2010 Message to Shareholders
Shareholder Information / 5 Year Financial Summary / Message to Shareholders

Dear Shareholder:

Although we recently reported a profitable fourth quarter, we had a loss of $1,268,000 or $.16 per share for the year 2010. Issues related to the economy have dragged our earnings down throughout the last three years. Below is a per share apples-to-apples comparison of items significant to our results during those years:

2010
2009
2008*
Earnings Before Economic Issues
$2.39
$2.36
$1.89
 
Provision for Loan Losses
2.33
1.73
1.06
FDIC Insurance Premiums
0.19
0.26
0.01
Collection and Repossession Expenses
0.20
0.19
0.08
Investment Security Impairment
0.07
0.19
0.08
Total Economic Issues
2.80
2.37
1.23
 
Taxes
0.24
0.03
(0.18)
Net Income
$(0.16)
$0.02
$0.48

We remain very pleased with the core operations and the earnings capacity of the company as reflected above in the Earnings Before Economic Issues. And, as we continue to report, the strength in our core earnings comes from our strong net interest margin. Based on the September 30, 2010 Bank Holding Company Performance Report (the latest published information) provided by the Federal Reserve, our net interest margin was 4.10%. The percentage for our peer group was 3.66%. Our strong interest margin has made a considerable difference in our ability to weather the downturn.

While economists tell us that, statistically, the recession is over, there will be lingering effects as our markets adapt to the trauma of the last three years. Continuing, higher than normal unemployment, along with the soft real estate market will dampen dramatic recovery. Because of this, we will continue our short term focus on Capital, Liquidity, Asset Quality, and the adequacy of our Reserve for Loan Losses to deal with asset quality issues.

Capital

Simplified for non-accountants, the capital of the company consists of the original investment by shareholders plus all of the accumulated earnings over the years less dividends paid. By all applicable standards, the bank is well capitalized. And while there are no standards for the parent company, it too would be classed as well capitalized if bank measures are used. In our October 2010 letter to shareholders, we mentioned that regulatory capital requirements were changing. The new requirements are being phased in over a number of years. While the standards currently proposed would raise capital requirements above the present level, we believe that we will have the ability to remain within the “well capitalized” range as the requirements increase. Our ability to do this may be subject to a number of conditions, such as continued improvement in the economy and a return to sustained profitability. To rely upon earnings to meet the new standards will also require a balance between earnings retained as increased capital and earnings paid out in the form of dividends. We hope to achieve this balance, which would improve the book value of your stock because of the earnings retained as capital and yet provide a cash dividend that we know our shareholders have been patiently awaiting.

In 2009 we supplemented our capital position using the U.S. Treasury’s Capital Purchase Program. The $23,000,000 in preferred stock purchased by the Treasury bolstered our capital in light of the very uncertain times. However, this program, which was part of the original TARP legislation, has become socially and politically tainted. In view of the stabilizing signs in our economy, we are examining avenues to end our involvement in the Capital Purchase Program. There are a number of short and long term considerations that enter any decision as to how this would be done. Fundamental to our consideration of the alternatives is our desire to avoid capital raising efforts that would seriously undermine or dilute the book value of our stock. We are sensitive to the potential harm to our shareholders.

Liquidity

Liquidity is now less of a concern than it has been over the last two years. One reason is that our deposits have increased. On December 31, 2010, our deposits totaled over $892,000,000, an increase from the 2009 year-end balance of $856,000,000 and the 2008 year-end balance of $810,000,000. In addition to deposit growth, we maintain additional operational sources of liquidity, which on December 31, 2010 totaled approximately $244,000,000. These are readily available funds that we can use to make loans or investments. (And, to respond to an often asked question, we cannot use deposits or other liquidity sources to repurchase the CPP preferred stock.) Although we are enjoying deposit growth and deposits are our raw material, loan demand has become soft. Our total loans outstanding have decreased from $790,818,000 as of the end of 2009 to $767,323,000 at the end of 2010. People are saving money and paying down debt. While this may improve the liquidity of a bank, it will put pressure on the bank’s margin, as it cannot put its funds to work in higher yielding loans and it has limited profitable and safe fixed income investment alternatives right now. This is a temporary issue which occurs with the ebb and flow of the economy. In time, as the economy improves and businesses see opportunities to expand, loan demand should increase.

