	893	$	645	$	4	$	235	$	19	$	3,733	$	5,975
Good	Good	9,514		9,687		2,381		1,135		382		1,921		19,170		44,190		Good	4,017		11,951		4,446		910		1,006		1,597		12,291		36,218
Satisfactory	Satisfactory	42,268		24,288		8,225		3,956		2,686		1,255		35,106		117,784		Satisfactory	14,016		38,285		17,383		6,670		3,228		1,883		43,972		125,437
Monitor	Monitor	20,191		11,791		3,938		1,438		450		520		11,371		49,699		Monitor	5,544		13,845		8,343		1,837		967		652		19,472		50,660
Special Mention	Special Mention	1,332		582		529		124		3		6		266		2,842		Special Mention	219		305		469		127		62		85		211		1,478
Substandard	Substandard	3,156		1,019		294		68		131		—		300		4,968		Substandard	1,316		450		—		89		—		91		1,988		3,934
Total	Total	$	82,614	$	48,374	$	15,372	$	6,981	$	3,694	$	3,702	$	67,444	$	228,181	Total	$	25,558	$	65,729	$	31,286	$	9,637	$	5,498	$	4,327	$	81,667	$	223,702

Page 26

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


	Real Estate: Construction, 1 to 4 Family Residential
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	—	$	—	$	—	$	—	$	2	$	2
Good	212		6,392		—		—		—		—		20,175		26,779
Satisfactory	1,070		7,775		—		—		—		—		40,258		49,103
Monitor	24		869		—		—		—		—		9,915		10,808
Special Mention	—		—		—		—		—		—		593		593
Substandard	—		105		—		—		—		—		—		105
Total	$	1,306	$	15,141	$	—	$	—	$	—	$	—	$	70,943	$	87,390


	Real Estate: Construction, Land Development and Commercial
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	5,079	$	—	$	—	$	—	$	142	$	—	$	5,221
Good	397		3,187		1,200		—		—		389		13,677		18,850
Satisfactory	4,234		18,360		3,030		1,556		260		970		50,683		79,093
Monitor	646		5,851		306		7		37		73		17,782		24,702
Special Mention	—		—		—		—		—		—		—		—
Substandard	7,000		191		295		—		—		—		1		7,487
Total	$	12,277	$	32,668	$	4,831	$	1,563	$	297	$	1,574	$	82,143	$	135,353


	Real Estate: Mortgage, Farmland
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	2,433	$	105	$	1,216	$	120	$	—	$	41	$	130	$	4,045
Good	12,731		14,659		8,210		1,701		1,636		6,096		5,421		50,454
Satisfactory	23,507		48,441		24,613		4,433		8,047		12,175		8,837		130,053
Monitor	18,502		8,079		6,555		4,099		685		3,222		4,303		45,445
Special Mention	3,672		439		284		289		—		230		—		4,914
Substandard	—		1,063		357		—		47		194		1		1,662
Total	$	60,845	$	72,786	$	41,235	$	10,642	$	10,415	$	21,958	$	18,692	$	236,573

Page 27

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


	Real Estate: Mortgage, 1 to 4 Family First Liens
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	12	$	—	$	—	$	—	$	6	$	18
Good	—		192		602		95		—		574		1,283		2,746
Satisfactory	2,339		13,008		9,387		5,330		6,453		9,864		54,691		101,072
Monitor	26		271		1,058		69		296		367		3,338		5,425
Special Mention	21		107		491		34		51		168		111		983
Substandard	—		88		206		78		101		123		438		1,033
Total	$	2,386	$	13,666	$	11,756	$	5,606	$	6,901	$	11,096	$	59,867	$	111,278


	Real Estate: Mortgage, 1 to 4 Family Junior Liens
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	644	$	459	$	902	$	—	$	16	$	542	$	1	$	2,564
Good	9,029		5,053		10,100		2,619		2,244		11,867		2,351		43,263
Satisfactory	70,049		223,599		166,255		61,627		60,498		163,853		9,028		754,909
Monitor	6,752		24,317		32,624		4,858		6,041		15,512		4,501		94,605
Special Mention	131		1,713		3,266		1,200		1,114		4,533		85		12,042
Substandard	684		1,545		1,816		932		1,540		5,833		1		12,351
Total	$	87,289	$	256,686	$	214,963	$	71,236	$	71,453	$	202,140	$	15,967	$	919,734


	Real Estate: Mortgage, Multi-Family
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	2,516	$	4,454	$	—	$	—	$	685	$	—	$	7,655
Good	18,198		16,696		17,796		1,514		—		9,038		—		63,242
Satisfactory	29,143		105,764		42,587		7,097		830		15,286		16,832		217,539
Monitor	15,863		23,598		33,527		174		—		1,374		5,407		79,943
Special Mention	—		632		—		819		—		—		—		1,451
Substandard	—		12,112		—		—		—		—		—		12,112
Total	$	63,204	$	161,318	$	98,364	$	9,604	$	830	$	26,383	$	22,239	$	381,942

Page 28

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Real Estate: Construction, 1 to 4 Family Residential
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ — $ — $ — $ — $ — $ — $ — $ —
Good 212 487 — — — — 13,796 14,495
Satisfactory 4,403 1,882 — — — — 42,675 48,960
Monitor 956 1,668 — — — — 6,394 9,018
Special Mention — — — — — — 583 583
Substandard 111 — — — — — — 111
Total $ 5,682 $ 4,037 $ — $ — $ — $ — $ 63,448 $ 73,167


		Real Estate: Construction, Land Development and Commercial																	Real Estate: Mortgage, Commercial
September 30, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
March 31, 2022																		March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	5,079	$	—	$	—	$	—	$	147	$	8	$	—	$	5,234	Excellent	$	2,257	$	592	$	16,530	$	—	$	—	$	1,265	$	—	$	20,644
Good	Good	1,925		2,235		—		—		154		247		9,774		14,335		Good	9,513		24,182		23,478		2,569		1,335		8,000		9,697		78,774
Satisfactory	Satisfactory	20,602		7,731		2,529		276		1,023		122		32,038		64,321		Satisfactory	24,862		69,705		43,704		14,146		10,953		21,227		18,468		203,065
Monitor	Monitor	6,465		1,429		7		39		262		—		18,354		26,556		Monitor	10,524		14,281		48,020		3,877		1,460		9,633		3,366		91,161
Special Mention	Special Mention	86		—		—		—		—		—		—		86		Special Mention	—		6,372		516		171		—		801		—		7,860
Substandard	Substandard	7,000		548		196		—		—		—		347		8,091		Substandard	—		1,126		1,705		130		203		101		—		3,265
Total	Total	$	41,157	$	11,943	$	2,732	$	315	$	1,586	$	377	$	60,513	$	118,623	Total	$	47,156	$	116,258	$	133,953	$	20,893	$	13,951	$	41,027	$	31,531	$	404,769


		Real Estate: Mortgage, Farmland																	Loans to Individuals
September 30, 2021		2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total
March 31, 2022																		March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:																	Grade:
Excellent	Excellent	$	—	$	3,591	$	124	$	60	$	102	$	58	$	139	$	4,074	Excellent	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Good	Good	7,918		16,961		2,733		3,144		6,489		5,556		3,915		46,716		Good	—		—		—		49		—		4		1		54
Satisfactory	Satisfactory	38,291		42,353		12,483		9,244		9,152		12,934		9,822		134,279		Satisfactory	3,032		10,144		4,475		1,785		746		10,533		59		30,774
Monitor	Monitor	5,351		17,330		5,791		4,138		1,324		7,079		5,796		46,809		Monitor	164		231		97		27		41		1		2		563
Special Mention	Special Mention	4,232		694		—		—		1,168		206		—		6,300		Special Mention	8		49		27		8		3		—		—		95
Substandard	Substandard	2,477		450		294		48		—		203		—		3,472		Substandard	11		21		39		10		—		—		1		82
Total	Total	$	58,269	$	81,379	$	21,425	$	16,634	$	18,235	$	26,036	$	19,672	$	241,650	Total	$	3,215	$	10,445	$	4,638	$	1,879	$	790	$	10,538	$	63	$	31,568


	Obligations of State and Political Subdivisions
March 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	—	$	—	$	—	$	5,891	$	—	$	5,891
Good	—		—		1,956		—		—		8,874		—		10,830
Satisfactory	909		1,006		2,012		1,544		691		15,033		9,261		30,456
Monitor	—		—		924		197		245		1,853		1		3,220
Special Mention	—		—		—		—		—		—		—		—
Substandard	—		—		—		—		—		—		—		—
Total	$	909	$	1,006	$	4,892	$	1,741	$	936	$	31,651	$	9,262	$	50,397

Page 29

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

Real Estate: Mortgage, 1 to 4 Family First Liens
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 465 $ 1,358 $ 434 $ 22 $ 153 $ 306 $ — $ 2,738
Good 7,476 12,322 3,272 3,301 3,851 11,023 4,164 45,409
Satisfactory 187,076 190,199 75,462 72,729 64,914 115,599 8,590 714,569
Monitor 20,445 48,859 6,675 7,530 9,409 15,824 2,975 111,717
Special Mention 1,249 3,118 1,212 1,090 753 2,078 — 9,500
Substandard 1,709 1,827 1,534 1,610 802 6,918 — 14,400
Total $ 218,420 $ 257,683 $ 88,589 $ 86,282 $ 79,882 $ 151,748 $ 15,729 $ 898,333

Real Estate: Mortgage, 1 to 4 Family Junior Liens
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ — $ 14 $ — $ — $ — $ — $ 463 $ 477
Good 33 637 291 — 109 496 1,437 3,003
Satisfactory 10,451 10,780 6,266 8,046 5,893 6,676 55,630 103,742
Monitor 239 1,232 197 440 113 322 2,735 5,278
Special Mention 118 522 96 74 140 126 156 1,232
Substandard 100 354 104 418 102 200 298 1,576
Total $ 10,941 $ 13,539 $ 6,954 $ 8,978 $ 6,357 $ 7,820 $ 60,719 $ 115,308

Real Estate: Mortgage, Multi-Family
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 2,562 $ 4,570 $ — $ — $ — $ 717 $ — $ 7,849
Good 5,682 42,254 1,817 165 2,836 9,333 — 62,087
Satisfactory 57,636 96,776 21,265 1,627 1,628 15,880 14,490 209,302
Monitor 38,871 41,629 178 1,175 1,600 1,461 6,312 91,226
Special Mention 644 — 826 — — — — 1,470
Substandard 12,250 — — — — 5,621 — 17,871
Total $ 117,645 $ 185,229 $ 24,086 $ 2,967 $ 6,064 $ 33,012 $ 20,802 $ 389,805

~~Page 30~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

Real Estate: Mortgage, Commercial
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ 99 $ 17,194 $ — $ — $ 3,436 $ 365 $ — $ 21,094
Good 11,312 48,976 3,462 4,337 5,379 7,364 10,031 90,861
Satisfactory 49,134 51,957 16,814 13,058 18,510 25,967 15,679 191,119
Monitor 10,640 57,522 6,064 1,737 2,542 3,487 3,658 85,650
Special Mention 168 7,689 303 843 2,000 6,431 — 17,434
Substandard 1,362 2,213 — 212 — 105 — 3,892
Total $ 72,715 $ 185,551 $ 26,643 $ 20,187 $ 31,867 $ 43,719 $ 29,368 $ 410,050

Loans to Individuals
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ — $ — $ — $ — $ — $ — $ — $ —
Good — — 72 23 7 — 2 104
Satisfactory 10,340 6,988 2,737 1,223 195 9,813 56 31,352
Monitor 292 201 40 54 4 — 3 594
Special Mention 44 65 25 5 — — 2 141
Substandard 5 14 15 1 3 3 3 44
Total $ 10,681 $ 7,268 $ 2,889 $ 1,306 $ 209 $ 9,816 $ 66 $ 32,235

Obligations of State and Political Subdivisions
September 30, 2021 2021 2020 2019 2018 2017 Prior Revolving Loans Amortized Cost Basis Total
Grade:
Excellent $ — $ — $ — $ — $ — $ 6,259 $ — $ 6,259
Good — 3,216 — — — 9,225 — 12,441
Satisfactory 660 2,143 1,778 711 11,477 3,881 9,534 30,184
Monitor — 836 208 249 179 1,800 — 3,272
Special Mention — — — — — 143 — 143
Substandard — — — — — — — —
Total $ 660 $ 6,195 $ 1,986 $ 960 $ 11,656 $ 21,308 $ 9,534 $ 52,299

~~Page 31~~

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The following table presents the credit quality indicators by type of loans in each category as of December 31, ~~2020~~2021 (amounts in thousands):


		Agricultural		Commercial and Financial		Real Estate: Construction, 1 to 4 family residential		Real Estate: Construction, land development and commercial			Agricultural
December 31, 2020
December 31, 2021										December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:									Grade:
Excellent	Excellent	$	3,761	$	9,024	$	—	$	227	Excellent	$	762	$	213	$	30	$	10	$	—	$	—	$	2,312	$	3,327
Good	Good	12,369		62,310		13,675		15,187		Good	1,799		1,767		603		46		52		26		7,593		11,886
Satisfactory	Satisfactory	42,015		144,999		41,616		64,301		Satisfactory	10,335		6,404		1,476		1,770		403		66		26,285		46,739
Monitor	Monitor	29,381		56,439		13,654		23,368		Monitor	8,125		5,017		998		765		164		253		23,995		39,317
Special Mention	Special Mention	5,143		8,258		1,857		7,137		Special Mention	1,662		11		85		—		7		—		2,807		4,572
Substandard	Substandard	2,173		5,212		315		1,693		Substandard	592		69		203		—		—		—		228		1,092
Total	Total	$	94,842	$	286,242	$	71,117	$	111,913	Total	$	23,275	$	13,481	$	3,395	$	2,591	$	626	$	345	$	63,220	$	106,933


