Premier Financial Corp.

Tera Murphy - Investor Relations Don Hileman - President, Chief Executive Officer Kevin Thompson - Chief Financial Officer, Executive Vice President

Damon DelMonte - KBW Daniel Cardenas - Raymond James

Thank you. Good morning, everyone, and thank you for joining us for today’s 2014 fourth quarter earnings and year end conference call.

This call is also being webcast, and the audio replay will be available at the First Defiance website at fdef.com. Providing commentary this morning will be Don Hileman, President and CEO of First Defiance; and Kevin Thompson, Executive Vice President and Chief Financial Officer.

Following their prepared comments on the company's strategy and performance, they will be available to take your questions. Before we begin, I would like to remind you that during the conference call today, including during the question-and-answer period, you may hear forward-looking statements related to future financial results and business operations for First Defiance Financial Corp.

Actual results may differ materially from current management forecasts and projections as a result of factors over which the company has no control. Information on these risk factors and additional information on forward-looking statements are included in the news release and in the company's reports on file with the Securities and Exchange Commission.

Now, I will turn the call over to Mr. Hileman for his comments.

Good morning. Welcome to the First Defiance Financial Corporation fourth quarter full year 2014 conference call.

Last night, we issued our 2014 quarter earnings release, and now we would like to discuss that release and give you a look into 2015. At the conclusion of our remarks, we will answer any questions you might have.

Joining me on the call this morning to give more detail on the financial performance for the fourth quarter and full year is our CFO, Kevin Thompson. We are very pleased with our fourth quarter and the full-year performance both, overall and on a core basis.

2014 was the third consecutive year of record earnings reflecting a 9% improvement over 2013. Fourth quarter 2014 net income on a GAAP basis was $5.8 million, $0.59 per diluted common share compared to $5.1 million and $0.50 per diluted common share in the fourth quarter of '13.

For the year ended December 31, 2014, First Defiance earned $23.7 million or $2.38 per common share $22.2 million or $2.19 per diluted common share for '13. Our overall performance this quarter was very solid with continued improvement in core operating results we fortified by the year-over-year and linked quarter loan growth.

Our ability to grow our loan portfolio is a very important piece of our strategic plan. We expect a more consistent contribution from our Columbus, Ohio loan production office and the Fort Wayne, Indiana market as we increase the number of lenders in those markets to expand our growth opportunities.

To continue loan portfolio growth contributed to the improving earning asset mix, increasing our net interest margin and net interest income. The growth in both, our net interest income and non-interest income revenues, on a quarterly basis, reflects contributions from our core business strategies over the third quarter of 2014 and over 2013.

We are also pleased with our strong net interest income growth this quarter of 6% over the fourth quarter of 2013. Competitive loan rate environment remains very challenging as the industry focuses on growth.

We expect the interest rate environment to be relatively stable at the current levels in the short-term, but we do see momentum building for the market increases as the Federal Reserve settles into their position. In addition, the deposit side of the balance sheet continued to show strong growth, driven by non-interest bearing and interest bearing demand accounts over the last year.

On a linked quarter basis, we were able to increase our margin just 3.76% from 3.73% and an increase over 3.61% in the fourth quarter of 2013. We are very pleased with this quarterly improvement.

Non-interest income showed growth both, on the GAAP and core operating basis over the fourth quarter of 2013. We are seeing the results of these strategic initiatives put into place in the first half of the year.

We experienced an increase in insurance revenues on both, the full year-over-year and a linked-quarter basis. Interest income was also up on both, a full year and a linked-quarter basis.

Service fees and other charges also displayed a positive growth pattern. We were pleased to see the reversal of a trend in mortgage loan production on a competitive basis with the fourth quarter of 2014 showing a 12% increase over the fourth quarter of 2013.

Total non-interest expense increased $981,000 from the fourth quarter of 2013, an increase on a linked-quarter basis. The credit quality metric showed continued overall improvement this quarter from a year ago.

