UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

FORM 10-Q

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

For the quarterly period ended March 31, 2015

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 333-90052

NICOLET BANKSHARES, INC.

(Exact name of registrant as specified in its charter)

WISCONSIN (State or other jurisdiction of incorporation or organization)	47-0871001 (I.R.S. Employer Identification No.)
111 North Washington Street Green Bay, Wisconsin 54301 (920) 430-1400 (Address, including zip code, and telephone number, including area code, of Registrant’s principal executive offices)

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Date File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

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

Large accelerated filer o          Accelerated filer x

Non-accelerated filer o (Do not check if a smaller reporting company) Smaller reporting company o

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

As of April 30, 2015 there were 4,016,741 shares of $0.01 par value common stock outstanding.

Nicolet Bankshares, Inc.

TABLE OF CONTENTS

PART I	FINANCIAL INFORMATION		PAGE
	Item 1.	Financial Statements:
		Consolidated Balance Sheets March 31, 2015 (unaudited) and December 31, 2014	3
		Consolidated Statements of Income Three Months Ended March 31, 2015 and 2014 (unaudited)	4
		Consolidated Statements of Comprehensive Income Three Months Ended March 31, 2015 and 2014 (unaudited)	5
		Consolidated Statement of Changes in Stockholders’ Equity Three Months Ended March 31, 2015 (unaudited)	6
		Consolidated Statements of Cash Flows Three Months Ended March 31, 2015 and 2014 (unaudited)	7
		Notes to Unaudited Consolidated Financial Statements	8-26
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	27-46
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk	47
	Item 4.	Controls and Procedures	47
PART II	OTHER INFORMATION
	Item 1.	Legal Proceedings	47
	Item 1A.	Risk Factors	47
	Item 2.	Unregistered Sales of Equity Securities and Use of  Proceeds	47
	Item 3.	Defaults Upon Senior Securities	47
	Item 4.	Mine Safety Disclosures	47
	Item 5.	Other Information	47
	Item 6.	Exhibits	48
		Signatures	48

2

PART I – FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS:

NICOLET BANKSHARES, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

(In thousands, except share and per share data)

	March 31, 2015 (Unaudited)			December 31, 2014 (Audited)
Assets
Cash and due from banks	$	13,613		$	23,975
Interest-earning deposits		44,545			43,169
Federal funds sold		1,686			1,564
Cash and cash equivalents		59,844			68,708
Certificates of deposit in other banks		7,401			10,385
Securities available for sale (“AFS”)		171,946			168,475
Other investments		8,080			8,065
Loans held for sale		8,436			7,272
Loans		879,806			883,341
Allowance for loan losses		(9,537	)		(9,288	)
Loans, net		870,269			874,053
Premises and equipment, net		31,713			31,924
Bank owned life insurance		27,721			27,479
Accrued interest receivable and other assets		18,992			18,924
Total assets	$	1,204,402		$	1,215,285
Liabilities and Stockholders’ Equity
Liabilities:
Demand	$	199,776		$	203,502
Money market and NOW accounts		475,780			494,945
Savings		127,621			120,258
Time		237,601			241,198
Total deposits		1,040,778			1,059,903
Notes payable		21,109			21,175
Junior subordinated debentures		12,377			12,328
Subordinated notes		7,884			-
Accrued interest payable and other liabilities		8,514			10,812
Total liabilities		1,090,662			1,104,218
Stockholders’ Equity:
Preferred equity		24,400			24,400
Common stock		40			41
Additional paid-in capital		44,751			45,693
Retained earnings		42,862			39,843
Accumulated other comprehensive income (“AOCI”)		1,595			1,031
Total Nicolet Bankshares, Inc. stockholders’ equity		113,648			111,008
Noncontrolling interest		92			59
Total stockholders’ equity and noncontrolling interest		113,740			111,067
Total liabilities, noncontrolling interest and stockholders’ equity	$	1,204,402		$	1,215,285
Preferred shares authorized (no par value)		10,000,000			10,000,000
Preferred shares issued and outstanding		24,400			24,400
Common shares authorized (par value $0.01 per share)		30,000,000			30,000,000
Common shares outstanding		4,020,504			4,058,208
Common shares issued		4,083,201			4,124,439

See accompanying notes to unaudited consolidated financial statements.

3

ITEM 1.  Financial Statements Continued:

NICOLET BANKSHARES, INC. AND SUBSIDIARIES

Consolidated Statements of Income

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

	Three Months Ended March 31,
	2015		2014
Interest income:
Loans, including loan fees	$	11,979	$	11,007
Investment securities:
Taxable		394		418
Non-taxable		271		173
Other interest income		100		135
Total interest income		12,744		11,733
Interest expense:
Money market and NOW accounts		566		593
Savings and time deposits		743		688
Short-term borrowings		-		3
Junior subordinated debentures		217		217
Subordinated notes		51		-
Notes payable		164		252
Total interest expense		1,741		1,753
Net interest income		11,003		9,980
Provision for loan losses		450		675
Net interest income after provision for loan losses		10,553		9,305
Noninterest income:
Service charges on deposit accounts		509		494
Trust services fee income		1,204		1,105
Mortgage income		874		215
Brokerage fee income		170		160
Bank owned life insurance		242		214
Rent income		284		300
Investment advisory fees		118		110
Gain on sale or writedown of assets, net		211		750
Other		458		412
Total noninterest income		4,070		3,760
Noninterest expense:
Salaries and employee benefits		5,691		5,295
Occupancy, equipment and office		1,785		1,898
Business development and marketing		485		535
Data processing		831		754
FDIC assessments		164		184
Core deposit intangible amortization		275		335
Other		571		587
Total noninterest expense		9,802		9,588
Income before income tax expense		4,821		3,477
Income tax expense		1,708		1,232
Net income		3,113		2,245
Less: net income attributable to noncontrolling interest		33		31
Net income attributable to Nicolet Bankshares, Inc.		3,080		2,214
Less:  preferred stock dividends		61		61
Net income available to common shareholders	$	3,019	$	2,153
Basic earnings per common share	$	0.75	$	0.51
Diluted earnings per common share	$	0.70	$	0.50
Weighted average common shares outstanding:
Basic		4,031,323		4,242,887
Diluted		4,307,274		4,283,888

See accompanying notes to unaudited consolidated financial statements.

4

ITEM 1.  Financial Statements Continued:

NICOLET BANKSHARES, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income

(In thousands) (Unaudited)

		Three Months Ended March 31,
		2015			2014
Net income	$	3,113		$	2,245
Other comprehensive income, net of tax:
Unrealized gains on securities AFS:
Net unrealized holding gains arising during the period		925			599
Reclassification adjustment for net gains included in net income		-			(341	)
Net unrealized gains on securities before tax expense		925			258
Income tax expense		(361	)		(101	)
Total other comprehensive income		564			157
Comprehensive income	$	3,677		$	2,402

See accompanying notes to unaudited consolidated financial statements.

5

ITEM 1.  Financial Statements Continued:

NICOLET BANKSHARES, INC. AND SUBSIDIARIES

Consolidated Statement of Stockholders’ Equity

(In thousands) (Unaudited)

	Nicolet Bankshares, Inc. Stockholders’ Equity
	Preferred Equity		Common Stock			Additional Paid-In Capital			Retained Earnings			Accumulated Other Comprehensive Income		Noncontrolling Interest		Total
Balance December 31, 2014	$	24,400	$	41		$	45,693		$	39,843		$	1,031	$	59	$	111,067
Comprehensive income:
Net income		-		-			-			3,080			-		33		3,113
Other comprehensive income		-		-			-			-			564		-		564
Stock compensation expense		-		-			290			-			-		-		290
Exercise of stock options		-		-			369			-			-		-		369
Issuance of common stock		-		-			19			-			-		-		19
Purchase and retirement of common stock		-		(1	)		(1,620	)		-			-		-		(1,621	)
Preferred stock dividends		-		-			-			(61	)		-		-		(61	)
Balance, March 31, 2015	$	24,400	$	40		$	44,751		$	42,862		$	1,595	$	92	$	113,740

See accompanying notes to unaudited consolidated financial statements.

6

ITEM 1.  Financial Statements Continued:

NICOLET BANKSHARES, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(In thousands) (Unaudited)

	Three Months Ended March 31,
	2015			2014
Cash Flows From Operating Activities:
Net income	$	3,113		$	2,245
Adjustments to reconcile net income to net cash provided (used) by operating activities:
Depreciation, amortization, and accretion		1,078			829
Provision for loan losses		450			675
Provision for deferred taxes		(19	)		348
Increase in cash surrender value of life insurance		(242	)		(214	)
Stock compensation expense		290			154
Gain on sale or writedown of assets, net		(211	)		(750	)
Gain on sale of loans held for sale, net		(874	)		(215	)
Proceeds from sale of loans held for sale		48,703			10,842
Origination of loans held for sale		(48,993	)		(13,137	)
Net change in:
Accrued interest receivable and other assets		(723	)		(159	)
Accrued interest payable and other liabilities		(1,132	)		(1,478	)
Net cash provided (used) by operating activities		1,440			(860	)
Cash Flows From Investing Activities:
Net decrease in certificates of deposit in other banks		2,984			-
Net decrease (increase) in loans		3,064			(3,517	)
Purchases of securities AFS		(11,097	)		(6,481	)
Proceeds from sales of securities AFS		-			531
Proceeds from calls and maturities of securities AFS		6,585			6,473
Purchase of other investments		(15	)		(33	)
Purchase of premises and equipment		(411	)		(513	)
Proceeds from sales of other real estate and other assets		1,191			1,762
Net cash provided (used) by investing activities		2,301			(1,778	)
Cash Flows From Financing Activities:
Net increase (decrease) in deposits		(19,125	)		7,540
Net change in short-term borrowings		-			4,322
Repayments of notes payable		(66	)		(62	)
Proceeds from issuance of subordinated notes, net		7,880			-
Purchase and retirement of common stock		(1,621	)		(410	)
Proceeds from issuance of common stock, net		19			16
Proceeds from exercise of common stock options		369			298
Cash dividends paid on preferred stock		(61	)		(61	)
Net cash provided (used) by financing activities		(12,605	)		11,643
Net increase (decrease) in cash and cash equivalents		(8,864	)		9,005
Cash and cash equivalents:
Beginning	$	68,708		$	146,978
Ending	$	59,844		$	155,983
Supplemental Disclosures of Cash Flow Information:
Cash paid for interest	$	1,766		$	1,930
Cash paid for taxes		1,600			125
Transfer of loans and bank premises to other real estate owned		576			601

See accompanying notes to unaudited consolidated financial statements.

7

NICOLET BANKSHARES, INC. AND SUBSIDIARIES

Notes to Unaudited Consolidated Financial Statements

Note 1 – Basis of Presentation

General

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

These interim consolidated financial statements have been prepared according to the rules and regulations of the Securities and Exchange Commission and, therefore, certain information and footnote disclosures normally presented in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) have been omitted or abbreviated.  These consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

Critical Accounting Policies and Estimates

Preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying disclosures. These estimates are based on management’s best knowledge of current events and actions the Company may undertake in the future. Estimates are used in accounting for, among other items, the allowance for loan losses, useful lives for depreciation and amortization, fair value of financial instruments, deferred tax assets, uncertain income tax positions and contingencies.  Estimates that are particularly susceptible to significant change for the Company include the determination of the allowance for loan losses, the assessment of deferred tax assets and liabilities, and the valuation of loans acquired in the 2013 acquisitions; therefore, these are critical accounting policies.  Factors that may cause sensitivity to the aforementioned estimates include but are not limited to: external market factors such as market interest rates and employment rates, changes to operating policies and procedures, changes in applicable banking regulations, and changes to deferred tax estimates. Actual results may ultimately differ from estimates, although management does not generally believe such differences would materially affect the consolidated financial statements in any individual reporting period presented.

There have been no material changes or developments with respect to the assumptions or methodologies that the Company uses when applying what management believes are critical accounting policies and developing critical accounting estimates as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

Recent Accounting Developments Adopted

In April 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2015-03, Simplifying the Presentation of Debt Issuance Costs. The update simplifies the presentation of debt issuance costs by requiring that debt issuance costs be presented in the balance sheet as a direct deduction from the carrying amount of debt liability, consistent with debt discounts or premiums. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this update. For public companies, this update is effective for interim and annual periods beginning after December 15, 2015, and is to be applied retrospectively. Early adoption is permitted. The Company adopted this update in the first quarter of 2015.  See Note 8 of the notes to the unaudited consolidated financial statements for further details on the impact of adopting this accounting update.

In August 2014, the FASB issued ASU 2014-14, Receivables - Troubled Debt Restructurings by Creditors to clarify how creditors are to classify certain government-guaranteed mortgage loans upon foreclosure. This amendment requires that a mortgage loan be derecognized and a separate other receivable be recognized upon foreclosure under certain conditions. Upon foreclosure, the separate other receivable should be measured based on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. This amendment is effective for annual reporting periods, including interim periods within those annual periods, beginning after December 15, 2014. The Company adopted the accounting standard during the first quarter of 2015 with no material impact.

8

In June 2014, the FASB issued ASU 2014-11, Transfers and Servicing to clarify the current accounting and disclosures for certain repurchase agreements. The amendments in this update require two accounting changes: (1) change the accounting for repurchase-to-maturity transactions to secured borrowing accounting and (2) require separate accounting for a transfer of a financial asset executed contemporaneously with a repurchase agreement with the same counterparty, which will result in secured borrowing accounting for the repurchase agreement. The amendments in this update also require additional disclosures for certain transactions on the transfer of financial assets, as well as new disclosures for repurchase agreements, securities lending transactions, and repurchase-to-maturity transactions that are accounted for as secured borrowings. This amendment is effective for public business entities for the first interim or annual period beginning after December 15, 2014. The Company adopted the accounting standard during the first quarter of 2015 with no material impact.

Note 2 – Earnings per Common Share

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

	Three Months Ended  March 31,
	2015		2014
(In thousands except per share data)
Net income, net of noncontrolling interest	$	3,080	$	2,214
Less: preferred stock dividends		61		61
Net income available to common shareholders	$	3,019	$	2,153
Weighted average common shares outstanding		4,031		4,243
Effect of dilutive stock instruments		276		41
Diluted weighted average common shares outstanding		4,307		4,284
Basic earnings per common share*	$	0.75	$	0.51
Diluted earnings per common share*	$	0.70	$	0.50

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

Options to purchase approximately 0.3 million and 0.5 million shares were outstanding at March 31, 2015 and 2014, respectively, but were excluded from the calculation of diluted earnings per common share as the effect would have been anti-dilutive.

Note 3 – Stock-based Compensation

Activity in the Company’s Stock Incentive Plans is summarized in the following tables:

Stock Options	Weighted-Average Fair Value of Options Granted		Option Shares Outstanding			Weighted-Average Exercise Price		Exercisable Shares
Balance – December 31, 2013				793,157		$	17.86		600,846
Granted	$	7.42		221,000			23.80
Exercise of stock options				(39,548	)		16.01
Forfeited				(6,750	)		16.80
Balance – December 31, 2014				967,859			19.30		630,121
Granted	$	7.82		137,000			25.90
Exercise of stock options				(21,000	)		17.57
Forfeited				-			-
Balance – March 31, 2015				1,083,859		$	20.17		609,121

9

Note 3 – Stock-based Compensation, continued

Options outstanding at March 31, 2015 are exercisable at option prices ranging from $16.50 to $26.00.  There are 301,035 options outstanding in the range from $16.50 - $17.00, 378,824 options outstanding in the range from $17.01 - $22.00, and 404,000 options outstanding in the range from $22.01 - $26.00.  At March 31, 2015, the exercisable options have a weighted average remaining contractual life of approximately 2 years and a weighted average exercise price of $18.26.

