The methods and assumptions used to estimate fair value are described as follows:
Carrying amount is the estimated fair value for cash and cash equivalents, accrued interest receivable and payable, demand deposits, short-term debt, and variable rate loans or deposits that reprice frequently and fully. For fixed rate loans or deposits and for variable rate loans or deposits with infrequent repricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. Fair value of debt is based on current rates for similar financing. It was not practicable to determine the fair value of Federal Home Loan Bank (“FHLB”) stock due to restrictions placed on its transferability. The fair value of off-balance-sheet items is not considered material.
17
FFD Financial Corporation
Item 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking Statements
Certain statements contained in this report that are not historical facts are forward-looking statements that are subject to certain risks and uncertainties. When used herein, the terms “anticipates,” “plans,” “expects,” “believes,” “intends” and similar expressions as they relate to the Corporation or its management are intended to identify such forward looking statements. The Corporation’s actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks and uncertainties that could cause or contribute to such material differences include, but are not limited to, general and local economic conditions, changes in the interest rate environment, competitive conditions in the financial services industry, changes in law, governmental policies and regulations, and rapidly changing technology affecting financial services.
Business Overview
The Corporation is a unitary savings and loan holding company incorporated in Ohio in 1996. Our primary business is the operation of the Bank, our principal subsidiary. The Bank is a federally chartered savings association established in 1898.
The Bank is a community-oriented financial institution offering a variety of financial services to meet the needs of the communities we serve. Its business model emphasizes personalized service, clients’ access to decision makers, solution-driven lending and quick execution, efficient use of technology and the convenience of remote deposit, telephone banking, and online internet banking. It attracts deposits from the general public and uses the deposits, together with borrowings and other funds, primarily to originate commercial and commercial real estate loans, single-family and multi-family residential mortgage loans, vehicle loans, boat loans and home equity lines of credit. The majority of its customers are consumers and small businesses.
General
The Corporation’s net income is dependent primarily on net interest income, which is the difference between the interest income earned on loans and securities and interest paid on deposits and borrowed funds. Net interest income is affected by regulatory, economic and competitive factors that influence interest rates, loan demand and deposit flows. Net income is also affected by, among other things, loan fee income, provisions for loan losses, service charges, gains on loan sales, operating expenses, and franchise and income taxes. Operating expenses principally consist of employee compensation and benefits, occupancy, and other general and administrative expenses. In general, results of operations are significantly affected by general economic and competitive conditions, particularly changes in market interest rates, government policies, and actions of regulatory authorities. Future changes in applicable laws, regulations or government policies may also materially im pact our performance.
As a result of the current economic situation, which has included failures of financial institutions, investments in banks and other companies by the U.S. government, and government-sponsored economic stimulus packages, one area of public and political focus is how, and the extent to which, financial institutions are or should be regulated by the government. The current economic environment may result in new or revised regulations that could have a material effect on our operations and performance.
18
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
The capital, credit and financial markets have experienced significant volatility and disruption for more than a year. These conditions have had significant adverse effects on our national and local economies, including declining real estate values; a widespread tightening in the availability of credit; illiquidity in certain securities markets; increasing loan delinquencies, foreclosures, personal and business bankruptcies; increasing unemployment rates; declining consumer confidence and spending; significant write-downs of asset values by financial institutions and government-sponsored agencies; and a reduction of manufacturing and service business activity and international trade. These conditions have also had significant impacts on the stock market generally, and have contributed to significant declines in the trading prices of financial institution stocks. A continuation or worsening of these conditions could increase their adverse effects. Adverse effects of these c onditions on the Corporation could include increases in loan delinquencies and charge-offs; increases in loan loss reserves based on general economic factors; increases to specific loan loss reserves due to the impact of these conditions on specific borrowers or on the collateral for their loans; declines in the value of the securities portfolio; increases in the cost of funds due to aggressive deposit pricing by local and national competitors with liquidity needs; attrition of the core deposits due to this aggressive deposit pricing or consumer concerns about the safety of their deposits; increases in regulatory and compliance costs; and declines in the trading price of the Corporation’s shares.