Non-performing assets declined approximately $3.4 million or 10% year-over-year. Non-performing loans decreased approximately $3.8 million or 13% year-over-year to $24 million, approximately 67% of the non-performing loans continue to make payments.

While the non-accrual loans ticked up slightly this quarter, we expect the trend over the next year to show improvement and be reflected by improving non-performing asset ratios. We are pleased with the declined from a year ago and the level of 30 day 89-day delinquencies to 0.18%.

Loan for the fourth quarter of 2014 compared to 0.20% of loans in the fourth quarter of 2013. Non-performing and classified assets levels were the main areas of focus to ensure additional declines in the future.

Regarding our capital management plans, our stock buyback program continued in the fourth quarter, with a repurchasing of 135,000 shares. We are also pleased to announce the first quarter of 2015 dividend of $1.17 per share representing an annual dividend yield of approximately 2.1%, our ongoing strong performance in capital to support this utilization of capital.

I will now ask Kevin Thompson to provide additional financial details for the quarter before I conclude with an overview, Kevin.

Thank you, Don. Good morning everyone.

As Don stated, net income for the fourth quarter was $5.8 million or $0.59 per diluted share. This compares to prior year results of by $5.1 million or $0.50 in the fourth quarter of 2013.

Fourth quarter this year did not include any significant non-recurring- type items while last year's fourth quarter was lowered by realized losses on collateralized debt obligations totaled $219,000 after-tax or $0.02 per share. Those obligations were sold in January of 2014.

Even adjusting for last year losses it is clear to see substantial improvement in fourth-quarter earnings versus last year, with EPS up $0.09 or 18%, overall and $0.07 or 14% adjusting for those losses. We are very pleased with the continued momentum of our overall performance results for the fourth quarter and particularly as we look ahead to 2015.

Loan and deposit growth were both positive. We maintained our improved earning asset mix and increased both, our net interest margin and net interest income.

Non-interest revenues reflect solid growth on a core basis from a year ago and credit quality remains much improved from a year ago. While operating expenses have increased to support our growth strategies, our results reflect positive operating leverage as part of our earnings improvement.

Looking at the details of income statement, our net interest income was $18.1 million for the fourth quarter of 2014 up from $17.7 million and the linked-quarter and up over $1 million from the $17 million in the fourth quarter last year. For the fourth quarter of 2014, our margin was 3.76%, up three basis points from last quarter and up 15 basis points from 3.61% in the fourth quarter last year.

Our earning asset mix and margin have shown considerable improvement over the course of the year. Growth in loans and securities has reduced our excess liquidity position benefiting both the margin and earnings.

Our yield on earning assets was up 12 basis points from the fourth quarter last year and up 3 basis points on a linked-quarter basis. Our cost of interest-bearing liabilities was down four basis points from a year ago and only one basis point on a linked-quarter basis.

Total new loans originated in the fourth quarter were put on at a weighted average of 4.34% that is an increase from 4.12% in the third quarter of 2014. Our loan portfolio yield in the fourth quarter of 2014 of 4.38%, increased by two basis points on the linked-quarter basis.

We still look to improve our earning asset mix through additional loan and investment growth going forward and anticipate our margin to respond accordingly. Total non-interest income was $7.3 million in the fourth quarter of 2014, down from $9.4 million in the linked-quarter, which was positively impacted by several significant gains which totaled about $1.9 million, but up from $6.5 million in the fourth quarter of 2013, which again, was negatively impacted by realized losses, some collateralized debt obligations which totaled about $337,000 pre-tax.

On a core basis for major categories of non-interest income except mortgage banking increased over the fourth quarter last year. Overall mortgage banking income for the fourth quarter of 2014 was $1.3 million, which was down $275,000 from the linked-quarter, but down only $54,000 from the fourth quarter of 2013.

The fourth quarter mortgage banking originations were $43.8 million compared to $52.2 million last quarter and $43 million in the fourth quarter of 2013. Gain on sale income was $734,000 in the fourth quarter of 2014 compared to $973,000 on a linked-quarter basis and $756,000 in the fourth quarter last year.

