FIRST DEFIANCE ANNOUNCES 2006
FOURTH QUARTER AND ANNUAL EARNINGS
DEFIANCE, OHIO (January 15, 2007) - First Defiance Financial Corp. (NASDAQ: FDEF) today announced that net income for the fiscal year ended December 31, 2006 totaled $15.6 million, or $2.18 per diluted share compared to $12.0 million or $1.69 per diluted share for the year ended December 31, 2005. The prior year results included acquisition-related charges associated with the Company’s 2005 first quarter acquisition of ComBanc, Inc. and 2005 second quarter acquisition of The Genoa Savings and Loan Company totaling $3.5 million ($2.3 million after tax). If the acquisition related charges had been excluded from the 2005 results, core operating earnings would have been $14.2 million or $2.01 per diluted share. The 2006 results represent an 8.5% increase in earnings per share for core operations.
For the fourth quarter ended December 31, 2006, First Defiance earned $4.0 million or $0.55 per diluted share compared to $3.4 million or $0.48 per diluted share for the fourth quarter in 2005.
“We are very pleased with 8.5% growth in our core earnings per share for the year, especially considering how difficult the environment has been for banks over the last nine months,” commented William J. Small, Chairman, President and Chief Executive Officer of First Defiance. “The ongoing inversion of the yield curve, which began midway through 2006, has put extreme pressure on net interest margins. We were able to overcome the challenge of declining margins through initiatives that allowed us to realize significant growth in non-interest income, particularly fee income.”
“Results for the fourth quarter were improved at $0.55 per share,” added Mr. Small. “There were a number of factors that contributed to the favorable results, including continued better-than-expected experience with our self-insured medical plan, higher-than-anticipated cash flows on certain impaired loans that we obtained through our recent acquisitions, favorable adjustments to some of our incentive compensation accrual accounts and a reduction to our overall effective tax rate for the year based on the year-end analysis of our tax position.”
Net Interest Income Declined
Net interest income for the 2006 fourth quarter declined 2.9% to 12.2 million from $12.6 million earned in the fourth quarter of 2005, despite the fact that average interest-earning assets were $74.1 million higher in the last three months of 2006 than in the same period of 2005. Net
interest margin for the 2006 fourth quarter, on a tax-equivalent basis, was 3.60%, a 32 basis point drop from the fourth quarter of 2005 and one basis point higher than the 2006 third quarter margin of 3.59%. The margin in the fourth quarter was aided by the accretion into interest income of $148,000 of loan purchase discounts recorded in conjunction with the Company’s recent acquisitions. Without that accretion, which is dependent on improvements in cash flows on loans identified as impaired, the margin for the fourth quarter would have been 3.56%. The margin decline in the 2006 fourth quarter compared to 2005 is due to asset yields increasing by 56 basis points compared to a 97 basis point increase in the Company’s funding costs during those same periods. First Defiance’s interest rate spread dropped from 3.66% in the 2005 fourth quarter to 3.25% in the last quarter of 2006.
Provision for Loan Losses Falls
The provision for loan losses was $318,000 for the fourth quarter of 2006 compared to $378,000 for the fourth quarter of 2005. The level of provision remained low despite a sharp increase in net charge-offs, which were $1.0 million for the 2006 fourth quarter ($1.1 million of charge-offs and $93,000 of recoveries). By comparison, charge-offs in the 2005 fourth quarter were $376,000 and recoveries were $47,000. The increase in charge-offs is the reflection of efforts by management to resolve a number of the problem loans absorbed through recent acquisitions. Of the $1.1 million of loans charged-off in the 2006 fourth quarter, $490,000 were acquired either in the ComBanc or Genoa acquisitions or in the 2003 acquisition of branches from RFC Banking Co. The loans charged off were fully reserved.
“Our credit department and our lenders have worked very hard at getting some of these loans resolved and we have more work to do,” said Mr. Small. “When we made these acquisitions, we accurately estimated the level of potential losses that were in the portfolio. However we significantly underestimated the time and effort it would take to resolve some of these matters. This continues to be an area of focus and we will likely see additional charge-offs in 2007. We recognize that the high level of charge-offs has reduced some of our coverage ratios, however, we also note that the loans we charged off were fully reserved. We remain confident that our remaining allowance for loan losses of $13.6 million is adequate and that all probable charge-offs are appropriately reserved. Also, while our charge-offs increased significantly in the fourth quarter, total net charge-offs for the full year were only 0.15% of average loans.”