In October 2008, the U.S. Congress enacted the Emergency Economic Stabilization Act of 2008 in response to the impact of the volatility and disruption in the credit and capital markets on the financial sector. Additionally, in February 2009, the U.S. Congress enacted the American Recovery and Reinvestment Act of 2009 in an effort to save and create jobs, stimulate the U.S. economy and promote long-term growth and stability. There can be no assurance that these acts or the programs that are implemented under them will achieve their intended purposes. If they fail to achieve some or all of their purposes, economic and market conditions could continue to worsen, which could adversely affect the Corporation’s performance and/or the trading price of the Corporation’s shares.
Other than discussed above and noted in the following narrative, management is not aware of any market or institutional trends, other events, or uncertainties that are expected to have a material effect on liquidity, capital resources or operations. Management is not aware of any current recommendations by regulators which would have a material effect on the Corporation if implemented, except as described above.
Management’s Discussion and Analysis represents a review of the Corporation’s consolidated financial condition and results of operations. This review should be read in conjunction with the Corporation’s Consolidated Financial Statements and related notes.
Critical Accounting Policies
The Corporation’s financial condition and results or operations presented in the Consolidated Financial Statements, accompanying notes to the Consolidated Financial Statements and Management's Discussion and Analysis are, to a large degree, dependent upon the Corporation's accounting policies. The selection and application of these accounting policies involve judgments, estimates and uncertainties that are susceptible to change.
Critical accounting policies are those policies that require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. The Corporation has identified the appropriateness of the allowance for loan losses and the valuation of securities as critical accounting policies and an understanding of these policies is necessary to understand the financial statements. Footnote 2 (Securities), footnote 3 (Loans), and Management’s Discussion and Analysis in the Form 10-K for the year ended June 30, 2009 provide detail regarding the Corporation's accounting for the allowance for loan losses and valuation of securities. There have been no significant changes in the application of accounting policies since June 30, 2009.
19
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Liquidity
The objective of liquidity management is to ensure adequate cash flows to accommodate the demands of customers and provide adequate flexibility for the Corporation to take advantage of market opportunities under both normal operating conditions and under unpredictable circumstances of industry or market stress. Cash is used to fund loan purchases, the maturity of liabilities and, at times, deposit outflows and operating activities. The Corporation's principal sources of funds are deposits; amortization and prepayments of loans; maturities, sales and principal received from securities: borrowings; and operations. Management considers the Corporation's asset position to be sufficiently liquid to meet normal operating needs and conditions. The Corporation's earning assets are mainly comprised of loans and investment securities. Management continually strives to obtain the best mix of loans and investments to both maximize yield and insure the soundness of the portfolio, as we ll as to provide funding for loan demand.
Capital Resources
The Bank is subject to various regulatory capital requirements. Capital adequacy guidelines and prompt corrective-action regulations involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Failure to meet various capital requirements can result in regulatory action that could have a direct material effect on the Corporation's financial statements. The Bank exceeded the regulatory requirements to be “well capitalized” at March 31, 2010. Management is not aware of any matters occurring subsequent to March 31, 2010, that would cause the Bank's capital category to change.
The Bank’s actual and required capital amounts (in thousands) and ratios are presented below at March 31, 2010.
| | | | | | | | | | | |
| Actual | | Required
For Capital
Adequacy Purposes | | To Be Well
Capitalized Under
Prompt Corrective
Action Regulations |
| Amount | | Ratio | | Amount | | Ratio | | Amount | | Ratio |
Total capital to risk
weighted assets | $19,439 | | 12.0% | | $12,917 | | 8.0% | | $16,147 | | 10.0% |
| | | | | | | | | | | |
Tier 1 (core) capital to risk
weighted assets | 18,097 | | 11.2% | | 6,459 | | 4.0% | | 9,688 | | 6.0% |
| | | | | | | | | | | |
Tier 1 (core) capital to
adjusted assets | 18,097 | | 9.1% | | 7,961 | | 4.0% | | 9,951 | | 5.0% |
| | | | | | | | | | | |
Tangible capital (to adjusted
total assets) | 18,097 | | 9.1% | | 2,985 | | 1.5% | | N/A | | N/A |
20
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 2009 to March 31, 2010
The Corporation’s total assets at March 31, 2010, were $199.1 million, a $10.1 million, or 5.3%, increase from the total at June 30, 2009.