Intrinsic value represents the amount by which the fair market value of the underlying stock exceeds the exercise price of the stock options.  The total intrinsic value of options exercised in the first three months of 2015, and full year of 2014 was approximately $179,000, and $193,000, respectively.

Restricted Stock	Weighted-Average Grant Date Fair Value		Restricted Shares Outstanding
Balance – December 31, 2013	$	16.50		62,363
Granted		23.80		33,136
Vested*		19.26		(29,268	)
Forfeited		-		-
Balance – December 31, 2014		18.94		66,231
Granted		-		-
Vested *		16.50		(3,534	)
Forfeited		-		-
Balance – March 31, 2015	$	19.07		62,697

*The terms of the restricted stock agreements permit the surrender of shares to the Company upon vesting in order to satisfy applicable tax withholding requirements at the minimum statutory withholding rate, and accordingly 1,175 shares were surrendered during the three months ended March 31, 2015 and 5,821 shares were surrendered during the twelve months ended December 31, 2014.

The Company recognized approximately $290,000 and $154,000 of stock-based employee compensation expense during the three months ended March 31, 2015 and 2014, respectively, associated with its stock equity awards.  As of March 31, 2015, there was approximately $3.8 million of unrecognized compensation cost related to equity award grants.  The cost is expected to be recognized over the weighted average remaining vesting period of approximately four years.

Note 4- Securities Available for Sale

Amortized costs and fair values of securities available for sale are summarized as follows:

	March 31, 2015
(in thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
U.S. government sponsored enterprises	$	524	$	22	$	-	$	546
State, county and municipals		107,108		919		215		107,812
Mortgage-backed securities		57,667		813		259		58,221
Corporate debt securities		1,140		-		-		1,140
Equity securities		2,892		1,348		13		4,227
	$	169,331	$	3,102	$	487	$	171,946
	December 31, 2014
(in thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Values
U.S. government sponsored enterprises	$	1,025	$	14	$	-	$	1,039
State, county and municipals		102,472		778		474		102,776
Mortgage-backed securities		61,497		639		459		61,677
Corporate debt securities		220		-		-		220
Equity securities		1,571		1,192		-		2,763
	$	166,785	$	2,623	$	933	$	168,475

10

Note 4- Securities Available for Sale, continued

The following table represents gross unrealized losses and the related fair value of investment securities available for sale, aggregated by investment category and length of time individual securities have been in a continuous unrealized loss position, at March 31, 2015 and December 31, 2014.

	March 31, 2015
	Less than 12 months				12 months or more				Total
(in thousands)	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
State, county and municipals	$	31,800	$	144	$	8,164	$	71	$	39,964	$	215
Mortgage-backed securities		1,515		1		16,196		258		17,711		259
Equity securities		195		13		-		-		195		13
	$	33,510	$	158	$	24,360	$	329	$	57,870	$	487
	December 31, 2014
	Less than 12 months				12 months or more				Total
(in thousands)	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
State, county and municipals	$	48,531	$	288	$	10,338	$	186	$	58,869	$	474
Mortgage-backed securities		5,944		20		19,351		439		25,295		459
	$	54,475	$	308	$	29,689	$	625	$	84,164	$	933

At March 31, 2015 we had $0.5 million of gross unrealized losses related to 112 securities.  As of March 31, 2015, the Company does not consider securities with unrealized losses to be other-than-temporarily impaired.  The unrealized losses in each category have occurred as a result of changes in interest rates, market spreads and market conditions subsequent to purchase. The Company has the ability and intent to hold its securities to maturity.  There were no other-than-temporary impairments charged to earnings during the three-month periods ending March 31, 2015 or March 31, 2014.

The amortized cost and fair values of securities available for sale at March 31, 2015 by contractual maturity are shown below.  Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.  Fair values of securities are estimated based on financial models or prices paid for the same or similar securities.  It is possible interest rates could change considerably, resulting in a material change in estimated fair value.

	March 31, 2015
(in thousands)	Amortized Cost		Fair Value
Due in less than one year	$	5,378	$	5,412
Due in one year through five years		88,633		89,188
Due after five years through ten years		13,057		13,172
Due after ten years		1,704		1,726
		108,772		109,498
Mortgage-backed securities		57,667		58,221
Equity securities		2,892		4,227
Securities available for sale	$	169,331	$	171,946

There were no sales of securities during the first three months of 2015.  Proceeds from sales of securities available for sale during the first three months of 2014 were approximately $0.5 million and gross gains of approximately $0.3 million were realized on sales of securities during the first three months of 2014.  There were no losses recognized during the first three months of 2014.

11

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality

The loan composition as of March 31, 2015 and December 31, 2014 is summarized as follows.

	Total
	March 31, 2015						December 31, 2014
(in thousands)	Amount			% of Total			Amount			% of Total
Commercial & industrial	$	292,218			33.2	%	$	289,379			32.7	%
Owner-occupied commercial real estate (“CRE”)		179,194			20.4			182,574			20.7
Agricultural (“AG”) production		14,228			1.6			14,617			1.6
AG real estate		41,141			4.7			42,754			4.8
CRE investment		81,068			9.2			81,873			9.3
Construction & land development		44,518			5.1			44,114			5.0
Residential construction		13,118			1.5			11,333			1.3
Residential first mortgage		155,186			17.6			158,683			18.0
Residential junior mortgage		53,452			6.1			52,104			5.9
Retail & other		5,683			0.6			5,910			0.7
Loans		879,806			100.0	%		883,341			100.0	%
Less allowance for loan losses		9,537						9,288
Loans, net	$	870,269					$	874,053
Allowance for loan losses to loans		1.08	%					1.05	%

	Originated
	March 31, 2015						December 31, 2014
(in thousands)	Amount			% of Total			Amount			% of Total
Commercial & industrial	$	273,243			38.8	%	$	268,654			38.3	%
Owner-occupied CRE		137,430			19.5			140,203			20.0
AG production		4,128			0.6			5,580			0.8
AG real estate		19,897			2.8			20,060			2.8
CRE investment		54,808			7.8			53,339			7.6
Construction & land development		34,486			4.9			33,865			4.8
Residential construction		13,118			1.9			11,333			1.6
Residential first mortgage		116,388			16.5			119,866			17.1
Residential junior mortgage		45,286			6.4			43,411			6.2
Retail & other		5,285			0.8			5,395			0.8
Loans		704,069			100.0	%	$	701,706			100.0	%
Less allowance for loan losses		9,537						9,288
Loans, net	$	694,532					$	692,418
Allowance for loan losses to loans		1.35	%					1.32	%

	Acquired
	March 31, 2015						December 31, 2014
(in thousands)	Amount			% of Total			Amount			% of Total
Commercial & industrial	$	18,975			10.8	%	$	20,725			11.4	%
Owner-occupied CRE		41,764			23.8			42,371			23.3
AG production		10,100			5.7			9,037			5.0
AG real estate		21,244			12.1			22,694			12.5
CRE investment		26,260			14.9			28,534			15.7
Construction & land development		10,032			5.7			10,249			5.6
Residential construction		-			-			-			-
Residential first mortgage		38,798			22.2			38,817			21.4
Residential junior mortgage		8,166			4.6			8,693			4.8
Retail & other		398			0.2			515			0.3
Loans	$	175,737			100.0	%	$	181,635			100.0	%
Less allowance for loan losses		-						-
Loans, net	$	175,737					$	181,635
Allowance for loan losses to loans		0.00	%					0.00	%

12

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

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

The allowance for loan and lease losses (“ALLL”) represents management’s estimate of probable and inherent credit losses in the Company’s loan portfolio at the balance sheet date. In general, estimating the amount of the ALLL is a function of a number of factors, including but not limited to changes in the loan portfolio, net charge-offs, trends in past due and impaired loans, and the level of potential problem loans, all of which may be susceptible to significant change.  To the extent actual outcomes differ from management estimates, additional provisions for loan losses could be required that could adversely affect our earnings or financial position in future periods. Allocations to the ALLL may be made for specific loans but the entire ALLL is available for any loan that, in management’s judgment, should be charged-off or for which an actual loss is realized.

The allocation methodology used by the Company includes specific allocations for impaired loans evaluated individually for impairment based on collateral values and for the remaining loan portfolio collectively evaluated for impairment primarily based on historical loss rates and other qualitative factors.  Loan charge-offs and recoveries are based on actual amounts charged-off or recovered by loan category.  Management allocates the ALLL by pools of risk within each loan portfolio.  No ALLL has been recorded on acquired loans since acquisition or at March 31, 2015 since the remaining pool discounts exceed the required amount calculated based on the actual charge off experience in the acquired loan portfolio.

13

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

The following tables present the balance and activity in the ALLL by portfolio segment and the recorded investment in loans by portfolio at or for the three months ended March 31, 2015:

	TOTAL – Three Months Ended March 31, 2015
(in thousands) ALLL:	Commercial & industrial			Owner- occupied CRE			AG production			AG real estate			CRE investment			Construction & land development			Residential construction			Residential first mortgage			Residential junior mortgage			Retail & other			Total
Beginning balance	$	3,191		$	1,230		$	53		$	226		$	511		$	2,685		$	140		$	866		$	337		$	49		$	9,288
Provision		207			171			(17	)		6			23			23			24			(16	)		22			7			450
Charge-offs		(14	)		(154	)		-			-			-			-			-			(32	)		-			(12	)		(212	)
Recoveries		-			1			-			-			5			-			-			-			-			5			11
Net charge-offs		(14	)		(153	)		-			-			5			-			-			(32	)		-			(7	)		(201	)
Ending balance	$	3,384		$	1,248		$	36		$	232		$	539		$	2,708		$	164		$	818		$	359		$	49		$	9,537
As percent of ALLL		35.5	%		13.1	%		0.4	%		2.4	%		5.7	%		28.4	%		1.7	%		8.6	%		3.8	%		0.4	%		100	%
ALLL:
Individually evaluated	$	382		$	-		$	-		$	-		$	-		$	320		$	-		$	-		$	-		$	-		$	702
Collectively evaluated		3,002			1,248			36			232			539			2,388			164			818			359			49			8,835
Ending balance	$	3,384		$	1,248		$	36		$	232		$	539		$	2,708		$	164		$	818		$	359		$	49		$	9,537
Loans:
Individually evaluated	$	488		$	994		$	39		$	402		$	1,108		$	4,028		$	-		$	801		$	151		$	-		$	8,011
Collectively evaluated		291,730			178,200			14,189			40,739			79,960			40,490			13,118			154,385			53,301			5,683			871,795
Total loans	$	292,218		$	179,194		$	14,228		$	41,141		$	81,068		$	44,518		$	13,118		$	155,186		$	53,452		$	5,683		$	879,806
Less ALLL	$	3,384		$	1,248		$	36		$	232		$	539		$	2,708		$	164		$	818		$	359		$	49		$	9,537
Net loans	$	288,834		$	177,946		$	14,192		$	40,909		$	80,529		$	41,810		$	12,954		$	154,368		$	53,093		$	5,634		$	870,269

	Originated – Three Months Ended March 31, 2015
(in thousands) ALLL:	Commercial & industrial			Owner- occupied CRE			AG production			AG real estate			CRE investment			Construction & land development			Residential construction			Residential first mortgage			Residential junior mortgage			Retail & other			Total
Beginning balance	$	3,191		$	1,230		$	53		$	226		$	511		$	2,685		$	140		$	866		$	337		$	49		$	9,288
Provision		207			171			(17	)		6			23			23			24			(16	)		22			7			450
Charge-offs		(14	)		(154	)		-			-			-			-			-			(32	)		-			(12	)		(212	)
Recoveries		-			1			-			-			5			-			-			-			-			5			11
Net charge-offs		(14	)		(153	)		-			-			5			-			-			(32	)		-			(7	)		(201	)
Ending balance	$	3,384		$	1,248		$	36		$	232		$	539		$	2,708		$	164		$	818		$	359		$	49		$	9,537
As percent of ALLL		35.5	%		13.1	%		0.4	%		2.4	%		5.7	%		28.4	%		1.7	%		8.6	%		3.8	%		0.4	%		100	%
ALLL:
Individually evaluated	$	382		$	-		$	-		$	-		$	-		$	320		$	-		$	-		$	-		$	-		$	702
Collectively evaluated		3,002			1,248			36			232			539			2,388			164			818			359			49			8,835
Ending balance	$	3,384		$	1,248		$	36		$	232		$	539		$	2,708		$	164		$	818		$	359		$	49		$	9,537
Loans:
Individually evaluated	$	485		$	-		$	-		$	-		$	-		$	3,715		$	-		$	-		$	-		$	-		$	4,200
Collectively evaluated		272,758			137,430			4,128			19,897			54,808			30,771			13,118			116,388			45,286			5,285			699,869
Total loans	$	273,243		$	137,430		$	4,128		$	19,897		$	54,808		$	34,486		$	13,118		$	116,388		$	45,286		$	5,285		$	704,069
Less ALLL	$	3,384		$	1,248		$	36		$	232		$	539		$	2,708		$	164		$	818		$	359		$	49		$	9,537
Net loans	$	269,859		$	136,182		$	4,092		$	19,665		$	54,269		$	31,778		$	12,954		$	115,570		$	44,927		$	5,236		$	694,532

14

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

	Acquired – Three Months Ended March 31, 2015
(in thousands) ALLL:	Commercial & industrial		Owner- occupied CRE		AG production		AG real estate		CRE investment		Construction & land development		Residential construction		Residential first mortgage		Residential junior mortgage		Retail & other		Total
Provision	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-
Charge-offs		-		-		-		-		-		-		-		-		-		-		-
Recoveries		-		-		-		-		-		-		-		-		-		-		-
Loans:
Individually evaluated	$	3	$	994	$	39	$	402	$	1,108	$	313	$	-	$	801	$	151	$	-	$	3,811
Collectively evaluated		18,972		40,770		10,061		20,842		25,152		9,719		-		37,997		8,015		398		171,926
Total loans	$	18,975	$	41,764	$	10,100	$	21,244	$	26,260	$	10,032	$	-	$	38,798	$	8,166	$	398	$	175,737

The following table presents the balance and activity in the ALLL by portfolio segment and the recorded investment in loans by portfolio at or for the three months ended March 31, 2014.