		Real Estate: Mortgage, farmland		Real Estate: Mortgage, 1 to 4 family first liens		Real Estate: Mortgage, 1 to 4 family junior liens		Real Estate: Mortgage, multi- family			Commercial and Financial
December 31, 2020
December 31, 2021										December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:	Grade:									Grade:
Excellent	Excellent	$	5,706	$	2,303	$	204	$	14,650	Excellent	$	965	$	924	$	4	$	235	$	31	$	—	$	3,391	$	5,550
Good	Good	41,878		47,233		3,707		57,281		Good	13,722		5,570		1,105		1,086		276		1,494		20,709		43,962
Satisfactory	Satisfactory	129,210		701,273		115,731		197,493		Satisfactory	44,964		20,847		7,684		3,582		2,106		331		41,832		121,346
Monitor	Monitor	61,298		114,207		5,153		70,885		Monitor	18,337		8,019		3,591		1,123		297		416		13,368		45,151
Special Mention	Special Mention	6,074		12,890		1,307		15,374		Special Mention	603		525		353		70		102		4		174		1,831
Substandard	Substandard	2,976		14,183		1,731		18,331		Substandard	1,092		670		266		54		92		—		1,988		4,162
Total	Total	$	247,142	$	892,089	$	127,833	$	374,014	Total	$	79,683	$	36,555	$	13,003	$	6,150	$	2,904	$	2,245	$	81,462	$	222,002

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

Page 30

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


	Real Estate: Construction, 1 to 4 Family Residential
December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Good	212		—		—		—		—		—		18,755		18,967
Satisfactory	7,457		94		—		—		—		—		42,988		50,539
Monitor	1,307		—		—		—		—		—		9,187		10,494
Special Mention	—		—		—		—		—		—		374		374
Substandard	111		—		—		—		—		—		1		112
Total	$	9,087	$	94	$	—	$	—	$	—	$	—	$	71,305	$	80,486


	Real Estate: Construction, Land Development and Commercial
December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	5,079	$	—	$	—	$	—	$	143	$	4	$	—	$	5,226
Good	3,294		1,200		—		—		153		242		12,678		17,567
Satisfactory	22,907		4,354		2,356		263		1,081		21		40,048		71,030
Monitor	5,694		547		7		38		74		—		18,832		25,192
Special Mention	—		—		—		—		—		—		—		—
Substandard	7,515		298		193		—		—		—		—		8,006
Total	$	44,489	$	6,399	$	2,556	$	301	$	1,451	$	267	$	71,558	$	127,021


	Real Estate: Mortgage, Farmland
December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	3,568	$	124	$	60	$	80	$	41	$	134	$	4,007
Good	17,827		14,308		2,144		2,460		5,932		3,929		3,844		50,444
Satisfactory	51,639		35,616		4,689		8,358		6,745		8,339		8,242		123,628
Monitor	8,532		16,925		5,518		3,901		2,154		4,866		5,695		47,591
Special Mention	4,031		288		—		—		298		190		—		4,807
Substandard	1,283		447		291		47		—		199		—		2,267
Total	$	83,312	$	71,152	$	12,766	$	14,826	$	15,209	$	17,564	$	17,915	$	232,744

Page 31

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


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

Grade:
Excellent	$	462	$	914	$	427	$	19	$	149	$	404	$	1	$	2,376
Good	9,598		12,300		3,124		3,443		3,091		10,943		2,496		44,995
Satisfactory	233,412		189,247		69,037		65,201		60,906		118,608		8,443		744,854
Monitor	24,908		33,863		5,038		6,527		7,273		12,203		4,066		93,878
Special Mention	1,682		3,422		887		962		1,051		3,168		—		11,172
Substandard	1,571		1,261		1,129		1,609		576		6,142		1		12,289
Total	$	271,633	$	241,007	$	79,642	$	77,761	$	73,046	$	151,468	$	15,007	$	909,564


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

Grade:
Excellent	$	—	$	13	$	—	$	—	$	—	$	—	$	6	$	19
Good	193		611		96		—		108		482		1,374		2,864
Satisfactory	13,684		10,116		5,854		7,309		5,230		6,053		55,496		103,742
Monitor	326		1,233		70		365		140		281		2,801		5,216
Special Mention	103		489		35		56		42		110		142		977
Substandard	77		209		79		441		74		99		545		1,524
Total	$	14,383	$	12,671	$	6,134	$	8,171	$	5,594	$	7,025	$	60,364	$	114,342


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

Grade:
Excellent	$	2,539	$	4,513	$	—	$	—	$	—	$	701	$	—	$	7,753
Good	16,931		35,396		1,555		—		—		9,289		—		63,171
Satisfactory	107,192		69,287		13,635		2,030		1,561		14,660		14,764		223,129
Monitor	26,088		35,886		176		—		131		1,584		5,669		69,534
Special Mention	640		—		820		—		—		—		—		1,460
Substandard	12,186		—		—		—		—		5,559		—		17,745
Total	$	165,576	$	145,082	$	16,186	$	2,030	$	1,692	$	31,793	$	20,433	$	382,792

Page 32

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)


	Real Estate: Mortgage, Commercial
December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	597	$	16,781	$	—	$	—	$	3,313	$	350	$	1	$	21,042
Good	20,143		36,773		2,619		1,356		3,811		7,085		9,812		81,599
Satisfactory	75,040		52,653		14,727		12,091		9,707		17,398		16,333		197,949
Monitor	18,664		49,774		3,923		2,202		3,037		8,461		3,387		89,448
Special Mention	5,791		795		303		—		554		337		—		7,780
Substandard	1,528		1,721		—		208		—		102		—		3,559
Total	$	121,763	$	158,497	$	21,572	$	15,857	$	20,422	$	33,733	$	29,533	$	401,377


	Loans to Individuals
December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Good	—		—		67		21		5		—		1		94
Satisfactory	12,162		5,606		2,212		967		141		10,867		57		32,012
Monitor	200		160		15		46		3		—		1		425
Special Mention	37		32		29		4		—		—		1		103
Substandard	12		24		12		—		1		3		1		53
Total	$	12,411	$	5,822	$	2,335	$	1,038	$	150	$	10,870	$	61	$	32,687


	Obligations of State and Political Subdivisions
December 31, 2021	2021		2020		2019		2018		2017		Prior		Revolving Loans Amortized Cost Basis		Total

Grade:
Excellent	$	—	$	—	$	—	$	—	$	—	$	6,076	$	—	$	6,076
Good	—		1,984		—		—		—		9,051		—		11,035
Satisfactory	1,009		2,034		1,551		706		11,557		3,634		9,400		29,891
Monitor	—		933		203		249		—		1,898		—		3,283
Special Mention	—		—		—		—		—		—		—		—
Substandard	—		—		—		—		—		—		—		—
Total	$	1,009	$	4,951	$	1,754	$	955	$	11,557	$	20,659	$	9,400	$	50,285

Page 33

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Past due loans as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 were as follows:


		30 - 59 Days Past Due		60 - 89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans Receivable		Accruing Loans Past Due 90 Days or More			30 - 59 Days Past Due		60 - 89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans Receivable		Accruing Loans Past Due 90 Days or More
		(Amounts In Thousands)															(Amounts In Thousands)
September 30, 2021
March 31, 2022																March 31, 2022
Agricultural	Agricultural	$	377	$	—	$	249	$	626	$	93,584	$	94,210	$	152	Agricultural	$	1,860	$	253	$	252	$	2,365	$	102,535	$	104,900	$	40
Commercial and financial	Commercial and financial	1,062		2,370		41		3,473		224,708		228,181		—		Commercial and financial	2,394		700		109		3,203		220,499		223,702		102
Real estate:	Real estate:															Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	2,085		124		422		2,631		70,536		73,167		423		Construction, 1 to 4 family residential	1,013		—		383		1,396		85,994		87,390		383
Construction, land development and commercial	Construction, land development and commercial	7,024		7,000		96		14,120		104,503		118,623		—		Construction, land development and commercial	559		391		163		1,113		134,240		135,353		66
Mortgage, farmland	Mortgage, farmland	—		167		204		371		241,279		241,650		204		Mortgage, farmland	3,221		160		107		3,488		233,085		236,573		60
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	948		1,481		2,522		4,951		893,382		898,333		264		Mortgage, 1 to 4 family first liens	6,038		621		2,071		8,730		911,004		919,734		68
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	60		24		106		190		115,118		115,308		—		Mortgage, 1 to 4 family junior liens	268		—		121		389		110,889		111,278		—
Mortgage, multi-family	Mortgage, multi-family	3,905		—		—		3,905		385,900		389,805		—		Mortgage, multi-family	—		—		—		—		381,942		381,942		—
Mortgage, commercial	Mortgage, commercial	—		829		—		829		409,221		410,050		—		Mortgage, commercial	2,258		2		959		3,219		401,550		404,769		—
Loans to individuals	Loans to individuals	205		10		5		220		32,015		32,235		—		Loans to individuals	147		11		—		158		31,410		31,568		—
Obligations of state and political subdivisions	Obligations of state and political subdivisions	—		—		—		—		52,299		52,299		—		Obligations of state and political subdivisions	—		—		159		159		50,238		50,397		159
		$	15,666	$	12,005	$	3,645	$	31,316	$	2,622,545	$	2,653,861	$	1,043		$	17,758	$	2,138	$	4,324	$	24,220	$	2,663,386	$	2,687,606	$	878

December 31, 2020
December 31, 2021																December 31, 2021
Agricultural	Agricultural	$	438	$	—	$	629	$	1,067	$	93,775	$	94,842	$	111	Agricultural	$	41	$	—	$	219	$	260	$	106,673	$	106,933	$	6
Commercial and financial	Commercial and financial	867		195		140		1,202		285,040		286,242		20		Commercial and financial	300		537		468		1,305		220,697		222,002		91
Real estate:	Real estate:															Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	190		—		536		726		70,391		71,117		536		Construction, 1 to 4 family residential	276		—		—		276		80,210		80,486		—
Construction, land development and commercial	Construction, land development and commercial	—		—		—		—		111,913		111,913		—		Construction, land development and commercial	194		66		96		356		126,665		127,021		—
Mortgage, farmland	Mortgage, farmland	279		28		—		307		246,835		247,142		—		Mortgage, farmland	503		362		—		865		231,879		232,744		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	4,969		1,342		2,486		8,797		883,292		892,089		342		Mortgage, 1 to 4 family first liens	5,085		864		2,481		8,430		901,134		909,564		104
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	436		21		155		612		127,221		127,833		47		Mortgage, 1 to 4 family junior liens	246		41		124		411		113,931		114,342		—
Mortgage, multi-family	Mortgage, multi-family	—		—		—		—		374,014		374,014		—		Mortgage, multi-family	640		—		—		640		382,152		382,792		—
Mortgage, commercial	Mortgage, commercial	783		—		461		1,244		415,895		417,139		—		Mortgage, commercial	466		—		829		1,295		400,082		401,377		—
Loans to individuals	Loans to individuals	218		59		4		281		31,044		31,325		—		Loans to individuals	177		26		5		208		32,479		32,687		—
Obligations of state and political subdivisions	Obligations of state and political subdivisions	—		—		—		—		56,488		56,488		—		Obligations of state and political subdivisions	394		—		—		394		49,891		50,285		—
		$	8,180	$	1,645	$	4,411	$	14,236	$	2,695,908	$	2,710,144	$	1,056		$	8,322	$	1,896	$	4,222	$	14,440	$	2,645,793	$	2,660,233	$	201

Page 3334

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

Certain nonaccrual and TDR loan information by loan type at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, was as follows:


		September 30, 2021								December 31, 2020							March 31, 2022				December 31, 2021
		Non-accrual loans (1)		Interest income recognized on non-accrual		Accruing loans past due 90 days or more		TDR loans		Non- accrual loans (1)		Accruing loans past due 90 days or more		TDR loans			Non-accrual loans (1)		Accruing loans past due 90 days or more		TDR loans		Non- accrual loans (1)		Accruing loans past due 90 days or more		TDR loans
		(Amounts In Thousands)								(Amounts In Thousands)							(Amounts In Thousands)				(Amounts In Thousands)
Agricultural	Agricultural	$	708	—		$	152	$	377	$	1,252	$	111	$	85	Agricultural	$	221	$	40	$	138	$	221	$	6	$	374
Commercial and financial	Commercial and financial	112		—		—		1,139		479		20		1,263		Commercial and financial	918		102		740		707		91		1,085
Real estate:	Real estate:															Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	111		—		423		—		315		536		—		Construction, 1 to 4 family residential	104		383		—		111		—		—
Construction, land development and commercial	Construction, land development and commercial	293		—		—		203		204		—		211		Construction, land development and commercial	287		66		199		290		—		202
Mortgage, farmland	Mortgage, farmland	353		—		204		1,206		446		—		1,616		Mortgage, farmland	52		60		1,165		251		—		1,206
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	3,900		—		264		1,348		4,331		342		1,751		Mortgage, 1 to 4 family first liens	4,234		68		1,316		4,685		104		1,364
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	184		—		—		20		193		47		20		Mortgage, 1 to 4 family junior liens	196		—		19		200		—		20
Mortgage, multi-family	Mortgage, multi-family	—		—		—		1,470		79		—		1,695		Mortgage, multi-family	—		—		1,451		—		—		1,460
Mortgage, commercial	Mortgage, commercial	2,057		—		—		2,231		1,550		—		3,610		Mortgage, commercial	2,130		—		1,725		2,026		—		2,210
Loans to individuals																Loans to individuals	—		—		—		—		—		—
Obligations of state and political subdivisions																Obligations of state and political subdivisions	—		159		—		—		—		—
		$	7,718	$	—	$	1,043	$	7,994	$	8,849	$	1,056	$	10,251		$	8,142	$	878	$	6,753	$	8,491	$	201	$	7,921

(1)There were ~~$2.76~~$3.43 million and ~~$2.97~~$2.28 million of TDR loans included within nonaccrual loans as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, respectively.

Loans 90 days or more past due that are still accruing interest ~~decreased $0.01~~increased $0.68 million from December 31, ~~2020~~2021 to ~~September 30, 2021.~~March 31, 2022. As of ~~September 30, 2021~~March 31, 2022, there were 610 accruing loans past due 90 days or more with an average loan balance of ~~$0.17~~$0.09 million. There were 126 accruing loans past due 90 days or more as of December 31, ~~2020~~2021 with an average loan balance of ~~$0.09~~$0.03 million. The accruing loans past due 90 days or more balances are believed to be adequately collateralized and the Company expects to collect all principal and interest as contractually due under these loans. There was no interest income recognized on nonaccrual loans for the three months ended March 31, 2022 and year ended December 31, 2021.

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

Section 4013 of the CARES Act, “Temporary Relief From Troubled Debt Restructurings,” allows financial institutions the option to temporarily suspend certain requirements under GAAP related to TDRs for a limited period of time during the COVID-19 pandemic. In March 2020, various regulatory agencies, including the FRB and the FDIC, issued an interagency statement, effective immediately, on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not to be considered TDRs. This includes short-term (e.g., six months) modifications, such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. As of ~~September 30, 2021,~~March 31, 2022, the total amount of the eligible loans in deferral (deferral of principal and/or interest) that met the requirements set forth under the CARES Act and therefore were not considered TDRs was 16

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~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

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

~~Below is a summary of information for TDR loans as of September 30, 2021 and December 31, 2020:~~

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

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

totaling $9.3 million. As of December 31, 2021, there were 16 loans, totaling $9.4 million that met the requirements and were not considered TDRs.