Cash and cash equivalents totaled $6.0 million at March 31, 2010, a decrease of $7.8 million, or 56.7%, from the total at June 30, 2009. Investment securities totaled $8.0 million at March 31, 2010, a $2.1 million, or 36.5%, increase from the total at June 30, 2009, resulting from the purchase of four investment securities, which were partially offset by two investment securities that were called. The investments were purchased to reduce the cash and cash equivalent balances in an effort to improve net interest income. As a result of principal repayments, mortgage-backed securities totaled $276,000 at March 31, 2010, a $17,000, or 5.8%, decrease compared to the total at June 30, 2009.
Loans receivable totaled $176.5 million at March 31, 2010, an increase of $15.0 million, or 9.3%, from the June 30, 2009 total. The portfolio of loans secured by one- to four-family residential real estate increased by $3.3 million, or 5.2%, to $66.2 million at March 31, 2010. Loans secured by nonresidential real estate and land totaled $72.2 million at June 30, 2009, compared to $79.5 million at March 31, 2010, an increase of $7.3 million, or 10.2%. Commercial loans totaled $17.7 million at June 30, 2009, compared to $19.9 million at March 31, 2010, an increase of $2.2 million, or 12.4%. Loan originations during the period totaling $69.4 million were partially offset by principal repayments of $53.2 million, adjustments to the allowance for loan losses and net unamortized fees and costs. During the nine-month period ended March 31, 2010, loan originations were comprised of $37.0 million of one- to four-family residential real estate loans, $24.0 million of nonresidential real estate loans, $2.7 million of consumer loans, $4.0 million of commercial loans, and $1.7 million of multifamily real estate loans. Nonresidential real estate and commercial lending generally involve a higher degree of risk than one- to four-family residential real estate lending due to the relatively larger loan amounts and the effects of general economic conditions on the successful operation of income-producing properties and businesses. The Corporation endeavors to reduce this risk by evaluating the credit history and past performance of the borrower, the location of the real estate, the quality of the management operating the property or business, the debt service ratio, the quality and characteristics of the income stream generated by the property or business and appraisals supporting the real estate or collateral valuation.
The allowance for loan losses totaled $1.9 million at March 31, 2010, an increase of $239,000, or 14.1%, from June 30, 2009, and represented 1.08% of total loans on March 31, 2010 and 1.04% of total loans on June 30, 2009. The increase resulted from a provision of $312,000 and recoveries of $8,000, which were partially offset by charge-offs of $81,000. Nonaccrual loans were $2.2 million at March 31, 2010 and $949,000 at June 30, 2009, which represented 1.25% and .58% of loans receivable at those respective dates. Non-accruing non-residential mortgage loans increased by $1.1 million, one- to four-family properties secured by first liens increased by $96,000 and commercial and consumer loans increased by $93,000. Of the $2.2 million nonaccrual loans at March 31, 2010, $475,000 of the balances were guaranteed by a government agency. Of the $949,000 million nonaccrual loans at June 30, 2009, $533,000 of the balances were guaranteed by a government agency. Adjusting for the gua ranteed portion, nonaccrual loans were $1.7 million at March 31, 2010 and $416,000 at June 30, 2009, which represented .98% and .26% of loans receivable at those respective dates. Delinquent loans to total loans were 2.12% on March 31, 2010 and 1.69% on June 30, 2009, due to an increase in non-residential properties delinquent 30-89 days, and one- to four-family properties secured by first liens and nonresidential mortgage loans on nonaccrual. Adjusting for the guaranteed portion, delinquent loans to total loans were 1.85% at March 31, 2010 and 1.36% at June 30, 2009. There were no loans past due over 90 days and still on accrual. Although the Corporation experienced increases in nonaccrual and delinquent loans from June 30, 2009 to March 31, 2010, management does not believe further increases in the allowance and related provision are necessary. Management has reviewed these loans for loss exposure and believe they are adequately collateralized in the event of foreclosure. The composition of the loan portfo lio remained relatively the same from June 30, 2009 to March 31, 2010. Real estate loans consisting of residential real estate, one- to four-family and multifamily and nonresidential real estate and land make up most of the portfolio. Impaired loan balances were $3.7 million with an allowance of $591,000 and $1.8 million with an allowance of $413,000 at March 31, 2010 and June 30, 2009, respectively. Although management believes that the
21
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 2009 to March 31, 2010 (continued)
allowance for loan losses at March 31, 2010, is adequate based upon the available facts and circumstances, there can be no assurance that additions to the allowance will not be necessary in future periods, which could adversely affect the Corporation’s results of operations.