	TOTAL – Three Months Ended March 31, 2014
(in  thousands) ALLL:	Commercial & industrial			Owner- occupied CRE			AG production			AG real estate			CRE investment			Construction & land development			Residential construction			Residential first mortgage			Residential junior mortgage			Retail & other			Total
Beginning balance	$	1,798		$	766		$	18		$	59		$	505		$	4,970		$	229		$	544		$	321		$	22		$	9,232
Provision		1,847			271			25			200			165			(2,408	)		61			295			116			103			675
Charge-offs		(510	)		-			-			-			-			(12	)		-			(29	)		(9	)		(14	)		(574	)
Recoveries		1			2			-			-			4			-			-			1			-			3			11
Net charge-offs		(509	)		2			-			-			4			(12	)		-			(28	)		(9	)		(11	)		(563	)
Ending balance	$	3,136		$	1,039		$	43		$	259		$	674		$	2,550		$	290		$	811		$	428		$	114		$	9,344
As percent of ALLL		33.6	%		11.1	%		0.5	%		2.8	%		7.2	%		27.2	%		3.1	%		8.7	%		4.6	%		1.2	%		100	%
ALLL:
Individually evaluated	$	214		$	-		$	-		$	-		$	-		$	460		$	-		$	-		$	-		$	-		$	674
Collectively evaluated		2,922			1,039			43			259			674			2,090			290			811			428			114			8,670
Ending balance	$	3,136		$	1,039		$	43		$	259		$	674		$	2,550		$	290		$	811		$	428		$	114		$	9,344
Loans:
Individually evaluated	$	299		$	1,036		$	32		$	459		$	3,729		$	4,856		$	-		$	1,422		$	167		$	-		$	12,000
Collectively evaluated		255,353			182,020			15,390			41,933			86,552			37,961			12,376			153,629			48,007			4,871			838,092
Total loans	$	255,652		$	183,056		$	15,422		$	42,392		$	90,281		$	42,817		$	12,376		$	155,051		$	48,174		$	4,871		$	850,092
Less ALLL	$	3,136		$	1,039		$	43		$	259		$	674		$	2,550		$	290		$	811		$	428		$	114		$	9,344
Net loans	$	252,516		$	182,017		$	15,379		$	42,133		$	89,607		$	40,267		$	12,086		$	154,240		$	47,746		$	4,757		$	840,748

15

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

	Originated – Three Months Ended March 31, 2014
(in thousands) ALLL:	Commercial & industrial			Owner- occupied CRE			AG production			AG real estate			CRE investment			Construction & land development			Residential construction			Residential first mortgage			Residential junior mortgage			Retail & other			Total
Beginning balance	$	1,798		$	766		$	18		$	59		$	505		$	4,970		$	229		$	544		$	321		$	22		$	9,232
Provision		1,847			272			25			200			165			(2,420	)		61			266			107			103			626
Charge-offs		(510	)		-			-			-			-			-			-			-			-			(14	)		(524	)
Recoveries		1			1			-			-			4			-			-			1			-			3			10
Net charge-offs		(509	)		1			-			-			4			-			-			1			-			(11	)		(514	)
Ending balance	$	3,136		$	1,039		$	43		$	259		$	674		$	2,550		$	290		$	811		$	428		$	114		$	9,344
As percent of ALLL		33.6	%		11.1	%		0.5	%		2.8	%		7.2	%		27.2	%		3.1	%		8.7	%		4.6	%		1.2	%		100	%
ALLL:
Individually evaluated	$	214		$	-		$	-		$	-		$	-		$	460		$	-		$	-		$	-		$	-		$	674
Collectively evaluated		2,922			1,039			43			259			674			2,090			290			811			428			114			8,670
Ending balance	$	3,136		$	1,039		$	43		$	259		$	674		$	2,550		$	290		$	811		$	428		$	114		$	9,344
Loans:
Individually evaluated	$	298		$	-		$	-		$	-		$	-		$	3,925		$	-		$	-		$	-		$	-		$	4,223
Collectively evaluated		230,682			123,002			4,515			17,515			61,479			27,103			12,210			107,513			38,451			3,997			626,467
Total loans	$	230,980		$	123,002		$	4,515		$	17,515		$	61,479		$	31,028		$	12,210		$	107,513		$	38,451		$	3,997		$	630,690
Less ALLL	$	3,136		$	1,039		$	43		$	259		$	674		$	2,550		$	290		$	811		$	428		$	114		$	9,344
Net loans	$	227,844		$	121,963		$	4,472		$	17,256		$	60,805		$	28,478		$	11,920		$	106,702		$	38,023		$	3,883		$	621,346

	Acquired – Three Months Ended March 31, 2014
(in thousands) ALLL:	Commercial & industrial		Owner- occupied CRE			AG production		AG real estate		CRE investment		Construction & land development			Residential construction		Residential first mortgage			Residential junior mortgage			Retail & other		Total
Provision	$	-		(1	)		-		-		-		12			-		29			9			-		49
Charge-offs		-		-			-		-		-		(12	)		-		(29	)		(9	)		-		(50	)
Recoveries		-		1			-		-		-		-			-		-			-			-		1
Loans:
Individually evaluated	$	1	$	1,036		$	32	$	459	$	3,729	$	931		$	-	$	1,422		$	167		$	-	$	7,777
Collectively evaluated		24,671		59,018			10,875		24,418		25,073		10,858			166		46,116			9,556			874		211,625
Total loans	$	24,672	$	60,054		$	10,907	$	24,877	$	28,802	$	11,789		$	166	$	47,538		$	9,723		$	874	$	219,402

16

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued
 

The following table presents nonaccrual loans by portfolio segment in total and then as a further breakdown by originated or acquired as of March 31, 2015 and December 31, 2014.

			Total
(in thousands)	March 31, 2015		% to Total			December 31, 2014		% to Total
Commercial & industrial	$	602		11.5	%	$	171		3.2	%
Owner-occupied CRE		1,050		20.1			1,667		30.9
AG production		-		-			21		0.4
AG real estate		499		9.5			392		7.3
CRE investment		797		15.2			911		16.9
Construction & land development		750		14.3			934		17.3
Residential construction		-		-			-		-
Residential first mortgage		1,366		26.2			1,155		21.4
Residential junior mortgage		168		3.2			141		2.6
Retail & other		-		-			-		-
Nonaccrual loans - Total	$	5,232		100.0	%	$	5,392		100.0	%
			Originated
(in thousands)	March 31, 2015		% to Total			December 31, 2014		% to Total
Commercial & industrial	$	568		54.9	%	$	130		11.5	%
Owner-occupied CRE		15		1.4			673		59.7
AG production		-		-			-		-
AG real estate		-		-			-		-
CRE investment		-		-			-		-
Construction & land development		-		-			165		14.6
Residential construction		-		-			-		-
Residential first mortgage		422		40.8			160		14.2
Residential junior mortgage		30		2.9			-		-
Retail & other		-		-			-		-
Nonaccrual loans - Originated	$	1,035		100.0	%	$	1,128		100.0	%
			Acquired
(in thousands)	March 31, 2015		% to Total			December 31, 2014		% to Total
Commercial & industrial	$	34		0.8	%	$	41		1.0	%
Owner-occupied CRE		1,035		24.7			994		23.3
AG production		-		-			21		0.5
AG real estate		499		11.9			392		9.2
CRE investment		797		19.0			911		21.4
Construction & land development		750		17.9			769		18.0
Residential construction		-		-			-		-
Residential first mortgage		944		22.4			995		23.3
Residential junior mortgage		138		3.3			141		3.3
Retail & other		-		-			-		-
Nonaccrual loans – Acquired	$	4,197		100.0	%	$	4,264		100.0	%

17

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

The following tables present total past due loans by portfolio segment as of March 31, 2015 and December 31, 2014:

	March 31, 2015
(in thousands)	30-89 Days Past Due (accruing)			90 Days & Over or non- accrual			Current			Total
Commercial & industrial	$	161		$	602		$	291,455		$	292,218
Owner-occupied CRE		-			1,050			178,144			179,194
AG production		17			-			14,211			14,228
AG real estate		125			499			40,517			41,141
CRE investment		-			797			80,271			81,068
Construction & land development		-			750			43,768			44,518
Residential construction		-			-			13,118			13,118
Residential first mortgage		188			1,366			153,632			155,186
Residential junior mortgage		-			168			53,284			53,452
Retail & other		-			-			5,683			5,683
Total loans	$	491		$	5,232		$	874,083		$	879,806
As a percent of total loans		0.1	%		0.6	%		99.3	%		100.0	%

	December 31, 2014
(in thousands)	30-89 Days Past Due (accruing)			90 Days & Over or nonaccrual			Current			Total
Commercial & industrial	$	167		$	171		$	289,041		$	289,379
Owner-occupied CRE		54			1,667			180,853			182,574
AG production		-			21			14,596			14,617
AG real estate		118			392			42,244			42,754
CRE investment		426			911			80,536			81,873
Construction & land development		-			934			43,180			44,114
Residential construction		-			-			11,333			11,333
Residential first mortgage		399			1,155			157,129			158,683
Residential junior mortgage		-			141			51,963			52,104
Retail & other		-			-			5,910			5,910
Total loans	$	1,164		$	5,392		$	876,785		$	883,341
As a percent of total loans		0.1	%		0.6	%		99.3	%		100.0	%

A description of the loan risk categories used by the Company follows:

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

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

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

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

8  Doubtful:   Assets with this rating exhibit all the weaknesses as one rated Substandard with the added characteristic that such weaknesses make collection or liquidation in full highly questionable.

18

9  Loss:  Assets in this category are considered uncollectible.  Pursuing any recovery or salvage value is impractical but does not preclude partial recovery in the future.

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

The following tables present total loans by loan grade as of March 31, 2015 and December 31, 2014:

	March 31, 2015
(in thousands)	Grades 1- 4			Grade 5			Grade 6			Grade 7			Grade 8		Grade 9		Total
Commercial & industrial	$	272,828		$	14,547		$	1,895		$	2,948		$	-	$	-	$	292,218
Owner-occupied CRE		168,285			7,560			1,295			2,054			-		-		179,194
AG production		13,546			356			-			326			-		-		14,228
AG real estate		30,807			9,454			58			822			-		-		41,141
CRE investment		77,863			1,895			-			1,310			-		-		81,068
Construction & land development		36,387			7,270			111			750			-		-		44,518
Residential construction		11,523			1,595			-			-			-		-		13,118
Residential first mortgage		152,180			646			401			1,959			-		-		155,186
Residential junior mortgage		53,165			98			-			189			-		-		53,452
Retail & other		5,683			-			-			-			-		-		5,683
Total loans	$	822,267		$	43,421		$	3,760		$	10,358		$	-	$	-	$	879,806
Percent of total		93.5	%		4.9	%		0.4	%		1.2	%		-		-		100	%

	December 31, 2014
(in thousands)	Grades 1- 4			Grade 5			Grade 6			Grade 7			Grade 8		Grade 9		Total
Commercial & industrial	$	268,140		$	15,940		$	2,588		$	2,711		$	-	$	-	$	289,379
Owner-occupied CRE		170,544			6,197			2,919			2,914			-		-		182,574
AG production		14,018			244			-			355			-		-		14,617
AG real estate		32,315			9,548			59			832			-		-		42,754
CRE investment		78,229			2,203			-			1,441			-		-		81,873
Construction & land development		35,649			7,417			114			934			-		-		44,114
Residential construction		10,101			1,232			-			-			-		-		11,333
Residential first mortgage		155,916			686			592			1,489			-		-		158,683
Residential junior mortgage		51,843			99			-			162			-		-		52,104
Retail & other		5,904			6			-			-			-		-		5,910
Total loans	$	822,659		$	43,572		$	6,272		$	10,838		$	-	$	-	$	883,341
Percent of total		93.2	%		4.9	%		0.7	%		1.2	%		-		-		100	%

Management considers a loan to be impaired when it is probable the Company will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. For determining the adequacy of the ALLL, management defines impaired loans as nonaccrual credit relationships over $250,000, plus additional loans with impairment risk characteristics.  At the time an individual loan goes into nonaccrual status, however, management evaluates the loan for impairment and possible charge-off regardless of loan size.

In determining the appropriateness of the ALLL, management includes allocations for specifically identified impaired loans and loss factor allocations for all remaining loans, with a component primarily based on historical loss rates and another component primarily based on other qualitative factors.  Impaired loans are individually assessed and are measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent.

Loans that are determined not to be impaired are collectively evaluated for impairment, stratified by type and allocated loss ranges based on the Company’s actual historical loss ratios for each strata, and adjustments are also provided for certain current environmental and qualitative factors.  An internal loan review function rates loans using a grading system based on nine different categories. Loans with grades of seven or higher (“classified loans”) represent loans with a greater risk of loss and may be assigned allocations for loss based on specific review of the weaknesses observed in the individual credits if classified as impaired.  Classified loans are constantly monitored by the loan review function to ensure early identification of any deterioration.

19

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

The following tables present impaired loans as of March 31, 2015 and December 31, 2014.  As a further breakdown, impaired loans are also summarized by originated and acquired for the periods presented.  PCI loans acquired in the 2013 acquisitions were initially recorded at a fair value of $16.7 million on their respective acquisition dates, net of an initial $12.2 million non-accretable mark and a zero accretable mark.  At March 31, 2015, $3.5 million of the $16.7 million remain in impaired loans and $0.3 million of acquired loans have subsequently become impaired, bringing acquired impaired loans to $3.8 million.  Included in the March 31, 2015 and December 31, 2014 impaired loans is one troubled debt restructuring totaling $3.7 million and $3.8 million, respectively, described below under “Troubled Debt Restructurings.”

	Total Impaired Loans – March 31, 2015
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial*	$	488	$	488	$	382	$	486	$	7
Owner-occupied CRE		994		2,092		-		1,023		32
AG production		39		60		-		39		1
AG real estate		402		512		-		408		12
CRE investment		1,108		3,012		-		1,140		36
Construction & land development*		4,028		4,570		320		4,063		14
Residential construction		-		-		-		-		-
Residential first mortgage		801		2,313		-		808		26
Residential junior mortgage		151		513		-		152		5
Retail & Other		-		19		-		-		-
Total	$	8,011	$	13,579	$	702	$	8,119	$	133

	Originated – March 31, 2015
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial*	$	485	$	485	$	382	$	482	$	6
Owner-occupied CRE		-		-		-		-		-
AG production		-		-		-		-		-
AG real estate		-		-		-		-		-
CRE investment		-		-		-		-		-
Construction & land development*		3,715		3,715		320		3,746		10
Residential construction		-		-		-		-		-
Residential first mortgage		-		-		-		-		-
Residential junior mortgage		-		-		-		-		-
Retail & Other		-		-		-		-		-
Total	$	4,200	$	4,200	$	702	$	4,228	$	16

	Acquired – March 31, 2015
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial	$	3	$	3	$	-	$	4	$	1
Owner-occupied CRE		994		2,092		-		1,023		32
AG production		39		60		-		39		1
AG real estate		402		512		-		408		12
CRE investment		1,108		3,012		-		1,140		36
Construction & land development		313		855		-		317		4
Residential construction		-		-		-		-		-
Residential first mortgage		801		2,313		-		808		26
Residential junior mortgage		151		513		-		152		5
Retail & Other		-		19		-		-		-
Total	$	3,811	$	9,379	$	-	$	3,891	$	117

*Two commercial and industrial loans with a combined balance of $485,000 had a specific reserve of $382,000.  One construction and land development loan with a balance of $3.7 million had a specific reserve of $320,000. No other loans had a related allowance at March 31, 2015 and, therefore, the above disclosure was not expanded to include loans with and without a related allowance.

20

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

	Total Impaired Loans – December 31, 2014
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial**	$	35	$	35	$	30	$	36	$	2
Owner-occupied CRE		1,724		2,838		-		2,029		226
AG production		60		126		-		45		10
AG real estate		392		460		-		398		22
CRE investment		1,219		3,807		-		1,344		217
Construction & land development**		4,098		4,641		358		4,236		90
Residential construction		-		-		-		-		-
Residential first mortgage		985		2,723		-		1,107		155
Residential junior mortgage		153		502		-		156		20
Retail & Other		-		22		-		-		2
Total	$	8,666	$	15,154	$	388	$	9,351	$	744

	Originated – December 31, 2014
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial**	$	30	$	30	$	30	$	30	$	-
Owner-occupied CRE		673		673		-		859		47
AG production		-		-		-		-		-
AG real estate		-		-		-		-		-
CRE investment		-		-		-		-		-
Construction & land development**		3,777		3,777		358		3,854		39
Residential construction		-		-		-		-		-
Residential first mortgage		-		-		-		-		-
Residential junior mortgage		-		-		-		-		-
Retail & Other		-		-		-		-		-
Total	$	4,480	$	4,480	$	388	$	4,743	$	86

	Acquired – December 31, 2014
(in thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
Commercial & industrial	$	5	$	5	$	-	$	6	$	2
Owner-occupied CRE		1,051		2,165		-		1,170		179
AG production		60		126		-		45		10
AG real estate		392		460		-		398		22
CRE investment		1,219		3,807		-		1,344		217
Construction & land development		321		864		-		382		51
Residential construction		-		-		-		-		-
Residential first mortgage		985		2,723		-		1,107		155
Residential junior mortgage		153		502		-		156		20
Retail & other		-		22		-		-		2
Total	$	4,186	$	10,674	$	-	$	4,608	$	658

**One commercial & industrial loan with a balance of $30,000 had a specific reserve of $30,000.  One construction & land development loan with a balance of $3.8 million had a specific reserve of $358,000.  No other loans had a related allowance at December 31, 2014, and therefore, the above disclosure was not expanded to include loans with and without a related allowance.

