Premier Financial Corp (OHIO) (PFC) 2004 Q2 法說會逐字稿

At this time I would like to welcome everyone to the First Defiance second-quarter 2004 conference call. As a reminder this call is being recorded today, July 20, 2004. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer period. Instructions for asking a question will be given at that time. I will now turn the call over to Ms. Carol Merry. Miss Merry, you may begin your conference.

Good morning, everyone and thanks for joining us for the First Defiance second-quarter 2004 conference call. This call is also being webcast and it will be available at the First Defiance website at SPES.com until August 31st. This morning we will start with comments on the results and the Company's outlook from Bill Small, Chairman, President and CEO of First Defiance followed by a report on the financial performance by Jack Wahl, the Company's Executive Vice President and Chief Financial Officer.

But before we begin I will make a Safe Harbor statement before the call. During this call, management may make certain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Actual results could vary materially depending on risks and uncertainties inherent to 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. For more details please refer to the Company's SEC filings. Now I will turn the call over to Mr. Small for his comments.

Good morning everyone and thank you for joining us today. I hope you had an opportunity to review the news release we published last evening announcing second-quarter results for First Defiance Financial Corporation. I would like to start today by reviewing some of the highlights of the quarter, and then turn it over to Jack Wahl for a more detailed look at the financials for the quarter and the first half of 2004.

In our release we reported that we ended the quarter at 1.07 billion in assets and net income of 3.1 million or 49 cents per share for the second quarter of 2004 compared to 2.9 million or 46 cents per share for the same quarter last year. We're very pleased with these results, especially in light of the different business climate that we are operating in compared to the last several years. Like many financial institutions across the country, First Defiance Financial Corporation continues to be challenged by the decline in gains from the sale of mortgage loans.

This decline began during the last quarter of 2003 and has continued throughout the first half of this year. We did experience an uptick in mortgage lending activity in March and April as rates softened, but the refinance activity continues to run dramatically behind the pace of the last several years.

As a result of the reduced origination volume, our gain on sale of mortgage loans for the second quarter of 2004 was $1.7 million less than the second quarter of 2003 and year-to-date is 2.9 million lower than the first half of last year. We had several solid financial indicators we can point to as leading us through the quarter and producing our strong results. Our net interest income for the quarter increased by over 18 percent compared to the second quarter of 2003.

The increase is a result of the growth in our loan portfolio, both from the acquisition of the three banking offices last June and the strong organic loan growth in most lending categories called side (ph) of residential real estate lending. Our commercial and commercial real estate lending continues to show strong growth as our average loan balance increased by 36.7 million during the quarter.

This is loan growth we projected going into this year as we grew market share both in new and established markets. Because of this growth we posted a significant increase in our interest income year-over-year even as our yield on those loans declined. We welcome the Federal Reserve's decision to raise interest rates last month which should contribute to increasing these yields.

We continue to closely monitor credit quality as we build our loan balances, and I am pleased to report that we have been able to maintain our consistent strong performance in this area. Our ratio of nonperforming assets to total assets was 28 basis points as of June 30, 2004, the same level it was on December 31, 2003 and well below industry averages for financial institutions with similar loan portfolios.

We continue to adhere to our strong underwriting policies and closely monitor our credits to be able to identify any problems early and address them quickly. The diversity of the economy within our market area is reflected in our loan portfolio and results in no large credit concentrations in any particular category as we continue to keep our focus on in market lending.

On the deposit side in the second quarter of 2004 despite an increase in average balances of over 84 million from the same period last year, interest expense decreased as the cost of these deposits dropped 47 basis points compared to the second quarter of 2003.

As I mentioned earlier, the drop in gain on sale of mortgage loans had a major impact on earnings again this quarter just as it did in the first quarter of 2004. As a result, our non-interest income is down over 22 percent compared to second quarter 2003. Excluding the mortgage gain on sale category however, non-interest income increased by over $500,000 compared to the same period last year as service fees were up over 21 percent and insurance and investment sales income was up 26.5 percent.

Noninterest expense as reported was down over $500,000 in the quarter compared to last year. However, that includes the reversal of mortgage servicing rights impairment and substantially reduced MSR amortization expense. Net of these categories noninterest expense was up over the same period as last year, mainly reflecting the three offices acquired during June, 2003 and to de novo offices that were opened, one in the last quarter of 2003 and the other in the first quarter of 2004.

Before I talk more about our strategies and forecasts for the balance of the year, I will turn the microphone over to Jack Wahl, our Executive Vice President and Chief Financial Officer to provide more details on the second quarter and the first half of 2004 results.

