UNITED STATES
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SECURITIES AND EXCHANGE COMMISSION
----------------------------------
Washington, D.C. 20549
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FORM 10-Q
(Mark One)
|X| Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the Quarterly Period Ended March 31, 2005
--------------
OR
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the Transition Period from _________ to _________
Commission file number 0-26850
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First Defiance Financial Corp.
-----------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Ohio 34-1803915
------------------------------ ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
601 Clinton Street, Defiance, Ohio 43512
- --------------------------------------- ----------
(Address or principal executive office) (Zip Code)
Registrant's telephone number, including area code: (419) 782-5015
--------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Sections 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 |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes |X| No |_|
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date. Common Stock, $.01 Par Value -
7,027,191 shares outstanding at May 6, 2005
FIRST DEFIANCE FINANCIAL CORP.
INDEX
Page Number
-----------
PART I.-FINANCIAL INFORMATION
Item 1. Consolidated Condensed Financial Statements (Unaudited):
Consolidated Condensed Statements of Financial
Condition - March 31, 2005 and December 31, 2004 2
Consolidated Condensed Statements of Income -
Three months ended March 31, 2005 and 2004 4
Consolidated Condensed Statement of Changes in Stockholders'
Equity - Three months ended March 31, 2005 5
Consolidated Condensed Statements of Cash Flows
- Three months ended March 31, 2005 and 2004 7
Notes to Consolidated Condensed Financial Statements 9
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 22
Item 3. Quantitative and Qualitative Disclosures about
Market Risk 33
Item 4. Controls and Procedures 34
PART II-OTHER INFORMATION:
Item 1. Legal Proceedings 35
Item 2. Changes in Securities 35
Item 3. Defaults upon Senior Securities 35
Item 4. Submission of Matters to a Vote of Security Holders 36
Item 5. Other Information 36
Item 6. Exhibits and Reports on Form 8-K 36
Signatures 38
1
PART 1-FINANCIAL INFORMATION
Item 1. Financial Statements
- ----------------------------
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statements of Financial Condition
(UNAUDITED)
(Amounts in Thousands)
- --------------------------------------------------------------------------------
March 31, 2005 December 31, 2004
-------------- -----------------
ASSETS
Cash and cash equivalents:
Cash and amounts due from
depository institutions $ 24,770 $ 19,891
Interest-bearing deposits 997 630
---------- ----------
25,767 20,521
Securities:
Available-for-sale, carried at fair value 130,456 137,003
Held-to-maturity, carried at amortized cost
(approximate fair value $2,279 and $2,376
at March 31, 2005 and December 31,
2004 respectively) 2,180 2,255
---------- ----------
132,636 139,258
Loans held for sale 3,604 2,295
Loans receivable, net of allowance of $12,749 and
$9,956 at March 31, 2005 and December 31, 2004
respectively 1,014,669 878,912
Accrued interest receivable 5,790 4,653
Federal Home Loan Bank stock and other
interest-earning assets 15,397 13,376
Bank owned life insurance 18,759 18,581
Office properties and equipment 28,930 24,248
Real estate and other assets held for sale 488 98
Goodwill and other intangibles 33,408 18,933
Mortgage servicing rights 4,386 3,598
Other assets 3,681 2,194
---------- ----------
Total assets $1,283,911 $1,126,667
========== ==========
See accompanying notes.
2
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statements of Financial Condition
(UNAUDITED)
(Amounts in Thousands)
- --------------------------------------------------------------------------------
March 31, 2005 December31, 2004
-------------- ----------------
LIABILITIES AND
STOCKHOLDERS' EQUITY
Non-interest-bearing deposits $ 76,644 $ 62,450
Interest-bearing deposits 873,942 735,251
----------- -----------
Total deposits 950,586 797,701
Advances from Federal Home Loan Bank 156,875 178,213
Notes payable and other interest-bearing liabilities 19,639 14,804
Advance payments by borrowers for taxes and insurance 187 278
Deferred taxes 116 934
Other liabilities 10,372 7,863
----------- -----------
Total liabilities 1,137,775 999,793
STOCKHOLDERS' EQUITY
Preferred stock, no par value per share:
5,000 shares authorized; no shares
issued -- --
Common stock, $.01 par value per share:
20,000 shares authorized; 7,020
and 6,280 shares outstanding, respectively 70 63
Additional paid-in capital 71,595 52,131
Stock acquired by ESOP (1,266) (1,479)
Deferred compensation (3) (4)
Accumulated other comprehensive income,
net of income taxes of $369
and $1,148, respectively 686 2,131
Retained earnings 75,054 74,032
----------- -----------
Total stockholders' equity 146,136 126,874
----------- -----------
Total liabilities and stockholders' equity $ 1,283,911 $ 1,126,667
=========== ===========
See accompanying notes
3
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statements of Income
(UNAUDITED)
(Amounts in Thousands, except per share data)
- --------------------------------------------------------------------------------
For the Three Months Ended
March 31,
2005 2004
---- ----
Interest Income
Loans $ 14,763 $ 10,928
Investment securities 1,438 1,865
Interest-bearing deposits 71 32
-------- --------
Total interest income 16,272 12,825
Interest Expense
Deposits 3,945 2,998
FHLB advances and other 1,800 1,785
Notes payable 81 23
-------- --------
Total interest expense 5,826 4,806
-------- --------
Net interest income 10,446 8,019
Provision for loan losses 347 379
-------- --------
Net interest income after provision for loan losses 10,099 7,640
Non-interest Income
Service fees and other charges 1,511 1,252
Insurance commission income 1,213 1,062
Dividends on stock and other interest income 165 177
Gain on sale of loans 510 589
Gain on sale of securities 621 98
Trust income 78 49
Income from Bank Owned Life Insurance 177 193
Other non-interest income 97 2
-------- --------
Total non-interest income 4,372 3,422
Non-interest Expense
Compensation and benefits 5,512 4,314
Occupancy 1,029 840
SAIF deposit insurance premiums (credit) 31 (42)
State franchise tax 284 156
Acquisition related charges 884 --
Data processing 813 543
Amortization of mortgage servicing rights 166 172
Net (recovery) impairment of mortgage servicing rights (221) 237
Amortization of goodwill and other intangibles 114 27
Other non-interest expense 1,579 1,217
-------- --------
Total non-interest expense 10,191 7,464
-------- --------
Income before income taxes 4,280 3,598
Federal income taxes 1,409 1,105
-------- --------
Net Income $ 2,871 $ 2,493
======== ========
Earnings per share (Note 4)
Basic $ 0.43 $ 0.41
======== ========
Diluted $ 0.41 $ 0.39
======== ========
Average shares outstanding (Note 4)
Basic 6,656 6,113
======== ========
Diluted 6,929 6,427
======== ========
Dividends declared per share (Note 3) $ 0.22 $ 0.20
======== ========
See accompanying notes
4
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statement of Changes in Stockholders' Equity
(UNAUDITED)
(Amounts in Thousands)
- --------------------------------------------------------------------------------
2005
--------------------------------------------------------
Stock Acquired By
-----------------
Additional Management
Common Paid-in Recognition
Stock Capital ESOP Plan
----- ------- ---- ----
Balance at January 1 $ 63 $ 52,131 $ (1,479) $ (4)
Comprehensive income:
Net income
Change in unrealized gains (losses)
net of income taxes of ($372)
Total comprehensive income
ESOP shares released 458 213
Amortization of deferred compensation
of Management Recognition Plan 1
Shares issued under stock option plan 482
Purchase of common stock for
treasury (241)
Shares issued to acquire ComBanc, Inc. 7 18,765
Dividends declared (Note 3)
-----------------------------------------------------
Balance at March 31 $ 70 $ 71,595 $ (1,266) $ (3)
=====================================================
See accompanying notes
5
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statement of Changes in Stockholders' Equity (Continued)
(UNAUDITED)
(Amounts in Thousands)
- --------------------------------------------------------------------------------
2005 2004
--------------------------------------------------------------
Net Unrealized
gains (losses) on Total Total
available-for- Retained Stockholders Stockholder's
sale securities Earnings Equity Equity
--------------- -------- ------ ------
Balance at January 1 $2,131 $ 74,032 $ 126,874 124,269
Comprehensive income:
Net income 2,871 2,871 2,493
Change in unrealized gains (losses)
net of income taxes of ($372) (1,445) (1,445) 674
--------- --------
Total comprehensive income 1,426 3,167
ESOP shares released 671 659
Amortization of deferred compensation
of Management Recognition Plan 1 2
Shares issued under stock option plan 482 1,092
Purchase of common stock for
treasury (341) (582) (721)
Shares issued to acquire ComBanc, Inc. 18,772 --
Dividends declared (Note 3) (1,508) (1,508) (1,238)
-----------------------------------------------------
Balance at March 31 $ 686 $ 75,054 $ 146,136 127,230
=====================================================
See accompanying notes
6
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statements of Cash Flows
(UNAUDITED)
(Amounts in Thousands)
- --------------------------------------------------------------------------------
Three Months
Ended March 31,
2005 2004
---- ----
Operating Activities
Net income $ 2,871 $ 2,494
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 347 379
Depreciation expense 504 447
Accretion of premium and discounts on loans,
securities, deposits and debt obligations 347 166
Amortization of mortgage servicing rights 166 172
Net impairment of mortgage servicing rights (221) 237
Amortization of core deposit intangible 114 27
Gain on sale of loans (510) (589)
Gain on sale of property, plant and equipment (111) --
Release of ESOP Shares 671 659
Amortization of Management Recognition Plan
deferred compensation 1 2
Gain on sales of securities (621) (98)
Deferred federal income tax credit 14 12
Proceeds from sale of loans 22,110 20,935
Origination of mortgage servicing rights, net (179) (177)
Origination of loans held for sale (22,909) (22,688)
Decrease in interest receivable and other assets (932) (898)
Increase (decrease) in other liabilities 1,349 (666)
-------- --------
Net cash provided by operating activities 3,011 1,746
Investing Activities
Proceeds from maturities of held-to-maturity securities 75 109
Proceeds from maturities of available-for-sale securities 6,016 16,836
Proceeds from sale of available-for-sale securities 10,986 --
Proceeds from sales of real estate and
other assets held for sale 65 459
Proceeds from sale of property, plant and equipment 448 --
Net cash received for acquisition of ComBanc, Inc 52,340 --
Purchases of available-for-sale securities (11,779) (2,984)
Purchases of Federal Home Loan Bank stock (168) (177)
Purchases of office properties and equipment (1,417) (732)
Net increase in loans receivable (15,730) (22,212)
-------- --------
Net cash provided by (used in) investing activities 40,836 (8,701)
7
FIRST DEFIANCE FINANCIAL CORP.