21

Note 5 – Loans, Allowance for Loan Losses, and Credit Quality, continued

Troubled Debt Restructurings

At March 31, 2015, there were six loans classified as troubled debt restructurings totaling $4.1 million.   One loan had a premodification balance of $3.9 million and at March 31, 2015, had a balance of $3.7 million, was in compliance with its modified terms, was not past due, and was included in impaired loans with a specific reserve allocation of approximately $320,000. This loan is performing but is disclosed as impaired as a result of its classification as a troubled debt restructuring. The remaining five loans had a combined premodification balance of $676,000 and a combined outstanding balance of $423,000 at March 31, 2015. There were no other loans which were modified and classified as troubled debt restructurings at March 31, 2015.  There were no loans classified as troubled debt restructurings during the previous twelve months that subsequently defaulted as of March 31, 2015.

Note 6 - Notes Payable

The Company had the following long-term notes payable:

(in thousands)	March 31, 2015		December 31, 2014
Joint venture note	$	9,609	$	9,675
Federal Home Loan Bank (“FHLB”) advances		11,500		11,500
Notes payable	$	21,109	$	21,175

At the completion of the construction of the Company’s headquarters building in 2005 and as part of a joint venture investment related to the building, the Company and the other joint venture partners guaranteed a joint venture note to finance certain costs of the building. This note is secured by the building, bears a fixed rate of 5.81% and requires monthly principal and interest payments until its maturity on June 1, 2016.

The Company’s FHLB advances are all fixed rate, require interest-only monthly payments, and have maturities through February 2018.  The weighted average rates of FHLB advances were 0.71% at March 31, 2015 and December 31, 2014. The FHLB advances are collateralized by a blanket lien on qualifying first mortgages, home equity loans, multi-family loans and certain farmland loans which totaled approximately $167.5 million and $164.2 million at March 31, 2015 and December 31, 2014, respectively.

The following table shows the maturity schedule of the notes payable as of March 31, 2015:

Maturing in	(in thousands)
2015	$	5,697
2016		14,412
2017		-
2018		1,000
	$	21,109

22

Note 7 - Junior Subordinated Debentures

The Company’s carrying value of junior subordinated debentures was $12.4 million at March 31, 2015 and $12.3 million at December 31, 2014. In July 2004 Nicolet Bankshares Statutory Trust I (the “Statutory Trust”), issued $6.0 million of guaranteed preferred beneficial interests (“trust preferred securities”) that qualify as Tier I capital under Federal Reserve Board guidelines. All of the common securities of the Statutory Trust are owned by the Company. The proceeds from the issuance of the common securities and the trust preferred securities were used by the Statutory Trust to purchase $6.2 million of junior subordinated debentures of the Company, which pay an 8% fixed rate. Interest on these debentures is current. The debentures may be redeemed in part or in full, on or after July 15, 2009 at par plus any accrued but unpaid interest. The maturity date of the debenture, if not redeemed, is July 15, 2034.

As part of the 2013 acquisition of Mid-Wisconsin Financial Services, Inc., the Company assumed $10.3 million of junior subordinated debentures related to $10.0 million of issued trust preferred securities.  The trust preferred securities and the debentures mature on December 15, 2035 and have a floating rate of the three-month LIBOR plus 1.43% adjusted quarterly.  Interest on these debentures is current.  The debentures may be called at par in part or in full, on or after December 15, 2010 or within 120 days of certain events.  At acquisition in April 2013 the debentures were recorded at a fair value of $5.8 million, with the discount being accreted to interest expense over the remaining life of the debentures.  At March 31, 2015, the carrying value of these junior debentures was $6.2 million, and the $5.9 million carrying value of related trust preferred securities qualifies as Tier 1 capital.

Note 8 – Subordinated Notes

On February 17, 2015, the Company placed $8 million in subordinated notes in a private placement with certain accredited investors.  The Notes have a maturity date of February 17, 2025 and bear interest at a fixed rate of 5.0% per year, payable quarterly.  The Notes are callable after February 17, 2020.  The Company elected to adopt ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs, which requires debt issuance costs to be presented in the balance sheet as a direct deduction from the associated debt liability.  The $120,000 debt issuance costs are being amortized on a straight line basis over the first five years, representing the no-call period, as additional interest expense.  As of March 31, 2015 $116,000 of unamortized debt issuance costs remain and are reflected as a deduction to the outstanding debt.

Note 9 - Fair Value Measurements

As provided for by accounting standards, the Company records and/or discloses financial instruments on a fair value basis. These financial assets and financial liabilities are measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the observability of the assumptions used to determine fair value. These levels are: Level 1 - quoted market prices in active markets for identical assets or liabilities that a company has the ability to access at the measurement date; Level 2 - inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly; Level 3 – significant unobservable inputs for the asset or liability, which are typically based on an entity’s own assumptions, as there is little, if any, related market activity. In instances where the fair value measurement is based on inputs from different levels, the level within which the entire fair value measurement will be categorized is based on the lowest level input that is significant to the fair value measurement in its entirety; this assessment of the significance of an input requires management judgment.

Disclosure of the fair value of financial instruments, whether recognized or not recognized in the balance sheet, is required for those instruments for which it is practicable to estimate that value, with the exception of certain financial instruments and all nonfinancial instruments as provided for by the accounting standards. For financial instruments recognized at fair value in the consolidated balance sheets, the fair value disclosure requirements also apply.

Fair value (i.e. the price that would be received in an orderly transaction that is not a forced liquidation or distressed sale at the measurement date), among other things, is based on exit price versus entry price, should include assumptions about risk such as nonperformance risk in liability fair values, and is a market-based measurement versus an entity-specific measurement.

23

Note 9 - Fair Value Measurements, continued

The following table presents the balances of assets and liabilities measured at fair value on a recurring basis for the periods presented.  One security classified as Level 3 was purchased for $0.9 million during the first quarter of 2015.  There were no other changes in Level 3 values to report during the first three months of 2015.

			Fair Value Measurements Using
Measured at Fair Value on a Recurring Basis:	Total		Level 1		Level 2		Level 3
(in thousands)
U.S. government sponsored enterprises	$	546	$	-	$	546	$	-
State, county and municipals		107,812		-		107,236		576
Mortgage-backed securities		58,221		-		58,221		-
Corporate debt securities		1,140		-		-		1,140
Equity securities		4,227		4,227		-		-
Securities AFS, March 31, 2015	$	171,946	$	4,227	$	166,003	$	1,716
(in thousands)
U.S. government sponsored enterprises	$	1,039	$	-	$	1,039	$	-
State, county and municipals		102,776		-		102,200		576
Mortgage-backed securities		61,677		-		61,677		-
Corporate debt securities		220		-		-		220
Equity securities		2,763		2,763		-		-
Securities AFS, December 31, 2014	$	168,475	$	2,763	$	164,916	$	796

The following is a description of the valuation methodologies used by the Company for the Securities AFS noted in the tables of this footnote. Where quoted market prices on securities exchanges are available, the investment is classified as Level 1. Level 1 investments primarily include exchange-traded equity securities available for sale. If quoted market prices are not available, fair value is generally determined using prices obtained from independent pricing vendors who use pricing models (with typical inputs including benchmark yields, reported trades for similar securities, issuer spreads or relationship to other benchmark quoted securities), or discounted cash flows, and are classified as Level 2. Examples of these investments include mortgage-related securities and obligations of state, county and municipals. Finally, in certain cases where there is limited activity or less transparency around inputs to the estimated fair value, investments are classified within Level 3 of the hierarchy. Examples of these include auction rate securities available for sale (for which there has been no liquid market since 2008) and corporate debt securities, which include trust preferred security investments. At March 31, 2015 and December 31, 2014, it was determined that carrying value was the best approximation of fair value for these Level 3 securities, based primarily on receipt of par from refinances for the auction rate securities and the internal analysis on the corporate debt securities.

The following table presents the Company’s impaired loans and other real estate owned (“OREO”) measured at fair value on a nonrecurring basis for the periods presented.

Measured at Fair Value on a Nonrecurring Basis
			Fair Value Measurements Using
(in thousands)	Total		Level 1		Level 2		Level 3
March 31, 2015:
Impaired loans	$	7,309	$	-	$	-	$	7,309
OREO		1,566		-		-		1,566
December 31, 2014:
Impaired loans	$	8,278	$	-	$	-	$	8,278
OREO		1,966		-		-		1,966

24

Note 9 - Fair Value Measurements, continued

The following is a description of the valuation methodologies used by the Company for the items noted in the table above, including the general classification of such instruments in the fair value hierarchy.  For individually evaluated impaired loans, the amount of impairment is based upon the present value of expected future cash flows discounted at the loan’s effective interest rate, the estimated fair value of the underlying collateral for collateral-dependent loans, or the estimated liquidity of the note.  For OREO, the fair value is based upon the estimated fair value of the underlying collateral adjusted for the expected costs to sell.

The carrying amounts and estimated fair values of the Company’s financial instruments at March 31, 2015 and December 31, 2014 are shown below.

March 31, 2015
(in thousands)	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
Financial assets:
Cash and cash equivalents	$	59,844	$	59,844	$	59,844	$	-	$	-
Certificates of deposit in other banks		7,401		7,427		-		7,427		-
Securities AFS		171,946		171,946		4,227		166,003		1,716
Other investments		8,080		8,080		-		5,939		2,141
Loans held for sale		8,436		8,436		-		8,436		-
Loans, net		870,269		876,914		-		-		876,914
Bank owned life insurance		27,721		27,721		27,721		-		-
Financial liabilities:
Deposits	$	1,040,778	$	1,043,425	$	-	$	-	$	1,043,425
Notes payable		21,109		24,049		-		24,049		-
Junior subordinated debentures		12,377		11,759		-		-		11,759
Subordinated notes		7,884		7,693		-		-		7,693

December 31, 2014
(in thousands)	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
Financial assets:
Cash and cash equivalents	$	68,708	$	68,708	$	68,708	$	-	$	-
Certificates of deposit in other banks		10,385		10,421		-		10,421		-
Securities AFS		168,475		168,475		2,763		164,916		796
Other investments		8,065		8,065		-		5,924		2,141
Loans held for sale		7,272		7,272		-		7,272		-
Loans, net		874,053		881,793		-		-		881,793
Bank owned life insurance		27,479		27,479		27,479		-		-
Financial liabilities:
Deposits	$	1,059,903	$	1,062,262	$	-	$	-	$	1,062,262
Notes payable		21,175		24,212		-		24,212		-
Junior subordinated debentures		12,328		11,711		-		-		11,711

Not all the financial instruments listed in the table above are subject to the disclosure provisions of ASC 820, as certain assets and liabilities result in their carrying value approximating fair value. These include cash and cash equivalents, other investments, bank owned life insurance, and nonmaturing deposits. For those financial instruments not previously disclosed the following is a description of the evaluation methodologies used.

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

25

Note 9 - Fair Value Measurements, continued

Other investments: The carrying amount of Federal Reserve Bank, Bankers Bank, Farmer Mac, and FHLB stock is a reasonably accepted fair value estimate given their restricted nature. Fair value is the redeemable (carrying) value based on the redemption provisions of the instruments which is considered a Level 2 measurement. The carrying amount of the remaining  other  investments  (particularly common  stocks of  companies or  other banks that  are not  publicly traded) approximates their fair value, determined primarily by analysis of company financial statements and recent capital issuances of the respective companies or banks, if any, and represents a Level 3 measurement.

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

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

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

Notes payable: The fair value of the Federal Home Loan Bank advances is obtained from the Federal Home Loan Bank which uses a discounted cash flow analysis based on current market rates of similar maturity debt securities and represents a Level 2 measurement. The fair values of remaining notes payable are estimated using discounted cash flow analysis based on current interest rates being offered by instruments with similar terms and credit quality which represents a Level 2 measurement.

Junior subordinated debentures and subordinated notes: The fair values of these debt instruments utilize a discounted cash flow analysis based on an estimate of current interest rates being offered by instruments with similar terms and credit quality. Since the market for these instruments is limited, the internal evaluation represents a Level 3 measurement.

Off-balance-sheet instruments: The estimated fair value of letters of credit at March 31, 2015 and December 31, 2014 was insignificant. Loan commitments on which the committed interest rate is less than the current market rate are also insignificant at March 31, 2015 and December 31, 2014.

Limitations: Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Fair value estimates may not be realizable in an immediate settlement of the instrument. In some instances, there are no quoted market prices for the Company’s various financial instruments, in which case fair values may be based on estimates using present value or other valuation techniques, or based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of the financial instruments, or other factors. Those techniques are significantly affected by the assumptions used, including the discount rate and estimate of future cash flows. Subsequent changes in assumptions could significantly affect the estimates.

Note 10 – Subsequent Event

On April 28, 2015, the Company entered into a Subordinated Note Purchase Agreement with certain accredited institutional investors in a private placement under which the Company issued $2 million in principal amount of subordinated notes.  The subordinated notes have a maturity date of February 17, 2025.  The subordinated notes bear interest, payable on March 31, June 30, September 30 and December 31 of each year commencing March 31, 2015, at a fixed interest rate of 5.00% per year.  In total, $10 million in principal has been issued during 2015, net of $150,000 of debt issuance costs.

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

Nicolet Bankshares, Inc. is a bank holding company headquartered in Green Bay, Wisconsin, providing a diversified range of traditional banking and wealth management services to individuals and businesses in its market area through the 23 branch offices of its banking subsidiary, Nicolet National Bank, in northeastern and central Wisconsin and Menominee, Michigan.

At March 31, 2015, Nicolet Bankshares, Inc. and its subsidiaries (“Nicolet” or the “Company”) had total assets of $1.2 billion, loans of $880 million, deposits of $1.0 billion and total shareholders’ equity of $114 million.  Nicolet’s profitability is significantly dependent upon net interest income (interest income earned on loans and other interest-earning assets such as investments, net of interest expense on deposits and other borrowed funds), and noninterest income sources (including but not limited to service charges on deposits, trust and brokerage fees, mortgage income from sales of residential mortgages into the secondary market, and other fees or revenue from financial services provided to customers or ancillary to loans and deposits), offset by the level of the provision for loan losses, noninterest expenses (largely employee compensation and overhead expenses tied to processing and operating the Bank’s business), and income taxes. Business volumes and pricing drive revenue potential and tend to be influenced by overall economic factors, including market interest rates, business spending, consumer confidence, economic growth and competitive conditions within the marketplace. For the quarter ended March 31, 2015, Nicolet earned net income of $3.1 million, and after $61,000 of preferred stock dividends, net income available to common shareholders was $3.0 million or $0.70 per diluted common share.

Forward-Looking Statements

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

● operating, legal and regulatory risks, including the effects of the Dodd-Frank Wall Street Reform and Consumer Protection Act and regulations promulgated thereunder, as well as the rules by the Federal bank regulatory agencies to implement the Basel III capital accord;

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

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

● potential difficulties in integrating the operations of Nicolet with those of acquired entities, if any;

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

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

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

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Critical Accounting Policies

The consolidated financial statements of Nicolet are prepared in conformity with U.S. GAAP and follow general practices within the industry in which it operates. This preparation requires management to make estimates, assumptions and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. These estimates, assumptions and judgments are based on information available as of the date of the consolidated financial statements; accordingly, as this information changes, actual results could differ from the estimates, assumptions and judgments reflected in the consolidated financial statements. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. Estimates that are particularly susceptible to significant change include the valuation of loans acquired in business combinations, as well as the determination of the allowance for loan losses and income taxes and, therefore, are critical accounting policies.