Thanks, Bill, and good morning everyone. As Bill mentioned in his remarks, our net interest income for the just completed quarter increased by over 18 percent when compared to the second quarter of 2003. For the 2004 second quarter net interest income was $8.1 million compared to $6.5 million in the second quarter of 2003. Year-to-date our net interest income has increased nearly 16.2 million from 13.3 million in the first half of 2003. An increase of $2 million or 21.6 percent.

Interestingly, the increase in net interest income is almost a dollar for dollar offset to the decline we've experienced in gains from sale of mortgages in 2004 compared to 2003. The increase in net interest income in both the second quarter and in the first half of 2004 compared to 2003 is due in part to growth and in part to improved margins. Our interest-earning assets had an average balance of $957.2 million for the three months ended June 30, 2004, a 10.6 percent increase over the average balance of 865.1 million in the second quarter of last year.

For the first half of 2004 average interest-earning assets were $949.3 million compared to just 843.3 million for the first six months of 2003. This growth has been in the higher yielding loan categories, which had an average balance of $786.6 million for the three months ended June 30, 2004 compared to $633.8 million for the three months ended June 30, 2003, an increase of 24 percent.

Year-to-date loans had an average balance of 949.3 million compared to 843.2 million for the first half of 2003. Some of that growth has been funded through the maturity or sale of securities and the use of interest-earning deposits, whose 2004 second-quarter average balance in total has declined to 170.6 million to 231.4 million in the second quarter of last year.

The average yield on our loan portfolio in the 2004 second-quarter was 5.77 percent compared to 6.35 percent for last year's second-quarter, while the yield on our investment portfolio over those periods actually improved 4.97 percent on a tax equivalent basis and 4.84 percent. Overall asset yields for the second quarter averaged 5.61 percent, a decline from 5.83 percent overall in the second quarter of 2003.

The decline in asset yields is more than offset by the decrease in our funding costs between the two quarters. Specifically, deposit costs dropped from 2.27 percent to 1.80 percent and the overall cost of funding including the effect of non-interest bearing deposits declined to 2.14 percent from last year's second-quarter cost of 2.64 percent.

A combination of these factors allowed our margin to improve to 3.56 percent from last year's 3.36 percent for the second quarter. Year-to-date our margin is 3.57 compared with 3.37 percent in the first six months of last year. I'm also noting that our margin actually slipped 1 basis point in the second quarter of 2004 compared to the first quarter due to a slight change in our loan mix and the fact that some of our funding costs moved up more quickly than our asset yields.

We do think our margin will be more in the range of 3.60 to 3.65 in the third quarter and it should exceed 3.65 in the fourth quarter of this year. Bill indicated that excluding mortgage gains and securities sales our non-interest income increased by over $500,000 in the 2004 second quarter compared to last year's second quarter. For the year-to-date period noninterest income excluding mortgage gains and securities sales are up by over $875,000.

The most significant increases are in service fee income, which is up by 240,000 or 21 percent for the quarter and 430,000 or 20 percent for the year. And insurance and investment sales commissions, which increased by 255,000 or 26 percent for the quarter and 395,000 or 21 percent year-to-date.

I also should note that while our gain on sale income for the quarter dropped to 804,000 from the 2.5 million level in last year's second quarter, that level of gains was nearly $200,000 more than we had initially forecast. We expect gains for the balance of 2004 to be in the range of 500,000 to 600,000 per quarter.

We also realized $293,000 of securities gains in the quarter. Obviously in a rising rate environment the value of investment securities declines. The unrealized gain in our investment portfolio declined by $3.8 million for the quarter. We have been opportunistic in taking gains out of the investment portfolio when we had the chance and it makes strategic sense. We've continued that approach and realized an additional $150,000 in securities gains so far in the month of July, 2004.

As Bill mentioned, we realized $524,000 on mortgage servicing rights impairment recovery in the 2004 second quarter. This was after recording a $237,000 impairment charge just three months ago. Also with the decline of mortgage refinance activity the amortization of MSRs dropped to $233,000 for the quarter from 756,000 in last year's second quarter, a decline of 69 percent. Excluding MSR activity, non-interest expense increased by $846,000 or 12.9 percent in the full year comparisons and by $1.7 million or 12.9 percent for the year-to-date comparisons.

The most significant increase was in compensation and benefits, which increased by almost $500,000 or 12.5 percent quarter-over-quarter and by $1.1 million or 14.4 percent year-to-date. Those increases are the result of the significant branch expansion over the last 13 months and staffing required both at those branches and in our central operations to handle greater transaction and loan volumes.