As of March 31, 2022 and December 31, 2021, COVID-19 related payment deferrals were approximately 0.22% and 0.12% of total loans, respectively.

Below is a summary of information for TDR loans as of March 31, 2022 and December 31, 2021:


	March 31, 2022					December 31, 2021
	Number of contracts	Recorded investment		Commitments outstanding		Number of contracts	Recorded investment		Commitments outstanding
		(Amounts In Thousands)					(Amounts In Thousands)
Agricultural	3	$	351	$	160	4	$	586	$	—
Commercial and financial	11	1,644		—		12	1,116		60
Real estate:
Construction, 1 to 4 family residential	1	105		—		—	—		—
Construction, land development and commercial	2	390		—		1	202		—
Mortgage, farmland	5	1,169		—		5	1,409		—
Mortgage, 1 to 4 family first liens	11	1,329		—		14	1,441		—
Mortgage, 1 to 4 family junior liens	1	19		—		1	20		—
Mortgage, multi-family	2	1,451		—		2	1,460		—
Mortgage, commercial	11	3,725		—		11	3,963		—
Loans to individuals	—	—		—		—	—		—
Obligations of state and political subdivisions	—	—		—		—	—		—
	47	$	10,183	$	160	50	$	10,197	$	60

~~The following is a summary of TDR loans that were modified during the three and nine months ended September 30, 2021:~~

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

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

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

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(Unaudited)

The following is a summary of TDR loans that were modified during the three months ended March 31, 2022:


	Three Months Ended March 31, 2022
	Number of contracts	Pre-modification recorded investment		Post-modification recorded investment
		(Amounts In Thousands)
Agricultural	—	$	—	$	—
Commercial and financial	1	371		371
Real estate:
Construction, 1 to 4 family residential	1	105		105
Construction, land development and commercial	1	191		191
Mortgage, farmland	—	—		—
Mortgage, 1 to 4 family first lien	—	—		—
Mortgage, 1 to 4 family junior liens	—	—		—
Mortgage, multi-family	—	—		—
Mortgage, commercial	1	274		274
Loans to individuals	—	—		—
Obligations of state and political subdivisions	—	—		—
	4	$	941	$	941

The Company has allocated $0.55 million of allowance for TDR loans and the Company had commitments to lend $0.16 million in additional borrowings to restructured loan customers as of March 31, 2022. The Company had commitments to lend $0.06 million in additional borrowings to restructured loan customers as of December 31, 2021. These commitments were in the normal course of business. The additional borrowings were not used to facilitate payments on these loans. The modifications of the terms of loans performed during the three months ended March 31, 2022 included extensions of the maturity date.

There were no TDR loans that were in payment default (defined as past due 90 days or more) during the period ended March 31, 2022 and the year ended December 31, 2021.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

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

~~Page 37~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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


		Recorded Investment		Unpaid Principal Balance		Related Allowance			Primary Type of Collateral
With no related allowance recorded:		(Amounts In Thousands)
									Real Estate		Accounts Receivable		Equipment		Other		Total		ACL Allocation
									(Amounts In Thousands)
March 31, 2022								March 31, 2022
Agricultural	Agricultural	$	1,337	$	1,928	$	—	Agricultural	$	545	$	—	$	36	$	—	$	581	$	1
Commercial and financial	Commercial and financial	1,520		2,907		—		Commercial and financial	1,878		—		103		—		1,981		191
Real estate:	Real estate:							Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	315		337		—		Construction, 1 to 4 family residential	488		—		—		—		488		58
Construction, land development and commercial	Construction, land development and commercial	415		421		—		Construction, land development and commercial	552		—		—		—		552		1
Mortgage, farmland	Mortgage, farmland	2,061		2,598		—		Mortgage, farmland	1,276		—		—		—		1,276		1
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	6,253		8,013		—		Mortgage, 1 to 4 family first liens	5,441		—		—		—		5,441		33
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	108		350		—		Mortgage, 1 to 4 family junior liens	141		—		—		—		141		7
Mortgage, multi-family	Mortgage, multi-family	1,773		1,898		—		Mortgage, multi-family	1,451		—		—		—		1,451		—
Mortgage, commercial	Mortgage, commercial	4,124		4,960		—		Mortgage, commercial	3,703		—		—		—		3,703		312
Loans to individuals	Loans to individuals	—		47		—		Loans to individuals	—		—		—		—		—		—
Obligations of state and political subdivisions								Obligations of state and political subdivisions	159		—		—		—		159		1
		$	17,906	$	23,459	$	—		$	15,634	$	—	$	139	$	—	$	15,773	$	605

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

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

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

~~Post-ASC 326 CECL Adoption:~~


	Primary Type of Collateral
	Real Estate		Accounts Receivable		Equipment		Other		Total		ACL Allocation
	(Amounts In Thousands)
December 31, 2021
Agricultural	$	734	$	—	$	54	$	—	$	788	$	1
Commercial and financial	1,951		—		111		—		2,062		189
Real estate:
Construction, 1 to 4 family residential	111		—		—		—		111		111
Construction, land development and commercial	492		—		—		—		492		13
Mortgage, farmland	1,277		—		—		—		1,277		—
Mortgage, 1 to 4 family first liens	5,967		—		—		—		5,967		31
Mortgage, 1 to 4 family junior liens	220		—		—		—		220		18
Mortgage, multi-family	1,460		—		—		—		1,460		—
Mortgage, commercial	4,236		—		—		—		4,236		1
Loans to individuals	20		—		—		—		20		20
Obligations of state and political subdivisions	—		—		—		—		—		—
	$	16,468	$	—	$	165	$	—	$	16,633	$	384

Page 39

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The changes in the ACL in ~~2021~~2022 compared to December 31, ~~2020~~2021 is the result of the following factors: ~~$2.75 million increase upon adoption of ASC 326 (CECL) on January 1, 2021; changes after adoption for the nine months ended September 30, 2021 include~~ improvements in the economic factor forecasts, primarily Iowa unemployment, used in the ACL calculation which resulted in a decrease of ~~$1.14~~$0.54 million; ~~decrease~~increase in loan volume which resulted in ~~a decrease~~an increase of ~~$0.75~~$0.42 million; changes in prepayment and curtailment rates resulting in a decrease of ~~$1.03~~$0.24 million; ~~decreases~~increases in historical loss rates ~~along with net recoveries in the first half of 2021~~ resulting in ~~a decrease~~an increase of ~~$1.59~~$0.18 million; ~~decreases~~increase in the individually analyzed loans reserve of ~~$0.42~~$0.23 million; and increases in qualitative factors determined necessary by management which resulted in an increase of ~~$0.71~~$0.33 million.

The extent to which collateral secures collateral-dependent loans is provided in the previous individually analyzed loans table and changes in the extent to which collateral secures its collateral-dependent loans are described below. Collateral-dependent loans decreased ~~$3.97~~$0.86 million from December 31, ~~2020~~2021 to ~~September 30, 2021.~~March 31, 2022. Collateral-dependent loans include any loan that has been placed on nonaccrual status, accruing loans past due 90 days or more and TDR loans. Collateral-dependent loans also include loans that, based on management’s evaluation of current information and events, the Company expects to be unable to collect in full according to the contractual terms of the original loan agreement. Collateral-dependent loans were ~~0.63%~~0.59% of loans held for investment as of ~~September 30, 2021~~March 31, 2022 and ~~0.76%~~0.63% as of December 31, ~~2020.~~2021. The decrease in collateral-dependent loans is due to a decrease ~~of $0.52 million in loans with a specific reserve, a decrease~~ in nonaccrual loans of ~~$1.13~~$0.35 million, ~~a decrease~~an increase in 90 days or more accruing loans of ~~$0.01~~$0.68 million and a decrease in TDR loans of ~~$2.26~~$1.17 million from December 31, ~~2020~~2021 to ~~September 30, 2021.~~March 31, 2022. There were no significant changes noted in the extent to which collateral secures collateral-dependent loans.

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

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

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

Note 6.Leases

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

~~Page 39~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

For the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021, ~~and 2020,~~ total operating lease expense was ~~$0.44~~$0.14 million and ~~$0.42~~$0.14 million respectively, and is included in occupancy expenses in the consolidated statements of income. Included in this for the ~~nine~~ three

Page 40

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

months ended ~~September 30,~~March 31, 2022 and 2021 ~~and 2020~~ were ~~$0.37~~$0.12 million and ~~$0.35~~$0.12 million, respectively, of operating lease costs, ~~$0.03~~$0.01 million and ~~$0.03~~$0.01 million, respectively, of short term lease costs, and ~~$0.04~~$0.01 million and ~~$0.04~~$0.01 million, respectively, of variable lease costs.

For the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021, ~~and 2020,~~ cash paid for amounts included in the measurement of operating lease liabilities was ~~$0.38~~$0.12 million and ~~$0.35~~$0.12 million, respectively.

As of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, operating lease right-of-use assets included in other assets was ~~$2.57~~$2.42 million and ~~$2.86~~$2.47 million respectively. Operating lease liabilities included in other liabilities were ~~$2.63~~$2.49 million and ~~$2.91~~$2.53 million as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020.~~2021. As of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, the weighted average remaining lease term for operating leases was ~~10.01~~9.80 years and ~~10.27~~9.94 years, respectively, and the weighted average discount rate for operating leases was ~~3.48%~~3.49% and ~~3.45%~~3.49%, respectively. Discount rates used were determined from FHLB borrowing rates for comparable terms.

As of ~~September 30, 2021,~~March 31, 2022, maturities of lease liabilities were as follows:


Year ending December 31:	Year ending December 31:	(Amounts In Thousands)		Year ending December 31:	(Amounts In Thousands)
2021 (excluding the nine months ended September 30, 2021)		$	117
2022		464
2022 (excluding the three months ended March 31, 2022)				2022 (excluding the three months ended March 31, 2022)	$	355
2023	2023	317		2023	327
2024	2024	250		2024	260
2025	2025	254		2025	263
2026				2026	266
Thereafter	Thereafter	1,755		Thereafter	1,503
Total lease payments	Total lease payments	3,157		Total lease payments	2,974
Less imputed interest	Less imputed interest	(529)		Less imputed interest	(488)
Total operating lease liabilities	Total operating lease liabilities	$	2,628	Total operating lease liabilities	$	2,486

Page 4041

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Note 7.Fair Value Measurements

The carrying value and estimated fair values of the Company's financial instruments as of ~~September 30, 2021~~March 31, 2022 are as follows:


		September 30, 2021											March 31, 2022
		Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)			Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)
		(Amounts In Thousands)											(Amounts In Thousands)
Financial instrument assets:	Financial instrument assets:											Financial instrument assets:
Cash and cash equivalents	Cash and cash equivalents	$	869,098	$	869,098	$	869,098	$	—	$	—	Cash and cash equivalents	$	718,938	$	718,938	$	718,938	$	—	$	—
Investment securities	Investment securities	510,011		510,011		221,414		288,597		—		Investment securities	692,631		692,631		360,449		332,182		—
Loans held for sale	Loans held for sale	10,738		10,738		—		10,738		—		Loans held for sale	4,704		4,704		—		4,704		—
Loans	Loans											Loans
Agricultural	Agricultural	92,092		92,185		—		—		92,185		Agricultural	102,486		101,970		—		—		101,970
Commercial and financial	Commercial and financial	223,833		223,726		—		—		223,726		Commercial and financial	218,807		217,496		—		—		217,496
Real estate:	Real estate:											Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	72,405		72,481		—		—		72,481		Construction, 1 to 4 family residential	86,578		86,131		—		—		86,131
Construction, land development and commercial	Construction, land development and commercial	117,088		116,577		—		—		116,577		Construction, land development and commercial	133,818		132,401		—		—		132,401
Mortgage, farmland	Mortgage, farmland	236,987		236,664		—		—		236,664		Mortgage, farmland	233,263		231,220		—		—		231,220
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	891,338		889,507		—		—		889,507		Mortgage, 1 to 4 family first liens	911,479		909,423		—		—		909,423
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	112,366		112,320		—		—		112,320		Mortgage, 1 to 4 family junior liens	108,281		107,745		—		—		107,745
Mortgage, multi-family	Mortgage, multi-family	386,092		384,065		—		—		384,065		Mortgage, multi-family	378,797		377,536		—		—		377,536
Mortgage, commercial	Mortgage, commercial	403,545		403,004		—		—		403,004		Mortgage, commercial	397,680		394,636		—		—		394,636
Loans to individuals	Loans to individuals	31,602		31,710		—		—		31,710		Loans to individuals	30,799		31,017		—		—		31,017
Obligations of state and political subdivisions	Obligations of state and political subdivisions	51,850		52,119		—		—		52,119		Obligations of state and political subdivisions	49,954		50,220		—		—		50,220
Accrued interest receivable	Accrued interest receivable	12,432		12,432		—		12,432		—		Accrued interest receivable	12,946		12,946		—		12,946		—
Total financial instrument assets	Total financial instrument assets	$	4,021,477	$	4,016,637	$	1,090,512	$	311,767	$	2,614,358	Total financial instrument assets	$	4,081,161	$	4,069,014	$	1,079,387	$	349,832	$	2,639,795
Financial instrument liabilities	Financial instrument liabilities											Financial instrument liabilities
Deposits	Deposits											Deposits
Noninterest-bearing deposits	Noninterest-bearing deposits	$	581,011	$	581,011	$	—	$	581,011	$	—	Noninterest-bearing deposits	$	625,522	$	625,522	$	—	$	625,522	$	—
Interest-bearing deposits	Interest-bearing deposits	2,887,248		2,895,755		—		2,895,755		—		Interest-bearing deposits	3,036,062		3,042,148		—		3,042,148		—
Other borrowings		—		—		—		—		—
Federal Home Loan Bank borrowings		105,000		113,880		—		113,880		—

Accrued interest payable	Accrued interest payable	1,255		1,255		—		1,255		—		Accrued interest payable	1,084		1,084		—		1,084		—
Total financial instrument liabilities	Total financial instrument liabilities	$	3,574,514	$	3,591,901	$	—	$	3,591,901	$	—	Total financial instrument liabilities	$	3,662,668	$	3,668,754	$	—	$	3,668,754	$	—

		Face Amount											Face Amount
Financial instrument with off-balance sheet risk:	Financial instrument with off-balance sheet risk:											Financial instrument with off-balance sheet risk:
Loan commitments	Loan commitments	$	616,208	$	—	$	—	$	—	$	—	Loan commitments	$	733,631	$	—	$	—	$	—	$	—
Letters of credit	Letters of credit	7,523		—		—		—		—		Letters of credit	6,899		—		—		—		—
Total financial instrument liabilities with off-balance-sheet risk	Total financial instrument liabilities with off-balance-sheet risk	$	623,731	$	—	$	—	$	—	$	—	Total financial instrument liabilities with off-balance-sheet risk	$	740,530	$	—	$	—	$	—	$	—

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

(2)Considered Level 2 under ASC 820.