Valuation of Loans Acquired in Business Combinations

Acquisitions accounted for under FASB ASC Topic 805, Business Combinations, require the use of the acquisition method of accounting.  Assets acquired and liabilities assumed in a business combination are recorded at estimated fair value on their purchase date.  In particular, the valuation of acquired loans involves significant estimates, assumptions and judgment based on information available as of the acquisition date.  Substantially all loans acquired in the transaction are evaluated either individually or in pools of loans with similar characteristics; and since the estimated fair value of acquired loans includes a credit consideration, no carryover of any previously recorded allowance for loan losses is recorded at acquisition. A number of factors are considered in determining the estimated fair value of purchased loans including, among other things, the remaining life of the acquired loans, estimated prepayments, estimated loss ratios, estimated value of the underlying collateral, estimated holding periods, contractual interest rates compared to market interest rates, and net present value of cash flows expected to be received.

In determining the Day 1 Fair Values of acquired loans, management calculates a non-accretable difference (the credit mark component of the acquired loans) and an accretable difference (the market rate or yield component of the acquired loans). The non-accretable difference is the difference between the undiscounted contractually required payments and the undiscounted cash flows expected to be collected in accordance with management’s determination of the Day 1 Fair Values. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. Subsequent increases in cash flows will result in a reversal of the provision for loan losses to the extent of prior charges and then an adjustment to the accretable and non-accretable differences, which would have a positive impact on interest income.

The accretable yield on acquired loans is the difference between the expected cash flows and the initial investment in the acquired loans. The accretable yield is recognized into earnings using the effective yield method over the term of the loans. Management separately monitors the acquired loan portfolio and periodically reviews loans contained within this portfolio against the factors and assumptions used in determining the Day 1 Fair Values.

Allowance for Loan Losses (“ALLL”)

The ALLL is a reserve for estimated credit losses on individually evaluated loans determined to be impaired as well as estimated credit losses inherent in the loan portfolio. Actual credit losses, net of recoveries, are deducted from the ALLL. Loans are charged off when management believes that the collectability of the principal is unlikely. Subsequent recoveries, if any, are credited to the ALLL. A provision for loan losses, which is a charge against earnings, is recorded to bring the ALLL to a level that, in management’s judgment, is adequate to absorb probable losses in the loan portfolio. Management’s evaluation process used to determine the appropriateness of the ALLL is subject to the use of estimates, assumptions, and judgment. The evaluation process involves gathering and interpreting many qualitative and quantitative factors which could affect probable credit losses. Because interpretation and analysis involves judgment, current economic or business conditions can change, and future events are inherently difficult to predict, the anticipated amount of estimated loan losses and therefore the appropriateness of the ALLL could change significantly.

The allocation methodology applied by Nicolet is designed to assess the appropriateness of the ALLL and includes allocations for specifically identified impaired loans and loss factor allocations for all remaining loans, with a component primarily based on historical loss rates and a component primarily based on other qualitative factors. The methodology includes evaluation and consideration of several factors, such as, but not limited to, management’s ongoing review and grading of loans, facts and issues related to specific loans, historical loan loss and delinquency experience, trends in past due and nonaccrual loans, existing risk characteristics of specific loans or loan pools, the fair value of underlying collateral, current economic conditions and other qualitative and quantitative factors which could affect potential credit losses. While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic conditions or circumstances underlying the collectability of loans. Because each of the criteria used is subject to change, the allocation of the ALLL is made for analytical purposes and is not necessarily indicative of the trend of future loan losses in any particular loan category. The total allowance is available to absorb losses from any segment of the loan portfolio. Management believes the ALLL is appropriate at March 31, 2015. The allowance analysis is reviewed by the board of directors on a quarterly basis in compliance with regulatory requirements. In addition, various regulatory agencies periodically review the ALLL. These agencies may require Nicolet to make additions to the ALLL based on their judgments of collectability based on information available to them at the time of their examination.

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Income taxes

The assessment of income tax assets and liabilities involves the use of estimates, assumptions, interpretation, and judgment concerning certain accounting pronouncements and federal and state tax codes. There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management’s current assessment, the impact of which could be significant to the consolidated results of operations and reported earnings.

Nicolet files a consolidated federal income tax return and a combined state income tax return (both of which include Nicolet and its wholly owned subsidiaries). Accordingly, amounts equal to tax benefits of those companies having taxable federal losses or credits are reimbursed by the companies that incur federal tax liabilities. Amounts provided for income tax expense are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable under tax laws. Deferred income tax assets and liabilities are computed annually for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax law rates applicable to the periods in which the differences are expected to affect taxable income. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through provision for income tax expense. Valuation allowances are established when it is more likely than not that a portion of the full amount of the deferred tax asset will not be realized. In assessing the ability to realize deferred tax assets, management considers the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies.  Nicolet may also recognize a liability for unrecognized tax benefits from uncertain tax positions. Unrecognized tax benefits represent the differences between a tax position taken or expected to be taken in a tax return and the benefit recognized and measured in the financial statements. Penalties related to unrecognized tax benefits are classified as income tax expense.

Management’s Discussion and Analysis

The following discussion is Nicolet management’s analysis of the consolidated financial condition as of March 31, 2015 and December 31, 2014 and results of operations for the three-month periods ended March 31, 2015 and 2014.  It should be read in conjunction with Nicolet’s audited consolidated financial statements as of December 31, 2014 and 2013, and for the two years ended December 31, 2014, included in Nicolet’s Annual Report on Form 10-K for the year ended December 31, 2014.

Performance Summary

Nicolet reported net income of $3.1 million for the three months ended March 31, 2015, compared to $2.2 million for the first three months of 2014. After $61,000 of preferred stock dividends, net income available to common shareholders was $3.0 million, or $0.70 per diluted common share for the first quarter of 2015. Comparatively, after $61,000 of preferred stock dividends, net income available to common shareholders was $2.2 million, or $0.50 per diluted common share for the first quarter of 2014.

● Net interest income was $11.0 million for the first three months of 2015, an increase of $1.0 million or 10% over the first three months of 2014.  The improvement was primarily the result of favorable volume variances. On a tax-equivalent basis, the net interest margin for the first three months of 2015 was 4.10%, up 42 basis points (“bps”) from 3.68% for the comparable 2014 period.  Between the comparable three-month periods, the earning asset yield increased 42 bps to 4.74%, while the cost of interest bearing liabilities increased by 4 bps to 0.80%, resulting in a 38 bps increase in the interest rate spread between the comparable three-month periods.

● Loans were $880 million at March 31, 2015, down $3 million or less than 1% from $883 million at December 31, 2014, but up $30 million or 4% over $850 million at March 31, 2014.  Between the comparative three-month periods, average loans grew 5%, to $889 million for 2015 yielding 5.41%, compared to $847 million for 2014 yielding 5.22%.  While the loan yields for both periods include favorable purchase accounting accretion on acquired loans, the first quarter of 2015 included the resolution of two significant acquired loans with combined discounts of $0.9 million.

● Total deposits were $1.04 billion at March 31, 2015, down $19 million or 2% from $1.06 billion at December 31, 2014 (following a customary pattern of deposit decline historically following year ends through the first three months of the year).  Between the comparative three-month periods, average total deposits were unchanged at $1.04 billion for the first three months of 2015 and 2014, with interest-bearing deposits costing 0.63%, compared to 0.59% for the same period in 2014.

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● Asset quality measures were strong at March 31, 2015.  Nonperforming assets were $6.8 million at March 31, 2015, down 8% from year end 2014 and down 34% from a year ago. Nonperforming assets represented 0.56%, 0.61% and 0.85% of total assets at March 31, 2015, December 31, 2014, and March 31, 2014, respectively. The allowance for loan losses was $9.5 million or 1.08% of loans at March 31, 2015, compared to $9.3 million or 1.05%, respectively at year end 2014, and $9.3 million or 1.10%, respectively at March 31, 2014.  The provision for loan losses was $0.4 million with net charge offs of $0.2 million for the first three months of 2015, versus provision of $0.7 million with $0.6 million of net charge offs for the comparable 2014 period.

● Noninterest income was $4.1 million for the first three months of 2015 (including $0.2 million net gain on sales or writedowns of assets) compared to $3.8 million for the first three months of 2014 (which included $0.7 million net gain on sales or writedowns of assets).  Removing these net gains, noninterest income was up $0.8 million or 28% between the three-month periods.  The most notable increase over prior year was mortgage income which was up $0.7 million or 307% between the three-month periods, resulting from a significantly more robust mortgage market and strong production in the first quarter of 2015 compared to the first quarter of 2014.

● Noninterest expense was $9.8 million for the first three months of 2015, up $0.2 million or 2% over the first three months of 2014.  Between the three-month periods, salaries and benefits were up $0.4 million or 7% largely a result of merit increases and higher stock compensation expense.  Processing costs were up $0.1 million or 10% mostly commensurate with growth in the number of accounts.  All other noninterest expense categories in the first quarter of 2015 were down compared to the first quarter of 2014, with occupancy, equipment and office expense showing the most notable decrease as a result of a less harsh 2015 winter than the prior year, and final integration costs for phones and systems expensed in the first quarter 2014.

Net Interest Income

Nicolet’s earnings are substantially dependent on net interest income.  Net interest income is the primary source of Nicolet’s revenue and is the difference between interest income earned on interest earning assets, such as loans and investments, and interest expense on interest-bearing liabilities, such as deposits and other borrowings. Net interest income is directly impacted by the sensitivity of the balance sheet to changes in interest rates and by the amount and composition of earning assets and interest-bearing liabilities, including characteristics such as the fixed or variable nature of the financial instruments, contractual maturities, and repricing frequencies.

Net interest income in the consolidated statements of income (which excludes any taxable equivalent adjustment) was $11.0 million in the first three months of 2014, 10% higher than $10.0 million in the first three months of 2014. Taxable equivalent adjustments (adjustments to bring tax-exempt interest to a level that would yield the same after-tax income had that been subject to a 34% tax rate) were $0.3 million and $0.2 million for the first three months of 2015 and 2014, respectively, resulting in taxable equivalent net interest income of $11.3 million and $10.1 million, respectively.

Taxable equivalent net interest income is a non-GAAP measure, but is a preferred industry measurement of net interest income (and its use in calculating a net interest margin) as it enhances the comparability of net interest income arising from taxable and tax-exempt sources.

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Tables 1 through 3 present information to facilitate the review and discussion of selected average balance sheet items, taxable equivalent net interest income, interest rate spread and net interest margin.

Table 1:  Quarterly Net Interest Income Analysis

	For the Three Months Ended March 31,
	2015							2014
(in thousands)	Average Balance		Interest		Average Rate			Average Balance		Interest		Average Rate
ASSETS
Earning assets
Loans, including loan fees (1)(2)	$	888,892	$	12,009		5.41	%	$	846,703	$	11,039		5.22	%
Investment securities
Taxable		78,529		394		2.01	%		88,042		418		1.90	%
Tax-exempt (2)		86,682		529		2.44	%		36,965		298		3.22	%
Other interest-earning assets		44,831		100		0.89	%		128,707		135		0.42	%
Total interest-earning assets		1,098,934	$	13,032		4.74	%		1,100,417	$	11,890		4.32	%
Cash and due from banks		30,401							43,054
Other assets		70,729							65,271
Total assets	$	1,200,064						$	1,208,742
LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities
Savings	$	121,954	$	73		0.24	%	$	100,647	$	61		0.25	%
Interest-bearing demand		203,203		405		0.81	%		203,213		368		0.73	%
MMA		275,810		161		0.24	%		285,048		211		0.30	%
Core CDs and IRAs		209,180		567		1.10	%		233,954		509		0.88	%
Brokered deposits		30,584		103		1.37	%		51,315		132		1.04	%
Total interest-bearing deposits		840,731		1,309		0.63	%		874,177		1,281		0.59	%
Other interest-bearing liabilities		38,883		432		4.45	%		56,661		472		3.34	%
Total interest-bearing liabilities		879,614		1,741		0.80	%		930,838		1,753		0.76	%
Noninterest-bearing demand		198,985							164,438
Other liabilities		8,912							7,099
Total equity		112,553							106,367
Total liabilities and stockholders’ equity	$	1,200,064						$	1,208,742
Net interest income and rate spread			$	11,291		3.94	%			$	10,137		3.56	%
Net interest margin						4.10	%						3.68	%

(1) Nonaccrual loans are included in the daily average loan balances outstanding.

(2) The yield on tax-exempt loans and tax-exempt investment securities is computed on a tax-equivalent basis using a federal tax rate of 34% and adjusted for the disallowance of interest expense.

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Table 2:  Quarterly Volume/Rate Variance

Comparison of the three months ended March 31, 2015 versus the three months ended March 31, 2014 follows:
	Increase (decrease) Due to Changes in
(in thousands)	Volume			Rate			Net
Earning assets
Loans	$	558		$	412		$	970
Investment securities
Taxable		(36	)		12			(24	)
Tax-exempt		318			(87	)		231
Other interest-earning assets		(9	)		(26	)		(35	)
Total interest-earning assets	$	831		$	311		$	1,142
Interest-bearing liabilities
Savings deposits	$	13		$	(1	)	$	12
Interest-bearing demand		-			37			37
MMA		(6	)		(44	)		(50	)
Core CDs and IRAs		(58	)		116			58
Brokered deposits		(63	)		34			(29	)
Total interest-bearing deposits		(114	)		142			28
Other interest-bearing liabilities		16			(56	)		(40	)
Total interest-bearing liabilities		(98	)		86			(12	)
Net interest income	$	929		$	225		$	1,154

Table 3: Interest Rate Spread, Margin and Average Balance Mix — Taxable-Equivalent Basis

	Three Months Ended March 31,
	2015								2014
(in thousands)	Average Balance		% of Earning Assets			Yield/Rate			Average Balance		% of Earning Assets			Yield/Rate
Total loans	$	888,892		80.9	%		5.41	%	$	846,703		76.9	%		5.22	%
Securities and other earning assets		210,042		19.1	%		1.95	%		253,714		23.1	%		1.34	%
Total interest-earning assets	$	1,098,934		100	%		4.74	%	$	1,100,417		100	%		4.32	%
Interest-bearing liabilities	$	879,614		80.0	%		0.80	%	$	930,838		84.6	%		0.76	%
Noninterest-bearing funds, net		219,320		20.0	%					169,579		15.4	%
Total funds sources	$	1,098,934		100	%		0.64	%	$	1,100,417		100	%		0.64	%
Interest rate spread							3.94	%							3.56	%
Contribution from net free funds							0.16	%							0.12	%
Net interest margin							4.10	%							3.68	%

Taxable-equivalent net interest income was $11.3 million for the first three months of 2015, an increase of $1.2 million or 11% over the same period in 2014.  Taxable equivalent interest income increased $1.1 million  (or 10%) between the three-month periods driven by loans, including $0.6 million more interest income from higher loan volumes and by $0.4 million from higher loan yields, and aided by greater deployment of low-earning cash into investments.  Interest expense remained consistent between the periods.

The taxable-equivalent net interest margin was 4.10% for the first three months of 2015, up 42 bps versus the first three months of 2014.  With a favorable increase in earning asset yield to 4.74% (up 42 bps) and a 4 bps rise in the cost of funds (to 0.80%), the interest rate spread rose 38 bps between the first quarter periods.  In general, there has been and will be underlying downward margin pressure as assets mature in this prolonged low-rate environment, with current reinvestment rates substantially lower than previous rates and less opportunity to offset such with similar changes in the already low cost of funds.  Additionally, while both 2015 and 2014 periods are experiencing favorable income from purchase-accounting accretion on acquired loans, particularly where such loans pay or resolve at better than their carrying values, such favorable interest flow can be sporadic and will likely diminish over time.