At December 31, 2014, First Defiance had $1.4 billion in loans serviced for others. The mortgage servicing rights associated with those loans had a fair value of $9 million or 70 basis points of the outstanding balance of serviced and total impairment reserves, which are available to recapture in future periods totaled $911,000 at quarter end.

Service fee income reflecting some fee and product design changes initiated last quarter was $2.8 million in the fourth quarter of 2014, an increase from $2.7 million in the linked-quarter and from $2.5 million in the fourth quarter of 2013. Insurance revenue was nearly $2.2 million in the fourth quarter of 2014, up from $2.1 million in the fourth quarter of 2013.

Also, our trust income, while a smaller component of revenue continues to show significant growth from a year ago, totaling $345,000 in the fourth quarter up 26% from $274,000 in the fourth quarter last year. As for non-interest expense, fourth quarter expenses totaled $17 million, up from $16.8 million in the linked quarter and $16 million in the fourth quarter of 2013.

The increase was primarily in compensation and benefits expense, which in the fourth quarter was up $765,000 from last year, mainly due to merit increases, higher health and life insurance costs as well as some staffing additions for our Columbus, Ohio, loan production office and the new Fort Wayne, Indiana branch opened in August. Regarding provision expense, the fourth quarter 2014 totaled $162,000 compared to $406,000 last quarter and $475,000 in the fourth quarter last year.

The fourth quarter of 2014 included net recoveries of one basis point, compared with net charge-offs of 12 basis points last quarter and net charge-offs of 39 basis points in the fourth quarter a year ago. Our allowance for loan loss at December 31, 2014 was $24.8 million or 1.50% of total loans versus $25 million or 1.58% at December 31st last year.

The change reflects the credit quality improvements achieved during the past year such that the allowance coverage of non-performing loans has increased to 103% at year-end, up from 90% at December 31, 2013. We expect our reserve-to-loans percentage to continue to track favorably with ongoing asset quality improvement.

As for the asset quality numbers, non-performing loans increased slightly this quarter to $24.1 million from $22.5 million on a linked-quarter basis, but was down 13.3% from $27.8 million at December 31, 2013. Our OREO balance increased to $6.2 million from $5.9 million in the fourth quarter last year.

Overall, non-performing assets ended the year at $30.3 million or 1.39% of total assets, down from 1.58% of total assets at December 31, 2013. Total classified loans of $47.3 million at December 31, 2014, has declined considerably from the $55.6 million at December 31, 2013.

Moving to the balance sheet, total assets were $2.18 billion at December 31, 2014, up $27.9 million from last quarter end and up $41.8 million from last year end. Gross loan balances increased $10.5 million during the quarter and are now up $66.3 million or 4.2% year-over-year.

Securities increased $41.1 million from a year ago, while cash and equivalents declined $66.4 million. The continued loan growth this past quarter added to our improved earning asset mix and our loan growth outlook remains very positive.

Total deposits of $1.76 billion at year-end reflect an increase of $25 million from a year ago and were up $30.2 million on a linked-quarter basis. Non-interest-bearing deposits have increased to $379.6 million at December 31, 2014 from $348.9 million at December 31, 2013.

We are still very pleased with our ability to generate and maintain a solid low-cost core deposit base. Looking at our capital position, total period end stockholders' equity finished December 31, 2014 at $279 million, up from $272.1 million at December 31, 2013.

Our capital position remains strong with period end shareholders' equity at 12.8% this year compared to 12.73% last year. With the bank's total risk-based capital at approximately 14.5%, our healthy capital position continues to provide us the opportunities to pursue our growth strategies as well as enhance shareholder value through dividends and share repurchases as Don mentioned.

Finally, regarding our record full-year results for 2014, net income was $23.7 million or $2.38 per diluted share versus $22.2 million or $2.19 per diluted share for the year 2013. That is an increase of $0.19 per share.