Consolidated Condensed Statements of Cash Flows (Continued)
(UNAUDITED)
(Amounts in Thousands)
- --------------------------------------------------------------------------------
Three Months Ended
March 31,
2005 2004
---- ----
Financing Activities
Net decrease in deposits (10,803) (6,997)
Repayment of Federal Home Loan Bank long-term advances (581) (448)
Net increase (decrease) in Federal Home Loan Bank
short-term advances (24,000) 3,900
Decrease in short term line of credit (1,000) --
Decrease in securities sold under repurchase agreements (775) (3,977)
Purchase of common stock for treasury (582) (722)
Cash dividends paid (1,342) (1,238)
Proceeds from exercise of stock options 482 1,092
-------- --------
Net cash used in financing activities (38,601) (8,390)
-------- --------
Increase (decrease) in cash and cash equivalents 5,246 (15,345)
Cash and cash equivalents at beginning of period 20,521 37,783
-------- --------
Cash and cash equivalents at end of period $ 25,767 $ 22,438
======== ========
Supplemental cash flow information:
Interest paid $ 5,456 $ 4,748
======== ========
Income taxes paid $ -- $ --
======== ========
Noncash operating activities:
Change in deferred tax established on net unrealized
gain or loss on available-for-sale securities $ 778 $ (362)
======== ========
Transfers from loans to real estate
and other assets held for sale $ 335 $ 403
======== ========
Noncash investing activities:
Increase (decrease) in net unrealized gain or loss on
available-for-sale securities $ (2,222) $ 1,038
======== ========
Common stock issued in ComBanc, Inc. acquisition $ 18,772 $ --
======== ========
Noncash financing activities:
Cash dividends declared but not paid $ 1,508 $ 1,238
======== ========
See accompanying notes.
8
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
1. Principles of Consolidation
The consolidated condensed financial statements include the accounts of First
Defiance Financial Corp. ("First Defiance" or "the Company"), and its two wholly
owned subsidiaries, First Federal Bank of the Midwest ("First Federal") and
First Insurance and Investments, Inc. ("First Insurance"). In the opinion of
management, all significant intercompany accounts and transactions have been
eliminated in consolidation.
2. Basis of Presentation
The consolidated condensed statement of financial condition at December 31, 2004
has been derived from the audited financial statements at that date, which were
included in First Defiance's Annual Report on Form 10-K.
The accompanying consolidated condensed financial statements as of March 31,
2005 and for the three-month period ending March 31, 2005 and 2004 have been
prepared by First Defiance without audit and do not include information or
footnotes necessary for the complete presentation of financial condition,
results of operations, and cash flows in conformity with accounting principles
generally accepted in the United States. These consolidated condensed financial
statements should be read in conjunction with the financial statements and notes
thereto included in First Defiance's 2004 Annual Report on Form 10-K for the
year ended December 31, 2004. However, in the opinion of management, all
adjustments, consisting of only normal recurring items, necessary for the fair
presentation of the financial statements have been made. The results for the
three-month period ended March 31, 2005 are not necessarily indicative of the
results that may be expected for the entire year.
Goodwill
Goodwill is the excess of the purchase price over the fair value of the assets
and liabilities of companies acquired through business combinations accounted
for under the purchase method. Goodwill is evaluated at the business unit level,
which for First Defiance are First Federal Bank and First Insurance. At March
31, 2005, goodwill totaled $33.5 million, an increase from the $18.9 million
balance reported at December 31, 2004. The increase in goodwill is the result of
the ComBanc, Inc acquisition, which closed on January 21, 2005. Total goodwill
recognized for the purchase totaled $14.6 million.
9
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
2. Basis of Presentation (continued)
Income Taxes
The Company's effective tax rate differs from the statutory 35% federal tax rate
primarily because of the existence of municipal securities and bank owned life
insurance, the earnings of which are exempt from federal income taxes.
Stock Compensation
At March 31, 2005, the Company had three stock-based compensation plans, which
are more fully described in Note 18 in the financial statements included in
First Defiance's 2004 Annual Report on Form 10-K. The Company accounts for those
plans under recognition and measurement principles of Accounting Principles
Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees and related
interpretations. Under APB No. 25, because the exercise price of the Company's
employee stock options equals the market price of the underlying stock on the
date of the grant, no compensation expense is recognized.
Pro forma information regarding net income and earnings per share is required by
SFAS No. 123, Accounting for Stock-Based Compensation and has been determined as
if First Defiance had accounted for its employee stock options under the fair
value method of that Statement. Under the fair-value based method, compensation
cost is measured at the grant date based upon the value of the award and
recognized over the service period. For purposes of the pro forma disclosures,
the estimated fair value of the option is amortized to expense over the options'
vesting period.
The following pro forma results of operations use a fair value method of
accounting for stock options in accordance with SFAS No. 123. The estimated fair
value of the options are amortized to expense over the option and vesting
period. The fair value was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions:
March 31
2005 2004
-------------------------
Risk free interest rate 5.52% 5.65%
Dividend yield 3.03% 2.97%
Volatility factors of expected market price
of stock 0.253% 0.266%
Weighted average expected life 9.07 years 8.71 years
Weighted average grant date fair value
of options granted $3.78 $3.53
Based on the above assumptions, pro forma net income and earnings per share are
computed as follows (in thousands, except per share amounts):
10
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
2. Basis of Presentation (continued)
Three months ended March 31
2005 2004
----------------------------
Net Income $ 2,871 $ 2,493
Stock-based compensation using the fair
value method, net of tax (56) (51)
----------------------------
Pro forma net income
$ 2,815 $ 2,448
============================
Earnings per share as reported:
Basic $ 0.43 $ 0.41
============================
Diluted $ 0.41 $ 0.39
============================
Pro forma earnings per share:
Basic $ 0.42 $ 0.40
============================
Diluted $ 0.41 $ 0.38
============================
Recent Accounting Pronouncements
Accounting for Certain Loans or Debt Securities Acquired in a Transfer In
December 2003, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued AICPA Statement of Position
03-3, "Accounting for Certain Loans or Debt Securities Acquired in a Transfer"
(SOP 03-3), which addresses the accounting for differences between contractual
cash flows and cash flows expected to be collected from an investor's initial
investment in loans or debt securities (loans) acquired in a transfer. SOP 03-3
limits the yield that may be accreted (accretable yield) to the excess of the
investor's estimate of undiscounted expected principal, interest, and other cash
flows (cash flows expected at acquisition to be collected) over the investor's
initial investment in the loan. Subsequent increases in cash flows expected to
be collected should be recognized prospectively through adjustment of the loan's
yield over its remaining life. Decreases in cash flows expected to be collected
should be recognized as impairment. Loans acquired by First Defiance on January
21, 2005 related to the acquisition of ComBanc, Inc were recorded in accordance
SOP 03-3.