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The earning asset yield was influenced mainly by loans, representing 81% of average earning assets and yielding 5.41% for the first three months of 2015, compared to 77% and 5.22%, respectively, for the first three months of 2014.  The 19 bps increase in loan yield between the three-month periods was largely due to two acquired loans which were favorably and fully resolved at approximately $0.9 million above their carrying values during the first quarter of 2015, offset by continued margin pressure on new loan volume.  Non-loan earning assets represented 19% of average earning assets and yielded 1.95%, versus 23% and 1.34%, respectively for the comparable three-month period in 2014.  A significantly lower proportion of low-earning cash was the main reason for the 61 bps increase in the non-loan yield between the three-month periods (i.e. interest-bearing cash representing 3% of average earning assets for the first quarter of 2015 versus 11% a year ago).

Nicolet’s cost of funds increased 4 bps to 0.80% for the first three months of 2015 compared to a year ago. The average cost of interest-bearing deposits (which represent over 90% of average interest-bearing liabilities for both periods), was 0.63% for the first three months of 2015, up 4 bps over the first three months of 2014.  The cost of interest-bearing demand deposits increased 8 bps as a result of mix changes with average balances remaining steady.  Costs associated with money market accounts decreased 6 bps in conjunction with a drop in deposit rates compared to last year.  The costs related to time deposits (both CDs and brokered deposits) increased as lower costing time deposits matured leaving a base of higher costing funds but at lower average balances.  Average other interest-bearing liabilities (comprised of short- and long-term borrowings) decreased $17.8 million and cost 111 bps more between the three-month periods as lower cost advances matured and were not renewed and subordinated debt was added to the funding mix in the first quarter of 2015.

Average interest-earning assets were $1.1 billion for the first three months of 2015 and 2014.  The consistent balance for average interest-earning assets was led by an increase in total loans of $42 million (to $889 million, up 5%) offset by a decrease in average non-loan earning assets of $44 million (comprised of an $84 million decline in interest-bearing cash and a $40 million increase in investments) to $210 million.

Average interest-bearing liabilities were $880 million, down $51 million or 6% versus the first three months of 2014, comprised of a $33 million decrease in interest-bearing deposits (to $840 million, representing 96% of average interest-bearing liabilities), and an $18 million decrease in average other interest-bearing liabilities (to $39 million) led by lower repurchase agreements and FHLB advances offset partly by new subordinated debt.

Provision for Loan Losses

The provision for loan losses for the three months ended March 31, 2015 and 2014 was $0.4 million and $0.7 million, respectively, exceeding net charge offs of $0.2 million and $0.6 million, respectively.  Asset quality trends remained strong with continued resolutions of problem loans.  The ALLL was $9.5 million (1.08% of loans) at March 31, 2015, compared to $9.3 million (1.05% of loans) at December 31, 2014 and $9.3 million (1.10% of loans) at March 31, 2014.

The provision for loan losses is predominantly a function of Nicolet’s methodology and judgment as to qualitative and quantitative factors used to determine the adequacy of the ALLL. The adequacy of the ALLL is affected by changes in the size and character of the loan portfolio, changes in levels of impaired and other nonperforming loans, historical losses and delinquencies in each portfolio segment, the risk inherent in specific loans, concentrations of loans to specific borrowers or industries, existing and future economic conditions, the fair value of underlying collateral, and other factors which could affect potential credit losses. For additional information regarding asset quality and the ALLL, see “Balance Sheet Analysis — Loans,” “— Allowance for Loan and Lease Losses,” and “— Impaired Loans and Nonperforming Assets.

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Noninterest Income

Table 4:  Noninterest Income

	For the three months ended March 31,
	2015		2014		$ Change			% Change
(in thousands)
Service charges on deposit accounts	$	509	$	494	$	15			3.0	%
Trust services fee income		1,204		1,105		99			9.0
Mortgage income		874		215		659			306.5
Brokerage fee income		170		160		10			6.3
Bank owned life insurance (“BOLI”)		242		214		28			13.1
Rent income		284		300		(16	)		(5.3	)
Investment advisory fees		118		110		8			7.3
Gain on sale or writedown of assets, net		211		750		(539	)		(71.9	)
Other income		458		412		46			11.2
Total noninterest income	$	4,070	$	3,760	$	310			8.2	%
Noninterest income without net gains	$	3,859	$	3,010	$	849			28.2	%

Noninterest income was $4.1 million for the first three months of 2015 (including $0.2 million of net gain on sales of assets), compared to $3.8 million for the first three months of 2014 (including $0.7 million of net gain on sale of assets). Removing these net gains, noninterest income was up $0.8 million or 28.2% between the three-month periods.

Net gain on sale or writedown of assets was $0.2 million and $0.7 million for the three months of 2015 and 2014, respectively. The 2015 activity consisted of $0.2 million net gains on sales of OREO while the 2014 activity consisted of a $0.3 million gain on the sale of an equity security holding and $0.4 million net gains on sales of OREO.

Service charges on deposit accounts were $0.5 million for the first three months of 2015, consistent with the comparable period of 2014 and the number of accounts.

Trust service fees increased to $1.2 million for the first three months of 2015, up $0.1 million (or 9%) over the comparable 2014 period. Similarly, brokerage fees were $0.2 million, up 6% over the first three months of 2014.  Both benefited from continued market improvement over last year on assets under management, on which fees are based and net new business.

Mortgage income represents net gains received from the sale of residential real estate loans service-released into the secondary market and to a small degree, some related income.  The first quarter of 2015 saw a significantly more robust mortgage market and strong production compared to the first quarter of 2014.  As a result, mortgage income was $0.9 million for first quarter 2015 compared to $0.2 million for first quarter 2014 (up $0.7 million or 307% between the three-month periods).

The remaining income categories included modest increases.   BOLI income was $0.2 million for the first three months of 2015, up 13% from the comparable period in 2014 in line with the 16% increase in the average BOLI balance.  Rent income, investment advisory fees and other noninterest income combined were $0.9 million for the first three months of 2015 compared to $0.8 million for the comparable 2014 period, with the increase mostly attributable to ancillary fees tied to deposit-related products, such as debit card and wire fee income.

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Noninterest Expense

Table 5:  Noninterest Expense

	For the three months ended March 31,
	2015		2014		$ Change			% Change
(in thousands)
Salaries and employee benefits	$	5,691	$	5,295	$	396			7.5	%
Occupancy, equipment and office		1,785		1,898		(113	)		(6.0	)
Business development and marketing		485		535		(50	)		(9.3	)
Data processing		831		754		77			10.2
FDIC assessments		164		184		(20	)		(10.9	)
Core deposit intangible amortization		275		335		(60	)		(17.9	)
Other expense		571		587		(16	)		(2.7	)
Total noninterest expense	$	9,802	$	9,588	$	214			2.2	%

Total noninterest expense was $9.8 million for the first three months of 2015, up $0.2 million, or 2.2% over the first three months of 2014 in line with a continual focus on expense management.   Salaries and employee benefits and data processing were up while all other expense categories were down compared to the same period in 2014.

Salaries and employee benefits expense was $5.7 million for the first three months of 2015, up $0.4 million or 8% compared to the first three months of 2014, primarily the result of merit increases and higher stock based compensation.  Average full time equivalent employees for the first three months of 2015 were 286, down 2% from 291 for the comparable 2014 period.

Occupancy, equipment and office expense decreased $0.1 million to $1.8 million for the first three months of 2015 compared to 2014.   This 6.0% decrease was primarily the result of a less harsh 2015 winter than 2014 resulting in lower expenses for utilities and snowplowing.  The first three months of 2014 also included final integration costs on systems and phones not recurring in 2015.

Business development and marketing expense decreased $0.1 million, or 9.3%, between the comparable three-month periods, largely due to lower spending on promotional materials and media advertising.

Data processing expenses, which are primarily volume-based, rose $0.1 million or 10% between the three-month periods, in line with the increase in number of accounts and increased services.  Core deposit intangible amortization declined as the intangible has aged under an accelerated amortization schedule.

Income Taxes

For the three-month periods ending March 31, 2015 and 2014, income tax expense was $1.7 million and $1.2 million, respectively.  GAAP requires that deferred income taxes be analyzed to determine if a valuation allowance is required. A valuation allowance is required if it is more likely than not that some portion of the deferred tax asset will not be realized.  No valuation allowance was determined to be necessary as of March 31, 2015 or December 31, 2014.

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BALANCE SHEET ANALYSIS

Loans

Nicolet services a diverse customer base throughout Northeast and Central Wisconsin and in Menominee, Michigan including the following industries: manufacturing, agriculture, wholesaling, retail, service, and businesses supporting the general building industry. It continues to concentrate its efforts in originating loans in its local markets and assisting its current loan customers. It actively utilizes government loan programs such as those provided by the U.S. Small Business Administration to help customers weather current economic conditions and position their businesses for the future.

Nicolet’s primary lending function is to make commercial loans, consisting of commercial and industrial business loans, agricultural production, and owner-occupied commercial real estate loans; CRE loans, consisting of commercial investment real estate loans, agricultural real estate, and construction and land development loans; residential real estate loans, including residential first mortgages, residential junior mortgages (such as home equity loans and lines), and to a lesser degree residential construction loans; and retail and other loans.  Using the four broad groups the mix of loans at March 31, 2015 was 55% commercial, 19% CRE loans, 25% residential real estate, and 1% retail and other loans.

Total loans were $880 million at March 31, 2015 compared to $883 million at December 31, 2014 (essentially unchanged).  Compared to March 31, 2014, loans grew $30 million or 4%.  On average, loans were $889 million and $847 million for the first three months of 2015 and 2014, respectively, up 5%.

Table 6: Period End Loan Composition

	March 31, 2015					December 31, 2014					March 31, 2014
	Amount		% of Total			Amount		% of Total			Amount		% of Total
Commercial & industrial	$	292,218		33.2	%	$	289,379		32.7	%	$	255,652		30.1	%
Owner-occupied CRE		179,194		20.4			182,574		20.7			183,056		21.5
AG production		14,228		1.6			14,617		1.6			15,422		1.8
AG real estate		41,141		4.7			42,754		4.8			42,392		5.0
CRE investment		81,068		9.2			81,873		9.3			90,281		10.6
Construction & land development		44,518		5.1			44,114		5.0			42,817		5.0
Residential construction		13,118		1.5			11,333		1.3			12,376		1.5
Residential first mortgage		155,186		17.6			158,683		18.0			155,051		18.2
Residential junior mortgage		53,452		6.1			52,104		5.9			48,174		5.7
Retail & other		5,683		0.6			5,910		0.7			4,871		0.6
Total loans	$	879,806		100	%	$	883,341		100	%	$	850,092		100	%

Broadly, commercial-based loans (i.e. commercial, AG, CRE and construction loans combined) versus retail-based loans (i.e. residential real estate and other retail loans) were unchanged at 74% commercial-based and 26% retail-based at March 31, 2015 and December 31, 2014. Commercial-based loans are considered to have more inherent risk of default than retail-based loans, in part because of the broader list of factors that could impact a commercial borrower negatively as well as the commercial balance per borrower is typically larger than that for retail-based loans, implying higher potential losses on an individual customer basis.

Commercial and industrial loans consist primarily of commercial loans to small businesses and, to a lesser degree, to municipalities within a diverse range of industries. The credit risk related to commercial and industrial loans is largely influenced by general economic conditions and the resulting impact on a borrower’s operations, or on the value of underlying collateral, if any. Commercial and industrial loans increased $3 million since year end 2014. Commercial and industrial loans continue to be the largest segment of Nicolet’s portfolio and increased to 33.2% of the total portfolio at March 31, 2015, up from 32.7% at December 31, 2014.

Owner-occupied CRE loans declined to 20.4% of loans at March 31, 2015 from 20.7% at December 31, 2014 and primarily consist of loans within a diverse range of industries secured by business real estate that is occupied by borrowers (i.e. who operate their businesses out of the underlying collateral) and who may also have commercial and industrial loans. The credit risk related to owner-occupied CRE loans is largely influenced by general economic conditions and the resulting impact on a borrower’s operations, or on the value of underlying collateral.

Agricultural production and agricultural real estate loans combined consist of loans secured by farmland and related farming operations. The credit risk related to agricultural loans is largely influenced by the prices farmers can get for their production and/or the underlying value of the farmland. In total, agricultural loans decreased $2 million since year end 2014, representing 6.3% of total loans at March 31, 2015, versus 6.4% at December 31, 2014.

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The CRE investment loan classification primarily includes commercial-based mortgage loans that are secured by non-owner occupied, nonfarm/nonresidential real estate properties, and multi-family residential properties. Lending in this segment has been focused on loans that are secured by commercial income-producing properties as opposed to speculative real estate development. The balance of these loans declined $0.8 million since year end 2014, declining as a percent of loans from 9.3% to 9.2% at March 31, 2015.

Loans in the construction and land development portfolio represent 5.1% of total loans at March 31, 2015 and such loans provide financing for the development of commercial income properties, multi-family residential development, and land designated for future development. Nicolet controls the credit risk on these types of loans by making loans in familiar markets, reviewing the merits of individual projects, controlling loan structure, and monitoring the progress of projects through the analysis of construction advances. Credit risk is managed by employing sound underwriting guidelines, lending primarily to borrowers in local markets, periodically evaluating the underlying collateral, and formally reviewing the borrower’s financial soundness and relationships on an ongoing basis. Lending on originated loans in this category has remained steady as a percent of loans.  Since December 31, 2014, balances have increased only $0.4 million and have increased slightly as a percent of loans.

On a combined basis, Nicolet’s residential real estate loans represent 25.2% of total loans at March 31, 2015, unchanged from December 31, 2014. Residential first mortgage loans include conventional first-lien home mortgages. Residential junior mortgage real estate loans consist mainly of home equity lines and term loans secured by junior mortgage liens. Across the industry, home equities generally involve loans that are in second or junior lien positions, but Nicolet has secured many such loans in a first lien position, further mitigating the portfolio risks. Nicolet has not experienced significant losses in its residential real estate loans; however, if market values in the residential real estate markets decline, particularly in Nicolet’s market area, rising loan-to-value ratios could cause an increase in the provision for loan losses. As part of its management of originating residential mortgage loans, the vast majority of Nicolet’s long-term, fixed-rate residential real estate mortgage loans are sold in the secondary market without retaining the servicing rights. Mortgage loans retained in the portfolio are typically of high quality and have historically had low net charge off rates. While mortgage loans normally hold terms of 30 years, Nicolet’s portfolio mortgages have an average contractual life of less than 15 years.

Loans in the retail and other classification represent less than 1% of the total loan portfolio, and include predominantly short-term and other personal installment loans not secured by real estate. Credit risk is primarily controlled by reviewing the creditworthiness of the borrowers, monitoring payment histories, and taking appropriate collateral and/or guaranty positions. The loan balances in this portfolio remained relatively unchanged from December 31, 2014 to March 31, 2015.

Factors that are important to managing overall credit quality are sound loan underwriting and administration, systematic monitoring of existing loans and commitments, effective loan review on an ongoing basis, early problem loan identification and remedial action to minimize losses, an adequate ALLL, and sound nonaccrual and charge-off policies. An active credit risk management process is used for commercial loans to further ensure that sound and consistent credit decisions are made. The credit management process is regularly reviewed and the process has been modified over the past several years to further strengthen the controls.

The loan portfolio is widely diversified by types of borrowers, industry groups, and market areas. Significant loan concentrations are considered to exist for a financial institution when there are amounts loaned to multiple numbers of borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At March 31, 2015, no significant industry concentrations existed in Nicolet’s portfolio in excess of 25% of total loans. Nicolet has also developed guidelines to manage its exposure to various types of concentration risks.