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

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

The carrying value and estimated fair values of the Company's financial instruments as of December 31, ~~2020~~2021 are as follows:


		December 31, 2020											December 31, 2021
		Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)			Carrying Amount		Estimated Fair Value		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)
		(Amounts In Thousands)											(Amounts In Thousands)
Financial instrument assets:	Financial instrument assets:											Financial instrument assets:
Cash and cash equivalents	Cash and cash equivalents	$	574,310	$	574,310	$	574,310	$	—	$	—	Cash and cash equivalents	$	781,918	$	781,918	$	781,918	$	—	$	—
Investment securities	Investment securities	416,544		416,544		148,646		267,898		—		Investment securities	555,900		555,900		243,925		311,975		—
Loans held for sale	Loans held for sale	43,947		43,947		—		43,947		—		Loans held for sale	5,716		5,716		—		5,716		—
Loans	Loans											Loans
Agricultural	Agricultural	92,334		92,922		—		—		92,922		Agricultural	104,672		103,745		—		—		103,745
Commercial and financial	Commercial and financial	281,357		282,015		—		—		282,015		Commercial and financial	217,733		216,466		—		—		216,466
Real estate:	Real estate:											Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	70,210		70,432		—		—		70,432		Construction, 1 to 4 family residential	79,668		79,311		—		—		79,311
Construction, land development and commercial	Construction, land development and commercial	110,501		110,039		—		—		110,039		Construction, land development and commercial	125,539		124,466		—		—		124,466
Mortgage, farmland	Mortgage, farmland	242,969		242,978		—		—		242,978		Mortgage, farmland	229,311		228,365		—		—		228,365
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	882,156		890,409		—		—		890,409		Mortgage, 1 to 4 family first liens	901,523		897,255		—		—		897,255
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	126,336		124,945		—		—		124,945		Mortgage, 1 to 4 family junior liens	111,184		110,903		—		—		110,903
Mortgage, multi-family	Mortgage, multi-family	369,552		370,538		—		—		370,538		Mortgage, multi-family	379,077		378,193		—		—		378,193
Mortgage, commercial	Mortgage, commercial	412,186		413,409		—		—		413,409		Mortgage, commercial	394,594		391,950		—		—		391,950
Loans to individuals	Loans to individuals	30,573		31,164		—		—		31,164		Loans to individuals	31,916		31,871		—		—		31,871
Obligations of state and political subdivisions	Obligations of state and political subdivisions	55,838		59,300		—		—		59,300		Obligations of state and political subdivisions	49,845		50,155		—		—		50,155
Accrued interest receivable	Accrued interest receivable	12,177		12,177		—		12,177		—		Accrued interest receivable	11,437		11,437		—		11,437		—
Total financial instrument assets	Total financial instrument assets	$	3,720,990	$	3,735,129	$	722,956	$	324,022	$	2,688,151	Total financial instrument assets	$	3,980,033	$	3,967,651	$	1,025,843	$	329,128	$	2,612,680
Financial instrument liabilities:	Financial instrument liabilities:											Financial instrument liabilities:
Deposits	Deposits											Deposits
Noninterest-bearing deposits	Noninterest-bearing deposits	$	532,190	$	532,190	$	—	$	532,190	$	—	Noninterest-bearing deposits	$	633,101	$	633,101	$	—	$	633,101	$	—
Interest-bearing deposits	Interest-bearing deposits	2,660,378		2,673,815		—		2,673,815		—		Interest-bearing deposits	2,900,893		2,909,243		—		2,909,243		—

Other borrowings												Other borrowings	249		249		—		249		—
Federal Home Loan Bank borrowings	Federal Home Loan Bank borrowings	105,000		115,259		—		115,259		—		Federal Home Loan Bank borrowings	—		—		—		—		—

Accrued interest payable	Accrued interest payable	1,733		1,733		—		1,733		—		Accrued interest payable	1,165		1,165		—		1,165		—
Total financial instrument liabilities	Total financial instrument liabilities	$	3,299,301	$	3,322,997	$	—	$	3,322,997	$	—	Total financial instrument liabilities	$	3,535,408	$	3,543,758	$	—	$	3,543,758	$	—

		Face Amount											Face Amount
Financial instrument with off-balance sheet risk:	Financial instrument with off-balance sheet risk:											Financial instrument with off-balance sheet risk:
Loan commitments	Loan commitments	$	483,602	$	—	$	—	$	—	$	—	Loan commitments	$	614,324	$	—	$	—	$	—	$	—
Letters of credit	Letters of credit	8,056		—		—		—		—		Letters of credit	7,179		—		—		—		—
Total financial instrument liabilities with off-balance-sheet risk	Total financial instrument liabilities with off-balance-sheet risk	$	491,658	$	—	$	—	$	—	$	—	Total financial instrument liabilities with off-balance-sheet risk	$	621,503	$	—	$	—	$	—	$	—

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

~~(2)~~(1)Considered Level 2 under ASC 820.

~~(3)~~(2)Considered Level 3 under ASC 820 and are based on valuation models that use significant assumptions that are not observable in an active market.

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HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

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


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


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


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

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

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

ASSETS

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

The pricing for investment securities is obtained from an independent source. There are no Level 3 investment securities owned by the Company. The Company obtains an understanding of the independent source’s valuation methodologies used to determine fair value by level of security. The Company validates assigned fair values on a sample basis using an additional third-party provider pricing service to determine if the fair value measurement is reasonable. Due to the nature of our investment portfolio, we do not expect significant and unusual fluctuations as fair value changes primarily relate to interest rate changes. No unusual fluctuations were identified during the ~~nine~~three months ended ~~September 30, 2021.~~March 31, 2022. If a fluctuation requiring investigation was identified, the Company would research the change with the independent source or other available information.

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

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

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

~~Page 43~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

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

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

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

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

Page 44

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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

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

~~Page 44~~

~~Index~~

~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

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


		September 30, 2021									March 31, 2022
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value			Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value
Securities available for sale	Securities available for sale	(Amounts In Thousands)								Securities available for sale	(Amounts In Thousands)
U.S. Treasury	U.S. Treasury	$	221,414	$	—	$	—	$	221,414	U.S. Treasury	$	360,449	$	—	$	—	$	360,449
State and political subdivisions	State and political subdivisions	—		235,207		—		235,207		State and political subdivisions	—		245,172		—		245,172
Mortgage-backed securities and collateralized mortgage obligations	Mortgage-backed securities and collateralized mortgage obligations	—		9,753		—		9,753		Mortgage-backed securities and collateralized mortgage obligations	—		49,283		—		49,283
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	—		34,891		—		34,891		Other securities (FHLB, FHLMC and FNMA)	—		32,865		—		32,865

Total	Total	$	221,414	$	279,851	$	—	$	501,265	Total	$	360,449	$	327,320	$	—	$	687,769


		December 31, 2020									December 31, 2021
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value			Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value
Securities available for sale	Securities available for sale	(Amounts In Thousands)								Securities available for sale	(Amounts In Thousands)
U.S. Treasury	U.S. Treasury	$	148,646	$	—	$	—	$	148,646	U.S. Treasury	$	243,925	$	—	$	—	$	243,925
State and political subdivisions	State and political subdivisions	—		224,566		—		224,566		State and political subdivisions	—		263,516		—		263,516
Mortgage-backed securities and collateralized mortgage obligations										Mortgage-backed securities and collateralized mortgage obligations	—		9,446		—		9,446
Other securities (FHLB, FHLMC and FNMA)	Other securities (FHLB, FHLMC and FNMA)	—		35,160		—		35,160		Other securities (FHLB, FHLMC and FNMA)	—		34,467		—		34,467

Total	Total	$	148,646	$	259,726	$	—	$	408,372	Total	$	243,925	$	307,429	$	—	$	551,354

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

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

There were no transfers between Levels 1, 2 or 3 during the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 and the year ended December 31, ~~2020.~~2021.

Page 45

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis

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


		September 30, 2021								Three Months Ended September 30, 2021		Nine Months Ended September 30, 2021			March 31, 2022								Three Months Ended March 31, 2022
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses					Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses
		(Amounts in Thousands)													(Amounts in Thousands)
Loans (4)	Loans (4)													Loans (4)
Agricultural	Agricultural	$	—	$	—	$	886	$	886	$	—	$	—	Agricultural	$	—	$	—	$	221	$	221	$	—
Commercial and financial	Commercial and financial	—		—		1,188		1,188		—		—		Commercial and financial	—		—		1,416		1,416		—
Real Estate:	Real Estate:											—		Real Estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	—		—		386		386		—		—		Construction, 1 to 4 family residential	—		—		440		440		—
Construction, land development and commercial	Construction, land development and commercial	—		—		96		96		—		—		Construction, land development and commercial	—		—		96		96		—
Mortgage, farmland	Mortgage, farmland	—		—		1,217		1,217		—		—		Mortgage, farmland	—		—		874		874		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	—		—		5,084		5,084		114		147		Mortgage, 1 to 4 family first liens	—		—		5,406		5,406		65
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	—		—		193		193		9		9		Mortgage, 1 to 4 family junior liens	—		—		206		206		5
Mortgage, multi-family	Mortgage, multi-family	—		—		1,470		1,470		—		—		Mortgage, multi-family	—		—		1,451		1,451		—
Mortgage, commercial	Mortgage, commercial	—		—		4,222		4,222		255		255		Mortgage, commercial	—		—		3,793		3,793		—
Loans to individuals	Loans to individuals	—		—		—		—		—		—		Loans to individuals	—		—		—		—		—
Foreclosed assets (5)	Foreclosed assets (5)	—		—		—		—		—		—		Foreclosed assets (5)	—		—		—		—		—
Total	Total	$	—	$	—	$	14,742	$	14,742	$	378	$	411	Total	$	—	$	—	$	13,903	$	13,903	$	70

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

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

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

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

Page 46

Index

HILLS BANCORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

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


		December 31, 2020								Year Ended December 31, 2020			December 31, 2021								Year Ended December 31, 2021
		Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses			Readily Available Market Prices(1)		Observable Market Prices(2)		Company Determined Market Prices(3)		Total at Fair Value		Total Losses
		(Amounts in Thousands)											(Amounts in Thousands)
Loans (4)	Loans (4)											Loans (4)
Agricultural	Agricultural	$	—	$	—	$	1,081	$	1,081	$	—	Agricultural	$	—	$	—	$	399	$	399	$	—
Commercial and financial	Commercial and financial	—		—		1,692		1,692		385		Commercial and financial	—		—		1,527		1,527		—
Real Estate:	Real Estate:											Real Estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	—		—		414		414		—		Construction, 1 to 4 family residential	—		—		383		383		—
Construction, land development and commercial	Construction, land development and commercial	—		—		315		315		—		Construction, land development and commercial	—		—		96		96		—
Mortgage, farmland	Mortgage, farmland	—		—		1,718		1,718		—		Mortgage, farmland	—		—		1,114		1,114		—
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	—		—		5,906		5,906		252		Mortgage, 1 to 4 family first liens	—		—		5,902		5,902		212
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	—		—		176		176		19		Mortgage, 1 to 4 family junior liens	—		—		202		202		9
Mortgage, multi-family	Mortgage, multi-family	—		—		1,773		1,773		—		Mortgage, multi-family	—		—		1,460		1,460		—
Mortgage, commercial	Mortgage, commercial	—		—		5,082		5,082		250		Mortgage, commercial	—		—		4,176		4,176		255
Loans to individuals	Loans to individuals	—		—		—		—		—		Loans to individuals	—		—		—		—		—
Foreclosed assets (5)	Foreclosed assets (5)	—		—		—		—		—		Foreclosed assets (5)	—		—		—		—		—
Total	Total	$	—	$	—	$	18,157	$	18,157	$	906	Total	$	—	$	—	$	15,259	$	15,259	$	476

(1)Considered Level 1 under ASC 820.

(2)Considered Level 2 under ASC 820.

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

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

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

Page 47

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Note 8.Stock Repurchase Program

On July 26, 2005, the Company’s Board of Directors authorized a program to repurchase up to a total of 1,500,000 shares of the Company’s common stock (the “2005 Stock Repurchase Program”). The Company’s Board of Directors has authorized the 2005 Stock Repurchase Program through December 31, ~~2022.~~2023. The Company expects the purchases pursuant to the 2005 Stock Repurchase Program to be made from time to time in private transactions at a price equal to the most recent quarterly independent appraisal of the shares of the Company’s common stock and with the Board reviewing the overall results of the 2005 Stock Repurchase Program on a quarterly basis. All purchases made pursuant to the 2005 Stock Repurchase Program since its inception have been made on that basis. The amount and timing of stock repurchases will be based on various factors, such as the Board’s assessment of the Company’s capital structure and liquidity, the amount of interest shown by shareholders in selling shares of stock to the Company at their appraised value, and applicable regulatory, legal and accounting factors. The Company has purchased ~~1,398,761~~1,431,156 shares of its common stock in privately negotiated transactions from August 1, 2005 through ~~September 30, 2021.~~March 31, 2022. Of these ~~1,398,761~~1,431,156 shares, ~~19,556~~26,412 shares were purchased during the quarter ended ~~September 30, 2021,~~March 31, 2022, at an average price per share of ~~$66.15.~~$68.73.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited)

Note 9. Commitments and Contingencies

Concentrations of credit risk: The Bank’s loans, commitments to extend credit, unused lines of credit and outstanding letters of credit have been granted to customers within the Bank's market area. Investments in securities issued by state and political subdivisions within the state of Iowa totaled approximately ~~$86.49~~$93.80 million. The concentrations of credit by type of loan are set forth in Note 5 to the Consolidated Financial Statements. Outstanding letters of credit were granted primarily to commercial borrowers. Although the Bank has a diversified loan portfolio, a substantial portion of its debtors' ability to honor their contracts is dependent upon the economic conditions in Johnson, Linn and Washington Counties, Iowa.