11
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
2. Basis of Presentation (continued)
Accounting for Stock Based Compensation
In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS
No. 123 (revised 2004), "Share-Based Payment," which revised SFAS No. 123,
"Accounting for Stock-Based Compensation," and supersedes APB Opinion No. 25,
"Accounting for Stock Issued to Employees." This Statement requires an entity to
recognize the cost of employee services received in share-based payment
transactions and measure the cost on a grant-date fair value of the award. That
cost will be recognized over the period during which an employee is required to
provide service in exchange for the award. The provisions of SFAS 123 (revised
2004) will be effective for the Company's financial statements issued for the
first fiscal year beginning after June 15, 2005. First Defiance will adopt SFAS
123 (revised 2004) in the first quarter of 2006. The method for adoption of this
statement is yet to be determined. See SFAS 123 pro forma disclosures included
in this Note 2.
Other Than Temporary Impairments
In March 2004, the Emerging Issues Task Force ("EITF"), revised EITF No. 03-01,
"The Meaning of Other than Temporary Impairment and its Application to Certain
Investments." In the revised guidance, the EITF reached a consensus regarding
the model to be used in determining whether an investment is other than
temporarily impaired, and the required disclosures about unrealized losses on
available for sale debt and equity securities. The other than temporary
impairment evaluation guidance was effective for First Defiance on July 1, 2004.
However, in September 2004 the FASB issued FSP 03-1-1, Effective Date of
Paragraphs 10-20 of EITF 03-1, The Meaning of Other Than Temporary Impairment,
delaying the effective date for the recognition and measurement guidance of EITF
03-1, as contained in paragraphs 10-20, until certain implementation issues are
addressed and a final FSP providing implementation guidance is issued. The FSP
requires the application of pre-existing other-than-temporary guidance during
the period of delay until a final consensus is reached. Management does not
anticipate the issuance of the final consensus will have a material impact on
financial condition, results of operations, or liquidity.
12
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
3. Acquisitions
On January 21, 2005, First Defiance completed its acquisition of ComBanc Inc.
(ComBanc), a bank-holding company operating four retail bank branch offices
headquartered in Delphos, Ohio. The acquisition allows the Company to expand its
product offerings to Allen County, Ohio which is adjacent to the Company's
existing footprint. Under the terms of the merger, each share of ComBanc common
stock was exchanged for .65266 shares of First Defiance common stock, $17.20 in
cash, or a combination of cash and stock. Total consideration in the transaction
was limited to 50% cash and 50% common stock. In connection with the
transaction, 721,164 shares of First Defiance Common stock were issued and $19.0
million of cash was paid. The total cost of the transaction, including legal,
accounting and investment banking fees, was $38.3 million. The common shares
issued were valued at $26.03 per share representing an average of the closing
market prices for two days before and after the date the final exchange ratio
was determined. The assets and liabilities of ComBanc were recorded on the
balance sheet at their fair value as of the merger date. The results of
ComBanc's operations have been included in First Defiance's consolidated
statement of income from the date of acquisition.
Refer to Note 4 for discussion on severance and other restructuring costs
incurred in connection with the ComBanc merger. Additionally refer to Note 2 for
further discussion on goodwill and intangible assets recognized in connection
with the ComBanc merger.
The following tables summarize the estimated fair values of the net assets
acquired and the computation of the purchase price and goodwill related to the
ComBanc acquisition.
(In thousands) January 21, 2005
----------------
Assets
Cash and cash equivalents $ 71,915
Investment Securities 502
Loans, net of allowance for loan losses 117,313
Premises and equipment 4,806
Goodwill and other intangibles 14,588
Other assets 3,692
--------
Total Assets 212,816
Liabilities:
Deposits 163,668
Borrowings 9,863
Other liabilities 939
--------
Total Liabilities 174,470
--------
Net assets acquired $ 38,346
========
13
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
3. Acquisitions (continued)
January 21, 2005
----------------
Purchase price $ 38,346
ComBanc's carrying value of net assets acquired (22,637)
--------
Excess of purchase price over ComBanc's carry
value of net assets acquired 15,709
--------
Purchase accounting adjustments
Portfolio loans (1,487)
Premises and equipment (672)
Mortgage service rights (49)
Deposits 322
Borrowings 211
Deferred tax liabilities 554
--------
Total net tangible assets (1,121)
--------
Core deposit intangibles (2,936)
--------
Goodwill $ 11,652
========
The estimated fair values of ComBanc's acquired assets and liabilities,
including identifiable intangible assets, are preliminary and subject to
refinement as additional information becomes available. Any subsequent
adjustments to the fair values of assets and liabilities acquired, identifiable
intangible assets, or other purchase accounting adjustments will result in
adjustments to goodwill.
On April 8, 2005, the Company completed its acquisition The Genoa Savings and
Loan Company (Genoa), a savings and loan operating four branch offices in the
Toledo, Ohio area markets of Genoa, Perrysburg, Oregon, and Maumee. Under the
terms of the agreement, each share of Genoa stock was exchanged for $30.22 in
cash for a total cost of $11 million. The allocation of the purchase price will
be determined after completion of valuations to determine the estimated fair
values of Genoa's assets and liabilities. The results of Genoa's operations will
be included in First Defiance's income statement from the date of acquisition.
As this transaction was completed subsequent to March 31, 2005, the accompanying
financial statements as of and for the three-month period ended March 31, 2005
do not include the effects of this transaction.
14
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
4. Acquisition Related Charges
During the three months ended March 31, 2005, First Defiance recognized $884,000
of acquisition related charges, of which $442,000 related to severance payments
and retention bonuses provided to ComBanc employees during the first quarter of
2005 and $161,000 related to termination of certain contracts. Substantially all
severance costs will be paid out by January, 2006.
5. Dividends on Common Stock
As of March 31, 2005, First Defiance had declared a quarterly cash dividend of
$.22 per share for the first quarter of 2005, payable April 22, 2005.
6. Earnings Per Share
Basic earnings per share as disclosed under FAS No. 128 has been calculated by
dividing net income by the weighted average number of shares of common stock
outstanding for the three month period ended March 31, 2005 and 2004. First
Defiance accounts for the shares issued to its Employee Stock Ownership Plan
("ESOP") in accordance with Statement of Position 93-6 of the American Institute
of Certified Public Accountants ("AICPA"). As a result, shares controlled by the
ESOP are not considered in the weighted average number of shares of common stock
outstanding until the shares are committed for allocation to an employee's
individual account. In the calculation of diluted earnings per share for the
three months ended March 31, 2005 and 2004, the effect of shares issuable under
stock option plans and unvested shares under the Management Recognition Plan
have been accounted for using the Treasury Stock method.
15
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
6. Earnings Per Share (continued)
The following table sets forth the computation of basic and diluted earning per
share (in thousands except per share data):
Three months ended March 31
2005 2004
----------------------------
Numerator for basic and diluted earnings per share -
Net income $ 2,871 $ 2,493
Denominator:
Denominator for basic earnings per share - weighted
average shares 6,656 6,113
Effect of dilutive securities:
Employee stock options 272 311
Unvested management recognition plan stock 1 3
----------------------------
Dilutive potential common shares 273 314
----------------------------
Denominator for diluted earnings per share -
adjusted weighted average shares and assumed
conversions 6,929 6,427
============================
Basic earnings per share from net income $ 0.43 $ 0.41
============================
Diluted earnings per share from net income $ 0.41 $ 0.39
============================
16
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
7. Investment Securities
The following is a summary of available-for-sale and held-to-maturity securities
(in thousands):
March 31, 2005
------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized
Cost Gains Losses Fair Value
------------------------------------------------------
Available-for-Sale Securities:
U.S. Treasury securities and obligations
of U.S. Government corporations and
agencies $ 53,807 $ 785 $ 232 $ 54,360
Corporate bonds 2,058 45 -- 2,103
Mortgage-backed securities 17,430 50 210 17,270
REMICs 3,425 -- 22 3,403
Collateralized mortgage obligations 19,026 40 220 18,846
Trust preferred stock 6,228 72 1 6,299
Equity securities 69 3 -- 72
Obligations of state and political
subdivisions 27,355 758 10 28,103
------------------------------------------------------
Totals $ 129,398 $ 1,753 $ 695 $ 130,456
======================================================
Held-to-Maturity Securities:
FHLMC certificates $ 421 $ 13 $ -- $ 434
FNMA certificates 934 11 2 943
GNMA certificates 295 4 2 297
Obligations of state and political
subdivisions 530 75 -- 605
------------------------------------------------------
Totals $ 2,180 $ 103 $ 4 $ 2,279
======================================================
First Defiance does not believe the unrealized losses on securities,
individually or in the aggregate, as of March 31, 2005, represent an
other-than-temporary impairment. The unrealized losses are primarily the result
of the changes in interest rates and will not prohibit the Company from
receiving its contractual principal and interest payments. First Defiance has
the ability and intent to hold these securities for a period necessary to
recover the amortized cost.