This year's results have benefited from non-recurring type items of about $0.12 per share year-to-date. That is about $0.14 per share from the last quarter from mostly tax-free gains about $0.03 per share in the second quarter, some securities gains while the first quarter included a one-time merger termination charge, which cost us $0.05 per share.

Last year's results were negatively impacted by the net securities losses I discussed earlier of about $0.02 per share. In addition, when you consider our 2014 results also include overcoming a significant decline in mortgage banking income of about $1.8 million or about $0.18 per share.

With the exclusion of mortgage banking, the decline there and the non-recurring items, earnings grew about $0.23 per share, so we are very pleased with our core earnings growth and the momentum we are bringing into the New Year. That completes my financial review and now I will turn the call back over to Don.

Thank you, Kevin. I am very delighted with the progress we have made over the course of the year and the position of First Defiance at the end of 2014 [ph] on 2015.

Benefits of our non-interest income initiatives and pricing and account bundling changes are being realized with each statement. We expect that to build throughout 2015.

As stated previously, the company has focused on several areas to improve financial performance and help drive greater shareholder value. These include core balance sheet growth with a focus on loan growth, revenue growth, expense control and improved asset quality.

We believe we are making progress in these areas. The fourth quarter expense level was higher than we expect going forward and we look to leverage the quarter spend for infrastructure and compliance costs that occurred in 2014.

We do believe loan demand will continue improving in 2015 aided by further improvement in the economic environment in addition of commercialization in 2015. The size of our current pipeline reflects increasing confidence of our ability to grow our outstandings.

The lending environment remains very competitive, but we feel we can grow our business without making significant concessions in rate and other terms. Our average loan yield increased three basis points on a linked-quarter basis, reflecting change in that overall trend.

It is important to maintain our disciplined underwriting during this period and continue our unwillingness to compromise our standards to achieve this loan portfolio growth. In addition, our business banking initiative is now in full stride and we expect more activity in 2015 from this segment.

Our business bankers in each of our markets are 100% dedicated to this new opportunity and production volumes are expected to build each quarter. We also saw additional balances looked as result of the activity from our Columbus, Ohio loan production office and we anticipate their further contribution to loan growth in 2015 as additional lenders join this office to capitalize on that strong market and opportunities.

Regarding our non-interest revenue initiatives, the third quarter changes in our fee schedule and product designs based on relationships and fees for services used are starting to help offset changes in customer use patterns that reduced NSF fee income and contribute to the overall growth and service fee income. We are continuously looking to enhance our electronic and mobile banking capabilities to give our customers more choices on how they access our products and services.

We introduced Mobile Deposit early in 2014 and are launching online account opening to the public in the very near future. The digital delivery environment is changing at a very rapid pace and we need to keep pace.

Growth in our insurance and wealth management revenues was also reflected in our quarterly results and will remain in our plan for revenue growth. While organic wealth is our primary focus, we are continuously looking for strategic acquisition opportunities.

We are very inspired by our recent performance and look to continuously driving the initiatives we believe will equate to results that will help us obtain our goal of being consistently high-performing community bank we work hard to be every day. We remain confident in our strategy and people working hard to execute our plans and evaluating new initiatives to enhance our overall strategy.

We feel good about our performance in 2014 and look forward to 2015. We are committed to all of our customers and shareholders and appreciate the trust you have placed in us as we work to make First Defiance a high-performing community bank organization.

Thank you for your interest in First Defiance Corp, and we thank you for joining us this morning. We will now be happy to take your questions.

Hi. Good morning guys.

How are you?

Good morning, Damon.

My first question, just wanted to touch on the margin and any outlook going forward? Obviously a nice quarter with three-basis point increase over last quarter.

How are you viewing the margin kind of as we to go into 2015, with the 10 year staying below that 2% threshold?

Certainly the persistence of the curve staying low and flatness of it is a bit of a challenge. As you heard our result here for the fourth quarter though, we remain pretty disciplined in our pricing.

Although it gets pretty competitive, certainly with some of those pressures, we think we can continue to maintain a pretty strong pricing in our loan book and continue to our mix favorably. We think, we still have a fair amount of liquidity on the asset side of our balance sheet that should support our ability to maintain and possibly improve our margin as we go through 2015.