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

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

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

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

The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit, credit card participations and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. A summary of the Bank’s commitments at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 is as follows:


		September 30, 2021		December 31, 2020			March 31, 2022		December 31, 2021
		(Amounts In Thousands)					(Amounts In Thousands)
Firm loan commitments and unused portion of lines of credit:	Firm loan commitments and unused portion of lines of credit:					Firm loan commitments and unused portion of lines of credit:
Home equity loans	Home equity loans	$	79,686	$	69,974	Home equity loans	$	81,337	$	78,961
Credit cards	Credit cards	64,910		60,535		Credit cards	67,652		65,913
Commercial, real estate and home construction	Commercial, real estate and home construction	173,754		118,186		Commercial, real estate and home construction	209,594		170,539
Commercial lines and real estate purchase loans	Commercial lines and real estate purchase loans	297,858		234,907		Commercial lines and real estate purchase loans	375,048		298,911
Outstanding letters of credit	Outstanding letters of credit	7,523		8,056		Outstanding letters of credit	6,899		7,179

Note 10.Income Taxes

Federal income tax expense for the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021 ~~and 2020~~ was computed using the consolidated effective federal tax rate. The Company also recognized income tax expense pertaining to state franchise taxes payable individually by the subsidiary bank. The Company files a consolidated tax return for federal purposes and separate tax returns for State of Iowa purposes. The tax years ended December 31, 2021, 2020, ~~2019,~~ and ~~2018~~2019 remain subject to examination by the

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~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

Internal Revenue Service. For state tax purposes, the tax years ended December 31, 2021, 2020, ~~2019,~~ and ~~2018~~2019 remain open for examination. There were no material unrecognized tax benefits at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 and therefore no interest or penalties on unrecognized tax benefits has been recorded. As of ~~September 30, 2021,~~March 31, 2022, the Company does not anticipate any significant increase in unrecognized tax benefits during the twelve-month period ending ~~September 30, 2022.~~March 31, 2023. Income taxes as a percentage of income before taxes were ~~22.58%~~20.97% for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 and ~~22.43%~~22.29% for the same period in ~~2020.~~

~~Note 11.Derivative Financial Instruments~~

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

~~Cash Flow Hedges:~~

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

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

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~~HILLS BANCORPORATION~~

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

~~(Unaudited)~~

Recognized
in OCI

Reclassified from AOCI into
Income

Recognized in Income on
Derivatives

Amount of
(Loss)

~~Category~~

Amount
of Gain
(Loss)

~~Category~~

Amount
of Gain
(Loss)

~~(Amounts in Thousands)~~

~~September 30, 2020~~

~~Interest rate swap~~

~~Interest Expense~~

—

~~Other Income~~

—

~~Interest rate swap~~

~~(626)~~

~~Interest Expense~~

—

~~Other Income~~

—

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

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

Special Note Regarding Forward Looking Statements

This report contains, and future oral and written statements of the Company and its management may contain, forward-looking statements within the meaning of such term in the Private Securities Litigation Reform Act of 1995 with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Actual results may differ materially from those included in the forward-looking statements. Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company’s management and on information currently available to management, are generally identifiable by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “intend,” “estimate,” “may,” “will,” “would,” “could,” “should” or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events.

The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations and future prospects of the Company include, but are not limited to, the following:

•The strength of the United States economy in general and the strength of the local economies in which the Company conducts its operations which may be less favorable than expected and may result in, among other things, a deterioration in the credit quality and value of the Company’s assets. This includes current concerns related to higher inflation, rising energy prices, the Russia-Ukraine war and supply chain imbalances.

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

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

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

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

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

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

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

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

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

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

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~~HILLS BANCORPORATION~~

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

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

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

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

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

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

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

These risks and uncertainties should be considered in evaluating forward-looking statements, and undue reliance should not be placed on such statements. Additional information concerning the Company and its business, including other factors that could materially affect the Company’s financial results, is included in the Company’s filings with the Securities and Exchange Commission.

~~COVID-19: Update on Company Action and Ongoing Risks~~

In December 2019, a novel coronavirus (COVID-19) was reported in China, and, in March 2020, the World Health Organization declared it a pandemic. On March 12, 2020, the President of the United States declared the COVID-19 outbreak in the United States a national emergency. The COVID-19 pandemic caused significant economic dislocation in the United States as many state and local governments ordered non-essential businesses to close and residents to shelter in place at home, which resulted in an unprecedented slow-down in economic activity and a related increase in unemployment throughout most of 2020 and into 2021.

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

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

~~While significant progress has been made~~The U.S. economy continued its recovery during the first quarter of 2022 despite pressures from higher inflation and rising energy prices as well as concerns over the Russia-Ukraine war and the continued economic uncertainty caused by the COVID-19 pandemic. Inflation remains elevated, reflecting supply and demand imbalances related to ~~combat~~ the ~~outbreak~~pandemic and higher energy prices as well as other broader price pressures, and is currently forecast to exceed an annual rate of ~~COVID-19, and while it appears that the epidemiological and macroeconomic conditions are trending in a positive direction as of September 30, 2021, if there is a resurgence~~7.0 percent in the ~~virus,~~first quarter of 2022, well above the ~~Company~~FRB's target inflation rate. In addition, the Russia-Ukraine war and related events are likely to create additional upward pressure on inflation and weigh on economic activity. As previously discussed, the COVID-19 pandemic has resulted in disruption to business and economic activity. While the Omicron variant took COVID-19 infection rates to a new high in January 2022, COVID-19 cases declined by the end of the first quarter. However, the duration of the pandemic, including the emergence of new variants, and the ultimate repercussions continue to remain unclear. U.S. Gross Domestic Product ("GDP") is currently forecast to grow at an annual rate in excess of 1.0 percent in the first quarter of 2022, while the U.S. economy added over 450 thousand jobs during the first quarter of 2022 and the total unemployment rate fell to 3.6 percent at March 2022 as compared with 3.9 percent at December 2021. In March 2022, the FRB increased short-term interest rates by 25 basis points and indicated that ongoing increases in short-term interest rates will occur in 2022 in order to fight inflation.

Although the U.S. economy continued to grow during the first quarter of 2022, the impacts of higher inflation, rising energy prices and the Russia-Ukraine war, in addition to the continuing impact of the COVID-19 pandemic on economic conditions both in the United States and abroad, have created significant uncertainty about the future economic environment which will continue to evolve and impact our business in future periods. Concerns over interest rate levels, energy prices, domestic and global policy issues, trade policy in the U.S. and geopolitical events, as well as the implications of those events on the markets in general, further add to the global uncertainty. Interest rate levels and energy prices, in combination with global economic conditions, fiscal and monetary policy and the level of regulatory and government scrutiny of financial institutions will continue to impact our results in 2022 and beyond. Each of the developments described above, or any combination of them, could ~~experience further adverse effects on its~~adversely affect our business, financial condition and results of ~~operations and cash flows.~~operations.

~~Lending Assistance~~

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

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

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

~~Financial Exposures~~

The COVID-19 pandemic continues to represent an unprecedented challenge to the global economy in general and the financial services sector in particular. However, given the emergence of a new and more infectious variant of COVID-19 along with the hesitancy of a significant portion of the U.S. population to become vaccinated, there is still significant uncertainty regarding the overall length of the pandemic and the aggregate impact that it will have on global and regional economies, including uncertainties regarding the potential positive effects of governmental actions taken in response to the pandemic. Our credit administration continues to closely monitor and analyze the higher risk segments within the loan portfolio, tracking loan payment deferrals, customer liquidity and providing timely reports to senior management and the board of directors. Based on the Company’s capital levels, prudent underwriting policies, loan concentration diversification and our geographic footprint, ~~we currently expect~~senior management is cautiously optimistic that the Company is positioned to ~~be able to manage~~continue managing the ~~economic~~impact of the varied set of risks and uncertainties ~~associated with~~currently impacting the ~~pandemic~~economy and remain adequately capitalized. However, the Company may be required to make additional loan loss provisions as warranted by the extremely fluid ~~COVID-19 situation.~~

economic condition.

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Critical Accounting Policies

Allowance for Credit Losses

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

~~Post-ASC 326 CECL Adoption:~~ The preparation of financial statements in accordance with the accounting principles generally accepted in the United States ("U.S. GAAP") requires management to make a number of judgments, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expense in the financial statements. Various elements of our accounting policies, by their nature, involve the application of highly sensitive and judgmental estimates and assumptions. Some of these policies and estimates relate to matters that are highly complex and contain substantial inherent uncertainties. Management has made significant estimates in several areas, including the allowance for credit losses (see Note 5 - Loans and Note 4 - Securities) and the fair value of debt securities (see Note 4 - Securities).

We have identified the following accounting policies and estimates that, due to the inherent judgments and assumptions and the potential sensitivity of the financial statements to those judgments and assumptions, are critical to an understanding of our financial statements. We believe that the judgments, estimates and assumptions used in the preparation of the Company's financial statements are appropriate. For a further description of our accounting policies, see Note 1 - Summary of Significant Accounting Policies in the financial statements included in this Form 10-Q.

The allowance for credit losses for loans represents management's estimate of all expected credit losses over the expected contractual life of our existing loan portfolio. Determining the appropriateness of the allowance is complex and requires judgment by management about the effect of matters that are inherently uncertain. Subsequent evaluations of the then-existing loan portfolio, in light of the factors then prevailing, may result in significant changes in the allowance for credit losses in those future periods.

We employ a disciplined process and methodology to establish our allowance for credit losses that has two basic components: first, an asset-specific component involving individual loans that do not share risk characteristics with other loans and the measurement of expected credit losses for such individual loans; and second, a pooled component for estimated expected credit losses for pools of loans that share similar risk characteristics.

Based upon this methodology, management establishes an asset-specific allowance for loans that do not share risk characteristics with other loans based on the amount of expected credit losses calculated on those loans and charges off amounts determined to be uncollectible. Factors we consider in measuring the extent of expected credit loss include payment status, collateral value, borrower financial condition, guarantor support and the probability of collecting scheduled principal and interest payments when due.

When a loan does not share risk characteristics with other loans, we measure expected credit loss as the difference between the amortized cost basis in the loan and the present value of expected future cash flows discounted at the loan's effective interest rate except that, for collateral- dependent loans, credit loss is measured as the difference between the amortized cost basis in the loan and the fair value of the underlying collateral. The fair value of the collateral is adjusted for the estimated cost to sell if repayment or satisfaction of a loan is dependent on the sale (rather than only on the operation) of the collateral. In accordance with our appraisal policy, the fair value of collateral-dependent loans is based upon independent third-party appraisals or on collateral valuations prepared by in-house evaluations. Once a third-party appraisal is greater than one year old, or if its determined that market conditions, changes to the property, changes in intended use of the property or other factors indicate that an appraisal is no longer reliable, we perform an internal collateral valuation to assess whether a change in collateral value requires an additional adjustment to carrying value. When we receive an updated appraisal or collateral valuation, management reassesses the need for adjustments to the loan's expected credit loss measurements and, where appropriate, records an

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adjustment. If the calculated expected credit loss is determined to be permanent, fixed or nonrecoverable, the credit loss portion of the loan will be charged off against the allowance for credit losses. Loans designated having significantly increased credit risk are generally placed on nonaccrual and remain in that status until all principal and interest payments are current and the prospects for future payments in accordance with the loan agreement are reasonably assured, at which point the loan is returned to accrual status.

In estimating the component of the allowance for credit losses for loans that share common risk characteristics, loans are segregated into loan classes. Loans are designated into loan classes based on loans pooled by product types and similar risk

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characteristics or areas of risk concentration. Credit loss assumptions are estimated using a model that categorizes loan pools based on loan type and purpose. This model calculates an expected life-of-loan loss percentage for each loan category by considering the probability of default using historical life-of-loan analysis periods for agricultural, 1 to 4 family first and junior liens, commercial and consumer segments, and the severity of loss, based on the aggregate net lifetime losses incurred per loan class.

The component of the allowance for credit losses for loans that share common risk characteristics also considers factors for each loan class to adjust for differences between the historical period used to calculate historical default and loss severity rates and expected conditions over the remaining lives of the loans in the portfolio related to:

•Lending policies and procedures;

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

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

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

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

•The quality of our loan review and process;

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

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

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

Such factors are used to adjust the historical probabilities of default and severity of loss so that they reflect management expectation of future conditions based on a reasonable and supportable forecast. To the extent the lives of the loans in the portfolio extend beyond the period for which a reasonable and supportable forecast can be made, the bank reduces, on a straight-line basis over the remaining life of the loans, the adjustments so that model reverts back to the historical rates of default and severity of loss.

The ~~expense for~~ credit loss expense recorded through earnings is the amount necessary to maintain the allowance for credit losses at the amount of expected credit losses inherent within the loans held for investment portfolio. The amount of expense and the corresponding level of allowance for credit losses for loans are based on our evaluation of the collectability of the loan portfolio based on historical loss experience, reasonable and supportable forecasts, and other significant qualitative and quantitative factors.

The allowance for credit losses for loans, as reported in our consolidated balance sheet, is adjusted by an expense for credit losses, which is recognized in earnings, and reduced by the charge-off of loan amounts, net of recoveries. For further information on the allowance for credit losses for loans, see Note 1 - Summary of Significant Accounting Policies and Note 5 - Loans in the notes to the financial statements of this Form 10-Q.

~~Pre-ASC 326 CECL Adoption:~~

The Company's consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The financial information contained within these financial statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred. Based on its consideration of accounting policies that involve the most complex and subjective decisions and assessments, management has identified its most critical accounting policies to be those which are related to the allowance for loan losses. The Company's allowance for loan losses methodology incorporates a variety of risk considerations, both quantitative and qualitative in establishing an allowance for loan losses that management believes is appropriate at each reporting date. Quantitative factors include the Company's historical loss experience, delinquency and charge-off trends, collateral values, changes in impaired loans, and other factors. Quantitative factors also incorporate known information about individual loans, including borrowers' sensitivity to interest rate movements. Qualitative factors include the general economic environment in the Company's markets, including economic conditions throughout the Midwest and the state of certain industries. Determinations relating to the possible level of future loan losses are based in part on subjective judgments by management. Future loan losses in excess of current estimates, could materially adversely affect our results of operations or financial position. Size and complexity of individual credits in relation to loan structure, existing loan policies and pace of portfolio growth are other qualitative factors that are considered in the methodology. As the Company adds new products and increases the complexity of its loan portfolio, it will enhance its methodology accordingly. This discussion of the Company’s critical accounting policies should be read in conjunction with the Company’s consolidated financial statements and the accompanying notes presented elsewhere herein, as well as other relevant portions of Management’s Discussion and Analysis of Financial Condition and Results of Operations.