Premises and equipment, net totaled $3.8 million at March 31, 2010, a $400,000, or 11.8%, increase from the June 30, 2009 balance of $3.4 million. The increase resulted primarily from the construction and furnishing of the Berlin, Ohio office that opened in August 2009.
Prepaid expenses and other assets totaled $974,000 at March 31, 2010, a $689,000, or 241.8%, increase from the June 30, 2009 balance of $285,000. $738,000 of the increase resulted from prepaid FDIC insurance premiums funded in December 2009, and was partially offset by decreases in other operating accounts.
Deposits totaled $164.1 million at March 31, 2010, a $10.5 million, or 6.8%, increase from total deposits at June 30, 2009. The increase resulted from management’s efforts to generate deposit growth through advertising, relationship banking strategies, consumers moving into insured deposits accounts from uninsured investment products and the opening of the new office in Berlin, Ohio. FHLB advances increased 4.5% from $13.9 million at June 30, 2009 to $14.5 million at March 31, 2010 due to one new advance taken during the nine-month period ended March 31, 2010, being partially offset by scheduled repayments. Other borrowed money, consisting of a line of credit with another financial institution decreased to $630,000 at March 31, 2010, from a June 30, 2009, balance of $800,000.
Other liabilities totaled $1.5 million at March 31, 2010, a $991,000, or 40.6%, decrease from June 30, 2009. The decrease was primarily due to a $714,000 decrease related to in process accounts and a $127,000 decrease in accrued FDIC expense.
Shareholders’ equity totaled $18.1 million at March 31, 2010, an increase of $204,000, or 1.1%, from June 30, 2009. The increase was due to an increase in retained earnings of $87,000, resulting from earnings of $603,000, which were partially offset by dividends paid of $516,000, an increase of $12,000 from proceeds for the exercise of stock options and increases in the after tax fair value of securities designated as available for sale of $94,000.
Comparison of Operating Results for the Nine-Month Periods Ended March 31, 2010 and 2009
General
The Corporation’s net earnings totaled $603,000 for the nine months ended March 31, 2010, a decrease of $132,000, or 18.0%, from the net earnings of $735,000 recorded in the comparable period in 2009. The decrease in net earnings resulted from an increase of $462,000, or 12.5%, in noninterest expense, which was partially offset by increases of $121,000, or 27.6%, in noninterest income and $74,000, or 1.6%, in net interest income, and decreases of $59,000 in the provision for losses on loans and $76,000 in federal income tax expense.
22
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Nine-Month Periods Ended March 31, 2010 and 2009 (continued)
Net Interest Income
Total interest income decreased $262,000, or 3.3%, to $7.7 million for the nine months ended March 31, 2010, compared to the same period in 2009. The decrease was due primarily to decreases on yields across all categories of interest earning assets, despite general increases in average balances outstanding. Interest income on loans decreased by $223,000, or 2.9%, due to a 54 basis point decrease in yield, which more than offset an increase of $9.6 million, or 6.1%, in the average loan portfolio balance outstanding. Interest income on investment securities decreased by $2,000, or 1.0%, to $198,000 due to a 152 basis point decrease in yield, which was partially offset by a $2.6 million, or 46.1%, increase in the average balance outstanding. Interest income on interest bearing deposits decreased $31,000, or 26.1%, to a total of $88,000 for the nine-months ended March 31, 2010, due to a 73 basis point decrease in yield, which was partially offset by a $989,000, or 13.0%, incre ase in the average balance outstanding. Interest income on mortgage-backed securities decreased by $6,000, or 46.2%, due to a decrease of $74,000, or 21.5%, in the average balance outstanding and a 144 basis point decrease in yield.