Looking at our balance sheet, despite our loan balances growing by 16 percent over the last 12 months, our total assets have increased by just 2.3 percent to 1.073 billion from 1.049 million at June 30, 2003. This was the result of a decision to fund a portion of the loan growth with low yielding investment securities. We do not anticipate shrinking our investment portfolio further and believe future loan growth will be funded with retail deposit growth. To the extent that retail growth is not sufficient, we will use wholesale funding sources.

Our equity is up only slightly from the end of 2003 as net income and the positive effects of option exercises have been offset by 2.5 million of dividends, a reduction in other comprehensive income of 2.2 million relating to the after-tax change and unrealized gains in the available for sale investment portfolio, and the repurchase of nearly 123,000 shares under our stock buyback program including the repurchase of nearly 97,000 shares during the 2004 second quarter. We are authorized to repurchase an additional 518,000 shares under the repurchase plan.

That concludes my analysis of the quarter. I would now like to return the call to Bill for his comments on our outlook for the remainder of 2004.

Before we get to the audience questions, I would like to take a few minutes to review our strategy and give you our outlook for the remainder of the year. At the end of the first quarter we adjusted our internal forecast for the remainder of 2004 and our anticipated earnings range based on that forecast. As we update that forecast and analyzed the impact of anticipated movement in the interest rates, we are comfortable with the guidance that we gave at that time. We still expect earnings per share to be in the $1.80 to $1.90 range for the year with the third-quarter earnings estimate to be between 45 cents and 49 cents per share.

As stated in our release we do expect the Fed to continue with their plan of measured increases, and we expect those to be 25 basis point increases at least twice during the remaining meetings in 2004. As Jack reported this forecast results in a margin of 3.60 to 3.65 percent for the third quarter and over 3.65 percent for the fourth quarter of this year.

Expansion opportunities will continue to be explored as we look for acquisitions in our immediate and adjacent markets and potential de novo branching sites. Competition continues to be strong, but we believe our size along with our community banking approach and high level of customer service gives us an advantage of competing in our market and will continue to be main components for our future success. We have the right team in place to accomplish our objectives. They have done an excellent job of switching focus as we transition into a rising rate environment and they are committed to reaching our goals in 2004 and beyond.

We thank you for your interest here this morning, and will be happy to take your questions.

(OPERATOR INSTRUCTIONS) Christopher Merrinac (ph) of FIG Partners.

Just want to get more color I guess on the expense side. Where there any other onetime expenses used in the quarter, or if the expenses excluding the MSR recovery can in all good face go forward.

The expenses excluding the MSRs were a pretty good base going forward and there were no other unusual onetime non-recurring expenses.

Okay, and then on the servicing portfolio what would be the average fee that you have on the (inaudible)?

They are all conventional Freddie Macs so we get a 25 basis point fee.

Fair enough. Would you anticipate having to reverse any of that this quarter if rates stay right where they are or is that not enough of a change if what we have seen in the last couple of weeks?

We checked that when we got to the end of the quarter; we actually do that analysis mid-quarter in June. We were still okay at the end of June. I think rates have to drop a little bit further for us to have to book any additional impairment.

Fair enough. Bill from your standpoint, as you look at acquisitions have a sense of kind of what pricing was today compared to 6, 12 months ago and any just observations on that.

We have certainly seen pricing start to climb compared to where it was a year ago. The activity that seemed to be take off early this year, seemed to spark a little bit of that increase and everything. We're trying to be very disciplined in our approach. Again, as we look at different prospects we will certainly go through the full detail and analysis and everything and try to make sure that we make the right decisions based on both the financial value and the strategic value of a target.

Are there any spans of dilutions that you are not willing to go outside?

We try to make sure -- we would like to avoid any dilution in an acquisition. That is our basic approach. However, I would have to say that in certain circumstances if we felt there was strategic value we may be willing to look at a few cents of dilution in the first year.

Great, Bill. Thanks very much, guys.

Gerry Cronin with Sandler O'Neill Asset Management.

Several questions, if I may. I wanted to follow up on Chris' question with respect to expense growth. I know you closed the branch acquisition late in the second quarter a year ago, so if you look at expense growth in the first and second quarters of this year relative to a year ago it has been about 13 percent. What should we expect in the second half of the year now that we are kind of moving past or at least the comps will be apples-to-apples?