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Overview

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

The Company is a holding company engaged in the business of commercial banking. The Company’s subsidiary is Hills Bank and Trust Company, Hills, Iowa (the “Bank”), which is wholly-owned. The Bank was formed in Hills, Iowa in 1904. The Bank is a full-service commercial bank extending its services to individuals, businesses, governmental units and institutional customers primarily in the communities of Hills, Iowa City, Coralville, North Liberty, Lisbon, Mount Vernon, Kalona, Wellman, Cedar Rapids, Marion, and Washington, Iowa. At ~~September 30, 2021,~~March 31, 2022, the Bank has nineteen full-service locations.

Net income for the ~~nine~~three month period ended ~~September 30, 2021~~March 31, 2022 was ~~$41.93~~$10.65 million compared to ~~$30.22~~$15.20 million for the same ~~nine~~three months of ~~2020, an increase~~2021, a decrease of ~~38.77%~~29.91%. The ~~$11.72~~$4.55 million ~~increase~~decrease in net income was caused by a number of factors. The principal factors in the ~~increase~~decrease in net income for the first ~~nine~~three months of ~~2021~~2022 are a ~~reversal in the~~ credit loss ~~reserves~~expense of ~~$4.56~~$1.10 million, primarily due to ~~improvements in economic factor forecasts, historical loss rates and net recoveries year-to-date; an increase~~increased outstanding loan commitments; a decrease in noninterest income of ~~$5.06~~$1.56 million; and ~~an increase~~a decrease in net interest income of ~~$4.05~~$1.05 million.

The Company achieved a return on average assets of ~~1.32%~~1.09% and a return on average equity of ~~12.14%~~10.23% for the twelve months ended ~~September 30, 2021,~~March 31, 2022, compared to the twelve months ended ~~September 30, 2020,~~March 31, 2021, which were ~~1.22%~~1.29% and ~~11.00%~~11.67%, respectively. The return on average assets and return on average equity for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 were ~~1.43%~~1.07% and ~~13.32%~~10.08%, respectively, compared to the ~~nine~~three months ended ~~September 30, 2020,~~March 31, 2021, which were ~~1.16%~~1.60% and ~~10.33%~~14.88%, respectively. Dividends of ~~$0.94~~$1.00 per share were paid in January ~~2021~~2022 to ~~2,701~~2,727 shareholders. The dividend paid in January ~~2020~~2021 was ~~$0.89~~$0.94 per share.

The Company’s net interest income is the largest component of revenue and it is primarily a function of the average earning assets and the net interest margin percentage. The Company achieved a net interest margin on a tax-equivalent basis of ~~2.83%~~2.64% for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 compared to ~~3.05%~~2.90% for the same ~~nine~~three months of ~~2020.~~2021. Average earning assets were ~~$3.823~~$3.942 billion year to date in ~~2021~~2022 and ~~$3.362~~$3.734 billion in ~~2020.~~2021.

Highlights noted on the balance sheet as of ~~September 30, 2021~~March 31, 2022 for the Company included the following:

•Total assets were ~~$4.086~~$4.153 billion, an increase of ~~$305.47~~$108.29 million since December 31, ~~2020.~~2021.

•Cash and cash equivalents were ~~$869.10~~$718.94 million, ~~an increase~~a decrease of ~~$294.79~~$62.98 million since December 31, ~~2020.~~2021. A portion of the ~~increase~~decrease can be attributed to increased ~~savings with the current negative economic environment due to the pandemic~~investments in U.S Treasury and ~~equity investors fleeing volatile capital markets in an effort to preserve principal.~~mortgage-backed securities of approximately $156.4 million since December 31, 2021. Also, cash and cash equivalents included approximately $100 million of temporary public funds.

•Net loans were ~~$2.630~~$2.657 billion, ~~a decrease~~an increase of ~~$88.02~~$25.87 million since December 31, ~~2020.~~2021. The ~~decrease~~increase is primarily attributable to ~~the Bank receiving $120.07~~approximately $15.2 million ~~of PPP loan forgiveness payments from the SBA for the nine months ended September 30,~~growth in construction loans and $10.2 million growth in 1-4 family first mortgages since December 31, 2021. Loans held for sale decreased ~~$33.21~~$1.01 million since December 31, ~~2020.~~

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

•Deposits increased ~~$275.69~~$127.59 million since December 31, ~~2020.~~2021. A portion of the increase can be attributed to increased savings with the current negative economic environment due to the pandemic. Also, deposit growth included approximately $100 million in temporary public funds.

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

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

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Financial Condition

The ongoing fallout from the COVID-19 pandemic, ~~has~~including lingering supply chain and labor market disruptions, as well as significant inflationary pressures have created significant uncertainty regarding projecting loan demand throughout ~~2021.~~2022. However, outstanding loan commitments continue to be significantly elevated compared to historical levels.

The following table sets forth the composition of the loan portfolio as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020:~~2021:

September 30, 2021 December 31, 2020
Amount Percent Amount Percent
(Amounts In Thousands) (Amounts In Thousands)
Agricultural $ 94,210 3.55 % $ 94,842 3.50 %
Commercial and financial 228,181 8.60 286,242 10.56
Real estate:
Construction, 1 to 4 family residential 73,167 2.76 71,117 2.62
Construction, land development and commercial 118,623 4.47 111,913 4.13
Mortgage, farmland 241,650 9.11 247,142 9.12
Mortgage, 1 to 4 family first liens 898,333 33.85 892,089 32.92
Mortgage, 1 to 4 family junior liens 115,308 4.34 127,833 4.72
Mortgage, multi-family 389,805 14.69 374,014 13.80
Mortgage, commercial 410,050 15.45 417,139 15.39
Loans to individuals 32,235 1.21 31,325 1.16
Obligations of state and political subdivisions 52,299 1.97 56,488 2.08
$ 2,653,861 100.00 % $ 2,710,144 100.00 %
Net unamortized fees and costs 927 938
$ 2,654,788 $ 2,711,082
Less allowance for credit losses (2021) and loan losses (2020) 35,590 37,070
$ 2,619,198 $ 2,674,012

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	March 31, 2022				December 31, 2021
	Amount		Percent		Amount		Percent
	(Amounts In Thousands)				(Amounts In Thousands)
Agricultural	$	104,900	3.90	%	$	106,933	4.02	%
Commercial and financial	223,702		8.32		222,002		8.35
Real estate:
Construction, 1 to 4 family residential	87,390		3.25		80,486		3.03
Construction, land development and commercial	135,353		5.04		127,021		4.77
Mortgage, farmland	236,573		8.80		232,744		8.75
Mortgage, 1 to 4 family first liens	919,734		34.22		909,564		34.19
Mortgage, 1 to 4 family junior liens	111,278		4.14		114,342		4.30
Mortgage, multi-family	381,942		14.21		382,792		14.39
Mortgage, commercial	404,769		15.06		401,377		15.09
Loans to individuals	31,568		1.17		32,687		1.23
Obligations of state and political subdivisions	50,397		1.89		50,285		1.88
	$	2,687,606	100.00	%	$	2,660,233	100.00	%
Net unamortized fees and costs	186				299
	$	2,687,792			$	2,660,532
Less allowance for credit losses	35,850				35,470
	$	2,651,942			$	2,625,062

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

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

In accordance with Staff Accounting Bulletin No. 102, Selected Loan Loss Allowance Methodology and Documentation Issues, and Staff Accounting Bulletin No. 119, which aligns the staff's guidance with FASB ASC Topic 326, or CECL, the Company determines and assigns ratings to loans using factors that include the following: an assessment of the financial condition of the

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borrower; a realistic determination of the value and adequacy of underlying collateral; the condition of the local economy and the condition of the specific industry of the borrower; an analysis of the levels and trends of loan categories; and a review of delinquent and classified loans.

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

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The following table presents the allowance for credit losses as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 by loan category, the percentage of the allowance for each category to the total allowance, and the percentage of all loans in each category to total loans:


		September 30, 2021						December 31, 2020							March 31, 2022						December 31, 2021
		Amount		% of Total Allowance		% of Loans to Total Loans		Amount		% of Total Allowance		% of Loans to Total Loans			Amount		% of Total Allowance		% of Loans to Total Loans		Amount		% of Total Allowance		% of Loans to Total Loans
		(In Thousands)						(In Thousands)							(In Thousands)						(In Thousands)
Agricultural	Agricultural	$	2,118	5.95	%	3.55	%	$	2,508	6.77	%	3.50	%	Agricultural	$	2,414	6.73	%	3.90	%	$	2,261	6.37	%	4.02	%
Commercial and financial	Commercial and financial	4,348		12.22		8.60		4,885		13.18		10.56		Commercial and financial	4,895		13.65		8.32		4,269		12.04		8.35
Real estate:	Real estate:													Real estate:
Construction, 1 to 4 family residential	Construction, 1 to 4 family residential	762		2.14		2.76		907		2.45		2.62		Construction, 1 to 4 family residential	812		2.26		3.25		818		2.31		3.03
Construction, land development and commercial	Construction, land development and commercial	1,535		4.31		4.47		1,412		3.81		4.13		Construction, land development and commercial	1,535		4.28		5.04		1,482		4.18		4.77
Mortgage, farmland	Mortgage, farmland	4,663		13.10		9.11		4,173		11.26		9.12		Mortgage, farmland	3,310		9.23		8.80		3,433		9.68		8.75
Mortgage, 1 to 4 family first liens	Mortgage, 1 to 4 family first liens	7,922		22.26		33.85		10,871		29.32		32.92		Mortgage, 1 to 4 family first liens	8,441		23.56		34.22		8,340		23.52		34.19
Mortgage, 1 to 4 family junior liens	Mortgage, 1 to 4 family junior liens	2,942		8.27		4.34		1,497		4.04		4.72		Mortgage, 1 to 4 family junior liens	2,997		8.36		4.14		3,158		8.90		4.30
Mortgage, multi-family	Mortgage, multi-family	3,713		10.43		14.69		4,462		12.04		13.80		Mortgage, multi-family	3,145		8.77		14.21		3,715		10.47		14.39
Mortgage, commercial	Mortgage, commercial	6,505		18.28		15.45		4,953		13.36		15.39		Mortgage, commercial	7,089		19.77		15.06		6,783		19.12		15.09
Loans to individuals	Loans to individuals	633		1.78		1.21		752		2.03		1.16		Loans to individuals	769		2.15		1.17		771		2.17		1.23
Obligations of state and political subdivisions	Obligations of state and political subdivisions	449		1.26		1.97		650		1.74		2.08		Obligations of state and political subdivisions	443		1.24		1.89		440		1.24		1.88
		$	35,590	100.00	%	100.00	%	$	37,070	100.00	%	100.00	%		$	35,850	100.00	%	100.00	%	$	35,470	100.00	%	100.00	%

The allowance for credit losses (ACL) totaled ~~$35.59~~$35.85 million at ~~September 30, 2021~~March 31, 2022 compared to the allowance for loan losses under the incurred loss method of ~~$37.07~~$35.47 million at December 31, ~~2020.~~2021. The percentage of the allowance to outstanding loans was ~~1.34%~~1.33% and ~~1.37%~~1.33% at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, respectively. The allowance was based on management’s consideration of a number of factors, including composition of the loan portfolio, loans with higher credit risks and the overall amount of loans outstanding. ~~Due to the adoption of ASC 326 (CECL) in 2021, the ACL under CECL will not be comparable to the allowance for loan losses in 2020.~~ The changes in the ACL in ~~2021~~2022 compared to December 31, ~~2020~~2021 is the result of the following factors: ~~$2.75 million increase upon adoption of ASC 326 (CECL) on January 1, 2021; changes after adoption for the nine months ended September 30, 2021 include~~ improvements in the economic factor forecasts, primarily Iowa unemployment, used in the ACL calculation which resulted in a decrease of ~~$1.14~~$0.54 million; ~~decrease~~increase in loan volume which resulted in ~~a decrease~~an increase of ~~$0.75~~$0.42 million; changes in prepayment and curtailment rates resulting in a decrease of ~~$1.03~~$0.24 million; ~~decreases~~increases in historical loss rates ~~along with net recoveries~~ resulting in ~~a decrease~~an increase of ~~$2.07~~$0.18 million; ~~decreases~~increase in the individually analyzed loans reserve of ~~$0.42~~$0.23 million; and increases in qualitative factors determined necessary by management which resulted in an increase of ~~$0.71~~$0.33 million.

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

Management has determined that the allowance for credit losses was adequate at ~~September 30, 2021,~~March 31, 2022, and that the loan portfolio is diversified and secured, without undue concentration in any specific risk area. This process involves a high degree of management judgment; however, the allowance for credit losses is based on a comprehensive, well documented, and

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~~HILLS BANCORPORATION~~

consistently applied analysis of the Company’s loan portfolio. This analysis takes into consideration all available information existing as of the financial statement date, including environmental factors such as economic, industry, geographical and political factors. The relative level of allowance for credit losses is reviewed and compared to industry data. This review encompasses levels of total collateral-dependent loans, portfolio mix, portfolio concentrations, current geographic risks and overall levels of net charge-offs.

Investment securities available for sale held by the Company increased by ~~$92.89~~$136.42 million from December 31, ~~2020~~2021 to ~~September 30, 2021.~~March 31, 2022. The fair value of securities available for sale was ~~$5.69~~$27.80 million ~~more~~less than the amortized cost of such securities as of ~~September 30, 2021.~~March 31, 2022. At December 31, ~~2020,~~2021, the fair value of the securities available for sale was ~~$11.70~~$1.97 million more than the amortized cost of such securities.

Deposits increased ~~$275.69~~$127.59 million in the first ~~nine~~three months of ~~2021~~2022 primarily due to ~~increased savings with~~ the ~~current negative economic environment.~~increase in temporary public funds for property taxes. In the opinion of the Company’s management, the Company continues to have sufficient liquidity resources available to fund expected additional loan growth.

Brokered deposits are included in total deposits and totaled ~~$51.58~~$51.60 million as of ~~September 30, 2021~~March 31, 2022 with an average rate of ~~0.36%~~0.37%. Brokered deposits were ~~$74.08~~$51.59 million as of December 31, ~~2020~~2021 with an average interest rate of ~~0.34%~~0.36%. As of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, brokered deposits were ~~1.49%~~1.41% and ~~2.32%~~1.46% of total deposits, respectively.