17
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
7. Investment Securities (continued)
December 31, 2004
------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized
Cost Gains Losses Fair Value
------------------------------------------------------
Available-for-Sale Securities:
U.S. Treasury securities and obligations
of U.S. Government corporations and
agencies $ 48,913 $ 1,461 $ 61 $ 50,313
Corporate bonds 6,158 310 -- 6,468
Mortgage-backed securities 16,645 151 16 16,780
REMICs 4,902 -- 26 4,876
Collateralized mortgage obligations 20,027 136 54 20,109
Trust preferred stock 6,228 64 -- 6,292
Equity securities 69 4 -- 73
Obligations of state and political
subdivisions 30,781 1,313 2 32,092
------------------------------------------------------
Totals $ 133,723 $ 3,439 $ 159 $ 137,003
======================================================
Held-to-Maturity Securities:
FHLMC certificates $ 459 $ 21 $ 1 $ 479
FNMA certificates 960 12 4 968
GNMA certificates 306 4 1 309
Obligations of state and political
subdivisions 530 90 -- 620
------------------------------------------------------
Totals $ 2,225 $ 127 $ 6 $ 2,376
======================================================
18
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
8. Loans
Loans receivable and held for sale consist of the following (in thousands):
March 31, December 31,
2005 2004
--------------------------
Real Estate:
One-to-four family residential $ 229,887 $ 190,070
Construction 14,861 15,507
Non-residential and multi-family 482,326 415,164
--------------------------
727,074 620,741
Other Loans:
Commercial 160,749 141,643
Consumer finance 51,753 45,513
Home equity and improvement 95,200 90,839
--------------------------
307,702 277,995
--------------------------
Total real estate and other loans 1,034,776 898,736
Deduct:
Loans in process 6,170 6,340
Net deferred loan origination fees and costs 1,188 1,233
Allowance for loan loss 12,749 9,956
--------------------------
Totals $1,014,669 $ 881,207
==========================
$33.1 million of one-to-four family real estate loans, $1.9 million of
construction loans, $59.9 of non-residential and multi-family real estate loans,
$13.0 million of commercial loans, $6.7 million of consumer finance loans and
$4.6 million of home equity loans were acquired in conjuction with the ComBanc
acquisition.
Changes in the allowance for loan losses were as follows (in thousands):
Three Months ended March 31,
2005 2004
------------------------------
Balance at beginning of period $ 9,956 $ 8,844
Provision for loan losses 347 379
Allowance from ComBanc acquisition 2,538 --
Charge-offs:
One-to-four family residential real estate -- 52
Non-residential and multi-family real estate 67 --
Commercial 45 14
Consumer finance 57 38
------------------------------
Total charge-offs 169 104
Recoveries 77 48
------------------------------
Net charge-offs 92 56
------------------------------
Ending allowance $ 12,749 $ 9,167
==============================
19
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
9. Deposits
A summary of deposit balances is as follows (in thousands):
March 31, December 31,
2005 2004
Non-interest-bearing checking accounts $ 76,644 $ 62,450
Interest-bearing checking accounts 102,827 74,964
Savings accounts 85,581 52,132
Money market demand accounts 167,315 183,833
Certificates of deposit 518,219 424,322
--------------------------
$950,586 $797,701
==========================
On January 21, 2005, $17.7 million of non-interest-bearing checking accounts,
$33.0 million interest-bearing checking accounts, $30.6 million savings
accounts, $13.2 million money market demand accounts and $68.8 million of
certificates of deposit were acquired as part of the ComBanc acquisition.
10. Commitments, Guarantees and Contingent Liabilities
Loan commitments are made to accommodate the financial needs of First Defiance's
customers; however, there are no long-term, fixed-rate loan commitments that
result in market risk. Standby letters of credit obligate the Company to pay a
third party beneficiary when a customer fails to repay an outstanding loan or
debt instrument, or fails to perform some contractual non-financial obligation.
Standby letters of credit are issued to address customers' financing needs and
to facilitate customers' trade transactions. In accordance with FASB
interpretation No. 45, "Guarantor's Guarantees of Indebtedness of Others,"
certain guarantees issued or modified on or after January 1, 2003, require the
recognition of a liability on First Defiance's balance sheet for the "stand
ready" obligation with such guarantees.
If amounts are drawn under standby letters of credit, such amounts are treated
as loans. Both loan commitments and standby letters of credit have credit risk,
essentially the same as that involved in extending loans to customers, and are
subject to the Company's normal credit policies. Collateral (e.g., securities,
receivables, inventory and equipment) is obtained based on management's credit
assessment of the customer.
20
FIRST DEFIANCE FINANCIAL CORP.
Notes to Consolidated Condensed Financial Statements
(Unaudited at March 31, 2005 and 2004)
- --------------------------------------------------------------------------------
10. Commitments, Guarantees and Contingent Liabilities (continued)
The Company's maximum obligation to extend credit for loan commitments (unfunded
loan and unused lines of credit) and standby letters of credit was as follows:
March 31, December 31,
2005 2004
------------------------
(In thousands)
Commercial $ 171,749 $ 112,482
Real Estate 17,693 14,647
Consumer 74,484 66,199
Standby Letters of Credit 9,034 9,921
------------------------
Total $ 272,960 $ 203,249
========================
The remaining weighted average life for outstanding standby letters of credit
was less than one year at March 31, 2005. The Company had $3.8 million of
standby letters of credit with a life longer than one year.
11. Postretirement Benefits
First Defiance sponsors a defined benefit postretirement plan that is intended
to supplement Medicare coverage for certain retirees who meet minimum age
requirements. A description of employees or former employees eligible for
coverage is included in Footnote 14 in the financial statements included in
First Defiance's 2004 Annual Report on Form 10-K. Net periodic postretirement
benefit costs include the following components for the three-month periods ended
March 31, 2005 and 2004:
Three Months Ended March 31
2005 2004
------------------------
(In thousands)
Service cost-benefits attributable to service
during the period $ 11 $ 12
Interest cost on accumulated postretirement
benefit obligation 24 24
Net amortization and deferral 6 6
------------------------
Net periodic postretirement benefit cost $ 41 $ 42
========================
Prescription drug coverage was added to Medicare under the Medicare Prescription
Drug Improvement and Modernization Act of 2003 (the Act). The Company has
assumed that it will opt for coverage under Medicare Part D rather than the
Federal subsidy approach. As specific authoritative guidance for matters related
to the Act are pending, guidance when issued could require First Defiance to
change previously reported information.
21
Item 2. Management's Discussion and Analysis of Financial Condition and Results
- -------------------------------------------------------------------------------
of Operations
- -------------
General
- -------
First Defiance Financial Corp. ("First Defiance" of "the Company") is a holding
company which conducts business through its two wholly owned subsidiaries, First
Federal Bank of the Midwest ("First Federal") and First Insurance and
Investments, Inc. ("First Insurance"). First Federal is a federally chartered
savings bank that provides financial services to communities based in northwest
Ohio where it operates 23 full service branches. On January 21, 2005, First
Defiance completed the acquisition of ComBanc, Inc., a four-branch bank holding
company located in Delphos, Ohio. The acquisition was accounted for as a
purchase and consolidated results include the results of the ComBanc branches
from January 21. On April 8, 2005, First Defiance completed the acquisition of
The Genoa Savings and Loan Company. This acquisition increased the number of
full service branches from 23 to 26. On April 25, 2005, First Federal's Defiance
North and Super K-Mart branches were merged, reducing the total to 25. First
Federal provides a broad range of financial services including checking
accounts, savings accounts, certificates of deposit, real estate mortgage loans,
commercial loans, consumer loans, home equity loans and trust services. First
Insurance sells a variety of property and casualty, group health and life, and
individual health and life insurance products and investment and annuity
products. Insurance products are sold through First Insurance's office in
Defiance, Ohio while investment and annuity products are sold through registered
investment representatives located at three First Federal banking center
locations.