Asset Quality

Asset quality had the greatest impact on our performance in 2010. During the year 2010, we charged $12,651,000 to the reserve for loan losses. This compares to $8,051,000 charged to the reserve in 2009. The amount charged to the reserve represents the total of the loans that were completely written off and the amount of the write-downs to loans on our books to recognize deterioration in the value of the loan collateral or to reduce the loan balance in an effort to salvage the loan. As we commented last year and as can be seen in the recap below, the losses are spread throughout the portfolio:

 
12/31/2010
2010
Loan Type
Balances
Charge-offs
Commercial and Agriculture
$84,913,000
$2,710,000
Commercial Real Estate
336,251,000
4,653,000
Residential Real Estate
295,038,000
4,029,000
Real Estate Construction
39,341,000
799,000
Consumer and Other
11,780,000 
460,000 
Total
$767,323,000
$12,651,000

We have individual customers who have lost their jobs or are underemployed and just cannot make it. We also have businesses that have struggled through the downturn, have exhausted their resources and are unable to continue. While we experienced historic loan losses in 2010, the trend has improved regarding the total loans that are either past due or are not accruing interest for us because of doubtful performance. At year-end 2010, these loans represented 4.27% of our total loans. This was an improvement from 4.63% at the end of 2009 and 4.88% at the end of 2008. We are hopeful that this trend will continue and have dedicated significant resources to monitoring loans, collecting loans, and restructuring challenged loans. We have also dedicated resources to managing the real estate and other collateral obtained through foreclosure or repossession. While this is the option of last resort, we must properly manage these situations to limit our overall loss.

Reserve for Loan Losses

During 2010, we placed $17,940,000 from earnings into the reserve for loan losses. During the same period (as discussed above) we charged off $12,651,000 from the reserve. At the end of the year, the balance in the reserve for loan losses was $21,768,000. This represents the accumulated amount that we believe may be necessary to cover potential losses. The total amount maintained in the reserve is determined as a result of an analytical process that involves senior management, senior lending officers, and senior credit officers. In 2010, we noticed that a number of banks took money out of their reserves, which increased their earnings by the amount taken out. While this certainly provides a one-time boost to earnings, we prefer to take a conservative approach in an effort to assure that our reserves are sufficient. We are comfortable with our process, which has been reviewed by our regulators and outside auditors. We will continue to take a prudent and conservative approach to maintaining reserves.

Outlook For 2011

We believe that the local economy is stabilizing in our markets. Unemployment is historically high, but it appears to be gradually decreasing. Many of our business customers, particularly those involved in manufacturing, have seen a dramatic improvement in their operations. Most of our farming customers continue to enjoy strong results. Unfortunately, construction and development appear quite soft in most of our markets, and construction and development are key to a quick robust recovery. While the road to recovery may be long and may not be straight, we don’t envision further broad deterioration.

Even though the demand for loans is currently soft, we are selectively adding experienced lenders to our staff. As business indicators stabilize and improve, we expect increasing opportunities to increase loan volume. This seems to be occurring in our more metropolitan markets such as Dublin, Hilliard, and Fairlawn (Akron), and we anticipate that demand will increase in our other markets as conditions improve.

We are also introducing new products, such as account access through a customer’s smart phone. More and more customers are using electronic services and are looking for this type of product. During 2011, we will continue to encourage our customers to utilize the services that we offer electronically, including access to their checking and savings account statements by email. Currently 7% of our customers use this service, but increased use would significantly decrease our postage and handling costs.

Finally, we continue to be alert for opportunities to expand. The increasing costs of regulation that disproportionally impact smaller institutions, the difficulty in attracting experienced staff in smaller communities, and the strain of managing through the economic downturn may cause many smaller institutions to look for partners. We believe we are in a position to take advantage of potential opportunities, if they will benefit our shareholders.

Managing a banking institution during the last three years has been a mix of experiences- interesting, exciting, troubling, and educational - all at the same time. It reminds one of the old Chinese curse, “May you live in interesting times.” On behalf of management and the board I want to thank you, the shareholder, for your very strong support and encouragement. Your support has made it much easier to face the challenges of these interesting times.

Very truly yours,

James O. Miller
President & CEO

*This comparison is based on a consistent number of 7,707,917 shares outstanding and excludes the 2008 non cash write down of goodwill which was $5.62 per share.

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