There were no Federal Home Loan Bank (FHLB) borrowings ~~were $105 million~~ as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020.~~2021. The FHLB funding source is considered when loan growth exceeds core deposit increases and the interest rates on funds borrowed from the FHLB are favorable compared to other funding alternatives.

Dividends and Equity

In January ~~2021,~~2022, Hills Bancorporation paid a dividend of ~~$8.77~~$9.31 million or ~~$0.94~~$1.00 per share. The dividend paid in January ~~2020~~2021 was ~~$0.89~~$0.94 per share. After payment of the dividend and the adjustment for accumulated other comprehensive income, stockholders’ equity as of ~~September 30, 2021~~March 31, 2022 totaled ~~$436.30~~$414.16 million. On January 1, 2015, the final rules of the Federal Reserve Board went into effect implementing in the United States the Basel III regulatory capital reforms from the Basel Committee on Banking Supervision. The final rule also adopted changes to the agencies’ regulatory capital requirements that meet the requirements of section 171 and section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

Under the BASEL III rules, the minimum capital ratios are 4% for Tier 1 Leverage Capital Ratio, 4.5% for the Common Equity Tier 1 Capital Ratio, 6% for the Tier 1 Risk-Based Capital Ratio and 8% for the Total Risk-Based Capital Ratio. ~~As of March 31, 2020, the~~The Bank elected to use the Community Bank Leverage Ratio (CBLR) framework as provided for in the Economic Growth, Regulatory Relief and Consumer Protection Act. Under the CBLR framework, the Bank is required to maintain a CBLR of greater than 9%. The CARES Act reduced the minimum ratio to 8% beginning in the 2nd quarter of 2020 through December 31, 2020, increasing to 8.5% for 2021 and returning to 9% beginning January 1, 2022. As of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020,~~2021, the Company had regulatory capital in excess of the Federal Reserve’s minimum and well-capitalized definition requirements. The actual amounts and capital ratios as of ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020~~2021 are presented below (amounts in thousands):

Actual For Capital Adequacy Purposes
Amount Ratio Ratio
As of September 30, 2021:
Company:
Community Bank Leverage ratio $ 478,368 11.99 % 8.500 %
Bank:
Community Bank Leverage ratio 478,951 12.01 8.500

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	Actual				For Capital Adequacy Purposes
	Amount		Ratio		Ratio
As of March 31, 2022:
Company:
Community Bank Leverage ratio	$	484,461	11.99	%	9.000	%

Bank:
Community Bank Leverage ratio	485,045		12.01		9.000

Actual For Capital Adequacy Purposes
Amount Ratio Ratio
As of December 31, 2020:
Company:
Community Bank Leverage ratio $ 452,123 11.91 % 8.00 %
Bank:
Community Bank Leverage ratio 453,073 11.94 8.00


	Actual				For Capital Adequacy Purposes
	Amount		Ratio		Ratio
As of December 31, 2021:
Company:
Community Bank Leverage ratio	$	484,486	11.80	%	8.50	%

Bank:
Community Bank Leverage ratio	484,429		11.80		8.50

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Discussion of operations for the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021 ~~and 2020~~

Net Income Overview

Net income ~~increased $11.72~~decreased $4.55 million for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 compared to the first ~~nine~~three months of ~~2020.~~2021. Total net income was ~~$41.93~~$10.65 million in ~~2021~~2022 and ~~$30.22~~$15.20 million in the comparable period in ~~2020, an increase~~2021, a decrease of ~~38.77%~~29.91%. The changes in net income in ~~2021~~2022 from the first ~~nine~~three months of ~~2020~~2021 were primarily the result of the following:

•Net interest income ~~increased~~decreased by ~~$4.05~~$1.05 million, before credit loss expense, attributable in large part to ~~a $7.31~~decreased PPP loan fees of $1.88 million ~~decrease in interest rate expense.~~compared to the three months ended March 31, 2021.

•For the ~~nine~~three months ended ~~September 30, 2021,~~March 31, 2022, a credit loss expense was recorded totaling $1.10 million. This represents an increase in expense of $4.09 million from the reversal of credit loss reserves ~~was recorded totaling $4.56 million. This represents a decrease~~ of ~~$9.06 million from the provision for loan losses under the incurred loss model of $4.50~~$2.98 million for the ~~nine~~three months ended ~~September 30, 2020.~~March 31, 2021.

•Noninterest income ~~increased~~decreased by ~~$5.06~~$1.56 million.

•Noninterest expenses ~~increased~~decreased by ~~$2.96~~$0.62 million.

•Income tax expense ~~increased~~decreased by ~~$3.49~~$1.53 million.

For the ~~nine~~three month period ended ~~September 30,~~March 31, 2022 and March 31, 2021 ~~and September 30, 2020~~ basic earnings per share was ~~$4.50~~$1.15 and ~~$3.22,~~$1.63, respectively. Diluted earnings per share was ~~$4.50~~$1.15 for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 compared to ~~$3.22~~$1.63 for the same period in ~~2020.~~2021.

The Company’s net income for the period was driven primarily by three important factors. The first important factor is credit loss expense recorded under CECL. The majority of the Company’s interest-earning assets are in loans outstanding, which amounted to more than ~~$2.630~~$2.657 billion at ~~September 30, 2021.~~March 31, 2022. Expected credit loss expense is computed on a quarterly basis and is a result of management’s determination of the quality of the loan portfolio. The expense reflects a number of factors, including the size of the loan portfolio, the overall composition of the loan portfolio and loan concentrations, the borrowers’ ability to repay, past loss experience, loan collateral values, the level of collateral-dependent loans and loans past due ninety days or more. In addition, management considers the credit quality of the loans based on management’s review of problem and watch loans, including loans with historically higher credit risk. Credit loss expense was $1.10 million in 2022 compared to a reduction of expense of ~~$4.56 million in 2021 under CECL compared to an expense of $4.50~~$2.98 million in ~~2020 under~~2021. The increase in expense when compared to the ~~incurred loss model. The decrease~~same period in 2021 is attributable to ~~improvements~~increases in ~~the economic~~outstanding loan commitments, loan volume and qualitative factor ~~forecasts,~~increases determined by management. The reduction in expense in 2021 was primarily ~~Iowa unemployment, and continued improvement in asset quality, relative~~due to the ~~sizable expense taken for the first half of 2020 from management~~ increases to ~~qualitative factors as a result of~~ the ~~significant economic uncertainties surrounding~~allowance taken in 2020 in response to the ~~pandemic.~~COVID-19 pandemic that were released in 2021. The Company believes that credit loss expense is expected to be dependent on the Company’s loan growth, local economic conditions, including, but not limited to, conditions associated with the COVID-19 pandemic and the attendant risks and uncertainties related thereto, and asset ~~quality and will continue to have potential volatility for the foreseeable future resulting from the adoption of CECL in the first quarter and the uncertainties due to the COVID-19 pandemic.~~quality.

The second important factor affecting the Company’s net income is the interaction between changes in net interest margin and changes in average volumes of the Bank's earnings assets. Net interest income of ~~$79.45~~$25.18 million for the first ~~nine~~three months of ~~2021~~2022 was derived from the Company’s ~~$3.823~~$3.942 billion of average earning assets during that period and its tax-equivalent net interest margin of ~~2.83%~~2.64%. Average earning assets in the ~~nine~~three months ended ~~September 30, 2020~~March 31, 2021 were ~~$3.362~~$3.734 billion and the tax-equivalent net interest margin was ~~3.05%~~2.90%. Net interest income for the Company ~~increased~~decreased primarily as a result of the continued low interest rates on ~~interest bearing deposits~~loans resulting in decreased interest ~~expenses.~~income as well as no PPP fee income in 2022 compared to 2021. The Company expects net interest compression to impact earnings for the foreseeable future due to competition for loans and deposits combined with the low interest rate ~~decreases by the Federal Reserve Board.~~environment in 2021 and 2020 resulting in decreased net interest income. The Company believes growth in net interest income will be contingent on the growth of the Company’s earning assets, ~~and maintaining~~increasing yield on ~~loans.~~loans and the continued interest rate increases by the Federal Reserve Board.

The third significant factor affecting the Company’s net income is noninterest income, primarily the decrease in net gain on the sale of ~~loans and trust fees.~~loans. The net gain on the sale of loans was ~~$6.24~~$0.81 million and ~~$4.86~~$3.00 million for the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021, ~~and 2020,~~ respectively, ~~an increase~~a decrease of ~~28.48%~~73.00% for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 compared to the same period in ~~2020.~~2021. The amount of the net gain on sale of secondary market mortgage loans in each year can vary significantly. The volume of activity in these types of loans is directly related to the level of interest rates as well as the current origination and refinancing activity. The volume has been significantly impacted by the Federal Reserve Board's ~~reduction~~planned increases of the federal funds rate ~~to 0.25%,~~throughout 2022, resulting in a significant decline in the amount of mortgage loan origination and refinance activity. Trust fees were $9.65 million and $7.45 million for the nine months ended September 30, 2021 and 2020, respectively, an increase of 29.46% for the nine months ended September 30, 2021 compared to the same period in 2020. This is primarily driven by the increase in assets under management of $0.45 billion from $1.98 billion as of September 30, 2020 to $2.43 billion as of September 30, 2021.

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

Net Interest Income

Net interest income ~~increased~~decreased for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 compared to the comparable period in ~~2020.~~2021. The ~~increase~~decrease was ~~a result~~primarily attributable to decreased PPP loan fees of $1.88 million compared to the ~~continued low interest rates on interest bearing deposits resulting in decreased interest expenses.~~three months ended March 31, 2021. The decrease in interest ~~expense more than compensated for~~income was partially offset by the decrease in interest ~~income~~expense associated with the low rate environment. Net interest income is the excess of the interest and fees earned on interest-earning bearing assets over the interest expense of the interest-bearing liabilities. The factors that have the greatest impact on net interest income are the average volume of earning assets for the period and the net interest margin. The net interest margin for the first ~~nine~~three months of ~~2021~~2022 was ~~2.83%~~2.64% compared to ~~3.05%~~2.90% in ~~2020~~2021 for the same period. ~~Interest expense decreased $7.31 million for the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020 primarily due to decreasing interest rates on deposits.~~ The measure is shown on a tax-equivalent basis using a tax rate of 21% to make the interest earned on taxable and non-taxable assets more comparable. The change in average balances and average rates between periods and the effect on the net interest income on a tax equivalent basis for the ~~nine~~three months ended in ~~2021~~2022 compared to the comparable period in ~~2020~~2021 are shown in the following table:


						Increase (Decrease) in Net Interest Income											Increase (Decrease) in Net Interest Income
		Change in Average Balance		Change in Average Rate		Volume Changes		Rate Changes		Net Change			Change in Average Balance		Change in Average Rate		Volume Changes		Rate Changes		Net Change
		(Amounts in Thousands)											(Amounts in Thousands)
Interest income:	Interest income:											Interest income:
Loans, net	Loans, net	$	(40,757)	(0.07)	%	$	(1,648)	$	(1,406)	$	(3,054)	Loans, net	$	(29,345)	(0.48)	%	$	(623)	$	(2,826)	$	(3,449)
Taxable securities	Taxable securities	58,102		(0.52)		607		(634)		(27)		Taxable securities	147,728		(0.33)		624		(310)		314
Nontaxable securities	Nontaxable securities	23,396		(0.33)		468		(548)		(80)		Nontaxable securities	42,142		(0.26)		249		(170)		79
Federal funds sold	Federal funds sold	419,563		(0.24)		1,134		(1,283)		(149)		Federal funds sold	47,994		0.09		12		159		171
		$	460,304			$	561	$	(3,871)	$	(3,310)		$	208,519			$	262	$	(3,147)	$	(2,885)

Interest expense:	Interest expense:											Interest expense:
Interest-bearing demand deposits	Interest-bearing demand deposits	$	200,364	(0.32)	%	$	(804)	$	2,423	$	1,619	Interest-bearing demand deposits	$	143,368	(0.10)	%	$	(98)	$	279	$	181
Savings deposits	Savings deposits	219,772		(0.19)		(499)		1,434		935		Savings deposits	158,422		(0.05)		(61)		139		78
Time deposits	Time deposits	(37,519)		(0.46)		638		2,246		2,884		Time deposits	(99,389)		(0.28)		434		404		838
FHLB borrowings	FHLB borrowings	(80,000)		(0.10)		1,789		81		1,870		FHLB borrowings	(105,000)		(2.82)		741		—		741
Interest-bearing other liabilities	Interest-bearing other liabilities	(1)		(0.79)		—		—		—		Interest-bearing other liabilities	(1)		(0.10)		—		—		—
		$	302,616			$	1,124	$	6,184	$	7,308		$	97,400			$	1,016	$	822	$	1,838
Change in net interest income	Change in net interest income					$	1,685	$	2,313	$	3,998	Change in net interest income					$	1,278	$	(2,325)	$	(1,047)

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

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


(Tax Equivalent Basis)	(Tax Equivalent Basis)	2021		2020		(Tax Equivalent Basis)	2022		2021
Yield on average interest-earning assets	Yield on average interest-earning assets	3.30	%	3.88	%	Yield on average interest-earning assets	2.94	%	3.43	%
Rate on average interest-bearing liabilities	Rate on average interest-bearing liabilities	0.63		1.08		Rate on average interest-bearing liabilities	0.42		0.70
Net interest spread	Net interest spread	2.67	%	2.80	%	Net interest spread	2.52	%	2.73	%
Effect of noninterest-bearing funds	Effect of noninterest-bearing funds	0.16		0.25		Effect of noninterest-bearing funds	0.12		0.17
Net interest margin (tax equivalent interest income divided by average interest-earning assets)	Net interest margin (tax equivalent interest income divided by average interest-earning assets)	2.83	%	3.05	%	Net interest margin (tax equivalent interest income divided by average interest-earning assets)	2.64	%	2.90	%

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

In pricing loans and deposits, the Bank considers the U.S. Treasury indexes as benchmarks in determining interest rates. The Federal Open Market Committee met ~~six~~two times during the first ~~nine~~three months of ~~2021.~~2022. The target rate ~~decreased~~increased to ~~0.25%~~0.50% as of March 31, ~~2020.~~2022. Interest rates on loans are generally affected by the target rate since interest rates for the U.S. Treasury market normally increase or decrease when the Federal Reserve Board raises or lowers the federal funds rate. As of ~~September 30, 2021,~~March 31, 2022, the rate indexes for the one, three and five year indexes were ~~0.09%~~1.63%, ~~0.53%~~2.45% and ~~0.98%~~2.42%, respectively. The one year index ~~decreased 25.00%~~increased 2,228.72% from ~~0.12%~~0.07% at ~~September 30, 2020,~~March 31, 2021, the three year index increased ~~231.25%~~600.00% and the five year index increased ~~250.00%~~163.04%. The three year index was ~~0.16%~~0.35% and the five year index was ~~0.28%~~0.92% at ~~September 30, 2020.~~March 31, 2021. The targeted federal funds rate was 0.50% at March 31, 2022 and 0.25% at ~~September 30, 2021 and 2020.~~March 31, 2021. The Company anticipates short term and long term rates in the indexes to remain consistent throughout 2021.