First Defiance invests in U.S. Treasury and federal government agency
obligations, obligations of municipal and other political subdivisions,
mortgage-backed securities which are issued by federal agencies, corporate
bonds, and collateralized mortgage obligations ("CMOs") and real estate mortgage
investment conduits ("REMICs"). Management determines the appropriate
classification of all such securities at the time of purchase in accordance with
FAS Statement No. 115, Accounting for Certain Investments in Debt and Equity
Securities.
Securities are classified as held-to-maturity when First Defiance has the
positive intent and ability to hold the security to maturity. Held-to-maturity
securities are stated at amortized cost and had a recorded value of $2.2 million
at March 31, 2005. Securities not classified as held-to-maturity are classified
as available-for-sale, which are stated at fair value and had a recorded value
of $130.5 million at March 31, 2005. The available-for-sale portfolio consists
of U.S. Treasury securities and obligations of U.S. Government corporations and
agencies ($54.4 million), corporate bonds ($2.1 million), certain municipal
obligations ($28.1 million), CMOs and REMICs ($22.2 million), mortgage backed
securities ($17.3 million) and preferred stock and other equity investments
($6.4 million).
In accordance with FAS No. 115, unrealized holding gains and losses deemed
temporary on available-for-sale securities are reported in a separate component
of stockholders' equity and are not reported in earnings until realized. Net
unrealized holding gains on available-for-sale securities were $1.1 million at
March 31, 2005, or $686,000 million after considering the related deferred tax
liability.
The profitability of First Defiance is primarily dependent on its net interest
income and non-interest income. Net interest income is the difference between
interest income on interest-earning assets, principally loans and securities,
and interest expense on interest-bearing deposits, Federal Home Loan Bank
advances, and other borrowings. The Company's non-interest income includes
22
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
deposit and loan servicing fees, gains on sales of mortgage loans, and insurance
commissions. First Defiance's earnings also depend on the provision for loan
losses and non-interest expenses, such as employee compensation and benefits,
occupancy and equipment expense, deposit insurance premiums, amortization and
impairment of mortgage servicing rights and miscellaneous other expenses, as
well as federal income tax expense.
Forward-Looking Information
- ---------------------------
Certain statements contained in this quarterly report that are not historical
facts, including but not limited to statements that can be identified by the use
of forward-looking terminology such as "may", "will", "expect", "anticipate", or
"continue" or the negative thereof or other variations thereon or comparable
terminology are "forward-looking statements" within the meaning of Section 27A
of the Securities Act of 1933, as amended, and Section 21B of the Securities Act
of 1934, as amended. Actual results could differ materially from those indicated
in such statements due to risks, uncertainties and changes with respect to a
variety of market and other factors.
Changes in Financial Condition
- ------------------------------
At March 31, 2005, First Defiance's total assets, deposits and stockholders'
equity amounted to $1.28 billion, $950.6 million and $148.2 million,
respectively, compared to $1.13 billion, $797.7 million and $126.9 million,
respectively, at December 31, 2004.
Net loans receivable increased $130.8 million to $1.0 billion at March 31, 2005
from $887.4 million at December 31, 2004. The increase in loans receivable
occurred primarily in non-residential and multi-family real estate loans, which
increased by $67.2 million to $482.3 million, one-to-four family residential
loans, which increased by $39.8 million to $229.9 million, home equity and
improvement loans, which increased by $4.4 million to $95.2 million and consumer
loans, which increased by $6.2 million to $51.8 million. Of the $130.8 million
increase in total loans, $119.5 million was a result of the ComBanc, Inc
acquisition.
The investment securities portfolio decreased to $132.6 million at March 31,
2005 from $139.3 million at December 31, 2004. The decrease in the balance in
the investment portfolio is the result of redeploying funds from securities as
they are sold, mature or get called to fund loan growth. At March 31, 2005 there
were approximately $997,000 of interest-bearing deposits held at other financial
institutions.
Deposits increased from $797.7 million at December 31, 2004 to $950.6 million as
of March 31, 2005. Of the total increase of $152.9 million, $163.3 million was a
result of the ComBanc, Inc acquisition. At January 21, 2005, ComBanc's deposits
included $68.8 million in CDs, $43.8 million in savings accounts, $33.0 million
in interest-bearing demand deposits and $17.7 million in non-interest-bearing
checking accounts. Excluding the ComBanc acquisition, deposits declined from
December 31, 2005 to March 31, 2005 due to $27.6 million of brokered CDs
maturing which were not replaced.
23
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Additionally, FHLB advances decreased to $156.9 million at March 31, 2005 from
$181.2 million at December 31, 2004. Short-term advances were paid off following
the acquisition of ComBanc, a result of ComBanc's strong liquidity position.
Short-term borrowings increased to $17.6 million at March 31, 2005 from $11.8
million at December 31, 2004. This is a result of an increase in the balance of
securities sold under repurchase agreements, principally due to the ComBanc, Inc
acquisition. These accounts are a function of customer demand.
Stockholders' equity increased from $126.9 million at December 31, 2004 to
$148.2 million at March 31, 2005. The increase is a result of issuing 721,164
shares of common stock at $26.03 per common share, totaling $18.8 million, to
ComBanc, Inc shareholders, $2.9 million of net income, a decrease in unrealized
gains on available for sale securities (net of tax) of $1.4 million, the release
of ESOP shares which increased equity by $671,000 and $482,000 from the exercise
of stock options by First Defiance employees. Those increases were partially
offset by $1.5 million of dividends declared and by $582,000 related to the
repurchase of shares for treasury.
24
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Average Balances, Net Interest Income and Yields Earned and Rates Paid
- ----------------------------------------------------------------------
The following table presents for the periods indicated the total dollar amount
of interest from average interest-earning assets and the resultant yields, as
well as the interest expense on average interest-bearing liabilities, expressed
both in thousands of dollars and rates, and the net interest margin. Dividends
received on FHLB stock are included as interest income. The table reports
interest income from tax-exempt loans and investment on a tax-equivalent basis.
All average balances are based upon daily balances.
Three Months Ended March 31,
-----------------------------------------------------------------------------------
2005 2004
------------------------------------- --------------------------------------
Average Yield/ Average Yield/
Balance Interest(1) Rate(2) Balance Interest(1) Rate(2)
------- ----------- ------- ------- ----------- -------
Interest-earning assets:
Loans receivable $ 982,125 $ 14,767 6.10% $ 749,848 $ 10,932 5.86%
Securities 136,650 1,604 4.76 165,239 2,024 4.93
Interest-earning deposits 9,942 71 2.90 8,490 32 1.52
FHLB stock and other 14,832 165 4.51 17,768 177 4.01
---------- ---------- ---------- ----------
Total interest-earning assets 1,143,549 16,607 5.89 941,345 13,165 5.62
Non-interest-earning assets 92,133 95,226
---------- ----------
Total assets $1,235,682 $1,036,571
========== ==========
Interest-bearing liabilities:
Deposits $ 846,829 $ 3,945 1.89% $ 673,193 $ 2,998 1.79%
FHLB advances and other 160,814 1,800 4.54 163,242 1,785 4.40
Notes payable 14,635 81 2.24 10,741 23 0.86
---------- ---------- ---------- ----------
Total interest-bearing liabilities 1,022,278 5,826 2.31 847,176 4,806 2.28
Non-interest bearing deposits 74,367 -- 53,109 --
---------- ---------- ---------- ----------
Total including non-interest bearing
demand deposits 1,096,645 5,826 2.15 900,285 4,806 2.15
Other non-interest-bearing liabilities 5,032 10,414
---------- ----------
Total liabilities 1,101,677 910,699
Stockholders' equity 134,005 125,872
---------- ----------
Total liabilities and stock-
holders' equity $1,235,682 $1,036,571
========== ==========
Net interest income; interest
rate spread $ 10,781 3.58% $ 8,359 3.34%
========== ==== ========== ====
Net interest margin (3) 3.82% 3.57%
==== ====
Average interest-earning assets
to average interest-bearing
liabilities 112% 111%
=== ===
- ----------
(1) Interest on certain tax-exempt loans and securities is not taxable for
Federal income tax purposes. In order to compare the tax-exempt yields on
these assets to taxable yields, the interest earned on these assets is
adjusted to a pre-tax equivalent amount based on the marginal corporate
federal income tax rate of 35%. First Defiance believes this measure to be
the preferred industry measurement of net interest income and provides
relevant comparison between taxable and non-taxable amounts.