It will be an apples-to-apples comparison in the third quarter, and we are probably looking at more of a 5 to 6 percent increase. We do still have some additional cost for the de novo branches that we opened in December of 2003 and in February of 2004. So I am just estimating, Gerry, because I haven't really done the calculation, but it is probably in the 6 to 7 percent range.

All right. Secondly, your period end loans were roughly 30 million higher than your average loans. Should we take that to mean that loan growth accelerated as the quarter proceeded?

We have a very strong quarter from a loan growth perspective and a very, very strong month of June, one of the strongest months we probably have ever had.

Okay. Thirdly, what gives you the confidence that the margin will increase in both the third quarter and in the fourth quarter?

Basically it is, we run the model where we've estimated. That rate increases in September and November. We've estimated how we're going to react to those rate increases on the deposit side based on where we think our competition will be, where we think we will need to be to continue to grow deposits, and that is the margin that the model switchback out at us.

And I think, Gerry, we benefit -- we've got about 120 million of prime base loans that reprice off of the Fed climbs move, we've got another $80 million of home equity lines of credit that reprice off the Fed Funds move, and we benefit from that.

That 120 million is the loans -- those are no four (ph) loans, those are not loans that we have to worry about fours (ph) on.

You basically have $200 million dollars of loans that should reprice to full 25 basis points this quarter?

Correct.

One other question and then I will hop off and let other people ask. Just on the nonperforming assets I know it is off of a very small base, but just the increase during the quarter what exactly that was? And then if you could also just quantify what your largest number (inaudible) loan is.

Trying to work from memory here right now on.

There are no large ones in that. It is all -- they were all less than $1 million, and we had our board meeting last night, and that question came up. We've got a couple of those are just 91 or 92 days past due, and if the lending officer had been paying attention, he would have at least gotten a payment in. So it might not have been current, but it wouldn't have been 90 days past due. There is nothing in there that we are overly concerned about.

Very good, core trends looked excellent.

Martin Gee (ph) of FTN Midwest Partners.

I just didn't catch what you said you are guiding to quarterly gain on sales revenues, if you could just repeat that for me.

We believe our quarterly gain on sale revenues will be between $500,000 and $600,000 each quarter and that's two quarters.

Okay, and did you say what the effective duration is in your securities portfolio right now?

It is just slightly more than three years.

(OPERATOR INSTRUCTIONS) Martin (indiscernible) with FTN.

Just one of the questions was on the loan, Jack you said in June the growth was really strong. That was mostly for the commercial and the commercial real estate (ph) there right?

That's correct.

What about the pipelines going forward like the next month or maybe next quarter? For commercial and the commercial real estate.

The pipeline still looks good. We are very optimistic as far as being able to sustain the loan growth. I think our projection for the year was (multiple speakers) 16 percent --.

Year-over-year, and we believe we will exceed that.

And what about the (inaudible) one to four family mortgage loans for the second quarter?

Those balances were up slightly for the quarter. Martin, some of that is just that they are loans that were building for sale that will go to the secondary market early in July. But we also had with rates ticking up some, we had some growth in portfolio loans that are adjustable rate loans.

And you see for the second quarter most of the originations in this group is adjustable or --?

We sold about 60 percent of our originations in the second quarter. That is off from where in the refinance boom we were selling about 90 percent of our originations. The difference there are primarily adjustable rate loans that we are keeping in our portfolio.

I see. And on the other side of the balance sheet, what is the sort of projections you will feel on the deposit rate in the second quarter and fourth quarter because I know -- I'm sorry -- in the third quarter and the fourth because I know in the second quarter you guys rate actually dropped a little bit.

We had projected that we grow deposits about 11 percent for the year, and we have reduced that estimate by $5 million. I didn't go back to calculate what that new percentage is, however.

What about the rate of those deposits going forward for the next say two quarters? Do you feel like increase the pressure to increase the rate? (multiple speakers) Faster than you originally projected?

We're definitely seeing more pricing pressure on the deposit side throughout our market area, Martin. It probably is going to be -- we did actually state that there would be some increased pricing pressure throughout this year, and we are certainly realizing that right now. I don't think that it's going to be substantially -- we are not projecting it substantially higher than what we had originally forecast, no.

Okay, and lastly your balance sheet position is still neutral?

Yes, for the most part. We slightly benefit from rising rates.

Okay, all right. Thank you, guys.

(OPERATOR INSTRUCTIONS) At this time there are no further questions.

If there are no further questions we thank you very much for joining us, and encourage you to contact us at any time with questions. And we now complete the call. Thank you.

Thank you all for participating in today's First Defiance second-quarter 2004 earnings conference call. You may now disconnect.