Total interest expense decreased by $336,000, or 10.6%, to $2.8 million for the nine months ended March 31, 2010, compared to the nine months ended March 31, 2009. Interest expense on deposits decreased by $226,000, or 8.8%, due to a 45 basis point decrease in the average cost of deposits, to 1.95% for the 2010 period, which was partially offset by a $17.6 million, or 12.3%, increase in the average balance outstanding. Interest expense on borrowings decreased by $110,000, or 19.0%, due to a $4.8 million, or 24.8%, decrease in the average balance outstanding, which was partially offset by a 31 basis point increase in the average cost. The increase in average cost of borrowings resulted from the repayment of lower cost FHLB advances, leaving in place higher cost borrowings, which cannot be repaid without a penalty.
The Federal Funds rate was 2% on June 30, 2008 and lowered in a series of rate reductions to a range of 0% to .25% on December 16, 2008. The Federal Funds rate has been held at the range established on December 16, 2008 through March 31, 2010. The Corporation's interest earning assets and interest paying liabilities were impacted by declining interest rates during 2009 and the prevailing low interest rate environment during the first quarter of 2010. Because a greater amount of the Corporation's interest earning assets re-price faster than its interest bearing liabilities, in the falling and low interest rate environment the yields on interest earning assets declined faster than the costs of new and re-pricing deposits and borrowings, negatively impacting net interest income. Deposits continue to re-price downward to current market rates which over time will reduce the impact of the faster re-pricing of the interest earning assets. The opportunity to replace exi sting borrowings with lower rate borrowings will be available as they mature. New interest earning assets at market rates funded with new interest earning liabilities at market rates also will impact the net interest spread and net interest margin in future periods.
The interest rate spreads were 3.33% and 3.50%, and the net interest margins were 3.46% and 3.67%, for the nine-month periods ended March 31, 2010 and 2009, respectively. The interest rate spread and net interest margin were 3.21% and 3.35% for respectively for the six-month periods ended December 31, 2009. This improvement was the result of re-pricing of deposits, and the use of some interest-bearing cash deposits to invest in higher yielding loans and investments securities. Net interest income increased by $74,000, or 1.6%, for the nine months ended March 31, 2010, compared to the same period in 2009.
23
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Nine-Month Periods Ended March 31, 2010 and 2009 (continued)
Provision for Losses on Loans
The Corporation recorded a $312,000 provision for losses on loans during the nine months ended March 31, 2010, and a $371,000 provision for the comparable nine months in 2009. The decrease in the provision for losses on loans was due to management’s assessment of the loan portfolio, the existing loan loss allowance, delinquency rates, net charge-offs, and current economic conditions. Net charge-offs were $73,000 for the nine months ended March 31, 2010 and $221,000 for the comparable nine months in 2009. The allowance for losses on loans as a percentage of loans receivable increased to 1.08% for March 31, 2010, compared to 1.04% at June 30, 2009. There can be no assurance that the loan loss allowance will be adequate to cover losses on nonperforming assets in the future, which could result in additions to the allowance and could adversely affect the Corporation’s results of operations.
Noninterest Income
Noninterest income totaled $559,000 for the nine months ended March 31, 2010, an increase of $121,000, or 27.6%, from the 2009 total. Net gain on sale of loans decreased by $89,000, or 28.8%, to $220,000 for the nine months ended March 31, 2010, compared to $309,000 for the nine months ended March 31, 2009. The decrease in gain on sale of loans was due to decreased activity in residential mortgage originations and refinancings. Service charges on deposit accounts increased by $33,000, or 16.5%, to $233,000 for the nine months ended March 31, 2010 compared to $200,000 in 2009. Mortgage servicing revenue increased from a net loss of $146,000 in 2009 to a $15,000 net gain in the 2010 period, primarily from the absence of a $175,000 impairment charge recognized in the nine-month period ended March 31, 2009. The impairment expense on mortgage servicing rights in the 2009 period resulted from the evaluation of the impact of lower interest rates, increased prepayment speeds and r efinancing of mortgage loans on the Corporation’s mortgage servicing rights.