(2) Annualized
(3) Net interest margin is net interest income divided by average
interest-earning assets.
25
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Results of Operations
- ---------------------
Three Months Ended March 31, 2005 compared to Three Months Ended March 31, 2004
- -------------------------------------------------------------------------------
On a consolidated basis, First Defiance had net income of $2.9 million or $.41
per share for the three months ended March 31, 2005 compared to $2.5 million or
$0.39 per share in 2004.
Net Interest Income. Net interest income for the 2005 first quarter was $10.4
million, a 30.2% increase over the $8.0 million earned in the first quarter of
2004. Net interest margin for the 2005 first quarter, on a tax-equivalent basis,
was 3.82%, a 25 basis point improvement from the first quarter of 2004 and a 15
basis point improvement over the margin reported for the 2004 fourth quarter.
The improved margin is due to an improved mix between loans and investment
securities and growth in the average balance of non-interest bearing deposits.
Average interest earning assets grew from $941.3 million in the first quarter of
2004 to $1.14 billion in the first quarter of 2005, an increase of 21.5%. The
average balance of loans outstanding increased from $749.8 million in the 2004
first quarter to $982.1 million in the first quarter of 2005, while the average
balance of investment securities dropped from $165.2 million to $136.7 million
between the first quarter of 2004 and the first quarter of 2005. Approximately
$90 million of the increase in average loan balances related to the ComBanc
acquisition, which closed on January 21, 2005 and the remainder of the $202
million total increase is due to year-over-year balance growth. Yields on loans
improved to 6.10% for the 2005 first quarter from 5.86% in the first quarter of
2004. Overall yields on interest-earning assets improved to 5.89% in the 2005
first quarter compared to 5.62% during that same period in 2004. The first
quarter yield was also a nine basis point improvement over the 5.80% yield
realized in the 2004 fourth quarter.
Average interest-bearing deposits increased to $846.8 million in the 2005 first
quarter compared with $673.2 million during the same period of 2004, an increase
of $173.6 million or 25.8%. The ComBanc acquisition added $115.6 million in
average balances of interest-bearing deposits for the quarter. The average
balance in interest-bearing deposits also reflects an increase in brokered
certificates of deposits (CDs), which averaged $26.8 million in the 2004 first
quarter and increased to $52.8 million in the 2005 period. Excluding the
acquisition and brokered CDs, interest-earning deposits increased by $32.0
million in the 2005 first quarter compared with the first quarter of 2004. The
cost of interest bearing deposits increased just 10 basis points, to 1.89% for
the 2005 first quarter from 1.79% in 2004 and the cost of Federal Home Loan Bank
(FHLB) advances increased 14 basis points, to 4.54% in the 2005 first quarter
from 4.40% in the 2004 first quarter. However, an improved mix between advances
and deposits resulted in an overall increase in funding costs of just three
basis points, to 2.31% for the 2005 quarterly period from 2.28% in the 2004
first quarter.
The margin also benefited from significant growth in non-interest bearing
deposits, which increased to $74.4 million in the 2005 first quarter compared
with $53.1 million during the first three months of 2004, an increase of 40.1%.
Of that $21.3 million increase, $11.8 million was due to the ComBanc acquisition
and $9.5 million resulted from other Company initiatives to grow those balances.
26
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Provision for Loan Losses. The provision for loan losses was $347,000 in the
first quarter of 2005 compared to $379,000 for the first quarter of 2004 despite
significant growth in loan balances. The lower provision was due in part to the
Company's very low loss experience in the 2005 first quarter, which showed net
charge-offs of $92,000. Provisions for loan losses are charged to earnings to
bring the total allowance for loan losses to the level deemed appropriate by
management based on the following factors: historical experience; the volume and
type of lending conducted by First Defiance; the amount of non-performing
assets, including loans which meet the FASB Statement No. 114 definition of
impaired; the amount of assets graded by management as substandard, doubtful, or
loss; industry standards; general economic conditions, particularly as they
relate to First Defiance's market area; and other factors related to the
collectibility of First Defiance's loan portfolio. Management believes the
balance of the allowance for loan losses is appropriate.
Non-performing assets and asset quality ratios for First Defiance were as
follows (in $000's):
March 31, December 31,
2005 2004
Non-accrual loans $ 3,142 $ 1,893
Loans over 90 days past due and still accruing -- --
-------------------------
Total non-performing loans $ 3,142 $ 1,893
Real estate owned (REO) 488 98
-------------------------
Total non-performing assets $ 3,630 $ 1,991
=========================
Allowance for loans losses as a percentage
of total loans 1.24% 1.12%
Allowance for loan losses as a percentage
of non-performing assets 351.21% 500.05%
Allowance for loan losses as a percentage
of non-performing loans 405.76% 525.94%
Total non-performing assets as a percentage
of total assets 0.28% 0.18%
Total non-performing loans as a percentage
of total loans 0.31% 0.21%
Of the $3.1 million in non-accrual loans, $2.1 million were commercial loans or
non-residential real estate loans and $911,000 were residential mortgage loans.
The allowance for loan losses at March 31, 2005 was $12.7 million compared to
$9.2 million at March 31, 2004 and $10.0 million at December 31, 2004. For the
quarter ended March 31, 2005, First Defiance charged off $171,000 of loans
against its allowance and realized recoveries of $77,000 from loans previously
charged off. During the same quarter in 2004, First Defiance charged off
$104,000 in loans and realized recoveries of $48,000.
Non-Interest Income. Non-interest income increased $950,000 in the first quarter
of 2005, to $4.4 million for the quarter ended March 31, 2005 from $3.4 million
for the same period in 2004. Individual components of non-interest income are as
follows:
Gain on Sale of Loans. Gains realized from the sale of mortgage loans decreased
$79,000 to $510,000 for the three months ended March 31, 2005 from $589,000
during the 2004 first quarter.
27
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Gain on Sale of Securities. Gains realized from the sale of investment
securities were $621,000 in the first quarter of 2005. This was an increase of
$523,000 from a gain of $98,000 in the first quarter of 2004.
Service Fees. Loan and deposit fees increased $259,000 to $1.5 million for the
quarter ended March 31, 2005 from $1.3 million for the quarter ended March 31,
2004. Increases occurred primarily in loan servicing fees on sold loans, debit
card interchange fees, and checking NSF fees.
Insurance and Investment Sales Commission. Insurance and investment sales
commission income increased $151,000 to $1.2 million in the first quarter of
2005 from $1.1 million in the same period of 2004. Insurance commission income
in the first quarter includes contingent commission income amounts that are paid
by insurance companies based on factors such as favorable underwriting
experience and achievement of certain premium levels. Such contingent income
amounted to $356,000 in 2005 compared to just $155,000 in 2004.
Other Non-Interest Income. Other non-interest income, including dividends on
Federal Home Loan Bank stock, income from Bank Owned Life Insurance and other
miscellaneous charges, increased to $517,000 for the quarter ended March 31,
2005 from $421,000 for the same period in 2004. Non-interest income in the 2005
first quarter includes an $116,000 gain from the sale of a banking center office
located in Defiance. Effective April 25, First Defiance relocated that office to
a larger, more convenient location and combined it with the branch currently
located in a Super K-Mart Center in Defiance.
Non-Interest Expense. Total non-interest expense increased $2.7 million to $10.2
million for the quarter ended March 31, 2005 from $7.5 million for the same
period in 2004. Significant individual components of the increase are as
follows:
Acquisition Related Charges. First quarter 2005 results included $884,000 of
non-recurring costs associated with the ComBanc acquisition. These costs
included contract termination fees, employee severance costs and other costs
related to the transition.
Compensation and Benefits. Compensation and benefits increased $1.2 million to
$5.5 million for the quarter ended March 31, 2005 from $4.3 million for the same
period in 2004. The increase was primarily the result of the ComBanc
acquisition. The increase was also due to the addition of several new lending
positions and a significant number of new support positions in the credit
administration, loan processing, deposit operations, data processing and
accounting areas.