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Allowance for Loan and Lease Losses

In addition to the discussion that follows, see also Note 1, “Basis of Presentation,” and Note 5, “Loans, Allowance for Loan Losses and Credit Quality,” in the notes to the unaudited consolidated financial statements.

Credit risks within the loan portfolio are inherently different for each loan type as described under “Balance Sheet Analysis-Loans.” Credit risk is controlled and monitored through the use of lending standards, a thorough review of potential borrowers, and on-going review of loan payment performance. Active asset quality administration, including early problem loan identification and timely resolution of problems, aids in the management of credit risk and minimization of loan losses.

The ALLL is established through a provision for loan losses charged to expense to appropriately provide for potential credit losses in the existing loan portfolio. Loans are charged off against the ALLL when management believes that the collection of principal is unlikely. The level of the ALLL represents management’s estimate of an amount of reserves that provides for estimated probable credit losses in the loan portfolio at the balance sheet date. To assess the ALLL, an allocation methodology is applied by Nicolet which focuses on evaluation of qualitative and environmental factors, including but not limited to: (i) evaluation of facts and issues related to specific loans; (ii) management’s ongoing review and grading of the loan portfolio; (iii) consideration of historical loan loss and delinquency experience on each portfolio segment; (iv) trends in past due and nonperforming loans; (v) the risk characteristics of the various loan segments; (vi) changes in the size and character of the loan portfolio; (vii) concentrations of loans to specific borrowers or industries; (viii) existing and forecasted economic conditions; (ix) the fair value of underlying collateral; and (x) other qualitative and quantitative factors which could affect potential credit losses. Nicolet’s methodology reflects guidance by regulatory agencies to all financial institutions.

Management allocates the ALLL by pools of risk within each loan portfolio segment. The allocation methodology consists of the following components. First, a specific reserve for the estimated shortfall is established for all loans determined to be impaired. The specific reserve in the ALLL is equal to the aggregate collateral or discounted cash flow shortfall calculated from the impairment analyses. Loans measured for impairment include nonaccrual loans, non-performing troubled debt-restructurings (“restructured loans”), or other loans determined to be impaired by management. Second, Nicolet’s management allocates ALLL with historical loss rates by loan segment. The loss factors applied in the methodology are periodically re-evaluated and adjusted to reflect changes in historical loss levels on an annual basis. Beginning in the first quarter of 2014, management extended the look-back period on which the average historical loss rates are determined, from a prior three-year period to a rolling 20-quarter (5 year) average, as a means of capturing more of a full credit cycle now that recent period loss levels are stabilizing.  Contrarily, the three-year average (used by the Company’s methodology during 2009-2013) was considered more appropriate for the severe and prolonged economic downturn particularly evidenced by higher net charge off levels in 2008 through 2011.  Lastly, management allocates ALLL to the remaining loan portfolio using the qualitative factors mentioned above. Consideration is given to those current qualitative or environmental factors that are likely to cause estimated credit losses as of the evaluation date to differ from the historical loss experience of each loan segment.

Management performs ongoing intensive analyses of its loan portfolio to allow for early identification of customers experiencing financial difficulties, maintains prudent underwriting standards, understands the economy in its markets, and considers the trend of deterioration in loan quality in establishing the level of the ALLL.

Consolidated net income and stockholders’ equity could be affected if management’s estimate of the ALLL necessary to cover expected losses is subsequently materially different, requiring a change in the level of provision for loan losses to be recorded. While management uses currently available information to recognize losses on loans, future adjustments to the ALLL may be necessary based on newly received appraisals, updated commercial customer financial statements, rapidly deteriorating customer cash flow, and changes in economic conditions that affect Nicolet’s customers. As an integral part of their examination process, federal regulatory agencies also review the ALLL. Such agencies may require additions to the ALLL or may require that certain loan balances be charged-off or downgraded into criticized loan categories when their credit evaluations differ from those of management based on their judgments about information available to them at the time of their examination.

At March 31, 2015, the ALLL was $9.5 million compared to $9.3 million at December 31, 2014. The three-month increase was a result of a 2015 provision of $0.4 million offset by 2015 net charge offs of $0.2 million. Comparatively, the provision for loan losses in the first three months of 2014 was $0.7 million and net charge offs were $0.6 million.  Annualized net charge offs as a percent of average loans were 0.09% in the first three months of 2015 compared to 0.27% for the first three months of 2014 and 0.31% for the entire 2014 year. Loans charged off are subject to continuous review, and specific efforts are taken to achieve maximum recovery of principal, accrued interest, and related expenses. The level of the provision for loan losses is directly correlated to the assessment of the adequacy of the allowance, including, but not limited to, consideration of the amount of net charge-offs, loan growth, levels of nonperforming loans, and trends in the risk profile of the loan portfolio.

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The ratio of the ALLL as a percentage of period-end loans was 1.08% at March 31, 2015 compared to 1.05% at December 31, 2014 and 1.10% at March 31, 2014.  The ALLL to loans ratio is impacted by the accounting treatment of the 2013 acquisitions, which combined at their acquisition dates added no ALLL to the numerator and $284 million of loans into the denominator.  Acquired loans with no ALLL were $176 million and $182 million at March 31, 2015 and December 31, 2014, respectively.  As events occur in the acquired loan portfolios, an ALLL will be established for this pool of assets as appropriate.  Growth in the ALLL to loans ratio is mostly a result of the provision for loan losses exceeding net charge offs.

The largest portions of the ALLL were allocated to construction and land development loans and commercial & industrial loans combined, representing 63.9% and 63.3% of the ALLL at March 31, 2015 and December 31, 2014, respectively.  The increased allocation to these categories since December 31, 2014 was the result of minor changes to allowance allocations in conjunction with changes in loss histories and balance mix changes.

Table 7: Loan Loss Experience

	For the three months ended						Year ended
(in thousands)	March 31, 2015			March 31, 2014			December 31, 2014
Allowance for loan losses (ALLL):
Balance at beginning of period	$	9,288		$	9,232		$	9,232
Provision for loan losses		450			675			2,700
Charge-offs		212			574			2,743
Recoveries		(11	)		(11	)		(99	)
Net charge-offs		201			563			2,644
Balance at end of period	$	9,537		$	9,344		$	9,288
Net loan charge-offs (recoveries):
Commercial & industrial	$	14		$	509		$	1,868
Owner-occupied CRE		153			(2	)		453
Agricultural production		-			-			-
Agricultural real estate		-			-			-
CRE investment		(5	)		(4	)		(14	)
Construction & land development		-			12			12
Residential construction		-			-			-
Residential first mortgage		32			28			216
Residential junior mortgage		-			9			80
Retail & other		7			11			29
Total net loans charged-off	$	201		$	563		$	2,644
ALLL to total loans		1.08	%		1.10	%		1.05	%
ALLL to net charge-offs		1,186	%		415	%		351	%
Net charge-offs to average loans, annualized		0.09	%		0.27	%		0.31	%

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The allocation of the ALLL is based on Nicolet’s estimate of loss exposure by category of loans and is shown in Table 8 for March 31, 2015 and December 31, 2014.

Table 8: Allocation of the Allowance for Loan Losses

(in thousands)	March 31, 2015			% of Loan Type to Total Loans			December 31, 2014			% of Loan Type to Total Loans
ALLL allocation
Commercial & industrial	$	3,384			33.2	%	$	3,191			32.7	%
Owner-occupied CRE		1,248			20.4			1,230			20.7
Agricultural production		36			1.6			53			1.6
Agricultural real estate		232			4.7			226			4.8
CRE investment		539			9.2			511			9.3
Construction & land development		2,708			5.1			2,685			5.0
Residential construction		164			1.5			140			1.3
Residential first mortgage		818			17.6			866			18.0
Residential junior mortgage		359			6.1			337			5.9
Retail & other		49			0.6			49			0.7
Total ALLL	$	9,537			100	%	$	9,288			100	%
ALLL category as a percent of total ALLL:
Commercial & industrial		35.5	%					34.4	%
Owner-occupied CRE		13.1						13.2
Agricultural production		0.4						0.6
Agricultural real estate		2.4						2.4
CRE investment		5.7						5.5
Construction & land development		28.4						28.9
Residential construction		1.7						1.5
Residential first mortgage		8.6						9.3
Residential junior mortgage		3.8						3.6
Retail & other		0.4						0.6
Total ALLL		100	%					100	%

Impaired Loans and Nonperforming Assets

As part of its overall credit risk management process, Nicolet’s management has been committed to an aggressive problem loan identification philosophy. This philosophy has been implemented through the ongoing monitoring and review of all pools of risk in the loan portfolio to ensure that problem loans are identified early and the risk of loss is minimized.

Nonperforming loans are considered one indicator of potential future loan losses. Nonperforming loans are defined as nonaccrual loans, including those defined as impaired under current accounting standards, and loans 90 days or more past due but still accruing interest. Loans are generally placed on nonaccrual status when contractually past due 90 days or more as to interest or principal payments. Additionally, whenever management becomes aware of facts or circumstances that may adversely impact the collectability of principal or interest on loans, it is management’s practice to place such loans on nonaccrual status immediately. Nonaccrual loans were $5.2 million (consisting of $1.0 million originated loans and $4.2 million acquired loans) at March 31, 2015 compared to $5.4 million at December 31, 2014 (consisting of $1.1 million originated loans and $4.3 million acquired loans).  Of the $16.7 million nonaccrual loans initially acquired in the 2013 acquisitions, $3.5 million remain which is included in the $5.2 million of nonaccruals at March 31, 2015.  Nonperforming assets (which include nonperforming loans and other real estate owned “OREO”) were $6.8 million at March 31, 2015 compared to $7.4 million at December 31, 2014. OREO decreased from $2.0 million at year end 2014 to $1.6 million at March 31, 2015.  OREO at March 31, 2015 included land which was moved from active to inactive status and written to a fair value of $0.5 million.    Nonperforming assets as a percent of total assets were 0.56% at March 31, 2015 compared to 0.61% at December 31, 2014.

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The level of potential problem loans is another predominant factor in determining the relative level of risk in the loan portfolio and in determining the adequacy of the ALLL. Potential problem loans are generally defined by management to include loans rated as Substandard by management but that are in performing status; however, there are circumstances present which might adversely affect the ability of the borrower to comply with present repayment terms. The decision of management to include performing loans in potential problem loans does not necessarily mean that Nicolet expects losses to occur, but that management recognizes a higher degree of risk associated with these loans. The loans that have been reported as potential problem loans are predominantly commercial-based loans covering a diverse range of businesses and real estate property types.  Potential problem loans were $5.1 million (0.6% of loans) and $5.4 million (0.6% of loans) at March 31, 2015 and December 31, 2014, respectively. Potential problem loans require a heightened management review of the pace at which a credit may deteriorate, the duration of asset quality stress, and uncertainty around the magnitude and scope of economic stress that may be felt by Nicolet’s customers and on underlying real estate values.

Table 9: Nonperforming Assets

(in thousands)	March 31, 2015			December 31, 2014			March 31,  2014
Nonaccrual loans:
Commercial & industrial	$	602		$	171		$	485
Owner-occupied CRE		1,050			1,667			1,012
AG production		-			21			34
AG real estate		499			392			462
CRE investment		797			911			3,422
Construction & land development		750			934			931
Residential construction		—			—			—
Residential first mortgage		1,366			1,155			2,364
Residential junior mortgage		168			141			243
Retail & other		—			—			124
Total nonaccrual loans		5,232			5,392			9,077
Accruing loans past due 90 days or more		—			—			—
Total nonperforming loans	$	5,232		$	5,392		$	9,077
OREO:
CRE investment	$	544		$	697		$	481
Owner-occupied CRE		127			139			295
Construction & land development		139			630			429
Residential real estate owned		256			500			30
Bank property real estate owned		500			—			—
Total OREO		1,566			1,966			1,235
Total nonperforming assets	$	6,798		$	7,358		$	10,312
Total restructured loans accruing	$	3,715		$	3,777		$	3,862
Ratios
Nonperforming loans to total loans		0.59	%		0.61	%		1.07	%
Nonperforming assets to total loans plus OREO		0.77	%		0.80	%		1.21	%
Nonperforming assets to total assets		0.56	%		0.61	%		0.85	%
ALLL to nonperforming loans		182.3	%		172.3	%		102.9	%
ALLL to total loans		1.08	%		1.05	%		1.10	%

Table 10: Investment Securities Portfolio

	March 31, 2015							December 31, 2014
(in thousands)	Amortized Cost		Fair Value		% of Total			Amortized Cost		Fair Value		% of Total
U.S. Government sponsored enterprises	$	524	$	546		-	%	$	1,025	$	1,039		1	%
State, county and municipals		107,108		107,812		63			102,472		102,776		61
Mortgage-backed securities		57,667		58,221		34			61,497		61,677		37
Corporate debt securities		1,140		1,140		1			220		220		-
Equity securities		2,892		4,227		2			1,571		2,763		1
Total	$	169,331	$	171,946		100	%	$	166,785	$	168,475		100	%

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At March 31, 2015 the total carrying value of investment securities was $172 million, up from $168 million at December 31, 2014, and represented 14.3% and 13.9% of total assets at March 31, 2015 and December 31, 2014, respectively. At March 31, 2015, the securities portfolio did not contain securities of any single issuer that were payable from and secured by the same source of revenue or taxing authority where the aggregate carrying value of such securities exceeded 10% of shareholders’ equity.

In addition to securities available for sale, Nicolet had other investments of $8 million at March 31, 2015 and December 31, 2014, consisting of capital stock in the Federal Reserve and the FHLB (required as members of the Federal Reserve Bank System and the Federal Home Loan Bank System), and the Federal Agricultural Mortgage Corporation, as well as equity investments in other privately-traded companies. The FHLB and Federal Reserve investments are “restricted” in that they can only be sold back to the respective institutions or another member institution at par, and are thus, not liquid, have no ready market or quoted market value, and are carried at cost. The remaining investments have no quoted market prices, and are carried at cost less other than temporary impairment (“OTTI”) charges, if any. Nicolet’s management evaluates all these other investments periodically for impairment, considering financial condition and other available relevant information. There were no OTTI charges recorded in 2014 or year to date 2015.

Table 11: Investment Securities Portfolio Maturity Distribution

	As of March 31, 2015
	Within One Year						After One but Within Five Years						After Five but Within Ten Years						After Ten Years						Mortgage- related and Equity Securities						Total Amortized Cost					Total Fair Value Amount
	Amount			Yield			Amount			Yield			Amount			Yield			Amount			Yield			Amount			Yield			Amount		Yield
(in thousands)
U.S. government sponsored enterprises	$	—			—	%	$	—			—	%	$	524			2.0	%	$	—			—	%	$	—			—	%	$	524		2.0	%	$	546
State and county municipals (1)		5,378			2.6			88,633			2.5			12,533			2.9			564			4.4			—			—			107,108		2.6			107,812
Mortgage-backed securities		—			—			—			—			—			—			—			—			57,667			3.3			57,667		3.3			58,221
Corporate debt securities		—			—			—			—			—			—			1,140			6.0			—			—			1,140		6.0			1,140
Equity securities		—			—			—			—			—			—			—			—			2,892			6.2			2,892		6.2			4,227
Total amortized cost	$	5,378			2.6	%	$	88,633			2.5	%	$	13,057			2.9	%	$	1,704			5.5	%	$	60,559			3.4	%	$	169,331		2.9	%	$	171,946
Total fair value and carrying value	$	5,412					$	89,188					$	13,172					$	1,726					$	62,448										$	171,946
As a percent of total fair value		3	%					52	%					8	%					1	%					36	%										100	%

(1) The yield on tax-exempt investment securities is computed on a tax-equivalent basis using a federal tax rate of 34% adjusted for the disallowance of interest expense.