Noninterest Expense
General, administrative and other expense totaled $4.2 million for the nine months ended March 31, 2010, an increase of $462,000, or 12.5%, compared to the same period in 2009. The increase in noninterest expense includes increases of $198,000, or 12.1%, in employee compensation and benefits, $79,000, or 76.7%, in FDIC insurance expense, $64,000, or 18.4%, in occupancy and equipment expense, $39,000, or 8.2%, in other operating expense, $29,000 in loss on sale of real estate owned, $24,000, or 9.1%, in data processing, $14,000, or 11.0%, in postage and stationary supplies, $14,000, or 15.2%, in advertising expense, $5,000, or 2.9%, in checking account maintenance expense,and $2,000, or 2.0%, in ATM processing, which were slightly offset by decreases of $5,000, or 2.5%, in professional and consulting fees and $1,000, or .58% in franchise tax. The increase in employee compensation was due to additional staffing in connection with the openi ng of the new Berlin, Ohio office. Portions of the increase in noninterest expense in advertising, postage and stationary supplies, occupancy and equipment expense and data processing were also the result of opening and marketing the new Berlin office.
The increase in FDIC insurance expense in the nine month period ended March 31, 2010 was the result of a $17.3 million, or 12.4%, increase in the average balance of deposit liabilities used to calculate the expense and an increase in the average assessment rate of approximately 122.8%. The increase in FDIC premiums was the result of premium increases imposed by the FDIC upon all insured depository institutions.
Federal Income Taxes
The Corporation recorded a provision for federal income taxes totaling $319,000 for the nine months ended March 31, 2010, a decrease of $76,000, or 19.2%, over the same period in 2009. The decrease resulted from a $208,000, or 18.4%, decrease in earnings before taxes. The Corporation’s effective tax rates were 34.6% and 35.0%, for the nine-month periods ended March 31, 2010 and 2009, respectively.
24
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three-Month Periods Ended March 31, 2010 and 2009
General
The Corporation’s net earnings totaled $264,000 for the three months ended March 31, 2010, an increase of $142,000, or 116.4%, from the net earnings of $122,000 recorded in the comparable period in 2009. The $142,000, or 116.4%, increase in net earnings resulted from increases of $241,000, or 16.1%, in net interest income and $81,000, or 76.4%, in other income and a decrease of $22,000, or 13.2%, in the provision for losses on loans, which were partially offset by increases of $125,000, or 10.0%, in general, administrative and other expenses and $77,000, or 122.2%, in the provision for federal income taxes.
Net Interest Income
Total interest income increased by $46,000, or 1.8%, to $2.6 million for the three months ended March 31, 2010, compared to the same period in 2009. Interest income on loans increased by $31,000, or 1.3%, due to an increase of $13.2 million, or 8.2%, in the average loan portfolio balance outstanding, which has partially offset by a 39 basis point decrease in yield. Interest income on investment securities increased by $18,000, or 31.0%, to a total of $76,000, due to a $3.2 million, or 56.7%, increase in the average balance outstanding, which was partially offset by a 59 basis point decrease in yield. Interest income on interest bearing deposits decreased by $1,000, or 3.3%, to a total of $29,000 for the three months ended March 31, 2010, due to a $3.5 million, or 40.3%, decrease in the average balance outstanding, and a 79 basis point increase in yield. Interest income on mortgage-backed securities decreased by $2,000, or 50.0%, due to a decrease of $115,000, or 29.2%, in the average balance outstanding and a 84 basis point decrease in yield.
Total interest expense decreased by $195,000, or 18.6%, to $900,000 for the three months ended March 31, 2010, compared to the three months ended March 31, 2009. Interest expense on deposits decreased by $173,000, or 19.9%, due to a 63 basis point decrease in the average cost of deposits, to 1.70% for the 2010 quarter, which was partially offset by a $14.7 million, or 9.8%, increase in the average balance of deposits outstanding period to period. Interest expense on borrowings decreased by $22,000, or 12.4%, due to a $3.1 million, or 17.2%, decrease in the average borrowings outstanding, which was partially offset by a 23 basis point increase in the average cost. Deposits continue to re-price downward and balances have grown at lower cost to fund loan growth and provide an incremental increase in net interest income.
The interest rate spreads were 3.57% and 3.26%, and the net interest margins were 3.67% and 3.39%, for the three-month periods ended March 31, 2010 and 2009, respectively. Some interest-bearing cash deposits were used to invest in higher yielding loans and investment securities. Net interest income increased by $241,000, or 16.1%, for the three months ended March 31, 2010, compared to the same period in 2009.