Amortization and Impairment of Mortgage Servicing Rights. Amortization of
mortgage servicing rights ("MSR's") totaled $166,000 in the 2005 first quarter
compared to $172,000 in the 2004 first quarter. Rising interest rates during the
2005 first quarter resulted in an increase in the market value of mortgage
servicing rights (MSRs). As a result, First Defiance reversed $221,000 of
previously recorded impairment charges related to those MSRs. In the 2004 first
quarter, First Defiance recorded an impairment charge of $237,000. At March 31,
2005, First Defiance has $386,000 of remaining reserves for MSR impairment.
28
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Other Non-Interest Expenses. Other non-interest expenses (including occupancy,
state franchise tax, data processing, deposit insurance premiums, and
amortization of intangibles) increased to $3.9 million for the quarter ended
March 31, 2005 from $2.7 million for the same period in 2004.
Occupancy costs increased by $189,000 and data processing costs increased by
$270,000 between the first quarter of 2004 and the first quarter of 2005. Data
processing costs included approximately $50,000 on non-recurring costs required
to run parallel communications networks during a recent communication's network
conversion. Non-interest expense also included amortization of core deposit
intangibles totaling $114,000, compared to just $27,000 in the 2004 first
quarter period, a result of additional core deposit intangibles acquired as part
of the ComBanc acquisition. The efficiency ratio for the first quarter of 2005
was 70.39% based on GAAP earnings and 64.78% on a core operating earnings basis.
The efficiency ratio for the first quarter of 2004 was 64.87%.
First Defiance computes federal income tax expense in accordance with FASB
Statement No. 109, which resulted in an effective tax rate of 32.92% for the
quarter ended March 31, 2005 compared to 30.71% for the same period in 2004. The
effective tax rate is lower than the Company's statutory 35% rate because it has
approximately $27.4 million invested in municipal securities, and $18.8 million
of bank owned life insurance which are both exempt from federal tax.
As a result of the above factors, income for the quarter ended March 31, 2005
was $2.9 million compared to income of $2.5 million for the comparable period in
2004. On a per share basis, basic and diluted earnings per share for the three
months ended March 31, 2005 were each $0.43 and $.41, respectively, compared to
basic and diluted earnings per share from continuing operations of $0.41 and
$0.39, respectively, for the quarter ended March 31, 2004.
Liquidity and Capital Resources
- -------------------------------
As a regulated financial institution, First Federal is required to maintain
appropriate levels of "liquid" assets to meet short-term funding requirements.
First Defiance generated $3.0 million of cash from operating activities during
the first three months of 2005. The Company's cash from operating activities
resulted from net income for the period, adjusted for various non-cash items,
including the provision for loan losses, depreciation and amortization of
mortgage servicing rights, gain on sales of securities, loans and property,
plant and equipment, ESOP expense related to release of shares, and changes in
loans available for sale, interest receivable and other assets, and other
liabilities. The primary investing activity of First Defiance is the origination
of loans (both for sale in the secondary market and to be held in portfolio),
which is funded with cash provided by operations, proceeds from the amortization
and prepayments of existing loans, the sale of loans, proceeds from the sale or
maturity of securities, borrowings from the FHLB, and customer deposits.
At March 31, 2005, First Defiance had $74.5 million in outstanding loan
commitments and loans in process to be funded generally within the next six
months and an additional $198.5 million committed under existing consumer and
commercial lines of credit and standby letters of credit. Also at that date,
First Defiance had commitments to sell $10.1 million of loans held-for-sale.
Also as of March 31, 2005, the total amount of certificates of deposit that are
scheduled to mature by March 31, 2006 is $267.1
29
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
million. First Defiance believes that it has adequate resources to fund
commitments as they arise and that it can adjust the rate on savings
certificates to retain deposits in changing interest rate environments. If First
Defiance requires funds beyond its internal funding capabilities, advances from
the FHLB of Cincinnati and other financial institutions are available.
First Defiance utilizes forward purchase and forward sale agreements to meet the
needs of its customers and manage its exposure to fluctuations in the fair value
of mortgage loans held for sale and its pipeline. These forward purchase and
forward sale agreements are considered to be derivatives as defined by FAS 133,
Accounting for Derivatives and Hedging Instruments. The change in value in the
forward purchase and forward sale agreements is approximately equal to the
change in value in the loans held for sale and the effect of this accounting
treatment is not material to the financial statements.
First Defiance also invests in on-balance sheet derivative securities as part of
the overall asset and liability management process. Such derivative securities
include REMIC and CMO investments. As of March 31, 2005, all of these securities
pass the FFIEC high-risk security test. The weighted average life of these
securities does not exceed the test limits in an instantaneous rate increase
scenario of 200 and 300 basis points. The total $22.2 million balance of these
securities are not classified as high risk at March 31, 2005 and do not present
risk significantly different than other mortgage-backed or agency securities.
First Federal is required to maintain specified amounts of capital pursuant to
regulations promulgated by the OTS. The capital standards generally require the
maintenance of regulatory capital sufficient to meet a tangible capital
requirement, a core capital requirement, and a risk-based capital requirement.
The following table sets forth First Federal's compliance with each of the
capital requirements at March 31, 2005.
30
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
Core Capital Risk-Based Capital
Adequately Well Adequately Well
Capitalized Capitalized Capitalized Capitalized
----------- ----------- ----------- -----------
Regulatory capital $ 109,999 $ 109,999 $ 122,671 $ 122,671
Minimum required regulatory capital 49,870 62,337 81,097 101,371
---------- ---------- ---------- ----------
Excess regulatory capital $ 60,129 $ 47,662 $ 41,574 $ 21,300
========== ========== ========== ==========
Regulatory capital as a percentage of assets (1) 8.8% 8.8% 12.1% 12.1%
Minimum capital required as a percentage of assets 4.0% 5.0% 8.0% 10.0%
---------- ---------- ---------- ----------
Excess regulatory capital as a percentage of assets 4.8% 3.8% 4.1% 2.1%
========== ========== ========== ==========
(1) Core capital is computed as a percentage of adjusted total assets of $1.2
billion. Risk-based capital is computed as a percentage of total
risk-weighted assets of $1.0 billion.
Pending Acquisition
On April 8, 2005, First Defiance completed the acquisition of the Genoa Savings
and Loan Company in a transaction valued at $11 million. Management expects
acquisition related costs, including contract termination fees and severance
payments, will not exceed $2.35 million on a pretax basis. The transaction was
financed through existing liquidity. On a pro forma basis, using March 31, 2005
data, First Defiance will have $1.4 billion in total assets, $1.1 billion in
loans, $1.0 billion in total deposits and $146.1 million in shareholders equity.
The acquisition is expected to result in an additional $4.1 in additional
goodwill and other intangibles.
Critical Accounting Policies
First Defiance has established various accounting policies which govern the
application of accounting principles generally accepted in the United States in
the preparation of its financial statements. The significant accounting policies
of First Defiance are described in the footnotes to the consolidated financial
statements included in the Company's Annual Report on Form 10-K. Certain
accounting policies involve significant judgments and assumptions by management,
which have a material impact on the carrying value of certain assets and
liabilities; management considers such accounting policies to be critical
accounting policies. Those policies which are identified and discussed in detail
in the Company's Annual Report on Form 10-K include the Allowance for Loan
Losses, the Valuation of Mortgage Servicing Rights and the Deferral of Fees
under SFAS 91. There have been no material changes in assumptions or judgments
relative to those critical policies during the first quarter of 2005.
31
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations - Continued
FDIC Insurance
The deposits of First Federal are currently insured by the Savings Association
Insurance Fund ("SAIF") which is administered by the FDIC. The FDIC also
administers the Bank Insurance Fund ("BIF") which generally provides insurance
to commercial bank depositors. Both the SAIF and BIF are required by law to
maintain a reserve ratio of 1.25% of insured deposits. First Federal's annual
deposit insurance premiums for 2005 are approximately $0.014 per $100 of
deposits.
32
Item 3. Qualitative and Quantitative Disclosure About Market Risk
- -----------------------------------------------------------------
As discussed in detail in the 2004 Annual Report on Form 10-K, First Defiance's
ability to maximize net income is dependent on management's ability to plan and
control net interest income through management of the pricing and mix of assets
and liabilities. Because a large portion of assets and liabilities of First
Defiance are monetary in nature, changes in interest rates and monetary or
fiscal policy affect its financial condition and can have significant impact on
the net income of the Company. First Defiance does not use off balance sheet
derivatives to enhance its risk management, nor does it engage in trading
activities beyond the sale of mortgage loans.