Deposits

Deposits represent Nicolet’s largest source of funds. Nicolet competes with other bank and nonbank institutions for deposits, as well as with a growing number of non-deposit investment alternatives available to depositors, such as mutual funds, money market funds, annuities, and other brokerage investment products. Challenges to deposit growth include price changes on deposit products given movements in the rate environment and other competitive pricing pressures, and customer preferences regarding higher-costing deposit products or non-deposit investment alternatives. Included in total deposits in Table 12 are brokered deposits of $31 million at March 31, 2015 and December 31, 2014.

Table 12: Deposits

	March 31, 2015						December 31, 2014
(in thousands)	Amount			% of Total			Amount			% of Total
Demand		$	199,776		19.2	%		$	203,502		19.2	%
Money market and NOW accounts			475,780		45.7	%			494,945		46.7	%
Savings			127,621		12.3	%			120,258		11.3	%
Time			237,601		22.8	%			241,198		22.8	%
Total deposits		$	1,040,778		100	%		$	1,059,903		100	%

Total deposits were $1.04 billion at March 31, 2015, down $19 million or 2% since December 31, 2014. On average for the first three months of 2015, total deposits were $1.04 billion, almost unchanged from the comparable 2014 period.  On average, the mix of deposits changed between the comparable first quarter periods, with 2015 carrying more demand accounts (i.e. noninterest bearing) and savings and less time, money market, and NOW accounts.

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Table 13: Average Deposits

	For the three months ended
	March 31, 2015						March 31, 2014
(in thousands)	Amount			% of Total			Amount			% of Total
Demand		$	198,985		19.1	%		$	164,438		15.8	%
Money market and NOW accounts			479,013		46.1	%			501,632		48.3	%
Savings			121,954		11.7	%			101,672		9.8	%
Time			239,764		23.1	%			270,873		26.1	%
Total		$	1,039,716		100	%		$	1,038,615		100	%

Table 14: Maturity Distribution of Certificates of Deposit

(in thousands)	March 31, 2015
3 months or less	$	27,066
Over 3 months through 6 months		32,180
Over 6 months through 12 months		49,380
Over 12 months		128,975
Total	$	237,601

Other Funding Sources

Other funding sources, which include short-term and long-term borrowings (notes payable, junior subordinated debentures, and subordinated notes), were $41 million and $34 million at March 31, 2015 and December 31, 2014, respectively. Short-term borrowings consist mainly of customer repurchase agreements maturing in less than three months or federal funds purchased. There were no short-term borrowings outstanding at March 31, 2015 or December 31, 2014. Long-term borrowings include a joint venture note and FHLB advances, totaling $21 million at March 31, 2015 and December 31, 2014.  Junior subordinated debentures are another long-term funding source totaling $12 million at March 31, 2015 and December 31, 2014.  Junior subordinated debentures of $6.2 million were issued in July 2004 in connection with the issuance of $6.0 million of trust preferred securities. Acquired junior subordinated debentures of $10.3 million issued in connection with $10.0 million of trust preferred securities were assumed in the Mid-Wisconsin merger and initially recorded at the fair market value of $5.8 million, with the discount being accreted to interest expense over the remaining life of the debentures.  Further information regarding these junior subordinated debentures is located in “Note 7 – Junior Subordinated Debentures” in the notes to the unaudited consolidated financial statements.  Subordinated notes provide additional funding and are classified as Tier 2 capital.  Total subordinated notes of $8 million were issued in February 2015.   Further information regarding these subordinated notes is located in “Note 8 – Subordinated Notes” and “Note 10 – Subsequent Event” in the notes to the unaudited consolidated financial statements.

Additional funding sources consist of a $10 million available and unused line of credit at the holding company, $75 million of available and unused federal funds purchased lines, and available total borrowing capacity at the FHLB of $65 million of which $11.5 million was used at March 31, 2015.

Off-Balance Sheet Obligations

As of March 31, 2015 and December 31, 2014, Nicolet had the following commitments that did not appear on its balance sheet:

Table 15: Commitments

	March 31,		December 31,
	2015		2014
(in thousands)
Commitments to extend credit — fixed and variable rate	$	276,376	$	269,648
Financial letters of credit — fixed rate		2,741		2,996
Standby letters of credit — fixed rate		4,249		3,629

Liquidity Management

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

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Funds are available from a number of basic banking activity sources including but not limited to the core deposit base, the repayment and maturity of loans, investment securities calls, maturities, and sales, and funds obtained through brokered deposits. All investment securities are classified as available for sale and are reported at fair value on the consolidated balance sheet. Approximately $25 million of the $172 million investment securities portfolio on hand at March 31, 2015 was pledged to secure public deposits, short-term borrowings, repurchase agreements, and for other purposes as required by law. Other funding sources available include short-term borrowings, federal funds purchased, and long-term borrowings.

Cash and cash equivalents at March 31, 2015 and December 31, 2014 were approximately $60 million and $69 million, respectively. These levels have declined slightly through the first three months of 2015 as is typical of Nicolet’s historical deposit behaviors.  Nicolet’s liquidity resources were sufficient as of March 31, 2015 to fund loans and to meet other cash needs as necessary.

Interest Rate Sensitivity Management

A reasonable balance between interest rate risk, credit risk, liquidity risk and maintenance of yield, is highly important to Nicolet’s business success and profitability. As an ongoing part of its financial strategy and risk management, Nicolet attempts to understand and manage the impact of fluctuations in market interest rates on its net interest income.  The consolidated balance sheet consists mainly of interest-earning assets (loans, investments and cash) which are primarily funded by interest-bearing liabilities (deposits and other borrowings). Such financial instruments have varying levels of sensitivity to changes in market rates of interest.  Market rates are highly sensitive to many factors beyond our control, including but not limited to general economic conditions and policies of governmental and regulatory authorities. Our operating income and net income depends, to a substantial extent, on “rate spread” (i.e., the difference between the income earned on loans, investments and other earning assets and the interest expense paid to obtain deposits and other funding liabilities).

Asset-liability management policies establish guidelines for acceptable limits on the sensitivity to changes in interest rates on earnings and market value of assets and liabilities. Such policies are set and monitored by management and the board of director’s Asset and Liability Committee.

To understand and manage the impact of fluctuations in market interest rates on net interest income, Nicolet measures its overall interest rate sensitivity through a net interest income analysis, which calculates the change in net interest income in the event of hypothetical changes in interest rates under different scenarios versus a baseline scenario. Such scenarios can involve static balance sheets, balance sheets with projected growth, parallel (or non-parallel) yield curve slope changes, immediate or gradual changes in market interest rates, and one-year or longer time horizons. The simulation modeling uses assumptions involving market spreads, prepayments of rate-sensitive instruments, renewal rates on maturing or new loans, deposit retention rates, and other assumptions.

Nicolet assessed the impact on net interest income in the event of a gradual +/-100 bps and +/-200 bps decrease in market rates (parallel to the change in prime rate) over a one-year time horizon to a static (flat) balance sheet. The interest rate scenarios are used for analytical purposes only and do not necessarily represent management’s view of future market interest rate movements.  Based on this analysis on financial data at March 31, 2015, the projected changes in net interest income over a one-year time horizon, versus the baseline, was -1.7%, -0.8%, -1.0% and -1.7% for the -200, -100, +100 and +200 bps scenarios, respectively; such results are within Nicolet’s guidelines of not greater than -15% for +/- 100 bps and not greater than -20% for +/- 200 bps.

Actual results may differ from these simulated results due to timing, magnitude and frequency of interest rate changes, as well as changes in market conditions and their impact on customer behavior and management strategies.

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Capital

Management regularly reviews the adequacy of its capital to ensure that sufficient capital is available for current and future needs and is in compliance with regulatory guidelines and actively reviews capital strategies in light of perceived business risks associated with current and prospective earning levels, liquidity, asset quality, economic conditions in the markets served, and level of returns available to shareholders. Management intends to maintain an optimal capital and leverage mix for growth and for shareholder return.

At March 31, 2015, Nicolet’s capital structure includes $24.4 million (or 21%) of preferred stock and $89.2 million (or 79%) of common stock equity.  Beginning in the fourth quarter of 2013, given growth in qualifying small business loans, Nicolet qualified for a 1% annual dividend rate on its preferred stock issued to the Treasury related to its participation in the SBLF, compared to the previous 5% annual rate paid by Nicolet.  This 1% rate will adjust to 9% effective March 1, 2016 according to the terms of the Securities Purchase Agreement, if the preferred stock is not redeemed prior to that time.

Nicolet’s common equity to total assets at March 31, 2015 of 7.41% increased from 7.13% at December 31, 2014 and continues to reflect capacity to capitalize on opportunities.  Further, Nicolet’s investors have demonstrated a strong commitment to capital, providing common capital when needed, with the two most recent examples being a December 2008 private placement raising $9.5 million in common capital as we entered the economic crisis and the April 2013 private placement raising $2.9 million in common capital alongside the predominately stock-for-stock Mid-Wisconsin merger which added $9.7 million in common capital.  Book value per common share increased to $22.20 at March 31, 2015 from $21.34 at year end 2014 aided by retained earnings and share reductions.  During 2014, a common stock repurchase program was authorized to use up to $12 million to repurchase up to 625,000 shares of Nicolet common stock as an alternative use of capital.  During the first three months of 2015, $1.6 million was used to repurchase 61,818 shares at a weighted average price of $25.73 per share including commissions. Since beginning the repurchase program in February 2014, total shares repurchased were 319,109 utilizing $7.2 million for an average cost of $22.67 per share.

As shown in Table 16, Nicolet’s regulatory capital ratios remain strong with Total Capital ratio at 14.7% and 14.0% as of March 31, 2015 and December 31, 2014 respectively, well above the minimum regulatory ratio of 8% and the well-capitalized ratio of 10%.  Tier 1 Capital and Leverage ratios were 12.8% and 10.2% as of March 31, 2015 and 13.0% and 9.7% as of December 31, 2014, respectively, also above the minimum regulatory ratios.  The Common Equity Tier 1 (“CET1”) ratio, which applies to Nicolet for the first time at March 31, 2015, was 9.0%, above the minimum regulatory ratio of 4.5% and the well-capitalized ratio of 6.5%.  The Bank’s regulatory ratios at March 31, 2015 and December 31, 2014 qualify the Bank as well-capitalized under the prompt-corrective action framework.  This strong base of capital has allowed Nicolet to be opportunistic in the current environment.

A source of income and funds for Nicolet as the parent company of Nicolet National Bank are dividends from the Bank. Dividends declared by the Bank that exceed the retained net income for the most current year plus retained net income for the preceding two years must be approved by federal regulatory agencies. At March 31, 2015, the Bank could pay dividends of approximately $11.3 million without seeking regulatory approval.  During 2014, the Bank paid $9 million of dividends to the parent company, and paid no dividends during 2013 or 2015.

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A summary of Nicolet’s and Nicolet National Bank’s regulatory capital amounts and ratios as of March 31, 2015 and December 31, 2014 are presented in the following table.

Table 16: Capital

	Actual					For Capital Adequacy Purposes					To Be Well Capitalized Under Prompt Corrective Action Provisions (2)
(in thousands)	Amount		Ratio (1)			Amount		Ratio (1)			Amount		Ratio (1)
As of March 31, 2015:
Company
Total capital	$	138,800		14.7	%	$	75,777		8.0	%
Tier I capital		121,379		12.8			56,833		6.0
CET1 capital		85,005		9.0			42,625		4.5
Leverage		121,379		10.2			47,807		4.0
Bank
Total capital	$	121,785		13.0	%	$	74,844		8.0	%	$	93,555		10.0	%
Tier I capital		112,248		12.0			56,133		6.0			74,844		8.0
CET1 capital		112,248		12.0			42,100		4.5			60,811		6.5
Leverage		112,248		9.5			47,169		4.0			58,961		5.0
As of December 31, 2014:
Company
Total capital	$	126,336		14.0	%	$	72,045		8.0	%
Tier I capital		117,048		13.0			36,023		4.0
Leverage		117,048		9.7			48,473		4.0
Bank
Total capital	$	115,891		13.0	%	$	71,134		8.0	%	$	88,917		10.0	%
Tier I capital		106,603		12.0			35,567		4.0			53,350		6.0
Leverage		106,603		8.9			47,977		4.0			59,972		5.0

(1) The total capital ratio is defined as tier1 capital plus tier 2 capital divided by total risk-weighted assets. The tier 1 capital ratio is defined as tier1 capital divided by total risk-weighted assets. The leverage ratio is defined as tier1 capital divided by the most recent quarter’s average total assets, adjusted in accordance with regulatory guidelines.

(2) Prompt corrective action provisions are not applicable at the bank holding company level.

As disclosed in the Nicolet’s Annual Report on Form 10-K for the year ended December 31, 2014, in July 2013, the Federal Reserve Board and the OCC issued final rules implementing the Basel III regulatory capital framework and related Dodd-Frank Wall Street Reform and Consumer Protection Act changes. The rules revise minimum capital requirements and adjust prompt corrective action thresholds. The final rules revise the regulatory capital elements, add a new common equity Tier I capital ratio, increase the minimum Tier 1 capital ratio requirements and implement a new capital conservation buffer. The rules also permit certain banking organizations to retain, through a one-time election, the existing treatment for accumulated other comprehensive income. The Company and Bank have made the election to retain the existing treatment for accumulated other comprehensive income. The final rules took effect for the Company and Bank on January 1, 2015, subject to a transition period for certain parts of the rules.

For 2015 information only, the table above calculates and presents regulatory capital based upon the new regulatory capital ratio requirements under Basel III that became effective on January 1, 2015. Beginning in 2016, an additional capital conservation buffer will be added to the minimum requirements for capital adequacy purposes, subject to a three year phase-in period. The capital conservation buffer will be fully phased-in on January 1, 2019 at 2.5 percent. A banking organization with a conservation buffer of less than 2.5 percent (or the required phase-in amount in years prior to 2019) will be subject to limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers. At the present time, the ratios for the Company and Bank are sufficient to meet the fully phased-in conservation buffer.

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ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not required pursuant to Instruction to Item 305(c) of Regulation S-K.

ITEM 4.  CONTROLS AND PROCEDURES

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

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

PART II – OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

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

ITEM 1A.  RISK FACTORS

There have been no material changes in the risk factors previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

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

Not applicable.

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4.  MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5.  OTHER INFORMATION

Not applicable.

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ITEM 6.  EXHIBITS

The following exhibits are filed herewith:

Exhibit Number	Description
4.1	Form of Subordinated Note (1)
31.1	Certification of CEO under Section 302 of Sarbanes-Oxley Act of 2002
31.2	Certification of CFO under Section 302 of Sarbanes-Oxley Act of 2002
32.1	Certification of CEO Pursuant to 18 U.S.C Section 1350 as Adopted Pursuant to Section 906 of Sarbanes-Oxley Act of 2002
32.2	Certification of CFO Pursuant to 18 U.S.C Section 1350 as Adopted Pursuant to Section 906 of Sarbanes-Oxley Act of 2002
101*	Interactive data files pursuant to Rule 405 of Regulation S-T: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Income, (iii) Consolidated Statements of Comprehensive Income, (iv) Consolidated Statements of Stockholders’ Equity, (v) Consolidated Statement of Cash Flows, and (vi) Notes to Consolidated Financial Statements tagged as blocks of text.

*Indicates information that is furnished and not filed or a part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.

(1) Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed on February 17, 2015.

SIGNATURES

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

	NICOLET BANKSHARES, INC.
May 7, 2015	/s/ Robert B. Atwell
	Robert B. Atwell
	Chairman, President and Chief Executive Officer
May 7, 2015	/s/ Ann K. Lawson
	Ann K. Lawson
	Chief Financial Officer

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