“We’re disappointed that our non-performing assets didn’t drop much this quarter,” added Mr. Small, noting that non-performing assets were $9.9 million at December 31, 2006, down just slightly from $10.0 million at September 30, 2006. “However, we are encouraged by the progress made toward resolution of several large items in the non-performing categories. We expect to see improvement in this area over the next couple of quarters.”
Service Fees Continue to Increase
Total non-interest income increased to $4.9 million in the 2006 fourth quarter, from $3.8 million for the 2005 fourth quarter. Most of the increase was due to the implementation of an overdraft privilege product late in the 2006 first quarter that boosted checking account service fees. Total overdraft fees for the 2006 fourth quarter were $1.8 million, an increase of 125.8% from the $810,000 level of the fourth quarter of 2005.
Non-Interest Expenses Up 4.9%
Non-interest expenses increased to $11.2 million in the 2006 fourth quarter, up from $10.7 million during the last three months of 2005. Compensation and benefits were essentially flat between the two periods at $5.9 million in each quarter. In 2006, lower costs resulting from favorable experience with the Company’s group medical plan have offset compensation increases between the two periods. Other significant increases in non-interest expense occurred in audit and examination charges, which were up $70,000; printing costs, which increased by $114,000; and expenses associated with other real estate owned, which were up by $78,000. Also, fees associated with the overdraft privilege program, which was a new expense in 2006, totaled $120,000 in the 2006 fourth quarter. Under the terms of the contract for the overdraft privilege program, quarterly fees of approximately this level will be paid through the first quarter of 2008.
Year-end adjustments based on a detailed analysis of tax accounts and the reversal of previously recorded tax reserves associated with resolved tax exposure items resulted in a drop in the effective tax rate to 29.6% for the 2006 fourth quarter.. The positive impact of these favorable adjustments for the quarter was approximately $150,000.
Annual Results
On an annual basis, earnings for 2006 were $15.6 million, an increase of 9.9% or $1.4 million over core operating earnings for 2005. Net interest income for the 2006 year totaled $49.0 million, an improvement of $1.7 million or 3.7% over 2005. For 2006, net interest margin, stated on a tax equivalent basis, declined to 3.68% from 3.87% for the year ended December 31, 2005. During that period the provision for loan losses increased to $1.8 million in 2006 from $1.4 million in 2005.
Non-interest income increased by $3.7 million, or 23.2%, to $19.6 million for the year ended December 31, 2006 from $15.9 million for 2005. Excluding gains from securities sales, which were $1.2 million in 2005 and a loss of $2,000 in 2006, non-interest income grew by $4.9 million or 33.8% in 2006 compared to 2005. Service fees, primarily associated with the overdraft privilege product, accounted for $3.7 million of the increase, insurance commissions increased by $346,000, and gains from the sale of SBA and farm loans increased by $126,000. In addition, during the 2006 second quarter, First Defiance sold its MasterCard portfolio and realized a $400,000 gain.
Non-interest expense totaled $43.8 million for 2006 and $43.9 million for 2005. However, the 2005 expenses included $3.5 million of acquisition-related costs. Excluding those items, non-interest expense was $40.4 million in 2005, or an increase in 2006 of $3.4 million or 8.3%. Compensation and benefits increased by $706,000 between 2005 and 2006 while occupancy costs were up by $452,000 and data processing increased by $442,000. The 2006 results reflect a full year of activity related to the acquisition of Genoa Savings and ComBanc while the 2005 results included just nine months of the Genoa acquisition and slightly more than 11 months of the ComBanc acquisition. Additional significant increases in non-interest expense in 2006 included advertising, which increased by $235,000; audit and exam fees, which were up $225,000; postage costs, which grew by $135,000; and printing and office supplies, which were
up $134,000. Also, the Company incurred fees to the vendor of the overdraft privilege program totaling $372,000 for the 10 months that the program was in place.
Assets End Year at $1.53 Billion
Total assets at December 31, 2006 totaled $1.53 billion compared with $1.46 billion at December 31, 2005. At December 31, 2006, net loans totaled $1.23 billion, deposits totaled $1.14 billion and stockholders equity was $159.8 million. At December 31, 2005, net loans, deposits and equity were $1.16 billion, $1.07 billion and $151.2 million, respectively. Goodwill and other intangible assets were $38.5 million at December 31, 2006 compared to $39.2 million at December 31, 2005.