First Defiance monitors its exposure to interest rate risk on a monthly basis
through simulation analysis which measures the impact changes in interest rates
can have on net income. The simulation technique analyzes the effect of a
presumed 100 basis point shift in interest rates (which is consistent with
management's estimate of the range of potential interest rate fluctuations) and
takes into account prepayment speeds on amortizing financial instruments, loan
and deposit volumes and rates, nonmaturity deposit assumptions and capital
requirements. The results of the simulation as of March 31, 2005 indicate that
in an environment where interest rates rise 100 basis points over a 12 month
period, First Defiance's net interest income would increase by just 0.32% over
the base case scenario. Were interest rates to fall by 100 basis points during
the same 12-month period, the simulation indicates that net interest income
would decrease by only 1.61%. It should be noted that other areas of First
Defiance's income statement, such as gains from sales of mortgage loans and
amortization of mortgage servicing rights are also impacted by fluctuations in
interest rates but are not considered in the simulation of net interest income.
In addition to the simulation analysis, First Federal also prepares an "economic
value of equity" ("EVE") analysis. This analysis calculates the net present
value of First Federal's assets and liabilities in rate shock environments that
range from -100 basis points to +200 basis points. The results of this analysis
are reflected in the following table.
March 31, 2005
- --------------------------------------------------------------------------------------------------------------
Economic Value of Equity as % of
Economic Value of Equity Present Value of Assets
------------------------------------------------------------------------------------
Change in Rates $ Amount $ Change % Change Ratio Change
(Dollars in Thousands)
- --------------------------------------------------------------------------------------------------------------
+ 200 bp 162,065 5,145 3.28% 13.11% 81 bp
+ 100 bp 160,194 3,274 2.09% 12.75% 45 bp
0 bp 156,920 -- -- 12.30% --
-100 bp 151,255 (5,665) (3.61%) 11.69% (61) bp
-200 bp 143,800 (13,120) (8.36%) 10.97% (133) bp
Based on the above analysis, in the event of a 200 basis point increase in
interest rates as of March 31, 2005, First Federal would experience a 3.28%
increase in its economic value of equity. If rates would fall by 200 basis
points its economic value of equity would decline by 8.36%. During periods of
rising rates, the value of monetary assets declines. Conversely, during periods
of falling rates, the value of monetary assets increases. It should be noted
that the amount of change in value of specific assets and liabilities due to
changes in rates is not the same in a rising rate environment as in a falling
rate environment. Based on the EVE analysis, the change in the economic value of
equity in both rising and falling rate environments is generally negligible
because both its assets and liabilities have relatively short durations and the
durations are fairly
33
closely matched. The average duration of its assets at March 31, 2005 was 1.49
years while the average duration of its liabilities was 2.06 years.
In evaluating First Federal's exposure to interest rate risk, certain
shortcomings inherent in the each of the methods of analysis presented must be
considered. For example, although certain assets and liabilities may have
similar maturities or periods to repricing, they may react in different degrees
to changes in market interest rates. Also, the interest rates on certain types
of assets and liabilities may fluctuate in advance of changes in market rates
while interest rates on other types of financial instruments may lag behind
current changes in market rates. Furthermore, in the event of changes in rates,
prepayments and early withdrawal levels could differ significantly from the
assumptions in calculating the table and the results therefore may differ from
those presented.
Item 4. Controls and Procedures
- -------------------------------
Disclosure Controls are procedures designed to ensure that information required
to be disclosed in the Company's reports filed under the Exchange Act, such as
this report, is recorded, processed, summarized, and reported within the time
periods specified in the SEC's rules and forms. Disclosure controls are also
designed to ensure that such information is accumulated and communicated to
management, including the Chief Executive Officer and Chief Financial Officer,
as appropriate to allow timely decisions regarding required disclosure. In
designing and evaluating the disclosure controls and procedures, management
recognized that any controls and procedures, no matter how well designed and
operated, can provide only reasonable, not absolute, assurance of achieving the
desired control objectives, as ours are designed to do, and management
necessarily was required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.
Within the 90-day period prior to the filing of this report, an evaluation was
carried out under the supervision and with the participation of the Company's
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of its disclosure controls and
procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of
1934). Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that the design and operation of these disclosure
controls and procedures were effective. No significant changes were made in the
internal controls or in other factors that could significantly affect these
controls subsequent to the date of their evaluation.
34
FIRST DEFIANCE FINANCIAL CORP.
PART II-OTHER INFORMATION
Item 1. Legal Proceedings
First Defiance is not engaged in any legal proceedings of a material
nature.
Item 2. Changes in Securities
- -------------------------------------------------------------------------------------------------------
Maximum
Total Number of Number of
Shares Purchased as Shares that May
Average Price Part of Publicly Yet Be Purchased
Total Number of Paid Announced Plans or Under the Plans or
Period Shares Purchased Per Share Programs Programs (a)
- -------------------------------------------------------------------------------------------------------
January 1, 2005 -
January 31, 2005 5,200 $28.06 5,200 452,203
- -------------------------------------------------------------------------------------------------------
February 1, 2005 -
February 28, 2005 7,372 $28.04 7,372 444,831
- -------------------------------------------------------------------------------------------------------
March 1, 2005 -
March 31, 2005 8,024 $28.58 8,024 436,319
- -------------------------------------------------------------------------------------------------------
Total for 2005
First Quarter 20,596 $28.25 20,596 436,319
- -------------------------------------------------------------------------------------------------------
(a) On July 18, 2003, the registrant announced that its Board of Directors had
authorized management to repurchase up to 10% of the Registrant's common stock
through the open market or in any private transaction. The authorization, which
is for 639,828 shares, does not have an expiration date.
Item 3. Defaults upon Senior Securities
Not applicable.
35
Item 4. Submission of Matters to a Vote of Security Holders
At the annual meeting of shareholders held on April 19, 2005, in Defiance,
Ohio the shareholders elected three directors to three-year terms and
approved the adoption of the 2005 stock option and incentive plan. The
following are tabulations of all votes timely cast in person or by proxy
by shareholders of First Defiance for the annual meeting:
I. Nominees for Director with Three-year Terms Expiring in 2008:
NOMINEE FOR WITHHELD
Dr. John U. Fauster 5,138,512 558,030
James L. Rohrs 5,150,473 546,069
Thomas A. Voigt 5,151,709 544,833
II. Proposal to Adopt the 2005 Stock Option and Incentive Plan:
FOR WITHHELD
3,475,461 1,351,751
Item 5. Other Information
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit 31.1 Certification of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act
Exhibit 31.2 Certification of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act
Exhibit 32.1 Certification of Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act
Exhibit 32.2 Certification of Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act
36
(b) Reports on Form 8-K
First Defiance Financial Corp. filed a report on Form 8-K with the
Securities and Exchange Commission on April 19, 2005, which included a
copy of the Company's earnings release for the quarter ended March 31,
2005.
First Defiance Financial Corp. filed a report on Form 8-K with the
Securities and Exchange Commission on April 11, 2005, announcing the
completion of The Genoa Savings and Loan Company acquisition, which
occurred on April 8, 2005.
First Defiance Financial Corp filed a report on Form 8-K with the
Securities and Exchange Commission on February 23, 2005, announcing that
the Board of Directors increased the size of its board from nine to 12
members and elected Dwain I. Metzger and John L. Bookmyer to fill the
newly created vacancies. Mr. Metzger was elected to serve until the 2006
annual meeting and Mr. Bookmyer was elected to serve until the 2007 annual
meeting. Mr. Bookmyer was also appointed to the audit committee.
First Defiance Financial Corp filed a report on Form 8-K with the
Securities and Exchange Commission on January 19, 2005, announcing the
completion of the ComBanc, Inc. acquisition, which occurred on January 21,
2005.
37
FIRST DEFIANCE FINANCIAL CORP.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed by the undersigned thereunto
duly authorized.
First Defiance Financial Corp.
(Registrant)
Date: May 10, 2005 By: /s/ William J. Small
------------ -------------------------------
William J. Small
Chairman, President and
Chief Executive Officer
Date: May 10, 2005 By: /s/ John C. Wahl
------------ -------------------------------
John C. Wahl
Senior Vice President, Chief
Financial Officer and
Treasurer
38