Credit Loss Expense

Credit loss expense was $1.10 million for the three months ended March 31, 2022 compared to a reduction of expense of ~~$4.56 million for the nine months ended September 30, 2021 compared to an expense of $4.50~~$2.98 million in ~~2020 under the incurred loss model, a decrease~~2021, an increase of expense of ~~$9.06~~$4.09 million. Credit loss expense is the amount necessary to adjust the allowance for credit losses to the level considered by management to appropriately account for the estimated current expected credit losses within the Bank's loan portfolio. The credit loss expense taken to fund the allowance for credit losses is computed on a quarterly basis and is a result of management’s determination of the quality of the loan portfolio. The expense reflects a number of factors, including the size of the loan portfolio, the overall composition of the loan portfolio and loan concentrations, the impact on the borrowers’ ability to repay, past loss experience, loan collateral values, the level of collateral-dependent loans and loans past due ninety days or more. In addition, management considers the credit quality of the loans based on management’s review of problem and watch loans, including loans with historically higher credit risks. Also, under CECL, a significant component in estimating expected credit losses are economic forecasts such as Iowa unemployment, ~~national real gross domestic product (GDP),~~ all-transactions house price index for Iowa and Iowa real ~~GDP,~~gross domestic product. The increase in expense when compared to the same period in 2021 is attributable to increases in outstanding loan commitments, loan volume and qualitative factor increases determined by management. The reduction in expense in 2021 was primarily due to the ~~commercial real estate price index (CRE Index).~~increases to the allowance taken in 2020 in response to the COVID-19 pandemic that were released in 2021. The Company believes that credit loss expense is expected to be dependent on the Company’s loan growth, local economic conditions, including, but not limited to, conditions associated with the COVID-19 pandemic and the attendant risks and uncertainties related thereto, and asset ~~quality and will continue to have potential volatility for the foreseeable future resulting from the adoption of CECL in the first quarter and the uncertainties due to the COVID-19 pandemic.~~quality.

The allowance for credit losses balance is affected by charge-offs, net of recoveries, for the periods presented. For the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021, ~~and 2020,~~ recoveries were ~~$2.19~~$0.46 million and ~~$1.28~~$0.72 million, respectively; and charge-offs were ~~$0.86~~$0.34 million in ~~2021~~2022 and ~~$2.48~~$0.17 million in ~~2020.~~2021. The allowance for credit losses totaled ~~$35.59~~$35.85 million at ~~September 30, 2021~~March 31, 2022 compared to ~~$37.07~~$35.47 million ~~for the allowance for loan losses under the incurred loss model~~ as of December 31, ~~2020.~~2021. The allowance represented ~~1.34%~~1.33% and ~~1.37%~~1.33% of loans held for investment at ~~September 30, 2021~~March 31, 2022 and December 31, ~~2020.~~2021.

Noninterest Income

The following table sets forth the various categories of noninterest income for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 and ~~2020.~~2021.


		Nine Months Ended September 30,									Three Months Ended March 31,
		2021		2020		$ Change		% Change			2022		2021		$ Change		% Change
		(Amounts in thousands)									(Amounts in thousands)
Net gain on sale of loans	Net gain on sale of loans	$	6,243	$	4,859	$	1,384	28.48	%	Net gain on sale of loans	$	811	$	3,003	$	(2,192)	(72.99)	%
Trust fees	Trust fees	9,645		7,450		2,195		29.46		Trust fees	3,268		3,013		255		8.46
Service charges and fees	Service charges and fees	8,729		7,427		1,302		17.53		Service charges and fees	2,880		2,540		340		13.39
Other noninterest income	Other noninterest income	647		462		185		40.04		Other noninterest income	518		482		36		7.47
Gain on sale of investment securities		—		10		(10)		(100.00)
		$	25,264	$	20,208	$	5,056	25.02
											$	7,477	$	9,038	$	(1,561)	(17.27)

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

In the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021, ~~and 2020,~~ the net gain on sale of loans was ~~$6.24~~$0.81 million and ~~$4.86~~$3.00 million, respectively. The amount of the net gain on sale of secondary market mortgage loans in each year can vary significantly. The volume of activity, margin and demand in these types of loans is directly related to the level of interest ~~rates.~~rates as well as the current origination and refinancing activity. The primary reason for the ~~increase~~decrease in ~~2021~~2022 compared to ~~2020~~2021 is the increased ~~margin per loan~~mortgage interest rates in ~~2021.~~the first quarter 2022. The servicing of the loans sold into the secondary market is not retained by the Company so these loans do not provide an ongoing stream of income.

~~Trust~~Service charges and fees increased ~~$2.20 million to $9.65~~$0.34 million for the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 compared to the same period in ~~2020. This is due to the increase in assets under management of $0.45 billion from $1.98 billion as of September 30, 2020 to $2.43 billion as of September 30, 2021.~~

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

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

~~Noninterest Expenses~~

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

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

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

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

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

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

~~Net Income Overview~~

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

~~Net Interest Income~~

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

Increase (Decrease) in Net Interest Income
Change in
Average Balance Change in
Average Rate Volume Changes Rate Changes Net Change
(Amounts in Thousands)
Interest income:
Loans, net $ (111,056) 0.07 % $ (1,428) $ 663 $ (765)
Taxable securities 79,512 (0.49) 295 (244) 51
Nontaxable securities 35,003 (0.35) 231 (194) 37
Federal funds sold 350,448 0.05 89 97 186
$ 353,907 $ (813) $ 322 $ (491)
Interest expense:
Interest-bearing demand deposits $ 155,850 (0.20) % $ (159) $ 541 $ 382
Savings deposits 235,776 (0.09) (143) 249 106
Time deposits (85,287) (0.48) 435 740 1,175
FHLB borrowings (80,000) (0.12) 600 30 630
Interest-bearing other liabilities (3) 0.12 — — —
$ 226,336 $ 733 $ 1,560 $ 2,293
Change in net interest income $ (80) $ 1,882 $ 1,802

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

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

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

~~Credit Loss Expense~~

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

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

~~Noninterest Income~~

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

Three Months Ended September 30,
2021 2020 $ Change % Change
(Amounts in thousands)
Net gain on sale of loans $ 1,512 $ 2,303 $ (791) (34.35) %
Trust fees 3,568 2,494 1,074 43.06
Service charges and fees 3,075 2,636 439 16.65
Other noninterest income 89 77 12 15.58
$ 8,244 $ 7,510 $ 734 9.77

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

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~~Discussion of operations for the three months ended September 30, 2021 and 2020~~March 31, 2022.

Noninterest Expenses

The following table sets forth the various categories of noninterest expenses for the three months ended ~~September 30, 2021~~March 31, 2022 and ~~2020.~~2021.

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

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


	Three Months Ended March 31,
	2022		2021		$ Change		% Change
	(Amounts in thousands)
Salaries and employee benefits	$	10,396	$	10,564	$	(168)	(1.59)	%
Occupancy	1,132		1,138		(6)		(0.53)
Furniture and equipment	1,697		1,983		(286)		(14.42)
Office supplies and postage	484		454		30		6.61
Advertising and business development	730		535		195		36.45
Outside services	2,950		3,188		(238)		(7.47)
FDIC insurance assessment	281		258		23		8.91
Other noninterest expense	405		579		(174)		(30.05)
	$	18,075	$	18,699	$	(624)	(3.34)

Other noninterest expense ~~decreased~~categories experienced marginal period-to-period fluctuations for the three months ended ~~September 30, 2021 compared to the same period in 2020 due to a legal settlement in 2020 that did not recur.~~March 31, 2022.

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Income Taxes

Federal and state income tax expenses were ~~$12.23~~$2.83 million and ~~$8.74~~$4.36 million for the ~~nine~~three months ended ~~September 30,~~March 31, 2022 and 2021, ~~and 2020,~~ respectively. Income taxes as a percentage of income before taxes were ~~22.58%~~20.97% in ~~2021~~2022 and ~~22.43%~~22.29% in ~~2020.~~2021.

Liquidity

The Company actively monitors and manages its liquidity position with the objective of maintaining sufficient cash flows to fund operations, meet client commitments, take advantage of market opportunities and provide a margin against unforeseeable liquidity needs. Federal funds sold and investment securities available for sale are readily marketable assets. Maturities of all investment securities are managed to meet the Company’s normal liquidity needs, to respond to market changes or to adjust the Company’s interest rate risk position. Investment securities available for sale comprised ~~12.27%~~16.56% of the Company’s total assets at ~~September 30, 2021~~March 31, 2022 compared to ~~10.80%~~13.63% at December 31, ~~2020.~~2021.

The Company has historically maintained a stable deposit base and a relatively low level of large deposits, which has mitigated the volatility in the Company’s liquidity position. As of ~~September 30, 2021,~~March 31, 2022, the Company had ~~borrowed $105.00 million~~no outstanding borrowings from the Federal Home Loan Bank (“FHLB”) of Des Moines. Advances are used as a means of providing both long and short-term, fixed-rate funding for certain assets and for managing interest rate risk. The Company had additional borrowing capacity available from the FHLB of approximately ~~$748.05~~$864.08 million at ~~September 30, 2021.~~March 31, 2022.

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As additional sources of liquidity, the Company has the ability to borrow up to $10.00 million from the Federal Reserve Bank of Chicago, and has lines of credit with three banks totaling ~~$538.95~~$545.04 million. The borrowings under these credit lines would be secured by the Bank’s investment securities. The combination of high levels of potentially liquid assets, low dependence on volatile liabilities and additional borrowing capacity provided sources of liquidity for the Company which management considered sufficient at ~~September 30, 2021.~~March 31, 2022.

As of ~~September 30, 2021,~~March 31, 2022, investment securities with a carrying value of ~~$10.14~~$9.54 million were pledged to collateralize public and trust deposits ~~derivative financial instruments,~~ and other borrowings. As of December 31, ~~2020,~~2021, investment securities with a carrying value of ~~$10.23~~$10.03 million were pledged.

Contractual Obligations

There have been no material changes with regard to contractual obligations disclosed in the Company’s Form 10-K for the year ended December 31, ~~2020.~~2021.

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Item 3.			Quantitative and Qualitative Disclosures about Market Risk

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

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

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

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

~~There have been no material changes in the~~The Bank's interest rate risk, as monitored by management, has increased since December 31, ~~2020. Such risk remains~~2021. Our earnings and cash flows are largely dependent upon our net interest income. Interest rates are highly sensitive to many factors that are beyond our control, including domestic and local economic conditions and the policies of various governmental and regulatory agencies and, in particular, the Federal Reserve. The FOMC, with particular attention being given to ongoing supply chain disruptions, rising energy and commodity prices and the global economic impact of the Russia-Ukraine conflict, has signaled that additional increases may be appropriate if inflation pressures remain elevated ~~due~~or intensify. Further increases to prevailing interest rates could influence the interest we receive on loans and investments and the amount of interest we pay on deposits and borrowings. Moreover, additional and aggressive increases to the ~~significant Federal Reserve~~target range for the federal funds rate, ~~cuts~~combined with ongoing geopolitical instability, raise the risk of economic recession. Any such downturn, especially in the ~~first quarter~~regions in which we operate, may adversely affect our asset quality, deposit levels, loan demand and results of ~~2020 and the continued low interest rate environment.~~operations.


Item 4.			Controls and Procedures

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

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HILLS BANCORPORATION

internal controls over financial reporting during the ~~nine~~three months ended ~~September 30, 2021~~March 31, 2022 that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.

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~~Index~~

HILLS BANCORPORATION

PART II - OTHER INFORMATION


Item 1.			Legal Proceedings

None.


Item 1A.			Risk Factors

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

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

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

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

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

2021.

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

The following table sets forth information about the Company’s stock purchases, all of which were made pursuant to the 2005 Stock Repurchase Program, for the three months ended ~~September 30, 2021:~~March 31, 2022:

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


Period	Total number of shares purchased	Average price paid per share		Total number of shares purchased as part of publicly announced plans or programs	Maximum number of shares that may yet be purchased under the plans or programs (1)
January 1 to January 31	6,505	$	68.00	6,505	88,751
February 1 to February 28	16,422	68.75		16,422	72,329
March 1 to March 31	3,485	70.00		3,485	68,844
Total	26,412	$	68.73	26,412	68,844

(1) On July 26, 2005, the Company’s Board of Directors authorized a program to repurchase up to 1,500,000 shares of the Company’s common stock (the “2005 Stock Repurchase Program”). The Company’s Board of Directors has authorized the 2005 Stock Repurchase Program through December 31, ~~2022.~~2023. The Company expects the purchases pursuant to the 2005 Stock Repurchase Program to be made from time to time in private transactions at a price equal to the most recent quarterly independent appraisal of the shares of the Company’s common stock and with the Board reviewing the overall results of the 2005 Stock Repurchase Program on a quarterly basis. All purchases made pursuant to the 2005 Stock Repurchase Program since its inception have been made on that basis. The amount and timing of stock repurchases will be based on various factors, such as the Board’s assessment of the Company’s capital structure and liquidity, the amount of interest shown by shareholders in selling shares of stock to the Company at their appraised value, and applicable regulatory, legal and accounting factors.

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Item 3.			Defaults upon Senior Securities

Hills Bancorporation has no senior securities.


Item 4.			Mine Safety Disclosure

Not applicable.


Item 5.			Other Information

None.

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Item 6.			Exhibits


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

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

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

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SIGNATURES

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


		HILLS BANCORPORATION

Date:	~~November 5, 2021~~May 6, 2022	By: /s/ Dwight O. Seegmiller
		Dwight O. Seegmiller, Director, President and Chief Executive Officer

Date:	~~November 5, 2021~~May 6, 2022	By: /s/ Joseph A. Schueller
		Joseph A. Schueller, Treasurer, Chief Financial Officer and Chief Accounting Officer

Page 7669


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


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