Looking Ahead
“We believe that 2007 will be a another challenging year, especially if the current interest rate environment persists,” said Mr. Small. “It will be especially difficult to grow our top line revenue, which is net interest income, in the face of declining margins. For example, our tax-equivalent net interest margin in the 2006 first quarter was 3.84%. By comparison, our budget for the first quarter of 2007 projects a margin of just 3.40%. While it looks like we may have been conservative when we put that budget together, it’s clear that our net interest income, at least in the first part of 2007, will lag net interest income in 2006. For the full year in 2007, we believe our net interest margin will average somewhere in the 3.50% range. That level may be higher if we can get more slope in the yield curve, but it likely will be lower than the 2006 cumulative margin.”
“There is no question that the implementation of the overdraft privilege product and the related fee income it generated contributed to our positive performance in 2006,” added Mr. Small. “And while we expect those levels of fees to continue, the year-over-year growth won’t be significant once we get beyond the 2007 first quarter. While our budget for 2007 reflects total growth in fee income of more than 18%, we will have to work very hard to achieve that target.”
“On the expense side, we anticipate that our costs will grow by approximately 9%,” continued Mr. Small. “While we are very focused on controlling costs, we also recognize that we need to actively promote ourselves in the markets that we have recently entered and those initiatives are not inexpensive. We also need to bolster our operations staff to better serve our customers.”
“Overall we expect earnings for 2007 to be higher than they were in 2006 but not substantially higher given the challenges we are facing,” added Mr. Small. “In normal times we set goals to grow earnings by 10% and have usually been successful in meeting or exceeding the targets. However, like the rest of our industry, our realistic expectations for the coming year are in the range of 3% to 5% earnings growth.”
“I believe we have significant opportunities in our markets,” concluded Mr. Small. “The strategic initiatives that we are implementing will position us to take advantage of those opportunities. Further, we will continue to explore opportunities both to strengthen our position within our existing footprint and continue to expand our presence into adjacent markets.”
Conference Call
First Defiance Financial Corp. will host a conference call at 11:00 a.m. (EDT) on Tuesday, January 16, 2007 to discuss the earnings results and business trends. The conference call may be accessed by calling 877-407-0782. The conference identification number for the call is 226322 Participants should be prepared to provide both the identification number to join the call.
Internet access to the call is also available (in listen-only mode) at the following URL: http://www.vcall.com/IC/CEPage.asp?ID=112645
The audio replay of the Internet Web cast will be available at www.fdef.com until February 2, 2007.
About First Defiance Financial Corp.
First Defiance Financial Corp., headquartered in Defiance, Ohio, is the holding company for First Federal Bank of the Midwest and First Insurance & Investments. First Federal operates 26 full service branches and 36 ATM locations in northwest Ohio. First Insurance & Investments is the largest property and casualty insurance agency in the Defiance, Ohio area and it also specializes in life and group health insurance and financial planning.
For more information, visit the company’s Web site at www.fdef.com.
-Financial Statements and Highlights Follow-
Safe Harbor Statement
This news release may contain certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21 B of the Securities Act of 1934, as amended, which are intended to be safe harbors created thereby. Those statements may include, but are not limited to, all statements regarding intent, beliefs, expectations, projections, forecasts and plans of First Defiance Financial Corp. and its management, and specifically include statements regarding: future movements of interest rates and particularly 10-year Treasury notes, the production levels of mortgage loan generation, the ability to continue to grow loans and deposits, the ability to grow fee income, the ability to sustain credit quality ratios at current or improved levels, continued strength in the market area for First Federal Bank of the Midwest, and the ability of the Company to grow in existing and adjacent markets. These forward-looking statements involve numerous risks and uncertainties, including those inherent in general and local banking, insurance and mortgage conditions, competitive factors specific to markets in which the Company and its subsidiaries operate, future interest rate levels, legislative and regulatory decisions or capital market conditions and other risks and uncertainties detailed from time to time in the Company’s Securities and Exchange Commission (SEC) filings, including the Company’s Annual Report on Form 10-K for the year ended December 31, 2005. One or more of these factors have affected or could in the future affect the Company’s business and financial results in future periods and could cause actual results to differ materially from plans and projections. Therefore, there can be no assurances that the forward-looking statements included in this news release will prove to be accurate. In light of the significant uncertainties in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by the Company or any other persons, that the objectives and plans of the Company will be achieved. All forward-looking statements made in this news release are based on information presently available to the management of the Company. The Company assumes no obligation to update any forward-looking statements.