Provision for Losses on Loans
The Corporation recorded a $145,000 provision for losses on loans during the three months ended March 31, 2010, and a $167,000 provision for the comparable quarter in 2009. The decrease in the provision for losses on loans was due to management’s assessment of the loan portfolio the existing loan loss allowance, delinquency rates, net charge-offs, and current economic conditions. Net charge-offs were $13,000 for the quarter ended March 31, 2010 and $144,000 for the comparable quarter in 2009. The allowance for losses on loans as a percentage of loans receivable increased to 1.08% for March 31, 2010, compared to 1.04% at June 30, 2009. There can be no assurance that the loan loss allowance will be adequate to cover losses on nonperforming assets in the future, which could result in additions to the allowance and could adversely affect the Corporation’s results of operations.
25
FFD Financial Corporation
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three-Month Periods Ended March 31, 2010 and 2009 (continued)
Noninterest Income
Noninterest income totaled $187,000 for the three months ended March 31, 2010, an increase of $81,000, or 76.4%, from the 2009 total. Net gain on sale of loans decreased by $174,000, or 77.7%, to $50,000 for the three months ended March 31, 2010, compared to $224,000 for the three months ended March 31, 2009. The decrease in gain on sale of loans was due to decreased activity in residential mortgage originations and refinancings. Service charges on deposit accounts increased by $11,000, or 16.7%, to $77,000 for the three months ended March 31, 2010, compared to $66,000 for the same period ended March 31, 2009. Mortgage servicing revenue increased from a loss of $212,000 in 2009 to a gain of $25,000 in 2010, primarily from the absence of the $175,000 impairment charge recognized in the three-month period ended March 31, 2009. The impairment expense on mortgage servicing rights in the 2009 period resulted from the evaluation of the impact of lower interest rates, increased p repayment speeds and refinancing of mortgage loans on the Corporation’s mortgage servicing rights.
Noninterest Expense
General, administrative and other expense totaled $1.4 million for the three months ended March 31, 2010, an increase of $125,000, or 10.0%, compared to the same period in 2009. The increase in noninterest expense includes increases of $52,000, or 9.3%, in employee compensation and benefits, $25,000, or 20.8%, in occupancy and equipment expense, $17,000, or 37.0%, in FDIC insurance expense, $16,000, or 18.8%, in data processing, $14,000, in loss on sale of real estate owned, $11,000, or 21.6%, in professional and consulting fees, $5,000, or 16.7%, in ATM processing,$2,000, or 3.5%, in checking account maintenance expense, and $1,000, or 4.8%, in advertising expense, which were slightly offset by decreases of$15,000, or 8.5%, in other operating expense, $2,000, or 4.8%, in postage and stationary supplies and $1,000, or 1.7%, in franchise tax. The increase in employee compensation was due to additional s taffing in connection with the opening of the new Berlin, Ohio office. Portions of the increase in noninterest expense in postage and stationary supplies, occupancy and equipment expense and data processing were also the result of opening and marketing the new Berlin office.
The increase in FDIC insurance expense in the three month period ended March 31, 2010 was the result of a $15.4 million, or 10.8%, increase in the balance of deposit liabilities used to calculate the expense and an increase in the assessment rate of approximately 113.0%. The increase in FDIC premiums was the result of premium increases imposed by the FDIC upon all insured depository institutions.
Federal Income Taxes
The Corporation recorded a provision for federal income taxes totaling $140,000 for the three months ended March 31, 2010, an increase of $77,000, or 122.2%, over the same period in 2009. The increase resulted from a $219,000, or 118.4%, increase in earnings before taxes. The Corporation’s effective tax rates were 34.7% and 34.1%, for the three-month periods ended March 31, 2010 and 2009, respectively.
ITEM 3: Quantitative and Qualitative Disclosures About Market Risk
Not required.
ITEM 4T: Controls and Procedures
The Corporation’s Chief Executive Officer and Chief Financial Officer have evaluated the Corporation’s disclosure controls and procedures (as defined under Rules 13a-15 and 15d-15 of the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Corporation’s disclosure controls and procedures are effective. There were no changes in the Corporation’s internal controls which materially affected, or are reasonably likely to materially effect, the Corporation’s internal controls over financial reporting.
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FFD Financial Corporation
PART II