That is our outlook at this time.

Okay. Within your outlook in your internal forecasting model that you are factoring in credit rate hikes as the year progresses?

We, at this time, are thinking that is going to move the Fed funds rate sometime probably in the third quarter and we still have an interest rate risk position that is asset-sensitive, so -out we don't see any looming near-term issues from that kind of timing that we anticipate from the Fed.

Okay. Great.

Then with regards to the operations in Columbus, Ohio market and Fort Wayne, Indiana, can you just talk a bit about some of the market opportunities that you think you guys have going forward. Are those areas where you would look to build a bigger physical presence or do you think what you have now is adequate?

The opportunities, those are both markets and particularly the Columbus market that the economic environment and the growth opportunities are lot stronger than a lot of our other areas where we have offices. I think we are pretty well satisfied with initially here our loan production office strategy.

We are hiring new lenders in both of those markets to take advantage of, as I said the opportunities, and we are seeing more development we are not shying away from commercial real estate and we think that that is a good opportunity, but we are very disciplined in our underwriting on those kinds of deals. We think we expect to see some growth in commercial real estate lending in both of those areas as we go forward and more likely we will keep loan production office strategy.

We think that is where we are focused right now and feel that the other offices and branches that we have can be deposit generating facility for the corporation.

Okay. Are you gathering deposits in those markets as well as or is this more of a pure loan production?

It is pure loan production.

Pure loan production? Okay.

Then could you just give us an update on your thoughts on M&A. Would you say that you have seen increased dialogue in the last quarter?

Are you optimistic that you could potentially find the right transaction in 2015?

We have seen a lot of dialogue. We expect that to continue.

I think know we are going to be very patient and very direct and looking for the right type of transaction and we are going to be more opportunistic than we are. Anything else I think on the M&A front, so we do not have any specific timeline or expectations relative to time.

We just want to make sure it is a right bet. We have place a lot of importance on the culture and making sure that it is the right culture, we are just doing a transaction, so we are going to spend a lot of time and make sure we get the right fit.

As far as the size of a bank that you would go after $500 million or so kind of the sweet spot and on the high end of the range something upwards to $1 billion in assets?

I think we are still consistent with our thinking.

Okay. As my final question and you may have said this, but I missed it, what was the origination volume for mortgage banking next quarter?

Business banking?

$43.8 million? Okay.

That is all I had for now. Thank you very much.

Great.

Thanks, Damon.

Good morning guys.

Good morning, Dan.

Could you give me the footings for the loan footings for the Columbus and the Fort Wayne market? What were your balances at year-end?

Columbus, I know was about $20 million. Fort Wayne, I am not sure I have that number at hand.

It is lot higher than that. We think when we talk about the opportunities, a lot of it has to do with the economic environment and we are seeing a lot more lending opportunities in those areas.

That is why I think for us the greatest growth opportunity.

Then in terms of just jumping over to capital real quickly in terms of your buyback, what is left in your program and would you guys be willing re-up [ph] once that program is completed?

There is about 300,000 shares left in the current authorization. Every time we completed authorization, we will reexamine that, but that we certainly are interested in maintaining a strong capital management program going forward.

What do you kind of see if you look at the TCU [ph] ratio, I mean, where you kind of see that see is at a point that you won't cross the line that you won't cross on your tangible common equity ratio?

It is pretty different from where we are right now.

Right.

…but probably 8%, but I don't think that is an imminent issue based on existing strategies.

Okay. Then just last question here looking at your NPA, the sequential quarter increase, was that just one credit that drove that number up?

It is primarily one credit. I think it was about $2.2 million, one credit that was a late fourth quarter add…

…credit?

Yes. We still feel pretty comfortable with that level that there will be trending downward as I said in my comments.

We wish everything was linear, but it is kind of a little bit up and down.

Okay. Great.

Just some turbulence. Okay?

Yes.

Great. Thanks guys.

Thank you.